FAR Flashcards
How are changes in accounting principle applied?
Retrospective Application:Prior Periods adjustedRetained Earnings adjustedCompleted Contract to % CompletionEx: LIFO to FIFO
Would a change from Completed Contract to Percentage of Completion be a change in accounting principle- or a change of estimate?
How would it be applied?
A change of principle.Applied retrospectively.
Would a change from LIFO to FIFO be a change in accounting principle or a change of estimate?
How would this change be applied?
A change in accounting principle.Applied retrospectively.
How is a change in accounting estimate applied?
A change in accounting estimate is applied prospectively (going forward).No backwards adjustment is made.
Would a change from straight line depreciation to double declining balance be a change in accounting principle or a change in estimate?
How would this change be applied?
Change in depreciation method would be a change in accounting estimate. It is applied prospectively.
How is a correction of an accounting error made?
Cumulative effect of error gets adjusted to the beginning balances of assets and liabilities in the earliest period presented in the comparative statements.The correction of the error must be included in the footnotes.
What are the requirements for a prior period adjustment?
Effect is MaterialIs identifiable in Prior PeriodCouldn’t be estimated in Prior Periods
How is a change from a non-GAAP accounting method to a GAAP method recorded?
It is treated as a correction of an accounting error.Cumulative effect of error gets adjusted to the beginning balances of assets and liabilities in the earliest period presented in the comparative statementsCorrection of the error must be included in the footnotes
How does an inventory error effect the financial statements?
Effect on Ending Inventory : Effect on Net IncomeIf one is overstated- both overstated. If one is understated- both understated.Misstating inventory corrects itself after TWO periods.
How is a change in entity recorded?
Applied retrospectively.All prior periods presented for comparative purposes must reflect the changeFootnote disclosures must be madeChanging to Consolidated Statements
What is a serial bond?
Any bond that matures in installments
What is a term bond?
Any bond that matures on a single date
What is a debenture bond?
A bond not secured by any collateral
What is a sinking fund bond?
Cash is held in a sinking fund for repayment of bond at maturity5 years of requirements and maturity details should be disclosed
What is the formula to calculate proceeds of a bond sale?
Present Value of the principal payment at maturity+ Present Value of Interest Payments made: Market Value of Bond Proceeds
How is the present value of a bond calculated?
Step 1: PV of $1 @ Yield Rate (not Stated Rate)x Bond Face ValuePLUSStep 2: PV of an Ordinary Annuity of $1 for Term @Yieldx (Stated Rate x Face)
Which costs are included in bond issuance costs? How are they recorded?
Include Engraving; Printing; Legal; Underwriter; RegistrationDebited to a deferred charge account and amortized over life of Bond using S/L Bond Proceeds - Bond Issuance Costs : Net Bond ProceedsTime of amortization begins when issued
How are bonds reported when classified as trading securities?
Reported at FMV with unreleased gains and losses being included in earnings
How are bonds amortized under the interest method?
Both discount and premium amortization amounts increase each year
Describe the book value method when converting from bonds to stocks.
No gain or loss recognizedAPIC is the plug for the difference between the Bond’s Book Value and the Par Value of the Common Stock
What is the stated rate for a bond?
Rate on the face of the bond
What is the market rate on a bond?
Rate that bonds are currently selling for
What happens when the bond’s market rate is greater than the stated rate?
Bond will need to sell at a discount in order for buyers to be interested. The difference in market rate vs. the stated is made up by the buyer purchasing the bond for less than par value
What happens when a bond’s market rate is less than the stated rate?
Bond will need to sell at a premium in order for buyers to be interested. The difference in market rate vs. the stated is made up by the buyer purchasing the bond for more than par value
How does accrued interest on a bond affect the purchase price?
The total cash that seller receives will be MORE than they normally would (set aside any considerations for premium or discount; they are irrelevant for this point). Basically; the purchaser of the bonds must give the bond issuer the amount of accrued interest up front.
When does interest expense start accruing on a bond?
When the bonds are issued
How is an interest payment on a bond calculated?
Cash for payment : Stated rate x Face amount
What amount of interest is expensed on a bond interest payment?
Interest expense : effective yield x carrying valueAny difference between expense and cash payment is applied as amortization against premium/discount
What are convertible bonds? Which recording method is used?
Bonds that can be converted to stockBook value method used if no gain or lossMarket value method used if there is a gain or loss
How is the retirement of bonds recorded?
Gain or Loss is OrdinaryExtraordinary if both unusual and infrequent
When is a gain recognized in a debt restructuring?
If terms are modified; and future payments are now less than the carrying amount of the debt; then a Gain is recognized
What is the gain recognized under a settlement of debt?
Gain recognized:Difference between cash paid and carrying amount of debtDifference between non-cash asset given and re-valued at FMV and debt carrying amount
For a creditor; how is a loan impairment recorded?
If future cash flows discounted at loan’s Effective Interest Rate are less than Carrying Value:Effective Rate calculated using original rate; not modified rate
When is the fair value method used for recording interest in a separate company?
20% Ownership or LessAccounted for as a purchaseIf amount paid is less than fair value; results in a gain in current period
When is the equity method used when purchasing another company’s stock? How is it recorded?
Ownership 21% to 50%Gives significant influencePurchase Price - Par Value : Goodwill Dividends received from the investee reduce the investment account and are not income
When are companies required to file consolidated financials? How is it recorded?
Ownership of other company is greater than 50%Investment account is eliminatedOnly parent company prepares consolidated statements; not subsidiary.Acquired assets/liabilities are recorded at Fair Value on acquisition date.Eliminating entries for inter-company sales of inventory & PPE; also inter-company investments
When is consolidation not required?
Ownership less than 50%ORMajority owner does not control - i.e. bankruptcy or foreign bureaucracy
What occurs under a step acquisition?
Acquirer held previous shares accounted for under Fair Value Method or Equity Method; and are now re-valued to Fair ValueResults in a Gain or Loss in current period
What is the difference between an acquisition and a merger?
Acquired companies continue to exist as a legal entity - their books are just consolidated with the parent company in the parent’s financial statementsMerged companies cease to exist and only the parent remains
How are acquisition costs recorded in a merger?
Expensed in period incurred - i.e. NOT capitalized:Accounting; Legal; Valuation; Consulting; ProfessionalNetted against stock proceeds: Stock registration and issuance costs
What is a current asset?
Cash plus other assets that are expected to be sold or converted to cash during the current operating cycleIncludes: Demand deposits, cash equivalents, accounts receivable, inventory, pre-paids, and short-term investments
What is a current liability?
A liability expected to be paid within 12 months or less
How is the Quick Ratio calculated?
(Cash + A/R + Trading Securities) / Current Liabilities
How is the Current Ratio calculated?
Currents Assets / Current Liabilities
How is Working Capital calculated?
Currents Assets - Current Liabilities
How is A/R Turnover calculated?
Credit Sales / Average A/R
How is Inventory Turnover calculated?
COGS / Average Inventory
How is Day Sales in Inventory calculated?
365 / Inventory Turnover
How is Days to Collect A/R calculated?
Average A/R / Average Sales per Day
How are gain contingencies recorded?
They are NOT accrued due to Conservatism
When are loss contingencies recorded?
If Probable - they are accrued (if estimable) and disclosedIf Reasonably Possible - they are disclosedIf Remote - don’t accrue or disclose
What is a temporary difference related to deferred taxes?
GAAP says to recognize a revenue/expense in one period and tax laws say to recognize it in anotherExample: Dividends from a subsidiary accounted for using the Equity Method - tax income but not book income
What is a deferred tax asset?
Deduction will reduce future income taxes expense.
What is a deferred tax liability?
Income will be taxable in a future period and will increase future tax expense
Which period’s tax rate is used to calculate a deferred tax asset or liability?
The FUTURE enacted tax rate not the current one.It is never discounted to present value.
What valuation allowance is used with respect to a deferred tax asset?
If it isprobable that not all of a Deferred Tax Asset (debit) will be realized then the Deferred Tax Asset account must be written down (credit) to reflect this
What effect do permanent differences have on deferred income taxes?
They have no tax impact.When calculating the total differences between book and tax income subtract the permanent differences from the total before applying a future enacted tax rate
What is deferred income tax expense?
The sum of Net Changes in Deferred Tax Assets and Deferred Tax LiabilitiesGAAP Method for calculating is theAsset and Liability ApproachNote: IFRS uses the Liability approach only
How are deferred tax assets classified as current or non-current on the balance sheet?
Current Deferred Tax Assets and Liabilities will impact income tax expense within 12 months. All current amounts are netted and reported as a single amount on the Balance SheetNon-Current Deferred Tax Assets and Liabilities will impact income tax expense 12 months or more fromt he Balance Sheet Date. All non-current amounts are netted and reported as a single amount on the Balance Sheet
How are derivatives recorded?
At cost when acquired re-valued to fair value each period on Balance Sheet.
How are unrealized gains/losses on trading securities recorded?
Recorded on income statement
How are gains and losses on Available for Sale (AFS) securities recorded?
They are included in Other Comprehensive Income.
What is a Fair Value Hedge? How is it recorded?
Fair Value Hedge offsets exposure to changes in the value of a recognized asset/liability or of an unrecognized commitmentInitially recorded on Balance Sheet at Fair ValueGains/Losses recorded on Income Statement
What is a Cash Flow Hedge? How is it recorded?
Cash flow hedges protect from exposure to fluctuations in cash flows.Initially recorded on Balance Sheet at Fair ValueGains/Losses going to OCIExample: A cereal company enters into a futures contract on grain purchases to offset the risk that grain will go up in price.
Where are gains and losses on foreign currency hedges recorded?
In Other Comprehensive Income (OCI)
What disclosures are required for derivative transactions?
Objectives and StrategiesContext to help investor understand the instrumentRisk Management PoliciesComplete List of Hedged Instruments
How do transactions denominated in in a currency other than a company’s functional currency affect the income statement?
Fluctuations in that currency cause a gain or loss that must be recognized on the income statement as Income from Continuing Operations
For the balance sheet which date’s translation rate is used to report assets and liabilities?
The current translation rate as of the balance sheet date is used to report assets and liabilities.
Which date’s currency translation rate is used for the reporting of revenue and expense transactions in a foreign currency?
Use the weighted average exchange rate for the current year.
If the functional currency is the reporting currency which exchange rate is used on the foreign currency financial statements?
Foreign Currency Financial Statements are remeasured into the Reporting Currency (Dollar) using the weighted-average exchange rate
Where are re-measurement gains and losses due to foreign currency translation reported?
On the income statement as Other Income.
What is the primary objective of accounting?
To measure income
What is the most authoritative set of accounting pronouncements?
The FASB CodificationAll pronouncements fall under the Codification umbrella
What are the 2 Levels of Authority within the FASB codification?
Authoritative and Non-Authoritative
How does managerial accounting differ from financial accounting?
Managerial Accounting has a timeliness focusManagerial Accounting is not required to follow GAAP
Which financial reports are required to be filed with the SEC?
Form 10K - Annual and AuditedForm 10Q - Quarterly and Reviewed
What is the focus of financial reports for individual companies?
Focus is on the needs of users to help them make decisions and assessments about the companyDoes not make assessments of the economy
What are the Primary Constraints of Financial Reporting?
Cost vs. BenefitMateriality
What are the Secondary Constraints of Financial Reporting?
Consistency - Year vs. YearComparability - Company vs. Company
What are the Qualitative Characteristics of Financial Reporting?
Relevance & Faithful Representation Relevance - Makes a difference to the userIncludes:Predictive Value - Future TrendsConfirming Value - Past PredictionsMateriality - Could affect User Decisions Faithful RepresentationIncludes:Completeness - Nothing omitted that would impact the decision-making of a userNeutrality - Information is presented is without biasFree from Error - No material errors or omissions
What are the Enhancing Qualitative Characteristics of Financial Reporting?
Comparability Verifiability Timeliness and Understandability Comparability - Allows users to compare different items among various periods Verifiability - Different people would reach a similar conclusion on the information presented Timeliness - Information is made available early enough to impact the decision making of users Understandability - Information is easy to understand
How does Conservatism affect the recording of accounting transactions?
When an estimate is necessary due to uncertainty conservatism chooses the best option that won’t overstate the financial position of the company
What is an accrual?
Earned (Revenue) or Incurred (Expense) but no Cash Receipt/Outlay yet
What is a deferral?
Cash Receipt/Outlay but not Earned (Revenue) or Incurred (Expense)
What is recognition in accounting?
When an item is recorded and included in the financial statements
Describe fair value with respect to an asset
The price you would receive if you sold the assetAssumes asset is at its highest and best valueAssumes asset is sold at its most advantageous market to get the best price possible
What market assumptions are made in a fair value assessment?
Buyer and Seller are not RelatedBuyer and Seller are KnowledgeableBuyer and Seller are able to transact - i.e. This isn’t a hypothetical transaction for Fair Value measurement purposes. The buyer actually does have the $10M to purchase the asset you’re trying to value at $10MBuyer and Seller are both motivated to buy/sell
What items are included in a Level 1 input in the fair value hierarchy?
Price quotes or market pricesFor example NYSE or NASDAQ
What items are included in a Level 2 valuation input?
Interest ratesPrime rate
What items are included in Level 3 inputs of the fair value hierarchy?
Unobservable inputs such as assumptions or forecastsLowest priority for valuation
What are acceptable valuation techniques for fair value?
Market approach - uses market transactions and prices to value the assetIncome approach - uses present value discounts earningsCost approach - uses replacement cost to value the asset
What are current assets?
CashInventory or Assets expected to be converted or consumed during a business’ operating cycleDeferred Gross Profit on Installment Sales (Contra Asset)Receivables expected to be collected in 12 months or less
What are current liabilities?
Liabilities that will use current assets during the present operating cycle
What is an accrued liability?
Expense that has been incurred but not paidExample: rents payable
What is a deferred revenue?
A type of current liability Payments that have been received but cannot be recorded as revenue yetExample: Tenant pre-pays rent - Landlord still must perform to earn it and is a liability until this happens
When are revenues recognized?
When they have been earned; i.e. company has performed
What is a gain?
Increase in equity from an activity or event that is not central to the main activities of the businessCan be operating or non-operating
What is a loss?
Decrease in equity from an activity or event that is not central to the main activities of the businessCan be operating or non-operating
What is an operating cycle?
Average time it takes to turn materials or services into Cash
What is the present value of future cash flows?
Valuation method - the current value of a future amount of money using a specific interest rate
What is historical cost?
How much an asset cost - (net of depreciation and amortization)
What is replacement cost?
How much it would cost to reacquire an asset today (Entrance Cost)
What is a market cost?
The sale price of an asset (Exit Cost)
What is Net Realizable Value?
Sale Price of an Asset - Selling/Disposal Fee
When is royalty income recognized? How is it recognized?
Recognized when earned If the royalty % is applied against net sales then subtract the estimated return amount from the gross sales first and then apply the royalty rate
When is revenue recognized in an installment sale?
Revenue recognized upon receipt of cashOnly used when cash collection is uncertain
What is deferred gross profit?
Gross Profit that can’t be recognized until cash is receivedD.GP : Gross Profit % x Accounts Receivable Pay attention to the year if GP% varies
What is the cost recovery method?
No revenue recognized until all costs are recovered from purchase of the assetMost conservative method of revenue recognition when collection of sale price is uncertain
What is subscription revenue? How is it recorded?
Payment has been received but performance is not complete.As company performs revenue is recognized.Recorded as a Deferred Revenue (Liability) on Balance Sheet
How are franchise revenues recorded?
Franchiser - Startup franchise fee revenue deferred until substantial performanceFranchisee - Costs are deferred until corresponding revenue is recognized
How do you calculate sales revenue starting from cash basis income?
Mnemonic: SPEAR-BARSales (i.e. Customer Payments)+ Ending Accounts Receivable- Beginning Accounts Receivable: Sales Revenue on an Accrual Basis
How do you calculate COGS starting from Cash Basis?
Mnemonic: CRAP-ICash Remitted (i.e. paid) +Increase in Accounts Payable-Increase in Inventory:COGS on an Accrual Basis
How are discontinued operations reported? When are they used?
Reported Net of Tax after Continuing Operations but before Extraordinary ItemsCompany decides to cease operating a segment of its businessIncludes Income (or loss) from the period plus the gain (or loss) from disposal
What qualifies as an extraordinary item? How is it recorded?
Both unusual AND infrequentReported Net of Tax after Discontinued OperationsNote: Usual or Infrequent Items are reported as part of Continuing Operations
What is constant dollar accounting?
Adjusts assets to reflect a consistent level of purchasing power due to inflationUses the Consumer Price Index (CPI)
When are expenses recognized?
When they are incurred. Accrue if not yet paid.
What are accrued expenses?
Those incurred but not paid.Product costs - Expenses should be matched with associated revenues as they are recognized (sales commission on a used car sale)Period costs - Expenses amortized and recognized with the passage of time
When should impaired assets be written down to fair value and expensed?
Immediately.
What major items should be classified under General & Administrative (G&A) expenses?
Office staff salariesOffice/building rentOffice suppliesNote: Sales staff salaries and portions of the building assigned to Sales should be allocated to Selling Expense not G&A
What are business start-up costs?
One-time costs for opening a new businessExpensed as they are incurred
When is interest not expensed?
Interest on projects (software) for internal use is not expensed but is instead capitalized
What are the major components of Comprehensive Income?
Net Income + Other Comprehensive Income (OCI):Revenues/ExpensesGains/LossesCumulative accounting adjustmentsReclassifications adjustmentsNon-owner changes in equity
What items are considered cumulative accounting adjustments?
Foreign Currency Translation Adjustments Unrealized gains on AFS SecuritiesMinimum Pension Liability adjustment for defined benefit plans
What is the purpose of a reclassification adjustment?
Avoids double counting items that were included in both Net Income and OCIExample: AFS Securities previously included in OCI are now sold at a loss and reported on the Income Statement
Where is Comprehensive Income reported?
Reported in a Single or Combined Income Statement
What disclosures on accounting policies are required in financial statements?
Accounting Principles usedBasis of ConsolidationInventory Pricing MethodsDepreciation MethodAmortization of Intangibles
What are some major risks and uncertainties that must be disclosed?
Nature of OperationsUse of Estimates and listing of Significant EstimatesConcentration vulnerability
Which Personal Financial Statements are required?
Statement of Financial Condition & Statement of Changes in Net Worth
How are assets and liabilities valued in a Personal Financial Statement?
Estimated current value
How are estimated taxes that would be paid if all assets were converted into cash and all liabilities paid presented on a Personal Financial Statement?
Presented on Statement of Financial Condition between Liabilities and Net Worth
