CHAPTER SIXTEEN FINANCIAL STATEMENTS AND YEAR-END ACCOUNTING FOR A MERCHANDISING BUSINESS

INCOME STATEMENT Purpose: Summarize the results of operations Shows: The sources of revenue Types of expenses Amount of net income or loss for the period Two forms: Single-step Multiple-step

For Year Ended December 31, 20-- Let’s look at a Single-Step Northern Micro Income Statement For Year Ended December 31, 20-- Let’s look at a Single-Step Income Statement.

For Year Ended December 31, 20-- All the Revenue sources Northern Micro Income Statement For Year Ended December 31, 20-- Revenues: Net Sales $212,800 Interest Revenue 900 Rent Revenue 8,000 Subscriptions Revenue 10,000 Total Revenues $231,700 All the Revenue sources are listed and totaled.

Cost of Goods Sold is listed with all the other expenses. Northern Micro Income Statement For Year Ended December 31, 20-- Revenues: Net Sales $212,800 Interest Revenue 900 Rent Revenue 8,000 Subscriptions Revenue 10,000 Total Revenues $231,700 Expenses: Cost of Goods Sold $111,500 Cost of Goods Sold is listed with all the other expenses.

For Year Ended December 31, 20-- Northern Micro Income Statement For Year Ended December 31, 20-- Revenues: Net Sales $212,800 Interest Revenue 900 Rent Revenue 8,000 Subscriptions Revenue 10,000 Total Revenues $231,700 Expenses: Cost of Goods Sold $111,500 Wages Expense 42,450 Advertising Expense 2,500 Bank Credit Card Expense 1,500 Rent Expense 20,000 Supplies Expense 1,400 Telephone Expense 3,500 Utilities Expense 12,000

Expenses are totaled and subtracted from Revenues to determine Bank Credit Card Expense 1,500 Rent Expense 20,000 Supplies Expense 1,400 Telephone Expense 3,500 Utilities Expense 12,000 Insurance Expense 1,800 Depreciation Expense - Building 4,000 Depreciation Expense - Store Equipment 3,000 Miscellaneous Expense 2,250 Interest Expense 3,150 Total Expenses 209,050 Net Income $ 22,650 Expenses are totaled and subtracted from Revenues to determine Net Income or Loss.

It is called Single-Step because Expenses Bank Credit Card Expense 1,500 Rent Expense 20,000 Supplies Expense 1,400 Telephone Expense 3,500 Utilities Expense 12,000 Insurance Expense 1,800 Depreciation Expense - Building 4,000 Depreciation Expense - Store Equipment 3,000 Miscellaneous Expense 2,250 Interest Expense 3,150 Total Expenses 209,050 Net Income $ 22,650 It is called Single-Step because Expenses (including Cost of Goods Sold) are subtracted from Revenues in ONE step to determine Net Income or Loss.

For Year Ended December 31, 20-- Northern Micro Income Statement For Year Ended December 31, 20-- Now let’s look at a Multi-Step Income Statement for the same company.

Sales Revenue (less any returns, allowances Northern Micro Income Statement For Year Ended December 31, 20-- Revenue from sales: Sales $214,000 Less Sales R &A 1,200 Net Sales $212,800 Sales Revenue (less any returns, allowances or discounts) is shown first. The other revenues are listed at the end of the statement).

For Year Ended December 31, 20-- Northern Micro Income Statement For Year Ended December 31, 20-- Revenue from a sales: Sales $214,000 Less Sales R &A 1,200 Net Sales $212,800 Cost of Goods Sold: Merch. Inv. Jan. 1, 20-- $ 26,000 Purchases $105,000 Less: Purchases R&A $ 800 Purchases Disc. 1,000 1,800 Net Purchases $103,200 Add Freight-In 300 Cost of Goods Pur. 103,500 Goods Avail. for Sale $129,500 Less M. I. Dec. 31, 20-- 18,000 Cost of Goods Sold 111,500

Cost of Goods Sold is computed and subtracted from Net Sales Goods Avail. for Sale $129,500 Less M. I. Dec. 31, 20-- 18,000 Cost of Goods Sold 111,500 Gross Profit $101,300 Cost of Goods Sold is computed and subtracted from Net Sales to arrive at Gross Profit.

Operating Expenses are “Income from Operations” Goods Avail. for Sale $129,500 Less M. I. Dec. 31, 20-- 18,000 Cost of Goods Sold 111,500 Gross Profit $101,300 Operating Expenses are listed, totaled, and subtracted from Gross Profit compute “Income from Operations” Operating Expenses: Wages Expense $ 42,450 Advertising Expense 2,500 Bank Credit Card Exp. 1,500 Rent Expense 20,000 Supplies Expense 1,400 Telephone Expense 3,500 Utilities Expense 12,000 Insurance Expense 1,800 Depreciation Exp.-Bldg. 4,000 Deprec. Exp.-Store Eq. 3,000 Miscellaneous Expense 2,250 Total Oper. Expenses 94,400 Income from Operations $ 6,900

Operating Expenses can Goods Avail. for Sale $129,500 Less M. I. Dec. 31, 20-- 18,000 Cost of Goods Sold 111,500 Gross Profit $101,300 Operating Expenses: Wages Expense $ 42,450 Advertising Expense 2,500 Operating Expenses can be divided into subcategories of Selling Expenses and General Expenses. Bank Credit Card Exp. 1,500 Rent Expense 20,000 Supplies Expense 1,400 Telephone Expense 3,500 Utilities Expense 12,000 Insurance Expense 1,800 Depreciation Exp.-Bldg 4,000 Deprec. Exp-Store Eq. 3,000 Miscellaneous Expense 2,250 Total Oper. Expenses 94,400 Income from Operations $ 6,900

SELLING EXPENSES Expenses directly associated with selling activities Examples: Sales Salaries Expense Sales Commissions Expense Advertising Expense Bank Credit Card Expense Delivery Expense Depreciation Expense - Store Equipment and Fixtures

GENERAL EXPENSES Expenses associated with administrative, office, or general operating activities Examples: Rent Expense Office Salaries Expense Office Supplies Expense Telephone Expense Utilities Expense Insurance Expense Depreciation Expense - Office Equipment

Other Revenues are added and Other Expenses are subtracted Income from Operations $ 6,900 Other Revenues: Interest Revenue $ 900 Rent Revenue 8,000 Subscriptions Revenue 10,000 Total Other Rev: $ 18,900 Other Expenses: Interest Expense 3,150 15,750 Net Income $ 22,650 Other Revenues are added and Other Expenses are subtracted to arrive at Net Income.

STATEMENT OF OWNER’S EQUITY Purpose: Summarize all changes in the owner’s equity during the period Sources needed to prepare statement: Work sheet General Ledger Capital account Includes: Beginning and ending Capital balances Investments and withdrawals by owner Net Income or Loss

Let’s look at the Statement of Owner’s Equity for Northern Micro. For Year Ended December 31, 20-- Let’s look at the Statement of Owner’s Equity for Northern Micro.

Beginning capital and investments are found in the General Ledger Northern Micro Statement of Owner’s Equity For Year Ended December 31, 20-- Gary L. Fishel, capital, January 1, 20-- $104,400 Add additional investments 10,000 Total investment $114,400 Beginning capital and investments are found in the General Ledger Capital account.

Net Income is found on the work sheet and on the Income Statement. Northern Micro Statement of Owner’s Equity For Year Ended December 31, 20-- Gary L. Fishel, capital, January 1, 20-- $104,400 Add additional investments 10,000 Total investment $114,400 Net Income for the year $ 22,650 Net Income is found on the work sheet and on the Income Statement.

Withdrawals, from the worksheet, are subtracted from Net Income to Northern Micro Statement of Owner’s Equity For Year Ended December 31, 20-- Gary L. Fishel, capital, January 1, 20-- $104,400 Add additional investments 10,000 Total investment $114,400 Net Income for the year $ 22,650 Less withdrawals for the year 20,000 Increase in Capital 2,650 Withdrawals, from the worksheet, are subtracted from Net Income to determine the increase in capital this period.

The ending capital is computed. Northern Micro Statement of Owner’s Equity For Year Ended December 31, 20-- Gary L. Fishel, capital, January 1, 20-- $104,400 Add additional investments 10,000 Total investment $114,400 Net Income for the year $ 22,650 Less withdrawals for the year 20,000 Increase in Capital 2,650 Gary L. Fishel, capital, December 31, 20-- $117,050 The ending capital is computed.

Classified Balance Sheet. Northern Micro Balance Sheet December 31, 20-- Let’s look at Northern Micro’s Classified Balance Sheet.

Northern Micro Balance Sheet December 31, 20-- Assets Current assets:

CURRENT ASSETS Cash and other assets which are: Examples: Expected to be converted into cash, or Consumed within one year or the normal operating cycle, whichever is longer Examples: Cash, Receivables, merchandise inventory and prepaid expenses Listed in order of liquidity: Most liquid shown first

OPERATING CYCLE Length of time generally required for a business to: Buy inventory Sell it Collect the cash Generally, it is less than one year.

Merchandise Inventory is a current asset Northern Micro Balance Sheet December 31, 20-- Assets Current assets: Cash $20,000 Accounts Receivable 15,000 Merchandise Inventory 18,000 Supplies 400 Prepaid Insurance 600 Total current assets $54,000 Merchandise Inventory is a current asset that is unique to merchandising businesses.

PROPERTY, PLANT & EQUIPMENT Assets that are expected to be used: For more than one year In the operation of a business Examples: Land, Buildings, Office Equipment, Store Equipment, and Delivery Equipment Assets with the longer lives are listed first.

Northern Micro Balance Sheet December 31, 20-- Assets Current assets: Cash $20,000 Accounts Receivable 15,000 Merchandise Inventory 18,000 Supplies 400 Prepaid Insurance 600 Total current assets $ 54,000 Property, plant, and equipment: Land $10,000 Building $ 90,000 Less accumulated deprec. 20,000 70,000 Store Equipment $ 50,000 Less accumulated deprec. 18,000 32,000 Total prop., pt., and equip. $112,000

Total current assets $ 54,000 Property, plant, and equipment: Land $10,000 Building $90,000 Less accumulated deprec. 20,000 70,000 Store Equipment $50,000 Less accumulated deprec. 18,000 32,000 Total prop., pt., and equip. 112,000 Total assets $166,000

Total assets $166,000 Liabilities Current liabilities:

CURRENT LIABILITIES Obligations that are due within one year or the normal operating cycle, whichever is longer Require the use of current assets Examples: Notes Payable, Accounts Payable, Wages Payable, Utilities Payable, Unearned Subscriptions Revenue, and the current portion of Mortgage Payable

Total assets $166,000 Liabilities Current liabilities: Notes Payable $ 5,000 Accounts Payable 10,000 Wages Payable 450 Utilities Payable 1,500 Unearned subscriptions revenue 2,000 Mortgage Pay. (current portion) 500 Total current liabilities $19,450

LONG-TERM LIABILITIES Obligations that will extend beyond one year or the normal operation cycle, whichever is longer Mortgage Payable is a common long-term liability. Used to reflect an obligation that is secured by a mortgage on certain property

Total assets $166,000 Liabilities Current liabilities: Notes Payable $ 5,000 Accounts Payable 10,000 Wages Payable 450 Utilities Payable 1,500 Unearned subscriptions revenue 2,000 Mortgage Pay. (current portion) 500 Total current liabilities $19,450 Long-term liabilities: Mortgage Payable $30,000 Less current portion 500 29,500 Total liabilities $ 48,950

OWNER’S EQUITY Accounts are determined by type of organization: Sole Proprietorships: One capital account

Total assets $166,000 Liabilities Current liabilities: Notes Payable $ 5,000 Accounts Payable 10,000 Wages Payable 450 Utilities Payable 1,500 Unearned subscriptions revenue 2,000 Mortgage Pay. (current portion) 500 Total current liabilities $ 19,450 Long-term liabilities: Mortgage Payable $30,000 Less current portion 500 29,500 Total liabilities $ 48,950 Owner’s Equity Gary L. Fishel, capital 117,050 Total liabilities and owner’s equity $166,000

FINANCIAL STATEMENT ANALYSIS Evaluate the financial condition of a business: Used by management and creditors Two types: Balance Sheet analysis Interstatement analysis

BALANCE SHEET ANALYSIS Uses only the information on the Balance Sheet Includes calculating: Working Capital Current Ratio Quick Ratio

WORKING CAPITAL CURRENT ASSETS CURRENT LIABILITIES The amount of capital the business has available for current operations FORMULA: CURRENT ASSETS CURRENT LIABILITIES

WORKING CAPITAL $34,550 FORMULA: CURRENT ASSETS CURRENT LIABILITIES Example: Northern Micro has Current Assets of $54,000 and Current Liabilities of $19,450. FORMULA: CURRENT ASSETS CURRENT LIABILITIES WORKING CAPITAL $34,550 $54,000 $19,450

CURRENT RATIO FORMULA: CURRENT ASSETS CURRENT LIABILITIES

CURRENT RATIO EXAMPLE: Let’s look at the Current Ratio for Northern Micro. CURRENT ASSETS $54,000 2.8 to 1 CURRENT LIABILITIES $19,450

CURRENT RATIO Measures a firm’s ability to pay its current liabilities “Rule of Thumb” = 2 to 1 Many companies operate successfully with ratio of 1.5 to 1. Best to compare to industry averages

CURRENT RATIO EXAMPLE: Let’s look at the Current Ratio for Northern Micro. Northern Micro has a very good current ratio! CURRENT ASSETS $54,000 2.8 to 1 CURRENT LIABILITIES $19,450

QUICK RATIO Gives a more defined picture of a firm’s ability to pay its current liabilities “Rule of Thumb” = 1 to 1 But many businesses operate successfully with a quick ratio of 0.6 to 1.

QUICK RATIO FORMULA: QUICK ASSETS CURRENT LIABILITIES

QUICK ASSETS Cash and all other assets that can be converted into cash quickly Examples: Accounts Receivable, Temporary Investments Northern Micro has $35,000 of Quick Assets: $20,000 in Cash and $15,000 in Accounts Receivable

BALANCE SHEET ANALYSIS QUICK RATIO Quick assets are more than adequate to meet current obligations. FORMULA: QUICK ASSETS $35,000 1.8 to 1 CURRENT LIABILITIES $19,450

INTERSTATEMENT ANALYSIS Provides a comparison of the relationships between selected income statement and balance sheet amounts Includes: Return on Owner’s Equity Accounts Receivable Turnover Average collection period Inventory Turnover Average days to sell inventory

RETURN ON OWNER’S EQUITY FORMULA: NET INCOME AVERAGE OWNER’S EQUITY

RETURN ON OWNER’S EQUITY EXAMPLE: Let’s compute the return for Northern Micro. NET INCOME $ 22,650 AVERAGE OWNER’S EQUITY

AVERAGE OWNER’S EQUITY FORMULA: Owner’s Equity at the beginning of the year Owner’s Equity at the end of the year + 2

RETURN ON OWNER’S EQUITY EXAMPLE: Let’s compute the return for Northern Micro. NET INCOME $ 22,650 AVERAGE OWNER’S EQUITY $110,725 ($104,400 + $117,050)  2

RETURN ON OWNER’S EQUITY EXAMPLE: Let’s compute the return for Northern Micro. NET INCOME $ 22,650 20.5% AVERAGE OWNER’S EQUITY $110,725 This should be compared with prior years and other businesses of comparable nature and size.

ACCOUNTS RECEIVABLE TURNOVER A measure of the time required to collect cash from customers FORMULA: NET CREDIT SALES FOR THE PERIOD AVERAGE ACCOUNTS RECEIVABLE

ACCOUNTS RECEIVABLE TURNOVER EXAMPLE: Net credit sales for Northern Micro are $110,000 and Accounts Receivable for January 1, and December 31 are $10,000 and $15,000, respectively NET CREDIT SALES FOR THE PERIOD $110,000 8.8 AVERAGE ACCOUNTS RECEIVABLE $ 12,500 ($10,000 + $15,000)  2

ACCOUNTS RECEIVABLE TURNOVER EXAMPLE: Net credit sales for Northern Micro are $110,000 and Accounts Receivable for January 1 and December 31 are $10,000 and $15,000 respectively Indicates the number of times accounts receivable were collected in the accounting period. Higher number indicates cash is collected more quickly. NET CREDIT SALES FOR THE PERIOD $110,000 8.8 AVERAGE ACCOUNTS RECEIVABLE $ 12,500

AVERAGE COLLECTION PERIOD Number of days credit customers are taking to pay for their purchases FORMULA: Number of Days in the year 365 41.5 days 8.8 Rate of turnover Compared with credit terms to determine if customers are paying on a timely basis

COST OF GOODS SOLD FOR THE PERIOD INVENTORY TURNOVER Represents the number of times merchandise inventory was turned over (sold) during the accounting period FORMULA: COST OF GOODS SOLD FOR THE PERIOD AVERAGE INVENTORY

COST OF GOODS SOLD FOR THE PERIOD INVENTORY TURNOVER EXAMPLE: Northern Micro’s Cost of Goods Sold was $111,500 for the year and inventory balances for the beginning and end of the year were $26,000 and $18,000, respectively. COST OF GOODS SOLD FOR THE PERIOD $111,500 5.1 AVERAGE INVENTORY $22,000 ($26,000 + $18,000)  2

INVENTORY TURNOVER The higher the rate of turnover, the smaller the profit required on each dollar of sales to produce a satisfactory gross profit. Grocery stores have high turnover, low profit per item. Jewelry stores need higher profit per item to offset the low turnover.

AVERAGE DAYS TO SELL INVENTORY FORMULA: Just like the Average Collection Period formula Number of Days in the year Rate of turnover

AVERAGE DAYS TO SELL INVENTORY FORMULA: Number of Days in the year 365 71.6 days Rate of turnover 5.1 Needs to be compared with prior years, other companies or its industry

CLOSING ENTRIES Similar to closing entries of a service business: But additional merchandising accounts that also must be closed Easiest to use work sheet to prepare closing entries

DEBIT - all credit balance Income Statement accounts ACCOUNT TITLE INCOME STMT BALANCE SHEET DR. CR. DR. CR. 17 Gary L. Fishel, Capital 114,400 18 Gary L. Fishel, Drawing 20,000 19 Income Summary 26,000 18,000 20 Sales 214,000 21 Sales Returns & Allow. 1,200 22 Interest Revenue 900 23 Rent Revenue 8000 24 Subscriptions Revenue 10,000 25 Purchases 105,000 26 Purchases Ret. & Allow. 800 27 Purchases Discounts 1,000 28 Freight-In 300 29 Wages Expense 42,450 Entry#1 DEBIT - all credit balance Income Statement accounts CREDIT - Income Summary 30 Advertising Expense 2,500 31 Bank Credit Card Expense 1,500 32 Rent Expense 20,000 33 Supplies Expense 1,400 34 Telephone Expense 3,500 35 Utilities Expense 12,000 36 Insurance Expense 1,800

GENERAL JOURNAL Closing Entries Sales 214,000 Subscriptions Revenue DATE DESCRIPTION DEBIT PR CREDIT 1 Closing Entries 20-- 2 Sales 214,000 Dec. 31 3 Subscriptions Revenue 10,000 4 Interest Revenue 900 5 Rent Revenue 8,000 6 Purch. Returns & Allow. 800 7 Purchases Discounts 1,000 8 Income Summary 234,700 9 10 11

Entry #2: DEBIT- Income Summary CREDIT- Income Statement debit ACCOUNT TITLE INCOME STMT BALANCE SHEET DR. CR. DR. CR. 21 Sales Returns & Allow. 1,200 25 Purchases 105,000 26 Purch. Returns & Allow. 800 27 Purchases Discounts 1,000 28 Freight-In 300 Entry #2: DEBIT- Income Summary CREDIT- Income Statement debit balance accts. 29 Wages Expense 42,450 30 Advertising Expense 2,500 31 Bank Credit Card Exp. 1,500 32 Rent Expense 20,000 33 Supplies Expense 1,400 30 Telephone Expense 3,500 31 Utilities Expense 12,000 32 Insurance Expense 1,800 33 Depr. Expense -Building 4,000 34 Depr. Expense -Store Eq. 3,000 35 Miscellaneous Expense 2,250 36 Interest Expense 3,150

10 31 Income Summary 204,050 11 Sales Returns & Allow. 1,200 12 Purchases 105,000 13 Freight-In 300 14 Wages Expense 42,450 15 Advertising Expense 2,500 16 Bank Credit Card Exp. 1,500 17 Rent Expense 20,000 18 Supplies Expense 1,400 19 Telephone Expense 3,500 20 Utilities Expense 12,000 21 Insurance Expense 1,800 22 Depreciation Exp. - Bldg. 4,000 23 Deprec. Exp. - Store Eq. 3,000 24 Miscellaneous Expense 2,250 25 Interest Expense 3,150 26 27

CREDIT - Capital account ACCOUNT TITLE INCOME STMT BALANCE SHEET DR. CR. DR. CR. 25 Purchases 105,000 26 Purchases Ret. & Allow. 800 27 Purchases Discounts 1,000 28 Freight-In 300 29 Wages Expense 42,450 Entry #3 DEBIT - Income Summary CREDIT - Capital account for Net Income amount 30 Advertising Expense 2,500 31 Bank Credit Card Exp 1,500 32 Rent Expense 20,000 33 Supplies Expense 1,400 34 Telephone Expense 3,500 35 Utilities Expense 12,000 36 Insurance Expense 1,800 37 Depr. Expense Building 4,000 38 Depr. Expense -Store Eq. 3,000 39 Miscellaneous Expense 2,250 40 Interest Expense 3,150 41 230,050 252,700 224,000 201,350 42 Net Income 22,650 22,650 43 252,600 252,700 224,000 224,000 44

20 Utilities Expense 12,000 21 Insurance Expense 1,800 22 Deprec. Exp. - Building 4,000 23 Deprec. Exp. - Store Equip. 3,000 24 Miscellaneous Expense 2,250 25 Interest Expense 3,150 26 27 31 Income Summary 22,650 28 Gary L. Fishel, Capital 22,650 29 30 31 32 33 34 35 36 37

CREDIT to close the Drawing Account ACCOUNT TITLE INCOME STMT BALANCE SHEET DR. CR. DR. CR. 17 Gary L. Fishel, Capital 114,400 18 Gary L. Fishel, Drawing 20,000 19 Income Summary 26,000 18,000 20 Sales 214,000 21 Sales Returns & Allow. 1,200 22 Interest Revenue 900 23 Rent Revenue 8000 24 Subscriptions Revenue Entry # 4 DEBIT - Capital CREDIT to close the Drawing Account 10,000 25 Purchases 105,000 26 Purchases Ret. & Allow 800 27 Purchases Discounts 1,000 28 Freight-In 300 29 Wages Expense 42,450 30 Advertising Expense 2,500 31 Bank Credit Card Expense 1,500 32 Rent Expense 20,000 33 Supplies Expense 1,400 34 Telephone Expense 3,500 35 Utilities Expense 12,000 36 Insurance Expense 1,800

20 Utilities Expense 12,000 21 Insurance Expense 1,800 22 Deprec. Exp. - Building 4,000 23 Deprec. Exp. - Store Equip. 3,000 24 Miscellaneous Expense 2,250 25 Interest Expense 3,150 26 27 31 Income Summary 22,650 28 Gary L. Fishel, Capital 22,650 29 30 31 Gary L. Fishel, Capital 20,000 31 Gary L. Fishel, Drawing 20,000 32 33 34 35 36 37

POST-CLOSING TRIAL BALANCE Trial Balance taken after the temporary owner’s equity accounts have been closed Purpose: to prove that the general ledger is in balance at the beginning of a new accounting period, before any transactions for the new accounting period are entered

Post-Closing Trial Balance Northern Micro Post-Closing Trial Balance December, 31, 20-- Account Title Acct # Debit Bal Credit Bal Cash 101 20,000 Accounts Receivable 122 15,000 Merchandise Inventory 131 18,000 Supplies 141 400 Prepaid Insurance 145 600 Land 161 10,000 Building 171 90,000 Accumulated Depreciation - Building 171.1 20,000 Store Equipment 181 50,000 Accumulated Depreciation - Store Eq. 181.1 18,000 Notes Payable 201 5,000 Accounts Payable 202 10,000 Wages Payable 219 450 Sales Tax Payable 231 1,500 Unearned Subscriptions Revenue 241 2,000 Mortgage Payable 251 30,000 Gary L. Fishel, Capital 311 117,050 204,000 204,000

REVERSING ENTRIES Prepared at the beginning of an accounting period Reverses adjusting entries To simplify the recording of transactions in the new accounting period Except for the first year of operations, only adjustments that INCREASED an ASSET OR LIABILITY account from a zero balance should be reversed.

Which of these adjusting entries should be reversed? GENERAL JOURNAL DATE DESCRIPTION DEBIT PR CREDIT 1 Adjusting Entries 20-- 2 Income Summary 26,000 Dec. 31 3 Merchandise Inventory 26,000 4 Which of these adjusting entries should be reversed? 5 31 Merchandise Inventory 18,000 6 Income Summary 18,000 7 8 Supplies Expense 1,400 31 9 Supplies 1,400 10 Insurance Expense 11 31 1,800

Never reverse adjustments for merchandise inventory. GENERAL JOURNAL DATE DESCRIPTION DEBIT PR CREDIT 1 Adjusting Entries 20-- 2 Income Summary 26,000 Dec. 31 3 Merchandise Inventory 26,000 4 5 31 Merchandise Inventory 18,000 6 Income Summary 18,000 7 Never reverse adjustments for merchandise inventory. 8 Supplies Expense 1,400 31 9 Supplies 1,400 10 Insurance Expense 11 31 1,800

GENERAL JOURNAL No asset or liability with a zero DATE DESCRIPTION DEBIT PR CREDIT 1 Adjusting Entries 20-- 2 Income Summary 26,000 Dec. 31 No asset or liability with a zero balance has been increased…. No reversing entry is needed. 3 Merchandise Inventory 26,000 4 5 31 Merchandise Inventory 18,000 6 Income Summary 18,000 7 8 Supplies Expense 1,400 31 9 Supplies 1,400 10 Insurance Expense 11 31 1,800

No asset or liability with a zero balance has been increased…. 11 31 Insurance Expense 1,800 12 Prepaid Insurance 1,800 13 14 31 Deprec. Exp. -Building 4,000 No asset or liability with a zero balance has been increased…. No reversing entry is needed. 15 Accum. Depr. - Building 4,000 16 17 31 Deprec. Exp. - Store Equip. 3,000 18 Accum. Depr. - Store Eq. 3,000 19 20 31 Wages Expense 450 21 Wages Payable 450 22 23 31 Unearned Subscrip. Rev. 10,000 24 Subscriptions Revenue 10,000 25 26 27 28

Never reverse adjustments 11 31 Insurance Expense 1,800 12 Prepaid Insurance 1,800 13 14 31 Deprec. Exp. -Building 4,000 15 Accum. Depr. - Building 4,000 16 17 31 Deprec. Exp. - Store Equip. 3,000 18 Accum. Depr. - Store Eq. 3,000 19 20 Never reverse adjustments for depreciation. 31 Wages Expense 450 21 Wages Payable 450 22 23 31 Unearned Subscrip. Rev. 10,000 24 Subscriptions Revenue 10,000 25 26 27 28

A liability account with a zero balance Reversing entry is needed. 11 31 Insurance Expense 1,800 12 Prepaid Insurance 1,800 13 14 31 Deprec. Exp. -Building 4,000 15 Accum. Depr. - Building 4,000 16 17 31 Deprec. Exp. - Store Equip. 3,000 18 Accum. Depr. - Store Eq. 3,000 19 20 31 Wages Expense 450 21 Wages Payable 450 22 A liability account with a zero balance has been increased!!! Reversing entry is needed. 23 31 Unearned Subscrip. Rev. 10,000 24 Subscriptions Revenue 10,000 25 26 27 28

No asset or liability with a zero balance has been increased…. 11 31 Insurance Expense 1,800 12 Prepaid Insurance 1,800 13 14 31 Deprec. Exp. -Building 4,000 15 Accum. Depr. - Building 4,000 16 No asset or liability with a zero balance has been increased…. No reversing entry is needed. 17 31 Deprec. Exp. - Store Equip. 3,000 18 Accum. Depr. - Store Eq. 3,000 19 20 31 Wages Expense 450 21 Wages Payable 450 22 23 31 Unearned Subscript. Rev. 10,000 24 Subscriptions Revenue 10,000 25 26 27 28

Reversing entries are the reverse or opposite of the adjusting entry. GENERAL JOURNAL DATE DESCRIPTION DEBIT PR CREDIT 1 Reversing Entries 20-- 2 Wages Payable 450 Jan. 1 3 Wages Expense 450 4 5 Reversing entries are the reverse or opposite of the adjusting entry. 6 7 8 9 10 11