Exams 1 & 2: Definitions & Ratios List

Exam 2: Cards 81 onwards

FASB

Financial Accounting Standards Board

GAAP

Generally Accepted Accounting Principles

Financial Accounting

Keeping the Financial Score for the entity

Cost

All costs are historical

Revenue Recognition: (2 types)

Earned: Rendered goods and services

Recognized: Expectation of payment

Matching

Match expenses with revenue in the period they occur

Materiality

If you knew the fact, it could change your mind; 5% of something

Assets

Something of future economic value

(assets must be objectively quantifiable to be recorded on the balance sheet)

Liability

something owed (liabilities must be objectively quantifiable to be recorded on the balance sheet)

Contingent liability = liability that cannot be objectively quantifiable

Stockholders' Equity

Capital + Retained Earnings

Capital

Investment by the stockholders

Retained Earnings

Earnings retained in the business

Dividend

Distribution of retained earnings to stockholders

Expense

Expired asset

Revenue

Rendered goods and/or services with the expectation of payment

Chart of Accounts

"Index" -- list of the names and account numbers for all accounts

General Journal

"Book of original entry" -- shows the debits and credits for each accounting system

General Ledger

List of all transactions for the accounting period sorted by account number

Debit

Entry on the left side of a general ledger account

Credit

Entry on the right side of a general ledger account

Trial Balance

List of all accounts showing that the total debits equal the total credits

Adjusting Entry

Reconciles a general ledger account to a backup schedule

Closing Entries

At end of period, all revenue and expense accounts closed to Retained Earnings

Reversing Entries

Reversing an accrual entry from a previous period

Contra Account

Account used to keep the balance in another account visible

"Close" or "Close the Books"

At the end of the period, close (move) all the revenue and expense account balances on the income statement to retained earnings; resets the income statement to zero to begin the next period.

Accrual Basis

Accounting based on transactions

Cash Basis

Cash basis: accounting based on cash in/cash out (i.e. Real World)

Controller

typically the top accounting person in a company

Income Statement

matches revenue with expenses over a period of time (the operating statement, the profit and losses statement)

Cost of goods sold

Cost of what is not there

Non-cash charges

Definition: deduction on income statement but no cash paid out

Examples: depreciation, amortization, depletion, gain or loss on asset sale

Gross profit

net revenue - cost of goods sold

SG&A

selling, general, and administrative expense (aka operating expenses)

Operating Income

Gross Profit - SG&A; income from the core business

Non-operating income (aka "other")

Interest Income and Expense, Capital gain or loss

Balance Sheet

shows assets equal liabilities plus stockholders' equity at a point in time (financial snapshot)

Current: within 12 months or one operating cycle

Current assets

assets that will be used up or converted to cash within one year

Current liabilities

liabilities which are due within one year

Statement of changes in cash position

difference between two balance sheets expressed in cash

"capitalize it"

Put the amount on the balance sheet; generally, as an asset to be depreciated or amortized

increases net income

"write it off"

"expense it" = "write it off": deduce the amount on the income statement

decreases net income

Book value of an asset

original cost minus accumulated depreciation

found on the balance sheet in assets

Market value of an asset

value paid by a willing buyer and willing seller

not found on the financial statements

Book value of a company

common stockholders' equity

found on the balance sheet in assets

Market value of a company

value paid by a willing buyer and willing seller

not found on the financial statements

Sales vs revenue

there is no difference

Accrued

estimated

Net Income

Revenue minus Expense

Expense

Expired asset

Prepaid expense

Paid cash but have not yet received the goods and services

Unearned revenue

Received cash but have not yet rendered the goods and services

Depreciation, Amortization, and Depletion

method of cost allocation of long-term assets over the estimated useful life under the matching principle

does NOT represent wear and tear or loss of value

Depreciation Formula

Allocation of original costs over the estimated useful life of a tangible asset

Amortization Formula

allocation of original costs over the estimated useful life of an intangible asset

Depletion Formula

allocation of original costs over the estimated useful life of a natural resource asset

Depreciation, Amortization, or Depletion

versus

Accumulated Depreciation, Accumulated Amortization, or Accumulated Depletion

Expense for the period (expense on I/S)

Versus

Sum of the expense across all periods since the asset was placed in service (contra asset account on the B/S)

Six Elements of Internal Control

1. Establishment of responsibility - "who" is responsible

2. Segregation of duties - for "what" is "who" responsible

3. Documentation procedures - required paperwork to trace the transaction

4. Physical Controls - physical barriers

5. Independent internal verification - check by someone independent of the process

6. Human resource control - hiring people with the appropriate skills

Check and Balance

Organizing work so people naturally check on each other

(both for internal control as well as to catch mistakes)

Fiscal year vs Calendar year

Calendar year: accounting year ends December 31

Fiscal year: accounting year ends on any other month

Other Income and Expense (Non-operating portion of the income statement)

interest income and interest expense

gain or loss on the sale of assets

Value Chain

All the processes and procedures which add value to product or service in the customers eyes

value added = add value in the customer's eyes

non-value added = don't add value in the customer's eyes

Supply Chain

All the activities to get the product made and in the hands of the customer

Tax Expense

• expense to company

• appears on income statement

• examples: income tax, employer payroll taxes, sales tax paid by company on its purchases

Tax Pass Through

• taxes collected on behalf of a governmental entity and passed through to the entity

• neither a revenue nor an expense

• may appear on balance sheet as liability if not yet paid

-examples: sales taxes, excise taxes, employee payroll taxes

"B to B" (Business to Business)

Companies selling primarily to other Companies

"B to C" (Business to Consumer)

Companies selling primarily to Consumers

"C level"

The executive level of the company e.g. chief executive officer, chief financial officer, chief technology officer, chief marketing officer, chief (whatever)

What is the purpose of a for-profit, non-for-profit, and/or non-governmental entity

To satisfy a customer demand

How can a company "make" money and not have any cash?

The company keeps its books on the accrual basis which follows transactions, but the Real World operates on the cash basis of cash in/cash out

Why does a for-profit company need to make a profit?

To reward the stockholders for making an investment risk

Why does a not-for-profit entity need to make a profit?

Cash donations must exceed the cash paid out to build reserves and to fund future activities

Who pays the corporation or business entity income taxes?

The customer pays the taxes. Revenue must cover all expenses which includes taxes

What is the difference between a for-profit and a not-for-profit entity?

1) Not-for-profit entity: pays no income taxes

--> For profit entity pays taxes and thereby subsidizes not-for-profit entities

2) For profit entity has stockholders

--> Not for profit entity has no owners

Do taxes matter? Why?

Yes. Taxes represent unavoidable cash out which makes the cash unavailable for reinvestment in the business

Annuity cash flow pattern

Same amount (in or out) in each period

Loan (i.e. car loan, student loan)

a. monthly payment

b. total interest paid

c. calculate savings if pay above the minimum amount

Debit Service (aka servicing debt)

Timely payment of principal and interest

Cost of goods Formula

Beginning inventory + net purchases - ending inventory

Retained Earnings formula (end)

Ending RE = Beginning RE + NIAT - Dividends

Objectivity

“arm’s length negotiation”

Going concern

company will be around long enough to use up assets and pay all liabilities

Consistency 

follow the same procedures each accounting period so can compare financial statements 

Conservatism

if multiple options exist, pick the least favorable

Full disclosure

“Full monty” must disclose all relevant information

Fixed (plant) assets (aka PPE)

assets with an estimated useful life of more than one year 

Goodwill

amount paid above the identifiable assets in a transaction

Long term liabilities

liabilities due beyond more than one year

Gross revenue vs. Net revenue 

Gross Revenue (i.e. P x Q)

(Sales returns and allowances)

(sales discounts) 

Net revenue 

What is more important: gross revenue or net revenue?

net revenue is most important because that is what you expect to collect

Gross accounts receivable vs. net account receivables

Gross Accounts receivable

(allowance for doubtful accounts)

net accounts receivable

Which is more important: gross accounts receivables or net account receivables? 

Net accounts receivable are the most important because that is what you expect to collect 

straight line depreciation (definition)

definition: allocation of original cost evenly over the estimated life of the asset

accelerated depreciation (definition)

periodic vs perpetual inventory 

periodic: every so often (daily, weekly, monthly, quarterly, annually) 

perpetual: every transaction (ex scanner) 

normal assumption for freight

normal assumption is that buyer pays freight

FOB

FOB = “free on board”

• point at which title transfers: FOB plant, FOB destination

• not to be confused with who ultimately pays the shipping costs

Freight In 

-part of inventory which is a current asset on B/S 

-cost of getting materials to the plant or warehouse 

Freight Out

-part of SG&A

-expense of getting the product to customer

-deduction from gross profit on I/S

Bad debt expense

the net (squeeze) adjustment to the ADA account

part of SG&A on the I/S