Understanding Current Assets, Liabilities, and the Accounting

School: University of Northwestern Ohio - Course: EC 225 - Subject: Accounting

Cash and other assets that are expected to be converted into cash or sold or used up usually within one year or less, through the normal operations of the business,called current assets: Cash/Accounts receivable/Notes receivable/Supplies/Other prepaid expenses • Notes receivable are written promises by the customer to pay the amount of the note and interest. Like accounts receivable, notes receivable are amounts that customers owe, but they are more formal than accounts receivable. • Notes receivable and accounts receivable are current assets because they are usually converted to cash within one year or less. Property, Plant, and Equipment (called fixed/plant assets) include land and assets that depreciate over a period of time. o Equipment/Machinery/Buildings Current Liabilities: Amounts the business owes to creditors that will be due within a short time (usually one year or less) and that are to be paid out of current assets o Accounts/Notes/Wages/Interest payable/Unearned fees Long-Term Liabilities:Amounts the business owes to creditors that will not be due for a long time (usually more than one year)

Accounts relatively permanent from year to year arepermanent/real accounts. • The balances of these accounts are carried forward from year to year. • accounts reported on the balance sheet. Temporary/nominal Accounts: Accounts that report amounts for only one period • Temporary accounts are not carried forward because they relate to only one period. • This includes all accounts reported on the income statement as well as the owner's drawing account, which is reported on the statement of owner's equity. - To report amounts for only one period,temporary accounts should have zero balances at the beginning of the next period. • To achieve this, temporary account balances are transferred to permanent accounts at the end of the accounting period through journal entries. • The entries that transfer these balances are called closing entries. The transfer process is called theclosing process(or closing the books). • After the closing entries are posted, all of the temporary accounts have zero balances. • The closing process involves the following two closing journal entries: • Thetwo closing entries required in the closing processare as follows: oDebiteach revenue account for its balance, credit each expense account for its balance, the remaining amount (net income/loss) goes to the owner's capital account. oCreditthe drawing account and debit the owner's capital account for the balance of the A post-closing trial balanceis prepared after the closing entries have been posted. The purpose of the post-closing (after closing) trial balance is to verify that the ledger is in balance at the beginning of the next period. -The accounting process that begins with analyzing and journalizing transactions and ends with the post-closing trial balance is calledthe accounting cycle. The annual accounting period adopted by a business is known as itsfiscal year. • When a corporation adopts a fiscal year that ends when business activities have reached the lowest point in its annual operating cycle, such a fiscal year is called thenatural business year. ability to convert assets in cash-liquidity/ability ofbusiness to pay its debts issolvency. 2 financial measures for evaluating a business's short-term liquidity and solvency are working capital and the current ratio. • Working capitalis the excess of the current assets of a business over its current liabilities. • A positive working capital implies that business is able to pay its current liabilitie/ is solvent. •The current ratiois another means of expressing the relationship between current assets and current liabilities.Current Ratio = Current Assets/Current Liabilities • Some adjusting entries recorded at the end of an accounting period affect how transactions are recorded in the next period.other step to the accounting cycle, calledreversing entries. • This additional step records journal entries on the first day of the next period that are the exact opposite of the related adjusting entry from the last day of the prior period.