Financial Accounting: Tools for Business Decision Making Prepared by: Dr. Jessica J. Frazier and Philip Li Eastern Kentucky University Kimmel, Weygandt, Kieso

CHAPTER 3 The Accounting Information System After reading Chapter 3, you should be able to: zAnalyze the effect of business transactions on the basic accounting equation. zExplain what an account is and how it helps in the recording process. zDefine debits and credits and explain how they are used to record business transactions. zIdentify the basic steps in the recording process.

CHAPTER 3 The Accounting Information System After reading Chapter 3, you should be able to: zExplain what a journal is and how it helps in the recording process. zExplain what a ledger is and how it helps in the recording process. zExplain what posting is and how it helps in the recording process. zExplain the purposes of a trial balance.

ANALYZE THE EFFECT OF BUSINESS TRANSACTIONS zTransactions yEvents that must be recorded in the financial statements. yEvents can be divided into two types: xExternal events xInternal events

Transaction analysis zThe process of considering the transaction or event that has taken place and identifying how the transaction is going to impact the balance sheet equation.

External Events zExternal events occur between the company and some outside party. zIf an external event involves an exchange of assets, liabilities, or stockholders' equity between a company and an outside party it is a transaction and must be recorded.

Internal Events zInternal events are economic events that occur entirely within one company. zInternal events are considered transactions if the event results in a financial impact that you can measure with reasonable accuracy.

ACCOUNT zAn individual accounting record of increases and decreases in a specific asset, liability, or stockholders' equity item. zAn account consists of three parts: y(1) the title of the account, y(2) a left or debit side, and y(3) a right or a credit side. zBecause segments of the account resemble the letter T, it is often referred to as a T account.

DEBITS AND CREDITS zThe terms debit and credit mean left and right respectively. zDebit is abbreviated Dr. and credit is abbreviated Cr.

DEBITS AND CREDITS zThe act of entering an amount of the left side of an account is called debiting. Making an entry on the right side is called crediting. zWhen the totals of the two sides are compared, an account will have a debit balance if the left side is greater. Conversely, the account will have a credit balance if the right side is greater.

DEBITS AND CREDITS zIn double-entry accounting, for every debit there must be an equal credit. And, the accounting equation must be kept in balance. zDebits increase assets and expenses while they decrease liabilities, common stock and revenues. zCredits decrease assets and expenses. Conversely, they increase liabilities, stockholders, and revenues.

BASIC STEPS IN THE RECORDING PROCESS zThe basic steps in the recording process are: yAnalyze each transaction in terms of its effect on the accounts. yA source document, such as a sales slip, a check, a bill, or a cash register tape provides evidence of the transaction. yEnter the transaction information in a journal. yTransfer the journal information to the appropriate accounts in the ledger (book of accounts).

JOURNAL AND ITS ROLE IN THE RECORING PROCESS zTransactions are entered in the journal in chronological order before being transferred to the accounts. zThe journal has a place to record the debit and credit effects on specific accounts for each transaction. zCompanies may use various types of journals, but every company has the most basic form of journal, a general journal.

JOURNAL AND ITS ROLE IN THE RECORING PROCESS zThe journal makes significant contributions to the recording process: yThe journal discloses in one place the complete effect of a transaction. yThe journal provides a chronological record of transactions. yThe journal helps prevent or locate errors because the debit and credit amounts for each entry can be readily compared. zEntering transaction data into the journal is known as journalizing.

LEDGER AND ITS ROLE IN THE RECORING PROCESS zThe entire group of accounts maintained by a company is referred to as the ledger. zThe general ledger contains all of the asset, liability and stockholders' equity accounts.

LEDGER AND ITS ROLE IN THE RECORING PROCESS zInformation in the ledger provides management with the balances in various accounts. zAccounts in the general ledger are listed in the chart of accounts.

POSTING AND ITS ROLE IN THE RECORING PROCESS zPosting is the process of transferring journal entries to the ledger accounts. zPosting accumulates the effects of journal transactions in the individual ledger accounts.

THE PURPOSES OF A TRIAL BALANCE zA trial balance is a list of accounts and their balances at a given time. zThe primary purpose of the trial balance is to prove the mathematical equality of debits and credits after posting. zA trial balance uncovers errors in journalizing and posting. zA trial balance is useful in the preparation of financial statements.

THE PURPOSES OF A TRIAL BALANCE zA trial balance is limited in that it will balance, and therefore not uncover errors when: zA transaction is not journalized, yA correct journal entry is not posted, yA journal entry is posted twice, yIncorrect accounts are used in journalizing and posting, or yOffsetting errors are made in recording the amount of a transaction.

Chapter 3 Review zWhat is the accounting equation? How do business transactions effect the basic accounting equation? zWhat is an account and how does it help in the recording process? zCan you debits and credits and explain how they are used to record business transactions? zWhat are the basic steps in the recording process?

Chapter 3 Review zWhat is a journal? How does it help in the recording process? zWhat is a ledger? How does it help in the recording process? zWhat is posting and how does it help in the recording process? zWhat is the purpose of a trial balance?

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