THE ACCOUNTING CYCLE, TRANSACTION CYCLE AND SOURCE DOCUMENTS

Accounting Cycle

Process starting when a transaction is first recorded, ending at time financial statements are prepared.

7 Steps:

Step 1 Record transaction in books of prime entry and keep source docs as evidence

Step 2 Record dual aspect in general ledger using double-entry (Computerised systems need only 1 entry)

Step 3 Prepare unadjusted trial balance using balances from general ledger

Step 4 Extend TB by making adjustments to match revenues/expenditures

Step 5 Prepare financial statements

Step 6 Close temp general ledger acc's, bring down adjusted bal's on permanent ledger acc's & reverse entries for accruals, prepayments, accrued expenses and accrued income

Step 7 Prepare a post-closing trial balance, preparing for next accounting cycle

Length of cycle

Management: As often as needed, usually monthly, quarterly and aunnually

Financial: Normally annually

Transactions and Recordable Events

Transactions occur when a party exchanges or promises to exchange a good or service with another party for money.
(When no money is involved, this is a barter transaction

Sales & purchases

Goods purchased for use by business in current acc. period are revenue expenditures. For use over several periods are capital expenditures

Accountants record financial effects of other events such as:
loss of inventory, loss of sales revenue and end of period adjustments

Cash and Accruals Basis of Accounting

Cash Transactions. Records are made at time of payment/receipt of cash. No adjustments needed (except errors)

Credit Transactions. Seller extends credit to buyer and buyer pays later. Transactions are recognised in period they relate to. Cash received does not often match revenue earned meaning adjustments are needed
Easily reflects economic performance and financial position

Allocation problem questions how to allocate revenues/expenses over periods to determine profit/loss and carrying amount of assets/liabilities

Transaction Cycle

Starts with order of product/service, ends with exchange of product/service for payment.

Cash transactions can take as little as 1 minute. Normally till receipt is evidence of payment

Credit transactions take as long as the seller is willing to extend credit to the buyer. Invoices are evidence. Can give rise to risks

Data Sources & Source Documents

Purpose of documentation

Record process should a transaction take weeks/months/years

All parties are informed

Keeps track of (potentially) hundreds of thousands of transactions

Credit transactions (11 Steps)

1. Price quotation, 2. Purchase order, 3. Sales confirmation, 4. Delivery note & goods, 5. Invoice, 6. Debtors' statement, 7. Debit note, 8. Credit note, 9. Payment by BACS or cheque, 10. Remittance advice, 11. Receipt

Recorded in books of original entry when the transaction is "reasonably certain" which can occur at 3 points

When payment is received

At time of delivery

Time the invoice is sent to customer

Comparing the Transaction and Accounting Cycles

Accounting cycles record and account for many transactions

Transactions cycles are recorded when the transaction is realised, be that at the point of delivery or the time of payment