4. LIFO: Last In, First Out
The last item purchased Last in should be accounted for as the first item sold First out COGS = Last Units In bottom layers representing the last purchases, are the first to be
accounted for as “sold” Ending Inventory = First Units In starts with the beginning inventory layers
Advantages: matches current costs with revenue. Disadvantages: gives a non-current value to inventory as an asset on the balance sheet.
LIFO, cont’d. If rising prices, lower Net Inc and therefore less paid in income taxes. LIFO Conformity Rule – if a
company uses LIFO for tax purposes, they must also use LIFO for financial reporting purposes.
VI. Gross Profit Method
Method used to estimate the amount of inventory on hand without having to take a physical count.
Uses: 1. Preparing Quarterly financial statements 2. Determining Casualty Losses Theft
Method: Based on a constant Gross Profit Rate and therefore a constant COGS rate determine the cost of the product sold for a period of time i.e. the quarter or up until the date of the casualty loss…
an estimate for COGS.
Step 1: Sales x 1-Gross Profit = estimate for COGS Step 2: Use COGS formula:
Beg Invt. xx + Net Purch. xx
GAS xx - COGS est xx
Invt on hand xx estimate VII. Inventory Errors
Remember: If End. Invt. is overstated in the first year, Net Income will be overstated by the same amount for the same year since COGS is understated.
In year 2 the next accounting period, the error will ALWAYS reverse itself i.e. have the opposite effect on net income and wash out on the balance sheet thru Retained Earnings, but Net Income will
remain off. At the start of year 3, all financial statements will be okay.
Ch 8 Fixed Assets PPE and Intangibles:
Original cost Include all costs incurred to bring the asset into its productive capacity
i.e. cost to buy + legal fees to acquire + shipping insurance during transit + installation. The only costs you don’t include are those that are
unusual to placing the asset into service i.e. The equipment was damaged during installation and had to be repaired…the repair costs are
unusual to the installation process and should be expensed…not added to the cost of the asset.
Do not include interest in the original cost of the asset UNLESS the asset is being constructed ie. An office building is being constructed
and it takes 2 years to complete. During the construction period the company financed the construction with a construction loan…the
interest on the construction loan adds to the cost of building the building.
Depreciation: Straight-Line , Activity Method DDB
Straight-Line Method: Cost - Salvage years life = Depr. Exp.
Activity Method:
Step 1: Cost Unit = Cost - Salvage units or hours Step 2: Depr. Exp = units produced this year x Costunit
Double-Declining Balance:
2yrs life x [cost - Accum. Depr] = Depr. Exp. For year
Depr. Exp is what is recorded for the current year ONLY on Inc. Stmt Accum Depr is the accumulation of all of the depr. taken over the
asset’s life on Balance sheet as contra-asset account
Book Value BV = Cost - Accum. Depr on that date Costs incurred AFTER the asset has been placed into service:
Capital Expenditure – increases capacity, enhances productivity, extends useful life, increases salvage value, etc. Accounting treatment:
Add cost to Book Value of asset and re-structure depreciation over REMAINING useful life.
Revenue Expenditure – for normalroutine maintenance and repairs. Does not improve productivity, extend useful life, etc.
Keeps the asset in working condition.
Sale of Fixed Asset: watch your dates for partial years on the sale
Cost xx - A.D xx
BV xx xx Cash Fair Value
|________________________| = GainLoss on sale
Intangibles: Amortize over the lesser of: Useful Life, Legal Life
If developed internally, Capitalize only legal fees to acquire + successful defense
Expense ALL RD costs immediately
Ch 9 - Current Liabilities and TVM Time Value of Money Know how to classify current liabilities and use Time Value of Money concepts as applied to Present Value.
Use simple interest on short-term notes both interest bearing and non-interest bearing.
Use Present Value anytime the debt extends beyond 12 months long term.
Make sure you can identify the type of cash flow i.e. lump sum payment of principal interest at
maturity or periodic PMTs along the way. i.e. one payment at the end [lump sum] requires the use of PV of 1; a series of equal payments [PMT] requires the use of PVOA
Things to Remember: 1.
If the question asks to find the payment PMT, it must give you the PV. Therefore, the amount the company has borrowed and needs TODAY is the amount of the present value.
2. If it gives you the PMT, you must solve for PV using a PVOA compounding factor.
3. If you are not making payments along the way, then it is telling you the lump sum due at the
end, and it must be discounted to PV using PV of 1 if it is a non-interest bearing note. The CV will ALWAYS grow because the company will now owe principal + unpaid interest.
4. Present Value is always less than Future Value because interest has been eliminated
discounted. 5.
Short-term Notes Payable:
Interest Bearing v. Non-interest bearing Notes: Interest Bearing: Maturity value = Principle + Interest Princ. x x mos12mos.
Non-Interest Bearing: Notes issued at a discount: the interest was deducted in advance.
Cash proceeds = Note Payable - [Princ. x Int. x mos. for TERM of note] Presentation on Balance Sheet: Note Payable xx at face value
Less: Discount xx Carrying Value xx
6. Classify Current Liabilities - any short-term debt to be paid in 12 mos. or less. Review Ch 9 notes for
list of common Current Liabilities. Include current maturities of long-term debt. Include Contingent Liabilities IF both “Probable” and management can estimate the amount.
7. Current Ratio – Improves when a company re-pays a current liability; decreases when a company
takes on additional current liabilities.
Helpful Formulas from ACC 242:
For Lump Sum payment of Princ Interest at maturity:
PV = FV x PV of 1 , n
For an Annuity making installment payments:
PV = PMT x PVOA , n
Semi-annual interest: double the of periods and half the interest rate.
Amortization Schedule for Notes ReceibablePayable:
1. Lump Sum Principal + Interest owed at maturity.
Date Cash Pmt.
Interest Expense Principle Reduction
Carrying Value Issue
PV of Note 1
-0- CV x Int.
-0- PV + Unpaid Interest
2 -0-
New CV x Int. -0-
New CV + Unpaid Interest 3
-0- 4
-0- CV Increases until it reaches
FaceValue at Maturity
2. Installment Payments Princ Interest paid evenly throughout term of Note
Date Cash Pmt. -
Interest Expense = Principal Reduction Carrying Value
Issue PV of Note
1 xx
- CV x Int. =
xx PV - Princ. Reduction
2 xx
- New CV x Int. = xx
New CV - Princ reduction 3
xx 4
xx CV decreases until it reaches
Zero after last PMT Maturity
Chapter 10
Long – Term Bonds Payable
Bonds – terminology
1. Stated Rate – fixed rate of interest paid on face value of the bond. also called “Coupon Rate” or
“Face Rate”. Locks in on date of sale. 2.
Market rate – the going rate of interest that borrowerslenders are willing to accept on the day the bond is sold issued. The market rate locks in on the date of issuance. Market rate is also called
the “effective rate” or “yield.” 3.
term bond – all bonds mature on same date 4.
serial bond – bonds retire in installments 5.
callable bond – corp. reserves the right to buy them back early at stated “call” price Bonds as a form of long–term liabilities appear on the balance sheet at their Carrying Value CV. The CV
represents the amount of debt actually owed on that balance sheet date “current cash equivalent”. Therefore, it is equivalent to the present value of all remaining cash flows on that date.
Interest is an expense on the income statement. Interest Expense reduces Net Income, and therefore reduces Income Taxes. Because of this Income Tax Advantage, issuing debt rather than equity is oftentimes preferable.
Issuance of Bonds – 2 promises:
1. Promise to pay lump sum of face value at maturity. Therefore an amortization table for a bond
will always increase or decrease to reach the face value of the bond on the date of maturity. 2.
Promise to pay periodic interest payments during the life of the bond. The only time you use the stated rate of interest is to find the cash interest payment. You can then fill in this entire
column on the amortization table as this is a fixed rate of interest and will not change over the life of the bonds
Discounts Premiums
1. If coupon rate = market rate
sell at face value Cash Interest Pmt = Interest Exp 2.
If coupon rate market rate sell at a discount selling price is less than face value.
3. If coupon rate market rate
sell at a premium selling price is greater than face value.
Selling Price of a Bond:
Determine Selling Price using PV tables always use MKT. to discount to PV For bonds paying annual interest, dont adjust interest rate or of pay periods.
For bonds paying semi-annual interest, cut in half the interest rate and double the of pay periods. PV of Face Value = FaceValue x PV of 1 mkt., n
Plus + PV of Cash Int. Pmts = PMT x PVOA mkt., n = Selling Price of Bond
To find Cash Interest PMT = Face Value x Stated
Interest Expense = C.V Carrying Value x Mkt. Carrying Value reported on Balance Sheet:
1. If Premium: CV = face value + unamortized premium 2. If Discount: CV = face value - unamortized discount
Things to Know:
Know how to set up and use an amortization table to help with theory, journal entries, carrying value,
interest expense for a year, etc.
Know the direction the amortization table will move: a. If bond sold at a discount, the CV will increase over its life until it reaches face value at
maturity. b. If bond sold at a premium, the CV will decrease over its life until it reaches face value at
maturity.
Effects of Discount:
1. A discount adds to the cost of borrowing you actually have to match the market rate, which is more than the coupon. The corp. receives less cash today, but must pay back face value at maturity.
2. Carrying value increases over the life of the bond until it reaches face value at maturity. 3. Amortization of discount increases interest expense because interest exp is based on CV, and CV is
growing with every interest period.
Effects of Premium:
1. Premium reduces the cost of borrowing you are again matching the market rate of interest…which represents your true cost to borrow…and market is less than coupon.
2. Carrying value decreases over its life until it reaches face value at maturity. 3. Amortization of premium reduces interest expense each pay period because CV is decreasing over the
life.
To Determine Total Cost of Borrowing:
2 ways to calculate: 1. Compare cash inflows and outflows, the difference = cost to borrow over life of bond
2. Total cash paid out in interest over life of bond + Discount on date of issuance = total cost to borrow
Or
Total cash paid out in interest over life of bond – Premium on date of issuance = total cost to borrow.
Helpful formulas to find:
a. Unamortized PremiumDiscount: b. GainLoss on Retirement:
Face Value Carrying Value
Cash to Repurchase |___________________________________| |___________________________________|
= Unamortized PremDiscount = GainLoss on Retirement
Cash to Repurchase = Face Value x Call or Market Price
Chapter 11 - SHE I.
Stockholders Equity--know the difference between earned and contributed capital and what affects Retained Earnings.
II. Retained Earnings earned capital is affected by:
+- Prior Period Adjustments to correct an error that affected NI from a prior year + NI,
- dividends both cash and stock,
III. Capital Stock--know these terms:
A. Authorized shares--total of shares that can ever be sold by corp. in charter B. Issued shares--total of shares sold by corp. since it originated
C. Outstanding shares-- of shares held by outside sources shares issued- treasury shares = outstanding
D. Treasury stock--stock the company has reacquired E. Par vs. Non-par value shares
IV. Rights of common and preferred stockholders
Preferred Shareholders – right to receive their dividends first before common get anything. Common Shareholders – 1 Voting Rights 2 Right to receive a Dividend not guaranteed…
unlike Preferred stock, 3 Pre-emptive Right right to maintain their percentage share of ownership IF new shares are issued and 4 Liquidation Right
V. Issuance of Stock
If selling price par value Cash of shares selling price xx
Common Stock of shares par value xx APIC plug
xx APIC is excess of selling price over par.
Stock issued for non-cash asset: record at Fair Value of stock if traded daily or asset recd
Dividends
--always decreases RE --preferred stockholders receive their dividends first
--Common Dividend calculation = of shares outstanding x 0.xx div per share remember, shares
held in treasury lose all of their rights while being held by the company --know the three important dates for dividends date of declaration, date of record, and date of payment
Dividend Distributions between Preferred Cumulative and Common shareholders
Pref Dividend = issued x Par x return Preferred shareholders get their dividends first, and if cumulative, must be
paid all of the unpaid dividends from prior years dividends in arrears + current year’s dividend before common shareholders get anything.
Cash dividends reduce RE, Cash, and SHE
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