1. What are the three different forms of business organizations? What are the advantages
and the disadvantages to each of these forms?
Sole proprietorship -1 owner with unlimited liability.
Partnership -2 or more owners with unlimited liability.
Corporation –many owners and ownership based on number of shares with limited
2. Define the three business activities of a company and provide examples of each of these
Financing- raising funds. Ex. Obtaining funds from creditors or owners.
Investing- buying or selling land, buildings, equipment, etc.
Operating- selling goods/services.
3. What is the purpose of financial accounting?
To keep track of a company’s financial transactions.
4. Who are the primary users of accounting information?
Investors, employees, lenders, suppliers, customers, public.
5. What is the purpose of each of the financial statements? How are the financial
Income Statement- reports results of operations for a specific period of time.
Statement of retained earnings- reports the changes in retained earnings for a specific
period of time.
Balance sheet- reports the assets, liabilities, and shareholder’s equity as at a specific
point in time.
Cash flow statement- reports the cash receipts and payments for a specific period of
6. What is the accounting equation and how is it connected to the financial statements?
Assets = Liabilities + Owner’s Equity
7. You are deciding whether to invest in a company shares. Which financial statement
would you want to see, and which areas would you be most interested in?
Look @ balance sheet to see what liabilities of company are and how much they
owe and show how much the company is worth.
8. What are the assumptions that underlie the financial statements and why are they
important? Name all the assumptions and principles and define them.
Economic entity- assumption that an organization or a unit is operating a
Cost Principle- record asset at cost paid to acquire them and continue to value
assets at historical cost until sold.
Going Concern- assume that business will continue into the foreseeable future.
Monetary unit- how we measure money (dollar, yen, peso, etc.) Assume economic
measure is relatively stable.
Time Period assumption- assume it is possible to break up an entity’s earnings in
discrete time periods.
9. Define the cost principle. Give an example of when the cost principle has been violated.
Define the going concern assumption. What other principle is interrelated with the going
It is violated when the recorded price paid is changed. Going concern also
justifies use of historical cost.
10. Define the monetary unit assumption. Give an example of when it has been violated.
It is violated when different units of measures are used. The money have to be in
the same currency, not some yen and some dollar.
11. Define the time period assumption. How is this assumption connected to accrual accounting?
Revenue is only recorded and recognized when revenue is earned from selling a
good or providing a service.
12. What are generally accepted accounting principles?
Look at definitions above.
Revenue recognition- revenue is recorded in the time period in which it is earned.
Good or service provided is an example.
Matching- all expenses recorded in same period as the revenues generated from
having incurred the expense.
1. What is the objective of financial reporting?
Provide information for decision making, reflect future cash receipts to
investors/creditors, and reflect claims on company’s resources.
2. What makes accounting information useful? List the qualitative characteristics that
underlie all financial statements. Define each of the qualitative characteristics.
Understandability- those willing to take the time to understand it.
Relevance- has capacity to make a difference.
Reliability- represents what it is supposed to.
Verifiability- free from error.
Neutrality- information should not be slanted in any way.
Conservatism- when in doubt, err on negative side.
Comparability between companies.
Consistency from one period to the next.
Materiality- will it make a different to the decision maker? Size of error.
Benefit vs. cost- benefit of accounting info should exceed its cost.
3. What is materiality and why is it important for the financial statements?
The accounting guideline that permits the violation of another accounting
guideline if the amount is insignificant. It will influence the decision of the users of
the financial statements.
4. What is the benefit versus cost constraint? How may this affect how a company records
Benefit from using information should exceed the cost of obtaining the info.
5. What is a classified balance sheet and why is it important? Why do companies produce
classified balance sheets?
A balance sheet with classifications (groupings or categories) such as current
assets, property plant and equipment, current liabilities, long term liabilities, etc.
6. Define current assets. Define noncurrent assets. Define current liabilities and long-term
liabilities. What is shareholders equity?
Current asset- assets realizable, sold, or consumed in 1 year.
Noncurrent assets- not going to be realizable, sold, or consumed in 1 year.
Current liabilities- liabilities satisfied in 1 year.
Long-term liabilities- liabilities not satisfied within one year.
Shareholders equity- Also referred to as shareholders' equity. At a corporation it is the
residual or difference of assets minus liabilities.
7. What is the purpose of the income statement? Is the income statement for a point in time
or a period of time? What is the single step income statement?
Used to summarize the results of operations of an entity for a period of time.
Single step income statement is when all expenses are added together and
st nd rd
subtracted from all revenues. (1 line is: revenues, 2 line is less expenses, 3
2 line is: net income (1 line-2 line=3 line)).d
8. What is the purpose of the statement of retained earnings? What is included on the
statement of retained earnings?
To explain the changes in the components of owners’ equity during the period.
Retained earnings and capital stock included. (1 line is: opening R/E, 2 line is: nd
add net income(from income statement) 3 line is: less dividend, 4 line is:
closing R/E (1 +2 -3 =4 )). th
9. What is the purpose of the cash flow? What are the three activities that we will see on
the cash flow statement?
To summarize the cash flow effects of a company’s operating, investing, and
financing activities for a period. (1 line: cash flows from operation, 2 line: cashd
flows from investing, thline: cash flows from financing activitths, 4 line: net
increase in cash, 5 line: cash at beginning of year, 6 line: cash at end of year.
1. What is the difference between an event and a transaction? Which one is recorded on
the financial statements and which is not?
Event- happening of consequence to an entity.
Transaction- any even that is recognized in a set of financial statements.
Transaction recorded in financial statements because you perform transactions to
gain money or lose money.
2. What is an external vs an internal event? When is an event a transaction?
External events: interaction between entity and outside environment.
Internal events: interaction within entity.
An event is a transaction when there is a good or services being given for an
asset. An event is measurable and realized and then it is a transaction.
3. What is the role of source documents in a company?
The role of source documents is evidence needed in an accounting system to
record transactions. Ex. Purchase Invoice, cash register tape, payroll records,
shipping document, cheques, etc.
1. When should economic events be recognized in the financial statements?
(Like the purchase of land, or payment of an invoice) using words (account
names) and numbers (dollar amounts).
2. What is the definition of the word recognition in regards to accounting?
Formally recording an item in the financial statements of an entity.
3. What unit of measure is used in the financial statements?
4. Describe the cash basis of accounting. What is the drawback of the cash basis
Records revenue when cash is received (cheques, credit card or cash) Does not
show ALL of the a company’s economic activities.
5. Describe the accrual basis of accounting. Why do financial statements use the accrual
basis of accounting?
Record revenue when earned.
6. What do the income statement and the statement of cash flows reveal about a
3 business? Compare the income statement and the statement of cash flow – in what way
are they similar? In what way are they different?
7. What is the connection between the time period assumption and accrual accounting?
When we have an event that straddles 2 time periods, we have to FIRST: record
the original transactions (if any) and SECOND: make adjustments at the end of
the reporting period to RECOGNIZE what has happened since that original
8. Define adjusting entries. Why are they required?
Journal entries usually dated the last day of the accounting period to bring the
balance sheet and income statement up to date on an accrual basis (as required
by the matching principle and the revenue recognition principle).
9. What are the four types of adjusting entries and what are their characteristics/attributes?
Accrued revenues (also called accrued assets) are revenues already earned but not
yet paid by the customer or posted to the general ledger.
Unearned revenues (or deferred revenues) are revenues received in cash and
recorded as liabilities prior to being earned.
Unearned revenue is a liability to the entity until the revenue is earned.
Prepaid expenses (or deferred expenses) are expenses paid in cash and recorded as
assets prior to being used.
Accrued expenses expenses already incurred but not yet paid or recorded.
10. How would a deposit received from a customer be recorded in the financial statements?
What type of adjusting entry would be needed at the end of the year for this deposit?
11. What is straight-line depreciation? How is it calculated? Provide a definition of the
account: accumulated depreciation. What financial statement does it show up on?
The depreciation method that results in the same equal amount of depreciation
expense for each full year over the life of the asset.
12. A company takes out a loan at the beginning of the year. Interest and principal are due
at maturity. The loan is for 18 months. What type of adjusting entry would be needed at
the end of the fiscal year? What would be the impact on the accounting equation of this
type of adjusting entry?
Accrued expense/liability (original: plus payable, minus expense) (adjusting entry:
minus cash, minus payable)
13. What is a prepaid expense and what financial statement is it recorded on?
14. For a prepaid adjusting entry, what 2 categories are always affected and how (+ or -)?
(original: minus cash, plus prepaid) (adjusting entry: minus prepaid, minus
expense). Assets and Equity always affected.
15. What is unearned revenue and is it included under Revenues on the income statement?
Why or why not?
No, it goes on the balance sheet as a liability. Then, as the income is earned, the
liability is debited and revenue is credited.
1. What is FOB destination? Who owns inventory while it is in transit if it has been shipped
FOB destination? Who pays for the freight? How is the freight recorded in the financial
statements when it is paid by the appropriate party? Does it affect the balance sheet
only or the balance sheet and income statement?
Freight is paid by the shipper (supplier/seller).
2. What is FOB shipping point? Who owns the inventory while it is in transit if it has been
shipped FOB shipping point? Who pays for the freight? How is the freight recorded in the
4 financial statements when it is paid by the appropriate party? Does it affect the balance
sheet only or the