Accounting

Process
Objectives
• Journal
• Ledger
• Trial Balance
• Financial Statements
• Income Statement
• Balance Sheet
• Statement of Changes in Equity
• Cash Flow
Step 3: Journalizing
STEP 3: Journalizing
• Journal
• A business transaction, as evidenced by the source documents, is recorded or entered for the first time in the
book called a journal.
• It is sometimes referred to as the book of original entry.
• The process of recording or entering a business transaction in a journal is called journalizing.
• This unique style of recording is done through the preparation of journal entries.
• A journal entry has the following parts:
• The date when the transactions occurred
• The effects of the transaction as reflected by the account titles debited and account titles credited
• The monetary values (debit and credit values) assigned to each accounting element that is affected by
the transaction.
• A brief and clear explanation of the transaction
• The posting references showing the code of the destination ledger account.
• These five parts are identified in the following simple journal
entry that was prepared to record the initial investment
of Mr. Mondragon, a proprietor:
Think about this 😊😊
• Whenever cash is received, the cash account is debited. Whenever cash is paid, cash account is
credited.
• When the term of a sale or a purchase transaction is “on credit”, “on account”, or “charge”, that
would mean that the cash has not yet been collected or has not yet been paid at the time of the
sale or the purchased. Therefore, the seller debits the accounts receivable, while the buyer credits
accounts payable.
• Expenses incurred tend to decrease the profit of a reporting period, ultimately decreasing the
proprietor’s equity, which is why expenses are normally recorded by making a debit entry. Income
earned tends to increase the profit of a reporting period. This ultimately increases the
proprietor’s equity, and is the reason why income accounts are normally credited.
• In accounting, the term expenses may include losses. On the other hand, both revenues and gains
are under the umbrella of income.
 CASE
PROBLEM
• Mr. Daniel uses PERIODIC
INVENTORY SYSTEM and the
following account titles in
recording the above
transactions
Step 4. Post to the Ledger
Step 4. Post to the Ledger
• The debits and credits in the journal entries are classified and summarized
in the ledger accounts.
• The process of transferring the data from the journal to the ledger account
is called posting.
• The ledger may either be a general ledger or subsidiary ledger, depending
on the nature of accounts found therein.
• A general ledger contains all the accounts – one for each asset, liability,
equity, income, and expenses.
• Subsidiary ledger is used when the volume of transactions become
voluminous, maintaining one or more subsidiary ledger also called special
ledgers, may become necessary in order that the clerical workload can be
distributed systematically among several accounting employees.
The steps to follow in posting an entry from the
journal to the T-Form of ledger accounts are:
1. Locate the appropriate account in the ledger where the debit entry
would be posted. This is called destination ledger account.
2. Write the date of the journal entry on the date column on the debit side
of the destination ledger account.
3. Write the source of the posting under the PR column on the debit side of
the destination ledger account.
4. Enter the value of money on the column of the destination ledger
account.
5. Compute the up-to-date balance of ledger account; and
6. Go back to the source journal. Write the code of the destination ledger
account under the PR column.
The ledger accounts shown below are derived from the journal
entries of Mr. Daniel
Step 5. Prepare a Trial Balance
Preliminary Trial Balance
• A trial balance is a list of balances of ledger accounts of a business at
a specific point of time usually at the end of the period such as
month, quarter or year.
Step 6. Prepare a Worksheet
 Adjusting entries are used to adjust
the ending balances in various
Step 6. general ledger accounts.

Prepare a
These journal entries are intended to
Worksheet bring the financial statements of the
reporting entity into compliance with
the applicable accounting framework
(such as GAAP or IFRS).
There are
three • Accruals.
• An accrual entry is the most commonly-used adjusting entry. It is intended to

general record revenues or expenses that have not yet been recorded through a standard
accounting transaction.
• For example, a company is constrained by a contractual arrangement with a
types of government customer to not bill for services work until the end of a contract
period.
• In the interim, the company accrues revenue, so that it can recognize some revenue
adjusting from the contract, even though the contractual period has not yet been completed.
• As another example, a company controller decides to accrue the expense

entries, associated with a significant delivery of goods, and for which no supplier invoice has
yet arrived.
• The intent is to ensure that the cost of the goods is recorded in the financial

which are as statements for the period in which the goods arrived.

follows:
There are three general types of adjusting
entries, which are as follows:
• Accruals.
• An accrual entry is the most commonly-used adjusting entry. It is intended to record revenues or
expenses that have not yet been recorded through a standard accounting transaction.
• For example, a company is constrained by a contractual arrangement with a government
customer to not bill for services work until the end of a contract period.
• In the interim, the company accrues revenue, so that it can recognize some revenue from the
contract, even though the contractual period has not yet been completed.
• As another example, a company controller decides to accrue the expense associated with a
significant delivery of goods, and for which no supplier invoice has yet arrived.
• The intent is to ensure that the cost of the goods is recorded in the financial statements for the
period in which the goods arrived.
There are three general types of adjusting
entries, which are as follows:
• Deferrals/Prepayments.
• A deferral entry is intended to defer the recognition of a revenue transaction
that has not been earned, or an expense transaction that has not yet been
consumed.
• The outcome is the shifting of revenue or expense recognition to a future period.
For example, a customer pays in advance for a services contract that will be
performed in equal installments over the next four months.
• A deferral adjusting entry can be used to shift 3/4 of the payment into the
following three periods, when they will be recognized.
• Similarly, a company pays the full-year P12,000 cost of a life insurance policy in
advance, and uses a deferral entry to shift the recognition of 11/12 of this
amount
into the next 11 reporting periods.
There are three general types of adjusting
entries, which are as follows:
• Estimates.
• An estimation adjusting entry is used to adjust the balance in a reserve, such as
the allowance for doubtful accounts or the reserve for inventory obsolescence.
• This is done in order to maintain adequate reserve levels that reasonably the
reflect the amount of losses from existing assets that can be expected in future
periods.
Adjusting entries
Adjusting entries are a common part of the closing process for any business using
accrual basis accounting
Example:
• This example is a continuation of the accounting cycle problem we
have been working on. In the previous steps we prepared an
unadjusted trial balance.
• Relevant information for the preparation of adjusting entries of Mr.
Daniel:
• Office supplies having original cost of P800.00 were unused till the end of the
period.
• At the end of the month, there are P19,000.00 worth of merchandise on
hand.
Adjusting Entries and Errors
• Failure to journalize and post adjusting entries at the end of the
period will cause
multiple financial statement items to be misstated.
• Company A failed to record accrued wages of $5,000 at the end of the
period.
• This entry should have increased wages expense with a debit and
increased wages
payable with a credit. Failing to record this entry caused the following
errors:
a. Wages Expense will be understated by $5,000, so
b. Total Expenses will be understated by $5,000, so
c. Net Income will be overstated by $5,000, and when closed to RE
d. Retained Earnings will be overstated by $5,000
e. Wages Payable will be understated by $5,000, so
f. Total Liabilities will be understated by $5,000
Step 7. Prepare Financial
Statements
• Financial statements are a collection of summary-level reports about
an organization's financial results, financial position, and cash flows.
They are useful for the following reasons:
• To determine the ability of a business to generate cash, and the sources and
uses of that cash.
• To determine whether a business has the capability to pay back its debts.
• To track financial results on a trend line to spot any looming profitability
issues.
• To derive financial ratios from the statements that can indicate the condition
of the business.
• To investigate the details of certain business transactions, as outlined in the
disclosures that accompany the statements.
A complete set of financial statements
comprises:
• Balance sheet. Shows the entity's assets, liabilities, and equity as of the report date. The
two popular forms of presenting the accounting elements in a classified balance sheet are
the report form and
the account form.
• Income statement.
• Profit, also called net income is frequently used as a measure of the management’s performance in
the operations of a business enterprise. It is important that the accounting elements in the income
statement are classified and sub- classified in a manner that is useful for decision making.
• The presentation in the income statement involves a process of grouping or segregating the income
and expenses so that the report will be more relevant to the data-users.
• In the process of classifying or segregating the income statement elements, the nature or type of
business of business operations of the enterprise is taken into consideration.
• Remember that what is usual for one business or industry maybe unusual for another business or
industry.
• Proper classification or segregation helps the users of financial statements in understanding the
current performance of the enterprise, and also in making projections about its future performance.
Financial Statements
• Financial statements are a collection of summary-level reports about
an organization's financial results, financial position, and cash flows.
They are useful for the following reasons:
• To determine the ability of a business to generate cash, and the sources and
uses of that cash.
• To determine whether a business has the capability to pay back its debts.
• To track financial results on a trend line to spot any looming profitability
issues.
• To derive financial ratios from the statements that can indicate the condition
of the business.
• To investigate the details of certain business transactions, as outlined in the
disclosures that accompany the statements.
• If a business plans to issue financial statements to outside users (such
as investors or lenders), the financial statements should be formatted
in accordance with one of the major accounting frameworks.
• These frameworks allow for some leeway in how financial statements
can be structured, so statements issued by different firms even in the
same industry are likely to have somewhat different appearances.
• Financial statements that are being issued to outside parties may be
audited to verify their accuracy and fairness of presentation.
• If financial statements are issued strictly for internal use, there are no
guidelines, other than common usage, for how the statements are to
be presented.
• At the most minimal level, a business is expected to issue an income
statement and balance sheet to document its monthly results and
ending financial condition.
• The full set of financial statements is expected when a business is
reporting the results for a full fiscal year, or when a publicly-held
business is reporting the results of its fiscal quarters.
A complete set of financial statements
comprises:
• Balance sheet
• Income statement
• Statement of changes in equity
• Statement of cash flows
• Supplementary notes
What Is a Balance Sheet?
• Also termed as Statement of Financial Position
• A balance sheet is a financial statement that reports a company's
assets, liabilities, and shareholder equity.
• The balance sheet is one of the three core financial statements that
are used to evaluate a business.
• It provides a snapshot of a company's finances (what it owns and
owes) as of the date of publication.
• The balance sheet adheres to an equation that equates assets with
the sum of liabilities and shareholder equity.
• Fundamental analysts use balance sheets to calculate financial ratios.
How Balance Sheets Work
• The balance sheet provides an overview of the state of a company's
finances at a moment in time. It cannot give a sense of the trends
playing out over a longer period on its own.
• For this reason, the balance sheet should be compared with those of
previous periods.
The balance sheet is based on the
fundamental equation: Assets = Liabilities +
Equity.
Income statement
• Also termed as profit-and-loss (P&L) statement or an earnings statement.
• An income statement is one of the three major financial statements (along
with the balance sheet and the cash flow statement) that report a
company’s financial performance over a specific accounting period.
• Net Income = (Total Revenue + Gains) - (Total Expenses + Losses)
• Total revenue is the sum of both operating and non-operating revenue,
while total expenses include those incurred by primary and secondary
activities.
• Revenue is not receipts. Revenue is earned and reported on the income
statement. Receipts (cash received or paid out) are not.
• An income statement provides valuable insights into a company’s
operations, the efficiency of its management, underperforming sectors, and
its performance relative to industry peers.
Net income/loss = Revenue - expenses
Statement of changes in equity

• Equity, in the simplest terms, is the money shareholders have invested in

the business including all accumulated earnings.
• An equity statement is a financial statement that a company is required to
prepare along with other important financial documents at the end of the
financial year.
• The statement of owner’s equity reports the changes in company equity,
from an opening balance to and end of period balance. The changes include
the earned profits, dividends, inflow of equity, withdrawal of equity, net
loss, and so on.
• In the United States, the statement of changes in equity is also called the
statement of retained earnings.
Statement of cash flows
• A cash flow statement provides data regarding all cash inflows a
company receives from its ongoing operations and external
investment sources.
• The cash flow statement includes cash made by the business through
operations, investment, and financing—the sum of which is called net
cash flow.
Three Sections of the Statement of Cash
Flows:
• Operating Activities: The principal revenue-generating activities of an
organization and other activities that are not investing or financing;
any cash flows from current assets and current liabilities.
• Investing Activities: Any cash flows from the acquisition and disposal
of long-term assets and other investments not included in cash
equivalents
• Financing Activities: Any cash flows that result in changes in the size
and composition of the contributed equity capital or borrowings of
the entity (i.e., bonds, stock, dividends)
Step 8. Journalize and Post
closing Entries
• Closing prepares the general ledger for the next accounting cycle or year.
The general ledger is closed after financial statements have been prepared.
• All general ledger accounts are classified as Permanent or Temporary for
purposes of the closing process.
• Permanent Accounts are Balance Sheet accounts whose balances are
carried forward from year to year.
• Temporary accounts are the revenue, expense and dividend accounts which
measure activity for a specific time period. Temporary accounts are closed
at the end of the year.
• Income Summary is a special temporary account used only during the
closing process to summarize net income.
• During the period, there are three kinds of accounts in the general ledger of
the enterprise – permanent, temporary, and mixed accounts.
• The permanent accounts are the assets, liabilities, equity and their
affiliated accounts. These accounts are also called real accounts. They
contain the continuous chronological postings of the transactions or more
than one period.
• The temporary accounts, also called nominal accounts include all accounts
whose balances are closed and transferred to capital at the end of each
accounting period. At the end of each period, the balances of the nominal
accounts are reduced to zero and nothing is carried forward to the next
period. Temporary account includes:
• 1. Revenue, Income and Gains Accounts
• 2. Expense and Loss Accounts
• 3. Drawings or Withdrawals Account
• 4. Income and Expense Summary Account – a temporary account which facilitates
the closing entries.
• Mixed accounts have both permanent and temporary components in
them. Adjusting entries are prepared before the preparation of
financial statements in order to break the mixed accounts. After the
adjusting entries are posted, there are no more mixed accounts in the
general ledger.
The closing process involves four entries:
1. Zeroing-out the balance in each revenue account and transferring the total
revenues to the Income Summary account as a credit.
2. Zeroing-out the balance in each expense account and transferring the total
revenues to the Income Summary account as a debit.
3. Zeroing-out the balance in Income Summary, the net income (credit) or net loss
(debit) for the period, to the Retained Earnings account.
4. Zeroing-out the balance in each dividend account and transferring the total
dividends directly into retained earnings as a debit. Income Summary is not
used because dividends are not used to determine Net Income.

After closing, only asset, liability and permanent stockholders’ equity accounts
should have balances.
Step 9. Prepare a Post-Closing
trial Balance
• A post-closing trial balance is a list of balances of ledger accounts
prepared after closing entries have been recorded and posted to the
respective ledger accounts. The preparation of post-closing trial
balance is the last step of the accounting cycle and its purpose is to be
sure that sum of debits equal sum of credits before the start
of new accounting period. It provides the openings balance for the
ledger accounts of the new accounting period.