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CHAPTER 2
ANALYZING AND RECORDING TRANSACTIONS
Related Assignment Materials
Student Learning Objectives
Questions
Quick
Studies*
Exercises*
Problems*
Beyond the
Numbers
Conceptual objectives:
C1. Explain the steps in processing
transactions and the role of
source documents.
3, 6, 9
2-1
2-1
2-5
2-3, 2-4,
2- 6, 2-9
C2. Describe an account and its use
in recording transactions.
1,2, 14
2-2
2-2
2-4
2-4, 2-6
C3. Describe a ledger and a chart of
accounts.
2-13
2-1, 2-2,
2-3, 2-5, 2-6
C4. Define debits and credits and
explain their role in double-
entry accounting.
7
2-3, 2-4
2-3
2-1, 2-2, 2-3
2-6
Analytical objectives:
A1. Analyze the impact of
transactions on accounts and
financial statements.
.
2-5
2-5, 2-6,
2-9, 2-11,
2-12,2 16,
2-18, 2-20,
2-21
2-1, 2-2,
2-3,2- 4,
2-5, 2-6
2-1, 2-2,
2-4, 2-5,
2-6, 2-7,
2-8,
A2. Compute the debt ratio and
describe its use in analyzing
financial condition.
2-22
2-4
2-1, 2-2,
2-7, 2-8,
2-10
Procedural objectives:
P1. Record transactions in a journal
and post entries to a ledger.
3, 4,5
2-6
2-7, 2-11,
2- 12, 2-19
2-1, 2-2,
2-3, 2-5
P2. Prepare and explain the use of a
trial balance.
8
2-7
2-8, 2-10,
2-20, 2-21
2-1, 2-2,
2-3, 2-5, 2-6
P3. Prepare financial statements
from business transactions.
10, 11, 12,
13,15, 16,
17, 18
2-2,2-8
2-13, 2-14,
2-15, 2-17,
2-23
2-4
2-4, 2-7,
2-8
2-2
Additional Information on Related Assignment Material
The Serial Problem for Success Systems continues in this chapter. Problems 2-2A & 2-4A can be
completed using Excel. Problem 2-2A, 2-3A, and the Serial Problem can be completed with Sage 50
Complete Accounting Software or QuickBooks Software.
Connect (Available on the instructor’s course-specific website) repeats all numerical Quick Studies, all
Exercises and Problems Set A. Connect provides new numbers each time the Quick Study, Exercise or
Problem is worked. It allows instructors to monitor, promote, and assess student learning. It can be used
in practice, homework, or exam mode
Synopsis of Chapter Revisions
• Nom Nom Truck: NEW opener with new entrepreneurial assignment
• Reorganized discussion and presentation of assets, liabilities, and equity accounts
• Revised description of journalizing and posting of transactions
• New headings on each general journal for this chapter’s major illustration introducing our
unique four-step transaction analysis
• Revised global view and included Piaggio’s (abbreviated) balance sheet
• Updated debt ratio discussion using recent Skechers’s information
Narrated PowerPoint Correlation Guide
Learning Objective
Slides
C1
2-3
C2
4-9
C3
10
C4
11-14
P1
15-18
A1
19-24
P2
25-27
P3
28-32
A2
35
2-3
VISUAL #2-1
THREE PARTS OF AN ACCOUNT
(1) ACCOUNT TITLE
Left Side
Right Side
called
called
(2) DEBIT
(3) CREDIT
Rules for using accounts
Accounts are assigned balance sides (Debit or Credit).
To increase any account, use the balance side.
To decrease any account, use the side opposite the balance.
Finding account balances
If total debits = total credits, the account balance is zero.
If total debits are greater than total credits, the account has a debit
balance equal to the difference of the two totals.
If total credits are greater than total debits, the account has a
credit balance equal to the difference of the two totals.
VISUAL #2-2
REAL ACCOUNTS
ALL ACCOUNTS ARE ASSIGNED BALANCE SIDES
VISUAL #2-3
TEMPORARY ACCOUNTS
Temporary accounts are established to facilitate efficient accumulation of
data for statements. Temporary accounts are established for withdrawals,
2-6
VISUAL #2-4
USING ACCOUNTS - SUMMARY
Real Accounts
All Asset Accts
All Liability Accts
All Equity Accts
Debit +
⎯
⎯
Credit +
⎯
Credit +
Balance
Balance
Balance
RULE REVIEW
Temporary Accounts
Transaction analysis rules
• Each transaction affects at least 2
accounts.
• Each transaction must have equal
debits and credits.
All Withdrawal
Accounts
Debit +
⎯
Balance
General account use rules
• To increase any account, use balance
All Revenue Accounts
side.
⎯
Credit +
• To decrease any account, use side
Balance
opposite the balance
All Expense Accounts
Debit +
⎯
Balance
Chapter Outline
Notes
I. Analyzing and Recording Process—steps include:
A. Analyzing each transaction and event from source documents.
Source documents are business papers that identify and describe
economic events and transactions. Examples: sales tickets, checks,
purchase orders, bills, and bank statements. Source documents
provide objective and reliable evidence about transactions and
events.
B. Record relevant transactions and events in a journal.
C. Post journal information to ledger accounts.
D. Prepare and analyze the trial balance.
II. The Account and its Analysis
A. An account is a record of increases and decreases in a specific
asset, liability, equity, revenue, or expense item.
B. Accounts are arranged into three basic categories based on the
accounting equation. Categories are:
1. Assets—resources owned or controlled by a company that
have future economic benefit. Examples include Cash,
Accounts Receivable, Note Receivable, Prepaid Expenses,
Prepaid Insurance, Office Supplies, Store Supplies,
Equipment, Buildings, and Land.
2. Liabilities—claims (by creditors) against assets, which means
they are obligations to transfer assets or provide products or
services to others. Examples include Accounts Payable, Note
Payable, Unearned Revenues, and Accrued Liabilities.
a. Unearned revenue—revenue collected before it is earned;
before services or goods are provided.
b. Accrued liabilities—amounts owed that are not yet paid.
3. Equity—owner’s claim on company’s assets is called equity or
owner’s equity. Examples include Owner’s Capital, Owner’s
Withdrawals (decreases in equity). Revenues (results from
providing goods or services; i.e. Sales, Fees Earned) increases
equity. Expenses (results from assets or services used in
operation; i.e. Supplies Expense) decreases equity.
III. Analyzing and Processing Transactions
A. The general ledger or ledger (referred to as the books) is a record
containing all the accounts a company uses.
B. The chart of accounts is a list of all accounts in the ledger with
their identification numbers.
C. A T-account represents a ledger account and is a tool used to
understand the effects of one or more transactions. Has shape like
the letter T with account title on top.
Chapter Outline
Notes
IV. Debits and Credits
A. The left side of an account is called the debit side. A debit is an
entry on the left side of an account.
B. The right side of an account is called the credit side. A credit is an
entry on the right side of an account.
C. Accounts are assigned balance sides based on their classification
or type.
D. To increase an account, an amount is placed on the balance side,
and to decrease an account, the amount is placed on the side
opposite its assigned balance side.
E. The account balance is the difference between the total debits and
the total credits recorded in that account. When total debits
exceed total credits the account has a debit balance. When total
credits exceed total debits the account has a credit balance. When
two sides are equal the account has a zero balance.
V. Double-Entry Accounting—requires that each transaction affect, and
be recorded in, at least two accounts. The total debits must equal total
credits for each transaction.
A. The assignment of balance sides (debit or credit) follows the
accounting equation.
1. Assets are on the left side of the equation; therefore, the left, or
debit, side is the normal balance for assets.
2. Liabilities and equities are on the right side; therefore, the
right, or credit, side is the normal balance for liabilities and
equity.
3. Withdrawals, revenues, and expenses really are changes in
equity, but it is necessary to set up temporary accounts for
each of these items to accumulate data for statements.
Withdrawals and expense accounts really represent decreases
in equity; therefore, they are assigned debit balances. Revenue
accounts really represent increases in equity; therefore, they
are assigned credit balances.
B. Three important rules for recording transactions in a double-entry
accounting system are:
1. Increases to assets are debits to the asset accounts. Decreases
to assets are credits to the asset accounts.
2. Increases to liabilities are credits to the liability accounts.
Decreases to liabilities are debits to the liability accounts.
3. Increases to equity are credits to the equity accounts.
Decreases to equity are debits to the equity accounts.
Chapter Outline
Notes
VI. Journalizing and Posting Transactions
A. Four steps in processing transactions are as follows:
Journalizing--The process of recording each transaction in a journal.
1. Identify transaction and source documents.
2. Analyze using the accounting equation. (Applying double
entry accounting to determine account to be debited and
credited.)
3. Record journal entry.—record chronologically (A journal
gives us a complete record of each transaction in one place.)
a. A General Journal is the most flexible type of journal
because it can be used to record any type of transaction.
b. When a transaction is recorded in the General Journal, it is
called a journal entry. A journal entry that affects more
than two accounts is called a compound journal entry.
c. Each journal entry must contain equal debits and credits.
4. Post entry to ledger—transfer (or post) each entry from journal
to ledger.
a. Debits are posted as debit, and credits as credits to the
accounts identified in the journal entry.
b. Actual accounting systems use balance column accounts
rather than T-accounts in the ledger.
c. A balance column account has debit and credit columns
for recording entries and a third column for showing the
balance of the account after each entry is posted.
Note: To see an illustration of analyzing, journalizing and posting of 16
basic transactions refer to pages 59-64 of the textbook.
VII. Trial Balance
A. A trial balance is a list of accounts and their balances at a point in
time.
B. The trial balance tests for the equality of the debit and credit
account balances as required by double-entry accounting.
C. Three steps to prepare a trial balance are as follows:
1. List each account and its amount (from the ledger).
2. Compute the total debit balances and the total credit balances.
3. Verify (prove) total debit balances equal total credit balances.
D. When a trial balance does not balance (the columns are not equal),
an error has occurred in one of the following steps:
1. Preparing the journal entries.
2. Posting the journal entries to the ledger.
3. Calculating account balances.
Chapter Outline
Notes
4. Copying account balances to the trial balance.
5. Totaling the trial balance columns.
(Note: Any errors must be located and corrected before preparing
the financial statements. Financial Statements prepared from the
trial balance are actually unadjusted statement. The purpose,
content and format for each statement was presented in Chapter 1.
The next chapter will address adjustments)
E. Correcting Errors
1. Approach to correcting errors depends on the kind of error and
when it is discovered.
2. Correcting entries may be necessary.
F. Presentation Issues
1. Dollar signs are not used in journals and ledgers but do appear
in financial statements and other reports such as a trial
balance.
2. Usual practice on statements is to put dollar signs before the
first and last number in each column.
3. Commas are optional except for financial reports were they
are always used.
4. Companies commonly round in reports to the nearest dollar, or
even higher levels.
VIII. Global View—Compares U.S.GAAP to IFRS
A. Analyzing and recording transactions—all transactions in this
chapter are accounted for identically under both systems.
B. Financial Statements—both systems require the same 4 basic
statement but there are some differences in the presentation
sequence with a given statement.
C. Accounting controls and assurance—SOX strengthened U.S.
control procedures that insure proper principle application,
however global standards for control and enforcement are diverse.
This can yield different outcomes.
IX. Decision Analysis—Debt Ratio:
A. Companies finance their assets with either liabilities or equity.
B. A company that finances a relatively large portion of its assets
risk)
C. The debt ratio describes the relationship between a company's
liabilities and assets. It is calculated as total liabilities divided by
2-11
Alternate Demonstration Problem
Chapter Two
Record the following transactions of Speedy Computer Service, owned by
Bill Smith, for the month of March 2011.
March 1. Bill Smith invested $2000 cash in his business.
15. Bill provided services and received cash amounting to $5,400
from customers.
16. Purchased supplies on account, $100.
17. Paid for gas and oil, $880.
18. Paid salaries, 5,290.
21. Provided service on credit, $600.
28. Bill provided services and received cash amounting to $6,000.
29. Paid for truck and equipment rental, $2,075.
30. Bill withdrew $2000 for personal use.
Required:
1. Record the above transactions in general journal form.
2. Use the trial balance provided to prepare and income statement and a
balance sheet. (This trial balance was taken from the general ledger
after the posting of properly prepared transactions).
3. Explain why the company’s cash balance does not agree with net
income.
2-12
Solution: Alternate Demonstration Problem
Chapter Two
GENERAL JOURNAL
DATE
ACCOUNT TITLES AND
EXPLANATION
P.R.
DEBIT
CREDIT
March 1
Cash
2
0
0
0
00
Bill Smith, Capital
2
0
0
0
00
15
Cash
5
4
0
0
00
Service Fees Earned
5
4
0
0
00
16
Supplies
1
0
0
00
Accounts Payable
1
0
0
00
17
Gas and Oil Expense
8
0
0
00
Cash
8
0
0
00
18
Salaries Expense
5
2
9
0
00
Cash
5
2
9
0
00
21
Accounts Receivable
6
0
0
00
Service Fees Earned
6
0
0
00
28
Cash
6
0
0
0
00
Service Fees Earned
6
0
0
0
00
29
Equipment Rental Expense
2
0
7
5
00
Cash
2
0
7
5
00
30
B. Smith, Withdrawals
2
0
0
0
00
Cash
2
0
0
0
00
2-13
Speedy Computer Service
Trial Balance
March 31, 2011
Cash
3
2
3
5
00
Accounts Receivable
6
0
0
00
Supplies
1
0
0
00
Accounts Payable
1
0
0
00
B. Smith, Capital
2
0
0
0
00
B. Smith, Withdrawals
2
0
0
0
00
Service Fees Earned
1
2
0
0
0
00
Gas & Oil Expense
8
0
0
00
Equipment Rental Expense
2
0
7
5
00
Salaries Expense
5
2
9
0
00
Totals
1
4
1
0
0
00
1
4
1
0
0
00
2.
Speedy Computer Service
Income Statement
For the month ended March 3l, 2011
Fees Earned ...............................................................
$12,000
Expenses:
Equipment Rental Expense ................................
$2,075
Gas & Oil Expense ..............................................
800
Salary Expense ....................................................
5,290
Total expenses ....................................................
8,165
Net income .................................................................
$ 3,835
2-14
3.
Speedy Computer Service
Balance Sheet
March 31, 2011
Assets
Liabilities and Owner’s Equity
Cash ..................................
$3,235
Accounts payable ...........
$ 100
Accts Receivable .............
600
B. Smith, Capital ..............
3,835*
Supplies ...........................
100
Total Assets .....................
$3,935
Total liabilities and
owner’s equity .............
$3,935
*Ending capital = beginning capital (0), add investment ($2,000), add
Net Income ($3,835), less withdrawals ($2,000).
3. First, note that the cash investment ($2,000) and cash withdrawal
($2,000) affect the cash balance but do not affect the amount of net
