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PRDV201: Accounting Principles I

Unit 3: Constructing Financial Statements   In Unit 2, you learned that financial statements include the balance sheet, income statement, statement of cash flows, and statement of shareholder’s equity.  In this unit, you will learn exactly how financial statements are prepared, using a company’s everyday financial transactions.  You will also apply the accounting principles learned in Unit 2 to create a financial statement for a company.  Although all of these statements are prepared with the same underlying financial numbers, each statement conveys different information about a company’s operations and profitability.

Companies like Starbucks, Johnson & Johnson, and Coca-Cola have to prepare financial statements for their investors and are required to release these statements publicly.  Imagine the time and attention to detail that must be taken to prepare these financial statements and the consequences that may arise if an error is made.  By the end of this unit, you will have a good understanding of the components of each financial statement, and you will be able to identify key pieces of information on each financial statement.

This unit focuses on the key differences between financial statements and what pieces of data are used in preparing each type.

Unit 3 Time Advisory
This unit should take approximately 2.5 hours to complete.

☐    Subunit 3.1: 0.25 hours

☐    Subunit 3.2: 1 hour

☐    Subunit 3.3: 0.25 hours

☐    Subunit 3.4: 0.5 hours

☐    Subunit 3.5: 0.5 hours

Unit3 Learning Outcomes
Upon successful completion of this unit, the student will be able to: - Explain how to prepare closing entries using T-accounts. - Explain how to prepare income statements from closing entries. - Explain how to prepare balance sheets from temporary accounts and permanent accounts. - Distinguish between temporary accounts and permanent accounts. - Distinguish between cash and accrual accounting. - Explain when pro forma statements are used and what information they convey. - Distinguish between the direct and indirect method for reporting cash flows. - Identify types of non-recurring and recurring items on the income statement. - Identify the types of transactions that are reported on the statement of cash flows. - Analyze a company’s statement of cash flows to determine how the company generates and uses its cash.

3.1 The Closing Process   - Lecture: Dr. Larry Walther’s Principles of Accounting: “The Accounting Cycle and Closing Process” Link: Dr. Larry Walther’s Principles of Accounting: “The Accounting Cycle and Closing Process” (YouTube)

 Instructions: Please click on the link above and watch the lecture,
which discusses the closing process as it relates to T-accounts and
journal entries.  During this lecture, be sure that you completely
understand the closing process and how it relates to the formation
of the financial statements.  

 Watching this lecture and taking notes should take approximately 15
minutes.  

 Terms of Use: Please respect the copyright and terms of use
displayed on the webpage above.

3.2 Income Statement   - Reading: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 4: Completing the Accounting Cycle” Link: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 4: Completing the Accounting Cycle” (PDF)

 Instructions: If you have not already saved this document to your
desktop, please click on the link above to download the PDF.  Read
pages 161–174.  Begin your reading with the section titled “The
Worksheet” (p. 225).  Read the text through the section titled “The
Closing Process,” which ends on p. 174.  Pay close attention to the
various parts of the balance sheet and the different sources of
these pieces of financial information.  

 Reading this chapter and taking notes should take approximately 45
minutes.  

 Terms of Use: The book above is released under a [Creative Commons
Attribution-Non-Commercial-Share-Alike License
3.0](http://creativecommons.org/licenses/by-nc-sa/3.0/).  It is
attributed to James Don Edwards and Roger H. Hermanson, and the
original version can be found
[here](http://dl.dropbox.com/u/31779972/Accounting%20Principles%20Vol.%201.pdf).

3.2.1 Non-Operating Revenues & Expenses   - Reading: Financial Accounting: “Section 17.2: Cash Flows from Operating Activities: The Direct Method” and “Section 17.3: Cash Flows from Operating Activities: The Indirect Method” Link: Financial Accounting: “Section 17.2: Cash Flows from Operating Activities: The Direct Method” (PDF) and “Section 17.3: Cash Flows from Operating Activities: The Indirect Method” (PDF)

 Instructions: Click on the links above and scroll down to sections
17.2 and 17.3, which will teach you about both the direct and
indirect methods of cash flows from operating activities.    

 Reading these sections and note taking should take you
approximately 30 minutes to complete.  

 Terms of Use: The text was adapted by The Saylor Foundation under a
[Creative Commons Attribution-NonCommercial-ShareAlike 3.0
License](http://creativecommons.org/licenses/by-nc-sa/3.0/) without
attribution as requested by the work's original creator or licensee.

3.2.2 Recurring & Non-Recurring Items   - Reading: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 13: Corporations: Paid-in Capital, Retained Earnings, Dividends, and Treasury Stock” Link: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 13: Corporations: Paid-in Capital, Retained Earnings, Dividends, and Treasury Stock” (PDF)

 Instructions: If you have not already saved this document to your
desktop, please click on the link above to download the PDF.  Read
the section titled “Net Income Inclusions and Exclusions” on pages
574 and 575.  As you read, pay close attention to the items that
should be reported on the income statement when calculating net
income and the items that can be excluded.  This reading also covers
the topics outlined in sub-subunits 3.2.2.1 and 3.2.2.2.  

 Reading this chapter and taking notes should take approximately 10
minutes.  

 Terms of Use: The book above is released under a [Creative Commons
Attribution-Non-Commercial-Share-Alike License
3.0](http://creativecommons.org/licenses/by-nc-sa/3.0/).  It is
attributed to James Don Edwards and Roger H. Hermanson, and the
original version can be found
[here](http://dl.dropbox.com/u/31779972/Accounting%20Principles%20Vol.%201.pdf).

3.2.2.1 Discontinued Operations   Note: This topic is covered by the reading assigned below sub-subunit 3.2.2.  As you read this section, pay close attention to discontinued operations and think of how this may occur.  By the end of this reading, you should be able to distinguish between which items impact the net income and which items are generally excluded from the net income.  You should also be able to clearly identify examples of included and excluded items as they relate to the net income.

3.2.2.2 Extraordinary Items   Note: This topic is also covered by the reading assigned below sub-subunit 3.2.2.  As you read this section, pay close attention to extraordinary items.  Think of how these items may occur and how they affect the income statement.

3.2.3 Pro Forma Earnings   - Web Media: InformedTrades’ “Balance Sheets: About Pro-Forma Financial Statements” Link: InformedTrades’ “Balance Sheets: About Pro-Forma Financial Statements” (YouTube)

 Instructions: Please click on the link above and watch the short
video about pro-forma earnings.  Pro-forma earnings are not actually
earnings but instead are projected future earnings of a company.  

 Watching this lecture and taking notes should take approximately 5
minutes.  

 Terms of Use: Please respect the copyright and terms of use
displayed on the webpage above.

3.3 Statement of Shareholder’s Equity   - Reading: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 13: Corporations: Paid-in Capital, Retained Earnings, Dividends, and Treasury Stock” Link: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 13: Corporations: Paid-in Capital, Retained Earnings, Dividends, and Treasury Stock” (PDF)

 Instructions: If you have not already saved this document to your
desktop, please click on the link above to download the PDF.  Read
pages 569 and 570.  Begin your reading with the section titled
“Statement of Retained Earnings” (p. 569).  Read the text through
the section titled “Statement of Shareholder’s Equity,” which ends
on page 570.  As you read, pay close attention to the distinction
between the statement of retained earnings and the statement of
shareholder’s equity.  

 Reading this chapter and taking notes should take approximately 10
minutes.  

 Terms of Use: The book above is released under a [Creative Commons
Attribution-Non-Commercial-Share-Alike License
3.0](http://creativecommons.org/licenses/by-nc-sa/3.0/).  It is
attributed to James Don Edwards and Roger H. Hermanson, and the
original version can be found
[here](http://dl.dropbox.com/u/31779972/Accounting%20Principles%20Vol.%201.pdf).

3.4 Balance Sheet   - Reading: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 4: Completing the Accounting Cycle” Link: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 4: Completing the Accounting Cycle” (PDF)

 Instructions: If you have not already saved this document to your
desktop, please click on the link above to download the PDF.  Read
the section titled “A Classified Balance Sheet” on pages 180–186. 
As you read, pay attention to the components that make up the
balance sheet.  By the end of this reading, you will be able to
locate and identify the information to prepare a balance sheet as
well as accurately report that information in a balance sheet.  

 Reading this chapter and taking notes should take approximately 25
minutes.  

 Terms of Use: The book above is released under a [Creative Commons
Attribution-Non-Commercial-Share-Alike License
3.0](http://creativecommons.org/licenses/by-nc-sa/3.0/).  It is
attributed to James Don Edwards and Roger H. Hermanson, and the
original version can be found
[here](http://dl.dropbox.com/u/31779972/Accounting%20Principles%20Vol.%201.pdf).

3.5 Statement of Cash Flows   - Lecture: Dr. Larry Walther’s Principles of Accounting: “Evaluating Cash Flows” Link: Dr. Larry Walther’s Principles of Accounting: “Evaluating Cash Flows” (YouTube)

 Instructions: Please click on the link above and watch the lecture,
which discusses the components of the statement of cash flows.  Take
notes on what each section of qualitative information indicates and
the anatomy of the statement of cash flows.  

 Watching this lecture and taking notes should take approximately 10
minutes.  

 Terms of Use: Please respect the copyright and terms of use
displayed on the webpage above.

3.5.1 Operating Activities   - Reading: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 16: Analysis of the Statement of Cash Flows” Link: Global Text Project: James Don Edwards and Roger H. Hermanson’s Accounting Principles: A Business Perspective, First Global Text Edition, Volume 1: Financial Accounting: “Chapter 16: Analysis of the Statement of Cash Flows” (PDF)

 Instructions: If you have not already saved this document to your
desktop, please click on the link above to download the PDF.  Read
the section titled “Information in the Statement of Cash Flows” on
page 676–678.  As you read, pay close attention to the operating
activities portion of the statement of cash flows.  This reading
also covers the topics outlined in sub-subunits 3.5.2 and 3.5.3.  

 Reading this chapter and taking notes should take approximately 5
minutes.  

 Terms of Use: The book above is released under a [Creative Commons
Attribution-Non-Commercial-Share-Alike License
3.0](http://creativecommons.org/licenses/by-nc-sa/3.0/).  It is
attributed to James Don Edwards and Roger H. Hermanson, and the
original version can be found
[here](http://dl.dropbox.com/u/31779972/Accounting%20Principles%20Vol.%201.pdf).

3.5.2 Investing Activities   Note: This topic is covered in the reading assigned in sub-subunit 3.5.1.  As you read, pay close attention to the investing activities portion of the statement of cash flows.

3.5.3 Financing Activities   Note: This topic is covered in the reading assigned in sub-subunit 3.5.1.  As you read, be sure to pay close attention to the financing activities portion of the statement of cash flows.

3.5.4 Direct vs. Indirect Method   - Lecture: Dr. Larry Walther’s Principles of Accounting: “The Direct Approach for the Statement of Cash Flows” Link: Dr. Larry Walther’s Principles of Accounting: “The Direct Approach for the Statement of Cash Flows” (YouTube)

 Instructions: Please click on the link above and watch the lecture,
which discusses the components of the statement of cash flows.  Pay
particular attention to the calculation of the indirect method, and
the difference between the direct and indirect methods.  

 Watching this lecture and taking notes should take approximately 10
minutes.  

 Terms of Use: Please respect the copyright and terms of use
displayed on the webpage above.
  • Lecture: Dr. Larry Walther’s Principles of Accounting: “The Indirect Approach for the Statement of Cash Flows” Link: Dr. Larry Walther’s Principles of Accounting: “The Indirect Approach for the Statement of Cash Flows” (YouTube)

    Instructions: Please click on the link above and watch the lecture, which discusses the components of the statement of cash flows.  Pay close attention to the how the indirect method is calculated in terms of the statement of cash flows, and think about how this is different from the direct method.

    Watching this lecture and taking notes should take approximately 10 minutes.

    Terms of Use: Please respect the copyright and terms of use displayed on the webpage above.