Accounting Chapter 2 (redo)

What is an accounting transaction?

A business event with a measurable monetary impact on financial statements.

Dividends declared formula?

Dividends declared = Beginning retained earnings + net income - ending retained earnings

Two requirements for an accounting transaction?

Measurable in money and affects assets, liabilities, or equity.

What is the dual aspect concept?

Every transaction affects at least two accounts (double-entry).

What is the monetary unit assumption?

Only events measurable in money are recorded.

What is the going concern assumption?

The business will continue operating indefinitely.

Difference between cash and accrual accounting?

Cash: Revenue when cash is received; Expenses when cash is paid; Accrual: Revenue when earned; Expenses when incurred.

Which accounting basis is required under IFRS/ASPE?

Accrual basis.

What is the matching principle?

Expenses recorded in the same period as related revenues.

When is revenue recognized under IFRS/ASPE?

When performance obligations are satisfied.

Five steps of revenue recognition?

1. Identify the contract

2. Identify performance obligations

3. Determine transaction price

4. Allocate price to obligations

5. Recognize revenue when obligations are satisfied

Formula for net income?

Net Income = Revenues − Expenses

Formula for ending retained earnings?

Beginning RE + Net Income − Dividends

Formula for equity?

Equity = Share Capital + Retained Earnings

Expanded equity equation?

Beginning Equity + Investments + Net Income − Drawings

Are dividends an expense?

No — they reduce retained earnings.

Examples of current assets?

Cash, Accounts Receivable, Inventory, Supplies.

Examples of non-current assets?

Equipment, Land, Buildings.

Examples of current liabilities?

Accounts Payable, short-term loans.

Examples of non-current liabilities?

Long-term debt, bonds payable.

What is a prepaid expense?

Payment made in advance for future benefits.

Adjusting entry for prepaid expenses?

Prepaid Expense decreases; Expense increases.

What is an accrued expense?

Expense incurred but not yet paid.

Adjusting entry for accrued expenses?

Expense increases; Liability increases.

Why depreciate assets?

To allocate cost over useful life.

Straight-line depreciation formula?

(Cost − Residual Value) ÷ Useful Life

Formula for Cost of Goods Sold (COGS)?

Beginning Inventory + Purchases − Ending Inventory

FIFO vs LIFO?

IFRS: FIFO & weighted average allowed; LIFO not allowed.
ASPE: FIFO, weighted average, and LIFO allowed.

Four main financial statements?

Income Statement; Statement of Changes in Equity; Balance Sheet; Cash Flow Statement.

Required statement headers?

Company name, statement title, period/date.

Do dividends appear on the income statement?

No.

Inventory purchased for cash — effect?

Inventory increases; Cash decreases.

Inventory purchased on credit — effect?

Inventory increases; Accounts Payable increases.

Shares issued for cash — effect?

Cash increases; Share Capital increases.

Borrow money from bank — effect?

Cash increases; Loan Payable increases.

Revenue earned on account — effect?

Accounts Receivable increases; Revenue increases.

Profit margin formula?

Net Income ÷ sales Revenue × 100%.

Return on Assets (ROA) formula?

Net Income ÷ Average Total Assets × 100%.

Return on Equity (ROE) formula?

Net Income ÷ Average Shareholders’ Equity × 100%.

Two accounting standards in Canada?

• IFRS (International Financial Reporting Standards)

• ASPE (Accounting Standards for Private Enterprises)

Which companies use IFRS?

Public companies.

Which companies use ASPE?

Private companies.

Who sets IFRS?

International Accounting Standards Board (IASB).

Canadian standard-setting body?

Accounting Standards Board (AcSB).

Fundamental qualitative characteristics?

• Relevance (predictive value, confirmatory value, materiality)

• Faithful Representation (completeness, neutrality, freedom from error)

Enhancing qualitative characteristics?

• Comparability

• Verifiability

• Timeliness

• Understandability

How does net income flow through statements?

Income Statement → Retained Earnings → Equity.

What must always remain balanced?

Assets = Liabilities + Equity.

What is the cost constraint in accounting?

Providing financial information should not cost more than the benefit it provides.

What are the details of faithful representation?

Financial information should be complete, neutral, and free from error.

What are the limitations of the basic accounting equation?

Provides limited detail (few accounts). Revenues, expenses, and dividends only affect Retained Earnings, so analysis is less detailed.

How are assets classified on a balance sheet?

Current assets: Expected to be used or received within 12 months. Non-current assets: Long-term assets.

How are liabilities classified on a balance sheet?

Current liabilities: Due within 12 months. Non-current liabilities: Long-term obligations.

What items are included in the Statement of Changes in Equity?

Net income or loss, dividends, issuance of shares, beginning and ending equity balances.

What are the sections of the cash flow statement?

Operating, Investing, and Financing activities.

What does each section of the cash flow statement show?

Operating: Cash from day-to-day business operations. Investing: Cash from buying/selling long-term assets. Financing: Cash from shareholders or debt (borrowing/repayments, issuing shares).

What does a higher profit margin indicate?

Higher profitability; more dollars of profit per $1 of sales.

What does a higher ROA indicate?

Assets are being used more efficiently to generate profit.

What does a higher ROE indicate?

Better return on shareholders’ investment.

What are Fundamental Qualitative Characteristics?

The primary qualities that make financial information useful: relevance and faithful representation.

Relevance

(Fundamental) Information that affects decisions; material or helps predict or confirm outcomes.

Predictive Value

(Fundamental) Past or present information helps forecast future outcomes.

Completeness

(Fundamental) All necessary information is included so the information is not misleading.

Neutrality

(Fundamental) Information is unbiased and does not favor any party.

Freedom from Error

(Fundamental) Information is accurate with no material mistakes or omissions.

What are Enhancing Qualitative Characteristics?

Qualities that enhance the usefulness of financial information.

Comparability

(Enhancing) Allows comparison across different companies and across time.

Verifiability

(Enhancing) Information can be independently checked and produces similar results.

Timeliness

(Enhancing) Information is available in time to influence decisions.

Understandability

(Enhancing) Information is clear, concise, and easy for users to understand.

What expense has no effect on the cash flow of a firm?

Depreciation expense

All of the following costs are initially recorded as assets and later expensed when consumed, except which one?

Short-term investments

Confirmatory value, predictive value, and materiality relate to which fundamental qualitative characteristic?

Relevance

What is the main objective of IFRS?

To produce financial reporting that is useful for financial statement users

A declaration of dividends results in an increase in liabilities and a decrease in shareholders’ equity. True or False?

True

If a company records an increase in sales revenue during the year, net income will increase. True or False?

True

A company sold merchandise for cash. What is the effect of the sale?

Increase in revenue, increase in cost of goods sold, decrease in inventory

When $15,500 of inventory is purchased with a three-month note payable bearing 4% interest, what is the cost of the inventory?

$15,500

How is cash invested by shareholders in exchange for shares recorded?

Increase in cash and increase in common shares

Which ratio should shareholders use to assess return on their investment?

Return on Equity (ROE)

Equipment costing $13,400 was purchased April 1 with a 10-year life and $800 residual value. What depreciation expense is recognized in the year of acquisition?

$945.00

Information based on the best available data, using the correct process with adequate explanation demonstrates which characteristic?

Faithful representation