Accounting 2nd exam

Revenue

inflows of assets or settlements of liabilities from delivering goods or services as part of core operations

Revenue recognition principle

revenue is recognized when goods or services are transferred to customers for the amount the seller expects to receive

Five-step revenue model

1 identify contract 2 identify performance obligations 3 determine transaction price 4 allocate price to each obligation 5 recognize revenue when obligations are satisfied

Performance obligation

a promise to transfer a distinct good or service to a customer

Indicators that control has transferred

customer has legal title physical possession accepted the good assumed risks and seller has right to payment

Deferred revenue

cash received before satisfying a performance obligation recorded as a liability (e.g. unearned revenue)

Recognizing revenue over time

occurs if the customer consumes benefits as work is done controls the asset as created or seller has no alternative use and right to payment

Recognizing revenue at a point in time

occurs when control of goods or services passes to the customer

Multiple performance obligations

require allocation of the transaction price based on relative standalone selling prices

Net revenues

total revenues minus sales returns discounts and allowances

Sales returns

reduction of revenue for products returned by customers

Sales discounts

reductions offered for early payment

Trade discounts

reductions in list price not recorded separately

Credit sales

goods or services sold on account payment to be received later

Accounts receivable

amounts owed by customers from sales on account

Allowance method

GAAP-required method estimating uncollectible accounts records a contra-asset Allowance for Uncollectible Accounts

Bad debt expense

expense recognized for estimated uncollectible accounts

Allowance for uncollectible accounts

contra-asset reducing accounts receivable to net realizable value

Net accounts receivable

accounts receivable minus allowance for uncollectible accounts

Write-off

removal of specific uncollectible account reduces A/R and allowance no effect on total assets

Percentage-of-receivables method

estimates bad debts as a percentage of ending A/R (balance-sheet approach)

Aging method

applies higher uncollectible percentages to older receivables

Notes receivable

written promise to receive specific amount plus interest

Interest formula

interest = face value × annual rate × fraction of year

Receivables turnover ratio

net credit sales ÷ average accounts receivable (measures how often A/R collected)

Average collection period

365 ÷ receivables turnover ratio (number of days to collect cash)

Inventory

goods held for sale or used to produce goods for sale reported as a current asset

Cost of goods sold (COGS)

expense representing the cost of inventory sold during a period

Relationship between inventory and COGS

Beginning Inventory + Purchases − Ending Inventory = COGS

Merchandising company

buys finished products and resells them

Manufacturing company

produces goods from raw materials

Raw materials

basic inputs used in production

Work in process

goods partially completed

Finished goods

completed items ready for sale

Specific identification

matches each unit with its actual cost used for unique

FIFO (first-in

first-out)

LIFO (last-in

first-out)

Weighted-average cost

assigns average cost to all units = total cost ÷ total units

LIFO conformity rule

companies using LIFO for tax must also use LIFO for financial reporting

Why choose FIFO

matches physical flow higher ending inventory and net income when prices rise

Why choose LIFO

provides tax savings when costs rise because COGS is higher and income is lower

LIFO adjustment

converts FIFO records to LIFO for reporting purposes

Perpetual inventory system

continuously updates inventory and COGS with each sale or purchase

Periodic inventory system

updates inventory only at period end using a physical count

Lower of cost and net realizable value (LCNRV)

report inventory at the lower of cost or (net realizable value = selling price − cost to complete and sell)

Inventory turnover ratio

COGS ÷ average inventory (measures times inventory sold during period)

Average days in inventory

365 ÷ inventory turnover ratio (average time to sell inventory)

Gross profit

net sales − COGS

Gross profit ratio

gross profit ÷ net sales (measures profit per sales dollar)

Multiple-step income statement

shows gross profit and operating income separately from non-operating items

COGS formula (periodic system)

Beginning Inventory + Purchases − Ending Inventory = COGS

Effect of rising prices on methods

FIFO → lower COGS and higher net income

LIFO → higher COGS and lower net income

Long-term assets

assets providing benefits beyond one year (e.g. property

Tangible assets

physical assets such as land

Intangible assets

nonphysical rights such as patents

Land

includes purchase price and all costs to prepare for use (e.g. legal fees

Land improvements

parking lots

Buildings

recorded at purchase price plus renovation and legal costs

Equipment

recorded at purchase price plus tax shipping installation

recurring costs like insurance expensed

Natural resources

assets physically depleted (e.g. oil

Basket purchase

total price allocated to assets based on relative fair values

Intangible assets purchased

recorded at purchase price plus costs to get ready for use

Internally developed intangibles

expensed as incurred (e.g. R&D

Research and development (R&D)

costs to create new products or processes expensed when incurred

Advertising costs

expensed when incurred since future benefit is uncertain

Patent

exclusive right to manufacture or use a product for 20 years

Trademark

word or symbol identifying a brand renewable indefinitely every 10 years

Copyright

protection for creative works lasting life of creator + 70 years

Franchise

contractual right to sell products or use brand within region

Goodwill

excess purchase price over fair value of identifiable net assets in a business acquisition

Expenditures after acquisition

capitalize if benefit future periods expense if benefit current period

Depreciation

allocation of tangible asset cost to expense over its useful life

Depreciable cost formula

cost − residual value

Straight-line method

(cost − residual value) ÷ service life

Double-declining balance method

2 × (1 ÷ service life) × book value at beginning of year

Activity-based method

(cost − residual value) ÷ total units = depreciation rate × units used

Amortization

allocation of intangible asset cost to expense over its useful life (often straight-line)

Intangibles not amortized

those with indefinite life (e.g. goodwill

Impairment

when expected future cash flows < book value asset is written down to fair value

Gain on sale

occurs when asset sold for more than book value

Loss on sale

occurs when asset sold for less than book value

Return on assets (ROA)

net income ÷ average total assets

Profit margin

net income ÷ net sales (shows profit per sales dollar)

Asset turnover

net sales ÷ average total assets (measures sales generated per asset dollar)

ROA relationship

ROA = profit margin × asset turnover