Accounting essential

-Learning - Amine
 Module1: What is accounting
Income statement Cash flow statement
33.3% 33.3%

Balance sheet
33.3%

1- Diffrent Types of business dentity

– What is asset ?
An asset is anything of value that a company or individual owns,
which can be used to generate economic benefits in the future. Assets
are resources controlled by an entity as a result of past transactions
or events, and they can be expected to bring future financial gains,
either through direct use, sale, or other forms of utilization.

Types of Assets:
1. Current Assets: These are assets expected to be converted into
cash, sold, or consumed within a year. Examples include:
Cash and cash equivalents
Accounts receivable (money owed by customers)
Inventory (goods or materials a company holds for sale)
2. Non-current (or Long-term) Assets: Assets that are expected to
provide value over a longer period, usually more than a year.
 Examples include:
Property, plant, and equipment (PP&E), like land, buildings, and
machinery
Intangible assets, such as patents, trademarks, and goodwill
Investments held for the long term

Key Features of an Asset:

Ownership: The entity (business or individual) must have control
over the asset.
Economic Benefit: The asset is expected to bring future financial
advantages, whether through generating revenue, saving costs, or
through appreciation in value.
Measurable: The value of the asset can be reasonably quantified in
financial terms.

In accounting, assets are shown on the balance sheet and are balanced
against liabilities (debts) and equity (owner's capital). Assets are
central to evaluating the financial health of a business, as they represent
the resources available to the company for future operations and
growth.

What is a Market value ?

Market value refers to the price at which an asset would trade in a

competitive, open market. It represents the current value or worth of an
asset, as determined by the interactions between buyers and sellers. In
essence, it is the price that a willing buyer would pay and a willing seller
would accept, assuming both parties have full knowledge of the asset
and there are no external pressures (like financial distress) influencing
the transaction.

Key Characteristics of Market Value:

1. Current Value: Market value reflects the present price of an asset,
based on supply and demand dynamics in the marketplace.
2. Willing Buyer and Seller: Market value assumes that the transaction
occurs under normal market conditions, where both parties act
freely and in their own best interests.
3. Open Market: It presumes a competitive environment where
information is available to all participants, and neither party has an
advantage over the other.
4. Not Historical: Market value changes over time and is different from
historical cost, which is the original price paid for an asset.

Applications of Market Value:

Stocks: The market value of a publicly traded company's stock is the

price at which its shares are currently being bought and sold on
stock exchanges.
Real Estate: For properties, market value represents the price
someone would pay in the current real estate market for a piece of
land or a building.
Businesses: For entire companies, market value is often referred to
as market capitalization (the total value of a company’s
outstanding shares).
Equipment and Goods: Market value can also apply to machinery,
vehicles, or inventory, representing what someone is willing to pay in
the current market.

Factors Influencing Market Value:

Supply and demand: As demand for an asset increases or its supply

decreases, market value tends to rise. Conversely, excess supply or
low demand lowers its market value.
Economic conditions: A strong or weak economy can affect market
values as a whole, impacting assets like real estate, stocks, and
commodities.
Perceived utility: The usefulness, rarity, or desirability of an asset
can drive up its market value.
 External events: Factors like political changes, regulatory shifts, or
technological advancements can also impact market value.

In accounting and finance, market value provides an important

perspective, but it may differ from the value shown in the financial
statements, which often use historical cost (the price originally paid for
the asset).

-1-3 What is cashflow

ash flow refers to the movement of money into and out of a business
over a specific period. It tracks the cash transactions, such as sales
receipts, expenses, investments, and financing activities. Managing cash
flow is essential for businesses to ensure they have enough cash on
hand to meet their obligations, such as paying bills, salaries, or
purchasing goods.

Types of Cash Flow:

1. Operating Cash Flow:

This refers to the cash generated or used by the business's core
operations, such as sales of products or services. It reflects the
day-to-day cash inflows and outflows that occur as part of running
the business.
Example: A retail store receiving payments from customers (cash
inflow) and paying suppliers and wages (cash outflow).
2. Investing Cash Flow:
This represents the cash used for or generated by investment
activities, such as purchasing or selling long-term assets like
equipment, property, or investments.
Example: A company purchasing machinery (cash outflow) or
selling old equipment (cash inflow).
3. Financing Cash Flow:
This relates to the cash exchanged between the business and its
owners, creditors, or investors. It includes transactions such as
borrowing money, repaying loans, or issuing or buying back
shares.
 Example: A company taking out a loan (cash inflow) or repaying a
loan (cash outflow).

Importance of Cash Flow:

Solvency: A positive cash flow ensures that a business can cover its
operating expenses, debts, and unexpected costs.
Growth: Businesses with healthy cash flow can invest in growth
opportunities, such as expanding operations or purchasing new
assets.
Financial Stability: Cash flow management helps avoid liquidity
problems, which can lead to financial difficulties or even bankruptcy,
even for profitable businesses.

Cash Flow vs. Profit:

Cash Flow: Focuses on the actual movement of cash in and out of

the business during a period.
Profit: Measures the company’s earnings (revenue minus expenses)
but doesn’t account for when cash is actually received or spent.

For example, a company might show a profit on its income statement

(e.g., $100,000 in profit), but if its customers haven't paid their invoices
yet, the business may not have enough cash to pay its bills, leading to
cash flow problems.

Key Terms:

Cash Inflow: Money entering the business, such as revenue from

sales, loans received, or asset sales.
Cash Outflow: Money leaving the business, such as payments for
expenses, loans, wages, or asset purchases.

Example of Cash Flow Statement:

A cash flow statement summarizes a business’s cash inflows and

outflows over a period (monthly, quarterly, or annually). It typically
includes:
 Cash Flow Statement Amount (in $)

Operating Cash Flow 50,000

Investing Cash Flow -20,000

Financing Cash Flow 10,000

Net Cash Flow 40,000

In this example:

The company generated $50,000 from its operations.

It spent $20,000 on investments (e.g., equipment).
It received $10,000 from financing activities (e.g., a loan).
The net cash flow for the period is $40,000, meaning the business
has more cash than it started with.

Conclusion:

Cash flow is a crucial measure of a business's financial health. Even

profitable companies can face challenges if their cash flow is negative or
not managed well, as they may struggle to cover immediate financial
obligations.

1-1 Question

If you were asked today to provide a summary of your wealth, what figure
would you arrive at and how would you decide on that figure?
1-1 Feedback

Providing a value for your current day wealth is not an easy task. Here
are my thoughts on this.

For example, if you own a house or a car, did you value it at the price
you paid for it when you bought it or the price you think you can sell it
for now?

Of course, your current day value should have been based on the
value of your belongings now, not when you first bought them.

But it’s even more complicated than that.

Your car will have probably gone down in value (depreciated) but your
house may well have gone up (appreciated). As you have not sold
these belongings (or assets) their exact value is not known and can
only be estimated. As a result, any figure you have given in answer to
the question can only be your view of an estimation of your wealth. It
is not a guaranteed figure.

So if you can’t give an accurate figure for your own wealth, is it fair to
expect accountants to do so when providing financial information
about a business?

The documentation and figures provided by an accountant are often

taken as the absolute truth. As you’ve seen, this is a wrong
assumption to make and an impossible expectation to set. However,
these figures do have to be governed by a set of criteria to ensure that
information given by one accountant is on a level playing field with the
figures and documentation given by another accountant. You can
learn more about these criteria in the next activity.

As an MBA student you will develop further knowledge and skills in

accounting to assess an organisation’s position relative to other
organisations in the same sector or of a similar size.
1-2 Qualitative characteristics of financial information

Relevance
This requires that the figures are meaningful and useful.

For example, valuing a property bought ten years ago at the price it was bought
for back then, would be meaningless. It will have probably gone up in value by a
substantial amount.

Feasibility
This means that the information can be collected easily and economically.

Imagine trying to include every staple or drawing pin a company has amongst
its assets. The accountant doing this would have no time for anything else.

Objectivity (or Reliability)

This requires that the information is free from bias.

For example, for most organisations, its workforce is its most valuable tool or
possession but they cannot be measured or valued accurately. Information
must be as factual as possible and free from error.

Sole trader vs limited company

Criteria Sole Trader Limited Company

1. Ease of raising Raising finance from a Correct answer

finance potential investor
If you are trying to
becomes complicated
raise finance for
because the business
investment in the
will have to turn into a
business, operating as
partnership.
a limited company
means you can sell
shares relatively easily.

2. Keeping control Correct answer In a limited company,

By definition, a sole trader owns all of shares will be issued to
the organisation. new shareholders. As
the number of shares
issued to others
increases, your own
percentage stake in the
business becomes
diluted.

3. Rules and Correct answer The directors who run

regulations/administrat Setting up as a sole trader is a limited company
ion a relatively simple process, have much more
all you need to do is inform paperwork to deal
the tax authorities and you with. Limited
can start trading
companies in the
immediately.
United Kingdom are
regulated by
Companies House and
directors are
responsible for
providing accurate
accounts on a regular
basis.
 4. Transfer of Transferring a business Correct answer
ownership to another party is
Ownership is attached
more complicated as
to the shares in the
you may have to
limited company rather
transfer assets
than the assets
individually.
themselves. This makes
transfer of ownership
relatively simple.

5. Corporate image A sole trader may lack Correct answer

a corporate image
Being limited company
creating a barrier to
may create a more
new business.
professional image
helping to attract
business.

The balance sheet, income statement, and cash flow statement are three
core financial statements that provide a snapshot of a company's financial
performance and condition. Here's how they differ:

1. Balance Sheet

Purpose: It shows the financial position of a company at a specific point

in time.
Components:
Assets: What the company owns (e.g., cash, inventory, property,
equipment).
Liabilities: What the company owes (e.g., loans, accounts payable).
Equity: The shareholders’ interest in the company (e.g., retained
earnings, common stock).

Formula:

Assets=Liabilities+Equity
 Timing: It is a "snapshot" of a company’s financial health at a specific
date.

2. Income Statement (also called the Profit and Loss Statement)

Purpose: It shows the company's financial performance over a specific

period (e.g., quarterly, annually).
Components:
Revenue: The income generated from business activities.
Expenses: Costs incurred in generating revenue (e.g., cost of goods
sold, operating expenses).
Net Income: The profit or loss after all expenses are deducted from
revenue.
Formula:

Net Income=Revenue−Expenses

Timing: It covers a period of time, providing an overview of profitability.

3. Cash Flow Statement

Purpose: It tracks the movement of cash in and out of the company over
a specific period.
Components:
Operating Activities: Cash flows related to day-to-day operations (e.g.,
cash received from customers, payments to suppliers).
Investing Activities: Cash flows related to the purchase or sale of
assets (e.g., property, equipment).
Financing Activities: Cash flows related to debt, equity, and dividends
(e.g., loans, stock issuance, repayment).
Formula:

Net Cash Flow=Cash Inflows−Cash Outflows

Timing: It covers a period of time, providing insight into liquidity and cash
management.

Key Differences:

Balance Sheet: A snapshot of financial health at a point in time.

Income Statement: Tracks profitability over a period of time.
 Cash Flow Statement: Tracks actual cash movements over a period of
time, focusing on liquidity.

What is equity ?

Equity represents the ownership interest in a company, typically held by

shareholders. It is essentially the value that would be returned to shareholders if
all the company’s assets were liquidated and all its debts were paid off. In simple
terms, equity is the residual interest in the company’s assets after deducting
liabilities.

Types of Equity:

1. Shareholders' Equity:
This is the most common form of equity, and it is found on the balance
sheet. It includes:
Common Stock: The value of shares issued to common shareholders.
Preferred Stock: Shares with special privileges, often regarding
dividends.
Retained Earnings: Accumulated profits the company has reinvested
into the business instead of paying out as dividends.
Additional Paid-In Capital: Any amount paid by investors over the
nominal value of the shares.

Formula:

Shareholders’ Equity=Assets−Liabilities

1. Owner’s Equity (in sole proprietorships or partnerships):

In businesses that are not corporations, equity is called owner’s equity. It
refers to the owner's direct stake in the business after liabilities are paid.
2. Private Equity:
Equity that comes from private investors in companies not listed on public
stock exchanges. These investors invest directly in private firms.
3. Homeowner’s Equity (real estate context):
The value of ownership in a property, calculated by subtracting any
outstanding mortgage or loan from the property’s current market value.
Equity on the Balance Sheet:

Equity is an important figure on the balance sheet, reflecting the company’s net
worth. The formula mentioned earlier is used to determine it:

Equity=Assets−Liabilities

This is known as the accounting equation and forms the basis of the balance
sheet. It signifies the amount of capital shareholders have invested in the
company, plus any retained earnings the business has generated over time.

Importance of Equity:

For Investors: Equity represents the stake in a company, and investors look
for companies with healthy equity growth, as it indicates financial stability and
profitability.
For Owners: Equity shows the residual interest after all debts are paid,
meaning it represents the actual value of ownership.
For Companies: Equity can be used to raise capital by issuing shares, allowing
companies to finance their growth.

2-The Major accounting statement

exp: Ali buy hot dog at 60£ and sell it at 70£ end the end of the monday day

a:cash introduced by ali = 60£

b:cash from sales of hot dogs= 70£

c:cash paid to buy hot dogs= 60£=a

d:closing balance of cash= 70£=b

The Daily Bouquet is a local company providing fresh flowers. As the business is so seasonal, during the winter
months the company relies on a short-term loan of £ to cover daily expenses. Roses generate most of the
company’s revenue, roughly £. Tulips rank second with £ and the rest combined equals £. The company
recently introduced online order services. Hence, they purchased three brand new motor vehicles for £. Each
of them is estimated to consume £ in fuel (£ in total). The Daily Bouquet decided to invest in its own
greenhouse. The initial investment is estimated to be £. The company’s sole owner decides to withdraw £ for
personal use.

Based on the above scenario, select which category each sum of cash belongs to. You can choose a category more than once
and each category may not be represented.

Example Sales Expenses Asset Liability Capital Drawing Debtor Creditor

Revenue

£30,000

£35,000

£26,000

£20,000

£12,000

£9,000

£70,000

£5,000

Helen manages the operations of a company producing smoothies. The business cycle of a typical day goes
through the following stages. Initially the raw fruit is bought from different farmers for £. The fruits are then
graded and cleaned by the inspection staff, whose overall salaries are estimated at £. The extraction and
pasteurisation phases are done through automated processes. Given that competitors have adapted the
latest technology, Helen decides to invest in new pasteurisation equipment which will cost the company £. To
finance the new investments, the company issued shares for £ each. Total sales resulted in £, out of which
none has been been collected yet. The company purchased packing bottles from its distributors for £.

Based on the above scenario, select which category each sum of cash belongs to. You can choose a category more than once
and each category may not be represented.
Example Sales Expenses Asset Liability Capital Drawing Debtor Creditor
Revenue

£23,000

£70,000

£80,000

£80,000

£40,000

£40,000

£15,000
Accounting equation
Balance sheet example
31/12/2023
Income statement year end
30/12/20
income statement vs balance
sheet
Difference between income statement and balance
sheet
1. Income Statement

Purpose: Shows a company’s financial performance over a specific period (e.g., quarterly,
annually).
Content: Lists revenue, expenses, gains, and losses, providing insight into whether the
company made a profit or incurred a loss.
Equation: Net Income = Revenue - Expenses
Sections: Generally includes revenue, cost of goods sold (COGS), gross profit, operating
expenses, and net income.
Use: Helps stakeholders understand profitability and operational efficiency over a certain
time frame.

2. Balance Sheet

Purpose: Provides a snapshot of the company’s financial position at a specific point in time.
Content: Lists assets (what the company owns), liabilities (what it owes), and shareholders'
equity (net worth).
Equation: Assets = Liabilities + Equity
Sections: Divided into current and non-current assets and liabilities, along with equity.
 Use: Used to assess financial health, liquidity, and the company’s capacity to pay debts.

Definition : What is a shareholder’s equity ?

Shareholders' equity, also called net worth or owners' equity, represents the
residual interest in the assets of a company after deducting its liabilities. It
reflects the value that would theoretically be returned to shareholders if all
assets were liquidated and all debts repaid. In simpler terms, it’s what the
owners or shareholders actually own of the company once liabilities are taken
out.

Components of Shareholders' Equity

Shareholders' equity typically includes:

1. Common Stock: The value of shares issued to investors.

2. Additional Paid-In Capital: Extra funds shareholders paid above the
nominal value of the shares.
3. Retained Earnings: Profits that the company has kept instead of paying
them out as dividends.
4. Treasury Stock: The cost of shares that the company has repurchased from
investors (this is subtracted from equity).
5. Other Comprehensive Income: Includes items like currency translation
adjustments and unrealized gains or losses.

Formula

The formula for shareholders' equity is:

Shareholders’ Equity=Total Assets−Total Liabilities\text{Shareholders' Equity} =

\text{Total Assets} - \text{Total Liabilities}Shareholders’ Equity=Total
Assets−Total Liabilities

Significance of Shareholders' Equity

Positive Equity: Indicates that the company has enough assets to cover its
liabilities, often a sign of financial health.
Negative Equity: Implies liabilities exceed assets, often signaling financial
distress or insolvency risk.
Cash flow statement

Profit Cash flow

When calculating profit we: Cash flow on the other hand measures the money received
from the sales less the money spent on those costs. It is
start by finding the sales revenue generated by the
very likely for most businesses timing of cash flow differs
business
we then deduct the costs consumed to generate from when the sales and purchases were actually made.
those sales.

A sale arises when legal ownership of the goods or service

transfers to the customer. This does not necessarily mean
that any cash has changed hands. Payment can be made
perhaps two or three months later.

So profit is measuring the ability to generate sales less the

cost consumed, it is not measuring cash flow.

1. The ability to pay dividends in the long and short term

How much cash is available?

What other needs are there for cash before dividends are paid?
What are the long term prospects for profits?
What are the levels of investment in technology?

ability to pay dividends in the long and short term 1. How much cash is available?
2. What other needs are there for cash before dividends
are paid?
3. What are the long term prospects for profits?
4. What are the levels of investment in technology?

The ability to pay short term liabilities 1. How much money is the trading activities bringing in
now?
2. What other payments does the business have to
make?

The ability to pay interest 1. How much money is the trading activity bringing in
now?
2. What other payments does the business have to
make?

The ability to pay long term loans 1. Long term prospects for profits?
2. Other commitments in the long term?

Definition What is a debt ?

Debt is an amount of money borrowed by one party from another, typically with the expectation of
repayment over time, usually with interest. Debt can take many forms, including loans, bonds, credit lines, or
even informal personal lending. When a person, business, or government incurs debt, they are obligated to
repay the principal amount along with any interest agreed upon in the loan terms.

Key Characteristics of Debt

1. Principal: The original amount borrowed.

2. Interest: The cost of borrowing, usually a percentage of the principal, paid over time.
3. Term: The period over which the debt is repaid, which can be short-term (up to a year) or long-term (over
a year).
4. Repayment Schedule: This could be monthly, quarterly, or a lump sum at the end of the term,
depending on the type of debt.

Types of Debt

1. Personal Debt: Credit card balances, student loans, mortgages, car loans, etc.
2. Corporate Debt: Business loans, bonds issued by companies, and accounts payable.
3. Government Debt: Borrowing by governments through bonds, treasury bills, and loans.

Common Uses of Debt

 Individuals use debt to make purchases they can’t afford to pay upfront (e.g., homes, cars, education).
Businesses use debt to finance expansion, manage operations, or fund new projects.
Governments use debt to fund infrastructure projects, provide public services, and stimulate the
economy.

Benefits and Risks of Debt

Benefits: Debt allows individuals and organizations to access resources they may not have immediately.
For businesses, debt can be used to grow and increase profitability.
Risks: Debt comes with an obligation to repay, which can lead to financial strain if the borrower’s income
decreases or if interest rates rise. Excessive debt can lead to insolvency or bankruptcy.

Cash inflow
Cash outflow

Operating Activities Revenue from sale of goods and Payments to suppliers

services

Interest (from debt instruments Payments to employees

of other entities)

Dividends (from equities of Payments to government

other entities)

Payments to lenders

Payments for other expenses

Investing Activities Sale of property, plant, and Purchases of property, plant,

equipment and equipment

Sale of debt or equity securities Purchase of debt or equity

(other entities) securities (other entities)

Collection of principal on loans Lending to other entities

to other entities

Financing Activities Sales and issuance of the Redemption of long-term debt

entity’s own equity securities

Redemption of capital stock

Cash flow explanation

4.4 Preparing the cash flow statement

The following information is available for our Sample Company:
Profit loss
Direco cost and Indirect Cost
 Indirect Cost
Direct cost
Non manufacturing
cost Manufacturing cost

Leica's salary. Leica is

the driver who collects
all the material for the
production of the
suits.

Tom's salary. Tom

designs the suits

Marketing expenses.
The company hires an
external advertising
entity

Blue cashmere
purchase cost. As one
of the main raw
materials, blue
cashmere is
pruchased regularly.

Utility expenses. The

company pays
monthly bills for
electric energy and
water supply.

Cleaning products
expenses. The offices
are cleaned regularly

Carol's salary. Carol

cuts and sews blue
 cashmere and brown

Thread purchase cost.

Thread is used in
sewing both type of
suits.

A shoe production company is looking for new premises to rent.

The factory renting costs will be approximately . The company
will also need to hire five employees in the manufacturing
department, whose annual salaries are expected to be each. The
new product will require a new marketing campaign. Hence, two
marketing managers will join the company with annual salaries
of each. The raw material will be imported from India for a total
cost of (including customs).
Please click to show whether the cost is manufacturing or non-manufacturing.

Cost Manufacturing cost Non-manufacturing

cost

$100,000

$150,000 (5@$30,000)

$70,000 (2@$35,000)

$50,000
Scenario: Mike's tailoring business
First look at the material and labour costs of the products, both are PER
UNIT costs.

e.g. the tweed suit:

Material costs = 5m x 18£/m = 90£ per brown tweed suit

Labour costs = 7hrs x 12£/hr = 84£ per brown tweed suit

Variable cost fixed cost

Rent is a fixed cost

production is a variable cost

Profit manufacturing

Margin of safety
Investing in asset
Scenario: Top Toys
Sam: James, can you help me? We are considering investing in new
production machinery. It will require an initial outlay of £ with an
estimated scrap value of £ at the end of its life in years time.
James: Ok so you are looking at a long-term investment?

Sam: Yes we are. The equipment will generate estimated annual operating
cash flows of £ for each of the st years and £ for the last years. In the final
year, in addition to the operating cash flow of £ we get another cash flow
of £ from selling the investment. Therefore, the total cash flow in the final
year is £

I have some questions for you:

1. How long would it take to recover the initial outlay of £?

2. Based on those forecast sales, is it a worthwhile investment, and how
do we measure this? We require a minimum return on this kind of
investment.

James: Ok let me look at this, I’ll get back to you with some analysis….

Cash flow (£)Cumulative cash flow (£)0123456

Year Cash flow (£) Cumulative cash flow

(£)

0 400000 400000

1 100000 300000

2 100000 200000

3 100000 100000

4 75000 25000

5 75000 75000+25000=50000

6 10000 100000+50000=150000