Sei sulla pagina 1di 65

Slide

3-1
Chapter 3

Adjusting the
Accounts
Financial Accounting, IFRS Edition
Weygandt Kimmel Kieso
Slide
3-2
Study
Study Objectives
Objectives
1. Explain the time period assumption.

2. Explain the accrual basis of accounting.

3. Explain the reasons for adjusting entries.

4. Identify the major types of adjusting entries.

5. Prepare adjusting entries for deferrals.

6. Prepare adjusting entries for accruals.

7. Describe the nature and purpose of an adjusted trial


balance.

Slide
3-3
Adjusting
Adjusting the
the Accounts
Accounts

The Adjusted Trial


The Basics of
Timing Issues Balance and
Adjusting Entries
Financial Statements

Fiscal and calendar Types of adjusting Preparing the


years entries adjusted trial balance
Accrual- vs. cash- Adjusting entries for Preparing financial
basis accounting deferrals statements
Recognizing Adjusting entries for
revenues and accruals
expenses Summary of
journalizing and
posting

Slide
3-4
Timing
Timing Issues
Issues

Accountants divide the economic life of a business into


artificial time periods (Time Period Assumption).

Jan. Feb. Mar. Apr.


..... Dec.

Generally a month, a quarter, or a year


Fiscal year vs. calendar year
Also known as the Periodicity Assumption

Slide
3-5 SO 1 Explain the time period assumption.
Timing
Timing Issues
Issues

Review
The time period assumption states that:
a. revenue should be recognized in the accounting
period in which it is earned.
b. expenses should be matched with revenues.
c. the economic life of a business can be divided into
artificial time periods.
d. the fiscal year should correspond with the calendar
year.

Slide Solution on
3-6 notes page SO 1 Explain the time period assumption.
Timing
Timing Issues
Issues
Accrual- vs. Cash-Basis Accounting
Accrual-Basis Accounting
Transactions recorded in the periods in which the
events occur.

Revenues are recognized when earned, rather than


when cash is received.

Expenses are recognized when incurred, rather than


when paid.

Slide
3-7
SO 2 Explain the accrual basis of accounting.
Timing
Timing Issues
Issues
Accrual- vs. Cash-Basis Accounting
Cash-Basis Accounting
Revenues are recognized when cash is received.

Expenses are recognized when cash is paid.

Cash-basis accounting is not in accordance with


International Financial Reporting Standards (IFRS).

Slide
3-8 SO 2 Explain the accrual basis of accounting.
Timing
Timing Issues
Issues
Recognizing Revenues and Expenses
Revenue Recognition Principle
Companies recognize
revenue in the accounting
period in which it is earned.

In a service enterprise,
revenue is considered to be
earned at the time the service
is performed.

Slide
3-9 SO 2 Explain the accrual basis of accounting.
Timing
Timing Issues
Issues
Recognizing Revenues and Expenses
Expense Recognition Principle (Matching Principle)
Match expenses with
revenues in the period when
the company makes efforts to
generate those revenues.

Let the expenses follow


the revenues.

Slide
3-10 SO 2 Explain the accrual basis of accounting.
Timing
Timing Issues
Issues

IFRS relationships in Illustration 3-1


revenue and expense
recognition

Slide
3-11 SO 2 Explain the accrual basis of accounting.
Answer on
Slide
notes page SO 2
3-12
Timing
Timing Issues
Issues
Match the description of the concept to the
concept.

g
f
c
b

Slide Solution on
3-13 notes page SO 2 Explain the accrual basis of accounting.
Timing
Timing Issues
Issues

Review
One of the following statements about the accrual basis of
accounting is false. That statement is:

a. Events that change a companys financial statements


are recorded in the periods in which the events occur.

b. Revenue is recognized in the period in which it is


earned.
c. The accrual basis of accounting is in accord with
generally accepted accounting principles.

d. Revenue is recorded only when cash is received, and


expenses are recorded only when cash is paid.
Slide Solution on
3-14 notes page SO 2 Explain the accrual basis of accounting.
The
The Basics
Basics of
of Adjusting
Adjusting Entries
Entries

Adjusting entries make it possible to report correct


amounts on the statement of financial position
and on the income statement.

A company must make adjusting entries every time


it prepares financial statements.

Slide
3-15 SO 3 Explain the reasons for adjusting entries.
The
The Basics
Basics of
of Adjusting
Adjusting Entries
Entries

Revenues - recorded in the period in which they are


earned.
earned

Expenses - recognized in the period in which they


are incurred.
incurred

Adjusting entries - needed to ensure that the


revenue recognition and expense recognition are
followed.

Slide
3-16 SO 3 Explain the reasons for adjusting entries.
The
The Basics
Basics of
of Adjusting
Adjusting Entries
Entries

Review
Adjusting entries are made to ensure that:
a. expenses are recognized in the period in
which they are incurred.
b. revenues are recorded in the period in which
they are earned.
c. statement of financial position and income
statement accounts have correct balances at
the end of an accounting period.
d. all of the above.

Slide Solution on
3-17 notes page SO 3 Explain the reasons for adjusting entries.
Types
Types of
of Adjusting
Adjusting Entries
Entries
Types of Adjusting Entries Illustration 3-2
Categories of adjusting entries

Deferrals Accruals
1. Prepaid Expenses. 3. Accrued Revenues.
Expenses paid in cash and Revenues earned but not yet
recorded as assets before received in cash or
they are used or consumed. recorded.

2. Unearned Revenues. 4. Accrued Expenses.


Revenues received in cash Expenses incurred but not
and recorded as liabilities yet paid in cash or recorded.
before they are earned.

Slide
3-18 SO 4 Identify the major types of adjusting entries.
Types
Types of
of Adjusting
Adjusting Entries
Entries
Illustration 3-3

Trial Balance
Illustrations are
based on the
October 31, trial
balance of
Pioneer
Advertising
Agency Inc.

Slide
3-19 SO 4 Identify the major types of adjusting entries.
Types
Types of
of Adjusting
Adjusting Entries
Entries

Adjusting Entries for Deferrals


Deferrals are either:

Prepaid expenses

OR

Unearned revenues.

Slide
3-20 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses

Payment of cash that is recorded as an asset because


service or benefit will be received in the future.

Cash Payment BEFORE Expense Recorded

Prepayments often occur in regard to:


insurance rent
supplies maintenance on equipment
advertising fixed assets (depreciation)

Slide
3-21 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses

Prepaid Expenses
Costs that expire either with the passage of time or
through use.

Adjusting entries (1) to record the expenses that apply


to the current accounting period, and (2) to show the
unexpired costs in the asset accounts.

Slide
3-22 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses

Adjusting entries for prepaid expenses


Illustration 3-4

Increases (debits) an expense account and


Decreases (credits) an asset account.

Slide
3-23 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses
Illustration: Pioneer Advertising Agency purchased advertising
supplies costing $2,500 on October 5. Pioneer recorded the
payment by increasing (debiting) the asset Advertising Supplies.
This account shows a balance of $2,500 in the October 31 trial
balance. An inventory count at the close of business on October
31 reveals that $1,000 of supplies are still on hand.

Oct. 31 Advertising supplies expense 1,500


Advertising supplies 1,500
Illustration 3-5

Slide
3-24 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses
Illustration: On October 4, Pioneer Advertising Agency paid $600
for a one-year fire insurance policy. Coverage began on October
1. Pioneer recorded the payment by increasing (debiting) Prepaid
Insurance. This account shows a balance of $600 in the
October 31 trial balance. Insurance of $50 ($600 / 12) expires
each month.

Oct. 31 Insurance expense 50


Prepaid insurance 50
Illustration 3-6

Slide
3-25 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses

Depreciation
Buildings, equipment, and vehicles (long-lived assets)
are recorded as assets, rather than an expense, in the
year acquired.

Companies report a portion of the cost of a long-lived


asset as an expense (depreciation) during each period
of the assets useful life.

Slide
3-26 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses
Illustration: Pioneer Advertising estimates depreciation on the
office equipment to be $480 a year, or $40 per month.

Oct. 31 Depreciation expense 40


Accumulated depreciation 40

Illustration 3-7

Slide
3-27 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses

Depreciation (Statement Presentation)


Accumulated Depreciation is a contra asset account.
Appears just after the account it offsets (Equipment) on
the statement of financial position.

Illustration 3-8

Slide
3-28 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Prepaid
Prepaid Expenses
Expenses

Summary
Illustration 3-9

Slide
3-29 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Unearned
Unearned Revenues
Revenues

Receipt of cash that is recorded as a liability because the


revenue has not been earned.

Cash Receipt BEFORE Revenue Recorded

Unearned revenues often occur in regard to:


rent magazine subscriptions
airline tickets customer deposits
school tuition

Slide
3-30 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Unearned
Unearned Revenues
Revenues

Unearned Revenues
Company makes an adjusting entry to record the revenue
that has been earned and to show the liability that remains.

The adjusting entry for unearned revenues results in a

decrease (a debit) to a liability account and an

increase (a credit) to a revenue account.

Slide
3-31 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Unearned
Unearned Revenues
Revenues

Adjusting entries for unearned revenues


Illustration 3-10

Decrease (a debit) to a liability account and


Increase (a credit) to a revenue account.

Slide
3-32 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Unearned
Unearned Revenues
Revenues
Illustration: Pioneer Advertising Agency received $1,200 on
October 2 from R. Knox for advertising services expected to be
completed by December 31. Unearned Service Revenue shows a
balance of $1,200 in the October 31 trial balance. Analysis
reveals that the company earned $400 of those fees in October.

Oct. 31 Unearned service revenue 400


Service revenue 400

Illustration 3-11

Slide
3-33 SO 5 Prepare adjusting entries for deferrals.
Adjusting
Adjusting Entries
Entries for
for Unearned
Unearned Revenues
Revenues

Summary
Illustration 3-12

Slide
3-34 SO 5 Prepare adjusting entries for deferrals.
Answer on
Slide
notes page SO 5
3-35
Types
Types of
of Adjusting
Adjusting Entries
Entries

Adjusting Entries for Accruals


Made to record:

Revenues earned and

OR

Expenses incurred

in the current accounting period that have not been


recognized through daily entries.

Slide
3-36 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Revenues
Revenues
Revenues earned but not yet received in cash or recorded.

Adjusting entry results in:

Revenue Recorded BEFORE Cash Receipt

Accrued revenues often occur in regard to:


rent
interest
services performed

Slide
3-37 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Revenues
Revenues

Accrued Revenues
An adjusting entry serves two purposes:

(1) It shows the receivable that exists, and

(2) It records the revenues earned.

Slide
3-38 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Revenues
Revenues

Adjusting entries for accrued revenues


Illustration 3-13

Increases (debits) an asset account and


Increases (credits) a revenue account.

Slide
3-39 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Revenues
Revenues

Illustration: In October Pioneer Advertising Agency earned


$200 for advertising services that had not been recorded.

Oct. 31 Accounts Receivable 200


Service Revenue 200

Illustration 3-14

Slide
3-40 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Revenues
Revenues

Summary
Illustration 3-15

Slide
3-41 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses

Expenses incurred but not yet paid in cash or recorded.

Adjusting entry results in:

Expense Recorded BEFORE Cash Payment

Accrued expenses often occur in regard to:


rent taxes
interest salaries

Slide
3-42 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses

Accrued Expenses
An adjusting entry serves two purposes:

(1) It records the obligations, and

(2) It recognizes the expenses.

Slide
3-43 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses

Adjusting entries for accrued expenses


Illustration 3-16

Increases (debits) an expense account and


Increases (credits) a liability account.

Slide
3-44 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses
Illustration: Pioneer Advertising Agency signed a three-month
note payable in the amount of $5,000 on October 1. The note
requires Pioneer to pay interest at an annual rate of 12%.

Illustration 3-17

Oct. 31 Interest expense 50


Interest payable 50
Illustration 3-18

Slide
3-45 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses
Illustration: Pioneer Advertising Agency last paid salaries on
October 26; the next payment of salaries will not occur until
November 9. The employees receive total salaries of $2,000 for a
five-day work week, or $400 per day. Thus, accrued salaries at
October 31 are $1,200 ($400 x 3 days).
Illustration 3-19

Slide
3-46 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses
Illustration: Pioneer Advertising Agency last paid salaries on
October 26; the next payment of salaries will not occur until
November 9. The employees receive total salaries of $2,000 for a
five-day work week, or $400 per day. Thus, accrued salaries at
October 31 are $1,200 ($400 x 3 days).

Oct. 31 Salaries expense 1,200


Salaries payable 1,200
Illustration 3-20

Slide
3-47 SO 6 Prepare adjusting entries for accruals.
Adjusting
Adjusting Entries
Entries for
for Accrued
Accrued Expenses
Expenses

Summary
Illustration 3-21

Slide
3-48 SO 6 Prepare adjusting entries for accruals.
The
The Adjusted
Adjusted Trial
Trial Balance
Balance

After all adjusting entries are journalized and posted the


company prepares another trial balance from the ledger
accounts (Adjusted Trial Balance).

Its purpose is to prove the equality of debit balances and


credit balances in the ledger.

Slide
3-49 SO 7 Describe the nature and purpose of an adjusted trial balance.
The
The Adjusted
Adjusted Trial
Trial Balance
Balance

Illustration 3-24
Adjusted trial balance

Slide
3-50 SO 7
The
The Adjusted
Adjusted Trial
Trial Balance
Balance

Review Question
Which of the following statements is incorrect concerning
the adjusted trial balance?
a. An adjusted trial balance proves the equality of the
total debit balances and the total credit balances in
the ledger after all adjustments are made.
b. The adjusted trial balance provides the primary basis
for the preparation of financial statements.
c. The adjusted trial balance lists the account balances
segregated by assets and liabilities.
d. The adjusted trial balance is prepared after the
adjusting entries have been journalized and posted.
Slide
3-51 SO 7 Describe the nature and purpose of an adjusted trial balance.
Preparing
Preparing Financial
Financial Statements
Statements

Financial
FinancialStatements
Statementsare
areprepared
prepareddirectly
directlyfrom
from the
the
Adjusted
AdjustedTrial
Trial Balance.
Balance.

Statement Retained
Income
of Financial Earnings
Statement
Position Statement

Slide
3-52 SO 7 Describe the nature and purpose of an adjusted trial balance.
Preparing
Preparing Financial
Financial Statements
Statements
Illustration 3-25
Preparation of
the income
statement and
retained earnings
statement from
the adjusted trial
balance

Slide
3-53 SO 7
Preparing
Preparing Financial
Financial Statements
Statements
Illustration 3-26

Slide
3-54 SO 7
Understanding
Understanding U.S.
U.S. GAAP
GAAP

Key Differences Adjusting the Accounts


Like IFRS, companies applying GAAP use accrual-basis accounting
to ensure that they record transactions that change a companys
financial statements in the period in which events occur.
Similar to IFRS, cash-basis accounting is not in accordance with
GAAP.
GAAP also divides the economic life of companies into artificial
time periods. Under both GAAP and IFRS, this is referred to as the
time period assumption. GAAP requires that companies present a
complete set of financial statements, including comparative
information annually.

Slide
3-55
Understanding
Understanding U.S.
U.S. GAAP
GAAP

Key Differences Adjusting the Accounts


GAAP has more than 100 rules dealing with revenue recognition.
Many of these rules are industry-specific. Revenue recognition
under IFRS is determined primarily by a single standard, IAS 18.
Despite this large disparity in the detailed guidance devoted to
revenue recognition, the general revenue recognition principles
required by IFRS that are used in this textbook are similar to those
under GAAP.
GAAP uses concepts such as realized, realizable, and earned as a
basis for revenue recognition.

Slide
3-56
Understanding
Understanding U.S.
U.S. GAAP
GAAP

Key Differences Adjusting the Accounts


Internal controls are a system of checks and balances designed to
detect and prevent fraud and errors. The Sarbanes-Oxley Act
requires U.S. companies to enhance their systems of internal
control. However, many foreign companies do not have this
requirement.
Under IFRS, revaluation to fair value of items such as land and
buildings is permitted. This is not permitted under GAAP.
The form and content of financial statements are very similar under
GAAP and IFRS. Any significant differences will be discussed in
those chapters that address specific financial statements.

Slide
3-57
Understanding
Understanding U.S.
U.S. GAAP
GAAP

Looking to the Future Adjusting the Accounts


The IASB and FASB are now involved in a joint project on revenue
recognition. Presently, the Boards are considering an approach
that focuses on changes in assets and liabilities (rather than on
when earned) as the basis for revenue recognition. It is hoped
that this approach will lead to more consistent accounting in this
area. The IASB and the FASB also face a difficult task in attempting
to update, modify, and complete a converged conceptual
framework. For example, how do companies choose between
information that is highly relevant but difficult to verify versus
information that is less relevant but easy to verify? Should a single
measurement method, such as historical cost or fair value, be
used, or does it depend on whether it is an asset or liability that is
being measured?
Slide
3-58
Alternative
Alternative Treatment
Treatment of
of Prepaid
Prepaid Expenses
Expenses
and
and Unearned
Unearned Revenues
Revenues APPENDIX
Some companies use an alternative treatment for
prepaid expenses and unearned revenues.

When a company prepays an expense, it debits that


amount to an expense account.

When a company receives payment for future services,


it credits the amount to a revenue account.

Slide
3-59 SO 8 Prepare adjusting entries for the alternative treatment of deferrals.
Alternative
Alternative Treatment
Treatment for
for Prepaid
Prepaid Expenses
Expenses

Illustration: Pioneer Advertising purchased supplies on


October 5 for $2,500 and debited Advertising
Supplies Expense for the full amount. What if an inventory
of $1,000 of advertising supplies remains on October 31?

Oct. 31 Advertising supplies 1,000


Advertising supplies expense 1,000

Illustration 3A-1

Slide
3-60 SO 8 Prepare adjusting entries for the alternative treatment of deferrals.
Alternative
Alternative Treatment
Treatment for
for Prepaid
Prepaid Expenses
Expenses

Adjustment approachesa comparison


Illustration 3A-2

Slide
3-61 SO 8 Prepare adjusting entries for the alternative treatment of deferrals.
Alternative
Alternative Treatment
Treatment for
for Unearned
Unearned Revenues
Revenues

Illustration: Assume that Pioneer Advertising received $1,200


for future services on October 2 and credited the entire amount
to Service Revenue. If at the statement date Pioneer has not
performed $800 of the services, it would make an adjusting
entry.

Oct. 31 Service revenue 800


Unearned service revenue 800
Illustration 3A-4

Slide
3-62 SO 8 Prepare adjusting entries for the alternative treatment of deferrals.
Alternative
Alternative Treatment
Treatment for
for Unearned
Unearned Revenues
Revenues

Adjustment approachesa comparison


Illustration 3A-5

Slide
3-63 SO 8 Prepare adjusting entries for the alternative treatment of deferrals.
Summary
Summary of
of Additional
Additional Adjustment
Adjustment Relationships
Relationships

Illustration 3A-7

Slide
3-64 SO 8 Prepare adjusting entries for the alternative treatment of deferrals.
Copyright
Copyright

Copyright 2011 John Wiley & Sons, Inc. All rights reserved.
Reproduction or translation of this work beyond that permitted in
Section 117 of the 1976 United States Copyright Act without the
express written permission of the copyright owner is unlawful.
Request for further information should be addressed to the
Permissions Department, John Wiley & Sons, Inc. The purchaser
may make back-up copies for his/her own use only and not for
distribution or resale. The Publisher assumes no responsibility for
errors, omissions, or damages, caused by the use of these
programs or from the use of the information contained herein.

Slide
3-65