Paul D. Kimmel, PhD, CPA, received his bachelor's degree from the University of Minnesota and his doctorate in accounting from the University of Wisconsin. He is an Associate Professor at the University of Wisconsin -Milwaukee, and has public accounting experience with Deloitte & Touche (Minneapolis). He was the recipient of the UWM School of Business Advisory Council Teaching Award and the Reggie Taite Excellence in Teaching Award, and is a three-time winner of the Outstanding Teaching Assisting Award at the University of Wisconsin. He is also a recipient of the Elijah Watts Sells Award for Honorary Distinction for his results on the CPA exam. He is a member of the American Accounting Association and has published articles in Accounting Review, Accounting Horizons, Advances in Management Accounting, Managerial Finance, Issues in Accounting Education, Journal of Accounting Education, as well as other journals. His research interests include accounting for financial instruments and innovation in accounting education. He has published papers and given numerous talks on incorporating critical thinking into accounting education, and helped prepare a catalog of critical thinking resources for the Federated Schools of Accountancy.

Jerry J. Weygandt, PhD, CPA, is Arthur Andersen Alumni Professor of Accounting at the University of Wisconsin-Madison. He holds a Ph.D. in accounting from the University of Illinois. Articles by Professor Weygandt have appeared in the Accounting Review, Journal of Accounting Research, Accounting Horizons, Journal of Accountancy, and other academic and professional journals. These articles have examined such financial reporting issues as accounting for price-level adjustments, pensions, convertible securities, stock option contracts, and interim reports. Professor Weygandt is author of other accounting and financial reporting books and is a member of the American Accounting Association, the American Institute of Certified Public Accountants, and the Wisconsin Society of Certified Public Accountants. He has served on numerous committees of the American Accounting Association and as a member of the editorial board of the Accounting Review; he also has served as President and Secretary-Treasurer of the American Accounting Association. He is the recipient of the Wisconsin Institute of CPAs Outstanding Educator's Award and the Lifetime Achievement Award. In 2001 he received the American Accounting Association's Outstanding Accounting Educator Award.

Donald E. Kieso, PhD, CPA, received his bachelor's degree from Aurora University and his doctorate in accounting from the University of Illinois. He is currently the KPMG Peat Marwick Emeritus Professor of Accounting at Northern Illinois University. He has public accounting experience with Price Waterhouse & Co. (San Francisco and Chicago) and Arthur Andersen & Co. (Chicago) and research experience with the Research Division of the American Institute of Certified Public Accountants (New York). He has done post doctorate work as a Visiting Scholar at the University of California at Berkeley and is a recipient of NIU's Teaching Excellence Award and four Golden Apple Teaching Awards. Professor Kieso is the author of other accounting and business books and is a member of the American Accounting Association, the American Institute of Certified Public Accountants, and the Illinois CPA Society. He is currently serving on the Board of Trustees and Executive Committee of Aurora University, as a member of the Board of Directors of Castle BancGroup Inc., and as Treasurer and Director of Valley West Community Hospital.

1 Introduction to Financial Statements 2

Knowing the Numbers 3

LO 1: Study the forms of business organization and the uses of accounting information 4

Forms of Business Organization 4

Users and Uses of Financial Information 5

Ethics in Financial Reporting 7

LO 2: Explain the three principal types of business activity 8

Financing Activities 9

Investing Activities 9

Operating Activities 9

LO 3: Describe the four financial statements and how they are prepared 11

Income Statement 11

Retained Earnings Statement 12

Balance Sheet 13

Statement of Cash Flows 14

Interrelationships of Statements 15

Other Elements of an Annual Report 18

A Look at IFRS 42

2 A Further Look at Financial Statements 46

Just Fooling Around? 45

LO 1: Identity the sections of a classified balance sheet 46

Current Assets 46

Long-Term Investments 48

Property, Plant, and Equipment 48

Intangible Assets 48

Current Liabilities 50

Long-Term Liabilities 50

Stockholders’ Equity 50

LO 2: Use ratios to evaluate a company’s profitability, liquidity, and solvency 51

Ratio Analysis 51

Using the Income Statement 52

Using a Classified Balance Sheet 53

Using the Statement of Cash Flows 57

LO 3: Discuss financial reporting concepts 58

The Standard-Setting Environment 58

Qualities of Useful Information 59

Assumptions in Financial Reporting 60

Principles in Financial Reporting 61

Cost Constraint 62

A Look at IFRS 87

3 The Accounting Information System 90

Accidents Happen 91

LO 1: Analyze the effect of business transactions on the basic accounting equation 92

Accounting Transactions 92

Analyzing Transactions 93

Summary of Transactions 99

LO 2: Explain how accounts, debits, and credits are used to record business transactions 100

Debits and Credits 101

Debit and Credit Procedures 101

Stockholders’ Equity Relationships 104

Summary of Debit/Credit Rules 105

LO 3: Indicate how a journal is used in the recording process 106

The Recording Process 106

The Journal 106

LO 4: Explain how a ledger and posting help in the recording process 109

The Ledger 109

Chart of Accounts 109

Posting 110

The Recording Process Illustrated 111

Summary Illustration of Journalizing and Posting 117

LO 5: Prepare a trial balance 119

Limitations of a Trial Balance 119

A Look at IFRS 148

4 Accrual Accounting Concepts 46

Keeping Track of Groupons 151

LO 1: Explain the accrual basis of accounting and the reasons for adjusting entries 152

The Revenue Recognition Principle 152

The Expense Recognition Principle 152

Accrual versus Cash Basis of Accounting 153

The Need for Adjusting Entries 154

Types of Adjusting Entries 155

LO 2: Prepare adjusting entries for deferrals 156

Prepaid Expenses 156

Unearned Revenues 160

LO 3: Prepare adjusting entries for accruals 163

Accrued Revenues 163

Accrued Expenses 164

Summary of Basic Relationships 167

LO 4: Prepare an adjusted trial balance and closing entries 170

Preparing the Adjusted Trial Balance 170

Preparing Financial Statements 171

Quality of Earnings 172

Closing the Books 175

Summary of the Accounting Cycle 177

LO *5: Appendix 4A: Describe the purpose and the basic form of a worksheet 182

A Look at IFRS 212

5 Merchandising Operations and the Multiple-Step Income Statement 150

Buy Now, Vote Later 215

LO 1: Describe merchandising operations and inventory systems 216

Operating Cycles 216

Flow of Costs 217

LO 2: Record purchases under a perpetual inventory system 219

Freight Costs 221

Purchase Returns and Allowances 221

Purchase Discounts 222

Summary of Purchasing Transactions 223

LO 3: Record sales under a perpetual inventory system 224

Sales Returns and Allowances 225

Sales Discounts 226

LO 4: Prepare a multiple-step income statement and a comprehensive income statement 227

Single-Step Income Statement 227

Multiple-Step Income Statement 228

Comprehensive Income Statement 231

LO 5: Determine cost of goods sold under a periodic inventory system 233

LO 6: Compute and analyze gross profit rate and profit margin 234

Gross Profit Rate 234

Profit Margin 235

LO *7: Appendix 5A: Record purchases and sales of inventory under a periodic inventory system 239

Recording Merchandise Transactions 239

Recording Purchases of Merchandise 239

Freight Costs 240

Recording Sales of Merchandise 240

Comparison of Entries—Perpetual vs. Periodic 241

A Look at IFRS 264

6 Reporting and Analyzing Inventory 266

“Where Is That Spare Bulldozer Blade?” 267

LO 1: Discuss how to classify and determine inventory 268

Classifying Inventory 268

Determining Inventory Quantities 269

LO 2: Apply inventory cost flow methods and discuss their financial effects 271

Specific Identification 272

Cost Flow Assumptions 273

Financial Statement and Tax Effects of Cost Flow Methods 277

Using Inventory Cost Flow Methods Consistently 280

LO 3: Explain the statement presentation and analysis of inventory 281

Presentation 281

Lower-of-Cost-or-Market 281

Analysis 283

Analysts’ Adjustments for LIFO Reserve 284

LO *4: Appendix 6A: Apply inventory cost flow methods to perpetual inventory records 287

First-In, First-Out (FIFO) 287

Last-In, First-Out (LIFO) 288

Average-Cost 289

LO *5: Appendix 6B: Indicate the effects of inventory errors on the financial statements 289

Income Statement Effects 289

Balance Sheet Effects 290

A Look at IFRS 314

7 Fraud, Internal Control, and Cash 316

Minding the Money in Madison 317

LO 1: Define fraud and the principles of internal control 318

Fraud 318

The Sarbanes-Oxley Act 318

Internal Control 319

Principles of Internal Control Activities 320

Limitations of Internal Control 326

LO 2: Apply internal control principles to cash 327

Cash Receipts Controls 328

Cash Disbursements Controls 330

LO 3: Apply the control features of a bank account 333

Electronic Funds Transfer (EFT) System 333

Bank Statements 333

Reconciling the Bank Account 334

LO 4: Explain the reporting of cash and the basic principles of cash management 340

Reporting Cash 340

Managing and Monitoring Cash 341

Cash Budgeting 344

LO *5: Appendix 7A: Explain the operation of a petty cash fund 347

Establishing the Petty Cash Fund 347

Making Payments from Petty Cash 347

Replenishing the Petty Cash Fund 348

A Look at IFRS 371

8 Reporting and Analyzing Receivables 374

What’s Cooking? 375

LO 1: Explain how companies recognize accounts receivable 376

Types of Receivables 376

Recognizing Accounts Receivable 376

LO 2: Describe how companies value accounts receivable and record their disposition 378

Valuing Accounts Receivable 378

Disposing of Accounts Receivable 385

LO 3: Explain how companies recognize, value, and dispose of notes receivable 387

Determining the Maturity Date 388

Computing Interest 388

Recognizing Notes Receivable 388

Valuing Notes Receivable 389

Disposing of Notes Receivable 389

LO 4: Describe the statement presentation of receivables and the principles of receivables management 391

Financial Statement Presentation of Receivables 391

Managing Receivables 392

Evaluating Liquidity of Receivables 394

Accelerating Cash Receipts 396

A Look at IFRS 419

9 Reporting and Analyzing Long-Lived Assets 422

A Tale of Two Airlines 423

LO 1: Explain the accounting for plant asset expenditures 424

Determining the Cost of Plant Assets 424

Expenditures During Useful Life 427

To Buy or Lease? 428

LO 2: Apply depreciation methods to plant assets 429

Factors in Computing Depreciation 430

Depreciation Methods 430

Revising Periodic Depreciation 435

Impairments 436

LO 3: Explain how to account for the disposal of plant assets 437

Sale of Plant Assets 437

Retirement of Plant Assets 438

LO 4: Identity the basic issues related to reporting intangible assets 439

Accounting for Intangible Assets 440

Types of Intangible Assets 440

LO 5: Discuss how long-lived assets are reported and analyzed 443

Presentation 443

Analysis 444

LO *6: Appendix 9A: Compute periodic depreciation using the declining-balance method and the units-of-activity method 449

Declining-Balance Method 449

Units-of-Activity Method 450

A Look at IFRS 475

10 Reporting and Analyzing Liabilities 478

And Then There Were Two 479

LO 1: Explain how to account for current liabilities 480

What Is a Current Liability? 480

Notes Payable 480

Sales Taxes Payable 481

Unearned Revenues 481

Current Maturities of Long-Term Debt 482

Payroll and Payroll Taxes Payable 483

LO 2: Describe the major characteristics of bonds 485

Types of Bonds 486

Issuing Procedures 486

Determining the Market Price of Bonds 486

LO 3: Explain how to account for bond transactions 489

Issuing Bonds at Face Value 489

Discount or Premium on Bonds 489

Issuing Bonds at a Discount 490

Issuing Bonds at a Premium 492

Redeeming Bonds at Maturity 493

Redeeming Bonds before Maturity 493

LO 4: Discuss how liabilities are reported and analyzed 495

Presentation 495

Analysis 496

LO *5: Appendix 10A: Apply the straight-line method of amortizing bond discount and bond premium 502

Amortizing Bond Discount 502

Amortizing Bond Premium 503

LO *6: Appendix 10B: Apply the effective-interest method of amortizing bond discount and bond premium 504

Amortizing Bond Discount 505

Amortizing Bond Premium 506

LO *7: Appendix 10C: Describe the accounting for long-term notes payable 507

A Look at IFRS 534

11 Reporting and Analyzing Stockholders’ Equity 536

Oh Well, I Guess I’ll Get Rich 537

LO 1: Discuss the major characteristics of a corporation 538

Characteristics of a Corporation 538

Forming a Corporation 541

Stockholder Rights 541

Stock Issue Considerations 542

Corporate Capital 544

LO 2: Explain how to account for the issuance of common and preferred stock, and the purchase of treasury stock 545

Accounting for Common Stock 545

Accounting for Preferred Stock 546

Treasury Stock 547

LO 3: Explain how to account for cash dividends and describe the effect of stock dividends and stock splits 549

Cash Dividends 549

Dividend Preferences 552

Stock Dividends 553

Stock Splits 555

LO 4: Discuss how stockholders’ equity is reported and analyzed 557

Retained Earnings 557

Retained Earnings Restrictions 558

Balance Sheet Presentation of Stockholders’ Equity 558

Analysis of Stockholders’ Equity 560

Debt versus Equity Decision 562

LO *5: Appendix 11A: Prepare entries for stock dividends 565

A Look at IFRS 587

12 Statement of Cash Flows 590

Got Cash? 591

LO 1: Discuss the usefulness and format of the statement of cash flows 592

Usefulness of the Statement of Cash Flows 592

Classification of Cash Flows 592

Significant Noncash Activities 593

Format of the Statement of Cash Flows 594

LO 2: Prepare a statement of cash flows using the indirect method 595

Indirect and Direct Methods 596

Indirect Method—Computer Services Company 596

Step 1: Operating Activities 598

Summary of Conversion to Net Cash Provided by Operating Activities–Indirect Method 601

Step 2: Investing and Financing Activities 603

Step 3: Net Change in Cash 604

LO 3: Use the statement of cash flows to evaluate a company 607

The Corporate Life Cycle 607

Free Cash Flow 609

LO *4: Appendix 12A: Prepare a statement of cash flows using the direct method 611

Step 1: Operating Activities 613

Step 2: Investing and Financing Activities 617

Step 3: Net Change in Cash 618

LO *5: Appendix 12B: Use the T-account approach to prepare a statement of cash flows 618

A Look at IFRS 643

13 Financial Analysis: The Big Picture 646

It Pays to Be Patient 647

LO 1: Apply the concept of sustainable income and quality of earnings 648

Sustainable Income 648

Quality of Earnings 652

LO 2: Apply horizontal analysis and vertical analysis 654

Horizontal Analysis 655

Vertical Analysis 657

LO 3: Analyze a company’s performance using ratio analysis 660

Price-Earnings Ratio 660

Liquidity Ratios 660

Solvency Ratios 661

Profitability Ratios 661

LO *4: Appendix 13A: Evaluate a company comprehensively using ratio analysis 666

Liquidity Ratios 668

Solvency Ratios 670

Profitability Ratios 672

A Look at IFRS 699

A Specimen Financial Statements: Apple Inc. A-1

B Specimen Financial Statements: Columbia Sportswear Company B-1

C Specimen Financial Statements: VF Corporation C-1

D Specimen Financial Statements: Amazon.com, Inc. D-1

E Specimen Financial Statements: Wal-Mart Stores, Inc. E-1

F Specimen Financial Statements: Louis Vuitton F-1

G Time Value of Money G-1

LO 1: Compute interest and future values G-1

Nature of Interest G-1

Future Value of a Single Amount G-3

Future Value of an Annuity G-4

LO 2: Compute present values G-7

Present Value Variables G-7

Present Value of a Single Amount G-7

Present Value of an Annuity G-9

Time Periods and Discounting G-11

Present Value of a Long-Term Note or Bond G-11

LO 3: Use a financial calculator to solve time value of money problems G-13

Present Value of a Single Sum G-14

Present Value of an Annuity G-15

Useful Applications of the Financial Calculator G-15

H Reporting and Analyzing Investments H-1

LO 1: Explain how to account for debt investments H-1

Why Corporations Invest H-1

Accounting for Debt Investments H-3

LO 2: Explain how to account for stock investments H-4

Holdings of Less than 20% H-4

Holdings Between 20% and 50% H-5

Holdings of More than 50% H-6

LO 3: Discuss how debt and stock investments are reported in the financial statements H-7

Categories of Securities H-7

Balance Sheet Presentation H-10

Presentation of Realized and Unrealized Gain or Loss H-11

Statement of Cash Flows Presentation H-12

Company Index I-1

Subject Index I-5

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