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