Basic Principles of Accounting and Finance

• Standards to govern measurement rules and level of discourse
• Australian Accounting Standards Board is responsible for technical accounting standards
• AU is moving towards the adoption of International Accounting Standards

The Accounting Equation

ASSETS = LIABILITIES + OWNERS EQUITY

Assets - the economic resources of a business that are expected to be of benefit in the future:

• Cash
• Accounts receivable
• Land/building
• Goodwill

Liabilities - are economic obligations/debts, payable to outsiders (creditors) - eg: accounts payables.

Owners Equity - owners claims to the businesses assets. It is what is left of the assets after liabilities have been deducted.

• Owners have a claim before they have invested in the business
• Also called net assets

Revenues - amounts received r to be received from customers for sales of products or services. Generated from:

Sales

• Performance of services
• Rent received
• Interest received

Expenses - amounts that have been paid or will be paid later for costs that have been incurred to earn revenues:

• Salaries and wages
• Services
• Supplies used
• advertising

Transactions that Affect Owners Equity

Increasing Owners Equity

• Revenue increases OE because they increase the businesses assets but not its liabilities. As a result, the owner's share of the businesses assets increases.
• Owner investments also increase OE

Decreasing Owners Equity

• Owner drawings are those amounts removed from the business by the owner
• Expenses are decreases in OE that occur as a result of using assets or increasing liabilities in the course of delivering goods and services to customers

Financial Statements

• The final product of the accounting process
• Tells how the business is performing and where it stands

Statement of Financial Performance (P&L)

• Summary of businesses revenues and expenses for a specific period
• Presents a moving financial picture of business operations during a period
• Shows net profit (revenues - expenses)

Statement of Owners Equity

• Presents a summary of the changes that occurred in the businesses owners' equity during a specific time - e.g. month or year.

Statement of Financial Position (Balance Sheet)

• Lists all the entity's assets, liabilities and OE as of a specific date
• A snap shot of the entity

Statement of Cash Flows

• Reports amount of cash entering and exiting an entity during a period
• Shows net increase or decrease during the period and cash balance at the end of the period

Accounting Terms

The Account - the basic summary device of accounting is the account - the detailed record of the changes that have occurred in a particular asset, liability or owners equity during a period of time. Are grouped in three broad categories, according to the accounting equation.

Ledger - for convenient access to the information, accounts are grouped in a record called the ledger, which usually takes the form of a computer listing.

Classification of Accounts

1. Cash at Bank account - shows the cash effects of a businesses transactions. Cash means money and any medium of exchange that a bank accepts at face value. Cash at bank includes bank account balances, currency, coins and cheques.
2. Bill Receivable - a written pledge that the customer will pay a fixed amount of money by a certain date. It offers more security for collection than a mere account receivable does.
3. Accounts Receivable - a business may sell its goods or services in exchange for an oral, implied or documented promise of future cash receipt. Such sales are made on credit (on account.)
4. Prepaid Expenses - a business often pays certain expenses in advance. It is seen as an asset because the business avoids having to pay cash in the future for the specified expense. The ledger usually holds a separate asset account for each prepaid expense. Prepaid rent and prepaid insurance are two examples.
5. Land - the land account is a record of the cost or value of land a business owns and uses in its operations. Land held for sale is account for separately in an investment account.
6. Buildings - the cost or value of a business's buildings - office, warehouse, garage, etc, appears in the Buildings account. Buildings held for sale are separate assets, accounted for as investments.
7. Equipment- a business has a separate asset account for each type of equipment - office equipment and store equipment, for example.

Classification of Accounts

1. Bills Payable - this account is the opposite of the Bills Receivable account and represents the amounts that the business must pay because it signed bills of exchange to borrow money or to purchase goods or services.
2. Accounts Payable - this account is the opposite of the Accounts Receivable account. The oral, implied or documented promise to pay off debt arising from credit purchases appears in the Accounts Payable account.
3. Accrued Liabilities - a liability for an expense that have been incurred by the business, but not paid for yet. Examples include Taxes Payable, Interest Payable.

Classification of Accounts - Owners Equity

1. Capital - this account shows the owner's claim to the assets of the business. After total liabilities are subtracted from total assets, the remainder is the owner's capital.
2. Drawings - the amounts taken out of the business by its owner appear in a separate account. If drawings were recorded directly in the Capital account, the amount of owner drawings would not be highlighted and decision-making would be difficult. This account shows a decrease in owner's equity.
3. Revenues - the increase in owner's equity created by delivering goods or services to customers are revenue. If a business lends money to an outsider, it will need an interest Revenue account for the interest earned on the loan.
4. Expenses - a business needs a separate account for each type of expense, such as Salary Expenses, Rent Expense and Advertising Expense.