Topic 1: Introduction to financial accounting Accounting is the process of identifying, measuring and communicating economic information to allow informed decisions by the users of that information. The basic purpose of financial accounting is to produce useful information which is used in many and varied ways. People use the information generated by financial accounting to improve their decision-making in allocating scarce resources The users of financial statements do not all have the same information needs. They are all different people, with differing objectives so they are likely to need different information:UserType of information

BankersLikelihood of company meeting its interest payment on time

ManagersProfitability of each division of company

ASICFinancial position and performance issuing shares to public for 1st time

ShareholdersProspects for future dividend payments

SuppliersProbability that company will be able to pay for its purchases on time

ATOProfitability of company based on taxation laws

Trade unionsProfitability of company since last contract with employees was signed

The simplest method of accounting is to record cash when it is received or paid; this system is termed cash accounting. Alternatively, under an accrual accounting system, transactions are recorded in the period in which they occur; not when the cash is received or paid. It is important to understand the basic assumptions underlying current accounting practices and the preparation of financial statements: Accounting entity financial activities of the biz are separate from the owners Accounting period the life of the biz is divided into discrete equal time periods for the purpose of measuring performance Monetary transactions are measured using a common denominator i.e. $AUS Going concern financial statements are prepared with the assumption that the entity will continue operations in the foreseeable future Materiality items w/ a small dollar value are expensed rather than recorded as an asset Accrual basis financial reports are prepared on the accrual basis of accounting Historical cost assets are initially recorded at cost, however throughout time their value may change. Thus it is important to note at what valuation assets are being recorded

Topic 2: Measuring and evaluating financial position and performance The balance sheet lists at a particular point in time, all the account balances for assets (resources), liabilities (obligations) and owners equity of an organization informs us about the financial position of the enterprise in terms of financial structure and strength The heading of the statement includes the name of the company and date at which statement is drawn up i.e. Sound and Light Pty Ltd.Balance sheet as at 30 March 2011 A = L + OE assets have been financed using liabilities and equity the owners have invested in company

The income statement summarises how well the enterprise is performing and how it achieved this profit/loss summarises transactions over a specific period of time Heading of statement includes name of company and period for which statement is drawn i.e.Sound and Light Pty LtdIncome statement for period ended 30 March 2011 Revenue are increases in the companys wealth arising from the provision of services or sales of goods Expenses are decreases in the companys wealth that are incurred in order to earn revenue

The link between the income statement and balance sheet is through retained profits (accumulation of all profits that are not distributed to shareholders) it is the account in the balance sheet that provides the link as shown:Retained profits, beginning of period: 5000

Add: net profit(loss) for period: 2000

Less: dividends declared during period: (1000)

Retained profits, end of period: 6000

Topic 3: The double-entry system Transactions are events that affect the operations or finances of an organisations Transaction analysis involves examination of each business transaction with the aim of understanding its effect on the accounting equation. i.e.

Each double-entry record names one (or more) accounts that are debited, and one (or more) that are credited. Accounts contain all the transaction record and any adjustments, and therefore reflect everything recorded in the system. The double-entry records are called journal entries journal entries can list as many accounts as are needed to record the transaction, but for each journal entry, the sum of the debits must equal the sum of the credits as shown:

Topic 4: Record-keeping The accounting cycle represents the sequence of accounting procedures from the original documentary evidence of a transaction to the preparation of financial statements:1) SOURCE DOCUMENTS verify that a transaction has occurred and provide details of the transaction i.e. sales invoice, cheque butt, receiving reports

2) PREPARE JOURNAL ENTRIES prepared based on the details provided by source documents. A journal entry is an analysis of the effects of the transactions on the accounts; identifying debit and credit effects

3) POST TO LEDGERS process of transferring the amounts from the journals to appropriate accounts in the ledger. Ledgers have separate records for each individual account. These ledgers are then balanced by ensuring their accounts add up to the same amount.

4) PREPARE A TRIAL BALANCE trial balances are a listing of all the general ledger accounts with their balances. The balances are listed in the debit or credit column and must equal. The purpose of this is to prove that debits = credits and therefore the double-entry bookkeeping has occurred correctly.

5) PREPARE ADJUSTING JOURNAL ENTRIES adjusting entries are the final key process, before computing final ledger balances, of assigning the financial effects of transactions to the appropriate time periods. These journals are necessary to adjust the revenue and expense accounts to reflect: Expenses incurred but not yet paid Revenues earned but not yet received

Payment received prior to revenue being earned Prepayment of expenses and their expiration

6) PREPARE AN ADJUSTED TRIAL BALANCE this trial balance is taken out after all end-of-period accruals, corrections and other adjustments to ensure that debits still equals credits. This listing also provides a convenient summary of the balances of all accounts as a basis for preparation of closing entries

7) PREPARE CLOSING ENTRIES closing entries formally transfer the balances of revenue and expenses to the p/l summary account. It is then closed to the retained profit account. In this way, these accounts then have a zero balance to begin the next period. These accounts are temporary as they accumulate transactions for the period covered by the income statement and are then reset to zero to accumulate sales for the next period

8) PREPARE POST-CLOSING TRIAL BALANCE final trial balance taken out after closing entries are completed. This balance, therefore, only includes balance sheet accounts because income statement accounts have been closed to retained profit

9) PREPARE FINANCIAL STATEMENTS p/l summary account used in step 7 can be used to prepare the income statement and the post-closing trial balance can be used to prepare the balance sheetTopic 5: Revenue and expense recognition in accrual accounting Accrual accounting is the dominant form of financial accounting in the world today. It recognises revenues and expenses; regardless of when cash is collected Its purpose is to extend the measurement of financial performance and position by recognizing events before and after cash flows, as well as at the point of cash flows.ExampleJournal entry

Recognition of revenue or expense at same time as cash inflow or outflowRetail shop records a cash sale of $48 to a customer: cash and sales revenue: DR Cash48

CR Sales48

Recognition of revenue or expense prior to cash flowLawyer performs services for a client in June 2009 and bills client $500 to be paid within 30 days: Accounts receivable and Fee revenue:DR Accounts receivable500

CR Fee revenue500

Recognition of revenue and expense after cash flowDogwood recognises a portion of the cost of the building as an operating expense: Depreciation expense and Accumulated depreciation:DR Depreciation expense4000

CR Accumulated depreciation4000

Cash collections or payments related to previously recognised revenues and expensesLawyer receives full payment from her client in July 2009: Cash and Accounts receivable:DR Cash500

CR Accounts receivable500

Cash inflow or outflow before revenue and expense recognitionLawyer receives an advance of $2500 from a client for future services. The revenue will not be earned until a later date when services are performed. Recognition of revenue is deferred until the service has been performed: Cash and Customer deposits:DR Cash2500

CR Customer deposits2500

Adjusting journal entries assign the financial effects of transactions to the appropriate time periods adjusting entries are made when financial statements are about to be prepared, this ensures all relevant information is included to provide useful information for decision-making. There are four main types of routine adjustments that need to be accounted for:1. EXPIRATION OF ASSETS prepaid expenses arise because the payment schedule for an expense does not match the companys financial period i.e. insurance premiums is paid one year in advance.The initial journal entry to record the payment would be at some time during the year:DR Prepaid InsuranceCR Cash

At the end of the period, the part of the expense relating to the current financial year would be transferred to expenses:DR Insurance expenseCR Prepaid insurance

2. UNEARNED REVENUES arise where cash has been received prior to the earning of revenue. Unearned revenue is recorded as a liability until such time as the work is performed and the revenue earned i.e. a publisher receives subscription revenue prior to the production of the magazine. Initial journal entry to record the cash receipt:DR CashCR Unearned subscription revenue

Each month when magazine is published and sent, revenue is recognisedDR Unearned subscription revenueCR Revenue

3. ACCRUAL OF UNRECORDED EXPENSES it is essential that at the end of each period the biz checks that all expenses have been recorded regardless of whether payment has been made i.e. date of wage payments rarely coincide w/ period end. The wages owing for work performed but not yet paid needs to be accrued.The entry for this portion of wage is:DR Wage expenseCR Wages accrued

4. ACCRUAL OF UNRECORDED REVENUES occurs when a service has been provided but cash will not be received until the following i.e. interest is earned on bank deposits on a daily basis but paid annually; interest earned for financial period needs to be brought to accountDR Unearned revenueCR Revenue

Contra accounts: accounts established to accumulate certain deductions from an asset, liability or owners equity item (usually assets) i.e. Accounts receivable allowance for doubtful debts: when a company sells to a customer on account; there will always be some risk that the customer will fail to pay. Therefore, a portion of the sales on account will be doubtful and should be deducted from revenue.ScenarioJournal entry

Company determines that a portion of sales on account are not likely to be paidDR Bad debts expenseCR Allowance for doubtful debts

Company decides to write off account after being notified portion cannot be collectedDR Allowance for doubtful debtsCR Accounts receivable

Equipment accumulated depreciation: Asset costs $100,000 with a life of 5 years. Straight line depreciation each yearDR depreciation expense$20,000

CR Accumulated depreciation$20,000

After 3 years, book value is $100,000 ($60,000) = $40,000

Accumulated amotisation: allocation of the cost of a non-current asset to expense over the life of an asset to recognise the consumption of the assets value

Topic 6: Special journals, subsidiary ledgers and control accounts A worksheet is used to help prepare financial statements; it lists all the accounts vertically down the page starting with assets, liabilities, equity, revenue and expenses. Worksheets have 10 columns, or 5 sets of 2 columns each set has a debit and credit column. Previously, we entered all transactions into the general journal and posted individually to the general ledger most common transactions undertaken by biz can be recorded in special journals which allow for some classification and summarization to occur in the journal In special journals, each entry represents a transaction that belongs to the same class as others in the same journal. These special journals are used in addition to a general journal transactions that are not recorded in a special journal are recorded in the general journal (i.e. depreciation, adjustments for prepayments and other accrual) An advantage of special journals is that amounts are posted to general ledger as totals rather than as individual journal entries Subsidiary ledgers are a set of ledger accounts that collectively represent a detailed analysis of one general ledger account i.e. debtors Relevant general ledger accounts are called a control account periodic reconciliation of subsidiary ledger to control account is needed. Examples of general ledger accounts that have subsidiary ledgers are debtors / accounts receivable (separate account for each debtor) and equipment separate record for each piece of equipment

Topic 7: Internal control and bank reconciliation Internal control is defined as all the policies and procedures that are used by management to ensure effective and efficient operations as well as the reliability of financial reporting in compliance with laws and regulations Internal control systems consist of all measures employed by an entity to: Promote accuracy and reliability of accounting data Encourage compliance with management policies and government regulation Safeguard its resources against waste, fraud and inefficiency Five components of internal control systems:1. Control activities policies & procedures ensuring management directives are carried out2. Risk assessment identify and analyze risk; to determine how risk should be managed3. Information and communication information collected and effectively communicated to enable people to carry out their responsibilities4. Monitoring ongoing monitoring and separate evaluation to assess quality of performance5. Control Environment provides discipline and structure which sets tone for organization Features of an effective internal control system include: Competent employees Clearly established lines of responsibility Maintenance of effective records Adequate insurance Adequate pay and motivation for employees Employees take regular leave

Cash is the most liquid asset and cannot be specifically identified as belonging to one particular person (anonymous) so it is hard to control therefore cash requires strong internal control Petty cash is a fund set up to make small cash payments, especially those that are impractical or uneconomical to make by cheque i.e. miscellaneous office needs Petty cash funds are created by cashing a cheque drawn on the companys regular cheque account. The cash is then kept in a petty cash box and is controlled by an authorized individual. Payments from petty cash must be accompanied by a petty cash voucher as well as the third-party receipt, where possible. The fund is replenished when the amount of cash becomes low. Journal entries are required for the set-up of the fund, and each time it is replenished, to record the expenses incurred Bank reconciliations are used as additional internal control by comparing the bank statement with the cash account in the general ledger The main reason that the bank statement and bank account per the ledger will not agree is due to timing differences including: Items in the companys accounts that have not yet been recorded on the bank statement including deposits in transit and unpresented cheques Items included on the bank statement that have not yet been entered in the companys records, including non-sufficient funds cheques, bank fees, amounts received directly into bank account, interested collected by bank and interest earned on the account Errors made by either the bank or the company

Topic 8: Introduction to inventory, non-current assets and contra accounts There are two methods of recording and controlling inventory:1. Perpetual controls inventory by maintaining continuous records on the flow of units of inventory more costly, but provides better control as stock losses are easily determinable2. Periodic calculates inventory by using data on beginning inventory, additions to inventory and an end-of-period count to deduce the COGS

Three major types of cost flow assumptions:1. First-in First-out method (FIFO) assumes that the first units purchased are the first units sold. Ending inventory therefore is assumed to consist of the most recently acquired units2. Last-in First-out method (LIFO) assumes the opposite of FIFO, saying that any inventory on hand consists of the oldest units3. Weighted Average method (WAM) weighted average cost is calculated, then applied to the number of units sold & number of units in ending inventory assumes ending inventory and COGS are composed of both new and old units. In times of rising purchasing prices: FIFO results in the highest ending inventory, lowest COGS and highest gross / net profit LIFO results in lowest ending inventory, highest COGS and lowest gross / net profit WAM results fall between FIFO and LIFO Property, plant and equipment are tangible items that are held for use in production, rental to others or for administrative purposes expected to be used during more than one period The basic premise is that assets will be valued and recorded on the balance sheet at its initial historical cost. The cost of an asset includes those required to make asset suitable for its purpose Depreciation is the systematic allocation of the depreciable amount of an asset over its useful life, not valuation. Property, plant and equipment usually have limited useful lives.

There are three main methods of calculating depreciation of assets:1. Straight-line depreciation This method is used if decline in value is expected to be uniform across the life of asset (same depreciation expense each year)

Residual value is the estimated amount that an entity would obtain from the disposal of the asset at the end of its useful life. Useful life is the period of time over which an asset is expected to be available for use

2. Reducing balance depreciation Assumes that the benefits are used more in the earlier years of the life of the asset

3. Units of production depreciation This method if the most common activity-based method of apportioning costs

Activity-based depreciation methods provide a more theoretically correct approach for reflecting the expected pattern of consumption over the economic life of the asset However, it is not feasible to apply activity-based depreciation methods to all assets

The method used to calculate depreciation should reflect the use of the assets economic benefit Depreciation method should be reviewed periodically. If there has been a significant change in expected consumption of economic benefits, method should be changed to reflect thisTopic 9: Contents of annual reports in Australia, introduction to cash flow statements, auditors reports, corporate governance A phrase often used in relation to accountings conceptual structure is generally accepted accounting principles (GAAP) they are rules, standards and usual practices that companies are expected to follow when preparing their financial statements. There are four principal qualitative characteristics of financial reports:1. Understandability: users are expected to have a reasonable knowledge of business, economic activities and accounting to study the information with reasonable diligence. However, recently there has been issues claiming that accounting has become so complex even experts have trouble understanding a published set of financial reports. 2. Relevance: information should assist users to make, confirm or correct predictions about past, present or future outcomes. The relevance of information is affected by both its nature and magnitude.3. Reliability: financial reports must be faithfully represented so that it portrays its purpose, have substance over form so that transactions are in accordance with their economic reality. They must also be neutral; free from bias, complete; information is not omitted4. Comparability: period-to-period and company-to-company Assets are resources controlled by the entity as a result of past transactions and from which future economic benefits are expected to flow to the entity. Characteristics include:i. Future economic benefits: potential to contribute to future cash flow through its useii. Control by entity not limited to legal ownershipiii. Occurrence of past transactions are usually by purchase or production Assets should be recognised only when: It is probable that its associated future economic benefits will flow to the entity Item has a cost or value that can be measured with reliability Liabilities are present obligations arising from past events, the settlements of what are expected to result in an outflow from the entity of resources embodying economic benefits. Essential characteristics of liabilities include:i. Existence of a present obligationii. The obligation involves settlement in the future via the sacrifice of service potential or future economic benefits Liabilities should only be recognised when: It is probable that the future sacrifice of economic benefits will be required The amount of the liability can be measured reliably Equity is defined as the residual interest in the assets of the entity after deduction of its liabilities. Accordingly, the concepts of assets & liabilities must be first defined. Understand the implications of accounting policy Discuss situations requiring judgments and ethical decisions

Topic 10: Basic ratio analysis The purpose of financial statement analysis is to use the financial statements to evaluate an enterprises financial performance and position. The validity of financial analysis based on accounting ratios has been challenged and critisied that future plans and expected results, not historical numbers should be used in computing performance ratios. Also, ratios are meaningless on their own; they need to be benchmarked against results from prior years or against other companies in the same industry Types of ratios:1. Performance ratios aim to give the financial statement user some indication of the companys record of generating profits and its potential for generating profits in the future. Some performance ratios include:RETURN ON EQUITY Indicates how much return the company is generating on the historically accumulated shareholders investment Owners are interested in expressing the profits of the firm as a rate of return on the amount of shareholders equity

RETURN ON ASSETS Describes the rate of return earned on the assets available

PROFIT MARGIN Indicates the percentage of sales revenue that ends up as profit, so it is the average profit on each dollar of sales

GROSS MARGIN Provides an indication of the companys product pricing and product mix.

EARNINGS PER SHARE EPS relates earnings attributable to ordinary shares to the number of ordinary shares issued.

2. Activity (turnover) ratios aim to give the financial statement users some indication of the companys operations in certain areas. These include:TOTAL ASSET TURNOVER Reflects a companys ability to use its assets to generate sales indication of operating efficiency

INVENTORY TURNOVER Measures the number of times inventory is sold or used during the period indication of the efficiency of inventory management

Measure of how long, in days, inventory is held on average

DEBTORS TURNOVER This ratio indicates the efficiency of the company to collect the amount due from debtors

Debtors turnover can be divided into 365 days in order to calculate the average number of days to collect accounts receivable. If it is too high, it indicates a problem with the granting of credit If it is too low, it indicates that credit granting policies are too strict and sales are being lost

3. Liquidity ratios aim at giving the financial statement user some indication of the companys ability to pay its short-term debts as they fall due, includes:CURRENT RATIO This ratio measures the ability of the company to pay its current debts as they become due If the ratio is small, it may indicate a problem in paying short-term debts If it is too high, it may indicate that the company may not be efficiently be using its current assets

QUICK RATIO Generally similar to current ratio, just remove inventory from numerator Particularly useful for companies that cannot easily convert inventory into cash quickly if necessary

4. Financial structure ratios measure the ability of the company to continue operations in the long-term. Ratios may include:DEBT-TO-EQUITY RATIO Measure of the proportion of the companys borrowing to owners investment may indicate policy regarding financing of its assets Greater than 1 means assets are mostly financed with debt Too high ratio is a warning about risk

DEBT-TO-ASSETS RATIO Indicates the proportion of assets finance by liabilities The greater the ratio, the greater risk will be associated with the firms operations

LEVERAGE RATIO Measures how much the companys assets are finance by equity The higher the ratio, the more the companys assets are funded by equity

Topic 11: Introduction to management accounting and cost concepts There are four main functions that managers are expected to perform:1. Planning: formulating short- and long-term plans2. Organising: assigning tasks and allocating resources3. Leading: directing, motivating and implementing plans4. Controlling: comparing actual and planned performance Management accounting refers to the processes and techniques that focus on the effective and efficient use of organisational resources to support managers in their tasks of enhancing both customer and shareholder value. Customer value is the value customers place on particular features of a product whereas shareholder value is the value that shareholders or owners place on the business. However, there is a trade-off between customer and shareholder value Management accounting systems are info systems that produce information required by managers to manage resources and create value. Although management accounting systems may not be able to provide all the information to satisfy managers decision-making needs, it provides information for planning and controlling operations, measuring performance and estimates of the costs of producing goods and services.ContextEvolution of management accounting

Prior to 1950s Focus on cost-accounting, primarily for inventory valuation and financial control, and the emphasis was on the management accountant as a scorekeeper for management.

1950-1965 The term management accounting began to be used, and referred to the provision of information to management for planning and control it now included investment appraisal, decision analysis and responsibility accounting as well as the established techniques of budgeting and planning and control

From mid-1980s Focus moved to waste reduction, and techniques involving process analysis and cost-management techniques were adopted. With the emergence of new IT processes and waste-reduction management, accounting often became team-oriented

From mid-1990s Focus shifted towards broader techniques of resource management, and focused on the creation of customer and shareholder value through the effective use of resources The domain of MA started to become a dimension of the management process with a broad range of managers such as marketing managers and engineers becoming more involved in the production & analysis of management accounting information

21st century MA has not abandoned the concepts of cost-accounting and financial control, nor the provision of information for planning & control, rather these objectives now form part of the broader function of resource management. Management accounting still involves many techniques developed in past decades, such as budgets and basic product-costing principles, however they are now supplemented by modern techniques that better assist managers in value creation.

Performance measures Performance measure systems may involve managers in the HRM area

The major differences between financial and management accounting include:Management accountingFinancial accounting

Info usersInternal: managers and employees at all levelsExternal: shareholders, creditors, banks, trade unions, govt bodies

RegulationsNo accounting standards or external rules are imposed. Info is generated to satisfy managers info needsAccountants must comply w/ Aus accounting standards and incorporated bodies must comply w/ applicable accounting standards and requirements of the Corporations Act 2001

Data sourcesBoth financial & non-financial data drawn from many sources core accounting system, physical & operational data, market, customer and economic dataFinancial data almost exclusively drawn from the organizations core transaction-based accounting system

Nature of infoHistoric, current and future-oriented; subjective, relevant, timely; supplied at various levels of detail to suit managers specific needsHistoric; objective; auditable; reliable; not-timely; not always relevant; highly aggregated

In manufacturing organisations, costs are subdivided into two major functional categories:Manufacturing costs (production) Direct manufacturing costs are those directly traceable to the product being manufactured In single-product firms, all manufacturing costs are direct In a multiple-product firm, there are two types of direct manufacturing costs: cost of raw materials and cost of labour needed to convert raw materials into finished product (direct labour) All other costs associated w/ manufacturing process are indirect costs Indirect costs are lumped into 1 category manufacturing overhead This category contains a wide variety of items including all factory-related indirect costs i.e. depreciation on plant & equipment, supplies, supervision, electricity and indirect labour

Non-manufacturing costs (selling and administration) There are two categories of non-manufacturing costs: selling costs and administrative costs Selling costs are those costs necessary to market and distribute a product or service often referred to as order-getting and order-filling costs i.e. employee salaries, advertising, warehousing, shipping All costs associated with the general administration of the organisation that cannot be reasonably assigned to either marketing or manufacturing are administrative costs General administration is responsible for ensuring that the various activities of the organisation are properly integrated so that the overall objective of the firm is realised i.e. top-executive salaries, legal fees, general accounting and research / development

Cost of goods manufactured represents the total COGS completed during the current period. The only costs assigned to goods completed are the manufacturing costs of:1. Direct materials costs: costs of raw materials that are directly traceable to the product i.e. steel in motor vehicle, wood in furniture, alcohol in beer2. Direct labour costs: cost of labour used to convert raw materials into a finished product i.e. wages for employees who assemble, package or sew3. Manufacturing overheads: costs that cannot be economically and conveniently associated with a particular cost object i.e. depreciation, maintenance supplies, supervision Details of this cost assignment are given in a supporting schedule known as the statement of cost of goods manufactured.