CHAPTER 1

FINANCIAL STATEMENTS
AND BUSINESS DECISIONS

PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA

McGraw-Hill/Irwin Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved.
ACCOUNTING IS “THE LANGUAGE OF
BUSINESS.”
The information system that:
• Measures business activity
• Processes the data into reports
• Communicates the results to decision
makers
• Presents information in monetary terms

2
WHAT
WHATIS
ISACCOUNTING?
ACCOUNTING?
Accounting process

The accounting process includes

the bookkeeping function.
 WHO
WHOUSES
USESACCOUNTING
ACCOUNTINGDATA?
DATA?
Internal Users Tax
Management Agencies

Human Investors
Resources
There are two broad
groups of users of Labor
financial information: Unions
Finance
internal users and
external users. Creditors
Marketing
Customers SEC
External
Users
THE ACCOUNTING SYSTEM

1-5
 FINANCIAL AND MANAGERIAL
ACCOUNTING: SEVEN KEY
DIFFERENCES
Financial Accounting Managerial Accounting
1. Users External persons who Managers who plan for
make financial decisions and control an organization
2. Time focus Historical perspective Future emphasis
3. Verifiability Emphasis on Emphasis on
versus relevance objectivity and verifiability relevance
4. Precision versus Emphasis on Emphasis on
timeliness precision timeliness
5. Subject Primary focus is on Focus on
companywide reports segment reports
6. Rules Must follow GAAP / IFRS Not bound by GAAP / IFRS
and prescribed formats or any prescribed format
7. Requirement Mandatory for Not
external reports Mandatory
1-6
 Financial Statements
Various users Statement
Statement of
of Financial
Financial Position
Position (Balance
(Balance
need financial Sheet)
Sheet)
Income
Income Statement
Statement
information Comprehensive
Comprehensive Income
Income Statement
Statement
Statement
Statement of
of Changes
Changes inin Owner’s
Owner’s Equity
Equity
(Retained
(Retained Earnings’
Earnings’ Statement)
Statement)
Statement
Statement of
of Cash
Cash Flows
Flows
Supplementary
Supplementary Notes
Notes

The accounting profession

has attempted to develop
a set of standards that International
International financial
financial
are generally accepted Reporting
Reporting Standards
Standards
(IFRS)/
(IFRS)/ US
US GAAP/
GAAP/
and universally practiced. Egyptian
Egyptian Accounting
Accounting
Standards
Standards
THE FIVE BASIC FINANCIAL
STATEMENTS
BALANCE
BALANCESHEET
SHEET––reports
reportsthe
theamount
amountof
ofassets,
assets,liabilities,
liabilities,and
and
stockholders’
stockholders’equity
equityof
ofan
anaccounting
accountingentity
entityat
ataapoint
pointinintime.
time.

INCOME
INCOMESTATEMENT
STATEMENT––reports
reportsthe
therevenues
revenuesless
lessthe
theexpenses
expensesof
ofthe
the
accounting
accountingperiod.
period.

STATEMENT
STATEMENTOF OFSTOCKHOLDERS’
STOCKHOLDERS’EQUITY EQUITY––reports
reportsthe
thechanges
changesinin
each
eachofofthe
thecompany’s
company’sstockholders’
stockholders’equity
equityaccounts,
accounts,including
includingthe
the
change
changeininthe
theretained
retainedearnings
earningsbalance
balancecaused
causedby bynet
netincome
incomeand
and
dividends
dividendsduring
duringthe
thereporting
reportingperiod.
period.

COMPREHENSIVE
COMPREHENSIVEINCOME INCOMESTATEMENT
STATEMENT––reports
reportsitems
itemsthat
thataffect
affect
equity
equitybut
butisisnot
notreported
reportedininthe
theincome
incomestatement.
statement.

STATEMENT
STATEMENTOF OFCASH
CASHFLOWS
FLOWS––reports
reportsinflows
inflowsand
andoutflows
outflowsofofcash
cash
during
duringthe
theaccounting
accountingperiod
periodininthe
thecategories
categoriesofofoperating,
operating,investing,
investing,
and
andfinancing.
financing. 1-8
BALANCE SHEET
Elements of the Balance Sheet

Assets Liabilities
Cash Accounts Payable
Short-Term Investment Accrued Expenses
Accounts Receivable Notes Payable
Notes Receivable Taxes Payable
Inventory (to be sold) Unearned Revenue
Supplies Bonds Payable
Prepaid Expenses
Long-Term Investments
Stockholders’ Equity
Equipment
Common Stock
Buildings
Retained Earnings
Land
Intangibles
1-9
BALANCE SHEET

1-10
INCOME STATEMENT
Elements of the Income Statement

Revenues Expenses
Sales Revenue Cost of Goods Sold
Fee Revenue Wages Expense
Interest Revenue Rent Expense
Rent Revenue Interest Expense
Depreciation Expense
Advertising Expense
Insurance Expense
Repair Expense
Income Tax Expense

1-11
INCOME STATEMENT

1-12
STATEMENT OF
STOCKHOLDERS’ EQUITY
Elements of the Statement
of Stockholders’ Equity

Common Stock Retained Earnings

Beginning Retained Earnings

+Net Income
-Dividends
Ending Retained Earnings

1-13
STATEMENT OF
STOCKHOLDERS’ EQUITY

1-14
STATEMENT OF CASH FLOWS
Elements of the Statement
of Cash Flows

Cash Flows from Operating Activities

Cash Flows from Investing Activities
Cash Flows from Financing Activities

+/
-
Note that each of the three cash flow
sources can be positive (net cash inflow)
or negative (net cash outflow).
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STATEMENT OF CASH FLOWS

1-16
HOW ARE FINANCIAL STATEMENTS
PREPARED AND ANALYZED?
Income
Revenues – Expenses = Net Income
Statement

Beginning Retained Earnings

Statement of
+ Net Income
Stockholders’
- Dividends Declared
Equity
Ending Retained Earnings

Balance Assets = Liabilities + Stockholders’ Equity

Sheet
Contributed Capital
Cash

Retained Earnings

Statement Change = Cash from Operating Activities

of Cash Flows in + Cash from Investing Activities
Cash + Cash from Financing Activities
1-17
3-17
RELATIONSHIPS AMONG THE
STATEMENTS

1-18
NOTES
Did you notice a sentence at the
bottom of each financial statement?

All financial statements

should be accompanied by
notes which provide the
reader with supplemental
information about the financial
condition and results of
operations of the company.
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FINANCIAL STATEMENT SUMMARY

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RESPONSIBILITIES FOR THE ACCOUNTING
COMMUNICATION PROCESS

The Rules

Generally
Accepted
Accounting
Principles
(GAAP)

1-21
HOW ARE GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES DETERMINED?

Our accounting system has a long

and distinguished history. An
Italian monk and mathematician,
Luca Pacioli, published the first
elements of double-entry
bookkeeping in 1494.
Prior to 1933, the management
teams of most companies were
largely free to choose their own
financial reporting practices.
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GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES
Securities Act of 1933
Securities and Exchange Act of 1934

The Securities and Exchange Commission (SEC)

has been given broad powers to determine
measurement rules for
financial statements.

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GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES
The SEC has worked closely with the
accounting profession to
work out the detailed rules that have
become known as GAAP.

Currently, the Financial Accounting Standards Board

(FASB) is recognized as the body to formulate GAAP.

1-24
 INTERNATIONAL PERSPECTIVE
The International Accounting Standards Board and
Global Convergence of Accounting Standards
Since 2002, there has been substantial movement toward the adoption of
International Financial Reporting Standards (IFRS) issued by the
International Accounting Standards Board (IASB).
Examples of jurisdictions requiring the use of IFRS either currently or by
2012:
• European Union • Israel and Turkey
• Australia and New Zealand • Brazil and Chile
• Canada and Mexico • Hong Kong, India, Malaysia, & South Korea

In the United States, the Securities and Exchange Commission now allows
foreign companies whose stock is traded in the U.S. to use IFRS and is
considering requiring the use of IFRS for U.S. domestic companies by 2015.
1-25
ENSURING THE ACCURACY OF
FINANCIAL STATEMENTS
To ensure the accuracy of the company’s
financial information, management:
 Maintains a system of controls.
 Hires external independent auditors.
 Forms a committee of the board of directors
to review these other two safeguards.

1-26
EXTERNAL AUDITORS

Overall, I believe
An audit is an examination
these financial
of the financial reports to statements are
ensure that they represent fairly stated.
what they claim and
conform with GAAP.

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WHAT IF THE NUMBERS ARE
WRONG?
After it was determined that the financial statements for Le-Nature’s
were misleading, the consequences for the defendants were severe.

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SUPPLEMENT A: TYPES OF BUSINESS
ENTITIES
Sole
Sole Proprietorship:
Proprietorship: owned
owned by by aa single
single individual.
individual.
Partnership:
Partnership: owned
owned by
by two
two or
or more
more individuals.
individuals.
Corporation:
Corporation: ownership
ownership represented
represented by
by shares
shares of
of stock.
stock.

Advantages
Advantages of of aa Corporation:
Corporation:

Limited
Limited liability
liability

Continuity
Continuity of
of life
life

Ease
Ease of
of transfer
transfer of of ownership
ownership

Opportunity
Opportunity to
to raise
raise large
large amounts
amounts of
of money
money
Disadvantage
Disadvantage of of aa Corporation:
Corporation:

Double
Double taxation
taxation
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SUPPLEMENT B: EMPLOYMENT IN THE
ACCOUNTING PROFESSION TODAY

Career Opportunities
Professional Public Accounting
Designations Audit and Assurance Services
CPA Management Consulting Services
Tax Services
CMA Employment by Organizations
Internal accounting
CIA External reporting
Tax planning
Various other functions
Employment in the Public and Not-
for-Profit Sector
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