Essential Accounting Definitions: Inventory, Receivables, and Depreciation

Fundamental Concepts in Financial Accounting

Merchandising Operations and Inventory Fundamentals

• A business whose income is derived largely from buying or selling goods, rather than rendering services, is known as a Merchandising Firm.
• The goods on hand at the beginning or the end of the accounting period are called Inventory.
• The merchandise inventory on hand at the end of the period will appear both in the Cost of Goods Sold (CGS) section of the income statement and as an asset on the balance sheet.
• The Purchase account is used only for goods intended for Re-sale. Purchases of trucks and equipment are debited to Asset accounts.
• Beginning Inventory plus Net Purchases equals Goods Available for Sale (GAS).
• In recording both beginning inventory and ending inventory as an adjusting entry, the Income Summary account is used.
• The difference between what was available for sale and what is left at the end of the year is known as the Cost of Goods Sold (CGS).

Managing Receivables and Bad Debts

• The practice of transferring a customer's note to the bank is called Discounting.
• The face value of a note plus the interest due is known as the Maturity Value.
• Under the Direct Write-Off Method, uncollectible accounts are charged to expense when they become uncollectible.
• Uncollectible Accounts Expense appears in the income statement, whereas Allowance for Uncollectible Accounts appears in the balance sheet.
• The method based on the age of the accounts receivable is known as the Balance Sheet Method (or Percentage of Receivables Method).
• Ascertaining the amount and time outstanding for each account is known as Aging.

Fixed Assets and Depreciation Concepts

• The main reason for depreciation is the decline in an asset's usefulness due to factors like Aging, wear and tear, and obsolescence.
• Accumulated Depreciation is an example of a Contra Asset Account.
• The estimated market value of a fixed asset at the end of its service life is known as Salvage Value (or Residual Value).
• The uniform distribution of depreciation expense over the life of the asset is known as the Straight-Line Method.
• The Sum-of-the-Years' Digits (SYD) method is used to write off the asset based on a series of fractions.
• The method that produces the largest amount of depreciation in the earlier years is known as the Double Declining Balance (DDB) Method.
• Two common Accelerated Methods of depreciation are Sum-of-the-Years' Digits and Double Declining Balance.

Key Depreciation Calculation Formulas

Straight-Line Method

Annual Depreciation = (Cost - Salvage Value) / Useful Life (in Years)

Sum-of-the-Years' Digits (SYD) Method

The denominator for the fraction is calculated as: $N(N+1)/2$, where $N$ is the useful life.

The fraction (Year's Remaining Life / SYD Denominator) is multiplied by the depreciable base (Cost - Salvage Value) to determine the Depreciation Recognized.

Double Declining Balance (DDB) Method

1. Calculate the Straight-Line Rate (1 / Useful Life).

2. Multiply the rate by 2 to get the DDB Rate.

3. Annual Depreciation = DDB Rate $ imes$ Book Value (Cost - Accumulated Depreciation).

Note: Salvage value is ignored in the calculation but the asset cannot be depreciated below its salvage value.

Bank Reconciliation Adjustments

• Outstanding Checks: Deduct from the Bank Statement Balance.
• Service Charge: Deduct from the Book Balance (Cash Account).