Buying and selling productive resources with long lives

Ch : Business Decisions S Financial Accounting 8118120

Organizational Form(are ways businesses are organized)

1) Sole proprietorship: A business owned by one individual

who often manages the business as well.

####### 2) Partnership: similar to sole proprietorship

, except

that

profits,taxes, S legal liability are the responsibility of 2

or more owners instead of just one

accounting perspective Corporation, not its owners,is legally

responsible for its own taxes S debts, owners cannot loose more than their investment in the corporation

####### 4) Other : Other organizational forms exhist,such as a

limited liability company(LLC),which combines characteristics

of a partnership 8 a Corporation.

Accounting for Business Decisions

Most companies exist to earn profits for their stockholders.

They earn profits by selling goods or services to customers

for more than they cost to produce. To know just how

successful a company is, the company will need to establish

S maintain a good system of financial record keeping - an

accounting system.

organization to capture (analyze,record,S summarize) the activities affecting its financial condition S performance S then report the results to decision makers, both inside S outside the organization.

The accounting system produces two kinds of reports :

Managerial accounting reports : Include detailed financial

####### plans S continually updated reports about the operating

performance of the company. These reports are made available only to the company's employees (internal users)

####### production, marketing, human resources, S finance. For

example, managerial accounting reports are needed when

####### determining whether to build,buy, or rent a building;

whether to continue or discontinue making particular

• Financial accounting reports called financial statements. Prepared periodically to provide information to people not

users are not given access to the detailed internal records

of the company, so they rely extensively on the financial

statements. The four main groups of external users are (1)creditors, (2) investors, (3) directors,S (4) government.

The Basic Accounting Equation (aelsguakt.9 asthe Balancesheet)

Assets = Liabilities t stockholders

'

Equity

This equation represents the balance sheet S is used

for every transaction that is recorded in the accounting

records. We will use this accounting equation throughout

the semester so be sure to understand it. Take note, this is an equation S it has to balance!

• because what a company owns must equal what a company owes to its creditors S stockholder

One of the central concepts to understanding financial

reports is that what a company owns must equal what a company owes to its creditors S stockholders. In accounting there are special names for what a company owns

(assets) and the claims on these items by creditors

(liabilities) S stockholders (equity). The relationship between assets (AI, liabilities(D, S stockholders' equity (SE) is known as the basicaccounting equation.

The business itself, not the stockholders who own the business, is viewed as owning the assets S owning the liabilities. This is called the separate entity assumption , which requires that a business's financial report include only the activities of the business S not the personal dealings of its stockholders.

Assets - Liabilities= Stockholder's Equity

Assets- stockholder's

####### Equity =Liabilities

Revenues: are the sales of goods or services to customers. They are measured at the amount the business charges the customer.

Expenses: are the costs of business necessary to earn revenues, including wages to employees, advertising, insurance, utilities, and supplies used in the office.

Net income: is equal to revenues minus expenses. By generating net income, a company increases its stockholders’ equity. Net income can either be left in the company to accumulate (called retained earnings) or paid out to the company’s stockholders for their own personal use (called dividends). If revenues are less than expenses, the business would have a “net loss.”

Dividends – A company’s profits are accumulated in Retained Earnings until a decision is made to distribute them to stockholders in what is called a dividend. Dividends are not an expense of the company but are paid out of retained earnings. Dividends are an optional distribution of earnings to stockholders, approved by the company's board of directors.

Revenues L Expenses← "Iti's:}

acts as an incentive to Retained buy stocks Earnings S net income are related to each other Net income.•is what's left at the end of the month after you've subtracted your operating expenses from your revenue

Retained earnings are what's left from your net income after dividends are paid out 8 beginning retained earnings are factored in. Net income - Net income increases retained earnings

• Net loss decrease
• retained earnings when revenue are less than expenses,a net loss exists

Financial Statements Assets, liabilities, stockholders’ equity, revenues, expenses, and dividends appear in different reports in the financial statements. The term financial statements refers to four accounting reports, typically prepared in the following order: 1. Income statement – The purpose of the income statement is to report the amount of revenues less expenses for a period of time. The income statement is prepared first in order for us to calculate the amount of net income, as net income then is placed on the statement of retained earnings. 2. Statement of retained earnings – Reports the way that net income and the distribution of dividends affected the financial position of the company during the period. A more comprehensive statement of stockholders’ equity that explains changes in all stockholders’ equity accounts is provided by large corporations. 3. Balance sheet – Reports the amount of assets, liabilities, and stockholders’ equity of a business at a point in time; a picture or snapshot of the company and it “balances.” Assets are listed in order of liquidity, that is, how quickly they are used up or converted into cash. Likewise, liabilities are listed in order of how soon each is to be paid or settled. The balance sheet “balances” because the resources (assets) equal the claims to the resources (liabilities and stockholders’ equity).

1. Statement of cash flows – Reports the operating, investing, and financing activities that caused increases and decreases in cash during the period. It includes only those activities that result in cash changing hands. The statement of cash flows is divided into three types of activities. ◦ Operating activities are directly related to running the business to earn profit. They include selling goods and services, paying employee wages, buying advertising, renting a building, obtaining insurance coverage, and so on. ◦ Investing Activities involving buying and selling productive resources with long lives, purchasing investments, and lending to others. ◦ Financing Activities include any borrowing from banks, repaying bank loans, receiving contributions from stockholders, or paying dividends to stockholders.

The ending retained earnings balance for the period is also reported on the balance sheet. If we did not report the ending retained earnings balance on the balance sheet, our balance sheet would not balance. So the statement of retained earnings must be prepared before the balance sheet may be completed.

The Cash on the balance sheet is equal to the ending Cash reported on the statement of cash flows.

Using Financial Statements 1. Creditors - Interested in assessing two things: ◦ Is the company generating enough cash to make payments on its loans? ◦ Does the company have assets to cover its liabilities? 2 Investors – expect a return on their contribution to the company: ◦ Return may be immediate (through dividends) or long-term (through selling stock certificates at a price higher than their original cost). ◦ Investors look closely at the income statement (and statement of retained earnings) for information about the company’s ability to generate profits (and distribute dividends).

To achieve these objectives, the FASB and IASB have developed a framework that outlines the financial elements to be measured and the main external users for whom the financial information is intended.

Some private and all public companies hire independent auditors. The Public Company Accounting Oversight Board (PCAOB) and other accounting bodies – approve rules for auditors. Auditors report whether, beyond reasonable doubt, the financial statements represent what they claim to represent and whether they comply with GAAP.

Information that appear on the statement of Retained Earnings include

• net income
• dividends
• beginning balance of retained
• earnings ending balance of retained earnings

Ethical Conduct

Ethics – The standards of conduct for judging right from wrong, honest from dishonest, and fair from unfair. Intentional financial misreporting is both unethical and illegal.

To help ensure these decisions are made in a professional and ethical manner, the American Institute of Certified Public Accountants (AICPA) requires all its members to adhere to a Code of Professional Conduct.

Sarbanes-Oxley Act - A set of laws established to strengthen corporate reporting in the United States; SOX requires top managers of public companies to:

• Sign a report certifying their responsibilities for the financial statements,
• Maintain an audited system of internal controls to ensure accuracy in the accounting reports, and
• Maintain an independent committee to ensure that managers cooperate with auditors.

When faced with an ethical dilemma, follow a three-step process:

1 First, identify who will benefit from the situation (often the manager or employee) and how others will be harmed (other employees, the company’s reputation, owners, creditors, and the public in general). 2 Second, identify the alternative courses of action. 3 Third, choose the alternative that is the most ethical; that you would be proud to have reported in the news.

What is a company that has its stock bought and sold on stock exchanges and is required to publicly release its financial statements?

What is a company that sells shares of its stock privately and is not required to release its financial statements to the public?

What is a system that collects and processes financial information?

What is an incorporated entity that issues shares of stock as evidence of ownership?