LO1 – Describe asset, liability, and equity accounts, identifying the effect of debits and credits on each.
Assets are resources that have future economic benefits such as cash, receivables, prepaids, and machinery. Increases in assets are recorded as debits and decreases as credits. Liabilities represent an obligation to pay an asset in the future and include payables and unearned revenues. Inrceases in liabilities are recorded as credits and decreases as debits. Equity represents the net assets owned by the owners and includes share capital, dividends, revenues, and expenses. Increases in equity, caused by the issuance of shares and revenues, are recorded as credits, and decreases in equity, caused by dividends and expenses, are recorded as debits. The following summary can be used to show how debits and credits impact the types of accounts.
LO2 – Analyze transactions using double-entry accounting.
Double-entry accounting requires that each transaction be recorded in at least two accounts where the total debits always equal the total credits. The double-entry accounting rule is rooted in the accounting equation: Assets = Liabilities + Equity.
LO3 – Prepare a trial balance and explain its use.
To help prove the accounting equation is in balance, a trial balance is prepared. The trial balance is an internal document that lists all the account balances at a point in time. The total debits must equal total credits on the trial balance. The trial balance is used in the preparation of financial statements.
LO4 – Record transactions in a general journal and post in a general ledger.
The recording of financial transactions was introduced in this chapter using T-accounts, an illustrative tool. A business actually records transactions in a general journal, a document which chronologically lists each debit and credit journal entry. To summarize the debit and credit entries by account, the entries in the general journal are posted (or transferred) to the general ledger. The account balances in the general ledger are used to prepare the trial balance.
LO5 – Define the accounting cycle.
Analyzing transactions, journalizing them in the general journal, posting from the general journal into the general ledger, preparing the trial balance, and generating financial statements are steps followed each accounting period. These steps form the core of the accounting cycle. Additional steps involved in the accounting cycle will be introduced in Chapter 3.