Financial Accounting Exam 1 Review Chapter 1 Introduction to Financial Statements Primary forms of business organization o Sole proprietorship a business owned by one person Simple to establish Owner controls Tax advantages favorable tax treatment o Partnership a business owned by two or more persons associated as partners Simple to establish Shared control Broader skills and resources often formed because one person does not have enough economic resources Tax advantages more favorable tax treatment o Corporation a business organized as a separate legal entity having ownership divided into transferable shares of stock Easier to transfer ownership Easier to raise funds rely on investors who share stock they become stockholders No personal liability o Accounting the information system that identifies records and communicates the economic events of Users and uses of financial information an organization to interested users o Users Internal users managers who plan organize and run a business examples are marketing managers production supervisors finance directors and company officers Finance Is cash sufficient to pay dividends to stockholders Marketing What price for a product will maximize the company s net income Human resources Can we afford to give employees pay raises this year Management Which product line is the most profitable Should any product lines be eliminated External users Investors use accounting information to make decisions to buy hold or sell stock Creditors suppliers and bankers use accounting information to evaluate the risks of selling on credit or lending money Tax authorities want to know whether the company complies with the tax law example IRS Customers interested in whether the company will continue to honor product warranties and otherwise support its product lines Labor Unions want to know whether the owners have the ability to pay increased wages and benefits Regulatory agencies want to know whether the company is operating within prescribed rules example SEC or Federal Trade Commission o Ethics Sarbanes Oxley Act regulations passes by Congress in 2002 to try to reduce unethical corporation behavior Top management must now certify the accuracy of financial information Penalties for fraudulent financial activity are more severe Increased independence of the outside auditors who review the accuracy of corporate financial statements Increased oversight role of boards of directors Solving ethical dilemmas Financial Accounting Exam 1 Review Recognize an ethical situation and the ethical issues involved Identify and analyze the principal elements in the situation what are the responsibilities and obligations of the parties involved Identify the alternatives and weigh the impact of each alternative on various stakeholders who may be harmed or benefited Three principal types of business activity o Financing activities it takes money to make money sources are borrowing money and issuing shares of stock Creditors persons or entities to who a company owes money Liabilities the debts and obligations of a business it represents the amounts owed to creditors Note payable given to the bank for money borrowed to purchase something Bonds payable debt securities sold to investors that must be repaid at a particular date some years in the future purchase Common stock term used to describe the total paid in by stockholders for the shares they If you loan money to a company you are one of its creditors you specify a payment schedule and have the legal right to be paid at an agreeable time In the case of financial difficulties creditor claims must be paid before stockholders claims Dividends payments of cash from a corporation to its stockholders o Investing activities involve the purchase of the resources a company needs in order to operate Assets resources owned by a business like computers delivery trucks furniture and buildings Property plant and equipment called fixed assets Cash if a company has excess cash is may chose to invest in securities stocks or bonds of other corporations this is an investment o Operating activities Revenues the increase in assets that results from the sale of a product or service in the normal course of business Sales revenue Service revenue Interest revenue Inventory goods available for future sales to customers ARE ASSETS Account receivable if a good is sold to a customer and does not receive money immediately then the company has the right to expect payment in the near future Expenses necessary to produce and sell products the cost of assets consumed or services used in the process of generating revenues Cost of goods sold Selling expenses salaries of employees Marketing expenses advertising Administrative expenses salaries of administrative staff Interest expense amount of interest paid on various debts Income taxes corporate taxes paid to government Liabilities accounts payable interest payable wages payable sales taxes payable property taxes payable income taxes payable Net income the amount by which revenues exceed expenses revenues expenses net income Net loss the amount by with expenses exceed revenues Financial statements are used to communicate with users o Comparative statement financial statements of a company for more than one year Financial Accounting Exam 1 Review The percentage change from one year to the next is The percentage change in income is change income previous years incme change during period previous value o Annual report presents financial information including financial statements notes a management discussion and analysis section and an independent auditor s report Management discussion and analysis management s views on the company s ability to pay near term obligations Notes to the financial statements clarify and expand upon information Auditor s reports report by an independent outside auditor stating their opinion as to the fairness of the presentation Certified Public Accountant an individual who has met certain criteria and is thus allowed to perform audits of corporations o Balance sheets reports assets and claims to those assets at a specific point in time it is what your business owns and owes Stockholders equity is in two parts common stock and retained earnings end assests liabilities stockholder s equity o Income statement presents revenues and expenses and resulting net income or loss of a company for a specific time period shows the performance Used to help potential investors decided whether or
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