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FAR 1 Intro
financial accounting concepts and statements
128
Accounting
Professional
01/20/2010

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Term
what are the three main objectives of financial reporting?
Definition
1. provide info that is useful in making investing/lending decisions; 2. help assess the amounts/timing/certainty of cash flows; 3. provide a picture of entity's economic resources and the claims on those resources
Term
what are the three key areas that GAAP addresses (very general)?
Definition
recognition, measurement, disclosure
Term
what 3 organizations are responsible for GAAP?
Definition
FASB, SEC, AICPA
Term
What is included in the highest level of GAAP?
Definition
FASB SFASs, FASB Interpretations, CAP ARBs, APB Opinions
Term
Who comprises the FASB?
Definition
7 FT members, not nec CPAs, renewable 5 year terms (1 renewal)
Term
General process of setting GAAP?
Definition
FASB places a topic on theagenda, does research --> Discussion Memo --> public hearings --> Exposure Draft = initial statement; more comment & mod --> fainal SFAS (majority vote)
Term
Are Statements of Financial Accounting Concepts (SFACs) GAAP?
Definition
NO!!! they provide the basis for developing GAAP but are not GAAP themselves
Term
role of EITF?
Definition
develop positions on new issues; 13 members; if they reach consensus this may be as far as things go
Term
How is GAAP enforced?
Definition
By difficulties in raising capital; SEC deficiency letters, SEC may stop trading, poss criminal sanctions vs mgrs
Term
What is PCAOB concerned with?
Definition
AUDITING of public companies
Term
If ending A/R is larger than beginning A/R, which income is bigger: cash or accrual?
Definition
if ending A/R is larger than beginning, then less cash has been paid in by customers than is owed due to new credit sales and accrual income > cash income
Term
If ending A/P is larger than beginning A/P, which is bigger, cash or accrual income?
Definition
If ending A/P is bigger than beginning A/P, then purchases are more than cash paid out to suppliers and accrual income will be less than cash income
Term
Define operatig cycle of a firm/
Definition
cash-to-cash (purchase thru mf (if mf co) and sales and collection of receivables.
Term
what is a "current" asset?
Definition
one that will be converted to cash or consumed within one operating cycle or one year, whichever is LONGER
Term
Which comes first, the econonic activity or the cash, for a. accruals and b. deferrals?
Definition
Accruals = economic activity before cash; Deferrals = cash before the economic activity
Term
Give an example of an accrued income item, an accrued expense, a deferrred income item, and a deferred expense
Definition
Accrued income = receivables; accrued expense = payables; Deferred income = UNEARNED revenues such as subscription or rent income; deferred expense = prepaid expenses such as prepaid insurance or prepaid rent
Term
what is the primary objective of financial statements
Definition
to be useful to external decision makers
Term
what do F/S provide information about
Definition
cash flows, economic resources and claims on those recources, also financial performance and mgmt responsibility
Term
**Two key characteristics of accounting info
Definition
Relevance and Reliability
Term
*Three components of relevant information
Definition
Timely, predictive value, feedback value
Term
*Three components of reliable information
Definition
representationally faithful, verifiable, neutral
Term
Two secondary qualitative characteristics of accting info?
Definition
Comparabilitly across firms and Consistency within firms
Term
*Basic accounting assumptions? SFAC 2
Definition
Entity assumption, going concern, unit-of-measure, time period
Term
*basic accounting principles? SFAC 2
Definition
historical cost, revenue recognition, matching, full disclosure
Term
When is revenue recognized?
Definition
When goods & services have been provided, collecibility of cash is assured, and the expense of providing the good/service can be determined
Term
What are some ways of matching?
Definition
immediate recognition (in period incurred); cause & effect (eg COGS); systematic & rational (eg depreciation)
Term
What's the difference between an expenditure and an expense?
Definition
An expenditure is an outlay of cash; an expense is matched with the revenue it produces (eg 3000 expenditure for a computer expense 50/month for its use to generate income)
Term
*Constraints on Accounting SFAC 2?
Definition
materiality; cost-benefit; conservatism; industry pecultiarities
Term
What is included in a full set of F/S? SFAC 5
Definition
bal sheet, income statement, comprehensive income, cash flows, investments by & distrib to owners (SOE)
Term
*10 elements of F/S
Definition
assets, liabilities, equity, investments by owners, distributions to owners, comprehensive income, revenues, expenses, gains, losses
Term
define asset?
Definition
probably future benefits, controlled by mgmt, resulting from past transaxns
Term
define liability?
Definition
probable future sacrifices, arising from present obligations that are a result of past transaxns
Term
*different measurement principles in F/S
Definition
historical cost (land), depreciated/amortized cost(PPE); NRV (A/R); LCM (inventory); fair value (marketable securities); expected cash flow (asset retirement obligations)
Term
other name for balance sheet?
Definition
statement of financial position
Term
what distinguishes balance sheet from all other F/S
Definition
only one that is measured at a POINT in time rather than a period of time
Term
does a balance sheet represent all assets of a firm?
Definition
surprisingly, no. only those assets acquired thru a transaxn; hence "off-balance sheet" assets
Term
what key information might an investor glean from balance sheet?
Definition
risk: liquidity of assets, debt to equity ratio
Term
key liquidity ratios?
Definition
current ratio (CA/CL); quick (acid-test) ratio (cash, ST invest, AR/CL). want to be at least 1
Term
how are assets & liabilities ordered on a balance sheet?
Definition
in order of liquidity. A classified balance sheet formally separates current from noncurrent assets but all BS use the same general ordering
Term
ordering of assets on BS
Definition
cash & cash equiv; ST invest; A/R; inventory; prepaids
Term
ordering of current liabilities on BS
Definition
A/P, accrued liabilities, unearned revenue, tax payable notes payable, curr portion LT debt
Term
contra, adjunct accts?
Definition
contra goes in opp direction of assoc acct (subtract, eg accum deprec or allowance for doubtful accts); adjunct goes in same direction (bond premium)
Term
valuation acct?
Definition
used to bring an asset or liability to current value. All valuation accts are either contra or adjunct accts (but not vice versa)
Term
key to know about related parties?
Definition
FAS 57 requires specific disclosures about related party transaxns: nature of rel, descrip of transaxns; amts due and terms of settlement
Term
what is a subsequent event? when is it recognized in the F/S and when is it merely disclosed?
Definition
a subs event occurs after the balance sheet date. If conditions existed at B/S date (eg company on verge of bankruptcy), recognize (eg write off bad debt). If the condition did not exist at the B/S date, merely disclose (eg fire on Jan 2 destroys warehouse)
Term
Must ALL related party transaxns be disclosed?
Definition
No. if it's not material, it's not disclosed. (Q: if it's between related parties but its at FMV, must it be disclosed?)
Term
subsequent event: if you have a signed contract in October but have not begun work, is the contract recognized in the F/S?
Definition
NO!!!
Term
What kinds of subsequent event losses should be recognized in F/S
Definition
probable and estimatable LOSSES--try ex's again
Term
Define Revenue, Expense, Gain, & Loss. Diff between Revenue & Gain? Between Expense & Loss?
Definition
Rev & Expenses are changes in net assets/liabilities related to provision of goods & services. Gains & losses are changes in net assets or equity and are not related to the main business purpose. Expenses provide bus benefit; loss do not.
Term
What Rev/Exp/G/L do NOT appear on Inc St?
Definition
PRIOR PERIOD ADJUSTMENTS appear on St of Retained Earnings. Foreign currency adjustments, unrealized holding G/L, and pension cost adj appear only on st of comprehensive income.
Term
Overall Income Statement Flow
Definition
Net Sales
Less COGS
Gross Margin
Less Operating Expenses
= Operating Income
+ Misc Rev/Gains
- Misc Exp/Losses
+/- unusual/infreq items
= Income from continuing ops pre-tax
less income tax expense
= Inc f cont ops
+/- discontinued ops net of tax
+/- extraordinary items net of tax
= NET INCOME
Term
what is included in income tax item in income statement?
Definition
Income tax on continuing operations. Non-continuing items are reported net of tax.
Term
What is included in continuing ops other than Rev/Exp/Gains/Losses f/bus?
Definition
Items that are unusual OR infrequent, eg restructuring. These go in continuing ops. Items that are BOTh are extraordinary and go after cont ops and are reported net of tax
Term
Framework for single step income st?
Definition
REvnues & Gains; Expenses & Losses; Unusal or Infreq items; Sum; Tax; Inc f/Cont ops; discont items/ extraord items; net income
Term
Overall Multi-step Income Statement?
Definition
Sales Rev Less COGS = gross margin less op exp = op margin plus other rev/gains less other exp/loss; plus/minus unsual OR infreq items = inc f/cont ops; discont ops, extraord items; net income
Term
What is the value of separating income from continuing operations from net income?
Definition
INcome from continuing operations is more predictive of future income
Term
Income statement: What's part of G&A expense? what should be broken out separately
Definition
officer's salaries, rent for non-mf and non-sales, prof'l fees...but NOT advertising, NOT interest
Term
How handle discontinued operations, sale of segment planned for next year, for antic Gain and for antic Loss
Definition
Discont ops always is broken out separately. Have loss from operations for this year, then est loss on sale, if one is estimated. (FMV - CV)(1-tax rate). If the loss is less than expected, the next year you report a gain in the amt of the difference between the loss est (eg -1200) and the actual (-1000 --> gain of 200). If you anticipate a gain on sale you do NOT report it until it actually occurs
Term
Discontinued operations-if you plan a sale next year what do you report this year?
Definition
both the actual OPERATING loss and a loss on sale, if one is anticipated. If a gain on sale is anticipated, it is NOT reported
Term
Does a sudden unexpected currency devaluation from a foreign govt qualify as an extraordinary item? How about a foreign govt takeover of a business?
Definition
no, yes
Term
Are strike losses unusual? antitrust case losses unusual?
Definition
no, yes if they tell you it's the first for the co
Term
treatment of early retirement of bonds?
Definition
goes in IFCO (inc f cont ops) as a separate item
Term
Is abandonment of equipment extraordinary?
Definition
apparently not according to example questions
Term
Casey Corp. entered into a troubled debt restructuring agreement with First State Bank.Prior to this agreement, Casey has never had troubled debt and does not expect to have troubled debt in the future.
Under the agreement, First State agreed to accept land with a carrying amount of $85,000 and a fair value of $120,000 in exchange for a note with a carrying amount of $185,000.

Disregarding income taxes, what amount should Casey report as extraordinary gain in its income statement?
Definition
65 extraord (and 35 ord fv-cv)--total gain 100 (get 185 debt forgiv, give up 85 cv, but divide into ord and extraord)
Term
3 ways to present st of comprehensive income? which is most popular?
Definition
as a separate statement; in with income statement; in with st of owner's equity; lastter is most popular
Term
4 components of OCI (other comprehensive income)?
Definition
unrealized gains & losses on AFS (avail for sale) securities; unrealized pension G/L; foreign currency translation adj; unrealized G/L from derivative transaxns
Term
format for sep st of OCI
Definition
Begin with Net Income; then present the OCI items in order net of tax; total OCI, total OCI and Net Income to get COMPREHENSIVE Income
Term
Comprehensive income = __ + ___
Definition
Net Income + Other Comprehensive Income
Term
Difference OCI & comprehensive income?
Definition
watch this on qs--tricky! sometimes they ask for one, sometimes for the other. CI=NI+OCI
Term
can comprehensive income be less than net income?
Definition
Yes, if the OCI items total to be a loss
Term
Comprehensive income is reported net of tax for what?
Definition
EITHER for the total of the OCI items OR for each item individually--but the net of tax doesn't appear twice (tricky item)
Term
True of False: CI should appear in a F/S that has equal prominence with other F/S
Definition
true
Term
two types of EPS?
Definition
basic and diluted
Term
*formula for basic EPS
Definition
net income - preferred stock dividends / wtd avg common shares outstanding
Term
can CS dividends affect EPS?
Definition
No!
Term
what is included in diluted EPS?
Definition
stock options and convertible securities, calc as the number of common shares these would convert to plus existing CS
Term
*diluted EPS calc?
Definition
net income -preferred stock div + adjustments to income for assumed conversion of potential cs / wtd avg cs shares outstanding + shares from assumed conversion of pcs
Term
reporting req for EPS?
Definition
basic and diluted; for IFCO and net income, and for discont ops and extraord items
Term
key issues to watch out for in calc of EPS
Definition
subtracting preferred stock div from numerator (remember cum whether pd or not; declared noncum as long as declared); calc wtd avg # CS when there are treasury stock buybacks or stock splits
Term
how handle a stock dividend or split that occurs in the middle of the year, for calc EPS?
Definition
treat it as tho it occured at the beg of the year. If you have a comparative st, need to adj prev yrs too to be comparable
Term
If you have 2 yrs dividends in arrears on PS and .5 year for the curr year, how much do you subtract for calculating EPS for the current year?
Definition
one full year--the rest would have been calc in a previous year so don't repeat
Term
if a firm has issued 1000 shares and has 200 in treasury, how many shrea to include in calc EPC
Definition
800
Term
If a firm has no shares of PS, what does EPS represent?
Definition
The amount of dividends that could be paid w/o reducing retained earnings below what it was at the beginning of the year
Term
if 7000 shares have been issued and 2000 are in treasury stock, what # shares use for wtd avg shares outstanding in calc EPS
Definition
5000
Term
If a stock split or a stock dividend occur early in the year before the annual F/S have been issued, should the new number of shares be used to calculate EPS even tho that number of shares was irrelevant to the year to which the FS pertain?
Definition
yes, b/c the goal of EPS is to give investors info about the future, so take the stock div or split into consideration!
Term
If you expect a gain on disposal of a discontinued operation that will occur the next year, is it reported in this years' FS? what about an estimated loss?
Definition
Do NOT report an est gain but DO report an est loss!
Term
what is the benchmark for antidilution?
Definition
basic EPS
Term
how handle convertible bonds and convertible preferred stock for diluted EPS?
Definition
assume they have been converted
Term
how handle stock options and warrants for diluted EPS?
Definition
"treasury stock method"-assume they have been exercised
Term
Numerator effect of convertible bonds. How calc? What does it represent?
Definition
# bonds x par/face amt x %int rate x (1-tax rate). **ADD** this to net income b/c it is the additional income you'd have from not having to pay interest on the bond!
Term
denominator effect of convertible bonds? What do you do once you've calc num & denom effects?
Definition
Denom effect is simple conversion, eg if each bond converts to 20 CS and you have 100 bonds, add 2000 shares to CS. Once you have the numerator and the denom effects JUST BY THEMSELVES (ignoring the orig net income), divide the num effect by the denom effect. If this is less than basic EPS there is a dilution effect and calc DEPS
Term
What's a big difference between calculating the effects of convertible preferred stock vs convertible bonds on EPS?
Definition
with bonds, the interest expense is tax deductible, so you multiply the interest rate by 1-tax rate. With PS, the dividend is NOT tax deductible so you don't do this.
Term
do you always report both basic and diluted EPS when there is a potential conversion of bonds or stock?
Definition
NO. Only report the potential effect if it is dilutive due to conservatism
Term
3 steps for treasury stock method for calc effects of stock options on diluted EPS
Definition
1. If option price < market price assume the option is exercised and calculate how much more income and how many more shares the company has as a result.
2. Assume that the company will use the proceeds to buy back treasury shares at the market price.
3. Add together the incr # shares f/exercise of the option less the treasury shares to find the total difference in number of shares
Term
Is there a numerator effect when stock options are exercised?
Definition
No, denom effect only
Term
why does the treasury stock method assume that the proceeds from the stock options will be used to buy back shares of treasury stock?
Definition
because this minimizes the dilutive effect of exercising the options
Term
when you have multiple dilutive entries in a problem, which do you start with--the biggest ratio or the smallest
Definition
start with the smallest ratio and go until the effect is antidilutive
Term
the control number for antidilution =?
Definition
income from continuing operations
Term
How do you handle a series of potential entries into diluted EPS
Definition
calculate the N/D ratio for each. Start with the lowest and calc DEPS. go step by step. Stop when the N/D ratio for the next entry is larger than the DEPS from the last calculation!
Term
if there are shares issued and outstanding, what do you use for denom in EPS
Definition
use shares outstanding. if they say there are shares in treasury stock, subtract this from number of shares issued!
Term
purpose of statement of cash flows?
Definition
assess bus ability to generate cash flows, likelihood of being able to pay off debt and of future borrowing
Term
3 key sections of statment of cash flows
Definition
operating (this is the only one where you can use either direct or indirect method), investing, financing
Term
other items on SCF besides 3 main sections
Definition
foreign currency adjustments, noncash investing & financing, reconcil beg to end of year cash to cash
Term
format of SCF
Definition
Op; Inv; Fin; foreign currency adj; change in cash; beg cash; end cash
Term
use of supplemental schedule to SCF
Definition
present significant *non-cash* investing and financing activities
Term
does the choice of direct vs indirect method for SCF affect required disclosures?
Definition
yes--direct method requires a separate reconciliation of net income with cash from operating activiites
Term
in the indirect method for the SCF, what is the starting point? what is the goal
Definition
Net Income is start, reconcile this to net cash from operating activities
Term
focus of investing section of the SCF
Definition
acquisition & disposal of non-cash assets
Term
Direct method SCF: sources of cash?
Definition
customers, interest or dividends, sale of investments
Term
Direct method SCF: uses of cash?
Definition
pay vendors/suppliers, pay employees, pay taxes, *pay interest expense*
Term
Investing activities: sources of cash?
Definition
sale of assets or investments, collection of loan principle
Term
investing activities: uses of cash?
Definition
purchase assets, purchase investments
Term
financing activies: sources of cash?
Definition
issuing bonds or stocks
Term
financing activities: uses of cash?
Definition
*pay dividends*, pay off bonds/LT debt
Term
if you make a loan to another, is that an investing activity or a financing activity?
Definition
*investing*
Term
tax effects show up in which section of the SCF
Definition
operating only
Term
classification of dividends paid, dividends received, interest paid, interest received on SCF?
Definition
dividends PAID is financing (direct reduction of retained earnings); all the others are operating
Term
classification of TRADING securities in SCF?
Definition
depends on purpose--if intent is very short term turnover, OPERATING; else investing
Term
what do you do with foreign currency adjustments in the SCF?
Definition
separate section entitled "Net Effect (on Cash) of Foreign Currency Translation" provides an adjustment
Term
Reconcil of cash
Definition
change in cash (sum of OIFF) + beg = end
Term
what do with noncash transactions on SCF? what if a transaxn is part cash part noncash?
Definition
separate schedule or footnote. If transaxn is split, the reporting is also split between the face and the schedule
Term
change in cash (indirect method) = ?
Definition
change in liabilites + change in equity - change in noncash assets
Term
Where does bad debt expense/allowance go when figuring St of Cash Flows
Definition
Count it as a selling expense!!! do not use when calc cash collected f/customers
Term
What do you do with discount/premium on Bonds payable when calc St of Cash Flows
Definition
Discount amortiz adds to interest expense so add it back (like deprec); premium subtracts from interest expense
Term
Helpful equation for remembering directions of add/subtract to Net Income when calc St of CF using indirect method
Definition
change in cash = ch in L + ch in E - ch in other assets
derived from A = L + E
Term
What belongs in investing activities?
Definition
LIP: loans, investments in other companies (EXCEPT trading investments), PPE
Term
Roger's easy way to remember which are operating, investing, financing activities?
Definition
draw up a balance sheet with curr sept from noncurr A & L; Curr A&L are gen operating; noncurr assets are gen investing, noncurr liabilities and SE are gen financing
Term
on the statement of cash flows, how do you classify: a note receivable? a note payable?
Definition
N/R is noncurr asset, investing
N/P is noncurr liability, financing
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