Financial AccountingFinancial Accounting

Accounting is---Accounting is---– A system by which assumed responsibility is A system by which assumed responsibility is

validatedvalidated Accounting may validate—Accounting may validate—

– Internal responsibility to one’s own selfInternal responsibility to one’s own self– External responsibility to people other than External responsibility to people other than

one’s own selfone’s own self Financial Accounting –Financial Accounting –

– Primarily validates responsibility externally Primarily validates responsibility externally

Financial StatementsFinancial StatementsThe Means of External The Means of External

ReportingReporting Balance Sheet--Balance Sheet--

– Investing and Financing Activities are the Investing and Financing Activities are the first order of businessfirst order of business

– Defined by the basic accounting equationDefined by the basic accounting equation– That is, Assets = Liabilities + Owners’ EquityThat is, Assets = Liabilities + Owners’ Equity

Increases and (or) decreases on each Increases and (or) decreases on each side of the = sign must balanceside of the = sign must balance

Algebraic Equation: A = L + OE; can be Algebraic Equation: A = L + OE; can be rearranged to A – L = OE or Net Assets; rearranged to A – L = OE or Net Assets; also known as net worth or equityalso known as net worth or equity

Income StatementIncome Statement Also called the Statement of Operations—Also called the Statement of Operations—

– Operating activities (day-to-day) operations Operating activities (day-to-day) operations by which the business attempts to make a by which the business attempts to make a profitprofit

Revenues and gains represent inflows of Revenues and gains represent inflows of resources (assets) resources (assets)

Expenses and losses represent outflows Expenses and losses represent outflows of assets or increases in liabilitiesof assets or increases in liabilities

The net difference is either Net Income or The net difference is either Net Income or Net Loss for a specific period of timeNet Loss for a specific period of time

Net Income increases owners’ equity and Net Income increases owners’ equity and net losses decrease owners’ equitynet losses decrease owners’ equity

Cash Flow StatementCash Flow Statement Identifies cash flows during the period—Identifies cash flows during the period—

– Operating Activity Inflows (Outflows)Operating Activity Inflows (Outflows)– Investing Activity Inflows (Outflows)Investing Activity Inflows (Outflows)– Financing Activity Inflows (Outflows)Financing Activity Inflows (Outflows)

Sum of above three is net increase Sum of above three is net increase (decrease) in cash for the period(decrease) in cash for the period

Net increase (decrease) for period is Net increase (decrease) for period is then added (subtracted) to the beginning then added (subtracted) to the beginning balance to give the ending balance balance to give the ending balance

Owners’ Equity StatementOwners’ Equity Statement Must be either a separate financial Must be either a separate financial

statement or disclosed in the Notes to statement or disclosed in the Notes to the Financial Statementsthe Financial Statements

Depends on type of entity—Depends on type of entity—– Sole proprietorship or partnershipSole proprietorship or partnership

Capital account for each ownerCapital account for each owner

– Corporation—(Illustrated in this chapter)Corporation—(Illustrated in this chapter) Contributed Capital (capital from sources other Contributed Capital (capital from sources other

than profit seeking activities)than profit seeking activities) Retained Earnings—Represents all profits current Retained Earnings—Represents all profits current

and past that have not been returned to owners and past that have not been returned to owners in the form of dividendsin the form of dividends

Owners’ Equity Statement, Owners’ Equity Statement, Cont’dCont’d

If no activity during the period in If no activity during the period in contributed capital accounts—contributed capital accounts—– Just the Retained Earnings StatementJust the Retained Earnings Statement

Beginning Balance plus (+) Net Income for the Beginning Balance plus (+) Net Income for the period, or minus (-) Net Loss; Minus (-) Dividends period, or minus (-) Net Loss; Minus (-) Dividends Declared during the period (example on p. 17 in Declared during the period (example on p. 17 in your text)your text)

Note: Dividends are not expenses so they do not go Note: Dividends are not expenses so they do not go on the income statementon the income statement

If activity in Contributed Capital Accounts, If activity in Contributed Capital Accounts, then a complete Owners’ Equity Statement then a complete Owners’ Equity Statement must be prepared, similar to p 766 must be prepared, similar to p 766

Articulation of Financial Articulation of Financial StatementsStatements

Exhibit 1.6 page 17 in TextExhibit 1.6 page 17 in Text

RevenueRevenue $37436$37436

ExpensesExpenses 34136 34136

Net IncomeNet Income $ 3300 $ 3300

Beg BalBeg Bal $6805$6805

Net IncomeNet Income 33003300

DividendsDividends -1000-1000

End BalanceEnd Balance $9105$9105

CashCash $ 4895$ 4895

Other AssetsOther Assets 2236622366

Total AssetsTotal Assets $27261$27261

LiabilitiesLiabilities $16156$16156

Contributed Contributed CapitalCapital

20002000

Retained Retained EarningsEarnings

91059105

Total Liab & OETotal Liab & OE $27261$27261

Income Statement

Change in Change in CashCash

$ ( 156)$ ( 156)

Beg BalanceBeg Balance 50515051 End BalanceEnd Balance $ 4895$ 4895

Retained Earnings Statement

Balance Sheet

Cash Flow Statement