Analyzing Changes in Financial Position

1. Chapter 3: Analyzing Changes in Financial Position

2. Business Transactions • Events occur daily that cause the financial position of a business change. Each of these events is called a business transaction. • When an asset, liability, or equity item is recorded for accounting purposes, a business paper or source document is required to verify the dollar amount.

3. Source Documents What would be some examples of source documents? • Hydro bill • Telephone bill • Cheque copies • Store receipts • Cash register summary • Credit card slips

4. Source Documents • They provide proof for the transaction …… proof of payment, proof of purchase, and reference. • They are kept on file for future reference in order to answer questions from owners, managers, auditors, government agencies, etc.

5. The objectivity principle states that accounting will be recorded on the basis of objective evidence. GAAP – The Objectivity Principle What does that mean? • Different people looking at the same evidence will arrive at the same values for the transaction. • Transactions are recorded on fact, not personal opinion.

6. Exercise #1 Given that a transaction is a financial event that requires changing the statement of financial position, decide whether or not each of the following is a transaction for Best Consultants of Kenora, Ontario. • The business pays $800 to Mercury Finance to reduce the amount owed to them. • The owner, P. Dufour, withdraws $500 from the business for her personal use. • A new employee is needed in the payroll department. P. Dufour interviews Stan Martin for the job.

7. Exercise #1 (continued) • A $700 consulting service is provided for Rita Bertoli on credit. • The business pays the rent for the month, $500. • The employee in question C above is hired to start work next Monday at $400 per week. • The business purchases a new computer for cash at the price of $3,000. • The computer in question G above is defective and is replaced at no cost to the business.

8. Exercise #2 You are working for Ace Collection Agency of Cornwall, Ontario, owned by Ingrid Lencz. Determine whether or not each of the following is a transaction: • Gasoline for the company automobile was purchased for $40 cash. • Ingrid Lencz paid $15 out of her own pocket for lunch. • Ingrid’s personal car was damaged and needed a $500 repair job.

9. Exercise #2 (continued) • A $250 service was performed for a customer who paid cash. • A leased computer broke down and needed to be replaced at no cost to the business. The man who brought the replacement said that the new machine was a $2,500 model. • A customer who owed the business $1,200 made a partial payment of $300. • The business bank loan was reduced by a direct payment to the bank of $1,000. • A burglar broke into the office and stole the leased computer. The business has 100 per cent replacement insurance to cover breaking and entering and theft.

10. Exercise #3 Examine this source document and answer the following: • Who issued the bill? • Who received the bill? • When was the bill issued? • For what service was the bill issued? • Does the bill represent good objective evidence? Why?

11. Exercise #4 Examine this source document and answer the following: • Who issued the bill? • Who received the bill? • When was the bill issued? • When were the goods delivered? How? • When is this bill due for payment? • Why was the bill issued? • Was this a cash sale transaction? • Why does this represent good objective evidence?

12. Exercise #5 The accountant for a business received a memorandum from the owner. The memorandum stated that a new office desk recently installed in the owner’s office was acquired at a cost of $2,500 and that it was paid for in cash by the owner personally. • Is the memorandum objective evidence? Why / Why not? • What is the best objective evidence in this case?

13. Analyzing Changes in Financial Position Equation Analysis Sheet

14. Equation Analysis • As business transactions occur, there are changes in the values of assets, liabilities, and capital. • Although the Balance Sheet shows the values of these assets, liabilities, and capital on a particular date, it is not adequate to reflect changes created by individual transactions.

15. Equation Analysis Sheet Example – Opening Balance Sheet

16. Set up column Headings … One per account name Accounting Equation $53,300 = $20,120 + $33,180 Equation Analysis Sheet 1. Set up sheet with Beginning Balances as per B/S Set up “beginning balances”

17. Accounting Equation $53,300 = $20,120 + $33,180 Equation Analysis Sheet 1. Set up sheet with Beginning Balances as per B/S A = L + OE

18. Equation Analysis Sheet 2. Metropolitan Movers pays $1,200 cash to Mercury Finance.

19. Accounting Equation $52,100 = $18,920 + $33,180 Equation Analysis Sheet 2. Metropolitan Movers pays $1,200 cash to Mercury Finance.

20. Equation Analysis Sheet 3. K. Lincoln, who owes Metropolitan Movers $2,500, pays $1,100 in partial payment of debt.

21. Accounting Equation $52,100 = $18,920 + $33,180 Equation Analysis Sheet 3. K. Lincoln, who owes Metropolitan Movers $2,500, pays $1,100 in partial payment of debt.

22. Equation Analysis Sheet 4. Equipment costing $1,950 is purchased for cash.

23. Accounting Equation $52,100 = $18,920 + $33,180 Equation Analysis Sheet 4. Equipment costing $1,950 is purchased for cash.

24. Equation Analysis Sheet 5. A new pick-up truck is purchased at a cost of $18,000. Pay $10,000 cash and borrow the balance from Mercury Finance.

25. Accounting Equation $60,100 = $26,920 + $33,180 Equation Analysis Sheet 5. A new pick-up truck is purchased at a cost of $18,000. Pay $10,000 cash and borrow the balance from Mercury Finance.

26. Equation Analysis Sheet 6. Metro Movers complete a storage service for B. Cava at a price of $1,500. A bill is sent to B. Cava.

27. Accounting Equation $61,600 = $26,920 + $34,680 Equation Analysis Sheet 6. Metro Movers complete a storage service for B. Cava at a price of $1,500. A bill is sent to B. Cava.

28. Equation Analysis Sheet 7. J. Hofner, the owner, withdraws $500 for personal use.

29. Accounting Equation $61,100 = $26,920 + $34,180 Equation Analysis Sheet 7. J. Hofner, the owner, withdraws $500 for personal use.

30. Equation Analysis Sheet 8. One of the trucks requires engine work costing $75. The repair is paid in cash when the truck is picked up.

31. Accounting Equation $61,025 = $26,920 + $34,105 Equation Analysis Sheet 8. One of the trucks requires engine work costing $75. The repair is paid in cash when the truck is picked up.

32. Equation Analysis Sheet Update the Balance Sheet based on the balances at the end of the Equation Analysis Sheet

33. Summary of Steps in Analyzing a Transaction • Identify all items (assets and liabilities) that must be changed and make all necessary changes. • Carefully analyze the information given for each transaction. • Classify each item affected as an asset or liability. • Decide whether each item affected is to be increased or decreased.

34. Summary of Steps in Analyzing a Transaction • See if the owner’s equity has changed. • Remember the accounting equation. • If assets decrease and liabilities are unchanged, the equation must be balanced by a decrease in owner’s equity. • Make certain that at least two of the individual items / accounts have changed. • It is possible for several items to change, but there can never be only one change.

35. Summary of Steps in Analyzing a Transaction • Make sure that the equation is still in balance. • The fundamental accounting equation (Assets = Liabilities + Owner’s Equity)must always be in balance.

36. Exercise #1 Using a spreadsheet program, set up a Equation Analysis Sheet (as per below) and record the following transactions. Calculate the new totals after each entry to make sure the equation balances. • Stationary and supplies are purchased from Ace Supply on credit for $75. They will be paid for within 30 days. • A new desk for the office is purchased for $450 cash. • D. Murray, a debtor, pays her debt in full. • A $100 service is performed for a customer who pays in cash. • A used truck costing $6,500 is purchased from Pine Motors. A down payment of $500 is made. It is agreed the balance will be paid within three months. • Ace Supply, a creditor, is paid $75. • The owner, Sheila Kostiuk, withdraws $100 from the business for her own use.

37. Exercise #2 The balance sheet of Triangle Real Estate of Tweed, Ontario, at the close of business on September 30, 2007, is as follows:

38. Exercise #2 (continued) • Prepare an equation analysis sheet, using a spreadsheet program, and record the figures from the balance sheet provided • Analyze the transactions of October 1, listed below, and record the necessary changes on the equation analysis sheet. After each transaction, ensure that the equation is still in balance. • After completing transaction 5, prepare a new balance sheet. • October 1st Transactions: • Triangle Real Estate receives $100 cash from N. Swartz in partial payment of the amount owed by him. • Acme Supply is paid $200 cash in partial payment of the debt owed to them. • Supplies costing $95 are purchased for cash from the Standish Company. • Triangle Real Estate sells a home for A.J. Buhler. For this service, Triangle Real Estate receives a commission of $4,700 cash. • A new desk (Office Furniture) is purchased from Ideal Furniture for $950 cash.

39. Assets Cash $ 1,395 A/R – N. Chang 100 A/R – P. O’Neil 527 Equipment 8,316 Delivery Truck 19,750 Land 40,000 Building 80,000 Liabilities Bank Loan $ 1,395 Mortgage Payable 52,700 Exercise #3 Alliance Appliance Service in Renforth, Ontario, owned by Wayne Dalli, has the following assets and liabilities at the close of business on October 20, 2007.

40. Exercise #3 (continued) • Prepare an equation analysis sheet, using a spreadsheet program, and record the above items. Do not forget to calculate and include the capital figure. • Analyze the transactions of October 21, listed below, and record the necessary changes on the equation analysis sheet. After each transaction, ensure that the equation is still in balance. • After completing transaction 5, prepare a balance sheet. • October 21st Transactions: • The owner, in need of money for his personal use, draws $500 cash out of the business. • P. O’Neil pays her debt of $527. • A repair service is performed for a customer. The customer pays the full amount of the bill, $90, in cash. • A new electrical tester is purchased for $410 and paid for in cash. • The regular monthly mortgage payment of $900 in cash is made.

41. Class Work • Review Exercises • Exercise 3 – 6 (pg. 71) Assignment • Challenge Exercise • Exercise 7 (pg. 72) Homework Review Exercises • Exercise 1 (pg. 70) • Exercise 2 (pg. 71)