ACG2021 FINAL EXAM REVIEW 2 Chapter 1 Introduction to Financial Statements Business Activities Know the three types of business activities All businesses are involved in three types of business activities 1 Financing Activities It takes money to make money so the two primary sources of outside funds for corporations are borrowing money debt financing and issuing selling shares of stock Once the company has raised cash it uses that cash in investing activities 2 Investing Activities Involves the purchase of the resources a company needs in order to operate A growing company purchases many resources assets such as computers delivery trucks furniture and buildings Once a business has the assets it needs to get started it begins operation 3 Operating Activities Day to day activities For example Tootsie Roll is in the business of selling all things that taste look or smell like candy The amounts earned on the sales of their products are revenues the increase in assets or decrease in liabilities resulting from the sale of goods or the performance of services in the normal course of business Revenues arise from different sources The company purchases its shorter lived assets like supplies through operating activities 2 Chapter 2 A Further Look at Financial Statements Earnings per share Profitability ratios measure the income or operating success of a company for a given period of time Earnings per share EPS measures the net income earned on each share of common stock By comparing earnings per share of a single company over time we can evaluate its relative earnings performance from the perspective of a stockholder per share basis If you took Net income preferred dividends that is what would be available for the common stockholders 5 Chapter 3 The Accounting Information System The accounting equation types of accounts normal balances how to record accounting transactions impacts on types of accounts Overdrawn bank statement cash would have a credit balance Allowance for Doubtful Accounts is a contra asset account and would have a credit balance Debit must equal credits and there should be a minimum of one debit entry and one credit entry It is okay to have a debit and credit for assets ex Debit asset for buying equipment and Credit asset for paying cash 6 Chapter 4 Accrual Accounting Concepts Know the revenue recognition principle accrual accounting concepts and adjusting entries The revenue recognition principle The principle that companies recognize revenue in the accounting period in which the performance obligation is satisfied The expense recognition principle The principle that matches expenses with revenues in the period when the company makes effort to generate those revenues It is often referred to as the matching principle Expenses Delivery Advertising Utilities Matching Revenues Let the expenses follow the revenues AKA MATCHING PRINCIPLE Accrual basis accounting means that transactions that change a company s financial statements are recorded in the period in which the events occur even if cash was not exchanged So companies recognize revenue when they perform the services even if the cash was not received Likewise companies recognize expenses when incurred even if cash was not paid The basics of adjusting entries Adjusting entries are made at the end of an accounting period to ensure that the revenue recognition and expense recognition principles are followed It is necessary to adjust the entries because the trial balance may not contain up to date and complete data this is true for several reasons 1 some events are not recorded daily because it is not efficient to do so ex Use of supplies or earning wages 2 some costs are not recorded during the accounting period because these costs expire with the passage of time rather than as a result of recurring daily transactions ex Charges related to the use of buildings and equipment rent and insurance 3 some items may be unrecorded ex Utility service bill that will not be received until the next accounting period They are required every time a company prepares financial statements Every adjusting entry will include one income statement account and one balance sheet account Also cash is never included Types of adjusting entries Deferrals Deferrals are costs or revenues that are recognized at a date later than the point when cash was originally exchanged Companies make adjusting entries for deferred expenses to record the portion that was incurred during the period Companies also make adjusting entries for deferred revenues to record services performed during the period 1 Prepaid expenses Expenses paid in cash and recorded as assets before they are used or consumed Ex Insurance supplies advertising rent equipment and buildings Cost that expire either with the passage of time or through use Debit to an expense account and a credit to an asset account Companies typically own a variety of assets that have long lives like buildings equipment and motor vehicles The life cost of the asset is allocated of its useful life which is the idea of depreciation It is an allocation concept not a valuation concept It allocates an asset s cost to the periods in which it is used It does not attempt to report the actual change in the value of the asset So you could debit depreciation expense and credit the contra asset account accumulated depreciation equipment building land etc 2 Unearned revenues Cash received before service are performed Ex Rent airline tickets magazine subscription and customer deposits Adjusting entry to record the revenue that has been earned and to show the liability that remains Debit to a liability and credit to a revenue account Accruals Prior to an adjustment the revenue account and the related asset account or the expense account and the related liability account are understated So the accruals will increase both a balance sheet and an income statement account 1 Accrued revenues Revenues for services performed but not yet received in cash or recorded Ex Rent interest and services performed Accrued revenues may accumulate accrue with the passing of time and they are unrecorded because the earning does like interest does not involve daily transactions Debit to an asset account and credit to a revenue account An adjusting entry serves two purposes 1 shows the receivable that exists and 2 records the revenues for services performed 2 Accrued expenses Expenses incurred but not yet paid in cash or recorded Ex Rent interest taxes
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