Chapter 10: Reporting for Profit (Part 1) Flashcards
What does the period assumption state and how does it relate to comparability?
It states the life of the business is divided into equal periods of time in order to determine profit or loss.
In order for reports to be comparable, the same reporting period length must be used
How is profit or loss determined?
Subtracting the expenses incurred from the revenues earned during the reporting period
What happens to assets, liabilities and capital at the end of a reporting period?
They are balanced so that the ledger accounts are ready for the next reporting period
What happens to revenue and expense accounts at the end of the reporting period?
They are closed off to the profit and loss summary account
What are the two purposes for closing entries?
To calculate profit for the current reporting period and to reset the accounts to zero in preparation for the next reporting period
Why does the profit and loss summary account not appear in the trial balance or business reports?
It is closed off to the capital account and the owner gets the profit or loss
Why is the inventory account balanced rather than closed?
It is a current asset which represents a future economic benefit, which will be carried forward into the next reporting period
How will the profit and loss summary be recorded in the balance sheet?
It is recorded as part of owners equity because it is transferred to the capital account, therefore appearing as part of the net profit figure in the form of capital
How does closing the ledger account ensure relevance in financial reports?
It ensures that only revenues earned and expenses incurred in the current period are used to calculate profit, as it is the only information that is useful for decision-making
Where is drawings transferred to at the end of a reporting period?
The capital account
Why are drawings not closed to the profit and loss summary?
They are not classified as a revenue or expense, because it relates to a distribution of the owner, which is excluded from the definition of an expense and it is classified as a negative owners equity
Why are transactions with the owner recorded separately in the drawings account?
To allow them to be compared against net profit for the period to determine if it is at an appropriate level
Why are drawings not included in the calculation of profit?
They are expressly excluded from the definitions of revenues and expenses, thus directly breaching relevance
What is represented by revenues in the income statement?
Revenues earned as a direct result of selling inventory which includes sales returns being deducted from both cash and credit sales
What is represented by cost of goods sold in the income statement?
All costs incurred in getting goods into a condition and location ready for sale, which include cost of sales and all other period costs
