Unit
3
The Expanded Ledger and the
Income Statement
 The recording process continued!
NORMAL BALANCE

Every account classification has a normal
balance, whether it is a debit or credit.
Assets
Liabilities
Assets
Dr.
BAL
Cr.
=
Liabilities
Dr.
Cr.
BAL
Equity
+
Owner’s
Equity
Dr.
Cr.
BAL
NORMAL BALANCE — OWNER’S EQITY
Owner’s Equity
Decrease
Debit
Increase
Credit
Normal
Balance
EXPANDING THE LEDGER
Owner’s Equity:
Expands into
4
Separate accounts
Owner’s
Capital
Revenues
Dr.
Dr.
Cr.
Cr.
Cr.
Balance
Owner’s
Equity
Dr.
Balance
Owner’s
Drawings
Expenses
Dr.
Dr.
Cr.
Cr.
THE EXPANDED LEDGER
Assets
Assets
Dr.
+
Cr.
Owner’s Equity
Liabilities
Liabilities
Dr.
Cr.
+
Owner’s
Capital
Dr.
Cr.
+
Owner’s
Drawings
Dr.
+
Cr.
Revenues
Dr.
Cr.
+
Expenses
Dr. Cr.
+
Equity Section Summary
 There are four types of accounts in the equity section:
1.
2.
3.
4.
Capital
Revenue
Expenses
Drawings
Show the changes
in owner's equity
from one period to
the next.
 The new accounts in the equity section of the ledger have
one main purpose:
 to provide essential information about the progress
of the business.
 this information is needed by
managers and owners to see if the
business is being run profitably and to
help them make sound decisions
NORMAL BALANCE — OWNER’S CAPITAL
Owner’s Capital
Decrease
Debit
Increase
Credit
Normal
Balance
1. Capital: This account will now contain only the equity
figure at the beginning of the fiscal period,
plus new capital from the owner, if any.
NORMAL BALANCE — OWNER’S DRAWINGS
Owner’s Drawings
Increase
Debit
Decrease
Credit
Normal
Balance
2. Drawings: Decreases in equity resulting from the owner's
personal withdrawals. A drawings account
normally has a debit balance. Drawings
are not a factor when calculating
net income or loss.
NORMAL BALANCES —REVENUES
Revenues
Decrease Increase
Debit
Credit
Normal
Balance
3. Revenues: Increases in equity resulting from the sale
of goods or services. A revenue account
normally has a credit balance.
NORMAL BALANCES — EXPENSES
Expenses
Increase
Debit
Normal
Balance
Decrease
Credit
 4. Expenses: A decrease in equity resulting from the costs of
producing the revenue. An expense account
normally has a debit balance.
Rules of Debit and Credit for Revenue
and Expense Accounts
Owner's Equity
Debit
Decrease
Credit
Increase
Expenses
Debit
Increase
Revenue
Credit
Expenses Accounts
Debit
Increase
Credit
Expenses are recorded as debits
Because expenses decrease equity
Debit
Credit
Increase
Revenue Accounts
Debit
Credit
Increase
Revenue is recorded as a credit
because revenue increases equity
THE EXPANDED LEDGER
The General Ledger
Type of Account
Use
Asset
Liability
Owner’s Equity - Capital
Preparation of balance
sheet
Drawings
Revenue
Expenses
Preparation of Income
Statement
New GAAP Rules
1. Revenue Recognition
2. The Time Period Concept
3. The Matching Principle
G.A.A.P
 To help guide the organization of these accounts and how they
are used accountants/bookkeepers turn to New GAAP policies
mentioned earlier
GAAP-The Revenue Recognition Convention
 The revenue recognition convention states that revenue
must be recorded in the accounts (recognized) at the time
the transaction is completed.
 It is important to take revenue into the accounts correctly.
 If this is not done, the income statements of the
company will be incorrect, and the readers of the
financial statements will be misinformed.
GAAP-The Time Period Concept
 The time period concept provides that accounting will take
place over specific time periods known as fiscal periods.
 Net income is measured over a specific length of time,
called the fiscal period. The fiscal period (also called the
accounting period) is the period of time over which earnings
are measured.
 These fiscal periods are of equal length and are used when
measuring the financial progress of a business.
GAAP-The Matching Principle
 The matching principle states that each expense item
related to revenue earned must be recorded in the same
period as the revenue it helped to earn.
 Separating revenues and expenses into specific fiscal
periods challenges accountants to follow two important
steps.
 In step one, they must be careful to record the
proper amount of revenue in the proper period.
 In step two, they must subtract only those
expenses that helped earn the revenue they
recorded in step one.
Income Statement Accounts
Revenue and Expenses:
 are Income Statement accounts because they are
BOTH need in order to determine if there has
been an increase or decrease in the Owners Equity
 the income statement shows in a detailed way
whether the business is profitable or not.
 new equity accounts are organized to
show the net income (or net loss) of the
business for a given period of time.
THE INCOME STATEMENT
INCOME STATEMENT PREPARATION
The four steps followed in preparing an income statement are
described on the following pages.
 The three-line heading is centred at the top of the page
and is designed to provide information in this sequence:
 The income statement provides data for a given time period
(a week a month, a year),
 The balance sheet provides data on a specific date.
 The income statement loses its usefulness if the accounting
period is not specified.
 The revenue received from the business operations is listed
under the subheading Revenue.
 The largest revenue item is usually listed first.
 The revenue is totalled and the total is placed in the
right column as follows:
 The expense items are listed in the order in which they
appear in the ledger.
 Net Income is not cash.
 It is the difference between total revenues and total
expenses, if the revenues are greater than the expenses.
 In this case a net income is the result.
 A net loss occurs if the expenses are greater than the revenues.
Facts to Remember
For the income statement, dollar signs should be placed:
• beside the first figure in each column; and
• beside the net income or net loss figure at the bottom of the statement.
Cash
Land
Accounts
Payable
Advertising
Expense
Accounts
Receivable
Supplies
Building
Equipment
Bank Loan
Mortgage
Payable
Owner’s
Capital
Owner’s
Drawing
Sales
Fees Earned
Delivery
Expense
The General Ledger
Assets
Liabilities
Owner’s Equity
Revenue
Income
Statement
Hydro
Expense
Expense
Miscellaneous
Expense
Rent
Expense
Salaries
Expense
Balance
Sheet
Equity Accounts on the Balance
Sheet
 There are 3 scenarios for the Equity section on the Balance Sheet
1. Capital increases when withdrawals are less than net income
Owner’s Equity
Owner’s, Capital October 1
Add: Net Income for October
Less: Owner’s Drawings
Increase in Capital
Owner’s, Capital October 31
$20 000
$3 000
1 000
2 000
$22 000
2. Capital decreases when withdrawals are greater
than net income
Owner’s Equity
Owner’s, Capital October 1
Add: Net Income for October
Less: Owner’s Drawings
Decrease in Capital
Owner’s, Capital October 31
$22 000
$1 000
1 500
500
$21 500
3. Capital decreases when there is a loss and the owner
has withdrawn assets
Owner’s Equity
Owner’s, Capital October 1
Add: Net Loss for October
Less: Owner’s Drawings
Decrease in Capital
Owner’s, Capital October 31
$21 500
$ 500
800
1 300
$20 200