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Questions and Answers
What is the definition of the operating cycle?
What is the definition of the operating cycle?
The time it takes for a company to pay cash to suppliers, sell those goods and services to customers, and collect cash from customers.
What are the elements on the statement of earnings?
What are the elements on the statement of earnings?
The cash basis of accounting recognizes revenue when cash is paid.
The cash basis of accounting recognizes revenue when cash is paid.
False
What does the revenue principle state?
What does the revenue principle state?
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What is the expense principle?
What is the expense principle?
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What happens when cash is received before revenue is earned?
What happens when cash is received before revenue is earned?
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What is the matching principle?
What is the matching principle?
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Study Notes
Learning Objectives
- Understand the business operating cycle and the relevance of the periodicity assumption.
- Identify business activities impacting the statement of earnings elements.
- Grasp the accrual basis of accounting and the principles for recognizing revenue and expenses.
- Prepare a multistep statement of earnings.
- Differentiate between net earnings and cash flow from operations.
Operating Cycle
- The operating cycle (cash-to-cash cycle) measures the time from cash payment to suppliers, to selling goods/services, to cash collection from customers.
- Stages include purchasing/manufacturing, delivering services/products, and receiving payment.
Elements of the Statement of Earnings
- Revenues: Increases in assets or decreases in liabilities from ongoing operations.
- Expenses: Decreases in assets or increases in liabilities from ongoing operations.
- Gains: Increases in assets or decreases in liabilities from non-operational transactions.
- Losses: Decreases in assets or increases in liabilities from non-operational transactions.
Operating Activities Recognition and Measurement
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Cash Basis Accounting:
- Revenue recognized when cash is received.
- Expenses recognized when cash is paid.
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Accrual Accounting:
- Revenues and expenses recognized when transactions occur, independent of cash flow.
Accounting Standards
- Accrual accounting is mandated by International Financial Reporting Standards (IFRS) and Generally Accepted Accounting Principles (GAAP).
Principles for Preparing the Statement of Earnings
- Revenue Principle: Revenue recognized upon transfer of ownership, not solely cash receipt.
- Expense Principle: Expenses recognized when incurred, regardless of cash payment.
- Matching Principle: Costs incurred to generate revenue must be recorded in the same accounting period.
Revenue Principle Example
- In cases where cash is received before goods/services delivery:
- A liability termed "Deferred Revenue" is recognized.
- Entries made: Cash (+A) and Deferred Revenue (+L).
Revenue Recognition in Deferred Revenue
- Upon delivery of goods or services, the Deferred Revenue account is decreased, reflecting the recognition of revenue once the service is performed.
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Description
This quiz focuses on Chapter 3 of the Fundamentals of Financial Accounting course, covering the essential topics of operating statements and the statement of earnings. Students will explore the business operating cycle, understand the periodicity assumption, and learn about the accrual basis of accounting. Test your knowledge on revenue and expense recognition principles.
