Business Decisions and Financial Accounting

The percentage distribution of different organizational forms in the U.S. is as follows:
- Sole Proprietorships: 72\%
- Corporations: 18\%
- Partnerships: 6\%
- Limited Liability Companies: 4\%

Definition: Accounting is a systematic process involving the analysis, recording, summarizing, and reporting of a business's operational results.
Purpose of Accounting Reports:
- External Users (Financial Accounting): These reports are used by outside parties such as creditors, investors, and regulatory bodies to evaluate the company's financial health and performance.
- Internal Users (Managerial Accounting): These reports are utilized by internal personnel like managers and supervisors to monitor and manage the company's day-to-day operations and strategic decisions.

Main Goal: To furnish external users with pertinent financial data that aids their decision-making processes.
Qualitative Characteristics: For financial information to be useful, it must possess the following qualities:
- Relevant: Information is relevant if it can influence the economic decisions of users.
- Faithful Representation: Information must accurately depict the economic phenomena it purports to represent.
- Timely: Information should be available to decision-makers in time to be capable of influencing their decisions.
- Verifiable: Different knowledgeable and independent observers could reach consensus that a particular depiction is a faithful representation.
- Comparable: Users can identify and understand similarities and differences among items.
- Understandable: Information is classified, characterized, and presented clearly and concisely, making it comprehensible to users who have a reasonable knowledge of business and economic activities.

This fundamental equation represents the structure of a company's financial position:
\text{Assets} = \text{Liabilities} + \text{Stockholders' Equity}
Components:
- Assets: These are the resources owned by the company, which carry future economic benefits (e.g., cash, accounts receivable, land, equipment).
- Liabilities: These represent the company's obligations or resources owed to external creditors (e.g., accounts payable, salaries payable).
- Stockholders' Equity: This signifies the owners' claim on the company's assets after all liabilities have been satisfied. It represents the resources owed to the stockholders.

The profitability of a business is determined by subtracting expenses from revenues:
\text{Revenues} - \text{Expenses} = \text{Net Income}
Definitions:
- Revenues: Inflows of assets or reductions of liabilities from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major or central operations.
- Expenses: Outflows of assets or incurrences of liabilities (or a combination of both) from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity's ongoing major or central operations.
- Net Income: The excess of revenues over expenses during a period, representing the company's profit.

Definition: Dividends are distributions made by a company from its accumulated earnings to its stockholders. They represent a return on the stockholders' investment in the company.

Companies prepare a set of financial statements to report their financial performance and position. These include:
1. Income Statement
2. Statement of Retained Earnings
3. Balance Sheet
4. Statement of Cash Flows

Purpose: Reports the company's financial performance (revenues, expenses, and net income) over a specific accounting period.
Example (For the Year Ending December 31, 20X9):
- Revenues:
  - Services to customers: \$750,000
  - Interest revenue: \$15,000
  - Total revenues: \$765,000
- Expenses:
  - Salaries: \$235,000
  - Rent: \$115,000
  - Other operating expenses: \$300,000
  - Total expenses: \$650,000
- Net income: \$115,000

Purpose: Shows how the balance of retained earnings changed over an accounting period due to net income and dividends.
Example (For the Year Ending December 31, 20X9):
- Retained earnings - January 1, 20X9: \$400,000
- Plus: Net income: \$115,000
- Subtotal: \$515,000
- Less: Dividends: \$35,000
- Retained earnings - December 31, 20X9: \$480,000

Purpose: Presents a snapshot of the company's financial position (assets, liabilities, and stockholders' equity) at a specific point in time.
Example (December 31, 20X9):
- Assets:
  - Cash: \$192,000
  - Accounts receivable: \$128,000
  - Inventories: \$120,000
  - Land: \$300,000
  - Building: \$100,000
  - Equipment: \$50,000
  - Other assets: \$10,000
  - Total assets: \$900,000
- Liabilities:
  - Salaries payable: \$34,000
  - Accounts payable: \$166,000
  - Total liabilities: \$200,000
- Stockholders' equity:
  - Capital stock: \$220,000
  - Retained earnings: \$480,000
  - Total stockholders' equity: \$700,000
- Total liabilities and equity: \$900,000
- Note: The balance sheet adheres to the accounting equation: \text{Total Assets} = \text{Total Liabilities} + \text{Total Stockholders' Equity}
  \$900,000 = \$200,000 + \$700,000

Purpose: Reports cash receipts and cash payments from operating, investing, and financing activities over an accounting period.
Example (For the Year Ending December 31, 20X9):
- Operating activities:
  - Cash received from customers: \$720,000
  - Cash received for interest: \$15,000
  - Cash paid for salaries: \$(240,000)
  - Cash paid for rent: \$(115,000)
  - Cash paid for other items: \$(300,000)
  - Cash provided by operating activities: \$80,000
- Investing activities:
  - Purchase of land: \$(250,000)
- Financing activities:
  - Payment of dividends: \$(35,000)
- Decrease in cash: \$(205,000)
- Cash, January 1: \$397,000
- Cash, December 31: \$192,000