Chapter 15

Accounting

The recording, classifying, summarizing, and interpreting of financial events and transactions to provide management and other interested parties the information they need to make good decisions. NOTE: Financial management is the heartbeat of competitive businesses, and accounting information helps keep the heartbeat stable.

Classifying Assets

Assets include productive, tangible items such as equipment, buildings, land, furniture, and motor vehicles that help generate income, as well as intangible items with value like patents, trademarks, copyrights, and goodwill. Goodwill represents the value attached to factors such as a firm's reputation, location Assets - Economic resources (things of value) owned by a firm. Liquidity - The ease with which an asset can be converted into cash. EXAMPLE: an account receivable is an amount of money owed to the firm that it expects to receive within one year. It is considered a liquid asset because it can be quickly converted to cash. Land, however, is not considered a liquid asset because it takes time, effort, and paperwork to sell. Assets are thus divided into three categories, according to how quickly they can be turned into cash. 1. Current assets are items that can or will be converted into cash within one year. They include cash, accounts receivable, and inventory. 2. Fixed assets are long-term assets that are relatively permanent such as land, buildings, and equipment. (On the balance sheet we can also refer to these as property, plant, and equipment.) 3. Intangible assets are long-term assets that have no physical form but do have value. Patents, trademarks, copyrights, and goodwill are intangible assets.

cost of goods sold (or cost of goods manufactured)

A measure of the cost of merchandise sold or cost of raw materials and supplies used for producing items for resale.

accounting cycle

A six-step procedure that results in the preparation and analysis of the major financial statements.

Financial Statements

A summary of all the financial transactions that have occurred over a particular period. Key Financial statements of a business are: 1. balance sheet - reports the firm's financial condition on a specific date. 2. Income statement - summarizes revenues, cost of goods, and expenses (including taxes), for a specific period and highlights the total profit or loss the firm experienced during that period. 3. statement of cash flows - provides a summary of money coming into and going out of the firm. It tracks a company's cash receipts and cash payments.

operating expenses

Costs involved in operating a business, such as rent, utilities, and salaries. Depreciation The systematic write-off of the cost of a tangible asset over its estimated useful life. Net Profit or Loss After allocating for taxes, we get to the bottom line, which is the net income (or perhaps net loss) the firm incurred from revenue minus sales returns, costs, expenses, and taxes over a period of time.

balance sheet

Financial statement that reports a firm's financial condition at a specific time and is composed of three major accounts: assets, liabilities, and owners' equity. fundamental accounting equation Assets = Liabilities + Owners' equity; this is the basis for the balance sheet.

statement of cash flows

Financial statement that reports cash receipts and disbursements related to a firm's three major activities: operations, investments, and financing. Operations are cash transactions associated with running the business. Investments are cash used in or provided by the firm's investment activities. Financing is cash raised by taking on new debt, or equity capital or cash used to pay business expenses, past debts, or company dividends.

Gross profit (or gross margin)

How much a firm earned by buying (or making) and selling merchandise.

accounting system

Inputs Accounting Documents---> Processing---> Ouputs Financial Statement The inputs to an accounting system include sales documents and other documents. The data are recorded, classified, and summarized. They're then put into summary financial statements such as the income statement and balance sheet and statement of cash flows.

5 Key Working Areas in the Accounting Profession

Managerial Accounting, Financial Accounting, Auditing, Tax Accounting and Governmental & Not-For-Profit Accounting 1. Managerial Accounting - Accounting used to provide information and analyses to managers inside the organization to assist them in decision making. Concerned with measuring and reporting costs of production, marketing, and other functions; preparing budgets (planning); checking whether or not units are staying within their budgets (controlling); and designing strategies to minimize taxes. certified management accountant (CMA) - a professional accountant who has met certain educational(knowledge) and experience requirements, passed a qualifying exam, and been certified by the Institute of Certified Management Accountants 2. Financial accounting - Accounting information and analyses prepared for people outside the organization. Information goes not only to company owners, managers, and employees, but also to creditors and lenders, employee unions, customers, suppliers, government agencies, and the general public. Annual report - A yearly statement of the financial condition, progress, and expectations of an organization. The report answers question such as: Is the organization profitable? Is it able to pay its bills? How much debt does it owe. Public accountant - An accountant who provides accounting services to individuals or businesses on a fee basis. Such services can include designing an accounting system, helping select the correct software to run the system, and analyzing an organization's financial performance. Certified public accountant (CPA) - An accountant who passes a series of examinations established by the American Institute of Certified Public Accountants (AICPA). 3. Auditing - The job of reviewing and evaluating the information used to prepare a company's financial statements. Independent audit - An evaluation and unbiased opinion about the accuracy of a company's financial statements. Certified internal auditor (CIA) An accountant who has a bachelor's degree and two years of experience in internal auditing, and who has passed an exam administered by the Institute of Internal Auditors. 4. Tax accountant - An accountant trained in tax law and responsible for preparing tax returns or developing tax strategies. 5. Government and not-for-profit accounting - Accounting system for organizations whose purpose is not generating a profit but serving ratepayers, taxpayers, and others according to a duly approved budget.

Revenue

The monetary value of what a firm received for goods sold, services rendered, and other payments (such as rents received, money paid to the firm for use of its patents, interest earned, etc.)

Liabilities

What the business owes to others (debts). Current liabilities are debts due in one year or less. Long-term liabilities are debts not due for one year or more. Common liability accounts recorded on a balance sheet: 1. Accounts payable are current liabilities or bills the company owes others for merchandise or services it purchased on credit but has not yet paid for. 2. Notes payable can be short-term or long-term liabilities (like loans from banks) that a business promises to repay by a certain date. 3. Bonds payable are long-term liabilities; money lent to the firm that it must pay back.

bookkeeping

the recording of business transactions; the basic part of financial reporting. NOTE: Accountants classify and summarize financial data provided by bookkeepers, and then interpret the data and report the information to management. STEP 1: Dividing Transactions - divide all the firm's transactions into meaningful categories, such as sales documents, purchasing receipts, and shipping documents, being very careful to keep the information organized and manageable. STEP 2: Journal - record financial data from the original transaction documents (sales slips and so forth) into a record book or computer program. includes: Double-entry-booking - record all transactions in two places, so they can check one list of transactions against the other to make sure both add up to the same amount; the practice of writing every transaction in two places. STEP 3: Have a Ledger - A specialized accounting book or computer program in which information from accounting journals is accumulated into specific categories and posted so that managers can find all the information about one account in the same place. STEP 4: Trial Balance - A summary of all the financial data in the account ledgers that ensures the figures are correct and balanced; STEP 5: Prepare a Financial Statement - Using the correct information, the accountant then prepares the firm's financial statements—including a balance sheet, an income statement, and a statement of cash flows. STEP 6: Analyze Financial Statements