The Accounting Cycle

• As has already been pointed out accounting includes the recording and presentation of transactions
• This recording and presentation is done in a systemic manner i.e. it follows a set pattern
• This pattern is known as the accounting cycle
• The accounting cycle refers to the sequence of six steps in the processing of financial transactions (from the time they occur to their inclusion in financial statements) pertaining to an accounting period
• These steps are shown on the diagram below

The accounting cycle involves six steps

1. First a transaction occurs:
   • A transaction is a financial event for example the purchase of goods for resale, injection of capital into the business, the sale of goods on credit or for cash etc
   • The transaction is analysed and the accounts involved are determined as well as the amounts involved
2. The transaction is then recorded on source documents/founding documents these could be in the form of receipts, invoices, credit note, debit note, contract of sale etc
3. Then the transaction is recorded in the appropriate book(s) of original entry/subsidiary books these include the Sales Day Book, the Purchases Day Book etc
4. From there the transactions are recorded into various ledger accounts in the General Ledger, Purchases Ledger, Sales Ledger or the cash book depending on their nature
5. At the end of each accounting period each account is the books is balanced off any balances are extracted and tabulated into a trial balance which matches credit balances against debit balances
6. When all the stages have been completed it is time to prepare financial statements:
   • these are also sometimes known as the final accounts quite obviously because they are prepared last in the cycle
   • These are made up of:
   • The Statement of comprehensive/Income Statement formerly known as the Trading and Profit and Loss Account which measures the performance of the business in profit/loss terms
   • The Statement of Financial Position formerly known as the Balance Sheet which shows the financial position of the business at the end of the accounting period
   • Although it is beyond the scope of Form 1-4 Level, it might be of interest to some to point out that businesses also prepare:
   • The A Statement of Cash Flows which measures the business’s performance in terms
   • A Statement of Changes in Equity which shows capital changes within the business during the accounting period
   • Financial Statements comprise of these four statements

• The entire process is repeated during each accounting period and for each transaction
• It is important to note that typically steps 5 and 6 are only carried out once at the end of the each accounting period although large businesses often prepare financial statements for each quarter (3 months)

To access more topics go to the Principles of Accounts Notes.