ACCOUNTING CYCLE

1. 2. JOURNAL 3. POSTING 4. TRIAL

TRANSACTIONS ENTRIES BALANCE

8. CLOSING THE 7. FINANCIAL 6. ADJUSTING 5. WORKSHEET

BOOKS STATEMENTS JOURNAL
ENTRIES
 ACCOUNTING CYCLE
Step 1 - Transactions and/or Events
Identification and measurement of external
transactions and internal events.

At this stage, the documents used by the

business are analyzed whether it has financial
impact or effect. As defined, financial
transactions are those activities that change the
value of an asset, liability or an equity.
Examples of financial transactions:
• Receipt of cash from a client as advance payment to
repair a computer. In this case (asset) will increase. At
the same time, the advances from client (liability) will
also increase. The advances from client is a liability
because the business has the obligation to render future
service to the client.
• Payment of electric bill is a financial transaction. This
will decrease the cash (asset) and reduce the income of
the business at the same time.
Examples of non-financial transactions:

• hiring and termination of employees

• recognition from the government as most
outstanding business
• death of owner
The information needed when recording transactions
are taken from forms used to document these
transactions. In a typical service business, the
following are the business documents used:

1. Official Receipt or Cash Receipt. This document

is used when a business receives money or a check.
An Official Receipt or Cash Receipt is a document
that acknowledges that money or a check have been
received.
2. Charge Invoice or Sales Invoice
A charge invoice is a document used when a
service has been rendered, but the client will be
billed only after a certain number of days from
the date of service. Often, a company will issue a
statement of account to a customer, with the
charge or sales invoice attached.
3. Check or Cash Voucher
The check voucher is a document used when a
check is issued to pay a certain supplier or
vendor.
Step 2 - Preparation of Journal Entries
(journalization)

Through the use of specialized journals

(such as those for sales, purchases, cash
receipts, and cash disbursements) and the
general journal, transactions and events are
entered into the accounting records. These
are called the books of original entry.
Step 4 - Unadjusted Trial Balance
At the end of an accounting period (for
example, one month or one year) the working
trial balance is prepared. This involves copying
each account name and account balance to a
worksheet (working trial balance).

In the preparation of the unadjusted trial

balance, the balances in all the general
ledgers at the end of the reporting date are
forwarded to the appropriate column.
Step 3 – Posting

The summary (in specialized journals) or

individual transactions (in the general
journal) are then posted from the journals
to the general ledger (and subsidiary
ledgers). Nothing should ever get posted to
the ledgers without first being entered in a
journal.
Step 5 - Worksheet
This step is simply about plotting the items
in the unadjusted trial balance on the
worksheet.

In a manual accounting system, a worksheet

is a large columnar sheet of paper
specifically designed to conveniently
arrange all the accounting information
required at the end of a period.
Step 6 – Adjusting Entries
At the end of the accounting period, some
accounts in the general ledger would
require updating. The journal entries that
bring the accounts up to date are called
adjusting entries. One purpose of adjusting
entries is for income and expenses to be
reported in the correct period.

Adjusting entries ensure that both the

revenue recognition and matching
principles are followed.
Revenue Recognition – accounting
standards require that revenue is
recognized when it is earned and the
amount can be measured reliably

Matching Principle - this principle directs a

business to report an expense on its income
statement within the same period as its
related income.
There are five basic sources of adjusting
entries:

1. Depreciation expense
2. Deferred expenses or prepaid expenses
3. Deferred Income or unearned income
4. Accrued expenses or accrued liabilities
5. Accrued income or accrued assets
#1 Depreciation.

Depreciation is a method of allocating the

cost of an asset to an expense over the
accounting periods that make up the asset’s
useful life. Examples of assets subject to
depreciation are: Store, Office, Building,
and Transportation equipment.

Annual Depreciation = Acquisition Cost –

Salvage or Residual Value / Useful Life
#2 Deferred Expenses or Prepaid Expenses.
These are items that have been initially
recorded as assets but are expected to become
expenses over time or through the operations
of the business

#3 Deferred Income or Unearned Income.

These are items that have been initially
recorded as liabilities but are expected to
become income over time or through the
operations of the business
January 19 Matapang purchased
PHP5,000 worth of office supplies on
account. By the end of the month,
PHP2,000 worth of these supplies were
unused.
On January 15 Matapang entered into a
contract with Makisig to maintain the
computers of Makisig for two months
starting on January 15 up to March 15.
On the same date, Makisig paid the total
contract amount of PHP40,000 in full.
#4 Accrued Expenses or Accrued Liabilities.
These are items of expenses that have been
incurred but have not been recorded and paid.

#5 Accrued Income or Accrued Assets

These are income items that have been earned
but have not been recorded and paid by the
customer. In short, these are receivables of the
business.
On January 29, Matapang
Enterprises received the electric bill
for the month of January amounting
to PHP3,800. Matapang Enterprises
will pay this bill on February 15.
On January 28, Matapang Enterprises
repaired the computer of Pedro for
PHP15,000. Pedro was on an outof-
town trip so he could not pay Matapang
. He told Matapang that he will pay for
their services on February 21.
Step 7 - Preparation of the Financial
Statements.
The following are the financial statements to
be prepared:

1. Statement of Financial Position (SFP) - Also

known as the balance sheet. This statement
includes the amounts of the company’s total
assets, liabilities and owner’s equity which in
totality provides the financial position of the
company on a specific date.
Step 7 - Preparation of the Financial
Statements.

2. Statement of Comprehensive Income (SCI)

– Also known as the income statement.
Contains the results of the company’s
operations for a specific period of time. This
can be prepared on a monthly, quarterly or
yearly basis.
3. Statement of Changes in Equity (SCE)

- This statement is prepared prior to

preparation of the Statement of Financial
Position in order to obtain the ending balance
of the equity to be used in the SFP. All
changes, whether increases or decreases to the
owner’s interest on the company during the
period, are reported here.
4. Cash Flow Statement –

Provides an analysis of inflows and/or

outflows of cash from/to operating,
investing and financing activities.
Step 8 - Journalize the Closing Journal Entries

The income, expense, withdrawal (equity)

accounts are called temporary accounts or
nominal accounts. They are called temporary
because they accumulate the transactions of
only one accounting period. At the end of this
accounting period, the changes in owner’s
equity accumulated in these temporary accounts
are transferred into the owner’s capital
account.
This process serves two purposes:
(1) to update the balance of the
owner’s capital; and

(2) it returns the balance of the

temporary accounts to zero, so
that they are ready to measure the
income, expenses and drawings of
the next accounting period again.
The owner’s capital account and other
statement of financial position accounts
are referred to as permanent or real
accounts because their balances
continue to exist beyond the current
accounting period.
The closing journal entries should consist of the
following:

• All of the nominal revenue accounts should be

closed to the income summary account by a Debit
to revenue and a Credit to income summary.

• All of the nominal expense accounts should be

closed to the income summary by a Credit to
expense and a Debit to income summary.
• The balance in the income summary
account should now reflect the net
income for the accounting period. The
next journal entry should close the
income summary account to the equity or
capital account.

If there is a net profit this entry will be a

Debit to income summary and a Credit to
owner’s capital account.
• Once the closing journal entries
have been entered into the general
journal, the information should be
posted to the general ledger. When
this is accomplished, all of the
nominal accounts in the general ledger
should have zero balances.
Date Account Title and Explanation Ref DR CR

2/29/16 Service Revenue 50,000

Income Summary 50,000

To close nominal revenue accounts

Date Account Title and Explanation Ref DR CR

Income Summary 11,000

Supplies Expense 3,000
Salaries Expense 4,000
Utilities Expense 3,800
Depreciation Expense 200
Date Account Title and Explanation Ref DR CR

Income Summary 39,000

Matapang, Capital 39,000