Powerpoint 5 Flashcards
Revenue Recognition Principle
Requires companies to recognize revenue in the acc. period in which it’s earned
Revenue is receieved when the service is provided, or goods are transferred, even if cash not received
ex. Dry Cleaning Revenues
Periodicity assumption
The economic life of business can be divided into artificial time periods
many transactions affect more than one
Expense recognition principle
States that expenses are to be matched with revenues in the period when the efforts are expended to generate these revenues
not only when expenses are paid (cash)
Ex. Salaries payable
Major assumption about Revenue recognition principle and Expense recognition principle
Periodicity assumption
Cash basis
Record events only in the periods in which cash is received or paid
accrual basis
Companies record, in the period in which the events occur, events that change a company’s financial statements even if cash has not been exchanged
What basis do we follow under U.S. GAAP?
why?
Accrual basis
Cash basis does not record revenue when earned - violating the revenue recognition principle
Cash basis does not record expense when incurred - violating expense recognition principle
Adjusting entries?
- Some events not recorded daily because not efficient
- Some costs expire with passage of time
- Some items may be unrecorded
ex. utily bill next month
Four types of adjusting entries
Prepaid expenses
Unearned revenues
Accrued revenues
Accrued expenses
Prepaid expenses
Costs that expire either with the passage of time or through use
ex. rent or supplies
Unearned revenues
Cash received and recorded as liabilities before revenue is actually earned
i.e. season football tickets
Accrued revenues
Revenues earned but not yet received in cash or recorded
Accrued expenses
Expenses incurred but not yet paid in cash or recorded
Deferrals
- Prepaid expenses: Expenses paid in cash and recorded as assets before they are used or consumed
- Unearned revenues: Cash received and recorded as liabilities before revenue is earned
Accruals
- Accrued revenues: Revenues earned but not yet received in cash or recorded
- Accrued expenses: Expenses incurred but not yet paid in cash or recorded
Interest information
- Face value of note
- Interest rate (anual)
- Length of time note is outstanding
Formula for computing interest
Face value of note x Annual interest rate x Time in term of one year = interest
Adjusting entries: prepaid expenses
Assets overstated / expenses understated
Dr. Expenses / Cr. Assets
Adjusting entries: unearned revenues
Liabilities overstated / revenues understated
dr. liabilities / cr. revenues
Adjusting entries: accrued revenues
assets understated / revenues understated
dr. assets / cr. revenues
adjusting entries: accrued expenses
expenses understated / liabilities understated
dr. expenses / cr. liabilities
Financial statements are prepared from ____________
the Adjusted Trial Balance
Temporary accounts
Accounts related only to a given accounting period
ex. revenues, expenses, and dividends
Permanent accounts
accounts that are not closed
Closing entries
Transfer net income (or net loss) and dividends to retained earnings, resulting in a zero balance in each temporary account
Post-closing trial balance
A list of all permanent accounts and their balances after closing entries are journalized and posted
High quality of earnings
A company that provides full and transparent information
- builds confidence in the financial reporting of the company
Earnings management
The “planned timing of revenues, expenses, gains, and losses to smooth out bumps in net income”
Examples of earnings management
One time earnings
Inflate revenues
Improper adjusting entries
Both GAAP and IFRS use ___________
accrual accounting
Revenue Recognition US GAAP
> 100 rules
“realized, relizable, and earned”
Revenue Recognition IFRS
Single standard
Probability the economic benefits associated with the transaction will flow to the company
revenues and costs must be capable of being measured reliably
Reavaluation of PPE GAAP
Does not allow re-valuation
Revaluation of PPE - IFRS
Allows re-valuation
Income - GAAP
Net difference between revenues and expenses
Income - IFRS
Both revenues from normal operating activities, and gains, which arise from activities outside the normal sales of goods and services
Expenses - GAAP
Those costs incurred in the normal course of operations
Expenses - IFRS
Both costs incurred in the normal course of operations and losses that are not part of normal opeations
