CHAPTER 1
Assets are the resources a business owns. Claims of those to whom the company owes money
(creditors) are called liabilities. Claims of owners are called equity.
This relationship is the basic accounting equation. Assets must equal the sum of liabilities
and equity. (ASSETS = LIABILITIES + EQUITY)
ASSETS
The business uses it assets in carrying out such activities as production and sales. The
common characteristic possessed by all assets is the capacity to provide future services or
benefits.
LIABILITIES
Liabilities are claims against assets – that is, existing debts and obligations. Businesses of all
sizes usually borrow money and purchase merchandise on credit. Examples;
- Campus Pizza, for instance, purchases cheese, sausage, flour, and beverages on credit
from suppliers. These obligations are called accounts payable.
- Campus Pizza also has a note payable to First National Bank for the money
borrowed to purchase the delivery truck.
- Campus Pizza may also have salaries and wages payable to employees and sales
and real estate taxes payable to the local government.
All of these persons or entities to whom Campus Pizza owes money are its creditors.
EQUITY
The ownership claim on total assets is equity. It is equal to total assets minus total liabilities.
Here is why: The assets of a business are claimed by either creditors or shareholders. To find
out what belongs to shareholders, we subtract creditors’ claims (the liabilities) from the
assets.
Equity generally consists of (1) share capital – ordinary and (2) retained earnings.
SHARE CAPITAL – ORDINARY
A corporation may obtain funds by selling ordinary shares to investors. Share capital –
Ordinary is the term used to describe the amounts paid in by shareholders for the ordinary
shares they purchase.
RETAINED EARNINGS
Retained earnings is determined by three items: revenues, expenses, and dividends.
REVENUES
Revenues are the gross increases in equity resulting from business activities entered into for
the purpose of earning income. Revenues usually result in an increase in an asset.
EXPENSES
Expenses are the cost of assets consumed or service used in the process of earning revenue.
They are decreases in equity that result from operating the business.
DIVIDENDS
Net income represents an increase in net assets which is then available to distribute to
shareholders. The distribution of cash or other assets to shareholders is called a dividend.
Dividends reduce retained earnings. However, dividends are not an expense.
Summary of Transactions
1. Each transaction must be analyzed in terms of its effect on:
(a) The three components of the basic accounting equation.
(b) Specific types (kinds) of items within each component.
2. The two sides of the equation must always be equal
3. The share capital – ordinary and retained earnings columns indicate the causes of
each change in the shareholders’ claim on assets.
Financial statements
Companies prepare four financial statements from the summarized accounting data:
1. An income statement presents the revenues and expenses and resulting net income or
net loss for a specific period of time.
2. A retained earnings statement summarizes the change in retained earnings for a
specific period of time.
3. A statement of financial position (sometimes referred to as a balance sheet) reports
the assets, liabilities, and equity of a company at a specific date.
4. A statement of cash flows summarizes information about the cash inflows (receipt)
and outflows (payment) for a specific period of time.
CHAPTER 2
An accounting is an individual accounting record of increases and decreases in a specific asset,
liabilities, or equity item. In its simplest from, an account consists of three parts: (1) a title, (2)
a left or debit side, and (3) a right or credit side as a T-account.
Journal Entries
Ledger (T Account)
Dr. ___________ xx
(Account name)
Cr. ____________ xx
Dr.
Cr.
Rules of debit and credit
Asset
Dr.
Liabilities
Cr.
Dr.
Expense
Dr.
Stockholder’s Equity
Cr.
Dr.
Nature
Debit side
Dividends
Dr.
Cr.
Cr.
Nature
credit side
Revenue
Cr.
Dr.
Cr.
Steps in the Recording Process
Three basic steps in the recording process:
1. Analyze each transaction for its effects on the accounts.
2. Enter the transaction information in a journal.
3. Transfer the journal in formation to appropriate accounts in the ledger.
The Journal -is referred to as the book of original entry. Entering transaction data in the journal is
known as journalizing. A complete entry consists of (1) the date of the transaction, (2) the
accounts and amounts to be debited and credited, and (3) a brief explanation of the transaction.
The Ledger –the entire group of accounts maintained by a company
The Trial balance –is a list of accounts and their balance at a given time. The steps for preparing
are (1) List the account titles and their balances, (2) Total the debit and credit columns, and (3)
Prove the equality of the two columns.
Example: A group of investors opened Laundromat Inc. on September 1, 2014.During the first
month of operations, the following transactions occurred.
Sept. 1 Shareholders invested $200000 cash in the business.
2 Paid $10000 cash for store rent for the month September.
3 Purchased washers and dryers for $250000, paying $100000 in cash and signing a $150000,
6 month, and 12% note payable.
4 Paid $ 12000 for a one year accident insurance policy.
10 Received a bill for advertising $2000.
20 Declared and paid a cash dividend to shareholders $7000.
30 Determined that cash receipts for laundry fees for the month were $62000.
The chart of accounts are cash(101),Accounts receivable(112),Supplies(126),Prepaid
Insurance(130),Equipment(157),Accumulated Depreciation-Equipment(158),Notes
Payable(200),Accounts Payable(201),Unearned service revenue(209),Salaries and wages
payable(212),Interest Payable(230),Share Capital-Ordinary(311),Retained
Earnings(320),Dividends(332),Income Summary(350),Service Revenue(400),Advertising
Expense(610),Supplies Expense(631),Depreciation Expense(711),Insurance Expense(722),Salaries
and wages Expense(726),Rent Expense(729),Utilities Expense(732),and Interest Expense(905).
General Journal
J1
Date
Account Titles and Explanation
2014
Sept.1 Cash
Share Capital-Ordinary
(Shareholders’ investment of cash in the
business)
2 Rent Expense
Cash
(Paid September rent)
3 Equipment
Cash
Note Payable
(Purchased laundry equipment for cash and
6 month ,12% note payable)
4 Prepaid Insurance
Cash
(Paid one year insurance policy)
10 Advertising Expense
Accounts Payable
(Received bill for advertising)
20 Dividends
Cash
(Declared and paid a cash dividend)
30 Cash
Service Revenue
(Received cash for services provided)
Ref.
Debit
101
311
200000
729
101
10000
157
101
200
250000
130
101
12000
610
201
2000
332
101
7000
101
400
62000
Credit
200000
10000
100000
150000
12000
2000
7000
62000
General Ledger
Cash
Ref.
Date Explanation
Debit
2014
Sep.1
J1
200000
2
J1
3
J1
4
J1
20
J1
30
J1
62000
Prepaid Insurance
Date Explanation Ref.
Debit
2014
Sep.4
J1
12000
Equipment
Date Explanation Ref.
Debit
2014
Sep.3
J1
250000
Credit
No.101
Balance
Credit
200000
190000
90000
78000
71000
133000
No.130
Balance
Credit
12000
No.157
Balance
10000
100000
12000
7000
250000
Date
2014
Sep.3
Date
2014
Sep.10
Date
2014
Sep.1
Date
2014
Sep.30
Notes Payable
Explanation Ref.
Debit
J1
Accounts Payable
Explanation Ref.
Debit
J1
Share Capital-Ordinary
Explanation Ref.
Debit
J1
Service Revenue
Explanation Ref.
Debit
J1
Credit
150000
No.200
Balance
Credit
150000
No.201
Balance
2000
2000
Credit
No.311
Balance
200000
Credit
200000
No.400
Balance
62000
62000
Date
Dividends
Explanation Ref.
Debit
Credit
No.332
Balance
2014
Sep.20
Date
Date
Advertising Expense
Explanation Ref.
Debit
Credit
No.610
Balance
2014
J1
7000
Rent Expense
Explanation Ref.
Debit
Credit
7000
No.729
Balance
Sep.10
J1
2014
Sep.2
J1
10000
10000
Laundromat Inc.
Trial Balance
September 30, 2014
Cash
Prepaid Insurance
Equipment
Notes Payable
Accounts Payable
Share Capital-Ordinary
Dividends
Service Revenue
Advertising Expense
Rent Expense
Debit
$133000
12000
250000
Credit
150000
2000
200000
7000
62000
2000
10000
$414000
$414000
2000
2000
Chapter 3
Fiscal and Calendar Years
A period that a company or government uses for accounting purposes and preparing financial
statements. The fiscal year may or may not be the same as a calendar year. For tax purposes,
companies can choose to be calendar-year taxpayers or fiscal-year taxpayers. The default IRS system is
based on the calendar year, so fiscal-year taxpayers have to make some adjustments to the deadlines
for filing certain forms and making certain payments. In many instances, even fiscal year taxpayers
must adhere to the calendar-year deadlines. Accounting time periods are generally a month, a quarter,
or a year.
Adjusting journal entries (at the end of accounting period)
Adjusting entries, also called adjusting journal entries, are journal entries made at the end of a
period to correct accounts before the financial statements are prepared. This is the fourth step in the
accounting cycle. Adjusting entries are most commonly used in accordance with the matching principle
to match revenue and expenses in the period in which they occur.
1. Depreciation
4. Supplies
2. Accrued revenue
5. Prepaid
3. Accrued expense
6. Unearned
1. Depreciation (Journal entry)
Depreciation expense -
Dr.
Accumulated depreciation -
Cr.
2. Accrued Revenue (Revenue not yet recorded in the journal)
Account receivable -
Dr.
.......................... Revenue -
Cr.
Note Receivable- Adjusting entry
Interest receivable -
Dr.
Interest revenue -
Cr.
3. Accrued Expense (Expense not yet recorded in the journal)
………………… Expense -
Dr.
.......................... Payable -
Cr.
Note Payable- Adjusting entry
Interest expense -
Dr.
Interest payable -
Cr.
4. Supplies (stationary items like pen, pencil, paper, etc. which the business uses every day)
Supply expense (new a/c) -
Dr.
Supplies (old a/c) -
Cr.
(Find out the amount for the new a/c)
5. Prepaid (We have to separate expense for this year from prepaid account which was
recorded before)
…………….expense (new a/c) -
Dr.
Prepaid ……………. (Old a/c) -
Cr.
(Find out the amount for the new a/c)
6. Unearned revenue (This is cash received already for future revenue. We have to separate
from it revenue earned for the year)
Unearned …………… ………….. Revenue (new a/c) (Amount for the new a/c)
Dr.
Cr.
Chapter 4
Completing the Accounting cycle
Using Worksheet
Worksheet is a multiple-column form used in the adjustment process and in preparing
financial statements.
Steps in preparing worksheet
1) Prepare a trial balance on the worksheet
2) Enter the adjustments in the Adjustments columns
3) Enter adjusted balances in the adjusted trial balance columns
4) Extend adjusted trial balance amounts to appropriate financial statement columns to
appropriate financial statement columns
5) Total the statement columns, compute the net income (or net loss), and complete the worksheet
Preparing Financial Statements from a worksheet
The income statement is prepared from the income statement columns.
The statement of financial position and retained earnings statement are prepared from
the statement of financial position columns.
Preparing Adjusting Entries from a Worksheet
The adjusting entries are prepared from the adjustments columns of the worksheet.
Closing the Books
At the end of the accounting period, the company makes the accounts ready for the next period.
Temporary accounts relate only to a given accounting period and be closed at the end of the period.
Permanent accounts relate to one or more future accounting periods and be not closed from period
to period.
Preparing Closing Entries
Directly from the adjusted balances in the ledger by following four entries accomplish the
desired result more efficiently:
1) Debit each revenue account for its balance, and credit income summary for total revenues.
2) Debit income summary for total expenses, and credit each expense account for its balance.
3) Debit income summary and credit retained earnings for the amount of net income.
4) Debit retained earnings for the balance in the dividends account, and credit dividends for the
same amount.
Posting Closing Entries
The post-closing trial balance is to prove the equality of the permanent account balances
carried forward into the next accounting period.
Example
Watson Answering Service Inc.
Trial Balance
August 31, 2014
Cash
Accounts Receivable
Supplies
Prepaid Insurance
Equipment
Notes Payable
Accounts Payable
Share Capital-Ordinary
Dividends
Service Revenue
Salaries and wages Expense
Utilities Expense
Advertising Expense
Debit
$5400
2800
1300
2400
60000
Credit
$40000
2400
30000
1000
4900
3200
800
400
$77300
Other data:
a).Insurance expires at the rate of $200 per month.
b). $1000 of supplies are on hand at August 31.
c).Monthly depreciation on the equipment is $900.
d).Interest of $500 in the notes payable has accrued during August.
$77300
Watson Answering Service Inc.
Worksheet for the Month Ended August 31, 2014
Trial Balance
Account Titles
Cash
Accounts Receivable
Supplies
Prepaid Insurance
Equipment
Notes Payable
Accounts Payable
Share Capital- Ordinary
Dividends
Service Revenue
Salaries and
Wages Expense
Utilities Expense
Advertising Expense
Totals
Insurance Expense
Supplies Expense
Depreciation Expense
Accumulated
Depreciation-Equipment
Interest Expense
Interest Payable
Totals
Net loss
Totals
Dr.
5400
2800
1300
2400
60000
Cr.
Adjustments
Dr.
Cr.
(b)300
(a)200
40000
2400
30000
1000
4900
3200
800
400
77300
Adjusted Trial
Balance
Dr.
Cr.
5400
2800
1000
2200
60000
40000
2400
30000
1000
4900
Income
Statement
Dr.
Cr.
Statement of
Financial Position
Dr.
Cr.
5400
2800
1000
2200
60000
40000
2400
30000
1000
4900
3200
800
400
3200
800
400
200
300
900
200
300
900
77300
(a)200
(b)300
(c)900
(c)900
(d)500
1900
900
500
(d)500
1900
78700
900
500
500
78700
6300
6300
4900
1400
6300
72400
1400
73800
500
73800
73800
Watson Answering Service Inc.
Statement of Financial Position
August 31, 2014
Assets
Property, plant, and equipment
Equipment
Less: Accumulated depreciation-equipment
Current assets
Prepaid insurance
Supplies
Accounts receivable
Cash
Total assets
$60000
900
2200
1000
2800
5400
$59100
11400
$70500
Equity and Liabilities
Equity
Share capital-ordinary
Retained earnings
Non-Current Liabilities
Notes payable
Current liabilities
Notes payable
Accounts payable
Interest payable
Total equity and liabilities
Aug.31 Service Revenue
Income Summary
(To Close revenue account)
31 Income Summary
Salaries and Wages Expense
Depreciation Expense
Utilities Expense
Interest Expense
Advertising Expense
Supplies Expense
Insurance Expense
(To Close net loss to retained earnings)
31 Retained Earnings
Income Summary
(To Close net loss to retained earnings)
31 Retained Earnings
Dividends
(To Close dividends to retained earnings)
$30000
2400
$27600
35000
5000
2400
500
7900
$70500
4900
4900
6300
3200
900
800
500
400
300
200
1400
1400
1000
1000
Chapter 5
Accounting for purchase and sale of merchandise
The articles they buy and sell are called merchandise. Anything we buy to use in the
business is asset. Computation of discount (purchase discount or sales discount).
-
(Purchase or sale – return) ×
𝑟𝑎𝑡𝑒
100
FOB Shipping point = buyer must pay transportation or freight on merchandise purchased
(Freight-in).
FOB Destination = seller is responsible for freight charges on sale of merchandise
(Delivery expense or freight-out).
Note: 2/10 = 2% discount if cash paid within 10 days.
N/30 = maximum credit period 30 days.
Journal Entries for buyer
Perpetual
1.
2.
3.
4.
Purchase merchandise
Inventory
XX
Cash/ A/P
XX
Return the merchandise purchase
Cash/ A/P
XX
Inventory
XX
Paid freight (FOB Shipping point)
Inventory
XX
Cash
XX
Payment during the discount period
Account Payable
XX
Cash
XX
Inventory
XX
Periodic
Purchase merchandise
Purchase
XX
Cash/ A/P
Return the merchandise purchase
Cash/ A/P
XX
Purchase return & Allowance
Paid freight (FOB Shipping point)
Freight - in
XX
Cash
Payment during the discount period
Account Payable
XX
Cash
Purchase Discount
XX
XX
XX
XX
XX
Journal Entries for seller
Perpetual
1.
2.
3.
4.
Sell merchandise
Cash/ A/R
XX
Sales
XX
Cost of Goods Sold
XX
Inventory
XX
Customer return the merchandise sold
Sales Returns & Allowances XX
Cash/ A/R
XX
Inventory
XX
Cost of Goods Sold
XX
Paid freight (FOB Destination)
Freight - out
XX
Cash
XX
Payment during the discount period
Cash
XX
Sales Discount
XX
Cash/ A/R
XX
Periodic
Sell merchandise
Cash/ A/R
Sales
XX
XX
Customer return the merchandise sold
Sales Returns & Allowances XX
Cash/ A/R
XX
Paid freight (FOB Destination)
Freight - out
XX
Cash
XX
Payment during the discount period
Cash
XX
Sales Discount
XX
Cash/ A/R
XX
Chapter 6
Inventory is the stock of goods which a business keeps for sales. Ending inventory is the unsold stock
of merchandise on the last day of an accounting period (usually December 31). The ending inventory
of one year (December 31) is the beginning inventory (January 1) of the next year. Usually ending
inventory comes from different purchase. So it is rather difficult to decide the cost of it. The business
should include cost of ending inventory in the Income statement and balance sheet. If ending
inventory is overstated. Then net income will be overstated under value ending inventory cost will
understate net income.
There are two main systems to compute cost of ending inventory.
1. Periodic system
2. Perceptual system
Periodic system
(a) First In first out (FIFO)
(b) Weighted average method
(c) Lower of cost or market price (LCM) method
We must decide the cost of ending inventory. First we must find out the ending inventory in units.
The following format we can to get the ending inventory in units.
Date
Details
Beginning Inventory
1st purchase
2nd purchase
Less purchase return
3rd purchase
4th purchase
Total Unit
Unit Sold
Ending Inventory (units)
Computation of units sold
Units sold
XX
Units sold
XX
Less sales return (units)
Total units sold
(XX)
XX
Units
XX
XX
XX
XX
XX
XX
XX
(XX)
XX
Unit Cost
XX
XX
XX
XX
XX
XX
Total Cost
XX
XX
XX
(XX)
XX
XX
XXX
(A) First in first out
Under this method merchandise purchased first will be sold first. So ending inventory comes
from the last purchase (newest purchase)
Cost of ending inventory
Cost of goods sold = Total cost – cost of ending inventory
(b) Weighted average method
Cost of ending inventory =
x ending inventory (units)
(c) Lower of cost or market price (LCM) method
Under this method compute cost price of ending inventory and total market price. Compute both
and take the lower one as the cost of ending inventory.
CHAPTER 7
BANK RECONCILIATION
The common items causing the difference in cash balance as per business records and bank
statement are;
1. Deposit in transit. Cash received by the business and given to bank for deposit but the bank
not yet recorded the deposit.
2. Outstanding checks. These are check issued by the business, but not yet paid by bank.
3. Credit memo items. These are usually revenue items on which cash was collected by bank
for the business and recorded on the deposit column of bank statement but these item are
not yet recorded in business records. Ex; note receivable by the business, collected by the
bank and record in the bank statement.
4. Debit memo items. These are expenses paid by bank on behalf of the business but not
recorded in the business cash payment journal. Ex; note payable paid by bank for the
business.
5. NSF cheque. This is a check received by the business from a customer, which is then given to
the bank to collect cash from the bank of the customer. But the customers’ bank refuse to
pay money on the check saying that there is ‘NOT sufficient fund’ (no cash balance) in
customer account.
6. Stop order (payment) check. This is a check issued by the business, then later told the bank
not to pay cash on that check but the bank paid cash by mistake.
Format of Bank reconciliation statements;
1) Balance as per bank
Add deposit in transit
xxx
xxx
xxx
Add stop order check
Less Outstanding Check No.
xxx
xxx
xxx
Corrected balance (adjusted balance) ------------------------------------------->
xxx
xxx
xxx
(xxx)
xxx
(Note. If the bank made any error in recording, that should be corrected here. When we correct the
mistake, if each increases in the bank then add it and if cash decrease, then less it)
2) Balance as per book (Business)
(BB + Total cash receipt – Total cash payment)
Add credit memo items.
Note receivable – collected
Interest revenue
Other revenues
Less debit memo items.
Note payable paid
xxx
xxx
xxx
xxx
xxx
xxx
Interest expense
Bank service charges
NSF check
Other expenses
Corrected balance --------------------------------------------------------------->
xxx
xxx
xxx
xxx
(xxx)
xxx
Note. Any error made by accountant business must be corrected here. When we correct the
mistake, if cash increases in the business, then add the error, if cash balance decreases, then less the
error amount.
Adjusting journal entries on bank reconciliation
1) To record credit memo items (revenues)
Cash at bank
Note receivable
Interest revenue
Any other revenue
2) To record debit memo items (expenses)
Note payable
Interest expense
A/R (NSF)
Miscellaneous expenses (Bank service charge +
Collection fees, etc.)
Cash at bank
xxx
xxx
xxx
xxx
xxx
xxx
xxx
xxx
xxx