1

chapter 3

Accounting
Information System
 2
Learning Objectives

1. Identify and explain the basic steps in

the accounting process (accounting
cycle).
2. Analyze transactions and make and post
journal entries.
3. Make adjusting entries, produce
financial statements, and close nominal
accounts. Continued
Continued
 3
Learning Objectives

4. Distinguish between accrual and cash-

basis accounting.
5. Discuss the importance and expanding
role of computers to the accounting
process.
 4

The
The purpose
purpose of of this
this
chapter
chapter is
is to
to review
review thethe
basic
basic steps
steps ofof the
the
accounting
accounting process.
process.
 Overview of the 5

Accounting Process

Step 1 Step 2 Step 3

Business Transactions Transactions
documents recorded in posted to
analyzed journals ledgers

Recording Process

Continued
Continued
 Overview of the 6

Accounting Process
Continued from
previous slide

Step 4 Work sheet

Steps in the Trial balance (optional)
Reporting
Phase

Step 5
Adjustments

Continued
Continued
 Overview of the 7

Accounting Process
Step 6
Financial statements

Steps in the Step 7

Reporting Adjustments
Phase

Step 8
Post-closing trial
balance (optional)
 8

Recording Phase

A system of recording transactions in a way that

maintains the equality of the accounting
equation.
Assets = Liabilities + Owners’ Equity
or

A = L + OE
 9
1. Analyzing Business Documents
 Transactions are the
exchange of goods or
services between entities,
as well as other events
that have an economic
impact on a business.
 Business documents are
records that are evidence
of transactions.
 10

2. Journalizing Transactions
 A journal is an accounting record in which
business transactions are entered in
chronological order.
 Journal entries record transaction
information; debits equal credits.

General Journal Entry Format

Date Debit Entry.................................. xx
Credit Entry............................. xx
Explanation.
 11

2. Journalizing Transactions

Every journal entry involves a three-step

process:
1. Identify the accounts involved with an
event or transaction.
2. Determine whether each account
increased or decreased.
3. Determine the amount by which each
account was affected.
 12

Debits and Credits

Assets = Liabilities + Owners’ Equity
DR CR DR CR DR CR
(+) (–) (–) (+) (–) (+)

Capital Stock Retained Earnings

DR CR DR CR
(–) (+) (–) (+)

Continued
Continued
 13

Debits and Credits

Retained Earnings
DR CR
(–) (+)

Expenses Revenues
DR CR DR CR
(+) (–) (–) (+)
Dividends
DR CR
(+) (–)
 14

General Journal Page 24

Post
Date Description Ref. Debits Credits
2005
July 1 Dividends 330 25,000
Dividends Payable 260 25,000
Declared semiannual
cash dividend on
common stock.

10 Equipment 180 7,500

Notes Payable 220 7,500
Issued note for new
equipment .
 15

Example: Journal Entry

On January 2, sold merchandise costing
$60 to a customer on account for $75.
Make the journal entry.
 16

Example: Journal Entry

On January 2, sold merchandise costing
This entry assumes that the
$60 to a customer on account the
This entry assumes that for $75.
perpetual
perpetual system
system isis used.
used.
Make the journal entry.
Jan. 2 Accounts Receivable..................... 75
Sales Revenue.......................... 75
Sold merchandise on
account.
2 Cost of Goods Sold...................... 60
Inventory................................. 60
To record cost and
reduce inventory.
 17

3. Posting to the Ledger Accounts

 Posting is the process of transferring
amounts from the journal to the general
ledger.
 A ledger is a collection of accounts in
which data from transactions recorded in the
journals are posted, classified, and
summarized.
 A chart of accounts lists all accounts used
by the company.
 18

3. Posting to the Ledger Accounts

The Equipment account in the general ledger

after the purchase of July 10 (Slide 14) has
been posted would appear as follows:
Account EQUIPMENT Account No: 180
Date Item PR Debit Credit Balance
2005
July 1 Balance  10,550
10 Purchase Equipment J24 7,500 18,050

To examine the journal entry, click this button to

go to Slide 14. To return, click on the word
“July” in the entry on Slide 14.
 19
Typical Chart of Accounts
ASSETS (100-199) Long-Term Liabilities (220-239)
Current Assets (100-150) 222 Mortgage Payable
101 Cash
105 Accounts Receivable OWNERS’ EQUITY (300-399)
107 Inventory 301 Capital Stock
330 Retained Earnings
Long-Term Assets (151-199)
151 Land SALES (400-499)
152 Building 400 Sales Revenue

LIABILITIES (200-299) EXPENSES (500-599)

Current Liabilities (200-219) 500 Cost of Goods Sold
201 Notes Payable 523 Rent Expense
202 Accounts Payable 528 Advertising Expense
573 Utility Expense
 20
Reporting Phase

4. A trial balance is prepared.

5. Adjusting entries are recorded.
6. Financial statements are prepared.
7. Closing entries are made.
8. A post-closing trial balance is
prepared (optional).
 21
4. Preparing a Trial Balance
 Determine the account balance for each
T-Account.
 A trial balance is a list of all accounts
and their balances. It provides a means
to assure that debits equal credits.
 XYZ Company 22
Trial Balance
December 31, 2005

Debits Credits
Cash $ 21
Accounts Receivable 15
Inventory 12
Land 200
Accounts Payable $ 30
Capital Stock 150
Retained Earnings 24
Sales Revenue 919
Cost of Goods Sold 850
Advertising Expense 10
Misc. Expenses 15 ______
Total $ 1,123 $ 1,123
 23
5. Preparing Adjusting Entries

Adjusting entries are required at the end of

each accounting period for accrual- basis
accounting, prior to preparing the financial
statements. The purpose for adjusting
entries are to:
• bring balance sheet accounts current.
• reflect proper amounts of revenues,
costs, and expenses on the income
statement.
 24
Tips
Tips Regarding
Regarding Adjusting
Adjusting Entries
Entries

 Analytical Process. You must determine

what original entry was made (if any) and
what the ending balances should be before
you know what adjusting entry to make.
You cannot memorize adjusting entries.
 Adjusting entries always incorporate a
balance sheet account and an income
statement account.
 Adjusting entries never involve a cash
account.
 25
Most
Most Common
Common Adjusting
Adjusting Entries
Entries
• Unrecorded Revenues—Revenues that have been earned but not yet
recorded.
• Unearned Revenues—Revenues that have been recorded but not yet earned.
• Unrecorded Expenses—Expenses that have been incurred but not yet
recorded.
• Prepaid Expenses—Expenses that have been recorded but not yet incurred.
 Three-Step
Three-Step Process
Process for
for 26

Adjusting
Adjusting Entries
Entries

1. Identify the original entries that were

made, if any. Original entries are only
made for unearned revenues and prepaid
expenses.
2. Determine what the correct balances
should be at this point in time.
3. Make the adjustments needed to bring
the balances to the desired amounts.
 27
Asset
Asset Depreciation
Depreciation
Rosi, Inc. purchased buildings in 2000 at a
cost of $156,000, an expected life of 20 years,
and no anticipated residual value. Each year,
5% of the cost is depreciated. At the end of
2005, the following adjusting entry is made:
Adjusting Entry
12/31 Depreciation Expense—Buildings 7,800
Accumulated Depr.—Buildings 7,800
To record depreciation
on building at 5% per year.
 28
Bad
Bad Debts
Debts
An estimation of bad debts based on the
ending receivables balance reveals that the
allowance account needs to be increased by
$1,100.
Adjusting Entry
12/31 Bad Debts Expense 1,100
Allowance for Bad Debts 1,100
To adjust for estimated bad
debts expense.
 29
Bad
Bad Debts
Debts
Later, on March 19 that a $150 receivable is
deemed to be uncollectible. Using the
allowance account, the uncollectible account
is written off the books.
3/19 Allowance for Bad Debts 150
Accounts Receivable 150
To write off an uncollectible
account.
Note
Note that
that thisthis entry
entry isis not
not an
an adjusting
adjusting
entry.
entry. ItIt isis made
made when
when the the account
account isis
determined
determined to to be
be uncollectible.
uncollectible.
 30
Accrued
Accrued Expenses
Expenses
At the end of the fiscal period, Rosi, Inc.
had accrued salaries and wages totaling
$2,150.

Adjusting Entry
12/31 Salaries and Wages Expense 2,150
Salaries and Wages Payable 2,150
To record accrued salaries and
wages.
 31
Accrued
Accrued Revenues
Revenues

Rosi, Inc. holds a note receivable from a

customer on which interest total $250 has
accrued.

Adjusting Entry
12/31 Interest Receivable 250
Interest Revenue 250
To record accrued interest on a
note receivable.
 32
Prepaid
Prepaid Expenses
Expenses
Rosi, Inc.’s trial balance shows that the asset
account Prepaid Insurance has a balance of
$8,000. By December 31, only $3,800
applies to future periods.
Adjusting Entry
12/31 Insurance Expense 4,200
Prepaid Insurance 4,200
To record expired insurance.
$8,000
$8,000 –– $3,800
$3,800

Original
Original debit
debit to
to an
an asset
asset account
account
 33
Prepaid
Prepaid Expenses
Expenses
Rosi, Inc.’s trial balance shows that the asset
account Insurance Expense has a balance of
$8,000. By December 31, $3,800 applies to
future periods.
Adjusting Entry
12/31 Prepaid Insurance 3,800
Insurance Expense 3,800
To record expired insurance.
$8,000
$8,000 –– $4,200
$4,200

Original
Original debit
debit to
to an
an expense
expense account
account
 34
Deferred
Deferred Revenues
Revenues
Rosi, Inc. receives a payment of $2,550
from a customer prior to the services being
rendered. By December 31, $2,075 in
services have been provided. $2,550
$2,550 –
– $2,075
$2,075
Adjusting Entry
12/31 Rent Revenue 475
Unearned Rent Revenue 475
To record unearned rent revenue.

Original
Original credit
credit to
to aa revenue
revenueaccount
account
 35
Deferred
Deferred Revenues
Revenues
Rosi, Inc. receives a payment of $2,550
from a customer prior to the services being
rendered. By December 31, $2,075 in
services have been provided. $2,550
$2,550 –– $475
$475
Adjusting Entry
12/31 Unearned Rent Revenue 2,075
Rent Revenue 2,075
To record rent revenue.

Original
Original credit
credit to
to aa liability
liability account
account
 36
Inventory
Inventory

The
The partial
partial trial
trial balance
balance inin the
the
next
next slide
slide isis from
from page
page 6060 ofof
your
your textbook.
textbook. Note Note that
that the
the
firm
firm has
has $45,000
$45,000 in in inventory.
inventory.
 37
Inventory
Inventory
Rosi, Inc.
Trial Balance
December 31, 2005
Debit Credit
Cash $ 83,110
Accounts Receivable 106,500
Allowance for Doubtful Accounts $ 1,610
Inventory 45,000
Prepaid Insurance 8,000
Interest Receivable 0
Notes Receivable 28,000
Land 114,000
Buildings 156,000
Accumulated Depreciation—Buildings 39,000
 38
Inventory
Inventory

Purchases
Purchases has
has aa debit
debit balance
balance
of
of $162,600
$162,600 and
and Purchase
Purchase
Discounts
Discounts has
has aa credit
credit balance
balance
of
of $3,290.
$3,290.
 39
Inventory
Inventory
Rosi, Inc.
Trial Balance
December 31, 2005
Debit Credit
Cash $ 83,110
Accounts Receivable 106,500
Allowance for Doubtful Accounts $ 1,610
Dividends 13,600
Sales 479,500
Purchases 162,600
Purchases Discounts 3,290
Cost of Goods Sold 0
Salaries and Wages Expense 172,450
Heat, Light, and Power 32,480
 40
Inventory
Inventory
Purchases, Purchases Discounts, and Cost of
Goods Sold are affected by the adjusting
entry to update the inventory account.
Adjusting Entry
12/31 Inventory 6,000
Purchases Discounts 3,290
Cost of Goods Sold 153,310
$51,000
$51,000 –– $45,000
$45,000
Purchases ToTo close
close 162,500
To adjust inventory, cost of
goods sold, and related To
To close
close
accounts.
 41
Perpetual
Perpetual Inventory
Inventory System
System

When
When aa perpetual
perpetual
inventory
inventory system
systemisis
maintained, a When
When
separate aa sale
sale takes
takes
maintained, a separate
Purchases place,
place, the
the sale
sale is
is
Purchases account
account isis
not used.recorded
recorded similar
similar to
to
not used. The
The cost
cost of
of the
the
the periodic
the periodic
inventory merchandise
merchandise
system. isis
inventory system.
recorded
recorded by by aa debit
debit
to
to Cost
Cost ofof Goods
Goods
Sold
Sold andand aa credit
credit to to
Inventory.
Inventory.
 42

6. Preparing Financial Statements

After all transactions have been recorded, a

trial balance is prepared, adjusting entries are
made, and the financial statements are
prepared.
Record Prepare Make Prepare
Trans- Trial Adjusting Financial
actions Balance Entries Statements
 43
7. The Closing Process
 Real accounts are permanent accounts not
closed to a zero balance at the end of the
accounting period. These accounts are carried
forward to the next period.
 Nominal accounts are temporary accounts that
are closed to a zero balance at the end of each
accounting period.
 Closing entries reduce all nominal accounts to
a zero balance.
 44
7. The Closing Process

Revenues Retained Earnings

Beg. Bal. xxx
xxx Bal. xxx
Revenues

Since
Since the
the revenue
revenue account
account isis aa
nominal
nominal account,
account, itit isis closed
closed at
at
the
the end
end ofof the
the period
period to to
Retained
Retained Earnings.
Earnings.
 45
7. The Closing Process
Retained Earnings
Beg. Bal. xxx
Revenues
Expenses

Expenses The
The expense
expense account
account isis
Bal. xxx xxx credited
credited inin order
order to
to
close
close the
the account
account atat the
the
end
end of
of the
the period.
period.
 46
7. The Closing Process
Retained Earnings

The dividends Beg. Bal. xxx

The dividends Revenues
account,
account, which
which isis also
also Expenses
nominal,
nominal, isis credited
credited Dividends
to
to close
close out
out the
the
balance.
balance.

Dividends
Bal. xxx xxx
 47
7. The Closing Process
Retained Earnings
Retained Beg. Bal. xxx
Retained Earnings
Earnings isis
aa real Revenues
real account
account and
and Expenses
always
always carries
carries aa Dividends
balance.
balance.
End. Bal. xxx

Net
Net Income
Income for for the
the
period Dividends
Dividends reduce
reduce
period isis determined
determined by by
these Retained
Retained Earnings
Earnings
these two
two items.
items.
 48
8. Post-Closing Trial Balance
• Provides a listing of all real account
balances at the end of the closing
balance.
• The trial balance assures that total
debits equal total credits prior to the
beginning of the new accounting
period.
• Only real accounts will have a balance
at this time.
 49
Example: Post-Closing Trial Balance
Jim Brewster, Inc.
Post-Closing Trial Balance
as of December 31, 2004
Debits Credits
Cash $ 8,200
Accounts Receivable 4,000
Inventory 3,000
Supplies 1,000
Accounts Payable $ 5,000
Capital Stock 10,000
Retained Earnings 1,200
Totals $16,200 $16,200
 50
Summary of the Accounting Cycle
1. Analyze transactions and business
documents.
2. Journalize transactions.
3. Post journal entries to accounts.
4. Determine account balances and prepare a
trial balance.
5. Journalize and post adjusting entries.
6. Prepare financial statements.
7. Journalize and post closing entries.
8. Prepare a post-closing trial balance.
 51
Summary of the Accounting Cycle

An
An accountant
accountant must
must
thoroughly
thoroughly understand
understand the
the
intricacies
intricacies of
of the
the accounting
accounting
cycle.
cycle. That
That means
means you!
you!
 52
Accrual Accounting

Accrual
Accrual accounting
accounting
recognizes
recognizes revenues
revenues as as they
they
are
are earned,
earned, not
not necessarily
necessarily
when
when cash
cash isis received.
received.
 53
Accrual Accounting

That’s
That’s true.
true. And,
And, accrual
accrual
accounting
accounting recognizes
recognizes expenses
expenses
as
as they
they are
are incurred,
incurred, not
not
necessarily
necessarily when
when cash
cash isis paid.
paid.
 54
Cash-Basis Accounting

Cash-basis
Cash-basis accounting
accounting isis
focused
focused on
on cash
cash receipts
receipts
and
and cash
cash disbursements.
disbursements.
 Computers and the 55

Accounting Process

There has been a

rapid increase in the
use of computers to
assist in performing
many of the tasks
found in the
accounting cycle.
 Computers and the 56

Accounting Process

Computers are well

suited to perform
many accounting
cycle tasks.
Report
Report Generation
Recall
Mathematical
Recording
Storage
Generation
Recall
Mathematical
Recording
Storage
Computations
Computations
Computers and the 57

Accounting Process
Computers
Computers will
will never
never
replace
replace the
the
accountant.
accountant.
 58

Chapter 3

The End