Issues in Accounting

3-1

Adjusting Entries, Financial Statement,

Closing Entries

Lecture 05

InstructorAdnan Shoaib

3-2

1. Explain the reasons for preparing adjusting entries.

2. Prepare financial statement from the adjusted trial balance.

3. Prepare closing entries.

Learning ObjectivesLearning ObjectivesLearning ObjectivesLearning Objectives

3-3

Adjusting Entries for AccrualsAdjusting Entries for AccrualsAdjusting Entries for AccrualsAdjusting Entries for Accruals

Illustration 3-27

Accruals are either accrued

revenues or

accrued expenses.

LO 5 Explain the reasons for preparing adjusting entries.

3-4

Revenues earned but not yet received in cash or recorded.

Adjusting Entries for “Accrued Revenues”Adjusting Entries for “Accrued Revenues”Adjusting Entries for “Accrued Revenues”Adjusting Entries for “Accrued Revenues”

rent

interest

services performed

BEFORE

Accrued revenues often occur in regard to:

Cash ReceiptCash ReceiptRevenue RecordedRevenue Recorded

Adjusting entry results in:


3-5

Accrued Revenues. In October Pioneer earned $2,000 for

advertising services that it did not bill to clients before October

31. Thus, Pioneer makes the following adjusting entry.

Service revenue 2,000

Accounts receivable 2,000Oct. 31

Debit Credit

Accounts Receivable

72,00072,000

Adjusting Entries for “Accrued Revenues”Adjusting Entries for “Accrued Revenues”Adjusting Entries for “Accrued Revenues”Adjusting Entries for “Accrued Revenues”

Debit Credit

Service Revenue

100,000100,000

4,0004,000

2,0002,000

106,000106,000

2,0002,000

74,00074,000

LO 5

3-6 LO 5

Adjusting Entries Adjusting Entries for “Accrued for “Accrued Revenues”Revenues”

Adjusting Entries Adjusting Entries for “Accrued for “Accrued Revenues”Revenues” Illustration 3-35

Illustration 3-35

3-7

Expenses incurred but not yet paid in cash or recorded.

Adjusting Entries for “Accrued Expenses”Adjusting Entries for “Accrued Expenses”Adjusting Entries for “Accrued Expenses”Adjusting Entries for “Accrued Expenses”

rent

interest

taxes

BEFORE

Accrued expenses often occur in regard to:

Cash Payment, if any*Cash Payment, if any*Expense RecordedExpense Recorded

salaries

bad debts*

Adjusting entry results in:


3-8


Accrued Interest. Pioneer signed a three-month, 12%, note payable in the amount of $50,000 on October 1. The note requires interest at an annual rate of 12 percent. Three factors determine the amount of the interest accumulation:

1 2 3 Illustration 3-29


3-9

Interest payable 500

Interest expense 500Oct. 31

Debit Credit

Interest Expense

500500 500500

Debit Credit

Interest Payable


Accrued Interest. Pioneer signed a three-month, 12%, note payable in the amount of $50,000 on October 1. Prepare the adjusting entry on Oct. 31 to record the accrual of interest.


3-10 LO 5

Adjusting Entries Adjusting Entries for “Accrued for “Accrued Expenses”Expenses”

Adjusting Entries Adjusting Entries for “Accrued for “Accrued Expenses”Expenses” Illustration 3-35

Illustration 3-35

3-11


Accrued Salaries. At October 31, the salaries for these days

represent an accrued expense and a related liability to Pioneer.

The employees receive total salaries of $10,000 for a five-day

work week, or $2,000 per day.


3-12

Salaries payable 6,000

Salaries expense 6,000Oct. 31

Debit Credit

Salaries Expense

40,00040,000 6,0006,000

Debit Credit

Salaries Payable


Accrued Salaries. Employees receive total salaries of $10,000

for a five-day work week, or $2,000 per day. Prepare the adjusting entry on Oct. 31 to record accrual for salaries.

6,0006,000

46,00046,000


3-13

Salaries expense 34,000

Salaries payable 6,000Nov. 23

Debit Credit

Salaries Expense

34,00034,000 6,0006,000

Debit Credit

Salaries Payable


Accrued Salaries. On November 23, Pioneer will again pay total salaries of $40,000. Prepare the entry to record the payment of salaries on November 23.

Cash 40,000

6,0006,000


3-14 LO 5



Illustration 3-35

3-15


Bad Debts. Assume Pioneer reasonably estimates a bad debt expense for the month of $1,600. It makes the adjusting entry for bad debts as follows.

Illustration 3-32


3-16 LO 5



Illustration 3-35

3-17

Shows the

balance of all

accounts, after

adjusting entries,

at the end of the

accounting period.

5. Adjusted Trial Balance5. Adjusted Trial Balance5. Adjusted Trial Balance5. Adjusted Trial Balance

Illustration 3-33

3-18

6. Preparing Financial Statements6. Preparing Financial Statements6. Preparing Financial Statements6. Preparing Financial Statements

LO 6 Prepare financial statement from the adjusted trial balance.

Financial Statements are prepared directly from the Adjusted Trial Balance.

Financial Statements are prepared directly from the Adjusted Trial Balance.

Balance Sheet

Income Statement

Retained Earnings

Statement

3-19


LO 6Illustration 3-34

3-20


Illustration 3-35

LO 6

3-21

7. Closing Entries7. Closing Entries7. Closing Entries7. Closing Entries

LO 7 Prepare closing entries.

To reduce the balance of the income statement (revenue and expense) accounts to zero.

To transfer net income or net loss to owner’s equity.

Balance sheet (asset, liability, and equity) accounts are not closed.

Dividends are closed directly to the Retained Earnings account.

3-22

7. Closing Entries7. Closing Entries7. Closing Entries7. Closing Entries


Retained earnings 5,000 Dividends

5,000

Service revenue 106,000

Salaries & wages expense46,000

Supplies expense15,000

Rent expense9,000

Insurance expense500

Interest expense500

Depreciation expense400

Bad debt expense1,600

Retained earnings33,000

Illustration 3-33

Closing Journal Entries:

3-23

7. Closing 7. Closing EntriesEntries

7. Closing 7. Closing EntriesEntries

Illustration 3-37

Illustration 3-37

3-24

8. Post-Closing Trial Balance8. Post-Closing Trial Balance8. Post-Closing Trial Balance8. Post-Closing Trial Balance

LO 7

Illustration 3-38

3-25

9. Reversing Entries9. Reversing Entries9. Reversing Entries9. Reversing Entries


After preparing the financial statements and closing

the books, a company may reverse some of the

adjusting entries before recording the regular

transactions of the next period.

3-26

Accounting Cycle SummarizedAccounting Cycle SummarizedAccounting Cycle SummarizedAccounting Cycle Summarized


1. Enter the transactions of the period in appropriate journals.

2. Post from the journals to the ledger (or ledgers).

3. Take an unadjusted trial balance (trial balance).

4. Prepare adjusting journal entries and post to the ledger(s).

5. Take a trial balance after adjusting (adjusted trial balance).

6. Prepare the financial statements from the second trial balance.

7. Prepare closing journal entries and post to the ledger(s).

8. Take a trial balance after closing (post-closing trial balance).

9. Prepare reversing entries (optional) and post to the ledger(s).

3-27

Financial Statements of a Merchandising CompanyFinancial Statements of a Merchandising CompanyFinancial Statements of a Merchandising CompanyFinancial Statements of a Merchandising Company

LO 7

Illustration 3-39

3-28

Financial Statements of a Merchandising CompanyFinancial Statements of a Merchandising CompanyFinancial Statements of a Merchandising CompanyFinancial Statements of a Merchandising Company

LO 7

Illustration 3-40

3-29

Financial Financial Statements of a Statements of a Merchandising Merchandising

CompanyCompany

Financial Financial Statements of a Statements of a Merchandising Merchandising

CompanyCompany

LO 7

Illustration 3-41

3-30

APPENDIXAPPENDIX 3A CASH-BASIS ACCOUNTING VERSUS ACCRUAL-BASIS ACCOUNTING

Most companies use accrual-basis accounting

recognize revenue when it is earned and

expenses in the period incurred,

without regard to the time of receipt or payment of cash.

Under the strict cash-basis, companies

record revenue only when they receive cash, and

record expenses only when they disperse cash.

Cash basis financial statements are not in conformity with GAAP.

LO 8 Differentiate the cash basis of accounting from the accrual basis of accounting.

3-31

Illustration: Quality Contractor signs an agreement to construct a

garage for $22,000. In January, Quality begins construction, incurs

costs of $18,000 on credit, and by the end of January delivers a

finished garage to the buyer. In February, Quality collects $22,000

cash from the customer. In March, Quality pays the $18,000 due the

creditors. Illustration 3A-1



3-32

Illustration: Quality Contractor signs an agreement to construct a

garage for $22,000. In January, Quality begins construction, incurs

costs of $18,000 on credit, and by the end of January delivers a

finished garage to the buyer. In February, Quality collects $22,000

cash from the customer. In March, Quality pays the $18,000 due the

creditors.Illustration 3A-2



3-33

Conversion From Cash Basis To Accrual Basis

Illustration: Dr. Diane Windsor, like many small business owners, keeps her accounting records on a cash basis. In the year 2010, Dr. Windsor received $300,000 from her patients and paid $170,000 for operating expenses, resulting in an excess of cash receipts over disbursements of $130,000 ($300,000 - $170,000). At January 1 and December 31, 2010, she has accounts receivable, unearned service revenue, accrued liabilities, and prepaid expenses as shown in Illustration 3A-5.

Illustration 3A-5



3-34

Illustration: Calculate service revenue on an accrual basis.

Illustration 3A-5

Illustration 3A-8




3-35

Illustration: Calculate operating expenses on an accrual basis.

Illustration 3A-5

Illustration 3A-11




3-36 LO 8

Illustration 3A-12



3-37LO 8 Differentiate the cash basis of accounting from

the accrual basis of accounting.

Theoretical Weaknesses of the Cash Basis

Today’s economy is considerably more lubricated by credit than by cash.

The accrual basis, not the cash basis, recognizes all aspects of the credit phenomenon.

Investors, creditors, and other decision makers seek timely information about an enterprise’s future cash flows.


3-38 LO 9 Identifying adjusting entries that may be reversed.

Illustration of Reversing Entries—AccrualsIllustration 3B-1

APPENDIXAPPENDIX 3B USING REVERSING ENTRIES


Illustration of Reversing Entries—Deferrals


Illustration 3B-2


Summary of Reversing Entries

1. All accruals should be reversed.

2. All deferrals for which a company debited or credited the

original cash transaction to an expense or revenue

account should be reversed.

3. Adjusting entries for depreciation and bad debts are not

reversed.

Recognize that reversing entries do not have to be used.

Therefore, some accountants avoid them entirely.


3-41 LO 10 Prepare a 10-column worksheet.

A company prepares a worksheet either on

columnar paper or

within an electronic spreadsheet.

A company uses the worksheet to adjust

account balances and

to prepare financial statements.

APPENDIXAPPENDIX 3C USING A WORKSHEET: THE ACCOUNTING CYCLE REVISITED

3-42 LO 10 Prepare a 10-column worksheet.

A company prepares a worksheet either on

columnar paper or

within an electronic spreadsheet.

Worksheet Columns


3-43 LO 10

Illustration 3C-1Worksheet


3-44

The Worksheet:

provides information needed for preparation of the

financial statements.

Sorts data into appropriate columns, which facilitates

the preparation of the statements.

LO 10 Prepare a 10-column worksheet.

Preparing Financial Statements from a Worksheet


3-45 LO 10

Illustration 3-39


3-46

Illustration 3-40


LO 10

3-47

Illustration 3-41

APPENDIXAPPENDIX 3C

USING A WORKSHEET: THE ACCOUNTING CYCLE REVISITED

LO 10

3-48

Information in a company’s first IFRS statements must:

a. have a cost that does not exceed the benefits.

b. be transparent.

c. provide a suitable starting point.

d. All the above.

IFRS SELF-TEST QUESTION

3-49

The transition date is the date:

a. when a company no longer reports under its national standards.

b. when the company issues its most recent financial statement

under IFRS.

c. three years prior to the reporting date.

d. None of the above.


3-50

When converting to IFRS, a company must:

a. recast previously issued financial statements in accordance

with IFRS.

b. use GAAP in the reporting period but subsequently use IFRS.

c. prepare at least three years of comparative statements.

d. use GAAP in the transition year but IFRS in the reporting year.


3-51

End of Session 4End of Session 4End of Session 4End of Session 4

Issues in Accounting

Documents

Transcript of Issues in Accounting