Financial Accounting:
Tools for Business Decision Making, 4th Ed.
Kimmel, Weygandt, Kieso
CHAPTER 3
Bob Anderson, UCSB 2004
3-1
Chapter 3
The Accounting Information System
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
Analyze the effect of business transactions on the
basic accounting equation.
Explain what an account is and how it helps in the
recording process.
Define debits and credits and explain how they are
used to record business transactions.
Identify the basic steps in the recording process.
Bob Anderson, UCSB 2004
3-2
Chapter 3
The Accounting Information System
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Explain what a journal is and how it helps in the
recording process.
Explain what a ledger is and how it helps in the
recording process.
Explain what posting is and how it helps in the
recording process.
Explain the purposes of a trial balance.
Bob Anderson, UCSB 2004
3-3
External and Internal Events
External Event – interaction between a business and
its environment.
Internal Event – event occurring entirely within a
business.
Transaction – any event that is recognized in a set of
financial statements.
RECOGNIZED- An accounting entry is recorded… it
becomes reflected in the financial statements.
REALIZED- regardless of whether it results in an
accounting entry, the business actually receives or
gives something.
Bob Anderson, UCSB 2004
3-4
Exercise – Types of Events
External
1.
Internal
A supplier of a company‘s raw material is paid
an amount owed on account.
2. A customer pays its open account.
3. A new chief executive officer is hired.
Not Recorded
External
External
Not Recorded
4. The biweekly payroll is paid.
External
5. Raw materials are entered into production.
Internal
6. A new advertising agency is hired.
7. The accountant determines the federal income
taxes owed based on the income earned.
Bob Anderson, UCSB 2004
Not Recorded
Internal
3-5
Source Documents
Source Document – a piece of paper that is used as
evidence to record a transaction.
Sales invoice
Payroll timecard
Utility bill
Stock certificate
Promissory note (note payable)
Payment
terms are
2/10, n/30
NOTE: Not all recordable events are
supported by a standard source
document.
Bob Anderson, UCSB 2004
3-6
Exercise – Source Documents
1.
Utilities expense for the month is
recorded.
2. A cash settlement is received from a
pending lawsuit.
3. Owners contribute cash to start a new
corporation.
4. The biweekly payroll is paid.
5. Cash sales for the day are recorded.
6. Equipment is acquired on a 30-day open
account.
7. A sale is made on open account.
8. A building is acquired by signing an
agreement to repay a stated amount
plus interest in six months.
Bob Anderson, UCSB 2004
Purchase invoice
Sales invoice
Cash register tape
Time cards
Promissory note
Stock certificates
Monthly utility
statement
Other/ or- No
source document
normally available
3-7
Effect on the Accounting Equation
Assets = Liabilities + Equity
Assets - Liabilities = Equity
Assets - Liabilities = Net Assets
Net Assets = Equity
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.
Bob Anderson, UCSB 2004
3-8
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
July 3,
2004
$
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
$
298
1,929
2,779
400
5,746
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
$
$
Describe the qualitative characteristics of accounting information.
Bob Anderson, UCSB 2004
3-9
Chart of Accounts
Chart of Accounts
Acct. No.
100
105
110
130
200
220
300
330
400
500
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.
Bob Anderson, UCSB 2004
3-10
FINALLY- DEBITS AND CREDITS
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.
CRUTCH:
ASSETS & LIABILITIES: DEBIT GOOD, CREDIT BAD
EQUITY & INCOME: OPPOSITE (DEBIT BAD, CREDIT GOOD)
MORE: ASSETS AND EXPENSES ARE DEBITS
LIABILITIES, EQUITY AND REVENUES ARE
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.
Bob Anderson, UCSB 2004
3-11
Graphic debits and credits (GENERALLY)
Balance Sheet
Income Statement
2004
Assets:
DEBITS
2004
Revenues
& Gains:
CREDITS
Liabilities:
CREDITS
Equity:
CREDITS
Expenses
& Losses:
DEBITS
Bob Anderson, UCSB 2004
3-12
ANOTHER CRUTCH
“Debit” Card- comes from your checking
account, which is an ASSET.
“Credit” Card- creates a LIABILITY.
DEBIT- ASSET
CREDIT- LIABILITY
Bob Anderson, UCSB 2004
3-13
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
Bob Anderson, UCSB 2004
3-14
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
Bob Anderson, UCSB 2004
3-15
Debits and Credits
Balance Sheet
Asset = Liab. + Equity
Income Stmt.
Rev. - Exp. =
Debit
Credit
Bob Anderson, UCSB 2004
3-16
DEBITS AND CREDITS- POSTING
We need to write a transaction in a
format that can be communicated /
input. We use a journal entry:
DEBITS ON THE LEFT
CREDITS ON THE RIGHT
Bob Anderson, UCSB 2004
3-17
ACCOUNTING EQUATION- JOURNAL ENTRIES
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
Bob Anderson, UCSB 2004
3-18
ACCOUNTING EQUATION- JOURNAL ENTRIES
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
HOW IS THIS EXPRESSED IN A JOURNAL ENTRY?
ACCOUNT
DEBIT/ DR. CREDIT/ (CR)
Building
$150,000
Note payable
$150,000
Bob Anderson, UCSB 2004
3-19
HOW TO LEARN DEBITS AND CREDITS
There is no way to teach it and no way to learn it other than by:
PRACTICE!!!!!
PRACTICE!!!!!
PRACTICE!!!!!
PRACTICE!!!!!
Bob Anderson, UCSB 2004
3-20
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
HOW IS THIS EXPRESSED IN A JOURNAL ENTRY?
ACCOUNT
DEBIT/ DR. CREDIT/ (CR)
Inventory
$60,000
Accounts payable
$60,000
Bob Anderson, UCSB 2004
3-21
BY THE WAY
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:
NOTHING- IT IS ONLY A CONVENTION TO LIST THE
DEBITS FIRST!
Bob Anderson, UCSB 2004
3-22
ACCOUNTING EQUATION- JOURNAL ENTRIES
On Jan. 20th, sold inventory costing $30,000, for
$75,000 on account.
Did we “earn” the revenue?
Yes- SALES INCREASE $75,000
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
HOW IS THIS EXPRESSED IN A JOURNAL ENTRY?
DEBIT/ DR.
CREDIT/ (CR)
$75,000
$75,000
$30,000
$30,000
Bob Anderson, UCSB 2004
3-23
ACCOUNTING EQUATION- JOURNAL ENTRIES
On Jan. 29th, received $40,000 cash from customers who
purchased goods on account.
SHOULD THIS IMPACT THE INCOME STATEMENT?
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
HOW IS THIS EXPRESSED IN A JOURNAL ENTRY?
ACCOUNT
DEBIT/ DR.
CREDIT/ (CR)
Cash
$40,000
Accounts receivable
$40,000
Bob Anderson, UCSB 2004
3-24
Additional Terms
General Ledger – a file that contains the activity of all
the accounts.
T Account – a format
Account Name
used to illustrate the
increases, decreases
and resulting total
balance for each
account.
Debit / Dr.
Credit / Cr.
Slide
JE-4
Copyright
Bob Anderson, UCSB 2004
©
2003 by Coby Harmon
3-25
Account Name
Debit / Dr.
Credit / Cr.
(T Account illustration with excel)
Bob Anderson, UCSB 2004
3-26
Assets
Debit / Dr.
Credit / Cr.
“NORMAL”- DEBIT
Bob Anderson, UCSB 2004
3-27
Liabilities
Debit / Dr.
Credit / Cr.
“NORMAL”- CREDIT
Bob Anderson, UCSB 2004
3-28
Equity
Debit / Dr.
Credit / Cr.
“NORMAL”- CREDIT
Bob Anderson, UCSB 2004
3-29
Revenue
Debit / Dr.
Credit / Cr.
“NORMAL”- CREDIT
Bob Anderson, UCSB 2004
3-30
Expense
Debit / Dr.
Credit / Cr.
“NORMAL”- DEBIT
Bob Anderson, UCSB 2004
3-31
REMEMBER THIS SLIDE FROM BEFORE?
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
WHAT WOULD THIS LOOK
LIKE IN THE T-ACCOUNTS?
Bob Anderson, UCSB 2004
3-32
ENTRY POSTED TO T-ACCOUNTS
ACCOUNT
Cash
Common Stock
DEBIT/ DR.
$100,000
CREDIT/ (CR)
$100,000
CASH
DEBIT
CREDIT
COMMON STOCK
DEBIT
CREDIT
$100,000
$100,000
$100,000
$100,000
Bob Anderson, UCSB 2004
3-33
The Journal
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
Jan.
3
Account Title
Cash
Common stock
10
Building
Ref.
Debit
100
100,000
300
130
Note payable
Credit
100,000
150,000
220
Bob Anderson, UCSB 2004
150,000
3-34
Posting
Posting – the process of transferring amounts from the
journal to the ledger accounts.
General Journal
Date
Jan. 3
GJ1
Account Title
Ref.
Cash
Debit
100,000
Common stock
General Ledger
Date
Credit
100,000
Cash
Explanation
Acct. No. 100
Ref.
Debit
Credit
Bob Anderson, UCSB 2004
Balance
3-35
Trial Balance
Trial Balance – a list of each account and its balance;
used to prove equality of debits and credits.
Acct. No.
100
105
110
130
200
220
300
330
400
500
LO 7
Account
Cash
Accounts receivable
Inventory
Building
Accounts payable
Note payable
Common stock
Retained earnings
Sales
Cost of goods sold
Debit
Credit
140,000
35,000
30,000
150,000
60,000
150,000
100,000
75,000
30,000
385,000
Explain the purposes of a trial balance.
Bob Anderson, UCSB 2004
385,000
3-36
Event 9 – Hiring of New
Employees
Oct. 9 – Sierra hired four new
employees to begin work on Oct. 15.
Accounting transaction has
NOT occurred!
Bob Anderson, UCSB 2004
3-37
4
11
Basic Steps in the
Recording Process.
1.Analyze
2.Journalize
3.Post
Bob Anderson, UCSB 2004
3-38