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Introduction to Business

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Introduction to Business ­MGT 211
VU
Lesson 44
TOOLS OF THE ACCOUNTING TRADE
For thousands of years, businesses and governments have kept records of their transactions.
Accountants are guided by three fundamental principles: the accounting equation, double-
entry accounting, and the matching principle.
The Accounting Equation --- Accountants use the following equation to balance the data in
journals and ledgers: Assets = Liabilities + Owners' Equity
i.
Assets and Liabilities
1. Asset--any economic resource expected to benefit a firm or an
individual who owns it.
2. Liability--debt owned by a firm to an outside organization or
individual.
ii.
Owners' Equity--amount of money that owners would receive if they
sold all of a firm's assets and paid all of its liabilities. It consists of two
sources of capital: the amount the owners originally invested, and profits
earned by and reinvested in the company.
Double-Entry Accounting ----To keep the accounting equation in balance, companies use a
system developed by Fra Luca Pacioli, an Italian monk, in 1494.
i.
Double-entry accounting is a way of recording financial transactions
that requires two entries for every transaction, so that the accounting
equation is always kept in balance.
ii.
Every transaction--a sale, a payment, a collection--has two offsetting
sides. Any excess plowed back into the business becomes retained
earnings. The accounting equation remains in balance if the
transactions are properly recorded.
iii.
Once the individual transactions are recorded and then summarized,
accountants review the summaries and adjust or correct errors, so they
can close the books, the act of transferring net revenue and expense
account balances to retained earnings for the period.
iv.
Although computers do much of the tedious recording today, mastering
the fundamental principles such as double-entry bookkeeping is
important because accountants must decide which accounts to increase
or decrease, and they must understand what to do if transactions are
recorded improperly.
Financial Statements --- Any of several types of reports summarizing a company's financial
status to aid in managerial decision making.
Balance Sheets -- also known as a statement of financial position, is a kind of "snapshot" of
where a company is, financially speaking, at one moment in time. The balance sheet includes
all the elements in the accounting equation, showing the balance between assets on one side
and liabilities and owners' equity on the other.
Every company prepares a balance sheet at least once a year, most often at the end of the
calendar year, January 1 to December 31. The fiscal year, any 12 consecutive months, is used
by many business and government bodies.
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Introduction to Business ­MGT 211
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i.
Assets
There are three types:
1. Current Asset--asset that can or will be converted into cash
within the following year.
a. Liquidity--ease with which an asset can be converted
into cash.
b. Non-liquid  Assets--Includes  marketable  securities
which vary in liquidity and three other forms:
i.
accounts  receivable--amount  due  from  a
customer who has purchased goods on credit
ii.
merchandise inventory--cost of merchandise
that has been acquired for sale to customers and
is still on hand
iii.
prepaid expense--expense that is paid before
the upcoming period in which it is due
2. Fixed Asset--asset with long-term use or value
a. depreciation--process of distributing the cost of an
asset over its life
3. Intangible Asset--nonphysical asset that has economic value in
the form of expected benefits.
a. goodwill--amount paid for an existing business above
the value of its other assets
ii.
Liabilities are the debts that a business has incurred and appear after
assets because they are claims against the assets as shown in the
accounting equation: Assets = Liabilities + Owners' Equity
1. Current Liability--debt that must be paid within the year.
2. Account Payable--current liabilities consisting of bills owed to
suppliers, plus wages and taxes due within the upcoming year.
3. Long-Term Liability--debt that is not due for more than one
year.
iii.
Owners' Equity is the owners' investment in a business. This is also
the section that shows a corporation's retained earnings, the portion of
shareholders' equity earned by the company, but not distributed to its
owners in the form of dividends.
1. Common Stock
2. Paid-In Capital--additional money, above proceeds from stock
sale, paid directly to a firm by its owners.
3. Retained Earnings--earnings retained by a firm for its use
rather than paid as dividends.
Income Statements -- financial statement listing a firm's annual revenues and expenses so
that a bottom line shows annual profit or loss. If the balance sheet is a "snapshot," the income
statement is a "movie."
i.
Revenues--funds that flow into a business from the sale of goods or
services.
ii.
Cost of Goods Sold--total cost of obtaining materials for making the
products sold by a firm during the year.
iii.
Gross Profit (or Gross Margin)--revenues obtained from goods sold
minus cost of goods sold.
iv.
Operating Expenses--costs, other than the cost of goods sold,
incurred in producing a good or service.
v.
Operating Income--gross profit minus operating expenses.
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Introduction to Business ­MGT 211
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1. net income (or net profit or net earnings)--gross profit minus
operating expenses and income taxes
Statement of Cash Flows -- financial statement describing a firm's yearly cash receipts and
cash payments.
i.
cash flows from operations
ii.
cash flows from investing
iii.
cash flows from financing
The Budget: An Internal Financial Statement
A detailed statement of estimated receipts and expenditures for a period of time in the future.
The budget is probably the most crucial internal financial report. Most companies use their
budgets for internal planning, controlling, and decision-making. Although the accounting staff
coordinates the budget process, many different employees contribute to creating and updating
the budget.
Reporting Standards and Practices
The common language dictated by standard practices is designed to give external users
confidence in the accuracy and meaning of the information in any financial statement.
i.
Revenue Recognition--formal recording and reporting revenues in the
financial statements. This principle states that revenue is not formally
recorded and reported until 1) The sale is complete and the product has
been delivered, and 2) The sale price is collected or is collectable (part
of accounts receivable).
ii.
Matching principle requires that expenses incurred in producing
revenues be deducted from the revenue they generated during the
same accounting period in order to accurately present the profitability of
a business.
1. Accountants match revenue to expenses by adopting the accrual
basis of accounting, which states that revenue is recognized
when you make a sale and expense is recorded when it is
incurred.
2. If a business runs on a cash basis, the company records
revenue only when money from the sale is actually received and
expense is recorded when cash is paid.
3. Depreciation is the accounting procedure for systematically
spreading the cost of a tangible asset over its estimated useful
life.
iii.
Full Disclosure means that financial statements should include not just
numbers, but also interpretations and explanations by management so
that external users can better understand information contained in the
statements.
Analyzing Financial Statements
Organizations and individuals use financial statements to spot problems and opportunities.
Managers and outsiders use them to evaluate a company's performance in relation to the
economy, the competition, and past performance. To perform this analysis, most users look at
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Introduction to Business ­MGT 211
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historical trends and key ratios. Three major classifications of ratios: solvency,
profitability, activity.
Short-Term Solvency Ratios
Liquidity Ratio -- solvency ratio measuring a firm's ability to pay its immediate debts.
i.
current ratio--solvency ratio that determines a firm's credit worthiness
by measuring its ability to pay current liabilities, calculated by dividing
current assets by current liabilities.
ii.
working capital--the difference between the firm's current assets and
current liabilities, which indicates the firm's ability to pay off short-term
debts to outsiders.
Long-Term Solvency Ratios
Debt Ratio -- solvency ratio measuring a firm's ability to meet its long-term debts.
i.
debt-to-owners' equity ratio (or debt-to-equity ratio)--solvency ratio
describing the extent to which a firm is financed through borrowing,
calculated by dividing debt by owners' equity.
ii.
leverage--ability to finance an investment through borrowed funds
Profitability Ratios
i.
Return on Equity--profitability ratio measuring income earned for each
dollar invested, calculated by dividing net income by total owners'
equity.
ii.
Earnings per Share--profitability ratio measuring the size of the
dividend that a firm can pay shareholders, calculated by dividing net
income by the number of shares of common stock outstanding.
Activity Ratios --- may be used to analyze how well a company is managing its assets.
i.
Inventory Turnover Ratio--activity ratio measuring the average
number of times that inventory is sold and restocked during the year,
calculated as cost of goods sold divided by average inventory.
International Accounting
a. Foreign Currency Exchange Rate--value of a nation's currency as
determined by market forces.
International Transactions --- International purchases, sales on credit, and accounting for
foreign subsidiaries all involve accounting transactions that include currency exchange rates.
International Accounting Standards --- Bankers, investors, and managers would like to see
financial reporting that is comparable from country-to-country and across all firms regardless
of home nation.
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Table of Contents:
  1. INTRODUCTION:CONCEPT OF BUSINESS, KINDS OF INDSTRY, TYPES OF TRADE
  2. ORGANIZATIONAL BOUNDARIES AND ENVIRONMENTS:THE ECONOMIC ENVIRONMENT
  3. BUSINESS ORGANIZATION:Sole Proprietorship, Joint Stock Company, Combination
  4. SOLE PROPRIETORSHIP AND ITS CHARACTERISTICS:ADVANTAGES OF SOLE PROPRIETORSHIP
  5. PARTNERSHIP AND ITS CHARACTERISTICS:ADVANTAGES AND DISADVANTAGES OF PARTNERSHIP
  6. PARTNERSHIP (Continued):KINDS OF PARTNERS, PARTNERSHIP AT WILL
  7. PARTNERSHIP (Continued):PARTNESHIP AGREEMENT, CONCLUSION, DUTIES OF PARTNERS
  8. ORGANIZATIONAL BOUNDARIES AND ENVIRONMENTS:ETHICS IN THE WORKPLACE, SOCIAL RESPONSIBILITY
  9. JOINT STOCK COMPANY:PRIVATE COMPANY, PROMOTION STAGE, INCORPORATION STAGE
  10. LEGAL DOCUMENTS ISSUED BY A COMPANY:MEMORANDUM OF ASSOCIATION, CONTENTS OF ARTICLES
  11. WINDING UP OF COMPANY:VOLUNTARY WIDNIGN UP, KINDS OF SHARE CAPITAL
  12. COOPERATIVE SOCIETY:ADVANTAGES OF COOPERATIVE SOCIETY
  13. WHO ARE MANAGERS?:THE MANAGEMENT PROCESS, BASIC MANAGEMENT SKILLS
  14. HUMAN RESOURCE MANAGEMENT:Human Resource Planning
  15. STAFFING:STAFFING THE ORGANIZATION
  16. STAFF TRAINING & DEVELOPMENT:Typical Topics of Employee Training, Training Methods
  17. BUSINESS MANAGERíS RESPONSIBILITY PROFILE:Accountability, Specific responsibilities
  18. COMPENSATION AND BENEFITS:THE LEGAL CONTEXT OF HR MANAGEMENT, DEALING WITH ORGANIZED LABOR
  19. COMPENSATION AND BENEFITS (Continued):MOTIVATION IN THE WORKPLACE
  20. STRATEGIES FOR ENHANCING JOB SATISFACTION AND MORALE
  21. MANAGERIAL STYLES AND LEADERSHIP:Changing Patterns of Leadership
  22. MARKETING:What Is Marketing?, Marketing: Providing Value and Satisfaction
  23. THE MARKETING ENVIRONMENT:THE MARKETING MIX, Product differentiation
  24. MARKET RESEARCH:Market information, Market Segmentation, Market Trends
  25. MARKET RESEARCH PROCESS:Select the research design, Collecting and analyzing data
  26. MARKETING RESEARCH:Data Warehousing and Data Mining
  27. LEARNING EXPERIENCES OF STUDENTS EARNING LOWER LEVEL CREDIT:Discussion Topics, Market Segmentation
  28. UNDERSTANDING CONSUMER BEHAVIOR:The Consumer Buying Process
  29. THE DISTRIBUTION MIX:Intermediaries and Distribution Channels, Distribution of Business Products
  30. PHYSICAL DISTRIBUTION:Transportation Operations, Distribution as a Marketing Strategy
  31. PROMOTION:Information and Exchange Values, Promotional Strategies
  32. ADVERTISING PROMOTION:Advertising Strategies, Advertising Media
  33. PERSONAL SELLING:Personal Selling Situations, The Personal Selling Process
  34. SALES PROMOTIONS:Publicity and Public Relations, Promotional Practices in Small Business
  35. THE PRODUCTIVITY:Responding to the Productivity Challenge, Domestic Productivity
  36. THE PLANNING PROCESS:Strengths, Weaknesses, Threats
  37. TOTAL QUALITY MANAGEMENT:Planning for Quality, Controlling for Quality
  38. TOTAL QUALITY MANAGEMENT (continued):Tools for Total Quality Management
  39. TOTAL QUALITY MANAGEMENT (continued):Process Re-engineering, Emphasizing Quality of Work Life
  40. BUSINESS IN DIGITAL AGE:Types of Information Systems, Telecommunications and Networks
  41. NON-VERBAL COMMUNICATION MODES:Body Movement, Facial Expressions
  42. BUSINESS ORGANIZATIONS:Organization as a System
  43. ACCOUNTING:Accounting Information System, Financial versus Managerial Accounting
  44. TOOLS OF THE ACCOUNTING TRADE:Double-Entry Accounting, Assets
  45. FINANCIAL MANAGEMENT:The Role of the Financial Manager, Short-Term (Operating) Expenditures