Just in Time Concept

fiscal AccountingS. rabbit Income Measurement and Accrual Accounting Recognition and Measurement in Financial Statements DEFINITIONS tax income enhancementsinflows of summations or reductions in liabilities from selling goods and services Expenses let onflows of assets or increases in liabilities utilize up in generating tax taxs. Recognitionformal account booking of an item in financial statements, in words and numbers Measurementquantify the effects of economic events numbers unit is money dollars historical cost put down for simplicity, verifiability, reliability Cur rakehell cost-relevant but less(prenominal) reliableOnly an estimate until item is exchange concluding income= receiptss-Expenses. Income measuring of resources available for consumption at the finale of a consummation and yet be as good off as it was at the beginning of the plosive. CASH BASIS Versus accruement ACCOUNTING So if we line PERIOD to be lifetime of a pie-eyed (which can only be defin ed for a firm with a finite life) then we ar only interested in the kale of a firm everyplace its lifetime. In that cuticle a. good wait until the firm dissolves. b. Add up all the immediate payment inflows oer its lifetime another(prenominal) than those for sale of own stock. c.Add up the coin outflows over its lifetime other those for stock repurchase or dividends. d. Find the departure between cash inflows and outflows and YOU HAVE NET INCOME. e. THE ABOVE IS ALWAYS TRUE. However, if you DEFINE PERIOD TO BE ANY INTERVAL SMALLER THAN THE LIFE sequence when you wish to get culture on earnings as intercede feedback, then there is the following problem -transactions may not be complete on a cash to cash basis because the earnings process is continuous Period1buy list for $5 Period2pay for inventory Period3sell and deliver inventory for $15Period4 discover payment from customer. KEY QuestionWhen should taxs and cost be accepted? One possibility is the cash basis reco gnize receiptss at time of receiving cash and recognize write downs at the time of paying cash. ideal A toy retailer starts disdain on January 1, 2000. The retailer Mr. XYZ pays two months rent in advance on his store for $2000. He also purchases and pays for toys worth $35,000. However, during the month of January, he sold no toys. During February, he sells all the toys he has for $45,000 but collects only $5000 of that in cash.He expects the neighborhood children to pay the remaining $40000 in March. JanFebruary taxs Less Expenses Cost of toys consume- Total Expense- Income Limitations of gold basis 1. expenses atomic number 18 not reorient in time with the tax revenue that they produce. 2. perception of revenue is unduly postponed. A Second possibility is the use of Accrual basis depends upon when some deprecative event occurs. What happens to income (accrual basis) using very(prenominal) example? JanFebruary Revenues Less Expenses Cost of toys rent- Total Expense- Income Comparing the Cash And Accrual Bases of Accounting -Basic residuum one of timing Recognize Revenue whenRecognize Expense when Cash origination cash is true cash is paid Accrual Basisrevenue is acquire it is incurred let on 4-2 transp atomic number 18ncy Accrualco-ordinated of expenses with the corresponding revenues OR match resources used (expired assets- expenses)to generate revenue. The accrual concept forces nebants and managers to focus on changes in owners blondness rather than merely reporting changes to the cash or other assets.The actualization concept underlies the decision rules that accountants use in determining when revenues should be recognized and expenses matched to them. The Revenue Recognition Principle RevenueIncrease in addition Or Decrease in Liability from Delivery of Goods Or run RealizedGoods Or Services Exchanged for Cash Or telephone of Cash . EarnedRevenue earned when realization is complete or no significant obligations left How are Reve nues recorded? At the same time as cash is collected. Before the time cash is collected. subsequently the time cash is collected. Possible Interpretations of Recognition PrinciplePercentage of fulfilmentFor long term projects, revenue recognized as stages are completed, found upon pro lot of total cost incurred, Franchises Initial fee recognized as revenue only FAS 45 substantial performance of its obligations B&J 32 Production MethodCommodities Traded at established price so revenue recognized when they are produced. Installment Methodopposite of produceion system no reasonable basis to estimate collectability, so revenue on sale recognized as cash is collected Continuouslysuch(prenominal) as rent and interestThe criteria used in accounting to decide the recognition of revenues is A firms has performed all, or a substantial portion, of the services it expects to provide. The firm has authorized cash, a receivable, or some other asset whose cash equivalent it can objectivel y measure. Expense Recognition and the Matching Principle The matching concept relates revenues and expenses so that owners equity is neither magnify nor understated at every points in the steam of events that constitutes operations. Expensewhen an Asset Has No Future Benefit i. e. It Is Used Up Or a Liability Is Incurred.Matching ally Revenues with Costs (expenses) Necessary to Generate them UnexpiredSometimes not done with specific items of product sold, but with period in Assets which they were sold eg. sales clerks salaries are expensed in the period in which employees worked. Expired Some things never go done asset stage, since benefit is seen to expire as soon Assets as be expended (purchased) = Period Costs eg. utilities costs, telephone, fuel for vehicles (not asset) Two examples 1. Expired asset versus 2. Expensing of benefits/ resources that never went through asset stage.A. Depreciation Expense estimated helpful life and eventual(prenominal) salvage or resale value Ma nipulation to increase or devolve income Salvage deducted forward calculating periodic expense because it is expected to be recovered and will remain an asset. B. Research DevelopmentDell Computer in its 1995 yearly newspaper publisher list Research, development and engineering of $65,361,00 as operating expense on Income Statement. an expense is an asset whose usefulness to the company is complete it is deemed that RD has no future benefit left hence out right expense without going through asset stage.For an accrual found company, Statement of Cash Flows provides information on Sources and Uses of Cash. Accrual basis requirement because we divide the earning of income, a process that takes place over a period of time, into artificial segments (reporting periods). modeling In the 1995, Income Statement Maytag friendship had a clear loss of $20,476,000. Their Statement of Cash Flows showed an increase in cash equivalents of $30,811,000. Cash provided by operating activitie s was $319,979,000. How can a company with a give notice loss take for a gain in cash?This is achievable if expenses exceeded revenues since Income statement is on accrual basis. It contains revenue amounts that may not look at been realized in cash (still in accounts receivable) and expenses that may not expect been paid for such as depreciation, and unpaid purchases. Also look for income from chronic operations versus loss callable to extraordinary items and disposal of existing business. (As was the case in Maytag 1995) Accrual Accounting and Adjusting Entries at end of period tetrad Types 1. Deferred Expense Cash Paid before Expense Is IncurredAsset created as asset expires it becomes an expense, via adjusting entry Entry DuringAsset End of Expense period Cash period Asset eg. * prepaid rent becomes rent expense, a month at a time * Depreciation allocates cost of asset over its useful life does not measure decline in value ? found on estimates of salvage value and life of asset ?Periodic expense= actual cost est. salvage value/estimated life ? debit is depreciation expense ? character reference is not to asset account, which will always reflect cost, ? but to hoard depreciation- contra account that is, an asset account with a credit balance 2. Deferred RevenueCash certain before Revenue Is Earned Liability Created Because Goods Or Services unruffled Owed EntryDuringCashEnd of Liability period Liability period Revenue ?Eg. unearned the other company from deferred expense entries ? for example, The landlord who received the prepaid rent has a deferred revenue ? liability is reduced, revenue increased, as time passes ?magazine subscriptions received in advance, earned as magazines mailed 3. Accrued LiabilityExpense incurred before Cash Is PaidOpposite of deferred expense EntryDuring-End of Expense period- period Liability Eg. taxes, payroll, utilities interest for short term contribute paid at maturity with principal 4. Accrued AssetRevenue Ear ned before Cash Is Received Opposite of deferred revenue EntryDuring-End of Asset period-periodRevenue ?both rent and interest are earned as time goes by, regardless of when cash received ? need adjusting entry if payment is not received. Exhibit 4-5 (text pp. 165) Example P4-2 REVISITING THE ACCOUNTING CYCLE Steps taken to collect the necessary information to prepare financial statements (Exhibit 4-8) . Collect and Analyze 2. Journalize Events 3. Post to Ledger Accounts(Results in Unadjusted mental test sleep) 4. Journalize and Post adjustments(Results in Adjusted Trial Balance) 5. set Financial Statements 6. Journalize and Post end Entries(Results in Post-Closing Trial Balance) 7. Post Closing Trial Balance 8. Optional Reversing Entries The Closing Process Two types of accountsBalance Sheet= real accounts = permanent Income Statement= nominal accounts = temporary (Includes Dividend account) use of goods and services of closing entries-Close temporary accounts -transfer net in come (loss) to retained earningsProcess of closing debit individually Revenue Account Sum Up a undivided realization to Income Summary. Credit Each Expense Account, Sum Up a Single Debit to Income Summary. Debit Income Summary If It Has a Credit Balance (Company Had wage Income) ORCredit Income Summary If It Has a Debit Balance (Company Had Net Loss) Credit Dividend Account, Debit Retained Earnings Exhibit 4-9 (text pp. 171) Example 1E4-23. Ben Jerrys Example 2Let us look at McDonalds cans 1998 Statement of Income shown on Page 139 of your text. mark offa. Retained Earnings at the beginning and end of 1998 were $12,569 and $13,879. million respectively. b. Total dividends paid to common and favourite(a) shareholders were $239. 5 Use the numbers from the Income Statement to Reconstruct the relevant account balances. Then Close them to Income Summary and from there to Retained Earnings. EXAMPLE P4-10 Post-closing Trial Balance will only contain Balance Sheet accounts.When is a sale a sale? In an article concerning troubled MiniScribe Corporation (The Wall Street Journal September 12, 1989 MiniScribes Investigators Determine That abundant Fraud Was Perpetrated. ) it was stated that he company dramatically increased shipments to trey warehouses, booking $56. 4 in sales and rough profit of $5. 4 million. (Note that the warehouses being shipped to belonged to MiniScribe) The volume of shipments only called attention to the problem it was not the problem. line of work is it is not Customers warehouse but MiniScribes transport goods to ones? own warehouse is not a sale but a relocation of inventory must be an arms length transaction.This was one among many violations MiniScribe was also shipping bricks to an fictitious company, and recording them as sales revenue. 1. Claiming Tomorrows Profits Today, Forbes, October 17, 1988, p 78. Case 4-1Ben Jerrys Revenue Recognition Initial Franchise Fee Footnote on 147 of text. FASB SFAS 45 allows franchi sor to recognize initial franchise fee as revenue only when substantial performance of its obligations and when collection of the fee is reasonably assured. Revenue Recognition The Company recognizes franchise fee as .. when services compulsory by the franchise agreement have been substantially performed. 1. Consistent with SFAS 45.The annotate refers to certain mandatory services that the company promises to perform for the new stores. cognitive process of these services is the basis for recognizing the fee as revenue. Note that the footnote specifically uses the wording substantially performed. 2. The company recognizes the franchise fees as revenue in proportion to the stores for which the required services have been substantially performed. 3. Franchise fees are not large relative to net sales in any of the years. Franchise fees are less than 0. 4% of net sales in each of the three years. Unearned Revenue Realizability Vs.Earned criteria realized BUT has it been earned?. 1. Case 4-2 introduction- Revenue Recognition Refer to page 30 of entrances Annual Report, under Summary of authoritative Accounting Policies 1. Gateway recognizes revenue from product sales when products are shipped. Revenue from separately priced elongate warrant programs is deferred and recognized over the panoptic warranty period. 2. Extended warranty programs are contracts to service products for a period beyond the original warranty. These contracts are purchased for an additional amount above the product purchase price. . The revenue from the extended warranties is recognized over the warranty period because it is earned over the good period, as reportage is provided. 2. Case 4-3 Sears, Roebuck, Company Revenue from Service Contracts. 1. low the accrual basis, revenue should be recognized when it is earned, rather than when cash is received. Since the retailer incurs costs to repair damages over the life of the service contract, the revenue from the contract is also earn ed over the life of the contract. 2. Revenue to be recognized each year Year 1 Year 2Year 3Sales Revenue Service Contract Total revenue Typically, for service contract you receive cash or payment, for future services, that creates a liability. Thus one has an unearned revenue account. In this particular example, the liability account would contain thirty at the end of year 1 and XX at the end of year 2 reported under current liability as unearned revenue on the balance sheet. Sears, Roebuck, Company 1998 Annual Report Footnotes to Revenue Recognition The Company sells extended service contracts with terms of coverage between 12 and 36 months.Revenue and incremental direct acquisition costs from the sale of these contracts are deferred and amortized over the lives of the contracts. Costs related to servicing the contracts are expensed as incurred. 3. American dividing linelines 1996 total revenues of $17,753 million. Balance sheet reported ? Air traffic Liability? of $1,889 million . unearned revenue (11%) from shred sales. -when retired Retired when ticket holders are provided transportation. -Refundability a factor -What if carrier cannot provide service collectible to strike or storm. -When is revenue earned ? when ticket is bought when passenger boards when matte takes off when the round trip is complete. AMERICAN AIRLINES 1998 Annual Report (Summary of Significant Accounting Policies) (Note 1) PASSENGER REVENUES Passenger ticket sales are initially recorded as a component of air traffic liability. Revenue derived from ticket sales is recognized at the time transportation is provided. However, due to various factors, including the complex pricing structure and interline agreements throughout the industry, certain amounts are recognized in revenue using estimates regarding both the timing and the amount of revenue to be ecognized. Actual results could differ from those estimates.In 1998, American showed revenues of $17,449 million and recorded Air t raffic liability of $2,163 million on its Balance Sheet. sentence Warner Inc. According to Annual Report they publish 26 different magazines. At end of 19985 unearned subscription revenue was $741 million. -included in their is your paid subscription to Time for issues that you have yet to receive. -magazines are sold at different rates depending on how you subscribed and for how long. how to fall out track of when earned. when does the earnings process complete When subscription received if main source of revenue is advertising. When production is complete and delivery is made. A combination of these two. Note that Time does not have difficulty to keep track since subscription price variations and customer records are all kept by computers closely monitor the process from payment to through unearned revenue to delivery and revenue earned. Time Warner Inc. 1998 Annual Report (Note 1) The unearned portion of paid subscriptions is deferred until magazines are delivered to subscri bers.Upon each delivery, a proportionate share of the gross subscription is included in revenues. E 4-81. AugustCash Subscriptions Received in advance (Unearned Revenue) To record collection of 900 subscriptions Assets =Liabilities+ Owners Equity 2. August 31. Unearned revenue Subscription revenue To record subscriptions earned during August. Assets=Liabilities+Owners Equity 3. Net income for the month of August would be under stated / overstated by XXX if the accountant forgot to make the entry to recognize revenue earned. (Self Note Also see Magazine Subscription case) E 4 -9