Accounting Fundamentals

Question 1

Three Types of Depreciation Methods

Answer 1

Straight-Line Depreciation, Double Declining Balance, Units of Production

Question 2

Rules of Debit and Credit

Answer 2

Debit what comes in, credit what goes out
Debit all expenses and losses, Credit all incomes and gains
Debit the receiver, Credit the giver

Question 3

Debit and Credit Rule for ASSET ACCOUNTS

Answer 3

Asset Accounts - a debit increases the balance and a credit decreases the balance

Question 4

Debit and Credit Rule for LIABILITY ACCOUNTS

Answer 4

LIABILITY ACCOUNTS - a debit decreases the balance and a credit increases the balance

Question 5

Debit and Credit Rule for EQUITY ACCOUNTS

Answer 5

Equity Accounts - a debit decreases the balance and a credit increases the balance

Question 6

Debit and Credit Rule for REVENUE ACCOUNTS

Answer 6

Revenue Accounts - a debit decreases the balance and a credit increases the balance

Question 7

DEBIT AND CREDIT in the BALANCE SHEET for Assets? Liabilities?

Answer 7

In the asset side, DEBIT entries increases the balance while CREDIT entries reduces the balance
In the asset side, DEBIT entries increases the balance while CREDIT entries reduces the balance

Question 8

Three Key Financial Statements

Answer 8

Balance Sheet, Income Statement, Cash Flow Statement

Question 9

What is a Balance Sheet?

Answer 9

A statement of financial position that displays the company’s total assets and how the assets are financed, either through either debt or equity

ASSETS = LIABILITIES + EQUITY
Shows what the company owns, what it owes, and what it’s worth

Question 10

What is an Income Statement?

Answer 10

• A statement of profit or loss
• The statement displays the company’s revenue, costs, gross profit, selling, and administrative expenses, other expenses and income, taxes paid, and net profit in a coherent and logical manner
• Shows what the company has earned, what it has paid, and what’s the resulting profits or losses over a certain period of time

Question 11

What is a Cash Flow Statement?

Answer 11

• The statement of cash flows acts as a bridge between the income statement and balance sheet by showing how cash moved in and out of the business
• Shows how much cash the company has brought it, and how much it has paid out

Question 12

Cash flows can be from:

Answer 12

Operating Activities
Investing Activities
Financing Activities

Question 13

Two types of assets that comprises the company’s Total Assets

Answer 13

Total ASSETS = Current Assets + Non-Current Assets

Question 14

What are Current Assets?

Answer 14

Assets that are used within one year
Example: Cash, Inventory, Accounts Receivable

Question 15

What are assets?

Answer 15

It is what the company owns

Question 16

What are Non-Current Assets?

Answer 16

Assets that last more than a year
Example: Property, Plant and Equipment, Technology, Patents, Trademarks

Question 17

Non-Current Assets can be grouped into two:

Answer 17

Tangible Assets - physical
Intangible Assets - not physical such as trademarks, patents, etc.

Question 18

What are Liabilities?

Answer 18

What the company owes

Question 19

Two types of Liabilities that comprises Total Liabilities

Answer 19

Current Liabilities and Non-Current Liabilities

Question 20

Current Liabilities?

Answer 20

Liabilities that are due within a year
Example: Accounts Payable

Question 21

Non-Current Liabilities

Answer 21

Liabilities that are due in more than a year
Example: Long-term debt

Question 22

What is Shareholder’s Equity

Answer 22

• known as Share Capital
• Refers to the owner’s claim on the assets of a company or the worth of the business after debt has been settled or after all liabilities has been taken off

Question 23

Two components of Share Capital or Shareholder’s Equity?

Answer 23

• First is the money invested in the company through common or preferred shares and other investments made after the initial payment
• Second is retained earnings which includes net earnings that have not been distributed to shareholders over the years

Question 24

What are retained earnings?

Answer 24

A running balance of how much the company is earning less the losses and dividends that have been paid out

Question 25

What is Double-Entry Accounting?

Answer 25

a method of recording transactions where for every business transaction, an entry is recorded in at least two accounts as a debit or credit

Question 26

What are Accounts Receivable?

Answer 26

Amounts owed by customers to the company

Question 27

What are Accounts Payable?

Answer 27

Amounts owed by the company to the suppliers

Question 28

What are the line items found in the Income Statement in order?

Answer 28

Revenue
Direct Operating Cost
Gross Profit
Indirect Operating Cost
Operating Income
Cost of Debt Financing
Tax
Net Income

Question 29

What is the other term for Direct Operating Cost?

Answer 29

Cost of Goods Sold

Question 30

What is Gross Profit in an Income Statement?

Answer 30

Gross Profit is the first subtotal line in an Income Statement. It is the result after COGS/Direct Operating Cost is deducted from Revenue

Question 31

What costs may comprise Indirect Operating Cost?

Answer 31

R&D, Administration, Selling, Distribution, SG&A (Selling, General, and Administrative)

Question 32

What is Operating Income in an Income Statement?

Answer 32

It is the second subtotal line in an income statement after Indirect Operating Costs are deducted from the Gross Profit

Question 33

What is the more common terms used for Operating Income?

Answer 33

Earnings before Income and Taxes (EBIT)

Question 34

What may comprise Cost of Debt Financing?

Answer 34

Interest from Debt, Bank Charges

Question 35

What is Net Income in the Income Statement?

Answer 35

Net Income is the bottom line of the Income Statement (hence the name) showing the amount of remaining income after Tax and Cost of Debt Financing is deducted from the Operating Income

Question 36

Does an income statement includes the revenues and expenses related from historical years? or just the current related accounting year?

Answer 36

Only the related accounting year, all expenses made in

So for example situations:

Example 1: During the last month of the year, the company buys insurance for 12 months at a cost of 12,000. How much insurance will be included in the income statement?
One month of Insurance Expense worth 1,000 will be recorded in the income statement
The remaining 11,000 will be recorded in the balance sheet as a “Current Asset” line item under “Prepaid Expense” line item
Prepayments result if payments are made in advance

Example 2: 2,000 worth of office supplies were used in the current year but were not paid for until the following year. How much of this expense should be included in the income statement for the current year?
The full expense of 2,000 as this is the value of the office supplies used in the current year
Since we haven’t paid for the office supplies, how do we record the second half of the transaction?
It will be recorded in the balance sheet under “Current Liabilities” line item as “Accrued Expense”
Accrued expenses have been reflected on the income statement, but not yet paid for

Question 37

How is a depreciation expense generally calculated?

Answer 37

Depreciation expense is generally calculated by taking the purchase price, deducting the scrap value and dividing the different by its useful life?

Question 38

What is the difference between Straight-Line Depreciation, Double-Declining Balance, Units of Production?

Answer 38

In straight line depreciation, an equal amount of depreciation is applied every year for the asset’s useful life. It is the most commonly used depreciation method and assumes that an asset will lose the same amount of value for the duration of its service life

Double Declining balance - A form of accelerated depreciation where the depreciation expense is greater in the first few years and smaller in the later years. The double-declining balance method is frequently used when an asset’s economic value is being consumed at a more rapid rate early on in its useful life (for example a vehicle). Because depreciation is higher in the early years, this could result in a deferral of income taxes

Depreciation expense varies each year and is based on the output that the assets produce. This method may be appropriate when usage of an asset varies over time and is dependent on the asset’s output. It is often the most accurate method of depreciation since it reflects the actual wear and tear of an asset.

Question 39

Cash Flow Statement are organized based on:

Answer 39

Cash Flow from Operating Activities (Operating Cash Flow)
Cash Flow from Investing Activities (Investing Cash Flow)
Cash Flow from Financing Activities (Financing Cash Flows)

Bottom line: Net Cash Movement

Question 40

What is the Accrual Concept?

Answer 40

Recognizes revenues and costs as the business earns or incurs them, not as it receives or pays money

Question 41

Accrual Accounting vs Cash Accounting

Answer 41

Accrual Accounting method is based on matching revenues and expenses in the period which the transaction took place, instead of when the payment is processed

Cash Accounting is recording revenue and expense transactions when the payments are physically received or paid out. Advantage of this is that the business can account all the physical money it has but this is disadvantageous for business doing credit transactions