Accounting principles 9e by kieso

to download more slides, ebooks, and solution manual visit


to download more slides, ebooks, and solution manual visit

RAPID REVIEW

Chapter Content
ACCOUNTING EQUATION (Chapter 2)

INVENTORY (Chapters 5 and 6)
Ownership

Assets

= Liabilities +

Expanded
Equation

Assets

=

Owner’s Equity

Ownership of goods on
public carrier resides with:

Who pays freight costs:

FOB shipping point

Buyer

Buyer

FOB destination

Seller

Seller






































Basic
Equation

Debit / Credit
Effects

Dr. Cr.
–
+

Liabilities
Dr.

–

+

Cr.
+

Owner’s
Capital
Dr.
–

Cr.
+

–

Owner’s
Drawing
Dr.
+

Revenues

+

Cr.
–

Dr.

–

Cr.
+

–

Expenses
Dr.
+

Cr.
–

Freight Terms

Perpetual vs. Periodic Journal Entries

ADJUSTING ENTRIES (Chapter 3)

Event

Perpetual

Periodic*

Type

Adjusting Entry

Deferrals

1. Prepaid expenses
2. Unearned revenues

Dr. Expenses
Dr. Liabilities

Cr. Assets
Cr. Revenues

Purchase of goods

Inventory
Cash (A/P)

Purchases
Cash (A/P)

Accruals

1. Accrued revenues
2. Accrued expenses

Dr. Assets
Dr. Expenses

Cr. Revenues
Cr. Liabilities

Freight (shipping point)

Inventory
Cash

Freight-In
Cash

Return of goods

Cash (or A/P)
Inventory

Cash (or A/P)
Purchase Returns and Allowances

Sale of goods

Cash (or A/R)
Sales
Cost of Goods Sold
Inventory

Cash (or A/R)
Sales
No entry

End of period

No entry

Closing or adjusting entry required

Note: Each adjusting entry will affect one or more income statement accounts and one or
more balance sheet accounts.
Interest Computation
Interest = Face value of note ϫ Annual interest rate ϫ Time in terms of one year

CLOSING ENTRIES (Chapter 4)
Purpose: (1) Update the Owner’s Capital account in the ledger by transferring net
income (loss) and Owner’s Drawing to Owner’s Capital. (2) Prepare the temporary
accounts (revenue, expense, Owner’s Drawing) for the next period’s postings by
reducing their balances to zero.

Cost Flow Methods

Process

FRAUD, INTERNAL CONTROL, AND CASH (Chapter 8)

1.
2.

Debit each revenue account for its balance (assuming normal balances), and
credit Income Summary for total revenues.
Debit Income Summary for total expenses, and credit each expense account for
its balance (assuming normal balances).
STOP AND CHECK: Does the balance in your Income Summary Account equal
the net income (loss) reported in the income statement?

3.
4.

Debit (credit) Income Summary, and credit (debit) Owner’s Capital for the
amount of net income (loss).
Debit Owner’s Capital for the balance in the Owner’s Drawing account and
credit Owner’s Drawing for the same amount.
STOP AND CHECK: Does the balance in your Owner’s Capital account equal
the ending balance reported in the balance sheet and the owner’s equity
statement? Are all of your temporary account balances zero?

• Specific identification
• First-in, first-out (FIFO)

The Fraud Triangle

Principles of Internal Control Activities

Opportunity
Finanical
pressure

Rationalization

•
•
•
•
•
•

Establishment of responsibility
Segregation of duties
Documentation procedures
Physical controls
Independent internal verification
Human resource controls

Bank Reconciliation
Bank

Books

Balance per bank statement
Add: Deposit in transit

Balance per books
Add: Unrecorded credit memoranda from bank
statement
Deduct: Unrecorded debit memoranda from
bank statement
Adjusted cash balance

Deduct: Outstanding checks
Adjusted cash balance

ACCOUNTING CYCLE (Chapter 4)

• Weighted average
• Last-in, first-out (LIFO)

Note: 1. Errors should be offset (added or deducted) on the side that made the error.
2. Adjusting journal entries should only be made on the books.

1
Analyze business
transactions

9

2

Prepare a post-closing
trial balance

Journalize the
transactions

8

3

Journalize and
post closing entries

Post to
ledger accounts

7

4

Prepare financial
statements:
Income statement
Owner’s equity statement
Balance sheet

Prepare a
trial balance

STOP AND CHECK: Does the adjusted cash balance in the Cash account equal the
reconciled balance?

RECEIVABLES (Chapter 9)
Methods to Account for Uncollectible Accounts

Direct write-off method

Record bad debts expense when the company
determines a particular account to be uncollectible.

Allowance methods:
Percentage-of-sales

At the end of each period estimate the amount of
credit sales uncollectible. Debit Bad Debts Expense
and credit Allowance for Doubtful Accounts for this
amount. As specific accounts become uncollectible,
debit Allowance for Doubtful Accounts and credit

Accounts Receivable.

5
6
Prepare an adjusted
trial balance

Journalize and post
adjusting entries:
Deferrals/Accruals

Optional steps: If a worksheet is prepared, steps 4, 5, and 6 are incorporated in the worksheet.
If reversing entries are prepared, they occur between steps 9 and 1 as discussed below.

Percentage-of-receivables

At the end of each period estimate the amount of
uncollectible receivables. Debit Bad Debts Expense and
credit Allowance for Doubtful Accounts in an amount
that results in a balance in the allowance account equal
to the estimate of uncollectibles. As specific accounts
become uncollectible, debit Allowance for Doubtful
Accounts and credit Accounts Receivable.

EP-1

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

RAPID REVIEW

Chapter Content
PLANT ASSETS (Chapter 10)

INVESTMENTS (Chapter 16)

Presentation

Comparison of Long-Term Bond Investment and Liability Journal Entries

Tangible Assets

Intangible Assets

Event

Investor

Investee

Property, plant, and equipment

Intangible assets (Patents, copyrights,
trademarks, franchises, goodwill)

Purchase / issue of bonds

Debt Investments

Cash

Cash
Bonds Payable

Interest receipt / payment

Cash
Interest Revenue

Interest Expense
Cash

Natural resources

Computation of Annual Depreciation Expense
Comparison of Cost and Equity Methods of Accounting for Long-Term Stock Investments
Straight-line

Cost Ϫ Salvage value
ᎏᎏᎏ
Useful life (in years)

Event

Cost

Equity

Units-of-activity

Depreciable cost
ᎏᎏᎏ ϫ Units of activity during year
Useful life (in units)

Acquisition

Stock Investments
Cash

Stock Investments
Cash

Book value at beginning of year ϫ Declining balance rate*
*Declining-balance rate ϭ 1 Ϭ Useful life (in years)

Investee reports
earnings

No entry

Stock Investments
Investment Revenue

Investee pays
dividends

Cash
Dividend Revenue

Cash
Stock Investments

Declining-balance

Note: If depreciation is calculated for partial periods, the straight-line and decliningbalance methods must be adjusted for the relevant proportion of the year.
Multiply the annual depreciation expense by the number of months expired in
the year divided by 12 months.

Trading and Available-for-Sale Securities

SHAREHOLDERS’ EQUITY (Chapter 13)
Comparison of Equity Accounts

Proprietorship

Partnership

Corporation

Owner’s equity
Name, Capital

Partner’s equity
Name, Capital
Name, Capital

Stockholders’ equity
Common stock
Retained earnings

No-Par Value vs. Par Value Stock Journal Entries
No-Par Value

Par Value

Cash
Common Stock

Cash
Common Stock (par value)
Paid-in Capital in Excess of Par Value

Trading

Report at fair value with changes reported in net income.

Available-forsale

Report at fair value with changes reported in the stockholders’
equity section.

STATEMENT OF CASH FLOWS (Chapter 17)
Cash flows from operating activities (indirect method)
Net income
Add:
Losses on disposals of assets
Amortization and depreciation
Decreases in current assets
Increases in current liabilities

Deduct: Gains on disposals of assets
Increases in current assets
Decreases in current liabilities
Net cash provided (used) by operating activities

$X
X
X
X
(X)
(X)
(X)
$X

Cash

Common Stock

Cash dividend

↓

No effect

↓

Cash flows from operating activities (direct method)
Cash receipts
(Examples: from sales of goods and services to customers, from receipts
of interest and dividends on loans and investments)

$X
Cash payments
(Examples: to suppliers, for operating expenses, for interest, for taxes)
(X)
Cash provided (used) by operating activities
$X

Stock dividend

No effect

↑

↓

PRESENTATION OF NON-TYPICAL ITEMS (Chapter 18)

Stock split

No effect

No effect

No effect

DIVIDENDS (Chapter 14)
Comparison of Dividend Effects
Retained Earnings

BONDS (Chapter 15)

Premium

Market interest rate Ͻ Contractual interest rate

Face Value

Market interest rate ϭ Contractual interest rate

Discount

Market interest rate Ͼ Contractual interest rate

Prior period adjustments
(Chapter 14)

Statement of retained earnings (adjustment of
beginning retained earnings)

Discontinued operations

Income statement (presented separately after
“Income from continuing operations”)

Extraordinary items

Income statement (presented separately after
“Income before extraordinary items”)

Changes in accounting principle

In most instances, use the new method in current
period and restate previous years results using
new method. For changes in depreciation and
amortization methods, use the new method in the
current period, but do not restate previous periods.

EP-2

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

RAPID REVIEW

Chapter Content
MANAGERIAL ACCOUNTING (Chapter 19)

COST-VOLUME-PROFIT (Chapter 22)

Characteristics of Managerial Accounting

Types of Costs

Primary Users

Internal users

Reports

Internal reports issued as needed

Purpose

Special purpose for a particular user

Content

Pertains to subunits, may be detailed, use of relevant data

Verification

No independent audits

Variable costs

Vary in total directly and proportionately with changes in
activity level

Fixed costs

Remain the same in total regardless of change in activity level

Mixed costs

Contain both a fixed and a variable element

CVP Income Statement Format
Total

Types of Manufacturing Costs
Direct materials

Raw materials directly associated with finished product

Direct labor

Work of employees directly associated with turning
raw materials into finished product

Manufacturing
overhead

Costs indirectly associated with manufacture of finished
product

JOB ORDER AND PROCESS COSTING (Chapters 20 and 21)
Types of Accounting Systems
Job order

Costs are assigned to each unit or each batch of goods

Process cost

Costs are applied to similar products that are
mass-produced in a continuous fashion

Sales
Variable costs
Contribution margin

Fixed costs
Net income

Per Unit

$xx
xx

$xx
xx

xx
xx

$xx

$xx

Contribution Margin per Unit
Contribution
margin
per unit

Unit
selling
price

ϭ

Ϫ

Unit
variable
costs

Breakeven Point
Breakeven
point in units

Fixed
Contribution
Ϭ
costs
margin per unit

ϭ

Target Net Income

Job Order and Process Cost Flow

Job Order Cost Flow

Process Cost Flow

Direct Materials
Direct Labor
Manufacturing
Overhead

Direct Materials
Direct Labor
Manufacturing
Overhead

Work in Process
Inventory
Job No. 101
Job No. 102
Job No. 103

Work in
Process

Finished Goods
Inventory

Finished Goods
Inventory

Cost of Goods
Sold

Cost of Goods
Sold

Required sales
in units

ϭ

(Fixed costs ϩ Target net income)

Ϭ

Contribution
margin per unit

BUDGETS (Chapter 23)
Components of the Master Budget

.
s Co
Haye get
Bud

Sales Budget

Production
Budget

Direct
Materials
Budget

Direct
Labor
Budget

Kitchenmate

Manufacturing
Overhead
Budget

Operating Budgets

Budgeted
Balance
Sheet

Financial Budgets

Selling and
Administrative
Expense Budget

Budgeted
Income
Statement

Capital
Expenditure
Budget

Cash Budget

EP-3

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark

to download more slides, ebooks, and solution manual visit

RAPID REVIEW

Chapter Content
RESPONSIBILITY ACCOUNTING (Chapter 24)

INCREMENTAL ANALYSIS AND CAPITAL BUDGETING (Chapter 26)

Types of Responsibility Centers

Incremental Analysis
1.

Cost

Profit

Investment

Expenses only

Expenses and Revenues

Expenses and Revenues and ROI

3.

Return on Investment
Return on
investment
(ROI)

2.

‫؍‬

Investment center
controllable margin

Ϭ

Average
investment center
operating assets

Identify the relevant costs associated with each alternative. Relevant costs are
those costs and revenues that differ across alternatives. Choose the alternative
that maximizes net income.
Opportunity costs are those benefits that are given up when one alternative is
chosen instead of another one. Opportunity costs are relevant costs.
Sunk costs have already been incurred and will not be changed or avoided by
any future decision. Sunk costs are not relevant costs.

Annual Rate of Return
Annual rate
of return

‫؍‬

Expected annual
net income

Ϭ

Average
investment

Cash payback
period

‫؍‬

Cost of capital
investment

Ϭ

Net annual
cash flow

STANDARD COSTS (Chapter 25)
Cash Payback

Standard Cost Variances
Total
materials
variance

‫؍‬

Materials
price
variance

‫؍‬

Labor
price
variance

ϩ

Materials
quantity
variance

ϩ

Labor
quantity
variance

Discounted Cash Flow Approaches
Total
labor
variance
Total

overhead
variance

‫؍‬

Overhead
controllable
variance

ϩ

Overhead
volume
variance

Materials price variance

‫ ؍‬AQ ϫ AP Ϫ AQ ϫ SP

Materials quantity variance

‫ ؍‬AQ ϫ SP Ϫ

Labor price variance

‫ ؍‬AH ϫ AR Ϫ AH ϫ SR

Labor quantity variance

‫ ؍‬AH ϫ SR Ϫ

Overhead variance

‫ ؍‬Actual overhead Ϫ Overhead applied

Net Present Value
Compute net present value
(a dollar amount).
If net present value is zero or positive,
accept the proposal. If net present
value is negative, reject the proposal.

Internal Rate of Return
Compute internal rate of return
(a percentage).
If internal rate of return is equal to or
greater than the minimum required
rate of return, accept the proposal. If
internal rate of return is less than the
minimum rate, reject the proposal.

SQ ϫ SP

SH ϫ SR

EP-4

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark

to download more slides, ebooks, and solution manual visit

RAPID REVIEW

Financial Statements
Order of Preparation

Retained Earnings Statement

Statement Type

Date

1. Income statement

For the period ended

2. Retained earnings statement

For the period ended

3. Balance sheet

As of the end of the period

4. Statement of cash flows

For the period ended

Name of Company

Retained Earnings Statement
For the Period Ended
Retained earnings, beginning of period
Add: Net income (or deduct net loss)

$X
X
X
X
$X

Deduct: Dividends
Retained earnings, end of period

Income Statement (perpetual inventory system)
STOP AND CHECK: Net income (loss) presented on the retained earnings statement
must equal the net income (loss) presented on the income statement.

Name of Company
Income Statement
For the Period Ended
Sales revenues
Sales
Less: Sales returns and allowances
Sales discounts
Net sales
Cost of goods sold
Gross profit
Operating expenses
(Examples: store salaries, advertising, delivery, rent,

depreciation, utilities, insurance)
Income from operations
Other revenues and gains
(Examples: interest, gains)
Other expenses and losses
(Examples: interest, losses)
Income before income taxes
Income tax expense
Net income

Balance Sheet
Name of Company
Balance Sheet
As of the End of the Period

$X
X
X
$X
X
X

X
X
X
X

X
X
X

$X

Assets
Current assets
(Examples: cash, short-term investments, accounts
receivable, merchandise inventory, prepaids)
Long-term investments
(Examples: investments in bonds, investments in stocks)
Property, plant, and equipment
Land
Buildings and equipment
$X
Less: Accumulated depreciation
X
Intangible assets
Total assets

$X
X
$X
X

X
X
$X

Liabilities and Stockholders’ Equity
Income Statement (periodic inventory system)
Name of Company
Income Statement

For the Period Ended
Sales revenues
Sales
Less: Sales returns and allowances
Sales discounts
Net sales
Cost of goods sold
Beginning inventory
Purchases
$X
Less: Purchase returns and allowances
X
Net purchases
X
Add: Freight in
X
Cost of goods purchased
Cost of goods available for sale
Less: Ending inventory
Cost of goods sold
Gross profit
Operating expenses
(Examples: store salaries, advertising, delivery, rent,
depreciation, utilities, insurance)
Income from operations
Other revenues and gains
(Examples: interest, gains)
Other expenses and losses
(Examples: interest, losses)
Income before income taxes

Income tax expense
Net income

$X
X
X
$X

Liabilities
Current liabilities
(Examples: notes payable, accounts payable, accruals,
unearned revenues, current portion of notes payable)
Long-term liabilities
(Examples: notes payable, bonds payable)
Total liabilities
Stockholders’ equity
Common stock
Retained earnings
Total liabilities and stockholders’ equity

$X
X
X
X
X
$X

X
STOP AND CHECK: Total assets on the balance sheet must equal total liabilities and
stockholders’ equity; and, ending retained earnings on the balance sheet must equal

ending retained earnings on the retained earnings statement.
X
X
X

Statement of Cash Flows
Name of Company
Statement of Cash Flows
For the Period Ended

X
X

X
X
X
X

X
X
X
$X

Cash flows from operating activities
Note: May be prepared using the direct or indirect method
Cash provided (used) by operating activities
Cash flows from investing activities
(Examples: purchase / sale of long-term assets)
Cash provided (used) by investing activities
Cash flows from financing activities

(Examples: issue / repayment of long-term liabilities,
issue of stock, payment of dividends)
Net cash provided (used) by financing activities
Net increase (decrease) in cash
Cash, beginning of the period
Cash, end of the period

$X

X

X
X
X
$X

STOP AND CHECK: Cash, end of the period, on the statement of cash flows must
equal cash presented on the balance sheet.

EP-5

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

RAPID REVIEW

Using the Information in the Financial Statements
Ratio

Formula

Purpose or Use

Liquidity Ratios
Current assets
ᎏᎏᎏ
Current liabilities

Measures short-term debt-paying ability.

2. Acid-test (quick) ratio

Cash ϩ Short-term investments ϩ Receivables (net)
ᎏᎏᎏᎏᎏᎏ
Current liabilities

Measures immediate short-term liquidity.

3. Receivables turnover

Net credit sales
ᎏᎏᎏ
Average net receivables

1. Current ratio

4. Inventory turnover

Cost of goods sold
ᎏᎏᎏ
Average inventory

Measures liquidity of receivables.

Measures liquidity of inventory.

Profitability Ratios
5. Profit margin

Net income
ᎏᎏ
Net sales

Measures net income generated by each
dollar of sales.

6. Asset turnover

Net sales
ᎏ
Averageᎏ
assets

Measures how efficiently assets are used
to generate sales.

7. Return on assets

Net income
ᎏ
ᎏ
ᎏ
Average assets

Measures overall profitability of assets.

8. Return on common
stockholders’ equity

Net income Ϫ Preferred dividends
ᎏᎏᎏᎏᎏᎏ
Average common stockholders’ equity

9. Earnings per share (EPS)

Net income Ϫ Preferred dividends
ᎏᎏᎏᎏᎏᎏ
Weighted average common shares outstanding

10. Price-earnings (P-E) ratio

Market price per share of stock
ᎏᎏᎏᎏ
Earnings per share

11. Payout ratio

Measures profitability of owners’

investment.
Measures net income earned on each
share of common stock.
Measures ratio of the market price per
share to earnings per share.

Cash dividends
ᎏᎏ
Net income

Measures percentage of earnings distributed
in the form of cash dividends.

Total debt
ᎏᎏ
Total assets

Measures percentage of total assets provided
by creditors.

Income before income taxes and interest expense
ᎏᎏᎏᎏᎏᎏ
Interest expense

Measures ability to meet interest payments
as they come due.

Cash provided by operating activities Ϫ
Capital expenditures Ϫ Cash dividends

Measures the amount of cash generated
during the current year that is available for
the payment of additional dividends or for
expansion.

Solvency Ratios
12. Debt to total assets ratio

13. Times interest earned

14. Free cash flow

EP-6

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

P H O T O

C R E D I T S

Chapter 1

Page 3 Jeff Greenberg/PhotoEdit Page 11 Brent
Holland/iStockphoto Page 23 iStockphoto

Chapter 2 Page 49 NBAE/Getty Images Page 58 Mike
Stewart/Corbis Sygma Page 70 PhotoDisc, Inc./Getty Images

Chapter 3

Page 94 Witte Thomas E/Gamma Presse, Inc.
Page 98 Kevin Winter/Getty Images, Inc Page 106 iStockphoto

Chapter 4

Page 145 Brian Bahr/Getty Images, Inc
Page 157 Alex Slobodkin/iStockphoto Page 162 Christian
Lagereek/iStockphoto Page 164 Lowell Sannes/iStockphoto
Page 165 Denis Vorob'yev/iStockphoto Page 166 Nikki
Ward/iStockphoto Page 167 Vladislav Gurfinkel/iStockphoto
Page 168 iStockphoto

Chapter 14 Page 607 Tim Boyle/Bloomberg News/Landov
LLC Page 611 Tomasz Resiak/iStockphoto Page 615 PhotoDisc,
Inc./Getty Images Page 617 Arpad Benedek/iStockphoto
Chapter 15

Page 643 Corporation of London/HIP/The
Image Works Page 656 Greg Nicholas/iStockphoto
Page 660 Corbis Stock Market

Chapter 16 Page 694 Warner Bros./Legendary
Pictures/The Kobal Collection/The Picture Desk
Chapter 17 Page 730 Rudi Von Briel/PhotoEdit Page 735
Darren McCollester/Getty Images News and Sport Services
Page 749 PhotoDisc, Inc./Getty Images
Chapter 18

Chapter 5

Page 199 Stone/Getty Images, Inc Page 203
Marco Coda/iStockphoto Page 210 iStockphoto

Chapter 6

Page 249 Pathaithai Chungyam/iStockphoto
Page 251 Bjorn Kindler/iStockphoto Page 262 PhotoDisc,
Inc./Getty Images Page 262 Scott Olson/Getty Images

Chapter 7

Page 791 AFP PHOTO/Nicholas
ROBERTS/NewsCom Page 794 iStockphoto Page 794
iStockphoto Page 808 Royalty-Free/Corbis Images Page 814
Martina Misar/iStockphoto

Chapter 19

Page 843 Alamy Images Page 846 Peter
Kramer/Getty Images, Inc. Page 860 Octavio Campos/
iStockphoto

Page 301 Henry Chaplin/iStockphoto
Page 304 Sean Locke/iStockphoto Page 307 Andrejs
Zavadskis/ iStockphoto

Chapter 20

Chapter 8

Chapter 21

Chapter 9

Chapter 22

Chapter 10

Chapter 23 Page 1017 ©2000 Artville, Inc Page 1020
iStockphoto Page 1034 Popperfoto/Alamy Images

Page 345 Valerie Loiseleux/iStockphoto
Page 356 Terence John/Retna
Page 397 Charles Orrico/SUPERSTOCK
Page 406 Joe Polillio/Getty Images, Inc Page 408 Michael
Braun/iStockphoto

Page 437 David Trood/Getty Images, Inc
Page 441 iStockphoto Page 456 Andy Lions/Photonica/Getty
Images, Inc Page 459 Linda Steward/iStockphoto

Page 887 PhotoDisc, Inc./Getty Images
Page 890 iStockphoto Page 905 Marcin Balcerzak/iStockphoto
Page 929 Kevin Foy/Alamy Page 935
iStockphoto Page 940 Yoshikazu Tsuno/Getty Images, Inc.

Page 975 Tad Denson/iStockphoto Page 988
Digital Vision/Getty Images Page 991 Yael/Retna

Chapter 24 Page 1061 ©EyeWire Page 1074 Digital
Vision/Getty Images, Inc Page 1083 Sandy Jones/iStockphoto

Chapter 11

Page 485 Cary Westfall/iStockphoto
Page 492 Steve Diblee/iStockphoto Page 498 Catherine dee
Auvil/iStockphoto

Chapter 12 Page 527 Charles Taylor/iStockphoto Page 530
Malcolm Romain/iStockphoto Page 533 PhotoDisc/Getty
Images, Inc.

Chapter 25

Page 1109 Luria Digital
Productions/Taxi/Getty Images Page 1115 Hywit
Dimyadi/iStockphoto Page 1126 PhotoDisc, Inc./Getty Images

Chapter 26

Page 1155 Royalty-Free/Corbis Images
Page 1170 Rebecca Ellis/iStockphoto

Chapter 13

Page 569 David Young-Wolf/PhotoEdit
Page 576 Brandon Laufenberg/iStockphoto Page 584 Norm
Betts/Bloomberg News/Landov LLC

PC-1
PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

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

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

Acknowledgments
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 interest in the book and their regular contributions of ideas to improve 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 WisconsinMilwaukee, for production of interactive chapter reviews and
demonstration problems; Richard Campbell, Rio Grande
College, for WileyPLUS Accounting Tutors and video material; 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 supplements: 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;

xiii

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 students; 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, special 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, associate 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

Jerry J. Weygandt, Madison, Wisconsin
Paul D. Kimmel, Milwaukee, Wisconsin
Donald E. Kieso, DeKalb, Illinois

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

all about Y U

*

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 highinterest 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 discussion. 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 assignment 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 reporting. Presents facts about student debt loads. Asks whether
students should present a negative financial picture to
increase the chance of receiving financial aid.

quick guide
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 2 The Recording Process

CHAPTER 20 Job Order Cost Accounting

Your Personal Annual Report (p. 72)

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.

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 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

CHAPTER 6 Inventories

Avoiding Personal Financial Disaster (p. 1038)

Employee Theft—An Inside Job (p. 268)

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.

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 26 Incremental Analysis and Capital Budgeting
CHAPTER 8 Internal Control and Cash

Protecting Yourself from Identity Theft (p. 373)
Likens corporate internal controls to individuals’ efforts to protect themselves from identity thieves. Presents facts about
how thieves use stolen data. Asks students about the safety of
storing personal financial data on computers.

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.

CHAPTER 9 Accounting for Receivables

Should You Be Carrying Plastic? (p. 416)
Discusses the need for individuals to evaluate their credit positions 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.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

9

th Edition

Accounting
Principles

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

1
Accounting in Action
Chapter

STUDY

OBJECTIVES

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
The Navigator
prepared.

✓

✓ The Navigator
Scan Study Objectives

■

Read Feature Story

■

Read Preview

■

Read text and answer DO IT!
p. 10

■

p. 13

■

p. 19

■

p. 24

■

Work Comprehensive DO IT!

■

Review Summary of Study Objectives

■

Answer Self-Study Questions

■

Complete Assignments

■
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.

Feature Story
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 communicating 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

2

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

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 “openbook 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 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.

The Navigator

Inside Chapter 1…
• How Will Accounting Help Me?

(p. 11)

• What Do General Mills, Walt Disney, and Dunkin’
Donuts Have in Common? (p. 23)

“Inside Chapter x” lists boxes
in the chapter that should be of
special interest to you.

• All About You: Ethics: Managing Personal Financial
Reporting (p. 25)

3

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

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 Building Blocks of
Accounting

The Basic Accounting
Equation

Using the Accounting
Equation

• Ethics in financial
reporting
• Generally accepted
accounting
principles
• Assumptions

• Assets
• Liabilities
• Owner’s equity

• 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.

WHAT IS ACCOUNTING?
Why is accounting so popular? What consistently ranks as one of the top
career opportunities in business? What frequently rates among the most
Explain what accounting is.
popular majors on campus? What was the undergraduate degree chosen
by Nike founder Phil Knight, Home Depot co-founder Arthur Blank, former acting director of the Federal Bureau of Investigation (FBI) Thomas Pickard, and numerous members of Congress? Accounting.1 Why did these people choose accounting? 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 communicates the economic events of an organization to interested users. Let’s take a
closer look at these three activities.
STUDY OBJECTIVE 1

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.

1

The appendix to this chapter describes job opportunities for accounting majors and explains why
accounting is such a popular major.

4

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

What Is Accounting?

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 information 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 relationships. 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.

5

Illustration 1-1
The activities of the
accounting process

Communication
Identification

Recording

Prepare accounting reports

Select economic events (transactions)

Record, classify, and summarize

IAeppoortrt
KIA
NOK
l RRe
nuuaal
A
An

Analyze and interpret for users

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

Essential terms are printed in
blue when they first appear, and
are defined in the end-of-chapter
glossary.

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.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

6

Chapter 1 Accounting in Action

Who Uses Accounting Data
STUDY OBJECTIVE 2
Identify the users and uses of
accounting.

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, production supervisors, finance directors, and company officers. In running a business,
internal users must answer many important questions, as shown in Illustration 1-2.
Illustration 1-2
Questions asked by
internal users

playlist
itunes
L. H.C.B.
Brien's
In
Pepper's
Sgt.
Comes
My Ship
Cowboy?
When
Do Wia
Gonna
What
is A Life
All I Want

MENU

Stockholder

Finance
Is cash sufficient to pay dividends to
Microsoft stockholders?
ST

ST
RIK

E

Marketing
What price for an Apple iPod will maximize the
company's net income?

ON

RIK

E

r
fai es
Un ctic
a
r
P

Snack

ack
ck
k ch
cchi
chips
hi
h

Human Resources
Can we afford to give General Motors
employees pay raises this year?

Beve
Beverages
ev
eve
e
ve
errage
rag
age
a
ge
g

Management
Which PepsiCo product line is the most profitable?
Should any product lines be eliminated?

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 operating 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 financial 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 investors and creditors may ask.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

The Building Blocks of Accounting

7

Yeah!

Investors
Is General Electric earning satisfactory income?

Investors
How does Disney compare in size
and profitability with Time Warner?
What do we do
if they catch us?

BILL
COLLECTOR

Creditors
Will United Airlines be able to pay its debts as they come due?

Financial accounting answers these questions. It provides economic and financial 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

THE BUILDING BLOCKS OF ACCOUNTING
A doctor follows certain standards in treating a patient’s illness. An architect follows certain standards in designing a building. An accountant follows certain standards in reporting financial information. For these standards to work, a fundamental 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,
STUDY OBJECTIVE 3
people won’t play the stock market if they think stock prices are rigged. Understand why ethics is a
In recent years the financial press has been full of articles about finan- fundamental business concept.
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 disclosures 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
3

“U.S. Share Prices Slump,” Wall Street Journal, February 21, 2002.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

8

Chapter 1 Accounting in Action

not depend on the financial statements to be honestly prepared. Information
would have no credibility. There is no doubt that a sound, well-functioning economy depends on accurate and dependable financial reporting.
Ethics Notes help sensitize you
United States regulators and lawmakers were very concerned that the economy
to some of the ethical issues in
would suffer if investors lost confidence in corporate accounting because of unethiaccounting.
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
ETHICS NOTE
decrease the likelihood of future corporate scandals.As a result of SOX, top
Circus-founder P.T. Barnum
management must now certify the accuracy of financial information. In adis alleged to have said, “Trust
dition, top management now faces much more severe penalties for fraudueveryone, but cut the deck.”

lent financial activity. Also, SOX calls for increased independence of the
What Sarbanes-Oxley does is
outside auditors who review the accuracy of corporate financial statements
to provide measures that (like
and increased responsibility of boards of directors in their oversight role.
cutting the deck of playing cards)
The standards of conduct by which one’s actions are judged as right or
help ensure that fraud will not
wrong,
honest or dishonest, fair or not fair, are ethics. Effective financial
occur.
reporting depends on sound ethical behavior. To sensitize you to ethical
situations in business and to give you practice at solving ethical dilemmas, we address 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 All About You boxes (near the chapter Summary; see page 25, for example) 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

#1

ALT

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.

#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.

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 indicate 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

STUDY OBJECTIVE 4
Explain generally accepted
accounting principles and the
cost principle.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

The Building Blocks of Accounting

9

Commission (SEC) is the agency of the U.S. government that oversees U.S.
INTERNATIONAL NOTE
financial markets and accounting standard-setting bodies. The SEC relies on
Over 100 countries use
the FASB to develop accounting standards, which public companies must international standards (somefollow. Many countries outside of the United States have adopted the ac- times called iGAAP). For example,
counting standards issued by the International Accounting Standards all companies in the European
Board (IASB). In recent years the FASB and IASB have worked closely to Union follow international
standards. The differences
try to minimize the differences in their standards and principles.
One important accounting principle is the cost principle. The cost between U.S. and international
principle (or historical cost principle) dictates that companies record as- standards are not generally
sets at their cost.This is true not only at the time the asset is purchased, but significant. In this book, we highlight any major differences using
also over the time the asset is held. For example, if Best Buy purchases International Notes like this one.
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
International Notes highlight
increased in value to $40,000? Under the cost principle it continues to report the differences between U.S. and
land at $30,000.
international accounting
Critics contend the cost principle is misleading. They argue that market value standards.
(the value determined by the market at any particular time) is more useful to financial 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 market 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.

STUDY OBJECTIVE 5
Explain 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 monetary 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 activities 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 expenses of the Boutique. Similarly, McDonald’s, Coca-Cola, and CadburySchweppes are segregated into separate economic entities for accounting
purposes.

ETHICS NOTE
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.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

10

Chapter 1 Accounting in Action

Proprietorship. A business owned by one person is generally a proprietorship.
The owner is often the manager/operator of the business. Small service-type businesses (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 necessary 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 (written or oral) sets forth such terms as initial investment, duties of each partner, division 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 certified public accountants).

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.

Corporation. A business organized as a separate legal entity under state corporation 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 attractiveness 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 produced 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!
BASIC CONCEPTS

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.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

The Basic Accounting Equation

11

action plan

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 companies record assets at their cost. Under the cost principle, the company must also use
cost in later periods as well.

✔ Review the basic concepts
learned to date.
✔ Develop an understanding

of the key terms used.

Related exercise material: E1-1, E1-2, E1-3, E1-4, and DO IT! 1-1.

✓

The Navigator

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 accounting 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 managers 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 strategies to help the sales force be successful. But making a sale is meaningless unless it is a profitable 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 transaction, brokers must understand the numbers involved: Can the buyer afford to make the payments 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.

How might accounting help you?

THE BASIC ACCOUNTING EQUATION
The two basic elements of a business are what it owns and what it owes.
STUDY OBJECTIVE 6
Assets are the resources a business owns. For example, Google has total as- State the accounting equation,
sets of approximately $18.4 billion. Liabilities and owner’s equity are the and define its components.
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).

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

12

Chapter 1 Accounting in Action

Illustration 1-5
The basic accounting
equation

Assets

=

Liabilities

+

Owner’s Equity

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 proprietorship 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 summarizing 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 provides 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 estate 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 minus total liabilities. Here is why: The assets of a business are claimed by either creditors 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 ownership 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.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark


to download more slides, ebooks, and solution manual visit

The Basic Accounting Equation

13

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, revenues 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 different 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.

HELPFUL HINT
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 proprietorship). Owners’ (plural,
possessive) refers to
multiple owners (the
case with partnerships

or corporations).

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 expense (napkins, detergents, aprons, etc.); rent expense; interest expense; and property tax expense.
In summary, owner’s equity is increased by an owner’s investments and by revenues from business operations. Owner’s equity is decreased by an owner’s withdrawals 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.

Basic Equation:

Assets ‫ ؍‬Liabilities

؉

Owner’s Equity

Expanded
Equation:

Assets ‫ ؍‬Liabilities

؉

Owner’s Capital ؊ Owner’s Drawings
؉ Revenues ؊ Expenses

Illustration 1-6
Expanded accounting
equation

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.

PDF Watermark Remover DEMO : Purchase from www.PDFWatermarkRemover.com to remove the watermark