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Unformatted text preview: Chapter 02 - Review of the Accounting Process Chapter 2 Review of the Accounting Process QUESTIONS FOR REVIEW OF KEY TOPICS 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). 2-1 Chapter 02 - Review of the Accounting Process 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....
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- Spring '08