Accounting in

Action
Topic 1
 Explain what accounting is

Identify the users and uses of accounting

Understand why ethics is a fundamental business concept

Learning Explain generally accepted accounting principles

Objectives Explain the fundamental accounting concepts

State the accounting equation, and define its components

Analyse the effects of business transactions on the accounting

equation

Understand the four financial statements and how they are prepared
 What is
Accounting?

Accounting is the systematic recording, reporting and analysis of

financial transactions within a business.
Consists of three basic activities
• Identifies – economic events (transaction) relevant to business
• Records – systematic, chronological diary of events
• Communicates – prepare accounting reports
 Internal users
• Refers to people or entity within the company or group.
• Include marketing manager, production supervisors, employees,
finance director, board of directors, CEO, management teams,
Who Uses shareholders, etc
Accounting • Use financial information to manage the business.
Data • Information that internal users use mostly come from
management accounts.
Internal User Decision consideration they may make Financial information they may
look at
Finance director Is cash sufficient to pay dividends to the Retained profit
shareholders Cash position of the company
Marketing manager What price shall the company charge to Sales
maximise the company’s sales? Cost of goods sold
Gross profit
Employees Is the company going to pay bonus this year? Net profit for the year

Shareholders Would there be any dividends declared this Profit

year? Retained profit
Parent company Can the subsidiary contribute cash to support Cashflow of subsidiary
the project? Net current assets of subsidiary
Human resource Can the company afford a 7% pay rise for staff Salaries expenses
manager this year? Net profit
Management team Which product line is the most profitable? Product sales figure
Which product line should be dropped? Product cost of sales
Product profit contribution
 External users
• Individuals and organisations outside the
company who want to use financial information
about the company.
Who Uses • Users not involved in managing or operating
Accounting the business but have interest in the company
for various reasons.
Data • Information provided to external users is
financial accounting.
External User Decision consideration they may make Financial information they may look at

Trade Creditor Can I supply the company on credit Net current assets of the company
terms? Gearing of the company
What is the limit? Existing long & short term loans obligations of
the company
Number of days accounts payable outstanding
Investors Shall I buy, hold, or sell the shares of Earnings per share
the company? Profit making capacity of the company
Dividend payment history
Return on equity ratio
Tax authority What is the taxable income of this Revenue
company for YA 2013? Expenditure items
Non-allowable expenses
Banks Can the loan application be approved? Gearing
How much loan can we offer? Liability items
Can the company afford to pay back the Interest-bearing borrowings
loan? Existing loan commitments of the company
External User Decision consideration they may make Financial information they may look at

Industry What kind of business is the company Reports about the business activity
analyst engage in? General information found in the balance sheet
What is the size of the business General information found in the income
operations? statement
How is the company’s performance?
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Ethical Considerations
Ethics = Moral
Accounting ethical dilemmas
- Creative accounting - profits
- Directors’ pay arrangements – window dressing account
- Insider trading – directors tempted to buy shares in company knowing that
a favorable announcement is about to be made should boost the share
price
International Federation of Accountants (IFAC)
- Code of Ethics for Professional Accountants
- Ethical standards to be applied by practicing accountants across the world.

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 is the misstatement of the financial statements by company
management

recording transactions in a manner that is not in accordance

Fraudulent with generally accepted accounting principles is considered
fraudulent financial reporting

Financial disclosure violations are errors of ethical omission. – the failure

Reporting to disclose information to investors that could change their
decisions about investing in the company could be considered
fraudulent financial reporting Disclosure

carried out with the intent of misleading investors.

 is the use of company assets for
any other purpose than company
interests.
Misappropriation
of Assets
This is also known as stealing or
embezzlement – misappropriation
of assets can occur at nearly any
level of the company and to nearly
any degree.
Steps in analysing ethics cases and situations
International Accounting Standards Board
• One important influence on financial accounting is the International
Accounting Standards Board (IASB).
• Is an independent, private-sector body that develops and
approves International Financial Reporting Standards (IFRSs)
• Was set up in 1973 to work for the improvement and harmonisation
of financial reporting.
 Generally Accepted Accounting
Principles (GAAP)
• refer to a common set of accepted
accounting principles, standards, and
Accounting procedures that companies and their
accountants must follow when they
principles compile their financial statements.
• is a combination of authoritative
standards (set by policy boards) and
the commonly accepted ways of
recording and reporting accounting
information.
 Measurement Principles
• GAAP generally uses one of two measurement principles
Historical Cost Fair Value
- Companies record assets and - Assets and liabilities recorded at
liabilities at cost fair value
- Not only at the time the asset is - Mark to market
purchased, but over the time the - Only in situations where assets are
asset is held. actively traded, such as investment
- Eg. Best Buy purchased land for securities.
RM300,000 in year 1, In year 2, the
fair value of the land is RM400,000. Year 1 RM_________
Year 1 RM_________ Year 2 RM_________
Year 2 RM_________
Types of Business Organisation
Proprietorship
- Owned by one person
- Often the manager/operator of the
business
- Not a legal entity
- Personally liable for all debts of the
business
Limited liabilities company
- Separate legal entity
- Shareholders enjoy limited liability ie.
They are not personally liable for the
debts of the corporate entity.
Partnership
- Owned by two or more persons associated as
partners
- Similar to Proprietorship
- Often used for professional practices (lawyers,
doctors, certified public accountants)
Limited liabilities partnership (LLP) (NEW)
- Combines the characteristics of a company
and a conventional partnership.
- No personal liability of partner, except for
own wrongful act or omission or without
authority
- Targeted business groups – Professionals,
Small and medium business, joint ventures,
venture capital 17
Economic Entity Assumption
• Assumes that the business entity stands on its own and is separate
from its owners.
• So the activities of the entity have to be kept separate and distinct
from the activities of the owner and from all other economic activities
that are not related to the entity.
Example
• Eg. Johnny owns and operate a trading company called Johnny
Enterprise. As the owner of the business, he invests his money in the
business. He can use the company’s cash for the business activities or
for his personal expenses.
• Treatment:
The money that he invests in the business belongs to the business. He
only holds a claim on the money as his capital in the business. The
business money cannot be mixed with Johnny’s money. So if Johnny
uses the business money for his personal expenses, this has to be
separated from the expenses on business activities, and to be treated
as drawing.
Monetary Unit Assumption
• Requires that companies include in the accounting records only those
transaction data that can be expressed in monetary terms – in units
of currency.
• Enables accounting to quantify (measure) economic events
• Information like the health of the owner, the quality of service, the
morale of the employees, etc. cannot be quantified in monetary
terms and therefore are excluded from the process.
Four fundamental concepts
• Accrual – refer next slide
• Consistency – Once an accounting method has been chosen, follow it
consistently in future accounting period.
• Going concern – An underlying assumption that entity will remain in
operation for the foreseeable future.
• Prudence – To make sure assets and income are not overstated,
liabilities and expenses are not understated.

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Accounting basis
Accrual basis Cash basis
- Revenue is accounted for when it is earned. - Revenue is reported on the income
- Records revenue when a product or service statement only when cash is received.
is delivered to a customer with the - Expenses are only recorded when cash is
expectation that money will be paid in the paid out.
future.
- Expenses of goods and services are recorded
despite no cash being paid out yet for those
expenses.

Advantages Advantages
- More accurate profitability - Simple
- Easy to track cash flow
Disadvantages Disadvantages
- More complicated to implement - Overstate the health of the company
- Might not account for cash shortage - High profit even large sums of payable
remain unpaid
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The accounting equation
Assets = Liabilities + Equity
Assets
- Resources a business owns
- Capacity to provide future economic benefits
Liabilities
- Present obligation
- Results from past transactions or events
Equity
- Ownership claim
- Equity = Total Assets- Total Liabilities
- Claims of creditors must be paid before ownership claims

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Basic Equation:
Assets = Liabilities + Owner’s Equity

Expanded Equation
Assets = Liabilities + Owner’s Capital - Owner’s Drawings + Revenues -
Expenses
The accounting equation
Equity = Share capital(Paid-up Capital)+ Retained earnings
• Paid-up capital - The amount invested in the corporation by its
owners in exchange for shares of stock
• Retained earnings - Net earnings after dividends which are kept for
use in the business
• Net income (net earnings) - Total revenue exceed total expenses
• Net loss - Total expenses exceed total revenue
• Dividends - Distributions to stockholders (usually cash) generated by
net earnings

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Transaction (1). Investment by Owner. Ray Neal decides to open a computer
programming service which he names Softbyte. On September 1, 2012, he invests
$15,000 cash in the business. This transaction results in an equal increase in assets
and owner’s equity
• Transaction (2). Purchase of Equipment for Cash. Softbyte purchases computer
equipment for $7,000 cash. This transaction results in an equal increase and
decrease in total assets, though the composition of assets changes. Cash
decreases $7,000, and the asset Equipment increases $7,000. The specific effect
of this transaction and the cumulative effect of the first two transactions are:
Financial Statements
• Income Statement – presents revenues and expenses and resulting
net income or net loss for a specific period of time
• Owner’s equity statement – summarises the changes in owner’s
equity for a specific period of time
• Balance Sheet (Statement of Financial Position) – reports the assets,
liabilities, and owner’s equity at a specific date
• Statement of cash flows – summarises information about cash inflows
(receipts) and outflows (payments) for a specific period of time
1. Net income of $2,750 on the income statement is added to the beginning balance of owner’s
capital in the owner’s equity statement.
2. Owner’s capital of $16,450 at the end of the reporting period shown in the owner’s equity
statement is reported on the balance sheet.
3. Cash of $8,050 on the balance sheet is reported on the statement of cash flows.
• What if Softbyte had reported a net loss in its fi rst month? Let’s
assume that during the month of September 2012, Softbyte lost
$10,000.
End of Topic
Thank you!
kiew.jiet.ping@ucts.edu.my