ACCT 3323 (Intermediate 1) Chapter 3 with Brian Burnett

What's the typical hierarchy in a CPA firm?

Partner

Manager (5-10 years),

Senior (2-5 years),

Staff (0-2 years),

What is another name for the balance sheet?

The Statement of Financial Position

What accounts are on a Balance Sheet?

assets, liabilities, and permanent equity accounts

When is the balance sheet typically reported?

At the end of an economic period (ex. month, quarter, or year)

What are the two terms that capture the usefulness of the balance sheet to creditors and investors?

Liquidity and Long-Term Solvency

Explain Liquidity in the context of a balance sheet.

Measures the company's ability to convert its assets to cash to meet current obligations

Explain Long-Term Solvency in the context of a Balance Sheet?

Measures a companys ability to pay all it's liabilities. Also called Financial Flexibility

What's the main issue with Balance Sheets when recording the value of a company?

They record the book value rather than the Market value (or Fair Value)

What are the two main reasons that book value may not equal market value?

Many assets are measured at their historical cost and not their market value.


Valuable resources (ex. brand rep, management expertise) are not recorded on the balance sheet

What are the two types of Assets on a Balance Sheet?

(1) Current Assets and (2) Long-Term Assets

What are Current Assets and how are they ordered?

Cash and other assets that will be converted to cash within one year or within an operating cycle. They are in order of Liquidity

Current Assets in order of liquidity.

Cash and cash equivalents, Short Term Investments, Accounts Receivable, Inventory, Prepaid Expenses

What are Long-Term Assets and how are they ordered?

Assets to be consumed or converted to cash in more than one year or operating cycle. They are listed in order of Liquidity, but the order is more rigid.

Long-term Assets in order of Liquidity

Investments, Property Plant and Equipment, Intangible Assets, Other Long Term Assets

What are the two types of Liabilities on a Balance Sheet?

(1) Current Liabilities and (2) Long-Term Liabilities

What are Current Liabilities and how are they ordered?

Obligations that are expected to be satisfied within one year or operating cycle. Order is flexible but usually in order of materiality or Frequency of payment

Current Liabilities in order

Accounts Payable, Notes Payable, Deferred Revenues, Accrued Liabilities, Current Maturities of Long-Term Debt

What are Long-Term Liabilities and how are they ordered?

Obligations that are expected to be satisfied in more than one year or operating cycle. Order is flexible

Give examples of Long-Term Liabilities.

Long-term notes, Bonds Payable, and Long-Term lease obligations

What are the types of Equity on a Balance Sheet?

(1) Paid in Capital, (2) Retained Earnings and (3) Accumulated Other Comprehensive Income or AOCI

Shareholders Equity in order.

Paid-in-Capital, Retained Earnings, Accumulated Other Comprehensive

What is Shareholders Equity also referred to as?

Net Assets

Summary of Significant Accounting Policies

section in a company's financial statements that explains how the company accounts for transactions.

Subsequent Events

events that occur after a company's reporting period but before the financial statements are released. They can include additional information or new information about the company.

Noteworthy Events and Transactions

unusual or important events that can affect a company's financial standing but may not always involve transactions. related party transaction, fraud, or illegal acts fall in this category

Sustainability Disclosures

the reporting of a company's environmental, social, and governance

What are the three types of sustainability disclosures?

Environmental Disclosures, Social Disclosures, Governance Disclosures

Environmental Disclosures

discuss the company's impact on the environment (ex. fuel consumption and water usage)

Social Disclosures

a means of addressing the exposure firms face with regard to the social environment (ex. diversity, employee turnover, injury rate, COVID)

Governance Disclosures

shares information about a company's governance policies and practices (ex. board diversity, ethical policies, cyber-security)

What five areas does the MD&A section typically cover?

Results of Operations, Liquidity, Capital Resources, Off-Balance Sheet Arrangements, Critical Accounting Estimates

What are some things to consider when assessing director and management compensation?

The "pay gap" between senior executives, and Incentives that are created with certain types of compensation (ex. stock options)

How do companies disclose the compensation of its top executives and directors?

Through the annual proxy statement

What are the four basic types of auditors reports?

Unqualified, Unqualified with explanatory or emphasis paragraph, Qualified Opinion, Adverse Opinion Disclaimer

Unqualified Audit Report

the financial statement conforms to GAAP. clean

Unqualified with explanatory or emphasis paragraph Audit Report

financial statements conform to GAAP but there are things that need attention. (1) lack of consistency (2) going concern issues (3) material misstatements of a prior report

Qualified Opinion Audit Report

audit was limited or they don't follow GAAP

Adverse Opinion or Disclaimer Audit Report

serious misleading information or the auditor can't get all the information to give full report

What are the two main types of risk that users assess?

Default Risk and Operational Risk

What are the main tools that investors and creditors use to assess risk?

Comparative Financial Statements, Horizontal Analysis, Vertical Analysis, Ratio Analysis

Comparative Financial Statements

compare this years financial statements to last or earlier to see trends

Horizontal Analysis

examine financial statement items as a percent of base amount from a prior year. seeing percent change can be useful

Vertical Analysis

examine financial statement items as a percent of a base amount from same year

Ratio Analysis

It uses math formulas (ratios) to compare different parts of a company's finances. Use to compare to other companies as well

Liquidity Ratios

examine the company's ability to meet it's short term obligations

Liquidity Ratio: Current Ratio

Current Assets/current liabilities

Liquidity Ratio: Quick Ratio

Quick Assets/current liabilities

Quick Assets include?

unrestricted cash, short-term investments, accounts receivable

Solvency Ratios

help users assess a company's ability to meet all of it's obligations

Solvency Ratio: Debt to Equity Ratio

Total Liabilities/total shareholders equity

What does Debt to Equity ratio do?

gives insight into a company's capital structure. higher ratio = higher risk

Solvency Ratio: Times Interest Earned Ratio

Net Income + Interest Expense + Income Taxes / Interest expense

What does Times Interest Earned Ratio do?

measures company ability to meet its interest charges. higher the ratio = lower risk

What is the main takeaway provided by the illustrations that relate to financial leverage and profitability?

with greater financial leverage, shareholders' returns are multiplied -and- The return on assets must exceed the cost of debt for financial leverage to work to the shareholders advantage