BUAD 301 Chapters 1-4

Accounting provides useful information about economic activity to help:

• Produce good decisions

• Foster a prosperous society

External users:

• Investors

• Creditors

• Other external users

Investors and creditors use different kinds of information:

• To predict the future risk and potential reutrn of investments or loans

• before supplying capital to businesses

Financial information

Conveyed through financial statements and related disclosure notes

Financial Statements:

• Balance Sheet

• Income Statement

• Statement of Cash Flows

• Statement of Shareholders’ Equity

Capital Markets

Provide a mechanism to help the economy allocate resources efficiently

Corporation

The dominant form of business organization

Corporations acquire capital from:

• Investors in exchange for ownership interest

• Creditors by borrowing

Primary objective of financial accounting:

• To be useful for decision making

• To help investors and creditos evaluate the characteristics of the enterprise’s future cash receipts and disbursements

Characteristics of the enterprise’s future cash receipts and disbursements

• Amounts

• Timing

• Uncertainty

Cash Basis Accounting

Measurement of cash receipts and cash payments from transactions related to providing goods and services

Accrual Basis Accounting

Measurement of revenues and expenses, regardless of when cash is received or paid

FASB Accounting Standards Codification Topics

• General Principles

• Presentation

• Assets

• Liabilities

• Equity

• Revenues

• Expenses

• Broad Transactions

• Industry

Role of an Auditor

• Offer credibility to financial statements

• Express an opinion on the compliance on financial statements with GAAP

• Licensed by states to provide audit services - CPA

Ethics

Deals with the ability to distinguish right from wrong

Code of Ethics/Code of Professional Conduct are provided by:

• American Institute of Certified Public Accountants (AICPA)

• Institute of Management Accountants (IMA)

• Institute of Internal Auditors (IIA)

4 Basic assump[tions that underlie GAAP

• Economic Entity

• Going Concern

• Periodicity

• Monetary Unit

Economic Entity Assumption

Presumes that economic events can be identified specifically with an economic entity

Going Concern Assumption

Anticipates that a business entity will continue to operate indefinitely

Periodicity Assumption

Allows the life of a company to be divided into artificial time periods to provide timely information

Monetary Unit Assumption

Used in US financial statements is the US dollar

Recognition

The process of admitting information into the financial statements

Measurement

The process of associating numerical amounts with the elements

Disclosure

The process of including pertinent information in the financial statements and accompanying notes

General Recognition Criteria

• Definition

• Measureability

• Faithful representation

Revenue Recognition

Companies recognize revenue when goods or services are transferred to customers for the amount the company expects to be entitled to recieve in exchange for those goods or services

5 Mixed Attributes of GAAP

• Historical cost

• Net realizable value

• Current cost

• Present value

• Fair value

Historical Cost

Bases measurements on the amount given or recieved in the exchange transaction

Net Realizeable Value

• Estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation

• Net amount of cash into which an asset or liability is expected to be converted in the ordinary course of business

Current Cost

• Cost that would be incurred to purchase or reproduce the asset

• Reported if the company operates in inflationary economies

Present Value

• Framework for using future cash flows as the basis for accounting measurement

• Indicates that the objective in valuing an asset or liability using present value is to approximate its fair value

Fair Value

Bases measurements on the price that would be recieved to sell assets or paid to transfer liabilities in an orderly market transaction

Fair value is measured using:

• Market Approach

• Income Approach

• Cost Approach

Full-Disclosure Principle

The financial reports should include any information that could affect the decisions made by external users

Economic Events

Cause changes in the financial position of the company

• External Events

• Internal Events

External Events

Involve an exchange transaction with another entity

Internal Events

Do not involve an exchange transaction with other entity

Shareholders’ Equity

• Paid-in Capital

• Retained Earnings

Double-entry System

Refers to the dual effect that each transaction has on the accounting equation

Debits and Credits

Terms used to signify an increase or decrease to an account balance

General Ledger

Collection of accounts

T-accounts

Used for instructional purposes instead of formal ledger accounts

Steps of the Accounting Cycle

1. Obtain information about external transactions from source documents

2. Analyze the transaction

3. Record the transaction in a journal

4. Post from the journal to the general ledger accounts

5. Prepare an unadjusted trial balance

6. Record adjusting entries and post to the general ledger accounts

7. Prepare an adjusted trial balance

8. Prepare financial statements

9. Close the temporary accounts to retained earnings

10. Prepare a post-closing trial balance

Balance Sheet

• Reports a company’s financial position at a point in time

• Provides an organizef list of assets, liabilities, and equity

Current Assets

• Cash and equivalents

• Short-term investments

• Accounts Recievable

• Inventories

• Prepaid expenses and other current assets

Long-term Assets

• Property and Equipment

• Operating lease right of use assets

• Identifiable intangible assets

• Goodwill

• Deffered income taxes and other assets

Current Liabilities

• Notes Payable

• Accounts Payable

• Current portion of operating lease liabilities

• Accrued liabilities

• Income taxes payable

Long-term Liabilities

• Operating lease liabilities

• Deferred income taxes and other liabilites

Shareholders’ Equity

• Common Stock

• Additional Paid-in Capital

• Retained Earnings

• Accumulated other comprehensive income

Grouping provides information about

• Liquidity

• Long-term solvency

Liquidity

The ability of a company to convert its assets to cash

Long-term Solvency

Whether a company will be able to pay all its liabilities

Financial Flexibility

The ability of a company to alter cash flows in order to take advantage of unexpected investment opportunities and needs

Balance Sheet does not equal the company’s market value because

• Many assets are measured at their historical costs

• Valuable resources are not recorded as assets and therefore have 0 book value

Annual Report includes:

• Financial Statements

• Additional disclosures

Management’s Responsibilities

Prepares and is responsible for financial statements and other information in the annual report

4 Types of Auditors’ Reports

• Unqualified

• Unqualified with an explanatory or emphasis paragraph

• Qualified

• Adverse or disclaimer

Income Statement

Reports a company’s profit during a particular reporting period

Comprehensive Income

Includes a few types of gains and losses excluded form the Income Statement

Statement of Cash Flows

Provides information about cash receipts and cash payments

Mandated changes in accounting principles

• Retrospective Approach

• Modified retrospective approach

• Prospective approach

FASB

• Financial Accounting Standards Board

• Established to set US accounting standards

• Supported by Financial Accounting Foundation

• Seven full-time members

EITF

• Emerging Issues Task Force

• Identifies financial reporting issues and attempts to resolve them without involving the FASB

  • Primarily addresses implementation issues

  • Speeding up the standard-setting process

• EITF rulings are ratified by the FASB and are considered part of GAAP

GASB

• Govcernment Accounting Standards Board

• Develop accounting standards for governmental units such as states and cities

IASB

• International Accounting Standards Board

• To develop s single set of high-qualitiy, understandable, and enforceable global accounting standards

Cost Approach

Estimates the amount that would be required to buy or construct an asset of similar quality and condition

Income Approach

Estimates future aounts and then mathematically converts those amounts to a single present value

Market Approach

Valuation based on market information