ACCT 2301 Exam 1

long-term liabilities

Obligations a company expects to pay after one year (long-term debt)

prepaid expenses

Payments of expenses that will benefit more than one accounting period Cash payment BEFORE expense recorded Prepayments often occur in regard to: 1. insurance 2. supplies 3. advertising 4. rent 5. buildings and equipment Always debit expense, credit asset (other than cash)

revenue recognition principle

Recognize revenue in the accounting period in which the performance obligation is satisfied

liquidity

ability to pay obligations expected to be due within the next year

fiscal year

accounting time period that is one year in length

general ledger

contains all the asset, liability, and stockholders' equity accounts

what happens if a business is liquidated

if a business is liquidated, claims of creditors (liabilities) must be paid before ownership claims (stockholders' equity)

transactions are analyzed in terms of:

the three components of the basic accounting equation; specific types (kinds) of items within each component

debit and credit procedures

1. Each transaction must affect two or more accounts to keep the basic accounting equation in balance 2. Recording done by debiting at least one account and crediting at least one other account 3. DEBITS must equal CREDITS if the sum of debit entries are greater than the sum of credit entries, the account will have a debit balance, and vice versa

classified balance sheet

Assets Current assets Long-term investments Property, plant and equipment Intangible assets Liabilities and Owner's Equity Current liabilities Long-term liabilities Stockholders' equity

current assets

Assets that a company expects to convert to cash or use up within one year or the operating cycle, whichever is longer Operating cycle is the average time that it takes to purchase inventory, sell it on account, and then collect cash from customers

depreciation

Buildings, equipment, and motor vehicles (assets that provide service for many years) are recorded as assets, rather than an expense, on the date acquired Depreciation is the process of allocating the cost of an asset to expense over its useful life Depreciation does not attempt to report the actual change in the value of the asset Accumulated Depreciation is called a contra asset account

preparing closing entries

Closing entries formally recognize in the ledger the transfer of net income (or net loss) and dividends to retained earnings Companies generally journalize and post closing entries only at the end of the annual accounting period Closing entries produce a zero balance in each temporary account

Three basic activities of accounting

Identifies, records, communicates

property, plant and equipment

Long useful lives Currently used in operations Depreciation - allocating the cost of assets to a number of years Accumulated depreciation - total amount of depreciation expensed thus far in the asset's life

intangible assets

Long-lived assets that do not have physical substance (goodwill, patents and copyrights)

relevance

Make a difference in a business decision Provides information that has predictive value and confirmatory value Materiality is a company-specific aspect of relevance An item is material when its size makes it likely to influence the decision of an investor or creditor

Internal users of accounting data

Management, marketing department, human resources, financial department

expense recognition principle

Match expenses with revenues in the period when the company makes efforts to generate those revenues "Let the expenses follow the revenues"

interim periods

Monthly and quarterly time periods

worksheet

Multiple-column form used in preparing financial statements Not a permanent accounting record May be a computerized worksheet using an electronic spreadsheet program such as Excel Prepared using a five step process Use of worksheet is optional

current liabilities

Obligations the company is to pay within the coming year or its operating cycle, whichever is longer Usually list notes payable first, followed by accounts payable. Other items follow in order of magnitude Common examples are accounts payable, salaries and wages payable, notes payable, interest payable, income taxes payable current maturities of long-term obligations

deferrals

Prepaid Expenses: expenses paid in cash before they are used or consumed Unearned Revenues: cash received before services are performed

steps in preparing a worksheet

Prepare a trial balance on the worksheet Enter adjustment data Enter adjusted balances Extend adjusted balances to appropriate statement columns Total the statement columns, compute net income (or net loss), and complete worksheet

preparing the adjusted trial balance

Prepared after all adjusting entries are journalized and posted Purpose is to prove the equality of debit balances and credit balances in the ledger Is the primary basis for the preparation of financial statements

stockholders' (owner's) equity in the classified balance sheet

Proprietorship - one capital account Partnership - capital account for each partner Corporation - common stock and retained earnings

unearned revenues

Receipt of cash that is recorded as a liability because the service has not been performed Cash receipt BEFORE revenue recorded Unearned revenues often occur in regard to: rent airline tickets magazine subscriptions customer deposits Debit liability, credit revenue

cash-basis accounting

Revenues are recorded when cash is received Expenses are recorded when cash is paid Cash-basis accounting is not in accordance with generally accepted accounting principles (GAAP)

accruals are made to record:

Revenues for services performed but not yet recorded at the statement date (accrued revenues) or Expenses incurred

accrued revenues

Revenues recorded for services performed but not yet received in cash or recorded revenue recorded BEFORE cash receipt Adjusting entry increases (debits) an asset account, credits revenue

accrual-basis accounting

Transactions recorded in the periods in which the events occur Companies recognize revenues when they perform services (rather than when they receive cash) Expenses are recognized when incurred (rather than when paid) GAAP compliant

correcting entries

Unnecessary if accounting records are free of errors Made whenever an error is discovered Must be posted before closing entries Instead of preparing a correcting entry, it is possible to reverse the incorrect entry and then prepare the correct entry

basic accounting equation

assets = liabilities + stockholders' equity

fair value principle

assets and liabilities should be reported at fair value (the price received to sell an asset or settle a liability)

the journal

book of original entry transactions recorded in chronological order contributions to the recording process 1. discloses the complete effects of a transaction 2. provides a chronological record of transactions 3. helps to prevent or locate errors because the debit and credit accounts can be easily compared

liabilities

claims against assets (debts and obligations); creditors (party to whom money is owed); accounts payable, notes payable, salaries and wages payable, etc.

which accounts should have a debit/credit balance?

debit: assets, expenses, dividends credit: liabilities, stockholder's equity

Historical cost principle

dictates that companies record assets at their cost

accrued expenses

expenses incurred but not yet paid in cash or recorded expense recorded BEFORE cash payment Adjusting entry increase (debit) an expense account increase (credit) a liability account

Accounting standard setting bodies

financial accounting standards board (FASB), securities and exchange commission (SEC), international accounting standards board (IASB)

statement of cash flows

information on the cash receipts and payments for a specific period of time; answers the following questions: where did cash come from? what was cash used for? what was the change in the cash balance?

transactions

may be internal or external; not all activities represent transactions; each transaction has a dual effect on the accounting equation

proprietorship

owned by one person; owner is often manager/operator; owner receives any profits, suffers any losses, and is personally liable for all debts

partnership

owned by two or more persons; often retail and service-type businesses; generally unlimited personal liability; partnership agreement

stockholder's equity

ownership claim on total assets; referred to as residual equity; common stock and retained earnings

corporation

ownership divided into shares of stock; separate legal entity organized under state corporation law; limited liability

balance sheet (basic accounting equation)

reports the assets, liabilities, and stockholders' equity at a specific date; lists assets at the top, followed by liabilities and stockholder's equity; total assets must equal total liabilities and stockholder's equity; is a snapshot of the company's financial condition at a specific date

retained earnings statement

reports the changes in retained earnings for a specific period of time; the time period is the same as that covered by the income statement; information provided indicates the reasons why retained earnings increased or decreased during the period

income statement

reports the profitability of the company's operations over a specific period of time; lists revenues first, followed by expenses; shows net income (or net loss); does not include investment and dividend transactions between the stockholders and the business

economic entity assumption

requires that activities of the entity be kept separate and distinct from the activities of its owner and all other economic entities

full disclosure principle

requires that companies disclose all circumstances that would make a difference in financial statements

monetary unit assumption

requires that companies include in the accounting records only transaction data that can be expressed in terms of money

assets

resources a business owns; provide future services or benefits; cash, supplies, equipment, etc.

Generally accepted accounting principles (GAAP)

standards that are generally accepted and universally practiced, indicate how to report economic events

going concern assumption

the business will remain in operation for the foreseeable future

time period assumption

Accountants divide the economic life of a business into artificial time periods, generally: 1. a month 2. a quarter, or 3. a year

cost constraint

Accounting standard-setters weigh the cost that companies will incur to provide the information against the benefit that financial statement users will gain from having the information available

accruals

Accrued Revenues: revenues for services performed but not yet received in cash or recorded Accrued Expenses: expenses incurred but not yet paid in cash or recorded

statement presentation of accumulated depreciation

Accumulated Depreciation is a contra asset account (credit) Appears just after the account it offsets (equipment) on the balance sheet Book value is the difference between the cost of any depreciable asset and its accumulated depreciation

adjusting entries

Ensure that the revenue recognition and expense recognition principles are followed Necessary because the trial balance may not contain up-to-date and complete data Required every time a company prepares financial statements Will include one income statement account and one balance sheet account Don't include cash in your adjusting entries

adjusting entry for prepaid expense

Increase (debit) to an expense account and Decrease (credit) to an asset account

faithful representation

Information accurately depicts what really happened Information must be complete (nothing important has been omitted) neutral (is not biased toward one position or another) free from error

long-term investments

Investments in stocks and bonds of other companies Investments in long-term assets such as land or buildings that is not currently being used in operating activities Long-term notes receivable

External users of accounting data

Investors, creditors

reversing entries

It is often helpful to reverse some of the adjusting entries before recording the regular transactions of the next period Companies make a reversing entry at the beginning of the next account period Each reversing entry is the exact opposite of the adjusting entry made in the previous period The use of reversing entries does not change

calendar year

January 1 to December 31