Accounting and Financial Statements Refresher

Question 0

Retained Earnings Formula

Answer 0

Beg R/E
+Net Income
- Dividends
= End. R/E

Question 1

Organization to establish the standards of financial accounting and reporting

Answer 1

Private sector - FASB

Public sector - SEC

Question 2

What is GAAP

Answer 2

A body of specific rules and broad concepts that govern how accountants recognize, measure, record, display, and disclose information about a company’s financial transactions.

Question 3

What is FASB?

Answer 3

1) Designated organization for establishing the standards of financial accounting and reporting for the private sector.
2) It is not a government agency
3) It is the primary source of GAAP

Question 4

What is SEC?

Answer 4

1) Securities Exchange and Commission
2) Has the statutory authority to establish financial accounting and reporting standards for public companies under the Sec Exchange Act of 1934
3) Issues disclosure requirements that specifically require companies to adhere to GAAP

Question 5

Adherence to GAAP generally means what?

Answer 5

1) Financial transactions will be reported only for the entity issuing the financial report
2) Transactions measured by historical cost
3) Revenues recognized when earned
4) Expenses matched with revenues they produce
5) F/S will be prepared conservatively, consistently, and in consideration of materiality of underlying transactions

Question 6

What’s important in lending to an entity that reports in consolidated basis?

Answer 6

Receive both the consolidated statements and F/S that reflect the performance and condition of the borrowing entity

Request consolidating statements - shows F/S of the individual entities + consolidated entity and the eliminated inter-company items

Question 7

What’s the matching principle?

Answer 7

Report revenues and expenses in the same accounting period without regard to when cash is received or used

Question 8

GAAP principles that govern financial report?

Answer 8

Conservatism
Consistency
Materiality

Question 9

What are four limitations of GAAP F/S

Answer 9

1) Historical cost- use of historical cost can cloud an analyst’s ability to recognize current values
2) The matching principle can obscure the receipt and payment of cash
3) GAAP permits several alternatives to account for certain transactions - difficult to compare F/S and increase importance of footnotes
4) GAAP permits use of special accounting for some industries (ie. percentage-of-completion method)

Question 10

Asset accounts order in Balance Sheet?

Answer 10

Listed in order of liquidity

Current Assets are most liquid

Question 11

Equity Accounts for Entities

Answer 11

1) Partnerships - partner’s capital or partner’s equity
2) LLC - members’ capital or members’ equity
3) Proprietorship - sole equity (ie. John Smith, capital)
4) Corporation - common stock

Question 12

What is Working Capital?

Answer 12

Current Assets - Current Liabilities

Question 13

What is Current Ratio?

Answer 13

Current Assets divided by Current Liabilities

Question 14

What is leverage?

Answer 14

Relationship between creditors and owner’s equity

Most common is debt-to-worth ratio = total liabilities divided by owner’s equity

Question 15

Why is prepaid expense an asset?

Answer 15

Because it is a prepayment made to secure the use of assets or the receipt of services at a future date

Question 16

Two primary categories of operating expenses?

Answer 16

1) Selling expenses (sales salaries, commisions, advertising, delivery expenses, etc)
2) Administrative expenses (officer’s and staff salaries, office supplies, office equipment deprec, account and legal services, etc)

Question 17

What is Comprehensive Income?

Answer 17

Net Income + gains/losses not reported on the income statement.

These gains/losses are not in the Income Statement because their results are not related to operations

Question 18

Are revenue accounts permanent income statement accounts?

Answer 18

No, they are temporary and brought to zero and transferred to the Retained Earnings account at year end

Question 19

Statement of Financial Accounting Standards (SFAS) No. 95

Answer 19

The statement of cash flows is required under SFAS 95

Question 20

Breakdown of Statement of Cash Flows

Answer 20

1) Operating - CF from normal operations (ie. selling goods, paying salaries, collecting receivables)
2) Investing - Purchase and sale of noncurrent assets (ie. buildings and equipment)
3) Financing - Cash raised externally to fund any cash flow deficit created by Operating or Investing

Question 21

Two formats of Statement of Cash Flow

Answer 21

1) Direct - starts with sales, closely resembles cash basis income statement
2) Indirect - Begins with Net Income then derives Operating, Investing and Financing cash flows

Question 22

Retained Earnings Formula

Answer 22

Beg. R/E
Plus: Net Income
Minus: Dividends
End. R/E

Since Inception

Question 23

Notes to F/S provides three kinds of disclosures

Answer 23

1) Additional detail about certain accounts and transactions (ie. schedule of fixed assets)
2) Information necessary for evaluating reliability and comparability of F/S (ie. whether the financials are consolidated or only one corp without subsidiaries or parent)
3) Include information not in F/S such as contingent liabilities (ie. guaranties, warranties, purchase commitments, lawsuits)

Question 24

Types of Contingent Liabilities

Answer 24

Guaranties
Warranties
Purchase commitments
Lawsuits

Question 25

Other Types of Financial Notes

Answer 25

1) Details about liabilities (ie. money borrowed and requirements such as collateral)
2) Amounts due annually (for both operating and capitalized leases)
3) Nature of intangibles
4) Composition of deferred taxes
5) Pension
6) Extraordinary items

Question 26

A company’s retained earnings can be measured by change in cash account from one year to next?

Answer 26

False, R/E equals net income less dividends since inception. It is not represented by amount of cash on hand

Question 27

Four possible Dual-Effect Combinations

Answer 27

1) Equal increases on both sides of the equation (Increase in Asset and Liab)
2) Equal decreases on both sides of the equation (Increase in Asset and Liab)
3) Increase in one asset and equal decrease in another asset
4) Increase in one liability and equal decrease in another liability account or equity account

Question 28

Two methods of accounting

Answer 28

1) Accrual basis - must use this to be accordance to GAAP

2) Cash basis

Question 29

What is a Journal?

Answer 29

It is the book of original entry

Record of financial transactions in order by date