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ACCT 2220 Final Review.docx

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ACCT 2220
Ron Baker

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Chapter 2 The set of financial reports for a company include: 1. The balance sheet: a list at a point in time, of the companies assets, liabilities, and owners’ equity. Generally prepared once a year. 2. The income statement: during the normal course of trade over a year, the company will probably engage in many transaction that affect the owners’ equity. Every time a sale is made or every time an expense is incurred, the owners’ equity either rises or falls. The income statement summarizes all these transactions over a one-year reporting period and reports on their overall effect. 3. The statement of retained earnings: a comparatively short statement that helps link the balance sheet and the income statement. One of the items on the balance sheet of any company is “retained earnings.” 4. The cash flow statement: supplements the balance sheet and the income statement. It reports the various sources of cash and the various uses of cash. Accounting Equation: Assets = Liabilities + Owners Equity GAAP: Generally Accepted Accounting Principles Investment: Increases assets, liabilities are unchanged and owners equity increases. Borrowing from the Bank: Assets increase, liabilities increase and owners equity is unchanged. Buying Inventory: Assets increase, liabilities and owners equity are unchanged. Retained Earnings: represent the income made on behalf of the owners by that has not been distributed to them by way of dividend. Statement of Retained Earnings: a required report for companies. It picks up the opening balance of retained earnings in the balance sheet at the start of a year and adds in the net income for the year. It then deducts dividends paid and any other transactions that reduce retained earnings. The remaining balance is the retained earnings at the end of the year. Business Entity: Whatever the legal structure, each business enterprise is considered to be a separate entity for accounting purposes. All the transactions relating to that entity must be recorded and reported, and those transactions extraneous to the entity should be excluded. The Accounting Cycle: 1. Identifying individual transactions and determining how they are to be recorded 2. Recording transactions as entries in the journal 3. Posting journal entries to the general ledger 4. Balancing the general ledger 5. Correcting, adjusting, and closing the books 6. Preparing the financial statements from the ledger balances Cash: primarily money on deposits at a bank but also includes cash on hand. Inventory: Goods purchased for resale (an asset). In service industry, inventory will probably be small because such organizations have neither goods for resale nor raw materials for manufacture. Accounts Receivable: Amounts due from customers for goods they have purchased from the company on credit. Fixed Assets: Assets, such as furniture, machines, cars and trucks, buildings, land that are purchased for use over several years rather than for resale. Bank Loan: The obligation to repay a loan taken from the bank. Accounts Payable: The obligation to pay money in the future to suppliers from whom the company has purchased goods on credit. Share Capital: The portion of shareholders’ equity that arises when new investment is made. Revenue: The gross increase in owners’ equity from operations Expense: The gross decrease in owners’ equity from operations. They decrease equity. In measuring the net income we try to match the expenses with the revenues of the accounting period. Expenses are many and varied. They include items incurred directly in relation to the sale of goods, such as the cost of the goods sold in a retain store, or the cost of manufacturing the goods sold in a production plant. Dividends: The decrease in Retained Earnings when profits are distributed as cash to shareholders. Non-Sale situations that give rise to revenues: • Interest revenues from bank deposits, GICs ect • Rent revenues • Commission revenues Overhead Expenses: include wage and salary expenses, payroll-related expenses, establishment expenses, marketing expenses, research and development expenses and financing expenses. Amortization: Depreciation Bad Debt: When sales are made on credit, there is some uncertainty as to whether or not the customers will pay. Most customers pay (eventually), but some turn into bad debts. The bad debt expense will be an estimate relating to future events, of which the precise details are unknown. Past history is often a good guide to the amount of bad debt expense that would be prudent to recognize. In the case of bad debt expense, there is no transaction. We create the expense without any payment requires that we create an allowance for doubtful debts on the balance sheet. Contra-asset: the allowance for doubtful debts. Operating Income: Operating expenses are deducted from revenues to reveal the operating income of the organization. It is a measure of how well the organization did in its chosen line of business. Straight-line Amortization Method: (cost – disposal) / number of years The earning process is completed when: 1. There is an arm’s length transaction defining the terms of the exchange 2. The ordered goods are delivered to the buyer 3. The seller receives the agreed amount of cash, an asset of equivalent value or an enforceable claim to cash or equivalent asset Arm’s-length agreement: means that the two contracting parties are pursuing independent interests. The seller is trying to get the highest possible price where the buyer wants to pay the lowest possible price. Returns: the right to return unsold merchandise is a particular feature of the book publishing business. Accrual: corrects an expense by recognizing an expense that has not been recorded. Deferrals: postpones to the next period of a good or service that has been paid and charged to expense this period. Asset: anything that is valuable and is owned by the business. In order for the asset to appear in the balance sheet, it must have been acquired at a measurable cost. Current Assets: an asset is defined as current if its term is one year or less. That means that within a year it is likely to be realized. Assets with terms longer than one year are classified separately as long-term assets. Cash: a readily available current asset as it is immediately available for the payment of any company obligation, such as paying a debt that is due or recurrent expense such as payroll. Short-Term Investments: Short-term investments are relatively liquid and esilty realizable assets. Accounts Receivable: Sales of goods to customers are frequently made on credit terms. The customer takes the goods (or services), but does not pay for them immediately. The customer is expected to pay according to the “terms of trade”. These may vary from one industry to another, but a credit period of 30 days is common. Long-Term Assets: assets the company intends to hold for periods longer than one year such as land, buildings, plant and equipment, and intangible assets (trademarks ect.). FIFO Model: In a “first-in-first-out” system, the assumption is that, although the goods are not different, because of the way they are delivered, stored, or used, it is reasonable to assume that those bought earliest get used soonest. This implies that the flow-through of cost to the cost of goods sold account consists of goods that were bought less recently than the goods that remain inventory. Current Liabilities: defined as those that are due within one year and many are due even sooner. One of the biggest threats to a company’s existence. Falling to pay the current liabilities when they are due is the easiest way to fall into bankruptcy. The main types are trade payables, accrued expenses, deferred revenue, taxes due and short-term loans. Trade Payables: the largest current liability is generally the amount the company owes to its various suppliers for goods and services received. Long Term Debt: Amounts owed for which the term is longer than one year are shown as long-term debt. Equity: The accounting way of describing the owners’ interest in the business. IT is what is left over after liabilities are deduced from assets. Initially a company has no equity. Rights of Shareholders: 1. Attending the annual general meeting 2. Voting on issues such as accepting the financial statements, the payment of dividends as propsed by the directors, appointing the auditor, and election of the directors at the annual general meeting 3. Being kept informed by receiving financial statements annually. Preferred Shares: Some (but not all) companies issue preferred shares. Preferred shares are a special class of shares that have some sort of preferential right attached to them. Typically, this is a right to receive a dividend before the common shareholders receive theirs. They have a lower risk. Limited Liability: One of the most important features of shares is that they give the owner a limited exposure to risk. In the case of an individual trading on his/her own, or in the case of a partnership, the owners are exposed to a high level of risk. If the business is incorporated as a limited liability, then shareholders cannot be held personally responsible for company debts. Cash Flow statement is presented in 4 parts: 1. Cash from operations 2. Cash from financing activities 3. Cash from investing activities 4. Change in cash Cash from Operations: the cash is generated from the normal business of the company. The starting point is operating income. From operating income, interest and taxes ar
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