Types of Transaction Cycles in Accounting

Every business activity can be traced to specific accounting cycles. These cycles are critical when analyzing businesses individually and as part of a larger industry. Identifying these cycle and the specific activities within them are essential to determining the effectiveness and profitability of a business.

These basic cycles are found in every business; some may be more detailed than others, but the overall importance is the same.

The Facts

Businesses engage in multiple financial transactions during normal operations. The reporting of each accounting transaction cycle is very important to a business when determining the profitability of a process or product.

Knowing how to determine the starting point and interaction of one cycle to the next is a critical step in understanding the workflow operations. Once each step is identified, management can then assess the effectiveness of each cycle in their business.

Financial Cycle

The financial cycle is the starting point for each business; this cycle consists of how the business will obtain the initial capital for funding operations. The capital may come from the owner, venture capitalists, or through a bank loan. The amount of start-up capital is usually based on financial projections relating to needs of the business, such as buildings, equipment, licenses, and inventory.

Expenditure Cycle

Once capital is procured through the financial cycle, then comes the expenditure cycle. Based on the projections from the financial cycle, businesses will begin spending their budget on materials needed for inventory. These goods may be raw materials for manufacturing; food products for a restaurant; tools for repair personnel; or vehicles for a delivery service.

Payroll Cycle

The payroll cycle is the process of hiring personnel to conduct the daily operations of the business. Most businesses have several layers of personnel, from front-line service workers, shift management, secretarial staff, accountants, and executive management. Each class of workers may have different pay scales and bonus levels, creating unique accounting needs for the payroll cycle.

Conversion Cycle

The conversion cycle is the crux of each business; daily transactions from normal operations include pieces from the expenditure and payroll cycle to make up the conversion process. The goods purchased for the business are used by the personnel from payroll to earn the business cash.

A large portion of accounting transactions will occur in this phase because of the repetitious conversion activities of business operations.

Revenue Cycle

The revenue cycle is the second cycle where the bulk of accounting transactions will occur. This cycle includes the transactions relating to the sales of goods and services to customers and any expenses related to those revenues.

Revenues can only be generated once the conversion cycle is complete; unfinished goods or services are not reported in the revenue cycle until the completion of the previous cycle.

Accounting Transaction Cycle

Inside each previous transaction cycle are more detailed and specific information: the accounting transactions. These transactions consist of the daily paperwork generated by the individual activities of each previous cycle. Purchase orders, payroll checks, job tickets, and sales Invoices are found in each step of the accounting cycles.

Once paperwork is received from each cycle, it must be analyzed for validity before be entered in the accounting information system. After the numbers are verified and entered in the system, trial balance reports and financial statements are generated to determine the company's profitability.

References

• Accounting Transaction Types
• Individual Accounting Transactions

Resources

• Read this Article in Spanish