chapter 15 using accounting information. copyright © cengage learning. all rights reserved. chapter...

Chapter 15

Using Accounting Information

Copyright © Cengage Learning. All rights reserved. Chapter 15 | Slide 2

Learning Objectives

1. Explain why accurate accounting information and audited financial statements are important.

2. Identify the people who use accounting information and possible careers in the accounting industry.

3. Discuss the accounting process.4. Read and interpret a balance sheet.5. Read and interpret an income statement.6. Describe business activities that affect a

firm’s cash flow.7. Summarize how managers evaluate the financial health

of a business.


Accounting

…the process of systematically collecting, analyzing, and reporting financial information.


Accounting Provides Answers

1. How much profit did a business earn last year?

2. How much tax does a business owe the Internal Revenue Service?

3. How much cash does a business have on hand?


Accounting As an Information System

Source: Needles, Powers, Crosson, Principles of Accounting (Boston: Houghton Mifflin, 2005).


Recent Accounting Problems

Pressure to “cook” the books

Greed: compensation tied to stock value

Inaccurate/misleading reporting

Increased SEC and IRS scrutiny


Audited Financial Statements

Audit: Examination of a company’s financial statements and accounting practices that produced them

Generally Accepted Accounting Principles(GAAPs): Accepted set of guidelines and practices for companies reporting financial information and for the accounting profession


Organizations Influencing Accounting Profession

Financial Accounting Standards Board (FASB)

American Institute of Certified Public Accountants (AICPA)

International Accounting Standards Board (IASB)


Sarbanes-Oxley Act (2002)

SEC established oversight board CEO/CFO required to certify reports Accounting firms cannot provide

non-auditing/consulting services Auditors keep documents/work papers

for 5 years Prison sentences up to 20 years for

document destruction Change auditing firm every 5 years Protection of whistle-blowers


Table 15.1: Users of Accounting Information

Managers + outside individuals + other organizations


Types of Accounting

Managerial: provides information to make decisions about financing, investing, and operations

Financial: generates statements/reports Cost: determines cost of production Government: ensures tax revenues collected Not-for-Profit: accounts for donations

and expenditures Tax: plans tax strategy and prepares returns


To Be Successful in Accounting

Be responsible, honest, ethical

Have strong background in financial management

Know computer/software to process data

Be able to communicate about accounting information


SpotlightIncome for Accountants and Auditors

Source: The Bureau of Labor Statistics web site at www.bls.gov, May 18, 2009.


Accountant Classifications

Private: employed by specific organization Public: works on fee basis for clients and may

be self-employed Certified Public Accountant (CPA): individual

has met state requirements for accounting education and experience and has passed AICPA exam

Certified Management Accountant (CMA): certified by Institute for Management Accountants


Requirements for Becoming a CPA

1. Education = 150 undergraduate and/or graduate semester hours

2. Most areasa) At least a bachelor’s degreeb) Two+ years of public accounting (some areas accept

non-public accounting)c) Certificate and license: pass exam and fulfill

experience

3. Age = 18+

Source: SmartPros, “Basic Information on the CPA Exam”, 2000, http://www.pro2net.com/x14341.xml


Accounting Equation

Assets = Resources Business Owns

Liabilities = Firm’s Debts

Owners’ Equity = Total Assets - Total Liabilities

Assets = Liabilities + Owners’ Equity


Double-Entry Bookkeeping

…a system in which each financial transaction is recorded as two separate

accounting entries to maintain the balance shown in the accounting equation.


Accounting Cycle


Balance Sheet

…a summary of the dollar amountsof a firm’s assets, liabilities, and owners’ equity accounts at the end of a specific

accounting period.


Figure 15.1: Personal Balance Sheet

Individuals determine their net worth, or owner’s equity, by subtracting the value of their debts from the value of their assets.


Balance Sheet Assets Listed

Most Liquid

Least Liquid


Figure 15.2: Business Balance Sheet

Summarizes firm’s accounts at the end of an accounting period.

Note that assets ($340,000) equal liabilities plus owners’ equity ($340,000).


Income Statement

…a summary of a firm’s revenuesand expenses during a specified

accounting period.


Figure 15.3: Personal Income Statement

By subtracting expenses from income, anyone can construct a personal income statement and determine if they have a surplus or deficit at the end of each month.


Income Statement Expense Accounts

Cost of Goods Sold = Beginning InventoryNet PurchasesEnding Inventory

+-


Figure 15.4: Business Income Statement

Summarizes firm’s revenues and expenses during a specified accounting period.

For Northeast Art, net income after taxes is $30,175.


Statement of Cash Flows

A statement that illustrates how the operating, investing, and financing activities of a company affect cash

during an accounting period.


Figure 15.5: Statement of Cash Flows

For Northeast Art, the amount of cash at the end of the year is $59,000—the same amount reported for the cash account on the firm’s balance sheet.


Cash Flows Activities

Operating : cash flow from primary revenue source

Investing: cash flow from investments such as purchase/sale of land, equipment, etc.

Financing: cash flow from financing such as changes in debt obligation and owners’ equity

Added to beginning cash balance to get ending cash balance


Using Annual Reports to Compare Data

Determine profitability Read the letters Compare current statements with prior period

statements Examine footnotes Learn to calculate financial ratios Compare with other firms’


Comparison of Financial Statements


Financial Ratio

…a number that shows therelationship between two elements

of a firm’s financial statements.


Ratio Classification

Profitability: effectiveness in use of resources

Short-Term: ability to pay current liabilities

Activity: how many times per year accounts receivable collected or inventory sold

Debt to Owners’ Equity: degree operations financed through borrowing


Profitability Ratios

Return on Sales =

=

=

net income after taxnet sales

net income after taxowners’ equity

net income after taxcommon stock

shares outstanding

=

=

=

$30,175$451,000

$30,175$230,000

$30,175$25,000

=

=

=

6.7%

Return on Owners’ Equity

Earnings per Share

13.0%

$1.21


Short-Term Financial Ratios

Working Capital =

=

=

current assets - current liabilities

working capital

current assetscurrent liabilities

cash + marketable securities + receivables

current liabilities

=

=

=

$182,000-$ 70,000$112,000

$182,000$70,000

$139,000$70,000

=

=

Current Ratio

Acid-Test Ratio

2.6

1.99


Activity Ratios

A/R Turnover =

=

net salesaccounts receivable

cost of goods soldaverage inventory

=

=

$451,000$38,000

$334,000$40,500 =

Inventory Turnover

8.2 times per year

= 11.9 times per year


Debt-to-Owners’ Equity Ratio

Debt-to-Owners’ Equity = total liabilities

owners’ equity

= $110,000$230,000 = 48 percent


Table 15.2: Financial Ratios Compared


1. The __________ is designed to improve accounting standards.

a) Ethics in Accounting Actb) Graham-Rudman Reform Actc) Sarbanes-Oxley Actd) Securities and Exchange Accounting Acte) Accounting Standards Establishment Act

Chapter Quiz


2. An accountant who is employed by a specific business or organization is referred to as a(n)

a) public accountant.b) private accountant.c) proprietary accountant.d) AICPA accountant.e) asset accountant.

Chapter Quiz


3. The first step in the accounting cycle is to

a) analyze source documents.b) record individual transactions.c) post individual transactions.d) construct a beginning financial statement.e) prepare a list of employees.

Chapter Quiz


4. Assets, liabilities, and owners’ equity would be listed on a firm’s

a) balance sheet.b) income statement.c) statement of earnings.d) statement of retained earnings.e) statement of capital.

Chapter Quiz


5. Current assets minus current liabilities equals

a) return on owners’ equity. b) current ratio.c) acid-test ratio.d) working capital.e) current cash statement.

Chapter Quiz

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