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AccountingandFinancialManagement1A
Session22016
Week2
Measuring&EvaluatingFinancialPositionandPerformance
DrHelenKang
SchoolofAccounting
helen.kang@unsw.edu.au
Beforewebegin.
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Consultations
DontforgettousetheGlossary!(TCGp.734)
YouwillbeintroducedtomanykeyAccountingterms;itislike
learninganewlanguage
Youshouldrefertotheglossaryasoftenasneededuntilyou
gettoknowallthenewterms
Practiceusingtheglossary lookupthenewtermseachweek
andtrytoexplaintheminyourtermsorthinkofanexample
toexplainit.(Tip:Define,explain,andthinkofanexample!)
Topic2Outline
Learningobjectives
RecapofTopic1
Topic2:MeasuringandEvaluatingFinancialPosition&
Performance
EssentialreadingforWeek2:
TCGChapter2plusAppendix
Topic2:DesiredLearningOutcomes(LO)
1. Understandtheterms,format,andfunctionoftheBalance
Sheet&identifyitscomponents(A,L,OE)
2. Describetherelationshipbetweenthebalancesheetandthe
incomestatement(viaRetainedProfits)
3. Understandtheterms,format,andfunctionoftheIncome
Statement&identifyitscomponents(R,E)
4. Understandthedifferencesbetweencashprofitandaccrual
profit
5. Understandtheimplicationsofthedecisiontorecord
expenditureasanassetorasanexpense
6
RecapofTopic1
Accounting recordkeepingandreportingofanenterprises
performanceandpositioninmonetaryterms
Theprimaryofobjectiveoffinancialreportingistoprovide
usefulinformationfordecisionmaking
Particularlytoexternalusers e.g.?
Theaccountingprocesssupportstheproductionof3key
financialstatements:
BalanceSheet,IncomeStatement,&StatementofCashFlows
RecapofTopic1
Balancesheet
Financialpositionofanenterpriseataparticularpointintime.
Whataretheentitysresourcesandhowweretheyfinanced?
Incomestatement
Financialperformanceofanenterpriseoveraperiodoftime.
Hastheentityuseditsresourcesefficientlyandeffectively?
Cashflowstatement:
Cashinflowsandoutflows
Notestothefinancialstatements(additionaldetail)
8
RecapofTopic1
Recalltheaccountingequation:
Assets
=
Resources
Liabilities+Equity
Sources
Thisassistswithdoubleentrybookkeeping:i.e.therearealways
twoaspectsofatransaction
E.g.Buyingajuicerforthejuicebarbusiness,usingcredit
RecapofTopic1
Accrualaccounting:recognisingrevenuesandexpenseswhen
aneconomicallymeaningfuleventoccurs
Oftenthisdoesnotaffectcashatthetime
Profit=Revenue Expenses
Profitsincreaseequity,andlossesdecreaseit!
Assets=
Resources
Liabilities+Equity
profits
Sources
losses
10
Topic2:Outline
1.BalanceSheet overview
1.1.Assets
1.2Liabilities
1.3Equity
2.ConnectingtheIncomeStatementandBalanceSheet
3.IncomeStatement overview
3.1Revenues
3.2Expenses
4.Accrualvs.CashProfit
5.Capitalisevs.expense
11
1.TheBalanceSheet
LO1
Astatementthatsummarisesthefinancialpositionofanenterprise
ataparticularpointintime
Whataretheresources(Assets)oftheenterprise?
Watwerethesources:i.e.howweretheyfinanced?(DebtorEquity)
Pointintime e.g.asatJune30,2016
Providesinformationabout
Financialstructure(mixofdebt/equity)
Liquidity easeofconvertingassetstocashinnormalcourseof
business(shorttermfocus)
Solvency abilitytopaydebtswhentheyfalldue(longertermfocus)
12
WhatisonaBalanceSheet?
LO1
ABalanceSheetwillalwayshavethefollowingidentifying
information:
13
Nameofthereportingentity
Typeoffinancialstatement BalanceSheet
Date whatpointintimeitrefersto
Currencyused $m,$AUD
WhatisonaBalanceSheet?
LO1
Assets
Resources theywillbenefitthecompanythisyear(current)orin
futureyears(noncurrent)
e.g.,cash,property,equipment,inventory
Liabilities
Whatthecompanyowes
e.g.,accountspayable,loanpayable
Equity
14
Whatbelongstotheowners,theresiduali.e.whatisleftafter
liabilitiesaretakencareofe.g.,sharecapital,retainedprofits
THEAccountingEquation
Assets
LO1
Liabilities
Equity
Resources(whatwehavetoearnincome)
Source:Whatweowe
Source:Whatownerscontributed,
plusanyprofitsthathaveaccumulated
Remember:theaccountingequationalwaysbalances!
Reliesontheaccountingentityassumption
Theentityistheenterprise/businessforwhichtheaccountingisbeing
done thefinancialstatementsarefortheentityonly
Activitiesoftheentityareseparatefromthoseoftheowners
15
BalanceSheet sidebysideformat
LO1
ABCLtd
Balancesheet
AsatJune302016
Assets
$m
Currentassets
Cash
$50
Accounts
$75
receivable
Inventory
$120
$245
Noncurrentassets
Land
$100
$250
Equipment(net)
$150
TOTAL
$495
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Liabilities
$m
Currentliabilities
Bankoverdraft
$30
Accountspayable
$73 $103
Noncurrentliabilities
Loan
Shareholdersequity
Sharecapital
Retainedprofits
$87
$130
$175
$305
$495
WhatisonaBalanceSheet?
LO1
AASB101PresentationofFinancialStatementsrequiresataminimumthatthese
itemsbeshownonthefaceoftheBalanceSheet
Assets
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Liabilities
Cashandcashequivalents
Tradeandotherpayables
Tradeandotherreceivables
Interestbearingliabilities
Inventories
Taxliabilities
Biologicalassets
Provisions
Investmentsaccountedfor
ShareholdersEquity
usingtheequitymethod
Contributedequity/Issuedcapital
Otherfinancialassets
Reserves
Taxassets
Retainedprofits
Property,plantandequipment
Minorityinterest/Outsideequity
Investmentproperty
Intangibleassets
ComponentsofaBalanceSheet
LO1
Notallassets(andliabilities)arereportedonthebalance
sheet
Tobereportedonabalancesheet,theymustmeet
recognitioncriteria:
a)
b)
Itisprobable thatanyfutureeconomicbenefitassociatedwith
theitemwillflowtoorfromtheentity,and
Theitemhasacostorvaluethatcanbemeasuredreliably
Moreonthislater
Nowontodefinitions
18
1.1WhatisanAsset?
LO1
Definition:
Aresourcethatiscontrolled (notnecessarilyowned)byan
entityasaresultofpastevents,andfromwhichfuture
economicbenefitsareexpectedtoflowtotheentity.
19
Whathappensifdefinitioncriteriaarentmet?
ThreeEssentialCharacteristicsofAssets
LO1
1. Futureeconomicbenefits
Assetsareusedtoprovidegoodsorserviceswiththeobjectiveof
generatingnetcashflows
Considerfutureeconomicbenefitofcash,receivables,
investments,inventory,prepayments,propertyplantand
equipment.
20
ThreeEssentialCharacteristicsofAssets
LO1
2. Controlledbyanentity
Relatestothecapacityofanentitytobenefitfromtheassetin
pursuingitsobjectivesandtodenyorregulatetheaccessof
others
3. Asaresultofpastevents
21
Meansthatthetransactionorothereventgivingtheentity
controloverthefutureeconomicbenefitsmusthaveoccurred,
e.g.paidcashorcredit
ExamplesofAssets JuiceBarBusiness
LO1
WhatassetsmightourJuiceBarBusinesshave?
Juicer!
Others?
Anyassetsthatcannotberecognisedonbalancesheet?
22
Slide18recognitioncriteria
ExamplesofAssets
Ouremployeesareourgreatestassets
Definitioncriteria
Futurebenefits
Control
Pastevent
Recognitioncriteria
23
Probable
Reliablemeasurement
LO1
ExamplesofAssets Components
CurrentAssets(CA)
Expecttorealisethebenefitsinthenext12months
NoncurrentAssets(NCA)
Realisebenefitsoveralongerperiod
A
CA+NCA
24
OE
LO1
ExamplesofAssets(andlotsofnewterms)
CurrentorNoncurrent?
Cash&cashequivalents
Accountsreceivable
Machinery
Inventory
Prepayments(<12monthsvs.>12months)
Investments
Motorvehicles
Buildings
Intangibleassetse.g.,licences
25
LO1
1.2WhatisaLiability?
LO1
Definition:
Aliabilityisapresentobligationoftheentityarisingfrompast
events,thesettlementofwhichisexpectedtoresultinan
outflowfromtheentityofresourcesembodyingeconomic
benefits.
Whathappensifthedefinitioncriteriaarenotmet?
26
TwoEssentialCharacteristicsofaLiability
LO1
1. Apresentobligationexistsandtheobligationinvolves
settlementinthefuture
2. Ithasadversefinancialconsequencesfortheentityinthat
theentityisobligatedtosacrifice economicbenefitstoone
ormoreotherentities
27
ExamplesofLiabilities JuiceBarBusiness
WhatliabilitiesmightourJuiceBarBusinesshave?
Wagesexpense
28
Youeitherpayincashor
LO1
ExamplesofLiabilities
LO1
Liabilitiesalsohavetobeclassifiedascurrentornoncurrent
Currentliabilitiesarethosethatwillbepaidoffwithinoneyear
ofthebalancesheetdate.
Noncurrentliabilitieswillremainliabilitiesforatleastthenext
year.
Reasonforthisdistinction(forbothassetsandliabilities):
Tohelpthefinancialstatementuserassessshortterm
financialposition.
29
ExamplesofLiabilities CLorNCL?
Accountspayable
Overdrafts
Loans
30
(duein<12monthsvs.>12months)
Unearnedrevenue
Taxespayable
Dividendspayable
Wagespayable
Provisionforwarranty
LO1
WorkingCapital CAandCL
LO1
Calculatedbysubtractingcurrentliabilitiesfromcurrentassets
Workingcapital=CA CL
Lowornegativeworkingcapitalisanindicationofshortterm
financialdifficulties
IfyoudivideCAbyCL=
HOWEVER
31
Interpretationdependsonthecircumstancesofeachcase
1.3WhatisEquity?
LO1
Theresidualinterestintheassetsoftheentityafterdeducting
allitsliabilities
A=L+OE
A L=OE
Alsoreferredtoasnetassets
Whatwe contribute
Commoncomponents:
32
Sharecapital
Retainedprofits
2.ConnectingtheBS&IncomeStatement
LO2
EquityisthelinkbetweentheBalanceSheet&Income
Statement
RecallthatcommoncomponentsofEquityare:
Sharecapital
Retainedprofits
Letsnowconsidermeasuringchangesinownerwealth(i.e.,
changesinnetassets)
33
TransactionsthatAffectOwnersEquity
OWNERSEQUITYINCREASES
LO2
OWNERSEQUITYDECREASES
OwnerWithdrawals
fromtheBusiness
OwnerInvestments
intheBusiness
OwnersEquity
Revenues
34
Expenses
AcloserlookatOwners(shareholders)Equity LO2
HowisOwnersEquityaffectedbythefollowing?
Contributionsbyowners(shareholders)
Profit
Revenues
Expenses
Distributionstoowners
35
Dividends
2.ConnectingtheBS&IncomeStatement
LO2
Retainedprofit
Whenacompanyearnsaprofit,thatprofitcanbedistributedto
shareholdersasdividendsorkeptinthebusinesstogrowthebusiness
TheprofitthatiskeptiscalledRetainedProfit
TheRetainedProfitAccountisthelinkbetweenthebalancesheet
andincomestatement
OpeningRetainedprofit
Plus
Less
=
Profit(Revenues Expenses)forthisperiod
Distributions(Dividends)
ClosingRetainedProfit
Remember:DividendsareNOTANEXPENSE!
36
TheAccountingEquationexpandedevenfurther!
A =
CA+NCA =CL+NCL
OE
+ (SC +
RP)
Assets
CurrentAssets
NoncurrentAssets
Liabilities
CurrentLiabilities
NoncurrentLiabilities
OE
SC
RP
R
E
D
=
=
=
=
=
=
Ownersequity
Sharecapital
Retainedprofit
Revenue
Expenses
Dividend(declared)
2.ConnectingtheBS&IncomeStatement
BalanceSheet
Cash
Otherassets
Totalassets
Liabilities
Sharecapital`
Retainedprofits
Totalliabilitiesand
shareholdersequity
RetainedProfitsNote
2015balance
+Netprofit
Dividends
2016balance
38
2015
1,400
114,000
115,400
51,400
40,000
24,000
2016
2,000
118,000
120,000
53,000
40,000
27,000
115,400
LO2
CashFlowStatement
Fromoperatingactivities
Frominvestingactivities
Fromfinancingactivities
Totalnetcashflows
Openingbalance
Closingbalance
2016
2,500
(2,300)
400
600
1,400
2,000
IncomeStatement
Revenues
Expenses*
Netprofit
2016
21,000
15,000
6,000
120,000
24,000
6,000
30,000
3,000
27,000
2.ConnectingtheBS&IncomeStatement
LO2
Incomestatementaccountsaretemporaryaccounts
Balancesheetaccountsarepermanentaccounts
Incomestatementaccountsareclosedandtheirbalances
transferredtotheretainedprofitsaccount(onthebalancesheet)at
theendofeachaccountingperiod
Theretainedprofitsaccountprovidesthelinkbetweentheincome
statementandthebalancesheet
39
Example1
LO2
Contributionsbyowners issuedsharesfor$300,000cash
40
+OE
Example2
LO2
Companyreceives$3,000interestonbankdeposit
41
+OE
Example3
LO2
Companypays$3,000interestonabankloan
42
+OE
RevisionQuestion1
Whichofthefollowingstatementsaboutabalancesheetis
true?
1. Abalancesheetpresentsthefinancialperformanceofa
companyforaperiodoftime
2. Abalancesheetpresentsthefinancialpositionatapointin
time
3. Abalancesheetshowsallitemsmeetingthedefinitionof
assetsandliabilities
4. Abalancesheetincludesnamesofthecompanys
shareholders
43
RevisionQuestion2
Basedonthefollowinginformation,calculateOwners
Equity(OE)
A=L+OE
Cash
Inventory
Equipment
Accountspayable
Taxespayable
Bankloan
44
10000
30000
200000
50000
40000
100000
Wherearewenow?
1.BalanceSheet overview
1.1.Assets
1.2Liabilities
1.3Equity
2.ConnectingtheIncomeStatementandBalanceSheet
3.IncomeStatement overview
3.1Revenues
3.2Expenses
4.Accrualvs.CashProfit
5.Capitalisevs.expense
45
3.IncomeStatement
LO3
Showstheresultsofbusinessoperationsoveraspecifictime
period
Relatestotheaccountingperiodassumption
Reportsrevenuesearned,lessanyexpensesincurred
Providesameasureoforganisationalefficiency
Calculatestheprofitthatmaybeavailabletoshareholders
Remember:Accrualprofitisnotthesameascashprofit!
46
3.1Revenue
LO3
Revenueisgrossinflowsofeconomicbenefitsduringthe
periodarisingintheordinaryactivitiesofanentitywhen
thoseinflowsresultinincreasesinequityotherthanthose
relatingtocontributionsfromequityparticipants.
(AASB118,para7)
Revenuerepresentsanincreaseinthewealthofthebusiness
47
Itisrecognisedwhenitisconsideredtobeearned requiresa
triggerpoint
E.g.:whengoods/serviceshavebeenprovidedtocustomers
Receiptofcashisnotnecessary!
ExamplesofRevenue
48
SalesRevenue
InterestRevenue
RentRevenue
DividendsRevenue
LO3
JuiceBarExamplecontinued Revenue
LO3
HowmuchrevenuewouldJuiceBarrecordforthemonthof
July?
(a) Collected$1,000cashfromcustomersduringJulyfor
servicesprovidedduringJune
(b) Cashsalesof$4500duringJuly
(c) Providedacustomerwithjuicesworth$2,000oncredit inJuly,
moneytobecollectedinAugust
(d) Receivedadepositof$500inJuly(fromanothercustomer)for
juicestobeprovidedinAugust
49
3.2Expenses
LO3
Expensesrepresentdecreasesintheentityswealth
Theyareincurredinordertoearnrevenue
Note:
50
Expensesdonotincludepaymentsorreturnstoowners(i.e.
withdrawalsbysoletradersorpartners,or,dividendsto
shareholders)
Paymentstoownersareconsideredtobedistributionsofnet
profittoowners
Wealthdecreasesbecause:
LO3
Operatingcostshavetobepaid
Longtermassetswearout
Referredtoasdepreciationoramortisation
Noticethishasnodirecteffectoncash!
Assetsareusedup(e.g.prepayments,inventory)
51
Againnotethattheusingupofprepaymentsandinventorydoes
notleadtoacashoutflow!
JuiceBarExamplecontinued Expenses
LO3
WhatexpensewouldJuiceBarrecordforthemonthofJuly?
(a)
(b)
(c)
(d)
(e)
52
$1,000WagespaidduringJulythatrelatetoworkdoneinJuly
$250WagesincurredthatistobepaidinAugust
$200WagespaidinJulythatwereowingfromJune
JuiceBartookoutaloanfromthebankfor$10,000
$500,thecostofrentinJuly,tobepaidinAugust
JuiceBarExample Accrualvs.CashProfit
ForJuly:
Collected$1,000cashfromcustomers
duringJulyforservicesprovidedinJune
Cashsalesof$4500duringJuly
Providedacustomerwithjuicesworth
$2,000oncreditinJuly,moneytobe
collectedinAugust
Receivedadepositof$500inJuly(from
anothercustomer)forjuicestobeprovided
inAugust
Total
53
LO4
Revenue
CashIn
$0
$1,000
$6,500
$6,000
JuiceBarExample Accrualvs.CashProfit
ForJuly:
$1,000WagespaidduringJulythatrelateto
workdoneinJuly
LO4
Expense
CashOut
$1,000
$1,000
$1,750
$1,200
$250WagesincurredthatistobepaidinAugust
$200WagespaidinJulythatwereowingfrom
June
JuiceBartookoutaloanfromthebankfor
$10,000
$500,thecostofrentinJuly,tobepaidin
August
Total
54
JuiceBarExample Accrualvs.CashProfit
WhatwastheaccrualprofitforJuly?
$6,500 $1,750=$8,250
WhatwasthecashprofitforJuly?
$6,000 $1,200=$4,800
AccrualisbetterthanCashaccounting?
55
LO4
ExamplesofCosts
LO5
Costoranexpenditure
EitheranAssetoranExpense
Aninterestingchoicethatcanmakeabigdifferencetoa
business!
Whenweclassifyacostasanassetwesaywecapitalise it
Ifacostisnotcapitalised,itisexpensed
A=L+OE
Thisdecisioncanbeaffectedbytheamountand/orforhow
longitwouldlast/definitionofanasset
56
Classifyingacostasanasset(capitalise)orexpense
Has a cost
been incurred?
No
Unlikely to be an
accounting event
Yes
Is there a benefit
to the business?
No
Yes
No
No
Yes
Report as an expense
57
Report it as an asset
Capitalisevs.Expense
LO5
WhichofthefollowingisJuiceBarlikelytocapitalise?
58
Spent$10,000cashonnewequipment
Borrowed$5,000tobuymoreequipment
Spent$200,000tryingtodevelop ajuicewithgreatfatburning
properties(willneedgovernmentapprovalbeforeitcanbesold)
Paid12monthsrentinadvance$6,000
Spent$30onprinterink(willlast6months)
RevisionQuestion3
During2016,acompanymakescreditsalesof$500,000of
which$375,000iscollectedatyearend.Itpays$200,000in
expensesandowes$25,000forelectricityusedduring2016.
Whatisaccrualprofitfor2016?
Whatiscashprofit?
59
Notes
60
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