A-201: Financial Accounting Study Guide

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Chapter 1

Financial Accounting
A system through which managers report financial information about an economic entity to a variety of individuals who use this information for various decision making purposes. The process of identifying, recording, summarizing, and reporting economic information to decision makers. Managers of Companies Must Understand 2 Things:

1) Economic Consequence Perspective:
Considering and understanding how such events affect the financial statements. 2) User Orientation:
Managers must also know how to read, evaluate, and analyze financial statements. The Annual Report:
1) The Auditor’s Report – A short letter written by the auditor that describes the activities of the audit and comments on the financial position and operations of the company. Contains 3 things: 1) States that the statements were prepared in conformity with GAAP. 2) Presents fairly the company’s financial condition and operations. 3) Confirms that the statements resulted from an effective internal control system. 2) The Management Letter – Normally states that the management is responsible for the preparation and integrity of the financial statements. Most contain references to GAAP, ethical and social responsibilities, the quality and reliability of the company’s internal control system, the independent audit, and the audit committee of the board of directors. The 4 Financial Statements

Generally only interested in the company’s future prospects because the future is what interests you the most. The past of often a poor indicator of the future.
The Footnotes
Descriptions and schedules that further explain the numbers on the financial statements. These are audited by an independent auditor and are considered part of the financial statements. The Financial Statements

1) The Balance Sheet
Indicates the financial condition of a business as of a given point of time. The Basic Accounting Equation: Assets = Liabilities + Stockholder Equity 1) Assets – Represent items that will bring future economic benefit to the company. Current Assets: Cash, Marketable Securities, Accounts Receivable, Inventory, Pre-Paid Expenses. Non-Current Assets: Long-Term Notes Receivable, Long-Term Investments, Property/Plant/Equipment NET of Depreciation, Intangibles (i.e. goodwill). 2) Liabilities – A probable future sacrifice of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events. Current Liabilities: Accounts Payable, Accrued Expenses, Unearned Income, Taxes Payable, Current Maturities of Long-Term Debt. Non-Current Liabilities: Long-Term Debt (Bonds Payable).

3) Shareholder’s Equity – Consists of Contributed Capital & Earned Capital. Contributed Capital: The original investment in the company. Preferred Stock, Common Stock (Contributed Capital), Additional Paid in Capital. Earned Capital/Retained Earnings: Represents funds earned by the company that the shareholders (through the board of directors) have chosen to reinvest in the company, called Retained Earnings. 2) The Income Statement

Financial Statement prepared on an accrual basis, indicating the performance of a company during a particular period (usually a quarter or year). Revenues – Expenses = Net Income
1) Revenues – Inflows or other enhancements of assets of an entity or settlement of its liabilities (or a combo of both) during a period from delivering or producing goods, rendering services, or other activities that constitute the entity’s ongoing major or central operations. Revenues from sales are recorded when products are shipped.

Revenues from services are estimated in proportion to the completion of the service. 2) Expenses – The outflow of assets or the creation of liabilities in an effort to generate revenues for a company. Ex) COGS, salaries, interest, advertising, taxes, utilities, depreciation. Some involve cash outflow, many do not...
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