Introduction to Business II

Chapter 17

Financial Information and

Accounting Concepts

Adopted From

Bovee, J.L., and Thill, J.V. (2015), Business in Action, (7th Edition), Pearson, New
York
 Understanding Accounting
Accounting: Measuring, interpreting, and
communicating financila information to support
internal and external decision making.

Financial accounting: The area of accounting

concerned with preparing financial information for
users outside the organization

Management accounting: The area of accounting

concerned with preparing data for use by managers
within the organization.
 Understanding Accounting
Bookkeeping: Recordkeeping; the clerical aspect of
accounting.

Cost accounting

Tax accounting

Financial analysis

Forensic accounting: Combining accounting and

investigating skills to assist in legal and criminal matters.
 Understanding Accounting
Private Accoutants: In-house accountants employed
by organizations and businesses other than a public
accounting firm; also called corporate accountants.

Controller: The highes-ranking accountant in a

company, responsible for overseeing all accounting
functions.

Certified Public Accountants (CPAs): Professionally

licensed accountants who meet certain requirements
for education and experience and who pass a
comprehensive examination.
 Understanding Accounting
Public accountants: Professionals who provide
accounting services to other businesses and
individuals for a fee.

Audit: Formal evaluation of the fairness and reliability

of a client’s financial statements.
 Major Accounting Rules
Generally Accepted Accounting Principles (GAAP)

External Auditors: Independent accounting firms that

provide auditing services for public companies.

International Finacial Reporting Standards: Accounting

standards and practices used in many countries outside
the United States.

Sarbanes-Oxley: The informal name of comprehensive

legislation designed to improve the integrity and
accountability of financial information.
 Fundamental Accounting Concepts
Assets: Any things of value owned or leased by a
business.

Liabilities: Claims against a firm’s assets by creditors.

Owners’ equity: The portion of a company’s asstes

that belongs to the owners after obligations to all
creditors have been met.

Assets-Liabilities= Owners’ Equity

 Fundamental Accounting Concepts
Accounting Equation: The equation stating that assets
equal liabilities plus owners’ equity.

Assets = Liabilities + Owner’s Equity

 Fundamental Accounting Concepts
Double-Entry Bookkeeping: A method of recording
financial transactions that requires a debit entry and
credit entry for each transaction to ensure that the
accounting equation is always kept in balance.

Matching principle: The fundamental principle

requiring that expenses incurred in producing revenue
be deducted from the revenues they generate during
an accounting period.
 Fundamental Accounting Concepts
Accrual basis: An accounting method in which
revenue is recorded when a sale is made and an
expense is recorded when it is incurred.

Cash basis: An accounting method in which revenue is

recorded when payment is received and an expense is
recorded when cash is paid.

Depreciation: An accounting procedure for

systematically spreading the cost of a tangible asset
over its estimated useful life.
Using Financial Statements: The Balance Sheet
Closing the Books: Transferring net revenue and expense
account balances to retained earnings for the period.

Balance Sheet: A statement of a firm’s financial position

on a particular date; also known as a statement of
financial position.

Calendar year: A 12-month accounting period that begins

on January 1 and ends on December 31.

Fiscal Year: Any 12 consecutive months used as an

accounting period.
 The Accounting Cycle

1. Perform
Transactions

8. Close the 2. Analyze

books for the and record
accounting transactions
period. in a journal

3. Post
7. Prepare journal
financial entries to the
statements ledger

6. Prepare an 4. Prepare a
adjusted trial trial balance
balance
5. Make
adjusting
entries, as
needed
Using Financial Statements: The Balance Sheet
Current Assets: Cash and items that can be turned into cash
within one year.

Fixed assets: Assets retained for long-term use, such as land,

buildings, machinery, and equipment; also referred to as
property, plant, and equipment.

Current Liabilities: Obligations that must be met within a year.

Long-term liabilities: Obligations that fall due more than a year

from the date of the balance sheet.

Retained Earnings: The portion of shareholders’ equity earned

by the company but not distributed to its owners in the form of
dividends.
 Balance Sheet
Assets

Current Assets

Cash $ 5, 000

Marketable Securities 40,000

Accounts receivable 100,000

Inventory 50,000

Miscellaneous prepaid items 5,000

Total Current Assets $ 200,000

Fixed Assets

Property and Equipment 53,000

Less: Accumulated -3,000
Depreciation
Total Fixed Assets $ 50,000

Total Assets $ 250,000

 Balance Sheet
Assets

Current Liabilities

Accounts Payable $ 50,000

Accrued expenses 30,000

Total Current Liabilities $ 80,000

Long-Term Liabilities

Loans Payable $ 20,000

Total Liabilities $ 100,000

Shareholders’ Equity

Common Stock 125,000

Retained Earnings 25,000

Total Shareholders’ Equity 150,000

Total Liabilities and $ 250,000
 Using Financial Statements: Income and cash
Flow Statements
Income Statement: A financial record of a compnay’s
revenues, expenses, and profits over a given period of
time; also known as a profit-and-loss statement.

Expenses: Costs created in the process of generating

revenues.

Net income: Profit earned or loss incurred by a firm,

determined by subtracting expenses from revenues;
casually referred to as the bottom line.
 Using Financial Statements: Income and cash
Flow Statements
Cost of goods sold: The cost of producing or acquring a
company’s products for sale during a given period.

Gross profit: The amount remaining when the cost of

goods sold is deducted from net sales; also known as
gross margin.

Operating expenses: All costs of operation that are not

included under cost of goods sold.

EBITDA: Earnings before interest, taxes, depreciaition,

and amortization.
 Using Financial Statements: Income and cash
Flow Statements
Statement of Cash Flows: A statement of a fimr’s cash
receipts and cash payments that presnets
information on its sources and uses of cash.
 Income Statement
Income Statement year ended December 31, 2014 ($ thousands)
Revenues
Gross sales $ 2,000,000

Less: Discounts - 120,000

Less: Sales Returns and allowances -150,000

Net sales $ 1,730,000

Cost of Goods Sold

Beginning Inventory 60,000

Add: Merchandise Purchases 1,520,000

Cost of goods Available for sale 1,580,000

Less Ending Inventory - 50, 000

Total Cost of Goods Sold -1 530,000

Gross Profit 200,000

Operating Expenses

Selling Expenses 65,000

General Expenses 40,000

Total Operating Expenses 105,00

Net Operating Profit 95,000

Other Income 5,000

Net Income Before Income Taxes 100,000

Less: Income Taxes -40,000

Net Income After Taxes $ 60,000

 Statements of Cash Flows
Statements of Cash Flows Year Ended December 31, 2014 ($ thousands)

Cash Flows from Operating Activities

Net Income $60,000

Adjustment to Reconcile Net Income to

Net Cash Provided by Operating Activities
-40,000

Net Cash Provided by or Used in Operating $ 20,000

Activities

Cash Flows from Investing Activities

Purchase of Property and Equipment - 30,000

Purchase of Securities -115,00

Redemption of Securities 125,000

Net cash Provided by or Used in Operating -20,000

Activities

Cash Flows from Financing Activities

Loan Proceeds 15,000

Payment of Long-Term Debt -10,000

Net Cash Provided by or Used in Operating 5,000

Activities

Net (Decrease) Increase in Cash 5,000

Cash and Cash Equivalents at Beginning of 18,000

Year

Cash and Cash Equivalents at End of Year $ 23,000

 Analyzing Financial Statements

Trend Analysis

Ratio Analysis

Types of Financial Ratios

 Analyzing Financial Statements

Types of Financial Ratios

Profitability Ratios

– Return on sales

– Return on Equity

– Earnings per share

 Analyzing Financial Statements

Types of Financial Ratios

Liability Ratios

– Current Ratio

– Quick Ratio
 Analyzing Financial Statements

Types of Financial Ratios

Activity Ratios

– Inventory Turnover

– Accounts Receivable Turnover

 Analyzing Financial Statements

Types of Financial Ratios

Leverage, or Debt Ratios

– Debt to Equity

– Debt to Total Assets