Accounting Mechanics: Basic

Records
The Nature of Accounting
The accounting system is a series of steps
performed to analyze, record, quantify,
accumulate, summarize, classify, report, and
interpret economic events and their effects
on an organization and to prepare the
financial statements.
The Nature of Accounting
Accounting systems are designed to meet the
needs of the decisions makers who use the
financial information.
Every business has some sort of accounting
system.
These accounting systems may be very
complex or very simple, but the real value of
any accounting system lies in the information
that the system provides.
Functions of Accounting System
Internal routine reporting to managers for cost
planning and cost control of operations, and
performance evaluation of people and activities.
Internal routine reporting to managers on the
profitability of products, brand categories,
customers etc.
Internal non-routine reporting to managers for
strategic and tactical decisions.
External reporting through financial statements.
Financial Accounting: An introduction
1-3
Accounting as an Aid to
Decision Making
Fundamental relationships in the decision-
making process:
Event
Accountants
analysis &
recording
Financial
Statements
Users
Identify a transaction
Record in Primary
Books
Record in Secondary
Books
Prepare Trial
Balance
Prepare Financial
Statements
Accounting Trail
Recording
Reporting
The Recording Process
The sequence of steps in recording
transactions:
Transactions Documentation Journal
Financial
Statements
Trial
Balance
Ledger
The Recording Process
1. Analyze business transactions
2. The transaction is recorded in a
document (Voucher) providing all the
necessary details of the transaction
3. Journalize the transactions
(The voucher is then analyzed in order to
decide which account should be
debited/credited)
The Recording Process
4. Post to ledger accounts
(posted with debit or credit in the T accounts)
5. Prepare a trial balance
6. Journalize and post adjusting
entries--prepayments and accruals
and prepare adjusted trail balance
(Correct erroneous journal entries and
describe how errors affect accounts)
The Recording Process
7. Prepare Financial Statements
Income statement
Retained earnings statement
Statement of financial position

The Double-Entry
Accounting System
Businesses enter into thousands of
transactions daily.
Accountants must carefully keep track of and
record these transactions in a systematic
manner.
Accountants use a double-entry
accounting system, in which at least two
accounts are always affected by each
transaction.
The Double-Entry
Accounting System
Each transaction must still be analyzed to
determine which accounts are involved,
whether the accounts increase or
decrease, and how much the balance will
change.
The balance sheet equation can be used
for this analysis, but with so many
transactions, this is not realistic.
In practice, accountants use ledgers.
The Recording Process
The process starts with source documents
- the supporting original records of any
transaction.
sales slip or invoice
check stub
purchase order
cash receipts
The Recording Process
In the second step, an analysis of the
transaction is placed in the book of original
entry, which is a chronological record of
how the transactions affect the balances of
applicable accounts.
The most common example is the general
journal - a diary of all events in an entitys life.
Journalizing Transactions
Journalizing - the process of entering
transactions into the journal
Journal entry - an analysis of the effects of
a transaction on the accounts, usually
accompanied by an explanation
identifies the accounts to be debited and
credited
Journalizing Transactions
The conventional form for journal entries
includes the following:
the date and identification number of the entry
the accounts affected and an explanation of
the transaction
the posting reference - the number assigned
to each account to which the transaction is
being posted
the amounts that the accounts are to be
debited and credited
Journalizing Transactions
The conventional form for recording in the
general journal:

Entry Post.
Date No. Accounts and Explanations Ref Debit Credit
1997
12/31 1 Cash 100 400,000
Paid-in Capital 300 400,000

12/31 2 Cash 100 100,000
Notes Payable 202 100,000
1998
1/2 3 Merchandise Inventory 130 150,000
Cash 100 150,000
The Recording Process
In the third step, transactions are entered
into the ledger.
Transactions are entered into the applicable
accounts in the ledger.
Information is updated periodically.
Ledger Accounts
Ledger - a group of related accounts kept
current in a systematic manner
Think of a ledger as a book with one
page for each account.
The ledger is a companys books.
Ledger Accounts
A simplified version of a ledger account is
called the T-account because it takes the form
of the capital letter T.
A vertical line separates the left side from the right
side.
The horizontal line is for the account title.
Account Title
Left Side Right Side
Ledger Accounts
Balance - difference between total left-side
amounts and total right-side amounts at
any particular time
Assets - left-side balance
increased by entries to the left side
decreased by entries to the right side
Liabilities and Owners Equity - right-side
balance
decreased by entries to the left side
increased by entries to the right side
Ledger Accounts
T-accounts and the balance sheet
equation:
Assets = Liabilities + Owners Equity
Assets
Increases Decreases
Liabilities
Decreases Increases
Owners Equity
Decreases Increases
Debits and Credits
Debit (dr.) - an entry or balance on the left
side of an account
Credit (cr.) - an entry or balance on the
right side of an account
Remember:
debit is always the left side
credit is always the right side
Total the Entries to
Each Side
If the greater sum is on the left,
the account has a Debit Balance
Total Debits Total Credits
TITLE
Debit Credit
Total the Entries to
Each Side
If the greater sum is on the right,
the account has a Credit Balance
Total Debits Total Credits
TITLE
Debit Credit
Debits
Increase assets
and expenses
Decrease
liabilities,
common stock
and revenues
Credits
Decrease assets
and expenses
Increase liabilities,
common stock and
revenues
Debit Balances Credit Balances
Assets
Plant , Land, Cash, Stocks
Debtors, Vehicles,
Prepayment etc
Capital
Owners funds
Liabilities
Trade creditors, Accrued
payments, Overdraft, long
term loans
Costs
Material
Labor
Overheads
Selling exp
Administrative exp
Revenue
Sales
Investment Income

Running Balance Column
Ledgers do not always look like T-
accounts.
One form provides columns for:
date
explanation
journal reference
debits
credits
balance
Running Balance Column
This format is much like the check register in your
checkbook.
The running balance provides a status report for an
account at a glance at any given point in time.

CASH Account No. 100
Journal
Date Explanation Ref. Debit Credit Balance

1997
12/31 1 400,000 400,000
12/31 2 100,000 500,000
1998
1/2 3 150,000 350,000


Chart of Accounts
Chart of accounts - a numbered or coded
list of all account titles
Makes recording and understanding recording
easier
Chart of Accounts
Example of a chart of accounts:

Account Account Account Account
Number Title Number Title

100 Cash 202 Notes payable
120 Accounts receivable 203 Accounts payable
130 Merchandise inventory 300 Paid-in capital
140 Prepaid rent 400 Retained income
170 Store equipment 500 Sales revenue
170A Accumulated 600 Cost of goods sold
depreciation 601 Rent expense
602 Depreciation expense
The Recording Process
In the fourth step, the trial balance is
prepared.
Trial balance - a simple listing of all
accounts in the general ledger together
with their balances
aids in verifying accuracy and in preparing the
financial statements
Preparing the Trial Balance
Once all transactions have been posted, a
trial balance is prepared.
Trial balance - a list of all of the accounts
with their balances
It is prepared as a test check
before continuing the recording
process.
Preparing the Trial Balance
The purposes of the trial balance:
to help check on accuracy of posting by
proving whether the total debits equal the total
credits
to establish a convenient summary of
balances in all accounts for the preparation of
formal financial statements
Preparing the Trial Balance
An example of a short Trial Balance:

Balance
Account
Number Account Title Debit Credit

100 Cash 350,000
130 Merchandise Inventory 150,000
202 Note payable 100,000
300 Paid-in capital 400,000
500,000 500,000
=============== ===============
The Recording Process
In the final step, the financial statements
are prepared.
Financial statements are prepared each
quarter, or three months, for publicly traded
companies.
Other companies prepare financial statements
periodically to meet the needs of their users.
Deriving Financial Statements
from the Trial Balance
Note that a trial balance may balance even
when there are recording errors.
A transaction may be recorded in the wrong
amount in two different accounts.
A transaction may be recorded in a wrong
account.
In both situations, the total debits will still
equal total credits on the trial balance.
Trial Balance
A list of all the accounts and their balances at
a given time.
It serves to prove the mathematical
equality of debits and credits after
posting.

It aids in the preparation of financial
statements.
Sierra Corporation
Trial Balance
October 31, 2001
Debit Credit
Cash $15,200
Advertising Supplies 2,500
Prepaid Insurance 600
Office Equipment 5,000
Notes Payable $ 5,000
Accounts Payable 2,500
Unearned Service Revenue 1,200
Common Stock 10,000
Dividends 500
Service Revenue 10,000
Salaries Expense 4,000
Rent Expense 900
$28,700 $28,700
Illustration 3-33