CHAPTER 2

INVESTING AND FINANCING DECISIONS

AND THE ACCOUNTING SYSTEM

PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA

McGraw-Hill/Irwin Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved.
THE ACCOUNTING CYCLE
Start of new period
During
DuringthethePeriod
Period
1.1. Analyze transactions
Analyze transactions
2.2. Record
Recordjournal
journalentries
entriesininthe
thegeneral
generaljournal
journal
3.3. Post
Postamounts
amountstotothe
thegeneral
generalledger
ledger

At
Atthe
theEnd
Endof
ofthe
thePeriod
Period
(Chapter
(Chapter4)4)
4.4. Prepare
Prepareaatrial trialbalance
balancetotodetermine
determineififdebits
debitsequal
equalcredits
credits
5.5. Adjust
Adjust revenues and expenses and related balancesheet
revenues and expenses and related balance sheet
accounts (record in journal and post to
accounts (record in journal and post to ledger) ledger)
6.6. Prepare
Prepareaacomplete
completeset setofoffinancial
financialstatements
statementsand anddisseminate
disseminate
itittotousers
users
7.7. Close
Closerevenues,
revenues,gains,
gains,expenses,
expenses,and andlosses
lossestotoRetained
Retained
Earnings (record in journal and post to
Earnings (record in journal and post to ledger) ledger)

2-2
WHAT BUSINESS ACTIVITIES CAUSE
CHANGES IN THE FINANCIAL STATEMENT
AMOUNTS?

Nature of Business Transactions

External Events: Exchanges between
entity and one or more parties.
Ex: Purchase of a machine from a supplier.

Internal Events: Events that are not

exchanges between parties but that
have a direct and measurable effect
on the entity.
Ex: Using up insurance paid in advance.

2-3
 Review
Review “Transactions
“Transactions and
and Events”
Events”
External Internal Not Recorded

1. A supplier of a company‘s raw material is paid

External
an amount owed on account.
2. A customer pays its open account. External

3. A new chief executive officer is hired. Not Recorded

4. The biweekly payroll is paid. External

5. Raw materials are entered into production. Internal

6. A new advertising agency is hired. Not Recorded

7. The accountant determines the federal income

Internal
taxes owed based on the income earned.
Chapter
3-4 LO 3 Identify steps in the accounting cycle.
PRINCIPLES OF TRANSACTION
ANALYSIS
 Every transaction affects at least two
accounts (duality of effects).
 The accounting equation must remain in
balance after each transaction.

A = L + SE
(Assets) (Liabilities) (Stockholders’ Equity)

2-5
 Double-Entry
Double-Entry System
System Illustration
Illustration

1. Owners invest $40,000 in exchange for common

stock.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

+ 40,000 + 40,000

Chapter
3-6 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

2. Disburse $600 cash for secretarial wages.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

- 600 - 600
(expense)

Chapter
3-7 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

3. Purchase office equipment priced at $5,200, giving

a 10 percent promissory note in exchange.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

+ 5,200 + 5,200

Chapter
3-8 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

4. Received $4,000 cash for services rendered.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

+ 4,000 + 4,000
(revenue)

Chapter
3-9 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

5. Pay off a short-term liability of $7,000.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

- 7,000 - 7,000

Chapter
3-10 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

6. Declared a cash dividend of $5,000.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

+ 5,000 - 5,000

Chapter
3-11 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

7. Convert a long-term liability of $80,000 into

common stock (co issued stocks to pay its
liabilities).
Stockholders’
Stockholders’
Assets = Liabilities + Equity

- 80,000 + 80,000

Chapter
3-12 LO 2 Explain double-entry rules.
 Double-Entry
Double-Entry System
System Illustration
Illustration

8. Pay cash of $16,000 for a delivery van.

Stockholders’
Stockholders’
Assets = Liabilities + Equity

- 16,000
+ 16,000

Note
Notethat
thatthe
theaccounting
accountingequation
equationequality
equalityisis
maintained
maintainedafter
afterrecording
recordingeach
eachtransaction.
transaction.
Chapter
3-13 LO 2 Explain double-entry rules.
 Debits
Debits and
and Credits
Credits
An arrangement that shows
Account the effect of transactions on
an account.
Debit = “Left”
Credit = “Right”

An Account can Account Name

be illustrated in a Debit / Dr. Credit / Cr.
T-Account
form.

Chapter
3-14 LO 2 Explain double-entry rules.
 Debits
Debits and
and Credits
Credits
If Debit entries are greater than Credit entries,
the account will have a debit balance.

Account Name
Debit / Dr. Credit / Cr.

Transaction #1 $10,000 $3,000 Transaction #2

Transaction #3 8,000

Balance $15,000

Chapter
3-15 LO 2 Explain double-entry rules.
 Debits
Debits and
and Credits
Credits
If Credit entries are greater than Debit entries,
the account will have a credit balance.

Account Name
Debit / Dr. Credit / Cr.

Transaction #1 $10,000 $3,000 Transaction #2

8,000 Transaction #3

Balance $1,000

Chapter
3-16 LO 2 Explain double-entry rules.
ACCOUNT BALANCES

2-17
 Transaction Analysis Model
T-Account
)Any account(
“T-account” is merely a shorthand term for
the entire ledger account. The T-account has
debit credit a left side, called the debit side, and a right
side, called the credit side.

Chapter
3-18
 The
The Accounting
Accounting Equation
Equation

Relationship among the assets, liabilities and

stockholders’ equity of a business:
Illustration 3-3

The equation must be in balance after every

transaction. For every Debit there must be a Credit.

Chapter
3-19 LO 2 Explain double-entry rules.
HOW DO COMPANIES KEEP TRACK
OF ACCOUNT BALANCES?

General Journal General

Ledger

T-accounts

A = L + SE 2-20
1.
1. JOURNALIZING
JOURNALIZING
General Journal – a chronological record of transactions.
Journal Entries are recorded in the journal.

September 1: Stockholders invested $15,000 cash in the

corporation in exchange for shares of stock.
Illustration 3-7

2-21
2.
2. POSTING
POSTING
Posting – the process of transferring amounts from the
journal to the ledger accounts.
Illustration 3-7

Illustration 3-8

2-22
2.
2. POSTING
POSTING
Posting – Transferring amounts from journal to ledger.

Illustration 3-8

LO 4
2-23
2.
2. POSTING
POSTING
Expanded Example
The purpose of transaction analysis is
(1) to identify the type of account involved, and
(2) to determine whether a debit or a credit is required.

Keep in mind that every journal entry affects one or more of the
following items: assets, liabilities, stockholders’ equity, revenues,
or expense.

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-24
2.
2. POSTING
POSTING
1. October 1: Stockholders invest $100,000 cash in an
advertising venture to be known as Pioneer Advertising
Agency Inc.

Oct. 1 Cash 100,000

Common stock 100,000

Cash Common Stock

Debit Credit Debit Credit
100,000 100,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-25
2.
2. POSTING
POSTING
2. October 1: Pioneer Advertising purchases office
equipment costing $50,000 by signing a 3-month, 12%,
$50,000 note payable.

Oct. 1 Office equipment 50,000

Notes payable 50,000

Office Equipment Notes Payable

Debit Credit Debit Credit
50,000 50,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-26
2.
2. POSTING
POSTING
3. October 2: Pioneer Advertising receives a $12,000 cash
advance from KC, a client, for advertising services that
are expected to be completed by December 31.

Oct. 2 Cash 12,000

Unearned service revenue 12,000

Cash Unearned Service Revenue

Debit Credit Debit Credit
100,000 12,000
12,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-27
2.
2. POSTING
POSTING
4. October 3: Pioneer Advertising pays $9,000 office
rent, in cash, for October.

Oct. 3 Rent expense 9,000

Cash 9,000

Cash Rent Expense

Debit Credit Debit Credit
100,000 9,000 9,000
12,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-28
2.
2. POSTING
POSTING
5. October 4: Pioneer Advertising pays $6,000 for a one-
year insurance policy that will expire next year on
September 30.

Oct. 4 Prepaid insurance 6,000

Cash 6,000

Cash Prepaid Insurance

Debit Credit Debit Credit
100,000 9,000 6,000
12,000 6,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-29
2.
2. POSTING
POSTING
6. October 5: Pioneer Advertising purchases, for $25,000
on account, an estimated 3-month supply of advertising
materials from Aero Supply.

Oct. 5 Advertising supplies 25,000

Accounts payable 25,000

Advertising Supplies Accounts Payable

Debit Credit Debit Credit
25,000 25,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-30
2.
2. POSTING
POSTING
7. October 9: Pioneer Advertising signs a contract with a
local newspaper for advertising inserts (flyers) to be
distributed starting the last Sunday in November.
Pioneer will start work on the content of the flyers in
November. Payment of $7,000 is due following delivery
of the Sunday papers containing the flyers.

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-31
2.
2. POSTING
POSTING
8. October 20: Pioneer Advertising’s board of directors
declares and pays a $5,000 cash dividend to
stockholders.
Oct. 20 Dividends 5,000
Cash 5,000

Cash Dividends
Debit Credit Debit Credit
100,000 9,000 5,000
12,000 6,000
5,000

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-32
2.
2. POSTING
POSTING
9. October 26: Employees are paid every four weeks. The
total payroll is $2,000 per day. The pay period ended on
Friday, October 26, with salaries of $40,000 being paid.

Oct. 26 Salaries expense 40,000

Cash 40,000

Cash Salaries Expense

Debit Credit Debit Credit
100,000 9,000 40,000
12,000 6,000
5,000
40,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2-33
 2.
2. POSTING
POSTING
10. October 31: Pioneer Advertising receives $28,000 in
cash and bills Copa Company $72,000 for advertising
services of $100,000 provided in October.
Oct. 31 Cash 28,000
Accounts receivable 72,000
Service revenue 100,000

Cash Accounts Receivable Service Revenue

Debit Credit Debit Credit Debit Credit
100,000 9,000 72,000 100,000
12,000 6,000
28,000 5,000
40,000
80,000
2-34
3.
3.TRIAL
TRIALBALANCE
BALANCE
Illustration 3-19

Trial Balance –
A list of each
account and its
balance; used
to prove
equality of
debit and
credit
balances.

LO 4 Record transactions in journals, post to

ledger accounts, and prepare a trial balance.
2-35
ILLUSTRATION 3-34 Preparation of the Income
Statement and Retained Earnings Statement from
the Adjusted Trial Balance
2-36
CLASSIFIED BALANCE SHEET
In a classified balance sheet assets and liabilities
are classified into two categories – current and
noncurrent.
Current assets are
those to be used or
turned into cash within Current liabilities are
the upcoming year, those obligations to be
whereas noncurrent paid or settled within
assets are those that the next 12 months
will last longer than with current assets.
one year.

2-37
ILLUSTRATION 3-35
Preparation of the Statement of Financial Position from the Adjusted Trial Balance LO 6
2-38
2-39
END OF LECTURE

2-40