Table of Contents
1. Accounting in action.......................................................................................................3
1.1 Accounting Activities and Users..............................................................................................4
1.2 Who uses accounting data......................................................................................................5
1.3 The Building Blocks of Accounting..........................................................................................7
1.3.1 Ethics in Financial Reporting..................................................................................................................7
1.3.2 Generally Accepted Accounting Principles (GAAP)................................................................................7
1.3.3 Measurement Principles........................................................................................................................8
1.3.4 Forms of Business Ownership................................................................................................................9
1.4 The Accounting Equation......................................................................................................10
1.5 Analyzing Business Transactions...........................................................................................13
1.5.1 Transaction Analysis............................................................................................................................13
1.5.2 Summary of Transactions....................................................................................................................13
1.6 The four financial statements...............................................................................................14
1.6.1 Income Statement...............................................................................................................................15
1.6.2 Owner’s Equity Statement...................................................................................................................15
1.6.3 Statement of Financial Position...........................................................................................................15
1.6.4 Statement of Cash Flows.....................................................................................................................15
1.7 Key points.............................................................................................................................19
1.7.1 Looking to the future...........................................................................................................................19
1.7.2 GAAP Self-Test Questions....................................................................................................................19
2. The Recording Process..................................................................................................21
2.1 Accounts, debits, and credits................................................................................................21
2.1.1 The account.........................................................................................................................................21
...................................................................................................................................................21
2.1.2 Debits and Credits – Analysis...............................................................................................................22
2.1.3 Debits and credits................................................................................................................................25
2.1.4 Debit and credit Procedure.................................................................................................................25
2.1.5 Summary of debit / credit rules...........................................................................................................26
2.2 The Journal...........................................................................................................................28
2.2.1 Journalizing..........................................................................................................................................29
2.3 The Ledger and Posting.........................................................................................................36
2.3.1 The Ledger...........................................................................................................................................36
2.3.2 Posting.................................................................................................................................................37
2.3.3 Chart of Accounts................................................................................................................................37
2.3.4 The Recording Process Illustrated.......................................................................................................38
2.3.5 Journalizing and Posting Summary......................................................................................................39
2.4.1 Limitations of a trial balance...............................................................................................................40
2.4.2 Trial balance.........................................................................................................................................40
2.5.1 A look at US GAAP................................................................................................................................44
3. Adjusting the Accounts.................................................................................................46
3.1.1 Accrual-basis and adjusting entries.....................................................................................................46
3.1.2 Fiscal and calendar years.....................................................................................................................46
3.1.3 Accrual- versus cash-basis accounting.................................................................................................46
3.1.4 Recognizing revenues and expenses...................................................................................................47
3.1.5 The need for adjusting entries.............................................................................................................48
3.1.6 Types of adjusting entries....................................................................................................................49
1
, 3.2.1 Adjusting entries for deferrals.............................................................................................................51
3.2.2 Prepaid expenses.................................................................................................................................51
3.2.3 Supplies................................................................................................................................................52
3.2.4 Insurance..............................................................................................................................................52
3.2.5 Depreciation........................................................................................................................................53
3.2.6 Depreciation........................................................................................................................................53
3.2.7 Prepaid expenses.................................................................................................................................54
3.2.8 Unearned revenues.............................................................................................................................54
3.3 Adjusting entries for accruals................................................................................................57
3.3.1 Accrued revenues................................................................................................................................57
3.3.2 Accrued expenses................................................................................................................................59
3.3.3 Summary of basic relationships...........................................................................................................62
3.4 Adjusted trial balance...........................................................................................................63
3.4.1 Preparing financial statements............................................................................................................64
3.5. Appendix 3B: Financial Reporting Concepts.........................................................................65
3.4.2 Qualities of useful information............................................................................................................66
3.4.3 Assumptions in financial reporting......................................................................................................66
3.4.4 Principles of financial reporting...........................................................................................................67
3.4.5 Cost constraint.....................................................................................................................................67
3.5 A look at US GAAP (only multiple choice about US GAAP)....................................................68
4. Accounting for Merchandise Operations.......................................................................70
4.2 Closing the books..................................................................................................................70
4.2.1 Preparing closing entries.....................................................................................................................71
4.2.2. Posting Closing Entries........................................................................................................................73
4.2.3. Preparing a Post-Closing Trial Balance...............................................................................................73
4.3. Summary of the Accounting Cycle........................................................................................79
4.3.1. The Accounting Cycle..........................................................................................................................79
4.3.2. Correcting Entries – An Avoidable Step..............................................................................................82
4.4. Classified Statement of Financial Position............................................................................86
4.4.1. Intangible assets.................................................................................................................................87
4.4.2. Property, Plant, and Equipment.........................................................................................................87
4.4.3. Long-Term Investments......................................................................................................................88
4.4.4. Current Assets.....................................................................................................................................88
4.4.5. Owner’s Equity....................................................................................................................................89
4.4.6. Non-Current Liabilities........................................................................................................................90
4.4.7. Current Liabilities................................................................................................................................90
4.6.1. A Look at U.S. GAAP............................................................................................................................94
5. Accounting for Merchandise Operations.......................................................................95
5.1. Merchandising Operations and Inventory Systems..............................................................95
5.1.1. Operating Cycles.................................................................................................................................96
5.1.2. Flow of Costs.......................................................................................................................................97
5.2. Recording Purchases Perpetual System...............................................................................99
5.2.1. Freight costs........................................................................................................................................99
5.2.2. Purchase Returns and Allowances....................................................................................................100
5.2.3. Purchase Discounts...........................................................................................................................101
5.2.4. Summary of Purchasing Transactions...............................................................................................102
5.3. Recording Sales Perpetual System.....................................................................................103
5.3.1. Sales Returns and Allowances..........................................................................................................104
5.3.2. Sales Discounts.................................................................................................................................105
2
, 5.4. The Accounting Cycle for a Merchandising Company.........................................................108
5.4.1. Adjusting Entries...............................................................................................................................108
5.4.2. Closing Entries...................................................................................................................................108
5.5. Income and Comprehensive Income Statements...............................................................110
5.5.1. Income Statement............................................................................................................................110
5.5.2. Nonoperating Activities....................................................................................................................111
5.5.3. Comprehensive Income Statement..................................................................................................112
5.5.4. Classified Statement of Financial Position........................................................................................112
5.8. A Look at US GAAP.............................................................................................................116
1. Accounting in action
LO 1 Identify the activities and users associated with
accounting.
3
, You want to invest in Tesla Motors, Inc. What was the amount of Automative Revenues in
the year ended December 31, 2015 with respect to the previous year? Was the company
profitable?
• How to get there?
• E.g. Automotive Revenues of Tesla:
- Identify each sale, each return and other relevant economic event!
- Record these events!
• Then you’ll be able to communicate afterwards (in the aggregate).
1.1 Accounting Activities and Users
Accounting consists of three activities
4
1. Accounting in action.......................................................................................................3
1.1 Accounting Activities and Users..............................................................................................4
1.2 Who uses accounting data......................................................................................................5
1.3 The Building Blocks of Accounting..........................................................................................7
1.3.1 Ethics in Financial Reporting..................................................................................................................7
1.3.2 Generally Accepted Accounting Principles (GAAP)................................................................................7
1.3.3 Measurement Principles........................................................................................................................8
1.3.4 Forms of Business Ownership................................................................................................................9
1.4 The Accounting Equation......................................................................................................10
1.5 Analyzing Business Transactions...........................................................................................13
1.5.1 Transaction Analysis............................................................................................................................13
1.5.2 Summary of Transactions....................................................................................................................13
1.6 The four financial statements...............................................................................................14
1.6.1 Income Statement...............................................................................................................................15
1.6.2 Owner’s Equity Statement...................................................................................................................15
1.6.3 Statement of Financial Position...........................................................................................................15
1.6.4 Statement of Cash Flows.....................................................................................................................15
1.7 Key points.............................................................................................................................19
1.7.1 Looking to the future...........................................................................................................................19
1.7.2 GAAP Self-Test Questions....................................................................................................................19
2. The Recording Process..................................................................................................21
2.1 Accounts, debits, and credits................................................................................................21
2.1.1 The account.........................................................................................................................................21
...................................................................................................................................................21
2.1.2 Debits and Credits – Analysis...............................................................................................................22
2.1.3 Debits and credits................................................................................................................................25
2.1.4 Debit and credit Procedure.................................................................................................................25
2.1.5 Summary of debit / credit rules...........................................................................................................26
2.2 The Journal...........................................................................................................................28
2.2.1 Journalizing..........................................................................................................................................29
2.3 The Ledger and Posting.........................................................................................................36
2.3.1 The Ledger...........................................................................................................................................36
2.3.2 Posting.................................................................................................................................................37
2.3.3 Chart of Accounts................................................................................................................................37
2.3.4 The Recording Process Illustrated.......................................................................................................38
2.3.5 Journalizing and Posting Summary......................................................................................................39
2.4.1 Limitations of a trial balance...............................................................................................................40
2.4.2 Trial balance.........................................................................................................................................40
2.5.1 A look at US GAAP................................................................................................................................44
3. Adjusting the Accounts.................................................................................................46
3.1.1 Accrual-basis and adjusting entries.....................................................................................................46
3.1.2 Fiscal and calendar years.....................................................................................................................46
3.1.3 Accrual- versus cash-basis accounting.................................................................................................46
3.1.4 Recognizing revenues and expenses...................................................................................................47
3.1.5 The need for adjusting entries.............................................................................................................48
3.1.6 Types of adjusting entries....................................................................................................................49
1
, 3.2.1 Adjusting entries for deferrals.............................................................................................................51
3.2.2 Prepaid expenses.................................................................................................................................51
3.2.3 Supplies................................................................................................................................................52
3.2.4 Insurance..............................................................................................................................................52
3.2.5 Depreciation........................................................................................................................................53
3.2.6 Depreciation........................................................................................................................................53
3.2.7 Prepaid expenses.................................................................................................................................54
3.2.8 Unearned revenues.............................................................................................................................54
3.3 Adjusting entries for accruals................................................................................................57
3.3.1 Accrued revenues................................................................................................................................57
3.3.2 Accrued expenses................................................................................................................................59
3.3.3 Summary of basic relationships...........................................................................................................62
3.4 Adjusted trial balance...........................................................................................................63
3.4.1 Preparing financial statements............................................................................................................64
3.5. Appendix 3B: Financial Reporting Concepts.........................................................................65
3.4.2 Qualities of useful information............................................................................................................66
3.4.3 Assumptions in financial reporting......................................................................................................66
3.4.4 Principles of financial reporting...........................................................................................................67
3.4.5 Cost constraint.....................................................................................................................................67
3.5 A look at US GAAP (only multiple choice about US GAAP)....................................................68
4. Accounting for Merchandise Operations.......................................................................70
4.2 Closing the books..................................................................................................................70
4.2.1 Preparing closing entries.....................................................................................................................71
4.2.2. Posting Closing Entries........................................................................................................................73
4.2.3. Preparing a Post-Closing Trial Balance...............................................................................................73
4.3. Summary of the Accounting Cycle........................................................................................79
4.3.1. The Accounting Cycle..........................................................................................................................79
4.3.2. Correcting Entries – An Avoidable Step..............................................................................................82
4.4. Classified Statement of Financial Position............................................................................86
4.4.1. Intangible assets.................................................................................................................................87
4.4.2. Property, Plant, and Equipment.........................................................................................................87
4.4.3. Long-Term Investments......................................................................................................................88
4.4.4. Current Assets.....................................................................................................................................88
4.4.5. Owner’s Equity....................................................................................................................................89
4.4.6. Non-Current Liabilities........................................................................................................................90
4.4.7. Current Liabilities................................................................................................................................90
4.6.1. A Look at U.S. GAAP............................................................................................................................94
5. Accounting for Merchandise Operations.......................................................................95
5.1. Merchandising Operations and Inventory Systems..............................................................95
5.1.1. Operating Cycles.................................................................................................................................96
5.1.2. Flow of Costs.......................................................................................................................................97
5.2. Recording Purchases Perpetual System...............................................................................99
5.2.1. Freight costs........................................................................................................................................99
5.2.2. Purchase Returns and Allowances....................................................................................................100
5.2.3. Purchase Discounts...........................................................................................................................101
5.2.4. Summary of Purchasing Transactions...............................................................................................102
5.3. Recording Sales Perpetual System.....................................................................................103
5.3.1. Sales Returns and Allowances..........................................................................................................104
5.3.2. Sales Discounts.................................................................................................................................105
2
, 5.4. The Accounting Cycle for a Merchandising Company.........................................................108
5.4.1. Adjusting Entries...............................................................................................................................108
5.4.2. Closing Entries...................................................................................................................................108
5.5. Income and Comprehensive Income Statements...............................................................110
5.5.1. Income Statement............................................................................................................................110
5.5.2. Nonoperating Activities....................................................................................................................111
5.5.3. Comprehensive Income Statement..................................................................................................112
5.5.4. Classified Statement of Financial Position........................................................................................112
5.8. A Look at US GAAP.............................................................................................................116
1. Accounting in action
LO 1 Identify the activities and users associated with
accounting.
3
, You want to invest in Tesla Motors, Inc. What was the amount of Automative Revenues in
the year ended December 31, 2015 with respect to the previous year? Was the company
profitable?
• How to get there?
• E.g. Automotive Revenues of Tesla:
- Identify each sale, each return and other relevant economic event!
- Record these events!
• Then you’ll be able to communicate afterwards (in the aggregate).
1.1 Accounting Activities and Users
Accounting consists of three activities
4
