Week 2 - Classification and Analysis of Business Transactions Flashcards
What are the three components that are required in an assets definition?
o Assets must provide future economic benefit
o Controlled by their firm/entity
o Result of a past event
What is the recognition criteria that assets must meet?
o Probably received
o Reliably measured
What are the three components that are required in a liabilities definition?
o Must be a present obligation
o They must result from past events
o Settled by an outflow of economic benefits
What is the recognition criteria that liabilities must meet?
o They will probably be paid
o Reliably measured
Define Expenses
Any event that causes an increase in assets or a decrease in liabilities which results in a decrease in equity (except for transactions with owners).
Define Revenues
Any events that causes an increase in assets or a decrease in liabilities which results in an increase in equity. (except for transactions with the owners)
Define the Basic Accounting Equation
o The underlying framework for recording and summarising the economic events of an entity.
What is vital to the accounting equation
IT MUST BALANCE
What is owner’s equity comprised of?
o OE = Capital contributions + Revenues – Drawings – Expenses
What is the extended accounting equation
o A= L + C – D + R – E
What is the equation for net profit/income
o Net Income/Profit= Revenue (Income) – Expenses
What is the equation for owner’s capital
o Owner’s Capital= Capital – Drawings
What can affect owner’s equity
o Owner’s Equity can increase by investments from the owner and income, and it can decrease from withdrawls from the owner and expenses.
What are business transactions?
o Business transactions are the economic events of a business
What is a transaction
o A transaction is an event that has a financial impact on the entity
What happens to transactions in order to prepare a financial statement?
o Transactions are required to be classified, analysed and summarised in order to prepare financial statements.
Define Cash Accounting
o All business transactions are recorded on the basis of when the case is actually received or paid.
Who generally uses cash accounting?
o Generally used for small businesses, it is an unfair representation for big companies.
What is the profit based on for cash accounting?
o Profit with this system is the difference of cash received as an income and cash paid for expenses.
Define Accrual Accounting
o Records revenues when they have been incurred, not when they have been payed.
o Records expenses when they have been incurred, not when they have been paid for.
Explain the benefits of accrual accounting over cash accounting
o Accrual accounting is more accurate
o Accrual accounting reflects all transactions completed during the period.
o Profit in accrual accounting is based on the difference between revenue earned and expenses incurred.
Provides information that provides for a more accurate prediction of future financial transactions.
What is transaction analysis?
o Transaction analysis is the process of identifying the specific effects of transactions and events on the accounting equation
What are the three steps in transaction analysis?
o Which element is affected? E.g assets, liabilities, owner’s equity
o Which specific item (account) is affected? E.g cash, wages, loan
o By how much is the element (account) increasing or decreasing?
