Chapter

One
Introduction to
Accounting
 LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1Explain what accounting is.
2Identify the users and uses of accounting.
3Explain accounting standards and measurement principles.
4Explain the monetary unit assumption and
the economic entity assumption.
5Explain the career opportunities in accounting.
6State the accounting equation, and define its components.
7Analyze effects of business transactions on
the accounting equation.
8Understand the four FS’s and how they are prepared.
 1. What is Accounting?
1.
Accounting consists of three basic
activities—it

identifies,

records, and
 communicates

the economic of an organization

events to
interested users.
 Cont’
o As a starting point to the accounting d a
process,
company identifies the economic events relevant
to its business. Examples of economic events are
the sale of goods, the providing of telephone services
…
o Once a company identifies economic events, it records
those
events in order to provide a history of its financial activities.
o Recording consists of keeping a
systematic,chronological
diary of events, measured in monetary units.
o In recording, the company also classifies and
summarizes economic events.
 Three Activities
Illustration 1-1
The activities of the accounting
process

The accounting process

includes the bookkeeping
function.
Who UsesAccounting
Data?
o There two broad groups of users of
areinformation:financial
internal users and
external users.
1) INTERNAL USERS
oInternal users of accounting information are
managers who plan, organize, and run the business.
These include marketing managers, production
supervisors, finance directors, and company
officers.
oManagerial Accounting provides internal reports
to help users make decisions about their companies.
oExamples are financial comparisons of operating
 Cont’
d
INTERNA
L
USERS

Illustration 1-2
Questions that
internal users ask
 Cont’
2) EXTERNAL USERS d
oExternal users are individuals and organizations outside
a company who want financial information about the
company.
oThe two most common types of external users are
investors
and creditors.
oInvestors (owners) use accounting information to
make decisions to buy, hold, or sell ownership shares of a
company.
oCreditors (such as suppliers & bankers) use
accounting information to evaluate the risks of granting
credit or lending money.
 Cont’
d
EXTERNA
L
USERS

Illustration 1-3
Questions that external
users ask
 > DO IT!

Indicate whether the following statements are true

or false.
1. The three steps in the accounting process are
identification,
recording, and communication.
1. Bookkeeping encompasses all steps in
the accounting process.
2. Accountants prepare, but do not interpret, financial
reports.
3. The two most common types of external users are
investors and company officers.
4. Managerial accounting activities focus on reports for
 1. Accounting Standards, Measurement
2. Principles
& Assumptions
Accounting
o In
Standards
to ensure high-quality financial
order
accountants reporting,
present FS’s in conformity with accounting
standards that are issued by standard setting bodies.
oPresently, there are two primary accounting
standard- setting bodies—the IASB and FASB.
oMore than 140 countries follow standards
referred to IFRS.

o IFRS’s are determined by the IASB. The IASB is

headquartered in London, with board
its 15 drawn from around members
 Cont’
o Most companies in the US follow d
standards
issued bythe
FASB, referred to as GAAP.
o As markets become more global, it is often desirable
to compare the results of companies from different
countries that report using different accounting
standards.
o In order to increase comparability, in recent years the two
standard-setting bodies have made efforts to reduce
the differences between IFRS and U.S. GAAP.
o This process is referred to as convergence.
o As a result of these convergence efforts, it is likely
that someday there will be a single set of high-quality
 Cont’
d
International Accounting Standards Board
(IASB) http://www.iasb.org/

International Financial
Reporting Standards

Financial Accounting
(FASB http://
Standards Board
www.fasb.org/
)
Generally Accepted Accounting Principles
(GAAP)
 Measurement Principles
o IFRS generally uses one of two measurement
principles, the historical cost principle
or the fair value principle.
o The selection of which principle to generall
follow relates to trade-offs y
between relevance & representation. faithful
o Relevance means that financial information is
capable of making a difference in a decision.
o Faithful representation means that the
numbers and descriptions match what really
existed or happened— they are factual.
 Cont’
1) HISTORICAL COST PRINCIPLE (or Cost d
Principle)

1) It dictates that companies record assets at

their
cost.

1) This is true not only at the time the asset

is purchased, but also over the time the
asset is held.

1) FAIR VALUE PRINCIPLE

1) It states that assets and liabilities should

be reported at fair value (the price
 Cont’
o d
Fair value information may be more useful than HC
for
certain types of assets and liabilities.

o For example, certain investment securities

are reported at FV because market value
information is usually readily available for these
types of assets.

o In determining which measurement principle to

use, companies weigh the factual nature of cost
figures versus the relevance of fair value.

o In general, even though IFRS allows companies to

revalue PPE and other long-lived assets to FV,
most companies choose to use cost. Only in
 Assumptions
o provid a for the
Assumptions e foundation accounting
process.
o Two mainassumptions are the monetary
unit assumption
and the economic entity assumption.

1) MONETARY UNIT ASSUMPTION

o monetary unit assumption requires
Theinclude
that companies records only transaction
in the accounting
data that
can be expressed in money terms.
o assumptionenables accountingto quantify
Thiseconomic
(measure)
events.
o monetary unit is to applying
Thehistorical
assumption
cost vital the
 Cont’
o This assumption prevents the d
inclusion of some relevant
information in the accounting records.
o For example, the health of a company’s owner,
the quality
of service, and the morale of employees are not
included.
o The reason: Companies cannot quantify this
information in money terms.
 Cont’
2) ECONOMIC ENTITY ASSUMPTION
d
o It requires that activities of the entity be
kept separate and distinct from the activities of
its owner and all other economic entities.
 Proprietorsh
ip Forms of
 Partnership
Business
Ownership
 Corporation
 Cont’
Proprietorship Partnership d
Corporation

 Owned by one  Owned by two  Ownership

person or more divided into
 persons shares
Owner is often
manager/operator  Often retail  Separate
 and service- legal entity
Owner receives
type organized
any profits,
businesses under
suffers any
 corporation
losses, and is Generally
law
personally unlimited
liable for all personal  Limited
debts. liability liability
 Cont’
d
Question #1
The historical cost principle states that:
a. Assets should be initially recorded at cost
and adjusted when the fair value changes.
b. Activities of an entity are to be kept an
separate d
c. distinct from its owner.
Assets should be recorded at their cost.
d. Only transaction data capable of
being expressed in
terms of money be included in the accounting
 > DO IT!
Indicate whether each of the following statements
below is true or false. presented

•Convergence refers to efforts to reduce differences

between IFRS and U.S. GAAP.

1.The primary accounting standard-setting body

headquartered in London is the International
Accounting Standards Board (IASB).

2.The historical cost principle dictates that companies

record assets at their cost. In later periods, however, the
fair value of the asset must be used if fair value is higher
than its cost.
 > DO IT!
Indicate whether each of the following statements
below is true or false. presented

•Relevance means that financial information

matches what really happened; the information is
factual.

•A business owner’s personal expenses must be

separated from expenses of the business to comply
with accounting’s economic entity assumption.
1. Accounting Career
3.Public AccountingOpportunities
Careers in auditing, taxation, Private Accounting
and management consulting Careers in industry working
serving the general public. in cost accounting,
budgeting, accounting
Governmental Accounting
Careers with the tax authorities, information systems, and
law enforcement agencies, and taxation.
corporate regulators.

Forensic Accounting
Uses accounting, auditing, and investigative skills to
conduct investigations into theft and fraud.
 1. The Basic Accounting
4. Equation
Basic Accounting Equation
Provides the underlying framework for recording
and
summarizing economic events.
Assets must equal the sum of liabilities and
equity.

Assets = Liabilitie + Equity

s
 Cont
’d
Assets = Liabilitie + Equity
s
Assets
Resources a business owns.
Provide future services or benefits.
Cash, Inventory, Equipment, etc.
 Cont
’d
Assets = Liabilitie + Equity
s
Liabilities
Claims against assets (debts and obligations).
Creditors (party to whom money is owed).
Accounts Payable, Notes Payable,
Salaries and
Wages Payable, etc.
 Cont
’d
Assets = Liabilitie + Equity
s
Equity
Ownership claim on total assets.
Referred to as residual equity.
Share Capital—Ordinary and Retained Earnings.
 Cont’
Illustration 1-7: Increases and Decreases in Equity d

Investments by shareholders represent the

total amount paid in by shareholders for the
ordinary shares they purchase.
 Cont’
Illustration 1-7: Increases and Decreases in Equity
d

Revenues result from business

activitiesentered into for the purpose of
earning income.
Commonsources of revenueare: sales,
 Cont’
Illustration 1-7: Increases and Decreases in Equity
d

Expenses are the cost of assets consumed or

services used in the process of earning revenue.
Common expenses are: salaries expense,
rent expense, utilities expense, property tax
 Cont’
Illustration 1-7: Increases and Decreases in Equity
d

Dividends are the distribution of

cash or other assets to
shareholders.
Dividends reduce retained earnings.
 > DO IT!

Classify the following items as issuance of

stock,
dividends, revenues, or expenses.
Then indicate whether
each item increases or decreases
stockholders’ equity.
Classification Effect on Equity

1. Rent Expense

2. Service Revenue

3. Dividends

4. Salaries and Wages Expense

 1. Using the Accounting
5. Equation
Transactions are a
business’s economic events
recorded by accountants.
May be external or internal.
Not all activities represent transactions.
Each transaction hasa dual effect on
the
accounting equation.
 Cont’
Illustration: followin events d
in
Are the g recorded the
accounting
Discuss product
records?
Event
Purchase
design with Pay rent
computer
potential customer

Is the financial position (assets, liabilities, or

Criterion
stockholder’s equity) of the company changed?

Record/
Don’t Record

Illustration 1-8
Transaction-identification
 Cont’
Illustration 1-9
d
Expanded Accounting
Equation
 Cont’
d
TRANSACTION 1. INVESTMENT BY STOCKHOLDERS Ray and Barbara
Neal decide to start a computer programming company that they
incorporate as Softbyte Inc. On September 1, 2014, they invest
€15,000 cash in the business in exchange for €15,000 of ordinary
shares. The ordinary shares indicates the ownership interest that the
Neals have in Softbyte SA. This transaction results in an equal
increase in both assets and equity.

Assets = Liabilities + Equity

Trans- Accounts Accounts Share Retained Earnings
Cash + + Supplies = + +
action Receivable Payable Capital Rev. – Div
+Equipment Exp. .
1. +15,000 +15,000 –
TRANSACTION 2. PURCHASE OF EQUIPMENT FOR Softbyte
CASH
Inc. purchases computer equipment for €7,000 cash.
Assets = Liabilities + Equity
Trans- Accounts Retained Earnings
Cash + + Supplies Accounts +
action Receivable = + Rev. – Div
+Equipment Share Payable Exp. .
1. +15,000 +15,000
Capital –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
$8,050 + $1,400 + $1,600 + $7,000 = $1,600 + $15,000 + $4,700 - $1,950 - $1,300
TRANSACTION 3. PURCHASE OF SUPPLIES ON CREDIT Softbyte Inc.
purchases for €1,600 computer paper & other supplies expected to
last
several months. The supplier allows Softbyte to pay this bill in October.

Assets = Liabilities + Equity

Trans- Accounts Retained Earnings
Cash + + Supplies Accounts +
action Receivable = + Rev. – Div
+Equipment Share Payable Exp. .
1. +15,000 +15,000
Capital –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
$8,050 + $1,400 + $1,600 + $7,000 = $1,600 + $15,000 + $4,700 - $1,950 - $1,300
TRANSACTION 4. SERVICES PERFORMED FOR CASH Softbyte Inc.
receives €1,200 cash from customers for services it
programming has
provided.
Assets = Liabilities + Equity
Trans- Accounts Share Retained Earnings
Cash + + Supplies = + +
action Receivable
Accounts Payable Capital Rev. – Div
+Equipment Exp. .
1. +15,000 +15,000 –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000
+3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. $8,050 + $1,400 + $1,600 + $7,000 = -1,300
$1,600 + $15,000 + -1,300- $1,300
$4,700 - $1,950
TRANSACTION 5. PURCHASE OF ADVERTISING ON CREDIT
Softbyte
receives auntil
payment billafor €250
later from the Daily News for advertising but postpones
date.

Assets = Liabilities + Equity

Trans- Accounts Retained Earnings
Cash + + Supplies Accounts +
action Receivable = + Rev. – Div
+Equipment Share Payable Exp. .
1. +15,000 +15,000
Capital –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
+ $8,050
+ + $1,400 $1,600 $7,000 $1,600 $15,000 = $4,700 - $1,950
+ - +
$1,300
TRANSACTION 6. SERVICES PROVIDED FOR CASH AND CREDIT.
Softbyte Inc provides €3,500 of programming services for customers.
The company receives cash of €1,500 from customers, and it bills the
balance of €2,000 on account.
Assets = Liabilities + Equity
Trans- Accounts Share Retained Earnings
Cash + Receivable + Supplies = + +
Accounts action Payable Capital Rev. – Div
+Equipment Exp. .
1. +15,000 +15,000 –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
$8,050 + $1,400 + $1,600 + $7,000 = $1,600 + $15,000 + $4,700 - $1,950 - $1,300
TRANSACTION 7. PAYMENT OF EXPENSES Softbyte pays the
following expenses in cash for September: Store rent €600,
salaries
and wages of employees €900, and utilities €200.
Assets = Liabilities + Equity
Trans- Accounts Share Retained Earnings
Cash + Receivable + Supplies = + +
Accounts action Payable Capital Rev. – Div
+Equipment Exp. .
1. +15,000 +15,000 –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
$8,050 + $1,400 + $1,600 + $7,000 = $1,600 + $15,000 + $4,700 - $1,950 - $1,300
TRANSACTION 8. PAYMENT OF ACCOUNTS PAYABLE Softbyte pays
its
€250 Daily News bill in cash. The company previously (in Transaction
5) recorded the bill as an increase in Accounts Payable and a
Assets = Liabilities + Equity
decrease in equity.
Trans- Retained Earnings
Cash + Receivable + Supplies Accounts +
Accounts action = + Rev. – Div
+Equipment Share Payable Exp. .
1. +15,000 +15,000
Capital –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
$8,050 + $1,400 + $1,600 + $7,000 = $1,600 + $15,000 + $4,700 -
$1,950 - $1,300
TRANSACTION 9. RECEIPT OF CASH ON ACCOUNT
Softbyte
receives €600
services (in in cash6).
Transaction from customers who had been billed
for
Assets = Liabilities + Equity
Trans- Retained Earnings
Cash + Receivable + Supplies Accounts +
Accounts action = + Rev. – Div
+Equipment Share Payable Exp. .
1. +15,000 +15,000
Capital –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10. -1,300 -1,300
+ $8,050
+ $1,400 $1,600 $7,000 $1,600 $15,000 $4,700 - $1,950 +- =
$1,300
+ +
TRANSACTION 10. DIVIDENDS The corporation pays a dividend of €1,300
in cash to Ray and Barbara Neal, the shareholders of Softbyte Inc.

Assets = Liabilities + Equity

Trans- Accounts Retained Earnings
Cash + + Supplies Accounts +
action Receivable = + Rev. – Div
+Equipment Share Payable Exp. .
1. +15,000 +15,000
Capital –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10 -1,300 -1,300
.
€8,050 + €1,400 + €1,600 + €7,000 = €1,600 + €15,000 + €4,700 - €1,950 - €1,300

€18,050 €18,050
 Summary of Transactions
1. Each transaction must be analyzed in terms of
its effect on:
1. The three components of the basic
accounting
equation.
1. Specific types (kinds) of items within each
component.
1. The two sides of the equation must always be
equal.
2. The Share Capital—Ordinary and Retained
Earnings columns indicate the causes of each
Illustration 1.10: Tabular Summery of Softbyte Inc.
Transactions
Assets = Liabilities + Equity
Trans- Accounts Accounts Share Retained Earnings
Cash + + Supplies = + +
action Receivable Payable Capital Rev. – Div
+Equipment Exp. .
1. +15,000 +15,000 –

2. -7,000 +7,000
3. +1,600 +1,600
4. +1,200 +1,200
5. +250 -250
6. +1,500 +2,000 +3,500
7. -1,700 -600
-900
-200
8. -250 -250
9. +600 -600
10 -1,300 -1,300
.
€8,050 + €1,400 + €1,600 + €7,000 = €1,600 + €15,000 + €4,700 - €1,950 - €1,300

€18,050 €18,050
 > DO IT!
Transactions made by Virmari & Co., a public
accounting firm,
for the month of August are shown below. Prepare a
tabular analysis which shows the effects of these
transactions on the expanded accounting equation,
similar to that shown in Illustration 1-10.
•The company issued ordinary shares for €25,000 cash.

•The company purchased €7,000 of office equipment on credit.

•The company received €8,000 cash in

exchange for services performed.

•The company paid €850 for this month’s rent.

•The company paid a dividend of €1,000 in cash to shareholders.

 > DO IT!

Solutio
n:
Assets = Liabilities + Equity
Trans- Accounts Share Retained Earnings
Cash + Equipment = + +
action Payable Capital Rev. – Exp. – Div
.
1. +25,000 +25,000

2. +7,000 +7,000

3. +8,000 +8,000

4. -850 -850

5. -1,000 -1,000

$31,150 + $7,000 = $7,000 + $25,000 + $8,000 $850 - $1,000

-

$38,150 $38,150
1. Financial Statements
6.
 Companies prepare four statement from
s the
financial summarized accounting
 data:
An IS presents the revenues and expenses and
resulting Net Income or Net Loss for a specific period of
time.
 A RE’s statement summarizes the changes in retained
earnings for a specific period of time.
 A SoFP (sometimes referred to as a balance sheet)
reports the
assets, liabilities, and equity of a company at a specific date.
 A SCF summarizes information about the
cash inflows and
cash outflows for a specific period of time.
 Illustration 1-10 Financial
statements and their
interrelationships

Illustration 1-11: Financial Statements and their

SoFP & IS
are
needed to
prepare
SCF.

Illustration 1-
11: FS’s and
their
Interrelationsh
ips
 Income Statement
 Reports the profitability of the company’s
operations over a specific period of time.
 Lists revenues first, followed by expenses.
 Shows net income (or net loss).
 Does not include investment and dividend
transactions between the shareholders and the
business.
 Cont’
Question #2 d
Net income will result during a time period
when:
•assets exceed liabilities.

•assets exceed revenues.

•expenses exceed revenues.

•revenues exceed expenses.

 Retained Earnings Statement
 Reports the changes in retained earnings for a
specific period of time.
 The time period is the same as
that covered by the
income statement.
 Information provided indicates the reasons
why retained earnings increased or decreased
during the period.
Statement of Financial Position
 Reports the assets, liabilities, and equity
at a specific date.
 Lists assets at the top, followed by liabilities
and equity.
 Total assets must equal total liabilities and
equity.
 Is a snapshot of the company’s financial
condition at a specific moment in time
(usually the month- end or year-end).
 Cont’
Question #3 d
The financial statement that reports assets,
liabilities, and equity is the:
•Income Statement.

•Retained Earnings Statement.

•Statement of Financial Position.

•Statement of Cash Flows.

 Statement of Cash Flows
 Information on the cash receipts and payments
for a specific period of time.
 Answers the following:

► Where did cash come from?

► What was cash used for?

► What was the change in the

cash HELPFUL HINT
balance? Investing activities pertain to
investments made by the
company, not investments
made by the owners.
 > DO IT!

Presented below is selected information related to

Flanagan Company at December 31, 2014. Flanagan reports
information
financial
monthly.
Equipment £10,000 Utilities Expense £ 4,000
Cash 8,000 Accounts Receivable 9,000
Service Revenue 36,000 Salaries and Wages Expense 7,000
Rent Expense 11,000 Notes Payable 16,500
Accounts Payable 2,000 Dividends 5,000

Required:
(a) Determine the total assets of Flanagan at December 31, 2014.
(b) Determine the net income that Flanagan reported for December 2014.
(c) Determine the equity of Flanagan at December 31, 2014.
Information related to Flanagan Company at December 31, 2014.
Equipment £10,000 Utilities Expense £ 4,000
Cash 8,000 Accounts Receivable 9,000
Service Revenue 36,000 Salaries and Wages Expense 7,000
Rent Expense 11,000 Notes Payable 16,500
Accounts Payable 2,000 Dividends 5,000

(a) Determine the total assets of Flanagan at December 31, 2014.

Equipment £10,000
Cash 8,000
Accounts Receivable 9,000
Total assets £27,000
Information related to Flanagan Company at December 31, 2014.
Equipment £10,000 Utilities Expense £ 4,000
Cash 8,000 Accounts Receivable 9,000
Service Revenue 36,000 Salaries and Wages Expense 7,000
Rent Expense 11,000 Notes Payable 16,500
Accounts Payable 2,000 Dividends 5,000

(b) Determine the net income reported for December 2014.

Revenues
Service revenue £36,000
Expenses
Rent expense £11,000
Salaries and wages expense 7,000
Utilities expense 4,000
Total expenses 22,000
Net income £14,000
Information related to Flanagan Company at December 31, 2014.
Equipment £10,000 Utilities Expense £ 4,000
Cash 8,000 Accounts Receivable 9,000
Service Revenue 36,000 Salaries and Wages Expense 7,000
Rent Expense 11,000 Notes Payable 16,500
Accounts Payable 2,000 Dividends 5,000

(c) Determine the equity of Flanagan at December 31, 2014.

Total assets [as computed in (a)] £27,000

Less: Liabilities
Notes payable £16,500
Accounts payable 2,000 18,500
Equity £ 8,500
The End of Chapter

1 Thank You!!!