ACCOUNTING CYCLE

Source documents, journals, ledgers, trial balance and the accounting equation
Learning Outcomes and Assessment Standards
Learning Outcome 1: Financial Information The learner is able to demonstrate knowledge, understanding and the application of financial information according to generally accepted accounting practice and concepts. Assessment Standards: We know this when the learner is able to: Define and explain accounting concepts for a sole trader up to the financial statements. Within the context of the accounting cycle, identify and complete source documents, record the information in the subsidiary journals (books of first entry), post to the ledgers and draw up the trial balance of a sole trader manually and/or by using an accounting package. Analyse and show the effect of transactions on the accounting equation of sole traders. Learning Outcome 3: Managing Resources The learner is able to demonstrate knowledge and an understanding of the use of different financial and managerial control tools and strategies to manage resources in a responsible manner. Assessment Standards: We know this when the learner is able to: Discuss the perpetual inventory system, record transactions in the subsidiary journals and post to the ledgers. Demonstrate knowledge of internal control processes.

Lesson

Overview
The process of recording transactions, from creating source documents to compiling financial statements and interpreting them, is called the accounting cycle. In this lesson we will discuss the first part of the accounting cycle, namely source documents. Then we will move on to the journals, and start by looking at the first of the cash journals.

Lesson
Flow of entries in the accounting cycle The accounting process starts when a transaction takes place and is recorded on a source document. From there, the source documents are recorded in subsidiary journals. Next, the subsidiary journals are posted to the general ledger, from where the trial balance is drawn up. Finally, the financial statements are compiled and interpreted to provide the owners and other stakeholders with important information on the financial position of the business. This accounting process is referred to as the accounting cycle, and may be shown diagrammatically as follows:

DVD



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Transaction takes place These documents are summarised into subsidary journals

Document is printed to record the transaction

The journals are totalled and transferred/ summarized/posted to the ledger Trial balance

Financial statments

Source documents Business transactions take place on a day-to-day basis, e.g. stock is bought, wages are paid, bank deposits are made, other operating expenses are paid, and so forth. Every business activity or transaction entails some form of documentation. This document becomes the source document for that particular transaction. The document forms the basis on which an accounting entry is made. In other words, the source document indicates the origin of a transaction and points to which subsidiary journal will be used to record the transaction. (Refer to previous lessons, where we looked at some of these documents.) Journals In the previous lesson we looked at one of the methods used by accountants for record-keeping, and that is making entries directly into the general ledger. While the ledger is regarded as the official record of any business, there are problems associated with making entries directly into the ledger. One of the problems with recording entries directly into the general ledger is the number of entries that will accumulate in these accounts over a period of time. As an example, take any large supermarket and try to imagine how many cash entries would have to be processed in the bank account on a monthly basis. Now project that to the number of entries for a year, not to say the number over a couple of years. The general ledger is the official record and therefore has to be kept by the business, but a method was needed to try and cut back on all the unnecessary entries, i.e. what is important is how much money was received and how much was spent. Therefore a system of using journals to record the individual entries was introduced, with only the essential information being posted to the general ledger. In the general ledger, entries are recorded in various ledger accounts, thereby giving access to information on similar entries. Thus different journals are drawn up to record similar types of entries, e.g. cash entries as against credit entries, which are again split up in buying and selling entries. Thus totals can be accessed more easily, which allows for more information being made available to the users of the financial information. The journals also form part of the records, but it is not necessary to keep all these details for a long period of time. Thus we can say that a journal is a system introduced to assist the official record-keeping process this is why the journals are often referred to as subsidiary journals. A journal is the book



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of prime (first) entry. Different journals are used to record different transactions that take place in the business. Cash journals In this lesson we are going to look at the three cash journals that are used in businesses: a) b) c) a) Cash receipts journal (abbreviated as CRJ), in which all cash received is recorded. Cash payments journal (abbreviated as CPJ), in which all cash payments are recorded. Petty cash journal (abbreviated as PCJ), in which all petty cash payments are recorded. Cash receipts journal: service business

While the spreadsheet is one method used for record-keeping, the traditional bookkeeping systems make use of journals. All cash received is recorded here. A trader usually receives cash from the following sources: Service fees received from clients for services rendered; Cash (sales) takings from customers in respect of sales made to them; Cash received from customers who pay their accounts; Other sundry transactions such as rent income if part of the premises are rented out; interest received from the bank on a favourable bank balance; capital contributions made by the owner of the business; loans taken out and commission income for services rendered on behalf of another business.

Example: 20.6 April 01 Don Bruno started a garden services business. On this date he opened a business banking (current) account in the name of Dons Garden Services and deposited a cheque for R60 000 as capital. He also deposited R20 000 cash as capital. The first step in the recording process is to complete a document which serves as proof that the transaction has taken place. In this case a deposit slip is completed in duplicate at the bank. Don gets a copy of the deposit slip and the bank keeps the original for its records. Dons copy serves as proof that he made the deposit. The business then makes out a receipt to Don. This serves as proof to the business that he made the deposit. This receipt is the source document from which an entry must be made in the cash receipts journal. The bank deposit slip is the supporting voucher for this deposit. (Refer to previous lessons, in which we studied the different documents.) At this stage it is important to remember that the financial affairs of the owner of a business are kept separate from the financial affairs of the business itself. BUSINESS ENTITY RULE The financial affairs of a business are kept entirely separate from those of the owner. The business has an identity separate from that of the owner. The receipt issued to Don Bruno (in Example 1) now becomes the source document for the entry to be made in the CRJ. The entry is recorded as follows:



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DONS GARDEN SERVICES CASH RECEIPTS JOURNAL FOR APRIL 20.6 CRJ1 Doc no R01 D Details Fol Analysis of receipts Bank
80 000

Fee income

Sundry accounts Amount Fol

80 000

01 Don Bruno

Details Capital

Notes on the cash receipts journal

Entries in the CRJ are made daily and the journal is casted (totaled) on the last day of each month. Doc no stands for document number this column shows the number of the source document. D is the date column transactions for the month are recorded in chronological (date) order. The Details column supplies details of the transaction the name of the person who paid in the money (in this case Don Bruno). Fol is used to record the folio reference number of the account to which the amount is posted. This column would only record the folio numbers of amounts paid in by debtors. Analysis of receipts all cash received is first entered in this column; the total amount received for the day is totaled and deposited. The total amount deposited is ruled off in the Analysis of receipts column. This indicates that the total amount received has been deposited. Note that in this case the money was deposited directly into the bank account. The Bank column shows the amount deposited for the day. The Fee income column is used to record the fee income received. The Current income column will be discussed later. The Sundry accounts column is used to record transactions for which there is no allocated column in the CRJ. Only transactions that happen on a regular basis have columns allocated to them. Because capital is deposited so seldomly, no column is allocated for it. The folio column records the folio references of the accounts to which these amounts will be posted. The Details column reflects the name of the account to which the amount is to be posted.

Note: Posting will be explained later.

Example: 20.6 April 01 Took out a loan from First Bank for R40 000. The money was deposited directly into the bank account. Issued Receipt No 2 04 Dons Garden Services received a cheque for R1 000 from a customer (Ms W. Winterbourne) for mowing, refuse removal and landscaping. Issued CRT 1. The entries on the 2nd and 4th are recorded in the cash receipts journal as follows:

0

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DONS GARDEN SERVICES CASH RECEIPTS JOURNAL FOR APRIL 20.6 Doc no R01 R02 CRT1 D 01 02 04 Details Don Bruno First Bank Service fees Fol Analysis of receipts Bank
80 000 1 000 40 000 1 000 1 000

CRJ1 Details Capital Loan: First Bank

Sundry accounts Fee income Amount Fol

80 000 40 000

Notes

R02 was issued to First Bank for the loan received. Note that, if this money was transferred directly into the bank account, then the entry would not appear in the analysis of receipts column. CRT1 stands for cash register tape number 1. It is assumed that this business has a cash register and issues cash register slips to its customers. (This could also be a receipt, if the business does not operate a cash register, or it could be a cash invoice if a computerised accounting programme is used.) As the service fees are collected from cash clients, it is not necessary to write down their names therefore service fees or cash can be written in the details column. The R1 000 is recorded under fee income, because a column has been allocated for service fees. Fee income (service fees) is the main source of income, therefore a column is allocated for it.

Example: The following are the transactions of Dons Garden Services for April 20.6. 20.6 April 12 Service fees as per cash register tape, R2 000. 15 Commission income received from Evet Nurseries, R500. A receipt was issued. (Dons Garden Services are paid a commission for plants and seed sold on behalf of Evet Nurseries.) Service fees as per cash register tape, R4 000. 21 Service fees as per cash register tape, R1 000. 29 Commission income received from Evet Nurseries, R120. A receipt was issued. Don Bruno had some extra cash. He deposited R5 000 into the bank account as additional capital. A receipt was issued to him. 30 Service fees as per cash register tape, R3 000.

1

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DONS GARDEN SERVICES CASH RECEIPTS JOURNAL FOR APRIL 20.6 Doc no R01 R02 CRT1 CRT2 R03 CRT3 CRT4 R04 R05 CRT5 D 01 02 04 12 15 21 29 30 Details Don Bruno First Bank Service fees Service fees Evet Nurseries Service fees Service fees Evet Nurseries Don Bruno Service fees Fol

CRJ1

Sundry accounts Analysis of Fee Bank receipts income Amount Fol Details 80 000 80 000 B1 Capital
40 000 1 000 2 000 500 4 000 1 000 120 5 000 3 000 5 120 3 000 136 620 B2 3 000 11 000 N1 125 620 4 500 1 000 4 000 1 000 120 N2 5 000 B1 1 000 2 000 1 000 2 000 500 N2 40 000 B2

Loan: First Bank Commission income

Commission income Capital

Notes

The format of a CRJ may vary from business to business. For example, should Dons Garden Services receive commission more frequently they may decide to create a separate column for commission. Refer to the entries on the 15th and 29th two amounts were received on the same day and are recorded in the analysis of receipts column, but only the total to be banked is entered in the bank column. This is because only one amount is deposited and only one amount will be shown on the bank statement. Note that if any amount is deposited directly into the bank account, or an electronic transfer is made, the amount will be recorded directly in the bank column. The total amount of cash received and banked for April is R136 620. This amount should correspond with the banks records. Periodically, Dons Garden Services would receive a document from the bank showing the transactions for the month. This document is called a bank statement. It is not necessary to total the analysis of receipts column, because the total of this column is not posted (transferred) to the ledger. This column is similar to a cash register or cash till, in that all money received is put in here and the totals for each day are entered in the bank column this column shows the amount deposited. There will be no funds in the till at month-end, so the total is 0. The respective columns are added (casted) vertically. A cross-cast (horizontal addition) is done to check for accuracy. The folio numbers refer to the ledger accounts to which posting will take place. We will refer to these later.

Posting to the general ledger As the general ledger is the official record of any business, the relevant information in the journals has to be posted/transferred to the appropriate ledger accounts in the general ledger. The following procedure is followed to post the information from the cash receipts journal to the general ledger:

Identify the accounts which will be posted to: Capital Commission income Bank



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Fee income Loan: First Bank Separate the balance sheet accounts from the nominal accounts: Balance sheet accounts section: Capital Bank Loan: First Bank Fee income Commission income

Nominal accounts section:

Open the accounts in the relevant section. Post according to the procedure set out below. The analysis of receipts column is not posted, as the figures in this column are included in the bank column figures. The details column in the CRJ shows details about a transaction and is not considered when posting. The details under the sundry accounts column indicate the name of the account relevant to a particular transaction. These are posted individually in date order. The total of this column is not posted, as each amount is posted separately. The bank account and the fee income account have several entries, and these accounts will grow even bigger in the future. The CRJ has a bank column total (R136 620) and a fee income column total (R11 000). Instead of posting individual items into these two accounts, the total is posted at monthend. This cannot be done in the case of commission and capital, as there are no allocated columns for these. Posting from the sundry accounts column will have to be done individually on a daily basis.
GENERAL LEDGER OF DONS GARDEN SERVICES BALANCE SHEET ACCOUNTS SECTION CAPITAL 20.6 Apr 01 29 Bank Bank B1 CRJ1 CRJ1 CR
80 000 5 000 85 000

Notes

DR

LOAN: FIRST BANK 20.6 Apr 02 Bank

B2 CRJ1
40 000

BANK 20.6 Apr 30 Sundry accounts* CRJ1

136 620

B3

*or total receipts



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NOMINAL ACCOUNTS SECTION FEE INCOME 20.6 Apr COMMISSION INCOME 20.6 Apr 15 29 Bank Bank 30 Bank

N1 CRJ1 N2 CRJ1 CRJ1 500 120 620 11 000

Folio reference Bookkeeping, or accounting, requires efficient record-keeping. Transactions are recorded in chronological order, and there must be a system in place for easy reference and cross-checking. Documents should be numbered and filed and located easily. Entries in the journals and ledgers should be traceable quickly. A system of folio references facilitates this process. The CRJ has a folio reference in line with the heading CRJ1. All ledger accounts are numbered the balance sheet accounts are preceded with a B and the nominal accounts with an N. When posting the CRJ to the ledger, all entries would have the reference number CRJ1 and all entries in the CRJ would have the relevant ledger folio reference, either a B or an N. Refer to the CRJ and the general ledger in the example above. R80 000 is posted to capital account B1; in the CRJ, the folio reference is B1, and in the ledger, the folio reference is CRJ1. Commission income is posted to N2; the folio reference in the ledger is CRJ1, while in the CRJ the reference is N2. The folio reference in the ledger indicates from which journal the posting was made. The folio reference in the journal indicates to which ledger account the posting was made. In the case of the bank and current income totals (R136 620 and R11 000), only the totals have been posted. The folio reference in the ledger is CRJ1, and in the CRJ the reference is B2 and N1 respectively. Since the totals are posted, the folio reference is written below the respective totals in the CRJ. Trial balance As explained in the previous lesson, the trial balance is a summary of the ledger accounts and serves as a check that the double entries have been completed. In other words, the Dr and Cr totals must agree.
DONS GARDEN SERVICES TRIAL BALANCE ON 30 APRIL 20.6 BALANCE SHEET ACCOUNTS SECTION Capital Loan: First Bank Bank NOMINAL ACCOUNTS SECTION Fee income Commission income Fol B1 B2 N1 N2
136 620

Debit

Credit
85 000 40 000 96 620 11 000 620 136 620

b)

Cash receipts journal: trading business



A trading business sells stock, while service businesses charge their customers for services rendered, e.g. a repair shop, a consulting business, a panel beater, etc. A trading business buys its stock from suppliers, adds its own mark-up, and sells the stock to its customers. In the case of a car dealer, the cars that the business has for sale are its trading stock; flowers for sale make up the trading stock of a florist; and cell phones for sale are the trading stock of a cell phone dealership.

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A trading business may also render services. For example, a hardware dealer sells hardware, but may also undertake repairs for its customers; a supermarket sells groceries, but may also hire out vacuum cleaners at a fee. Similarly, a service business renders services for which it charges a fee, but it may also sell items to its customers. For example, a garden services business may also sell plants and fertilisers to its clients. The CRJ for a pure trading business has to be modified as follows:
CASH RECEIPTS JOURNAL FOR APRIL 20.6 Doc no D Details Analysis Fol Bank of receipts Sales Cost of sales CRJ1 Sundry accounts Amount Fol Details

Example: The following transactions relate to Six-Star Supermarket. Required Make the necessary entries in the cash receipts journal for December 20.9. Post to the general ledger.

Transactions 20.9 Dec 01 Goods were sold for cash to M. Maxdorf for R330. The mark-up is 50%. (CRT1) 05 A loan (R20 000) which had been negotiated with A-One Bank towards the end of November was received on this day. (Receipt 984) 12 Cash sales to date, R2 100; cost price R1 300. (CRT2-50) 19 Dispatched goods ordered by U. Singh on the 18th. She paid R900 1 cash; mark-up is 33_ A cash register slip was issued. %. 3 24 Cash sales to date, R6 210; the mark-up is 50%. (CRT52-109) 28 The owner (Ms D. Deno) deposited R5 000 as additional capital. (Receipt 985) Cash sales to date, R9 600; the mark-up is 50%. (CRT110-164)



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Solution
CASH RECEIPTS JOURNAL FOR DECEMBER 20.9 Analysis Cost of Fol of Bank Sales sales receipts
330 2 100 900 6 210 5 000 9 600 14 600 44 140 9 600 19 140 6 400 12 375 25 000 330 20 000 2 100 900 6 210 2 100 900 6 210 1 300 675 4 140 5 000 B1 330 220 20 000 B2

CRJ5 Sundry accounts Amount Fol Details Loan: A-One Bank

Doc no CRT1 R984 CRT2-50 CRT51 CRT52-109 R985 CRT110-164

D 01 05 12 19 24 28

Details Sales A-One Bank Sales Sales Sales Ms D. Deno Sales

Capital

B3

N1

N2/B4

Notes:

When goods are sold, there has to be two double entries: one for the cost price and one for the selling price (matching principle). The selling price increases bank and income. The cost price decreases the trading stock and increases the expenses. The difference between the sales (income) and cost of sales (expenses) is the gross profit made on the goods sold. Remember the calculation of cost of sales, i.e. sales 100/(100 + MU). Note that the accounting equation is in balance.
GENERAL LEDGER OF SIX-STAR SUPERMARKET BALANCE SHEET ACCOUNTS SECTION CAPITAL 20.9 Dec 28 Bank

DR

B1 CRJ5

CR
5 000

LOAN: A-ONE BANK 20.9 Dec 05 BANK 20.9 Dec 31 Sundry accounts CRJ5 44 140

B2 Bank CRJ5 B3
20 000

TRADING STOCK 20.9 Dec 31

B4 Cost of sales CRJ5

12 375

DR

NOMINAL ACCOUNTS SECTION SALES 20.9 Dec COST OF SALES 31 Bank

N1 CRJ5 N2

CR
19 140



20.9 Dec

31

Trading stock

CRJ5

12 375

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Notes:

All cash sales are recorded in the sales column. This is the price that the customer was charged for the merchandise, i.e. the selling price. The stock system in operation is the perpetual or continuous system. Under this system a trading stock account is kept to record all movements of stock on a continuous basis. Stock bought increases trading stock, while stock sold reduces trading stock. Each time goods are sold the cost price has to be calculated, as the trading stock account records movements at cost price and not selling price. The cost price is recorded in the cost of sales column. If the cost price is not supplied, it has to be calculated. Cost of sales (N2) is an expense. This account is debited (increases). Trading stock (B4) is an asset. This account is credited (decreases). When cross-casting (adding the totals across), the cost of sales column is not included in the addition. The reason for this is that the cost price (R12 375) is included in the selling price of R19 140. Should a trading business also render services at a fee, the CRJ may include a current income column.

Credit card sales and debit card sales Most businesses accept payment for goods and services by credit card or debit card. The majority of consumers use cards to make payments it eliminates the need to carry large amounts of cash. At the pay point, the card is produced, the cashier swipes it and a voucher showing total purchases is produced. The customer keeps one copy. The trader retains the other copy. At the end of the day the vouchers are added up, and these vouchers are then deposited together with the cash and cheques received for the day. The money for the credit card sales will be transferred directly into the businesss account. From the businesss point of view, the following needs to be noted: Card sales are regarded as cash sales and are recorded in the cash receipts journal. The source document for card sales is the bank statement. The bank charges a levy on each credit card transaction. This levy will appear on the traders bank statement and is treated as bank charges. For debit cards, the customer pays the costs.

Activity 1
Trident Stores is a retail concern which started operating in June 20.7. The following are their transactions for June. Trident Stores uses a fixed mark-up percentage of 80%.

InDIVIDuAl
formative assessment



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Required 1. 2. 3. Complete the cash receipts journal for June 20.7. Post to the general ledger. Extract a trial balance on 30 June 20.7.

Transactions June 01 The proprietor, Mr Tendrit, deposited R100 000 as his capital contribution. Receipt no. 1 was issued. Mr Tendrit also negotiated a loan for R50 000 at 16% p.a. with First West Bank. He received the proceeds of the loan on this day. 03 Part of the premises has been sublet to a tenant, DVD Rentals, at a monthly rental of R800. Received half of this amount. 04 Cash sales to date amounted to R7 200 (CRT 1-50). 09 Dispatched goods to the value of R3 915 to Bothasons. Bothasons paid by credit card. 15 Received the rent owing by DVD Rentals plus half of the rent for July 20.7. Cash sales to date, R16 200 (CRT 51-111). 24 Cash register readings to date amounted to R28 026 (CRT 112-197). 28 Trident Stores earned interest on their current banking account. A credit of R120 appeared on the June bank statement received from FirstWest Bank. Cash takings amounted to R12 960 (CRT 198-220).



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