The Accounting Process

1. Week 4
THE ACCOUNTING PROCESS
THIS TEXT INCLUDES THE FOLLOWING CONTENT FROM INTRODUCTION TO
FINANCIAL ACCOUNTING BY H. DAUDERIS, D. ANNAND, T. JENSEN, AND LYRYX
LEARNING. VIEW THE ENTIRE TEXT FOR FREE AT
HTTPS://LYRYX.COM/INTRODUCTION-FINANCIAL-ACCOUNTING/
CONTENT: CHAPTER 2
By: Shabera Jacobs

2. Introduction
Chapter 2 looks more closely at asset, liability, and
equity accounts and how they are affected by double-
entry accounting, namely, debits and credits. The
transactions introduced in the prior class for Big Dog
Carworks Corp. are used to explain debit and credit
analysis.

3. Objectives
1.Describe asset, liability, and equity accounts,
identifying the effect of debits and credits on each.
2.Analyze transactions using double-entry
accounting.

4. Asset Accounts
Assets are resources that have future economic
benefits for the business. The primary purpose of
assets is that they be used in day-to-day operating
activities in order to generate revenue either directly
or indirectly. A separate account is established for
each asset. Examples of asset accounts are reviewed
below.

5. ASSETS
Cash has future purchasing power. Coins, currency, cheques, and bank account
balances are examples of cash.
Accounts receivable occur when products or services are sold on account or on
credit.
When a sale occurs on account or on credit, the customer has not paid cash but
promises to pay in the future.
Notes receivable are a promise to pay an amount on a specific future date plus a
predetermined amount of interest.
Office supplies are supplies to be used in the future. If the supplies are used
before the end of the accounting period, they are an expense instead of an
asset.

6. ASSETS Cont’d
Merchandise inventory are items to be sold in the future.
Prepaid insurance represents an amount paid in advance for insurance.
The prepaid insurance will be used in the future.
Prepaid rent represents an amount paid in advance for rent. The prepaid
rent will be used in the future.
Land cost must be in a separate account from any building that might be
on the land. Land is used over future periods.
Buildings indirectly help a business generate revenue over future
accounting periods since they provide space for day-to-day operating
activities.

7. Liability Accounts
A liability is an obligation to pay for an asset in the
future. The primary purpose of liabilities is to finance
investing activities that include the purchase of assets
like land, buildings, and equipment. Liabilities are
also used to finance operating activities involving, for
example, accounts payable, unearned revenues, and
wages payable. A separate account is created for
each liability. Examples of liability accounts are
reviewed below.

8. Liability Accounts Cont’d
Accounts payable are debts owed to creditors for goods purchased or services received as a
result of day-to-day operating activities. An example of a service received on credit might be a
plumber billing the business for a repair.
Wages payable are wages owed to employees for work performed.
Short-term notes payable are a debt owed to a bank or other creditor that is normally paid
within one year. Notes payable are different than accounts payable in that notes involve interest.
Long-term notes payable are a debt owed to a bank or other creditor that is normally paid
beyond one year. Like short-term notes, long-term notes involve interest.
Unearned revenues are payments received in advance of the product or service being provided.
In other words, the business owes a customer the product/service.

9. Equity Accounts
Equity represents the net assets owned by the owners of a business.
In a corporation, the owners are called shareholders. There are
different types of equity accounts: share capital, retained earnings,
dividends, revenues, and expenses. Share capital represents the
investments made by owners into the business and causes equity to
increase. Retained earnings is the sum of all net incomes earned
over the life of the corporation to date, less any dividends
distributed to shareholders over the same time period. Therefore,
the Retained Earnings account includes revenues, which cause
equity to increase, along with expenses and dividends, which cause
equity to decrease.

10. Summary of equity accounts

11. T-accounts
A simplified account, called a T-account, is often used
as a teaching/learning tool to show increases and
decreases in an account. It is called a T-account
because it resembles the letter T.

12. T-accounts Cont’d

13. T-accounts Cont’d

14. Determining the account balance

15. The Chart of Accounts
A business will create a list of accounts called a chart of
accounts where each account is assigned both a name and a
number. A common practice is to have the accounts
arranged in a manner that is compatible with the order of
their use in financial statements. For instance, Asset
accounts begin with the digit ‘1’, Liability accounts with the
digit ‘2’. Each business will have a unique chart of accounts
that corresponds to its specific needs. Big Dog Carworks
Corp. uses the following numbering system for its accounts:

16. Chart of Accounts Cont’d
Big Dog Carworks Corp. uses the following numbering system for its accounts:

17. Transaction Analysis Using Accounts
Transactions for Big Dog Carworks Corp will be used
to demonstrate double-entry accounting. Double-
entry accounting means each transaction is recorded
in at least two accounts where the total debits
ALWAYS equal the total credits. As a result of double-
entry accounting, the sum of all the debit balance
accounts in the ledger must equal the sum of all the
credit balance accounts.

18. The rule that debits = credits is rooted in
the accounting equation:
Assets = Liabilities + Equity
Increases are debits credits credits
Decreases are credits debits debits