Final Exam Review: Introductory Financial Accounting (MGMT 200)

Study Guide - Smart Notes

Tailored notes based on your materials, expanded with key definitions, examples, and context.

One Formula to Rule Them All: The Accounting Equation

Transactions and the Accounting Equation

The foundation of financial accounting is the accounting equation, which links a company's assets, liabilities, and equity. All transactions affect this equation and are recorded using the double-entry system.

Accounting Equation:
Changes in the Equation:
Debits and Credits:

Balance Sheet: Reports levels of assets, liabilities, and equity at a point in time.

Assets: Probable future economic benefits controlled by the company.
Liabilities: Probable future economic obligations owed by the company.
Equity: Residual interest in the assets after deducting liabilities.

Income Statement: Reports changes in equity (excluding owner transactions) during a period of time.

Revenues: Increases in net assets from delivering goods/services.
Expenses: Decreases in net assets from generating revenue or maintaining operations.
Net Income:

Additional info: Revenues are recognized when earned and realizable; expenses are matched to revenue or the period incurred.

Debt: Accounting for Bonds

Bond Issuance and Amortization

Bonds are a common form of long-term debt. Their accounting involves recognizing proceeds, interest expense, and amortizing any premium or discount over the bond's life.

Proceeds: Cash received from bond issuance, which may differ from face value if issued at a premium or discount.
Interest Expense: Calculated using the effective interest rate method.
Liability on Balance Sheet: Reported at carrying value (face value plus/minus unamortized premium/discount).

Year	Debt Balance	Interest Expense
2025	Varies (see table)	Varies (see table)
2026	Varies	Varies
2027	Face Value	Final Interest

Additional info: Premiums decrease and discounts increase interest expense over time.

Stockholders' Equity

Components and Statement of Stockholders' Equity

Stockholders' equity represents the owners' claims on the company's assets after liabilities are settled. It is detailed in the statement of stockholders' equity.

Common Stock: Par value of shares issued.
Additional Paid-in Capital: Amount received above par value.
Treasury Stock: Company's own shares repurchased and held.
Retained Earnings: Cumulative net income not distributed as dividends.
Accumulated Other Comprehensive Income: Items not included in net income (e.g., foreign currency translation).

Component	Description
Common Stock	Shares issued at par value
APIC	Excess over par value
Treasury Stock	Repurchased shares
Retained Earnings	Accumulated profits

Required Financial Statements

Overview of Financial Statements

Companies are required to prepare four main financial statements, each serving a distinct purpose in reporting financial performance and position.

Balance Sheet: Reports assets, liabilities, and equity at a point in time.
Income Statement: Reports revenues and expenses over a period, showing net income.
Statement of Stockholders' Equity: Shows changes in equity accounts.
Statement of Cash Flows: Reports cash inflows and outflows from operating, investing, and financing activities.

Statement of Cash Flows

Direct and Indirect Methods

The statement of cash flows can be prepared using the direct or indirect method. Both methods ultimately reconcile the change in cash over the period.

Direct Method: Lists actual cash receipts and payments.
Indirect Method: Starts with net income and adjusts for non-cash items and changes in working capital.

Cash Flow Item	Direct Method	Indirect Method
Cash from customers	Reported	Not shown
Depreciation	Not shown	Added back to net income

Timing Differences

Revenue and Expense Recognition vs. Cash Flow

Timing differences arise when income or expenses are recognized in a different period than the related cash flow. This is central to accrual accounting.

Simultaneous Impact: Income and cash recognized together.
Income Before Cash: Revenue/expense recognized before cash is received/paid (e.g., accounts receivable/payable).
Income After Cash: Cash received/paid before revenue/expense is recognized (e.g., unearned revenue/prepaid expenses).

Receivables and Reserves

Accounts Receivable and Allowances

Receivables represent amounts owed to the company. Reserves (allowances) are established for expected uncollectible amounts or future obligations (e.g., warranties).

Allowance for Bad Debts: Contra-asset account reducing accounts receivable to net realizable value.
Warranty Liability: Reserve for future warranty claims.

Example Calculation:

Ending Allowance = Beginning Allowance + Expense - Utilization
Net A/R = Gross A/R - Allowance

Inventories

Inventory Cost Flow Assumptions

Inventory is accounted for at cost, with different methods affecting the cost of goods sold (COGS) and ending inventory values.

Method	Ending Inventory	COGS
FIFO	Prices of new items	Prices of old items
LIFO	Prices of old items	Prices of new items
Average Cost	Blended prices	Blended prices

Additional info: LIFO reserve is disclosed for comparability with FIFO companies.

Impairment-Type Rules

Testing and Recognizing Impairment

Assets are tested for impairment when events indicate their carrying value may not be recoverable. The impairment loss is recognized if the asset's book value exceeds its recoverable amount.

Test	Impair to	Example
Inventory	Net realizable value	Book value $120, NRV $100, Impairment $20
PPE	Lower of book or undiscounted cash flows	Book value $150, Fair value $130, Impairment $20

Spreading Expenses Over Time

Depreciation, Amortization, and Debt Amortization

Expenses related to long-lived assets and debt are allocated over their useful lives or loan terms.

PPE: Depreciation expense spread over useful life, usually straight-line.
Debt: Interest expense calculated using the effective interest method.
Leases: Finance leases treated like PPE; operating leases expensed straight-line.
Stock Compensation: Expense recognized over vesting period.

Accounting for Leases

Lessee Accounting

Leases are classified as finance or operating. Finance leases recognize an asset and liability; operating leases recognize rent expense over the lease term.

Finance Lease: Asset and liability recognized; depreciation and interest expense recorded.
Operating Lease: Lease expense recognized straight-line over lease term.

Key Formulas and Concepts

Accounting Equation:
Net Income:
Carrying Value of Bond:
Net Realizable Value (Receivables):
Inventory Turnover: