Unit 1, test 1 Flashcards
What needs to be included in a transaction question?
What items are impacted
Direction (increase or decrease)
Amount
The overall impact on classification (e.g Asset, liability, owner’s equity etc.)
Liquidity
The ability of the business to meet its short-term debts as they fall due
Stability
The ability of the business to meet its debts and continue operations in the long term.
How to calculate WCR
Current assets/ current liability :1
What is WCR
A liquidity indicator that measures the ratio of current assets to current liabilities to assess the firm’s ability to meet its short-term debts as they fall due
Consequences of low WCR
Businesses could struggle to meet their short-term debts
Consequences of high WCR
Excess CA that are idle or not being employed efficiently:
-> Cash shitting idle when it can be used to generate more revenues or make investments
-> Excess inventory could incur additional storage cost and increase the risk of inventory loss/damage
-> Longer it takes to collect AR, higher risk of not being able to collect debt -> bad debt expense
Strategies if WCR is too low
Improve cash flow from operations
Reduce drawings or capital contribution
Renegotiate ST debts to become LT debts
Strategies if WCR is too high
Reduce inventory levels
Reinvest excess cash in operations
Alternate investments
Owner withdraw cash
How to calculate debt ratio
Total liabilities / total assets x 100
What is debt ratio
Measure the proportion of the firm’s assets that are funded by external sources, providing an indication of the stability of the business
Strategies for improving debt ratio
Increase repayments
Seek a capital contribution from the owner to use in repaying a portion of the debt
Advertise to increase cash flow generation through sales
What is the role of accounting
A process of taking numbers (financial data) and turning them into reliable financial information and from there making decisions related to the performance of the business
Source documents
Documents that provide both the evidence that a transaction has occurred and the details of the transaction itself
Recording
Sorting, classifying and summarising the information contained in the source documents so that it is more usable
Reporting
The preparation of financial statements that communicate financial information to the owner
Advice
The provisions the owner of a range of options appropriate to their aims/objectives, and recommendations as to their suitability
What are the accounting assumptions?
Going concern assumption
Accounting entity assumption
Accrual basis assumption
Period assumption