Accounting exam 1

What is Accounting?

• The process of identifying, recording, and communicating financial information.

• Helps stakeholders make informed decisions.

Financial Accounting vs. Managerial Accounting

• Financial Accounting: External users (investors, creditors), follows GAAP.

• Managerial Accounting: Internal users (management), used for decision-making.

Three Business Activities

1. Operating Activities – Day-to-day transactions (revenue, expenses).

2. Investing Activities – Buying/selling long-term assets.

3. Financing Activities – Transactions with lenders and stockholders (loans, issuing stock, paying dividends).

Corporation Advantages & Disadvantages

• Advantages: Limited liability, easy transfer of ownership, ability to raise capital.

• Disadvantages: Double taxation, more regulations.

Four Financial Statements

1. Income Statement – Reports revenues and expenses (Net Income = Revenues - Expenses).

2. Statement of Stockholders’ Equity – Shows changes in equity (Common Stock + Retained Earnings).

3. Balance Sheet – Shows financial position (Assets = Liabilities + Equity).

4. Statement of Cash Flows – Reports cash inflows and outflows (Operating, Investing, Financing).

GAAP, FASB, SEC, Independent Auditor

• GAAP – Generally Accepted Accounting Principles, rules for financial reporting.

• FASB – Financial Accounting Standards Board, establishes GAAP.

• SEC – Securities and Exchange Commission, regulates financial markets.

• Independent Auditor – Ensures financial statements are free from material misstatement.

Qualitative Characteristics & GAAP Assumptions

• Fundamental: Relevance & Faithful Representation.

• Enhancing: Comparability, Verifiability, Timeliness, Understandability.

• GAAP Assumptions: Economic Entity, Monetary Unit, Periodicity, Going Concern.

Accounts & Account Classification (ALERED)

• Assets (+DEBIT / -CREDIT)

• Liabilities (-DEBIT / +CREDIT)

• Equity (-DEBIT / +CREDIT)

• Revenue (-DEBIT / +CREDIT)

• Expenses (+DEBIT / -CREDIT)

• Dividends (+DEBIT / -CREDIT)

ccrual Basis Accounting

• Revenue Recognition Principle – Revenue is recorded when earned.

• Expense Recognition Principle – Expenses recorded when incurred (matching principle).

Adjusting Journal Entries

• Accruals: Revenue earned or expense incurred before cash is exchanged.

• Deferrals: Cash received/paid before revenue is earned or expense incurred.

• Depreciation: Systematic allocation of asset cost over time.

  • Depreciation Expense (DEBIT) & Accumulated Depreciation (CREDIT).

Adjusted Trial Balance & Financial Statements

• Adjusted Trial Balance ensures debits = credits after adjustments.

• Used to prepare financial statements.

Classified Balance Sheet

• Current Assets: Cash, Accounts Receivable, Inventory.

• Long-Term Assets: Equipment, Buildings, Land.

• Current Liabilities: Accounts Payable, Salaries Payable.

• Long-Term Liabilities: Notes Payable, Bonds Payable.

• Stockholders’ Equity: Common Stock, Retained Earnings.

Closing Process

• Temporary Accounts: Revenue, Expense, and Dividends accounts must be closed to Retained Earnings.

• Permanent Accounts: Assets, Liabilities, and Equity accounts carry forward.

• Closing journal entries transfer net income and dividends to Retained Earnings.

• Post-Closing Trial Balance ensures only permanent accounts remain.