COB 241 Test 2 Study Guide
COB 241 Test 2 Study Guide COB 241
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This 12 page Study Guide was uploaded by Charles Miller on Sunday October 16, 2016. The Study Guide belongs to COB 241 at James Madison University taught by Dr. Irving in Fall 2016. Since its upload, it has received 75 views. For similar materials see Financial Accounting in Business at James Madison University.
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Date Created: 10/16/16
COB 241 Test 2 Chapter 4 Accounting for Merchandise Business 2 Types of Companies o Companies that generate revenue by providing a service o Companies that generate revenue by selling goods (inventory) Inventory can be Purchased from a supplier and resold to customers (retailers) Purchased from a supplier and resold to other companies (wholesale) Produced entirely by the company and sold to customers or other companies (manufacturers) Inventory Vocabulary o Inventory is a primary asset for merchandisers as well as manufacturers. Modern companies use a perpetual inventory system to maintain their inventory records. The inventory account is adjusted continually (perpetually) throughout the accounting period. o COGS( Cost of Goods Sold) is a primary expense for these companies o Gross Margin is the difference between the sales revenue and COGS o Product Costs are the costs associated with purchasing and preparing inventory for sale. o Period Costs are costs that are not included in inventory (usually referred to as selling and administrative) COGS Model o Start with Beginning Inventory o Add Purchases o Subtract Cost of Goods Sold o Equals: Ending Inventory Multi Step Income Statement o COGS is deducted from revenues to arrive at gross margin. COGS is reported separately from other operating expenses. o Operating expenses are deducted from Gross Margin to arrive at Operating Income o Non Operating Items, which include Interest Revenue/Expense and Gains/losses, are added/deducted from operating income to arrive at pre tax income o Income Tax Expense is deducted from PreTax Income to arrive at Net income Transportation Costs FOB terms designate when title passes and who pays for the cost of transporting inventory from the seller to the buyer. FOB stands for Free On Board FOB Shipping Point o Ownership transfers from the seller to the buyer when the seller provides the goods to the carrier o Buyer pays the transportation cost o Cost of transportation is added to the buyer’s inventory account balance for that particular purchase FOB Destination o Ownership transfers from the seller to the buyer when the buyer receives the goods o Seller pays the transportation costs o Cost of transportation is not added to the buyer’s inventory account balance for that particular purchase Lost, Damaged, or Stolen Inventory Most companies that sell goods experience inventory shrinkage, a term which reflects decreases in inventory for reasons other than sales to customers (e.g., lost, damaged, or stolen items) The journal entry for this is a debit to COGS and a credit to inventory Discount Rate Vocab Example Rate: 2/10,n/30 o The 2 is equal to the discount if the balance is paid within the allotted time frame o 10 is the length of the discount period o n= the the amount due that is not paid in the discount period o 30= # of days when the full amount of payment is due Purchase Discounts, Returns, and Allowances A company is eligible for a purchase discount when it pays the supplier for inventory within an agreed upon discount window A purchase return occurs when the company returns inventory to the supplier for reasons such as wrong size, wrong color, wrong design, or simply because the company changes its mind Dissatisfied companies will agree to keep goods instead of returning them to the supplier if the supplier offers to reduce the price. This price reduction is referred to as a purchase allowance. These transactions require a debit to accounts payable and a credit to inventory. Sales Discounts, Returns and Allowances A sales discount is recorded as a debit to revenue and a credit to accounts receivable A sales return (customer returns inventory to the company) is recorded as a double entry the first being a debit to Revenue and a credit to Accounts Receivable. The second entry is a debit to inventory and a credit to COGS A Sales Allowance allows the customer to keep the purchased inventory but requires the company to reverse the original sales entry. This is recorded as a Debit to Revenue and a Credit to Accounts Receivable. Net Sales Gross Sales Minus: Sales Discounts Minus: Sales Returns Minus: Sales Allowances Equals: Net Sales Chapter 5 Accounting for Inventories Inventory Cost Methods 1. FIFO First In, First Out is a cost flow assumption that the first goods purchased are also the first goods sold. In most companies, this assumption closely matches the actual flow of goods, and so is considered the most theoretically correct inventory valuation method. 1. Cost of the oldest purchases comprise the cost of goods sold 2. Cost of the newest purchases comprise the ending balance inventory b. LIFO Last In, First Out is used to place an accounting value on inventory. The LIFO method operates under the assumption that the last item of inventory purchased is the first one sold. 1. Cost of the newest purchases comprise the cost of goods sold 2. Cost of the oldest purchases comprise the ending balance inventory b. Weighted Average divide the cost of goods available for sale by the number of units available for sale. The cost of goods available for sale is the sum of beginning inventory and net purchases. c. Specific Identification is a method of finding out ending inventory cost. It requires a detailed physical count, so that the company knows exactly how many of each goods brought on specific dates remained at year end inventory. Financial Statements Impact FIFO Results in profit maximization, Higher ending inventory and lower cost of goods sold. Contingent on increasing costs. LIFO Results in tax minimization. Lower ending inventory and higher COGS. Used commonly by oil companies. Contingent on rising prices Weighted Average Results fall in between FIFO and LIFO Chapter 6Internal Controls and Accounting for Cash Internal Controls o Are policies and procedures to provide assurance that enterprise objectives are accomplished o Accounting Controlsare designed to safeguard company assets and ensure reliable accounting records o Administrative Controls are for evaluating performance and assessing compliance with the company policies and public laws o Key Elements of Internal Controls Separation of Duties Employees can act as a check if duties are separated, greatly reducing the chance of fraud Quality of Employees Better employees allow you to rotate duties which relieves job boredom and can increase productivity, also reduces the chance of fraud Bonded Employees A fidelity bond provides insurance that protects a company from loss caused by employee dishonesty. Required Absences An employee may be able to cover up fraudulent activities if they are always present at work. All employees should be required to take regular vacations. Procedures Manual Procedures for accounting and other operational guidelines should be written in a manual. Authority and Responsibility General authority applies to all members of the organization. Specific authority applies only to employees that are a specific position within the organization. Prenumbered Documents Prenumbered forms are used for all important documents such as checks, purchase orders, receiving reports, and invoices. The use of prenumbered forms helps keep track of all the forms issued during a particular period Physical Control All companies should maintain adequate physical control over valuable assets that may be misappropriated. For example,inventory should be properly stored in a secure location. Serial numbers should be placed on all valuable assets to assist in a physical count of these assets. Performance Evaluations Internal controls should include independent verification of employee performance. For example, someone other than the person who has control over inventory should take a physical count of inventory. Internal and external audits serve as independent verification of performance. Internal Control Limitations o Internal controls can be circumvented by collusion among employees. Two or more employees working together can hide embezzlement by covering for each other. No system is impenetrable. Type of Audit Opinions o Unqualified Opinion= The books and records of this company are fairly stated w/in accounting rules o Adverse Opinion= Significant problems or departures from the accounting rules o Qualified Opinion= In Between unqualified and adverse o Disclaimer of Opinion= It gives an exclusion to the auditor’s opinion. Not able to analyze records in a certain part of the business. Adjusting the Books o Every recording item that appears on the unadjusted book balance section requires a journal entry to adjust the general ledger cash balance to the true cash balance. Confidentiality o The confidentiality rules in the code of ethics for CPAs prohibit auditors from voluntarily disclosing information they have acquired as a result of their accountantclient relationships SEC Government agency that enforces accounting rules for publicly traded companies SarbanesOxley Act Created and enforced audit standards for SEC audits Chapter 7 Types of Receivables o Accounts Receivable A current asset. When a company allows customers to buy a good or service on credit. Usually small and collectible within 30 days. o Notes Receivable A long term asset. A long term form of credit. Usually larger sums of money and have an interest rate attached to them. o The Allowance Method records collection of losses on the basis of estimates instead of waiting to see which customers the business on the basis of estimates instead of seeing which customers it can collect from. o Direct Write Off Method If uncollectible accounts are not material, companies are permitted to account for them using the direct writeoff method. Under this approach a company simply recognizes uncollectible accounts expense in the period which it identifies and writes off uncollectible accounts. o Accounting for Notes Receivable When a company extends a credit for a long time, or when the amount extended is large, the parties often enter into a credit agreement, the terms of which are specified in a promissory note. o Accounting for Credit Card Sales Many companies find it more efficient to accept thirdparty credit cards instead of offering credit lines directly to customers. The credit card companies deduct a fee. This come froms the amount of gross sales and then pays the company the balance. Appendix E The method of investment accounting used in this course is the Fair Value Method of accounting. This is used for investors who own less than 20% of the stock in a company. 3 Types of Fair Value Method Accounting o A heldtomaturity security is purchased with the intention of holding the investment to maturity. This type of security is reported at amortized cost on a company's financial statements and is usually in the form of a debt security with a specific maturity date. Unlike heldfortrading securities, temporary price changes are not shown in accounting statements for held tomaturity securities, and the interest income received from a heldto maturity security is run through the income statement. o A trading security refers to debt and equity investments that are purchased with the intent of selling them within a short period of time, usually less than one year. Accounting standards necessitate that companies classify any investments in debt or equity securities when they are purchased, with options to classify as "held to maturity," "held for trading" or "available for sale." With a heldfortrading security, gains and losses resulting from changes in the investment's value are recorded on an income statement as gains and losses. o An availableforsale security is a debt or equity security purchased with the intent of selling before it reaches maturity, or selling prior to a lengthy time period in the event the security does not have a maturity. Accounting standards necessitate that companies classify any investments in debt or equity securities when they are purchased as held to maturity, held for trading or available for sale. Availableforsale securities are reported at fair value; changes in value between accounting periods are included in comprehensive income until the securities are sold. Accounting for Inventories Process o Record the purchase using the Fair Value method DR Fair Value Method Investing and CR cash o As you receive investment revenue record it DR Cash and CR Investment Revenue o (Trading and AFS only) At the end of a reporting period make an adjusting entry to mark the investment at its fair value. (unrealized gain) DR FVMI and CR Unrealized gain for a gain in value DR Unrealized Loss and CR FVMI for a loss in value For trading this difference appears on the Income Statement For AFS it appears on the Balance Sheet o At the point a company sells its investment record the sale and the accompanying realized gain or loss on the sale Unrealized Gain It is a profitable position that has yet to be sold in return for cash, such as a stock position that has increased in capital gains but still remains open. A gain becomes realized once the position is closed for a profit.
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