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CPA EXAM PREP FAR

Accounting Standards and Conceptual Framework SEC has the legal authority to establish US GAAP Deferred to FASB

Authoritative Literature Included in the Codification (FED PRIA) FASB Emerging Issues Task Force (EITF) Derivative implementation group issues Accounting Principles Board opinions (APB) Accounting Research Bulletins (ARB) Accounting Interpretations AICPA

International Financial Reporting Interpretations Committee (IFRIC) IFRIC provides guidance on newly identified financial reporting issues not addressed in IFRSs and assists IASB in achieving convergence

Convergence A single set of high quality, international reporting standards that companies can use for both domestic and cross-border financial reporting

Conceptual Framework Basis of All FASB Pronouncements SFAC #8: Objective of financial reporting (disclose entitys performance) SFAC #6: Elements of Financial Statements (REGL ALE needs ID) Revenues Expenses Gains Losses Assets Liabilities Equity Investments by owners Distributions to owners

Presentation order of major components of Income and Retained Earnings (IDEA) Income from continuing operations Discontinued operations (net of tax) Extraordinary items (net of tax) Accounting principle change RETAINED EARNINGS (net of tax)

Account Receivable Account AnalysisA/R

Beginning Balance

+ Credit Sales(Write-offs)

(Convert to note)

(Cash Collected)

Ending Balance

Objective of Financial Reporting Provide financial information about the reporting entry that is useful to the primary users (investors, creditors, and other lenders)

Fundamental Qualitative Characteristics of Financial Statements Relevance Faithful Representation

Components of Relevance (Passing Confirms Money) Predictive value Confirming value Materiality Makes a difference in decision making

Components of Faithful Representation (Completely neutral is free from error) Completeness Neutrality Freedom from error

Enhancing Qualitative Characteristics of Financial Statements Enhance the usefulness of info that is relevant and faithfully represented Comparability (current year to prior year, for example) Verifiability Timeliness UnderstandabilityFundamental Recognition Criteria Definitions Measurability Relevance Reliability

Fundamental Assumptions Entity Going concern Monetary unit Periodicity Revenue recognition Matching Accrual accounting Full disclosure Conservatism

Income Statement Performance for a period of time

Discontinued Operations Component of an entity held for sale Reported net of tax Can consist of: Impairment loss (in period when it occurs) Gain / loss from operations (in period when it occurs) Gain / loss on disposal (in period when it occurs) Gain recognized for any subsequent increase in FV (not in excess of cumulative loss) Assets of component no longer depreciated or amortized

Exit or Disposal Activities Recognize a liability for costs associated with exit or disposal when: An event has occurred that Creates an obligation to transfer assets/services in the future and The obligation cannot be avoided Measured at FV in the period incurred

Extraordinary Items Unusual AND infrequent Reported net of tax Not allowed under IFRS

Change in Accounting Estimate Prospective approach Changes in accounting principle inseparable from a change in estimate (i.e. from installment method to immediate recognition) should be handled prospectively as well

Change in Accounting Principle Adjust RE in earliest period presented Non-comparative statements: cumulative effect = beg. Retained earnings correct retained earnings Comparative statements: cumulative effect = beg. Retained earnings in 1st period shown correct retained earnings

Changes to LIFO or in Depreciation Method Prospective approach

Changes in Accounting Entity + Error Correction Restate financials Non-GAAP to GAAP: an example of an error No change in accounting entity under IFRS

Comprehensive Income Non-owner transactions Net income per income statement + other comprehensive income = comprehensive income

Other Comprehensive Income (PUFE R) Pension adjustment Unrealized gains and losses on available for sale securities Foreign currency items Effective portion of cash flow hedge Revaluation surplus IFRS only!!!

Accumulated OCI A component of equity that includes the total of OCI for the period and previous periods (like RE)

Full Set of Financial Statements Balance sheet Income statement Comprehensive income Cash flows Changes in owners equity

Reclassification Adjustments Avoids double counting Moves OCI items from AOCI to the income statement Displayed in net income for the current year

Interim Financial Reporting Not required under GAAP / IFRS Considered an integral part of annual financial statements Revenues and expenses matched by quarter Unaudited Permanent inventory losses from market declines should be reflected in the period in which they occur Temporary losses that are expected to reverse before the end of the period should not be recognized Income tax rate = estimated effective tax rate for the year If changes during year, calculate as: Total net income for all periods * new effective tax rate income tax expense reported for the year

Segment Reporting Required for all public companies Operating segments Products and services Geographic areas Major customers Use the same principles as main statements Intercompany transactions are not eliminated

Materiality Tests for Reportable Segments 10% or more of: Revenues (internal and external) Combined reported profit Combined reported loss Combined assets of all operating segments AND 75% of external revenue must be included in reportable segments (if not, add segments until 75% is reached)

Segment Profit and Loss Defined Revenues (for that segment internal and external) (Directly traceable costs) (Reasonably allocated costs by CFO) Operating Profit (Loss) for that segment Items normally excluded: general corporate revenues and expenses

Development Stage Enterprises (GAAP only) Start-up, organizational costs are immediately expensed Disclosure of cumulative net losses in balance sheet, income statement, and cash flows

First-time Adoption of IFRS Required to present 3 balance sheets and 2 income statements Explanation of transition required

SEC Reporting Requirements (common) Form 10-K: US annual report Form 10-Q: US quarterly report Form 20-F and Form 40-F: Foreign annual report Form 6-K: Foreign semi-annual report Forms 3, 4, 5: directors, officers, owners of 10% or more equity

XBRL Data tags to describe financial information for business and financial reporting

XBRL Tag Tags provide contextual information that allow data to be recognized and processed by software

SEC Interactive Data Rule Requires U.S. public companies and foreign private issuers that use GAAP to present financial statements and schedules in an exhibit prepared using XBRL

Assets + Liabilities Assets = probable future economic benefits, Liabilities = probable future sacrifices

Revenue Recognition Criteria Persuasive evidence of an arrangement exists (signed contract) Delivery occurred / services rendered (transfer risks and rewards) Price is fixed and determinable (no contingencies) Collection is reasonably assured

Revenue Recognition Categories IFRS Sale of goods Rendering of services Revenue from interest, royalties, dividends Construction contracts

Basic Revenue Recognition Criteria IFRS Measured reliably Economic benefits will flow to the entity

Franchises Initial franchise fee: revenue when substantially performed Continuing franchise fees: revenue when earned Franchisor accounting: Unearned revenue => initial franchise fee (not yet earned) and prepaid franchise fee Franchisee accounting: Initial franchise fee => intangible asset (amortize) Continuing franchise fee => expense as incurred

Purchased Intangible Assets Record at Cost

Internally Developed Intangible Assets Expense as incurred

Costs to Capitalize Intangible Assets Legal fees and other costs for successful defense (unsuccessful = expense) Registration and consulting fees Design costs Direct costs to secure the asset

What to Capitalize Assets, Liabilities, and C/S Assets: cash paid or FV of other assets distributed Liabilities: PV of amounts to be paid Stock: FV of consideration received

Patent Amortization Amortized over the shorts of its estimated life or legal life

IFRS Intangible Asset Valuation Cost model: cost amortization impairment Revaluation model: FV on revaluation date subsequent amortization subsequent impairment

R&D Costs US GAAP DO NOT EXPENSE: Machines and equipment with alternate future uses (capitalize and depreciate) R&D performed for others NOT R&D: Periodic design changes Marketing research Quality control testing Reformulation

Computer Software to be Sold (not internal use) Expense costs until technological feasibility has been established, then: Capitalize costs until released for sale

Amortization of Capitalized Software Costs The greater of: % of revenue = Total capitalized amount * (Current revenue / Total projected revenue) S/L depreciation = Capitalized amount / Economic life

Computer Software Costs Internal Use Expense costs incurred for the preliminary project state and training and maintenance Capitalize after the preliminary project state and for upgrades and enhancements Amortize S/L

Impairment of Intangible Assets, Finite Life (2-Step Method) Compare CV to undiscounted future cash flows CV>UFCF, impairment, then Amount of Impairment loss = CV FV

Impairment of Intangible Assets, Indefinite Lives (1 Step Method) Compare CV to FV CV>FV, impairment, then Amount of Impairment loss = CV FV Note: same as step 2 above only!!!

Goodwill Impairment US GAAP Tested at the reporting unit level Compare the FV of the reporting unit (including goodwill) to the CV If CV>FV, then: Goodwill impairment = CV of goodwill implied FV of goodwill

Completed Contract Method (GAAP ONLY!!!) Income recognition at completion of contract Losses recognized in full in year of discovery

Completed Contract Method Balance Sheet Presentation Current Asset Accounts Due on accounts (receivable) Costs of uncompleted projects in excess of billings (construction in progress) OR Current Liabilities Progress billings in excess of cost

Percentage of Completion Method (GAAP + IFRS) Recognize profit based on amount of contract completed % of job earned = (Actual costs incurred / Total expected costs) Loss on entire contract recognized immediately (adjust any previous gross profit recognized as well)

Percentage of Completion Method Calculation of Recognized Gross Profit Total GP = Contract price estimated total costs % of job earned = (Actual costs incurred to date / Total estimated costs) Step 1 * Step 2 = Total profit to date Profit to date prior profit recognized = current period gross profit

Percentage of Completion Method Balance Sheet Presentation Current Asset Accounts Due on accounts (receivable) Costs and estimated earnings in excess of billings (construction in progress) OR Current Liability Account Progress billings in excess of cost and estimated earnings

Accounting for Installment Sales Only used when there is no reasonable basis for estimating the degree of collectability Revenue is recognized when cash is actually collected

Installment Sales Problem Solving Formulas Gross Profit = Sales COGS Gross Profit % = GP / Sales Earned Gross Profit = Cash collections * GP% Deferred Gross Profit = Installment Accounts Receivable * GP%

Cost Recovery Method Expected profit reported as deferred profit at the time of sale Cash collection first applied to the recovery of costs; after all costs recovered, other collections are recognized as revenue

Exchanges with Commercial Substance (ANY CHANGE IN CASH FLOWS) Future cash flows change because of transaction Under IFRS, exchange of similar assets => no gain recognized Dissimilar accounted for in the same manner as those having commercial substance under GAAP

Exchanges with Commercial Substance Journal Entry Framework New asset (FV of consideration given) Accumulated depreciation of asset given up Cash received Loss (if any) Old asset at historical cost Cash given Gain (if any)

Exchanges without Commercial Substance (NO CHANGE IN CASH FLOWS) No change in future cash flows Always recognize a loss Gain recognition is conditional: No boot received: do not recognize any gain Boot paid: do not recognize any gain Boot received: recognize gain proportional to consideration (25% rule) If (Boot received / consideration received) > 25%, recognize the entire gain If (Boot received / consideration received) < 25%, recognize gain proportional to (boot received/consideration received)*Gain

Measurement Methods and Current Cost Determination Effect of Changing Prices Historical cost / nominal dollar: no adjustment necessary Historical cost / constant dollar: adjust for inflation Current cost / nominal dollar: adjust for appreciation Current cost / constant dollar: adjust for both inflation and appreciation Monetary assets and liabilities are fixed Non-monetary assets and liabilities fluctuate with inflation and deflation

Foreign Currency Transactions Transactions with a foreign entity denominated in a foreign currency

Functional Currency The currency of the primary economic environment in which the entity operates, usually the local currency or the reporting currency

Foreign Currency Translation (Functional) The restatement of financial statements denominated in the functional currency to the reporting currency using appropriate rates of exchange

Foreign Currency Remeasurement (Dysfunctional) The restatement of foreign financial statements from the foreign currency to the entitys functional currency when: The reporting currency is the functional currency The statements must be restated in the entitys functional currency prior to translating from the functional to the reporting

Remeasurement (Temporal) Method In order:1) Start with Balance sheet:a. Monetary items use current rateb. Non-monetary items historical rate2) Income statement:a. Non-balance sheet items weighted average rateb. Balance sheet items historical rate3) Remeasurement G/L goes to Income Statementa. Plug a G/L required to for Net Income necessary for RE in Step 1 to balance the balance sheet

Translation (Current Rate) Method In order1) Start with Income statement:a. Everything at the weighted average rateb. Transfer Net income to retained earnings on balance sheet2) Balance sheet:a. Assets and liabilities: current rateb. Common stock and APIC: historic ratec. Retained earnings: roll forwardi. Retained earnings: beginning translation retained earnings + net income calculated in step 1 translated dividends3) Translation G/L in OCIa. Plug a G/L to OCI to get RE to balance

General OCBOA Guidelines Titles should differentiate OCBOA statements from accrual basis statements Should explain changes in equity accounts Cash flow statement not required

Cash Basis Statements Cash is the only Asset, no liabilities, and equity = cash

Income Tax Basis Statements Nontaxable revenues and expenses may be reported as: Separate line items in the statement of revenues and expenses Additions and deductions to net income A disclosure

Personal Financial Statements Statement of financial condition => balance sheet Assets are reported at estimated current fair value Liabilities are reported at estimated current amount Assets and liabilities are listed in order of liquidity

Trading Securities Current assets Debt or equity bought and held for purpose of selling in the near term

Available For Sale Securities GR: Noncurrent assets Debt or equity not meeting the definitions of the other two classifications Can be reported as current assets or noncurrent assets depending on the intent of the corporation

Held to Maturity Securities Debt ONLY GR: Noncurrent assets Classified as HTM only if the corporation has the intent and the ability to hold these securities to maturity

Trading and Available For Sale Securities: Valuation Fair value (mark to market) Unrealized gain/loss of trading securities: recognized in Income Statement Unrealized gain/loss of available for sale securities: recognized in Other Comprehensive Income All realized gains/losses are recognized on the income statement

Reclassifications Between Categories From Trading to any other category: no adjustment necessary Any other category to Trading: recognize unrealized G/L in earnings immediately From HTM to AFS: record unrealized G/L in OCI AFS to HTM: amortize the unrealized G/L over the remaining life of the security

Consolidated Statements Consolidated financial statements ignore important legal relationships and emphasize substance over form

When to Consolidate Statements Majority-owned subsidiaries have one management and economic entity If there are different year ends, it is still OK to consolidate DO NOT CONSOLIDATE: When control is NOT with the owners

Cost Method There is NO significant influence Generally between 0-20% ownership DO NOT consolidate statements

Equity Method There IS significant influence Generally between 20-50% ownership (presence of significant influence is the still the determining factor!!) DO NOT consolidate statements

Acquisition Method (Consolidation) When there is CONTROL Generally 50%+ ownership

Cost Method Balance Sheet Journal Entries Record initial investment at cost: Investment in entity Cash Unrealized gains/losses recorded in OCI (marketable securities): Investment in entity Unrealized gain Reduce share of entity for dividends received in EXCESS of investors share of retained earnings: Cash Investment in entity

Cost Method Income Statement Journal Entries Record income for dividends received that are NOT in excess of investors share of earnings: Cash Dividend Income DO NOT RECOGNIZE STOCK DIVIDENDS Increase number of shares held only! Memo entry only!

Equity Method Balance Sheet Journal Entries Record initial investment at cost: Investment in entity Cash Increase investment by investors share of entity earnings (income/loss) Investment in entity Equity in entity Note: same entry for the income statement Decrease investment for share of dividends received: Cash Investment in entity Stock dividends = memo only!!

Equity Method Simple Account Calculation (BASE) Beginning balance Add: investors share of earnings Subtract: investors share of dividends Ending balance

Equity Method Income Statement Journal Entries Record equity for share of entity earnings Investment in entity Equity in entity Note: same entry for balance sheet

Equity Method Recording a Premium Paid and Goodwill Any premium paid: amortized over the life of the asset (except land) Journal entry to record amortization: Equity in entity Investment in entity Goodwill: not amortized, not tested for impairment

Changing from Cost to Equity Method Apply the equity method using the prior periods old percentage DO NOT apply the new percentage to the prior periods

Acquisition Method When there is control (50%+ ownership, generally) Consolidate the sub at 100% of its fair value at the acquisition date, even if less than 100% is acquired

Acquisition Method Initial Journal Entry Acquired for cash: Investment in entity Cash Acquired for stock (measure the value of the stock as of the TRANSACTION date) Investment in entity Common stock APIC

Calculating Consolidated Amounts Always value at 100%

Consolidating Workpaper Eliminating Journal Entry (CAR IN BIG) Common stock subsidiary APIC subsidiary Retained Earnings Subsidiary Investment in subsidiary Noncontrolling interest (create if not 100% owned) Balance Sheet adjustments to FV Identifiable intangible assets to FV Goodwill

Business Combination Costs EXPENSE: legal costs, finders fees, indirect and direct costs CAPITALIZE AND AMORTIZE: bond issue costs REDUCE APIC OF PARENT: stock issuance costs, registration costs

Acquired R&D Expense continuing R&D to complete a project Project success: amortize IP R&D Project failure: impair/write-off IP R&D

Partial Goodwill Method IFRS ONLY Goodwill = acquisition cost FV of subs net assets acquired Plug non-controlling interest

Intercompany Transactions Eliminate 100% for external reporting

Intercompany Profit on Inventory Calculate Intercompany Profit on sale Allocate Intercompany profit between COGS and ending inventory: Beginning inventory + Purchases = Cost of goods available for sale Ending Inventory = Cost of Goods Sold (COGS / Purchases) * Profit = Correction necessary to COGS (Ending inventory / Purchases) * Profit = Correction necessary to ending inventory

Intercompany Bond Transactions If one member of the group acquires affiliates debt from an outsider, the debt is considered retired and gain/loss recognized on consolidated income statement Only considered extraordinary if unusual and infrequent

Intercompany Sale of Land Eliminate any G/L and restore land to original carrying amount

Intercompany Profit on Fixed Assets Eliminate gain Restore asset and accumulated depreciation to correct amounts Fix depreciation to original amount

Combined Financial Statements A group of related companies, not consolidated because there is no parent Under common control and management

Push Down Accounting Reports assets and liabilities at fair value in separate financial statements of the subsidiary In essence, consolidation adjustments are pushed down into the records of each sub

Working Capital The ability to pay debt as due to short-term financial risk Working capital = Current assets current liabilities Current ratio = Current assets / Current liabilities Quick ratio = (Cash + net receivables + Marketable securities) / Liabilities (Current Assets Inventory) / Current Liabilities

Current Assets Resources that are reasonably expected to be realized in cash/sold/consumed during the normal operating cycle or one year, whichever is longer

Current Liabilities Obligations whose liquidation is reasonably expected to require the use of current assets or the creation of other current liabilities Includes estimates or accrued amounts that are expected to be required to cover expenditures within the year for know obligations

Classification of Short-term Obligations to be refinanced GAAP: may be excluded from current liabilities and included in noncurrent debt if the company intends to refinance it on a long-term basis and the intent is supported by the ability to do so IFRS: must wait until actually refinanced to classify as noncurrent

Cash Equivalents Short-term, highly liquid investments that are both readily convertible to cash and so near their maturity when acquired by the entity that they present insignificant risk of changes in value Original maturity date 90 days or less Time certificates of deposit (CODs) are NOT cash equivalents Legally restricted deposits are NOT cash equivalents

Restricted Cash Cash that has been set aside for a specific use or purpose If restriction is associated with a current asset or liability, classify it as a current asset but separate from unrestricted cash

Simple Reconciliation Goal calculate the true balance

Simple Reconciliations Bank Adjustments Add: deposits in transit Subtract: outstanding checks

Simple Reconciliations Book Adjustments Add: bank collections, interest income Subtract: service charges, nonsufficient funds

Net Realizable Value Accounts Receivable Accounts receivable balance (gross) is adjusted for Allowance for uncollectible accounts Sales discounts Sales returns and allowances

Sales / Cash Discounts The discount is generally based on a percentage of the sales price Example: 2/10, n/30 => 2% discount within 10 days, net amount due in 30 days

Gross Method Sales Discounts Records a sale without regard to the available discount If payment is received within the discount period, a sales discount account is debited to reflect the sales discount Record Sale: Accounts Receivable (gross amount) Sales (gross amount) If payment is received within the discount period Cash Sales discounts taken Accounts Receivable If payment is not received within the discount period Cash Accounts Receivable

Net Method Sales Discounts Records ales and accounts receivable net of the available discount If payment is received after the discount period, a sales discount not taken account must be credited Record Sale: Accounts Receivable (net amount) Sales (net amount) If payment is received within the discount period Cash Accounts Receivable If payment is not received within the discount period Cash Accounts Receivable Sales discounts not taken

Trade (Quantity) Discounts Revenue and Accounts Receivable reported net of discounts Apply sequentially (DO NOT combine)

Sales Returns and Allowances Expected exchanges DO NOT affect sales, inventory, or COGS Journal entry to record a sales return: Sales returns and allowances Accounts receivable

Estimating Uncollectible Accounts Receivable Direct Write-Off Method the account is written off and the bad debt is recognized when the account becomes uncollectible NOT GAAP Allowance Method - estimate and book uncollectible Accounts Receivable now GAAP 3 allowable methods: Percent of sales method Percent of Accounts Receivable Aging of Accounts Receivable

Percent of Sales Method Bad Debt Expense = % estimated * credit salesAllowance for Uncollectibles

Beginning Balance

(Write-Offs)+ Bad Debt Expense

Directly Calculated

Ending Balance

Percent of Accounts Receivable Method Ending Allowance Balance = % estimated * ending Accounts Receivable balance Bad Debt Expense is a plug amount allowing the account to arrive at the correct ending balanceAllowance for Uncollectibles

Beginning Balance

(Write-Offs)+ Bad Debt Expense

Plug amount

Ending Balance

Aging of Accounts Receivable Ending Allowance Balance = Sum of the product of each gaining category Bad Debt Expense is a plug amount allowing the account to arrive at the correct ending balanceAllowance for Uncollectibles

Beginning Balance

(Write-Offs)+ Bad Debt Expense

Plug amount

Ending Balance

Subsequent Collection of Previously Written-Off Receivable Journal entry to restore the account: Accounts Receivable Allowance for Uncollectibles Journal entry to record cash collection: Cash Accounts Receivable

Pledging The company uses existing accounts receivable as collateral for a loan Requires only note disclosure

Factoring Accounts Receivable The company can convert its receivables into cash by assigning them to a factor either without or with recourse

Factoring Without recourse The sale is final and the factor assumes risk of any losses on collections Journal entry to factor accounts receivable without recourse Cash Due from factor (factors margin) Loss on sale of receivables Accounts receivable

Factoring With recourse The factor has an option to re-sell any uncollectible receivables back to the seller Can be either a sale (same journal entry as without recourse) or loan (footnote)

Discounting Notes Receivable When the holder endorses the note to a third party and receives cash Without recourse: the holder assumes no further liability; its a true sale With recourse: holder remains liable, remains on Balance Sheet

Discounting a Note at a Bank Compute the Maturity Value of the note by adding the interest to the face amount of the note Face value of the note + interest on note to maturity = payoff value of note at maturity Compute bank discount on the payoff value at maturity Bank discount rate * payoff value at maturity Determine the amount paid by the bank for the note (Cash Received) Payoff value at maturity bank discount = amount paid by bank for the note Derive the interest income (or expense) by subtracting the face value of the note from the amount paid by the bank for the note Amount paid by bank for the note face value of the note = interest income to company

FOB Shipping Point With terms of FOB shipping point the title to the goods usually passes to the buyer at the shipping point. This means that goods in transit should be reported as a purchase and as inventory by the buyer Buyers inventory at shipment Freight-in added to cost (buyers)

FOB Destination With terms of FOB destination the title to the goods usually passes from the seller to the buyer at the destination. This means that goods in transit should be reported as inventory by the seller, since technically the sale does not occur until the goods reach the destination Sellers inventory Freight-out = selling expense Non-conforming goods = sellers inventory

Consigned Goods The seller delivers the goods to an agent to hold and sell on the consignors behalf Revenue will be recognized when the goods are sold to a third party Sales COGS = Gross Profit GP Commission Advertising = Net Income Until the sale, the goods remain in the consignors inventoryLower of Cost or Market (US GAAP) Market = Replacement Cost Cannot be higher than the ceiling: Net Realizable Value NRV = Selling Price Costs to complete/dispose Cannot be lower than the floor: Net Realizable Value less a normal profit margin Based on selling price Between all three values (RC, NRV, NRV-PM), pick the one in the middle; that is the market

Lower of Cost or Net Realizable Value (IFRS) Net Realizable Value = Selling Price Costs to complete/dispose Same as US GAAP ceiling The reversal of inventory write-downs for subsequent recoveries is allowed; however, the reversal is limited to the amount of the original write-down and is recorded as a reduction of total inventory costs on the statement (COGS)

Periodic Inventory System (Use Purchases) Quantity determined by physical count Beginning inventory + Purchases = Cost of Goods Available for Sale Ending Inventory = Cost of Goods Sold

Perpetual Inventory System (No Purchases) COGS determined and recorded with each sale (a running total)

FIFO Start with oldest costs first in, first out Ending inventory is the same whether a periodic or perpetual system is used In a period of rising prices, COGS decreases, NI increases and ending inventory increases

Weighted Average Method Calculate weighted-average cost per unit: total units purchased / total cost Multiply units sold by rate for COGS, units remaining for ending inventory

Moving Average Method Perpetual weighted average method Average computed after each purchase

LIFO (GAAP ONLY) Use most recent costs last in, first out LIFO periodic IS NOT the same as LIFO perpetual In a period of rising prices, COGS increases, NI decreases, and ending inventory decreases

Dollar-Value LIFO Price Index = Total ending inventory at Current Year cost / Total ending inventory at Base Year cost LIFO layer in the current year = Current year layer at base year cost * Price Index

Valuation of Fixed Assets US GAPP Historical Cost

Valuation of Fixed Assets IFRS Cost Model Carry value = historical cost accumulated depreciation impairment Revaluation model Carry value = fair value at revaluation date subsequent accumulated depreciation subsequent impairment Revaluation losses income statement Revaluation gains - OCI

Cost of Equipment Invoice price (taking into account any cash discounts) + Freight-in + Insurance + Installation Charges + Sales and federal tax + Construction period interest

Cost of Equipment Capitalize Additions Improvements Replacements Extraordinary repairs that increase the assets life or usefulness

Cost of Land All costs up to excavation LESS proceeds from sale of existing buildings, standing timber Basket purchase: Allocate the purchase price of land and a building based on the ratio of appraised values of the individual items

Investment Property (IFRS ONLY) Land or buildings held by an entity or by a lessee under a finance lease to earn rental or for capital appreciation are classified and reported as investment property (rental or flip property) Can be reported under the fair value model or cost model Fair value model: Reported on balance sheet at fair value and not depreciated Cost model: Reported on the balance sheet at historical cost less accumulated depreciation

Capitalization of Construction Period Interest Only capitalize interest on money actually spent, NOT total amount borrowed Amount to capitalize is the lower of: actual interest costs OR computed capitalized interest

Computing Capitalized Interest Weighted average of accumulated expenditures & applicable interest rate = amount to be capitalized If less than actual interest, capitalize the full amount Any remaining amount is expensed

Sum-of-the-Years Digits Depreciation SYD = (Cost salvage value) * (Remaining Life / sum of years digits) Quick computation of sum of years digits: (N*(N+1)) / 2

Declining Balance Depreciation (Can Be Double Declining (200%) or Less (150%)) 1/N * Cost accumulated depreciation (carrying value) If 200% or 150%, multiply by 2 or 1.5 DO NOT depreciate below the salvage value

Units of Production Rate = (cost salvage value) / estimated units or hours Rate * units or hours = depreciation expense

Depletion Depletion Base = cost of land + development costs + restoration residual value Depletion Rate = Depletion Base / Estimated Recoverable Units Rate * units extracted = depletion, Rate * units sold = COGS

Definition of Annuity A large number of business transaction involve multiple payments or receipts Bond interest payments and lease rental payments are two examples

Types of Annuities Ordinary annuity (or annuity in arrears): payments start later Number of payments = number of interest periods Annuity due: payments start immediately Number of interest periods is one less than the number of payments Annuity due 1 = ordinary annuity

Present Value of $1 Amount that must be invested now at a specific interest rate so that $1 can be paid or received in the future Examples: Capital lease buyout at the end of the lease Bond principal payoff at the end of the term U.S. savings bond

Future Value of $1 The amount that would accumulate at a future point in time if $1 were invested now Example: Bank savings account

Present Value of an Ordinary Annuity The current worth of a series of identical periodic payments to be made in the future Examples: Periodic lease payments Periodic bond payments Winning the lottery

Future Value of an Ordinary Annuity The sum to be received at some point in the future of identical periodic investments made from the present until that future point Example: Investing in an IRA

Present and Future Value of an Annuity Due The only difference between an ordinary annuity and annuity due is the timing of the payments By adding 1 to the PV of an ordinary annuity, the PV of an annuity due can be found

Operating Lease There is no transfer of ownership or any risk/benefit of ownership Lease does not meet the capital lease criteria A rental agreement

Operating Lease Accounting Lessee (Renter) Lease rent expense: Rent expense is recorded over the lease term, usually on a straight-line basis unless other methods are warranted Rent expense Cash/rent payable Lease bonus: Any prepayment for future expenses (commission paid to rental agent) should be classified as an asset (deferred charge) and amortized using the straight-line method over the life of the lease Leasehold improvements: An improvement that is permanently affixed to the property and reverts back to the lessor at the termination of the lease Capitalize any leasehold improvements AND Depreciate over the LESSER of the lease life or the asset/improvement life Rent kicker: Any premium rent payment required for specific events is a period expense Refundable security deposit: Reported as an asset until refunded by the lessor Free or reduced rent consideration: Must take the total rent expense to be paid for the entire lease term and divide it evenly over each period

Operating Lease Accounting Lessor (Owner) Fixed asset: the cost of the property remains on the owners books and is depreciated over the assets useful life Rental income: reported using the straight-line method (matches with lessees rental expense) Cash/rent receivable Rental income Security deposits: Nonrefundable: deferred by the lessor (unearned revenue) and capitalized by the lessee (prepaid rent expense) until it is considered earned Refundable: treat as a receivable by the lessee and a liability by the lessor until the deposit is refunded to the lessee Cash Refundable deposit Lease bonus: deferred and amortized over the life of the lease (into income) Free or reduced rent: lessor must take the total rental income to be received over the entire lease term and divide it evenly over each period

Capital (US GAAP) / Finance (IFRS) Lease Transfers substantially all of the benefits and risks inherent in ownership of the property of the lease

Capital Lease Criteria Lessee (Buyer) US GAAP (OWNS) Must meet just one condition to capitalize: Ownership transfers at the end of the lease Written option for bargain purchase Ninety percent of leased property fair value LESS THAN OR EQUAL TO the present value of the lease payments Seventy-five percent or more of the assets economic life is being committed in the lease term

Finance Lease Criteria Lessee (Buyer) IFRS (OWES FACS) Generally defined as a lease in which substantially all the risks and rewards inherent in ownership are transferred to the lessee List of non-exhaustive situations that would lead to a lease being classified as a finance lease under IFRS Ownership is transferred Written bargain purchase option contained Economic life for a major part of the asset is covered by the lease term Fluctuation gains/losses due to changes in the fair value of the asset accrue to the lessee Ability to continue the lease for a secondary period at a rent substantially below market rent Cancelation of lease losses are borne by the lessee Specialized nature of the leased asset such that only the lessee can use it without modification

Sales-Type / Direct Financing Lease Criteria Lessor (Seller) US GAPP (LUC) If the lease meets ALL 3 of the following conditions, it should be classified as a sales-type lease or direct financing lease, whichever is appropriate: Lessee OWNS the leased property (meets any of the 4 criteria) Uncertainties do not exist regarding any unreimbursable costs Collectability of the lease payments is reasonably predictable Note: under GAAP, it is possible for the lessee to classify a lease as capital and a lessor to classify it as operating

Sales-type Lease 2 Profits The fair value of the leased property at the inception of the lease differs from the cost/carrying amount to the lessor Gives rise to a manufacturers profit/loss The 2 profits on the lease: Gain on the sale Interest income

Direct Financing Lease 1 Profit The fair value of the leased property at the inception of the lease is the same as the cost/carrying amount 1 profit on the lease Interest income

Capital Lease (Finance Lease) Accounting Lessee (Buyer) Recording the lease: the lessee records as an asset and liability the LESSER of: Fair value of the asset at the inception of the lease Cost => Present value of the minimum lease payments End of period PV of an ordinary annuity (annuity in arrears) Beginning of period PV of an annuity due Include in this amount: Required Payments Bargain purchase option (PV of $1) Guaranteed Residual value (PV of $1) EXCLUDE from this amount: Executory costs insurance, maintenance and taxes paid by the lessee Optional buyout Interest rate: when calculating the present value of the minimum lease payments, the lessee uses the LOWER of: Rate implicit in the lease Lessees incremental borrowing rate Under IFRS, the cost of any initial indirect costs are added to the asset, but NOT the obligation: Leased equipment Obligations under lease Cash (amount of initial indirect costs paid) Depreciation period of benefit (US GAAP) If the lease qualifies as a capital lease using Ownership transfer or Written Bargain: Depreciate over the estimated economic life of the asset If the lease qualifies as a capital lease using Ninety % of fair value or Seventy-five percent of economic life: Depreciate over the lease term Summary: OW = economic life, NS = lease term If the lease meets more than one criteria, the order of priority is: O-W-N-S Depreciate period of benefit (IFRS) Depreciate over the LESSER of: lease term and the useful life of the asset

Lease Liability and Asset Amortization Lessee1234

Annual Lease PaymentsInterest on Unpaid Obligation (Interest rate * 4)Reduction of Lease Liability (1 2)Carrying Amount of Lease Obligation (Prior period 4 3)

**Note: 1st payment of an annuity due is ALL PRINCIPAL**

Sales-Type Lease Accounting Lessor Gross Investment (lease receivable): the minimum lease payments plus any unguaranteed residual value Lease Payments + Unguaranteed residual value = Gross Investment Net investment: Gross investment * present value Unearned Interest Revenue (contra-lease receivable): gross investment net investment Cost of Goods Sold: Cost of asset PV of unguaranteed residual value Sales Revenue: present value of the minimum lease payments

Direct Financing Lease Accounting Lessor Gross Investment (lease receivable): the minimum lease payments plus any unguaranteed residual value Lease Payments + Unguaranteed residual value = Gross Investment Net investment: Gross investment * present value Unearned Interest Revenue (contra-lease receivable): gross investment net investment NO COGS OR SALES REVENUE

Sale-Leaseback The owner of the property sells the property and simultaneously leases it back from the purchaser-lessor Selling Price: the negotiated price in the agreement Profit or Loss: the amount that would have been recognized by the seller assuming theres no leaseback Excess Profit: Operating lease: the amount of profit that exceeds the minimum lease payments: Sales price net book value = tentative gain PV of minimum lease payments Capital lease: the amount of profit that exceeds the recorded amount of the asset: Sales price net book value = tentative gain leaseback asset

Sales-Type Lease Accounting Seller/Lessee Amount of deferred gain is determine by the retained rights to remaining use of the leaseback property Substantially all rights retained (+90% of the sales price): the present value of the rent payments is greater than or equal to 90% of the fair value of the property Defer all gain and amortize with leased asset Rights retained are less than substantially but greater than minor (between 90% and 10%): the present value of the rent payments are less than 90% but greater than 10% of the fair value of the property Defer gain up to the present value of the minimum payments. Anything in excess is recognized immediately Minor portion of rights retained (less than 10%): the present value of the rent payments is 10% or less of the fair value of the property Recognize gain or loss at the time of the sale-leaseback gains are NOT deferred ANY REAL ECONOMIC LOSS MUST BE RECOGNIZED IMMEDIATELY (when FV < BV) Amortization of deferred gain: Capital leaseback: amortized in proportion to the amortization of the leased asset Operating leaseback: any deferred gain or loss is amortized in proportion to the gross rental expense of the leased asset

Convertible Bonds Convertible into common stock generally at the option of the bondholder Non-detachable warrants: convertible bond itself is converted into common stock Detachable warrants: the bond is not surrendered upon conversion, only the warrants plus cash representing the exercise of the warrants

Term Bonds Bonds that have a single fixed maturity date the entire principal is paid at the end of the term

Serial Bonds Pre-numbered bonds that the issuer may call and redeem a portion by serial number

Overview of Bond Terms Usually denominated in $1000 Price is always quoted in 100s (i.e. 106 = 1060) Indenture: contract for purchase of a bond Coupon rate: stated interest rate on the bond Used to calculate the face coupon Bond interest (check amount): coupon * face Effective interest rate: market rate Principal payoff is always full face value Premium / discount adjusts coupon to market rate

Bond Valuation PV of principal (PV of $1) + PV of interest (PV of an ordinary annuity) = Fair Value of bond (cash received) Can be either a premium or a discount

Bonds Issued at Par value When the market rate = coupon rate

Bond Issued at a Discount When the stated rate (coupon) on the bonds is less than the market rate The unamortized discount is a contra-account to bonds payable (a direct reduction) Amortization of the discount INCREASES interest expense each period

Bond Issued at a Premium When the stated rate (coupon) on the bonds is greater than the market value The unamortized premium is a direct addition to bonds payable Amortization of the premium DECREAES interest expense each period

Bond Issue Costs Examples: legal fees, accounting fees, underwriting, and commissions Deferred charges (an asset) and amortized using the straight line method into expense Under IFRS, bond issue costs are deducted from the carrying value and amortized using the effective interest method

Bond Amortization Straight Line Method (NOT GAAP BUT ALLOWED) Yields a constant dollar amount of interest each period Periodic amortization = premium or discount / number of periods bond is outstanding

Effective Interest Method Required by both GAAP and IFRS Interest expense = carrying value at the beginning of the period * effective interest rate (market rate) Amortization of the discount = interest expense cash paid at the coupon rate Amortization of the premium = cash paid at the coupon rate interest expense

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Beginning Period Carrying ValueSemi-Annual Amortization Interest (using MARKET rate)Effective Carrying Value (1*2)Face Coupon (using COUPON rate)Amortization- (3-4) = positive, discount and add- (3-4)= negative, premium and subtractEnding Period Carrying Value (1 5)

Bond Sinking Fund Used to avoid a cash shortage at the time of debt repayment The sinking fund is generally a non-current (restricted) asset

Determination of Sinking Fund Payments Use the future value of an ordinary annuity

Serial Bonds Principal matures in installments

Non-detachable Warrants Convertible bonds are often issued at more than face value because of the value of the conversion feature. Under GAAP, the issuance price is allocated to the bonds with NO RECGONITION of the conversion feature because it is difficult to assign a specific value to the conversion feature EVERYTHING GOES TO THE BOND AT ISSUANCE

Conversion of the Bonds to Stock Can be done using either the book value method (GAAP) or market value method (NOT GAAP) Book value method: No gain or loss is recognized, bond payable and any premium/discount are written off and common stock/APIC are credited for the value of the stock Bond payable Premium on bond payable Common stock APIC Market value method: gain or loss is recognized as the difference between the market value of the stock and the book value of the bonds Bond payable Premium on bond payable Loss Common stock APIC

Detachable Warrants A conversion feature that is separate from a security should be accounted for separately at its relative fair value at the time of issue This amount is credited to APIC warrants Cash Bonds Payable APIC warrants Can be recorded at issuance using either the warrants only method or the market value method Warrants only method: use if the fair value of the warrants is known Issuance: Cash Discount (plug) Bond payable APIC warrants (FV) Warrants exercised: Cash APIC warrants (removed) Common stock APIC Warrants expire: APIC warrants APIC Market value method: use if the fair value of the warrants AND the bonds is known Issuance: allocate the sales price to the bonds and warrants based on relative market value Cash Discount (plug) Bond payable (FV) APIC warrants (FV) Warrants exercised: Cash APIC warrants (removed) Common stock APIC Warrants expire: APIC warrants APIC

Defined Contribution Plan This type of plan specifies the periodic amount of contributions to the plan Like a 401(k)

Defined Benefit Plan This type of plan defines the benefits to be paid to employees at retirement. Contributions are computed using actuarial assumptions of future benefit payments

Accumulated Benefit Obligation (ABO) The actuarial present value of benefits attributed by a formula based on CURRENT and past compensation levels. Differs from PBO only in that it includes no assumption about future compensation levels

Projected Benefit Obligation The actuarial present value of all benefits attributed by the plans benefit formula to employee service rendered prior to that date Only uses an assumption as to FUTURE compensation levels Under IFRS, DBO (defined benefit obligation) and PBO are calculated in a similar manner

Prior Service Cost The cost of benefits based on past service granted for: Service prior to the initiation of a pension plan that employees receive retroactive credit for Subsequent plan amendment, reflecting new or increased benefits that is also applied to service already provided Increases the PBO in the period of plan initiation or amendment and should be amortized to pension expense over the future service periods of the affected employees

Calculating the PBO Beginning PBO + Service cost + Interest Cost + Prior service cost from current period plan amendments + Actuarial losses incurred in the period - Actuarial gains incurred in the period - Benefits paid to retirees = Ending PBO

Calculating Plan Assets or Actual Return on Plan Assets Beginning fair value of Plan Assets + Contributions + Actual return on plan assets - Benefits paid to retirees = Ending fair value of plan assets

Income Statement Expense Formula (SIR AGE) Service cost (current period) + Interest cost - Return on plan assets + Amortization of Prior Service Cost - Gains (+Losses) + Amortization of Existing net obligation or net asset = Net Periodic Pension Cost Under GAAP, must be aggregated and presented as one number; no such requirement under IFRS A-G-E: anything unamortized is in OCI Net Periodic Pension Cost Pension Benefit Liability OCI

Current Service Cost (S) This cost is provided by the actuary

Interest Cost (I) Beginning of period PBO * Discount rate

Return on Plan Assets (R) GAAP allows the use of either actual return or expected return on plan assets Actual return: can be calculated by looking at the plan assets account for the period Expected return: Beginning FV of plan assets * expected rate of return When companies use expected return, the difference between the actual and expected return must be recognized in OCI each period and amortized to pension expense over time with any actuarial gains or losses

Amortization of Unrecognized Prior Service Cost (A) The unrecognized prior service cost in Accumulated OCI is amortized to pension expense over the plan participants remaining years of service Beginning unrecognized prior service cost / average remaining service life

Gains and Losses (G) Gains and losses arise from two sources: The difference between the expected and actual return on plan assets when the expected return on plan assets is used to calculate pension expense Changes in actuarial assumptions (actuarial gains and losses) Under GAAP, there are two choices for when to account for gains and losses: Recognize on the income statement in the period incurred OR In OCI in the period incurred and amortize unrecognized gains and losses over time using the corridor approach Corridor approach: the unrecognized gain/loss is amortized over the employees remaining service period ONLY IF it exceeds 10% of the greater of: Beginning balance in plan assets OR PBO Unamortized belongs in AOCI

Amortization of Existing Net Obligation or Net Asset at Implementation (E) PBO FV of plan assets = Initial Unfunded obligation / 15 years OR average employee job life (greater of) = Minimum amortization

Pension Plan Contributions Pension benefit asset/liability Cash Funded status = FV of plan assets PBO Pension plan asset: overfunded, always a noncurrent asset Pension plan liability: underfunded, current to the extent that the benefit obligation payable in the next 12 months exceeds the FV of plan assets

Postretirement Benefits Other than Pensions / Other Deferred Compensation Must be accrued if: Attributable service is already rendered Obligation relates to rights that vest or accumulate Payment of the compensation is probable The amount can be reasonably estimated

Permanent Differences DO NOT affect the deferred tax computation Affect current, not deferred, taxes Examples of permanent differences: Tax-exempt interest (muni, state) Life insurance proceeds on an officers policy Life insurance premiums when the corporation is the beneficiary Certain penalties, fines, kickbacks Nondeductible portion of meals and entertainment expense (50%) Dividends received deduction for corporations Excess percentage depletion over cost depletion

Temporary Differences Affect current and deferred taxes

Accounting for Interperiod Tax Allocation Total income tax expense = Current income tax expense/benefit + Deferred income tax expense/benefit Current income tax expense/benefit is equal to the income taxes payable or refundable for the current year as determined on the corporate tax return Deferred income tax expense/benefit is equal to the change in deferred tax liability or asset account from the beginning to the end of the year

Deferred Tax Liabilities Created when temporary difference results in future tax income being GREATER than future accounting income (tax deductible first or tax income later) Examples of deferred tax liabilities Installment sales (tax income later) Contractors accounting (tax income later) Equity method (undistributed dividends tax income later) Depreciation expense (tax deductible first) Amortization of franchise (tax deductible first) Prepaid expenses (tax deductible first) When the difference between taxable income and financial statement income is negative, a deferred tax liability is created

Deferred Tax Assets Created when temporary difference results in future tax income being LOWER than future accounting income (tax income first or tax deductible later) Example of deferred tax assets Bad debt expense (tax deduct later) Estimated liability/warranty expense (tax deduct later) Start-up expenses (tax deduct later) Prepaid rent, royalties, interest (tax income first) Valuation allowance: if it is more than likely that part of a DTA will not be realized, a valuation allowance is recognized so that the net DTA equals the portion that will likely be realized (for amount expected not to be used) Not permitted under IFRS When the difference between current taxable income and financial statement income is positive, a deferred tax asset is created

Tax Rate Use the tax rate IN EFFECT when the temporary difference reverses itself to calculate the DTA or DTL IFRS permits the use of enacted or substantially enacted

Net Temporary Adjustment The deferred income tax expense/benefit is the difference between the beginning balance in the deferred tax account and the computed ending balance Beginning temporary differences + Current period temporary difference Total temporary differences * Enacted tax rate = Required Ending Balance Beginning balance = Required adjustment (deferred income tax expense)

Balance Sheet Presentation All deferred tax assets and liabilities classified as current must be netted and presented as one amount (net current deferred tax asset/liability) All deferred tax assets and liabilities classified as noncurrent must be netted and presented as one amount (net noncurrent deferred tax asset/liability) Under IFRS, all DTA and DTL are noncurrent

Operating Loss Carrybacks 100% collectible no valuation allowance necessary Can be carried back 2 years

Operating Loss Carryforwards If an operating loss is carried forward, the tax effects are recognized to the extent that the tax benefit is likely to be realized Valuation allowance may be necessary

Calculating the Carryback and Carryforward Net Operating Loss - Carryback: Income from prior 2 years = Net Carryforward Calculate income tax refund receivable from prior years (100% of income tax paid) Net Carryforward * Enacted rate = Deferred Tax Asset Valuation allowance (if necessary): Net Carryforward any future income = What Will Not Be Used Net Carryforward not used * enacted rate = Valuation Allowance

Book Value Per Common Share Book value per common share = common shareholders equity / common shares outstanding Common shareholders equity = Total shareholders equity preferred stock outstanding (at greater of call or par value) cumulative preferred dividends in arrears

Cumulative Preferred Stock All or part of the preferred dividend not paid in any year accumulates and must be paid in the future before dividends can be paid to common shareholders

Participating Preferred Stock Preferred shareholders share with common shareholders in dividends in excess of a specific amount Fully participating preferred shareholders participate in excess dividends without limit Partially participating there is a percentage limit in the excess

Convertible Preferred Stock May be exchanged for common stock at a specified conversion rate

Callable Preferred Stock May be called at a specific price

Mandatorily Redeemable Preferred Stock (Liability) Must be bought back by the company on the maturity date Classified as a liability

Calculation of Retained Earnings Net Income/Loss - Dividends declared +/- Prior period adjustments (i.e. correction of error), net of tax +/- Accounting changes reported retrospectively, net of tax + Adjustment from quasi-reorganization = Change in retained earnings

Quasi-Reorganization An accounting adjustment that revises the capital structure of a corporation as though it had been legally reorganized Allows a corporation with a significant deficit in retained earnings to eliminate that deficit Purpose: restate overvalued assets to their lower fair values NO CHANGE in total equity

Treasury Stock Reduces stockholders equity (normal debit balance) Methods of accounting: cost or par

Treasury Stock Cost Method The treasury shares are recorded and carried at their reacquisition cost Gain/loss is recognized at REISSUE Journal Entries: Buyback: Treasury stock (at COST) Cash Reissue above cost: Cash Treasury stock APIC T/S Reissue below cost: Cash APIC T/S Retained Earnings Treasury Stock

Treasury Stock Par Method The treasury shares are recorded and carried at par value Gain/loss is recognized at BUYBACK Journal Entries: Buyback above issue price: Treasury stock (at PAR) APIC C/S (note must be at original APIC amount) Retained earnings Cash Buyback below issue price: Treasury stock (at PAR) APIC C/S (note must be at original APIC amount) Cash APIC T/S (Plug) Reissue: Cash (amount received) Treasury Stock APIC C/S

Dividends A distribution to shareholders based on earnings Date of declaration: Create a liability and reduce retained earnings Date of record: NO JOURNAL ENTRY

Cash Dividend Dividends are only paid on authorized, issued and outstanding shares

Property (In-Kind) Dividend On the date of declaration, the property should be restated to fair value and any gain or loss should be recognized in income

Scrip Dividends A form of notes payable whereby a corporation commits to paying a dividend at a later date Typically when there is a cash shortage

Liquidating Dividends When dividends to shareholders exceed retained earnings

Stock Dividends Distribute additional shares of stock to shareholders Not dividend income to the shareholder Small stock dividend (less than 20% of previously outstanding shares issued): reduce retained earnings by the FMV of the stock Retained earnings (FMV) Common Stock PIC Large stock dividend (greater than 25% of previously outstanding shares issued): reduce retained earnings by PAR value of the stock Retained Earnings (at par) Common stock distributable Note: there is no change to total shareholders equity

Stock Splits No journal entry Increase the number of share outstanding and reduce the par value I.E. 2-for-1 stock split: double number of shares, cut par value in half

Noncompensatory Stock Option/Purchase Plan No journal entry until the stock is purchased; then, regular stock issuance entry

Compensatory Stock Option/Purchase Plan Valued at the fair value of the options issued

Option Price The price at which the underlying stock can be purchased pursuant to the option contract

Exercise Date The date by which the option holder must use the option to purchase the underlying

Fair Value of an Option Typically determined by an option pricing model

Grant Date The date the option is issued

Vesting Period Compensation expense is recognized over the service period, which typically is the vesting period

Compensation Cost Determined by the fair value of the options and recognized over the service period Compensation expense APIC stock options On exercise date: APIC stock options Common stock APIC Expiration: APIC stock options APIC expired stock options

Earnings Per Share Under GAAP and IFRS, all public entities are required to present earnings per share on the face of the income statement

Simple Capital Structure Report BASIC EPS ONLY A company that only has common stock outstanding has a simple capital structure Basic EPS is calculated as follows: (Net Income Preferred Dividends) / Weighted-Average Number of Shares Outstanding (WACSO) Preferred dividends includes: Dividends declared in the period on non-cumulative preferred stock AND Dividends accumulated in the period on cumulative preferred stock

WACSO Treat stock dividends and stock splits as though they occurred at the beginning of the period Time weight all other securities

Complex Capital Structure Report BASIC AND DILUTED EPS An entity has a complex capital structure when it has securities that can potentially be converted to common stock and would therefore reduce (dilute) EPS Both basic and diluted EPS must be presented Diluted EPS is calculated as follows: (Net Income Preferred Dividends) + interest on dilutive securities / WACSO assuming all dilutive securities are converted to common stock

Dilution from Options, Warrants, and their equivalents NO CHANGE IN THE NUMERATOR Apply the treasury stock method: Formula to compute additional shares: Number of shares issued ((# of shares * exercise price)/average market price) = additional shares outstanding

Dilutive vs. Anti-dilutive Options are only dilutive when the average market price is GREATER than the strike price

Dilution from Convertible Bonds Add to the numerator the interest expense, net of tax, due to assumed conversion of the bonds to common stock Interest expense * (1 tax rate) => add to numerator Add to the denominator the number of common shares associated with the assumed conversion

Anti-dilutive Use the results of each assumed conversion only if it results in dilution Each issue should be considered separately from most to least dilutive

Dilution from Convertible Preferred Stock Adjust the numerator preferred stock dividends removed as if they no longer existed Add to the denominator the number of shares associated with the conversion Anti-dilution rules apply

Statement of Cash Flows A required part of a full set of financial statements for all business enterprises

Operating Cash Flows Cash receipts and disbursements from: Transactions reported on the income statement Current assets and liabilities (excluding current notes payable and current portion of long-term debt financing activities)

Investing Cash Flows Cash receipts and disbursements from: Noncurrent Assets

Financing Cash Flows Cash receipts and disbursements from: Debt Equity

Operating Activities Direct Method Cash received from customers (+) Revenues Increase in receivables + Decrease in receivables + Increase in unearned revenue Decrease in unearned revenue = Cash received from customers Interest received (US GAAP) (+) Dividends received (US GAAP) (+) Other operating cash receipts such as the receipt of insurance proceeds and lawsuit settlements (+) Cash received from the sales of securities classified as trading securities, if classified as current assets (+) - Cash paid to suppliers COGS + Increase in inventory Decrease in inventory Increase in accounts payable + Decrease in accounts payable = Cash paid to suppliers - Cash paid to employees Salaries and wages expense Increase in wages payable + Decrease in wages payable = Cash paid to employees - Interest paid (US GAAP) - Income taxes paid (US GAAP) - Cash paid to acquire securities classified as trading securities, if classified as current assets - Other operating cash payments Other operating expenses Decrease in prepaid expenses + Increase in prepaid expenses + Decrease in accrued liabilities Increase in accrued liabilities = Cash paid for other expenses

Operating Activities Indirect Method Net Income per income statement + Depreciation / amortization expense + Losses - Gains / amortization of premium - Earnings of equity affiliate - Increase in operating assets + Decrease in operating assets + Increase in operating liabilities - Decrease in operating liabilities

Investing Activities The change in non-current assets such as: Making loans to other entities Purchasing / disposing of trading (noncurrent), AFS, and HTM securities Acquiring / disposing of PP&E Acquiring another entity under the acquisition method using cash

Financing Activities The change in interest-bearing debt and equity Equity activities: Issuing stock Paying dividends or repurchasing stock Non-current liability activities: Issuing bonds, notes, and other borrowings Payment of principal (note: INTEREST IS IN OPERATING ACTIVITIES)

IFRS Differences in Reporting Cash Flow Interest received operating or investing Interest paid operating or financing Dividends received operating or financing Dividends paid operating or financing Taxes paid operating, investing, or financing

Dual Objective of Governmental Accounting Demonstrate operational accountability for the entity as a whole Demonstrate fiscal accountability for specific funding

Purpose of Fund Accounting Enables service and mission-driven organizations to easily monitor and report compliance with spending purposes, spending limits, and other fiscal accountability objectives Funds = legal restrictions

Governmental Accounting Principals and Standards GASB establishes accounting and reporting standards for governments Note: FASB establishes accounting and reporting standards for Not-For-Profit organizations GAO prescribes government audit standards

Definition of a Fund A fund is a sum of money or other resource segregated for the purpose of carrying on a specific activity or attaining certain objectives in accordance with specific regulations, restrictions, or limitations, constituting an independent fiscal and accounting entity. Each fund is a self-balancing set of accounts

Fund Structure Government Governmental funds Proprietary funds Fiduciary funds

Government-Wide Presentations (Consolidated Financial Statements) Full accrual basis of accounting Economic resources measurement focus Classified in two categories: Government activities (GRaSPP + S) Business-type activities (E)

Major Fund Statements (like segment reporting) Major funds are presented using the basis of accounting and measurement focus unique to each category of fund. Only major funds are presented

Governmental Funds (no profit motive) Modified accrual basis of accounting Current financial resources measurement focus (no fixed assets or long-term debt) Governmental fund types (GRaSPP): General Fund Special Revenue Fund Debt Service Fund Capital Projects Fund Permanent Fund Balance Sheet: Current assets and deferred outflows = Current liabilities and deferred inflows of resources + Fund balance Statement of Revenues, Expenditures, and Changes in Fund Balance Revenues Expenditures + Other financing sources (uses) = Net change in fund assets

Proprietary Funds (treat like customer / not citizen) Full accrual accounting Economic resources measurement focus (carry everything fixed assets and long term debt) Proprietary fund types (SE): Internal Service Fund Enterprise Fund Statement of Net Position: All assets and deferred outflows of resources All liabilities and deferred inflows of resources = Net Position Statement of Revenues, Expenses, and Changes in Net Fund Position Operating revenue Operating expenses + Non-operating revenues (expenses) = Change in net position

Fiduciary Funds (trust accounts) Full accrual accounting Economic resources measurement focus (carry everything fixed assets and long term debt) Fiduciary fund types (PAPI): Pension Trust Fund Agency Trust Fund Private Purpose Trust Fund Investment Trust Fund Statement of Fiduciary Net Position: All assets and deferred outflows of resources All liabilities and deferred inflows of resources = Net position Statement of Changes in Fiduciary Net Position Additions Deductions = Changes in net position

Balance Sheet Measurement Focus Current Financial Resources (GRaSPP Funds) Modified accrual accounting No fixed assets are reported No no-current liabilities are reported Economic Resources (SE-PAPI Funds) Full accrual accounting Fixed assets are reported Non-current liabilities are reported

Income Statement Basis of Accounting Modified accrual (GRaSPP Funds) Revenue is recognized when measurable and available Available = collectible within the current period or soon enough thereafter to be used to pay liabilities in the current period (60 days) Expenditures are generally recorded when the related fund liability is incurred Full accrual (SE-PAPI Funds) Revenue is recognized when earned Expenses are recognized when incurred

Classification of Governmental Fund Balances (NU CAR) ON BALANCE SHEET There are five degrees of constraint associated with the current equity of the fund Non-Spendable Fund balance: current assets that cannot be spent Restricted Fund balance: assets restricted by external authorities Committed Fund balance: assets obligated by a formal action of the governments highest decision making authority Assigned Fund balance: assets the government intends to obligate but has not formally committed Unassigned fund balance: spendable assets neither restricted, committed, nor assigned Only the general fund should have a positive unassigned balance

Modified Accrual Accounting (GRaSPP Funds) Budgetary accounting is emphasized in order to control spending Activity emphasizes flow of current financial resources Encumbrance accounting is used to record purchase orders Book and Close the Budget-Activity-Encumbrance for the same amount BAE-BAE

Budgetary Accounting Budgetary accounting is used by the GRaSPP funds It is used to control expenditures and to account for the levy of taxes sufficient to cover estimated expenditures

Budgetary Accounting Journal Entries Budgetary accounts are posted only twice during the year beginning and end Beginning budgetary control entry: Estimated revenue control Estimated other financing sources Budgetary control (negative / deficit) Appropriations control (approved spending) Estimated other financing uses Budgetary control (positive / surplus) Ending the budget is reversed and closed for the SAME AMOUNTS as those recorded in the beginning of the period: Appropriations Estimated other financing uses Budgetary control (positive / surplus) Estimated revenue control Estimated other financing sources Budgetary control (negative)

Activity Accounting Emphasis is on the flow of current financial resources, not profit and loss There is no application of the matching principle

Activity Revenue Government fund revenues are recorded when measurable and available this usually means the collection period does not exceed 60 days after fiscal year end Derived Tax revenues taxes imposed on or derived from exchange transactions (sales tax and income tax) Revenue when measurable and available Imposed non-exchange revenues taxes imposed on non-exchange transactions (fines or property taxes) Revenue when billed Government mandated non-exchange transactions instances in which a higher level of government provides funds and mandates certain activities by another level of government Revenue when earned Voluntary Non-exchange transactions instances in which the government receives resources and does not provide equal value (grant agreements) Revenue when earned

Activity Expenditures Options for expenditure recognition: Purchase method: expenditure current assets when purchased and reverse (set up current asset) for items not used during the period Buying: Expenditures Vouchers payable Year end: Supplies inventory Non-spendable fund balance inventory Consumption method: set up as a current asset when purchased and expenditure as consumed Buying: Supplies inventory Voucher payable Use of item: Expenditure Supplies inventory Transfers between funds: although not an expenditure, transfers out represent the use of financial resources Other financing uses transfers out Cash Classification of governmental expenditures: Functional or program Organizational unit Activity Character Object classes Fixed Assets: the acquiring of a fixed asset is not capitalized on the funds books. Instead, it is considered an expenditure of the funds Fixed assets are reported on the government-wide statements Long term debts: proceeds from long-term debts are recorded in the governmental funds as other financing sources. The governmental funds do not record or carry long-term debt Repayments of long-term debt are recorded as expenditures of both principal and interest Long-term debt is carried on the government-wide financial statements

Encumbrances Not a GAAP expenditure Open purchase order represent an encumbrance or commitment of the available appropriations of a government Set up the budgetary control: Encumbrances Budgetary control Reverse estimated encumbrances (SAME AMOUNT): Budgetary control Encumbrances Record actual expenditures: Expenditures Vouchers payable Outstanding encumbrances at year-end will be carried forward within the appropriate fund balance classification with a corresponding reduction of unassigned fund balance, if the appropriations do not lapse

Deferred Outflows and Deferred Inflows of Resources Service concession arrangements Derivative instruments and hedge accounting

General Fund Accounts for the general activities of a government that are not accounted for by any other fund

Special Revenue Fund Accounts for revenue and expenditures that are legally restricted or committed for specific purposes other than debt service or capital projects Expendable trust activities should be reported in the special revenue fund (scholarship and endowment funds) Grants that are monitored belong in the special revenue fund

Debt Service Fund Accounts for the accumulation of resources and the payment of currently due interest and principal on long-term general obligation debt by setting aside cash and cash equivalents Only pays off the debt of the GRaSPP funds Encumbrances are not used interest payments are considered expenditures

Capital Projects Fund (Purchasing department) Established for the construction, purchase, or leasing of significant fixed assets used by GOVERNMENTAL FUNDS ONLY The life of the capital projects is short and limited to a construction period of 1-3 years Special assessments: when the government is primarily or potentially liable, report in the capital project fund If NOT liable, report in the agency fund Bond Issue proceeds: other financing sources on the income statement

Permanent Funds Used to report resources that are legally restricted to the extent that only earnings (and not principal) may be used for the purposes that support the reporting governments programs Does NOT record encumbrances

Internal Service Fund (customer / not citizen) Established to finance and account for services and supplies provided exclusively to other departments within a government unit or to other governmental units, typically on a cost-reimburse basis Use accrual accounting Record long-term liabilities and fixed assets Fixed assets are depreciated Net Position (RUN) Restricted Unrestricted Net Investment in capital assets

Enterprise Fund (customer / not citizen) Used to account for operations that are financed and operated in a manner similar to private business enterprise Use accrual accounting Record long-term liabilities and fixed assets Fixed assets are depreciated Net Position (RUN) Restricted Unrestricted Net Investment in capital assets Municipal Landfills Cost components Cost of equipment expected to be installed and facilities expected to be constructed near or after the date the landfills stops accepting waste Cost of gas monitoring and collection system Cost of final cover (capping) A portion is recognized as an expense and a liability each period according to use

Pension Trust Funds Account for government sponsored defined benefit and defined contribution plans and other employee benefits such as post retirement healthcare benefits Use accrual accounting Changes in net pension liability are typically included in the pension expense Certain changes in the liability that are not included in pension expense are required to be reported as deferred outflows or deferred inflows of resources Statement of cash flows NOT required (true for all Fiduciary PAPI funds)

Agency Trust Fund (mailman) An agency fund collects cash to be held temporarily for an authorized recipient to whom it will later be disbursed may be another fund / individual / firm / government No liability or monitoring of funds report in the agency fund Current assets = current liabilities Statement of cash flows NOT required

Private Purpose Trust (NOT general public use) The designated fund for reporting all other trust arrangements under which principal and income are for the benefit of one of the following: Specific individuals Private organizations Other governments Use accrual accounting

Investment Trust Funds Reports any external investment pool that is sponsored by the government

Government-wide Financial Statements (Operational Accountability) The focus of the government-wide financial statements is to report the extent to which the government has met its operating objectives efficiently and effectively

Fund Financial Statements (Fiscal Accountability) The focus of the fund financial statements is to demonstrate that the government entitys actions in the current period have complied with public decisions concerning the raising and spending of the public funds in the short term

Reporting For General Purpose Governmental Units Required reports: Managements Discussion and Analysis (MD&A) Before Financial Statements Government-wide Financial Statements Statement of Net Position Statement of Activities Fund Financial Statements major funds shown individually; nonmajor in total Governmental Funds Balance Sheet Statement of Revenues, Expenditures, and Changes in Fund Balance Proprietary Funds Statement of Net Position Statement of Revenues, Expenses, and Changes in Fund Net Position Statement of Cash Flows Fiduciary Funds Statement of Fiduciary Net Position Statement of Changes in Fiduciary Net Position Notes to Financial Statements Required Supplementary Information (RSI) other than MD&A After the Financial statements Pension Budget comparison schedules Infrastructure Optional Reporting: Comprehensive Annual Financial Report (CAFR) Intro Section Basic Financial Statements and RSI (Includes all required reports) Statistical Section

Primary Government The primary government consists of all organizations that make up the legal government entity

Primary Government Entities (SELF) State governments Local governments Special purpose local governments that meet ALL of the following criteria: Separately-Elected governing body Legally separate Fiscally independent of other state and local governments Primary government reports by it-SELF

Component Unit A component unit of the primary government is usually an organization for which the elected officials of the primary government are financially accountable By its nature, it cannot be excluded from the primary governments financial statements without making the primary governments financial statements misleading or incomplete

Blended Presentation The blended method is used when: A board of the component unit is substantively the same as that of the primary government OR The component unit serves the primary government exclusively or almost exclusively OR The component unit is not a separate legal entity The blended presentation combines financial information with the primary government

Discrete Presentation (Separate Presentation) Discrete presentation is used when the criteria for blended presentation are not met Displays component units in separate columns

Managements Discussion and Analysis (MD&A) Does NOT contain variance analysis or reconciliation of fund financials to government-wide financials

Government-Wide Financial Statements Use full accrual accounting Economic resources measurement focus Report all assets and liabilities

Statement of Net Position Assets Liabilities = Net Position (RUN) Not necessary to capitalize construction period interest Required and Modified approach Required: all assets meeting capitalization requirements should be recorded and depreciated Modified: eligible infrastructure assets are not required to be depreciated if it meets two requirements: The governments asset management system meets certain conditions Government documentation should include data on asset preservation Artwork and Historical Treasures (SAME RULES AS NOT FOR PROFITS) Governments may elect not to capitalize works of art when the collection meets the following conditions Collection is held for public exhibition Collection is protected Collection is subject to an organizational policy that requires the proceeds from sales of collection items to be used to acquire other items for collections

Statement of Activities The net expense or revenue for each function or program is classified into one of these categories: Governmental activities (GRaSPP + S) Business-type activities (E) Component units (rescue squad or board of education) Expenses are reported by function on the full accrual basis Program revenues are directly associated with the function or program on the full accrual basis

Program Revenue Categories (SOC) Service charges revenues based on exchange-like transactions Operating grants and contributions mandatory and voluntary non-exchange transactions with other governments, organizations, or individuals restricted for use in a particular program Capital grants and contributions

Fund Financial Statements Financial statements are required for the governmental, proprietary, and fiduciary funds

Major Fund Reporting Criteria The GRaSPP funds and enterprise funds are individually compare to the total governmental and enterprise funds (respectively) and must meet two criteria: 10% or more of the revenues/expenditures, assets/liabilities of all governmental funds OR all enterprise funds AND 5% or more of the revenues/expenditures, assets/liabilities of all governmental funds AND all enterprise funds

Reconciliation of Fund Financials to Government-Wide Statements (GRaSPP + S) Balance Sheet (GALS BARE) GRaSPP Fund Balance + Assets (non-current) Liabilities (non-current) + Service (internal) fund net position Basis of accounting (adjustments) Accrued Revenues and Expenses Statement of Revenues, Expenditures, and Changes in Fund Balance (GOES BARE) GRaSPP net change in fund balance Other financing sources + Expenditure capital outlay (net of depreciation) +Service (internal) fund net income Basis of accounting (adjustments) Accrued Revenues and Expenses

Proprietary Funds Statement of Cash Flows Direct method is required Reconciliation of operating income to net cash provided by operations required Four categories: Operating activities Capital and related financing activities Non-capital financial activities Investing activities Capital assets are financing activities Interest expense/payments are financing activities

Fiduciary Funds (PAPI) NOT INCLUDED IN GOVERNMENT-WIDE STATEMENTS

Industries that Frequently Use Not-For-Profit Accounting Health care organizations Educational institutions Voluntary health and welfare organizations Other private, non-governmental not for profits

NFP Required Financial Statements Statement of Financial Position (balance sheet) Statement of Activities (income statement) Statement of Cash flows Statement of functions expenses Required for voluntary health and welfare organizations Optional for the rest

NFP Statement of Financial Position Assets, Liabilities, and Net Assets (equity) Net Assets (PUT) Unrestricted net assets not permanently or temporarily restricted, internal-board designated funds Temporarily restricted net assets donor-imposed stipulations either expire by passage of time or can be fulfilled and removed by actions of the organization Permanently restricted net assets limited by donor-imposed stipulations that neither expire by passage of time NOR can be fulfilled or otherwise removed by actions of the organization

NFP Statement of Activities Classification of Revenue, Gains, and Other Support (PUT) Unrestricted net assets not permanently or temporarily restricted, internal-board designated funds Temporarily restricted net assets donor-imposed stipulations either expire by passage of time or can be fulfilled and removed by actions of the organization Permanently restricted net assets limited by donor-imposed stipulations that neither expire by passage of time NOR can be fulfilled or otherwise removed by actions of the organization Timing of Reclassification of Restrictions Donor-imposed restrictions are recorded as restricted revenue in the period received When satisfied, a reclassification is reported If met in the same period received, may be recorded as unrestricted support if the policy is applied consistently and disclosed Classification of Expenses Expenses are reported as decreases in unrestricted net assets ONLY Program services activities for which the organization is chartered Support services include everything not classified as a program service Combined costs if fundraising costs are combined with educational services, should be allocated

NFP Statement of Cash Flows Either the direct or the indirect method may be used Operating activities Include applicable agency transactions Under the direct method, should be reported by major class of cash receipts Financing activities include the cash transactions related to borrowing and cash transactions related to certain restricted contributions Increases to an endowment, purchases of assets, annuity agreements Investing activities Include proceeds from the sale/purchase of works of art Include investment in equipment Proceeds from the sale of assets that were received in prior periods and whose sale proceeds were restricted to investment in equipment Cash and cash equivalents Exclude donor-restricted securities

NFP Statement of Functional Expenses Required for voluntary health and welfare organizations Classification of expenses: Program support expenses Fund-raising expenses Management and general costs Multiple cost items

Contributions and Recognition Cash contributions should be recognized as revenue when received Asset at FV Contribution support revenue Pledge should be recognized as revenue when the promise is made Conditional pledge should be recognized when the