Accounting Introduction and GAAP

Accounting Introduction

• Accounting is an information system that identifies, records, and communicates economic events of an organization to interested parties.
• An information system provides information in accounting reports called financial statements (Balance Sheet, Income Statement, and Cash Flow Statement).
• Identifying economic activities involves picking out the relevant economic activities of a particular organization and measuring them using monetary units.
• Records systematically track these economic activities with monetary values.
• Communicating financial information is presenting the organized financial data through financial statements to parties interested in the data.
• Interested parties use the data to make decisions. These include creditors and investors, auditors, management, government bodies, customers, labor, and suppliers.

Generally Accepted Accounting Principles (GAAP)

• GAAP are accounting standards commonly used to report economic events in financial reports.
• This acts as a guide for reporting economic events.

Cost principle

• Assets are recorded at their cost when acquired.
• Cost principle ensures reliable, objective, and verifiable reporting.

Revenue recognition

• Revenue is recognized in the accounting period it is earned.

Accounting Assumptions

• Accounting Assumptions are made when developing GAAP to provide a foundation for the accounting process.
• Monetary unit assumption requires that only transactions measured in monetary units be included in accounting records.
• Economic entity assumption requires that the activities of a business entity be kept separate from personal or other business entities.
• Going concern assumption assumes that an entity will be able to continue its activities long enough to meet its objectives.
• Time period assumption divides the entity's economic life into specific time periods (usually a calendar year), allowing for regular reporting on financial performance.

Accounting Profession

• Financial accountants record daily transactions and prepare financial statements, related information.
• Government accountants record daily transactions and prepare financial statements of local, state, and federal governments, for legislative and public use.
• Cost accountants determine the production costs of specific products.
• Managerial accountants assist management in determining revenues, costs of goods sold, and operating expenses.
• Tax accountants prepare tax returns and do tax planning.

Assets, Liabilities and Owner's Equity

• Assets: Resources used by an entity in carrying out its activities, providing future services or benefits.
  • Tangible assets like land, buildings, machinery (fixed assets)
  • Current assets, used in daily operations for shorter periods (cash, inventory, accounts receivable).
  • Intangible assets, nonphysical (trademarks, copyrights)
• Liabilities: Existing debts or obligations.
  • Current liabilities (debts paid off shortly)
  • Long-term liabilities (debts to be paid in the future)
• Owner's equity: Owner's investment in the entity.

Accounting Cycle

• Identification, analysis, and reporting.
• Recording process like journalizing and posting to accounts.
• Communicating financial data to outside parties in a presentation form for public and private use.

Withdrawals by the Owner

• Withdrawals by the owner occur when the owner takes cash or other assets from the business for personal use.

Basic Accounting Equation

• Assets = Liabilities + Owner's equity
• Assets must equal the sum of liabilities and owner's equity because resources are financed by liabilities and the owner's equity.

Accounting Cycles

• Accounting cycle is a step-by-step process of recording, analyzing, summarizing, and reporting the transactions that occurred in an accounting period.
  • Identification
  • Recording Process
  • Communication

Debit and credit theory

• Assets normally have debit balances, except when decreasing it turns to a credit.
• Liabilities normally have credit balances, except when decreasing it turns to a debit.
• Owner's equity normally has credit balances, except when decreasing it turns to a debit.
• Expenses normally have debit balances, except when decreasing it turns to a credit.
• Revenue normally has credit balances, except when decreasing it turns to a debit.

Recording Transactions in the Journal

• Journalizing means entering transaction data in a journal.
• This uses a double-entry system (equal debits and credits) for every transaction.

Trial Balance

• A list of accounts and their balances at a point in time.
• A summary of balances from ledger accounts.
• Debits should be equal to credits for accounts.

Financial Statements

• Reports on financial performance and position. Includes Balance Sheet, Income Statement, and Cash Flow Statement.

Adjusting Entries

• Entries made at the end of an accounting period to update accounts.
• Used to account for revenues earned or expenses incurred but not yet recorded.

Prepayments and Accruals

• Prepayments: - Prepaid expenses: paid in cash before consumption. Treated as assets in the balance sheet initially. - Unearned revenues: cash received before service, initially shown as liabilities in the balance sheet.
• Accruals: - Accrued expenses: incurred but unpaid costs (e.g., salaries, interest). Recorded as liabilities in the balance sheet. - Accrued revenues: earned but not yet collected revenues (e.g., interest, service fees). Recorded as assets (accounts receivables) in the balance sheet.

Depreciation

• Depreciation is the allocation of an asset's cost over its useful life.
• It's an estimate, not a precise measure, as the useful life depends on factors like obsolescence, actual use, and deterioration.
• It's a prepayment of services for which the company intends to use.

Unearned Revenue

• Unearned revenue is cash received before services are performed.
• Initially recorded as a liability until the revenue is earned.
• Adjusting Journal Entry accounts for the earned portion of the revenue.