Presentation on theme: "Accounting – A Financial Information System"— Presentation transcript:
1 Accounting – A Financial Information System Chapter 4Accounting – A Financial Information System
2 The Accounting Process Accounting process: a financial information system designed to record, classify, report, and interpret financial data of interest to organizations of all varieties
3 The Accrual Concept Three aspects of the accrual concept Revenue earned is measured by the asset received in exchange. It does not necessarily correspond to cash.Expenses are costs incurred by the firm in earning revenue and are measured by the cost of the asset consumed or services used. They are not necessarily related to the expenditure of cash.Accounting income is determined by matching the expenses incurred in a period with the revenues earned in that period. The difference between revenues and expenses constitutes income for the period.
4 Double-Entry Accounting Double-entry accounting: bookkeeping system that provides a set of techniques to keep track of accounting data while minimizing the probability of an arithmetic error
5 Double-Entry Accounting Five fundamental categories of dataBalance sheet accountsAssetsLiabilitiesEquitiesIncome statement accountsRevenueExpenses
6 Double-Entry Accounting Recall from Chapter 3:The balance sheet must always balance!Lack of balance automatically exposes arithmetic errorASSETS LIABILITIES EQUITIESTotal business resources = Creditor’s claims Owner’s claims
7 Double-Entry Accounting To account for changes in equity brought about by the earning of revenue or incurring expenses:This equation is the basis of double-entry accounting.The left-hand side must always be equal to the right-hand side.Assets = Liabilities Equities Revenues ExpensesAssets + Expenses = Liabilities + Equities + Revenues
8 Double-Entry Accounting Posting the account: making entries, or notations, in various accountsWhenever accounting records are posted, at least two entries must be made- one or more on the left-hand side and one or more on the right-hand side.
9 The System of Debits and Credits Debit: entry on left-hand side of an accountCredit: entry on right-hand side of an account
10 The System of Debits and Credits Whether a debit or credit increases or decreases the amount of a particular account depends on the type of account.Examples:An asset account (i.e. cash) is a left-hand side account and would be increased by a debit entry and decreased by a credit entry.Revenue is a right-side account and would be decreased by a debit entry and increased by a credit entry.
11 The System of Debits and Credits Debit side (Dr.)Assets + ExpensesDebit (Dr.) to increaseCredit (Cr.) to decreaseNormal balance = DebitCredit side (Cr.)Liabilities + Equities + RevenuesCredit (Cr.) to increaseDebit (Dr.) to decreaseNormal balance = Credit*For the accounting equation to be in balance,the sum of debit entries must always be equalto the sum of the credit entries.
12 The Accounting CycleAccounting cycle: a logical series of steps that accountants follow to keep necessary accounting records and prepare financial statements.
13 The Accounting Cycle 6-Step Accounting Cycle Sort business transactions into an appropriate number of debits and credits to be entered on accounting recordsRecord these transactions (as debit and credit entries) in a journal for later posting to general ledgerAt the end of each month, post journal entries to general ledger
14 The Accounting Cycle 6-Step Accounting Cycle (continued) Make adjusting entries to general ledgerAdjusting entries result from the need to match expenses with revenues in accordance with the accrual concept“Closing the books” at the end of the year - all “temporary” accounts are closed outTemporary accounts: accounts that begin the new year with a zero balance (generally, income statement accounts)After the closing process, financial statements for period are prepared
15 The Closing Process Close out revenue and expense accounts Transfer these balances to income summary accountClose income summary account to capital accountAll permanent accounts must be balancedAll permanent accounts must be double ruled, with balances brought forward to the beginning of the next accounting periodFinancial statements are developed for end of the period
16 The Closing ProcessAfter the closing process, an income statement and balance sheet can be constructed directly from the accounts.The resulting income statement is essentially a written statement of the closing process.