Financial Statements and

Personal Accounting

ACCT-1004 – Principles of Accounting I

Everyone should have a basic understanding of the principles and related concepts of accounting as they relate to many aspectsof your life:

Why do I need to study accounting?

Personal – To keep track of your financial

records so you have an idea of the value of

what you own vs. what you owe

Employment – To be able to calculate

whether or not your employer is paying

you what you have earned

Professional – You may be required to interpret

financial information

Example: Marketing Executive required to prepare

Cash or sales budget

Business – You may own a business and want to “keep the books” or

at least know how to determine whether or not you are earning a

profit

The purpose of Accounting

•To keep track of activities that impact how much you are worth

• Personal net worth and the business owner’s equity

•Understand a few key definitions and terms

• The “language of accounting.”

What is the definition of an asset?

An introduction to Accounting – Key terms

Ownership

Assets

What is a liability?

Amounts that you owe.

An introduction to Accounting – Key terms

Liabilities

-Line of credit for tuition

-Credit cards-Car loan

If you sell all your assets and use the cash to pay whatever you owe (liabilities), the remaining cash represents how much you are worth.

1. Describe and calculate net worth

$100,000 $60,000 $40,000

Assets Liabilities

“If you want an accounting of your worth, count your friends.”

Merry Browne

Assets – Liabilities = Net Worth

OR

Assets = Liabilities + Net Worth

OWN

Calculation of Net Worth

Do AP-1

OWE

The affect of transactions on Net Worth

Refer to AP-1 found on page 6 of your workbook:

1. Darryl purchased a new laptop on January 1, 2010 worth $2,000.

He paid the entire amount using cash.

2. He also purchased a new cell phone worth $300 and an mp3 player worth

$100 on account(using his credit card).

How will these transactions affect Darryl‟s net Worth?

Assets = Liabilities + Net Worth

1. Darryl used his cash to purchase the laptop.

Both are Assets; therefore, if he used one asset

to purchase another, has his Net Worth changed?

2. Darryl then purchased a new cell phone and mp3 player using his credit

card. The cell phone is an Asset. Darryl now owes a Liability for this purchase.

Has his Net Worth changed?

Answer: Neither activity has changed Darryl‟s Net Worth.

Other transactions that do not affect Net Worth

1. When borrowing $100 from a friend:

• You are richer in cash, but there is

no change to net worth

• You still owe the cash.

2. When repaying your friend:

• You are cash poorer, but there is

still no change to net worth.

+100

+100

NO CHANGE

1

-1002

1

-1002

INVESTMENTS

• Not all transactions affect Net worth

Transactions involving buying or

selling assets (for the same

amount you paid) and,

borrowing and paying back cash,

have no affect on your Net Worth

Conclusion:

INVESTMENTS

2. Interpret the Balance Sheet and The Income Statement

•The Balance Sheet is the formal

document to report your Assets,

Liabilities and Net Worth on a

specified date.

INVESTMENTS

Do AP-2 on page 6 in your workbook

What is April Rose‟s Net Worth?

Now do AP-3

- The Income Statement is used to report

revenues and expenses for a given

period of time.

The Income Statement

SURPLUS(DEFICIT)

- If our are greater

than our , we have a

or an increase in our

Net Worth

-If less, we are in a ( or Loss

position or a decrease in our

Net Worth

At the end of each period:

• The income statement reports all Revenues and Expenses. This

allows you to update your Net worth on the Balance Sheet.

• Each new accounting period begins with zero balances in the

Temporary Accounts so that we can keep track of whether we earned

a Surplus(Net Income) or a Deficit(Loss) for that period of time.

The “Accounting Period”

An accounting period is typically a month,

a quarter or a year.

“Temporary Accounts” are used to keep track of

transactions that resulted in Revenue and

Expense amounts

Imagine the accounting equation as a scale

The scale must always be in balance.

3. Explain how the Accounting Equation works

Do AP-4 and AP-5 on page 8 in your workbook

4. Record double entries in T-Accounts

-If we place each item into

its own “T-Account” we can

keep track of transactions that

will have an affect on the balance in

that particular account

Assets

122,000

Liabilities80,000

Net Worth

42,000

Rule#1:

-Increases to Assets will result in an

amount being added to the “left side”

of the T-account while decreases will

be placed on the “right side”

Rule #2:

Increases to Liabilities or Net Worth

will result in an amount being added

to the “right side” of the T-account

while decreases will be placed on the

“left side”

Record double entries in T-Accounts

Assets122,000

Liabilities80,000

Net Worth42,000

Since the “Net Worth” account merely reports its final balance on

a given date, we need to keep track of Revenues, which

„increase‟ Net Worth, and Expenses which „decrease‟ Net Worth,

separately in their own T-Accounts

1. 3,000

Revenue1. 3,000

2. 1,000

2. 1,000

3. Revenue – = Surplus3,000 1,000 2,000

3. 2,000

44,000124,000

ASSETS = LIABILITIES + NET WORTH124,000 80,000 44,000

80,000

Temporary Accounts

Revenue and Expense Accounts

Salary Revenue

x

Car Interest Expense Insurance Expense

Entertainment Expense Food Expense

x x

x x

Revenues

Expenses

Increasing (decreasing) Net Worth

Do AP-6

AP-8,9,10 & 11 should also be done for more practice

• If Total Revenues are greater than Total

Expenses, Net Worth has been increased.

• If Total Expenses are greater than Total

Revenues, Net Worth has been decreased.

Surplus/Net Income or (Deficit/Net Loss)

+$1,000

+$1,000

5. Explain Accrual Accounting

• Accrual Accounting is based on the premise that

Revenues should be recognized in the period they were

„earned‟ and Expenses should be recorded in the period

which they were „incurred‟ or happened, which may or

may not be in the same period when cash was either

received or paid.

• Cash-Based Accounting recognizes Revenues in the

period when the cash was received and Expenses

when cash was paid

Revenue Recognition and Matching Principle

Violates Revenue Recognition and Matching Principle

6. Understand and apply the matching principleand the concept of materiality

Accrual Accounting Matching Principle

Revenues:

Salary $5,000

Expenses:

Food $ 1,000

Gas 500

Entertainment 1,500 3,000

Net Income $ 2,000

Gas 02,500

2,500X

Materiality

• The word „materiality‟ in accounting refers to the level of

importance placed on whether or not a transaction is

recorded properly.

• When related to the Matching Principle, it can be said that if something is

“not material” then we aren‟t concerned that it hasn‟t been recorded in the

correct accounting period.

• If something is said to be of a „material‟ amount, then we should try

to record in the correct accounting period

• The level or dollar amount of materiality is sometimes determined by applying

a percentage of total Assets, total Revenues or some other amount

Do AP-16 and18 should now be completed, AP-17 done for more practice

• $500 amount for Gasoline Expense: Material or not material?

Prepaid Expenses

Amounts paid “in advance” of when the expense is

reported.

-Insurance

-Rent

-Property taxes

Example: On Jan. 1 you paid $3,600 for a one year automobile insurance policy.

Prepaid Expenses

Cash

3,600

3,600

Insurance Expense

300

300

3,300

Jan. 1

Jan. 1

Jan. 31

Jan. 31

7. Understand the concept of depreciation under the personal context

According to the text, the word „depreciation‟ means to record

a portion of an asset‟s cost as an expense for each period it

is used to help earn revenue.

Computer Accumulated Depreciation - Computer

Depreciation Expense

1,200 400

400

Asset Accounts – Balance Sheet

Expense Accounts - Income Statement

Yr. 1 $1,200 – $400 = $800 Yr. 2 $1,200 – $800 = $400 Yr. 3 $1,200 – $1,200 = $0

Yr. 1

Yr. 2

Yr. 3

400

400

1,200 Yr. 1Yr. 2Yr. 3800

Do AP-19, 20

Page 31 of the text demonstrates how „depreciation‟ is

applied to a computer that cost $1,200 and is expected to

last 3 years. $1,200/3 = $400 (Straight-line Depreciation

Method)

A “non-cash” expense of the period

8. Distinguish between Capital and Revenue

Assets

122,000

Liabilities

80,000

Net Worth

42,000

1. 3,000

Revenue1. 3,000

2. 1,000

2. 1,000

3. Revenue – = Surplus3,000 1,000 2,000

3. 2,000

49,000129,000

ASSETS = LIABILITIES + NET WORTH129,000 80,000 49,000

80,000

• Revenues, which „increase‟ Net Worth, and Expenses which „decrease‟

Net Worth, separately in their own T-Accounts with the “Net Income (Loss)

added to the “Net Worth” account at the end of the accounting period.

5,000 5,000

AP-21, 22

•Depositing a „gift‟ of $5,000 will increase Assets and Net Worth but, it is

not considered or recorded as a Revenue because it was not earned

9. Describe the three sources and uses of cash

• Cash Flow Statement

Operating – Amounts received(paid) in connection

with earning revenues and expenses

Investing – Purchasing or selling assets used to

help earn revenues(Example: Vehicle)

Financing – Borrowing(paying back) loans

• Fact: Changes in Cash don‟t necessarily mean a change in

Net Worth!

AP-23

10. Understand the differences between market value and book value

Market value – What the asset would be worth if it was sold

Book value – The initial amount an asset was recorded on

your books less any accumulated depreciation.

“The market value of your car is what you would get for it if it were sold today”

“The book value of your car is what you paid for it initially less any Accumulated

Depreciation you have recorded in your books.”

Homework to be completed before starting Chapter 2

Complete online:

Chapter 2

Quiz

•Complete all AS and AP

questions listed on the Detailed

Course Content page for Chapter 1.