Accounting

Question 1

Users of financial accounti

Answer 1

External:
Investors, creditors

Internal:
management, marketing, hr

Question 2

Objectives of financial accounting

Answer 2

Reduction of information asymetery ( management vs shareholders )
Provision of net income for taxation
Documentation to prevent tax fraud

Question 3

Quality standards

Answer 3

comparability of time anfd between companies ( same structure )

relative objectivity and reliability ( independent party )

GAAP: generally accepted accounting principles

IFRS: International financial reporting standards

Question 4

Pilars of IFRS

Answer 4

1) principle based approach
2) fair presentation
3) use of professional judgement
4) comprheensive coverage
5) disclosure requirments

Question 5

Comcept of priority claim

Answer 5

If a company gets liquadated creditors get paid back first

Question 6

Historic cost principle vs fair value principle

Answer 6

Historic cost principle
- initial value as asset value
( more common )

fair value principle
- current value as asset value

Question 7

Monetary unit assumption

Answer 7

All financial transactions and events should be measured and recorded in a common unit of currency

Question 8

Economic entity assumption:

Answer 8

A business or organisation is considered a disstinct economic entity to its owners or other business –> financial transactions and events related to the business must be accounted for seperatley from the personal affairs of its owners and other entitis

Question 9

Types of financial statements

Answer 9

Income statement
Balance sheet
Cash flow statement
Statement of changes in equity
Notes to the financial statements

Question 10

Overview of Assets, liabilities, equity

Answer 10

Assets: supplies, equipment, land, cash

Liabilities: intrest payable, notes payable, accounts payable, salaries and wages apyable

Equity: salaries and wages expense, service revenue, dividends, retained earnings, common stock

Question 11

Balance sheet

Answer 11

Assets
Cash + accounts recivable + equipment

=

Liabilities
Notes payable + accounts payable

`+

Stockholders equity
common stock + retained earnings ( rev - exp - dividends )

Question 12

3 bookkeeping equations

Answer 12

Accounting equation: assets = liabilities + equity

Ending account balance = starting account balance + increase - decreases

Sums of debits = sums of credits

Question 13

Double entry accounting

Answer 13

every transactions accounts for two accounts minimum

Question 14

Dealer equation

Answer 14

DEA = LER
Debits = Credits

Dividends + expenses + assets = liabilities + owners equity + revenue ( + common stock )

The equation must be in balance after every transaction. Debits and credits reflect the duality of all financial transactions

Question 15

Debits

Answer 15

Flow of economic benefit to a destination
- Debits increase when assets and expense increase

• debits decrease when liabilities, equity and revenue increase

Question 16

Credits

Answer 16

Credits= flow of economic benefit from a source

• credits increase when liabilitiesm eauitu and revenie increase
• credits decrease when assets and expenses increase

For both debits and credits must be equal

Question 17

T accounts form

Answer 17

Debit = left
Credit = right

Normal balance is the end result of that account

The normal balance is always on the side with the plus

Question 18

T account types

Answer 18

asset t accounts
* Debit +
* Credits -

liability t accounts
* debit -
* credit +

equity t accounts
* debit -
* credit +

Renevnue t accounts
* debit -
* credit +

Expenses t account
* debit +
* credit -

The normal balance is always on the side with the plus

left side: accounts with debit normal balance

Right side: accounts with a credit normal balance

Question 19

t account

Answer 19

Debit
* assets
* expenses

Credit
* liabaility
* ewquity
* revenue

Question 20

Stockholders equity relationships

Answer 20

1) from income statement you take net loss or net profit
2) then move this to retained earnings statement
- begining retained earning
- Add net income
- Subtract dividends
3) take edning retained earnings statement and plug into balamce sheet under equitys sections

Equity section structure
- common stock ( investments by stockholders )
- retained earning ( net income retained in the business after paying dividends )

Question 21

5 steps to understand and record a business transaction

Answer 21

1) what accounts are effected by the transaction and why ( relevance )
2) do the accounts involved increase or decrease and by how much
3) what is the journal entry to increase or decrease the respective accounts
4) effect on t accounts
5) what financial statements are impacted

Question 22

steps of the recording process

Step 1

Answer 22

Identify the transaction:

Transactions = Businesses economic events that are recorded by accountants

Criterion to identify a transaction:
Is the financial position (assets, liabilities, stockholders equity) of the company affected?

5 steps to analyse a transac4on:

1. What accounts are affected?
   (Asset account / Liabilities account / Equity account / Revenue account / Expenses
   account)
2. Do the accounts involved increase or decrease?
3. By how much do the accounts involved increase or decrease?
4. Does the accounting equation remain in balance?
5. Which accounts should be debited, and which accounts should be credited?
   (Debits increase assets and expenses while decreasing liabilities and equity, and credits increase liabilities and equity while decreasing assets and expenses)

Question 23

steps of the recording process

Step 2

Answer 23

Journal the transactions:

Journal book: book of original entry where each transaction is recorded in chronological order

Journalising: entering the transaction data into the book

Purpose of journalizing:
1) effects of the transaction
2) provision of chronoligical order
3) prevention and location of errors by allowing each reader to easily compare the debit and credit amount

Example:
On September 1, stockholders invested ¬15,000 cash in the corpora:on in exchange for shares of stock, and So>byte purchased computer equipment for ¬7,000 cash.

Question 24

steps of the recording process

Step 3

Answer 24

Post the transactions to accounts in the general ledger

General ledger = Organised record that contains all financial transactions of a business and provides a detailed breakdown of accounts

Chart of accounts:

Assets: cash, accounts receivable, supplies, prepaid insurance, equipment, accumulated depreciation

Expenses: supplies expense, insurance expense, depreciation expense, salaries and wages expense, rent expense, utilities expense, interest expense

Liabilities: notes payable, accounts payable, unearned service revenue, salaries payable, interest payable

equity
- common stock, retained earnings, dividends, income summary

revenues: service revenue

Transfereing journal entries to the general ledger: split general journal into individual accounts and put debit/credit and balance

• debit account date, page number, amount
• enter debit account numver in journal refrence colunm
• same steps for credit

Question 25

steps of the recording process Step 4

Answer 25

Create an unadjusted trial balance Trial balance = Financial statement that lists all the accounts and their balances, showing the total debits equaling the total credits to verify the accuracy of a company's accoun4ng records at a speciûc point in 4me List of all individual accounts to check that all debits = credits

Question 26

steps of the recording process Step 5

Answer 26

Adjust journal entries Adjusting journal entries: revnue or expenses that have been incurred but not yet recorded worksheet: tool listing all the accounts and their balances to identify adjusting entries Principles that must be followed: Revenue regognition: revenue should be recognized when it is earned ( good or service has been delivered ) and realisable ( claim to cash exists ) Expense recognition: expenses should be recognised in the same accounting period in which they are occurred to generate revenue ( expenses should be matched with related revenues ) Depreciation and amortisation: the costs of long term assets should be allocated over the useful life ( depreciation --> tangible assets --> amortisation --> intangible assets ) Depreciation approaches: Straight-lineDepreciation: Depreciation expense = (Original cost 3 Salvage value) / Useful life o Accounting Procedure for Depreciation: Depreciation is not directly deducted from the asset account but is recorded in a Contra Asset Account (XA) called Accumulated Depreciation, which reduces the asset's value on the balance sheet to show its net book value

Question 27

steps of the recording process Step 6

Answer 27

6) Create the financial statements - income - balance sheet - cash flow - statement of changes in equity - notes of financial statements

Question 28

steps of the recording process Step 7

Answer 28

7) Close the books with a closing statement Objective: Reset the temporary accounts to zero to start the next accounting period with a clean slate Procedure: Closing of temporary accounts (such as revenue and expense accounts) and transfer of their balances to the appropriate permanent accounts on the balance sheet Closing statement = Summary document that outlines the changes in equity during an accounting period to determine the final balance of owner's equity

Question 29

Methods to record finanical transactions - cash base accounting

Answer 29

Revenue and expenses are only recorded when cash is received or paid - Simple approach - Not in accordance with GAAP

Question 30

Methods to record financial transactions - accural base accounting

Answer 30

Accrual-basis accounting: Revenue and expenses are recorded when they are earned or incurred, regardless of when cash is exchanged. - More accurate picture of a companys financial performance - In accordance with GAAP Principles of accrual-basis accounting: -Revenue recognition: Revenue should be recognised when it is earned (good or service has been delivered) and realisable (claim to cash exists) -Expense recognition: Expenses should be recognised in the same accounting period in which they are incurred to generate revenue (expenses should be matched with the related revenues)

Question 31

Time period assumption/ periodicity assumption

Answer 31

Finanacial transactions - should be recorded and reported within specific, discrete time intervals, usually referred to as accounting periods (such as months, quarters, or years) Calendar year = Year from 1 January to 31 December Fiscal year = Financial reporting period that is one year in length Interim period = Financial reporting period that is shorter than a fiscal year Most large companies must prepare both quarterly and annual ûnancial statements

Question 32

Unearned revenue

Answer 32

= Liability on a company's balance sheet that represents payments . received from customers for goods or services that have not yet been delivered or earned as revenue

Question 33

Deferral

Answer 33

Revenues and expenses are recognised at a later date than when cash is received paid - postponing

Question 34

Accural

Answer 34

Revenues and expenses are recognized before the cash is recieved or paid - doing now

Question 35

4 truisms of deferrals and accounting - Deferring an expense --> Asset

Answer 35

Deferring an expense --> Asset Accruing revenue creates an asset because it represents revenue that the company has earned but not yet received in cash. This accrued revenue is an amount that the company expects to receive in the future, and it's recorded as an asset on the balance sheet until the actual cash is received. Deferring an expense creates an asset because it represents a payment that has been made but hasn't yet been used or consumed. This deferred expense, o:en referred to as a prepaid expense or prepaid asset, is initially recorded as an asset on the balance sheet. As ;me passes or as the benefit of the expense is realised (for example, when services are received or goods are consumed), the deferred expense is gradually recognised as an expense on the income statement.

Question 36

4 truisms of deferrals and accounting -Accruing an expense --> Liability

Answer 36

Accruing an expense --> Liability Accruing an expense creates a liability because it represents an obligation that a company owes but hasn't yet paid. This accrued expense is recorded as a liability on the balance sheet until the company fulfils its obligation by making the payment.

Question 37

4 truisms of deferrals and accounting -Deferring revenue --> Liability

Answer 37

Deferring revenue --> Liability Deferring revenue creates a liability because the company has received payment for goods or services it has not yet delivered, and it has an obligation to fulfil that delivery in the future. This obligation to provide the promised goods or services represents a liability on the company's balance sheet until the revenue is recognised.

Question 38

4 truisms of deferrals and accounting -Accuring revenue --> Asset

Answer 38

Accuring revenues creates an asset because it represents revenue that the company has earned but not yet received in cash. This Accured revenue is and amount that the company expects to received in the future snd its recorded as an asset on the balance sheet until the actual cash is received

Question 39

Deductions from the Adjusted Trial Balance:

Answer 39

See slide 98 for example

Question 40

Tempoary and permanent accounts

Answer 40

Tempoary: these accounts are closed - revenue - expense - dividends Permenant: these accouunts are open - assets - liabilities - equity zero balance at end in tempoary accounts Closing entries are posted at the end of the accounting period

Question 41

Steps to post closing entries

Answer 41

1) Close revenues to income summary 2) close expense to income summary 3) close income summary to retained earnings 4) close dividends to retained earnings

Question 42

Balance Sheet functions

Answer 42

Evaluation of the capital structure Assessment of risk and future cash flows Analysis of the companies liquidity, solvency, and financial flexibility

Question 43

Balance sheet limitations

Answer 43

Use of historical cost (price paid for an asset when it was purchased) Use of judgements and estimates Omission of many items of financial value

Question 44

Section structures differences: IFRS & GAAP

Answer 44

GAAP: assets: current asstes, long term investments, ( property, plant, equipment), intangible assets Liabilities and equity : current liabilities, long term liabilities, stockholders equity IFRS Assets; (property, plant, equipment), intangible assets, long term investments, current assets Liabilities: stockholders equity, long term liability, current liability

Question 45

Classification if stockholders equity

Answer 45

stockholders equity: Paid in capital: total amount invested byu stockhiolders into cooperation retained earings: cummalative profits/losses retained in the company over a period of time

Question 46

Items on a balance sheet: NON current assets

Answer 46

Intangible assets: non physical assets with no intrinsic value: goodwill, patents, trademark, francieses. (non current asset) Property & equipment: tangible assets held for operational use: building, land, machinery, capital leases, leasehold improvements, accumalated depreciation ( non current asset ) Long term investments: financial instruments that a company want to hold for over 1 calander year: stocks, bonds, securities, unconsolidated subsidiaries, affiliated companies ( non current asset ). Long term investments: are usually not core to the business

Question 47

Items on a balance sheet: current assets

Answer 47

Inventories: tangible goods held for the purpose or eventual sale or production: raw materials, work in progress, finsihed product, store of fuel or energy sources ( current asset ) Cash and equivalents: Highly liquid and short-term assets that are easily convertible into cash within three months or less Examples: cash on hand, cash in banks. treasury bills, money market funds ( current assets ) Receivables: Money owed by customers or other entities for goods sold or services provided on credit Examples: Accounts receivable (oral promises), notes receivable (written promises), interest receivable, rent receivable, loans receivable ( current assets ) Prepaid expenses: expenses that have already been paid in advance for goods and services that will be received at a later date: prepaid rent, prepaid insurance ( current assets )

Question 48

Items on a balance sheet: non current liabilities

Answer 48

Long-term debt: Financial obligations that are not expected to be fully repaid within a year Examples: Mortgage loans, bank loans, corporate bonds, capital lease obligations ( non current liability ) Deferred income tax: Taxes a company expects to pay in the future because of differences between its financial accounting and tax accounting ( non current liability )

Question 49

Items on a balance sheet: current liabilities

Answer 49

Payables: Obligations owed to external entities Examples: Accounts payable (oral promises), notes payable (written promises), taxes payable, rent payable, dividends payable, accrued expenses Accured expense: Costs that a company has incurred but has not yet paid for Examples; Utilities accural, rent accural Unearned revenue: Money that a company has received in advance for goods or services it has not yet delivered Examples: Subscription fees, gift cards, advance rent payments, customer deposits Current Maturities of long term debt: Long term debt that is due for repayment within the next accounting period

Question 50

Items on a balance sheet: Stockholders equity

Answer 50

Share capital: Total value of capital raised through the issuance of shares to its shareholders Examples: Common stock, preferred stock, par value, stock options, additional paid-in capital Retained earnings: Cumulative net profits or losses retained (= Revenues - Expenses - Dividends)

Question 51

Income statement functionsadvertising

Answer 51

Evaluation of the past performance Prediction of future performance Assessment of the risk or uncertainty of achieving future cash fows

Question 52

income statement limitations

Answer 52

Omission of items that cannot be measured reliably Income is affected by the accounting methods employed Income measuremnt involves judgement

Question 53

Income sttment approaches to classifying expenses

Answer 53

Nature of expense approach - cost of materials used - direct labour - delivery expenses - advertising expenses - employee benefits - depreciation and amortisation expenses Function of expenses approach - COGS - Selling expense - administrative expense Nature looks at what the expense comes from and function looks at the purpose of the expense

Question 54

Income statement function of expense approach

Answer 54

1) Revenue: Total income earned by a company from its primary business achieved Examples: Sales revenue, interest revenue, dividend revenue, rent revenue, gains on the sale of long-term assets 2) COGS: Direct cost associated with producing or purchasing the goods or services that a company sells during a specific period Examples: Raw materials, labour, manufacturing expenses - gross profit: Revenue - COGS 3) Selling expense: Costs incurred in the process of marketing and selling its products or services to customers Examples: Sales commissions, sales salaries, advertising costs 4) Administrative or General Expenses: Regular operating costs incurred that are not directly tied to production, sales, or marketing actives but are essential for its overall administrative and managerial functions Examples: Salaries of administrative staff, rent for office space, office maintenance, losses on the sale of long-term assets - EBIT (Earnings before Interest and Taxes) - EBIT = Gross profit - operating expense = gross profit ( selling expense + administrative expense or general expense ) 5) Interest expenese: Costs incurred for borrowing money or utilising credit Examples: Interest on loans, bond interest, lease interest - EBT (Earnings before Tax) = EBIT - interest 6) Income tax: tax levied on the income earned 7) corporate tax: tax levied on the profits of the company - EBT = EBIT - ( income tax + corporate tax ) 8) Dividends: portion of company profits which is divided to its shareholders based as a return on their shares in the form of cash or additional shares - retained earnings: retained earnings = net income - dividends Note: possible to include other income or expenses ( non operating activities that do not directly pertain to a companies core activities: intrest income, legal settlements, rental income intrest expense

Question 55

EBITDA

Answer 55

EBITDA (Earnings before Interest, Tax, Depreciation and Amortisation) must be determined separately with a function-of-expense approach because depreciation and amortisation expenses are split into COGS, selling expenses, and administrative expenses

Question 56

Importance of cash ûow:

Answer 56

Liquidity --> Enough money on hand to meet immediate financial obligations Operational Needs --> Maintain day-to-day operations, purchase inventory, pay employees, cover other regular expenses Investment --> Opportunities for investment, expansion, and growth Emergency Funds --> Financial cushion for unexpected expenses Profitability --> Indicator that a business is generating more money than it is spending (attractive to investors and creditors) Func&ons of a Cash Flow Statement: § Assess company9s ability to generate future cash ûows § Assess company9s ability to pay dividends and meet ûnancial obliga4ons § Analyse reasons for diûerences between net income and net cash § Assess cash inves4ng and ûnancing transac4ons Linus Koppelmann

Question 57

Functions of a Cash Flow Statement:

Answer 57

Assess companies ability to generate future cash flows Assess companies ability to pay dividends and meet financial obligations Analyse reasons for differences between net income and net cash Assess cash investing and financing transactions

Question 58

Cash flow from operations

Answer 58

Cash Flow from Operations = Cash inflows and outflows related to Income Statement items Examples: Cash inflows: - From sale of goods or services - From interest received and dividends received Cash ouflows: - To suppliers for inventory - To employees for wages - To government for taxes - To lenders for interest - To others for expenses Preparation method: Direct method (less common): Net Cash Flow = Cash Inflows - Cash Outflows Indirect method ( more common because less costly to prepare): Net Cash Flow = Net Income + Non-cash Expenses - Non-operating Income +/- Changes in Working Capital

Question 59

Cash flow from investing

Answer 59

Cash Flow from Investing = Cash inflows and outflows related to changes in investments and long-term assets Examples: Cash inflows: - From sale of PP&E - From sale of investments in debt or equity securities - From collection of principals on loans to other entities Cash outflows: - To purchase PP&E - To purchase investments in debt or equity securities - To give loans to other entities Kopp Preparation method: Direct method Net Cash Flow = Cash Inflows - Cash Outflows

Question 60

Cash flow from financing

Answer 60

Cash Flow from Financing = Cash inflows and outflows related to changes in long-term liabilities and stockholders equity Examples: Cash inflows: - From sale of common stock - From issuance of debt Cash outflows: - To stockholders as dividends - To redeem long-term debt or reacquire capital stock Preparation method: Direct method: Net Cash Flow = Cash Inflows - Cash Outflows

Question 61

Net cash in balance

Answer 61

Net Cash in Balance = Net Cash from Opera4ons + Net Cash from Investing + Net Cash from Financing

Question 62

Example of cash flow statement

Answer 62

see page 106

Question 63

Free cash flow

Answer 63

Cash remaining from operations after adjusting for capital expenditures and dividends

Question 64

Capital expenditure

Answer 64

( CAPex part of investing activities ) = funds spent on acquiring, upgrading, or maintaining physical assets such as, property, buildings, machinery or equipment, ( generation of long term profits )

Question 65

Free cash flow formula

Answer 65

FCF = net cash from operating activities - CAPEX - CASH dividends

Question 66

Horizontal analysis ( trend analysis ) vs vertical analysis ( common size analysis )

Answer 66

Horizontal: technique to evaluate a series of fianancial statement data over a period of time Vertical analysis: technque to express a fianaical ststment item as a percentage of a base amount - Balance sheet: total assets - Income statement: sales - cash flow statments; total cash flow

Question 67

Example of horizontal & vertical analysis on page 107

Question 68

Income statement margins

Answer 68

Income Statement margins = Financial metrics that express a company's profitability and efficiency (obtained through vertical analysis)

Question 69

Most relevant margins:

Answer 69

profit Margin = net income / net sales Operating profit margins= income from operations/ net sales Gross profit margin = gross profit/net sales Gross profit = Revenue - COGS

Question 70

Three types of accounting

Answer 70

financial accounting tax accounting managerial accounting

Question 71

Types of deferrals and accruals ( summary of adjusting balances )

Answer 71

Deferral: -Prepaid Expenses: Expenses paid in cash before they are used or consumed. -Unearned Revenues: Cash received before services are performed. Accurals: - Accrued Revenues: Revenues for services performed but not yet received in cash or recorded. - Accrued Expenses: Expenses incurred but not yet paid in cash or recorded.

Question 72

Classified balance sheet

Answer 72

includes assets, liabilities, and equity, along with subcategories such as current and long-term to give an idea of how long a company will own their assets or owe liabilities.

Question 73

Operating cycle

Answer 73

operating cycle: the days required for a business to receive inventory, sell the inventory, and collect cash from the sale of the inventory

Question 74

Diffrence between current and non current

Answer 74

Diffrence between current and non current = ( less than a year ) & ( longer than a year ) in terms of operating cycle

Question 75

Current ratio

Answer 75

Current ratio: diffrence between current liabailities and current assets

Question 76

COGS

Answer 76

COGS = the starting inventory + purchases – ending inventory.