Chapter 3

Time Period Assumption

Presumes an organization’s activities can be divided into specific time periods, such as months, quarters, or years

Accounting/Reporting Period

Length of time covered by financial statements

Annual Financial Statements

Financial statements covering a 1-year period

Usually a calendar year but can be 12 consecutive months

Interim Financial Statements

Financial statements covering periods of less than one year

Usually 1-, 3-, or 6-month periods

Fiscal Year

Consecutive 12-month (52 week) period chosen as the organizations annual accounting period

Natural Business

12-month period that ends when a company’s sales activities are at their lowest point

Accrual Basis Accounting

Records Revenues when services and products are delivered

Records Expenses when incurred (matched with revenues)

Cash Basis Accounting

Records Revenues when cash is received

Records expenses when cash is paid

Cash Basis Income

Cash receipts minus cash payments

Revenue Recognition Principle

Requires that revenue be recorded when goods or services are provided to customers & at an amount expected to be received from customers

Adjustments ensure revenue is recognized (reported) in time period when those services & products are provided

Expense Recognition (Matching) Principle

Requires that expenses be recorded in the same accounting period as the revenues that are recognized as a result of those expenses

Adjusting Entry

Made at the end of an accounting period, reflecting a transaction or event that is not yet recorded

Affects one or more income statement accounts & one or more balance sheet accounts

Prepaid (Deferred) Expenses/Assets

Assets paid for in advance of receiving their benefits

Assets used up, advance payments become expenses

Plant Assets

Tangible long-term assets used to produce or sell products & services

Property, Plant, and Equipment (PP&E)

Depreciation

Expense created by allocating the cost of plant & equipment to periods in which they are used

Salvage Value

An asset’s expected value at the end of its useful life

Straight-line Depreciation

Allocates an equal portion of the depreciable cost of plant (cost-salvage) to each accounting period in its useful life

Accumulated Depreciation

Cumulative sum of all depreciation expense recorded for an asset

Separate Contra Account

Normal Credit Balance

Contra Account

Account linked with another account & having an opposite normal. balance

Reported as subtraction from the other account’s balance

Book Value

Net Amount

Asset’s costs - its accumulated depreciation

Unearned (Deferred) Revenue

Cash received in advance of providing products & services

Defer reporting amounts received as revenues until product/service provided

Accrued Expenses

A past expense that hasn’t been recorded or paid yet

Reported on income statement for the period when incurred

Ex. wages

Bankers’ Rule

Interest computations use a 360-day year

Accrued Revenues

Revenues has been earned (good/service given) but has not been invoiced yet

Unadjusted Trial Balance

List of accounts and balances BEFORE adjustments are recorded

Adjusted Trial Balance

List of accounts and balances AFTER adjusting entries have been recorded and posted to the ledger

Closing Process

Occurs at the end of an accounting period after financial statements are completed to prepare for next period

Temporary Accounts

Close at the end of each period

Record revenues, expenses, & dividends

Income Summary

Temporary account used only in the closing process that has a credit for total revenues and a debit for total expenses

Balance transferred to capital account (retained earnings)

Permanent Accounts

Reports on activities related to one or more future accounting periods

Asset, Liability, & Equity

Closing Entries

Transfer the end-of-period balances in revenue, expense, & dividends accounts to the permanent Retained Earnings account

Post-closing Trial Balance

List of permanent accounts and their balances after all closing entries

Assets, Liabilities, & Equity

Accounting Cycle

The steps in preparing financial statements

Robotic Process Automation (RPA)

The use of software bots to automate repetitive and routine tasks that are usually done by human workers

Unclassified Balance Sheet

Broadly groups assets, liabilities, and equity accounts

Classified Balance Sheet

Presents assets and liabilities into subgroups, including current and noncurrent classifications

Operating Cycle

Time span from when cash is used to get goods and services until cash is received from the sale of goods and services

*Most less than 1yr so 1yr is used

Current Assets

Cash & other resources expected to be sold, collected, or used within a year or company’s operating cycle

Long-Term Investments

Includes notes receivable and investments in stocks and bonds when expected to be held longer for a year or operating cycle

Intangible Assets

Long-term assets that benefit business operations but lack physical form

Ex. Patents, trademarks, etc.

Current Liabilities

Liabilities due to be paid or settled within a year or operating cycle, whichever is longer

Long-term Liabilities

Liabilities NOT due within a year or the operating cycle

Profit Margin

Shows the percent of profit in each dollar of sales

Current Ratio

A measure of a company’s ability to pay its short-term obligations

Work Sheet

A document that is used internally by companies to help with adjusting, closing accounts, and preparing financial statements

Reversing Entries

Optional entries recorded at the beginning of a period that prepare the accounts for the usual journal entries as if adjusting entries had not occurred in the prior period

Adjusting Prepaid (Deferred) Expenses

Decrease Asset

Increase Expense

Adjusting Deferred (Unearned) Revenue

Decrease Liability

Increase Revenue

Adjusting Accrued Expenses

Increase Liability

Increase Expense

Adjusting Accrued Revenues

Increase Asset

Increase Revenue