FINAL EXAM Flashcards
Objective of financial reporting
To provide financial information about the reporting entity that is useful to present and potential equity investors, lenders, and other creditors in decisions about providing resources to the entity.
Advantages of accrual accounting
Using accrual basis accounting means that revenues and expenses are recorded when incurred, not when cash or goods are received.
Advantage: over the long-run, trends in revenues and expenses are generally more meaningful than trends in cash receipts and disbursements
Development and purpose of conceptual framework
Est. the concepts that underlie financial reporting;
1 identifies boundaries of financial reporting
2 selecting transactions, events, and circumstances to be represented
3 how they should be recognized and measured
4 how the should be summarized and reported
Purpose: for a coherent set of standards that increases financial statement users’ understanding of and confidence in financial reporting! Enhances comparability among companies’ financial statements
Decision usefulness
Investors are interested in assessing:
The company’s ability to generate net cash flows and management’s ability to protect and enhance the capital providers’ investments
This concept is used when determining which accounting method should be used by a company in order to get the most useful information for decision-making purposes
Assumptions
Economic entity, going concern, monetary unit, and periodicity
— assumption dictates that Panera bread co. Record the company’s financial activities separate from those of its owners and managers
Economic entity
Assumes that the company will have a long life
Going concern assumption
— assumption assumes money($ in US) as a monetary unit and does not account for inflation or deflation
Monetary unit
— assumption assumes that companies must provide information at certain intervals(monthly, quarterly, yearly) and that the quicker a co. Releases information, the more likely there are errors. It’s a trade-off between timeliness and accuracy
Periodicity
4 principles of accounting
Measurement
Revenue recognition
Expense recognition
Full disclosure
The measurement principle has what two parts?
Historical cost principle
Fair value
Principle: Puts the actual selling price amount(cash paid or received) as the value for an item in the books instead of whatever the average selling price is for that item at the time.
Historical cost principle
Market-based measurement(whatever item is selling for at the time is what goes in books): generally used in industries such as brokerage houses and mutual funds
At initial acquisition, historical cost and — are =. But as life goes on, historical cost stays the same and — changes with the market in order to give a more accurate picture of its worth
Fair value
The — principle:
Klinke Cleaners cleans clothing on June 30 but customers don’t claim and pay for their clothes until the first week of July. Klinke should record revenue in June when it performed the service.
Revenue recognition principle
The — principle:
Companies recognize expenses not when they pay wages or make a product, but when the work or the product actually contributes to revenue…let the expense follow the revenue
Expense recognition principle
— principle:
Recognizes that the nature and amount of info. Included in financial reports reflects a series of judgmental trade-offs which strive for sufficient detail to disclose matters that make a difference to users, her sufficient condensation to make the information understandable
Full disclosure principle
Companies must weigh the costs of providing the info. Against the benefits that can be derived from using it
Cost constraint
What accounts make up SE?
Common stock, RE, dividends, revenues, expenses
A company should record all — no matter how small?
Cash sales or purchases
What should be recognized in the financial statements?
If it is an element, is measurable, and is relevant and representationally faithful
What’s the purpose of adjusting entries?
To ensure that a company follows the revenue recognition and expense recognition principles;
To make it possible to report on the balance sheet the appropriate assets, liabilities, and SE at the statement date
Deferrals
Prepaid expenses
Unearned revenues
Accruals
Accrued revenues
Accrued expenses
Asset, liability, and equity accounts; appear on balance sheet
Real(permanent accounts)
Are revenue, expense, and dividend accounts; except for dividends, they appear on the income statement
Nominal (temporary) accounts
Purpose of closing entries
Reduces the balance of nominal(temp.) Accts. To zero in order to prepare the Accts. For the next period’s transactions. Done at the end of each accounting period.
What happens to SE at closing?
Net income or net loss(previously all rev./exp. Accts. We’re transferred to Income Summary which is net inc./loss)
Elements of the income statement
Revenues, expenses, gains, losses
EPS formula
NI - preferred dividends/
Avg. shares outstanding
Examples of unusual/infrequent gains/losses
Write-downs of receivables, Inventories, Property and intangibles;
Restructurings;
Gains or losses from sales of assets used in business
Where are unusual or infrequent gains/losses put on the IS?
“Other revenues and gains” or “other exp. and losses” section
Examples of discontinued operations
Sale by diversified company of major division that represents only activities in electronics industry. Food distributor that sells wholesale to super market chains and through fast food restaurants decides to discontinue division that sells to one of two classes of customers.
Where is discontinued operations on the IS?
Separate section after continuing operations
Examples of changes in accounting principle
Change in the basis of inventory pricing from FIFO to average cost
Where are changes in accounting principle on the IS?
Recast prior years’ income statement on the same basis as the newly adopted principle
Changes in estimates examples
Changes in the realizability of receivables and inventories; changes in estimated lives of equipment, intangible assets; changes and estimated liability for warranty costs, income taxes, and salary payments
Where are changes in estimates found on the IS?
Show change only in the affected accounts in current and future periods
Corrections of errors examples
Treat as prior period adjustment; restate prior years’ income statements to correct for error
Comprehensive income elements
Revenues and gains, expenses and losses reported in net income, and all gains and losses that bypass net Income but affect SE
Cash and other assets a company expects to convert into cash, sell, or consume either in one year or in the operating cycle, whichever is longer
Current assets
Obligations that a company reasonably expects to liquidate either through the use of current assets for the creation of other current liabilities
Current liabilities
What are equity investments?
Current assets
Premium on bonds payable is a…
Noncurrent liability
Bond sinking fund is a…
Investment
Investing activities
Include making and collecting loans and acquiring and disposing of investments and property, plant, and equipment
Financing activities
Involve liability and owners’ equity items. They include obtaining resources from owners and providing them with a return on their investment, and borrowing money from creditors and repaying the amounts borrowed.
Operating activities
Involve the cash effects of transactions that enter the determination of net income
Statement of cash flows indirect formula:
Net income +/- adjustments and changes in current assets and current liabilities
