Understanding Transaction Analysis: Key Concepts and Techniques

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Transaction analysis allows you to comprehend your business’s financial statements better and make smarter choices. Ensuring the accounting equation is balanced is vital in analyzing accounting transactions. You must make an equal-amount credit entry for every debit entry.

Consider Apple Inc. as a case in point. How does Apple calculate its sales, costs, and profits? According to their profit and loss statement for the 2023 fiscal year, Apple’s revenue was over $383.93 billion, and the company produced over $166.816 billion in profit.

Where did those numbers originate from? Apple Computer, like any other business, uses an in-depth accounting system. When the company engages in transaction analysis, it has a greater chance of maintaining a well-balanced accounting portfolio.

This article will help you better understand the techniques of doing transaction analysis with examples.

Transaction Analysis- An Overview

Transaction analysis is important to establish how a business transaction appears in the company’s books. A transaction takes place whenever there is an exchange of money or products. It’s the fuel that keeps a company running. The accounting cycle procedure begins immediately upon the occurrence of a business transaction.

It’s crucial to review each transaction during an accounting period to ensure accurate recording of financial records. The initial phase of the accounting cycle consists of recording transactions, balancing the books, and reporting financial results to stakeholders.

Transactional Analysis- Example

Let’s take an example of transactions from the statements of NewAge Electronics. Look at the summary of their transaction analysis during a particular time frame.

• NewAge Electronics started its electronics business by investing $40,000 in cash. Purchased electronic components worth $15,000 in cash.
• Sold electronic devices to Mr. Smith on credit, totaling $8,000.
• Paid employee salaries of $2,500.
• Made a payment of $300 to a local magazine for an advertising campaign.
• Received $7,500 in cash from Mr. Smith and granted him a cash discount of $250.
• Procured electronic equipment amounting to $12,000 from Matrix Suppliers on credit.
• Paid $200 for office rent.
• Settled a $11,800 payment to Matrix Suppliers and received a cash discount of $400.

The transaction analysis for this can be evident from every transaction’s impact on the account statements.

Types of Accounts in Transactions

• Assets

A company’s assets are its monetary resources that will benefit the company. These are the most common types of company asset accounts:

-Cash,

-Receivables Accounts,

-Notes receivable,

-Inventory,

-Prepaid Costs

-Land, Buildings,

-Fixtures, furniture, and equipment.

• Liabilities

Always keep in mind that liabilities are debts. An obligation always exists with a payable. The most typical forms of debt are as follows:

-Payable Accounts

-Payable Notes

-Liabilities accrued

• Shareholder Equity

Owners’ equity, also known as stockholders’ equity or shareholder’s equity, is the value the company’s owners have in their claim to the company’s assets. It is an important part of transaction analysis. The partnership divides the owner equity among its members, allocating each member’s share to an individual account.

-Common Stock

-Earnings Retained

-Dividends

-Revenues

-Expenses

Transaction Analysis and the Accounting Equation

If a business utilizes double-entry accounting, its debits must always match its credits. This is because, under double-entry accounting, each transaction analysis impacts two accounts. T-accounts use debits, which increase the balance of asset accounts and lower the amount of debt or owner’s equity accounts, respectively.

In a T-account, a credit is a right-side entry that lowers the asset account and raises the liabilities or owner’s equity account.

Accounting experts utilize the accounting equation to check the integrity of a transaction. It is a concise statement of the accounting equation:

Total Assets = Total Obligations + Owners Equity

Accounts for revenue, expenses, assets, liabilities, and owner’s equity make up most transaction analysis in an income statement or balance sheet. Temporary income statement accounts result in profits or losses in owner’s equity.

When deciding which transactions to classify, an extended accounting equation is beneficial. It is especially true for revenue and cost transactions within the accounting equation’s equity section. Extending the accounting equation, we get:

Total Assets= Total Liabilities + (Capital contributed — Dividends + Revenues — Expenses).

Ensuring that the accounting equation is in equilibrium for a transaction analysis is crucial. If it does not balance, there was an error in the data entry, and the company cannot shut its books for the time.

Steps in Transactional Analysis

Transaction analysis is a systematic process involving four essential steps:

Step 1: Identify the Accounts Involved

In the double-entry accounting system, every transaction affects at least two accounts. In the first step of transaction analysis, identify and extract the names of these accounts from the transaction. These account titles must align with the organization’s Chart of Accounts (COA) entries and correspond to those in the general ledger.

For instance, consider the first transaction of a new business, JoTech Ventures. In this transaction, Mr. John invests $30,000 cash into the business, involving the “Cash Account” and the “John’s Capital Account.”

Step 2: Determine the Account Nature

In the second step, classify the nature of the accounts identified in the first step. In the JoTech Ventures transaction, the Cash Account is an asset account, while John’s Capital Account is an equity account. To simplify, categorize the Cash Account as an asset account and John’s Capital Account as an equity account. These are two of the six account classifications; the remaining four are liability, withdrawal, revenue, and expense.

Step 3: Analyze the Financial Impact of the Transaction

Every valid business transaction financially impacts the entity’s financial position. This impact refers to the increase or decrease in the accounts identified in the first step.

In the case of the JoTech Ventures transaction, the infusion of initial capital in the form of cash by Mr. John resulted in increases in both the cash account and John’s Capital Account in the company’s records. Cash enters the business, and the owner’s equity is simultaneously established.

Step 4: Apply Debit and Credit Rules

In the final step of transaction analysis, apply the rules of debit and credit to the accounts classified in the second step. After correctly applying these rules, record the transaction in the general or specialized journal if the organization operates on a larger scale. For the JoTech Ventures transaction, debit the Cash Account and credit John’s Capital Account. This entry is made because the Cash Account is an asset account with a debit normal balance, while John’s Capital Account is an equity account with a credit normal balance. The accounting principles for debits and credits guide us as follows:

• For an account with a normal debit balance, record any increase on the debit side and any decrease on the credit side.
• For an account with a normal credit balance, record any increase on the credit side and any decrease on the debit side.

Empowering Informed Decision-Making

It would be impossible to emphasize the significance of precise transaction analysis in commercial accounting. Proper transaction analysis is crucial for creating accurate financial accounts. Without it, it is impossible to ensure their accuracy. This can lead to incorrect log entries and mistakes in the accounting records.

A company’s financial stability rests on the shoulders of its bookkeepers. It does more than paint an accurate financial picture; it equips company executives to make educated choices. Accurate bookkeeping and financial accounting are crucial for proper recording of business transactions. This attention to detail is crucial to building a long-lasting, profitable company.