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OPERATING ACTIVITIES I. Basic Operating Activities A. The Income Statement reports the results of operating activities for a fiscal period. B. Exhibit 1 illustrates a typical income statement. II. Revenues and Receivables A. Operating revenues are the first items on the income statement and affect both cash and accounts receivable on the balance sheet. (See Exhibit 2 .) 1. Most companies recognize revenue when ownership transfers or the services are performed. 2. Revenue should be recognized when four criteria have been met: a. The selling company has completed most of the activities necessary to produce and sell the goods or services. b. The selling company has incurred the costs associated with producing and selling the goods or services or can reasonably measure these costs. c. The selling company can measure objectively the amount of revenue it has earned. d. The selling company is reasonably sure that it is going to collect cash from the purchaser. 3. For most companies, these criteria have been met when goods are transferred or when services are provided to customers who pay for them or who are obligated to pay for them. B. Recognizing Revenue for Long-Term Contracts 1. Revenues earned from long-term contracts often are recognized in proportion to the passage of time or in proportion to the amount of the contract that has been completed. 2. In the case of construction contracts, the seller usually estimates the portion of the contract that has been completed during a fiscal period and recognizes a corresponding portion of revenues for that period. C. Sales Discounts and Returns 1. Revenues are reported on the income statement net of discounts and of expected returns. 2. A discount is a reduction in the normal sales price and reduces revenues. 3. Sales returns are also subtracted from sales revenues in reporting net operating revenues on the income statement. a. Future sales returns are estimated so that revenues for the fiscal period in which the sales were made can be measured more accurately. b. The estimated sales return amounts are entered into the accounting system using an asset account called Allowance for Returns which reduces the amount of Accounts Receivable reported on the balance sheet, and a revenue account called Sales Returns which reduces the amount of Sales Revenue on the income statement. c. When actual goods are returned to a company, the amount of the return is written off against the allowance for returns account. 4. A major principle in accounting is the matching principle : An effort is made to match revenues and expenses in the period in which they occur so that revenues, expenses, and net income are not misstated. D.
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This note was uploaded on 05/12/2008 for the course ACCT 2101 taught by Professor Woods during the Spring '08 term at Middle Georgia State College.

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