CFA 25: Understanding Income Statements Flashcards
revenue
Components and Format of the Income Statement
Revenue generally refers to amounts charged (and expected to be received) for the delivery of goods or services in the ordinary activities of a business.
net revenue
Components and Format of the Income Statement
Net revenue means that the revenue number is reported after adjustments (e.g. for cash or volume discounts, or for estimated returns).
expenses
Components and Format of the Income Statement
Expenses reflect outflows, depletions of assets, and incurrences of liabilities in the course of the activities of a business.
gains and losses
Components and Format of the Income Statement
Gains and losses are increases and decreases in economic benefits, respectively which may or may not arise in the ordinary activities of the business, and are included in net income.
net income
Components and Format of the Income Statement
Net income can be defined as: a) income minus expenses, or equivalently b) revenue plus other income plus gains minus expenses, or equivalently c) revenue plus other income plus gains minus expenses in the ordinary activities of the business minus other expenses, and minus losses. The last definition can be rearranged as follows: net income equals (i) revenue minus expenses in the ordinary activities of the business, pluss (ii) other income minus other expenses, plus (iii) gains minus losses.
grouping by nature
Components and Format of the Income Statement
Grouping by nature means grouping together expenses such as depreciation on manufacturing equipment and depreciation on administrative facilities into a single line item called “depreciation”.
grouping by function
Components and Format of the Income Statement
Grouping by function would be grouping together expenses into a category such as cost of goods sold, which may include labour and material costs, depreciation, some salaries, and other direct sales related expenses.
gross profit (gross margin) Components and Format of the Income Statement
Gross profit is sales minus the cost of sales (COGS).
multi-step format
Components and Format of the Income Statement
With respect to the format of the income statement, a format that presents a subtotal for gross profit (revenue minus cost of goods sold).
single-step format
Components and Format of the Income Statement
With respect to the format of the income statemtn, a format that does not subtotal for gross profit.
operating profit
Components and Format of the Income Statement
Operating profit results from deducting operating expenses such as selling, general, administrative, and research and development expenses from gross profit.
long-term contract
Components and Format of the Income Statement
A long-term contract is one that spans a number of accounting periods. Such contracts raise issues in determining when the earnings process has been completed and revenue recognition should occur.
percentage-of-completion
Revenue Recognition
Under the percentage-of-completion method, in each accounting period, the company estimates what percentage of the contract is complete and then reports that percentage of the total contract revenue in its income statement. Contract costs for the period are expensed against the revenue. Therefore, net income or profit is reported each year as work is performed.
completed contract
Revenue Recognition
Under the completed contract method, the company does not report any income until the contract is substantially finished (the remaining costs and portential risk are insignificant in amount), although provision should be made for expected losses. Note that if a contract is started and completed in the same period, there is no difference between the percentage-of-completion and completed contract methods.
installment sales
Revenue Recognition
Installment sales are sales in which proceeds are to be paid in installments over an extended period.
installment method
Revenue Recognition
Under the installment method, the portion of the total profit of the sale that is recognized in each period is determined by the percentrage of the total sales price for which the seller has received cash.
cost recovery method
Revenue Recognition
Under the cost recovery method, the seller does not report any profit until the cash amounts paid by the buyer - including principal and interest on any financing from the seller - are greater than all the seller’s costs of the property.
matching principle
Expense Recognition
The accounting principle that expenses should be recognized when the associated revenue is recognized.
period costs
Expense Recognition
Period costs are expenditures that less directly match revenues, are reflected in the period when a company makes the expenditure or incurs the liability to pay. Administrative costs are an example.
specific identification method
Expense Recognition
An inventory accounting method that identifies which specific inventory items were sold and which remained in inventory to be carried over to later periods.
FIFO method
Expense Recognition
Under the FIFO method, the oldest goods purchased (or manufactured) are assumed to remain in inventory. Cost of goods in beginning inventory and costs of the first items purchased (or manufactured) flow into cost of goods sold first, as if the earliest items purchased sold first. Ending inventory would, therefore, include the most recent purchases.
weighted average cost method
Expense Recognition
The weighted average cost method assigns the average cost of goods available for sale to the units sold and remaining in inventory. The assignment is based on the average cost per unit (total cost of goods available for sale/ total units available for sale) and the number of units sold and the number remaining in inventory.
LIFO method
Expense Recognition
a
direct write-off method
Expense Recognition
An approach to recognizing credit losses on customer receivables in which the company waits until such time as a customer has defaulted and only then recognizes the loss.
long-lived assets
Expense Recognition
Long-lived assets are assets expected to provide economic benefits over a future period of tiem greater than one year. Examples are land (property), plan, equipment, and intangible assets such as trademarks. The costs of most long-lived assets are allocated over the period of time during which they provide economic benefits. The two main types of long-lived assets whose costs are not allocated over time are land and those intangible assets with indefinite useful lives.
straight-line method
Expense Recognition
A depreciation method that allocates evenly the cost of a long-lived asset less its estimated residual value over the estimated useful life of the asset.
acclerated methods
Expense Recognition
Depreciation methods that allocate a relatively large proportion of the cost of an asset to the early years of the asset’s useful life.
diminishing balance method
Expense Recognition
An accelerated depreciation method, i.e. one that allocates a relatively large proportion of the cost of an asset to the early years of the asset’s useful life.
double declining balance depreciation
Expense Recognition
An accelerated depreciation method that involves depreciating the asset at double the straight-line rate. This rate is multiplied by the book value of the asset at the beginning of the period (a declining balance) to calculate depreciation expense.
net book value
Expense Recognition
The remaining (undepreciated) blance of an asset’s purchase cost. For liabilities, the face value of a bond minus an unamortized discount, or plus any unamortized premium.
goodwill
Expense Recognition
An intangible asset that represents the excess of the purchase price of an acquired company over the value of the net assets acquired.
diluted EPS
Earnings per Share
The EPS that would result if all dilutive securities were converted into common shares.
basic EPS
Earnings per Share
Net earnings available to common shareholders (i.e. net income minus preferred dividends) divided by the weighted average number of common shares outstanding.
if-converted method
Earnings per Share
A method for accouting for the effect of convertible securities on earnings per share (EPS) that specifies what EPS would have been converted at the beginning of the period, taking account of the effects of conversion on net income and the weighted average number of shares outstanding.
treasury stock method
Earnings per Share
A method for accounting for the effect of options (and warrants) on earnings per share (EPS) that specifies what EPS would have been if the options and warrants had been exercised and the company had used the proceeds to repurchase common stock.
antidilutive
Earnings per Share
With reference to a transaction or a security, one that would increase EPS or result in EPS higher than the company’s basic EPS - antidilutive securities are not included in the calculation of diluted EPS.
other comprehensive income
Comprehensive Income
Items of comprehensive income that are not reported on the income statement; comprehensive income minus net income.
total comprehensive income
Comprehensive Income
The change in equity during a period resulting from transaction and other events, other than those changes resulting from transactions with owners in their capacity as owners.
comprehensive income
Comprehensive Income
The change in equity of a business enterprise during a period from nonowner sources; includes all changes in equity furing a period except those resulting from investments by owners and distributions to owners; comprehensive income equals net income plus other comprehensive income.
trading securities
Comprehensive Income
Securities held by a company with the intent to trade them.
available-for-sale
Comprehensive Income
Debt and equity securities not classified as either held-to-maturity or held-for-trading securities. The investor is willing to sell but not actively planning to sell. In general, available-for-sale securities are reported at fair value on the balance sheet.
