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Chapter 17 - Understanding Accounting and Financial Information
17-61
PPT 17-27
The Balance Sheet
See Figure 17.5 in the text for a sample balance sheet
for Very Vegetarian.
PPT 17-28
Assets
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Classifying Assets
Assets are divided into three categories according to
how fast they can be converted into cash.
Chapter 17 - Understanding Accounting and Financial Information
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Classifying Liabilities
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Owners’ Equity Accounts
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Progress Assessment
1. The formula for the balance sheet is referred to
as the fundamental accounting equation. This
equation includes the following three accounts:
assets, liabilities, and owners’ equity.
2. Assets on the balance sheet are listed according
to how quickly they can be converted to cash.
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PPT 17-36
Accounts of the Income Statement
While depreciation is an expense, it is a noncash ex-
pense for the company.
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What’s Coming and Going at the College
Bookstore
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The Statement of Cash Flows
See Figure 17.8 in the text for a sample statement of
cash flows for Very Vegetarian.
Chapter 17 - Understanding Accounting and Financial Information
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Understanding Cash Flow
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Barking Up the Wrong Financial
Statement
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Progress Assessment
1. The key steps in preparing an income statement
are:
Revenue
– Cost of goods sold
= Gross profit (gross margin)
– Operating expenses
= Net income before taxes
net loss) the firm incurs from revenue minus
sales returns, costs, expenses, and taxes over a
period of time.
Chapter 17 - Understanding Accounting and Financial Information
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Progress Assessment
(continued)
3. The statement of cash flows is important be-
cause it answers such questions as, How much
cash came into the business from current opera-
tions? Did the firm use cash to buy stocks,
bonds, or other investments? Did it sell some in-
vestments that brought in cash?
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Using Financial Ratios
Ratio analysis provides an assessment of the firm’s fi-
nancial condition. It can be extremely useful when re-
sults of a ratio analysis are compared to industry peers.
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Commonly Used Liquidity Ratios
The acid-test ratio is sometimes referred to as the
quick ratio.
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Accountants of the World United
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Timeline for the Move to IFRS
1. This slide profiles the timeline for the move to
International Financial Reporting Standards
2. International Financial Reporting Standards
(IFRS) are a set of accounting standards devel-
oped by the International Accounting Standards
Board (IASB) that is becoming the global stand-
ard for the preparation of public company finan-
cial statements.
3. Ask the students, What are some of the benefits
of international accounting standards?
4. If time permits, have students explore the IFRS
website (www.ifrs.com) and review some of the
accounting case studies that the site presents.
PPT 17-49
Progress Assessment
1. Ratio analysis is the assessment of a firm’s fi-
nancial condition, using calculations and finan-
cial ratios. Financial ratios are especially useful
in comparing the company’s performance to its
financial objectives and to the performance of
others in the industry.
2. The four main categories of financial ratios are
liquidity, leverage, profitability, and activity.
Chapter 17 - Understanding Accounting and Financial Information
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lecture
links
“In the business world, the rearview mirror is always clearer than the windshield.”
added. But with all their penny-pinching, many managers fail to heed one of the simplest maxims in busi-
ness: You have to spend money to make money. In most cases, a little investment in a company’s em-
ployees through open accounting and profit sharing can go a long way toward improving efficiency and,
ultimately, profit margins.
By opening the books to employees and cutting them in on profits, staffers become more motivat-
fact, a survey by Inc. magazine revealed that 40% of the 500 fastest-growing companies in the United
States use open-book management. Nevertheless, only 1% of American companies grant employees ac-
cess to accounting records. And those few that employ profit sharing usually reserve it only for managers.
In the end, most companies feel they can’t afford to include their staff in their already slim profit margins.
But as the recession wears on, businesses could find that short-term cost-cutting measures could come
Chapter 17 - Understanding Accounting and Financial Information
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lecture link 17-2
MANAGERIAL ACCOUNTING AND THE BUDGET PROCESS
In addition to the balance sheet, income statement, and cash flow statement, managers need other
Budgeting is simply stating in dollars-and-cents terms what the firm wants to accomplish in a
given period of time. Most individuals have some informal plan at the beginning of the month as to how
they are going to spend their money. They know, in general, what their expected income is and what ex-
penses they must use that money for.
Businesses must use more formal plans, but they follow the same procedure an individual does—
cluding such costs as raw materials, wages, electricity, and maintenance. The marketing department
should develop a plan for sales activities such as advertising, personal selling, and sales promotion. Then
administrative, depreciation, and other costs must be computed.
After all the firm’s departments have submitted their estimates, management can calculate the
projected net income by subtracting total expected expenses from expected revenues.
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With this information, the manager can investigate the problem. Are raw materials being wasted?
Was there an increase in the cost of these materials? On the basis of the results of this investigation, a
change may be made in production methods or a new supplier may be found. If it is found that the origi-
nal budget was not realistic, the budget itself may be changed to show realistic goals. In this way, man-
agement makes adjustments in order to meet the goals it has set. Budgets and budgetary control are excel-
lent planning and control tools.
DETERMINING COSTS AND SETTING PRICES
The income statement shows an item called “cost of sales” or “cost of goods sold,” which in-
cludes various costs—material, labor, and overhead. Analyses that are more detailed can be made to relate
these costs to each product, and costs can be compared with the income from the sales of that product.
This shows what the present cost–profit situation is at a given level of sales. Another study is usually
made to find out what the situation would be if sales increased or decreased.
Each company has its own approach to cost accounting. Some emphasize quality, others price.
Cost analysis provides a basis for determining which approach to follow. All involve a trade-off of value
against cost.
DECIDING ON CAPITAL INVESTMENTS
Managers must make daily and long-term capital investment decisions. Daily decisions may be
made on whether to use machine A or machine B for a given operation. Should a salesperson visit cus-
tomer X on this trip or the next? Should Jones’s order be produced today to ensure on-time delivery, or
can it wait?
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At one time, many felt GAAP would become the gold standard worldwide as many European and
Asian companies rolled out accounting numbers in the preferred U.S. style as well as their own. However,
support for GAAP seemed to collapse globally as it became more and more bloated (25,000 pages versus
2,500 for the IFRS) and heavily rules-riddled. Even Robert H. Herz, chair of FASB, admitted GAAP was
better suited to a different era, one that was not global. One concern that does bother many accountants
about IFRS is its relative youth. The International Accounting Standards Board (IASB), the body that
regulates IFRS, has been in existence only since 2001. Still Europe adopted IFRS early, and nations such
as Japan, China, India, Brazil, and Canada have announced their intention to move toward IFRS adoption
as well.
The change to IFRS is far from a done deal. Many questions persist about the implementation and
what it would mean for American companies and investors. Jeffrey Mahoney, general counsel of the
Council of Institutional Investors, says IASB needs to answer six questions before U.S. companies switch
to IFRS:
• Do international standards produce the same quality of reporting as GAAP?
• Will the application and enforcement of international standards in the United States be as rigorous
as they are in the case of GAAP?
• Does IASB have an adequate and stable source of funding that’s not dependent on private do-
nors?
• Does IASB have a competent, full-time, capable staff?
• Does IASB pay the most attention to the views of customers of financial reports—in other words,
investors?
• Does IASB have a structure, process, and adequate governmental support to keep its standards
work from “being overridden by the political process”?
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serve, an institution that has done little to protect consumers in the past. Also, a number of entities are
exempt from regulation by the agency. For example, car dealers, originators of nearly 80% of auto loans,
are not liable to the agency’s jurisdiction.
company’s downfall was caused by a fraudulent $11 billion accounting scheme. The unlikely heroine at
the center of this story is an internal auditor who wouldn’t stop asking questions.
Cynthia Cooper admits that she was “literally scared to death” during the process of uncovering
WorldCom’s fraudulent activities. In the course of a routine internal audit into the obscure area of line
cost expenses, Cooper uncovered something that didn’t look right. Other executives told her she was
come forward was easy, but doing the right thing doesn’t come without a cost.” The role of whistleblower
isn’t one she relishes.
The WorldCom debacle eventually sent several executives to prison. Bernie Ebbers, former chief
executive officer and cofounder, was sentenced to 25 years after being found guilty of fraud and conspir-
acy for his role in the accounting scheme. This is the harshest sentence ever given in a white-collar crimi-
Chapter 17 - Understanding Accounting and Financial Information
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bined. Filling such a huge gap will be difficult, but there are some areas of U.S. business where the job
market is finally expanding.
One sector that offers a bright future to workers is accounting. Since the American economy is
based on finance now more than ever, keeping track of all that money has become an essential service.
The Bureau of Labor Statistics expects accounting jobs to grow by 22% between 2008 and 2018. Infor-
mation technology jobs present an even better avenue of opportunity with an estimated growth of 30%
through the same time period. These jobs aren’t necessarily exclusive to computer science majors, either.
Employees can enter the IT world through a help desk at a tech firm and move on to analysis or manage-
ment.
Nevertheless, these are just two growing industries in a complex economy. To offset the losses
made during the recession would require the addition of 135,000 jobs per month. Even when the jobs do
come back that doesn’t mean everything will return to normal. Many of the new jobs people took since
the recession don’t match the pay, the benefits or the hours of the jobs they held before the downturn. For
instance, while the Bureau of Labor Statistics estimates that the number of food preparation and serving
jobs will increase by nearly 400,000 through 2018, the average wage will be only $16,430 including tips.
At the top level, however, employees will see fewer jobs but at more pay. Over the next decade financial
examiner positions will expand by just 11,000, but will net a median income of $70,930. In order to truly
reinvigorate the economy, newly created jobs must pay a salary comparable to pre-recession levels on
both ends of the employment spectrum, not just the high end.v
lecture link 17-7
FINDING A FRIENDLY FACTOR
The recession of 2009 has dried up credit markets to the point that the term cash squeeze has be-
come a part of many companies’ everyday lives. Take Data Drive Thru, for example. The demand for its
high-speed data-transfer technology was growing, but the company’s cash cupboard was bare. CFO Brad
Oldham knew that the frozen credit market would make finding a bank loan for the company almost im-
possible. His other option was selling receivables to a traditional factor that might very well harm the
company’s cash flow position. What is a growing company to do?
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lecture link 17-8
WHEN IS A SALE A SALE?
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• Cash flows from operating activities
• Cash flows from investing activities
• Cash flows from financing activities
In today’s competitive environment, it is vital for the owner/operator to monitor current and fu-
ture cash flow requirements. Careful tracking of cash flow is especially important for industries facing
seasonal fluctuations, such as the retail industry. These companies must prepare projections of cash in-
flows and outflows, preferably on a monthly basis, but certainly no less than on a quarterly basis. A fore-
cast of the company’s monthly balance sheet is also important to show its financial position and available
line of credit to cover the negative cash flow periods.
Cash flow can be used in different ways for different types of companies:
• For developing companies, cash flow and free cash flow are usually negative because the
company is burdened with low sales and one-time expenses necessary to build the business.
Matching the cash being lost in a cash flow statement to the assets on hand to pay bills can
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lecture link 17-10
STAYING ALIVE IN TOUGH ECONOMIC TIMES
Going broke is an idea that any business hates to think about. However, if you are going to go
broke in the United States, it helps to be a large, established company. For example, after the September
11, 2001, terrorist attacks, the government stepped in and saved major air carriers like American and
United. More recently quasi-government agencies like Fannie Mae and Freddie Mac received money
from the government to stay afloat despite poor practices in the mortgage business. Banks that risked cap-
ital on risky investments like derivatives and credit swaps were also beneficiaries of the federal govern-
ment’s largesse. Even automakers whose managers misjudged the market were propped up by govern-
ment dollars. Which leads us to the question, “What if small-business owners run out of cash?”
Chapter 17 - Understanding Accounting and Financial Information
The computer becomes a priceless tool for the small-business owner. By loading accounting
software like QuickBooks and becoming experienced in a spreadsheet tool like Excel, the owner can be-
come “report-savvy” and keep tabs on current numbers. By doing this, he or she can keep an up-to-date
1. Locate the report of the independent auditors.
a. Who are the auditors?
2. Locate the report of management. Since the passage of the Sarbanes-Oxley Act in 2002, corporate
management has to certify these financial results. Who signed the management report?
