Financial Accounting for Managers

Trimester 1 - MBA Christ University Institute of Management

INTRODUCTION TO ACCOUNTING – Units 1 & 2LEARNING OBJECTIVES

Understanding the business organisationsRole of accounting in making economic and business decisionsUses of accounting informationAssumptions underlying accounting measurement & their significanceCommon forms of business organisationRole of accounting in capital markets and corporate governanceAccounting equation and effects of transactions on the equationFour major financial statements and their inter-relationshipImportance of ethics in accounting

2Source: Financial Accounting a Managerial Perspective-4th edition, Prof. R Narayanaswamy

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What is Accounting

Accounting is the language of business

Who should know accounting?

Accounting information and economic decisions

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UNDERSTANDING BUSINESS ORGANISATIONS

Business organizations provide products and services. They can be either

Merchandising organizations

Manufacturing organizations

Service organizations

Business organizations perform complex operations…but ultimately they are Cash dispensing machines…

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BUSINESS ORGANISATIONSCOMPANY / ORG. NAME

Amazon.comApollo HospitalsApple ComputersBharti AirtelBoeingDeloitteHindustan UnileverInfosysL & TONGCTata Motors

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BUSINESS ORGANISATIONSCOMPANY / ORG. NAME PRODUCTS / SERVICES

Amazon.com Internet retail in productsApollo Hospitals Healthcare

Apple Computers Computing, communications and entertainment

Bharti Airtel TelecomBoeing Civilian and military aircraftDeloitte Accounting, auditing and business adviceHindustan Unilever Toothpaste, soaps and detergentsInfosys Software products and servicesL & T Designing and building roads and flyoversONGC Exploring and extracting petroleumTata Motors Passenger cars and commercial vehicles

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Accounting information systemINPUTS

Business transactions External events (e.g. fire,

earthquake, changes in tax laws etc.)

PROCESSINGAccounting principlesAccounting standardsManagement estimatesLaw and regulationsTransaction processing

conventionsAccounting records

OUTPUTSIncome statementBalance sheet +

Expl. NotesCash flow statementManagement commentarySpecial reports and analysisTax & regulatory filings

USERSShareholders, Bankers,

Employees, Suppliers, Customers

Govt., RegulatorsSecurity analysts, Rating

agencies, Media (TV channels & Newspapers

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ACCOUNTING

PRINCIPLES Historical

cost Accrual Matching Disclosure

ACCOUNTING

ASSUMPTIONS

Accounting entity

Going concern

Periodicity Money

measurement

ACCOUNTING

CONSTRAINTS

Estimates & Judgments

Materiality

Consistency

Conservatism

Accounting is governed by

Accounting Standards & Policies:e.g. Indian GAAP, US GAAP, IAS, IFRS

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Forms of Business OrganisationBUSINESS

ORGANISATIONS

Unlimited liability

Sole Proprietorshi

pPartnership

Limited liability

LLP Company

Private limited

Public limited

Listed Unlisted

Key differences in terms of:1. Ownership & Liability2. Min. membership3. Decision making4. Government regulations5. Suitability to type of business

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ACCOUNTING, CAPITAL MARKET & CORPORATE GOVERNANCE

Signaling quality of accountants / managers has an impact on the performance of a stock in the capital market. They include

Paying higher dividends Giving credible guarantees of higher returnsAppointing a reputed accounting firm to audit its financial statementsHaving eminent outsiders as independent directors on the company’s broad of directors Conforming to superior standards of of accounting and disclosure

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Fraud and Ethical issues in Accounting

What leads to fraud and unethical accounting?

Fraud-hit companies: e.g.SatyamEnronWorld Com

The Satyam case

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Satyam CaseOn January 07, 2009, the then CMD of Satyam Computers stunned the world by disclosing that he had manipulated the company’s financial statements for several quarters. The total size of the manipulation was Rs. 70 bn. As an example, in the quarter ended Sep 30, 2008. Satyam reported a revenue of Rs 27 bn and and operating margin of Rs 6.5 bn (24 per cent of revenue), as against the actual revenue of Rs 21 bn and an operating margin of Rs0.61 bn (3 per cent of revenue). This resulted in reporting fictitious cash of nearly Rs 6 bn in that quarter alone. Significantly, the company was listed in the NYSE (besides India) and audited by a member of big four accounting firms and had an impressive-looking board of directors – its independent directors were eminent individuals with long experience in Govt., ( a retired cabinet secretary), industry ( the investor of the Pentium chip), and academics (a professor of accounting at a top US business school, dean of leading business school in India, and a retired director of a top engineering school in India). CMD stated, “it was like riding a tiger, not knowing how to get off without being eaten.” This is the key point about any accounting fraud. It is easy to start a fraud but impossible to exit without being caught. A fraud often unravels in the wake of an industry downturn, a family dispute, a disgruntled employee blowing the whistle, or a problem with the political establishment. At the time of writing, the Satyam trial is on.

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Financial Frauds… broad three reasons

• Pressure•Opportunity• Rationalization

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Financial Statements

Income Statement / Profit and Loss statement / Profit and Loss Account

Statement of Retained Earnings

Balance Sheet

Cash Flow Statement

“Identify the components in the financial statements using Annual reports”

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THE ACCOUNTING EQUATION

ASSETS(Economic resources)

Resource which is / are1. Controlled by the entity2. Expected to provide future

economic benefits

LIABILITIES(Claims – others)

Requires payment of cash to outsiders

OWNERS EQUITY(Claims – owners)

Residual interest in the assets of the entity after deducting all liabilities.

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Classify the following into Asset, Liability & Owners EquityName of the account Asse

tLiabili

tyOE

Cash Capital brought in by the owner initiallyFurnitureLoan takenBankPurchases or SuppliesSupplier’s account / Creditor (normally associated with a name)

Customer’s account / Debtor (normally associated with a name)

Sales / RevenueInsurance premiumRentSalaryCommissionDrawings

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Classify the following into Asset, Liability & Owners EquityName of the account Asse

tLiabili

tyOE

Cash ✓Capital brought in by the owner initially

✓

Furniture ✓Loan taken ✓Bank ✓Purchases or Supplies ✓Supplier’s account / Creditor (normally associated with a name)

✓

Customer’s account / Debtor (normally associated with a name)

✓

Sales / Revenue ✓Insurance premium ✓Rent ✓Salary ✓Commission ✓Drawings ✓

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THE ACCOUNTING EQUATIONASSETS

(Economic resources)Resource which is / are1. Controlled by the entity2. Expected to provide future

economic benefitsE.g. a. Physical assets like Land,

Buildings, Plant & Equipment, Inventory etc.

b. Intangible assets like Receivables, Investments, Legally enforceable claims on others

Should result into Cash at some point in time in future

LIABILITIES(Claims – others)

Requires payment of cash to outsidersE.g.Payables, Salaries, Loans repayable, Expenses payables etc.

OWNERS EQUITY(Claims – owners)

Residual interest in the assets of the entity after deducting all liabilities.Owners Equity = [Share capital + Income – Expenses – Drawings – Dividends]

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EFFECTS OF TRANSACTIONSASSETS

(Economic resources)LIABILITIES & OE(Claims –Owners &

others)1 + +

4 No effect + & - (Net impact ‘Nil’)

2 + & - (Net impact ‘Nil’) No effect3 - -

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Difference between Financial & Management accounting

Financial Accounting Management Accounting

Users of Info. Primarily External Internal

Regulations Compliant to Accounting Standards and local statutes & GAAP

Voluntary

Data source & Information

i. Financial transaction based accounting system

ii. Highly summarized form

I. Financial & Non-Financial transactions from accounting, non- accounting, market, Industry etc.

II. Information is very detailed

Nature of Info. Historic, Objective, Auditable, Not timely, Not always relevant, Highly aggregated

Historic & Current, Future Oriented, Subjective, Relevant, Timely, Supplied at various level of details to suit manager’s specific needs

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End of Units 1 and 2

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Numericals