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Flashcards in Select Financial Statement Accounts Deck (64):
1

Entries for perpetual inventory system

Purchases on account:
Dr. Merch Inv
Cr. AP

Paid deliv charges:
Dr. Merch Inv
Cr. Cash

Return dama or defect merch:
Dr. AP
CR: Merch

Paid for Mer and receid cash discsout:
Dr. AP
Cr. Merch inv
Cr. Cash

sold Merch on account:
Dr. AR
Cr. Sales
Dr. COGS
Cr. Merch inv

2

Perpetual inv system Cost flow assumptions

COGS only for goods that have actually been purchased through the date of sale, compared to periodic system which includes all purchases.

Specific identification - same results as periodic

Moving Averaging (perpetual system) - WA cost per unit is calculated after each purchase of inventory.

3

Perpetual inv system Cost flow assumptions

COGS only for goods that have actually been purchased through the date of sale, compared to periodic system which includes all purchases.

Specific identification - same results as periodic

Moving Averaging (perpetual system) - WA cost per unit is calculated after each purchase of inventory.

FIFO - same values as periodic

LIFO - (different from periodic) each sale is costed with the most recent purchase available preceding the sale, compared to using the latest purchase for the entire period.

4

FIFO and LIFO effects on EI and COGS

EI
FIFO - Reflects latest costs
LIFO - Reflects earliest costs

COGS
FIFO - Reflects earliest costs
LIFO - Reflects latest costs.

5

FIFO

- flow of costs is the same as physical flow for most firms
- balance sheet valuation of inventory is an approximation to current cost, more relavant than historic
- matching revenues and expenses on the incomes statement is not ideal
- inventory value in balance sheet will be a current and relevant amount, but COGS are considred to be less current or relevant

6

LIFO (quantity of good)

- matching of revenues and expenses on income statement improved over FIFO
- income tax advantages, higher COGS, lower tax burden, firm must also use it for the books,
- balance sheet presentation is less than ideal
-minimize inventory profits (phantom or illusory profits)
- (negative consequence is tax effect of LIFO liquidation)

7

LIFO Liquidation

current-period COGS represented by the cost of goods acquired in prior years

8

DV (Dollar Value) LIFO (advantages)

- Reduces the effect of the liquidation problem
- takes a company's ending inventory in FIFO dollars and converts them to LIFO dollars, liquidation problem is reduced

-Allows companies to use FIFO internally
- most companies prefer internally FIFO, DV LIFO allows companies an opportunity to do so.

- Reduces Clerical Costs
- a company can maintain a FIFO system for internal purposes, and convert those results to LIFO for external purposes.
- a company must maintain only a single inventory system (FIFO) during the accounting period, thus REDUCING clerical costs

9

Implementing DV LIFO
(Conversion Index Formula)

- inventory to pools, group similar projects into groups

- Conversion Index = Ending Inventory in CY Dollars / Ending Inventory in Base-year dollars
- Base year - specific price level for the pool in effect at the beg of year in which firm adopted LIFO
- When FIFO is used internally, ending inventory under FIFO is used as the current cost

Converting FIFO ending inve to LIFO ending invt
- Ending Inv = FIFO ending inventory (bsae year price index/year end price index)
- Change in inv in base-year cost = End inv in base-year dollars - Beg inv in base year dollars.

Current year layer at current year - costs
- Current year layer at base-year cost * conversion index

Ending inventoru und DV LIFO
- Beg DV LIFO Inv. + Current Year later at current year cost

10

Loss on inventory

cost < market, no loss recognition, reported at cost
cost > market, loss recognized written down to market

11

Subsquent measurement of inventory

-if entity uses FIFO or WA inventory valuation, the susbsequent event is measurement is cost or net realizable value (LC-NRV)

- inventory is reported at the lower of cost or market (LC-M) or lower of cost or net relizable value (LC-NRV)
- Calculating Market value
- Replacement cost, if between ceiling (NRV - Selling price - estimated cost of completion and selling) or FLOOR (NRV - Normal profit margin)

LC - M - company must employ 1 of 3 approaches
1. Individual item basis - 1000 items, a total o f1,000 comparisons will be made to determine
2. Category Basis - 1000 items grouped into 10 categrories, total of 10 comparison will be made to determing
3. Total basis - single comparison to determine

LC - M - Journal Entry -- Direct method or allowance method
Direct Method:
Dr. COGS
Cr. Inventory

Allownace Method
Dr. Holding Loss
CR. Allowance to reduce inventory to LC-M




12

Estimating ending inventory gross margin method

only used for estimation of ending inventory purposes, not used for financial reporting of inventory.

Gross Margin Percentage = Margin on Sales = (Sales - COGS)/Sales

Margin on Cost = (Sales - COGS)/ COGS

Compare both margins:
Sales
- Costs
= Margin

When you have sales margin, set 1.0 at sales and margin at the .40.

When you have a cost margin set, 1.0 at cost and marge at the .40

(Margin on Sales) / (1 - Margin on Sales) = Margin on Cost
(Margin on Cost) / (1 - Margin on Cost) = Margin on Sales

Beg. Inventory + Net purchases = End Inv. + COGS
Beg. Inv + Net purchases = End inv + Sales*(Cost/Sales)

Cost/Sales = 1 - Margin %

13

Retail inventory method (basic)

1. ending inv. at retail is calculated or counted at year end
2. Cost-to-retail ratio is calculate
3. ending inventory at retail is multiplied by the cost-to-retail ratio to arrive at est. inv at cost

Equation:
EI (cost) = EI (retail) * CR

CR ratio = Goods Avilable for sale (COST) / GAFS (Retail)

USES LC-Market to determine inventory write-down for (FIFO, LIFO, or Average)

14

Variations in Retail inventory method

FIFO - C/R excludes the cost of beg inv from the numerator and the retail value of beginning inventory from the denominator

FIFO LC - M - C/R excludes the cost of beginning inventory from the numerator and the retail value of beginning inventory from the denominator. Also excludes net markdowns from the cost ratio

Average - cost ratio includes begin inv, along with current period purchases in both num and denom of C.R

Average, LC-M (Conventional Retail inventory method)- ratio includes beg inv, along with current perio purch in both num and denom of CR, but excludes net markdowns from the cost ratio.

DV LIFO Retail
1. applied to inventory retail only
2. FIFO retail method C/R ratio is applied to this retail layer yeidling the increase in cost at current prices
3. this cost layer is addd to beginning inventory at DV LIFO cost to yeidl ending invotry at at DV LIFO Cost



15

Inventory GAPP Vs IFRS

GAPP
- Lower of cost or market LC-M or LC NRV
- may use more than one cost formula for similar inventories with similar use
- Reversal of the write down is prohibited
- LIFO permitted
- Cost Flow Assumption does not mirror physical flow

IFRS
- Lower of cost or net realizable value (LC-NRV) only
- same cost formulas must be used for inventory with a similar nature and use nature and use
- reversal of write down to NRV permitted
- LIFO prohibited
- Cost flow assumption mirrors physical flow

16

Plant assets inclusion

1. be currently used in operations
2. have a useful life extending more than one year beyond the balance sheet date
3. have a physical substance (not intangible assets)

Land is excluded from plant assets because it currently not a productive assets, if held for investment purposes or future development

17

Costs Capitalized upon acquisition of plant assets

- cash equivalent price or negotiated acquisition costs
- "get ready costs" - setting up and testing machinery
- capitalize all expenditures necessary to bring the plant asset to its intended condition and location

18

Cost capitalized during the life of the plant asset

expenditure is material in amount, and the asset has increased or improved functionality, make better products or have a longer life, it is capitalized

addition - new major component of an asset (new room)

improvement - replacement of a major component of an asset (air condition)

rearrangement -restricting of an asset that does not extend its life but creates a new type of benefit

19

Methods of acquiring plant assets

- cash purchase
- deferred payment plan -credit purchase -- PV of future cash payments using market rate of interest
-issuance of securities - FV of the security or the FV of the asset acquired
- Donated assets - recorded at FV, revenue or gain is also recorded
-Group Purchases -- total negotiated price is allocated to the individual assets based on respective FV

20

self-constructed assets

4 components
1. labor
2. material
3. Overhead
-- incremental overhead approach
---ex. overhead increased by 500, the incremental of 500 would be capitalized
-- pro rata overhead allocation approach
---ex. project represents 15% of direct labor hours for the period, 15% of total overhead will be allocated to project
4. Interest cost incurred during the contstruction period
-- capitalization of interest is allowed ONLY when assets are constructed. when assets are purchased outright, any interest on debt incurred to purchase the asset cannot be capitalized.

LOSS IS RECOGNIZED if costs to construct are more than market value

Dr. Equip
Dr. Loss on Construction
Cr. Equipment under construction

21

Interest for new construction recorded as interest exp first, adjusting entry

Dr. Plant assets under construction
CR. Interest Exp

22

Interest capitalization conditions

3 that must be met.
1. qualifying expenditures have been made (ex. cahs transfers of other assets, debt) (Short-term non-interest bearing debt does not qualify because the firm has no opportunity cost on such debt

2. activities that are necessary to get the asset ready for its intended use are in progress (construction procedding)

3. interest cost is being incurred. actual interest is capitalized. Imputed interest is not capitalized.

23

Computing capitalizable interest

2 steps.

1. compute average accumulated expenditures
-- Avg. accumulated expenditure (AAE) must be computed. measurement of debt on an annual basis, that could have been avoided
--AAE = Avg cash (or qualifying expenditure) investment in the project during the period

2. apply the appropriate interest rates
- - interest rate multiplied by AAE is the amount of interest that could have been avoided
--

24

Computing total of capitalizable interest

1. WA method
-- WA = Total annual interest/ Tottal Principal
-- WA*AAE
-- subtract this amount by the total interest to get the remaining amount that should be expensed

2. Specific method
-- capitalized the interest on specifc construction loans first, then if needed, capitalize interest on all other debt based on the average interest rate for that debt
-- .10(contrstruction principal) + .08(AAE - construction principal).....these rates are just examples

25

Interest capitalization limits

1. avoidable debt is the lower of AAE and total interest-bearing debt

2. When AAE < total interest bearing debt, reported interest expense for the period is the difference between total interest cost and the amount of interest capitalized. Not all debt could have been avoided

3. AAE > total interest bearing debt, all interest cost is capitalized and there is no reported interest expense for the period

26

Capitalization of Interest during construction (Qualifying Assets)

- qualifying assets
--assets constructed or produced for a firm's own use
-- assets intended for lease or sale that are produced as discrete projects
---NOT!! routinely produced inventories, assets ready for their intended use when acquired, assets not being used nor bring readied for use, or land, unless it is being developed (as a plant site, or real estate develop) THEN capitalized interest resulting from land and expenditures (cash outlay) is added to building

27

Capitalization of Interest during construction (When to capitalize interest)

all three must be met
1. expenditures for asset have been made
2. activities intended to get asset ready are in process
3. interest cost is being incurred

28

Capitalization of Interest during construction (applicable interest)

net of discounts, premiums and issue costs
1. interest obligations having explicit rates
2. imputed interest on certain payables/receivables
3. interest related to capital leases

29

Capitalization of Interest during construction (How much interest cost is capitalized)

(Accum expendi beg of period + accum expend and of period) / 2 x portion of year = WA accum expenditures

WA accum expenditues + interest rate = amount capitalized (cannot exceed total interest incurred)

30

Capitalization of Interest during construction (qualification)

1. Amount of interest to be capitalized cannot eceed total interest costs incurred during the entire reporting period

2. Interest earned on temporarily invested borrowings may not be offset against interest to be capitalized

31

Capitalization of interest during construction (Construction payables)

unpaid construction input costs are not included in AAE until paid in cashj

Wages payable, accounts payable for materials, and utilities payable

32

Depreciation (book value, depreciable cos, minimum book value)

- Book Value -- Original Cost less AD to date
- Depreciable Cost -- total depreciation to be recognized over the life of the asset. Amount equals original cost - Salvage value
-Minimum Book Value -- Salvage value. salvage value is no depreciable.

33

Depreciation (plant assets, natural resources, Intangible assets)

--Plant assets are depreciated
-- Natural Resources are depleted
-- Intangible assets are amortized

34

Depreciation method (Straight-line -- Service hours method and Unit outputs method)

--Straightline -- Cost - Salvage/ Useful life = Annual Depreciation (same each year)
-- Service hours method -- Depreciation Rate = (Cost - Salvage VAlue) / (Usefule life in Service hours)
-- Units of output method -- Depreciation Rate = (Cost - Salvage Value) / (Useful life in Units of Production)


35

Depreciation Method (Accelerated)

-- Sum-of-the-year's digits method -- N = useful life in years; SYD = (N(N+1))/2 = 1 + 2 + ... +N; Year 1 dep: (N/SYD)(Cost - Salvage value); Year 2 Dep: ((N-1)/SYD)(Cost - Salvage Value)); Year N Depr: (1/(SYD))(Cost - Salvage Val.)

-- Declining Balance Method -- salvage value not used. deprc. based on beginning book val. -- Dep. year 1 = Cost(2/N); Depr year 2 = (Cost - Dep year 1)(2/N) = Book value at begin of year 2)(2/N); Depr in Year 3: (Cost - Depreciation in Years 1 and 2)(2/N)
- (2/N) -- is twice the straight-line rate

-- Partial or fractional year depreciation -- not purchased at beg. of year

36

Depreciation (Appraisal Methods)

-- used when it is impractival to depreciate assets on individual basis

-- Inventory (appraisal) method -- assets are appraised and recorded at market value. decline in market value from the previous year is depreciation expense for the year. IF assets were sold during the year, the proceeds from sale reduce dep. exp. (Jan. 1 app - Dec 31 app) - proceeds from disposal of some assets in group

-- Group/composite methods - applies straight-line method to group of assets rather than individual. Control account is used to accumulate dep, instead of maintained by assets. Gains and losses not recorded
- The composite depreciation rate = (Annual group SL depreciation) / (Total original cost of group)
- depreciation for yer is the product of the rate and the original cost of assets at the begin. of year. Asset additions increase the total original cost on which dep is calculated; asset disposals reduce the total original cost

37

Natural resources

noncurrent asset that contains the cost of acquiring, exploring, and developing a natural resource deposit. It does NOT include the cost of extracting the resource.

38

Natural Resources capitalization

Capitalized amount - Sum of three different amounts:
1. acquisition costs
2. exploration costs - amount paid to drill or excavate or any other costs for searching
3. development costs - the amount paid after the resource has been discovered but before production begins

39

Natural Resources capitalization (methods of accounting for exploration costs)

1. Successful-efforts method -- only the cost of successful exploration efforts is capitalized to the natural resources account; unsuccessful efforts are expensed.

2. Full-costing method -- all costs of exploring for the resource are capitalized to the natural resources account. (amount capitalized cannot exceed the expected value to be removed.

40

Natural Resources (depletion)

(Sum of Acquisition costs, exploration costs, and development costs) less (Residual Value)
- not an expense but allocation of natural resource form noncurrent assets to inventory

Depletion for a period = (Depletion rate) * (#of units removed in period)

Depletion rate = Natural resources account balance - residual value) / (Total estimated units)

41

Natural Resouces (other costs)

- Extraction costs - depreciation on removable assets, wages, and material costs pertaining to the extraction effort; these costs are debited to the inventory of resource, not to the natural resources account
- Production costs - additional processing costs after extraction; this cost also is debited to the inventory of resource, no to the natural resources account

42

Asset Impairment testing (Asset In use)

1. BV> RC (recoverable cost), asset is impaired because the BV will not be recovered

2. BV < or equal to RC, asset is not impaired and no impairment loss is recognized. (BV is recoverable)

Impairment should be evaluated when certain indicators are prest, not on a regular basis.

43

Asset Impairment Loss journal entry

Dr. Impairment Loss $35
Cr. Asset or Accum Dep $35

The new book value would be the FV.

44

Summary of nonmonetary exchanges

FV not determinable: recognize no loss or gain, record the acquired asset at BV of old asset + cash paid or - cash received

Losses (loss = BV of asset exchanged - FV): recognize loss in full regardless of whethere there is commercial substances (losses are always recognized in full)

Gains (Gain = FV of asset exchanged - BV):
- If there is commercial substance, recognize gain in full, and record the acquired asset at FV
- If no commercial substance and cash is not received on the exchange, recognize no gain, and record the acquired asset at (BV of asset exchanged + cash paid)
- If no commercial substance and cash is received on the exchange, recognize gain in proportion to the cash received and record the asset acquired at (FV - unrecognized portion of gain)
- If the proportion of cash received is 25% or more, account for the exchange as if there were commercial substance (recognize the gain in full and record acquired asset at FV)

45

equity securities

securities that represent ownership interest or the right to acquire or dispose of ownership interest

-Common stock, preferred stock (except redeemable preferred stock), stock warrants, call options/rights, put options

-excludes debt secutities

46

Debt securities

securities that represent the right of buyer/holder (creditor) to receive from the issuer (debtor) a principal amount at a specified future date and (generally) to receive interest as payment for providing use of funds

Includes bonds, notes, convertible bonds/notes, redeemable preferred stock

47

Equity securities measured at FV

- measured at FV when readily dterminable
- the security has readily determinable FV if it meets any of the following conditions:
- sales prices or bid-and-ask quoatations are currently available on a securities exchange registered with the SEC or in the over-the-count market if the OTC prices are publicly reported
- prices or quotations are in a foreign market that has the bready and scope of the U.S. markets
- Prices or quotations for investments in mutual funds (or structures similar to mutual funds, such as a limited partnership or venture capital entit) when FV per share is published based on current transactions

48

Equity securities not required to measure at FV if

- the equity investment is accounted for under the equity method
- the equity investment is controlled and will be consolidated with the investee
- the equity investment does not have readily determinable FV; the investor can elect to measure the investment at cost
- cost is adjusted for any impairment
- cost also must be adjusted for changes in observable prices of orderly transactions for identical or similar equity investments

49

Allocation of value to stock rights

(MV of 1 right) / (MV of stock without right + MV of 1 right) * CV of investment = Total Value of rights

Total Value of Rights / # of rights received = per share value of rights.

50

Intangibles

Classified as:
Definite life - asset has a finite legal life or if the firm believes the useful life is finite
- amortized


Indefinite life - if no legal, regulatory, contractual, competitive, or other factor limits the life. no forseeable limit

Both are subject to impairment

51

Intangible Impairment (Definite life)

Capitalize external costs.

Amortize:
- Over useful life
- Usually no residual value
- unless: the useful life to the firm is less than legal or economic life
- Another entity could obtain some benefit from the asset after the first firm was finished with it
- There is reliable evidence as to its amount
- Usually SL method

Impairment:
-Same as assets in use
-Impairment if BV>R(recoverable costs)
-Impairment loss = BV - FV

52

Intangible Impairment (indefinite life), (goodwill also has indefinite life)

Capitalize external costs. (same)

Amortization: Do not amortize

Impairment:
-Impairment if BV>FV
-Impairment loss = BV - FV

53

Goodwill

Def - result of a business combination that is measured as the difference between the FV of the acquired company as a whole (the acquire) and the FV of the identifiable net assets (assets - liabilities). Goodwill is the excess of the FV of the entity as a whole over the FV of its identifiable assets

54

Included in R&D

-laboratory research
-conceptual formulation and design of possible products or process alternatives
-modification of the formulation or design of a product or process
-design, construction, and testing of preproduction prototypes and models
-design of tools, jigs, molds, and dies involving new technology
-design of a pilot plant

55

Excluded from R&D

-engineering follow-through
-quality control and routine testing
-troubleshooting
-adaptation of an existing capability to a particular customer's needs
-Routine design of tools, jigs, molds, and dies
-Legal work in connection with patent applications
-software development costs

56

R&D Costs

include labor costs, material costs, and overhead costs.

57

Software Costs

R&D to establish technological feasibility(model of software is complete) are expensed (planning designing, coding and testing of programs)

Dr. R&D expenses
Cr. Cash, other accounts

Technological feasibility - capitalize as computer software costs (intangible assets and amortize) (coding, testing, debugging, and prepareation of final product master and final documentation manual. NOT DUPLICATION.

Dr. Computer software costs (intangible asset)
Cr. Cash, other accounts

Software production costs - capitalize inventory and expense thorough COGS taken place

BV is compared to NRV of software (future estimated gross revenue less operating costs). If ending BV > NRV, BV is written down to NRV.

Write-ups are not allowed.

58

Software Costs (amortization)

Use whichever method results in a larger amortization amount, each period. Amortization is an operating expense

Revenue method:
Amortization = B (BV of capitalized software costs at Beg of year) * R (current year revenue)/(current year revenue + estimated furture revenue)

Straight-line:
Amortization = B (BV of capitalized software costs at beg of year) / N (number of years remaining in product sales life at beg of year)

Dr. Amortization of Computer Software costs
Cr. Computer Software Costs

59

Liabilities

represent outsider claims to a firm's assets or are enforceable claims for services to be rendered by the firm

1. represent probable future sacrifices of economic benefits
2. liabilities are obligations ot transfer assets or provide services in the future
3. liabilities are the result of past transactions or events

60

Current Liabilities

accts payable, wages pay, income tax pay, utilities pay, accrued pay, some notes paya, and many others

Due in the coming year or operating cycle of business, whichever is longer

An obligation to be met by the transfer of a current asset or the creation of another current liability

Operating cycle = 365/inventory turnover + 365/AR turnover = number of days required to sell the inventory on hand + number of days required to collect receivables

61

Non-current liabilities

Bonds pay, some notes paya, lease liabilities, and pension liabilities

62

Contingency

an existing condition (at the balance sheet date) involving uncertainty as to a possible gain or loss that will be resolved when a future even occurs or fails to occur. Resolution of the uncertainty may confirm an increase in assets (or reduction in a liability), or the incurrence of a liability or an asset impairment

63

Bonds Payable

1. Face Value

64

Book value Per Share Ratio

Equals common stockholders' equity per share of outstanding common stock, at the end of the period

Book Value per Share Outstanding =
(Commont Stockholders' equity)/(Ending Common Shares of Common Stock Outstanding)

Common Stockholder's Equity =
(Total OE - Liquidation Preference of Preferred Stock - Preferred Stock Dividends in Arrears)