PowerPoint slides to accompany

Chapter 1
Introduction to
accounting and
finance

Compiled by N. C. McGuigan and T. Kern 2011 Pearson

Learning objectives
1. Define accounting
2. Discuss the role of accounting information
3. List the main user groups for a business entity
4. Summarise the different uses that can be made of accounting
information
5. Explain the different procedures involved in the accounting
information system
6. State the key characteristics of accounting information

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Learning objectives contd

7. Discuss the recent crisis in accounting
8. Relate the steps in the planning process
9. Discuss the nature of control in the decision-making process
10. List some alternative business objectives
11. Compare and contrast financial and management accounting
12. Provide an overview of the main financial statements

2011 Pearson

Nature and role of accounting

Learning objective 1: Define accounting

Accounting is concerned with the collection,

analysis and communication of economic
information.

Accounting information is useful to those who

need to make decisions and plans about
businesses, and for those who need to control
those businesses.
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Nature and role of accounting contd

Learning objective 2: Discuss the role of accounting information

Stewardship
The more traditional role of providing accountability
reports of transactions for a given period

Decision usefulness
The more recent role of assisting users with making
informed choices about the allocation of scarce
resources
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Nature and role of accounting contd

Learning objective 3: List the main user groups for a business entity

Figure 1.1

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Nature and role of accounting contd

Learning objective 4: Summarise the different uses that can be made
of accounting information
User group

Use

Customers

To assess the ability of the business to continue in business and to

supply the needs of the customers.

Suppliers

To assess the ability of the business to pay for the goods and services
supplied.

Government

To assess how much tax the business should pay, whether it complies
with agreed pricing policies, or with environmental legislation, etc.

Owners

To assess how effectively the managers are running the business and to
determine likely levels of risk and return in the future.

Lenders

To assess the ability of the business to meet its obligations and to pay
interest and to repay the principal.
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Nature and role of accounting contd

Learning objective 4: Summarise the different uses that can be made
of accounting information contd
User group

Use

Employees (nonmanagement)

To assess the ability of the business to continue to provide

employment and to reward employees for their labour.

Investment
analysts

To assess the likely risks and returns of the business in order to

determine its investment potential and to advise clients accordingly.

Community
representatives

To assess the ability to continue to provide employment, to use

community resources, to help fund environmental improvements, etc.

Managers

To help make decisions and plans for the business and to help
exercise control to try to ensure that plans come to fruition.

Competitors

To stay abreast of what and how well other businesses in the market
are doing.
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Accounting as an information system

Learning objective 5: Explain the different procedures involved in the accounting
information system

Identify and capture relevant economic information

Record the information collected in a systematic manner

Analyse and interpret the information collected

Report the information in a manner that suits the needs of

users

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Accounting as an information system

contd

Figure 1.2

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Accounting as a service function

Learning objective 6: State the key characteristics of accounting information

Relevance (ability to influence decisions)

Reliability (free from material error or bias)

Comparability (same treatment for measurement and

presentation purposes for basically same items)

Understandability (clarity and readability of presentation)

Balance between benefit and cost of information (Is the

benefit worth the cost?)

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Characteristics of accounting
information

Figure 1.3
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Accounting in crisis
Learning objective 7: Discuss the recent crisis in accounting

Enron, HIH, Feltex, and over 20 finance companies in

NZ are cases of recent notoriety

HIH collapse caused losses of up to $5.3 billion

Resultant scrutiny led to accusations of dubious

accounting practices

Credibility of financial reports has been undermined

Tighter controls on quality of financial information have

been introduced
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Decision making, planning and

control
Planning is vital for successful businesses of all sizes
Where more than one manager is involved, coordination is vital
Closely linked to planning is decision making
Planning involves decisions about the best course of action
Planning covers both long-term and short-term scenarios
Over time, plans need to be adapted to changing circumstances

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Decision making, planning and

control contd
Learning objective 8: Relate the steps in the planning process

Planning is usually broken down into three stages:

1.

Setting the objectives or mission of the business

(Detailing what the business is basically trying to achieve)

2.

Setting long-term plans

(Describing how the business will set out to achieve its
long-term objectives, usually over a period of five years or
more)

Setting detailed short-term plans or budgets

(Typically financial plans for one year ahead)
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Decision making, planning and

control contd
Learning objective 9: Discuss the nature of control in the decisionmaking process

Control is the process of making planned events actually occur

Accounting is useful in the control process to compare planned
with actual outcomes in commonly specified terms
Managers can take steps to get the business back on track if
accounting information highlights relevant variances between
planned and actual outcomes

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Overview of the planning and control

process
Step 1

Identify business objectives

Step 2

Consider options

Step 3

Prepare a long-term plan based on the

most appropriate option(s)

Step 4

Prepare short-term plans (budgets)

Step 5

Perform and collect information on actual performance

Step 6

Respond to divergences between plans and actuals,

and exercise control

Step 7

Revise plans (and budgets) if necessary

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Figure 1.4

Business objectives
Learning objective 10: List some alternative business objectives

The popular suggested business objectives include:

Maximisation of sales revenue (this does not consider the
need to cover business costs)
Maximisation of profit (this takes in to account sales
revenues as well as expenses, but is limited as it does not
include other factors such as the level of investment or risk)

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Business objectives contd

Maximisation of return on capital employed (accounts for
level of profit as well as the level of investment)
Survival (this is the aim of most businesses, however it is
rarely a primary objective)
Long-term stability (like survival, most businesses aim for it,
but it is rarely a primary objective)
Growth (encompasses survival and long-term stability and
aims to strike a balance between short- and long-term benefits,
however it is probably not a specific enough target)

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Business objectives contd

Satisficing (attempting to grant a satisfactory return to all
stakeholders not just the owners; difficult to define as a
practical benchmark for business decisions)
Achieving sustainable development (achieving economic
growth while minimising or eliminating environmental impact
and meeting societys expectations of good corporate
citizenship)
Enhancement/maximisation of business wealth (the
business takes decisions intended to make it worth more;
encompasses all the valuable features of the previous
suggested objectives and is likely to be the main financial
objective for many businesses)
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Financial and management

accounting
Learning objective 11: Compare and contrast financial and
management accounting

Management accounting is concerned with providing

managers with information required for the day-to-day running
of the business
Financial accounting is concerned with providing the other
users with useful information

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Financial and management

accounting contd
Financial accounting

Management accounting

Focus

Mainly external

Internal only

Nature of reports

General purpose

Specific purpose

Level of detail

Broad overview

Quite detailed

Restrictions

Accounting standards and other

regulations

No restrictions

Reporting interval

Mainly semi-annual or annual

Whenever required

Time horizon

Mainly historical

Both past and future

Range of information

Quantifiable in money terms;

Can contain non-financial
focus on objective and verifiable information; less focus on
data
objectivity and verifiability

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The main financial statements an

overview
Learning objective 12: Provide an overview of the main financial statements

There are four main financial statements:

The statement of cash flows (shows the sources and uses of cash
for a period)

The statement of comprehensive income (commonly referred to

as the income statement, sometimes called the profit and loss
statement; measures and reports how much profit has been
generated in a period)

The statement of changes in equity (sometimes referred to as the

statement of changes in owners equity; shows all changes in owners
interest in the net assets from transactions during the period)

The statement of financial position (commonly referred to as the

balance sheet; shows the assets of a business and the claims on
those assets)

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A simple example
Paul starts a wrapping paper sales business with $100
On the first day, he uses the $100 to purchase wrapping paper
(inventory)
On the same day he sells 75% of that inventory for $110 in total

What cash movements took place in the first day of trading?

Closing cash balance for the day is $110 (opening balance $100
$100 stock purchase + $110 sales = $110)
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A simple example contd

How much did wealth increase as a result of the first days
trading?
The increase or decrease in wealth is measured as the
difference between sales made and the cost of goods sold
sales were $110 less cost of goods sold $75 = profit of $35
Note that only the cost of the paper sold is measured against the
sales to find profit, not the total cost of the wrapping paper
purchased.

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A simple example contd

What is the financial position at the end of the first day?
At the end of the first day, a balance sheet is drawn up, showing the
resources held by the business:
Cash (closing balance) =
$110
Inventory (stock available for resale) = $25
Total business wealth at end of day = $135
Note that the profit of $35 has led to an increase in wealth of $35.
Note also that the increase in cash of $10 is not the same as the
increase in wealth because wealth does not exist only in the form of
cash (see inventory).
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Financial statements relationships

Balance sheet at the
beginning of Period 1

Balance sheet at the

end of Period 1

Balance sheet at the

end of Period 2

Income statement

Income statement

Cash flow statement

Cash flow statement

Statement of changes
in equity

Statement of changes
in equity

Period 1

Period 2

Time
Figure 1.6

2011 Pearson