Financial Accounting Exam1

What is needed to start a business?

1.money (capital) 2.need something people want (Demand) 3.need a good plan

what are some potential sources of capital (money)

1.venture capitalists 2.angel investors 3.IPOs (initial public offering)

Why do lenders lend money?How do they benefit?How big is their potential earnings from a loan?

1. Investors lend money to earn interest on a loan2. Their potential earnings are positive3. The downside for a bank is default, bankruptcy

Why do investors purchase stock? How do they make money on their investment? How big is the potential payoff for equity finances?

1. Investors purchase stock to make profit through dividends2. A company decides to give money back to its owners (dividends) or they can sell their stock3. If stock goes up they can earn money on the difference

Which one is riskier from the perspective of the capital provider (lender/investor) and why?

It is riskier for the lender, investor to buy shares. If you lend money they have to pay you back. If they go bankrupt, you have first claim to their resources. If you buy a share you are hoping price goes up, if doesn't they owe you nothing.

Which one is riskier from the perspective of the company and why

It is riskier for a company to do it with banks because they have to pay them back. You could potentially lose your business. Riskier to issue a loan as a company. Issuing shares of a company is sacrificing value, but less risky.

How do creditors and investors decide where to lend and invest their money

Through financial reports (how the company did every year). Also depending how the economy is doing. They can check if they are any country entaglements present.

Who creates the information that these decision makers require

The company is responsible for creating their own financial statements. The reason they make these financial statements is to look good/show off

How can decision makers know for sure that the information can be trusted?

1.accurate record keeping2. have auditors come in and check everything

What is an audit, who pays for it

An audit is the examination of the financial report of an organization. Third party looks at it, gives private information, tells truth, says if it is incorrect or correct, the company pays for it

What unwanted incentives might this payment structure create (company pays for the audit)

If the company doesn't like what the auditor says how they are doing, they can fire them

Who makes sure auditors do their job correctly? What enforcement mechanism is there for mangers who misreport?

There are group organizations in place to make sure auditors are doing their jobs correctly, if auditors misreport then jail time occurs.

What makes determining a company's performance, assets, liabilities, and equity so difficult?

Its difficult to determine a companies performance because the money is always moving. Complexity makes this a judgment call.

Why might it be important for multiple companies to follow the same rules and procedures when preparing information for decision makers?

Consistency purposes, for the investors to compare and understand

Why is it difficult to make rules that can be uniformly applied to all companies

They all operate differently, financial statements should represent the companies operations.

Definition of financial accounting

reporting information to external stakeholders, creditors, decision makers (investors, suppliers). Common rules/guidelines

Definition of managerial accounting

accounting for the company itself. Internal decision makers (managers, insiders). No rules/guidelines..just use the best method

Financial statements show the financial....and financial....of the company

performance, position

Four primary financial statements

1. balance sheet 2. income statement3. statement of stockholders equity 4.statement of cash flows

balance sheet

financial position, as of this date, this is what we have, only statement that doesn't close at end of year, snapshot of the company at a point in time.

income statement

financial performance, companies earned for the period, revenues and expenses

statement of stockholders equity

shows payments to investors and the amount of income the company reinvested for future growth

statement of cash flows

explains changes in cash during the period. Operating activities, investing, finacial

Balance sheet equation

Assets=Liabilities+Stockholders equity

If an asset increases, one of three things happened

1.liabilities increased 2.owners equity increased 3.a different asset decreased

Statement of Retained Earnings equation

Beginning retained earnings+net income-dividends=Ending retained earnings

Statement of Cash flows operating

Directly related to earnings process, day to day, primary operations

Statement of Cash flows Investing

Cash related to the acquisition/ sale of fixed long term assets ex.building, equipment, long term investments

Statement of Cash flows Financing

Cash exchanged with investors and creditors ex. dividends, repayments of loan principle,issuance of check

GAAP (US)

Generally Accepted Accounting Principles, USA GAAP or GAAP are the generally accepted accounting principles, provided by the government.

IFRS / IASB

A set of international accounting standards stating how particular types of transactions and other events should be reported in financial statements. IFRS are issued by the International Accounting Standards Board.

SEC

Securities Exchange Commission, provide all the rules to regulate trading, and anything financial. They determine the GAAP-generally accepted accounting principles

FASB

financial accounting standards board, provide a structure of developing accounting standards

PCAOB

A non-profit organization that regulates auditors of publicly traded companies.

When you hear "Acquire" what should you think

Received

What does signing a contract qualify as

no economic impact until service or good is received

When you hear "Order" what should you think

cash isn't paid yet, good isn't received either

common stock and additional paid in capital

common stock is the number of shares * values you pay for it, then additional paid in capital is the difference of value per share-how much we pay

When you hear "Unearned" what should we think

liability !

How do we calculate net income

Revenues-Expenses

What is a transaction

An event that has economic impact (some exchange of value) and can be measured, either internal or external to the company

Events that are considered not a transaction

An agreement with a new supplier to begin purchasing from them next year, although signed there is no exchange of value with either the internal or external company

Two qualitative characteristics of useful information, what do they mean

1.relevant informationcapable of influencing decisions by allowing users to asses past activities and or predict future activitiesshould be information in amount depending on the nature of the item and company2. faithful representationinformation must be complete, neutral and free from errorcomapribility, vefirability

Separate entity assumption

Financial accounting recognition and measurement concept. States that each businesses activities must be accounted for separately from the activities of its owners, all other persons. Ex. When an owner purchases property for personal use, it is not an asset of the company

Continuity (going-concern) assumption

Financial accounting recognition and measurement concept. Unless there is evidence to the contrary, we ASSUME that the business will continue operating into the future, long enough to meet its contract commitments and plans

Stable monetary unit assumption

Financial accounting recognition and measurement concept. Each business entity accounts for and reports its financial results primarily in terms of the national monetary unit (Dollars)

Mixed attribute measurement model

some things are measured based on their current value and some based on their historical value (what we paid for them)

Current ratio formula (definition, what would make this ratio increase/decrease)*

Current Ratio=Current Assets/ Current liabilities. Once calculated current assets number should be larger than current liabilities number in order for it to be sufficient to pay for its current liabilities

Revenues

Amounts expected to be received for goods or services that have been delivered to a customer, whether or not the customer has paid for the goods or services

Expenses

Decreases in assets or increases in liabilities from ongoing operations. EX. rent expense or cost of goods sold

Gains

increases in assets or settlement of liabilities from peripheral transaction

Losses

decreases in assets or increase in liabilities from peripheral transaction (loss on sale of equipment)

peripheral transaction

a transaction that isn't related to regular operations in the business

Accrual accounting

Assets, Liabilities, Revenues, and expenses should be recognized when the transaction that causes them occurs, not necessarily when cash is received or paid

How to calculate net profit margin

Net income/ net sales or operating revenues

What does net profit margin tell us?

measures how much of every sales dollar generated during the period is profit, a rising net profit margin signals more efficient management or sales and expenses

What is an unadjusted trial balance?

Transactions result from Events (event occurs, results in a journal entry) example: bill received from supplier, bill sent to customer, any exchange of cash, stock is issued, equipment is received.

What is an adjusting entry?

an entry that shows a passage of time. They occur at the end of every period. Example:A company prepaid its insurance for five years, six months have now passed and some of that prepaid insurance should be converted to insurance expense. Adjusting entries also ensure that assets/liabilities are reported at correct amounts at year end

Deferred (Unearned) Revenues

Cash is received but revenue can't be recognized. We haven't done our job. Ex. Unearned rent revenue

Accrued Revenues

Revenue is accrued (Recognized) but cash hasn't been received Ex. Interest receivable, The customers haven't fulfilled their end

Deferred (Prepaid) Expenses

Cash has been paid, but no expense can be recognized. EX. Prepaid Rent, Prepaid Insurance

Accrued Expenses

Expense is accrued but cash hasn't been paid yet. EX. wages payable, Interest payable

Other adjusting entries

supplies, accumulated depreciation

process of adjusting entry

1. innception 2.adjusting entry 3.conclusion

inception

account for the transaction

adjusting entry

compute the amount of revenue earned or expense incurred for the period.

conclusion

amount for the transaction, opposite of inception, closing out revenues and expenses, and retained earnings to zero

End of year process

1. end of the year complete adjusting journal entries 2.put adjusting entries into t accounts, and calculate ending balance of each t account 3.put all ending balances into trial balances -make sure everything balances 4.create financial statements, input all numbers 5.close out revenues and expenses and retained earnings=0 by putting them in opposite credits and debits

When you use accumulated depreciation

also add in a contra set- going against an asset

Trial balance account orders

current,concurrent assets,short term liabilities, long term liabilities,stockholders equity, revenues, expenses

contributed capital-retained earnings

stockholders equity

How to total asset turnover ratio

Beginning balance + ending balance of Total Assets/2 then do net sales (or operating revenues)/average total assets

What does the total asset turnover ratio measure? What does it tell about a company, and what would make this ration increase or decrease

measures the sales generated per dollar of assets.

When you hear "on credit" or "on account" what should you think of?

Accounts payable

How do we calculate retained earnings?

Net Income-Dividends

What does operating income represent?

Before income tax

What does net income represent?

After tax

How to calculate par value?

Par value * number of stocks issued then entries affected would be cash,common stock and additional paid in capital

Stockholders equity consists of two things:

Retained earnings, and common stock

When we hear "on credit" we should think

we have an accounts receivable

How long are expenses for?

Just one year

When we loan something with interest we get what?

Earning revenue monthly

When is each accounting period?

December 31st

External Decision makers role and who are they

Evaluate the company, creditors and investors

Internal Decision makers, what is their role, and who are they?

Mangers, and they run the company

What is the balance sheet and what does it show?

Reports the economic resources it owns and sources of financing for those resources

What is the income statement and what does it show?

Reports the revenues less expenses for the accounting period which gives you the net income

What is the statement of stockholders equity and what does it show?

It reports additional contributions or payments to investors and the amount of income the company reinvested for the future

What is the statement of cash flows?

Reports its ability to generate cash and how it was used, provides information about an important company resource (money)

Who uses financial accounting?

...

Basic accounting equation

Assets=Liabilities + Stockholders Equity

Assets

Resources belonging to a company to have future benefit to the company

Liabilities

are debts or claims to a company's resources that result from past transactions and will be settled with assets or services

Stockholders Equity

compromises of the owners of the company (shareholders)

Basis equation for an income statement

Revenue-Expenses=Net Income

Current Asset example

Accounts Receivable, Prepaid Expenses, Short term investments

Non current Asset example

Long term investments,plant,property,equipment

Debits and Credits Reminder for going up (increase)

Deal Girls Dividends (Draws)ExpensesAssetsLossesGainsIncomeRevenuesLiabilitiesStockholders' (Owner's) Equity

Debits and Credits reminder for decreasing (going down)

GainsIncomeRevenuesLiabilitiesStockholders' (Owner's) EquityDeal Girls Dividends (Draws)ExpensesAssetsLosses

Where do peripheral activities go on the income statement

gains and losses

Inception is happening before or during the year

throughout the year

Net income is also referred to as...

Profit

cash basis accounting

A major accounting method that recognizes revenues and expenses at the time physical cash is actually received or paid out. This contrasts to the other major accounting method, accrual accounting, which requires income to be recognized in a company's books at the time the revenue is earned (but not necessarily received) and records expenses when liabilities are incurred (but not necessarily paid for).

Four criteria for revenue recognition

...

matching principle

Principle that dictates that efforts (Expenses) be recorded with accomplishments (Revenues)

How do we go from transactions to journal entries to t accounts to an unadjusted trial balance to creating an income statement and balance sheet

...

Accounts that are affected and not affected in the adjusting entries.

...

Closing entries affect

revenues and expense accounts and net income (retained earnings)

Creditors

Loans you money they need to make sure they can pay us back

Investors in common stock

wish to increase profits, use accounting information to determine whether the company net income will result in stock price increase

Chief Financial Officer

They want to make sure the company is as great as possible, he decides all financial decisions

Managers

the group of users of accounting information charged with achieving the goals of the business

The statement of cash flows would disclose the payment of dividends in what section of the cash flows statement

Financing activities

Buying and selling products are examples of

operating activities

Earning per shares

Net income/ Number of shares

The company policy toward dividends and growth could best be determined by examining the

retained earnings statement

An annual report

includes management discussion and analysis section, notes to the financial statements, and an auditors report

A trial balance is a listing of

general ledger accounts and balances

When we hear "on hand" think

in our possession

Four primary financial statements order

1.the income statement2.statement of retained earnings 3.balance sheet4.statement of cash flows.