2 Classified Financial Statements At the end of the period, Simpson Antiquesprepares three financial statements:Income statementStatement of owner's equityBalance sheetWe will prepare three financial statements.
3 The the balance sheet is arranged in a classified format. This makes the financial statement more useful to the readers.A classified Balance Sheet is formatted where accounts are divided into groups of similar accounts and a subtotal is given for each group.A newspaper’s classified section is similar to a business’s classified financial statements. Classifying like information together on financial statements makes them easier to interpret.
4 The Multiple-Step Income Statement A multiple-step income statement is a type of income statement on which several subtotals are computed before the net income is calculated.A classified income statement is sometimes called a multiple-step income statement.
5 The Single-Step Income Statement A single-step income statement is a format in which only one computation is needed to determine the net income.A single-step income statement is a format in which only one computation is needed to determine the net income.(Total Revenue – Total Expenses = Net Income)
6 Single-step Income Statement The format lists all revenues in one section and all expenses in another section.JT Consulting ServicesIncome StatementMonth Ended December 31, 2007RevenueFees Income ,000ExpensesSalaries Expense ,000Utilities ExpenseSupplies ExpenseRent Expense ,000Depreciation Expense - EquipmentTotal Expenses ,683Net Income for the Month ,317Here is a single step income statement. Total expenses are subtracted from total revenues to get net income of $18,317.00
7 Operating RevenueThe first section of the multiple-step income statement contains the revenue from operations.This is the revenue earned from normal business activities.Other income is presented separately near the bottom of the statement.Operating Revenue is the revenue earned from normal business activities.
8 Operating RevenueThe operating revenue for Simpson Antiques is net sales of merchandise.Sales<Sales Returns and Allowances><Sales Discounts>Net SalesThe operating revenue for Simpson Antiques is net sales of merchandise.This is an internal calculation which does not appear on the income statement
9 Operating Revenue Net sales for Simpson Antiques Net sales for Simpson Antiques is $549,150.Net sales for Simpson Antiques
10 Cost of Goods SoldThe Cost of Goods Sold section contains information about the cost of the merchandise that was sold during the period.Three elements are needed to compute the cost of goods sold:Beginning inventoryNet delivered cost of purchasesEnding inventoryCost of Goods Sold section contains information about the cost of the merchandise that was sold during the period. Three elements are needed to compute the cost of goods sold: Beginning inventory, Net delivered cost of purchases and Ending inventory.
11 Net Delivered Cost of Purchases + Freight In<Purchases Returns and Allowances><Purchases Discounts>Net Delivered Cost of PurchasesTo calculate the net delivered cost of purchases, you can follow the above calculation.
12 Schedule of Cost of Goods Sold Beginning Merchandise Inventory+ Net Delivered Cost of PurchasesTotal Merchandise Available for Sale<Ending Merchandise Inventory>Cost of Goods SoldRemember, the Cost of Goods Sold section contains information about the cost of the merchandise that was sold during the period.This is usually footnoted in the financial statements rather than appearing on the income statement
13 Cost of Goods Sold Cost of goods sold The net delivered cost of purchases was $325,120. When we add the beginning inventory to these purchases, we get total available inventory for sale of $377,120. After subtracting out the ending inventory still on hand, we get cost of goods sold of $330,120.Cost of goods sold
14 Gross Profit on SalesGross profit is the difference between net sales and the cost of goods sold.For Simpson Antiques net sales is the revenue earned from selling clothes.Cost of goods sold is what Simpson Antiques paid for the clothes that were sold during the fiscal period.Gross profit is what is left to cover operating expenses and provide a profit.Gross profit is also what is left to cover operating expenses and provide a profit.
15 Gross profit on sales for Simpson Antiques Net sales were $549,150. When we subtract the cost of goods sold of $330,120, Simpson Antiques will report gross profit of $219,030.
16 Operating ExpensesOperating expenses are expenses that arise from normal business activities.Simpson Antiques separates operating expenses into two categories:Selling ExpensesGeneral and Administrative ExpensesOperating expenses are separated into two categories: (1) Selling Expenses and (2) General and Administrative Expenses.
17 Operating ExpensesSalaries for salespersons and advertising are examples of selling expenses.Selling expenses include salesperson salaries and advertising expenses.
18 Operating ExpensesRent, utilities, and salaries for office employees are examples of general and administrative expenses.General and Administrative Expenses include Insurance Expense and office employees salaries.
19 Net Income or Net Loss from Operations The format for determining net income (or net loss) from operations is:Gross Profit on Sales(Total Operating Expenses)Net Income (or Net Loss) from OperationsHere you can see the formula for calculating net income or net loss from operations.
20 Net income from operations Simpson Antiques is reporting $51, net income from operations.
21 Other Income and Other Expenses Income that is earned from sources other than normal business activities appears in the Other Income section.For Simpson Antiques other income includes interest on notes receivable and one miscellaneous income item.Expenses that are not directly connected with business operations appear in the Other Expenses section.Income that is earned from sources unrelated to the normal business activity is classified as “other income” and would appear in the Other Income section. Expenses which are incurred but not directly connected with business operations appear in the Other Expenses section. (ex. Interest expense).
22 Other Income and Other Expenses Total other income was equal to $748 and other expenses totaled $770. The difference was net nonoperating expense of $22.
23 Net Income or Net LossNet income is all the revenue minus all the expenses.If there is a net loss, it appears in parentheses.Net income or net loss is used to prepare the statement of owner's equity.Net income is all the revenue minus all the expenses.
24 Net income for Simpson Antiques Simpson Antiques had $51, of net income.
25 The Statement of Owner's Equity The statement of owner's equity reports the changes that occurred in the owner's financial interest during the period.The ending capital balance for Patricia Simpson, $84,792.80, is used to prepare the balance sheet.The statement of owner's equity reports the changes that occurred in the owner's financial interest during the period. At the end of the period, Patricia Simpson, Capital had a balance of $84,
26 Current AssetsCurrent assets are assets consisting of cash, items that normally will be converted into cash within one year, or items that will be used up within one year.Current assets consist of cash, items that will normally be converted into cash within one year, and items that will be used within one year (cash, accounts receivables, merchandise inventory, etc.).
27 Current Assets Current assets are listed in the order of liquidity. Liquidity is the ease with which an item can be converted into cash.Current assets are usually listed in order of liquidity. Current assets are vital to the survival of a business because they provide the funds needed to pay bills and meet expenses.
28 Current Assets Current assets for Simpson Antiques Total current assets for Simpson Antiques is $98,Current assets for Simpson Antiques
29 Property, Plant & Equipment Property, Plant & Equipment (PP&E) is property that will be used in the business for longer than one year.The balance sheet shows three amounts for each category of plant and equipment :Plant and Equipment is our next asset classification appearing on the classified balance sheet.Asset(Accumulated depreciation)Book value
30 Plant and Equipment Total property, plant and equipment Total plant and equipment for Simpson Antiques is $31,900.Total property, plant and equipment
31 Current LiabilitiesCurrent liabilities are debts that must be paid within one year using current assets.Current liabilities are usually listed in order of priority of payment.Management must ensure that funds are available to pay current liabilities when they become due in order to maintain the firm's good credit reputation.The liabilities section comes next on the classified balance sheet. Liabilities are classified into two sections: current and long term.
32 Total current liabilities AssetsPrepaid Interest75.006,300.00Total Current Assets98,716.00Total Plant and Equipment31,900.00Total Assets130,616.00Liabilities and Owner’s EquityCurrent LiabilitiesNotes Payable-Trade2,000.00Notes Payable-Bank9,000.00Accounts Payable24,129.00Interest Payable20.00Social Security Tax Payable1,158.40Medicare Tax Payable267.40Employee Income Tax Payable990.00Fed. Unemployment Tax Pay.9.60State Unemployment Tax Pay.64.80Salaries Payable1,200.00Sales Tax Payable6,984.00Total Current Liabilities45,823.20Simpson AntiquesBalance SheetYear Ended December 31, 2007Total current liabilitiesTotal current liabilities for Simpson Antiques is $45,
33 Long-Term Liabilities Long-term liabilities are any debts that are not considered current.Although repayment of long-term liabilities might not be due for several years, management must make sure that periodic interest is paid promptly.Long-term liabilities include mortgages, notes payable, and loans payable.After current liabilities comes long-term liabilities.
34 Owner's EquityAfter transferring the capital account balance from the statement of owner’s equity, we can complete the balance sheet. Total liabilities and owner’s equity is $130,The ending balance from the statement of owner’s equity is transferred to the Owner's Equity section of the balance sheet.
35 Adjusting Entries All adjustments are shown on the worksheet. After the financial statements have been prepared, the adjustments are made a permanent part of the accounting records.They are recorded in the general journal as adjusting journal entries and are posted to the general ledger.The adjustments shown on the worksheet need to be recorded in the general journal as adjusting journal entries. They are then posted to the general ledger.
36 Journalizing the Adjusting Entries Each adjusting entry shows how the adjustment was calculated.Supervisors and auditors need to understand, without additional explanation, why the adjustment was made.It is important to leave a detailed explanation with each adjusting entry. The explanation should show how the adjustment was calculated.
37 Adjusting Entries Type of Adjustment Worksheet Reference Purpose Inventory(a – b)Removes beginning inventory and adds ending inventory to the accounting records.Expense(c – e)Matches expense to revenue for the period; the credit is to a contra asset account.Accrued Expense(f – i)Matches expense to revenue for the period; the credit is to a liability account.Prepaid Expense(j – l)Matches expense to revenue for the period; the credit is to an asset account.The last adjustments were for interest receivable and to record accrued commission earned on sales tax owed.Accrued Income(m – n)Recognizes income earned in the period. The debit is to an asset account (Interest Receivable) or a liability account (Sales Tax Payable).
38 GENERAL JOURNAL PAGE 25 DATE DESCRIPTION POST. DEBIT CREDIT REF. DecAdjusting Entries(Adjustment a)Income Summary ,000.00Merchandise Inventory ,000.00To transfer beginning inventory to Income Summary(Adjustment b)31Merchandise Inventory ,000.00Here are the first two adjusting journal entries regarding merchandise inventory.Income Summary ,000.00To record ending inventory
39 GENERAL JOURNAL PAGE 25 DATE DESCRIPTION POST. DEBIT CREDIT REF. DecAdjusting Entries(Adjustment c)Uncollectible Accounts ExpenseAllowance for Doubtful AccountsTo record estimated loss from uncollectible amounts based on 0.8% of net credit sales of $100,000(Adjustment d)31Depreciation Expense – Store Equip ,400.00Accum. Depreciation - Store Equip ,400.00Adjusting journal entries for adjustments c-e are shown here.To record depreciation for 2007 as shown by schedule on file.(Adjustment e)31Depreciation Expense – Office EquipAccum. Depreciation - Office EquipTo record depreciation for 2007 as shown by schedule on file.
40 GENERAL JOURNAL PAGE 25 DATE DESCRIPTION POST. DEBIT CREDIT REF. DecAdjusting Entries(Adjustment f)Salaries Expense - Sales ,200.00Salaries Payable ,200.00To record accrued salaries of part-time sales clerks for Dec(Adjustment g)31Payroll Taxes ExpenseSocial Security Tax PayableHere are the payroll related adjusting journal entries.Medicare Tax PayableTo record accrued payroll tax on accrued salaries for Dec
41 GENERAL JOURNAL PAGE 25 DATE DESCRIPTION POST. DEBIT CREDIT REF. DecAdjusting Entries(Adjustment h)Payroll Taxes ExpenseFed. Unemployment Tax PayableState Unemployment Tax PayableTo record accrued payroll tax on accrued salaries for Dec(Adjustment i)31Interest ExpenseInterest PayableHere are the next two adjusting entries h-i.To record interest on a 2-month, $2,000, 12% note payable dated Dec. 1, 2007
42 GENERAL JOURNAL PAGE 26 DATE DESCRIPTION POST. DEBIT CREDIT REF. DecAdjusting Entries(Adjustment j)Supplies Expense ,975.00Supplies ,975.00To record supplies used(Adjustment k)31Insurance Expense ,450.00Prepaid Insurance ,450.00Here are those adjusting journal entries (adjustments j –l).To record expired insurance on 3-year policy purchased for $7,350 on Jan. 2, 2007(Adjustment l)31Interest ExpensePrepaid InterestTo record transfer of 2/3 of prepaid interest of $225 for a 3-month, 10% note payable issued to bank on Nov. 1, 2007
43 GENERAL JOURNAL PAGE 27 DATE DESCRIPTION POST. DEBIT CREDIT REF. DecAdjusting Entries(Adjustment m)Interest ReceivableInterest IncomeTo record accrued interest earned on a 4-month, 15% note receivable dated Nov. 1, 2007 ($1,200 x 0.15 x 2/12)(Adjustment n)31These are the last two adjustments.Sales Tax PayableMiscellaneous IncomeTo record accrued commission earned on sales tax owed for fourth quarter of 2007: Sales Tax Payable $7,200 Commission rate x Commission due $
44 Posting the Adjusting Entries After the adjustments have been recorded in the general journal, they are promptly posted to the general ledger.The word Adjusting is entered in the Description column of each general ledger account.Remember to write the word Adjusting in the Description column of each general ledger account.
45 Journalizing and Posting the Closing Entries At the end of the period, the temporary accounts are closed.The temporary accounts are:Revenue accountsCost of goods sold accountsExpense accountsDrawing accountThe temporary accounts are: Revenue accounts, Cost of goods sold accounts, all expense accounts and the Drawing account.
46 There are four steps in the closing process. Close revenue accounts and cost of goods sold accounts with credit balances to Income Summary.Close expense accounts and cost of goods sold accounts with debit balances to Income Summary.Close Income Summary, which now reflects the net income or loss for the period, to owner's capital.Close the drawing account to owner's capital.We will use the same four steps in the merchandiser’s closing process: close revenue accounts and cost of goods sold accounts with credit balances to Income Summary, close expense accounts and cost of goods sold accounts with debit balances to Income Summary, close Income Summary, which now reflects the net income or loss for the period, to owner's capital, and close the drawing account to owner's capital.
47 Step 1: Closing the Revenue Accounts and the Cost of Goods Sold Accounts with credit balances. GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.2007DecClosing EntriesIncome Summary ,578.00Sales ,650.00Interest IncomeMiscellaneous IncomePurchases Returns and Allowances ,050.00Purchases Discounts ,130.00Step 1: Close the Revenue Accounts and the Cost of Goods Sold Accounts that have credit balances. Make a credit to the Income Summary account.Debit each account, except Income Summary, for its balance. Credit Income Summary for the total.
48 Step 2: Closing the Expense Accounts and the Cost of Goods Sold Accounts with Debit Balances. GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.DecSales Returns and Allowances ,000.00Income Summary ,406.20Purchases ,500.00Salaries Expense – Sales ,990.00Advertising Expense ,425.00Cash Short or OverSupplies Expense ,975.00Depreciation Expense - Store Equip ,400.00Rent Expense ,600.00Freight In ,800.00Salaries Expense - Office ,500.00Telephone Expense ,875.00Uncollectible Accounts ExpenseUtilities Expense ,925.00Depreciation Expense - Office EquipInterest ExpensePayroll Taxes Expense ,371.20Insurance Expense ,450.00Credit each account, except Income Summary, for its balance. Debit Income Summary for the total.Step 2: Closing the Expense Accounts and the Cost of Goods Sold Accounts with Debit Balances. Make a corresponding debit to the Income Summary account.
49 Step 3: Closing the Income Summary Account. The third closing entry transfers the Income Summary balance to the owner's capital account.This closes the Income Summary account, which remains closed until it is used in the end-of-period process for the next year.For Simpson Antiques, the third closing entry is as follows:Income SummaryAdjusting Entries (a-b) 12/ , Closing Entries 12/ , ,406.2012/ ,000.0012/31 568, , Bal. 51,171.80GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.DecIncome Summary ,171.80Patricia Simpson, Capital ,171.80Step 3: Closing the Income Summary Account. Close the balance into the owner’s capital account.
50 Step 4: Closing the Drawing account. This entry closes the drawing account and updates the capital account.GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.DecPatricia Simpson, Capital ,600.00Patricia Simpson, Drawing ,600.00Step 4: Closing the Drawing account. Close the balance into the owner’s capital account.
51 Posting the Closing Entries The closing entries are posted from the general journal to the general ledger.This process brings the temporary account balances to zero.The word Closing is entered in the Description column.This process brings the temporary account balances to zero. Remember to write the word Closing in the Description column.
52 Preparing a Postclosing Trial Balance Prepare a postclosing trial balance to confirm that the general ledger is in balance.Only the accounts that have balances – the asset, liability and owner's capital accounts – appear on the postclosing trial balance.The postclosing trial balance matches the amounts reported on the balance sheet.To verify this, compare the postclosing trial balance with the balance sheet.Only the accounts that have balances – the asset, liability and owner's capital accounts – appear on the postclosing trial balance.
53 Only the accounts that have balances—the asset, liability and owner's capital accounts—appear on the postclosing trial balance.Only the accounts that have balances—the asset, liability and owner's capital accounts—appear on the postclosing trial balance.Asset Accounts
54 To verify this, compare the postclosing trial balance with the balance sheet. The postclosing trial balance should match the amounts reported on the balance sheet.Capital Account
55 Preparing a Postclosing Trial Balance Temporary accounts do not appear on the postclosing trial balance.RevenueCost of Goods SoldTemporary accounts including revenues, expenses and withdrawals do not appear on the postclosing trial balance.ExpensesWithdrawals
56 Two such measurements are used by Simpson Antiques: Ratios and other measurements are used to analyze and interpret financial statements.Two such measurements are used by Simpson Antiques:Gross profit percentageCurrent ratioThe basic procedure for calculating a ratio. One number is divided by another number. The result is the ratio of the numerator, or top number, to the denominator, or bottom number.
57 Gross Profit Percentage The gross profit percentage is the amount of gross profit from each dollar of sales.The gross profit percentage is calculated by dividing gross profit by net sales.For Simpson Antiques, for every dollar of net sales, gross profit was almost 40 cents.For Simpson Antiques, for every dollar of net sales, gross profit was almost 40 cents.Gross profit $219,030 Net sales $549,150== = %
58 Current RatioThe current ratio provides a measure of a firm's liquidity or ability to pay its current debts.Simpson Antiques has $2.15 in current assets for every dollar of current liabilities.The current ratio is calculated in the following manner:Simpson Antiques has $2.15 in current assets for every dollar of current liabilities.= to 1Current assets $98, Current liabilities $45,823.20=
59 Only accruals are reversed. Journalizing and Posting Reversing EntriesReversing entries are journal entries made to reverse the effect of certain adjusting entries involving accrued income or accrued expenses.Only accruals are reversed.The last step in the accounting cycle which is actually an optional step is to prepare reversing journal entries.
60 Reversing Entry GENERAL JOURNAL PAGE 25 GENERAL JOURNAL PAGE 29 At the beginning of the year, a reversing entry is made. This will simplify recordkeeping when the paychecks are issued.GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.DecSalaries Expense—Sales ,200.00Salaries Payable ,200.00(Adjustment f)Adjusting EntriesAt the beginning of the year, a reversing entry is made which is the opposite of the adjusting journal entry. This will simplify recordkeeping when the paychecks are issued.GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.2008 JanSalaries Payable ,200.00Salaries Expense—Sales ,200.00Reversing Entries
61 On January 3 the payment of $1,700 of salaries is recorded in the normal manner. GENERAL JOURNAL PAGEDATE DESCRIPTION POST DEBIT CREDITREF.2008 JanSalaries Expense ,700.00Cash ,700.00On January 3 the payment of $1,700 of salaries is recorded in the normal manner. There is no need to take into account the adjusting entry made on December 31.
62 Reversing Accrued Salaries Expense Salaries Payable12/ ,200Closing 1,2001/ ,20012/ ,2001/ ,200BalBal ,200The credit balance in Salaries Expense is unusual because the normal balance of an expense account is a debit.This is what the T accounts would look like. On January 1 the reversing entry is made.
63 December = $1,200 last period January = $ 500 this period After this entry is posted, the expense is properly divided between two periods.Salaries ExpenseSalaries PayableCash12/ ,200Closing 1,2001/ ,20012/31 1,2001/1 1,2001/3 1,7001/ ,700BalDecember = $1,200 last periodJanuary = $ this periodTotal = $1,700After this entry is posted, the expense is properly divided between two periods.
64 The Accounting Cycle Step 1 Analyze transactions Step 2 Journalize the data about transactionsStep 3 Post the data about transactionsStep 4 Prepare a worksheetStep 5 Prepare financial statementsStep Journalize and post adjusting entriesStep 7 Journalize and post closing entriesStep 8 Prepare a postclosing trial balanceStep 9 Interpret the financial informationStep 2 Journalize the data about transactionsStep 3 Post the data about transactionsStep 1 Analyze transactionsStep 4 Prepare a worksheetStep 5 Prepare financial statementsHere are the nine steps. Since reversing entries are optional, they are not included as a formal step in the cycle.Step 9 Interpret the financial informationStep Journalize and post adjusting entriesStep 7 Journalize and post closing entriesStep 8 Prepare a postclosing trial balance