Chapter 1

Question 1

Accounting

Answer 1

Information system that identifies and records the economic events of an organization, then communicates them to a wide variety of interested users.

Question 2

Internal users

Answer 2

Users of accounting information with access to a company’s internal accounting information, including company officers, managers, and directors.

Question 3

External users

Answer 3

Users of accounting information that are not involved in managing the organization and do not have access to accounting information other than which is publicly available. Includes investors, lenders, and other creditors.

Question 4

Investors

Answer 4

Users of accounting information that have an ownership interest (debt/equity securities) in the organization.

Question 5

Lenders

Answer 5

Users of accounting information, including bankers, that extend credit to borrowers.

Question 6

Creditors

Answer 6

Users of accounting information, including suppliers, that grant credit (sell on account) to a customer.

Question 7

Proprietorship (and its characteristics)

Answer 7

Business owned by one person:

• Easy to set-up;
• Minimal start-up capital required;
• Owner holds unlimited liability (personally liable);
• Limited life;
• Income is taxed on the owner’s personal income tax return.

Question 8

Reporting entity concept

Answer 8

Concept that economic activity that can be identified with a particular company must be kept separate and distinct from the activities of the owner(s) and of all other economic entities.

Applies to all primary forms of business organizations.

Question 9

Partnership (and its characteristics)

Answer 9

Business owned by more than one person:

• Partners bring unique skills, and economic resources;
• Formalized in a written partnership agreement;
• Each partner has unlimited liability;
• Income is taxed on each partner’s personal income tax return.

Question 10

Corporation (and its characteristics)

Answer 10

Company organized as a separate legal entity. Shares are evidence of ownership:

• Shareholders have limited liability;
• Ownership rights are transferable;
• Great ability to acquire capital, through selling shares;
• Indefinite life;
• Shareholders elect a Board of Directors, who “manage” the corporation;
• Government regulations, reporting and disclosure requirements take effect;
• Income tax is payed as separate legal entity (Corporate income tax rate < Individual income tax rate).

Question 11

Public corporation

Answer 11

Corporation whose shares are publicly traded on a stock exchange. Follow IFRS accounting standards.

Question 12

Private corporation

Answer 12

Corporation whose shares are not traded on a public stock exchange. Usually have few shareholders. Follow ASPE (or IFRS) accounting standards.

Question 13

Generally Accepted Accounting Principles (GAAP)

Answer 13

A general guide, having substantial authoritative support, that describes how economic events should be recorded and reported for financial reporting purposes.

Publicly-traded corporations must use IFRS, while private corporations use ASPE (most likely) or IFRS.

Question 14

Financing activities

Answer 14

Activities that report the cash effects of debt or equity financing. These include:

1 - Borrowing/Repaying cash from (to) lenders;
2 - Issuing/reacquiring shares or paying dividends to investors.

Question 15

Share capital

Answer 15

Shares representing the ownership interest in a corporation. Includes common shares and preferred shares.

Question 16

Dividends

Answer 16

The distribution of retained earnings from a corporation to its shareholders, normally in the form of cash.

Question 17

Liabilities

Answer 17

The debts and obligations of a business. Liabilities are claims of lenders and other creditors on the assets of a business.

Question 18

Investing activities

Answer 18

Activities that report the cash effects of purchasing and disposing of long-lived assets such as property, plant, and equipment, and investments not held for trading.

Question 19

Assets

Answer 19

The resources owned or controlled by a business that are expected to provide future economic benefits.

Question 20

Operating activities

Answer 20

Activities that result from day-to-day operations. They report the cash effects of transactions that create revenues (income) and expenses.

Question 21

Income (aka revenue)

Answer 21

The increase in economic benefits that result from the normal operating activities of a business, such as the sale of a product or provision of a service.

Question 22

Expenses

Answer 22

The decreases in economic benefits that result from the costs of assets consumed or services used in ongoing operations to generate revenue.

Question 23

Net income (aka profit, or net earnings)

Why are financial statement users interested in net income?

Answer 23

The amount by which revenues exceed expenses.

Net Income = Revenues - Expenses

Historical net income helps predict future income, ability to repay, and performance (for growth, debt repayment, share price, dividend payment)

Question 24

Loss (aka net loss)

Answer 24

The amount by which expenses are more than revenues. The opposite of net income.

Question 25

Fiscal year

Answer 25

An accounting period that is one year long.

Question 26

Income statement

Answer 26

A financial statement that presents the revenues and expenses and resulting net income or loss of a company for a specific period of time.

Question 27

Statement of changes in equity

Why do users care?

Answer 27

A financial statement that summarizes the changes in total shareholders’ equity, as well as each component of shareholders’ equity, for a specific period of time.

Users evaluate the use of equity for financing purposes (dividend payment, issue of shares)

Question 28

Shareholder’s equity

Answer 28

The shareholders’ claim on total assets, represented by the investments of the shareholders (share capital) and undistributed earnings (retained earnings) generated by the company.

Question 29

Retained earnings

Answer 29

The amount of accumulated net income (less net losses, if any) from prior and current periods, that has been retained and reinvested in the corporation for future use, and not distributed to shareholders as dividends.

Question 30

Deficit

Answer 30

A negative balance in retained earnings, resulting from cumulative net losses > cumulative net income.

Question 31

Statement of financial position (aka the balance sheet)

Why do users care?

Answer 31

A financial statement that reports the assets, liabilities and shareholders’ equity at a specific date.

External users use the SFP to determine the likelihood of being repaid, by analyzing the nature of the assets and liabilities.

Internal users use the SFP to determine whether inventory was adequate, whether there was sufficient cash on hand. They also analyze the proportion of debt/equity financing.

Question 32

Accounting equation

Answer 32

Assets = Liabilities + Shareholders’ Equity.

Question 33

Statement of cash flows

Answer 33

A financial statement that provides information about the cash inflows (receipts) and outflows (payments) for a specific period of time.