Accounting – Chapter 2: Investing and Financing Decisions and the Statement of Financial
Concepts Emphasized in Chapter 2
Primary objective of external financial reporting: is to provide useful economic information
about a business to help external parties make sound financial decisions.
The users of accounting information are identified as decision makers.
The initial amount borrowed is called the principal.
4 of 4 basic assumptions that underlie accounting measurement and reporting relate to the
statement of financial position.
Separateentity assumption: states that business transactions are separate from the transactions
of the owners.
Unit of measure assumption: states that accounting information should be measured and
reported in the national monetary unit.
Continuity (going concern) assumption: states that businesses are assumed to continue to
operate into the foreseeable future.
Basic Accounting Principle
Cost principle: requires assets to be recorded at the historical cashequivalent cost, which is
cash paid plus the current monetary value of all noncash considerations also given in the
exchange, on the data of the transaction.
Elements of the Classified Statement of Financial Position
Assets: economic resources controlled by an entity as a result of past transactions or events and
from which future economic benefits may be obtained.
For example, consolidated statement of financial position – consolidated means that the
classified elements of a company’s statement of financial position are combined with those of
other companies under its control.
Column / report format – assets listed first, then liabilities and then shareholders’ equity.
Typically, assets of a company include:
1. Current assets (shortterm)
a) Cash and cash equivalents
b) Shortterm investments
c) Trade and other receivables Trade receivables are amounts owed by customers who
purchased products and services on credit. Generally collected within a year. Notes
receivable are written promises by customers and others to pay a company fixed amounts
by specific dates.
d) Inventories – goods that 1) are held for sale to customers in the normal course of business
or 2) are used to produce goods or services for sale.
e) Prepayments (i.e. expenses paid in advance of use)
f) Other current assets
2. Noncurrent assets (longterm) a) Property, plant and equipment (at cost less accumulated depreciation)
b) Investment in associates – shares of another corporation.
c) Financial assets – investment in shares or debt instruments issued by other companies
that a company intends to keep for longer than 1 year.
d) Goodwill – intangible asset that arises when a company purchases another business to
control its operating, investment and financing decisions.
e) Intangible assets – patents, trademarks, operating rights.
f) Other (miscellaneous) assets
Current assets: assets that will be used or turned into cash, normally within one year or the
operating business cycle, whichever is longer. Inventory is always considered to be a current
asset, regardless of the time needed to produce and sell it.
Noncurrent assets: are considered to be long term because they will be used or turned into cash
over a period longer than the next year.
Liabilities: are present debts or obligations of the entity that result from past transactions, which
will be paid with assets or services.
Typically, liabilities of a company include the following:
1. Current liabilities (shortterm)
a) Trade payables – total amount owed to suppliers of materials that a company used in
producing and packaging its products for sale.
b) Shortterm borrowings – shortterm loans from banks.
c) Income taxes payable – estimate of the amount of taxes.
d) Accrued liabilities – total amount owed to suppliers for various types of services such as
payroll, rent and other obligations.
e) Other current liabilities
2. Noncurrent liabilities (longterm)
a) Longterm borrowings – from banks and other lenders
b) Deferred income tax liabilities – arise from temporary differences between the profit
measured in accordance with IFRS and taxable profit that is determined in conformity
with applicable tax laws.
c) Provisions – estimated liabilities characterized by uncertainty about the exact amount of
be paid and the timing of the payment.
d) Other liabilities
Current liabilities: are obligations that will be paid in cash (or other current assets) or satisfied
by providing service within the coming year.
Liabilities are listed by order of time to maturity.
Noncurrent liabilities: are a company’s debts that have maturities extending beyond one year
from the date of the statement of financial position.
Shareholders’ equity (owners’ equity or stockholders’ equity): the financing provided by the
owners and the operations of the business. Owners invest (purchase shares) in a company because they expect to receive two types of cash
flow: dividends, which are a distribution of the corporation’s earnings (a return on shareholders’
investment) and gains from selling their shares for more than they paid (capital gains).
Typically the shareholders’ equity of a corporation includes the following:
1. Share capital (or capital stock)
2. Retained earnings (accumulate earnings that have not been declared as dividends)
3. Other components
Share capital: results from owners providing cash (and sometimes other assets) to the business.
Contributed surplus: when shareholders contribute in excess of the amount allocated to share
capital, such as premiums on shares issued.
Contributed capital: the sum of share capital and contributed surplus.
Retained earnings: refers to the accumulated earnings of a company that are not distributed to
the owners and are reinvested in the business.
Noncontrolling interest – when a company does not have all the voting shares issued by a
different company, so its shareholders’ equity is divided between the controlling and non
What Type of Business Activities Cause Changes in Financial Statement Amounts?
Nature of Business Transactions
Transaction: is 1) an exchange between a business and one or more external parties to a
business or 2) a measurable internal event, such as adjustments for the use of assets in
Only economic resources and debts resulting from past transactions are recorded on the
statement of f