ACCT 284
ACCT 284 Exam 1 Review
Chapter 1:
Accounting: a system that collects and processes financial information about an
organization and reports that information to decision makers
 External decision makers: Financial Accounting System
o Investors, banks, Internal Revenue System (IRS), Securities and
Exchange Comission (SEC)
 Internal decision makers: Managerial Accounting System (subset of financial
accounting)
o Employees, company management, board of directors
4 Sheets provided in financial accounting system:
1.) Balance Sheet
2.) Statement of Retained Earnings
3.) Income Statement
4.) Statement of Cash Flows
1.) Balance Sheet:
Assets = Liabilities + Stockholders’ Equity
Assets: resources presently owned by a business that generate future
economic benefits
o Inventory
o Property, plant, and equipment (PPE)
o Cash
o Investments (stock of another company)
o Accounts Receivable (credit sale NOT using credit card—pays at end
of month)
o Prepaid expenses
o Intangible assets
o Current assets
Liabilities: amounts presently owed by a business
o Notes Payable (loans)
o Wages Payable
o Utilities Payable
o Advertising Payable
o Accrued ________
o Accounts Payable (purchased item, not payed)
o Unearned Revenue (paid for in advance without providing service)
o Current and long term liabilities
o Current is a portion of a long term debt (ex: monthly car
payment)
Stockholders’ Equity: financing provided by owners (contributed capital)
and operations (retained earnings)
1.) Contributed Capital
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o Company’s own stock accounts
2.) Retained Earnings
o Contains dividends, net income, ending balance of retained
earnings
2.) Statement of Retained Earnings:
Beginning RE + Net Income – Dividends = Ending RE
o Reports how net income and the distribution of dividends affected the
financial position of the company for this accounting period
o Dividends: payment to shareholders of earnings
3.) Income Statement:
Income = Revenue – Expenses
o Reports revenues less expenses for the accounting period
o Shows net income
o Also called, “statement of income/earnings/operation”
4.) Statement of Cash Flows:
Cash flows from operating activities (pay employees, cash from customers)
+ Cash flows from investing activities (PPE, buying/selling investments)
+ Cash flows from financing activities (debt, buying/selling own stock)
=
Change in cash
Generally Accepted Accounting Principle (GAAP): the measurement used to
develop the information in the financial statements
o Securities Exchange Commission (SEC): the federal agency with the power to
determine the rules
o Financial Accounting Standards Board (FASB): the private body that actually
writes the rules
o Public Accounting Oversight Board (PCAOB): the body that approves the
rules
3 Types of Businesses:
1.) Sole Proprietorship (1 owner)
2.) Partnership (2+ owners)
3.) Corporation (share holders are owners)
o Sole and partnership have unlimited legal liabilities
Incorporation: (is a separate label entity from its owners)
 Advantages:
o Ability to raise capital
o Ease of ownership transfer
o Limited liability of stockholder (only lose business assets NOT
personal assets)
 Disadvantages:
o Double taxation of earnings (tax on income, tax on dividends)
Chapter 2:
Financing activities:
 Borrowing money (loans/notes payable)
 Issuing stock (contributed capital)
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 Debt and stock
Investing activities:
 Purchasing PPE
 Purchasing the securities of another company (investments/stock of another
company)
Cost Principle: assets are recorded at the cash-equivalent cost on the transaction
date
*tells us how to record items on the balance sheet
 Conservatism: we use the least optimistic measures when uncertainty exists
about an asset or understate a liability
 Cost does not represent market or current value
o It is what you paid for
Current: will be paid/used in one year or less
 cash, accounts receivable, inventory short term investments
Long term: will be paid/used in over a year
Transaction: an event that is recorded as part of the accounting process
 not all events are transactions, but
 all transactions are the result of past events
Two main types of events:
1.) an exchange with an external party
2.) A measurable internal event
Transaction Analysis:
 A tool that determines the economic effect of a transaction on the accounting
equation
Two Rules:
1.) Every transaction affects at least two accounts
2.) The accounting equation much remain in balance after each transaction
Steps in Transaction Analysis:
1.) Identify accounts affected
2.) Determine the effect on each account
3.) Determine that the accounting equation remains in balance
T-Accounts:
Used to:
 Summarize transaction effects for each account
 Determine account balances
 Draw inferences about a company’s activities
 DEA when positive, is a DEBIT
o Dividends, expenses, and assets (+) = Dr.
 Everything else is a CREDIT
o Stockholders’ equity, revenue, liabilities (+) = Cr.
 Everything is opposite when negative
o – (DEA) = Cr.
o – (SE, Equity, L) = Dr.
Journal entry: an accounting method for expressing the effects of a transaction on
accounts in a debits-equal-credits format
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 Debits are written first
 Credits are indented below debits
 Total debits must equal total credits (Dr. = Cr.)
Ratio Analysis:
Current Ratio= Current Assets / Current Liabilities
 Assets whether current assets are sufficient to pay current liabilities
 Higher ratio means better able to pay
Chapter 3:
Cash Basis Accounting:
 Rev = cash received; Exp= cash paid
 Revenues are recognized when cash is collected
 Expenses are recognized when cash is paid
Accrual Basis Accounting: (required by GAAP)
 Rev = cash earned; Exp = expenses incurred
o Revenues are recognized when earned
o Expenses are recognized when incurred
Income Statement:
Net Income = Revenues – Expenses
Revenues: amounts earned by selling goods or services to customers
 Types of Revenue Account Names
o Sales revenue
o Service revenue
o Rental revenue
o Interest revenue
o Dividend revenue
o Fees earned
Expenses: costs of business necessary to earn revenues
 Types of Expense Account Names
o Cost of goods sold (COGS)
o Repairs and maintenance expense
Can be grouped as
o Advertising expense
Selling, General, and
o Depreciation and amortization expense
Administration Expenses
o Insurance expense
o Salaries and wages expense
o Rent expense
o Supplies expense
o Transportation expense
o Utilities expense
o Interest expense (“other expense”)
o Income tax expense (always last, just before net income)
Income Statement Principles:
Revenue Recognition Principle: Revenues are recognized when they are earned,
usually at the point of sale (POS)
 Earned when provided service to customer
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 Have reasonable assurance that they will receive payment (credit card)
Matching Principle (expenses): requires that expenses be matched into the period
in which the related revenue is recognized
Unadjusted Trial balance:
 Looks at where all the accounts stand at the end of the period as a result of
recording the external transactions
 Tells us
o The balance in each amount
o Whether or not accounts are in balance
Income Statement Limitations:
 Does not indicate the amount of cash the company is generating
 Does not directly measure the change in the value of a company
 Uses estimates to measure income
The Accounting Cycle:
 Analyze transactions
 Make journal entries
 Post to accounts
 Prepare a trial balance
 Make adjustments
 Prepare financial statements
 Make closing entries
Ratio Analysis:
Net Profit Margin
Net Income / Net Revenues
= Revenues – Expenses / Net Revenues