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Skyline College

Chapter. 2. Skyline College. A business transaction is a financial event that changes the resources of a firm. Business Transactions. The accounting process starts with the analysis of business transactions. Property = Financial Interest.

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Skyline College

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  1. Chapter 2 Skyline College

  2. A business transaction is a financial event that changes the resources of a firm. Business Transactions The accounting process starts with the analysis of business transactions.

  3. Property = Financial Interest • A business transaction is analyzed to see how it affects this equation: • In a free enterprise system, all property is owned by someone.

  4. Property = Financial Interest Use these steps to analyze the effect of a business transaction. 1. Describe the financial event. • Identify the property. • Identify who owns the property. • Determine the amount of increase or decrease. 2. Make sure the equation is in balance.

  5. Meet JT’s Consulting Services. • JT’s Consulting Services is a firm that provides a wide range of accounting and consulting services. • Jason Taylor is the sole proprietor of the firm. • Tennille Brisbane is the office manager of the firm. • The firm bills clients monthly for the services provided that month. • Or customers can also pay in cash when the services are provided. JT’s Consulting

  6. Business Transaction Jason Taylor withdrew $90,000 from personal savingsand deposited it in a new checking account in the name of JT’s Consulting Services. Analysis: (a) The business received $90,000 of property in the form of cash. (a) Taylor had an $90,000 financial interest in the business.

  7. The equation remains in balance. Property=Financial Interest Cash = Jason Taylor, Capital (a)Invested cash + $90,000 (a)Increased equity + $90,000 New balances $90,000 = $90,000 Jason Taylor now has $90,000 equity in JT’s Consulting Services.

  8. Business Transaction JT’s Consulting Services issued a $10,000 check to purchase a computer and other equipment. Purchasing Equipment for Cash (b)The firm purchased new equipment for $10,000. (b) The firm paid out $10,000 in cash.

  9. The equation remains in balance. $90,000 = $90,000 Property = Financial Interest Cash + Equipment = Jason Taylor, Capital Previous balances $90,000 = $90,000 $10,000 (b) Purchased equip. + - 10,000 (b) Paid cash New balances $80,000 + $10,000 = $90,000

  10. Buying on account is an arrangement to allow payment at a later date. It is also called a charge account or open- account credit. Accounts payableare the amounts a business must pay in the future. Accounts Payable

  11. Business Transaction JT’s Consulting Services purchased additional office equipment on account from Office Plus for $12,000. Analysis: (c) The firm purchased new equipment that cost $12,000. (c) The firm owes $12,000 to Office Plus.

  12. The equation remains in balance. $102,000 = $102,000 Property = Financial Interest Jason Taylor, + Capital Accounts = Payable Cash + Equipment Previous balances $80,000 + $10,000 = $90,000 +12,000 (c) Purchased equipment +$12,000 (c) Incurred debt New balances $80,000 + $22,000 = $12,000 + $90,000 Notice the new claim against the firm’s property – the creditor’s claim of $12,000.

  13. Business Transaction JT’s Consulting Services issued a check for $3,000 to Office Warehouse Inc. to purchase office supplies. Purchasing Supplies Analysis: (d) The firm purchased office supplies that cost $3,000. (d) The firm paid $3,000 in cash.

  14. The equation remains in balance. $102,000 = $102,000 Property = Financial Interest Accounts = Payable Jason Taylor, + Capital Cash + Supplies + Equipment Previous balances $80,000 + $22,000 = $12,000 + $90,000 (d) Purchased supplies +$3,000 (d) Paid cash -3,000 New balances $77,000 + $3,000 + $22,000 = $12,000 + $90,000

  15. Business Transaction In order to reduce its debt, JT’s Consulting Services issued a check for $5,000 to Office Plus. Paying a Creditor Analysis: (e) The firm paid $5,000 in cash. (e) The claim of Office Plus against the firm decreased by $5,000.

  16. The equation remains in balance. $97,000 = $97,000 Property = Financial Interest Accounts = Payable Jason Taylor, + Capital Cash + Supplies + Equipment Previous balances $77,000 + $3,000 + $22,000 = $12,000 + $90,000 (e) Paid cash -5,000 (e) Decreased debt -$5,000 New balances $72,000 + $3,000 + $22,000 = $7,000 + $90,000

  17. BusinessTransaction JT’s Consulting Services issued a check for $7,000 to pay for rent for the months of December and January. Paying for Services Analysis: (f) The firm prepaid the rent for the next two months in the amount of $7,000. (f) The firm decreased its cash balance by $7,000.

  18. The equation remains in balance. $97,000 = $97,000 Property = Financial Interest Cash + Supplies + Prepaid + Equipment Rent Accounts = Payable Jason Taylor, + Capital Previous balances $72,000 + $3,000 + $22,000 = $7,000 + $90,000 (f) Paid cash -7,000 (f) Prepaid rent +$7,000 New balances $65,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000

  19. Assetsare property owned by a business. Liabilitiesare debts or obligations of a business. Owner’s equityis the term used for sole proprietorships. It is the financial interest of an owner of a business.

  20. Assets = Liabilities + Owner’s Equity The Fundamental Accounting Equation • In accounting terms the firm’s assets must equal the total of its liabilities and owner’s equity. • The entire accounting process is based on the fundamental accounting equation • If any two parts of the equation are known, the third part can be determined.

  21. At regular intervals a Balance Sheet is prepared for JT’s Consulting Services. A balance sheetis a formal report of a firm’s financial condition on a certain date. It reports the assets, liabilities, and owner’s equity of the business.

  22. Liabilities Assets Accounts Payable $ 7,000 Jason Taylor, Capital 90,000 Total Liabilities and Owner’s Equity $97,000 Cash $65,000 Supplies 3,000 Prepaid Rent 7,000 Equipment 22,000 Total Assets $97,000 Owner’s Equity JT’s Consulting Services Balance Sheet November 30, 2007 • Assets – the amount and types of property owned by the business • Liabilities – the amount owed to the creditors • Equity – the owner’s interest

  23. Financial Interest Liabilities + Owner’s Equity Assets Property Property equals Financial Interest

  24. Revenue is earned at the time the service is performed regardless when the customer pays the firm. It is an inflow of money (cash) or other assets (accounts receivable) that results from the sales of goods or services. Revenues

  25. Expenses are recognized in the period that they help create revenue. An expense is an outflow of cash, use of other assets, or incurring of a liability. Expenses

  26. BusinessTransaction Selling Services for Cash During the month of December, JT’s Consulting Services earned a total of $26,000 in revenue from clients. The total effect of these transactions is analyzed below. Analysis: (g) The firm received $26,000 in cash for services provided to clients. (g) Revenues increased by $26,000, which results in a $26,000 increase in owner’s equity.

  27. Revenue $26,000 Owner’s Equity $26,000 An increase in revenue is an increase in owner’s equity.

  28. The fundamental accounting equation remains in balance. $123,000 = $123,000 Assets = Liab. + Owner’s Equity Prepaid Accounts J. Taylor, Cash + Supplies + Rent + Equip. = Payable + Capital + Revenue Previous balances $65,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000 (g) Recd. cash+26,000 (g) Increased owner's equity + 26,000 New balances $91,000+ $3,000 + $7,000 + $22,000 = $7,000 + $90,000 + $26,000

  29. REVIEW QUESTION: Why are revenue amounts recorded in a separate column under the Owner’s Equity section? ANSWER: Firms can easily calculate total revenue while preparing financial statements. Recording Revenue Amounts

  30. Accounts receivable arise when the firm performs a service for a customer but they don’t pay at that time. They are claims for future collection from customers. Accounts Receivable

  31. BusinessTransaction Selling Services on Credit During December JT’s Consulting Services earned $9,000 of revenue from charge account clients. The effect of these transactions in the month is analyzed below. Analysis: (h) The firm acquired a new asset, accounts receivable, of $9,000. (h) Revenue increases by $9,000, which results in a $9,000 increase in owner’s equity.

  32. The fundamental accounting equation remains in balance. Assets = Liab. + Owner's Equity Accts. Prepaid Accts. J. Taylor, Cash + Rec. + Supplies + Rent + Equip. = Pay. + Capital + Rev. Previous balances $91,000 + $3,000 + $7,000 + 22,000 = $7,000 + $90,000 + $26,000 _______ ______ _____ ______ ______ _____ ______ ______ (h) Received new asset + $9,000 (h) Increased owner’s equity + 9,000 New bal. $91,000 + $9,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000 + $35,000 $132,000 = $132,000

  33. BusinessTransaction Collecting Receivables During December JT’s Consulting Services received $4,000 on account from clients who owed money for services previously billed. The effect of these transactions is analyzed below. Analysis: (i) The firm received $4,000 in cash. (i) Accounts receivable decreased by $4,000.

  34. The fundamental accounting equation remains in balance. $132,000 = $132,000 Assets = Liab. + Owner's Equity Accts. Prepaid Accts. J. Taylor, Cash + Rec. + Supplies + Rent + Equip. = Pay. + Capital + Rev. Previous Balances $91,000 + $9,000 + $3,000 + $7,000 + $22,000 = $7,000+ $90,000 + $35,000 _______ ______ ______ ______ ______ ______ ______ ______ (i) Recd. cash+4,000 (i) Decreased accts. rec. - 4,000 New bal. $95,000 + $5,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000 + $35,000

  35. Collecting Receivables Why didn’t revenue increase when money was received from charge account clients? The revenue was already recorded when the original sale took place.

  36. BusinessTransaction Paying Employees’ Salaries In December JT’s Consulting Services paid $7,000 in salaries for the accounting clerk and the office manager. The effect of this transaction is analyzed below. Analysis: (j) The firm decreased its cash balance by $7,000. (j) The firm paid salaries expense in the amount of $7,000, which decreased owner’s equity.

  37. Expense$5,000 Owner’s Equity $5,000 An increase in expense is a decrease in owner’s equity.

  38. The fundamental accounting equation remains in balance. $125,000 = $125,000 Assets = Liab. + Owner's Equity Accts. Prepaid Accts. J. Taylor, Cash + Rec. + Supplies + Rent + Equip. = Pay. + Capital + Rev. - Exp. Previous balances$95,000 + $5,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000 + $35,000 ______ ______ ______ ______ ______ ______ ______ ______ _____ (j) Paid cash -7,000 (j) Decreased owner’s equity - 7,000 New bal. $88,000 + $5,000 + $3,000 + $7,000 + $22,000 = $7,000+ $90,000 + $35,000 - $7,000

  39. BusinessTransaction Paying Utilities Expenses JT’s Consulting Services issued a check for $500 to pay the utilities bill. The effect of this transaction is analyzed below. Analysis: (k) The firm decreased its cash balance by $500. (k) The firm paid utilities expense of $500, which decreased owner’s equity.

  40. The fundamental accounting equation remains in balance. $124,500 = $124,500 Assets = Liab. + Owner's Equity Accts. Prepaid Accts. J. Taylor, Cash + Rec. + Supplies + Rent + Equip. = Pay. + Capital + Rev. - Exp. Previous balances $88,000 + $5,000 + $3,000 +$7,000 + $22,000 = $7,000 + $90,000 + $35,000 - 7,000 ______ ______ _______ _______ _______ ________ _______ _______ ______ (k) Paid cash -500 (k) Decreased owner’s equity -500 New bal. $87,500 + $5,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000 + $35,000 -$7,500

  41. BusinessTransaction Effect of Owner’s Withdrawals At the end of December, Jason Taylor withdrew $4,000 in cash for personal use. The effect of this transaction is analyzed below. Analysis: (l) The firm decreased its cash balance by $4,000. (l) Owner’s equity decreased by $4,000.

  42. The fundamental accounting equation remains in balance. $120,500 = $120,500 Assets = Liab. + Owner’s Equity Accts. Prepaid Accts. J. Taylor, Cash + Rec. + Supp. + Rent + Equip. = Pay. + Capital + Rev. - Exp. Previous balances $87,500 + $5,000 + $3,000 + $7,000 + $22,000 = $7,000 + $90,000 + $35,000 - $7,500 ______ _____ _____ ______ ______ ______ ______ ______ ______ (l) Withdrew cash -4,000 (l) Decreased owner's equity -4,000 New bal. $83,500 + $5,000 + $3,000 + $7,000 +$22,000 = $7,000 + $86,000 + $35,000 - $7,500

  43. An income statement is a formal report of business operations (revenues minus expenses)covering a specific period of time. It is also called a profit and loss statement. The Income Statement Revenues – Expenses = Net Income

  44. The income statement has a three-line heading. The third line shows that the report covers operations over a period of time. JT’s Consulting Services Income Statement Month Ended December 31, 2007 Revenue Fees Income $35,000 Expenses Salaries Expense $7,000 Utilities Expense 500 Total Expenses <7,500> Net Income $ 27,500

  45. The income statement reports revenue. JT’s Consulting Services Income Statement Month Ended December 31, 2007 Revenue Fees Income $35,000 Expenses Salaries Expense 7,000 Utilities Expense 500 Total Expenses <7,500> Net Income $ 27,500

  46. The income statement also reports expenses. JT’s Consulting Services Income Statement Month Ended December 31, 2007 Revenue Fees Income $35,000 Expenses Salaries Expense 7,000 Utilities Expense 500 Total Expenses <7,500> Net Income $27,500

  47. The result is net income or net loss for the period. JT’s Consulting Services Income Statement Month Ended December 31, 2007 Revenue Fees Income $35,000 Expenses Salaries Expense 7,000 Utilities Expense 500 Total Expenses <7,500> Net Income $27,500

  48. A statement of owner’s equity is a formal report of changes that occurred in the owner’s financial interest during a reporting period. The Statement of Owner’s Equity

  49. The statement of owner’s equityhas a three-line heading. Jason Taylor, Capital, December 1, 2007 Net Income for December Less Withdrawals for December Increase in Capital Jason Taylor, Capital, December 31, 2007 JT’s Consulting Services Statement of Owner’s Equity Month Ended December 31, 2007 $90,000 23,500 $113,500 $27,500 <4,000> 37

  50. The statement of owner’s equity shows the capital at the beginning of the period. Jason Taylor, Capital, December 1, 2007 Net Income for December Less Withdrawals for December Increase in Capital Jason Taylor, Capital, December 31, 2007 JT’s Consulting Services Statement of Owner’s Equity Month Ended December 31, 2007 $90,000 23,500 $113,500 $27,500 <4,000> 37

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