FUNDAMENTALS OF ACCOUNTING, ● Periodic reports of a firm’s financial position and

operating results
BUSINESS, AND MANAGEMENT ○ Statement of Profit or Loss (Income
Chua, Sally Ang Statement)
○ Statement of Financial Position (Balance
Sheet)
○ Statement of Changes in Equity
○ Statement of Cash Flow
○ Notes to Financial Statements

What does an Accountant do for the accounting system?

● Establishes the records and procedures that make up
the accounting system
● Supervises the operations of the system
● Interprets the resulting financial information

Branches of Accounting

● Financial Accounting
○ Prepares general-purpose financial reports
● Auditing
○ Determines fair representation of financial
reports
● Cost Accounting
○ Classifying costs to determine product cost
CH1: ACCOUNTING ● Managerial Accounting
○ Prepares internal financial reports for
In running a business, you need answers to: decision-making
● How much cash does the business have? ○ What to improve?
● How much money do customers owe the business? ● Government Accounting
○ Accounts Receivable ○ Financial reports for the government and its
● What is the cost of the merchandise sold? departments
● What is the change in sales volume? ● Tax Accounting
● How much money is owed to suppliers? ○ Tax returns and ensure tax compliance
○ Accounts payable ● Accounting Education
○ For academe and research
What is accounting? ● Accounting Information
Definitions: ○ Accounting system for various internal users
● Price, 17th Edition ● Systems
○ The process by which financial information ● Forensic Accounting
about a business is classified, recorded, ○ Fraud, legal cases, disputes, and claim
summarized, interpreted, and communicated
to owners, managers, and other interested Many jobs are available in the accounting profession.
parties - Bookkeepers and Accounting Clerks
- Bookkeepers: keep records and provide
● AICPA financial information
○ The art of recording, classifying, - Accounting Clerks: record keeping part of
summarizing in a significant manner and in the accounting system
terms of money, transactions, and events - Budget Analysts
which are, in part at least of financial - Organize finances
character, and interpreting the results thereof - Prepare budget reports and monitor
spending of the institution
● Referred to as “The Language of Business”. - Cost Estimators
- Estimate time, money, resources, and labor
for product manufacturing, construction
Accounting as an Art projects, or services
- Not an exact science - Financial Analysts
- Guidance to businesses and individuals
Accounting as a Service making investment decisions
- Primarily engaged in providing financial information to - Assess performance of investments
interested users in making economic decisions - Financial Managers
- Financial health of an organization
What is an Accounting System - Produce financial reports, direct investment
activities, and develop strategies and plans
● Accumulate data about a firm’s financial affairs,
for long term
classify the data in a meaningful way, and summarize
- Management Analysts
it in periodic reports → financial statements
- “Management consultants”
- Propose ways to improve efficiency
What are Financial Statements?
 - Advise managers on how to make
organizations profitable Involves working for a single business to:
- Personal Financial Advisors ● Establish accounting policies
- Give financial advice to individuals ● Provide financial advice to management
- Help with investments, taxes, and insurance ● Manage the accounting system
decisions ● Prepare and interpret financial statements
- Postsecondary Teachers ● Prepare tax forms and do tax planning
- Instruct students ● Prepare internal reports
- Conduct research and publish papers and
books
- Tax Examiners and Collectors, and Revenue Agents
- Ensure govt get tax money
- Review tax returns, conduct audits, identify GOVERNMENTAL ACCOUNTING
taxes owed, and collect overdue tax
payments ● Involves keeping financial records and preparing
- Top Executives financial reports for a national or LGU
- Devise strategies and policies ○ Securities and Exchange Commission (SEC)
- Plan, direct and coordinate operational ○ Bureau of Internal Revenue (BIR)
activities ○ Department of Trade and Industry (DTI)
○ Social Security System (SSS), Philhealth,
PUBLIC ACCOUNTING Home Development and Mutual Fund
(HDMF)
○ Department of Finance
(A - T - M) ○ Local Government

Provide services such as:

● Auditing USERS OF FINANCIAL INFORMATION
○ Review financial statements to assess their
fairness and adherence to generally Financial reports are used by parties:
accepted accounting principles (GAAP) ● Outside the Business
○ Accountants who are CPAs perform financial ○ Banks
audits ○ Customers
○ Unions
● Tax Accounting ○ Tax Authorities
○ Tax Compliance ○ Suppliers
■ Deals with the preparation of tax ○ Regulatory Agencies
returns and the audit of those ○ Investors and Potential Investors
returns ● Inside the Business (E - M - O)
○ Tax Planning ○ Employees
■ Give advices to clients on how to ○ Managers
structure their financial affairs to ○ Owners → evaluate results of operations,
reduce their tax liability develop a plan, and make decisions

● Management Advisory Services Major Responsibility of Owners and Managers

○ Help clients improve their information ● Internal Control
systems or their business performance ○ Company policies and procedures are in
place to safeguard assets, ensure the
The Big Four reliability of accounting data, and promote
● Deloitte and Touche compliance with management policies and
● Ernst and Young applicable laws.
● KPMG
● Pricewaterhouse Coopers ● Prevention of Fraud
○ The goal of internal control
Who is a certified public accountant (CPA)? ○ Intentional or reckless acts that result in the
- An independent accountant who provides accounting confiscation of a firm’s assets
services to the public for a fee ○ Misrepresentation of the firm’s accounting
- To be one: have certain number of college credits in data
accounting courses, demonstrate good personal
character, pass Uniform CPA Examination, and fulfill OUTSIDE THE BUSINESS:
the requirements of state practice 1. SUPPLIERS
● Assess the firm’s ability to pay its bills
MANAGERIAL ACCOUNTING ● Set a credit limit for the firm

2. BANK
● AKA Private accounting ● Decide whether to make a loan
● Includes a wide range of work carried on by an ● Determine the terms of the loan
accountant employed by a single business in industry
● Internal work 3. TAX AUTHORITIES
 ● Income Taxes
● Sales Taxes
● Property Taxes

4. REGULATORY AGENCIES AND INVESTORS

● SEC
○ Federal agency that oversees the
financial information of public
corporations
● Public Corporations
○ Stock is traded on stock exchanges
and OTC markets

5. CUSTOMERS
● Determine the economic health of the
business
● Determine the likelihood that the firm will SOLE PROPRIETORSHIP
remain in business to provide parts, ● Owned by one person
services, and supports ● Legally responsible for the debts and taxes of the
business
6. EMPLOYEES AND UNIONS ● Taxes → owner’s income and income of the business
● Negotiate wages and benefits are combined to compute the total tax responsibility
● Monitor profitability of profit-sharing plans ○ Although it still follows the separate entity
assumption; keeping financial records of
Sarbanes-Oxley Act owner separate from business
● Passed in response to the wave of corporate ● Ends when owner:
accounting scandals (Enron Corporation 2001, arrest ○ Unable to carry on
of top executives at WorldCom and Adelphia ○ Dies
Communications Corporation, and demise of Arthur ○ Closes the firm
Andersen (part of Big Five))
● Act tightens regulation of financial reporting by
publicly held companies and their accountants and ADVANTAGES DISADVANTAGES
auditors
● This led to a major change in the regulatory Ease of entry and exit Unlimited liability →
environment creditors can run after
● Designed as a regulatory crackdown on corporate personal assets
fraud and corruption
Full ownership and control Lack of capital

Not highly regulated Lack of continuity

ENTITIES

What is an entity? PARTNERSHIP

● Recognized as having its own separate identity
● May be an individual, town, university, or a business
● Owned by two or more people
2 ENTITIES: ● Legally responsible for the debts and taxes of the
1. Economic Entity → business or organization whose business
major purpose is to produce profit ● Ends when partner(s):
2. Social Entity → non profit organizations ○ Withdraws (acting in good faith)
a. Cities ○ Dies
b. Public schools ○ Closes the firm
c. Public hospitals ○ Decree of court
Note: Nonprofit organizations also need financial ● Types of partnerships include professional services
information such as:
○ Medical practices
○ Accounting firms
3 FORMS OF BUSINESS ORGANIZATIONS ○ Dental practices
○ Law firms
○ Architectural firms

Partners must agree upon on:

● The amount each partner will contribute to the
business
● Percentage of ownership of each partner
● Share of profits of each partner
● Duties each partner will perform
● Debts
 ○ Responsibility of each partner has for the ● Regularly increases its payouts
partnership’s debts
Types of Businesses
● Service
ADVANTAGES DISADVANTAGES
● Trading
● Manufacturing
Broader management base Unlimited liability → jointly
liable What is Stock?
● Issued in the form of stock certificates, and represents
Ease of formation Lack of capital the ownership of the corporation

Not highly regulated Lack of continuity IMPORTANT DISTINCTION

● All forms of business entities are considered separate
LIMITED LIABILITY PARTNERSHIP entities
● General partnership that provides limited liability for ● However, corporations are the only form of
all partners business that is a separate legal entity
● LLP partners are only liable for their own actions and
those under their control and supervision SEPARATE ENTITY ASSUMPTION
● Not liable for other partners ● Concept of keeping a firm’s financial records separate
from the owner’s personal financial records

CORPORATION LIMITED LIABILITY COMPANY

● Limited liability (corporation) and less tax liability
(partnership)
● Publicly or privately owned
● Similar to LLP but with no general partnerson-a
● Separate from its owners and has a legal right to own
property and do business in its own name
● Can be owned by one or thousands
● Continues indefinitely; ends when:
○ Business goes bankrupt GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
○ Stockholders vote to liquidate (GAAP)
● Stockholders can lose only the amount they invested ● Accounting standards developed and applied by
professional accountants
● Ensure that FS are meaningful and useful
● Used whether the business is LARGE or SMALL
ADVANTAGES DISADVANTAGES ● Allow FS of different companies to be compared
● Allow a company to compare its own FS from period
Limited liability → liability is Complicated to establish → to period
limited to investment costly (time, money, labor)
AUDITOR’S REPORT
Continuity Highly regulated ● Accompanies an independent accountant’s audit or
review of a firm’s FS
Ease of transferring ● Contains the auditor’s opinion about the fair
ownership presentation of the operating results and financial
position of the business
● Confirms that the financial information is prepared in
conformity with GAAP
PRIVATE CORPORATION
● Closely held corporations
● Close corporation / Family Corporation CH14: ACCOUNTING CONCEPTS AND PRINCIPLES
● Shares are held by a select few individuals who are
usually closely associated with the business DEVELOPING BODIES OF GAAP
● Shall not list in any stock exchange or make any 1. Securities and Exchange Commission (SEC)
public offering of any of its stock of any class ● Public sector
● Authority to:
PUBLIC CORPORATION ○ define accounting terms
● Publicly traded company ○ prescribe accounting principles
● Ownership is distributed among the general public ● Powers:
shareholders via the free trade of shares of stock on ○ Determine the form and content of
exchanges accounting reports (that they
themselves require to file)
Initial Public Offering (IPO) ○ Regulates the financial reporting of
● Philippine Stock Exchange (PSE) publicly held corporations
■ Companies with stocks in
Blue Chip Stocks the securities exchange
● Industry leader market
● Dependable business model ○ Given statutory power to establish
● Proven track record accounting and reporting rules for
● History of delivering strong returns over the long term publicly held companies
● Pays dividends to shareholders
 ● Has the final voice in accounting principles the financial statements
of said companies
4. The American Institute of Certified Public
2. Public Company Accounting Oversight Board Accountants (AICPA)
(PCAOB) ● National organization of CPAs
● Private sector, non profit corporation ● Before FASB, AICPA’s Accounting Principles
● Purpose → oversee the CPA firms that audit Board was recognized by the SEC as the
public companies preeminent (surpassing all others)
● Five (5) members are appointed by the SEC private-sector group in developing
○ Two (2) members of the PCAOB accounting rules
(and only two) must be CPAs ● Less authority and less active role now
● Power: because of the establishment of FASB in
○ Set auditing, quality control, ethics, 1973
independence, and other standards ● Three (3) important types of documents
○ Regulating nonaudit services that their AsSec issues:
■ Tax and consulting 1. Accounting & auditing guides →
services matters not addressed directly by
the FASB
3. The Financial Accounting Standards Board ● Summarize the accounting
(FASB) and auditing practices in
● Designated organization in the private specific industries:
sector ○ Ex: casinos,
● The authoritative rule-making body airlines,
○ SEC is empowered to accept insurance, and oil
FASB’s rules and gas
■ Regarded as primary companies
source of accounting 2. Statements of position →
principles guidance on a financial accounting
● Establishes standards of financial accounting question raised but has not been
that govern the preparation of financial addressed with an official FASB
reports by nongovernmental entities pronouncement
○ Recognized by the SEC and AICPA 3. Practice bulletins → express
● Mission: AICPA’s position on accounting
○ Establish and improve standards of issues not yet considered by the
financial accounting and reporting FASB or SEC
by nongovernmental entities ● AICPA regulates auditing practices and
○ Provide decision-useful information takes the lead role in developing and
to investors and other users of enforcing ethical standards for auditors
financial reports
● Work is based on fundamental framework of 5. The International Accounting Standards Board
accounting (IASB)
● Conceptual Framework Project → ● Independent private sector body
objectives and concepts to be used in ● Developed accounting standards adopted
developing accounting and reporting throughout the world for publicly traded
standards companies
○ Foundation of generally accepted ● Mission:
accounting principles and reporting ○ Develop International Financial
practices Reporting Standards (IFRS)
● Issued the following: ■ Brings transparency,
○ Eight Statements of Financial accountability, and
Accounting Concepts efficiency
■ Where Statements of ● Predecessor is International Accounting
Financial Accounting Standards Committee
Standards are based
● Process in developing conceptual
framework:
1. Define goals and objectives of International Accounting Standards Convergence
accounting
2. Identify users of financial reports ● IASB and FASB are issuing standards with greater
and the uses made of the reports independence despite several joint projects
3. Examine the qualitative ● Considerations affecting non convergence:
characteristics that make ○ Cost to US companies to change its method
accounting information useful to those of the IFRS
4. Establish the form and content of ○ Belief that IFRS standards are not better
financial statements than current US standards
5. Set forth fundamental recognition
criteria The FASB and IASB Conceptual Framework Project
6. Develop measurement standards ● October 2004 → adding respective agendas a joint
for financial elements that appear in project to develop a common conceptual framework
 that both boards would use as a basis for their
accounting standards

TWO GOVERNING CONCEPTS AND PRINCIPLES:

1. Generally Accepted Accounting Principles

● Developed by the cooperative effort of the
private and public sector
○ Private sector → FASB
○ Public sector → SEC
● Constantly being revised because of the
ever changing business environment
● Ensures financial statements are
understandable and reliable 2 FUNDAMENTAL QUALITATIVE CHARACTERISTICS
● Enables comparison with:
○ Year to year (internal comparison) Qualitative characteristics → necessary attributes that must
○ Other companies (external be present in financial statements for them to be credible
comparison)
- Qualities that make accounting information is useful
for decision making by interested users
2. International Financial Reporting Standards
(IFRS) 1. Relevance (Piss - Cum - Mud)
● Principle-based Accounting information is capable of making a
● Issued by the IASB difference in a decision by the report user
● Standardized ● Predictive Value → when your information
● T-A-E is able to predict or forecast what will happen
○ Transparency → international in the future
comparability and quality of ● Confirmatory Value → verify fulfillment or
financial information → make non fulfillment
informed decisions ○ Deals with past experiences and
○ Accountability → reducing past
information gap → hold ○ Provides feedback about previous
management in account evaluations
○ Efficiency → identify opportunities ● Materiality → if able to change business
and risks across the world → decision when omitted, misstated, or
improved capital allocation obscured
○ Entity-specific → magnitude of
Why is there a need for international accounting items to which information relate
standards? ■ “May kwenta ba to para
● Rapid expansion of global investment, trade, and irecord?”
production ○ Also a modifying constraint
● Global businesses needing to produce financial ○ Ex: a trashcan (PPE) is not
statement which are acceptable to all recorded as an asset just an
● Smaller countries can’t establish a system of expense
accounting standards of their own ○ Low cost item such as stapler can
be recorded as office supplies
Why do we have a conceptual framework? ○ Application of materiality:
● Rapid expansion of global investment, trade, and ■ Rounding off amounts to
production the nearest thousands
● ■ Recording small expenses
as miscellaneous
What is the objective of financial reporting? expenses
● Provide financial statements to users for them to ■ These do not impact
make sound decisions decisions

CONCEPTUAL FRAMEWORK FOR FINANCIAL 2. Faithful Representation (Cult - Not - Fun)

REPORTING Faithfully represents what it purports to the present →
substance of the phenomenon
● Completeness → including everything
necessary to reflect what happened for all
the business activities
● Neutrality → without bias in the
selection/presentation of financial
information
○ Making sure you are being neutral
○ Application:
 ■ Prudence ● Only transactions that can be expressed in
● Free(dom) from Error → no errors or monetary terms are reported
omissions ● Pesos are stable and free from value
○ Description of transaction fluctuations
○ Stating estimates ● Two aspects:
○ Presentation of best available ○ Financial facts and events is
information meaningful only when it can be
expressed monetarily
○ Value of money is stable
4 ENHANCING QUALITATIVE CHARACTERISTICS ■ Criticized because the
value of money is unstable
Attributes that enhances the fundamental qualitative 4. Time Period (Periodicity of Income)
characteristics ● Business activities are separated into time
periods
(Cunt - Vagina - Tite - Uranus) ● Fiscal Period → standard accounting period
○ Any date to 12 months after
1. Comparability → comparing across entities and ○ Disadvantage: BIR deadline is April
within entity 15
a. Internal Comparison → Year to year ● Calendar Year
b. External Comparison → Across different ○ January 1 ends December 31
reporting entities 5. Accrual
● Consistency → using the same accounting ● Expenses are recorded when incurred not
methods when cash is paid
○ Can accounting methods be ● Revenue is recorded when earned not when
changed? cash is received
■ NO ○ Ex: Rent Expense of 30,000 for 3
■ Exception: If accountant months is paid at October 1
has a reason but it has to ■ At October 31 only 10,000
be DISCLOSED is recorded and the 20,000
● Uniformity → grouping together similar is prepaid expense
items ■ For the Building owner the
○ Assets 10,000 is rent revenue and
○ Liabilities the remaining 20,000 is
○ Revenue unearned rent revenue
○ Expenses
2. Verifiability → knowledgeable and independent 4 GENERAL PRINCIPLES / BASIC PRINCIPLES
observers could reach a consensus
3. Timeliness
● “older the information, the less useful it is” Guidelines that we follow as we prepare financial statements
● Old information however can still be timely if
it is used for a purpose (trends) (Cocks - May - Ram - Fags)
4. Understandability
● Clearly and concisely 1. Cost/Historical Cost
● Users must be able to comprehend within ● Requires assets and services to be recorded
the context of the decisions that they are at their cost at the time acquired
making ● Assets are carried at historical cost, adjusted
for depreciation, then removed
● Exceptions:
FINANCIAL STATEMENT PREPARATION ○ Current assets that will be
converted into cash within the next
5 UNDERLYING ASSUMPTIONS year
■ Lower of cost or market
Things already taken into account by preparers of financial ○ Investment in securities that are
statements before financial statement users read them expected to be sold within the next
year
(Elephants - Got - Money - Time - Ass) ■ Market value rather than
cost
1. Entity (Separate Economic Entity) ○ Accounts Receivable
● Records are separate for specific business ■ Amount expected to be
or activity collected → Allowance for
● Businesses are separate from its owners Doubtful Accounts
○ If business entity is a sole ○ Plant and equipment
proprietorship, this may be difficult ■ Impaired value
2. Going Concern 2. Matching /Expense Recognition
● Assumption that businesses are going to ● Revenue and costs incurred in earning the
continue indefinitely revenue should be matched in the
● Absence of any information that says appropriate accounting periods
otherwise ● Expenses are recorded when incurred
3. Monetary Unit (USED) regardless of when paid
 ● Ways to match revenue and expenses: year and costs depreciated;
○ Manufacturing costs are charged to however, it would take more money
COGS when products are sold to keep records and identify said
○ Cost of building is recorded as tools
asset and depreciation expense is 3. Conservatism
recognized over the periods in ● “When in doubt, take the conservative
which the asset is expected to help action”
earn revenues ● If there are two or more equally acceptable
○ Insurance premiums cover periods treatments of the transaction, choose the
and are charged to expense for conservative approach
said periods ○ Least possible reported income or
○ General office salaries do not largest reported loss
clearly benefit future periods and ● Prudence
are charged to expense when ● Exercise of caution when making judgments
incurred under conditions of uncertainty
3. Revenue Recognition ● Do not overstate revenues and assets and
● Revenue recognized when it has been both show all possible expenses and liabilities, do
earned and realized not understate them
● Earned → when product or service has been ● We don’t want to give false hope for
delivered and related costs have been investors
incurred 4. Industry practice
● Realization → sale / service is ● Existing accounting practices in certain
accomplished and new assets are created; industries have become acceptable as
cash, financial claims, or other assets have GAAP
76been received as a result of the income ○ Occurs in industries with unusual
earning activity tax laws or regulatory requirements
● Similar to accrual ○ Industry with unusually high risks
○ Ex: you are an online seller and you ○ One that has activities wherein
record revenue when your product GAAP is difficult to apply
has been delivered ● Different accounting practices
● Exceptions: ○ Ex: Public utilities charge interest
○ Percentage-of-completion incurred on money borrowed to
○ Service businesses frequently build a power plant as a cost of the
recognize income only when cash plant and no in the interest expense
is received (rate of losses from account
uncollectible accounts is very high) ○ Has come to be required under
4. Full Disclosure GAAP for all construction projects
● All information that may affect the user’s regardless of industry
interpretation of the profitability and financial
condition of a business should be disclosed OTHER CONCEPTS:
in the financial statements or in its notes 1. Objective concept
● Notes could occupy 10 to 12 pages ● Accurate and unbiased of internal and
● If benefits of disclosing exceeds costs external influences
● Supported by solid evidence or backed up by
business documents
4 MODIFYING CONSTRAINTS 2. Substance over form
● What is the economic substance rather than
Practical considerations that allow the use of alternative just legal form
treatment from GAAP principles ○ Ex: Leases are not an asset (In
Form; Legally) but in accounting (In
(My - Cute - Cat - is Innocent) substance) it is an asset

1. Materiality
● Significance of an item of financial data in
relation to other financial data
○ If something is not worth
depreciating, don’t
● Goes hand-in-hand with cost-benefit test
● If omitting, misstating, or obscuring
influences financial decision, then the
information is material
● Rule of thumb: If an individual item (or total
of items) is less than 5% of net income, the
items are not material
2. Cost-Benefit Test
● Benefits must exceed cost
● Benefit → Increased decision usefulness
○ Ex: Inexpensive tools are bought
and supposed to last more than one
 CH2: ANALYZING BUSINESS TRANSACTIONS EARNING REVENUE AND INCURRING EXPENSES

What is a business transaction? ● Revenue → income

Definition ○ Inflow of money or other assets that result
● Any financial event that changes the resources of a from the sales of goods or services or the
firm use of money (interest income) or property
● Examples (rent income)
● Expense → outflow of money
○ Purchases
○ The use of other assets
○ Sales ○ Incurring of a liability
○ Payments ○ Includes cost of any __ to produce revenue
○ Receipts of cash ■ Materials
● When a business transaction occurs, it is analyzed to ■ Labor
identify how it affects the equation: ■ Supplies
■ Services

EQUATION
ACCOUNTING SYSTEMS
Property = Financial Interest
● Sound financial records and statements are
STEPS IN ANALYZING THE EFFECT OF A BUSINESS necessary so that business people make good
TRANSACTION decisions
1. Describe the financial event ● Transactions with revenue and expenses are
● Identify the property (Ano ba ang property?) recorded separately from owner’s equity to analyze
● Identify who owns the property (Kanino ang operations for the period
property?) ● Financial statements show:
● Determine the amount of increase or ○ Amount of profit or loss
decrease (Magkano ang nadagdag o ○ Assets on hand
nabawas?) ○ Amount owed to creditors
2. Make sure the equation is in balance ○ Amount of owner’s equity

● Accounts Payable → charge-account or CH3: ANALYZING BUSINESS TRANSACTIONS USING T

open-account credit ACCOUNTS
○ Amounts that a business must pay in the
future
● Creditors → Companies or individuals to whom the FINANCIAL STATEMENTS:
amounts are owed are called creditors What are financial statements?
● General purpose reports that provide financial
information
ASSETS, LIABILITIES, AND OWNER’S EQUITY ● Useful to primary users in making decisions relating to
providing resources to the entity
● Reports:
What is a balance sheet? ○ Assets
● Shows the firm's financial position on a given date ○ Claims against entity
■ Liabilities
What are the elements of a balance sheet? ■ Owner’s equity
1. Assets → property that a business owns ○ Changes in economic resources and claims
■ Revenues
2. Liabilities → debts or obligations of the business
■ Expense
3. Owner’s Equity → owner’s financial interest ■ Owner’s capital
■ Owner’s drawings
● Objective:
THE ACCOUNTING EQUATION AND FINANCIAL ○ Provide financial information about the
STATEMENTS reporting entity’s assets, liabilities, equity,
income, and expenses
○ useful to users of financial statements in
FUNDAMENTAL ACCOUNTING EQUATION assessing prospects for future net cash
inflows and reporting entity and in assessing
Assets = Liabilities + Owner’s Equity management’s stewardship
● Scope:
○ Financial information about the reporting
entity
● Reporting period:
 ○ Specified period of time
● Perspective
○ From reporting entity POV TYPES OF FINANCIAL STATEMENTS
● Assumption
○ Going concern ORDER IN WHICH FINANCIAL STATEMENTS ARE
PREPARED
1. Statement of Profit or Loss (Income Statement)
2. Statement of Owner’s Equity
T ACCOUNTS 3. Statement of Financial Position (Balance Sheet)
● Consist of a vertical line and a horizontal line that 4. Statement of Cash Flows
resemble a T

STEPS IN CALCULATING THE BALANCE OF AN 1. Statement of Financial Position

ACCOUNT Definition:
1. Add the figures of each side of the account ● “Balance sheet”
2. Enter the total in small pencil figures called a footing ● Reports financial condition
3. Subtract the smaller total from the larger total ● Reported at the end of period
4. Record the balance on the side that has the larger ● Carried forward to next accounting period
total ● prepared using the account form
○ Show total assets on the same
CHART OF ACCOUNTS horizontal line as the total liabilities
● A list of all the accounts used by a business and owner’s equity
● Balance sheet accounts are listed first, followed by
income statement accounts Usefulness
● Account number is based on type of account ● Predicts future cash flows
● Determines Liquidity
PERMANENT ACCOUNTS ○ Is your business liquid enough
● “Real accounts” ○ Are you able to pay current
● Accounts that continue from one accounting period to liabilities
the next ○ Can you easily convert current
○ Ex: Asset, Liability, and Owner’s Equity assets to cash?
(Elements of a Balance Sheet) ● Long term solvency
○ Pay current liabilities and
TEMPORARY ACCOUNTS non-current liabilities
● “Nominal accounts” Limitations
● Accounts whose balances are transferred to the ● Book Value vs Monetary Value
capital account at the end of the accounting period ● Historical Cost → may not reflect current
● Classify and summarize changes in owner’s equity

❌
market valuation of assets
during the period ● Resources
○ Revenue and Expenses (Elements of an
income statement) ○ Assets
■ Product knowledge
TYPES OF ERRORS ■ Management expertise
● Transposition error → a data entry snafu that occurs ■ Trained employees
when two digits are accidentally reversed ■ Loyal customers
○ 517 is recorded as 571
● Slide error → decimal point is misplaced Elements of Balance Sheet
○ 317 is written as 3.17 A. Assets → A present economic resource
controlled by the entity as a result of past
events
● Economic resources
3 ELEMENTS OF FINANCIAL STATEMENTS ● Right
1. Resources (Assets) ● Economic benefit
2. Claim (Liabilities)
3. Claim (Owner’s Equity) What do you mean by control?
a. Changes ● used
i. Revenue B. Liabilities → A present obligation of the
ii. Expenses entity to transfer an economic resource as
iii. Owner Contribution result of past events
iv. Owner Distribution ● Claim
● Result of past events
What is the complete heading? ● Entity has obtained the benefits
1. WHO - Company Name ALREADY
2. WHAT - Statement Name C. Owner’s Equity → residual interest in the
3. WHEN - Period asset of the entity after deducting all its
a. Three Month Period Ended liabilities
b. Year Ended
c. Fiscal Year Ended
d. As of Month Year
 ○ Held for use
○ Land
○ Land Improvements
○ Building
○ Machinery
○ Vehicles
○ Furniture and Fixtures
○ A fixed asset
ASSETS ● Investment Property
○ properties not used as a
Definition: primary residence
● Any resource with financial value that is controlled by ● Intangible Assets
a company, country, or individual ○ Goodwill
● Things an entity owns that has value ○ Brand recognition
○ Copyrights
A. Types of Assets ○ Patents
a. Current Assets ○ Trademarks
● Held primarily for trading ○ Trade Names
● Expected to be realized or ○ Intellectual property
consumed within next 12 months ● Financial Assets
(normal operating cycle) ○ Long term ones
● Unrestricted cash or cash
equivalent
● Listed according to nearness to LIABILITIES
cash → liquidity Definition:
Items: ● What a business owes
● Cash (1st item you will see) ● Refers to debts or financial obligations of the business
○ In hand ● A claim against the entity
○ In bank
● Cash Equivalents A. Types of Liabilities
○ Treasury bills a. Current Liabilities
● Trade and Other Receivables ● Expected to be settled/is due in the
○ Accounts receivable entity’s normal operating cycle
○ Notes Receivable ● Have to be paid within 12 months or
○ Other Receivables less
■ Advances to ● Owed primarily for the purpose of
employees trading
■ Loans receivable Items:
■ Accrued ___ ● Accounts Payable
Revenue/ ○ Money company owes to
Receivable its creditors
● Inventory ● Loans Payable
○ Held for sale ○ Current Portion ONLY
■ Merchandise ● Unearned Revenue (Deferred
Inventory Revenue)
■ Land and ○ Accruals
property → only if ○ Money received for a
it is acquired to service or product YET to
sell; real estate be provided or delivered
business ○ Di mo deserve yung pera
○ Raw materials and factory
supplies b. Non-Current Liabilities
○ Work in progress ● Residual by definition
○ Prepaid Expense
(Deferred expenses) Items:
■ Expense paid, ● Loans Payable
not yet used ○ Non-current Portion ONLY
■ Includes office ● Long-term Notes Payable
supplies → as
you use office
supplies that’s
when the OWNER’S EQUITY
expenses are
realized Definition:
b. Non-Current Assets ● Financial interest of owner
● Not easily converted to cash during ● The portion of a company’s assets that an owner can
the 12 month period claim
Items: ● A claim against the entity
● Property, Plant, and Equipment
 ● Results when revenue is greater than the
2. Statement of Profit or Loss expenses for the period
Definition: Net Loss
● “Income statement” ● When the expenses are greater than
● Change statement → for the period revenue
● Reporting profits generated by the business Break Even
● Amounts on income statement are ● Rare case
transferred to the capital account at the end ● Revenue and expenses are equal
of the accounting period
● Shows he revenue earned and the expenses
of doing business 3. Statement of Changes in Owner’s Equity
Usefulness
● Helps business owners decide whether they Definition:
can generate profit ● “Statement of Retained Earnings”
● Prepared before the balance sheet
Elements of Income Statement
A. Revenues Elements of Changes in Owner’s Equity Statement
● Earnings A. Owner’s Capital → increases equity
● Inflow of resources from trading and ● Owner’s capital → financial
other sources investment
● Increases in assets and decreases ○ Ex: Hanna invested
in liabilities → increases in equity 500,000 cash, 2M
○ Other than those relating ● Capital employed → long term of
to contributions from financing, including capital of the
holders of equity claims owner and non-current liabilities
Items: ● Working capital → refers to net
● Sales Revenue current assets
● Service Revenue/Professional fees ○ Current assets less
● Other income: current liabilities (CA -
○ Interest income CL)
○ Rent income ● Capital expenditures →
○ Commissions income expenditures for purchase of
○ Income from investments non-current assets
○ Gain on a sale of a PPE ● Capital budgeting → the process
item of investment appraisal
B. Expenses
● Outflow of resources for generating B. Owner’s Drawing → decreases equity
revenues C. Expenses → decreases equity
● Decreases in assets, or increases D. Revenue → increases equity
in liabilities → decreases in equity
○ Other than those relating Note: Expenses and Revenue is called the changes in
to distributions to holders
of equity claims Example:

Items:
● Delivery Expense, Insurance
Expense, Interest Expense,
Marketing Expense, Supplies
Expense, Professional fees, Rent
expense, Repairs and
maintenance, Representation and
entertainment, Salaries and wages,
Employee benefits, Taxes and
license, Transportation and travel
expenses, Utilities, Miscellaneous
● Bad Debts Expense →reflect
receivables that a company will be (Beg Cap) 230,000 + (Net Income) 430,000 + (Addtl
unable to collect Investment) 223,000 = 883,000
● Doubtful Debts Expense →
accounts estimated to potentially 883,000 - (Owner’s Drawings) 102,000 = (Capital,
become uncollectible in the future End → 781,000)
● Depreciation Expense → the cost
of an asset that has been
depreciated for a single period
○ How much of the assets SOLE PARTNER CORPORA
value has been used up in PROP SHIP TION
that year
CONTRIBUTION Owner’s Partner’s Share
Net Income Capital Capital Capital
DISTRIBUTION Owner’s Partner’s Dividends
Drawings Drawing ACCOUNTING CYCLE

4. Statement of Cash Flows

Definition:
● Change statement
● Disclose changes in cash
● For the period

Usefulness
● Cash generation
● Cash utilization

What is the Accounting Cycle?

Elements of the Statement of Cash Flows ● Series of steps performed during each accounting
A. Operating → routine business operations; period to:
core activities ○ Classify,
B. Investing → acquisition of disposal of ○ Record,
long-term assets; outside core activities ○ Analyze, business transactions
C. Financing → transactions that provide cash
to business to carry on its activities

5. Preparing financial statements with

accompanying notes

Includes:
● Basis of preparation of FS
● Specific accounting policies used
● Statement of Compliance
● Basis of Consolidation

Notes are:
● Often more lengthy than other financial
statements
● Administrative expenses are arranged from
highest to lowest
○ Exception: Miscellaneous is always
at the bottom

STEPS OF THE ACCOUNTING CYCLE

1. Journal → “book of original entry”

2. Ledger → Debit and Credit; T-account

○ “book of final entry”

3. Trial Balance → tests accuracy.

IMPORTANCE OF FINANCIAL STATEMENTS
Steps in preparing a trial balance:
1. Enter the trial balance heading
● Each day, millions of business decisions are made 2. List the account names in the order they
based on it appear on the financial statements
● Business managers and owners use it to control 3. Enter the ending balances of each account
current operations and plan for the future in the appropriate debit or credit column
● Creditors, prospective investors, and governmental 4. Total the debit column; total the credit
agencies are interested in the profits of the business column
and in the asset and equity structure 5. Compare the total debits with total credits
 Allowances and credit accounts
4. Worksheet → optional receivable
● Debit memo → BUYER to SELLER
5. Adjustments → recognition of accruals ○ When a buyer purchases goods,
they debit purchases (expense) and
6. Adjusted Trial Balance credit accounts payable (liability)
○ When said purchased good is
7. Financial Statements returned, they debit accounts
payable and credit purchase
8. Closing entries → closing to owner’s equity returns and allowances
○ “Hey seller I don’t want it anymore
9. Post-closing trial balance → ensure debits and so remove it from my balance”
credits are equal
7. Returns and allowances
10. Reversing entries ● Return → actual return of the goods
● Allowances → no actual return of goods
○ Asking for price reduction
● Reasons for such:
STEP 1: ANALYZING BUSINESS DOCUMENTS ○ Damaged goods
○ Damaged during delivery
What are business documents? ○ Wrong specifications
● Source documents that serve as the basis for ■ Color
recording business transactions ■ Shape
■ size
1. Purchase Requisition (PR)
● Issued by SALES department to 8. Statement of Account
PURCHASING department ● Issued by SELLER to BUYER as a
● Internal document REMINDER for PAYMENT or service
● Should always have a number and be signed provider to customer
○ from the person approving the ○ Ex: Meralco, Globe
request; ● Always Numbered
○ requesting
● Requesting the purchasing department of 9. Remittance Advice
the business to buy something for us ● Issued by BUYER to SELLER
● Usually bank transfer
2. Purchase Order ● Informing seller that you PAID already
● Issued by BUYER to SELLER for ORDER of
goods 10. Official Receipt (OR)
● Preparing documents and issuing goods ● Confirmation of receiving payment
● Signed by buyer ● Issued by SELLER to BUYER for receipt of
payment
3. Receiving Report ● Instances wherein an Official Receipt and an
● Issued by RECEIVING department to invoice are in one → cash payments
PURCHASING department
● After inspection → ensure/show quantity and 11. Promissory Note
condition of goods ● A written promise to pay a specified amount
on a specific date
4. Sales Invoice/ Purchase Invoice
● Basta delivery of goods 12. Voucher/Petty Cash Voucher
● Sales Invoice → Issued by SELLER to ● Payments made either by cash or cheque
BUYER for delivery of goods ● Showing proof where the small amounts go
● Purchase Invoice → issued by BUYER to to
SELLER for delivery of goods ● Petty Cash Voucher → payments made
● Sales invoice is already sufficient from petty cash fund

5. Sales Slip 13. Inventory Stock/Take Sheet

● Piece of paper received once the order is ● the ins and outs of your inventory
delivered ● For inventory count, the basis for recording
closing inventory
RETURNS AND ALLOWANCES
6. Credit memo / Debit Memo
● Returns or allowances issued
ELI’S ACCOUNTING SERVICES (Resources)
● Credit memo → SELLER to BUYER
○ When a good is paid for with
accounts receivable, we debit
accounts receivable and credit What are Business Transactions?
sales ● Financial event that changes resources (assets) and
○ When said good is returned, we claims (liabilities) of a firm
debit sales returns, and
 Definition
Steps in Analyzing the Effect of a Business Transaction ● An accounting system that involves recording effects
1. Describe the financial event: of each transaction as debits and credits
a. Identify the property
b. Identify who owns the property Account Balance/Balance of the account/Balance
c. Determine the increase or decrease. ● The difference between the two sides of an account
2. Apply the left-right rules for each account affected ● Always be on the Normal Balance Side
3. Make the entry in the T-account form
Footing
● Adding up the two sides of an account to get the
DEBIT AND CREDIT balance

Debit (Dr.) Rule/Ruling

● Left side of an account ● Represents a mathematical operation
● Latin → “Debere”
● “Debitum” → what is due Double Rule
● Represents account balance
Credit (Cr.) ● Represents final amount/answer
● Right side of an account ● We never BOX our final answer
● Latin → “Credere”
● “Creditum” → something entrusted to another
CH4: THE GENERAL JOURNAL AND THE GENERAL
LEDGER
What is an Account?
● Written record of the assets, liabilities, and owner’s
equity of a business Why is it important to record transactions in the general
journal?
T Account
● Acts as a “diary” of the business
● Looks like a T

Why is it important to prepare compound journal entries?

● Compound entries → several debits and credits for a
single business transaction
● creating efficiencies in journalizing

ACCOUNTING CYCLE
● Series of steps performed during each accounting
period
● To classify, record, and summarize data for a
business and to produce financial information

JOURNALS
● AKA “record of original entry”
Chart of Accounts
● Differs for each business ○ Where transactions are first entered in the
● A list of accounts used by a business to record its accounting records
financial transactions ● A diary of business activities
● Lists transactions chronologically → order in which
they occur
RULES OF DEBIT AND CREDIT ● Different types of journals
○ General Journal
1. Increases are recorded on the normal balance side
of an account. THE GENERAL JOURNAL

What are normal balances?

Follows its normal side on the accounting equation ● Financial record for entering all types of business
● Debit → Assets & Expenses & Owner’s transactions
Drawing ● Journalizing → process of recording transactions in
● Credit → Liability & Capital & Revenue
the general journal
2. Decreases are recorded on the opposite side of the ● Audit trail → is a chain of references that makes it
normal balance possible to trace information, locate errors, and
prevent fraud
○ Provides a means of checking the journal
DOUBLE ENTRY SYSTEM entry against the original data on the
documents
● Description column includes:
 ○ Supplier name ○ Reflects the reality of the transaction that
○ Invoice number occurred
○ Check number
● Compound entry → journal entry that contains more
CH5: ADJUSTMENTS AND THE WORKSHEET
than one debit or credit
○ Record all debits first then followed by
credits
WORKSHEET

SPECIAL JOURNAL ● A form used to gather all data needed at the end of an
accounting period to prepare the financial statements
1. Sales → stores the summary of invoices issued to ● Fourth step in the accounting cycle
customers
● Records receivables (credit sales)
● Sales of merchandise on credit
2. Purchases → keeps track of orders made by a
business on credit or account
● Record purchases of merchandise on credit
3. Cash Receipts → records cash received from all
sources
● records financial transactions that include:
○ Bank deposits
○ Withdrawals
○ Cash payments
4. Cash Payments → “cash disbursement journal”
● Records all disbursements of cash
● A cash record of all transactions paid with
cash by a firm

LEDGER
● Ledger → the actual book or binder; a special form of
TRIAL BALANCE
account records that makes it possible to record all
data efficiently
○ Separate form for each account ● A statement that lists all accounts and related
○ Account balances, that is prepared after transactions have
● Posting → process of transferring data from the been recorded, and which tests the accuracy of total
journal to the ledger debits and total credits
○ Third step of the accounting cycle
CH16: NOTES PAYABLE AND NOTES RECEIVABLE
THE GENERAL LEDGER
● A master reference file for the accounting system Terms:
● Provides a permanent, classified record of all 1. Bank draft → a check written by a bank that orders
accounts used in a firm’s operations another bank to pay the stated amount to a specific
● “record of final entry” party
2. Banker’s year → A 360-day period used to calculate
interest on a note
SUBSIDIARY LEDGERS
3. Bill of lading → A business document that lists
goods accepted for transportation
1. Accounts Receivable → records the detailed 4. Cashier’s check → A draft on the issuing bank’s own
transactions relating to the account receivable and the funds
payment history 5. Commercial draft → A note issued by one party that
2. Accounts Payable → records the business orders another party to pay a specified sum on a
transactions with the creditors or the suppliers and specified date
keeps track of the payment due to each supplier a. Sight Draft → A commercial draft that is
payable on presentation
CORRECTING JOURNAL AND LEDGER ERRORS b. Time draft → A commercial draft that is
● Correcting entry → a journal entry made to correct payable during a specified period of time
the erroneous entries
 6. Draft → a written order that requires one party (a
person or business) to pay a stated sum of money to
another party

PARTS OF A NOTE
1. Face value → An amount of money indicated to be
paid, exclusive of interest or discounts
2. Interest → The fee charged for the use of money
3. Maturity Value → The total amount (principal plus
interest) payable when a note comes due
4. Principal → The amount shown on the face of a note
5. Note payable → A liability representing a written
promise by the maker of the note (the debtor) to pay INTEREST = Principal (P)*Rate (R) * Time (T)
another party (the creditor) a specified amount at a ● Principal → face value or amount borrowed
specified future date ● Rate → fee charged
6. Note receivable → An asset representing a written ● Time → number of times the interest is taken, usually
promise by another party (the debtor) to pay the note in years
holder (the creditor) a specified amount at a specified
future date
INTEREST FORMULA
7. Trade Acceptance → A form of commercial time
draft used in transactions involving the sale of goods INTEREST = PxRxT

PROMISSORY NOTES
JOURNALIZING PROMISSORY NOTES
● Has interest ● Signing notes is important to make it legally binding
● A negotiable instrument
● A written promise to pay a certain amount at a
specified future time
● May be notes payable or notes receivable

What is a negotiable instrument?

● A financial document containing a promise or order to
pay that meets all the requirements of the Uniform
Commercial Code (UCC) in order to be transferable to
another party
● Requirements of UCC:
○ In writing and signed by maker or drawer
○ Unconditional promise or order to pay a
definite amount
○ Be payable either on demand or at a future
time that is fixed and that can be determined
○ Be payable to the order of a specific person
or to the bearer DISCOUNTING PROMISSORY NOTES
○ Clearly name or identify the drawee (if
addressed to a drawee) What is discounting?
● Deducting the interest in advance when sold to a
bank
NOTES PAYABLE
● Yuu do not receive face value– only proceeds

● A liability that represents a written promise by the Why do people discount their notes?
maker of the note (the debtor) to pay another party ● To receive easy cash
(creditor) a specified amount at a specific future date

NOTES RECEIVABLE

● An asset representing a creditor’s written promise to

pay a specified amount at a specific future date.

NONINTEREST-BEARING NOTES RECEIVABLE

 DISCOUNTING A NONINTEREST BEARING NOTE
Example: RECEIVABLE AT MATURITY
Customer Isabel Huang owes 1,500 to Kathy’s Kitchens. The
account is overdue, and Huang needs more time to pay. On
September 18, Huang signs a 30-day, noninterest-bearing note
for 1,500. In the event legal action becomes necessary, the
note provides additional protection to Kathy’s Kitchens

Steps in calculating the discount and the proceeds on notes

receivable:
1. Determine the maturity value of the note (F=P+I)
Maturity date → October 18 2. Calculate the number of days in the discount period
3. Compute the discount charged by the bank (Use the
Days note is issued in September (30-18) = 12 Days maturity value as the principal)
Days in October = 18 days 4. Calculate the proceeds (Pr=F-D)
Duration of note (proof) = 30 days
Note: The discount is debited to Interest Expense because it
Note: When Huang pays on the maturity date the note is is essentially interest deducted in advance, The credit is to
marked “paid” and returned to her Notes Receivable-Discounted a contra asset account
because you SOLD off your asset for easy money
NOTES RECEIVABLE-SPECIAL SITUATIONS
DISCOUNTING AN INTEREST BEARING NOTE
1. Full Payment RECEIVABLE AT MATURITY
● Interest income is realized during the Steps:
payment period 1. Determine the maturity value of the note (F=P+I)
2. Partial Collection 2. Calculate the number of days in the discount period
● Apply interest already 3. Compute the discount charged by the bank (Use the
● Partial payments are applied first to the maturity value as the principal)
interest and then to the principal 4. Calculate the proceeds (Pr=F-D)
● “If partial payment is made before the
maturity date, there is still an interest on the Note: If the proceeds from discounting an interest-bearing note
full amount” is less than the face value of the note,→ debit Interest
3. Dishonor Expense instead of crediting Interest Income
● Not paying during maturity date
● Not even asking for an extension CONTINGENT LIABILITIES
● Can become a liability if certain things happen
Note: When a notes receivable that has been discounted is ○ If the original payee does not pay, you have
dishonored you → to be the one to pay
● Are shown on financial statements so that the users
are aware that the business might have a liability in
the future
DEBIT CREDIT ● Examples
○ Notes Receivable-Discounted
Notes Notes Receivable
Receivable-Discounted
CH7: ACCOUNTING FOR SALES AND ACCOUNTS
Accounts Receivable Cash RECEIVABLE

Because you paid for that

shit on behalf of those mfs Terms:
1. Charge-account sales → sales made through the
use of open-account credit or one of various types of
credit cards
DISCOUNTING A NOTE RECEIVABLE
2. Contra revenue account → An account with a debit
● At the maturity date, the holder will receive cash for
balance, which is contrary to the normal balance for a
the notes receivable. If the holder wants cash before
revenue account
the maturity date, the note can be discounted (sold) at
3. Control account → An account with a debit balance,
the bank.
which is contrary to the normal balance for a revenue
account
 4. Credit memorandum → A note verifying that a
ADVANTAGES DISADVANTAGES
customer’s account is being reduced by the amount of
a sales return or sales allowance plus any sales tax Possible to see results in High set-up costs
that may have been involved real time
5. Discount on credit card sales → A fee charged by
the credit card companies for processing sales made Inventory tracking Not always reliable → Some
with credit cards goods coils be stolen or lost
6. Invoice → A fee charged by the credit card
companies for processing sales made with credit
cards
7. Manufacturing Business → A business that sells
goods that it has produced
8. Merchandising Business → A business that sells
goods purchased for resale
9. Service Business → A business that sells services
10. Net Price → list price less all trade discounts
11. Net Sales → The difference between the balance in
the Sales account and the balance in the Sales
Returns and Allowances account
Note: When is it that you find out the COGS under each
12. Open-account credit → A system that allows the
method → key to understanding the difference between
sale of services or goods with the understanding that
periodic and perpetual inventory system
payment will be made at a later date
13. Schedule of accounts receivable → A listing of all
Steps:
balances of the accounts in the accounts receivable
1. Last period’s closing inventory becomes this period’s
subsidiary ledger
opening inventory
14. Wholesale business → A business that
2. Recording additions under each system
manufactures goods for or distributes goods to retail
a. Periodic → record additions in your
businesses or large consumers such as hotels and
purchases account
hospitals
● At the end of the period, the
purchases account will be cleared
What is a retail business?
to zero
● Sells goods and services directly to individual
consumers
DEBIT CREDIT
What is merchandise inventory?
● The stock of goods that is kept on hand Purchases Cash or Accounts Payable

INVENTORY SYSTEMS b. Perpetual → record additions in inventory

1. Periodic Inventory System → the cost of the account
inventory on hand must be determined by counting
merchandise inventory in stock
DEBIT CREDIT
● Updates inventory account at regular
intervals triggered by a physical inventory
Inventory Cash or Accounts Payable
count
● Each accounting period
3. Recognizing inventory sales under each system
a. Periodic → recognize revenue as sales
ADVANTAGES DISADVANTAGES stakes place
Relatively simple Delayed results
DEBIT CREDIT
Low set-up costs Less control
Cash or Accounts Revenue
Receivable
2. Perpetual Inventory System → the amount of
inventory on hand is adjusted for each sale, purchase, b. Perpetual → recognize revenue and cost of
or return goods sold as sales take place
● Continuously updates inventory account as
goods are bought and sold on a unit-by-unit
DEBIT CREDIT
basis
 Cash or Accounts Revenue NET PRICE FORMULA
Receivable
List Price
Cost of Goods Sold Inventory
(LESS: Trade Discounts)
You are no longer holding
onto the inventory NET PRICE

4. Finding closing inventory under each system

a. Periodic → clear total purchases to CREDIT SALES
inventory account Types of Credit Sales
● Post a journal entry to clear the 1. Open-account Credit → permits the sale of services
purchases account or goods to the customer with the understanding that
the amount is to be paid at a later date
DEBIT CREDIT ● Granted on the basis of personal
acquaintance or knowledge of the customer
Inventory Purchases ● Open account sales = charge account
sales
2. Business Credit Cards → used by large retail
b. Perpetual → inventory updates in real-time
businesses that have their own credit cards (charge
● Taking the difference from the
cards) to customers who have established credit
COGAS and COGS
3. Bank Credit Cards → retailers providing credit while
5. Periodic, physically count all the inventory on hand
minimizing their risk of losses from uncollectible
● You take the number of remaining inventory
accounts by accepting credit cards
and multiply it by the cost of each unit →
● Discount on credit card sales → banks
Closing inventory
charge the business this fee for processing
● To find the Cost of Goods Sold:
the sale
○ It’s the bank’s problem to collect
COST OF GOODS SOLD FORMULA from cardholder hehe
○ For the trailer, bank credit card
Opening Inventory sales are like cash sales

ADD: Additions 4. Cards issued by Credit Card Companies → credit

cards are issued by business firms or subsidiaries of
EQUALS: Cost of Goods Available for Sale
business firms that are operated for the special
(LESS: Closing Inventory) purpose of handling credit card transactions

CH8: ACCOUNTING FOR PURCHASES AND ACCOUNTS

CREDIT SALES FOR A WHOLESALE BUSINSS PAYABLE

What is a wholesale business?

● A manufacturer or distributor of goods that sells to MERCHANDISE PURCHASES
retailers or large consumers
● Many wholesalers offer cash discounts and trade What is the purchases account?
discounts → not found in retail operations ● Purchase of merchandise
● Temporary account classified as a cost of goods sold
TRADE DISCOUNT account
● Price adjustment is based on the volume purchased
by trade customers What is the cost of goods sold?
● Reduction from the list price ● The actual cost to the business of the merchandise
● Not journalized → not recorded sold to customers

LIST PRICE
MERCHANDISING BUSINESS AND FREIGHT
● The established retail price

NET PRICE
ACC. DEFINITION CLASSIF. NB
● The amount the wholesaler records in its sales journal
Merchandise Goods on hand at Current Asset Dr.
Inventory the end of the
period

Purchases Purchase of Cost of Sales Dr.

goods for sale

Freight In If you are the Cost of Sales Dr.

buyer; delivery of
goods purchased
assumed by the
buyer

Purchase Return of goods Contra-Purcha Cr.

Returns due to damage, ses
low quality, or
wrong
specifications

Purchase Reduction in the Contra-Purcha Cr.

Allowances original price ses
charged by the
supplier due to

You are the buyer

Purchase A cash discount Contra-Purcha Cr.

Discount offered by the ses
supplier for
payment within NET PURCHASES
specified discount
period Purchases

Sales Sale of goods Revenue Cr. (LESS: Purchase Returns)

Freight Out Delivery of goods Expense Dr. (LESS: Purchase Allowances)

sold assumed by
the seller (LESS: Purchase Discounts)

Distribution Cost
NET COST OF PURCHASES
Selling Expense
Net Purchases
Sales Returns Return of goods Contra-Sales Dr.
by customers due ADD: Freight In
to damage, low
quality
NET SALES REVENUE
Sales A cash discount Contra-Sales Dr.
Allowances offered to
Sales
customers for
payment within
the specified (LESS: Sales Return)
discount period
(LESS: Sales Allowances)

(LESS: Sales Discounts)

BUYER VS SELLER POV

COST OF GOODS SOLD

Merchandise Inventory, Beg.

ADD: Net Purchases

Purchases
(Less: Purchase Returns)
(Less: Purchase Allowances)
 (Less: Purchase Discounts)

ADD: Freight In

EQUALS: Total Cost of Goods Available for SALE

(COGAS)

(LESS: Merchandise Inventory, End.)

DISCOUNTS

TRADE CASH
DISCOUNT DISCOUNT

Definition Discounts for bulk Discounts for FREIGHT

purchases early payment of
account 1. Free on Board → to the receiver; how long the
product has been in transit
Deducted from List Price to Invoice Price
determine invoice a. FOB Shipping Point → at the doors of the
price shippers location
● “Receiver’s problem”
Discount is NOT ● Shipping is free until it leaves the
recorded in the shipping location
books ● Receiver is responsible for the
inventory during transit
Reminder Sales or In calculating the
b. FOB Destination → at the doors of the
Purchases is amount to be paid
recorded net of or collected, receiver
trade discount Returns & ● “Shipper’s problem”
Allowances ● Free to the receiver until it arrives at
should be the receivers door
accounted for ● Shipper is responsible for inventory
until it arrives at the receivers door
Account Name Trade discount is Sales Discount
2. Freight Terms → who actually paid the freight
not reflected in [Dr]
the books Purchase a. Freight Prepaid
Discount [Cr] ● Seller pays
b. Freight Collect
● Buyer pays
Note: EOM → End of Month
● Trade discount is always deducted before sales
Why are freight terms important to understand?
returns and allowances and cash discounts
1. Determines who will pay the freight costs (so can
● Sales returns are deducted after trade discount
record appropriately!)
2. Determines who is responsible if inventory is
damaged in transit (so who pays for the loss?)
3. Who owns the inventory while it is on that truck, in
transit?

BUYER SELLER

Dr. Cr. Dr. Cr.

FOB Collect Freight Cash No Entry

SP In

FOB Prepai Freight Accounts Accounts Cash

SP d In Payable Receivable

FOB Collect Account Cash Freight Out Accou

DP s nts
Payable Receiv
able

FOB Prepai No Entry Freight Out Cash

DP d

CH9: CASH RECEIPTS, CASH PAYMENTS, AND

BANKING PROCEDURES

What is cash?
● Cash is used for currency, coins, checks, money
orders, and funds on deposit in a bank
● Most cash transactions involve checks and electronic
transfers of funds

Terms:
1. Bank reconciliation statement → A statement that
accounts for all differences between the balance on
the bank statement and the book balance of cash
2. Blank endorsement → A signature of the payee
written on the back of the check that transfers
ownership of the check without specifying to whom or
for what purpose
3. Bonding → process by which employees are
investigated by an insurance company that will insure
the business against losses through employee theft or
mishandling of funds
4. Canceled check → A check paid by the bank on
which it was drawn
5. Cash → In accounting, currency, coins, checks,
money orders, and funds on deposit in a bank
6. Deposit in Transit → A deposit that is recorded in
the cash receipts journal but that reaches the bank
too late to be shown on the monthly bank statement
7. Deposit Slip → A form prepared to record the deposit
of cash or checks to a bank account
 8. Dishonored (NSF) Check → A check returned to the CONTROL OF CASH RECEIPTS
depositor unpaid because of insufficient funds in the 1. Only designated employees receive and handle cash
drawer’s account ● Employees chosen for reliability and
● AKA “NSF check” accuracy, and carefully trained
9. Drawee → The bank on which a check is written ● Employees are bonded (investigatedO
● who actually pays out the money (bank) 2. Keep cash receipts in a cash register, cash drawer, or
10. Drawer → The person or firm issuing a check safe
● who writes and signs a check or bill, telling 3. Make a record of all cash receipts as the funds come
someone to pay money into the business
● the one giving the order to pay (you) ● Checks → endorse each one
11. Cash Receipts → The type depends on the nature of ● Currency and coins → audit tape in a cash
the business register or duplicate copies of numbered
● Supermarkets: checks and coins sales slip
● Department stores: checks in the mail, 4. Check the funds to be deposited against the against
electronic payment from charge account the record made when cash was received
customers 5. Deposit cash receipts in the bank promptly
● Wholesales: usually in checks ● Do not make payments directly from the
12. Petty Cash Fund → used to handle payments cash receipts
involving small amounts of money ● Person making the bank deposi should be
● Postage stamps, delivery charges, and different from the one receiving and
minor purchases of office supplies recording the funds
6. Enter cash receipt transactions in accounting records
promptly
● The one recording should be different from
CASH RECEIPTS JOURNAL
the one receiving and depositing funds
(essentially 3 ppl)
● Simplifies the recording of transactions and eliminates 7. Have the monthly bank statement sent to and
repetition in posting reconciled by someone other than the employees who
handle, record, and deposit the funds
ACCOUNTS IN CASH RECEIPTS JOURNAL
1. Accounts Receivable Credit
CASH PAYMENTS JOURNAL
2. Sales Payable Credit
3. Sales Credit
4. Cash Debit ACCOUNTS IN CASH PAYMENTS JOURNAL
1. Accounts Payable Debit
CASH REGISTER PROOF 2. Purchases Discounts Credit
● a verification that the amount in the cash register ● Contra cost of goods sold account
agrees with the amount shown on the audit tape 3. Cash Credit

CASH SHORT OR OVER ACCOUNT

● Sometimes you have more cash and less cash on
hand than expected
● Maintained in general ledger to track these
discrepancies.

CASH OVER CASH UNDER

(DEBIT BALANCE) (CREDIT BALANCE)

● Shortage ● Overage
● Treated as an ● Treated as a
expense revenue

ADVANTAGES OF CASH RECEIPTS JOURNAL

● Saves time and effort when recording and posting
cash receipts
● Allows for the division of work among the accounting
staff CONTROL OF CASH PAYMENTS
● Strengthens the audit trail by recording all cash 1. Make all payments by check except special purpose
receipts transactions in one place cash funds such as petty cash fund
 2. Issue checks only with an approved bill, invoice or 3. Write petty cash fund checks to the person in charge
other document describing reason for payment of the fund, not to the order of “cash”
3. Only designated personnel, who are experienced and 4. Assign one person to control the petty cash fund. This
reliable, approve bills and invoices person has sole control of the money and is the only
4. Different personnel prepares the check and records in one authorized to make payments from the fund
the checkbook or check register from the one 5. Keep petty cash in a safe, a locked cash box, or a
approving the payments locked drawer
5. Different personnel signs and mails the check to 6. Prepare a petty cash voucher for each payment.
creditors ● The voucher should be signed by the person
● Two people to sign all checks greater than a who receives the moey and should show the
predesignated amount (if the amount is payment details.
exceeding estimates, two people have to ● Provides audit trail
check) ● Obtains a vendor’s invoice
6. Use prenumbered check forms
7. During the bank reconciliation process, compare the
canceled checks (or an image) to the checkbook or
BANKING PROCEDURES
check register
● Different people must do the bank
reconciliation other than the one preparing ● Keeping excess cash is a dangerous practice
and recording checks ● Frequent bank deposits provide a steady flow of funds
8. Enter promptly in the accounting records all cash for the payment of expenses
payment transactions
● Different person must record cash payments 1. Writing Checks
other than the one approving payments or ● “Drawer” → a check is written by an
writing checks authorized person; the one who owes the
money
● “Drawee” → the bank that will pay a specific
PETTY CASH FUND
sum of money
● “Payee” → the designated person or
● Used to pay for small expenditures business to whom the money is owed

PETTY CASH VOUCHER

● Used to record the payments made from the petty
cash fund
● Total vouchers + cash on hand = amount of petty
cash fund

1. Establishing the fund

2. Making Payments from the fund
3. Repleneshing the fund

Drawer: Max Ferraro

Drawee: First Texas National Bank

(Important Information)
Date: January 3, 20X1
Payee: Carter Real Estate Group
Purpose: January Rent
PETTY CASH ANALYSIS SHEET Balance brought forward: 12,025.50
● Records transactions involving petty cash Check Amount: 1,500
Balance: 10,525.50
INTERNAL CONTROL OF THE PETTY CASH FUND
1. Use the petty cash fund for small payments that 2. Endorsing Checks
cannot conveniently be made by check ● “Endorsement” → a written authorization
2. Limit the amount set aside for petty cash to that transfers the ownership of a check
approximate amount needed to cover one month’s
payments from the fund
 ● After the payee transfers ownership to the
bank by an endorsement, the bank has the 4. Handling Postdated Checks
right to collect from the drawer ● “Postdated check” → is a check dated
sometime in the future
FORMS OF ENDORSEMENTS ● If the business receives a postdated check, it
should not deposit it before the date on the
check
● The check could refuse the drawer’s bank

Why do people issue postdated checks?

● Drawers may not have sufficient funds to cover the
check
● The drawer expects to have adequate funds in the
bank by the date on the check

Note: Issuing or accepting post-dated checks is not a proper

a. Blank Endorsement → the signature of the business practice
payee that transfers ownership of the check
without specifying to whom or for what 5. Reconciling the Bank Statement
purpose ● “Canceled Checks” → are checks paid by
● Checks with a blank endorsement the bank during the month
can be further endorsed by anyone 6. Adjusting the Financial Records
who has the check, even if it is lost
or stolen
CH12, 15, 18: ADJUSTMENTS
b. Full Endorsement → a signature
transferring a check to a specific person, What is a Worksheet?
business, or bank ● A form used to gather all the data needed at the end
● Only the person, business, or bank of the accounting period for timely issues and
named in the full endorsement can decisions
transfer it to someone else ● Facilitation tool

c. Restrictive Endorsement → a signature How to prepare the worksheet:

that transfers the check to a specific party for 1. Enter the trial balance in the Trial Balance Section.
a specific purpose, usually for deposit to a Total the columns. Be sure that total debits equal total
bank account credits.
● safest endorsement 2. Enter the adjustments in the adjustments in the
● Businesses restrictively endorse the Adjustments section. Use the same letter to identify
checks they receive the debit part and the credit part of each adjustment.
Total the columns. Be sure that total debits equals
3. Preparing the Deposit Slip → Businesses prepare a total credits.
deposit slip to record each deposit of cash or checks 3. For each account, combine the amounts in the Trial
to a bank account Balance section and the Adjustments section. Enter
● “Deposit slip” → a form prepared to record the results in the Adjusted Trial Balance section, total
the deposit of cash or checks to a bank the columns, and make sure that the total debits
account equal total credits.
4. Extend account balances to the Income Statement
and Balance Sheet sections and complete the
worksheet.

ACCRUAL BASIS
● Revenue is recognized when earned, not necessarily
when cash is received
○ Revenue is recognized when a sale is
complete
○ A sale is complete when title to the goods
passess to the customer or when a service is
provided
 ● Expenses are recognized when incurred or used, not 3. Physical inventory → process of entering the
necessarily when cash is paid quantity of merchandise on hand to the inventory
○ Assigned to the accounting period in which it sheet
helped to earn evenue, even without cash a. The quantity is multiplied by the unit cost to
payment → matching revenues and find the totals per item
expenses b. Totals for all items are added to compute
total cost of merchandise inventory
ADJUSTMENTS
Two steps in adjusting Merchandise Inventory, End
1. Beginning inventory is removed from the book by
● Updating accounts that weren’t updated during the transferring the account balance to the Income
accounting period Summary account
2. The ending inventory is placed on the books by
What is the purpose? debiting Merchandise inventory and crediting Income
● Purpose: to apportion Summary
3. Not necessary if perpetual inventory system is used
What is the premise?
● Premise: financial transactions affect the revenues Adjusting Entries:
and expenses of more than one accounting period

CLOSING BEGINNING BALANCE

TYPES OF ADJUSTING ENTRIES
1. Accrued Revenue/Income DEBIT CREDIT
2. Accrued Expense
3. Deferred Expense (Prepaid Expense) Income Summary Merchandise Inventory,
4. Deferred Revenue/Income ((Unearned Revenue) Beg

Calculating and Recording Adjustments

1. Determine the adjustment for merchandise SETTING UP ENDING BALANCE
inventory (portion of the goods purchased during the
year remains unsold) DEBIT CREDIT
2. Compute adjustments for accrued and prepaid
Merchandise Inventory, Income Summary
expense items
End
3. Compute adjustments for accrued and deferred
income
4. Compute adjustments for depreciation (cost of the ACCRUALS
non-current asset has been used)
5. Compute adjustments for uncollectible accounts
receivable (portion of the accounts receivable may TWO BASIS:
not be collected due to the risk involved in granting 1. Accrual basis → Revenue earned or expenses
credit) incurred that have not been recorded prior to the end
of the period
2. Cash basis → Revenue earned or expenses incurred
MERCHANDISE INVENTORY are recorded when cash is received or used

What is Merchandise Inventory? TYPES OF ACCRUALS

● Consists of the goods that a business has on hand for
sale to customers 1. Accrued Revenue
● Maintained in the general ledger ● AKA “Accounts Receivable”
● Purchases of merchandise → debited to ● Revenue earned but not collected
Purchases account ● Asset account
● Sales of merchandise → credited to the Sales ● Normal debit balance
account ● Purpose: To record unrecognized revenue

Terms: ADJUSTING ENTRY (No collection but revenue is

1. Income Summary → an account that receives all the earned)
temporary accounts of a business upon closing them
at the end of every accounting period. DEBIT CREDIT
a. Normal debit balance
2. Inventory Sheet → lists the quantity of each type of Accrued ___ Revenue/___ ___ Revenue
goods a firm has in stock Receivable
 ENTRY (When revenue is collected)

DEBIT CREDIT

Cash Accrued ___ Revenue/___

Receivable

2. Accrued Expense
● AKA “Accounts Payable”
● Expense already used but not yet paid DEFERRALS
○ Accrued salaries
○ Accrued payroll taxes
○ Accrued interest on notes payable TYPES OF DEFERRALS:
● Liability account
● Normal credit balance 1. (Deferred) Prepaid Expense
● Purpose: To record unrecognized expense ● Expense paid in advance but not yet used
● Purpose: To allocate the used portion of the.
Pre-payment as expense
ADJUSTING ENTRY (No payment but expenses have ● Asset method
been incurred) ● Asset account
● Normal debit balance
DEBIT CREDIT
● Examples
___ Expense Accrued ___ Expense/___ ○ Prepaid supplies
Payable ○ Prepaid insurance
○ Prepaid interest on notes payable
○ Prepaid rent
ENTRY (When accrued expenses have been paid with ○ Prepaid advertising
cash) ○ Prepaid Taxes

DEBIT CREDIT
ADJUSTING ENTRY (Used portion of pre-payment)
___ Payable Cash
DEBIT CREDIT

___ Expense Prepaid ___ Expense

ADJUSTING ENTRY (Used portion of supplies)

DEBIT CREDIT

Supplies Expense Supplies

2. (Deferred) Unearned Revenue/ Income

● Revenue received in advance but not yet
earned
● Purpose: To allocate the earned portion of
the pre-collection as revenue
● Liability Method
● Liability account
● Normal credit balance

ENTRY (Pre-collection)

DEBIT CREDIT

Cash Unearned ___ Revenue

 ● Price that would be received to sell an asset
ADJUSTING ENTRY (Earned portion of the
pre-collection) or paid to transfer a liability in an orderly
transaction between market participants at
DEBIT CREDIT the measurement date

Unearned ___ Revenue ___ Revenue

DEPRECIATION

Cost
DEPRECIATION
(LESS: Residual Value)
What is depreciation
● The gradual process of transferring acquisition cost to DIVIDED: Useful life, in years
expense
● Allows a business to allocate the cost of a tangible
DEPRECIATION
asset over its useful life
Cost
DEPRECIATION EXPENSE
● Cost of Tangible property (LESS: Residual Value)
● How much of the asset has been used up in that year
● Partner of accumulated depreciation MULTIPLY: Depreciation Rate
● Normal debit balance

Terms: DEPRECIATION RATE

1. Property, Plant and Equipment
● Long term assets used in the operation of 1
the business
DIVIDED: Useful Life
● Buildings, automobile, machinery,
equipment, furniture and fixtures, and land
● Not charged to expense accounts when INTERNAL CONTROL
purchased. The cost of a long term asset is ● Authorize and justify the purchase of assets
allocated over the asset’s expected useful ● Assign identification number to each asset
life through depreciation ● Maintain an asset register
Note: land is the only PPE that does not depreciate ● Assign responsibility for safekeeping, maintaining,
2. Cost and operating each asset to a specific person
● The amount of cash or cash equivalents paid ● Take a physical inventory count periodically
or the fair value of the other consideration ● Establish procedures to authorize asset retirement,
given to acquire an asset at the: sale, or other disposition
○ time of acquisition
○ construction
DOUBTFUL ACCOUNTS AND BAD DEBTS
○ amount attributed to that asset
when initially recognized
3. Residual value ● AKA doubtful accounts, bad debts, uncollectible
● AKA “salvage/scrap value” accounts
● Estimated amount the entity will get if they
dispose of/ sell it What are bad debts?
● The selling price at the end of useful life ● Losses from uncollectible accounts are a normal cost
4. Depreciated Amount/Value/Cost of doing business
● The cost (or substitute amount) of an asset
less the residual value Note: Bad debts = Allowance for doubtful accounts
● Amount subject to depreciation
● “Hanggang ano ba ang dinedepreciate” Terms:
5. Accumulated depreciation 1. Allowance (Provision) for doubtful accounts →
● AKA “provision for depreciation” contra asset account on the balance sheet
“aggregate depreciation” ● AKA “Provision for doubtful accounts”
● Normal credit balance “Allowance for doubtful debts”
6. Carrying amount “Allowance for uncollectible accounts”
● To be “carried” on to succeeding periods ● Reduces the accounts receivable balance to
● Amount at which an asset is recognized after its estimated realizeable value
deducting any accumulated depreciation ● Credit normal balance
7. Fair value/ Market Value
 2. Bad debt expense → Expense account on the
Uncollectible Accounts/ Allowance for Doubtful
income statement Bad Debts Expense Accounts/ Bad Debts
● AKA “Uncollectible Accounts Expense”
● Recognizes the estimated uncollectible
debts as an expense WRITING OFF
● Debit normal balance
3. Valuation Account → an account that is revalued in DEBIT CREDIT
light of reasonable expectations
4. Net realizable value → amount that is expected to be Allowance for Doubtful Accounts Receivable
realized or collected Accounts
● Calculated as Accounts Receivable less
Allowance fo Doubtful Accounts Note: When a specific customer account is written off, net
income is not affected
● Write-off of a specific account only affects the balance
NET REALIZABLE VALUE
sheet accounts Accounts Receivable and Allowance
Accounts Receivable for Doubtful Accounts

(LESS: Allowance for Doubtful Accounts) 2. Percentage of Total Accounts Receivable

● Steps:
1. Multiply the total amount of
2 METHODS
accounts receivable by a
1. Allowance Method → charging uncollectible
single percentage
accounts expense in the period when the sales are
2. If percentage is
recorded
unavailable, find the
● You don’t know yet that they can’t pay but
average uncollectible
you still record it
accounts and divide it by
● Matches uncollectible accounts expense to
the average accounts
sales
receivable
● Uses a valuation account (Allowance for
doubtful accounts), a contra asset account
2. Direct Charge-Off Method → recording uncollectible BAD DEBTS EXPENSE IN % OF TOTAL ACCOUNTS
account losses as they occur RECEIVABLE
● Not an estimation
● Allowed for tax purposes (Better for higher Average Uncollectible Accounts/Bad Debts
income tax)
DIVIDED: Average Accounts Receivable
● Allowance method is not allowed since it
would result in an estimated expense on the
tax return
BAD DEBTS EXPENSE (If ADA has CREDIT Balance)
3 WAYS TO ESTIMATE ALLOWANCE METHOD: Accounts Receivable

1. Percentage of Net Credit Sales MULTIPLY: Estimated Uncollectible Rate

● Rate is based on the company’s
past experience with uncollectible EQUALS: Allowance for Doubtful Accounts, End
accounts and management’s
assessment of current business (LESS: Allowance for Doubtful Accounts, Beg)
conditions
● Steps:
1. Multiply net credit sales by BAD DEBTS EXPENSE (If ADA has DEBIT Balance)
a percentage
Accounts Receivable
2. Percentage is based on
previous experience MULTIPLY: Estimated Uncollectible Rate
3. New businesses base the
percentage on the EQUALS: Allowance for Doubtful Accounts, End
experience of business in
the same industry ADD: Allowance for Doubtful Accounts, Beg

ADJUSTING ENTRY 3. Aging the Accounts Receivable

DEBIT CREDIT
 ● Notice how individual account
receivable are separated into
different time period categories
● The longer the debt the less likely
you’ll collect it
● Steps:
1. Classify accounts into ‘age
groups’ of not due or past
due
2. Calculate the Allowance
for Doubtful Accounts, end
by multiplying the total of
each ‘age group’ assigned
rates
3. Calculate the Doubtful
Accounts Expense

BAD DEBTS EXPENSE (If ADA has CREDIT Balance)

Allowance for Doubtful Accounts, End

(LESS: Allowance for Doubtful Accounts, Beg)

BAD DEBTS EXPENSE (If ADA has DEBIT Balance)

Allowance for Doubtful Accounts, End

INTERNAL CONTROL
ADD: Allowance for Doubtful Accounts, Beg
● Authorization of all credit sales
● Procedures to properly record sales
What happens when an account fully becomes ● Separation of duties
uncollectible? ○ AKA “Maker and Checker Control”
1. Set up ● Invoices and monthly statements
2. Write off ● Authorize charge-off of accounts
3. Reinstate ● Aging of accounts receivable
● Investigation of past due accounts
● Written approval of all write-offs
● Continued efforts to collect written-off accounts

Note: When debt isn’t paid you classify it back to accounts

receivable

CH15: ACCOUNTS RECEIVABLE AND UNCOLLECTIBLE

ACCOUNTS

METHODS OF ACCOUNTING FOR UNCOLLECTIBLE

ACCOUNTS
1. Allowance Method → an estimate is made and
recorded each year of the bad debt losses applicable
to sales of that year

END OF ACCOUNTING PERIOD

DEBIT CREDIT

Uncollectible Accounts Allowance for Doubtful

Expense Accounts
 2. Direct Charge-Off Method c. Equity → ending balance of the owner’s
capital account is transferred from SOE to
the balance sheet
CH13: FINANCIAL STATEMENTS AND CLOSING
PROCEDURES
3. Basic Accounting Equation

What are financial statements

● General purpose reports that provide financial BASIC ACCOUNTING EQUATION
information
ASSETS = LIABILITIES + CAPITAL
● Entity’s economic resources (assets), claims against
the entity (liabilities and owner’s equity), and changes
in economic resources and claims (expenses and
revenue)
● Useful to primary users in making decisions relating to
providing resources to the entity

Who is responsible for the preparation and reporting of

financial statements?
● Management

ORDER OF PREPARATION OF FINANCIAL STATEMENTS

1. Income Statement
2. Statement of Owner’s Equity
3. Balance Sheet

STATEMENT OF FINANCIAL POSITION

“Balance Sheet”

1. Forms
a. Account Form → Horizontal presentation
b. Report Form → Vertical presentation

2. Elements
a. Assets
i. Current Assets → Listed in terms of
liquidity; ease with which an item
can be converted into cash
ii. Non Current Assets → Plant and
Equipment STATEMENT OF PROFIT OR LOSS
b. Liability
i. Current Liabilities → debts that
“Income Statement”
must be paid in a year
ii. Non Current Liabilities → debts of
1. Forms
the business that are due more
a. Natural Form
than one year
 b. Functional Form
2. Elements
a. Income
b. Expense

Types of Income Statement

1. Single-step income statement
● Lists all revenues in one section and all
expenses in another section
● Only one computation necessary to
determine the net income

SINGLE STEP NET INCOME

Total Revenue

LESS: Total Expenses

CLASSIFIED INCOME STATEMENT

NET SALES

LESS: Sales Returns and Allowances

LESS: Sales Discounts

LESS: COST OF GOODS SOLD

Merchandise Inventory, Beg

ADD: Net Cost of Purchases

Purchases

LESS: Purchase Returns and Allowances

LESS: Purchase Discounts

2. Multiple-step Income Statement ADD: Freight In

● AKA “classified income statement”
● Several subtotals are computed before net EQUALS: Total Goods Available for Sale
income is calculated
● First account is operating revenue (normal LESS: Merchandise Inventory, End
business operations)
EQUALS: GROSS PROFIT ON SALES

LESS: OPERATING EXPENSES

Selling Expenses
(Advertising)
(Freight Out)
(Sometimes Salaries Expense - Sales)
(Sometimes Depreciation Expense)

General and Administrative Expenses

(Rent)
(Utilities)
(Salaries Expense)
 (Insurance Expenses) STATEMENT OF CHANGES IN OWNER’S EQUITY
(Payroll taxes Expense)
(Telephone Expense)
(Uncollectibe Accounts Expense) 1. Items affecting equity
(Utilities Expense) a. Income and Expenses
(Depreciation) b. Investment by Owner
c. Withdrawal by Owner
EQUALS: NET OPERATING INCOME OR LOSS / 2. Expanded Accounting Equation
EARNINGS BEFORE INTEREST AND TAX (EBIT)

ADD: OTHER INCOME

STATEMENT OF OWNER’S EQUITY
Interest Income
Owner’s Capital, Beg
Miscelaneous Income
ADD: Additional Investment
LESS: INTEREST EXPENSE
ADD: Net Income
EQUALS: EARNINGS BEFORE TAXES (EBT)
LESS: Owner’s Drawings
LESS: INCOME TAXES
EQUALS: Owner’s Capital, End
EQUALS: NET INCOME

MERCHANDISE INVENTORY JOURNALIZING ADJUSTING ENTRIES

● Merchandise Inventory is the one account that
appears on both income statement and balance sheet
● Beginning and Ending Merchandise Inventory →
part of Cost of Goods Sold (Income Statement)
● Ending Merchandise Inventory → Assets section
(Balance Sheet)

Note: Accounts in the notes are arranged highest to lowest,

except for miscellaneous
 2. Close expense accounts and cost of goods sold
TYPE OF WORKSHEET PURPOSE
ADJUSTMENT REF. accounts with debit balances to Income Summary

Inventory (A-B) Removes

beginning
inventory and
adds ending
inventory to the
accounting
records

Expense (Bad (C-E) Matches expense

Debts Expense to revenue for the
and Depreciation period; the credit
Expense) is to a contra
asset account.
Required for bad
debts and
Depreciation
Expense

Accrued (F-I) Matches expense

Expense to revenue for the 3. Closing the Income Summary account. After the first
period; the credit two closing entries have been posted, the balance of
is to a liability the Income Summary Account is equal to the net
account income or net loss for the period. The third closing
entry transfers Income Summary balance to the
Prepaid Expense (J-L) Matches expense owner’s capital account.
to revenue for the
4. Closing the Drawing account. Closes drawing
period; the credit
is to an asset account and updates the capital account so that its
account balance agrees with the ending capital reported on
the statement of owner’s equity and on the balance
Accrued Income (M) Recognizes sheet.
income earned in
the period. The
debit is to an POSTING CLOSING ENTRIES
asset account
● “Closing” → is entered in the description column of
each account that is closed
● After closing entry is posted, each temporary account
POSTING ADJUSTING ENTRIES
balance is zero

● “Adjusting” → is entered in the description column

of the general ledger account PREPARING A POSTCLOSING TRIAL BALANCE
● Distinguishes it from the entries for transactions that
occurred during that period ● Prepared to confirm that the general ledger is in
● After the adjusting entries are posted, the general balance
ledger account balances match the amounts shown in ● Only accounts with balances appear on the
the adjusted trial balance section postclosing trial balance
● Matches the amounts reported on the balance sheet
JOURNALIZING CLOSING ENTRIES
INTERPRETING THE FINANCIAL STATEMENTS
1. Close revenue accounts and cost of goods sold
accounts with credit balances to Income Summary
NAME OF RATIO RATIO PURPOSE OF
FORMULA RATIO

Working Capital Current Assets - To measure a

Current firm’s ability to
Liabilities pay its current
obligations

Current Ratio Current Assets / This is another

 Current measure of a Accrued Revenue / ___ ___ Revenue
Liabilities firm’s ability to Receivable
pay its current
obligations. The REVERSING ENTRY
current ratio may
be compared to DEBIT CREDIT
other firms in the
same business. ___ Revenue Accrued Revenue / ___
Receivable
Gross Profit Gross Profit / To calculate the
Percentage Net Sales amount of gross
profit earned from
ACCRUED EXPENSE
each dollar of
sales
ADJUSTING ENTRY
Inventory COGS / Average To calculate and
Inventory evaluate the DEBIT CREDIT
Turnover
company’s
Average efficiency in ___ Expense Accrued Expense / ___
Inventory: purchasing and Payable
selling
[Beginning merchandise REVERSING ENTRY
Inventory + inventory.
Ending Inventory / DEBIT CREDIT
2]
Accrued Expense / ___ ___ Expense
Average Number 365 Days / To calculate the Payable
of Days in Inventory average number
Inventory Turnover of days it takes to
sell merchandise PREPAID EXPENSE
inventory after it is
purchased. ADJUSTING ENTRY (Expense Method)

Accounts Net Credit Sales To calculate and DEBIT CREDIT

Receivable / Average evaluate the
Turnover Accounts company’s Prepaid Expense ___ Expense
Receivable efficiency in
granting credit REVERSING ENTRY
Average Accounts and collecting
Receivable: cash from credit
DEBIT CREDIT
customers
[Beginning A/R +
Ending A/R / 2] ___ Expense Prepaid Expense

Average 365 Days / To calculate the

Collection Accounts average number UNEARNED REVENUE
Period Receivable of days it takes for
Turnover a business to ADJUSTING ENTRY (Revenue Method)
receive cash from
credit customers DEBIT CREDIT

___ Revenue Unearned Revenue

JOURNALIZING AND POSTING REVERSING ENTRIES
REVERSING ENTRY

What are reversing entries? DEBIT CREDIT

● Are made to reverse the effect of certain adjustments
● Helps prevent errors in recording payments or cash Unearned Revenue ___ Revenue
receipts in the new accounting period
What are adjustments that are NOT reversed?
ACCRUED REVENUE ● Prepaid Expense - asset method
● Unearned Revenue - liability method
ADJUSTING ENTRY ● Depreciation
● Doubtful Accounts
DEBIT CREDIT ● Closing Inventory
 CH24: STATEMENT OF CASH FLOWS ● Interest Income ● Pay salaires and
● Dividends Income wages
● Miscellaneous ● Pay interest
What is the statement of cash flow? Income expense
● Discloses changes in cash ● Pay for other
● Tells you the sources and uses of cash expenses
● Generation and utilization of cash
Expense and Income Items Involving Long-Term Assets and
What is the importance of the statement of cash flows? Liabilities
● Provides information about cash receipts and cash
payments of a business A. Depreciation Expense → not a cash outflow; added
● Creditors review statement of cash flows to determine back to net income
how the firm will pay interest and principal on debts
● Reviewed by investors to determine if the corporation B. Amortization of Premium on Bonds Payable →
will have the cash to pay dividends The bond interest expense on the income statement
● Reviewed by management for information about cash is less than the actual cash flow; the difference is
to pay employees, suppliers, and other obligations. subtracted from the net income

“How are you actually getting your cash?” C. Gain or Loss on Sale of Equipment → Gain is part
of the cash received and is deducted from the net
Management Implications income figure. A loss on sale of long term assets
● Needs to ensure that cash is available to meet would be added back to net income
operating expenses to pay debts promptly
● Analyzes the statement of cash flows to evaluate the Income and Expense Items Involving Changes in Current
operations of the company, plan future operations, Assets and Current Liabilities
forecast cash needs, arrange proper financing, and
plan dividend payments A. Increases in Current Assets → Increases in current
● Uses the statement of cash flows to determine how assets are deducted from net income
well the company will be able to meet its maturing ● Increases in Accounts Receivable
obligations ○ More sales on account were
recorded than collected
CASH ● Increase in Supplies
● Includes cash and cash equivalents ○ More supplies were paid for than
● Coin, currency, and bank accounts were used
○ Supplies were bought with cash
CASH EQUIVALENTS
● Easily convertible into known amounts of cash B. Decrease in Current Assets → decreases in
noncash current assets are added to net income to
(SOURCES AND USES OF CASH) arrive at cash flows from operating activities
3 CLASSIFICATIONS OF ACTIVITIES ● Decrease in Prepaid Expenses
○ More was charged to expenses
than was paid for prepaid expenses
“O - I - F”
● Decrease in Merchandise Inventory
○ More inventory was sold than was
1. Operating Activities
purchased
● Routine business transactions
● Includes Interest and Dividends Received
C. Increase in Current Liabilities → increases in
current liabilities are added to net income
OPERATING ACTIVITIES ● Increase in Sales Tax Payable
○ More sales tax was owed than was
Revenues, Expenses, Current Assets, Current Liabilities paid during the year
(such as Salaries Payable, Accounts Payable)
● Increase in Payroll Taxes Payable
○ More payroll taxes were owed than
INFLOWS OUTFLOWS
were paid
● Sale of ● Operating ● Increase in Interest Payable
merchandise or expenses ○ More interest was recorded as
services for cash ● Pay for expense than was paid in cash
● Collection of merchandise
accounts ● Pay taxes (Income D. Decrease in Current Liabilites → decreases in
receivable and Interest Tax)
current liabilities are subtracted from net income
 ● Decrease in Accounts Payable
preferred stock on preferred stocks
○ More cash was paid on account ● Issuance of bonds ● Repay bond
than purchases were recorded on payable indebtedness
account ● Borrowing through ● Repay notes
signing a note payable or other
payable borrowing
● Resale of treasury ● Purchase treasury
stock stock

Cash Inflows from Financing Activities

Effect of Net Loss on Cash Flows from Operations A. Proceeds of Cash Investments by Stockholders
● If the net income statement reflects a net loss, the first ● When you issue more shares of common
line of the statement of cash flows is the net loss. All stock, there is a cash inflow
adjustments for changes in current assets and current ● Cash is always equal to common stock +
liabilities are made to the net loss figure. paid in capital-common stock
B. Proceeds of Short-Term and Long-Term
2. Investing Activities Borrowing
● Acquisition (cash outflow) or disposal (cash
inflow) of long-term assets Cash Outflows from Financing Activities
● Sale of PPE and Sale of investmenets A. Payment of Mortgage Payable
● An account on the balance sheet that
INVESTING ACTIVITIES represents long term liability
● The amount of a oan borrowed to purchase
Non Current Assets (Property Plant and Equipment and real estate that is yet to be paid to the lender
Long term receivables) B. Payment of Cash Dividends
● Cash dividends → financial distribution made
INFLOWS OUTFLOWS by a company to its shareholders,
representing a portion of its profits and free
● Sale of land, ● Pay for the
buildings, or purchase of land, cash flow
equipment buildings, or
● Principal Payments equipment
2 METHODS ON PREPARING THE STATEMENT OF
collected on ● Pay for the
CASH FLOWS
receivables for long purchase of
term assets investments in
● Sale of investment bonds or other 1. Direct Method
in bonds or other securities ● All revenue and expenses reported on the
securities
income statement appear in the operating
section of the statement of cash flows
3. Financing Activities ● Show the cash received or paid out for each
● Transaction that provides cash to business type of transaction
to carry on its activities ● A corporation reports cash flows from
● Activities that alter the equity capital and operating activities in: gross cash receipts
borrowing structure of the entity and gross cash payments
● Includes short term loans ● Classifications for reporting cash inflows and
● Equity transactions → include selling outflows:
company stocks and paying cash dividends ○ Cash collected from customers
● Debt transactions → include borrowing ○ Interest and dividends received
money from banks or through the insurance ○ Cash paid to employees and other
of notes or bonds and paying back loans, suppliers of goods and services
bonds, or notes ○ Interest Paid
○ Income Taxes Paid
FINANCING ACTIVITIES
OPERATING CASH FLOW
Owner’s Equity and Non Current Liabilities / Debt
Total Revenue
INFLOWS OUTFLOWS
LESS: Operating Expense
● Issuance of ● Pay cash dividends
common stock on common stock
● Issuance of ● Pay cash dividends 2. Indirect Method
● Most corporations use this method
 ● Cash flow from operating activities section,
STATEMENT OF OWNER’S EQUITY
net income is treated as the primary source
of cash and is adjusted for changes in
current assets and liabilities

OPERATING CASH FLOW

Net Income

ADD/LESS: Non Cash Transactions

ADD/LESS: Changes in Current Assets and Current

Liabilities

STATEMENT OF CASH FLOW

Net Cash Provided/ Used in Operating Activities

ADD: Net Cash Provided/ Used in Investing Activities

ADD: Net Cash Provided/ Used in Financing Activities

EQUALS: Net Increase/Decrease in Cash and Cash

equivalents Retained Earnings

ADD: Cash, Beginning

EQUALS: Cash, Ending

Steps:

1. Start with Net Income: Begin with the net income

from the income statement.
2. Add the Non Cash Expense back to Net Income.

ENOTECA FINE WINES

PREPARING A WORKSHEET

What is a worksheet?
● A form used to gather all data needed at the end of an
accounting period
 ● Just an optional step of the accounting cycle 1. Close Revenue accounts and Cost of Sales accounts
● Not part of the formal accounting records of a with credit balances to Income Summary
business 2. Close Expense accounts and Cost of Sales accounts
● Adjustments that are on the worksheet must still be with debit balances to Income Summary
journalized and posted 3. Close Income Summary (the balance of which reflects
● Formal financial statements must still be prepared the net income/loss for the period) to Owner’s Capital
4. Close the Owner’s Drawing to Owner’s Capital
What is the purpose?
● To facilitate the quick preparation of financial
POST CLOSING TRIAL BALANCE
statements; Timely decision making

What is the Post Closing Trial Balance

WORKSHEET ADJUSTMENTS ● A statement that proves the equality of total debits
and total credits after the closing process is
1. Merchandise Inventory is adjusted to it’s ending completed
inventory ● Provides the same information as provided in the
2. Allowance for doubtful accounts is adjusted statement of financial position
3. Prepaid advertising expense is adjusted according to ● Assets, Liabilities, Owner’s Equity
the amount used
4. Supplies is adjusted according to the amount of
supplied used
5. Depreciation on equipment is adjusted
6. Depreciation for furniture and fixtures is adjusted

ADJUSTED TRIAL BALANCE

1. Add and subtract values

2. Insert the result to the normal balance of the account

CLOSING ENTRIES

What are closing entries?

● Journal entries that transfer the results of operations
(net income or loss) to the Owner’s Equity and zero
out the temporary accounts

What is the Income Summary

● AKA “Revenue & Expense Summary” “Income &
Expenses Summary”
● A special and temporary owner’s equity account that
is used in the closing process to zero out temporary
accounts

TEMPORARY ACCOUNTS

1. Sales and Contra-sales

a. Sales
b. Sales Returns & Allowances
c. Sales Discount
2. Other Revenue/ Other Income
3. Cost of Sales
a. Opening Inventory
b. Purchases
c. Purchase Returns & Allowances
d. Freight In

4 IMPORTANT STEPS TO CLOSING ENTRIES