1. ANALYZING AND RECORDING TRANSACTIONS
Chapter 2
Chapter 2: Analyzing and Recording Transactions.

2. Analyzing and Recording Process
Record relevant transactions and events in a journal
Analyze each transaction and event from source documents
Post journal information to ledger accounts
We begin the accounting process by analyzing source documents. For example, you usually receive a receipt when you pay cash for something. Think about the last time you went to a fast food restaurant. When you received your order you were given a receipt, a source document. If you wanted a company to reimburse you for the meal because you were traveling on company business, you must present evidence of your expenditure. This evidence takes the form of a source document, the receipt.
Once we identify a business transaction, we record it in a journal. A journal is arranged in chronological order. Transactions are recorded by date of occurrence.
At the end of the accounting period, usually a month, transactions in the journal are posted to a ledger account. Posting is the systematic process of transferring information from the journal to the ledger. The ledger groups transactions by the accounts impacted. For example, we will have a ledger account for cash. All transactions that result in increases or decreases in the cash account will be posted to the cash ledger account.
Once all transactions have been posted, we prepare a trial balance. The purpose of the trial balance is to make sure that all information has been transferred properly. The trial balance is a listing of all account balances.
Prepare and analyze the trial balance

3. The Account and its Analysis
Assets Accounts
Asset Accounts = +
Liability Accounts
Equity Accounts
Owner, Capital
Owner, Withdrawals
Recall the basic accounting equation – Assets are equal to Liabilities plus Equity. The equity section is composed of the owner’s capital account and the owner’s withdrawal account.
Asset accounts - Assets are resources owned or controlled by a company and that have expected future benefits.
Liability accounts - Liabilities are claims (by creditors) against assets, which means they are obligations to transfer assets or provide products or services to other entities.
Equity Accounts - The owner’s claim on a company’s assets is called equity or owner’s equity. Equity is the owner’s residual interest in the assets of a business after deducting liabilities.

4. The Account and its Analysis= +
Assets
Liabilities
Equity
Owner’s
Capital
Owner's Withdrawals
Revenues
Expenses + –
Part I
Do you remember the expanded accounting equation we used to record transactions in chapter one?
Part II
Remember that revenues increase the equity side of the equation and expenses decrease equity.

5. Debits and Credits C5
A T-account represents a ledger account and is a tool used to understand the effects of one or more transactions.
Accountants often use a T-account to represent a general ledger account. It is a quick way to analyze transactions before we enter the information in the journal. The account title is entered on the top of the T-account. The left side of a T-account is always called the debit side, and the right side is always called the credit side. This terminology comes from the time when the first double-entry system was developed. We still use the terms as a convention. The words do not have any significant meaning other than that they stand for the left and right side of a ledger.

6. Double-Entry Accounting
Liabilities
Equity
Assets = +
Debit Credit
ASSETS
LIABILITIES
EQUITIES
After we decide on the terms to use for the left and right side of a ledger account, we must establish the mathematics of the double-entry system. Liabilities and Equity have the opposite sign of Assets. If we were to move the liabilities to the left side of the equation, it would read assets minus liabilities equal equity. As a convention of double-entry accounting we have decided that a debit, or left side, to an asset account will represent an increase in the asset account balance. Once this decision is made all the remaining math is determined. Because liabilities and equity have the opposite sign of assets, a debit to a liability or equity account must mean a decrease and a credit means an increase. Instead of using the terms increase and decrease we use the terms debit and credit. It is important to remember whether we are talking about an asset, liability or equity account for the meaning of a debit or a credit.
Another method for working with debits and credits is to use the accounting equation as a guide. Assets are on the left hand side of the accounting equation. Therefore all increases to assets are on the debit (left) side of the T account. Liabilities and Equity accounts are on the right hand side of the accounting equation. Therefore all increases to liabilities and equity accounts are on the credit (right) side of the T account.
It will take you a short while to become accustomed to using the terms debit and credit, but with practice you will master the concept easily.

7. Double-Entry Accounting
Equity
Revenues
Expenses
Owner’s
Capital
Owner's Withdrawals _ +
Debit Credit
Owner’s Capital
Owner's Withdrawals
Expenses
Revenues
Here is the expanded accounting equation showing the equity section. Because revenues increase equity, a revenue account must be recorded just like the C. Taylor, Capital account. A credit is an increase in revenues and a debit is an increase in expenses. The C. Taylor, Capital and revenue accounts are both increased with a credit and decreased with a debit. Owner's Withdrawals and expenses have an opposite sign, so these accounts are increased with a debit and decreased with a credit.

8. Double-Entry Accounting
An account balance is the difference between the increases and decreases in an account.
Notice the T-Account.
We have determined the balance in accounts in the last chapter, but in this chapter we will look at a more comprehensive way to determine an account balance.
The cash account is an asset, so increases, or receipts, are shown on the debit, or left side, and decreases, or payments, are shown on the credit side, or right side. To determine if an account has a debit or credit balance, we total the right and left sides and place the balance on the larger side. In this example, our increases in cash amount to $36,100 and the decreases total $31,300 so the cash account has a debit, or positive balance of $4,800.

9. Balance Column AccountP1
T-accounts are useful illustrations, but balance column ledger accounts are used in practice.
T-accounts are useful illustrations, but balance column ledger accounts are used in practice.
The balance column account format is similar to a T-account in having columns for debits and credits. It is different in including transaction date and explanation columns. It also has a column with the balance of the account after each entry is recorded. The Cash account is debited on December 1 for the $30,000 owner investment, yielding a $30,000 debit balance. The account is credited on December 2 for $2,500, yielding a $27,500 debit balance. On December 3, it is credited again, this time for $26,000, and its debit balance is reduced to $1,500. The Cash account is debited for $4,200 on December 10, and its debit balance increases to $5,700; and so on.

10. Analyzing Transactions
Analysis:
Double entry:
Part I
Let’s see if we can analyze transactions and get them into the proper form for double-entry accounting. This will be helpful when you turn to your homework.
In the first transaction, on December first, the owner invests $30,000 to start a company called FastForward. From our previous work we know that the cash account and the C. Taylor, Capital account will increase.
Part II
We record this information in the general journal with a debit, increase, to cash, and a credit, increase, to C. Taylor, Capital. Notice that the account number for the cash account is 101 and C. Taylor, Capital is 301. We are going to post the information in the journal to the general ledger. We will use T-accounts to accomplish this.
Part III
We place the $30,000 on the left, or debit, side of the cash account and on the right, or credit, side of the C. Taylor, Capital account. Our books are in balance because total assets are equal to total liabilities plus equity. Let’s move to another transaction.
Posting:
101
301

11. Analyzing Transactions
Analysis:
Double entry:
Part I
In our second transaction, FastForward purchases office supplies paying $2,500 cash. We have exchanged one asset, cash, for another asset, supplies. The cash account will decrease and the supplies account will increase. Can you make the general journal entry to record this transaction?
Part II
We increase the supplies account with a debit and decrease the asset account, cash, with a credit. Let’s post the amounts.
Part III
The general ledger account for supplies increased by $2,500 so the amount is placed on the debit side of the account. The cash account, an asset, decreased by $2,500, so the amount is placed on the credit side of the general ledger account. Let’s move on to another transaction.
126
101
Posting:

12. Analyzing Transactions
Analysis:
Double entry:
Part I
In our third transaction, FastForward purchases equipment paying $26,000 cash. Once again, we have exchanged one asset, cash, for another asset, equipment. The cash account will decrease and the equipment account will increase. This general journal entry will look similar to the one we just completed.
Part II
We increase the equipment account with a debit and decrease the asset account, cash, with a credit. Let’s post the amounts.
Part III
The general ledger account for equipment increased by $26,000 so it is placed on the debit side of the account. The cash account, an asset, decreased by $26,000, so the amount is placed on the credit side of the general ledger account. Let’s look at another transaction.
167
101
Posting:

13. Analyzing Transactions
Analysis:
Double entry:
Part I
In this transaction, FastForward purchases $7,100 of office supplies on account. The supplies account, an asset, will increase and the liability account, accounts payable will increase. Let’s make the general journal entry to record this transaction.
Part II
We increase the supplies account with a debit and increase the liability account, accounts payable, with a credit. It is time to post the transaction.
Part III
The general ledger account for supplies increased by $7,100 so the amount is placed on the debit side of the account. The accounts payable account, a liability, increased by the same amount, so we place it on the credit side of the general ledger account. Let’s analyze another transaction.
126
201
Posting:

14. Analyzing Transactions
Analysis:
Double entry:
Part I
FastForward provided consulting services and collected $4,200 cash. The asset account, cash, increased by $4,200 and the equity account, consulting revenue, increased by the same amount. See if you can make the general journal entry to record this transaction before moving to the next slide.
Part II
We increase the cash account with a debit and increase the revenue account, consulting revenue, with a credit. Let’s post the amounts.
Part III
The general ledger account for cash increased by $4,200 so the amount is placed on the debit side of the account. The consulting revenue account increased by the same amount, so it is placed on the credit side of the general ledger account. We could continue on with more transactions, but your homework will help reinforce what we have done here. Let’s take a look at the trial balance of FastForward at the end of December.
Posting:
403
101

15. After processing its remaining transactions for December, FastForward’s Trial Balance is prepared.
Debits
Credits
Cash
4,350 $
Accounts receivable -
Supplies
9,720
Prepaid Insurance
2,400
Equipment
26,000
Accounts payable
6,200
Unearned consulting revenue
3,000
C. Taylor, Capital
30,000
Owner's Withdrawals
200
Consulting revenue
5,800
Rental revenue
300
Salaries expense
1,400
Rent expense
1,000
Utilities expense
230
Total
45,300
FastForward
Trial Balance
December 31, 2009
The trial balance lists all account balances in the general ledger. If the books are in balance, the total debits will equal the total credits.
On the trial balance we list all the accounts in our general ledger and their related balances. The total of all our debit account balances must equal all our credit account balances. If this is not the case, we may have made an error posting the journal entry into the ledger. We cannot prepare the financial statement until the books are in balance as determined by the trial balance.

16. Preparing a Trial Balance
Preparing a trail balance involves three steps:
List each account title and its amount (from ledger) in the trial balance. If an account has a zero balance, list it with a zero in the normal balance column (or omit it entirely).
Compute the total of debit balances and the total of credit balances.
Verify (prove) total debit balances equal total credit balances.
Preparing a trail balance involves three steps:
List each account title and its amount (from ledger) in the trial balance. If an account has a zero balance, list it with a zero in the normal balance column (or omit it entirely).
Compute the total of debit balances and the total of credit balances.
Verify (prove) total debit balances equal total credit balances.
The total of debit balances equals the total of credit balances for the trial balance. Equality of these two totals does not guarantee that no errors were made.

17. Searching for and Correcting ErrorsP2
If the trial balance does not balance, the error(s) must be found and corrected.
Make sure the trial balance columns are correctly added.
Re-compute each account balance in the ledger.
Make sure account balances are correctly entered from the ledger.
Verify that each journal entry is posted correctly.
If the trial balance does not balance, the error(s) must be found and corrected.
Step 1 verify that the trial balance columns are correctly added.
Step 2 verify that account balances are accurately entered from the ledger.
Step 3 see whether a debit (or credit) balance is mistakenly listed in the trial balance as a credit (or debit).
Step 4 re-compute each account balance in the ledger.
Step 5 verify that each journal entry is properly posted.
Step 6 is to verify that the original journal entry has equal debits and credits.
See if debit or credit accounts are mistakenly placed on the trial balance.
Verify that each original journal entry has equal debits and credits.

18. Income Statement P3
Here is the information for FastForward for the month ended December 31, The company had total revenues of $6,100 and total expenses of $2,630. For the month FastForward generated $3,470 in net income. Look back at our trial balance to verify the amounts shown on the income statement.

19. STATEMENT OF OWNER'S EQUITYP3
C. Taylor, Capital 12/1/09 - $
Net income for December
3,470
Plus: Investments by Owner
30,000
33,470
Less: Owner Withdrawals
200
. C. Taylor, Capital, 12/31/09
33,270
Statement of Owner's Equity
For the Month Ended December 31, 2009
FASTFORWARD
Connections
The beginning balance in Owner's Equity was zero because the company was started on December 1, We earned net income of $3,470. (This is the total carried over from the income statement.) During the month, the owner invested $30,000 bringing the subtotal of the equity to $33,470. Owner's withdrawals of $200 were paid. So the ending balance in Owner's Equity is $33,270. This amount will appear on the equity section of the balance sheet. Let’s look at the balance sheet now.

20. Connections Balance Sheet P3
Total assets equal $42,470. Total liabilities are $9,200 and our equity balance is $33,270. The accounting equation is in balance because assets are equal to liabilities plus equity.
Connections

21. Evaluates the level of debt risk.
Debt to Assets Ratio A2
Total Debt
Total Assets
Evaluates the level of debt risk.
Debt Ratio Analysis
Borrowing money is risky business. The debt to assets ratio helps evaluate the level of debt risk.
Determines a company’s ability to pay it’s debts (liabilities).
Debt Ratio computation = Total Liabilities divided by total assets.
A higher ratio indicates that there is greater probability a company will not be able to pay it’s debts in the future.
A higher ratio indicates that there is a greater probability that a company will not be able to pay it’s debt in the future.