Accounting 101Fall 2013

INTRODUCTION TO FINANCIAL

ACCOUNTING

Objectives of ACCT 101

• Understand how financial accounting statements are constructed

• Develop the ability to read, analyze and interpret financial statements

• Provide you with tools for economic decision making– Where to find information– How the information got there– Map economic events to transactions

Course TopicsOverview of Financial Statements

Long-Lived Assets

Balance Sheet ConceptsLiabilities – Present Value, Notes, and Mortgages

Income Statement Concepts Liabilities – Bonds

The Accounting Cycle Liabilities – Leases

Statement of Cash Flows Shareholders’ Equity

Revenue Recognition Deferred Taxes

Cash and Receivables Intercorporate Investments

Inventories – Cost Methods

Rules of the Game

• Read the syllabus carefully – CONTRACT– Updated syllabus available on Canvas

• Class attendance and recitation attendance is recommended but not require– Come to class on time, do not leave

early!– Turn off cell phones and other

communication devices

Textbook and Registration• Registration:

– Register for both the lecture and one of the recitations

• Text (recommended) – Custom package:1. Introduction to Financial Accounting

by Horngren, Sundem, Elliott, and Philbrick (10th Edition)

2. Supplemental Material3. Solutions to all exercises

– Six copies on reserve

Course Website & E-mail

• Website (Canvas System):– https://wharton.instructure.com/login – Homeworks posted/collected online– Lecture notes will be posted– Helpful discussion board (only for students)

• Email:– accounting101@wharton.upenn.edu

Grading Scheme

• Final grades will be determined by the following scheme:

– Homework 10% – Quiz 1: 20%– Quiz 2: 30%– Quiz 3: 40%

Grading Scheme

• Grades will be assigned across the sections approximately as follows:

25% - 35% As e.g., A, A- 35% - 40% Bs e.g., B+, B, B- 15% - 20% Cs e.g., C+, C, C- 5% - 10% Ds, Fs e.g., D, F

D or higher is considered a “PASS”

Homeworks• Four homeworks

• Posted online at least one week prior to due date

• Allowed to work in groups

• Submit your answers individually on the web– no hard copies accepted!

• Due by 9 am on due date – NO EXCEPTIONS– SERVER/COMPUTER CRASH IS NOT AN EXCUSE

QUIZ SCHEDULE

QUIZ 1 – Monday, October 7th (In Class)QUIZ 2 – Monday, November 4th (In Class)QUIZ 3 – Wednesday, December 4th (In

Class)

• All Quizzes are multiple choice.• Cannot reschedule or take make-up quiz

because of travel plans! • Note the make-up quiz policy – clearly

outlined in the syllabus• Conceptually, quizzes are not cumulative

TAs/Recitations• Who?• Pranay Ahlawat (Head TA) - pranay@wharton.upenn.edu• Violeta Rabanal - vrabanal@wharton.upenn.edu• Nicole Ferszt - nferszt@wharton.upenn.edu• Nicholas Wachtler - wachtler@wharton.upenn.edu• Monica Gallagher - galmon@wharton.upenn.edu• Christopher Burns - buc@wharton.upenn.edu

• Why?– The role of recitations

• Not another lecture• Answer questions, get help• Review assigned problems (from textbook!)• Review homeworks, quizzes

• Where/When?– Recitations on Fridays– Office hours (SHDH420)

Role of Lecture / Recitation• Suggested routine:

– Before class, read the lecture notes posted on Canvas. I expect that students will be prepared for class

– Take notes in class, and ask questions if things aren’t clear– After class download and review the lecture notes

• If you are having difficulty, read the specified pages of the textbook and work through the end of chapter problems and solutions to supplement your understanding of the material

• If you are still having difficulty, attend the Friday recitation sessions led by the teaching assistants. During these sessions, the TAs will review suggested problems from the textbook and answer questions

Role of Lecture / Recitation• Textbook covers the basic material in the course

– The textbook is used as a supplement for lecture notes, not as a substitute

– Lectures cover the more important and difficult material. Also covers material not covered in the textbook.

– Homework and quizzes will be based exclusively on material covered in the lecture notes.

– Lectures often contain problems which summarize the material in a way different from the textbook and assessments will be based on material and methods taught in lecture notes not the textbook.

• Class schedule on the syllabus provides the page numbers that correspond to the material we will cover in class– The suggested readings and problems are for those that want

additional clarification or practice– Schedule on Canvas provides a list of problems (from the

textbook) that will be covered in recitation

Today’s Class

Today’s Class

• Overview of “accounting” in general and “financial accounting” in particular

• Discussion of accounting terminology

• Mandatory financial reporting (including the financial statements)

Big Picture Regarding Accounting

Accounting is not (just) about recording transactions. It is about:

(1) understanding and reporting how transactions impact firm or divisional financial performance, and

(2) ensuring the reliability of financial performance reports

Financialrecords

Report ofperformance andfinancial position

- Tax- Internal decisions- External decisions

Reliabilitycheck

Financial Reporting(what this class is about)

Providing useful information about the financial health of a firm to external parties of interest (stakeholders)

Key element here is that information is for external use

Because people and agencies outside of a firm rely on this information for potentially large financial decisions, there is very strict standardization and enforcement of how this information is produced and presented

Who are the stakeholders of a firm that consume financial information that is produced and presented by firm management?

Other Types of Accounting (not covered in this course)

• Tax Accounting– Tax Preparation and Compliance is pretty self-

explanatory

• Managerial Accounting (e.g. ACCT 102)– Internal Information Systems and Reporting provides

firm managers useful, real-time performance information to help with decision making

– Information systems are designed specifically to cater to a single firm’s managers’ needs, hence there is little standardization

– Information is for internal use only– Therefore, there are typically few rules to govern how

this “should be” done

Tax Preparation and Compliance

General Management

Business Consulting

Financial Statement Preparation and Auditing

Internal Controls Auditing and Consulting

Who needs to know Accounting?

Financial Analyst

Money Manager

Investment Banker

Financial Reporting(Key Players)

• Regulatory Agencies (SEC) and Standard Setters (FASB/IASB)

• Financial Accountant– Hired by a firm to help prepare the firm’s financial reports– Usually works beneath the senior supervision of the Chief Financial

Officer– Head Financial Accountant is usually called the Controller

• Auditor– Independent Agent hired by the firm to regularly assess and attest to

the financial reporting quality of the firm – Maintains an on-going relationship with the firm (the audit client) to

allow for regular inspection of financial processes and internal controls over financial processes

– Typically works for a “CPA Firm”

• Users– Investors and affiliated third-parties– Demand information about health and performance of company– Understand accounting rules and treatments, understand how

economic events map into financial statements (and vice-versa)

Mandatory reports and enforcementThe Securities and Exchange Commission (SEC) is a regulatory agency commissioned by Congress to monitor and enforce legal and fair behavior in the U. S. capital (stock and debt) markets

The SEC mandates that all publicly-traded firms will file regular financial reports with the Commission

Major reports include:

10-Q: Quarterly financial report (filed at the end of each of 3 fiscal quarters)

10-K: Annual financial report (filed at the end of the last fiscal quarter)

These reports are filed electronically and kept on file at the SEC

They are available online through “edgar”: www.sec.gov/edgar.shtml They are available on each firm’s corporate website

They are available in paper form by request from the company’s investor relations department

Mandatory reports and enforcement (contd.)

The SEC has legal authority to enact civil or criminal penalties for lack of compliance or suspicion of fraud

The Securities and Exchange Commission asked a federal judge for permission to pursue civil charges against Richard Scrushy — co-founder, former chairman, and former chief executive officer of HealthSouth Corp. — one week after a jury found him not guilty of criminal charges, according to published reports.

SEC Pursues Civil Case Against Scrushy

July 08, 2005

Stephen Taub, CFO.com

The SEC asserted in a filing in U.S. District Court in Birmingham that Scrushy's acquittal on criminal accounting fraud charges offers "no legal or factual basis" to strike its claims that Scrushy directed a massive accounting fraud at HealthSouth and engaged in insider trading and other violations, according to Reuters.

What is in these mandatory reports?

Detailed summaries of current firm financial status and a summary of changes that occurred throughout the reported time periodBasic financial statements:

1. Balance Sheet: End of reporting period snapshot of what is owned, what is owed, and what is left for owners

2. Income Statement: Summary of inflows and outflows over the period (a.k.a. Statement of Continuing Operations)

3. Statement of Cash Flows: Summary of the change in cash on hand from the beginning of the period to the end of the period

Why might these two show different amounts during the period?

4. Statement of Owners’ Equity: Summary of the change in owners’ (shareholders’) claims on the firm from the beginning of the period to the end of the period

What is in these mandatory reports (contd)?

Also included:

“Footnotes”: Specific details about line items presented in the major financial statements

Management Discussion & Analysis (MD&A): Management’s personal views about the prior period and expectations for the futureAudit Opinion: Opinion regarding the financial reports as well as an assessment of internal controls

Unqualified: Financial statements appear to be presented fairly and in accordance with Generally Accepted Accounting Principles (GAAP); internal controls appear to be adequate

Qualified: Generally, financial statements appear to be presented fairly and in accordance with Generally Accepted Accounting Principles (GAAP), but there is some material issue that needs to be addressed; there is an issue that needs to be addressed regarding internal controlsAdverse: There is a high probability of material errors within the financial statements; there are material weaknesses in internal controls

Unqualified opinion regarding financial statements

Adverse opinion regarding internal controls

What are Generally Accepted Accounting Principles (GAAP)?

Financial reporting standards that are created by an independent standards-setting agency and enforced by the audit profession and the Securities and Exchange Commission.The Financial Accounting Standards Board (FASB) is responsible for developing GAAP within the United States.

It is very important to note that virtually every country has its own GAAP standard-setting board. Standards are NOT YET completely consistent across borders.What are the implications of this?

There has been a recent push towards GAAP convergence.

There is aggressive development of International Financial Reporting Standards (IFRS) that are issued by the International Accounting Standards Board (IASB)

European Union, Australia, and others have already adopted IFRS; FASB and IASB are working towards U. S. GAAP convergence with IFRS

Critical definitions of terms used throughout this course

Assets: items owned by the firm

Net Assets: Assets minus Liabilities (the assets left over after paying off debt)

(One source of funds available to purchase or create assets)

Liabilities: items the firm owes to creditors

Owners’ Equity: the owners’ claims to the assetsOwners’ Equity = Net Assets. Why?

These are the fundamental concepts for the Balance Sheet

Assets(what is owned)

Liabilities(what is owed)

Owners’ Equity(owners’ claims)

=

Provide funds for

Cash + Other Assets(what is owned)

Liabilities(what is owed)

Owners’ Equity(owners’ claims)

=

Contributed Capital(Stock Issues)

(note this is a second source of funds

for purchasing or creating assets)

Retained Earnings(cumulative profits kept within

the firm)

Accounting Equation: Assets = Liabilities + Owners’ Equity

Revenues(inflows of resources)

Expenses(outflows of resources)

Critical definitions of terms used throughout this course (contd.)

Total assets $1,148,236

Total liabilities + owners’ equity $1,148,236

Columbia Sportswear CompanyConsolidated Balance Sheet

Critical definitions of terms used throughout this course (contd.)

Revenues: inflows to the firm (from providing services or sales)Expenses: outflows by the firm that are generated to help create revenues

Gains: increases in value of firm assets

Losses: decreases in value of firm assets

Net Income: “profit” earned during the period

Revenues- Expenses+ Gains- Losses

= Net income

Note: the difference between these classifications is often subtle and confusingGenerally, “revenues” and “expenses” are associated with fundamental operational transactions

“Gains” and “losses” are associated with tangential transactions

In N’ Out Burger’s sales of hamburgers would generate “revenues”In N’ Out Burger’s sales of a delivery truck might generate a “gain” or a “loss”

These are the fundamental concepts

for the Income Statement

Big Picture Review

Assets(what is owned)

Liabilities(what is owed)

Owners’ equity

(owners’ claims)

Investors (owners) contribute funds to create a firm

Owners’ funds are used to purchase or create firm assets

The firm also borrows funds to purchase or create assets

Next Class…

Overview of the financial statements.

More detailed discussion of the balance sheet