Acct 2210 Chp 3 The Double-Entry Accounting System (including Debit & Credit Notation) McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

LO 1 Describe business events using debit/credit terminology. 3-1

Debit/Credit Terminology =+ DebitCredit Assets DebitCredit Liabilities DebitCredit Equity Claims In every transaction, the total dollar value of all debits equals the total dollar value of all credits. 3-2

LO 2 Record transactions in T-accounts and show their effect on financial statements. 3-3

Double-Entry Accounting Let’s see how debits and credits work by looking at transactions for Collins Brokerage Services. 3-4

Collins Brokerage Services began the period with the following balances: $5,000 in cash, $4,000 in common stock, and $1,000 in retained earnings. 3-5

Event 1: Collins acquired $25,000 from the issue of common stock. 1.Increase assets (cash). 2.Increase equity (common stock). Asset Source Transaction 3-6

Event 2: Collins purchased $850 of supplies on account. 1.Increase assets (supplies). 2.Increase liabilities (accounts payable). Asset Source Transaction 3-7

Event 3: Collins collected $1,800 as an advance to provide future services over a one-year period starting March 1. 1.Increase assets (cash). 2.Increase liabilities (unearned revenue). Asset Source Transaction 3-8

Event 4: Collins provided $15,760 of services on account. 1.Increase assets (accounts receivable). 2.Increase stockholders’ equity (consulting revenue). Asset Source Transaction 3-9

Event 5: Collins purchased land for $26,000 cash. 1.Increase assets (land). 2.Decrease assets (cash). Asset Exchange Transaction 3-10

Event 6: Collins paid $1,200 cash for a one-year insurance policy with coverage starting August 1. 1.Increase assets (prepaid insurance). 2.Decrease assets (cash). Asset Exchange Transaction 3-11

Event 7: Collins collected $13,400 from accounts receivable. 1.Increase assets (cash). 2.Decrease assets (accounts receivable). Asset Exchange Transaction 3-12

Event 8: Collins paid $9,500 for salaries expense. 1.Decrease assets (cash). 2.Decrease equity (salaries expense). Asset Use Transaction 3-13

Event 9: Collins paid an $800 cash dividend. 1.Decrease assets (cash). 2.Decrease equity (dividends). Asset Use Transaction 3-14

Event 10: Collins paid $850 to settle accounts payable. 1.Decrease assets (cash). 2.Decrease liabilities (accounts payable). Asset Use Transaction 3-15

Event 11: Collins recognized $1,900 of other operating expenses on account. 1.Increase liabilities (accounts payable). 2.Decrease equity (advertising expense). Claims Exchange Transaction 3-16

Adjustment 1: Collins Consultants recognized $750 accrued interest revenue. 1.Increase assets (interest receivable). 2.Increase equity (interest revenue). Asset Source Transaction 3-17

Adjustment 2: As of December 31, 2013, Collins had earned $1,500 of the $1,800 of revenue that it deferred in Event 3. 1.Decrease liabilities (unearned revenue). 2.Increase equity (consulting revenue). Claims Exchange Transaction 3-18

Adjustment 3: As of December 31, 2013, Collins had $800 of accrued salaries expense that will be paid in Increase liabilities (salaries payable). 2.Decrease equity (salaries expense). Claims Exchange Transaction 3-19

Adjustment 4: As of December 31, 2013, Collins had used $500 of the $1,200 of insurance coverage that it had paid for in Event 6. 1.Decrease assets (prepaid insurance). 2.Decrease equity (insurance expense). Asset Use Transaction 3-20

Adjustment 5: As of December 31, 2013, a physical count of supplies on hand revealed that $125 worth of supplies were available for future use. 1.Decrease assets (supplies). 2.Decrease equity (supplies expense). Asset Use Transaction 3-21

LO 3 Record transactions using the general journal format and show their effect on the financial statements. 3-22

The General Journal Accountants initially record data from source documents into a journal. Special Journals General Journals 3-23

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LO 4 Prepare a trial balance and explain how it is used to prepare financial statements. 3-27

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LO 5 Use a return on assets ratio, debt to assets ratio, and a return on equity ratio to analyze financial statements. 3-34

Return on Assets Ratio Net Income Total Assets Evaluating performance requires considering the size of the investment base used to produce the income. This ratio measures the relationship between the level of income and the size of the investment. A larger ratio means the company did a better job of managing its assets. 3-35

Debt to Assets Ratio Total Debt Total Assets Borrowing money is risky business. This ratio helps evaluate the level of debt risk. A smaller ratio indicates that there is less debt risk for the company. 3-36

Return on Equity Ratio Net Income Stockholders’ Equity Owners are interested in this ratio to determine their return on their investment in the company. A larger ratio indicates that the owners have a higher return on their investment. 3-37

Stockholders like a lot of debt if the company can take advantage of positive financial leverage. Creditors prefer less debt and more equity because equity represents a buffer of protection. Stockholders vs. Creditors 3-38

End of Chapter Three 3-39