Chapter Two

Question 1

What is the definition of Capital Stock?

Answer 1

Capital Stock is transferable units of ownership in a corporation.

Question 2

What is the Cost Principle?

Answer 2

The Cost Principle is the widely used principle of accounting for assets at their original cost to the current owner.

Question 3

What is the definition of Expenses?

Answer 3

Expenses are past, present, or future reductions in cash required to generate revenues.

Expenses result in negative cash flows.

Question 4

What is a Financial Statement?

Answer 4

A Financial Statement is a declaration of information believed to be true and communicated in monetary terms.

Question 5

What is the definition of the Financing Activities category?

Answer 5

The Financing Activities category in the Statement of Cash Flows reflects the results of debt and equity financing transactions.

Question 6

What is the definition of Income Statement?

Answer 6

The Income Statement is an activity statement that subtracts from the enterprise’s revenue those expenses required to generate the revenues, resulting in a net income or a net loss.

Question 7

What is the definition of Investing Activities?

Answer 7

Investing Activities is a category in the Statement of Cash Flows that reflects the results of purchases and sales of assets, such as land, buildings and equipment

Question 8

What is the definition of Liabilities?

Answer 8

Liabilities are the debts or obligations of an entity that resulted from past transactions. They represent the claims of creditor’s on the enterprise’s assets.

Question 9

What is the definition of Liquidity?

Answer 9

Liquidity is having the financial ability to pay debts as they become due.

Question 10

What is the definition of Operating Activities?

Answer 10

Operating Activities is a category in the Statement of Cash Flows that includes the cash effects of all revenues and expenses included in the Income Statement.

Question 11

What is the definition of Owner’s Equity?

Answer 11

Owner’s Equity is the excess of assets over liabilities. The amount of the owner’s investment in the business, plus profits from successful operations that have been retained in the business.

Question 12

What is the definition of Positive Cash Flows?

Answer 12

Positive Cash Flows are increases in cash that add to the enterprise’s cash balance.

Question 13

What is the definition of Retained Earnings?

Answer 13

Retained Earnings is the portion of Stock Holder’s equity that has accumulated as a result of profitable operations.

Question 14

What is the definition of Revenues?

Answer 14

Revenues are increases in the enterprise’s assets as a result of profit-oriented activities.

Revenues result in positive cash flows.

Question 15

What order are liabilities listed on financial statements?

Answer 15

Liabilities are listed by the earliest due date. A liability is listed first if it is due first.

Question 16

How are assets listed on the Balance Sheet?

Answer 16

Assets are listed in the order of liquidity.

Question 17

What is the definition of Statement of Cash Flows?

Answer 17

The Statement of Cash Flows shows the ways cash changed during a designated period.

Question 18

What information is found within the Statement of Cash Flows?

Answer 18

The information found on the Statement of Cash Flows is cash received from revenues and other transactions as well as the cash paid for certain expenses and other acquisitions during the period.

Question 19

What are the two primary sources of increases to Owner’s Equity in a business?

Answer 19

1) Investments of cash or other assets by owners
2) Earnings from profitable operation of the business (Net Income)

Question 20

How do decreases in Owner’s Equity primarily occur within a business?

Answer 20

1) Payments of cash or transfers of other assets to owners.
2) Losses from unprofitable operation of the business.

Question 21

What is the general definition of a Short Term Liability?

Answer 21

Short Term Liabilities are generally due within one year.

Question 22

What is the general definition of a Long Term Liability?

Answer 22

Long Term Liabilities are generally due in more than a year. Long Term Liabilities are shown separately in the balance sheet, after the listing of all short term liabilities.

Question 23

What category of liability is created by purchase of an asset on account?

Answer 23

Accounts Payable

Question 24

What type of an account is created by the sale of an asset on account?

Answer 24

Accounts Receivable

Question 25

What occurs when an account receivable is received?

Answer 25

An increase occurs in Cash and a decrease of the same value occurs in Accounts Receivable.

This transaction converts one asset into another of equal value. There is no change in the amount of total assets.

Question 26

What occurs when a payment is made on a liability?

Answer 26

Cash and Accounts Payable are reduced by the same amount in order to leave the total of assets and the totals of liabilities plus owner’s equity in balance.

Question 27

What happens when cash is paid for an asset and no liability is incurred?

Answer 27

Cash is reduced by the required amount and a new appropriate asset class is created for the same amount.

Question 28

What happens when an asset is purchased using cash and financing?

Answer 28

An asset is created with the appropriate description, cash is reduced by the required amount, and a Notes Payable Liability is created.

Question 29

What happens when revenue is earned?

Answer 29

Earning of revenue represents creation of value and it also represents an increase in Owner’s Equity.

Cash is increased and Owner’s Equity is increased in the same amount.

Question 30

What happens when payment of expenses occurs in order to earn revenue?

Answer 30

Cash is decreased.

Owner’s Equity (in the form of Retained Earnings) is reduced in the same amount.