Chapter 2 Analyzing and Recording Business Transactions Mc

Chapter 2 Analyzing and Recording Business Transactions Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -2 Conceptual Learning Objectives C 1: Explain the steps in processing transactions C 2: Describe source documents and their purpose C 3: Describe an account and its use in recording transactions C 4: Describe a ledger and a chart of accounts C 5: Define debits and credits and explain their role in double-entry accounting Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -3 Analytical Learning Objectives A 1: Analyze the impact of transactions on accounts and financial statements A 2: Compute the debt ratio and describe its use in analyzing financial performance Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -4 Procedural Learning Objectives P 1: Record transactions in a journal and post entries to a ledger P 2: Prepare and explain the use of a trial balance P 3: Prepare financial statements from business transactions Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

Analyzing and Recording Process C 1 2 -5 Exchanges of economic consideration between two parties. External Transactions occur between the organization and an outside party. Mc. Graw-Hill/Irwin Internal Transactions occur within the organization. © The Mc. Graw-Hill Companies, Inc. , 2008

Analyzing and Recording Process C 1 Analyze each transaction and event from source documents Prepare and analyze the trial balance Mc. Graw-Hill/Irwin 2 -6 Record relevant transactions and events in a journal Post journal information to ledger accounts © The Mc. Graw-Hill Companies, Inc. , 2008

2 -7 Source Documents C 2 Checks Employee Earnings Records Bills from Suppliers Purchase Orders Bank Statements Sales Tickets Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -8 C 3 The Account and its Analysis An account is a record of increases and decreases in a specific asset, liability, equity, revenue, or expense item. Mc. Graw-Hill/Irwin The general ledger is a record containing all accounts used by the company. © The Mc. Graw-Hill Companies, Inc. , 2008

2 -9 C 3 The Account and its Analysis Assets Accounts Mc. Graw-Hill/Irwin = Liability Accounts + Equity Accounts © The Mc. Graw-Hill Companies, Inc. , 2008

2 -10 Asset Accounts C 3 Cash Land Buildings Asset Accounts Receivable Notes Receivable Prepaid Accounts Equipment Supplies Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -11 Liability Accounts C 3 Accounts Payable Notes Payable Liability Accounts Accrued Liabilities Mc. Graw-Hill/Irwin Unearned Revenue © The Mc. Graw-Hill Companies, Inc. , 2008

2 -12 Equity Accounts C 3 Retained Earnings Common Stock Dividends Equity Accounts Revenues Mc. Graw-Hill/Irwin Expenses © The Mc. Graw-Hill Companies, Inc. , 2008

2 -13 C 3 The Account and its Analysis Assets + Common Stock Mc. Graw-Hill/Irwin = Liabilities – Dividends + Equity – + Revenues Expenses © The Mc. Graw-Hill Companies, Inc. , 2008

2 -14 C 4 Ledger and Chart of Accounts The ledger is a collection of all accounts for an information system. A company’s size and diversity of operations affect the number of accounts needed. The chart of accounts is a list of all accounts and includes an identifying number for each account. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -15 Debits and Credits C 5 A T-account represents a ledger account and is a tool used to understand the effects of one or more transactions. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -16 C 5 Double-Entry Accounting Assets ASSETS Debit + Mc. Graw-Hill/Irwin Credit - = Liabilities LIABILITIES Debit - Credit + + Equity EQUITIES Debit - Credit + © The Mc. Graw-Hill Companies, Inc. , 2008

2 -17 Double-Entry Accounting C 5 Equity Common Stock _ Dividends + Revenues _ Expenses Stock Dividends Revenues Expenses Debit Credit - Mc. Graw-Hill/Irwin + + - - + + - © The Mc. Graw-Hill Companies, Inc. , 2008

2 -18 C 5 Double-Entry Accounting An account balance is the difference between the increases and decreases in an account. Notice the T-Account Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

P 1 Journalizing & Posting Transactions Assets Step 1: Analyze transactions and source documents. Step 4: Post entry to ledger Mc. Graw-Hill/Irwin 2 -19 = Liabilities + Equity Step 2: Apply doubleentry accounting Step 3: Record journal entry © The Mc. Graw-Hill Companies, Inc. , 2008

2 -20 P 1 Journalizing Transactions ŒTransaction Date Transaction explanation Mc. Graw-Hill/Irwin Titles of Affected Accounts Dollar amount of debits and credits © The Mc. Graw-Hill Companies, Inc. , 2008

2 -21 P 1 Balance Column Account T-accounts are useful illustrations, but balance column ledger accounts are used in practice. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -22 Posting Journal Entries P 1 1 Identify the debit account in ledger. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -23 Posting Journal Entries P 1 2 Mc. Graw-Hill/Irwin Enter the date. © The Mc. Graw-Hill Companies, Inc. , 2008

2 -24 Posting Journal Entries P 1 3 Enter the amount and description. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -25 Posting Journal Entries P 1 4 Enter the journal reference. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

Posting Journal Entries P 1 5 2 -26 Compute the balance. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -27 P 1 Posting Journal Entries 6 Enter the ledger reference. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -28 A 1 Analyzing Transactions Analysis: Double entry: Posting: 101 Mc. Graw-Hill/Irwin 301 © The Mc. Graw-Hill Companies, Inc. , 2008

2 -29 A 1 Analyzing Transactions Analysis: Double entry: Posting: 126 Mc. Graw-Hill/Irwin 101 © The Mc. Graw-Hill Companies, Inc. , 2008

A 1 2 -30 Analyzing Transactions Analysis: Double entry: Posting: 167 Mc. Graw-Hill/Irwin 101 © The Mc. Graw-Hill Companies, Inc. , 2008

2 -31 A 1 Analyzing Transactions Analysis: Double entry: Posting: 126 Mc. Graw-Hill/Irwin 201 © The Mc. Graw-Hill Companies, Inc. , 2008

A 1 2 -32 Analyzing Transactions Analysis: Double entry: Posting: 403 Mc. Graw-Hill/Irwin 101 © The Mc. Graw-Hill Companies, Inc. , 2008

2 -33 After processing its remaining transactions for December, Fast. Forward’s Trial Balance is prepared. A 1 Fast. Forward Trial Balance December 31, 2007 Cash Accounts receivable Supplies Prepaid Insurance Equipment Accounts payable Unearned consulting revenue Common stock Dividends Consulting revenue Rental revenue Salaries expense Rent expense Utilities expense Total Mc. Graw-Hill/Irwin Debits $ 4, 350 9, 720 2, 400 26, 000 Credits $ 6, 200 3, 000 30, 000 200 The trial balance lists all account balances in the general ledger. If the books are in balance, the total debits will equal the total credits. 5, 800 300 1, 400 1, 000 230 $ 45, 300 © The Mc. Graw-Hill Companies, Inc. , 2008

P 2 Six Steps for Searching for and Correcting Errors 2 -34 If the trial balance does not balance, the error(s) must be found and corrected. Make sure the trial balance columns are correctly added. Recompute each account balance in the ledger. Make sure account balances are correctly entered from the ledger. Verify that each journal entry is posted correctly. See if debit or credit accounts are mistakenly placed on the trial balance. Verify that each original journal entry has equal debits and credits. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008

2 -35 P 3 Using a Trial Balance to Prepare Financial Statements Point in Time Period of Time Income Statement of Retained Earnings Beginning Balance Sheet Mc. Graw-Hill/Irwin Statement of Cash Flows Ending Balance Sheet © The Mc. Graw-Hill Companies, Inc. , 2008

2 -36 P 3 Mc. Graw-Hill/Irwin Income Statement © The Mc. Graw-Hill Companies, Inc.

2 -37 P 3 Statement of Retained Earnings Mc. Graw-Hill/Irwin © The Mc. Graw-Hill

2 -38 P 3 Mc. Graw-Hill/Irwin Balance Sheet © The Mc. Graw-Hill Companies, Inc.

2 -39 Debt Ratio A 2 o Describes the relationship between the amounts of the company’s liabilities and assets. o Helps to assess the risk that a company will fail to pay its debts. Mc. Graw-Hill/Irwin © The Mc. Graw-Hill Companies, Inc. , 2008