2 Accrual Accounting Versus Cash-Basis Accounting Accrual BasisRevenues recognized when earnedExpenses recognized when incurredCash BasisRevenues recognized when cash receivedExpenses recorded when cash paidNot GAAP99
6 Accrual vs. Cash-Basis Accounting Accrual basisCash-basis99
7 S3-2: COMPARING ACCRUAL AND CASH-BASIS ACCOUNTING The Johnny Flowers Law Firm uses a client database. Suppose Johnny Flowers paid $2,900 for a computer.Requirements:1. Describe how the business should account for the $2,900 expenditure underthe cash basis.b. the accrual basis.
8 2. State why the accrual basis is more realistic for this situation. S3-2: COMPARING ACCRUAL AND CASH-BASIS ACCOUNTING2. State why the accrual basis is more realistic for this situation.
9 Accounting Period Concept Businesses prepare financial statements for specific periods to evaluate performanceBasic accounting period = one yearInterim periods
10 Revenue Recognition Principle When to record revenue?When it is earnedThe amount of revenue to recorded?Value of item or service transferred to customer
11 Recording Revenue: The Revenue Recognition Principle
12 The Matching Principle Measure all expenses incurred during the periodMatch the expenses against the revenues earned during the same period
13 The Time-Period Concept Requires that accounting information be reported at regular intervalsAccounts are updated at the end of each accounting period
14 Time-Period ConceptOn May 31, Smart Touch recorded salary expense of $900 that is owed to an employee at the end of the month.
16 Adjusting Entries Prepared at end of an accounting period Assigns: Revenues to the period when earnedExpenses to the period when incurredUpdate asset and liability accountsNeed to properly match revenues and expenses to measure:Net IncomeAssets and Liabilities1212
17 Adjusting Entry Rules Never involve the cash account Either increase revenue or increase an expenseWhen worded as “accrued”, journalize the stated amount
18 Types of Adjusting Entries Prepaid expensesDepreciationAccrued expensesAccrued revenuesUnearned revenues
19 Prepaid Expenses Advance payments of expenses Recorded as an asset Adjusting entry records amount used as an expense
30 Summary of Adjusting Entries To properly measure net income for the periodTo update the balance sheet
31 Summary of Adjusting Entries Category of Adjusting EntryDebitCreditPrepaid expenseExpenseAssetDepreciationContra assetAccrued expenseLiabilityAccrued revenueRevenueUnearned revenue
32 S3-5: IDENTIFYING TYPES OF ADJUSTING ENTRIES A select list of transactions for Anuradha’s Goals follows:Apr 1 Paid six months of rent, $4,800.10 Received $1,200 from customer for six-month service contract that began April 1.15 Purchased computer for $1,000.Requirement:1. For each transaction, identify what type of adjusting entry would be needed.
33 S3-5: IDENTIFYING TYPES OF ADJUSTING ENTRIES A select list of transactions for Anuradha’s Goals follows:Apr 18 Purchased $300 of office supplies on account.30 Work performed but not yet billed to customer, $500.30 Employees earned $600 in salary that will be paid May 2.
34 The following data at January 31, 2012 is given for EBM, Inc. E3-22: JOURNALIZING ADJUSTING ENTRIES AND ANALYZING THEIR EFFECT ON THE INCOME STATEMENTThe following data at January 31, 2012 is given for EBM, Inc.a. Depreciation, $500b. Prepaid rent expired, $600c. Interest expense accrued, $300d. Employee salaries owed for Monday through Thursday of a five-day workweek; weekly payroll, $13,000e. Unearned service revenue earned, $1,300Requirement:1. Journalize the adjusting entries needed on January 31, 2012.
35 ACCOUNTS AND EXPLANATIONS E3-22: JOURNALIZING ADJUSTING ENTRIES AND ANALYZING THEIR EFFECT ON THE INCOME STATEMENTJournalDATEACCOUNTS AND EXPLANATIONSPOST.REF.DEBITCREDIT2013Adjusting EntriesJan31Depreciation expenseAccumulated depreciationRent expensePrepaid rentInterest expenseInterest payableSalary expenseSalary payableUnearned service revenueService revenue
36 E3-22: JOURNALIZING ADJUSTING ENTRIES AND ANALYZING THEIR EFFECT ON THE INCOME STATEMENT 2. Suppose the adjustments made in Requirement 1 were not made. Compute the overall overstatement or understatement of net income as a result of the omission of these adjustments.
37 Adjusted Trial Balance Prepared after adjusting entries are postedUseful step in preparing financial statementsOften appears on a work sheet
44 E3-25: PREPARING THE FINANCIAL STATEMENTS Refer to the adjusted trial balance in Exercise 3-21 for the month ended April 30, 2012.Requirements:Prepare the income statement.2. Prepare the statement of retained earnings.3. Prepare the balance sheet.