Chapter 1 Flashcards
What is Accounting?
Three activities - it identifies, records, and communicates the economic events of an organization to interested users.
What does Bookkeeping regard?
Bookkeeping regards ONLY the RECORDING of economic events. (The recording part of accounting).
What are the first users of financial information, INTERNAL USERS, generally concerned with?
The actual running or management of the business such as Finances (company cash flow to pay dividends), Marketing (product or service pricing to maximize net income), Human Resources (employee budgets/wages), Management (cutting or keeping product/services based on profitability).
What does MANAGERIAL ACCOUNTING provide (for Internal Users)?
Managerial Accounting provides internal reports to help users make decisions about their companies (Financial comparisons, projections of income, forecasting future needs and expenses).
Who are the second users of financial information, EXTERNAL USERS, and what are they generally concerned with?
External users of financial information are individuals or organizations outside a company that want financial information (Investors and Creditors).
Investors (owners) are concerned with decisions to buy, hold, or sell ownership shares of a company.
Creditors (suppliers and bankers) are concerned with evaluating the risk of granting credit or lending money (based on the financial information).
What does FINANCIAL ACCOUNTING provide (for External Users)?
Financial Accounting provides economic and financial information for investors, creditors and other external users (such as whether they are abiding by tax laws, operating within prescribed rules and regulations, whether they’ll continue to honor product warranties or support their product lines or whether owners will be able to pay increased wages/benefits).
What are ETHICS regarding Accounting?
Ethics are the standards of conduct by which one’s actions are judged as right or wrong, honest or dishonest, fair or unfair. Financial reporting depends on ethics (honesty).
Terminology: GAAP
Generally Accepted Accounting Principles:
Generally accepted and universally practiced standards in Accounting.
Terminology: FASB
Financial Accounting Standards Board:
The primary accounting standard-setting body in the US.
Terminology: SEC
Securities and Exchange Commission:
US Government Agency overseeing U.S. financial markets and accounting standard-setting bodies. (Relies on FASB to develop accounting standards, which public companies must follow).
Terminology: IASB
International Accounting Standards Board:
Issues accounting standards for countries outside of the US called International Financial Reporting Standards (IFRS).
What is CONVERGENCE in regard to Accounting and why is it important?
Convergence is efforts made by the two Standard-Setting bodies to increase comparability of financial reports internationally by reducing the differences between U.S. GAAP and Intl. IFRS (with hopes to someday eventually produce a single set of high-quality accounting standards to be used worldwide).
GAAP uses what two principles?
GAAP uses the COST PRINCIPLE and the FAIR VALUE PRINCIPLE.
Selection of which principle to follow leads to trade-offs between Relevance and Faithful Representation. RELEVANCE means?
Relevance means that the financial information is capable of making a difference in a decision.
Selection of which principle to follow leads to trade-offs between Relevance and Faithful Representation. FAITHFUL REPRESENTATION means?
Faithful Representation means that the numbers and descriptions match what really happened – it is FACTUAL.
Terminology: COST PRINCIPLE
The Cost Principle (or Historical Cost Principle) dictates that companies record assets at their cost (not only at the time of purchase but also over time as the asset is held.
Ex: If Company “X” buys land for $300,000, it initially reports it in it’s accounting record as $300,000. If by the end of the next year the fair value of the land rose to $400,000, then under the COST PRINCIPLE, Best Buy would continue to report the land at $300,000 (as originally purchased).
Terminology: FAIR VALUE PRINCIPLE
The Fair Value Principle states that assets and liabilities should be reported at fair value (the received to sell an asset or settle a liability (relatively current price given?). Where most companies generally prefer the nature of cost figures (Cost Principle?), companies such as Investment firms prefer the RELEVANCE of Fair Value, because this information is readily available for such assets as securities (which are frequently and actively traded).
ASSUMPTIONS provide a foundation for the Accounting Process. Two main assumptions are:
Two main assumption for the Accounting Process are the MONETARY UNIT ASSUMPTION and the ECONOMIC ENTITY ASSUMPTION.
Terminology: MONETARY UNIT ASSUMPTION
The Monetary Unit Assumption requires that companies include in the accounting records only transaction data that can be expressed in money terms. This assumption enables accounting to QUANTIFY (measure) economic events and is VITAL TO APPLYING the COST PRINCIPLE.
Ex. Basically company cannot record or include quality of service, health of owner, morale of employees because it cannot be quantified by money (although still important.)
Terminology: ECONOMIC ENTITY ASSUMPTION
The Economic Entity Assumption requires that the activities of the entity be kept separate and distinct from the activities of its owner and all other economic entities.
Ex: Pedro, owner of Hot Tamales, must keep his personal living costs separate from the expenses of his business, Hot Tamales. Similarly, Taco Bell, Hot Tamales and Coca-Cola are segregated into separate ECONOMIC ENTITIES for Accounting purposes.
What are some examples of an Economic Entity?
An ECONOMIC ENTITY may be a COMPANY (such as Crocs. Inc), a GOVERNMENTAL UNIT (the STATE of WASHINGTON), a MUNICIPALITY (the city of Yakima or Seattle), a SCHOOL DISTRICT (Pasco School District #XX), or a CHURCH (the LDS or Catholic Church).
Terminology: PROPRIETORSHIP
A Proprietorship is a business owned by one person. The owner is often a manager/operator of the business (such as plumbing companies, beauty salons, auto-repair shops, farms, clothing stores) usually only needing a small amount of money to start the business up. The owner (proprietor) receives any profits, suffers any losses, and is personally liable for all debts of the business. ECONOMIC ASSUMPTION must be employed in a Proprietorship.
Terminology: PARTNERSHIP
A Partnership is a business owned by two or more persons associated as partners. It’s similar to a proprietorship except that more than one owner is involved, typically with an agreement (written or oral) that sets forth such term as initial investments, individual duties, division of net income (or net loss), and settlement to be made upon death or withdrawal. Each partner generally has unlimited personal liability for the debts of the partnership. ECONOMIC ENTITY ASSUMPTION must also be used with Partnerships. Examples of partnerships: organized retail and service-type businesses, including professional practices (lawyers, doctors, architects, and CPA’s)
Terminology: CORPORATION
A Corporation is a business organized as a separate legal entity under state corporation law and having ownership divided into transferable shares of stock. The holders of the shares (stockholders) enjoy limited liability; they are not personally liable for the debts of the corporate entity. Stock holders may transfer all or part of their ownership shares to other investors at any time (i.e., sell their shares). Attractive for it’s ease in change of ownership (without dissolving it), the corporation can enjoy an unlimited life.
