Financial Accounting terms
salvage value
Expected selling price of an asset at the end of its useful life.
managerial accounting
focused on the needs of INTERNAL USERS
accounting period
income is measured for a span of time called the ________
Paid cash to purchase land
investing activity (IA)
second source of assets
investors
liquidity
Ability to convert assets to cash quickly and meet short-term obligations.
Historical Cost Concept
Accounting practice of reporting assets at the actual price paid for them when purchased regardless of estimated changes in market value.
Going Concern Assumption
Accounting presumption that a company will continue to operate indefinitely, benefiting from its assets and paying its obligations in full; justifies reporting assets and liabilities in the financial statements.
matching concept
Accounting principle of recognizing expenses in the same accounting period as the revenues they produce, using one of three methods: match expenses directly with revenues (e.g. cost of goods sold); match expenses to the period in which they are incurred (e.g. rent expense), and match expenses systematically with revenues (e.g. depreciation expense).
Role of Accounting in Society
Accounting provides information that is useful in answering questions about resource allocation.
defferal
Accounting recognition of revenue or expense in a period after cash is exchanged.
accrual
Accounting recognition of revenue or expense in a period before cash is exchanged.
accrual accounting
Accounting system which recognizes revenues when earned and expenses when incurred regardless of when the related cash is exchanged.
realization
Accounting term that usually refers to actual cash collection (e.g., collecting accounts receivable).
temporary accounts
Accounts used to collect retained earnings data applicable to only the current accounting period (revenues, expenses and distributions); sometimes called nominal accounts.
Accounting Equation
Algebraic relationship between a company's assets and the claims on those assets, represented as Assets = Liabilities + Equity
AICPA
American Institute of Certified Public Accountants
salaries payable
Amounts owed but not yet paid to employees for services they have already performed.
cost
An amount paid to acquire a resource (asset) or to pay for a resource that has been consumed. Incurring a cost results in an asset exchange or expense recognition.
Expense
An economic sacrifice (decrease in assets or increase in liabilities) that is incurred in the process of generating revenue.
expense
An economic sacrifice (decrease in assets or increase in liabilities) that is incurred in the process of generating revenue.
rationalization
An element of the fraud triangle that recognizes a human tendency to justify fraudulent or unethical behavior.
pressure
An element of the fraud triangle that recognizes conditions that motivate fraudulent or unethical behavior.
opportunity
An element of the fraud triangle that recognizes weaknesses in internal controls that enable the occurrence of fraudulent or unethical behavior.
IFRS
As of 2012 most of the major economic countries had switched from their local GAAP to _______. One notable exception is the United States, but even here, the Securities and Exchange Commission announced in 2008 that it was seriously considering adopting rules that would allow our companies to use either GAAP or _____. Although not finalized when this book was being prepared, many accountants in the United States believe this will occur. Additionally, there is an active process in place to reduce the differences between _____ and U.S. GAAP.
Net Loss
results when expenses exceed revenues
Deferral
revenue or expense event recognized AFTER cash is exchanged
Accrual
revenue or expense event recognized BEFORE cash is exchanged
Temporary Accounts
revenues, expenses, devidends
market
Group of people or entities organized to buy and sell resources.
American Institute of Certified Public Accountants
National association that serves the educational and professional interests of members of the public accounting profession; membership is voluntary. See also Code of Professional Conduct.
physical resources
Natural resources businesses transform create more valuable resources. In their most primitive form, _________ __________ are natural resources. They often move through numerous stages of transformation. For example, standing timber may be successively transformed into harvested logs, raw lumber, and finished furniture. Owners of these resources seek to sell them to businesses with high earnings potential because profitable businesses are able to pay higher prices and make repeat purchases.
liabilities
Obligations of a business to relinquish assets, provide services, or accept other obligations.
Collected cash from Accounts Receivable
Operating Activity (OA)
Earned cash revenue
Operating Activity (OA)
Paid cash for Prepaid Rent
Operating Activity (OA)
Paid cash for interest
Operating Activity (OA)
Paid cash for salary expenses
Operating Activity (OA)
Paid cash on Salaries Payable
Operating Activity (OA)
Paid operating expenses with cash
Operating Activity (OA)
Received cash for services to be rendered in the future
Operating Activity (OA)
not-for-profit entities
Organizations (also called nonprofit or nonbusiness entities) established primarily for motives other than making a profit, such as providing goods and services for the social good. Examples include state-supported universities and colleges, hospitals, public libraries, and public charities.
service businesses
Organizations such as accounting and legal firms, dry cleaners, and insurance companies that provide services to consumers.
stockholders
Owners of a corporation.
Claims
Owners' and creditors' interests in a business's assets.
stakeholders
Parties interested in the operations of a business, including owners, lenders, employees, suppliers, customers, news reporters, government agencies, and others. The individuals and organizations that need information about a business are called _________. Businesses communicate information to __________ through four financial statements:2 (l) an income statement, (2) a statement of changes in equity, (3) a balance sheet, and (4) a statement of cash flows.
internal controls
Policies and procedures companies establish to provide reasonable assurance of reducing fraud, providing reliable accounting records, and accomplishing organization objectives.
retained earnings
Portion of stockholders' equity that includes all earnings retained in the business since inception (revenues minus expenses and distributions for all accounting periods). A company that does not have current or _______ _________ cannot pay dividends. Remember, dividends are distributions of assets that have been generated through earnings. Without earnings there can be no dividends or ________ _________.
depreciation expense
Portion of the original cost of a long-term tangible asset allocated to an expense account in a given period.
financial leverage
Principle of increasing earnings through debt financing by investing money at a higher rate than the rate paid on the borrowed money.
International Accounting Standards Board
Private, independent body that establishes International Financial Reporting Standards (IFRS). The IASB's authority is established by various governmental institutions that require or permit companies in their jurisdiction to use IFRS. To date, over 100 countries require or permit companies to prepare their financial statements using IFRS. One notable exception is the United States of America.
added value
The ____________ is the highlight of the income statement
fiscal year
The annual time period for which a company provides financial statements.
revenue
The economic benefit (increase in assets or decrease in liabilities) gained by providing goods or services to customers.
statement of cash flows
The financial statement that reports a company's cash inflows and outflows for an accounting period, classifying them as operating, investing, or financing activities.
Elements
The information reported in financial statements is organized into ten categories known as ___________. The primary financial statement categories: assets, liabilities, equity, contributed capital, revenue, expenses, gains, losses, distributions, and net income.
stockholders' equity
The interest in a corporation's assets that is owned by the stockholders
useful life
The period of time over which an asset is expected to be used in the normal operation of a business.
General Ledger
The set of all accounts used in given accounting system, typically organized in financial statement order.
general ledger
The set of all accounts used in given accounting system, typically organized in financial statement order.
Account Period
Time span covered by the financial statements; normally one year, but may be a quarter, a month or some other time interval.
Dividend
Transfer of wealth from a business to its owners.
The Closing Process
Transfers net income (or loss) and dividends to Retained Earnings Establishes zero balances in all revenue, expense, and dividend accounts
Annual Reports
1. Financial Statements 2. Notes 3.Auditor's Report 4, Management's Discussion and Analysis (MD&A)
Accounts Payable (Used to Increase Acct)
Credit
Common Stock (Used to Increase Acct)
Credit
Interest Revenue (Used to Increase Acct)
Credit
Retained Earnings (Used to Increase Acct)
Credit
Service Revenue (Used to Increase Acct)
Credit
Unearned Income (Used to Increase Acct)
Credit
Assume that Clinton Company acquires $1,200 cash from creditors and $1,700 cash from investors. If Clinton has a net loss of $1,900 cash and then liquidates, what amount of cash will the creditors receive? What amount of cash will the investors receive?
Creditors receive: $1,000 Investors receive: $0
Assume that Clinton Company acquires $1,200 cash from creditors and $1,700 cash from investors. If Clinton has a net loss of $800 cash and then liquidates, what amount of cash will the creditors receive? What amount of cash will the investors receive?
Creditors receive: $1,200 Investors receive: $900
Issue common stock
Financing Activity (FA)
Paid cash dividend
Financing Activity (FA)
GAAP
Generally Accepted Accounting Principles
Earnings
(Net Income) The difference between revenues and expenses. Sometimes called profit.
1. Purchased supplies on account 2. Paid on event 1
1. (no cash involved, so not a FA, OA, or IA. 2. OA
special journals
Journals designed to improve recording efficiency for specific routine, high-volume transactions such as credit sales.
unearned revenue
Liability arising when customers pay cash in advance for services a business will perform in the future.
chart of accounts
List of all ledger accounts and their corresponding account numbers.
Financial Resources
Money or credit supplied to a business by investors (owners) and creditors.
books of original entry
A journal in which a transaction is first recorded.
conservatism
A principle that guides accountants in uncertain circumstances to select the alternative that produces the lowest amount of net income.
Asset Use Transaction
A transaction that decreases both an asset and a claim on assets; the three types of asset use transactions are distributions (transfers to owners), liability payments (to creditors), or expenses (costs incurred to operate the business).
claims exchange transaction
A transaction that decreases one claim and increases another claim; total claims remain unchanged. For example, accruing interest expense is a claims exchange transaction; liabilities increase, and the expense recognition decreases retained earnings.
Asset Source Transaction
A transaction that increases both an asset and a claim on assets; the three types of asset source transactions are acquisitions from owners (equity), borrowings from creditors (liabilities), or earnings from operations (revenues).
Asset Exchange Transaction
A transaction, such as the purchase of land with cash, that decreases one asset and increases another asset; total assets remain unchanged.
permanent accounts
Balance sheet accounts; contain information carried forward from one accounting period to the next (ending account balance one period becomes beginning account balance next period).
Common Stock
Basic class of corporate stock that has no preferential claim on assets or dividends; certificates that evidence ownership in a company.
Retained Earnings
Beginning Retained Earnings + Net Income - Dividends paid = Retained Earnings
journal
Book (or electronic record) of original entry in which accounting data are entered chronologically before posting to the ledger accounts.
general journal
Book of original entry in which any accounting transaction could be recorded, though commonly limited to adjusting and closing entries and unusual transactions.
Closing
Bookkeeping technique of transferring balances from the temporary accounts (Revenue, Expense, and Dividends) to the permanent account (Retained Earnings).
labor resources
Both intellectual and physical efforts of individuals used in the process of providing goods and services to customers.
Financial Accounting
Branch of accounting focused on the business information needs of external users (creditors, investors, governmental agencies, financial analysts, etc.); its objective is to classify and record business events and transactions to produce external financial reports (income statement, balance sheet, statement of cash flows, and statement of changes in equity).
managerial accounting
Branch of accounting focused on the information needs of managers and others working within the business; its objective is to gather and report information that adds value to the business. Managerial accounting information is not regulated or reported to the public.
transaction
Business event that involves transferring something of value between two entities.
financial resources
Businesses need ___________ (money) to establish and operate their businesses.
reporting entities
Businesses or other organizations for which financial statements are prepared.
investing activities
Cash inflows and outflows associated with buying or selling long-term assets and cash inflows and outflows associated with lending activities and investments in the debt and equity of other companies; one of the three categories of cash inflows and outflows reported on the statement of cash flows.
Financing Activities
Cash inflows and outflows from transactions with investors and creditors (except interest), including cash receipts from issuing stock, borrowing activities, and cash disbursements to pay dividends; one of the three categories of cash inflows and outflows reported on the statement of cash flows. This category shows the amount of cash supplied by these resource providers and the amount of cash that is returned to them.
operating activities
Cash inflows from and outflows for routine, everyday business operations, normally resulting from revenue and expense transactions including interest; one of the three categories of cash inflows and outflows reported on the statement of cash flows.
Articulation
Characteristic of financial statements that means they are interrelated. For example, the amount of net income reported on the income statement is added to beginning retained earnings as a component in calculating the ending retained earnings balance reported on the statement of changes in stockholders' equity.
merchandising businesses
Companies that buy and resell merchandise inventory.
manufacturing businesses
Companies that make the goods they sell customers.
investors
Company or individual who gives assets or services in exchange for security certificates representing ownership interests.
Horizontal Statements Model
Concurrent representation of several financial statements horizontally across a page.
vertical statements model
Concurrent representation of several financial statements shown vertically on a page.
posting
Copying transaction data from journals to ledger accounts.
Assume that Clinton Company acquires $1,200 cash from creditors and $1,700 cash from investors. If Clinton has net income of $800 and then liquidates, what amount of cash will the creditors receive? What amount of cash will the investors receive?
Creditors receive: $1,200 Investors receive: $2,500
Balance Sheet
Financial statement that reports a company's assets and the corresponding claims (liabilities and equity) on those assets as of a specific date (usually as of the end of the accounting period).
Accounts Receivable (Used to Increase Acct)
Debit
Insurance Expense (Used to Increase Acct)
Debit
Land (Used to Increase Acct)
Debit
Prepaid Rent (Used to Increase Acct)
Debit
Rent Expense (Used to Increase Acct)
Debit
net loss
Decrease in equity resulting from operating the business.
prepaid items
Deferred expenses. An example is prepaid insurance.
straight-line depreciation
Depreciation computations that produce equal amounts of depreciation to allocate to expense each period over an asset's life; computed by subtracting the salvage value from the asset's cost and then dividing by the number of years of useful life.
account balance
Difference between total debit and total credit amounts in an account.
Annual Report
Document companies publish to provide information, including financial statements, to stockholders.
Accounting Event
Economic occurrence that changes a company's assets, liabilities, or equity
Assets
Economic resource used to produce revenue which is expected to provide future benefit to the business.
closing entries
Entries that transfer the balances in the temporary accounts (Revenue, Expense, and Dividends accounts) to the Retained Earnings account at the end of the accounting period.
debit
Entry on the left side of an account; increases asset accounts or decreases liability and equity accounts.
credit
Entry on the right side of an account; increases liability and equity accounts or decreases asset accounts.
adjusting entry
Entry that updates account balances prior to preparing financial statements; a bookkeeping tool. Adjusting entries never affect the Cash account.
going concern
Even profitable companies can be forced to liquidate. A company must properly manage its assets as well as its liabilities and stockholders' equity in order to remain a ______ ________. The _______ ________ doctrine assumes that a business is able to continue its operations into the foreseeable future. Many procedures and practices used by accountants are based on a _________ _________ assumption. If a company's _______ ___________ status becomes uncertain, accountants are required to notify creditors and investors.
accounts receivable
Expected future cash receipts arising from permitting customers to buy now and pay later; typically relatively small balances due within a short time period.
period costs
Expenses recognized in the period in which they are incurred regardless of when cash payments for them are made; costs that cannot be directly traced to products.
accrued expenses
Expenses that are recognized before cash is paid. An example is accrued salaries expense.
Acquired cash from owners
Financing Activity (FA)
Borrowed cash from creditors
Financing Activity (FA)
carrying value
Face amount of a bond liability less any unamortized bond discount or plus any unamortized bond premium.
Sarbanes-Oxley Act of 2002
Federal legislation enacted to promote ethical corporate governance and fair financial reporting. The act requires a company's chief executive officer (CEO) and chief financial officer (CFO) to certify in writing that the financial reports being issued present fairly the company's financial status. An executive who falsely certifies the company's financial reports is subject to significant fines and imprisonment. The act also establishes the Public Company Accounting Oversight Board (PCAOB) which has the primary responsibility for developing and enforcing auditing standards for CPAs who audit SEC companies. The Sarbanes-Oxley Act also prohibits auditors from providing most types of nonaudit services to companies they audit.
interest
Fee paid for the use of funds; represents expense to the borrower and revenue to the lender.
FASB
Financial Accounting Standards Board
debt to assets ratio
Financial measure of a company's level of risk, calculated as total debt divided by total assets. Total Debt / Total Assets
income statement
Financial report of profitability; measures the difference between revenues and expenses for the accounting period (whether or not cash has been exchanged).
Code of Professional Conduct
Guidelines established by the American Institute of Certified Public Accountants (AICPA) to promote ethical conduct among certified public accountants; AICPA members agree to adhere to this code, which goes beyond legal requirements.
net income
Increase in equity resulting from operating the business.
income
Increase in value created by providing goods and services through resource transformation.
Creditor
Individual or organization that has loaned goods or services to a business.
users
Individuals or organizations that use financial information for decision making.
IASB
International Accounting Standards Board
IFRS
International Financial Reporting Standards
Purchased land with cash
Investing Activity (IA)
Sold land for cash
Investing Activity (IA)
Financial Accounting Standards Board
Private, independent standard-setting body established by the accounting profession that has been delegated the authority by the SEC to establish most of the accounting rules and regulations for public financial reporting.
liquidation
Process of dividing up an organization's assets and returning them to the resource providers. In business liquidations, creditors normally have first priority; after creditor claims have been satisfied, any remaining assets are distributed to the company's owners (investors).
return on assets ratio
Profitability measure based on earnings a company generates relative to its asset base; calculated as net income divided by average total assets. Net Income / Total Assets
return on equity ratio
Profitability measure based on earnings a company generates relative to its stockholders' equity; calculated as net income divided by average stockholders' equity. Net Income / Stockholders' Equity
Steps in Accounting Cycle
Record Transactions ---> Adjust Accounts ----> Prepare Statements ----> Close Nominal Accounts ----> (back to Record Transactions again)
Account
Record of classified and summarized transaction data; component of financial statement elements
source document
Record such as a cash register tape, invoice, time card, or check stub that provides accounting information to be recorded in the accounting journals and ledgers.
Double-entry Accounting/Bookkeeping
Recordkeeping system that provides checks and balances by recording two sides for every transaction.
double-entry accounting
Recordkeeping system that provides checks and balances by recording two sides for every transaction.
recognition
Reporting an accounting event in the financial statements.
Financial Statements
Reports used to communicate a company's financial information to interested external parties. The four general-purpose financial statements are the income statement, statement of changes in equity, balance sheet, and statement of cash flows.
Generally Accepted Accounting Principles
Rules and practices that accountants agree to follow in financial reports prepared for public distribution.
trial balance
Schedule listing the balances of all ledger accounts; verifies mathematical accuracy of the accounting records and provides a convenient reference of current account balances.
Accounting
Service-based profession developed to provide reliable and relevant financial information useful in making decisions
T-account
Simple account representation, using two bars arranged in the form of the letter "T"; the account title is written across the top on the horizontal bar, debit entries are recorded on the left side of the vertical bar, and credit entries on the right side.
statement of changes in stockholders' equity
Statement that summarizes the transactions that affected the owners' equity during the accounting period.
profit
Value added by transforming resources into products or services desired by customers.
For the year ended 12-31-2011
a. income statement b. statement of changes in stockholders' equity c. statement of cash flows
Permanent Accounts
assets, liabilities, equity
As of 12-31-2011
balance sheet
first source of assets
creditors
financial accounting
focused on the needs of EXTERNAL users
third source of assets
operations. Businesses use assets in order to produce higher amounts of other assets. For example,Best Buy may sell a TV that cost the company $500 for $600. The $100 difference between the sales price and the cost of the TV results in an increase in Best Buy's total assets. This explains how operations can be a source of assets. Of course operations may also result in a decrease in assets. If Best Buy has to discount the sales price of the TV to $450 in order to sell it, the company's total assets decrease by $50.
Common terms for the added value created in the transformation process:
profit, income, earnings