THEORIES
treated as a separate economic entity
Conservation (also called prudence)
– if a financial result can be reported in
two ways, the least beneficial is used.
Consistency – an organization could
use the same accounting method over
time, and not change accounting
methods between accounting periods.
Cost Principle – accounts and
financial statement show the actual cost
of an asset, rather than the current
value.
Dual Aspect – every transaction
involves at least two accounts.
Going Concern – the assumption is an
organization will continue into at least
the near future.
Matching – when a transaction affects
revenues and expenses, the effect on
financial statements, should occur in the
same accounting period.
Materiality – while an organization
needs to disclose all relevant
information on financial statements,
insignificant events need not be
disclosed.
Money (or monetary) Measurement –
only transactions that can be quantified
in actual amounts of money are included
on the financial statements.
Realization / Revenue Recognition –
an organization recognizes revenue
when shipping goods or rendering
services not when payment is received.
Separate Entity – the company is
for accounting purposes, even if it isn’t a
separate legal entity.
Time Period – financial reports cover a
specific period of time.
Historical Cost – initial recording of
financial transactions must be at their
original cash equivalent cost.
Full Disclosure – financial statements
contain enough information that they are
not misleading.
Cost-Benefit –cost-benefit analysis
compares the outflows of resources
needed to create additional inflows of
resources. The benefits should outweigh
the costs.
GAAP (Generally Accepted
Accounting Principles) – guidelines
and standards used in financial
accounting and reporting all non-
government organizations. They are the
universal standard b y which all financial
accounting and reporting must conform.
Accounting Equation – Assets =
Liabilities + Equity
Bookkeeping – recording financial
information.
Accounting – process of identifying,
measuring, and reporting information of
an entity.
Cash-Basis Accounting – a method in
which income and expenses are
recorded when they are paid.
Accrual Accounting – a method in
which income is recorded when it is
earned and expenses are recorded
when they are incurred all independent
of cash flow.
Financial Accounting – accounting
focused on reporting an entity’s
activities to an external party, i.e.,
shareholders.
Cost Accounting – a type of
accounting that focuses on recording,
defining and reporting costs associated
with specific operating functions.
Credit – an account entry with a
negative value for assets, and positive
value for liabilities and equity.
Debit – an account entry with a positive
value for assets, and negative value for
liabilities and equity.
Journal – a record where transactions
are recorded, also known as an
“account”.
General Ledger – a record of all
financial transactions within an entity.
Financial Statement – a record
containing the balance sheet and the
income statement.
Income Statement – summarizes
financial results for an accounting
period. Revenues – Expenses = Income
Balance Sheet – lists the assets and
liabilities at the end of an accounting
period. Assets = Liabilities + Equity
Cash Flow Statement – shows the
actual flow of cash into and out of an
organization during the accounting
period.
Statement of retained earnings -
shows that dividends paid from earning
to shareholders and the earnings kept
by the company.
Chart of accounts – a listing of
company’s accounts and their
corresponding numbers.
Asset – property with a cash value that
is owned by a business or individual
Accounts receivable - money owned to
a business i.e., credit sales
Inventory - merchandise purchased for
a resale at a profit.
Supplies - assets purchased to be
consumes by the entity
Liquid asset - cash or other property
that can be easily be converted to cash.
Fixed asset - long-term tangible
property, building, land, computer, etc.
Depreciation - recognizing the
decrease in the value of an asset due to
age and use
Goodwill - an intangible asset reflecting
the value of an entity in excess of its
tangible assets.
Liability - money owed to a creditor,
vendor, etc.
Accounts payable - money owed by
the creditor, vendors incurred for regular
transactions.
Notes payable - a written agreement to
repay borrowed money, sometimes in
used in place of “loan”
Loans payable - money borrowed from
lender and usually paid with interest.
Shareholder equity - the capital and
retained earnings in an entity attributed
to shareholders.
Equity - money owned to the owner or
owners of a company, also known as
“owner’s equity”
Capital stock - found in the equity
portion of the balance sheet describing
the number of shares sold to
shareholders at predetermined value
per share also called “common stock” or
“preferred stock”
Retained earnings - the amount of net
profit retained and not paid out to
shareholders over the life of the
business.
Treasury stock - shares purchased by
the entity form shareholders, reducing
shareholder equity.
Revenue - total income before
expenses
Other income - income generated from
other regular business operations i.e.
interest, rents, etc.
Cost of goods sold - expenses
incurred in producing inventory; that
may include materials, labors, storage
costs, depreciation, and overhead.
Non cash expense - recognizing the
decrease in the value of an asset; i.e.
depreciation and amortization.
Non-operating income - income
generated from non recurring
transactions, i.e. sale of an old building
Operating Expense – money used in
the process of selling inventory ( as
opposed to developing inventory)
Operating Income – income generated
from regular business operations.
Net Income – money remaining after all
expenses and taxes have been paid.
Write-down/Write-off – an accounting
entry that reduces the value of an asset
due to an impairment of that asset i.e.
the account receivable from the
bankrupt customer.
Dividends – amounts paid to
shareholders cut of current or retained
earnings.
Closing the books/Year end closing –
the process of reversing the income and
expense for a fiscal or calendar year
and netting the amount into “retained
earnings”
Accruals – a lists of expenses that have
been incurred and expensed, but not
paid or a list of sales that have been
completed, but not yet billed.
Liquidity Accounts Receivable Turnover
Ratio = Sales / Average Accounts
Current Ratio = Current Assets / Receivable
Current Liabilities
Assets Turnover Ratio = Sales /
Quick Ratio = Quick Assets / Average total Assets
Current Liabilities

Quick Assets = Cash + Short

Term Securities + Accounts Receivable

Net Working Capital Ratio =

(Current Assets – Current Liabilities) /
Total Assets

Profitability

Profit Margin = Net Income /

Revenue

Return on Assets = Net Income /

Average Total Assets

Average Total Assets = ending +

beginning total assets / 2

Return on Equity = Net Income /

Average Stockholder’s Equity

Capital Structure Ratios

Debt to Equity Ratio = Total

Liabilities / Total Stockholder’s Equity

Interest Coverage Ratio = Income

before Income Taxes and Interest
Expense / Interest Expense

Debt to Asset Ratio = Total

Liabilities / Total Assets

Activity Analysis

Inventory Turnover Ratio = Cost

of Goods Sold / Average Inventories