Measuring Business Transactions

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Chapter 2

• Measuring Business Transactions

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In this Chapter well learn about

• Measurement Issues
• Recognition, valuation, classification
• Chart of Accounts
• Double Entry Accounting
• Transactional Analysis
• Trial Balances
• General Journal Entries
• Posting entries to the general ledger

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Recognition

• Transactions get recorded (booked)
• Disclosure of significant unrecognized
  transactions (not booked)
• Point of recognition

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Point of Recognition

• When contractual obligation to pay created
• For goods depends upon contract terms
• FOB Shipping Point
• FOB Destination

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FOB Shipping Point

• Free On Board at place of shipping
• Title passes when goods are on sellers shipping
  dock
• Since title passed on shipping dock, buyer
  responsible for
• Freight (transportation cost)
• Risk of loss

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FOB Destination

• Free On Board at place of receipt by buyer
• Title passes when goods are at buyers place of
  business (receiving dock)
• Since title passes on receiving dock, prior to
  delivery, seller responsible for
• Freight
• Risk of loss

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Recognition Point

• Fairly cut dried for simple goods
• Can be more complicated for services
• When should dentist recognize revenue for filing
  a cavity?
• When should an advertising firm recognize revenue
  for an ad campaign?
• When should an accountant recognize revenue for
  work performed for a client?
• When should a college recognize revenue from its
  students?
• More complicated when item takes long time to
  construct or has been custom manufactured for
  buyer

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Recognition Point

• Issues dont just involve revenue, also involves
• Assets
• Liabilities
• Expense
• Must have some basis in the underlying economic
  reality of transaction rather than the form the
  transaction takes
• Substance over form

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Valuation of Recognized Transaction

• Monetary valuation
• Historical cost
• What you gave up to get item
• NOT Absolute
• Verifiable
• Not necessarily worth to different stakeholders
• Tax appraisal 75,000
• Insurance value 90,000
• Asking price 120,000
• Offer 1 100,000
• Offer 2 105,000
• Settled price 110,000

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Classification

• Accumulate similar transactions together
• Classified into accounts
• Accounts fall into Categories weve previously
  seen
• Assets
• Liabilities
• Owners Equity
• Owners investments
• Owners withdrawals
• Revenues
• Expenses

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Chart of Accounts

• Table of Contents for accounts in ledger
• One chart does not fit all
• must meet needs of business
• Usually numerically coded
• grouped by category
• gaps for expansion

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Chart of Accounts

• Order generally follows that of presentation in
  financial statements
• Standard titles useful
• Account titles should be descriptive for the
  particular business
• Different companies may have different titles for
  the same account

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Categorization Hints

• Receivable generally indicates Asset
• Payable generally indicates Liability
• Prepaid generally indicates Asset
• Deferred or Unearned generally indicates
  Liability
• Except Deferred Charges (Prepaid Expense)
• Revenues and Expenses are a subset of Equity
• Get separate treatment

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Owners Equity Accounts

• Separate treatment for revenues expenses
• Combined or netted together
• Net Income More revenue than expenses
• Net Loss More expenses than revenue
• Net income increases Owners Equity
• Net loss decreases Owners Equity

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More Categorization Hints

• Revenues increase owners equity
• Look for
• Sales
• Revenues
• Xxx earned
• Xxx income
• Without attached words
• Accrued
• Receivable
• Deferred
• Unearned

• Expenses decrease owners equity
• Look for
• Xxxx expense
• Without attached words
• Accrued
• Payable
• Deferred
• Prepaid

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Owners Equity Accounts

• Why separate out Revenues and Expenses from
  Owners Equity
• Report results of operations to stakeholders
  (current and prospective)
• Report for income tax purposes
• Budgeting and operations management
• Withdrawal Accounts
• Drawing account
• Personal account