Module 1 Flashcards
(23 cards)
The objective of financial reporting
To report financial information that is useful is making decisions about providing resources to the entity.
The information is about entity economic resources and claims to them (financial position) and to changes to them. It helps evaluate liquidity, solvency, financing needs.
Users of financial reporting
A) External - primary - for financial accounting to determine whether doing business with the firm is beneficial
1) Creditors whether to extend credit
2) Investors
3) regulatory agencies to evaluate conformity with regulations
B) Internal
Employees and managers - to make decision affecting the operations of the business
GAAP & IFRS
Generally accepted accounting principles by FASB Financial accounting standard board
IFRS international financial reporting standard by IASB
What does it take to information to be useful?
1) Relevant and faithful representation
2) Comparability to different companies
3) Consistency from period to period
4) Timeliness what happened
5) Verifiability - with same facts and rules we have same result
6) Understandability
7) Going concern - the entity will continoue
Revenue and cost recognition
Earned and incurred
Matching principle - expenses recognized with revenue
Basic accounting equation
A balance between entity resources (assets used to earn a return) and its capital structure (financed by liabilities by creditors and equity by investors)
All transactions can be illustrated by this formula
Fund theory
Assets - liabilities = equity
Equity is what remains after the economic obligations of the enterprise are deducted from its economic resources
Elements of BS
1) Assets which are resources controlled by the entity as a result of past events. They represent future economic benefits.
2) Liabilities are present obligations of the entity arising from past events. Their settlement is expected to result in and outflow of economic benifits.
3) Equity is the residual interest in the assets of the entity after subtracting all its liabilities.
Current assets and liabilities
If an assets is expected to be realized in cash or sold or consumed within the entity operating cycle or one year, whichever period is longer
If a liability is expected to be settled or liquidated in the ordinary course of business during the longer of one year or the operating cycle.
Limitations of BS
At a single point of time
Items recorded at historical costs, which might not equal their fair value
Requires estimates and management judgement
Omit items that cannot be recorded objectively but have financial value
Income statement
Reports the results of an entity operation over a period of time
Income (loss) = revenues + gains - expenses - losses
- Revenue inflow or other enhancements of assets or settlements of liabilities from delivering or producing goods, providing services, or other activities that qualify as going major operations.
- Gains are increase in equity or net assets other than from revenues or investments by owners
- Expenses are outflow or other usage of assets or increases of liabilities from….
- Loses are decrease in equity or net assets other than expenses or distribution to owners
Income statement
Reports the results of an entity operation over a period of time
Income (loss) = revenues + gains - expenses - losses
- Revenue inflow or other enhancements of assets or settlements of liabilities from delivering or producing goods, providing services, or other activities that qualify as going major operations.
- Gains are increase in equity or net assets other than from revenues or investments by owners
- Expenses are outflow or other usage of assets or increases of liabilities from….
- Loses are decrease in equity or net assets other than expenses or distribution to owners
All transactions affecting net change in equity are in income statement except
- Transaction with owners
Prior period adjustments
Items reported initatilly in oci
Transfer from and to RE
Gross profit
Net difference between sales revenue and cogs
Total MFG cost
COGM
COGS
MFG cost= Direct material + direct labor + MFG overhead
COGM= MFG cost+ WIP
COGS= COGM+ Finished Goods
What is statement of comprehensive incom
All changes in equity except investment by owners and distribution to owners.
- Net Income
- Other comprehensive income (oci)
1) effective portion of gain/loss on a hedging instrument in a cash flow hedge
2) unrealized holding gains or losses due to changes in the fair value of available for sales debt securities
3) translation gains & losses for foreign operations
4) certain amounts associated with accounting for defined benefit postretirement plans
Limitations of the income statement
- does not show all items of income and expense. Some items are reported on oci
- accrual basis- recognizing net income without receiving the cash
- estimates and management judgement
Statement of changes in equity
Represents a reconciliation for the accounting period of the beginning balance for each component of equity to the ending balance.
Retained earnings
Beginning balance
+ net income
- dividends
+ prior period adjustments
1) changes in accounting principle (eg change in inventory valuation method)
2) corrections of prior period financial statements errors
Require retrospective application (adjustment of carrying amounts at the beginning of the first period reported for the cumulative effect) & must not be included in net income
Changes in accounting estimates are not prior period adjustments (only requite prospective application - period of change and future)
Common & Preferred stock
Common are the owners of the firm. Voting rights and select board.
Receive liquidating distribution only after all other claims have been satisfied
Have preemptive rights (right to purchase and additional stock issuance in proportion to their ownership %. )
Preferred has a feature of debt & equity. It is classified as an equity instrument.
Has a fixed dividend rate (not obligation at the firm discretion before any common stock receive any) and dividends in arrears (cumulative dividends unpaid) must be paid before common.
Receive liquidating distribution after creditors and before common.
Have the right to convert to different class through pre defined ratio
Do not have voting right
Stock terms
Authorized: Maximum number of shares legally allowed to issue
Issued: actually issued
Outstanding: issued and held by shareholders
The difference between the two is treasury stock- no dividend and not voting rights. It also reduces equity balance
Treasury stock treatment
At cost
On par which reduced Apic with the original stock price (original excess)
Treasury stock down with the par value
Difference reduces retained earnings
Stock split
20-25% small stock dividend (reclassification of equity)
More stock split in form of dividend
