CFA R23 Flashcards
Financial statement elements
the major classifications of assets, liabilities, owners’
equity, revenues, and expenses
Accounts
the specific records within each element
where various transactions are entered, such as “inventory” or “accounts payable.
chart of accounts
detailed list of the accounts that make up the five financial
statement elements and the line items presented in the financial statements
Contra accounts
used for entries that offset some part of the value of another-ex: “accumulated depreciation.”
Assets
• Cash and cash equivalents. Liquid securities with maturities of 90 days or less are
considered cash equivalents.
• Accounts receivable. Accounts receivable often have an “allowance for bad debt
expense” or “allowance for doubtful accounts” as a contra account.
• Inventory.
• Financial assets such as marketable securities.
• Prepaid expenses. Items that will be expenses on future income statements.
• Property, plant, and equipment. Includes a contra-asset account for accumulated
depreciation.
• Investment in affiliates accounted for using the equity method.
• Deferred tax assets.
• Intangible assets. Economic resources of the firm that do not have a physical form,
such as patents, trademarks, licenses, and goodwill. Except for goodwill, these values
may be reduced by “accumulated amortization.
Liabilities
Accounts payable and trade payables .
Financial liabilities such as short-term notes payable .
Unearned revenue. Items that will show up on future income statements as revenues .
Income taxes payable. The taxes accrued during the past year but not yet paid .
Long-term debt such as bonds payable .
Deferred tax liabilities
Owners’ equity
• Capital. Par value of common stock.
• Additional paid-in capital. Proceeds from common stock sales in excess of par value.
(Share repurchases that the company has made are represented in the contra account
treasury stock.)
• Retained earnings. Cumulative net income that has not been distributed as dividends.
• Other comprehensive income. Changes resulting from foreign currency translation,
minimum pension liability adjustments, or unrealized gains and losses on
investments.
Revenue
represents inflows of economic resources and includes:
Expenses
Cost of goods sold .
Selling, general, and administrative expenses. These include such expenses as
advertising, management salaries, rent, and utilities.
Depreciation and amortization. To reflect the “using up” of tangible and intangible
assets.
Tax expense .
Interest expense .
Losses. Decreases in assets from transactions incidental to the firm’s day-to-day activities
expanded accounting
equation:
Owners’ equity consists of capital contributed by the firm’s owners and the cumulative
earnings the firm has retained
assets = liabilities + contributed capital + ending retained earnings
Ending retained earnings
the result of adding that period's retained earnings (revenues minus expenses minus dividends) to beginning retained earnings.
So the expanded accounting equation can also be stated as: assets = liabilities \+ contributed capital \+ beginning retained earnings \+ revenue - expenses - dividends
accrual accounting
requires that revenue
is recorded when the firm earns it and expenses are recorded as the firm incurs them,
regardless of whether cash has actually been paid. Accruals fall into four categories
1)Unearned revenue
2)Accrued revenue
3)Prepaid expenses
4)Accrued expenses
Unearned revenue
The firm receives cash before it provides a good or service to customers.
Cash increases and unearned revenue, a liability, increases by the same amount.
When the firm provides the good or service, revenue increases and the liability decreases. For example, a newspaper or magazine subscription is typically
paid in advance. The publisher records the cash received and increases the unearned
revenue liability account. The firm recognizes revenues and decreases the liability as it fulfills the subscription obligation.
Accrued revenue
The firm provides goods or services before it receives cash payment.
Revenue increases and accounts receivable (an asset) increases.
When the customer pays cash, accounts receivable decreases. A typical example would be a manufacturer
that sells goods to retail stores “on account.” The manufacturer records revenue when it delivers the goods but does not receive cash until after the retailers sell the
goods to consumers.
Prepaid expenses.
The firm pays cash ahead of time for an anticipated expense. Cash
(an asset) decreases and prepaid expense (also an asset) increases. Prepaid expense
decreases and expenses increase when the expense is actually incurred. For example,
a retail store that rents space in a shopping mall will often pay its rent in advance
Accrued expenses
The firm owes cash for expenses it has incurred. Expenses increase
and a liability for accrued expenses increases as well. The liability decreases when
the firm pays cash to satisfy it. Wages payable are a common example of an accrued
expense, as companies typically pay their employees at a later date for work they
performed in the prior week or month
reminder
unearned revenue and prepaid
expenses–cash changes hands first and the revenue or expense is recorded later.
accrued revenue and accrued expenses—revenue or expense is recorded first and cash
is exchanged later.
In all these cases, the effect of accrual accounting is to recognize
revenues or expenses in the appropriate period.
valuation adjustments
Most assets are recorded on the financial statements at their historical costs. However, accounting standards require balance sheet values of certain assets to reflect their current market values
To keep the accounting equation in balance, changes in asset values also change owners’ equity, through gains or losses recorded on the income statement or in “other comprehensive income”
Journal entries
record every transaction, showing which accounts are changed and by
what amounts.
general journal.
general journal.
general ledger
sorts the entries in the general journal by account
Contributed (paid-in) capital
the total amount paid in on capital stock—the amount provided by stockholders to the corporation for use in the business. Contributed capital includes items such as the par value of all outstanding stock and premiums less discounts on issuance
initial/adjusted trail balance
At the end of the accounting period, an initial trial balance is prepared that shows the
balances in each account. If any adjusting entries are needed, they will be recorded
and reflected in an adjusted trial balance.
