1 The Role of Accounting in Business Chapter 1 A200 Survey of Accounting University of Tennessee 2 Ch 1 The role of Accounting in Business Accounting is the language of business It provides information to both external and internal stakeholders so they can 1 evaluate the company s current health 2 evaluate the company s future prospects Financial Accounting gives historical information to external stakeholders about 1 changes in financial condition during a period three financial statements Income Statement Statement of Retained Earnings Statement of Cash Flows 2 financial condition at a single point in time one financial statement Balance Sheet Managerial Accounting gives forward focused information to internal stakeholders so they can make decisions about the future 1 projected financial statements 2 daily progress reports 3 Ch 1 Business Types Business An organization that sells goods or services to customers A200 focuses on businesses that are operated to earn a profit Many of the same Accounting rules apply to not for profit businesses Service business Provides services to customers human knowledge talent or strength Does not sell goods Merchandising business Buys finished goods from manufacturers and sells them to customers Also called a middleman Manufacturing business Buys basic inputs materials labor and overhead from suppliers Converts them into finished goods for sale to customers usually merchandisers All three business types can operate in any of four business forms Ch 1 Business Forms Proprietorship Owned by one individual owner Organization easy and inexpensive Resources limited to cash or other assets the owner can contribute or borrow Entity not a separate legal entity from owner owner is liable for all business debt no limited liability Income Tax one level of taxation owner pays tax individually on business income Partnership Owned by more than one individual or entity partners Organization fairly easy and inexpensive Resources partnerships can generally raise more than proprietorships but a P S faces difficulties raising a lot if business grows too large cannot issue stock Entity separate legal entity from partners but each general partner is legally liable for the actions of other partners no limited liability Income Tax one level of taxation partners pay tax individually on business income 4 5 Ch 1 Business Forms Corporation Owned by more than one individual or entity stockholders Organization relatively difficult and expensive Resources can generally raise large amounts by issuing stock Entity separate legal entity from stockholders who are at risk for only the amount they invested limited liability Income Tax two levels of taxation corporation pays tax on business income and stockholders pay tax on dividends received from the corporation double taxation of business income Limited Liability Company LLC Owned by more than one individual or entity members Organization fairly easy and inexpensive Resources can generally raise more than proprietorships but an LLC faces difficulties raising a lot if business grows too large cannot issue stock Entity separate legal entity from members who are at risk for only the amount they invested limited liability Income Tax one level of taxation treated as a partnership for tax purposes members pay tax individually on business income 6 Ch 1 How do businesses make a profit Revenues amount the business earned this period Expenses costs the business incurred this period in earning revenue Net Income profit of this period or Net Loss if expenses exceed revenues This is a basic Income Statement Businesses maximize profit by increasing revenue and or decreasing expenses Business Strategy Gaining a Competitive Advantage Low cost emphasis Business produces products or services of acceptable quality at a cost lower than its competitors cost Premium price emphasis Business produces products or services that have unique qualities for which customers are willing to pay a premium price 7 Ch 1 Stakeholders Entities with an interest in a business External Stakeholders Capital Market stakeholders Lenders Creditors lend money to the business want it paid back with interest Owners Stockholders invest money in the business want a return on investment Product Service Market stakeholders Suppliers sell goods or services to the business Customers buy goods or services from the business Government stakeholders Federal State Local or Foreign collect taxes from the business and regulate business activities Internal Stakeholders Business managers and employees operate the business to earn profit 8 Ch 1 Business Activities The Business Cycle Acquire Cash Financing Make and sell goods or services Operating Acquire Operating Assets Investing Financing The business acquires cash to organize and operate Debt Financing Cash is acquired by borrowing This creates an asset cash and an equal liability a payable obligation to repay the borrowed amount Equity Financing Cash is acquired by selling pieces of ownership in the company to investors This creates an asset cash and an equal equity stock 9 Ch 1 Business Activities Investing The business uses cash to acquire other Assets resources needed to start operating Tangible assets Physical resources Intangible assets Non physical resources Operating The business engages in day to day activities that generate revenues and expenses Revenues Increases in assets from selling goods or services Expenses Costs of earning revenue Net Income Revenue Expenses Net Loss Revenue Expenses 10 Ch 1 Accounts and Financial Statements Accounts summarize the effects of business transactions Six account categories Assets Liabilities Equity Revenues Expenses Dividends Each category can have many individual accounts All appear on one of the four financial statements required by Generally Accepted Accounting Principles GAAP 1 Income Statement a flow statement Revenues Expenses Net Income amount the business earned this period costs the business incurred this period in earning revenue profit of this period or Net Loss if expenses exceed revenue 2 Statement of Retained Earnings a flow statement Beginning RE Net Income Dividends Ending RE Matching equity on Balance Sheet at the end of last period from the Income Statement portion of net income to be distributed to owners equity on Balance Sheet at the end of this period Concept Ch 1 Accounts and Financial Statements 11 3 Balance Sheet a position statement Assets Liabilities Resources