Accounting Quiz 1

Accounting

refers to the communication of financial information for decision-making purposes. Accounting is then further subdivided into: - Financial accounting and Managerial accounting.

Owner Investments

..., Assets provided by the owner for a company.

Posting:

- Transferring the information from a journal to a ledger

Financial Accounting vs. Reporting

...

General Goal of Accounting:

Despite the volume of transactions, the goal remains the same: to prepare financial statements that are presented fairly because they contain no material misstatements according to U.S. generally accepted accounting principles (U.S. GAAP).

Accounting Standards Codification

In 2009, FASB combined all authoritative accounting literature into a single source for U.S. GAAP (the A.S.C.). By bringing together hundreds of official documents, FASB has made U.S. GAAP both more understandable and easier to access. Multiple sources have been woven together in a logical fashion so that all rules on each topic are in one

Independent auditing firms:

can only be operated by individuals who have been formally recognized by a state government as: Certified Public Accountants (CPAs): Such firms range in size from massive (KPMG employs over 135,000 individuals working in 140 countries and generated annual revenues of approximately $22.7 billion for the year ended

Gross profit, Gross margin, or Markup:

the difference in revenue and cost of goods sold

T-account: (application)

these types of accounts are used to record imp data Left side = debt side and Right side= credit side. i. Accounts where Debts Increase total and Credits Decrease total 1. Expenses and losses 2. Assets 3. Dividends paid a. DEAD accounts: i. Debits increase Expenses Assets and Dividends ii. Accounts where Debts Decrease total and Credits Increase total 1. Liabilities 2. Capital Stock 3. Revenues and Gains 4. Retained Earnings

Transactions affect:

Balance Sheet (Always) May also affect: Income Statement Statement of Owners' Equity Statement of Cash Flows

Equity

i.e net assets, is the residual interest in the assets of an entity that remains after deducting its liabilities.

Material Misstatement

when a misstatement is consequential enough that it affects the decision making process of an interested party -> because of the outcome, the misstatement is material by definition. • An accountant never calls a financial statement "accurate" but rather "representative"

Closing Entries:

- Close all Revenue accounts to Income Summary account (and any income statement account that has a positive impact to O/E) - Close all Expense accounts to Income Summary (and any income statement account that has a negative impact to O/E) - Close Income Summary account to Retained Earnings - Close Dividend Accounts to Retained Earnings * post the closing entry summary

HOW TO CONDUCT AN AUDIT:

1. The report is addressed to the board of directors (elected by the shareholders) and the shareholders. i. An audit is not performed for the direct benefit of the reporting company or its management but rather for any person or group studying the financial statements for decision-making purposes. b. The salutation stresses that those external users (rather than the company itself) are the primary beneficiaries of the work carried out by the independent auditor. 2. First (introductory) paragraph a. Identifies the specific financial statements to which the report relates. b. In addition, both the responsibility of the management for those financial statements and the responsibility of the independent auditor for providing an opinion on those statements are clearly delineated. i. The statements are examined by the auditor. The statements are not created by the auditor; that is a job for management. 3. The second (scope) paragraph provides considerable information about the audit work. a. One key sentence is the second. I b. t explains the purpose of the audit by referring to the standards created by the PCAOB: "Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatements." i. This sentence clearly sets out the purpose of an audit engagement and the level of assurance given by the auditor. No reader should expect absolute assurance. c. The remainder of the second paragraph describes in general terms the steps taken by the auditor: i. Examine evidence on a test basis to support reported amounts ii. Assess the accounting principles that were applied iii. Assess significant estimations used in creating the statements iv. Evaluate overall presentation 4. The third (opinion) paragraph a. provides the auditor's opinion of the financial statements. In this illustration i. AN: unqualified opinion is being issued meaning that no problems worthy of note were discovered. ii. The auditor provides the reader with reasonable assurance: 1. "In our opinion, such consolidated financial statements present fairly, in all material respects...in conformity with accounting principles generally accepted in the United States of America." iii. Through this sentence, the independent auditor is adding credibility to the financial statements. The auditor believes readers can rely on these statements in making their financial decisions. 5. The fourth (explanatory) paragraph a. Included whenever the auditor wants to draw the reader's attention to some aspect of the financial statements. i. The presence of this paragraph does not mean that the information is unreliable, only that the auditor feels some additional explanation is warranted. 6. The fifth (control) paragraph a. Provides an additional opinion, this time in connection with the company's internal control. i. Such an assessment is now required when an audit is performed on a company that is subject to the rules of the PCAOB. b. Not only is the auditor asserting that the financial statements are presented fairly in conformity with U.S. GAAP (paragraph 3) but also gives an unqualified opinion on the company's internal control over financial reporting. i. This additional assurance provides the reader with another reason to place reliance on the accompanying financial statements.

Net Working Capital

= current assets - current liabilities

Sole proprietorship

A business that has not been incorporated is legally with (one owner) or a partnership (more than one owner). Rarely sell capital shares without the legal authority of incorporation, a clear distinction between owner and business often does not exist.

American Institute of Certified Public Accountants (AICPA):

A national professional organization of CPAs.

Accounting Equation:

Assets = Liabilities + Owner's Equity

Economic Entity

Conceptual Framework of financial accounting (assumption) Assumes that the business is separate from its owners or other businesses. Revenues and expenses should be kept separate from personal expenses. This applies even for partnerships and sole proprietorships. As corporates, they are considered separate legal entities. Accounting process records only those activities that can be expressed in monetary terms (with some exceptions, as in cost-accounting); Monetary measurement: only the activities measurable in terms of money should be recorded.

"Comparability and Consistency"

Conceptual Framework of financial accounting (qualitative characteristic of financial information) Comparability, Entities; Consistency; Periods

"Relevance and Reliability"

Conceptual Framework of financial accounting (qualitative characteristic of financial information) Whether users consider the information in an entity's financial report to be credible will depend heavily on their view of the trustworthiness of the entity's management and its board of directors, as well as on their view of the relevance of the information in the report and the degree to which it faithfully represents the underlying economic phenomena.

Public Company Accounting Oversight Board (United States):

Controls the standards for auditing procedures.

Internal controls

Extra procedures are built into every financial accounting system by management to help ensure that every operation is performed as intended and the resulting financial data are reliable.

FASB Accounting Standards Codification

FASB produces accounting rules to be applied by all for-profit and not-for-profit organizations in the United States. State and local governments follow accounting standards produced by the • Created to serve as the single source of authoritative nongovernmental U.S. generally accepted accounting principles (U.S. GAAP). All previous individual rules that had been created over the decades were reclassified into a more logical framework

Liabilities

Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events. o A probable future sacrifice of economic benefits arising from present obligations but, for coverage here, liabilities can certainly be viewed as the debts of the organization. • Tax obligations, interest, inventory cost, balances to be paid to employees, utility costs, ads, ect

Equity/ Capital stock:

Shareholders or stockholders are considered as legal entities completely distinct from the multitude of individuals and organizations that possess their ownership shares, and these ownership shares are forms of stock in the company.

Public Company Accounting Oversight Board (PCAOB):

The PCAOB was brought into existence by the U.S. Congress through Sarbanes-Oxley Act • The PCAOB was established under the oversight and enforcement authority of the SEC. It holds wide-ranging powers that include the creation of official guidelines for the performance of a proper audit. Its mission is stated as follows: "The PCAOB is a private-sector, nonprofit corporation, created by the Sarbanes-Oxley Act of 2002, to oversee the auditors of public companies in order to protect the interests of investors and further the public interest in the preparation of informative, fair, and independent audit reports."

Internal Control—Integrated Framework:

issued by the Committee of Sponsoring Organizations of the Treadway Commission, which dictates how/ what internal controls are needed

Financial Accounting Objectives

people are trying to o (1) estimate the price of the cororation's stock in the future with financial accounting o (2) estimate the amount of cash dividends that will be paid over time with financial accounting o (3) estimate future ability to generate suffiecient cash to meet debts as they mature with financial accounting

Types of Financial Statements:

• Income statement (also called a statement of operations or a statement or earnings) [3] • Statement of retained earnings (or the more inclusive statement of stockholders' equity) • Balance sheet (also called a statement of financial position) • Statement of cash flows

Sarbanes-Oxley Act of 2002

a measure passed in response to a number of massive accounting scandals, including Enron and WorldCom. • Members of Congress apparently felt that the auditing profession had failed to provide adequate protection for the decision makers who were relying on published financial information. • Consequently, the federal government became more involved. * If an audit is performed on financial statements that are produced by an organization that does not issue securities to the public, the PCAOB holds no authority.

4 types of adjusting journal entries:

1. Accrued expenses (also referred to as accrued liabilities) 2. Prepaid expenses 3. Accrued revenue 4. Unearned revenue (also referred to as deferred revenue)

Financial Analysis Steps and Stages:

1. An analysis of each transaction to determine the financial changes that took place. Was revenue earned? Did a liability increase? Has an asset been acquired? 2. After the effect on all account balances is ascertained, the recording of a transaction is relatively straightforward. T a. The changes caused by most transactions—the purchase of inventory or the signing of a note, for example—can be determined quickly. b. For accrued expenses, such as salary or rent that grow over time, the accounting system can record the amounts gradually as incurred or only at the point of payment. ** part of the general stages of the double entry bookkeeping method

EDGAR (Electronic Data Gathering and Retrieval):

All such financial statements and other released information must conform to the rules and regulations of the SEC. * Legally, the SEC has the ability to establish accounting rules for all companies under its jurisdiction simply by stating that certain information must be presented in a particular manner in the public filings that it requires. (Though it doesn't and allows FASB to do so) Some view this as an abdication of an important responsibility by the federal government. The assumption underlying this decision by the SEC is that the members of FASB can be trusted to study each issue meticulously before arriving at a reasoned resolution

Audit:

An (examination) of the financial statements, Report on whether sufficient supporting evidence was gathered to enable the auditor to provide reasonable assurance that the statements are presented fairly because they contain no material misstatements according to U.S. GAAP. The report is essential to the integrity of the reporting process. It provides the auditor's expert opinion as to whether decision makers should feel safe in relying on the financial information to make their decisions. The report is a legal requirement for statements provided to the SEC.

Compare the Cash and Accrual basis of Accounting

Cash basis accounting is a very simple form of accounting. When a payment is received for the sale of goods or services, a deposit is made, and the revenue is recorded as of the date of the receipt of funds — no matter when the sale was made. Checks are written when funds are available to pay bills, and the expense is recorded as of the check date — regardless of when the expense was incurred. The primary focus is on the amount of cash in the bank, and the secondary focus is on making sure all bills are paid. Little effort is made to match revenues to the time period in which they are earned, or to match expenses to the time period in which they are incurred. Accrual basis accounting matches revenues to the time period in which they are earned and matches expenses to the time period in which they are incurred. While it is more complex than cash basis accounting, it provides much more information about your business. The accrual basis allows you to track receivables (amounts due from customers on credit sales) and payables (amounts due to vendors on credit purchases). The accrual basis allows you to match revenues to the expenses incurred in earning them, giving you more meaningful financial reports.

Auditing Standards Board (ASB)

Officially sets the rules for an appropriate audit. The ASB is a technical committee within the (AICPA),

Comprehensive Income

The change in equity of a business enterprise during a period from transactions and other events and circumstances from nonowner sources. It includes all changes in equity during a period except those resulting from investments by owners and distributions to owners.

Cash basis accounting

We record revenue when received and expenses when paid. This is not a generally accepted accounting principle.

What are retained earnings and on what financial sheet are they found?

* Retained earnings: All the net income earned by the organization over its life less amounts distributed as dividends to owners. Companies that seek to grow must be able to generate resources from owners, operations, or both. - Retained Earnings is increased by Net Income and decreased by Net Loss. - Retained Earnings is decreased by dividends. - These changes to Retained Earnings are only reflected in the accounting system by recording and posting the closing entries. Statement of Retained Earnings: - The total amount of net income reported by a company since it first began operations, less all dividends paid to stockholders during that same period. • Thus, the figure provides a measure of the profits left in a business throughout its history to create growth. • Total net income since 1st operations- all dividends paid during the same time period = • Retained Earnings - The retained earnings figure informs decision makers of the amount of that internally generated expansion. The reported balance answers the question: How much of the company's net assets have been derived from operations during its life?

Income statement or Statement of earnings:

- A financial report that communicates the revenues & gains earned less expenses & losses incurred over a specific period of time. Revenues Gains Expenses Losses If (rev + gains) > (exp + losses), then excess = Net Income

Double-Entry System:

- A method of recording increases and decreases in specific accounts in such a way that if we can prove total debits equal total credits, then we can prove that the accounting equation holds true o (A = L + OE) - Increases and decreases in account balances are indicated through symbols (debits and credits). - Asset accounts are assigned a debit normal balance; liabilities and owners' equity accounts are assigned a credit normal balance.

Closing Entries Summary:

- After closing entries have been recorded, o Impact of Net Income is calculated into Retained Earnings o Impact of Dividends is calculated into RE - All Revenue, Gain, Expense, & Loss accounts are dropped to zero and ready for use in the next period so that we can calculate net income for next period.

Trial Balance:

- Is a report that lists all of the company's accounts and their corresponding debit or credit balances. There are three columns, one for the account name, one titled "Debit", and one titled "credit" o The total debits must equal the credits or an error has been made in the books • If the totals equal, there may still be an undetected error. i.e. posting the entry twice Financial Statements:

Balance Sheet: (organization + relationship between each)

- Measure of this inflow is usually labeled something like capital stock, common stock, or contributed capital. o The reported amount indicates the portion of the net assets that came into the business directly from stockholders. - The amount of a company's net assets is the excess of its assets over its liabilities. Two reported balances indicate the primary source of those net assets: * Capital stock (or contributed capital): The amount invested in the business by individuals and groups in order to become owners. * Retained earnings: All the net income earned by the organization over its life less amounts distributed as dividends to owners. Companies that seek to grow must be able to generate resources from owners, operations, or both. - A corporation issues (sells) ownership shares to investors. The source of the resulting inflow of assets into the business is reflected on its balance sheet by the reporting of a capital stock (or contributed capital) balance. Source of a company's net assets (assets minus liabilities): of interest to outside decision makers. The reported retained earnings figure indicates the amount of these net assets that came from the operations of the company. o This growth in size was internally generated. Retained earnings: Is all the net income earned since operations began less all dividend distributions. Net assets: Can also be derived from contributions to the company made by parties seeking to become owners. Capital stock (or contributed capital) balance: Measures the source of net assets. To impact the company, the assets must come directly from the owners. o Hence, exchanges between investors on a stock exchange do not affect the company's net assets or its financial reporting.

Accounting Cycle:

- Once the Trial Balance is prepared we 1. Review account balances and adjust for accruals and deferrals. Develop Adjusting Journal Entries (AJE) 2. Post AJEs and prepare adjusted trial balance 3. Prepare draft financial statements 4. Prepare closing entries and post to ledger 5. Prepare post-closing trial balance - Go back to beginning

Accounts that are not Closed during Closing Entries:

- Only the accounts that affect Net Income and Retained Earnings are "closed" (Dropped to zero and amounts transferred.) - Assets, Liabilities and Owners' Equity accounts keep their balances and are not routinely closed

Income Accounts: Double Entry Accounting System (*analysis)

- Owners' Equity is affected by Rev, Exp, • Gains, Losses and Dividends. o If O/E has a normal Credit balance, then Rev & Gains have normal credit balances. They ultimately increase O/E if greater than expenses and losses. o Expense, losses, and Dividends have normal debit balances. • They ultimately decrease O/E if they exceed rev and gains. - Total debits must equal total credits

Retained Earnings & Closing Procedures:

- Retained Earnings is increased by Net Income and decreased by Net Loss. - Retained Earnings is decreased by dividends. - These changes to Retained Earnings are only reflected in the accounting system by recording and posting the closing entries.

Statement of Retained Earnings (organization + relationship between each)

- The total amount of net income reported by a company since it first began operations, less all dividends paid to stockholders during that same period. • Thus, the figure provides a measure of the profits left in a business throughout its history to create growth. • Total net income since 1st operations- all dividends paid during the same time period = • Retained Earnings - The retained earnings figure informs decision makers of the amount of that internally generated expansion. The reported balance answers the question: How much of the company's net assets have been derived from operations during its life?

Explain the Sequential process or Steps of the Accounting Cycle.

10 Steps/ Stages: 1. Business transaction occurs 2. Analyze and record the transaction- placed in the journal by account name 3. Post transaction info from the journal to the ledger 4. Prepare a trial balance a. Lists balances in the accounts of the general ledger in order of: i. Assets, Liabilities, Owner's Equity, Revenue, and Expense accounts 5. Adjusting Entries a. Completed at the end of the accounting period to match the proper revenue with expense b. Prepayments: i. Expenses: 1. For expenses paid in cash and recorded as an asset before they are used ii. Revenues 1. Unearned revenue for revenues received in cash and recorded as liabilities before they are earned c. Accrual i. Expenses 1. For expenses incurred byut not yet paid in cash or recorded ii. Revenues 1. For revenues earned but not yet recorded or received in cash 6. Post adjusting Journal entries to Ledger a. Prepare an adjusted Trial Balance 7. Closing entries a. Close all temporary accounts- zero them out 8. Post Closing entries from journal to ledger 9. Prepare a post-closing trial balance 10. Prepare Financial Statements a. Income statement, Statement of O/E, Balance sheet

What are the components of an independent Auditor's report?

7 Main Parts: 1. Title - Public company reports are required to begin with a title that references the "Independent Registered Public Accounting Firm". Reports for nonpublic companies may contain titles such as "Independent Auditors Report, or "Report of the Independent Auditor". 2. Addressee - This is the individual, group, entity, board of directors, and/or stockholders who retained the services of the auditor. 3. Introductory Paragraph - This paragraph must state three things: "which financial statements are covered by the report, that the statements are the responsibility of management, and that the auditor has a responsibility to express an opinion" (Messier et al., 2006, p. 50). 4. Scope Paragraph - This paragraph states what is involved in the audit. For public companies the scope paragraph states that the audit was performed in accordance with Public Company Accounting Oversight Board (PCAOB) standards, and for nonpublic companies it states that the audit was performed in accordance with generally accepted auditing standards (GAAS). The scope paragraph must also state "that the audit provides only reasonable assurance that the financial statements contain no material misstatements,...that an audit involves an examination of evidence on a test basis,... 5. Opinion Paragraph - This paragraph expresses the auditor's opinion in regard to the fairness of the financial statements based upon evidence obtained through the audit. 6. Name of Auditor - This is the name of the CPA firm that conducted the audit, along with a manual or printed signature of the auditor. 7. Date of Report - This is "the date on which the auditor has completed all significant auditing procedures" (Messier et al., 2006, p. 52).

General Ledger:

A book, which contains all of the accounts used by a business. o The chart of accounts represents the "table of contents" for the general ledger. • Each page in the general ledger represents a specific T-account in a two-column or four-column format. • All information in the Ledger is FROM the Journal.

Balance Sheet

A financial report, which communicates the assets, liabilities, and owners' equity as of a specific point in time. - Assets (cash, accounts receivable, supplies...) - Liabilities (accounts payable, notes payable...) - Owners' Equity - The Balance Sheet illustrates the accounting equation: - Assets = Liabilities + Owners' Equity. *Balance Sheet is also called the Statement of Financial Position

Accrued expenses (accrued liabilities)

A form of Adjusting journal entry 1. An accrued expense is one that increases gradually over time. a. reduces the need for separate adjusting entries. b. Ex: salary, rent, insurance, utilities, interest, advertising, income taxes, ect...

Accrued revenue

A form of Adjusting journal entry 1. No asset changes hands at the start of this task. Thus, the company's accounting system is not likely to make any entry until payment is eventually received. a. Recorded when the money is paid and the money is "substantially" earned. 2. The time at which this benchmark is achieved often depends on whether a single job or a collection of independent tasks is under way. Relies heavily on professional judgment.

Unearned revenue (deferred revenue)

A form of Adjusting journal entry 1. Some companies operate in industries where money is received first and then earned gradually over time. a. Newspaper and magazine businesses, for example, are paid in advance by their subscribers and advertisers. 2. The earning process becomes substantially complete by the subsequent issuance of their products. a. Unearned Revenue was recorded as a liability for X amount (on the balance sheet), then in AJB becomes revenue on the income statement

Income Statement + Accounts (organization + relationship between each)

A listing of all revenues earned and expenses incurred by the reporting organization during the period specified. (Revenues, Expenses, Gains, and Losses) • The order of an income statement is : • Revenues-> Expenses -> Gains -> Losses-> Income tax listed last • * Dividends are not expenses or revenues therefore they aren't reported on the income statement - Revenue figures disclose increases in net assets (assets minus liabilities) that were created by the sale of goods or services resulting from the primary operations of the organization. - Expenses are decreases in net assets incurred by a reporting company in hopes of generating revenues. • Ex: salaries paid to sales people for the work they have done constitute an expense. • The cost of facilities that have been rented is also an expense as is money paid for utilities, such as electricity, heat, and water. - Gains: an increase in the net assets of an organization created by an occurrence outside its primary or central operation. • Ex: When Apple sells a computer to a customer, it reports revenue but if the company disposes of a piece of land adjacent to a warehouse, it reports a gain (if sold above cost) or a loss (if sold below cost). • Selling computers falls within Apple's primary operations whereas selling land does not. - Losses a decrease in net assets from a similar type of incidental event. ** The timing of expense recognition is not tied to the payment of cash but rather to the loss of an asset - Ex: grocery store pays 2$ for a box of cookies mon Monday and then sells it to a cutomer for 3$ on Friday • The income statement will show revenue of 3$ (the increase in the net assets created by the sale), 2$ for the cost of goods sold (the decrease in net assets resulting from the sale). • Both revenue and related expense are recorded that Friday when the sale took place

Explain the accounting equation.

Assets = Liabilities + Stockholders' Equity Assets = Liabilities + Common Stock + Retained Earnings Assets = Liabilities + Common Stock + Net Income - Dividends Assets = Liabilities + Common Stock + Income - Expenses - Dividends The balance sheet is a complex display of this equation, showing that the total assets of a company are equal to the total of liabilities and shareholder equity. Any purchase or sale by an accounting equity has an equal effect on both sides of the equation, or offsetting effects on the same side of the equation. The accounting equation is also written as Liabilities = Assets - Shareholder Equity and Shareholder Equity = Assets - Liabilities. Read more: http://www.investopedia.com/terms/a/accounting-equation.asp#ixzz1nD1Jogxe

Time periods

Conceptual Framework of financial accounting (assumption) Assumes that the business operations can be recorded and separated into different periods (most common periods are months, quarters and years). This is required for comparison between present and past performance.

Principle of Conservatism:

Conceptual Framework of financial accounting (concept) Conservatism holds that whenever an accountant faces two or more equally likely possibilities, the one that makes the company look worse should be selected. In other words, financial accounting attempts to ensure that a reporting organization never looks significantly better than it actually is. - If a cost has been incurred that might have either a future value (an asset) or a past value (an expense), the accountant always reports the most likely possibility. That is the only appropriate way to paint a portrait of an organization that is the fairest representation. • However, if neither scenario appears more likely to occur, the cost is classified as an expense rather than an asset because of the principle of conservatism. - Reporting a past benefit rather than a future benefit has a detrimental impact on the company's appearance to an outside party. • This handling reduces the reported net income as well as the amount shown as the total of the assets.

Materiality

Conceptual Framework of financial accounting (concept) the concept that requires data presented by an organization, to decision makers, should never contain any material misstatements. - this is the basic standard for the required level of accuracy. Decision makers want financial statements—such as those prepared by Starbucks or Intel—to contain no material misstatements.

Revenue Recognition

Conceptual Framework of financial accounting (principle) Requires companies to record when revenue is (1) realized or realizable and (2) earned, not when cash is received. This way of accounting is called accrual basis accounting.

Accrued expenses:

Costs such as salary, rent, or interest increase gradually over time An accounting system can be mechanically structured to record such costs in either of two ways. The results are the same but the steps in the process differ. Some companies simply ignore accrued expenses until paid. At that time, the expense is recognized and cash is reduced. No liability is entered into the accounting system or removed. Because the information provided above indicates that nothing has been recorded to date, this approach is used here. Other companies choose to program their computer systems so that both the expense and the related liability are recognized automatically as the amount grows. For salary, as an example, this increase could literally be recorded each day or week based on the amount earned by employees. At the time payment is finally conveyed, the expense has already been recorded. Thus, the liability is removed because that debt is being settled

Losses

Decreases in equity (net assets) from peripheral or incidental transactions of an entity and from all other transactions and other events and circumstances affecting the entity except those that result from expenses or distributions to owners.

Financial Accounting Standards Board:

FASB: an independent group supported by the U.S. government, various accounting organizations, and private businesses. In control of the GAAP. It is charged with establishing and improving the standards by which businesses and not-for-profit organizations (such as charities) produce the financial information that they distribute to decision makers.

Incorporation

In the United States, as well as in many other countries, owners of a business or other type of organization can apply to the state government to have it identified as an entity legally separate from its owners. Therefore, a corporation is an organization that has been formally recognized by the government as a legal entity.

Gains

Increases in equity (net assets) from peripheral or incidental transactions of an entity and from all other transactions and other events and circumstances affecting the entity except those that result from revenues or investments by owners.

Who are the main users of Financial Information?

Internal Users: The internal users of financial statements are individuals who have direct bearing with the organization. They may include: {Managers and Owners:} For the smooth operation of the organization, the managers and owners need the financial reports essential to make business decisions. So as to provide a more comprehensive view of the financial position of an organization, financial analysis is performed with the information supplied in the financial statements. The financial statement is used to formulate contractual terms between the company and other organizations. A variable of the financial statement like the current debt to equity ratio is important in deciding the amount of long term capital that would be required to be raised. The financial statements of other companies can also provide investment solutions to different companies. Sometimes it becomes difficult to decide the right field in which financial resources may be channelised. In such situations the financial statements of other companies provide the appropriate guideline. {Employees:} The financial reports or the financial statements are of immense use to the employees of the company for making collective bargaining agreements. Such statements are used for discussing matters of promotion, rankings and salary hike. [External Users:] The external users comprise of: Institutional Investors: The external users of financial statements are basically the investors who use the financial statements to assess the financial strength of a company. This would help them to make logical investment decisions. [Financial Institutions:] The users of financial statements are also the different financial institutions like banks and other lending institutions who decide whether to help the company with working capital or to issue debt security to it. [Government:] The financial statements of different companies are also used by the government to analyze whether the tax paid by them is accurate and is in line with their financial strength. [Vendors:] The vendors who extend credit to a business require financial statements to assess the creditworthiness of the business. [General Mass and Media:] The common people as well as media also make part of the users of financial statements.

Financial Reporting

Objectives: to provide information: - Useful in investment & credit decisions, - Useful in assessing future cash flows, and - About a company's resources (assets), claims to resources (liabilities), and changes in them Forms of Financial Reporting: Statements/ Annual Reports Statements: - Income Statement (Rev., Gains, Exp., Losses) - Statement of Owners' Equity - Balance Sheet (Assets, Liabilities, Owners' Equity) - Statement of Cash Flow Annual Reports: - * includes what is in the "statements" and more

Assets

Probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. o A future economic benefit that an organization either owns or controls.

Inventory

in financial accounting), refrigerators, shopping carts, delivery trucks, and the shelves and display cases.

Income tax placement

income tax is placed last on the income statement (often separated), because it is not an expense in the traditional sense meaning that it is an expense related to the production/ sale of a good but rather dictated by the profitability of the company as a whole

Revenues

inflows or other enhancements of assets of an entity or settlements of its liabilities (or acombination of both) from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major or central operations. o A measure of the financial impact on a company resulting from a particular process. This process is a sale. • Ex: The company receives an asset, possibly a $20 bill. This $20 asset inflow into the company results from a sale and is called revenue. o Revenue is not an asset; it is a measure of the increase in the company's net assets that results from sales of inventory and services.

What is the purpose of an independent Auditor's report?

is a formal opinion, or disclaimer thereof, issued by either an internal auditor or an independent external auditor as a result of an internal or external audit or evaluation performed on a legal entity or subdivision thereof (called an "auditee"). The report is subsequently provided to a "user" (such as an individual, a group of persons, a company, a government, or even the general public, among others) as an assurance service in order for the user to make decisions based on the results of the audit. An auditor's report is considered an essential tool when reporting financial information to users, particularly in business. Since many third-party users prefer, or even require financial information to be certified by an independent external auditor, many auditees rely on auditor reports to certify their information in order to attract investors, obtain loans, and improve public appearance. **Some have even stated that financial information without an auditor's report is "essentially worthless" for investing purposes.

Accounts payable:

is often used in financial accounting to represent debts resulting from the acquisition of inventory and supplies.

What is the purpose of GAAP (Generally Accepted Accounting Principles) and IFRS (International Financial Reporting Standards)

provides authoritative guidance and standardization for financial accounting. Most laws and regulations it has create are relatively new within the last 30 yrs. FASB controls these rules. Accounting Standards Codification- In 2009, FASB combined all authoritative accounting literature into a single source for U.S. GAAP (the A.S.C.). By bringing together hundreds of official documents, FASB has made U.S. GAAP both more understandable and easier to access. Multiple sources have been woven together in a logical fashion so that all rules on each topic are in one

Managerial Accounting

second branch of accounting refers to the communication of information within an organization so that internal decisions (such as whether to buy or rent a building) can be made in an appropriate manner. o Individuals studying an organization as a whole have different goals than do internal parties making operational decisions. Thus, many unique characteristics

Financial Reports: (list)

1. Income Statement 2. Statement of Owners' Equity 3. Balance Sheet 4. Statement of Cash Flows

NASDAQ (National Association of Securities Dealers Automated Quotation Service):

(NY stock exchange) where stocks are sold and individuals buy shares. The stock market matches up these buyers and sellers at a mutually agreed upon price that can be negotiated. Many factors determine stock prices though often it is the perception of the stock value that causes it to fluctuate {perceived quality, viability of company's industry, historical trend in profitability, quality of company management} - People are trying to o (1) Estimate the price of the corporation's stock in the future with financial accounting o (2) Estimate the amount of cash dividends that will be paid over time with financial accounting

Industry Practice

Conceptual Framework of financial accounting (concept) The peculiar nature of some industries and business concerns sometimes requires departure from basic accounting theory.

Comprehensive income

..., Change in equity (net assets) of an entity during a period from transactions and other events and circumstances from nonowner sources. It includes all changes in equity during a period except those resulting from investments by owners and distributions to owners.

Stages of the Double Entry Bookkeeping method:

1. Analyze a. Analyze each transaction— i. every event that has a monetary impact on the organization— 1. to ascertain the changes created in accounts such as rent expense, cash, inventory, and dividends paid. b. 2 Accounts are always affected 2. Record a. Journal entry: an 'diary' of the company's cash and asset flow i. Each debt and credit column must balance ii. Trial balance: the first listing of accounts is commonly before any adjusting entries Accrual accounting: serves as the basis for timing the reporting of revenues and expenses. (complicated and controversial) in accounting. The accountant must always determine the appropriate point in time for reporting each revenue and expense. Determined by the U.S GAAP. 2 Distinct compoents: • Revenue realization principle. o Revenue is properly recognized at the point that: • (1) the earning process needed to generate the revenue is substantially complete and • (2) the amount eventually to be received can be reasonably estimated. • Matching principle. o Expenses are recognized in the same time period as the revenue they help create. Thus, if specific revenue is to be recognized in the year 2019, any associated costs should be reported as expenses in that same time period. o Expenses are matched with revenues. • However, when a cost cannot be tied directly to identifiable revenue, matching is not possible. • In those cases, the expense is recognized in the most logical time period, in some systematic fashion, or as incurred—depending on the situation. Summation: Revenues are recognized when the earning process is substantially complete and the amount to be collected can be reasonably estimated. Expenses are recognized based on the matching principle, which holds that they should be reported in the same period as the revenue they help generate. b. Journal and Ledger Information Transferal 3. Adjust * Before the adjustments are made, often a 'trial balance' is created. Takes the ending account blances found in the journal and puts them into a trail balance a. Adjusting journal Entries: i. Adjusting Entries: 1. Prior to producing financial statements, the accountant must search for all such changes that have been omitted. These additional increases or decreases are also recorded in a debit and credit format. 2. These adjustments are a prerequisite step in the preparation of financial statements. They are physically identical to journal entries recorded for transactions but they occur at a different time and for a different reason. c. Preparing Financial Statements based on Adjusted Balances i. After all adjusted balances are complete the Adjusted Trial Balance is created. 1. Basic financial statements are then completed by: a. The statement of cash flows. i. In contrast to the previous three, this remaining statement does not report ending ledger account balances but rather discloses the various changes occurring during the period in the composition of the cash account * All cash flows are classified as resulting from operating activities, investing activities, or financing activities. 2. The reporting process is then completed by the preparation of the explanatory notes that always accompany a set of financial statements. 3. Lastly: a. Individual figures are appropriately placed within the first three financial statements. Revenues and expenses appear in the income statement, assets and liabilities in the balance sheet, and so on. 4. Report a. Closing Entries i. Several types of accounts— revenues, expenses, gains, losses, and dividends paid—reflect the various changes that occur in a company's net assets but just for the current period. 1. All of these specific T-accounts must be returned to a zero balance after the annual financial statements are produced. • Final credit totals existing in every revenue and gain account are closed out by recording equal and off-setting debits. • Similarly, ending debit balances for expenses, losses, and dividends paid require a credit entry of the same amount to return each of these T-accounts to a zero balance. ii. After these "temporary" accounts are closed at year's end, the resulting single figure is the equivalent of the net income reported for the year less dividends paid. 1. This net effect is recorded in the retained earnings T-account. iii. The closing process effectively moves the balance for each revenue, expense, gain, loss, and dividend paid into retained earnings

Sections of cash flows

1. Operating activities a. Cash collected from customer sales, cash paid for operating expenses, interest income collected 2. Investing activities a. Purchase or sales of PPE, stocks another co. 3. Financing activities a. Pay dividends, issue stock, borrow $

Statement of Cash Flows:

A financial report which communicates the activity of a company's cash flows over a period of time. Cash flow activity is divided into three main categories: 1. Operating activities - of interest to short-term creditors 2. Investing activities - of interest to whom? 3. Financing activities -of interest to whom? cash flow over a period of time. • Cash flow activity is divided into three main categories: • Cash flow generated by operating activities • Cash flow generated by investing activities • Cash flow generated by financing activities * Beginning cash balance is reported, activity by category, and then ending cash balance is presented.

Prepaid expenses

A form of Adjusting journal entry 1. Over that time, the future economic benefit established by the payment gradually becomes a past benefit.

Going Conscern

Conceptual Framework of financial accounting (assumption) Accountants assume, unless there is evidence to the contrary, that a company is not going broke. This has important implications for the valuation of assets and liabilities. In the absence of persuasive evidence to the contrary, financial accounting assumes the continuation of an entity as a going concern. This means that in preparing the entity's financial statements it is assumed that there is no intention or necessity to liquidate the entity. In addition, the going concern concept has an important bearing on financial accounting and the financial statements of the accounting unit. In so far as the entity is conceived of as a continuous stream of activities, it is the task of financial accounting to make the most significant measurements possible of the continuous flow of the entity activities. Under this concept, the most significant measurements possible of the continuous flow of the entity activities are those pertaining to allocating its efforts and accomplishments as between the present and future and matching those efforts and accomplishments. Breaking up these continuous streams of activities into periodic streams between the present and the future severs many real connections and tends to give an impression of high degree of certainty with respect to the figures presented in the financial statements.

Monetary Unit

Conceptual Framework of financial accounting (assumption) Financial accounting uses monetary units of a given currency as a common denominator to express the basic elements of financial statements. The use of monetary units as a means of expressing the basic elements of financial statements is a prerequisite for measuring the financial position, results of operations and other changes in the financial position of an accounting entity during a specific period. The use of monetary units as a means of expressing the basic elements of financial statements may raise a question regarding the stability of the measurement unit in view of a change in its purchasing power. For example, the purchasing power of a monetary unit decreases during a period experiencing an increase in the general price level (inflation) and increases during a period experiencing a decrease in the general price level (deflation). For purposes of financial accounting, the stability of the purchasing power of the monetary unit is assumed.

Matching

Conceptual Framework of financial accounting (principle) The entity's net income or net loss for a period of time should be determined by matching revenues and gains with expenses and losses that relate to that period of time in accordance with the basic principles of accounting recognition. The matching concept is supported by the Islamic concept of assigning the responsibility of the cost to the recipient of the benefit. ** Expenses have to be matched with revenues as long as it is reasonable to do so. Expenses are recognized not when the work is performed, or when a product is produced, but when the work or the product actually makes its contribution to revenue. Only if no connection with revenue can be established, cost can be charged as expenses to the current period (e.g. office salaries and other administrative expenses). This principle allows greater evaluation of actual profitability and performance (shows how much was spent to earn revenue). Depreciation and Cost of Goods Sold are good examples of application of this principle.

Historical Cost

Conceptual Framework of financial accounting (principle) The historical cost of an asset refers to cash or its cash equivalent paid or received or the fair value of the consideration given to acquire the asset. The historical cost of a liability refers to the amount received by the entity when the liability was incurred or cash or cash equivalent expected to be paid..

Full Disclosure

Conceptual Framework of financial accounting (principle) providing information that is of sufficient importance to influence the judgment and decisions of an informed user.

"Representational faithfulness and Presents fairly"

Conceptual Framework of financial accounting (qualitative characteristic of financial information) Commonly used to indicate that reported financial information successfully provides a reasonable picture of the financial position, operations, cash flows, and overall economic vitality of a reporting organization With this convention, accounts recognise transactions (and any profits arising from them) at the point of sale or transfer of legal ownership - rather than just when cash actually changes hands. For example, a company that makes a sale to a customer can recognise that sale when the transaction is legal - at the point of contract. The actual payment due from the customer may not arise until several weeks (or months) later - if the customer has been granted some credit terms.

Why are dividends not considered an expense?

NOT reported on the income statement.

Expenses

Outflows or other using up of assets or incurrences of liabilities (or a combination of both) from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity's ongoing major or central operations. o An outflow or reduction in net assets that was incurred by an organization in hopes of generating revenues. o In some ways, expenses are the opposite of revenues that measure the inflows or increases in net assets created by sales. Expense figures reflect outflows or decreases in net assets incurred in hopes of generating revenues.

Owner Distributions

Payment of earnings to owners of a business organization in the form of a dividend. A dividend is a distribution to a corporation's stockholders usually in cash; sometimes in the corporation's stock, called a stock dividend ; and much less frequently in property (usually other securities), called a dividend in kind.

3 types of Business Organizations

Sole Proprietorship, Partnership, and Corporation

Statement of Owners' Equity:

Statement of Owners' Equity: - A financial report, which communicates activity of the owners' equity over a period and the balance at a specific point in time. o Add owners' investments (increase in stock) o Add net income/deduct net income o Deduct dividends or "distribution to owners" • = Ending Balance in "Capital Account" or Equity. - *Our text illustrates a section of this statement called statement of Retained Earnings. A financial report which communicates activity of the owners' equity over a period and the balance at a specific point in time. +Beginning Balance in "Capital Accounts" plus owners' investment plus net income/less net income less dividends or "distribution to owners" = Ending Balance in "Capital Accounts"

Financial Accounting

The communication of information about a business or other type of organization (such as a charity or government) so that individuals can assess its financial health and prospects. - sets the standards so that 'information' can be easily explained and transferred - people are trying to o (1) estimate the price of the cororation's stock in the future with financial accounting o (2) estimate the amount of cash dividends that will be paid over time with financial accounting o (3) estimate future ability to generate suffiecient cash to meet debts as they mature with financial accounting Organization-> reports information based on the principles of financial Accounting-> individual assesses finanical health

Explain the double-entry accounting system.

The double-entry bookkeeping system is a set of rules for recording an entity's financial transactions so that the balance between the value of the entity's assets and the claims over those assets by the entity's owners, funders and creditors, is constantly maintained. To achieve this, a debit and a credit entry of equal value must to be made for every financial transaction. Hence the double-entry.

Explain the Accrual-basis of Accounting.

The most commonly used accounting method, which reports income when earned and expenses when incurred, as opposed to cash basis accounting, which reports income when received and expenses when paid. Under the accrual method, companies do have some discretion as to when income and expenses are recognized, but there are rules governing the recognition. In addition, companies are required to make prudent estimates against revenues that are recorded but may not be received, called a bad debt expense.

Accrual basis vs. Cash Basis accounting

a. Accrual basis accounting means that we record revenue when earned and record expenses incurred while rendering services or producing goods. Supports the Matching Principle i. (We match expenses with revenue of same time period) b. Cash basis accounting means that we record revenue when received and expenses when paid. This is not a generally accepted accounting principle.

Misstatement

an error (made accidentally) or fraud (done intentionally) where reported figures or words actually differ from the underlying reality. A misstatement is judged to be material if it is so significant that its presence would impact a decision made by an interested party. Financial info almost always contains small misstatements * why accountants never state that the financial information is correct accurate or exact.

Transactions

any event that has a financial impact on a company. Large organizations participate in literally millions of transactions each year that must be gathered, sorted, classified, and turned into a set of financial statements that cover a mere four or five pages.

Cost and asset Relationship:

costs and assets can be classified as either or though a cost is identified as an asset if the benefit clearly has value in generating future revenues for the company, where as an expense is a cost that has already helped to earn revenues in the past

Distributions / Dividends

decreases in equity of a particular business enterprise resulting from transferring assets, rendering services, or incurring liabilities by the enterprise to owners. Distributions to owners decrease ownership interest (or equity) in an enterprise. Many, not all corporations pay cash to their stockholders periodically as a reward for being an owner of a business that is prospering. It is not a required payment; it is a sharing of profits with the stockholders. The board of directors determines whether to pay dividends. Some boards prefer to leave money within the business to stimulate future growth and additional profits. Depending on investment strategy some investors acquire ownership shares almost exclusively in hopes of benefiting from the potential for significant appreciation of stock prices. Another large segment of the investing public is more interested in the possibility of dividend payments. • the two possible benefits of investment besides gaining control over a company are to accrue: appreciation in the value of the stock price and cash dividends.

U.S GAAP:

generally accepted accounting principles: created over decades to provides authoritative guidance and standardization for financial accounting. Most laws and regulations it has create are relatively new within the last 30 yrs. FASB controls these rules.

Securities and Exchange Commission (SEC):

has the ultimate responsibility for the availability of complete and reliable information about every organization that issues publicly traded securities. • The SEC is an independent agency within the federal government established by the Securities Exchange Act of 1934. Its mission "is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation." o Virtually all U.S. companies of any significant size—as well as many foreign companies—fall under the jurisdiction of the SEC because their securities are traded publicly within the United States. • Financial statements and other formal filings have to be submitted regularly to the SEC by these companies so that they can then be made available to the public through a system known as: EDGAR

Journal and Ledger Information Transferal

i. When an expense has already been recorded, what journal entry is appropriate at the time actual payment is made? 1. Because of the previous recognition, the expense should not now be recorded a second time. Instead, this payment reduces the liability that was established by the accounting system. Cash—an asset—is decreased, which is shown by means of a credit. At the same time, the previously recorded payable is removed. Any reduction of a liability is communicated by a debit.

Financial accounting

the subject explored in this textbook. • Encompasses the rules and procedures to convey financial information about an organization. The information derived from this endevor can be used to make decisions on the org's perceived financial health + outlook * cannot address issues that are purely of an internal nature (such as whether or not an org should buy or lease equipment -> managerial accounting does this) • It focuses on conveying relevant data (primarily to external parties) so that decisions can be made about an organization (such as Motorola or Starbucks) as a whole. • Thus, questions such as the following all fall within the discussion of financial accounting: o Do we loan money to Company C? o Do we sell on credit to Company C? o Do we recommend that our clients buy the ownership shares of Company C? * They relate to evaluating the financial health and prospects of Company C as a whole.

Accrual basis accounting

we record revenue when earned and record expenses incurred while rendering services or producing goods. Supports the Matching Principle i. (We match expenses with revenue of same time period)

Long-term capital gain or loss:

what the difference between the buy and sale prices for such investments for income tax purposes Under certain circumstances, significant tax reductions are allowed in connection with long-term capital gains. [4] Congress created this tax incentive to encourage investment so that businesses could more easily obtain money for growth purposes.

General Journal:

• "Book of original entry" • The general journal is a book or document that is used in bookkeeping to record each business transaction that provides useful information per SFAC No. 1. o Each entry represents a sentence. o Each entry affects at least two accounts. o Each entry has at least one debit amount and at least one credit amount. Total debit amount must always equal the total credit amount. o Each entry or transactions affects the accounting equation

T-Account:

• A "T-account" is a diagram shaped like a T, found in the General Ledger. o It is used in bookkeeping to illustrate activity (increases and decreases) within a specific accounting element. • Activity is indicated by codes o debits and credits are the only codes used. A debit does not always indicate an increase. It depends upon the type of account or element. A debit is always on the left side of the T while the credit is on the right. • Every account has a "normal" balance. o It may be a debit or a credit. • Every account belongs to 1 of 6 "element categories" o Asset, Liability, Equity, Revenues, Gains, Expenses, and Losses