Financial Accounting 188 Flashcards
liability
A liability is a present obligation of the entity to transfer an economic resource as a result of past events.
asset
An asset is a present economic resource controlled by the entity as a result of past events
economic resource
An economic resource is a right that has the potential to produce economic benefits.
4 types of entities
Sole proprietor, Partnership, Close
Corporation, Company
equity
Equity is the residual interest in the assets of the entity after deducting all its liabilities. It is comprised of capital and profit/loss (Capital contributions + Income – Capital withdrawals – Expenses)
income
increase in assets, or decreases in liabilities, that result in increases in
equity, other than those relating to contributions from holders of equity claims.
expense
decreases in assets, or increases in liabilities, that result in decreases
in equity, other than those relating to distributions to holders of equity claims.
recognition standards of income
the recognition of INCOME occurs at the same time as:
(i) the initial recognition of an asset, or an increase in the carrying amount of an asset; or
(ii) the derecognition of a liability, or a decrease in the carrying amount of a liability.
recognition standards of expenses
the recognition of EXPENSES occurs at the same time as:
(i) the initial recognition of a liability, or an increase in the carrying amount of a liability; or
(ii) the derecognition of an asset, or a decrease in the carrying amount of an asset.
Cost price definition
Total costs incurred to bring the inventory to their present
location and condition (ready for sale)
–> (Once ready for sale no more adding to cost price)
Net realisable value
estimated selling prices in the ordinary course of business LESS estimated cost of completion and estimated cost to make the sale
convenience account
During the closing-off process certain convenience accounts are created in the ledger to make reporting easier. This is done by grouping accounts together (trade account or profit and loss account)
financial position
It is the financial value (aka owner’s equity) of an entity at a particular moment in time —> represented by the balance sheet
(A-L = financial position)
Qualitative characteristics according to the conceptual framework
- RELEVANCE
—>Predictive value: Information can be used by users to make their own predictions.
—>Confirming value: Information provides feedback about previous evaluations
- FAITHFUL REPRESENTATION
—>Completeness
—>Neutrality
—>Freedom from error
4 Enhancing qualitative characteristics (VCUT)
- Comparability (at least against last year)
- Verifiability (different knowledgeable and independent observers could reach consensus)
- Timeliness
- Understandability
Accrual basis
expenses must be recorded in the period in which they are incurred, not when they are paid
historical cost basis
assets and liabilities are recorded at their original cost at which they were purchased
What does the income statement represent?
The financial performance of the entity
What does the balance sheet represent?
The financial position of the entity at a particular moment in time
Going concern principle
Financial statements are prepared with the assumption that the entity will continue to be in business in the foreseeable future.
What do future economic benefits of an asset mean?
the potential to contribute directly or
indirectly to the inflow of cash or cash equivalents to the entity
fair value
Fair value is the estimated price at which an asset or liability can be bought or sold in an open market under current conditions between willing parties
current cost basis
The amount of cash or cash equivalents that would be required to replace an asset or settle a liability at present
Present value of an asset
the current worth of its expected future cash flows, discounted at an appropriate rate to reflect the time value of money
statement of changes in equity
reconciliation of equity at the beginning of the financial year with equity at the end of the
financial year
Statement of cash flows
provides information on the ability of the entity to produce cash and cash equivalents and the demand of the entity to utilize that cash flow
Reasons for claiming a discount from the supplier (Returns)
- return of damaged goods
- reduction in price after invoice was issued
- trade discount omitted on invoice
- correction of error on invoice
Examples of convenience accounts
- a debtors’ control account, which is a summary of all the debtors of the entity in the debtors’ ledger,
- a creditors’ control account, which is a summary of all the creditors of the entity, in the creditors’ ledger,
- a trade account which contains all the information regarding sales and cost of sales,
- a profit and loss account which contains all the information regarding income and expenses.
Financial statements
Balance sheet, income statement, statement of cash flows
Trial balance
A list that is prepared from all the balances in the general ledger to
verify whether the double entry for each transaction has been completed
5 Limitations of the trial balance (where it fails to pick up errors)
Omission Errors: When a transaction or event is completely left out of the records.
Posting Errors: When a transaction is recorded, but the debit or credit is placed in the wrong account (posted to CPJ instead of CRJ).
Compensating Errors: When an error on the debit side exactly matches an error on the credit side, balancing each other out.
Recording Errors: When a transaction is recorded in the wrong journal or with the wrong amount in the correct journal (purchase recorded in the SJ instead of PJ).
Principle Errors: When a transaction is classified incorrectly, but the amounts are posted to the correct side of the ledger, just in the wrong account (Stationery recorded as an asset)
Gross profit
the profit that results from the entity’s primary operations
Inventory
Inventories are assets that:
(a) are held for sale in the ordinary course of business
(trading inventory),
(b) are in the process of production for such sale
(work in progress), or
(c) are in the form of materials or supplies to be consumed in the production process or in
the rendering of services
(raw materials and consumables)
how to recognise relevance and faithful representation as qualitative characteristics
Relevance: Is there a high probability of an inflow or outflow of economic benefits?
Faithful representation: Is there measurement uncertainty?
how to calculate cost of sales
O/B inventory + Purchases - Purchase returns - C/B inventory
difference between wages reducing liabilities and reducing equity
If wages were recorded as a liability (creditors/salaries payable) in the previous period, the payment reduces liabilities
If the business pays wages immediately without recording them as a liability, it is an expense, and the payment reduces equity
