1st Quarter Discussion.docx

THE ACCOUNTING EQUATION (Module 5, Camerino, D.) The most basic tool of accounting is the accounting equation. This equation presents the resources controlled by the enterprise (assets), the present obligation of the enterprise (liability), and the residual interest in the assets (equity). It states that asset must ALWAYS equal liabilities and owner’s equity. The basic accounting model is: Assets = Liabilities + Equity ELEMENTS OF FINANCIAL STATEMENTS The major elements of financial statements include:  Assets  Liabilities  Equity  Income  Expense Assets Assets are the resources that the entity control that have resulted from past events and can provide you with future economic benefits. Essential elements in the definition of asset: a. Control- the entity must have the exclusive right to enjoy those benefits or it can prevent others from enjoying those benefits. b. Past events- the control over a resource have resulted from past event or transaction. Therefore, resources for which control is yet to be obtained in the future do not qualify as asset in the present. c. Future economic benefit- “Future” means that resource is expected to provide economic benefits over more than one accounting period. “Economic benefits” means the potential of the resource to provide the entity, directly or indirectly, with cash. Liability Liabilities are the entity’s present obligations that have resulted from past events and can require the company to give up resources when settling them. Essential elements in the definition of liability: a. Present obligation- This means that the entity, at present, has a responsibility to pay someone because of an obligating event that has already

transpired. An obligating event is an event that creates either legal or constructive obligation. b. Giving up of resources (or Outflow of economic benefits)- This means that settling an obligation necessarily would require you to pay cash, to transfer other non-cash assets, or to render a service. Equity Equity has a residual definition. It is simply assets minus liabilities. Other terms for equity are capital, net assets, and net worth. This account is used to record the original and additional investments of the owner of the entity. It is increased by the income earned during the year. On the other hand, Equity is decreased by withdrawals of the business owner. It is also reduced by expenses incurred during the year. THE EXPANDED ACCOUNTING EQUATION Assets = Liabilities + Equity + Income – Expense Notice that income is added while expenses are deducted in the equation. These are because income increases equity while expenses decrease equity. Income Income are increases in economic benefits during the period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to investments by the business owners. Expenses Expenses are decreases in economic benefits during the period in the form of outflows or depletions of assets or increases of liabilities that result in decreases in equity, other than those relating to distributions to the business owners. The difference between income and expense represents profit or loss.  If Income > Expenses, the difference is profit.  If Income < Expenses, the difference is loss.

THE FIVE MAJOR ACCOUNTS (Module 9, Camerino, D.) Statement of Financial Position (Balance Sheet) Accounts Assets Liabilities Equity

Statement of Profit or Loss (Income Statement) Accounts Income Expenses

COMMON ACCOUNT TITLES Balance Sheet Accounts ASSETS 1. Current Assets- are assets that can be realized (collected, sold, used up) one year after year-end date. Examples:  Cash- includes money or its equivalent that is readily available for unrestricted use, e.g., cash on hand, cash in bank  Accounts receivable- receivables supported by oral or informal promises to pay.  Allowance for bad debts- the aggregate of estimated losses from uncollectible accounts receivable. Another term is “Allowance for doubtful accounts”.  Notes receivable- receivables supported by written or formal promises to pay in the form of promissory notes  Inventory- represents the goods that are held for sale by a business. For a manufacturing business, inventory also includes good undergoing the process of production and raw materials that will be consumed in the production process.  Prepaid supplies- represents the cost of unused office and other supplies.  Prepaid rent- rent paid in advance  Prepaid insurance- cost of insurance paid in advance 2. Non-current Assets- are assets that cannot be realized (collected, sold, used up) one year after yearend date. Examples:  Land-the lot on which the building of the business has been constructed or a vacant lot which is to be used as future plant site. Land is not depreciable.

 Building- the structure owned by a business for use in its operation.  Equipment- consists of various assets such as: o Machineries and other factory equipment o Transportation equipment o Office equipment o Computer equipment o Furniture and fixtures  Accumulated depreciation- the total amount of depreciation expenses recognized since the asset was acquired and made available for use. LIABILITIES 1. Current Liabilities- liabilities that fall due (paid, recognized as revenue) within one year after year-end date. Examples:  Accounts payable- obligations supported by oral or informal promises to pay the debtor.  Interest payable- interest incurred but not yet paid. Interest payable arises from interest-bearing liabilities.  Salaries payable-salaries already earned by employees but not yet paid by the business.  Utilities payable- utilities (e.g., electricity, water, telephone, internet, etc.) already used but not yet paid.  Unearned income- items related to income that were collected in advance before they earned. After the earning process is completed, these items are transferred to income. 2. Non-current Liabilities- are liabilities that do not fall due (paid, recognized as revenue) within one year after year-end date. Examples:  Notes payable- obligations supported by written or formal promises to pay by the debtor in the form of promissory notes.  Loans payable  Mortgage payable

 Rent expense- represents the rentals that have been used up during the accounting period.  Utilities expense- represents the cost of utilities that have been used during the accounting period.  Supplies expense- represents the cost of supplies that have been used during the period.

EQUITY  Owner’s capital/equity- the residual amount after deducting liabilities from asset. The owner’s capital account is: Increased by: Investments or contributions by the owners Income or Profit earned by the business

Decreased by: Withdrawals or distributions to the owners Expenses or Loss incurred by the business.

 Owner’s drawings- this account is used to record the temporary withdrawals of the owner during the period. INCOME STATEMENT ACCOUNTS INCOME  Service fees- revenues earned from rendering services (e.g., services of a spa, services of a beauty salon, etc.)  Sales- revenues earned from the sale of goods (e.g., sale of clothes, sale of canned goods)  Interest income- revenues earned from the issuance of interest-bearing receivables  Gains- income earned from the sale of assets (except inventory) or from enhancements of assets or decreases in liabilities that are not classified as revenues. EXPENSES  Cost of Sales (Cost of Goods Sold)- represents the value of inventories that have been sold during the accounting period.  Freight-out- represents the seller’s costs of delivering goods to customers.  Salaries expense- represents the salaries earned by employees for the services they have rendered during the accounting period.

THE ACCOUNT An account is the basic storage of information in accounting. It is a record of the increases and decreases in a specific item of asset, liability, equity, income, or expense. The simplest form of the account is known as the “T” account because of its similarity to the letter “T”. Account Title

Left side or Right side or Debit side Credit side

CHART OF ACCOUNTS A chart of accounts is list of all the accounts used by the company. Example: ___________________________CHART OF ACCOUNTS_______________________________ Account No. ASSETS 110 Cash 120 Accounts Receivable 125 Allowance for bad debts 130 Notes Receivable 140 Inventory 150 Prepaid Insurance 160 Land 170 Building 175 Accumulated Depreciation- Building 180 Equipment 185 Accumulated Depreciation- Equipment

210 220 230 240

LIABILITIES Accounts Payable Notes Payable Salaries Payable Interest Payable

310 320

EQUITY Owner’s capital Owner’s drawings

Account No. INCOME 410 Service Fees 420 Sales 430 Interest Income 440 Gains

510 520 530 540 550 560 570

EXPENSES Cost of sales Freight-out Salaries expense Rent Expense Depreciation Expense Insurance Expense Interest Expenses

Account numbers are assigned to the accounts to facilitate recording, cross-referencing, and retrieval of information. Although there is no standard way of assigning account numbers, they should be assigned in a manner that the accounts are categorized logically. The account titles in the chart of accounts shown above are numbered in the following manner: 1. The first digit in the3-digit numbering refers to the major types of accounts.  Assets 1  Liabilities 2  Equity 3  Income 4  Expenses 5 2. The second digit in the 3-digit numbering refers to the account titles in the sequence on how they are listed in the chart of accounts. 3. The third digit in the 3-digit numbering, if not zero, signifies that the account is a contra account or an adjunct account to a related account.

Illustration 1:

July 1 July 2 July 7 July 15 July 18 July 20 July 21 July 22 July 24 July 25 July 27 July 30 July 31

Date

Paolo Reyes started a delivery service on July 1, 2013. The following transactions occurred during the month of July. He invested PHP800,000 cash and Cars amounting to PHP200,000 Reyes borrowed PHP100,000 cash from PNB for use in his business. Bought tables and chairs from Orocan and paid PHP45,000 cash Various equipment were purchased on account from Fortune for PHP55,000 Reyes made a cash withdrawal of PHP5,000 for personal use the account due to Fortune was paid in cash. A customer hired the services of Reyes. Cash of PHP15,000 was received from the customers. Cash was paid for the following: gas and oil, PHP500 and car repairs, PHP1,000. Another customer hired the services of Reyes and promised to pay PHP16,000 on July 31. Paid PHP500 for telephone bill. Another customer hired the services of Reyes. A bill was issued to them for PHP20,000, 50% of which was collected. the customer on July 24 paid 50% of his account in cash. Paid PHP10,000 for rental of office space, and salaries of PHP9,000.

Description Assets invested by the owner

Borrowings from the bank

Asset purchased for cash

Assets purchased on account

Cash withdrawal by the owner

Payment of liability

Received cash for revenue earned

Paid cash for expenses incurred

Assets

Liabilities

Equity

Revenue rendered on account

Paid for expenses incurred

Revenue earned with a down payment, balance on account. Customer’s account collected in cash

Paid cash for expenses incurred

TOTAL

ASSETS=LIABILITIES + EQUITY

Illustration 2: Ludivina Victorino, a veteran photographer, opened a studio for her professional practice on July 1. Transactions completed during the month follow: a. b. c. d. e. f. g. h. i. j. k. l. m.

Deposited P146,200 in a bank account in the name of the business, Victorino Photo Profiles. Bought new photography equipment on account from Canon Equipment, P71,210. Invested personal photography equipment into the business, P51.620. Paid office rent for the month, P5,500. Bought photography supplies for cash, P7,960. Paid premium for insurance cover on photography equipment, P1,240. Received P8,960 as professional fees for service rendered. Paid salary of part-time assistant, P6,000. Received and paid bill for telephone service, P640 Paid Canon Equipment part of the amount owed on the purchase of photography equipment, P4,200. Received P15,480 as professional fees for services rendered. Paid for minor repairs to photography equipment, P760 Victorino withdrew cash for personal use, P9,600.

Required: 1. Record the transactions for the month of July. 2. Compute for the profit/loss.

Transaction

A

B

C

D

E

F

G

H

I

J

K

L

M

Assets

Liabilities

Investments

Equity Withdrawals Revenue

Expenses

Total BOOK OF ACCOUNTS (Module 8, Camerino, D.) THE TWO MAJOR BOOK OF ACCOUNTS In monitoring and tracking the daily transactions in a business, the two major books of accounts are required by law, specifically by the Bureau of Internal Revenue (BIR). These books are:  Journal; and  Ledger Journal The journal, also called the book of original entries, is where business transactions are first recorded. Different transactions are recorded in the journal through journal entries. This recording process is called journalizing. Types of Journals:  Special Journal- is used to record transactions of a similar nature. Special journals simplify the recording process, thus providing an efficient way of recording and retrieving of information. Common example of Special Journals: o Sales journal- is used to record sales ON ACCOUNT. o Cash receipts journal- is used to record all transactions involving receipts of cash. This involves sales made in cash and any collection of receivables that has been paid in cash. o Cash disbursements journal- is used to record all transactions involving payments of cash.

o

Purchase journal- is used to track all purchases that are made ON ACCOUNT from suppliers. o Payroll journal- is used to track expenses related to staffing costs.  General Journal- All other transactions that cannot be recorded in the special journals are recorded in the general journal. Example of which is recording of a depreciation of an asset. Ledger The ledger is the systematic compilation of a group of accounts. It is used to classify the effects of business transactions on the accounts. The ledger is also called as book of secondary entries or the book of final entries because it is used only after business transactions are first recorded in the journals. The process of recording in the ledger is called posting. Kinds of Ledgers:  General ledger- contains all the accounts appearing in the trial balance  Subsidiary ledger- provides a breakdown of the balances of controlling accounts. *A controlling account is one which consists of a group of accounts with similar nature. The balance of the controlling account is shown in the general ledger while the balances of the group of accounts that comprise the controlling account are shown in the subsidiary ledger.

Formats of the Book of Accounts General Journal GENERAL JOURNAL Date

Account Titles

Ref. No.

08/03/2018 Depreciation Expense Accumulated Depreciation- Building

Debit

Credit

₱ 10,000.00 ₱ 10,000.00

to record depreciation expense for the building. 08/07/2018 Bad debt expense Allowance for Bat debts to record the bad debts expense for the period.

₱ 3,000.00 ₱ 3,000.00

 Date column- indicates the recording dates of the transactions. Transactions are recorded in the journal chronologically, meaning arranged by dates.  Account titles column- The accounts affected by a business transaction are recorded in this column.  Reference No. column- This column is left blank when the journal entry is made. It is used later when the journal entries are transferred to the ledger accounts.  Debit and Credit Columns- the monetary effects of the transaction to the accounts are recorded here. Special Journal SALES JOURNAL Sales Accounts Customer Receivable- Debit

Date

Invoice number

08/04/2018 08/04/2018

SI-001 SI-002

Customer 3 Customer 6

₱6,000.00 ₱320.00

₱6,000.00 ₱320.00

08/05/2018 08/06/2018

SI-003 SI-004

Customer 7 Customer 8

₱240.00 ₱200.00

₱240.00 ₱200.00

Sales- Credit

CASH RECEIPTS JOURNAL Date

Description (Particulars)

Ref. No.

Debit

Credit

Credit

Credit

Cash

Sales

Accounts Receivable

Sundry

General and Subsidiary Ledger GENERAL LEDGER ACCOUNTS RECEIVABLE Date

Reference No.

Debit

120 Credit

Balance Forwarded

₱ 40,000.00

08/06/2018

Date Balance Forwarded 08/04/2018

Date Balance Forwarded 08/04/2018

Date Balance Forwarded 08/05/2018

Date Balance Forwarded 08/06/2018

Balance

₱ 6,720.00

CUSTOMER 3 Invoice Debit Number SI-001

SI-004

Credit

₱200.00

Balance ₱₱320.00

Credit

Balance ₱₱240.00

₱240.00

CUSTOMER 8 Invoice Debit Number

Balance ₱₱6,000.00

₱320.00

CUSTOMER 7 Invoice Debit Number SI-003

Credit

₱6,000.00

CUSTOMER 6 Invoice Debit Number SI-002

₱ 46,720.00

Credit

Balance ₱₱200.00