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Accounting PrinciplesWeygandt, Kieso, Trenholm

Prepared by Barbara Trenholm

University of New Brunswick

1 Explain the meaning of accounting.2 Identify the users and uses of accounting.3 Understand why ethics is a fundamental

business concept.4 Explain the meaning of generally accepted

accounting principles and the costprinciple.

5 Explain the meaning of the goingconcern, monetary unit, andeconomic entity assumptions.

After studying this chapter, you should be able to:

CHAPTER 1ACCOUNTING IN ACTION

6 State the basic accounting equation and explainthe meaning of assets, liabilities, and owner’sequity.

7 Analyse the effect of business transactions onthe basic accounting equation.

8 Distinguish between an income statement,statement of owner’s equity, balance sheet, andstatement of cash flows.

CHAPTER 1ACCOUNTING IN ACTION

After studying this chapter, you should be able to:

ACCOUNTING IN ACTION

CHAPTER·1

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PREVIEW OF CHAPTER 1

Accounting In Action

What is Accounting?

Who uses accounting info?

Brief history of accounting

Bookkeeping and accounting

Accounting and you

The accounting profession



The Building Blocksof Accounting

Ethics - a fundamentalbusiness concept

Generally acceptedaccounting principles

Assumptions

Basic accounting equation



Using the Building Blocks

Transaction analysis

Summary of transactions

Financial statements

Using the information inthe financial statements

Accounting In ActionAccounting In ActionAccounting In ActionAccounting In ActionChapter1 Accounting In ActionChapter1 Accounting In ActionChapter1 Accounting In ActionChapter1 Accounting In ActionChapter1 Accounting In ActionChapter1 Accounting In ActionChapter1 Accounting In ActionChapter1 Accounting In Action

Chapter 1 • Accounting In Action

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Financial Statements

Income Statement

Statement of Owner’sEquity

Balance Sheet

Statement of Cash Flows

STUDY OBJECTIVE 1

Explain the meaning of accounting.

Accounting is a process of three activities:1 Identifying2 Recording3 Communicating

WHAT IS ACCOUNTING?

Weygandt · Kieso · Trenholm Accounting Principles, Canadian Edition

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Gerald Trenholm

7 MacCauly Drive

Fredericton NB

Identification

Select economic events(transactions)

Recording

Record, classifyand summarize

AccountingReports

SOFTBYTEAnnual Report

Prepareaccounting reports

Analyse and interpretfor users

Communication

ILLUSTRATION 1-1THE ACCOUNTING PROCESS

2000

STUDY OBJECTIVE 2

Identify the users and uses of accounting.

ILLUSTRATION 1-2QUESTIONS ASKED BY INTERNAL USERS

Can we afford to give employeespay raises this year?

Is cash sufficient to pay bills?What is the cost of manufacturingeach unit of product?

Which product line is the mostprofitable?



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ILLUSTRATION 1-2QUESTIONS ASKED BY EXTERNAL USERS

Is the company earningsatisfactory income?

Will the company be able to pay its debts as they come due?

How does the company comparein size and profitability with itscompetitors?

What do wedo if theycatch us?

Accounting1 Includes bookkeeping2 Also includes much moreBookkeeping1 Involves only the recording of economic

events2 Is just one part of accounting

BOOKKEEPING DISTINGUISHEDFROM ACCOUNTING

THE ACCOUNTING PROFESSION

Public accountants offer expert service to the generalpublic through the services they perform.Private accountants are employees of individual companiesand are involved in a number of activities including costand tax accounting, systems, and internal auditing.Not-for-profit accounting includes reporting and controlfor government units, foundations, hospitals, labourunions, colleges/universities, and charities.


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ACCOUNTING CAREER LADDER

10+ years

6 to 8 years

2 to 4+ years

Entry level

Partner

PublicAccounting

SeniorManager

Manager

StaffAccountant

PrivateAccounting

VP Financeand CFO

Comptroller

Manager

Accountant

STUDY OBJECTIVE 3

Understand why ethics is a fundamentalbusiness concept.

ETHICS

To Solve EthicalDilemma1 Recognize situation

and ethical issuesinvolved

2 Identify and analyseelements

3 Identify alternativesand weigh impacts onstakeholders

��

Ethics

- standards of conduct



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STUDY OBJECTIVE 4

Explain the meaning of generally acceptedaccounting principles and the cost principle.

Generally Accepted Accounting Principles -primarily established by the Canadian Institute ofChartered AccountantsCost Principle

The cost principle dictates that assets are recorded attheir cost.Cost is the value exchanged at the time something isacquired.Cost is used because it is both relevant and reliable.

GAAP

STUDY OBJECTIVE 5

Explain the meaning of the going concern, monetaryunit, and economic entity assumptions.


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1 Going Concern - assumes organization will continue into foreseeable future.

2 Monetary Unit - only transaction data that can be expressed in terms of money is included in the accounting records.

3 Economic Entity - includes any organization or unit in society.

ASSUMPTIONS

BUSINESS ENTERPRISES

A business owned by one person is generally aproprietorship (owner’s equity).A business owned by two or more persons associated aspartners is a partnership (partners’ equity).A business organized as a separate legal entity undercorporation law and having ownership divided intotransferable shares of stock is called a corporation(shareholders’ equity).

ILLUSTRATION 1-7EQUITY FORMATS

Proprietorship

Owner’s equity:Bure, capital $50,000

Partnership

Partners’ equity:Wu, capital $ 75,000Scholten, capital 75,000Total partners’ equity $150,000



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ILLUSTRATION 1-7EQUITY FORMATS

Corporation

Shareholders’ equity: Capital stock $500,000 Retained earnings 350,000Total shareholders’ equity $850,000

STUDY OBJECTIVE 6

State the basic accounting equation andexplain the meaning of assets, liabilities,and owner’s equity.

Assets = Liabilities + Owner’s Equity

ILLUSTRATION 1-5BASIC ACCOUNTING EQUATION

The Basic Accounting Equation


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ASSETS AS A BUILDING BLOCK

Assets are resources owned by a business.They are things of value used in carryingout such activities as production andexchange.

LIABILITIES AS A BUILDING BLOCK

Liabilities are claims against assets.They are existing debts andobligations.

Owner’s Equity is equal to total assets minus total liabilities.

Owner’s Equity represents the ownership claim on total assets.

Subdivisions of Owner’s Equity:1 Capital2 Drawings3 Revenues4 Expenses

OWNER’S EQUITY ASA BUILDING BLOCK



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INVESTMENTS BY OWNERSAS A BUILDING BLOCK

Investments by owner are the assets put inthe business by the owner.These investments in the business increaseowner’s equity.

Drawings are withdrawals of cash or otherassets by the owner for personal use.Drawings decrease total owner’s equity.

DRAWINGS AS ABUILDING BLOCK

REVENUES AS ABUILDING BLOCK

Revenues are the gross increases in owner’sequity resulting from business activitiesentered into for the purpose of earningincome.Revenues may result from sale ofmerchandise, performance of services, rentalof property, or lending of money.Revenues usually result in an increase in anasset.


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EXPENSES AS ABUILDING BLOCK

Expenses are the decreases in owner’s equitythat result from operating the business.Expenses are the cost of assets consumed orservices used in the process of earningrevenue.Examples of expenses may be utility expense,rent expense, supplies expense, and incometax expense.

ILLUSTRATION 1-6

INCREASES AND DECREASES IN OWNER’S EQUITY

INCREASES DECREASESInvestmentsby Owner

Revenues

Owner’sEquity

Withdrawalsby Owner

Expenses

STUDY OBJECTIVE 7

Analyse the effect of business transactionson the basic accounting equation.



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TRANSACTION IDENTIFICATION PROCESS

Answertelephone

Purchasecomputer

Pay rent

Is the financial position (assets, liabilities, andowner’s equity) of the company changed?

Yes No Yes

Record Don’tRecord Record

Gerald Trenholm7 MacCauly DriveFredericton NB 2000

Royal Imperial Dominion Bank of MontrealEverywhere, Canada

TRANSACTION ANALYSISTRANSACTION 1

Marc Doucet decides to open a computer programmingservice.On September 1, he invests $15,000 cash in the business,which he names Softbyte.

BANK

Softbyte

TRANSACTION ANALYSISTRANSACTION 1 SOLUTION

(1) +$15,000 = +$15,000Investment

Assets = Liabilities + Owner’s Equity Doucet,

Cash Capital

There is an increase in the asset Cash,$15,000, and an equal increase in theowner’s equity, Doucet, Capital, $15,000.


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Softbyte purchases computer equipment for $7,000 cash.


Cash is decreased $7,000, and theasset Equipment is increased $7,000.

Assets = Liabilities + Owner’s Equity Doucet,

Cash + Equipment = CapitalOld Bal. $15,000 $15,000

New Bal. $ 8,000 + $7,000 = $15,000

$15,000

(2) -7,000 +$7,000

Softbyte purchases computer paper and other suppliesexpected to last several months from Chuah SupplyCompany for $1,600.Chuah Supply Company agrees to allow Softbyte to paythis bill in October, a month later.This transaction is often referred to as a purchase onaccount or a credit purchase.

Softbyte

Chuah Supply Company




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The asset Supplies is increased $1,600, and theliability Accounts Payable is increased by the sameamount.

Assets = Liabilities + Owner’s EquityAccounts Doucet,

Cash + Supplies + Equipment = Payable + CapitalOld Bal. $8,000 $7,000 $15,000

New Bal. $8,000 + $1,600 + $7,000 = $1,600 + $15,000

$16,600 $16,600

(3) +$1,600 +$1,600

Softbyte receives $1,200 cash from customers forprogramming services it has provided.This transaction represents the principalrevenue-producing activity of Softbyte.

Softbyte



Cash is increased $1,200, and Doucet,Capital is increased $1,200.


Cash + Supplies + Equipment = Payable + CapitalOld Bal. $8,000 $1,600 $7,000 $1,600 $15,000

New Bal. $9,200 + $1,600 + $7,000 = $1,600 + $16,200

$17,800 $17,800

(4) +1,200 +1,200 Service Revenue


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Softbyte receives a bill for $250 from the FinancialPost for advertising the opening of its business butpostpones payment of the bill until a later date.

Softbyte

Daily News

Bill



Accounts Payable is increased $250, andDoucet, Capital is decreased $250.


Cash + Supplies + Equipment = Payable + CapitalOld Bal. $9,200 $1,600 $7,000 $1,600 $16,200

New Bal. $9,200 + $1,600 + $7,000 = $1,850 + $15,950

$17,800 $17,800

(5) +250 -250 Advertising Expense

Softbyte provides programming services of $3,500for customers.Cash amounting to $1,500 is received fromcustomers, and the balance of $2,000 is billed tocustomers on account.

SoftbyteBill




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Cash is increased $1,500; Accounts Receivable isincreased $2,000; and Doucet, Capital is increased $3,500.

Assets = Liabilities + Owner’s Equity Accounts Accounts Doucet,

Cash + Receivable + Supplies + Equipment = Payable + CapitalOld Bal. $ 9,200 $1,600 $7,000 $1,850 $15,950

New Bal. $10,700 + $2,000 + $1,600 + $7,000 = $1,850 + $19,450

$21,300 $21,300

(6) +1,500 +2,000 +3,500 Service Revenue

Expenses paid in cash for September are store rent,$600, salaries of employees, $900, and utilities, $200.

Softbyte

$600

$900

$200



Cash is decreased $1,700 and Doucet, Capital is decreasedthe same amount.


Cash + Receivable + Supplies + Equipment = Payable + CapitalOld Bal. $10,700 $2,000 $1,600 $7,000 $1,850 $19,450

New Bal. $ 9,000 + $2,000 + $1,600 + $7,000 = $1,850 + $17,750

$19,600 $19,600

(7) -1,700 -600 Rent Exp. -900 Salaries Exp. -200 Utilities Exp.


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Softbyte pays its Financial Post advertising bill of$250 in cash.


Softbyte

Daily News


Cash is decreased $250 and Accounts Payable isdecreased the same amount.



New Bal. $8,750 + $2,000 + $1,600 + $7,000 = $1,600 + $17,750

$19,350 $19,350

(8) -250 -250

The sum of $600 in cash is received fromcustomers who have previously been billedfor services in Transaction 6.


Softbyte



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Cash is increased $600 and AccountsReceivable is decreased by the sameamount.

Assets = Liabilities + Owner’s EquityAccounts Accounts Doucet,

Cash + Receivable + Supplies + Equipment = Payable + Capital Old Bal. $8,750 $2,000 $1,600 $7,000 $1,600 $17,750

New Bal. $9,350 + $1,400 + $1,600 + $7,000 = $1,600 + $17,750

$19,350 $19,350

(9) +600 -600

Marc Doucet withdraws $1,300 in cash fromthe business for his personal use.

$1,300Softbyte



Cash is decreased $1,300 and Doucet, Capital is decreasedby the same amount.



New Bal. $8,050 + $1,400 + $1,600 + $7,000 = $1,600 + $16,450

$18,050 $18,050

(10) -1,300 -1,300 Drawings


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STUDY OBJECTIVE 8

Distinguish between an income statement,statement of owner’s equity, balance sheet, andstatement of cash flows.

FINANCIAL STATEMENTS

After transactions are identified, recorded, andsummarized, four financial statements areprepared from the summarized accounting data:1 An income statement presents the revenues and expenses and resulting net income or net loss of a company for a specific period of time.2 A statement of owner’s equity summarizes

the changes in owner’s equity for a specific period of time.

FINANCIAL STATEMENTS

In addition to the income statement, and statement ofowner’s equity, the remaining statements include:3 A balance sheet reports the assets, liabilities, andequity of a business enterprise at a specific date.4 A statement of cash flows summarizes information concerning the cash inflows (receipts) and outflows (payments) for a specific period of time.The notes are an integral part of the financial statements.



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ILLUSTRATION 1-9 FINANCIALSTATEMENTS AND THEIR INTERRELATIONSHIPS

SOFTBYTE, INC.Income Statement

For the Month Ended September 30, 1999Revenues Service revenue $ 4,700Expenses Salaries expense $ 900 Rent expense 600 Advertising expense 250 Utilities expense 200 Total expenses 1,950Net income $2,750

Net income of $2,750 shown on the income statement is added to thebeginning balance of owner’s capital in the statement of owner’sequity.


SOFTBYTE, INC.Statement of Owner’s Equity

For the Month Ended September 30, 1999M. Doucet, Capital, September 1 $ –0–Add: Investments $ 15,000

Net income 2,750 17,75017,750

Less: Drawings 1,300M. Doucet, Capital, September 30 $16,450

Net income of $2,750 is carried forward from the income statement to thestatement of owner’s equity. The owner’s capital of $16,450 at the end of thereporting period is shown as the final total of the owner’s equity column of theSummary of Transactions (Illustration 1-8).


SOFTBYTE, INC.Balance Sheet

September 30, 1999Assets

CashAccounts receivable 1,400Supplies 1,600Equipment 7,000 Total assets $ 18,050

Liabilities and Owner’s EquityLiabilities Accounts payable $ 1,600

Owner’s equity M. Doucet, capital 16,450 Total liabilities and owner’s equity $ 18,050

$ 8,050

Owner’s capital of $16,450 at the end of the reporting period shown in the statement ofowner’s equity is shown on the balance sheet. Cash of $8,050 on the balance sheet isreported on the statement of cash flows.


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SOFTBYTE, INC.Statement of Cash Flows

For the Month Ended September 30, 1999Cash flows from operating activities Cash receipts from customers $ 3,300 Cash payments to suppliers and employees (1,950) Net cash provided by operating activities 1,350Cash flows from investing activities Purchase of equipment (7,000)Cash flows from financing activities Investments by owner $ 15,000 Drawings by owner (1,300) Net cash provided by financing activities 13,700Net increase in cash 8,050Cash at the beginning of the period –0–Cash at the end of the period $ 8,050

Cash of $8,050 on the balance sheet and statement of cash flows is shown as thefinal total of the cash column of the Summary of Transactions (Illustration 1-8).

USING THE INFORMATION IN THEFINANCIAL STATEMENTS

• Annual Reports

– Non-financialinformation

– Financialinformation



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