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Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-1 Chapter Two Review of the Accounting Process.

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Presentation on theme: "Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-1 Chapter Two Review of the Accounting Process."— Presentation transcript:

1 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-1 Chapter Two Review of the Accounting Process

2 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-2 The Accounting Equation A = L + OE - Owner Withdrawals+ Owner Investments- Expenses+ Revenue

3 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-3 Accounting Equation for a Corporation A = L + SE + Retained Earnings+ Paid-in Capital - Expenses - Losses + Revenues + Gains - Dividends

4 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-4 Account Relationships Debits and credits affect the Balance Sheet Model as follows: A = L + PIC + RE + R - E Assets Dr. + Cr. - Liabilities Dr. - Cr. + Paid-in Capital Dr. - Cr. + Retained Earnings Dr. - Cr. + Revenues and Gains Dr. - Cr. + Expenses and Losses Dr. + Cr. -

5 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-5 Account Relationships Debits and credits affect the Balance Sheet Model as follows: A = L + PIC + RE + R - E Permanent accounts represent the basic financial position elements of the accounting equation. Temporary accounts keep track of the changes in the retained earnings component of shareholders’ equity.

6 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-6 Source documents Record in Journal Financial Statements Transaction Analysis Post to Ledger Unadjusted Trial Balance Record & Post Adjusting Entries Adjusted Trial Balance Close Temporary Accounts Post-Closing Trial Balance The Accounting Processing Cycle

7 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-7 Accounting Processing Cycle On January 1, 2004, CWC, Inc. borrows $10,000 from the bank. Prepare the journal entry. Two accounts are affected: Cash (an asset) increases by $10,000. Notes Payable (a liability) increases by $10,000.

8 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-8 Accounting Processing Cycle Two accounts are affected: Cash (an asset) increases by $10,000. Notes Payable (a liability) increases by $10,000.

9 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-9 Accounting Processing Cycle Account numbers are references for posting to the General Ledger. Two accounts are affected: Cash (an asset) increases by $10,000. Notes Payable (a liability) increases by $10,000.

10 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-10 General Ledger The “T” account is a shorthand used by accountants to analyze transactions. It is not part of the bookkeeping system.

11 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-11 Posting Journal Entries On July 1, 2003, the owners invest $60,000 in a new business, Dress Right Clothing Corporation. Post the debit portion of the entry to the Cash ledger account.

12 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-12 Posting Journal Entries 1

13 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-13 Posting Journal Entries 23

14 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-14 Posting Journal Entries 45

15 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-15 6 Posting Journal Entries

16 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-16 Posting Journal Entries Post the credit portion of the entry to the Common Stock ledger account. 1

17 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-17 Posting Journal Entries 23

18 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-18 Posting Journal Entries 45

19 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-19 6 Posting Journal Entries

20 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-20 After recording all entries for the period, Dress Right’s Trial Balance would be as follows: Debits = Credits A Trial Balance is a listing of all accounts and their balances at a point in time.

21 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-21 Additional Consideration Perpetual Inventory System Inventory account is continually updated to reflect purchases and sales. Cost of goods sold account is continually updated to reflect sales. Periodic Inventory System Purchases account reflects purchases of inventory. Cost of goods sold and inventory are adjusted at period end. Discussed in more depth in Chapters 8 & 9.

22 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-22 Adjusting Entries At the end of the period, some transactions or events remain unrecorded. Because of this, several accounts in the ledger need adjustments before their balances appear in the financial statements.

23 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-23 Transactions where cash is paid or received before a related expense or revenue is recognized. Transactions where cash is paid or received after a related expense or revenue is recognized.

24 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-24 Asset Expense Unadjusted Balance Credit Adjustment Debit Adjustment Prepaid Expenses Today, I will pay for my first 6 months’ rent. Prepaid Expenses Items paid for in advance of receiving their benefits

25 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-25 Prepaid Expenses On December 1, 2004, Scott Company paid $12,000 to cover rent for December 2004 through May 2005. Let’s look at the adjusting journal entry needed on December 31, 2004.

26 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-26 $12,000 ÷ 6 months = $2,000 per month Prepaid Expenses On December 1, 2004, Scott Company paid $12,000 to cover rent for December 2004 through May 2005. Let’s look at the adjusting journal entry needed on December 31, 2004.

27 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-27 After posting, the accounts look like this: Prepaid Rent Rent Expense 12/1 $12,000 12/31 $2,000 Prepaid Expenses Bal. $10,000

28 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-28 Depreciation is the process of computing expense by allocating the cost of plant and equipment over their expected useful lives. Straight-Line Depreciation Expense = Asset Cost - Salvage Value Useful Life Depreciation

29 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-29 On January 1, 2004, Monroe, Inc. purchased the following oil pumping equipment: Let’s record depreciation expense for the year ended December 31, 2004. Depreciation

30 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-30 2000 Depreciation Expense = $62,000 - $2,000 5 =$12,000 On January 1, 2004, Monroe, Inc. purchased the following oil pumping equipment: Depreciation Now, prepare the adjusting entry for December 31, 2004.

31 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-31 Contra Asset Depreciation Let’s see how the accounts would look after posting!

32 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-32 After posting, the accounts look like this: Equipment Depreciation Expense 1/1 $62,000 12/31 $12,000 Accumulated Depreciation 12/31 $12,000 Depreciation

33 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-33 The equipment account is shown on the balance sheet like this. Depreciation

34 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-34 Liability Revenue Unadjusted Balance Credit Adjustment Debit Adjustment Unearned Revenue “Go Big Blue” Buy your season tickets for all home basketball games NOW! Unearned Revenue Cash received in advance of performing services

35 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-35 On December 1, 2004, Ox University sold 1,000 seasons tickets to its 20 home basketball games for $100 each. OxU makes the following entry: Unearned Revenue Liability Account

36 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-36 By December 31, OxU has played 8 of its regular home games, winning 6 and losing 2. Unearned Revenue

37 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-37 Unearned Revenue By December 31, OxU has played 8 of its regular home games, winning 6 and losing 2.

38 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-38 Unearned Basketball Revenue Basketball Revenue 12/1 $100,00012/31 $40,000 After posting, the accounts will look like this... Unearned Revenue Bal. $60,000

39 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-39 Alternative Approach to Record Prepayments Unearned Revenue Record initial cash receipts as follows: Cash $$$ Revenue $$$ Adjusting Entry Record the amount for the unearned liability as follows: Revenue $$ Unearned revenue $$ Prepaid Expenses Record initial cash payments as follows: Expense $$$ Cash $$$ Adjusting Entry Record the amount for the prepaid expense as follows: Prepaid expense $$ Expense $$

40 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-40 Expense Liability Credit Adjustment Debit Adjustment Accrued Liabilities I won’t pay you until the job is done! Accrued Liabilities Costs incurred in a period that are both unpaid and unrecorded

41 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-41 12/1/04 12/31/04 Year end Last pay date 12/26/04 Next pay date 1/2/05 Record adjusting journal entry. Accrued Liabilities Denton, Inc.’s weekly salaries are $78,750. On December 31, 2004, the employees have earned salaries of $47,250.

42 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-42 Accrued Liabilities

43 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-43 Salaries Expense Salaries Payable 12/26 $78,750 After posting, the accounts will look like this... 12/31 $47,250 Accrued Liabilities 12/31 47,250 Bal. $126,000

44 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-44 Asset Revenue Credit Adjustment Debit Adjustment Accrued Receivables Yes, you can pay me in May for your April 15 tax return. Accrued Receivables Revenues earned in a period that are both unrecorded and not yet received

45 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-45 At year-end, Smith & Jones, CPAs, had completed $31,200 of work but had not yet billed the clients. Prepare the adjusting entry for December 31, 2004. Accrued Receivables

46 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-46 Accrued Receivables At year-end, Smith & Jones, CPAs, had completed $31,200 of work but had not yet billed the clients. Prepare the adjusting entry for December 31, 2004.

47 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-47 Accounts ReceivableService Revenue 12/31 $31,200 Accrued Receivables After posting, the accounts involved will look like this...

48 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-48 Estimates Uncollectible accounts and depreciation of fixed assets are estimated. An estimated item is a function of future events and developments. $ $

49 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-49 Estimates The estimate of bad debt expense at the end of the year is an example of an adjusting entry that requires an estimate.

50 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-50 Let’s look at financial statements.

51 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-51 The income statement summarizes the results of operating activities of the company.

52 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-52 The balance sheet presents the financial position of the company on a particular date.

53 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-53 The balance sheet presents the financial position of the company on a particular date.

54 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-54 The statement of cash flows discloses the changes in cash during a period.

55 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-55 The statement of shareholders’ equity presents the changes in permanent shareholder accounts.

56 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-56 The Closing Process Resets revenue, expense and dividend account balances to zero at the end of the period. Helps summarize a period’s revenues and expenses in the Income Summary account. Identify accounts for closing. Record and post closing entries. Prepare post-closing trial balance.

57 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-57 Temporary Accounts Revenues Income Summary Expenses Dividends Permanent Accounts Assets Liabilities Shareholders’ Equity The closing process applies only to temporary accounts. Temporary and Permanent Accounts

58 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-58  Close Revenue accounts to Income Summary.  Close Expense accounts to Income Summary.  Close Income Summary account to Retained Earnings. Let’s prepare the closing entries for Consulting Inc.! Closing Entries

59 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-59  Close Revenue accounts to Income Summary.

60 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-60 Now, let’s look at the ledger accounts after posting this closing entry.  Close Revenue Accounts to Income Summary

61 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-61  Close Revenue Accounts to Income Summary

62 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-62  Close Expense accounts to Income Summary. If Consulting Inc. had a Cost of Goods Sold account, it would be closed with the expenses.

63 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-63 Now, let’s look at the ledger accounts after posting this closing entry.  Close Expense Accounts to Income Summary

64 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-64 Net Income  Close Expense Accounts to Income Summary

65 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-65  Close Income Summary to Retained Earnings.

66 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-66 Now, let’s look at the ledger accounts after posting this closing entry.  Close Income Summary to Retained Earnings

67 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-67  Close Income Summary to Retained Earnings

68 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-68 Post-Closing Trial Balance Lists permanent accounts and their balances. Total debits equal total credits.

69 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-69 Conversion From Cash Basis to Accrual Basis Adjusting entries, for the most part, are conversions from cash to accrual. Let’s look at an example.

70 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-70 Conversion From Cash Basis to Accrual Basis Jeter, Inc. paid $20,000 cash for insurance during the current period. On Jan. 1, Prepaid Insurance was $5,000, and on Dec. 31, the account balance was $3,000. Determine Insurance Expense for the period.

71 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-71 Conversion From Cash Basis to Accrual Basis Jeter, Inc. paid $20,000 cash for insurance during the current period. On Jan. 1, Prepaid Insurance was $5,000, and on Dec. 31, the account balance was $3,000.

72 Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Slide 2-72 End of Chapter 2


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