Learn: Penn State ACCTG 211 Exam 1

Accounting Definition

An information and measurement system that identifies, records, and communicates an organization's business activities ("The Language of Business")

Financial Accounting

Focuses on the needs of external users of accounting - people who do not directly run the organization and have limited access to its accounting information

Examples of Financial Accounting Users

Lenders (Creditors), Shareholders (Investors), External Auditors, Non Managerial/Non Executive Employees/Labor Unions, Regulators, Customers, Suppliers, Contributors to Nonprofits, Voters and Government Officials

Managerial Accounting

Focuses on the needs of internal users of accounting - people who directly manage or oversee the organization

Examples of Managerial Accounting Users

Purchasing Managers, Human Resources Managers, Production Managers, Distribution Managers, Marketing Managers, Service Managers, Research and Development Managers, and Executive Employees

Generally Accepted Accounting Principles (GAAP)

The concepts and rules that financial accounting is governed by - wants information to have relevance and faithful representation

The Financial Accounting Standards Board (FASB)

The organization that is given the task of setting GAAP from the Securities and Exchange Commission (SEC)

The FASB Conceptual Framework

1. Objectives: Provide useful information to investors, creditors, and others

2. Qualitative Characteristics: Require information that has relevance and faithful representation

3. Elements: Define items in financial statements

4. Recognition and Measurement: Set criteria for an item to be recognized as an element and how to measure it

The Measurement/Cost General Accounting Principle

States that transactions should be recorded at their actual cost (cash or cash-equivalent value), rather than their value

The Revenue Recognition General Accounting Principle

States that revenue is recognized (1) when goods or services are provided to customers and (2) at the amount expected to be received from the customer

The Expense Recognition/Matching Accounting Principle

States that expenses are recorded in the same period as the revenues they help generate

The Full Disclosure Accounting Principle

States that companies must report all information that could affect users' decisions

The Going-Concern Accounting Assumption

States that a business is assumed to continue operating, so assets are reported at their cost, not liquidation value

The Monetary Unit Accounting Assumption

States that transactions and events are recorded in money units (e.g., USD, Mexican Pesos)

The Time Period Accounting Assumption

States that a company's life can be divided into time periods (months, years) to produce useful reports

The Business Entity Accounting Assumption

States that a business is accounted for separately from its owner and from other businesses

Sole Proprietorship Business Entity Characteristics

Owner(s): 1 (Easy to set up)

Taxation: No additional business income tax

Liability: Unlimited; owner personally responsible for debts

Legal Entity: Not separate from owner

Business Life: Ends with owner's death or choice

Partnership Business Entity Characteristics

Owner(s): 2 or more (Partners)

Taxation: No additional business income tax

Liability: Unlimited; partners jointly liable for debts

Legal Entity: Separate legal entity (same rights as a person)

Business Life: Ends with a partner's death or choice

Corporation Business Entity Characteristics

Owners: 1 or more (Shareholders)

Taxation: Additional corporate income tax

Liability: Limited; shareholders not personally liable

Legal Entity: Separate legal entity (same rights as a person)

Business Life: Indefinite

Limited Liability Corporation (LLC) Business Entity Characteristics

Owners: 1 or more (Members)

Taxation: No additional business income tax

Liability: Limited; members not personally liable

Legal Entity: Separate legal entity (same rights as a person)

Business Life: Indefinite

The Cost-Benefit/Cost Accounting Constraint

States that information should only be disclosed if its benefits to users outweigh the costs of providing it

Other Accounting Constraints

1. Materiality: The ability of information to influence decisions

2. Conservatism: Choose the safer estimate when uncertain

Industry Practices: Follow practices specific to the industry

The Accounting Equation

Assets = Liabilities + Equity

The Expanded Accounting Equation

Assets = Liabilities + (Contributed Capital (C/S) - Dividends + Revenue - Expenses)

Assets Definition

Resources a company owns or controls (e.g., cash, supplies, equipment, land, buildings, receivables, and prepaid accounts)

Liabilities Definition

A company's financial obligations or debts to other entities (e.g., payables and unearned revenue)

Equity Definition

The owner's claim on assets, equal to assets minus liabilities (Shareholder's Equity = Contributed Capital (C/S) - Dividends + Revenues - Expenses)

Types of Equity Accounts

Common Stock + (Retained Earnings - Dividends + Revenues - Expenses)

Income Statement

Shows revenues, expenses, and net income (profit or loss) over a period of time (Net Income = Revenues - Expenses)

Statement of Shareholder's Equity/Retained Earnings

Shows changes in retained earnings from one period to the next (Beginning Retained Earnings + Net Income - Dividends = Ending Retained Earnings)

Balance Sheet

Reports a company's assets, liabilities, and equities at a certain point in time (Total Assets MUST = Total Liabilities + Total Equity)

Statement of Cash Flows

Reports cash inflows and outflows from operating, investing, and financing activities over a certain period

Total Cash from Operating Activities (Income Statement)

+ Total Cash from Investing Activities (Balance Sheet: Long-Term Assets)

+ Total Cash from Financing Activities (Balance Sheet: Long-Term Assets and Liabilities and Equity)

= Net Change in Cash

+ Beginning Cash

= Ending Cash

The Accounting Cycle Steps

1. Analyze transactions and create journal entries.

2. Post journal entries to ledger accounts (T-Account).

3. Balance ledger accounts and transfer balances to unadjusted trial balance.

4. Determine required adjustments and create adjusting journal entries.

5. Post adjusting journal entries to ledger accounts in #2 above (Creating new ledger accounts as needed).

6. Rebalance ledger accounts and transfer balances to adjusted trial balance.

7. Create financial statements from adjusted trial balance.

8. Create closing journal entries.

9. Post closing journal entries to ledger accounts in #5 above.

10. Rebalance ledger accounts and transfer balances to post-closing trial balance.

Condensed:

1. Analyze transactions & journalize

2. Post to ledger (T-accounts)

3. Prepare unadjusted trial balance

4. Record & post adjusting entries → adjusted trial balance

5. Prepare financial statements

6. Record & post closing entries → post-closing trial balance

What is the effect on the accounting equation when a company issues $30,000 of stock to investors?

Assets (Cash) ↑ $30,000; Equity (Common Stock) ↑ $30,000

What is the effect on the accounting equation when a company pays $2,500 cash for supplies and buys $7,100 of supplies on credit?

Assets (Supplies) ↑ $9,600; Assets (Cash) ↓ $2,500; Liabilities (Accounts Payable) ↑ $7,100

What is the effect on the accounting equation when a company uses $26,000 cash to purchase equipment?

Assets (Equipment) ↑ $26,000; Assets (Cash) ↓ $26,000. (Total assets unchanged)

What is the effect on the accounting equation when a company earns $5,800 in consulting services ($4,200 cash, $1,600 on account) and bills the customer for $300 for the rent of facilities?

Assets (Cash) ↑ $4,200; Assets (Accounts Receivable) ↑ $1,900 (↑ 1,600 and ↑ 300); Equity (Consulting Revenue) ↑ 6,100 (↑ 5,800 and ↑ 300)

What is the effect on the accounting equation when a company receives $1,900 from a customer previously billed (accounts receivable)?

Assets (Cash) ↑ $1,900; Assets (Accounts Receivable) ↓ $1,900 (Total assets unchanged)

What is the effect on the accounting equation when a company pays $1,000 rent expense and $700 salaries expense in cash?

Assets (Cash) ↓ $1,700; Equity (Expenses → decrease Retained Earnings) ↓ $1,700.

What is the effect on the accounting equation when a company pays $900 cash toward accounts payable?

Assets (Cash) ↓ $900; Liabilities (Accounts Payable) ↓ $900.

What is the effect on the accounting equation when a company pays $200 in cash dividends to investors?

Assets (Cash) ↓ $200; Equity (Dividends → decrease Retained Earnings) ↓ $200.

Operating Activities Definition

Include everyday routine transactions and events that affect net income

- Inflows: Cash from sales, interest received

- Outflows: Payments to suppliers, salaries, rent, interest, and other expenses

Investing Activities Definition

Include transactions and events that come from the purchase and sale of long-term assets

- Inflows: Cash from selling property or equipment.

- Outflows: Buying plant/equipment or investing in other firms

Financing Activities Definition

Include transactions and events that affect long-term liabilities and equity

- Inflows: Issuing long-term debt or common stock

- Outflows: Repaying debt principal or paying dividends

Accounts Definition

A record of increases and decreases in a specific asset, liability, equity, revenue, or expense

General Ledger Definition

A record of all accounts and their balances

Types of Cash Accounts

Cash, Receivable Accounts, Prepaid Accounts, Supplies Accounts, Equipment Accounts, Buildings Accounts, Land

Types of Liability Accounts

Payable Accounts, Unearned/Deferred Revenue, Accrued Liabilities (e.g., Wages, taxes, and interest payable)

Double-Entry Bookkeeping

States that each party in a business transaction will receive something and give something in return

T-Accounts

Visual depictions used to show the effects of transactions

The Left Side of a T-Account

Accounts on the left side of the equation (Assets) increase with debits and decrease with credits - Debits are on the left side of a T-Account

The Right Side of a T-Account

Accounts on the right side of the equation (Liabilities & Shareholder's Equity) increase with credits and decrease with debits - Credits are on the right side of a T-Account

The Journal Entry Process

1. Determine which accounts are affected by the transaction.

2. Classify each account as being an asset, liability, equity, revenue, or expense account.

3. Determine whether the account increases or decreases.

5. Based on the "normal" balance, determine if the account is a debit (dr.) or a credit (cr.) account.

6. Record transaction in journal entry form.

7. Post the transaction to the ledger through the use of a T-Account.

Condensed

Identify accounts → classify → increase/decrease → debit or credit → record → post to ledger.

What is the journal entry for issuing $30,000 of stock to investors?

Debit Cash for $30,000

Credit Common Stock for $30,000

What is the journal entry for purchasing supplies ($2,500 cash, $120 cash, $7,100 on credit)?

Debit Supplies for $9,720 ($2,500 + $120 + $7,100)

Credit Cash for $2,620 ($2,500 + $120)

Credit Accounts Payable for $7,100

What is the journal entry for purchasing $26,000 of equipment with cash?

Debit Equipment for $26,000

Credit Cash for $26,000

What is the journal entry for earning $5,800 consulting revenue ($4,200 cash, $1,600 on account) and billing the customer for $300 for the rent of facilities?

Debit Cash for $4,200

Debit Accounts Receivable for $1,900

Credit Consulting Revenue for $5,800

Credit Rent Revenue for $300

What is the journal entry for receiving $1,900 cash from a customer previously billed?

Debit Cash for $1,900

Credit Accounts Receivable for $1,900

What is the journal entry for paying $1,000 rent, $305 utilities, and $1,400 salaries in cash?

Debit Rent Expense for $1,000

Debit Utilities Expense for $305

Debit Salaries Expense for $1,400

Credit Cash for $2,705

What is the journal entry for paying $900 cash toward accounts payable?

Debit Accounts Payable for $900

Credit Cash for $900

What is the journal entry for paying $200 cash dividends to investors?

Debit Dividends for $200

Credit Cash for $200

What is the journal entry for receiving $3,000 in advance for future services (unearned revenue)?

Debit Cash for $3,000

Credit Unearned Revenue for $3,000

What is the journal entry for purchasing a 24-month insurance policy for $2,400?

Debit Prepaid Insurance for $2,400

Credit Cash for $2,400

Trial Balance Definition

A list of all ledger accounts and their balances at a point in time used to verify that total debits equals total credits

The Unadjusted Trial Balance

Prepared after regular journal entries are posted; used as a starting point before adjustments

The Adjusted Trial Balance

Prepared after adjusting journal entries used to create financial statements

The Post-Closing Trial Balance

Prepared after closing entries; ensures accounts are balanced and ready for the next accounting period

Cash Basis Accounting

Records revenues when cash is received and expenses when cash is paid (Not GAAP)

Accrual Accounting

Records revenues when earned and expenses when incurred, regardless of cash flow (GAAP)

Permanent Accounts Definition

Accounts that carry balances forward into future accounts (Typically Balance Sheet Accounts - e.g., Assets, Liabilities, and Equity)

Temporary Accounts Definition

Accounts that are closed each period and reset to zero (e.g., revenues, expenses, dividends)

The Roll-Forward Approach

Beginning Account Balance + Increases - Decreases = Ending Account Balance

Examples:

1. Beginning Retained Earnings + Net Income - Dividends = Ending Retained Earnings

2. Beginning Prepaid Expenses + Payments - Expenses Used = Ending Prepaid Expenses

The Accrual Accounting Adjustment Process

End-of-period entries that update accounts to correct balances before financial statements

Steps

1. Determine current balance

2. Determine correct balance

3. Record adjustment

The Two General Categories of Accounts that Require Adjustment in Accrual Account

1. Accruals

2. Deferrals

Accruals

Record revenues or expenses now, with cash received or paid later

Deferrals

Cashis received or paid now, but revenues or expenses are recorded later

Adjusting Entries Rule

Always involve one income statement account and one balance sheet account, but ever cash

Accrued Revenues

Revenues earned but not yet recorded or received in cash (accrued assets) (e.g., Accrued Services Revenue, Accrued Interest Revenue, Cash Received Later)

Deferred Revenues

Cash received in advance; recorded as a liability until product or service is provided (e.g., Unearned Revenue)

Accrued Expenses

Expenses incurred but not yet recorded or paid (e.g., Accrued Salaries Expense, Accrued Interest Expense, Cash Paid Later)

Deferred Expenses

Assets paid for in advance that become expenses when used (e.g., Prepaid Insurance, Prepaid Rent, Supplies, Depreciation)

What is the adjusting journal entry on December 31 for $1,800 of services earned from a $2,700 contract where payment will be received on January 10?

Debit Accounts Receivable for $1,800

Credit Consulting Revenue for $1,800

What is the adjusting journal entry on December 31 for $250 of consulting services earned from unearned revenue?

Debit Unearned Revenue for $250

Credit Consulting Revenue for $250

What is the adjusting journal entry on December 31 for $210 of salaries earned by employees (3 days worked at $70/day) that will be paid in January?

Debit Salaries Expense for $210

Credit Salaries Payable for $210

What is the adjusting journal entry on December 31 for one month of expired insurance ($100) from a 24-month, $2,400 policy?

Debit Insurance Expense for $100

Credit Prepaid Insurance for $100

What is the adjusting journal entry on December 31 if $8,670 of supplies remain unused from the $9,720 purchase?

Debit Supplies Expense for $1,050

Credit Supplies for $1,050

What is the adjusting journal entry on December 31 for one month of equipment depreciation ($300)?

Debit Depreciation Expense for $300

Credit Accumulated Depreciation for $300

Classified Balance Sheet

A balance sheet that separates assets and liabilities into current (short-term) and non-current (long-term) categories

Unclassified Balance Sheet

A balance sheet that broadly groups accounts into assets, liabilities, and equity, without distinguishing current vs. non-current

Current Assets Definition

Assets expected to be used, sold, or converted to cash within one year (e.g., cash, short-term investments, accounts receivable, inventory, supplies, prepaid expenses, etc.)

Non-Current Assets Definition

Assets that provide benefits beyond one year (e.g., notes receivable, plant assets (land, buildings, PP&E), and intangibles (patents, trademarks, goodwill, etc.))

Current Liabilities Definition

Obligations due within one year (e.g., accounts payable, salaries payable, unearned revenue, interest payable)

Non-Current Liabilities Definition

Obligations not due within one year (e.g., long-term debt and long-term notes payable)

The Closing Process in Accounting

Performed after preparing financial statements where temporary accounts (revenues, expenses, dividends) are "zeroed out" to reset for the next period

Steps in the Closing Process

1. Close out revenue accounts to the income summary

2. Close out expense accounts to the income summary

3. Close the income summary to retained earnings

4. Close out the dividends account and subtract them from retained earnings

5. Create a post-closing trial balance

What is the journal entry to close Revenue accounts to Income Summary?

Debit Revenue Accounts (Total)

Credit Income Summary (Total)

What is the journal entry to close Expense accounts to Income Summary?

Debit Income Summary (Total Expenses)

Credit Expense Accounts (Each Individual Account)

What is the journal entry to close Income Summary to Retained Earnings (when Revenues > Expenses)?

Debit Income Summary (Net Income)

Credit Retained Earnings (Net Income)

What is the journal entry to close Income Summary to Retained Earnings (when Revenues < Expenses)?

Debit Retained Earnings (Net Loss)

Credit Income Summary (Net Loss)

What is the journal entry to close Dividends to Retained Earnings?

Debit Retained Earnings (Total Dividends)

Credit Dividends (Total Dividends)