LLH9e Chapter 03
LLH9e Chapter 03
LLH9e Chapter 03
Financial Accounting
9e
Libby • Libby • Hodge
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Understanding the Business
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The Operating Cycle
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The Operating Cycle
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Elements of the Income Statement
Revenues
Increases in assets or settlements of liabilities from
ongoing operations.
Expenses
Decreases in assets or increases in liabilities from
ongoing operations.
Gains
Increases in assets or settlements of liabilities from
peripheral transactions.
Losses
Decreases in assets or increases in liabilities from
peripheral transactions.
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Exhibit 3.1
Chipotle Mexican Grill’s Income Statement
*The information CHIPOTLE MEXICAN GRILL, INC.
has been adapted Consolidated Statement of Income*
from actual For the Year ended December 31, 2014
statements and
simplified for this
(in thousands of dollars, except per share data)
chapter.
Restaurant sales revenue $4,108,300
Restaurant operating expenses:
Supplies expense 1,421,000
Wages expense 904,400 Includes salaries expense
Rent expense 230,900
Insurance expense 118,000
Operating Utilities expense 60,700
activities Repairs expense 35,200
(central Other operating expenses 338,300
focus of
business) General and administrative expenses:
Training expense 151,000 Includes pre-opening costs
Advertising expense 20,500
Depreciation expense 110,500
Loss on disposal of assets 7,000
Total operating expenses 3,397,500
Peripheral Income from operations 710,800
activities Other items:
(not central
Interest revenue 4,200
focus of
business) Interest expense (700)
Income before income taxes 714,300
Income tax expense 269,000 Also called Provision for Income Taxes
Net income $ 445,300
Earnings per share $14.35 = $445,300,000 Net Income ÷ 31,038,000
weighted average number of common stock
shares outstanding (per 2014 annual report)
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Operating Revenues
q Revenues
• Any increases in assets or settlements of liabilities from
ongoing operations of the business
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Operating Expenses
Cash
expenditures
Debt Asset
payments purchases
Expenses
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Examples of Chipotle’s Operating Expenses
Depreciation
expense
Advertising Supplies
expense expense
Utilities Wages
expense expense
Insurance
Rent expense
expense
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Other Income Statement Items
q Interest revenue
q Interest expense
Earnings
per
Share
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International Perspective
Income Statement Differences
Under IFRS, the income statement is usually titled the Statement of Operations. There is
also a difference in how expenses may be reported:
GAAP IFRS
Presentation of Expenses
Similar expenses are reported, Public companies categorize Companies can
but they may be grouped in expenses by business categorize expenses
different ways. function (e.g., production, by either function or
research, marketing, general nature (e.g., salaries,
operations). rent, supplies,
electricity).
In addition, foreign companies often use account titles that differ from those used by U.S.
companies. For example, GlaxoSmithKline (a UK pharmaceutical company), Parmalat (an
Italian food producer of milk, dairy products, and fruit-based beverages), and Unilever (a UK-
and Netherlands-based company supplying food, home, and personal care products such as
Hellman’s mayonnaise, Dove soap, and Popsicle treats) use the term turnover to refer to sales
revenue, finance income for income from investments, and finance cost for interest expense.
BMW Group, on the other hand, reports revenues and uses financial result for the difference
between income from investments and interest expense. All four companies follow IFRS.
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How Are Operating Activities Recognized and Measured?
Cash Basis
GAAP does not allow the cash The cash basis may be adequate
basis of accounting. for organizations that do not
need to report to external users.
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Cash Basis Accounting
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How Are Operating Activities Recognized and Measured?
Accrual Accounting
Required by:
Generally Acceptable Accounting Principles (GAAP)
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Exhibit 3.2
Recording Revenues versus Cash Receipts
1 2 3
before food when food after food
delivery is delivered delivery
TIME
DELIVERY
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Revenue Recognition Principle
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Revenue Recognition Principle
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Revenue Recognition Principle
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Revenue Recognition for More Complex
Customer Contracts FINANCIAL ANALYSIS
$$$
Five steps to recognizing revenue:
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Exhibit 3.3
Recording Expenses versus Cash Payments
1 2 3
to purchase for repairs the to employees for
supplies before same day work in the prior
being used (services used) period
TIME
USED
(INCURRED to generate revenue)
Record EXPENSE here
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Expense Recognition Principle
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Expense Recognition Principle
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Expense Recognition Principle
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A Question ofIncentives
Management’s Ethics to Violate Accounting Rules
Annette Bongiorno, 62 Recorded trades of securities in the wrong Convicted, December 2014 Sentenced to 6
and Joann Crupi, 49 accounting period as part of a Ponzi scheme. years each; forfeit a
Madoff Investment total of $188.9
Securities billion
Bernard Madoff, 71 Scammed $50 billion from investors in a Ponzi Confessed, December Sentenced to
Madoff Investment scheme (in which investors receive “returns” 2008 150 years
Securities from money paid by subsequent investors).
Bernie Ebbers, 65 Recorded $11 billion in operating expenses as Convicted, July 2005 Sentenced to 25 years
Worldcom if they were assets.
Sanjay Kumar, 44 Recorded sales in the wrong accounting Pleaded guilty, April 2006 Sentenced to 12 years
Computer Associates period.
Martin Grass, 49 Recorded rebates from drug companies before Pleaded guilty, June 2003 Sentenced to 8 years
Rite Aid Corporation they were earned.
Barry Minkow, 21 Made up customers and sales to show profits Convicted, December 1988 Sentenced to 25 years
ZZZZ Best when, in reality, the company was a sham.
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Exhibit 3.4
Expanded Transaction Analysis Model
Note: As expenses
increase (are debited),
net income, retained
earnings, and
stockholders’ equity
ASSETS
(many
= LIABILITIES
(many
+ STOCKHOLDERS’ EQUITY
decrease.
accounts) accounts) Contributed Capital Earned Capital
(2 accounts) (1 account)
+ − – + Common Stock and Retained
Debit Credit Debit Credit Additional Paid-in Earnings
Capital
– + – +
Debit Credit Debit Credit
Investments Dividends Net = REVENUES
(many
– EXPENSES
(many
by owners declared income accounts)
accounts)
+ +
Credit Debit
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Exhibit 3.5
Transaction Analysis Steps
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Exhibit 3.6
Chipotle Mexican Grill’s Trial Balance
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Analyzing Chipotle’s Transactions
Debit Credit
(1) Supplies (+A) ……………………………………………….…………………….….….…. 369,800
Cash (−A) ………………………………………………………….…………........... 289,800
Accounts Payable (+L) …………………………………………………………. 80,000
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Analyzing Chipotle’s Transactions
Debit Credit
(2) Prepaid Expenses (+A) ……………………………………………………….….….…. 79,700
Cash (−A) ………………………………………………….…………..................... 79,700
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Analyzing Chipotle’s Transactions
(3) During the first quarter, Chipotle sold food to customers for
$1,071,700; $25,700 was sold to universities on account (to be paid by
the universities next quarter), and the rest was received in cash in the
stores. NOTE: To measure revenues and expenses in a period, these
accounts begin with a $0 balance; notice they are not listed on the trial
balance in Exhibit 3.6 because they have no balance yet.
Debit Credit
(3) Cash (+A) …………………………………………………….…………………….….….. 1,046,000
Accounts Receivable (+A) ……………………………………………………… 25,700
Restaurant Sales Revenue (+R, +SE) ………………………………. 1,071,700
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Analyzing Chipotle’s Transactions
Debit Credit
(4) Training Expense (+E, −SE) …………………………………………………….…….. 40,800
Cash (−A) ……………………………………………………………………………...... 40,800
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Analyzing Chipotle’s Transactions
(5) Chipotle paid employees $177,000 for work this quarter and
$73,900 for work last quarter (recorded last quarter as Wages
Expense and Wages Payable).
Debit Credit
(5) Wages Expense (+E, −SE) …………………………………………………..….….…. 177,000
Wages Payable (−L) ……………………………………………………………………... 73,900
Cash (−A) ……………………………………………………………………………..….. 250,900
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Analyzing Chipotle’s Transactions
(6) Chipotle sold for cash land costing $9,000 at a loss of $4,200.
Debit Credit
(6) Cash (+A) …………………………………………………..….……………………………. 4,800
Loss on Disposal of Assets (+E, −SE) ………………………………….………... 4,200
Land (−A) ……………………………………………………………………………..…. 9,000
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Analyzing Chipotle’s Transactions
Debit Credit
(7) Cash (+A) …………………………………………………..….……………………………. 39,000
Accounts Receivable (−A) ………………………………….……………………. 39,000
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Analyzing Chipotle’s Transactions
Debit Credit
(8) Accounts Payable (−L) …………………………………………………..……………. 73,500
Utilities Payable (−L) ………………………………….…………………………....... 35,900
Income Tax Expense (+E, −L) …………………………………………………….. 28,400
Cash (−A) ………………………………………………………………………………. 137,800
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Analyzing Chipotle’s Transactions
(9) Chipotle paid $75,400 for utilities used during the quarter and paid
$18,700 for repairs and maintenance of its facilities and equipment
during the quarter.
Debit Credit
(9) Utilities Expense (+E, −SE)…………………………………..….………..…………. 75,400
Repairs Expense (+E, −SE) ………………………………………………….………... 18,700
Cash (−A) ……………………………………………………………………………..……. 94,100
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Analyzing Chipotle’s Transactions
(10) Chipotle received $1,200 cash as interest revenue earned during the
quarter.
Debit Credit
(10) Cash (+A) …………………………………………………..….……………………………. 1,200
Interest Revenue (+R, +SE) ………………………………….…………………... 1,200
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Analyzing Chipotle’s Transactions
(11) During the quarter, Chipotle sold gift cards to customers for $21,900
in cash (expected to be redeemed for food next quarter).
Debit Credit
(11) Cash (+A) …………………………………………………..….……………………………. 21,900
Unearned Revenue (+L) ………………………………….…………………..…... 21,900
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Chipotle’s Balance Sheet Accounts
+ Cash (A) − + Short-Term Investments (A) − + Accounts Receivable (A) − + Supplies (A) −
Bal. 323,200 Bal. 347,600 Bal. 34,800 Bal. 15,300
(3) 1,046,000 289,800 (1) 347,600 (3) 25,700 39,000 (7) (1) 369,800
(6) 4,800 79,700 (2) 21,500 385,100
(7) 39,000 40,800 (4)
(10) 1,200 250,900 (5) + Prepaid Expenses (A) − + Land (A) − + Buildings (A) −
(11) 21,900 137,800 (8) Bal. 70,300 Bal. 21,100 Bal. 1,275,300
94,100 (9) (2) 79,700 9,000 (6)
543,000 150,000 12,100 1,275,300
+ Equipment (A) − − Accumulated Depreciation + + Long-Term Investments (A) − + Intangible Assets (A) −
Bal. 476,300 613,700 Bal. Bal. 531,100 Bal. 68,400
− Accounts Payable (L) + − Unearned Revenue (L) + − Dividends Payable (L) + − Wages Payable (L) +
69,600 Bal. 16,800 Bal. 3,000 Bal. 73,900 Bal.
(8) 73,500 80,000 21,900 (11) (5) 73,900
(1) 76,100 38,700 3,000 0
− Utilities Payable (L) + − Long-Term Notes Payable (L) + − Other Liabilities (L) +
85,400 Bal. 2,000 Bal. 285,900 Bal.
(8) 35,900
49,500 2,000 285,900
− Common Stock (SE) + − Additional Paid-in Capital (SE) + − Retained Earnings (SE) +
500 Bal. 293,800 Bal. 1,718,800 Bal.
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Chipotle’s Income Statement Accounts
+ Wages Expense (E) − + Utilities Expense (E) − + Repairs Expense (E) − + Training Expense (E) −
Bal. 0 Bal. 0 Bal. 0 Bal. 0
(5) 177,000 (9) 75,400 (9) 18,700 (4) 40,800
177,000 75,400 18,700 40,800
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How Is the Income Statement Prepared and Analyzed?
CHIPOTLE MEXICAN GRILL
Unadjusted Trial Balance
For the first quarter ended March 31, 2015
(in thousands) Debit Credit
Cash 543,000
Short-term investments 347,600
Accounts receivable 21,500
Supplies 385,100
Prepaid expenses 150,000
Land 12,100
Buildings 1,275,300
Equipment 476,300
Accumulated depreciation 613,700
Long-term investments 531,100
Intangible assets 68,400
Accounts payable 76,100
Unearned revenue 38,700
Dividends payable 3,000
Wages payable 0
Utilities payable 49,500
Long-term notes payable 2,000
Other liabilities 285,900
Common stock 500
Additional paid-in capital 293,800
Retained earnings 1,718,800
Restaurant sales revenue 1,071,700
Interest revenue 1,200
Wages expense 177,000
Utilities expense 75,400
Repairs expense 18,700
Training expense 40,800
Loss on disposal of assets 4,200
Income tax expense 28,400
Total 4,154,900 4,154,900
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How Is the Income Statement Prepared and Analyzed?
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Net Profit Margin Ratio
KEY RATIO ANALYSIS
$$$
How effective is management in generating
profit on every dollar of sales?
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Operating Activities
FOCUS ON CASH FLOWS
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