Financial Statements and
Personal Accounting
ACCT-1004 – Principles of Accounting I
Everyone should have a basic understanding of the principles and related concepts of accounting as they relate to many aspectsof your life:
Why do I need to study accounting?
Personal – To keep track of your financial
records so you have an idea of the value of
what you own vs. what you owe
Employment – To be able to calculate
whether or not your employer is paying
you what you have earned
Professional – You may be required to interpret
financial information
Example: Marketing Executive required to prepare
Cash or sales budget
Business – You may own a business and want to “keep the books” or
at least know how to determine whether or not you are earning a
profit
The purpose of Accounting
•To keep track of activities that impact how much you are worth
• Personal net worth and the business owner’s equity
•Understand a few key definitions and terms
• The “language of accounting.”
What is the definition of an asset?
An introduction to Accounting – Key terms
Ownership
Assets
What is a liability?
Amounts that you owe.
An introduction to Accounting – Key terms
Liabilities
-Line of credit for tuition
-Credit cards-Car loan
If you sell all your assets and use the cash to pay whatever you owe (liabilities), the remaining cash represents how much you are worth.
1. Describe and calculate net worth
$100,000 $60,000 $40,000
Assets Liabilities
“If you want an accounting of your worth, count your friends.”
Merry Browne
Assets – Liabilities = Net Worth
OR
Assets = Liabilities + Net Worth
OWN
Calculation of Net Worth
Do AP-1
OWE
The affect of transactions on Net Worth
Refer to AP-1 found on page 6 of your workbook:
1. Darryl purchased a new laptop on January 1, 2010 worth $2,000.
He paid the entire amount using cash.
2. He also purchased a new cell phone worth $300 and an mp3 player worth
$100 on account(using his credit card).
How will these transactions affect Darryl‟s net Worth?
Assets = Liabilities + Net Worth
1. Darryl used his cash to purchase the laptop.
Both are Assets; therefore, if he used one asset
to purchase another, has his Net Worth changed?
2. Darryl then purchased a new cell phone and mp3 player using his credit
card. The cell phone is an Asset. Darryl now owes a Liability for this purchase.
Has his Net Worth changed?
Answer: Neither activity has changed Darryl‟s Net Worth.
Other transactions that do not affect Net Worth
1. When borrowing $100 from a friend:
• You are richer in cash, but there is
no change to net worth
• You still owe the cash.
2. When repaying your friend:
• You are cash poorer, but there is
still no change to net worth.
+100
+100
NO CHANGE
1
-1002
1
-1002
INVESTMENTS
• Not all transactions affect Net worth
Transactions involving buying or
selling assets (for the same
amount you paid) and,
borrowing and paying back cash,
have no affect on your Net Worth
Conclusion:
INVESTMENTS
2. Interpret the Balance Sheet and The Income Statement
•The Balance Sheet is the formal
document to report your Assets,
Liabilities and Net Worth on a
specified date.
INVESTMENTS
Do AP-2 on page 6 in your workbook
What is April Rose‟s Net Worth?
Now do AP-3
- The Income Statement is used to report
revenues and expenses for a given
period of time.
The Income Statement
SURPLUS(DEFICIT)
- If our are greater
than our , we have a
or an increase in our
Net Worth
-If less, we are in a ( or Loss
position or a decrease in our
Net Worth
At the end of each period:
• The income statement reports all Revenues and Expenses. This
allows you to update your Net worth on the Balance Sheet.
• Each new accounting period begins with zero balances in the
Temporary Accounts so that we can keep track of whether we earned
a Surplus(Net Income) or a Deficit(Loss) for that period of time.
The “Accounting Period”
An accounting period is typically a month,
a quarter or a year.
“Temporary Accounts” are used to keep track of
transactions that resulted in Revenue and
Expense amounts
Imagine the accounting equation as a scale
The scale must always be in balance.
3. Explain how the Accounting Equation works
Do AP-4 and AP-5 on page 8 in your workbook
4. Record double entries in T-Accounts
-If we place each item into
its own “T-Account” we can
keep track of transactions that
will have an affect on the balance in
that particular account
Assets
122,000
Liabilities80,000
Net Worth
42,000
Rule#1:
-Increases to Assets will result in an
amount being added to the “left side”
of the T-account while decreases will
be placed on the “right side”
Rule #2:
Increases to Liabilities or Net Worth
will result in an amount being added
to the “right side” of the T-account
while decreases will be placed on the
“left side”
Record double entries in T-Accounts
Assets122,000
Liabilities80,000
Net Worth42,000
Since the “Net Worth” account merely reports its final balance on
a given date, we need to keep track of Revenues, which
„increase‟ Net Worth, and Expenses which „decrease‟ Net Worth,
separately in their own T-Accounts
1. 3,000
Revenue1. 3,000
2. 1,000
2. 1,000
3. Revenue – = Surplus3,000 1,000 2,000
3. 2,000
44,000124,000
ASSETS = LIABILITIES + NET WORTH124,000 80,000 44,000
80,000
Temporary Accounts
Revenue and Expense Accounts
Salary Revenue
x
Car Interest Expense Insurance Expense
Entertainment Expense Food Expense
x x
x x
Revenues
Expenses
Increasing (decreasing) Net Worth
Do AP-6
AP-8,9,10 & 11 should also be done for more practice
• If Total Revenues are greater than Total
Expenses, Net Worth has been increased.
• If Total Expenses are greater than Total
Revenues, Net Worth has been decreased.
Surplus/Net Income or (Deficit/Net Loss)
+$1,000
+$1,000
5. Explain Accrual Accounting
• Accrual Accounting is based on the premise that
Revenues should be recognized in the period they were
„earned‟ and Expenses should be recorded in the period
which they were „incurred‟ or happened, which may or
may not be in the same period when cash was either
received or paid.
• Cash-Based Accounting recognizes Revenues in the
period when the cash was received and Expenses
when cash was paid
Revenue Recognition and Matching Principle
Violates Revenue Recognition and Matching Principle
6. Understand and apply the matching principleand the concept of materiality
Accrual Accounting Matching Principle
Revenues:
Salary $5,000
Expenses:
Food $ 1,000
Gas 500
Entertainment 1,500 3,000
Net Income $ 2,000
Gas 02,500
2,500X
Materiality
• The word „materiality‟ in accounting refers to the level of
importance placed on whether or not a transaction is
recorded properly.
• When related to the Matching Principle, it can be said that if something is
“not material” then we aren‟t concerned that it hasn‟t been recorded in the
correct accounting period.
• If something is said to be of a „material‟ amount, then we should try
to record in the correct accounting period
• The level or dollar amount of materiality is sometimes determined by applying
a percentage of total Assets, total Revenues or some other amount
Do AP-16 and18 should now be completed, AP-17 done for more practice
• $500 amount for Gasoline Expense: Material or not material?
Prepaid Expenses
Amounts paid “in advance” of when the expense is
reported.
-Insurance
-Rent
-Property taxes
Example: On Jan. 1 you paid $3,600 for a one year automobile insurance policy.
Prepaid Expenses
Cash
3,600
3,600
Insurance Expense
300
300
3,300
Jan. 1
Jan. 1
Jan. 31
Jan. 31
7. Understand the concept of depreciation under the personal context
According to the text, the word „depreciation‟ means to record
a portion of an asset‟s cost as an expense for each period it
is used to help earn revenue.
Computer Accumulated Depreciation - Computer
Depreciation Expense
1,200 400
400
Asset Accounts – Balance Sheet
Expense Accounts - Income Statement
Yr. 1 $1,200 – $400 = $800 Yr. 2 $1,200 – $800 = $400 Yr. 3 $1,200 – $1,200 = $0
Yr. 1
Yr. 2
Yr. 3
400
400
1,200 Yr. 1Yr. 2Yr. 3800
Do AP-19, 20
Page 31 of the text demonstrates how „depreciation‟ is
applied to a computer that cost $1,200 and is expected to
last 3 years. $1,200/3 = $400 (Straight-line Depreciation
Method)
A “non-cash” expense of the period
8. Distinguish between Capital and Revenue
Assets
122,000
Liabilities
80,000
Net Worth
42,000
1. 3,000
Revenue1. 3,000
2. 1,000
2. 1,000
3. Revenue – = Surplus3,000 1,000 2,000
3. 2,000
49,000129,000
ASSETS = LIABILITIES + NET WORTH129,000 80,000 49,000
80,000
• Revenues, which „increase‟ Net Worth, and Expenses which „decrease‟
Net Worth, separately in their own T-Accounts with the “Net Income (Loss)
added to the “Net Worth” account at the end of the accounting period.
5,000 5,000
AP-21, 22
•Depositing a „gift‟ of $5,000 will increase Assets and Net Worth but, it is
not considered or recorded as a Revenue because it was not earned
9. Describe the three sources and uses of cash
• Cash Flow Statement
Operating – Amounts received(paid) in connection
with earning revenues and expenses
Investing – Purchasing or selling assets used to
help earn revenues(Example: Vehicle)
Financing – Borrowing(paying back) loans
• Fact: Changes in Cash don‟t necessarily mean a change in
Net Worth!
AP-23
10. Understand the differences between market value and book value
Market value – What the asset would be worth if it was sold
Book value – The initial amount an asset was recorded on
your books less any accumulated depreciation.
“The market value of your car is what you would get for it if it were sold today”
“The book value of your car is what you paid for it initially less any Accumulated
Depreciation you have recorded in your books.”
Homework to be completed before starting Chapter 2
Complete online:
Chapter 2
Quiz
•Complete all AS and AP
questions listed on the Detailed
Course Content page for Chapter 1.