Financial Accounting: Tools for Business Decision Making, 4th Ed. Kimmel, Weygandt, Kieso CHAPTER 3 Prepared by Ellen L. Sweatt Georgia Perimeter College 1 Chapter 3 THE ACCOUNTING INFORMATION SYSTEM 2 Transaction Analysis Transaction Analysis: the process of identifying the specific effects of economic events on the accounting equation. Each transaction has a dual (double-sided) effect on the accounting equation. 3 The Accounting Information System The system of: •collecting and processing transaction data and •communicating financial information to decision makers. 4 1 11 Accounting Transactions... are economic events that must be recorded in the financial statements because they affect assets, liabilities and/or stockholders’ equity. 5 Accounting Transactions... 6 Transaction Analysis • • • Transaction Analysis determines the impact of the transaction on the accounting equation. Assets Liabilities Stockholders’ Equity 7 Accounting Analysis... Analyze the effect of business transactions on the basic accounting equation: Assets = Liabilities + Stockholders’ Equity Must always balance. 8 Transaction Analysis Two or more items can be affected Example: purchase computer for $10,000 by paying $6,000 in cash and signing a note for $4,000 9 Let’s Practice! Let’s practice transaction analysis with Sierra Corporation. . . 10 Event 1 – Investment of Cash by Stockholders Oct. 1 - Owner invested $10,000 Cash in business in exchange for $10,000 of Sierra Corporation Common Stock 11 Event 2 – Note Issued in Exchange for Cash Oct. 1 – Sierra issued a 3-month, 12%, $5,000 Note Payable to Castle Bank in exchange for cash. 12 Event 3 – Purchase of Office Equipment for Cash Oct. 2 – Sierra acquired office equipment by paying $5,000 cash to Superior Sales Co. 13 Event 4 – Receipt of Cash in Advance from Customer Oct. 2 – Sierra received a $1,200 cash advance from R. Knox, a client. 14 Event 5 – Services Rendered for Cash Oct. 3 – Sierra received $10,000 in cash from Copa Co. for advertising services performed 15 Event 5 – Services Rendered, WHAT IF these were performed “on account”? Later, when $10,000 is collected from customer… 16 17 Event 6 – Payment of Rent Oct. 3 – Sierra paid its office rent for the month of October in cash, $900. 18 Event 7 – Purchase of Insurance Policy with Cash Oct. 4 – Sierra paid $600 for a one-year insurance policy that will expire next year on Sept. 30. 19 Event 8 – Purchase of Supplies on Credit Oct. 5 – Sierra purchases a three-month supply of advertising materials on account from Aero Supply for $2,500. 20 Event 9 – Hiring of New Employees Oct. 9 – Sierra hired four new employees to begin work on Oct. 15. Accounting transaction has NOT occurred! 21 Event 10 – Payment of Dividend Oct. 20 – Sierra paid a $500 dividend. 22 Event 11 – Payment of Cash for Employee Salaries Oct. 26 – Paid employees working two weeks, who have earned $4,000 in salaries. 23 Summary of Transactions Assets = Liabilities + Equity 24 2 11 The Account... An individual accounting record of increases and decreases in a specific Asset, Liability, or Stockholders’ Equity item. 25 The Account Three parts : 1) the Title of the account 2) a left or Debit side 3) a right or Credit side 26 3 11 Debits and Credits •Debit means left • thus, entry on left side is debiting • Credit means right • thus, entry on right side is crediting •Normal balance is the side the increase happens on. 27 Examples 28 Total the Entries to Each Side TITLE Debit Credit Total Debits Total Credits If the greater sum is on the left, the account has a Debit Balance 29 Total the Entries to Each Side TITLE Debit Credit Total Debits Total Credits If the greater sum is on the right, the account has a Credit Balance 30 Whichever side you increase is the normal balance! 31 Normal Balances for Assets and Liabilities 32 Normal Balances for Stockholders’ Equity 33 Normal Balances for Expenses and Revenues 34 Expansion of Basic Equation 35 Review What is the normal balance for the following accounts? Cash Debit Credit Accounts Payable Accounts Receivable Debit Service Revenue Credit Common Stock Credit Salaries Expense Debit 36 Review What is the normal balance for the following accounts? Dividends Debit Debit Building Taxes Payable Credit Unearned Revenus Credit Prepaid Insurance Debit Rent Expense Debit 37 4 11 Basic Steps in the Recording Process. 1.Analyze 2.Journalize 3.Post 38 5 11 Recording Process Step 1 Analyze each transaction and effect on accounts 39 The Journal... is an accounting record where the transactions are recorded in chronological order. 40 Recording Process Step 2 Enter transaction information in a journal, a process called journalizing 41 Recording Process Step 3 Transfer (post) the journal information to the appropriate accounts in the ledger 42 GENERAL JOURNAL Date Account Titles and Explanations 2007 Oct. 1 Cash Common Stock (Invested cash in business) 1 Cash Notes Payable (Issued 3-month, 12% note payable for cash) 2 Office Equipment Cash (Purchased office equipment for cash) Debit Credit 10,000 10,000 5,000 5,000 5,000 5,000 Let’s Review Using Sierra’s Transactions Cash Common Stock 10,000 10,000 What is the normal balance for the following accounts? Oct. 1 - Owner invested $10,000 Cash in business in exchange for $10,000 of Sierra Corporation Common Stock 52 44 Let’s Review Using Sierra’s Transactions Cash 5,000 Note Payable 5,000 Oct. 1 – Sierra issued a 3-month, 12%, $5,000 Note Payable to Castle Bank. 52 45 Let’s Review Using Sierra’s Transactions Office Equipment 5,000 Cash 10,000 5,000 5,000 Oct. 2 – Sierra acquired office equipment by paying $5,000 cash to Superior Sales Co. 52 46 6 11 The General Ledger 6 •the entire group of accounts maintained by a company •contains all the asset, liability, and stockholders’ equity accounts 47 Chart of Accounts... is a list of a company’s accounts. 48 The General Ledger 49 The General Ledger 50 The Ledger The entries from the journal are posted to the ledger,usually in summary form, except for the general journal. 51 7 11 Posting Transferring information from the journals to the general ledger accounts 52 Posting Entries GENERAL JOURNAL Account Titles and Explanations 2007 Oct. 1 Cash Common Stock 10,000 10,000 Account CASH Date ref debit Account COMMON STOCK Date ref debit credit Acct 1010 Balance debit credit credit Acct 3010 Balance debit credit Posting Entries GENERAL JOURNAL Account Titles and Explanations 2007 Oct. 1 Cash Common Stock 10,000 10,000 Account CASH Date Oct 1 ref gj 1 debit credit 10,000 Account COMMON STOCK Date ref debit Oct 1 gj 1 Acct 1010 Balance debit credit 10,000 Acct 3010 Balance credit debit credit 10,000 10,000 Posting Entries GENERAL JOURNAL Account Titles and Explanations 2007 Oct. 1 Cash Common Stock 10,000 10,000 Account CASH Date Oct 1 ref gj 1 debit credit 10,000 Account COMMON STOCK Date ref debit Oct 1 gj 1 Acct 1010 Balance debit credit 10,000 Acct 3010 Balance credit debit credit 10,000 10,000 8 11 Trial Balance A list of all the accounts and their balances at a given time. It serves to prove the mathematical equality of debits and credits after posting. It aids in the preparation of financial statements. 56 Sierra Corporation Trial Balance October 31, 2007 Cash Advertising Supplies Prepaid Insurance Office Equipment Notes Payable Accounts Payable Unearned Service Revenue Common Stock Dividends Service Revenue Salaries Expense Rent Expense Debit Credit $15,200 2,500 600 5,000 $ 5,000 2,500 1,200 10,000 500 10,000 4,000 900 $28,700 $28,700 Copyright © 2007 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that named in Section 117 of the United States Copyright Act without the express written consent of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. 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