Accounting Midterm 2

How do you calculate SYD depreciation?

(Cost - Salvage Value) x (Useful life/sum of digits) - After each year the numerator in the fraction is reduced by 1 - Cost of the machine remains the same for each calculation, only the numerator changes

What is the difference between a journal and a ledger?

- A journal is a list of of individual transactions - Ledger tracks the running balance of an account

What is the purpose of the chart of accounts?

- Accounts typically assigned codes (numbers) - Can be used to differentiate assets, liabilities, and net assets - Also can distinguish between divisions, cost centers, etc.

Where does the information to create the balance sheet come from?

- Assets and liability balances come from the ledger - Net asset balances come from the Changes in Net Assets statement

Define "Periodic Inventory System"

- Created on assumption that tracking individual items is too hard - Periodically counts items in inventory (at one point in time at the end of the year) - I.e focuses on ending inventory - Uses accounting equation to determine # of units used

What are the activities that cause an inflow of cash?

- Decrease in assets - Increase in liabilities - Increase in equity

Accounting clerk gets drunk and forgets to pay the bills until after the New Year. What impact would this have on the cash flow statement?

- Ending cash would be higher than it should be, so the change in cash would be impacted. - Change in accounts payable would balance the difference.

For-profits can use different methods for reporting depreciation to owners and to the government (for tax purposes). What is the practical effect of this allowance?

- For profit orgs can use one depreciation method for the financial statements submitted to stockholders and another depreciation method for reporting to the IRS. - When showing to stockholders: lowers expenses, shows them how well the org is going - When showing to IRS: use accelerated method that increases expenses, thereby lowering taxes due. - Difference between these two numbers is called "deferred taxes"

What are examples of accounting policies that a footnote may discuss?

- How is Net Patient Services Revenue presented? - How are investments valued? - What inventory valuation method is used? - What depreciation method is used - Are income taxes paid? - How is charity care recorded?

What are the activities that cause an outflow of cash?

- Increase in assets - Decrease in liabilities - Decrease in equity

The bottom line of an operating statement is to show:

- Increase/Decrease in Net Assets, Net Income - If multiple years, will also include a line indicating the Change in Net Assets

How do ledger and journal entries interact with one another?

- Ledger is organized chronologically, so its running total can be used to generate financial statements and account balances at any time - Each financial event that generates a journal entry is also entered into the ledger to maintain the account balances. - The ledger includes information from each journal entry, but it separates that information into the individual accounts impacted by the journal entry.

Explain how the ledger provides the information needed to prepare the Balance Sheet.

- Ledger keeps a running total of all accounts, so provides all information to prepare balance sheet - Account totals from the ledger are the direct entries for each asset and liability listed on the Balance Sheet at the end of an accounting period - The different net asset accounts kept in the ledger are summarized (usually via the Statement of Changes in Net Assets) and included in the Balance Sheet.

Explain how the ledger provides the information needed to prepare the Operating Statement.

- Ledger provides year-end balances for all revenue and expense accounts - At the end of the particular accounting period, the expense and revenue accounts totals are transferred directly to the Operating Statement.

Which generally accepted accounting principle requires the use of depreciation for assets that have useful lives beyond one year? Explain why this is the case

- Matching principle - If one takes the acquisition cost as an expense in the first year--> understating income in the first year due to the high acquisition expense - In the later years, an organization would be overstating income by recognizing revenue that is being earned by an asset the organization is using up without talking any corresponding expense - Depreciation spreads out the acquisition cost and allows revenues and expenses to be appropriately matched throughout the life of the asset

What is found in a statement of Operations?

- Shows flow of revenues (increases in wealth) and expenses (decreases in wealth) - Two main sections: 1. Revenues and expenses on top --> tells gain or loss from operations 2. Changes in net assets below - Goodwill is represented here

Define "Depreciation"

- Specialized subset of amortization - Applies to the wearing out of a tangible asset

Describe the actions needed to take to prepare the cash flow statement using the indirect method.

- Starts with Net Income and makes adjustments for non-cash changes within Net Income - Add depreciation expense back into income. - Subtract an increase in A/R because income overstates cash payments

Define "Determination of Depreciation Method" - what are the 3 types?

- Straight-line - Double declining Balance (Accelerated Method) - Sum-of-the-years-digits (Accelerated Method)

What are footnotes in the context of a financial statement?

- Tells you about org - Required component of audited statements - Explain accounting policies - Discloses important information - such as the entity - Other Notes

What is the direct method of preparing and presenting the cash flow statement?

- The direct method of presenting the Statement of Cash Flows lists the change in cash caused by each account - Cash account from ledger is analyzed to determine which account caused the change in cash

Why are the 3 cash flow categories important for understanding an organization's cash situation?

- These categories differentiate between the sources of cash. - Cash can be generated from borrowing and selling off assets, so these might be indicators of financial problems. - A user of financial statements would want to know the specific sources of changes in cash balances.

What is salvage value?

- Value that remains after the useful life of an asset

What is an example of an adjustment that needs to be made using the indirect method?

- When an organization takes depreciation, it enters a depreciation expense in the ledger (no cash involved) - When net income is calculated, it will subtract the non-cash depreciation expense. - To adjust net income to show actual cash flows, the depreciation expense must be added back in to the cash flow statement.

If wages were paid to employees, how would this information be recorded in the cash flow statement using the direct method?

- cash account in the ledger was reduced - the statement of cash flows would show cash paid for wages. - This payment would be listed under the operating activities section of the Cash Flow Statement.

What are the advantages of using the direct method when preparing the cash flow statement? Disadvantages?

- easy to understand and compile when a small number of financial transactions are involved - cumbersome when many transactions are involved

Define a "Perpetual Inventory System"

- tracks every item that is used as it is used - one alwyas know how much inventory is on hand - Expensive and complex to track - Development of barcodes has helped dramatically - Important if running out of inventory would have costly effects

What is found in a statement of cash flow?

- where did money come from and how was it spent? - Focused on viability - do we have enough cash to meet short and long term obligations? - Three categoreis of sources and uses: 1. Operating Acitivities 2. Investing Activities 3. Financing Activites

What are examples of "other notes" not yet mentioned that a footnote section may contain?

1. Breakdown of receivables: Aging schedule, contractual allowances vs. bad debt 2. Bonds Payable 3. Commitmens, Contingencies, Litigation - only that which is material and significant 4. Goodwill - must describe circumstances that led to recorded goodwill.

What are the 4 steps in the Depreciation Process?

1. Full Asset Valuation 2. Determination of Depreciable Base 3. Determination of Useful life 4. Determination of Depreciation Method

When dealing with litigation, what are the 3 opinions attorneys will give you?

1. Remote - "Yeah, we got sued, but its a nuisance claim" 2. Possible - " Yeah, it's possible we're liable, but patient partially responsible" 3. Probable - "We're probably at fault"

For accounting purposes, what do you do if you have been sued? Explain this using the 3 "attorney opinions"

1. Remote - do nothing 2. Possible - disclose in foortnote 3. Probable and estimable - you must book it.

Each journal entry affects at least ____ ledger accounts

2 (to keep the accounting equation in balance).

Describe the basic accounting equation. How does the double entry accounting system work?

Assets = Liabilities + Net Assets - The double entry system is based on the fact that each financial event affects the basic accounting equation. For the equation to remain in balance, each financial event must affect at least two items in the equation.

The company receives a down payment for services to be rendered in 2 weeks. How does this affect assets, liabilities and net assets?

Assets: Increase Liabilities: increase Net assets: no effect

The owner pays himself a dividend from the business. How does this affect assets, liabilities and net assets?

Assets: decrease Liabilities: no effect Net assets: decrease

The company buys a new building by taking out a mortgage for one hundred percent of the cost. How does this affect assets, liabilities and net assets?

Assets: increase Liabilities: increase Net assets: no effect

The company purchases a significant amount of supplies on credit. How does this affect assets, liabilities and net assets?

Assets: increase Liabilities: increase Net assets: no effect

The company receives cash from a bank loan. How does this affect assets, liabilities and net assets?

Assets: increase Liabilities: increase Net assets: no effect

The owner contributes her personal computer to the company. How does this affect assets, liabilities and net assets?

Assets: increase Liabilities: no effect Net assets: increase

Medicare and a customer pay the entity for services previously rendered. How does this affect assets, liabilities and net assets?

Assets: increase and decrease Liabilities: no effect Net assets: no effect

The company purchases equipment with its cash. How does this affect assets, liabilities and net assets?

Assets: increase and decrease Liabilities: no effect Net assets: no effect

Accounting clerk gets drunk and forgets to pay the bills until after the New Year. What 2 balance sheet accounts are impacted?

Cash Accounts payable

How do you calculate DDB depreciation?

Cost x (2/Useful Life) - Ignores salvage value - Numerator stays the same - After calculating year 1 depreciation, subtract this value from cost of machine. Then multiply that number by (2/Useful life) and so on... - If you have reached the end of useful life, and the balance does not equal that of SL and SYD, add the difference to the final year of depreciation

Entries to revenues accounts such as Interest income are usually (credit or debit):

Credit

What will usually cause an asset account to decrease? (Debit or credit)

Credit

What will usually cause the liability account Accounts Payable to increase? (Debit or credit)

Credit

Which term is associated with "right" or "right-side"?

Credit

Debit or Credit: The piece of the journal entry for an increase in accounts payable will be?

Credited

Debit or Credit: When cash is paid, the account Cash will be

Credited

Debit or Credit: When depreciation expense is booked, the account-accumulated depreciation (contra asset) will be

Credited

Debit or Credit: THE PIECE OF THE JOURNAL ENTRY FOR AN INCREASE IN AN ASSET?

Debit

Debit or Credit: The piece of the journal entry for an increase in an expense

Debit

Debit or Credit: When cash is received, the account Cash will be

Debit

Entries to expenses such as Salary Expense are usually (Debit or Credit)

Debit

WHICH TERM IS ASSOCIATED WITH "LEFT" OR "LEFT-SIDE"?

Debit

Debit or Credit: When a company receives cash from a customer, the account Cash will be

Debited

What are the two approaches to presenting the statement of cash flows?

Direct Method (shown) Indirect Method

Describe the link between the Statement of Cash Flows and the Balance Sheet

Ending cash balance from previous year (balance sheet) + Net Increase/Decrease in Cash from current year (Statement of Cash Flows) = Ending Cash Balance of current year (b=Balance Sheet)

Define "Determination of Useful Life"

Estimate

What is a journal entry?

Financial entry kept in the general journal

Define "Determination of Depreciable Base"

Full value from Step 1 - Salvage Value

Define "Full Asset Valuation"

Historical cost + cost to put an item into service + replacements and improvements This GAAP rule of conservatism tends to lead accountants to estimate a shorter useful life.

An increase in rent payable results in a (an) ______ in cash flows.

Increase

What impact does a decrease in prepaid expenses have on cash flow?

Increase in cash

What is the main purpose of the Statement of Cash Flows?

Intended to show the sources and uses of an organization's cash. Shows the organization got its cash and how it spent the cash

How are assets divided up on the balance sheet?

Into short and long term categories

Why is depreciation added back to operating activities in a cash flow statement?

It is an expense that reduces net income but is not a current year outflow of cash. (Cash flow from operations starts with net income)

What is the accounting journal?

Master book or computer file in which all financial events are recorded in chronological order.

What are MACRS and what are they used for?

Modified Accelerated Cost Recovery System - IRS system assigns shorter lives to assets and therefore accelerates depreciation - By doing so, a profitable org can push tax payments off to the future.

Positive or Negative Cash Flow: An increase in Accounts Receivable

Negative

Positive or Negative Cash Flow: An increase in the long-term asset Investment in Another Company

Negative

Positive or Negative Cash Flow: Decrease in accounts payable.

Negative

Positive or Negative Cash Flow: Dividends declared and paid.

Negative

Positive or Negative Cash Flow: Increase in the balance of prepaid insurance

Negative

Accounting clerk gets drunk and forgets to pay the bills until after the New Year. What impact does this have on the income statement, assuming Healthy hospital has a December 31, year end?

No impact - this would only impact cash

Describe the direct method

No need! Cuz we won't be using it ;p **FREEBIE CARD**

What are the three categories used within the Statement of Cash Flows?

Operating activities Investing activities Financing activities

Positive or Negative Cash Flow: An increase in the current liability Income Taxes Payable.

Positive

Positive or Negative Cash Flow: An increase in the current liability Warranty Liability

Positive

Positive or Negative Cash Flow: Decrease in the supplies on hand.

Positive

Positive or Negative Cash Flow: Proceeds from the issuance of Preferred Stock.

Positive

Positive or Negative Cash Flow: the proceeds from the sale of equipment formerly used in the business.

Positive

What are T accounts?

Shorthand for keeping track of debits and credits for each individual account

What is the statement of cash flows? What are its components?

Shows where cash came from and how it has been used Operating Activities Investing Activities Financing Activities

Define "Amortization"

Spreading our cost over a period of time. For resources that neither deplete or depreciate.

Describe the Indirect Method

Starts with net income Makes adjustments to reconcile cash flow Why adjustments? Because net income includes non-cash revenues and expenses.

What is the indirect method of preparing and presenting the cash flow statement?

Starts with net income as an estimate of cash flow, and makes a series of adjustments to net income to determine the actual cash flow from operating activities.

What is an operating statement?

Statement that compares Revenues and Expenses

What is the statement of changes in net assets?

Summary of all the net asset accounts - The change in Net Assets ties to the "bottom line" of the Operating Statement

What is the first entry in a ledger?

The ending balance from the previous period.

What is the first entry of the operating statement?

The ending balance of each revenue and expense ledger account

What is the purpose of the accounting journal?

To keep a record of every financial event, and periodically summarize the organization's financial position and the results of its operations.

When do you use "depletion" to describe depreciation?

When resources that are finite in nature but do not wear out, such as oil or gas

A credit is an decrease in _______ and _______.

assets, expenses

A debit is an increase in _______ and _______.

assets, expenses

A $500K payment on a note payable would be reflected as a (an) ___________ in the _______________ activities section of the cash flow statement.

decrease; financing

A credit is an increase in _______ and _______.

liabilities, revenues

A debit is a decrease in _______ and _______.

liabilities, revenues

What is the accounting equation expressed as debits and credits?

ΔA + ΔE = ΔL +ΔR