Adjusting Accounts

Chapter
and Preparing
Financial Statements

100 Shares

Adjustments??
$1 par value

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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Learning
Learning Objectives
Objectives
Explain the importance
of periodic reporting and
the time period principle
Explain accrual
accounting and how it
makes financial
statements more useful
Identify the types of
adjustments and their
purpose
Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Prepare and explain

adjusting entries
Explain how accounting
adjustments link to
financial statements
Explain and prepare an
adjusted trial balance
Prepare financial
statements from an
adjusted trial balance
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The
The Accounting
Accounting Period
Period
Annual
1

Semiannual
1

Quarterly
1

Jan

Feb

Mar

Apr

May Jun Jul

10

Aug Sep Oct

Monthly

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11

12

Nov Dec

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The
The Accounting
Accounting Period
Period
Calendar year- reporting period of 12 months
covering from 1 January to 31 December
Fiscal year- reporting period consisting of any 12
consecutive months, in which the starting month
is not necessarily beginning from 1 January. Eg. 1
April 2005 to 31 March 2006

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The McGraw-Hill Companies, Inc., 2007

Accrual
Accrual Basis
Basis vs.
vs. Cash
Cash Basis
Basis
Accrual Basis

Cash Basis

Revenues are
recognized when
earned and expenses
are recognized when
incurred.

Revenues are
recognized when
cash is received and
expenses recorded
when cash is paid.

Not GAAP
Accounting

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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Accrual
Accrual Basis
Basis vs.
vs. Cash
Cash Basis
Basis

On the cash basis the entire $2,400 would be

recognized as insurance expense in 2006. No insurance
expense from this policy would be recognized in 2007 or
2008, periods covered by the policy.
Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Accrual
Accrual Basis
Basis vs.
vs. Cash
Cash Basis
Basis
On the accrual basis
$100 of insurance
expense is recognized in
2006, $1,200 in 2007,
and $1,100 in 2008. The
expense is matched with
the periods benefited by
the insurance coverage.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

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Recognizing
Recognizing Revenues
Revenues and
and Expenses
Expenses
Revenue Recognition
We have delivered the
product to our customer,
so I think we should record
the revenue earned.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Recognizing
Recognizing Revenues
Revenues and
and Expenses
Expenses
Revenue Recognition
Matching
Summary
of Expenses
Rent
Gasoline
Advertising
Salaries
Utilities
and . . . .

$1,000
500
2,000
3,000
450
....

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Now that we have

recognized the revenue,
lets see what expenses
we incurred to
generate that revenue.

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Adjusting
Adjusting Accounts
Accounts
An adjusting entry is recorded to bring an asset or
liability account balance to its proper amount.

Framework for Adjustments

Adjustments
Paid
Paid (or
(or received)
received) cash
cash before
before
expense
expense (or
(or revenue)
revenue) recognized
recognized

Prepaid
Unearned
Prepaid
Unearned
(Deferred)
(Deferred)
(Deferred)
(Deferred)
expenses*
revenues
expenses*
revenues
*including depreciation

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Paid
Paid (or
(or received)
received) cash
cash after
after
expense
expense (or
(or revenue)
revenue) recognized
recognized

Accrued
Accrued
expense
expense

Accrued
Accrued
revenues
revenues
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Adjusting
Adjusting Prepaid
Prepaid (Deferred)
(Deferred) Expenses
Expenses
Resources paid
for prior to
receiving the
actual benefits.
Asset
Unadjusted
Balance

Credit
Adjustment

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Here is the check

for my first
6 months rent.

Expense
Debit
Adjustment

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Prepaid
Prepaid Insurance
Insurance
On 1 December 2006, Scott Company paid $12,000 to
cover rent for December 2006 through May 2007.
Scott recorded the expenditure as Prepaid Insurance
on 1 December. What adjustment is required?

637

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128

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Adjusting
Adjusting for
for Depreciation
Depreciation
Depreciation is the process of computing expense from
allocating the cost of plant and equipment over their
expected useful lives.
Straight-Line
Asset Cost - Salvage Value
Depreciation =
Useful Life
Expense

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Adjusting
Adjusting for
for Depreciation
Depreciation
On 1 January 2006, Barton, Inc. purchased equipment
for $62,000 cash. The equipment has an estimated
useful life of 5 years and Barton expects to sell the
equipment at the end of its life for $2,000 cash.
Lets record depreciation expense for the year ended
31 December 2006.
2006
$62,000 - $2,000
Depreciation =
=
Expense
5

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

$12,000

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Adjusting
Adjusting for
for Depreciation
Depreciation
On 1 January 2006, Barton, Inc. purchased equipment
for $62,000 cash. The equipment has an estimated
useful life of 5 years and Barton expects to sell the
equipment at the end of its life for $2,000 cash.
Lets record depreciation expense for the year ended
31 December 2006.

Accumulated
Accumulated depreciation
depreciation is
is
aa contra
contra asset
asset account.
account.
Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Adjusting
Adjusting for
for Depreciation
Depreciation

Equipment

Depreciation Expense

1/1 62,000

31/12 12,000

Accumulated Depreciation
31/12 12,000

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Adjusting
Adjusting for
for Depreciation
Depreciation

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Equipment is
shown net of
accumulated
depreciation.

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Adjusting
Adjusting Unearned
Unearned (Deferred)
(Deferred) Revenues
Revenues
Cash
Cash received
received in
in
advance
advance of
of
providing
providing
products
products or
or
services.
services.

Buy your season tickets for

all home basketball games NOW!

Liability
Debit
Adjustment

Unadjusted
Balance

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Go Big Blue

Revenue
Credit
Adjustment

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Adjusting
Adjusting Unearned
Unearned (Deferred)
(Deferred) Revenues
Revenues
On 1 October 2006, Ox University sold 1,000 season
tickets to its 20 home basketball games for $100
each. Ox University makes the following entry:

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Adjusting
Adjusting Unearned
Unearned (Deferred)
(Deferred) Revenues
Revenues
On 31 December, Ox University has played 10 of its
regular home games, winning 2 and losing 8.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Adjusting
Adjusting for
for Accrued
Accrued Expenses
Expenses
Costs
Costs incurred
incurred in
in aa
period
period that
that are
are
both
both unpaid
unpaid and
and
unrecorded.
unrecorded.

Expense
Debit
Adjustment

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Were about one-half

done with this job and
want to be paid for
our work!

Liability
Credit
Adjustment

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Adjusting
Adjusting for
for Accrued
Accrued Expenses
Expenses
Barton,
Barton, Inc.
Inc. pays
pays its
its employees
employees every
every Friday.
Friday. Year-end,
Year-end,
31/12/06,
31/12/06, falls
falls on
on aa Wednesday.
Wednesday. As
As of
of 31/12/06,
31/12/06, the
the
employees
employees have
have earned
earned salaries
salaries of
of $47,250
$47,250 for
for Monday
Monday
through
through Wednesday
Wednesday of
of the
the week
week ended
ended 2/01/07.
2/01/07.

Last pay
date
26/12/06
1/12/06

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Next pay
date
2/01/07
31/12/06
Year end

Record
Record adjusting
adjusting
journal
journal entry.
entry.
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Adjusting
Adjusting for
for Accrued
Accrued Expenses
Expenses
Barton,
Barton, Inc.
Inc. pays
pays its
its employees
employees every
every Friday.
Friday. Year-end,
Year-end,
31/12/06,
31/12/06, falls
falls on
on aa Wednesday.
Wednesday. As
As of
of 31/12/06,
31/12/06, the
the
employees
employees have
have earned
earned salaries
salaries of
of $47,250
$47,250 for
for Monday
Monday
through
through Wednesday
Wednesday of
of the
the week
week ended
ended 2/01/07.
2/01/07.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Adjusting
Adjusting Accrued
Accrued Revenues
Revenues
Revenues earned
in a period that
are both
unrecorded and
not yet received.

Asset
Debit
Adjustment

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

Yes, Ive completed your

tax return, but have not had
time to bill you yet.

Revenue
Credit
Adjustment

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Adjusting
Adjusting for
for Accrued
Accrued Revenues
Revenues
Smith
Smith &
& Jones,
Jones, CPAs,
CPAs, had
had $31,200
$31,200 of
of work
work
completed
completed but
but not
not yet
yet billed
billed to
to clients.
clients. Lets
Lets make
make
the
the adjusting
adjusting entry
entry necessary
necessary on
on 31
31 December
December 2006,
2006,
the
the end
end of
of the
the companys
companys fiscal
fiscal year.
year.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Links
Links to
to Financial
Financial Statements
Statements

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

FASTFORWARD
TRIAL BALANCE
31 DECEMBER 2006

First,
First, the
the
initial
initial
unadjusted
unadjusted
amounts
amounts are
are
added
added to
to the
the
worksheet.
worksheet.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

FASTFORWARD
TRIAL BALANCE
31 DECEMBER 2006

$
$
$

Next,
Next,
FastForwards
FastForwards
adjustments
adjustments
are
are added.
added.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

$
The McGraw-Hill Companies, Inc., 2007

Finally,
Finally, the
the totals
totals are
are
determined.
determined.

FASTFORWARD
TRIAL BALANCE
31 DECEMBER 2006

$
$
$
$

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Prepare the Income

Statement.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Preparing
Preparing Financial
Financial Statements
Statements
Lets use FastForwards adjusted trial balance to
prepare the companys financial statements.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Prepare the Statement of

Changes in Owners Equity.
Note: Net Income from the Income
Statement carries to the Statement of
Changes in Owners Equity.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

Prepare the Balance Sheet.

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007

End of Chapter 3

Larson, Wild, Chiapetta, Ropidah, Haslinda, Aryati, Liana

The McGraw-Hill Companies, Inc., 2007