(See related pages)
|
|
|
How should society allocate its resources? Should we spend more to harvest food or cure disease? Should we build computers or cars? Should we invest money in IBM or General Motors? Accounting provides information that helps answer such questions. Using Free Markets to Set Resource PrioritiesSuppose you want to start a business. You may have heard “you have to have money to make money.” In fact, you will need more than just money to start and operate a business. You will likely need such resources as equipment, land, materials, and employees. If you do not have these resources, how can you get them? In the United States, you compete for resources in open markets. A marketGathering of people or organizations for the purpose of buying and selling resources. is a group of people or entities organized to exchange items of value. The market for business resources involves three distinct participants: consumers, conversion agents, and resource owners. Consumers use resources. Resources are frequently not in a form consumers want. For example, nature provides trees but consumers want furniture. Conversion agents (businesses) transform resources such as trees into desirable products such as furniture. Resource owners control the distribution of resources to conversion agents. Thus resource owners provide resources (inputs) to conversion agents who provide goods and services (outputs) to consumers.
Conversion agents who successfully and efficiently (at low cost) satisfy consumer preferences are rewarded with high earnings. These earnings are shared with resource owners, so conversion agents who exhibit high earnings potential are more likely to compete successfully for resources. Return to the original question. How can you get the resources you need to start a business? You must go to open markets and convince resource owners that you can produce profits. Exhibit 1.1 illustrates the market trilogy involved in resource allocation. The specific resources businesses commonly use to satisfy consumer demand are financial resources, physical resources, and labor resources. Financial ResourcesBusinesses (conversion agents) need financial resourcesMoney or credit arrangements supplied to a business by investors (owners) and creditors. (money) to get started and to operate. InvestorsCompanies or individuals who give assets or services and receive security certificates in exchange. and creditors provide financial resources.
The resources controlled by a business are called assetsEconomic resources used by a business to produce revenue.. If a business ceases to operate, its remaining assets are sold and the sale proceeds are returned to the investors and creditors through a process called business liquidationProcess of dividing up the assets and returning them to the resource providers. Creditors normally receive first priority in business liquidations; in other words, assets are distributed to creditors first. After creditor claims have been satisfied, the remaining assets are distributed to the investors (owners) of the business.. Creditors have a priority claim on assets in business liquidations. After creditor claims are satisfied, any remaining assets are distributed to investors (owners).
To illustrate, suppose a business acquired $100 cash from investors and $200 cash from creditors. Assume the business lost $75 and returned the remaining $225 ($300 – $75) to the resource providers. The creditors would receive $200; the owners would receive only $25. If the business lost $120, the creditors would receive only $180 ($300 – $120); the investors would receive nothing. As this illustration suggests, both creditors and investors can lose resources when businesses fail. Creditors, however, are in a more secure position because of their priority claim on resources. In exchange for their more secure position, creditors normally do not share business profits. Instead, they receive a fixed amount of money called interestFee paid for the use of borrowed funds; also refers to revenue from debt securities.. Investors and creditors prefer to provide financial resources to businesses with high earnings potential because such companies are better able to share profits and make interest payments. Profitable businesses are also less likely to experience bankruptcy and liquidation. Physical ResourcesIn their most primitive form, physical resourcesNatural resources used in the transformation process to create resources of more value. are natural resources. Physical resources often move through numerous stages of transformation. For example, standing timber may be successively transformed into harvested logs, raw lumber, and finished furniture. Owners of physical resources seek to sell those resources to businesses with high earnings potential because profitable businesses are able to pay higher prices and make repeat purchases. Labor ResourcesLabor resourcesBoth intellectual and physical labor used in the process of converting goods and services to products of greater value. include both intellectual and physical labor. Like other resource providers, workers prefer businesses that have high income potential because these businesses are able to pay higher wages and offer continued employment. Accounting Provides InformationHow do providers of financial, physical, and labor resources identify conversion agents (businesses) with high profit potential? Investors, creditors, and workers rely heavily on accounting information to evaluate which businesses are worthy of receiving resources. In addition, other people and organizations have an interest in accounting information about businesses. The many usersIndividuals or organizations that use financial information for decision making. of accounting information are commonly called stakeholdersParties interested in the operations of a business, including owners, lenders, employees, suppliers, customers, and government agencies.. Stakeholders include resource providers, financial analysts, brokers, attorneys, government regulators, and news reporters. The link between conversion agents (businesses) and those stakeholders who provide resources is direct: businesses pay resource providers. Resource providers use accounting information to identify companies with high earnings potential because those companies are more likely to return higher profits, make interest payments, repay debt, pay higher prices, and provide stable employment. The link between conversion agents and other stakeholders is indirect. Financial analysts, brokers, and attorneys may use accounting information when advising their clients. Government agencies may use accounting information to assess companies’ compliance with income tax laws and other regulations. Reporters may use accounting information in news reports. Types of Accounting InformationStakeholders such as investors, creditors, lawyers, and financial analysts exist outside of and separate from the businesses in which they are interested. The accounting information these external users need is provided by financial accountingField of accounting designed to meet the information needs of external users of business information (creditors, investors, governmental agencies, financial analysts, etc.); its objective is to classify and record business events and transactions to facilitate the production of external financial reports (income statement, balance sheet, statement of cash flows, and statement of changes in equity).. In contrast, the accounting information needed by internal users, stakeholders such as managers and employees who work within a business, is provided by managerial accountingBranch of accounting that provides information useful to internal decision makers and managers in operating an organization.. The information needs of external and internal users frequently overlap. For example, external and internal users are both interested in the amount of income a business earns. Managerial accounting information, however, is usually more detailed than financial accounting reports. Investors are concerned about the overall profitability of Wendy’s versus Burger King; a Wendy’s regional manager is interested in the profits of individual Wendy’s restaurants. In fact, a regional manager is also interested in nonfinancial measures, such as the number of employees needed to operate a restaurant, the times at which customer demand is high versus low, and measures of cleanliness and customer satisfaction. Nonbusiness Resource UsageThe U.S. economy is not purely market based. Factors other than profitability often influence resource allocation priorities. For example, governments allocate resources to national defense, to redistribute wealth, or to protect the environment. Foundations, religious groups, the Peace Corps, and various benevolent organizations prioritize resource usage based on humanitarian concerns. Like profit-oriented businesses, civic or humanitarian organizations add value through resource transformation. For example, a soup kitchen adds value to uncooked meats and vegetables by converting them into prepared meals. The individuals who consume the meals, however, are unable to pay for the kitchen’s operating costs, much less for the added value. The soup kitchen’s motivation is to meet humanitarian needs, not to earn profits. Organizations that are not motivated by profit are called not-for-profit entitiesOrganizations (also called nonprofit or nonbusiness entities) whose primary motive is something other than making a profit, such as providing goods and services for the social good. Examples include state-supported universities and colleges, hospitals, public libraries, and public charities. (also called nonprofit or nonbusiness organizations). Stakeholders interested in nonprofit organizations also need accounting information. Accounting systems measure the cost of the goods and services not-for-profit organizations provide, the efficiency and effectiveness of the organizations’ operations, and the ability of the organizations to continue to provide goods and services. This information serves a host of stakeholders, including taxpayers, contributors, lenders, suppliers, employees, managers, financial analysts, attorneys, and beneficiaries. The focus of accounting, therefore, is to provide information useful to making decisions for a variety of business and nonbusiness user groups. The different types of accounting information and the stakeholders that commonly use the information are summarized in Exhibit 1.2.
Measurement Rules
The Financial Accounting Standards Board (FASB)Privately funded organization with the primary authority for the establishment of accounting standards in the United States.1 is a privately funded organization with the primary authority for establishing accounting standards in the United States. The measurement rules established by the FASB are called generally accepted accounting principles (GAAP)Rules and regulations that accountants agree to follow when preparing financial reports for public distribution.. Financial reports issued to the public must follow GAAP. This textbook introduces these principles so you will be able to understand business activity reported by companies in the USA. It is worth mentioning that, for convenience and efficiency, many internal business reports use accounting data that conform to GAAP. Companies are not required, however, to follow GAAP when preparing management accounting reports. Although there is considerable overlap between financial and managerial accounting, managers are free to construct internal reports in whatever fashion best suits the effective operation of their companies. 1 The FASB consists of seven full-time members appointed by the supporting organization, the Financial Accounting Foundation (FAF). The FAF membership is intended to represent the broad spectrum of individuals and institutions that have an interest in accounting and financial reporting. FAF members include representatives of the accounting profession, industry, financial institutions, the government, and the investing public. | ||||||||||||||
