Acct 351 Chapter 05 Flashcards
Accounting Policies
explanations of the valuation methods that are used or the basic assumptions that are made for inventory valuations, amortization methods, investments in subsidiaries, etc
activity ratios
Ratios that measure how effectively a company uses its assets, and the liquidity of certain assets such as inventory and receivables
Additional Detail
expanded details on specific balance sheet line items
adjunct account
An account that increases either an asset, a liability, or an owners’ equity account
Assets
Probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events
balance sheet
A financial statement, otherwise known as the statement of financial position, that shows an enterprise’s financial condition at the end of a period
cash and cash equivalents
Cash, demand deposits, and short-term highly liquid investments that are readily convertible into known amounts of cash and which are subject to insignificant risk of changes in value
cash debt coverage ratio
A long-run measure of financial flexibility that indicates a company’s ability to repay its liabilities from net cash provided by operating activities, without having to liquidate the assets employed in its operations
Contingencies
material events that have an uncertain outcome
contingency
Defined in the CICA Handbook as “an existing condition or situation involving uncertainty as to a possible gain or loss to an enterprise that will ultimately be resolved when one or more future events occur or fail to occur”.
contra account
An account on the balance sheet that reduces either an asset, a liability, or an owners’ equity account
Contractual Situations
explanations of certain restrictions or covenants that are attached to specific assets or, more likely, to liabilities
coverage ratios
Ratios that measure the degree of protection for long-term creditors and investors.
Current assets
Cash and other assets ordinarily realizable within one year from the date of the balance sheet or within the normal operating cycle where that is longer than a year.
current cash debt coverage ratio
The ratio of net cash provided by operating activities to average current liabilities, indicating how well a company can address its current obligations from internally generated cash flow
Current liabilities
Amounts payable within one year from the date of the balance sheet or within the normal operating cycle where this is longer than a year
Equity/Net Assets
The residual interest in the assets of an entity that remains after deducting its liabilities
financial flexibility
The measurement of the ability of an enterprise to take effective actions to alter the amounts and timing of cash flows so it can respond to unexpected needs and opportunities
Financial instruments
These are contracts that give rise to both a financial asset of one party and a financial liability or equity instrument of another
Financing activities
Activities resulting in changes in the size and composition of the enterprise’s equity capital and borrowings
free cash flow
This is an indicator of financial flexibility that uses information provided on the cash flow statement. Free cash flow is net operating cash flows reduced by the capital expenditures needed to sustain the current level of operations
Future income tax assets
The future tax consequence due to deductible temporary differences
Future income tax liabilities
The future tax consequences associated with taxable temporary differences.
Intangible assets
Assets that lack physical substance and usually have a higher degree of uncertainty concerning their future benefits
Investing activities
Activities covering the acquisition and disposal of long-term assets and other investments not included in cash equivalents
Liabilities
Described in the CICA Handbook as “obligations of an enterprise arising from past transactions or events, the settlement of which may result in the transfer of assets, provisions of services or other yielding of economic benefits in the future”.
Liquidity
Refers to a company’s ability to convert assets into cash to pay off its current liabilities in the ordinary course of business
liquidity ratios
Ratios that measure the enterprise’s short-run ability to pay its maturing obligations
Long-term liabilities
Obligations that are not reasonably expected to be liquidated within the normal operating cycle but instead are payable at some date beyond that time
Monetary assets
Money or claims to future cash flows that are fixed in amounts and timing by contract or other arrangement
non-monetary assets
Items whose price in terms of the monetary unit may change over time
Noncurrent investments
Long-term investments that will not be realized within one year or during the current operating cycle
Operating activities
Defined in the CICA Handbook as “the enterprise’s principal revenue-producing activities and other activities that are not investing or financing activities”.
Other Assets
Assets that do not fall in any other category and are generally not material
owners’ equity
The residual amount of an entity, composed of capital shares, contributed surplus, and retained earnings
Prepaid expenses
Expenses paid in cash and recorded as assets before they are used or consumed
profitability ratios
Ratios that measure the degree of success or failure of a given enterprise or division for a given period of time
Property, plant, and equipment
Properties of a durable nature used in regular business operations to generate income. (Synonym: capital assets)
Ratio analysis
An analysis that expresses relationships among selected financial statement data
Solvency
An enterprise’s ability to pay its debts and related interest
solvency ratios
Measure of the degree of protection for long-term creditors and investors or a company’s ability to meet its long-term obligations. (Synonym: coverage ratios)
statement of cash flows
A financial statement that provides information about the cash inflows (receipts) and outflows (payments) for a specific period of time. It is divided into operating activities, investing activities, and financing activities, and allows users to assess an enterprise’s capacity to generate cash and cash equivalents and its needs for cash resources
statement of financial position
A financial statement that reports a business enterprise’s assets, liabilities, and shareholders’ equity at a specific date. (Synonym: balance sheet)
Subsequent Events
events that happened after the balance sheet data were compiled
subsequent events
Events that occur after the balance sheet date
working capital
The excess of total current assets over total current liabilities
Identify the uses and limitations of a balance sheet
The balance sheet provides information about the nature and amounts of investments in enterprise resources, obligations to creditors, and the owners’ equity in net resources. The balance sheet contributes to financial reporting by providing a basis for (1) calculating rates of return, (2) evaluating the enterprise’s capital structure, and (3) assessing the enterprise’s liquidity, solvency, and financial flexibility. The limitations of a balance sheet are as follows: (1) The balance sheet often does not reflect current value, because accountants have adopted a historical cost basis in valuing and reporting many assets and liabilities. (2) Judgements and estimates must be used in preparing a balance sheet. The collectibility of receivables, the saleability of inventory, and the useful life of long—term tangible and intangible assets are difficult to determine. (3) The balance sheet leaves out many items that are of financial value to the business but cannot be recorded objectively, such as its human resources, customer base, and reputation.
Identify the major classifications of a balance sheet
The balance sheet’s general elements are assets, liabilities, and equity. The major classifications within the balance sheet on the asset side are current assets; investments; property, plant, and equipment; intangible assets; and other assets. The major classifications of liabilities are current and long—term liabilities. In a corporation, owners’ equity is generally classified as shares, contributed surplus, retained earnings, and accumulated other comprehensive income
Prepare a classified balance sheet
The most common format lists liabilities and shareholders’ equity directly below assets on the same page
Identify balance sheet information that requires supplemental disclosure
Five types of information are normally supplemental to account titles and amounts presented in the balance sheet. (1) Contingencies: Material events that have an uncertain outcome. (2) Accounting policies: Explanations of the valuation methods that are used or the basic assumptions that are made for inventory valuation, amortization methods, investments in subsidiaries, etc. (3) Contractual situations: Explanations of certain restrictions or covenants that are attached to specific assets or, more likely, to liabilities. (4) Detailed information: Clarification by giving more detail about the composition of balance sheet items. (5) Subsequent events: Events that happen after the balance sheet date
Identify major disclosure techniques for the balance sheet
There are four methods of disclosing pertinent information in the balance sheet: (1) Parenthetical explanations: Additional information or description is often provided by giving explanations in parentheses that follow the item. (2) Notes: Notes are used if additional explanations or descriptions cannot be shown conveniently as parenthetical explanations. (3) Cross—reference and contra items: A direct relationship between an asset and a liability is cross—referenced on the balance sheet. (4) Supporting schedules: Often a separate schedule is needed to present more detailed information about certain assets or liabilities because the balance sheet provides just a single summary item
Indicate the purpose of the statement of cash flows
The main purpose of a statement of cash flows is to provide relevant information about an enterprise’s cash receipts and cash payments during a period. Reporting the sources, uses, and net increase or decrease in cash lets investors, creditors, and others know what is happening to a company’s most liquid resource
Identify the content of the statement of cash flows
Cash receipts and cash payments during a period are classified in the statement of cash flows into three different activities: (1) Operating activities: Involve the cash effects of transactions that enter into the determination of net income. (2) Investing activities: Include making and collecting loans and acquiring and disposing of investments (both debt and equity) and property, plant, and equipment. (3) Financing activities: Involve liability and owners’ equity items and include (a) obtaining capital from owners and providing them with a return on their investment and (b) borrowing money from creditors and repaying the amounts borrowed
Prepare the cash from operating activities section of the statement of cash flows
This involves starting with net income and adjusting it for non—cash activities, such as credit sales, accrued expenses, amortization, and gains/losses. It is important to look carefully at prior years’ operating activities that might affect cash this year, such as cash collected this year from last year’s credit sales and cash spent this year for last year’s accrued expenses
Understand the usefulness of the statement of cash flows
Creditors examine the statement of cash flows carefully because they are concerned about being paid. The amount and trend of net cash flow provided by operating activities in relation to the company’s liabilities is helpful in making this assessment. In addition, measures such as a free cash flow analysis provide creditors and shareholders with a better picture of the company’s financial flexibility
Identify differences in accounting between private entity GAAP and IFRS
The chart on page 250 outlines the major differences in how both sets of standards account for and present items on the balance sheet and statement of cash flows. Both sets of standards require largely the same balance sheet elements be presented. In addition, IFRS requires presentation of biological assets, investment properties, and provisions. The statement of cash flow presentation requirements are similar
Identify the siginificant changes planned by the IASB regarding financial statement presentation
The IASB is planning to change the way financial statements are presented by issuing a new standard by 2011. The major statements, including balance sheet, income statement, and statement of cash flows, will be classified according to business and financing activities
Identify the major types of financial ratios and what they measure
Ratios express the mathematical relationship between one quantity and another, in terms of a percentage, a rate, or a proportion. Liquidity ratios measure the short—term ability to pay maturing obligations. Activity ratios measure how effectively assets are being used. Profitability ratios measure an enterprise’s success or failure. Coverage ratios measure the degree of protection for long—term creditors and investors
