Intermediate Accounting For Dummies
Overview
The easy way to master an intermediate accounting course
Intermediate accounting courses are required for students seeking bachelor's degrees in accounting and often for degrees in finance, business administration, and management. Intermediate Accounting For Dummies provides you with a deeper and broader level of accounting theory, serving as an excellent course supplement and study guide to help you master the concepts of this challenging program.
With easy-to-understand explanations and realworld examples, Intermediate Accounting For Dummies covers all the topics you'll encounter in an intermediate accounting course: the conceptual framework of
Generally Accepted Accounting Principles (GAAP), International Financial Reporting Standards (IFRS), financial ratio analysis, equity accounting, investment strategies, financial statement preparation, and more
- Tracks to a typical intermediate accounting curriculum
- Expert information and real-world examples
- Other titles from Loughran: Financial Accounting For Dummies and Auditing For Dummies
With the help of Intermediate Accounting For Dummies, you'll discover the fast and easy way to take the confusion out of the complex theories and methods associated with a typical intermediate accounting course.
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About The Author
Maire Loughran is a certified public accountant who has prepared compilation, review, and audit reports for fifteen years. A member of the American Institute of Certified Public Accountants, she is a full adjunct professor who teaches graduate and undergraduate auditing and accounting classes.
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intermediate accounting for dummies
CHEAT SHEET
Intermediate accounting builds on basic financial accounting skills. It's still all about generally accepted accounting principles (GAAP) and preparing financial statements. The material that intermediate accounting covers, however, goes beyond basic accounting scenarios. Think of financial accounting as the appetizer and intermediate accounting as the main course.
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Three types of businesses operate: service, manufacturing, and merchandising. Breathe a sigh of relief, because you have to worry about only two (manufacturing and merchandising) here. Service businesses don’t provide a tangible good and normally don’t have any type of appreciable inventory.
Service companies provide more of a knowledge-based work service — think dentists, family physicians, or accountants.
General Accounting
This category of Property, Plant, and Equipment (PP&E) includes the company-owned structures in which the company conducts business operations. It includes office buildings, manufacturing facilities, and retail shops. If the business owns off-site storage facilities or warehouses, these assets go in the building category, too.
The major advantage to incorporation is limited liability, which means that, unless debt is personally guaranteed, no individual retains responsibility for paying off debt. Other advantages are continuity, which means that, until the corporation is formally dissolved, it exists in perpetuity, and easy transferability of shares, which means you can sell your shares of stock in a corporation to anyone you want.
General Accounting
Assets are resources a company owns. They consist of both current and noncurrent resources. Current assets are ones the company expects to convert to cash or use in the business within one year of the balance sheet date. Noncurrent assets are ones the company reckons it will hold for at least one year.
Current assets for the balance sheet
Examples of current assets are cash, accounts receivable, and inventory.
General Accounting
Liabilities are claimed against the company’s assets. As with assets, these claims record as current or noncurrent. Usually, they consist of money the company owes to others. For example, the debt can be to an unrelated third party, such as a bank, or to employees for wages earned but not yet paid. Some examples are accounts payable, payroll liabilities, and notes payable.
Depreciation is the method of allocating costs to the appropriate period. Although accountants have to follow generally accepted accounting principles (GAAP) for financial statement reporting purposes, they have different allowable methods to consider.
Depreciation isn’t part of the whole equation for figuring the fair market value, which is the amount of money the company may fetch when it sells any of the assets.
The definition of cash goes beyond paper bills and coinage. Any sort of account that’s backed by cash is deemed a cash account. For example, when you go to the college bookstore and write a check to pay for your honking big intermediate accounting textbook (1,600 pages, yikes!), your check is the same as cash.
General Accounting
If the Financial Accounting Standards Board (FASB)/ International Accounting Standards Board (IASB) proposed changes take effect, the direct method for preparing the statement of cash flows will be required, eliminating the choice of using the indirect method. Unfortunately, many students find the direct method more confusing than the indirect.
In the normal course of doing business, a company rids itself of unneeded fixed assets. Different ways they may do this include selling the asset, trading it in on a new fixed asset, junking it, or doing involuntary conversion. Junking an asset means it’s totally worn out and thrown away. Involuntary conversion can occur when the asset is destroyed in a fire or stolen.
Annuities are a series of payments paid or received over a period of time. A typical example is rent payments made to a property owner. Annuities also include bond payments — companies issue bonds when they want to raise money. Bonds are debt, which means that the company eventually has to pay back the bond investor.
In addition to using different standards for financial income (also known as book income) versus taxable income, the entities and individuals interested in financial accounting and taxable income are different.
The users of taxable income are usually governmental, whereas the users of financial income are typically individuals or businesses.
General Accounting
Financial statement presentation for operating leases is a snap. Unless you have an event such as a finder’s fee, no part of the transaction is capitalized. You treat the entire extravaganza as a straight-out expense.
Capital leases are a bit more complicated. But don’t worry — by the time you get to the end of this section, you’ll be working through the lessee capital lease accounting like a pro!
The future value of an annuity means that you compute the sum of all payments plus the accumulated compound interest on the payments. The amount of an annuity and the interval between receiving and paying the annuity always has to be the same. Then you compound interest once during each interval.
Here, you first find out how to calculate the future value of an ordinary annuity.
Accounting journals are a lot like that diary you may have kept as a child — or maybe still do keep! They’re a day-to-day recording of business transactions that take place within a company’s accounting department. Accountants call journals the “books of original entry” because no transactions get into the accounting records without being entered into a journal first.
Goodwill as an intangible asset emerges only during the purchase of a business for a price greater than the fair market value of the net assets acquired during the sale. For many assets, like cash, the fair market value (what an unpressured buyer would pay in an open marketplace) of an asset matches book value.
Highest and best use applies to nonfinancial assets and takes place when considering the asset in such a way that maximizes its value. Two concepts are important in gaining at least a working knowledge of “highest and best” use: whether the valuation is “in use” or “in exchange.” Here’s a quick definition of each:
In use: This valuation method applies when the company gets the most bang for its buck when it uses the asset with other assets as a group.
Land, also called real property, is the earth on which the company’s office buildings or manufacturing facilities sit. The cost of the land plus any improvements the company has to make to the land to use it for business operations reflects on the balance sheet at historic cost.
Four types of costs relate to the purchase of land:
Contract price: The purchase price for the land.
If a company has any sort of temporary difference, it has to report on its financial statements any deferred tax effect due to the temporary differences. So the company has to figure out the tax effect when book and taxable income catch up with each other and recognize the amount of tax that will be payable or refunded.
A bond discount is relevant when a bond issues at less than face value. How do you account for the transaction in the following example? The figure shows how to calculate the discount on bonds payable.
A company issues a $100,000 bond due in four years paying 7 percent interest annually at year end. So that’s $7,000 interest expense per year ($100,000 x .
A sales-type lease exists when (a) the lease does not meet the criteria to be classified as operating and (b) the lessor realizes both interest income and a profit (or loss) on the transaction. Therefore, the fair market value of the leased asset is more than the lessor’s cost to purchase the asset.
Consider an example of how to account for this type of lease: Green Manufacturing leases a computer system to ABC Corp.
General Accounting
A company doesn’t always buy an existing building in which to set up shop. Sometimes a company builds a factory or office building to its precise specifications and needs. Ditto for equipment. If the manufacturing process is unique, the business may have to construct some of its processing equipment.
The cost of self-constructed assets includes direct labor and material and overhead costs.
Investors are very interested in free cash flow, which is the net cash provided by operating activities minus capital expenditures and dividends. You figure free cash flow by subtracting money spent for capital expenditures, which is money to purchase or improve assets, and money paid out in dividends from net cash provided by operating activities.
General Accounting
What’s the difference between simple and compound interest, anyway? It’s important to have at least a basic understanding of how a company or bank determines the interest rate you earn on your money on deposit.
Basically, the two major criteria to setting interest rates are the riskiness of the investment and what rate is commonly being paid.
Single-sum problems involve a single amount of money that you either have on hand now or want to have in the future. You use these two tables to figure single sums:
Future value of 1: This table shows how much a single sum on deposit will grow when invested for a specific period of time at a particular interest rate.
The big deal about controlling cash for your intermediate accounting class is making sure the balance sheet presentation doesn’t mislead users with the amount of cash available to meet day-to-day expenses. The major issue here is to properly identify restricted cash, which is cash that’s spoken for. Restricted cash is set apart from other cash accounts.
As soon as an error is found, it must be corrected. How you correct the error under GAAP depends on the type of error, the number of financial periods the error affects, how the error affects financial statement presentation, and whether the error is counterbalancing.
To straighten out the messy mistakes and give the users of the financial statements accurate data for ratio analysis, you have to ask yourself these three questions:
What is the type of error?
If money doesn’t change hands when a company purchases property, plant, and equipment (PP&E), special issues can arise when valuing PP&E on the balance sheet. If a company signs a note for the asset purchase that extends 12 months past the balance sheet date, the company has to account for the assets using present value.
Instead of waiting for the customer or debtor to pay, a company may opt to “sell” a receivable to another company at a discount. Cash flow is a major factor in these sorts of instances.
If a company finds that it lacks funds to make payroll or cut a check to pay some other type of expense, the company may prefer to accept a lesser amount for a receivable transaction than try to get a working capital (short-term) loan.
General Accounting
Regardless of the cost flow assumption or valuation method a company uses to record inventory on the balance sheet, the company must take a physical inventory. The regularity of this physical inventory varies based on company policy and the type of business.
However, sometimes it’s just not feasible to take a physical inventory.
It’s a sad fact of life that businesses extending credit to their customers will probably have at least one or more deadbeat customer who just won’t pay the bills. Under generally accepted accounting principles (GAAP), you have to make a valuation adjustment for uncollectible accounts.
GAAP requires that businesses extending credit to customers use the allowance method, which means they estimate uncollectible accounts.
Accounting for transactions that involve exchanging one tangible asset for another arises a lot when trading in an old business vehicle for a new one — an occurrence you’ve probably encountered in your personal life. Key to these types of transactions is the fair value, which is what the asset would fetch in an open marketplace, in other words — a transaction between unpressured parties.
A business is considered to be liquid if it can cover current debt with current assets. In other words, can a company pay off its current liabilities without going to outside sources (such as a bank) to borrow money?
A common example of a current liability is accounts payable, which is money the company owes its vendors for goods and services it purchases during the normal course of business and anticipates paying back in the short term.
General Accounting
You may get quite a thrill when you’re out shopping and you see something fantastic on the discount rack. When you see it, you probably think, “Ching-ching, I just scored!” However, have you ever thought about what markups or markdowns mean to the retailer? Well, wonder no longer — here’s how to handle markups and markdowns from an accounting point of view.
Figuring COGS and valuing ending inventory using all the cost flow assumptions is pretty easy when you get the hang of it. Plus, larger companies have software tailored to the task, which makes the undertaking of a physical inventory the heavy lifting chore for the accounting department.
However, a monkey wrench is thrown into the whole thing because many companies use LIFO for tax and financial statement purposes and another method (FIFO, specific identification, weighted average) for internal reporting.
You’re probably somewhat familiar with intangibles from other accounting classes you’ve taken. However, your intermediate accounting textbook takes a slightly difference approach to the discussion by dividing the two types of intangibles into six different categories: marketing, customer, artistic, contract, technology, and goodwill.
An impairment loss takes place when a company makes a judgment call that the carrying value of an intangible asset on the company balance sheet is less than fair value, or what an unpressured person would pay for the asset in an open marketplace. Companies have to periodically test intangible assets to see whether there’s potential for any loss due to impairment.
Improving is the process of substituting a better asset for the one that’s already in place. Replacing means the company swaps out the old asset for another one that’s similar in nature.
If the improvement or replacement increases the future service potential of the asset, capitalize the cost. You can handle this in three ways: using the substitution approach, using the new cost, or using the accumulated depreciation account.
If a company swaps stock for property, plant, and equipment (PP&E), you can’t just use the par value (arbitrary value listing on the face of the stock certificate) of the stock as the cash-equivalent exchange rate for the PP&E. Par most likely doesn’t reflect the market value of the stock.
If the stock trades on an open marketplace such as the New York Stock Exchange, using the trading value of the stock as the cash equivalent is probably a safe bet.
Adding intrigue to the mix when valuing property, plant, and equipment (PP&E), sometimes a company buys a bunch of different assets for a lump-sum price. A good example is a real estate transaction that includes all existing equipment within the four walls of the building. The purchaser has to allocate purchase price among land, building, and equipment.
Fair value measurement involves some basic assumptions. For one, you can’t have an accurate measurement of fair value unless you figure it based on what the asset is worth or what the liability would transfer for in an appropriate marketplace — in other words, its principal market.
For example, you find out fair value of gold in a precious metal marketplace, such as Monex, not in a marketplace that specializes in pork belly futures, such as the Chicago Mercantile Exchange.
General Accounting
For the current asset section of the balance sheet, a note receivable is a short-term (coming due within 12 months of the balance sheet date) debt someone owes you. In many cases, this current asset arises from a trade receivable.
For example, a customer has cash flow problems that keep it from paying for purchases.
It’s the nature of the beast that most companies will have accrued payroll and related payroll taxes. In other words, a company owes these taxes but has not yet paid them. This topic is easy to understand if you think about the way you’ve been paid by an employer in the past.
Most companies have a built-in lag time between when employees earn their wages and when the paychecks are cut.
When a bond is issued at a premium, its market value is more than its face value. To make the concept come alive for you, consider a common example you will see in your intermediate accounting textbook.
Imagine that, for $100,000, an investor is willing to accept an effective interest rate of 6 percent. Using the present value tables, the present value of a $100,000 bond is $79,209 ($100,000 x .
General Accounting
Sad but true, costs related to property, plant, and equipment (PP&E) don’t stop at the purchase point. After getting plant assets up and running, repair and maintenance (R&M) expenses will eventually follow.
R&M expenses are inevitable — that is, unless the company has an extremely neurotic replacement policy and replaces serviceable equipment instead of fixing it!
Stockholders’ equity represents the claim shareholders of the corporation have to the company’s net assets. Stockholders’ equity has three common components: paid-in capital, treasury stock, and retained earnings. Paid-in capital and treasury stock involve transactions dealing with the corporate stock issuances.
Accounting for merchandise inventory has its frustrating moments, but it’s easier than accounting for manufacturing inventory. A merchandising company such as a retail store has only one class of inventory to keep track of: goods the business purchases from various manufacturers for resale.
Here’s the basic flow of inventory for a retailer:
A cookware sales associate at a major department store notices and informs the manager of the department that the department is running low on a certain style of frying pan.
Using the lower of cost or market means comparing the market value of each item in ending inventory with its cost and then using the lower of the two as its inventory value.
The difference between cost and market value
Cost is how much the company pays for the item if it buys the item or, if the company is the manufacturer, how much it costs to make the item.
General Accounting
Two major types of inventory systems exist: perpetual and periodic. Larger retailers have electronic cash registers (ECRs). If you’ve ever used the self-checkout, you’ve used one. The checkout features a glass window with a red beam of light.
You run the bar code of a product over the red beam, and the price of the item automatically records as a sale for which you are charged and the business records revenue.
General Accounting
With the prospective effect, companies don’t recast opening balances to show the effect of the change in accounting principle. Depending on the circumstances, prospectively is okay when there’s an impracticability exception to adjusting prior periods under GAAP.
This situation may arise when the business can’t determine the effect as a whole or can’t determine the effect to a specific financial period.
A company can issue bonds either at face value (also known as par value), which is the principal amount printed on the bond; at a discount, which is less than face value; or at a premium, which means the bond sells for more than its face value. Usually face value is set in denominations of $1,000.
You need the present value tables to help in valuing bonds in the real world.
General Accounting
Amortization mimics depreciation because you use it to move the cost of intangible assets from the balance sheet to the income statement. Most intangibles are amortized on a straight-line basis using their expected useful life.
Intangible assets have either a limited life or an indefinite life. Limited means the intangible asset won’t be useful forever.
General Accounting
Your intermediate accounting textbook homes in on generally accepted accounting principles (GAAP) in the United States, but, where applicable, points out international perspectives for accounting for the same events. Both positions are noted because GAAP and international accounting standards are on the road toward convergence, and one set of global accounting standards could evolve.
General Accounting
When preparing the statement of cash flows using the indirect method, the operating section starts with net income from the income statement, which you adjust for any noncash items hitting the income statement. Your three biggies are depreciation, amortization (both of which are noncash transactions), and gain or loss on the disposal of assets.
General Accounting
Intermediate accounting builds on basic financial accounting skills. It's still all about generally accepted accounting principles (GAAP) and preparing financial statements. The material that intermediate accounting covers, however, goes beyond basic accounting scenarios. Think of financial accounting as the appetizer and intermediate accounting as the main course.
You may be thinking that valuing ending inventory is a no-brainer — you just value inventory at whatever the original cost happened to be for whatever is left in inventory at the end of the financial period, right? Well, to a certain extent, yes.
Here's the scoop on how to use a systematic cost flow assumption to determine which items that the company previously purchased remain in inventory at the end of the financial period (and come up with a dollar amount for both cost of goods sold and ending inventory).
General Accounting
With the last in, first out (LIFO) method, the company assumes that its newest items (the ones most recently purchased) are the first ones sold. LIFO is not codified in GAAP but is a tax concept that Internal Revenue Code (IRC) 472 addresses.
The application of GAAP for LIFO is based on income statement rules — not financial accounting pronouncements.
General Accounting
ASC 820 outlines four potential markets for assets and liabilities subject to fair value accounting: active exchange, dealer, brokered, and principal-to-principal. Here’s a quick explanation of each:
Active exchange: These markets are stock exchanges in which fair value closing prices for the financial asset or liability are readily available.
General Accounting
Transactions originally booking as accounts payable (A/P) could eventually be reclassified as a short-term note payable. This situation may happen if the company can’t pay the vendor and the vendor wants to formalize this open account via a note payable, which is a formal document showing an amount owed and a mutually acceptable interest rate and payback period.
General Accounting
Your intermediate accounting textbook talks about three situations in which a company may issue a note receivable for other than face value: zero interest bearing, interest bearing, and notes for other than cash. They can be wild and wooly situations!
Zero-interest-bearing notes
These types of notes issue for the present value of the cash the lender gives to the debtor.
A partnership must have at least two owners, with any percentage of ownership interest (as long as the combined total isn’t more than 100!). As with the sole proprietorship, partners aren’t classified as employees.
A partnership doesn’t need to have two partners with a 50 percent share each. It can have many partners with all sorts of different interest percentages in the partnership.
A temporary difference eventually smoothes itself out over time, but permanent differences won’t ever be the same in terms of book versus tax. A permanent difference is an accounting transaction that the company reports for book purposes but that it can’t (and never will be able to) report for tax purposes.
Permanent differences arise because GAAP allows reporting for a particular transaction but the IRC does not.
Point-of-sale/delivery is just another way of saying that the company records revenue when it’s earned and realizable. Here are two examples of this: one involving a retail store and the other taking place in a service provider type of business:
Retail store: You desperately need a new microwave, so you hustle on down to your favorite discount department store.
The present value of an annuity shows you the single sum you need to invest at compound interest now in order to provide a series of payments back to you in the future. Sound like the type of information you want to have to plan your retirement?
To mix this up a little bit, here are typical homework and test questions that you may encounter in your intermediate accounting class, which will help to illustrate how to figure out the present value of an ordinary annuity and an annuity due.
General Accounting
Your intermediate accounting textbook probably highlights two special issues that happen quite often in the business world: figuring partial-year depreciation and accounting for changes in the depreciation rate.
Partial-year depreciation: Rare indeed is the day a company buys an asset on the first day of the financial period.
It’s a fact of life in the business fast lane that companies don’t always have more revenue than expenses every year. It’s not necessarily a bad thing, and it can happen for many reasons, including moving the company facilities or expanding the company into new markets.
Operating losses are a tough pill to swallow.
Temporary differences occur because financial accounting and tax accounting rules are somewhat inconsistent when determining when to record some items of revenue and expense. Because of these inconsistencies, a company may have revenue and expense transactions in book income for 2013 but in taxable income for 2012, or vice versa.
General Accounting
Explanatory notes are discussions of items that accompany the financial statements, which are the income statement, the balance sheet, and the statement of cash flows. These notes are important disclosures that further explain numbers on the financial statements. The reason for these notes harkens back to fulfilling the needs of the external users of the financial statements.
General Accounting
The four major ratio measurements that users of the financial statements perform to gauge the effectiveness and efficiency of a company’s management are liquidity, activity, profitability, and coverage. But you may be asking, isn’t an investor interested only in how profitable a company is? Not necessarily.
Liquidity, which is how well a company can cover its short-term debt; activity, which shows how well a company uses its assets to generate sales; and coverage, which measures the degree of protection for long-term debt, are all measurements that have to be considered along with profitability to form a complete picture of how well a business is doing.
Leasing brings six major advantages, and all directly involve the company’s cash flow. Essentially, the advantage to leasing over buying is that there’s usually no large outlay of cash at the beginning of the lease as there is with an outright purchase.
100 percent financing: Many business leases come with 100 percent financing terms, which means no money changes hands at the inception of the lease.
General Accounting
Interperiod tax allocation means you recognize the tax effect of accounting events in the years in which the events are recognized for financial reporting purposes. By doing this, you’re matching income tax expense with the related revenues.
Although there are several different allocation methods, GAAP currently requires that companies use the asset-liability method for interperiod tax allocation.
Businesses don’t always buy their fixed assets, which include property, plant, and equipment. Sometimes they lease those assets. You’ve probably been a party to a lease yourself at some time: Even if you own your own home now, you probably rented either a house or an apartment in the past.
Signing a lease on an apartment is rarely more complicated than coughing up the cash and signing on the bottom line, but business leases are trickier.
General Accounting
The completed-contract method (CCM) is easier to account for than the percentage-of-completion method (PCM). Using the CCM, a contracting company doesn’t recognize either revenue or expense transactions relating to the contract until the contract is completely finished. Companies that use the CCM must have some sort of accounts to hold these transactions until recognition.
General Accounting
The installment-sale method isn’t exactly an optimal way of recording sales transactions, and the cost-recovery method takes it down another notch. If a company isn’t reasonably assured of recovering the cost of the goods sold if the buyer defaults on the financing arrangement, the sales transaction records it using the cost-recovery method.
General Accounting
For accounting, research expenses are ones the company incurs in the discovery of new knowledge, with the hope that such knowledge will be useful in developing a new product or service. Businesses incur development expenses when applying research results to the design for the new product or service.
You probably think of drug companies when pondering R&D, since the process to develop, test, secure regulatory approval, and bring a drug to market are the classic R&D-related phases.
Finally, that wonderful day comes when the debt is paid off. You may not think of it as a thorny accounting situation — and it isn’t, as long as the debt is held to maturity. In other words, there’s no problem as long as the debtor doesn’t pay it off early.
However, if an event occurs that leads a company to pay off debt (whether a note or a bond) early, the company may have to figure gain or loss on the transaction.
General Accounting
The two types of corporate stock ownership are common and preferred. Common stock represents residual ownership in the corporation. Residual ownership consists of any remaining net assets after preferred stockholders’ claims are paid. Preferred stock also shows ownership in the corporation. However, preferred stock contains traits of both debt and equity.
General Accounting
What’s a cost and what’s an expense? Consider an example. Assume that Penway Manufacturing, Inc., makes toasters and needs to buy some new metal fabrication machines to form the outer shell of the toaster.
When the company buys the machines, the price Penway pays or promises to pay is a cost. Then as Penway uses the machines, it reclassifies the cost of buying the fabrication machines as an expense of doing business.
The income statement shows the business’s income, expenses, gains, and losses. The end product of these transactions is net income or loss. Some also call the income statement a statement of profit and loss, or P&L.
Generally accepted accounting practices (GAAP) also refer to this report as statement of income because the income statement shows not only income and expenses from continuing operations (which basically is revenue minus expenses), but also income from myriad sources, such as the gain or loss that results when a company sells an asset.
General Accounting
The purpose of the statement of cash flows is to show cash sources and uses during a specific period of time — in other words, how a company brings in cash and for what costs the cash goes back out the door. Therefore, the statement of cash flows contains certain components of both the income statement and the balance sheet.
General Accounting
The multiple-step format for the income statement provides more information than the single-step method and is the preferred format for the vast majority of publicly traded companies. A publicly traded company is one whose stock is for sale to the general public, like you or me, on one of the stock exchanges such as the NASDAQ Stock Market also known merely as the NASDAQ.
General Accounting
Installment sales take place whenever purchases are made but not fully paid for at point of sale or delivery. For example, Penway, Inc., wants to totally revamp the office with swanky new furniture and fixtures, but it prefers not to lay out the cash for the purchase all at once upon receipt of the furniture.
Penway finds an office furniture supplier that’s willing to take payments over the next five years.
Accounts receivable (A/R) is the amount of money a customer owes the business for merchandise it purchases from a company or services a company renders. Just about all types of businesses can and probably do have accounts receivable.
Any accounts receivable involve three important facts: recognition, valuation, and disposition.
General Accounting
Use the percentage-of-completion method when you record revenue from long-term contracts in stages. With this method, you recognize revenue, costs, and gross profits throughout the life of each contract, based on a periodic measurement of progress. Accountants use two specific accounts in the chart of accounts for the percentage-of-completion method (PCM):
Construction in process: This inventory asset account shows accumulated construction costs and gross profit earned as of the date of the balance sheet.
General Accounting
Simply put, the statement of cash flows gives the user information about the cash receipts and cash payments of the business during the accounting period. Whereas cash sources come from many different origins, such as customer payments, loans, and sales of assets and equity, the ways a company uses cash most likely directly trace back to costs.
General Accounting
It’s not unusual for the list price of the goods available for sale or the total amount of the invoice to not be what the customer eventually ends up paying. The amount the customer pays may be subject to a trade or cash discount.
Trade: With a trade discount, the company sells its products for less than list price.
Treasury stock is shares of corporate stock that a company previously sold to investors and has since bought back. It may seem strange for a company to do this. After all, isn’t the point in selling stock to raise capital?
A corporation may opt to remove shares from the open marketplace for many reasons. For example, a corporation may buy back shares of its own stock to prevent a hostile takeover.
Nobody’s perfect. In the sometimes-harum-scarum world of GAAP interpretation and booking accounting events, mistakes do happen. And just as you do with changes in estimates, the important point is to make sure that you correct any inadvertent mistakes in reporting accounting transactions on the financial statements in complete accordance with the way generally accepted accounting principles (GAAP) — and that you do so as soon as you discover those mistakes.
Dividends are distributions of company earnings to the shareholders. They can be in the form of cash, stock, or property. Most unrelated investors (not directly involved with the day-to-day operations of the business) probably prefer to receive cash dividends. After all, who doesn’t like cash? However, stock dividends can be quite profitable in the long run when investors finally get around to selling the shares they receive as stock dividends.
General Accounting
The balance sheet shows the health of a business from the day the business started operations to the specific date of the balance sheet report. The balance sheet has three sections: assets, liabilities, and equity. Following is a thumbnail sketch of the three:
Assets: Resources a company owns, such as cash, equipment, and buildings
Liabilities: Debt the business incurs for operating and expansion purposes
Equity: Amount of ownership left in the business after deducting total liabilities from total assets
Standing on their own, they contain valuable information about a company.
In the accounting world of cash, cash equivalents are close but no cigar! Now, the basic premise of cash equivalents is that they’re just a hair away from being available for withdrawal on demand. They’re short term, readily convertible to cash; if they have a maturity date, it’s so close to that date that the chance of them devaluing is negligible.
General Accounting
Contingencies exist when a company has an existing circumstance as of the date of the financial statements that may cause a gain or loss in the future, depending on events that haven’t yet happened and, indeed, may never happen. You just can’t take a quick look into the crystal ball to decide what contingencies to book and for how much.
Retained earnings shows the company’s total net income or loss from its first day in business to the date on the balance sheet. Keep in mind, though, that dividends reduce retained earnings. Dividends are earnings paid to shareholders based on the number of shares they own.
For example, imagine that the company opens its doors on January 2, 2012.
Accounts payable includes money a company owes it vendors for services and products that it has purchased in the normal course of business and anticipates paying back in the short term.
For example, the company may purchase inventory from a manufacturer or may buy office supplies from a local supply retail shop.
Intermediate accounting delves into the more complex, more challenging aspects of accounting practices. It covers topics and accounting situations that go beyond the basics, including the following:
Time value of money: Intermediate accounting involves advanced time value issues, such as deferred annuities and long-term bonds.
General Accounting
Bonds are long-term lending agreements between a borrower and a lender. For example, when a municipality (such as a city, county, town, or village) needs to build new roads or a hospital, it issues bonds to finance the project. Corporations generally issue bonds to raise money for capital expenditures, operations, and acquisitions.
Interest is a type of passive income. Interest is revenue you earn from money on deposit. You take the earned income left over after you pay your bills, deposit it into a savings or money market account (or any other type of investment), and, while you’re sleeping, walking on the beach, or working hard at your job, your invested money is making more money for you — you hope.
Deferred annuities are a type of annuity contract that delays payments to the investor until the investor elects to receive them. When the investor is in savings mode, he makes payments into some sort of investment account. The investment grows and compounds in a tax-deferred manner, and the investor pays no taxes on its growth until he decides to convert the investment into an annuity and start receiving regular payments.
In fair value, a company presents certain assets and liabilities on the balance sheet at a price received or given in an orderly transaction between market participants. Goodness, what a mouthful! Need an example to make this a bit clearer?
Basically, a company reports securities it owns on the balance sheet at the current market rate, or the amount of money the company would be able to sell them for if it wanted to.
Financial accounting involves the process of preparing financial statements for a business. This extravaganza involves three major components: accounting information, type of business entity, and user of the financial statements.
The three financial statements are the income statement, balance sheet, and statement of cash flows.
A sole proprietorship is a business that has only one owner. As the individual in charge of the whole shooting match, the single owner has complete control and decision-making power over the business. Owners aren’t classified as employees.
Sole proprietorships aren’t all moonlight and magnolias, however. The sole proprietor is personally liable for the debts and obligations of the business.
An impairment loss takes place when a company makes the judgment call that the carrying value of an asset on the company balance sheet is less than fair value, which is what an unpressured person would pay for the asset in an open marketplace. If the impairment loss isn’t recoverable, under U.S. generally accepted accounting practices (GAAP), the company has to adjust the books to reflect this lessening in value.
Although the SEC governs publicly traded companies, the American Institute of Certified Public Accountants (AICPA) has the responsibility for making sure privately traded companies toe the line.
Through the AICPA’s senior technical committee, the Auditing Standards Board (ASB), the organization is responsible for establishing auditing and attestation standards for nonpublic companies in the United States.
A company’s chart of accounts is an index of the financial accounts that a business uses in its accounting system and that it posts to its general ledger — the record of all financial transactions within the company during a particular accounting cycle.
Companies use charts of accounts to organize their finances and separate expenditures, revenue, assets, and liabilities to get a clear picture of the financial standing of the company.
General Accounting
As of July 1, 2009, the FASB Accounting Standards Codification (ASC) became the single source of authoritative generally accepted accounting principles (GAAP) in the United States. Before you get in a dither, keep in mind that the Codification doesn’t change GAAP; it organizes GAAP in a more user-friendly fashion and consistent format across the board for all GAAP topics.
General Accounting
The Financial Accounting Standards Board (FASB) is one of three organizations primarily in charge of setting U.S. GAAP (Generally Accepted Accounting Principles). The other two are the Securities and Exchange Commission (SEC) and the American Institute of Certified Public Accountants (AICPA).
Before you get into the meat and potatoes of FASB, you need a little history lesson!
General Accounting
In response to the stock market crash of 1929 and the ensuing Great Depression, the Securities Exchange Act of 1934 created the SEC. The SEC’s mission is to make sure publicly traded companies tell the truth about their businesses and treat investors fairly by putting the needs of the investors before the needs of the company.
General Accounting
The whole purpose of preparing financial statements is to give the interested external users of the financial statements relevant, comparable information to use in making their investment decisions. When a company decides that the old way of booking certain accounting events no longer gives a fair, full, and complete financial picture, it’s time to consider a change in accounting methods.
Instead of, or in addition to, owning tangible assets, a company may purchase or own rights to certain natural resources. Depletion is the way companies allocate the cost of natural resources to financial periods. As with depreciation, depletion gives the owner of the resources a way to account for the reduction in the natural resource reserves (after all, natural resources don’t last forever!
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