Chapter 1: Accounting as a form of communication Flashcards
What is accounting? Define it in terms understandable to someone without a business background.
Accounting is a communication process. Its purpose is to provide economic information about an organization that will be useful to those who need to make decisions regarding that entity. For example, information provided by an accountant about an entity is useful to a banker in reaching a decision about whether to loan money to a business.
What are the two distinct elements of owners’ equity in a corporation? Define each element.
The two distinct elements of owners’ equity in a corporation are contributed capital and retained earnings. Contributed capital, as represented by capital stock, is the original contribution to the company by the owners. Retained earnings represents the claims of the owners to the assets of the business. These claims result from the earnings of the company that have not been paid out in dividends.
How should a balance sheet be dated: as of a particular day or for a particular period of time? Explain your answer.
A balance sheet should be dated as of a particular day. It is a statement of financial position and shows the assets, liabilities, and stockholders’ equity of a business at a particular point in time. Unlike an income statement, it is not a flow statement and therefore is not dated for a particular period of time. Balance sheets are typically prepared to coincide with the end of an accounting period, such as the end of the month or the end of the year.
How should an income statement be dated: as of a particular day or for a particular period of time? Explain your answer.
An income statement should be dated for a particular period of time: for example, for the month of June or for the year ended December 31, 2016. The income statement is a flow statement because it summarizes revenues and expenses for a period of time. Unlike a balance sheet, it is not an indication of position at any one particular point in time.
Think about Chipotle’s business in balance sheet terms. Name three of Chipotle’s assets. Name three of Chipotle’s liabilities.
Chipotle’s assets are Cash and cash equivalents; Accounts receivable; Inventory; Current deferred tax asset; Prepaid expenses and other current assets; Income tax receivable; Investments; Leasehold improvements, property and equipment; Long term investments; Other assets; and Goodwill. Chipotle’s liabilities are Accounts payable; Accrued payroll and benefits; Accrued liabilities; Deferred rent; Deferred income tax liability; and Other liabilities.
Evaluate the following statement: The auditors are in the best position to evaluate a company because they have prepared the financial statements.
The auditors may be in an excellent position to evaluate a company, but not because they have prepared the financial statements. The preparation of the statements is the responsibility of management. The role of the auditor is to perform various tests and procedures as a basis for rendering an opinion on the fairness of the presentation of the statements.
Why does inflation present a challenge to the accountant? Relate your answer to the monetary unit assumption.
Accountants make the assumption in preparing a set of financial statements that the dollar is a stable measuring unit. This assumption, called the monetary unit assumption, may or may not be accurate, depending on the level of inflation in the economy. The higher the rate of inflation, the less reliable is the dollar as a measuring unit.
What is meant by the term generally accepted accounting principles?
These are the methods, rules, practices, and other procedures that have evolved over time and that govern the preparation of financial statements. Two important points are worth noting about GAAP. First, these principles are not static but rather change in response to changes in the ways companies conduct business. Second, there is not a single, identifiable source of GAAP. Both the private and public sectors have contributed to the development of generally accepted accounting principles.
