Accounting As A Form of Communication

What is Accounting?
Accounting as a Form of Accounting is the process of identifying, measuring,

Communication and communicating economic information to various
users.
Its purpose is to provide economic information about
an organization that will be useful to those who
need to make decisions regarding that entity.
Chapter 1 For example, information provided by an accountant about an
entity is useful to a banker in reaching a decision about whether
to loan money to a business.
ACCOUNTING IS TELLING THE STORY:

WHAT HAPPENED AND WHERE DOES A COMPANY STAND AS A RESULT
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1-1 1-2
ECON 3A UCSB-- ANDERSON ECON 3A UCSB-- ANDERSON
BALANCE SHEET The accounting equation- ALGEBRA

BALANCE SHEET/ STATEMENT OF FINANCIAL If A=L+E, then:
POSITION
ASSET: Probable future economic benefit as a result
of a past transaction, examples: Cash, accounts
receivable E= A- L …. EQUITY = ASSETS - LIABILITIES
LIABILITY: Probable future economic sacrifice as a

result of a past transaction, examples: accounts THEREFORE THE EQUITY IS WHAT IS
payable, accrued expenses LEFTOVER FROM THE ASSETS AFTER
PAYING ALL LIABILITIES.
EQUITY: Residual interest of owners, examples
retained earnings, common stock
MAY BE EASIER TO REMEMBER THIS WAY.
A =L+E
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1-3 1-4
FOUR BASIC FINANCIAL STATEMENTS
INCOME STATEMENT
BALANCE SHEET: Think of it as a statement of financial position:
 Summarizes the accounting equation, A=L+E; REVENUE: Reported when it is earned
 As of a certain date;
 Accrual basis;
INCOME STATEMENT: How did we do: EXPENSE: Reported when the benefit is
 For a stated period; derived. Leads to the concept of MATCHING
 Accrual basis;
(now called the “Expense Recognition
STATEMENT OF STOCKHOLDERS’ EQUITY: Rolls forward
retained earnings and other EQUITY activity: Principle”), which means we match the
 For a stated period. expense to the period in which the
associated revenue is recorded.
STATEMENT OF CASH FLOWS: Where did the cash come from
and where did it go:
 Activities impacting cash; broken into activities…the “three
buckets” (1) operating (2) investing (3) financing
 It’s like a cash basis income statement
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1-5 1-6
Communicate with Financial Statements A word about International Accounting

Balance Sheet Income Statement
These fundamentals that you are about to learn
2004 Revenues: 2004 in this class will be applicable whenever the
Assets:
IFRS convergence takes place!!
Expenses:
Total assets
Net income (loss)
Liabilities:
Statement of Retained Earnings
Beginning balance
Equity:
Total liabilities & equity Ending balance
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1-7
LO 2 Explain the purpose of each of the financial statements. 1-8
Why is Accounting Important? Users of Financial Information
Accounting is important for markets, free enterprise, Bankers Management

and competition because it assists in providing Bondholders
information that leads to capital allocation. Current and
Potential
Stockholders Financial
The better the information, the more effective the Common Decisions?
process of capital allocation and then the healthier Analyst
the economy.
Supplier
ACCOUNTING IS A CRITICAL COMPONENT OF THE Creditors
FUNCTIONING OF THE CAPITAL MARKETS! Government
Employees
Agencies
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1-9 1-10
LO 1 Identify the primary users of accounting information and their needs.
Users of Financial Information Characteristics of Financial Accounting

Needs Information About User Group Economic Entity Financial Statements Additional Information
1. The profitability of each division in
Management Financial Balance Sheet President’s letter
the company
Information
2. The prospects for future dividend Income Statement MD&A
payments Stockholder Accounting?
Statement of Cash SEC Reporting
3. The financial status of a company Securities and Exchange Identifies Flows
issuing securities to the public for News releases
Commission (SEC) and Statement of
the first time
4. The prospects that the company Retained Earnings Forecasts
Banker Measures
will be able to pay its interest or Stockholders’ Environmental
payments on time and Equity
Reports
5. The prospects that the company Communicates
Supplier Footnotes
will be able to pay for its purchases Etc.
on time LO 2 Explain the
purpose of each
of the financial
Slide Slide statements. GAAP Not GAAP
1-11
LO 1 Identify the primary users of accounting information and their needs. 1-12
ECON 3A UCSB-- ANDERSON http://www.winnebagoind.com/ ECON 3A UCSB-- ANDERSON
IMPORTANCE OF FINANCIAL REPORTING: ETHICS ASSUMPTIONS PRINCIPLES CONSTRAINTS
Economic entity Historical cost Cost-benefit
Going concern Revenue recognition Materiality
The accountants job is NOT to decide what is Monetary unit Matching Industry practice
Periodicity Full disclosure Conservatism
best for the user of the financial statements,
Me andbut
your to
momprovide the lately
have been noticing user thatthe information
you've been having a lot of problems,
QUALITATIVE ELEMENTS
You've been going off for no reason and we're afraid you're gonna hurt somebody,
necessaryWe're to afraid
make informed decisions.
you're gonna hurt yourself.
CHARACTERISTICS Assets, Liabilities, and
Equity
Relevance Investments by owners
So we decided that it would be in your interest if we put you somewhere
Reliability Distribution to owners
Where you could get the help that you need. Comprehensive income
And I go: Comparability Revenues and
Is it a critical function?
Wait, what are you talking about, we decided!? Consistency
Expenses
Conceptual Gains and Losses
 Cost of interest?!
My best scandals: Enron,
How can you Worldcom,
know what's my best interestetc…
is?
Framework for
How can you say what my best interest is? What are you trying to say, I'm crazy? OBJECTIVES
 Implementation of the Sarbanes-Oxley Act of Financial 1. Useful in investment
Reporting and credit decisions
2002. 2. Useful in assessing
future cash flows
3. About enterprise
 Sound ethical behavior is absolutely critical. resources, claims to
resources, and
changes in them
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1-13 1-14
MORE ABOUT THE STATEMENTS-

INTERRELATIONSHIPS INTERRELATIONSHIP OF STATEMENTS- BASIC
WHEN?-- ACCRUAL ACCOUNTING:

That is the big question in accounting. Things happen, but you need to
BALANCE SHEET Income Statement
present it in a way which is meaningful to users of the financial
statements.
 Record revenue when earned;
Revenues
Assets
 Match expenses to period when revenue is recorded;
 Record expenses when “incurred” but DON’T use the webster’s definition LESS: Expenses
of “incurred”- under GAAP, incurred means: “when the associated benefit
has been realized”
Liabilities
Other gains & losses
The balance sheet is a parking lot. Everything on the balance sheet Equity
eventually finds its way to the income and equity statements. = NET INCOME
HOW MUCH?– HISTORICAL COST
 Assumes the Company is a “going concern”, otherwise consider
Contributions Dividends
utilizing “liquidation values”
 BUT: THIS “HISTORICAL COST” PRINCIPLE IS CHANGING, FAIR VALUE Retained Earnings
ARE POPPING UP MORE AND MORE AS IS ACCOUNTING GUIDANCE
HELPING US TO MEASURE FAIR VALUE… MORE ON THAT LATER! Owners
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1-15 1-16
STATEMENT OF CASH FLOWS Ownership structures
Corporate form of ownership provides additional legal protection… loss exposure
Solves the problem of “paper income”. should be limited to your investment.
Presents cash flows from three principal Sole Proprietorship:

 Simple, easily established;
cash activities:  Easily controlled, but lack of diversified experience
Partnerships:
 Operating  Fairly simple/ easily established
 Control begins to be shared, more diversified experience
 Investing Corporations: (Inc.)
 Complex to establish, but then easier to transfer ownership.
 Financing  Can make raising “equity capital” easier
 Personal liability limited to investment- “corporate veil”
 BAD: Dual taxation
 Corporate income taxed, then dividends are taxed also
More on the statement of cash flows in Chapter  Therefore you see many companies NOT paying dividends
Limited Liability Corporations/ S corps/ Limited Liability Partnerships
12 at end of the quarter!  Like a hybrid of Partnerships and corps
 Intended to provide the legal protection of a corp without the dual taxation
issues.
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1-17 1-18
Financial Statements Exercise Financial Statements

Balance Sheet Income Statement
Various Accounts:
2004 Revenues: 2004
Assets:
Accounts receivable 4,000 Landscape revenue 25,000
Cash 13,000
Accounts payable $ 5,000 Equipment 7,500 Equipment 7,500 Expenses:
Accounts receivable 4,000 Rent expense 6,500 Supplies 500 Rent 6,500
Salary and wages 12,000
Capital stock 8,000 Retained earnings, Total assets 25,000
Cash 13,000 beg. of year 8,500 Net income 6,500
Dividends paid 3,000 Salary expense 12,000 Liabilities:
Landscaping revenues 25,000 Supplies on hand 500 Accounts payable 5,000 Statement of Retained Earnings
Equity: Retained earnings, beg. 8,500
Capital stock 8,000 + Net income 6,500
Retained earnings 12,000 - Dividends 3,000
Total liabilities & equity 25,000 Ending balance 12,000
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1-19
LO 2 Explain the purpose of each of the financial statements.
Net income (loss)? What is Retained Earnings Balance?
Balance Sheet Income Statement Balance Sheet Income Statement
2004 Revenues: 2004 2004 Revenues: 2004
Assets: Assets:
Accounts receivable 4,000 Landscape revenue 25,000 Accounts receivable 4,000 Landscape revenue 25,000
Cash 13,000 Cash 13,000
Equipment 7,500 Expenses: Equipment 7,500 Expenses:
Supplies 500 Rent 6,500 Supplies 500 Rent 6,500
Salary and wages 12,000 Salary and wages 12,000
Total assets 25,000 Total assets 25,000
Net income 6,500 Net income 6,500
Liabilities: Liabilities:
Accounts payable 5,000 Statement of Retained Earnings Accounts payable 5,000 Statement of Retained Earnings
Equity: Retained earnings, beg. 8,500 Equity: Retained earnings, beg. 8,500
Capital stock 8,000 + Net income 6,500 Capital stock 8,000 + Net income 6,500
Retained earnings 12,000 - Dividends 3,000 Retained earnings 12,000 - Dividends 3,000
Total liabilities & equity 25,000 Ending balance 12,000 Total liabilities & equity 25,000 Ending balance 12,000
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1-21
How much are Total Assets? How much are Total Liabilities?
Assets: Assets:
Accounts receivable 4,000 Landscape revenue 25,000 Accounts receivable 4,000 Landscape revenue 25,000
Cash 13,000 Cash 13,000
Equipment 7,500 Expenses: Equipment 7,500 Expenses:
Supplies 500 Rent 6,500 Supplies 500 Rent 6,500
Salary and wages 12,000 Salary and wages 12,000
Net income 6,500 Net income 6,500
Accounts payable 5,000 Statement of Retained Earnings Accounts payable 5,000 Statement of Retained Earnings
Equity: Retained earnings, beg. 8,500 Equity: Retained earnings, beg. 8,500
Capital stock 8,000 + Net income 6,500 Capital stock 8,000 + Net income 6,500
Retained earnings 12,000 - Dividends 3,000 Retained earnings 12,000 - Dividends 3,000
Total liabilities & equity 25,000 Ending balance 12,000 Total liabilities & equity 25,000 Ending balance 12,000
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1-23
How much is Stockholders’ Equity? YOUR RENT AS AN EXAMPLE
Balance Sheet Income Statement RENT IS DUE ON THE?
1ST
2004 Revenues: 2004
Assets:
Accounts receivable 4,000 Landscape revenue 25,000 HAVE YOU RECEIVED THE BENEFIT WHEN YOU PAY IT?
Cash 13,000 NO
Equipment 7,500 Expenses:
Supplies 500 Rent 6,500
Salary and wages
USING THE DEFINITION OF AN EXPENSE, IS IT AN EXPENSE WHEN YOU
12,000
Total assets 25,000 PAY IT?
NO
Net income 6,500
Liabilities: DOES IT HAVE “FUTURE ECONOMIC BENEFIT” TO YOU WHEN YOU PAY
Accounts payable 5,000 Statement of Retained Earnings IT?
YES
Equity: Retained earnings, beg. 8,500
Capital stock 8,000 + Net income 6,500
Retained earnings 12,000
$20,000
- Dividends 3,000
WHAT DO WE CALL SOMETHING THAT HAS FUTURE ECONOMIC
BENEFIT?
Total liabilities & equity 25,000 Ending balance 12,000 ASSET!!!
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1-25
RENT: HOW IT LOOKS, assume you start with $4k

in the bank RENT CONTINUED
Assets: Assets:
Cash 3,300
4,000 Cash 3,300
Prepaid rent 700 Expenses: Prepaid rent 700 Expenses:

Rent expense 700
4,000
Net income Net loss (700)
Statement of Retained Earnings Statement of Retained Earnings
Equity: Equity: Net Loss (700)
Retained earnings 4,000 Retained earnings 3,300

4,000
Total liabilities & equity 4,000 Ending balance 4,000 Total liabilities & equity 3,300
4,000 Ending balance 3,300
4,000
Slide
1-27 PAY $700 FOR RENT ON THE 1ST Slide
1-28 END OF MONTH- BECOMES EXPENSE!
HOW DOES GAAP COME TO BE?
Business Entities
Generally Accepted Auditing

CPAs and Financial Auditing Standards
Accounting Firms Community Advises
Oversees independent
AICPA (AcSEC) Professional firms via Public
FASB Organizations Company Accounting
Generally Accepted
Oversight Board
Accounting Standards
(PCAOB)
Academicians Government
Private Companies
Investing Public Industry

Associations Public Companies
Additional Public
Statement of Financial Accounting Standards (SFAS) Company Standards
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1-29 1-30
IASB AND IFRS Accounting Standard Setting
International standard setting follows similar The primary mission of the U.S. Securities and
pattern. In connection with the Exchange Commission (SEC) is to protect
Convergence, all new standards generally investors and maintain the integrity of the
securities markets.
involve collaboration between the FASB
(U.S. GAAP) and the IFRS standard setting
Securities and Exchange Commission established in 1934
bodies.
Securities Act of 1933 and 1934
 To restore integrity in capital markets
Slide Slide
1-31 1-32
Employment in a Private Business
Accounting Standard Setting
Auditor appointment approved by BOD/ then
Elect by vote
Act of 1933: S BOARD OF report directly to the BOD. Preferrably
applies to internal audit too.
H DIRECTORS
 Requirement for Initial Public Offering A
R
C-level Management
Act of 1934: E
i. E “C”EO, “C”FO, etc.
H
 Reporting requirements for public companies O
L OVERSIGHT BY:
Chief Financial Officer
D
SEC is the Enforcement Authority: E
(CFO)
 Has legal authority to prescribe accounting Standards Internal &
R
applicable to public companies. External
S Controller
 Delegated standard setting to AICPA, private sector Treasurer Audit
Accounting
organization (1939). Current standard setting body is the 
Budget  Tax Department
Financial Accounting Standards Board (FASB).

 Financial Analysis  Cash Management
 Payroll
Slide Slide
1-33 1-34
LO 4 Describe the various roles of accountants in organizations.
Report of Independent Auditors

A Service Activity To the Board of Directors and Shareholders
Winnebago Industries, Inc.
We have audited the accompanying consolidated balance sheets of Winnebago Industries,
Employment in a Public Business: Inc. and subsidiaries (the Company) as of August 25, 2001 and August 26, 2000 and the
related consolidated statements of income, cash flows and changes in stockholders’
equity for each of the three years in the period ended August 25, 2001. These
 Auditing Services consolidated financial statements are the responsibility of the Company’s management.
Our responsibility is to express an opinion on these consolidated financial statements
 Tax Services based on our audits.
 Management Consulting Services We conducted our audits in accordance with auditing standards generally accepted in the
United States of America. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the consolidated financial statements are
Other Employment: free of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the consolidated financial statements. An
audit also includes assessing the accounting principles used and significant estimates
 Education made by management, as well as evaluating the overall financial statement presentation.
 Non-Profit Entities We believe that our audits provides a reasonable basis for our opinion.
 Governmental Entities In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of the Company as of August 25, 2001 and
August 26, 2000, and the results of their operations and their cash flows for the three
years in the period ended August 25, 2001 in conformity with accounting principles
A Service Activity + An Analytical Discipline + An Information System generally accepted in the United States of America.
Deloitte & Touche
Slide
LO 4 Describe the various roles of accountants in organizations.
Slide October 3, 2001
1-35 1-36
The Accounting Profession FLOW TO FINANCIALS- FACTS
1. The chief accounting officer for a company Controller OPEN A BUSINESS SERVICES CENTER:
2. The department responsible in a company for the review Internal NEED MONEY:
Me & My partner contribute $25,000 each 50,000
and appraisal of its accounting and administrative Auditing
Borrow 200,000
controls.
RENT SPACE:
3. The officer responsible in an organization for the Treasurer Pay deposit 10,000
safeguarding and efficient use of a company’s liquid Pay first month rent- AT END OF THE MONTH 2,000
assets.
4. The process of examining the financial statements and the EQUIPMENT
Buy a copy machine (36 month life) 36,000
underlying records of a company in order to render an Auditing
opinion as to whether the statements are fairly presented.
SALES ACTIVITY
5. The opinion rendered by a public accounting firm Auditors’ Rent post office boxes per month- bill at end of the month 5,000
concerning the fairness of the presentation of the financial Report Photocopy use- all cash 1,250
statements. Exhibit 1-7
Slide Slide
1-37
LO 4 Describe the various roles of accountants in organizations. 1-38
STARTING POINT 1st MONTH

AS OF- START END OF MONTH
N/A N/A
Assets: Assets:
Revenues: Revenues:
Cash 50,000 PO Box rent
Accounts receivable Copy service
Rent deposit
Expenses: Expenses:
Equip’t (copier)
Liabilities: Total Assets
Space rent
50,000 Depreciation exp.
Liabilities:
SBA Loan
Equity: Equity:
Net income (loss) Contributions 50,000 Net income (loss)
Retained earnings
Liab & Equity 50,000
Slide Slide $50K CONTRIBUTION FROM PARTNERS

1-39 1-40
1st MONTH 1st MONTH
END OF MONTH N/A END OF MONTH N/A
Assets: Assets:
Revenues: Revenues:
Cash 250,000
50,000 PO Box rent Cash 250,000
240,000 PO Box rent
Accounts receivable Copy service Accounts receivable Copy service
Rent deposit Rent deposit 10,000
Expenses: Expenses:
Equip’t (copier) Equip’t (copier)
Space rent Space rent
Total Assets 250,000
50,000 Depreciation exp. Total Assets 250,000 Depreciation exp.
SBA Loan 200,000 SBA Loan 200,000
Equity: Equity:
Contributions 50,000 Net income (loss) Contributions 50,000 Net income (loss)
Retained earnings Retained earnings
50,000 Liab & Equity 250,000
Slide $200K SBA LOAN FUNDING Slide Rent Space: Pay $10K Deposit
1-41 1-42
1st MONTH 1st MONTH

Assets: Assets:
240,000
238,000 Revenues: Revenues:
Cash PO Box rent Cash 202,000
238,000 PO Box rent
Accounts receivable Copy service Accounts receivable Copy service
Rent deposit 10,000 Rent deposit 10,000
Expenses: Expenses:
Equip’t (copier) 2,000 Equip’t (copier) 36,000 2,000
248,000 Depreciation exp. Total Assets 248,000 Depreciation exp.
Equity: Equity:
Contributions 50,000 Net income (loss) (2,000) Contributions 50,000 Net income (loss) (2,000)
Retained earnings (2,000) Retained earnings (2,000)
248,000 Liab & Equity 248,000
Slide Rent Space: Pay $2K Rent Slide Purchase Copy Machine $36,000…36 month life
1-43 1-44
1st MONTH 1st MONTH
Assets: Assets:
202,000 Revenues: 203,250
202,000 Revenues:
Cash PO Box rent 5,000 Cash PO Box rent 5,000
Accounts receivable 5,000 Copy service Accounts receivable 5,000 Copy service 1,250
Rent deposit 10,000 Rent deposit 10,000
Expenses: Expenses:
Equip’t (copier) 36,000 2,000 Equip’t (copier) 36,000 2,000
248,000 Depreciation exp. Total Assets 253,000
254,250 Depreciation exp.
Equity: Equity:
Contributions 50,000 Net income (loss) (2,000)
3,000 Contributions 50,000 Net income (loss) 3,000
4,250
Retained earnings (2,000)
3,000 Retained earnings 3,000
4,250

253,000 Liab & Equity 253,000
254,250
Slide Rent from customers $5,000--- NOT Paid Slide Photocopy use from customers $1,250--- CASH
1-45 1-46
PHILOSOPHY
“What we learn to do, we

learn by doing”
AUTHOR OF THIS QUOTE?
Slide
1-47
ECON 3A UCSB-- ANDERSON

Accounting As A Form of Communication

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Accounting As A Form of Communication

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What is Accounting?

Accounting as a Form of Accounting is the process of identifying, measuring,

ACCOUNTING IS TELLING THE STORY:

BALANCE SHEET The accounting equation- ALGEBRA

LIABILITY: Probable future economic sacrifice as a

Communicate with Financial Statements A word about International Accounting

Total liabilities & equity Ending balance

Accounting is important for markets, free enterprise, Bankers Management

Users of Financial Information Characteristics of Financial Accounting

MORE ABOUT THE STATEMENTS-

WHEN?-- ACCRUAL ACCOUNTING:

Presents cash flows from three principal Sole Proprietorship:

Financial Statements Exercise Financial Statements

RENT: HOW IT LOOKS, assume you start with $4k

Prepaid rent 700 Expenses: Prepaid rent 700 Expenses:

Retained earnings 4,000 Retained earnings 3,300

Generally Accepted Auditing

Investing Public Industry

IASB AND IFRS Accounting Standard Setting

Report of Independent Auditors

STARTING POINT 1st MONTH

Slide Slide $50K CONTRIBUTION FROM PARTNERS

1st MONTH 1st MONTH

Liab & Equity 248,000

“What we learn to do, we

AUTHOR OF THIS QUOTE?

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