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FINANCIAL ACCOUNTING This page intentionally left blank FIFTH CANADIAN EDITION FINANCIAL ACCOUNTING WALTER T HARRISON, JR BAYLOR UNIVERSITY CHARLES T HORNGREN STANFORD UNIVERSITY C WILLIAM (BILL) THOMAS BAYLOR UNIVERSITY GREG BERBERICH UNIVERSITY OF WATERLOO CATHERINE SEGUIN UNIVERSITY OF TORONTO TORONTO To Jeanette, Simon, and Juliana —Greg Berberich To Dennis, Andrea, Allison, and Mark —Catherine I Seguin Vice-President, Cross Media & Publishing Services: Gary Bennett Managing Editor, Business Publishing: Claudine O’Donnell Acquisitions Editor: Megan Farrell Marketing Manager: Claire Varley Developmental Editor: Rebecca Ryoji Lead Project Manager: Avinash Chandra Project Manager: Sarah Gallagher Manufacturing Coordinator: Jane Schell/Karen Bradley Production Editor: Carrie Fox, Electronic Publishing Services Inc., NYC Copy Editor: Audra Gorgiev Proofreader: Megan Smith-Creed Compositor: Aptara, Inc Text Permissions: Electronic Publishing Services Inc., NYC Photo Permissions: Q2A/Bill Smith Art Director: Julia Hall Interior Designer: Miguel Acevedo Cover Designer: Anthony Leung Cover Image: Getty Images Credits and acknowledgments for material borrowed from other sources and reproduced, with permission, in this textbook appear on the appropriate page within the text Original edition published by Pearson Education, Inc., Upper Saddle River, New Jersey, USA Copyright © 2013 Pearson Education, Inc This edition is authorized for sale only in Canada If you purchased this book outside the United States or Canada, you should be aware that it has been imported without the approval of the publisher or the author Copyright © 2015 Pearson Canada Inc All rights reserved Manufactured in the United States of America This publication is protected by copyright and permission should be obtained from the publisher prior to any prohibited reproduction, storage in a retrieval system, or transmission in any form or by any means, electronic, mechanical, photocopying, recording, or likewise To obtain permission(s) to use material from this work, please submit a written request to Pearson Canada Inc., Permissions Department, 26 Prince Andrew Place, Don Mills, Ontario, M3C 2T8, or fax your request to 416-447-3126, or submit a request to Permissions Requests at www.pearsoncanada.ca 10 [CKV] Library and Archives Canada Cataloguing in Publication Harrison, Walter T., author Financial accounting / Walter T Harrison Jr, Baylor University, Charles T Horngren, Stanford University, C William (Bill) Thomas, Baylor University, Greg Berberich, University of Waterloo, Catherine Seguin, University of Toronto — Fifth Canadian edition Includes index Revision of: Financial accounting 4th Canadian ed 2011 ISBN 978-0-13-297927-6 (bound) Accounting–-Textbooks I Horngren, Charles T., 1926-, author II Thomas, C William, author III Seguin, Catherine I., author IV Berberich, Greg, 1968-, author V Title HF5635.F43095 2014 657’.044 C2013-902937-0 ISBN: 978-0-13-297927-6 Contents The Financial Statements Explain Why Accounting Is the Language of Business Explain Accounting’s Conceptual Framework and Underlying Assumptions Describe the Purpose of Each Financial Statement and Explain the Elements of Each One 11 Explain the Relationships Among the Financial Statements 22 Make Ethical Business Decisions 25 Recording Business Transactions 54 Describe Common Types of Accounts 55 Record the Impact of Business Transactions on the Accounting Equation 57 Record Business Transactions in T-Accounts 66 Record Business Transactions in the Journal and Post Them to the Ledger 70 Prepare a Trial Balance 76 Accrual Accounting and the Financial Statements 105 Explain How Accrual Accounting Differs From Cash-Basis Accounting 106 Apply the Revenue and Expense Recognition Principles 108 Record Adjusting Journal Entries 110 Prepare the Financial Statements 120 Record Closing Journal Entries 129 Analyze and Evaluate a Company’s Debt-Paying Ability 131 Internal Control and Cash 170 Describe Fraud and Its Impact 173 Explain the Objectives and Components of Internal Control 176 Prepare and Use a Bank Reconciliation 185 Apply Internal Controls to Cash Receipts and Cash Payments 194 Construct and Use a Budget to Manage Cash 198 Short-Term Investments and Receivables 222 Account for Short-Term Investments 223 Account for and Control Receivables 228 Estimate and Account for Uncollectible Accounts Receivable 230 Account for Notes Receivable 237 Explain How to Improve Cash Flows From Sales and Receivables 240 Evaluate a Company’s Liquidity 243 Inventory and Cost of Goods Sold 270 Account for Inventory Using the Perpetual and Periodic Inventory Systems 272 Explain and Apply Three Inventory Costing Methods 278 Explain How Accounting Standards Apply to Inventory 285 Analyze and Evaluate Gross Profit and Inventory Turnover 288 Use the Cost-of-Goods-Sold (COGS) Model to Make Management Decisions 290 Analyze How Inventory Errors Affect the Financial Statements 292 Property, Plant, and Equipment, and Intangible Assets 321 Describe the Types of Tangible and Intangible Assets a Business May Own 322 Measure and Account for the Cost of Property, Plant, and Equipment 323 Calculate and Record Depreciation on Property, Plant, and Equipment 326 Explain Additional Topics in Accounting for Long-Lived Tangible Assets 335 Account for Intangible Assets 342 Analyze and Evaluate a Company’s Return on Assets 345 Interpret Tangible and Intangible Asset Activities on the Statement of Cash Flows 347 v vi Contents Long-Term Investments and the 11 The Income Statement, the Analyze and Report Non-Strategic Investments 377 Analyze and Report Investments in Affiliated Companies Using the Equity Method 380 Analyze and Report Controlling Interests in Other Corporations Using Consolidated Financial Statements 383 Analyze and Report Long-Term Investments in Bonds 386 Report Investing Activities on the Statement of Cash Flows 391 Explain the Impact of the Time Value of Money on Certain Types of Investments 391 Evaluate the Quality of Earnings 522 Account for Other Items on the Income Statement 526 Compute Earnings per Share 529 Analyze the Statement of Comprehensive Income and the Statement of Changes in Shareholders’ Equity 530 Differentiate Between Management’s and the Auditor’s Responsibilities in Financial Reporting 533 Time Value of Money 374 Liabilities 416 Explain and Account for Current Liabilities 417 Explain the Types, Features, and Pricing of Bonds Payable 426 Account for Bonds Payable 429 Calculate and Account for Interest Expense on Bonds Payable 430 Explain the Advantages and Disadvantages of Financing with Debt Versus Equity 437 Analyze and Evaluate a Company’s Debt-Paying Ability 439 Describe Other Types of Long-Term Liabilities 442 Report Liabilities on the Balance Sheet 443 10 Shareholders’ Equity 474 Explain the Main Features of a Corporation 475 Account for the Issuance of Shares 479 Explain Why a Company Repurchases Shares 482 Account for Retained Earnings, Dividends, and Stock Splits 483 Distinguish Between Fair Value and Book Value per Share 487 Evaluate a Company’s Return on Equity Using DuPont Analysis 489 Report Equity Transactions and Events in the Financial Statements 492 Statement of Comprehensive Income, and the Statement of Shareholders’ Equity 521 12 The Statement of Cash Flows 554 Explain the Uses of the Statement of Cash Flows 556 Explain and Classify Cash Flows from Operating, Investing, and Financing Activities 558 Prepare a Statement of Cash Flows Using the Indirect Method of Determining Cash Flows from Operating Activities 561 Appendix 12A Preparing the Statement of Cash Flows: Direct Method 600 13 Financial Statement Analysis 624 Perform a Horizontal Analysis of Financial Statements 626 Perform a Vertical Analysis of Financial Statements 630 Prepare Common-Size Financial Statements 632 Use the Statement of Cash Flows in Decision Making 633 Use Ratios to Make Business Decisions 637 Appendix A TELUS 2011 Annual Report 691 Appendix B Summary of Differences Between International Financial Reporting Standards and Accounting Standards for Private Enterprises 723 Appendix C Check Figures 729 Glossary Index 745 753 About the Authors Walter T Harrison, Jr., is Professor Emeritus of Accounting at the Hankamer School of Business, Baylor University He received his BBA degree from Baylor University, his MS from Oklahoma State University, and his PhD from Michigan State University Harrison, recipient of numerous teaching awards from student groups as well as from university administrators, has also taught at Cleveland State Community College, Michigan State University, the University of Texas, and Stanford University A member of the American Accounting Association and the American Institute of Certified Public Accountants, Harrison has served as Chairman of the Financial Accounting Standards Committee of the American Accounting Association, on the Teaching/Curriculum Development Award Committee, on the Program Advisory Committee for Accounting Education and Teaching, and on the Notable Contributions to Accounting Literature Committee Harrison has lectured in several foreign countries and published articles in numerous journals, including The Accounting Review, Journal of Accounting Research, Journal of Accountancy, Journal of Accounting and Public Policy, Economic Consequences of Financial Accounting Standards, Accounting Horizons, Issues in Accounting Education, and Journal of Law and Commerce He is coauthor of Financial Accounting, Seventh Edition, 2006 (with Charles T Horngren) and Accounting, Eighth Edition (with Charles T Horngren and Linda S Bamber) published by Pearson Prentice Hall Harrison has received scholarships, fellowships, research grants, or awards from Price Waterhouse & Co., Deloitte & Touche, the Ernst & Young Foundation, and the KPMG Peat Marwick Foundation Charles T Horngren is the Edmund W Littlefield Professor of Accounting, Emeritus, at Stanford University A graduate of Marquette University, he received his MBA from Harvard University and his PhD from the University of Chicago He is also the recipient of honourary doctorates from Marquette University and DePaul University A Certified Public Accountant, Horngren served on the U.S Accounting Principles Board for six years, the Financial Accounting Standards Board Advisory Council for five years, and the Council of the American Institute of Certified Public Accountants for three years For six years, he served as a trustee of the Financial Accounting Foundation, which oversees the Financial Accounting Standards Board and the Government Accounting Standards Board in the United States A member of the American Accounting Association, Horngren has been its President and its Director of Research He received its first annual Outstanding Accounting Educator Award The California Certified Public Accountants Foundation gave Horngren its Faculty Excellence Award and its Distinguished Professor Award He is the first person to have received both awards Horngren was named Accountant of the Year, Education, by the international professional accounting fraternity Beta Alpha Psi and is a member of the U.S Accounting Hall of Fame Horngren is also a member of the Institute of Management Accountants, where he has received its Distinguished Service Award He was a member of the Institute’s Board of Regents, which administers the Certified Management Accountant examinations Horngren is the author of other accounting books published by Pearson Prentice Hall and Pearson Canada Inc.: Cost Accounting: A Managerial Emphasis, Fifth Canadian Edition, 2010 (with George Foster, Srikant Datar, and Maureen Gowing) and Accounting, Canadian Eighth Edition, 2010 (with Walter T Harrison, Linda S Bamber, W Morley Lemon, Peter R Norwood, and Jo-Ann Johnston) Horngren is the Consulting Editor of the Charles T Horngren Series in Accounting Charles William (Bill) Thomas is the J E Bush Professor of Accounting and a Master Teacher at Baylor University A Baylor University alumnus, he received both his BBA and MBA there and went on to earn his PhD from The University of Texas at Austin With primary interests in the areas of financial accounting and auditing, Bill Thomas has served as the J.E Bush Professor of Accounting since 1995 He has been a member of the faculty of the Accounting and Business Law Department of the Hankamer School of Business since 1971 and served as chair of the department from 1983 until 1995 He was recognized as an Outstanding Faculty Member of Baylor University in 1984 and Distinguished Professor for the Hankamer School of Business in 2002 Dr Thomas has received several awards for outstanding teaching, including the Outstanding Professor in the Executive MBA Programs in 2001, 2002, and 2006 In 2004, he received the designation as Master Teacher Thomas is the author of textbooks in auditing and financial accounting, as well as many articles in auditing, financial accounting and reporting, taxation, ethics, and accounting education His scholarly work focuses on the subject of fraud prevention and detection, as well as ethical vii viii About the Authors issues among accountants in public practice His most recent publication of national prominence is “The Rise and Fall of the Enron Empire,” which appeared in the April 2002 Journal of Accountancy, and which was selected by Encyclopedia Britannica for inclusion in its Annals of American History He presently serves as both technical and accounting and auditing editor of Today’s CPA, the journal of the Texas Society of Certified Public Accountants, with a circulation of approximately 28,000 Thomas is a certified public accountant in Texas Prior to becoming a professor, Thomas was a practicing accountant with the firms of KPMG, LLP, and BDO Seidman, LLP He is a member of the American Accounting Association, the American Institute of Certified Public Accountants, and the Texas Society of Certified Public Accountants Greg Berberich, CPA, CA, PhD, is the Director of the Masters of Accounting program in the School of Accounting and Finance at the University of Waterloo, where he has been a Lecturer since 2011 Before that, he was a faculty member at Wilfrid Laurier University for nine years He obtained his BMath and PhD from the University of Waterloo and completed his CPA and CA in Ontario Berberich has taught financial accounting, auditing, and a variety of other courses at the undergraduate and graduate levels He has presented papers at a variety of academic conferences in Canada and the United States and has served on the editorial board of the journal Issues in Accounting Education Berberich was also the Treasurer of the Society for Teaching and Learning in Higher Education and the Associate Director of Teaching and Learning in Waterloo’s School of Accounting and Finance He has written a number of cases for use in university courses and professional training programs This is Berberich’s first time coauthoring a textbook Catherine I Seguin, MBA, CGA, is a Senior Lecturer at the University of Toronto Mississauga In addition to her books Accounting for Not-for-Profit Organizations for Carswell (Thomson-Reuters) and Not-for-Profit Accounting, published by CGA Canada, she revised the study guide that accompanied the third edition of this textbook She also coauthored a practice book on management accounting and wrote a test bank for a financial accounting book for McGraw-Hill At the University of Toronto Mississauga, Catherine initiated, organized, and continues to run an internship course where fourth-year Bachelor of Commerce and Bachelor of Business Administration students are given an opportunity to gain practical business experience to complement their field of studies She has organized, co-hosted, and chaired ongoing workshops that invite all University of Toronto Mississauga professors teaching first-year classes to discuss and learn what pedagogical and organizational issues they face She serves as Dean’s Designate for academic offences in the Social Sciences In the business community, she has participated in the consultation of the reform of the Canada Corporations Act for not-for-profit organizations In the past, she has served on several boards of not-for-profit organizations and has been a professional development speaker for CGA Ontario on the topic of not-for-profit accounting Currently, she serves as Treasurer on the board of a small not-for-profit organization Preface Helping Students Build a Solid Financial Accounting Foundation Financial Accounting introduces the financial statements and the conceptual framework that underlies them in Chapter and builds on this foundation throughout the remaining 12 chapters The concepts and procedures that form the accounting cycle are also described and illustrated early in the text (Chapters and 3) and are then applied consistently in the chapters that follow By introducing financial accounting’s most critical concepts and procedures early in the book and then repeatedly applying them in the context of new material in later chapters, students will finish the textbook with a sound grasp of introductory financial accounting principles This book also features a new coauthor, Greg Berberich, from the University of Waterloo, who brings 25 years of experience practising and teaching accounting to the Fifth Canadian Edition textbook Greg contributed to seven of the book’s 13 chapters and also suggested some of its new or revised pedagogical features M01_HARR9276_05_SE_C01.indd Page 24/10/13 11:46 PM f-w-148 /207/PHC00111/9780132979276_HARRISON/HARRISON_FINANCIAL_ACCOUNTING5_SE_9780132979 Visual Walkthrough UPDATED! Learning Objectives on the first page of every chapter clearly specify what students should be able to once they have finished reading the chapter and completing the accompanying exercises, problems, and cases Each objective also serves as the heading of the chapter section in which the related concepts are presented, providing students with a clear link between the objectives and the material that will help them achieve those objectives UPDATED! Chapter-Opening Vignettes provide students with clear links between chapter topics and the business decisions made by many familiar real-world companies Some of the companies students will encounter include Apple, Le Château, WestJet, and TELUS UPDATED! User-Oriented Approach focuses students’ attention on the relevance and interpretation of information in the financial statements by adding coverage of several new ratios, which will enhance their ability to evaluate a company’s liquidity, turnover, and profitability New end-of-chapter problems give students additional practice using these new ratios M01_HARR9276_05_SE_C01.indd Page 24/10/13 11:46 PM f-w-148 M01_HARR9276_05_SE_C01.indd Page 24/10/13 11:46 PM f-w-148 /207/PHC00111/9780132979276_HARRISON/HARRISON_FINANCIAL_ACCOUNTING5_SE_9780132979 /207/PHC00111/9780132979276_HARRISON/HARRISON_FINANCIAL_ACCOUNTING5_SE_9780132979 LEARNING OBJECTIVES SPOTLIGHT If you’ve ever shopped for a smartphone, tablet, or mobile Internet service, you have very likely been in a TELUS store Based in British Columbia, TELUS Corporation is one of Canada’s largest telecommunications companies, providing a range of products and services, including mobile computing devices, wireless voice and data access, satellite television, and home phone service As of 2011, TELUS had 7.3 million wireless subscribers, 1.3 million Internet subscribers, and 509,000 TV subscribers TELUS is fea- g y making a final assessment of TELUS’s 2011 financial performance Imagine you work for a bank that TELUS would like to borrow $500 million from How would you decide whether to lend them the money? Or suppose you have $5,000 to invest What financial information would you analyze to decide whether to invest this money in TELUS? Let’s see how accounting information can be used to make these kinds of decisions EXPLAIN WHY ACCOUNTING IS THE LANGUAGE OF BUSINESS Accounting is an information system that measures and records business activities, ᕡ Explain why accounting is the language of business ᕢ Explain accounting’s conceptual framework and underlying assumptions ᕣ Describe the purpose of each financial statement and explain the elements of each one ᕤ Explain the relationships th fi i l t t t OBJECTIVE ᕡ Explain why accounting is the language of business p y y get one vote for each voting share they own Shareholders also elect the members of the board of directors, which sets policy for the corporation and appoints officers The board elects a chairperson, who is the most powerful person in the corporation and may also carry the title chief executive officer (CEO), the top management position Most corporations also have vice-presidents in charge of sales, manufacturing, accounting and finance, and other key areas OBJECTIVE ᕢ Explain accounting’s conceptual framework and underlying assumptions EXPLAIN ACCOUNTING’S CONCEPTUAL FRAMEWORK AND UNDERLYING ASSUMPTIONS Generally Accepted Accounting Principles ix www.downloadslide.net 751 GLOSSARY return on net sales Ratio of net income to net sales A measure of profitability Also called return on sales (p 648) revenue Consists of amounts earned by a company in the course of its ordinary, day-to-day business activities The vast majority of a company’s revenue is earned through the sale of its primary goods and services (p 12) sales discount Percentage reduction of sale price by the seller as an incentive for early payment before the due date A typical way to express a sales discount is “2/10, n/30.” This means the seller will grant a 2% discount if the invoice is paid within 10 days, or the full amount is due within 30 days (p 242) sales returns and allowances Merchandise returned for credit or refunds for services provided (p 242) sales tax payable The amount of HST, GST, and provincial sales tax owing to government bodies (p 419) separate-entity assumption Holds that the business activities of the reporting entity are separate from the activities of its owners (p 9) serial bonds Bonds that mature in instalments over a period of time (p 427) shareholder A party who owns shares of a corporation (p 6) shareholders’ equity Another term for owners’ equity (p 19) shares Legal units of ownership in a corporation (p 6) short-term investments Investments that a company plans to hold for one year or less Also called marketable securities (p 223) short-term notes payable Notes payable due within one year (p 418) single-step income statement Lists all revenues together and all expenses together; there is only one step in arriving at net income (p 122) specific identification cost method Inventory costing method based on the specific cost of particular units of inventory (p 279) stable-monetary-unit assumption Holds that regardless of the reporting currency used, financial information is always reported under the assumption that the value of the currency is stable, despite the fact that its value does change due to economic factors such as inflation (p 10) stated interest rate Interest rate printed on the bond certificate that determines the amount of cash interest the borrower pays and the investor receives each year Also called the coupon rate or contract interest rate (p 428) stated value An arbitrary amount assigned by a company to a share of its stock at the time of issue (p 479) statement of cash flows Reports cash receipts and cash payments classified according to the entity’s major activities: operating, investing, and financing (p 20) statement of changes in shareholders’ equity Reports the changes in all categories of shareholders’ equity during the period (p 531) statement of financial position Another name for the balance sheet (p 15) statement of profit or loss Another name for the income statement (p 11) statement of retained earnings Summary of the changes in the retained earnings of a corporation during a specific period (p 14) stock dividend A proportional distribution by a corporation of its own shares to its shareholders (p 484) stock split An increase in the number of authorized, issued, and outstanding shares of stock coupled with a proportionate reduction in the share’s book value (p 486) straight-line (SL) method Depreciation method in which an equal amount of depreciation expense is assigned to each year of asset use (p 329) subsidiary company An investee company in which a parent company owns more than 50% of the voting shares and can exercise control over the subsidiary (p 383) tangible long-lived assets Also called property, plant, and equipment (p 322) taxable income The basis for computing the amount of tax to pay the government (p 526) temporary accounts Revenue, expense, and dividend accounts, which not have balances that carry forward to the next fiscal year (p 129) term The length of time from inception to maturity (p 442) term bonds Bonds that all mature at the same time for a particular issue (p 427) term loan A long-term loan at a stated interest rate, typically from a single lender such as a bank, which must be repaid over a specified number of years Usually secured by specific assets of the borrower, often the ones acquired using the loan proceeds (p 237) times-interest-earned ratio Ratio of income from operations to interest expense Measures the number of times that operating income can cover interest expense Also called the interestcoverage ratio (p 441) total asset turnover It measures a a company’s success in using assets to earn a profit The formula is Net sales/Average total assets Also known as asset turnover (p 345) trademark, trade name A distinctive identification of a product or service Also called a brand name (p 343) trading on the equity Another name for leverage (p 650) transaction An event that has a financial impact on a business and that can be reliably measured (p 55) trend percentages A form of horizontal analysis that indicates the direction a business is taking (p 629) trial balance A list of all the ledger accounts with their balances (p 76) Trojan horse A malicious program that hides within legitimate programs and acts like a computer virus (p 183) underwriter Organization that purchases the bonds from an issuing company and resells them to its clients or sells the bonds for a commission, agreeing to buy all unsold bonds (p 427) unearned revenue A liability that arises when a business receives cash from a customer prior to providing the related goods or services (p 112) units-of-production (UOP) method Depreciation method by which a fixed amount of depreciation is assigned to each unit of output produced by the plant asset (p 330) unmodified audit opinion An audit opinion stating that the financial statements are in accordance with GAAP (IFRS or ASPE) (p 534) verifiability The ability to check financial information for accuracy, completeness, and reliability (p 8) www.downloadslide.net 752 GLOSSARY vertical analysis Analysis of a financial statement that reveals the relationship of each statement item to a specified base, which is the 100% figure (p 630) weighted-average-cost method Inventory costing method based on the average cost of inventory for the period Weighted-average cost is determined by dividing the cost of goods available by the number of units available Also called the average cost method (p 279) working capital Current assets minus current liabilities; measures a business’s ability to meet its short-term obligations with its current assets Also called net working capital (p 638) www.downloadslide.net Index Note: Page numbers with f indicate figures A accelerated depreciation method, 330–331, 331f, 332, 332f account format, 122 accounting conceptual framework of, 7, 8f (see also assumptions) data, flow of, 71–74, 71f defined, as language of business, 3–6 accounting changes cooking the books and, 529 cooking the books with, 524 income statement and, 528 accounting errors income statement and, 528 , 529 accounting equation expanded, 68–69, 69f illustration of, 17f impact of transactions on, 57–63 liabilities and, 18 overview of, 15 owners’ equity and, 19, 20 rules of debit and credit and, 67–69, 67f, 70f accounting information cost constraint and, enhancing qualitative characteristics of, 8–9 fundamental qualitative characteristics of, 7, GAAP and, 6–7 using, 2–3 accounting records access to, limiting, 181 adequate, 181 internal control and, 177, 181 safeguarding, 177 Accounting Standards for Private Enterprises (ASPE), accumulated other comprehensive income, 478 amortization of discounts and premiums, 431 amortization of the discount or premium relating to long-term investments in bonds, 385 application of, balance sheet, 15 changes in retained earnings during accounting period, 14 classification of dividends paid, 560 classification of interest and dividends received, 560 classification of interest paid and interest and dividends received, 560 depreciation, 322 differences between income tax expense and income tax payable, 526 earnings per share, 526, 529 finance leases, 442 foreign-currency translation resulting from consolidation, 389 government remittances, 425 historical-cost assumption, 10 impairment, 349 income statement, 11 income tax expense vs income tax payable and, 529 investments in controlled subsidiaries, 383 investments subject to significant influence, 377 non-strategic investments, 377 provisions and contingent liabilities, 424 repurchase of shares, 492 revaluation, 349 short-term investments, 226 significant components of an item of property, plant, or equipment, 340 statement of changes in shareholders’ equity, 531 statement of changes in shareholders’ (or owners’) equity, 531 statement of comprehensive income, 526, 535 accounts Accumulated Depreciation account, 114 analyzing, 74, 75–76 asset account, 55–56 chart of, 66, 67f decreases in, 67–68 defined, 55 increases in, 67–68 liability account, 56 rules of debit and credit and, 67–69, 67f shareholders’ equity account, 56–57 T-accounts, 67–70, 67f, 68f, 70f accounts payable cash flows and, 565–566, 566f current liabilities and, 417–418 Accounts Payable account, 56 accounts payable turnover, 439–440, 644 Accounts Receivable account, 55 accounts receivables See receivables accounts receivable turnover, 246n, 642–643 accrual accounting, 105–106 vs cash-basis accounting, 106–108 closing entries, 129–130 cooking the books and, 118 debt-paying ability and, 131–134 defined, 106 entries, adjusting (See adjusting entries) financial statements and, 120–124 issues in, 118 revenue recognition principle and, 108–110 accruals, 115–117 accrued expenses, 115–116 accrued revenues, 116–117 defined, 110 www.downloadslide.net 754 INDEX accrued expenses, 115–116, 418 accrued liabilities cash flows and, 565–566, 566f current liabilities and, 418 Accrued Liabilities account, 56 accrued revenues, 116–117 Accumulated Depreciation account, 114 accumulated other comprehensive income, 478 acid-test ratio, 244–245, 641 adjusted trial balance, 118–122 defined, 118 financial statements and, 121–122, 121f worksheet for preparing, 120f adjusting entries, 110–120 accruals, 110, 115–117, 117f adjusted trial balance, 118, 120f deferrals, 110, 111–113, 117f depreciation, 110, 113–114 summary of, 117, 117f, 118, 119f affiliated companies, investments in, 380–382 aging-of-receivables method, 233–234, 233f, 234f Air Canada, 179 Allowance for Bad Debts, 232 Allowance for Doubtful Accounts, 232 Allowance for Uncollectible Accounts, 232 allowance method, 231–235 amortization see also depreciation for bond issued at discount, 431, 431f, 435, 435f for bond issued at premium, 434–435, 435–436f cash flow and, 564 effective interest method of, 387, 431, 431f, 432 of intangible assets, 342 in private enterprise sector, 326 straight-line method of, 436–437 annuity, present value of, 395 Apple Inc., 54, 637, 638f, 639–640f Arthur Andersen LLP, 174, 389 articles of incorporation, 475 ASPE See Accounting Standards for Private Enterprises (ASPE) assets, 15–18 see also depreciation access to, limiting, 181 on balance sheet, 15–18 capital expenditure vs immediate expense, 325–326, 326f cost of, 323–325 current (See receivables) defined, 15 intangible (See intangible assets) lump-sum (or basket) purchases of, 324–325 other than cash, issuing shares for, 480–481 return on, 345–347, 648–649 safeguarding, 177 share-related transactions and, 487f tangible (See tangible long-lived assets) asset turnover, 489, 648 assumptions, 9–10 going-concern assumption, 9, 10 historical-cost assumption, 10 separate-entity assumption, stable-monetary-unit assumption, 10 audit, 181 auditor, 533–534 auditor’s report, 533–534, 534f average common shareholders’ equity, 489 B bad debt expense, 231 balance sheet, 15–20 accounting equation and, 15, 17, 18, 19, 20 adjusted trial balance and, 121f assets reported on, 15–18 classified balance sheet, 122, 123f comparative, 628f, 631f, 640f defined, 15 elements of, 11f equity transactions in, 492–493, 493f example of, 16f financial position measured by, 15–20 formats, 122, 123f investments on, 376, 376f liabilities on, 424, 443–445, 444f liabilities reported on, 18–19 liquidity and, 122, 243 owners’ equity reported on, 19–20 reporting cash on, 199 short-term investments on, 226 balance-sheet approach, 233 bank accounts, 185–192, 190f see also bank reconciliation bank statements and, 186, 187f, 188 Cash account and, 186, 187f cheques and, 186, 186f deposit slips and, 185 internal control and, 185–192, 190f online banking and, 191 signature cards and, 185 bank collections, 188 bank overdraft balances, 557 bank reconciliation, 186–192, 187f bank side of, 188 bank statements and, 186, 187f, 188 book side of, 188–189 Cash account and, 186, 187f to control cash, 191–192 defined, 188 illustrated, 189 online banking and, 191 preparing, 188–191 recording transactions from, 189–191, 190f bank statements, 186, 187f, 188 basket purchases, 324–325 benchmarking, 632 benefits, of internal control, 184, 185 betterments, 325–326, 326f Bill 198, 176n BMO Nesbitt Burns, 479 board of directors, 6, 476 bond discount, 427 bondholders, 426 bond investments defined, 387 long-term, 386–388 present value of, 396 www.downloadslide.net INDEX bond market price, 427–428 bond premium, 427 bonds payable, 426–437 account for, 429–430 defined, 426 interest expense on (See interest expense on bonds) introduction to, 427–428 issuing at discount, 430, 431f issuing at face value, 429–430 prices of, 427–428, 428f types of, 427 bonus, 421 book errors, 189 book value, 487–488 book value per share of common stock, 652–653 brand name, 343 budget balance sheet and, 199 cash, 180–181, 199f defined, 198 exception reporting and, 181 internal control and, 180–181, 198–199 operating, 180 Building account, 56 buildings, 324 business transactions See transactions C Canada Business Corporations Act, 479 Canada Pension Plan and Employment Insurance Expense, 421 Canada Pension Plan Payable, 421 Canadian Securities Administrators (CSA), 178 Canadian Tire, 321–322 capital expenditures, 325–326, 326f carrying amount, 17, 114 cash adequacy, measuring, 574 budget, 180–181, 199f (see also budget) collections, computing, 236 conversion cycle, 440, 644 dividend, 483–484, 492 equivalents, 199, 557 flows (See cash flows) issuing shares for, 479–480, 481, 492 payments (See cash payments) receipts, 194f, 195–196, 195f Cash account, 55, 186, 187f cash-basis accounting, 106–108 cash flows, 554–623 classifying interest and dividends and, 560 decision guidelines for use of, 575 direct method of determining, 560–561 from financing activities, 559, 571–573 from non-cash investing and financing activities, 571–573 free cash flow, cash adequacy and, 574 indirect method of determining, 560–561 from investing activities, 559, 569–571 net income and, 557–558 from operating activities, 558–562, 558n, 564–567, 564f signs of healthy company, 635 cash flows from sales, 240–243 credit card sales, 240–241 debit card sales, 241 sales discounts, 242 sales returns and allowances, 242–243 selling (factoring) receivables, 242 on statement of cash flows, 243 cash payments, 196–198, 196f, 197f bank reconciliation to control, 191–192 by cheque, 196–198 payment packet, 197, 197f petty cash, 197–198 purchasing/paying process and, 196–197, 196f cash receipts, 194–196, 194f, 195f by mail, 195–196, 195f over the counter, 194–195, 194f “Certification of Internal Controls: Final Certification Rules” (KPMG LLP), 178n CGI Group Inc., 222–226 chairperson, 477 chart of accounts, 66, 67f Checkpoint Systems, 182 cheque cost of printed, 189 defined, 186 nonsufficient funds (NSF), 189 outstanding, 188 parties to, 186 payment by, 196–198, 196f, 197f purchasing/paying process and, 196–197, 196f remittance advice on, 186, 186f chief executive officer (CEO), 178, 477 chief financial officer (CFO), 178, 477 classified balance sheet, 122, 123f clean audit opinion, 534 closing entries, 129–130, 130f CN Rail, 179 Coca-Cola Company (KO), 486 collateral, 228 colluding, 184 commission, 421 common-size statement, 632–634, 632f company evaluation, 625–626, 626f comparability, 8, 285–286 comparative balance sheet, 628f, 631f, 640f comparative statements of cash flows, 633f of earnings, 630f income, 627f of operations, 639f comprehensive income, 478, 530–531 computers, internal control and, 182 computer virus, 183 consistency principle, 286 consolidated entity, income of, 384 consolidated statements, 383 consolidation accounting, 383–386, 383f consolidation of foreign subsidiaries, 384–386 contingent liabilities, 424 contra account, 114 contributed surplus, 478 755 www.downloadslide.net 756 INDEX control account, 228 control environment, 179 controller, 196 controlling (majority) interest, 383–386 buying another company, reasons for, 383, 383f consolidation accounting and, 383, 383f consolidation of foreign subsidiaries and, 384–386 goodwill and, 384 income of consolidated entity and, 384 non-controlling interest and, 384 control procedures, 179, 182–183 cooking the books with accounting changes, 524 accrual accounting and, 118 defined, 174 fraud and (GreBru Products Inc example), 170–171 by improper capitalization, 327 with inventory, 294 with investments and debt, 389 with liabilities, 425 with revenue, 524 with share capital, 481 shifting sales into current period and, 237 copyright, 342–343 corporate taxation, 476, 526–527 corporation, advantages/disadvantages of, 476f authority structure in, 477, 477f controlling and managing, 477 features of, 475–476 Retained Earnings account and, 483–487, 483n shareholders’ equity in, 478 shareholders’ rights in, 477–478 shares and (See shares) cost of goods sold defined, 271 FIFO method and, 279, 279f, 281–283, 282f importance of, 271–272 on income statement, 272, 272f LCNRV rule and, 286–287, 287f weighted-average cost method and, 279–280, 279f, 281–283 when inventory cost is constant, 273, 273f cost-of-goods-sold model, 290–292, 290f costs of assets, 323–325 of internal control, 184, 185 of inventory, 274 of sales (See cost of goods sold) Crazy Eddie, Inc., 425 credit rules of debit and credit and, 67–69, 67f, 70f in T-account, 67 credit balance in Retained Earnings, 483 credit card numbers, stolen, 183 credit card sales, 240–241 creditor, 237 cumulative preferred shares, 485–486 currencies and exchange rates, 385, 385f current asset, 16–17 current liabilities, 18, 417–425 accounts payable, 417–418 accrued liabilities, 418 acid-test ratio and, 641 on balance sheet, 424 contingent liabilities, 424 current portion of long-term debt, 422 current ratio and, 639 defined, 18 disclosed in notes to financial statements, 424 estimated warranty payable, 423–424 of known amount, 417–422 measuring ability to pay, ratio analysis and, 638–641, 639–640f payroll, 421, 421f sales tax payable, 419–420 short-term borrowings, 417 short-term notes payable, 418–419 summary of, 425 unearned revenues, 421–422 current portion of long-term debt, 422 current ratio debt-paying ability and, 131–132, 639 decision guidelines for using, 134–135 liquidity and, 244 D date of declaration, 483 date of payment, 484 date of record, 484 days payable outstanding (DPO), 439–440 days’ sales in receivables, 245–246, 643–644 debentures, 427 debit balance in Retained Earnings, 483 rules of debit and credit and, 67–69, 67f, 70f in T-account, 67 debit card sales, 241 debt, financing with, vs equity, 437–439, 439f debtor, 237 debt-paying ability, 131–135, 439–442 accounts payable turnover ND, 439–440 current ratio and, 131–132, 134–135, 639 debt ratio and, 132, 134–135 decision guidelines and, 134–135 effect of transactions on ratios and, 132–134 leverage ratio AND, 440–441 net working capital and, 131, 134–135 times-interest-earned ratio and, 441–442 debt ratio, 132, 134–135, 645 decision guidelines debt-paying ability and, 134–135 for ethical business judgment, 175–176 for evaluating a company, 24 for financial statement analysis, 654–658 for financing with debt or stock, 438 for gross profit and, 290 for income statement in shareholders’ equity, 532 for inventory turnover, 290 for investing in stock, 491 for liquidity ratios, 243–246 www.downloadslide.net INDEX for long-term investments, 388 for making ethical judgments, 27 for managing inventory, 283 for measuring operations and financial position, 77 for receivables, 229–230 for use of cash flows, 575 for using equipment, 341 for using income statement, 532 for using plant, 341 for using property, 341 for using return on assets (ROA), 347 for using statement of changes, 532 deferrals, 110, 111–113, 117f defined, 110 prepaid expenses, 111–112 unearned revenues, 112–113 Deferred Income Tax Liability, 527 deferred revenue, 19 deficit, 14, 483 deposits in transit, 188 depreciable cost, 328 depreciation, 326–332 Accumulated Depreciation account and, 114 adjusting entries and, 113–114 calculating and recording, 326–332 (see also depreciation methods) cash flow and, 564 cash funds and, 328 computers and, 327–328 defined, 110, 326 equipment and, 326 estimating, 114 impairment and, 340 measuring, 328 obsolescence, 327–328 physical wear and tear, 326 plant and, 326 property and, 326 revaluation model and, 340–341 of significant components, 340 straight-line depreciation method and, 114 for tax purposes, 339 valuation and, 328 depreciation methods, 328–332 accelerated depreciation, 330–331, 331f, 332, 332f assumed data and, 328, 329f comparing, 332, 332f diminishing-balance, 330–331, 331f, 332, 332f double-diminishing-balance, 331, 331f straight-line, 329, 329f, 332, 332f units-of-production, 330, 330f, 332, 332f derecognition, 336–338 diminishing-balance method, 330–331, 331f, 332, 332f direct method of determining operating cash flows, 560–561 direct write-off method, 231, 235–236 disclosure principle, 286 discontinued operations, income statement and, 527–528 dividend declarations, 483n dividends, 483–486 cash, 483–484, 492 classifying, 560 dates for, 483–484 declaring, 483 paying, 483 on preferred shares, 485–486 stock, 484 Dividends account, 56 dividend yield, 652 double-diminishing-balance (DDB) method, 331, 331f double-entry system, 66 doubtful account expense, 231 Drabinsky, Garth, 174 DuPont analysis defined, 345, 489 for measuring profitability, 647 return on assets analyzed with, 345–347, 345n return on equity evaluated with, 489–491 E earnings per share (EPS) adjustments to net income, 529–530 advantage of borrowing, 437–438, 439 defined, 529–530 of stock, 650–651 weighted-average number of common shares outstanding and, 530 earnings quality, 522–526, 523f Ebbers, Bernard J (“Bernie”), 327 e-commerce, internal control for, 183–184 computer viruses and, 183 encryption and, 184 firewalls and, 184 phishing and, 183 stolen credit card numbers and, 183 Trojan horses and, 183 effective interest rate, 428 electronic funds transfer (EFT), 186, 188–189 electronic records, 181 employee compensation, 421, 421f Employee Withholdings Income Tax Payable, 421 Employment Insurance Payable, 421 EnCana Corp., 479 encryption, 182, 184 ending inventory, 281, 289f Enron Corporation, 174, 175–176, 177, 389 equipment cost of, measuring and accounting for, 323–326 decision guidelines for using, 341 depreciation on, calculating and recording, 326–332 derecognition of, 336–338 special issues in accounting for, 339 T-accounts to analyze transactions, 339 Equipment account, 56 equity financing with, vs debt, 437–439, 439f share-related transactions and, 487f equity method of accounting for investments, 381–382 investor’s percentage of investee income and, 381 receiving dividends under, 381–382 summary of, 382 estimated liabilities, 19 estimated residual value, 328 757 www.downloadslide.net 758 INDEX estimated useful life, 328 estimated warranty payable, 423–424 ethical standards See ethics ethics in business and accounting decisions, 25–27 in judgment, decision guidelines for, 27 exception reporting, 181 executive controls, 192 expense, defined, 13 Expense account, 57 expense recognition principle, 109–110 external auditors, 181 F face value of bond, 427, 429–430 fair value defined, 10, 224 present value to compute, 395 of a share, 487 of short-term investments, 226 unrealized gains and losses and, 224–225 faithful representation, 7, Fastow, Andrew, 175, 389 fidelity bonds, 182 finance lease, 442–443 financial accounting, financial ratios, 642–644 accounts payable turnover, 644 accounts receivable turnover, 642–643 asset turnover, 648 book value per share of common stock, 652–653 cash conversion cycle, 644 days’ sales in receivables, 643–644 dividend yield, 652 DuPont analysis, 647 earnings per share, 650–651 gross (profit) margin, 646 inventory turnover, 642 leverage ratio, 649 limitations of, 653–654 to make business decisions, 637–658 measuring ability to pay current liabilities, 638–641, 639–640f measuring leverage: overall ability to pay debts, 645–646 measuring profitability, 646–651, 647f measuring turnover and cash conversion, 642–644 operating income (profit) percentage, 646–647 price/earnings ratio (multiple), 651 return on assets, 648–649 return on net sales, 648 return on shareholders’ equity, 649–650 stock shares as an investment, 651–653 financial reporting, 533–534, 534f financial statement analysis, 624–690 common-size financial statements and, 632–634, 632f company evaluation and, 625–626, 626f decision guidelines for, 654–658 horizontal analysis, 626–629, 627f ratios to make business decisions, 637–658 red flags in, 653–654 statement of cash flows in decision making and, 633–634f, 633–635 vertical analysis, 630–632, 630f financial statements, 1–53 accounting and, 2–11 accrual accounting and, 120–124 adjusted trial balance and, 121–122, 121f audits, 181 balance sheet, 11f, 15–20 defined, equity transactions in, 492–493, 493f formats, 122–124, 123f, 124f income statement, 11–14, 11f inventory errors and, 292–294, 292f notes to, 22 relationships among, 22–24, 23f, 25 short-term investments on, 226 statement of cash flows, 11f, 20–22 statement of retained earnings, 11f, 14–15 timing of, 556, 557f transactions and, 61–63, 62f, 63f financing activities, 22, 492, 492f borrowing money and repaying debt, 571–572 cash flows from, 559, 571–573 defined, 559 non-cash investing and, 574, 574f payment of dividends, 572–573 firewall, 184 first-in, first-out (FIFO) cost method effects of, 281–283, 282f illustration of, 279f periodic, 281 perpetual, 281 vs weighted-average-cost method, 283 Fixture account, 56 flow of accounting data, 71–74, 71f foreign-currency exchange rate, 385, 385f foreign-currency translation adjustment, 385–386, 386f foreign subsidiaries consolidation of, 384–386 extent of international business, 384f foreign-currency exchange rate, 385, 385f foreign-currency translation adjustment, 385–386, 386f formats account, 122 balance sheet, 122, 123f financial statements, 122–124, 123f, 124f income statement, 122, 123, 124f report, 122 for reporting, 492, 493f franchises and licences, 343 fraud see also internal control colluding, 184 cooking the books, 174 defined, 173 ethics and, 175–176 fraud triangle and, 174–175, 175f fraudulent financial reporting, 173 impact of, 173 misappropriation of assets, 173 www.downloadslide.net INDEX reasons for engaging in, 173–174 types of, 173–174 fraud triangle, 174–175, 175f free cash flow, 574 fully depreciated, 336 Furniture account, 56 future income tax liability, 527 future value, 391–392, 393f G GAAP See generally accepted accounting principles (GAAP) gains, 12–13 realized, 225 on sale of investing assets, 564–565 shareholders’ equity and, 57 short-term investments and, 224–225 unrealized, 224–225, 379 generally accepted accounting principles (GAAP), 6–7, 327, 533 Gildan Activewear, 196–197 going-concern assumption, 9, 10 goods and services tax (GST), 419–420 goodwill, 343–344 Gottlieb, Myron, 174 government regulation, 476, 476f GreBru Products Inc., 170–172, 175, 183, 196–197 gross margin See gross profit gross margin percentage See gross profit percentage gross pay, 421 gross profit, 281, 282f, 288, 290 gross profit method, 291–292f gross profit percentage, 288, 288f H hackers, 183 hard-copy documents, 181 harmonized sales tax (HST), 419–420 held-for-trading investment, 224–226, 243 historical-cost assumption, 10 horizontal analysis, 626–629, 627f, 628f The Hudson Bay Company, 182 Hudson’s Bay Company, 479 I IFRS See International Financial Reporting Standards (IFRS) immediate expense, 325–326, 326f impairment, 340 imprest system, 198 improper capitalization, cooking the books by, 327 income, 12–13 income statement, 11–14 accounting changes and, 528 accounting errors and, 528, 529 adjusted trial balance and, 121f comparative, 627f corporate income taxes and, 526–527 cost of goods sold on, 272, 272f decision guidelines for using, 532 defined, 11 discontinued operations and, 527–528 elements of, 11f example of, 12f expenses reported on, 13–14 formats, 122, 123, 124f income reported on, 12–13 interest expense and, 526 interest income and, 526 multi-step income statement, 123, 124f operating performance measured by, 11, 12–14 overview of, 11–12 short-term investments on, 226 single-step income statement, 122, 123 income taxes See taxes Income Taxes Payable, 418 indirect method defined, 560 of determining cash flows, 560–561 to prepare statement of cash flow, 561–567, 562f information technology (IT) e-commerce and, 183–184 internal control and, 179, 182 intangible assets categories of, 342 copyrights, 342–343 defined, 322 franchises and licenses, 343 goodwill, 343–344 impairment of, 344 patents, 342 related expenses, 323f research and development costs, 344 trademarks, 343 trade names, 343 interest, 237, 238 classifying, 560 interest-coverage ratio, 440–441, 645 interest expense, 345n, 526 interest expense on bonds, 430–437 issued at discount, 431–433, 432f issued at premium, 434–435, 435–436f partial-period interest amounts, 433–434 straight-line amortization method, 436–437 interest income, 189, 526 Interest Payable, 418 internal auditors, 181 internal control, 176–221 accounting records and, 177, 181 assets and, 177, 181 bank accounts and, 185–192 budgets and, 180–181, 198–199 cash collections on account and, 228–229 cash receipts by mail, 195–196, 195f cash receipts over the counter and, 194–195, 194f components of, 179 control environment and, 179 control procedures and, 179, 182–183 decision guidelines for, 185 defined, 177 for e-commerce, 183 hiring practices and, 180 information technology and, 179, 182 laws and regulations and, complying with, 177 759 www.downloadslide.net 760 INDEX limitations of, cost and benefits, 184, 185 monitoring of controls and, 179, 180–181 payment by cheque and, 196–198, 196f, 197f procedures, 179–183 risk assessment and, 179 Sarbanes-Oxley Act (SOX) and, 177–178 security measures, 183–184 separation of duties and, 180 shield of, 178f transaction approvals and, 181–182 weak, 174 internal controls over financial reporting (ICFR), 178 international business See foreign subsidiaries International Financial Reporting Standards (IFRS), accumulated other comprehensive income, 478 amortization of discounts and premiums, 431 amortization of the discount or premium relating to long-term investments in bonds, 385 application of, balance sheet, 15 changes in retained earnings during accounting period, 14 classification of dividends paid, 560 classification of interest and dividends received, 560 classification of interest paid and interest and dividends received, 560 depreciation, 322 differences between income tax expense and income tax payable, 526 earnings per share, 526, 529 finance leases, 442 foreign-currency translation resulting from consolidation, 389 government remittances, 425 historical-cost assumption, 10 impairment, 349 income statement, 11 income tax expense vs income tax payable and, 529 investments in controlled subsidiaries, 383 investments subject to significant influence, 377 non-strategic investments, 377 provisions and contingent liabilities, 424 repurchase of shares, 492 revaluation, 349 short-term investments, 226 significant components of an item of property, plant, or equipment, 340 statement of changes in shareholders’ equity, 531 statement of changes in shareholders’ (or owners’) equity, 531 statement of comprehensive income, 526, 535 inventory, 271–320 accounting for, 272–278 accounting standards applied to, 285–287 cash flows and, 565, 566f comparability and, 285–286 consistency principle and, 286 contrasting service company with merchandiser and, 272, 272f cooking the books with, 294 costing methods (See inventory costing methods) cost of, 274 cost-of-goods-sold model and, 290–292, 290f cost of goods sold when inventory cost is constant, 273, 273f cost per unit of inventory, 274 decision guidelines for managing, 283 disclosure principle and, 286 ending inventory, 281, 289f errors in, financial statements and, 292–294, 292f, 293f gross profit and, 288, 290 gross profit method for estimating, 291–292f gross profit percentage and, 288, 288f LCNRV rule and, 286–287, 287f net realizable value of, 286–287 number of units of, 273–274 in periodic inventory system, 274–278, 276–277f in perpetual inventory system, 274–278, 276–277f sales price vs cost of inventory, 273–274 turnover and, 288–290, 289f Inventory account, 56 inventory costing methods, 278–283 comparison of, 283 effects of, 282f FIFO method and, 279, 279f, 281–283 illustrated, 279f increasing and decreasing costs and, 282, 282f overview of, 278 specific identification cost method, 278–279 weighted-average cost method, 279–280, 279f, 281–283 inventory turnover, 288–290, 289f, 642 investing activities, 21–22 acquisitions and sales of assets, 569–570 acquisitions and sales of investments other than cash equivalents, 570–571 cash flows from, 559, 569–571 defined, 559 making and collecting loans and advances to others, 571 reporting on statement of cash flows, 391, 391f investments activities (See investing activities) in affiliated companies, 380–382 annuity, present value of, 395 on balance sheet, 376, 376f in bonds, 386–388 controlling interests in other corporations, 383–386 cooking the books and, 389 equity method in accounting for, 381–382 future value of, 391–392, 393f long-term, accounting for, 376–377, 386–388 non-strategic, analyzing and reporting, 377–380 other than cash, acquisition and sales of, 569–570 present value of, 392–396, 394f in shares, 375–377, 376f J job rotation, 182 Jones, Alec, 170–171, 172 journal, 70–76 posting from journal to ledger, 71, 71f recording entry in, process for, 70, 71f journal entries adjusting (See adjusting entries) closing, 129–130, 130f process for recording, 70, 71f record closing, 129–130 www.downloadslide.net INDEX K Kraft Foods, 179 L land, 323–324 Land account, 56 land improvements, 324 lapping, 172 laws, complying with, 177 Lay, Kenneth, 389 lease, 442–443 leasehold improvements, 324 Le Château, 105 ledger accounts after posting to, 74, 75f flow of accounting data to, 71–74, 71f posting from journal to, 71, 71f subsidiary, 228 Leon’s Furniture, 270–271 lessee, 442 lessor, 442 leverage, 645–646 debt ratio, 645 times-interest-earned ratio, 645–647 leverage ratio, 440–441, 649 liabilities, 416–473 accounting equation and, 18 accrued, 418, 565–566, 566f on balance sheet, 18–19, 443–445, 444f bonds payable, 426–437 cooking the books with, 425 current (See current liabilities) debt-paying ability and (See debt-paying ability) decision guidelines for financing with debt or stock, 438 defined, 18 financing with debt vs equity, 437–439, 439f leases, 442–443 long-term, 442–443 mortgages, 442 overview of, 18–19 post-employment benefits, 443 share-related transactions and, 487f term loans, 442 licenses, franchises and, 343 limited liability, 476 line of credit, 417 liquidity, 16, 122 accounts receivable turnover and, 246n acid-test ratio (or quick ratio) and, 244–245 balance sheet and, 243 current ratio and, 244 days’ sales in receivables and, 245–246 Livent Inc., 174 Loans Payable account, 56 Loblaw Companies Limited, 176–177, 177f lockbox system, 172, 181, 188, 196 long-term asset, 17–18 long-term investments accounting methods for, 383, 383f in bonds, 386–388 decision guidelines for, 388 defined, 376 in shares, 376–377, 383, 383f long-term liability, 19 losses, 13 realized, 225 on sale of investing assets, 564–565 shareholders’ equity and, 57 short-term investments and, 224–225 unrealized, 225, 379 low-cost strategy, 346 lower-of-cost-and-net-realizable-value (LCNRV) rule, 286–287, 287f lump-sum purchases, 324–325 M machinery, 324 majority interest, 383 management accounting, Management Discussion and Analysis (MD&A), 178 marketable securities See short-term investments market interest rate, 428, 428f market price, 427–428, 428f, 482 material, maturity date, 228, 237, 427 maturity value, 427, 429–430 misappropriation of assets, 173 monitoring of controls, 179, 180–181 mortgage, 442 mortgage bonds, 427 motive, in fraud triangle, 174–175, 175f multi-step income statement, 123, 124f N net assets, 19 see also owners’ equity net earnings, 14 net income adjustments to, 529–530 cash flows and, 557–558 defined, 3, 13–14 net loss, 14 net profit, 14 net profit margin, 345–346, 489 net realizable value, 286–287 net sales, return on, 648 net working capital, 131, 134–135, 638–639 non-cash operating working capital accounts, 565–567 accounts payable, 565–566 accounts receivable, 566 accrued liabilities, 565–566 changes in, impact of, 566f inventory, 565 prepaid expenses, 565 unearned revenue, 566, 567 non-controlling interest, 384 non-cumulative preferred shares, 485–486 non-current asset, 16 non-current liability, 18 non-strategic investments, 377–380 analyzing and reporting, 377–380 defined, 376–377 selling, 380 761 www.downloadslide.net 762 INDEX nonsufficient funds (NSF) cheque, 189 nontangible assets, acquisitions and sales of, 569–570 notes receivable, 237–240 accounting for, 238–240 defined, 228 overview of, 237–238 notes to financial statements, 22 current liabilities disclosed in, 424 equity transactions in, 492–493, 493f purpose of, 22 short-term investments and, 226 O obsolescence, 327–328 ONEX Corporation, 374–375 operating activities, 20, 21, 243 see also transactions cash flows from, 558–562, 558n, 564–567, 564f common, 558–559 defined, 558 depreciation and amortization expenses, 564 evaluating cash flows from, 567, 567f gains and losses on sale of investing assets, 564–565 non-cash operating working capital accounts, 565–567, 566f operating budget, 180 operating income (profit) percentage, 646–647 operating lease, 442–443 opportunity, in fraud triangle, 175, 175f other receivables, 228 outstanding cheques, 188 owners’ equity, 19–20 P PAEs See publicly accountable enterprises (PAEs) parent company, 383 partnership, 5–6 par value shares, 479 password, 182 patent, 342 payment by cash See cash payments payment by cheque See cheque payment packet, 197, 197f payroll, 421, 421f percentage-of-sales method, 232–233, 234f periodic inventory system, 274–278, 276–277f permanent accounts, 129 perpetual inventory system, 274–278, 276–277f petty cash, 197–198 phishing, 183 physical wear and tear, 326 plant cost of, measuring and accounting for, 323–326 decision guidelines for using, 341 depreciation on, calculating and recording, 326–332 derecognition of, 336–338 equipment, 337–338 selling, 337–338 special issues in accounting for, 339 T-accounts to analyze transactions, 339 post-employment benefits, 443 posting accounts after, 74, 75f closing entries, 129–130, 130f defined, 71 from journal to ledger, 71, 71f preferred shares defined, 479 dividends on, 485–486 Prepaid Expense account, 56 prepaid expenses, 111–112 cash flows and, 565, 566f deferrals, 111–112 present value, 392–396, 394f of annuity, 395 of bond investments, 396 to compute fair value, 395 defined, 392 factors, 393–394 tables, 386f, 394, 394f president, 477 pretax accounting income, 526 price/earnings ratio (multiple), 651 principal, 237 private enterprise, product differentiation strategy, 346 profitability, measuring, 646–651, 647f asset turnover, 648 DuPont analysis, 647 earnings per share, 650–651 gross (profit) margin, 646 leverage ratio, 649 operating income (profit) percentage, 646–647 return on assets, 648–649 return on net sales, 648 return on shareholders’ equity, 649–650 profit margin, 646 promissory note, 228, 238, 238f, 240 see also notes receivable property cost of, measuring and accounting for, 323–326 decision guidelines for using, 341 depreciation on, calculating and recording, 326–332 derecognition of, 336–338 selling, 337–338 special issues in accounting for, 339 T-accounts to analyze transactions, 339 proprietorship, provincial or regional sales tax (PST), 419–420 provision, 423 publicly accountable enterprises (PAEs), purchase allowance, 277–278 purchase discount, 277–278 purchase return, 277–278 Q quick ratio, 244–245, 641 R rationalization, in fraud triangle, 175, 175f realized gain, 225 realized loss, 225 www.downloadslide.net INDEX accounts receivable, 228–269 Accounts Receivable, 55 cash collections on account and, internal controls over, 228–229 cash flows and, 240–243, 565, 566f cooking the books and, 237 decision guidelines for, 229–230 defined, 228 liquidity and, 243–246 long-term receivables, 237 notes receivable, 228, 237–240 other receivables, 228 risk of not collecting, 229 terms used in, 237 types of, 228 uncollectable (See uncollectable receivables) recovery of uncollectable receivables, 235 regulations, complying with, 177 relevance, remittance advice, 186, 186f report format, 122 repurchased shares, 482, 492 research and development (R&D) costs, 344 retained earnings, 14–15, 478 account for, 483–487 adjusted trial balance and, 121f defined, 14 shareholders’ equity and, 478 statement of, 11f, 14–15, 15f, 61 Retained Earnings account, 56, 483–487, 483n return on assets (ROA), 345–347, 489–491, 648–649 see also DuPont analysis return on equity (ROE), 489–491, 649–650 return on net sales, 648 return on shareholders’ equity, 649–650 revaluation model, 340–341 revenue recognition principle, 108–110 revenues cooking the books with, 524 defined, 12 unearned (See unearned revenues) Revenues account, 56 reverse stock splits, 486 Riffe, Lee, 170–171, 172 risk assessment, 179 rules of debit and credit, 67–69, 67f, 68f, 70f S Salaries and Wages Payable, 418, 421 salary, 421 sales, cooking the books and, 237 sales discount, 242 sales returns and allowances, 242–243 sales tax payable, 419–420 Salgado, Carlos, Jr., 183 salvage value, 328 Sarbanes-Oxley Act (SOX), 177–178 ScotiaMcLeod, 479 scrap value, 328 secured bonds, 427 security for loan, 228 security measures, 183–184 selling (factoring) receivables, 242 separate-entity assumption, serial bonds, 427 service charge, 189 share capital, 478, 481 Share Capital account, 56 share certificates, 478 shareholder, shareholders’ equity, 19, 474–520 cash dividends, 483–484 components of, 478 formats for reporting, 492, 493f gains and, 57 income statement in, decision guidelines for, 532 issuance of shares, 479–481 losses and, 57 return on, 649–650 statement of changes in, 531–532, 531f stock dividends, 484–485 stock splits, 486 terms to describe, 478 shares as an investment (See stock shares as an investment) book value of, 487–488 classes of, 478–479 cumulative preferred shares, 485–486 defined, dividends on preferred, 485–486 fair value of, 487 issuing for assets other than cash, 480–481 issuing for cash, 479–480, 481, 492 long-term, 376–377 market price of, 482 non-cumulative preferred shares, 485–486 par value shares, 479 preferred shares, 479, 485–486 prices of, 375–376, 376f repurchased shares, 482, 492 stated value of, 479 stock splits and, 486 weighted-average number of common shares outstanding, 530 shield of internal control, 178f short-term borrowings, 417 short-term investments, 223–227 cash equivalents as, 557 defined, 223 fair value and, 224–225, 226 on financial statements, 226 gains and, 224–225 held-for-trading investment, 224–226 losses and, 224–225 notes to financial statements and, 226 short-term notes payable, 418–419 single-step income statement, 122, 123 Skilling, Jeffrey, 389 specific identification cost method, 278–279 stable-monetary-unit assumption, 10 stated interest rate, 428, 428f stated value, 479 763 www.downloadslide.net 764 INDEX statement of cash flows cash equivalents and, 557 cash flows from sales on, 243 comparative, 633f in decision making, 633–634f, 633–635 defined, 20 elements of, 11f equity transactions in, 492, 492f example of, 21f financing activities on, 22, 444–445, 445f indirect method to prepare, 561–567, 562f inventory errors and, 293 investing activities on, 21–22 operating activities on, 20, 21 positive and negative items on, 562f tangible long-lived asset transactions on, 347–348, 348f template of, 561f uses of, 556–558 statement of changes in shareholders’ equity, 531–532, 531f statement of earnings See income statement statement of financial position See balance sheet statement of other comprehensive income, 14 statement of profit or loss See income statement statement of retained earnings, 11f, 14–15, 15f, 61, 121f statements of operations, comparative, 639f stock dividend, 484 stock shares as an investment, 651–653 book value per share of common stock, 652–653 decision guidelines for, 491 dividend yield, 652 price/earnings ratio (multiple), 651 stock split, 486 stolen credit card numbers, 183 straight-line amortization method, 436–437 straight-line depreciation method, 114 straight-line (SL) method, 329, 329f, 332, 332f subsidiary company, 383 subsidiary ledger, 228 Sullivan, Scott, 327 T T-accounts, 67–70, 67f, 68f, 70f, 339 tangible long-lived assets acquisitions and sales of, 569–570 buildings, 324 changing useful life of, 335–336 defined, 322 depreciation for partial years, 335 derecognition and, 336–338 equipment, 324 fully depreciated, 336 land, 323–324 land improvements, 324 leasehold improvements, 324 lump-sum (or basket) purchases, 324–325 machinery, 324 related expenses, 323f transactions on statement of cash flows, 347–348, 348f taxes corporate, 476, 526–527 Deferred Income Tax Liability, 527 depreciation for tax purposes, 339 Employee Withholdings Income Tax Payable, 421 future income tax liability, 527 goods and services tax (GST), 419–420 harmonized sales tax (HST), 419–420 income statement and, 526–527 Income Taxes Payable, 418 pretax accounting income, 526 provincial or regional sales tax (PST), 419–420 sales tax payable, 419–420 taxable income, 526–527 tax liability, future income, 527 TELUS Corporation, 1, 51–52, 103–104, 198–199, 220–221, 268–269, 319, 372–373, 414, 472, 474–475, 519–520, 521, 552, 554–555, 598, 624–625, 689–690 temporary accounts, 129 temporary investments See short-term investments term, 237 term bonds, 427 term loans, 442 timeliness, times-interest-earned ratio, 441–442, 645–647 time value of money future value, 391–392, 393f present value, 392–396, 394f total asset turnover, 345–346 trademark, 343 trade name, 343 trade receivables See accounts receivable trading on the equity, 650 transactions approvals, 181–182 from bank reconciliation, recording, 189–191, 190f defined, 55 documents to support, 181 effect on ratios and debt-paying ability, 132–134 equity transactions, 492–493, 493f financial statements and, 61–63, 62f, 63f flow of accounting data, 71–74, 71f impact of, on accounting equation, 57–63 journal for recording, 70–76 recording, 54–104 in T-accounts, 67–70 tangible long-lived assets, on statement of cash flows, 347–348, 348f trial balance and, 76, 76f TransCanada Corporation, 224–225 treasurer, 180 trend percentages, 629 trial balance, 76 unadjusted, 110, 118, 120f Trojan horse, 183 turnover, measuring, 642–644 accounts payable turnover, 644 accounts receivable turnover, 642–643 cash conversion cycle, 644 days’ sales in receivables, 643–644 inventory turnover, 642 www.downloadslide.net INDEX U V unadjusted trial balance, 110, 118, 120f uncollectable account expense, 231 uncollectable receivables, 230–236 aging-of-receivables method and, 233–234, 233f, 234f allowance method and, 231–235 cash collections and, computing, 236 direct write-off method and, 231, 235–236 overview of, 230–231 percentage-of-sales method and, 232–233, 234f recovery of, 235 writing off, 234, 235 understandability, underwriter, 427, 479 unearned revenues, 19, 112–113 cash flows and, 566, 566f, 567 current liabilities and, 421–422 deferrals, 112–113 defined, 19 units-of-production (UOP) method, 330, 330f, 332, 332f unmodified audit opinion, 534 unrealized gains, 224–225, 379 unrealized losses, 225, 379 useful life of tangible long-lived assets, 335–336 vacations, 182 valuation, 328 verifiability, vertical analysis, 630–632, 630f, 631f W wage, 421 Walmart, 440 Watkins, Sherron, 175–176 weighted-average-cost method effects of, 281–283, 282f vs FIFO method, 283 illustration of, 279f periodic, 280 perpetual, 279–280 weighted-average number of common shares outstanding, 530 WestJet Airlines, 416–417 wireless networks (Wi-Fi), 183 working capital, 638–639 WorldCom Corporation, 174, 177, 327, 389 writing off uncollectable receivables, 234, 235 765 ... 11:46 PM f-w-148 /207/PHC00111/9780132979276 _HARRISON/ HARRISON _FINANCIAL_ ACCOUNTING5 _SE_9780132979 /207/PHC00111/9780132979276 _HARRISON/ HARRISON _FINANCIAL_ ACCOUNTING5 _SE_9780132979 LEARNING OBJECTIVES... ORGANIZATIONS Two Kinds of Accounting: Financial Accounting and Management Accounting Accounting information falls into two categories: financial accounting and management accounting The distinction... users rely on financial accounting information, whereas management accounting information is used by internal users only 5 EXPLAIN WHY ACCOUNTING IS THE LANGUAGE OF BUSINESS Financial accounting