Financial Accounting by Maliha Tahir 07

1. Completing the
Accounting Cycle
FUNDAMETAL ACCOUNTING
Presented by:
MALIHA

2. 2
Outline
 What is Accounting?
 Who uses accounting information?
 Main Division Of Accounting
 Chart of Account
 Accounting Concepts/Conventions
 Cash VS Accrual Accounting
 Accounting Cycle
 Fundamental Accounting Equation & Concept of Double Entry System
 The Basic Accounting Elements
 General Journal & General Ledger
 The preparation of adjusted Trial Balance
 Preparation of a Worksheet & its usefulness.
 The Closing process & Closing entries
 Preparation of Financial Statement
 Q & A Session
 Conclusion

3. What is Accounting?
The Language of Business.
A means to communicate
Financial information.
A way to convey information
about a Business to users.
3

4. Who uses Accounting
4
Information?
Owners
Managers
Investors (including potential)
 Analysts on their behalf
Creditors (including potential)
Government (tax assessment)
Regulators
Customers

5. Main Divisions of Accounting
Financial accounting
 Primarily prepared for users external to the
company.
5
→Revenues, earnings, assets, etc.
Management accounting
 Primarily for internal purposes
→Costing, budgeting, net present value, etc.

6. Recording Business
6
Transactions
The Accounting Period
One Year
Calendar year
Fiscal year
Less than One Year
Quarterly
Monthly

7. CHART OF ACCOUNT
What is the Chart of Accounts?
It is the list of accounts used by a business.
Each business entity has its unique chart
of accounts.
Every chart of accounts has the same
numbered account categories:
– Assets, Liabilities, Owner’s Equity
– Revenues, Expenses
7

8. Accounting Concepts /
8
Conventions
Business Entity
Money Measurement
Realization
Dual Aspect (Double entry System)
Substance over form
Prudence
Consistency
Matching (Accruals)
Going concern

9. Important Concepts
9
4 concepts
as “Fundamental” ARE:
1.Going Concern
2.Consistency
3.Prudence
4.Accruals

10. CASH VS ACCRUAL ACCOUNTING
10
Cash Accounting
Revenue is recorded when cash is received.
Expense is recorded when cash is disbursed.
 Very straightforward. Facts determine the timing of entries. Less
room for judgment.
Accrual Accounting
Revenue is recorded (recognized) when the revenue has been
earned.
 When the product or service has been provided to the customer,
regardless of when payment is received.
Expenses are mmaattcchheedd to the revenue that they helped to
earn, regardless of when payment is made.

11. The Accounting Cycle
Process by which accountants
prepare financial statements for
an entity for a specific period of
time
11

12. Accounting Cycle
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13. Accounting Cycle
13
Journalize Transaction
Post to Accounts
Adjust Accounts
Close Accounts
Prepare
Financial Statements

14. Fundamental Accounting Equation
As se ts = Liabilitie ss ++ OOwwnneerrss’’ EEqquuiittyy
14
 This equation is always in balance
 In order for this equation to remain in balance,
double-entry bookkeeping is employed.
→That is, the recording of every transaction or event
must have at least two parts
Either an equal impact (increase or decrease) to both sides of
the equation or equal and opposite impact to one side.
→The recording of every transaction must keep this
equation in balance

15. Double Entry System
15
All journal entries have two “sides”:
Debit and Credit
 For every journal entry, the total debits must equal the
total credits
→This ensures that the fundamental accounting equation (A = L
+ OE) is always in balance.
The basic journal entry:
Debit Account name1 PKR amount
Credit Account name2 PKR amount
To record…

16. 16
More Detail
“Debit” and “Credit” are just accounting-speak for
“increase” and “decrease”
 “Debit” means “increase” for some elements and
“decrease” for other elements. Likewise for “credit”.
→For example, a company pays its Rs 500 utility bill:
In English: the company has incurred an expense (the amount of
expense has increased) and the amount of cash in the company
has decreased.
An expense (Utilities) has increased
An asset (Cash) has decreased
In Journal entry:
Debit Utility expense Rs 500
Credit Cash Rs 500
To record the payment of utility bill

17. 2 Kinds of Entries
17
1. Transactional
• The recording of an exchange with another entity
2. Adjusting
• Required only when financial statements are
prepared to “adjust” accounts to where they should
be
• Always include at least one Balance Sheet account
and one Income Statement account.
• e.g. Depreciation of capital assets, earning of interest
revenue.

18. The Basic Accounting
18
Elements:
Asset Expense
Liability Revenue Owners’ Equity

19. Basic Accounting Elements
Asset
19
 Has future benefit to the entity
Liability
 Obligation to transfer assets in the future
Owners’ Equity
 Owners’ interest in the company
Revenue
 Increase in economic resources resulting from normal
operations of the company
Expense
 Decrease in economic resources resulting from normal
operations of the company

20. The Basic Accounting
20
Elements:
Balance Sheet Income Statement
Balance Sheet/
Stmt of Retained
Earnings
Debit Asset Expense
Credit Liability Revenue Owners’
Equity

21. Going back to the Fundamental
21
Accounting Equation:
AAsssseettss == LLiiaabbiilliittiieess ++ OOwwnneerrss’’ EEqquuiittyy
Debit Credit Credit
Assets
Current assets
Long-term assets
Liabilities
Current liabilities
Long-term liabilities
Direct investment
Capital stock
Indirect investment
Dividends (debit)
Retained earnings
Revenue (credit)
Expense (debit)

22. General Journal
What is the General Journal?
It is the book of original entry.
Transactions are written in a journal in
chronological order.
The format of the journal is important.
Journalizing is the process of entering
information as debits and credits to the
correct accounts.
22

23. 23
General Ledger
What is the General Ledger?
It is the book of final entry.
The information from the journal is
transferred to the ledger in the posting
process.
Debits and credits in the journal remain
exactly the same when posted to the
accounts in the ledger.

24. 24
MORE DETAIL
So far we have discussed the major
concepts involves in the accounting cycle:
 Analyzing
 Recording
 Posting
 Unadjusted Trial Balance
 Adjusting
 Adjusted Trial Balance
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25. What are on the Worksheet?
 A Worksheet includes following columns:
 Unadjusted trial balance.
 Adjusting entries
 Adjusted trial balance.
 Income statement
 Balance sheet
 Worksheet can be used to simplify the
25
preparation of financial statements.
 Used to help move data from the trial balance to
the financial statements
 An internal document – not financial statement

26. A Blank Worksheet
Adjusted Trial
Balance Income Statement
26
Account
Smith Inc.
Work Sheet
For Year ended Dec.31 2004
Balance Sheet and
Statement of Owner's
Equity
Unadjusted Trial
Balance Adjustments
Dr Cr Dr Cr Dr Cr Dr Cr Dr Cr

27. Steps in preparation of the worksheet
27
Account
Dr Cr Dr Cr Dr Cr Dr Cr Dr Cr
Cash 171000
Short-term investment 100000
Accounts Receivable 36000
Interest receivable
Prepaid Expense 20000
Inventory 20000
Plant and Equipmemt 250000
Accumulated Depreciation
Accounts Payable 50000
Wages payable
Unearned Revenue 50000
Paid Capital 500000
Sales Revenue 36000
Interest Revenue
Cost of Sales 30000
Operating expenses 9000
total 636000 636000
Smith Inc.
Work Sheet
For Year ended Dec.31 2004
Balance Sheet and
Statement of Owner's
Equity
Unadjusted Trial
Balance
Adjustments Adjusted Trial
Balance
Income Statement
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28. Steps in preparation of the worksheet
28
Account
Smith Inc.
Work Sheet
For Year ended Dec.31 2004
Dr Cr Dr Cr Dr Cr Dr Cr Dr Cr
Cash 171000
Short-term investment 100000
Accounts Receivable 36000
Interest receivable 2916.67
Prepaid Expense 20000 10000
Inventory 20000
Plant and Equipmemt 250000
Accumulated Depreciation 2600
Accounts Payable 50000
Wages payable 35000
Unearned Revenue 50000 25000.00
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Paid Capital 500000
Sales Revenue 36000 25000
Interest Revenue 2916.67
Cost of Sales 30000
Operating expenses 9000 47600.00
total 636000 636000 75516.67 75516.67
Balance Sheet and
Statement of Owner's
Equity
Unadjusted Trial
Balance
Adjustments Adjusted Trial
Balance
Income Statement
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29. Steps in preparation of the worksheet
29
Account
Smith Inc.
Work Sheet
For Year ended Dec.31 2004
Dr Cr Dr Cr Dr Cr Dr Cr Dr Cr
Cash 171000 171000
Short-term investment 100000 100000
Accounts Receivable 36000 36000
Interest receivable 2916.67 2916. 67
Prepaid Expense 20000 10000 10000
Inventory 20000 20000
Plant and Equipmemt 250000 250000
Accumulated Depreciation 2600 2600
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Accounts Payable 50000 50000
Wages payable 35000 35000
Unearned Revenue 50000 25000.00 25000. 00
Paid Capital 500000 500000
Sales Revenue 36000 25000 61000
Interest Revenue 2916.67 2916. 67
Cost of Sales 30000 30000
Operating expenses 9000 47600.00 56600. 00
total 636000 636000 75516.67 75516.67 676516. 67 676516. 67
Balance Sheet and
Statement of Owner's
Unadjusted Trial
Balance
Adjustments Adjusted Trial
Balance
Income Statement
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30. Steps in preparation of the worksheet
30
Account
Smith Inc.
Work Sheet
For Year ended Dec.31 2004
Dr Cr Dr Cr Dr Cr Dr Cr Dr Cr
Cash 171000 171000
Short-term investment 100000 100000
Accounts Receivable 36000 36000
Interest receivable 2916.67 2916. 67
Prepaid Expense 20000 10000 10000
Inventory 20000 20000
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Plant and Equipmemt 250000 250000
Accumulated Depreciation 2600 2600
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Accounts Payable 50000 50000
Wages payable 35000 35000
Unearned Revenue 50000 25000.00 25000. 00
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Paid Capital 500000 500000
Sales Revenue 36000 25000 61000 61,000
Interest Revenue 2916.67 2916. 67 2,917
Cost of Sales 30000 30000 30,000
Operating expenses 9000 47600.00 56600. 00 56,600
total 636000 636000 75516.67 75516.67 676516. 67 676516. 67 86,600 63,917
Net Income (22,683)
Balance Sheet and
Statement of Owner's
Unadjusted Trial
Balance
Adjustments Adjusted Trial
Balance
Income Statement
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31. Steps in preparation of the worksheet
31
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32. 32
Closing Process
 The closing process occurs at the end of an
accounting period after financial
statements are prepared.
 Reasons for closing entries:
 Resets revenue and expense account balances
to zero at the end of the period.
 Updates the retained earnings account to
reflect net income and distributions.

33. Temporary and Permanent Accounts
Temporary accounts are also called
nominal accounts. They are opened at the
beginning of a period, used to record events
for that period and closed at the end of the
period. They accumulate data related to one
accounting period only.
33

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34
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35. Permanent Accounts
LLiiaabbiilliittiieess OOwwnneerr’’ss
35
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36. Steps in the Closing Process
 Set an Income Summary account.
 Close Revenue accounts to Income
36
Summary.
 Close Expense accounts to Income
Summary.
 Close Income Summary account to
Retained Earnings

37. Close Revenue Accounts to Income
Sales Revenue
61,000 61,000
The entries : Interest Revenue
Dr. Sales Revenue 61000
2,917 2,917
37
Summary
…
-
Income Summary
63,917
63,917
The entries :
Dr. Sales Revenue 61000
Interest Revenue 2917
Interest Revenue 2917
6 3 9C1r.7 Income Summary
6 3 9C1r.7 Income Summary

38. Close Expense Accounts to Income
Cost of Sales
Operating Expense
38
Summary
…
30,000 30,000
-
Income Summary
86,600 63,917
(22,683)
The entries:
Dr. Income 86600
The entries:
Dr. Income 86600
Cr. Cost of Sales
Cr. Cost of Sales
30000
30000
Operating Expense
56600
Operating Expense
56600
…
56,600 56,600
-

39. Close Income Summary to Retained
Income Summary
86,600 63,917
The Entries: (22,683) -
Dr. Income Summary 22683
2 2 C6r8. 3Retained Earnings
39
Earnings
(22,683)
Retained Earnings
…
(22,683)
The Entries:
Dr. Income Summary 22683
2 2 C6r8. 3Retained Earnings

40. The Closing Entries
Close Revenue Accounts to Income
Summary.
The entries are:
Dr. All Revenue
40
Cr. Income Summary

41. The Closing Entries
Close Expense Accounts to Income
Summary.
The entries are:
Dr. Income Summary
41
Cr. All Expenses

42. The Closing Entries
Close Income Summary account to
Retained Earnings.
42
 If there is a profit, the entries are:
Dr. Income Summary
Cr. Retained Earnings
 If there is a loss, the entries are:
Dr. Retained Earnings
Cr. Income Summary

43. Post-Closing Trial Balance
Post-Closing Trial Balance is a list of
balances for all accounts that not closed.
The purpose of a post-closing trial balance
is to verifies that:
 Total debits = total credits for permanent
accounts.
 All temporary accounts have zero balances
43

44. Post-Closing Trial Balance
44
Account
Smith Inc.
Post-Closing Trial Balance
For Year ended Dec.31 2004
Balance Sheet
Dr Cr
Cash 171000
Short-term investment 100000
Accounts Receivable 36000
Interest receivable 2916. 67
Prepaid Expense 10000
Inventory 20000
Plant and Equipmemt 250000
Accumulated Depreciation 2600
Accounts Payable 50000
Wages payable 35000
Unearned Revenue 25000
Paid Capital 500000
Retained Earnings ( 22683)
Sales Revenue
Interest Revenue
Cost of Sales
Operating expenses
total 589,917 589,917

45. Preparing the Financial Statements
Financial Statements can be prepared
easily using the completed worksheet.
45

46. Financial Statements
There are 4 statements in a standard set of financial statements
46
1. Balance Sheet
→ The “what do we have?” statement
→ Shows what the entity owns and owes (the difference being the
owners’ residual interest)
1. Income Statement
→ The “what did we do?” statement
→ Shows the activity the entity undertook in its normal course of
operations.
1. Statement of Retained Earnings
→ Shows the changes in Retained earnings in the year
 Often shown at the bottom of the Income Statement
1. Statement of Cash Flows
→ Shows the sources and uses of cash in the year
 Information is derived from the B/S and I/S and other

47. The Classified Balance
47
Sheet
Debit side
Current assets
Long-term assets
Credit side
 Current liabilities
Long-term
liabilities

48. The END
But Knowledge has
No END