FA Notes PDF

Lecture 1 - Accounting in Business What is Accounting? Definition: Accounting is an information and measurement system that: Identifies transactions (sales, purchases). Records transactions chronologically in dollars. Communicates economic events through reports (fin...

Lecture 1 - Accounting in Business What is Accounting? Definition: Accounting is an information and measurement system that: Identifies transactions (sales, purchases). Records transactions chronologically in dollars. Communicates economic events through reports (financial statements) and requires interpretation and analysis. Users of Accounting Information External Users: Lenders Shareholders Governments Consumer Groups External Auditors Customers Internal Users: Managers Officers/Directors Internal Auditors Sales Staff Budget Officers Controllers Financial vs. Managerial Accounting Financial Accounting: Provides financial statements to external users. Managerial Accounting: Provides information for internal decision-making. Generally Accepted Accounting Principles (GAAP) Purpose: Governs financial accounting practice. Characteristics of Relevant Information: Relevant: Affects user decisions. Reliable: Trusted by users. Comparable: Helpful for contrasting organizations. Principles and Assumptions of GAAP 1. Cost Principle: Based on actual cost, considered objective. 2. Revenue Recognition Principle: Recognize revenue when earned. Proceeds need not be in cash (includes credit sales). Measure revenue by cash received plus cash value of items received. 3. Expense Recognition (Matching) Principle: Record expenses incurred to generate reported revenue. 4. Full Disclosure Principle: Report details behind financial statements affecting user decisions. Assumptions of Accounting Monetary Unit Assumption: Express transactions in monetary units. Business Entity Assumption: A business is separate from its owners and other entities. Time Period Assumption: Life of a company can be divided into time periods (months, years). Going Concern Assumption: Assumes the business will continue operating. Forms of Business Entities Sole Proprietorship Partnership Corporation Transaction Analysis Accounting Equation: Assets = Liabilities + Equity Definitions: Assets: Resources owned or controlled by a company (e.g., land, equipment, cash). Liabilities: Creditors' claims on assets (e.g., accounts payable, notes payable). Equity: Owner’s claims on assets (Net Assets = Assets - Liabilities). Increases and Decreases in Owner’s Equity Increases: Investments by Owner Revenues  Decreases: Withdrawals by Owner Expenses Lecture 2 - Accounting in Business Key Concepts 1. Accounting Equation Formula: Assets = Liabilities + Equity Represents the relationship between what a company owns (assets), what it owes (liabilities), and the owner's claim on the assets (equity). 2. Assets Resources owned or controlled by a company. Examples: Land, equipment, buildings, cash, vehicles, supplies, notes receivable, accounts receivable. 3. Liabilities Obligations or debts of a company; creditors' claims on assets. Examples: Taxes payable, wages payable, notes payable, accounts payable. 4. Equity Owner’s claims on the assets of the business. Increases in equity can occur through: Investments by the owner. Revenues generated by the business. Decreases in equity can occur through: Withdrawals by the owner. Expenses incurred by the business. Transaction Analysis Each transaction affects at least two accounts and must keep the accounting equation in balance. Sample Transactions: 1. Investment by Owners Example: Chas Taylor invests $30,000 cash. Impact: Cash (Asset) increases, Owner's Capital (Equity) increases. 2. Purchase of Supplies for Cash  Example: Purchase supplies for $2,500 cash. Impact: Cash (Asset) decreases, Supplies (Asset) increases. 3. Purchase of Equipment for Cash Example: Purchase equipment for $26,000 cash. Impact: Cash (Asset) decreases, Equipment (Asset) increases. 4. Purchase of Supplies on Credit Example: Purchase supplies on account for $7,100. Impact: Supplies (Asset) increases, Accounts Payable (Liability) increases. 5. Providing Services for Cash Example: Provide consulting services for $4,200 cash. Impact: Cash (Asset) increases, Revenue (Equity) increases. 6. Payment of Expenses in Cash Example: Pay $1,000 rent and $700 salary. Impact: Cash (Asset) decreases, Expenses (Equity) increase. 7. Providing Services on Credit Example: Provide services for $1,600 and rent facilities for $300 on credit. Impact: Accounts Receivable (Asset) increases, Revenue (Equity) increases. 8. Receipt of Cash for Accounts Receivable Example: Receive $1,900 from a customer. Impact: Cash (Asset) increases, Accounts Receivable (Asset) decreases. 9. Payment of Accounts Payable Example: Pay $900 cash to CalTech Company. Impact: Cash (Asset) decreases, Accounts Payable (Liability) decreases. 10. Withdrawal of Cash by Owner Example: Owner withdraws $200 cash. Impact: Cash (Asset) decreases, Owner's Withdrawals (Equity) increases. Lecture 3: Analysing and Recording Transactions Basic Accounting Cycle Steps: 1. Analyse Transactions and Source Documents  Identify transactions from various documents (e.g., purchase orders, checks, bills, bank statements, sales tickets, employee earnings records). 2. Recording Transactions in a Journal Record relevant transactions in chronological order. Include: Date of transaction Title of accounts (debit and credit) Amounts for debit and credit Description of the transaction 3. Post Journal Information to Ledger Accounts Transfer recorded journal entries to the general ledger. 4. Prepare and Analyse the Trial Balance Ensure total debits equal total credits. 5. Prepare Financial Statements Summarise financial information for reporting. Types of Accounts: Asset Accounts: Cash, Accounts Receivable, Equipment, Land, Supplies, Prepaid Accounts Liability Accounts: Notes Payable, Accounts Payable, Accrued Liabilities, Unearned Revenue Equity Accounts: Owner’s Capital, Owner’s Withdrawals, Revenues, Expenses The Accounting Equation: Assets = Liabilities + Equity Recording Transactions: Steps to Record: 1. Identify the transaction from source documents. 2. Specify the accounts affected. 3. Apply debit/credit rules. 4. Record the transaction with a description. Journal Entry Components: Includes: Date Account titles (debit and credit) Amounts for debit and credit Description of the transaction Lecture 4: Financial Statements Preparation Overview of Financial Statements: 1. Income Statement Reflects a company’s revenues and expenses over a specific period. Calculates net income or loss. 2. Statement of Owner’s Equity Reports changes in equity during a specific period. Includes beginning capital, investments by the owner, net income, and withdrawals. 3. Balance Sheet Describes a company’s financial position at a specific point in time. Lists assets, liabilities, and owner’s equity. 4. Statement of Cash Flows Summarises cash inflows and outflows over a period. Steps in Preparing Financial Statements: 1. Prepare the Income Statement List revenues first, subtotal them. List expenses separately, subtotal them. Calculate net income (Total Revenues - Total Expenses). 2. Prepare the Statement of Owner’s Equity Start with the beginning capital. Add investments by the owner. Add net income from the income statement. Subtract owner withdrawals. Present ending capital. 3. Prepare the Balance Sheet List assets (e.g., Cash, Accounts Receivable, Equipment).  List liabilities (e.g., Accounts Payable). Present owner’s equity (ending capital from the statement of owner’s equity). Ensure that Assets = Liabilities + Owner’s Equity. Key Financial Statements Format: 1. Income Statement Format: Company Name Income Statement For the Month Ended [Date] Revenues: [List of revenues] Total Revenues: [Total] Expenses: [List of expenses] Total Expenses: [Total] Net Income: [Calculated amount] 2. Statement of Owner’s Equity Format: Company Name Statement of Owner’s Equity For the Month Ended [Date] Beginning Capital: [Amount] Add: Investments by Owner: [Amount] Add: Net Income: [Amount] Less: Withdrawals: [Amount] Ending Capital: [Calculated amount] 3. Balance Sheet Format: Company Name Balance Sheet As of [Date] Assets [List of assets with amounts] Total Assets: [Total] Liabilities [List of liabilities with amounts] Total Liabilities: [Total] Owner’s Equity [Owner’s Capital] Total Liabilities and Equity: [Total] Important Notes: The income statement reflects performance over a period, while the balance sheet provides a snapshot at a specific date. The statement of cash flows is critical for understanding liquidity and cash management. The financial statements must adhere to accounting principles and standards. Lecture 5: Adjusting Accounts for Financial Statements Key Concepts: 1. Time Period Assumption: The economic life of a business can be divided into artificial time periods (e.g., months, quarters, years). Financial statements are prepared for these periods to provide timely information. 2. Accrual Basis of Accounting: Revenues are recognized when earned, and expenses are recognized when incurred, regardless of cash flow. This basis provides a more accurate financial picture compared to cash basis accounting. 3. Need for Adjusting Entries: Adjusting entries ensure that revenues are recorded in the period they are earned and expenses in the period they are incurred. They are necessary to adhere to the revenue recognition and matching principles. Types of Adjusting Entries: 1. Prepaid (Deferred) Expenses: Expenses paid in advance and recorded as assets until they are incurred. Example: Prepaid insurance. 2. Unearned (Deferred) Revenues: Cash received before services are performed; recorded as liabilities until earned. Example: Advance payments for services. 3. Accrued Expenses: Expenses incurred but not yet paid or recorded.  Example: Salaries payable. 4. Accrued Revenues: Revenues earned but not yet received or recorded. Example: Service revenues earned but not billed. Preparing Adjusting Entries: Accrued Revenues: Recognize revenue that has been earned but not yet received. Adjusting entry: Debit an asset account (e.g., Accounts Receivable) and credit a revenue account. Accrued Expenses: Recognize expenses that have been incurred but not yet paid. Adjusting entry: Debit an expense account and credit a liability account (e.g., Accounts Payable). Summary of Adjusting Entries: Accrued Revenues: Debit: Asset (e.g., Accounts Receivable) Credit: Revenue Accrued Expenses: Debit: Expense Credit: Liability Deferred Revenues: Debit: Liability Credit: Revenue Deferred Expenses: Debit: Expense Credit: Asset Lecture 6: Prepayments or Deferrals Key Concepts: 1. Prepayments (Deferrals): Prepayments are assets that represent goods or services paid for in advance. Prepayments are initially recorded as assets and then gradually converted to expenses as the benefits are consumed. Types of Prepayments: 1. Prepaid Expenses: Expenses paid in advance and recorded as assets until they are incurred. Example: Prepaid rent, prepaid insurance, and supplies. 2. Unearned Revenues: Cash received before services are performed; recorded as liabilities until earned. Example: Advance payments for services. Prepaid Expenses Adjusting Entries: Adjusting Prepaid Expenses: Recognize the portion of prepaid expenses that have expired or been used. Adjusting entry: Debit an expense account and credit a prepaid asset account. Unearned Revenues Adjusting Entries: Adjusting Unearned Revenues: Recognize revenue when the service or product is delivered. Adjusting entry: Debit an unearned revenue liability account and credit a revenue account. Example of Prepaid Expenses Adjusting Entry:  Prepaid Rent: Initial entry: Dr. Prepaid Rent $3,000; Cr. Cash $3,000 Adjusting entry (after one month): Dr. Rent Expense $1,000; Cr. Prepaid Rent $1,000 Example of Unearned Revenues Adjusting Entry: Unearned Service Revenue: Initial entry: Dr. Cash $1,000; Cr. Unearned Revenue $1,000 Adjusting entry (after delivering service): Dr. Service Revenue $1,000; Cr. Unearned Revenue $1,000