Accounting Cycle I

Lecture Outline

Introduction to the Accounting Cycle How to Prepare General Journal Entries Lecture Illustration I Periodic Vs Perpetual Inventory System Lecture Illustration II Posting Journal Entries to the Ledger Preparing an Unadjusted Trial Balance

The Accounting Cycle

General Journal

General Journal

Financial Statements Financial

Statements

Closing Entries

Closing Entries

General Ledger

General Ledger

Adjusting Entries

Adjusting Entries

Purpose of Accounting Cycle

The sole purpose of the accounting cycle is to enable the preparation of financial statements.

These statements are used by external users: Investors Lenders Suppliers

General Journal

Is the first record of business transactions in date order.

Date Detail Dr Cr

General ledger

The general journal entries are transferred “posted” into the general ledger.

The general ledger keeps a record of each transaction by account.

Date Detail Dr Cr Bal Dr/Cr

Preparing Journal Entries 3 StepsStep One Which accounts are being affected?

Accounts are “common” categories of A, L, E, & R of the organisation.

There will always be at least two accounts affected.

Step Two Are the accounts increasing or decreasing?

ie Is the amount of cash we have on hand increasing or decreasing after the transaction.

Preparing Journal Entries 3 StepsStep Three Apply the Debit/Credit Rule and make the journal

entry. Remember the Balance sheet equation:

A = L + O

and the profit & loss equation:

P = R – E

These can be combined to give the accounting equation:

A + E = R + L + O

Debit/Credit Rules

DEBIT NATURE: DEBIT

1. Assets

2. Expenses

CREDIT NATURE: CREDIT

1. Liabilities

2. Owners Equity

3. Revenue

Debit or Credit Nature??

Debit Nature Credit Nature

A + E = R + L + O

Debit or Credit Nature??

A.L.O.R.E

Credit Nature

Example 1

On 28th April Wiggles Ltd. purchased $1,000 worth of inventory on credit.

What is the journal entry required to record this transaction??

Solution 1

Step One: Accounts Affected?? The two accounts being affected are the

inventory account and accounts payable account (ie we purchased inventory on credit and therefore we owe our supplier money).

Solution 1

Step Two: Accounts Increasing or Decreasing Do we have more or less inventory following

this transaction?? More

Do we owe more or less money following this transaction?? More

Solution 1

Step Three Inventory is an asset, which has a debit

nature. It is increasing therefore we will debit inventory in the general journal.

Accounts payable is a liability. Liabilities have a credit nature. Accounts payable is increasing therefore we must credit this account in the general journal.

General Journal

Debit Credit

Inventory 1,000

Accounts Payable 1,000

(Inventory acquired on credit)

It is standard practice to put the debit entry first.

Example 2

On the 2nd May Wiggles Ltd. paid the $1,000 they owe to their supplier.

What is the journal entry required to record this transaction?

Solution 2

Step One: Accounts Affected?? The two accounts being affected are the cash

account and accounts payable account.

Hint Whenever the words “paid” or “received” are used

you know the cash account is being affected.

Solution 2

Step Two: Accounts Increasing or Decreasing Do we have more or less cash following this

transaction?? Less

Do we owe more or less money following this transaction?? Less

Solution 2

Step Three Cash is an asset, which has a debit nature. It

is decreasing therefore we will credit cash in the general journal.

Accounts payable is a liability. Liabilities have a credit nature. Accounts payable is decreasing therefore we must debit this account in the general journal.

General Journal

Debit Credit

Accounts Payable 1,000

Cash 1,000

(Payment to Supplier)

A narration simply explains what the journal entry is about. Narrations will not be required in this course.

Preparing Journal Entries

The Key to Preparing Journal Entries Be logical Be methodical (ie account for one part of the

transaction at a time. Don’t try to do everything at once.)

Periodic Inventory System

The amount of inventory on hand is known only twice: The beginning of the period The end of the period (following a stocktake)

The inventory account is not updated after each sale.

Perpetual Inventory System

The amount of inventory on hand is known at all times.

The inventory account is updated ‘perpetually’ (ie after each new sale).

The perpetual system has become the dominant inventory system due to the “computerisation” of business.