3-1

3 The Accounting Information

System

Kimmel ● Weygandt ● Kieso

Financial Accounting, Eighth Edition
3-2
 CHAPTER OUTLINE
LEARNING OBJECTIVES
Analyze the effect of business transactions on the basic
1 accounting equation.

Explain how accounts, debits, and credits are used to

2 record business transactions.

3 Indicate how a journal is used in the recording process.

Explain how a ledger and posting help in the recording

4 process.

5 Prepare a trial balance.

3-3
 Analyze the effect of business transactions on
LEARNING
OBJECTIVE 1 the basic accounting equation.

Accounting Information System

System of
► collecting and

► processing transaction data and

► communicating financial information to decision-makers.

3-4 LO 1
 Accounting Information System

Accounting information systems rely on a process referred

to as the accounting cycle.

Analyze
Trial Adjusting
business Journalize Post
transactions
Balance Entries

Adjusted
Financial Closing Post-Closing
Trial
Statements Entries Trial Balance
Balance

Most businesses use computerized accounting systems.

3-5 LO 1
 ACCOUNTING TRANSACTIONS

Transactions are economic events that require recording in

the financial statements.
 Not all activities represent transactions.

 Assets, liabilities, or stockholders’ equity items change

as a result of some economic event.

 Dual effect on the accounting equation.

3-6 LO 1
 ACCOUNTING TRANSACTIONS

Question: Are the following events recorded in Illustration 3-1

Transaction
the accounting records? identification process

Discuss guided trip

Purchase
Event options with potential Pay rent
computer
customer

Criterion Is the financial position (assets, liabilities, or

stockholders’ equity) of the company changed?

Record/ Don’t
Record

3-7 LO 1
 ANALYZING TRANSACTIONS

The process of identifying the specific effects of economic

events on the accounting equation.

Basic Accounting Equation

Stockholders’
Assets = Liabilities + Equity

3-8 LO 1
 ANALYZING TRANSACTIONS

Illustration 3-2
Expanded accounting equation

3-9 LO 1
 ANALYZING TRANSACTIONS
Event (1). On October 1, cash of $10,000 is invested in Sierra Corporation
by investors in exchange for $10,000 of common stock.

1. +10,000 +10,000

3-10 LO 1
 ANALYZING TRANSACTIONS
Event (2). On October 1, Sierra borrowed $5,000 from Castle Bank by
signing a 3-month, 12%, $5,000 note payable.

1. +10,000 +10,000
2. +5,000 +5,000

3-11 LO 1
 ANALYZING TRANSACTIONS
Event (3). On October 2, Sierra purchased equipment by paying $5,000
cash to Superior Equipment Sales Co.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000

3-12 LO 1
 ANALYZING TRANSACTIONS
Event (4). On October 2, Sierra received a $1,200 cash advance from R.
Knox, a client.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200

3-13 LO 1
 ANALYZING TRANSACTIONS
Event (5). On October 3, Sierra received $10,000 in cash from Copa
Company for guide services performed.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000

3-14 LO 1
 ANALYZING TRANSACTIONS
Event (6). On October 3, Sierra Corporation paid its office rent for the
month of October in cash, $900.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900

3-15 LO 1
 ANALYZING TRANSACTIONS
Event (7). On October 4, Sierra paid $600 for a one-year insurance policy
that will expire next year on September 30.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600

3-16 LO 1
 ANALYZING TRANSACTIONS
Event (8). On October 5, Sierra purchased an estimated three months of
supplies on account from Aero Supply for $2,500.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500

3-17 LO 1
 ANALYZING TRANSACTIONS
Event (9). On October 9, Sierra hired four new employees to begin work
on October 15.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500

An accounting transaction has not occurred.

3-18 LO 1
 ANALYZING TRANSACTIONS
Event (10). On October 20, Sierra paid a $500 dividend.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500
10. -500 -500

3-19 LO 1
 ANALYZING TRANSACTIONS
Event (11). Employees have worked two weeks, earning $4,000 in
salaries, which were paid on October 26.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500
10. -500 -500
11. -4,000 -4,000

3-20 LO 1
 INVESTOR INSIGHT
Why Accuracy Matters
While most companies record transactions very carefully, the reality is that
mistakes still happen. For example, bank regulators fi ned Bank One
Corporation (now JPMorgan Chase) $1.8 million because they felt that the
unreliability of the bank’s accounting system caused it to violate regulatory
requirements. Also, in recent years Fannie Mae, the government chartered
mortgage association, announced a series of large accounting errors. These
announcements caused alarm among investors, regulators, and politicians
because they feared that the errors might suggest larger, undetected problems.
This was important because the home-mortgage market depends on Fannie
Mae to buy hundreds of billions of dollars of mortgages each year from banks,
thus enabling the banks to issue new mortgages. Finally, before a major
overhaul of its accounting system, the financial records of Waste Management
Company were in such disarray that of the company’s 57,000 employees,
10,000 were receiving pay slips that were in error. The Sarbanes-Oxley Act was
created to minimize the occurrence of errors like these by increasing every
employee’s responsibility for accurate financial reporting.
3-21 LO 1
 DO IT! 1 Transaction Analysis

A tabular analysis of the transactions for the month of August is

shown below. Describe each transaction.

1. Company issued shares of stock for $25,000 cash.

2. Company purchased $7,000 of equipment on account.
3. Company received $8,000 cash in exchange for services performed.
4. Company paid $850 for this month’s rent.
3-22 LO 1
 Explain how accounts, debits, and credits are
LEARNING
OBJECTIVE 2 used to record business transactions.

Debit and Credit Procedures

Double-entry system

 Each transaction must affect two or more accounts to

keep the basic accounting equation in balance.

 Recording done by debiting at least one account and

crediting another.

 DEBITS must equal CREDITS.

3-23 LO 2
 DEBIT AND CREDIT PROCEDURES

If Debits are greater than Credits, the account will have a

debit balance.

Account Name
Debit / Dr. Credit / Cr.

Transaction #1 $10,000 $3,000 Transaction #2

Transaction #3 8,000

Balance $15,000

3-24 LO 2
 DEBIT AND CREDIT PROCEDURES

If Credits are greater than Debits, the account will have a

Credit balance.

Account Name
Debit / Dr. Credit / Cr.

Transaction #1 $10,000 $3,000 Transaction #2

8,000 Transaction #3

Balance $1,000

3-25 LO 2
 Procedures for Assets and Liabilities

Assets  Assets - Debits should exceed

Debit / Dr. Credit / Cr.
credits.

Normal Balance
 Liabilities – Credits should
Chapter
exceed debits.
3-23

Liabilities
Debit / Dr. Credit / Cr.
▼ HELPFUL HINT
The normal balance is the
side where increases in
the account are recorded.
Normal Balance

Chapter
3-24

3-26 LO 2
 Procedures for Stockholders’ Equity

Stockholders’ Equity
 Investments by stockholders and
Debit / Dr. Credit / Cr. revenues increase stockholders’
equity (credit).

Normal Balance
 Dividends and expenses decrease
Chapter
stockholder’s equity (debit).
3-25

Common Stock Retained Earnings Dividends

Debit / Dr. Credit / Cr. Debit / Dr. Credit / Cr. Debit / Dr. Credit / Cr.

Normal Balance Normal Balance Normal Balance

Chapter Chapter Chapter

3-25 3-25 3-23

3-27 LO 2
 Procedures for Stockholders’ Equity

Revenue  Revenues increase stockholder’s

Debit / Dr. Credit / Cr.
equity.

 Expenses have the opposite

Normal Balance
effect: expenses decrease
stockholders’ equity.
Chapter
3-26

Expense  The effect of debits and credits

Debit / Dr. Credit / Cr.
on revenue and expense
accounts is the same as their
Normal Balance
effect on stockholders’ equity.
Chapter
3-27

3-28 LO 2
 INVESTOR INSIGHT Chicago Cubs

Keeping Score
The Chicago Cubs baseball team has these major revenue and
expense accounts:
Revenues Expenses
Admissions (ticket sales) Players’ salaries
Concessions Administrative salaries
Television and radio Travel
Advertising Ballpark maintenance

3-29 LO 2
 STOCKHOLDERS’
EQUITY
RELATIONSHIPS

ILLUSTRATION 3-15
Stockholders’ equity
relationships

3-30 LO 2
 DEBIT/CREDIT RULES
Liabilities
Debit / Dr. Credit / Cr.

Normal Normal
Balance Balance
Debit Credit Normal Balance

Chapter
3-24

Assets Stockholders’ Equity

Debit / Dr. Credit / Cr. Debit / Dr. Credit / Cr.

Normal Balance Normal Balance

Chapter Chapter
3-23 3-25

Expense Revenue
Debit / Dr. Credit / Cr. Debit / Dr. Credit / Cr.

Normal Balance Normal Balance

Chapter Chapter
3-27 3-26

3-31 LO 2
 SUMMARY OF DEBIT/CREDIT RULES

Balance Sheet Income Statement

Asset = Liability + Equity Revenue - Expense =

Debit

Credit

3-32 LO 2
 SUMMARY OF DEBIT/CREDIT RULES

Relationship among the assets, liabilities and stockholders’

equity of a business:
ILLUSTRATION 3-16
Basic
Assets = Liabilities + Stockholders’ Equity
Equation

Expanded
Basic
Equation

The equation must be in balance after every transaction.

For every Debit there must be a Credit.

3-33 LO 2
 SUMMARY OF DEBIT/CREDIT RULES

Review Question
Debits:

a. increase both assets and liabilities.

b. decrease both assets and liabilities.

c. increase assets and decrease liabilities.

d. decrease assets and increase liabilities.

3-34 LO 2
 SUMMARY OF DEBIT/CREDIT RULES

Review Question
Accounts that normally have debit balances are:

a. assets, expenses, and revenues.

b. assets, expenses, and equity.

c. assets, liabilities, and dividends.

d. assets, dividends, and expenses.

3-35 LO 2
 Indicate how a journal is used in the
LEARNING
OBJECTIVE 3 recording process.

The Recording Process

1. Analyze each transaction in terms of its effect on the
accounts.

2. Enter the transaction information in a journal.

3. Transfer the journal information to the appropriate accounts

in the ledger.

Analyze Journalize Post to

business the ledger
transactions transaction accounts

3-36 LO 3
 THE RECORDING PROCESS

Analyze Post to
Journalize the ledger
business
transaction accounts
transactions

ILLUSTRATION 3-17
The recording process

Analyze
transaction
Enter
transaction Transfer from journal to
ledger

3-37 LO 3
 THE JOURNAL

 Transactions recorded in chronological order in a

journal before they are transferred to the accounts.

 Contributions to the recording process:

1. Discloses the complete effects of a transaction.

2. Provides a chronological record of transactions.

3. Helps to prevent or locate errors because the debit

and credit amounts can be easily compared.

3-38 LO 3
 THE JOURNAL

Journalizing - Entering transaction data in the journal.

Illustration: Presented below is information related to Sierra
Corporation.

Oct. 1 Sierra issued common stock in exchange for

$10,000 cash.
1 Sierra borrowed $5,000 by signing a note.
2 Sierra purchased equipment for $5,000.

Instructions - Journalize these transactions.

3-39 LO 3
 THE JOURNAL

Oct. 1 Sierra issued common stock in exchange for

$10,000 cash.

General Journal
Date Account Title Ref. Debit Credit
Oct. 1 Cash 10,000
Common Stock 10,000

3-40 LO 3
 THE JOURNAL

Oct. 1 Sierra borrowed $5,000 by signing a note.

General Journal
Date Account Title Ref. Debit Credit
Oct. 1 Cash 5,000
Notes Payable 5,000

3-41 LO 3
 THE JOURNAL

Oct. 2 Sierra purchased equipment for $5,000.

General Journal
Date Account Title Ref. Debit Credit
Oct. 2 Equipment 5,000
Cash 5,000

3-42 LO 3
 THE JOURNAL

ILLUSTRATION 3-18
Recording transactions in
journal form

3-43 LO 3
 ACCOUNTING ACROSS THE ORGANIZATION
Boosting Profits
Microsoft originally designed the Xbox 360 to have 256 megabytes of memory.
But the design department said that amount of memory wouldn’t support the best
special effects. The purchasing department said that adding more memory would
cost $30—which was 10% of the estimated selling price of $300. The marketing
department, however, “determined that adding the memory would let Microsoft
reduce marketing costs and attract more game developers, boosting royalty
revenue. It would also extend the life of the console, generating more sales.” As a
result of these changes, Xbox enjoyed great success. But, it does have
competitors. Its newest video game console, Xbox One, is now in a battle with
Sony’s Playstation4 for market share. How to compete? First, Microsoft bundled
the critically acclaimed Titan fall with its Xbox One. By including the game most
Xbox One buyers were going to purchase anyway, Microsoft was making its
console more attractive. In addition, retailers are also discounting the Xbox, which
should get the momentum going for increased sales. What Microsoft is doing is
making sure that Xbox One is the center of the home entertainment system in the
long run.
3-44 LO 3
 DO IT! 3 Journal Entries

The following events occurred during the first month of business of Hair
It Is Inc., Kate Browne’s beauty salon:
1. Issued common stock to shareholders in exchange for $20,000
cash.
2. Purchased $4,800 of equipment on account (to be paid in 30 days).
3. Interviewed three people for the position of stylist.
The three activities are recorded as follows:
1. Cash 20,000
Common Stock 20,000
2. Equipment 4,800
Accounts Payable 4,800
3. No entry because no transaction occurred.
3-45 LO 3
 Explain how a ledger and posting help in
LEARNING
OBJECTIVE 4 the recording process.

The Accounting Cycle

Analyze Journalize Post to

Trial Adjusting
business the ledger
Balance Entries
transactions transaction accounts

Adjusted
Financial Closing Post-Closing
Trial
Statements Entries Trial Balance
Balance

3-46 LO 4
 THE LEDGER

The Ledger is comprised of the entire group of accounts

maintained by a company.

ILLUSTRATION 3-19
The general ledger
3-47 LO 4
 CHART OF ACCOUNTS

Listing of accounts used by a company to record

transactions.

ILLUSTRATION 3-20
Chart of accounts for Sierra
Corporation

3-48 LO 4
 POSTING

The process of transferring journal entry amounts to ledger

accounts.

General Journal J1
Date Account Title Ref. Debit Credit
Oct. 1 Cash 101 10,000
Common Stock 10,000

General Ledger
Cash Acct. No. 101
Date Explanation Ref. Debit Credit Balance
Oct. 1 Stock issued J1 10,000 10,000

3-49 LO 4
 POSTING

Review Question
Posting:

a. normally occurs before journalizing.

b. transfers ledger transaction data to the journal.

c. is an optional step in the recording process.

d. transfers journal entries to ledger accounts.

3-50 LO 4
 ETHICS INSIGHT Credit Suisse Group

A Convenient Overstatement
Sometimes a company’s investment securities suffer a permanent decline in
value below their original cost. When this occurs, the company is supposed
to reduce the recorded value of the securities on its balance sheet (“write
them down” in common financial lingo) and record a loss. It appears,
however, that during the financial crisis of 2008, employees at some financial
institutions chose to look the other way as the value of their investments
skidded. A number of Wall Street traders that worked for the investment bank
Credit Suisse Group were charged with intentionally overstating the value of
securities that had suffered declines of approximately $2.85 billion. One
reason that they may have been reluctant to record the losses is out of fear
that the company’s shareholders and clients would panic if they saw the
magnitude of the losses. However, personal self-interest might have been
equally to blame—the bonuses of the traders were tied to the value of the
investment securities.
Source: S. Pulliam, J. Eaglesham, and M. Siconolfi , “U.S. Plans Changes on
Bond Fraud,” Wall Street Journal Online (February 1, 2012).
3-51 LO 4
 RECORDING PROCESS ILLUSTRATED

Follow these steps:

1. Determine what
type of account is
involved.
2. Determine what
items increased or
decreased and by
how much.
3. Translate the
increases and
decreases into
debits and credits.
ILLUSTRATION 3-21
Investment of cash by
stockholders
3-52 LO 4
3-53
ILLUSTRATION 3-22
LO 4
3-54
ILLUSTRATION 3-23
LO 4
3-55
ILLUSTRATION 3-24
LO 4
3-56
ILLUSTRATION 3-25
LO 4
3-57
ILLUSTRATION 3-26
LO 4
3-58
ILLUSTRATION 3-27
LO 4
3-59
ILLUSTRATION 3-28
LO 4
 ILLUSTRATION 3-29

3-60 LO 4
3-61
ILLUSTRATION 3-30
LO 4
3-62
ILLUSTRATION 3-31
LO 4
 JOURNALIZING SUMMARY ILLUSTRATION 3-32
General journal for
Sierra Corporation

3-63 LO 4
 Illustration 3-32

3-64 LO 4
POSTING
SUMMARY

ILLUSTRATION 3-33
General ledger for
Sierra Corporation

3-65
 DO IT! 4 Posting
Selected transactions from the journal of Faital Inc. during its first month of
operations are presented below. Post these transactions to T-accounts.

3-66 LO 4
LEARNING
OBJECTIVE 5 Prepare a trial balance.

The Accounting Cycle

Analyze Journalize Post to Prepare

Adjusting
business the ledger a Trial
Entries
transactions transaction accounts Balance

Adjusted
Financial Closing Post-Closing
Trial
Statements Entries Trial Balance
Balance

3-67 LO 5
 TRIAL BALANCE

 A list of accounts and their balances at a given time.

 Accounts are listed in the order in which they appear

in the ledger.
 Purpose is to prove that debits
equal credits. ▼ HELPFUL HINT
Note that the order of
presentation in the trial
 May also uncover errors in balance is:
Assets
journalizing and posting. Liabilities
Stockholders’ equity
 Useful in the preparation of Revenues
Expenses
financial statements.

3-68 LO 5
 TRIAL BALANCE ILLUSTRATION 3-34
Sierra Corporation
trial balance

3-69 LO 5
 LIMITATIONS OF A TRIAL BALANCE

The trial balance may balance even when

1. a transaction is not journalized,

2. a correct journal entry is not posted,

3. a journal entry is posted twice,

4. incorrect accounts are used in ETHICS NOTE An error is

the result of an unintentional
journalizing or posting, or mistake. It is neither ethical
nor unethical. An irregularity
is an intentional
5. offsetting errors are made in misstatement, which is
recording the amount of a viewed as unethical.

transaction.

3-70 LO 5
 TRIAL BALANCE

Review Question
A trial balance will not balance if:

a. a correct journal entry is posted twice.

b. the purchase of supplies on account is debited to

Supplies and credited to Cash.

c. a $100 cash dividends is debited to the Dividends

account for $1,000 and credited to Cash for $100.

d. a $450 payment on account is debited to Accounts

Payable for $45 and credited to Cash for $45.

3-71 LO 5
 DO IT! 5 Trial Balance

The following accounts come from the ledger of SnowGo

Corporation at December 31, 2017.
Equipment $88,000 Common Stock $20,000
Dividends 8,000 Salaries and Wages
Accounts Payable 22,000 Payable 2,000
Notes Payable (due in
Salaries and Wages
3 months) 19,000
Expense 42,000
Utilities Expense 3,000
Accounts Receivable 4,000
Prepaid Insurance 6,000
Service Revenue 95,000
Cash 7,000

Prepare a trial balance in good form.

3-72 LO 5
3-73 LO 5
 A Look at IFRS

Compare the procedures for the

LEARNING
OBJECTIVE 6 recording process under GAAP and
IFRS.

KEY POINTS
Similarities
 Transaction analysis is the same under IFRS and GAAP.
 Both the IASB and the FASB go beyond the basic definitions
provided in the textbook for the key elements of financial
statements, that is assets, liabilities, equity, revenues, and
expenses. The implications of the expanded definitions are
discussed in more advanced accounting courses.
3-74 LO 6
 A Look at IFRS

KEY POINTS
Similarities
 As shown in the textbook, dollar signs are typically used only in
the trial balance and the financial statements. The same
practice is followed under IFRS, using the currency of the
country where the reporting company is headquartered.
 A trial balance under IFRS follows the same format as shown in
the textbook.

3-75 LO 6
 A Look at IFRS

KEY POINTS
Differences
 IFRS relies less on historical cost and more on fair value than do
FASB standards.
 Internal controls are a system of checks and balances designed
to prevent and detect fraud and errors. While most public U.S.
companies have these systems in place, many non-U.S.
companies have never completely documented the controls nor
had an independent auditor attest to their effectiveness.

3-76 LO 6
 A Look at IFRS

LOOKING TO THE FUTURE

The basic recording process shown in this textbook is followed by
companies around the globe. It is unlikely to change in the future. The
definitional structure of assets, liabilities, equity, revenues, and
expenses may change over time as the IASB and FASB evaluate their
overall conceptual framework for establishing accounting standards.

3-77 LO 6
 A Look at IFRS

IFRS Practice
Which statement is correct regarding IFRS?

a) IFRS reverses the rules of debits and credits, that is, debits
are on the right and credits are on the left.

b) IFRS uses the same process for recording transactions as

GAAP.

c) The chart of accounts under IFRS is different because

revenues follow assets.

d) None of the above statements are correct.

3-78 LO 6
 A Look at IFRS

IFRS Practice
A trial balance:

a) is the same under IFRS and GAAP.

b) proves that transactions are recorded correctly.

c) proves that all transactions have been recorded.

d) will not balance if a correct journal entry is posted twice.

3-79 LO 6
 A Look at IFRS

IFRS Practice
One difference between IFRS and GAAP is that:

a) GAAP uses accrual-accounting concepts and IFRS uses

primarily the cash basis of accounting.

b) IFRS uses a different posting process than GAAP.

c) IFRS uses more fair value measurements than GAAP.

d) the limitations of a trial balance are different between IFRS

and GAAP.

3-80 LO 6
 COPYRIGHT

“Copyright © 2016 John Wiley & Sons, Inc. All rights reserved.
Reproduction or translation of this work beyond that permitted in
Section 117 of the 1976 United States Copyright Act without the
express written permission of the copyright owner is unlawful.
Request for further information should be addressed to the
Permissions Department, John Wiley & Sons, Inc. The purchaser
may make back-up copies for his/her own use only and not for
distribution or resale. The Publisher assumes no responsibility for
errors, omissions, or damages, caused by the use of these programs
or from the use of the information contained herein.”

3-81