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Unformatted text preview: Chapter 3 - Common Transactions and Their Impact on the Financial Statements Learning Objectives: After studying Chapter 3, you should Understand the concept of double-entry bookkeeping Know how to account for the common transactions covered in this chapter Understand how to prepare basic financial statements Understand how accrual accounting is applied in the accounting records Companies have many of the same types of transactions and in this course, we are going to look at how to account for these common transactions and the impact they have on the financial statements. The first transaction a corporation typically has is selling its stock to those who will become owners, or stockholders. For example, assume that potential stockholders of a corporation agree to pay a total of $20,000 to buy corporate stock. To record this transaction, the account common stock on the Balance Sheet is increased by $20,000. Recall that in double-entry bookkeeping, there is always a need for at least two entries. In this case the other side of this entry is to increase cash by $20,000. The Balance Sheet is still in balance because we have $20,000 in assets (cash) and $20,000 in stockholders equity (common stock). Income Statement Balance Sheet Accounts Accounts Notes Common Cash Payable Stock Revenue Expenses Transaction #1 $20,000 $20,000 Assume now that the company decides to borrow $10,000 from the bank. For accounting purposes, this loan is called a note payable . Now the company has a liability (a debt) called note payable of $10,000 on its Balance Sheet, and cash has increased again, now to $30,000. The Balance Sheet is still in balance with total assets (cash) of $30,000, and liabilities of $10,000 plus stockholders equity of $20,000. Nothing has impacted the Income Statement yetboth of these transactions were recorded only the Balance Sheet. To keep things simple in this example, we are assuming there is no interest on the loan. In actuality, you can assume there would always be interest, and we will deal with that fact of life in our in-class examples. Income Statement Ba lance Sheet Accoun ts Accounts Notes Common Cash Payable Stock Revenue Expenses Transaction #1 $20,000 $20,000 Transaction #2 $10,000 $10,000 Now assume that the company, a lawn maintenance company, earns and receives $5,000 for work completed. This is revenue to the company because it is an amount the company earned by doing what it is in business to do, and revenue is shown on the Income Statement. The other side of this entry is to increase cash again. Notice that after recording this entry, the Balance Sheet by itself is no longer in balance. Revenue was increased but it is an Income Statement account and the only account that was increased on the Balance Sheet was cash. This is correct. The Balance Sheet will not come into balance again until the end of the period when we prepare financial statements....
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- Fall '08