financial accounting practice is governed by concepts and rules known as generally accepted...
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Financial accounting practice is governed by concepts and rules known as generally accepted accounting principles (GAAP).
Financial accounting practice is governed by concepts and rules known as generally accepted accounting principles (GAAP).
Generally Accepted Accounting Principles
Relevant Information
Relevant Information
Affects the decision of its users.
Affects the decision of its users.
Reliable InformationReliable Information Is trusted by users.
Is trusted by users.
Comparable Information
Comparable Information
Used in comparisons across years & companies.
Used in comparisons across years & companies.
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Principles and Assumptions of Accounting
Measurement principle (also called cost principle) means that accounting information is based on actual cost.
Going-concern assumption means that accounting information reflects a presumption the business will continue operating.
Monetary unit assumption means we can express transactions in money.
Revenue recognition principle provides guidance on when a company must recognize revenue.
Business entity assumption means that a business is accounted for separately from its owner or other business entities.
Matching principle (expense recognition) prescribes that a company must record its expenses incurred to generate the revenue.
Full disclosure principle requires a company to report the details behind financial statements that would impact users’ decisions.
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Time period assumption presumes that the life of a company can be divided into time periods, such as months and years.
AssetsLiabilities + Equity
Accounting Equation
LiabilitiesLiabilities EquityEquityAssetsAssets = +
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LandLand
EquipmentEquipment
BuildingsBuildings
CashCash
VehiclesVehicles
Store Supplies
Store Supplies
Notes Receivable
Notes Receivable
Accounts Receivable
Accounts Receivable
Resources owned or controlled
by a company
Resources owned or controlled
by a company
Assets
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Taxes Payable
Taxes Payable
Wages Payable
Wages Payable
Notes Payable
Notes Payable
Accounts Payable
Accounts Payable
Creditors’ claims on
assets
Creditors’ claims on
assets
Liabilities
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Owner’sclaim on
assets
Owner’sclaim on
assets
DividendsDividends
Contributed Capital
Contributed Capital
Retained Earnings
Retained Earnings
Equity
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LiabilitiesLiabilities EquityEquityAssetsAssets = +
Expanded Accounting Equation
RevenuesRevenues ExpensesExpensesContributed
CapitalContributed
CapitalDividendsDividends__ ++ __
Retained Earnings
LiabilitiesLiabilities EquityEquityAssetsAssets = +
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Transaction Analysis
Business activities can be described in terms of transactions and events. External transactions are exchanges of value between two entities, which yield changes in the accounting equation. Internal transactions are exchanges within any entity; they can also affect the accounting equation. Events refer to happenings that affect an entity’s accounting equation and can be reliably measured. Transaction analysis is defined as the process used to analyze transactions and events.
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Transaction Analysis
J. Scott invests $20,000 cash to start the business in return for stock.
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Transaction Analysis
Purchased supplies paying $1,000 cash.
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Transaction Analysis
Purchased equipment for $15,000 cash.
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Transaction Analysis
Purchased Supplies of $200 and Equipment of $1,000 on account.
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Transaction Analysis
Borrowed $4,000 from 1st American Bank.
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Transaction Analysis
The balances so far appear below. Note that the Balance Sheet Equation is still in balance.
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Transaction Analysis
Now, let’s look at transactions involving revenue, expenses and
dividends.
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Transaction Analysis
Provided consulting services receiving $3,000 cash.
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Transaction Analysis
Remember that expenses decrease equity.
Paid salaries of $800 to employees.
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Transaction Analysis
Remember that dividends decrease equity.
Dividends of $500 are paid to shareholders.
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Financial Statements
Let’s prepare the Financial Statements reflecting the transactions we have recorded.
1. Income Statement
2. Statement of Retained Earnings
3. Balance Sheet
4. Statement of Cash Flows
1. Income Statement
2. Statement of Retained Earnings
3. Balance Sheet
4. Statement of Cash Flows
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Net income is the difference between
Revenues and Expenses.
Net income is the difference between
Revenues and Expenses.
The income statement describes a company’s revenues and expenses along with the resulting net income or loss over a period of time due to earnings activities.
The income statement describes a company’s revenues and expenses along with the resulting net income or loss over a period of time due to earnings activities.
Income Statement
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The Balance Sheet describes a company’s financial position at a point in time.
The Balance Sheet describes a company’s financial position at a point in time.
Balance Sheet
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Account Name
(Left Side) Debit
(Right Side) Credit
Tool to analyze and determine the balance in a given account
T-Account
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Debit CreditDebit Credit
AssetsAssets
+ + --
Rules of Debit and Credit
LiabilitiesLiabilities EquityEquity== ++Debit CreditDebit Credit - +- +
Debit CreditDebit Credit - +- +
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Rules of Debit and Credit
Owner’s EquityOwner’s EquityDebit CreditDebit Credit - +- +
RevenuesRevenues
- +- +Debit CreditDebit Credit
Owner’s Owner’s CapitalCapital
Debit CreditDebit Credit - +- +
Owner’s Owner’s WithdrawalsWithdrawals
Debit CreditDebit Credit + + --
ExpensesExpenses
Debit CreditDebit Credit
+ + --
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RevenuesRevenues ExpensesExpensesOwner’s Owner’s CapitalCapital
Owner’s Owner’s WithdrawalsWithdrawals
__ ++ __
Expanding the Rules of Debit and Credit
Owner’s Equity
Debit CreditDebit Credit - +- +
Debit CreditDebit Credit
- +- +Debit CreditDebit Credit + + --
Debit CreditDebit Credit + + --
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Remember: Just ask ALICE!
Debit Credit
+ A = Assets -
- L = Liabilities +
- I = Income* +
- C = Capital +
+ E = Expenses -
* Really, this is revenues, but “r” just doesn’t fit in!
The first and the last are increased
with a debit
The middle three are increased with
credits
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Journalizing Transactions
Identify accounts affected and its type
Determine whether each account is increased or decreased. Apply the rules of debit and credit
Record transaction in journal. Debit side of entry is entered first Total debit $ must = Total credit $
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General Journal
Journal Page 1
Date Description Debit Credit
Jul 1 Cash 45,000
Lange, Capital 45,000
Investment from owner
Accounts AffectedAccounts Affected
Dollar amount of debits and credits
Dollar amount of debits and credits
Optional: Explanation of transaction
Optional: Explanation of transaction
Transaction Date
Transaction Date
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General Journal
Debits are ALWAYS entered 1st.
Credits are INDENTED and listed after the debit accounts or accounts.
Do not use dollar signs.
SKIP A LINE between each entry
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Exercise 2-19Aug 9 100
Cash
Aug 1 60,000 Aug 4 50,000Aug 6 3,000
Accounts Receivable
Aug 17 2,100Service Revenue
Aug 6 3,000
Bal. 12,400
BuildingAug 4 50, 000
R. Woodward, Capital
Aug 1 60,000
Rent Expense
Salary Expense
Aug 2 200
Supplies
Aug 2 200Accounts Payable
Aug 9 100Bal. 100
Aug 17 2,100
Aug 23 1,200
Aug 23 1,200
Aug 31 1,200Aug 31 500
Bal. 900Bal. 5,100
Aug 31 1,200
Aug 31 500
Take the difference between total debits and total credits to
determine the balance in each account. If
debits are greater than credits, the account has a debit balance
and vice versa
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Revenue Principle
When is revenue recognized (entered
into the accounting records) ? When it is earned Not necessarily when cash is received
How much revenue is recognized? Cash value of item transferred to
customer
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The Matching Principle
Measure all expenses incurred during the accounting period
When are expenses recognized? Match the expenses against the
revenues earned during the period
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Adjusting Entries
At the end of an accounting period, ask yourself these questions: Have I recorded all revenues earned
during this accounting period? Have I recognized all expenses incurred
during this accounting period?
If “No”, prepare an adjusting entry
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Adjusting Entries
Prepared at end of an accounting period
Recorded to bring an asset or liability account balance to its proper amount Recognize all revenues when earned Recognize all expenses incurred
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Adjusting Prepaid Expenses
Resources paid for prior to receiving the actual benefits
Prepaid AssetPrepaid Asset
Used up portion = Expense
Used up portion = Expense
Unused portion = Prepaid
Unused portion = Prepaid
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Depreciation - process of allocating the cost of a plant asset to expense over its expected useful life
Straight-LineDepreciation Expense
= Asset Cost
Useful Life
Adjusting for Depreciation
Long term plant assets except for land are
depreciated
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Depreciation
Depreciation, for accounting purposes, has NOTHING to do with market value, resale value or insurance value of an asset.
It is a way to allocate the cost of the asset to each period that asset helps earn revenue
Accumulated Depreciation A contra asset account … it is the amount of
depreciation on that asset taken to date,
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Tips
An adjusting entry will NEVER involve a debit or credit to Cash.
Each adjusting entry will affect at least one balance sheet account and one income statement account