Makoko First Exam; Ch 1-3

What is the accounting equation?

Assets = Liabilities + Stockholders' Equity

Monetary Unit

Assumes monetary unit is relatively stable; no adjustments made for inflation made in financial statements

retained earnings

An amount earned by a corporation and not yet distributed to stockholders.

transaction

Any business activity that changes assets, liabilities, or owner's equity and is recognized in a set of financial statements

Current Ratio

Current assets divided by current liabilities; measures the availability of current assets to pay current liabilities, high current ratio means high liquidity

Understandability

the quality of accounting information that makes it comprehensible to those willing to spend the necessary time

Faithful Representation

the quality of information that makes it complete, neutral, and free from error

Consistency

the quality that allows the use of the same accounting principles and methods from period to period within a company, makes them comparable

Accounting Standards

the rules that determine the accounting for individual business transactions

Posting

transferring information from a journal entry to a ledger account

General Ledger

a book, a file, a hard drive, or another device containing all of the accounts from the chart of accounts

Sole proprietorship

a business owned and managed by a single individual

Generally Accepted Accounting Principles (GAAP)

a set of accounting standards that is used in the preparation of financial statements

Corporations

entity organized under the laws of a particular state; ownership is evidenced by shares of stock

Going Concern

financial statements are prepared with the expectation that a business will remain in operation indefinitely; this justifies the use of historical cost

T account

format for showing amounts coming into and leaving an account

What does accounting consist of

identifying, measuring, communicating, economic information

Debits

increase assets and decrease liabilities

external events

interaction between an entity and its environment

external users of accounting information

investors, creditors, customers, government

What should occur to the accounting equation as transactions are recorded?

it MUST stay in balance

What does the right side of the accounting equation consist of?

liabilities and stockholders' equity; indicates who provided or has a claim to the assets as well as any debts the company has incurred

Internal users of accounting information

management, employees, owners

Who uses accounting information?

managers, stockholders, employees, creditors, suppliers, government agencies, financial analysis

Statement of Cash Flows Equation

+/- Cash Flow from Operating Activities +/- Cash Flow from Investing Activities +/- Cash Flow from Financing Activities = Net Change in Cash

The Business Decision Model

1. If you were a banker, would you be willing to loan money to a company? 2. gather information from the financial statements and other sources 3. compare the company's current ratios with industry averages and look at trends 4. loan money or find an alternative use for the money 5. monitor the loan periodically

Order of Financial Statements

1. Income Statement 2. Statement of Retained Earnings 3. Balance Sheet 4. Statement of Cash Flows

Types of Long term Assets

1. Investments: securities not expected to be sold within the next year 2. Property/Plants/Equipment: tangible, productive assets used in the operation of a business 3. Intangibles: lack physical substance (ex: trademarks, copyrights, franchise rights, patents, and goodwill)

Qualitative Characteristics of Accounting Information

1. Understandability 2. Relevance 3. Faithful Representation 4. Comparability 5. Consistency 6. Materiality 7. Conservatism

what is the financial decision framework?

1. formulate the question 2. gather information from the financial statements and other sources 3. analyze the information gathered 4. make the decision 5. monitor your decision

Ratio Analysis Model

1. how liquid is a company? 2. gather the information about current assets and current liabilities 3. calculate the current ratio 4. compare the ratio with prior years and with competitors 5. interpret the ratios - higher the current ratio, the more liquid the company

The forms of source documents

1. purchase invoice 2. sales invoice 3. cash register tape 4. time cards

Economic Entity Concept

1. the assumption that a single, identifiable unit must be accounted for in all situations 2. A specific entity must be the subject of a set of financial statements 3. Does not intermingle the personal assets and liabilities of the employees or any other stockholders

Public Company Accounting Oversight Board (PCAOB)

A five-member body created by an act of Congress in 2002 to set auditing standards

multiple-step income statement

A form of income statement that contains several sections, subsections, and subtotals. Shows classifications of revenues and expenses as well as important subtotals.

Classified Balance Sheet

A balance sheet that groups together similar assets and similar liabilities, using a number of standard classifications and sections, such as current and noncurrent. Ex: current assets, current liabilities, no current assets, long-term liabilities, and stockholders' equity

Statement of Cash Flows

A financial statement that provides financial information about the cash receipts and cash payments during the period from operating, investing, and financing activities

Cost Principle

A principle that states that acquired assets and services should be recorded at the original cost to acquire them. It is more objective than market value.

Double-entry system

A system that records the two-sided effect of each transaction in appropriate accounts. Ensures the accounting equation always stays in balance.

Comparability

Ability to compare the accounting information of different companies because they use the same accounting principles.

Time Period Assumption

Assumption that an organization's activities can be divided into specific time periods such as months, quarters, or years; these are the used as the basis for preparing financial statements.

Statement of Retained Earnings Equation

Beginning Retained Earnings + Net Income - Dividends = Ending Retained Earnings

partnerships

Business organizations in which two or more persons share responsibilities, costs, profits, and losses. Often used by accounting and law firms.

Business

Consists of activities necessary to provide members of society with goods and services

Nonbusiness Entities

Government entities, private organizations

Investing Activities

Includes cash transactions involving the purchase and sale of long-term assets and current investments

single-step income statement

Income statement format that groups all revenues together and then lists and deducts all expenses together without calculating any subtotals.

long-term liabilities

Obligations not due to be paid within one year or the operating cycle, whichever is longer.

Current Liabilities

Obligations that a company expects to pay within the next year or operating cycle, whichever is longer.

Types of Businesses

Product Companies: suppliers, manufacturers/producers, distributors/wholesalers, and retailers Service Companies: Transportation companies

Securities and Exchange Commission (SEC)

The agency of the U.S. government that oversees U.S. financial markets and accounting standard-setting bodies.

Financial Accounting Standards Board (FASB)

the private board that establishes the generally accepted accounting principles used in the practice of financial accounting

Operating Cycle

The period of time between the purchase of inventory and the collection of any receivable from the sale of the inventory.

Statement of Retained Earnings

The statement that summarizes the income earned and dividends paid over the life of a business

Auditing

the job of reviewing and evaluating the information used to prepare a company's financial statements and ensures they are fairly presented; an auditors report is an opinion not a statement of fact

Materiality

the magnitude of an accounting information omission or misstatement that determines whether an item is large enough to likely influence the decision of somebody relying on the information

Definition of Source Documents

Used as evidence to record a transaction

Harbor City Corporations end of year balance sheet consisted of the following amounts; What amount should Harbor City report on its balance sheet for total assets?

a. $110,000 b. $170,000 c. $155,000 d. $190,000

To determine the source of a company's noncurrent assets, on which financial statement will you look?

a. Both the balance sheet and the income statement b. Both the income statement and the statement of retained earnings c. Income statement only d. Balance sheet only

Which of the following would not appear on an income statement?

a. Cost of goods sold b. Accounts receivable c. Sales revenue d. Insurance expense

Guinther & Sons, Inc. a retailer of mens clothing, earned a net profit of $77,000 for 2016. The balance sheet for G & S includes the following items. The average current ration for stores such as G & S is 2.4 to 1. What does this comparison tell you about its liquidity?

a. Guinther & So s, Inc. is more profitable than it's competitors b. it has more long-term assets than its competitors c. it is more liquid than its competitors d. since a rule of thumb for current ratios is 2 to 1, neither Guinther & Sons nor its competitors is liquid

Which of the following is a noncurrent asset?

a. None of these choices. b. Cash c. Land d. Accounts receivable

Which of the following items will be found in a corporate annual report?

a. Notes to the financial statements b. Company budgets c. Management's statement that the auditors are responsible for the financial statements d. Selected financial data from competitor companies

The securities and exchange commission (SEC) is concerned with

a. all companies in the US regardless of size b. companies that issue securities to the general public c. all domestic and international companies that issue accounting reports d. accounting reports issued by government entities

Which of the following would be internal users of accounting information?

a. employees and customers b. government and banks c. employees and managers d. customers and vendors

Which one of the following is not an external user of financial statements?

a. none of these choices b. the company's controller c. suppliers d. creditors

Why is the time period assumption necessary?

a. the federal government requires it b. inflation exists c. the dollar is the monetary unit in the united states d. external users of financial statements want statements that accurately reflect net income or earnings for a specific time period

Liquidity

ability to pay debts as they come due

notes

accounting policies; required

examples of current liabilities

accounts payable, salaries and wages payable, notes payable, interest payable, bank loans payable, and income taxes payable

Components of a T account

always shows the account name, debit side/left side of an asset account shows increases, credit side/right side of an asset account shows decreases

Nonbusiness Entities

an organization operated for some purpose other than to earn a profit, do not have an identifiable owner

long term assets

assets that are expected to be used in business operations for longer than one year

What goes on the balance sheet?

assets, liabilities, stockholders equity

What does the left side of the accounting equation consist of?

assets: valuable economic resources that will provide future benefit to the company

examples of long term liabilities

bonds payable, mortgages payable, long-term notes payable, lease liabilities, and pension liabilities

Financing Activities

borrowing, sale of stock

current assets

cash and other assets expected to be realized in cash, sold, or consumed within a year or operating cycle

Examples of current assets

cash, accounts receivable, inventory, supplies, marketable securities, prepaid insurance

Journal

chronological record of a company's transactions, a book of original entry, transactions are periodically posted from the journal to ledger accounts

What is the source of stockholders' equity

created when a company issues stock to an investor; retained earnings

Working Capital

current assets - current liabilities; negative working capital may signal the inability to pay creditors on a timely basis

Dividends

distribution of the net income of a business to its owners

Journalizing

the process of recording business transactions in a journal

credits

decrease assets and increase liabilities

International Accounting Standards Board (IASB)

develops worldwide accounting standards

profit margin

net income/net sales; high margin implies a company is generating revenue while also controlling its costs

Definition of a chart of accounts

numerical list of all accounts used by a company

Internal event

occurs entirely within an entity

Definition of Stockholders' Equity

owners claims on assets of the business; arise from two sources: contributed capital (capital stock and paid in capital in excess of par value) and retained earnings

American Institute of Certified Public Accountants (AICPA)

professional organization of certified public accountants (CPAs)

Definition of Account

record used to accumulate amounts for each individual asset, liability, revenue, expense, and component of stockholders' equity

Oreo Company has current assets of $20,000, current liabilities of $8,000, and long-term liabilities of $3,000. Oreo wants to buy new equipment. How much of its existing cash can Oreo use to acquire equipment without allowing its current ratio to decline below 2.0 to 1?

remember: current ratio = current assets/current liabilities a. $10,000 b. $12,000 c. $4,000 d. $8,000

Operating Activities

sale of products/services and the costs incurred to operate business

Business Entities

sole proprietorship, partnership, corporation

What is an income statement?

the Revenues - Expenses of a company for a period of time

Relevance

the capacity of information to make a difference in a decision

Conservatism

the practice of using the least optimistic estimate when two estimates of amounts are about equally likely