Financial Accounting Basics II

Explanation
When a liability is paid in cash, it reduces the amount of money owed by the company. As a result, the company's assets decrease by the amount of cash paid, which in turn decreases the stockholders' equity. This is because stockholders' equity represents the residual interest in the assets of the company after deducting liabilities. So, when a liability is paid off, it reduces the company's equity. Therefore, the statement is true.

Explanation
When a company borrows money from the bank, it leads to a cash inflow from a financing activity. This is because borrowing money increases the company's cash balance, which is considered a cash inflow. The company receives the borrowed funds, which can be used to finance its operations or invest in new projects. This cash inflow from financing activities is an important aspect of a company's cash flow statement, as it shows how the company is funding its operations and investments through external sources like borrowing.

Explanation
When a loan is repaid to the bank, it does not lead to an inflow of cash from a financing activity. Instead, it leads to an outflow of cash from a financing activity. Repaying a loan means that the borrower is returning the borrowed money to the bank, resulting in a decrease in the company's liabilities. This decrease in liabilities is reflected as a cash outflow from the financing activities section of the cash flow statement.

Explanation
When a business pays for a two year insurance policy, it has not yet incurred an expense. The payment made for the insurance policy is considered a prepaid expense because it covers future periods. The expense will be recognized gradually over the two-year period as each month or year passes. Therefore, the statement is false as the expense is not immediately incurred when the payment is made.

Explanation
The separate entity assumption is the correct answer because it states that the business's financial transactions and records should be kept separate from the personal transactions and records of the owner. This assumption recognizes that the business is a separate legal entity from its owner, and therefore its assets, liabilities, and financial activities should be accounted for independently. This principle ensures transparency and accuracy in financial reporting by preventing the commingling of personal and business finances.

Explanation
The income statement will not report the $20K as cost of goods sold in February when it was purchased. Since the company will pay for the inventory in March, the cost of goods sold will be recognized in March when the payment is made. Thus, the income statement will not report the cost of goods sold in February.

Explanation
The explanation for the given correct answer is that the operating cycle refers to the entire process of a company's business operations, starting from purchasing goods, paying for them, selling them to customers, and finally collecting the cash from customers. This cycle represents the time it takes for a company to complete these steps and is an important measure of its efficiency and cash flow management. Therefore, the statement is true.

Explanation
The left side of the accounting equation represents the assets of a company, which include cash, inventory, and equipment. It is not possible for the left side of the equation to both increase and decrease as a result of the same transaction because any increase in assets must be balanced by a corresponding increase in liabilities or equity on the right side of the equation. Therefore, the statement is false.