ACTG 201 Fundamentals of Accounting Module PDF

COLLEGE OF BUSINESS & MANAGEMENT UNIT 2 OVERVIEW: Welcome to Unit 2 – ACCOUNTING EQUATION AND THE DOUBLE ENTRY SYSTEM In this Unit, we will discuss business transactions and how they affect the accounting equation. It also discusses accounting elements such as assets, liab...

COLLEGE OF BUSINESS & MANAGEMENT UNIT 2 OVERVIEW: Welcome to Unit 2 – ACCOUNTING EQUATION AND THE DOUBLE ENTRY SYSTEM In this Unit, we will discuss business transactions and how they affect the accounting equation. It also discusses accounting elements such as assets, liabilities, equity, income and expenses as well as the double entry system. UNIT 2 LEARNING OBJECTIVES: By the end of this Unit, the students will be able to: 1. explain the accounting equation. 2. define the elements of financial statements. 3. discuss the effect of business transactions on the accounting equation. 4. explain the rules on debit and credit. 5. identify the typical account titles used in recording transactions. 6. analyze and state the effects of business transactions on an entity’s assets, liabilities and owner’s equity and record these effects in accounting equation form using the financial transaction worksheet. PRE-TEST 1. Give examples of assets of a company. 2. Give examples of liabilities of a company. 3. What is the difference between a debit and a credit in accounting terms? _______________________________________________________________________________ _______________________________________________________________________________ ___________________________________________________. 4. Why is it important to use the double-entry system when recording transactions? _______________________________________________________________________________ _______________________________________________________________________________ ____________________________________________________. ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 1 of 17  COLLEGE OF BUSINESS & MANAGEMENT COURSE CONTENT FOR UNIT 2: THE ACCOUNTING EQUATION The most basic tool in accounting is the accounting equation. This equation presents the resources controlled by the enterprise, the present obligations of the enterprise and the residual interest in the assets. It states that assets must always equal to liabilities and owner’s equity. The basic accounting model is ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 2 of 17  COLLEGE OF BUSINESS & MANAGEMENT ELEMENTS OF FINANCIAL STATEMENTS Asset is a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity. Asset Recognition: Two (2) conditions that must be met in recognizing an asset: 1. It is probable that future economic benefits will flow to the entity. 2. The cost or value of the asset can be measured reliably. Assets are classified as current assets and non-current assets. Per Philippine Accounting Standards (PAS) No. 1, an entity shall classify assets as current when: a. it expects to realize the asset, or intends to sell or consume it, in its normal operating cycle b. it holds the asset primarily for the purpose of trading c. it expects to realize the asset within twelve months after the reporting period; or d. the asset is cash or cash equivalent unless the asset is restricted from being exchanged or used to settle a liability for at least twelve months after the reporting period. ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 3 of 17  COLLEGE OF BUSINESS & MANAGEMENT Current assets include cash, cash equivalents, accounts receivable, notes receivable, inventories, prepaid expenses. Cash and cash equivalents – could either be on hand or in bank Cash on hand – money or cash substitutes representing collection of the company awaiting deposit to the company’s depository bank the following banking day. Cash in bank – money of the company that is in the bank awaiting payment Cash in fund – money placed in a specific fund for a specific purpose. For example: petty cash fund which is a fund intended to pay petty expenses Cash equivalents – refers to short-term investments made by the company with maturity of not more than 3 months. Accounts receivable – customers’ account arising from selling activities; trade account receivable. Notes receivable – collectible of the company supported by a promissory note. Merchandise inventory – merchandise of the company intended for sale in the course of its business operation. Prepaid expenses – advance payment made by the company. Examples: prepaid rent, prepaid advertising, prepaid insurance Non-current assets include property, plant, and equipment (land, building, furniture and fixtures, office equipment, delivery equipment. Land – land owned by the company that is used in business. Building – infrastructure owned by the company that is used in business. Furniture and Fixtures – represents the following : chairs and table, air conditioners, cabinets, electric fans. Office equipment – includes the following: computer, calculator, fax machine, photocopier, telephone units. Delivery equipment – includes transportation equipment ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 4 of 17  COLLEGE OF BUSINESS & MANAGEMENT Liability is a present obligation arising from past events the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits. Liability Recognition: Two (2) conditions that must be met in recognizing a liability 1. It is probable that an outflow of economic benefits will be required for the settlement of a present obligation. 2. The amount of obligation can be measured reliably. Per Philippine Accounting Standards (PAS) No. 1, an entity shall classify a liability as current when: 3. It expects to settle the liability in its normal operating cycle 4. It holds the liability primarily for the purpose of trading 5. The liability is due to be settled within twelve months after the reporting period; or 6. The entity does not have an unconditional right to defer settlement of the liability for at least twelve months after the reporting period. All other liabilities should be classified as non-current liabilities. ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 5 of 17  COLLEGE OF BUSINESS & MANAGEMENT Current liabilities include accounts payable, notes payable, accrued liabilities, unearned revenues, current portion of long-term debt. Accounts payable – represents the liability accounts of the company arising from purchase of merchandise that is intended for sale. Notes payable – liability accounts supported by promissory note issued by the company. Accrued liabilities- amounts owed to others for unpaid expenses. This account includes salaries payable, utilities payable, interest payable, and taxes payable. Unearned revenues – when the business receives payment before providing its customers with goods or services, the amounts received are recorded in the unearned revenue account (liability account) Current portion of long-term debt – portions of mortgage notes, bonds and other long-term indebtedness which are to be paid within one year from the balance sheet date. Non-current liabilities include long-term debt such as mortgage payable, bonds payable Mortgage payable – long-term debt for which the business entity has pledged certain assets as security to the creditor. In the event that the debt payments are not made, the creditor can foreclose the asset. Bonds payable – issued by business organizations to obtain substantial sums of money from lenders to finance the acquisition of equipment and other needed assets. Owner’s Equity ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 6 of 17  COLLEGE OF BUSINESS & MANAGEMENT Components of a Capital Account: Investment – resources that the owner has transferred to his business as a start up or additional capital - can be in the form of cash or tangible assets - will increase capital Withdrawal – temporary withdrawal of the owner, whether cash or any other assets of the company for personal use. - will decrease capital X, Capital – refers to the capital account of the owner - the letter X represents the name of the owner X, Withdrawal – refers to the withdrawal made by the owner - the letter X represents the name of the owner Revenues – increase in economic benefit during the accounting period in the form of inflow or increase in assets or decrease in liability - will increase capital. Revenue accounts Service income – used for companies which render services in order to earn income Interest income – company income earned out of lending its money or depositing money with a banking institution. Sales – revenue account for merchandising type of business organization that is used in selling merchandise. Sales discount –cash discount given to customers for settling their accounts on time. Sales returns – actual returns made by the customers due to wrong delivery, wrong shipment, or defective merchandise. Sales allowances – represent no actual returns but to an allowance given for the defective merchandise delivered. Expenses - decrease in economic benefit during the accounting period in the form of outflow or decrease in assets or increase in liability that results in decrease in equity, other than distribution to equity participants. ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 7 of 17  COLLEGE OF BUSINESS & MANAGEMENT Purchases – merchandise purchases which are intended for sale. Purchase discount – discount given by merchandisers when one pays his liabilities on time. Purchase returns - actual returns made by the customers due to wrong delivery, wrong shipment, or defective merchandise. Salaries and wages – represent the labor payments to employees of the company. Employee benefits – represent payment to employees other than the basic payment that are highly discretionary on the part of the employer. Office supplies expense – represents various office supplies used by the office. Utilities expense – arises from light, water, and telephone expense. Rent expense – rental expenses of the business. Advertising expense – cost of promotion and advertising of the products of the business. Insurance expense -represents with fire and burglary insurance of the business. THE DOUBLE ENTRY SYSTEM Accounting is based on a double-entry system which means that the dual effects of a business transaction is recorded. A debit side entry must have a corresponding credit side entry. Each transaction affects at least two accounts. The total debits for a transaction must always equal the total credits. An account is debited when it is entered on the left side of the account and credited when an amount is entered on the right side. The abbreviation for debit is Dr. (from the Latin debere) and credit Cr. (from the Latin credere) NORMAL BALANCE OF ACCOUNT Refers to the side of the account – either debit or credit – WHERE INCREASES ARE RECORDED. Assets, Owner’s Withdrawal and Expense accounts normally have DEBIT BALANCES. Liability, Owner’s Equity, and Income accounts normally have CREDIT BALANCES. ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 8 of 17  COLLEGE OF BUSINESS & MANAGEMENT On matters of analyzing a transaction whether the account will increase or decrease: ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 9 of 17  COLLEGE OF BUSINESS & MANAGEMENT Basic rule when to debit and when to credit : Debit Credit Assets, Withdrawals ,Expenses Increase Decrease Liabilities, Revenues, Capital Decrease Increase Transactions and their Effects on the Accounting Equation Business transactions or events may result in changes in the values of the basic elements of the accounting equation. The following problem will illustrate the effects of business transactions on the basic accounting equation. This is presented in a tabular form. 1. Maria Reyes opened a business enterprise “Reyes Laundry Services” with an investment of P200,000. ASSETS = LIABILITIES + OWNER'S EQUITY Cash Maria Reyes, Capital 200,000 = 0 + 200,000 Analysis: Increase in asset = Increase in owner's equity 2. Maria Reyes invested an additional amount of P30,000 cash. ASSETS = LIABILITIES + OWNER'S EQUITY Cash Maria Reyes, Capital 200,000 = 0 + 200,000 30,000 = 30,000 230,000 = 0 + 230,000 Analysis: Increase in asset = Increase in owner's equity ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 10 of 17  COLLEGE OF BUSINESS & MANAGEMENT 3. Purchased laundry equipment on cash basis worth P100,000. ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment Maria Reyes, Capital 230,000 = 0 + 230,000 (100,000) + 100,000 = 130,000 100,000 = 0 + 230,000 Analysis: Increase in one asset = Decrease in another form of asset 4. Purchased supplies on account P4,000. ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable Maria Reyes, Capital 130,000 + 100,000 = 0 + 230,000 4,000 = 4,000 = 130,000 + 100,000 + 4,000 = 4,000 + 230,000 Analysis: Increase in asset = Increase in liability 5. Received P25,000 for laundry services rendered to customers. ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable Maria Reyes, Capital 130,000 + 100,000 + 4,000 = 4,000 + 230,000 25,000 25,000 = 155,000 + 100,000 + 4,000 = 4,000 + 255,000 Analysis: Increase in asset = Increase in owner's equity ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 11 of 17  COLLEGE OF BUSINESS & MANAGEMENT 6. Paid electricity for P10,000 ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable Maria Reyes, Capital 155,000 + 100,000 + 4,000 = 4,000 + 255,000 (10,000) (10,000) = 145,000 + 100,000 + 4,000 = 4,000 + 245,000 Analysis: Decrease in asset = Decrease in owner's equity 7. Paid 50% of the liability. ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable Maria Reyes, Capital 145,000 + 100,000 + 4,000 = 4,000 + 245,000 (2,000) (2,000) = 143,000 + 100,000 + 4,000 = 2,000 + 245,000 Analysis: Decrease in asset = Decrease in liability 8. Withdrew cash for personal use amounting to P10,000 ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable Maria Reyes, Capital 143,000 + 100,000 + 4,000 = 2,000 + 245,000 (10,000) (10,000) = 133,000 + 100,000 + 4,000 = 2,000 + 235,000 Analysis: Decrease in asset = Decrease in owner's equity ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 12 of 17  COLLEGE OF BUSINESS & MANAGEMENT 9. Issued promissory note for the remaining liability on account. ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable + Notes Payable + Maria Reyes, Capital 133,000 + 100,000 + 4,000 = 2,000 + + 235,000 = (2,000) 2,000 133,000 + 100,000 + 4,000 = - + 2,000 + 235,000 Analysis: Increase in one liability = Decrease in another liability Expanded Accounting Equation In order to determine the factors that resulted to the increase or decrease in owner’s equity, the detailed composition of the owner’s equity section of the accounting equation should be shown. Take note that the capital account is affected by the following: Original capital investment increases owner’s equity Additional investment increases owner’s equity Revenue or income increases owner’s equity Expenses decreases owner’s equity Withdrawal decreases owner’s equity The original accounting equation of Assets= Liabilities + Owner’s Equity may be expanded to include the detailed composition of owner’s equity. Thus, Assets= Liabilities + ( Original Investment + Additional Investment + (Income- Expenses) – Withdrawals) ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 13 of 17  COLLEGE OF BUSINESS & MANAGEMENT The Summary of the effects of business transactions in the expanded accounting equation of Reyes Laundry Services is presented in tabular form as follows: ASSETS = LIABILITIES + OWNER'S EQUITY Laundry Cash + Equipment + Supplies Accounts Payable + Notes Payable + Maria Reyes, Capital 1. 200,000 = 0 + 200,000 Original Investment 2. 30,000 = 30,000 Additional Investment 230,000 = 0 + 230,000 3. (100,000) + 100,000 = 130,000 100,000 = 0 + 230,000 4. 4,000 = 4,000 130,000 + 100,000 + 4,000 = 4,000 + 230,000 5. 25,000 25,000 Service revenue 155,000 + 100,000 + 4,000 = 4,000 + 255,000 6. (10,000) (10,000) Utilities expense 145,000 + 100,000 + 4,000 = 4,000 + 245,000 7. (2,000) (2,000) 143,000 + 100,000 + 4,000 = 2,000 + 245,000 8. (10,000) (10,000) Withdrawal 133,000 + 100,000 + 4,000 = 2,000 + 235,000 9. = (2,000) 2,000 133,000 + 100,000 + 4,000 = - + 2,000 + 235,000 Total Assets 237,000 = Total Liabilities & Owner's Equity 237,000 Activity 2-1 Financial Transaction Worksheet On March 1, 2024, Bonnie Sanchez established Sanchez Catering Service. Transactions completed during the month are as follows: 1. Sanchez deposited P165,000 in the bank account in the name of the business. 2. Bought service vehicle from XX Motors for P194,900 paying P25,000 in cash and placing the balance on account. 3. Bought catering equipment on account from YY Equipment, P28,500. 4. Paid rent for the month 6,200. 2,000 5. Rendered catering service for cash for the first half of the month, P24,200. 2,000 6. Bought supplies for cash, P1,800. 7. Bought insurance for the service vehicle for one year, P4,000. 8. Received and paid the utilities bill, P6,040. 9. Received bill from Iloilo Gas for gas and oil used by the service vehicle for the month, P6,080. 10. Rendered catering services on account, P28,240. 11. Performed catering services for cash for the remainder of the month, P25,200. 12. Paid salaries of the part-time assistants, P11,200. 13. Sanchez withdrew cash for personal use, P15,500. ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 14 of 17  COLLEGE OF BUSINESS & MANAGEMENT Required: Record the transaction for the month of March 2024 using a financial transaction worksheet. Use the format below. If the owner’s equity account is affected by a transaction, identify it as revenue, expense, investment or withdrawal. Activity 2-2 Comprehensive Problem Joy’s Tour Guiding Company has the following account balances on December 1, 2024: Cash, P5,000; Accounts Receivable, P2,000; Prepaid Rent P1,500; Supplies, P850; Equipment, P6,000; Trucks, P15,000; Accounts Payable, P2,500; Joy, Capital, P27,850. Required: Record the transactions for the month of December using a financial transaction worksheet (hint: enter the beginning balances first). If the owner’s equity account is affected by a transaction, identify it as revenue, expense, investment or withdrawal. 1. Joy Company received cash from clients for services, P4,500 2. Joy paid to creditors P500. 3. Paid office rent for the month of December, P750. 4. Joy Company billed client for tour guiding services on account, P5,200 5. Supplies were purchased on account, P650, 6. Joy Company received cash from clients billed previously, P6,000 7. Joy received an invoice for office equipment repair services from Office Extra for December (the invoice will be paid next month), P850, 8. Joy paid monthly salaries, P2,700, 9. Utilities expense were paid, P280, 10. Miscellaneous expense were paid, P350, 11. Joy withdrew cash for personal use, P550. 12. What is the ending balance of cash for Joy Company? 13. What is the ending balance of Joy,Capital account? 14. What is the ending balance of accounts payable? 15. What is the ending balance of total assets of Joy Company? 16. What is the balance of total liabilities & owner’s equity of Joy Company? ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 15 of 17  COLLEGE OF BUSINESS & MANAGEMENT REFERENCES: Aliling, Leonardo E. (2013). Fundamentals of basic accounting. Quezon City: Rex Printing Company, Inc. Ballada, Win Lu, Susan Ballada (2019). Basic financial accounting & reporting. Manila, Philippines: Made Easy & Domdane Publisher. Cabrera, Ma. Elenita B., Cabrera, Gilbert Anthony B. (2019) Financial accounting and reporting fundamentals.. Manila, Philippines: GIC Enterprises & Co., Inc. Cabrera, Ma. Elenita B. (2018). Financial accounting and reporting -comprehensive edition. Printed Learning Resources Manila, Philippines: GIC Enterprises & Co. Inc. Mroczkwowski, Nicholas, David Flanders. (2015). Accounting basic reports. 10th ed. Australia: Cengage Learning Australia. Valix, Conrado T., Christian Aris M. Valix. (2017). Theory of accounts. Manila, Philippines: GIC Enterprises & Co. Weygandt, Jerry J., Paul D. Kimmek Donald E. Kieso. (2016) Accounting principles. International Student Version. 12th ed. Hoboken, NJ: John Wiley & Sons. Wild, John, et al. (2015) Principles of accounting. International edition. New York: Mc Graw Hill. Basic Accounting Equation – Assets. Retrieved from https://www.youtube.com/watch?v=vKRz4krHrww Basic Accounting Equation – Liabilities. Retrieved from https://www.youtube.com/watch?v=K3dR8Kc3bd0 Basic Accounting: Debits & Credits. Retrieved from https://www.youtube.com/watch?v=5CUCojBKuBo Web and other Learning Resources https://www.youtube.com/watch?v=UjTHkywTlTs Financial Transaction Worksheet (Part 1). Retrieved from https://www.youtube.com/watch?v=fQ0P17eUR9M&t=6s Financial Transaction Worksheet (Part 2). Retrieved from https://www.youtube.com/watch?v=E50Tj5s6LIc&t=4s ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 16 of 17  COLLEGE OF BUSINESS & MANAGEMENT Complete Accounting Cycle for Sole Proprietor. Retrieved from https://www.youtube.com/watch?v=bnRY3c_KFrA ProfAlldredge (2016). Financial Accounting for Sole Proprietorships. Retrieved from https://www.youtube.com/playlist?list=PL8Sg4W1XyHvCrL MHxYeZsXBmv7DYpRzVC Christy Lynch (2016). Journal Entries of Sole Proprietorship. Retrieved from https://www.youtube.com/watch?v=KWna4QjBf7A ACTG 201 (Fundamentals of Accounting) | College of Business & Management | West Visayas State University, Iloilo City, 5000, Philippines Page 17 of 17