MATH 11 FABM Quarter 1

11
Writers:
Jordan P. Ramirez, LPT, CTT
Layout Artist:
Jeansen L. Conag
Learning Resource Management Section:

Wenerita A. Miraflor - EPS-LRMS
Maricel J. Rama - Librarian II
Jefferson D. Uy - PDO II
Evaluators:
Dr. Miraluna Albina – EPS – Mathematics
Mrs. Ma. Gina Anqui
Consultant:
Dr. Juditha O. Mapue - Chief CID
ACCOUNTING
CYCLE OF A
SERVICE
BUSINESS
(SUMMARIZING PHASE)
Content Standards: The learners demonstrate an understanding of the accounting

cycle of a service business.
Performance Standards: The learners shall be able to identify business and non-business
transactions, enumerate the types of business documents, recite
the rules of debit and credit, and apply these to simple cases.
Most Essential Learning Competencies:

• Prepare a trial balance.
• Prepare adjusting entries.
• Complete the accounting cycle.
1| F u n d a m e n t a l s o f A c c o u n t a n c y , B u s i n e s s a n d M a n a g e m e n t I
DepEd Dumaguete City Division
STARTER
In the previous module, you have been introduced to the recording phase of the
accounting cycle wherein financial transactions were journalized and posted to its ledgers
accordingly. It is important to consider that the recording phase must be regarded as the most
essential phase in the accounting cycle since the next steps will not be carried out correctly if
transactions were not carefully journalized and posted. In this chapter, you will be taught on
how to complete the summarizing phase (preparation of unadjusted trial balance, adjusting
entries, adjusted trial balance, financial statements, closing entries, post-closing trial balance
and reversing entries) of the accounting cycle.
STEP 4: Prepare Unadjusted Trial Balance
After posting journal entries to their respective ledgers, the balances of the accounts
will be consolidated in a trial balance. As defined, trial balance is a list of general ledger
accounts with their respective debit and credit balances. It is also called unadjusted trial balance
since account balances have not been adjusted yet and is prepared at the end of the accounting
period.
Preparing trial balance is important since it will help eliminate accounting errors if
accounts have been correctly journalized and posted because the trial balance should give equal
debit and credit balances. If unbalanced, this will signal the accountant that there’s something
wrong with the previous steps in the accounting cycle. However, it is not safe to assume, at all
times, that the ‘balanced’ trial balance is correct considering errors such as failure to record a
transaction or a transaction may have been recorded under the wrong account. There are times
that transactions were omitted however will give a ‘balanced’ trial balance. Counterbalancing
error happens when an error is made and cancels out another error. It yields a ‘balanced’ trial
balance but an incorrect one.
Now let’s take Juan P. Rodriguez’ general ledger balances before proceeding to trial
balance preparation.
CASH COMPUTER EQUIPMENT
2020 2020
Apr1 500,000.00 200,000.00 Apr15 Apr15 200,000.00

Jun30 32,000.00 10,000.00 Apr20 Jun 30 200,000.00
1,500.00 Apr30
5,500.00 Jun30
8,000.00 Jun30
Jun 30 307,000.00
ACCOUNTS PAYABLE RODRIGUEZ, CAPITAL

2020 2020
200,000.00 Apr1 300,000.00 Apr1

200,000.00 Jun30 300,000.00 Jun30
SERVICE REVENUE RENT EXPENSE
2020 2020
32,000.00 Jun30 Apr20 10,000.00
32,000.00 Jun30 Jun 30 10,000.00
SALARIES EXPENSE TAXES AND LICENSES EXPENSE

2020 2020
Jun30 8,000.00 Apr30 1,500.00
Jun 30 8,000.00 Jun 30 1,500.00
UTILITIES EXPENSE
2020
Jun30 5,500.00
Jun 30 5,500.00
JPR Computer Shop

Unadjusted Trial Balance
June 30, 2020
ACCOUNT TITLE DEBIT CREDIT

Cash Php 307,000.00
Computer Equipment 200,000.00
Accounts Payable Php 200,000.00
Rodriguez, Capital 300,000.00
Service Revenue 32,000.00
Rent Expense 10,000.00
Salaries Expense 8,000.00
Taxes and Licenses Expense 1,500.00
Utilities Expense 5,500.00 _________
TOTALS 532,000.00 532,000.00
Based on the unadjusted trial balance presented above for JPR Computer Shop, the
debits totalled to Php532,000.00 and credits also totalled to Php 532,000.00. Meaning to say,
total debit equalled to total credit.
If imbalances happen, one may go back to its journals and ledgers to identify errors. To
better help you out, here are some of the accounting errors usually committed:
1. Transposition
Transposition errors happen when figures are interchanged. Say for
instance, Php532,325.00 is written as Php523,325.00.
2. Transplacement
Transplacement errors happen when decimal points are incorrectly
placed. Say for instance, Php3,250.00 is written as Php325.00.
3. Error of Omission
Errors of omission happen when a transaction is not recorded. Say for
instance, a payment for rent of P1,000.00 was not recorded as rent expense.
STEP 5: Prepare Adjusting Entries
After the trial balance has been prepared, we now move on to preparing adjusting
entries. As defined, adjusting entries are made in order to split mixed accounts to bring the
accounts up-to-date. The division will be made to identify whether which part is current and
which part is for future periods. It affects both the nominal and real accounts.
In accounting, as per GAAP, accrual basis is used instead of cash basis. As previously
discussed, in cash basis of accounting, revenue is recorded and expense is recognized when
paid in cash. While in accrual basis, revenue is recognized when earned and expense is
recognized when incurred. Because of this assumption, adjusting entries are needed in order to
have a fair and reliable measurement of financial position and performance.
The following are items that normally require adjusting entries: (Valix, 2017)
1. Ending Inventory
Inventory – end xx
Income Summary or Cost of Sales xx
2. Doubtful Accounts (Contra-valuation account for Accounts Receivable)
Doubtful Accounts Expense xx

Allowance for Doubtful Accounts xx
3. Depreciation (Contra-valuation account for Property, Plant and Equipment)
Depreciation Expense xx
Accumulated Depreciation xx
4. Prepaid Expenses (Expenses paid but not yet incurred and therefore an asset)
Asset Method
Expense xx
Prepaid Expense xx
Expense Method
Prepaid Expense xx
Expense xx
5. Accrued Expenses (Expenses incurred but not yet paid therefore a liability)
Expense
Accrued Expenses
6. Deferred Income (income received but not yet earned therefore a liability)
Liability Method
Deferred Income xx
Income xx
Income Method
Income xx
Deferred Income xx
7. Accrued Income (income earned but not yet received therefore an asset)
Accrued Income xx
Income xx
Now, recall Juan P. Rodriguez’ transaction on April 20, 2020. It was mentioned that he
paid Php10,000.000 for rent starting June. It is important to consider that this payment is a
prepaid expense since Juan wasn’t able to use his rental space as of April 20. He is yet to start
his operations on June 1 therefore the prepaid rent expense shall expire on June 30 accordingly.
Therefore, the following are the ‘should be’ journal entries respectively:
GENERAL JOURNAL
DATE PARTICULARS Ref DEBIT CREDIT
2020
Apr
1 Cash 101 Php 5 0 0 0 0 0 -
Accounts Payable 201 2 0 0 0 0 0 -
Rodriguez, Capital 301 Php 3 0 0 0 0 0 -
To record initial investment
15 Computer Equipment 134 2 0 0 0 0 0 -

Cash 101 2 0 0 0 0 0 -
Purchase of computer set
20 Prepaid Rent 122 1 0 0 0 0 -

Cash 101 1 0 0 0 0 -
Paid office rent
30 Taxes and License Expense 505 1 5 0 0 -

Cash 101 1 5 0 0 -
Paid permits and license fee
Jun 30 Cash 101 3 2 0 0 0 -
Service Revenue 401 3 2 0 0 0 -
To record service revenue
Utilities Expense 506 5 5 0 0 -

Cash 101 5 5 0 0 -
Paid utilities
Salaries Expense 503 8 0 0 0 -

Cash 101 8 0 0 0 -
Paid salaries
GENERAL LEDGER
Account Title: CASH Account No. 101

Date Explanation Ref Debit Date Explanation Ref Credit
2020 Apr 1 Initial investment 1 500,000.00 2020 Apr 15 Computer purchase 1 200,000.00
Jun 30 Generated revenue 1 32,000.00 20 Paid prepaid rent 1 10,000.00
30 Paid permits and license 1 1,500.00
Jun 30 Paid utilities 1 5,500.00
30 Paid salaries 1 8,000.00
Balance, 6/30/2020 307,000.00
Account Title: PREPAID RENT Account No. 122

2020 Apr 20 Paid prepaid rent 1 10,000.00
Balance, 6/30/2020 10,000.00
Account Title: COMPUTER EQUIPMENT Account No. 134

2020 Apr 15 Computer purchase 1 200,000.00
Balance, 6/30/2020 200,000.00
Account Title: ACCOUNTS PAYABLE Account No. 201

2020 Apr 1 Initial investment 1 200,000.00
Balance, 6/30/2020 200,000.00
Account Title: RODRIGUEZ, CAPITAL Account No. 301

2020 Apr 1 Initial investment 1 300,000.00
Balance, 6/30/2020 300,000.00
Account Title: SERVICE REVENUE Account No. 401

2020 Jun 30 Generated revenue 1 32,000.00
Balance, 6/30/2020 32,000.00
Account Title: SALARIES EXPENSE Account No. 503

2020 Jun 30 Paid salaries 1 8,000.00
Balance, 6/30/2020 8,000.00
Account Title: TAXES AND LICENSES EXPENSE Account No. 505
2020 Apr 30 Paid permits and license 1 1,500.00
Balance, 6/30/2020 1,500.00
Account Title: UTILITIES EXPENSE Account No. 506

2020 Jun 30 Paid utilities 1 5,500.00
Balance, 6/30/2020 5,500.00
Accordingly, the Unadjusted Trial Balance shall be presented as follows:
JPR Computer Shop

December 31, 2020

Cash Php 307,000.00
Prepaid Rent 10,000.00
TOTALS 532,000.00 532,000.00
Accordingly, prepaid rent expense should be adjusted at the end of June since the rent
has already expired/used up. Therefore, it no longer should be falling under the asset section.
It shall now be recorded as an expense since the prepayment has already expired. Therefore,
on June 30, 2020, the adjusting entry for prepaid rent should be as follows:
2020 20
Jun
Rent Expense 502 1 0 0 0 0 -
Prepaid Rent 122 1 0 0 0 0 -
To record expired prepaid rent
Accordingly, its prepaid ledger shall also be adjusted and a rent expense ledger shall be
set-up.
Account Title: PREPAID RENT Account No. 122

2020 Apr 20 Paid prepaid rent 1 10,000.00 2020 Jun 30 Expired prepaid rent 1 10,000.00
Balance, 6/30/2020 0.00
Account Title: RENT EXPENSE Account No. 502

2020 Jun 20 Recorded rent expense 1 10,000.00
Balance, 6/30/2020 10,000.00
Ensure all accounts have been adjusted properly to guarantee its true balances at the
end of the accounting period. For this case, only the prepaid rent should be adjusted therefore
we proceed to our next accounting step which is preparing adjusted trial balance.
Let us further assume that the business continued to operate until the last day of
December 2020. It must be noted that at year end, since it is the end of the accounting period,
the computer equipment’s value has to be adjusted because of depreciation. Furthermore, Juan
believes that the estimated useful life for the said equipment is 3 years. Estimated useful life is
the estimated lifespan of a fixed asset during which it can be expected to be ‘useful’ to its
operations. Accordingly, this is used in the computation for fixed asset’s depreciation.
The following is the formula in getting the depreciation using the straight-line method:
Depreciation Expense = Cost – Residual Value

Useful Life
Cost is the equivalent amount of the asset the time of purchase. Residual Value is the
estimated value of a fixed asset at the end of its useful life.
For our example, the depreciation for computer equipment is:
Annual Depreciation = Php200,000.00/3

= Php66,666.67
2020 Depreciation Expense = Php66,666.66 (8.5/12)

= Php47,222.22
In finding the depreciation for the current year, one important consideration is the time
period the asset has been in the company’s possession from date of purchase. For Juan’s case,
he purchased the 10 sets of computer equipment on April 15, 2020. Therefore it is reasonably
estimated that from April 15 to December 31, 2020, depreciation expense is Php47,222.22 as
computed above. The journal entry for the depreciation shall be as follows:
2020 31 22
Dec
Depreciation Expense 561 4 7 2 2 2
Accumulated Depreciation 135 4 7 2 2 2 22
– Computer Equipment
To record depreciation
Accordingly, its prepaid ledger shall also be adjusted and a rent expense ledger shall be
set-up.
Account Title: ACCUMULATED DEPRECIAITON – COMPUTER EQUIPMENT Account No. 561

2020Dec31 Depreciation recorded 1 47,222.22
Balance, 12/31/2020 47,222.22
Account Title: DEPRECIATION EXPENSE Account No. 135

2020Dec30 Depreciation recorded 1 47,222.22
Balance, 6/30/2020 47,222.22
STEP 6: Prepare Adjusted Trial Balance
Adjusting Trial Balance is prepared after adjusting entries have been made or accounts
have been brought up-to-date.
JPR Computer Shop

Adjusted Trial Balance
December 31, 2020

Cash Php 307,000.00
Accumulated Depreciation – Computer Equipment Php 47,222.22
Accounts Payable 200,000.00
Depreciation Expense 47,222.22
TOTALS 579,222.22 579,222.22
Notice that the prepaid rent account has been eliminated already after adjusting entries
were made.
STEP 7: Prepare Financial Statements
In the preparation of financial statements, an important tool can be of great use to

facilitate in providing a balancing mechanism that helps accountant in uncovering accounting
errors. This is usually prepared after all adjusting entries have been completely and carefully
laid out and before financial statements are prepared.
A worksheet is a multicolumn (usually 10 columns) sheet of paper that an accountant

uses in compiling and summarizing information pertinent to financial statement preparation.
It is an informal statement hence does not form part of the five major financial
statements. However, an accountant may use it in order to provide orderly means wherein
accounts are classified accordingly as to which financial statement it will appear.
The following is a sample worksheet for JPR Computer Shop.
JPR Computer Shop
Worksheet
December 31, 2020
Unadjusted Trial Balance Adjustments Adjusted Trial Balance Financial Performance Financial Position
Account Title Debit Credit Debit Credit Debit Credit Debit Credit Debit Credit
Cash 307,000.00 307,000.00 307,000.00
Prepaid Rent 10,000.00 10,000.00 --
Computer Equipment 200,000.00 200,000.00 200,000.00
Accounts Payable 200,000.00 200,000.00 200,000.00
Rodriguez, Capital 300,000.00 300,000.00 300,000.00
Service Revenue 32,000.00 32,000.00 32,000.00
Salaries Expense 8,000.00 8,000.00 8,000.00
Taxes and Licenses Expense 1,500.00 1,500.00 1,500.00
Utilities Expense 5,500.00 5,500.00 5,500.00
TOTALS 532,000.00 532,000.00
Rent Expense 10,000.00 10,000.00 10,000.00
Depreciation Expense 47,222.22 47,222.22 47,222.22
Accumulated Depreciation -
Computer Equipment 47,222.22 47,222.22 47,222.22
TOTALS 57,222.22 57,222.22 579,222.22 579,222.22 72,222.22 32,000.00 507,000.00 547,222.22
Net Loss 40,222.22 40,222.22
TOTALS 72,222.22 72,222.22 547,222.22 547,222.22
Through the worksheet we have created, we now proceed to financial statements
preparation. Recall on the topic discussed in Chapter I about the basic financial statements,
there were five financial statements being mentioned which are as follows:
• Statement of Financial Position (previously known as balance sheet);

• Statement of Financial Performance (previously known as income statement);
• Statement of Changes in Equity;
• Statement of Cash Flows; and
• Notes, comprising a summary of significant accounting policies and other
explanatory information.
In this chapter, we will only discuss the first three financial statements. Let us now
proceed in preparing our first financial statement based on our worksheet - Statement of
Financial Position.
A Statement of Financial Position is a formal statement showing financial standing of

the three permanent accounts – assets, liabilities and equity. It can be presented either in report
form or in account form.
Report Form
JPR Computer Shop

Statement of Financial Position
December 31, 2020
(in Php)
ASSETS
Current Assets
Cash 307,000.00
Non-current Assets
Less: Accumulated Depreciation 47,222.22 152,777.78
TOTAL ASSETS 459,777.78
LIABILITIES
Current Liability
EQUITY
TOTAL LIABILITIES AND CAPITAL 459,777.78
Account Form
JPR Computer Shop
December 31, 2020
(in Php)
ASSETS LIABILITIES
Current Assets Current Liability
Cash 307,000.00 Accounts Payable 200,000.00
Non-current Assets
Computer Equipment 200,000.00 EQUITY
Less: Accumulated Depreciation 47,222.22 152,777.78 Rodriguez, Capital 259,777.78
TOTAL ASSETS 459,777.78 TOTAL LIABILITIES AND CAPITAL 459,777.78
*Note that the amount reflected on the Capital Account is based on the Statement of Changes in Equity
A Statement of Changes in Equity summarizes the transactions affecting the equity section of the financial position.
JPR Computer Shop

Statement of Changes in Equity
For the Period ended December 31, 2020
(in Php)
Rodriguez, Capital - Apr 1 300,000.00

Net Loss 45,000.00
Total 345,000.00
Less: Rodriguez, Drawings 0.00
Rodriguez, Capital - Jan 31 345,000.00
A Statement of Financial Performance is a formal statement which reflects the financial
performance of the company. Its accounts are labelled as temporary/nominal – revenues and
expenses. If revenues exceed expenses, income is recognized. On the other hand, if expenses
exceed revenues, loss is then recognized. For this example, we recognize loss amounting to
Php40,222.22. This pro-forma statement shall be prepared first.
JPR Computer Shop

Statement of Financial Performance
For the Period ended December 31, 2020
(in Php)

Less: Expenses
Utilities Expense 1,500.00
Taxes and Licenses
Expense 5,500.00
Depreciation Expense 47,222.22 72,222.22
NET LOSS (40,222.22)
*Note that in accounting, we do not use the negative sign (-) for losses
Instead, we hyphenate the amount.
STEP 8: Prepare Closing Entries
Closing entries are made at the end of the accounting period after financial statements
are prepared for the purpose of closing nominal/temporary accounts. When nominal/temporary
accounts are closed, it means that the balance is reduced to zero. Normally, nominal accounts
are ‘zeroed out’ and transferred directly to an equity account in order to reflect the true standing
of the company for a certain accounting period.
These nominal accounts are transferred to a clearing account known as income

summary. This income summary account is the summary of the net income/loss for the period
and its resulting amount is closed to the capital account in a sole proprietorship business. How
do we close entries then?
1. Close nominal accounts with credit balances (e.g. revenue accounts).

2020 31
Dec
Service Revenue 401 3 2 0 0 0 -
Income Summary 399 3 2 0 0 0 -
To close revenue accounts.
12 | FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT I

D e p E d D u m a g u e t e C i t y D i v i s i o n
2. Close nominal accounts with debit balances (e.g. expense accounts)
2020 31 22
Dec
Income Summary 399 7 2 2 2 2
Salaries Expense 503 8 0 0 0 -
Utilities Expense 506 1 5 0 0 -
Taxes and Licenses Expense 505 5 5 0 0 -
Rent Expense 502 1 0 0 0 0 -
Depreciation Expense 561 4 7 2 2 2 22
To close expense accounts.
At this point, the balance of the Income Summary account is extracted. If it has a credit
balance, it represents net income and is closed as follows:
2020 31
Dec
Income Summary xx x x x x x -
Capital account xx x x x x x -
To close income summary.
Accordingly, if it has a debit balance, it represents net loss and is closed as follows:
2020 31
Dec
In Juan P. Rodriguez’ case, since it recognizes a loss of Php40,222.22 therefore its

income summary is closed as follows:
2020 31 22
Dec
Rodriguez, Capital 301 4 0 2 2 2
Income Summary 399 4 0 2 2 2 22
3. Close drawings account to capital account, if there may be.

2020 31
Dec
Drawings account xx x x x x x -
To close drawings account.
For Juan’s case, since there were no withdrawals made during the period, therefore no
closing entries should be prepared in its drawings account.
STEP 9: Prepare Post-closing Trial Balance
Now that we have closed our nominal accounts, only real accounts are left with
balances. These real account balances will be used in the preparation of the post-closing trial
balance. The purpose of the post-closing trial balance is to prove that debits equal the credits
after closing thus ensures that the closing process has been performed correctly.

JPR Computer Shop
Post-closing Trial Balance
December 31, 2020

Cash Php 307,000.00
Accumulated Depreciation – Computer Equipment Php 47,222.22
Rodriguez, Capital _________ 259,777.78
TOTALS 507,000.00 507,000.00
Notice that in the post-closing trial balance, only real accounts are presented. These
balances will be forwarded to next year as the beginning balances (January 1, 2021). No more
nominal accounts are forwarded since it has been ‘zeroed out’ already. However, preparation
of post-closing trial balance is an optional step only.
STEP 10: Prepare Reversing Entries
Reversing entries are made at the beginning of the new accounting period in order to
transfer all accrued and prepaid items established by adjusting entries to the nominal accounts
that are to be used in recording transactions during the new period. They are exactly called
reversing entries because they are the exact opposite of certain adjusting entries made at the
end of the accounting period. Its main purpose is to simplify the recording of certain kinds of
recurring transactions. (Valix, 2017)
The adjustments normally requiring reversal at the beginning of the new period are:
• Accrued expenses;
• Prepaid expenses, if the expense method is used in recording expense;
• Accrued income;
• Deferred income, if the income method is used in recording income.
Generalizations:
Based on what you have learned, so far,
can you now complete the accounting process of a service business?

REVIEW QUESTIONS
1. Define and explain the summarizing phase of the accounting cycle?

2. What are adjusting entries?
3. Why is there a need to adjust our books?
4. What are the three common accounting errors? Differentiate and explain briefly.
5. In the accounting cycle, is adjusted trial balance preparation necessary?
6. What are the instances when an accountant needs to adjust the books?
7. What are closing entries?
8. Is it necessary to close the accounting books?
9. In closing the books, are nominal accounts carried over to the next accounting period?
10. What is income summary? How important is income summary in the closing process?
11. What accounts are to be closed?
12. Is post-closing trial balance a necessary step in the accounting cycle? Why or Why
not?
13. What are reversing entries?
Exercise 8.1: True or False

Write T if the statement is TRUE, otherwise F.
1. An unadjusted trial balance is prepared after adjusting entries are made.

2. Preparation of reversing entries is an optional step in the accounting process.
3. In a trial balance, is it normal to have unequal debit and credit balances?
4. In a trial balance, it is safe to assume that balances are correct whenever the debits equal
the credits.
5. One of the purposes of a trial balance is that it provides information that helps the
accountants to formulate adjustments.
6. Accounting errors can either be done as an error or as a fraud.
7. Transposition happens when there are errors in placing decimal points.
8. Generally-accepted accounting principles require the use of accrual accounting.
9. Under the cash basis of accounting, adjusting entries are necessary for a fair and
accurate measurement of financial performance and position.
10. An adjusting entry affects both a real and a nominal account.
11. Worksheet is required prior to financial statement preparation.
12. If the total credits exceed debits under the financial performance, there is net income.
13. A closing entry is made to close all nominal accounts to a clearing account called
income summary.
14. Withdrawals need not to be closed to capital summary.
15. The sole purpose of reversing entries is to simplify the recording of certain kinds of
recurring transactions.
Exercise 8.2: Multiple Choice

Choose the best answer to each question.
1. The trial balance

a. proves that debits are greater than credits when the entity has net income.
b. proves that debits and credits were properly entered in the ledger accounts.
c. proves that it is necessary in the posting process.
d. proves that debits and credits of equal amounts are in the ledger.
2. Which of the following errors will cause an imbalance in the trial balance?
a. Listing the debit balance of an account in the credit column of the trial balance.
b. Omissions of two transactions in the journal.
c. A transposition error made in the journal.
d. An omission intentionally made by the bookkeeper.
3. Adjusting entries involve

a. only real accounts.
b. only nominal accounts.
c. one real and one nominal account.
d. no real nor nominal account.
4. Which of the following pertains to adjusting entries?

a. Transactions take place over more than one accounting period.
b. Adjusting entries are based on the concepts of revenue realization and matching.
c. Both a and b are correct.
d. None of the above.
5. Post-closing trial balance

a. is prepared prior to closing entries.
b. is identical to ‘adjusted’ trial balance.
c. does not include nominal accounts.
d. proves that accounts have been properly closed.
6. Income summary is a
a. nominal account.
b. real account.
c. capital account.
d. mixed account.
7. In the preparation of financial statements, what should be prepared first?

a. Financial Position
b. Financial Performance
c. Statement of Changes in Equity
d. No priority among the three

8. After the accounts have been closed,
a. all real accounts have zero balances.
b. all nominal accounts have zero balances.
c. all accounts have zero balances.
d. all capital accounts have zero balances.
9. If revenues are greater than the expenses, income summary account will be closed by
a. debiting income summary and crediting cash.
b. crediting income summary and debiting cash.
c. debiting income summary and crediting capital account.
d. crediting income summary and debiting capital account.
10. Which type of account is always debited during the closing process?
a. Revenue
b. Expense
c. Capital
d. Prepayments

Problem-Based Learning
Problem-Based Learning activities are similar to Case

Studies but usually focus on quantitative problems. In
some cases, the problems are designed to introduce the
material as well as provide students with a deeper
learning opportunity.
Comprehensive Problem
Using the Chart of Accounts below, complete the accounting cycle.
The class will be divided into pairs.
ABC Laundry Shop

Chart of Accounts
ASSETS OWNER’S EQUITY

101 Cash 301 Catacutan, Capital
111 Accounts Receivable 302 Catacutan, Drawings
112 Allowance for Doubtful Accounts 399 Income Summary
113 Notes Receivable
121 Unused Laundry Supplies
122 Prepaid Rent
131 Land REVENUES
132 Building 401 Laundry Service Revenue
133 Accumulated Depreciation – 411 Interest Income
Building 499 Other Income
134 Laundry Equipment
135 Accumulated Depreciation –
Laundry Equipment
136 Furniture and Fixtures
137 Accumulated Depreciation –
Furniture and Fixtures
199 Other Assets
LIABILITIES EXPENSES
201 Accounts Payable 501 Maintenance Expense
202 Notes Payable 502 Rent Expense
203 Loans Payable 503 Salaries Expense
204 Mortgage Payable 504 Supplies Expense
205 Salaries Payable 505 Taxes and Licenses Expense
206 Tax Payable 506 Utilities Expense
207 Interest Payable 507 Wages Expense
251 Unearned Service Revenues 551 Doubtful Accounts Expense
299 Other Payables 561 Depreciation Expense
571 Interest Expense
599 Other Expenses

Annalisa B. Catacutan opened a laundry shop business on January 1, 2020 and the
following transactions occurred during the year.
Jan 1 Started her business, with Php200,000.00 as beginning capital.

Jan 1 Paid rent for 12 months in advance, Php5,000.00/month.
Jan 2 Purchased laundry equipment costing Php75,000.00 with 5% cash discount.
The equipment’s useful life is 3 years.
Jan 2 Hired shop attendant with a signed contract of Php7,500.00 salary per month.
Jan 3 Borrowed money at Negros Oriental Cooperative Bank for Php100,000.00 as
additional capital with 6% interest per annum, payable in 2 years.
Jan 5 Registered business with the Department of Trade and Industry.
Jan 6 Paid license fee, Php3,650.00
Jan 10 Opened business for operations.
Jan 30 Paid electricity for the month of January, Php 2,305.00
Feb 17 Purchased laundry supplies for Php 4,500.00.
Feb 28 Paid laundry attendant’s salaries for January and February.
Mar 31 Generated 1st quarter revenue amounting to Php 87,500.00.
Apr15 Paid business taxes, 3% of gross sales for the 1st quarter.
May 8 Received Php500.00 from Client A, in advance for laundry services to be
rendered in June 15.
May 30 Paid laundry attendant’s salaries for the month of March to May.
Jun 15 Rendered laundry service for Client A.
Jun 30 Paid electricity, Php6,730.00 and water for Php 3,200.00.
Jun 30 Generated 2nd quarter revenue amounting to Php 75,000.00 of which 80% is in
cash and the rest on account.
Jun 30 Paid 25% of the loan from Negros Oriental Cooperative Bank.
Jul 15 Paid 2nd quarter business tax, 3% of gross cash sales.
Aug 11 Paid repairs and maintenance for the laundry equipment, Php1,000.00.
Sept 8 Collected receivables dated June 30 of which 5% is considered doubtful.
Sept 30 Generated 3rd quarter revenue amounting to Php 90,000.00.
Oct 15 Paid business taxes for the 3rd quarter sales including the corresponding
amount of tax for the receivables collected on Sept 8.
Oct 30 Paid salaries of the laundry attendant from June to the current month.
Nov 7 Withdrew Php5,000.00 for personal use.
Nov 30 Paid electricity, Php 5,520.00 and water for Php 2,895.00.
Dec 31 Generated 4th quarter revenue amounting to Php105,250.00.
Dec 31 Paid salaries of the laundry attendant for the remaining months.
Dec 31 Paid utilities, Php5,355.00.
Dec 31 Paid 25% of the loan and its corresponding interest.
Dec 31 Expensed rent for the whole year.
Dec 31 Recorded depreciation for the laundry equipment.

Content Standards: The learners demonstrate an understanding of the accounting
cycle of a merchandising business to include the following: 1.)
Journalizing of transactions using the general and special
journals, namely: sales journal, purchase journal, cash receipts
journal, cash payments journal; 2.) Posting to the ledger, namely:
general and subsidiary ledgers; 3.) Preparation of trial balance;
4.) Adjusting entries to include pre-payments, accrual and
deferral; 5.) Worksheet preparation; and 6.) Completing the
accounting cycle of a merchandising business.
Performance Standards: The learners shall be able to prepare journal entries, post to the
ledger, prepare the trial balance, worksheet, adjusting entries and
complete the accounting cycle of a merchandising business.
Most Essential Learning Competencies:

• Describe the nature of transactions in a merchandising business.
• Record transactions of a merchandising business in the general and special
journals.
• Post transactions to the general and subsidiary ledgers.
• Prepare a trial balance.
• Prepare adjusting entries.
• Complete the accounting cycle of a merchandising business.
• Prepare the Statement of Cost of Goods Sold and Gross Profit.
STARTER
Now that you were able to complete Annalisa B. Catacutan’s service business, let’s
now move on to the accounting process of completing a merchandising business. As you go
along the chapter, you will notice some differences between the two types of business activities.
This chapter will discuss on the accounting cycle of a merchandising business and will help
you better appreciate the importance of such business activity in the world of commerce.
STEP 1: Analyzing Business Transactions of a Merchandising Business
In the previous modules, you were able to get a grasp of a manufacturing business’
structure. Somehow, you were able to know its definition and its advantages and disadvantages.
As defined, this type of business is concerned on selling finished products from manufacturers
to retailers. It is also called as the ‘buy and sell’ business. Examples of which are pharmacies,
department stores, groceries, and etc. It makes profit from the sale of goods. Business owners
earn profits usually through mark-ups depending on the seller’s discretion however there are
times that the prices of goods are regulated by the Department of Trade and Industry such as
essential goods or basic commodities. Sometimes, in a wholesaling business, the seller gives
discounts to buyers whenever goods are purchased in bulks because in effect, they still earn
profit considering some factors (spoilage, wear-and-tear, etc.) in relation to inventory selling.
Buyers usually purchase goods either in cash or credit. Sometimes, owners also extend
credit to customers in order to manage their inventory turnover rate. Meaning to say, the more
the goods are being sold to customers, the better is the inventory turnover rate. And it is best
to sell goods at a faster inventory rate as soon as they are purchased. Other products are also
sold through consignment or through lay-away plans.
In the Philippines, inventory should be sold on a FIFO (First-in, First-out) basis,

meaning goods for sale purchased first should be sold first. LIFO (Last-in, First-out) is strictly
prohibited to prohibit abuses in the conduct of selling. Also, as to costing, LIFO is prohibited
under the Philippine Accounting Standards (PAS) 2.
Now let us take Ace Logic Computer Solutions as an example. The supplies/materials
they are selling are what we call merchandise. This includes computers, speakers, printers,
inks, and other computer-related supplies. These merchandises are purely for selling however
if they use a certain supply for office consumption, then it is considered as supplies of the
business and not merchandise anymore.
Merchandise is to be sold within the business’ normal operating cycle. How does a
merchandising operating cycle work then?

Merchandising Operating Cycle
Buys
merchandise
Collects Sells
customers merchandise
Bills
customers
In a merchandising business, usually goods are sold on account. Meaning to say,

customers purchase goods from the store and pays it at a later date. The store then bills the
customers to demand payment of the goods purchased. By doing this, it increases the inventory
turnover rate thus increases profit. However, the store must also consider speedy collections of
these accounts in order to turn the receivables to cash.
Cost of Goods Sold
Assuming that out of the 100% merchandise available for sale for the year 2020, 75%
has been sold, therefore 25% remains to be unsold (termed as merchandise inventory). Cost of
goods sold (or cost of sales) is the amount of the corresponding merchandise sold by the
business in a given time. The formula in getting the cost of goods sold is presented below:
Merchandise Inventory, beginning Php xx

Add: Net Purchases xx
Goods Available for Sale Php xx
Less: Merchandise Inventory, ending xx
Cost of Goods Sold Php xx
How do we get the income of the business based on the cost of goods sold formula?
The computation for the income of a merchandising business is presented as follows:
Net Sales Revenue Php xx

Less: Cost of Goods Sold xx
Gross Profit Php xx
Less: Operating Expenses xx
Net income/loss Php xx
Comparing the net income formula of a merchandising business and a service business:
SERVICE MERCHANDISING
Net Revenues Php xx Net Sales Revenue Php xx
Gross Profit Php xx
Less: Operating Expenses xx Less: Operating Expenses xx
Net income/loss Php xx Net income/loss Php xx
Note that the two types of businesses have different components in computing for the
net income of the business. That’s why the income statement format of a merchandising
business is called a multi-step income statement while that of a service business is single-step
income statement.
The single-step income statement is also called natural form income statement because
costs and expenses are classified according to their nature. Let’s take for instance employee
salaries. Managers’ salaries and salesclerk’s salaries are combined as one under a Salaries
Account. However, for a merchandising business, the treatment is different. The multi-step
income statement is also called functional form income statement. It is termed as functional
because costs and expenses are classified according to their function. Considering the same
example to that of salaries. Salaries of the managers are segregated from the salaries of the
salesclerk. In a multi-step income statement, operating expenses are divided into two – selling
and administrative. Selling expenses include distribution, sales, promotion or delivery of the
product, salaries, and other expenses which are directly attributable to selling. Administrative
expenses include fixed asset depreciation, insurances, rent, salaries of office staff, office
supplies and other expenses incurred related to administrative purposes. Note that there are
times an account is pro-rated according to its classification, rent for example. For instance, the
rent of the whole building is Php100,000.00 per month, of which 70% of its space is allotted
for selling and 30% of its space is used for office use. Therefore, Php70,000.00 goes to rent
expense under selling expense while the remaining Php30,000.00 goes to rent expense under
administrative expense. For our example, manager’s salaries will be falling under
administrative while salesclerks’ salaries will be falling under selling expenses. Note that in
multi-step income statement, administrative expenses should be explicitly separated from the
selling expenses when presented. To illustrate:
Net Sales Revenue Php xx

Gross Profit Php xx
Less: Operating Expenses
Selling xx
Administrative xx xx
Net income/loss Php xx
FOB Destination means that the ownership of the goods purchased is vested in the
buyer upon receipt hereof. Ideally, the owner of the goods is still the seller and shall be legally
be responsible for freight charges and other expenses up to the point of destination. FOB
Shipping Point means that the ownership of the goods purchased is vested in the buyer upon
the shipment thereof. The buyer is already the owner of the goods and shall be legally be
responsible for freight charges and other expenses from the point of shipment to the point of
destination. (Valix, 2017)
Accounting Cycle of a Service Business
The accounting cycle of a merchandising business is the same to that of a service

business. Its main difference is on the nature of its transactions.
1. Analyzing
business
transactions
from source
documents
10. Preparing
reversing 2. Journalizing
entries
9. Preparing
post-closing 3. Posting
trial balance.
4. Preparing
8. Preparing
unadjusted
closing entries
trial balance
7. Preparing 5. Preparing
financial adjusting
statements entries
6. Preparing
adjusted trial
balance
Examples of source documents are sales invoices, official receipts, debit memorandum,
credit memorandum, statements of accounts, deposit slips, withdrawal slips, bank passbooks,
billings, and any other source.
STEP 2: Journalizing
Journalizing transactions of a merchandising business follows the same manner to that of a

service business except that management, at times, would use additional special journals to
classify large transactions from simple ones.
To ensure efficiency of recording similar transactions, a company may use special journals.
The following are the special journals:

➢ Sales Journals – used when sales of merchandise inventory are made on account.
➢ Cash Receipts Journal – used to record all cash receipts from any source.
➢ Purchase Journal – used when purchases of merchandise inventory are made on
account. However, sometimes it records all credit purchases including merchandise,
equipment and supplies.
➢ Cash Disbursements Journal – used to record all cash disbursements from any source.
When a transaction does not fit under the various special journals, it must be recorded
in the general journal. Moreover, adjusting entries, closing entries and reversing entries are
recorded in the general journal. (Valix, 2017)
For our discussion, we will only be utilizing general journals. Special journals shall be
discussed further in higher accounting. However, to illustrate, here are sample special journals:
Sales Journal
Date S.I. No. Customer Name Ref. Dr. Accounts Rec.

Cr. Sales
12/31/20 01235 Alpha Co. 5,000.00
S.I. represents Sales Invoice. Usually when engaging merchandising business, the
entity is required by the law to issue receipt, sales invoice. This sales invoice is applicable only
to businesses selling goods. For service business, they are also required to issue receipts,
official receipts. Customers are those entities who/which purchases goods from us.
Cash Receipts Journal
Date O.R. Received Ref. Cash Dr. Sales Accounts Sales Cr. Other
No. from Discount Receivable Accounts
Dr. Dr. (Cr.) Cr.
08/05/20 0361 Alpha Co 3,000.00 4,000.00 7,000.00
08/10/20 0365 Beta Co. 2,500.00 200.00 (2,700.00)
The O.R. No. Column represents the Official Receipt Numbers issued to clients.
Purchase Journal
Date Supplier Name Ref. Dr. Purchases

Cr. Accounts Payable
12/31/20 Charlie Co. AP 1 15,000.00
Cash Disbursements Journal
Date Check Paid to Ref. Accounts Purchases Freight-out Sales Purchase Cash
Voucher Payable Dr. Dr. Returns and Discount Cr.
No. (Dr.) Cr. Allowances Cr.
05/30/20 018 Delta Co. 895.00 895.00
06/05/20 025 Echo Co. 175.00 175.00
Let’s take JPR General Merchandise’s business as an example. Juan P. Rodriguez, aside
from his computer shop, he also owns a merchandising store. It sells various merchandise to
customers.
On January 1, 2020 Juan invested Php300,000.00 for his merchandise business. January
5, Juan purchased merchandise worth Php250,000.00 of which Php100,000.00 was paid in cash
and balance on account. On January 10, he was able to sell part of his merchandise on account,
Php200,000.00, 40% based on selling price. 7 days after the initial sale, he was also to sell
merchandise in cash, Php25,000.00, 25% based on cost. On January 30, he paid rent for
Php10,000.00 and paid Php30,000.00 to his employees, of which Php22,500 goes to salesclerks
and the rest to the manager.
Let’s journalize the transactions stated above.
JPR Merchandise Store

Chart of Accounts
ASSETS OWNER’S EQUITY

101 Cash 301 Rodriguez, Capital
111 Accounts Receivable 302 Rodriguez, Drawings
112 Allowance for Doubtful Accounts 399 Income Summary
113 Notes Receivable
121 Merchandise Inventory
122 Prepaid Rent
131 Land REVENUES
132 Building 401 Sales Revenue
133 Accumulated Depreciation – 402 Sales Returns and Allowances
Building 403 Sales Discounts
136 Furniture and Fixtures 411 Interest Income
137 Accumulated Depreciation – 499 Other Income
Furniture and Fixtures
181 Purchases
182 Purchase Returns and Allowances
183 Purchase Discounts
199 Other Assets
LIABILITIES EXPENSES
201 Accounts Payable 501 Maintenance Expense
202 Notes Payable 502 Rent Expense
203 Loans Payable 503 Salaries Expense
204 Mortgage Payable 504 Supplies Expense
205 Salaries Payable 505 Taxes and Licenses Expense
206 Tax Payable 506 Utilities Expense
207 Interest Payable 507 Wages Expense
251 Unearned Service Revenues 551 Doubtful Accounts Expense
299 Other Payables 561 Depreciation Expense
571 Interest Expense
591 Cost of Goods Sold
599 Other Expenses

GENERAL JOURNAL

2020
Jan
1 Cash 101 3 0 0 0 0 0 -
Rodriguez, Capital 301 3 0 0 0 0 0 -
To record investment
5 Purchases 181 2 5 0 0 0 0 -
Cash 101 1 0 0 0 0 0 -
To record sales on account
10 Accounts Receivable 111 2 0 0 0 0 0 -

Sales Revenue 401 2 0 0 0 0 0 -
17 Cash 101 2 5 0 0 0 -
Sales Revenue 401 2 5 0 0 0 -
To record sales
30 Rent Expense 502 1 0 0 0 0 -

Cash 101 1 0 0 0 0 -
To expense rent
Salaries Expense 503 3 0 0 0 0 -

¤ Cash 101 3 0 0 0 0 -
To record salaries expense
PAS 2 paragraph 6, defines inventories as “assets which are held for sale in the ordinary
course of business, in the process of production for such sale or in the form of materials or
supplies to be consumed in the production process or in the rendering of services”. (Valix,
2017)
There are two systems of accounting for inventories. The first one is Physical Inventory.
It is done usually at the end of the accounting period to determine remaining inventory on hand
through physical or manual counting. In this system, the cost of goods sold is computed at the
end of the reporting by multiplying the quantity of ending inventory and its corresponding cost.
Periodic inventory is usually used by groceries, small
stores, pharmacies and other small-peso investment
Purchase, Purchase Returns and
entities. On the above journal, periodic inventory is used. Allowances and Purchase Discounts
accounts are only used in periodic
The other system is Perpetual Inventory. In this inventory system. In perpetual
type of system, it usually requires stock cards which inventory system, purchase account
reflect the increases (through purchases) and decreases is directly debited to inventory
account and purchase returns and
(through sales) of inventories. In this system, cost of
allowances and purchase discounts
goods sold is always computed at the time of every sale. accounts are credited to inventory
This inventory system is used by large-peso investment account as well.
entities such as jewelries and cars. The following journal

entries are based on perpetual system of inventory. As you go along the entries, you will notice
an entry to cost of goods sold in every sale transaction.
GENERAL JOURNAL
Page 1
2020
Jan
1 Cash 101 3 0 0 0 0 0 -
Rodriguez, Capital 301 3 0 0 0 0 0 -
To record investment
5 Merchandise Inventory 591 2 5 0 0 0 0 -

Cash 101 1 0 0 0 0 0 -
To record purchases
10 Accounts Receivable 111 2 0 0 0 0 0 -

Sales Revenue 401 2 0 0 0 0 0 -
Cost of Goods Sold 591 1 2 0 0 0 0 -

Merchandise Inventory 121 1 2 0 0 0 0 -
To record cost of sales
17 Cash 101 2 5 0 0 0 -
Sales Revenue 401 2 5 0 0 0 -
To record sales
Cost of Goods Sold 591 2 0 0 0 0 -

Merchandise Inventory 121 2 0 0 0 0 -
To record cost of sales
30 Rent Expense 502 1 0 0 0 0 -

Cash 101 1 0 0 0 0 -
To expense rent

¤ Cash 101 3 0 0 0 0 -
To record salaries expense
Pro-forma Journal Entries
The following are the pro-forma journal entries of merchandising business transactions:
a. Cash purchases
20xx xx
Jan
Purchases xx x x
Cash xx x x
To record cash purchases

b. Purchase on account
20xx xx
Jan
Purchases xx x x
Accounts Payable xx x x
¤ To record cash purchase on
account
c. Recording of Purchase Returns and Allowances

20xx xx
Jan
Purchase Returns and Allowances xx x x
¤ To record purchase returns and
allowances
Purchase Returns and Allowances is a contra-purchase account which

represents the amount of merchandise returned to suppliers for reasons such as spoilage,
defects and among others. These are deducted from the company’s payables to the
supplier/s.
d. Recording of Purchase Discounts

20xx xx
Jan
Purchase Discounts xx x x
¤ To record purchase discounts
Purchase Discounts is a contra-purchase account which represents the amount

of discount offered to companies by suppliers. These are deducted from the company’s
payables to the supplier/s.
e. Cash Sales
20xx xx
Jan
Cash xx x x
Sales Revenue xx x x
¤ To record cash sales
f. Sales on Account
20xx xx
Jan
Accounts Receivable xx x x
Sales Revenue xx x x
¤ To record sales on account
g. Recording of Sales Returns and Allowances

20xx xx Sales Returns and Allowances
Jan
xx x x
¤ To record sales returns and
allowances
Sales Returns and Allowances is a contra-sales account which represents the

amount of merchandise returned by customers. These are deducted from company’s
receivables from customer/s.
h. Recording of Sales Discounts

20xx xx
Jan
Sales Discounts xx x x
¤ To record sales discounts

Sales Discounts is a contra-sales account which represents the amount of discount
offered by the company to its suppliers. These are deducted from the company’s
receivables from customer/s.
STEP 3: Posting
Posting refers to transactions identified and recorded in the general journal sheets are
transferred (posted) to the specific accounts in the general ledger and its subsidiary ledger, if
appropriate.
GENERAL LEDGER
Account Title: CASH Account No. 101
2020 Jan 1 Investment 1 300,000.00 2020 Jan 5 Cash payment 1 100,000.00
17 Sales generated 1 25,000.00 30 Paid rent 1 10,000.00
30 Paid salaries 1 30,000.00
Balance, 1/31/2020 185,000.00
Account Title: ACCOUNTS RECEIVABLE Account No. 111

2020 Jan 10 Sales on Account 1 200,000.00
Balance, 1/31/2020 200,000.00
Account Title: PURCHASES Account No. 181

2020 Jan 5 Purchases made 1 250,000.00
Balance, 1/31/2020 250,000.00
Account Title: ACCOUNTS PAYABLE Account No. 201

2020 Jan 5 Purchases on account 1 150,000.00
Balance, 1/31/2020 150,000.00
Account Title: RODRIGUEZ, CAPITAL Account No. 301

2020 Jan 1 Initial investment 1 300,000.00
Balance, 1/31/2020 300,000.00
Account Title: SALES REVENUE Account No. 401

2020 Jan 10 Generated revenue 1 200,000.00
17 Generated revenue 1 25,000.00
Balance, 1/31/2020 225,000.00
Account Title: RENT EXPENSE Account No. 502

2020 Jan 30 Paid rent 1 10,000.00
Balance, 1/31/2020 10,000.00
Account Title: SALARIES EXPENSE Account No. 503

2020 Jan 30 Paid rent 1 30,000.00
Balance, 1/31/2020 30,000.00
STEP 4: Prepare Unadjusted Trial Balance
As defined, trial balance is a list of general ledger accounts with their respective debit
and credit balances. It is also called unadjusted trial balance since account balances have not
been adjusted yet and is prepared at the end of the accounting period.

January 31, 2020

Cash Php 185,000.00
Accounts Receivable 200,000.00
Purchases 250,000.00
Sales Revenue 225,000.00
Salaries Expense 30,000.00 _________
TOTALS 675,000.00 675,000.00
STEP 5: Prepare Adjusting Entries
Adjusting entries are made in order to split mixed accounts to bring the accounts up-
to-date. The division will be made to identify whether which part is current and which part is
for future periods. It affects both the nominal and real accounts.
At the end of the period, an adjusting entry would be made to update the balances for
cost of sales/cost of goods sold and inventory. The adjusting entry would be as follows:
2020 31
Jan
Merchandise Inventory 121 1 1 0 0 0 0 -
¤ Purchases 181 2 5 0 0 0 0 -
To record COGS & Inventory, Ending
Accordingly, the adjusting entries should be posted to the following ledgers to update
its balances.
Account Title: COST OF GOODS SOLD Account No. 591
2020 Jan 10 Goods sold 1 120,000.00
17 Goods sold 1 20,000.00
Balance, 1/31/2020 140,000.00
Account Title: MERCHANDISE INVENTORY Account No. 121

2020 Jan 5 Inventory purchased 1 250,000.00 2020 Jan 10 Inventory sold 1 120,000.00
17 Inventory sold 1 20,000.00
Balance, 1/31/2020 110,000.00

Account Title: PURCHASES Account No. 181
2020 Jan 5 Purchases made 1 250,000.00 2020 Jan 31 Adjusting entry 1 250,000.00
Balance, 1/31/2020 0.00
STEP 6: Prepare Adjusted Trial Balance
Adjusting Trial Balance is prepared after adjusting entries have been made or accounts
have been brought up-to-date.

Adjusted Trial Balance
January 31, 2020

Cash Php 185,000.00
Merchandise Inventory 110,000.00
Sales Revenue 225,000.00
Cost of Goods Sold 140,000.00 _________
TOTALS 675,000.00 675,000.00
STEP 7: Prepare Financial Statements
In the preparation of financial statements, an important tool can be of great use to

facilitate in providing a balancing mechanism that helps accountant in uncovering accounting
errors. This is usually prepared after all adjusting entries have been completely and carefully
laid out and before financial statements are prepared.
A worksheet is a multicolumn (usually 10 columns) sheet of paper that an accountant

uses in compiling and summarizing information pertinent to financial statement preparation.
It is an informal statement hence does not form part of the five major financial
statements. However, an accountant may use it to provide orderly means wherein accounts are
classified accordingly as to which financial statement it will appear.
The following is a sample worksheet for JPR Merchandise Store.

Worksheet
January 31, 2020
Unadjusted Trial Balance Adjustments Adjusted Trial Balance Financial Performance Financial Position
Account Title Debit Credit Debit Credit Debit Credit Debit Credit Debit Credit
Cash 185,000.00 185,000.00 185,000.00
Accounts Receivable 200,000.00 200,000.00 200,000.00
Purchases 250,000.00 250,000.00 --
Accounts Payable 150,000.00 150,000.00 150,000.00
Rodriguez, Capital 300,000.00 300,000.00 300,000.00
Sales Revenue 225,000.00 225,000.00 225,000.00
Rent Expense 10,000.00 10,000.00 10,000.00
Salaries Expense 30,000.00 30,000.00 30,000.00
TOTALS 675,000.00 675,000.00
Merchandise Inventory 110,000.00 110,000.00 110,000.00
Cost of Goods Sold 140,000.00 140,000.00 140,000.00
TOTALS 250,000.00 250,000.00 675,000.00 675,000.00 180,000.00 225,000.00 495,000.00 450,000.00
Net Income 45,000.00 45,000.00
TOTALS 225,000.00 225,000.00 495,000.00 495,000.00

A Statement of Cost of Goods Sold is a report on the entity’s inflow and outflow of
merchandise in an operating cycle. It shows how many and how much goods were purchased,
added to the beginning inventory, sold, and left for a certain period. Here is a pro-forma
statement of the Statement of Cost of Goods Sold.
Company Name
Statement of Cost of Goods Sold
For the Period Ended January 31, 2020
(in Php)
Merchandise Inventory, Beginning xx

Net Purchases
Purchase Returns and Allowances (xx)
Purchase Discounts (xx) xx
Freight-in xx
Cost of Goods Available for Sale xx
Merchandise Inventory, Ending (xx)
Cost of Goods Sold xx
For our consumption, let’s take JPR’s Merchandise Store.

Statement of Cost of Goods Sold
For the Period ended January 31, 2020
(in Php)
Merchandise Inventory, 1/1 0.00
Net Purchases 250,000.00
Good Available for Sale 250,000.00
Less: Merchandise Inventory, 1/31 110,000.00
Cost of Goods Sold 140,000.00
A Statement of Financial Performance is a formal statement which reflects the financial

performance of the company. Its accounts are labelled as temporary/nominal – revenues and
expenses. If revenues exceed expenses, income is recognized. On the other hand, if expenses
exceed revenues, loss is then recognized.

Statement of Financial Performance
(in Php)
Net Sales Revenue 225,000.00
Less: Cost of Goods Sold 140,000.00
Gross Profit 85,000.00
Less: Operating Expenses
Salaries Expense 30,000.00 40,000.00
NET INCOME 45,000.00
A Statement of Changes in Equity summarizes the transactions affecting the equity
section of the financial position.

Statement of Changes in Equity
(in Php)
Rodriguez, Capital – Jan 1 300,000.00

Net Income 45,000.00
Total 345,000.00
Less: Rodriguez, Capital 0.00
Rodriguez, Capital - Dec 31 345,000.00
A Statement of Financial Position is a formal statement showing financial standing of

the three permanent accounts – assets, liabilities, and equity. It can be presented either in report
form or in account form.

January 31, 2020
(in Php)
ASSETS
Current Assets
Cash 185,000.00
TOTAL ASSETS 495,000.00
LIABILITIES
Current Liability
EQUITY
TOTAL LIABILITIES AND CAPITAL 495,000.00
STEP 8: Prepare Closing Entries
Closing entries are made at the end of the accounting period after financial statements
are prepared for the purpose of closing nominal/temporary accounts. When nominal/temporary
accounts are closed, it means that the balance is reduced to zero. Normally, nominal accounts
are ‘zeroed out’ and transferred directly to an equity account to reflect the true standing of the
company for a certain accounting period.

These nominal accounts are transferred to a clearing account known as income
summary. This income summary account is the summary of the net income/loss for the period
and its resulting amount is closed to the capital account in a sole proprietorship business. How
do we close entries then?
1. Close nominal accounts with credit balances (e.g. revenue accounts).

2020 31
Jan
Sales Revenue 401 2 2 5 0 0 0 -
Income Summary 399 2 2 5 0 0 0 -
To close revenue accounts.
2. Close nominal accounts with debit balances (e.g. expense accounts)

2020 31 -
Jan
Income Summary 399 1 8 0 0 0 0
Rent Expense 502 1 0 0 0 0 -
To close expense accounts.
At this point, the balance of the Income Summary account is extracted. If it has a credit
balance, it represents net income and is closed as follows:
2020 31
Dec
Accordingly, if it has a debit balance, it represents net loss and is closed as follows:
2020 31
Dec
In Juan P. Rodriguez’ case, since it recognizes an income of Php45,000.00 therefore its

income summary is closed as follows:
2020 31 -
Dec
Income Summary 399 4 5 0 0 0
Rodriguez, Capital 301 4 5 0 0 0 -
3. Close drawings account to capital account, if there may be.

2020 31
Dec
Drawings account xx x x x x x -
To close drawings account.
For Juan’s case, since there were no withdrawals made during the period, therefore no
closing entries should be prepared in its drawings account.

STEP 9: Prepare Post-closing Trial Balance
Now that we have closed our nominal accounts, only real accounts are left with
balances. These real account balances will be used in the preparation of the post-closing trial
balance. The purpose of the post-closing trial balance is to prove that debits equal the credits
after closing thus ensures that the closing process has been performed correctly.

Post-closing Trial Balance
January31, 2020

Cash Php 185,000.00
Rodriguez, Capital _________ 345,000.00
TOTALS 495,000.00 495,000.00
STEP 10: Prepare Reversing Entries
Reversing entries are made at the beginning of the new accounting period in order to
transfer all accrued and prepaid items established by adjusting entries to the nominal accounts
that are to be used in recording transactions during the new period. They are exactly called
reversing entries because they are the exact opposite of certain adjusting entries made at the
end of the accounting period. Its main purpose is to simplify the recording of certain kinds of
recurring transactions. (Valix, 2017)
The adjustments normally requiring reversal at the beginning of the new period are:
• Accrued expenses;
• Prepaid expenses, if the expense method is used in recording expense;
• Accrued income;
• Deferred income, if the income method is used in recording income.
Generalizations:
Based on what you have learned, so far,
can you now complete the accounting process of a merchandising business?

REVIEW DISCUSSIONS
1. Define merchandising business.

2. What are the features of a merchandising business’ accounting cycle?
3. What are the similarities between the accounting cycle of a service business and
merchandising business?
4. Differentiate single-step income statement from a multi-step income statement.
5. What is the difference between selling and administrative expenses?
6. Compare the process of computing the net income for service and merchandising
business.
Exercise 9.1: True or False

Write T if the statement is TRUE, otherwise F.
1. The statement of cost of goods sold shows the amount of goods available for sale.
2. A merchandising business has the same accounting process to that of a service business.
3. In multi-step income statement, selling and administrative are shown as one.
4. The operating cycle of a merchandising business is always one year.
5. A merchandising business has better presentation of income and expenses.
6. Only merchandising businesses are allowed to use special journals and ledgers.
7. Freight in is added to the beginning inventory and purchases.
8. A merchandising business has an option to either use LIFO or FIFO in costing.
9. A merchandising business is an entity which converts raw materials into finished goods.
10. Cost of goods sold is derived by deducting ending inventory from goods available for
sale.
Exercise 9.2: Multiple Choice

Choose the best answer to each question.
1. “Inventories are assets which are held for sale in the ordinary course of business”.
a) PAS 1
b) PAS 2
c) PAS 3
d) PAS 4

2. An entity must classify properties that it holds for sale in the ordinary course of business as
a) Fixed Assets.
b) Property, Plant and Equipment.
c) Inventory.
d) Long-term Assets.
3. Net purchases is derived by

a) adding gross purchases and other purchases.
b) adding gross purchases, returns, allowances, and discounts.
c) deducting gross purchases from returns, allowances, and discounts.
d) deducting returns, allowances, and discounts from gross purchases.
4. What is the effect to the cost of goods sold if the purchases are overstated?
a) Overstated
b) Understated
c) No effect
d) Can not be determined
5. What is the effect to the ending inventory if the cost of goods sold is overstated?
a) Overstated
b) Understated
c) No effect
d) Can not be determined
6. What is the method of accounting for inventory in which the cost of goods sold is recorded
every sale?
a) Periodic Inventory System
b) Perpetual Inventory System
c) Stocking Inventory System
d) Annual Inventory System
7. Which of the following is the characteristic of a perpetual inventory system.

a) Cost of goods sold is determined at the end of the operating cycle.
b) Cost of goods sold is updated in every sale transaction.
c) Inventory purchases are debited to a purchase account.
d) Inventory records are done at the close of the operating cycle.
8. Which of the following terms represents the deduction from the amount of payable to
suppliers due to early payments.
a) Sales returns and allowances
b) Sales discounts
c) Purchase returns and allowances
d) Purchase discounts
9. Which of the following terms represents the deduction from clients’ receivables due to
defects of merchandise?
a) Sales returns and allowances
b) Sales discounts
c) Purchase returns and allowances
d) Purchase discounts
10. In a periodic system, the beginning inventory
a) is the sum of net purchases and goods available for sale.
b) is the sum of gross purchases and goods available for sale.
c) is the goods available for sale less net purchases.
d) is the goods available for sale less gross purchases.
Problem-Based Learning
Problem-Based Learning activities are similar to Case

Studies but usually focus on quantitative problems. In
some cases, the problems are designed to introduce the
material as well as provide students with a deeper
learning opportunity.
COMPREHENSIVE PROBLEM:
Answer the following problems as required.
1. https://www.coursehero.com/tutors-problems/Accounting/10704552-Please-refer-to-the-
attachment-to-answer-this-question-This-question/
2. https://www.chegg.com/homework-help/questions-and-answers/following-merchandising-
transactions-dollar-store-nov-1-dollar-store-purchases-merchandise-q18895350
3. https://www.chegg.com/homework-help/accounting-inventory-using-perpetual-inventory-
system-fifo-p-chapter-6-problem-38cp-solution-9780134642864-exc

References
(n.d.). Retrieved July 9, 2020, from https://za.pinterest.com/pin/687924911806779536/
(n.d.). Retrieved July 9, 2020, from https://www.needpix.com/photo/180621/circle-repeat-cycle-

reload-redo-recycling-sign-roundabout-symbol
(n.d.). Retrieved July 26, 2020, from https://freesvg.org/reuse-symbol-drawing
(n.d.). Retrieved July 26, 2020, from https://www.chegg.com/homework-help/accounting-inventory-

using-perpetual-inventory-system-fifo-p-chapter-6-problem-38cp-solution-9780134642864-
exc
(n.d.). Retrieved July 26, 2020, from https://www.coursehero.com/tutors-

problems/Accounting/10704552-Please-refer-to-the-attachment-to-answer-this-question-
This-question/
(n.d.). Retrieved July 26, 2020, from https://www.chegg.com/homework-help/questions-and-

answers/following-merchandising-transactions-dollar-store-nov-1-dollar-store-purchases-
merchandise-q18895350
Valix, C. T. (2017). Theory of Accounts, Revised Edition (Vol. Volume One). Manila, Philippines: GIC
Enterprises & Co., Inc.


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11

Learning Resource Management Section:

Content Standards: The learners demonstrate an understanding of the accounting

Most Essential Learning Competencies:

STEP 4: Prepare Unadjusted Trial Balance

Apr1 500,000.00 200,000.00 Apr15 Apr15 200,000.00

ACCOUNTS PAYABLE RODRIGUEZ, CAPITAL

200,000.00 Apr1 300,000.00 Apr1

SALARIES EXPENSE TAXES AND LICENSES EXPENSE

JPR Computer Shop

ACCOUNT TITLE DEBIT CREDIT

STEP 5: Prepare Adjusting Entries

2. Doubtful Accounts (Contra-valuation account for Accounts Receivable)

Doubtful Accounts Expense xx

15 Computer Equipment 134 2 0 0 0 0 0 -

20 Prepaid Rent 122 1 0 0 0 0 -

30 Taxes and License Expense 505 1 5 0 0 -

Jun 30 Cash 101 3 2 0 0 0 -

Utilities Expense 506 5 5 0 0 -

Salaries Expense 503 8 0 0 0 -

Account Title: CASH Account No. 101

Account Title: PREPAID RENT Account No. 122

Account Title: COMPUTER EQUIPMENT Account No. 134

Account Title: ACCOUNTS PAYABLE Account No. 201

Account Title: RODRIGUEZ, CAPITAL Account No. 301

Account Title: SERVICE REVENUE Account No. 401

Account Title: SALARIES EXPENSE Account No. 503

Account Title: UTILITIES EXPENSE Account No. 506

Accordingly, the Unadjusted Trial Balance shall be presented as follows:

JPR Computer Shop

ACCOUNT TITLE DEBIT CREDIT

Account Title: PREPAID RENT Account No. 122

Account Title: RENT EXPENSE Account No. 502

Depreciation Expense = Cost – Residual Value

For our example, the depreciation for computer equipment is:

Annual Depreciation = Php200,000.00/3

2020 Depreciation Expense = Php66,666.66 (8.5/12)

Account Title: ACCUMULATED DEPRECIAITON – COMPUTER EQUIPMENT Account No. 561

Account Title: DEPRECIATION EXPENSE Account No. 135

JPR Computer Shop

ACCOUNT TITLE DEBIT CREDIT

STEP 7: Prepare Financial Statements

In the preparation of financial statements, an important tool can be of great use to

A worksheet is a multicolumn (usually 10 columns) sheet of paper that an accountant

The following is a sample worksheet for JPR Computer Shop.

• Statement of Financial Position (previously known as balance sheet);

A Statement of Financial Position is a formal statement showing financial standing of

JPR Computer Shop

JPR Computer Shop

Rodriguez, Capital - Apr 1 300,000.00

JPR Computer Shop

Service Revenue 32,000.00

STEP 8: Prepare Closing Entries

These nominal accounts are transferred to a clearing account known as income

1. Close nominal accounts with credit balances (e.g. revenue accounts).

12 | FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT I

To close expense accounts.

In Juan P. Rodriguez’ case, since it recognizes a loss of Php40,222.22 therefore its

To close income summary.

3. Close drawings account to capital account, if there may be.

STEP 9: Prepare Post-closing Trial Balance

13 | FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT I

ACCOUNT TITLE DEBIT CREDIT