ACC 305 1 Flashcards
Assets
Liab.
Equity
Assets
- -ECONOMIC RESOURCES that are owned or controlled by comp. that are expected to provide probable (AR/inv.) FUTURE econ. benefit
- -economic resources, legal control, value comes in its FUTURE BENEFIT
Liabilites
- -expected OBLIGATION to pay cash, transfer assets, or provide some services in future
- -taxes payable…owned but not yet paid to fed./state gov.
- -unearned rev. - amt. owed in services or product (not money) ro a customer who paid in adv. (magazine subscription)
Equity
- -residual claim on assets after liab. taken care of
- -net worth or owners quity
- -broken up into contributed capital (when outside/external investors put $ into comp.) and RE (internal)
- –“NET ASSETS” - Bc A-L, paid in capital (amt. contributed by owners) and RE
- -INC. by owners and proficts (+NI) and dec. by div. to owners
Accounting assumptions (3)
- Economic entity assumption
- -comp. keeps its activity separate and distinct from its owners and other businesses
- -comp (etc.) used by employee belong to comp., not owners - monetary unit assumption
- -money is common denominator of econ. activity and provies basis for acc. measurement - periodicity assumption
- -implies a a comp. can divide its economic activiies into artificial time periods (monthly, quarterly, ann.) - for reporting (ncome)
revenue
expenses
NI
revenue
- -amt. of assets generated through operations (sale of goods/services)
- -DOES NOT mean cash inflows
- -can also be generated by SATISFYING liabilities - instead of paying back to someone you owe, do work to satisfy
- -goods/services inc. revenue = inc. OE
expenses
- -amt. of assets consumed through operations
- -DOES NOT mean cash outflows
- -costs incurred in normal bus. operations
- -salaries and ututilies and deprec. = dec. assets so dec. OE
- -also amt. of LIABILITIES CREATED in generating rev.
NI
–net of Rev. - exp.
T-accounts review
all T-accounts have “normal balance” - differs based on type accounted for
–assets have normal DEBIT balance and L&E have normal CREDIT balance
assets inc. with DEBITS and dec. with CREDITS
–L&E inc. with CREDIT and dec. with DEBIT
2 exceptions!!!! Expenses and dividends
1. Expenses - are debited! inc. with debits and dec. with credits – while revenues are credited
- dividends - inc. with debits and dec. with credits
if sum of debit entries > sum of credits = acct. has debit balance
T accounts are SCOREBORADS and journal entries are indiv. scores
–T accounts = total transactions, journal entries = indiv. transactions
How are fin. stmts. connected?
IS is a nominal stmt. (1 YR. or 1 Q) - where BS and OE stmt. are real and continuous
income stmt. connects to BS through RE
–CF connects to BS by cash
journal entries
- -way we record the occurrence of an economic activity
- -but not all events lead to a transaction
JOURNAL ACCTS.
- determine which accts. are involves (2+ accounts)
- which accts. inc. or dec.
- what is amt. of change
inc./dec. rules change depending on type of acct.
Assets inc. D and dec. C, liab. inc. C and dec. Debit, equity Inc. credit and dec. debit
sum of debits = sum of credits each entry
double entry system - at least 2 things happen at all times = balance
journal entry examples
1. owners invest $40,000 in exchange for common stock
- dispurse 600 cash in wages
- comp. buy equipment for 100,000 and make down pmt. of 20% and finance with loan
- cash 40,0000
common stock. 40000 - wage expense. 600
cash. 600 - equipment. 100000
cash. 20000
note payable.80000
revenue recognition practie problems review
2. ABC sells inv. with original cost of 6000 to customer for 11500 - customer pays 10% up fron and balance is due in 30 days
- LMN borrows 10,000 in July 20X1 and will repay loan in July 20X2 with interest of 800
- -adjustment made 12/31/X1 to record accrued int. ($400 interest in 6 mo.) - truck orig. cost $44000 with $14000 accum. depreciation
- -sold for 26000 - rec. 6000 in cash on date of sale and provided financing to buyer
2. cash 1150
AR 10350
sales rev. 11500
COGS 6000
inventory. 6000
3. July 20X1 entry
cash 10,000
note payable. 10,000
--12/31/X1 entry
interest expense. 400
interest payable 400
July 20X2 entry
note payable 10000
interest expense. 400
interest payable. 400
cash 10800
4. cash 6000
note receivable. 20000
accum. deprec. 14000
loss on sale 4000
truck 44000
review adjusting entries
adjusting entries - o bring the accounts CURRENT to account for any missing or unaccounted fo transactions or econ. events
–look at acc. cycle- will have your unadjusted trial balance –> need to adjust to make fin. stmts. - usually at end of fiscal year – using rev. recognition and matchin principle
- fix BS
- -make sure any A & L reflect current value - fix IS
- -see which rev/exp account is impaced
- –wages earned during dec. but do not pay until Jan –> need to report in fiscal year
- -fix things that should have been recorded but did not have a trigger (cash outflow)
in adjusting entries rarely adjust CASH - bc actually lack of cash flow (Trigger) is what causes NEED for adjustments
some types of adjusting entries (deferals)
DEFERRALS
- PREPAID EXPENSES (Assets)
- –exp. paid in cash before they are used or consumed - cash pre-pmt. of an expense
- -insurance for one year - pay jan. in cash but record as exp. as used up each month - UNEARNED REVENUES (liability)
- -cash rec. before services performed – someone paid us in advance to provide some service obligation in future
- -insurance company - rec. my cash but records as rev. as they perform the service throughout time
DEFERRALS
–CASH FLOW occurs BEFORE book entry (Rev./exp. recorded)
some types of adjusting entries (accruals
ACCRUALS
- ACCRUED REVENUES (asset)
- -rev. for services performed but not yet rec. as cash or recorded
- -did work/performed service but no cash inflow yet
- -recorded as revenue!!!
- -assset but once they bill custoemr for service becomes an AR –> then cash when it is paid off - ACCRUED EXPENSES (liability)
- -exp. incurred but not yet paid out yet in cash
- -but recorded as exp. bc they have rec. service
- -ex. accrued interest over time and int. payable
ACCRUAL - recorded on books as rev BEFORE rec./pay CASH
Deferral example
5. On May 1, paid 12000 cash in advance for 1 year rent
- Prepaid expense
5/1 entry (A up and A down)
prepaid rent 12000
cash 12000
12/31 adjusting entry (A down and equity down bc exp.)
rent expense 8000
prepaid rent 80000
balance at end of fiscal year = 4000 on debt side (bc prepaid rent is asset)
rent exp. T-account balance is 8000 on debit side too
Accrual ex.
- employees earn 22000 per work day
- -Dec. 31st is Tues. and employees paid at end of day on Fri.
- -business closed on 12/31 and 1/1 but rec. vacation day full pay
- accrued expense
12/31 adjusting entry (equity down and Liab. up)
wage expense 44000
wage payable 44000
1/3 entry
wage expense 66000
wage payable 44000
cash 110000
review quiz!! review before test!!!!
Which is NOT closed at year end?
how would rev. acct. be closed?
–unearned rent rev. is not closed at year end (salaries exp.,, sales rev., and dividends ARE closed)
–rec. acct closed by debited REV. and crediting RE
general purpose fin. stmts.
–2 key users fin. stmts.
2 key users: lenders and investors
—give info. to external users - mutually beneficial to present accurate fin. stmts. bc investor is more willing to purchase and company will rec. lower rate if proven less risky through fin. stmts.
“General purpose fin. stmts.”
answers 3 questions
- what is company’s current fin. status?
- what were comps. operating results from period?
- how did comp. obtain and use cash during period?
BS - resources and obligations – diff. btwn what is owed and owned
IS - stmt. of earnings over a period
CFS - amt. of cash collected and paid in op., fin., inv.
Classified BS
comparable BS
limitations to BS
Classified
–when A &L on BS have been separated into current and LT
–current = converted to cahs within on eyar or operating cycle (whichever is LONGER)
LTA = all other productive assets-LT inc. in other companies not exp. to be sold within a year, land, fixed assets, intangible assets (pantents, copyrights, goodwill)
comparable
–has fin. info. from the current year and prev. years next to it
limitations of BS
–does not reflect current worth of a company - if it was, the BV of equity on BS woul = mkt. value of equity
due to 2 factors:
- accts. reported at PURCHASE COST, not PV
- –mkt. value is price would pay for assets today - not all econ. assets are included on BS (not quantifiable)
- -reputation, goodwill, brandname, intangibles
result BV < MV
Stmt. of CFS
NI is MOST IMP. measure of company’s economic performance - but also imp. to know how much cash is generated and how it is used (Sources and uses)
cash inflows
- OPERATING CFS
- -selling goods, providing services - INVESTING
- -selling buildings and land - FINANCING
- -borrowing $, rec. inv. from owner, inc. ST and LT borrowing
cash outflows
- CFO
- -int. expense - buy inventory, pay wages/utilities, taxes, operating and admin. exp. - CFI
- -buy B & L - CFF
- -repay loans, distribute to owners, treasury stock pruchase, pmts. of ST/LT borrowing
O - day to day business
I - buy/selling LT assets - PP&E/land - investing in productive capacity of the firm
F - ash to/from lenders/borrowers
MOST IMP. RELATIONSHIP is how CFO relates to how much they had to spend in CFI to inc. productive capacity
articulation
relationship btwn operating stmt. (IS and CFS) and comparable BS - where an item on the op. stmt. explains change in BS item from 1 period to next
BS is fundamental fin. stmt - other stmt. show why BS changes from yr/period to period
The external audit
all public comp. by LAW and enforced by SEC
–private comp. also do to provide assurance to banker/lender
audit by independent certified public accountant
–CPQ qualifications - exam, education, understand industry, independent and no relation to comp.
choose auditoy by
- reputation - quality = trust they will not sign off on questionable fin. stmts.
- lawsuits - auditors sued freq. bc investors lose $ on comp. that auditors signed off on
THE APPARENT CONFLICT
- -auditor is PAID by client (comp. asing for audit)
- -but MOST audit opinions are CLEAN
1. know audiors are coming so keeps reporting systems running properly – incentive for honesty
2. a good reporting system is good business - build relatinoship of trust/loyalty
look at the risks of auditing
Accrual accounting
recording exp. and div. when incurred and earned regardless of hen cash is rec.
- –better reflects comp. performance (Cfs are volatile and timely)
- -have to include partially completed projects/rev./exp.
time period concept
- -divides life of firm into distinct, short (<12 mo.) acc. periods
- -12 mo. period called “Fiscal year”
- -if comp clsoes books o Dec. 31, reports are based on calendar year (NJD were closing June bc season ends April)
60-70% comps. use calendar year
revenue recognition principle
matching principle
rev. recorded when:
1. the earnings process is substantially complete (sale made or services performed)
2. cash has been cllected or collectibility is assured
- -rec. WHEN customers rec. VALUE
- -ex. GM sold and shipped $800M cars in 2012, when it is earned and pmt. is promsied in 2013
- -800M rec. in 2012 is rev. - but if GM is paid in 2012 but ships in 2013, rev. recognized in 2013
matching principle
–all costs/exp. incurred to generate recognized rev. must be recognized in same accounting period as related rev.
metohds of exp. reocognition
- direct matching - COGS (when make sale, report COGS)
- systematic and rational allocation
- -deprec., rent, interest - things that build up systematically (ann. rate = 1/12 performance) - immediately - don’t know - advertising, R&D
matching principle determines amt. of NI reported on income stmt. - reflects profitability
accrual basis acc. provides more accurate picture of company’s profitability (how much econ. value did they generate, not just cash)
preparing fin. stmts.
- make sure have done all adjusting entries
- make sure all journal entries have been posted
- make sure all trials balances balance!!!
noacct. on that balance shows up on both IS and BS
order for fin. stmts.
- from trial balance - identify all rev. and exp.
- compute NI (make IS first!!)
- compute end RE balance
- prepare BS using BS accts. frm trial balance and new ending RE
dividends not on any stmts.
adusted trial balance
–all prepared and ready for fin. stmts. - has totals from each indiv. ledger for diff. accounts
on adjusted trial balance:
- REVENUES are CREDITS (bc represent inc. in equity)
- expenses are DEBITS (bc dec. in OE)
risks and tools of audit
matrix with horizontal top being too low and too high
- -vertical top is A and L
- -the top left (assets = too low) is not possible bc no company will report assets too low
- -the right bottom (L too high) also not possible bc comp. woudl not want to do this
- -so to overcome top right (A too high) - uses “THE LIST” where looks list of assets and checks if correct
- -bottom left (L too low) does detective work to determine true liabilities
TOOLS of AUDITOR
- Sample of selected accounts - check if items on BS exist
- review of acct. systems
- -if good/stable acct. system, trust fin. stmts. are reliable - using a worksheet
- -only interval viewers - prepare own fin. stmts. and compare - fin. stmt. analysis
- -examine fin. stmts. and historical trends
the income stmt.
BS is whwat you have/owe at a period of time - IS is hw much did you MAKE over period of time
–results of operations over time
Net Income
- -“bottom line” - earnings/profit - measure of company’s econ. performance - gain or loss
- -rev. = one source of an asset (others are borrowing or inv.)
- -exp. = one use of asset - there are others
gains/losses - $ made/lost on activities outside of normal business of company
–ex. when Smith’s sells groceries = rev., when sells delivery truck = GAIN
earnings (loss) per share = NI / # shares oustadning
- -tells owner of single share how much NI for year belongs to him/er
- -BASIC EPS - based on historical transaction = NI/actual shares outstanding during period
- -diluted EPS = estimating EPS if certain transacions have occurred
comprehensive income = # reflects overall change in company’s wealth during period
basic formula with equity broken out
A = L + (capital stock + cumulative NI - cumulative div.)
RE = NOT cash, usually used for other assets (inv., LT investment) or pay off liabilities
sometimes have stmt. of stockholder’s equity
CFO/CFI/CFF broken out
OPERATING
- -DAIL - day to day activities - selling products/services, buying inv., incurring and paying for expenses associated with primary activities, paying employees
- -operations revolve around sale of product/service
INVESTING
- -in productive capacity of firm - buying productive assets
- -purchase of assets for use in business - PP&E investments
- -also inv. in stocks/bonds of other companies
- -large amts. and less freq. than operating
- -buy/sell buildings, equip., stocks/bonds
FINANCING
- -raising money to fin. a business by means other than oeprations
1. borrow forom creditors (debt)
2. raise $ by selling stock to investors (equity) - -pay off loans and pay out dividends
rev. recognition again!!! 2 criteria
recorded when 2 criteria are met
- work has been substanitally completed
- cash or valid promise of future pmt. has been rec.
timing imp. = bc comp. apply for big loan, or prepare for IPO, or manager committed to sales target
rec. when CUSTOMER REC. VALUE
ex. farm land customers obught $500 fertilizer - paying $300 cash and $200 promised later = $500 rev. reported immediately
- -but if ex. asked for free deliver = NOT reported as rev. until delivered
- -or if freq. return in industry and have 30 day refund policy = not reported until after 30 days
but hard to determine WHEN customers rec. value
ex. google paid by companies to advertise products
1. when user clicks on add, google rec. revenue
2. cost-per impression pricing - rec. rev. when ads are displayed on website
Walmart selling gift cards - not recognized until customer uses card (when rec, value) so has infinite life - but at end of yr. walmart recognizes SOME rev. for cards they guess will NEVER be used
contract approach
FASB/IASB concerned with rev. recognition when seller enters contraact with buyer = accepts liabilities in exchange for promised assets assets
–AGREE = rev. recognized when seller satisfies performance obligation to buyer
three steps (estimate!!! contract approach)
- identify the PERFORMANCE OBLIGATIONS accepted by the seller
- if contract has distinct elements ALLOCATE contract price over separate elements
- rec. rev. as performance obligations are satisfied
- -ex. satisfy contract to delivery iPhone - then satisfy portion of cont. service over time
MOST CASES - rev. recognized at POINT OF SALE
#@ of contract approach --how to determine indiv. pricing of parts of sale
VENDER-SPECIFIC OBJECTIVE EVIDENCE (VSOE)
–indiv. prices the seller itself uses in arrangement = best measure
THIRD PARTY EVIDENCE
- -prices things are sold by other comps. (compare)
- -best estimate with costs, profit margins, seling prices of other items
- -in ex. used profit margins to find low estimate and high estimate and used the average
on BS
- -cash inc. 2000 (TV example) and L inc. 2000 (no rev. recognized yet bc didnt provide service but rec. cash)
- –edliver TV = L dec. and rev. inc. 1700
cash collection
discounts and returns can impact cash collected from sale
COMMON MISTAKE - rev. recorded when cash collected - ONLY SHOULD BE REC. WHEN REV. EARNED
–remember rev. is a CREDIT to inc.
sales discounts
(Cash discounts) - reduction in selling price allowed if pmt. is rec. within a specified period
- -encourage quick pmt.
- -2/10 n/30 - buyer rec. 2% discount from sale price ifpmt. made within 10 days of purchase price – then must be. paid by 30 days or will be past due
- -strong incentive = 36% int. rate if pays after discount period (2/98) * (360/20)
- -also called 2/10 n/EOM “end of month”
ex. 2/10, n/30 $200 credit sale - rec. IN discount period
at time of sale
AR 200
sales rev. 200
when rec. pmt.
cash 196
sales discount. 4
AR 200
contra account
acct. that is offset/deduced from another account
contra-rev. account = sales discount (Acct. is deducted from rev. acct = debit bc rev. is credit)
contra- asset account = accum. depreciation - taken from asset account (so credit bc dec. asset)
