Chapter 2 - Review of the Accounting Process Flashcards
LO2–1 Analyze routine economic events — transactions — and record their effects on a company’s financial position using the accounting equation format. (p. 52)
LO2–1 The accounting equation underlies the process used to capture the effect of economic events.
The equation (Assets = Liabilities + Owners’ Equity) implies an equality between the total economic resources of an entity (its assets) and the total claims against the entity (liabilities and equity).
It also implies that each economic event affecting this equation will have a dual effect because resources always must equal claims.
LO2–2 Record transactions using the general journal format. (p. 56)
LO2–2 After determining the dual effect of external events on the accounting equation, the transaction is recorded in a journal.
A journal is a chronological list of transactions in debit/credit form.
LO2–3 Post the effects of journal entries to general ledger accounts and prepare an unadjusted trial balance. (p. 63)
LO2–3 The next step in the processing cycle is to periodically transfer, or post, the debit and credit information from the journal to individual general ledger accounts.
A general ledger is simply a collection of all of the company’s various accounts. Each account provides a summary of the effects of all events and transactions on that individual account.
The process of entering items from the journal to the general ledger is called posting. An unadjusted trial balance is then prepared.
LO2–4 Identify and describe the different types of adjusting journal entries. (p. 66)
LO2–4 The next step in the processing cycle is to record the effect of internal events on the accounting equation. These transactions are commonly referred to as adjusting entries.
Adjusting entries can be classified into three types:
(1) prepayments, (2) accruals, and (3) estimates.
Prepayments are transactions in which the cash flow precedes expense or revenue recognition.
Accruals involve transactions where the cash outflow or inflow takes place in a period subsequent to expense or revenue recognition.
Estimates for items such as future bad debts on receivables often are required to comply with the accrual accounting model.
LO2–5 Record adjusting journal entries in general journal format, post entries, and prepare an adjusted trial balance. (p. 67)
LO2–5 Adjusting entries are recorded in the general journal and posted to the ledger accounts at the end of any period when financial statements must be prepared for external use.
After these entries are posted to the general ledger accounts, an adjusted trial balance is prepared.
LO2–6 Describe the four basic financial statements. (p. 75)
LO2–6 The adjusted trial balance is used to prepare the financial statements. The basic financial statements are:
(1) the income statement,
(2) the statement of comprehensive income,
(3) the balance sheet,
(4) the statement of cash flows, and
(5) the statement of shareholders’ equity.
The purpose of the income statement is to summarize the profit-generating activities of the company that occurred during a particular period of time. A company also must report its other comprehensive income (OCI) or loss items either in a single, continuous statement or in a separate statement of comprehensive income. In the single statement approach, net income is a subtotal within the statement followed by these OCI items, culminating in a final total of comprehensive income. In the two statement approach, a company presents an income statement immediately followed by a statement of comprehensive income.
The statement of comprehensive income begins with net income as the first component followed by OCI items to arrive at comprehensive income.
The balance sheet presents the financial position of the company on a particular date.
The statement of cash flows discloses the events that caused cash to change during the reporting period.
The statement of shareholders’ equity discloses the sources of the changes in the various permanent shareholders’ equity accounts that occurred during the period.
LO2–7 Explain the closing process. (p. 79)
LO2–7 At the end of the fiscal year, a final step in the accounting processing cycle, closing, is required. The closing process serves a dual purpose:
(1) the temporary accounts (revenues and expenses) are reduced to zero balances, ready to measure activity in the upcoming accounting period, and
(2) these temporary account balances are closed (transferred) to retained earnings to reflect the changes that have occurred in that account during the period.
Often, an intermediate step is to close revenues and expenses to income summary; then income summary is closed to retained earnings.
LO2–8 Convert from cash basis net income to accrual basis net income. (p. 83)
LO2–8 Cash basis accounting produces a measure called net operating cash flow. This measure is the difference between cash receipts and cash disbursements during a reporting period from transactions related to providing goods and services to customers.
On the other hand, the accrual accounting model measures an entity’s accomplishments and resource sacrifices during the period, regardless of when cash is received or paid.
Accountants sometimes are called upon to convert cash basis financial statements to accrual basis financial statements, particularly for small businesses.
