A Review of
the Accounting
Cycle
2
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 cashbasis accounting.
3
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.
4
The purpose of this
chapter is to review the
basic steps of the
accounting process.
5
Double-Entry Accounting
A system of recording transactions in a way that
maintains the equality of the accounting
equation.
Assets = Liabilities + Owners’ Equity
or
A = L + OE
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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.
The Accounting Equation
with T-Accounts
Assets
= Liabilities
7
+ Owners’ Equity
DR
CR
DR
CR
DR
CR
+
-
-
+
-
+
8
How Accounts Affect Owners' Equity
Owners' Equity
DR
CR
+
Capital Stock
DR
CR
+
Expenses
DR
CR
+
-
Retained Earnings
DR
CR
+
Revenues
DR
CR
+
Dividends
DR
CR
+
-
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
10
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.
13
Page 1
Journal
Date
Jan
Description
1 Cash
Revenue
Received cash for
services provided.
4 Supplies
Accounts Payable
Purchased supplies
on account.
10 Accounts Payable
Cash
Paid for supplies.
Post
Ref. Debits
Credits
5
5
12
12
12
12
14
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.
15
Example: Journal Entry
Merchandise is sold to a customer on
Merchandise
is sold
a customer
on is
account for $75.
Thetocost
of the product
account
$75.theThe
cost entry.
of the product to
$60. for
Make
journal
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.
Chart of Accounts
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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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
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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.
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
Cash
Accounts Receivable
Inventory
Land
Accounts Payable
Capital Stock
Retained Earnings
Sales Revenue
Cost of Goods Sold
Advertising Expense
Misc. Expenses
Total
Debits
$ 21
15
12
200
20
Credits
$ 30
150
24
919
850
10
15
$ 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.
Three-Step Process for
Adjusting 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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25
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:
Adjusting Entry
12/31 Depreciation Expense--Buildings
7,800
Accumulated Depr.--Buildings
7,800
To record depreciation on
building at 5% per year.
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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.
Adjusting Entry
12/31 Doubtful Accounts Expense
1,100
Allowance for Doubtful Accounts
1,100
To adjust for estimated doubtful
accounts expense.
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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.
3/19 Allowance for Doubtful Accounts
Accounts Receivable
To write off an uncollectible
account.
150
150
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Example: Accrued Expenses
At the end of the fiscal period, Rosi, Inc.,
had accrued salaries and wages totaling
$2,150.
Adjusting Entry
12/31 Salaries and Wages Expense
Salaries Payable
To record accrued salaries and
wages.
2,150
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.
Adjusting Entry
12/31 Interest Receivable
Interest Revenue
To record accrued interest on a
note receivable.
250
250
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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.
Adjusting Entry
12/31 Insurance Expense
Prepaid Insurance
To record expired insurance.
4,200
4,200
$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
Unearned Rent Revenue
To record unearned rent revenue.
475
475
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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
Rent Revenue
To record rent revenue
($2,550 - $475).
2,075
2,075
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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
a rent revenue
Purchases,
Purchaseearns
Discounts,
and Costofof$500
in 19x8 but will not receive the payment until
Goods Sold are affected by the adjusting
January 10, 19x9. An adjustment will be
entry
to update
inventory
needed.
What the
is the
adjustingaccount.
entry?
Adjusting Entry
12/31 Inventory
6,000
Purchases Discounts
3,290
Cost of Goods Sold
153,310
$51,000
- $45,000
To close 162,500
Purchases
To adjust inventory, cost of
goods sold, and related
To close
accounts.
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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
Transactions
Prepare
Trial
Balance
Make
Adjusting
Entries
Prepare
Financial
Statements
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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.
37
The Closing Process
Revenues
xxx Bal. xxx
Retained Earnings
Beg. Bal. xxx
Revenues
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
Expenses
Expenses
Bal. xxx
xxx
Revenues
The expense account is
credited in order to close
the account at the end of
the period.
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The Closing Process
Retained Earnings
The dividends
account, which is
also nominal, is
credited to close
out the balance.
Beg. Bal. xxx
Expenses
Dividends
Dividends
Bal. xxx
xxx
Revenues
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The Closing Process
Retained Earnings
Retained Earnings
is a real account
and always carries
a balance.
Beg. Bal. xxx
Expenses
Dividends
Revenues
End. Bal. xxx
Net Income for the
period is determined
by these two entries.
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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 postclosing 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