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University of Illinois
ACCY 201
Susan Curtis

ACCOUNTING REVIEW SESSION NOTES BASIC ACCOUNTING PRINCIPLES BASIC ACCOUNTING EQUATION: Assets = Liabilities + Owner’s Equity Assets: What the firm OWNS (long and short term assets), economic resources owned by the firm. Liabilities: What the firm OWES (long and short term liabilities) Owner’s Equity: Contributions by owners and reinvested earnings RATIO REVIEW Current Ratio = current assets/ current liabilities Return on Sales Ratio = net income/ sales Debt-to-Equity Ratio = total debt/total shareholder’s equity Quick Ratio = (Cash + Short term investments + Receivables) / Current Liabilities ALSO: Quick ratio = (Current Assets – Inventory)/Current Liabilities DELIVERY OF GOODS AND SERVICES FOB Destination: title transfers to customers when goods arrive at destination FOB Shipping: title transfers to customers when goods are shipped Companies give discounts to have incentive for prompt payment. HIGH LOW METHOD Relevant Range: range between our lowest activity driver quantity and our highest activity driver quantity Once we have our equation that contains variable and fixed components, we then use the equation to estimate a specific value based on a given activity driver quantity. However, the equation is only applicable if the activity driver falls within the relevant range. CVP ANALYSIS Profit = Total revenue – total costs Total Revenue = price * quantity Total Costs = Fixed costs + Variable Costs Variable costs = (VC per Quantity) * Quantity Contribution Margin = Price – VC Contribution Margin Ratio = Contribution Margin / Sales Breakeven Quantity = FC/CM Number of units that must be sold to earn a profit of $0 Breakeven Point = Total FC = Total CM After tax profits = Before tax profits * (1-tax rate) THEN: Quantity = (Before tax profit + FC) / CM to solve for quantity RELEVANT VARIABLES Unit-related costs: costs that vary directly with the umber of units produced Eg. Direct materials Batch-related costs: costs that vary with the number of batches, regardless of how many units are in a batch. Eg. Setup costs, ordering costs Product-sustaining costs: costs that vary with the number of product lines Eg. Advertisign, R&D costs Facility sustaining costs: costs incurred to maintain the company’s capacity to operate Eg. Rent on buildings, insurance on equipment EXAMPLE: ACCEPT REJECT PROBLEM: The Gas company sells oil by the case to repair shops and dealerships. Each case costs the company $15. The facility costs are $150,000 per period. Each period, the company sells approximately 100,000 cases of oil at $25 per case. California Car Company is requesting an order of 30,000 cases in the next period for $20 per case. The Gas company has no excess capacity for the next period, should they accept the offer? SOLUTION: Accept the order. Since there is no excess capacity, they would give up regular customers paying $25 for special order customers paying only $20, thus, Gas would be giving up $5 per case of oil. If 20,000 cases of capacity exists, then only 10,000 cases of regular sales are lost: Profit on special order (20-15)*30,000 = 150,000 Profit lost on regular orders (25-15)*10,000 = 100,000 Additional profit: 50,000 BONUS CALCULATIONS Scenario 1: Bonus pool based on profits before taxes and bonuses B= rate (Profits) Scenario 2: Bonus pool based on profits before taxes but after bonuses B= rate (Profits –B) Scenario 3: Bonus pool based on profits after taxes and after bonuses B = rate (Profits – B - T) T = (Profits –B)*Tax Rate BUDGETS Ending A/R = Beginning A/R + New Sales – Cash collections – Sales discounts taken Ending Inventory = Production/Purchasing Schedule: Beg. Inventory + Production – Sales of Products Beginning Balance THIS period = Last period’s ending balance Order of preparation: - Sales - Production - Raw materials purchases - Cash payments ACCOUNTING STANDARDS SEC has the legal authority to determine standards, but has delegated responsibilities to FASB. FASB: Primary responsibility to develop GAAP FASB: Financial Accounting Standards Board GAAP: Generally accepted accounting principles SFAC #1: Financial reporting is intended specifically to be useful to investors and creditors INVESTMENT CONTRACTS Debt Contracts: Unsecured loan: no collateral Mortgage: secured by pledges of property Bonds: loan that s broken into many smaller pieces “one within a group of contracts” Equity Contracts—“ownership” claims (dividends and appreciation) Preferred stock-“preferred” over common stockholders. Liquidation preference, and potentially accumulated dividends Common stock- have voting rights in the company Total Risk = Default Risk + Opportunity Risk Default Risk: the risk of losing the initial amount (principal amount) of the contract Opportunity Risk: The risk of forgoing the return (interest, dividend
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