Accounting Principles and Audits
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Questions and Answers

What is the primary purpose of an audit?

  • To analyze market trends
  • To collect tax information
  • To evaluate employee performance
  • To ensure financial statements conform to GAAP (correct)

    • Accounting information can only be used to report on past events.

    False

    What does GAAP stand for?

    Generally Accepted Accounting Principles

    An audit is an examination of a company's financial statements and the __________ that produced them.

    <p>accounting practices</p> Signup and view all the answers

    How is accounting information useful to businesses?

    <p>It aids in decision-making for the future</p> Signup and view all the answers

    Audited financial statements do not need to conform to GAAP.

    <p>False</p> Signup and view all the answers

    Match the following terms with their definitions:

    <p>Accounting = The process of systematically collecting, analyzing, and reporting financial information Audit = An examination of financial statements and accounting practices GAAP = Guidelines for reporting financial information Financial Statements = Reports that present the financial position of a company</p> Signup and view all the answers

    Which of the following is considered a current asset?

    <p>Cash</p> Signup and view all the answers

    Accounts payable are considered long-term liabilities.

    <p>False</p> Signup and view all the answers

    What is the role of accountants in the auditing process?

    <p>To ensure the accuracy of financial statements and compliance with GAAP.</p> Signup and view all the answers

    What is meant by depreciation in the context of fixed assets?

    <p>Depreciation is the process of apportioning the cost of a fixed asset over its useful life.</p> Signup and view all the answers

    __________ assets are those that do not have a physical existence but hold value.

    <p>Intangible</p> Signup and view all the answers

    Match the following assets with their descriptions:

    <p>Current Assets = Debts due within one year Fixed Assets = Assets held for longer than one year Intangible Assets = Non-physical assets with value Long-Term Liabilities = Debts not due for at least one year</p> Signup and view all the answers

    Which of the following is an example of a fixed asset?

    <p>Equipment</p> Signup and view all the answers

    Inventory is classified as a current asset.

    <p>True</p> Signup and view all the answers

    What are current liabilities?

    <p>Debts that will be repaid in one year or less.</p> Signup and view all the answers

    What is the term used to describe the total value of shares plus retained earnings for a company?

    <p>Shareholders' equity</p> Signup and view all the answers

    Net sales are calculated by subtracting operating expenses from gross sales.

    <p>False</p> Signup and view all the answers

    What do retained earnings represent?

    <p>The portion of a business’s profits not distributed to shareholders.</p> Signup and view all the answers

    The difference between a business's income and expenses is referred to as __________.

    <p>profit or loss</p> Signup and view all the answers

    Which of the following terms is synonymous with income statement?

    <p>Earnings statement</p> Signup and view all the answers

    Cash surplus refers to a situation where an individual's cash inflows exceed cash outflows.

    <p>True</p> Signup and view all the answers

    Match the following financial terms with their definitions:

    <p>Gross sales = Total rand amount of all goods and services sold Net sales = Actual rand amounts received from sales after adjustments Revenue = Rand amounts earned from business activities Operating expenses = Costs of running a business apart from cost of goods sold</p> Signup and view all the answers

    To calculate __________, subtract cost of goods sold and operating expenses from revenues.

    <p>net income</p> Signup and view all the answers

    What is the formula for calculating the Cost of Goods Sold?

    <p>Beginning inventory + Net purchases – Ending inventory</p> Signup and view all the answers

    Operating expenses include the cost of goods sold.

    <p>False</p> Signup and view all the answers

    What does gross profit represent?

    <p>Gross profit represents net sales minus the cost of goods sold.</p> Signup and view all the answers

    Net _____ occurs when revenues exceed expenses.

    <p>income</p> Signup and view all the answers

    Match each term to its definition:

    <p>Net income = Occurs when revenues exceed expenses Net loss = Occurs when expenses exceed revenues Operating expenses = All business costs other than COGS Gross profit = Net sales minus Cost of Goods Sold</p> Signup and view all the answers

    What are the two main categories of operating expenses?

    <p>Selling expenses and General expenses</p> Signup and view all the answers

    The statement of cash flows is used to evaluate a company’s investing and financing activities.

    <p>True</p> Signup and view all the answers

    What is the purpose of the statement of cash flows?

    <p>To illustrate how a company's activities affect cash during an accounting period.</p> Signup and view all the answers

    What does a higher return on sales indicate?

    <p>Effective transformation of sales into profits</p> Signup and view all the answers

    The current ratio is computed by dividing current liabilities by current assets.

    <p>False</p> Signup and view all the answers

    Calculate the return on sales for Baobab Art Supplies if the net income after taxes is R301,750 and net sales are R4,510,000.

    <p>0.067 or 6.7%</p> Signup and view all the answers

    The formula for inventory turnover is cost of goods sold divided by the __________ value of the inventory.

    <p>average</p> Signup and view all the answers

    Match the financial ratio with its description:

    <p>Return on sales = Reflects profit efficiency Current ratio = Ability to pay current liabilities Inventory turnover = Efficiency in managing inventory Net income = Profit after all expenses</p> Signup and view all the answers

    What does a current ratio of 2.60 indicate?

    <p>The business has R2.60 of current assets for every R1 of liabilities</p> Signup and view all the answers

    Inventory turnover indicates how often a business sells its merchandise inventory in a year.

    <p>True</p> Signup and view all the answers

    What can be done to improve a low current ratio?

    <p>Repaying current liabilities, reducing dividend payments, or obtaining additional cash.</p> Signup and view all the answers

    Study Notes

    Accounting Information

    • Accounting is the process of systematically gathering, analyzing, and reporting financial information.
    • Accounting information can be used to understand past performance and make future decisions.
    • Businesses use audits to evaluate their accounting practices and ensure accuracy.
    • Audits are conducted by accountants employed by public accounting firms.

    Audited Financial Statements

    • An audit examines a company's financial statements and the accounting practices that created them.
    • The purpose of an audit is to ensure that financial statements adhere to Generally Accepted Accounting Principles (GAAP).
    • GAAPs are a set of guidelines and practices used by US companies to report financial information.
    • An accountant will issue a statement confirming that a business's financial statements accurately reflect financial position and comply with GAAP.

    Assets

    • Current assets are those expected to be converted into cash within one year.
    • Current assets are categorized from most liquid to least liquid:
      • Cash
      • Marketable securities (stocks, bonds, investments easily convertible to cash)
      • Accounts receivable (credit purchases typically paid within 30-60 days)
      • Notes receivable (repaid over a longer period than accounts receivable)
      • Inventory (value of goods available for customer sale)
      • Prepaid expenses (payments made for future use)
    • Fixed assets are held or used for more than one year (e.g., land, buildings, equipment).
    • Depreciation is the process of spreading the cost of a fixed asset over its useful life.
    • Intangible assets lack physical form but have value based on their rights or privileges (e.g., patents, copyrights, trademarks).

    Liabilities and Owners' Equity

    • Current liabilities are debts repaid within one year or less.
    • Examples include:
      • Accounts payable (short-term credit purchases)
      • Salaries payable
      • Taxes payable
    • Long-term liabilities are debts payable for at least one year.
    • Owners' equity (for sole proprietorships and partnerships) represents the difference between assets and liabilities.
    • Shareholders' equity (for companies) consists of the total value of shares plus accumulated retained earnings.
    • Retained earnings are the portion of a business's profits not distributed to shareholders.

    The Income Statement

    • An income statement summarizes a business's revenues and expenses over a specific accounting period.
    • Other names include earnings statement and statement of income and expenses.
    • The difference between income and expenses is either profit or loss (for businesses) or cash surplus or deficit (for individuals).
    • For businesses, net income is calculated as:
      • Revenues - Cost of goods sold - Operating expenses = Net income

    Revenues

    • Revenues are the funds earned from selling goods, providing services, or other business activities.
    • Gross sales are the total amount from all goods and services sold during the accounting period.
    • Net sales are the actual amount received after adjusting for deductions like sales returns, allowances, and discounts.
      • Gross sales - Sales deductions = Net sales

    Cost of Goods Sold

    • Cost of goods sold represents the cost of inventory sold during the accounting period.
    • Calculation:
      • Cost of goods sold = Beginning inventory + Net purchases - Ending inventory
    • Gross profit is calculated as:
      • Gross profit = Net sales - Cost of goods sold

    Operating Expenses

    • Operating expenses encompass all business costs other than the cost of goods sold.
    • They are generally categorized as:
      • Selling expenses (marketing costs)
      • General expenses (administrative and management costs)

    Net Income

    • Positive net income occurs when revenues exceed expenses.
    • Net loss happens when expenses exceed revenues.
    • Formulas:
      • Net income from operations = Gross profit - Total operating expenses
      • Net income before taxes = Net income from operations - Interest expense

    The Statement of Cash Flows

    • The statement of cash flows illustrates how a business's operating, investing, and financing activities affect its cash position over an accounting period.
    • It helps evaluate future investment and financing needs.
    • Investors, lenders, and suppliers use this statement to assess a business's ability to pay dividends and repay debts.

    Financial Ratios

    • Financial ratios are numbers that show the relationship between two elements of a business's financial statements.

    Measuring a Business's Ability to Earn Profits

    • Return on sales (or profit margin) measures how effectively sales are converted into profit.
    • Calculation:
      • Net income after taxes ÷ Net sales
    • A higher return is generally better.

    Measuring a Business's Ability to Pay Its Debts

    • Current ratio indicates a business's capacity to pay its short-term liabilities.
    • Calculation:
      • Current assets ÷ Current liabilities
    • A higher ratio signifies a greater ability to cover current liabilities.

    Measuring How Well a Business Manages its Inventory

    • Inventory turnover measures the number of times inventory is sold and replenished during a year.
    • Calculation:
      • Cost of goods sold ÷ Average value of inventory
    • A higher turnover generally indicates efficient inventory management.
      • Average value of inventory = (Beginning inventory + Ending inventory) ÷ 2

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    Description

    This quiz explores key concepts in accounting, focusing on the systematic gathering, analysis, and reporting of financial information. It covers the importance of audits, the adherence to GAAP, and the classification of assets. Test your knowledge and understanding of how accounting practices shape financial insights.

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