Unit 4 Recording business transactions (part 2)

Question 1

Accrual accounting

Answer 1

Including the impact of transactions on the financial statements in the time periods where revenues and expenses occur rather than when the cash is received or paid

Question 2

Cash accounting

Answer 2

Accounting for revenues and expenses when cash is paid or received

Question 3

Unearned revenue?

Answer 3

Cash received before earned (Liability)

Question 4

Prepayment?

Answer 4

Cash paid before incurred (Asset)

Question 5

Accrued revenue?

Answer 5

Cash received after earned (Asset)

Question 6

Accrued expense?

Answer 6

Cash paid after incurred (Liability)

Question 7

When does unearned revenue (L) become revenue?

Answer 7

When goods or services owing are provided

Question 8

Examples of unearned revenue

Answer 8

Insurance premiums
Magazine subscriptions
Rent received in advance

Question 9

Examples of prepayment

Answer 9

Prepaid insurance
Prepaid rend
Office supplies

Question 10

Important questions to ask when accounting for a transaction

Answer 10

What was the original transaction and how was it recorded?
What accrual adjusting entries are required?
Is the revenue correctly earned?
Have the expenses been incurred?

Question 11

Examples of accrued revenue

Answer 11

Commissions earned but not yet received

Interest earned but not yet received

Question 12

Examples of accrued expense

Answer 12

Wages earned by employees but not paid after end of financial period
Interest payable on outstanding loan

Question 13

Summary of Cash vs Accrual profit

Answer 13

The earning of a revenue is not necessarily accompanied by an inflow of cash in the same period
The incurrence of an expense is not necessarily accompanied by an outflow of cash in the same period. Accrual profit is not the same as cash profit

Question 14

Recognition after cash flow

Answer 14

Deferral
Revenue adjustment: unearned revenue (L)
Expense adjustment: prepayment (A)

Question 15

Recognition before cash flow

Answer 15

Accrual
Revenue adjustment: Interest receivable (A)
Expense adjustment: Wages owing (L)

Question 16

What are T accounts?

Answer 16

A useful account format in accounting to present accounts and work through transactions (journal/ledger) and balance accordingly

Question 17

Bal b/d

Answer 17

Balance brought down

Question 18

Bal c/d

Answer 18

Balance carried down

Question 19

Earnings management?

Answer 19

The use of accounting techniques to produce financial statements that present an overly positive view of a company’s business activities and financial position

Question 20

What does earnings management suggest?

Answer 20

The information contained in the financial statements can be manipulated to give an inaccurate picture of a company’s financial performance/position

Question 21

When does earnings management happen?

Answer 21

When managers take advantage of how accounting rules are applied and create financial statements that “inflate” or “smooth” earnings (revenue or profitability)

Question 22

AASB

Answer 22

Australian Accounting Standards Board

Question 23

The framework

Answer 23

For the preparation and presentation of financial statements

Question 24

Some additional accounting rules

Answer 24

ASX listing requirements

Corporations law

Question 25

What does the framework set out?

Answer 25

The concepts underlying the preparation of financial reports for external users

Question 26

The framework including coverage of?

Answer 26

A. Objectives of financial reports
B. Assumptions underlying financial reports
C. Qualitative characteristics of financial information
D. Definition of elements of financial statements
E. Recognition and measurement of those elements

Question 27

Motivations to manage earnings (revenue and profitability)

Answer 27

Market pressure to meet financial expectations
Bonus dependent on certain revenue or profitability
Stock options increase when profitability increases
Senior management pressuring individual managers to improve
performance
Culture of company demands ‘high-growth’

Question 28

Common approaches to managing earnings

Answer 28

Improper recognition of revenue
Recording fictitious revenue
Channel stuffing (Credit sales)
Improper management estimates
Improper capitalization of expenses
Improper expense recognition