LU2 Introduction to accounting Flashcards
Fundamental purpose of accounting
To provide accurate, useful and timely financial information in the form of financial statements, forecasts, budgets and many types of reports.
“accounting involves recording business transactions, analyzing business records and reports, and providing reliable information”.
Bookkeeping
The initial phase of accounting; the primary function is to record business transaction in the accounting records
Why financial statements are necessary
- Managers need timely and accurate information to make intelligent decisions if their business is to succeed.
- Investors need financial statements to analyze the quality of a potential investment or current stock holding.
- Banks need financial statements to identify any risk involved in doing business with customers on an open line of credit.
Users of Financial Statements
External users; those outside of the business, such as investors, banks and suppliers
Internal users; the management of the company, such as the board of directors, the president and other officers and the managers of the business
Financial accounting
Primarily concerned with recording and accumulating accounting information to be used in the preparation of financial statements for external users. Involves the basic accounting processes of recording, classifying and summarizing business transactions.
Managerial accounting
Concerned with recording and accumulating information s that financial statements can be prepared for internal users. Provides detailed information, such as performance reports that compare the actual results of operations with budget plans.
Business transaction
The exchange of merchandise, property, or services for cash or promise to pay.
Double entry-system
A business transaction that creates events that affect two or more bookkeeping accounting records.
Five classifications in Accounting Systems
Assets = cash, posessions, purchased rights
Liabilities = the debts of the business; claims on assets by outsiders
Owner’s equity = the owner’s financial interest in the business; claims on assets by owners
Revenue
Expense
Profit
Revenue/income-expenses
Financial statements
Balance sheet
Income statement
Consolidated Financial Statements
Fianancial statements that report results of multiple business in one. For corporations who have control over businesses through stock ownership.
Budgeting and forecasting
Deals with estimating a company’s future performance in the form called the budget.
Cost accounting
Relates to the recording, classification, allocation and reporting of current prospective costs.
Tax accounting
The discipline of preparing and filig tax forms required by various government agencies.
Internal auditing
Focuses on the review of company operations to determine compliance with managemeent policies.
GAAP
Generally Accepted Accounting Principles
= accounting standards; guidelines and rules that ensure that members carry out their responsibilities in accordance with accepted quality standards.
Unit of measurement
Recording the results of business transactions in the prevailing monetary unit, for example euros in the Netherlands. A common unit of measurement permits the users of accounting data to make meaningfull comparisons between current and past business transactions.
Historical cost
The value of merchandise or services obtained through business transactions should be recorded in terms of acutal costs, not current market values. For example the financial statements will show how much was paid for the asset, not how much it is actually worth.
Going-concern
Continuity of the business unit; financial statement should be prepared under the assumpton that the business will continue indefinitely and thus carry out its commitments.
Conservatism
An accounting principle that serves to guide the decisions of accountants in areas that involve estimates and other areas that may call for professional judgment. Applied only when there is uncertainy in reporting factual results of business transactions.
Objectivity
All business transaction must be supported by objective evidence proving that the transactions did in fact occur.
Time period
Users of financial statements need timely information for decision-making purposes
Interim financial statements
Financial statements that are prepared during the business year
Realization principle
States that revenue resulting from business transactions should be recorded only when a sale has been made and earned.
Matching principle
States that all expenses must be recorded in the same accounting period as the revenue they helped to generate.
Cash accounting period
Records the results of a business transaction only when cash is received or paid out; does not comply with GAAP; used by small businesses
Accrual Accounting method
Adjust the accounting records by recording expenses that are incurred during an accounting period but that not actually paid until the following period
Materiality principle
States that an accounting standard can be ignored if the net impact of doing so has such a small impact on the financial statements that are reader of the financial staements that a reader of the financial statements would not be misled.
Consistency principle
States that the financial statements of a hospitality operation should be accompanied by explanatory notes.
Full disclosure principle
According to GAAP, the full disclosure principle ensures that the readers and users of a business’s financial information are not misled by any lack of information. … The reason for not disclosing information could be to manipulate their financial statements to look stronger than the business actually is.
Fair value principle
Fair value accounting uses current market values as the basis for recognizing certain assets and liabilities. Fair value is the estimated price at which an asset can be sold or a liability settled in an orderly transaction to a third party under current market conditions.
Basic Financial statements
The statement of income
The equity statement
The balance sheet
The statement of cash flows
Annual financial statements
Issued at the end of a companies business year
Fiscal year
Might be a calender year or a year consisting of 12 consecutive months
Interim financial statements
Issued during the business year
Interim financial statements
Issued during the business year
Statement of income
Shows revenue and expenses and provides information about the results of operations for a stated period of time. Shows a profit or loss for the time period.
Categories of Statements of Income
Revenue Cost of Sales Gross profit Operating Expenses Fixed chargers Net income
Revenue
Results when products and services are sold to guests. Revenue is not income. Revenue appears at the top of the income statement and net income appears at the bottom. Income results when total revenue exceeds total expenses.
Cost of Sales
Shows the cost of merchandise used in the selling process, it does not contain any cost for labor or employee meals.
Gross Profit
Calculated by subtracting cost of sales from net revenue. Sometimes referred to as gross margin on sales.
Operating expenses
Lists expenses that are most directly influenced by operating policy and management efficiency
Categories of Operating Expenses
Salaries and Wages Employee benefits China, glassware and silverwear Kitchel fuel Laundry and dry cleaning Operating Supplies Advertising/marketing Utilities Repairds and maintenance
Income before fixed charges and income taxes
The figure for income before fixed charges and income taxes is used to measure the success of operation and the effectiviness and effiency of management, as the revenues and expenses deducted are all relating to the business operations.
gross profit - operating expenses = income before fixed charges and income taxes
Fixed charges
Includes rent, property taxes, property insurance, interest expense and depreciation
Income taxes
Includes federal and other government income taxes
Net income
The bottom line of the statements of income reveals the net income of the operations for a stated period. Indicates the overall succes of operations.
Equity Statement
Reflect changes in equity that occured during an accounting period
Statement of Owner’s Equity
Prepared for a prooprietorship from of business organization. The owner’s capital account reflects the owner’s residual claims to the assets of the business. The owner’s claims are residual because they follow any claims to assets that creditors may have.
Statement of retained earnings
Prepared for the corporation form of business organization. Its purpose is to compute the amount earnings retained by the corporation. Retained Earnings represents the lifetime profits of the business that have not been declared as dividends to the shareholders.
Balance sheet
shows assets, liabilities and equity, revealing the financial position of a business. This information is presented as of the close of business on a certain date; assets, liabilties, equity
Assets
represent cash, receivables, inventories, equipment, property and rights acquired by the business either by purchase or stockholder investment. Assets are times that are not used up at present they have future utility or value.
Liabilities
represents the debts of the business. Claims on assets by outsiders
Equity
represents the owner’s financial interest in the business. Also represent the redidual clain on the assets by thw owners.
Assets =
Liability + Equity
Current assets
Defined as those assets that are convertible to cash within 12 months of the balance sheet date. Usually listed in the order of liquidity. (the ease with wich they can be converted to cash)
Currents assets are
Cash, accounts receivable, inventories, prepaid expenses
Non current Assets
Company long term investments where the full value will not be realized within the accounting year. For instance, land, property and equipment.
Depreciation
Spread the costs of a tangible asset over the term of its useful life
Depreciation expense
Cost of depreciation for only the current accounting period (shown on the income statement)
Accumulated deprecation
The sum of all deprecation from prior years to present (shown on the balance sheet)
Amortization
Depreciation of an intangible asset
Other assets
Security deposits, preopening expenses
Current liabilties
Obligations that will require settlement within 12 months of the balance sheet date
Current liabilities are
Accounts payable
Sales tax payable
Accrued expenses
Current portion of long term debt
Long term liabilities
any debt not due within 12 months of the balance sheet date
Equity Section
Common stock
Additional paid-in capital
Retained Earnings
Balance sheet
The balance sheet reveals the financial health of a company by showing;
- what a company own (assets)
- what a company owes (liabilities)
- what the owners have invested in the company (equity)
The account format
has two columns, listing assets on the left side, and liabilities and equity on the right
The report format
shows the three sections sequentially following each other; asset at the top, followed by liabilities and equity -> often preferred by accountants and readers
Asset classification
Items owned by a business that have a commercial or exchange value and are expected to provide a future use or benefit to the business. Divided into current and non current assets to make it clearer for the reader.
Currents asset; cash
refers to currentcy, personal checks, travelers check and possibly credit and debit cards. Credit and debit card transactions are treated as cash if the cash in instantly available. They are also subject to credit card fees (commisions) that are an expense for the company.
Current asset; short-term investment (marketable securities)
trading securities that are 1 (bonds and stocks). Readily marketable (can be sold straightaway) and 2. Earmarked by management for conversion into cash should the need arise.
Current asset; accounts receivable
the amounts owed to a firm by customer (due to credit card sales)
Allowance for doubtful accounts
Represents and estimate potential receivables that may become uncollectible. -> It is a contra-asset because it reduces a related asset, in this case receivables.
current assets; Notes receivable
a promissory note is a written promise to pay a definite sum of money at some future date. Usually a current asset.
Current assets; inventories
stocks of food and beverage merchandise held for resale, stocks of operating supplies
Current Asset; prepaid expense
expenditres, usually recurring, that produce a measurable benefit that will affect more than one accounting period, but no more than 12 months. For instance, prepaid rent and prepaid insurance premiums. Must be paid out beofre it’s actually used to be recorded as “prepaid”, so for example if rent paid in advance in June for July, it can be classified as “prepaid rent” .
Non current Assets; Investments
purchaded corporate stock of affiliated companies or other companies for the purpose of influence or control
non current assets; property and equipment
Land, buildings, furniture and equipment, transportation equipment, china, glassware, silver, linen and uniforms.
Accumulated deprication -> contra asset account; for building, equippment and vehicles. There is no acc depreciation for land, china, glassware, silver, linen and uniforms.
Accumulated amortization
The depreciation of intangible assets such as goodwill -> contra asset account
Other assets; security deposits
funds deposited to secure occupancy or utlity services (water, gas)
other assets; Pre-opening expenses
Expenses incurred before the opening of the property
other assets; franchise rights
used to record the initial franchise cost; annual payments under a franchise agreement should be expensed by recording these expenditures to an expense account (income statement)
Goodwill
an intangible asset associated with the purchase of one company by another. If more is paid for the business that what it is actually worth.
Capitalized
When it is recoreded as an asset, rather than an expense. This means that the expenditure willl apear in the balance sheet, rather than the income statement.
Liability classification
Liabilities are the debt of a business for example what the business owes to its creditors. Liabilities represent the calims of creditors on the assets of a business and are sometimes referred to as creditos equities.
Current liabilities; accounts payable
supplies bought by the company on credit - owed to the suppliers
Current liabilities; sales tax payable
the customers must pay sales tax, however the seller is the one collecting the tax from the buyer for the taxing authority -> sales taxes collected are a liability and are excluded from revenue
current liabilities; income taxes payable
the federeal government, states and some municipalities impose taxes on the taxable income of a corporation
current liabilities; accrued payables
represent unrecorded expenses that, at the end of an accounting period, have been incurreed but not yet paid (for example staff has worked during june but they are only paid their salaries in july) The accrual of expenses is performed to comply with the matching principle, for example to record expenses to the period in which they incurred; including
- accrued payroll
- accrued payroll taxes
- accrued property taxes
- accrued interest expense
current liabilities; advance deposits
guest payment to the business for good and services that have not yet been provided. Cannot be treated as revenue because the sale has not been earned; instead, the cash received is treated as a liability.
current liabilities; current maturities of long term debt
refers to the amount of debt that is due within 12 months of the balance sheet date. Also known as a current portion of long-term debt.
Long-term liability accounts;
- notes payable
- mortages payable
- bonds payable
a hybrid liability
Long term liabilites are a hybrid liability because part of the liability can be a current liability and the remainder a long-term liability. ; each payment due within 12 months of the BS date is “reclassified” and the sum is shown under current liabilities -> the amount due after this 12 month period is shown under long term liabilites.
Bonds
long term liability; type of loan; firms borrow an amount of money that they promise to pay back in one lump sum at a fixed date (called maturity date) with fixed interest.
Equity classification
represents the claims of the owners on the assets of the business. The types of equity accounts depend upon whether the company is a proprietorship, corporation or limied liablity company.
Proprietorship Equity Accounts
Capital Account
Wtihdrawals Account
Capital account
represents the owners financial interest in the business; increased when the owner makes personal investments in the business or when the company makes a profit
Withdrawal accounts
accumulates the cash drawings or other assets withdrawn from the business by the owner; decreased when the owner withdraws cash, inventory or other assets from the business.
Types of equity transactions for a proprietorship form;
the owner investing personal cash or property in the business
the owner withdrawing cash or property from the business for personal use
the business recording either an operating profit or loss for the accounting period
Corporation Equity Accounts
Common stock issued Additional paid in capital Retained earnings Might include; Preferred stock issued Donated capital Treasury stock
Corporation
A corporation owns its assets, owes its liabilites and has legal claim to its earnings. Earning may be distributed to stockholders in the form of dividends. First they must be declared by the corporation’s board of directors
Common stock issued
Common stock represent ownernship in a company
Additional paid in capital
This refers to the additional money paid for the stock excess of the par value of the stock (as par value does not represent the real value)
Additional paid in capital
This refers to the additional money paid for the stock excess of the par value of the stock (as par value does not represent the real value)
Retained earnings
an accounts that represents the lifetime earnings of the corporation not distributed to shareholders in the form of dividends. Net income leads to an increase in retained earnings.
- cash dividends are recorded as a decrease to retained earnings - the decrease is recorded when the dividends are declared, not when paid out
- > affect on corporate equity accounts; increase in the dividends payable, decrease in the retained earnings accounts
- > The dividends paybale accounts is a liability accounts and will be decreased when the dividens are paid as a future date,
Preferred stock issued
Special kind of stock corporation attracting a different kind of investor -> expands the ability to raise funds
- dividens on preffered stock are usually stated as a % of par value
- preferred stockholders receive priority over common stockholders when receiving dividends
- priviles over common stock, such as; dividends privileges, conversion privileges, liquidation preference, callabillity
Donated capital
Sometimes corporation receive assets as gifts from states, cities to increase local employment or encourage business activity -> increases the appropriate asset accounts and donated capital equity account.
Treasury trock
when a corporation reacquires it previously issued stock to reduce the number of outstanding issued shares. Sometimes done to increase the figure compuete for earnings per share or to reduce outside ownership. Recorded as a contra-equity account -> increase
