Analyzing and Recording

Transactions
Chapter 2

Wild and Shaw

Fundamental Accounting Principles
25th Edition

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 Chapter 2 Learning Objectives
CONCEPTUAL

C1 Describe an account and its use in recording transactions.

C2 Define debits and credits and explain double-entry accounting.

ANALYTICAL

A1 Analyze and record transactions and their impact on financial statements.

A2 Compute the debt ratio and describe its use in analyzing financial condition.

PROCEDURAL

P1 Prepare financial statements from a trial balance.

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 Learning Objective C1

Describe an account and its

use in recording transactions.

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 Basis of Financial Statements
Business transactions and events are the starting points of financial statements.
The process from transactions to financial statements is as follows:
• Identify transaction and event from source documents.
• Analyze transaction and event using the accounting equation.
• Record relevant transactions and events in a journal.
• Post journal information to ledger accounts.
• Prepare and analyze trial balance and financial statements.

Learning Objective C1: Describe an account and its use in recording transactions.
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 Source Documents
Source documents identify and describe transactions entering the
accounting system.
Examples:
• Bills from suppliers
• Sales receipts
• Checks
• Purchase orders
• Payroll records
• Bank statements

Learning Objective C1: Describe an account and its use in recording transactions.
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 The Account Underlying Financial
Statements

An account is a
record of increases The general ledger is
and decreases in a a record of all
specific asset, accounts and their
liability, equity, balances.
revenue, or expense.

Learning Objective C1: Describe an account and its use in recording transactions.
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 The Account and Its Analysis
Exhibit
2.1

Learning Objective C1: Describe an account and its use in recording transactions.
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 Asset Accounts
Cash
Accounts
Land
Receivable

Asset
Buildings Notes
Accounts Receivable

Equipment Prepaid
Supplies Accounts

Learning Objective C1: Describe an account and its use in recording transactions.
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 Liability Accounts

Accounts Payable Notes Payable

Liability
Accounts

Accrued Liabilities Unearned Revenue

Learning Objective C1: Describe an account and its use in recording transactions.
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 Equity Accounts

+ −
Owner, Capital Owner, Withdrawals

Equity
Accounts

+ −
Revenues Expenses

Learning Objective C1: Describe an account and its use in recording transactions.
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 Expanded Equity
Revenues and common stock increases equity.
Expenses and dividends decrease equity.

Exhibit
2.2

Learning Objective C1: Describe an account and its use in recording transactions.
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 Ledger and Chart of Accounts
The ledger is a collection of all accounts and their
balances for an accounting system. A company’s
size and diversity of operations affect the number
of accounts needed.

The chart of accounts is a list of all accounts and

Exhibit
includes an identifying number for each account. 2.4

Learning Objective C1: Describe an account and its use in recording transactions.
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 Learning Objective C2

Define debits and credits and

explain double-entry
accounting.

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 Debits and Credits
A T-account represents a ledger account and is used to
show the effects of transactions.

Account Title Exhibit

2.5
(Left side) (Right side)
Debit Credit

Learning Objective C2: Define debits and credits and explain double-entry accounting.
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 Double-Entry Accounting
Assets = Liabilities + Equity

Exhibit
2.6

Learning Objective C2: Define debits and credits and explain double-entry accounting.
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 Double-Entry Accounting:
Expanded Accounting Equation
Here is the expanded accounting equation showing the equity
section.
Exhibit
2.7

Learning Objective C2: Define debits and credits and explain double-entry accounting.
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 Double-Entry Accounting:
Account Balance
An account balance is the difference between the increases and
decreases in an account. Notice the T-Account.
Exhibit
2.8

Learning Objective C2: Define debits and credits and explain double-entry accounting.
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 Learning Objective A1

Analyze and record

transactions and their impact
on financial statements.

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 Journalizing and Posting Transactions
Exhibit
2.9

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Journalizing Transactions
a. Transaction b. Title of accounts debited and Exhibit
Date amount entered in Debit 2.10
column.

c. Title of accounts credited and

d. Transaction amount entered in Credit
explanation column.
Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Balance Column Account
Exhibit
2.11

T-accounts are useful illustrations, but balance column

accounts are used in practice.

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Posting Journal Entries
Exhibit
2.12

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions
Double-entry accounting is useful in analyzing and processing
transactions. Analysis of each transaction follows these four
steps.

Step 1 Identify transactions and source documents.

Step 2 Analyze the transaction using the accounting equation.
Step 3 Record the journal entry.
Step 4 Post the entry (for simplicity, we use T-accounts as ledger
accounts).

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 1

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 2

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 3

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 4

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 5

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 6

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 7

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 8

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 9

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 10

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 11

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 12

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 13

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 14

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 15

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Processing Transactions 16

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Summarizing Transactions in a Ledger
Exhibit
2.13

Learning Objective A1: Analyze and record transactions and their impact on financial statements.
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 Learning Objective P1

Prepare financial statements

from a trial balance.

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 Preparing a Trial Balance
Preparing a trial balance has three steps:
1. List each account title and its amount (from ledger) in the
trial balance.
2. Compute the total of debit balances and the total of credit
balances.
3. Verify (prove) total debit balances equal total credit
balances.

Learning Objective P1: Prepare financial statements from a trial balance.

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 FastForward’s Trial Balance
FASTFORWARD
Trial Balance
Exhibit December 31,
2.14 2021 The trial balance
Debit Credit lists all ledger
Cash . . . . . . . . . . . . . . . . . . . . . . . . $ 4,275 accounts and their
Accounts receivable . . . . . . . . . . .
Supplies . . . . . . . . . . . . . . . . . . . . .
0
9,720
balances at a point
Prepaid insurance . . . . . . . . . . . . . 2,400 in time. If the
Equipment . . . . . . . . . . . . . . . . . . . 26,000 books are in
Accounts payable . . . . . . . . . . . . .
Unearned consulting revenue . . .
$ 6,200
3,000
balance, the total
C. Taylor, Capital . . . . . . . . . . . . . . 30,000 debits will equal
C. Taylor, Withdrawals . . . . . . . . . . 200 the total credits.
Consulting revenue . . . . . . . . . . . . 5,800
Rental revenue . . . . . . . . . . . . . . . . 300
Salaries expense . . . . . . . . . . . . . . 1,400
Rent expense . . . . . . . . . . . . . . . . . 1,000
Utilities expense . . . . . . . . . . . . . . 305
Totals . . . . . . . . . . . . . . . . . . . . . . . $45,300 $45,300

Learning Objective P1: Prepare financial statements from a trial balance.

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 Searching for Errors
If the trial balance does not balance, the error(s) must be
found and corrected.
 Verify the trial balance  Recompute each account
columns are correctly added. balance in the ledger.

 Verify account balances are  Verify that each journal

correctly entered from the entry is posted correctly.
ledger.
 See if debit or credit  Verify that each original
accounts are mistakenly journal entry has equal debits
placed on the trial balance. and credits.
Learning Objective P1: Prepare financial statements from a trial balance.
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 Financial Statements Prepared
from Trial Balance
Exhibit
2.15

Learning Objective P1: Prepare financial statements from a trial balance.

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 Financial Statements
The four financial statements and their purposes are:
1. Income statement—reports revenues less expenses incurred by a
business over a period of time.
2. Statement of owner’s equity—reports changes in equity over the
reporting period from net income (or loss) and from any owner
investments or withdrawals over a period of time.
3. Balance sheet—reports the financial position (types and amounts of
assets, liabilities, and equity) at a point in time.
4. Statement of Cash Flows—lists the cash inflows and cash outflows
for the period.
**For simplicity, we do not show the statement of cash flows for FastForward in this
chapter, but we do return to this statement in the next chapter.**

Learning Objective P1: Prepare financial statements from a trial balance.

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 Income Statement
FASTFORWARD Exhibit
Income Statement 2.16
For Month Ended December 31, 2021
Revenues
Consulting revenue ($4,200 + $1,600). . . $5,800
Rental revenue. . . . . . . . . . . . . . . . . . . . . . 300
Total revenues. . . . . . . . . . . . . . . . . . . . . . . $ 6,100
Expenses
Salaries expense. . . . . . . . . . . . . . . . . . . . 1,400
Rent expense. . . . . . . . . . . . . . . . . . . . . . . 1,000
Utilities expense. . . . . . . . . . . . . . . . . . . . 305
Total expenses. . . . . . . . . . . . . . . . . . . . . . 2,705
Net income. . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,395

Learning Objective P1: Prepare financial statements from a trial balance.

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 Statement of Owner’s Equity
FASTFORWARD
Income Statement
Exhibit
For Month Ended December 31, 2021 2.16
Revenues
Consulting revenue ($4,200 + $1,600). . . $5,800
Rental revenue. . . . . . . . . . . . . . . . . . . . . . 300
Total revenues. . . . . . . . . . . . . . . . . . . . . . . $ 6,100
Expenses
Salaries expense. . . . . . . . . . . . . . . . . . . . 1,400
Rent expense. . . . . . . . . . . . . . . . . . . . . . . 1,000
Utilities expense. . . . . . . . . . . . . . . . . . . . 305
Total expenses. . . . . . . . . . . . . . . . . . . . . . 2,705
Net income. . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,395

FASTFORWARD
Statement of Owner’s Equity
For Month Ended December 31, 2021

C. Taylor, Capital, December 1, 2021 . . . . . . . . . . . . . . . . $ 0

Plus: Investments by owner . . . . . . . . . . . . . . . . . . . . . . $30,000
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,395 33,395
33,395
Less: Withdrawals by owner . . . . . . . . . . . . . . . . . . . . . 200
C. Taylor, Capital, December 31, 2021 . . . . . . . . . . . . . $33,195

Learning Objective P1: Prepare financial statements from a trial balance.

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 Balance Sheet
FASTFORWARD Exhibit
Statement of Owner’s Equity
For Month Ended December 31, 2021
2.16
C. Taylor, Capital, December 1, 2021 . . . . . . . . . . . . . $ 0
Plus: Investments by owner . . . . . . . . . . . . . . . . . . . . $30,000
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,395 33,395
33,395
Less: Withdrawals by owner . . . . . . . . . . . . . . . . . . . . 200
C. Taylor, Capital, December 31, 2021 . . . . . . . . . . . . $33,195

FASTFORWARD
Balance Sheet
December 31, 2021
Assets Liabilities
Cash . . . . . . . . . . . . . . . . $ 4,275 Accounts payable . . . . . . . . . . . . . $ 6,200
Supplies . . . . . . . . . . . . . 9,720 Unearned consulting revenue . . . 3,000
Prepaid insurance. . . . . . 2,400 Total liabilities . . . . . . . . . . . . . . . . 9,200
Equipment . . . . . . . . . . . 26,000 Equity
C. Taylor, Capital . . . . . . . . . . . . . . 33,195
Total assets $42,395 Total liabilities and equity . . . . . . . $42,395

Learning Objective P1: Prepare financial statements from a trial balance.

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 Presentation Issues
1. Dollar signs are not used in journals and ledgers.
2. Dollar signs appear in financial statements and other
reports such as trial balances.
3. Put dollar signs beside only the first and last
numbers in a column.

Learning Objective P1: Prepare financial statements from a trial balance.

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 Learning Objective A2

Compute the debt ratio and

describe its use in analyzing
financial condition.

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 Debt Ratio - Equation
Total Liabilities
Debt Ratio 
Total assets

Evaluates the level of debt risk.

A higher ratio indicates that there is a

greater probability that a company will
not be able to pay its debt in the future.

Learning Objective A2: Compute the debt ratio and describe its use in analyzing financial condition.
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 Debt Ratio - Computation
Total Liabilities
Debt Ratio 
Total assets
Exhibit
2.18

Company ($ millions) Current Year 1 Year Ago 2 Years Ago

Costco Total liabilities……… $29,816 $27,727 $25,268
Total assets………….. $45,400 $40,830 $36,347
Debt ratio……………. 0.66 0.68 0.70
Walmart Debt ratio…………….. 0.64 0.60 0.59

Learning Objective A2: Compute the debt ratio and describe its use in analyzing financial condition.
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 End of Chapter 2

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