Transcript Accounting I - Cloudfront.net

Accounting & Financial
Statement Analysis:
Making it Real!
By: Ms. Eborn
Virtual Enterprise- Accounting I
What is Accounting?
 The Language of Business
 Standard Rules for Measuring Firm’s
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Performance
Assessing Performance is important to:
The Firm’s Office Managers & Employees
(Measures Performance in different geographic
locations)
Investors (Current & Potential Shareholders)
Lenders (Banks)
General Public (Communication to Public
Arena)
Why is Accounting Important?
 Make Corporate Decisions
 Make Investment Decisions (Mutual
Funds looking to invest in companies)
 Facilitates Corporate and Investment
Decision (Assessment & Comparison)
Who Uses Accounting?
 Federal Government
 Non-Profit Organizations
 Small Businesses
 Corporations
Standardized U.S. Accounting
Regulations (GAAP)
Generally Accepted Accounting Principles (GAAP)
How does it work?
 U.S. Governmental Agency called Securities
and Exchange Commission (SEC) authorizes
the Financial Accounting Standards Board
(FASB) to determine U.S. Accounting Rules
 FASB communicates these Rules by issuing
Statements of Financial Accounting Standards
(SFAS). These statements make up the U.S.
Accounting rules known as GAAP.
Purpose of GAAP?
Serve as Guidelines for Financial
accounting, to insure that business
present their financial information on a
fair, consistent, and straightforward
basis.
 U.S. companies must be prepared
according to U.S. GAAP.

What is IFRS?
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There has been a convergence between the standards
for the U.S. and other countries.
In 2001, IASC committee was replaced by the
International Accounting Standards Board (IASB).
IASB has 14 Board Members that were selected by
IASC. IASB (the parent foundation) is solely
responsible for developing IFRS.
In 2002, FASB & IASB agreed to work together toward
a convergence between GAAP & IFRS, but there still
remains differences.
In 2005, all EU countries adopted International
Financial Reporting Standards (IFRS). In addition,
accounting standards for many countries outside of
Europe, including Japan.
Assessment: Fully write out
questions & answers on your
paper
 Select letter and all answers that apply.
There may be more than one answer.
Exercise 1: What is
Accounting?
A. The language of business
B. A standard set of rules for measuring a
firm’s financial performance
C. An outdated system of tracking a
company’s finances
D. A framework for assessing a company’s
financial performance
Exercise 2: Why is
Accounting Important?
A. Completely prevents manipulation of financial
information
B. Serves as a standard language of recording
financial performance
C. Allows company officers, investors, and
general public to assess a firm’s financial
performance
D. Standardizes financial information so that it
can be assessed and compared across
companies
Exercise 3: What does
GAAP Stand For?
A. Generally Accepted Accounting
Performance
B. General Accounting Accepted Practices
C. Generally Accepted Accounting
Practices
Exercise 4: Accounting
Regulations-GAAP Is:
A. Rules and Regulations governing
accounting
B. Developed by the SEC on behalf of
FASB
C. Communicated through issuance of
Statements of Financial Accounting
Standards (SFAS)
D. All of the above
Exercise 5: IFRS-International
Financial Reporting Standards
(IFRS) are:
A. Rules and regulations governing
international accounting
B. Developed by FASB and used by all EU
countries
C. Converging with U.S. GAAP, but a
number of difference still exist
D. Converging with U.S. GAAP, with both
accounting systems set to be identical by
2010
What is Depreciation Expense?

A method where a long-term fixed asset
(purchases that are expected to provide
benefits for the company for a period of 1 year
or more)
 This is spread over a future period (number of
years) when these assets are expected to be
in service & help generate Revenue for a
company.
 Depreciation quantifies the wear & tear (from
use & passage of time) of the physical asset
through a systematic decrease (depreciation)
of the assets’ book (historical value).
Depreciable Fixed Assets Include:
Plants
 Machinery
 Equipment
 Furniture
 Leasehold Improvements

 Note
Rule: Land is a fixed asset but is
not depreciated.
Major Asset Classes & Their Typical
Useful Lives:
Building & Improvements: 5-50 Years
 Fixtures & Equipment 5-12 Years
 Transportation Equipment 2-5 Years
 Internally Developed Software: 3 Years
 Land: Not Depreciated

Assessment: Fully write out
questions & answers on your
paper
 Select letter and all answers that apply.
There may be more than one answer.
Depreciation Exercise 9:
Which of the Following
Needs to be Depreciated?
A.
B.
C.
D.
E.
Warehouse
Administrative Wages
Office Furniture
Power Plant
Land used to build a supermarket
Depreciation Exercise 9 Solution
A. Warehouse
C. Office Furniture
D. Power Plant
Depreciation Expense:
Bonus Question

What is Depreciation Expense in your own
words?
Operating Expenses
Estimating Monthly
Demand, Expenses
& Overhead
Identify & Estimate Operating
Expenses
• In business, an expense is defined as
the use of an asset.
• In other words, as you expend your assets
to run and operate your business venture,
the dollar value of those assets are noted
on an Income Statement as expenses.
• The more expenses you have, the less
profit you make and the less taxes you
pay.
Operating Expenses - use of your
assets & services to produce
revenue. Some specific, common
examples are:
•
•
•
•
Cost of Goods Sold (non-cash expense)
Rent (cash expense)
Prepaid Insurance (non-cash expense)
Wages & Salaries (cash expense
How Expenses are
Categorized on the Income
Statement
 Expenses usually are put into one of two categories:
 Cost of Goods Sold (CGS) - direct labor & materials. These
vary/change as your sales volume increases or decreases. The
are the use of your asset called inventory. CGS is usually a noncash expense. The cash was expended in months past to buy the
inventory. The amount of the inventory sold each month
(expended or used up) is the expense you show on the Income
Statement.
Overhead - all other expenses of operating your business. These
tend to be fixed. They tend not to change as your sales volume
changes in the short run. They may be cash or non-cash
expenses.
Overhead Includes:
 operating expenses - rent, insurance
 selling expenses - commissions, mileage
 administrative expenses - management
salaries, office expenses
 Demand - estimate of future sales measured in
customers, units, or dollars. Your actual
demand is called sales revenue on an Income
Statement.
Why Estimate Demand,
Expenses & Overhead?
 determine total dollar amount needed to start your
business
 determine appropriate type of financing
 assess risk, feasibility, and personal investment
 have better information to help make decisions
 set appropriate price
 manage controllable expenses
 assure profitability
 manage cash flow
Income Statements
 Income statements vary in style, However,
there are parts to an Income Statement that
help us separate activities and categories for
tracking and managing our sales and
expenses.
 In the simplest form, an Income statement is
three lines
 Revenue
-Expenses
= profit/loss
Elements of an Income
Statement
 The most important element is your Sales Revenue or just
revenue. This is the measure of success of your business and
marketing strategies. This is the top of the Income Statement.
 REVENUE = P x Q (your selling price times quantity sold or
demand in units)
 DEMAND = Quantity of:
 Units (measured in hours, items sold, gallons, meals served, etc.)
 Customers (individuals, groups, businesses, etc.)
 $ (dollar value of the units demanded)
 The next section of an Income Statement shows the inventory
expended in producing those sales. This figure includes items
given away, lost, damaged and sold.
Most Important Element is
Sales Revenue or Revenue
 This is the top of the Income Statement.
 REVENUE = P x Q (your selling price times quantity sold or
demand in units)
 DEMAND = Quantity of:
 Units (measured in hours, items sold, gallons, meals served, etc.)
 Customers (individuals, groups, businesses, etc.)
 $ (dollar value of the units demanded)
 The next section of an Income Statement shows the inventory
expended in producing those sales. This figure includes items
given away, lost, damaged and sold.
CGS = Cost of Goods Sold
 portion of inventory sold or otherwise
used up to produce sales
 cost of making or buying the product sold
 The sales revenue minus CGS gives us
our gross profit, that is profit before
accounting for operating expenses and
taxes.
GROSS PROFIT = Revenue
less CGS
 (gross profit before operating expenses and
taxes)
OPERATING EXPENSES = Expenses to run
the business and generate sales
PROFIT/LOSS = the bottom line before taxes

Operating Expenses and
Overhead
 Operating expenses are the expenses to
produce your sales and to run the business.
They usually recur each month with slight
fluctuations.
 There are two types:
 Selling Expenses - may vary with demand;
often thought of a variable expenses
 General & Administrative Expenses - likely
constant; often referred to as fixed costs or
overhead
Sales Revenue
 Revenue equals price x quantity
demanded. We need to use our
estimated demand and estimated selling
price to calculate Revenue. Total
Revenue = P x Q
 Selling Price = CGS + FCC + Profit
How the Selling Price is Determined
Total Costs
$ Markup
CGS
$5
+ Overhead/unit
$14
(Fixed Cost Contribution)
+Target Profit
$6
Selling Price =
$25
When and How Much Revenue?
 There are two methods for determining when and how much
revenue to record on an Income Statement. (1) Accrual
versus
(2) Cash accounting methods
 Cash accounting means that you consistently record sales when
the cash is received from the customer. Consequently, you must
also record expenses when the cash is paid to vendors and
suppliers.
 Accrual accounting means that you consistently record sales
when the deal is struck and the goods are delivered to the
customer. Consequently, you must also record expenses when
the deal is struck and the supplies are received from the
vendors and suppliers.
For example: suppose you had the following
sales chart for a typical month
Sales Revenue:
Cash sales
= $35,000
Accounts Receivable= 15,000
Total Sales Revenue = $50,000
What is our Revenue for our Income Statement and tax liability?
 By Cash accounting it is $35,000
 By Accrual accounting it's $50,000
NOTE: The bank would want to see $50,000 to give us a loan.
We would like the $35,000 for a lower tax liability.
Typical Income Statement
 http://www.cabrillo.edu/~dambrosini/188Web/i
mages/incomesams.gif
 Review the following sample Income
Statement
 Task: Re-create the next example of an
Income Statement on Excel
Income Statement Exercise
 Use the following data to make both an Income
Statement and a Cash Flow Statement for the same
time period.
Cash Sales $ 15,000
Credit Sales 10,000
CGS 10,000
Rent 3,000
Depreciation, buildings 1,000
Advertising 1,000
Payroll 2,500
 The company was started with a $100,000 loan and
an investment of $100,000.
Basic Financial Analysis
 Create the next form on Excel
 http://www.cabrillo.edu/~dambrosini/188Web/
classsessions/operatingcosts.htm
Cost of Goods Sold
 Cost of Goods Sold can be complicated to
calculate. The following example illustrates
the components of CGS.
 Create the next form on Excel