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ACG2021 Chapter 2 Notes - Chapter 2 Notes Primary Objective...

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Chapter 2 Notes Primary Objective of External Financial Reporting – To provide useful economic information to external users for decision making Qualitative Characteristics of Financial Information – These qualities are present throughout all of the generated financial statements 1. Relevancy – be capable of making a difference in decisions Predictive value Feedback value Timeliness 2. Reliability – can be relied upon Verifiable – numbers can be verified independently often through the use of an external auditor (always the case if the company is a publicly traded company) Representational faithfulness Unbiased (neutrality) 3. Comparability – information presented can be compared across companies within the same industry 4. Consistency – the way financial information is generated is consistent over time (i.e., using the same accounting methods every period) Assumptions 1. Separate Entity – the activities of the business are separate from the activities of its owners 2. Unit of Measure – accounting measurements will be in the national monetary unit (always the U.S. $ for companies in the United States and for this course) 3. Continuity (or Going Concern ) – entity will not go out of business in the near future 4. Time Period – the long life of a company can be reported over a series of shorter time periods Principles – transactions are recorded with respect to these: 1. Historical Cost – cash equivalent price on the transaction date is used initially to measure elements (items received or liabilities incurred). Assets are recorded at the historical cash equivalent cost, which is the cash paid PLUS the current dollar value of all noncash considerations (can be assets or liabilities) also given in the exchange Example: Suppose Company X acquires a building worth $1,000,000. To pay for this building, Company X pays $500,000 cash and gives up a piece of land that it owns with a book value AND fair market value equal to $500,000. In this case, the land serves as noncash consideration in addition to the cash paid. The building is recorded on Company X’s books at the © Scott Friend, 2007
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$1,000,000 price paid. The issue that arises as a result of these noncash exchanges is what happens when the noncash consideration has a differing book value from its fair market value. These then give rises to gains and losses which will be covered more in depth in Chapter 3 2. Revenue Recognition – record when measurable, realizable, and earned (i.e., the company performs a service, there is evidence of customer payment arrangements, the price is determinable, and collection is reasonably assured) Example: The University of Florida (UF) sells 50,000 season football tickets for $100 a piece for the upcoming 2007 football season. Thus, total collections amounted to $5,000,000 in cash. For simplicities sake, assume there are 10 football games in the season – none of which have occurred yet.
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