IE132 Financial Accounting

Prelim Exams Pointers for Review

Part 1 – Multiple choice questions (50 points)

Focus on the following:

1. Differentiate the following accounting concepts: Separate Entity Concept, Historical Cost Concept, Going
Concern, Matching Principle, Accrual Accounting

 SEC: This assumption helps in keeping the business transactions strictly free from the effect of personal affairs
of the owner
 HCC: This principle is closely related to the going concern concept. As per this principle every transaction of the
business should be recorded at its historical cost and not at its market price. At the time of recording of the
transactions, their market price is not considered. Sometimes its market price may be less than or more than its
actual cost but its actual cost is recorded in accounts because of cost principle. Under this principle the
historical cost of a transaction becomes the base cost for the subsequent years. On the basis of this cost, the
depreciation is charged on the assets and the balance is shown in the balance sheet. All the fixed assets and
current assets are recorded at historical cost. Thus, we observe that the balance sheet prepared on the basis of
historical cost does not give us actual results for those applicable of fixed assets and current assets. Due to the
changing in the price level changes, the financial statements become irrelevant for the users. This led to the
inflation accounting to came into existence.
 GC: As per International Accounting Standards, it is a fundamental accounting assumption underlying the
preparation of financial statements. Under this assumption, “the enterprise is normally viewed as a going
concern, that is, as continuing in operation for the foreseeable future. Under this all assets are shown at cost
price and not at market price and depreciation is provided on cost price in order to calculate true profit. It is
assumed that the enterprise has neither the intention nor the necessity of liquidation or of curtailing materially
the sale of its operations”. Under this assumption the assets of the business are valued by the accountants on
the basis of going concern concept, historical cost and expected life of the assets.
 MP: As per the going concern concept, the accurate profit/loss of the business can be determined at the time of
liquidation of the business or sale of the business. But it will generate a lot of problems. Therefore, the
economic life of the business is divided into different segments in order to determine the profit/loss of the
business. Generally a segment of the economic life of the business becomes of a year. To compute the
operational profits/loss of the business in a year, it is necessary to find the expenses and revenues relating to
the period. Then all the revenues of that period are matched with all the expenses/costs incurred to earn that
revenue. This matching is called the principle of matching of cost and revenue. The results of this match
becomes as follows:
Profit = Revenue – Expenses
Herewith the matching means an appropriate association between the revenues of a period and
expenses/costs of that period. In other words the incomes/loss of the business can be determined if the revenues
(incomes) of a period are compared (matched) with the expenditure of that period. For the recognition of the
revenues/expenses the accurate system of accounting is adopted. Therefore, a proper adjustment is also made in
the accounts for the outstanding expenses, prepaid expenses, accrued incomes and unaccrued incomes. At the time
of reorganization of the revenue/ expenses, the following points are kept in mind:
1. The expenses which are being spent to earn revenue must be of the same period for
which profit is being computed.
2. Revenues/expenses of a period must be computed on the basis of accrual accounting
system.
3. If some revenues are received in advance, they must be treated as the income of that period in
which goods are supplied/services are rendered.

 AA: Revenues/expenses of a period must be computed on the basis of accrual accounting system.
The revenues are recognized only at the time of occurrence and expenses are recognized only at the moment of
incurring. Whether the cash is received or not out of the sales, that will be registered/counted as total value of the
sales. The next most important step is to record the transactions. For recording, the value of the transaction is
inevitable, to record values; the classification of values must be essentially done.

2. Which government agency requires businesses to file tax returns?

 BIR

3. Basic accounting equation and its expanded version

 ASSETS= LIABILITIES+EQUITY
 @ equity
Owner capital-owner withdrawals+revenues-expenses

4. Are assets required to be owned by an entity or not?

In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is
anything (tangible or intangible) that can be used to produce positive economic value.
-Assets are REQUIRED TO BE OWNED by an entity

5. What is the effect of revenue or income to equity?

-revenues cause owner's equity to increase

6. What is the effect if expenses exceed revenue or income?

-net loss

7. Internal and external users of Financial Accounting Reports

-
8. Effect of a business transaction to the accounting equation (cases will be given to analyze)
9. Difference between a creditor and debtor to a business.

Creditors, Lenders of Money etc.: The creditors and lenders of money etc. can also

know the financial soundness through financial statement. They have to see two

things (i) Regularity of income and (ii) solvency of the business so that their

investment is risk free.

Distinguish between material and immaterial transactions of business.

10. Which government agency is responsible for the registration of Sole Proprietorship Business?
The Securities and Exchange Commission (SEC) is responsible for registering and supervising all corporations and
partnerships organized in the Philippines.

11. What is the left and right side of an account

DEBIT AND CREDIT

12. What is the initial book of account where transactions are recorded?
General journal is referred to as the book of original entry. It records business transaction in order of date using the
principle of “debit and credit”.

13. What are examples of source documents?

14. Example of internal and external transactions/events

15. How are journal entries recorded in the Journal? – Chronologically

 Include a date of when the transaction occurred.

 The debit account title(s) always come first and on the left.
 The credit account title(s) always come after all debit titles are entered, and on the right.
 The titles of the credit accounts will be indented below the debit accounts.
 You will have at least one debit (possibly more).
 You will always have at least one credit (possibly more).
 The dollar value of the debits must equal the dollar value of the credits or else the equation will go out of balance.
 You will write a short description after each journal entry.
 Skip a space after the description before starting the next journal entry.

16. What are the accounts affected when an owner invests his/her personal money in the business?
 The owner invests personal cash in the business. Assets. Increase. Right! The company's asset account Cash
increases. Decrease.

17. What is the effect to the accounting equation if a business pays its liabilities?
 All else being equal, a company's equity will increase when its assets increase, and vice-versa. Adding liabilities
will decrease equity while reducing liabilities—such as by paying off debt—will increase equity.

18. What are balance sheet accounts?

Balance sheet accounts are used to sort and store transactions involving a company's assets, liabilities, and owner's
or stockholders' equity.

Shows the health of the company

19. What are income statement accounts?

An income statement is one of the three major financial statements that report a company's
financial performance over a specific accounting period.
Income statement accounts are one of two types of general ledger accounts. (The other accounts in the general
ledger are the balance sheet accounts.).

20. What is the primary purpose for posting a transaction? Remember the T account posting that we did

Posting – the process of transferring amounts from the journal to the ledger accounts

To Classify transactions

21. What is the primary purpose of preparing a Trial Balance?

The list of the name of the various ledger book A/c and their accounting balances is
known as Trial Balance. The trial balance is summary of all unadjusted name of the accounts
and their balances.

A trial balance is nothing more than a summation of the

account balances to be sure that the books do, in fact, balance.

22. What information(s) is found in the heading of a Trial Balance?

23. What is a trial balance prepared before adjusting entries?

An adjusted trial balance is prepared by creating a series of journal entries that are designed to account for any
transactions that have not yet been completed. These items include payroll expenses, prepaid expenses, and
depreciation expenses

Summarizing: The ledger books are appropriately balanced and listed one after another.

24. What is a subsidiary ledger?

A subsidiary ledger is a group of accounts containing the detail of debit and credit entries. For
example detail information contained in Accounts Payable.

25. What is Management Accounting?

Management Accounting: The accounting which provides the necessary information to the management is called
management accounting. Under this, the analysis and interpretation of the accounts, prepared by financial
accounting, are done in a manner so that the managers may forecast, plan for future and frame the policy.

Part 2 – Analyzing the effect of business transactions to the Accounting Equation. There will be five (5) independent
items/situation to analyze for 2 points each.

Good luck everyone!