4-1 econ 3a- ucsb income measurement and accrual accounting income measurement and accrual...
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4-1 ECON 3A- UCSB
Income Measurement Income Measurement and Accrual Accountingand Accrual Accounting Income Measurement Income Measurement and Accrual Accountingand Accrual Accounting
Chapter
4
Chapter
4
4-2 ECON 3A- UCSB
4-3 ECON 3A- UCSB
A step-back: Typical accountsA step-back: Typical accounts
CURRENT:
Cash
Accounts receivable
Accrued revenue
Inventory
Prepaid expenses
LONG TERM:
Fixed assets
CURRENT:
Cash
Accounts receivable
Accrued revenue
Inventory
Prepaid expenses
LONG TERM:
Fixed assets
CURRENT:
Accounts payable
Accrued expenses
Deferred/ Unearned revenue
Current portion of LT debt
LONG TERM:
LT debt, excluding current portion
CURRENT:
Accounts payable
Accrued expenses
Deferred/ Unearned revenue
Current portion of LT debt
LONG TERM:
LT debt, excluding current portion
Contributed Capital
Retained Earnings
Contributed Capital
Retained Earnings
NET INCOME
Revenue
COGS
Depreciation expense
SG & A expense
Depreciation expense
Other expenses
Interest expense
NET INCOME
Revenue
COGS
Depreciation expense
SG & A expense
Depreciation expense
Other expenses
Interest expense
4-4 ECON 3A- UCSB
A step-back: Contra-assetsA step-back: Contra-assets
CURRENT:
Cash
Accounts receivable
Accrued revenue
Inventory
Prepaid expenses
LONG TERM:
Fixed assets
CURRENT:
Cash
Accounts receivable
Accrued revenue
Inventory
Prepaid expenses
LONG TERM:
Fixed assets
Allowance for doubtful accounts
Accumulated depreciation
4-5 ECON 3A- UCSB
Cash Basis versus Accrual Cash Basis versus Accrual Basis AccountingBasis Accounting
Cash Basis versus Accrual Cash Basis versus Accrual Basis AccountingBasis Accounting
4-6 ECON 3A- UCSB
TERMS- SOME REVISITEDTERMS- SOME REVISITED
RECOGNIZED: Recorded to the ledger.. i.e incorporated into the financial statements
REALIZED: Physical receipt/ giving. Not necessarily “recognized” at the same time as “realized”
HISTORICAL COST: What we paid for something. It is GAAP in almost every instance.
NET BOOK VALUE: What our initial historical cost was net of any depreciation or other adjustments since the date acquired.
MEASUREMENT: Where do the amounts come from? Remember that assets and liabilities are “probable”. Consequently we have to introduce “Estimation” to properly record an asset or liability at its properly measured amount. This is know as “Valuation” of assets and liabilities.
RECOGNIZED: Recorded to the ledger.. i.e incorporated into the financial statements
REALIZED: Physical receipt/ giving. Not necessarily “recognized” at the same time as “realized”
HISTORICAL COST: What we paid for something. It is GAAP in almost every instance.
NET BOOK VALUE: What our initial historical cost was net of any depreciation or other adjustments since the date acquired.
MEASUREMENT: Where do the amounts come from? Remember that assets and liabilities are “probable”. Consequently we have to introduce “Estimation” to properly record an asset or liability at its properly measured amount. This is know as “Valuation” of assets and liabilities.
4-7 ECON 3A- UCSB
The The Income StatementIncome Statement report the revenues and expenses of a firm, for a particular period of time, stated according to the accrual basis of accounting.
The The Income StatementIncome Statement report the revenues and expenses of a firm, for a particular period of time, stated according to the accrual basis of accounting.
Measuring IncomeMeasuring IncomeMeasuring IncomeMeasuring Income
The The objectiveobjective of preparing an income statement is to obtain a of preparing an income statement is to obtain a measure of operating performance that measure of operating performance that matchesmatches a firm’s a firm’s outputs (revenues) with the associated inputs (expenses).outputs (revenues) with the associated inputs (expenses).
The The objectiveobjective of preparing an income statement is to obtain a of preparing an income statement is to obtain a measure of operating performance that measure of operating performance that matchesmatches a firm’s a firm’s outputs (revenues) with the associated inputs (expenses).outputs (revenues) with the associated inputs (expenses).
4-8 ECON 3A- UCSB
Cash Basis versus Accrual Basis of Cash Basis versus Accrual Basis of AccountingAccounting
Cash Basis:Cash Basis:
RevenueRevenue is recorded only when the cash is received and, is recorded only when the cash is received and,
expensesexpenses are recorded only when the cash is paid.are recorded only when the cash is paid.
Accrual Basis:Accrual Basis:
Recognizing Recognizing revenuerevenue when it is earned, without regard to when the when it is earned, without regard to when the cash is received, and cash is received, and
recognizing recognizing expensesexpenses in the period in the period benefitedbenefited, without regard to , without regard to when the cash is paid. when the cash is paid. (MATCHING)(MATCHING)
Statement of Cash Flows- Statement of Cash Flows- Fills in the gap!Fills in the gap!
NOTE:NOTE: They are THE SAME in the long-term. Also the timing of They are THE SAME in the long-term. Also the timing of recording revenues and expenses under GAAP is a primary objective recording revenues and expenses under GAAP is a primary objective of high-level accounting.of high-level accounting.
4-9 ECON 3A- UCSB
Cash Basis versus Accrual Basis ExampleCash Basis versus Accrual Basis Example
Seminis, Inc. had the following transactions: Seminis, Inc. had the following transactions: In September 2000, Seminis purchased seed In September 2000, Seminis purchased seed
inventory for $18,000 on credit. Seminis paid the inventory for $18,000 on credit. Seminis paid the suppliers invoice in suppliers invoice in SeptemberSeptember 2000. 2000.
In October 2000, Seminis sold the seed for $35,000 In October 2000, Seminis sold the seed for $35,000 on credit. on credit.
In November 2000, the customer paid the $35,000 In November 2000, the customer paid the $35,000 due Seminis.due Seminis.
Compute the net income for September, October, and Compute the net income for September, October, and November under cash basis accounting and accrual November under cash basis accounting and accrual basis accounting.basis accounting.
4-10 ECON 3A- UCSB
Cash Basis versus Accrual Basis ExampleCash Basis versus Accrual Basis Example
$ 35,000
$ 35,000
$ (18,000) $ 35,000 $ 17,000
(18,000)
$ 17,000 $ 17,000
$ 35,000
$ 35,000
(18,000)
(18,000)
(18,000)
Sept. Oct. Nov. Total
Sept. Oct. Nov. Total
Cash Basis Accounting
Revenues
Expenses
Net income (loss)
Accrual Basis Accounting
Revenues
Expenses
Net income (loss)
Seminis Inc.
4-11 ECON 3A- UCSB
Cash Basis versus Accrual Basis ExampleCash Basis versus Accrual Basis Example
UC Construction signs an agreement to construct a UC Construction signs an agreement to construct a garage for $22,000. garage for $22,000.
In January, UC Construction begins construction, In January, UC Construction begins construction, incurs costs of $18,000 on credit, and by the end of incurs costs of $18,000 on credit, and by the end of January delivers a finished garage to the buyer. January delivers a finished garage to the buyer.
In February, UC Construction collects $22,000 cash In February, UC Construction collects $22,000 cash from the customer. from the customer.
In March, UC pays the $18,000 due the creditors.In March, UC pays the $18,000 due the creditors.
Compute the net incomes for each month under cash Compute the net incomes for each month under cash basis accounting and accrual basis accounting.basis accounting and accrual basis accounting.
4-12 ECON 3A- UCSB
Cash Basis versus Accrual Basis ExampleCash Basis versus Accrual Basis Example
$ 22,000
(18,000)
$ 22,000
$ 22,000 $ (18,000) $ 4,000
(18,000)
$ 22,000
$ 4,000
(18,000)
$ 4,000
$ 22,000
(18,000)
January February March Total
January February March Total
Cash Basis
Revenue
Expense
Net Income
Revenue
Expense
Net Income
UC Construction Income Statement
Accrual Basis
4-13 ECON 3A- UCSB
Cash Basis versus Accrual Basis of Cash Basis versus Accrual Basis of AccountingAccounting
Why use the Accrual Basis of Accounting?Why use the Accrual Basis of Accounting?
The The Matching PrincipleMatching Principle -- “let the expense follow -- “let the expense follow the revenue.”the revenue.”
Expenses are recognized on the income statement not Expenses are recognized on the income statement not when paid, or when the work is performed, or when a when paid, or when the work is performed, or when a product is produced, but when the work or the product is produced, but when the work or the product actually makes its contribution to revenue.product actually makes its contribution to revenue.
The matching principle dictates that efforts (expenses) The matching principle dictates that efforts (expenses) be matched with accomplishment (revenues) be matched with accomplishment (revenues) whenever it is reasonable and practicable to do so.whenever it is reasonable and practicable to do so.
4-14 ECON 3A- UCSB
Cash Basis versus Accrual Basis Cash Basis versus Accrual Basis DepreciationDepreciation
Assume that in January of 1999, UC Company Assume that in January of 1999, UC Company purchased equipment for $75,000. The purchased equipment for $75,000. The equipment would be useful to UC for three equipment would be useful to UC for three years. years.
Question: Question:
What impact would this equipment have on What impact would this equipment have on UC’s future Income Statements, if:UC’s future Income Statements, if:
a. UC used the cash basis of accounting a. UC used the cash basis of accounting
b. UC used the accrual basis of accounting? b. UC used the accrual basis of accounting?
4-15 ECON 3A- UCSB
Cash Basis versus Accrual Basis ExampleCash Basis versus Accrual Basis Example
$ 100,000 $ 100,000
$ 300,000 $ 100,000
$ 25,000 $ 225,000
(75,000)
$ 100,000
(75,000)
1999 2000 2001 Total
Total
Cash Basis Accounting
Revenues
Depreciation Expenses
Net income (loss)
Accrual Basis Accounting
Revenues
Depreciation Expenses
Net income (loss)
UC Company - Income Statement
$ 100,000
$ 100,000
$ 75,000
(25,000) $ 100,000
$ 75,000
(25,000)
$ 100,000
$ 75,000
(25,000)
$ 300,000
$ 225,000
(75,000)
1999 2000 2001
4-16 ECON 3A- UCSB
Flow of Asset CostsFlow of Asset Costs
Income StatementIncome StatementBalance SheetBalance Sheet
Inventory
BuildingEquipment
Prepaid Insurance
Intangible Asset
Cost of Goods Sold
Insurance Expense
Amortization Expense
Depreciation Expense
4-17 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Sales (75,000)Sales (75,000)
Income Statement
Revenues:
Expenses:
2004 2004
Inventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods Sold
Inventory 30,000Inventory 30,000
Accounts receivable Accounts receivable 75,00075,000
Accounts payable Accounts payable (30,000)(30,000)
Purchase inventory for $30,000, Sell for $75,000Purchase inventory for $30,000, Sell for $75,000
Net income (loss)
4-18 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Sales (75,000)Sales (75,000)
Income Statement
Revenues:
Expenses:
2004 2004
Inventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods Sold
Inventory 0Inventory 0
Accounts receivable Accounts receivable 75,00075,000
Accounts payable Accounts payable (30,000)(30,000)
Purchase inventory for $30,000, Sell for $75,000Purchase inventory for $30,000, Sell for $75,000
Cost of goods sold Cost of goods sold 30,00030,000
(45,000)(45,000)Net income (loss)
4-19 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Income Statement
Revenues:
Expenses:
2004 2004
Inventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods Sold
Inventory 0Inventory 0
Accounts receivable Accounts receivable 75,00075,000
Accounts payable Accounts payable (30,000)(30,000)
Retained earnings Retained earnings (45,000)(45,000)
Net income (loss)
Pay supplier $30,000, Receive $75,000 from customer
Pay supplier $30,000, Receive $75,000 from customer
4-20 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Income Statement
Revenues:
Expenses:
2004 2004
Inventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods Sold
Inventory 0Inventory 0
Net income (loss)
Accounts receivable Accounts receivable 75,00075,000
Accounts payable 0Accounts payable 0
Pay supplier $30,000, Receive $75,000 from customer
Pay supplier $30,000, Receive $75,000 from customer
Retained earnings Retained earnings (45,000)(45,000)
Cash (30,000)Cash (30,000)
4-21 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Income Statement
Revenues:
Expenses:
2004 2004
Inventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods SoldInventory / Cost of Goods Sold
Inventory 0Inventory 0
Accounts receivable Accounts receivable 00
Accounts payable 0Accounts payable 0
Pay supplier $30,000, Receive $75,000 from customer
Pay supplier $30,000, Receive $75,000 from customer
Retained earnings Retained earnings (45,000)(45,000)
Cash 45,000Cash 45,000
Net income (loss)
4-22 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Income Statement
Revenues:
Expenses:
2004 2004
Building / Depreciation ExpenseBuilding / Depreciation ExpenseBuilding / Depreciation ExpenseBuilding / Depreciation Expense
Accum. deprec. Accum. deprec. (40,000)(40,000)
Building 1,000,000Building 1,000,000
Notes payable Notes payable (1,000,000)(1,000,000)
Purchase building for $1,000,000, 25 year useful life
Purchase building for $1,000,000, 25 year useful life
Net income (loss)
Depreciation exp. Depreciation exp. 40,00040,000
40,00040,000
4-23 ECON 3A- UCSB
Balance Sheet
Assets:
Liabilities:
Equity:
Income Statement
Revenues:
Expenses:
2004 2004
Building / Depreciation ExpenseBuilding / Depreciation ExpenseBuilding / Depreciation ExpenseBuilding / Depreciation Expense
Accum. deprec. Accum. deprec. (40,000)(40,000)
Building 1,000,000Building 1,000,000
Notes payable Notes payable (1,000,000)(1,000,000)
Purchase building for $1,000,000, 25 year useful life
Purchase building for $1,000,000, 25 year useful life
Net income (loss)
Retained earnings Retained earnings 40,00040,000
4-24 ECON 3A- UCSB
Adjusting EntriesAdjusting EntriesAdjusting EntriesAdjusting Entries
4-25 ECON 3A- UCSB
Adjusting Entries (Accrual Accounting)Adjusting Entries (Accrual Accounting)
In order for In order for revenuesrevenues to be recorded in the period in which to be recorded in the period in which they are earned, and for they are earned, and for expenses expenses to be recognized in the to be recognized in the period in which they are incurred, period in which they are incurred, adjusting entriesadjusting entries are are made at the end of the accounting period.made at the end of the accounting period.
In short, adjustments are needed to ensure that the In short, adjustments are needed to ensure that the revenue revenue recognition recognition andand matching principles matching principles are followed. are followed.
In order for In order for revenuesrevenues to be recorded in the period in which to be recorded in the period in which they are earned, and for they are earned, and for expenses expenses to be recognized in the to be recognized in the period in which they are incurred, period in which they are incurred, adjusting entriesadjusting entries are are made at the end of the accounting period.made at the end of the accounting period.
In short, adjustments are needed to ensure that the In short, adjustments are needed to ensure that the revenue revenue recognition recognition andand matching principles matching principles are followed. are followed.
PrepaymentsPrepayments AccrualsAccruals1. Prepaid Expenses.Prepaid Expenses. Expenses paid in 3. Accrued Revenues.Accrued Revenues. Revenues cash and recorded as assets before earned but not yet received in cash. they are used or consumed.2. Unearned Revenues.Unearned Revenues. Revenues 4. Accrued Expenses.Accrued Expenses. Expenses received in cash and recorded as incurred but not yet paid in cash. liabilities before they are earned.
PrepaymentsPrepayments AccrualsAccruals1. Prepaid Expenses.Prepaid Expenses. Expenses paid in 3. Accrued Revenues.Accrued Revenues. Revenues cash and recorded as assets before earned but not yet received in cash. they are used or consumed.2. Unearned Revenues.Unearned Revenues. Revenues 4. Accrued Expenses.Accrued Expenses. Expenses received in cash and recorded as incurred but not yet paid in cash. liabilities before they are earned.
4-26 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Prepaids are payments of cash that are recorded as assets Prepaids are payments of cash that are recorded as assets before they are used or consumed.before they are used or consumed.
When a cost is incurred, an asset account is debited to show When a cost is incurred, an asset account is debited to show the service or benefit that will be received in the future.the service or benefit that will be received in the future.
Prepayments often occur in regard to:Prepayments often occur in regard to:
insuranceinsurance
suppliessupplies
advertisingadvertising
rentrent
maintenance on equipmentmaintenance on equipment
fixed assetsfixed assets
4-27 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 6,000
Income Statement
Revenues:
Expenses:
Net income (loss)
June 2003 June 2003
On June 1, 2003, Diamond Co. paid $6,000 for 12 months of insurance coverage. How is this transaction reflected in Diamonds’ financial statements on June 1, 2003?
Journal Entry: Debit Credit
Prepaid Expense 6,000Cash
6,000
4-28 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 6,000
Income Statement
Revenues:
Expenses:
Net income (loss)
June 2003 June 2003
How is this transaction reflected in Diamonds’ financial statements for the month ending June 30, 2003?
4-29 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 5,500
Income Statement
Revenues:
Expenses:
Net (income) loss
Insurance expense 500
June 2003June 2003
How is this transaction reflected in Diamonds’ financial statements for the month ending June 30, 2003?
500
4-30 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 5,500
Income Statement
Revenues:
Expenses:
Net (income) loss
June 2003June 2003
How is this transaction reflected in Diamonds’ financial statements for the month ending June 30, 2003?
Retained earnings 500
Journal Entry: Debit Credit
Insurance expense 500Prepaid insurance
500
Closing Entry:
Retained earnings 500Insurance expense
500
4-31 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 5,500
Income Statement
Revenues:
Expenses:
July 2003July 2003
How is this transaction reflected in Diamonds’ financial statements for the month ending July 31, 2003?
Retained earnings 500
Net (income) loss
4-32 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 5,000
Income Statement
Revenues:
Expenses:
July 2003July 2003
Retained earnings 500
Insurance expense 500
500Net (income) loss
How is this transaction reflected in Diamonds’ financial statements for the month ending July 31, 2003?
4-33 ECON 3A- UCSB
Adjusting Entries (Prepaid Expenses)Adjusting Entries (Prepaid Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash $(6,000)Cash $(6,000)
Prepaid insurance 5,000
Income Statement
Revenues:
Expenses:
July 2003July 2003
Retained earnings 1,000
Net (income) loss
How is this transaction reflected in Diamonds’ financial statements for the month ending July 31, 2003?
4-34 ECON 3A- UCSB
Adjusting Entries (Unearned Revenues)Adjusting Entries (Unearned Revenues)
Unearned revenues are the receipt of cash that is recorded Unearned revenues are the receipt of cash that is recorded as a liability because the revenue has not been earned.as a liability because the revenue has not been earned.
When cash is received, a liability account is credited to show When cash is received, a liability account is credited to show the obligation to provide goods or service in the future.the obligation to provide goods or service in the future.
Unearned revenues often occur in regard to:Unearned revenues often occur in regard to:
rentrent
magazine subscriptionsmagazine subscriptions
customer depositscustomer deposits
airline ticketsairline tickets
school tuition school tuition
4-35 ECON 3A- UCSB
Adjusting Entries (Unearned Revenues)Adjusting Entries (Unearned Revenues)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash 12,000Cash 12,000
Unearned revenue (12,000)
Income Statement
Revenues:
Expenses:
Net (income) loss
October October
Pioneer Advertising Agency received $12,000 on October 2 from R. Knox for advertising services expected to be completed by December 31. Analysis reveals that $4,000 of those fees have been earned in October. How is this transaction reflected on Pioneers’ financial statements for the month of October?
4-36 ECON 3A- UCSB
Adjusting Entries (Unearned Revenues)Adjusting Entries (Unearned Revenues)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash 12,000Cash 12,000
Unearned revenue (8,000)
Income Statement
Revenues:
Expenses:
Net (income) loss
October October
Pioneer Advertising Agency received $12,000 on October 2 from R. Knox for advertising services expected to be completed by December 31. Analysis reveals that $4,000 of those fees have been earned in October. How is this transaction reflected on Pioneers’ financial statements for the month of October?
Advertising revenue (4,000)
(4,000)
4-37 ECON 3A- UCSB
Adjusting Entries (Unearned Revenues)Adjusting Entries (Unearned Revenues)
Balance Sheet
Assets:
Liabilities:
Equity:
Cash 12,000Cash 12,000
Unearned revenue (8,000)
Income Statement
Revenues:
Expenses:
Net (income) loss
October October
Pioneer Advertising Agency received $12,000 on October 2 from R. Knox for advertising services expected to be completed by December 31. Analysis reveals that $4,000 of those fees have been earned in October. How is this transaction reflected on Pioneers’ financial statements for the month of October?
Retained earnings (4,000)
4-38 ECON 3A- UCSB
Adjusting Entries (Accrued Revenues)Adjusting Entries (Accrued Revenues)
Accrued revenues represent revenues earned for which Accrued revenues represent revenues earned for which the cash has not been received. the cash has not been received.
An adjusting entry is required to show the receivable that An adjusting entry is required to show the receivable that exists at the balance sheet date and to record the exists at the balance sheet date and to record the revenue that has been earned during the period. revenue that has been earned during the period.
Accrued revenues often occur in regard to:Accrued revenues often occur in regard to:
rentrent
interestinterest
services performedservices performed
4-39 ECON 3A- UCSB
Adjusting Entries (Accrued Revenues)Adjusting Entries (Accrued Revenues)
Balance Sheet
Assets:
Liabilities:
Equity:
Unbilled receivable Unbilled receivable 2,0002,000
Income Statement
Revenues:
Expenses:
Net (income) loss
October October
In October Pioneer Advertising Agency earned $2,000 in fees for advertising services that were not billed to clients before October 31. How is this transaction reflected on Pioneers’ financial statements for the month of October?
Advertising revenue (2,000)
(2,000)
4-40 ECON 3A- UCSB
Adjusting Entries (Accrued Revenues)Adjusting Entries (Accrued Revenues)
Balance Sheet
Assets:
Liabilities:
Equity:
Unbilled receivable Unbilled receivable 2,0002,000
Income Statement
Revenues:
Expenses:
Net (income) loss
October October
In October Pioneer Advertising Agency earned $2,000 in fees for advertising services that were not billed to clients before October 31. How is this transaction reflected on Pioneers’ financial statements for the month of October?
Retained earnings (2,000)
4-41 ECON 3A- UCSB
Adjusting Entries (Accrued Expenses)Adjusting Entries (Accrued Expenses)
Accrued expenses represent expenses incurred for which Accrued expenses represent expenses incurred for which the cash has not been paid. the cash has not been paid.
An adjusting entry is required to record the obligations An adjusting entry is required to record the obligations that exist at the balance sheet date and to recognize that exist at the balance sheet date and to recognize the expenses that apply to the current period. the expenses that apply to the current period.
Accrued expenses often occur in regard to:Accrued expenses often occur in regard to:
rentrent
interestinterest
taxestaxes
salariessalaries
bad debtsbad debts
4-42 ECON 3A- UCSB
Adjusting Entries (Accrued Expenses)Adjusting Entries (Accrued Expenses)
Balance Sheet
Assets:
Liabilities:
Equity:
Salaries payable Salaries payable (7,500)(7,500)
Income Statement
Revenues:
Expenses:
Net (income) loss
October October
At Pioneer Advertising, salaries were last paid on October 26; the next payment of salaries will not occur until November 9. After October 26, only three working days remain in October. Employees receive salaries of $2,500 per day. How are the unpaid salaries reflected on Pioneers’ financial statements for the month of October?
Salaries expense 7,500
7,500Retained earnings 7,500
4-43 ECON 3A- UCSB
January, 2003 Transactions for Ace Inc.January, 2003 Transactions for Ace Inc. Ace Inc., issue stock for $77,000 cash.Ace Inc., issue stock for $77,000 cash.
Cash Cash 77,00077,000Common stock Common stock 77,00077,000
Ace purchased inventory for 52,000. Balance due in 45 days.Ace purchased inventory for 52,000. Balance due in 45 days.
InventoryInventory 52,00052,000Accounts payableAccounts payable 52,00052,000
Wages due employees for January amounted to $5,000. The wages were Wages due employees for January amounted to $5,000. The wages were paid in February.paid in February.
SG&A expenseSG&A expense 5,0005,000Wages payableWages payable 5,0005,000
Sold inventory costing $10,000 for $25,000. Customer has 30 days to pay.Sold inventory costing $10,000 for $25,000. Customer has 30 days to pay.
Accounts rec.Accounts rec. 25,00025,000SalesSales 25,00025,000
COSCOS 10,00010,000InventoryInventory 10,00010,000
On January 2, paid $3,000 for advertising to On January 2, paid $3,000 for advertising to be done in January and be done in January and February.February.
Prepaid advertisingPrepaid advertising 3,0003,000CashCash 3,0003,000
On January 2, purchased a copier for $6,000 cash. Copier is expected to On January 2, purchased a copier for $6,000 cash. Copier is expected to be useful to Ace for two years.be useful to Ace for two years.
EquipmentEquipment 6,0006,000CashCash 6,0006,000
Received $15,000 from customers for amounts owed to Ace.Received $15,000 from customers for amounts owed to Ace.
CashCash 15,00015,000Accounts receiv.Accounts receiv. 15,00015,000
4-44 ECON 3A- UCSB
Ace, continued from prev. slideAce, continued from prev. slide
From the previous slide, which items require an adjusting entry at the end of the month?
Advertising to be performed in January and February- one month consumed:
Advertising expense 1,500Prepaid advertising 1,500
The photocopier good for two years- 1/24th consumed:
Depreciation expense 250Accumulated depreciation 250
From the previous slide, which items require an adjusting entry at the end of the month?
Advertising to be performed in January and February- one month consumed:
Advertising expense 1,500Prepaid advertising 1,500
The photocopier good for two years- 1/24th consumed:
Depreciation expense 250Accumulated depreciation 250
4-45 ECON 3A- UCSB
More Advanced ConceptsMore Advanced Concepts
The income statement “closes” out to what?
– RETAINED EARNINGS If income is the only activity impacting
retained earnings, what difference is there between retained earnings and an income statement which is for the period from inception to the date of the balance sheet?
NONE
The income statement “closes” out to what?
– RETAINED EARNINGS If income is the only activity impacting
retained earnings, what difference is there between retained earnings and an income statement which is for the period from inception to the date of the balance sheet?
NONE
4-46 ECON 3A- UCSB
More Bonus MaterialsMore Bonus Materials
The balance sheet approach. BECAUSE A=L+E, problems in one argument become apparent in another. You can run, but you can not hide!
If a company had overstated revenue, how might management or the auditors detect this?
– ACCOUNTS RECEIVABLE—
Understated COS?
– INVENTORY
The balance sheet approach. BECAUSE A=L+E, problems in one argument become apparent in another. You can run, but you can not hide!
If a company had overstated revenue, how might management or the auditors detect this?
– ACCOUNTS RECEIVABLE—
Understated COS?
– INVENTORY
4-47 ECON 3A- UCSB
Key Terms Quiz, pg. 187
Questions 1-6, 8-9, 11-19, pgs. 188-189
Chapter 4 Assignments for StudyChapter 4 Assignments for StudyChapter 4 Assignments for StudyChapter 4 Assignments for Study
LO 2
Exercises Problems Cases
LO 1
1 1
2, 30LO 4
LO 3
LO 6
LO 5
LO 7
3-14, 16, 30 2, 4-7
18-19
20-21, 23-24
Solutions available on class web site.
Underlined numbers represent assignments that apply to more than one Learning Objective (LO).