Balance sheet

Balance sheet refers to a statement of assets, liabilities and owners equity as on a particular date
of the fiscal year of the business enterprise. It also depicts the financial status of a business
enterprise in a nutshell.

Income statement

Income statement refers to the statement that reports income or loss of a business enterprise
during a particular year. It is a statement, where sales revenues are matched with the expenses
that are incurred to earn the revenues. If the sales revenues are more than the expenses, it is
known as profit or gain, if on the other hand, expenses are more than the sales revenues, it is
known as loss. Income statement is one of the financial statements that a business enterprise
reports to its users.

T-accounts

This is a format of account with two columns indicating a debit entry on the left and credit entry
on the right.

Adjusting entries

Adjusting entries are the journal entries that are adjusted at the end of the fiscal year in order to
reflect the unearned revenues and accrued expenses that occurred during the current year.

Accrual Accounting

Accrual accounting refers to the accounting system, when revenues and expenditures are
recorded when goods and services are sold or when the expenses are incurred, irrespective of the
payment received or paid.

Assets

It is an economic resource, which is possessed or controlled to generate income in the future.

Owners equity:

It signifies the insider claim on the assets of the business. Owners equity otherwise called as
stockholders equity.

Liabilities:

Liability is an obligation to pay an assured amount for the goods or services received by the
company in the past. For example, accounts payable, debts, and accrued expenses payable.
Closing Entries

The journal entries that are recorded to transfer the revenues and expenses to clearing or
temporary accounts, and which are again transferred to retained earnings account, thereby,
reducing the balance of these temporary accounts to zero are known as closing entries.

Procedure for debiting and crediting the accounts:

Normal balance of an account:

Normal balance of an account refers to that side of the account where the increase in the account
is recorded. Normal balance means, the usual or natural balance of a particular account.

All assets accounts have normal debit balances and all liabilities accounts have normal credit
balances. Revenue account normally have credit balances, expense account normally have debit
balances.

Trial Balance

Trial balance is a statement in which all the year-end account balances of a business are shown in
separate columns as debit and credit. It helps to check the arithmetical correctness of the books
of accounts.

Procedure to be followed to prepare journal entries:

Increase in assets, increase in expenses, and decrease in liabilities should be debited.

Decrease in assets, increase in revenue, and increase in liabilities should be credited.

Adjusted Trial Balance

A Trial Balance is a statement that shows debit totals and credit totals. After the preparation of
trial balance, certain transactions would be disclosed at the end of the fiscal year and which
require adjustments.

Such transactions are adjusted with proper adjusting entries and then posted to the general ledger.
In order to equal the debits and credits after adjustments, another trial balance is prepared which
is known as adjusted trial balance.
T-Account:

For all the business transactions, journal entries are passed and are transferred to the respective
ledger accounts where it is recorded and summarized in either side of the T format.

Statement of retained earnings: This is an equity statement which shows the changes in the
owners equity over a period of time. This statement uses the information from income statement
and provides the retained earnings information over a reporting period to the balance sheet.

Classified balance sheet: The financial statement which shows organization or grouping of
similar assets and liabilities under subheadings is known as classified balance sheet.

Working Capital
Net working capital

The capital of business required for the day to day operations of a business concern is termed as
working capital. It is the excess of current assets over current liabilities.

Net working capital = Current assets Current liabilities

Debt ratio: It is the ratio of total liabilities to total assets. This ratio measures the capability of a
company to meet its long-term obligations.

Current liabilities: Liability is an organizations legal debt that occurs during the course of time.
Current liability is the debt, which company is liable to pay outsiders within a year.

Current assets:

Assets of an organization which can be liquidated within a period of one year, is termed as
current asset.

Assets:

The source which is possessed or controlled to generate income in the future is known as an
asset. For example, cash, land, inventory, prepaid expenses, and supplies.

Liabilities:
Liability is an agreement made by a company to pay a certain amount for the goods or services
received by the company in the past. For example, accounts payable, debts, and accrued
expenses payable.

Trading Security

It refers to that investment which is purchased for the purpose of sale in the short period through
active trading.

Short-term Investments:

The investment is a process of sacrificing todays money for a future return is known as
investment. Short-term investments are those investment made by the company which expires
within one year. It is a reported in the current asset section of balance sheet.

Investment: The process of sacrificing todays money for a future return is known as investment.

FOB destination point: It refers to Free on Board. It means that the freight or transport costs are
to be borne by the seller at the time of shipment. Terms of shipping and transfer of title:

The seller has to pay the shipment cost as per FOB.

The seller should not include the merchandise in transit as sales in the income statement,
until the goods reaches the buyers business.

The ownership of the goods remains with the seller, until buyer receives goods.

Sales Discount

The seller offers a concession or reduction in the selling price for early payment. This
reduction is known as sales discount.

Sales Refund

Customers have the right to return the purchased goods, when it does not meet satisfactory level
or in damaged condition. In such case, seller has the liability for cash refund to the customers for
the returned goods.

Journal entry: The record of business transactions in a chronological order in the journal is
referred to as journal entry.

FOB Shipping Point

 FOB shipping point means the ownership transfers from the seller to the buyer at the time
goods are shipped to the buyer. This has no relevance with the credit term.

Accounts receivable:

Accounts receivable is a financial claim or declaration which signifies that seller receives cash
from the buyer for the goods or services received within a short period.

Business Transactions

Transaction is an economic activity which brings about a change in the value of assets, or
liabilities, or stockholders equity of a business and hence, is recorded in the financial statements
of the company.

When analyzing a transaction, following will be entered as debit entries:

Increase in assets, dividend and expense account

Decrease in liabilities, common stock, and revenue account

When analyzing a transaction, following will be entered as credit entries:

Increase in liabilities, common stock, and revenue account

Decrease in assets, dividend and expense account

Uncollectible accounts:

Company may not be able to collect the full amount from the sales made on credit; such unpaid
amount is referred to as uncollectible accounts.

Allowance method: As the uncollectible accounts cannot be estimated at the time of sales on
account, companies make an estimate in percentage as to how much amount could be
uncollectible. Hence, this method of recording the bad debt expenses based on the estimate is
referred to as allowance method.

Accounting Equation:

The accounting equation represents the relationship among the assets, the liabilities and the
owners equity. It exhibits the effect of business transactions and remains always in balance. The
formula of accounting equation is depicted as follows:
Assets Liabilities Equity

Types of Investments:

1. Trading Security: It refers to that investment which is purchased for the purpose of sale in the
short period.

2. Held to Maturity Security: It refers to that investment which is purchased to hold the
security till the maturity date.

3. Available-for-sale Security: It refers to the investment which is purchased to sale in the

future period.

Notes receivable: It is a promissory note provided by the seller to the buyer. It is written
document in which the buyer promises to pay certain sum of money at a particular future date. It
is given by the seller to the buyer in case of a credit sale.

The amount of interest on notes receivables is calculated as follows:

Interest Principal Rate of interest Interest period

Net working Capital

The capital of business required for the day to day operations of a business concern is termed as
working capital. It is the excess of current assets over current liabilities.

Net working capital = Current assets Current liabilities

Current Ratio: It refers to the relationship between current assets and current liabilities. The
following formula is used to get the current ratio:

Current assets
Current Ratio
Current liabilities

Multi-Step Income Statement (BEST)

This is a financial statement which shows income and subtotals of expenses in detail for a given
period of time. Multi-step income statement reports gross profit, operating income, and net
income.
Stockholders equity(BEST)

Stockholders equity refers to the rights of the stockholders on the assets of the company. It is
increased by issuance of stock and net income of the company and decreased by the payment of
dividends and repurchase of treasury stock.

Statement of cash flows:

Statement of cash flows is a financial statement, which is prepared to identify and analyze the
inflow and outflow of cash of a company over a particular period of time for the following three
activities of a business:

Operating
Investing, and
Financing activities

Aging of receivables:

It is a method for estimating the uncollectible receivables by determining the balance of the
allowance for uncollectible account based on the age (time) of the individual accounts
receivable.

The seller offers a concession or reduction in the selling price for early payment. This reduction
is known as sales discount.

Sales Discount

The seller offers a concession or reduction in the selling price for early payment. This reduction
is known as sales discount.

When a company sells its goods or services by extending credit with cash discount, then the
company can record its accounts receivables depending upon the customers pay within cash
discount period or after cash discount period.

GAAP (Generally Accepted Accounting Principle) permits two methods for recording the
accounts receivable, when sales is made with cash discount, which are as follows:

1. Gross price method

2. Net price method
1. Gross price method:

If an organization expects that the customers will not pay the receivables within discount period,
then it will record the receivables and recognize the sales revenue for the amount of total invoice
price.

When the customers pays the receivables within allowable period for cash discount, then
the organization will records the difference between the cash received and the original
amount of the accounts receivable as a reduction in revenue.

But if the customer pays the receivables after the allowable period for cash discount, then
the organization will record the cash collection of total invoice price, then deduct the
accounts receivable for the same amount.

2. Net price method:

If an organization expects that the customers will pay the receivables within discount period,
then it will record the receivables and recognize the sales revenue after deducting the cash
discount from the original invoice price.

When the customers pays the receivables within allowable period for cash discount, then
the organization will records the collection of cash and deduct the accounts receivables.

But if the customer pays the receivables after the allowable period for cash discount, then
the organization will receives cash of its accounts receivables and discount amount
allowed earlier. Again revenue should be recognized for the amount of, difference
between the cash received and the original amount of the accounts receivable.

Bad Debt Expense

Since the revenues should match the expenses of a particular period of time, the bad debts are
recorded as expenses that match with the revenues of that period. Such bad debts recognized are
referred to as bad debt expense.

1. Sales without recourse:

Sales without recourse mean that the buyer (factor) bears all the risk and rewards on the asset
sold.

2. 1. Sales without recourse:

Sales without recourse mean that the buyer (factor) bears all the risk and rewards on the asset
sold.
2. Sales with recourse:

Sales with recourse mean that the seller retains all the risk and rewards on the asset sold, which
means when accounts receivables becomes uncollectible, the seller of the receivable has the
liability to pay the amount to the factor.

Economic entity assumption: Under economic entity assumption, an organization stands

as a separate economic unit. It indicates that an organization is separate from its owner
and other business.

Periodicity assumption: This assumption allows the accountant to prepare all financial
statements with a cover period of one year.

Revenue recognition principle: This principle states that the revenue

should be recognized at the point of sale.

Full disclosure principle: Full disclosure principle states that the financial
statements should be disclosed with all necessary facts, interpretations, and
circumstances.

Expense recognition (matching) principle: Expense recognition principle

indicates that expenses should be recorded in the same period when they are
incurred to earn revenues.

Historical Cost principle: Historical cost principle indicates that the value of the assets
is listed at its purchased value rather than the current market value.