MONASH

BUSINESS
SCHOOL

ACC/ACF5903 Accounting for Business

Topic 1
Introduction to Accounting
S1, 2021

Dr. Karen Zhang

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 Learning Objectives / Lecture Outline

When you have completed your study of this topic you should be
able to:
1. What’s accounting information
2. Who use accounting information?
3. What are the characteristics of accounting information?
4. Disciplines of Accounting
5. Financial reports overview
6. Accounting Equation
 Nature and Role of Accounting

• Accounting information is useful to those who need to make

decisions and plans about businesses, and for those who
control those businesses

• Accounting is concerned with the collection, analysis and

communication of economic information
• Accounting as a service function
• Accounting as an information system
– Identify and capture relevant economic
information
– Record the information collected in a systematic
manner
– Analyse and interpret the information collected
– Report the information in a manner that suits the
needs of various users
• If business changes, shall accounting follows
the change as well? What kind of business
change happening now?
 Nature and Role of Accounting

Accounting fulfils two roles (including both for-profit and non-for-profit

organization):

• Stewardship

Traditional role of providing accountability reports of transactions for a

given period, to ensure the objects have been fully and appropriately
accounted for

• Decision usefulness

Assisting users with making informed choices about issues, e.g.

resource allocation. It tolerates greater use of future estimation and
judgement.
• Decision Usefulness
• Examples of the kind of decisions for which the managers of
businesses may need accounting information include:
− whether to develop or terminate new products or services
− whether to change the price or quantity of products
− whether to borrow money to help finance the business
− decisions relating to the scale of the business
− whether to change the methods of purchasing, production
or distribution.
 Stakeholder theory

• Stakeholder theory was introduced by R. Edward

Freeman in 1984. Freeman’s main point was that, at
that time, business pretty much saw managerial self-
interest and shareholder profit as the driving force of
business. Freeman argued that this wasn’t the view
of people who actually did business. They had other
motivations and responded to other people –
employees, customers, suppliers, regulators, industry
bodies, trade union, and community groups etc.
Users of Accounting Information

? Who are internal users?

? Who are external users?
 Accounting as A Service Function
To meet users’ needs accounting information requires key qualitative
characteristics:

Fundamental
• Relevance: able to be used to influence decisions. To be relevant,
accounting information must cross a threshold of materiality.
• Faithful representation: complete, neutral, free from error. To reflect the
substance of what has occurred.

Enhancing
• Comparability: to allow users to identify similarities and differences. U.S.
XBRL adoption.
• Verifiability: capable of being checked and verified by independent
experts
• Timeliness: available early enough to be useful
• Understandability: clearly set out, as concisely as possible
 Relevance and faithful rep

• Example:
• Company A is negotiating a contract and about finalizing it
with a foreign company B (subject to foreign government
approval). Thus, the contract status is pending by foreign
government, though quite promising to get approval.
• Shall we disclose this information in annual report?
• What’s the consequence to financial report users if we disclose
such information?
 Benefits of Accounting
Information come at a Cost
Financial & Management Accounting

Management accounting

• Provides managers with the information they require to

run the organisation

Financial accounting

• Provides general-purpose financial information for a

variety of users
Weekly schedule of ACF/ACX5903 topics

Week Topic
1 Introduction to accounting
2 Measuring & Reporting financial position
3 Measuring & Reporting financial performance
4 Measuring & Reporting Cash Flows
5 Introduction to limited Companies
Financial
Regulatory framework for companies accounting –
6 CSR & Sustainability Accounting external use
7 Analysis & Interpretation of financial statements
8 Cost-Volume-Profit analysis & Relevant Costs
9 Full costing
Management
10 Budgeting
accounting –
11 Management of Working Capital
internal use
12 Capital Investment
 Financial & Management Accounting

Financial Management
accounting accounting
Nature of reports General purpose Specific purpose
Level of detail Broad overview Detailed
Restrictions Accounting standards No restrictions
and other regulations
Reporting interval Mainly semi-annual or Whenever required, often
annual weekly or monthly
Time horizon Mainly historical Both past and future
Range of Quantifiable in money Can contain non-financial
information terms; focus on information; less focus
objective and on objectivity and
verifiable data verifiability
 Financial Report Frequency
• As early as 1900, NYSE required annual reporting of balance
sheet and earnings info → 1926 NYSE required firms to
amend from annual to quarterly reporting → 1955 changed to
semi-annual reporting→ 1970 SEC required quarterly
reporting.

• In real world:
• Google (around its IPO in 2004) refused to provide quarterly
guidance to analysts. Similarly, Unilever’s CEO (Paul Polman)
stopped the practice of issuing quarterly reports
What’s the financial objective of a business

• Main objective: enhancing wealth of owners

• Need to balance the required return with the
risk level associated with the business.
Why we need financial accounting
• Financial accounting promotes the exchange
of resources

Outsider
Business entity information user
(company) (e.g., investor,
Information delivery (e.g., financial
statement) suppliers,
creditors)
Aaccounting is complex and interesting
because……
• Many different player
• The diversity of business
• Diverse incentives
– Economic (e.g., stock market)
– Others (e.g., political)
• Many regulations
• Uncertainty of business environment
 Financial & Management Accounting

• Financial accounting is the preparation and presentation

of financial statements to allow users to make economic
decisions about the entity
• Financial statements consist of:
o Income statement (aka Statement of Financial
Performance, Profit &Loss (P&L))
o Balance sheet (aka Statement of Financial Position)
o Statement of cash flows
o Statement of changes in equity
The main Financial Reports: An Overview

• Relationship between the three statements

The main Financial Reports: An Overview

Cash Accounting
• Statement of cash flows – shows sources and uses of cash
during a period

Accrual Accounting
• Statement of financial performance (aka Income Statement,
or P&L) – shows how much profit has been generated in a
period of time

• Statement of financial position (aka Balance Sheet) – shows

financial position at the end of a period (a point in time)
 Cash accounting v. Accrual accounting

Point t-1 Point t

You finished the transaction

with your client at point t-1 Client paid $500 to you at
with income $500, client not point t
paid yet
 Financial & Management Accounting

• Management accounting provides economic information for

internal users that is then reflected in financial accounting
statements for external users

• Management accounting is predominately about planning and

decision making for future events

• Core activities include

o Formulating plans and budgets
o Providing information to be used in monitoring and control
o Providing cost information for decision making
An example of what’s asset, liability, equity,
income and expenses?

Imagine you earn a living by receiving money for delivering things for people:
You have a $25K truck. It gives you the capability to do deliveries … it is an asset
You borrowed $20K from a bank and used $5K of your own money to buy the truck.
– You have $5K equity in the business
– The bank is owed $20K, therefore the business has a liability of $20K
So, by the way, notice A = L + E; $25K = $20K + $5K
Next day, you earn $100 by making a delivery but you used $20 of petrol to do it.
– $100 is income, $20 is an expense
The difference, i.e. $100 - $20 = $80, is profit.
Overview of main financial reports

Balance Sheet at end of Day 1

Assets Liabilities
Truck $25K Bank Loan $20K

Equity
Owner $5K

Total Assets $25K Total Claims $25K

Statement of Cash Flows for Day 1

Cash Receipts
from owner $5K
from bank loan $20K
Total receipts $25K
Cash payments
for truck $25K
Net change in cash $0K
Cash at beginning of day $0
Cash at end of day $0
Next day, you earn $100 by making a delivery but you used $20 of petrol to do it.
– $100 is income, $20 is an expense
The difference, i.e. $100 - $20 = $80, is profit.

Let’s assume both the delivery and the petrol were paid in cash, not “on credit” or “on
account”
Income Statement for Day 2
Sales $100 Statement of Cash flows for Day 2
Cash Receipts
Less Expenses from customers $100
Petrol $20 Total receipts $100
Cash payments
Profit $80 for petrol $20
Net change in cash $80
Cash at beginning of day $0
Cash at end of day $80

Balance Sheet at end of Day 2

Assets Liabilities
Truck $25,000 Bank Loan $20,000
Cash $80
Equity
Profit $80
Owner
$5,000

Total Assets $25,080 Total Claims $25,080

 Types of Businesses

What kinds of business ownership exist?

• Sole proprietorship – An individual in business on his or her
own account
• Partnership – Two or more persons carrying on a business
with a view to profit
• Limited company – Legal entity which has an identity
separate from that of those who own and manage it.
 Characteristics of sole proprietorship

• no separate legal entity

• limited life
• unlimited liability
• minimum reporting regulations
• limited access to funds
• low cost to establish
 Characteristics of a partnership

• no separate legal entity

• limited life
• unlimited liability
• mutual agency
• co-ownership of assets and profits
• limited membership
• increased regulation
 Characteristics of limited company

• separate legal entity

• unlimited life
• limited liability
• costly to establish
• increased regulation and reporting requirements
• may require an annual audit
 Further illustration of business types
• Private firms vs. Public firms:
– listed in the stock market or not
• Common misconception from the immature financial report
users:
– Public firms are always the best!!!
Public Firms Private firms

Must disclose annual report and subject to Voluntary to disclose annual report
audit
Issue shares to stock exchange (thereof, No shares in stock market (high authority to
diverse owners), relatively easy to fund loan control the ownership), relatively difficult to
from the bank obtain loan from the bank
High visibility, media reporting, analysts Low visibility
following, regulator etc.
Report duties to the board, shareholders Flexible internal governance

…… ……
 How Businesses are Managed

Strategic management ‒ A process of identifying, choosing and

implementing activities that will enhance the long-term
performance of an organisation

Steps in the planning process

1. Setting the objectives or mission of the business ‒ What the

business is trying to achieve

2. Setting long-term plans ‒ How the business will achieve its

mission

3. Setting detailed short-term plans or budgets ‒ Typically a

financial plan for one year ahead
 How Businesses are Managed

• The process of making planned events actually occur

• Accounting assists in comparing planned outcomes with

actual outcomes in commonly specified terms

• Managers can take steps to get the business back on track if

variances are highlighted between planned and actual
outcomes
In summary: How Businesses are Managed
An increasingly turbulent and competitive
business environment …

• Increasingly sophisticated and demanding customers (e.g.,

ethical rating, manager’s personal scandal)
• Global economy where national frontiers become less
important (e.g., foreign independent director)
• Rapid changes in technology
• Deregulation of domestic markets (e.g. utilities)
• Pressure for competitive economic returns
• Volatility of financial markets
• Concern for social and environmental impacts
The accounting effects / responses …

• Harmonisation of accounting standards across national

frontiers (IFRS: International Financial Reporting Standards)
• The cost of adoption

• Review of types of information reported and ways of

reporting, e.g.
• financial accounting: standards in relation to intangible
assets, forms of legal compliance
• Management accounting: more of a focus on ‘value-
creation’ and less on ‘costs’
• Climate change, GFC & other scandals maintain pressure for
ongoing change in how accounting is done
 Self-study questions
1. Explain why owner are not always the managers? When owners are the managers?
(tips: consider different types of the companies)
2. Which information users might incentivize the company to reduce information
disclosure? (tips: figure 1.3)
3. What’s the benefit for companies stay private?