- The second flavor of accounting is financial accounting.
Financial accounting involves reporting
the summary results of a business or organization
to people outside that organization.
Now, let's say you have a friend, Lily.
Lily has a dream.
She wants to start and operate her own ice cream business.
Lily has figured out what she's going to need
to make this happen,
and she wants to build her ice cream factory
right where you're sitting right now.
Look around where you are right now.
That's going to be Lily's ice cream factory.
She's going to buy the land,
she's going to buy the building,
she's going to get it full of big, gleaming
stainless steel ice-cream-making machines.
Lily has figured out that in order
to turn her dream into reality,
she needs $100 million.
How could Lily convince strangers
to give her $100 million for her ice cream company?
Well, she can't without reliable financial statements.
She must provide those strangers with a financial report
that summarizes the profitability
of the ice cream business
and that lists the resources and obligations
of the business.
Without reliably communicating
the financial situation of her business,
Lily cannot convince strangers
to give her the $100 million.
With reliable financial statements,
accounting is right there
at that crucial point in the business.
Accounting allows people to raise money from strangers
so that they can turn their dreams into reality.
It's accounting that makes that happen.
So, what are these fabulous financial statements?
They're called the balance sheet and the income statement.
A balance sheet is a very fundamental report.
It's a list of an organization's resources,
accountants call those assets,
and an organization's obligations,
accountants call those liabilities.
Examples of assets are cash, land,
trucks, and equipment.
Examples of liabilities are bank loans,
taxes you owe to the government,
and wages you owe to your employees.
A balance sheet is a fundamental report for any business.
It reports what you have and what you owe.
The next fundamental financial statement
is called the income statement,
which reports how much money the company is making.
If I'm thinking of loaning money to your company
or investing in your company,
I need a report of how much money you're making.
The balance sheet and the income statement
are summary reports that are provided by businesses
to people outside the company
so that those people outside can decide,
should we loan to this company,
should we invest in this company?