Page 130 - Bus101FlipBook

7-10 Accounting [CH 7

Figure 7.4). The arithmetic effect of a debit is a bookkeeping entry that records an
increase in an asset, a decrease in a liability, or a decrease in owners' equity. The
arithmetic effect of a credit indicates a decrease in an asset, an increase in a liability, or
debit an increase in owners' equity. As shown in Figure 7.4, debits are recorded in the left
An increase in an asset, a
decrease in a liability, or a column of a journal or ledger and credits are recorded in the right column.
decrease in owners' equity. The Accounting Equation is used to establish our balance sheets and contain all of
the elements for our accounting system. A typical mapping for accounts is outlined in
credit
A decrease in an asset, an Figure 7.6. Study this structure for would contain the following based on the elements
increase in a liability, or an for the Accounting Equation: Assets equal Liabilities plus Equity.
increase in owners' equity.
Financial Statements

It is from the accounting equation and its various relationships that financial
statements are prepared. Two important statements are developed from this equation:
the balance sheet and the income statement. These two statements reflect the current
financial position of the firm and the most recent analysis of income, expenses, and

profits for interested parties inside and outside the firm. They provide a fundamental
basis for planning activities and are used in attracting new investors, securing
borrowed funds, and preparing tax returns. Most businesses also prepare a statement of
cash flows.

The Balance Sheet
The balance sheet, is a statement of financial position, lists the assets, liabilities,
and owners’ equity as of a particular date. The elements of each listing are structured
in terms of their liquidity.
balance sheet
Statement of a firm's Balance sheets are generally prepared at regular intervals to provide information to
financial position on a management regarding the firm’s financial position. Balance sheets are provided for
particular date. shareholders and investors at least once a year though more typically quarterly.
Figure 7.7 shows the balance sheet for Sierra Quality Canner, a California canner
and marketeer of deciduous fruits. The basic accounting equation is illustrated by the
three classifications on Sierra Quality Canner's balance sheet. The assets total must

equal the total of the firm's liabilities and the owners' equity.

Assets
The typical balance sheet classifies assets on the basis of its liquidity. Liquidity is

that ability to convert an asset into cash in the least amount of time. The categories of
liquidity assets are current assets, working assets, and fixed assets.
Speed at which items can Current assets include cash and those items that can or will be converted to cash or
be converted to cash.
be used within one year. Due to the ease and speed at which they can be converted to
cash and the fact that they may change form several times during a typical year, current
assets are frequently referred to as liquid assets. They are listed in order of their
current assets expected liquidity—the speed at which they can be converted to cash. For Sierra
Cash and other assets that Quality Canner, the current assets include the following:
can or will be converted to
cash or used within one  Cash—($6,000) the most liquid of funds, because it is already cash, are on hand
year. or in bank deposits that can be withdrawn immediately as needed.

 Accounts Receivable—($71,000) credit purchases of inventory for sale by the
firm's customers, generally due within 30 days. In some cases, an allowance is

made for receivables that will not be collectable. As Figure 7.6 illustrates, an
allowance for doubtful accounts is included to notify interested parties of this
possibility.

 Notes Receivable—($22,000) monies owed the company as described by a
written document called a note that specifies the amount of funds owed and

the time and place of repayment; generally for a period of 45 to 180 days.
 Inventory For Sale —($66,000) inventory on hand for sale. For manufacturers,

Learning to Do, Doing to Learn, Earning to Live, Living to Serve
Copyrighted Material