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Learning Objectives
Recognize the information conveyed in each of the four basic financial statements and the way that it is used by different decision makers (investors, creditors, and managers).
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Balance Sheet
Income Statement
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Financial statements prepared at the end of the year are called annual reports.
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MAXIDRIVE CORP. Balance Sheet At December 31, 2006 (in thousands of dollars) Assets Cash Accounts receivable Inventories Plant and equipment Land Total assets Liabilities and Stockholders' Equity Liabilities Accounts payable Notes payable Total liabilities Stockholders' Equity Contributed capital Retained earnings Total stockholders' equity Total liabilities and stockholders' equity $ 2,000 9,105 $ 7,156 9,000 $
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The Balance Sheet reports the financial position of an entity at a particular point in time.
$ 16,156
11,105 $ 27,261
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Assets are economic resources owned by the business as a result of past transactions.
MAXIDRIVE CORP. Balance Sheet At December 31, 2006 (in thousands of dollars) Assets
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Cash $ 4,895 Accounts receivable 5,714 Inventories 8,517 Plant and equipment 7,154 Land 981 Total assets $ 27,261 Liabilities and Stockholders' Equity companys bank Amount of cash in the Cash Liabilities accounts. Accounts payable $ 7,156 Accounts Amounts owed by customers from prior Notes payable receivable
9,000 sales. Total liabilities Parts and completed but unsold$ 16,156 Assets are listed Inventories Stockholders' Equity products. by their ease of Contributed capital $ 2,000 Plant and conversion into Retained earnings Factories and production 9,105 machinery. equipment cash. Total stockholders' equity 11,105 Land on which equity Total Land liabilities and stockholders'factories are built. 27,261 $
MAXIDRIVE CORP. Balance Sheet At December 31, 2006 (in thousands of dollars) Assets
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Liabilities are debts or obligations of the business that result from past transactions.
Cash Accounts receivable Inventories Plant and equipment Land Total assets Liabilities and Stockholders' Equity Liabilities Accounts payable Notes payable Total liabilities $ 7,156 9,000
Accounts Amounts owed to Stockholders' Equity suppliers for prior Contributed capital payable purchases. Retained earnings Notes Amounts owed on written debt Total stockholders' equity payable contracts.
Equity is the amount of financing provided by owners of the business and earnings.
Contributed capital Retained earnings
MAXIDRIVE CORP. Balance Sheet At December 31, 2006 (in thousands of dollars) Assets Cash Accounts receivable Inventories Plant and equipment Land Total assets Liabilities and Stockholders' Equity Liabilities $ 7,156 9,000 $
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Amounts invested in the business by Accounts payable stockholders. Notes payable Past earnings not distributed to Total liabilities stockholders.
Stockholders' Equity Contributed capital Retained earnings Total stockholders' equity Total liabilities and stockholders' equity
MAXIDRIVE CORP. Balance Sheet At December 31, 2006 (in thousands of dollars) Assets
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Cash Accounts receivable Inventories Plant and equipment Land Total assets Liabilities and Stockholders' Equity Liabilities Accounts payable Notes payable $ 7,156 9,000
$ 16,156
11,105 $ 27,261
MAXIDRIVE CORP. Income Statement For the Year Ended December 31, 2006 (in thousands of dollars) Revenues Sales revenue $ 37,436 1. Name of entity 2. Title of Expenses statement 3. Specific period Cost of goods sold of time (Unlike the balance $ 26,980 sheet, this statement covers a Selling, general and administrative specified 3,624 period of development Research andtime.) 1,982 4. Unit of measure Interest expense 450 Total expenses 33,036 Pretax income Income tax expense Net income $ 4,400 1,100 $ 3,300
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MAXIDRIVE CORP. The Income Statement reports the Income Statement revenues minus expenses of2006 For the Year Ended December 31, the accounting period. (in thousands of dollars) Revenues Sales revenue $ 37,436 Expenses Cost of goods sold $ 26,980 Selling, general and administrative 3,624 Research and development 1,982 Interest expense 450 Total expenses 33,036 Pretax income Income tax expense Net income $ 4,400 1,100 $ 3,300
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MAXIDRIVE CORP. Income Statement For the Year Ended December 31, 2006 (in thousands of dollars) Revenues Sales revenue $ 37,436 Expenses Revenues are earnings from the sale of goods or Cost of goods sold $ 26,980 services to customers. Revenue is recognized in the Selling, general and administrative 3,624 period in which goods and services are sold, not Research and development 1,982 necessarily the period in which cash450received. is Interest expense Total expenses 33,036 Pretax income Income tax expense Net income $ 4,400 1,100 $ 3,300
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Revenues
May 2006
June 2006
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Revenues
May 2006
MAXIDRIVE CORP. Income Statement For are the Ended December 31, 2003 Expensesthe Yeardollar amount of resources used (in earn revenues during up by the entity tothousands of dollars) a period. An expense is recognized in the period in which goods used, Revenues and services are used, not necessarily the Sales revenue period in which cash is paid. $ 37,436 Expenses Cost of goods sold $ 26,980 Selling, general and administrative 3,624 Research and development 1,982 Interest expense 450 Total expenses 33,036 Pretax income Income tax expense Net income $ 4,400 1,100 $ 3,300
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MAXIDRIVE CORP. Income Statement For the Year Ended December 31, 2006 (in thousands of dollars) Revenues Cost of The cost to produce products sold this Sales revenue period. $ 37,436 goods sold Expenses Selling, Operating expenses not directly related Cost of goods sold $ 26,980 general and to production. Selling, general and administrative 3,624 administrative Research and development 1,982 Research and Expenses incurred to develop new Interest expense 450 development products. Total expenses 33,036 Interest Pretax income The cost of using borrowed funds.4,400 $ expense Income tax expense 1,100 Income tax Income taxes on current periods pretax Net income $ 3,300 expense income.
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Expenses
The dollar amount of resources used up by the entity to earn revenues during a period. When will the expense for this transaction be recognized?
May 11 paid $75 cash for newspaper ad. Ad appears on June 8th.
X May 2006
June 2006
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Expenses
The dollar amount of resources used up by the entity to earn revenues during a period. When will the expense for this transaction be recognized?
Advertising expense recorded in June.
June 2006
MAXIDRIVE CORP. Income Statement For the Year Ended December 31, 2006 (in thousands of dollars) Revenues Sales revenue $ 37,436 Expenses Cost of goods sold $ 26,980 Selling, general and administrative 3,624 Research and development 1,982 Interest expense 450 Total expenses 33,036
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1,100 $ 3,300
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MAXIDRIVE CORP. Statement of Retained Earnings For the Year Ended December 31, 2006 (in thousands of dollars) Retained earnings, January 1, 2006 $ 6,805 1. income for 2006 NetName of entity 3,300 2. Title of for 2006 Dividends statement (1,000) 3. Specific period of time (Like the income$ 9,105 Retained earnings, December 31, 2006 statement, this statement covers a specified period of time.) 4. Unit of measure
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MAXIDRIVE CORP. Statement of Retained Earnings For the Year Ended December 31, 2006 (in thousands of dollars) Retained earnings, January 1, 2006 Net income for 2006 Dividends for 2006 Retained earnings, December 31, 2006 $ 6,805 3,300 (1,000) $ 9,105
The Statement of Retained Earnings reports the way that net income and the distribution of dividends affect the financial position of the company during a period.
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net income is usually not equal to the change in cash for the period.
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MAXIDRIVE CORP. Statement of Cash Flows For the Year Ended December 31, 2006 (in thousands of dollars) Cash flows from operating activities: Cash collected from customers $ 33,563 Cash paid to entity (30,854) 1. Name of suppliers and employees Cash paid for interest (450) 2. Title offor taxes statement Cash paid (1,190) 3. Specific period of time (Like the income $ 1,069 Net cash flow from operating activities Cashstatement, this activities: flow from investing statement covers a specified Cash paid to purchase equipment $ (1,625) period of from investing activities time.) Net cash flow (1,625) 4. flow of measure CashUnit from financing activities: Cash received from bank loan Cash paid for dividends Net cash flow from financing activities Net decrease in cash during the year Cash at beginning of the year Cash at end of the year $ $ $ 1,400 (1,000) 400 (156) 5,051 4,895
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MAXIDRIVE CORP.
The Statement of Cash Flows reports the inflows and For the Year Ended December 31, 2006 outflows of cash during the period in the categories of (in thousands of dollars) operating, investing, operating, investing, and financing. financing.
Cash flows from operating activities: Cash collected from customers Cash paid to suppliers and employees Cash paid for interest Cash paid for taxes Net cash flow from operating activities Cash flow from investing activities: Cash paid to purchase equipment Net cash flow from investing activities Cash flow from financing activities: Cash received from bank loan Cash paid for dividends Net cash flow from financing activities Net decrease in cash during the year Cash at beginning of the year Cash at end of the year $ $ $ 33,563 (30,854) (450) (1,190) $ $ (1,625) (1,625) $ 1,400 (1,000) 400 (156) 5,051 4,895 1,069
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MAXIDRIVE CORP. Statement of Cash Flows For the Year Ended December 31, 2006 (in thousands of dollars) Cash flows from operating activities: Cash collected from customers Cash paid to suppliers and employees Cash paid for interest Cash paid for taxes Net cash flow from operating activities Cash flow from investing activities: Cash paid to purchase equipment Net cash flow from investing activities Cash flow from financing activities:
$ (1,625) Cash flows directly related to (1,625) earning income are shown in the Cash received from bank loan $ 1,400 operating section.(1,000) section. Cash paid for dividends Net cash flow from financing activities 400 $ $ (156) 5,051 4,895
Net decrease in cash during the year Cash at beginning of the year Cash at end of the year
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MAXIDRIVE CORP. Statement of Cash Flows For the Year Ended December 31, 2006 (in thousands of dollars) Cash flows from operating activities: Cash collected from customers Cash paid to suppliers and employees Cash paid for interest Cash paid for taxes Net cash flow from operating activities Cash flow from investing activities: Cash paid to purchase equipment Net cash flow from investing activities Cash flow from financing activities:
(1,625) (1,625)
Cash flows bank loan to the$ acquisition Cash received from related 1,400 Cash paid for dividends (1,000) or sale of productive assets are 400 Net cash flow from financing activities Net decrease in cash during theinvesting section. $ shown in the year section. (156)
Cash at beginning of the year Cash at end of the year $ 5,051 4,895
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MAXIDRIVE CORP. Statement of Cash Flows For the Year Ended December 31, 2006 (in thousands of dollars) Cash flows from operating activities: Cash collected from customers Cash paid to suppliers and employees Cash paid for interest Cash paid for taxes Net cash flow from operating activities Cash flow from investing activities: Cash paid to purchase equipment Net cash flow from investing activities Cash flow from financing activities: Cash received from bank loan Cash paid for dividends Net cash flow from financing activities Net decrease in cash during the year Cash at beginning of the year Cash at end of the year $ $
Cash flows from or to investors or $ 1,069 creditors are shown in the financing section. section. $ (1,625) (1,625)
$ 1,400 (1,000) 400 (156) 5,051 4,895
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MAXIDRIVE CORP. Statement of Cash Flows For the Year Ended December 31, 2006 (in thousands of dollars) Cash flows from operating activities: Cash collected from customers Cash paid to suppliers and employees Cash paid for interest Cash paid for taxes Net cash flow from operating activities Cash flow from investing activities: Cash paid to purchase equipment Net cash flow from investing activities Cash flow from financing activities: Cash received from bank loan
(1,625) (1,625)
The statement ends$with a 1,400 Cash paid for dividends (1,000) reconciliation of Cash. Cash.
Net cash flow from financing activities $ $
Net decrease in cash during the year Cash at beginning of the year Cash at end of the year
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Net income from the income statement increases ending retained earnings on the statement of retained earnings.
MAXIDRIVE CORP. Statement of Retained Earnings For the Year Ended December 31, 2006 (in thousands of dollars) Retained earnings, January 1, 2006 $ 6,805 Net income for 2006 3,300 Dividends for 2006 (1,000) Retained earnings, December 31, 2006 $ 9,105
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Ending retained earnings from the statement of retained earnings is one of the components of stockholders equity on the balance sheet.
MAXIDRIVE CORP. Statement of Retained Earnings For the Year Ended December 31, 2006 (in thousands of dollars) Retained earnings, January 1, 2006 $ 6,805 Net income for 2006 3,300 Dividends for 2006 (1,000) Retained earnings, December 31, 2006 $ 9,105
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(1,625) (1,625)
The change in cash on the statement of cash flows added to the beginning of the year balance in cash equals the ending balance in cash on the balance sheet.
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Notes
Notes provide supplemental information about the financial condition of a company. Three basic types of notes:
Description of accounting rules applied. Presentation of additional detail about an item on the financial statements. Provide additional information about an item not on the financial statements.
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Purchasing managers use suppliers financial statements to decide whether suppliers have the resources to meet our demand for products.
Employees union and human resource managers use the companys financial statements as a basis for contract negotiations over pay rates.
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Price/Earnings Ratio
Price/Earnings Ratio =
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Learning Objectives
Identify the role of generally accepted accounting principles (GAAP) in determining the content of financial statements.
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Responsibilities for the Accounting Communication Process Effective communication means that the recipient understands what the sender intends to convey.
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The Securities and Exchange Commission (SEC) has been given broad powers to determine measurement rules for financial statements.
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Currently, the Financial Accounting Standards Board (FASB) is recognized as the body to formulate GAAP.
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Effects on the selling price of stock. Effects on the amount of bonuses received by managers and other employees. Loss of competitive information to other companies.
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International Perspective
Since 2002, there has been substantial movement to develop international financial reporting standards by the International Accounting Standards Board (IASB).
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Learning Objectives
Distinguish the roles of managers and auditors in the accounting communication process.
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Independent Auditors
Auditors express an opinion as to the fairness of the financial statement presentation. Independent auditors have responsibilities that extend to the general public.
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Independent Auditors
An audit involves . . .
Examining the financial reports to ensure compliance with GAAP. Examining the underlying transactions incorporated into the financial statements. Expressing an opinion as to the fairness of presentation of financial information.
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Learning Objectives
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End of Chapter 1