Copyright © 2014 Pearson Canada Inc. 1 - 1 Chapter 1.

Copyright © 2014 Pearson Canada Inc. 1 - 1

Chapter 1


Learning Objective 1Define accounting, and describe the users of

accounting information

Why is accounting important, and who uses the information?


Accounting: The Language of BusinessAccounting is an information system that:

Measures business financial activitiesProcesses that information into reportsCommunicates that information to decision makers

For this reason it is called “the language of business”


Financial StatementsBusiness decisions are based on financial statements

Is my business making a profit?

Should I hire assistants?

Am I earning enough money to expand my business?


Decision Makers: The Users of Accounting Information

Individuals

Investors

Government Regulatory, and

Taxing Authorities

Businesses

Creditors

Not-for-profit Organizations

Other Users

Accounting Information


Financial Accounting and Management Accounting

Financial Accounting

Management Accounting

Provides information to people outside the

company

Generates information for internal decision

makers


Learning Objective 2Explain why ethics and rules of conduct are

crucial in accounting and business

Why is it important for accountants to be ethical?


Ethical Considerations in Accounting and Business

When there is a need to look as good as possible to attract investors, there is a potential for conflict

External auditors express opinions as to whether the financial statements fairly reflect the economic events that occurred

Unfortunately accounting scandals involving both public companies and their auditors, such as Enron have made the headlines in the last 12 years.

Many changes had to be made to improve the quality of financial reporting.


Professional Accounting Bodies & Standards of Professional Conduct

Chartered Accountants

(CA)

Certified General

Accountants (CGA)

Certified Management

Accountants (CMA)

All governed by rules of professional conduct created by their respective organizations

Chartered Professional Accountants

(CPA)


Learning Objective 3Describe and discuss the forms of business

organizations

In what form can we set up a company?


Forms of Business Organizations

Proprietorship

Partnership

Corporation

Limited-Liability Partnership (LLP)


ProprietorshipAdvantages Disadvantages

Single ownerFor accounting purposes each

proprietorship is separate and distinct from the owner

Limited life spanUnlimited liabilityLimited availability to financial

resources


PartnershipsAdvantages DisadvantagesTwo or more ownersMore labour specializationMore financial resources

available

Unlimited liability for general partners

Potential conflicts among partners require written partnership agreements


CorporationsAdvantages Disadvantages

Legal separate entityLimited liability for

shareholdersTransferability of ownership is

relatively easyIndefinite life of the

organization

Expensive to operate and set upExtensive governmental rules

and regulations


Limited-Liability Partnership (LLP)Advantages Disadvantages

One partner cannot create a large liability for the other partners

Each partner is liable for their own actions

Written partnership agreements are still necessary


Learning Objective 4Explain the development of accounting standards, and describe the concepts and

principles

What are the rules of accounting, and why do we need them?


Accounting Concepts

Accounting Standards Board (AcSB)

IFRS and ASPE are prepared under the authority of the Accounting Standards Board and are published

as part of the Canadian Institute of Chartered Accountants (CICA) Handbook.


Framework for Financial Reporting

Level 1

Level 2

Level 3

Level 4


Level 1: Objective of Financial ReportingThe primary objective of financial statements is to:

Communicate information that is useful to investors,

creditors, and other users


Level 2: Qualitative Characteristics of Accounting Information

For information to be useful, it must have:RelevanceComparabilityReliabilityUnderstandability


Level 3: Elements of Financial Statements

AssetsLiabilitiesEquityRevenues and expensesGains and losses


Level 4: Recognition and Measurement Criteria, and Constraints

Principles• Recognition Criteria Revenue Expenses• Measurement Cost Other bases• Disclosure

Considerations• Economic Entity• Going Concern•Stable-Monetary-Unit

Constraints• Cost/Benefit• Materiality


The Economic-Entity ConsiderationEach entity is accounted for separately and distinctly from

the transactions of all other organizations and persons. You keep your business’s accounting separate from your

personal accounting so that you may evaluate the success of your business.


The Reliability CharacteristicInformation is reliable when it:

Accurately represents the impact of the transactionIs free of error or bias


The Cost Principle of MeasurementAcquired assets and services should be recorded at their

actual cost (historical cost)


The Going-Concern AssumptionThe entity will remain in operation in the foreseeable

future


The Stable-Monetary-Unit AssumptionThe dollar’s purchasing power is relatively stableAllows accountants to ignore the effect of inflation in the

accounting records


Learning Objective 5Describe and use the accounting equation to

analyze business transactions

How do business transactions affect the accounting records of a company?


The Accounting Equation

Assets Liabilities + Owner’s Equity

Economic Resources

Claims to Economic Resources

Liabilities (Outsiders)Owner’s Equity (Insiders)


AssetsDefined: Resources controlled by an entity that are

expected to benefit the business in the futureExamples of assets include:

CashAccounts ReceivableOffice suppliesMerchandise inventoryFurniture and fixturesLandBuildings


LiabilitiesDefined: Debts that are payable to outsiders (creditors)

Examples of liabilities include:Accounts payableNotes payableSalaries payable


Owner’s EquityDefined: The amount of an entity’s assets that remains

after the liabilities are subtractedOwner’s equity is often referred to as net assets


Transactions That Increase and Decrease Owner’s Equity

Owner Investments in the Business

Revenues

Owner’s Withdrawals from the Business

Expenses

Owner’s Equity

INCREASES DECREASES


RevenuesDefined: Amounts earned by delivering goods or services

to customers Examples of revenues include:

Fees earned or service revenueSalesRent earnedInterest earned


ExpensesDefined: Amounts that have been paid or will be paid for

costs that have been incurred to earned revenueExamples include:

RentSalaries and wagesUtilitiesSuppliesAmortization or depreciation


Accounting for Business TransactionsAny event that affects the financial position of the

business entity and can be measured reliably


Accounting for Business Transactions – An Example

1. The owner, Lisa Hunter, invests $250,000 to start a new business, HEC

2. HEC purchases land for a future office location, paying $100,000 cash

3. Purchases $7,000 office supplies on credit

4. HEC completes a consulting job for $30,000 cash

5. HEC completes a consulting job on credit for $25,000

6. HEC pays expenses for the month: salary $6,500;

rent $4,000; utilities, $1,500


Accounting for Business Transactions – An Example Continued

7. HEC pays $5,000 to the store from which it purchased $7,000 worth of office supplies in Transaction 3

8. HEC collections $15,000 from the customer of Transaction 5

9. HEC sells 50% of the land purchased in Transaction 2 for $50,000 cash

10. Lisa Hunter withdraws $6,000 cash for her personal use from HEC


Accounting for Business TransactionsAssets = Liabilities + Owner’s

Equity

Cash Accounts Receivable

Supplies Land Accounts Payable

L. Hunter, Capital

1. +250,000 +250,000

2. -100,000 +100,000

3. +7,000 +7,000

4. +30,000 +30,000

5. +25,000 +25,000

6. -12,000 -12,000

7. -5,000 -5,000

8. +15,000 -15,000

9. +50,000 -50,000

10. -6,000 -6,000

222,000 10,000 7,000 50,000 2,000 287,000


Learning Objective 6Prepare and evaluate the financial statements

What financial statements are prepared by a company, and how do we create them?


The Financial StatementsFinancial statements are the formal reports of an entity’s

financial informationThe primary financial statements are:

Income statement (statement of earnings or statement of operation)

Statement of owner’s equityBalance sheet (statement of financial position)Cash flow statement


Income StatementHUNTER ENVIRONMENTAL CONSULTING

Income Statement

For the Month ended April 30, 2014

Revenue:

Service revenue $55,000

Expenses:

Rent expense $4,000

Salaries expense 6,500

Utilities expense 1,500

Total expenses 12,000

Net income $43,000


Statement of Owner’s Equity

HUNTER ENVIRONMENTAL CONSULTING

Statement of Owner’s Equity

For the Month Ended April 30, 2014

Lisa Hunter, capital, April 1, 2014 $ 0

Add: Investment by owner 250,000

Net income for the month 43,000

Subtotal 293,000

Less: Withdrawals by owner (6,000)

Lisa Hunter, capital, April 30, 2014 $287,000


Balance SheetHUNTER ENVIRONMENTAL CONSULTING

Balance Sheet

April 30, 2014

Assets Liabilities

Cash $222,000 Accounts payable $ 2,000

Accounts receivable 10,000

Office supplies 7,000 Owner’s Equity

Land 50,000 Lisa Hunter, capital 287,000

Total assets $289,000 Total liabilities and owner’s equity

$289,000


Cash Flow StatementHUNTER ENVIRONMENTAL CONSULTING

Cash Flow Statement

For the Month Ended April 30, 2014

Cash flows from operating activities:

Cash collections from customers $45,000

Cash payments to suppliers $(10,500)

Cash payments to employees (6,500) (17,000)

Net cash inflows from operating activities 28,000

Cash flows from investing activities:

Acquisitions of land (100,000)

Proceeds from sale of land 50,000

Net cash outflows from investing activities (50,000)


Cash Flow Statement, Continued

Cash flows from financing activities:

Investment by owner 250,000

Withdrawal by owner (6,000)

Net cash inflow from financing activities 244,000

Net increase in cash $222,000

Cash balance, April 1, 2014 0

Cash balance, April 30, 2014 $222,000


Relationships among the Financial Statements

The income statement for the month ended April 30, 2014 reports….

The statement of owner’s equity for the month ended April 30, 2014 reports….

The balance sheet at April 30, 2014 reports….The cash flow statement for the month ended April 30,

2014 reports….

Copyright © 2014 Pearson Canada Inc. 1 - 1 Chapter 1.

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