Financial Analysis & Budgets

Midterm February 23rd!!!

What is the fundamental definition of financial accounting?

It is a man-made system of recording, processing, and presenting business transactions.

According to the Entity Concept, how is the owner viewed in relation to the business?

The owner is considered a distinct and separate entity from the business.

How does the Cost Principle require assets to be recorded?

Assets must be recorded at their original cost.

Which accounting concept assumes that a business will continue to operate indefinitely?

The Going-Concern Concept

The Stable Monetary Unit Concept requires accountants to ignore the effects of _.

Inflation

What is the core rule of the Accrual Concept regarding revenue?

Revenue is recorded when it is earned, regardless of when cash is received.

Under the Accrual Concept, when are expenses recorded?

Expenses are recorded when they are incurred, regardless of when cash is paid.

State the Basic Accounting Equation.

$Total\ Assets = Total\ Liabilities + Owner's\ Equity$

In accounting terms, what is an Asset?

Anything of value that the business owns.

Why is 'Accounts Receivable' classified as an asset even if the money is not yet in hand?

It represents a sum of money owed to the business by clients for services or goods provided.

In accounting terms, what is a Liability?

Anything that the business owes to external parties.

What is the distinction between 'Accounts Payable' and 'Notes Payable'?

Accounts payable are debts from credit purchases, while notes payable are formal written promises to pay back loans.

The net investment by the owner, including amounts invested plus retained earnings.

Owner’s Equity

In the context of the accounting equation, how do Capital Injections affect Owner's Equity?

They increase the value of Owner's Equity.

In the context of the accounting equation, how do Withdrawals affect Owner's Equity?

They decrease the value of Owner's Equity.

How do Expenses affect the Owner's Equity side of the accounting equation?

They decrease the total value of Owner's Equity.

Revenue

The value a firm creates when it makes a sale, whether for cash or on credit.

Expenses

Costs incurred specifically in the process of generating revenue.

Why is the purchase of a car for $\$35,000$ not immediately treated as an expense?

It is considered a capital expenditure to acquire an asset rather than a cost directly linked to a specific service sale.

What term describes the estimated loss in value of a long-term asset, such as a vehicle, due to wear and tear?

Depreciation

What is the first stage in the formal recording of business transactions?

Journal Entries

What is the primary function of a Ledger?

It is a book that records all transactions involving a particular account, posted from the journal.

What is the purpose of preparing a Trial Balance?

It allows the accountant to check the accuracy of ledger entries by listing the balance of each account.

In the double-entry system, what is the meaning of a 'Debit'?

An entry made on the left-hand side of an account.

In the double-entry system, what is the meaning of a 'Credit'?

An entry made on the right-hand side of an account.

What is the fundamental rule regarding Debits and Credits for every transaction?

Total debits must always equal total credits.

Which account type is increased by a Debit and decreased by a Credit?

Asset accounts

Which account types are increased by a Credit and decreased by a Debit?

Liability, Capital, and Revenue accounts.

Which two account types behave like assets in that they are increased by Debits?

Expenses and Withdrawals

How does a credit purchase of equipment affect the accounting equation?

Assets increase (Equipment) and Liabilities increase (Accounts Payable).

If an owner uses personal funds to buy a car for personal use, how is the business's accounting equation affected?

The equation is not affected because of the Entity Concept.

What is the primary disadvantage of a Sole Proprietorship regarding business debt?

The owner has unlimited liability, meaning personal assets can be seized to pay business debts.

Why does a Sole Proprietorship have 'limited life'?

The business is legally tied to the owner and technically dies when the owner dies.

What is a key advantage of the Sole Proprietorship and Partnership forms regarding financial disclosure?

Secrecy, as they are not required by law to publish financial statements.

In a regular partnership, what is the liability status of the partners?

All partners generally have unlimited liability for the business's debts.

What must happen to a partnership if one of the general partners dies or leaves?

The business must be dissolved and the partnership reconstructed.

What defines a 'Limited Partnership'?

At least one partner has unlimited liability while others have limited liability and play a less active role.

What is a 'Corporation' in the eyes of the law?

A separate legal entity that has the powers of an individual, such as the ability to sue, be sued, and own property.

What does 'Limited Liability' mean for a corporate stockholder?

The stockholder cannot lose more than the amount they invested in the firm's shares.

Which business form lacks secrecy because it must disclose financial results to the public?

Corporations (Public Limited Liability Companies)

What are the two primary methods of 'Equity' financing for a corporation?

Sale of shares of stock and reinvestment of retained profits.

What are the two primary methods of 'Debt' financing for a corporation?

Taking out bank loans and the sale of bonds.

How does the relationship to the company differ between a Stockholder and a Bondholder?

A stockholder is a part-owner, whereas a bondholder is a creditor.

What three rights are generally conferred to stockholders?

Sharing in profits, sharing in remaining assets upon liquidation, and voting rights.

Which type of stock grants stockholders voting rights within the corporation?

Common Stock

What defines the dividend payment of Preferred Stock?

Stockholders receive a fixed dividend amount based on their investment.

In what order are dividends distributed among stock types?

Preferred stockholders are paid their fixed rate first, and common stockholders receive the residual profits.

How does 'Capital Gain' benefit a common stockholder?

It is the profit made when the market price of the stock increases above the purchase price.

According to the lecture, what are the three main price determinants for stocks?

Future dividend payments, rising profitability, and relative risk.

What is the primary role of a 'Financial Intermediary'?

To facilitate the flow of funds from suppliers (savers) to demanders (borrowers).

Which type of intermediary collects premiums to invest in corporate bonds and government securities?

Contractual Savings Institutions (Insurance Companies)

What is the key difference between a Hedge Fund and a Mutual Fund?

Hedge funds often invest in complex instruments like commodity options and foreign exchange, while mutual funds typically stick to bonds and stocks.

Financial markets are categorized by the _ of the securities and whether they are new or old.

Maturity Date

What is the maturity timeframe for instruments traded in the 'Money Market'?

One year or less.

Why do corporations primarily use the Money Market?

To solve short-term liquidity problems.

Which type of security is NEVER sold in the Money Market?

Stocks

What is the maturity timeframe for instruments in the 'Capital Market'?

More than one year (often over 10 years).

The market where securities are sold for the first time and cash goes directly to the company.

Primary Market

The market where existing securities are resold between investors.

Secondary Market

What happens to the original company during a trade in the Secondary Market?

The company does not receive any new funds from the trade.

In the journal entry for an owner depositing $\$100$ into the business, which account is debited?

Cash

In the journal entry for an owner depositing $\$100$ into the business, which account is credited?

Capital

When a business buys $\$40$ of supplies for cash, how is the Cash account affected in the ledger?

The Cash account is credited for $\$40$.

What is the formula for calculating total common stock dividends?

$Net\ Income - Preferred\ Stock\ Dividends - Retained\ Earnings$

Why is 'Limited Life' considered a disadvantage for raising funds?

Investors are hesitant to invest in a business that legally ceases to exist upon the owner's death.

What documents are required to form a corporation?

Articles of Incorporation and Bylaws.

How does falling risk affect the demand and price of a stock?

Demand rises, which leads to a rising price.

Which depository institution specifically focuses on providing mortgages?

Savings and Loans Associations

Creditor

An entity to whom the business owes money.

Debtor

An entity that owes money to the business.

If a taxi driver pays for vehicle maintenance, is this a capital expenditure or an expense?

It is considered an expense.

What is the 'Stable Monetary Unit' assumption regarding currency value?

It assumes the purchasing power of the dollar remains constant over time.

How does performing a service 'on account' affect the accounting equation?

Assets increase (Accounts Receivable) and Owner's Equity increases (Revenue).

In a T-account for Cash, on which side would a $\$500$ payment to a supplier be recorded?

The right (Credit) side.

What is the primary liability (source of funds) for a Commercial Bank?

Deposits