1. Financial Accounting
Week 5: Lecture 5 & 6

2. From Trial Balance to Financial Statements :To illustrate the process of adjusting the financial statements for accruals and prepayments, depreciation, irrecoverable debts and the allowance for receivables.

3. Trial Balance Adjustments
Statement of Financial Position (Balance Sheet)
Income Statement

4. Trial Balance
The trial balance involves adjusting the following items:
Closing inventory
Depreciation
Accruals and prepayments
Irrecoverable debts and the allowance for receivables

5. Trial Balance
Once these adjustments have been made, the Income Statement and Statement of Financial Position can be prepared.
When making the adjustments it is important to ensure that each transaction contains the correct double entry.

6. Purpose of the Trial Balance
The purpose of the trial balance is:
To check that for every debit entry made, an equal credit entry has been made.
As a first step in preparing the financial statements.

7. Limitations of the Trial Balance
Although the trial balance is useful in ensuring that double entry has been maintained, it will not:
Identify errors such as mispostings to the wrong account or a double entry for wrong the amount.
Identify where errors have been made, or what those errors are.

8. Adjustments
Here is a reminder of the accounting entries for the adjustments required when preparing the financial statements:

9. Adjustments Depreciation: Dr Depreciation Expense (IS)
Cr Accumulated Depreciation (SFP)
With depreciation charge for the year for each class of asset.

10. Adjustments Accruals: Dr Expenses (IS) Cr Accrual (Liability) (SFP)
With each accrued expense.

11. Adjustments Prepayments: Dr Prepayments (asset) (SFP) Cr Expenses (IS)
With each prepaid expense.

12. Adjustments Irrecoverable Debts: Dr Bad Debts (IS)
Cr Debtors / Receivables (SFP)
With the total of receivables written off.

13. Adjustments Allowance for receivables: Increase in allowance:
Dr Bad Debts (IS)
Cr Provision for Bad Debts/ Allowance for Receivables (SFP)
With the increase in the allowance for the period.

14. Adjustments Allowance for receivables: Decrease in allowance:
Dr Provision for Bad Debts/ Allowance for Receivables (SFP)
Cr Bad Debts (IS)
With the decrease in the allowance for the period.

15. Carriage Inwards and Carriage Outwards
Carriage refers to the costs of transporting goods to and from the firm.
From the buyer’s point of view, the delivery charge would he referred to as “carriage inwards”. Any such carriage charges should be debited to the carriage inwards account in the general ledger.
The carriage inwards account is written off to the trading account at the end of the accounting period.

16. When the buyer sells the goods to his customer, he incurs further delivery charges. This cost is referred to as ‘carriage outwards”. These costs are debited to the carriage outwards account in the general ledger.
Any carriage outwards charges are usually included in an item called ‘selling and distribution costs”.   Since this cost is incurred after the goods have been made ready for sale, the account is written off to the profit and loss account at the end of the accounting period.
Each type of carriage will be an expense and therefore will have a debit balance in the trial balance. However, these two carriages will appear in different sections of the trading and profit and loss account.

17. Accounting Treatment of Carriage Inwards and Carriage Outwards
Journal  Entry for Carriage Inwards:
Debit   Carriage Inwards
Credit    Bank
Journal  Entry for Carriage Outwards:
Debit   Carriage Outwards
Treatment in Trading, Profit and Loss Accounts:
Carriage inwards Trading account expense
Carriage outwards Profit & loss account expense

18. Summary:
Carriage inwards is connected with the cost of getting goods into the business and ready for sale. As a result, it will be added on in the calculation for the cost of goods sold. Carriage outwards does not have anything to do with the cost of getting goods into saleable condition. Therefore it will appear with all the other overhead expenses in the profit and loss account.
Good to know:
Nowadays, the price quoted for goods being purchased will usually be inclusive of any delivery charge, and so a separate charge for carriage inwards (or outwards) is not very common. In cases where separate carriage inwards charges are incurred, the cost should be added on to the cost of purchases in the trading account. Consequently, a proportion of carriage inwards charges should be added to the purchase cost when determining the cost of closing stock.

19. Exercises Exercise 1 & Exercise 2:
Period-end adjustments and preparation of financial statements from a TB.