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1

The general rule to convert from cash to accrual is to ADD decreases in liabilities and increases in assets, and SUBTRACT increases in liabilities and decreases in assets.

The general rule to convert from cash to accrual is to ADD decreases in liabilities and increases in assets, and SUBTRACT increases in liabilities and decreases in assets.

2

What are the three main ingredients of Relevance?

Predictive Value, Confirmatory Value and Materiality (acronym - PV, CV, M)

3

What are the three main ingredients of Faithful Representation?

Its three main ingredients are Completeness, Free from Material Error, and Neutrality (acronym - C, FFM, N)

4

Cost of Sales Formula (Note - different from Cost of Goods Manufactured Formula)

Beginning Finished Goods
+ Cost of Good Manufactured
- Ending Finished Goods
= Cost of Sales

Note: you subtract ending finished goods, but add in everything else
**Plug in values to solve for any one variable

5

Cost of Goods Manufactured Formula

Beginning WIP
+ Direct Materials
+ Direct Labor
+ Factory Overhead
- Ending work in process
= Cost of Goods Manufactured

Note: you subtract ending WIP, but add in everything else
**Plug in values to solve for any one variable

6

What types of transactions show up under Other Comprehensive Income?

1. Foreign currency translation adjustments
2. Unrealized holding gains and losses on DEBT securities available for sale
3. Pension and other post-retirement benefit plan cost adjustments
4. Certain deferred derivative gains and losses

7

Cash Flows from Financing Activities involves borrowing and equity (great way to differentiate from investing and operating activities)

Notes:
1. Interest paid on a bond is an operating activity.
2. Cash received from a sale of equipment is an investing activity.
3. Principal payments on loans from financial institutions are financing because they are a return of a source of long-term financing.

Cash Flows from Financing Activities involves borrowing and equity (great way to differentiate from investing and operating activities)

Notes:
1. Interest paid on a bond is an operating activity.
2. Cash received from a sale of equipment is an investing activity.
3. Principal payments on loans from financial institutions are financing because they are a return of a source of long-term financing.

8

The criteria for disclosing and accruing for a unique transaction

(1) a probable occurrence of a liability
(2) a reasonable estimate of an amount

9

When to use the Cost Method for an investment in another company?

You use the cost method when you make a passive but long-term investment in another company. You record the stock on a balance sheet account as a non-current asset at its historical purchase price. For example, if you purchase 10 percent of UVW Corp. for $10 million, that amount would be the balance sheet value of the shares. You normally do not update this amount unless you purchase additional shares or sell shares. You book any dividends you receive on the shares as income.

10

When to use the Equity Method for an investment in another company?

If you hold at least 20 percent of the investee’s shares, use the equity method unless you can prove you have no influence over the investee -- for example, if the investee treats you hostilely or ignores your advice. Under the equity method, you book the stock purchase as you would under the cost method. However, you must adjust this balance to account for your share of the investee's profits and losses. For example, suppose your company purchases 30 percent of XYZ Corp. for $10 million. You book the purchase as a non-current asset, “XYZ Corp. securities” valued at $10 million. In the next quarter, the investee posts net income of $500,000. Your 30 percent share is $150,000, which you add to the balance of XYZ Corp. securities and record as income on the income statement. You subtract losses in the same way. You treat dividends as a return of investment by posting to a contra-asset account linked to XYZ Corp. securities, thereby reducing the net carrying value of the investment. You do not book dividends as income.

11

Basic Earnings Per Share Calculations

1. If you're being asked to calculate Basic EPS for Net Income - be sure to include reductions in Income from cumulative preferred stock.
2. If you're being asked to calculate Basic EPS for discontinued operations - you don't include reductions for cumulative preferred stock.

12

Stock Options and Diluted Earnings Per Share Calculations

1. Stock Options should be measured net of proceeds. Ex/ Stock options, treasury stock method: (1) number of shares issued on assumed exercise of options = 40. Proceeds from assumed exercise = $120 (40 × $3 option price). (2) Shares assumed purchased for the treasury = 15 = $120/$8 ($8 was the average stock price for the year. (3) Incremental shares from assumed exercise = 25 which is derived from 40 −15.

13

Convertible Preferred Stock and Diluted Earnings Per Share Calculations

Given as part of the problem - Cumulative convertible preferred stock, 10 shares, 6%, $100 par, each share convertible into 20 shares of common stock

Effect of assumed conversion of preferred stock on EPS: numerator of EPS increases $60 because no dividend would be paid. Denominator increases by the number of common shares issued assuming conversion = 10(20) = 200. n/d ratio = $60/200 = $.30

14

Diluted EPS Formula

(Net income−preferred dividends)/Weighted Avg Shares Outstanding − Impact of Convertibles − Impact of Dilutive Securities

15

For Inventory - if a company uses LIFO for the Inventory method, you must use the Lower of Cost or Market.
FIFO and all other Inventory measurement methods uses the Lower of Cost or Net Realizable Value (NRV)

For Inventory - if a company uses LIFO for the Inventory method, you must use the Lower of Cost or Market.
FIFO and all other Inventory measurement methods uses the Lower of Cost or Net Realizable Value (NRV)

16

Under IFRS for Inventory its the Lower of Cost or NRV

Under IFRS for Inventory its the Lower of Cost or NRV

17

Allowance for Credit Sales Method does NOT adjust the allowance balance to a required ending amount, but rather simply places the appropriate percent of sales into uncollectible accounts expense and the allowance account.
Ex/ end the year with a negative allowance amount of $3K. You wouldn't take the negative amount into account, just the percentage of credit sales would be considered

Allowance for Credit Sales Method does NOT adjust the allowance balance to a required ending amount, but rather simply places the appropriate percent of sales into uncollectible accounts expense and the allowance account.
Ex/ end the year with a negative allowance amount of $3K. You wouldn't take the negative amount into account, just the percentage of credit sales would be considered

18

Lower of cost or net realizable value applies to inventories that are carried at FIFO or Average cost. Net realizable value is selling price less cost of disposal.

Lower of cost or net realizable value applies to inventories that are carried at FIFO or Average cost. Net realizable value is selling price less cost of disposal.

19

In Lower of Cost or Market (LCM), market value is replacement cost if replacement cost is between the ceiling value (net realizable value) and the floor value (net realizable value less normal profit margin).

In Lower of Cost or Market (LCM), market value is replacement cost if replacement cost is between the ceiling value (net realizable value) and the floor value (net realizable value less normal profit margin).

20

Apply the Appropriate Interest Rate—If Average Accumulated Expenditures (AAE) is the amount of debt that could have been retired for the year, then an interest rate multiplied by AAE is the amount of interest that could have been avoided. This is the amount of interest to be capitalized, subject to the limitation that capitalized interest cannot exceed actual interest cost for the period.
EX/ Using the previous examples of AAE ($60,000), if the interest rate were 10%, then $6,000 of interest would be capitalized ($60,000 × .10) assuming at least that much interest cost was actually incurred. If total interest expense for the period before capitalizing interest amounted to $11,000, then $6,000 of interest would be debited to the asset under construction, and only $5,000 of interest expense would be reported in the income statement.

Apply the Appropriate Interest Rate—If Average Accumulated Expenditures (AAE) is the amount of debt that could have been retired for the year, then an interest rate multiplied by AAE is the amount of interest that could have been avoided. This is the amount of interest to be capitalized, subject to the limitation that capitalized interest cannot exceed actual interest cost for the period.
EX/ Using the previous examples of AAE ($60,000), if the interest rate were 10%, then $6,000 of interest would be capitalized ($60,000 × .10) assuming at least that much interest cost was actually incurred. If total interest expense for the period before capitalizing interest amounted to $11,000, then $6,000 of interest would be debited to the asset under construction, and only $5,000 of interest expense would be reported in the income statement.

21

For liability accruals - if a liability is PROBABLE, you will accrue for the liability and disclose the liability in the footnotes.
If the liability is REASONABLY POSSIBLE (think 50/50 possibility), then you ONLY disclose the liability in the footnotes. No accrual is done.

For liability accruals - if a liability is PROBABLE, you will accrue for the liability and disclose the liability in the footnotes.
If the liability is REASONABLY POSSIBLE (think 50/50 possibility), then you ONLY disclose the liability in the footnotes. No accrual is done.

22

For inventory and the Lower of Cost or Market valuation - The “current market price” is defined as the current replacement cost of the inventory, as long as the market price does not exceed net realizable value; also, the market price shall not be less than the net realizable value, less the normal profit margin. Net realizable value is defined as the estimated selling price, minus estimated costs of completion and disposal.

For inventory and the Lower of Cost or Market valuation - The “current market price” is defined as the current replacement cost of the inventory, as long as the market price does not exceed net realizable value; also, the market price shall not be less than the net realizable value, less the normal profit margin. Net realizable value is defined as the estimated selling price, minus estimated costs of completion and disposal.

23

Small stock dividends (less than 25%) are capitalized at the fair value of stock issued. Retained earnings is reduced by the market value of the shares issued, common stock is increased by the par value of stock issued, and additional paid-in capital is increased by the difference between market value and par value times the number of shares issued.

Large stock dividends are capitalized at par value. Retained earnings is reduced by the par value of the shares issued, and common stock is increased by the par value of stock issued. There is no effect on additional paid-in capital because the entire decrease in retained earnings is recorded in common stock. A large stock dividend permanently capitalizes the par value of the issued shares into common stock.

Small stock dividends (less than 25%) are capitalized at the fair value of stock issued. Retained earnings is reduced by the market value of the shares issued, common stock is increased by the par value of stock issued, and additional paid-in capital is increased by the difference between market value and par value times the number of shares issued.

Large stock dividends are capitalized at par value. Retained earnings is reduced by the par value of the shares issued, and common stock is increased by the par value of stock issued. There is no effect on additional paid-in capital because the entire decrease in retained earnings is recorded in common stock. A large stock dividend permanently capitalizes the par value of the issued shares into common stock.

24

The steps in DIVIDEND ALLOCATION is:

1. Preferred: Any dividends in arrears
2. Preferred: Current-period dividend
3. Common: Matching amount: preferred percentage x total par of common outstanding
4. Preferred: Additional percentage
5. Common: Remainder

The steps in DIVIDEND ALLOCATION is:

1. Preferred: Any dividends in arrears
2. Preferred: Current-period dividend
3. Common: Matching amount: preferred percentage x total par of common outstanding
4. Preferred: Additional percentage
5. Common: Remainder

25

When calculating the net proceeds to be received from a Bond - The price at which bonds will sell in the market (and, therefore, the proceeds received) are determined by the market rate of interest, not the stated rate of interest printed on the face of the bonds.

When calculating the net proceeds to be received from a Bond - The price at which bonds will sell in the market (and, therefore, the proceeds received) are determined by the market rate of interest, not the stated rate of interest printed on the face of the bonds.

26

Accumulated other comprehensive income (AOCI) is impacted by unexpected gains and losses from plan assets and unamortized portions of prior service costs from pension plan amendments.

Accumulated other comprehensive income (AOCI) is impacted by unexpected gains and losses from plan assets and unamortized portions of prior service costs from pension plan amendments.

27

A defined benefit pension plan can have up to five components that must be used to determine net pension cost each year:
1. Service cost for the period
2. Interest cost on the projected benefit obligation
3. Minus expected return on plan assets
4. Prior service cost amortization
5. Plus (or minus) amortization of actuarial unrealized losses (or gains)

A defined benefit pension plan can have up to five components that must be used to determine net pension cost each year:
1. Service cost for the period
2. Interest cost on the projected benefit obligation
3. Minus expected return on plan assets
4. Prior service cost amortization
5. Plus (or minus) amortization of actuarial unrealized losses (or gains)

28

If a nonmonetary transaction has commercial substance, a gain or loss should be recognized on the exchanged asset.

If a nonmonetary transaction has commercial substance, a gain or loss should be recognized on the exchanged asset.

29

When the financial statement value of depreciation is in EXCESS of the tax basis amount - this creates a deferred tax LIABILITY.
The opposite is true to create a deferred tax ASSET.

When the financial statement value of depreciation is in EXCESS of the tax basis amount - this creates a deferred tax LIABILITY.
The opposite is true to create a deferred tax ASSET.

30

For Dollar Value LIFO - you take the ENDING INVENTORY at Current Year Cost and divide by the Base Year Cost to get your Price Index. You then take your Price Index and apply to your layer at BASE YEAR COST to arrive at the layer price for Dollar Value LIFO.

You can also use your Price Index to divide into the End of Current Year Cost to get your Base Year Cost

For Dollar Value LIFO - you take the ENDING INVENTORY at Current Year Cost and divide by the Base Year Cost to get your Price Index. You then take your Price Index and apply to your layer at BASE YEAR COST to arrive at the layer price for Dollar Value LIFO.

You can also use your Price Index to divide into the End of Current Year Cost to get your Base Year Cost

31

Only Cash Flow hedges are recognized in Other Comprehensive Income. Fair Value hedges are recognized in current income

Only Cash Flow hedges are recognized in Other Comprehensive Income. Fair Value hedges are recognized in current income

32

Remeasurement and then translation would be used to convert to the reporting currency when a foreign currency other than the foreign subsidiary's recording currency is the functional currency. Specifically, the financial statements would be remeasured from the recording currency to the other foreign functional currency, and the remeasured financial statements would then be translated to the reporting currency

Remeasurement and then translation would be used to convert to the reporting currency when a foreign currency other than the foreign subsidiary's recording currency is the functional currency. Specifically, the financial statements would be remeasured from the recording currency to the other foreign functional currency, and the remeasured financial statements would then be translated to the reporting currency

33

In order to be a Capital Lease, only 1 of the following 4 criteria need to be met:
1. The lease agreement transfers ownership of the leased asset to the lessee at the conclusion of the lease term (Title transfer)
2. Bargain Purchase Option
3. Lease Term is at least 75% of the useful life of the asset
4. Present Value of the lease payments is at least 90% of the fair value of the asset

In order to be a Capital Lease, only 1 of the following 4 criteria need to be met:
1. The lease agreement transfers ownership of the leased asset to the lessee at the conclusion of the lease term (Title transfer)
2. Bargain Purchase Option
3. Lease Term is at least 75% of the useful life of the asset
4. Present Value of the lease payments is at least 90% of the fair value of the asset

34

A business transaction is said to have commercial substance when it is expected that the future cash flows of a business will change as a result of the transaction

A business transaction is said to have commercial substance when it is expected that the future cash flows of a business will change as a result of the transaction

35

Definition of "Incremental Borrowing Rate" -
Interest rate a lessee would have to pay if, instead of leasing, he or she finances the purchase of the same asset.

Definition of "Incremental Borrowing Rate" -
Interest rate a lessee would have to pay if, instead of leasing, he or she finances the purchase of the same asset.

36

For Non-Profit Organizations - The Statement of Functional Expenses requires that expenses be reported by functional classification as either (a) program related or (b) support service related. Support expenses include management, general administrative, and fund-raising expenses required to operate. Program expenses are directly related to the program or mission of the organization.

For Non-Profit Organizations - The Statement of Functional Expenses requires that expenses be reported by functional classification as either (a) program related or (b) support service related. Support expenses include management, general administrative, and fund-raising expenses required to operate. Program expenses are directly related to the program or mission of the organization.

37

The effective portion of the hedge is the amount of change in the forward contract (hedging instrument) equal to the change in the fair value of the expected sale amount (the hedged item) ($3,800); the ineffective portion is the difference ($200) and should be reported in current income.

The effective portion of the hedge is the amount of change in the forward contract (hedging instrument) equal to the change in the fair value of the expected sale amount (the hedged item) ($3,800); the ineffective portion is the difference ($200) and should be reported in current income.

38

Translation vs Remeasurement of Foreign Financial Statements
• Two methods are used to restate foreign entity FS to U.S. dollars:
o Translation of the foreign entity’s functional currency FS into U.S. dollars
o Remeasurement of the foreign entity’s FS to the functional currency of the entity, then translation from functional currency to U.S. dollar.
• Translation:
o Most commonly used method. Also called current rate method .
o Applied when local currency = functional currency.
o To translate the FS, the company will use the current rate to convert the local currency BS account balances into U.S. dollars.
o Any translation adjustment is a component of comprehensive income.
o Because revenues and expenses are assumed to occur uniformly over the period, they are translated using the average method for the reporting period.
• Remeasurement:
o Also called the temporal method .
o Required only when functional currency is different from currency used to maintain books.
o Monetary assets and liabilities are translated using the current rate.
o Nonmonetary items are translated at historical rate.
o Revenues and expenses are translated using the average rate.
o Imbalance is included in calculation of net income.
o This method converts foreign currency to functional currency.
 If the functional currency is something other than the U.S. dollar, the current rate method must be applied to restate the financial information into U.S. $.

Translation vs Remeasurement of Foreign Financial Statements
• Two methods are used to restate foreign entity FS to U.S. dollars:
o Translation of the foreign entity’s functional currency FS into U.S. dollars
o Remeasurement of the foreign entity’s FS to the functional currency of the entity, then translation from functional currency to U.S. dollar.
• Translation:
o Most commonly used method. Also called current rate method .
o Applied when local currency = functional currency.
o To translate the FS, the company will use the current rate to convert the local currency BS account balances into U.S. dollars.
o Any translation adjustment is a component of comprehensive income.
o Because revenues and expenses are assumed to occur uniformly over the period, they are translated using the average method for the reporting period.
• Remeasurement:
o Also called the temporal method .
o Required only when functional currency is different from currency used to maintain books.
o Monetary assets and liabilities are translated using the current rate.
o Nonmonetary items are translated at historical rate.
o Revenues and expenses are translated using the average rate.
o Imbalance is included in calculation of net income.
o This method converts foreign currency to functional currency.
 If the functional currency is something other than the U.S. dollar, the current rate method must be applied to restate the financial information into U.S. $.

39

- When computing Interest EXPENSE on a bond - you use the yield percentage and the discounted and/or premium price to calculate Interest Expense.
- When computing the Interest PAYABLE on a bond, you use the face value of the bond.
- The difference between the PAYABLE and the EXPENSE is the amount of discount and/or premium that is amortized
Ex/ Bond face value is $400K, 10%, but the bonds were issued at a discount for $354K, 12%. 12%*$354K would be your interest expense and 10%*400K would be your interest payable.

- When computing Interest EXPENSE on a bond - you use the yield percentage and the discounted and/or premium price to calculate Interest Expense.
- When computing the Interest PAYABLE on a bond, you use the face value of the bond.
- The difference between the PAYABLE and the EXPENSE is the amount of discount and/or premium that is amortized
Ex/ Bond face value is $400K, 10%, but the bonds were issued at a discount for $354K, 12%. 12%*$354K would be your interest expense and 10%*400K would be your interest payable.

40

The FASB makes changes to the Accounting Standards Codification by issuing
A. Accounting Standards Updates.
B. Emerging Issues Task Force Releases.
C. Statements of Financial Accounting Standards.
D. Staff Technical Bulletins.

A. Accounting Standards Updates.

41

When calculating the Double Declining Balance Depreciation Method - you take the remaining, unamortized balance and divide by the useful life. EX/ $150K starting balance with 10 year useful life.
Year 1 Amort- 30K (150K/10 times 2)
Year 2 Amort - 24K (120K/10 times 2)

When calculating the Double Declining Balance Depreciation Method - you take the remaining, unamortized balance and divide by the useful life. EX/ $150K starting balance with 10 year useful life.
Year 1 Amort- 30K (150K/10 times 2)
Year 2 Amort - 24K (120K/10 times 2)

42

The CEO's compensation contract includes a provision for a bonus of 15% of income before the bonus but after income taxes (30% rate). Income before bonus and income tax is $1.2 million for the current year. The bonus is computed and paid at year-end to obtain the tax deduction for the bonus in the current year. Prepare the journal entry to record the bonus only.

Let B = bonus and T = income tax
B = .15(1.2 million - T)
T = .30(1.2 million - B)
B = .15(1.2 million - [.30(1.2 million - B)])
B = .15(1.2 million - [.30(1.2 million) - .30B])
B = .15(1.2 million - .36 million + .30B)
B = .15(.84 million + .30B)
B = .126 million + .045B
.955B = .126 million
B = .126 million/.955 = 131,937

Since the bonus is paid before year end, the entry would be:
Dr: Salary expense 131,937
Cr: Cash 131,937

43

The depletion rate equals the sum of the cost incurred to acquire the mineral rights, find the minerals, and develop the site less the salvage value, all divided by the estimated number of units of resource expected to be removed from the site.
Ex/ The depletion rate per ton is ($2,000,000 + $500,000-$100,000)/750,000 tons = $3.20 per ton.

The depletion rate equals the sum of the cost incurred to acquire the mineral rights, find the minerals, and develop the site less the salvage value, all divided by the estimated number of units of resource expected to be removed from the site.
Ex/ The depletion rate per ton is ($2,000,000 + $500,000-$100,000)/750,000 tons = $3.20 per ton.

44

To convert receivables from accrual to cash basis revenue or vice versa, just use this equation and solve for either "collections" if you're trying to find the cash basis revenue or solve for "accrual revenue" if you're trying to get to the accrual basis:
Beginning Balance
+Accrual Revenue
- Collections
- Write-offs
= Ending Balance

Note - you only add the beginning balance and accrual revenue. Everything else is subtracted.

To convert receivables from accrual to cash basis revenue or vice versa, just use this equation and solve for either "collections" if you're trying to find the cash basis revenue or solve for "accrual revenue" if you're trying to get to the accrual basis:
Beginning Balance
+Accrual Revenue
- Collections
- Write-offs
= Ending Balance

Note - you only add the beginning balance and accrual revenue. Everything else is subtracted.

45

Cash Payments to Suppliers=
1. Cost of Purchases = Cost of Goods Sold + Increase in Inventory OR Cost of Goods Solid - Decrease in Inventory
AND THEN
2. Cash payments to Suppliers = Cost of Purchases + Decrease in AP OR Cost of Purchases - Increase in AP

Cash Payments to Suppliers=
1. Cost of Purchases = Cost of Goods Sold + Increase in Inventory OR Cost of Goods Solid - Decrease in Inventory
AND THEN
2. Cash payments to Suppliers = Cost of Purchases + Decrease in AP OR Cost of Purchases - Increase in AP

46

The intrinsic value of a call option is the difference between the exercise (strike) price and the market price. This call option has an exercise price of $9 / share and the market price is $10 / share. Therefore, there is a $1 / share intrinsic value (I can buy the stock at a price less than the market). The option is to purchase 100 shares so the total intrinsic value is $100.

The intrinsic value of a call option is the difference between the exercise (strike) price and the market price. This call option has an exercise price of $9 / share and the market price is $10 / share. Therefore, there is a $1 / share intrinsic value (I can buy the stock at a price less than the market). The option is to purchase 100 shares so the total intrinsic value is $100.