Chapter 4 The Recording Focus Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Chapter 4 Overview 4.1 Recording systems 4.2 Recording in the ledger 4.3 The trial balance 4.4 Preparing financial statements 4.5 Computer systems 4.6 Journal entries 4.7 Closing entries Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Chapter 4 Objectives Understand the double-entry system Apply the rules of debit and credit Record transactions Demonstrate the linkage between the accounting equation and debits and credits Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Chapter 4 Objectives Complete general ledger accounts using several methods Prepare a trial balance and understand what causes errors in a trial balance Produce financial statements using information from the trial balance Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Chapter 4 Objectives Prepare general journal entries Prepare closing entries Produce interim reports Introduce computerised accounting systems Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Introduction This chapter introduces: Designing a scheme which records our entries after they have been classified Double-entry accounting The mystery of debits and credits Ledgers and trial balances General journal entries Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.1 Recording systems Recording systems must satisfy 3 key requirements Efficiency Use the least amount of steps to process transactions Control Provide checks against routine errors Accessibility Easy to navigate and able to look deeper if required Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Simple recording system 4.1 Recording systems Simple recording system 1. Transaction occurs 2. Record in Ledger 3. List in Trial Balance 4. Prepare Financial Statements Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.1 Recording systems Transactions Evidence of the transaction is required Invoices, receipts, bank records, cheque butts Conduct transaction analysis Determine items affected Classify the items as elements (A, L, OE) List the change to the item (increase/decrease) Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger General ledger (what is it?) A group of accounts Each account has information about transactions Separate account for each item Examples include Cash Motor Vehicles Loan Capital Revenue Expense accounts (wages, advertising, rent, etc.) Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger The Rules of Double-Entry At least 2 items are always affected in a transaction We must always maintain the accounting equation To achieve this we use the following rules: Assets = Liabilities + Owner’s Equity Assets ↑ with a debit ↓ with a credit Liabilities ↑ with a credit ↓ with a debit Owner’s Equity ↑ with a credit ↓ with a debit Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger The Rules of Double-Entry Remember that Owner’s Equity has 4 components 1. Capital 2. Drawings 3. Revenue 4. Expenses Capital and Revenue increase Owner’s Equity Drawings and Expenses decrease Owner’s Equity Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger The Rules of Double-Entry Element Increase Decrease Assets Debit Credit Liabilities Credit Debit Owner’s Equity Credit Debit Capital (+OE) Credit Debit Revenue (+OE) Credit Debit Drawings (-OE) Debit Credit Expenses (-OE) Debit Credit Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger T-Ledger Account Name Debit side (DR) Credit side (CR) Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger EXAMPLE 4.1 Owner contributes $10 000 cash as capital Transaction analysis ITEM ELEMENT CHANGE ENTRY Cash Asset Increase DEBIT Capital Owner’s Equity Increase CREDIT Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger EXAMPLE 4.1 Owner contributes $10 000 cash as capital General ledger entries Cash (A) Capital (+OE) Dr $10 000 Cr $10 000 Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger EXAMPLE 4.2 Purchase supplies for a $1000 in cash Supplies (A) Cash (A) Dr $1000 Cr $1000 Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger EXAMPLE 4.3 Purchased equipment on credit worth $4000 Equipment (A) Accounts Payable (L) Dr $4000 Cr $4000 Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.2 Recording in the ledger EXAMPLE 4.4 Receive a telephone bill for $600 Telephone expense (-OE) Accounts Payable (L) Dr $600 Cr $600 Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.3 The trial balance The trial balance is a list of the final balance in each General Ledger Account Preparing a trial balance is the first step towards producing financial statements The trial balance provides a mechanism for finding any errors that may have occurred Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.3 The trial balance Looking for errors Errors to look for include Incorrect addition of totals Incorrect recording of the total account balance Listing an account as having a debit balance instead of a credit balance (or vice versa) Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.3 The trial balance Looking for errors Errors that may be harder to find are Forgetting a transaction completely Debit and credit entries being reversed when recorded Recording a transaction twice Transactions recorded in the wrong accounts Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.4 Preparing financial statements From the ledger to the financial reports The trial balance lists all the different accounts for an entity These are separated into two reports Income Statement Balance Sheet Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.4 Preparing financial statements From the ledger to the financial reports The income statement must be created first WHY? Because the final result (Net Profit) becomes part of the balance sheet Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.4 Preparing financial statements From the ledger to the financial reports 1. Create the income statement List all revenues, then subtract all expenses The final result is the Net Profit (or loss) This result is listed in the balance sheet 2. Create the balance sheet List all the Asset accounts List all Liabilities and Owner’s Equity accounts (including Profit) The Accounting Equation must balance: A = L+OE Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.5 Computer systems Computer systems follow 3 stages 1. Inputs (data) 2. Processing 3. Outputs (financial reports) Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.6 Journal entries The recording system introduced earlier records transactions directly into the ledger We now introduce an extra stage Journal Entries This provides a summary list of transactions before ‘posting’ the items to the ledger This ensures all entries are kept together to provide a sequential and complete record Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.6 Journal entries Enhanced recording system 1. Transaction occurs 2. Record in General Journal 3. Post to the Ledger 4. Prepare the Trial Balance 5. Prepare Financial Statements Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.6 Journal entries Owner contributes $10 000 cash as capital The Debit entry is presented first The Credit entry is slightly indented The entry is then posted to the ledger accounts Date Account Debit Credit 30/6/X5 Cash 10 000 Capital 10 000 Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Prior to completing final reports at the end of a period, various adjustments are made Revenue and Expense accounts are closed off to determine the profit (or loss) Hence the title: Closing entries Accrual adjustments are also made These are discussed in Chapter 7 Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Revenue and Expense accounts report on the ‘performance’ of a single period This means they must start at zero for each new period Assets, Liabilities and other Owner’s Equity accounts report on ‘financial position’ so they do not need to be reset to zero Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 1. Close Revenue to the Profit/Loss Summary Account 2. Close Expenses to the Profit/Loss Summary Account 3. Close Profit/Loss Summary Account to Capital Account 4. Close Drawings to the Capital Account ‘Close’ means to reduce the account balance to zero by transfering the balance to another account Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 1. Revenue accounts usually have a credit balance Debit each Revenue account (bring balances to zero) Credit the P/L Summary Account Date Account Debit Credit 30/6/X5 Revenue xxx P/L Summary xxx Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 2. Expense accounts usually have a debit balance Debit the P/L Summary Account Credit each Expense account (bring balances to zero) Date Account Debit Credit 30/6/X5 P/L Summary xxx Expenses xxx Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 3. The P/L Summary Account will have a Credit balance if a Profit was made Debit balance if a Loss was made We transfer the balance to the Capital Account Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 3. Closing the P/L Summary Account With a profit Debit the P/L Summary Account (balance = 0) Credit the Capital Account (↑OE) Date Account Debit Credit 30/6/X5 P/L Summary xxx Capital xxx Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 3. Closing the P/L Summary Account With a loss Debit the Capital Account (↓OE) Credit the P/L Summary Account (balance = 0) Date Account Debit Credit 30/6/X5 Capital xxx P/L Summary xxx Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

4.7 Closing entries Four steps to closing entries 4. Closing drawings to the Capital Account Debit the Capital Account (↓OE) Credit the Drawings Account (balance = 0) Date Account Debit Credit 30/6/X5 Capital xxx Drawings xxx Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Summary Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes

Summary Double-entry is used as an effective recording system Transactions lead to journal entries, which are posted to ledgers The ledger is summed up in the trial balance The trial balance is then used to create final reports Copyright  2004 McGraw-Hill Australia Pty Ltd. PPTs t/a Accounting by Jackling et al Prepared by Courtney Clowes