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Modern Corp > Chapter 4 - Accounting Liabilities > Flashcards

Chapter 4 - Accounting Liabilities Flashcards

1
Q

Once it has been decided to put liability into balance sheet…?

A

How to measure it?

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2
Q

Most liabilities are recorded by..?

A

How much company expects to pay

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3
Q

When do issues arise in measuring liabilities?

A

Sometimes payments is to be years in the future.

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4
Q

Is long term liability riskier than one to be paid tomorrow?

A

For provisions - accountants adjust distant liabilities downwards - called “discounting”. Time value of money is accounted (E.g interest from banks)

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5
Q

Equity has no independent definition maybe?

A

Because its’ the difference between assets and liabilities

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6
Q

Equity is divided into 2 parts by where it comes from?

A

Share capital include Share premium - put into equity by shareholders

Profits earned but not yet paid to shareholders as dividends - called “Reserves” or “Retained earnings”

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7
Q

Exact natures of business depends….?

A

on country

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8
Q

3 reasons UK laws are discussed in types of business?

A
  1. One of the first country to develop a substantial commercial legal system (First to undergo industrial revolution)
  2. Many countries follow this English law
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9
Q

Describe Sole Trader?

A

Small businesses
Owner, financier, worker - all profit and all risk
No separate legal entity (no company)
Simple, no requirements to publish fin. statements, no need for auditors.
Must record accounts for personal use, how money flows in your business - incase of expansion (banks, loans)
Tough to handle scaling, still must pay tax

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10
Q

Disadv. of sole trader?

A

Nobody to oversee your job
No system
Lack of skills

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11
Q

Describe Partnership?

A

Agree arrangements between yourselves & split profit
Pool ideas and skills, timings
If your partner is bad you will suffer because:
In English Law normal partnership is still not a legal entity, thus partners own any business assets & pay personal income tax on profits - No legal accounting or auditors are needed.

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12
Q

Partnerships are typical arrangements of?

A

Lawyer firms or architects. Many auditor firms operate in English law countries, sometimes as LLP - shares some features w companies

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13
Q

Why may partnerships turn sour?

A

Risky as dishonest partner may lead to - you are left w all debts to pay and losses, maybe out of your personal assets as well.
To become a partner in bus. is risky unless you’re an everyday manager - this limits number of partners to those who will to be in management. If business wants to be bigger by raising more finance from owners - pool of such financiers are restricted

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14
Q

Describe Private LLC?

A

Set up a company - becomes separate legal entity
Company itself is taken to court, can borrow money, buy buildings and pay tax.
Law requires to appoint auditors and publish fin. statements. Designed to protect the shareholders and lenders from bad managers

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15
Q

Why are nearly all companies are set up under the law as LLC?

A

legal entities where owners have no liability for the entity’s debts beyond their share capital . Thus investors willing to put in money w/out becoming managers because they lose their investment not houses, cars etc.

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16
Q

Describe Listed companies?

A

If vast amount of money is needed, raise money from public.

but must comply w many legal requirements to protect public, then have shares listed on exchange.

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17
Q

Why are investors attracted to stock exchanges?

A

Buy and sell shares whenever to other investors

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18
Q

Describe groups.

A

Most large multinational listed companies are organised as groups.- This complication is because subsidiaries might b in diff countries under diff laws.

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19
Q

If you want to invest in a group..?

A

Buy share in parent company that has right o govern

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20
Q

How do accountants how fin. statements of groups?

A

To avoid ton of statements they create a set of fin. accounts that shows what the group looks like as a single entity - called “consolidated fin. statements”

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21
Q

What happens to subsidiaries in groups?

A

All companies are separate legal entities and pay tax and dividends separately.

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22
Q

How does complexity move through types of businesses?

A

Sole trader
Partnership
Unlisted companies
LLC

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23
Q

Also as firms get more complex what else happens?

A

More owners (share risk and profit)
Easier to raise capital
More separation of owners from managers
more audit and reporting rules

24
Q

When buying companies what happens to goodwill?

A

Goodwill is not exactly known or length of its’ existence - difficult to assess amortisation thus under IFRS Goodwill in balance sheet is left until it suffers impairment (e.g subsidiary turns out to be loss making)

25
Q

2 types of finance?

A

1.From owners/partners/shareholders (equity):
> Capital
> Retained profits (for expansion maybe kept in business)

2.From banks/lenders (debt)
> loans
> debentures/ bonds (Listed companies may borrow money from public by issuing bonds)

26
Q

What are Bonds?

A

Piece of paper (legal document) where borrower promises to repay money borrowed & to pay interest. Maybe sold from one person to next on stock exchange, assuming the investors believe that the borrower will pay. Debt can be passed from one person to another.

27
Q

How do you choose type of finances?

A

Most companies rely a lot on retained profits but sometimes they want more:

  1. Raise extra equity (issuing more shares)
  2. Extra debt (bank or bond borrowing)
28
Q

Adv of shares?

A 
Not liability
Dividends
Need not be paid
Not tax deductible 
Shares don't have compulsory repayment thus in accounting terms "not a liability"
29
Q

Disadv. of debt?

A 
Liability
Interest (compulsory)
Must be paid
Tax deductible 
All debts have to be paid at a particular date thus liability (much risker)
30
Q

Adv of dividends?

A

Share of profit paid to shareholders is not compulsory. No profit = no dividend. If profit - size of dividend is recommended by managers of the company (directors) and has to be agreed by shareholders.

31
Q

Law risks of debt?

A

If company can’t/ will not pay interest or loan repayment - lender takes to court and court orders company to sell assets to pay lenders off :

  1. Loan repayment
  2. Interest repayment
32
Q

Adv of debt?

A

1.Interest payment is an expense (taken from profit) thus tax on profit falls however, dividends are a sharing of profit thus, no tax deduction.
Thus, cheaper for company to pay a 5% return on debt than on equity (Interest is tax deductible)
2. No loss of control
3. No more profit sharing
Thus sometimes better to have more lenders than shareholders esp. if future looks good

33
Q

Mostly all shares in company are..?

A

Ordinary shares (US common stock)

34
Q

What are preference shares/ preferred stock?

A

When no enough profit for all shareholders - dividends paid to preference shareholders first but usually they have no votes in company’s meetings

35
Q

What are “par values”/nominal values?

A

Starting values of share. Some companies have more than one type of ordinary shares w different par values

36
Q

How do companies sell their shares?

A

They continue to sell their shares for years and raises fiancées and if company’s share prices rise on stock exchange company may sell on profit

37
Q

What is share capital and Share premium?

A

If company sells with profit, total received minus the par value - share capital is called share premium.

38
Q

What are retained earnings?

A

Profit made over years but not paid out

39
Q

What are Other reserves?

A

Various gains

40
Q

What are the 4 ways to raise equity (after friends and family)?

A

1.Venture capital
2.Private placement to friendly institution
3.Initial public offering (IPO)
4.Subsequently:
> “Rights issues” to existing shareholders
> general offers

41
Q

What is venture capital?

A

Private raising of funds (financial institution) that will buy shares from young and risky companies - provides help w management

42
Q

What is “private placement”?

A

When X becomes profitable - shares rise in value , the venture capitalist sells, perhaps through a private placement - as company is no longer risky they can be sold to other types of institutions (Private offering)

43
Q

What is IPO?

A

Initial public offering where company maybe be large enough. To apply to be listed on stock exchange

44
Q

What are the steps for an IPO?

A

Law is set out so that public is protected. Advice is needed from lawyers, bankers and accountants. Merchant bank will underwrite the issue
They then need a prospectus

45
Q

What does “underwrite” mean?

A

Promise to buy shares if nobody else does

46
Q

Disadv. of IPO?

A

It’s very costly.
Many rules for company to obey.
As it is expensive - only done when it needs millions in finance

47
Q

What is a prospectus?

A

Large initial legal document that advertises the company to the market. It obeys rules of the regulators.
E.g Security of exchange commission (SEC) (US)
Financial Services Authority (FSA) (UK)

48
Q

What are rights issues?

A

In later years of listed companies, Finance is usually raised by rights issues. This involves offering new shares, slight discount to current market price, to all existing shares in proportion to their surroundings.

49
Q

Anything on the right hand of the accounting report..?

A

Excluding equity needs to meet the definition of liability

50
Q

2 other types of liabilities?

A

Non-current

Current

51
Q

What are accruals?

A

Recognition that business has used up services in that period but not paid for them

52
Q

Usually how are non-current assets paid for?

A

With interest

53
Q

What is pension?

A

Staff expense w postponed payment date.

Each year charged to be paid later - depends on final year salary, years of life and only estimate can be found

54
Q

What is contingent liability?

A

Unlikely outflows caused by obligations or possible obligations

55
Q

What can’t be distributed until company shuts down?

A

Certain elements of equity including share capital

56
Q

Bonds may allow holder to?

A

Turn them into shares thus becomes part debt and part equity

57
Q

Dividends are only receivable by shareholders if?

A

If distributable profits are averrable in company and if dividends are approved by shareholders.
Because preference shareholders are safer - thus they can expect a lower return when things go well

Modern Corp (5 decks)

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