Financial Statement Types and Elements

Question 1

Who are the direct users of financial information?

Answer 1

• Investors and potential investors
• Employees
• Management
• Suppliers
• Creditors

Direct users are directly affected by the results of a company and stand to lose money if the company has financial problems.

Question 2

Who are considered indirect users of financial information?

Answer 2

• Financial analysts and advisors
• Stock markets
• Regulatory bodies

Indirect users represent direct users and are not directly affected by the company’s financial results.

Question 3

What are the six elements of financial statements?

Answer 3

1. Assets
2. Liabilities
3. Equity (or net assets for not-for-profit entities)
4. Comprehensive income and its components
5. Investments by owners
6. Distributions to owners

Question 4

What is comprehensive income?

Answer 4

It is determined by changes in assets and liabilities other than those resulting from investments by owners and distributions to owners.

Components of comprehensive income include revenues, expenses, gains, and losses.

Question 5

What financial statements are used by business entities under U.S. GAAP?

Answer 5

1. Balance sheet (statement of financial position)
2. Statement of comprehensive income/Income statement
3. Statement of changes in stockholders’ equity
4. Statement of cash flows

Question 6

What information does the balance sheet provide?

Answer 6

The balance sheet provides information about an entity’s assets, liabilities, and owners’ equity at a point in time.

It helps assess liquidity, financial flexibility, net resources, risk, and solvency.

Question 7

Define liquidity in the context of a balance sheet.

Answer 7

It refers to the time expected to elapse until an asset is converted into cash or until a liability needs to be paid.

Question 8

What is financial flexibility?

Answer 8

The ability of a business to take actions to alter the amounts and timing of its cash flows to respond to unexpected needs and take advantage of opportunities.

Question 9

What are the elements of the balance sheet?

Answer 9

• Assets
• Liabilities
• Stockholders’ (or owners’) equity

Question 10

How are balance sheet elements valued?

Answer 10

• Historical cost or historical proceeds
• Current cost
• Current market value
• Net realizable or settlement value
• Present (discounted) value of future cash flows
• Cost less expired or used portion

Question 11

What are current assets?

Answer 11

These are cash and other assets or resources that are reasonably expected to be realized in cash or sold or consumed within the longer of one year, or the company’s operating cycle.

Question 12

Give examples of non-current assets.

Answer 12

• Property, plant, and equipment
• Intangible long-term assets
• Long-term investments

Question 13

What are current liabilities?

Answer 13

These are obligations that will be settled through the use of current assets or by the creation of other current liabilities.

Question 14

What is equity in a corporation?

Answer 14

It is the remaining balance of assets after the subtraction of all liabilities, representing the portion of the company’s assets owned by and owed to the owners.

Question 15

What are the limitations of the balance sheet?

Answer 15

• Many assets are not reported
• Values of certain assets are measured at historical cost
• Judgments and estimates are used for many items
• Most liabilities are valued at historical rates

Question 16

What is the purpose of the income statement?

Answer 16

It reports the results of a company’s operations during a given period of time.

Question 17

What are temporary accounts in accounting?

Answer 17

• Accounts used to record revenues, expenses, gains, and losses.
• Closed to retained earnings at the end of each fiscal year.
• Balances are zero at the beginning of each fiscal year.

Question 18

How is gross profit calculated on an income statement?

Answer 18

Sales revenue less the cost of goods sold.

Question 19

What does operating income represent on the income statement?

Answer 19

Gross profit less selling, general, and administrative expenses.

Question 20

What are the four elements of the income statement?

Answer 20

1. Revenues
2. Gains
3. Expenses
4. Losses

Question 21

What is the revenue recognition principle?

Answer 21

Revenues are recognized in the accounting period in which the performance obligation is satisfied.

Question 22

What does the matching principle mean?

Answer 22

Expenses should be recognized when the work or product contributes to revenue.

Question 23

What is a limitation of the income statement?

Answer 23

Net income involves estimates and assumptions affecting company performance.

Question 24

What does the statement of changes in stockholders’ equity report?

Answer 24

Changes in each account in the stockholders’ equity section and total stockholders’ equity during the year.

Question 25

What is the **purpose of notes** to financial statements?

Answer 25

To **supplement and explain** the information presented in the **main body** of the financial statements.

Question 26

What are common **accounting policy disclosures** required in financial statements?

Answer 26

* Basis of consolidation * Depreciation method(s) * Information on amortization of intangibles * Inventory pricing * Recognition of revenue from contracts with customers * Recognition of revenue from leasing operations

Question 27

What is the definition of '**fair value**' according to FASB?

Answer 27

The **price** that would be **received to sell an asset** or **paid to transfer a liability** in an orderly transaction between market participants at the measurement date.

Question 28

What is the relationship between the **income statement** and the **balance sheet** regarding **retained earnings**?

Answer 28

The change in retained earnings on the balance sheet during the period is **equal to net income** on the income statement **minus dividends paid**.