ACCOUNTING PRINCIPLES and PROCESS Ricardo R. Palo, CPA, MBA

Generally Accepted Accounting Principles

The Accounting Cycle Identification and Measurement of Transactions and Other Events Journalization General journal Cash receipt journal Cash disbursements journal Purchases journal Sales journal Other special journals Reversing entries (optional) Post-closing trial balance (optional) Posting General ledger (usually monthly) Subsidiary ledgers (usually daily) Closing (nominal accounts) Trial Balance Preparation Statement preparation Income statement Retained earnings Balance sheet Cash Flows Adjustments Accruals Prepayments Estimated items Work Sheet (optional) Adjusted Trial Balance

Select economic events (transactions) Accounting Process Communication Recording Identification Prepare accounting reports Select economic events (transactions) Record, classify, and summarize Analyze and interpret for users

Transaction Identification Each transaction must be analyzed in terms of its effect on: (a) the three components of the basic accounting equation (i.e. ASSETS, LIABILITIES & CAPITAL) (b) specific types (kinds) of items within each component (i.e. Account Titles as indicated in the CHART OF ACCOUNTS) The equality of the equation must be maintained for every transaction.

Discuss services offered with potential client Events Purchase supplies Discuss services offered with potential client Pay rent Is the financial position (assets, liabilities, and owner’s equity) of the company changed? Criterion No Yes Yes Don’t Record Record Record Record/ Don’t Record

CHART OF ACCOUNTS Assets Owner’s Equity 101 Cash 301 E. Fernandez, Capital 112 Accounts Receivable 306 E. Fernandez, Drawing 113 Inventory 350 Income Summary 130 Prepaid Insurance 157 Equipment Revenues 158 Accumulated Depreciation—Office Equipment 400 Service Revenue Liabilities Expenses 200 Notes Payable 501 Advertising Expense 201 Accounts Payable 502 Depreciation Expense 209 Unearned Revenue 210 Accrued Revenue 503 Supplies Expense 504 Insurance Expense 212 Salaries Payable 505 Salaries Expense 230 Interest Payable 506 Rent Expense 507 Utilities Expense

INCREASES DECREASES Investments by owner Owner’s Equity Withdrawals by owner Revenues/Gains Expenses/Losses

Transaction Analysis TRANSACTION (1). INVESTMENT BY OWNER. Eric Fernandez decides to open a clinic which he names Caring Hands. On September 1, 2007, he invests $15,000 cash in the business.

Transaction Analysis TRANSACTION (2). PURCHASE OF EQUIPMENT FOR CASH. Caring Hands purchases equipment for $7,000 cash.

Transaction Analysis TRANSACTION (3). PURCHASE OF SUPPLIES ON CREDIT. Caring Hands purchases supplies for $1,600, expected to be paid next month.

Transaction Analysis TRANSACTION (4). SERVICES PROVIDED FOR CASH. Caring Hands receives $1,200 cash from customers for professional services it has provided. Service Revenue 16,200 16,200

Transaction Analysis TRANSACTION (5). PURCHASE OF ADVERTISING ON CREDIT. Receives a bill for $250 from the Rural News for advertising but postpones payment of the bill until a later date. Advertising Expense 16,200 16,200

Transaction Analysis TRANSACTION (6). SERVICES PROVIDED FOR CASH AND CREDIT. Caring Hands provides $3,500 of medical services for customers. Cash of $1,500 is received from customers, and the balance of $2,000 is billed on account. Service Revenue

Transaction Analysis TRANSACTION (7). PAYMENT OF EXPENSES. Expenses paid in cash for September are rent $600, salaries of employees $900, and utilities $200. Rent Expense Salaries Expense Utilities Expense

Transaction Analysis TRANSACTION (8). PAYMENT OF A LIABILITY. Caring Hands pays its $250 Rural News advertising bill in cash.

Transaction Analysis TRANSACTION (9). COLLECTION OF A RECEIVABLE. The sum of $600 in cash is received from customers who have previously been billed for services [in Transaction 6].

Transaction Analysis TRANSACTION (10). WITHDRAWAL OF CASH BY OWNER. Erik Fernandez withdraws $1,300 in cash from the business for his personal use. Drawings

Tabular Summary of Caring Hands Transactions

Record, classify, and summarize Accounting Process Communication Recording Identification Prepare accounting reports Select economic events (transactions) Record, classify, and summarize Analyze and interpret for users

The Recording Process (Bookkeeping) Enter transaction in a JOURNAL using the rules of DEBIT and CREDIT Transfer journal information to the LEDGER ACCOUNTS Transaction Identification

REGULAR BOOKS OF ACCOUNTS JOURNALS Record of transactions in chronological order Cash Book – record all receipts and payments for the period Sales Journal – record all sales on credit Purchases Journal – record all purchases on credit General Journal – record of all transactions GENERAL LEDGER Classifies the transactions as they affect the different accounts for the period (usually one year)

SUBSIDIARY BOOKS OF ACCOUNTS Receivables (Customers) Ledger Payables (Suppliers) Ledger Payroll Register Stock (Inventory) Records Equipment Ledgers or Asset Inventory Rcords

Basic Form of Account Title of Account Left or debit side Right or credit side Debit Balance Credit balance

Debit Credit ASSETS LIABILITIES Withdrawals Revenue Expenses CAPITAL

SAMPLE ACCOUNT

The JOURNALS RECEIPT and PAYMENT of CASH from any source Cash Book Other transactions General Journal recorded in recorded in

The General Ledger Individual Assets Individual Liabilities Individual Owner’s Equity Equipment Interest Payable Salaries Expense Supplies Salaries Payable Service Revenue Accounts Receivable Accounts Payable E. Fernandez, Drawing Cash Notes Payable E. Fernandez, Capital

CHART OF ACCOUNTS Assets Owner’s Equity 101 Cash 301 E. Fernandez, Capital 112 Accounts Receivable 306 E. Fernandez, Drawing 113 Inventory 350 Income Summary 130 Prepaid Insurance 157 Equipment Revenues 158 Accumulated Depreciation—Office Equipment 400 Service Revenue Liabilities Expenses 200 Notes Payable 501 Advertising Expense 201 Accounts Payable 502 Depreciation Expense 209 Unearned Revenue 210 Accrued Revenue 503 Supplies Expense 504 Insurance Expense 212 Salaries Payable 505 Salaries Expense 230 Interest Payable 506 Rent Expense 507 Utilities Expense

Adjusting Entries ACCRUALS 1.1. Accruals of Expenses – expenses incurred but not paid. Expenses XX Payable (Accrued Expense) XX 1.2. Accruals of Revenue – revenue earned but not collected. Receivable (Accrued Revenue) XX Revenue XX

Adjusting Entries 2. DEFERRALS 2.1. Deferrals of Expenses – expenditures paid but not incurred. ASSET METHOD Expense XX Asset (Prepaid/Deferred Expense) XX EXPENSE METHOD Asset (Prepaid/Deferred Expense) XX Expense XX

Adjusting Entries 2. DEFERRALS 2.2. Deferrals of Revenue – receipts collected but not earned. LIABILITY METHOD Liability (Deferred Revenue) XX Revenue XX REVENUE METHOD Revenue XX Liability (Deferred Revenue) XX

Adjusting Entries 3. DEPRECIATION Depreciation Expense – Asset XX Accumulated Depreciation – Asset XX Formula: Cost – Salvage Value Useful life

Adjusting Entries 4. BAD DEBTS Bad Debts Expense XX Allowance for Bad Debts XX Formula: % of Outstanding Receivables

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