ACC205 Final Exam Review: Key Financial Accounting Concepts

Inventory

Determining the Cost of Inventory

Inventory is a key current asset reported on the balance sheet. The cost of inventory includes all expenditures necessary to acquire the goods and prepare them for sale.

• Cost Components: Purchase price, shipping (freight-in), handling, and any other costs to bring inventory to a saleable condition.

• Balance Sheet Reporting: Inventory is reported at cost unless its value declines below cost.

Calculating Cost of Goods Sold (COGS)

COGS represents the cost of inventory sold during the period and is reported on the income statement.

• Formula:

$\text{COGS} = \text{Beginning Inventory} + \text{Purchases} - \text{Ending Inventory}$

• Example: If beginning inventory is $5,000, purchases are $12,000, and ending inventory is $4,000, then COGS = $5,000 + $12,000 - $4,000 = $13,000$.

Inventory Valuation Methods

Companies must value inventory at the lower of cost or net realizable value (LCNRV).

• Lower of Cost or Net Realizable Value (LCNRV): Inventory is written down if its market value falls below cost.

• Net Realizable Value (NRV): Estimated selling price minus costs of completion and sale.

Journal Entries to Adjust Inventory

• Inventory Write-Down: If NRV < cost, record a loss and reduce inventory.

• Example Entry: Debit Loss on Inventory Write-Down; Credit Inventory.

Plant Assets (Long-Lived Assets)

Depreciation Expense Calculation

Depreciation allocates the cost of a plant asset over its useful life.

• Straight-Line Method: Equal expense each year.

$\text{Depreciation Expense} = \frac{\text{Cost} - \text{Salvage Value}}{\text{Useful Life}}$

• Double Declining Balance Method: Accelerated depreciation.

$\text{Depreciation Expense} = 2 \times \text{Straight-Line Rate} \times \text{Book Value at Beginning of Year}$

• Units of Production Method: Based on usage or output.

$\text{Depreciation Expense} = \frac{\text{Cost} - \text{Salvage Value}}{\text{Total Estimated Units}} \times \text{Units Produced in Period}$

• Accumulated Depreciation: Total depreciation recorded to date; a contra-asset account.

Sale of a Plant Asset

• Book Value: Cost minus accumulated depreciation.

• Gain or Loss: Difference between sale proceeds and book value.

• Journal Entry: Remove asset and accumulated depreciation, record cash received, and recognize gain or loss.

Liabilities

Recording Liabilities

• Bonds Payable: Long-term debt instruments issued by corporations.

• Issuance at Discount or Premium: Bonds may be issued below (discount) or above (premium) face value.

$\text{Bond Price} = \text{Present Value of Principal} + \text{Present Value of Interest Payments}$

• Interest Expense: Calculated using the effective interest method or straight-line method.

$\text{Interest Expense} = \text{Carrying Value of Bond} \times \text{Market Interest Rate}$

• Contingent Liabilities: Potential obligations dependent on future events (e.g., lawsuits).

Corporations

Issuance of Stock

• Common Stock: Basic ownership; recorded at par value.

• Additional Paid-In Capital: Amount received above par value.

• Journal Entry Example: Debit Cash; Credit Common Stock and Additional Paid-In Capital.

Treasury Stock

• Definition: Shares reacquired by the corporation.

• Cost Basis: Treasury stock is recorded at the cost to reacquire the shares.

• Journal Entry: Debit Treasury Stock; Credit Cash.

Statement of Cash Flows

Preparing a Cash Flow Statement

The statement of cash flows reports cash inflows and outflows in three sections:

• Operating Activities: Cash from core business operations (e.g., receipts from customers, payments to suppliers).

• Investing Activities: Cash from buying/selling long-term assets (e.g., equipment, investments).

• Financing Activities: Cash from borrowing, repaying debt, issuing or repurchasing stock, and paying dividends.

Income Statement Non-Cash Adjustments

• Examples: Depreciation, amortization, gains/losses on asset sales.

• Adjustment Rules: Add back non-cash expenses; subtract non-cash gains.

Adjustment Rules for Assets, Liabilities, and Equity

• Assets: Increase in current assets is subtracted; decrease is added.

• Liabilities: Increase in current liabilities is added; decrease is subtracted.

• Equity: Issuance of stock and net income increase cash; dividends and treasury stock purchases decrease cash.

Exam Preparation Guidance

• Exam Format: Problems may include journal entries, financial statement preparation, and ratio calculations.

• Partial Credit: Awarded for correct methods and clear work, even if the final answer is incorrect.

• Allowed Materials: Two sides of a handwritten 9x11 sheet for notes; calculators permitted.