Financial Accounting Notes

Stock Values:

  • Market Value: The price at which a stock is traded on the market. This value is not reflected in the financial statements.
  • Par Value: A nominal value that is assigned to a stock. Often used for internal accounting purposes.

Treasury Stock:

  • When a corporation buys back its own stock, these shares are classified as treasury stock.
  • Treasury stock can be reissued or retired later.

Dividends:

  • Cash Dividends: These are distributions of earnings to shareholders.
    • Require the company to have sufficient cash and retained earnings.
  • Stock Splits: This involves increasing the number of shares outstanding by issuing more shares to current shareholders.
    • Often done to reduce the market price per share.

Owners' Equity:

  • Contributed Capital: Represents the amount paid in by owners.
    • Includes common stock, preferred stock, and additional paid-in capital.
  • Earned Capital: Represents the accumulated earnings of the corporation.
    • Represented by retained earnings.

Earnings per Share (EPS):

  • A key metric that measures the portion of a corporation's profit allocated to each outstanding share of common stock.
  • Crucial for assessing stock value and corporate performance.

Equity Financing:

  • Involves securing equity financing through the issuance of stock.

Stock Transactions:

  • Involves analyzing and recording transactions for the issuance and repurchase of stock.

Dividends and Stock Splits:

  • Involves recording transactions and understanding the effects on financial statements for cash dividends, property dividends, stock dividends, and stock splits.

Owners' Equity vs. Retained Earnings:

  • Involves comparing and contrasting the components of owners' equity and retained earnings.

Earnings per Share (EPS):

  • Discusses the applicability of EPS as a method to measure corporate performance.

Key Concepts:

  • Corporation: A legal business structure with separate legal entity status.
    • Advantages: limited liability, transferable ownership, and ease of raising capital.
    • Disadvantages: regulatory costs and double taxation.

Stock Types:

  • Common Stock: The primary class of stock.
    • Shareholders have voting rights and a claim on dividends.
  • Preferred Stock: Shareholders receive fixed dividends and have priority over common stockholders in dividend payments but typically do not have voting rights.

Weighted Average:

  • Calculates an average cost for all units of inventory.
  • Used to value Cost of Goods Sold (COGS) and ending inventory.

Perpetual vs. Periodic Inventory Systems:

  • Perpetual System: Continuously updates inventory accounts with each purchase and sale.
    • Provides real-time inventory data.
  • Periodic System: Updates inventory accounts at specific intervals (monthly, quarterly, or annually).
    • Requires separate calculation of COGS.

Impact of Inventory Errors:

  • Errors in ending inventory valuation can cause inaccuracies in both the income statement (COGS and net income) and the balance sheet (inventory and equity).
  • Errors affect financial statements for two periods because the ending inventory of one period becomes the beginning inventory of the next.

Inventory Management Ratios:

  • Inventory Turnover Ratio: Measures how many times inventory is sold and replaced over a period.
    • Indicates the efficiency of inventory management.
  • Days Sales in Inventory Ratio: Indicates the average number of days it takes to sell inventory.
    • Helps assess the liquidity of inventory.

Inventory Valuation Methods:

  • Describe and demonstrate the basic inventory valuation methods and their cost flow assumptions.

Periodic and Perpetual Methods:

  • Calculate the cost of goods sold (COGS) and ending inventory using both the periodic and perpetual methods.

Impact of Inventory Valuation Errors:

  • Explain and demonstrate how errors in inventory valuation affect the income statement and balance sheet.

Inventory Management Efficiency:

  • Examine the efficiency of inventory management using financial ratios.

Key Concepts:

  • Inventory Methods:
    • Specific Identification: Tracks the actual cost of the specific item being sold.
      • Generally used for expensive and highly customized items.
    • First-In, First-Out (FIFO): Assumes the earliest purchased items are sold first.
      • Affecting how inventory costs are recorded.
    • Last-In, First-Out (LIFO): Assumes the latest purchased items are sold first.
      • Impacting inventory valuation.

Weighted Average:

  • Calculates an average.

Sales on Account:

  • Companies may extend credit to customers, which impacts how revenues are recognized and recorded.

Bad Debts:

  • Uncollectible amounts from customers are a necessary aspect of extending credit.

Methods to recognize bad debts:

  • Direct Write-Off Method: Write off bad debts when they are deemed uncollectible, though this method is not GAAP-compliant.
  • Allowance Method: Estimates bad debts based on past experience, matching them with related sales during the period.
    Approaches include the income statement method and balance sheet method.

Financial Ratios:

  • Accounts Receivable Turnover Ratio: Measures how efficiently a company collects receivables.
  • Days Sales in Receivables: Indicates the average number of days it takes to collect receivables.

Earnings Management:

  • Companies may use legitimate methods within GAAP to manage earnings, but manipulation can lead to unethical practices or even fraud.

Notes Receivable:

  • Distinguished from accounts receivable by the formal agreement and inclusion of interest.

Selling Receivables:

  • Companies may sell receivables to a collection agency, which involves recording a factoring expense for the difference between the receivable's value and the amount