The chapter begins with an introduction to accounting. The text discusses how accounting information is needed by various users—individuals, businesses, investors, creditors, government regulatory agencies, taxing authorities, nonprofit organizations, and others. Financial and managerial accounting are compared. Various entities that affect the accounting profession are mentioned. The role of ethics and standards of professional conduct in accounting is presented. The proprietorship, partnership, and corporate forms of business are briefly described. Generally accepted accounting principles (GAAP) are introduced and the entity concept, the reliability principle, the cost principle, the going-concern concept, and the stable-monetary-unity concept are explained.

The next section of the chapter introduces the accounting equation: Assets = Liabilities + Owner’s Equity. Each element of the equation is defined. Examples of a variety of transactions are analyzed and their impact on the accounting equation is discussed. The financial statements—income statement, statement of owner’s equity, balance sheet, and statement of cash flows—are illustrated. The interrelationship of the financial statements is emphasized. Decision Guidelines help students answer basic questions about a business. A summary problem allows students to record the effect of transactions on the accounting equation and prepare financial statements.

1. Use accounting vocabulary
2. Apply accounting concepts and principles to business situations
3. Use the accounting equation to describe an organization’s financial position
4. Use the accounting equation to analyze business transactions
5. Prepare and use the financial statements
6. Evaluate the performance of a business

1. Accounting is the system that measures business activities, processes information into reports, and communicates these findings to decision makers. Exhibit 1-1 illustrates the flow of information in an accounting system.

1. Financial statements are documents that report on an individual’s and/or an organization’s business in monetary amounts.
2. Bookkeeping is the procedural element of accounting. Computers are used to make bookkeeping less time-consuming.

1. The users of accounting information are people who need to make business decisions.

1. Individuals use accounting information to manage bank accounts, evaluate job prospects, make investments, and decide whether to buy or rent a home.
2. Business managers use accounting information to set goals, evaluate progress toward the goals, and determine corrective action if necessary.
3. Investors use financial statements to help determine what income they can reasonably expect from their investment.
4. Creditors determine a borrower’s ability to meet scheduled payments on a loan by analyzing financial statements.
5. Government regulatory agencies, such as the SEC, verify compliance with financial and other reporting requirements.
6. Taxing authorities, such as the IRS, collect taxes based on income determined by using accounting information.
7. Nonprofit organizations use accounting information to deal with budgets, payrolls, and other financial issues in much the same way as profit-oriented businesses do.
8. Other users of accounting information include labor unions, consumer groups, and the general public.

C. Users of accounting information may be either external users or internal users.

1. Financial accounting focuses on information that will be useful to external users, such as investors and creditors.
2. Management accounting focuses on information that will be useful to internal users, such as top executives, department heads, etc.

D. Accounting standards are determined in the private sector.

1. The FASB works with the SEC, the American Institute of Certified Public Accountants (AICPA), and the Institute of Management Accountants (IMA).
2. CPA’s, Certified Public Accountants, are accountants who are licensed to serve the general public rather than one particular business.
3. CMA’s, Certified Management Accountants, are licensed to work for a single company. Exhibit 1-2 diagrams the relations among these organizations.

1. Accounting concepts and principles are guidelines that govern how accountants measure, process, and communicate financial information. These practices are also referred to as generally accepted accounting principles (GAAP).
2. Financial information must be relevant, reliable, and comparable to be useful.
3. Various concepts and principles are discussed throughout the book.

1. The entity concept states that each entity is an economic unit and is kept separate from other entities so as not to confuse the affairs of various entities.
2. The reliability (objectivity) principle states that accounting records should be based on the most verifiable data. The historical cost of an item is considered reliable.
3. The cost principle states that assets and services should be recorded at actual (historical) cost.
4. The going-concern concept assumes that the entity will remain in operation for the foreseeable future. The market value of a business’s assets is only relevant if that business is going out of business; thus, historical cost is the basis for recording assets.
5. The stable-monetary-unit concept allows accountants to ignore the effect of inflation in the accounting records.

1. The accounting equation shows the equality between the assets and the claims on the assets. (See Exhibit 1-4.)

2. The accounting treatment of all business transactions is based on the accounting equation:

1. Assets are economic resources owned by a business that are expected to be of benefit in the future.
2. Liabilities are creditor’s claims to the assets. Liabilities are obligations to outsiders.
3. Owner’s Equity is the owner’s claim to the assets. It is the amount of assets that remains after subtracting the liabilities. Exhibit 1-5 illustrates the types of transactions that increase and decrease owner’s equity.

1. Investments by owners and revenues, amounts earned by delivering goods or services to customers, increase owner’s equity.