CHAPTER 3 Adjusting the accounts 115

5. Prepare adjusting entries for prepayments. earned and expenses incurred in the current account-
Prepayments are either prepaid expenses or unearned ing period that have not been recognised through daily
revenue. Adjusting entries for prepayments are required at entries.
the reporting date to record the portion of the prepayment 7. Describe the nature and purpose of an adjusted trial
that represents the expense incurred or the revenue earned balance. An adjusted trial balance shows the balances of
in the current accounting period. all accounts, including those that have been adjusted, at
6. Prepare adjusting entries for accruals. Accruals are the end of an accounting period. Its purpose is to show the
either accrued revenue or accrued expenses. Adjusting effects of all financial events that have occurred during the
entries for accruals are required to record revenue accounting period.

KEY TERMS
Accrual-basis accounting (p. 96) Depreciation (p. 101)
Accrued expenses (p. 106) Expense recognition principle (p. 96)
Accrued revenue (p. 105) Financial year (p. 96)
Adjusted trial balance (p. 111) Interim periods (p. 96)
Adjusting entries (p. 97) Prepaid expenses (p. 99)
Calendar year (p. 96) Revenue recognition principle (p. 96)
Carrying amount (p. 102) Time period assumption (p. 95)
Cash-basis accounting (p. 96) Unearned revenue (p. 103)
Contra asset account (p. 102) Useful life (p. 101)

APPENDIX — ALTERNATIVE TREATMENT LEARNING

OBJECTIVE 8
OF PREPAID EXPENSES AND UNEARNED
Prepare adjusting
REVENUE entries for the
In our discussion of adjusting entries for prepaid expenses and unearned revenue, we illustrated alternative treatment
transactions for which the initial entries were made to statement of financial position accounts. of prepayments.
In the case of prepaid expenses, the prepayment was debited to an asset account. In the case
of unearned revenue, the cash received was credited to a liability account. Some businesses
use an alternative treatment: (1) At the time an expense is prepaid, it is debited to an expense
account; (2) At the time of a receipt for future services, it is credited to a revenue account. The
circumstances that justify such entries and the different adjusting entries that may be required
are described below. The alternative treatment of prepaid expenses and unearned revenue has the
same effect on the financial statements as the procedures described earlier in the chapter.

Prepaid expenses
Prepaid expenses become expired costs either through the passage of time (e.g. insurance) or
through consumption (e.g. advertising supplies). If, at the time of purchase, the business expects
to consume the supplies before the next reporting date, it may be more convenient initially to
debit (increase) an expense account rather than an asset account.
Assume that Pioneer Advertising Agency expects that all of the supplies purchased on 5 October
will be used before the end of the month. A debit of $2500 to Advertising Supplies Expense (rather
than to the asset account Advertising Supplies) on 5 October will eliminate the need for an adjusting
entry on 31 October, if all the supplies are used. As at 31 October, the Advertising Supplies Expense
account will show a balance of $2500, which is the cost of supplies used between 5 October and
31 October.
But what if the business does not use all the supplies, and an inventory of $1000 of advertising
supplies remains on 31 October? Obviously, an adjusting entry is needed. Prior to adjustment,

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 116 Principles of accounting

the expense account Advertising Supplies Expense is overstated $1000, and the asset account
Advertising Supplies is understated $1000. Thus the following adjusting entry is made.

A = L + E Oct. 31 Advertising Supplies 1 000

+1 000 +1 000 Exp Advertising Supplies Expense 1 000
(To record supplies inventory)
Cash flows
no effect
After posting the adjusting entry, the accounts are as shown in figure 3A.1.
Figure 3A.1 Prepaid
expenses accounts after Advertising Supplies Advertising Supplies Expense
adjustment 31/10 Adj. 1 000 5/10 2 500 31/10 Adj. 1 000
31/10 Bal. 1 500

After adjustment, the asset account Advertising Supplies shows a balance of $1000, which is
equal to the cost of supplies on hand at 31 October. In addition, Advertising Supplies Expense
shows a balance of $1500, which is equal to the cost of supplies used between 5 October and
31 October. If the adjusting entry is not made, expenses will be overstated and profit will be
understated by $1000 in the October income statement. Also, both assets and owner’s equity will
be understated by $1000 on the 31 October statement of financial position.
A comparison of the entries and accounts for advertising supplies is shown in figure 3A.2.
Figure 3A.2 Adjustment
approaches — a comparison Prepayment initially Prepayment initially
debited to asset account debited to expense account
(per chapter) (per appendix)

Oct. 5 Advertising Supplies 2 500 Oct. 5 Advertising Supplies Expense 2 500

Accounts Payable 2 500 Accounts Payable 2 500

Oct. 31 Advertising Supplies Expense 1 500 Oct. 31 Advertising Supplies 1 000

Advertising Supplies 1 500 Advertising Supplies Expense 1 000

After posting the entries, the accounts appear as shown in figure 3A.3.
Figure 3A.3 Comparison of
accounts (per chapter) (per appendix)
Advertising Supplies Advertising Supplies
5/10 2 500 31/10 Adj. 1 500 31/10 Adj. 1 000
31/10 Bal. 1 000

Advertising Supplies Expense Advertising Supplies Expense

31/10 Adj. 1 500 5/10 2 500 31/10 Adj. 1 000
31/10 Bal. 1 500

Note that the account balances under each alternative are the same as at 31 October: Advertising
Supplies $1000, and Advertising Supplies Expense $1500.

Unearned revenue
Unearned revenue becomes earned either through the passage of time (e.g. unearned rent) or
through providing the service (e.g. unearned fees). Similar to the case for prepaid expenses, a
revenue account may be credited (increased) when cash is received for future services.
To illustrate, assume that Pioneer Advertising Agency received $1200 for future services on
2 October. The services were expected to be performed before 31 October.2 In such a case,

2 This example focuses only on the alternative treatment of unearned revenue. In the interest of simplicity,
the entries to Service Revenue pertaining to the immediate earning of revenue ($10 000) and the adjusting
entry for accrued revenue ($200) have been ignored.

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 CHAPTER 3 Adjusting the accounts 117

Service Revenue is credited. If revenue is, in fact, earned before 31 October, no adjustment is
needed.
However, if at the reporting date $800 of the services have not been performed, an adjusting
entry is required. The revenue account Service Revenue is overstated $800, and the liability
account Unearned Revenue is understated $800. Thus, the following adjusting entry is made.

Oct. 31 Service Revenue 800 A = L + E

Unearned Revenue 800 +800 −800 Rev
(To record unearned revenue)
Cash flows
no effect
After posting the adjusting entry, the accounts are as shown in figure 3A.4.

Figure 3A.4 Unearned

Unearned Revenue Service Revenue
revenue accounts after
31/10 Adj. 800 31/10 Adj. 800 2/10 1 200 adjustment
31/10 Bal. 400

The liability account Unearned Revenue shows a balance of $800. This is equal to the serv-
ices that will be provided in the future. In addition, the balance in Service Revenue equals the
services provided in October. If the adjusting entry is not made, both revenue and profit will
be overstated by $800 in the October income statement. Also, liabilities will be understated by
$800, and owner’s equity will be overstated by $800 on the 31 October statement of financial
position.
A comparison of the entries and accounts for service revenue earned and unearned is shown in
figure 3A.5.

Figure 3A.5 Adjustment

Unearned revenue Unearned revenue
approaches — a comparison
initially credited to liability account initially credited to revenue account
(per chapter) (per appendix)

Oct. 2 Cash 1 200 Oct. 2 Cash 1 200

Unearned Revenue 1 200 Service Revenue 1 200

Oct. 31 Unearned Revenue 400 Oct. 31 Service Revenue 800

Service Revenue 400 Unearned Revenue 800

After posting the entries, the accounts appear as shown in figure 3A.6.

Figure 3A.6 Comparison of

(per chapter) (per appendix)
accounts
Unearned Revenue Unearned Revenue
31/10 Adj. 400 2/10 1 200 31/10 Adj. 800
31/10 Bal. 800
HELPFUL HINT
Service Revenue Service Revenue
The required adjusted
31/10 Adj. 400 31/10 Adj. 800 2/10 1 200
balances here are
31/10 Bal. 400
Service Revenue $400
and Unearned Revenue
Note that the balances in the accounts are the same under the two alternatives: Unearned Revenue $800.
$800, and Service Revenue $400.

Summary of additional adjustment

relationships
The use of alternative adjusting entries requires additions to the summary of basic relationships
presented earlier in figure 3.18 (page 109). The additions are shown in 1(b) and 2(b) (in bold) in
figure 3A.7 on the next page.

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 118 Principles of accounting

Alternative adjusting entries do not apply to accrued revenue and accrued expenses because no
entries occur before these types of adjusting entries are made. Therefore, the entries in figure 3.18
for these two types of adjustments remain unchanged.
Figure 3A.7 Summary
Type of Reason for Account balances Adjusting
of basic relationships for
adjustment adjustment before adjustment entry
prepayments
1. Prepaid expenses (a) Prepaid expenses initially Assets overstated Dr Expenses
recorded in asset accounts have Expenses understated Cr Assets
been used.
(b) Prepaid expenses initially Assets understated Dr Assets
recorded in expense accounts Expenses overstated Cr Expenses
have not been used.
2. Unearned revenue (a) Unearned revenue initially Liabilities overstated Dr Liabilities
recorded in liability accounts has Revenue understated Cr Revenue
been earned.
(b) Unearned revenue initially Liabilities understated Dr Revenue
recorded in revenue accounts Revenue overstated Cr Liabilities
has not been earned.

SUMMARY OF LEARNING OBJECTIVE FOR APPENDIX

8. Prepare adjusting entries for the alternative treatment
of prepayments. Prepayments may be initially debited to
an expense account. Unearned revenue may be credited to
a revenue account. At the end of the period, these accounts
may be overstated. The adjusting entries for prepaid
expenses are a debit to an asset account and a credit to an
expense account. Adjusting entries for unearned revenue
are a debit to a revenue account and a credit to a liability
account.

SELF-STUDY QUESTIONS * Note: All asterisked questions, exercises and problems relate to material
in the appendix to the chapter.
Answers are at the end of the chapter. (b) Revenue is only recorded when the cash is
(LO 1) 1. The time period assumption states that: received.
(a) revenue should be recognised in the accounting period in (c) Depreciation is not an expense.
which it is earned. (d) Wages owing at the end of the reporting period are
(b) expenses should be matched with revenue. treated as an expense when they are paid.
(c) the economic life of a business can be divided into time 5. The trial balance may not contain up to date and complete (LO 3)
periods. data because:
(d) the financial year should correspond with the calendar (a) it is inexpedient to journalise all events on a daily
year. basis.
(LO 2) 2. The principle or assumption dictating that revenue is (b) some costs are not journalised during the accounting
recognised when earned is the: period because they expire with the passing of time
(a) matching principle. rather than through recurring daily transactions.
(b) cost assumption. (c) some items may be unrecorded.
(c) periodicity principle. (d) all of the above.
(d) revenue recognition principle. 6. Adjusting entries are made to ensure that: (LO 3)
(LO 2) 3. One of the following statements about the accrual basis of (a) expenses are recognised in the period in which they are
accounting is false. incurred.
(a) Events that change a business’s financial statements are (b) revenue is recorded in the period in which it is earned.
recorded in the periods in which the events occur. (c) statement of financial position and income statement
(b) Revenue is recognised in the period in which it is earned. accounts have correct balances at the end of an
(c) This basis is in accord with generally accepted accounting period.
accounting principles. (d) all of the above.
(d) Revenue is recorded only when cash is received, and 7. Each of the following is a major type (or category) of (LO 4)
expense is recorded only when cash is paid. adjusting entry except:
(LO 2) 4. Which of the following statements is correct concerning (a) prepaid expenses.
accrual accounting versus cash accounting? (b) accrued revenue.
(a) Revenue is recorded irrespective of whether the cash has (c) accrued expenses.
been received. (d) earned revenue.

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 CHAPTER 3 Adjusting the accounts 119

(LO 7) 8. An unadjusted trial balance shows sales revenue of $27 000. (a) No entry is required.
The sales department advises that an additional $5000 (b) Salaries Expense 400
of credit sales made on 30 June was not recorded. The Salaries Payable 400
adjustment necessary is: (c) Salaries Expense 400
(a) Cash 5 000 Cash 400
Sales Revenue 5 000 (d) Salaries Payable 400
(b) Sales Revenue 5 000 Cash 400
Accounts Receivable 5 000 13. Which of the following statements is incorrect concerning (LO 7)
(c) Accounts Receivable 5 000 the adjusted trial balance?
Sales Revenue 5 000 (a) An adjusted trial balance proves the equality of the total
(d) Cash 5 000 debit balances and the total credit balances in the ledger
Accounts Payable 5 000 after all adjustments are made.
(LO 5) 9. The trial balance shows Supplies $1350 and Supplies (b) The adjusted trial balance provides the primary basis for
Expense $0. If $500 of supplies are on hand at the end of the preparation of financial statements.
the period, the adjusting entry is: (c) The adjusted trial balance lists the account balances
(a) Supplies 500 segregated by assets and liabilities.
Supplies Expense 500 (d) The adjusted trial balance is prepared after the adjusting
(b) Supplies 850 entries have been journalised and posted.
Supplies Expense 850 *14. The trial balance shows Supplies $0 and Supplies Expense (LO 8)
(c) Supplies Expense 850 $1500. If $900 of supplies are on hand at the end of the
Supplies 850 period, the adjusting entry is:
(d) Supplies Expense 500 (a) Debit Supplies $900 and credit Supplies Expense $900.
Supplies 500 (b) Debit Supplies Expense $900 and credit Supplies $900.
(LO 5)10. Adjustments for unearned revenue now earned are: (c) Debit Supplies $600 and credit Supplies Expense $600.
(a) decrease liabilities and increase revenue. (d) Debit Supplies Expense $600 and credit Supplies $600.
(b) have an assets and revenue account relationship. *15. An annual insurance policy was paid on 31 March at a cost (LO 8)
(c) increase assets and increase revenue. of $3600 and posted to the insurance expense account. As at
(d) decrease revenue and decrease assets. the reporting date, 30 June, the adjusting entry required is:
(LO 6)11. Adjustments for accrued revenue now received are: (a) reduce expenses by $3600 and reduce prepaid insurance
(a) have a liabilities and revenue account relationship. by $3600.
(b) have an assets and revenue account relationship. (b) reduce expenses by $2700 and increase prepaid
(c) increase one asset and reduce another asset. insurance by $2700.
(d) decrease liabilities and increase revenue. (c) increase expenses by $600 and reduce prepaid insurance
by $600.
(LO 6)12. Kathy Siska earned a salary of $400 for the last week of
(d) increase expenses by $600 and increase accrued
September. She will be paid on 1 October. The adjusting
liabilities by $600.
entry for Kathy’s employer as at 30 September is:

QUESTIONS
1. (a) How does the time period assumption affect an
accountant’s analysis of business transactions?
(b) Explain the terms financial year, calendar year and
interim periods.
2. State two generally accepted accounting principles that
relate to adjusting the accounts.
3. Joe Thomas, a lawyer, accepts a legal engagement in
March, performs the work in April and is paid in May. If
Thomas’s law firm prepares monthly financial statements,
when should it recognise revenue from this engagement?
Why?
4. Why do accrual-basis financial statements provide more
useful information than cash-basis statements?
5. In completing the engagement in (3) above, Thomas incurs
$6000 of expenses in March, which are paid in April. How
much expense should be deducted from revenue in the
month the revenue is recognised? Why?
6. ‘Adjusting entries are required by the cost principle of
accounting.’ Do you agree? Explain.
7. Why may a trial balance not contain up-to-date and
complete financial information?
8. Distinguish between the two categories of adjusting entries,
and identify the types of adjustments applicable to each
category.
9. What is the debit/credit effect of a prepaid expense adjusting
entry?
10. ‘Depreciation is a valuation process that results in the
reporting of the fair value of the asset.’ Do you agree? Explain.
11. Explain the differences between depreciation expense and
accumulated depreciation.
12. Corts Ltd purchased equipment for $20 000. By the reporting
date, $12 000 had been depreciated. Indicate the presentation
of the data in the statement of financial position.

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 120 Principles of accounting

13. What is the debit/credit effect of an unearned revenue (a) Assets are understated.
adjusting entry? (b) Liabilities are overstated.
14. A business fails to recognise revenue earned but not yet (c) Liabilities are understated.
received. Which of the following accounts are involved in (d) Expenses are understated.
the adjusting entry: (a) asset, (b) liability, (c) revenue or (e) Assets are overstated.
(d) expense? For the accounts selected, indicate whether (f) Revenue is understated.
they would be debited or credited in the entry. 19. One-half of the adjusting entry is given below. Indicate the
15. A business fails to recognise an expense incurred but not account title for the other half of the entry.
paid. Indicate which of the following accounts is debited (a) Salaries Expense is debited.
and which is credited in the adjusting entry: (a) asset, (b) Depreciation Expense is debited.
(b) liability, (c) revenue or (d) expense. (c) Interest Payable is credited.
16. A business makes an accrued revenue adjusting entry for (d) Supplies is credited.
$900 and an accrued expense adjusting entry for $600. How (e) Accounts Receivable is debited.
much was profit understated prior to these entries? Explain. (f) Unearned Service Revenue is debited.
17. On 9 January, a business pays $9000 for salaries, of which 20. ‘An adjusting entry may affect more than one statement of
$3000 was reported as Salaries Payable on 31 December. financial position or income statement account.’ Do you
Give the entry to record the payment. agree? Why or why not?
18. For each of the following items before adjustment, indicate 21. Why is it possible to prepare financial statements directly
the type of adjusting entry (prepaid expense, unearned from an adjusted trial balance?
revenue, accrued revenue and accrued expense) that *22. Moon Ltd debits Supplies Expense for all purchases of
is needed to correct the misstatement. If an item could supplies and credits Rent Revenue for all advanced rentals.
result in more than one type of adjusting entry, indicate For each type of adjustment, give the adjusting entry.
each of the types.

BRIEF EXERCISES
Indicate why adjusting entries BE3.1 The ledger of Lim Lam includes the following accounts. Explain why each account may
are needed. require adjustment.
(LO 3) (a) Prepaid Insurance (c) Unearned Revenue
(b) Depreciation Expense (d) Interest Payable
Identify the major types of BE3.2 Grollo Concepts accumulates the following adjustment data as at 31 December. Indicate (a)
adjusting entries. the type of adjustment (prepaid expense, accrued revenue and so on), and (b) the accounts
(LO 4) before adjustment (overstated or understated).
1. Supplies of $250 are on hand.
2. Services provided but not recorded total $1200.
3. Interest of $350 has accumulated on a note payable.
4. Rent collected in advance totalling $1000 has been earned.
Prepare adjusting entry for BE3.3 Profile Advertising’s trial balance as at 31 December shows Advertising Supplies $6700 and
supplies. Advertising Supplies Expense $0. On 31 December, there are $1700 of supplies on hand.
(LO 5) Prepare the adjusting entry as at 31 December and, using T accounts, enter the balances in the
accounts, post the adjusting entry and indicate the adjusted balance in each account.
Prepare adjusting entry for BE3.4 At the end of its first year, the trial balance of Easton Ltd shows Equipment $30 000 and zero
depreciation. balances in Accumulated Depreciation — Equipment and Depreciation Expense. Deprecia-
(LO 5) tion for the year is estimated to be $6000. Prepare the adjusting entry for depreciation as at
31 December, post the adjustments to T accounts and indicate the presentation of the equip-
ment as at 31 December in the statement of financial position.
Prepare adjusting entry for BE3.5 On 1 July 2010, Orlow Ltd pays $12 000 to HNH Insurance Ltd for a 3-year insurance con-
prepaid expense. tract. Both companies have reporting periods ending 31 December. For Orlow Ltd, journalise
(LO 5) and post the entry on 1 July and the adjusting entry on 31 December.
Prepare adjusting entry for BE3.6 Using the data in BE3.5, journalise and post the entry on 1 July and the adjusting entry on
unearned revenue. 31 December for HNH Insurance Ltd. HNH uses the accounts Unearned Insurance Revenue
(LO 5) and Insurance Revenue.
Prepare adjusting entries for BE3.7 The bookeeper for Cofex Ltd asks you to prepare the following accrued adjusting entries as
accruals. at 31 December.
(LO 6) 1. Interest on notes payable of $400 is accrued.
2. Services provided but not recorded total $1250.
3. Salaries earned by employees of $900 have not been recorded.

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 CHAPTER 3 Adjusting the accounts 121

Use the following account titles: Service Revenue, Accounts Receivable, Interest Expense,
Interest Payable, Salaries Expense and Salaries Payable.
BE3.8 The trial balance of Wow Designs includes the following statement of financial position Analyse accounts in an
accounts. Identify the accounts that require adjustment. For each account that requires adjust- unadjusted trial balance.
ment, indicate (a) the type of adjusting entry (prepaid expenses, unearned revenue, accrued (LO 4)
revenue and accrued expenses) and (b) the related account in the adjusting entry.
Accounts Receivable Interest Payable
Prepaid Insurance Unearned Service Revenue
Accumulated Depreciation — Equipment
BE3.9 The adjusted trial balance of Hungry Joe’s as at 31 December 2010 includes the following Prepare an income statement
accounts: J. Giaro, Capital $25 000; J. Giaro, Drawings $9000; Service Revenue $65 000; from an adjusted trial balance.
Salaries Expense $32 000; Insurance Expense $1600; Rent Expense $20 000; Supplies (LO 7)
Expense $500; and Depreciation Expense $1500. Prepare an income statement for the year.
BE3.10 Partial adjusted trial balance data for Hungry Joe’s is presented in BE3.9. The balance in Prepare a statement of changes
J. Giaro, Capital is the balance as of 1 January. Prepare a statement of changes in equity for in equity from an adjusted trial
the year assuming profit is $9400 for the year. balance.
(LO 7)
*BE3.11 Basler Gardens records all prepayments in income statement accounts. As at 30 April, the trial Prepare adjusting entries
balance shows Supplies Expense $2800, Service Revenue $9200 and zero balances in related under alternative treatment of
statement of financial position accounts. Prepare the adjusting entries as at 30 April assuming (a) prepayments.
$1000 of supplies on hand and (b) $2000 of service revenue should be reported as unearned. (LO 8)

EXERCISES
E3.1 Many governments have moved from cash to accrual accounting, and even budgeting, over Distinguish between the
the last decade, generating discussion as to how informative and useful accrual-based govern- cash-and accrual basis of
ment financial statements are to the various stakeholders. accounting.
(LO 2)
Instructions
(a) What is the difference between accrual-basis accounting and cash-basis accounting?
(b) Why would politicians prefer the cash basis over the accrual basis?
(c) What advantages would accrual-based government statements provide to users?
E3.2 Shumway accumulates the following adjustment data as at 31 December. Identify types of adjustments
1. Services provided but not recorded total $750. and account relationships.
2. Store supplies of $300 have been used. (LO 4, 5, 6)
3. Utility expenses of $225 are unpaid.
4. Unearned revenue of $260 has been earned.
5. Salaries of $900 are unpaid.
6. Prepaid insurance totalling $350 has expired.
Instructions
For each of the above items indicate the following.
(a) The type of adjustment (prepaid expense, unearned revenue, accrued revenue or accrued
expense).
(b) The accounts before adjustment (overstatement or understatement).
E3.3 The ledger of Hocking Rental Agency on 31 March of the current year includes the following Prepare adjusting entries from
selected accounts before adjusting entries have been prepared. selected account data.
(LO 5, 6, 7)
Debit Credit
Prepaid Insurance $ 3 600
Supplies 2 800
Equipment 25 000
Accumulated
Depreciation — Equipment $ 8 400
Notes Payable 20 000
Unearned Rent 9 900
Rent Revenue 60 000
Interest Expense 0
Wages Expense 14 000
An analysis of the accounts shows the following.
1. The equipment depreciates $300 per month.
2. One-third of the unearned rent was earned during the quarter.

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 122 Principles of accounting

3. Interest of $500 is accrued on the notes payable.

4. Supplies on hand total $900.
5. Insurance expires at the rate of $200 per month.
Instructions
Prepare the adjusting entries as at 31 March. Additional accounts are: Depreciation Expense,
Insurance Expense, Interest Payable and Supplies Expense.
Prepare adjusting entries. E3.4 Greg Toohey opened a dental practice on 1 January. During the first month of operations the
(LO 5, 6, 7) following transactions occurred.
1. Performed services for patients. As at 31 January, $1560 of such services was earned but
not yet recorded.
2. Utility expenses incurred but not paid prior to 31 January totalled $800.
3. Purchased dental equipment on 1 January for $80 000, paying $20 000 in cash and
signing a $60 000, 3-year note payable. The equipment depreciates $400 per month.
Interest is $500 per month.
4. Purchased a 1-year professional indemnity insurance policy on 1 January for $24 000.
5. Purchased $1600 of dental supplies. On 31 January, determined that $800 of supplies
were on hand.
Instructions
Prepare the adjusting entries on 31 January. Account titles are Accumulated Depreciation —
Dental Equipment, Depreciation Expense, Service Revenue, Accounts Receivable, Insurance
Expense, Interest Expense, Interest Payable, Prepaid Insurance, Supplies, Supplies Expense,
Utilities Expense and Utilities Payable.
Prepare adjusting entries. E3.5 The trial balance for Pioneer Advertising Agency is shown in figure 3.3, page 99. In lieu of
(LO 5, 6, 7) the adjusting entries shown in the text as at 31 October, assume the following adjustment
data.
1. Advertising supplies on hand as at 31 October total $400.
2. Expired insurance for the month is $200.
3. Depreciation for the month is $100.
4. Unearned revenue earned in October totals $1200.
5. Services provided but not recorded as at 31 October are $650.
6. Interest accrued as at 31 October is $120.
7. Accrued salaries as at 31 October are $1400.
Instructions
Prepare the adjusting entries for the items above.
Prepare correct income E3.6 The income statement of Olympic Ltd for the month of July shows profit of $1400 based
statement. on Service Revenue $5500, Wages Expense $2300, Supplies Expense $1200 and Utilities
(LO 2, 5, 6, 7) Expense $600. In reviewing the statement, you discover the following.
1. Insurance expired during July of $400 was omitted.
2. Supplies expense includes $300 of supplies that are still on hand as at 31 July.
3. Depreciation on equipment of $150 was omitted.
4. Accrued but unpaid wages as at 31 July of $300 were not included.
5. Services provided but unrecorded totalled $1000.
Instructions
Prepare a correct income statement for July.
Analyse adjusted data. E3.7 A partial adjusted trial balance of Rio Ltd as at 31 January shows the following.
(LO 4, 5, 6, 7)
RIO LTD
Adjusted Trial Balance
as at 31 January
Debit Credit
Supplies $ 850
Prepaid Insurance 2 400
Salaries Payable $ 800
Unearned Revenue 750
Supplies Expense 950
Insurance Expense 400
Salaries Expense 1 800
Service Revenue 2 000

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 CHAPTER 3 Adjusting the accounts 123

Instructions
Answer the following questions, assuming the year begins 1 January.
(a) If the amount in Supplies Expense is the 31 January adjusting entry, and $650 of
supplies was purchased in January, what was the balance in Supplies on 1 January?
(b) If the amount in Insurance Expense is the 31 January adjusting entry, and the original
insurance premium was for 1 year, what was the total premium and when was the policy
purchased?
(c) If $3000 of salaries was paid in January, what was the balance in Salaries Payable as at
31 December?
(d) If $1600 was received in January for services performed in January, what was the
balance in Unearned Revenue as at 31 December?
E3.8 Selected accounts of Engle Ltd are shown below. Journalise basic transactions
and adjusting entries.
Supplies Expense Salaries Payable (LO 5, 6, 7)
31/7 800 31/7 1 200
Supplies Unearned Revenue
1/7 Bal. 1 100 31/7 800 3/17 900 1/7 Bal. 1500
10/7 200 20/7 750
Accounts Receivable Service Revenue
31/7 500 14/7 2 000
Salaries Expense 31/7 900
31/7 500
15/7 1 200
31/7 1 200
Instructions
After analysing the accounts, journalise (a) the July transactions and (b) the adjusting
entries that were made on 31 July. (Hint: July transactions were for cash.)
E3.9 The trial balances before and after adjustment for Villa Ltd at the end of its financial year are Prepare adjusting entries from
presented below. analysis of trial balances.
(LO 5, 6, 7)
VILLA LTD
Trial Balance
as at 30 June
Before After
adjustment adjustment
Dr Cr Dr Cr
Cash $ 10 400 $ 10 400
Accounts Receivable 8 800 9 400
Office Supplies 2 300 700
Prepaid Insurance 4 000 2 500
Office Equipment 14 000 14 000
Accumulated Depreciation — Office Equipment $ 3 600 $ 4 900
Accounts Payable 5 800 5 800
Salaries Payable 0 1 100
Unearned Rent 1 500 600
Issued Capital and Retained Earnings 15 600 15 600
Service Revenue 34 000 34 600
Rent Revenue 11 000 11 900
Salaries Expense 17 000 18 100
Office Supplies Expense 0 1 600
Rent Expense 15 000 15 000
Insurance Expense 0 1 500
Depreciation Expense 0 1 300
$ 71 500 $ 71 500 $ 74 500 $ 74 500

Instructions
Prepare the adjusting entries that were made.
E3.10 The adjusted trial balance for Villa Ltd is given in E3.9. Prepare financial statements
from adjusted trial balance.
Instructions
(LO 7)
Prepare the income statement and statement of changes in equity for the year and the
statement of financial position as at 30 June.

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 124 Principles of accounting
Record transactions on accrual
basis; convert revenue to cash
receipts.
(LO 5, 6)
Prepare adjusting entries, post
to ledger accounts and prepare
an adjusted trial balance.
(LO 5, 6, 7)
Journalise transactions
and adjusting entries using
appendix.
(LO 8)
Prepare adjusting entries, post
to ledger accounts and prepare
an adjusted trial balance.
(LO 5, 6, 7)
5_60_19243_POA_2E_ch03.indd 124
E3.11 The following data are taken from the comparative statements of financial positions of Midland
Footy Club, which prepares its financial statements using the accrual basis of accounting.
31 December 2010 2009
Fees receivable from members $12 000 $ 9 000
Unearned fees revenue 17 000 20 000
Fees are billed to members based upon their use of the club’s facilities. Unearned fees
arise from the sale of gift certificates, which members can apply to their future use of club
facilities. The 2010 income statement for the club showed that fees revenue of $153 000 was
earned during the year.
Instructions
(Hint: You will probably find it helpful to use T accounts to analyse these data.)
(a) Prepare journal entries for each of the following events that took place during 2010.
(1) Fees receivable from 2009 were all collected.
(2) Gift certificates outstanding at the end of 2009 were all redeemed.
(3) An additional $35 000 worth of gift certificates were sold during 2010. A portion of
these was used by the recipients during the year; the remainder was still outstanding
at the end of 2010.
(4) Fees for 2010 for services provided to members were billed to members.
(5) Fees receivable for 2010 (i.e. those billed in item [4] above) were partially
collected.
(b) Determine the amount of cash received by the club, with respect to fees, during 2010.
E3.12 Mr Wrong has prepared his income statement for the 12-month period ended 30 June 2010
and reports a profit of $250 000. However, Mr Wrong’s statement is prepared on a cash basis
rather than accrual basis of accounting. The following information is available.
1. The fortnightly wages and salaries bill of $8500 owing is due to be paid on 1 July
2010.
2. The business has $40 000 of office furniture and equipment with a useful life of 5 years
and zero expected residual value.
3. A client owes $1700 for services provided in May 2010.
4. The utility bills (e.g. water, telephone, electricity) for the quarter ended June 2010 are
unpaid. Based on previous bills, the quarterly expense is expected to be $1500.
5. The business paid a 2-year subscription for $1200 to a trade magazine on 1 January 2010
and recorded it as a Subscription Expense.
6. The business has received $5000 for services yet to be provided.
7. The business is being taken to court over a claimed breach of contract. An unfavourable
ruling could cost the business between $25 000 and $40 000.
Instructions
(a) Prepare journal entries for the above information.
(b) Based on the information, calculate Mr Wrong’s accrual-based profit for the period.
*E3.13 At Concord Ltd, prepayments are debited to expense when paid, and unearned revenue is
credited to revenue when received. During January of the current year, the following transac-
tions occurred.
Jan. 2 Paid $2400 for fire insurance protection for the year.
10 Paid $1700 for supplies.
15 Received $6100 for services to be performed in the future.
On 31 January, it is determined that $1500 of the services fees have been earned and that
there are $800 of supplies on hand.
Instructions
(a) Journalise and post the January transactions. (Use T accounts.)
(b) Journalise and post the adjusting entries as at 31 January.
(c) Determine the ending balance in each of the accounts.
PROBLEMS
P3.1 Marcia Grifin started her own consulting firm, Vektek Consulting, on 1 May 2010. The trial
balance as at 31 May is as follows.
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 CHAPTER 3 Adjusting the accounts 125

V E K T E K C O N S U LT I N G
Trial Balance
as at 31 May 2010
Account Number Debit Credit
101 Cash $ 15 400
110 Accounts Receivable 8 000
120 Prepaid Insurance 4 800
130 Supplies 3 000
135 Office Furniture 24 000
200 Accounts Payable $ 7 000
230 Unearned Service Revenue 6 000
300 M. Grifin, Capital 38 200
400 Service Revenue 12 000
510 Salaries Expense 6 000
520 Rent Expense 2 000
$63 200 $63 200

In addition to those accounts listed on the trial balance, the chart of accounts for Vektek
Consulting also contains the following accounts and account numbers: No. 136 Accumulated
Depreciation — Office Furniture, No. 210 Travel Payable, No. 220 Salaries Payable, No. 530
Depreciation Expense, No. 540 Insurance Expense, No. 550 Travel Expense and No. 560
Supplies Expense.
Other data:
1. $1000 of supplies have been used during the month.
2. Travel expense incurred but not paid on 31 May 2010, $400.
3. The insurance policy is for 2 years.
4. $2000 of the balance in the unearned service revenue account remains unearned at the
end of the month.
5. 31 May is a Wednesday, and employees are paid on Fridays. Vektek Consulting has two
employees, who are paid $1000 each for a 5-day work week.
6. The office furniture has a 5-year life with no residual value. It is being depreciated at
$400 per month.
7. Invoices representing $2000 of services performed during the month have not been
recorded as at 31 May.
Instructions
(a) Prepare the adjusting entries for the month of May. Use J4 as the page number for your
journal.
(b) Post the adjusting entries to the ledger accounts. Enter the totals from the trial balance
as beginning account balances and place a check mark in the posting reference column.
(c) Prepare an adjusted trial balance as at 31 May 2010. (c) Adj. trial balance $67 200
P3.2 The Mercury Motel opened for business on 1 May 2010. Its trial balance before adjustment Prepare adjusting entries,
on 31 May is as follows. post and prepare adjusted
trial balance and financial
M E R C U RY M OT E L statements.
Trial Balance (LO 5, 6, 7)
as at 31 May 2010
Account Number Debit Credit
101 Cash $ 2 500
126 Supplies 1 900
130 Prepaid Insurance 2 400
140 Land 15 000
141 Buildings 70 000
149 Furniture 16 800
201 Accounts Payable $ 5 300
208 Unearned Rent Revenue 3 600
275 Mortgage Payable 35 000
301 Sue Phillips, Capital 60 000
429 Rent Revenue 9 200
610 Advertising Expense 500
726 Salaries Expense 3 000
732 Utilities Expense 1 000
$113 100 $113 100

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 126 Principles of accounting

In addition to those accounts listed on the trial balance, the chart of accounts for Mercury
Motel also contains the following accounts and account numbers: No. 142 Accumulated
Depreciation — Buildings, No. 150 Accumulated Depreciation — Furniture, No. 212 Salaries
Payable, No. 230 Interest Payable, No. 619 Depreciation Expense — Buildings, No. 621
Depreciation Expense — Furniture, No. 631 Supplies Expense, No. 718 Interest Expense and
No. 722 Insurance Expense.
Other data:
1. Insurance expires at the rate of $200 per month.
2. A count of supplies shows $900 of unused supplies on 31 May.
3. Annual depreciation is $2400 on the buildings and $3000 on furniture.
4. The mortgage interest rate is 12%. (The mortgage was taken out on 1 May.)
5. Unearned rent revenue of $2500 has been earned.
6. Salaries of $800 are accrued and unpaid as at 31 May.
Instructions
(a) Journalise the adjusting entries on 31 May.
(b) Prepare a ledger using the three-column form of account. Enter the trial balance amounts
(c) Adj. trial balance $114 700 and post the adjusting entries. (Use J1 as the posting reference.)
(d) Profit $4 400 Ending capital (c) Prepare an adjusted trial balance on 31 May.
balance $64 400 (d) Prepare an income statement and a statement of changes in equity for the month of May
Total assets $106 950 and a statement of financial position as at 31 May.
Prepare adjusting entries and P3.3 Fit Equip was registered on 1 April 2010. Semi-annual financial statements are prepared. The
financial statements. unadjusted and adjusted trial balances as at 30 September are shown below.
(LO 5, 6, 7)
FIT EQUIP
Trial Balance
as at 30 September 2010
Unadjusted Adjusted
Dr Cr Dr Cr
Cash $ 6 700 $ 6 700
Accounts Receivable 400 600
Prepaid Rent 1 500 900
Supplies 1 200 1 000
Equipment 15 000 15 000
Accumulated Depreciation — Equipment $ 850
Notes Payable $ 5 000 5 000
Accounts Payable 1 510 1 510
Salaries Payable 400
Interest Payable 50
Unearned Rent 900 500
P. Fit, Capital 14 000 14 000
P. Fit, Drawings 600 600
Commission Revenue 14 000 14 200
Rent Revenue 400 800
Salaries Expense 9 000 9 400
Rent Expense 900 1 500
Depreciation Expense 850
Supplies Expense 200
Utilities Expense 510 510
Interest Expense 50
$35 810 $35 810 $37 310 $37 310

(b) Profit $2490
Ending capital $15 890
Total assets $23 350
Prepare adjusting entries.
(LO 5, 6)
1. Insurance expense $4400
Instructions
(a) Journalise the adjusting entries that were made.
(b) Prepare an income statement and a statement of changes in equity for the 6 months
ending 30 September and a statement of financial position as at 30 September.
(c) If the note bears interest at 12%, how many months has it been on issue?
P3.4 A review of the ledger of Khan Ltd as at 31 December 2010 produces the following data
pertaining to the preparation of annual adjusting entries.
1. Prepaid Insurance $9800. The company has separate insurance policies on its buildings
and its motor vehicles. Policy B4564 on the building was purchased on 1 July 2009, for

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 CHAPTER 3 Adjusting the accounts 127

$6000. The policy has a term of 3 years. Policy A2958 on the vehicles was purchased on
1 January 2010, for $4800. This policy has a term of 2 years.
2. Unearned Subscriptions $49 000. The company began selling magazine subscriptions 2. Subscription revenue $7000
in 2010 on an annual basis. The magazine is published monthly. The selling price of a
subscription is $50. A review of subscription contracts reveals the following.

Subscription Number of
date subscriptions
1 October 200
1 November 300
1 December 480
980

3. Notes Payable $40 000. This balance consists of a note for 6 months at an annual interest 3. Interest expense $1200
rate of 9%, dated 1 September.
4. Salaries Payable $0. There are eight salaried employees. Salaries are paid every Friday 4. Salaries expense $2940
for the current week. Five employees receive a salary of $500 each per week, and three
employees earn $800 each per week. 31 December is a Wednesday. Employees do not
work weekends. All employees worked the last 3 days of December.
Instructions
Prepare the adjusting entries as at 31 December 2010.
P3.5 On 1 November 2010, the account balances of Digital Equipment Repair were as follows. Journalise transactions and
follow through accounting cycle
No. Debits No. Credits to preparation of financial
statements.
101 Cash $1 395 154 Accumulated Depreciation $ 250
112 Accounts Receivable 1 255 201 Accounts Payable 1 050 (LO 5, 6, 7)
126 Supplies 1 000 209 Unearned Service Revenue 700
153 Store Equipment 5 000 212 Salaries Payable 250
301 P. Samone, Capital 6 400
$ 8 650 $8 650

During November the following summary transactions were completed.

Nov. 8 Paid $550 for salaries due to employees, of which $300 is for November.
10 Received $600 cash from customers on account.
12 Received $700 cash for services performed in November.
15 Purchased store equipment on account $1500.
17 Purchased supplies on account $250.
20 Paid creditors on account $1250.
22 Paid November rent $150.
25 Paid salaries $500.
27 Performed services on account and billed customers for services provided
$350.
29 Received $275 from customers for future service.

Adjustment data consist of:

1. Supplies on hand $500.
2. Accrued salaries payable $250.
3. Depreciation for the month is $60.
4. Unearned service revenue of $575 is earned.
Instructions
(a) Enter the 1 November balances in the ledger accounts.
(b) Journalise the November transactions.
(c) Post to the ledger accounts. Use J1 for the posting reference. Use the following
accounts: No. 407 Service Revenue, No. 615 Depreciation Expense, No. 631 Supplies
Expense, No. 726 Salaries Expense and No. 729 Rent Expense.
(d) Prepare a trial balance as at 30 November. (d) Trial balance $10 225
(e) Journalise and post adjusting entries.
(f) Prepare an adjusted trial balance. (f ) Adj. trial balance $10 535

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 128 Principles of accounting

(g) Loss $385 (g) Prepare an income statement and a statement of changes in equity for November and a
Ending capital $6015 statement of financial position as at 30 November.
Total assets $8215

Prepare adjusting entries, *P3.6 Salzer Graphics was established on 1 January 2010 by Jill Salzer. At the end of the first
adjusted trial balance and 6 months of operations, the trial balance contained the following accounts.
financial statements using
appendix. Debits Credits
(LO 5, 6, 7, 8) Cash $ 9 500 Notes Payable $ 20 000
Accounts Receivable 14 000 Accounts Payable 9 000
Equipment 45 000 Jill Salzer, Capital 22 000
Insurance Expense 1 800 Graphic Revenue 52 100
Salaries Expense 30 000 Consulting Revenue 6 000
Supplies Expense 3 700
Advertising Expense 1 900
Rent Expense 1 500
Utilities Expense 1 700
$ 109 100 $ 109 100

Analysis reveals the following additional data.

(b) Adj. trial balance $113 600
(c) Profit $18 400
Ending capital $40 400
Total assets $71 500
Prepare adjusting entries and
adjusted financial statements.
(LO 5, 6, 7, 8)
1. The $3700 balance in Supplies Expense represents supplies purchased in January. As at
30 June, $1300 of supplies was on hand.
2. The note payable was issued on 1 February. It is a 12%, 6-month note.
3. The balance in Insurance Expense is the premium on a 1-year policy, dated 1 March 2010.
4. Consulting fees are credited to revenue when received. As at 30 June, consulting fees of
$1100 are unearned.
5. Graphic revenue earned but unrecorded as at 30 June totals $2000.
6. Depreciation is $3000 per year.
Instructions
(a) Journalise the adjusting entries as at 30 June. (Assume adjustments are recorded every
6-months.)
(b) Prepare an adjusted trial balance.
(c) Prepare an income statement and statement of changes in equity for the 6 months ended
30 June and a statement of financial position as at 30 June.
P3.7 Paul Owens started Paul Owens Catering in January 2010. The accounting information is
maintained on a cash basis. In its first year, Paul believes that the business has been operating
successfully. The cash-based financial statements are as follows.

P AU L O W E N S C AT E R I N G
Income Statement
for the 12 months ended 31 December 2010
Income
Catering revenue $ 152 000
Expenses
Insurance expense $ 4 200
Catering supplies expense 54 000
Advertising expense 2 500
Salaries expense 33 000
Utilities expense 5 300
Motor vehicle expenses 10 000
Interest expense 600
Total expenses 109 600
Profit $ 42 400

P AU L O W E N S C AT E R I N G
Statement of Changes in Equity
for the year ended 31 December 2010
P. Owens, Capital 1 January $ 0
Investment by owner 60 000
Add: Profit 42 400
P. Owens, Capital 31 December 102 400

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 CHAPTER 3 Adjusting the accounts 129

P AU L O W E N S C AT E R I N G
Statement of Financial Position
as at 31 December 2010
Assets
Cash at bank $ 17 900
Catering equipment 80 000
Motor vehicle 40 000
Total Assets 137 900

Liabilities
Notes payable $ 35 500

Total liabilities 35 500

Owner’s equity 102 400
Capital 102 400
Total liabilities and owner’s equity 137 900
In reviewing the financial statements, the accountant informed Paul that he should be
reporting using an accrual basis if he wants to assess the performance and position of the
business. In explaining accrual accounting to Paul, the accountant noted that the financial
statements do not reflect the following.
1. Revenue from the catering jobs completed in December, worth $22 500.
2. The catering supplies on hand at the end of December, worth $8000.
3. Depreciation of the motor vehicle, $4000, and depreciation of the catering equipment,
worth $10 000.
4. The annual insurance policy does not expire until 31 March 2011.
5. Paul has not paid $15 000 owed to casual staff for hours worked in December.
6. The interest owing on the bill is $2000.
7. Paul has not paid the telephone and electricity accounts for the December quarter,
totalling $500.
8. The December petrol account at the garage, totalling $800, has not been paid.
9. Paul has received $10 000 as deposit for a catering job in March 2011.
Instructions
(a) Journalise the adjusting entries as at 31 December.
(b) Prepare an accrual-based income statement, statement of changes in equity and (b) Profit $31 650;
statement of financial position as at 31 December. Ending capital $91 650;
(c) Explain to Paul why the accrual-based financial statements provide a better measure of Total assets $155 450
the performance of the business.

B RO A D E N I N G YO U R P E R S P E C T I V E
Financial reporting and analysis
■ FINANCIAL REPORTING PROBLEM: SINGAPORE AIRLINES

BYP3.1 Locate the most recent financial statements of Singapore Airlines via the website
www.singaporeair.com.
Instructions
(a) Using the consolidated financial statements and related information, identify items that
may result in adjusting entries for prepayments.
(b) Using the consolidated financial statements and related information, identify items that
may result in adjusting entries for accruals.
(c) Using the historical summary of financial data, what has been the trend for profit?

■ COMPARATIVE ANALYSIS PROBLEM: SINGAPORE AIRLINES AND CATHAY

PACIFIC

BYP3.2 Locate the most recent financial statements of Singapore Airlines (via the website
www.singaporeair.com) and Cathay Pacific (via the website www.cathaypacific.com).

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 130 Principles of accounting

Instructions
Based on information contained in these statements, determine the following for each
company.
(a) Net increase (decrease) in property, plant and equipment from previous year to current
year.
(b) Net increase (decrease) in depreciation and amortisation expense from previous year to
current year.
(c) Net increase (decrease) in liabilities from previous year to current year.
(d) Net increase (decrease) in profit from previous year to current year.
(e) Net increase (decrease) in cash from previous year to current year.

■ INTERPRETING FINANCIAL STATEMENTS: A GLOBAL FOCUS

BYP3.3 Apple Inc.’s principal activities are to design, manufacture and market personal computers
and related software, peripherals and personal computing and communicating solutions.
Apple Inc. also designs, develops and markets a line of portable digital music players
along with related accessories and services, including the online sale of third-party audio
and video products and iPhone products. The company sells its products through its online
stores, direct sales force, third-party wholesalers and resellers, and its own retail stores. It
has its operations in the United States, Europe, Japan and Asia–Pacific.
Instructions
Answer the following questions.
(a) What profit (net income) is reported in Apple Inc.’s most recent consolidated statement
of operations (income statement)? What cash from operating activities is reported in its
most recent statement of cash flows? What might explain this difference?
(b) The company reports a liability related to warranty costs in its balance sheet (statement
of financial position). What are the possible points in time that warranty costs might be
expensed? At what point do you consider these costs should be expensed in the income
statement?
(c) The company’s net sales consist primarily of revenue from the sale of hardware,
software, music products, digital content, peripherals, and service and support contracts.
In the notes to the financial statements the company notes it ‘recognizes revenue when
persuasive evidence of an arrangement exists, delivery has occurred, the sales price is
fixed or determinable, and collection is probable. Product is considered delivered to the
customer once it has been shipped and title and risk of loss have been transferred’. Is
this consistent with the revenue recognition practices described in this chapter? What
considerations might you want to take into account in determining whether this is the
appropriate approach to recognising revenue?

■ EXPLORING THE WEB

BYP3.4 A wealth of accounting-related information is available via the internet. For example, the
Rutgers Accounting Web offers access to a great variety of sources.
Address: accounting.rutgers.edu
Instructions
Visit the Rutgers website and click on Accounting Resources. List the categories of
information available through the Accounting Resources page. Select any one of these
categories and briefly describe the types of information available.

Critical thinking

■ GROUP DECISION CASE

BYP3.5 Travel Wise was established on 1 January 2010 by Alice Ho. Alice is a good manager but a
poor accountant. From the trial balance prepared by a part-time bookkeeper, Alice prepared
the following income statement for the quarter that ended 31 March 2011.

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 CHAPTER 3 Adjusting the accounts 131

T R AV E L W I S E
Income Statement
for the quarter ended 31 March 2011

Income
Booking revenue $ 90 000
Expenses
Advertising $ 5 200
Wages 29 800
Utilities 900
Depreciation 800
Repairs 4 000
Total expenses 40 700
Profit $49 300

Alice knew that something was wrong with the statement because profit had never exceeded
$20 000 in any one quarter. Knowing that you are an experienced accountant, she asks you
to review the income statement and other data.
You first look at the trial balance. In addition to the account balances reported above in
the income statement, the ledger contains the following additional selected balances as at
31 March 2011.

Supplies $ 6 200
Prepaid Insurance 7 200
Notes Payable 12 000

You then make inquiries and discover the following.

1. Booking fees include advanced rentals for summer month occupancy $20 000.
2. There were $1300 of supplies on hand as at 31 March.
3. Prepaid insurance resulted from the payment of a 1-year policy on 1 January 2011.
4. The mail on 1 April 2011 brought the following bills: advertising for week of 24 March,
$110; repairs made 10 March, $260; and utilities, $180.
5. There are four employees, who receive wages totalling $350 per day. As at 31 March,
2 days’ wages have been incurred but not paid.
6. The note payable is a 3-month, 10% note dated 1 January 2011.
Instructions
With the class divided into groups, answer the following.
(a) Prepare a correct income statement for the quarter ended 31 March 2011.
(b) Explain to Alice the generally accepted accounting principles that she did not recognise
in preparing her income statement and their effect on her results.

■ COMMUNICATION ACTIVITY

BYP3.6 In reviewing the accounts of Karibeth Ltd at the end of the year, you discover that adjusting
entries have not been made.
Instructions
Write a memo to Kari Beth Menzies, the owner of Karibeth Ltd, that explains the following:
the nature and purpose of adjusting entries, why adjusting entries are needed and the types
of adjusting entries that may be made.

■ ETHICS CASE

BYP3.7 CPA Australia sponsors a student ethics essay prize: the CPA Australia Ethics Essay
Competition. The winner in 2008 was Jeffrey Dummett for his essay titled ‘Ethics in a
global environment’. Access the article by going to the course management system that
accompanies this text.

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 132 Principles of accounting

Instructions
Read the essay and answer the following questions:
(a) Summarise the challenges of a globalised business environment to the practice of
effective accounting ethics.
(b) Discuss possible resolutions to these challenges.
(c) Outline the role of the International Federation of Accountants (IFAC).

■ SUSTAINABILITY CASE

BYP3.8 The Association of Chartered Certified Accountants (ACCA) has conducted annual
ACCA sustainability reporting awards for more than 15 years. The ACCA is involved in
reporting awards in more than 20 countries in Europe, Africa, North America/Canada and
the Asia–Pacific region. For Australia and New Zealand, the best sustainability report for
2007 was awarded to BHP Billiton. Only 35% of Australia’s top 100 companies conduct
sustainability reporting compared with 76% in the United Kingdom.
Instructions
Visit the ACAA sustainability report awards website at www.accaglobal.com under ‘General
public’, ‘Technical activities’, ‘Subject areas’, ‘Sustainability’.
(a) Identify the sources of guidance on sustainability reporting.
(b) Select one of these sources and identify the guidance provided.
Source: Management Update, BRW, 5–11 June 2008, p. 68.

■ FINANCIAL REPORTING QUALITY CASE

BYP3.9 The scene setter for this chapter described inappropriate revenue recognition by an
Australian company. Misstated financial statements have occurred in many countries. For
example, personal computer maker Dell intentionally restated its results from 2003 to 2006
and in the first quarter of 2007 to improve the appearance of its performance. In 2006,
the Malaysian publicly listed company Transmile Group restated its 2005 profit of RM75
million to a loss of RM370 million as a result of fictitious sales. The accounting practices
of Sanyo Electric Co. have been questioned with claims the company misrepresented its
statements by failing to write off ¥200 billion in losses that were subsequently booked in
later years.
Instructions
Why would companies want to misreport their financial results and run the risk of being
detected?
Source: P. Ng, ‘Public-listed firms hit by accounting fraud’, The Business Times Singapore, 3 July
2007; A. Ricadela, ‘Delinquent Dell gets its house in order’, Australian Financial Review, 21 August
2007, p. 32; ‘SESC probes allegations of accounting fraud at Sanyo Elec.’, Nikkei Report, 23 February
2007.
Answers to self-study questions
1. c 2. d 3. d 4. a 5. d 6. d 7. d 8. c 9. c 10. a 11. c 12. b
13. c 14. a 15. b
Solution to Nokia review it question 4, page 104
Nokia’s 2008 annual report shows a total of ¤1617 million depreciation and amortisation.
Please note the 2008 annual report has been used as an example. Students’ answers will vary
depending on the report accessed.
Note: Amortisation is the same concept as depreciation. The term amortisation is used when
referring to specific assets, for example, intangibles and leased assets.

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