2. Accounting Day 2 Topics
Debit and Credit Quiz Review
Introduction to Financial Statements
• Income Statement
• Balance Sheet
• Retained Earnings
• Cash flow Statement
Transactions Affecting Income Statements and the Balance
Sheets
Cash vs Accrual Based Accounting
Adjustments for Financial Accounting
13. Financial Statements
Financial information comes in many forms, but the
most important are the Financial Statements. They
summarize relevant financial information in a format
that is useful in making important business decisions.
Too much information may be equally useless. Financial
statements summarize a large number of Transactions
into a small number of significant categories. To be
useful, information must be organized.
14. Quick Quiz (Preview of Concepts)
The financial statements of a business entity:
A. Include the balance sheet, income statement, and income tax return.
B. Provide information about the profitability and financial position of the company.
C. Are the first step in the accounting process.
D. Are prepared for a fee by the Financial Accounting Standards Board.
The correct answer is B. An income tax return is not one of the financial statements. Income tax
returns contain confidential information and follow tax law, not accounting principles. The three
required financial statements include the:
balance sheet
income statement
cash flow statement
Many companies also include a statement of owner's equity or retained earning
Preparing the financial statements is the LAST step in the accounting process. They are generally
prepared by accountants working for the company, but small companies often have their financial
statements prepared by a Certified Public Accountant (CPA). The FASB is a government-endorsed non-
profit organization responsible for establishing WHAT information is contained in financial statements
and HOW it is presented. This is referred to as Generally Accepted Accounting Principles (GAAP) and
revolves around the principles of "adequate disclosure" and "fair presentation."
15. Financial Statements of Business
Organizations
1. The Income Statement is the Financial Statement that reflects a company’s
profitability
2. The Statement of Retained Earnings show the change in retained earnings
between the beginning and end of a period (not required by GAAP)
3. The Balance Sheet reflects a company’s solvency and financial position
4. The Statement of Cash Flow shows the cash inflows and outflows for a company
over a period of time.
19. Income Statement
The income statement is sometimes referred to
as the profit and loss statement (P&L),
statement of operations, or statement of
income.
The income statement is important because it
shows the profitability or net income of a
company during the time interval specified in its
heading.
Net Income=
Revenues - Expenses
Here's
a Tip
Net income is often called the
earnings of the company. When
expenses exceed revenues, the
business has a net loss.
Here's
a Tip
20. Parts of the Income Statement
The format of the income statement or the
profit and loss statement will vary according to
the complexity of the business activities.
However, most companies will have the
following elements in their income statements:
A. Revenues and Gains
1. Revenues from primary activities
2. Revenues or income from
secondary activities
B. Expenses and Losses
1. Expenses involved in primary activities
2. Expenses from secondary activities
3. Losses (e.g., loss on the sale of long-term
assets etc.)
C. Net Income
1. Revenues-Expenses
Under the accrual basis of
accounting, the cost of goods sold
and expenses are matched to
sales and/or the accounting period
when they are used, not the
period in which they are paid.
Here's
a Tip
Don't confuse revenues with
receipts—
Revenues (operating and
nonoperation) occur when a sale is
made or when they are earned.
Revenues are frequently earned and
reported on the income statement
prior to receiving the cash.
Receipts occur when cash is
received/collected.
Here's
a Tip
The income statement or profit and loss
statement shows revenues, expenses, gains, and
losses.
The income statement does not show cash
receipts and cash disbursements.
Here's
a Tip
22. The Balance Sheet
The accounting balance sheet is one of the major
financial statements used by accountants and business
owners. The balance sheet is also referred to as the
statement of financial position.
The balance sheet presents a company's financial
position at the end of a specified date. Some describe
the balance sheet as a "snapshot" of the company's
financial position at a point (a moment or an instant) in
time.
For example, the amounts reported on a balance sheet
dated December 31, 2014 reflect that instant when all the
transactions through December 31 have been recorded.
23. The Uses of the Balance Sheet
Because the balance sheet informs the
reader of a company's financial position
as of one moment in time, it allows
someone—like a creditor—to see what a
company owns as well as what it owes to
other parties as of the date indicated in
the heading.
This is valuable information to the
banker who wants to determine whether
or not a company qualifies for additional
credit or loans.
Others who would be interested in the
balance sheet include current investors,
potential investors, company
management, suppliers, some customers,
competitors, government agencies, and
labor unions.
24. Parts of the Balance Sheet
Assets
•Assets are things that the company owns. They are the resources of the company that
have been acquired through transactions, and have future economic value that can be
measured and expressed in dollars.
Liabilities
•Liabilities are obligations of the company; they are amounts owed to creditors for a past
transaction and they usually have the word "payable" in their account title. Along with
owner's equity, liabilities can be thought of as a source of the company's assets. They
can also be thought of as a claim against a company's assets.
Owner's (Stockholders') Equity
•Owner's Equity—along with liabilities—can be thought of as a source of the company's
assets. Owner's equity is sometimes referred to as the book value of the company,
because owner's equity is equal to the reported asset amounts minus the reported
liability amounts.
Owner's equity may also be referred to as the residual of assets minus liabilities.
25. Balance Sheet Accounts
Cash
Petty Cash
Temporary Investments
Accounts Receivable
Inventory
Supplies
Prepaid Insurance
Land
Land Improvements
Buildings
Equipment
Goodwill
Bond Issue Costs
Usually asset accounts will have debit balances.
Contra assets are asset accounts with credit
balances. (A credit balance in an asset account is
contrary—or contra—to an asset account's usual
debit balance.) Examples of contra asset accounts
include:
Allowance for Doubtful Accounts
Accumulated Depreciation-Land Improvements
Accumulated Depreciation-Buildings
Accumulated Depreciation-Equipment
Accumulated Depletion
Etc.
Notes Payable
Accounts Payable
Salaries Payable
Wages Payable
Interest Payable
Other Accrued Expenses Payable
Income Taxes Payable
Customer Deposits
Warranty Liability
Lawsuits Payable
Unearned Revenues
Bonds Payable
Etc.
Liability accounts will normally have credit balances.
Contra liabilities are liability accounts with debit
balances. (A debit balance in a liability account is
contrary—or contra—to a liability account's usual
credit balance.) Examples of contra liability
accounts include:
Discount on Notes Payable
Discount on Bonds Payable
Etc.
Assets Liabilities
28. Retained Earnings
Retained earnings are usually
considered part of the
balance sheet (another basic
financial statement) under
"stockholders equity
(shareholders' equity)”
The statement is mostly
affected by net income
earned during a period of
time by the company less any
dividends paid to the
company's owners /
stockholders.
29. Cash Flow Statement
A cash flow statement,
also known as statement
of cash flows, is a
financial statement that
shows how changes in
balance sheet accounts
and income affect cash
and cash equivalents
It breaks the analysis
down to operating,
investing and financing
activities.
30. Day two quiz: Financial Statements
Balance Sheet
1. Another name for the balance sheet is Statement Of Operations
Statement Of Financial Position
2. The balance sheet heading will specify a Period Of Time Point In
Time
3. Which of the following is a category or element of the balance sheet?
Expenses Gains Liabilities Losses
4. Which of the following is an asset account? Accounts Payable
Prepaid Insurance Unearned Revenue
5. What is the normal balance for an asset account? Debit
Credit
6. What is the normal balance for liability accounts? Debit
Credit
31. Day two quiz: Financial Statements
Income Statement
1. Which of the following names is NOT associated with the income statement?
P & L Statement Of Financial Position Statement Of Operations
2. The income statement heading will specify which of the following? A POINT In
Time A PERIOD Of Time
3. Amounts earned by a company in its main operating activities are Revenues
Gains
4. A company disposes of equipment that it no longer uses in its business. The
amount received by the company is more than the amount the asset is carried at
in the accounting records. The company will report a(n) Expense
Gain Loss Revenue
5. On December 1 a company borrowed $100,000 at 12% per year. The interest will
be paid quarterly, with the first payment due on March 1. What should the
company report on its income statement for December? Nothing
Interest Expense Of $1,000
6. Is a retailer's Interest Expense an operating expense or a non-operating expense?
Operating Expense Non-operating Expense
32. Day two quiz: Financial Statements
Balance Sheet
1. Another name for the balance sheet is Statement Of Operations
Statement Of Financial Position
2. The balance sheet heading will specify a Period Of Time Point In
Time
3. Which of the following is a category or element of the balance sheet?
Expenses Gains Liabilities Losses
4. Which of the following is an asset account? Accounts Payable
Prepaid Insurance Unearned Revenue
5. What is the normal balance for an asset account? Debit
Credit
6. What is the normal balance for liability accounts? Debit
Credit
33. Day two quiz: Financial Statements
Income Statement
1. Which of the following names is NOT associated with the income statement?
P & L Statement Of Financial Position Statement Of Operations
2. The income statement heading will specify which of the following? A POINT In
Time A PERIOD Of Time
3. Amounts earned by a company in its main operating activities are Revenues
Gains
4. A company disposes of equipment that it no longer uses in its business. The amount
received by the company is more than the amount the asset is carried at in the
accounting records. The company will report a(n) Expense Gain
Loss Revenue
5. On December 1 a company borrowed $100,000 at 12% per year. The interest will be
paid quarterly, with the first payment due on March 1. What should the company
report on its income statement for December? Nothing
Interest Expense Of $1,000
6. Is a retailer's Interest Expense an operating expense or a non-operating expense?
Operating Expense Non-operating Expense
36. Transactions Affecting Only Balance
Sheet
Since each transaction affecting a business entity must
be recorded in the accounting records, analyzing a
transaction before actually recording it is an important
part of financial accounting.
An error in transaction analysis results in incorrect
financial statements
37. Transactions Affecting Only Balance
Sheet
To illustrate the analysis of transactions and their
effects on the basic accounting equation, the activities
of Metro Courier, Inc., and the resulting statements are
shown.
Two exercises and the resulting balance sheets are shown.
38. Owners invested Cash
When Metro Courier, Inc., was organized as a corporation on 2010 June
1, the company issued shares of capital stock for USD 30,000 cash to
Ron Chaney, his wife, and their son.
This transaction increased assets (cash) of Metro by USD 30,000 and
increased equities (the capital stock element of stockholders’ equity)
by USD 30,000. The basic accounting equation is demonstrated below.
39. Owners Borrowed Money
The company borrowed USD 6,000 from Chaney’s father. Chaney signed
the note for the company.
The note bore no interest and the company promised to repay (recorded
as a note payable) the amount borrowed within one year. After including
the effects of this transaction, the basic accounting equation is:
40. Purchased trucks and office
equipment for cash
Metro paid USD 20,000 cash for two used delivery trucks and USD 1,500 for office
equipment. Trucks and office equipment are assets because the company uses
them to earn revenues in the future.
Note that this transaction does not change the total amount of assets in the basic
equation but only changes the composition of the assets.
The transaction decreased cash and increased trucks and office equipment
(assets) by the total amount of the cash decrease.
Metro receive two assets and gave up one asset of equal value. Total assets are
still USD 36,000. The accounting equation now is:
41. Purchased office equipment on
account (for credit)
Metro purchased an additional USD 1,000 of office equipment on
account, agreeing to pay within 10 days after receiving the bill.
(To purchase an item on account means to buy it on credit.)
This transaction increased assets (office equipment) and
liabilities (accounts payable) by USD 1,000. As stated earlier,
accounts payable are amounts owed to suppliers for items
purchased on credit. No you can see USD 1,000 increase in
assets and liabilities as follows:
42. Paid and account payable
Eight days after receiving the bill, Metro Paid USD 1,000 for
the office equipment purchased on account (transaction 4a).
This transaction reduced cash by USD 1,000 and reduced
accounts payable by USD 1,000. Thus, the assets and
liabilities both are reduced by USD 1,000 and the equation
again balances as follows.
43. Transactions affecting only the
balance sheet-summary
A summary of transaction is a teaching tool used to show the effects of
transactions on the accounting equation.
Note that the stockholders’ equity has remained at USD 30,000. This amount
changes as the business begins to earn revenues or incur expenses.
You can see how the totals tie into the balance sheet. The date on the balance
sheet is 2010 June 30. These totals become the beginning balances for July 2010.
Thus far, all transactions have consisted of exchanges or acquisitions of assets
either by borrowing or by owner investment. We used this procedure to help you
focus on the accounting equation as it relates to the balance sheet.
However, people do not form a business only to hold existing assets. They form
businesses so their assets can generate greater amounts of assets. Thus, a
business only to hold existing assets. They form businesses so their assets can
generate greater amounts of assets.
Thus, a business increases its assets by providing goods or services to customers.
The results of these activities appear in the income statement. The section that
follows shows more of Metro’s transactions as it began earning revenues and
incurring expenses.
45. Transactions effecting the income
statements—Earned service revenue and
received cash
As its first transaction in July, Metro performed delivery services for customers
and received USD 4,800 cash. This transaction increased and asset (cash) by USD
4,800. Stockholders’ equity (retained earnings) also increased by USD 4,800, and
the accounting equation was in balance.
The USD 4,800 is a revenue earned by the business and, as such, increases
stockholders’ equity (in the form of retained earnings) because stockholders
prosper when the business earns profits. Likewise, if the corporation sustains a
loss, the loss would reduce retained earnings.
Revenues increase the amount of retained earnings while expenses and dividends
decrease them. Right now, we show all of these items as immediately affecting
retained earnings. Usually, the revenues, expenses, and dividends are accounted
for separately from retained earnings during the accounting period and are
transferred to retained earnings only at the end of the account period as part of
the closing process.
The effects of this are USD 4,800 transaction on the financial position of Metro are
as follows.
46. Earned Service Revenue and Received
Cash—Retained earnings
Metro would record the increase in stockholders’ equity brought about by the
revenue transaction as a separate account, retained earnings.
This does not increase capital stock because the Capital Stock account increases
only when the company issues share of stock. The expectation is that revenues
transaction will exceed expenses and yield net income.
If net income is not distributed to stockholders, it is in fact retained. Later
modules show that because of complexities in handling large numbers of
transactions, revenues and expenses affect retained earnings only at the end of an
accounting equation remains in balance.
47. Service revenue earned on account (for credit)
Metro performed courier delivery services for a customer who agreed to pay USD
900 at a later date. The company granted credit rather than requiring the
customer to pay cash immediately. This is called earning revenue on account.
The transaction consists of exchanging services for the customer’s promise to pay
later. This transaction is similar to the previous transaction.
However, the transaction differs because the company has not received cash.
Instead, the company has received another asset, and account receivable.
As noted earlier, an account receivable is the amount due from a customer for
goods or services already provided, The company as a legal right to collect from
the customer in the future. Accounting recognizes such claims as assets. The
accounting equation, including this USD 900 item, is as follows.
48. Collected cash on accounts receivable
Metro collected USD 200 on account in the last transaction. The
customer will pay the remaining USD 700 later. This transaction
affects only the balance sheet and consists of giving up a claim on a
customer in exchange for cash. The transaction increases cash by
USD 200 and decreases accounts receivable by USD 200.
Note that this transaction consists solely of a change in the
composition of the assets. When the company performed the
services, it recorded the revenue. Therefore, the company does note
record the revenue again when collecting the cash.
49. Paid salaries
Metro paid employees USD 2,600 in salaries. This transaction is an
exchange of cash for employee services. Typically, companies pay
employees for their services after they perform their work. Salaries (or
wages) are costs companies incur to produce revenues, and companies
consider them an expense.
Thus, the accountant treats the transaction as a decrease in an asset
(cash) and a decrease in stockholders’ equity (retained earnings)
because the company has incurred an expense. Expense transactions
reduce net income. Since net income becomes a part of the retained
earnings balance, expense transactions also reduce the retained
earnings.
50. Paid Rent
In July, Metro paid USD 400 cash for office space rental. This
transaction causes a decrease in cash of USD 400 and a
decrease in retained earnings of USD 400 because of the
incurrence of rent expense. The previous transaction had the
following effects on the amounts in the accounting equation.
51. Received bill for gas and oil used
At the end of the month, Metro received a USD 600 bill for
gas and oil consumed during the month. This transaction
involves an increase in accounts payable (a liability) because
Metro has not yet paid the bill and decrease in retained
earnings because Metro has incurred and expense. Metro’s
accounting equation now reads:
74. Quiz #2 Adjusting Entries
Use the following information to answer questions 1 - 6: A company borrowed
$100,000 on December 1 by signing a six-month note that specifies interest at an
annual percentage rate (APR) of 12%. No interest or principal payment is due until the
note matures on May 31. The company prepares financial statements at the end of
each calendar month. The following questions pertain to the adjusting entry that
should be entered in the company's records.
1. What date should be used to record the December adjusting entry?
2. How many accounts are involved in the adjusting entry?
3. What is the name of the account that will be debited?
4. What is the name of the account that will be credited?
5. What is the amount of the debit and the credit?
6. What would be the effect on the financial statements if the company fails to
75. Quiz #2 Adjusting Entries (Answers)
Use the following information to answer questions 1 - 6: A company borrowed $100,000 on December 1 by signing a six-
month note that specifies interest at an annual percentage rate (APR) of 12%. No interest or principal payment is due until
the note matures on May 31. The company prepares financial statements at the end of each calendar month. The following
questions pertain to the adjusting entry that should be entered in the company's records.
1. What date should be used to record the December adjusting entry?
December 31 (the last day of the accounting period)
2. How many accounts are involved in the adjusting entry?
Two
3. What is the name of the account that will be debited?
Interest Expense (an income statement account)
4. What is the name of the account that will be credited?
Interest Payable (a balance sheet account)
5. What is the amount of the debit and the credit?
$1,000.
Computation: 12% per year is 1% per month X $100,000 = $1,000 per month.
6. What would be the effect on the financial statements if the company fails to make the adjusting entry on December 31?
If the company fails to make the December 31 adjusting entry there will be four consequences:
1) Interest Expense will be understated (too little expense being reported) by $1,000.
2) Net Income will be overstated (too much net income being reported) by $1,000.
3) Owner's equity will be overstated by $1,000.
4) Interest Payable will be understated by $1,000.
The accounting equation and balance sheet will show liabilities (Interest Payable) understated by $1,000 and owner's equity
Hinweis der Redaktion
GAAP also requires certain additional financial and non-financial disclosures in a section called the Notes to the Financial Statements. The Notes are an integral part of a company's financial information and must be included with the financial statements.
