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Midterm Prep.docx

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ACC 100
Anthony Chan

Chapter 1 How to analyze ethical dilemmas 1) Recognize ethical situation and ethical issues involved 2) Identify and analyze the main elements in the situation 3) Identify the alternatives, and weight the impact of each alternative on different groups 3 types of organizations: 1) Proprietorships a. simple to set up and gives you control b. Personally liable for all debts c. Pay personal income tax on their share of profits 2) Partnerships a. often formed because of lack of economic resources b. Each partner has unique skills c. Personally liable for all debts d. Pay personal income tax on their share of profits 3) Corporations a. More attractive to invest in because ownership is easily transferred b. Small amounts of money required to invest c. Easier to raise large amounts of funds d. Not personally liable for company debts e. Corporations pay taxes as a separate entity f. Sometimes receive tax cuts 2 types of users of financial documents: 1) Internal Users a. Marketing managers b. Production supervisors c. Finance directors d. Company officers 2) External Users a. Investors b. Creditors c. Taxing authorities d. Regulatory Agencies e. Customers f. Labour unions g. Economic Planners Businesses involved in 3 types of activities: 1) Financing Activities a. Borrowing money and selling shares for cash i. Notes payable ii. Bank indebtedness iii. Long-term debt iv. Mortgage payable v. Share capital *creditors are paid before shareholders in the event of liquidation 2) Investing Activities a. Buying assets (property, plant and equipment) b. Investments 3) Operating Activities: (sales revenue, service revenue, interest revenue) a. Accounts receivable b. Inventory Revenues > Expenses = Net Earnings (Net income) Revenues < Expenses = Net Loss Statement of earnings – reports revenues and expenses to show how successful a company performed during a period of time Statement of retained earnings – indicates how much was distributed to you and other shareholders of a company in the form of dividends, and how much was retained in the business for future growth Balance Sheet – Presents a picture of what a company owns (assets), what it owes (Liabilities), and its net worth (share holders’ equity) at a specific point of time Cash flow statement – show where a company obtained cash during period of time and how the cash was used. Statement of Earnings  Reports results over a period of time  EBIT = earnings before income tax  Issue of shares and distribution of dividends do not affect net earnings o Cash from issuing shares goes to balance sheet under cash not revenue  Normally rounded to the nearest dollar Statement of retained earnings  Retained means not paid out to shareholders  Change of retained earnings over a time period  Lenders monitor dividend payments because paying dividends will reduce a company’s ability to pay its debts  A company looking for rapid growth will pay little to no dividends The balance sheet  Reports assets and claims to those assets at a specific period of time  Accounting equation o Assets = Liabilities + Shareholders’ equity  Does the company rely mainly on debt or equity to finance its assets?  Two types of claims on its assets on a balance sheet o Liabilities and share holders equity Cash flow statement  Cash payments and cash receipts over a given period of time o Operating activities o Investing activities o Financing activities  This affects the balance sheet’s cash number  Does the company generate enough cash from operating activities to fund its investing activities? Relationships between the statements:  The number from the statement of earnings is used on the statement of retained earnings  The number from retained earnings is used on the balance sheet  The ending amount of cash on the balance sheet must equal the amount on the cash flow statement Other info included on company reports (non financial)  Company’s missions  Goals and objectives  Products  People Glossary  Comparative Statements: o Presentation of statements of a company for 2 or more years Chapter 2 The objective of financial reporting:  Provide useful information for decision-makers  Communicate information to internal and external users Qualitative Characteristics of Accounting Information: Understandibility  The average user is assumed to have a reasonable understanding of accounting concepts and procedures, as well as of general business and economic conditions  This average person needs to be able to understand the information  Sophisticated and detailed Relevance  Has predictive value or feedback value and is timely o Predictive value  Helps users forecast events o Feedback Value  Confirms or corrects prior expectations o Timely  Must be available to decision makers when it can still influence their decision Reliability  Verifiable o Prove that there are no errors or bias o Source documents  Faithful Representation o Statements be based on transactions o External auditors are also needed  Neutral o Cannot be prepared or presented to favour one group over another o Verifiable, faithfully represented, objective Conservatism  When preparing financial statements a company should choose the accounting method that will be least likely to overstate assets and earning. It does not mean, however that a company should intentionally understate its assets or earnings.  Worst case scenario  Do not overstate/understate Comparability  Companies of similar circumstances use the same accounting principles (apples to apples)  These principals need to be used consistently over a period of time (year to year) Recognition and Measurement Criteria (Assumptions): Monetary Unit Assumption  Everything is in dollars  Things that can’t be measured in dollars need to be included on the financial statements  Monetary unit is stable over time o Effects of inflation/deflation assumed to be minor therefore ignored Economic Entity Assumption  Personal and business transactions/assets/liabilities are separate Time Period Assumption  Assumes that the life of a business can be divided into artificial time periods and that useful reports covering those periods can be prepared for the business  All companies must produce yearly reports  Publicly traded companies must report quarterly o Interim financial reporting Going Concern Assumption  The business will remain in operation for the foreseeable future  Only inappropriate when it is likely that the business will be liquidated Generally Accepted Accounting Principles (GAAP) - All companies whose shares or debt are publicly traded must follow GAAP  US GAAP is based on rules. Canadian and International GAAP is based on principles Cost Principle  Assets are recorded at their cost  Their value stays at their purchase price  Critics say that it would be more useful for decision making if the value on the balance sheet was market value but supporters believe that it would be too subjective and that the price it was bought for is more verifiable Full Disclosure Principle  Requires that all circumstances and events which would make a difference to financial statement are disclosed  If it can’t be included in one of the 4 financial statements it needs to be included in the notes Constraints in Accounting - Constraints permit a company to make changes to GAAP as long as the reported information is still useful Cost-Benefit  Ensures that the value of the information is greater than the cost of providing it  If accountants include too much information then the cost of providing it offsets the benefits of it Materiality  Material if it is likely to influence the decision of an investor  Immaterial if it will have no impact on a decision maker The Classified Balance Sheet  Assets o Current Assets  Expected to be converted into cash or used up within 1 year  Listed in order of liquidity o Long-Term Investments  Generally investments in debt o Property, Plant, and Equipment  Assets with relatively long useful lives  Normally listed in order of permanency  Land is not amortized  Everything else is o Intangible Assets  Noncurrent assets that do not have physical substance that represent a privilege or right granted to or held by the company  Goodwill, patents, copyrights, trademarks, trade names and licences  Normally divided into 2 groups  Those with definite lives o Amortized o Patents and copyrights  Those with indefinite lives o Not amortized o Goodwill, trademarks, trade names and licenses  Liabilities o Obligations that result from past transactions o Current and non current o Current Liabilities  Obligations that are to be paid in the coming year  Often listed in order of what will be paid first o Long Term Liabilities  Paid after one year  Sometimes lumped together  Shareholders’ Equity o Divided into 2 parts: share capital and retained earnings  Share capital  Shareholders’ investments recorded as common or preferred shares  Retained Earnings  Cumulative earnings that have been retained for use in a company Using the Financial Statements  Ratio analysis express relationships between selected items of financial statements o Liquidity  Measures a company’s short term ability to pay its maturing obligations and to meet unexpected needs for cash o Profitability  Measure a company’s earnings or operating success for a given period of time o Solvency  Measure a company’s ability to survive over a long period of time  Comparing Ratios o Intracompany Comparisons  Covering two years for the same company o Intercompany Comparisons  Based on comparisons with a competitor in the same industry o Industry Average Comparisons  Based on average ratios for particular industries Ratios: Profitability  Earnings per share (EPS) o Measures net earnings for each common share  Earnings per share = net earnings available to common share holders divided by weighted average number of common shares o Not very meaningful among companies because of a large variety of shares and in the share prices, thus no industry average  Price-earnings Ratio o Measures the ratio of the market price of each common share to its earnings per share  Price-earnings ratio = market price per share divided by earnings per share Liquidity  Working Capital o Difference between current assets and liabilities o When it is positive there is a greater chance that the company will pay its liabilities  Working capital = currents assets minus current liabilities o Industry averages aren’t very meaningful  Current Ratio o Current assets divided by current liabilities o More meaningful than working capital  Current ratio = current assets divided by current liabilities o Example 1.4:1  1.4 times as much assets as liabilities o Does not take into account the composition of the current assets Solvency  Debt to Total Assets o Measures the percentage of assets financed by creditors rather than shareholders o Financing by creditors is riskier than financing by shareholders  Debt to Total Assets = total liabilities divided by total assets o The higher the percentage the worse off the company is  Free Cash Flow o Measures how much cash a company has to use for various purposes  Free cash flow = Cash provided (used) by operating activities minus net capital expenditures minus dividends paid Chapter 3 Accounting information system – Collecting, processing transaction data and communication financial information to decision makers Debit = left side Credit = right side All transactions effect both credits and debits = double-entry accounting system Debit Balance Accounts  Assets  Expenses  Dividends Credit Balance Accounts
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