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Accounting Principles
Completing the accounting cycle

Learning objectives

Prepare an accounting worksheet

Use the worksheet to prepare financial statements

Close the revenue, expense and drawings accounts

Prepare the post-closing trial balance

Classify assets and liabilities as current or non-current

Describe the effect of various transactions on the current ratio


and the debt ratio

The accounting worksheet

Accountants often use a worksheet to summarise data for the


financial statements

It is a summary device that helps identify the accounts that


need adjustment

The worksheet is an internal document

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The accounting worksheet

Step 1: Enter the account titles and their unadjusted balances


in the Trial balance columns of the worksheet and total the
amounts

Step 2: Enter the adjusting entries in the adjustments columns


and total the amounts

Step 3: Calculate each accounts adjusted balance by


combining the trial balance and adjustment figures. Enter each
accounts adjusted amount in the adjusted trial balance columns

Step 4: Draw an imaginary line above the first revenue


account. Every account above that line (assets, liabilities and
equity accounts) is copied from the adjusted trial balance to the
balance sheet columns. Every account below the line (revenues
and expenses) is copied from the adjusted trial balance to the
income statement columns

The accounting worksheet

Step 5: On the income statement, calculate profit or loss as


total revenues minus total expenses. Enter profit (loss) as the
balancing amount on the income statement. Also enter profit
(loss) as the balancing amount on the balance sheet. Then total
the financial statement columns

Closing the accounts

Closing the accounts occurs at the end of the period

It consists of journalising and posting the closing entries in


order to get the accounts ready for the next period

It zeroes out all the revenues and all the expenses in order to
measure each periods profit separately from all other periods
and updates the Capital account balance

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Closing the accounts

Temporary accounts

Permanent accounts

Closed at the end of the period

Not closed at the end of the


period

Examples include Revenues,


Expenses, Drawings

Examples include Assets,


Liabilities, Capital

Start next period with a zero


balance

Ending balance carries forward to


next period

Closing the accounts

Step 1: Make the revenue accounts equal zero via the Income
summary account

Step 2: Make expense accounts equal zero via the Income


summary account

Step 3: Make the Income summary account equal zero via the
Capital account

Step 4: Make the Drawings account equal zero via the Capital
account

Closing the accounts

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Post-closing trial balance

The accounting cycle can end with a post-closing trial balance

This optional step lists the accounts and their adjusted balances
after closing

Only assets, liabilities and capital accounts appear on the postclosing trial balance

No temporary accounts are included

Post-closing trial balance

Classifying assets and liabilities

Assets and liabilities are usually classified in balance sheets as


either current or noncurrent

Under each heading it is also usual to list assets and liabilities in


order of decreasing liquidity

Liquidity is a measure of how quickly an item can be converted


to cash

An alternative balance sheet format, recommended by AASB


101, Presentation of Financial Statements, is to list assets and
liabilities in order of decreasing liquidity without the division into
current and non-current assets

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Assets

Current assets are assets that are expected to be converted to


cash, sold or consumed during the next 12 months, or within
the business operating cycle if longer than a year

The operating cycle is the time span during which (1) cash is
used to acquire goods and services, and (2) these goods and
services are sold to customers, from whom (3) the business
collects cash

Non-current assets are all assets other than current assets

Liabilities

Current liabilities are debts that are due to be paid with cash or
with goods and services within one year, or within the business
operating cycle if longer than a year

All liabilities that arent current are classified as non-current


liabilities

The classified balance sheet

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The classified balance sheet

Using accounting information in decision making:


Accounting ratios

The current ratio measures a firms ability to pay its current


liabilities with its current assets

Current ratio = Total current assets / Total current liabilities

The debt ratio measures an organisations overall ability to pay


its total liabilities (debt)

Debt ratio = Total liabilities / Total assets

Summary:

The worksheet is a tool that puts the whole accounting process


in one place

The formal financial statements yield the same net income or


loss that is shown on the worksheet

Closing the accounts bring all temporary accounts back to zero

The post-closing trial balance contains the same accounts that


the balance sheet contains

Classification means dividing assets and liabilities between


those that will last less than a year (current) and those that will
last longer than a year (long-term)

The different ratios give different views of a companys financial


health