1. WEYGANDT. KIESO. KIMMEL. TRENHOLM. KINNEAR. BARLOW. ATKINS PRINCIPLES OF FINANCIAL ACCOUNTING CANADIAN EDITION Chapter 4 Completion of the Accounting Cycle Prepared by: Debbie Musil Kwantlen Polytechnic University 1

2. Copyright John Wiley & Sons Canada, Ltd.2 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post- closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

3. Closing the Books Copyright John Wiley & Sons Canada, Ltd.3 Done at the end of the accounting period – Accounts are made ready for the next period Temporary accounts: – Only collect data for a single period; closed at the end of the period – Revenue, expense and owner’s drawings accounts Permanent accounts: – Not closed – Balances are carried forward into next period – All balance sheet accounts

4. Closing Entries Copyright John Wiley & Sons Canada, Ltd.4 Transfer temporary account balances to the owner’s capital account – Updates the owner’s capital account balance – Reduces balances in all temporary accounts to zero, so they are ready for the next period Journalizing and posting closing entries are a required step in the accounting cycle Revenue and expense accounts are closed to Income Summary (a temporary account)

5. The Closing Process Copyright John Wiley & Sons Canada, Ltd.5

6. The Closing Process Copyright John Wiley & Sons Canada, Ltd.6 1.Close revenue accounts – Debit each individual revenue account for the same amount as its balance to ‘zero’ it – Credit Income Summary for total revenues 2.Close expense accounts – Debit Income Summary for total expenses – Credit each individual expense account to ‘zero’ their balances 3.Close Income Summary – Debit Income Summary for balance (credit if loss) – Credit owner’s capital account (debit if loss) 4.Close drawings – Debit owner’s capital account – Credit owner’s drawings account for the balance – This will reduce the balance drawings to zero

7. Copyright John Wiley & Sons Canada, Ltd.7 Prepared after all closing entries have been journalized and posted Provides a list of all permanent accounts and their balances – These balances are carried forward into the next period – Since all temporary accounts have zero balances, only permanent accounts remain Post-Closing Trial Balance

8. Copyright John Wiley & Sons Canada, Ltd.8

9. 9 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post-closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

10. Accounting Cycle Summarized Copyright John Wiley & Sons Canada, Ltd.10

11. Copyright John Wiley & Sons Canada, Ltd.11 Multiple-column form to help prepare adjusting entries and financial statements A working tool - not a permanent accounting record Useful for the preparation of interim financial information or for internal use Worksheets-An Optional Step

12. Copyright John Wiley & Sons Canada, Ltd.12 Reversing entries reverse certain adjusting entries made in the previous period – Made at the beginning of the next accounting period – To simplify recording of transactions in future accounting periods Reversing Entries- An Optional Step

13. Copyright John Wiley & Sons Canada, Ltd.13 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post-closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

14. Copyright John Wiley & Sons Canada, Ltd.14 Correcting entries correct errors that have occurred in the recording process – Unnecessary if the records are free of errors – Can be journalized and posted whenever an error is discovered – Must be done before closing entries are prepared and posted Correcting Entries- An Avoidable Step

15. Copyright John Wiley & Sons Canada, Ltd.15 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post-closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

16. Classified Balance Sheet Copyright John Wiley & Sons Canada, Ltd.16 Financial statements are more useful when similar assets and liabilities are grouped together A classified balance sheet generally has the following standard classifications:

17. Copyright John Wiley & Sons Canada, Ltd.17 Cash and other resources that will be converted to cash, sold or used up in one year from the balance sheet date Can be longer period if operating cycle is greater than one year Listed in order of liquidity Examples: – Cash, short-term investments, accounts receivable, inventory, prepaid expenses Current Assets

18. Operating Cycle Copyright John Wiley & Sons Canada, Ltd.18 The length of it takes from starting with cash to ending with cash in producing revenues Usually less than one year, but for some companies it may be longer than one year

19. Copyright John Wiley & Sons Canada, Ltd.19 Investments in debt or equity that are expected to be held for many years Not readily marketable or expected to be converted into cash within one year Examples: – Investments in shares or bonds of another company, investment in land held for resale Long-term Investments

20. Copyright John Wiley & Sons Canada, Ltd.20 Property, Plant and Equipment Long-lived tangible assets that are used in the business and not intended for sale Examples: – Land, buildings, equipment

21. Copyright John Wiley & Sons Canada, Ltd.21 Long-lived assets that do not have physical substance Examples: – Patents, copyrights, trademarks, trade names, licences Goodwill is a type of intangible asset – Arises when a company is acquired at a price greater than the fair value of the assets Intangible Assets

22. Copyright John Wiley & Sons Canada, Ltd.22 Obligations expected to be settled within one year from the balance sheet date or in the normal operating cycle Listed first in the liabilities and equity section of the balance sheet Listed in order of liquidity Examples: – Accounts payable, interest payable, salaries payable, unearned revenue, current maturities of long-term debt Current Liabilities

23. Copyright John Wiley & Sons Canada, Ltd.23 Obligations expected to be paid after one year or longer Examples: – Long-term notes payable, bonds payable, mortgages payable, lease liabilities, deferred income taxes (or future income taxes) Non-Current Liabilities

24. Copyright John Wiley & Sons Canada, Ltd.24 Content of the equity section varies with the form of business organization: – Proprietorship: one capital account under the heading “Owner’s Equity” – Partnership: Capital account for each partner under the heading “Partners’ Equity” – Corporation: shareholders’ equity consists of two sections: “Share Capital” and “Retained Earnings” Equity

25. Copyright John Wiley & Sons Canada, Ltd.25 Statement Name – IFRS: Statement of Financial Position – ASPE: Balance Sheet – But both allow either name Order of Items – IFRS: May present assets, liabilities, equity in reverse order of liquidity – ASPE: typically uses order of liquidity IFRS Versus ASPE

26. Copyright John Wiley & Sons Canada, Ltd.26 Classification of Assets – Long-term investments, property, plant and equipment, intangible assets – IFRS: May use sub-heading “Non- Current Assets” – ASPE: does not use this sub-heading, uses the separate classifications IFRS Versus ASPE 2

27. Copyright John Wiley & Sons Canada, Ltd.27 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post-closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

28. Copyright John Wiley & Sons Canada, Ltd.28 Liquidity: the ability to pay obligations as they come due within the next year Working capital: an important measure of liquidity = Current assets - Current liabilities Using Information in the Financial Statements

29. Copyright John Wiley & Sons Canada, Ltd.29 Current ratio: a measure of short- term debt-paying ability = Current assets ÷ Current liabilities Acid-test ratio: measures immediate short-term liquidity ={Cash + Short-term investments + Receivables} ÷ Current liabilities Using Information in the Financial Statements

30. Copyright John Wiley & Sons Canada, Ltd.30 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post-closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

31. Copyright John Wiley & Sons Canada, Ltd.31 A multiple-column form used in preparing financial statements Steps in preparing a work sheet: 1.Prepare a trial balance on the work sheet 2.Enter adjustments in the adjustment columns 3.Enter adjusted balances in the adjusted trial balance columns 4.Enter adjusted trial balance amounts in the correct financial statement columns 5.Total columns, calculate profit (loss) and complete the work sheet Appendix 4A: Work Sheets

32. Copyright John Wiley & Sons Canada, Ltd.32 Chapter 4: Completion of the Accounting Cycle Study Objectives 1.Prepare closing entries and a post-closing trial balance. 2.Explain the steps in the accounting cycle including optional steps. 3.Prepare correcting entries. 4.Prepare a classified balance sheet. 5.Illustrate measures used to evaluate liquidity. 6.Prepare a work sheet (Appendix 4A). 7.Prepare reversing entries (Appendix 4B).

33. Copyright John Wiley & Sons Canada, Ltd.33 Entries that reverse the adjusting entries at the beginning of the next period – Used to reverse accrued revenues and expenses Simplifies the recording of future transactions related to an adjusting entry – When transaction is recorded, no need to refer back to adjusting entries to determine how much relates to prior period Appendix 4B: Reversing Entries

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