Recap last week

Week 3, Chapter 2

The Accounting Information System

PowerPoint presentation developed by Dr Anne Abraham and adapted by Sharron ONeill 2009 John Wiley & Sons Australia, Ltd

Review the content and purpose of the four major Financial Statements Income statement Statement of Changes in Owners Equity Statement of Financial Position Statement of Cash Flows Explain elements of the accounting framework Principles and assumptions: Monetary principle, going concern, accounting entity assumption, period assumption, historical cost, conservatism, full disclosure Qualitative characteristics: relevant, reliable, comparable, understandable, timely, cost-benefit

Week 3 The Accounting Information System

Text: Chapter 2, Learning Objectives 1-8 Demonstration Questions: PSA2.3; PSA2.6 PSA2.9, BBS2.4* Self-Study Questions: Q.1,5,8; E2.6;E2.7; E2.8; PSA2.2; PSA2.4, PSA2.7;PSA2.10 PSB2.5* * optional Outline: A) Identify and Analyse Accounting Transactions B) Journalise Transactions C) Postings to General Ledger D) Prepare Trial Balance

THE ACCOUNTING CYCLE

Steps in the accounting cycle
1. 1.Identify Identify& &analyse analysetransactions transactions

Accounting Records
Source Sourcedocuments documents

2. 2.Journalise Journalisetransactions transactions

General Generaljournal journal

3. 3.Post Postto toledger ledgeraccounts accounts

General Generalledger ledger

4. 4.Prepare Preparetrial trialbalance balanceof ofGL GL 5. 5.Prepare Preparefinancial financialstatements statements

Trial Trialbalance balance

Financial Financialstatements statements

A) ACCOUNTING TRANSACTIONS
Transactions are external exchanges of economic value between a business & one or more entities Events are internal exchanges of economic value and include price increases in assets during an accounting period (revaluations) and the allocation of the cost of the long-lived assets of an entity to different accounting periods (depreciation) Accounting must record business transactions and events because every transaction affects the assets, liabilities and equity of the business 5

IDENTIFY & ANALYSE TRANSACTIONS

What do we need to know? a) Has an economic transaction actually occurred ?
Check the source document

b) If so, is the transaction a business transaction ?

Not a personal transaction Not a transaction relating to a different business

c) What accounts are affected by the transaction and how does it affect the accounting equation?

ACCOUNTS
An account is the basic summary devise of financial accounting. Each account provides a record of the increases and decreases in the specific item indicated by the account name. eg Cash at bank, Sales revenue, Inventory Accounts are grouped into five categories:
Assets, Liabilities, Equity, Income, Expenses

IMPACT OF TRANSACTIONS ON THE ACCOUNTING EQUATION

Transaction analysis is the process of identifying the specific effects of business transactions on the accounts in the accounting equation.

ASSETS

LIABILITIES

EQUITY

Remember: Following the principles of double entry book-keeping

a business transaction
WILL cause CHANGES in at least two INDIVIDUAL accounts, but WILL NOT CHANGE the fundamental EQUALITY of the accounting equation

A list of all the accounts, and each corresponding account number, is called the Chart of Accounts The group of all accounts is called the general ledger

The accounting equation must ALWAYS balance.

EXTENDING THE ACCOUNTING EQUATION

*Share * Retained Capital Earnings Income

EXAMPLE
Stuart Lang decided to start a cleaning business on 1st January 2010. He withdrew $20,000 from his own bank account and opened a new business bank account.
Is this a transaction (if so, what is the source document)? Yes, Bank deposit slip Is this a business transaction? Yes changes the business bank account balance How does this affect the accounting equation?
Assets = = = 0 + Liabilities + Equity Capital 20,000

Assets = Liabilities +
Permanent accounts Statement of financial position Temporary accounts income statement & changes in equity

Equity
Dividends Expenses

Note: for a sole trader or partnership the Share Capital and Retained Earnings accounts are replaced by a single account for each owner called Capital-Owners Name the Dividends account is replaced by a Drawings account

Cash 20,000

Demonstration Question PSA 2.3

Recall the steps in the accounting cycle
1. Analyse each transaction in terms of its effects on the accounts 2. Enter transaction information in a journal 3. Transfer journal information to appropriate accounts in the general ledger 4. Prepare a Trial Balance 5. Prepare financial statements

B) Step 2. Recording Business Transactions in the GENERAL JOURNAL

General journal entries:

Are prepared in chronological order Record the effects of each business transaction Show the amounts to be debited or credited to the accounts in the general ledger
So, what is a Debit? What is a Credit?

Debit means LEFT hand side Credit means RIGHT hand side
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This exercise will demonstrate steps 1 and 5

Debit Asset

Credit Liabilities + Equity

DEBITS and CREDITS BY ACCOUNT TYPE

Double entry system: each transaction affects at least two accounts total debits must equal total credits
Debits Asset

Example
So, if a business took a bank loan of $4,000 on 6 Jan
Debit Assets Cash 4,000
CASH AT BANK 1/1 Bal. 2,000 6/1 Loan 4,000

Credits Liabilities + Equity

= = =

Credit Liabilities Bank loan 4,000

Credit Equity

1. Dr/Cr rules for Asset and Liability accounts

ASSETS Debit to Increase Normal balance Credit to Decrease LIABILITIES Debit to Decrease Credit to Increase Normal balance
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BANK LOAN 6/1 Cash 4,000

RECALL: THE ACCOUNTING EQUATION

*Share Share * Retained Capital Earnings Income

Debit and credit procedures continued

2. Dr/Cr rules for Owners Equity accounts:
a. Share Capital
SHARE CAPITAL Debit to decrease Credit to increase Normal balance

Assets = Liabilities +

Equity
Dividends Expenses

Share capital is an equity a/c, and so normal balance will be the same sign as the Equity (i.e. Credit) Retained earnings is an equity a/c, and so normal balance will be the same sign as Equity (i.e. Credit) Income increase equity and so normal balance will be the same sign as the Equity (i.e. Credit) Dividends (or Drawings) and Expenses decrease equity and so normal balance will be the opposite sign (i.e. Debit)

b. Retained Earnings

RETAINED EARNINGS Debit to decrease Credit to increase Normal balance

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Debit and credit procedures continued

c. Dividends
Dividends DIVIDENDS Debit to Credit to Increase decrease Decrease increase Normal balance

Equity section of Statement of Financial Position

Account shown Share capital Retained Earnings Calculated by: Total sum invested into the business by its shareholders Opening balance of retained earnings + Profit Loss

3. Dr/Cr procedures for Income & Expenses:

EXPENSES Debit to Credit to increase decrease Normal balance INCOME (REVENUES) Debit to Credit to decrease increase Normal balance

or

from the Income Statement

Balance of the Dividends account

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THE GENERAL JOURNAL

A journal is a chronological record of all transactions The complete effect of a transaction is disclosed in one place This helps prevent errors as debit and credit amounts are easily compared

EXAMPLE of JOURNALISING
Transaction: Ted purchased $2,000 stationery on account from Officeworks Ltd on the 12th January 2010. This transaction is recorded in the general journal as follows:
Date Details A/c 130 210 Debit 2,000 2,000 Credit

12 / 1 / 10 Stationery Accounts Payable

Purchased stationery from Officeworks 19

Demonstration Question PSA 2.6

Recall the steps in the accounting cycle
1. Analyse each transaction in terms of its effects on the accounts 2. Enter transaction information in a general journal 3. Transfer journal information to appropriate accounts in the general ledger 4. Prepare a Trial Balance 5. Prepare financial statements

C) THE GENERAL LEDGER

Contains all asset, liability and equity accounts
The General Ledger
Individual asset accounts
Equipment Land Supplies Cash

Individual liability accounts

Interest Payable Salaries Payable Accounts Payable Bank Loan

Individual equity accounts

Salaries Expense Service Revenue Share Capital Retained Profits

Part b) will demonstrate steps 1 & 2

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THE POSTING PROCESS

Posting is the procedure where information is transferred from the general journal entries to the general ledger accounts Steps in the process:
1. 2. 3. 4. 5. Find the account to be debited Enter the transaction date in the account Enter name of other account that will be credited Enter amount of the debit Go back to the journal and tick the account number to show that part of the entry has been posted
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EXAMPLE of POSTING
Recall our journal entry:
Date Details A/c 130 210 Debit 2,000 2,000 Credit 12 / 1 / 10 Stationery Accounts Payable
Purchased stationery from Officeworks

This journal is posted to the general ledger as follows: Stationery

12/1 Ac Pay. 2,000

130

Accounts Payable

210

6. Repeat steps 1-5 for the account to be credited

12/1 Stationery 2,000

Demonstration Question PSA 2.6

Recall the steps in the accounting cycle
1. Analyse each transaction in terms of its effects on the accounts 2. Enter transaction information in a journal 3. Transfer journal information to appropriate accounts in the general ledger 4. Prepare a Trial Balance 5. Prepare financial statements

D) THE TRIAL BALANCE

A trial balance is a list of all the accounts and their balances at a given time listed in order as they appear in general ledger, with totals The totals prove the equality of debits and credits after the posting process has been completed Steps to prepare a trial balance
1. List account numbers, titles and balances 2. Calculate totals for debit and credit columns 3. Verify debit total equals credit total
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Part c) will demonstrate step 3

THE TRIAL BALANCE example

True Tax Services LTD Trial Balance as at 31 October 2010
No. Account title 100 Cash $ 112 Prepaid Advertising 130 Office Equipment 200 Accounts Payable 213 Revenue Received in Advance 230 Bank Loan 300 Share Capital 320 Dividends 400 Service Revenue 500 Salaries Expense 510 Rent Expense $ Debit 15 200 1 100 7 000 Credit

Demonstration Question PSA 2.6 part d

Recall the steps in the accounting cycle
1. Analyse each transaction in terms of its effects on the accounts 2. Enter transaction information in a journal 3. Transfer journal information to appropriate accounts in the general ledger 4. Prepare a Trial Balance 5. Prepare financial statements

$ 2 500 1 200 5 000 10 000 500 10 000 4 000 900 28 700 $ 28 700
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Part d) will demonstrate step 4

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Limitations of a Trial Balance

Errors that a trial balance will not detect :
A missing transaction (not journalised) Posting of an incorrect journal entry A journal entry posted twice An incorrect account used in the journal Offsetting errors made in recording the amount of a transaction
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Demonstration Question PSA 2.9

We will now examine an incorrectly prepared trial balance and: 1. Identify the errors that were made 2. Prepare a corrected trial balance

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PREPARATION FOR WEEK 4

Do Week 3 self-study questions Check solutions on Blackboard after completing the questions Complete reflective, self-evaluation and learning strategies exercise Skim read Chapter 3. Start with the Summary of Learning Objectives on pp.172 Print a copy of Week 4 lecture material from Blackboard to bring to class Group Assignment: Sign up for groups will open on Tuesday. Make sure you signed up before you attend your next class.
Group size is between 3 and 4 students per group. You can only sign up once and within the stream you are allocated to according to your timetable.
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