©2021 Pearson Education, Inc. 1-1 Solution Manual for Horngren's Financial & Managerial Accounting The Financial Chapters, 7th edition Tracie Miller -Nobles, Brenda Mattison Chapter 1 -15 Chapter 1 Accounting and the Business Environment Review Questions 1. What is accounting? Accounting i s the information system that measures business activities, processes the information into reports, and communicates the results to decision makers. Accounting is the language of business. 2. Briefly describe the two major fields of accounting. Financial accounting provides information for external decision makers, such as outside investors, lenders, customers, and the federal government. Managerial accounting focuses on information for internal decision makers, such as the company’s managers and employee s. 3. Describe the various types of individuals who use accounting information and how they use that information to make important decisions. Individuals use accounting information to help them manage their money, evaluate a new job, and better decide whet her they can afford to make a new purchase. Business owners use accounting information to set goals, measure progress toward those goals, and make adjustments when needed. Investors use accounting information to help them decide whether or not a company is a good investment and once they have invested, they use a company’s financial statements to analyze how their investment is performing. Creditors use accounting information to decide whether to lend money to a business and to evaluate a company’s abili ty to make the loan payments. Taxing authorities use accounting information to calculate the amount of income tax that a company has to pay. 4. What are the various certifications available for accountants? Breifly explain each certification. Certified P ublic Accountants (CPAs) are licensed professional accountants who serve the general public. They work for public accounting firms, businesses, government, or educational institutions. A Chartered Global Management Accountant (CGMA) is an accountant who h as advanced knowledge in finance, operations, strategy, and management. Certified Management Accountants (CMAs) specialize in accounting and financial management knowledge. They work for a single company. Certified Financial Planners (CFPs) work with indi viduals to help them budget, plan for retirement, save for education, and manage their finances. © 2021 Pearson Education, Inc. 1-2 5. What is the role of the Financial Accounting Standards Board (FASB)? The FASB oversees the creation and governance of accounting standards. They work with governmental regulatory agencies, congressionally created groups, and private groups. 6. Explain the purpose of Generally Accepted Accounting Principles (GAAP), including the organization currently responsible for the creation and governance fo these stand ards. The guidelines for accounting information are called GAAP. It is the main U.S. accounting rule book and is currently created and governed by the FASB. Investors and lenders must have information that is relevant and has faithful representation in order to make decisions and GAAP provides the framework for this financial reporting. 7. Describe the similarities and differences among the four different types of business entities discussed in the chapter. A sole proprietorship has a single owner, ter minates upon the owner’s death or choice, the owner has personal liability for the business’s debts, and it is not a separate tax entity. A partnership has two or more owners, terminates at partner’s choice or death, the partners have personal liability, and it is not a separate tax entity. A corporation is a separate legal entity, has one or more owners, has indefinite life, the stockholders are not personally liable for the business’s debts, and it is a separate tax entity. A limited -liability company has one or more members and each is only liable for his or her own actions, has an indefinite life, and is not a separate tax entity. 8. A business purchases an acre of land for $5,000. The current market value is $5,500, and the land was assessed for pro perty tax purposes at $5,250. What value should the land be recorded at, and which accounting principle supports your answer? The land should be recorded at $5,000. The cost principle states that assets should be recorded at their historical cost. 9. What does the going concern assumption mean for a business? The going concern assumption assumes that the entity will remain in business for the foreseeable future and long enough to use existing resources for their intended purpose. 10. Which concept states tha t accounting information should be complete, neutral, and free from material error? The faithful representation concept states that accounting information should be complete, neutral, and free from material error. 11. Financial statements in the United State s are reported in U.S. dollars. What assumption supports this statement? The monetary unit assumption states that items on the financial statements should be measured in terms of a monetary unit. 12. Explain the role of the International Accounting Standards Board (IASB) in relation to International © 2021 Pearson Education, Inc. 1-3 Financial Reporting Standards (IFRS). The IASB is the organization that develops and creates IFRS which are a set of global accounting standards that would be used around the world. 13. What is the accounting equati on? Briefly explain each of the three parts. Assets = Liabilities + Equity. Assets are economic resources that are expected to benefit the business in the future. They are things of value that a business owns or has control of. Liabilities are debts t hat are owed to creditors. They are one source of claims against assets. Equity is the other source of claims against assets. Equity is the stockholders’ claims against assets and is the amount of assets that is left over after the company has paid its liabilities. It represents the net worth of the corporation. 14. How does retained earnings increase? What are the two ways that retained earnings decreases? Retained earnings increases with revenues. Retained earnings decreases with expenses and dividend s. 15. How is net income calculated? Define revenues and expenses . Revenues – Expenses = Net Income. Revenues are earnings resulting from delivering goods or services to customers. Expenses are the cost of selling goods or service. 16. What are the steps use d when analyzing a business transaction? What Step 1: Identify the accounts and the account type. Step 2: Decide if each account increases or decreases. Step 3: Determine if the accounting equation is in balance. 17. List the four financial statements. Br iefly describe each statement. Income Statement – Shows the difference between an entity’s revenues and expenses and reports the net income or net loss for a specific period. Statement of Retained Earnings – Shows the changes in retained earnings for a sp ecific period including net income (loss) and dividends. Balance Sheet – Shows the assets, liabilities, and stockholders’ equity of the business as of a specific date. Statement of Cash Flows – Shows a business’s cash receipts and cash payments for a speci fic period. 18. What is the calculation for ROA? Explain what ROA measures. Return on Assets = Net income / Average total assets. ROA measures how profitably a company uses its assets. © 2021 Pearson Education, Inc. 1-4 Short Exercises S-F:1-1 Identifying users of accounting information Learning Objective 1 For each user of accounting information, identify if the user would use financial accounting or managerial account ing a. investor e. controller b. banker f. stockholder c. IRS g. human resources director d. manager of the business h. creditor SOLUTION a. FA e. MA b. FA f. FA c. FA g. MA d. MA h. FA S-F:1-2 Determining organizations that govern accounting Learning Objective 2 Suppose you are starting a business, Wholly Shirts, to imprint logos on T -shirts. In organizing the business and setting up its accounting records, you take your information to a CPA to prepare financial statements for the bank. Name the organization that governs the majority of the guidelines that the CPA will use to prepare financial statements for Wholly Shirts. What are those guidelines called? SOLUTION The Financial Accounting Standards Board governs the majority of guidelines, called Generally Accepted Accounting Principles (GAAP), that the CPA will use to prepare financial statements for Whol ly Shirts. S-F:1-3 Identifying types of business organizations Learning Objective 2 Chloe Michaels plans on opening Chloe Michaels Floral Designs. She is considering the various types of business organizations and wishes to organize her business with unl imited life and wants owners of the business to not be held personally liable for the business’s debts. Additionally, Chloe wants the business to be a separate taxable entity. Which type of business organization will meet Chloe’s needs best? SOLUTION Chloe’s needs will best be met by organizing a corporation since a corporation has an unlimited life and is a separate tax entity. In addition, the owners (stockholders) have limited liability. Chloe could also
