IBM uai tamp^a MOW THE LIBRARY OF THE UNIVERSITY OF CALIFORNIA LOS ANGELES SUGGESTIONS FOR EXAMINING "ACCOUNTANCY AND BUSINESS MANAGE- MENT" PART ONE 1. The Preface is the authors' "platform." It discusses the point of view from which the course of study contained in the text and the accompanying Laboratory Unit was written. 2. The "Introduction to Bookkeeping" supplies a topical development of the beginning work, with short exercises which permit of the teaching of one basic principle or bookkeeping procedure at a time. See pages 1 to 47. 3. Observe the skillful teaching procedure in this beginning work, which is characteristic of the entire course. Note the following steps under the topic "Recording Purchases" on page 1: (a) Information the statement of a few facts of common knowledge in ^[1. (b) Illustration reproduction of a purchases bill and a written-up purchases book. (c) Interpretation of records illustrated to disclose content of the oookkeeping record. (d) Investigation by means of analysis observe how the analysis questions on page 3 "draw out" information and develop reasoning about the subject being considered. (e) Application and review exercise 1, page 4, and accompanying analysis. 4. Pages 47 to 122 provide instruction and exercise matter to correlate with Laboratory Unit One, the text matter furnishing the material for class recitations, and Laboratory Unit One the application of accounting principles in a set of books. 5. Ledger account method. If it is desired to begin the study of bookkeeping by this method, pages 47 to 122 the Elementary Accounting Section of the text supply the neces- sary material. Notice how clearly principles are developed, the frequency with which they are restated, and the manner in which their application is stressed. 6. Paragraphs 26, 34, 61 and 100 are examples of the extreme simplicity and clearness of the language of instruction. 7. Observe how the division of the text material under topical headings adapts the book to the class method of teaching. 8. Observe particularly the following features: (a) Model Set, pages 14-15. (b) Three short practice sets without vouchers, pages 16-17, 23-24, and 40-42. (c) The simple and effective way of making the pupil understand the equality of debits and credits, pages 26-28. (d) The introduction of the journal at the logical time, and the analogy between it and other books of original entry, pages 33-36. (e) Gradual expansion of the content of cash book entries, pages 37-40. (f) The journalizing exercise and the comparison of classified and journalized sets, page 46. (g) The simple yet comprehensive treatment of general ledger accounts, the clear exposi- tion of the principles underlying account classification, and the brief and simple statement of rules. (h) The manner in which rules are developed as the natural outgrowth of basic principles. (i) The "Construction and Interpretation of the Income and Profit and Loss Statement," pages 100-103; and the corresponding treatment of the Statement of Assets, Liabilities, and Capital, pages 105-108, with the accompanying treatment of accounts by groups. (j) Closing the ledger through the Profit and Loss Summary Account, with separate closing enb00P^ 'clearing" individual accounts, pages 110-114. (k) TTfe "Recapitulation of Principles," pages 119-122. (1) The Review Exercises, pages 123-127. 9. Finally, observe how the subject is stripped of its traditional mass of complicating detail and minute discussions of routine practices that are not basic. Note how the text on the other hand gets immediately to the heart of the subject in every topic presented. THE H. M. ROWE COMPANY CHICAGO BALTIMORE SAN FKANCISCO Library Graduate Sch ol of Business Admini strati on University of California T./-\o Annual QO 9/1 Pol ^ ^/">vin4 A ACCOUNTANCY AND BUSINESS MANAGEMENT PART ONE BY HARRY M. ROWE, PH.D. ASSISTED BY HARRY M. ROWE, JR. Script by the late C. P. Z^NER AND BY E. A. LUPPBB SOUTHERN BRANCH UNIVERSITY OF CALIFORNIA, LIBRARY, ANGELES, CALIF. ; -1922 'EDITION !' .*. ? ! ' ' ' 43257 THE H. M. ROWE COMPANY CHICAGO BALTIMORE SAN FRANCISCO In keeping with the modern trend in business .and in accounting practice, all rulings in books of entry and ledger accounts in the illustrations in this book are in black ink. The author recom- mends the disrontinuanre of the use of red ink for bookkeeping purposes in schools in the interest of efficiency and economy. COPYRIGHT 1922 BY HARRY M. ROWE StofoWi* 'pFtGpyrigh table icm- ponent parts of this work and prohibits all unlaw- ful use of its composition, illustrations, methods, eti. Infringers will be punished to the full extent of the law. lius. Aomin. Library HP 56 *??>' V, I PREFACE The course of study provided in "Accountancy and Business Management," and in the laboratory practice units which accompany it, is based to some extent upon the author's previous work, "Howe's Bookkeeping and Accountancy." However, a number of important changes in the teaching plan and in the selection and arrangement of subject matter make the present course of study substantially a new and original work. The most important new features are: (a) An Introduction to Bookkeeping at the beginning of the text, in which the fundamental concepts of accepted accounting principles and business operations are presented in an exceedingly simple and logical manner. (b) The opportunity provided throughout the course of study for teaching by the class method when this method is preferred. The teaching plan is so elastic, however, as to permit the instructor to exercise his personal preference and judgment as to methods of presentation. (c) A minimum use of the reference feature contained in the author's former works, with no references to topics other than those under immediate consideration. (d) The separation of the material of the text into consecutive parts to cor- respond with the material in the laboratory practice units. Each part of the text and the accompanying practice unit can be completed in one semester in the high school, or in the equivalent of that time in commercial and other schools. (e) The laboratory units are relatively short and can be completed in about one-half of a semester, or the equivalent of that time in the business school. They contain fewer routine bookkeeping transactions, less detail and repetition in office practice matter, and consequently fewer business papers and forms. Emphasis is placed upon principles and the more constructive features of accounting practice. (f) The inclusion of lessons in business management based upon the transac- tions in the laboratory units. These lessons are really brief lectures on business management and administration which emphasize, as does the text, the ultimate aims of the study of accountancy and the more enduring educational benefits to be derived from it. Throughout the course the principles and practices of the subject and the various steps taken in the entire cycle of accounting procedure have been developed as topics for study and recitation on the lesson unit plan to the extent that the subject permits of this method of treatment. The practice exercises following IV PREFACE oach topic or principle presented in a lesson arc short, and as a rule, can be com- pleted easily within one daily period. Class instruction will be supplemented by individual instruction to correct the deficiencies of students as they develop in the work of the class. Individual instruction may be employed to any extent desired. This book is intended for use in commercial courses in all types of schools teaching business subjects to beginners. It will prove to be effective and entirely satisfactory both in the private school and in the high school because of the recogni- tion which is more and more being given to the greater efficiency of the class method of teaching. \Its material and teaching plan are adapted to the require- ments of all students taking up the subject for the first time, regardless of whether it is their purpose to become bookkeepers, to engage in business for themselves, or to pursue advanced courses in accounting and business administration leading to professional degrees. It emphasizes principles and requires what the author believes to be the minimum amount of practice work necessary to provide the training which the student must secure to make him vocationally efficient in his knowledge of the subject, no matter whether he may desire to follow the occupation of bookkeeper, business manager, or accountant. Unless the principle is conceded that the minimum aim of the bookkeeping course is to qualify young people to start a business career, there can be no justification whatever for teaching utilitarian subjects, and the remarkable growth and development of commercial courses in public and private schools, which has been the outstanding feature of educational progress in recent years, must be pronounced a serious blunder. In face of the insistent and ever-increasing demand for education which fits for commerce and industry, and the esteem in which such practical education is held by educators and the general public, such a conclusion cannot be maintained successfully. The author's view is that the vocational value of a knowledge of book- keeping and accounting is merely the immediate object to be served in offering the course to students of business subjects. On the other hand, he contends that if the aim of the bookkeeping course were merely to train for bookkeeping positions, that aim could not be realized without at the same time teaching students much of what constitutes an elementary course in business management. Such information will in any case be absorbed unconsciously to a considerable degree by pupils from their study of business transactions and their records in books of account, whether the teacher attempts to emphasize the broader aspects of the subject or not. Since both the educational and vocational interests of students in high schools and private schools can be served by a properly constructed course of study, any attempt to differentiate between their needs in the selection and arrangement of text material is unnecessary and unwarranted, and would discriminate against PREFACE V those whose immediate interests may be of a vocational character. Therefore, while the inclusion of bookkeeping in the curriculum of any school teaching business subjects to beginners is not justified unless it does make them vocationally efficient, its chief value lies in the training it imparts in the principles and methods of conducting business enterprises. No subject in the commercial course is so valuable as the subject of bookkeeping with respect to the opportunities and wealth of material if affords for teaching young people how business is transacted. The ultimate aim, therefore, of a course of study in this subject should be to supply a comprehensive training in the uses to which accounting records and information are put by business executives in managing and directing commercial and industrial enterprises, rather than to qualify merely for keeping a set of books. Accounting, accordingly, has been coordinated in this text with business management, and it has been the purpose of the author to emphasize the importance of accounting as an aid to intelligent business administration. Attention is invited to the method which is consistently followed in pre- senting a new topic for the student's consideration. Reason has been substituted for rule in preparing the pupil's mind for that which is to be learned. The opening statement of a few simple facts in connection with the topic under consideration is followed by an illustration that is made the basis of an analytical investigation which discloses the principles to be learned. The results of the analysis are then summarized in a statement of principles and recapitulation of facts, from which a brief and simple working rule is deduced. Each rule is essentially a summariza- tion of the instruction on the topic or principle to which it applies. In arranging the first year course in the high school, teachers will have con- siderable latitude in the use to be made of Part One of the text and of Laboratory Unit One. The Introduction to Bookkeeping, covering the first forty-six pages of the text, is recommended by the author as the first work to be given to all beginning students. It is estimated that it will require approximately six weeks of the first semester to cover this material. The work of Unit One may then be started and completed by the end of the first semester. If the students are im- mature or if it seems desirable for any reason not to start work on a practice set until the second semester, the material in Part One of the text devoted to Elemen- tary Accounting, pages 47 to 127 inclusive, may be studied by the class method during the remainder of the first semester. This section presents the subject according to the ledger account method and provides an elementary treatment of trial balances, statements, and the adjustment and closing of accounts. If the first semester's work is confined to Part One of the text as suggested ;il>ove, Laboratory Unit One will be started at the beginning of the second semester. In this case sufficient time will be available in the second semester to make an VI PREFACE introductory study of Part Two of the text, which treats of wholesale and partner- ship accounting, as a preparation for Laboratory Unit Two, which will be used in the third semester. In like manner, there will be time in the third semester to make a preliminary study of Part Three, which is devoted to corporation accounting, as a preparation for Laboratory Unit Three. This unit presents corporation and general mercantile accounting, and will be used in the fourth semester. Laboratory Unit Four treats of cost accounting for manufacturers, and provides a fifth semes- ter's work. Of course, if Unit One is used in the first semester, the four units will require four semesters instead of five in which to be completed. Thus the text and four units provide a two year, or a two and a half year course, according to the manner in which the material is used. The author also recommends that students in private commercial schools be started in the Introduction to Bookkeeping, which should be followed by the four laboratory units referred to in the preceding paragraph. Students may be started immediately, however, with, the work of Laboratory Unit One when it is preferred to begin the course with a practice set. The importance of introducing the class method of teaching as it is adapted to the subject matter of this course is suggested to teachers in private commercial schools in order to realize as fully as possible the educational benefits to which all young people who are preparing for business life arc justly entitled. The recognition accorded to my previous works on this subject by teachers, students, accountants, and the business public encourages me to believe that this, my latest and perhaps my last contribution in this form to the young people of the country whose interests have always been paramount and nearest to my heart in all of my educational activities, will be received with the same cordial interest. H. M. ROWE. Baltimore, 1922. PART ONE INTRODUCTION TO BOOKKEEPING RECORDING PURCHASES 1. A merchant must buy goods before he can sell them. When goods are purchased, they are usually accompanied by a bill which shows the amount of the purchase. If the goods are not paid for at once, the bill shows the amount the purchaser owes the seller. The following illustration shows a bill received by Mr. Rogers for merchandise he purchased from Mr. Walton. ILLUSTRATION 1 BILL BALTIMORE. MD.. J an -1- 19..... CARPENTER TOOLS *** ^' WALTON CUTLERY GARDEN TOOLS WHOLESALE HARDWARE PAINTS 219 LOMBARD ST. VARN.SHES SOLD TO c - E - Rogers, TERMS 1220 N. Charles St. , .. 30 day.s City 2 Doz. Monarch Hatchets 9.00 1800 3 ' " Spades 17.50 5250 10 Gal. Oriole Flat White 2.60 2600 96 50 * 2. Notice that the bill gives the date of the purchase, the name and address of the purchaser, the terms of the purchase, the quantity of each item purchased, the price of each item, and the total amount of the bill. 'Terms 30 days" means that this bill becomes due and payable thirty days from its date. Bills are prepared by the seller and are received by the buyer. It is from the bills received by the buyer that a record of his purchases is made in the book which is kept for that purpose. It is called the purchases book, and only this one class of transactions is entered in it. 2 ACCOUNTANCY AND BUSINESS MANAGEMENT 3. The following illustration shows Mr. Rogers' purchases book containing the entries for five purchases which he made during the month of July. Notice that the total purchases are entered and that the book is ruled to show that all the entries of this class have been made for the month. The first entry is for the bill shown in illustration 1. ILLUSTRATION 2 PURCHASES BOOK ff w Lbz^ls. I [^Gl^v!^ G&^tS Note: The purpose of the column to the right of the date column will be explained later. How TO INTERPRET PURCHASES BOOK ENTRIES 4. Refer to illustration 1. Mr. Rogers' bookkeeper would read this bill as follows: "Mr. Rogers has purchased from J. R. Walton, 219 Lombard St., a bill of goods dated January 1, amounting to $96.50, to be paid for in thirty days." He would pay no attention to the fact that Mr. Walton was a wholesale hardware merchant dealing in tools. Neither is the other information on the bill necessary to the record of the essential facts of the transaction with Mr. Walton. If he were asked to write a memorandum of the transaction, he would write it about as follows: "Purchased from J. R. Walton, 219 Lombard St., bill of merchandise dated January 1, terms 30 days, amounting to $96.50." 5. By referring to illustration 2 it will be seen that all the essential facts in this statement are included in the entry for this bill, dated January 2, the date on which it was received. The items included in purchase bills are omitted from the entries because such bills are kept on file and can be referred to for the items at any time. If the bookkeeper were asked when this bill would become due, he would say, "Thirty days after the date of the bill, or January 31," which means that it should be paid on or before that date. Bills begin to mature from the date of the bill and not from the date of their entry. In the entries for the second and subsequent purchases from the same person, the address is omitted. INTRODUCTION TO BOOKKEEPING 3 ANALYSIS OF PURCHASES BOOK RECORD 6. Analyze the transactions recorded in the purchases book shown in illus- tration 2 by answering the following questions. Write the answers in the form suggested in illustration 3 below. Mr. Rogers is transacting the business and the transactions are to be studied from his viewpoint. In other words, the student is acting as his bookkeeper, ANALYSIS 1. What were Mr. Rogers' total purchases for the month, and how is the amount found? 2. If at the end of the month he had paid none of these bills, how much would he have owed? 3. According to its terms, the bill for the first purchase from J. R. Walton was due and payable in 30 days. When was it due? 4. What were the due dates of the bills entered on the 6th, llth, 19th, and 27th? 5. Which one of the bills owed to Mr. Walton became due first? 6. If Mr. Rogers had paid each bill as it fell due, how much cash would have been required to pay those that matured during January? 7. If all bills maturing during the month were paid, how much did he owe at the end of the month, whom did he owe, and how much to each? ILLUSTRATION 3 ANSWERS TO ANALYSIS OF PURCHASES BOOK RECORD 1 . $751 .60. The amount is found by taking the sum of the items entered. 2. $751.60. 3. Jan. 31. 4. Jan. 15; Jan. 24; Feb. 7; Feb. 25. 5. The bill of Jan. 9, due Jan. 24. 6. $ 96.50 101.20 221.80 $419.50 Total cash required. 7. Mason & Weller $182.40 R. C. Jones & Co. 149.70 $332.10 Amount owed at the end of the month. ACCOUNTANCY AND BUSINESS MANAGEMENT X EXERCISE 1 W. H. Clark conducts a butter and egg business. He buys from farmers and poultrymon and sells to grocers and other retailers. He received bills during the month of August for the following purchases: Aug. 1 John Holmes, Woodlawn, Md., July 30, 15 days, $175.00. 5 W. J. Dixon, Catonsville, Md., Aug. 4, 20 days, $155.40. 14 John Holmes, Aug. 11, 30 days, $211.50. 17 L. N. Wilson & Sons, Catonsville, Md., Aug. 16, 10 days, $98.70. 21 W. J. Dixon, Aug. 20, 15 days, $74.85. 24 John Holmes, Aug. 24, 30 days, $122.80. 27 Walter Crampton, Ellicott City, Md., Aug. 27, 10 days, $74.20. With the purchases book shown in illustration 2 as a guide, write the entries for the above transactions on a sheet of journal paper. Rule the two additional perpendicular lines shown in the illustration. When the seven items have been entered, find the total purchases and enter the amount in the second column. In recording these transactions be careful to make the writing neat and uni- form in size. Write the figures plainly and distinctly. Do not make the capital letters too high. They must be written within the ruled lines on the paper. When completed, present to the teacher for examination and criticism. ANALYSIS On the bottom of the page containing the purchases book, tabulate the answers to the following questions: 1. What were Mr. Clark's total purchases for the month? 2. If on August 31 he had paid none of the bills for goods purchased during August, how much would he have owed? 3. Do the total amount of purchases and the amount he would have owed agree? 4. What bills became due and payable during the month? 5. If Mr. Clark paid these bills as they became due, how much did he owe on unpaid bills on August 31? 6. How much did his purchases from each person amount to during the month? 7. If he had paid the bills as they fell due during the month, whom did he owe on August 31, and how much to each? 8. How much cash was required to pay the bills that matured during the month? INTRODUCTION TO BOOKKEEPING 5 RECORDING SALES 7. After goods have been purchased and placed in stock, they are then ready for sale. As they are sold they are billed by the seller to the buyer. The following illustration shows a bill sent by Mr. Cook to Mr. Hart for goods which were sold to him. ILLUSTRATION 4 BILL ALL FRUITS AND VEGETABLES IN SEASON ROBERT A. COOK FARM PRODUCE AND PROVISIONS 9 EXCHANGE WAY FLOUR, FEED, AND GRAINS PHILADELPHIA, PA.. .... . ......! 19 Aug. 1 SOLD TO B. F. Hart 145 Walnut St. , ...30...days City.... 10 Brls. Harvest Apples 3.50 35 00 8. Notice that this bill gives all the details of the sale and is similar in gen- eral form to bills for goods purchased. A record of each bill of goods sold is made in a book kept for that purpose, called the sales book. Sales entries are therefore another class of entries in keeping books. The illustration on the next page shows Mr. Cook's sales book containing en- tries for seven sales he made during August, with the total sales entered and the book ruled to show that all the entries for the month have been made. The first entry is for the bill shown in illustration 4. 9. The form of the sales book differs little from that of the purchases book. However, since bills for sales are sent to the buyers, the items of each sale are included in the sales book entry so that they may be referred to at any time for quantities, grades, prices, and other information. As already stated, this is not necessary in entering purchase bills because the bills received are kept for such information. Sales are entered under the date they are billed, and the due date is determined from the date of the bill. G ACCOUNTANCY AND BUSINESS MANAGEMENT ILLUSTRATION 5 SALES BOOK /t /cs /9 s^/ . [s^r^t^ac^tslfs / . /$ 7 /3 // 2-7 J. C,0 .22 .2S 3 6,0 -72f. fJ 33 77 z/z oo CO oo 23- 00 6,0 oo oo so 6,0 20 JO 26 7 00 oo /o ANALYSIS OF TRANSACTIONS The purpose in analyzing transactions is to develop a thorough under- standing of the relations established between the parties to them. Such an understanding will greatly simplify the work later on in the course. INTRODUCTION TO BOOKKEEPING 7 In each analysis the questions presented should be considered from the view- point of the person whose books are being kept and not from the standpoint of the other parties to the transactions. ANALYSIS 1. What were Mr. Cook's total sales for the month, and how is the amount found? 2. If none of these bills had been paid, how much would his customers have owed him at the end of the month? 3. Who owes for these sales, Mr. Cook or the purchasers? 4. What were the due dates of the bills for goods sold? 5. What was the sum of the amounts due from Mr. Cook's customers for bills maturing in August? 6. What is the sum of the amounts not due until the following month? 7. If Mr. Hart paid his bills when they became due, how much cash did Mr. Cook receive from him during August? 8. If all bills falling due in August were paid, which customers continued to owe Mr. Cook on August 31, how much did each owe, and what was the total owed to him at the end of the month? 9. Explain the difference between the expressions, "One who is owed" and "One who owes." EXERCISE 2 J. R. Carter is a wholesale dealer in grain and feed. He buys from farm- ers and sells to liverymen, users of horse-drawn vehicles, and others who buy grain in small quantities. His sales for the month of April are given below: April 3 J. C. Warren, 211 Second St., 10 days, 50 bu. Oats @ 90^. 5 City Livery Co., 12 Market Place, 15 days, 100 bu. Oats @ 90^; 20 bu. Corn@ $1.05. 9 John H. Homer Co., 472 High St., 20 days, 3 tons Hay @ $21.50. 14 J. C. Warren, 15 days, 5 tons Straw @ $14.25; 10 bu. Corn @ $1.10. 17 John H. Homer Co., 30 days, 100 bu. Oats @ 92|^^<*-^ A^Crt^-e^ P*~u. 20 sao ANALYSIS OF MODEL SET ENTRIES By following the analysis below, trace each transaction on pages 12 and 13 to the corresponding entry in the books. Jan. 2 In this transaction merchandise is purchased; therefore the entry is made in the purchases book, where such transactions are recorded. 3 In this transaction merchandise is sold; therefore the entry is made in the sales book, where such transactions are recorded. 5 Merchandise is purchased purchases book. 8 Merchandise is sold sales book. 10 In this transaction cash is received ; therefore the entry is made on the receipts side of the cash book, where such transactions are recorded. 1 1 Merchandise is sold sales book. 16 Merchandise is purchased purchases book. 17 Cash is received cash book, receipts side. 2 1 Merchandise is sold sales book.' 22 Merchandise is sold sales book. 24 In this transaction cash is paid; therefore the entry is made on the payments side of the cash book, where such transactions are recorded. 27 Cash is received cash book, receipts side. 28 Cash is paid cash book, payments side. 31 Merchandise is sold sales book. ILLUSTRATION 9 CASH BOOK RECEIPTS MODEL SET ycz'-yT-s- 9 /7 *7 J/ INTRODUCTION TO BOOKKEEPING ILLUSTRATION 11 SALES BOOK MODEL SET 15 3.50 /.2S\ 3.2 3.SO JY / O-S' ffC 00 /Jt OO ANALYSIS QUESTIONS > 1. What were Mr. Fuller's total purchases from Mr. Howe for the month? What were the total payments to him? How much did Mr. Fuller owe Mr. Howe onJanuarySl? '+'. ^>, 2. What were Mr. Fuller's total sales to Mr. Archer? How much cash was received from him? How much did Mr. Archer owe Mr. Fuller on January 31? 3. Which bill was canceled by the cash receipt entered on January 17? ILLUSTRATION 10 CASH BOOK PAYMENTS MODEL SET " 1 2.9- J/ J/ J/ OH 22J OO Iti ACCOUNTANCY AND BUSINESS MANAGEMENT 4. Which bill was canceled by the payment entered on January 24? 5. Who received the money for the cash payment entered on January 28? Who paid it? 6. Who received the money for the cash receipt entered on January 27? Who paid it? SET 1 COUNTRY PRODUCE AND PROVISION BUSINESS R. L. Clark began business in Springfield, Mass., on January 1, as a dealer in country produce and provisions. He entered into a contract with John Reed, a farmer of Fairview, Mass., to supply him with fruits and vegetables for which Mr. Clark is to pay as soon as he receives returns from sales of these goods. Although he has no ready money to invest in his business, he hopes soon to accumulate out of his profits a sufficient cash capital with which to finance it. While Mr. Clark is beginning business without any capital, such as money, property, etc., which is the accumulated profits of previous industry, he has the advantage of a good credit. Credit consists of a good name a reputation for honesty, ability, and trustworthiness. A good credit is essential in successfully operating most business enterprises because a large part of the world's commerce is conducted on a credit basis. In this instance, Mr. Clark's good reputation enables him to start in business for himself. If he is successful in his venture and through his industry earns profits and saves them, he will thus accumulate capital, or wealth. The following is a memorandum of the business Mr. Clark transacted in January. Record these transactions properly in a set of books. Using a double sheet of journal paper, open the purchases book on the front outside page (page 1), the cash book on the two inside pages (pages 2 and 3), and the sales book on the back outside page (page 4). Rule the additional perpendicular lines required as instructed in previous exercises. TRANSACTIONS SET 1 Jan. 2 Bought first bill of fruits and vegetables from John Reed, Fairview, Mass., dated Dec. 30, terms 30 days, $180.00. 3 Sold W. B. Morgan, 240 Second Ave., terms 10 days, 25 brls. Baldwin Apples @ $3.30. 5 Bought of John Reed, bill of Jan. 4, terms 30 days, $95.00. 8 Sold Heald & Co., 9 Exchange Way, terms 10 days, 50 bu. Potatoes @ $1.20; 30 brls. Baldwin Apples @ $3.50. 13 Received cash from W. B. Morgan to cancel bill of Jan: 3, $82.50. INTRODUCTION TO BOOKKEEPING 17 14 Sold W. B. Morgan, terms 20 days, 10 brls. Baldwin Apples @ $3.35 ; 20 bu. potatoes at 95jf. 17 Bought of John Reed, bill of Jan. 16, terms 30 days, $167.50. 17 Received cash from Heald & Co. to cancel bill of Jan. 8, $165.00. 20 Sold Walter Williams, 316 Washington St., terms 10 days, 45 brls. Baldwin Apples @ $3.30; 60 bu. Potatoes @ 97^. 23 Bought of J. H. Cooper, Merrick, Mass., bill of January 16, terms 10 days, $27.00. 25 Received cash from Walter Williams to cancel bill of January 20, $206.70. 26 Paid cash to J. H. Cooper to cancel bill of Jan. 21, $27.00. 30 Paid John Reed cash to cancel bill of Dec. 30, $180.00. 30 Sold remainder of goods on hand to Walter Williams, terms 30 days, 50 bu. Potatoes @ 95^; 15 brls. Baldwin Apples @ $2.42. 31 Paid cash to John Reed to cancel bill of Jan. 4, $95.00. FOOTING AND RULING BOOKS Foot and rule the purchases and sales books as instructed previously. In the cash book enter the total receipts and total payments in the right hand money columns as formerly. Subtract the payments from the receipts to find the "balance" of cash on hand, enter it on the payments side, write the footings, rule the book, and bring down the balance in the manner shown in the cash book of the model set. ANALYSIS OF SET 1 1. What were the total purchases from John Reed during the month? What were the total payments to him? How much did Mr. Clark owe him on Jan. 31? 2 What were the total purchases from Mr. Cooper? What were the total payments to him? How much did Mr. Clark owe him on January 31? 3. What were the total sales to Mr. Morgan? What were the total receipts of cash from him? How much did he owe Mr. Clark on January 31? 4. What were the total sales to Heald & Co? What were the cash receipts from them? How much did they owe Mr. Clark on January 31? 5. What were the total sales to Walter Williams? What were the cash receipts from him? How much did he owe Mr. Clark on January 31? 6. What bill was canceled by the cash payment entered on January 30? 7. What bill was canceled by the cash receipt entered on January 25? 8. For what amount did Mr. Clark become indebted to Mr. Reed and how much of this indebtedness did he cancel during the month? Note: The teacher should retain all papers handed in by students for this and succeeding sets because they must be returned (o the pupijft later on when additional work on the sets is called for. 18 ACCOUNTANCY AND BUSINESS MANAGEMENT GROUPING TRANSACTIONS WITH PERSONS 16. In making the analysis of the transactions for the model set and set 1, called for on pages 14 and 17, it was necessary to refer to the purchases, sales, and cash books for the different items of merchandise bought and sold and of cash received and paid, and to make separate calculations to determine the final result of the transactions with each party. This work would have been greatly simpli- fied if a separate record grouping all of the transactions with each party had been kept. Such a record is provided in bookkeeping by keeping an account with each party with whom business is transacted in a book called the ledger. Accounts show similar items arranged in the most convenient form for arithmetical solution and analysis, The ledger is the book of accounts. PERSONAL ACCOUNTS 17. Personal accounts are records kept in the ledger with parties with whom business is transacted. The object in keeping personal accounts is to ascer- tain the amounts others owe to us on account, and the amounts we owe to others on account at any given time. All accounts with individuals, firms, or corporations showing amounts owed to or by them are classed as personal accounts for book- keeping purposes. 18. Personal accounts are divided into two classes: (a) those showing what others owe to us, which- are known as accounts receivable; and (b) those showing what we owe to others, which are known as accounts payable. POSTING 19. Any book which receives the first entry of a transaction, such as the purchases, sales, and cash books, is a book of original entry. The entries in books of original entry are transferred to the accounts in the ledger by a process called posting. The ledger is the book of final entry. POSTING FROM THE PURCHASES AND SALES BOOKS 20. Illustration 12 shows the postings to the personal accounts in the ledger of the entries contained in the purchases book (illustration 8) and sales book (illus- tration 11) of the model set on pages 14 and 15. Notice that all entries in the purchases book are posted to the right-hand side of the ledger accounts of the persons from whom goods were purchased, and that all entries in the sales book are posted to the left-hand side of the accounts of the persons to whom goods were sold. INTRODUCTION TO BOOKKEEPING ILLUSTRATION 12 LEDGER MODEL SET 19 f/^ 0 ZTT* /oo (,(*2S y^f^MxZj 4 00 r>n J~0 (ApCSTL'. /&> /7 2.7 o o O /oo /o/ 00 Z. did before they transacted business. The amount of the payment is entered in the cash receipts book and is posted to the debtor's account in the ledger on the side opposite the debit entry to show that the indebtedness has been canceled and that the item has been closed out of the account. 26. When cash is paid to a creditor in full for a sum owed to him, the pay- ment cancels the indebtedness, the party who receives payment ceases to be a en- -liter, and both parties stand in the same financial relation to each other as did before they transacted business. The amount of the payment is entered in tin cash payments book and posted to the creditor's account in the ledger on the side opposite the credit entry to show that the indebtedness has been can- ((lc- 1 an 1 that the item has been closed out of the account. 27. If a partial payment of an amount previously debited or credited to a >nal account is made, such payment partially cancels the original debt, and the (lifTcronro between the two amounts shows the balance still due on the original debt. This is illustrated in the account of William Martin. 22 ACCOUNTANCY AND BUSINESS MANAGEMENT RULING OUT CANCELING ITEMS IN PERSONAL ACCOUNTS 28. Notice how the canceling items in the accounts in illustration 13 are ruled out. Such items could be canceled by erasing the original debit or credit, writing "Paid" alongside of it, or ruling a line through it. The first method would destroy the record entirely, and the second and third methods would invite errors and confusion because one debit or credit might be canceled by two or more items. The method of entering canceling items on the opposite side of an account and ruling them out has therefore been adopted to provide a convenient and permanent record. BALANCING PERSONAL ACCOUNTS 29. The balance of an account is found by taking the difference between the sum of the debits and the sum of the credits. When there are two or more unpaid items on either side of an account, as in Mr. Archer's account, the items are added and the total is written in small pencil figures directly underneath the last item. The balance is entered in the explanation column of the larger side on the line on which the last entry is made. If the debit side is the larger, the party owes the proprietor the amount of the balance. If the credit side is the larger, the pro- prietor owes the party the amount of the balance. SET 1 CONTINUED On a single sheet of ledger paper open the personal accounts required for set 1, allowing six lines for each account, and post the entries from the purchases, sales, and cash books in the order named. PROCEDURE IN POSTING The following procedure should invariably be followed in posting: 1. Post the amount first. 2. Next post the date, and explanation if any. Make it a rule upon opening an account to write immediately the year date in the date columns. 3. Enter in the ledger account the initial and page number of the book of original entry from which the item is posted. 4. Write in the folio column of the book of original entry the ledger page number of the account to which the item is posted. 5. Rule out canceling items as they are posted. When the posting is completed, present the books of original entry and the ledger to the teacher for approval. This completes the work of set 1. INTRODUCTION TO BOOKKEEPING 23 SET 2 GRAIN AND FEED BUSINESS Adam Richards, of Marshalltown, Iowa, has made an arrangement with his friends among the farmers in his community to cooperate with them in securing satisfactory prices for their crops. As he does not have any capital, they agreed to send him their grain, fruits, and vegetables on open account at prices sufficient to cover the cost of production and a fair profit. Mr. Richards on his part agreed to devote all of his time to finding a market for the crops at prices which will enable him to make a profit over and above the cost to him and the value of his time and labor. He has further agreed to pay the farmers as soon as he receives returns from the products sold. His transactions for the month are given below. Record them in the proper books, using a double sheet of journal paper as in set 1. After all entries are made, total and rule the books of original entry. Then post the items from the books of original entry to the ledger in the following order purchases book, sales book, and cash book. Use a single sheet of ledger paper, allowing six lines for each account. Rule out balancing items as they are posted ; then enter the balances of the open accounts in pencil figures on the proper side. When completed, present the work to the teacher for approval. TRANSACTIONS SET 2 Oct. 1 Received shipment of wheat, corn, and oats from J. H. Burch, ^Albion, Iowa, per his bill of Sept. 28, on account, $232.50. 2 Sold Frank J. Darling, 12 Main St., on account ten days, 25 bu. wheat @ $1.60; 50 bu. oats @ 75 3 Sold Muscatine Flour Mills, Muscatine, Iowa, on account 15 days, 125 bu. wheat @ $1.58; 20 bu. corn @ $1.25. 6 Received shipment from John Roberts, Marietta, Iowa, per his bill of Oct. 5, on account, $249.00. 10 Sold Henry Miller, Melbourne, Iowa, on account 15 days, 5 tons baled hay @ $21.50; 50 bu. rye @ $1.85; 40 bu. corn @ $1.27. 1 1 Received from Frank J. Darling cash for bill of Oct. 2, $77.50. 17 Received cash from Muscatine Flour Mills in full of account, $222.50. 18 Paid J. H. Burch on account, $100.00. 20 Sold Frank J. Darling, on account 15 days, 50 bu. oats @ 77|ff; 3 tons baled hay @ $21.50. 24 ACCOUNTANCY AND BUSINESS MANAGEMENT 21 Bought from Evan Douglas, Three Hills, Iowa, per his bill of Oct. 9, on account, $47.50. 22 Received cash from Henry Miller to apply on bill of October 10, $200.00. 23 Sold Henry Miller, terms 15 days, 30 bu. wheat @ $1.61; 15 bu. corn @ $1.25. 25 Paid John Roberts on account, $150.00. 26 Sold Muscatine Flour Mills, on account 30 days, 50 bu. corn @ $1.20. 27 Paid J. H. Burch on account, $75.00. 28 Received cash from Henry Miller on account, $100.00. 29 Paid Evan Douglas in full for bill of October 19, $47.50. 31 Paid John Roberts on account, $50.00. IMPERSONAL ACCOUNTS 30. So far the only ledger accounts considered have been accounts \vith persons; that is, personal accounts. In modern bookkeeping, records of the cost of merchandise purchased, the income from merchandise sold, the receipts of cash, the payments of cash, and of the expenses of doing business are also kept in the ledger. These records are kept in the purchases, sales, cash, and expense accounts. Such accounts are impersonal accounts. Taken together, they show on one side the costs and receipts, and on the other the incomes and expenditures resulting from conducting a business. It is from their results that the final profit or loss is determined. Illustration 14 shows, in addition to the personal accounts pre- viously illustrated, the impersonal accounts required in the ledger^For the model set on pages 14 and 15. 31. The item on the debit side of the purchases account is the posting of the total purchases from the purchases book. The item on the credit side of the sales account is the posting of the total sales from the sales book. The debit item in the cash account is the posting of the total receipts from the cash book, and the credit item is the posting of the total payments. As no expenses are recorded in the model set, no expense account is required in the ledger. DEBITING AND CREDITING IMPERSONAL ACCOUNTS 32. Purchases are invariably debited to purchases account. Sales are always credited to sales account. The merchandise for which these accounts are debited and credited respectively consists exclusively of the commodities dealt in. Merchandise is the name given to commodities which are purchased for the pur- pose of selling them at a profit. INTRODUCTION TO BOOKKEEPING ILLUSTRATION 14 LEDGER MODEL SET 25 33. The total receipts of cash are invariably debited to cash account, and the total payments are always credited to that account. 34. We have learned that we debit persons when they owe us, and we credit them when we owe them. It should be clearly understood that the terms debit and credit are used in connection with impersonal accounts only as convenient terms to indicate which side of such accounts is referred to. Only persons can owe or be owed. The purchases and sales accounts represent inanimate things which have no power to owe or be owed, and therefore cannot be debited or credited for the reasons that personal accounts are debited and credited. The same is true 26 ACCOUNTANCY AND BUSINESS MANAGEMENT of the cash and expense accounts. The student should understand at once that nveipts, costs, and expenses arc merely listed on the debit side of impersonal accounts, and that expenditures, returns, and incomes are listed on the credit side. SET 2 CONTINUED Open the purchases, sales, and cash accounts in the ledger for set 2 and post to them the totals of the purchases, sales, and cash books. As the totals are posted, enter in the folio column of the ledger the page number of the book of original entry from which the items were posted. Then enter in the book of original entry the page number of the ledger to which the postings were made. When completed, present the books of original entry and the ledger to the teacher for approval. . EQUALITY OF DEBITS AND CREDITS 35. Refer to the purchases book (illustration 8) and the ledger (illustration 14) of the model set, and notice that the sum of the three items posted to the credit of personal accounts from the purchases book is equal to the debit to the pur- chases account for the posting of the total purchases. The entries in the purchases book, as posted to the ledger, expressed in itemized ledger form are therefore equivalent to the third illustration below: Purchases Book Samuel Howe 125.00 J. K. Todd 100.00 Samuel Howe 156.00 Total Purchases Ledger as posted Samuel Howe Which is equivalent to Samuel Howe 381.00 125.00 156.00 125.00 156.00 J. K. Todd J. K. Todd 100.00 100.00 Purchases Purchases 381.00 125.00 100.00 156.00 Total debits 381.00 Total credits 381.00 Total debits 381.00 Total credits 381.00 INTRODUCTION TO BOOKKEEPING 27 36. Posting the total of the purchases book to the purchases account, instead of posting each item separately, saved two postings. If there had been one hundred purchases during the month instead of three, ninety-nine postings would have been saved. 37. In like manner, the sum of the six debits to persons posted from the sales book is equal to or balanced by the total sales posted to the sales account, and five postings are saved by posting the total instead of posting each item. Thus : Sales Book W. C. Archer 136.00 Harry Carter 101.75 W. C. Archer 66.25 William Martin 61.25 Harry Carter 124.50 W. C. Archer 17.00 Total Sales Ledger as posted W. C. Archer Which is equivalent to W. C. Archer 136.00 66.25 17.00 Harry Carter 136.00 66.25 17.00 Harry Carter 506.75 101 . 75 124.50 William Martin 101.75 124.50 William Martin 61.25 61.25 Sales Sales 506.75 136.00 101.75 66.25 61.25 124.50 17.00 Total Total Total Total debits credits debits credits 506.75 506.75 506.75 506.75 38. Similarly, the three credits to personal accounts posted from the cash receipts book are balanced by the total receipts posted to the debit of cash account, and the two debits to personal accounts posted from the cash payments book are balanced by the total payments posted to the credit of that account. If each item of cash received and paid had been posted separately to the cash account, five pn-tings would have been required instead of two postings for the totals, or three additional postings as illustrated on the next page ; 2S ACCOUNTANCY AND BUSINESS MANAGEMENT Cash Receipts W. C. Archer 136.00 Harry Carter 101.75 William Martin 35.00 Total Receipts Cash Payments J. K. Todd 100.00 Samuel Howe 125.00 Ledger as posted Samuel Howe Which is equivalent to Samuel Howe 272.75 225.00 125.00 J. K. Todd 100.00 W. C. Archer Harry 136.00 Carter Williarr 101.75 i Martin 35.00 125.00 J. K. Todd 100.00 W. C. Archer 136.00 Harry Carter 101.75 William Martin 35.00 Cash Cash 136.00 100.00 101.75 125.00 35.00 Total Total debits credits 497.75 497.75 272.75 225.00 Total Total debits credits 497.75 497.75 39. One of the objects therefore in classifying and recording transactions in the purchases, sales, and cash books is to reduce posting to the minimum, since the totals instead of the individual items can be posted to the purchases, sales, and cash accounts. 40. If all the debit and credit items included in the three center illustrations above are brought together in their respective accounts, the accounts will appear * exactly as they are in the model ledger. The three right-hand illustrations show a detailed analysis of the postings in the model ledger. 41. It follows from the above that when all items and totals in the books of original entry have been correctly posted to the ledger accounts, the total debits will equal the total credits. It is for this reason that this method of keeping books is called double entry bookkeeping; that is, for each debit entry there are one or more credit entries of equal amount, or vice versa. INTRODUCTION TO BOOKKEEPING 29 THE TRIAL BALANCE 42. Since the debit and credit items posted from each book of original entry are equal, it follows that after all balancing items have been ruled out of the accounts, the sum of the debit balances must equal the sum of the credit balances, as shown by the following list of accounts, with their balances, taken from the model ledger (illustration 14). Samuel Howe 156.00 W. C. Archer 83 25 Harry Carter 124 . 50 William Martin 26.25 Purchases 381.00 Sales 506.75 Cash 47.75 662.75 662.75 43. A trial balance is a' list of open accounts in the ledger, with the balance of each account set opposite its name, showing that the sum of the debit balances is equal to the sum of the credit balances. The above list of balances is in reality a trial balance. Accounts that are in balance are not included in the trial balance. Illustration 15 shows the balances of the accounts in the model ledger set up in the regular form of a trial balance. The figures in the folio column are the ledger page numbers of the accounts. ILLUSTRATION 15 TRIAL BALANCE MODEL SET 3-C, oo RESULTS SHOWN BY TRIAL BALANCE The above trial balance shows the following results: 1. J. M. Fuller, the proprietor, owes Samuel Howe $156.00. Amounts owed by us to others are liabilities. 2. Mr. Archer owes Mr. Fuller $83.25. Amounts owed to us by others are assets. 30 ACCOUNTANCY AND BUSINESS MANAGEMENT 3. Mr. Carter owes Mr. Fuller $124.50, which is an asset. 4. Mr. Martin owes Mr. Fuller $26.25, which is an asset. 5. Mr. Fuller's purchases for the month cost him $381.00. 6. His sales for the month were $506.75. 7. His cash balance is $47.75, which is an asset. Assets also include what a person owns or possesses. STATEMENT OF INCOME 44. Since all the merchandise Mr. Fuller bought during the month was sold, the cost of purchases as shown by the balance of the purchases account, $381.00, is therefore the cost of goods sold. Since the income from goods sold, as shown by the balance of the sales account, is $506.75, the profit is the difference between these two amounts, thus: Income from Goods Sold $506.75 Cost of Goods Sold 881.00 Profit 125.75 This statement would be set up in bookkeeping form as follows: ILLUSTRATION 16 STATEMENT OF INCOME 45. The profit is designated as the gross trading profit because it is the profit which results from the buying and selling of or trading in merchandise. Gross trad- ing profit is defined as the difference between the income from safes and the cos of goods sold. If the cost of goods sold exceeds the income from sales, the difference is the gross trading toss. 46. It will now be of interest to ascertain where this profit of $125.75 is. As Mr. Fuller began business without capital and now has a cash balance of $47.75, which is so much capital, that much of his profit is accounted for in his cash account, leaving $78.00 still unaccounted for. The trial balance shows that three of his customers still owe him for goods sold, and that he owes one creditor for goods purchased, the amounts being as follows: INTRODUCTION TO BOOKKEEPING 31 Amounts Owed to Mr. Fuller (Assets) W. C. Archer $83.25 Harry Carter 124.50 William Martin 26.25 Total Amount Owed by Mr. Fuller (Liabilities) Samuel Howe Net Amount Owed to Mr. Fuller 234.00 156.00 78.00 47. It will thus be seen that the remainder of Mr. Fuller's profit is repre- sented in the difference between what others owe him and what he owes others. This exact amount would have been realized in cash if all sums owed to him and the sums he owed to others had been paid on or before January 31. STATEMENT OF ASSETS AND LIABILITIES 48. When profits are determined, it is also customary to ascertain one's financial standing by preparing a statement of assets and liabilities. This statement is prepared from the accounts in the trial balance which show assets and liabilities. If the cash balance were included, the above tabulation of amounts owed to and by Mr. Fuller would be a statement of his assets and liabilities. A complete statement, arranged in proper bookkeeping form, appears below. ILLUSTRATION 17 STATEMENT OF ASSETS AND LIABILITIES [j^^^^^^^^^-i^^^^ ^ubsti^^z>t^-,?/ t /2 7J~ 4*// 2-0 ANALYSIS 1. Is this an account with a debtor or a creditor? 2. For what amounts did Mr. Cloud become indebted to us? 3. How much of this indebtedness has been paid and canceled? 4. How much remains unpaid? 5. Is Mr. Cloud a debtor or creditor for this amount? 79. It is therefore evident that in accounts with debtors there are two classes of items debit items for the amounts for which they have become indebted to us, and credit items which wholly or partially cancel such indebtedness. As a matter of custom, debit items are always entered on the left-hand side and credit items on the right-hand side of ledger accounts. Canceling, or balancing, items are ruled out when they are entered, as shown in illustration 21. RULES FOR DEBITING AND CREDITING ACCOUNTS WITH DEBTORS 80. Debit their accounts for all amounts they owe us. 81. Credit their accounts for all items which wholly or partially cancel debit items in their accounts. 50 ACCOUNTANCY AND BUSINESS MANAGEMENT EXERCISE 9 Prepare an account from the following transactions with Robert G. Burns, 120 N. Eutaw St., City. Rule out balancing items as they are entered. Sept. 2 Sold him merchandise, $40.00 4 Sold him merchandise, $126.42. 9 Received cash for bill of Sept. 2, $40.00. 10 He returnepl goods for credit on bill of Sept. 4, $12.30. 12 Sold him merchandise, $56.20. 14 Received cash for balance due on bill of Sept. 4, $114.12. 15 Sold him merchandise, $125.90. 16 Billed him for undercharge on bill of Sept. 15, $3.68. 23 Sold him merchandise, $176.80. 27 Allowed him credit for defective goods on bill of Sept. 12, $7.50. EXERCISE 10 Transactions with Bell Bros., 19 Exchange Way, Columbus, Ohio. Oct. 1 Sold them merchandise, $126.40. 2 Billed them for freight prepaid on goods billed Oct. 1, $5.42. 7 Sold them merchandise, $198.25. 8 Allowed them credit for overcharge on bill of Oct. 1, $9.36. 12 Received cash for balance due on bill of Oct. 1, including freight charged thereon, $122.46. 15 Sold them merchandise, $272.80. 17 They billed us for goods returned for credit on bill of Oct. 7, $17.09. 23 Sold them merchandise, $85.40. 24 Billed them for express charges prepaid on bill of Oct. 23, $4.75. 27 Received cash for bill of Oct. 15, $272.80. 30 Received bill from them for shortage on bill of Oct. 23 and allowed credit, $3.75. ACCOUNTS WITH CREDITORS 82. Accounts with creditors are those kept with parties whom we owe and to whom we will later cancel our indebtedness by paying them the amount we owe. They will then cease to be our creditors. The following transactions with the John S. Wilson Company are correctly recorded in the account with them which appears on the next page : Aug. 12 Bought merchandise from them per bill of Aug. 6, terms 30 days, $74.20. Sept. 3 Bought merchandise from them per bill of Aug. 30, terms 30 days, $316.12. Sept. 5 Paid them cash for bill of August 6, $74.20. ELEMENTARY ACCOUNTING ILLUSTRATION 22 CREDITOR'S ACCOUNT 51 c> /Z . Jo. 1. 2. 3. 4. 5. ANALYSIS Is this an account with a debtor or a creditor? For what amounts did we become indebted to the John S. Wilson Co.? How much of this indebtedness has been paid and canceled? How much remains unpaid? Is the John S. Wilson Co. a deotor or creditor for this amount? 83. It is evident that in accounts with creditors there are two classes of items credit items for the amounts for which we have become indebted to them, and debit items which wholly or partially cancel such indebtedness. RULES FOR DEBITING AND CREDITING ACCOUNTS WITH CREDITORS 85. Credit their accounts for all amounts owed to them. 84. Debit their accounts for all items which wholly or partially cancel credit items in their accounts. EXERCISE 11 Prepare an account from the following transactions with M. C. Morgan, 1242 Eighth Ave., City. Rule out cancelling items as they are entered. Sept. 3 Bought merchandise from him, $342.50. 1 Bought merchandise from him, $72.16. 10 Paid cash for bill of Sept. 3, $342.50. 12 Received credit for goods returned on bill of Sept. 7, $12.40. 15 Bought merchandise from him, $158.55. 19 Paid cash for balance due him on bill of Sept. 7, $59.76. 21 Bought merchandise from him, $221.20. 24 Billed him for overcharge on bill of Sept. 15, $28.80. 28 Bought merchandise from him, $36.25. 30 Received credit for damaged goods on bill of Sept. 21, $11.80. EXERCISE 12 Transactions with Rodney, Gates & Co., 12 Pine St., Philadelphia, Pa. Oct. 2 Bought merchandise from them, $278.50. 3 Received bill for freight prepaid on bill of Oct. 2, $21.46. 7 Bought merchandise from them, $109.21. 52 ACCOUNTANCY AND BUSINESS MANAGEMENT Oct. 8 Billed them for goods returned because they were not of grade ordered, $35.27. 8 Paid cash for balance due them on bill of Oct. 2, $264.69. 10 Bought merchandise from them, $326.18. 11 Billed them for freight on bill of Oct. 7 which they were to prepay according to the terms of the purchase, $5.92. 12 Bought merchandise from them, $158.20. 20 Received credit for overcharge on bill of Oct. 12, $28.80. 22 Paid them balance due on bill of Oct. 7, $103.29. 26 Bought merchandise from them, $37.50. 30 Paid balance due on bill of Oct. 12, $120.40. 86. The balance of an account is the difference between the sum of the debits and the sum of the credits. When the balance of a personal account is to be determined, canceled items usually may be eliminated from the calculation, in which case the difference between the sums of the uncanceled items on the two sides of the account is the balance of the account. WHAT THE BALANCE OF A PERSONAL ACCOUNT SHOWS 87. The balance of a personal account is the amount owed to us or by us. If the debit side is the larger the balance is the amount owed to us, which, if it is not past due, is current asset. Current assets are cash and other assets which can be quickly converted into cash. If the credit side is the larger the balance is the amount owed by us, which is a current liability. Current liabilities are short- time debts. In either case the balance should appear as an item in the statement of assets and liabilities. Accounts with debtors and accounts with creditors are often referred to as accounts receivable and accounts payable, respectively. RULING PERSONAL ACCOUNTS 88. The proper ruling for a personal account depends upon the method followed in the payment of bills. Bills are usually paid in one of four ways: (a) each item or bill may be paid separately; (6) several items or bills may be paid at one time; (c) one item or bill may be paid in two or more payments, and (d) pay- ments may be made "on account" but not in full settlement of any particular item or bill. The latter is the method employed in "running accounts." Any one or more of these various methods of payment may be shown in a single account. The following accounts illustrate the various methods of payment re- ferred to and the proper rulings for each. Explanation. The Park Grocery Co. account illustrates the methods of payments described in 1J88a and ^[88b. It shows that the item debited March 6 was paid March 16, that the item debited March 12 was paid March 23, and ELEMENTARY ACCOUNTING 53 ILLUSTRATION 23 "t >%<2^ 24 ??Z^ 0. / 00 / 000 20 & 00 / 202 Note: Mr. Raymond ascertained his net capital as of January 31 because he entered into a partnership with another merchant on February 1. ELEMENTARY ACCOUNTING ANALYSIS 57 1. How much capital did Mr. Raymond invest during the first ten months he was in business? 2. How much did he withdraw from his invested capital during that tune 3! Did the loss on the business transacted during this period increase or decrease his capital? 4. What was his net capital at the beginning of the second year? 5. How much did he increase or decrease it during January? 6. What items entered into the final adjustment on January 31 when his net capital was again determined? Did these items increase or decrease his net capital? RULES FOR DEBITING AND CREDITING PROPRIETOR'S CAPITAL ACCOUNT 97. Debit the proprietor's capital account for items which decrease his invested capital. 98. Credit the proprietor's capital account for his investments and for items which increase his invested capital. 99. The balance of an owner's capital account, after the net profit or the net loss and any other amounts affecting it have been closed into it, shows the owner's net capital or net insolvency (a) wt capital when the credit side is the larger, and (b) net insolvency when the debit side is the larger. The capital ac- count'should be shown in a separate section of the statement of assets and liabili- ties, which is the last section of that statement. CLOSING THE CAPITAL ACCOUNT 100. The object in closing the proprietor's capital account is to show m one amount the net capital or net insolvency at the close of a fiscal period, and at the beginning of the next period. After the income and profit and loss statement has been prepared, the account is credited by a journal entry for the net profit or debited for the net loss shown by that statement. After this entry is posted, if the credit side is the larger, the balance of the account is the net capital. It is entered on the debit side to balance the account, which is then footed and ruled, and the net capital is brought down to the credit side under date of the next business day, as shown in illustration 27. 101. If the debit side is the larger after the net profit or net loss is posted to the account, the balance shows the net insolvency, which should be entered on the credit side to balance the account. The account is then footed and ruled, and the balance brought down under date of the next business day. 58 ACCOUNTANCY AND BUSINESS MANAGEMENT EXERCISE 13 Jan. 1 Henry B. Walters invested $2000.00. Feb. 15 He withdrew $500.00. July 1 He invested $1000.00. Oct. 22 He withdrew $200.00. Dec. 10 He purchased for his business with his private funds a store building and lot costing $6250.00. Dec. 31 His profit for the year, which he left in the business, was $1346.12. EXERCISE 14 Jan. 1 Charles E. Ford invested $3200.00 in cash, merchandise worth $900.00, notes made in his favor by his debtors $750.00, and accounts receivable from his debtors $500.00. Jan. 1 His liabilities to be paid upon their maturity out of the cash capital of his business were accounts payable to his creditors, $375.00; and notes payable, $800.00. Apr. 1 He invested $1000.00. May 15 He bought an automobile for his personal use which was paid for with money he withdrew from the business, $750.00. Nov. 20 He withdrew $500.00. Dec. 31 His net loss for the year was $275.40. PROPRIETOR'S PERSONAL ACCOUNT 102. The personal account of an owner is treated like any other personal account. It is kept under the name of the owner followed by the word "Personal." It is opened for the purpose of keeping incidental items separate from the more permanent investment items entered in his capital account. 103. The personal account of an owner is debited for: (a) all sums withdrawn for private use which are not to be deducted from the investment, (6) any personal debts paid from the funds of the business, (c) all sums collected from customers and retained by the owner. It is credited for: (d) any sums paid in subject to immediate withdrawal, (e) any debts o! the business paid from private funds which are not to apply on the investment, (/) the owner's salary when it is paid to him in partial payments as needed, (g) such part of the net profit the owner may direct. The following bills for the personal expenses of F. A. Raymond were paid out of the funds of his business and charged to his personal account, which is illustrated on the next page. The balance of this account was closed into the capital account, as shown in illustrations 27 and 28. ELEMENTARY ACCOUNTING Jan. 5 Paid gas bill, $7.50. 10 Paid life insurance premiums, $47.52. 16 Paid grocery bill, $31.40. 21 He withdrew cash, $75.00. 25 Paid his house rent, $35.00. 31 Paid electric light bill, $3.58. ILLUSTRATION 28 59 '7 " ^^ 7 /z 3/ *+*;**, t 3.0C /i ji^,^^ < j, ** 2/ &**&, 7* 31 ^r^^ \ 3 uL 2. a CJ 7 a o 104. The balance shows the amount to be paid to or by the owner, or to be closed into his capital account, as a final adjustment. When the personal account is to be closed into the capital account, it must be done by a separate journal entry. 105. The final disposition of the balance shown by the owner's personal account is determined entirely by the wishes of the owner. If it shows a debit balance, he may pay into the business out of his personal funds the amount of the balance, which will close the personal account. On the other hand, he might prefer to debit his capital account and credit the personal account for the balance of the latter, which likewise would close it. If his personal account shows a credit balance, he can draw it out in cash, or close the account by debiting it for its balance and crediting his capital account. EXERCISE 15 Record the following items affecting the personal account of John A. Butler: Dec. 1 Paid his house rent, $45.00. 2 He withdrew $100.00 to apply on his salary. 5 Paid provision bill, $35.20. 8 Paid auto license, $12.50. 10 He collected $22.50 from a customer and kept the money. 15 He made a temporary loan to the business of $175.00 to pay a note maturing today. 22 He withdrew $150.00 to apply on his salary. 60 ACCOUNTANCY AND BUSINESS MANAGEMENT Dec. 28 He paid an account of the business from his private funds, $32.75. 31 His account is to be credited for his monthly salary, $250.00. 31 His personal account is to be credited for his net profit, $928.16. 31 The balance of his personal account is to be closed into his capital account. NOTES AND DRAFTS NOTES 106. A promissory note is an unconditional written promise to pay a specified sum of money at a definite future time. It is a medium of exchange. There are two principal original parties to a note, the maker and the payee. The maker is the party who signs the note who makes the promise to pay. The payee is the party in whose favor the note is made the one to whom the amount is to be paid. ILLUSTRATION 29 107. In illustration 29 William B. Allison is the maker and Gordon Southard & Co. is the payee. The maker of a note usually owes or is in debt to the payee of the note, i.e., the maker is a debtor of the payee. DRAFTS 108. A draft is a written request to pay a specified sum of money at a certain future time. It is a medium of exchange. There are three parties to a draft, the drawer, the drawee, and the payee. The drawer is the party who makes the request. The drawee is the party upon whom the request is made and who, if he accepts the ELEMENTARY ACCOUNTING 61 request, becomes the payer or ''acceptor" of the draft. The payee is the party in whose favor the draft is drawn, the one to whom the amount of the draft is to be paid when due. ILLUSTRATION 30 109. In illustration 30 Cornell Brothers is the drawer, Winters, Van Fleet & Company is the drawee and acceptor, and Frank B. Cunningham is the payee. The drawee of a draft usually owes or is in debt to the drawer; i.e., the drawee is a debtor of the drawer. The payee is usually a creditor of the drawer. 110. When the drawer makes a draft payable to a third party it is generally spoken of as a "three party" draft, and in such case it may be assumed that the drawer owes the payee. 111. When the drawer and the payee is the same person, the draft is usually drawn for the purpose of collecting a debt. If the draft is drawn in favor of the payee's bank the same purpose is indicated. 112. Drafts are of two kinds as to time of payment. Those payable "at sight" are known as sight drafts and are usually payable on presentation. Those payable "after sight" or "after date" are known as time drafts. After a time draft has been accepted, it is known as an acceptance. 113. Accepting a draft is agreeing to pay it when it is due by writing the word "Accepted" across the face, followed by the date and the name of the drawee, who thus becomes the "acceptor," and the draft is known thereafter as an "accept- ance," as stated in the preceding paragraph. (See illustration 30.) 114. The date of maturity is the date on which the note or draft falls due. When the time is indicated in days, the exact number of days is meant, not counting the date of making or of acceptance, but counting the date of maturity. When the time is indicated in months, the same day of the maturing month is the date of maturity. Drafts and notes are called negotiable instruments. 62 ACCOUNTANCY AND BUSINESS MANAGEMENT 115. A draft drawn "after sight" begins to mature from the date of the accept- ance, and when drawn "after date" it begins to mature from the date the draft was drawn without regard to the date of acceptance. A note begins to mature from the date it is made. 116. Due on Sunday or a legal holiday. The law in nearly all states is that when the due date falls on Sunday or a legal holiday, the paper falls due on the next following business day. In a very few states it is due on the last preceding business day. Days of grace are three days formerly allowed in addition to the time specified for the payment of commercial paper. They have been abolished in all but a few states, and will doubtless be abolished in all states within a short time. 117. Negotiable notes and drafts are those which can be transferred by one party to another. To be negotiable, a commercial paper must contain the words "or order" or "or bearer." When it does not contain these words it is said to be non-negotiable, which means that it cannot be transferred by simple endorsement and delivery. In most states special statutes provide that such papers can be transferred by assignment, though the party to whom it is transferred gets no better title to the paper than the original holder had. 118. Transfer. When a payee transfers a negotiable note or acceptance, he does so by writing his name across the back, and then delivers the paper to the endorsee. This is known as an endorsement. When a note is transferred, the payee becomes the first endorser; when an acceptance is transferred, he becomes the second endorser, unless the draft is drawn by him in his own favor, in which case he is the first endorser. When commercial paper is made payable "to bearer" it is not necessary for the holder to endorse it when transferring it to another, but for prudential reasons it is generally requested and usually required. The differ- ent forms of endorsement are shown on the next page. These endorsements apply not only to notes and drafts but to checks and all forms of negotiable paper. NOTES RECEIVABLE AND NOTES PAYABLE 119. Notes receivable are the written promises of others to pay which are received by us. They consist of notes and accepted drafts the value of which we are to receive when -they are due. 120. Notes payable are our own written promises to pay given (issued) to others. They, consist of notes and accepted drafts the value of which we are to pay when they are due. 121. Both show a condition of indebtedness, notes receivable corresponding with accounts receivable and notes payable corresponding with accounts payable. The principal difference between a note receivable or a note payable and an account receivable or account payable is that the note is a written promise to pay, and the account indicates an oral or implied promise to pay. ELEMENTARY ACCOUNTING 63 ENDORSEMENTS (!N BLANK) J. A. Amsbaugh & Co. (!N FULL OR SPECIAL) Pay to the order of W. E. West. /. A. Amsbaugh & Co. (WITHOUT RECOURSE)* Pay to the order of W. E. West without recourse. J. A. Amsbaugh & Co. (RESTRICTED) Pay to W. E. West only. J. A. Amsbaugh & Co. (FOR COLLECTION) Pay Tenth National Bank for collection. J. A. Amsbaugh & Co. (ENDORSEMENT WITH GUARANTEE) We hereby guarantee the pay- ment of the within note. J. A. Amsbaugh & Co. (FOR PART PAYMENT) $50.00. July 5, 19 , Received on the within note Fifty Dollars.f * This means that the party so endorsing is relieved from any 'further clajm or liability as endorser. t The writing of the name of the holder on the back of a note is a receipt in full in the hands of the maker, therefore it should always be omitted in endorsing for partial payments. 122. Notes and acceptances are generally received and issued in settlement of personal accounts, thus changing oral promises into written promises, which are in fact written contracts. Note: If A owes B on account and afterwards A gives B his note or acceptance in settlement, while the record of A's indebtedness in B's books is transferred from A's personal account to the notes receivable account, A's indebtedness to B remains just the same. In some states and under some circumstances the written promise (note or acceptance) may be more binding upon A. 123. The principal advantage of notes and acceptances is that they are negotiable, that is, they are transferable from one person to another, which lends to them the characteristics of mediums of exchange and greatly increases their useful- ness in the transaction of business. 124. Because of their negotiability, notes and acceptances are frequently bought and sold, are discounted at bank to raise funds, are transferred "on account," and are sometimes given as security for loans or debts. 64 ACCOUNTANCY AND BUSINESS MANAGEMENT NOTES RECEIVABLE ACCOUNT 125. Notes receivable account is one of the class in which items relating to mediums of exchange are recorded. The object in keeping the account is to show: (a) The face value of notes and acceptances received from debtors, (b) The face value of such notes and acceptances which have been paid by their makers, or transferred by us before maturity to others to apply on debts owed to them, and (c) The face value of notes and acceptances receivable on hand at any date, which is a current asset. 126. Notes and acceptances receivable are considered to be "on hand" until actual payment of them has been received, even though some of them may have been sent to banks or placed in attorneys' hands for collection. 127. All items must first appear on the debit side of this account before they can appear on the credit side. As notes and acceptances of others are received they are entered on the debit side of the notes receivable account at their face value. As they are paid and returned to those who issued them, or are transferred to others, they are entered as canceling items on the credit side at their face value. 128. When a debtor issues to his creditor a note or acceptance covering a debt already recorded in their respective personal accounts, the creditor debits notes receivable account and credits his debtor's personal account for the face value of the paper. The debtor's record of the transaction is a debit to his creditor's personal account and a credit to notes payable account. Regardless of these bookkeeping entries, however, the debtor still continues to owe his debt until the note or acceptance is paid. He has simply changed an implied or oral promise to pay into a written promise to pay. Accordingly, the bookkeeping entries referred to merely transfer the record of the indebtedness from the debtor's personal account to the notes receivable account on the books of the creditor, and from the creditor's personal account to the notes payable account on the books of the debtor. 129. The giving of a written promise to pay, whether in the form of a note or acceptance, therefore does not pay the debt. In case a note or draft is not paid at maturity (when it ceases to be negotiable), it is the best accounting practice to charge it back to the debtor's personal account. In such case, the note or accept- ance becomes merely a written evidence of indebtedness over the signature of the debtor. The debtor continues to be responsible for his debt until the note is redeemed or the personal account is paid. For these reasons many concerns do not credit debtors' accounts for notes and acceptances received, but instead make a memorandum record of them in a notes receivable book. The debit items in the personal accounts of the debtors are not canceled until the notes or acceptances are paid. Notes and acceptances issued, however, should invariably be credited to ELEMENTARY ACCOUNTING 65 the notes payable account and charged to the personal accounts of the parties to whom they were issued. The following transactions are correctly recorded in the notes receivable account shown below: Jan. 1 Received note for $500.00. 4 Received note for $450.00. 6 Received accepted draft for $375.00. 15 Received cash for note entered on January 1. 15 Received note for $220.10. 17 Received acceptance for $360.75. 19 Received accepted draft for $900.00. 21 Received cash for draft entered on January 6. 23 Received note for $102.14. 24 Received cash for draft entered on January 4. 25 Transferred note entered on January 17 to a creditor in part pay- ment of his account. 26 Received check for draft entered on January 19. 31 Received 200.00 in part payment of note entered on January 15. ILLUSTRATION 31 / 3 >0 7 s zC, c. fee '7 / '. T'-i-'<---t^<*-t-t^-- 33 8-7 / r'? t* a 7 ANALYSIS 1. If no merchandise had been purchased during the month, what would have been the invoice cost of the goods available for sale from November 1? 2. What was the invoice cost of the goods purchased during November? 3. What was the total invoice cost of merchandise for the period? 4. What was ths invoice cost of the goods returned, the amount of rebates and allowances, and the total deductions from cost for the period? 5. What was the net invoice cost of merchandise for the period? 6. What was the invoice cost of the goods remaining unsold on November 30? 7. What was the net invoice cost of goods sold for the period? 8. What is the balance of the account and what does it represent? ELEMENTARY ACCOUNTING 75 RULES FOR DEBITING AND CREDITING PURCHASES ACCOUNT 156. Debit for the invoice cost of merchandise on hand at the beginning of and purchased during a fiscal period. 157. Credit for deductions from in- voice cost, and for the invoice cost of goods unsold at the close of the period. To CLOSE PURCHASES ACCOUNT 158. After the income and profit and loss statement has been prepared, the purchases account is closed by a journal entry crediting it for the amount of its balance shown in the trial balance. When this entry is posted, the account will be in balance and can be footed and ruled as shown in illustration 34. EXERCISE 21 C. H. Crook's transactions for. January affecting the purchases account were as follows. Record them in an account. Jan. 1 Inventory of merchandise on hand at beginning of business, $1892.73. 7 Bought merchandise for cash, $175.00. 11 Received credit memorandum for purchases returned, $13.45. 18 Bought merchandise for cash $112.42. 22 Received credit memorandum for defective goods purchased, $42.80. 25 Mr. Crook took for his private use merchandise which cost $11.85. 31 Total purchases of merchandise during month per total of purchases book, $3695.48. 31 Inventory of merchandise unsold at end of month, $1522.76. EXERCISE 22 Walter E. Lee's transactions affecting the purchases account for January, Feb- ruary, and March, in monthly totals, are as follows: Jan. 1 Inventory at beginning of period, $12,472.16. 31 Total of purchases returned during January, $117.28. 31 Total of purchases book for January, $3,278.46. Feb. 28 Total of rebates and allowances received during February, $96.19. 28 Total cash purchases during February, $276.80. 28 Total of purchases returned during February, $161.20. 28 Total of purchases book for February, $7,248.22.' Mar. 31 Total of rebates and allowances received during March. $39.25. 31 Total of purchases returned during March, $185.40. 31 Mr. Lee donated to charity at cost goods amounting to $75.40. 31 Total purchases for March per purchases book, $5,98(3.21 . 31 Inventory of merchandise unsold at end of period, $13,788.28. 76 ACCOUNTANCY AND BUSINESS MANAGEMENT ADDITIONS TO INVOICE COST OF GOODS SOLD 159. The balance of the purchases account shows the net invoice cost of goods sold, as explained in If 155 and illustrated in the above exercises. There are a number of other costs and expenses incurred in purchasing and handling merchandise which increase its cost; consequently, they must be added to the net invoice cost of goods sold in finding the total cost of goods sold. These additional costs and expenses include incoming freight, express, and drayage charges; boxing, packing, and shipping materials; warehouse wages, supplies, and expenses; salaries and expenses incurred in buying goods, etc. Such items are designated as "addi- tions to cost," and it is the best practice to keep separate accounts for them. As this practice is observed in this text, such accounts will be introduced later as required. SALES ACCOUNT 160. The object in keeping the sales account is to ascertain the net income from sales for a fiscal period. The account is credited for the selling price of all goods sold, which is the income from sales. It is debited for all items which decrease or reduce the income from sales. Such items are designated as "deduc- tions from sales," and consist of goods returned for credit, rebates and allowances on sales for defective or damaged goods and overcharges, and similar items. 161. The credit footing of the sales account is the total sales, or gross sales. The debit footing is the total deductions from sales. The total sales minus the total deductions is the net income from sales, which is the balance shown by the account. The following transactions are correctly recorded in the sales account which appears on page 77. Jan. 19 A customer was allowed a rebate of $7.56 for an overcharge on goods previously sold to him. 21 Allowed a customer a credit of $12.40 for damaged goods. 25 A customer reported a shortage in a shipment and was allowed a credit for $15.18. 31 A customer returned goods for credit amounting to $64.13. 31 The total sales for the month as shown by the total of the sales book were $7,124.38. ANALYSIS 1. What were the total sales for the period? 2. What was the amount of the goods returned for credit and the total of the rebates and allowances on sales? 3. What were the total deductions from sales? 4. What were the net sales for the period? 5. What is the balance of the account, and what does it represent? ELEMENTARY ACCOUNTING 77 ILLUSTRATION 35 >^ tf ^W^^^/ 7 S(, #,. 3, ^^ ^/Z^ 3? 2/ jQ&rma^C^^rrt&f / 2 V0 3.S J^KKJ^' /J // 3/ S^-^^G^ V 9 l"f 3/ o.oU. 25 Paid interest on a note due today, $7.80. 31 Received credit from bank for interest accrued on daily bank balance for quarter ending March 31, $17.16. ILLUSTRATION 40 INTEREST INCOME Mar. 17 3 30 Mar. 5 4 48 31 To close 24 94 17 6 IK) 31 17 10 28 24 28 24 ILLUSTRATION 41 INTEREST EXPENSE Mar. 2 9 17 Mar. 31 To close 25 (><) 7 3 00 12 5 72 25 7 80 25 69 25 (H) ANALYSIS 1. What was the total income from interest received for the month? 2. Were there any deductions from this income, and if so, what was the net income from interest received? 3. What is the balance of the interest income account, and what does it show? ELEMENTARY ACCOUNTING 89 4. What was the expense for interest paid during the month? 5. Were there any deductions from interest expense? 6. What is the balance of the interest expense account, and what does .it show? RULES FOR DEBITING AND CREDITING INTEREST INCOME ACCOUNT 199. Debit for items which reduce the income from interest received. 200. Credit for all income from interest received. RULES FOR DEBITING AND CREDITING INTEREST EXPENSE ACCOUNT 201. Debit for the expense in- curred for interest paid. 202. Credit for any items which reduce the expense incurred for interest paid. 203. To close. After the income and profit and loss statement has been prepared, the interest income account is closed by a journal entry debiting it for the amount of its balance shown in the trial balance. The interest expense account is closed by a journal entry crediting it for the amount of its balance. The accounts may then be footed and ruled as shown in illustrations 40 and 41. EXERCISE 32 C. J. Boone's transactions for July affecting the interest expense and income accounts are as follows. Record them in the proper accounts. July 2 Paid interest on note due at bank, $7.45. 5 Received interest on note due today, $5.20. 8 The bank discounted a note, deducting discount amounting to $3.68. 11 Received interest from customer on a note due today but renewed at his request, $8.38. 12 Paid interest bearing note due today, the interest amounting to $9.22. 15 Paid interest on an overdue account amounting to $7.48. 15 Received interest from customer on overdue account, $9.62. 15 Allowed customer credit on above interest for error in calculating it, $1.68. 17 The bank discounted a note, deducting discount amounting to $6.42. 18 Received rebate on interest paid on July 12, the interest being due for 30 days instead of 60 days, $4.61. 21 Received interest on note due today, $7.43. 31 Received credit from bank for interest accrued on bank balance $16.21. CAPITAL INVESTMENT ACCOUNTS 204. In almost every business some part of the invested capital is reinvested in tho property and equipment of various kinds required in conducting it, such as 90 ACCOUNTANCY AND BUSINESS MAX A! i KMKNT real estate, furniture and fixtures, machinery and tools, delivery equipment, etc. Property of this kind is to be distinguished from the merchandise purchased and from the materials and supplies consumed in operating the business. The property required in conducting a business is used continuously over a period of years and consequently the sums required to purchase it are more or less permanent invest- ments of capital. Such investments constitute that part of the invested capital which is not immediately available for the payment of current debts and expenses. For these reasons such investments are referred to as capital investments, and the accounts in which they are recorded are called capital investment accounts. The properties themselves are referred to as capital assets, or fixed capital assets. 205. A capital investment account should be debited for the cost of ths capital asset acquired. It is credited only for the cost of the whole or any part of the asset that is sold or otherwise disposed of, the purpose being to have the balance of the account represent at all times the cost of the property on hand. Any profit or loss resulting from the sale of a capital asset is recorded in a separate account opened for that purpose. EXPENSE AND INCOME ACCOUNTS RELATING TO CAPITAL ASSETS 206. Expenses are incurred and incomes are sometimes earned in connection with the ownership and use of capital assets. The various expenses incurred in their maintenance may be recorded in separate expense accounts, instead of charg- ing them to the general expense account, when it is desired to know the cost of maintaining each particular property. Likewise, some properties classed as capital assets produce incidental incomes which are not a part of the principal income resulting from the regular operations of the business, and hence are recorded in separate accounts. Such incomes are secured by renting vacant space in build- ings, leasing idle machinery, hiring the use of equipment to others, etc. 207. The question arises frequently as to whether expenditures made in connection with capital assets should be charged to the investment account or to the expense account. The following rules are usually observed by accountants: (a) All expenditures on a capital asset, whether for first cost or for improve- ments, up to the time the property is ready for use or becomes productive should be charged to the investment account. (b) All sums expended on a capital asset which increase its efficiency as an income-producing factor or its market value as an investment should be charged to the investment account. (c) All sums expended to maintain a capital asset at its normal efficiency as an income producing factor or at its original cost or investment value should be charged to the expense account. ELEMENTARY ACCOUNTING 91 REAL ESTATE ACCOUNT 208. Real estate is a general name that is applied to real property, which consists of land and the houses, buildings, and permanent improvements erected thereon. An investment account with all of the real property owned may be kept under the title of "Real Estate," or "Real Estate Investment," but it is better practice when more than one property is owned to open an account with each piece of property under an appropriate heading, such as, "House and lot, 96 North Street," and "Elm Township Farm." 209. The real estate account is a typical capital investment account repre- senting a permanent investment in a capital asset. The object* in keeping it is to show the original cost of an investment in real property, which includes: (a) The first cost of the property purchased, including the land, buildings, and other improvements thereon, and the cost of surveying, examination of title, recording fees, etc. (b) The cost of all permanent improvements which result in increasing the earning or rental value of the property, such as repairs and alterations, grading, sidewalks, etc. (c) The cost of taxes, interest on mortgages, or other similar items incurred prior to the time the property becomes productive or is ready for use. 210. The cost of these items constitutes the investment in the property. The account is credited for the original cost of the whole or any part of the prop- erty sold or otherwise disposed of. The balance of the account at all times is the original cost of the property on hand, which is a fixed capital asset that should appear in the statement of assets and liabilities. The following transactions are recorded in the account which appears on the next page: Jan. 1 Purchased an 80 ft. lot improved by a 40 x 60 ft. building known as 9 West Main Street for a purchase price of $11,500, the cost of the lot being $6,000 and of the building $5,500. 5 Paid contractor's bill of $450.00 for permanent improvements and alterations on the store building. 6 Paid for examining the title and recording the deed for the property, $63.75. 12 Paid for repairing the sidewalk and putting in new front steps, $86.25. The property was ready for use on January 15. 25 Sold the vacant half of the lot for cash, $3,000. ANALYSIS 1. What was the purchase price of the property when it was taken over? 2. How much was spent -for improvements and other outlays until the time the property was ready for use? 92 ACCOUNTANCY AND BUSINESS MANAGEMENT ILLUSTRATION 42 ' / (two ^ 2* J000 ' s VS0 J/ &eiasns^' 7/00 (,3 7* /i yroo Zt, 25 / 2/00 / 2 /Of) &b ' ^_ J/ OO 3. What was the original cost price of the entire investment? 4. Why was the account credited for $3,000? 5. What is the balance of the account, and what does it represent? FURNITURE AND FIXTURES ACCOUNT 211. Furniture and fixtures is a general name applied to the furniture, fixtures, machines, and appliances required to equip business offices and stores for the efficient transaction of business. The cost of such furniture and equip- ment is recorded in the furniture and fixtures account, which is another typical capital investment account. It is debited for the cost of all furniture and equip- ment. It is credited for the cost price of anything sold which has previously been charged to the account. The balance of the account is at all times the cost of the furniture and equipment on hand, which is a fixed capital asset that should appear in the statement of assets and liabilities. ILLUSTRATION 43 /jr '7 7-* Jfl so ffO fO 3/ ELEMENTARY ACCOUNTING 93 ANALYSIS 1. What was the total cost of the furniture and fixtures charged to the above account? 2. What reasons can be suggested for the credit to the account dated Jan- uary 31 for $5.00? 3. At what price was the copy press credited to the account? 4. What is the balance of the account, and what does it represent? RULES FOR DEBITING AND CREDITING CAPITAL INVESTMENT ACCOUNTS 212. Debit for the cost of capital assets, including all expenditures (if any) until the time they become pro- ductive or ready for use. 213. Credit for the cost price of the whole or any part of a capital asset sold or otherwise disposed of. CLOSING CAPITAL INVESTMENT ACCOUNTS 214. A capital investment account is never closed except: (a) When the capital asset is sold or otherwise disposed of, and (b) When the account contains so many items that it is desirable to re-state them in one total amount, which is done by entering the balance of the account on the lesser side, footing and ruling it, and bringing the balance down on the opposite side as shown in illustrations 42 and 43. EXERCISE 33 J. K. Marston began business as a retail grocer on May 1. His transactions involving the purchase of capital assets are given below. Record them in the proper accounts. May 1 Purchased a store and lot at 122 Pine Street, the price of the store building being $4,250.00 and of the lot $2,500.00. 1 Paid for examining the title, recording the deed, and real estate agent's commission for negotiating the purchase, $172.50. 3 Purchased furniture and equipment required to equip the office and store, the bill amounting to $478.60. Mr. Marston desires to have but one account kept for both the office and store furniture and fixtures. 9 Paid carpenters' bill for building shelves and counters, $100.00. These shelves and counters are not permanent improvements to the building. 94 ACCOUNTANCY AND BUSINESS MANAGEMENT 11 Paid plumber's bill for repairs and replacements required to put the plumbing in first class condition, $16.20. 15 Mr. Marston opened his store for business on this date, all altera- tions and repairs having been completed. 18 He returned for credit a single typewriter desk included with the other furniture and fixtures purchased on May 3, the cost of which was $21.50, and purchased in place of it a combination typewriter and flat-top desk for $37.50 and paid the difference. 22 Paid for an electric coffee grinding machine, $75.00. 29 Sold a hand-operated coffee grinding machine for $15.00, the cost of which was $20.00. REAL ESTATE EXPENSE 215. The real estate expense account is kept to show the expenses incurred in maintaining real property. It is an expense account typical of the kind kept in connection with the investment account for a capital asset. As explained in paragraph 206, the expenses of maintaining capital assets may properly be recorded in the general expense account, but when it is desired to separate the expenses incurred in maintaining a particular property from other expenses, they should be recorded in a special expense account. 216. The real estate expense account is debited for all expenses incurred in maintaining the real estate owned. It is credited for any rebates or deductions resulting from overcharges on the items debited to the account. The balance of the account is the net expense of maintaining the real property owned for a fiscal period. The expenses on real estate used in a business are part of its general or operating expenses. The expenses on real estate owned by but not used in -a business are included in the group of accounts designated as "deductions from income," because in that case they are not operating expenses of the business. The following transactions are properly recorded in the account which appears at the top of page 95. Jan. 15 Paid tinner's bill for repairing roof and rain spouts, $6.50. 25 Paid plumber's bill for repairing frozen pipe, $2.56. 31 Paid city tax bill for installing extra water hydrant, $3.50. 31 Paid annual premium on fire insurance policy covering the store building, $8.50. ANALYSIS 1. What were the total real estate expenses paid during the month? 2. What is the balance of the account, and what does it represent? 217. To close. After the income and profit and loss statement has been prepared, the real estate expense account is closed by a journal entry crediting it for the amount of its balance shown in the trial balance. The account may then fee footed and ruled as shown in illustration 44. ELEMENTARY ACCOUNTING ILLUSTRATION 44 A^ ~. ^^^ & ft? A j/ ^^^ 3/ = 2S . 2 -? (o JV ^^z^ 3 SO J/ Jhi^' tf ,-?/ tf h_ . -3 / ^ REAL ESTATE INCOME ACCOUNT 218. The real estate income account is kept to show the income received from real property. It is an income account typical of the kind kept in connec- tion with the investment and expense accounts for a capital asset. Since the in- come from real property is not a part of the principal income derived from the regular income-producing operations of a business, is recorded in a special account as explained in paragraph 206. 219. The real estate income account is credited for all incomes received from real property, owned or rented. It is debited for any reductions from such income. The balance of the account is the net income from real estate for a fiscal period which is included in the group of accounts designated as "additions to income." The following transactions are properly recorded in the account which appears below: Received cash for rent of second floor of the store building, $22.50. Received cash for storing temporarily the surplus stock of another merchant, $10.00. Refunded $2.50 to the tenant on the second floor in consideration of his signing a year's lease for the space at a monthly rental of $20.00. Jan. 2 20 25 ILLUSTRATION 45 REAL ESTATE INCOME Jan. 25 31 To close 2 30 50 00 Jan. 2 JO 22 10 32 50 00 50 32 50 f6 ACCOUNTANCY AND BUSINESS MANAGEMENT ANALYSIS 1. What was the total income from real estate received during the month? 2. . What was the net income? 3. What is the balance of the account, and what does it represent? 220. To close. After the income and profit and loss statement has been prepared, the real estate income account is closed by a journal entry debiting it for the amount of its balance shown in the trial balance. The account may then be footed and ruled as. shown in illustration 45. EXERCISE 34 Classify and record the following transactions in the general expense, real estate expense, and real estate income accounts: May 2 Paid bill for office supplies and stationery, $8.65. 3 Received rent for offices on the second floor of the store building, $20.00. 8 Paid city and state taxes on the assessed value of the building and lot for the current year, $211.83. 10 Paid gas and electric light bill, $9.43. 12 Paid carpenter's bill for repairs on floors, steps, weather stripping, etc., $18.00. 15 Rented a vacant office on the second floor and received rent for one- half month, $6.25. 15 Paid salaries and wages of office help and clerks, $170.00. 21 Paid the premium on a fire insurance policy covering the building, $12.40. 24 Paid advertising bill for the announcement of a special sale, $36.00. 28 Paid bill for painting the front of the building, $20.00. 31 Paid salaries and wages of office help and clerks, $170.00. 31 Paid proprietor's salary, $175.00. RECORDING TRANSACTIONS AND POSTING TO THE LEDGER 221. Instruction and practice in recording transactions in books of original entry, and in posting the entries in such books to ledger accounts, are provided in the "Introduction to Bookkeeping" at the beginning of this text, and in the Elemen- tary Set which accompanies it. As explained therein, a book of original entry is any book which receives the first entry of a transaction. Posting is the process of transferring the debit and credit items from books of original entry to the ledger. The ledger is the book of final entry. ELEMENTARY ACCOUNTING 97 222. In the development of ledger accounts from page 48 to page 9G inclusive, debit and credit items were entered directly in the accounts. Original entries and posting were dispensed with in order to simplify the presentation of the principles involved in keeping these accounts. The accounts treated are shown as they appear after the debit and credit items are posted to them from books of original entry. The process of recording transactions and posting to ledger accounts is explained and illustrated in connection with the model set in the Introduction to Bookkeeping beginning on page 12. TRIAL BALANCE 223. After all entries are posted to the ledger, the next step in bookkeeping procedure is to take a trial balance. A trial balance is a list of open accounts in the ledger, with the balance of each account set opposite its name, showing that the sum of the debit balances is equal to the sum of the credit balances. Trial balances are usually taken on the last day of each month, and must always be taken before the statements which show the results of the business transacted for a fiscal period are prepared. The following trial balance includes all the accounts heretofore considered in this text. It will serve as a basis for instruction in the preparation of statements. ILLUSTRATION 46 TRIAL BALANCE, DECEMBER 31, 19 . JOHN SPANGLER v Cash 1187 52 | Merchandise Inventory 2736 84 Notes Receivable 578 60 Accounts Receivable 2975 43 Real Estate Investment 7250 00 Furniture and Fixtures Investment 428 75 Notes Payable 3006 86 Accounts Payable 1635 80 John Spangler, Capital . 10000 00 John Spangler, Personal 122 50 Purchases 6278 37 Freight In 91 72 Warehouse Expense 275 84 Sales 7719 16 General Expense 388 70 Real Estate Expense 75 16 Real Estate Income 35 00 Interest Expense 21 72 Interest Income 14 33 22411 !.-> 22411 15 98 ACCOUNTANCY AND BUSINESS MANAGEMENT Explanation: The accounts receivable item in the trial balance includes the balances of all personal accounts showing debit balances. The accounts payable item includes the balances of all personal accounts showing credit balances. Ac- counts receivable and accounts payable are grouped in this way to shorten the trial balance. A detailed exhibit that includes the items which make up the balance of an account in a trial balance or statement is called a supporting schedule. The following schedules support the accounts receivable and accounts payable items referred to: Schedule A Accounts Receivable Schedule B Accounts Payable M. J. Forgan 782 91 Platt & Co. 313 18 Bronson Bros. 598 26 James L. Vernon 209 70 R. C. Nelson & Co. 322 50 Matthews & Kling 778 96 Dodd Mercantile Co. 978 20 Bell & Bell 333 90 Wilson & Marcott 293 56 Total accounts payable 1635 80 Total accounts receivable 2975 43 224. A trial balance does not necessarily prove that the accounts in the ledger are correct it demonstrates merely that the sum of the debits is equal to the sum of the credits. Any one or more of the following errors might exist in a ledger and a trial balance could still be taken from it: (a) A debit or a credit item posted to the wrong account; as for example, the posting of a debit of $10.00 to general expense instead of to real estate expense. (b) The posting of a debit item to the credit side of the ledger and the posting of the corresponding credit item to the debit side; as for example, debiting a debtor's personal account and crediting notes receivable for a note received from him. (c) An error in addition or subtraction in footing accounts and finding their balances, which is equalized by a similar error for the same amount on the opposite side of the ledger. Note: Other errors detected at the time the trial balance is taken will be referred to later. 225. The errors mentioned above are detected by a process called "check- ing," which consists of comparing all postings with the entries in the books of original entry to determine whether each entry has been correctly posted. All figures should be checked as the footings and balance of each account are calculated. 226. Accounts may be grouped in two principal classes: (a) asset, liability, and capital accounts, and (b) income and profit and loss accounts. The statement ELEMENTARY ACCOUNTING 99 of assets and liabilities is prepared from the asset, liability, and capital accounts. The statement of income and profit and loss is prepared from the income and profit and loss accounts. Accounts showing assets, costs, expenses, and losses have debit balances. Accounts showing liabilities, invested capital, incomes, and profits have credit balances. Classify mentally the accounts in the trial balance shown in illustration 46 under the two principal groups named above. Then reclassify them according to whether they represent assets, liabilities, capital, costs, expenses, losses, incomes, or profits. INCOME AND PROFIT AND LOSS STATEMENT 227. The income and profit and loss statement is prepared at the close of each fiscal period to exhibit in detail the results of the income-producing operations of a business, which are expressed finally in terms of net profit or net loss. The net profit may be quickly found by adding the balances of the income and profit and loss accounts showing credit balances, and deducting from the total the sum of the balances of such accounts showing debit balances, as shown by the following tabula- tion prepared from the above trial balance. Sales 7719.16 Real Estate Income 35 . 00 Interest Income 14 . 33 Total credit balances 7768.49 Purchases 6278.37 . Freight In 91.72 Warehouse Expense 275.84 General Expense 388.70 Real Estate Expense 75.16 Interest Expense 21 . 72 Total debit balances 7131 . 51 Net Profit 636.98 228. An income and profit and loss statement, however, should be arranged to exhibit in their proper relations all the essential facts and figures shown by the accounts, so as to provide the detailed and properly classified information that is necessary in managing a business intelligently. The statement on page 101, show- ing the same final result as the above tabulation, was prepared from the same accounts in the trial balance, but includes an analysis of the purchases and sales accounts, which appear in the ledger as follows: 100 ILLUSTRATION 47 ACCOUNTANCY AND BUSINESS MANAGEMENT PURCHASES Dec. 1 Inventory 2276 80 Dec. 5 Rebate 12 Hi 14 Cash purchase 92 50 18 Return 32 L'O 31 Pch. Bk. total 6724 11 27 Rebate 33 84 6278.37 9093 41 31 Inventory 2736 XI 2815 04 SALES Dec. 3 Return 23 60 Dec. 9 Cash sale 28 02 17 Rebate 42 30 20 Cash sale 21 80 23 Return 45 12 31 Sales Bk. total 7779 76 The preparation of statements is facilitated when explanations such as the above are included in posting to accounts which must be analyzed in a statement. CONSTRUCTION AND INTERPRETATION OP INCOME AND PROFIT AND Loss STATEMENT 229. This statement is arranged in "report" form. It is divided into five sections under the captions "Income from Sales," "Cost of Goods Sold," "Operat- ing Expenses," "Additions to Income," and "Deductions from Income." 1. The sales account is analyzed in the "income from sales" section for the purpose of exhibiting certain units of information that are not shown in a state- ment prepared from trial balance figures only, such as the tabulation on page 99 and the statement on page 83. The gross sales is the credit footing of the account. This item is frequently designated as total sales. The items under deductions from sales are the returned sales and rebates and allowances on sales debited to the account. The difference between the total sales and the sum of the deductions is the net income from sales, or balance of the sales account. 2. The purchases account is anaryzed in the "cost of goods sold" section. The Inventory of December 1 is the invoice cost of the goods which were on hand at the beginning of the fiscal period and which was consequently debited to the account at that time. To this inventory is added the invoice cost of goods pur- chased during the period to find the total invoice cost of merchandise for the period. From this amount is deducted the invoice cost of the goods on hand at the close of the period, represented by the credit to the purchases account for the inventory of December 31, to find the total invoice cost of goods sold for the period. It is evident that the invoice cost of goods sold must be the inventory at the beginning of a period, plus the purchases during the period, minus the inventory at the close of the period. ILEMEXTARY ACCOUNTING ILLUSTRATION 48 IXCOME AND PROFIT AND Loss STATEMENT, DECEMBER 31, 19 101 JOHN SPANGLER Income from Sales: Gross sales 7830 18 Deductions from sales: Returns 68.72 Rebates and allowances 42.30 111 02 Net income from sales 7719 16 Cost of Goods Sold: Inventory Dec. 1, 19 . 2276 80 Purchases during month 6816 61 Total invoice cost of merchandise 9093 41 Inventory Dec. 31, 19 2736 84 Total invoice cost of goods sold 6356 57 Deductions from cost: Returns 32.20 Rebates and allowances 46.00 78 20 Net invoice cost of goods sold 6278 37 Additions to cost : Freight in 91 72 Warehouse expense 275 84 Total cost of goods sold 6645 93 Gross Trading Income 1073 23 Operating Expenses: General expense 388 70 Real estate expense 75 16 463 86 Net Income from operations 609 37 Additions to Income: Real estate income 35 00 Interest income 14 33 49 33 Total income from operations and all other sources 658 70 Deductions from Income: Interest expense 21 72 Net Profit for the month 636 98 102 ACCOUNTANCY AND BUSINESS MANAGEMEXT After the invoice cost of goods sold has been determined, any deductions from such cost for returned purchases and rebates and allowances on purchases must be subtracted to find the net invoice cost of goods sold, which is the balance of the purchases account. To this amount must be added any additions to cost for trading expenses, such as freight in and warehouse expense, to find the total cost of goods sold. Such expenses are called trading expenses because they decrease the gross trading profit, since they must be included in the cost of goods sold. The difference between the net income from sales and the total cost of goods sold is the gross trading profit. This profit is frequently referred to as the gross trading income, and is so designated in this statement. It is the income derived directly from the buying and selling operations before any other incomes have been added or before any non-trading expenses have been deducted. 3. "Operating expenses" are the general expenses applicable to and incurred by a business as a whole and which therefore cannot properly be charged against any particular department or operation. They may be designated as non-trading expenses to distinguish them from trading expenses, which are included in the cost of goods sold in finding the gross trading income, as stated in ^[2 above. In other words, trading expenses must be included in the cost of goods sold, but operating expenses must be excluded from such cost and must be set up, in calculating the net profit, as one of the deductions from gross trading income after it has been ascertained. Operating expenses must of necessity be incurred in order to earn income and profits. Some of them, such as rent, insurance, and taxes, are fixed charges; that is, they are incurred and must be paid regardless of whether a concern is making money or not. If earnings are not sufficient to meet them, they must be paid out of capital. Other operating expenses, such as light, fuel, salaries and wages, public service charges, materials and supplies, etc., can be reduced or eliminated in case of low earnings, lack of business, or temporary suspension of operations. The operating expenses included in this statement are the expenses recorded in the general expense and real estate expense accounts. The real estate expenses are included in operating expenses because the real estate is owned by and used in the business. If this real estate, while owned by the business as an investment, were not used in conducting it, the real estate expenses would not be considered as operating expenses, but in such case would be included in "deductions from income" as a non-operating expense. The difference between the gross trading income and total operating expenses is the net income from operations. 4. "Additions to income" include the incidental and miscellaneous incomes which are not earned by the regular income-producing operations of a business. They are therefore non-operating incomes. The income from real estate is an incidental earning resulting from renting a portion of the space in the building in ELEMENTARY ACCOUNTING 103 which the business is conducted. As the investment in the building is a capital asset, the income received from the investment in the form of rentals is a capital income. The income from interest is likewise an incidental income which results from having sufficient capital invested to loan money directly or indirectly to debtors temporarily. The sum of the net income from operations and the addi- tions to income is the total income from operations and all other sources. 5. "Deductions from income" include incidental expenses which cannot properly be charged against the regular income-producing operations of a business as operating expenses in finding the net income from operations. They are there- fore non-operating expenses. The interest expense included under this heading represents an expense that would not have been incurred had sufficient capital been invested to pay all debts and obligations when they matured. It represents the cost of borrowing money directly or indirectly with which to finance the business. For these reasons it is classified as a capital expense. The difference between the total income from operations and all other sources and the sum of the deductions from income is the net income for the fiscal period. The net income is generally referred to as the net profit, and is so designated in this statement. STATEMENT OF ASSETS, LIABILITIES, AND CAPITAL 230. The assets and liabilities of a business and its financial condition on a given date are set forth in the statement of assets, liabilities, and capital. The difference between the total assets and total liabilities is the net assets when the assets are the larger, or net liabilities when the liabilities are the larger. The net assets represent the proprietor's interest or equity in his business, and constitute his net capital. The net liabilities are the excess of creditors' claims over the assets available to meet them, and constitute the proprietor's net insolvency. Cash 1187.52 Merchandise Inventory 2736.84 Notes Receivable 578.60 Accounts Receivable 2975.43 Real Estate Investment 7250.00 Furniture & Fixtures Investment 428.75 Total Assets 15157.14 Notes Payable 3006.86 Accounts Payable 1635.80 Total Liabilities 4642.66 Nt Aneto 10514.48 104 ACCOUNTANCY AND BUSINESS MANAGEMENT 231. The net assets may be quickly ascertained by adding the balances of the asset accounts, and deducting from the total the sum of the balances of the liability accounts, as shown by the tabulation on page 103, which was prepared from the trial balance on page 97. 232. In a properly prepared statement of assets, liabilities, and capital, however, the assets and liabilities are exhibited in classified order in their proper relations so as to provide all the units of information required to interpret the statement correctly. The following statement, showing the same final result as the tabulation referred to, was prepared from the same accounts: ILLUSTRATION 49 STATEMENT OF ASSETS, LIABILITIES, AND CAPITAL, DECEMBER 31-19 . JOHN SPANGLER Assets Current Assets: Cash 1187.52 Merchandise inventory 2736.84 Notes receivable 578.60 Accounts receivable 2975.43 7478 7678 39 75 15157 4642 14 06 Total current assets Fixed Capital Assets: Real estate investment 7250.00 Furniture and fixtures investment 428.75 Total fixed capital assets Total Assets Liabilities Current Liabilities: Notes payable Accounts payable Total liabilities Net Assets Capital John Spangler, Capital % 10000.00 Add Net Profit for December per I. & P. & L. Statement 636.98 3006 1635 86 80 98 50 10636 122 10514 10514 48 48 Deduct John Spangler, Personal % John Spangler's Net Capital December 31, 19 . ELEMENTARY ACCOUNTING 105 CONSTRUCTION AND INTERPRETATION OF STATEMENT OF ASSETS, LIABILITIES, AND CAPITAL 233. This statement is divided into three sections under the captions "Assets," "Liabilities," and "Capital." It is arranged in "report" form, which requires the assets, liabilities, and capital to be listed in the order named. In S3tting up this statement, the assets are usually classified or grouped as current assets and fixed capital assets. Liabilities should be arranged in the same relative groups; namely, current liabilities and fixed liabilities. There are, however, no fixed liabilities to be considered in this instance. Assets are also called resources; hsnce this statement is frequently referred to as the statement of resources and liabilities. It is sometimes called the statement of financial condition. 1. Current assets consist of cash and such other assets as can be quickly con- verted into cash or its equivalent if necessary to meet maturing debts. They are frequently referred to as quick, liquid, or floating assets, because they are quickly convertible into cash or its equivalent and because they fluctuate con- tinuously in amount as a result of the daily transactions of a business. Current assets should be listed in the order of their availability to meet maturing obligations or convertibility in securing working cash capital. As the cash on hand is always immediately available to pay debts, it is given first place in the statement. Th3 merchandise inventory is given second place because the stock in trade is continuously being converted into cash as goods are sold, and for the further reason that loans for a considerable part of the present market value of the goods on hand can usually be negotiated at bank when the stock in trade is offered as security. Notes receivable are listed next because they are short-time contracts to pay at a specified date, and because they can usually be readily discounted at bank if the notes are made and endorsed by responsible parties. Debtors' ac- counts receivable are listed next because they are usually short-time debts based upon implied promises to pay at the expiration of the term of credit, and can ordinarily be collected sooner if a sufficient inducement in the way of a cash discount is offered for prepayment. They can also be offered to banks as security for loans for a part of their book value if they are "good" accounts. They may also be sold at a discount to concerns which make a business of buying accounts receivable from business men who are in need of funds. These concerns collect the accounts they buy at their book value at maturity, and their profit is the difference between the book value and the discounted value at which they were purchased. These concerns, however, charge back any part of an account which cannot be collected to the party from whom it was purchased. Accounts receivable that are past due and which therefore may not be collected should not be listed as current assets with such other accounts receivable as are not yet due, but should be included in the statement as "Doubtful Accounts Receivable" under the caption "Other Assets." 106 ACCOUNTANCY AND BUSINESS MANAGEMENT Fixed capital assets are the permanent investments in the various kinds of property and equipment required in conducting a business. They are to be distinguished from investments in stock in trade and such other assets that are purchased to be sold at a profit. As a rule they are the kind of assets in which some part of the capital of a concern must first be invested before the income- producing operations can be started or maintained. They do not fluctuate in amount as a result of daily routine transactions and cannot be as readily converted into cash as current assets. However, because of their status as permanent investments in tangible real or personal property, most of them can be pledged as security for long-time loans when funds are borrowed to finance current obliga- tions, new operations, or permanent improvements and betterments. Fixed capital assets are usually listed in the order of their importance and permanence as investments, the largest being listed first. 2. Liabilities should be grouped in the same relative order as assets. When current assets are stated first among the assets, current liabilities should be listed first among the liabilities. Current liabilities are the obligations and debts which will mature and be payable in the near future, and thus as a rule represent the first claims upon assets. Careful management requires that care be taken at all times to have sufficient current assets available to pay current liabilities as they mature, in order to keep the credit of a concern unimpaired. Current liabilities should be listed in the order in which they will have to be liquidated. Notes payable are listed first because they are usually short-time written promises or contracts to pay on definitely specified dates. Accounts payable are listed next because they are usually short-time debts based upon implied promises to pay at the expiration of the term of credit. As previously stated, there are no fixed liabilities in this statement. The long-tune loans referred to above in connection with fixed capital assets, such as mortgages on real estate and bonded indebtedness, are examples of fixed liabilities. 3. The capital of a business at a given date is its owner's net assets invested therein. The net assets are the total assets minus the total liabilities. The net assets are equal to the proprietor's capital investment at the beginning of a given period plus the profit or minus the loss for the period, and plus or minus the balance (if any) of the proprietor's personal account, which is usually closed into the capital account at the close of the period. Mr. Spangler's income and profit and loss statement shows that he has made a profit of $636.98. His wealth has been increased by the amount of this profit. Any part of the net profit may be withdrawn, or it may be allowed to remain in the business as an addition to invested capital. If Mr. Spangler had allowed his entire profit to remain in his business, his invested capital would have been increased by the amount of the profit. If he had withdrawn all of the profit, his invested ELEMENTARY ACCOUNTING 107 capital would have remained unchanged, because in that case the profit would no longer have been included in the assets of his business. Mr. Spangler's books show that during the month thsre were paid out in settlement of his personal debts sums amounting to $122.50, which were charged to his personal account. Such items are to be regarded as withdrawals of profit made prior to the date on which the net profit is ascertained. The difference between $636.98 and $122.50, or $514.48, is the amount of the profit yet to be disposed of in the final adjustment of his accounts for this period. Mr. Spangler desires to have it credited to his capital account as an addition to invested capital. This disposition and adjustment of his profit is provided for in the capital section of the statement of assets and liabilities. The proprietorship interest in a business, as set forth in the statement of assets and liabilities, may therefore be stated in the form of an equation as follows: Assets Liabilities = Capital In the ledger, however, assets are debits and liabilities are credits, because the only way to distinguish between them in keeping books by double entry is to record them on opposite sides of their respective ledger accounts. No provision is made in double entry bookkeeping for the usual method of subtracting one item from another as required in the above equation. The only way to secure a sub- traction in the ledger is to record the item to be subtracted on the opposite side of either the same or another account. For example, the credit items in debtors' accounts are subtractions from debit items. Likewise, the debit items in creditors' accounts are subtractions from credit items. Hence, transposing the negative quantity in the above equation gives a new equation which states the proprietor- ship interest in ledger form, thus: , Assets = Liabilities + Capital Substituting the total assets, total liabilities, and net capital, as shown in the statement of assets and liabilities, for the members of the above equation, we have the following: Total Assets 15157.14 Total Liabilities Capital 4642.60 10514.48 15157.14 15157.14 Since in double entry bookkeeping an equality of debits and credits is to be maintained, and further, since assets are debits and liabilities are credits, it follows that capital must be treated as a credit for bookkeeping purposes. It is erroneous, however, to reason that since capital is a credit it is in any sense a liability of ite 108 ACCOUNTANCY AND BUSINESS MANAGEMENT owner or of the business in which he invested it, or that the business owes the proprietor the amount of the capital invested. Since an owner owns his business h'.* cannot be owed for something which already belongs to him. The credit balance of liis capital account merely shows the excess of his assets over his liabilities, and represents his interest or equity in his assets. His liabilities represent the claims held by his creditors against his assets. If he has no liabilities he is the sole owner of his assets, and the balance of his capital account will be equal to the sum of his assets. It stands as a credit in the ledger as an offsetting or balancing item against the assets appearing on the debit side. The accounting practica of treating asssts as debits, and liabilities and capital as credits, is the equivalent of crediting a proprietor in his capital account for his assets and debiting him for his liabilities, thus : Assets Total assets 15157.14 Liabilities I Total liabilities John Spangler, Capital 4642.66 Total liabilities 4642.66 Total assets 15157.14 The capital account as now set up above shows the same balance as it would if the proprietor were credited with his net assets, or the difference between his total assets and total liabilities, thus: John Spangler, Capital Net assets 10514.48 A trial balance of the above ledger accounts thereforehows: Assets Liabilities John Spangler, Capital 15157 15157 14 14 464266 10514 48 15157 14 RECONCILIATION OF INCOME AND PROFIT AND Loss STATEMENT WITH STATEMENT OF ASSETS, LIABILITIES, AND CAPITAL 234. The net profit or net loss for a fiscal period can be determined by taking the difference between the net capital at the beginning and the net capital at the close of the period. If the net capital at the close of the period is the larger, the ELEMENTARY ACCOUNTING 10ft difference is the net profit. If it is less than the net capital at the beginning of the period, the difference is the net loss. Stated in another way, since the net capital of a business is its net assets, the amount of the increase in net assets during the period is the net profit, or the amount of the decrease is the net loss. The follow- ing tabulation shows how the final results in the income and profit and loss statement and statement of assets and liabilities are reconciled in proving the correctness of the net profit: Net capital at close of period 10514.48 Net capital at beginning of period 10000.00 Profit credited to capital account of proprietor 514.48 Profit withdrawn during period and charged to pro- prietor's personal account. 122.50 Net profit shown by income and profit and loss statement. 636 . 98 CLOSING THE BOOKS 235. It is the best practice to post daily all current entries in the books of original entry and to post the totals of the books at the end of the month, after which they may be ruled and closed for the month. In order to make a periodical test of the equality of debits and credits in the ledger, it is customary to take a trial balance at the end of each month. By doing so, errors in original entries or in posting may be detected and corrected promptly. 236. As a rule it is ^customary to prepare statements "and ascertain the net profit or loss and the financial condition of a business annually at the end of each fiscal period, although in some instances they are prepared semi-annually, quarterly, or even monthly. The ledger should be closed at the end of each fiscal period, after the annual statements have been prepared, for the following purposes: (a) To indicate the end of an accounting or fiscal period. (b) To close the current income and profit and loss accounts and thus eliminate them as open accounts in the ledger so as to prepare them to receive entries for the next fiscal period. (c) To record the final distribution of the net profit or net loss in the proper ledger accounts in accordance with the directions of the proprietor, and (d) To close the proprietor's capital account for the current period and to reopen it for the amount of the capital invested at the beginning of the next fiscal period. 237. It is the function of the income and profit and loss accounts to supply the classified data from which to ascertain the net profit or the net loss for each fiscal period. The various elements of cost, expense, loss, income, and profit shown by these accounts are summarized in the income and profit and loss state- 110 ACCOUNTANCY AND BUSINESS MANAGEMENT mcnt and are therein reduced to the single result of net profit or net loss. The income and profit and loss accounts should therefore be closed, or "written off the books," after the statement referred to has been prepared. These accounts are frequently referred to as fiscal accounts because they are opened at the beginning and closed at the end of each fiscal period. 238. On the other hand, asset and liability accounts are not closed because their function is to show at all times, regardless of fiscal periods, the amounts of the various assets and liabilities. They are continuing accounts, showing the assets and liabilities not only at the close of one accounting period, but also at the beginning of the next period and during that and succeeding periods, until the assets are finally disposed of or the liabilities are paid. CLOSING AND ADJUSTING ENTRIES 239. The closing of the ledger is accomplished by means of certain closing and adjusting entries made in the journal, which, when posted, will balance and thus close out all accounts in the ledger except the asset, liability, and capital accounts. These entries summarize in one account all the income and profit and loss accounts in substantially the same manner in which they are summarized in the income and profit and loss statement. This account is called the Profit and Loss Summary. It is set up by transfer entries which close the balances of the various income and profit and loss accounts into it, with the result that its balance is the net profit or net loss sSown on the statement. The balance of the profit and loss summary is closed into the proprietor's capital account. The balance of his personal account is then closed into his capital account inmost instances. Read ^[105. The closing and adjusting entries referred to are prepared from the trial balance and statements. 240. The debits and credits in an account must be equal before it can be closed. If an account shows a debit balance, it must be credited for the amount of its balance to close it; and likewise, if it shows a credit balance it must be debited for the amount of its balance. The income and profit and loss accounts can thus be closed by journal entries which transfer their balances to the profit and loss summary account. The entries in the journal on page 111 set up the profit and loss summary account in Mr. Spangler's ledger, and close the income and profit and loss accounts included in his trial balance on page 97. 241. Illustration 51 shows the income and profit and loss accounts and the profit and loss summary account in Mr. Spangler's ledger after the transfer and closing entries referred to have been posted. Notice that all of the income and profit and loss accounts are footed and ruled to show that they are closed, and that the profit and loss summary has a credit balance equal to the amount of the net profit shown by the income and profit and loss statement. These entries have therefore ELEMENTARY ACCOUNTING 111 ILLUSTRATION 50 JOURNAL, DECEMBER 31, 19 Sales Profit & Loss Summary To close sales account and transfer income from sales to the P. & L. Summary 31 Real Estate Income Profit & Loss Summary To close real estate income account and trans- fer its balance to P. & L. Summary 31 Interest Income Profit & Loss Summary To close interest income account and transfer its balance to P. & L. Summary 31 Profit & Loss Summary Purchases To close purchases account and transfer cost of goods sold to P. & L. Summary 31 Profit & Loss Summary Freight In To close freight in account and transfer its balance to P. & L. Summary 31 Profit & Loss Summary- Warehouse Expense To close warehouse expense account and trans- fer its balance to P. & L. Summary 31 Profit & Loss Summary General Expense To close general expense account and close its balance into P. & L. Summary 31 Profit & Loss Summary Real Estate Expense To close real estate expense account and close its balance into P. & L. Summary 31 Profit & Loss Summary Interest Expense To close interest expense account and transfer its balance to P. & L. Summary 7719 16 3500 1433 6278 ?7 91 27584 7719 16 :>:> oo 1433 6278 37 1)1 72 3SS 70 hi 27584 38870 7516 21 72 21 72 112 ACCOUNTANCY AND BUSINESS MANAGEMENT resulted finally in recording the net profit on the books as a credit to the profit and loss summary. 242. The profit and loss summary contains exactly the same data as the tabulation showing the net profit which appears on page 99. In the tabulation the sum of the costs, expenses, and losses is deducted from the sum of the incomes and profits, while in the summary account the costs, expenses, and losses are debits, and the incomes and profits are credits. In other words, the profit and loss summary is an abbreviated or condensed income and profit and loss statement in ledger form. ILLUSTRATION 51 PURCHASES Dec. 1 Inventory 2276 80 Dec. 5 Rebate 12 10 14 Cash purchase 92 50 18 Return 32 20 31 Pch. Bk. total 6724 11 27 Rebate 33