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ACTG 500 – Financial Accounting Analysis

ACTG 500 – Financial Accounting Analysis. ACCOUNTING 500 FINANCIAL ACCOUNTING ANALYSIS BY XXXX. 1. ACTG 500 – Financial Accounting Analysis. Session Two Accounting Income and Assets: The Accrual Concept. 2. ACTG 500 – Financial Accounting Analysis. Income Statement. 3.

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ACTG 500 – Financial Accounting Analysis

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  1. ACTG 500 – Financial Accounting Analysis ACCOUNTING 500 FINANCIAL ACCOUNTING ANALYSIS BY XXXX 1

  2. ACTG 500 – Financial Accounting Analysis Session Two Accounting Income and Assets: The Accrual Concept 2

  3. ACTG 500 – Financial Accounting Analysis Income Statement 3

  4. ACTG 500 – Financial Accounting Analysis Income Statement 4

  5. ACTG 500 – Financial Accounting Analysis Income Statement Book Recommended Format 5

  6. ACTG 500 – Financial Accounting Analysis Income Statement 6

  7. ACTG 500 – Financial Accounting Analysis Income Statement 7

  8. ACTG 500 – Financial Accounting Analysis Income Statement 8

  9. ACTG 500 – Financial Accounting Analysis Income Statement In analyzing income statements, the goal is to determine future cash flow. Therefore, the income statements is looked at as a predictor of future income, which is general it is not. However, the income statement must have predictive value. 9

  10. ACTG 500 – Financial Accounting Analysis Income Statement In analyzing income statements, the goal is to determine future cash flow. Therefore, the income statements is looked at as a predictor of future income, which is general it is not. The income statement must have predictive value. Recurring versus non-recurring items must be analyzed. 10

  11. ACTG 500 – Financial Accounting Analysis Income Statement In analyzing income statements, the goal is to determine future cash flow. Therefore, the income statements is looked at as a predictor of future income, which is general it is not. The income statement must have predictive value. Recurring versus non-recurring items must be analyzed. Thus, look for “above the line” and “below the line” non- recurring items 11

  12. ACTG 500 – Financial Accounting Analysis Income Statement 12

  13. ACTG 500 – Financial Accounting Analysis Income Statement 13

  14. ACTG 500 – Financial Accounting Analysis Income Statement Other non-recurring items may be hidden 14

  15. ACTG 500 – Financial Accounting Analysis Income Statement Other non-recurring items may be hidden “Above the Line Items” 15

  16. ACTG 500 – Financial Accounting Analysis Income Statement Other non-recurring items may be hidden 16

  17. ACTG 500 – Financial Accounting Analysis Income Statement Other non-recurring items may be hidden “Below the Line” 17

  18. ACTG 500 – Financial Accounting Analysis Income Statement 18

  19. ACTG 500 – Financial Accounting Analysis Income Statement 19

  20. ACTG 500 – Financial Accounting Analysis Income Statement 20

  21. ACTG 500 – Financial Accounting Analysis Income Statement Recurring operating activities is the best indicator of future income The concept of recurring income is similar to permanent or sustainable income in the sense the it is persistent. With recurring income, the level or rate of growth is relatively more predictable. 21

  22. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition 22

  23. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition When accrual accounting is used to prepare financial statements, two revenue and expense recognition issues must be addressed: When? Timing Howmuch? Measurement 23

  24. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition When accrual accounting is used to prepare financial statements, two revenue and expense recognition issues must be addressed: In Practice: Management has discretion with respect to both revenue and expense recognition. 24

  25. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition When accrual accounting is used to prepare financial statements, two revenue and expense recognition issues must be addressed: In Practice: Management has discretion with respect to both revenue and expense recognition. Remember: It must be consistent! 25

  26. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition SFAC 5 - Recognition and measurement of financial statements: Two conditions must be met for revenue recognition: 1. Completion of the earnings process The Work was gone; Product Delivered; Service Competed Under specific contracts: Portion recognized when condition met 2. Assurance of payment Payment is expected Do not recognize if customer is insolvent and payment not expected 26

  27. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition SFAC 5 - Recognition and measurement of financial statements: Two conditions must be met for revenue recognition: 1. Completion of the earnings process The Work was gone; Product Delivered; Service Competed Under specific contracts: Portion recognized when condition met Revenue recognition includes the concept of realization: Revenue, measured as the amount expected to be collected, can be recognized when goods or services have been provided and their cost can be reliably determined 2. Assurance of payment Payment is expected Do not recognize if customer is insolvent and payment not expected 27

  28. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Revenue Recognition Methods or Income Determination Methods: 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method Accounting Method Under accrual accounting, revenue is generally recognized at the point of sales (ARB 43, Chapter 1A). Criteria for use of basis: - Exchange has taken place - Earnings process is (virtually) complete 28

  29. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Exceptions to Revenue Recognition Methods or Income Determination Methods: 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method ARB 45 - Criteria for the use of basis: - Long-term construction, property, or service - Dependable estimates of estimate of extent of progress and cost to complete - Reasonable assurance of collectibility of contract price Reasons for departing from sales basis: - Availability of evidence of ultimate proceeds - Better measure of periodic income - Avoidance of fluctuations in revenues in revenue, expenses, and income 29

  30. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition General formula: Goods and services provided to date Total goods and Services to be provided Total expected revenue X E.g.: Contract to construct building for $10,000,000. It is estimated to cost $5,600,000 to build. At the fiscal year, $1,300,000 was expended. Revenue recognized: $1,300,000 x $10,000,000 = $2,321,429 $5,600,000 30

  31. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Exception to Revenue Recognition Methods or Income Determination Methods: 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method ARB 45 - Completed Contract Method - Recognition of revenue and profit at contract completion. All related costs are deferred until completion and then matched to revenues. 31

  32. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition General formula: Goods and services provided to date Total goods and Services to be provided Total expected revenue X E.g.: Contract to construct building for $10,000,000. It is estimated to cost $5,600,000 to build. At the fiscal year, $1,300,000 was expended. Revenue recognized: No Revenue and expense recognized until contract completed 32

  33. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Various Revenue Recognition Methods or Income Determination Methods: 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method ARB 10 - Criteria for use of basis: - Absence of a reasonable basis for estimating degree of collectibility. 33

  34. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition General formula: Goods and services provided to date Total goods and Services to be provided Total expected revenue X E.g., The magazine company sold a 1-year magazine subscription for $50.00. How much revenue should be recognized each month? 1-month x $50.00 = $4.17 12-months 34

  35. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Various Revenue Recognition Methods or Income Determination Methods: 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method 35

  36. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Various Revenue Recognition Methods or Income Determination Methods: ARB 10 - Criteria for use of basis: - Absence of a reasonable basis for estimating degree of collectibility. 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method 36

  37. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Various Revenue Recognition Methods or Income Determination Methods: ARB 10 - Criteria for use of basis: - Absence of a reasonable basis for estimating degree of collectibility. 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method Reason for departure from sales basis: - Level of uncertainty with respect to collection of the receivable preclude recognition of gross profit before cash is received 37

  38. ACTG 500 – Financial Accounting Analysis Accounting Income: Revenue and Expense Recognition Various Revenue Recognition Methods or Income Determination Methods: ARB 10 - Criteria for use of basis: - Absence of a reasonable basis for estimating degree of collectibility. 1. Sales basis (most common) 2. Percentage of completion 3. Completed contract method 4. Installment method 5. Cost recovery method Reason for departure from sales basis: - Level of uncertainty with respect to collection of the receivable preclude recognition of gross profit before cash is received Gross profit is deferred, until the cumulative cash receipts exceeds the costs. 38

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