Intermediate Accounting, Ninth Edition

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Intermediate Accounting, Ninth Edition. Kieso and Weygandt. Prepared by Catherine Katagiri, CPA The College of Saint Rose Albany, New York. K & W. John Wiley & Sons, Inc. 1. 1. 1. 1. 1. Chapter 3: The Accounting Information System. After studying this chapter you should be able to: - PowerPoint PPT Presentation


<ul><li><p>Intermediate Accounting, Ninth EditionKieso and Weygandt11111Prepared byCatherine Katagiri, CPAThe College of Saint RoseAlbany, New YorkJohn Wiley &amp; Sons, Inc.K &amp; W</p></li><li><p>Chapter 3:The Accounting Information SystemAfter studying this chapter you should be able to:Understand basic accounting terminology.Explain double-entry rules.Identify steps in the accounting cycle.Record transactions in journals, post to ledger accounts, and prepare a trial balance.Explain the reasons for preparing adjusting entries.Explain how inventory accounts are adjusted at year-end.Prepare closing entries.Identify adjusting entries that may be reversed.Prepare a 10-column worksheet.222</p></li><li><p>Basic TerminologyThe following is a brief summary of selected terms. Please review page 69, our text as well.Event: A happening of consequence. May be external or internal. Generally triggers a change in assets, liabilities or equity.Transaction: An external event involving a transfer or exchange between two or more entities.Account: A systematic recording of transactions or events that affect assets, liabilities, equity, revenue and expense areas. An account represents an area of similar economic interest.333</p></li><li><p>Basic TerminologyReal Accounts: Balance sheet accounts--Asset, liability and equity accounts (except dividends). Exist from one period to the next (not closed).44Nominal Accounts: Income statement accounts--Revenue and expense as well as the dividends account. They do not exist from one period to the next (they are closed). Exist in name only!</p></li><li><p>Basic TerminologyLedger: The book (manual or computer) of T accounts.General ledger (GL) is the book of control or general accounts.Subsidiary ledger contains the detail of a specific control or general account (e.g., Accounts Receivable).55Journal: The book of original entry. Transactions are recorded in journal entry form in their entirety. Posted to the GL.Posting: The carrying of the essential facts from the journal to the general ledger.</p></li><li><p>Basic TerminologyTrial Balance: A list of all open accounts in the GL and their balances. Done to prove the equality of debits and credits.Unadjusted--taken after routine entries are posted.Adjusted--taken after adjusting entries are posted.Post-closing--taken after closing entries are posted.Adjusting Entries: Done to bring the books up to date in anticipation of the preparation of the financial statements.Financial Statements: The primary reporting vehicles for accounting information. They are the result of the collection, tabulation and summation of accounting data. The following four statements comprise a complete set of financial statements (taken as a whole):66</p></li><li><p>Basic TerminologyBalance sheet--Financial condition (position) of an enterprise at the end of the period.Income statement--Shows the results of operations for the period.Statement of cash flows--Reports cash activity for the period by operating, investing and financing flows.Statement of retained earnings--Reconciles the beginning and ending balances in the owner equity account.Closing entries: Done to zero the nominal accounts, formally calculate income or loss and update retained earnings.77</p></li><li><p>Basic TerminologyDebits and credits: Debit means entering an amount on the left-hand side of an account. It does not mean increase or decrease.Credit means entering an amount on the right-hand side of an account. It does not mean increase or decrease.88Account NameDebit Credit</p></li><li><p>Basic TerminologyDouble Entry System of Accounting. A logical method for recording transactions. It recognizes that there are at least two events or changes for each transaction. Debit (or sum of the debits) will always equal the credit (or the sum of the credits).Balance Sheet Equation: Assets = Liabilities + Owner EquityAssets will always equal the sources of those assets. That is, assets belong to either the creditors or the owners.99</p></li><li><p>Accounting CycleAccounting Cycle:Identify, analyze and record relevant business transactions.Please see Chapter Two--Elements of financial statements.Both internal and external events.JournalizingRecord of transactions in the journal in formal journal entry form. Transactions are recorded all in one place in chronological order.1010</p></li><li><p>Accounting CycleFormal journal entry form: (If more than one debit and/or more than one credit it is called a compound entry.)1111DateAccount nameXXAccount nameXXAccount nameXXExplanationPosting: Routine function of carrying the entries from the journal to the ledger.Trial balance: Listing of accounts and their balances in general ledger order (A,L, OE, R, E). Done to prove the equality of the debits and credits.</p></li><li><p>Accounting CycleAdjusting Journal Entries (AJE): Done to bring the books up to date so financial statements can be prepared.1212Types of AJEs:DeferralsAccrualsCost AllocationPlease review the common characteristics of AJEsDated last day of period.Always change at least one balance sheet account and one income statement account.</p></li><li><p>Adjusting EntriesLets review examples of selected AJEs:Deferral of an expense (prepaids)Deferral of a revenue (unearned revenues)Accrual of an expenseAccrual of a revenueCost allocationDepreciationBad Debts1313</p></li><li><p>Adjusting EntriesDeferral Type of AJE is characterized by a previous transaction which must be adjusted because it is now the end of the period (time period assumption). The transaction is not yet complete at the end of the period. Example: Deferral of an expense.Information: You are a tenant renting office space for $2,000 per month. On November 1, 19X1, you prepay six months of rent or $12,000 to your landlord. The original entry may have been:1411/1Rent expense12,000Cash12,000</p></li><li><p>Adjusting EntriesSuppose it is now December 31, 19X1, two months later. The previous entry must be adjusted. The adjusting entry would be:15To adjust:12/31Prepaid Rent 8,000Rent Expense8,000Note: You had to refer back to the original entry to prepare the correct adjusting entry.</p></li><li><p>Adjusting Entries16This properly reflects, at the end of the period, four months of asset remaining and two months of expense matched to the period.But what if the original entry had been:11/1Prepaid Rent 12,000Cash12,000</p></li><li><p>Adjusting EntriesThen the appropriate adjusting entry would be:17To adjust:12/31 Rent Expense 4,000Prepaid Rent4,000Note: You had to refer back to the original entry to prepare the correct adjusting entry.</p></li><li><p>Adjusting EntriesExample: Deferral of an revenue.Information: You are a publisher selling magazines. You collect on 9/1/X1, a total of $18,000 for the next six months of publications (earned evenly). The original entry may have been:1812/31 Cash18,000Earned Revenue18,000It is now 12/31/X1 and the above entry is no longer wholly correct. It must be adjusted to reflect you have services still to perform.</p></li><li><p>Adjusting EntriesTo adjust:12/31 Earned Revenues 6,000Unearned (Deferred) Revenues6,00019But what if the original entry had been:To adjust:12/31 Cash18,000Unearned (Deferred) Revenues18,000</p></li><li><p>Adjusting EntriesIt is now 12/31/X1 and the above entry is no longer wholly correct. It must be adjusted to reflect you have services still to perform. The adjusting entry at 12/31/X1 would be:20To adjust:12/31 Unearned Revenues12,000Earned Revenues12,000The adjusting entry was prepared with the original entry in mind. You arrive at $12,000 of earned revenue and $6,000 of a liability, deferred revenues, at the end of the period.</p></li><li><p>Adjusting EntriesAccrual type of adjusting journal entries:Done to record an as yet unrecorded transaction. To accrue or record for the first time. No prior transaction to refer back to or update.Example: Accrual of a revenue:Information: You have performed accounting services for a client on December 30, 19X1. The services are valued at $300 but you have not recorded this yet nor sent a bill. To adjust:2112/31Accounts Receivable300Service Revenue (Earned)300Note: There will always be a pairing between a receivable (balance sheet) and a revenue (income statement) account.</p></li><li><p>Adjusting EntriesExample: Accrual of an expenseInformation: You had some emergency repair work done on 12/31/X1. The plumber states the bill will be approximately $3,400. To adjust:2212/31Repair Expense3,400Accounts Payable3,400Note: There will always be a pairing between an expense (income statement) and a payable (balance sheet) account.The final accrual done will be the tax accrual.</p></li><li><p>Adjusting EntriesCost allocation type of adjusting journal entry:To follow matching and divide up cost to current and future periods benefited.Depreciation, bad debt expense.Example: You consume the usefulness of your building at the rate of $12,000 per year. To recognize that the cost has now been consumed (now an expense) you depreciate:2312/31Depreciation Expense (I/S)12,000Accumulated Depreciation (B/S)12,000</p></li><li><p>Accounting CycleAfter all the adjusting entries have been recorded and posted an adjusted trial balance is taken. This will not detect omissions or errors where debits = credits. It only determines, after adjusting, that total debits = credits.Financial statements may then be prepared from the adjusted balances.24</p></li><li><p>Accounting CycleInventory Methods:Periodic: Use of the purchases and contra accounts, Freight-in.Adjust inventory at end of period within the context of closing.Cost of Goods Sold (CGS) is a calculated figureClosing involves purchases, sales, contras, Freight-in.Perpetual:Inventory is kept up-to-date--Debited when bought, credited when sold-Returns &amp; Allowances, discounts flow through the inventory account.25</p></li><li><p>Closing EntriesCost of Goods Sold is a known figure.No purchase contras to close.Closing--Please review the mechanics of closing, pages 88-90, our text.Closing done to ready the nominal (I/S, dividends) accounts for the next period.Under a periodic system the inventory account is adjusted during closing.Closing done to formally calculate net income or loss.Closing done to update RE26</p></li><li><p>Closing EntriesClosing to capital:In a corporation capital is divided into amounts for shares (stock) and amounts earned by the corporation (Retained Earnings-RE). Income is closed to RE.After closing completed:Only real (balance sheet accounts) remain.A post-closing trial balance is prepared to check the equality of debits and credits and is a starting point for the next period.27</p></li><li><p>Worksheet PreparationPlease review the preparation of the worksheet (pages 93-96, our text). Done to coordinate and substantiate work done.Financial statements and tax returns prepared directly from the worksheet.When satisfied your work is complete the records are then updated permanently and closing occurs.Note the treatment of the inventory. There is more than one method to adjust inventory-it gets to the same place eventually!28</p></li><li><p>Reversing EntriesReversing entries-done to ease subsequent recording.OptionalAccruals are usually reversed.Deferrals may be reversed.Cost Allocation type AJE would not logically be a candidate for reversal .For example: You accrue your $8,900 payroll on Wednesday, 12/31/X1, the end of the period. The full weekly payroll is normally $15,000. To accrue:2912/31/X1 Wage Expense (I/S)8,900Wages Payable (B/S).8,900</p></li><li><p>Reversing EntriesAs the adjusting entries tend to be difficult, the AJE was prepared by you, the accountant, instead of the usual clerical personnel. They are unaware the accrual was done and so on Friday, January 2, 19X2, they record the entire weeks payroll ($15,000) like they usually do:301/2/X2Wage Expense (I/S)15,000Cash (B/S)15,000This would be incorrect because the first three days of the pay period were already expensed and matched to the year X1. There is also a liability outstanding that must be removed when the payroll is paid. The correct entry would be:</p></li><li><p>Reversing Entries1/2/X2Wage Expense (I/S)6,100Wage Payable (B/S)8,900Cash (B/S)15,00031To avoid these types of errors or to be able to ignore AJEs a reversing entry may be done. Suppose after the original AJE was done and CLOSING occurred, the following reversing entry was done on 1/1/X2:1/1/X2Wage Payable (B/S)8,900Wage Expense (I/S)8,900</p></li><li><p>Reversing EntriesThis reversing entry would get rid of the payable and record a CREDIT balance in the wage expense account. When the routine payroll entry was done:321/2/X2Wage Expense (I/S)15,000Cash (B/S)15,000</p><p>The accounts would now be correct: The payable would be gone, the expense for 19X2 would be $6,100. Reversing entries should simplify the subsequent recording of routine transactions.</p><p>1111111222233334554466557766887799881010991111101010121211111113131212141313151615141716151817161918172017191821182019221921202320222124212322252224232623252427242625282527262629262827302729283128302932293130</p></li></ul>