Adjusting Accounts

1
Adjusting Accounts Preparing Financial
Statements

• Chapter 3

2
Accounting period

• Time principle period
• Specific time periods for accounting activities
• Fiscal year
• Consisting of any 12 months period other than
  ending on December 31
• Natural year
• Ends December 31

3
Accounting basis

• Accrual basis
• Uses the adjusting process to recognize revenues
  when earned and to match expenses with revenues
• Cash Basis
• Recognized revenues when cash is received and
  records expenses when cash is paid

4
Revenue Recognition

• Matching principle
• Aims to record expenses in the same accounting
  period as the revenues that are earned as a
  result of these expenses

5
Adjustments

• Adjusting entries
• To correct for transactions and events that
  extend over more than one period
• Deferred wait till cash is paid
• Accrual
• Rule
• Debit the expense
• Credit the asset or liabilities
• For the amount used up

6
Prepaid insurance

• Suppose that we purchase 2,400 for insurance for
  one year on May 1. Record the adjustments on
  December 31.
• 2,400/12 200 x 8months 1,600
• Insurance expense 1600
• Prepaid insurance 1600

7
Supplies

• Suppose that supplies account has a balance of
  4,000 and inventory shows 1,000. Record the
  supplies used up.
• Balance 4,000
• Inventory1,000
• Used up 3,000

8
Supplies

• Supplies expense 3,000
• Supplies 3,000

9
Depreciation

• Plant assets/Fixed Assets
• Assets which are tanigble and long lived
• Building and machinery
• Depreciation
• The reduction in value of an asset due to its use

10
Depreciation

• Depreciation expense
• Annual reduction in value of asset
• Accumulated depreciation
• Contra asset
• Increases with a credit
• Total reduction in value of an asset

11
Unearned revenues

• Refers to cash received in advance of services
  provided
• Suppose that unearned revneue has a balance of
  7,000 but records shows only 3,000 is unearned
• Balance 7,000
• Should be 3,000
• Earned 4,000

12
Unearned Revenues

• Unearned revenues
• A liability
• If we do not complete the work then we are liable
  to refund the monies.
• Once the work is completed then the liability
  does not exist
• Unearned revenues 4,000
• Fees earned 4000

13
Accrued expenses

• Refers to costs that are incurred in a period
  that are unpaid and unrecorded
• Accrued salaries
• Salaries owed at the end of the period to be made
  next period
• Suppose year ends on Wed, do we pay on Wed or
  wait until Friday

14
Salaries

• Suppose salaries at year end is 400
• Salaries expense 400
• Salaries payable 400

15
Accrued revenues

• Refers to revenues earned in a period that are
  both unrecorded and not yet received in cash
• Unrecorded accounts receivable

16
Trial Balance

• Unadjusted trial balance
• is a list of account balances before adjustments
• Used to make adjusting entries
• Adjusted trial balance
• Used to prepare financial statements

17
Financial Statements

• Four basic financial statements
• Income statement
• Statement of Retained Earnings
• Balance Sheet
• Statement of Cash flows

18
Income Statement

• Results of operations for a business
• Shows revenues minus expenses

Rob Co Income Statement For period ending 12/31/04
Revenues
Sales 75,000
Expense
Salaries exp 25,000
Rent exp 10,000
Total exp 35,000
Net income 40,000
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Statement of Retained Earnings
Changes in net worth and equity
Rob Co Statement of Retained Earnings For period
ending 12/31/04
Beginning Retained Earnings
60,000 Net income
40,000

100,000 -Dividends
20,000 Ending
Retained Earnings
80,000
20
Balance sheet
Rob Co Balance Sheet December 3, 2004
Assets
Cash 45,000
Truck 75,000
Total Assets 120,000
Liabilities
Accts pay 10,000
Total liab. 10,000
Stockholders Equity
Common Stock 30,000
Retained Earnings 80,000
Total S.E. 110,000
Total S.E. Liabilities 120,000
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Statement of Cash Flows

• Inflows and outflow of cash from
• Operations
• Investments
• Financing

22
Accounting Cycle

• Record entries in the journal
• Post to ledger
• Prepare unadjusted Trial Balance
• Record and post adjusting entries
• Prepare adjusted trial balance
• Prepare financial statements
• Record and post closing entries

23
Closing Entries

• Temporary accounts
• Accumulate data related to one accounting period
• Revenue
• Expense
• Dividends
• Income summary

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Close revenues

• Revenues DR
• Income summary Cr
• Debit whatever revenue accounts you have on the
  trial balance for their ending balance and the
  total is credited to income summary

25
Close Expenses

• Income summary DR
• Expenses CR
• Credit each expense account separately for the
  amount of the balance in the account and debit
  income summary for the total

26
Close Income Summary

• Income Summary DR
• Retained earnings CR

For the balance in the income summary account
Income Summary
Debit
Credit
Total expenses
Total revenues
Net income
27
Close Dividends

• Dividends reduce the equity of the business and
  the amount retained in the business
• Retained earnings DR
• Dividends CR
• For the amount of the balance in the dividend
  account

28
Transactions

• Fees earned 50,000
• Rent expense 10,000
• Supplies expense 5,000
• Dividends 2,000
• Retained earnings 30,000
• Record the closing entries

29
Close revenues

• Fees earned 50,000
• Income summary 50,000

30
Close Expenses

• Income Summary 15,000
• Rent expense 10,000
• Supplies expense 5,000

31
Close Income Summary

• Income Summary 35,000
• Retained earnings 35,000

Income Summary
DR
CR
50,000
Expenses
15,000
Revenues
35,000 net income
32
Close Dividends

• Retained earnings 2,000
• Dividends 2,000

Retained Earnings
CR 30,000 Balance 35,000 net income
DR 2,000 Dividends
63,000 ending balance
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Classification of Accounts

• Current assets
• Expected to be collected in less than one year
• Cash
• Accounts receivable
• Supplies
• Inventory

• Plant Asset
• Long lived tangible assets
• Factory building
• Machinery and equipment