Chapter 1

The Basic Financial Statements

Groups

1. Get Contact Information for each group member – you are stuck with each other for the next 15 weeks.

2. Decide what business you are going to start.1. Company name2. Company business

3. To Be Turned in: Fill out Group Sheet.

Understanding the BusinessThe Players

The Business

Operations

1. 2.

3. 4

Decision makers need to understandaccounting measurement rules.

Decision makers need to understandaccounting measurement rules.

Responsibilities for the Accounting Communication Process

Effective communication means that the recipient understands what the

sender intends to convey.

Effective communication means that the recipient understands what the

sender intends to convey.

How are Generally Accepted Accounting Principles Determined?

Who is this dude?

How are Generally Accepted Accounting Principles Determined?

Prior to 1933, the management teams of most companies were free to choose the accounting principles used to keep track of its transactions.

What was going on in 1933?

The Securities and Exchange Commission (SEC)has been given broad powers to determine

measurement rules for financial statements.

The Securities and Exchange Commission (SEC)has been given broad powers to determine

measurement rules for financial statements.

Securities Act of 1933Securities and Exchange Act of 1934

Securities Act of 1933Securities and Exchange Act of 1934

Generally Accepted Accounting Principles

Generally Accepted Accounting Principles

Currently, the Financial AccountingStandards Board (FASB) is recognized

as the body to formulate GAAP.

Currently, the Financial AccountingStandards Board (FASB) is recognized

as the body to formulate GAAP.

The SEC has worked closely with theaccounting profession to

work out the detailed rules that havebecome known as GAAP.

The SEC has worked closely with theaccounting profession to

work out the detailed rules that havebecome known as GAAP.

Generally Accepted Accounting Principles

Companies incur the cost of preparing the financial statements and bear the following

economic consequences of the financial statements being published . . .

Effects on the selling price of stock. Effects on the amount of bonuses received by managers and other employees. Loss of competitive information to other companies.

The Four Basic Financial Statements

1. On a company’s ___________________, all the revenues earned from sales to customers are listed along with the expenses incurred to produce those revenues.

Income Statement

1. Identify the REVENUE Accounts (amounts a company EARNS).

2. Identify the EXPENSE Accounts (amounts a company incurs in order to earn revenue)

3. Prepare the Income Statement in the Proper format.

The Income Statement

Revenues

Sales RevenueFee RevenueInterest RevenueRent Revenue

Revenues

Sales RevenueFee RevenueInterest RevenueRent Revenue

Expenses

Cost of Goods SoldWages ExpenseRent ExpenseInterest ExpenseDepreciation ExpenseAdvertising ExpenseInsurance ExpenseRepair ExpenseIncome Tax Expense

Expenses

Cost of Goods SoldWages ExpenseRent ExpenseInterest ExpenseDepreciation ExpenseAdvertising ExpenseInsurance ExpenseRepair ExpenseIncome Tax Expense

Typical Account Titles

Income Statement

Revenues Sales revenue 37,436$ Total revenues 37,436 Expenses Cost of goods sold expense 26,980 Selling, general, and administrative expense 5,606 Interest expense 450 Total expenses 33,036 Operating income 4,400 Income tax expense 1,100 Net income 3,300$

MAXIDRIVE CORP.Income Statement

(in thousands of dollars)For the Year Ended December 31, 2009

The Four Basic Financial Statements

On a company’s _______________________________ accumulated net earnings less the dividends paid to owners represent reinvestments in the core business.

Net Earnings = Net Income from Income Statement

Statement of Retained Earnings

Beginning Retained EarningPlus: Net IncomeLess: DividendsEnding Retained Earnings

The Four Basic Financial Statements

On a company’s _______________, all resources owned (CALLED ASSETS) and amounts owed (CALLED LIABILITIES) are listed in order of liquidity.

The DIFFERENCE between the resources owned and the amounts owed, represents the stockholders’ equity in the business.

The Accounting Equation

A = L + SE(Assets) (Liabilities) (Stockholders’

Equity)

Economic Resources

Sources of Financing for Economic Resources

Liabilities: From CreditorsStockholders’ Equity: From Stockholders

The Balance Sheet

AssetsCashShort-Term InvestmentAccounts ReceivableNotes ReceivableInventory (to be sold)SuppliesPrepaid ExpensesLong-Term InvestmentsEquipmentBuildingsLandIntangibles

AssetsCashShort-Term InvestmentAccounts ReceivableNotes ReceivableInventory (to be sold)SuppliesPrepaid ExpensesLong-Term InvestmentsEquipmentBuildingsLandIntangibles

Liabilities

Accounts PayableAccrued ExpensesNotes PayableTaxes PayableUnearned Revenue Bonds Payable

Liabilities

Accounts PayableAccrued ExpensesNotes PayableTaxes PayableUnearned Revenue Bonds Payable

Stockholders’ Equity

Contributed CapitalRetained Earnings

Stockholders’ Equity

Contributed CapitalRetained Earnings

Typical Account Titles

Liabilities

Accounts PayableAccrued ExpensesNotes PayableTaxes PayableUnearned Revenue Bonds Payable

Liabilities

Accounts PayableAccrued ExpensesNotes PayableTaxes PayableUnearned Revenue Bonds Payable

Stockholders’ Equity

Contributed CapitalRetained Earnings

Stockholders’ Equity

Contributed CapitalRetained Earnings

2009ASSETSCash 4,895$ Accounts receivable 5,714 Inventories 8,517 Plant and equipment 7,154 Land 981 Total assets 27,261$

LIABILITIESAccounts payable 7,156$ Notes payable 9,000 Total liabilities 16,156 STOCKHOLDERS' EQUITYContributed capital 2,000 Retained earnings 9,105 Total stockholders' equity 11,105 Total liabilities and stockholders' equity 27,261$

MAXIDRIVE CORP.Balance Sheet

(in thousands of dollars)At December 31, 2009

Balance Sheet

The Four Basic Financial Statements

On a company’s _________________________, all sources and uses of CASH are listed.

Cash is generated by the company’s operations (CALLED OPERATING ACTIVITIES).

Cash is spent on investments in buildings, manufacturing equipment, and other assets (CALLED INVESTING ACTIVITIES).

FINANCING ACTIVITIES involve amounts borrowed (and paid back) from long-term creditors and sale of stock to owners.

Statement of Cash Flows

Operating activities Cash collected from customers 33,563$ Cash paid to suppliers and employees (30,854) Cash paid for interest (450) Cash paid for taxes (1,190) Net cash flow from operating activities 1,069 Investing Activities Cash used to purchase equipment (1,625) Net cash flow from investing activities (1,625) Financing Activities Cash received from bank loan 1,400 Cash dividends paid (1,000) Net cash provided by financing activities 400 Net increase in cash (156) Cash at beginning of month 5,051 Cash at end of month 4,895$

MAXIDRIVE CORP.Statement of Cash Flows

(in thousands of dollars)For the Year Ended December 31, 2009

Relationships Among the Statements

1. Net income from the income statement results in an increase in ending retained earnings on the statement of retained earnings.

Income Statement

Revenues $ 15,500 Statement of Retained Earnings

Expenses (8,500)

Beginning retained earnings $ 59,000 Net income $ 7,000 Net income 7,000 Dividends (2,500) Ending retained earnings $ 63,500

Relationships Among the Statements

2. Ending retained earnings from the statement of retained earnings is one of the two components of stockholders’ equity on the balance sheet.

Statement of Retained Earnings Balance SheetBeginning retained earnings $ 59,000 Cash $ 14,000 Net income 7,000 Other assets 171,500 Dividends (2,500) Total assets $ 185,500 Ending retained earnings $ 63,500 Liabilities $ 42,000 Stockholders' Equity Common stock 80,000 Retained earnings 63,500 Total liabilities and equity $ 185,500

Relationships Among the Statements

3. The change in cash on the statement of cash flows is added to the beginning-of-year balance in cash to arrive at end-of-year cash on the balance sheet.

Statement of Cash Flows Balance SheetCash flows from operating activities $ 21,000 Cash $ 14,000 Cash flows from investing activities (16,000) Other assets 171,500 Cash flows from financing activities 3,500 Total assets $ 185,500 Increase in cash $ 8,500 Liabilities $ 42,000 Beginning cash balance 5,500 Stockholders' Equity Ending cash balance $ 14,000 Common stock 80,000 Retained earnings 63,500 Total liabilities and equity $ 185,500

Solving the Group Problem

• ABC Company has Total Assets of $1,000,000, Total Liabilities of $700,000, Contributed Capital of $100,000, Beginning Retained Earnings of $130,000, Dividends of $40,000, and Total Revenue of $350,000. What is ABC's Net Income?