ACCOUNTING:

TEXT AND CASES

Robert N. Anthony
David F. Hawkins
Kenneth A. Merchant

McGraw-Hill © 2004 The McGraw-Hill Companies, Inc. All rights reserved.

 Chapter 1
The Nature and Purpose
of Accounting

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 What Accounting Does
 Accounting is a system that provides
information on:
 Amounts of resources.
 How resources were financed.
 Results achieved by using resources.
 For either:
 Parties inside and outside of the organization.
 Profit and nonprofit organizations.

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 Categories of Accounting Info
 Operating info summarized into:
 Financial accounting.
 Management accounting.
 Tax accounting.

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 Operating Information
 Needed to conduct day-to-day activities.
 Largest quantity of accounting data.
 Examples:
 Hours worked by employees for payroll
purposes.
 Automobiles available for sale to customers.
 Amounts owed by customers.
 Parts and accessories on hand.

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 Financial Accounting Information
(Also Called Financial Reporting)
 For external users (investors) and managers.
 Used by investors to make decisions to buy, sell
or hold shares of company.
 Primary financial statements:
 Balance sheet.
 Income statement.
 Statement of cash flows.

 Common rules used so investors can compare

with other companies’ financial statements.
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Management Accounting Information
 Forinternal users such as president,
marketing manager and production
manager.
 Used for three functions of managers:
 Planning.
 Implementation.
 Control.

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 Planning
 Deciding what actions should be taken. Decision
making involves:
 Identify problem or opportunity.
 Specify and rank criteria to choose among
alternatives.
 Identify alternative solutions.
 Use accounting and other information to analyze
consequences of each alternative.
 Compare alternatives to criteria and select best
alternative.
 Budgeting is the process of planning for a
specified time, often for one year.

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 Implementation
 Actions to provide human and other
resources to achieve planned results.
 Requires supervision of managers.
 Managers must change plans as
conditions require.

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 Control
 Process to ensure employees perform properly.
 Accounting information is used to:
 Communicate. Inform employees of management’s
plans.
 Motivate. Encourage employees to act consistently
with organization’s goals.
 Direct attention. Provide feedback, that is, signal
when a problem may exist.
 Appraise. Provide information to appraise
performance of mangers and other employees.

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 Tax Accounting Information
 Preparation of federal, state, and other
taxes.
 Tax accounting rules can differ from
financial accounting rules.

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 Definition of Accounting
 Accounting is a process of:
 Identifying
 Measuring
 Communicating
 Economic information.
 To make decisions.

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 Profession of Accounting
 Bookkeepers and other data entry personnel.
 Maintain detailed operating records.

 Professionals
 Decide how to report, prepares reports, and analyzes and interprets reports.
 Designs, operates, and monitors for accuracy information systems.

 Certified public accountants (CPAs) or Independent public accountants:

 Licensed by each state.
 National professional organization is the American Institute of Certified Public Accountants
(AICPA).

 Accountants in industry.
 Professional organization is the Institute of Management Accountants (IMA).
 Administers the Certified Management Accountant (CMA) program.
 Professional designation for auditors employed in industry is Certified Internal Auditor (CIA).

 Many accounting faculty at universities belong to the American Accounting

Association (AAA).

 Controller is the high level officer in organizations responsible for financial and
management accounting.

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Approaches to Study Accounting
 Viewpoint of the accountant (preparer).
 Collecting, summarizing and reporting accounting
information.
 Viewpoint of the user.
 Understanding, analyzing, and interpreting accounting
reports to make decisions.
 Authors emphasize the perspective of current
and potential future users, recognizing the need
for some knowledge of how accounting reports
are prepared.

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Preconceptions about Accounting
 Produces information useful for various
types of decisions.
 Limitations of accounting reports:
 Not all resources of organizations can be
measured and reported.
 Actual value or “worth” of a business is not
included in usual financial reports.

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 Plan of Book/Course
 Part One Financial Accounting
 Chapters 2,3 and 4: Includes basic structure
underlying all accounting.
 Chapters 5-14: Reviews same material in more detail.

 Part Two Management Accounting

 Chapters 15-28.
 Often uses same or similar information as financial
accounting.
 Management can establish whatever rules, and
analysis that it believes to be useful.

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 Financial Accounting Rules
 Terminology, rules and conventions
evolved over centuries.
 Rules that worked and were useful were
kept.

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 Accounting:
The Language of Business

 Many words have similar, but not same,

meaning as in common English.
 Similar to English, some rules are definite
others are not.
 Rules continue to evolve.
 XBRL (extensible business reporting
language) is the digital reporting language.

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 Accounting Principles
 General rule or law.
 Convention.
 Evolutionary.
 Criteria:
 Relevance. Useful and meaningful.
 Objectivity. Reliable and trustworthy.
 Feasibility. Implemented without undue cost.
 Trade-off between criteria.
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Generally Accepted Accounting
Principles (GAAP)
 Currently established by the Financial Accounting Standards Board
(FASB).
 Private organization.
 Due process.
 Emerging Issues Tax Force.
 Securities Exchange Commission (SEC).
 U.S. agency empowered by congress to protect investors.
 Jurisdiction over publicly traded company.
 Influences accounting rules through Regulation S-X, Financial Reporting
Series Releases, and Staff Bulletins.
 Other influences:
 AICPA.
 International Accounting Standards (IAS) developed by the International
Accounting Standards Board (IASB).
 Accounting Trends & Techniques.
 AICPA publishes Accounting Trends & Techniques summarizes
practices of 600 companies.
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 Financial Statements Required by
GAAP

 Statement of Financial Position (Balance

Sheet).

 Income Statement.

 Statement of Cash Flows.

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 Stock vs. Flow
 Stock/ resources and obligations at apoint
in time:
 Balance sheet.
 Flow/activity over a period of time:
 Income statement.
 Statement of cash flows.

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 Dual Aspect: Balance Sheet
(Fundamental Accounting Equation)
 Assets = Liabilities + Owners’ equity.
• LHS = RHS.
• First view:
• Resources = Obligations to creditors or claims on
resources + Residual claim.
• Second view:
• Amounts invested in resources = how these
amounts were financed.
• Resources = financed by creditors + financed by
owners.

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 Owners’ Equity
 Equivalently net assets (i.e., = A -L).
 2 sources of OE:
 Amounts provided directly by equity investors
(Paid-in-capital).
 Amounts retained from earnings, i.e., profits
(Retained Earnings).

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 Fundamental Accounting
Equation
 Assets – Liabilities = Owners Equity
 Net Assets = Owners’ Equity
 Every accounting transaction has an equal affect
on both sides of the equation.
 Purchase a $20,000 car for cash.
 Increase asset car and decrease asset cash by
$20,000. No net change to assets.
 Purchase a $20,000 car on credit.
 Increase asset car and increase liabilities by $20,000.

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 Income Statement
 Shows changes in Owners’ Equity or Retained
Earnings from operations of the business.
 Reconciles or shows changes in Retained
Earnings from beginning to end of period
resulting from operations of the business.
 Revenues – Expenses = Net Income
 Sales Revenue = amount of product sold to
customers during accounting period.
 Gross margin = Sales revenue – Cost of sales

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Financial Statement Objectives
 Useful for investment decisions. (All financial
statements)
 Comprehensible. (All financial statements)
 About economic resources and claims on
resources (Balance Sheet).
 About financial performance during a period
(Income Statement).
 About cash flows (Statement of Cash Flows).

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 Financial vs. Income Tax vs.
Management Reporting
 Operating information summarized under these
three different sets of rules.
 Differences between Financial Reporting and
Income Tax Reporting
 Purposes
 Rules (GAAP vs. IRS rules)
 Pre-tax income
 Similarities tend to be greater than differences.

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