robert n. west © vemba accounting basic accounting concepts: the income statement © the...

Robert N. West © VEMBA Accounting

Basic Accounting Concepts: The Income Statement

© The McGraw-Hill Companies, Inc., 1999

3Part One: Financial Accounting


Basic Business Financial Flows

CashCash

Accounts Accounts receivablereceivable

InventoriesInventories

Collection activities

Purchasing or production activities

Earnings activities

Slide 3-1


• Accounting period

• Conservatism

• Realization

• Matching

• Consistency

• Materiality

• Money measurement

• Entity

• Going concern

• Cost

• Dual aspect

Basic Concepts Slide 3-2


Revenues $122,400

Less expenses:

Food $42,756

Wages 46,935

Rental 12,000

Other costs 5,472

Total exp. 107,163

Net income $ 15,237

Basic Concepts

Let’s take a look atour summer camps

income statement for afew summer months.

Let’s take a look atour summer camps

income statement for afew summer months.

Accounting Period ConceptAccounting Period Concept

Slide 3-3


Revenues $122,400

Less expenses:

Food $42,756

Wages 46,935

Rental 12,000

Other costs 5,472

Total exp. 107,163

Net income $ 15,237

Basic Concepts

The accounting periodconcept allows us to find

out how we did for a specificperiod of time.

The accounting periodconcept allows us to find

out how we did for a specificperiod of time.

Accounting Period ConceptAccounting Period Concept

Slide 3-4



• Conservatism

• Realization

• Matching

• Consistency

• Materiality


• Entity

• Going concern

• Cost

• Dual aspect



Recognize revenues (increases in retained earnings) only when they are reasonably certain.

Recognize expenses (decreases in retained earnings) as soon as they are reasonably possible.

Basic Concepts

Aspects of the conservatism concept:

Slide 3-6


When should the revenue be

recognized?

Basic Concepts

In December, customers pay for a year’s subscription to a

magazine that they will begin receiving in

January.

Conservatism ConceptConservatism Concept

Slide 3-7


Revenue is recognized when the service is

performed--thus in the year the magazine

service is provided.

Basic Concepts

In December, customers pay for a year’s subscription to a

magazine that they will begin receiving in

January.

Conservatism ConceptConservatism Concept

Slide 3-8



• Conservatism

• Realization

• Matching

• Consistency

• Materiality


• Entity

• Going concern

• Cost

• Dual aspect



Basic Concepts

Realization ConceptRealization Concept

Joe makes credit sales of merchandise Joe makes credit sales of merchandise amounting to $100,000.amounting to $100,000.

Joe makes credit sales of merchandise Joe makes credit sales of merchandise amounting to $100,000.amounting to $100,000.

Slide 3-10


Basic Concepts

If experience indicates that 3 percent of credit If experience indicates that 3 percent of credit sales will eventually become bad debts, then sales will eventually become bad debts, then

revenue for the period is $97,000.revenue for the period is $97,000.

If experience indicates that 3 percent of credit If experience indicates that 3 percent of credit sales will eventually become bad debts, then sales will eventually become bad debts, then

revenue for the period is $97,000.revenue for the period is $97,000.

Realization ConceptRealization Concept

Sorry Joe, I can’t pay.

Slide 3-11


Basic Concepts


• Conservatism

• Realization

• Matching

• Consistency

• Materiality


• Entity

• Going concern

• Cost

• Dual aspect

Slide 3-12


Basic Concepts

Matching ConceptMatching Concept

Today is March

19On March 19, an item of inventory costing $1,000 is

received.

Slide 3-13


Basic Concepts


Today is April

16On April 16, the

vendor is paid in full.

Slide 3-14


When should the merchandise be an expense

to the firm?

Basic Concepts


Today is May

9On May 9, the item of merchandise is sold

for $1,500.

Slide 3-15


In May, when the merchandise is sold.

Basic Concepts


Today is May

9On May 9, the item of merchandise is sold

for $1,500.

Slide 3-16


Expenditures that are also expenses Beginning assets that become expenses Expenditures that are not yet expenses Expenses not yet paid

Expenditures that are also expenses Beginning assets that become expenses Expenditures that are not yet expenses Expenses not yet paid

Basic Concepts

Types of transactions that need to be considered in distinguishing between amounts that are properly considered as expenses of a given accounting period and the expenditures made in connection with the item.

Slide 3-17


Basic Concepts


• Conservatism

• Realization

• Matching

• Consistency

• Materiality


• Entity

• Going concern

• Cost

• Dual aspect

Slide 3-18


Basic Concepts

The consistency concept: Once an entity has

decided on one accounting method, it should use the

same method for all subsequent events of the same character (unless it

has a sound reason to change methods).

LIFOLIFO

Slide 3-19


Basic Concepts


• Conservatism

• Realization

• Matching

• Consistency

• Materiality


• Entity

• Going concern

• Cost

• Dual aspect

Slide 3-20



MaterialityMateriality

A dozen pencils were purchased for the office

secretary. These pencils are assets to the firm and

technically should be expensed each time one is used.

Materiality allows the firm to expense the pencil either at the

time of purchase or when an inventory is taken of office

supplies at period-end.


Income Statement Slide 3-22

GARDEN CORPORATIONIncome Statement

For the Year Ended December 31, 1998Net sales $75,478,221Cost of sales 52,227,004Gross margin 23,251,217Research and development expense 2,158,677Selling, general, and administrative expenses 8,726,696

Operating income 12,356,844Other revenues (expenses):

Interest expense (363,000Interest and dividend revenues 43,533Royalty revenues 420,010

Income before income taxes 12,466,387Provision for income taxes 4,986,555Net income $ 7,479,832

)


Statement of Retained Earnings Slide 3-23

Statement of Retained Earnings

Retained earnings at the beginning of year $16,027,144

Add: Net income 7,479,832

Deduct: Dividends ($4 per common share) (4,390,000

Retained earnings at end of year $19,116,976


Chapter 3

The End

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