2. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-1 3 Reporting and Preparing Financial Statements

3. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-2 123456789101112 1234 Annual 12 Month Quarter Semiannual The Accounting Period Exh. 3.1

4. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-3 External Transactions occur between the organization and an outside party. Internal Transactions occur within the organization. Transactions and Events Exchanges of economic consideration between two parties.

5. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-4 We have delivered the product to our customer, so I think we should record the revenue earned. Recognizing Revenues and Expenses Revenue Recognition

6. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-5 Recognizing Revenues and Expenses Revenue Recognition Matching Summary of Expenses Rent Gasoline Advertising Salaries Utilities and.... $1,000 500 2,000 3,000 450.. Now that we have recognized the revenue, let’s see what expenses we incurred to generate that revenue.

7. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-6 Accounting Accrual Basis Vs. Cash Basis Accrual Basis Revenues are recognized when earned and expenses are recognized when incurred. Cash Basis Revenues are recognized when cash is received and expenses recorded when cash is paid. Not GAAP GAAP

8. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-7 An adjusting entry is recorded to bring an asset or liability account balance to its proper amount. Transactions where cash is paid or received before a related expense or revenue is recognized. Transactions where cash is paid or received before a related expense or revenue is recognized. Adjusting Accounts Transactions where cash is paid or received after a related expense or revenue is recognized. Transactions where cash is paid or received after a related expense or revenue is recognized. Exh. 3.4

9. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-8 Here is the check for my first 6 months’ rent. Resources paid for prior to receiving the actual benefits. Asset Expense Unadjusted Balance Credit Adjustment Debit Adjustment Adjusting Prepaid Expenses

10. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-9 Adjusting Prepaid Expenses On December 1, 2001, Scott Company paid $12,000 to cover rent for December 2001 through May 2002. Let’s look at the adjusting journal entry needed on December 31, 2001.

11. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-10 Prepaid Rent Rent Expense 12/1 $12,000 12/31 $2,000 Adjusting Prepaid Expenses After posting, the accounts involved look like this:

12. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-11 Straight-Line Depreciation Expense = Asset Cost - Salvage Value Useful Life Adjusting for Depreciation Depreciation is the process of computing expense from allocating the cost of plant and equipment over its expected useful lives.

13. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-12 ? 2002 Depreciation Expense = $62,000 - $2,000 5 =$12,000 Adjusting for Depreciation On January 1, 2002, Monroe, Inc. purchased oil pumping equipment for $62,000 cash. The equipment has an estimated useful life of 5 years and Monroe expects to sell the equipment at the end of its life for $2,000 cash. Let’s compute depreciation expense for the year ended December 31, 2002.

14. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-13 On January 1, 2002, Monroe, Inc. purchased oil pumping equipment for $62,000 cash. The equipment has an estimated useful life of 5 years and Monroe expects to sell the equipment at the end of its life for $2,000 cash. Prepare the Journal Entry Adjusting for Depreciation

15. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-14 On January 1, 2002, Monroe, Inc. purchased oil pumping equipment for $62,000 cash. The equipment has an estimated useful life of 5 years and Monroe expects to sell the equipment at the end of its life for $2,000 cash. Adjusting for Depreciation Accumulated depreciation is a contra asset account. Accumulated depreciation is a contra asset account.

16. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-15 Equipment Depreciation Expense 1/1 $62,000 12/31 $12,000 Accumulated Depreciation 12/31 $12,000 Adjusting for Depreciation After posting, the accounts involved look like this:

17. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-16 The equipment account is shown on the balance sheet like this. Adjusting for Depreciation

18. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-17 Buy your season tickets for all home basketball games NOW! “Go Big Blue” Adjusting Unearned Revenue Cash received in advance of providing products or services. Liability Revenue Unadjusted Balance Credit Adjustment Debit Adjustment

19. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-18 Adjusting Unearned Revenue On October 1, 2002, Ox University sold 1,000 season tickets to its 20 home basketball games for $100 each. OxU makes the following entry:

20. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-19 Adjusting Unearned Revenue On December 31, OxU has played 10 of its regular home games, winning 2 and losing 8. Prepare the appropriate Adjusting Entry on December 31

21. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-20 Adjusting Unearned Revenue On December 31, OxU has played 10 of its regular home games, winning 2 and losing 8.

22. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-21 Unearned Basketball Revenue Basketball Revenue 10/1 $100,00012/31 $50,000 After posting, the accounts involved will look like this... Adjusting Unearned Revenue

23. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-22 We’re about one-half done with this job and want to be paid! Costs incurred in a period that are both unpaid and unrecorded. Costs incurred in a period that are both unpaid and unrecorded. Adjusting for Accrued Expenses Expense Liability Credit Adjustment Debit Adjustment

24. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-23 12/1/02 12/31/02 Year end Last pay date 12/26/02 Next pay date 1/2/03 Record adjusting journal entry. Record adjusting journal entry. Adjusting for Accrued Expenses Denton, Inc. pays its employees every Friday. Year- end, 12/31/02, falls on a Wednesday. As of 12/31/02, the employees have earned salaries of $47,250 for Monday through Wednesday of the week ended 1/02/03.

25. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-24 Adjusting for Accrued Expenses Prepare the appropriate Adjusting Entry on December 31 Denton, Inc. pays its employees every Friday. Year- end, 12/31/02, falls on a Wednesday. As of 12/31/02, the employees have earned salaries of $47,250 for Monday through Wednesday of the week ended 1/02/03.

26. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-25 Adjusting for Accrued Expenses Denton, Inc. pays its employees every Friday. Year- end, 12/31/02, falls on a Wednesday. As of 12/31/02, the employees have earned salaries of $47,250 for Monday through Wednesday of the week ended 1/02/03.

27. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-26 Salaries Expense Salaries Payable 12/31 $47,250 After posting, the accounts involved will look like this... 12/31 $47,250 Adjusting for Accrued Expenses

28. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-27 Yes, you can pay me for your tax return when I finish the work. Adjusting for Accrued Revenues Revenues earned in a period that are both unrecorded and not yet received. Asset Revenue Credit Adjustment Debit Adjustment

29. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-28 Prepare the appropriate Adjusting Entry on December 31 Adjusting for Accrued Revenues Smith & Jones, CPAs, had $31,200 of work completed but not yet billed to clients. Let’s make the adjusting entry necessary on December 31, 2002, the end of the company’s fiscal year.

30. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-29 Adjusting for Accrued Revenues Smith & Jones, CPAs, had $31,200 of work completed but not yet billed to clients. Let’s make the adjusting entry necessary on December 31, 2002, the end of the company’s fiscal year.

31. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-30 Accounts ReceivableService Revenue 12/31 $31,200 Adjusting for Accrued Revenues

32. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-31 Four major types of transactions requiring adjustment. Adjustments and Financial Statements Exh. 3.18

33. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-32 FastForward Trial Balance December 31, 2001 Exh. 3.19 First, the initial unadjusted amounts are added to the worksheet.

34. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-33 Next, FastForward’s adjustments are added. FastForward Trial Balance December 31, 2001 Exh. 3.19

35. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-34 FastForward Trial Balance December 31, 2001 Finally, the totals are determined. Exh. 3.19

36. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-35 Preparing Financial Statements Let’s use FastForward’s adjusted trial balance to prepare the company’s financial statements.

37. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-36 Step One: Prepare the Income Statement. Exh. 3.20

38. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-37 Step Two: Prepare the Statement of Retained Earnings. Note: The Net Income from the Income Statement carries to the Statement of Retained Earnings. Exh. 3.20

39. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-38 Step Three: Prepare the Balance Sheet. Exh. 3.20

40. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-39 Resets revenue, expense and dividend account balances to zero at the end of the period. Helps summarize a period’s revenues and expenses in the Income Summary account. Identify accounts for closing. Record and post closing entries. Prepare post-closing trial balance. Closing Process

41. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-40 Temporary Accounts Revenues Income Summary Expenses Dividends Permanent Accounts Assets Liabilities Retained Earnings The closing process applies only to temporary accounts. Temporary and Permanent Accounts

42. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-41 Let’s see how the closing process works! Recording and Posting Closing Entries  Close Revenue accounts to Income Summary.  Close Expense accounts to Income Summary.  Close Income Summary account to Retained Earnings.

43. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-42 Balances before closing. Closing Process for a Corporation

44. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-43  Close Revenue accounts to Income Summary. Closing Process for a Corporation

45. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-44  Close Expense accounts to Income Summary. Closing Process for a Corporation The balance in Income Summary equals net income.

46. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-45  Close Income Summary to Retained Earnings. Closing Process for a Corporation

47. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-46 Using the adjusted trial balance, let’s prepare the closing entries for FastForward. Exh. 3--26

48. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-47  Close Revenue accounts to Income Summary. Exh. 3--26

49. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-48 Prepare the entry to close Revenues by debiting the revenue accounts and crediting Income Summary. Now, let’s look at the ledger accounts after posting this closing entry.  Close Revenue Accounts to Income Summary Exh. 3--26

50. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-49 Now, let’s look at the ledger accounts after posting this closing entry.  Close Revenue Accounts to Income Summary Exh. 3--26

51. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-50  Close Revenue Accounts to Income Summary

52. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-51  Close Expense accounts to Income Summary. Exh. 3--26

53. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-52 Now, let’s look at the ledger accounts after posting this closing entry.  Close Expense Accounts to Income Summary Exh. 3--26

54. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-53 Net Income  Close Expense Accounts to Income Summary

55. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-54  Close Income Summary to Retained Earnings. Exh. 3--26

56. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-55 Now, let’s look at the ledger accounts after posting this closing entry.  Close Income Summary to Retained Earnings Exh. 3--26

57. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-56  Close Income Summary to Retained Earnings

58. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-57 Let’s look at FastForward’s post-closing trial balance. Post-Closing Trial Balance List of permanent accounts and their balances after posting closing entries. Total debits and credits must be equal. List of permanent accounts and their balances after posting closing entries. Total debits and credits must be equal.

59. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-58 Exh. 3-27

60. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-59 The profit margin ratio measures the company’s net income to sales. Profit Margin Net Income Net Sales = Using the Information Profit Margin

61. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-60 Classified Balance Sheet Typically, the sections of the balance sheet are subdivided based on the liquidity of the various accounts Exh. 3-30

62. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-61 Classified Balance Sheet Let’s look at the asset section of a classified balance sheet.

63. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-62

64. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-63 Current assets are assets that will be turned into cash or expire (be used up) within the longer of one year or the operating cycle.

65. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-64 Property, plant and equipment includes assets with useful lives of more than one year acquired for use in the business rather than for resale.

66. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-65 Other assets and intangible assets include items such as patents, goodwill, copyrights, etc.

67. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-66 Let’s look at the liability section of a classified balance sheet.

68. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-67

69. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-68 Current liabilities are obligations that will be paid with current assets, normally within one year.

70. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-69 Long-term liabilities are debts that have maturity dates extending beyond one year from the balance sheet date.

71. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-70 Let’s look at the stockholders’ equity section of a classified balance sheet.

72. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-71

73. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-72 Contributed capital is often shown in two separate accounts... ÊCommon stock ËPaid-in capital Contributed capital is often shown in two separate accounts... ÊCommon stock ËPaid-in capital

74. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-73 Comprehensive income includes gains and losses not included in the computation of net income.

75. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-74 Retained earnings is the accumulated earnings of the company less the accumulated dividends declared.

76. © The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 3-75 End of Chapter 3