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Chapter 2A FURTHER LOOK AT FINANCIAL STATMENTS
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Identify the Sections of a Classified Balance SheetHelps users see if company has enough assets to pay debtsCan determine the short-term and long-term claims on total assets
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Classified Balance Sheet Generally contains the following standard classifications:Current Assets Long-Term InvestmentsProperty, Plant, and EquipmentIntangible AssetsCurrent LiabilitiesLong-Term LiabilitiesStockholders' Equity
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Current AssetsAssets that are expected to be converted to cash or used up within one year. Current assets are listed in order of liquidity.Examples:CashShort-term investmentsReceivablesInventoriesSuppliesPrepaid expenses
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Long-Term Investments
Investments of stocks and bonds of other corporations which are normally held for many years.Investments in long-term assets such as land or buildings that are not currently being used in the companys operations
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Property, Plant, and EquipmentAssets with relatively long useful lives.Assets used in operating the business.Examples:landbuildingsmachinerydelivery equipmentfurniture and fixtures
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Depreciation is...Practice of allocating an assets full purchase price to a number of years instead of expensing full cost in year of purchase.
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Accumulated Depreciation...Shows the total amount of depreciation that the company has expensed thus far in the assets life.
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Assets That A Company Depreciates...Should be shown at cost less accumulated depreciation
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Intangible AssetsNon-current assetsHave no physical substanceExamples:patentscopyrightstrademarks or trade namesfranchiseIntangible Assets have value because of the exclusiverights or privileges they give the company.
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1. Current assets are listed:A. by liquidityB. by importanceC. by longevityD. alphabetically
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Current LiabilitiesObligations that are supposed to be paid within the coming year...accounts payablewages payablebank loans payableinterest payabletaxes payablecurrent maturities of long-term bank loans payable
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Long-Term LiabilitiesDebts expected to be paid after one yearExamples bonds payable mortgages payable long-term notes payable lease liabilities and obligations under employee pension plans
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Stockholders' EquityCapital stock - investments of assets in the business by the stockholdersRetained earnings - earnings kept for use in the business
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Ratio AnalysisExpresses relationship among selected items of financial statement dataRelationship can be expressed in terms ofPercentageRate Proportion
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Ratio AnalysisProfitability Ratios - Measures the income or operating success of a company for a given period of time (Is the owner getting a return on his/her investment?)
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Ratio AnalysisLiquidity Ratios - Measures short-term ability of company to pay its maturing obligations and meet unexpected needs for cash (Can the company pay its debts?)
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Ratio AnalysisSolvency Ratios - Measures the ability of the company to survive over a long period of time
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Ratio Analysis Use Multiple Measures!Intracompany comparisons - covering two years of the same company Industry average comparisons - based on average ratios for a particular industryIntercompany comparisons - based on comparisons with a competitor in the same industry
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Earnings Per ShareHow does the companys earning performance compare with that of previous years (on a per share basis)?
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2. For 2007 X Corp reported net income, $24,000; net sales, $400,000; and average shares outstanding, 6,000. There were no preferred stock dividends. What was the 2007 earnings per share?A. $4.00B. $0.06C. $16.67D. $66.67
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Statement of Retained EarningsFrom Chapter 1: The Statement of Retained Earnings describes the changes in the retained earnings for the period . . .
Retained earnings, January 1$ 0Add: Net income 6,800 6,800Less: Dividends 600Retained earnings, Dec. 31 $ 6,200
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Statement of Retained EarningsFrom Chapter 1: The Statement of Retained Earnings describes the changes in the retained earnings for the period . . .
Retained earnings, January 1$ 0Add: Net income 6,800 6,800Less: Dividends 600Retained earnings, Dec. 31 $ 6,200
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3. The balance in retained earnings is not affected by:A. net incomeB. net lossC. issuance of common stockD dividends
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Statement of Stockholders EquityStockholders equity has two parts:Common Stock andRetained Earnings,Thus, The Statement of Stockholders Equity reports ALL CHANGES in the common stock and retained earnings accounts
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Statement of Stockholders Equity
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Liquidity RatiosMeasure of short-term ability to pay maturing obligations and to meet unexpected needs for cashWorking capital
Current ratio
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Working CapitalWorking Capital = Current Assets - Current Liabilities Measure of short-term ability to pay obligationsDifference between current assets and current liabilities
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Current RatioMore dependable indicatorDoes not consider composition of current assets
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4. Which of these measures is an evaluation of a company's ability to pay current liabilities?A. Earnings per shareB. Current ratioC. Both a) and b)D. None of the above
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Solvency RatiosMeasure the ability of a company to survive over a long period of timeMeasures percentage of assets financed by creditors rather than stockholders
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5. Which is an indicator of profitability?A. Current ratioB. Earnings per shareC. Debt to total assets ratioD. Free cash flow
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Primary Accounting Setting Body in the U.S.FinancialAccountingStandardsBoard
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U.S. Government Agency That Oversees Financial MarketsSecuritiesExchangeCommission
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GAAP Are the RulesThe FASB makes the rules. The SEC enforces the rules.IASB = International Accounting Standards Board
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ReviewWhat organization issues United States accounting standards?
a. Financial Accounting Standards Boardd. Securities and Exchange Committeec. Internal Auditing Standards Committeeb. Internal Accounting Standards Committee
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Basic TermsRelevance - information makes a difference in decisionsReliability - information must be free of error and biasComparability - ability to compare information of different companies because they use the same accounting principlesConsistency - use of same accounting principles and methods from year to year within the same company
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Characteristics of Useful Information*
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Accounting Assumptions
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Accounting PrinciplesConstraints In AccountingIllustration 23
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Generally accepted accounting principles areA. a set of standards and rules that are recognized as a general guide for financial reportingB. usually established by the Internal Revenue ServiceC. the guidelines used to resolve ethical dilemmasD. fundamental truths derived from laws of nature
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StandardSettingCalledGAAPDone byFASBProcess overseen By SECUSEFULNESS ofFinancial information Relevance ReliabilityComparabilityConsistencyAssumptions made and principles followedwhen setting accounting standards Monetary unitEconomic entityTime periodGoing concernCost principleFull disclosureConstraintsMaterialityConservatism
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What is the primary criterion by which accounting information can be judged?a. Consistencyd. Comparabilityc. Usefulness for decision makingb. Predictive Value
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What accounting constraint refers to the tendency of accountants to resolve uncertainty in a way least likely to overstate assets and revenues?a. Comparabilityd. Consistencyc. Conservatismb. Materiality
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ReviewSelected financial information for Drummond Company at 12/31/2006:Lets compute current ratio . . .
Sheet1
Cash$60,000
Receivables (net)$80,000
Inventory$70,000
Long-term assets$330,000
Total Assets$540,000
Current Liabilities$140,000
Long-term debt$130,000
Total Liabilities$270,000
Sheet2
Sheet3
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Review Compute Current Ratio$210,000$140,000=1.5 : 1
Sheet1
Cash$60,000
Receivables (net)$80,000
Inventory$70,000
Long-term assets$330,000
Total Assets$540,000
Current Liabilities$140,000
Long-term debt$130,000
Total Liabilities$270,000
Sheet2
Sheet3
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ReviewSelected financial information for Drummond Company at 12/31/2006:Compute debt to total assets . . .
Sheet1
Cash$60,000
Receivables (net)$80,000
Inventory$70,000
Long-term assets$330,000
Total Assets$540,000
Current Liabilities$140,000
Long-term debt$130,000
Total Liabilities$270,000
Sheet2
Sheet3
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Review$270,000 $540,000 = 50%
Sheet1
Cash$60,000
Receivables (net)$80,000
Inventory$70,000
Long-term assets$330,000
Total Assets$540,000
Current Liabilities$140,000
Long-term debt$130,000
Total Liabilities$270,000
Sheet2
Sheet3
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