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accounting - finanatial statements. CHAPTER 2 STUDYNOTES 1 CHAPTER 2 FINANCIAL
STATEMENTS: AN OVERVIEW ACCOUNTING EQUATION A = L ...
Submitted by dman8599 on October 9, 2005
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CHAPTER 2 STUDYNOTES
1
CHAPTER 2 FINANCIAL STATEMENTS: AN OVERVIEW
ACCOUNTING EQUATION A = L + OE
ASSETS (what company owns—e.g. cash, buildings, equipment, inventory, patents)
=
LIABILITIES (what company owes to others—e.g. loans from bank, bonds issued,
amounts owned to suppliers)
+
OWNERS’ EQUITY (what’s left for the owners if assets are applied to pay off
liabilities)—If a corporation, composed of two parts:
• Capital Stock—amounts invested in company by owners (i.e. shareholders) to
acquire their ownership interest
• Retained Earnings—net profits (revenues minus expenses) earned by the company
over the years that have not yet been withdrawn (i.e. paid to shareholders as
dividends)
NOTE: Liabilities and Owners’ Equity show the sources of funds to acquire the assets—
amounts invested by owners (paid in capital portion of Owners’ Equity), reinvestment of
profits (retained earnings portion of Owners’ Equity) or amounts borrowed (Liabilities)
ACCOUNTING FOR BUSINESS TRANSACTIONS
GAAP requires use of accrual method of accounting rather than cash basis accounting.
Under accrual accounting, events are recorded when they occur rather than when the
related cash changes hands. As examples (assuming ABC Co. is your company and has a
12-month operating cycle):
• ABC Co. provides consulting services to a client. Project is completed and bill is
mailed on December 20, 2002. Check from client is received on January 28, 2003.
• Revenue is recorded in December 2002 and asset “accounts receivable” is
recorded—income is recognized when earned, not when cash is later received.
• Account Receivable is an asset account—it represents amounts owed to you
by customers/clients for work performed for them or goods sold to them. It
represents the legal right to receive cash in the...
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