Small Business Accounting: Projecting and Evaluating Performance

Small Business
Accounting
Projecting and Evaluating
Performance
Chapter 13
McGraw-Hill/Irwin Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.
Learning Objectives
LO1 Review the basic concepts of accounting
LO2 Specify the requirements for a small business
accounting system
LO3 Explain the content and format of common
financial statements
LO4 Use accounting information as a tool for managing
your business effectively
LO5 Develop a complete set of budgets for your
business
LO6 Use accounting information to make better
business decisions
13-2
Why Accounting Matters
 Proves what your business did financially

 Shows how much your business is worth
 Banks, creditors, development agencies,
and investors require it
 Provides easy-to-understand plans for
business operations
 You can’t know how your business is doing
without it
13-3
Types of Accounting
 Managerial accounting
– Accounting methods that are specifically
intended to be used by managers for
planning, directing, and controlling a
business.
13-4
Types of Accounting
 Tax accounting  Financial

– An accounting accounting
approach based – A formal, rule-based
on specific set of accounting
accounting principles and
requirements set procedures
by governmental intended for use by
taxing agencies. outside owners,
investors, banks,
and regulators.
13-5
Basic Accounting Concepts
 Business entity  Going concern

concept concept
– The concept that – The accounting
a business has an concept that a
existence business is
separate from that expected to
of its owners. continue in
existence for the
foreseeable
future.
13-6
The Accounting Equation
 Accounting equation
– The statement that assets equal
liabilities plus owner’s equity (assets
liabilities owners’ equity).
13-7
The Accounting Equation
 Asset
– something the business owns that will have
value in the future
 Liability
– a legal obligation to pay some amount at a
time in the future.
 Owners’ equity
– whatever value is left after all liabilities
have been paid.
13-8
Revenues, Expenses, and Costs
 Cost  Expense
– The value given – A decrease in
up to obtain owners’ equity
something that caused by
you want. consuming your
product or service.
13-9
Information Usefulness
Only two reasons to do accounting:

1.To produce information that is useful
to you for managing your business
2.To meet legal or contractual
requirements
13-10
Why Does Accounting Matter?
 MACRS rate
– the Modified Accelerated Cost Recovery
System
– lets taxpayers depreciate more of the cost
earlier
 Depreciation
– Regular and systematic reduction in
income that transfers asset value to
expense over time.
13-11
Accounting Systems for Small
Business
 Computerized systems simplify the
accounting process by providing
automatic error checking, entry
screens that look like the common
business forms, and automatic
production of financial statements
and management reports.
13-12
Financial Reports
 Financial statements
– Formal summaries of the content of an
accounting system’s records of
transactions.
13-13
Financial Reports
 Five common financial

statements
– Income statement
– Statement of retained earnings
– Statement of owner’s equity
– Balance sheet
– Cash flow statement
13-14
Flow of
Informati
on in
Financial
Statemen
ts
Figure 13.1
13-15
Financial Reports
 Retained earnings
– The sum of all profits and losses, less all
dividends paid since the beginning of the
business.
 Articulate
– The concept that information flows from
the income statement through the
statements of retained earnings and
owners’ equity to the balance sheet.
13-16
Everyday Financial Documents
and Similar Financial Reports
Figure 13.2
13-17
Financial Reports
 Income statement
– A statement that lists revenues and
expenses and shows the amount of
profit a business makes for a specified
period of time.
13-18
Organization of the
Income Statement
Figure 13.3
13-19
Typical Single-Step Format
Income Statement
Figure 13.4A
13-20
Typical Multiple-Step
Income Statement
Figure 13.4B
13-21
Financial Reports
 Balance sheet
– A statement of what a business owns
(assets), what it owes to others
(liabilities), and how much value the
owners have invested in it (equity).
 Liquidity
– A measure of how quickly a company can
raise money through internal sources by
converting assets to cash.
13-22
Organization of the
Balance Sheet
Figure 13.5
13-23
Typical
Balance
Sheet
Figure 13.6 13-24

Balance Sheet
 Financial flexibility
– A business’s ability to manage cash
flows in such a manner that the
company can respond appropriately to
unexpected opportunities and needs.
 Financial strength
– The ability of a business to survive
adverse financial events.
13-25
Cash Flow Statement
 Cash flow statement

– A statement of the sources and uses of cash
in a business for a specific period of time.
 GAAP
– Generally Accepted Accounting Principles are
the standardized rules for accounting
procedures
– used in all audits and submissions of
accounting reports to the government.
13-26
Typical Cash Inflows and
Outflows on the Cash Flow
Statement
Figure 13.7 13-27

Cash Flow Statement
 Operating  Financing
activities activities
– Activities involved in – Activities through
producing and selling
which cash is
goods and services.
obtained from and
 Investing activities paid to lenders,
– The purchase and sale owners, and
of land, buildings, investors.
equipment, and
securities.
13-28
Uses of Financial Accounting
13-29
Uses of Managerial Accounting
 External (cost)  Internal (cost)

factors factors
– Aspects of the – Aspects of or
world outside the choices within the
business which business which
could cause the could cause the
business’s costs business’s costs
to change. to change.
13-30
Uses of Managerial Accounting
 Cost-volume-profit analysis
– A managerial accounting technique
which looks at the fixed and variable
costs of a business to arrive at a number
of unit sales (volume) to maximize
profits.
– Variable, fixed costs
13-31
Total Costs
Figure 13.8
13-32
Breakeven Point
 Breakeven
point
– The point at which
total costs equal
gross revenue.
Figure 13.11
13-33
The Business Plan and the
Budget Process
 Budget
– A financial plan for the future, based on
a single level of operations; a
quantitative expression of the use of
resources necessary to achieve a
business’s strategic goals.
 Pro forma
– indicates estimated or hypothetical
information
13-34
Budgeting Relationships
Figure 13.2
13-35
Budget Process
 Master budget
– A budget which consists of sets of
budgets that detail all projected receipts
and spending for the budgeted period.
– also referred to as a comprehensive
budget
13-36
Budget Process
 Cost of goods sold budget
– A schedule that shows the predicted cost
of product actually sold during the
accounting period.
 Activity-based cost estimates
– An accounting method which assigns
costs based on the different types of
work a business does in order to sell a
particular product or service.
13-37
Controlling
 Variance
– The difference between an actual and
budgeted revenue or cost
 Variance analysis
– The process of determining the effect of
price and quantity changes on revenues
and expenses.
13-38
Controlling
 Favorable/unfavorable variance
– A label applied to variances to indicate
their effect upon the income statement;
– Favorable variances would result in
profits being greater than budgeted, all
other things being equal;
– Unfavorable variances would result in
profits being less than budgeted, all
other things being equal.
13-39
Decision Making
To make good decisions we need:

1.Good information
2.Efficient ways to condense
information so it is understandable
3.Methods to help compare
alternatives.
13-40

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Small Business

 Proves what your business did financially

 Tax accounting  Financial

 Business entity  Going concern

Only two reasons to do accounting:

 Five common financial

Figure 13.6 13-24

 Cash flow statement

Figure 13.7 13-27

 External (cost)  Internal (cost)

To make good decisions we need:

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