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Analyzing Business Transactions

1. Record in equation form the financial effects of a business transaction. 2. Define, identify, and understand the relationship between asset, liability, and owner’s equity accounts. Property and Financial Interest Section Objectives

Business Transactions The accounting process starts with the analysis of business transactions. Page 24

A business transaction is a financial event that changes the resources of a firm. ANSWER: QUESTION: What is a business transaction? Page 24

Beginning with Analysis Page 24

Meet Carter Consulting Services. Page 24 Carter Consulting Services is a firm that provides a wide range of accounting and consulting services. Linda Carter is the sole proprietor of the firm. Beatrice Wilson is the office manager of the firm. Every month the firm bills clients for the services provided that month. Customers can also pay in cash when the services are provided.

Page 24 Starting a Business

Linda Carter opened a checking account with $80,000 in the name of Carter Consulting Services. Carter owns the business because she supplied the property (funds). Page 24

A business transaction is analyzed to see how it affects this equation: Property = Financial Interest In a free enterprise system, all property is owned by someone.

Use these steps to analyze the effect of a business transaction. 1. Describe the financial event. Identify the property. Identify who owns the property. Determine the amount of increase or decrease. 2. Make sure the equation is in balance. Page 24 Property = Financial Interest

Record in equation form the financial effects of a business transaction. Page 24 Objective 1

Business Transaction Linda Carter withdrew $80,000 from personal savings and deposited it in a new checking account in the name of Carter Consulting Services. Page 25 (a) The business received $80,000 of property in the form of cash. Analysis: (b) Carter had an $80,000 financial interest in the business.

Page 25 Property = Financial Interest Cash = Linda Carter, Capital (b) Increased equity (a) Invested cash New balances $80,000 = $80,000 + $80,000 The equation remains in balance. Linda Carter now has $80,000 equity in Carter Consulting Services.

QUESTION: What is equity? Page 25 Equity or capital is the owner’s financial interest in a business. ANSWER:

Page 25 Purchasing Equipment for Cash

Business Transaction Carter Consulting Services issued a $20,000 check to purchase a computer and other equipment. Page 25 (c) The firm purchased new equipment for $20,000. (d) The firm paid out $20,000 in cash. Analysis:

Page 25 Cash + Equipment = Linda Carter, Capital Previous balances $80,000 = $80,000 (c) Purchased equip. + (d) Paid cash New balances $60,000 + $20,000 = $80,000 Property = Financial Interest - 20,000 $20,000 The equation remains in balance. $80,000 = $80,000

Now the firm has cash and equipment. The total value of the property remains the same, $80,000. Linda Carter’s financial interest is also unchanged, $80,000. Page 25

Page 26 Purchasing Equipment on Credit

QUESTION: What is buying on account? Page 26 Buying on account is an arrangement to allow payment at a later date. It is also called a charge account or open- account credit. ANSWER:

QUESTION: What are accounts payable? Page 26 Accounts payable are the amounts a business must pay in the future. ANSWER:

Business Transaction Carter Consulting Services purchased additional office equipment on account from Office Plus for $15,000. Page 26 (e) The firm purchased new equipment that cost $15,000. (f) The firm owes $15,000 to Office Plus. Analysis:

Page 26 Accounts = Payable (e) Purchased equipment (f) Incurred debt New balances $60,000 + $35,000 = $15,000 + $80,000 Property = Financial Interest Cash + Equipment Previous balances $60,000 + $20,000 = $80,000 Linda Carter, + Capital +15,000 +$15,000 The equation remains in balance. $95,000 = $95,000 Notice the new claim against the firm’s property – the creditor’s claim of $15,000.

Page 27 Purchasing Supplies

Business Transaction Carter Consulting Services issued a check for $2,000 to Resource Supplies Inc. to purchase office supplies. Page 27 (g) The firm purchased office supplies that cost $2,000. (h) The firm paid $2,000 in cash. Analysis:

Accounts = Payable (g) Purchased supplies (h) Paid cash New balances $58,000 + $2,000 + $35,000 = $15,000 + $80,000 Property = Financial Interest Cash + Supplies + Equipment Previous balances $60,000 + $35,000 = $15,000 + $80,000 Linda Carter, + Capital $2,000 -2,000 Page 27 The equation remains in balance. $95,000 = $95,000

Page 27 Paying a Creditor

Business Transaction In order to reduce its debt, Carter Consulting Services issued a check for $3,000 to Office Plus. Page 27 (i) The firm paid $3,000 in cash. (j) The claim of Office Plus against the firm decreased by $3,000. Analysis:

Accounts = Payable (i) Paid cash New balances $55,000 + $2,000 + $35,000 = $12,000 + $80,000 Property = Financial Interest Cash + Supplies + Equipment Previous balances $58,000 + $2,000 + $35,000 = $15,000 + $80,000 Linda Carter, + Capital (j) Decreased debt -3,000 Page 27 -$3,000 The equation remains in balance. $92,000 = $92,000

Page 28 Renting Facilities

Business Transaction Carter Consulting Services issued a check for $6,000 to pay for rent for the months of December and January. Page 28 (k) The firm prepaid the rent for the next two months in the amount of $6,000. (l) The firm decreased its cash balance by $6,000. Analysis:

Accounts = Payable (k) Paid cash New balances $49,000 + $2,000 + $6,000 + $35,000 = $12,000 + $80,000 Property = Financial Interest Cash + Supplies + Prepaid + Equipment Rent Previous balances $55,000 + $2,000 + $35,000 = $12,000 + $80,000 Linda Carter, + Capital (l) Prepaid rent -6,000 +$6,000 Page 28 The equation remains in balance. $92,000 = $92,000

Assets, Liabilities, and Owner’s Equity Page 28

Objective 2 Define, identify, and understand the relationship between asset, liability, and owner’s equity accounts. Page 28

QUESTION: What are assets? Page 28 Assets are property owned by a business. ANSWER:

QUESTION: What are liabilities? Page 28 Liabilities are debts or obligations of a business. ANSWER:

QUESTION: What is owner’s equity? Page 28 Owner’s equity is the term used for sole proprietorships. It is the financial interest of an owner of a business. It is also called proprietorship or net worth. ANSWER:

At regular intervals a balance sheet is prepared for Carter Consulting Services. Page 29

QUESTION: What is a balance sheet? Page 29 A balance sheet is a formal report of a business’s financial condition on a certain date. It reports the assets, liabilities, and owner’s equity of the business. ANSWER:

Carter Consulting Services Balance Sheet November 30, 2004 Page 29 Liabilities – the amount owed to the creditors Assets – the amount and types of property owned by the business Equity – the owner’s interest Assets Cash 49, Supplies 2, Prepaid Rent 6, Equipment 35, Total Assets 92, Liabilities Accounts Payable 12, Linda Carter, Capital 80, Total Liabilities and Owner’s Equity 92, Owner’s Equity

Assets Property equals Financial Interest Page 29 Liabilities + Owner’s Equity Property Financial Interest

REVIEWREVIEW A financial event that changes the resources of a firm is called a ___________________. ______ is the owner’s financial interest in a business. The amounts a business must pay in the future are called _______________. accounts payable Equity Complete the following sentences: business transaction

REVIEWREVIEW A ____________ is a formal report of a business’s financial condition on a certain date. ________ are the debts or obligations of a business. _______ are the property owned by a business. Assets balance sheet Liabilities Complete the following sentences:

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