ACC120 Lecture Notes - Lecture 10: Income Statement, Accounting Equation, Deferral

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20 Nov 2017

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Document Summary

The income statement: surplus (a positive remainder), deficit (a negative remainder), accounting period (changes to net worth tracked for separate periods. ) When preparing an income statement a = l + nw (use the accounting equation). Subtract expenses from (revenue) salary to total show surplus + or a deficit - Any time there is an increase in revenue there is an increase in new worth when looking at the accounting equation. When you have an increase in expenses your net worth will go down. Allows us to track detailed information about the values of individual assets, liabilities and expenses. Cash= increases recorded on the left decreases on the right. Include opening balance add increases, subtract decreases for the end balance. Measures an increase/decrease to net worth, recognizes the revenue and is better to determine net worth. Prepaid expenses arise when expenses are paid for in advance.

Related Questions

I am unsure of what is unclear. The instructions are:

1. Set up a worksheet for the solvency ratios--currentratio and the quick ratio.

2. Compute these ratios for Doctors Smith and Brown. Todo so, you will need one additional piece of information that isnot present on the doctorsâstatements: their maximum annual debt service is$22,200.

Practice Exercise 11âII: Solvency Ratios

Refer to Doctors Smith and Brownâs financial statementspresented in the preceding Chapter 10.

Required

1. Set up a worksheet for the solvency ratios. current ratio and the quick ratio.

The requested information is below:

Exhibit 10-1 Westside Clinic Balance Sheet

Assets	December 31, 20x2		December 31, 20x1

Current Assets
Cash and cash equivalents		$190,000		$145,000
Accounts receivable (net)		250,000		300,000
Inventories		25,000		20,000
Prepaid Insurance		5,000		3,000
Total Current Assets		$470,000		$468,000
Property, Plant, and Equipment
Land	$100,000		$100,000
Buildings (net)	0		0
Equipment (net)	260,000		300,000
Net Property, Plant, and Equipment		360,000		400,000
Other Assets
Investments	$133,000		$32,000
Total Other Assets		133,000		32,000
Total Assets		$963,000		$900,000
Liabilities and Fund Balance
Current Liabilities
Current maturities of long-term debt	$52,000		$48,000
Accounts payable and accruedexpenses	293,000		302,000
Total Current Liabilities		$345,000		$350,000
Long-Term Debt	$252,000		$300,000
Less Current Maturities of Long-Term Debt	?52,000		?48,000
Net Long-Term Debt		200,000		252,000
Total Liabilities		$545,000		$602,000
Fund Balances
Unrestricted fund balance	$418,000		$298,000
Restricted fund balance	0		0
Total Fund Balances		418,000		298,000
Total Liabilities		$963,000		$900,000

Exhibit 10-2 sets out the result of operations for two years,with the most current period in the left column. If the balancesheet is a snapshot, then the statement of revenue and expenses isa diary because it is a record of transactions over the period of ayear. Operating revenues and operating expenses are set out first,with the result being income from operations of $115,000($2,000,000 less $1,885,000). Then other transactions are reported;in this case, interest income of $5,000 under the headingâNonoperating Gains (Losses).â The total of $120,000 ($115,000 plus$5,000) is reported as an increase in fund balance. This figurecarries forward to the next major report, known as the statement ofchanges in fund balance.

STATEMENT OF CHANGES IN FUND BALANCE/NET WORTH

Remember that our formula for a basic statement of revenue andexpense looked like this:

Operating Revenue â Operating Expenses = Operating Income

Exhibit 10-2 Westside Clinic Statement of Revenue andExpenses

	For the Year Ending

Revenue	December 31, 20x2		December 31, 20x1

Net patient service revenue		$2,000,000		$1,850,000
Total operating revenue		$2,000,000		$1,850,000
Operating Expenses
Medical/surgical services	$600,000		$575,000
Therapy services	860,000		806,000
Other professional services	80,000		75,000
Support services	220,000		220,000
General services	65,000		60,000
Depreciation	40,000		40,000
Interest	20,000		24,000
Total operating expenses		1,885,000		1,800,000
Income from Operations		$115,000		$50,000
Nonoperating Gains (Losses)
Interest Income	$5,000		$2,000
Net nonoperating gains		5,000		2,000
Revenue and Gains in Excess of
Expenses and Losses		$120,000		$52,000
Increase in Unrestricted Fund Balance		$120,000		$52,000

The excess of revenue over expenses flows back into equity orfund balance through the mechanism of the statement of fundbalance/net worth. Exhibit 10-3 shows a balance at the first of theyear; then it adds the excess of revenue over expenses (in theamount of $115,000) plus some interest income (in the amount of$5,000) to arrive at the balance at the end of the year.

If you refer back to the balance sheet, you will see the$418,000 balance at the end of the year appearing on it. So we canthink of the balance sheet, the statement of revenue and expenses,and the statement of changes in fund balance/net worth as lockedtogether, with the statement of changes in fund balance being themechanism that links the other two statements.

But there is one more major reportâthe statement of cashflowsâand we will examine it next.

STATEMENT OF CASH FLOWS

To perceive why a statement of cash flows is necessary, we mustfirst revisit the concept of accrual basis accounting. If cash isnot paid or received when revenues and expenses are entered on thebooksâthe usual situation in accrual accountingâwhat happens? Theother side of the entry for revenues is accounts receivable, andthe other side of the entry for expenses is accounts payable. Theseaccounts rest on the balance sheet and have not yet been turnedinto cash. Another characteristic of accrual accounting is therecognition of depreciation. A capital assetâa piece of equipment,for exampleâis purchased for $20,000. It has a usable life of fiveyears. So depreciation expense is recognized in each of the fiveyears until the $20,000 is used up, or depreciated. (Land is anexception to this rule: it is never depreciated.) Depreciation isrecognized within each year as an expense, but it does notrepresent a cash expense. This is a concept that now enters intothe statement of cash flows.

Exhibit 10-4 presents the current period cash flow. In effect,this statement takes the accrual basis statements and converts themto a cash flow for the period through a series of reconcilingadjustments that account for the noncash amounts.

Understanding the cash/noncash concept makes sense of thisstatement. The starting point is the income from operations, thesubtotal from the statement of revenue and expense. Depreciationand interest are added back, and changes in asset and liabilityac-counts, both positive and negative, are recognized. Theseadjustments account for operating activities. Next, capital andrelated financing activities are addressed; then investingactivities are adjusted. The result is a net increase in cash andcash equivalents of $45,000 in our example. This figure is added tothe cash balance at the beginning of the year ($145,000) to arriveat the cash balance at the end of the year ($190,000). Now referback to the balance sheet, and you will find the cash balance isindeed $190,000. So the fourth major reportâthe statement of cashflowsâinterlocks with the other three major reports.

Exhibit 10-3 Westside Clinic Statement of Changes in FundBalance

	For the Year Ending

Statement of Changes in Fund Balance	December 31, 20x2	December 31, 20x1

Balance First of Year	$298,000	$246,000
Revenue in Excess of Expenses	115,000	50,000
Interest Income	5,000	2,000
Balance End of Year	$418,000	$298,000

Exhibit 10-4 Westside Clinic Statement of Cash Flows

Statement of Cash Flows	For the Year Ending

	December 31, 20x2		December 31, 20x1

Operating Activities
Income from operations		$115,000		$50,000
Adjustments to reconcile income from
operations to net cash flows from
operating activities
Depreciation and amortization		40,000		40,000
Interest expense		20,000		24,000
Changes in asset and liabilityaccounts
Patient accountsreceivable		50,000		â250,000
Inventories		â5,000		â5,000
Prepaid expenses andother assets		â2,000		â1,000
Accounts payable andaccrued expenses		â9,000		185,000
Net cash flow from operating activities		$209,000		$43,000
Cash Flows from Noncapital Financing Activities		0		0
Cash Flows from Capital and Related Financing ActivitiesAcquisition of equipment	$ 0		$(300,000)
Proceeds from loan for equipment	0		300,000
Interest paid on long-term obligations	â20,000		0
Repayment of long-term obligations	â48,000		0
Net cash flows from capital and related financing activities		â68,000		0
Cash Flows from Investing Activities
Interest income received	$5,000		$2,000
Investments purchased (net)	â 101,000		0
Net cash flows from investing activities		â96,000		2,000
Net Increase (Decrease) in Cash and Cash Equivalents		$45,000		$45,000
Cash and Cash Equivalents, Beginning of Year		145,000		100,000
Cash and Cash Equivalents, End of Year		$190,000		$145,000

amberdinosaur553

1. Which of the following identifies the proper order of theaccounting cycle?

A. Analyze, Journalize, Unadjusted Trial Balance

B. Analyze, Post, Unadjusted Trial Balance

C. Journalize, Post, Adjusted Trial Balance

D. Unadjusted Trial Balance, Adjusted Trial Balance, Close

E. Adjusted Trial Balance, Adjustments, Financial Statements

2. Interim financial statements refer to financial reports:

A. That cover less than one year, usually spanning one, three orsix-month periods

B. That are prepared before any adjustments have beenrecorded

C. That show the assets above the liabilities and theliabilities above the equity

D. Where revenues are reported on the income statement when cashis received and expenses are reported when cash is paid

E. Where the adjustment process is used to assign revenues tothe periods in which they are earned and to match expenses withrevenues

3. The accounting principle that requires revenue to be reportedwhen earned is the:

A. Matching principle

B. Revenue recognition principle

C. Time period principle

D. Accrual reporting principle

E. Going-concern principle

4. Adjusting entries:

A. Affect only income statement accounts

B. Affect only balance sheet accounts

C. Affect both income statement and balance sheet accounts

D. Affect only cash flow statement accounts

E. Affect only equity accounts

5. The system of preparing financial statements based onrecognizing revenues when the cash is received and reportingexpenses when the cash is paid is called:

A. Accrual basis accounting

B. Operating cycle accounting

C. Cash basis accounting

D. Revenue recognition accounting

E. Current basis accounting

6. If throughout an accounting period the fees for legalservices paid in advance by clients are recorded in an accountcalled Unearned Legal Fees, the end-of-period adjusting entry torecord the portion of those fees that has been earned is:

A. Debit Cash and credit Legal Fees Earned

B. Debit Cash and credit Unearned Legal Fees

C. Debit Unearned Legal Fees and credit Legal Fees Earned

D. Debit Legal Fees Earned and credit Unearned Legal Fees

E. Debit Unearned Legal Fees and credit Accounts Receivable

7. A company had no office supplies available at the beginningof the year. During the year, the company purchased $250 worth ofoffice supplies. On December 31, $75 worth of office suppliesremained. How much should the company report as office suppliesexpense for the year? A. $75 B. $125 C. $175 D. $250 E. $325 8. OnJanuary 1 a company purchased a five-year insurance policy for$1,800 with coverage starting immediately. If the purchase wasrecorded in the Prepaid Insurance account and the company recordsadjustments only at year-end, the adjusting entry at the end of thefirst year is:

A. Debit Prepaid Insurance, $1,800; credit Cash, $1,800

B. Debit Prepaid Insurance, $1,440; credit Insurance Expense,$1,440

C. Debit Prepaid Insurance, $360; credit Insurance Expense,$360

D. Debit Insurance Expense, $360; credit Prepaid Insurance,$360

E. Debit Insurance Expense, $360; credit Prepaid Insurance,$1,440

9. Unearned revenue is reported on the financial statementsas:

A. A revenue on the balance sheet

B. A liability on the balance sheet

C. An unearned revenue on the income statement

D. An asset on the balance sheet

E. An operating activity on the statement of cash flows

10. Which of the following assets is not depreciated?

A. Store fixtures

B. Computers

C. Land

D. Buildings

E. Vehicles

11. On April 30, 2011, a three-year insurance policy waspurchased for $18,000 with coverage to begin immediately. What isthe amount of insurance expense that would appear on the company'sincome statement for the year ended December 31, 2011? A. $500 B.$4,000 C. $6,000 D. $14,000 E. $18,000 12. Expenses incurred butunpaid that are recorded during the adjusting process with a debitto an expense and a credit to a liability are:

A. Intangible expenses

B. Prepaid expenses

C. Unearned expenses

D. Net expenses

E. Accrued expenses

13 The difference between the cost of an asset and theaccumulated depreciation for that asset is called

A. Depreciation Expense

B. Unearned Depreciation

C. Prepaid Depreciation

D. Depreciation Value

E. Book Value

14. A company purchased a new truck at a cost of $42,000 on July1, 2011. The truck is estimated to have a useful life of 6 yearsand a salvage value of $3,000. How much depreciation expense willbe recorded for the truck for the year ended December 31, 2011?

A. $3,250

B. $3,500

C. $4,000

D. $6,500

E. $7,000

15. A company's Office Supplies account shows a beginningbalance of $600 and an ending balance of $400. If office suppliesexpense for the year is $3,100, what amount of office supplies waspurchased during the period?

A. $2,700

B. $2,900

C. $3,300

D. $3,500

E. $3,700