Chapter review/ study guide chapters 1-11
Chapter review/ study guide chapters 1-11 Financial Accounting 2001
Financial Accounting 2001
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Date Created: 02/08/15
Financial Accounting Review CHAPTER 1 Balance sheet reports the economic resources it owns and the sources of nancing for those resources Income statement reports its ability to sell goods for more than their cost to produce and sell Statement of stockholders equity reports additional contributions or payments to investors and the amount of income the company reinvested for future growth Statement of cash ows reports its ability to generate cash and how it was used Balance sheet is for assets liabilities and stockholders equitymust start with name of company title of the statement aka balance sheet speci c date of the statement and unit of measure Balance sheet equation assetsliabilitiesstockholders equity Assets resources controlled by the company Liabilities total amount of companys resources Stockholders equity nancing provided by stockholders Retained earinings past earnings not distributed to stockholdersmust come back to learn further four main asset variables although many others come into play cash accounts receivable inventories property plant equipment PPE liabilities indicate the amount of nancing provided by creditors company39s debts oronga ons common liabilities accounts payable notes payable stockholders equity investment of cash into the company and other assets by stockholders is called common stock income statement reports the accountants primary measure of performance of a business income statement equation Revenues expenses net income companies earn revenues from the sale of goods or servicesrevenues can be counted even if the customer hasn39t paid yet but the goods or services have been given revenues variable sales revenue cash and promises received from sale of beverages expenses variables cost of goods sold selling general and administrative expenses interest expense cost of using borrowed funds income before income taxes income tax expense then nal net income NOTE net income does not normally equal the net cash generated by operations discussed in cash ow Statement of stockholders equity reports the way that net income and the distribution of dividends affected the nancial position of the company during the accounting period Retained earnings reports the way that net income and the distribution of dividends affected the company39s nancial position during the accounting period Net income earned during the year increases the balance of retained earnings Retained earnings equations helps to understand relationship between income statement and balance sheet Beginning retained earnings net income dividends ending retained earnings Statement of Cash Flows divides a company39s cash in ows and out ows into the three primary categories of cash ow These are cash ows from operating investing and nancing activites Revenues do not always equal cash collected from customers because some sales may be on credit Expenses reported on the income statement may not be equal to the cash paid out during the period because expenses may be incurred in one period and paid for in another Statement of Cash ows works by adding up all cash ows from operating investing and nancing whether they may be negative or positive then adding on cash balance from the beginning balance to the new net increase or decrease in cash Operating activitiesdirectly related to earning income Investing activities directly related to the acquisition or sale of the company39s plant equipment and investments Financing activities directly related to the nancing of the enterprise itself examplepaying out dividends to stockholders Generally accepted accounting principles GAAP Until 1933 little uniformity existed across all existing companies for accounting practices The Securities and Exchange Commission SEC was created in the US and given broad powers to determine the measurement rules for nancial statements that companies issuing stock to the public must provide to stockholders Financial Accounting Standards Board FASB also is responsible for generally accepted accounting principles Auditors people who examine nancial reports to ensure that they represent what they claim and conform with GAAP CHAPTER 2 Separate entity assumption business owners must be counted separately from the company meaning assets of the owner aka a house for personal use it will not be an asset of the business Continuity assumption the business will continue operating into the foreseeable future to meet its contractual commitments and plans Assets probable future economic bene ts owned by the company Current assets will be used or turn into cash within the year Liabilities are payments of cash goods or services that have been promised and will be paid at some point in the future Current liabilities are giving the same within the next year When supplies are bought on credit it requires two transactions rst supplies is the debit and accounts payable is the credit Then accounts payable is the debit and cash is the credit Par value is a legal amount per share established by board of directors it represents the minimum amount a stockholder must contribute and has no relationship to the market price of the stock Common stock is the account that is equal to the number of shares issued by a corporation times the par value per share Additional paid in capital is the amount of capital contributed by the shareholders less the par value of the stock Journal Entries and Taccounts For T accounts increases in asset accounts on the leftincreases in liability and stockholders equity accounts are on the right Debit refers to the left side and Credit refers to the right side in total transactions DebitsCredits Journal entries express the effects of a transaction on accounts in a debitsequal credits format Always indent credits For common stock all shareholder equity accounts increases are shown on the right and decreases on the left A TRIAL BALANCE lists T account titles and then their nal Debit or Credit holding then the two are totaled to provide a check they should be equal Only use dollar signs at the top and bottom of sections of statements more is messy Most recent balance sheet amount are listed on the left when more than one period of time is used Ratio analysis and decision making classi cations of current and non current matter Current ratio current assets current liabilities could answer a question like does a company have the short term resources to pay of its short term debt The higher the ratio the more cushion the company has Current ratio could be misleading if a company has assets that are not easily turned to cash CHAPTER 3 Revenues de ned as increases in assets or settlements of liabilities from ongoing operations Expenditures and expenses are different Expenditures cover debt payments and asset purchases while expenses are out ows or using up of assets or increases in liabilities from ongoing operations Earnings per share ratio is widely used in evaluating the operating performance and pro tability of a company Net income weighted average number of shares of stock outstanding Cash basis accounting only recording when money physically comes in or goes out Accrual basis accounting records revenues when earned and expenses when incurred regardless of the timing of cash receipts or payments Revenue realization principle states that revenues are recognized when goods or services are delivered there is evidence that a customer will pay for a service a promise is received the price is xed or determinable and collection is reasonably assured If cash is received before goods are delivered it would be a cash debit and an unearned revenue credit which would be a liabilitythen when services are delivered the unearned revenue becomes the debit and the sales revenue restaurant becomes the credit Cash is received in the same period as the goods are deliveredthis is just a cash debit and sales revenue credit Cash is received after the goods or services are deliveredthis would be accounts receivable credit and a sales revenue credit since they owe the foodthen it would be a cash debit and accounts receivable credit Expense matching principle requires that expenses be recorded when incurred in earning revenue Cash is paid before expense is incurred to generate revenuesuppies debited and cash credited Cash is paid in the same period as the expense is incurred to generate revenueoperating expense debited and cash credited Cash is paid after the cost is incurred to generate revenue wages expense debited and accrued expenses payable creditedthen on payment of cashaccrued expenses payable debited and cash credited Revenues increase stockholders equity through retained earnings and therefore have credit balances Expenses are the opposite and have debit balances Net pro t margin ratio net pro t marginnet incomenet salesor operating revenues this is a percentmeasure of how much of every dollar earned during the period is pro t CHAPTER 4 Adjusting entries are entries necessary at the end of the accounting period to measure all revenues and expenses of that period Important Deferred unearned revenues previously recorded liabilities that were created when cash was received in advance and that must be reduced for the amount of revenue actually earned during the period Accrued revenues revenues that have been earned but not yet recorded because cash will be received after the services are performed Deferred Expenses previously recorded assets such as prepaid rent supplies and equipment that were created when cash was paid in advance and that must be reduced for the amount of expense actually incurred during the period through use of the asset Accrued expenses expenses that have been incurred but not yet recorded because cash will be paid after the goods or services are used Total asset turnover rationet salesoperating revenuesaverage total assetswhich is beginning balance ending balance2 CHAPTER 5 Securities exchange commission determines the nancial statements that public companies must provide to stockholders and measurement rules for those statements Financial accounting standards board given primary responsibility to work out the detailed rules that become generally accepted accounting principles Chief executive of cer highest of cer associated with the nancial and accounting side of the business sometimes also the chief nancial of cer Audit committeein place to keep the integrity of a companies accounting Institutional investorsmanagers of pension mutual endowment and other funds that invest on the behalf of others Private investorsindividuals who purchase shares in a company Form 10K annual report that publicly traded companies must le with the SEC Form 10Qquarterly report that companies must le with the SEC Form 8kused by companies to disclose any material event not previously reported that is important to investors or others Gross pro tnet salescost of goods sold Operating incomenet salescost of goods sold other operating expenses Gross pro t percentagegross pro tnet saesmeasures a company39s ability to charge premium prices and produce goods and services at a low cost Return of assets net incomeaverage total assets ROA measures how much the rm earned for each dollar of investment in assets Accounting review chapters 610 6 Review revenue realization principle revenues must be recorded when they are earned Service companies usually record sales revenue when the service is provided to the buyer Appropriate amount of revenue to record is the cash equivalent sales price 3 ways to make customers buy products1 allow consumers to use credit card to pay for purchases2 providing business customers direct credit and discounts for early payment3 allowing returns from all customers under certain circumstances CREDIT CARD SALES Overall much faster and ef cient process Credit card discounts do to credit card company fees n30 sales amount30 days sales discount 21O buyer may deduct two percent if paid in ten days reduces need to borrow money for operating expenses SALES RETURNS when returned must be deducted from gross sales revenue Sales revenue sales returns net sales Reporting net sales All three recorded seperatly for net sales Accounting for bad debts Bad debt expense recorded in same accounting period The allowance method based on estimates of the expected amount of bad debts Two steps 1 making the end of period adkusting entry to record estimated bad debt expense 2 writing off speci c accounts determined to be uncollectible during the period Jounral entries Bad debt expense debit Allowance for doubtful accountscredit Writing off speci c uncollectable accounts Allowance for doubtful accounts actualdebit Accounts receivable credit Estimating bad debts estimated based on a percentage of total credit sales or an aging of account receivable Percentage is simpler to apply aging is more accurate Percentage of credit sales methodaverage percentage of credit sales that results in bad debts can be computed by dividing total bad debt losses by total credit sales Aging of accounts receivable reies on the fact that the older the account gets the less likely it will be paid If write offs differ from estimates in the prior period the higher or lower amount is recorded in the next period Prior nancial statements are not corrected Controlling accounts receivable require approval of credit history age accounts periodically and contact overdue customers reward both sales an collections personnel for speedy collections so they work as a team Receivables turnover ratio re ects how many times average trade receivables are recorded and collected during the period The higher the ratio the faster the collection of receivables Receivables turnover net salesaverage net trade accounts receivable Average net trade accounts receivablebeginning net trade account receivable ending net trade accounts receivable 2 CHAPTER 7 Inventory cost is included for all parts of inventory production Cost of goods sold equation beginning inventory purchases ending inventory CGS expense is directly related to sales revenue Perpetual inventory system constant recording of transactions to buyer from company while also changing inventorywamart SPECIFIC IDENTIFICATION FIFO LIFO AVERAGE COST Speci c identi cation not normal since it is hard to keep track ofinventory is speci cally identi ed when sold and what price the good originally took on Example 3 for 70 2 for 80 and 1 for 100 sale of 3 2 of 80 1 of 70 FIFO Assumes earliest good purchases are the rst goods sold and last goods are left in ending inventory LIFO Most recently bought items are sold rst and older are left in inventory Average cost method uses the weighted average unit cost of the goods available for sale for both cost of goods sold and ending inventory Average cost cost of all goods available for sale number of units available for sale Financial statements effects of inventory methods when unit costs are rising LIFO produces lower income and a lower inventory valuation than FIFO When unit costs are declining LIFO produces higher income and a higher inventory valuation than FIFO Methods are chosen on two factors net income effects managers prefer to report higher earnings And income tax effects prefer to pay the least amount of taxes FIFO most often used for decreasing costs Inventory turnover cost of goods average inventoryhigher ratio indicates that inventory moves more quickly through the production process reducing storage and obsolescence costs Average days to sell inventory 365inventory turnoverindicates average time it takes the company to produce and deliver inventory to customers CHAPTER 8 Acquisition and maintenance of plant and equipment Long lived assetstangible and intangible resources owned by a business and used in its operations over several years Measuring and recording acquisition cost under the cost principle all reasonable and necessary expenditures made in acquiring and preparing an asset for use should be recorded as the cost of the asset Fixed asset turnover net salesaverage net xed assets begend2 xed asset turnover ratio measures the sales dollars generated by each dollar of xed assets used Depreciation concepts Process of cost allocation more dif cult journal entries adjusting entry is needed at the end of each period to re ect the use of buildings and equipment for the pe od Example Depreciation expensedebit Accumulated depreciation credit Three things needed to calculate depreciation expense acquisition cost estimated useful life estimated value residual at end of assets useful life Three methods STRAIGHT LINE UNITS OF PRODUCTION DECLINING BALANCE Straight line Costestimated residual valueuseful life can be done for multiple years subtract accumulated depreciation from acquisition cost Units of production costestimated residual value actual production estimated total production done in same chart manner as straight line Declining balance Final year may reduce net book value below residual value if so the expense will be the difference between the previous ending net book value and the residual costaccumulated depreciation 2useful life Managers should choose straight line when asset is used constantly over time declining balance when asset used more at beginning of life and units of production when signi cant changes in asset usage Asset impairmentchange of circumstances cause future cash ow from asset to fall below net book value Impairment loss net book value fair value Journal entry Asset impairment lossdebt Flight equipment credit Disposal of PPEsometimes voluntary or involuntary disposal of equipment Requires two journal entries One to update depreciation expense Depreciation expensedebit Accumulated depreciation credit An entry to record the disposal this one is if sold on ight equipment Cashudeb Accumulated depreciationdebit Flight equipmentcredit Gain on sale of assetscredit Intangible assets and natural resources These use amortization for their used ifenot residual value recorded Patent amortization expensedebit Patents or accumulated amortizationcredit Goodwill usuay purchase price of a whole company compared to its individual net assets Natural resources are seen in the form of depletion accounts accumulated depletion CHAPTER 9 Liabilities vs current liabilities Accounts payable no interest on account managers sometimes try to wait to pay to conserve cash yet not advised since the relationship between companies may become stressed Accounts payable turnover ratio cost of goods sod average accounts payable measure how quickly management is paying trade accountshigh means paying in timely manner Average age of payabes 365 days turnover ratio can be provided better by dividing into days of a year Vacationwage expense journal entries Compensation expensedebit Accrued vacation iabiitycredit When vacation is taken Accrued vacation iabiitydebit Cashcredit For loans and note payables interest principal x interest rate x time Accountants can estimate liabilities and their probability of occurring Working capital dollar difference between current assets and current liabilities must maintain a good balance PRESENT VALUE Present value give the current value of money of which will be invested for a future amount This is calculated at PV pv table end amount Present value of an annuity can use the second set of tables for an easier problem or can use the rst more times CHAPTER 10 Characteristics of bonds payable 1 Stockholders maintain control 2 Interest expense is tax deductible 3 The impact on earnings is positive Bond principle is the amount needed at maturity Time interest earnednet incomeinterest expense income tax expense interest expense A high times interest earned ratio is viewed more favorably than a low one The ration shows the amount of resources generated for each dollar of interest expense CHAPTER 11 Bene ts of stock ownership 0 A voice in management Dividends Residual claim Earnings per share net income minus any preferred dividends average number of common shares outstanding
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