Wild Fa 10e ch02 PPT PDF

Financial Statements and the
Accounting System
Chapter 2
Wild
Financial Accounting: Information for Decisions
10th Edition
Copyright ©2021 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
1-2
Chapter 2 Learning Objectives
CONCEPTUAL
C1 Describe an account and its use in recording transactions.
C2 Define debits and credits and explain double-entry accounting.
ANALYTICAL
A1 Analyze and record transactions and their impact on financial statements.
A2 Compute the debt ratio and describe its use in analyzing financial condition.
PROCEDURAL
P1 Prepare financial statements from a trial balance.
© McGraw-Hill Education.
© McGraw-Hill Education 2-2
1-3
Learning Objective C1
Describe an account and its use

in recording transactions.

1-4
Using Financial Statements

Financial statement analysis used by internal and external
users.
• Internal users use it to improve company efficiency and
effectiveness in providing products and services.
• External users use it for investing, lending, and evaluating
management.
Assessing company results – standards for comparisons
include:
• Intracompany – comparing results across two or more
periods.
• Intercompany – comparing results across competitors.
• Industry – comparing results to industry norms.
• Guidelines – comparing results to standards based on
experience. © McGraw-Hill Education
©recording
Learning Objective C1: Describe an account and its use in McGraw-Hill Education.
transactions.
1-5
Using Ratios to Analyze

Financial Statements
Four building blocks of analysis:
1. Liquidity – ability to meet short-term obligations and
generate revenues.
2. Solvency – ability to meet long-term obligations and
generate future revenues.
3. Profitability – ability to provide financial rewards to
attract and retain financing.
4. Market prospects – ability to generate positive market
expectations.
©recording
transactions.
1-6
Basis of Financial Statements

Business transactions and events are the starting points of
financial statements. The process from transactions to financial
statements is as follows:
• Identify transaction and event from source documents.

• Analyze transaction and event using the accounting
equation.
• Record relevant transactions and events in a journal.
• Post journal information to ledger accounts.
• Prepare and analyze trial balance and financial statements.
©recording
transactions.
1-7
Source Documents
Source documents identify and describe
transactions entering the accounting system.
Examples:
• Bills from suppliers
• Sales receipts
• Checks
• Purchase orders
• Payroll records
• Bank statements
© McGraw-Hill Education. All rights reserved. Authorized only for instructor
use in the
Learning classroom.
Objective No reproduction
C1: Describe an account andor
its further distribution
use in recording permitted without
transactions.
1-8
The Account Underlying Financial

Statements
An account is a
record of
The general
increases and
ledger is a record
decreases in a
of all accounts
specific asset,
used by the
liability, equity,
company.
revenue, or
expense.
use in the
Learning classroom.
transactions.
1-9
The Account and Its Analysis

Exhibit
2.1

use in the
Learning classroom.
transactions.
1-10
Asset Accounts
Cash
Accounts
Land
Receivable
Buildings
Asset Notes
Receivable
Accounts
Prepaid
Equipment
Accounts
Supplies
Learning Objective C1: Describe an account and its use in©recording transactions.
McGraw-Hill Education.
Liability Accounts
Accounts Notes
Payable Payable
Liability
Accounts
Accrued Unearned
Liabilities Revenue
Learning Objective C1: Describe an account and its use in recording transactions. © McGraw-Hill Education 2-11
Equity Accounts
+ -
Common Dividends
Stock
Equity
Accounts
+ -
Revenues Expenses

Learning Objective C1: Describe an account and its use in recording transactions.
Expanded Accounting Equation
Revenues and common stock increases equity.
Expenses and dividends decrease equity.

Ledger and Chart of Accounts
The ledger is a collection of all accounts and their
balances for an accounting system. A company’s
size and diversity of operations affect the number
of accounts needed.
The chart of accounts is a list of all
accounts and includes an
identifying number for each account. Exhibit
2.4

Learning Objective C2
Define debits and credits and

explain double-entry
accounting.

Debits and Credits
A T-account represents a ledger account
and is used to show the effects of
transactions.
Exhibit
2.5
Learning Objective C2: Define debits and credits and explain double-entry accounting. © McGraw-Hill Education 2-16
Double-Entry Accounting
Assets = Liabilities + Equity

Exhibit
2.6

Learning Objective C2: Define debits and credits and explain double-entry accounting.
Double-Entry Accounting:
Expanded Accounting Equation
Here is the expanded accounting equation
showing the equity section.
Exhibit
2.7
Learning Objective C2: Define debits and credits and explain double-entry accounting. © McGraw-Hill Education 2-18
Double-Entry Accounting:
Account Balance
An account balance is the difference between the increases
and decreases in an account. Notice the T-Account.
Exhibit
2.8

Learning Objective C2: Define debits and credits and explain double-entry accounting.
Learning Objective A1
Analyze and record

transactions and their impact
on financial statements.

Journalizing and Posting
Transactions
Exhibit
2.9

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
Journalizing Transactions
a. Transaction b. Title of accounts debited
Date and amount entered in
Debit column. Exhibit
2.10
c. Title of accounts credited

d. Transaction and amount entered in
explanation Credit column.
Learning Objective A1: Analyze and record transactions and their impact on financial statements. © McGraw-Hill Education 2-22
Balance Column Account Exhibit
2.11
T-accounts are useful illustrations, but balance

column accounts are used in practice.

Posting Journal Entries Exhibit
2.12

Processing Transactions
Double-entry accounting is useful in analyzing and
processing transactions. Analysis of each transaction
follows these four steps.
Step 1 Identify transactions and source documents.

Step 2 Analyze the transaction using the accounting equation.
Step 3 Record the journal entry.
Step 4 Post the entry (for simplicity, we use T-accounts as ledger accounts).

Processing Transactions #1
















Summarizing Transactions in a Ledger
Exhibit
2.13

Learning Objective P1
Prepare financial statements

from a trial balance.

Preparing a Trial Balance
Preparing a trial balance has three steps:
1. List each account title and its amount (from ledger) in
the trial balance.
2. Compute the total of debit balances and the total of
credit balances.
3. Verify (prove) total debit balances equal total credit
balances.

Learning Objective P1: Prepare financial statements from a trial balance.
FastForward’s Trial Balance
Exhibit
2.14 The trial
balance lists
all ledger
accounts and
their balances
at a point in
time. If the
books are in
balance, the
total debits will
equal the total
credits.

Searching for Errors
If the trial balance does not balance, the error(s)
must be found and corrected.
 Verify the trial balance  Recompute each
columns are correctly account balance in the
added. ledger.
 Verify account balances  Verify that each journal

are correctly entered from entry is posted correctly.
the ledger.
 See if debit or credit  Verify that each
accounts are mistakenly original journal entry has
placed on the trial balance. equal debits and credits.
Prepared from Trial Balance
Exhibit
2.15

1 - 48
The four financial statements and their purposes are:
1. Income statement—reports revenues less expenses incurred by a
business over a period of time.
2. Statement of retained earnings—reports changes in retained earnings
over the reporting period from net income (or loss) and from any dividends
over a period of time.
3. Balance sheet—reports the financial position (types and amounts of
assets, liabilities, and equity) at a point in time.
4. Statement of Cash Flows—lists the cash inflows and cash outflows for
the period.
**For simplicity, we do not show the statement of cash flows for FastForward in this
chapter, but we do return to this statement in the next chapter.**

Income Statement
Exhibit
2.16

Statement of Retained Earnings
Exhibit
2.16

Balance Sheet
Exhibit
2.16

Presentation Issues
1. Dollar signs are not used in journals and
ledgers.
2. Dollar signs appear in financial statements
and other reports such as trial balances.
3. Put dollar signs beside only the first and last
numbers in a column.

Learning Objective A2
Compute the debt ratio and

describe its use in analyzing
financial condition.

Debt Ratio - Equation
Total Liabilities
Debt Ratio =
Total Assets
Evaluates the level of debt risk.
A higher ratio indicates that there is a

greater probability that a company will
not be able to pay its debt in the future.

Learning Objective A2: Compute the debt ratio and describe its use in analyzing financial condition.
Debt Ratio - Computation
Total Liabilities
Debt Ratio =
Total Assets
Exhibit
2.18

Learning Objective A2: Compute the debt ratio and describe its use in analyzing financial condition.
End of Chapter 2

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Financial Statements and the

Chapter 2 Learning Objectives

Describe an account and its use

© McGraw-Hill Education 2-3

Using Financial Statements

Using Ratios to Analyze

Basis of Financial Statements

• Identify transaction and event from source documents.

The Account Underlying Financial

The Account and Its Analysis

© McGraw-Hill Education. All rights reserved. Authorized only for instructor

© McGraw-Hill Education 2-12

© McGraw-Hill Education 2-13

© McGraw-Hill Education 2-14

Define debits and credits and

© McGraw-Hill Education 2-15

Assets = Liabilities + Equity

© McGraw-Hill Education 2-17

© McGraw-Hill Education 2-19

Analyze and record

© McGraw-Hill Education 2-20

© McGraw-Hill Education 2-21

c. Title of accounts credited

T-accounts are useful illustrations, but balance

© McGraw-Hill Education 2-23

© McGraw-Hill Education 2-24

Step 1 Identify transactions and source documents.

© McGraw-Hill Education 2-25

© McGraw-Hill Education 2-26

© McGraw-Hill Education 2-27

© McGraw-Hill Education 2-28

© McGraw-Hill Education 2-29

© McGraw-Hill Education 2-30

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© McGraw-Hill Education 2-40

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© McGraw-Hill Education 2-42

Prepare financial statements

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 Verify account balances  Verify that each journal

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© McGraw-Hill Education 2-50

© McGraw-Hill Education 2-51

© McGraw-Hill Education 2-52

Compute the debt ratio and

© McGraw-Hill Education 2-53

Evaluates the level of debt risk.

A higher ratio indicates that there is a

© McGraw-Hill Education 2-54

© McGraw-Hill Education 2-55

© McGraw-Hill Education 2-56