Accounting Principles 9th Edition by Weygandt, Kieso & Kimmel.pdf

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Accounting
Principles
9th Edition
Jerry J. Weygandt PhD, CPA
University of Wisconsin
Madison, Wisconsin
Donald E. Kieso PhD, CPA
Northern Illinois University
DeKalb, Illinois
Paul D. Kimmel PhD, CPA
University of Wisconsin—Milwaukee
Milwaukee, Wisconsin
John Wiley & Sons, Inc.
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Publisher George Hoffman
Associate Publisher Christopher DeJohn
Senior Editor Brian Kamins
Senior Marketing Manager Julia Flohr
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Production Management Services Ingrao Associates
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Marketing Assistant Alana Filipovich
Cover Photo OJO Images/SuperStock
This book was set in Times Ten Roman 10.5/12 by Aptara®
, Inc. and printed and bound by RRD-JC.The cover was
printed by RRD-JC.
This book is printed on acid free paper. ∞
Copyright © 2009 John Wiley & Sons, Inc.All rights reserved. No part of this publication may be reproduced, stored in a
retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning
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ISBN-13 978-0470-31754-9
Printed in the United States of America
10 9 8 7 6 5 4 3 2 1
Dedicated to
Amaya, Christina, Max, Quinn, Venden, Evan, and Nolan, and
their grandmother Enid; Morgan, Cole, and Erin, and their grandmother
Donna; Croix, Marais, and Kale, and their mother Merlynn
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Dear Student,
Why This Course? Remember your biology course in high school? Did you have
one of those “invisible man” models (or maybe something more high-tech than that) that
gave you the opportunity to look “inside” the human body? This accounting course offers
something similar: To understand a business, you have to understand the financial insides
of a business organization. An accounting course will help you understand the essential fi-
nancial components of businesses. Whether you are looking at a large multinational com-
pany like Microsoft or Starbucks or a single-owner software consulting business or coffee
shop, knowing the fundamentals of accounting will help you understand what is happen-
ing. As an employee, a manager, an investor, a business owner, or a manager of your own
personal finances—any of which roles you will have at some point in your life—you will be
much the wiser for having taken this course.
Why This Book? Hundreds of thousands of students have used this textbook. Your
instructor has chosen it for you because of its trusted reputation. The authors have
worked hard to keep the book fresh, timely, and accurate.
The book contains features to help you learn best, whatever your learning style. To
understand what your learning style is, spend about ten minutes to take the online learning
style quiz discussed at the top of page ix and then look at pages ix, x, and xi for how you
can apply an understanding of your learning style to this course. Then, when you know
more about your own learning style, browse through the Student Owner’s Manual online at
the book’s companion website (www.wiley.com/college/sc/weyprin). It shows you the main
features you will find in this textbook and explains their purpose.
How to Succeed? We’ve asked many students and many instructors whether there
is a secret for success in this course. The nearly unanimous answer turns out to be not
much of a secret: “Do the homework.” This is one course where doing is learning, and
the more time you spend on the homework assignments—using the various tools that this
book provides—the more likely you are to learn the essential concepts, techniques, and
methods of accounting. Besides the textbook itself, the companion website offers various
support resources.
Good luck in this course. We hope you enjoy the experience and that you put to
good use throughout a lifetime of success the lessons you learn about accounting and
about business! We are sure you will not be disappointed.
Jerry J. Weygandt
Paul D. Kimmel
Donald E. Kieso
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ABOUT THE AUTHORS
Jerry J. Weygandt, PhD, CPA, is Arthur Andersen
Alumni Professor of Accounting at the University of
Wisconsin—Madison. He holds a Ph.D. in accounting
from the University of Illinois.Articles by Professor
Weygandt have appeared in the Accounting Review.
Journal of Accounting Research,Accounting Horizons,
Journal of Accountancy, and other academic and
professional journals.These articles have examined such
financial reporting issues as accounting for price-level ad-
justments, pensions, convertible securities, stock option
contracts, and interim reports. Professor Weygandt is
author of other accounting and financial reporting books
and is a member of the American Accounting
Association, the American Institute of Certified Public
Accountants, and the Wisconsin Society of Certified
Public Accountants. He has seved on numerous commit-
tees of the American Accounting Association and as a
member of the editorial board of the Accounting Review;
he also has served as President and Secretary-Treasurer of
the American Accounting Association. In addition, he has
been actively involved with the American Institute of
Certified Public Accountants and has been a member
of the Accounting Standards Executive Committee
(AcSEC) of that organization. He has served on the
FASB task force that examined the reporting issues
related to accounting for income taxes and served as a
trustee of the Financial Accounting Foundation. Professor
Weygandt has received the Chancellor’s Award for
Excellence in Teaching and the Beta Gamma Sigma Dean’s
Teaching Award. He is on the board of directors of M & I
Bank of Southern Wisconsin. He is the recipient of the
Wisconsin Institute of CPA’s Outstanding Educator’s
Award and the Lifetime Achievement Award. In 2001
he received the American Accounting Association’s
Outstanding Accounting Educator Award.
Paul D. Kimmel, PhD, CPA, received his bachelor’s de-
gree from the University of Minnesota and his doctorate
in accounting from the University of Wisconsin. He is an
Associate Professor at the University of Wisconsin—
Milwaukee, and has public accounting experience with
Deloitte & Touche (Minneapolis). He was the recipient of
the UWM School of Business Advisory Council Teaching
Award, the Reggie Taite Excellence in Teaching Award.
and a three-time winner of the Outstanding Teaching
Assistant Award at the University of Wisconsin. He is also
a recipient of the Elijah Watts Sells Award for Honorary
Distinction for his results on the CPA exam. He is a mem-
ber of the American Accounting Association and the
Institute of Management Accountants and has published
articles in Accounting Review,Accounting Horizons,
Advances in Management Accounting, Managerial
Finance, Issues in Accounting Education, Journal of
Accounting Education, as well as other journals. His
research interests include accounting for financial in-
struments and innovation in accounting education. He
has published papers and given numerous talks on incor-
porating critical thinking into accounting education,and
helped prepare a catalog of critical thinking resources for the
Federated Schools ofAccountancy.
Donald E. Kieso, PhD, CPA, received his bachelor’s
degree from Aurora University and his doctorate in ac-
counting from the University of Illinois. He has served as
chairman of the Department of Accountancy and is
currently the KPMG Emeritus Professor of Accountancy
at Northern Illinois University. He has public accounting
experience with Price Waterhouse & Co. (San Francisco
and Chicago) and Arthur Andersen & Co. (Chicago) and
research experience with the Research Division of the
American Institute of Certified Public Accountants (New
York). He has done postdoctorate work as a Visiting
Scholar at the University of California at Berkeley and is
a recipient of NIU’s Teaching Excellence Award and four
Golden Apple Teaching Awards. Professor Kieso is the
author of other accounting and business books and is a
member of the American Accounting Association, the
American Institute of Certified Public Accountants, and
the Illinois CPA Society. He has served as a member of
the Board of Directors of the Illinois CPA Society, the
AACSB’s Accounting Accreditation Committees, the
State of Illinois Comptroller’s Commission, as Secretary-
Treasurer of the Federation of Schools of Accountancy,
and as Secretary-Treasurer of the American Accounting
Association. Professor Kieso is currently serving on the
Board of Trustees and Executive Committee of Aurora
University, as a member of the Board of Directors of
Kishwaukee Community Hospital, and as Treasurer and
Director of Valley West Community Hospital. From 1989
to 1993 he served as a charter member of the national
Accounting Education Change Commission. He is the
recipient of the Outstanding Accounting Educator Award
from the Illinois CPA Society, the FSA’s Joseph A.
Silvoso Award of Merit, the NIU Foundation’s
Humanitarian Award for Service to Higher Education,
a Distinguished Service Award from the Illinois CPA
Society, and in 2003 an honorary doctorate from Aurora
University.
viii
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ix
WHAT ARE LEARNING STYLES?
Have you ever repeated something to yourself over and over to help remember it? Or does your best friend ask
you to draw a map to someplace where the two of you are planning to meet, rather than just tell her the direc-
tions? If so, then you already have an intuitive sense that people learn in different ways.
Researchers in learning theory have developed various categories of learning styles. Some people, for exam-
ple, learn best by reading or writing. Others learn best by using various senses—seeing, hearing, feeling, tasting,
or even smelling.
When you understand how you learn best, you can make use of learning strategies that will optimize the time
you spend studying. To find out what your particular learning style is, go to WileyPLUS and take the learning styles
quiz you find there. The quiz will help you determine your primary learning style:
Visual learner
Print learner
Then, consult the information below and on the following pages for study tips for each learning style. This
information will help you better understand your learning style and how to apply it to the study of accounting.
Auditory learner
Interactive learner
Haptic learner
Kinesthetic learner
Olfactory learner
Study Tips for Visual Learners
If you are a Visual Learner, you prefer to work with images
and diagrams. It is important that you see information.
Visual Learning:
• Draw charts/diagrams during lecture.
• Examine textbook figures and graphs.
• Look at images and videos on WileyPLUS and other web-
sites.
• Pay close attention to charts, drawings, and handouts your
instructors use.
• Underline; use different colors.
• Use symbols, flow charts, graphs, different arrangements on
the page, white spaces.
Visual Reinforcement:
• Make flashcards by drawing tables/charts on one side and
definition or description on the other side.
• Use art-based worksheets. Cover labels on images in text
and then rewrite the labels.
• Use colored pencils/markers and colored paper to organize
information into types.
• Convert your lecture notes into “page pictures.”To do this:
• Use the visual learning strategies outlined above.
• Reconstruct images in different ways.
• Redraw pages from memory.
• Replace words with symbols and initials.
• Draw diagrams where appropriate.
• Practice turning your visuals back into words.
If visual learning is your weakness: If you are not a Visual
Learner but want to improve your visual learning, try re-keying
tables/charts from the textbook.
Study Tips for Print Learners
If you are a Print Learner, reading will be important but writ-
ing will be much more important.
Print Learning:
• Write text lecture notes during lecture.
• Read relevant topics in textbook, especially textbook
tables.
• Look at text descriptions in animations and websites.
• Use lists and headings.
• Use dictionaries, glossaries, and definitions.
• Read handouts, textbooks, and supplementary library
readings.
• Use lecture notes.
Print Reinforcement:
• Rewrite your notes from class and copy classroom
handouts in your own handwriting.
• Make your own flashcards.
• Write out essays summarizing lecture notes or textbook
topics.
• Develop mnemonics.
• Identify word relationships.
• Create tables with information extracted from textbook or
lecture notes.
• Use text-based worksheets or crossword puzzles.
• Write out words again and again.
• Reread notes silently.
• Rewrite ideas and principles into other words.
• Turn charts, diagrams, and other illustrations into
statements.
• Practice writing exam answers.
• Practice with multiple-choice questions.
• Write paragraphs, especially beginnings and endings.
• Write your lists in outline form.
• Arrange your words into hierarchies and points.
If print learning is your weakness: If you are not a Print
Learner but want to improve your print learning, try covering
labels of figures from the textbook and writing in the labels.
Study Tips for Auditory Learners
If you are an Auditory Learner, you prefer listening as a way
to learn information. Hearing will be very important, and
sound helps you focus.
Auditory Learning:
• Make audio recordings during lecture.
• Do not skip class. Hearing the lecture is essential to
understanding.
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• Play audio files provided by instructor and textbook.
• Listen to narration of animations.
• Attend lectures and tutorials.
• Discuss topics with students and instructors.
• Explain new ideas to other people.
• Leave spaces in your lecture notes for later recall.
• Describe overheads, pictures, and visuals to somebody who
was not in class.
Auditory Reinforcement:
• Record yourself reading the notes and listen to the record-
ing.
• Write out transcripts of the audio files.
• Summarize information that you have read, speaking out
loud.
• Use a recorder to create self-tests.
• Compose "songs" about information.
• Play music during studying to help focus.
• Expand your notes by talking with others and with
information from your textbook.
• Read summarized notes out loud.
• Explain your notes to another auditory learner.
• Talk with the instructor.
• Spend time in quiet places recalling the ideas.
• Say your answers out loud.
If auditory learning is your weakness: If you are not an
Auditory Learner but want to improve your auditory learn-
ing, try writing out the scripts from pre-recorded lectures.
Study Tips for Interactive Learners
If you are an Interactive Learner, you will want to share your
information.A study group will be important.
Interactive Learning:
• Ask a lot of questions during lecture or laboratory
meetings.
• Contact other students, via email or discussion forums, and
ask them to explain what they learned.
Interactive Reinforcement:
• “Teach” the content to a group of other students.
• Talking to an empty room may seem odd, but it will be ef-
fective for you.
• Discuss information with others, making sure that you both
ask and answer questions.
• Work in small group discussions, making a verbal and writ-
ten summary of what others say.
If interactive learning is your weakness: If you are not an
Interactive Learner but want to improve your interactive
learning, try asking your study partner questions and then re-
peating them to the instructor.
Study Tips for Haptic Learners
If you are a Haptic Learner, you prefer to work with your
hands. It is important to physically manipulate material.
Haptic Learning:
• Take blank paper to lecture to draw charts/tables/
diagrams.
• Using the textbook, run your fingers along the figures and
graphs to get a "feel" for shapes and relationships.
Haptic Reinforcement:
• Trace words and pictures on flash cards.
• Perform electronic exercises that involve drag-and-drop
activities.
• Alternate between speaking and writing information.
• Observe someone performing a task that you would like
to learn.
• Make sure you have freedom of movement while studying.
If haptic learning is your weakness: If you are not a Haptic
Learner but want to improve your haptic learning, try spending
more time in class working with formulas, financial statements,
and tables while speaking or writing down information.
Study Tips for Kinesthetic Learners
If you are a Kinesthetic Learner, it will be important that you
involve your body during studying.
Kinesthetic Learning:
• Ask permission to get up and move during lecture.
• Participate in role playing activities, in the classroom.
• Use all your senses.
• Go to labs, take field trips.
• Listen to real-life examples.
• Pay attention to applications.
Kinesthetic Reinforcement:
• Make flash cards, place them on the floor and move around
them as you study.
• Move while you are “teaching” the material to others.
• Put examples in your summaries.
• Use case studies and applications to help with principles
and abstract concepts.
• Talk about your notes with another Kinesthetic person.
• Use pictures and photographs that illustrate an idea.
• Write practice answers.
• Role-play the exam situation.
If kinesthetic learning is your weakness: If you are not a
Kinesthetic Learner but want to improve your kinesthetic
learning, try moving flash cards to reconstruct balance
sheets, income statements, cash flow statements, etc.
Study Tips for Olfactory Learners
If you are an Olfactory Learner, you will prefer to use the
sense of smell (sometimes taste) and to reinforce learning.
This is a rare learning modality.
Olfactory Learning:
• During lecture, use different scented markers to
identify different types of information.
Olfactory Reinforcement:
• Rewrite notes with scented markers.
• If possible, go back to the computer lab to do your
studying.
• Burn aromatic candles while studying.
• Try to associate the material that you’re studying with a
pleasant smell or taste.
If olfactory learning is your weakness: If you are not an
Olfactory Learner, but want to improve your olfactory
learning, try surrounding yourself with pleasant scents
during study sessions.
• Use hands-on approaches.
• Use trial-and-error methods.
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* To improve your learning using your olfactory modality, look at the resources recommended for your other most preferred learning styles. Then, pair olfac-
tory study techniques with other resources, to enhance your learning. For example, you can burn aromatic candles while working on Flash tutorial reviews or
Excel templates in WileyPLUS, or you can use scented markers to create flashcards.
WileyPLUS and Textbook Resources for Various Learning Styles
Kinesthetic Olfactory*
Haptic
Interactive
Auditory
Print
Visual
RESOURCES
Content of textbook
The Navigator/Feature
Story/Preview
Study Objectives
Infographics/Illustrations
Accounting Equation Analyses
Do It! Exercises/
Comprehensive Do It!
Problem/Action Plan
Graph in All About You
Summary of Study Objectives
Glossary/Self-study questions
Questions/Exercises/Problems
Alternate versions of exercises
& Problems (B exercises;
Problem sets B&C)
Financial Reporting/
Comparative Analysis Problems
Writing activities—Exercises
and Problems marked with a
pencil icon
Exploring the Web activity
Communication Activity
AAY Activity
Practice quizzes
Flash cards
Audio Reviews/Video
Clips/Clicker Content
Flash Tutorial Reviews
(Comprehensive Do It/
Accounting Cycle/Annual
Report)
Crossword Puzzles
Excel Templates/Excel Working
Papers
Checklist of Key Figures
Peachtree/Quickbooks/GLS
Self-study/Self-test web quizzes
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ACKNOWLEDGMENTS
From the first edition of this textbook and through the years
since, we have benefited greatly from feedback provided by
numerous instructors and students of accounting principles
courses throughout the country.We offer our thanks to those
many people for their criticism, constructive suggestions, and
innovative ideas.We are indebted to the following people for
their contributions to the most recent editions of the book.
Reviewers and Focus Group
Participants for the Ninth Edition
John Ahmad, Northern Virginia Community College—
Annandale; Colin Battle, Broward Community College;
Beverly Beatty, Anne Arundel Community College; Jaswinder
Bhangal, Chabot College; Leroy Bugger, Edison Community
College; Ann Cardozo, Broward Community College;
Kimberly Charland, Kansas State University; Lisa Cole,
Johnson County Community College.
Tony Dellarte, Luzerne Community College; Pam
Donahue, Northern Essex Community College; Dora Estes,
Volunteer State Community College; Mary Falkey, Prince
Georges Community College; Lori Grady, Bucks County
Community College; Joyce Griffin, Kansas City Community
College; Lester Hall, Danville Community College; Becky
Hancock, El Paso Community College; Audrey Hunter,
Broward Community College.
Naomi Karolinski, Monroe Community College;
Kenneth Koerber, Bucks County Community College;
Sandra Lang, McKendree College; Cathy Xanthaky Larsen,
Middlesex Community College; David Laurel, South Texas
Community College; Suneel Maheshwari, Marshall
University; Lori Major, Luzerne County Community College;
Jim Martin, University of Montevallo.
Yvonne Phang, Borough of Manhattan Community
College; Mike Prockton, Finger Lakes Community College;
Richard Sarkisian, Camden Community College; Beth
Secrest, Walsh University; Lois Slutsky, Broward Community
College; Shafi Ullah, Broward Community College; Patricia
Walczack, Lansing Community College; Kenton Walker,
University of Wyoming; Patricia Wall, Middle Tennessee
State University.
Reviewers and Focus Group
Participants for Recent Editions
Sylvia Allen, Los Angeles Valley College; Matt Anderson,
Michigan State University; Alan Applebaum, Broward
Community College; Juanita Ardovany, Los Angeles Valley
College; Yvonne Baker, Cincinnati State Tech Community
College; Peter Battelle, University of Vermont; Jim Benedum,
Milwaukee Area Technical College; Bernard Bieg, Bucks
County College; Michael Blackett, National American
University; Barry Bomboy, J. Sargeant Reynolds Community
College; Kent D. Bowen, Butler County Community College;
David Boyd, Arkansas State University; Greg Brookins, Santa
Monica College; Kurt H. Buerger, Angelo State University;
Leon Button, Scottsdale Community College.
Steve Carlson, University of North Dakota; Fatma
Cebenoyan, Hunter College; Trudy Chiaravelli, Lansing
Community College; Shifei Chung, Rowan University; Siu
Chung, Los Angeles Valley College; Kenneth Couvillion, San
Joaquin Delta College; Alan B. Czyzewski, Indiana State
University; Thomas Davies, University of South Dakota;
Peggy DeJong, Kirkwood Community College; John Delaney,
Augustana College; Kevin Dooley, Kapi’olani Community
College; Edmond Douville, Indiana University Northwest;
Pamela Druger, Augustana College; Russell Dunn, Broward
Community College; John Eagan, Erie Community College;
Richard Ellison, Middlesex Community College.
Raymond Gardner, Ocean County College; Richard
Ghio, San Joaquin Delta College; Amy Haas, Kingsborough
Community College, CUNY; Jeannie Harrington, Middle
Tennessee State University; Bonnie Harrison, College of
Southern Maryland; William Harvey, Henry Ford Community
College; Michelle Heard, Metropolitan Community College;
Ruth Henderson, Union Community College; Ed Hess, Butler
County Community College; Kathy Hill, Leeward Community
College; Patty Holmes, Des Moines Area Community College;
Zach Holmes, Oakland Community College; Paul Holt, Texas
A&M-Kingsville; Audrey Hunter, Broward Community
College; Verne Ingram, Red Rocks Community College.
Joanne Johnson, Caldwell Community College; Anil
Khatri, Bowie State University; Shirley Kleiner, Johnson
County Community College; Jo Koehn, Central Missouri
State University; Ken Koerber, Bucks County Community
College; Adriana Kulakowski, Mynderse Academy; Robert
Laycock, Montgomery College; Natasha Librizzi, Madison
Area Technical College; William P. Lovell, Cayuga
Community College;. Melanie Mackey, Ocean County
College; Jerry Martens, Community College of Aurora;
Maureen McBeth, College of DuPage; Francis McCloskey,
Community College of Philadelphia; Chris McNamara,
Finger Lakes Community College; Edwin Mah, University of
Maryland, University College; Thomas Marsh, Northern
Virginia Community College—Annandale; Shea Mears, Des
Moines Area Community College; Pam Meyer, University of
Louisiana—Lafayette; Cathy Montesarchio, Broward
Community College.
Robin Nelson, Community College of Southern Nevada;
Joseph M. Nicassio, Westmoreland County Community
College; Michael O’Neill, Seattle Central Community College;
Mike Palma, Gwinnett Tech; George Palz, Erie Community
College; Michael Papke, Kellogg Community College; Ruth
Parks, Kellogg Community College; Al Partington, Los
Angeles Pierce College; Jennifer Patty, Des Moines Area
Community College; Jan Pitera, Broome Community College;
Laura M. Prosser, Black Hills State University; Bill Rencher,
Seminole Community College; Jenny Resnick, Santa Monica
College; Renee Rigoni, Monroe Community College; Kathie
Rogers, SUNY Suffolk; Al Ruggiero, SUNY Suffolk; Jill
Russell, Camden County College.
Roger Sands, Milwaukee Area Technical College; Marcia
Sandvold, Des Moines Area Community College; Kent
Schneider, East Tennessee State University; Karen Searle,
Paul J. Shinal, Cayuga Community College; Kevin Sinclair,
xii
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Lehigh University; Alice Sineath, Forsyth Tech Community
College; Leon Singleton, Santa Monica College; Michael S.
Skaff, College of the Sequoias; Jeff Slater, North Shore
Community College; Lois Slutsky, Broward Community
College; Dan Small, J. Sargeant Reynolds Community College;
Lee Smart, Southwest Tennessee Community College; James
Smith, Ivy Tech State College; Carol Springer, Georgia State
University; Jeff Spoelman, Grand Rapids Community College;
Norman Sunderman, Angelo State University.
Donald Terpstra, Jefferson; Community College; Lynda
Thompson, Massasoit Community College; Sue Van Boven,
Paradise Valley Community College; Christian Widmer,
Tidewater Community College; Wanda Wong, Chabot College;
Pat Walczak, Lansing Community College; Carol N.Welsh,
Rowan University; Idalene Williams, Metropolitan Community
College; Gloria Worthy, Southwest Tennessee Community
College.
Thanks also to “perpetual reviewers” Robert Benjamin,
Taylor University; Charles Malone,Tammy Wend, and Carol
Wysocki, all of Columbia Basin College; and William Gregg
of Montgomery College. We appreciate their continuing inter-
est in the book and their regular contributions of ideas to im-
prove it.
Special Thanks
Our thanks also go to the following for their work on the
Ninth Edition: Melanie Yon, for preparing end-of-chapter
content for WileyPLUS; Sheila Viel, University of Wisconsin-
Milwaukee, for production of interactive chapter reviews and
demonstration problems; Richard Campbell, Rio Grande
College, for WileyPLUS Accounting Tutors and video mate-
rial; Naomi Karolinski, Monroe Community College, for
General Ledger Software review; Sally Nelson, for General
Ledger Software review; Chris Tomas, for General Ledger
Software review.
Thanks, too, to the following for their authorship of sup-
plements: Linda Batiste, Baton Rouge Community College,
Test Bank; Mel Coe, DeVry Institute of Technology,Atlanta,
Peachtree Workbook; Joan Cook, Milwaukee Area Technical
College, Heritage Home Furniture Practice Set; Larry
Falcetto, Emporia State University, Test Bank, Instructor’s
Manual, Campus Cycle Practice Set; Mark Gleason,
Metropolitan State University,Algorithmic Computerized
Test Bank; Larry Falcetto, Emporia State University, Test
Bank, Lori Grady, Bucks County Community College,Web
Quizzes; Coby Harmon, University of California, Santa
Barbara, PowerPoint presentations; Marilyn Hunt, M.A.,
C.P.A., Problem-Solving Survival Guide; Douglas W. Kieso,
Aurora University, Study Guide; Jill Misuraca, Central
Connecticut State University, Web Quizzes;Yvonne Phang,
Borough of Manhattan Community College,WileyPLUS Web
Quizzes. Rex A. Schildhouse, San Diego Community
College—Miramar, Peachtree Workbook, Excel Workbook
and Templates, and QuickBooks Tutorials; Dick Wasson,
Southwestern College, Excel Working Papers,Working
Papers, and Test Bank.
We also thank those who have ensured the accuracy of
our supplements: LuAnn Bean, Florida Institute of
Technology; Jack Borke, University of Wisconsin—Platteville;
Robert Derstine, Villanova University; Terry Elliott,
Morehead State University; James Emig, Villanova University;
Larry Falcetto, Emporia State University; Anthony Falgiani,
Western Illinois University; Jennifer Laudermilch,
PricewaterhouseCoopers; Kevin McNelis, New Mexico State
University; Richard Merryman, Jefferson Community College,
State University of New York; Barbara Muller, Arizona State
University; Yvonne Phang, Borough of Manhattan Community
College; John Plouffe, California State University—Los Angeles;
Renee Rigoni, Monroe Community College; Rex Schildhouse,
San Diego Community College–Miramar; Alice Sineath,
Forsyth Tech Community College; Teresa Speck, St. Mary’s
University; Lynn Stallworth, Appalachian State University;
Sheila Viel, University of Wisconsin—Milwaukee; Dick Wasson,
Southwestern College; Bernie Weinrich, Lindenwood University.
In addition, special recognition goes to Karen Huffman,
Palomar College, for her assessment of the text’s pedagogy
and her suggestions on how to increase its helpfulness to stu-
dents; to Gary R., Morrison, Wayne State University, for his
review of the instructional design; and to Nancy Galli,
Palomar College, for her work on learning styles. Finally, spe-
cial thanks to Wayne Higley, Buena Vista University, for his
technical proofing.
Our thanks to the publishing “pros” who contribute to
our efforts to publish high-quality products that benefit both
teachers and students:Ann Torbert, development editor; Ed
Brislin, project editor; Brian Kamins, associate editor;Allie
Morris, media editor; Katie Fraser, editorial assistant;Valerie
Vargas, senior production editor; Maddy Lesure, textbook
designer; Dorothy Sinclair, managing editor; Pam Kennedy,
director of production and manufacturing;Ann Berlin,VP
of higher education production and manufacturing; Elle
Wagner, photo editor; Sandra Rigby, illustration editor;
Suzanne Ingrao of Ingrao Associates, project manager; Karyn
Morrison, permissions editor; Jane Shifflet of Aptara Inc.,
product manager at Aptara Inc.; and Amanda Grant, project
manager at Elm Street Publishing Services.They provided
innumerable services that helped this project take shape.
We also appreciate the exemplary support and
professional commitment given us by Chris DeJohn, associ-
ate publisher, and the enthusiasm and ideas that Julia Flohr,
senior marketing manager, brings to the project.
Finally, our thanks for the support provided by the
management of John Wiley & Sons, Inc.—Joe Heider,Vice
President of Product and e-Business Development; Bonnie
Lieberman, Senior Vice President of the College Division;
and Will Pesce, President and Chief Executive Officer of
John Wiley & Sons, Inc..
We thank PepsiCo, Inc. for permitting us the use of their
2007 annual reports for our specimen financial statements
and accompanying notes.
We will appreciate suggestions and comments from
users—instructors and students alike.You can send your
thought to us via email at
AccountingAuthors@yahoo.com
Jerry J.Weygandt, Madison,Wisconsin
Paul D. Kimmel, Milwaukee,Wisconsin
Donald E. Kieso, DeKalb, Illinois
Acknowledgments xiii
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BRIEF CONTENTS
1 Accounting in Action 2
2 The Recording Process 48
3 Adjusting the Accounts 94
4 Completing the Accounting Cycle 144
5 Accounting for Merchandising Operations 198
6 Inventories 248
7 Accounting Information Systems 300
8 Fraud, Internal Control, and Cash 344
9 Accounting for Receivables 396
10 Plant Assets, Natural Resources, and Intangible Assets 436
11 Current Liabilities and Payroll Accounting 484
12 Accounting for Partnerships 526
13 Corporations: Organization and Capital Stock Transactions 568
14 Corporations: Dividends, Retained Earnings, and Income Reporting 606
15 Long-Term Liabilities 642
16 Investments 694
17 Statement of Cash Flows 730
18 Financial Statement Analysis 790
19 Managerial Accounting 842
20 Job Order Costing 886
21 Process Costing 928
22 Cost-Volume-Profit 974
23 Budgetary Planning 1016
24 Budgetary Control and Responsibility Accounting 1060
25 Standard Costs and Balanced Scorecard 1108
26 Incremental Analysis and Capital Budgeting 1154
APPENDICES
A Specimen Financial Statements: PepsiCo, Inc. A1
B Specimen Financial Statements: The Coca-Cola Company, Inc. B1
C Present-Value Concepts C1
D Using Financial Calculators D1
E Standards of Ethical Conduct for Management Accountants E1
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CONTENTS
1 Accounting in Action 2
Feature Story: KNOWING THE NUMBERS 2
What Is Accounting? 4
Three Activities 4
Who Uses Accounting Data 6
The Building Blocks of Accounting 7
Ethics in Financial Reporting 7
Generally Accepted Accounting Principles 8
Assumptions 9
The Basic Accounting Equation 11
Assets 12
Liabilities 12
Owner’s Equity 12
Using the Basic Accounting Equation 14
Transaction Analysis 14
Summary of Transactions 19
Financial Statements 20
Income Statement 22
Owner’s Equity Statement 22
Balance Sheet 22
Statement of Cash Flows 23
All About You: ETHICS: MANAGING PERSONAL FINANCIAL
REPORTING 25
APPENDIX: Accounting Career Opportunities 29
Public Accounting 29
Private Accounting 29
Opportunities in Government 30
Forensic Accounting 30
“Show Me the Money” 30
2 The Recording Process 48
Feature Story: ACCIDENTS HAPPEN 48
The Account 50
Debits and Credits 51
Summary of Debit/Credit Rules 54
Steps in the Recording Process 55
The Journal 55
The Ledger 58
The Recording Process Illustrated 61
Summary Illustration of Journalizing and Posting 67
The Trial Balance 68
Limitations of a Trial Balance 69
Locating Errors 70
Use of Dollar Signs 70
All About You: YOUR PERSONAL ANNUAL REPORT 72
3 Adjusting the Accounts 94
Feature Story: WHAT WAS YOUR PROFIT? 94
Timing Issues 96
Fiscal and Calendar Years 96
Accrual- vs. Cash-Basis Accounting 97
Recognizing Revenues and Expenses 97
The Basics of Adjusting Entries 99
Types of Adjusting Entries 99
Adjusting Entries for Deferrals 100
Adjusting Entries for Accruals 107
Summary of Journalizing and Posting 112
The Adjusted Trial Balance and Financial
Statements 114
Preparing the Adjusted Trial Balance 114
Preparing Financial Statements 115
APPENDIX: Alternative Treatment of Prepaid Expenses
and Unearned Revenues 119
Prepaid Expenses 120
Unearned Revenues 121
Summary of Additional Adjustment Relationships 122
4 Completing the Accounting
Cycle 144
Feature Story: EVERYONE LIKES TO WIN 144
Using a Worksheet 146
Steps in Preparing a Worksheet 146
Preparing Financial Statements from a Worksheet 150
Preparing Adjusting Entries from a Worksheet 150
Closing the Books 152
Preparing Closing Entries 153
Posting Closing Entries 155
Preparing a Post-Closing Trial Balance 157
Summary of the Accounting Cycle 159
Reversing Entries—An Optional Step 160
Correcting Entries—An Avoidable Step 160
The Classified Balance Sheet 162
Current Assets 164
Long-Term Investments 164
Property, Plant, and Equipment 165
Intangible Assets 165
Current Liabilities 166
Long-Term Liabilities 167
Owner’s Equity 167
All About You: YOUR PERSONAL BALANCE SHEET 169
APPENDIX: Reversing Entries 173
Reversing Entries Example 173
5 Accounting for Merchandising
Operations 198
Feature Story: WHO DOESN’T SHOP AT WAL-MART? 198
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Merchandising Operations 200
Operating Cycles 201
Flow of Costs 201
Recording Purchases of Merchandise 203
Freight Costs 205
Purchase Returns and Allowances 206
Purchase Discounts 206
Summary of Purchasing Transactions 207
Recording Sales of Merchandise 208
Sales Returns and Allowances 209
Sales Discounts 210
Completing the Accounting Cycle 211
Adjusting Entries 211
Closing Entries 212
Summary of Merchandising Entries 212
Forms of Financial Statements 214
Multiple-Step Income Statement 214
Single-Step Income Statement 217
Classified Balance Sheet 217
APPENDIX 5A: Periodic Inventory System 221
Determining Cost of Goods Sold Under a Periodic
System 221
Recording Merchandise Transactions 222
Recording Purchases of Merchandise 222
Recording Sales of Merchandise 223
APPENDIX 5B: Worksheet for a Merchandising
Company 225
Using a Worksheet 225
6 Inventories 248
Feature Story: WHERE IS THAT SPARE BULLDOZER BLADE? 248
Classifying Inventory 250
Determining Inventory Quantities 251
Taking a Physical Inventory 251
Determining Ownership of Goods 252
Inventory Costing 254
Specific Identification 254
Cost Flow Assumptions 255
Financial Statement and Tax Effects of Cost
Flow Methods 260
Using Inventory Cost Flow Methods Consistently 262
Lower-of-Cost-or-Market 262
Inventory Errors 263
Income Statement Effects 263
Balance Sheet Effects 265
Statement Presentation and Analysis 265
Presentation 265
Analysis 266
All About You: EMPLOYEE THEFT—AN INSIDE JOB 268
APPENDIX 6A: Inventory Cost Flow Methods in
Perpetual Inventory Systems 271
First-In, First-Out (FIFO) 271
Last-In, First-Out (LIFO) 272
Average-Cost 272
APPENDIX 6B: Estimating Inventories 274
Gross Profit Method 275
Retail Inventory Method 276
7 Accounting Information Systems 300
Feature Story: QUICKBOOKS®
HELPS THIS RETAILER SELL
GUITARS 300
Basic Concepts of Accounting Information Systems 302
Computerized Accounting Systems 302
Manual Accounting Systems 305
Subsidiary Ledgers 305
Subsidiary Ledger Example 306
Advantages of Subsidiary Ledgers 307
Special Journals 308
Sales Journal 309
Cash Receipts Journal 311
Purchases Journal 315
Cash Payments Journal 317
Effects of Special Journals on the General Journal 320
8 Fraud, Internal Control,
and Cash 344
Feature Story: MINDING THE MONEY IN MOOSE JAW 344
Fraud and Internal Control 346
Fraud 346
The Sarbanes-Oxley Act 348
Internal Control 348
Principles of Internal Control Activities 349
Limitations of Internal Control 356
Cash Controls 357
Cash Receipts Controls 357
Cash Disbursements Controls 360
Control Features: Use of a Bank 364
Making Bank Deposits 365
Writing Checks 365
Bank Statements 365
Reconciling the Bank Account 367
Electronic Funds Transfer (EFT) System 371
Reporting Cash 372
All About You: PROTECTING YOURSELF FROM
IDENTITY THEFT 373
9 Accounting for Receivables 396
Feature Story: A DOSE OF CAREFUL MANAGEMENT KEEPS
RECEIVABLES HEALTHY 396
Types of Receivables 398
Accounts Receivable 398
Recognizing Accounts Receivable 399
Valuing Accounts Receivable 400
Disposing of Accounts Receivable 406
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Notes Receivable 409
Determining the Maturity Date 410
Computing Interest 411
Recognizing Notes Receivable 411
Valuing Notes Receivable 411
Disposing of Notes Receivable 412
Presentation 414
Analysis 414
All About You: SHOULD YOU BE CARRYING PLASTIC? 416
10 Plant Assets, Natural Resources,
and Intangible Assets 436
Feature Story: HOW MUCH FOR A RIDE TO THE BEACH? 436
SECTION 1 Plant Assets 438
Determining the Cost of Plant Assets 439
Land 439
Land Improvements 439
Buildings 440
Equipment 440
Depreciation 442
Factors in Computing Depreciation 443
Depreciation Methods 444
Depreciation and Income Taxes 448
Revising Periodic Depreciation 448
Expenditures During Useful Life 449
Plant Assets Disposals 450
Retirement of Plant Assets 450
Sale of Plant Assets 451
SECTION 2 Natural Resources 453
SECTION 3 Intangible Assets 454
Accounting for Intangible Assets 454
Patents 455
Copyrights 455
Trademarks and Trade Names 455
Franchises and Licenses 456
Goodwill 456
Research and Development Costs 457
Presentation 458
Analysis 459
All About You: BUYING A WRECK OF YOUR OWN 460
APPENDIX: Exchange of Plant Assets 464
Loss Treatment 464
Gain Treatment 464
11 Current Liabilities and Payroll
Accounting 484
Feature Story: FINANCING HIS DREAMS 484
Accounting for Current Liabilities 486
Notes Payable 486
Sales Taxes Payable 487
Unearned Revenues 488
Current Maturities of Long-Term Debt 489
Contingent Liabilities 491
Recording a Contingent Liability 492
Disclosure of Contingent Liabilities 493
Payroll Accounting 494
Determining the Payroll 495
Recording the Payroll 498
Employer Payroll Taxes 501
Filing and Remitting Payroll Taxes 503
Internal Control for Payroll 504
All About You: YOUR BOSS WANTS TO KNOW IF YOU JOGGED
TODAY 506
APPENDIX: Additional Fringe Benefits 509
Paid Absences 509
Post-Retirement Benefits 510
Post-Retirement Healthcare and Life Insurance
Benefits 510
12 Accounting for Partnerships 526
Feature Story: FROM TRIALS TO TOP TEN 526
Partnership Form of Organization 528
Characteristics of Partnerships 528
Organizations with Partnership Characteristics 529
Advantages and Disadvantages of Partnerships 530
The Partnership Agreement 532
Basic Partnership Accounting 533
Forming a Partnership 533
Dividing Net Income or Net Loss 534
Partnership Financial Statements 537
Liquidation of a Partnership 538
No Capital Deficiency 539
Capital Deficiency 542
APPENDIX: Admission and Withdrawal of Partners 546
Admission of a Partner 546
Withdrawal of a Partner 550
13 Corporations: Organization and
Capital Stock Transactions 568
Feature Story: “HAVE YOU DRIVEN A FORD LATELY?” 568
The Corporate Form of Organization 570
Characteristics of a Corporation 571
Forming a Corporation 573
Ownership Rights of Stockholders 574
Stock Issue Considerations 575
Corporate Capital 577
Accounting for Issues of Common Stock 579
Issuing Par Value Common Stock for Cash 579
Issuing No-Par Common Stock for Cash 580
Issuing Common Stock for Services or Noncash
Assets 580
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Accounting for Treasury Stock 582
Purchase of Treasury Stock 582
Disposal of Treasury Stock 584
Preferred Stock 586
Dividend Preferences 586
Liquidation Preference 587
Statement Presentation 587
14 Corporations: Dividends, Retained
Earnings, and Income Reporting 606
Feature Story: OWNING A PIECE OF THE ACTION 606
Dividends 608
Cash Dividends 608
Stock Dividends 612
Stock Splits 614
Retained Earnings 616
Retained Earnings Restrictions 617
Prior Period Adjustments 618
Retained Earnings Statement 619
Stockholders’ Equity Presentation 620
Stockholders’ Equity Analysis 621
Income Statement Presentation 621
Income Statement Analysis 622
All About You: CORPORATIONS HAVE GOVERNANCE
STRUCTURES—DO YOU? 624
15 Long-Term Liabilities 642
Feature Story: THANKS GOODNESS FOR BANKRUPTCY 642
Bond Basics 644
Types of Bonds 645
Issuing Procedures 646
Bond Trading 646
Determining the Market Value of Bonds 648
Accounting for Bond Issues 649
Issuing Bonds at Face Value 649
Discount or Premium on Bonds 649
Issuing Bonds at a Discount 650
Issuing Bonds at a Premium 651
Accounting for Bond Retirements 653
Redeeming Bonds at Maturity 653
Redeeming Bonds before Maturity 653
Converting Bonds into Common Stock 653
Accounting for Other Long-Term Liabilities 654
Long-Term Notes Payable 654
Lease Liabilities 656
Presentation 658
Analysis 659
APPENDIX 15A: Present Value Concepts Related to
Bond Pricing 663
Present Value of Face Value 664
Present Value of Interest Payments (Annuities) 665
Time Periods and Discounting 667
Computing the Present Value of a Bond 667
APPENDIX 15B: Effective-Interest Method of Bond
Amortization 669
Amortizing Bond Discount 669
Amortizing Bond Premium 671
APPENDIX 15C: Straight-Line Amortization 673
Amortizing Bond Discount 673
Amortizing Bond Premium 674
16 Investments 694
Feature Story: “IS THERE ANYTHING ELSE WE CAN BUY?” 694
Why Corporations Invest 696
Accounting for Debt Investments 698
Recording Acquisition of Bonds 698
Recording Bond Interest 698
Recording Sale of Bonds 698
Accounting for Stock Investments 699
Holdings of Less than 20% 700
Holdings Between 20% and 50% 701
Holdings of More than 50% 702
Valuing and Reporting Investments 704
Categories of Securities 705
Balance Sheet Presentation 708
Presentation of Realized and Unrealized
Gain or Loss 709
Classified Balance Sheet 710
17 Statement of Cash Flows 730
Feature Story: GOT CASH? 730
The Statement of Cash Flows: Usefulness
and Format 731
Usefulness of the Statement of Cash Flows 731
Classification of Cash Flows 733
Significant Noncash Activities 734
Format of the Statement of Cash Flows 735
Preparing the Statement of Cash Flows 736
Indirect and Direct Methods 737
Preparing the Statement of Cash Flows—Indirect
Method 738
Step 1: Operating Activities 739
Step 2: Investing and Financing Activities 744
Step 3: Net Change in Cash 745
Using Cash Flows to Evaluate a Company 748
Free Cash Flow 748
APPENDIX 17A: Using a Work Sheet to Prepare the
Statement of Cash Flows—Indirect Method 752
Preparing the Worksheet 753
APPENDIX 17B: Statement of Cash Flows—Direct
Method 758
Step 1: Operating Activities 759
Step 2: Investing and Financing Activities 763
Step 3: Net Change in Cash 764
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18 Financial Statement Analysis 790
Feature Story: IT PAYS TO BE PATIENT 790
Basics of Financial Statement Analysis 792
Need for Comparative Analysis 792
Tools of Analysis 793
Horizontal Analysis 793
Balance Sheet 794
Income Statement 795
Retained Earnings Statement 796
Vertical Analysis 797
Balance Sheet 797
Ratio Analysis 799
Liquidity Ratios 800
Profitability Ratios 803
Solvency Ratios 807
Summary of Ratios 809
Earning Power and Irregular Items 811
Discontinued Operations 811
Extraordinary Items 812
Changes in Accounting Principle 814
Comprehensive Income 814
Quality of Earnings 815
Alternative Accounting Methods 816
Pro Forma Income 816
Improper Recognition 816
19 Managerial Accounting 842
Feature Story: WHAT A DIFFERENCE A DAY MAKES 842
Managerial Accounting Basics 844
Comparing Managerial and Financial Accounting 845
Management Functions 846
Business Ethics 847
Managerial Cost Concepts 849
Manufacturing Costs 849
Product versus Period Costs 851
Manufacturing Costs in Financial Statements 852
Balance Sheet 855
Cost Concepts—A Review 856
Managerial Accounting Today 858
Service-Industry Trends 585
Managerial Accounting Practices 858
20 Job Order Costing 886
Feature Story: “. . . AND WE’D LIKE IT IN RED” 886
Cost Accounting Systems 888
Job Order Cost System 888
Process Cost System 889
Job Order Cost Flow 890
Accumulating Manufacturing Costs 891
Assigning Manufacturing Costs to Work in Process 893
Assigning Costs to Finished Goods 900
Assigning Costs to Cost of Goods Sold 901
Summary of Job Order Cost Flows 901
Reporting Job Cost Data 903
Under- or Overapplied Manufacturing
Overhead 904
All About You: MINDING YOUR OWN BUSINESS 906
21 Process Costing 928
Feature Story: BEN & JERRY’S TRACKS ITS MIX-UPS 928
The Nature of Process Cost Systems 930
Uses of Process Cost Systems 930
Similarities and Differences between Job Order Cost
and Process Cost Systems 931
Process Cost Flow 933
Assignment of Manufacturing Costs—Journal
Entries 933
Equivalent Units 936
Weighted-Average Method 937
Refinements on the Weighted-Average Method 937
Production Cost Report 939
Comprehensive Example of Process Costing 940
Compute the Physical Unit Flow (Step 1) 941
Compute Equivalent Units of Production (Step 2) 941
Compute Unit Production Costs (Step 3) 942
Prepare a Cost Reconciliation Schedule (Step 4) 943
Preparing the Production Cost Report 943
Costing Systems—Final Comments 945
Contemporary Developments 946
Just-in-Time Processing 946
Activity-Based Costing 948
APPENDIX: Example of Traditional Costing versus
Activity-Based Costing 953
Production and Cost Data 953
Unit Costs Under Traditional Costing 953
Unit Costs Under ABC 953
Comparing Unit Costs 954
Benefits and Limitations of Activity-Based
Costing 955
22 Cost-Volume-Profit 974
Feature Story: GROWING BY LEAPS AND LEOTARDS 974
Cost Behavior Analysis 976
Variable Costs 977
Fixed Costs 977
Relevant Range 978
Mixed Costs 980
Importance of Identifying Variable and Fixed
Costs 982
Cost-Volume-Profit Analysis 983
Basic Components 983
CVP Income Statement 984
Break-even Analysis 986
Contents xix
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Target Net Income 989
Margin of Safety 991
CVP and Changes in the Business
Environment 992
CVP Income Statement Revisited 993
All About You: A HYBRID DILEMMA 995
APPENDIX: Variable Costing 998
Effects of Variable Costing on Income 999
Rationale for Variable Costing 1001
23 Budgetary Planning 1016
Feature Story: THE NEXT AMAZON.COM? NOT QUITE 1016
Budgeting Basics 1018
Budgeting and Accounting 1018
The Benefits of Budgeting 1019
Essentials of Effective Budgeting 1019
Length of the Budget Period 1019
The Budgeting Process 1020
Budgeting and Human Behavior 1020
Budgeting and Long-Range Planning 1021
The Master Budget 1022
Preparing the Operating Budgets 1023
Sales Budget 1023
Production Budget 1024
Direct Materials Budget 1025
Direct Labor Budget 1027
Manufacturing Overhead Budget 1028
Selling and Administrative Expense Budget 1029
Budgeted Income Statement 1029
Preparing the Financial Budgets 1031
Cash Budget 1031
Budgeted Balance Sheet 1034
Budgeting in Non-Manufacturing Companies 1036
Merchandisers 1036
Service Enterprises 1037
Not-for-Profit Organizations 1037
All About You: AVOIDING PERSONAL FINANCIAL
DISASTER 1038
24 Budgetary Control and Responsibility
Accounting 1060
Feature Story: TRYING TO AVOID AN ELECTRIC
SHOCK 1060
The Concept of Budgetary Control 1062
Static Budget Reports 1063
Examples 1064
Uses and Limitations 1065
Flexible Budgets 1065
Why Flexible Budgets? 1065
Developing the Flexible Budget 1067
Flexible Budget—A Case Study 1068
Flexible Budget Reports 1070
Management by Exception 1071
The Concept of Responsibility Accounting 1072
Controllable versus Non-controllable Revenues
and Costs 1074
Responsibility Reporting System 1074
Types of Responsibility Centers 1077
Responsibility Accounting for Cost Centers 1078
Responsibility Accounting for Profit Centers 1078
Responsibility Accounting for Investment Centers 1080
Principles of Performance Evaluation 1083
25 Standard Costs and Balanced
Scorecard 1108
Feature Story: HIGHLIGHTING PERFORMANCE EFFICIENCY 1108
The Need for Standards 1110
Distinguishing between Standards and Budgets 1111
Why Standard Costs? 1111
Setting Standard Costs—A Difficult Task 1112
Ideal versus Normal Standards 1112
A Case Study 1112
Analyzing and Reporting Variances from Standards 1116
Direct Materials Variances 1116
Direct Labor Variances 1119
Manufacturing Overhead Variances 1121
Reporting Variances 1122
Statement Presentation of Variances 1123
Balanced Scorecard 1124
APPENDIX 25A: Standard Cost Accounting System 1130
Journal Entries 1130
Ledger Accounts 1132
APPENDIX 25B: A Closer Look at Overhead
Variances 1133
Overhead Controllable Variance 1133
Overhead Volume Variance 1134
26 Incremental Analysis and Capital
Budgeting 1154
Feature Story: SOUP IS GOOD FOOD 1154
SECTION 1 Incremental Analysis 1156
Management’s Decision-Making Process 1156
The Incremental Analysis Approach 1157
How Incremental Analysis Works 1157
Types of Incremental Analysis 1158
Accept an Order at a Special Price 1158
Make or Buy 1159
Sell or Process Further 1162
Retain or Replace Equipment 1163
Eliminate an Unprofitable Segment 1164
Allocate Limited Resources 1165
SECTION 2 Capital Budgeting 1166
Evaluation Process 1167
Annual Rate of Return 1167
Cash Payback 1168
xx Contents
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Discounted Cash Flow 1170
Net Present Value Method 1171
Internal Rate of Return Method 1173
Comparing Discounted Cash Flow Methods 1174
All About You: WHAT IS A DEGREE WORTH? 1176
APPENDIX A Specimen Financial Statements:
PepsiCo, Inc. A1
APPENDIX B Specimen Financial Statements: The Coca-
Cola Company B1
APPENDIX C Time Value of Money C1
Nature of Interest C1
Simple Interest C1
Compound Interest C2
Present Value Variables C3
Present Value of a Single Amount C3
Present Value of an Annuity C5
Time Periods and Discounting C7
Computing the Present Value of a Long-Term Note or
Bond C7
APPENDIX D Using Financial Calculators D1
Present Value of a Single Sum D1
Plus and Minus D2
Compounding Periods D2
Rounding D2
Present Value of an Annuity D2
Useful Applications of the Financial Calculator D3
Auto Loan D3
Mortgage Loan Amount D3
APPENDIX E Standards of Ethical Conduct for
Management Accountants E1
IMA Statement of Ethical Professional Practice E1
Principles E1
Standards E1
Resolution of Ethical Conflict E2
Photo Credits PC1
Company Index I1
Subject Index I3
Contents xxi
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The “All About You” feature promotes financial literacy.
These full-page boxes will get students thinking and talking
about how accounting impacts their personal lives. Students
are more likely to understand the accounting concept being
made within the textbook when accounting material is linked
to a familiar topic. Each All About You box presents a high-
interest issue related to the chapter topic, offers facts about
it, poses a situation for students to think about, and offers
brief opposing answers as a starting place for further discus-
sion. As a feedback mechanism, the authors’ comments and
opinions about the situation appear at the end of the chapter.
In addition, an “All About You” Activity, located in the
Broadening Your Perspective section near the end of the as-
signment material, offers further opportunity to explore
aspects of the topic in a homework assignment.
CHAPTER 1 Accounting in Action
Ethics: Managing Personal Financial Reporting (p. 25)
Compares filing for financial aid to corporate financial report-
ing. Presents facts about student debt loads. Asks whether
students should present a negative financial picture to
increase the chance of receiving financial aid.
CHAPTER 2 The Recording Process
Your Personal Annual Report (p. 72)
Likens a student’s résumé to a company’s annual report. Asks
students to consider whether firing Radio Shack’s CEO for
résumé falsehoods was warranted.
CHAPTER 4 Completing the Accounting Cycle
Your Personal Balance Sheet (p. 169)
Walks students through identification of personal assets and
personal liabilities. Presents facts about Americans’ wealth and
attitudes toward saving versus spending. Asks if college is a
good time to prepare a personal balance sheet.
CHAPTER 6 Inventories
Employee Theft—An Inside Job (p. 268)
Discusses the problem of inventory theft and how companies
keep it in check. Asks students’ opinions on the use of video
cameras to reduce theft.
CHAPTER 8 Internal Control and Cash
Protecting Yourself from Identity Theft (p. 373)
Likens corporate internal controls to individuals’ efforts to pro-
tect themselves from identity thieves. Presents facts about
how thieves use stolen data. Asks students about the safety of
storing personal financial data on computers.
CHAPTER 9 Accounting for Receivables
Should You Be Carrying Plastic? (p. 416)
Discusses the need for individuals to evaluate their credit posi-
tions as thoughtfully as companies do. Presents facts about
college-student debt and Americans’ use of credit cards. Asks
whether students should cut up their credit cards.
CHAPTER 10 Plant Assets, Natural Resources, and
Intangible Assets
Buying a Wreck of Your Own (p. 460)
Presents information about costs of new versus used cars. Asks
whether students could improve their economic well-being by
buying a used car.
CHAPTER 11 Current Liabilities and Payroll Accounting
Your Boss Wants to Know If You Jogged Today (p. 506)
Discusses ways to contain costs of health-care spending. Asks
students to consider whose responsibility it is to maintain
healthy lifestyles to control health-care costs.
CHAPTER 14 Corporations: Dividends, Retained Earnings,
and Income Reporting
Corporations Have Governance Structures—
Do You? (p. 624)
Discusses codes of ethics in business and at college. Presents
facts about abuse of workplace codes of ethics and responses
of stockholders. Asks students for opinions on whether
schools’ codes of ethics serve a useful purpose.
CHAPTER 20 Job Order Cost Accounting
Minding Your Own Business (p. 906)
Focuses on how small business owners calculate product
costs. Presents facts about sole proprietorships and franchises.
Poses a start-up business idea and asks students to evaluate
the cost of labor input.
CHAPTER 22 Cost-Volume-Profit
A Hybrid Dilemma (p. 995)
Explores the cost tradeoffs of hybrid vehicles. Asks students to
evaluate the pros and cons of buying a hybrid vehicle.
CHAPTER 23 Budgetary Planning
Avoiding Personal Financial Disaster (p. 1038)
Explores personal budgets for college students. Asks students
to look at a budgeting calculator and consider whether
student loans should be considered a source of income.
CHAPTER 26 Incremental Analysis and Capital Budgeting
What Is a Degree Worth? (p. 1176)
Presents facts about cost of college, and benefits of college
education. Asks students to consider the value of a college
education.
all about Y U
* quick guide
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Accounting
Principles
9th Edition
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2
Chapter
Accounting in Action
Scan Study Objectives ■
Read Feature Story ■
Read Preview ■
Read text and answer
p. 10 ■ p. 13 ■ p. 19 ■ p. 24 ■
Work Comprehensive ■
Review Summary of Study Objectives ■
Answer Self-Study Questions ■
Complete Assignments ■
After studying this chapter, you should be
able to:
1 Explain what accounting is.
2 Identify the users and uses of accounting.
3 Understand why ethics is a fundamental
business concept.
4 Explain generally accepted accounting
principles and the cost principle.
5 Explain the monetary unit assumption
and the economic entity assumption.
6 State the accounting equation, and
define its components.
7 Analyze the effects of business
transactions on the accounting
equation.
8 Understand the four financial
statements and how they are
prepared.
The Navigator
S T U D Y O B J E C T I V E S
✓
Feature Story
The Navigator is a learning
system designed to prompt you
to use the learning aids in the
chapter and set priorities as you
study.
Study Objectives give you a
framework for learning the
specific concepts covered in the
chapter.
The Navigator
✓
1
KNOWING THE NUMBERS
Consider this quote from Harold Geneen, the former chairman of IT&T: “To be
good at your business, you have to know the numbers—cold.” Success in any
business comes back to the numbers. You will rely on them to make decisions,
and managers will use them to evaluate your performance. That is true whether
your job involves marketing, production, management, or information systems.
In business, accounting and financial statements are the means for communi-
cating the numbers. If you don’t know how to read financial statements, you
can’t really know your business.
When Jack Stack and 11 other managers purchased Springfield ReManufacturing
Corporation (SRC) (www.srcreman.com) for 10 cents a share, it was a failing
DO IT!
DO IT!
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3
division of International Harvester. Stack had
119 employees who were counting on him for
their livelihood, and he knew that the company was
on the verge of financial failure.
Stack decided that the company’s only chance
of survival was to encourage every employee to
think like a businessperson and to act like an
owner. To accomplish this, all employees at SRC
took basic accounting courses and participated
in weekly reviews of the company’s financial
statements. SRC survived, and eventually
thrived. To this day, every employee (now
numbering more than 1,000) undergoes this
same training.
Many other companies have adopted this approach, which is called “open-
book management.” Even in companies that do not practice open-book
management, employers generally assume that managers in all areas of the
company are “financially literate.”
Taking this course will go a long way to making you financially literate. In
this book you will learn how to read and prepare financial statements, and
how to use basic tools to evaluate financial results. Appendixes A and B
provide real financial statements of two well-known companies, PepsiCo, Inc.
and The Coca-Cola Company. Throughout this textbook we attempt to
increase your familiarity with financial reporting by providing numerous
references, questions, and exercises that encourage you to explore these
financial statements.
The Navigator
✓
The Feature Story helps you
picture how the chapter topic
relates to the real world of
accounting and business.You
will find references to the story
throughout the chapter.
Inside Chapter 1…
• How Will Accounting Help Me? (p. 11)
• What Do General Mills, Walt Disney, and Dunkin’
Donuts Have in Common? (p. 23)
• All About You: Ethics: Managing Personal Financial
Reporting (p. 25)
“Inside Chapter x” lists boxes
in the chapter that should be of
special interest to you.

4
Preview of Chapter 1
The opening story about Springfield ReManufacturing Corporation highlights the importance of having
good financial information to make effective business decisions. Whatever one’s pursuits or occupation, the
need for financial information is inescapable. You cannot earn a living, spend money, buy on credit, make
an investment, or pay taxes without receiving, using, or dispensing financial information. Good decision
making depends on good information.
The purpose of this chapter is to show you that accounting is the system used to provide useful financial
information. The content and organization of Chapter 1 are as follows.
Accounting in Action
What Is Accounting?
• Three activities
• Who uses
accounting data
The Basic Accounting
Equation
• Assets
• Liabilities
• Owner’s equity
The Building Blocks of
Accounting
• Ethics in financial
reporting
• Generally accepted
accounting
principles
• Assumptions
Using the Accounting
Equation
• Transaction analysis
• Summary of
transactions
Financial Statements
• Income statement
• Owner’s equity
statement
• Balance sheet
• Statement of cash
flows
The Navigator
✓
The Preview describes and
outlines the major topics and
subtopics you will see in the
chapter.
Why is accounting so popular? What consistently ranks as one of the top
career opportunities in business? What frequently rates among the most
popular majors on campus? What was the undergraduate degree chosen
by Nike founder Phil Knight, Home Depot co-founder Arthur Blank, former act-
ing director of the Federal Bureau of Investigation (FBI) Thomas Pickard, and nu-
merous members of Congress? Accounting.1
Why did these people choose ac-
counting? They wanted to understand what was happening financially to their
organizations. Accounting is the financial information system that provides these
insights. In short, to understand your organization, you have to know the numbers.
Accounting consists of three basic activities—it identifies, records, and comm-
unicates the economic events of an organization to interested users. Let’s take a
closer look at these three activities.
Three Activities
To identify economic events, a company selects the economic events relevant to its
business. Examples of economic events are the sale of snack chips by PepsiCo,
providing of telephone services by AT&T, and payment of wages by Ford Motor
Company.
Explain what accounting is.
S T U D Y O B J E C T I V E 1
1
The appendix to this chapter describes job opportunities for accounting majors and explains why
accounting is such a popular major.
WHAT IS ACCOUNTING?

You should understand that the accounting process includes the bookkeeping
function. Bookkeeping usually involves only the recording of economic events. It is
therefore just one part of the accounting process. In total, accounting involves the
entire process of identifying, recording, and communicating economic events.2
What Is Accounting? 5
Illustration 1-1
The activities of the
accounting process
2
The origins of accounting are generally attributed to the work of Luca Pacioli, an Italian
Renaissance mathematician. Pacioli was a close friend and tutor to Leonardo da Vinci and a
contemporary of Christopher Columbus. In his 1494 text Summa de Arithmetica, Geometria,
Proportione et Proportionalite, Pacioli described a system to ensure that financial information was
recorded efficiently and accurately.
Once a company like PepsiCo identifies economic events, it records those
events in order to provide a history of its financial activities. Recording consists of
keeping a systematic, chronological diary of events, measured in dollars and cents.
In recording, PepsiCo also classifies and summarizes economic events.
Finally, PepsiCo communicates the collected information to interested users by
means of accounting reports. The most common of these reports are called
financial statements. To make the reported financial information meaningful,
Kellogg reports the recorded data in a standardized way. It accumulates informa-
tion resulting from similar transactions. For example, PepsiCo accumulates all sales
transactions over a certain period of time and reports the data as one amount in the
company’s financial statements. Such data are said to be reported in the aggregate.
By presenting the recorded data in the aggregate, the accounting process simplifies
a multitude of transactions and makes a series of activities understandable and
meaningful.
A vital element in communicating economic events is the accountant’s ability
to analyze and interpret the reported information. Analysis involves use of ratios,
percentages, graphs, and charts to highlight significant financial trends and rela-
tionships. Interpretation involves explaining the uses, meaning, and limitations of
reported data. Appendix A of this textbook shows the financial statements of
PepsiCo, Inc.; Appendix B illustrates the financial statements of The Coca-Cola
Company. We refer to these statements at various places throughout the text. At
this point, they probably strike you as complex and confusing. By the end of this
course,you’ll be surprised at your ability to understand,analyze,and interpret them.
Illustration 1-1 summarizes the activities of the accounting process.
Essential terms are printed in
blue when they first appear, and
are defined in the end-of-chapter
glossary.
Identification Recording
Communication
Select economic events (transactions) Record, classify, and summarize
Prepare accounting reports
Analyze and interpret for users
Annual
NOKIA
Report
Annual
NOKIA
Report

To answer these and other questions, internal users need detailed information
on a timely basis. Managerial accounting provides internal reports to help users
make decisions about their companies. Examples are financial comparisons of op-
erating alternatives, projections of income from new sales campaigns, and forecasts
of cash needs for the next year.
EXTERNAL USERS
External users are individuals and organizations outside a company who want fi-
nancial information about the company. The two most common types of external
users are investors and creditors. Investors (owners) use accounting information to
make decisions to buy, hold, or sell ownership shares of a company. Creditors (such
as suppliers and bankers) use accounting information to evaluate the risks of
granting credit or lending money. Illustration 1-3 shows some questions that in-
vestors and creditors may ask.
6 Chapter 1 Accounting in Action
Illustration 1-2
Questions asked by
internal users
Who Uses Accounting Data
The information that a user of financial information needs depends upon
the kinds of decisions the user makes.There are two broad groups of users
of financial information: internal users and external users.
INTERNAL USERS
Internal users of accounting information are those individuals inside a company
who plan, organize, and run the business. These include marketing managers, pro-
duction supervisors, finance directors, and company officers. In running a business,
internal users must answer many important questions, as shown in Illustration 1-2.
Identify the users and uses of
accounting.
What price for an Apple iPod will maximize the
company's net income?
Is cash sufficient to pay dividends to
Microsoft stockholders?
Can we afford to give General Motors
employees pay raises this year?
STRIKE Unfair
Practices
STRIKE
ON
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Should any product lines be eliminated?
Management
Marketing

Financial accounting answers these questions. It provides economic and finan-
cial information for investors, creditors, and other external users. The information
needs of external users vary considerably. Taxing authorities (such as the Internal
Revenue Service) want to know whether the company complies with tax laws.
Regulatory agencies, such as the Securities and Exchange Commission and the
Federal Trade Commission, want to know whether the company is operating within
prescribed rules. Customers are interested in whether a company like General
Motors will continue to honor product warranties and support its product lines.
Labor unions such as the Major League Baseball Players Association want to know
whether the owners can pay increased wages and benefits.
Illustration 1-3
Questions asked by
external users
A doctor follows certain standards in treating a patient’s illness. An architect fol-
lows certain standards in designing a building.An accountant follows certain stan-
dards in reporting financial information. For these standards to work, a fundamen-
tal business concept must be at work—ethical behavior.
Ethics in Financial Reporting
People won’t gamble in a casino if they think it is rigged. Similarly,
people won’t play the stock market if they think stock prices are rigged.
In recent years the financial press has been full of articles about finan-
cial scandals at Enron, WorldCom, HealthSouth, AIG, and others.
As the scandals came to light, mistrust of financial reporting in general
grew. One article in the Wall Street Journal noted that “repeated disclo-
sures about questionable accounting practices have bruised investors’ faith
in the reliability of earnings reports, which in turn has sent stock prices
tumbling.”3
Imagine trying to carry on a business or invest money if you could
THE BUILDING BLOCKS OF ACCOUNTING
Understand why ethics is a
fundamental business concept.
Will United Airlines be able to pay its debts as they come due?
How does Disney compare in size
and profitability with Time Warner?
Is General Electric earning satisfactory income?
What do we do
if they catch us?
BILL
COLLECTOR
Yeah!
Investors Investors
Creditors
3
“U.S. Share Prices Slump,” Wall Street Journal, February 21, 2002.

not depend on the financial statements to be honestly prepared. Information
would have no credibility.There is no doubt that a sound, well-functioning econ-
omy depends on accurate and dependable financial reporting.
United States regulators and lawmakers were very concerned that the economy
would suffer if investors lost confidence in corporate accounting because of unethi-
cal financial reporting. In response, Congress passed the Sarbanes-Oxley Act of 2002
(SOX, or Sarbox). Its intent is to reduce unethical corporate behavior and
decrease the likelihood of future corporate scandals.As a result of SOX,top
management must now certify the accuracy of financial information. In ad-
dition, top management now faces much more severe penalties for fraudu-
lent financial activity. Also, SOX calls for increased independence of the
outside auditors who review the accuracy of corporate financial statements
and increased responsibility of boards of directors in their oversight role.
The standards of conduct by which one’s actions are judged as right or
wrong, honest or dishonest, fair or not fair, are ethics. Effective financial
reporting depends on sound ethical behavior. To sensitize you to ethical
situations in business and to give you practice at solving ethical dilemmas, we ad-
dress ethics in a number of ways in this book:
1. A number of the Feature Stories and other parts of the text discuss the central
importance of ethical behavior to financial reporting.
2. Ethics Insight boxes and marginal Ethics Notes highlight ethics situations and
issues in actual business settings.
3. Many of the AllAboutYou boxes (near the chapter Summary;see page 25,for ex-
ample) focus on ethical issues you may face in your college and early-career years.
4. At the end of the chapter, an Ethics Case simulates a business situation and
asks you to put yourself in the position of a decision maker in that case.
When analyzing these various ethics cases, as well as experiences in your own
life, it is useful to apply the three steps outlined in Illustration 1-4.
Illustration 1-4
Steps in analyzing ethics
cases and situations
Ethics Notes help sensitize you
to some of the ethical issues in
accounting.
E T H I C S N O T E
Circus-founder P.T. Barnum
is alleged to have said, “Trust
everyone, but cut the deck.”
What Sarbanes-Oxley does is
to provide measures that (like
cutting the deck of playing cards)
help ensure that fraud will not
occur.
#1
ALT
#2
ALT
2. Identify and analyze
the principal elements
in the situation.
Identify the stakeholders—
persons or groups who may
be harmed or benefited. Ask
the question: What are the
responsibilities and obligations
of the parties involved?
3. Identify the alternatives,
and weigh the impact of
each alternative on various
stakeholders.
Select the most ethical
alternative, considering all the
consequences. Sometimes there
will be one right answer. Other
situations involve more than
one right solution; these
situations require an evaluation
of each and a selection of the
best alternative.
1. Recognize an ethical
situation and the ethical
issues involved.
Use your personal ethics to
identify ethical situations and
issues. Some businesses and
professional organizations
provide written codes of
ethics for guidance in some
business situations.
Generally Accepted Accounting Principles
The accounting profession has developed standards that are generally
accepted and universally practiced.This common set of standards is called
generally accepted accounting principles (GAAP). These standards indi-
cate how to report economic events.
The primary accounting standard-setting body in the United States is the
Financial Accounting Standards Board (FASB). The Securities and Exchange
Explain generally accepted
accounting principles and the
cost principle.

Commission (SEC) is the agency of the U.S. government that oversees U.S.
financial markets and accounting standard-setting bodies.The SEC relies on
the FASB to develop accounting standards, which public companies must
follow. Many countries outside of the United States have adopted the ac-
counting standards issued by the International Accounting Standards
Board (IASB). In recent years the FASB and IASB have worked closely to
try to minimize the differences in their standards and principles.
One important accounting principle is the cost principle. The cost
principle (or historical cost principle) dictates that companies record as-
sets at their cost.This is true not only at the time the asset is purchased, but
also over the time the asset is held. For example, if Best Buy purchases
land for $30,000, the company initially reports it in its accounting records
at $30,000. But what does Best Buy do if, by the end of the next year, the land has
increased in value to $40,000? Under the cost principle it continues to report the
land at $30,000.
Critics contend the cost principle is misleading. They argue that market value
(the value determined by the market at any particular time) is more useful to fi-
nancial decision makers than is cost. Those who favor the cost principle counter
that cost is the best measure.The reason: Cost can be easily verified, whereas mar-
ket value is often subjective (it depends on who you ask). Recently, the FASB has
changed some accounting rules and now requires that certain investment securities
be recorded at their market value. In choosing between cost and market value, the
FASB used two qualities that make accounting information useful for decision
making—reliability and relevance: In this case, it weighed the reliability of cost
figures versus the relevance of market value.
Assumptions
Assumptions provide a foundation for the accounting process. Two main
assumptions are the monetary unit assumption and the economic entity
assumption.
MONETARY UNIT ASSUMPTION
The monetary unit assumption requires that companies include in the accounting
records only transaction data that can be expressed in money terms. This
assumption enables accounting to quantify (measure) economic events.The mone-
tary unit assumption is vital to applying the cost principle.
This assumption prevents the inclusion of some relevant information in the
accounting records. For example, the health of a company’s owner, the quality of
service, and the morale of employees are not included. The reason: Companies
cannot quantify this information in money terms. Though this information is
important, companies record only events that can be measured in money.
ECONOMIC ENTITY ASSUMPTION
An economic entity can be any organization or unit in society. It may be a
company (such as Crocs, Inc.), a governmental unit (the state of Ohio), a
municipality (Seattle), a school district (St. Louis District 48), or a church
(Southern Baptist). The economic entity assumption requires that the ac-
tivities of the entity be kept separate and distinct from the activities of its
owner and all other economic entities. To illustrate, Sally Rider, owner of
Sally’s Boutique, must keep her personal living costs separate from the ex-
penses of the Boutique. Similarly, McDonald’s, Coca-Cola, and Cadbury-
Schweppes are segregated into separate economic entities for accounting
purposes.
Explain the monetary unit
assumption and the economic
entity assumption.
INTERNATIONAL NOTE
Over 100 countries use
international standards (some-
times called iGAAP). For example,
all companies in the European
Union follow international
standards. The differences
between U.S. and international
standards are not generally
significant. In this book, we high-
light any major differences using
International Notes like this one.
E T H I C S N O T E
The importance of the
economic entity assumption is
illustrated by scandals involving
Adelphia. In this case, senior
company employees entered into
transactions that blurred the line
between the employees’ financial
interests and those of the
company. For example, Aldephia
guaranteed over $2 billion of
loans to the founding family.
International Notes highlight
differences between U.S. and
international accounting
standards.

Proprietorship. A business owned by one person is generally a proprietorship.
The owner is often the manager/operator of the business. Small service-type busi-
nesses (plumbing companies, beauty salons, and auto repair shops), farms, and
small retail stores (antique shops, clothing stores, and used-book stores) are often
proprietorships. Usually only a relatively small amount of money (capital) is nec-
essary to start in business as a proprietorship. The owner (proprietor) receives
any profits, suffers any losses, and is personally liable for all debts of the business.
There is no legal distinction between the business as an economic unit and the
owner, but the accounting records of the business activities are kept separate
from the personal records and activities of the owner.
Partnership. A business owned by two or more persons associated as partners
is a partnership. In most respects a partnership is like a proprietorship except
that more than one owner is involved. Typically a partnership agreement (writ-
ten or oral) sets forth such terms as initial investment, duties of each partner, di-
vision of net income (or net loss), and settlement to be made upon death or
withdrawal of a partner. Each partner generally has unlimited personal liability
for the debts of the partnership. Like a proprietorship, for accounting purposes
the partnership transactions must be kept separate from the personal activities
of the partners. Partnerships are often used to organize retail and service-type
businesses, including professional practices (lawyers, doctors, architects, and cer-
tified public accountants).
Corporation. A business organized as a separate legal entity under state corp-
oration law and having ownership divided into transferable shares of stock is a
corporation.The holders of the shares (stockholders) enjoy limited liability; that is,
they are not personally liable for the debts of the corporate entity. Stockholders
may transfer all or part of their ownership shares to other investors at any time
(i.e., sell their shares). The ease with which ownership can change adds to the at-
tractiveness of investing in a corporation. Because ownership can be transferred
without dissolving the corporation, the corporation enjoys an unlimited life.
Although the combined number of proprietorships and partnerships in the
United States is more than five times the number of corporations, the revenue pro-
duced by corporations is eight times greater. Most of the largest enterprises in the
United States—for example, ExxonMobil, General Motors, Wal-Mart, Citigroup,
and Microsoft—are corporations.
DO IT!
Indicate whether each of the five statements presented below is true or false.
1. The three steps in the accounting process are identification, recording, and
communication.
2. The two most common types of external users are investors and company
officers.
3. Congress passed the Sarbanes-Oxley Act of 2002 to reduce unethical
behavior and decrease the likelihood of future corporate scandals.
4. The primary accounting standard-setting body in the United States is the
Financial Accounting Standards Board (FASB).
5. The cost principle dictates that companies record assets at their cost. In later
periods, however, the market value of the asset must be used if market value
is higher than its cost.
The Do It exercises ask you to
put newly acquired knowledge
to work.They outline the Action
Plan necessary to complete the
exercise, and they show a
Solution.
BASIC CONCEPTS

THE BASIC ACCOUNTING EQUATION
The two basic elements of a business are what it owns and what it owes.
Assets are the resources a business owns. For example, Google has total as-
sets of approximately $18.4 billion. Liabilities and owner’s equity are the
rights or claims against these resources. Thus, Google has $18.4 billion of
claims against its $18.4 billion of assets. Claims of those to whom the company owes
money (creditors) are called liabilities. Claims of owners are called owner’s equity.
Google has liabilities of $1.4 billion and owners’ equity of $17 billion.
We can express the relationship of assets, liabilities, and owner’s equity as an
equation, as shown in Illustration 1-5 (page 12).
State the accounting equation,
and define its components.
How might accounting help you?
ACCOUNTING ACROSS THE ORGANIZATION
How Will Accounting Help Me?
One question that students frequently ask is, “How will the study of accounting
help me?” It should help you a great deal, because a working knowledge of ac-
counting is desirable for virtually every field of endeavor. Some examples of how accounting
is used in other careers include:
General management: Imagine running Ford Motors, Massachusetts General Hospital,
Northern Virginia Community College, a Subway franchise, a Trek bike shop. All general man-
agers need to understand where the enterprise’s cash comes from and where it goes in order
to make wise business decisions.
Marketing: A marketing specialist at a company like Procter & Gamble develops strate-
gies to help the sales force be successful. But making a sale is meaningless unless it is a prof-
itable sale. Marketing people must be sensitive to costs and benefits, which accounting helps
them quantify and understand.
Finance: Do you want to be a banker for Bank of America, an investment analyst for
Goldman Sachs, a stock broker for Merrill Lynch? These fields rely heavily on accounting. In all
of them you will regularly examine and analyze financial statements. In fact, it is difficult to get
a good finance job without two or three courses in accounting.
Real estate: Are you interested in being a real estate broker for Prudential Real Estate?
Because a third party—the bank—is almost always involved in financing a real estate transac-
tion, brokers must understand the numbers involved: Can the buyer afford to make the pay-
ments to the bank? Does the cash flow from an industrial property justify the purchase price?
What are the tax benefits of the purchase?
Accounting Across the
Organization boxes
demonstrate applications of
accounting information in
various business functions.
action plan
✔ Review the basic concepts
learned to date.
✔ Develop an understanding
of the key terms used.
The Navigator
✓
Solution
1. True 2. False.The two most common types of external users are investors and
creditors. 3. True. 4. True. 5. False. The cost principle dictates that compa-
nies record assets at their cost. Under the cost principle, the company must also use
cost in later periods as well.
Related exercise material: E1-1, E1-2, E1-3, E1-4, and DO IT! 1-1.

This relationship is the basic accounting equation. Assets must equal the sum of
liabilities and owner’s equity. Liabilities appear before owner’s equity in the basic
accounting equation because they are paid first if a business is liquidated.
The accounting equation applies to all economic entities regardless of size,
nature of business, or form of business organization. It applies to a small propri-
etorship such as a corner grocery store as well as to a giant corporation such as
PepsiCo. The equation provides the underlying framework for recording and sum-
marizing economic events.
Let’s look in more detail at the categories in the basic accounting equation.
Assets
As noted above, assets are resources a business owns.The business uses its assets in
carrying out such activities as production and sales. The common characteristic
possessed by all assets is the capacity to provide future services or benefits. In a
business, that service potential or future economic benefit eventually results in
cash inflows (receipts). For example, Campus Pizza owns a delivery truck that pro-
vides economic benefits from delivering pizzas. Other assets of Campus Pizza are
tables, chairs, jukebox, cash register, oven, tableware, and, of course, cash.
Liabilities
Liabilities are claims against assets—that is, existing debts and obligations.
Businesses of all sizes usually borrow money and purchase merchandise on credit.
These economic activities result in payables of various sorts:
• Campus Pizza, for instance, purchases cheese, sausage, flour, and beverages on
credit from suppliers.These obligations are called accounts payable.
• Campus Pizza also has a note payable to First National Bank for the money
borrowed to purchase the delivery truck.
• Campus Pizza may also have wages payable to employees and sales and real es-
tate taxes payable to the local government.
All of these persons or entities to whom Campus Pizza owes money are its creditors.
Creditors may legally force the liquidation of a business that does not pay its
debts. In that case, the law requires that creditor claims be paid before ownership
claims.
Owner’s Equity
The ownership claim on total assets is owner’s equity. It is equal to total assets mi-
nus total liabilities. Here is why:The assets of a business are claimed by either cred-
itors or owners. To find out what belongs to owners, we subtract the creditors’
claims (the liabilities) from assets. The remainder is the owner’s claim on the
assets—the owner’s equity. Since the claims of creditors must be paid before own-
ership claims, owner’s equity is often referred to as residual equity.
INCREASES IN OWNER’S EQUITY
In a proprietorship, owner’s investments and revenues increase owner’s equity.
Illustration 1-5
The basic accounting
equation
Assets = Liabilities + Owner’s Equity

Investments by Owner. Investments by owner are the assets the owner puts
into the business. These investments increase owner’s equity. They are recorded in
a category called owner’s capital.
Revenues. Revenues are the gross increase in owner’s equity resulting from
business activities entered into for the purpose of earning income. Generally, rev-
enues result from selling merchandise, performing services, renting property, and
lending money. Common sources of revenue are sales, fees, services, commissions,
interest, dividends, royalties, and rent.
Revenues usually result in an increase in an asset. They may arise from differ-
ent sources and are called various names depending on the nature of the business.
Campus Pizza, for instance, has two categories of sales revenues—pizza sales and
beverage sales.
DECREASES IN OWNER’S EQUITY
In a proprietorship, owner’s drawings and expenses decrease owner’s equity.
Drawings. An owner may withdraw cash or other assets for personal use.We use
a separate classification called drawings to determine the total withdrawals for
each accounting period. Drawings decrease owner’s equity.
Expenses. Expenses are the cost of assets consumed or services used in the
process of earning revenue. They are decreases in owner’s equity that result from
operating the business. For example, Campus Pizza recognizes the following
expenses: cost of ingredients (meat, flour, cheese, tomato paste, mushrooms, etc.);
cost of beverages; wages expense; utility expense (electric, gas, and water expense);
telephone expense; delivery expense (gasoline, repairs, licenses, etc.); supplies ex-
pense (napkins, detergents, aprons, etc.); rent expense; interest expense; and prop-
erty tax expense.
In summary, owner’s equity is increased by an owner’s investments and by rev-
enues from business operations. Owner’s equity is decreased by an owner’s with-
drawals of assets and by expenses. Illustration 1-6 expands the basic accounting
equation by showing the accounts that comprise owner’s equity. This format is
referred to as the expanded accounting equation.
H E L P F U L H I N T
In some places we use
the term ”owner’s
equity” and in others
we use ”owners’ equity.”
Owner’s (singular,
possessive) refers to
one owner (the case
with a sole proprietor-
ship). Owners’ (plural,
possessive) refers to
multiple owners (the
case with partnerships
or corporations).
Illustration 1-6
Expanded accounting
equation
Basic Equation: Assets Liabilities Owner’s Equity
Expanded Assets Liabilities Owner’s Capital Owner’s Drawings
Equation: Revenues Expenses
DO IT!
Classify the following items as investment by owner (I), owner’s drawings (D),
revenues (R), or expenses (E).Then indicate whether each item increases or
decreases owner’s equity.
(1) Rent Expense (3) Drawings
(2) Service Revenue (4) Salaries Expense
OWNER’S EQUITY EFFECTS
action plan
✔ Understand the sources of
revenue.
✔ Understand what causes
expenses.

Accounting Principles 9th Edition by Weygandt, Kieso & Kimmel.pdf

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