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1. Chapter One
ACCOUNTING:
Information for Decision
Making

2. CHAPTER CONTENTS
1. Accounting As an Information System
2. Business Goals, Activities, and Performance
Measures
3. Financial and management Accounting
4. Decision-Makers: The Users of Accounting
Information
5. Types of Business Organizations
6. Financial Position and the Accounting Equation
7. Communications through Financial Statements
8. Generally Accepted Accounting Principles
(GAAP)

3. • Accounting plays an important role in
economic and social system.
• Sound decisions made by individuals,
businesses, governments, & other entities are
essential for the efficient distribution & use
of a nation’s scarce resources.
• To make such decisions, these groups must
have reliable information provided by the
accounting system.

4. The objective of accounting, therefore, is to
record, summarize, report, and interpret
economic data for use by many groups within
our economic and social system.
Accounting “is not an end in itself”, but it is
an information system that measures,
processes, and communicates financial
information about an identifiable economic
unit.
Accounting As An Information System
(Cont’d)

5. Communication:
Accomplished by
Reporting
The Accounting
Process:
Accomplished by storage &
preparation of data
Decision makers
Economic
Activities:
Actions
(decisions)
Accounting “links”
decision makers
with economic
activities and with
the results of their
decisions.

6. 2. Business Goals, Activities, &
Performance Measures
A business is an economic unit that aims to
sell goods and services to customers at
prices that will provide an adequate return
to its owners.
Businesses, though diverse, have similar
goals and engage in similar activities.

7. Business Goals, Activities (Cont’d)
Business Goals
1. Profitability
A business must take in enough money to pay all the
costs of doing business, with enough left over as profit
for the owners to want to stay in business.
2. Liquidity
A business must have enough funds available to pay
debts when they are due.

8. Business Goals, Activities (Cont’d)
Business Goals Business Activities
Profitability
Liquidity
Financing Operatin
g
Investing

9. Business Goals, Activities (Cont’d)
Business Activities
1) Financing Activities:
 Obtaining capital from owners and creditors
 Repaying creditors and a return to owners.
2) Investing Activities:
 Spending the capital it receives in ways that are
productive and will help the business achieve its
objectives.
 Buying and selling long-term assets to be used in the
business.
3) Operating Activities:
 Selling of goods and services to customers.
 Employing managers and workers, buying and producing

10. Business Goals, Activities (Cont’d)
Performance Measures
 Indicate whether or not managers are achieving the
business goals and if they are managing business
activities well.
 Performance measures include:
 Earned income or profit
 Cash flow
 Ratio of expenses to revenues
 Ratio of money owed to total resources controlled.
Note: Managers should understand these measures.

11. 3. Financial & Management
Accounting
Accounting’s role of assisting decision
makers by measuring, processing, and
communicating information is usually divided
into two categories:
1) Financial Accounting, and
2) Management Accounting
The two may be distinguished by the
principal users of their information.

12. Financial & Management (Cont’d)
Financial Accounting
 Is oriented toward the needs of external decision
makers
 Provides information in the form of financial
statements so that external decision makers can
evaluate how well the business has achieved its
goals.
 Financial statements report directly on the goals of
profitability and liquidity.
 Financial statements are used extensively both inside
and outside a business to evaluate the business’s
success.

13. Financial & Management (Cont’d)
Management Accounting
 Is directed toward the needs of internal decision
makers.
 Provides managers and employees with information
regarding how they have done in the past and what
they can expect in the future.

14. Financial & Management (Cont’d)
External Users
Financial accounting
provides external users with
financial statements.
Internal Users
Internal Users
Managerial accounting
provides information
needs for internal
decision makers.

15. Summary: Distinction Financial Vs. Management Accounting
Criteria Management Accounting Financial Accounting
Purpose of
information
Help managers make decisions to
fulfill an organization’s goals
Communicate firm’s financial
position and operating results to
investors, banks, regulators, &
other outside parties
Primary users
Managers of the organization External users such as investors,
banks, regulators, & suppliers
Focus &
emphasis
Future-oriented Past-oriented
Rules of
measurement
and reporting
Internal measures and reports do not
have to follow GAAP but are based
on cost-benefit analysis & usefulness
to managers
Financial statements must be
prepared in accordance with
GAAP (IFRS) and be certified by
external, independent auditors
Time span & type
of reports
Varies from hourly information to
yearly with financial & nonfinancial
reports on products, departments,
territories, & strategies
Annual and quarterly financial
reports, primarily on the company
as a whole

16. 4. Decision Makers: The Users of
Accounting Information
Decision Makers
Management
 Finance
 Operations &
Production
 Marketing
 Human
Resources
 Information
Systems
Those With
Direct
Financial
Interest
 Investors
 Creditors
Those With
Indirect
Financial Interest
 Tax Authorities
 Regulators
 Labor Unions
 Customers
 Economic
Planners

17. 5. Types of Business Organization
Sole
Proprietorship
Partnership
Corporation

18. Types of Business Organ (Cont’d)
 There are three dominant forms of business
ownerships.
Sole Proprietorship: is a business unit owned by one
person.
The single person (owner) assumes all the profit /(loss)
resulting from the business activities for himself.
Partnership: A business unit owned by 2 or more persons
as co-owners of business for profit.
In a partnership form of business, the owners also called
the partners agreed to share the net income (or loss)
among themselves according to the agreements stated in
the articles of a partnership.
Corporation: A corporation is an artificial person, created by
law and having a distinct existence separate and apart from
the natural persons who are responsible for its creation and
operation.

19. The Corporate Form of Business
Formation of a Corporation
 Stockholders (or Shareholders)
 Board of Directors
 Management
STOCKHOLDERS
Invest in shares of
capital stock and elect
the Board of Directors
(BoD)
BOARD OF
DIRECTORS
Determines corporate
policy, appoint
management, and
declare dividends.
MANAGEMENT
Executes policy,
carries out day-to-day
operations, makes
decision that
maximize
shareholders wealth

20. 6. Financial Position and the
Accounting Equation
Financial Position – refers to the economic
resources that belong to a firm and claims
against those resources at a point in time.
Economic Resources = Equities
Economic Resources = Creditors Equities + Owners’
Equity
Assets = Liabilities + Owners’ Equity
Assets – Liabilities = Owners’ Equity (or Shareholders’
Equity)

21. Financial Position and the (Cont’d)
Assets:
 Assets are economic resources owned by a
business that are expected to benefit future
operations.
 Monetary items
 Nonmonetary physical things
Liabilities:
 Liabilities are the present obligations of a business
to pay cash, transfer assets, or provide services to
other entities in the future.

22. Financial Position and the (Cont’d)
Owners’/Stockholders’ Equity
 Owners’ equity represents the claims by the owners
of a business to the assets of the business.
 Owners’ equity is the residual equity that remains
after deducting liabilities from assets.

23. 7. Communication Through
Financial Statements
The Importance of Financial Statements
 Financial statements are the primary means of
communicating important financial information to
users.
 Financial statements represent models of the
business enterprise because they show the business
in financial terms.
 Financial statements are not perfect representation of
the reality.
 The four basic financial statements are:
(1) The Income Statement
(2) The Statement of Retained Earnings
(3) The Balance Sheet
(4) The Statement of Cash Flow

24. Communication Through (Cont’d)
1. The Income Statement
 Summarizes the revenues earned, the expenses
incurred and the net income or loss realized over a
period of time.
 It is considered by many to be the most important
financial report because it shows whether or not a
business achieved its profitability goal of earning an
acceptable income.

25. Communication Through, (Cont’d)
[Name of Entity]
[Name of Report]
[Period]
Revenues:
Commission Income Br. xxx
Expenses;
Rent Expense Br. xxx
Wages xxx
Utilities xxx
Total Expenses xxx
Net Income (Loss) Br. xxx

26. Communication Through, (Cont’d)
2. The Statement of Retained Earnings
 Shows the changes in retained earnings over a period
of time.
3. The Balance Sheet
 Shows the financial position of a firm at a specific
date.
 It is often called the statement of financial position.
 Presents a view of the business as the holder of
resources, or assets, that are equal to the claims
against those assets.

27. Communication Through, (Cont’d)
4. The Statement of Cash Flow
 Focuses on the company’s liquidity goal.
 Shows cash produced by operating a business as
well as important financing and investing activities
that take place during the accounting period.
 Is derived from the income statement and balance
sheet.
 Is directly related to the other three financial
statements.

28. 8. Generally Accepted Accounting
Principles (GAAP)
GAAP
Encompass the conventions, rules, and procedures
necessary to define accepted accounting practices at a
particular time.
Need for Standard Setting (GAAP)
If every firm could record and report its financial data as
it saw fit, comparisons among companies performance
would be difficult, if not impossible. Thus, accountants
strictly follow the GAAP in preparing reports. These
reports allow investors and other users to compare one
company to another.
Use of GAAP also enhances understandability of
financial statements.

29. (GAAP Cont’d)
 Accounting principles and concepts develop from
research, accepted accounting practices, and
pronouncements of regulators.
Parties Involved In Standard Setting
1) The Financial Accounting Standards Board
(FASB)
 In the USA, the FASB has the primary responsibility
for developing accounting principles.
 The FASB publishes Statements of Financial
Accounting Standards (SFAS) as well as
Interpretations of these Standards.

30. (GAAP Cont’d)
2. The International Accounting Standards
Board (IASB).
 The IASB issues International Financial Reporting
Standards (IFRSs).
 However, the FASB and IASB are working together to
reduce and eliminate these differences into a single
set of accounting principles.
 Many countries outside the USA use generally
accepted accounting principles adopted by the IASB.
3. Other professional organizations such as
AAA, AICPA, ACCA
NB. In Ethiopian case there are accounting
professionals associations such as: EPAAA, AABE,
ASE.

31. (GAAP Cont’d)
• GAAP starts with a conceptual framework
that anchors financial reports to a set of
principles such as materiality (the degree to
which the transaction is big enough to matter)
and verifiability (the degree to which different
people agree on how to measure the
transaction).
• The basic goal is to provide users – equity
investors, creditors, regulators and the public
– with "relevant, reliable and useful"
information for making good decisions.