stu ch04 completing the accounting cycle
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Completing theAccounting CycleCompleting theAccounting Cycle
C H A P T E R 4
Learning Objective 1
Describe how accrual accounting allows for timely reporting and a better measure of a company's economic performance.
Why Use Accrual Accounting?
Define the Time Period Concept.
Time Period
Financial ReportsMost companies report to
stockholders at fiscal year-end.
Other reports are issued more frequently, perhaps monthly or quarterly.
This frequency of reports forces accountants to use data based on judgments and estimates.
ABC Inc.Annual Report
Define Accrual Accounting
Revenue Recognition
Revenues are recorded when two main criteria are met: What are they?
Define The Matching Principle
Define Cash-Basis Accounting
Example: Accrual- vs. Cash-Basis Accounting
Crown ConsultingReported Income for 2006
During 2006, Crown Consulting billed its client for $48,000. On December 31, 2006, it had received $41,000, with the remaining $7,000 to be received in 2007. Total expenses during 2006 were $31,000 with $3,000 of these costs not yet paid at December 31. Determine net income under both methods.
Learning Objective 2
Explain the need for adjusting entries and make adjusting entries for unrecorded receivables, unrecorded liabilities, prepaid expenses, and unearned revenues.
What Are the Steps in the Accounting Cycle?
Why DO Adjusting Entries?
Adjusting Entries Tips
Each adjusting entry always involves at least one income statement account and one balance sheet account.
Each adjusting entry always involves at least one income statement account and one balance sheet account.
Adjusting entries never involve cash.
Define Each of These Common Adjusting Entries
Unrecorded Receivables
Unrecorded Liabilities
Prepaid Expenses
Unearned Revenues
What Is the 3-Step Process for Adjusting Entries?
Bullseye Management earns a rent revenue of $500 in 2006 but will not receive the payment until January 10, 2007. An adjustment will be needed. What is the adjusting entry?
Example: Unrecorded Receivables
Original entry none none
Correct balances 500 500
Rent Receivable Rent Revenue
Original entry none none
Correct balances 1,000 1,000
MoneyTree Inc. is assessed property taxes of $1,000 for 2006, but will not make this payment until January 5, 2007. An adjustment will be needed. What is the adjusting entry?
Property TaxExpense
Property Tax Payable
Example: Unrecorded Liabilities
Example: Prepaid Expenses
Rent ExpensePrepaid Rent
Original entry 3,600 3,600
Adjusting entry 1,800 1,800
Correct balances 1,800 1,800
Cash
On July 1, 2006, I Think I Can Inc. pays $3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. What is the adjusting entry?
Example: Unearned RevenuesOn July 1, 2006, Clean As A Whistle Co. received $3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. What is the adjusting entry?
Original entry 3,600 3,600
Adjusting entry 1,800 1,800
Correct balances 1,800 1,800
Unearned RentRent Revenue Cash
Learning Objective 3
Explain the preparation of the financial statements, the explanatory notes, and the audit report.
Review The Steps in the Accounting Cycle
PreparingFinancial Statements
Prepared directly from the data in the adjusted ledger accounts.
Explanatory notes clarify the methods and assumptions.
The auditor reviews the statements with GAAP.
Describe the Preparation of Financial Statements
What Are The Notes and Why Have Them?
Tell Me About The Audit
Using a Work Sheet
What Is a Work Sheet? How Does It Work?
Learning Objective 4
Complete the closing process in the accounting cycle.
Describe The Closing Process
Real Accounts Nominal Accounts
Closing Entries Identify Nominal and Real Accounts
Dec. 31 Sales Revenue. . . . . . . . . . . 1,500
Rent Revenue. . . . . . . . . . . . 100
Cost of Goods Sold . . . . . 1,100
Salaries Expense. . . . . . . 200
Other Expenses . . . . . . . . 150
Retained Earnings . . . . . . 150
real (permanent) account
nominal or temporaryaccounts
Step 1. Close all revenue accounts by debiting them.
Sales Revenue. . . . . . . . . 15,000Retained Earnings . . . . 15,000
Closing Entries Describe Which Accounts Are Used For Each
Entry
Step 2. Close all expense accounts by crediting them.
Retained Earnings. . . . . . . 13,600Cost of Goods Sold. . . . 12,800Insurance Expense. . . . 500Supplies Expense. . . . . 300
Dividends
Closing Dividends Discuss the Dividends Account
Declaration of Dividends:
Payment of Dividends:
Closing Entry for Dividends:
Make All Three Dividends Entries for $200
Dividends
Bal. xxx
Retained Earnings Revenues
Bal. xxx Beg. Bal. xxx
Expenses
Bal. xxx
The Closing Process Revenues
Since the revenues account is a nominal account, it is closed at the end of the period to Retained Earnings.
xxx
Revenues
Dividends
Bal. xxx
Retained Earnings
Beg. Bal. xxx
Expenses
Bal. xxx
The Closing Process Expenses
The expenses account is also a nominal account and is debited to Retained Earnings to close it.
xxx
Expenses Revenues
Revenues
Bal. xxxxxx
Dividends
Bal. xxx
Retained Earnings
xxx
Revenues
Bal. xxx Beg. Bal. xxx
The Closing Process Dividends
The dividends account, which is also nominal, is credited to close out the balance.
xxx
Dividends
Expenses Revenues
Expenses
Bal. xxx xxx
Dividends
Bal. xxx
Retained Earnings
xxx
Revenues
Bal. xxx Beg. Bal. xxx
The Closing Process
xxx
Dividends
Expenses Revenues
Expenses
Bal. xxx xxx
End. Bal. xxx
Net income for the period is determined by these two entries.
Retained Earnings is a real account and always carries a balance.
Optimal last step.
Information taken from the General Ledger after all closing entries are posted.
Lists all real account balances at the end of the closing process.
Assures that total debits equal total credits prior to the beginning of the new accounting period.
Only real accounts will have a balance at this time.
Optimal last step.
Information taken from the General Ledger after all closing entries are posted.
Lists all real account balances at the end of the closing process.
Assures that total debits equal total credits prior to the beginning of the new accounting period.
Only real accounts will have a balance at this time.
Post-Closing Trial Balance
Three Monkeys Inc. Post-Closing Trial Balance December 31, 2006
Debits CreditsCash $ 8,200Accounts Receivable 4,000Inventory 3,000Supplies 1,000Accounts Payable $ 5,000Capital Stock 10,000Retained Earnings ______ 1,200 Totals $16,200 $16,200
Example: Post-ClosingTrial Balance
Learning Objective 6
Understand how all the steps in the accounting cycle fit together.
Summary of theAccounting Cycle
Financial statements:
Result from the accounting cycle.
Provide useful information to investors, creditors, and other users.
Are included in the annual reports provided to stockholders.
Can be analyzed and compared to statements of similar firms to detect strengths and weaknesses.
Learning Objective 7Expanded Material
Make adjusting entries for prepaid expenses and unearned revenues when the original cash amounts are recorded as expenses and revenues.
Original entry 3,600 3,600
Adjusting entry 1,800 1,800
Correct balances 1,800 1,800
Example: Prepaid Expenses
Rent ExpensePrepaid Rent Cash
On July 1, 2006, Time Flies Company pays $3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. What is the adjusting entry using the expense approach?
Unearned RentRent Revenue Cash
Original entry 3,600 3,600
Adjusting entry 1,800 1,800
Correct balances 1,800 1,800
Example: Prepaid ExpensesOn July 1, 2006, Pot Of Gold Inc. pays the Rainbow Company $3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. Use the revenue approach.
END CHAPTER 4