Business Decisions & Financial Accounting (Ch. 1)

Front 1

Sole Proprietorship

Back 1

Owned by one individual, are relatively inexpensive to form, and are not treated legally as separate from their owners. Thus, all profits or losses become part of the taxable income to the owner who is also responsible personally for all debts of the business.

Front 2

Partnerships

Back 2

Legally similar to a proprietorship, but with two or more owners.

Front 3

Corporations

Back 3

Separate legal entities (thus, corporations pay taxes) that issue shares of stock to investors (stockholders) and are more costly to establish. Stockholders cannot be held liable for more than their investment in the corporation. Private corporations issue stock to a few individuals while public corporations issue stock in the stock market.

Front 4

Business Decision Makers

Back 4

Creditors (banks, suppliers)
Investors (Stockholders)
Customers
Governments
Other External Users

Front 5

Income Statement

Back 5

Reports the net amount that a business earned (net income) over a period of time by subtracting the costs of running the business (expenses) from the total amount earned (revenues).

Revenues
- Expenses
--------------
- Net Income

Front 6

Statement of Retained Earnings

Back 6

Explains changes in the Retained Earnings account over a period of time by considering increases (from net income) and decreases (from dividends to stockholders).

Beginning Retained Earnings
+ Net Income (This Period)
- Dividends (This Period)
-------------------------------------
-Ending Retained Earnings

Front 7

Balance Sheet

Back 7

Reports what the business owns (reported as assets) at a particular point in time and how much of the financing for these assets came from creditors (reported as liabilities) and stockholders (reported as stockholders' equity).

Assets - (Liabilities + Stockholder's Equity)

Front 8

Statement of Cash Flows

Back 8

Explains changes in the cash account over a period of time by reporting inflows and outflows of cash from the business's operating, investing, and financing activities.

Divided Into:

1. Operating: Running the business to earn profits

2. Investing: Buying and selling productive resources with long lives (buildings, land, equipment, etc) Purchasing investments, and lending to others.

3. Financing: Any borrowing from banks, repaying bank loans, receiving contributions from stockholders, or paying dividends to stockholders.

+/- Operating Cash Flows
+/- Investing Cash Flows
+/- Financing Cash Flows
----------------------------------
- Change in Cash
+ Beginning Cash
----------------------------------
- Ending Cash

Front 9

How Do Creditors Use Financial Statements?

Back 9

They are mainly interested in assessing whether the company: (1) is generating enough cash to make payments on its loan, and (2) has enough assets to cover its liabilities. Answers to these questions are indicated by the statement of cash flows and the balance sheet.

Front 10

How Do Investors Use Financial Statements?

Back 10

They look closely at the income statement for information about a company's ability to generate profits, and at the statement of retained earnings for information about a company's dividend distributions.

Front 11

Factors That Contribute To Use Financial Information

Back 11

GAAP (Generally Accepted Accounting Principles)
IFRS (International Financial Reporting Standards

To Be Useful Information Must:

Be Relevant
Faithful Representation of Reality
Comparable
Verifiable
Timely
Understandable

Front 12

Basic Accounting Equation
(Balance Sheet Equation)

Back 12

Assets = Liabilities + Capital

A = L + C

Front 13

Separate Entity Assumption

Back 13

Requires that a business's financial reports include only the activities of the business and not those of its stockholders.

Front 14

Asset

Back 14

An economic resource presently controlled by the company; it has measurable value and is expected to benefit the company by producing cash inflows or reducing cash outflows in the future.

Front 15

Liabilities

Back 15

Are measurable amounts that the company owes to creditors.

Front 16

Stockholder's Equity

Back 16

Stockholders' equity represents the owner's claims on the business. Also called capital.

These claims arise for two reasons.

1. Contributed Capital -Paid in by stockholders
2. Retained Earnings -Earned by the company

Front 17

Revenues

Back 17

Earned by selling goods or services to customers.

Front 18

Expenses

Back 18

Expenses are all costs of doing business that are necessary to earn revenues.

Front 19

Net Income

Back 19

Calculated as revenues minus expenses.

Revenues - Expenses = Net Income

Front 20

Dividends

Back 20

A distribution of earnings to stockholders. Most commonly done in cash.

Front 21

Relationships Among The Financial Statements

Back 21

1. Net Income, from the income statement, is a component in determining ending Retained Earnings on the statement of retained earnings.

2. Ending Retained Earnings from the statement of retained earnings is then reported on the balance sheet.

3. The Cash on the balance sheet is equal to the ending Cash reported on the statement of cash flows.

Front 22

Capital

Back 22

This is another name for Stockholder's Equity