A Review of the Accounting Cycle

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A Review of the Accounting Cycle
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Learning Objectives

• Identify and explain the basic steps in the
  accounting process (accounting cycle).
• Analyze transactions and make and post journal
  entries.
• Make adjusting entries, produce financial
  statements, and close nominal accounts.
• Distinguish between accrual and cash-basis
  accounting.

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Learning Objectives

• Discuss the importance and expanding role of
  computers to the accounting process.

EXPANDED MATERIAL

• Use special journals and subsidiary ledgers to
  process accounting information more efficiently
  and to provide additional useful information.

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The purpose of this chapter is to review the
basic steps of the accounting process.
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Double-Entry Accounting
A system of recording transactions in a way that
maintains the equality of the accounting
equation.
Assets Liabilities Owners Equity
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Double-Entry Accounting Facts

• For every transaction, there must be at least one
  debit and one credit.
• Debits must always equal credits for each
  transaction.
• Debits are always entered on the left side of an
  account and credits are always entered on the
  right side.

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The Accounting Equation with T-Accounts
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How Accounts Affect Owners' Equity
Owners' Equity
DR
CR
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Journalizing

• Identify the accounts involved with an event or
  transaction.
• Determine whether each account increased or
  decreased.
• Determine the amount by which each account was
  affected.

This process is used whether the accounting is
being done manually or with a computer.
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1. Analyze Transactions and Business
Documents

• Transactions are the exchange of goods or
  services between entities, as well as other
  events that have an economic impact on a
  business.
• Business Documents are records that are evidence
  of transactions.

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2. Journalize Transactions

• A journal is an accounting record in which
  business transactions are entered in
  chronological order.
• Journal entries record transaction information
  debits equal credits.

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Journal Entries

• A journal is an accounting record in which
  business transactions are entered in
  chronological order.
• Journal entries record transaction information
  debits equal credits.

General Journal Entry Format Date Debit
Entry.................................. xx
Credit Entry.............................
xx Explanation.
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Journal
Page 1
Date
Description
Debits
Credits
Jan 1 Cash 5 Revenue 5 Received cash
for services provided.
4 Supplies 12 Accounts Payable 12 Purchased
supplies on account. 10 Accounts
Payable 12 Cash 12 Paid for supplies.
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Example Journal Entry
Merchandise is sold to a customer on account for
75. The cost of the product to the firm is 60.
Make the journal entry.
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Example Journal Entry
Merchandise is sold to a customer on account for
75. The cost of the product is 60. Make the
journal entry.
Merchandise is sold to a customer on account for
75. The cost of the product to the firm is 60.
Make the journal entry.
Jan. 1 Accounts Receivable.....................
75 Sales Revenue......................
.... 75 Sold merchandise on
account.
1 Cost of Goods Sold......................
60 Inventory........................
......... 60 To record cost and
reduce inventory.
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3. Post Journal Entries to Accounts

• Posting is the process of transferring amounts
  from the journal to the general ledger.
• A ledger is a book of accounts in which data from
  transactions recorded in the journals are posted,
  classified, and summarized.
• A chart of accounts lists all accounts used by
  the company.

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Chart of Accounts
Long-Term Liabilities (220-239) 222 Mortgage
Payable OWNERS EQUITY (300-399) 301 Capital
Stock 330 Retained Earnings SALES (400-499) 400
Sales Revenue EXPENSES (500-599) 500 Cost of
Goods Sold 523 Rent Expense 528 Advertising
Expense 573 Utility Expense
ASSETS (100-199) Current Assets (100-150) 101
Cash 105 Accounts Receivable 107
Inventory Long-Term Assets (151-199) 151
Land 152 Building LIABILITIES (200-299) Current
Liabilities (200-219) 201 Notes Payable 202
Accounts Payable
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The Reporting Phase

• A trial balance is prepared.
• Adjusting entries are recorded.
• Financial statements are prepared.
• Closing entries are made.
• Post-closing trial balance may be taken.

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4. Determine Account Balances and Prepare a
Trial Balance

• Determine the account balance for each T-Account.
• A Trial Balance is a listing of all account
  balances. It provides a means to assure that
  debits equal credits.

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XYZ Company Trial Balance December 31, 2002

Debits
Credits Cash 21 Accounts Receivable
15 Inventory 12 Land 200 Accounts
Payable 30 Capital Stock
150 Retained Earnings 24 Sales Revenue
919 Cost of Goods Sold 850 Advertising
Expense 10 Misc. Expenses
15 ______ Total 1,123 1,123
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5. Adjusting Entries

• Adjusting entries are required at the end of
  each accounting period for accrual-basis
  accounting, prior to preparing the financial
  statements. The purpose for adjusting entries
  are to

• Bring balance sheet accounts current.
• Reflect proper amounts of revenues and expenses
  on the income statement.

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Tips Regarding Adjusting Entries

• Analytical Process. You must determine what
  original entry was made (if any) and what the
  ending balances should be before you know what
  adjusting entry to make. You cannot memorize
  adjusting entries.
• Adjusting entries always incorporate a balance
  sheet account and an income statement account.
• Adjusting entries never involve a cash account.

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Most Common Adjusting Entries

• Unrecorded Revenues--Revenues that have been
  earned but not yet recorded.
• Unearned Revenues--Revenues that have been
  recorded but not yet earned.
• Unrecorded Expenses--Expenses that have been
  incurred but not yet recorded.
• Prepaid Expenses--Expenses that have been
  recorded but not yet incurred.

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Three-Step Process forAdjusting Entries

• Identify the original entries that were made, if
  any. (Original entries are only made for
  unearned revenues and prepaid expenses.)
• Determine what the correct balances should be at
  this point in time.
• Make the adjustments needed to correct the
  balances.

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Example Depreciation
Rosi, Inc., purchased buildings in 1997 at a cost
of 156,000. Each year, 5 of the cost is
depreciated. At the end of 2002, the following
adjusting entry is made
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Example Doubtful Accounts
An estimation of bad debts based on the ending
receivables balance reveals that the allowance
account needs to be increased by 1,100.
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Example Doubtful Accounts
Later, assume on March 19 that a 150 receivable
is deemed to be uncollectible. Using the
allowance account, the uncollectible account is
written off the books.
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Example Accrued Expenses
At the end of the fiscal period, Rosi, Inc., had
accrued salaries and wages totaling 2,150.
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Example Accrued Revenues
Rosi, Inc., holds a note receivable from a
customer on which interest totaling 250 has
accrued.
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Example Prepaid Expenses
Rosi, Inc.s trial balance shows that the asset
account Prepaid Insurance has a balance of
8,000. By December 31, only 3,800 applies to
future periods.
8,000 - 3,800
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Example Deferred Revenues
Rosi, Inc., receives a payment of 2,550 from a
customer prior to the services being rendered.
By December 31, 2,075 in services have been
provided.
Original credit to a revenue account.
2,550 - 2,075
Adjusting Entry 12/31 Rent Revenue 475 Unear
ned Rent Revenue 475 To record unearned rent
revenue.
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Example Deferred Revenues
Rosi, Inc., receives a payment of 2,550 from a
customer prior to the services being rendered. By
December 31, 2,075 in services have been
provided.
Original credit to a liability account.
Adjusting Entry 12/31 Unearned Rent
Revenue 2,075 Rent Revenue 2,075 To record
rent revenue (2,550 - 475).
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Example Inventory
Refer to Rosi, Inc.s trial balance in this
chapter. Note that the firm has 45,000 in
inventory. The year-end count shows that 51,000
is on hand. Assume that the firm uses a periodic
system.
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Example Inventory
The XYZ Company earns a rent revenue of 500 in
19x8 but will not receive the payment until
January 10, 19x9. An adjustment will be needed.
What is the adjusting entry?
Purchases, Purchase Discounts, and Cost of Goods
Sold are affected by the adjusting entry to
update the inventory account.
Adjusting Entry 12/31 Inventory 6,000 Purchase
s Discounts 3,290 Cost of Goods
Sold 153,310 Purchases 162,500 To adjust
inventory, cost of goods sold, and related
accounts.
51,000 - 45,000
To close
To close
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6. Preparing Financial Statements

• After all transactions have been recorded, a
  trial balance prepared, and adjusting entries
  made, the financial statements are prepared.

Record Trans-actions
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7. The Closing Process

• Real accounts are permanent accounts not closed
  to a zero balance at the end of the accounting
  period. These accounts are carried forward to
  the next period.
• Nominal accounts are temporary accounts that are
  closed to a zero balance at the end of each
  accounting period.
• Closing entries reduce all nominal accounts to a
  zero balance.

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The Closing Process
Retained Earnings
Revenues
Beg. Bal. xxx Revenues
xxx
Bal. xxx
Since the revenue account is a nominal account,
it is closed at the end of the period to Retained
Earnings.
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The Closing Process
Retained Earnings
Beg. Bal. xxx Revenues
Expenses
Expenses
The expense account is credited in order to close
the account at the end of the period.
xxx
Bal. xxx
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The Closing Process
Retained Earnings
Beg. Bal. xxx Revenues
The dividends account, which is also nominal, is
credited to close out the balance.
Expenses
Dividends
xxx
Bal. xxx
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The Closing Process
Retained Earnings
Beg. Bal. xxx Revenues End.
Bal. xxx
Retained Earnings is a real account and always
carries a balance.
Expenses Dividends
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8. Post-Closing Trial Balance

• Provides a listing of all real account balances
  at the end of the closing balance.
• The trial balance assures that total debits equal
  total credits prior to the beginning of the new
  accounting period.
• Only real accounts will have a balance at this
  time.

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Example Post-Closing Trial Balance
Jim Brewster, Inc. Post-Closing Trial
Balance December 31, 2002 Debits Credits Cash
8,200 Accounts Receivable
4,000 Inventory 3,000 Supplies 1,000 Accounts
Payable 5,000 Capital Stock 10,000 Retained
Earnings 1,200 Totals 16,200 16,200
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Summary of the Accounting Cycle

• Analyze transactions and business documents.
• Journalize transactions.
• Post journal entries to accounts.
• Determine account balances and prepare a trial
  balance.
• Journalize and post adjusting entries.
• Prepare financial statements.
• Journalize and post closing entries.
• Balance the accounts and prepare a post-closing
  trial balance.

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Special Journals

• A special journal is a book for recording similar
  transactions that occur frequently.
• Sales Journal--A record where credit sales are
  recorded.
• Subsidiary Ledger--A grouping of individual
  accounts that equal the balance of a control
  account in the general ledger.

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Special Journals

• Voucher Register--A book of original entry which
  takes the place of a purchases journal and
  provides a record of all authorized payments to
  be made by check. Charges on each voucher are
  classified by the appropriate accounting in the
  financial records.
• Cash Receipts Journal--A record in which all cash
  received from sales, interest, rent, or other
  sources is recorded.
• Cash Disbursements Journal--A record of all
  checks issued during the period in payment of
  properly approved vouchers.

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The End