Financial Accounting
description
Transcript of Financial Accounting
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Accounting and
Financial Management
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Introduction to Introduction to Accounting Accounting
Accounting & Financial Management
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• Accounting – An Information Process• Users of Accounting Information• GAAP • The Accounting Equation• Double Entry System
Introduction to Accounting Introduction to Accounting
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is the language of business.is the language of business.
Accounting...
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is an information system that...is an information system that...
measures business activities,measures business activities,
processes information, and...processes information, and...
communicates financial information.communicates financial information.
Accounting..
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Accounting is the information system that...Accounting is the information system that...
measures business activities,measures business activities,
processes data into reports, andprocesses data into reports, and
communicates results to decision makers.communicates results to decision makers.
Accounting –The Language of Business
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- a process of identifying, recording, summarizing, and reporting economic information to decision makers in the form of financial statements.
Accounting
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Definitions of Accounting• “The process of identifying, measuring, and communicating
economic information to permit informed judgements and decisions by users of the information.”
—American Accounting Association (AAA)
• “A service activity whose function is to provide quantitative information, primarily financial in nature, about economic entities that is intended to be useful in making economic decisions.”
—American Institute of Certified Public Accountants (AICPA)
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Primary Functions of Accounting• Recording data about business transactions- In the
Egyptian era they used a quill pen to record the data and stored it on papyrus scrolls. Today we might use a bar code and scan data into a computer system and store it on a magnetic disk.
• Summarizing results of business activity into useful report- The balance sheet and income statement have been standard reports for many years. More recently we added a statement of cash flows. However, managers in today's environment demand more detailed reports like sales by district or sales by product type.
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•Providing assurances that the business is operating as intended and that the assets of the organization are protected- All parties to a business event have looked to accountants to provide assurance that the transaction is properly handled, accurately recorded, and accurately reported. Throughout most of this century the assurance has been based on a system of internal controls and an audit of the published financial statements.
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Accounting as an Aid toDecision Making
• Accounting helps in decision making by showing where and when money has been spent, by evaluating performance, and by showing the implications of choosing one plan instead of another.
• Fundamental relationships in the decision-making process:
EventAccountant’sanalysis and
recording
Financialstatements
Users
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Accounting — An Information Process Accounting — An Information Process
Accounting — An Information Process Accounting — An Information Process
Identificationof Users
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UserInformation
Needs
Accounting — An Information Process Accounting — An Information Process
Accounting — An Information Process Accounting — An Information Process
Identificationof Users
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Identificationof Users
UserInformation
Needs
AccountingSystem
Accounting — An Information Process Accounting — An Information Process
Accounting — An Information Process Accounting — An Information Process
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Identificationof Users
UserInformation
Needs
AccountingSystem
Economic Dataand Activities
Accounting — An Information Process Accounting — An Information Process
Accounting — An Information Process Accounting — An Information Process
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Identificationof Users
UserInformation
Needs
AccountingSystem
Economic Dataand Activities
Reports
Accounting — An Information Process Accounting — An Information Process
Accounting — An Information Process Accounting — An Information Process
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Identificationof Users
UserInformation
Needs
AccountingSystem
Reports
Economic Dataand Activities
UserDecisions
Accounting — An Information Process Accounting — An Information Process
Accounting — An Information Process Accounting — An Information Process
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The Flow of Accounting Information
1. Business transactions occur
3. People make decisions.
2. Businesses prepare reports to Show the results of their operations
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The Flow of Accounting Information
• Accounting systems are designed to meet the needs of the decision makers who use the financial information.
• Every business maintains some type of accounting system.– These accounting systems may be very
complex or very simple, but the real value of any accounting system lies in the information that the system provides.
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Individuals
Businesses
Investors andcreditors
Governmentregulatoryagencies
Taxingauthorities
Nonprofitorganizations
Users of Accounting InformationUsers of Accounting InformationUsers of Accounting InformationUsers of Accounting Information
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EXTERNAL USERS
Financial AccountingFinancial Accounting• investors• creditors• regulators• customers• competitors
Users of Accounting InformationUsers of Accounting InformationUsers of Accounting InformationUsers of Accounting Information
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EXTERNAL USERS
Financial AccountingFinancial Accounting• investors• creditors• regulators• customers• competitors
• owners• managers• employees
INTERNAL USERS
FinancialFinancial AccountingAccounting
Users of Accounting InformationUsers of Accounting InformationUsers of Accounting InformationUsers of Accounting Information
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External usersmake decisionsabout the entity.
External usersmake decisionsabout the entity.
Internal usersmake decisionsfor the entity.
Internal usersmake decisionsfor the entity.
Users of Accounting InformationUsers of Accounting InformationUsers of Accounting InformationUsers of Accounting InformationUsers of Accounting Information
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Financial Accounting
Its focus is on reporting to external parties.
It provides financial statements based ongenerally accepted accounting principles.
It measures and records business transactions.
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Management Accounting
It measures and reports financial andnonfinancial information that helps
managers make decisions to fulfill thegoals of an organization.
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Cost Accounting
It provides information for both management accounting and financial accounting.
It measures and reports financial and nonfinancial data.
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Some Definitions to remember:• Inventory - goods held by a firm for resale to
customers• Account payable - a liability that results from the
purchase of goods or services on account• Compound entry - a transaction that affects more
than two accounts• Creditor - one to whom money is owed• Debtor - one who owes money
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Assets
• What is an asset?
• It is something a company owns which has future economic value.
– land
– building
– equipment
– goodwill
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Liability
• What is a liability?
• It is something a company owes.
– money
– service
– product
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Revenues
• What are revenues?• They are amounts received or to be
received from customers for sales of products or services.
– sales– performance of services– rent– interest
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• What are Expenses?• They are amounts that have been paid or
will be paid later for costs that have been incurred to earn revenue.
– salaries and wages– utilities– supplies used– advertising
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Owner’s Equity
• What is owner’s equity?
• It is what’s left of the assets after liabilities have been deducted.
– the same as net assets
– the owner’s claim on the entity’s assets
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Transactions that AffectOwner’s Equity
OWNER’S EQUITYINCREASES
OWNER’S EQUITYDECREASES
Owner Investmentsin the Business
Revenues Expenses
Owner Withdrawalsfrom the Business
Owner’s Equity
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OWNER’S EQUITY
Effects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s Equity
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OWNER’S EQUITY
Effects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s Equity
decreased bydecreased by
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OWNER’S EQUITY
Effects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s Equity
Owner’s withdrawals
Expenses
decreased bydecreased by
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OWNER’S EQUITY
Effects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s Equity
increased byincreased by
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OWNER’S EQUITY
Effects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s Equity
Owner’s investments
Revenues
increased byincreased by
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OWNER’S EQUITY
Effects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s EquityEffects of Transactions on Owner’s Equity
Owner’s withdrawals
Expenses
Owner’s investments
Revenues
decreased bydecreased by increased byincreased by
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The Accounting Equation
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EconomicResources
Claims toEconomicResources
The Accounting Equation
Assets = Liabilities + Owner’s Equity
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Resources
The Accounting EquationThe Accounting Equation
What are an organization’s resources called?
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Assets
Resources = Sources
The Accounting EquationThe Accounting Equation
What are the sources of the assets?
Resources usedin the business
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Assets
Liabilities
Owner’sEquity
Resources = Sources
Resources usedin the business
Resources supplied by
creditors and owners
The Accounting EquationThe Accounting Equation
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• Accounting data is represented by the following relationship among the assets, liabilities and owners’ equity of a business:
Assets = Liabilities + Owners’ Equity
• The equation must be in balance after every recorded transaction in the system.
The Basic Accounting The Basic Accounting EquationEquation
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a. Sachin deposits RS 25,000 in a bank account for ABC Ltd
ASSETS
=
Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
OWNER’S EQUITY
LIABILITIES
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a. Sachin deposits RS 25,000 in a bank account for ABC Ltd.
ASSETS
=
Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
OWNER’S EQUITYCash Cash 25,00025,000
LIABILITIES
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a. Sachin deposits RS 25,000 in a bank account for ABC Ltd.
ASSETS
=
Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
OWNER’S EQUITYCash Cash 25,00025,000
LIABILITIES
Sachin, Capital Sachin, Capital 25,00025,000
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
b. ABC Ltd. buys land for Rs 20,000.
ASSETS
=OWNER’S EQUITY
LIABILITIES
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
b. ABC Ltd. buys land for Rs 20,000.
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (20,000)(20,000)
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
b. ABC Ltd buys land for RS 20,000.
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (20,000)(20,000)
Land Land 20,00020,000
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
c. ABC Ltd buys goods for RS1,350, agreeing to pay the supplier in the near future.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
c. ABC Ltd buys goods for RS1,350, agreeing to pay the supplier in the near future.
Accounts PayableAccounts Payable1,3501,350
Purchases Purchases 1,3501,350
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
e. ABC Ltd paid: wages Rs 2,125; rent, Rs 800; utilities, Rs 450; and miscellaneous, Rs 275.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (3,650)(3,650)
e. ABC Ltd paid: wages Rs 2,125; rent, Rs 800; utilities, Rs 450; and miscellaneous, Rs 275.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (3,650)(3,650)
ExpensesExpenses(3,650)(3,650)
e. ABC Ltd paid: wages Rs 2,125; rent, Rs 800; utilities, Rs 450; and miscellaneous, Rs 275.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
f. ABC Ltd pays Rs 950 to creditors on account.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (950)(950)
f. ABC Ltd pays Rs 950 to creditors on account.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (950)(950)
Accounts PayableAccounts Payable(950)(950)
f. ABC Ltd pays Rs 950 to creditors on account.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
h. Sachin withdraws Rs 2,000 in cash.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (2,000)(2,000)
h. Sachin withdraws Rs 2,000 in cash.
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Business TransactionsBusiness TransactionsBusiness TransactionsBusiness Transactions
ASSETS
=OWNER’S EQUITY
LIABILITIES
Cash Cash (2,000)(2,000)
Sachin’s, DrawingSachin’s, Drawing(2,000)(2,000)
h. Sachin withdraws Rs 2,000 in cash.
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Transaction SummaryTransaction SummaryTransaction SummaryTransaction Summary
ASSETS
= OWNER’S EQUITY
LIABILITIES
CashCash 6,7006,700PurchasesPurchases 550550LandLand 20,00020,000
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Transaction SummaryTransaction SummaryTransaction SummaryTransaction Summary
ASSETS
= OWNER’S EQUITY
LIABILITIES
CashCash 6,7006,700Purchases Purchases 550550LandLand 20,00020,000
Accts. PayableAccts. Payable 400400
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Transaction SummaryTransaction SummaryTransaction SummaryTransaction Summary
ASSETS
= OWNER’S EQUITY
LIABILITIES
CashCash 6,7006,700PurchasesPurchases 550550LandLand 20,00020,000
Accts. PayableAccts. Payable 400400
Sachin, CapitalSachin, Capital 25,00025,000Sachin, DrawingSachin, Drawing (2,000)(2,000)Fees EarnedFees Earned 7,5007,500Wages ExpenseWages Expense (2,125)(2,125)Rent ExpenseRent Expense (800)(800)Commission (450)Commission (450)Misc. ExpenseMisc. Expense (275)(275)
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Role of Accounting
Good managers plan for the future.
They develop a budget.
A budget is a formal planstated in monetary terms.
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Role of Accounting
Accounting helps banks decideto whom they will lend money.
Accounting provides informationthat helps investors pick stocks.
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Role of Accounting
Budgeting
Information systems design
Cost accounting
Internal auditing
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Role of Accounting
Consulting Assuranceservices
includingauditing
Taxaccounting
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Accounting as an Aid toDecision Making
• Accounting information is useful to anyone who makes decisions that have economic results.• Owners want to know which employees are productive.
• investors want to know if a company is a good investment.
• Legislators want to know how a proposed law will affect budgets.
• Managers want to know if a new product will be profitable.
• Creditors want to know if they should extend credit, how much to extend, and for how long.
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ABUSIVE ACCOUNTING PRACTICES
• CREATIVE ACCOUNTING PRACTICES
– ENRON– DEBTS NOT REPORTED– RECOGNITION OF LOSSES WAS
POSTPONED– REPORT INCOME BEFORE BEING
EARNED
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Generally AcceptedAccounting Principles
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Financial Accounting
Its focus is on reporting to external parties.
It provides financial statements based ongenerally accepted accounting principles.
It measures and records business transactions.
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To provide information usefulfor making investment and
lending decisions
To provide information usefulfor making investment and
lending decisions
Generally AcceptedAccounting Principles
• What is the primary objective of financial Accounting and Reporting?
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Generally Accepted Accounting Principles and Basic Concepts
• If every accountant used his or her own rules for recording transactions, the financial statements would be useless in making comparisons.
• Therefore, accountants have agreed to apply a common set of measurement principles (a common language) to record information for financial statements. Otherwise, decision makers could not use or compare financial statements.
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Accounting:Principles and Concepts
The rules that govern accounting are called GAAP(generally accepted accounting principles).
The rules that govern accounting are called GAAP(generally accepted accounting principles).
Accountants follow professional guidelines.Accountants follow professional guidelines.
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Generally Accepted Accounting Principles and Basic Concepts
• Generally accepted accounting principles (GAAP) - a term that applies to the broad concepts or guidelines and detailed practices in accounting, including all the conventions, rules, and procedures that make up accepted accounting practice at a given time
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REGULATION OF THE ACCOUNTING PROFESSION
• Securities And Exchange Commission (SEC)
• Financial Accounting Standards Board (FASB)
• American Institute Of Certified Public Accountants (AICPA)
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Standard Setting Bodies• In the United States, GAAP is set primarily
by the private sector with government oversight.
• In many other countries, such as France,
the government actually sets accounting standards.
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Standard Setting Bodies
• Securities and Exchange Commission (SEC) - the agency designated by the U.S. Congress to hold the ultimate responsibility for authorizing GAAP for companies whose stock is held by the general investing public– The SEC has informally delegated the power to
make accounting rules to the FASB.
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Standard Setting Bodies
• Financial Accounting Standards Board (FASB) - responsible for establishing GAAP in the United States;– A private sector body consisting of seven full-
time members and a large support staff
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Standard Setting Bodies
• International Accounting Standards Board (IASB) - an organization representing over 143 accountancy boards from 104 countries that is developing a common set of accounting standards to be used throughout the world
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Standard Setting Bodies
• Interest in harmonizing accounting standards around the world by eliminating differences in accounting principles has grown.– Investors are committing more of their money
worldwide.• Many multinational companies voluntarily issue
their financial statements in conformity with the IASB standards.
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IMPORTANT CONCEPTS
• ENTITY ASSUMPTION
• GOING CONCERN
• ASSET VALUATION– HISTORICAL COST– MARKET VALUE
• LIABILITY RECOGNITION
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IMPORTANT CONCEPTS
• ACCOUNTING PERIOD– REVENUE RECOGNITION– MATCHING EXPENSES TO REVENUES
• UNIT OF MEASUREMENT
• CONSERVATISM
• FULL DISCLOSURE
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Generally Accepted Accounting Principles and Basic Concepts
The Entity Concept
• An accounting entity is an organization that stands apart from other organizations and individuals as a separate economic unit.– The entity concept helps relate events to a
clearly defined area of accountability.
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The Entity Concept
An accounting entity is anorganization that stands apartas a separate economic unit.
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The Entity Concept Example
• Assume that John decides to open up a gas station and coffee shop.
• The gas station made Rs 250,000 in profits, while the coffee shop lost Rs 50,000.
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The Entity Concept Example
• How much money did John make?
• At a first glance, we would assume that John made Rs 200,000.
• However, by applying the entity concept we realize that the gas station made Rs 250,000 while the coffee shop lost Rs 50,000.
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The entity will continueto operate in the future.The entity will continueto operate in the future.
Generally Accepted Accounting Principles and Basic Concepts
The Going Concern Concept
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Generally Accepted Accounting Principles and Basic Concepts
Going Concern Convention
• The assumption that in all ordinary situations an entity persists indefinitely– This notion implies that a company’s existing resources
will be used to fulfill the business needs of the company rather than be sold.
– If the continuity of an entity is in doubt, a liquidation approach to the balance sheet is taken, and the assets and liabilities are valued as if the entity were to be liquidated in the near future.
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•Record fixed assets at original cost and depreciate over a period of time.
•Take prepaid expenses as assets.
•Business is concerned with net income or earning capacity as compared to market values.
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Generally Accepted Accounting Principles and Basic Concepts
Materiality Convention
• A financial statement item is material if its omission or misstatement would tend to mislead the reader of the financial statements under consideration– Materiality often depends on the size of the
organization – what is material to one company might not be material to another company.
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• AAA defines
“An item should be regarded as material if there is reason to believe that knowledge of it would influence the decision of informed investor”
• Disclose only material information.
• No overburdening with minute details
• Material information differs organization to organization year to year (change in depreciation method)
• Materiality may depend upon amount or may not
be.
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Generally Accepted Accounting Principles and Basic Concepts
Convention of Conservatism:-
• “ Anticipate no profits but provide for all possible losses”
• Policy of ‘caution’ & ‘playing safe’
• Policy of safeguarding against possible losses in world of uncertainty
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Kobler defines :-
‘Conservatism’ as a guideline which chooses between
acceptable accounting alternatives for recording
events or transactions so that the least favorable
immediate effect on assets , income and owner’s
equity is reported.
Example:-
Making the provision for doubtful debts and discounts
on debtors in anticipation of actual bad debts and
discount
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Generally Accepted Accounting Principles and Basic Concepts
Cost-Benefit Criterion
• A system should be changed when the expected additional benefits of the change exceed its expected additional costs– The benefits of information should exceed the
cost of providing that information.
Benefits > Costs
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The purchasingpower is
stable.
The purchasingpower is
stable.
Generally Accepted Accounting Principles and Basic Concepts
The Stable-Monetary-Unit Concept
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Generally Accepted Accounting Principles and Basic Concepts
Stable Monetary Unit
• The monetary unit is the principle means for measuring assets and equities.– It is the common denominator for quantifying
the effects of transactions.– A stable monetary unit is one that
is not expected to significantly change in value over time.
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Assets and servicesacquired
should be recordedat their actual cost.
Assets and servicesacquired
should be recordedat their actual cost.
Generally Accepted Accounting Principles and Basic Concepts
The Cost Principle
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•Record assets at price paid to acquire and take it as base for subsequent years.
•Makes financial statements more objective.
Limitations
•Financial statements become irrelevant in case of inflation
•Remove cost of fixed assets by writing off their cost while asset may be in good condition
•Don’t show as asset for which no payment has been made for e.g knowledge ,skill of Human Resources.
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TWO METHODS
Reporting Revenue and ExpenseReporting Revenue and Expense
Cash Basis of Accounting
Accrual Basis of Accounting
Accrual BasisAccrual Basis
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Cash Basis of AccountingCash Basis of Accounting
Revenue reported when cash is received
Expense reported when cash is paid
Does not properly match revenues and
expenses
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Accrual Basis of AccountingAccrual Basis of Accounting
Revenue reported when earned
Expense reported when incurred
Properly matches revenues and expenses
in determining net income
Requires adjusting entries at end of period
It just sounds mean – it really isn’t
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ACCRUAL VS CASH ACCOUNTING
• ACCRUAL ACCOUNTING - FOCUSES ON THE ECONOMIC IMPACT OF TRANSACTIONS
• FIRM MAXIMIZES ASSETS
• CASH ACCOUNTING - FOCUSES ON WHEN CASH IS RECEIVED AND PAID OUT
• FIRM MAXIMIZES CASH
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Full Disclosure Principle
Illustration 1-14
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Revenue Principle
• When is revenue recognized?
• When it is deemed earned.
• Recognition of revenue and cash receipts do not necessarily occur at the same time.
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Revenue Principle
The revenue principle governs two things:
When to record revenue and…
the amount of revenue to record.
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Revenue Principle
photos
Disney
World
Situation 2The client has taken a trip arranged by
Air & Sea Travel. – Record Revenue
Situation 2The client has taken a trip arranged by
Air & Sea Travel. – Record Revenue
Air & SeaTravel, Inc.
April 2
Air & SeaTravel, Inc.
Situation 1No transaction has occurred.
– Do Not Record Revenue
Situation 1No transaction has occurred.
– Do Not Record Revenue
March 12I plan to have youmake my travelarrangements.
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Recognition of Revenues
• Recognition - a test to determine whether revenues should be recorded in the financial statements for a given period
• To be recognized, revenue must be:– Earned - goods are delivered or a service is
performed– Realized - cash or a claim to cash (credit) is
received in exchange for goods or services
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The Matching Principle
• What is the matching principle?
• It is the basis for recording expenses.
• Expenses are the costs of assets and the increase in liabilities incurred in the earning of revenues.
• Expenses are recognized when the benefit from the expense is received.
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The Matching Principle
It is the basis for recordingexpenses and includes two steps:
Identify all the expenses incurredduring the accounting period.
Measure the expenses and matchexpenses against revenues earned.
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The Matching Principle
RevenueRevenue – ExpenseExpense = Net incomeNet income
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The Matching Principle
RevenueRevenue – ExpenseExpense = (Net loss)(Net loss)
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Revenues Rs 15,000Cost of goods sold 8,000Net income Rs 7,000
May
Example Matching Expenses with Revenues
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Managers adopt anartificial period of time
to evaluate performance.
Managers adopt anartificial period of time
to evaluate performance.
Accounting Period concept
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Interacts with the revenue principle and the matching principle
Interacts with the revenue principle and the matching principle
Requires that income be measured
accurately each period
Requires that income be measured
accurately each period
Accounting Period concept
• It requires that accounting information be reported at regular intervals.
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Accounting Period concept The Time-Period Concept
Businesses need regular progress reports,so accountants prepare financial statementsfor specific periods and at regular intervals.
Monthly
Quarterly
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Dual concept
• Accounting information is based on the double entry system.
• Under this system, the two-sided effect of a transaction is recorded in the appropriate accounts.
• The recording is done by means of a “debit-credit” convention (set of rules) applying to all accounts.
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The Accounting Equation
Assets are the economic resourcesof a business that are expected toproduce a benefit in the future.
Liabilities are “outsider claims,”or economic obligations
payable to outsiders.
Owners’ equity represents the“insider claims” of a business.
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The Reliability Concept
The quality of information that assures decision makers that the information captures the conditions or events it
purports to represent– Reliable data are supported by convincing
evidence that can be verified by independent parties.
– The impact of events should be measured in a systematic, reliable manner.
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Information mustbe reasonably
accurate.
Information mustbe reasonably
accurate.
Information mustbe free from bias.Information mustbe free from bias.
Information must report what
actually happened.
Information must report what
actually happened.
Individuals wouldarrive at similar
conclusions usingsame data.
Individuals wouldarrive at similar
conclusions usingsame data.
The Reliability (Objectivity) concept
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The Double Entry SystemThe Double Entry System
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Double-Entry AccountingDouble-Entry AccountingDouble-Entry AccountingDouble-Entry Accounting
“ Double-entry accounting is based on a
simple concept: each party in a business
transaction will receive something and give
something in return. In bookkeeping terms,
what is received is a debit and what is given
is a credit. The T account is a representation
of a scale or balance.”
Scale or Balance
ReceiveDEBIT
GiveCREDIT
T account
Left SideReceiveDEBIT
Right SideGive
CREDITLuca PacioliDeveloper ofDouble-EntryAccounting
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One debit One credit
Each transaction is recorded with at least:
Total debits must equal total credits.
The Double-Entry SystemThe Double Entry SystemThe Double Entry System
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The Double-Entry System
• Each transaction must still be analyzed to determine which accounts are involved, whether the accounts increase or decrease, and how much the balance will change.
The Double Entry SystemThe Double Entry System
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The Double-Entry system
• Some businesses enter into thousands of transactions daily or even hourly.– Accountants must carefully keep track of and
record these transactions in a systematic manner.
• Accountants use a double-entry accounting system in which at least two accounts are always affected by each transaction.
The Double Entry SystemThe Double Entry System
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Classification of Accounts
• There are some asset accounts?– Cash– Notes Receivable– Accounts Receivable– Prepaid Expenses– Land– Building– Equipment
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Classification of Accounts
• There are some liability accounts?
– Notes Payable
– Accounts Payable
– Accrued Liabilities (for expenses incurred but not paid)
– Long-term Liabilities (bonds)
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Classification of Accounts
• There are some owner’s equity accounts?
– Capital or owner’s interest in the business
– Withdrawals
– Revenues
– Expenses
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Classification of Accounts
• Real Account = Debit –What comes in
Credit- what goes out
• Personal Account = Debit –Receiver
Credit - Giver
• Nominal Account =Debit –Expenses/Losses
Credit- Incomes/Gains
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The system records the two-sided effect of transactions
Transaction Two-sided effect
Bought furniture for cash Decrease in one asset Increase in another asset
Took a loan in cash Increase in an asset Increase in a liability
The Double-Entry systemThe Double Entry SystemThe Double Entry System
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Note that the accounting equation equality is maintained after recording
each transaction.
The Double Entry SystemThe Double Entry System
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XYZ Ltd.XYZ Ltd.A Sole ProprietorshipA Sole Proprietorship
XYZ Ltd.XYZ Ltd.A Sole ProprietorshipA Sole Proprietorship
“ On November 1, 2002, A started a sole
proprietorship called XYZ Ltd. The following
double-entry transactions show how amounts
received (debits) always equal amounts given
(credits).”
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Amit deposits Rs25,000 in a bank account for XYZ Ltd..
Business TransactionsBusiness Transactions
Journal
receiveDebit
giveCredit
XYZ Ltd(investee)
Amit (investor)
giveCredit
Entry A.
Date Description Debit Credit
11/1
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Amit deposits Rs25,000 in a bank account for XYZ Ltd..
Business TransactionsBusiness Transactions
l Journal
receiveDebit
giveCredit
XYZ Ltd.(investee)
Cash
Amit (investor)
giveCredit
Entry A.
Date Description Debit Credit
11/1 Cash 25,000
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Amit deposits Rs 25,000 in a bank account for XYZ Ltd..
Business TransactionsBusiness Transactions
Journal
Date Description Debit Credit
11/1 Cash 25,000 Amit, Capital 25,000
receiveDebit
giveCredit
XYZ Ltd.(investee)
Cash A promiseto the owner
Amit (investor)
giveCredit
Entry A.
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XYZ Ltd. buys land for Rs20,000.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd(buyer)
Land Owner (seller)
giveCredit
Entry B.
Journal
Date Description Debit Credit
11/5
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XYZ Ltd. buys land for Rs20,000.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd(buyer)
Land
Land Owner (seller)
giveCredit
Entry B.
General Journal
Date Description Debit Credit
11/5 Land 20,000
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XYZ Ltd. buys land for Rs 20,000.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd(buyer)
Land Cash
Land Owner (seller)
giveCredit
Entry B.
Journal
Date Description Debit Credit
11/5 Land 20,000 Cash 20,000
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XYZ Ltd. buys supplies for Rs1,350, agreeing to pay in the near future.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd(buyer)
Supplier (seller)
giveCredit
Entry C.
Journal
Date Description Debit Credit
11/10
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XYZ Ltd. buys goods for Rs1,350, agreeing to pay in the near future.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(buyer)
Supplies
Supplier (seller)
giveCredit
Entry C.
General Journal
Date Description Debit Credit
11/10 Purchases 1,350
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XYZ Ltd. buys goods for Rs1,350, agreeing to pay in the near future.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(buyer)
Supplies
Supplier (seller)
giveCredit
Entry C.
A promiseto pay later
Journal
Date Description Debit Credit
11/10 purchases 1,350 Accounts Payable 1,350
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XYZ Ltd. earns fees of Rs7,500, receiving cash.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(seller)
Customer (buyer)
giveCredit
Entry D.
Journal
Date Description Debit Credit
11/18
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XYZ Ltd. earns fees of Rs7,500, receiving cash.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(seller)
Cash
Customer (buyer)
giveCredit
Entry D.
Journal
Date Description Debit Credit
11/18 Cash 7,500
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XYZ Ltd. earns fees of Rs7,500, receiving cash.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(seller)
Cash
Customer (buyer)
giveCredit
Entry D.
Services
Journal
Date Description Debit Credit
11/18 Cash 7,500 Fees Earned 7,500
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Date Description Debit Credit
XYZ Ltd. paid: wages, Rs 2,125; rent, Rs 800; commissions, Rs450; and misc, Rs275.
Business TransactionsBusiness Transactions
Journal
receiveDebit
giveCredit
XYZ Ltd.(buyer)
Various suppliers
giveCredit
Entry E.
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Date Description Debit Credit
11/18 Wages Expense 2,125Rent Expense 800Commission 450Misc. Expense 275
XYZ Ltd. paid: wages, Rs 2,125; rent, Rs 800; commissions, Rs450; and miscellaneous, Rs275.
Business TransactionsBusiness Transactions
Journal
receiveDebit
giveCredit
XYZ Ltd.(buyer)
Services,benefits
Various suppliers
giveCredit
Entry E.
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Date Description Debit Credit
11/18 Wages Expense 2,125Rent Expense 800Commission 450Misc. Expense 275 Cash 3,650
XYZ Ltd. paid: wages, Rs 2,125; rent, Rs 800; commissions, Rs 450; and misc Rs 275.
Business TransactionsBusiness Transactions
Journal
receiveDebit
giveCredit
XYZ Ltd.(buyer)
Services,benefits
Various suppliers
giveCredit
Entry E.
Cash
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XYZ Ltd. pays Rs950 to creditors on account.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(payor)
Supplier (payee)
giveCredit
Entry F.
Journal
Date Description Debit Credit
11/30
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XYZ Ltd. pays Rs950 to creditors on account.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(payor)
Reduction in obligation
Supplier (payee)
giveCredit
Entry F.
Journal
Date Description Debit Credit
11/30 Accounts Payable 950
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XYZ Ltd. pays Rs950 to creditors on account.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(payor)
Reduction in obligation
Supplier (payee)
giveCredit
Entry F.
Cash
Journal
Date Description Debit Credit
11/30 Accounts Payable 950 Cash 950
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Amit withdraws Rs 2,000 in cash.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(payor)
Amit (payee)
giveCredit
Entry H.
Journal
Date Description Debit Credit
11/30
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Amit withdraws Rs 2,000 in cash.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(payor)
Reduction in obligation
Amit (payee)
giveCredit
Entry H.
Journal
Date Description Debit Credit
11/30 Amit, Drawing 2,000
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Amit withdraws Rs 2,000 in cash.
Business TransactionsBusiness Transactions
receiveDebit
giveCredit
XYZ Ltd.(payor)
Reduction in obligation
Amit (payee)
giveCredit
Entry H.
Cash
Journal
Date Description Debit Credit
11/30 Amit, Drawing 2,000 Cash 2,000
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The Accounting CycleThe Accounting Cycle
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1. Analyze the transaction2. Journalize the transaction3. Post the transaction to accounts in ledger4. Prepare the trial balance5. Prepare financial statements
The Accounting Cycle: The Accounting Cycle: StepsSteps
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The Recording Process
• The sequence of steps in recording transactions:
Transactions Documentation Journal
FinancialStatements
TrialBalance
Ledger
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The Recording Process
• The process starts with source documents, which are the supporting original records of any transaction.– Examples are sales slips or invoices, check
stubs, purchase orders, receiving reports, and cash receipt slips.
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The Recording Process
• In the second step, an analysis of the transaction is placed in the book of original entry, which is a chronological record of how the transactions affect the balances of applicable accounts.– The most common example is the
general journal - a diary of all events (transactions) in an entity’s life.
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The Recording Process
• In the third step, transactions are entered into the ledger.– Remember that a transaction is not entered in
just one place; it must be entered in each account that it affects.
– Depending on the nature of the organization, analysis of the transactions could occur continuously or periodically.
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The Recording Process
• The fourth step includes the preparation of the trial balance, which is a simple listing of all accounts from the ledger with their balances.– Aids in verifying accuracy and
in preparing the financial statements– Prepared periodically as necessary
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The Recording Process
• In the final step, the financial statements are prepared.– Financial statements may be prepared after each
quarter of the year.– the companies may prepare
financial statements at various other intervals to meet the needs of their users.
December 2002
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1. Transactions are analyzed and recorded in journal.
DocumentsJournal
Journal, Ledger, Trial BalanceJournal, Ledger, Trial Balance
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1. Transactions are analyzed and recorded in journal.
DocumentsJournal
2. Transactions are posted from journal to ledger.
Journal Ledger
Journal, Ledger, Trial BalanceJournal, Ledger, Trial Balance
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1. Transactions are analyzed and recorded in journal.
DocumentsJournal
2. Transactions are posted from journal to ledger.
Journal Ledger
3. Trial balance is prepared.
Journal, Ledger, Trial BalanceJournal, Ledger, Trial Balance
Trial Balance
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Manual Accounting CycleManual Accounting Cycle
1. Transactions are analyzed and recorded in journal.
Documents Journal
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Manual Accounting CycleManual Accounting Cycle
1. Transactions are analyzed and recorded in journal.
Documents Journal
2. Transactions are posted from journal to ledger.
Journal Ledger
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Manual Accounting CycleManual Accounting Cycle
1. Transactions are analyzed and recorded in journal.
Documents Journal
2. Transactions are posted from journal to ledger.
Journal Ledger
3. Trial balance is prepared,
Trial balance
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Manual Accounting CycleManual Accounting Cycle
1. Transactions are analyzed and recorded in journal.
Documents Journal
2. Transactions are posted from journal to ledger.
Journal Ledger
3. Trial balance is prepared,
4. Financial statements areprepared and distributed.
Financial Statements
IS SOE BS
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Computerized Accounting CycleComputerized Accounting Cycle
1. Transactions are analyzed and entered in the computer.
DocumentsComputer
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Computerized Accounting CycleComputerized Accounting Cycle
1. Transactions are analyzed and entered in the computer.
DocumentsComputer
2. Preliminary reports are analyzed, adjustments areprepared and entered in thecomputer.
ComputerReports Computer
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Computerized Accounting CycleComputerized Accounting Cycle
1. Transactions are analyzed and entered in the computer.
DocumentsComputer
2. Preliminary reports are analyzed, adjustments areprepared and entered in thecomputer.
ComputerReports
3. Financial statements areprinted and distributed.
Computer
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Computerized Accounting CycleComputerized Accounting Cycle
1. Transactions are analyzed and entered in the computer.
DocumentsComputer
2. Preliminary reports are analyzed, adjustments areprepared and entered in thecomputer.
ComputerReports
3. Financial statements areprinted and distributed.
Financial Statements
IS SOE BS SCF
Computer
4. Reports are analyzed andinterpreted for decision-making purposes.
?
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JOURNAL
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Journal
• What is a journal?
• It is a list in chronological order of all the transactions for a business.
1 Identify transaction from source documents.
2 Specify accounts affected.
3 Apply debit/credit rules.
4 Record transaction with description.
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Journal entry•Journal entry - an analysis of the effects of a transaction on the accounts, usually accompanied by an explanation of the transaction
–This analysis identifies the accounts to be debited and credited.
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Journal entry
• What does a journal entry include?
– date of the transaction
– title of the account debited
– title of the account credited
– amount of the debit and credit
– description of the transaction (narration)
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Record transactions
in the journal.
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Journalizing
• Journalizing –
It is the process of entering transactions into the journal
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JOURNALIZING TRANSACTIONS
• THE JOURNAL IS A CHRONOLOGICAL LISTING OF TRANSACTIONS.
• ENTER DATE IN FIRST COLUMN• IDENTIFY APPROPRIATE ACCOUNTS• ENTER THE TITLE OF THE ACCOUNT DEBITED• ENTER THE TITLE OF THE ACCOUNT TO BE
CREDITED• INSERT APPROPRIATE AMOUNTS IN DEBIT AND
CREDIT COLUMN• INSERT A BRIEF DESCRIPTION OF
TRANSACTION
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Recording Transactions
• On April 2, Garge invested Rs 30,000 in Gay GillenTravel.
• What is the journal entry?
Date Particulars Debit Credit
April Rs
2 Cash Account Dr 30,000 To Garge Capital 30,000 (Received initial investment from owner)
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Types of journal entries:
• Types of journal entries:– Simple entry - an entry for a transaction that
affects only two accounts– Compound entry - an entry for a transaction
that affects more than two accounts
• Remember: whether the entry is simple or compound, the debits (left side) and credits (right side) must always equal.
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Ledger
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Boundbooks
Computerprintout
Cards
Loose leafpages
Ledger
• What is a ledger?
• It is a digest of all accounts utilized by an entity during an accounting period.
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Ledger Accounts
• Ledger - a group of related accounts kept current in a systematic manner
– Think of a ledger as a book with one page for each account.
Ledger
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Cash
Accts. Payable
Ledger
Accts. Receivable
Supplies
Ledger Ledger
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Cash
Accts. Payable
Ledger
A B C D
Customer AccountsAccts. Receivable
Supplies
Ledger Ledger
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Cash
LedgerLedger
Supplies
Accts. Payable
Ledger
A B C D
Customer AccountsAccts. Receivable
A B C D
Creditor Accounts
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Ledger Accounts• A simplified version of a ledger account is called
the T-account.– They allow us to capture the essence of the accounting
process without having to worry about too many details.
– The account is divided into two sides for recording increases and decreases in the accounts.
Account Title
Left Side Right Side
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Debits and Credits
• Debit (dr.) - an entry or balance on the left side of an account
• Credit (cr.) - an entry or balance on the right side of an account
• Remember:– Debit is always the left side!– Credit is always the right side!
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Post from the journal
to the ledger.
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Posting
• What is posting?
• It is the transfer of information from the journal to the appropriate accounts in the ledger.
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POSTING TO THE LEDGER
• POSTING REFERS TO TRANSFERRING THE INFORMATION IN A JOURNAL ENTRY TO THE APPROPRIATE LEDGER ACCOUNT
• ENTER DATE• ENTER AMOUNT IN PROPER DEBIT OR
CREDIT COLUMN• ENTER JOURNAL SOURCE INFO
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Date Particulars L.f Amt. Date Particulars L.f Amt.
Debit Credit
Proforma for Account
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The Account
Account Title
Debit Credit
LEFT SIDE
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The Account
Account Title
Debit Credit
RIGHT SIDE
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Ledger Accounts
• Balance - difference between total left-side amounts and total right-side amounts at any particular time– Assets have left-side balances.
• Increased by entries to the left side
• Decreased by entries to the right side
– Liabilities and Owners’ Equity have right-side balances.
• Decreased by entries to the left side
• Increased by entries to the right side
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Details of Journals and Ledgers
Date Particulars Debit CreditApril 2 Cash 30,000
Garge Capital 30,000(Received initialinvestment from owner)
Journal Page 1
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Date Ref. Particulars Amount Date Ref Particulars Amount
April 2 1 To G. Cap 30,000
Debit Cash Account Credit
Insert the number of the journal page.
Posting
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L.F. Date Description Debit Credit
12/1 Prepaid Insurance 2,400 Cash 2,400
Journal Page 1
Recording and Posting an EntryRecording and Posting an Entry
1. Analyze and record the transaction as shown.
2. Post the debit side of the transaction.
3. Post the credit side of the transaction.
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L.f Date Description Debit Credit
12/1 Prepaid Insurance 15 2,400 Cash 2,400
Journal
Ledger Prepaid Insurance Account Dr. Cr.
Page 1
Recording and Posting an EntryRecording and Posting an Entry
Date Particulars Fol.
Amt. Date Particulars Fol.
Amt.
12/1 To Cash 1 2400
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Recording and Posting an EntryRecording and Posting an Entry
Date Description L.f.Debit Credit
12/1 Prepaid Insurance 15 2,400 Cash 11 2,400
Journal
Ledger Page No.15 Prepaid insurance Account Dr. Cr.
Page 1
13 24
Date Particulars Fol. Amt. Date Particulars Fol. Amt.
12/1 To Cash 1 2400
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TRIAL BALANCE
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TRIAL BALANCE
What is a Trial balance?
• It is an internal document.
• It is a listing of all the accounts with their related balances.
• It provide a check on accuracy by showing whether total debits equal total credits.
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TRIAL BALANCE
• A listing of all accounts with balances at the end of the accounting period after all transactions have journalized and posted
• Purpose
– to determine that debits = credits
– to identify accounts to be adjusted
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TRIAL BALANCE
• A listing of all accounts with balances at the end of the accounting period after all transactions have journalized and posted
• To determine that debits = credits
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Preparing the Trial Balance
• The purposes of the trial balance:– To help check on accuracy of posting by
proving whether the total debits equal the total credits
– To establish a convenient summary of balances in all accounts for the preparation of formal
financial statements
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Preparing the Trial Balance• The trial balance is usually prepared with
the balance sheet accounts first, followed by the income statement accounts.
• An example of a trial balance:
Account (Rs)Number Account Title Debit Credit
100 Cash 3,50,000 3,50,000 130 Merchandise inventory 150,000 150,000 202 Note payable 100,000 100,000 300 Paid-in capital 400,000 400,000
500,000 500,000 ==================
===================
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Locating Trial Balance Errors
• Note that a trial balance may balance even when errors were made in recording or posting.– A transaction may be recorded as different
amounts in two different accounts.– A transaction may be recorded in a wrong account.
• In both situations, the total debits will still equal total credits on the trial balance.
Dr. = Cr.
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Correcting ErrorsCorrecting Errors
Three Types of ErrorsJournal EntryJournal Entry Ledger PostingLedger Posting
1. incorrect not posted
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Correcting ErrorsCorrecting Errors
Three Types of ErrorsJournal EntryJournal Entry Ledger PostingLedger Posting
1. incorrect not posted2. correct incorrectly posted
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Correcting ErrorsCorrecting Errors
Three Types of ErrorsJournal EntryJournal Entry Ledger PostingLedger Posting
1. incorrect not posted
2. correct incorrectly postedincorrect
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DEBITS CREDITS
Locating Trial Balance Errors
• What if it doesn’t balance ?
• Is the addition correct?
• Are all accounts listed?
• Are the balances listed correctly?
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Locating Trial Balance Errors
• Divide the difference by two.
• Is there a debit/credit balance for this amount posted in the wrong column?
• Check journal postings.
• Review accounts for reasonableness.
• Computerized accounting programs usually prohibit out-of-balance entries.
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CashCash
AccountsPayable
AccountsPayable
Purchase Book
Purchase Book
LedgerLedger
All subsidiary books
combinedmake up
the ledger.
Cash transactions
liability accounts
Credit purchases
Subsidiary Books
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SELLING
BUYING
Special JournalsSpecial Journals
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Rendering of services on account
SELLING
Sales Book Sales Book recorded in
BUYING
Special JournalsSpecial Journals
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Rendering of services on account
SELLING
Sales Book Sales Book
Cash Book Cash Book
Receipt of cash from any source
recorded in
recorded in
BUYING
Special JournalsSpecial Journals
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Rendering of services on account
SELLING
Sales Book Sales Book
Cash Book Cash Book
Purchases Book Purchases Book
Receipt of cash from any source
Purchase of items on account
recorded in
recorded in
recorded in
BUYING
Special JournalsSpecial Journals
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Special JournalsSpecial Journals
Rendering of services or selling of product on account
SELLING
Sales Book Sales Book
Cash Book Cash Book
Purchases BookPurchases Book
Cash BookCash Book
Receipt of cash from any source
Purchase of items on account
Payment of cash for any purpose
recorded in
recorded in
recorded in
recorded in
BUYING
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3/2 615 MyMusicClub.com 2,2003/6 616 RapZone.com 1,7503/18 617 Web Cantina 2,6503/27 618 MyMusicClub.com 3,000
Totals 9,600
Sales Journal InvoiceDate No. Particulars Details Amount
Page 35
The Sales JournalThe Sales Journal
All sales on credit are recorded in this journal. Each sales invoice is listed in numerical order. This journal is often referred to as an invoice register.
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3/3 Howard Supplies 600 3/7 Donnelly Supplies 420 3/19 Donnelly Supplies 1,450 3/27 Howard Supplies 960
Totals 3,430
Purchases Journal Page 11
The Purchases JournalThe Purchases Journal
All purchases on account are recorded in this journal.
Date Particulars Details Amount
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Cash journals
• Single column Cash Book
= Simple cash Book
• Double column Cash Book
= Cash Book with bank column
• Triple column Cash Book
=Cash Book with Bank & Discount Column
• Petty Cash Book
= Record small cash payouts
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The Financial Statements
The financial statements are a pictureof the company in financial terms.
Each financial statement relates to a specificdate or covers a particular period.
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Information Reported on the Financial Statements
1. How well did the company perform (or operate) during the period?
Revenues– Direct Expenses Gross income (Gross loss)
TradingAccount
Question AnswerFinancialStatement
1. How well did the company perform (or operate) during the period?
Gross Profit– Indirect Expenses Net income (Net loss)
Profit and Loss
Account
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Information Reported on the Financial Statements
3. What is the company’s financial position at the end of the period?
Assets= Liabilities
+ Owners’ equity
Balancesheet
Question AnswerFinancialStatement
4. How much cash did the company generate and spend during the period?
Operating cash flows± Investing cash flows± Financing cash flowsIncrease or decrease in cash
Statementof
cashflows
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Income Statement
The income statement, reports the company’s revenues,
expenses, and net incomeor net loss for the period.
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Introduction to theIncome Statement
The The income statementincome statement is a financial is a financialtool that provides information abouttool that provides information about
a company’s past performancea company’s past performance..
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The Income Statement
RevenuesRevenues
–ExpensesExpenses
= Net incomeNet income(or Net loss)(or Net loss)
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Sales revenues– Cost of goods sold Gross profit
Operatingincome
Selling andadministrative
expenses– =
Income Statement Format
Add: Other revenues and gainsLess: Other expenses and losses
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Income Statement
Revenue - the proceeds that come from sales to customers
Cost of Goods Sold - an expense that reflects the cost of the product or good that generates revenue. .
Gross Margin - also called gross profit, this is revenue minus
COGS
Operating Expenses - any expense that doesn't fit under COGS
such as administration and marketing expenses.
Net Income before Interest and Tax - net income before taking interest
and income tax expenses into account.
Interest Expense - the payments made on the company's outstanding debt.
Income Tax Expense - the amount payable to government.
Net Income - the final profit after deducting all expenses from revenue.
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The Income Statement can be divided into:
• Trading Account
• Profit and Loss Account
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The Accounting Terms
Revenues are inflows or otherRevenues are inflows or otherenhancements of assets to an entity.enhancements of assets to an entity.
They result from delivering orThey result from delivering orproducing goods, rendering services,producing goods, rendering services,or other activities that constitute theor other activities that constitute theentity’s major or central operations.entity’s major or central operations.
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The Accounting Terms
Expenses are outflows orExpenses are outflows orother using up of assets.other using up of assets.
They result from delivering orThey result from delivering orproducing goods, rendering services,producing goods, rendering services,or other activities that constitute theor other activities that constitute theentity’s major or central operations.entity’s major or central operations.
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The Accounting Terms
– Gross profit (gross margin) - excess of sales revenue over the cost of inventory that was sold
– Operating expenses - a group of recurring expenses that pertain to a firm’s routine operations
– Operating income (operating profit) - gross profit less all operating expenses
– Other revenues and expenses - items not directly related to the main operations of a firm
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The Accounting Terms
• Net income - the remainder after all expenses (including income taxes) have been deducted from revenue– Often seen as the “bottom line”
• Net loss - the excess of expenses over revenues
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The Income StatementDANIELS COMPANY
Income Statement
for the Year Ended June 30, 2002
Sales Rs98,600
Expenses:
Wages expense Rs45,800
Rent expense 12,000
Carriage 6,500
Depreciation expense 5,000
Total expenses 69,300
Net Income Rs29,300==============
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Proforma for the Trading Account for the year ending on
31.12.2005
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Particulars Amount Particulars Amount
Opening stock
Purchases
Less:- Returns
:-Drawings
Direct Expenses:-
• Carriage inward
• Wages
• Fuel & Power
• Manf. Expenses
• Coal, water & gas
• Foreman/Works
• Manager’s salary
• Royalty on manf.
Goods
• Gross profit c/d(bal)
Sales
Less: Returns
Closing stock
Goods Lost by fire
(Gross Loss c/d)
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Proforma for the Profit and Loss Account for the year
ending on 31.12.2005
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Profit and Loss Account for the period ending on -----Debit Credit
Particulars Amount Particulars Amount
Gross loss b/d
Selling & Dist Exp :-
• Advertisement
• Traveller’s Salary, exp. & commission
• Bad Debts
Administration Expenses
• Rent, Rates & Taxes
• Office salaries
• Printing & Stationary
Net Profit c/d (bal)
Gross Profit b/d
Interest Received
Discount Received
Comm. Received
Net Loss c/d
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Introduction to theBalance Sheet
The The balance sheetbalance sheet is the financial is the financialtool that focuses on the presenttool that focuses on the present
condition of a business.condition of a business.
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The Balance Sheet
• The Balance sheet shows the financial position of a company at a particular point in time.– The balance sheet is also referred to as the
statement of financial position or the statement of financial condition.
• The left side lists assets – the right side lists liabilities and owners’ equity
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The Accounting Elements
Probable future economic benefitsProbable future economic benefitsobtained or controlled by aobtained or controlled by aparticular entity as a resultparticular entity as a resultof past transactions events.of past transactions events.
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The Accounting Elements
Probable future sacrifices of economicProbable future sacrifices of economicbenefits arising from present obligationsbenefits arising from present obligationsof a particular entity to transfer assetsof a particular entity to transfer assets
or provide services to other entitiesor provide services to other entitiesin the future as a result of pastin the future as a result of past
transactions or events.transactions or events.
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The Accounting Elements
The residual interest in the assetsThe residual interest in the assetsof an entity that remains afterof an entity that remains after
deducting its liabilities.deducting its liabilities.
InvestmentInvestmentby ownersby owners
EarnedEarnedequityequity
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Formats of Balance Sheets
• Balance sheet formats:– Report format - a classified balance sheet with
assets at the top and liabilities and equity below– Account format - a classified balance sheet with
assets at the left and liabilities and equity at the right
• Regardless of format, balance sheets always contain the same basic information.
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Balance Sheet Transactions
• The balance sheet is affected by every
transaction that an entity encounters.
• Each transaction has counterbalancing entries that keep total assets equal to total liabilities and owners’ equity.
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BALANCE SHEET
• RESOURCES AVAILABLE FOR USE BY THE FIRM (ENTITY)
• ASSETS - PROBABLE FUTURE ECONOMIC BENEFITS
• HOW RESOURCES ARE FINANCED
• LIABILITIES - DEBT OWED TO OTHERS
• OWNERS’ EQUITY - INVESTMENT BY OWNERS– DIRECT– INDIRECT
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The Balance SheetSTEVENS COMPANY
Balance Sheet as on June 30, 2005
Liabilities Assets
Owner’s Equity
Hamilton, capitalReservesSecured LoansUnsecured LoansCurrent liabilities:
Wages payable Tax payableBills Payable
Bank balance Cash balance
Fixed Assets: Land
Plant Equipment
Total Fixed Asset
Current assets:
Bills Receivable
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LIABILITIES ASSETS
SHARE CAPITAL Authorised Issued Subscribed Less:- Calls unpaid Add:- Forfeited shares RESERVES AND SURPLUS SECURED LOANS UNSECURED LOANS: CURRENT LIABILITIES AND PROVISIONS: A. CURRENT LIABILITIES: a) Acceptances. b) Sundry Creditors c) Subsidiary companies. d) Advance Payments e) Unclaimed dividends f) Other liabilities (if any) g) Interest accrued but not due on loans. B. PROVISIONS a) Provision for taxation. b) Proposed dividends. c) For contingencies.
FIXED ASSETS a) Land , b) Buildings, c) Goodwill, d) Plant and Machinery e) Furniture and fittings f) Patents, trade marks and designs. INVESTMENTS: a) Investments in Government or Trust Securities, in shares, debentures or bonds, b) Immovable Properties. CURRENT ASSETS, LOANS AND ADVANCES: (A) Current Assets: a) Interest accrued on Investments. b) Stores and Spare Parts,c) Loose Tools d) Stock in trade, e) Works in progress. f) Sundry Debtors, g) Cash balance on hand h) Bank balances (B) LOANS AND ADVANCES: a) Advances and loans to subsidiaries. b) Bills of Exchange. c) Advances recoverable in cash or in kind MISCELLANEOUS EXPENDITURE: a) Preliminary expenses. b) Expenses including commission or brokerage on underwriting or subscription of shares or debentures. c) Discount allowed on the issue of shares or debentures.
PROFORMA BALANCE SHEET
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The Balance Sheet
• Elements of the balance sheet:– Assets - resources of the firm that are expected to
increase or cause future cash flows (everything the firm owns)
– Liabilities - obligations of the firm to outsiders or claims against its assets by outsiders (debts of the firm)
– Owners’ Equity - the residual interest in, or remaining claims against, the firm’s assets after deducting liabilities (rights of the owners)
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Classifying Assets and Liabilities
Current assets
Long-term assets
Current liabilities
Long-term liabilities
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XYZ Ltd.Trial Balance
November 30, 2002
Cash 5,900Purchases 550Land 20,000Accounts Payable 400Amit, Capital 25,000Amit, Drawing 2,000Fees Earned 7,500Wages Expense 2,125Rent Expense 800Commission 450Supplies Expense 800Miscellaneous Expense 275
32,900 32,900
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XYZ Ltd.Trial Balance
November 30, 2002
Cash 5,900Purchases 550Land 20,000Accounts Payable 400Amit, Capital 25,000Amit, Drawing 2,000Fees Earned 7,500Wages Expense 2,125Rent Expense 800Commission 450Supplies Expense 800Miscellaneous Expense 275
32,900 32,900
BalanceSheet
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IncomeStatement
XYZ Ltd.Trial Balance
November 30, 2002
Cash 5,900Purchases 550Land 20,000Accounts Payable 400Amit, Capital 25,000Amit, Drawing 2,000Fees Earned 7,500Wages Expense 2,125Rent Expense 800Commission 450Supplies Expense 800Miscellaneous Expense 275
32,900 32,900
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XYZ Ltd.
Balance Sheet Income Statement
1. Assets11 Cash12 Accounts Receivable14 purchases15 Prepaid Insurance17 Land18 Office Equipment
2. Liabilities21 Accounts Payable23 Unearned Rent
3. Owner’s Equity31 Amit, Capital32 Amit, Drawing
4. Revenue41 Sales5. Expenses51 Wages Expense52 Rent Expense54 Commission55 Supplies Expense59 Miscellaneous
Expense
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SummaryOriginal evidence
recordsAccounting
recordsFinancial
Statements
Sourcedocuments
Journals
Ledger
Trial Balance
Statement of cash flows
Balance Sheet
Profit and LossStatement
ClosingEntries