Accounting and the Business Environment

© 2007 Pearson Education Canada1.1

Accounting and theBusiness

EnvironmentChapter

1


Define accounting, and describe the users of

accounting information.

Objective 1


is an information system that...is an information system that...

measures business activities,measures business activities,

processes information, andprocesses information, and

communicates financial information.communicates financial information.

Accounting...


is called the language of business.is called the language of business.

Accounting...

€£ $ ¥


Business Decisions ...

Is my business making a profit?Is my business making a profit?

Should I hire assistants?Should I hire assistants?

Am I earning enough money to expand my business?

Am I earning enough money to expand my business?


Users of Accounting Information

OtherOther

IndividualsIndividuals

InvestorsInvestors CreditorsCreditors

BusinessesBusinesses

Government Regulatory &

Taxing Agencies

Government Regulatory &

Taxing Agencies

Non-profit Organizations

Non-profit Organizations

Accounting Information


Management AccountingManagement AccountingFinancial AccountingFinancial Accounting

Fields of Accounting

Provides information to people outside the

company

Provides information to people outside the

company

Provides information for internal decision makersProvides information for internal decision makers


Explain why ethics and rules of conduct are

crucial in accounting and business.

Objective 2


Ethical Consideration in Accounting and Business

Users need relevant and reliable information

Users need relevant and reliable information

Companies want to look as good as possible to

attract investors

Companies want to look as good as possible to

attract investors

Potential

for Conflict

Potential

for Conflict


Chartered Accountants

(CA)

Chartered Accountants

(CA)

Certified Management Accountants

(CMA)

Certified Management Accountants

(CMA)

Certified General

Accountants(CGA)

Certified General

Accountants(CGA)

Professional Accounting Bodies and

Standards of Professional Conduct

Standards ofEthical

Conduct for each of the

professional organizations

Standards ofEthical

Conduct for each of the

professional organizations


Describe and discuss the forms of business

organizations.

Objective 3


ProprietorshipsProprietorships

PartnershipsPartnerships

CorporationsCorporations

Types of Business Organizations


Proprietorships

What are some advantages?– one owner– business is separate from owner

What are some disadvantages?– limited life of organization– unlimited personal liability– limited credit standing


Partnerships

What are some advantages?– better credit standing – possibly– more brain power, but consultation with

partners required What are some disadvantages?

– unlimited personal liability for general partners– need for written partnership agreement


Corporations

What are some advantages?– separate legal existence– limited liability of shareholders– transferability of ownership relatively easy– indefinite life of organization

What are some disadvantages?– more costly to operate– extensive governmental regulation


Explain the development of accounting standards,

and describe the concepts and principles.

Objective 4


Development of AccountingStandards

Accounting Standards Board (AcSB) of the Canadian

Institute of Chartered Accountants (CICA)

Accounting Standards Board (AcSB) of the Canadian

Institute of Chartered Accountants (CICA)

Generally Accepted Accounting Principles (GAAP)

Generally Accepted Accounting Principles (GAAP)


Conceptual Framework

Objective of financial reporting

Level 1

Qualitative characteristics of accounting information

Level 2

Elements of Financial StatementsLevel 3

Recognition and measurement criteriaLevel 4


Level 1: Objective of Financial Reporting

To provide information useful for making investment and lending decisions.

To assess management’s stewardship.


Level 2: Qualitative Characteristics

of Accounting Information

To be useful, information must be:– understandable;– relevant;– reliable;– comparable; and– consistent.


Level 3: Elements of Financial Statements

Assets Liabilities Equity Revenues Gains Expenses Losses


Level 4: Recognition andMeasurement Criteria

Assumptions

•Going Concern

•Monetary Unit

•Economic Entitty

•Time Period

Assumptions

•Going Concern

•Monetary Unit

•Economic Entitty

•Time Period

Principles

•Revenue Recognition

•Matching

•Full Disclosure

•Cost

Principles

•Revenue Recognition

•Matching

•Full Disclosure

•Cost

Constraints

•Cost/Benefit

•Materiality

Constraints

•Cost/Benefit

•Materiality


The Economic Entity Assumption

Transactions of each entity are accounted for separately from the transactions of all other organizations and persons.

Example: Keep business transactions separate from the personal transactions of the owner.


Information mustbe accurate and

verifiable.

Information mustbe accurate and

verifiable.

Information mustbe free from bias.Information mustbe free from bias.

Information must report what

actually happened.

Information must report what

actually happened.

Individuals wouldarrive at similar

conclusions usingsame data.

Individuals wouldarrive at similar

conclusions usingsame data.

The Reliability Characteristic


Assets and servicesacquired

should be recordedat their actual cost.

Assets and servicesacquired

should be recordedat their actual cost.

The Cost Principle


The entity will remain in

operation in the foreseeable future.

The entity will remain in

operation in the foreseeable future.

The Going-Concern Assumption


The dollar’s purchasing power

is relativelystable.

The dollar’s purchasing power

is relativelystable.

The Stable-Monetary-Unit Assumption


Describe and use the accounting equation to

analyze business transactions.

Objective 5


EconomicResources

Claims toEconomicResources

The Accounting Equation

Assets = Liabilities + Owner’s Equity


Asset

What is an asset? It is a resource owned that has future

benefit.– cash, office supplies, merchandise– furniture, land, buildings


Liability

What is a liability? It is something a company owes.

– money– service – legal retainers– product – magazines


Owner’s Equity

What is owner’s equity? It is what remains after liabilities have been

subtracted from assets.– the same as net assets– the owner’s claim on the entity’s assets


Transactions that AffectOwner’s Equity

INCREASES DECREASES

Owner Investmentsin the Business

Revenues Expenses

Owner Withdrawalsfrom the Business

Owner’s Equity


Revenues

What are revenues? They are amounts earned by delivering

goods or services to customers.– sales– performance of services– rent earned– interest earned


Expenses

What are expenses? They are amounts that have been paid or

will be paid later for costs that have been incurred to earn revenue.– rent– salaries and wages– utilities– supplies used


Accounting for Business Transactions

What is a transaction? It is an event that must always satisfy two

conditions:– it affects the financial position of the business;– it can be reliably recorded.


Accounting for Business Transactions: An Example

1 John Lapp invests $60 000 to begin SuperTravel.

2 SuperTravel purchases land for an office location, paying $40 000 in cash.

3 SuperTravel buys office supplies, agreeing to pay $1 000 in 30 days.

4 SuperTravel earns and collects service revenue of $5 000.



5 SuperTravel performs services, and the client agrees to pay $6 000 within one month.

6 During the month, SuperTravel pays $5 200 for expenses incurred.

7 SuperTravel pays $800 to the store from which it purchased $1 000 worth of supplies.

What is the effect of these transactions on the accounting equation?


Owner’s Assets = Liabilities + Equity

1) Cash + $60 000 + $60 0002) Cash – 40 000

Land + 40 0003) Supplies + 1 000 + 1 0004) Cash + 5 000 + 5 0005) Receivable + 6 000 + 6 0006) Cash – 5 200 – 5 2007) Cash – 800 – 800Totals + $66 000 + 200 + $65 800




Notice that the equation always stays in balance.

Each transaction affects at least two accounts, sometimes more.

Some transactions affect only one side of the equation; some affect both sides.



Other transactions that took place were as follows:

8. Remodelled John Lapp’s personal residence.

9. The business collected $2 000 from the client.

10. SuperTravel sold some land at cost for $22 000.

11. John Lapp withdrew $2 000 from the business.

What is the effect of these additional transactions on the accounting equation?


Prepare and evaluate the financial statements.

Objective 6


... are the formal reports of an entity’s

financial information.

... are the formal reports of an entity’s

financial information.

... show how thebusiness is performing

and where it stands.

... show how thebusiness is performing

and where it stands.

Financial Statements...


Financial Statements

1. Income Statement

2. Statement of Owner’s Equity

3. Balance Sheet

4. Cash Flow Statement

• Let’s look at the relationships among the financial statements


SuperTravelIncome Statement

for the Month Ended April 30, 2007

Revenue:

Service revenue $11 000

Expenses:

Rent expense $2 200

Salary expense 2 400

Utilities expense 600

Total expenses 5 200 5 200

Net income $5 800


John Lapp, Capital, April 1, 2007 $ 0

Investment by owner 60 000

Net income for the month 5 800

Withdrawalsby owner ( 2 000)

John Lapp, Capital, April 30, 2007 $63 800

SuperTravelStatement of Owner’s Equity



SuperTravelBalance SheetApril 30, 2007

Assets

Cash $ 41 000

Accounts receivable 4 000

Office supplies 1 000

Land 18 000

Total assets $ 64 000

Liabilities

Accounts payable $ 200

Owner’s Equity

J. Lapp, Capital 63 800

Total liabilities and

owner’s equity $ 64 000


SuperTravel Cash Flow Statement


Cash flows from operating activities:Cash collections from customers $7 000Cash payments to suppliers ( 3 600)

Cash payments to employees ( 2 400)Net cash inflow from operating activities $ 1 000

Cash flows from investing activitiesAcquisition of land ($40 000)Proceeds from sale of land 22 000Net cash outflow from investing activities ($ 18 000)


Cash flows from financing activities:

Investment by owner $60 000

Withdrawal by owner ( 2 000)

Net cash inflow from financing activities $ 58 000

Net increase in cash $ 41 000

Cash balance, April 1, 2007 0

Cash balance, April 30, 2007 $41 000

SuperTravel Cash Flow Statement

for the Month Ended April 30, 2007 (continued)


Analysis of the Financial Statements

Using the financial statements answer the following questions:

Did the business generate net income or a net loss?

What was the business’s largest expense? How much cash does the company have at the end

of April? How much does the company owe outsiders at

April 30?


End of Chapter 1

Documents

Accounting and the Business Environment