Accounting 101

The 4 financial statements

Income statement, Statement of Stockholders equity (SHE), Balance sheet, and cash flow statement

Income statement

I/S: REV-EXP=NI (net income)

Statement of stockholders equity (SHE)

BB(beginning balance of retained earnings) + NI - Dividends = EB (earnings before interest) R/E

Balance sheet

ALOE (Assets = Liabilities + Owners Equity)

Assets: YOU OWN

• car, property, computer (PPE)

• CASH

• accounts receivable (A/R)

• supplies

• prepaids

Liabilities: WHAT YOU OWE

• Accounts payable (A/P)

• Unearned revenue

Owners Equity: (SHE) SHARE HOLDERS EQUITY

• Common stock

• Retained earnings (calculations) (R/E)

• Revenues (Credit)

• Expenses (Debit)

• Dividends (Debit)

FASB: Financial Accounting Standards Board

(SEC) designated the FASB as the organization responsible for setting accounting standards for public companies in the U.S.

SEC: Securities and exchange commission

Quasi independent agency of the United States federal government, created in the aftermath of the Wall Street crash of 1929. Its primary purpose is to enforce laws against market manipulation.

Common stock

Corporations will issue this to investors as proof of their ownership rights.

• This transaction increases cash under assets, and to balance the equation the common stock also increases by the same amount under owners equity/SHE.

Purchase on account (accrued but unpaid)

When you purchase supplies as a company and agree to pay the supplier in the future.

• Increases liabilities (accounts payable)

• Increases assets (inventory or supplies) by the same amount

Accounts payable

The liability created by a purchase on account. Money owed by a business to it’s suppliers.

Prepaid expenses

Business supplies that are paid in advance for future use.

• Asset

Expenses

Represent costs incurred to generate revenue, reducing net income (ASSETS) and owners equity.

• (employee wages, utilities, etc.)

Paying amount on account…

Reduces the amount owed on a liability

Paying an expense…

Reduces the stockholders equity/owners equity

Dividends

Distributions of earnings to stockholders.

• decreases cash (ASSETS)

• decreases stockholders equity (OE)

Debt ratio

Relation between liabilities and stockholders equity

• ratio of liabilities to stockholders equity = Total Liabilities / Total Stockholders equity

An account

Records all the increases and decreases in each accounting equation element as a separate record.

ex. T account cash column DR on the left (increase in assets) and CR on the right (decreases in assets)

Balance of the account

Excess of debits of an asset account over credits

Ledger

Group of accounts for a business entity

Chart of accounts

List of the accounts in the ledger

Double entry accounting system

• every business transaction to be recorded in at least 2 accounts

• total debits = total credits

Debit and credit rules for BS

• Assets: DR(+)&CR(-)

• Liabilities: DR(-)&CR(+)

• SHE: DR(-)&CR(+)

Revenues increase what?

Stockholders equity (SHE)

revenue accounts are increased by what and decreased by what??

• credits

• debits

What is SHE decreased by?

Debits

Expense accounts are increased by what and decreased by what??

• debits

• credits

Revenue accounts DR and CR

• debit (-)

• credit (+)

Expense accounts DR and CR

• debit (+)

• credit (-)

DR and CR rules for dividends are based on?

Effects on the SHE (R/E: retained earnings).

Dividends decrease what?

The SHE (R/E)

• dividends are increased by debits and decreased by credits

Journal

A record for recording when transactions occurred and were recorded.

When depositing at the bank is it a debit or credit to your account?

A credit to your account and vice versa for withdrawing

Another word for current balance of account

Running balance

Accounts receivable (A/R)

A business agrees that a customer may pay for services at a later date.

• claim against customer

• an asset and revenue is earned even though no cash has been received.

Trail balance

Summary listing of the titles and balances of accounts in the ledger, which is used to verify that DR=CR

A credit balance in the supplies account indicates?

An error has occurred

Horizontal analysis

The amount of each item on a current financial statement is compared with the same item on an earlier statement.

• The increase or decrease in the amount of the item is computed together with the percentage of increase or decrease

• when two statements are compared, the earlier statement is used as the basis for computing the amount and the percent change.

accrual basis of accounting

Revenues are reported on the income statement in the period in which a service has been performed or product has been delivered.

• cash may or may not be received from customers during this period

• ex: cleaning company records revenue after it cleans an office building, even if they don’t get paid for several weeks.

• reported using revenue and expense recognition principles

revenue recognition principles

Revenues recorded when earned, which is when services have been performed/products delivered to customers.

• measured as assets (cash or A/R)

Expense recognition principle

Expenses incurred in generating revenue must be reported in the same period as the related revenue.

• AKA matching principle

Adjusting entries

Journal entries that bring the accounts up to date at the end of the accounting period.

• affects at least one I/S account and one BS account

If the accual is for revenue, the adjusting entry…

• debits an asset (A/R)

• credits a revenue account

If the accrual is for an expense, the adjusting entry…

• debits an expense account

• credits a related liability account like A/P or wages payable

Deferral

When cash related to a future revenue or expense has been initially recorded as an asset or liability.

Unearned revenue

if cash received is related to future revenue, it’s initially recorded as a liability

Prepaid expenses

If cash paid is related to a future expense, it’s initially recorded as an asset

Revenue earned but NOT recorded=

Recorded as increase in debits an asset and an increase crediting a revenue account.

Accrued but unpaid items=

Is an expense and a liability

Fixed assets (plants assets)

Physical resources owned and used by a business and are permanent or have a long life.

• PPE (land, buildings, equipment)

• long term prepaid expense

Depreciation

As time passes equipment loses it’s ability to provide useful resources/services.

• All fixed assets EXCEPT land

• as an asset account depreciates, a portion of it’s cost should be recorded as an expense (depreciation expense)

• Increase (debited) for amount of depreciation in account

• But fixed account is not decreased (credited), an account: accumulated depreciation is increased (credited)

Contra accounts/contra assets account

Accumulated depreciation accounts.

• AD accounts are deducted from their related fixed asset accounts on the BS.

Book value of the asset (net book value)

• Book value of asset= cost of asset- AD of asset

• Book value of office equipment= cost of office equipment - AD of appreciated equipment.

DEALER

• Dividends

• Expenses

• Assets

• Liabilities

• Equity

• Revenue

Debits in DEALER:

DEA (dividends, expenses, and assets)

Credits in DEALER

LER (liabilities, equity, and revenue)

Never credit…

Expenses

Obligation=

Liability

Income statement: expenses and separately- dividends are credits or debits??

DEBITS