Summary Chapter 1 Financial Accounting:
Three activities:
As a starting point to the accounting process, a company identifies the economic events
relevant to its business.
Once these events are identified, they are recorded in order to provide a history of its
financial activities.
Finally, the company communicates the collected information to interested users by means
of accounting reports.
Who uses accounting data:
Internal users: they are managers who plan, organize and run the business. Managerial
accounting provides internal reports to help users make decisions about their companies.
External users: they are individuals and organizations outside a company who want financial
information about the company. The two most common are investors (owners) and
creditors (suppliers and bankers). Financial accounting provides economic and financial
information for external users.
Ethics in financial reporting:
Recognize an ethical situation and the ethical issues involved.
Identify and analyze the principal elements in the situation.
Identify the alternatives, and weigh the impact of each alternative on various stakeholders.
Accounting standards:
International accounting standards board: An accounting standard-setting body that issues
standards adopted by many countries outside of the United States.
Financial accounting standards board: A private organization that establishes generally
accepted accounting principles in the United States.
Measurement principles:
Historical cost principle: this dictates that companies record assets at their cost.
Fair value principle: this states that assets and liabilities should be reported at fair value.
Monetary unit assumption:
It requires that companies include in the accounting records only transaction data that can
be expressed in money terms.
Economic entity assumption:
It requires that the activities of the entity be kept separate and distinct from the activities of
its owner and all other economic entities.
o Proprietorship: a business owned by one person, the owner is often the manager of
the business.
o Partnership: a business owned by two or more persons associated as partners.
o Corporation: a business organized as a separate legal entity under jurisdiction
corporation law and having ownership divided into transferable shares. The
shareholders are not personally liable for the debts of the corporate entity.
,The accounting equation:
Assets: the resources a business owns, they have the capacity to provide future services or
benefits.
Liabilities: claims of those to whom the company owes money, existing debts and
obligations.
o Accounts payable: purchasing things on credit from suppliers.
o Note payable: money borrowed from the bank to purchase.
o Salaries and wages payable: paying employees.
o Sales and real estate taxes payable: paying to the local government.
Equity: claims of owners.
o Share capital – ordinary: term used to describe the amounts paid in by shareholders
for the ordinary shares they purchase.
o Retained earnings:
Revenues: the gross increases in equity resulting from business activities
entered into for the purpose of earning income.
Expenses: the costs of assets consumed or services used in the process of
earning revenue, they are decreases in equity resulting from operating the
business.
Dividends: the distribution of cash or other assets to shareholders, they are
not expenses.
Assets = liability + equity
Accounting transactions:
Business transactions: a business’s economic events recorded by accountants.
o External transactions: involve economic events between the company and some
outside enterprise.
o Internal transactions: economic events that occur entirely within one company.
Transaction analysis:
Each transaction must be analysed in terms of its effect on:
a. The three components of the basic accounting equation.
b. Specific types (kinds) of items within each component.
The two sides of the equation must always be equal.
The Share Capital—Ordinary and Retained Earnings columns indicate the causes of each
change in the shareholders’ claim on assets.
Financial statements:
An income statement presents the revenues and expenses and resulting net income or net
loss for a specific period of time.
A retained earnings statement summarizes the changes in retained earnings for a specific
period of time.
A statement of financial position reports the assets, liabilities and equity of a company at a
specific date.
A statement of cash flows summarizes information about the cash inflows (receipts) and
outflows (payments) for a specific period of time.
, A comprehensive income statement presents other comprehensive income items that are
not included in the determination of net income.
Public accounting:
Individuals in public accounting off er expert service to the general public, in much the same
way that doctors serve patients and lawyers serve clients.
Private accounting:
In private (or managerial) accounting, you would be involved in activities such as cost
accounting (finding the cost of producing specific products), budgeting, accounting
information system design and support, and tax planning and preparation.
Governmental accounting:
Another option is to pursue one of the many accounting opportunities in governmental
agencies.
Forensic accounting:
Forensic accounting uses accounting, auditing, and investigative skills to conduct
investigations into theft and fraud.
, Summary Chapter 2 Financial Accounting:
The account:
An account is an individual accounting record of increases and decreases in a specific asset,
liability, or equity item.
Debits and credits:
Notice that in the account form, we record the increases in cash as debits and the decreases
in cash as credits.
Debit is the left side of the account and credit is the rights side.
Debit and credit procedures for assets and liabilities:
Increase in cash (asset) are entered on the left side and decreases on the right side.
Increases and decreases in liabilities have to be recorded opposite from increases and
decreases in assets.
Debit and credit procedures for equity:
Share-capital ordinary: Companies issue share capital—ordinary in exchange for the owners’
investment paid in to the company. Credits increase the Share Capital—Ordinary account,
and debits decrease it.
Retained earnings: Retained earnings is net income that is kept in the business. It represents
the portion of equity that the company has accumulated through the profitable operation of
the business. Credits (net income) increase the Retained Earnings account, and debits
(dividends or net losses) decrease it.
Dividends: A dividend is a company’s distribution to its shareholders. The most common
form of a distribution is a cash dividend. Dividends reduce the shareholders’ claims on
retained earnings. Debits increase the Dividends account, and credits decrease it.
Revenues and expenses: Revenue accounts are increased by credits and decreased by
debits, expense accounts are increased by debits and decreased by credits.
The recording process:
1. Analyze each transaction in terms of its effect on the accounts.
2. Enter the transaction information in a journal.
3. Transfer the journal information to the appropriate accounts in the ledger.
Simple and compound entries:
A simple entry only involves two accounts, one debit and one credit.
A compound entry is an entry that requires three or more accounts.
In a compound entry, standard format requires that all debits be listed before the credits.
The ledger:
The entire group of accounts maintained by a company is the ledger, it provides the balance
in each of the accounts as well as keeps track of changes in these balances.
Three activities:
As a starting point to the accounting process, a company identifies the economic events
relevant to its business.
Once these events are identified, they are recorded in order to provide a history of its
financial activities.
Finally, the company communicates the collected information to interested users by means
of accounting reports.
Who uses accounting data:
Internal users: they are managers who plan, organize and run the business. Managerial
accounting provides internal reports to help users make decisions about their companies.
External users: they are individuals and organizations outside a company who want financial
information about the company. The two most common are investors (owners) and
creditors (suppliers and bankers). Financial accounting provides economic and financial
information for external users.
Ethics in financial reporting:
Recognize an ethical situation and the ethical issues involved.
Identify and analyze the principal elements in the situation.
Identify the alternatives, and weigh the impact of each alternative on various stakeholders.
Accounting standards:
International accounting standards board: An accounting standard-setting body that issues
standards adopted by many countries outside of the United States.
Financial accounting standards board: A private organization that establishes generally
accepted accounting principles in the United States.
Measurement principles:
Historical cost principle: this dictates that companies record assets at their cost.
Fair value principle: this states that assets and liabilities should be reported at fair value.
Monetary unit assumption:
It requires that companies include in the accounting records only transaction data that can
be expressed in money terms.
Economic entity assumption:
It requires that the activities of the entity be kept separate and distinct from the activities of
its owner and all other economic entities.
o Proprietorship: a business owned by one person, the owner is often the manager of
the business.
o Partnership: a business owned by two or more persons associated as partners.
o Corporation: a business organized as a separate legal entity under jurisdiction
corporation law and having ownership divided into transferable shares. The
shareholders are not personally liable for the debts of the corporate entity.
,The accounting equation:
Assets: the resources a business owns, they have the capacity to provide future services or
benefits.
Liabilities: claims of those to whom the company owes money, existing debts and
obligations.
o Accounts payable: purchasing things on credit from suppliers.
o Note payable: money borrowed from the bank to purchase.
o Salaries and wages payable: paying employees.
o Sales and real estate taxes payable: paying to the local government.
Equity: claims of owners.
o Share capital – ordinary: term used to describe the amounts paid in by shareholders
for the ordinary shares they purchase.
o Retained earnings:
Revenues: the gross increases in equity resulting from business activities
entered into for the purpose of earning income.
Expenses: the costs of assets consumed or services used in the process of
earning revenue, they are decreases in equity resulting from operating the
business.
Dividends: the distribution of cash or other assets to shareholders, they are
not expenses.
Assets = liability + equity
Accounting transactions:
Business transactions: a business’s economic events recorded by accountants.
o External transactions: involve economic events between the company and some
outside enterprise.
o Internal transactions: economic events that occur entirely within one company.
Transaction analysis:
Each transaction must be analysed in terms of its effect on:
a. The three components of the basic accounting equation.
b. Specific types (kinds) of items within each component.
The two sides of the equation must always be equal.
The Share Capital—Ordinary and Retained Earnings columns indicate the causes of each
change in the shareholders’ claim on assets.
Financial statements:
An income statement presents the revenues and expenses and resulting net income or net
loss for a specific period of time.
A retained earnings statement summarizes the changes in retained earnings for a specific
period of time.
A statement of financial position reports the assets, liabilities and equity of a company at a
specific date.
A statement of cash flows summarizes information about the cash inflows (receipts) and
outflows (payments) for a specific period of time.
, A comprehensive income statement presents other comprehensive income items that are
not included in the determination of net income.
Public accounting:
Individuals in public accounting off er expert service to the general public, in much the same
way that doctors serve patients and lawyers serve clients.
Private accounting:
In private (or managerial) accounting, you would be involved in activities such as cost
accounting (finding the cost of producing specific products), budgeting, accounting
information system design and support, and tax planning and preparation.
Governmental accounting:
Another option is to pursue one of the many accounting opportunities in governmental
agencies.
Forensic accounting:
Forensic accounting uses accounting, auditing, and investigative skills to conduct
investigations into theft and fraud.
, Summary Chapter 2 Financial Accounting:
The account:
An account is an individual accounting record of increases and decreases in a specific asset,
liability, or equity item.
Debits and credits:
Notice that in the account form, we record the increases in cash as debits and the decreases
in cash as credits.
Debit is the left side of the account and credit is the rights side.
Debit and credit procedures for assets and liabilities:
Increase in cash (asset) are entered on the left side and decreases on the right side.
Increases and decreases in liabilities have to be recorded opposite from increases and
decreases in assets.
Debit and credit procedures for equity:
Share-capital ordinary: Companies issue share capital—ordinary in exchange for the owners’
investment paid in to the company. Credits increase the Share Capital—Ordinary account,
and debits decrease it.
Retained earnings: Retained earnings is net income that is kept in the business. It represents
the portion of equity that the company has accumulated through the profitable operation of
the business. Credits (net income) increase the Retained Earnings account, and debits
(dividends or net losses) decrease it.
Dividends: A dividend is a company’s distribution to its shareholders. The most common
form of a distribution is a cash dividend. Dividends reduce the shareholders’ claims on
retained earnings. Debits increase the Dividends account, and credits decrease it.
Revenues and expenses: Revenue accounts are increased by credits and decreased by
debits, expense accounts are increased by debits and decreased by credits.
The recording process:
1. Analyze each transaction in terms of its effect on the accounts.
2. Enter the transaction information in a journal.
3. Transfer the journal information to the appropriate accounts in the ledger.
Simple and compound entries:
A simple entry only involves two accounts, one debit and one credit.
A compound entry is an entry that requires three or more accounts.
In a compound entry, standard format requires that all debits be listed before the credits.
The ledger:
The entire group of accounts maintained by a company is the ledger, it provides the balance
in each of the accounts as well as keeps track of changes in these balances.
