Business Transactions and the Accounting Equation

Paying a monthly bill, such as a telephone bill of $168, affects a business’s financial condition because it now has less cash on hand. Such an economic event or condi­tion that directly changes an entity’s financial condition or its results of operations is a business transaction. For example, purchasing land for $50,000 is a

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Financial Statements

After transactions have been recorded and summarized, reports are prepared for users. The accounting reports providing this information are called financial statements. The primary financial statements of a corporation are the income statement, the retained earn­ings statement, the balance sheet, and the statement of cash flows. The order in which the financial statements are

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Financial Analysis and Interpretation: Ratio of Liabilities to Stockholders’ Equity

The basic financial statements illustrated in this chapter are useful to bankers, credi­tors, stockholders, and others in analyzing and interpreting the financial performance and condition of a company. Throughout this text, various tools and techniques that are often used to analyze and interpret a company’s financial performance and con­dition are described and illustrated. The

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Using Accounts to Record Transactions

In Chapter 1, the November transactions for NetSolutions were recorded using the accounting equation format shown in Exhibit 1. However, this format is not efficient or practical for companies that have to record thousands or millions of transac­tions daily. As a result, accounting systems are designed to show the increases and decreases in each

Double-Entry Accounting System

All businesses use what is called the double-entry accounting system. This system is based on the accounting equation and requires: Every business transaction to be recorded in at least two accounts. The total debits recorded for each transaction to be equal to the total credits recorded. The double-entry accounting system also has specific rules

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Posting Journal Entries to Accounts

As illustrated, a transaction is first recorded in a journal. Periodically, the journal journalizing and posting of entries are transferred to the accounts in the ledger. The process of transferring the transactions to acc°unts. debits and credits from the journal entries to the accounts is called posting. The December transactions of NetSolutions are used

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Trial Balance

Errors may occur in posting debits and credits from the journal to the ledger. One way to detect such errors is by preparing a trial balance. Double-entry accounting requires that debits must always equal credits. The trial balance verifies this equality. The steps in preparing a trial balance are as follows: Step 1. List

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Financial Analysis and Interpretation: Horizontal Analysis

A single item in a financial statement, such as net income, is often useful in interpreting the financial performance of a company. However, a comparison with prior periods often makes the financial information even more useful. For example, comparing net income of the current period with the net income of the prior period will

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Nature of the Adjusting Process

When preparing financial statements, the economic life of the business is divided into time periods. This accounting period concept requires that revenues and expenses be reported in the proper period. To determine the proper period, accountants use generally accepted accounting principles (GAAP), which requires the accrual basis of accounting. Under the accrual basis of

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Adjusting Entries

To illustrate adjusting entries, the December 31, 2013, the unadjusted trial balance of NetSolutions, shown in Exhibit 5 is used. An expanded chart of accounts for NetSolutions is shown in Exhibit 6. The additional accounts used in this chapter are shown in color. The rules of debit and credit shown in Exhibit 3 of

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Summary of Adjustment Process

A summary of the basic types of adjusting entries is shown in Exhibit 8 on page 120. The process. adjusting entries for NetSolutions are shown in Exhibit 9 on page 121. The adjusting entries are dated as of the last day of the period. However, because collecting the adjustment data requires time, the entries

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Adjusted Trial Balance

After the adjusting entries are posted, an adjusted trial balance is prepared. The adjusted trial balance verifies the equality of the total debit and credit balances before the financial statements are prepared. If the adjusted trial balance does not balance, an error has occurred. However, as discussed in Chapter 2, errors may occur even

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Financial Analysis and Interpretation: Vertical Analysis

Comparing each item in a financial statement with a total amount from the same statement is useful in analyzing relationships within the financial statement. Vertical analysis is the term used to describe such comparisons. In vertical analysis of a balance sheet, each asset item is stated as a percent of the total assets. Each

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Flow of Accounting Information

The process of adjusting the accounts and preparing financial statements is one of the most important in accounting. Using the NetSolutions illustration from Chapters 1-3 and an end-of-period spreadsheet, the flow of accounting data in adjusting accounts and preparing financial statements are summarized in Exhibit 1. The end-of-period spreadsheet in Exhibit 1 begins with

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Financial Statements

Using the adjusted trial balance shown in Exhibit 1, the financial statements for NetSolutions can be prepared. The income statement, the retained earnings statement, and the balance sheet are shown in Exhibit 2. 1. Income Statement The income statement is prepared directly from the Adjusted Trial Balance columns of the Exhibit 1 spreadsheet, beginning

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Closing Entries

As discussed in Chapter 3, the adjusting entries are recorded in the journal at the end of the accounting period. For NetSolutions, the adjusting entries are shown in Exhibit 9 of Chapter 3. After the adjusting entries are posted to NetSolutions’ ledger, shown in Exhibit 6 (on pages 160-161), the ledger agrees with the

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Accounting Cycle

The accounting process that begins with analyzing and journalizing transactions and ends with the post-closing trial balance is called the accounting cycle. The steps in the accounting cycle are as follows: Transactions are analyzed and recorded in the journal. Transactions are posted to the ledger. An unadjusted trial balance is prepared. Adjustment data are

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Illustration of the Accounting Cycle

In this section, the complete accounting cycle for one period is illustrated. Assume cycle for one period– that for several years Kelly Pitney has operated a part-time consulting business from her home. As of April 1, 2014, Kelly decided to move to rented quarters and to oper­ate the business on a full-time basis as

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Fiscal Year

The annual accounting period adopted by a business is known as its fiscal year. Fis­cal years begin with the first day of the month selected and end on the last day of the following twelfth month. The period most commonly used is the calendar year. Other periods are not unusual, especially for businesses organized

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Financial Analysis and Interpretation: Working Capital and Current Ratio

The ability to convert assets into cash is called liquidity, while the ability of a busi­ness to pay its debts is called solvency. Two financial measures for evaluating a business’s short-term liquidity and solvency are working capital and the current ratio. Working capital is the excess of the current assets of a business over

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