1 Flashcards
(25 cards)
- Explain the term stakeholder. Distinguish
between stakeholders with a direct versus
an indirect interest in the companies that
issue accounting reports.
Stakeholders are the parties that use accounting information.
Stakeholders with a direct interest include owners, managers, creditors, suppliers, and employees. These individuals are directly affected by what happens to the business.
Stakeholders with an indirect interest include financial analysts, brokers, attorneys, government regulators, and news reporters. These individuals use information in the financial reports to advise and influence their clients.
Students may give many different answers under the above categories depending on their level of experience in business.
All students are direct users of accounting information related to tuition and fees, financial aid, and account balances.
- Why is accounting called the language of
business?
Accounting provides important information to the stakeholders of both profit oriented and nonprofit oriented organizations. Such information is useful in making decisions by all participants in the market for resource goods and services. Because of this communicative role of accounting, it is often called the language of business.
- What type of return does an investor expect
to receive in exchange for providing
financial resources to a business? What
type of return does a creditor expect from
providing financial resources to an organization
or business?
Investors expect a distribution of the business’s profits as a return on their financial investment (capital allocation).
Creditors lend financial resources to businesses and receive interest as a return or profit on their investment.
- What role do assets play in business
profitability?
Assets, the economic resources of a business, are used to produce earnings.
- To whom do the assets of a business
belong?
The assets of a business belong to that business entity and there may be claims on the assets. Claims on the assets belong to resource providers.
- What is the nature of creditors’ claims on
assets?
Creditors are individuals and/or institutions that have provided goods or services to the business which are not yet paid for, or loaned money to the business. These parties have first claim to the assets of the business, and the owners have a residual interest in the assets.
- What term describes creditors’ claims on
the assets of a business?
The term “liabilities” is used to describe creditors’ claims on the assets of a business.
- What is the accounting equation? Describe
each of its three components.
The accounting equation is:
ASSETS – LIABILITIES = STOCKHOLDERS’ EQUITY
or
ASSETS = LIABILITIES + STOCKHOLDERS’ EQUITY
Assets are the economic resources used by a business for the production of revenue. Liabilities are obligations of a business that can be settled by relinquishing assets, providing goods or services, or accepting other obligations. Equity, also called “residual interest” or “net assets”, is the portion of the assets remaining after the creditors’ claims have been satisfied (i.e., Assets – Liabilities).
- Who ultimately bears the risk and collects
the rewards associated with operating a
business?
- The owners ultimately bear the risk and collect the rewards associated with operating a business.
- What does a double-entry bookkeeping
system mean?
A double-entry bookkeeping system is one in which every transaction affects at least two accounts. A transaction can affect both assets and claims (liabilities and equity) or only assets or only claims. In order to “balance” the accounting equation, every transaction requires a “double entry.”
- How does acquiring capital from owners
affect the accounting equation?
Capital is acquired from owners by issuing stock to them. When stock is issued, the assets of the business increase and the stockholders’ equity increases.
- What is the difference between assets that are
acquired by issuing common stock and those
that are acquired using retained earnings?
Assets that are acquired by issuing common stock are the result of investments by owners. Assets that are acquired by using retained earnings are assets the business acquires through its earnings activities.
- How does earning revenue affect the
accounting equation?
Revenue increases the asset side of the accounting equation and also increases the retained earnings account in the stockholders’ equity section of the equation.
- What are the three primary sources of
assets?
The three primary sources of assets are (1) investments by owners (issue of stock), (2) borrowing from creditors, and (3) earnings activities.
- What is the source of retained earnings?
- Retained earnings are a result of a business retaining its earned assets, rather than distributing those earnings to its owners.
- How does distributing assets (paying dividends)
to owners affect the accounting
equation?
Distributions to owners, called dividends, decrease the asset side of the accounting equation and also decrease the retained earnings account in the stockholders’ equity section of the equation.
- What are the similarities and differences
between dividends and expenses?
Dividends and expenses are similar in the sense that they both decrease assets and affect the accounting equation in the same way (i.e. reduction of retained earnings). However, dividends differ from expenses because of the nature of the decline in assets. Expenses reduce assets as the result of a firm’s efforts to earn revenue. Dividends reduce assets because of a transfer of wealth to the owners.
- What four general-purpose financial statements
do business enterprises use?
(1) Income Statement - measures the difference between the asset increases and the asset decreases that were associated with operating a business during a particular accounting period.
(2) Statement of Changes in Stockholders’ Equity - explains the effects of transactions on stockholders’ equity during the accounting period.
(3) Balance Sheet - lists the assets and the corresponding claims on those assets as of a particular date.
(4) Statement of Cash Flows - explains how a company obtained and used cash during the accounting period.
- Which of the general-purpose financial
statements provides information about the
enterprise at a specific designated date?
- The balance sheet provides information about the enterprise at a particular point in time.
- What causes a net loss?
A net loss occurs when expenses exceed revenues in a given accounting period.
- How are asset accounts usually arranged
in the balance sheet?
Asset accounts are arranged on the balance sheet in accordance with their level of liquidity (those that can be most quickly converted to cash are listed first).
- How do temporary accounts differ from
permanent accounts? Name three temporary
accounts. Is retained earnings a
temporary or a permanent account?
Temporary accounts are used to capture information for a single accounting period. The balances in temporary accounts are transferred out of the accounts at the end of the accounting period. Temporary accounts have zero balances at the beginning of an accounting period. Permanent accounts carry over from one accounting period to the next. Retained Earnings is a permanent account.
- What is the historical cost concept and
how does it relate to the reliability concept?
The historical cost concept requires that most assets be reported at the amount paid for them regardless of their increase or decrease in value. It is related to the reliability concept that says information can be independently verified. The historical cost is verifiable, while a change in value is subjective.
- Identify the three types of accounting
transactions discussed in this chapter.
Provide an example of each type of transaction,
and explain how it affects the
accounting equation.
An asset source transaction results in an increase in an asset account and an increase in one of the claims accounts; i.e., investments by owners (equity), borrowing funds from creditors (liabilities), or earnings activities (revenue).
An asset use transaction results in a decrease in an asset account and a decrease in either liabilities or equity; i.e., the payment of a liability, the payment of an expense, or a dividend.
An asset exchange transaction is a transaction in which one asset is exchanged for another; i.e., purchase of land with cash.
A claims exchange transaction will be covered in a later chapter.
