ACCT 208 CH 2

the stockholders' net claim on total assets; it has 2 components: common stock and retained earnings

Stockholders' equity

identify the assumption or principle that has been violated: Reported at its fair value of $260,000 merchandise inventory with a cost of $208,000.

Historical cost principle

_______ ratios measure the ability of a company to survive over a long period of time.

Solvency

Reports all changes in stockholders' equity accounts including: • Issuance of common stock • Retirement of common stock • Changes in retained earnings

Statement of Stockholders' Equity

Examples of Property, plant, and equipment assets

include land, buildings, machinery, delivery equipment, and furniture and fixtures

Indicate the proper balance sheet classification for the following account: patent

intangible asset

issues standards (IFRS) that have been adopted by many countries outside the US

international accounting standards board (IASB)

examples of long-term investments

investments of stocks and bonds of other corporations

What property, plant, and equipment assets is not depreciated?

land

Indicate the proper balance sheet classification for the following account: building

property, plant, and equipment

Expresses the mathematical relationship between one quantity and another

ratio

A tool that can be used to analyze financial statements and make more meaningful evaluations; Expresses the relationship among selected items

ratio analysis

Information that makes a difference in a decision

relevance

For information to be _____, it should have predictive and confirmatory value.

relevant

If information has the ability to make a difference in a decision scenario, it is _______. • Provides a basis for forecasts • Confirms or corrects prior expectations • Is timely

relevant

Information is free of error and bias

reliability

If information can be depended on, it is ________. • Is verifiable • Is a faithful representation • Is neutral • Comparability

reliable

oversees US financial markets and standard-setting

securities and exchange commission (SEC)

The ability of the enterprise to survive over a long period of time

solvency

provides financial information on sources and uses of a company's cash

statement of cash flows

Free cash flow fails to take into account that a company must...

• Invest in new property, plant, and equipment to maintain its current level of operations and • Maintain dividends at current levels to satisfy investors

the statement of cash flows presents information about cash inflows and outflows from what 3 things?

• Operating activities • Investing activities • Financing activities

earnings retained for use in the business

Retained earnings

Describes the events that caused changes and retained earnings for the period

Retained earnings statement

At December 31, 2014, Shorts Company had retained earnings of $2,184,000. During 2014, the company issued stock for $98,000, and paid dividends of $34,000. Net income for 2014 was $402,000. How much was the retained earnings balance at the beginning of 2014?

$1,816,000

Current liabilities are $10,000, long-term liabilities are $20,000, common stock is $50,000, and retained earnings totals $70,000. How much is total stockholders' equity?

$120,000

For what purpose might a company use free cash flow?

-Pay additional dividends -Pay off debts -Acquire property, plant, and equipment

The business will remain in operation for the foreseeable future

Going concern

A company purchased a tract of land on which it expects to build a production plant on in approximately five years. During the five years before construction, the land will be idle. In what classification should the land be reported?

A long-term investment

How to find retained earnings?

Add net income and subtract dividends from beginning balance of retained earnings to arrive at ending balance of retained earnings

investments of assets by stockholders in the company

Common stock

Different companies use similar accounting principles

Comparability

Allows the accountant to choose the accounting method that will be the least likely to overstate assets and income; Requires that companies write down inventory to market value if it is below cost; Requires that when the market value of inventory exceeds costs, the inventory is not increased but instead it is kept at cost

Conservatism

When preparing financial statements, a company should choose the accounting method that will be least likely to overstate assets or income

Conservatism

Company uses the same accounting methods from year to year

Consistency

______ means using the same accounting principles and methods from year to year within a company.

Consistency

2 types of constraints

Constraints

Companies should record assets at cost

Cost

Which of the following are constraints that allow a company to modify generally accepted accounting principles without jeopardizing the usefulness of the financial statements? -Relevance and faithful representation -Consistency and comparability -Timeliness and neutrality -Cost constraint

Cost constraint

Dictates that assets be recorded at their cost

Cost principle

Assets that are expected to be converted to cash or used in the business within a short period of time, usually one year

Current assets

Obligations that are supposed to be paid within the coming year

Current liabilities

equation for current ratio

Current ratio = current assets / current liabilities

Measures the percentage of assets financed by creditors

Debt to Total Assets Ratio

Debt to Total Assets Ratio

Debt to total assets ratio = total liabilities / total assets

Assumes business will be in existence for the foreseeable future; Allows use of capitalizing cost when recording assets

Going concern assumption

Every economic entity can be separately identified and accounted for

Economic entity assumption

identify the assumption or principle that has been violated: The president of Garcia Co., Sal Garcia, purchased a truck for personal use and charged it to his expense account.

Economic entity assumption

T/F Current assets are economic resources that are expected to be converted to cash or used up by the business within one year or the normal operating cycle, whichever is shorter.

False

T/F Substantial authoritative support for GAAP usually comes from two standards-setting bodies: the FASB and the IRS.

False

Requires all circumstances and events that would make a difference to financial statement users to be disclosed

Full disclosure principle

Are the agreed-upon accounting rules which most US companies use in preparing financial statements

Generally accepted accounting principles

What are the accounting rules that have substantial authoritative support and are recognized as a general guide for financial reporting purposes in the U. S.?

Generally accepted accounting principles

Rights, privileges, and competitive advantages that result from assets that have no physical substance; Non-current assets

Intangible assets

Which one of the following does not affect retained earnings? -Issuance of common stock -Dividends -Net income -Net loss

Issuance of common stock

If a company has the ability to pay obligations that are expected to become due within the next year or operating cycle whichever is longer, what is the term that describes this measure?

Liquidity

Short-term creditors such as bankers and suppliers are most interested in a company's _________ ratios.

Liquidity

The ability to pay short-term obligations as they come due

Liquidity

_______ ratios measure short-term ability to the company to pay its maturing obligations and to meet unexpected needs for cash.

Liquidity

Assets not used in the operations of the business that can be converted to cash in more than one year

Long-term investments

Obligations expected to be paid after one year

Long-term liabilities

Relates to financial statement item's impact on a company's overall financial condition and operations; An item is material if it **can influence the decision of an investor or creditor**; Companies do not have to follow GAAP for small amounts

Materiality

Only transaction data that can be expressed in money is included in accounting records

Monetary unit

Include in the accounting records only those things that can be expressed in terms of money

Monetary unit assumption

Cash inflows and cash outflows associated with the primary operations of the business; Intended to indicate the cash-generating capability of a company

Operating activities

identify the assumption or principle that has been violated: Garcia Co. wanted to make its 2014 income look better, so it added 2 more weeks to the year (a 54-week year). Previous years were 52 weeks.

Periodicity assumption

________ ratios measure the income or operating success of a company for a given period of time.

Profitability

frequently used as a test of managements effectiveness; Creditors and investors are interested in evaluating this

Profitability

Measure the income or operating success of an enterprise for a given period of time

Profitability ratios

Assets with relatively long useful lives that are used in the business

Property, plant, and equipment

determines auditing standards and reviews auditing firms

Public Company Accounting Oversight Board (PCAOB)

The economic life of a business can be divided into artificial time periods

Time period

Allows the life of the business to be divided into artificial time periods. These periods can be months, quarters, semi-annual periods, or annual periods as required by the business to evaluate its operations

Time period assumption

T/F GAAP is a set of rules and practices established by accounting standard-setting bodies to serve as a general guide for financial reporting purposes.

True

Measure of short-term ability to pay obligations; Excess of current assets over current liabilities

Working capital

equation for working capital

Working capital = current assets - current liabilities

Common examples of Current liabilities

accounts payable, wages payable, bank loans payable, interest payable, taxes payable, and current maturities of long-term bank loans payable

Some intangible assets are _______, and charged to the income statement as an expense, to indicate their contribution to the revenue-producing process for the period

amortized

examples of Long-term liabilities

bonds payable, mortgages payable, long-term notes payable, lease liabilities, and obligations under employee pension plans

Examples of current assets

cash, short-term investments, receivables, inventories and prepaid expenses

a company's most liquid asset

cash

Indicate the proper balance sheet classification for the following account: inventories

current asset

Indicate the proper balance sheet classification for the following account: accounts payable

current liability

Measure of short-term ability to pay obligations; More dependable indicator of liquidity than working capital

current ratio

Most property, plant, and equipment assets are _______, and charged to the income statement as an _______, to indicate their contribution to the revenue-producing process for the period.

depreciated; expense

Measures the net income earned on each share of common stock

earnings per share

formula for earnings per share

earnings per share= net income - preferred stock dividends / average common shares outstanding

______ means that information accurately depicts what really happened.

faithful representation

the primary standard-setting body in US

financial accounting standards board (FASB)

Examples of intangible assets

franchises, patents, copyrights, and trademarks or trade names

measurement to provide additional insight regarding a company's cash generating ability

free cash flow

equation of free cash flow

free cash flow= cash provided by operations-capital expenditures-cash dividends

An analysis of the relationship between a company's assets and liabilities provides information about what?

liquidity and solvency

How are current assets listed on the balance sheet?

listed in the order in which the company expects to convert them into cash (order of liquidity)

Indicate the proper balance sheet classification for the following account: bonds payable

long-term liability

A company can change to a new method of accounting if management can justify that the new method results in terms of

more meaningful financial information.

A classified balance sheet generally contains the following standard 7 classifications:

o Current assets o Long-term investments o Property, plant, and equipment o Intangible assets o Current liabilities o Long-term liabilities o Stockholders' equity

To develop accounting standards, the FASB relies on what key assumptions and principles?

o Monetary unit assumption o Economic entity assumption o Time period assumption o Going concern assumption o Cost principle o Full disclosure principle

In order to be useful, financial information should possess what qualitative characteristics?

o Relevance o Reliability o Comparability o Consistency

A classified balance sheet helps users evaluate:

o The company's ability to pay its debt o The claims of short-term and long-term creditors