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FINANCIAL ACCOUNTING PRINCIPLES AND CONCEPTS:
SIMPLIFIED NOTES
FAC_1502
,Table of Contents
1. STUDY GUIDE OVERVIEW..............................................................................................8
1.1 Introduction.................................................................................................................. 8
2. ANNUAL FINANCIAL STATEMENTS................................................................................8
2.1 Introduction.................................................................................................................. 8
2.2 The balance sheet (statement of financial position)......................................................9
Table 2.1: Statement of financial position...........................................................................9
Table 2.2: Statement of comprehensive income..............................................................10
Table 2.3: Statement of change in equity.........................................................................12
Table 2.4: Statement of cash flows..................................................................................13
3. PRINCIPLES OF ACCOUNTING....................................................................................16
3.1 Introduction................................................................................................................16
3.2 Key accounting conventions/principles.......................................................................17
Table 3.1: Key accounting conventions............................................................................17
4. ACCOUNTS, DEBITS, AND CREDITS............................................................................20
4.1 Introduction................................................................................................................20
4.2 The chart of accounts.................................................................................................20
Table 4.1: Effect of debits and credits on assets/expenses/dividends..............................20
Table 4.2: Effect of debits and credits on liabilities/revenues/equity.................................20
Table 4.3: Examples of transactions and source documents...........................................21
Table 4.4; Example of Creditors account.........................................................................22
Figure 1: Primary and Subsidiary Books of Account........................................................23
Table 4.5: Example of a journal entry...............................................................................24
Exercise........................................................................................................................... 25
5. INCOME MEASUREMENT..............................................................................................27
5.1 Introduction................................................................................................................27
5.2 General concepts.......................................................................................................27
5.3 Non-exchange events................................................................................................27
Table 5.1: Example of a non-exchange event..................................................................28
6. THE ADJUSTING PROCESS AND RELATED ENTRIES................................................30
6.1 Introduction................................................................................................................30
6.2 Adjustments............................................................................................................... 30
6.3 Accruals..................................................................................................................... 31
6.4 Prepaid expenses......................................................................................................31
, 6.5 Unearned revenues....................................................................................................31
6.6 Depreciation............................................................................................................... 31
6.7 Adjusted trial balance.................................................................................................32
7. PREPARING FINANCIAL STATEMENTS.......................................................................32
7.1 Introduction................................................................................................................32
7.2 The adjusting process................................................................................................32
7.4 Accounting software...................................................................................................32
8. CLOSING PROCESS AND REVERSING ENTRIES.......................................................32
8.1 Introduction................................................................................................................32
8.2 Post-closing trial balance...........................................................................................33
8.3 Reversing entries.......................................................................................................33
9. CLASSIFIED BALANCE SHEETS...................................................................................34
9.1 Introduction................................................................................................................34
9.2 Assets........................................................................................................................ 34
Figure 3: Operating cycle.................................................................................................34
10. BUSINESS LIQUIDITY AND THE OPERATING CYCLE...............................................38
10.1 Introduction..............................................................................................................38
10.3 Quick ratio................................................................................................................39
11. MANUFACTURERS, WHOLESALERS AND TRADERS...............................................39
11.1 Introduction..............................................................................................................39
11.2 The manufacturing and merchandising sales cycle..................................................40
Table 11.2: Sales journals................................................................................................40
Table 11.3: Sales returns journals....................................................................................41
Table 11.4: Statement of comprehensive income............................................................42
Table 11.5: Sales discount journals..................................................................................43
Table 11.6: Purchases journals........................................................................................44
Figure 4: Purchases and income statement and balance sheet.......................................44
Table 11.7: Purchases returns journals............................................................................45
Table 11.8: Purchases discounts journals 1.....................................................................45
Table 11.9: Purchases discounts journals 2.....................................................................46
Figure 5: Freight cost terms.............................................................................................47
Table 11.10: Cost of goods sold calculation.....................................................................48
Figure 6: Cost of goods sold illustration...........................................................................48
Table 11.11: Statement of comprehensive income - trader..............................................49
12. CASH AND CASH EQUIVALENTS...............................................................................50
12.1 Introduction..............................................................................................................50
, 12.2 Cash composition.....................................................................................................50
12.3 Cash management...................................................................................................51
12.4 Strategies to ensure positive cash balances............................................................51
Figure 7: Bank reconciliation............................................................................................52
13. SHORT-TERM INVESTMENTS....................................................................................53
13.1 Introduction..............................................................................................................53
13.2 Accounting for short-term investments.....................................................................53
Table 13.1: Short-term investments journal......................................................................54
Table 13.2: Unrealised loss on short-term investments journal........................................54
Table 13.4: Dividend income journal................................................................................55
14. ACCOUNTS RECEIVABLE...........................................................................................55
14.1 Introduction..............................................................................................................55
14.2 The costs and benefits of selling on credit................................................................56
14.3 Accounting for uncollectible receivables...................................................................56
14.4 Direct write-off method.............................................................................................56
Table 14.1: Direct write-off of uncollectables journal........................................................56
Figure 8: Direct write-off of uncollectables diagram..........................................................57
Figure 9: Allowance method write-off of uncollectables diagram......................................57
Table 14.2: Allowance method write-off of uncollectables journal....................................58
Table 14.3: Recovery of uncollectables journal................................................................58
Table 14.4: Cash recovery of uncollectables journal........................................................58
15. INVENTORY.................................................................................................................. 59
15.1 Introduction..............................................................................................................59
15.2 The components of inventory...................................................................................60
15.4 Inventory costing methods.......................................................................................60
15.5 The cost of ending inventory....................................................................................60
15.6 Costing methods......................................................................................................60
15.7 First-In, First-Out calculations...................................................................................61
15.8 Weighted average....................................................................................................61
15.9 The impact on inventory...........................................................................................61
15.10 Perpetual inventory systems..................................................................................62
15.11 Lower of cost or net realizable value......................................................................62
15.12 Comparing Methods...............................................................................................62
Figure 10: First-in, first-out versus weighted average.......................................................62
16. LONG-TERM INVESTMENTS.......................................................................................64
16.1 Introduction..............................................................................................................64
WhatsApp: 063 202 5059 / +27 63 202 5059
Email:
FINANCIAL ACCOUNTING PRINCIPLES AND CONCEPTS:
SIMPLIFIED NOTES
FAC_1502
,Table of Contents
1. STUDY GUIDE OVERVIEW..............................................................................................8
1.1 Introduction.................................................................................................................. 8
2. ANNUAL FINANCIAL STATEMENTS................................................................................8
2.1 Introduction.................................................................................................................. 8
2.2 The balance sheet (statement of financial position)......................................................9
Table 2.1: Statement of financial position...........................................................................9
Table 2.2: Statement of comprehensive income..............................................................10
Table 2.3: Statement of change in equity.........................................................................12
Table 2.4: Statement of cash flows..................................................................................13
3. PRINCIPLES OF ACCOUNTING....................................................................................16
3.1 Introduction................................................................................................................16
3.2 Key accounting conventions/principles.......................................................................17
Table 3.1: Key accounting conventions............................................................................17
4. ACCOUNTS, DEBITS, AND CREDITS............................................................................20
4.1 Introduction................................................................................................................20
4.2 The chart of accounts.................................................................................................20
Table 4.1: Effect of debits and credits on assets/expenses/dividends..............................20
Table 4.2: Effect of debits and credits on liabilities/revenues/equity.................................20
Table 4.3: Examples of transactions and source documents...........................................21
Table 4.4; Example of Creditors account.........................................................................22
Figure 1: Primary and Subsidiary Books of Account........................................................23
Table 4.5: Example of a journal entry...............................................................................24
Exercise........................................................................................................................... 25
5. INCOME MEASUREMENT..............................................................................................27
5.1 Introduction................................................................................................................27
5.2 General concepts.......................................................................................................27
5.3 Non-exchange events................................................................................................27
Table 5.1: Example of a non-exchange event..................................................................28
6. THE ADJUSTING PROCESS AND RELATED ENTRIES................................................30
6.1 Introduction................................................................................................................30
6.2 Adjustments............................................................................................................... 30
6.3 Accruals..................................................................................................................... 31
6.4 Prepaid expenses......................................................................................................31
, 6.5 Unearned revenues....................................................................................................31
6.6 Depreciation............................................................................................................... 31
6.7 Adjusted trial balance.................................................................................................32
7. PREPARING FINANCIAL STATEMENTS.......................................................................32
7.1 Introduction................................................................................................................32
7.2 The adjusting process................................................................................................32
7.4 Accounting software...................................................................................................32
8. CLOSING PROCESS AND REVERSING ENTRIES.......................................................32
8.1 Introduction................................................................................................................32
8.2 Post-closing trial balance...........................................................................................33
8.3 Reversing entries.......................................................................................................33
9. CLASSIFIED BALANCE SHEETS...................................................................................34
9.1 Introduction................................................................................................................34
9.2 Assets........................................................................................................................ 34
Figure 3: Operating cycle.................................................................................................34
10. BUSINESS LIQUIDITY AND THE OPERATING CYCLE...............................................38
10.1 Introduction..............................................................................................................38
10.3 Quick ratio................................................................................................................39
11. MANUFACTURERS, WHOLESALERS AND TRADERS...............................................39
11.1 Introduction..............................................................................................................39
11.2 The manufacturing and merchandising sales cycle..................................................40
Table 11.2: Sales journals................................................................................................40
Table 11.3: Sales returns journals....................................................................................41
Table 11.4: Statement of comprehensive income............................................................42
Table 11.5: Sales discount journals..................................................................................43
Table 11.6: Purchases journals........................................................................................44
Figure 4: Purchases and income statement and balance sheet.......................................44
Table 11.7: Purchases returns journals............................................................................45
Table 11.8: Purchases discounts journals 1.....................................................................45
Table 11.9: Purchases discounts journals 2.....................................................................46
Figure 5: Freight cost terms.............................................................................................47
Table 11.10: Cost of goods sold calculation.....................................................................48
Figure 6: Cost of goods sold illustration...........................................................................48
Table 11.11: Statement of comprehensive income - trader..............................................49
12. CASH AND CASH EQUIVALENTS...............................................................................50
12.1 Introduction..............................................................................................................50
, 12.2 Cash composition.....................................................................................................50
12.3 Cash management...................................................................................................51
12.4 Strategies to ensure positive cash balances............................................................51
Figure 7: Bank reconciliation............................................................................................52
13. SHORT-TERM INVESTMENTS....................................................................................53
13.1 Introduction..............................................................................................................53
13.2 Accounting for short-term investments.....................................................................53
Table 13.1: Short-term investments journal......................................................................54
Table 13.2: Unrealised loss on short-term investments journal........................................54
Table 13.4: Dividend income journal................................................................................55
14. ACCOUNTS RECEIVABLE...........................................................................................55
14.1 Introduction..............................................................................................................55
14.2 The costs and benefits of selling on credit................................................................56
14.3 Accounting for uncollectible receivables...................................................................56
14.4 Direct write-off method.............................................................................................56
Table 14.1: Direct write-off of uncollectables journal........................................................56
Figure 8: Direct write-off of uncollectables diagram..........................................................57
Figure 9: Allowance method write-off of uncollectables diagram......................................57
Table 14.2: Allowance method write-off of uncollectables journal....................................58
Table 14.3: Recovery of uncollectables journal................................................................58
Table 14.4: Cash recovery of uncollectables journal........................................................58
15. INVENTORY.................................................................................................................. 59
15.1 Introduction..............................................................................................................59
15.2 The components of inventory...................................................................................60
15.4 Inventory costing methods.......................................................................................60
15.5 The cost of ending inventory....................................................................................60
15.6 Costing methods......................................................................................................60
15.7 First-In, First-Out calculations...................................................................................61
15.8 Weighted average....................................................................................................61
15.9 The impact on inventory...........................................................................................61
15.10 Perpetual inventory systems..................................................................................62
15.11 Lower of cost or net realizable value......................................................................62
15.12 Comparing Methods...............................................................................................62
Figure 10: First-in, first-out versus weighted average.......................................................62
16. LONG-TERM INVESTMENTS.......................................................................................64
16.1 Introduction..............................................................................................................64
