Module 1 notes - Summary Introduction to Financial Accounting PDF

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York university ADMS 2500: Introduction to Financial accounting summary notes. Prof was John K....

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Jan 13, 2015

Module 1: Introduction What is Accounting and Why is it Important - Accounting is a system for measuring the results of business activities and communicating those results to interested users. - Accounting is the means by which managers are informed of the financial status and progress of their companies, thus contributing to the continuing processes of planning, control of operations, and decision-making. Accounting provides a method of systematically recording and evaluating business activities. - Accounting can be defined as the process of (1) recording, (2) classifying, and (3) reporting and (4) interpreting the financial data of an organization. Financial and Managerial Accounting - The two main divisions of accounting are financial accounting and managerial accounting. - Financial accounting concerns itself with the preparation of reports for use by persons outside a firm. For example, a bank may want information on the cash-generating ability of a firm in deciding whether or not to grant a loan. A potential investor may desire information on a firm's profitability before deciding to purchase its common shares. - Managerial accounting concerns itself with the preparation of reports for use by managers within a firm. - The Accounting Standards Board (ASB) of the CICA is the principal rule-making body in Canada. Canadian GAAP in turn is harmonized with international standards (IFRS). Financial Statements 1. Balance Sheet (aka the statement of financial position): Lists the enterprise's assets (economic resources), its liabilities (obligations) and the owners' residual interest at a point in time. Use: Will the enterprise do as well in the future? Does it have the resources it needs? What promises were made to obtain these resources, i.e., what are its obligations? 2. Income Statement: Presents the results of operating activities for a period of time. Use: How well is the enterprise doing? Is it profitable?

Jan 13, 2015

3. Statement of Equity: Shows the increases in equity from operating profits and new investment and distribution of assets to owners. Use: Are owners withdrawing resources or investing more resources? 4. Cash Flow Statement: Reports the change in cash and the cash inflows and outflows from operating, financing and investing activities for a period of time. Use: Does the enterprise generate enough cash to be self-sustaining? If not, where does it get cash to survive? If it generates excess cash, how does it use it? - Financial accounting statements are the main source of information for parties, other than governmental agencies, outside the business firm. To establish the validity of their financial statements, most firms have them audited by independent auditors. Balance Sheet - Note that the balance sheet of a firm changes with every single transaction, so that when we formally draw up a balance sheet we are depicting the firm’s financial position at one instant time. - The proper heading of a balance sheet consists of (1) the name of the organization, (2) the title of the statement, and (3) the date for which the statement was prepared. Balance Sheet Equation: Assets = Liabilities + Owners Equity Shows that all of the assets of the corporation are attributes to claims of its creditors and owners. - Double entry Bookkeeping: for every change in an asset, liability or owner's equity item, at least one other balancing change is made. Assets: - Assets are the economic resources of the business that can usefully be expressed in monetary terms. - Assets are usually listed in order of liquidity (cash, receivables, supplies and so on preceding the more permanent assets). - Liquidity: The ability or ease with which assets can be converted into cash. - The simplest way of defining an asset is a thing of value owned. - Current assets include cash and assets that are expected to be turned into cash, or sold, or consumed within approximately one year from the date of the balance sheet. Liabilities: - Liabilities, or creditors' equity, are the obligations, or debts, that the firm must pay in money or services at some time in the future.

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- Liabilities are listed on the balance sheet in the order that they will come due. - Current liabilities include liabilities that are expected to be paid within one year. Owners Equity: - Owners' equity is a residual claim- a claim to the assets remaining after the debts to creditors have been discharged. - Unlike creditors, owners/shareholders have only a residual interest in the assets of the firm. This means that owners have a claim only on assets in excess of those required to meet creditors' claims. - The shareholders' equity generally comprises two parts: contributed capital and retained earnings. - Contributed capital reflects the funds invested by shareholders for an ownership interest. - Retained earnings represent the earnings realized by a firm since its formation in excess of dividends distributed to shareholders. In other words, retained earnings are earnings reinvested by management for the benefit of shareholders. - Retained earnings are calculated by adding net income and subtracting dividends from the balance of retained earnings at the beginning of the period. - New Retained Earnings = Beginning Balance (previous retained earnings) + Net Income – Dividends Valuation: - Common stock is reported at the amount invested by owners when the firm's common shares were first issued. Retained earnings are generally the sum of all prior years' earnings in excess of dividends. Income Statement - Revenues measure the inflows of assets (or reductions in liabilities) from selling goods and providing services to customers. - Expenses measure the outflow of assets (or increases in liabilities) used up in generating revenues. - Corporations are individual legal entities and, as such, are subject to income tax. - Briefly, the income tax payable by a firm is based on a fixed rate multiplied by the net income before income tax. After deducting income tax, the results of the recurring operations of the firm are presented as the net income. - Anything that affects net income, also affects the statement of retained earnings.

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Statement of Equity * Note the difference between statement of equity and statement of retained earnings previously stated. Will go into further detail later. Cash Flow Statement A major purpose of annual financial statements is to present a report on the activities of management to the investors and creditors, who have entrusted their funds to management. The cash flow statement best summarizes how this stewardship role was carried out. It reports: 

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operating cash flows - the excess of cash received from customers over the amount of cash paid to suppliers, employees and others in carrying out an enterprise's operating activities; investing activities - the acquisition and sale of non- current assets - the land, buildings, equipment and other non-current assets needed to maintain or grow current operating levels; and financing activities - obtaining funds through long-term borrowing and share issue, repaying long-term debt and paying dividends to shareholders

Accrual Basis - Revenue is recognized when the business delivers the goods or provides the services, regardless of when customers pay (provided ultimate collection is reasonably assured). - Expenses (costs of earning the revenue) are 'matched' in the same accounting period, regardless of when suppliers, employers or taxing authorities and others are paid....