2-1 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Chapter 2 Measuring Business Transactions Overview Gayle M. Richardson, CPA, Professor

2-2 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Concepts Discussed u What is the generally accepted ways of solving measurement issues of recognition, valuation, and classification? u What is a Chart of Accounts and how to recognize commonly used accounts? u What is the double-entry system and what are the rules?.

2-3 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u What are steps for transaction analysis and processing to simple transactions. u How to record transactions in the general journal u How to post transactions from the general journal to the ledger. u 7. How to prepare a trial balance and describe its value and limitations.

2-4 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Measurement Issues Explain, in simple terms, the generally accepted ways of solving the measurement issues of recognition, valuation, and classification.

2-5 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Measurement Issues u Business transactions are economic events that affect the financial position of a business entity. u To measure a transaction an accountant must decide: 1.When did the transaction occur? 2.What value should be placed on the transaction? 3.How should the components of the transaction be categorized? u Even though GAAP are followed, controversy does exist regarding these questions.

2-6 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Recognition Issue u Recognition refers to the difficulty of deciding when a business transaction should be recorded. u The is the time determined for recording a transaction. EXAMPLE: A company orders, receives, and pays for an office desk. 4 The transaction is recorded when the title transfers--when ownership changes from one business to another. u The recognition issue is not always solved easily.

2-7 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Valuation Issue u Perhaps the most controversial issue in accounting. u Valuation focuses on assigning a monetary value to a business transaction. u GAAP requires the use of historical cost. 4 Cost is defined as the exchange price associated with a business transaction at the point of recognition. 4 Purpose of accounting is to account for value in terms of cost, not in terms of value, which can change over time. 4 Value means the cost at the time of the transaction.

2-8 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Cost Principle u The cost principle is the practice of recording transactions at cost. u The market value of an asset may change over the years, but its recorded cost remains in the accounting records. u The market value is the result of the actions of independent buyers and sellers who agree on a price. u The cost principle is used because the cost is verifiable.

2-9 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Classification Issue u Classification is assigning all the transactions in which a business engages to appropriate categories or accounts. u Proper classification depends on: 1.Correctly analyzing the effect of each transaction on the business, and 2.Maintaining a system of accounts that reflects that effect.

2-10 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Discussion Q. What three issues underlie most accounting measurement decisions? A. The three issues that underlie most accounting decisions are recognition (when a transaction should be recorded), valuation (what value should be placed on the transaction), and classification (how the components should be categorized).

2-11 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Accounts and the Chart of Accounts Describe the chart of accounts and recognize commonly used accounts.

2-12 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Accounts 4 Business people need to be able to retrieve transaction data quickly and in usable form. 4 A filing system consisting of accounts is used to sort out or classify all the transactions that occur in a business. 4 Accounts are the basic storage unit for accounting data and are used to accumulate amounts from similar transactions.

2-13 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u An accounting system has a separate account for each asset, liability, and each component of owner’s equity, including revenues and expenses.

2-14 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u An accounting system has a separate account for each asset, liability, and each component of owner’s equity, including revenues and expenses. u A small organization may have only a few dozen accounts; a multinational corporation may require thousands of accounts.

2-15 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u An accounting system has a separate account for each asset, liability, and each component of owner’s equity, including revenues and expenses. u A small organization may have only a few dozen accounts; a multinational corporation may require thousands of accounts. u The group of company accounts is known as the general ledger or simply ledger.

2-16 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u An accounting system has a separate account for each asset, liability, and each component of owner’s equity, including revenues and expenses. u A small organization may have only a few dozen accounts; a multinational corporation may require thousands of accounts. u The group of company accounts is known as the general ledger or simply ledger. u The general ledger may be manual or computer-based.

2-17 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Chart of Accounts u Accounts are numbered to make them easy to find. u The list of all account numbers and names is known as the chart of accounts. u Accounts are numbered for processing and reference purposes. 4 The account number may be coded to provide information about the account. 4 An asset account typically starts with 1. 4 A liability account typically starts with 2.

2-18 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u Management needs a detailed breakdown of revenues and expenses for budgeting and operating purposes.

2-19 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u Management needs a detailed breakdown of revenues and expenses for budgeting and operating purposes. u Accounting gives management information about whether it has achieved its primary goal of earning a net income.

2-20 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Account Titles u The title should describe what is recorded in the account. u If an account title is not recognizable, examine the context of the name. 4 Determine if it is an asset, liability, owner’s investment, owner’s withdrawal, revenue, or expense. 4 Look for the kind of transaction that gave rise to the account.

2-21 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Typical Asset Accounts u Cash u Accounts Receivable u Supplies u Inventory u Office Equipment u Buildings u Land u Prepaid Rent, Prepaid Insurance

2-22 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Typical Liability Accounts u Accounts Payable u Notes or Loans Payable u Salaries Payable u Income Taxes Payable

2-23 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Not-so-typical liability account u Unearned Revenue

2-24 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Discussion Q. What is an account, and how is it related to the ledger? A. An account is the means by which management accumulates the effects of transactions; it is the basic storage unit for accounting data. The ledger is the file or book in which the company’s accounts are kept.

2-25 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-26 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-27 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-28 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-29 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-30 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense Short

2-31 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-32 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-33 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-34 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-35 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-36 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-37 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-38 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-39 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-40 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Identify each account as an Asset, Liability, Revenue or Expense

2-41 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Double-Entry System: The Basic Method of Accounting The double-entry system and rules for double entry.

2-42 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Double-Entry System u Evolved during the Renaissance. u Described by Luca Pacioli, Italy, 1494.

2-43 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Features of the Double-Entry System u Principle of duality. u Each transaction must be recorded with at least one debit and one credit so that monetary value of debits and credits are equal. u The whole system is always in balance. u All accounting systems are based on the principle of duality.

2-44 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The T Account Title of Account Debit (left) side Credit (right) side

2-45 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The T Account Illustrated Cash (1) 50,000 (2) 35,000 (5) 1,500 (4) 200 (7) 1,000 (8) 1,000 (9) 400 (11) ,500 37,200 Bal. 15,300 - Footings, the total of each side are computed. The difference between the debit side and the credit side is the account’s balance, either debit or credit.

2-46 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Analyzing and Processing Transactions u Every transaction affects at least two accounts. u Total debits must equal total credits. u Assets = Liabilities + Owner’s Equity. Assets = Liabilities + O/E Debit for increases (+) Credit for decreases (-) Debit for decreases (-) Credit for increases (+) Debit for decreases (-) Credit for increases (+)

2-47 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Application of Debit/Credit Rules to O/E Dr. Debit is commonly abbreviated Dr. Cr. Credit is commonly abbreviated Cr. + Owner’s Investment -Owner’s Withdrawal +Revenues - Expenses u Assets = Liabilities

2-48 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Mrs. Richardson’s AWE/CLR u Increased with a DEBIT u Assets u Withdrawals u Expenses u Increased with a CREDIT u Contributions u Liabilities u Revenue

2-49 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Are we having fun yet?????

2-50 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Steps in Analyzing and Processing Transactions 1. Analyze the transaction to determine its effect on assets, liabilities, and O/E. - Supported by a source document. 2. Apply the rules of double entry. - Dr. increases an asset. - Cr. Increases a liability.

2-51 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Steps in Analyzing and Processing Transactions (continued) 3. Record the entry. 4 Enter in chronological order in a journal. 4 Enter the date/debit account/debit amount on one line. 4 Enter the credit account/credit amount indented on the next line. Dr. Cr. June 1 Cash 100,000 Notes Payable 100,000 u This form is called journal form and usually is followed by an explanation. The explanation must pass the bus test.

2-52 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Steps in Analyzing and Processing Transactions (continued) 4. Post the entry. 4 Post the entry to the general ledger by transferring the date and amount to the proper account. 5.Prepare the trial balance to confirm the balance of the accounts. 4 Confirm that the accounts are still in balance after recording and posting transactions.

2-53 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Transaction Analysis Illustrated Apply the steps for transaction analysis and processing to simple transactions.

2-54 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Exercise Michelle Donato Begins Business.

2-55 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Michelle begins business. Dr. Cr. Jan. 1 Cash 4,300 Equipment1,600 Michelle, Capital 5,900 Cash Jan. 1 4,300 Michelle, Capital Jan. 1 5,900 Equipment Jan. 1 1,600

2-56 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Rents an office, pays $400 rent for the current month.

2-57 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Rents an office, pays $400 rent for the current month. Transaction Analysis Rules Entry Dr. Cr. Jan. 2 Rent Expense 400 Cash 400 Cash Jan. 1 4,300 Rent Expense Jan Jan

2-58 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Purchased repair supplies on credit $500

2-59 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Purchased repair supplies on credit $500 Dr. Cr. Jan. 4 Repair Supplies 500 Accounts Payable 500 Repair Supplies Jan Transaction Analysis Rules Entry Accounts Payable

2-60 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Purchased additional repair equipment for cash $300

2-61 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Purchased additional repair equipment for cash $300 Dr. Cr. Jan. 4 Repair Equipment 300 Cash 300 Repair Equipment Jan 1 1, Transaction Analysis Rules Entry Jan Cash Jan. 1 4,300

2-62 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Paid salary to a helper $450.

2-63 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Dr. Cr. Jan. 6 Salaries Expense 450 Cash 450 Salaries Expenses Jan Transaction Analysis Rules Entry Cash Jan. 1 4,300 Jan Paid salary to a helper $450.

2-64 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Paid $200 of amount purchased on credit in transaction c.

2-65 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Paid $200 of amount purchased on credit in transaction c. Dr. Cr. Jan. 8 Accounts Payable 200 Cash 200 Cash Jan. 1 4,300 Accounts Payable Transaction Analysis Rules Entry Jan Jan

2-66 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Withdrew $600 from the business for living expenses

2-67 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Withdrew $600 from the business for living expenses Dr. Cr. Jan. 30 Owner’s Withdrawal 600 Cash 600 Cash Michelle, Withdrawals Transaction Analysis Rules Entry Jan Jan Jan. 1 4,300 Jan

2-68 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Collects a fee of $860 for repairs completed.

2-69 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Collects a fee of $860 for repairs completed. Dr. Cr. Jan. 31 Cash 860 Repair Fees Earned 860 Cash Advertising Fees Earned Transaction Analysis Rules Entry Jan Jan. 1 4, Jan

2-70 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Still having fun?

2-71 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept u Record transactions in the general journal. The General Journal

2-72 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The General Journal u A journal is a record of all transactions u A separate journal entry is used to record each transaction

2-73 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The General Journal u Entries include the following: u The date u Names of the accounts debited and the dollar amounts u Names of the accounts credited and the dollar amounts u An explanation of the transaction

2-74 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Posting u Post transactions from the journal to the ledger

2-75 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The Trial Balance 4 The total of debits and credits in the accounts must be equal. 4 A trial balance is prepared periodically (usually on the last day of the month) to test this equality. 4 Steps in preparing a trial balance: 1. List each ledger account that has a balance, debit balances in the right column, credit balances in the left column. 2. Add (foot) each column. 3. Compare the totals of the two columns.

2-76 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept The trial balance proves whether or not the total of all debits recorded equals the total of all credits recorded.

2-77 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept An account may have a balance other than its normal balance. n An asset account may have a credit balance. n A liability account may have a debit balance. 4 The trial balance proves whether or not the total of all debits recorded equals the total of all credits recorded. 4 It does not prove that the transactions were analyzed correctly or recorded for the correct amounts or in the proper accounts.

2-78 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Trial Balance u Is there something wrong??

2-79 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Q. Arrange the following six items in sequence to show the flow of events through the accounting system: a. Analysis of the transaction b. Debits and credits posted from the journal to the ledger c. Occurrence of a business transaction d. Preparation of the financial statements e. Entry made in the journal f. Preparation of the trial balance A. c, a, e, b, f, d Discussion

2-80 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Explain, in simple terms, the generally accepted ways of solving the measurement issues of recognition, valuation, and classification. 2. Describe the chart of accounts and recognize commonly used accounts. OK, LET’S REVIEW...

2-81 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Define double-entry system and state the rules for double entry. 4.Apply the steps for transaction analysis and processing to simple transactions. 5. Prepare a trial balance and describe its value and limitations. CONTINUING OUR REVIEW...

2-82 Copyright  Gayle M. Richardson, CPA. All rights reserved.Sept Congratulations! The End! Click on the TaeBo Baby