3rd session :

Balance Sheet
Recording the Effects of Transactions and Events
 Goals of Today’s Class

1. Develop a better understanding of

Balance Sheet Concepts
2. Understand the Accounting Process and
Transactional Analysis
3. Understand Debits, Credits, and the use
of T-accounts

2
 Exercise II – Fill in the Gaps
2009 2008 2007 2006
Current Assets 9,988 9,975 e
9,366 8,435
m
Non-current Assets 15,547 14,960 f
14,659 b 12,033
h
Total Assets l
25,535 24,935 24,025 a
20,468

n
Current Liabilities 8,040 8,287 7,642 6,733
p
Non-current Liabilities 8,663 9,207 g
7,312 5,999
c
Contributed Capital 1,399 k
1,292 1,149 1,017
o j
Retained Earnings 7,433 6,149 7,922 6,719
i d
Total L and E 25,535 24,935 24,025 20,468

e. Current Assets – Current Liabilities = $1,724

j. Net loss = $656 and Dividends = $1,117
n. Current Assets – Current Liabilities = $1,948
3
o. Net income = $2,524 and Dividends = $1,240
 How do we get the numbers in the
balance sheet?

1. Record financial effects of transactions in

accounts
2. Calculate the ending balance
3. Report the ending balance on the balance
sheet

• Note: Balance sheet accounts are cumulative

4
 Accounting Process

• Transaction analysis

• Recording transactions

• Deriving account balances

• Prepare financial statements

5
Dual Effects of Transactions on the
Accounting Equation
Assets = Liabilities + Equity
Example #1: Receive $100 from bank loan

+ Increase Cash (an asset)

+ Increase Bank Loan (a liability)

Assets = Liabilities + Equity

100 = 100 + 0

6
Dual Effects of Transactions on the
Accounting Equation
Assets = Liabilities + Equity
Example #2: Repay $20 of bank loan

+ Decrease Cash (an asset)

+ Decrease Bank Loan (a liability)

Assets = Liabilities + Equity

100 = 100 + 0
(20) = (20) + 0
7
Dual Effects of Transactions on the
Accounting Equation
Assets = Liabilities + Equity
Example #3: Purchase $10 of inventory with cash

+ Decrease Cash (an asset)

+ Increase Inventory (an asset)

Assets = Liabilities + Equity

100 = 100 + 0
(20) = (20) + 0
+10 - 10 = 0 + 0
8
 Dual Effects of Transactions on the
Accounting Equation
Assets = Liabilities + Equity
Example #4: Issue $50 of common stock to repay
portion of bank loan
+ Increase Common Stock (equity)
+ Decrase Bank Loan (a liability)
Assets = Liabilities + Equity
100 = 100 + 0
(20) = (20) + 0
+10 - 10 = 0 + 0
0 = (50) + 50
80 = 30 + 50 9
 All transactions will fit into one or a
combination of two or more of the below
This change will be accompanied by
This change

+A -A
+A +L
+A +E
-L -A
-L +L
-L +E
+E +A
+E -L
+E -E
Or vice versa! 10
 Transaction Analysis
Indicate the effects of the following transactions on the
balance sheet equation using this format:
Trans. # Assets = Liabilities + Equity
1. The firm issues 3,000 share of $10 par value common
stock at par for cash
Trans. 1 30,000 = 0 + 30,000
Subtotal 30,000 = 0 + 30,000

2. The firm purchases merchandise costing $18,900 on

account.
Trans. 2 18,900 = 18,900 + 0
Subtotal 48,900 = 18,900 + 30,000
11
 Transaction Analysis

3. The firm acquires store equipment costing $12,700.

It issues a check for $2,000 with the balance payable
over 3 years under an installment contract.
Trans. 3 12,700
-2,000 = 10,700 + 0
Subtotal 59,600 = 29,600 + 30,000

4. The firm issues a check for $1,800 covering two

months’ rent in advance.
Trans. 4 1,800
-1,800 = 0 + 0
Subtotal 59,600 = 29,600 + 30,000
12
 Transaction Analysis

5. Refer to transaction (3) above. The firm issues

common stock with a market value of $10,700 in full
settlement of the installment contract.
Trans. 5 0 = -10,700 + 10,700
Subtotal 59,600 = 18,900 + 40,700

6. The firm pays the merchandise supplier in

transaction (2) the amount due.
Trans. 6 -18,900 = -18,900 + 0
Total 40,700 = 0 + 40,700

13
Recording Transactions Using Ledger Accounts
• Maintaining accounts using balance sheet equation is inefficient,
especially as the number of accounts grow. Use Journal Entries and
ledger accounts instead.
• The increases and decreases in each asset, liability and equity item is
tracked through its “T-account”

Account Title

Left Right
Debit Credit
(Dr.) (Cr.)

• There can be no negative entries in T-Accounts

• Note: Debit only means “left” and Credit only means “right”
• One side of the T-account is used for increases and one for
decrease. There is a beginning balance and an ending
balance that appear on the financial statements (e.g.,
balance sheet). 14
 T-Accounts
Debit = Left Credit = Right
Assets = Liabilities + Equity
Dr. Cr. Dr. Cr. Dr. Cr.

BB BB BB
Incr. Decr. Decr. Incr. Decr. Incr.

EB EB EB

15
 T-Accounts

• For Asset accounts:

debit = left = increase
credit = right = decrease

• For Liability and Equity accounts:

debit = left = decrease
credit = right = increase

16
 T-Accounts
Handy Trick of the Day:
Whether debit (left) means increase or decrease
depends on what side of the Balance Sheet
equation the account sits.

Assets = Liabilities + Equity

That is,
Assets are on the left side of the equation, thus debit
(left) is an increase for assets [and credits are therefore
decreases].

Liabilities and Equity are on the right side of the

equation, thus credit (right) is an increase [and debits
are therefore decreases].

17
 T- Accounts,
Dual Effects of Transactions,
and the Balance Sheet Equation

• In our prior examples we used the equation to make

sure that each transaction had two effects on the
balance sheet and thus the equation always held.

• Now that we have T-accounts, we can also make sure

that:
Debits = Credits
This will also ensure that the Balance Sheet equation
holds!
Let’s check this…
18
 Debits = Credits
Assets = Liabilities + Equity
Recall the 4 possible combinations of the dual effects of
transactions:
1) Increase an asset and Increase a liability or equity
Debit Credit
2) Decrease an asset and Decrease a liability or equity
Credit Debit
3) Increase an asset and Decrease an asset
Debit Credit
4) Increase a liab. or eq. and Decrease another liab or eq.
Credit Debit

19
 Debits and Credits Remember RE is an
Owners’ Equity Account
Retained Earnings
Asset Liability or Owners’ Equity
(Debit) (Credit) (Debit) (Credit)

+ - - +

Memorize this for Assets Flip it for Liabs + OE

Expenses/Losses Revenues/Gains

(Debit) (Credit)
An increase in an Expense + An increase in a
is a decrease in Retained Revenue is an +
Earnings. (We decrease increase in Retained
Owners’ Equity accounts Earnings. (We
with a debit.) increase Owners’
Equity accounts with
a credit.) 20
 Debits and Credits, Some Intuition
“Debit” card
Suppose I open a checking account with BOA with $1,000.

Bank of America
Assets Liabilities
Cash credit
debit Accounts Payable (Chris)

$1,000 $1,000
$150 $150
$850 $850

I use my debit card to buy an iPod at Best Buy for $150.

Using a debit card reduces the bank’s liability to you.

The word “debit” in the term “debit card” is intuitive from the
bank’s point of view.

21
 Debits and Credits, Some Intuition
“Credit” card
Suppose I sign up for a Visa credit card.

My Finances
debit
Assets Liabilities credit
iPod Accounts Payable (Visa)
$150 $150

I use my credit card to buy an iPod at Best Buy for $150.

Using a credit card increases your liability to your credit card

company (i.e., Visa)
The word “credit” in the term “credit card” is intuitive from
your point of view.

22
Balance Sheet at the beginning of 2010

Injection Plastics Company

Balance Sheet
As of Dec. 31, 2010

Cash $21,000 Accounts Payable $15,000

Investments (short-term) 2,000 Accrued liabilities payable 2,000
Accounts receivable 3,000 Notes payable (short-term) 7,000
Inventory 24,000 Long-term notes payable 48,000
Notes receivable (long-term) 1,000
Equipment 48,000 Contributed capital 90,000
Factory building 90,000 Retained earnings 30,000
Intangibles 3,000
$192,000 $192,000
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P2-3
Assets

Cash Intangible Assets Liabilities

$21,000 $3,000

Accounts Payable Accrued Liabs. Payable

$15,000 $2,000

Short Term Inv Accts Receivable

$2,000 $3,000

Short Term Note Pybl Long Term Note Pybl

$7,000 $48,000

Inventory Long Term Note Recv

$24,000 $1,000

Equity

Equipment Factory Bldg Contributed Capital Retained Earnings

$48,000 $90,000 $90,000 $30,000

24
P2-3

a. Lent $7,000 to a supplier who signed a two-year note

Assets
Cash Long-term note rec
$21,000
$7,000 $1,000
$7,000

Journal Entry
Long-term note receivable 7,000
Cash 7,000

25
P2-3

b. Purchased Equipment that cost $18,000. Paid $6,000 cash and signed a
one-year note for the balance.

Assets Liabilities
Equipment Cash Short Term Note Payable
$48,000 $7,000
$21,000 $7,000
$18,000
$12,000
$6,000

Journal Entry
Equipment 18,000
Cash 6,000
Short-term Note Payable 12,000

26
P2-3

c. Issued an additional 2,000 shares of capital stock for $12,000 cash.

Assets Equity
Cash Contributed Capital
$90,000
$21,000 $7,000
$12,000
$12,000 $6,000

Journal Entry
Cash 12,000
Contributed Capital 12,000

27
P2-3

d. Borrowed $12,000 cash from a local bank, payable in three months.

Assets Liabilities
Short-term note payable
Cash
$7,000
$21,000 $7,000 $12,000
$12,000
$12,000 $6,000

$12,000

Journal Entry
Cash 12,000
Short-term note payable 12,000

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P2-3

e. Purchased short-term investments for $9,000 cash

Assets
Cash Short-term investments

$21,000 $2,000
$7,000
$12,000 $9,000
$6,000
$12,000
$9,000

Journal Entry
Short-term investments 9,000
Cash 9,000

29
P2-3

f. Hired a new president at the end of the year. The contract was for $85,000 per
year plus options to purchase company stock at a set price based on company
performance.

No Recordable Economic Effect

Journal Entry
No Journal Entry

30
P2-3

g. Purchased a patent (an intangible asset) for $3,000 cash.

Assets
Cash
Intangibles
$3,000
$21,000 $7,000
$3,000
$20,000 $6,000

$9,000

$3,000

Journal Entry
Intangibles (patent) 3,000
Cash 3,000

31
P2-3

h. Returned defective equipment to the manufacturer and received a (full) refund

of $1,000.

Assets

Cash Equipment
$48,000
$21,000 $7,000
$12,000 $18,000 $1,000
$6,000

$12,000 $9,000

$1,000 $3,000

Journal Entry

Cash 1,000
Equipment 1,000

32
P2-3

i. Built an addition to the factory for $25,000; paid $9,000 cash and signed
a three-year note for the balance

Assets Liabilities
Cash Long Term Note Payable
Factory Building
$48,000
$21,000 $7,000 $90,000
$12,000 $6,000 $16,000
$25,000
$12,000 $9,000
$3,000
$1,000
$9,000

$46,000 $34,000

$12,000 How much cash is left?

Journal Entry

Factory Building 25,000

Cash 9,000
Long-term Note Payable 16,000

33
Balance Sheet at the beginning of 2010

Injection Plastics Company

Balance Sheet
As of Dec. 31, 2011

Cash $12,000 Accounts Payable $15,000

Investments (short-term) 11,000 Accrued liabilities payable 2,000
Accounts receivable 3,000 Notes payable (short-term) 31,000
Inventory 24,000 Long-term notes payable 64,000
Notes receivable (long-term) 8,000
Equipment 65,000 Contributed capital 102,000
Factory building 115,000 Retained earnings 30,000
Intangibles 6,000
$244,000 $244,000
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 Next Class

• Income Statement

• Cash versus Accrual Basis Accounting

35