BE210: Financial Accounting

Accounting is the "language of business", so this course focuses on

financial accounting, which provides financial information. This financial
information is provided to external decision-makers primarily by means of general-
purpose financial statements of income results, financial position, and cash flows.
The course concentrates on the application of accounting theory, standards,
principles, and procedures to accounting problems. Financial reporting is
concerned with the form and content of the financial information disclosed by firms
to stakeholders, especially external parties (e.g. shareholders, financial analysts).

Dr. Helal Afify

 BE210: Financial Accounting
BE210 Course Structure

There are 6 Course Chapters:

Chapter 1: Accounting and the Business Environment.
 Use accounting vocabulary.
 Apply accounting concepts and principles.
 Use the accounting equation.
 Analyze business transactions.
 Prepare financial statements.
 Evaluate business performance.

Chapter 2: Recording Business Transactions.

 Use accounting terms: describe the basic tools of an accounting system, the account, the ledger, and the
journal).
 Apply the rules of debit and credit: describe the double-entry system and define debits and credits.
 Record transactions in the journal: Explain the flow of information through an accounting system by
use of journals and ledgers.
 Post from the journal to the ledger.
 Prepare trial balances and explain their use and limitations.

Chapter 3: The Adjusting Process.

 Define accrual accounting and distinguish between accrual and cash-based accounting.
 Describe the basic concepts underpinning accrual accounting, including the time-period concept,
revenue recognition rules and the matching principle.
 Define and distinguish between prepaid expenses and accrued expenses.
 Describe and utilize the process of adjusting account balances.
 Prepare an adjusted trial balance.
 Use an adjusted trial balance to prepare financial statements.

Chapter 4: Completing the Accounting Cycle.

 Identify the principles of accounting system design.
 Describe the sequence of the accounting cycle.
 Describe the purpose of closing entries and record those entries.
 Prepare a post-closing trial balance.
 Use a post-closing trial balance to develop a classified balance sheet, distinguishing between current
and long-term assets, current and long-term liabilities contributed capital and retained earnings.
 Use a classified balance sheet to evaluate liquidity and leverage of a corporation.

Chapter 5: Merchandising Operations.

 Distinguish between a merchandising business and a service business.
 Describe the flow of inventory through a merchandising business.
 Record transactions involving the purchase and sale of inventory using a perpetual inventory system.

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  Prepare a merchandiser’s multi-step income statement.
 Evaluate the performance of merchandiser by calculating gross profit margin, net profit margin and
inventory turnover.
 Appendix – Periodic inventory systems.
Chapter 6: Merchandise Inventory.
 Define inventory costs and distinguish between cost flow and goods flow.
 Describe different inventory valuation methods and their impact on financial statements and cash flow.
 Use FIFO, LIFO, Average-cost and Specific Identification methods to value inventory, calculate cost
of goods sold, and determine net income.
 Use the lower of cost or market rules to value inventory.
 Estimate the value of inventories using different methods.

BE210 Course Structure

There are 6 Course Chapters:
Chapter The Subject
1 Accounting and the Business Environment
2 Recording Business Transactions
3 The Adjusting Process
4 Completing the Accounting Cycle
5 Merchandising Operations
6 Merchandise Inventory

CHAPTER 1
Accounting and Business Environment
Learning objectives:
 Use accounting vocabulary.
 Apply accounting concepts and principles.
 Use the accounting equation.
 Analyze business transactions.
 Prepare financial statements.
 Evaluate business performance.
Objective 1: Use accounting vocabulary
Business, as a general system, has a number of systems (purchasing, production, marketing,
human resource, accounting, and so on). The accounting system is just one of the systems within a
business, all of which must work together in an active and efficient way.
An Information system is a set of interrelated subsystems that work together to collect,
process, store, transform, and distribute information for planning, decision making, and control.
Accounting information system: is a collection of resources, such as people and equipment, design to
transform financial and other data into information. This information is communicated to a wide
range of decision makers.
- It collects and stores data about activities and transactions.

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 - It processes data into information that is useful for making decisions.
- It provides adequate controls to safeguard the organization’s assets.
What is Accounting?
Accounting is the information system that…

Measures business activity

Processes the information into

reports

Communicates the results to

decision makers

Accounting can be defined as an information system that provides reports to stakeholders about the
economic activities and conditions of a business. Accounting... is called the language of business that helps
decision making. The primary role of accounting is to evaluate the performance of business and convey this
information to users.
Objectives of financial reporting:
Provide……
 Information about economic resources, claims to resources, and changes in resources and
claims.
 Information useful in assessing amount, timing and uncertainty of future cash flows.
 Information useful in making investment and credit decisions.

 Financial reporting is not an end in itself but is intended to provide information that is useful in
making business and economic decisions.
Decision Makers: The Users of Accounting Information
Decision makers need information. The bigger the decision, the greater the need. The users of
accounting information (stakeholders) are:
 External users: make decisions concerning their relationship to the entity (investors, creditors,
customers, suppliers, Taxing Authorities, public);
 Internal users: make decisions that directly affect the internal operations of the entity (investors
‘owners’, managers, and employees).
The users Their needs
Individual - To manage your bank account
- To evaluate a new job
- To decide whether you can afford a new car
Businesses - To set goals
- To evaluate progress toward those goals
- To make corrective action when needed
Investors - To decide whether to invest
- A person predicts the amount of income to be earned on the investment
Creditors - Such as financial institutions. A bank evaluates the ability of the business to make
the loan payments.

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Taxing Authorities - The governments levy taxes. Income tax is figured using accounting information.
Sales tax depends upon a company’s sales.

Bookkeeping and Accounting:

Bookkeeping:
- Involves only the recording of monetary economic transactions or events.
- Is just one part of accounting.
Accounting:
- Includes bookkeeping.
- Also includes much more.
Fields of Accounting:
Accounting can be divided into two fields:
 Financial accounting: is primarily concerned with the recording and reporting of economic
data and activities for a business. It provides information for people outside the company, such
as investors and creditors.
 Managerial accounting: focuses on information for internal decision making by the
company’s managers. It focuses on information for internal decision makers, such as mangers
of the company.

The Accounting Profession:

 All professions have been regulated.
 Many accounting firms are organized as partnerships, and the partners are the owners.

Governing Organizations:
 Governing organizations: In US, the following organizations relate to the regulation of
accounting.
 FASB (Financial Accounting Standards Board): formulates accounting standards
(www.fasb.org). Develops acceptable accounting practices and issues
pronouncements that firms must follow to be in compliance with GAAP.
 SEC (The Securities and Exchange Commission): regulate security markets
(www.sec.gov).
 AICPA (The American Institute of Certified Public Accountants): regulate Certified
Public Accountants (www.aicpa.org).
 CPA (Certified Public Accountant): a professional accountant who is licensed to serve
the general public.
 CMA (Certified Management Accountant): is licensed professional who work for a
single company.
 IMA (Institute of Management Accountants).
 The rules that govern public accounting information are called Generally Accepted
accounting Principles (GAAP). Rules of financial accounting established by the FASB.
Designed to protect the public from harm caused by false and misleading statements about
the performance, cash flows and financial position of a firm.

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 Ethics in Accounting and Business:
 Audit:
 Examination of company’s financial situation.
 Performed by independent accountants.
 Investors and creditors need relevant and reliable information about a company.
 But is the accounting information of the company reliable?
 Some famous accounting scandals:
 Enron Corp. (report fewer debts).
 WorldCom. (record assets as expenses).
 Xerox (manipulating reported profits).
 Reliability is a function of representational faithfulness, verifiability and neutrality.
The building block of accounting:
 Ethics: standards of conduct by which one’s actions are judged as right or wrong, honest or
dishonest.
 Most individuals in business are ethical. Their actions are both legal and responsible.

Key Accounting Organizations:

1. Government
The
The Securities
Securities and
and Exchange
Exchange
Commission
Commission (SEC)
(SEC) regulate
regulate
securities
securities markets
markets in
in the
the united
united
states.
states.

4. Private Sector 2. Private Sector

Professional accountants 3. Generally Accepted The
The Financial
Financial Accounting
Accounting
Accounting Principles
Accounting Principles Standards
Standards Board
Board (FASB)
(FASB)
apply generally accepted
(GAAP)
(GAAP) determines generally accepted
determines generally accepted
accounting principles. accounting
accounting principles.
principles.

Steps in Analyzing Ethics Cases:

1- Recognize an ethical situation and the ethical issues involved.
2- Identify the stakeholders: persons or groups who may be harmed or benefited
3- Select the most ethical alternative, considering all the consequences. Sometimes there will be one
right answer. Other situations involve more than one right solution; these situations require an
evaluation of each and a selection of the best alternative.
Types of Business Organizations:
A business can be organized as: Proprietorships, Partnerships, Corporations, and Limited-
Liability Partnerships (LLPs) and Limited –Liability Companies (LLCs).

1- Proprietorships:
 Owned by one individual (single owner).
 Small local business such as hardware store, repair shops, laundries.
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  From accounting viewpoint, each proprietorship is distinct from its proprietor.
 From legal perspective, the business is the proprietor.

2- Partnership:
 Owned by two or more individuals.
 Each owner is called ”partner”.
 Small or medium-sized business such as automotive repair shops, music stores, beauty shops.
 Specifically, Professional organizations such as legal firms (Big 4).
 Accounting treats partnership as a separate organization, distinct from partners.
 From legal perspective ,a partnership is the partners.

3- Corporations:
 Organized as a separate legal entity.
 Ownership divided into shares of stock.
 Therefore owned by shareholders.
 A business becomes a corporation when the state approves its articles of incorporation.
 Continuous life and transferability of ownership.
 No mutual agency.
 Limited liability of stakeholders.
 Separation of ownership and management.

4- Limited-Liability Partnerships (LLPs) and Limited –Liability Companies (LLCs):

 A Limited-Liability Partnerships is one in which a wayward partner cannot create a large
liability for the other partner. Each partner is liable only for his or her own actions and those
under his or her control. Similarly, a business can be organized as a Limited –Liability
Companies. In an LLC the business, and not the members of the LLC, is liable for the
company's debts.

Corporate Characteristics:

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Comparison of the Four Forms of Business Organization:

Proprietorship Partnership Corporation LLC

1- Owner(s) Proprietorship - Partners - two Stockholders - Members
only one owner or more generally many
owners owners
2- Life of the organization Limited by the Limited by the Indefinite Indefinite
owner's choice, or owner's
death choice, or
death
3- Personal liability of the Proprietor is Partners are Stockholders Members are
owner(s) for the business's personally liable personally are not not personally
debts liable* personally liable
liable
*Unless it is a Limited-Liability Partnership (LLP)

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Objective 2: Accounting Concepts and Principles
Generally Accepted Accounting Principles (GAAP)
 GAAP rests on a conceptual framework.
 FASB: objective of financial reporting is to provide information useful for making investment and
lending decisions.
 Basic objective of financial reporting is to provide information that is: Useful to those making
investment and credit decisions. To be useful, information must be:
1- Relevance:
 To be useful, the accounting information must be relevant to the needs of decision makers.
 Relevant accounting information is capable of making a difference in a decision by helping users to
form predictions about the outcomes of past, present, and future events or to confirm or correct prior
expectations.
 Relevance is a function of predictive value, feedback value and timelines.
2- Reliability (objectivity):
 To be useful, information must also be reliable.
 Reliability of information means that the information is free of error and bias, it can be depended on.
 Reliability is a function of Verifiability, representational faithfulness, and neutrality.

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Financial Reporting Environment:

FASB GAAP

Financial
Statements

Preparers

Audit
Report
Decision makers

Auditors

The Entity Concept:

 An accounting entity: an organization or a section of an organization that stands apart as a separate
economic unit.
 Entity decides boundary of accounting.
 The entity concept applies to any economic unit that needs to be evaluated separately.

The Cost Principle:

 Assets and services acquired should be recorded at their actual cost (historical cost).
 Historical cost represents the amount of cash or cash equivalents paid in acquiring an asset, this is
sometimes called original acquisition cost. This is objective because it is based on actual invoices and
other documents. Depreciated cost is determined based on original acquisition cost.
 Historical cost is the most objective measure of the value of an asset. However, it cannot reflect the
current value of an asset.
 This principle also holds that accounting records should maintain the historical cost of an asset over its
useful life.

The Going Concern Concept:

 Assume the entity will continue to operate in the future. This concept implies that the business will
continue to operate for the foreseeable future.
 This concept is another reason for measuring assets at historical cost.

The Stable-Monetary-Unit Concept:

 The dollar’s purchasing power is relatively stable.
 This allows us to add and subtract dollar amounts as each dollar has the same purchasing power as any
other dollar at any time.

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 The Accounting Equation:
The algebraic relationship in the fundamental accounting model. Accounting data is
represented by the following relationship among the assets, liabilities and owners’ equity of a
business:
Economic Resources = Claims to Economic Resources

Asset Liabilitie Owners’ Equity

s s Or
Asset Liabilitie Owners’ Equity
s s
Resources owned Rights or claims to the
by a business resources

4 aspects of accounting:

1. Asset: Whatever company owns.

Assets:
Definition: Economic resources that are expected to bring benefits in the future. Examples:
Cash, Land, Building, Equipment, patent, Merchandise inventory, and Goodwill.
- Tangible assets (Ex. Cash, Land, Building, Equipment).
- Intangible assets (Ex. patent, Goodwill, and Trademark).

- Current assets: Cash and cash equivalent (A/c receivables)

- Fixed Assets: Building, Equipment, land, car- appreciates or depreciates
2. Equity: Whatever company owes. 2 types: a) Liability, b) Owner’s/stockholders’ equity

Liability: Co. owes to outsiders/third party

Definition: Outsider claims – debt that is payable to outsider. Examples: Accounts payable,
Notes payable, Salary payable and Bank loan.
Owner’s equity: co. owes to owner/stockholders
• Also called “shareholder’s funds” or “stockholder’s funds”.
• It is what’s left of the assets after liabilities have been deducted.
• Equals net assets in balance sheet.
• The insider-owner’s claim on the entity’s assets.
• The purpose of business is to increase owner’s equity through revenues (income) i.e.
maximize shareholder’s value.

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 • Owner withdrawals and expenses decrease owner’s equity.
Stockholder’s Equity:
The equity section of a corporation’s balance sheet consists of:
1- Paid-in (contributed) capital: is the term used to describe the total amount paid in by
stockholders.
2- Retained earnings: the principal source of paid-in-capital is the investment of cash and
other assets in the corporation by stockholders in exchange for capital stock.
Retained Earnings: (net profit): Revenue/income- expenses= retained earnings/profit/income
The retained earnings section of the balance sheet is determined by three items:
1- Revenues.
2- Expenses.
3- Dividends.
Retained earnings = Revenues – Expenses – Dividends

Revenue (income): The reason cash comes in the co as a result of sales.

Definition: amounts received or to be received from customers for sales of products or services
provided during a specific period, usually result in an increase in an asset.
Examples: Sales revenue, Service revenue, Interest revenue and Dividend revenue.
Expenses: the reason cash goes out of the co. as a result paying for services.
Definition: The economic costs that a business incurs through its operations to earn revenue.
Examples: Salaries and Wages, Tax, Insurance, Advertising, Factory leases, Utilities, Interest,
Rent and Depreciation.
Dividends:
 Net income represents an increase in net assets which then become available for distribution to
stockholders.
 Cash or other assets that are distributed to stockholders are called dividends.
 Dividends reduce retained earnings but are not corporate expenses.
 A corporation decides whether or not to distribute a dividend after determining its net income
or net loss.
Owner’s Equity Structure:

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 Increase Decreas
Owner’s equity e

Revenue Expense

Investment Dividends

Accounting Equation: the principle of balance sheet:

Assets Liabilities + owner’s equity

Accounting for Business Transactions:

Transaction Analysis: When exchange of money takes place (legally) between two or more
parties.
 Transaction: An event that affects the financial position of a particular entity and can be
recorded reliably. Or exchanges of economic consideration between two parties.
Example:
 Pay monthly telephone bill of $168.
 Purchasing land for $50000.
They may be identified as external or internal:
1- External transactions: involve economic events between the company and some outside
enterprise or party.
2- Internal transactions: are economic events that occur entirely within one company.

Double Entry System:

Every transaction has two parts: Debit and Credit

Debit: something received

Credit: something paid

Formulae with 4 Aspects of accounting:

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 Asset: increases: Debit; decreases: credit
Equity: Increases: credit; decreases debit
Expense: always debit, until adjustment
Revenue: always credit, until adjustment

Example 1: Sheena Bright, INC.

Sheena Bright starts her new business as a corporation named Smart Touch Learning,
Inc. The Inc. in the company name abbreviates Incorporated, which lets people know the
business is a corporation:

Transaction 1: Starting the Business

The e-learning agency received $30,000 cash from the President, Sheena Bright, and issued
common stock to her.

Assets = Liabilities + Stockholders’ Equity

(Cash) Increase by 30,000 Increase by 30,000

There is an increase in the asset Cash, $30,000, and an equal increase in the stockholders’ equity,
Common Stock by $30,000.

Assets = Liabilities + Stockholders’ Equity

Common
Cash =
Stock
(1) Issued
+ $30,000 = 0 + + $30,000
Stock
Balance 30,000 = 30,000

Transaction 2: Purchase of Land

The business purchased land for an office location, paying cash of $20,000.

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 Land increase by 20,000

Assets = Liabilities + Stockholders’ Equity

(Cash) decrease by 20,000

There is a decrease in the asset – Cash by $20,000 and an equal increase in asset - Land for the
same amount, by $20,000.

Assets = Liabilities + Stockholders’ Equity

Common
Cash Land = + Stock
Old Balance 30,000 = 0 + 30,000
(2) Purchase
Land - 20,000 + 20,000
New 10,000 20,000 = 0 + 30,000
Balance 30,000 = 30,000

Transaction 3: Purchase of Office Supplies

The e-learning agency bought stationery and other office supplies, agreeing to pay $500 within 30 days.
- This transaction is often referred to as a purchase on account or a credit purchase.

Assets = Liabilities + Stockholders’ Equity

(Office Supplies) Increase by 500 (Accounts payable) increase by 500

There is an increase in the asset – Office Supplies by $500 and an equal increase in - Accounts
Payable (to suppliers) for the same amount, by $500.

Assets = Liabilities + Stockholders’ Equity

Office Accounts Common
Cash Land = +
Supplies Payable Stock
Old Balance 10,000 20,000 = 0 + 30,000
(3) Purchase
Office Supplies + 500 + 500
10,000 500 20,000 = 500 + 30,000
New Balance
30,500 = 30,500

Transaction 4: Earning of Service Revenue

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 Smart Touch Learning earned service revenue by providing travel service for clients. The
business earned $5,500 revenue and collected this amount in cash.

- This transaction represents the principal revenue-producing activity of the business.

Assets = Liabilities + Stockholders’ Equity

(Cash) Increase by 5,500 (Retained Earning) increase by 5,500

Cash is increased by $5,500 and Retained Earnings is increased by $5,500. Revenue will be
recognized in the income statement and increase the retained earnings figure in the balance
sheet as a result.
Assets = Liabilities + Stockholders’ Equity
Office Accounts Common Retained
Cash Land = +
Supplies Payable Stock Earning
Old
Balance
10,000 500 20,000 = 500 + 30,000
(4) Service
+ 5,500 + 5,500
Revenue
New 15,500 500 20,000 = 500 + 30,000 5,500
Balance 36,000 = 36,000

Transaction 5: Earning of Service on Account

Smart Touch performed service for clients who do not pay immediately. The business received
the clients’ promises to pay $3,000 within one month.

Assets = Liabilities + Stockholders’ Equity

(Accounts Receivable) Increase by 3,000 (Retained Earning) increase by 3,000

 Accounts Receivable (Assets) is increased by $3,000, and Retained Earnings is increased

by the same amount, $3,000.
 Revenue service will be recognized in the income statement.

Assets = Liabilities + Stockholders’ Equity

Cash Accounts Office Land = Accounts + Common Retained

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 Receivable Supplies Payable Stock Earning
Old Balance 15,500 500 20,000 = 500 + 30,000 5,500
(5) Service
+ 3,000 + 3,000
Revenue
New 15,500 3,000 500 20,000 = 500 + 30,000 8,500
Balance 39,000 = 39,000

Transaction 6: Payment of Expenses

During the month, the business paid $3,300 in cash expenses: rent expense on a computer,
$600; office rent, $1,100; employee salary, $1,200; and utilities, $400.

Assets = Liabilities + Stockholders’ Equity

(Cash) decrease by 3,300 (Retained Earning) decrease by 3,300

 Expenses have the opposite effect of revenue. Expenses paid in cash are: $600 + $1,100 +
$1,200 + $400 = $3,300
 Cash is decreased by $3,300 and Retained Earnings is decreased by $3,300.
 Rent expense on a computer; office rent; employee salary; and utilities will be recognized
as expenses in the income statement and decrease the retained earning figure and cash in
the balance sheet as a result. (If actual payment is made).

Assets = Liabilities + Stockholders’ Equity

Accounts Office Accounts Common Retained
Cash Land = +
Receivable Supplies Payable Stock Earning
Old Balance 15,500 3,000 500 20,000 = 500 + 30,000 8,500
(6) Pay
- 3,300 - 3,300
Expenses
New 12,200 3,000 500 20,000 = 500 + 30,000 5,200
Balance 35,700 = 35,700

Transaction 7: Payment of Account

The business paid $300 to the store from which she purchased supplies in transaction 3.
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 Assets = Liabilities + Stockholders’ Equity

(Cash) decrease by 300 (Accounts payable) decrease by 300

 Cash is decreased $300 and Accounts Payable is decreased by $300.

Assets = Liabilities + Stockholders’ Equity

Accounts Office Accounts Common Retained
Cash Receivable Supplies
Land =
Payable
+
Stock Earning
Old Balance 12,200 3,000 500 20,000 = 500 + 30,000 5,200
(7) Pay on
Account
- 300 - 300
New 11,900 3,000 500 20,000 = 200 + 30,000 5,200
Balance 35,400 = 35,400

Transaction 8: Personal Transaction

Sheena Bright remodeled her home at a cost of $40,000, paying cash from personal funds.

 This transaction is not a transaction of Sheena Bright. It has no effect on the travel agency and,
therefore, is not recorded by the business. It is a transaction of the Sheena Bright personal entity,
not the business. This transaction illustrates the entity concept.

Transaction 9: Collection on Account

The business collected $1,000 from the client (in transaction 5).

Assets = Liabilities + Stockholders’ Equity

(Cash) Increase (Accounts Receivable)

by 1,000 decrease by 1,000
Cash is increased by $1,000 and Accounts Receivable is decreased by the same amount.

Assets = Liabilities + Stockholders’ Equity

Accounts Office Accounts Common Retained
Cash Land = +
Receivable Supplies Payable Stock Earning

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Old Balance 11,900 3,000 500 20,000 = 200 + 30,000 5,200
(9) Collection
on Account + 1,000 - 1,000
New 12,900 2,000 500 20,000 = 200 + 30,000 5,200
Balance 35,400 = 35,400

Transaction 10: Sale of Land

The business sold some of land by the travel agency. The sale price of $9,000 is equal to the cost
of the land. The business received $9,000 cash.

Assets = Liabilities + Stockholders’ Equity

(Cash) Increase (Land)

by 9,000 decrease by 9,000

 Cash is increased by $9,000 and Land is decreased by the same amount.

Assets = Liabilities + Stockholders’ Equity

Accounts Office Accounts Common Retained
Cash Land = +
Receivable Supplies Payable Stock Earning
Old Balance 12,900 2,000 500 20,000 = 200 + 30,000 5,200
(10) Sale of
+ 9,000 - 9,000
Land
New 21,900 2,000 500 11,000 = 200 + 30,000 5,200
Balance 35,400 = 35,400

Transaction 11: Payment of Cash Dividend

The business declared and paid Sheena Bright a $2,000 cash dividend.

Assets = Liabilities + Stockholders’ Equity

(Cash) decrease by 2,000 Retained Earnings decrease

by Dividends (2,000)
 Cash is decreased by $2,000 and Stockholders’ Equity is decreased by $2,000. Payment of
dividends will decrease the retained earnings figure in the income statement.

Assets = Liabilities + Stockholders’ Equity

Cash Accounts Office Land = Accounts + Common Retained

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 Receivable Supplies Payable Stock Earning
Old Balance 21,900 2,000 500 11,000 = 200 + 30,000 5,200
(11) Dividend - 2,000 - 2,000
New 19,900 2,000 500 11,000 = 200 + 30,000 3,200
Balance 33,400 = 33,400

Summary of all transactions:

Assets = Liabilities + Stockholders’ Equity
Accounts Office Accounts Common Retained
Cash Land = +
Receivable Supplies Payable Stock Earning
(1) Issued Stock + $30,000 + $30,000
(2) Purchase
- 20,000 + 20,000
Land
(3) Purchase
Office Supplies
+ 500 + 500
(4) Service
+ 5,500 + 5,500
Revenue
(5) Service
Revenue
+ 3,000 + 3,000
(6) Pay Expenses - 3,300 - 3,300
(7) Pay on
Account
- 300 - 300
(9) Collection on
+ 1,000 - 1,000
Account
(10) Sale of Land + 9,000 - 9,000
(11) Dividend - 2,000 - 2,000
Balance 19,900 + 2,000 500 11,000 = 200 + 30,000 3,200

Prepare Financial Statements:

 Daily business transactions are recorded in order to prepare financial statements for shareholders.
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  After transactions are identified, recorded, and summarized financial information about the company
can be reflected in financial statements to stakeholders of the company and any parties who are
interested.
 Financial statements are the final product of the whole accounting process which starts at the business
transaction recording phase. Financial statements report on a business in monetary terms.
 Tells how the business is performing and where it stands.
 Usually published by listed company at the end of a fiscal year or season.
Major financial statements include:
1- Income statement.
2- Statement of Owner’s equity.
3- Balance sheet.
4- Cash flow statement.

1- Income statement:
 A statement showing revenues and expenses for a specific period of time. Income statement or profit
and loss statement reflecting financial performance (profitability). Summary of an entity’s revenues,
expenses, and net income or net loss for a specific period.
 The income statement is more like a video of the firm’s operations for a specified period of time,
rather than having been prepared at a point of time.
 Income - expenses = net income (profit or loss).
 Net Income: Revenues > Expenses
 Net Loss: Revenues < Expenses
2- Retained earnings statement:
 Summarizes the changes in retained earnings for a specific period of time.
3- Balance sheet:
 A statement showing the resources of a company (the assets), the company’s obligations (the
liabilities), and the equity of the owners at a certain point in time. The balance sheet is a snapshot of
the entity’s assets and liabilities at a given point in time.
 Reports the assets, liabilities, and stockholders’ equity of a business enterprise at a specific date.
 The balance sheet is a snapshot of the entity’s assets and liabilities at a given point in time.
 It is produced based on the accounting equation:
Asset – liabilities = owner’s equity
Asset = owner’s equity + liabilities

4- Cash flow statement:

 Reports cash receipts and cash payments during a period (covered in subsequent chapter). Summarizes
information concerning the cash inflows (receipts) and outflows (payments) for a specific period of
time.
 The statement classifies the various cash flows into three categories: operating, investing, and
financing; and relates these categories to the beginning and ending cash balances.

Relationships among the Four Basic Financial Statements:

SMART TOUCH LEARNING, INC.
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 Income Statement
For the Month Ended April 30, 2010
Revenues:
Service revenue $ 8,500
Expenses:
Salary expense $1,200
Rent expense, office 1,100
Rent expense, computer 600
Utilities expense 400
Total expenses 3,300
Net income $ 5,200
SMART TOUCH LEARNING, INC.
Retained Earnings Statement
For the Month Ended April 30, 2010
Retained earnings, April 1, 2010 $-0-
Add: Net income (From the Income Statement) 5,200
5,200

Less: Dividends (2,000)

Retained earnings, April 30, 2010 $ 3,200
 Note the headings for both of these statements
 Name of company.
 Name of financial statement
 For the period ended …….
 Both of these statements report activity over a period of time.
 Final sums are double-underlined.
 Negative amounts are presented in parentheses
 Net income is computed first because you need that number to complete the ending balance in owner’s
equity.
 When preparing a financial statement, clearly label each line in the statement.
 If you are using columnar paper, always start your number columns in the far right-hand column.
 Numbers that are added or subtracted from each other should be in the same column.

SMART TOUCH LEARNING, INC.

Balance Sheet
At April 30, 2010
Assets Liabilities & Stockholders’ Equity
Cash $19,900 Liabilities:
Accounts receivable 2,000 Accounts payable $200
Office supplies 500 Stockholders’ equity:
Land 11,000 Common stock 30,000
Retained earnings 3,200
Total stockholders’ equity 33,200
Total assets $33,400 Total liabilities and stockholders’ equity $33,400

• Note the heading for the balance sheet is different from the other statements:
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  Name of company
 Name of financial statement
 Date
• This statement reports what the company owns and who has claims to the assets at a specific point in
time.

SMART TOUCH LEARNING, INC.

Statement of Cash Flows
For the Month Ended April 30, 2010
Cash flows from operating activities:

Cash receipts from customers (5,500 + 1000) $6,500

Cash payments to suppliers (6,00 + 1,100 + 400 +300) (2,400)

Cash payments to employees (1,200)

Net cash provided by operating activities 2,900

Cash flows from investing activities:

Acquisition of land (20,000)

Sale of land 9,000

Net cash provided by investing activities (11,000)

Cash flows from financing activities:

Issuance of stock $30,000

Payment of cash dividends (2,000)

Net cash provided by financing activities 28,000

Net increase in cash 19,900

Cash at the beginning of the period -0-

Cash at the end of the period $19,900

Important Accounting Sites:

Financial Accounting Standards Board (FASB)
http://www.fasb.org
International Accounting Standards Board (IASB)
http://www.iasb.org

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Chartered Institute of Management Accountants (CIMA)
http://www.cimaglobal.com
The International Federation of Accountants (IFAC)
http://www.ifac.org

Thanks
Prepared by
Dr. Helal Afify
2013

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