Chapter 2 Testbankreal Com-Books Pdf

CHAPTER 2 TestBankReal com
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Chapter Outline, Learning Objective 1 Identify the Sections of a Classified Balance Sheet. In a classified balance sheet companies often group similar assets and similar liabilities. together using standard classifications and sections This is useful because items within the. groups have similar economic characteristics The groupings help users determine. 1 whether the company has enough assets to pay its debts and 2 what claims by short and. long term creditors exist on the company s total assets. A classified balance sheet generally contains the following standard classifications. Current Assets, Assets that are expected to be converted to cash or used up in the business within one. year or one operating cycle whichever is longer, Examples of current assets cash short term investments which include short term. U S government securities receivables accounts receivable notes receivable and. interest receivable inventories and prepaid expenses rent supplies insurance and. advertising, On the balance sheet current assets are listed in the order in which they are expected. to be converted into cash order of liquidity, Some companies use a period longer than one year to classify assets and liabilities as.
current because they have an operating cycle longer than one year The operating. cycle of a company is the average time required to go from cash to cash in producing. revenue buy inventory sell it and collect the cash from the customers. TEACHING TIP, a Discuss the difference between notes receivable and accounts receivable different types. of prepaid expenses and the fact that inventory supplies and prepaid expenses will. become expenses when they are used up Explain why these assets are classified as. current b Discuss the concept of short term investments. Long Term Investments, Assets that can be converted into cash but whose conversion is not expected within. These include long term assets not currently used in the company s operations i e. land buildings etc and investments in stocks and bonds of other corporations. TEACHING TIP, Explain to students that there are individuals in large companies who do nothing but take. care of long term investments, Discuss the difference between short term and long term investments in stocks and bonds of. other corporations, Example A homebuilder has the following assets 1 lots in a subdivision that are ready.
for sale to buyers 2 land on which the corporate office building sits and 3 land several. miles north of town on which it plans a new subdivision in 5 years Ask students where each. of these parcels of land would go on a classified balance sheet This shows that the. classification depends on the use by the company, Also ask students how they would classify a certificate of deposit that will mature in 5 years. and be used to pay for the new subdivision,Property Plant and Equipment. Assets with relatively long useful lives,Assets currently used in operating the business. Sometimes called fixed assets or plant assets, Examples include land buildings machinery equipment and furniture and fixtures. Record these assets at cost and depreciate them except land over their useful. lives The full purchase price is not expensed in the year of purchase because the. assets will be used for more than one accounting period. o Depreciation is the practice of allocating the cost of assets to a number of years. o Depreciation expense is the amount of the allocation for one accounting period. o Accumulated depreciation is the total amount of depreciation that has been. expensed since the asset was placed in service, o Cost less accumulated depreciation is reported on the balance sheet.
TEACHING TIP, Explain that depreciation is not a valuation of assets It is the allocation of their cost over the. periods in which they will benefit the business Many students believe the balance sheet. shows the value of the business Stress that accounting with a few exceptions that are. covered in later chapters records cost not value,Intangible Assets. Noncurrent assets,Assets that have no physical substance. Examples are goodwill patents copyrights and trademarks or trade names. TEACHING TIP, Briefly discuss types of intangible assets Encourage students to think about companies that. have large investments in intangible assets Remind students that this topic is discussed in. more detail in Chapter 9,Current Liabilities, Obligations that are to be paid within the coming year or operating cycle whichever.
Common examples are notes payable accounts payable wages payable bank. loans payable interest payable taxes payable and current maturities of long term. obligations, Within the current liabilities section companies usually list notes payable first. followed by accounts payable and then the remaining items in the order of their. TEACHING TIP, a Discuss the following payables wages payable interest payable taxes payable etc. b Discuss the difference between accounts payable and notes payable c Discuss how. notes payable can be current or long term depending on the maturity date. Long Term Liabilities,Obligations expected to be paid after one year. Liabilities in this category include bonds payable mortgages payable long term. notes payable lease liabilities and pension liabilities. Many companies report long term debt maturing after one year as a single amount. in the balance sheet and show the details of the debt in notes that accompany the. financial statements,TEACHING TIP, Bonds have been mentioned several times Students need to understand the difference. between notes payable and bonds payable Also discuss the difference between interest. payable and notes or bonds payable, Stockholders Equity Stockholders equity consists of two parts.
Common Stock investments of assets into the business by the stockholders. Retained Earnings income retained for use in the business. TEACHING TIP, Tell students that companies can issue different types of stock and that common stock is. sometimes referred to as capital stock Mention that stockholders equity is discussed in. more detail in Chapter 11 Until then they will work with common stock. Learning Objective 2 Use Ratios to Evaluate a Company s Profitability. Liquidity and Solvency, Ratio analysis expresses the relationship among selected items of financial statement. A ratio expresses the mathematical relationship between one quantity and another. Ratios shed light on company performance, o Intracompany comparisons covers two years for the same company. o Industry average comparisons based on average ratios for particular. industries, o Intercompany comparisons based on comparisons with a competitor in the. same industry,TEACHING TIP, Discuss your preference for rounding Explain how to compute percentages Encourage.
students to use a spreadsheet for computations and presentation Also encourage them to. see if their answers are reasonable and to always reflect on what the computation means. not to just make the computation and then fail to understand what it tells a user. TEACHING TIP, Discuss ways for students to find industry averages and ratios from sources on the web and. in the library Encourage them to start watching shows on the financial networks and reading. business periodicals as well as the business section of newspapers Ask them to share. interesting information with the class, Using the Income Statement Creditors and investors are interested in evaluating. profitability Profitability is frequently used as a test of management s effectiveness To. supplement an evaluation of the income statement ratio analysis is used Profitability. ratios measure the operating success of a company for a given period of time. Earnings per share, o Is a profitability ratio that measures the net income earned on each share of. common stock, o Is computed by dividing net income less preferred dividends by the average. number of common shares outstanding during the year. o By comparing earnings per share of a single company over time one can. evaluate its relative earnings performance on a per share basis. o Comparisons of earnings per share across companies are not meaningful. because of the wide variations in numbers of shares of outstanding stock. among companies,TEACHING TIP, Ask students to watch one of the financial channels for at least 30 minutes and report on the.
references to earnings per share If you use a discussion board students can post their. comments on it This is an efficient way to share the information with the class without taking. up too much classroom time, Using A Classified Balance Sheet An analysis of the relationship between a. company s assets and liabilities can provide users with information about the firm s. liquidity and solvency, Liquidity The ability to pay obligations expected to come due within the next. year or operating cycle Two measures of liquidity include. o Working capital,Measure of short term ability to pay obligations. Excess of current assets over current liabilities, Positive working capital Current Assets Current Liabilities. indicates the likelihood for paying liabilities is favorable. Negative working capital Current Liabilities Current Assets. indicates that a company might not be able to pay short term creditors. and may be forced into bankruptcy,o Current ratio,Measure of short term ability to pay obligations.
Computed by dividing current assets by current liabilities. More dependable indicator of liquidity than working capital. Does not take into account the composition of current assets like slow moving. inventory versus cash,TEACHING TIP, Explain that a 1 60 1 ratio means that for every 1 of current liabilities the company has. 1 60 in current assets, Also students need to be aware of the fact that the composition of the assets may be very. important For example if a company had most of its current assets in cash it could be more. sure of its liquidity position than another company with the majority of its current assets in. inventory What happens if the company cannot sell the inventory. 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 include. o Debt to Assets Ratio, Measures the percentage of assets financed by creditors. The higher the percentage of debt financing the riskier the company. Computed by dividing total debt both current and long term liabilities by total. TEACHING TIP, Compare ratios to tests performed by a doctor Each test provides information The doctor. must ask the patient questions and then review the results of all tests before making a. diagnosis Students need to realize that ratios are indicators and must be analyzed properly. before a decision can be made regarding the financial condition of a company For example. a negative working capital does not always mean potential bankruptcy The results of other. ratios as well as specific company information must be analyzed. In the statement of cash flows cash provided by operating activities indicates the. cash generating capability of the company However cash provided by operating. activities fails to take into account that a company must invest in new property plant. and equipment and at least maintain dividends at current levels to satisfy investors. Free cash flow indicates a company s ability to generate cash from operations that is. sufficient to pay debts acquire assets and distribute dividends. It describes the cash remaining from operations after adjusting for capital. expenditures and dividends, It is computed by subtracting capital expenditures and cash dividends from cash.
provided by operations,TEACHING TIP, Go over the free cash flow calculation for Best Buy. Ask students to compute the free cash flow for a company and report their findings to the class. Learning Objective 3 Discuss Financial Reporting Concepts. Generally Accepted Accounting Principles GAAP are a set of rules and practices that. provide answers to the following questions, How does a company decide on the type of financial information to disclose. What format should a company use, How should a company measure assets liabilities revenues and expenses. The Securities and Exchange Commission SEC is a U S government agency that. oversees U S financial markets and accounting standard setting bodies. The primary accounting standard setting body in the U S is the Financial Accounting. Standards Board FASB, The International Accounting Standards Board IASB sets standards called International. Financial Reporting Standards IFRS for many countries outside the U S. The Public Company Accounting oversight Board PCAOB determines auditing. standards and reviews the performance of auditing firms. TEACHING TIP, Remind students that financial statements consist of the income statement retained.
earnings statement balance sheet and statement of cash flows Again it may be good to. remind them that there are internal and external users. TEACHING TIP, Discuss the issue of IFRS and making different countries businesses more transparent. What does transparency mean in this context Why is this so important for successful. transition to IFRS, Qualities of Useful Information To be useful information should possess two. fundamental qualities relevance and faithful representation. 2 3 TEACHING TIP Explain to students that there are individuals in large companies who do nothing but take care of long term investments Discuss the difference between short term and long term investments in stocks and bonds of

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