The Expanded Ledger: Revenue, Expense, and Drawings

The Expanded Ledger:Revenue, Expense, and Drawings Unit 2-Chapter 5

Expanding the Ledger

Expanding the Ledger • In a group of 2 or 3, flip back to the transactions that we have done in class/individually: - Equation Analysis Sheet (pg 59, ex 1) - Equation Analysis Sheet (pg 61, ex 3) - Transactions on pg 83-89 of text book -Transaction Analysis Sheet (pg 91, ex 3) • Make a list on a (sheet of paper) of the transactions that only affected OE. 3. What commonality do you notice among the transactions that are affecting OE? What is happening within the transactions that affect OE?

OE is comprised of… Revenue:money that comes in from the sale of goods or services- increase in equity Expenses: money that goes out which is related to the operation of the business and the generation of revenues-decrease in equity Drawings: owner’s withdrawals from the business for personal use.

OE: Behaviour Issue • In your group of three each group member will read about one of the new OE accounts that we just looked at. • Once you have read about one of the three new accounts you will complete the handout given to you. • After you have pulled the important details about your account and have come to a conclusion regarding the account share your findings with your group members.

Liabilities Assets = + Owner’s Equity Normal Balance Normal Balance Normal Balance Revenue Debit Credit (DR) (CR) • Revenue represents an increase in equity. • An increase in equity requires a credit entry. • Therefore, tobook revenue, credit the revenue account. Is the “Normal Balance” of a Revenue a DR or CR? Does Revenue typically increase or decrease Owner’s Equity? Debit Credit Debit Credit Debit Credit (DR) (CR) (DR) (CR) (DR) (CR) Revenue How do revenue accounts “behave”? Normal Balance

EXAMPLES… Revenue A company is paid $500 for services rendered. Dr. Cash $500 Cr. Revenue $500

GAAP - Revenue Recognition The revenue recognition convention states that revenue must be recorded in the accounts (i.e. recognized) at the time the transaction is completed. • What does this mean? • Revenue is recorded when the bill is sent to the customer. • For a cash transaction, revenue is recorded when the sale is complete and the cash is received.

Liabilities Assets = + Owner’s Equity Normal Balance Normal Balance Normal Balance Expenses Debit Credit (DR) (CR) • Expenses represent a decrease in equity. • A decrease in equity requires a debit entry. • Therefore, expense accounts are typically debited. Is the “Normal Balance” of an Expense a DR or CR? Do Expenses typically increase or decrease Owner’s Equity? Debit Credit Debit Credit Debit Credit (DR) (CR) (DR) (CR) (DR) (CR) Expenses How do expense accounts “behave”? Normal Balance

Example…Expenses A company pays wages of $250. Dr. Wages Expense $250 Cr. Cash $250

Net Income or Net Loss • Using the revenue and expense accounts, a business can determine if they have earned a net income (profit) or a net loss. • Net Income is the difference between the total revenues and total expenses, where the revenues are greater than the expenses. • A Net Loss is created if expenses are greater than the revenues.

Liabilities Assets = + Owner’s Equity Normal Balance Normal Balance Normal Balance Drawings Debit Credit (DR) (CR) Do Drawings typically increase or decrease Owner’s Equity? Is the “Normal Balance” Drawings DR or CR? Debit Credit Debit Credit Debit Credit • Drawings represent a decrease in equity. • A decrease in equity requires a debit entry. • Therefore, drawing accounts are typically debited. (DR) (CR) (DR) (CR) (DR) (CR) Drawings How do drawings accounts “behave”? Normal Balance

Example…Drawings The owner withdraws $300 for their personal use. Dr. Drawings $300 Cr. Cash $300

Expanding the Ledger • The purpose of expanding the ledger is to provide essential information about the progress of the business. • This information is needed to assess the ongoing profitability of the company.

Example of Expanding the Ledger • How much was spent on advertising? • Are the wages fair? • Is the rent too high? • How much did the owner withdraw from the business?

Example of Expanding the Ledger What do we know about profitability of this firm in the month of January? Did they make a profit or a loss?

Owner’s Equity $26,137 Example of Expanding the Ledger Now … what can we determine about the profitability of this firm?

REVENUES & EXPENSES An Income Statement shows, in detail, whether the business is profitable or not … it shows if the company made a profit or loss. Income Statement • Some of the information from these new accounts will be used to prepare an Income Statement. • What do you think an Income Statement is? • What accounts do you think we would use to prepare in Income Statement?

Note the formatting What does this show? Sample Income Statement

Expanding the Ledger SUMMARY: • Capital – this account will now contain only the equity figure at the beginning of the fiscal period plus new capital from the owner. • Revenues – increases in equity resulting from the sale of goods or services. A revenue account normally has a credit balance.

Expanding the Ledger • Expenses – decreases in equity resulting from the costs of the materials or services used to produce the revenue. An expense account normally has a debit balance. • Drawings – decreases in equity resulting from the owner’s personal withdrawals. A drawings account normally has a debit balance. Drawings are NOT a factor in calculating net income or loss.

= + Liabilities Assets Owner’s Equity Owner’s Drawings Assets Owner’s Capital Liabilities Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr. Revenues Expenses Dr. Cr. Dr. Cr. Expanded Basis Equation and Debit / Credit Rules

Practice-Expanded Ledger!! • Pg 124, 1: create an account ledger using the transactions for Spalding Consultants ……15 min to do this!

The Income Statement

The Income Statement • The income statement tells the owners and the managers how the business is doing. • income statement : is a financial statement that summarizes revenue and expense and it shows the net income or net loss of a business for a given period of time.

Listed alphabetically Date? The accounting period for which the figures have been accumulated A company can have more than one source of revenue. Net Income is not cash. It is the difference between total revenues and total expenses.

The Income Statement • Who uses the Income Statement? • Owners and Managers • Shows if the business is making profit. • Used for setting goals and policy. • When compared to previous years, it provides a trend … highlighting potential problems. • Bankers • Supports loan decisions. • Past profitability is one indicator of future potential.

The Income Statement • Who uses the Income Statement? • Income Tax Authorities • Every business is required by law to prepare an income statement. • The net income figure of a proprietorship must be included on the owner’s income tax return. • Corporations must file their own tax returns. • The income statement must be sent to the government along with the tax returns.

Practice-Income Statements p. 134, Exercise 2: • Prepare an income statement. …15 min

Equity Relationship and the Balance Sheet

Beginning Capital $21,878 Drawings $3,950 Total Income $23,660 Increase in Equity $4,259 (NI – Drawings) Net Income $8,209 (Rev – Exp) Total Expenses $15,451 Net Income $8,209 Net Loss $n/a Ending Capital $26,137 Drawings $3,950 + - - - - = Ending Capital $26,137 (Beg + Inc) Beginning Capital $21,878

The equity section clearly describes what happened during the month of January. Eve Boa started the month with a $21,878 claim on the assets. Since the Net Income was greater than her drawings by $4,259, her claim on the assets increased to $26,137. For this balance sheet, the ASSETS section is placed on top of the LIABILITIES and EQUITY sections … instead of beside them. This format is referred to as the report form of the balance sheet.

Practice-Calculating Equity p. 140, Exercise 1 and 3 1. in groups of four! 3. See Excel example

The Expanded Ledger: Revenue, Expense, and Drawings