Chapter 2 Solutions Suggested - Chapter 2 Review of the...

Question 2-1
External events involve an exchange transaction between the company and a separate
economic entity. For every external transaction, the company is receiving something in exchange
for something else. Internal events do not involve an exchange transaction but do affect the
financial position of the company. Examples of external events are the purchase of inventory, a sale
to a customer, and the borrowing of cash from a bank. Examples of internal events include the
recording of depreciation expense, the expiration of prepaid rent, and the accrual of salary expense.
Question 2-2
According to the accounting equation, there is equality between the total economic resources
of an entity, its assets, and the claims to those resources, liabilities and equity. This implies that,
since resources must always equal claims, the net effect of any transaction cannot affect one side of
the accounting equation differently than the other side.
Question 2-3
The purpose of a journal is to capture, in chronological order, the dual effect of a transaction.
A general ledger is a collection of storage areas called accounts. These accounts keep track of the
increases and decreases in each element of financial position.
Question 2-4
Permanent accounts represent the financial position of a company, assets, liabilities and
owners' equity, at a particular point in time. Temporary accounts represent the changes in
shareholders’ equity, the retained earnings component of equity for a corporation, caused by
revenue, expense, gain and loss transactions. It would be cumbersome to record revenue/expense,
gain/loss transactions directly into the permanent retained earnings account. Recording these
transactions in temporary accounts facilitates the preparation of the financial statements.
Question 2-5
Assets are increased by debits and decreased by credits. Liabilities and equity accounts are
increased by credits and decreased by debits.
Question 2-6
Revenues and gains are increased by credits and decreased by debits. Expenses and losses are
increased by debits (thus causing owners’ equity to decrease) and decreased by credits (thus causing
owners’ equity to increase).
Chapter 2
Review of the Accounting Process
QUESTIONS FOR REVIEW OF KEY TOPICS

Answers to Questions (continued)
Question 2-7
The first step in the processing cycle is to identify external transactions affecting the
accounting equation. Source documents, such as sales invoices, bills from suppliers and cash
register tapes, help to identify the transactions and then provide the information necessary to process
the transaction.
Question 2-8
Transaction analysis is the process of reviewing the source documents to determine the dual
effect on the accounting equation and the specific elements involved.