AFM 123

Fall 2016
September 14, 2016

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 Chapter 1

Business Decisions and

Financial Accounting

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 Learning Objectives

• Understand the Business

– LO1 Describe various organizational forms and types of business
decision makers.
• Study the accounting methods
– LO2 Describe the purpose, structure, and content of the four
basic financial statements.
• Evaluate the results
– LO3 Explain how financial statements are used by decision
makers.
– LO4 Describe factors that contribute to useful financial
information.
• Review the chapter

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Starting A Business

4
 Organizational Forms
• Sole Proprietorship
– A business organization owned by one person. Easy to
set up. The owner is personally liable for business
debts.
• Partnership
– A business organization owned by more than one
person. The partners are personally liable for
business debts.
• Corporation
– A separate legal entity. Often subject to many
regulations. The owners (shareholders) are not
personally liable for business debts.
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LO1
 Accounting for Business Decisions

• Accounting is a system of analyzing, recording

and summarizing the results of a business’s
activities and then reporting the results to
decision makers
• Decision makers can be internal to the
company (management) or external to the
company (creditors or government)

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LO1
 Accounting for Business Decisions
• Managerial accounting reports are used inside
the company. They include detailed financial
plans and reports about the operating
performance of the organization.

• Financial accounting reports are used outside

the company by creditors, investors and
others. These reports are the financial
statements.

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LO1
 The Accounting System Reports
Information for Decision Makers
Business and
Financing Activities

Accounting
System

Accounting Reports
External users Internal users
(creditors, investors, etc.)
Financial Managerial (managers, etc.)

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LO1
 The Basic Accounting Equation

Resources Owned = Resources Owed

by the company to creditors and to shareholders

Assets = Liabilities + Shareholders’ Equity

Accounts accumulate and report the

effects of each different business activity.
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LO2
 • Assets
– Resources controlled by the company that have
measureable value and are expected to provide
future benefits to the company.
• Liabilities
– Amounts owed by the business to creditors.
• Shareholders’ Equity
– Owners’ claims on the business resources.
• Contributed Capital is the amount owners directly
invested in the company in exchange for shares.
• Retained Earnings is the amount the company has
earned through profitable business operations.

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LO2
 • Revenue
– The amount earned by selling goods or services to
customers.
• Expenses
– The costs of doing business that are necessary to
earn revenue.

Revenue - Expenses = Net Income

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LO2
 • Dividends
– The distribution of a company’s earnings to its
shareholders as a return on their investment.
– Dividends are not an expense.

Retained Earnings
increase with Net Income (profit generated)
decrease with Dividends (profit distributed)

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LO2
 Financial Statements
Income
Statement

Statement of
Retained Earnings

Balance Sheet

Financial statements
are typically prepared Statement of
Cash Flows
in this order.
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LO2
 Income Statement
PEBBLE TECHNOLOGY, INC.
Income Statement
For the Month Ended September 30, 2012

• The Income Statement reports the amount of

revenues less expenses for a period of time.
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LO2
 Statement of Retained Earnings
PEBBLE TECHNOLOGY, INC.
Statement of Retained Earnings
For the Month Ended September 30, 2012

• The Statement of Retained Earnings reports

the way that net income and the distribution
of dividends affected the financial position of
the company during a period of time.
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LO2
 Balance Sheet
PEBBLE TECHNOLOGY, INC.
Balance Sheet
At September 30, 2012

• The Balance Sheet reports the amount of assets,

liabilities, and shareholders’ equity of a business
at a point in time.
• Assets = Liabilities + Shareholders’ Equity
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LO2
 Statement of Cash Flows
PEBBLE TECHNOLOGY, INC.
Statement of Cash Flows
For the Month Ended September 30, 2012

• The Statement of Cash Flows reports the operating,

investing, and financing activities that caused increases
and decreases in cash during a period of time.
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LO2
 • The Statement of Cash Flows is divided into
three types of activities:
– Operating activities are directly related to running
the business.
– Investing activities involve buying and selling
productive resources with long lives, purchasing
investments, and lending to others.
– Financing activities involve borrowing from banks,
repaying bank loans, receiving contributions from
shareholders or paying dividends.

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LO2
 Relationships among the
Financial Statements
1. Net Income, from the income statement, is a
component in determining ending Retained
Earnings on the statement of retained earnings.
PEBBLE TECHNOLOGY, INC.
Income Statement
For the Month Ended September 30, 2012

PEBBLE TECHNOLOGY, INC.

Statement of Retained Earnings
For the Month Ended September 30, 2012

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LO2
 2. Ending Retained Earnings from the statement of
retained earnings is then reported on the
balance sheet.
PEBBLE TECHNOLOGY, INC.
Balance Sheet
At September 30, 2012

PEBBLE TECHNOLOGY, INC.

Statement of Retained Earnings
For the Month Ended September 30, 2012

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LO2
 3. The Cash on the balance sheet is equal to the
ending Cash reported on the statement of cash
flows.
PEBBLE TECHNOLOGY, INC.
Statement of Cash Flows
PEBBLE TECHNOLOGY, INC. For the Month Ended September 30, 2012
Balance Sheet
At September 30, 2012

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LO2
 Using Financial Statements
• Financial statements are a key source of
information for external users to help make
decisions concerning a company.
• Creditors are mainly interest in assessing:
– Is the company generating enough cash to make
payments on its loan?
– Does the company have enough assets to cover its
liabilities?
• Investors expect a return on their contributions
to company, either immediate or long term.

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LO3
 Useful Financial Information
• Generally Accepted Accounting Principles (GAAP)
– Rules of accounting approved by the Canadian
Institute of Chartered Accountants for use in Canada
– Can be used by private enterprises
• International Financial Reporting Standards (IFRS)
– Rules of accounting created by the Internal
Accounting Standards Board (IASB) for international
use
– Must be used by publicly accountable profit-oriented
enterprises
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LO4
 Canadian Generally
Accepted Accounting
Principles (GAAP)

International Financial Accounting Standards for

Reporting Standards (IFRS) Private Enterprises (ASPE)

Publicly accountable profit-

Private enterprises
oriented enterprises

• The main goal of both IFRS and ASPE is to ensure

that companies produce financial information
that is useful in making decisions.
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LO4
 • Useful financial information must be:
– Relevant and a faithful representation of the business
– Comparable, verifiable, timely, and understandable
• Elements to be measured and reported are:
– Assets, Liabilities, Shareholders’ Equity, Revenues, Expenses,
Dividends
• Concepts for measuring and reporting are:
– Assumptions: Unit of Measure, Separate Entity, Going Concern,
Time Period
– Principles: Cost, Revenue Recognition, Matching, Full Disclosure
– Exceptions: Cost-Benefit, Materiality, Industry Practices

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LO4
 Key Points
• Three possible types of organizational forms to
operate a business: sole proprietorship,
partnership, and corporation. Each form has its
advantages and disadvantages
• Basic Accounting Equation is the foundation
– Assets = Liabilities + Shareholders’ Equity
• Four financial statements, prepared in the
following order due to the relationship between
the statements: Income Statement, Statement of
Retained Earnings, Balance Sheet, Statement of
Cash Flows

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