ACTG

Financial Accounting

Keeping the financial score for the entity

• Follows GAAP

• External

Managerial Accounting

Using accounting and non-accounting information to make decisions

• Conventions (No GAAP)

• Internal

FASB

Financial Accounting Standards Board

GAAP

Generally Accepted Accounting Principles

Financial Accounting

keeping the financial score for the entity

Cost

all costs are historical

Objectivity

arm’s length negotiation

Going Concern

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

Revenue Recognition

• Earned: rendered goods and services

• Recognized: expectation of payment

Matching

match expenses with revenue in the period they occur

Consistency

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

Conservatism

if multiple options exist, pick the least favorable

Materiality

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

Full Disclosure

“Full Monty” must disclose all relevant information

Assets

something of future economic value

Are all assets shown on the balance sheet? If not, why not?

No. Assets must be objectively quantifiable to be recorded on the balance sheet

Liability

something owed

Are all liabilities shown on the balance sheet? If not, why not?

No. Liabilities must be objectively quantifiable to be recorded on the balance sheet.

Contingent liability

liability that cannot be objectively quantifiable.

Stockholder’s Equity

capital plus retained earnings

Capital

investment by the stockholders

Retained Earnings

• Earnings retained in the business

• Ending RE = Beginning RE plus NIAT minus Dividends

Dividend

distribution of retained earnings to stockholders

Expense

expired asset

Revenue

rendered goods and/or services with the expectation of payment

Chart of Accounts

list of the names and account numbers for all accounts

General Journal

shows the debits and credits for each accounting transaction

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 vs. Cash Basis:

Accrual basis: accounting based on transactions

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

Debit l Credit

Controller

typically, the top accounting person in a company

Income Statement

matches revenue with expense over a period of time

Cost of goods sold

Def: cost of what is not there

formula: beginning inventory plus net purchases minus ending inventory

Non-cash charges

Def: deduction on income statement but no cash paid out

Ex: 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 minus S, G & A; income from the core business

Non-Operating Income (aka “other”)

interest income and expense, capital gain or loss

Balance Sheet:

shows assets equals liabilities plus stockholders’ equity at a point in time

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)

Expense It” = “Write It Off”

Deduct the amount on the income statement (Decreases net income)

why capitalize/expense/write it off important?

Want net income to be correct.

Fixed (plant) assets (aka PPE—property, plant, and equipment)

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

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 under stockholder’s equity

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

Gross revenue vs. net revenue (which is more important and why?)

Gross accounts receivables versus net account receivables (which is more important and why?)

Net Income

revenue - expense

Expense

expired asset

Prepaid expense

paid cash but have not yet received the goods and services

Unearned revenue (aka customer deposits)

received cash but have not yet rendered the goods and services

Depreciation, Amortization, and Depletion

Definition – 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

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

Amortization

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

Depletion

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

Straight Line Depreciation

Def: Allocation of original cost evenly over the estimated life of the asset

• on the income statement

• follows GAAP

• Purpose: matching, match expense with revenue

• limit: total depreciation over the life of the asset per books and per tax will be the same

Accelerated Depreciation

Def: Any depreciation method faster than straight line

• Used: Tax Return

• Follows IRS

• Accelerate depreciation expense per tax to reduce taxable income to incent business to purchase capital assets and thereby expand employment

• limit: total depreciation over the life of the asset per books and per tax will be the same

Calendar year

accounting year ends December 31

Fiscal year

accounting years ends on any other month

Periodic inventory

every so often, i.e. daily, weekly, monthly, quarterly, annually

Perpetual inventory

every transaction (i.e. scanner)

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

Interest income and interest expense

Gain or loss on the sale of assets

Normal assumption

buyer pays freight

FOB

• “Free on Board”

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

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

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 – sales/marketing expense of getting product to the customer; deduction from gross profit on I/S

Bad debt expense

the net (squeeze)adjustment to the ADA account; part of S,G &A on the income statement

ADA

• the estimate of accounts that are uncollectible; contra account to A/R in current assets

• “Bad debts go to the ADA to die”

• Direct Write Off – bad debts go directly to I/S since there is no ADA history.

JIT – Just in time inventory

Delivery of inventory just as it is required for production

FIFO First-In-First-Out flow of goods sold

=> LISH – Last-In-Still-Here inventory valuation

FIFO First-In-First-Out flow of goods sold =>

LISH – Last-In-Still-Here inventory valuation

Fifo

first in first out

Lish

last in still here

Value Chain

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

• 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

“C level”

the executive level of a company e.g. chief executive officer, chief financial officer, chief…

What is the purpose of a entity?

To satisfy a customer demand