lec1 notes
-
Upload
kinyayvonne -
Category
Documents
-
view
231 -
download
0
Transcript of lec1 notes
-
8/12/2019 lec1 notes
1/32
1
Introduction
15.511 Corporate Accounting
Summer 2004
Professor SP KothariSloan School of ManagementMassachusetts Institute of Technology
June 7, 2004
-
8/12/2019 lec1 notes
2/32
2
Session 1:
Agenda Administrative matters
Discussion of AccountingWhy is accounting interesting?
Why do we need accounting?Course objective
Sophisticated financial statementuser
An overview of information infinancial statements
-
8/12/2019 lec1 notes
3/32
3
The required materials are:10th Edition of Stickney and Weil
Financial Accounting: An Introduction to Concepts,Methods, and Uses
Case Packet
Class web server SyllabusSchedule
Homework assignmentsSample exams
-
8/12/2019 lec1 notes
4/32
4
Course GradingWritten Problem Sets 25%
Midterm 30%Final 45%
-
8/12/2019 lec1 notes
5/32
5
Accounting IntroductionDiscussion of Accounting
Why is accounting interesting?Why do we need accounting?
Course objectiveSophisticated financial statementuser
An overview of financialinformation
-
8/12/2019 lec1 notes
6/32
6
What is Accounting trying to do?
Demand for InformationFinancial Accounting
Provides information primarily to people outside the company
Provides information that would be helpful in attracting capitalEquity and debt (useful in debt contracts)Credit from suppliersCustomersEmployees
Provides information helpful in monitoring and evaluatingmanagement performance
Managerial Accounting
Provides information to people inside the companyInternal investment decisionsPerformance evaluation
Tax AccountingProvides information to the tax authoritiesLegal to prepare separate books for tax and financial purposes
-
8/12/2019 lec1 notes
7/32
7
Why do We Need Financial Accounting?
Company
Outsiders
- investors- employees- suppliers
ResourcesToday
ResourcesTomorrow
-
8/12/2019 lec1 notes
8/32
8
Why do We Need Financial Accounting?
Company
Outsiders
- Investors- Suppliers- Creditors
ResourcesToday
ResourcesTomorrow
Information(e.g., financial
statements)
Financial accounting promotes the exchange of resourcesFinancial accounting promotes the exchange of resources
-
8/12/2019 lec1 notes
9/32
9
Nature of Financial Accounting
InformationUseful to those making investment and credit decisions,who have a reasonable understanding of business andeconomic activities.Helpful to
present and potential investorscreditorsother usersin assessing the amount, timing, and uncertainty of future cash
flows.Provides information about economic resources, theclaims to those resources, and the changes in them.
-
8/12/2019 lec1 notes
10/32
10
How important is this information?
The Reaction of Wal-Mart Stock to Announcement of 3rd Quarter Earnings
54
54.5
55
55.5
56
56.5
57
57.5
58
58.5
59
59.5
1-Nov-03 3-Nov-03 5-Nov-03 7-Nov-03 9-Nov-03 11-Nov-03 13-Nov-03 15-Nov-03 17-Nov-03 19-Nov-03 21-Nov-03 23-Nov-03
DATE
S T O C K P R I C
-
8/12/2019 lec1 notes
11/32
11
Financial Accounting
IntroductionDiscussion of Accounting
Why is accounting interesting?Why do we need accounting?
Course objective
Sophisticated financialstatement user
An overview of financialinformation
-
8/12/2019 lec1 notes
12/32
12
WHAT IS OUR COURSE
OBJECTIVE?To become intelligent users of accounting
information. Examples:Managers use accounting information in makinginvestment decisionsInvestors use accounting information in valuingstocksBankers rely on accounting information indeciding whether to lend money to a businessand in assessing the risk of the loan
Accounting information is crucial in evaluatingthe performance of employees at various levels
in an organization
-
8/12/2019 lec1 notes
13/32
13
WHAT IS OUR COURSE
OBJECTIVE?To become intelligent users of accountinginformationBe comfortable looking through an annual report
Learn the language and techniquesBegin to develop the ability to use financialstatements to assess a companys performance
Have a sense of the limitations of financialstatement data
What are not our objectivesto train you to be an accountant or bookkeeper Financial Statement Analysis - take 15.535
-
8/12/2019 lec1 notes
14/32
-
8/12/2019 lec1 notes
15/32
15
World of a Sophisticated Financial
Statement User Events / Actions
Rules&
Managementchoices
Financial Statements
-
8/12/2019 lec1 notes
16/32
16
World of a Sophisticated Financial
Statement User
Rules&
Managementchoice
Financial Statements
Events
Financial Accounting = translates eventsinto financial statements
GenerallyAccepted
AccountingPrinciples (GAAP)
Management selectsfrom alternative rulesand from allowableestimates under GAAP
-
8/12/2019 lec1 notes
17/32
17
Three keys to becoming a sophisticatedfinancial statement user
Understand the rules and managements
discretion
Understand what explains the rules andthe type of management discretionIncentives
Understand how events affect firm value
-
8/12/2019 lec1 notes
18/32
18
Understanding the genesis of
the rulesDemand for independence: Accounting enters
objective, verifiable information into accountingrecordsInformation produced by managers alone is not
believable. Outside investors demandindependently audited financial informationIn the process, accounting misses out on forward-
looking information that might be valuable, but lacksobjective evidence (e.g., research in progress)
-
8/12/2019 lec1 notes
19/32
19
Understanding the genesis of
the rules Asymmetry
Asymmetric treatment of good and bad newsFaced with uncertain bad news, accountingtends to enter it into the recordsFaced with uncertain good news, tendency toignore itWhy?
Demand for bad newsCreditors with no upside, but all the downside
Investors believe bad news disclosed bymanagement, but skeptical of good news unless
supported by objective evidenceManagement incentives affect believability of theirdisclosures
-
8/12/2019 lec1 notes
20/32
20
Financial Accounting
IntroductionDiscussion of Accounting
Why is accounting interesting?Why do we need accounting?
Course objectiveSophisticated financial statement user An overview of financial information
-
8/12/2019 lec1 notes
21/32
21
Accounting is complex and
interesting becauseDiversity of businesses and events
Many different playersDiverse incentives
EconomicOther
Uncertainty
Many regulations
l
-
8/12/2019 lec1 notes
22/32
22
Financial Accounting
IntroductionDiscussion of Accounting
Why is accounting interestingWhy do we need accounting?
Course objectiveSophisticated financial statementuser
An overview of financialinformation
Fi i l R i
-
8/12/2019 lec1 notes
23/32
23
Financial Reporting
RequirementsAudited Annual Report (10-K)
Unaudited Quarterly Reports (10-Q)Current Reports (8-K)within 10 days of the end of a monthcontaining a significant event (e.g.,major asset sales, changes inownership, bankruptcy, changing theauditor)
Foreign Companies (20-F)
-
8/12/2019 lec1 notes
24/32
24
Focus: The Annual Report
The Management Letter Management discussion on developments during theyear and current state of the company
The Financial Statements
The Auditors Report
-
8/12/2019 lec1 notes
25/32
25
Financial Reports:
The Auditors ReportGAAS (Generally Accepted Auditing Standards)
Reasonable assurance that financial statements are free ofmaterial misstatement Assess the accounting principles used and significantestimates made by management
Actual opinionfinancial statements present fairly, in all material respects, thefinancial position, the results of operations, etc.are in conformity with GAAP (Generally Accepted AccountingPrinciples).
-
8/12/2019 lec1 notes
26/32
26
Financial Reports:
The Auditors ReportManagement responsible for
the preparation and integrity of the financial statements, etc.Statements prepared in accordance with GAAP.Estimated amounts based on management's best estimatesand judgments.
Maintenance of an internal control system to ensure that
assets are safeguarded and transactions are properlyauthorized, recorded and reported.
The Board has an Audit Committee composed
entirely of outside directorsThis committee appoints the auditor who has direct accessto the Audit Committee.
-
8/12/2019 lec1 notes
27/32
27
Financial Statements
Contain primarily historical InformationBalance Sheet
Assets, liabilities & owners equityIncome Statement
Revenue (-) Expenses = Net Income
Statement of retained earningsCumulative sum of undistributed profitsStatement of cash flows
Operating, Investing and Financing activities
FootnotesSignificant accounting policies, estimates, etc.
-
8/12/2019 lec1 notes
28/32
-
8/12/2019 lec1 notes
29/32
29
Financial Statements: Income Statement
Income statement measures the performance of acompany over a period of timeRevenues -- a measure of economic benefits generated bythe sale of products or providing of services over a period
of timeExpenses -- a measure of economic sacrifices incurred toearn the revenues of a given period
Examples of expenses -- cost of inventory sold, salaries toemployees, rent and lighting, advertising, .......Net income = revenues (-) expenses
-
8/12/2019 lec1 notes
30/32
30
Dividends
Are dividends paid to owners considered an
expense?Owners are residual claimantsDividends are distributions to the owners out of the
profits earned by the businessIn determining accounting profits to the residualowners, we only subtract the costs of all factors of
production , e.g., physical capital (depreciation),human capital (salaries), debt capital (interestcost), etc.
Dividends are not a factor of production
Financial Statements: Retained
-
8/12/2019 lec1 notes
31/32
31
Financial Statements: RetainedEarnings & Shareholders Equity
Retained earnings A measure of undistributed profits of a businessDo not include capital contributed by owners
Retained earnings = Cumulative sum of profitsearned from the inception of business (-)
Cumulative sum of all dividends distributed tothe owners from the inception of businessStatement of shareholders equity describes thechange in retained earnings over a period of time(e.g., a year)
Beginning balance in retained earnings Add Net income earned during the periodSubtract Dividends distributed during the periodEnding balance in retained earnings
-
8/12/2019 lec1 notes
32/32
32
Summary
Accounting is a complex field contrary tocommon perceptions.
Financial accounting information facilitates theexchange of resources.
To become a sophisticated financial statementuser, you need to understand how theinformation in financial statements is recorded.