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ACCT 2401 - Ch 1 - Business, Accounting, and You

by: Michaela Francisco

ACCT 2401 - Ch 1 - Business, Accounting, and You 2401

Marketplace > East Carolina University > Accounting > 2401 > ACCT 2401 Ch 1 Business Accounting and You
Michaela Francisco
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Pay attention to terms: Accounting, Business, Goods, Services, Revenue, Profit, Stakeholder, Liability, Asset, Net Income, Net Loss, Types of Businesses, Accrual Accounting, Fundamental Accounting ...
Financial Accounting
Mark McCarthy
Class Notes




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This 8 page Class Notes was uploaded by Michaela Francisco on Monday January 18, 2016. The Class Notes belongs to 2401 at East Carolina University taught by Mark McCarthy in Winter 2016. Since its upload, it has received 47 views. For similar materials see Financial Accounting in Accounting at East Carolina University.


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Date Created: 01/18/16
Michaela Francisco 1/18/2015 ACCT 2401 Ch 1 Business, Accounting, and You Accounting is like the language of business. Accountants give the business managers the information to whether or not their business is winning or losing through financial calculations. Accounting: the process of recognizing, measuring, recording, and reporting information about a business’s transactions To be an accountant, you have to know how to play the game of business. Other businesses are your competitors. An accountant needs to know the objective, their role, the rules, and how to compete. Business: a legal organization which attempts to create value by exchanging products with customers for money. An entity requires 3 things to be a business - Operate by the law - Has to exchange a good or service for a monetary value - The customer values the good or service being provided by the entity (most important) Product: good or service purchased or produced by a business to be sold Goods: a good is a physical item that is tangible Services: an activity that exists but is intangible Customer: a person or entity that purchases a product from a business Sale: the exchange between a business and customer where the business provides a customer a product and the business receives money or money substitutes Value: price someone is willing to pay for an item Customers seek to make an exchange where the value of the good/service is more to them than the money they are giving up. Customers are the most important aspect of a business and they want to feel like they got a good deal from their transaction. Cost: amount of money or money substitutes that a business pays to receive an item used in operating a business Revenue: amount of money of money substitutes that a business receives from the sale of a product Profit: the revenue from a sale minus the cost of the sale Accountants need to be able to calculate profits, costs, and revenue. Risk: the uncertainty that could result in an outcome not desired. Risk is an important factor when the business is trying to make a profit. How much risk is involved when trying to make money? When a product is made, the business does not know exactly how well the product will sell. Loss: a negative profit which occurs when the cost of a sale is greater than the revenue from the sale Accountants have to manage and measure risk and compensate for it. Example for students: Accumulating school loan debt was a risky investment. You have to plan how you will pay them back. Stakeholder: a person or entity that is affected by a business Stakeholders can be anyone affected by the business. Stakeholders can be employees, society, lenders, or customers to name a few. All stakeholders give and receive value from an exchange with that business and what they receive should be worth more than they are giving. It is always up to the stakeholder whether or not they want to pursue the exchange with the business. The customer’s opinion on product value is the number one thing businesses focus on. The more the customer values a product, the more they are willing to pay for it. How to Start a Business The business needs to acquire money from lenders and get the owners to also add money to the business in exchange for ownership. Liability: an amount owed to a lender or creditor Stockholders’ equity/owners’ equity: money provided to the business by owners either through an initial investment or the retention of profits Operating a Business After acquiring money for the business, the business has to also acquire assets and employees. Asset: economic resource that a business owns and can use to operate the business Employees: people hired by the business to operate the business The goal at this point is to use the assets and employees to operate the business and gain more money than what was spent. Expenses: money or other value surrendered due to the sale of goods or services or to operating the business Lenders that invested in the company have to be paid interest for the time that their money is borrowed. Interest is an expense the company must pay back. Interest: expense of using borrowed money for a period of time After expenses are paid, the business receives the net income Net Income = Revenue – Expenses An important question to ask at this point is “Is the net income high enough to be worth the risk and time involved?” Businesses want the greatest return value from their time and effort spent. Remember Lenders = Liabilities Owners = Equity Types of Businesses For-Profit Business: business that attempts to create an exchange/sale where revenue exceeds expenses and creates a profit Not-for-profit: business that attempts to create an exchange/sale where revenue equals costs Service Business: sells a service to its customers Merchandise Business: business that produces physical goods that they sell to customers Wholesale Business: business that sells products to other businesses for resale Retail Business: business that sells products to the final consumer of the product Legal Forms of Business Sole Proprietorship: business entity that has one owner, where for legal and tax purposes, the business and the owner are considered the same Partnership: business that has more than one owner, where for legal and tax purposes, the business and the owners are considered the same Corporation: legal entity, chartered under state law, which is empowered to conduct business. The corporation and owners are considered as separate for legal and tax purposes. - Most attractive to business owners because personal liability is very limited Stockholder: an owner of part of the corporation Dividend: payment of past and current profits, less losses, previously retained in the business When stockholders are paid dividends, the stockholders have to pay tax on those dividends. (double taxation) S-Corporation: a small corporation that has met the legal requirements to act as a corporation but elected to be taxed at individual rates (no double taxation) Limited Liability Company: hybrid business entity having characteristics of both a partnership and corporation (new form of business) (similar to an S-Corporation, but can be flexible when giving out earnings) Key Accounting Concepts Financial Accounting: process of recognizing, measuring, recording, and reporting information about a business’s transactions to stakeholders outside the business, including stockholders and lenders To make a profiting business you have to have employees in research and development, production and operations, promoting and distribution, and receiving money. Accountants will be the ones communicating the financial condition of the business and help keep everything on track. Rules and Principals Generally Accepted Accounting Principles (GAAP): the rules, principals, and concepts established by the accounting profession that govern financial accounting Financial Accounting Standards Board (FASB): A seven-person group primarily responsible for the establishment of standards of financial accounting and reporting called GAAP International Financial Reporting Standards (IFRS): Accounting standards developed by the international Accounting Standards Board for use throughout the world. Companies outside the US are not required to follow US GAAP. The US is considering switching from US GAAP to IFRS, but that will not happen for a few years if it goes through. Business Entity Principal: the business entity principal dictates that the financial affairs of a business organization must be kept separate from the personal financial affairs of the business owners Reliability Principle/Objectivity Principal: information should be verifiable, confirmable by any independent observer Ex: Making sure the accounting information is factual and not manipulated Cost Principle: when a business acquires assets or services, they should be recorded at their actual costs Actual Cost/Historical Cost: actual cost of good/service Accountant needs to keep record of historical costs because it is a reliable comparison for what it is actually being sold for. Ethics The information accountants provide are very important because the information they provide are used to make important business decisions. This requires the accountant’s information to be accurate, reliable, and understandable. Manipulating information will mislead stakeholders and ultimately lead to fraud. Being knowledgeable and trustworthy are two very important attributes that an accountant needs to have. Role of Accounting Recognize  Measure  Record  Report Cash Accounting: accounting that only recognizes business transactions when cash is received or disbursed Accrual Accounting: accounting that recognizes a business transaction when it occurs, whether or not cash is received or disbursed Businesses usually use accrual accounting because it allows stakeholders to see what a business owes in expenses. Measuring Transactions Accrual accounting will allow the accountant to make estimates when measuring transactions. If an asset you own appreciates in value, US GAAP will not recognize the increase because no transaction has been made. Other countries may recognize the appreciation in value of your asset through IFRS standards. Transactions using Accounting Equation The way the accountant records information needs to be in a way where others can understand it. The accountant must be able to explain it to other employees in the business. Two things an accountant must keep track of are the assets and where the business got the money to finance its assets. The money comes from stockholders’ equity and liabilities. The entities that provide money also have part ownership of the company. Fundamental Accounting Equation: Assets = Liabilities + Stockholders’ Equity Transaction Analysis: The accountant records how a transaction affects the assets and the financing. Common Stock: stockholders’ equity which is the result of the owners of the business investing money or assets in the business Retained Earnings: stockholders’ equity which is the result of the business having net income that have been retained in the business In the Stockholders’ portion of the fundamental accounting equation, stockholders’ can be split into common stock + retained earnings. The retained earnings portion of the above equation can also be split up into 3 parts Retained earnings = revenue – expenses – dividends Ex: Sale of Stock X person invests $5,000 into XYZ Company. XYZ Company now gives $5,000 common stock to X person because they invested in the company. X person now has some ownership of XYZ Company. Assets= Liabilitie Stockholders’s Equity s+ Common Stock+(Revenues-Expenses-Dividends) + + $5,000 (Common Stock) $5,000 $5,000 = $5,000 Assets have to equal liabilities plus stockholders equity in every situation using this equation. **You should do more in depth examples found in your textbook or in your homework with this fundamental accounting equation** Ex: Buying item on credit This equation would include an Accounts Payable section under Liabilities. The customer agreed to pay X dollars within a certain period of time, but that has to be recorded somewhere. It will be recorded in accounts payable. There will also be X dollars recorded under assets-supplies to even out the equation. Supplies is a prepaid expense which is an asset that has been purchased but will be used later. Prepaid expense: amounts that are assets of a business because they represent items that have been purchased but will be used later. Accounts Payable: liability incurred by a business when purchasing goods and services. Note Payable: liability that is represented by a written promise that requires future payment Ex: borrowing money On Account: buying or selling on account Accounts Receivable: An asset that represents amounts owed to the business by customers. Reporting Transactions Financial Statements: Historical, objective reports, prepared according to GAAP, that communicate financial information about a business Financial reports show income statements, retained earnings, a balance sheet, and a statement of cash flows. Income Statement: a financial statement that reports the revenue and expenses of a business during a given period of time An income statement is showing how much money a company has made in a given period of time. The business wants the total revenue to be greater than the total expenses. Net Income: total revenue is greater than total expenses (WANT) Net Loss: total revenue is less than total expenses (DO NOT WANT) Income Statement Details - “Who” – name of the business - “What” – name of the financial statement - “When” – the time period covered by the statement - Body of statement lists revenue, expenses, and the net income/net loss **Should look up an example of an income statement and look at the formatting** Statement of Retained Earnings: a financial statement that reports the amount of accumulated net profits that a business has retained and not paid in dividends since inception. The statement reports the beginning balance of retained earnings, plus net income or minus net loss in the given period, less the dividends during the given period, equaling ending retained earnings. The time period for these statements could be a month or a year. The statement shows how much net income has been received and not spent during this time period. Statement of Retained Earnings Details - “Who” – name of the business - “What” – name of the financial statement - “When” – the time period covered by the statement - Body of statement lists the beginning retained earnings balance, any net income/net loss, dividends paid, and the ending balance of retained earnings You can make this statement from the information from the income statement and the dividend information from the accounting equation. Balance Sheet/Statement of Financial Position: a financial statement that reports the assets, liabilities, and stockholders’ equity of a business at a specific point in time. You can use the information from the above statement of retained earnings to create a balance sheet. Remember: Total Assets = Total Liabilities + Stockholders’ equity Statement of Cash Flows: a financial statement that reports the sources and uses of cash for a given period of time Statement of Cash Flows Reports 3 activities Operating Activities: activities that create revenue and/or expense in the entity’s major line of business Ex: providing goods/services Investing Activities: decisions made by management to buy and sell long- term assets Ex: buying capital Financing Activities: actions that generate the receipt or payment of cash to pay long-term liabilities or to raise capital Ex: borrowing money Relationship of Financial Statements Statements are prepared in a specific order which is - Income Statement - Statement of Retained Earnings - Balance Sheet - Statement of Cash Flows Remember: A business is a team all working together to achieve a goal. All positions have to blend together and make sure all parts are functioning. An accountant’s position is keeping track of revenues, expenses, assets, liabilities, and owners’ equity.


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