Basic accounting principles

9,037 views

Published on

Published in: Business, Economy & Finance

Basic accounting principles

  1. 1. Basic Accounting Principles The Financial Statements
  2. 2. JOIN KHALID AZIZ <ul><li>ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. </li></ul><ul><li>FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA. </li></ul><ul><li>COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA. </li></ul><ul><li>CONTACT: </li></ul><ul><li>0322-3385752 </li></ul><ul><li>0312-2302870 </li></ul><ul><li>R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN. </li></ul>
  3. 3. JOIN KHALID AZIZ <ul><li>FRESH CLASSES FOR ICAP </li></ul><ul><li>MODULE B…FINANCIAL ACCOUNTING. </li></ul><ul><li>MODULE D…COST ACCOUNTING. </li></ul><ul><li>REGISTER YOUR SELF NOW. </li></ul><ul><li>COMPLETION OF SYLLABUS WITH ACCENTUATE ON BASIC CONCEPTS </li></ul>
  4. 4. Accounting Terms <ul><li>Account </li></ul><ul><ul><li>A group of items having common characteristics </li></ul></ul><ul><li>Types of Accounts </li></ul><ul><ul><li>Asset Liability </li></ul></ul><ul><ul><li>Income Expense </li></ul></ul><ul><ul><li>Equity </li></ul></ul>
  5. 5. Chart of Accounts <ul><li>Listing of all of the accounts used by a business </li></ul>
  6. 6. Asset Accounts <ul><li>Items of Value </li></ul><ul><li>Characterized as current and non-current </li></ul>
  7. 7. Liability Accounts <ul><li>Claims that others have against the assets </li></ul><ul><li>Have a known: </li></ul><ul><ul><li>Amount </li></ul></ul><ul><ul><li>Date to be paid </li></ul></ul><ul><ul><li>Person to whom payment owed </li></ul></ul><ul><li>Also current and non current </li></ul>
  8. 8. Equity Accounts <ul><li>Claims that the owner has against the assets </li></ul><ul><li>Sometimes called net worth </li></ul><ul><li>Difference between value of assets and liabilities </li></ul>
  9. 9. Income and Expense Accounts <ul><li>Types of equity accounts </li></ul><ul><li>Simple accounting systems often only contain these accounts </li></ul>
  10. 10. Double vs Single Entry Accounting <ul><li>Single – One account entry for each transaction </li></ul><ul><li>Double – Two account entries for each transaction </li></ul><ul><ul><li>One debit and one credit </li></ul></ul><ul><li>Hybrid systems </li></ul><ul><ul><li>May not match income with expenses </li></ul></ul><ul><ul><li>May not distinguish cash, check, or credit </li></ul></ul>
  11. 11. Basic Accounting Equation <ul><li>Always maintained in double entry accounting </li></ul><ul><li>Assets will always equal liabilities plus equity </li></ul>
  12. 12. Transactions <ul><li>Will be equal and offsetting </li></ul><ul><li>Two types: </li></ul><ul><ul><li>Income & Expenses </li></ul></ul><ul><ul><li>Transfers between accounts </li></ul></ul>
  13. 13. Cash and Accrual Accounting <ul><li>Refers to the timing of entries into the accounting system </li></ul>
  14. 14. Cash Based Records <ul><li>Transactions are recorded when cash is received or paid out </li></ul>
  15. 15. Accrual Based Records <ul><li>Transactions are recorded when they take place </li></ul><ul><li>Regardless of whether cash is involved </li></ul>
  16. 16. Accrual Adjusted Statements <ul><li>Cash based records are kept throughout the year </li></ul><ul><li>Non-Cash adjustments are made to the cash based income statement at the end of the year </li></ul>
  17. 17. Account Valuation <ul><li>Income Accounts </li></ul><ul><ul><li>Value received is recorded </li></ul></ul><ul><li>Expense Accounts </li></ul><ul><ul><li>Value paid is recorded </li></ul></ul><ul><li>Liability Accounts </li></ul><ul><ul><li>Value is dollar amount owed </li></ul></ul>
  18. 18. Account Valuation <ul><li>Asset Accounts </li></ul><ul><ul><li>More difficult because they may not be traded routinely </li></ul></ul>
  19. 19. Asset Valuation <ul><li>Cost Basis </li></ul><ul><li>Market Value Basis </li></ul>
  20. 20. Cost Basis Asset Valuation <ul><li>Original cost minus depreciation </li></ul><ul><li>Must establish a depreciation method </li></ul>
  21. 21. Market Basis Asset Valuation <ul><li>Recorded as the price they could bring if sold, less selling expenses </li></ul><ul><li>Based on recent auctions, appraisals, etc. </li></ul>
  22. 22. Depreciation <ul><li>Section II page 29, (FFSTF Guidelines) </li></ul><ul><li>Allocation of the expense that reflects the “using up” of capital assets employed by the business </li></ul><ul><li>Conceptually, this is done over the useful life of the asset in a “systematic and rational” manner </li></ul>
  23. 23. Depreciation <ul><li>Allocation applied to original cost minus salvage value </li></ul><ul><li>Accelerated versus straight line methods </li></ul><ul><ul><li>Example of difference between management records and tax records </li></ul></ul><ul><li>Can overstate or understate true income </li></ul>
  24. 24. Financial Reports <ul><li>Balance Sheet </li></ul><ul><li>Income Statement </li></ul><ul><li>Statement of Cash Flows </li></ul><ul><li>Statement of Owner Equity </li></ul>
  25. 25. Balance Sheet <ul><li>Represents a financial situation at a single point in time </li></ul><ul><li>Has a date on it </li></ul><ul><li>Broken down by: </li></ul><ul><ul><li>Type of Asset or liability </li></ul></ul><ul><ul><li>Time or life of the account type </li></ul></ul>
  26. 26. Balance Sheet <ul><li>Current Assets </li></ul><ul><ul><li>Cash and other assets that will be converted into cash during one operating cycle </li></ul></ul><ul><li>Non-Current Assets </li></ul><ul><ul><li>Those not expected to be converted into cash in one operating cycle </li></ul></ul>
  27. 27. JOIN KHALID AZIZ <ul><li>ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. </li></ul><ul><li>FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA. </li></ul><ul><li>COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA. </li></ul><ul><li>CONTACT: </li></ul><ul><li>0322-3385752 </li></ul><ul><li>0312-2302870 </li></ul><ul><li>R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN. </li></ul>
  28. 28. Balance Sheet <ul><li>Current Liabilities </li></ul><ul><ul><li>Debts that will come due within one year from the balance sheet date </li></ul></ul><ul><li>Non-Current Liabilities </li></ul><ul><ul><li>Those debts due more that one year from the balance sheet date </li></ul></ul>
  29. 29. Balance Sheet <ul><li>Intermediate Assets and Liabilities </li></ul><ul><li>Long term Assets and Liabilities </li></ul><ul><li>Can use cost or market valuations or both </li></ul><ul><li>Supporting Schedules are very helpful </li></ul><ul><li>Will need a balance sheet for beginning and ending of accounting period </li></ul>
  30. 30. Income Statement <ul><li>Summary of income and expenses </li></ul><ul><li>Represents a period of time between two balance sheets </li></ul><ul><li>Explains the change in equity between two balance sheets </li></ul><ul><li>Can be divided into enterprise reports </li></ul><ul><li>Can be cash or accrual </li></ul>
  31. 31. Assets Liabilities Equity Assets Liabilities Equity <ul><li>+/- Net Income </li></ul><ul><li>+/- Valuation Changes </li></ul><ul><li>Family living withdrawals </li></ul><ul><li>+ Capital contributions </li></ul>Beginning Balance Sheet Ending Balance Sheet
  32. 32. Income Statement <ul><li>Will have more than one profit line </li></ul><ul><li>Definition of Profit </li></ul><ul><ul><li>Financial profit is the net return to business equity </li></ul></ul>
  33. 33. Accrual Adjusted Income Statement <ul><li>Cash incomes and expenses must be adjusted by: </li></ul><ul><ul><li>Changes in non-cash assets </li></ul></ul><ul><ul><ul><li>Inventories </li></ul></ul></ul><ul><ul><ul><li>Pre paid expenses </li></ul></ul></ul><ul><ul><ul><li>Receivables </li></ul></ul></ul><ul><ul><li>Changes in non-cash liabilities </li></ul></ul><ul><ul><ul><li>Payables </li></ul></ul></ul><ul><ul><ul><li>Accrued interest </li></ul></ul></ul>
  34. 34. Statement of Cash Flows <ul><li>Not the same as a cash flow plan (Budget) </li></ul><ul><li>Is a historical record of sources and uses of funds </li></ul><ul><li>Divisions of Statement: </li></ul><ul><ul><li>Cash from operating activities </li></ul></ul><ul><ul><li>Cash from investing activities </li></ul></ul><ul><ul><li>Cash from financing activities </li></ul></ul>
  35. 35. Statement of Owner Equity <ul><li>Explains the change in owners equity between two balances sheets </li></ul><ul><li>Changes due to : </li></ul><ul><ul><li>Net income </li></ul></ul><ul><ul><li>Change in inventory valuation </li></ul></ul><ul><ul><li>Family living withdrawals </li></ul></ul><ul><ul><li>Capital contributions </li></ul></ul><ul><ul><li>Capital distributions </li></ul></ul>
  36. 36. Financial Analysis <ul><li>All business owners should have a basic set of financial statements at their disposal and they should know how to analyze and interpret them. </li></ul>
  37. 37. Financial Analysis <ul><li>Two Objectives </li></ul><ul><ul><li>Measure financial condition of the business </li></ul></ul><ul><ul><li>Measure financial performance of the business </li></ul></ul>
  38. 38. Financial Analysis <ul><li>Horizontal Analysis </li></ul><ul><li>Vertical Analysis </li></ul><ul><li>Ratio Analysis </li></ul>
  39. 39. Horizontal Analysis <ul><li>Looks at trends in performance and strength over time </li></ul><ul><ul><li>For example, percent change in net income from year to year </li></ul></ul>
  40. 40. Vertical Analysis <ul><li>Looks at within year events rather than over time </li></ul><ul><ul><li>For example, interest expense as a percent of total expenses </li></ul></ul>
  41. 41. Ratio Analysis <ul><li>Allows for consistent comparison of a single business over time as well as comparison between businesses </li></ul><ul><li>Converts nominal dollar amounts to a common basis </li></ul>
  42. 42. Source of data for Ratio Analysis <ul><li>Balance Sheet </li></ul><ul><li>Income Statement </li></ul>
  43. 43. Farm Financial Standards Council (Five Criteria) <ul><li>Liquidity </li></ul><ul><li>Solvency </li></ul><ul><li>Profitability </li></ul><ul><li>Financial Efficiency </li></ul><ul><li>Repayment Capacity </li></ul>
  44. 44. Ratio Analysis <ul><li>16 different ratios commonly used </li></ul><ul><li>Each has limitations </li></ul><ul><li>Proper interpretation is critical </li></ul>
  45. 45. Liquidity <ul><li>Ability of a business to pay current liabilities as they come due </li></ul>
  46. 46. Liquidity <ul><li>Current Ratio </li></ul><ul><ul><li>Current Assets/Current Liabilities </li></ul></ul><ul><ul><li>Less than one is bad </li></ul></ul><ul><li>Working capital </li></ul><ul><ul><li>Current assets minus current liabilities </li></ul></ul><ul><ul><li>Negative number is bad </li></ul></ul>
  47. 47. Solvency <ul><li>Ability of the firm to repay all of its financial obligations </li></ul>
  48. 48. Solvency <ul><li>Debt to Asset Ratio </li></ul><ul><ul><li>Total liabilities/total assets </li></ul></ul><ul><ul><li>Greater than one bad </li></ul></ul><ul><li>Equity to Asset Ratio </li></ul><ul><ul><li>Total equity/total assets </li></ul></ul><ul><li>Debt to Equity Ratio </li></ul><ul><ul><li>Leverage ratio </li></ul></ul><ul><ul><li>Less than one better </li></ul></ul>
  49. 49. Profitability <ul><li>Rate of return on assets </li></ul><ul><li>Rate of return on equity </li></ul><ul><li>Operating profit margin ratio </li></ul>
  50. 50. Financial Efficiency <ul><li>Measures the intensity with which a business uses its assets to generate gross revenues and the effectiveness of production </li></ul>
  51. 51. Financial Efficiency <ul><li>Asset turnover ratio </li></ul><ul><li>Operating expense ratio </li></ul><ul><li>Depreciation ratio </li></ul><ul><li>Interest expense ratio </li></ul><ul><li>Net income from operations ratio </li></ul>
  52. 52. Repayment Capacity <ul><li>Measures the borrower’s ability to repay term debts and capital leases rather than financial position or performance </li></ul>
  53. 53. Repayment Capacity <ul><li>Term debt and capital lease coverage ratio </li></ul><ul><li>Capital replacement and term repayment margin </li></ul>
  54. 54. Cautions <ul><li>Measures are only as good as the data used </li></ul><ul><li>Methods must be consistent between years and between operations </li></ul><ul><ul><li>Example – Asset valuation methods </li></ul></ul><ul><li>Measures ask the right questions but do not provide the answers </li></ul>
  55. 55. JOIN KHALID AZIZ <ul><li>ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. </li></ul><ul><li>FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA. </li></ul><ul><li>COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA. </li></ul><ul><li>CONTACT: </li></ul><ul><li>0322-3385752 </li></ul><ul><li>0312-2302870 </li></ul><ul><li>R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN. </li></ul>

×