Stephen L. Nelson - QuickBooks 2022 All-in-One For Dummies

When you combine the net income, the accounts payable adjustment, and the inventory adjustment, you get the net cash provided by the operating activities. In Table 1-8, these three amounts combine for $5,000 of cash provided by the operations.

After you understand the details of the financing and operating activities areas of the statement of cash flows, the statement makes sense. Net cash provided by the operating activities equals $5,000. Financing activities reduce cash by $1,000. This means that cash actually increased over the period by $4,000, which explains why cash starts the period at $1,000 and ends the period at $5,000.

You can probably come up with examples of several other popular or useful accounting reports. Not surprisingly, a good accounting system such as QuickBooks produces most of these reports. One very common report or financial statement, for example, is a list of the amounts that your customers owe you. It’s a good idea to prepare and review such reports on a regular basis to make sure that you don’t have customers turning into collection problems.

Table 1-9shows how the simplest sort of accounts receivable report may look. Each customer is named along with the amount owed.

TABLE 1-9An Accounts Receivable Report at End of Day

Table 1-10shows another common accounting report: an inventory report that the hot dog stand may have at the start of the day. An inventory report like the one shown in Table 1-10probably would name the various items held for resale, the quantity held, and the amount or value of the inventory item. A report such as this one is useful for making sure that you have the appropriate quantities of inventory in stock. (Think of how useful such a report would be if you really were planning to sell thousands of hot dogs at major sporting events in your hometown.)

TABLE 1-10An Inventory Report at Start of Day

By now, you should understand what an accounting system does. When you boil everything down to its essence, it’s straightforward, isn’t it? Really, an accounting system just provides you the financial information that you need to run your business.

Let me add a tangential but important point: QuickBooks supplies all this accounting information. For the most part, preparing these sorts of financial statements in QuickBooks is pretty darn easy. But first, you’ll find it helpful to know a bit more about accounting and bookkeeping. I go over that information in the coming chapters. Also, note that the big-picture stuff covered in this chapter is the most important knowledge that you need. If you understand the ideas described in this chapter, the battle is more than half won.

Are you curious about the differences among a sole proprietorship, a partnership, and a corporation? A sole proprietorship is formed automatically in most states and in most industries when an individual decides to go into business. In many jurisdictions, the sole proprietor needs to acquire or apply for a business license from the state or local city government. Other than clearing that modest hurdle, sole proprietorship requires no special prerequisites.

A partnership is formed automatically when two or more people enter into a joint business or investment activity for the purpose of making a profit. As is the case with a sole proprietorship, partnerships typically need to acquire a business license from the state and perhaps the federal government. Partnership formation doesn’t necessarily require any additional paperwork or legal maneuvering. If you do enter into a partnership, however, most attorneys (probably all attorneys) will tell you that you do so at a certain amount of risk if you don’t have an attorney draw up a partnership agreement that outlines the duties, rights, and responsibilities of the partners. Also be aware that you can form a partnership simply by collaborating in business with someone. The law books are full of stories of people who inadvertently created partnerships merely by collaborating on some project, sharing office space, or working together on some activity.

By comparison, most states allow several other business forms, including corporations, limited liability companies, and limited liability partnerships. These other business forms sometimes require considerably more work to set up, sometimes the assistance of a good attorney or accountant, and sometimes payment of several hundred — possibly several thousand — dollars in legal and licensing fees. The unique feature of most of these other business forms is that the corporation, limited liability company, or limited liability partnership becomes a separate legal entity. In many cases, this separate legal entity protects investors from creditors that have a claim on the assets of the business. By comparison, in a sole proprietorship or a partnership, the sole proprietor and the partners are liable for the debts and obligations of the proprietorship or the partnership.

If you have questions about the correct business form in which to operate, talk with a good local attorney or accountant. They can assist you in choosing the appropriate business form and in considering both the legal and tax aspects of choosing a particular form. As a general rule, more-sophisticated business forms such as corporations, limited liability companies, and limited liability partnerships deliver significant legal and tax benefits to investors and managers. Unfortunately, these more-sophisticated business forms also require considerably more legal and accounting fiddle-faddling.

Maybe the phrase philosophy of accounting is too strong, but accounting does rest on a rather small set of fundamental assumptions and principles. People often refer to these fundamentals as generally accepted accounting principles .

I want to quickly summarize what these principles are. I find — and I bet you’ll find the same thing — that understanding the principles provides context and makes accounting practices more understandable. With this in mind, let me go through the half dozen or so key accounting principles and assumptions.

These basic accounting principles underlie business accounting. These principles and assumptions are implicit in all the discussions in this entire book. It’s no exaggeration to say that they permeate almost everything related to business accounting.

The revenue principle, also known as the realization principle, states that revenue is earned when the sale is made. Typically, the sale is made when goods or services are provided. A key component of the revenue principle, when it comes to the sale of goods, is that revenue is earned when legal ownership of the goods passes from seller to buyer.

Note that revenue isn’t earned when you collect cash for something. It turns out, perhaps counterintuitively, that counting revenue when cash is collected doesn’t give the business owner a good idea of what sales really are. Some customers may pay deposits early, before actually receiving the goods or services. Often, customers want to use trade credit, paying a firm at some point in the future for goods or services. Because cash flows can fluctuate wildly — even something like a delay in the mail can affect cash flow — you don’t want to use cash collection from customers as a measure of sales. Besides, you can easily track cash collections from customers. So why not have the extra information about when sales actually occur?