Understanding the Balance Sheet

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Questions and Answers

How does an increase in accounts receivable typically impact the cash flow statement, and under which section is this impact reported?

An increase in accounts receivable typically decreases cash flow from operating activities. This is reported in the operating activities section as an adjustment to net income.

Explain the difference in how the purchase of a building and the annual depreciation of that building are reflected in a company's financial statements.

The purchase of a building is a cash outflow reported in the investing activities section of the cash flow statement and increases the PPE on the balance sheet. Depreciation is a non-cash expense reported on the income statement, reducing net income.

If a company issues bonds at a premium, how does this transaction affect the cash flow statement and balance sheet?

Issuing bonds is recorded as a cash inflow in the financing activities section of the cash flow statement, and the bonds payable is recorded as a liability on the balance sheet.

Describe how an increase in inventory levels, without a corresponding increase in sales, affects a company's net income and cash flow from operations.

An increase in inventory decreases net income if the cost of goods sold increases due to obsolescence. It also decreases cash flow from operations, as more cash is tied up in inventory. Signup and view all the answers

What is the primary difference between Cost of Goods Sold (COGS) and Selling, General & Administrative Expenses (SG&A) in terms of their impact on a business?

COGS directly relates to the cost of producing goods or services and directly reduces revenue to calculate gross profit. SG&A are period costs related to operating the business and are deducted after gross profit to arrive at operating income. Signup and view all the answers

How do dividends paid to stockholders affect the balance sheet and cash flow statement?

On the balance sheet, dividends reduce retained earnings in the equity section. On the cash flow statement, they are reported as a cash outflow in the financing activities section. Signup and view all the answers

Explain the accounting equation and its significance in maintaining the balance sheet's integrity.

The accounting equation is Assets = Liabilities + Equity. It ensures that the balance sheet remains balanced by reflecting that a company's assets are financed by either liabilities (what it owes to others) or equity (the owner's stake). Signup and view all the answers

Describe how the sale of a piece of equipment for cash at a price higher than its book value affects the income statement and the cash flow statement.

On the income statement, the difference between the sale price and book value is recorded as a gain. On the cash flow statement, the total cash received from the sale is an inflow in the investing activities section. Signup and view all the answers

What is the significance of 'accumulated depreciation' and where is it reported on the balance sheet?

Accumulated depreciation represents the total depreciation expense recognized on an asset over its life. It's reported as a contra-asset account, reducing the book value of Property, Plant, and Equipment (PPE) on the balance sheet. Signup and view all the answers

Explain how 'deferred revenue' arises and on which financial statement does it appear?

Deferred revenue arises when a company receives payment for goods or services that have not yet been delivered or performed. It is a liability account on the balance sheet. Signup and view all the answers

How does the cash flow statement help in evaluating a company's solvency, beyond what the balance sheet and income statement provide?

The cash flow statement shows the actual cash inflows and outflows, indicating the company's ability to meet its short-term obligations and fund its operations, which the balance sheet and income statement do not directly reveal. Signup and view all the answers

Describe how the write-off of an uncollectible account receivable affects the income statement and balance sheet.

The write-off of an uncollectible account receivable reduces accounts receivable (an asset), increases the allowance for doubtful accounts (a contra-asset), and may be recognized as bad debt expense on the income statement, depending on the accounting method used. Signup and view all the answers

Explain how the amortization of intangible assets impacts the income statement and balance sheet.

Amortization is recorded as an expense on the income statement, reducing net income. On the balance sheet, it directly reduces the value of the intangible assets. Signup and view all the answers

How do stock-based compensation expenses impact the income statement and the cash flow statement?

Stock-based compensation expenses are recognized as an operating expense reducing net income on the income statement. However, because it is a non-cash expense, it is added back to net income in the operating activities section of the cash flow statement. Signup and view all the answers

What is the difference between direct and indirect methods of preparing the operating activities section of the cash flow statement?

The direct method reports actual cash inflows and outflows from operating activities, while the indirect method starts with net income and adjusts it for non-cash items and changes in working capital accounts. Signup and view all the answers

How does issuing new common stock affect the balance sheet and cash flow statement?

Issuing new common stock increases cash in the asset section and increases common stock and additional paid-in capital in the equity section of the balance sheet. It is also recorded as a cash inflow in the financing activities section of the cash flow statement. Signup and view all the answers

What is the role of retained earnings on the balance sheet, and what factors can cause it to increase or decrease?

Retained earnings represents the cumulative net income of a company less any dividends paid to shareholders. It increases with net income and decreases with net losses and dividend payments. Signup and view all the answers

Explain how a significant purchase of treasury stock (repurchasing company's own shares) affects the balance sheet and cash flow statement.

On the balance sheet, treasury stock reduces the equity section. On the cash flow statement, the repurchase of shares is recorded as a cash outflow in the financing activities section. Signup and view all the answers

How does recording depreciation expense impact a company's tax liability?

Depreciation expense reduces a company's net income, which in turn reduces its taxable income, leading to a lower tax liability. Signup and view all the answers

If a company changes its inventory valuation method (e.g., from FIFO to weighted-average), how would this change potentially impact its financial statements?

Changing inventory valuation methods can affect the cost of goods sold (COGS) on the income statement, which in turn impacts net income. It also affects the ending inventory balance on the balance sheet, as different methods assign different values to the inventory. Signup and view all the answers

Flashcards

What are Assets?

Resources owned by a company, such as cash, accounts receivable, and equipment.

What is a Balance Sheet?

A report showing a company's assets, liabilities, and equity at a specific point in time.

What are Liabilities?

Obligations of a company to external parties, such as accounts payable and loans.

What is Equity?

The owner's stake in the company, representing the residual value of assets after deducting liabilities.