BUAD 280 Midterm Review: Accounting Equation, Financial Statements, Inventory and Receivables

Terms in this set (30)

1. The basic accounting equationAssets = Liabilities + Stockholders' Equity. Every transaction keeps it in balance.
2. Expanded stockholders' equity componentsEquity = Common Stock (contributed capital) + Retained Earnings. Retained earnings rise with net income and fall with net losses and dividends.
3. Debit and credit rules for the five account typesAssets, expenses and dividends increase with debits. Liabilities, equity and revenues increase with credits.
4. What are the four main financial statements?Income statement, statement of retained earnings (or stockholders' equity), balance sheet, and statement of cash flows.
5. Income statement vs balance sheetThe income statement reports revenues and expenses over a period. The balance sheet reports assets, liabilities and equity at a single point in time.
6. Order in which the statements are prepared and whyIncome statement first (net income), then retained earnings (uses net income), then balance sheet (uses ending retained earnings), then cash flows.
7. Accrual vs cash basis accountingAccrual accounting records revenue when earned and expenses when incurred, regardless of cash. Cash basis records them when cash changes hands. GAAP requires accrual.
8. Revenue recognition principleRecognize revenue when the company satisfies its performance obligation by transferring goods or services to the customer, in the amount it expects to receive.
9. Expense recognition (matching) principleRecord expenses in the same period as the revenues they helped generate.
10. Journal entry: company receives $5,000 cash for services to be performed next monthDebit Cash 5,000; credit Unearned Revenue 5,000. Unearned revenue is a liability until the service is performed.
11. Four types of adjusting entriesDeferred revenues (unearned revenue earned), deferred expenses (prepaids used up), accrued revenues (earned but not billed) and accrued expenses (incurred but not paid).
12. Adjusting entry: $1,200 of prepaid insurance covers 12 months; one month has passedDebit Insurance Expense 100; credit Prepaid Insurance 100.
13. What is depreciation?Allocating the cost of a long-term asset over its useful life. It is a cost allocation, not a measure of market value. Entry: debit Depreciation Expense, credit Accumulated Depreciation.
14. Straight-line depreciation formula(Cost - Residual value) / Useful life. A $10,000 asset with $1,000 residual value and 3-year life gives $3,000 per year.
15. What is a contra account? Give an exampleAn account offsetting a related account, with the opposite normal balance. Accumulated Depreciation reduces equipment; Allowance for Doubtful Accounts reduces receivables.
16. Which accounts are closed at period end?Temporary accounts: revenues, expenses and dividends are closed to Retained Earnings. Permanent balance sheet accounts carry forward.
17. Gross profit formulaGross profit = Net sales - Cost of goods sold. Gross profit percentage = gross profit / net sales.
18. Cost of goods sold formula (periodic)COGS = Beginning inventory + Purchases - Ending inventory.
19. FIFO vs LIFO when costs are risingFIFO assigns older, cheaper costs to COGS, giving higher net income and higher ending inventory. LIFO gives higher COGS, lower income and lower taxes. IFRS does not allow LIFO.
20. Perpetual vs periodic inventory systemsPerpetual updates inventory and COGS with each sale. Periodic updates them only at the end of the period through a physical count.
21. Lower of cost and net realizable value ruleIf inventory's net realizable value falls below cost, write it down to NRV, recognizing a loss in that period.
22. Allowance method for bad debtsEstimate uncollectible accounts each period: debit Bad Debt Expense, credit Allowance for Doubtful Accounts. A write-off later debits the Allowance and credits Accounts Receivable, with no expense.
23. Net realizable value of accounts receivableAccounts Receivable minus Allowance for Doubtful Accounts: the amount the company expects to collect.
24. Three sections of the statement of cash flowsOperating activities (core business), investing activities (buying or selling long-term assets and investments) and financing activities (debt, stock, dividends).
25. Under the indirect method, how is depreciation treated?It is added back to net income in operating activities, because it reduced net income without using cash.
26. Current ratio formula and meaningCurrent ratio = current assets / current liabilities. It measures short-term liquidity; above 1 means current assets exceed current obligations.
27. Debt-to-equity ratioTotal liabilities / total stockholders' equity. A higher ratio means more financing comes from creditors and more financial risk.
28. Return on assets (ROA)Net income / average total assets. It measures how efficiently a company uses its assets to generate profit.
29. Effect of declaring a cash dividendRetained earnings decrease and a dividends payable liability is created. Dividends are not an expense and do not appear on the income statement.
30. Mini-problem: Assets $80,000 and liabilities $30,000. What is equity?Equity = Assets - Liabilities = 80,000 - 30,000 = $50,000.