Chapter 1 The Purpose and Use of Financial Statements
• Identify the users and uses of accounting.
• Describe the primary forms of business organization.
• Explain the three main types of business activity.
• Describe the content and purpose of each of the financial statements.
Users and Uses of Accounting
• Accounting is the information system that:
o Identifies and records the economic events of an organization
o Communicates them to a wide variety of interested users
• It is “the language of business.”
• It helps users to make decisions.
• Managers (Internal)
• Investors (External)
Internal Users External Users
• Users within the organization. • Users who are outside of the
• Accounting information helps to organization.
make decisions: • Accounting information helps to
o Whether to purchase new make decisions:
equipment o Is the company earning
o Whether to hire new enough to give me my
employees required return on
o Determine the price to sell investment?
products o Will the company be able to
repay its debts as the debts
Forms of Business Organization
A business may be organized as a:
1. Proprietorship: A business owned by one person.
2. Partnership: A business owned by two or more people.
3. Corporation: A separate legal entity owned by shareholders (Eg. Bombardier,
• Simple to establish • Unlimited liability (proprietor
• Owner controlled personally liable for all debts of the
• Financing may be difficult • Limited life
• The proprietor pays personal income tax on the company’s profits. Depending on
the circumstances, this may be an advantage or disadvantage.
• Simple to establish • Partners personally liable
• Broader skills and resources • Transfer of ownership may be
• Shared financial resources difficult
• Shared control
• Partners pay personal income tax on their share of profits. Depending on the
circumstances, this may be an advantage or disadvantage.
• Easy to sell or transfer ownership • More expensive and complex to set
• Greater capital raising potential up
• Legal liability limited to the net • Must file corporate income tax
assets of the corporation returns annually
• Indefinite life
• Corporations are taxed as a separate legal entity. This may be an advantage or a
Public Corporations Private Corporations
• List and trade their shares on public • Do not list or trade their shares on
stock exchanges public stock exchange
• GAAP: IFRS • GAAP: ASPE or IFRS, once the
• Broad group of users of financial selection has been made, it must be
statements consistently applied
• Eg. Bombardier, Research in • Small group of users of financial
• More than 2 million private
corporations in Canada
• Eg. McCain Foods
Types of Business Activity
Three types of business activity:
1. Financing activities
2. Investing activities
3. Operating activities
1. Financing Activities
• Obtaining (and repaying) funds to finance the operations of the business.
• The two primary sources are: o Debt: Borrowing money from lenders and other creditors, which creates a
o Equity: Issuing (selling) ownership interests in the corporation to
• Debt (bonds)
• Equity (shareholders)
• Must compare return on investment and risk
• Higher return on equity but h