Lesson One

A business is an organization in which basic resources are assembled and processed to provide goods or services for customers. There are three (3) types of business; Manufacturing, merchandising and service. Although each are different they all have unique characteristics.

1) Manufacturing: A manufacturing business takes raw goods and changes them into products for sale. Examples of manufacturing businesses are Nike, Sara Lee, General Motors, and General Electric.

2) Merchandising: A merchandising business purchases the products from manufacturing businesses for sale to its customers. Examples of merchandising businesses are Wal-Mart, Target, Circuit City, and JC Penny’s.

3) Service businesses are different because they don’t provide a product, instead they provide services. Whether it be entertainment, transportation, lodging or communication a service business earns profits from providing a service. When you travel and rent a room you are renting a service. When you use your cell phone, again that’s a service. Examples of service businesses are Verizon, Knotts Berry Farm, South West Air lines and Hilton Hotels.

There are three forms of common business organizations; Proprietorship, Partnership, Corporations, and Limited Liability Company.

1. Proprietorships are owned by one individual. 70% of the businesses in the US are organized as proprietorships. The advantage is low cost and easy to organize. The disadvantage is financial resources are limited to the sole owner's resources.
2. Partnerships are owned by two or more individuals. A partnership can be a limited liability whereas each partner’s liability is limited to their investment.
3. Corporations are a separate legal taxable entity organized under state or federal statues. Ownership is divided into shares of stock and issued to individuals, or other businesses who become owners or stockholders. A corporation can be a limited liability corporation.
4. A Limited liability Company combines attributes of a partnership and corporation in that it's organized as a corporation but can elect to be taxed as a partnership.

There are three (3) types of business; Manufacturing, merchandising and service can organize as either a Proprietorship, Partnership, Corporations, or Limited Liability Company.

Business Stakeholder

A business stakeholder is "a person or entity that has an interest in the economic performance of the business." Stakeholders include owners, managers, employees, customers, creditors, and various government agencies. These stakeholders use accounting data to gauge the economic performance of businesses.

If your business is a mom and pop store or a corporate giant, Ethics in business are very important. Need I say Enron! Ethics are the moral principles that guide the conduct of individuals of a business. A company’s ethics are only as strong as its leadership. To maintain strong ethics a business should avoid small ethical lapses, focus on long-term reputation and be willing to suffer consequences for holding a strong ethical position. The individual character of a businessperson, the Firm Culture, and the Laws and Enforcement of those laws are contributing factors of the ethical environment of a business.

GAAP

Accounting as a profession has two career paths; Private and Public Accounting. Accounting is governed by GAAP or Generally Accepted Accounting Principles. GAAP are the rules used to prepare financial statements many investors depend upon to determine if they will invest in a business. The authoritative body with primary responsibility for developing accounting principles is the Financial Accounting Standards Board or FASB. Financial Statements are vital documents for any business. Financial statements consist of Income statement, statement of owner’s equity, balance sheet, and statement of cash flows.

BUSINESS ENTITY CONCEPT

This concept is very important because it limits the data in the accounting system to data related directly to the activities of the business. The business is an entity separate from its owners, creditors, or other stateholders. The cost concept ensures the exchange price, or cost, of an asset is the dollar value placed into the accounting records. Use of the cost concept involves two important accounting concepts: the objectivity and unit of measure concept. Objectivity requires accounting records, documents, and reports be based on objective evidence. The unit of measure requires a business record its economic data in dollars.

The Accounting Equation

The remainder of this chapter can be very confusing to some students, remember, I am here to help you. If you're a local student, take advantage of the tutoring center. Now let's look at the accounting equation.

Assets are the resources owned by a business. Just like your automobiles, furniture, home, and any land you own are your business assets includes, cash, land buildings, equipment, and supplies. The rights or claims to a business are divided into two types; 1) the rights of creditors and (2) the rights of owners. Notice how creditors have first rights? Creditors have rights before the owners. The rights of creditors represent debts of the business and are called liabilities. The relationship between the two is stated in the accounting equation:

ASSETS = LIABILITIES + OWNERS EQUITY  

Assets are the resources owned by the business. Liabilities are the rights or the creditors or debts of the business. Owner’s equity are the rights of the owners.

(Notice how once again creditors rights [liabilities] are placed before owner’s equity). Strongly recommend each student memorize this equation!

Business Transactions and the Accounting Equation. Analyzing business transactions is the first of seven steps of the accounting cycle. Now let’s discuss business transactions and how these transactions relate or changed the elements of the accounting equation. Every business has transactions; purchases, sales, loans, payments, etc. Transactions directly change or affect the financial condition of a business. For example a sale will increase the financial condition of a business whereas a note payment will decrease the financial condition of a business. Be sure to take time and review the transaction examples in the textbook. Although examples, you will encounter like transactions throughout your accounting studies. The purpose of this section is to assist with your understanding on increasing or decreasing an account. Every transaction will increase or decrease at least two accounts. Make sure you understand the terms of this chapter, not only for test and quiz purposes, but they become extremely important in understanding accounting.

Financial Statements are the summation of the transactions of a business after transactions have been analyzed, recorded, and summarized. There are 4 reports that make-up the financial statements. These four reports must be prepared in the following sequence:

1. Income statement – the summary of the revenue and expenses for a specific period of time, such as a month or a year. The net income or net loss amount is needed for the statement of owner’s equity. This statement is based on the matching concept – matching the expenses with revenue generated during a period by those expenses.
2. Statement of owner’s equity – changes in the owner’s equity for a specific period of time, such as a month or a year. Owner’s capital amount is needed for the balance sheet.
3. Balance sheet – like the accounting equation list the assets, liabilities, and owners equity for a specific period of time, such as the close of the last day of a month or a year. The Cash amount is needed for the statement of cash flows.
4. Statement of cash flows – summary of the cash receipts and payments for a specific period of time, such as a month or a year.

I cannot stress enough the need to know your terms. Review Exhibit 6 for examples of financial statements. Follow the red arrows and notice how information from one statement flows into the next statement. This interrelationship is discussed in detail in the textbook.

Chapter 2 – Analyzing Transactions.

A company records thousands of transactions daily. When you pay your Visa payment that is a transaction for Citibank or whichever bankcard you hold. An accounting system shows the increases and decreases in separate record called an account. For example: cash, supplies, fees earned, wages expenses, etc are all accounts. A group of accounts are called a ledger. A list of the accounts in a ledger is called a chart of accounts (Exhibit 1).

Assets are businesses resources. Resources can be physical, cash or supplies, or intangible such as patents. When assets are used up or consumed while generating revenue the results are expenses.

Liabilities are debts owed to creditors and are usually identified on the balance sheet followed by the word payable. For example: Accounts payable, note payable or wages payable. There is also another type of liability, unearned revenue. Unearned revenue is cash received before services are performed. Although cash is received this is a liability because the services have not been performed.

Owner’s equity (OE) is the owner’s rights to the assets of the business. Now recall from chapter 1 there are three types of businesses, Proprietorship, Partnership, and Corporations. The titles of OE depend upon the type of business. As we continue through the chapters we will expand on this. If it’s a proprietorship the owner’s equity is represented by the Capital account with a Drawing account representing the amount of withdrawals or paychecks made/earned by the owner.

An account has three parts and is represented by a "T" because it resembles the letter T. The three parts of a T account are; the title, left side of the account and the right side of the account.

Across the top of the T is the title of the account, cash, supplies, wage expense, prepaid expenses, etc. The left side of the account is the debit side and the right side is the credit side. [Debit and Credit are Latin and derived form debere and credere.] It doesn’t matter if the account is an asset, liability or owner’s equity, the left side is always the debit side and entries are said to be debited and the right side is a credit and entries are said to be credited. A debit may either increase or decrease depending on the account. Likewise a credit may increase or decrease depending on the account.

DEBIT CREDIT

The Normal Balance of each account is the positive sides of the account. For example the normal balance of an asset is the debit side of the account. If you end with a credit balance for an asset there is a problem. The normal balance of a liability and owners equity account is the credit side of an account. If you end with a debit balance you have a problem.

Learning the rules of debit and credit is your first major hurdle; however, it’s not difficult. Debit and credit simply put represents the left and right sides on an account. The important thing is to remember which accounts are increased with debits and which are increased with credits.

Every business transaction affects at least two accounts. A transaction is entered in a journal. The title of the account receiving the debit is listed first and the title of the account to receive the credit is listed below the debit. (Remember to indent the title of the credit). The last line of a transaction entry explains or describes the entry. This concept is called Journalizing. See the textbook and follow NetSolutions.

Most accounting systems are double-entry accounting systems. When using the double entry accounting system for transactions use the following steps:

1. Determine which accounts are affected by the transaction; asset, liability or owners equity.
2. For each account the transactions affects, determine if the account is increased (added to) or decreased (subtracted from)
3. Determine if the increase or decrease is a debit or a credit.

1. The transaction is recorded in a journal (a Journal is a history of transactions)
2. Journal entries are transferred to the accounts in the ledger. This process of transfer is called posting. (thus a ledger is the history of transactions by account). 

What is the difference in a Debit and a Credit? Give an example of each.

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