Topic: ACCOUNTING CYCLE OF A SERVICE BUSINESS

Objectives:
At the end of the Week, I will be able to:
a. describe the nature of transactions in a service business;
b. record transactions of a service business in the general journal;
c. post transactions in the ledger.

Key Concepts:

Accounting cycle Accrued expenses

Account form Accrued revenues
accruals Accrued salaries

Discussion:
TRANSACTIONS IN A SERVICE BUSINESS
Transactions in a service business are usually straight forward. The business renders
service to clients or customers to generate revenues. This is the reason why the main
revenue account used for a service business is as Service Revenue account. In the case of
JM Photocopying Center, revenues are generated when photocopying services are rendered.
A more specific account such as Photocopying services can therefore be used instead of
Service Revenue.
In generating revenues, service business incur expenses. In the case of JM
Photocopying Center, expenses can be in form of salaries paid to staff, bond papers used in
photocopying, electricity needed to operate the photocopying machine, and others. The
interplay between revenues and expenses may result in either profit or loss.
Just like any business, a service business begins with an investment by a sole
proprietor or proprietors. From this investment transaction, a number of transactions followed.
These transactions may be business or nonbusiness transactions. A business transaction
results in an accounting transaction that requires a journal entry, while nonbusiness
transactions do not require journal entries. Simply put, a transaction that has an effect on the
accounting equation, is a business transaction. Otherwise, it is a nonbusiness transaction.
Example of business transactions include investment of the owner, purchase of office
supplies, payment of liabilities, rendition of services, and withdrawal of the owner, among
others. On the other hand, nonbusiness transactions include hiring of office staff, appointment
of an office supervisor, and operating of the business on a weekend or during a holiday.
 JM Photocopying Center
Chart of Accounts
Assets Owner's Equity
101 Cash 301 Mercado, Capital
112 Accounts Receivable 302 Mercado, Drawing
112b Allowance for Doubtful Accounts 399 Income Summary
113 Notes Receivable
114 Interest Receivable
122 Unused Supplies
123 Prepaid Rent Revenues
151 Photocopying Equipment 401 Photocopying Revenues
Accumulated Depreciatio - Photocopying
152 and Equipment 402 Interest Income
153 Furniture and Fixtures 499 Other Income
Accumulated Depreciation - Furniture and
154 Fixtures
199 Other Assets
Liabilities Expenses
201 Accounts Payable 501 Taxes and License Expense
202 Notes Payable 502 Salaries Expense
203 Salaries Payable 503 Supplies Expense
204 Income Tax Payable 504 Utilities Expense
205 Interest Payable 505 Rent Expense
208 Unearned Photocopying Revenues 506 Depreciation Expense
212 Mortgage Payable 507 Doubtful Accounts Expense
215 Loan Payable 512 Interest Expense
299 Other Liabilities 599 Other Expense

Figure 1

- STEP 1
Analyzing business transactions from source documents. Transaction analysis entails
a thorough understanding of the business transaction itself and its implication on assets,
liabilities, and owner’s equity.

Increase Decrease
Normal Though Through
Balance + -
Assets Debit Debit Credit
Liabilities Credit Credit Credit
Owner' equity:
* Owner's Capital Credit Credit Debit
* Owner's Drawing Debit Debit Credit
Revenues Credit Credit Debit
Expenses Debit Debit Credit
Contra-valuation accounts:
* Allowance for Doubtful Credit Credit Debit
Accounts Credit Credit Debit
* Accumulated Depreciation
Figure 2
Analyzing business transactions from source documents requires familiarity with
business documents. Common business documents are official receipts (usually for
 service business), sales invoices (usually for merchandising business), statements of
account or billing statements (as an example is an electricity bill), deposit slips and
withdrawal slips (for banks), payroll sheets (for salaries and wages), debit memoranda,
and credit memoranda, among others. You may search the Internet, ask your parents, or
visit a business near your school for some examples of these documents.
Nevertheless, transaction analysis only involves three simple steps. These are:
1. Classify whether the transaction is a business or a nonbusiness transaction. If the
transaction is nonbusiness, then there is no need to proceed to step 2.
2. Identify the major account/s and the account title/s affected and the movements with
respect to its/their normal balance/s.
3. Determine the amount/s to be credited or debited.

Let us illustrate transaction analysis using the following related transactions:

Mr. Mercado invested cash of P10, 000 in his business to be known as JM Photocopying
Center.
Following the three simple steps, our analysis shall be:
1. The transaction is a business transaction since it affects the accounting equation
2. The major accounts affected are assets and owner's equity. More specifically, the
account titles affected are Cash (increase through a debit) and Mercado, Capital (increase
through a credit).
3. The amount to be debited is P10, 000 for Cash (accounts with normal debit balances
are increased through a debit) and the amount to be credited is P10, 000 for Mercado,
Capital (accounts with normal credit balances are increased through a credit).

- STEP 2
Journalizing business transactions. A thorough transaction analysis makes journalizing,
which is the next step, easier to do. It is important to take note that journalizing is the first of
the two steps in the recording phase of accounting. Journalizing is the process of entering a
business transaction in the form of an accounting entry in the "journal" or the so-called
"book of original entry." A journal is where business transactions are initially recorded in
chronological order. Moreover, a journal entry can take the form of a simple journal entry or
a compound journal entry. A simple journal entry is a journal entry that has one debit
account and one credit account.
Examples of simple journal entries follow:

GENERAL JOURNAL
Date Particulars (Account Title and Explanation) F Debit Credit
2005
Jul-01 Cash 30, 000
Mercado, Capital 30, 000
To record cash investment

1 Photocopying Equipment 30, 000

Mercado, Capital 30, 000
To record investment of photocopying
equipment

1 Mercado, Capital 50, 000

Accounts Payable 50, 000
To record accounts payable to be assumed
by the business Figure 3
 Notice that regardless of the forms of the General Journal and the journal entry, a journal
entry has the following important components:
1. date of transaction
2. particulars (account titles and explanation)
3. folio (for posting reference)
4. debit account titles and debit amounts
5. credit account titles and credit amount!/s
6. an explanation
GENERAL JOURNAL
Date Particulars (Account Title and Explanation) F Debit Credit
Jul-10 Salaries Expense 1, 000
Cash 1, 000
To record payment of salary
Figure 4
- STEP 3
Posting to the ledger. After journalizing, the next step in the accounting cycle is posting. If
journalizing is being done in the journal, posting is being done in the ledger. A ledger
contains all the accounts (assets, liabilities, owner's equity, revenues, and expenses)
maintained by the business. Posting refers to the procedure of transferring journal entries
to the ledger accounts. It is for this reason that a ledger is the so-called "book of final
entry."
Each account title in the chart of accounts has its own ledger. The ledger captures all the
movements (increases and decreases) in each account which were initially reflected in the
journal as journal entries. To be more organized, the ledger should be arranged in the order
in which accounts are presented in the financial statements beginning with statement of
financial position accounts (assets, liabilities, and owner’s equity) followed by income
statement accounts (revenues and expenses).

Let us now take a look at how the ledger will look like.

GENERAL LEDGER
Account Title: Cash
Date Explanation F Debit Date Explanation F Credit
2015 2015
Jul-01 Cash investment 1 30, 000 Jul-02 Purchase of supplies 1 10, 000
16 Service rendered 2 8, 000 3 Business permits and licenses 1 2, 000
28 Collection of account 3 2, 000 10 Payment of salary 1 1, 000
17 Payment of salary 2 1, 000
24 Payment of salary 3 1, 000
27 Owner's personal use 3 500
29 Rent for two months 3 10, 000
31 Payment of salary 3 1, 000
Total Credit 40, 000 Total Credit 26, 500
Debit balance 13, 500
40, 000 40, 000
Figure 5
Name:_______________________________________________________

Comprehension:
 What are the steps in journalizing?
 Why is it important to know first the steps in making journal in transaction in a service
business?
Exercises:
Journalizing, Posting, and Preparing Trial Balance
- Amina established a service business to be known as Arnina Photography on July 1, 2015. During
the first month, the following transactions occurred:

1. July 1: Arnina transferred cash of P300, 000 from her personal bank account to an account to be
used for her business. She also invested the following: digital camera, P45, 000, manual camera,
125,000; desktop computer, P28,000; photo papers and ink, P14,000; and her personal debts
evidenced by a note which would be assumed by the business, P12,000.
2. July 4: Paid six month advance rent to Cyrene Commercial
Complex, P30, 000
3. July 6: Received a statement of account from Brian News for advertising this month, P5, 500
4. July 8: Bought photo enhancing and editing equipment from Mirzi Outlet for P 40,000. Arnina
paid 30% down payment and the balance on account
5. July 12: Hired office assistant with a monthly salary of P6, 000. The office assistant officially
started on July 16, 2014.
6. July 13: Photography services rendered totaled P180, 000.
Terms: 25% cash and the balance settled on account.
7. July 14, Purchased office sofa set from Renzo Designs for 30,000 on account.
8. July 15. Paid various operating expenses during the month: Meeting potential clients, P4, 000;
Electricity, P23, 000: Telephone expense, P6,000; and Repairs expense P2, 500
9. July 18: Photography services rendered totaled 180,000, of which 25% was settled with an
interest-bearing note and the balance on account.
10. July 20: Received photography advances from a couple for a prenuptial coverage to be
rendered next month, P60, 000.

Arnina Photography uses the following account titles:

Cash Photography Equipment Furniture and Fixtures Salaries Payable
Photography Supplies Office Equipment Advertising Expense Accounts Payable
Loan Payable Delivery Vehicle Salaries Expense Accounts Receivable
Notes Payable Photography Service Revenue Advances from Clients Utilities Expense
Repairs Expense Representation Expense Notes Receivable Interest Receivable
Arnina, Drawing Arnina, Capital Prepaid Rent Insurance Expense

Requirement:
1. Journalize the foregoing transactions.
2. Post the transactions in the General Ledger or T-Accounts

References/Sources/Websites:
 Fundamentals of Accountancy, Business, and Management 1, Rabo; Tugas; Salendrez

Prepared by:
Eric John D. Tendero, LPT