Financial Reporting Exam 1

Reporting Entity

Organization or economic unit for which financial statements are prepared

General-Purpose Financial Reports

Provide information on a reporting entity to external users, Aim to meet informational needs of a broad group of users rather than specific needs of any particular group

GAAP

Body of concepts, principles, and procedures that govern the preparation of financial statements in the interest of the publ

Codification

Launched in 2009, replaced approximately 16 different sources of GAAP, Organized into nine major areas, Classified in standard section

International Financial Reporting Standards (IFRS)

A single set of high quality, understandable, enforceable, globally accepted standards, Prepared and updated by the IAS

Relevance

Capable of making a difference in decisions of users (Predictive Value, Confirmatory Value, Materiality)

Faithful Representation

Represents economic phenomena in words and numbers (Completeness, Neutrality, Free from Error)

Predictive Value

Financial information has predictive value if it can be used as an input to processes employed by users to predict future outcomes

Confirmatory Value

provides feedback (confirms or changes) about previous evaluations

Materiality

the magnitude of the item is such that it is probable that the judgment of a reasonable person relying upon the report would have been changed or influenced by the inclusion or correction of the item

Completeness

A complete depiction includes all information necessary for a user to understand the phenomenon being depicted, including all necessary descriptions and explanation

Neutrality

without bias in the selection or presentation of financial information

Free from error

no errors or omissions in the description of the phenomenon, and the process used to produce the reported information has been selected and applied with no errors in the process

Enhancing Qualitative Characteristics

Comparability, Verifiability, Timeliness, Understandability

Comparability

information about a reporting entity is more useful if it can be compared with similar information about other entities and with similar information about the same enti

Verifiability

assure users that information faithfully represents the economic phenomena it purports to represent

Timeliness

having information available to decision makers in time to be capable of influencing their decisions

Understandability

Classifying, characterizing, and presenting information clearly and concisely makes it understandable

Cost Effectiveness Constraint

Reporting financial information imposes costs, and it is important that those costs are justified by the benefits of reporting that information

Accounting Assumptions

Reporting Entity, Going Concern, Monetary Unit, Periodicity

Reporting Entity Assumptions

Conducts economic activities, Economic activities are distinguishable from other entities, Financial reporting faithfully represents the activities

Going Concern Assumption

Entity expected to continue operations for the foreseeable future, Entity expected to carry out contemplated operations and commitment

Monetary Unit Assumption

nominal units of money, unadjusted for inflation or deflation when nominal units of money are relatively stable

Periodicity Assumption

Report changes in a company’s financial position over a series of distinct time periods such as months, quarters, or year

Key Accounting Processes

Recognition, Derecognition, Measurement, Full Disclosure

Revenue Recognition

Recognize revenue when seller satisfies a performance obligation

Expense Recognition

Simultaneously recognize revenue and expense because the expense is directly related to a particular revenue, Recognize expense during the period of revenue or by allocation, Recognize expense in the period in which the costs are incurred

Measurement

Both initial and subsequent measurements can be determined through an entry or exit price system

Entry price system

Record at purchase price (cost)

Exit price system

Record at fair value (market participant value) or entity-specific value (market price relevant to a specific entity)

Full Disclosure

Financial statements must include all relevant information needed to make informed investment and credit decision (Accompanying notes, Supplementary schedules, Modifying comments on face of financial statement)

Assets

a probable future economic benefit that the firm controls due to past events or transactions

Liabilities

claim to assets by creditors that represents an obligation to make future payment due to a past even

Stockholders’ Equity

Residual interest in assets (after all liabilities have been satisfied)

Deferred Revenue

Company receives cash before providing goods or services

Prepaid expenses

Company pays out cash before incurring the expense

Accrued revenue

Company gets cash after recording revenue for goods or services

Accrued expenses

Company pays cash after incurring the expense

Revenue

• Inflows of resources resulting from providing goods or services to customers,

• Generated from activities that constitute the entity’s ongoing major or central operations

Gains

• Increase in equity from an entity’s peripheral or incidental transactions

• Also arise from all other transactions and other events and circumstances affecting the entity, except those that result from revenues or investments by owners

Expenses

• Outflows of resources incurred while generating revenue

• Used for activities that constitute the entity’s ongoing major or central operation

Losses

• Decrease in equity from an entity’s peripheral or incidental transactions

• Also arise from all other transactions and other events and circumstances affecting the entity, except those that result from expenses or distribution to owners

Operating Section

Reports the revenues and expenses related to the entity’s principal operations. Also called major or central operations

Non-operating section

Reports the revenues and expenses related to any secondary operations of the entity. Arise from peripheral or incidental transaction

Restructuring costs

Include costs associated with management’s plans to materially change the scope of

(main) business operations

Discontinued Operations

Reports the results of operations for a component of an entity that are or will be discontinue

net income and EPS

Reports net income and several computations of the amount of earnings available to each shareholder in a company

EPS

Ratio that indicates the amount of income earned by a company expressed on a per share basis

Comprehensive income =

net income + other comprehensive income

Ending RE =

Beginning RE + NI - Dividends declared

Subsequent events

Major events or uncertainties that are resolved or occur after the fiscal year-end but before financial statements are issued

Statement of cash flows

• Presents a DETAILED SUMMARY of all the cash inflows and outflows, or the sources and uses of cash during the period.

• Reports three years of cash flows under GAAP.

• Meets the objective of financial reporting – to help assess the amounts, timing, and uncertainty of future cash flows

Operating Activities

Inflows and outflows of cash that result from activities reported in the operating and non-operating section of the income statement

Indirect method

Net cash flow is derived indirectly by starting with reported net income and adding or subtracting items to convert that amount to a cash basis

Direct method

Cash effect of each operating activity is reported directly in the statement

Investing Activities

Inflows and outflows of cash related to the acquisition and disposition of: Long-lived assets used in the operations of the business, Investment assets

Financing activities

Inflows and outflows of cash related to external financing of the company with: Owners and Creditors

Default risk

the risk the company cannot pay its obligations when they come due

Operational risk

which relates to how a company can withstand various events

Profitability ratios

How profitable the firm is

Activity ratios

How productively the firm uses their asset

solvency ratios

Long-term financial viability

Liquidity ratios

Short-term debt paying ability

Return on equity =

net income / avg equity

Return on assets =

net income / total avg assets

Profit margin =

net income / net sales

Gross profit margin =

Gross profit / net sales

Asset turnover =

net sales / avg total assets

Accounts receivable turnover

net credit sales / avg accounts receivable

Inventory turnover

COGS / avg inventory

Accounts payable turnover

COGS / avg accounts payable

Times interest earned =

Income before taxes and interest / interest expense

Leverage =

avg total assets / avg stockholders’ equity

Total liabilities to equity =

total liabilities / total stockholders’ equity

current ratio

Current assets / current liabilities

Quick ratio

Quick assets / current liabilites

Quarterly

Filing frequency for form 10-Q

as applicable, following a major event

Filing frequency for form 8-K