WALL STREET PREP: ACCOUNTING CRASH COURSE
QUESTIONS AND CORRECT VERIFIED ANSWERS
LATEST UPDATED
What is Accounting?
Accounting is the language of business; it is a standard set of rules for measuring a
company's financial performance.
Assessing a company's financial performance is important for:
The firm's officers (managers and employees)
Investors
Lenders
General public
Standard financial statements serve as a "yardstick" of communicating financial
performance to the general public.
Why is Accounting Important?
Enables managers to make corporate decisions
Enables the general public to make investment decisions
Who Uses Accounting?
Used by a variety of organizations - from the federal government to non-profit
organizations to small businesses to corporations
We will discuss accounting rules as they pertain to publicly-traded companies
Accounting Regulations
Accounting attempts to standardize financial information and follows rules and
regulations
These rules are called Generally Accepted Accounting Principles (GAAP)
,In the US, the Securities and Exchange Commision (SEC) authorizes the Financial
Accounting Standards Board (FASB) to determine accounting rules
GAAP comes from the Statements of Financial Accounting Standards (SFAS) issued by
the FASB
An Overview of the SEC
A US federal agency established by the US Congress in 1934
Primary mission is "to protect investors and maintain the integrity of the securities
markets"
Division of Corporate Finance oversees FASB
An Overview of FASB
Established in 1973 as an independent body to carry out the function of codifying
accounting standards on the behalf of the SEC
Composed of seven full-time members appointed for five years by the Financial Account
Foundation (FAF)
Decisions are influenced by:
International Financial Reporting Standards (IFRS)
Over 100 countries, including the EU, UK, Canada, Australia, and Russia, have adopted
a unified set of international accounting standards (IFRS)
Although we have seen unprecedented convergence over the last few years between
US GAAP and IFRS, some differences remain
Assumption 1: Accounting Entity
A company is considered a separate "living" enterprise, apart from its owners
In other words, a corporation is a "fictional" being
Assumption 2: Going Concern
A company is considered a "going concern" for the foreseeable future; it is assumed to
remain in existence indefinitely
Assumption 3: Measurement
Financial statements can only show measurable activities of a corporation such as its
quantifiable resources, its liability, amount of taxes it is facing, etc.
Assumption 4: Periodicity
,Companies are required to file annual and interim reports
In the US, quarterly and annual financial reports are required
An accounting year (fiscal year) is frequently aligned with the calendar year
Four Underlying Assumptions of Accounting
(1) Accounting Entity
(2) Going Concern
(3) Measurement
(4) Periodicity
Principle 1: Historical Cost
Financial statements report companies' resources at an initial historical cost
Why?
Represents the easiest measurement method without a need for appraisal and
revaluation
Marking resources up to fair value allows for management discretion and subjectivity,
which US GAAP attempts to minimize by using historical cost
Note: IFRS allows you to write up the asset to fair value, but most companies use
historical value anyways
Principles 2 and 3: Accrual Accounting (Revenue Recognition and Matching
Principle)
Governs the company's timing in recording its revenues (i.e. sales) and associated
expenses
2) Revenue Recognition: Accrual basis of accounting dictates that revenues must be
recorded when earned and measurable
3) Matching Principle: Under the matching principle, costs associated with making a
product must be recorded during the same period as revenue generated from that
product
Exercise Answer: 1) 1/4/15; 2) 1/4/15
Why can't companies immediately record these revenues and expenses?
According to the revenue recognition principle, a company cannot record revenue until
that order is shipped to a customer (only then, is the revenue actually earned) and
collection from that customer is reasonably assured
, Why shouldn't a company record an expense when it actually buys the item?
According to the matching principle, costs associated with the production of the product
should be recorded in the same period as the revenue from the product's sale
US GAAP vs. IFRS Accrual Accounting
Principle 4: Full Disclosure
Companies must reveal all relevant economic information that they determine to make a
difference to its users
Such disclosure should be accomplished in the following sections of companies' reports:
(1) Financial statements
(2) Notes to financial statements
(3) Supplementary information
Four Underlying Principles in Accounting
(1) Historical Cost
(2) Accrual Accounting: Revenue Recognition
(3) Accrual Accounting: Matching Principle
(4) Full Disclosure
Constraint 1: Estimates & Judgments
Certain measurements cannot be performed completely accurately, and must therefore
utilize conservative estimates and judgments
Constraint 2: Materiality
Inclusion and disclosure of financial transactions in financial statements hinge on their
size and effect on the company performing them
Note: Materiality varies across different entities
Constraint 3: Consistency
Each company has to prepare financial statements using measurement techniques and
assumptions which are consistent from one period to another
Constraint 4: Conservatism
Financial statements should be prepared with a downward measurement bias
Assets and revenues should not be overstated, while liabilities and expenses should not
be understated
Four Underlying Constraints in Accounting
QUESTIONS AND CORRECT VERIFIED ANSWERS
LATEST UPDATED
What is Accounting?
Accounting is the language of business; it is a standard set of rules for measuring a
company's financial performance.
Assessing a company's financial performance is important for:
The firm's officers (managers and employees)
Investors
Lenders
General public
Standard financial statements serve as a "yardstick" of communicating financial
performance to the general public.
Why is Accounting Important?
Enables managers to make corporate decisions
Enables the general public to make investment decisions
Who Uses Accounting?
Used by a variety of organizations - from the federal government to non-profit
organizations to small businesses to corporations
We will discuss accounting rules as they pertain to publicly-traded companies
Accounting Regulations
Accounting attempts to standardize financial information and follows rules and
regulations
These rules are called Generally Accepted Accounting Principles (GAAP)
,In the US, the Securities and Exchange Commision (SEC) authorizes the Financial
Accounting Standards Board (FASB) to determine accounting rules
GAAP comes from the Statements of Financial Accounting Standards (SFAS) issued by
the FASB
An Overview of the SEC
A US federal agency established by the US Congress in 1934
Primary mission is "to protect investors and maintain the integrity of the securities
markets"
Division of Corporate Finance oversees FASB
An Overview of FASB
Established in 1973 as an independent body to carry out the function of codifying
accounting standards on the behalf of the SEC
Composed of seven full-time members appointed for five years by the Financial Account
Foundation (FAF)
Decisions are influenced by:
International Financial Reporting Standards (IFRS)
Over 100 countries, including the EU, UK, Canada, Australia, and Russia, have adopted
a unified set of international accounting standards (IFRS)
Although we have seen unprecedented convergence over the last few years between
US GAAP and IFRS, some differences remain
Assumption 1: Accounting Entity
A company is considered a separate "living" enterprise, apart from its owners
In other words, a corporation is a "fictional" being
Assumption 2: Going Concern
A company is considered a "going concern" for the foreseeable future; it is assumed to
remain in existence indefinitely
Assumption 3: Measurement
Financial statements can only show measurable activities of a corporation such as its
quantifiable resources, its liability, amount of taxes it is facing, etc.
Assumption 4: Periodicity
,Companies are required to file annual and interim reports
In the US, quarterly and annual financial reports are required
An accounting year (fiscal year) is frequently aligned with the calendar year
Four Underlying Assumptions of Accounting
(1) Accounting Entity
(2) Going Concern
(3) Measurement
(4) Periodicity
Principle 1: Historical Cost
Financial statements report companies' resources at an initial historical cost
Why?
Represents the easiest measurement method without a need for appraisal and
revaluation
Marking resources up to fair value allows for management discretion and subjectivity,
which US GAAP attempts to minimize by using historical cost
Note: IFRS allows you to write up the asset to fair value, but most companies use
historical value anyways
Principles 2 and 3: Accrual Accounting (Revenue Recognition and Matching
Principle)
Governs the company's timing in recording its revenues (i.e. sales) and associated
expenses
2) Revenue Recognition: Accrual basis of accounting dictates that revenues must be
recorded when earned and measurable
3) Matching Principle: Under the matching principle, costs associated with making a
product must be recorded during the same period as revenue generated from that
product
Exercise Answer: 1) 1/4/15; 2) 1/4/15
Why can't companies immediately record these revenues and expenses?
According to the revenue recognition principle, a company cannot record revenue until
that order is shipped to a customer (only then, is the revenue actually earned) and
collection from that customer is reasonably assured
, Why shouldn't a company record an expense when it actually buys the item?
According to the matching principle, costs associated with the production of the product
should be recorded in the same period as the revenue from the product's sale
US GAAP vs. IFRS Accrual Accounting
Principle 4: Full Disclosure
Companies must reveal all relevant economic information that they determine to make a
difference to its users
Such disclosure should be accomplished in the following sections of companies' reports:
(1) Financial statements
(2) Notes to financial statements
(3) Supplementary information
Four Underlying Principles in Accounting
(1) Historical Cost
(2) Accrual Accounting: Revenue Recognition
(3) Accrual Accounting: Matching Principle
(4) Full Disclosure
Constraint 1: Estimates & Judgments
Certain measurements cannot be performed completely accurately, and must therefore
utilize conservative estimates and judgments
Constraint 2: Materiality
Inclusion and disclosure of financial transactions in financial statements hinge on their
size and effect on the company performing them
Note: Materiality varies across different entities
Constraint 3: Consistency
Each company has to prepare financial statements using measurement techniques and
assumptions which are consistent from one period to another
Constraint 4: Conservatism
Financial statements should be prepared with a downward measurement bias
Assets and revenues should not be overstated, while liabilities and expenses should not
be understated
Four Underlying Constraints in Accounting
