Introduction to Financial Accounting Principles and Concepts
Accounting
The information system that identifies, records, and communicates the economic events of an organization to interested users.
Annual Report
A report prepared by corporate management that presents financial information including financial statements, a management discussion and analysis section, notes, and an independent auditor’s report.
Assets
Resources owned by a business.
Auditor’s Report
A report prepared by an independent outside auditor stating the auditor’s opinion as to the fairness of the presentation of the financial position and results of operations and their conformance with generally accepted accounting principles.
Balance Sheet
A financial statement that reports the assets and claims to those assets at a specific point in time.
Certified Public Accountant (CPA)
An individual who has met certain criteria and is thus allowed to perform audits of corporations.
Common Stock
Term used to describe the total amount paid in by stockholders for the shares they purchase.
Corporation
A business organized as a separate legal entity owned by stockholders.
Dividends
Payments of cash from a corporation to its stockholders.
Expenses
The cost of assets consumed or services used in the process of generating revenues.
Income Statement
A financial statement that reports a company’s revenues and expenses and resulting net income or net loss for a specific period of time.
Liabilities
Amounts owed to creditors in the form of debts and other obligations.
Management Discussion and Analysis (MD&A)
A section of the annual report that presents management’s views on the company’s ability to pay near-term obligations, its ability to fund operations and expansion, and its results of operations.
Net Income
The amount by which revenues exceed expenses.
Net Loss
The amount by which expenses exceed revenues.
Notes to the Financial Statements
Notes clarify information presented in the financial statements and provide additional detail.
Partnership
A business owned by two or more persons associated as partners.
Retained Earnings
The amount of net income retained in the corporation.
Retained Earnings Statement
A financial statement that summarizes the amounts and causes of changes in retained earnings for a specific time period.
Revenue
The increase in assets or decrease in liabilities resulting from the sale of goods or the performance of services in the normal course of business.
Sarbanes-Oxley Act (SOX)
Regulations passed by Congress to reduce unethical corporate behavior.
Sole Proprietorship
A business owned by one person.
Statement of Cash Flows
A financial statement that provides financial information about the cash receipts and cash payments of a business for a specific period of time.
Stockholders’ Equity
The owners’ claim to assets.
Classified Balance Sheet
A balance sheet that groups together similar assets and similar liabilities, using a number of standard classifications and sections.
Comparability
Ability to compare the accounting information of different companies because they use the same accounting principles.
Consistency
Use of the same accounting principles and methods from year to year within a company.
Cost Constraint
Constraint that weighs the cost that companies will incur to provide the information against the benefit that financial statement users will gain from having the information available.
Current Assets
Assets that companies expect to convert to cash or use up within one year or the operating cycle, whichever is longer.
Current Liabilities
Obligations that a company expects to pay within the next year or operating cycle, whichever is longer.
Current Ratio
A measure of liquidity computed as current assets divided by current liabilities.
Debt to Assets Ratio
A measure of solvency calculated as total liabilities divided by total assets. It measures the percentage of total financing provided by creditors.
Earnings Per Share (EPS)
A measure of the net income earned on each share of common stock; computed as net income minus preferred dividends divided by the average number of common shares outstanding during the year.
Economic Entity Assumption
An assumption that every economic entity can be separately identified and accounted for.
Fair Value Principle
Assets and liabilities should be reported at fair value (the price received to sell an asset or settle a liability).
Faithful Representation
Information that is complete, neutral, and free from error.
Financial Accounting Standards Board (FASB)
The primary accounting standard-setting body in the United States.
Free Cash Flow
Net cash provided by operating activities after adjusting for capital expenditures and cash dividends paid.
Full Disclosure Principle
Accounting principle that dictates that companies disclose circumstances and events that make a difference to financial statement users.
Generally Accepted Accounting Principles (GAAP)
A set of accounting standards that have substantial authoritative support, that guide accounting professionals.
Going Concern Assumption
The assumption that the company will continue in operation for the foreseeable future.
Historical Cost Principle
An accounting principle that states that companies should record assets at their cost.
Intangible Assets
Assets that do not have physical substance.
International Accounting Standards Board (IASB)
An accounting standard-setting body that issues standards adopted by many countries outside of the United States.
International Financial Reporting Standards (IFRS)
Accounting standards, issued by the IASB, that have been adopted by many countries outside of the United States.
Liquidity
The ability of a company to pay obligations that are expected to become due within the next year or operating cycle.
Liquidity Ratios
Measures of the short-term ability of the company to pay its maturing obligations and to meet unexpected needs for cash.
Long-Term Investments
Generally, (1) investments in stocks and bonds of other corporations that companies hold for more than one year; (2) long-term assets, such as land and buildings, not currently being used in the company’s operations; and (3) long-term notes receivable.
Long-Term Liabilities (Long-Term Debt)
Obligations that a company expects to pay after one year.
Materiality
Whether an item is large enough to likely influence the decision of an investor or creditor.
Monetary Unit Assumption
An assumption that requires that only those things that can be expressed in money are included in the accounting records.
Operating Cycle
The average time required to purchase inventory, sell it on account, and then collect cash from customers—that is, go from cash to cash.
Periodicity Assumption
An assumption that the life of a business can be divided into artificial time periods and that useful reports covering those periods can be prepared for the business.
Profitability Ratios
Measures of the operating success of a company for a given period of time.
Property, Plant, and Equipment
Assets with relatively long useful lives that are currently used in operating the business.
Public Company Accounting Oversight Board (PCAOB)
The group charged with determining auditing standards and reviewing the performance of auditing firms.
Ratio
An expression of the mathematical relationship between one quantity and another.
Ratio Analysis
A technique that expresses the relationship among selected items of financial statement data.
Relevance
The quality of information that indicates the information makes a difference in a decision.
Securities and Exchange Commission (SEC)
The agency of the U.S. government that oversees U.S. financial markets and accounting standard-setting bodies.
Solvency
The ability of a company to pay interest as it comes due and to repay the balance of debt due at its maturity.
Solvency Ratios
Measures of the ability of the company to survive over a long period of time.
Statement of Stockholders’ Equity
A financial statement that presents the causes of changes to stockholders’ equity during the period, including those that caused retained earnings to change.
Timely
Information that is available to decision-makers before it loses its capacity to influence decisions.
Understandability
Information presented in a clear and concise fashion so that users can interpret it and comprehend its meaning.
Verifiable
The quality of information that occurs when independent observers, using the same methods, obtain similar results.
Working Capital
The difference between the amounts of current assets and current liabilities
Account
An individual accounting record of increases and decreases in specific asset, liability, stockholders’ equity, revenue, or expense items.
Accounting Information System
The system of collecting and processing transaction data and communicating financial information to decision-makers.
Accounting Transactions
Events that require recording in the financial statements because they affect assets, liabilities, or stockholders’ equity.
Chart of Accounts
A list of a company’s accounts.
Credit
The right side of an account.
Debit
The left side of an account.
Double-Entry System
A system that records the two-sided effect of each transaction in appropriate accounts.
General Journal
The most basic form of journal.
General Ledger
A ledger that contains all asset, liability, stockholders’ equity, revenue, and expense accounts.
Journal
An accounting record in which transactions are initially recorded in chronological order.
Journalizing
The procedure of entering transaction data in the journal.
Ledger
The group of accounts maintained by a company.
Posting
The procedure of transferring journal entry amounts to the ledger accounts.
T-Account
The basic form of an account.
Trial Balance
A list of accounts and their balances at a given time
Accrual-Basis Accounting
Accounting basis in which companies record, in the periods in which the events occur, transactions that change a company’s financial statements, even if cash was not exchanged.
Accrued Expenses
Expenses incurred but not yet paid in cash or recorded.
Accrued Revenues
Revenues for services performed but not yet received in cash or recorded.
Adjusted Trial Balance
A list of accounts and their balances after all adjustments have been made.
Adjusting Entries
Entries made at the end of an accounting period to ensure that the revenue recognition and expense recognition principles are followed.
Book Value
The difference between the cost of a depreciable asset and its related accumulated depreciation.
Cash-Basis Accounting
Accounting basis in which a company records revenue only when it receives cash and an expense only when it pays cash.
Closing Entries
Entries at the end of an accounting period to transfer the balances of temporary accounts to a permanent stockholders’ equity account, Retained Earnings.
Contra Asset Account
An account that is offset against an asset account on the balance sheet.
Depreciation
The process of allocating the cost of an asset to expense over its useful life.
Earnings Management
The planned timing of revenues, expenses, gains, and losses to smooth out bumps in net income.
Expense Recognition Principle (Matching Principle)
The principle that matches expenses with revenues in the period when the company makes efforts to generate those revenues.
Fiscal Year
An accounting period that is one year long.
Income Summary
A temporary account used in closing revenue and expense accounts.
Periodicity Assumption
An assumption that the economic life of a business can be divided into artificial time periods.
Permanent Accounts
Balance sheet accounts whose balances are carried forward to the next accounting period.
Post-Closing Trial Balance
A list of permanent accounts and their balances after a company has journalized and posted closing entries.
Prepaid Expenses (Prepayments)
Expenses paid in cash before they are used or consumed.
Quality of Earnings
Indicates the level of full and transparent information that a company provides to users of its financial statements.
Revenue Recognition Principle
The principle that companies recognize revenue in the accounting period in which the performance obligation is satisfied.
Reversing Entry
An entry made at the beginning of the next accounting period; the exact opposite of the adjusting entry made in the previous period.
Temporary Accounts
Revenue, expense, and dividend accounts whose balances a company transfers to Retained Earnings at the end of an accounting period.
Unearned Revenues
Cash received and a liability recorded before services are performed.
Useful Life
The length of service of a productive asset.
Worksheet
A multiple-column form that companies may use in the adjustment process and in preparing financial statements