The Basic Objective of Accounting

The basic objective of accounting is to identify and measure the activities of a business entity in order to evaluate its performance and ot assess its financial health; then communicate the results to stakeholders through a set of accounting reports that contain useful information so as to help them make rational economic decisions

Financial statements financial statements are the business documents that companies use to report the results of their activities to various user groups. The system of accounting produces the following statements:

1. Income Statement
2. Statement of Retained Earnings
3. Balance sheet
4. Statement of Cash Flow

Organizing a Business

Proprietorship – One
Partnership – Partners – two o more
Corporation – Stockholders – usually man

Personal liability of owner for business debts
Proprietor is personally liable
Partners are personally liable
Stockholders are not personally liable

Financial statements How well did the company perform during the year?
Income statement
Revenues – Expenses = Net Income or (net loss)

Why did the company’s retained earnings change during the year?
Shows how you spend
Statement of Retained Earnings
Beginning retained earnings + Net Income (- net Loss) – Dividends = Ending Retained Earnings

What is the company’s financial position at year-end?
Balance Sheet
Assets = Liabilities + Owners’ equity

How much cash did the company generate and spend during the year?
Statement of cash flows
Operating cash flows +/- Investing cash flows +/- Financing cash flows = Increase (decrease) in cash

For any account, the following formulation always applies:
Ending balance = Beginning Balance + in – Out
In: any thing that increases the account’s balance
Out: any thing that decreases the account’s balance
Beginning and ending are of the accounting period

Ending Retained earnings = beginning retained earnings + income (or – net loss) – dividends

Businesses that keep incurring losses year after year could potentially end up having NETATIVE retained earnings. Even worse, when the negative retained earnings are too high, business could potentially have NEGATIVE equity.

The Income Statement
Also called the Statement of Operations or Statement of Earnings
Reports two main categories
Revenues and gains
Expenses and losses
Shows the “bottom line”
Net Income or net loss of the period
Net income is the most important item in the financial statements
Reports revenue and expenses
These accounts are only reported on the Income Statement
Shows net income or net loss
If revenues exceeds expense company has net income
If expenses exceed revenues, company has net loss
Gains is what you get accidentally, not part of the business

Statement of Retained Earnings
Retained earnings is portion of net income company has kept over a period of years
Positive balance indicates revenues exceeded expenses
Accumulated deficit indicates expenses have exceeded revenues
Net income or net loss flows form the income statement to the statement of retained earnings
Microsoft has to share in values, and it matured

The Balance Sheet (Statement of Financial Position)
Assets
Liabilities
Recognition (Identification)
Measurement (Valuation)
Disclosure(Classification
Assets: Recognition
Future Benefits
R&D expensing
Rights to future benefits
Human Capital
Quantifiable
Intangibles
Assets: Measurement
Historical Cost
Put down original cost
Market Value
Replacement Cost (Entry Value) net realizable value (Exit Value)
Present Value of future cash flows

Assets: Disclosure
Current Assets
Expected to be converted to cash, sold or consumed in the next year or within the business’s operating cycle
Whichever is longer
Include
Cash and cash equivalents
Short-term investments
Accounts and notes receivable
Inventory
Prepaid expenses
Long Term Assets
Will be held longer than one year
Include