Financial Accounting: Chapter 3 - UCSB's Department of

Financial Accounting:

Chapter 3

Tools for Business Decision Making, 4th Ed.

The Accounting Information System

Kimmel, Weygandt, Kieso



CHAPTER 3



Bob Anderson, UCSB 2004

Analyze the effect of business transactions on the basic accounting equation. Explain what an account is, then apply debits and credits to those accounts (journal entries)

3-1

External and Internal Events

Exercise – Types of Events

External Event – interaction between a business and

External

its environment.

1.

Internal Event – event occurring entirely within a business.

Internal

A supplier of a company‘s raw material is paid an amount owed on account.

2. A customer pays its open account.

Transaction – any event that is recognized in a set of

3. A new chief executive officer is hired.

financial statements.

RECOGNIZED- An accounting entry is recorded… it becomes reflected in the financial statements.

External External Not Recorded External

5. Raw materials are entered into production.

Internal

7. The accountant determines the federal income taxes owed based on the income earned. 3-3

Not Recorded

4. The biweekly payroll is paid.

6. A new advertising agency is hired.

REALIZED- regardless of whether it results in an accounting entry, the business actually receives or gives something. Bob Anderson, UCSB 2004

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Not Recorded Internal 3-4

Effect on the Accounting Equation

Source Documents Source Document – a piece of paper that is used as

Assets = Liabilities + Equity

evidence to record a transaction. Sales invoice

Assets - Liabilities = Equity

Payroll timecard

Assets - Liabilities = Net Assets

Utility bill Stock certificate Promissory note (note payable)

Net Assets = Equity

Payment terms are 2/10, n/30

The accounting equation is made up of “Accounts.” An account is a record used to accumulate amounts for each individual asset, liability, equity, revenue, and expense.

NOTE: Not all recordable events are supported by a standard source document. 3-5


Sara Lee Corp. – Assets Accounts Consolidated Balance Sheets Dollars in millions except share data

Assets Cash and equivalents Trade accounts receivable, less allowances of $184 in 2004, $181 in 2003 and $176 in 2002 Inventories Other current assets Net assets held for sale Total current assets Other noncurrent assets Deferred tax asset Property, plant, and equipment Land Buildings and improvements Machinery and equipment Construction in progress Accumulated depreciation Property, net Trademarks and other identifiable intangibles, net Goodwill Total assets

LO 2

$

638

June 28, 2003 $

942

June 29, 2002 $

1,857 2,704 378 1 5,882

1,768 2,509 341 7 4,923

153 275

284 437

192 4

155 2,052 5,087 283 7,577 4,306 3,271 2,024 3,414 14,883

202 1,915 4,917 291 7,325 3,975 3,350 2,110 3,387 15,450

176 1,744 4,299 320 6,539 3,384 3,155 2,106 3,314 13,694

$

$

Chart of Accounts Acct. No. 100 105 110 130 200 220 300 330 400 500

298

1,929 2,779 400 5,746

Describe the qualitative characteristics of accounting information.


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Chart of Accounts

July 3, 2004

$


3-7

LO 3

Account Cash Accounts receivable Inventory Building Accounts payable Note payable Common stock Retained earnings Sales Cost of goods sold

Analyze the effects of transactions on the accounting equation.


3-8

FINALLY- DEBITS AND CREDITS

Graphic debits and credits (GENERALLY)

Rule number one: forget the concept of “credit” to your account that you are probably familiar with. If your bank charges you a late fee, you complain and they reverse it, you THINK that is a credit to your account. BUT, as you will see, on YOUR books, the adjustment is a DEBIT to your cash.

Balance Sheet Assets:

CRUTCH: ASSETS & LIABILITIES: DEBIT GOOD, CREDIT BAD EQUITY & INCOME: OPPOSITE (DEBIT BAD, CREDIT GOOD)

Income Statement 2004

DEBITS

2004

Revenues & Gains: CREDITS

Liabilities:

MORE: ASSETS AND EXPENSES ARE DEBITS

CREDITS

LIABILITIES, EQUITY AND REVENUES ARE CREDITS

Equity:

Expenses & Losses: DEBITS

CREDITS

OH YEAH, ONE OTHER THING: DEBITS ON THE LEFT, CREDITS ON THE RIGHT! REMEMBER FROM PRIOR CHAPTERS: “FOR EVERY ACTION THERE IS AN EQUAL AND OPPOSITE REACTION”… IN ACCOUNTING TERMS, FOR EVERY DEBIT, THERE IS A CREDIT. 3-9


ANOTHER CRUTCH

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Review

“Debit” Card- comes from your checking account, which is an ASSET. “Credit” Card- creates a LIABILITY. DEBIT- ASSET CREDIT- LIABILITY Bob Anderson, UCSB 2004


3-11

What is the normal balance for the following accounts? Debit Cash Credit Accounts Payable Debit Accounts Receivable Credit Service Revenue Common Stock Credit Debit Salaries Expense Bob Anderson, UCSB 2004

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Debits and Credits

Review

Balance Sheet

Asset = Liab. + Equity

What is the normal balance for the following accounts? Debit Dividends Debit Building Credit Taxes Payable Credit Unearned Revenus Prepaid Insurance Debit Debit Rent Expense Bob Anderson, UCSB 2004

Rev. - Exp. =

Debit

Credit

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DEBITS AND CREDITS- POSTING


3-14

ACCOUNTING EQUATION- JOURNAL ENTRIES

We need to write a transaction in a format that can be communicated / input. We use a journal entry:

On Jan. 3rd, sold common stock for $100,000 cash. What is the impact to common stock? INCREASE $100,000 What is the impact to cash? INCREASE $100,000 HOW IS THIS EXPRESSED IN A JOURNAL ENTRY? ACCOUNT DEBIT/ DR. CREDIT/ (CR) Cash $100,000 Common Stock $100,000

DEBITS ON THE LEFT CREDITS ON THE RIGHT


Income Stmt.

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3-16


HOW TO LEARN DEBITS AND CREDITS

On Jan. 10th, purchased a building by signing a $150,000 note payable.. What is the impact to Building (Fixed assets)? INCREASE $150,000 What is the impact to Notes Payable? INCREASE $150,000

There is no way to teach it and no way to learn it other than by:

PRACTICE!!!!! PRACTICE!!!!! PRACTICE!!!!! PRACTICE!!!!!

HOW IS THIS EXPRESSED IN A JOURNAL ENTRY? ACCOUNT DEBIT/ DR. CREDIT/ (CR) Building $150,000 Note payable $150,000


3-17

BY THE WAY

ACCOUNTING EQUATION- JOURNAL ENTRIES On Jan. 15th, purchased inventory on account for $60,000. What is the impact to Inventory? INCREASE $60,000 What is the impact to cash? NONE- PURCHASED ON ACCOUNT What is the impact to accounts payable? INCREASE $60,000

WHAT IS THE DIFFERENCE BETWEEN THESE ENTRIES: ACCOUNT DEBIT/ DR. CREDIT/ (CR) Inventory $60,000 Accounts payable $60,000 AND ACCOUNT Accounts payable Inventory

DEBIT/ DR.

CREDIT/ (CR) $60,000

$60,000 ANSWER:

HOW IS THIS EXPRESSED IN A JOURNAL ENTRY? ACCOUNT DEBIT/ DR. CREDIT/ (CR) Inventory $60,000 Accounts payable $60,000 Bob Anderson, UCSB 2004

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NOTHING- IT IS ONLY A CONVENTION TO LIST THE DEBITS FIRST! 3-19


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On Jan. 20th, sold inventory costing $30,000, for $75,000 on account. Did we “earn” the revenue?

SHOULD THIS IMPACT THE INCOME STATEMENT?

Yes- SALES INCREASE $75,000

NO! WE RECORDED THE SALE WHEN IT WAS EARNED, THIS ONLY REFLECTS A CHANGE FROM AN ACCOUNT RECEIVABLE TO CASH. What is the impact to sales? NONE What is the impact to accounts receivable? DECREASE $40,000 What is the impact to cash? INCREASE $40,000

Sold for cash or “on account” “ON ACCOUNT” ACCOUNTS RECEIVABLE INCREASE $75,000 What is the impact to Inventory? DECREASE $30,000 When we “Squeeze” Inventory from the Balance sheet to the income statement, where does it go (HAVE WE RECEIVED THE BENEFIT)? COGS $30,000 ACCOUNT Accounts receivable Sales Cost of goods sold Inventory

On Jan. 29th, received $40,000 cash from customers who purchased goods on account.

HOW IS THIS EXPRESSED IN A JOURNAL ENTRY? DEBIT/ DR. CREDIT/ (CR) ACCOUNT Cash $40,000 Accounts receivable $40,000

HOW IS THIS EXPRESSED IN A JOURNAL ENTRY? DEBIT/ DR. CREDIT/ (CR) $75,000 $75,000 $30,000 $30,000 3-21



3-22

Additional Terms

Account Name General Ledger – a file that contains the activity of all the accounts.

T Account – a format

Debit / Dr.

Credit / Cr.

Account Name

used to illustrate the increases, decreases and resulting total balance for each account.

Debit / Dr.

Credit / Cr.

Slide JE-4 Copyright


©

2003 by Coby Harmon

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(T Account illustration with excel) Bob Anderson, UCSB 2004

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Assets Debit / Dr.

Liabilities

Credit / Cr.

Debit / Dr.

“NORMAL”- DEBIT

“NORMAL”- CREDIT


3-25

Equity Debit / Dr.

Credit / Cr.

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Revenue

Credit / Cr.

Debit / Dr.




Credit / Cr.


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3-28

REMEMBER THIS SLIDE FROM BEFORE?

Expense Debit / Dr.

On Jan. 3rd, sold common stock for $100,000 cash. What is the impact to common stock? INCREASE $100,000 What is the impact to cash? INCREASE $100,000

Credit / Cr.

HOW IS THIS EXPRESSED IN A JOURNAL ENTRY? DEBIT/ DR. CREDIT/ (CR) ACCOUNT Cash $100,000 Common Stock $100,000 “NORMAL”- DEBIT

WHAT WOULD THIS LOOK LIKE IN THE T-ACCOUNTS? 3-29


The Journal

ENTRY POSTED TO T-ACCOUNTS DEBIT/ DR. $100,000

ACCOUNT Cash Common Stock

CREDIT/ (CR) $100,000

General Journal – a chronological record of

transactions, also known as the book of original entry. What you record in the journal is known as a “Journal Entry.” Date

CASH DEBIT CREDIT

Jan.

COMMON STOCK DEBIT CREDIT

3

Account Title Cash Common stock

$100,000

$100,000

10

Building

Ref.

Debit

100

100,000

300 130

Note payable

$100,000

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Credit 100,000

150,000

220

150,000

$100,000 Bob Anderson, UCSB 2004

3-31


3-32

Trial Balance

Posting Posting – the process of transferring amounts from the

Trial Balance – a list of each account and its balance;

journal to the ledger accounts. General Journal Date Jan. 3

Account Title

Ref.

Cash

Debit

Date

GJ1

Acct. No.

Credit

100 105 110 130 200 220 300 330 400 500

100,000

Common stock

General Ledger

used to prove equality of debits and credits.

100,000

Cash

Explanation

Acct. No. 100 Ref.

Debit

Credit

Balance


4

Event 9 – Hiring of New Employees

11

Debit

Credit

140,000 35,000 30,000 150,000 60,000 150,000 100,000 75,000 30,000 385,000

385,000

Explain the purposes of a trial balance.


3-34

Basic Steps in the Recording Process. 1.Analyze

Oct. 9 – Sierra hired four new employees to begin work on Oct. 15.

2.Journalize 3.Post

Accounting transaction has NOT occurred! Bob Anderson, UCSB 2004

LO 7

3-33

Account Cash Accounts receivable Inventory Building Accounts payable Note payable Common stock Retained earnings Sales Cost of goods sold

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Financial Accounting: Chapter 3 - UCSB's Department of

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