Review Questions - 1-1 Chapter 1 Accounting and the Business Envir...

Horngren’s Accounting 10/e GE Solutions Manual

1-1 Chapter 1 Accounting and the Business Environment

Review Questions

• The accounting equation measures the resources of a business (what the business owns or has control of )

and the claims to those resources (what the business owes to creditors and to the owner). The accounting equation is made up of three parts—assets, liabilities, and equity—and shows how these three parts are related. Assets appear on the left side of the equation, and the liabilities and equity appear on the right side.

• Financial accounting provides information for external decision makers, such as outside

investors, lenders, customers, and the federal government. These external decision makers use the information provided to make decision like whether to invest in the business, and whether the business is profitable.

• Individuals use accounting information to help them manage their money, evaluate a new job,

and better decide whether they can afford to make a new purchase. Business owners use accounting information to set goals, measure progress toward those goals, and make adjustments when needed. Investors use accounting information to help them decide whether or not a company is a good investment and once they have invested, they use a company’s financial statements to analyze how their investment is performing. Creditors use accounting information to decide whether to lend money to a business and to evaluate a company’s ability to make the loan payments. Taxing authorities use accounting information to calculate the amount of income tax that a company has to pay.

• Certified Public Accountants (CPAs) are licensed professional accountants who serve the general

public. They work for public accounting firms, businesses, government, or educational institutions. To be certified they must meet educational and/or experience requirements and pass an exam. Certified Management Accountants (CMAs) specialize in accounting and financial management knowledge. They work for a single company.

• The FASB oversees the creation and governance of accounting standards. They work with

governmental regulatory agencies, congressionally created groups, and private groups.

• The guidelines for accounting information are called GAAP. It is the main U.S. accounting rule

book and is currently created and governed by the FASB. Investors and lenders must have information that is relevant and has faithful representation in order to make decisions and the GAAP provides the framework for this financial reporting.

• A sole proprietorship has a single owner, terminates upon the owner’s death or choice, the owner

has personal liability for the business’s debts, and it is not a separate tax entity. A partnership has two or more owners, terminates at partner’s choice or death, the partners have personal liability, and it is not a separate tax entity. A corporation is a separate legal entity, has one or more owners, has indefinite life, the stockholders are not personally liable for the business’s debts, and it is a separate tax entity. A limited-liability company has one or more members and each is only liable for his or her own actions, has an indefinite life, and is not a separate tax Horngrens Accounting Global Edition 10th Edition Nobles Solutions Manual Visit TestBankDeal.com to get complete for all chapters

Horngren’s Accounting 10/e GE Solutions Manual 1-2 entity.

• The land should be recorded at $5,000. The cost principle states that assets should be recorded at

their historical cost.

• The going concern assumption assumes that the entity will remain in business for the foreseeable

future and long enough to use existing resources for their intended purpose.

• The faithful representation concept states that accounting information should be complete,

neutral, and free from material error.

• The monetary unit assumption states that items on the financial statements should be measured in

terms of a monetary unit.

• The IASB is the organization that develops and creates IFRS which are a set of global

accounting standards that would be used around the world.

• Assets = Liabilities + Equity. Assets are economic resources that are expected to benefit the

business in the future. They are things of value that a business owns or has control of.Liabilities are debts that are owed to creditors. They are one source of claims against assets.Equity is the other source of claims against assets. Equity is the owner’s claim against assets and is the amount of assets that is left over after the company has paid its liabilities. It represents the net worth of the company.

• The statement of cash flows is divided into three distinct sections: operating, investing, and financing.

Operating activities involve cash receipts for services provided and cash payments for expenses paid.Investing activities include the purchase and sale of land and equipment for cash. The third section, financing activities, includes cash contributions by the owner and withdrawals of cash by the owner.

• The income statement summarizes an entity’s revenues and expenses and reports the net income or net

loss for a specific period. The balance sheet, on the other hand, reports on the assets, liabilities, and owner’s equity of the business as of a specific date

• Step 1: Identify the accounts and the account type. Step 2: Decide if each account increases or

decreases. Step 3: Determine if the accounting equation is in balance.

• The statement of owner’s equity shows the changes in the owner’s capital account for a specific period.

The owner’s capital account increases by owner’s contributions and net income and decreases by owner’s withdrawals and net losses.

• Return on Assets = Net income / Average total assets. ROA measures how profitably a company

uses its assets.

Horngren’s Accounting 10/e GE Solutions Manual

1-3 Short Exercises

S1-1

• FA e. MA
• FA f. FA
• FA g. MA
• MA h. FA

S1-2

The Financial Accounting Standards Board governs the majority of guidelines, called Generally Accepted Accounting Principles (GAAP), that the CPA will use to prepare financial statements for Wholly Shirts.

S1-3

There are 3 basic forms of businesses that they brothers can choose from : sole proprietorship, partnership, or corporation. Since there are 2 of them, a proprietorship would be out of the question.These forms have implications for legal liability, taxation, continuity, number of owners, and legal

status as follows:

Proprietorship Partnership Corporation Business entity yes yes yes Legal entity no no yes Limited liability no no yes Unlimited life no no yes Business taxed no no yes One owner allowed yes no yes

The advantages of a partnership :

Generally partnerships are easy to establish and since there is more than one owner, there is a bigger pool of resources (financial or otherwise) at the busjness’ disposal.

Disadvantages of a partnership :

Both the brothers are vulnerable to unlimited liability for anything to do with the business, whether caused by one or the other and may even lose the business as well as their personal assets. The business shall automatically cease upon the death of either one of them, although partners are allowed to independently make commitments without the other’s approval.

All this only applies if there is no partnership agreement stipulating otherwise. A limited partnership is also possible in cases where there is a need to limit the extent of liability to one party. It is recommended that they should consider starting a general partnership with a tailor-made Partnership Agreement spelling out each brother’s responsibility, authority, commitment and liability as well as operational and strategic roles.

Horngren’s Accounting 10/e GE Solutions Manual 1-4 S1-4 This would simplify the burden of the brothers in owning and running their own business. There will be no direct liability, but there will also be no authority in the business. Ah Soh will simply be their boss and may be able to over-rule their decisions although she may not have any expertise in web design. Ah Lee and Ah Beng will be employees with a salary and any other formal benefits. They will have to live up to the procedures, policies and rules made by their sister. On the other hand, they would not have to cough up the capital or be directly responsible for the business’ success.The decision depends entirely on the brothers’ priorities. Do they want to be entrepreneurs or do they want to hone their craft? If they aren’t concerned about the money part of this, then they might want to be employed instead of striking out on their own

S1-5

a Cost Principle

• Business Entity Principle
• Going Concern Principle.
• Monetary Unit Principle