Part 2 - Financial Reporting & Disclosures Flashcards
(31 cards)
What are the steps for the calculation of estimated earnings when revenue is recognized over time?
Gross profit= Original contract price - Total cost (based on most up to date)
Percentage to complete the contract= Cost to date / Total costs
Profit to date= Gross profit x Percentage of complete
Profit= Profit to date - Previously recognized income (because it is a cumulative amount thus you need to substract).
What are the input methods to recognize the revenue?
INPUT METHODS to recognize the revenue:
Resource consumption
Labor hours expended
Costs incurred the total expected costs
When do you book a transaction as a financing arrangement?
When the repurchase price = or > than original price and the expected market value.
What is Milestones Achived?
an example of an output method used to recognize revenue whether production or distribution related.
What are the accounting changes?
- Change in accounting principle: For example, switching FIFO to LIFO.
Application is Retrospective. Restate 20X1 & 20X2 financials with LIFO inventory values. JE for 20X1 adj.:
DR Retained earnings
CR Inventory - Change in accounting estimate: Revisng the estimate due to a new information.For example, changing useful life of a fixed asset.
Apllication is Prospective. JE in current year onward:
DR Depreciation expense
CR Accumulated depreciation
Note: if a depreciation expense was not recognized in Year 1 financial statements (booking ERROR), this error should be corrected by restating the opening balance of retained earnings of Y2. it is reported retrospectively because it is an error correction NOT a change in accounting estimate.
If a change in accounting principle cannot be distinguished from a change in accounting estimate, it is considered as….
a change in estimate and it needs to be reported prospectively as a component of income before continuing operations.
How do you report error corrections?
Retrospectively (Prior financial statements should be restated to correct the error). For example, inventory understatement. JE:
DR Inventory
CR Retained earnings
How to report the change from the cash basis accounting to accrual basis of accounting during the current year?
It is an error because the cash basis accounting is not a principle under accrual accounting principles of GAAP. Thus, it should be reported to retained earnings as a prior period adjustment resulting from the correction of an error.
Record unearned and earned revenue?
JE for unearned revenue:
DR Cash
CR Unearned revenue
Adjusting JE for earned revenue:
DR Unearned Revenue
CR Revenue (Service,sales, etc.)
Prepare JEs for accrued (to record without exchange of cash) for Revenues & Expenses
Revenue earned before receving the cash!
JE to record accrued revenue :
DR Accounts Receivable
CR Revenue
Asset (up) = Liability (No change) + Equity (UP)
(It is NOT a year-end-adjusting JE. Another Adjusting JE will be recorded when the cash received)
Incurred expense before the cash paid out!
DR Expense
CR Accrued Liability
Asset (No change) = Liability (Up) + Equity (Down)
Upon payment:
Asset (Down) = Liability (Down) + Equity (No change)
Explain the subsequent evaluation period for Non SEC filers and SEC filers.
For the companies do NOT file financials with the SEC, the subsequent evaluation period runs through: The date the financial statements are “available to be issued (all approvals received to issue)” and
the date is defined as the financial statements are in a form and format that comply with GAAP.
For the companies that FILE the financials with the SEC, the subsequent evaluation period runs through: The date the financial statements are issued are in a form and format that comply with GAAP and the financial statements have been widely distributed to financial statement users.
What are subsequent events or transactions?
Subsequent events or transactions that occur
AFTER the balance sheet date, but BEFORE financial statements are issued or available to be issued. There are two types of events:
Type I: Recognized subsequent events, Events that existed at the balance sheet date and is settled after the balance sheet date, but before the date that the financials are issued or available to be issued. Example, settlement of litigation or lawsuit and loss on uncollectable receivables.
Type II: Nonrecognized subsequent events.
The events that do not exist at the balance sheet date and need to be disclosed. Example, a natural disaster.
What is special purpose frame work?
OCBOA (Other Comprehensive income Basis of Accounting), which is a hybrid of cash basis and accrual basis accounting, financial statement titles should differentiate the financial statements and disclosures in OCBOA financial statements should be similar to GAAP financial stetements.
Adjustments to cash basis income to get to accrual basis income:
The adjustments ensure that revenues are recognized when earned and expenses are recognized when incurred, regardless of when cash transactions occur.
During the period;
-Increase in accounts receivable: ADD it to cash basis because cash is not collected (it means revenue under accrual because revenues recognized).
Decrease in accounts receivables: SUBTRACT it from cash basis because cash is collected (it means cash is collected for the revenues recognized in prior years).
Decrease in accounts payable: ADD it to cash basis expenses because cash paid out (it means cash paid out for the expenses recognized in prior years).
Increase in accounts payable: SUBTRACT it from cash basis because expenses have not paid yet (it means expenses recognized and will be collected in the future)
-Increase in prepaid expenses: SUBTRACT from cash basis, it means that more expenses paid in advance during the period.
Decrease in prepaid expenses: ADD to cash basis expenses.
-Increase in accrued expenses: ADD to cash basis expenses. It means that expenses incurred, but not paid.
Decrease in accrued expenses: SUBTRACT from cash basisi expenses.
-Increase in unearned revenues: SUBTRACT it from cash basis income, it means that cash received for services not yet provided.
Decrease in unearned revenues: ADD it to cash basis income.
-Increase in inventory: SUBTRACT it from cash basis COGS,
Decrease in inventory: ADD it to cash basis COGS.
-Depreciation and amortization: ADD back because modified cash basis does not account them.
Converting Cash Basis Revenue to Accrual Basis Revenue
Add Ending AR (Revenue earned in current period & cash is NOT collected)
Less Beginning AR (Revenue earned in prior period & cash collected in current period)
Less Ending unearned revenue (Revenue will be earned in the future & cash is collected)
Add Beginning unearned revenue (Revenue earned in current period & cash is NOT collected in prior periods)
Converting Cash Basis Operating Expenses to Accrual Basis Operating Expenses
Add ending accrued liabilities (Expenses incurred during the period, but not yet paid)
Subtract beginning accrued liabilities (Expenses incurred in previous period and paid in current period)
Subtract ending prepaid expenses (Paid in current period & will be benefited in future)
Add beginning prepaid expenses `
Converting assets and liabilities from Cash Basis to Accrual
-Current assets - increase ADD (AR increase means income under accrual. It is not income under cash basis because cash is not collected.
Current assets - decrease SUBTRACT (Cash collected , but under accrual income was recognized in prior years)
-Current Liabilities - decrease ADD (AP decrease means cash paid out and it is an expense under cash basis. However, the paid expenses recorded in previous year under accrual)
Current Liabilities - increase SUBTRACT (Expenses have not paid yet under cash basis. However, expenses incurred under accrual)
COGS calculation:
(+) Beg. Inventory
(+) Purchases
= Goods Available For Sale
(-) End. Inventory
= COGS
Current Ratio, Quick Ratio, Accounts receivable turnover, Inventory turnover and Accounts payable turnover
Application of liquidity ratios!
*Current Ratio= Current assets / Current liabilities
*Quick Ratio= (Cash and cash equivalents + Short-term marketable securities + Net Receivable / Current liabilities
Note: Inventory is not included in the quick ratio calculation.
*Accounts receivable turnover ratio= Net sales / Net average accounts receivable
Higher turnover ratio means more efficient collection of AR.
*Inventory turnover= COGS / Average Inventory
Ending inventory= Beginning inventory + (Purchases - COGS)
Average Inventory = (Beginning inventory + Ending inventory) / 2
Inventory turnover ratio increased when sales and inventory amounts were unchanged. It means that COGS must have increased. If the COGS increased and sales remained constant, the gross profit percentage would decrease.
*Accounts payable turnover= Total supplier purchases / Average AP
Higher turnover ratio means that company is paying off suppliers quickly.
Debt-to-equity ratio, Debt ratio and Time interest earned ratio
Solvency ratios!
*Debt-to-equity ratio calculation:
Equity = Capital Stock + R/E
Liabilites = Assets - Equity
Debt-to-equity ratio = Total Liabilities / Equity
*Debt ratio= Total liabilities / Total assets
Higher ratio means more reliance on debt.
*Time interest earned (interest coverage ratio)= Earnings before interest and taxes (EBIT) / Interest expense
Higher ratio means greater ability to meet interest obligations & lower risk bankruptcy.
What are profibility ratios?
*Return on equity calculation:
Average total equity= (Beg.bal.of total equity + End.bal.of total of equity) / 2
Return on equity= [(Net income - Preferred dividends) / Average Total Equity] x 100
*Return on assets calculation:
Average total assets= (Beg.bal.of total assets - End.bal.of total assets) / 2
Return on assets= (Net income / Average total assets) x 100
*Net Profit Margin= Net income / Revenue
EBITDA, Price to earnings, Dividends payout and Asset turnover ratios
Calculating performance metrics!
*Asset turnover =Net sales / Average total assets
*Earnings Before Interest, Taxes, Depreciation, and Amortization= Net income + Interest + Taxes + Depreciation + Amortization
*Price-to-Earning Ratio= Market Price per Share / Earnings per Share (EPS)
*Dividend Payout Ratio= (Total Dividends Paid / Net Income) x 100
*Asset Turnover Ratio= Net sales / Average Total Sales
Higher ratio means better performance.
DuPont return on assets calculation:
Net profit margin= Net income / Net sales
Average total assets= (Beg.bal.of total assets - End.bal.of total assets) / 2
Total asset turnover= Net sales / Average total assets
DuPont return on assets= (Net profit margin x Total asset turnover) x 100
Days in Inventory =
Days in inventory= Ending inventory / (COGS / 365 days)
