BU1108:

Business
Environments:
Semester 2 Lecture 6:
Introduction to Finance
LEARNING OUTCOMES

Explain Identify Distinguish Explain

Explain the Identify the Distinguish Explain why an
nature and main users of between understanding
roles of financial financial of accounting
accounting and information and accounting and and finance is
finance discuss their management likely to be
needs accounting relevant to you

BE, Semester 2, Lecture 6, Introduction to Finance 2

What is Accounting?
 Accounting is the process of recording financial transactions pertaining to a business.
The accounting process includes summarizing, analyzing and reporting these
transactions to oversight agencies, regulators and tax collection entities.

Accounting
Process of preparing
financial statements that process of preparing
companies' use to show reports about business
their financial operations that
help managers make
performance and position
to people outside the Financial Management short-term and long-term
company decisions.
 Process of Financial Accounting

 Step 01 – Recording and classifying Financial Transactions

 Step 02 – Summarizing the transactions
 Step 03 – Generating meaningful information
 Step 04 – Analyzing the Information
 Step 05 - Reporting
Main Users Owners Customers Competitors

of Business
Finance Managers
Employees
and their

Information Business
representatives

Lenders Government

Investment Community
Suppliers
analysts representatives

BE, Semester 2, Lecture 6, Introduction to Finance 5

Accounting
Information
Systems
Information Information Information Information
identification recording analysis reporting

BE, Semester 2, Lecture 6, Introduction to Finance 6

Qualities of Useful Information?
COST
Qualities
CONSTRAINT

Fundamental Enhancing

Faithful
Relevance
representation

Predictive Confirmatory Freedom

Completeness Neutrality
value value from error

Materiality
threshold

Understand-
Comparability Timeliness Verifiability
ability

BE, Semester 2, Lecture 6, Introduction to Finance 7

Financial or Management
Accounts?
 Nature of the reports produced
 Level of detail
 The existence of regulations
 Reporting interval
 Time orientation
 Range and quality of information

BE, Semester 2, Lecture 6, Introduction to Finance 8

The Business Environment is
Changing:

 Increasing sophistication of customers

 Development of global economy
 Rapid Changes in Technology
 Deregulation of domestic markets
 Increasing pressure from owners
 Increasing volatility of financial markets
BE, Semester 2, Lecture 6, Introduction to Finance 9
The Relationship Between
Risk and Return:
Return

Expected returns on
an investment need
to be higher to
encourage
investment in riskier
environments

0 Risk
BE, Semester 2, Lecture 6, Introduction to Finance 10
Financial Statements

 Any business organization will generate the following financial

statements at the end of the accounting period.

 Statement of Comprehensive Income (Income

Statement)
 Statement of Financial Position
 Statement of Cash Flows
Statement of Comprehensive Income

 An income statement or profit and loss account is one of

the financial statements of a company and shows the
company's revenues and expenses during a particular
period. It indicates how the revenues are transformed into
the net income or net profit.
 This shows the Financial performance of the company
during a given period of time.
Statements of Financial Position

 The statement of financial position, often called the

balance sheet, is a financial statement that reports the
assets, liabilities, and equity of a company on a given
date. In other words, it lists the resources, obligations,
and ownership details of a company on a specific day. You
can think of this like a snapshot of what the company
looked like at a certain time in history.
 This shows the Financial position of the company at a
given point of time.
Statement of Cash flows

 In financial accounting, a cash flow statement, also known

as statement of cash flows, is a financial statement that
shows how changes in balance sheet accounts and income
affect cash and cash equivalents, and breaks the analysis
down to operating, investing, and financing activities.

 Why is the Statement of Cash flows required?

 The Income statement and the SOFP are prepared on an accrual
basis. Therefore in order to know the exact liquidity position of
the company a cash flow statement is required.
Accounting Concepts

Each company recruits accountants to prepare their financial

statements. These are presented to the governments, investors,
auditors and other interested parties.
They contrast and compare these financial statements to that of the
others.
Hence it is vital to maintain uniformity and consistency in accounting
records. These concepts constitute the very basis of accounting. All
the concepts have been developed over the years from experience and
thus they are universally accepted rules.
Following are the various accounting concepts that are important to
remember
Accounting Concepts

 Business entity concept - This concept assumes that, for accounting purposes,
the business enterprise and its owners are two separate independent entities.
Thus, the business and personal transactions of its owner are separate. For
example, when the owner invests money in the business, it is recorded as
liability of the business to the owner. Similarly, when the owner takes away
from the business cash/goods for his/her personal use, it is not treated as
business expense. Thus, the accounting records are made in the books of
accounts from the point of view of the business unit and not the person
owning the business. This concept is the very basis of accounting
Accounting Concepts
 Going concern concept - This concept states that a business firm will
continue to carry on its activities for an indefinite period of time. Simply
stated, it means that every business entity has continuity of life. Thus, it
will not be dissolved in the near future. This is an important assumption
of accounting, as it provides a basis for showing the value of assets in the
balance sheet
 Accounting period concept - All the transactions are recorded in the
books of accounts on the assumption that profits on these transactions
are to be ascertained for a specified period. This is known as accounting
period concept. Thus, this concept requires that a balance sheet and
profit and loss account should be prepared at regular intervals. This is
necessary for different purposes like, calculation of profit, ascertaining
financial position, tax computation etc.
Accounting Concepts

 Accruals concept- The meaning of accrual is something that becomes

due especially an amount of money that is yet to be paid or received
at the end of the accounting period. It means that revenues are
recognised when they become receivable. Though cash is received or
not received and the expenses are recognised when they become
payable though cash is paid or not paid. Both transactions will be
recorded in the accounting period to which they relate. Therefore,
the accrual concept makes a distinction between the accrual receipt
of cash and the right to receive cash as regards revenue and actual
payment of cash and obligation to pay cash as regards expenses
The accounting equation

 This is the foundation of accounting in which how transactions are recorded in

the books of accounts.
 Each transaction is said to have a dual impact on the accounts of the
company. This is known as the double entry system.
 Accordingly, each of these transactions make two impacts on the basic
accounting equation and the books of accounts will be balanced all the time.
 Tthe basic accounting equation can be constructed as;

ASSETS = LIABILITIES + EQUITY

The accounting equation

 Assets - An asset is anything of value or a resource of value that can be converted into
cash. Individuals, companies, and governments own assets. For a company,
an asset might generate revenue, or a company might benefit in some way from owning
or using the asset. Eg – Land, Buildings, Motor vehicles, Trade receivables, Prepayments,
Cash, Inventory
 Liabilities - A liability is defined as the future sacrifices of economic benefits that the
entity is obliged to make to other entities as a result of past transactions or
other past events, the settlement of which may result in the transfer or use of assets,
provision of services or other yielding of economic benefits in the future. Eg- Loans, bank
overdraft, trade payables, accrued payments
 Equity - Equity represents the value that would be returned to a company's shareholders
if all of the assets were liquidated and all of the company's debts were paid off. (Owner’s
share of the company)
Classification of Assets

 Non Current Assets - Noncurrent assets are a company's long-term

investments for which the full value will not be realized within the accounting
year.
 Eg – Land, Buildings, Motor vehicles, furniture, Intangible assets

 Current Assets - all the assets of a company that are expected to be sold or

used as a result of standard business operations over the next year.
 Eg – Inventory, Prepaid expenses, Cash and Cash equivalents, bank balance, Trade
receivables (Debtors)
Classification of Liabilities

 Non Current Liabilities - Also known as long-term liabilities, are obligations

listed on the balance sheet not due for more than a year.
 Eg-  long-term loans, lease obligations, bonds payable and deferred revenue.
 Current Liabilities - Current liabilities are a company's short-term financial
obligations that are due within one year or within a normal operating cycle
 Eg - Trade payables (Creditors), short-term debt, dividends, income taxes owed.
Income and Expenses
 The Accounting equation can be further expanded to;

Assets + Expenses = Liabilities + Income + Equity

Income – The revenue of the organization earned through sale of goods or any other source such
as investment income, rent etc.
Expenses – Cost incurred in the organization to run day to day operations such as raw material
cost, salaries and wages, electricity etc.

Note – Income and Expenses are recorded in the Income statement whereas Assets, Liabilities
and Equity are recorded in the SOFP