1 Accumulating Accounting Data CHAPTER F7 © 2007 Pearson Custom Publishing

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AccumulatingAccumulating

Accounting DataAccounting Data

CHAPTER F7

© 2007 Pearson Custom © 2007 Pearson Custom PublishingPublishing

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Identify the eight Identify the eight steps of the steps of the

accounting cycle.accounting cycle.

Learning Objective 1


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The Accounting CycleThe Accounting Cycle The The accounting cycleaccounting cycle

consists of a series of consists of a series of steps repeated in each steps repeated in each accounting period that accounting period that enable the firm to enable the firm to analyze, record, classify, analyze, record, classify, and summarize the and summarize the transactions into financial transactions into financial statements.statements.

© 2007 Pearson Custom Publishing© 2007 Pearson Custom Publishing

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Steps of the CycleSteps of the Cycle Analyzing Analyzing

TransactionsTransactions Journalizing Journalizing

TransactionsTransactions Posting Transactions Posting Transactions

to the General Ledgerto the General Ledger Preparing a Trial Preparing a Trial

Balance or WorksheetBalance or Worksheet

Adjusting the Adjusting the AccountsAccounts

Preparing Financial Preparing Financial StatementsStatements

Preparing and Preparing and Posting Closing Posting Closing EntriesEntries

Preparing the Post-Preparing the Post-Closing Trial BalanceClosing Trial Balance


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Step 1: Analyzing Step 1: Analyzing TransactionsTransactions

Part One: Determine when aPart One: Determine when a transaction transaction occurs. A transaction is occurs. A transaction is any event that results in a change in any event that results in a change in the amount of an accounting element.the amount of an accounting element.

Part Two: Identify the nature of the Part Two: Identify the nature of the transaction. This entails determining transaction. This entails determining which which accounting elementsaccounting elements were were affected and by how much.affected and by how much.


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Step 2: Journalizing Step 2: Journalizing TransactionsTransactions

A A journaljournal is a book of original entry thatis a book of original entry that contains a chronological list of an entity’s contains a chronological list of an entity’s transactions. transactions.

A A special journalspecial journal records specific types of records specific types of transactions such as a sales, purchases, transactions such as a sales, purchases, cash receipts or cash payments.cash receipts or cash payments.

A A general journalgeneral journal records all transactions records all transactions not recorded in a special journal.not recorded in a special journal.


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Step 3: Posting to the Step 3: Posting to the LedgerLedger

A A ledgerledger contains all the accounts of a contains all the accounts of a firm. firm.

A A chart of accountschart of accounts is a list of all of the is a list of all of the accounts used by a company.accounts used by a company.

After transactions are entered in the After transactions are entered in the journal, the same information is then journal, the same information is then postedposted to the ledger accounts. The ledger to the ledger accounts. The ledger accounts indicate the current balance for accounts indicate the current balance for each account.each account.


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Step 4: Preparing a Trial Step 4: Preparing a Trial BalanceBalance

Periodically, usually weekly or monthly, a Periodically, usually weekly or monthly, a trial balancetrial balance is prepared. A trial balance is prepared. A trial balance is a listing of all ledger accounts and their is a listing of all ledger accounts and their balances.balances.

The trial balance verifies that the The trial balance verifies that the accounting equation is in balance.accounting equation is in balance.


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Using a WorksheetUsing a Worksheet Another option for step 4 of the cycle is to Another option for step 4 of the cycle is to

prepare a prepare a worksheet.worksheet. The worksheet is a The worksheet is a ten column worksheet which begins with ten column worksheet which begins with the trial balance.the trial balance.

A worksheet helps accountants examine A worksheet helps accountants examine the accounts, adjust the accounts, and the accounts, adjust the accounts, and gather the data to prepare the financial gather the data to prepare the financial statements. statements.


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Step 5: Adjusting the Step 5: Adjusting the AccountsAccounts

Some account balances require Some account balances require adjustmentadjustment at the end of the accounting period, before at the end of the accounting period, before the financial statements are prepared.the financial statements are prepared.

Adjustments are needed to ensure the proper Adjustments are needed to ensure the proper application of the revenue recognition and application of the revenue recognition and expense recognition rules. Many expense recognition rules. Many adjustments are accruals and deferrals adjustments are accruals and deferrals studied in Chapter Six. studied in Chapter Six.


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Reconciling the Bank Reconciling the Bank AccountAccount

Adjusting entriesAdjusting entries normally do not affect normally do not affect the cash account, except for one the cash account, except for one adjustment that is needed to change the adjustment that is needed to change the cash balance to the correct amount as of cash balance to the correct amount as of the end of the period.the end of the period.

A A bank reconciliationbank reconciliation is prepared to is prepared to determine the appropriate cash balance as determine the appropriate cash balance as part of the firm’s internal control structure.part of the firm’s internal control structure.


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Step 6: Preparing Step 6: Preparing Financial StatementsFinancial Statements

After all of the balances in the general After all of the balances in the general ledger accounts have been properly ledger accounts have been properly adjusted, the financial statements can be adjusted, the financial statements can be prepared.prepared.

The income statement is prepared first, The income statement is prepared first, then the statement of retained earnings (or then the statement of retained earnings (or owners’ equity), then the balance sheet.owners’ equity), then the balance sheet.


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Step 7: Preparing Step 7: Preparing Closing EntriesClosing Entries

Closing entriesClosing entries are prepared to reset the are prepared to reset the balance of balance of temporary temporary accounts to zero.accounts to zero.

Temporary (Temporary (or nominalor nominal) accounts include all ) accounts include all income statement accounts plus dividends or income statement accounts plus dividends or owner withdrawals. Temporary accounts are owner withdrawals. Temporary accounts are closed at the end of the period.closed at the end of the period.

Most balance sheet accounts areMost balance sheet accounts are permanent permanent (or (or realreal) accounts and are not closed. ) accounts and are not closed.


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Step 8: Preparing the Step 8: Preparing the Post-Closing Trial Post-Closing Trial

BalanceBalance After closing entries have been journalized After closing entries have been journalized

and posted, only the balance sheet and posted, only the balance sheet accounts should have a balance other accounts should have a balance other than zero.than zero.

A A post-closing trial balancepost-closing trial balance provides provides verification that the closing process was verification that the closing process was completed properly and also serves as a completed properly and also serves as a record of the beginning account balances record of the beginning account balances for the next accounting period.for the next accounting period.


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The Accounting The Accounting EquationEquation

An accounting system is based on the An accounting system is based on the following equation:following equation:

Assets = Liabilities + EquityAssets = Liabilities + Equity

If one side of the equation is changed, the If one side of the equation is changed, the other side must also change, this is the other side must also change, this is the basis of the basis of the double-entrydouble-entry system. system.


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Distinguish between Distinguish between debits and credits and debits and credits and

apply them to the apply them to the accounting equation.accounting equation.



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Debits and CreditsDebits and Credits

Two of the most familiar accounting terms Two of the most familiar accounting terms are are debits and credits.debits and credits. In the double- In the double-entry system, debits must always equal entry system, debits must always equal credits.credits.

Debit means the Debit means the leftleft side of the account side of the account and is abbreviated as DR.and is abbreviated as DR.

Credit means the Credit means the rightright side of the account side of the account and is abbreviated as CR.and is abbreviated as CR.


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Normal BalanceNormal Balance

Accounts have a normal balance. Accounts have a normal balance. Left = RightLeft = Right Assets = Liabilities + EquityAssets = Liabilities + Equity Debit = CreditDebit = Credit Remember there are five components of Remember there are five components of

equity which have differing normal equity which have differing normal balances.balances.


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Normal BalancesNormal Balances Assets = debitsAssets = debits Liabilities = creditsLiabilities = credits Owner’s contributions = creditsOwner’s contributions = credits Owner’s distributions = debitsOwner’s distributions = debits Revenues = creditsRevenues = credits Expenses = debitsExpenses = debits


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A DebitA Debit Increases assets.Increases assets. Decreases liabilities.Decreases liabilities. Decreases owner’s capital or capital stock Decreases owner’s capital or capital stock

accounts.accounts. Increases withdrawal or dividend Increases withdrawal or dividend

accounts.accounts. Decreases revenues or gains.Decreases revenues or gains. Increases expenses and losses.Increases expenses and losses.


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A CreditA Credit Decreases assets.Decreases assets. Increases liabilities.Increases liabilities. Increases owner’s capital or capital stock Increases owner’s capital or capital stock

accounts.accounts. Decreases withdrawal or dividend Decreases withdrawal or dividend

accounts.accounts. Increases revenues or gains.Increases revenues or gains. Decreases expenses and losses.Decreases expenses and losses.


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Describe accounts, Describe accounts, journals, ledgers, and journals, ledgers, and

worksheets.worksheets.



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The AccountThe Account Each accounting element is represented Each accounting element is represented

by a separate by a separate accountaccount. The following . The following information is required:information is required: Account name and numberAccount name and number Date of each transactionDate of each transaction Beginning balance for the periodBeginning balance for the period Each posted transaction from the journal Each posted transaction from the journal

including the date, reference, and amountincluding the date, reference, and amount Ending balance for the periodEnding balance for the period


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T-AccountsT-Accounts For illustration purposes, accountants will For illustration purposes, accountants will

often use a often use a T-accountT-account. A T-account is a . A T-account is a simplified version of the real account simplified version of the real account format used in the accounting records.format used in the accounting records.

In a T-account, you can see the effect of In a T-account, you can see the effect of various transactions on any particular various transactions on any particular account. Debits, credits, and balances account. Debits, credits, and balances can all be shown with clarity.can all be shown with clarity.

© © 20072007 Pearson Custom Publishing Pearson Custom Publishing

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Any Account

DEBIT(LeftSide)

CREDIT(RightSide)

T-Account FormatT-Account Format


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T-Accounts for T-Accounts for AssetsAssets

ANY ASSET

NORMALBALANCE

Debit Credit


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ANY LIABILITY

NORMALBALANCE

Credit

T-Accounts for T-Accounts for LiabilitiesLiabilities

Debit


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ANY OWNERS’ CONTRIBUTIONSOR CAPITAL STOCK

NORMALBALANCE

Credit

T-Accounts for Owner’s T-Accounts for Owner’s Contributions or Capital Contributions or Capital

StockStock

Debit


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ANY OWNERS’ WITHDRAWALSOR DIVIDENDS

NORMALBALANCE

Credit

T-Accounts for Owner’s T-Accounts for Owner’s Withdrawals or DividendsWithdrawals or Dividends

Debit


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ANY EXPENSEOR LOSS

NORMALBALANCE

Debit

ANY REVENUEOR GAIN

NORMALBALANCE

Credit

T-Accounts for Revenues/Gains T-Accounts for Revenues/Gains and Expenses/Lossesand Expenses/Losses

Credit Debit


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Summarizing theSummarizing theRules of Debits and Rules of Debits and

CreditsCredits NormalNormal

IncreaseIncrease DecreaseDecrease BalanceBalance

AssetsAssets DRDR CRCR DRDR

LiabilitiesLiabilities CRCR DRDR CRCR

Owners’ equityOwners’ equity CRCR DRDR CRCR

RevenuesRevenues CRCR DRDR CRCR

ExpensesExpenses DRDR CRCR DRDR


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Illustration Using T-Illustration Using T-AccountsAccounts

Let’s use T-accounts to analyze the Let’s use T-accounts to analyze the effect on the accounting elements of effect on the accounting elements of three basic business transactions.three basic business transactions.

In each case, we will:In each case, we will: Determine the accounts affectedDetermine the accounts affected Apply the rules of debits and creditsApply the rules of debits and credits Enter the appropriate amountEnter the appropriate amount


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Record transactions in Record transactions in journals and post them journals and post them to the general ledger.to the general ledger.



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Transaction #1Transaction #1

CASH COMMON STOCK

Record the initial sale of stock by a new corporation, 10,000 shares of no-par

stock at $10 per share.

100,000 100,000


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EQUIPMENT

The new corporation purchased equipment for $20,000 cash.

20,000 20,000

CASH


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SUPPLIES

The firm purchased supplies for $2,000 cash.

2,000 2,000

CASH


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Summary of the Cash Summary of the Cash AccountAccount

CASH

After the first three transactions, the cashaccount would look like this:

100,00020,000 2,000

balance 78,000


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Journal EntriesJournal Entries Remember that the T-accounts are for Remember that the T-accounts are for

illustration purposes only.illustration purposes only. Real accounting systems rely on Real accounting systems rely on journal journal

entriesentries and and ledger accounts.ledger accounts. Entries are made in a journal to formally Entries are made in a journal to formally

record each event for the company. Using record each event for the company. Using the same three transactions, the journal the same three transactions, the journal will look like the example on the next slide.will look like the example on the next slide.


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General Journal Page 1Date2007

DescriptionPostRef

Debit Credit

March 28 Cash 100,000 Common stock 100,000

Issued 10,000 shares of no-par stock

March 28 Equipment 20,000 Cash 20,000

Purchased office equipment

March 28 Supplies 2,000 Cash 2,000

Purchased office supplies


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Posting to the Posting to the LedgerLedger

After the journal entries are made, the After the journal entries are made, the debits and credits need to be debits and credits need to be postedposted to to the appropriate ledger accounts on a the appropriate ledger accounts on a periodic basis.periodic basis.

The next slide will show the result of The next slide will show the result of having posted the three transactions to the having posted the three transactions to the cash account.cash account.


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Cash General Ledger Cash General Ledger AccountAccount

Name of Account: CASHAccount No. : 100

Date Post Balance2007 Description Ref Debit Credit Debit Credit

Mar 28 Beginning balance -

Mar 28 Stock sale 100,000 100,000

Mar 28 Purchase equipment 20,000 80,000

Mar 28 Purchase supplies 2,000 78,000


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Compound Journal Compound Journal EntriesEntries


DescriptionPostRef

Debit Credit

March 30 Truck 25,000 Cash 5,000 Notes payable 20,000

Purchased delivery truck

Journal entries with more than two accounts affected Journal entries with more than two accounts affected are called are called compound journal entriescompound journal entries. Assume we buy a . Assume we buy a $25,000 delivery truck with a $5,000 cash down $25,000 delivery truck with a $5,000 cash down payment.payment.


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Prepare trial balances Prepare trial balances

and worksheets.and worksheets.



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Trial BalanceTrial Balance Prepare a list of the entire general ledger Prepare a list of the entire general ledger

accounts with their corresponding debit or accounts with their corresponding debit or credit balances. credit balances.

Total each column of debits and credits. Total each column of debits and credits. The debit and credit totals should be The debit and credit totals should be

equal.equal.


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Trial BalanceTrial BalanceRussell Jones CompanyRussell Jones Company

Trial BalanceTrial Balance

December 31, 2007December 31, 2007

DebitsDebits CreditsCredits

CashCash $125,000$125,000

InventoryInventory 128,000 128,000

Accounts PayableAccounts Payable $ 90,000$ 90,000

Jones, CapitalJones, Capital 85,000 85,000

Jones, WithdrawalsJones, Withdrawals 45,000 45,000

RevenuesRevenues 200,000200,000

ExpensesExpenses 77,000 77,000

TotalTotal $$375,000375,000 $$375,000375,000


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Prepare adjusting Prepare adjusting journal entries and journal entries and

reconcile a bank reconcile a bank account.account.



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Adjusting EntriesAdjusting Entries As discussed in Chapter 6, there are As discussed in Chapter 6, there are

various accounts that require adjustment various accounts that require adjustment prior to the preparation of the financial prior to the preparation of the financial statements.statements.

Example of adjustments include: accrued Example of adjustments include: accrued interest expense or revenue, accrued interest expense or revenue, accrued wages, deferred service revenues, and the wages, deferred service revenues, and the like.like.

These adjustments must be journalized.These adjustments must be journalized.


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Along with the typical adjustments for Along with the typical adjustments for accruals, deferrals, and depreciation, the accruals, deferrals, and depreciation, the bank statement needs to be analyzed for bank statement needs to be analyzed for any additional adjustments.any additional adjustments.

Typically, the cash account needs to be Typically, the cash account needs to be adjusted and the amount of the adjustment adjusted and the amount of the adjustment is determined by preparing a is determined by preparing a bank bank reconciliation.reconciliation.

Bank ReconciliationBank Reconciliation


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Follow the steps as outlined on the bank Follow the steps as outlined on the bank reconciliation form.reconciliation form.

The bank statement balance is reconciled The bank statement balance is reconciled to a to a corrected bank balance.corrected bank balance.

The balance per books (from the cash The balance per books (from the cash account in the general ledger) is account in the general ledger) is reconciled to a reconciled to a corrected book balance.corrected book balance.

Both balances should be the same!Both balances should be the same!

Reconciling the Reconciling the Bank StatementBank Statement


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Bank Reconciliation - Top Bank Reconciliation - Top HalfHalf

Balance per Bank Statement (4/30/07) 3,625.25$

Add: Deposits in Transit4/29 450.00$ 4/30 320.90 770.90

Deduct Checks Outstanding#1087 115.00$ #1088 65.50 #1090 24.90 #1092 215.75 (421.15)

Corrected Bank Balance (4/30/07) 3,975.00$


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Bank Reconciliation - Bottom Bank Reconciliation - Bottom HalfHalf

Balance per Books (4/30/07) 3,994.28$

Add: Credit memo: interest earned 65.75$ Credit memo: deposit error 22.22 87.97

Deduct:Debit memo: NSF check 88.50$ Monthly service charge 18.75 (107.25)

Corrected Book Balance (4/30/07) 3,975.00$


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Prepare financial Prepare financial statements from a statements from a

worksheet.worksheet.



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Preparing Financial Preparing Financial StatementsStatements

After all accounts have been adjusted, the After all accounts have been adjusted, the financial statements can be prepared.financial statements can be prepared.

At this point, you should be able to At this point, you should be able to prepare the three financial statements prepare the three financial statements shown in Chapter 6:shown in Chapter 6: (1) the income statement, (1) the income statement, (2) the statement of owner’s (stockholders’) (2) the statement of owner’s (stockholders’)

equity, and equity, and (3) the balance sheet.(3) the balance sheet.


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Prepare closing Prepare closing

journal entries.journal entries.



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Closing the Closing the AccountsAccounts

After the year-end financial After the year-end financial statements have been prepared, statements have been prepared, the temporary (or nominal) the temporary (or nominal) accounts are closed. Closing an accounts are closed. Closing an account means that the account account means that the account will have a zero balance after the will have a zero balance after the entry is journalized and posted.entry is journalized and posted.


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Closing the Closing the AccountsAccounts

Balance sheet accounts (permanent or Balance sheet accounts (permanent or real accounts) are not closed, their real accounts) are not closed, their ending balance becomes the beginning ending balance becomes the beginning balance for the next period.balance for the next period.


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Preparing Closing Preparing Closing EntriesEntries

There are four There are four closing entries:closing entries: Close all revenue accounts to Income Close all revenue accounts to Income

SummarySummary Close all expense accounts to Income Close all expense accounts to Income

SummarySummary Close Dividends to Retained Earnings, or Close Dividends to Retained Earnings, or

close Withdrawals to the Owners’ Capital close Withdrawals to the Owners’ Capital account(s)account(s)

Close Income Summary to Retained Earnings Close Income Summary to Retained Earnings or to the Owners’ Capitalor to the Owners’ Capital account(s) account(s)


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Trial Balance Before Trial Balance Before Closing EntriesClosing Entries

Russell Jones CompanyRussell Jones CompanyTrial BalanceTrial Balance

December 31, 2007December 31, 2007DebitsDebits CreditsCredits

CashCash $125,000$125,000InventoryInventory 128,000 128,000Accounts PayableAccounts Payable $ 90,000$ 90,000Jones, CapitalJones, Capital 85,000 85,000Jones, WithdrawalsJones, Withdrawals 45,000 45,000RevenuesRevenues 200,000200,000ExpensesExpenses 77,000 77,000 TotalTotal $$375,000375,000 $$375,000375,000


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DescriptionPostRef

Debit Credit

Dec 31 Revenues 200,000 Income Summary 200,000

To close the revenue accounts.

Dec 31 Income Summary 77,000 Expenses 77,000

To close the expense accounts.

Dec 31 Income Summary 123,000 Jones, Capital 123,000

To close income summary.

Dec 31 Jones, Capital 45,000 Jones, Withdrawals 45,000To close withdrawals.


Preparing the Closing Entries

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Prepare a post-closing Prepare a post-closing

trial balance.trial balance.



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Post-Closing Trial Post-Closing Trial BalanceBalance

The final step in the accounting cycle is to The final step in the accounting cycle is to prepare a post-closing trial balance.prepare a post-closing trial balance.

Since the nominal accounts have all been Since the nominal accounts have all been closed, only the real accounts will appear closed, only the real accounts will appear in the post-closing trial balance.in the post-closing trial balance.

These account balances also serve as the These account balances also serve as the opening balances for the next accounting opening balances for the next accounting period.period.


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Post-Closing Trial Post-Closing Trial BalanceBalanceRussell Jones CompanyRussell Jones Company

Post-Closing Trial BalancePost-Closing Trial Balance

December 31, 2007December 31, 2007

DebitsDebits Credits Credits

CashCash $125,000$125,000

InventoryInventory 128,000128,000

Accounts PayableAccounts Payable $ 90,000$ 90,000

Jones, CapitalJones, Capital 163,000163,000

TotalTotal $$253,000253,000 $$253,000253,000


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The End


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1 Accumulating Accounting Data CHAPTER F7 © 2007 Pearson Custom Publishing