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Review of Chapter 1

Who are the primary users? What is the accounting equation? What are the accounting assumptions Name the financial statements and components What are the main income measures to watch? How can you tell if the company can pay their debt?

Question #1: Review of Chapter 1


How would net income affect the accounting equation? a. Increase assets and increase shareholders equity b. Increase liabilities and decrease shareholders equity c. Increase assets and increase liabilities d. Decrease assets and decrease liabilities

Transaction Analysis Chapter 2

Transaction
A transaction is any event that has financial impact on the business Can be measured Provide objective information Must be able to assign $ amount to transaction

The Account
The account summarizes the changes that occur in the accounting equation:

Assets = Liabilities and Shareholders Equity

The Accounting Equation


Assets
What the company owns

Liabilities
What the company owes

+ Equity
What the company owes the owners

The Account
Assets are economic resources that benefit the business now and in the future Cash Accounts receivable Inventory Notes receivable Prepaid expenses Land Buildings Equipment, furniture, and fixtures

The Account
Liabilities are the debts of the company. Bank loan Notes payable Accounts payable Accrued liabilities (for expenses incurred but not paid) Long-term liabilities (bonds and mortgages)

The Account
Shareholders equity represents the claims to the assets of the company.

Contributed capital common shares Retained earnings accumulation of net income minus net losses and dividends

Accounting Cycle
1. Transaction occurs 2. Analyze the transaction 3. Record in a journal 4. Transfer to general ledger 5. Trial Balance

Learning Objective 1

Analyze transactions

Accounting for Business Transactions

A transaction is an event that both affects the financial position of the business entity and can be reliably recorded.

Accounting for Business Transactions Example


The Falks incorporated their business on May 1, 2010. 1) 2) 3) 4) Invested $70,000 to begin a consulting business, Falk Consulting Inc. and issued common shares. Purchased land for their business, paying $50,000 in cash. Bought stationery and other supplies, agreeing to pay $750 to the supplier within 30 days. Earned service revenue of $6,750 and collected this amount in cash

Accounting for Business Transactions


5. Performed services for customers on account for $4,200. 6. Paid $3,400 for the following cash expenses: office rent $1,500, employee salary $1,400 and utilities $500. 7. Collected $1,250 from a customer on account. 8. Declared and paid a dividend of $2,500 to the shareholders. 9. Paid $500 to the store from which it purchased $750 worth of supplies in transaction #3.

Falk Consulting Inc. - Income Statement


For the Month Ended May 31, 2010 Revenue: Service revenue $10,950 Expenses: Rent expense $1,500 Salary expense 1,400 Utilities expense 500 Total expenses 3,400 Net income $7,550

Falk Consulting Inc. - Statement of Changes in Equity


For the Month Ended May 31, 2010
Common shares Balance, May 1 Issued shares Profit Dividends Balance, May 31 $70,000 0 $70,000 $7,550 (2,500) $5,050 Retained Earnings 0 Total Equity 0 $70,000 7,550 (2,500) $75,050

Falk Consulting Inc. - Balance Sheet


May 31, 2010
Assets Cash Accounts receivable Office supplies Land $ 21,600 2,950 750 50,000 Liabilities Accounts Payable $ 250 Shareholders Equity Common shares $70,000 Retained earnings 5,050 Total shareholders equity $75,050 Total liabilities and shareholders equity $75,300

Total assets

$ 75,300

Question #2
During the year, ABC Co. had revenues of $75 and expenses of $40. Total liabilities at year end amounted to $105 and at the start of the year total owners equity was $45. What are the total assets at year end? a. b. c. d. $225 $185 $150 $145

Learning Objective 2 Understand how accounting works.

Double-Entry Accounting
Double-entry bookkeeping uses debits and credits to record the dual effects of each business transaction. Assets = Liabilities + Shareholders Equity

The T-Account
Account Title Debit Credit

LEFT SIDE

RIGHT SIDE

Increases and Decreases in the Accounts


Accounting Equation: Rules of Debit and Credit: Assets = Liabilities Shareholders + Equity

Debit Credit +

Debit Credit +

Debit Credit +

Normal Balances of the Accounts


Assets Liabilities Shareholders Equity overall Common shares Retained earnings Dividends Revenues Expenses Debit Credit Credit Credit Credit Debit Credit Debit

Rules of Debit and Credit


Falk Consulting Inc. invested $70,000 and issued shares.
Assets Cash Debit for Increase, 70,000 = Liabilities Shareholders + Equity Common shares Credit for Increase, 70,000

Expansion of the Accounting Equation


+ Common shares + Retained Earnings Dividends + Revenues Expenses

Liabilities Assets Shareholders Equity

Learning Objective 3 Record transactions in the journal.

Recording Transactions in the Journal


Identify the transaction and specify each account affected. Determine whether each account is increased or decreased by the transaction. Use the rules of debits and credits. Enter the transaction in the journal, including a brief explanation for the entry.

Recording Transactions in the Journal


Journal Date Accounts and Explanation Page 1 Credit

Debit

May 2 Cash Common shares Issued common shares

70,000 70,000

Accounting for Business Transactions Example


The Falks incorporated their business on May 1, 2010. 1) 2) 3) 4) Invested $70,000 to begin a consulting business, Falk Consulting Inc. and issued common shares. Purchased land for their business, paying $50,000 in cash. Bought stationery and other supplies, agreeing to pay $750 to the supplier within 30 days. Earned service revenue of $6,750 and collected this amount in cash

Accounting for Business Transactions


5. Performed services for customers on account for $4,200. 6. Paid $3,400 for the following cash expenses: office rent $1,500, employee salary $1,400 and utilities $500. 7. Collected $1,250 from a customer on account. 8. Declared and paid a dividend of $2,500 to the shareholders. 9. Paid $500 to the store from which it purchased $750 worth of supplies in transaction #3.

Question #3
A transaction caused a $10,000 decrease in both total assets and total liabilities. This transaction could have been: a. Purchase of a delivery truck for $10,000 cash b. An asset with a cost of $10,000 was destroyed by fire c. Repayment of a $10,000 bank loan d. Collection of a $10,000 account receivable

Posting from Journal to Ledger


The journal is a chronological record of all transactions listed by date. The ledger is a grouping of all the accounts; it shows their balances. Data must be copied to the ledger a process called posting.

Posting from Journal to Ledger


Cash Individual asset accounts All individual accounts combined make up the ledger. Ledger Individual liability accounts

Accounts Payable Common shares

Individual shareholders equity accounts

Posting from Journal to Ledger


Journal Entry Accounts and Explanation Cash Common shares Issued common shares Posting to the Ledger Cash 70,000 Common shares 70,000 Debit 70,000 Credit 70,000

Account in Three-Column Format


Account: Cash Date 2005 May 2 Item Debit 70,000 Credit Account No. 101 Balance 70,000 Dr.

Flow of Accounting Data

Transaction Occurs

Transaction Analyzed

Transaction Entered in the Journal

Amounts Posted to the Ledger

Accounts After Posting


ASSETS
(1) (4) (7) Bal. (5) Bal. (3) Bal. (2) Bal. 70,000 6,750 1,250 21,600 Cash (2) (6) (8) (9) 50,000 3,400 2,500 500

=
(9)

LIABILITIES
Accounts Payable 500 (3) Bal. 750 250

Accounts Receivable 4,200 (7) 1,250 2,950 Office Supplies 750 750 Land 50,000 50,000

Accounts After Posting


+
Common Shares (1) 70,000 Bal. 70,000

SHAREHOLDERS EQUITY
(8) Bal.

Dividends 2,500 2,500

REVENUE
Service Revenue (4) (5) Bal. 6,750 4,200 10,950 (6) Bal. (6) Bal. (6) Bal.

EXPENSES
Rent Expense 1,500 1,500 Salary Expense 1,400 1,400 Utilities Expense 500 500

Learning Objective 4 Use a trial balance.

Trial Balance

A trial balance lists all accounts with their balances assets first, followed by liabilities, and then shareholders equity.

DEBITS

CREDITS

Falk Consulting Inc. Trial Balance May 31, 2010


Account Cash Accounts Receivable Office supplies Land Accounts payable Common shares Retained earnings, May 1 Dividends Revenue Rent expense Salary expense Utilities expense Totals Debit $21,600 2,950 750 50,000 Credit

$ 2,500

250 70,000 -010,950

1,500 1,400 500 $81,200

_______ $81,200

Which of the following errors is detected by preparing a trial balance: a. Recording a cash sale with a debit to Accounts receivable and a credit to Sales Revenue b. Recording of a payment on an electric bill with a debit to Delivery Trucks and a credit to Common stock c. Recording a credit purchase of tools with a debit to Equipment and a debit to Accounts payable d. Recording the cash sale of unused land with a debit to Cash and a credit to Accounts payable

Question #4

How to Measure Results of Operations and Financial Position


Has a transaction occurred? Where to record it? How to record it Where to store all the info? Where to list all accounts? Where to report the results? Operations? Financial position? Yes, if it affects the financial position and can be recorded In the journal Rules of debit and credit General ledger Trial balance Income statement (R-E) Balance sheet (A=L+OE)

Learning Objective 5

Analyze transactions using only T-accounts

Quick Decision Making


Managers may make decisions without financial statements Examples: Can they afford to buy more equipment? How much cash do they have available to pay dividends? Look at the cash account

End of Chapter 2