CHAPTER 1
ACCOUNTING IN ACTION
CHAPTER LEARNING OBJECTIVES
1. Explain what accounting is. Accounting is an information system that identifies, records,
and communicates the economic events of an organization to interested users.
2. Identify the users and uses of accounting. The major users and uses of accounting are as
follows: (a) Management uses accounting information to plan, organize, and run the business.
(b) Investors (owners) decide whether to buy, hold, or sell their financial interests on the basis
of accounting data. (c) Creditors (suppliers and bankers) evaluate the risks of granting credit
or lending money on the basis of accounting information. Other groups that use accounting
information are taxing authorities, regulatory agencies, customers, labor unions, and
economic planners.
3. Understand why ethics is a fundamental business concept. Ethics are the standards of
conduct by which actions are judged as right or wrong. Effective financial reporting depends
on sound ethical behavior.
4. Explain accounting standards and the measurement principles. Accounting is based on
standards, such as International Financial Reporting Standards (IFRS). IFRS generally uses
one of two measurement principles, the historical cost principle or the fair value principle.
Selection of which principle to follow generally relates to trade-offs between relevance and
faithful representation.
5. Explain the monetary unit assumption and the economic entity assumption. The
monetary unit assumption requires that companies include in the accounting records only
transaction data that can be expressed in terms of money. The economic entity assumption
requires that the activities of each economic entity be kept separate from the activities of its
owners and other economic entities.
6. State the accounting equation, and define its components. The basic accounting
equation is:
Assets = Liabilities + Equity
Assets are resources a business owns. Liabilities are creditors' claims on total assets. Equity
is the ownership claim on total assets.
The expanded accounting equation is:
Assets = Liabilities + Share Capital—Ordinary
+ Revenues – Expenses – Dividends
Share capital—ordinary is affected when the company issues new ordinary shares in
exchange for cash. Revenues are increases in assets resulting from incomeearning
activities. Expenses are the costs of assets consumed or services used in the process of
earning revenue. Dividends are payments the company makes to its shareholders.
