MODULE 4

THE ACCOUNTING PROCESS: ADJUSTING THE ACCOUNTS

Intended Learning Outcomes

After the end of this module, you should be able to:

1. understand the difference between cash basis and accrual basis of accounting;
2. discuss the concept of accounting period, revenue principle, matching
principle and periodicity;
3. discuss the needs for adjustments; and
4. comprehend the various types of adjusting entries.

Cash versus Accrual Basis of Accounting

The cash basis of accounting recognizes revenue when cash is received; and recognizes
expenses when cash is paid. For example, under the cash basis, services rendered in 2018 for which
cash is collected in 2019 would be treated as 2019 revenues. Similarly, under the cash basis, expenses
incurred in 2018 for which cash for which cash is disbursed in 2019 are a 2019 expense. Because of
these improper assignments of revenues and expenses, the cash basis of accounting is generally
considered unacceptable. There is no need for adjusting entries under the cash basis of accounting.
The accrual basis of accounting recognizes revenues when sales are made or services are
performed, regardless of when cash is received. It also recognizes expenses as incurred, whether or
not cash is paid out. For instance, when services are performed for a customer on account, the revenue
is recorded at that time even though cash has not been received. Later, when they receive cash no
revenue is recorded because it has already been recorded. Under the accrual basis, adjusting entries are
used to bring the accounts up-to-date for economic activity that has taken place but has not yet been
recorded.

Accounting Period
Accounting period is the period of time, normally one month, one quarter, or one year into
which an entity’s life is arbitrarily divided for financial statement purposes. The length of a company’s
accounting period depends upon how frequent managers, investors, and other interested people require
information about the company’s performance. Every business prepares annual financial statements.
The twelve-month accounting period used by an entity is called its fiscal year. The fiscal year
used by most companies coincides with the calendar year and ended on December 31. Some
businesses, however, elect to use a fiscal year which ended on some other date. It may be convenient
for a business to end its fiscal year during a slack season rather than during a time of peak activity.

Revenue Principle
The revenue principle is the basis of recording revenues; tells the accountants when to record
revenue and the amount of revenue to record. The revenue principle says to record revenue when it
has been earned – but not before. In most cases, revenue is earned when the businesses has delivered
a good or service to the customer. It also says to record revenue for the cash value of the item
transferred to the customer.
The Framework for the preparation and Presentation of Financial Statements states that
“income or revenue is recognized in the income statement when an increase in future economic benefit
related to an increase in an asset or decrease of a liability has arisen that can be measured. This means,
in effect, that the recognition of increases in assets or decreases in liabilities.” This procedure, however,

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 1- NAB

restricts the recognition of revenue to those items that can be measure reliably and have been a
sufficient degree of certainty.

The Matching Principle

The matching principle guides accounting for expenses. It identifies all expenses incurred
during the period, measure the expenses, and match them against the revenues earned during the same
time period.
The Framework for the Preparation and Presentation of Financial Statements states that
“expenses are recognized in the income statement when a decrease in future economic benefit related
to decrease in an asset or an increase of a liability has arisen that can be measured reliably. This means,,
in effect, that the recognition of expense occurs simultaneously with the recognition of an increase in
liabilities or a decrease in asset.”
Timing is an important factor in matching (offsetting) revenue with the related expenses. For
example, in preparing monthly income statements, it is important to offset this month’s expenses
against this month’s revenue. We should not offset this month’s expenses against last month’s revenue,
because there is no cause and effect relationship between the two.

Periodicity Concept
The time-period concept ensures that information is reported at regular intervals. To measure
income accurately, companies update their accounts at the end of the period. Much expenditure made
by a business benefit two or more accounting periods. Fire insurance policies, for example, usually
cover a period of 12 months. If a company prepares monthly income statements, a portion of the cost
of such policy should be allocated to the cost of insurance expense each month that the policy is in
force. In this case, apportionment of the cost of the policy by month is easy; just divide the total cost
by 12 months.
Not all transactions can be precisely divided by the accounting periods. The purchase of
building, furniture and fixtures, machine and equipment provides benefits to the business over all the
years in which such an asset is used. In measuring the net income of a business for a period of one year
or less, the accountant estimate what portion of the cost of the building and other long-lived assets is
applicable to the current year. Since the allocations of these cost are estimates rather than precise
measurements, it follows that income statements should be regarded as useful approximations of net
income rather than an absolutely exact measurement.
For some expenditures, such as advertising or employee training programs, it is not possible to
estimate objectively the number of accounting periods over which revenue is likely to be produced. In
such cases, generally accepted accounting principles require that the expenditure be charge
immediately to expense.

The Need for Adjustment

The balances of the accounts shown in the trial balance prepared after posting are not up to
date. Some of these accounts do not reflect economic activities that have taken place but the enterprise
have not properly recorded. These activities are not yet recorded because it is more convenient and
economical to wait until the end of the period to record it. Another reason is that no source documents
concerning the activity have yet to come to the attention of the accountant.
Adjusting entries are entries prepared at the end of the accounting period to update or to adjust
the balance of the accounts. It assign revenues to the period in which they are earned and expenses to
the period in which they are incurred. Adjusting entries are needed to (a) measure properly the period’s
income and (b) to bring related asset and liability accounts to correct balances for financial statements.
This end-of-period process of updating the accounts is called adjusting the accounts, making the

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 2- NAB

adjusting entries, or adjusting the books. The two basic categories of adjustments are prepayments or
deferrals and accruals.
In prepayment or deferral, the cash transaction occurs before an expense or revenue is recorded.
Accrual is the opposite of deferral. Accruals record an expense or revenue before the cash settlement.
Adjusting entries can be further divided into six categories:
❖ Accrued expense
❖ Accrued revenues
❖ Prepaid Expenses
❖ Unearned revenues
❖ Depreciation
❖ Bad debts or Uncollectible or Doubtful Accounts
❖ Merchandise Inventory (this will be discussed on Module 8)

Accrued Expenses (Liabilities)

Some expenses accrue from day to day but the company ordinarily records them only when
they are paid. Accrued expenses are expenses incurred but are not yet paid at the end of the fiscal
period. They are both an expense and a liability. Hence, they are referred to as accrued liability, accrued
payable, or accrued expense.
Example 1. The most common example of accrued expense is the accrued salaries. Companies paying
their employees every end of the week instead of the end of the month usually have accrued salaries,
since the end of the week normally does not coincide with the end of the month. For example, assume
that the company pays a total of P4,500 every Saturday. The T-account representing payment of
salaries during the month of January is as follows:
Salaries Expense
Jan. 7 4,500-
14 4,500-
21 4,500-
28 4,500-
18,000-
If January 28 is a Saturday, then the last day of the month (Jan.31) falls on a Tuesday, as shown
in the following diagram:
Sun Mon Tues Wed Thurs Fri Sat
------------- -------------- -------------- -------------- -------------- -------------
Jan. 29 Jan. 30 Jan. 31 Feb. 1 Feb. 2 Feb. 3 Feb. 4

If the company prepares financial statements on January 31, they will understate the balance
of salaries expense account because salaries recorded are only up to January 28. The entry required
updating the salaries expense account would be:
Jan. 31 Salaries Expense 1,500-
Salaries Payable 1,500-
The debit in the adjusting entry brings the month’s salaries expense up to its incorrect P19,500
amount for income statement purposes. The credit to salaries payable records the P 1,500 salary
liability to employees.

Example 2. On May 2, Pert borrowed P210,000 from Banko De Oro. She issued a promissory note
that carried a 20% interest per annum (annum means yearly). Both the interest and principal will be
payable in one year.
The note is issued to the bank accrues interest at 20% annually. At the end of May, Pert owed
the bank P3,500 (see computation below) for the interest in addition to the P210,000 loan. Interest is
a charge for the use of money over time. Interest expense is match to the period during which the
Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 3- NAB
benefit- the use of the money- is received. The interest is a fixed obligation and accrues regardless of
the result of the company’s operation.
Interest rates are expressed at annual rates, so if the interest is being calculated for less than a
year, the calculation must express time as portion of the year. Thus, the interest expense (simple)
incurred on this note during the month is determined by the following formula:
Interest = Principal x Interest Rate x Length of time
= P210,000 x 20% x 1/12
= P3,500
The adjusting entry to record the interest expense incurred in May is as follows:
May. 31 Interest Expense 3,500-
Interest Payable 3,500-

Accrued Revenues (Assets)

Accrued revenues are revenues earned but not yet received at the end of the period. An example
of this type of adjustment would be services that have been performed but have not been billed or
collected. To present an accurate picture of the affairs of the business, the revenue earned must be
recognized on the income statement and the asset on the balance sheet.
Assume that a company performed P 6,400 of services on account for a client in the last few
days of January. Because it takes time to do the paper work, they will bill the client for the services in
February. The necessary adjusting journal entry at January 31 is:
Jan. 31 Accounts Receivable 6,400-
Service Revenue 6,400-
The service revenue appears in the income statement, and the asset, accounts receivable,
appears on the balance sheet.

Prepaid Expenses or Deferred Expense

Prepaid Expenses are advanced payment of expenses. It includes supplies and advance
payment of expenses such as rent, insurance, and property taxes. The portion of the asset that they
have used during the period will become an expense; the remainder will become an expense in the
future. It is because of this deferral benefits that they sometimes call these prepaid expenses deferred
charges.
The two methods of accounting for prepaid expenses are the asset method and the expense
method. The asset method is used when prepaid expense is recorded initially as an asset, and the asset
account is debited at the date of purchase.
The expense method is used when the prepaid expense is recorded initially as an expense, and
an expense account is debited at the date of purchase.
Prepaid expenses are analyzed at the end of the period to determine the expired portion and the
unexpired portion, and adjusting entries are made. In summary form, the methods of recording prepaid
expenses are as follows:

Asset Method Expense Method

Initial entry: Record the payment by debiting Record the payment by debiting
the asset account. the expense account.
Adjusting entry: Transfer the amount used to the Transfer the amount unused to
appropriate expense account. the appropriate asset account.

Example 1. Assume that the company had purchased supplies of P3,240 for cash. An inventory of
supplies at the end of the period amounts to P1,760. The entry to record (a) the purchase of supplies
and (b) the adjusting entry at the end of the period will be:
Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 4- NAB
 Asset Method Expense Method

(a) Supplies 3,240- (a) Supplies Expense 3,240-

Cash 3,240- Cash 3,240-

Adjust for Used/Expired Portion Adjust for Unused/Unexpired Portion

(b) Supplies Expense 1,480- (b) Supplies 1,760-
Supplies 1,480- Supplies Expense 1,760-

It is easier to determine the inventory of supplies (supplies at hand) at the end of the period
than to keep a record of the supplies used during the period. To determine the amount of supplies used,
subtract the inventory of supplies at the end of the period from the balance of the supplies account.
(P3,240 – P1,760). The effects of these entries are illustrated in the following T-accounts:
Asset Method
Supplies Supplies Expense
(a) 3,240- (b) 1,480- (b) 1,480-
1,760-
Expense Method
Supplies Expense Supplies
(a) 3,240- (b) 1,760- (b) 1,760-
1,480-
Example 2. Another type of prepaid expense is prepaid insurance. To illustrate, assume that on May
1, the company paid P7,200 for a one year fire insurance premium. The company closes its book on
December 31. The entries on May 1 and December 31 are as follows:
Asset Method Expense Method

May 1 Prepaid Insurance 7,200- Insurance Expense 7,200-

Cash 7,200- Cash 7,200-

Dec. 31 Insurance Expense 4,800- Prepaid Insurance 2,400

Prepaid Insurance 4,800- Insurance Expense 2,400-

The P7,200 insurance for one year or P600 (P7,200/12) per month started May 1. The expired
insurance for eight months is P4,800 (P600 x 8). The unexpired insurance, therefore, is P2,400 (P600
x 4).
The effects of these entries may be reflected in the following T-accounts:
Asset Method
Prepaid Insurance Insurance Expense
(a) 7,200- (b) 4,800- (b) 4,800-
2,400-
Expense Method
Insurance Expense Prepaid Insurance
(a) 7,200- (b) 2,400- (b) 2,400-
4,800-
Some accountants prefer to use the first methods; others prefer the second method, and still
others use the first method for prepayments of certain types of expenses and the second method for
other types. For example, they may use the first method for prepayment of insurance and supplies,
while they may use the second method for other expenses like rent, taxes, or interest.
Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 5- NAB
 Regardless of which method the accountant employed in any particular case, the amount
reported as expense in the income statement, and the amount reported as an asset in the balance sheet
will be the same. To avoid confusion and waste of time, the accountant must consistently follow the
method adopted for each particular type of prepaid expense from year to year.

Unearned Revenue or Deferred Revenue

Unearned Revenue is revenue received in advance that represents a liability. The amount of
revenue that the company had earned during the period represents the portion of goods delivered or
services that has been performed; the remainder will be earned in the future. It is because of this
deferment that accountants frequently call unearned revenues deferred credits. For example, landlords
ordinarily receive advance payment for rent extending to periods ranging from a few months to a
number of years. At the end of the accounting period, the portion of the receipts applicable to future
periods the company has not earned should appear in the balance sheet as liability. They call this
liability account Unearned Revenue, Revenue Received in Advance, Advances by Customers, or some
similar titles. The earned portion appears in the income statement.
As in the case of prepaid expenses, there are two methods of recording unearned revenue:
liability method, and the revenue method. Under the liability method, a liability account is credited
when the revenue is received in advance. In the revenue method, a revenue account is credited when
the revenue is received in advance. At the end of the accounting period, the amount earned and
unearned is determined for proper adjusting entry.
The two methods of recording unearned revenue and the related entries at the end of the period
may be summarized as follows:
Liability Method Revenue Method

Initial entry: Record the receipt of cash to the Record the receipt of cash to the
appropriate liability account appropriate revenue account
Adjusting entry: Transfer the amount earned to the Transfer the amount unearned to the
appropriate revenue account appropriate liability account

To illustrate, assume that the company received P 9,000 cash from a tenant as advance payment
of rent for six months beginning September 1. The books are closed on December 31.

Liability Method Revenue Method

Sept. 1 Cash 9,000- Cash 9,000-

Unearned Rent 9,000- Rent Revenue 9,000-

Adjust for Earned Portion Adjust for Unearned Portion

Dec. 31 Unearned Rent 6,000- Rent Revenue 3,000-
Rent Revenue 6,000- Unearned Rent 3,000-

The P9,000 rent for six months or P1,500 rent per month (P9,000/6) was received September
1. The amount earned is P6,000 (P1,500 x 4), and the unearned portion is P3,000 (P1,500 x 2). The
effect of these entries may be reflected in the following T-accounts:

Liability Method
Unearned Rent Rent Revenue
(a) 6,000- (b) 9,000- (b) 6,000-
3,000-

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 6- NAB

 Revenue Method
Rent Revenue Unearned Rent
(a) 3,000- (b) 9,000- (b) 3,000-
6,000-

As was explained in connection with prepaid expenses, the results obtained are the same under
both methods. The accountant must consistently follow the method adopted for each particular kind of
unearned revenue from year to year.

Depreciation of Property, Plant and Equipment

Depreciation of Property, Plant and Equipment are tangible assets, which are relatively fixed
or permanent nature, use in the business and not held for sale. These assets, such as buildings,
equipment, furniture and fixtures, provide service to the business. The value of these assets gradually
decreases over time. Depreciation is the decrease in the value of assets through wear and deterioration
and the passage of time.
Just as prepaid expenses indicate gradual using up of a previously recorded asset, so does
depreciation. However, the time involved in using up a depreciable asset such as building, for example,
is much longer than for prepaid expenses. A prepaid expense generally involves fairly small amount
of money; depreciable assets usually involve larger sums of money.
The three factors involved in the computation of depreciation expense are:
a. Asset cost. The cost of an asset is the amount paid by the company to purchase the depreciable
asset.
b. Estimated residual value/salvage value/scrap value. The estimated residual value is the
amount that the company can probably sell the asset at the end of its estimated useful life. The
other terms used for residual value are salvage value, scrap value, and trade-in value.
c. Estimated useful life. The estimated useful life of an asset is the estimated number of time
periods that a company can make use of the asset.
The equation for determining the amount of depreciation expense for each time period is:
Asset Cost – Estimated Residual Value = Depreciation Expense
Estimated Useful Life for Each Period
Accountants use different methods of computing depreciation. The straight-line method is the
method illustrated here. We will discuss the other depreciation methods in later chapter. Straight-line
depreciation assigns the same amount of depreciation expense to each accounting period over the life
of the asset.
To illustrate the use of the formula, assume that on January 1, the company purchased
equipment at a cost of P18,000. The estimated residual value of this equipment is P3,000, and the
estimated useful life is 10 years. The annual depreciation on the equipment is:

P18,000 – P3,000 = P1,500 annual depreciation

10 years
The amount of depreciation for one month would be 1/12 of the annual amount. Thus,
depreciation for January is P125.
The asset’s depreciable amount is the difference between as asset’s cost and its salvage value.
The accountant must allocate the depreciable amount as an expense to the various periods in the asset’s
useful life to satisfy the matching principle.
Depreciation is then recorded in the journal as follows:
Jan. 31 Depreciation Expense – Equipment 125-
Accumulated Depreciation – Equipment 125-

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 7- NAB

 The Depreciation Expense account is reported in the income statement while the accumulated
depreciation is reported in the balance sheet as a deduction from the related asset.
The accumulated depreciation account is a contra asset account that shows the total of all
charges recorded on the asset up through the balance sheet date. A contra asset account is a deduction
from the asset to which it relates in the balance sheet. The purpose of a contra asset account is to reduce
the original cost of asset down on its undepreciated cost or book value. Book value is the cost not yet
allocated to an expense. In the example above, the book value of the equipment after its first month is:
Cost P 18,000
Less: Accumulated Depreciation 125
Book Value P 17,875
The depreciation is credited to an Accumulated Depreciation account instead of directly to the
asset account because they have recorded the assets correctly using historical cost. To provide more
complete balance sheet information to the users of financial statements, the original acquisition cost is
shown with the accumulated depreciation. For example, on January 31 balance sheet, the Accumulated
Depreciation is shown as a deduction from the asset Equipment.
Equipment P 18,000
Less: Accumulated Depreciation 125 P 17, 875

The accumulated depreciation account balance increases each period by the amount of
depreciation expense recorded until it finally reaches the amount equal to the original cost of the asset
less estimated residual value.

Bad Debts/ Doubtful/ Uncollectible Accounts

Entities often allow clients to purchase goods or avail of services on account/credit. Some of
these accounts will never be collected; hence, there is a need to reflect these as charges against income.
In practice, an expense is recognized for the estimated uncollectible accounts in the current period,
rather than when specific accounts actually become uncollectible, This practice produces a better
matching of income and expenses. Estimates of uncollectible accounts are usually based on the
accounts receivable ending balance or based on aging. This module will be focusing on the accounts
receivable ending balance.
Throughout the accounting period, when there is positive evidence that a specific account is
definitely uncollectible, the appropriate amount is written off against the contra account. Allowance
for uncollectible accounts or Allowance for bad debts or Allowance for doubtful accounts, a contra-
asset account, is the account title used for this particular situation.
Assume that on December 31, 2018, P’Pha is having P1,000,000 ending balance of Accounts
Receivable. It was estimated that 3% of it will be considered as uncollectible. The estimated/required
balance of the Allowance for Uncollectible Accounts is P30,000 (P1,000,000 x 3%).

Situation 1: If there is no beginning balance of the Allowance for Uncollectible Accounts.

Dec. 31 Uncollectible Accounts Expense 30,000-
Allowance for Uncollectible Accounts 30,000-

Situation 2: If there is credit balance of the Allowance for Uncollectible Accounts before adjustment
amounting to P10,000.
Dec. 31 Uncollectible Accounts Expense 20,000-
Allowance for Uncollectible Accounts 20,000-
P30,000 – P10,000= P20,000

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 8- NAB

Situation 3: If there is debit balance of the Allowance for Uncollectible Accounts before adjustment
amounting to P10,000.
Dec. 31 Uncollectible Accounts Expense 40,000-
Allowance for Uncollectible Accounts 40,000-
P30,000 + P10,000= P40,000

Note: Each adjusting entry affects a balance sheet/real account (an asset or liability account) and an
income statement/nominal account (income or expense account).

--- End of Discussion---

EXERCISES

Exercise 1. Below are terms pertinent to adjusting entries. Match each definition with its related
term. There are two answers for each term.
A. Accrued expense B. Accrued revenue C. Deferred expense D. Deferred revenue
_____1. Revenue not yet earned; collected in advance.
_____2. Office supplies on hand; used next accounting period.
_____3. Rent collected; not yet earned.
_____4. Rent not yet collected; already earned.
_____5. An expense incurred; not yet paid or recorded.
_____6. Revenue earned; not yet collected.
_____7. An expense not yet incurred; paid in advance.
_____8. Property taxes incurred; not yet paid.

Exercise 2. The following information was obtained from a review of the ledger and other records of
2Moons Company at the close of the current fiscal year ending December 31, 2017. Write the adjusting
entry and computation as description in your notebook.
a. The office supplies expense account has a debit balance of P38,610. The inventory of office
supplies on hand as of December 31, totals P14,760.
b. The rent expense account has a debit balance of P74,400 composed of the following: (1)
January 1 balance of P16,800 representing rent for January through April 2017; and (2) debit
balance of P57,600 representing payment for a one-year beginning May 2017.
c. The prepaid insurance account has a debit balance of P62,640 at December 31. Details of the
policies acquired during the past year are as follows:
Type of Policy Premium Paid Date Started
Fire Insurance P 12,960 January 2
Accident Insurance 24,480 March 1
Car Insurance 9,360 June 1
Life Insurance 15,840 August 1
d. The balance of the commissions income account includes a P25,500 commissions received in
advance for selling ten refrigerators. As of December 31, only four refrigerators were sold.
e. The prepaid advertising account has a debit balance of P14,040 which represent the advance
payment of a yearly contract for a uniform amount of space in 52 consecutive issues of a weekly
publication. As of December 31, advertisements had appeared in 18 issues of publication.
f. The unearned rent account has a credit balance of P59,040 which represent a 6-month rent
received in advance from a tenant on September 1.
g. The company acquired an item of equipment for P288,000 at the beginning of the year. This
equipment was estimated to have a life of 15 years with a residual value of P36,000.

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 9- NAB

 h. A delivery truck was purchased on June 30 at a total cost of P936,000. This truck was estimated
to have a useful life of 10 years with the scrap value of P192,000.
i. The company pays a total of P27,000 every Saturday for a six-day-work-week ending Saturday.
The last payday was December 26.
j. Allowance for bad debts at the end of the year is P15,000 but the allowance at the before
adjustment is P6,000 (debit).
k. Allowance for bad debts at the end of the year is P15,000 but the allowance at the before
adjustment is P6,000 (credit).

Exercise 3. Provide the entries for the below independent transactions.

1. Office supplies were purchased for cash on December 2, 2018 for P12,390. The supplies were to
be used over the next several months. A physical inventory showed that P3,585 of the supplies were
on hand on December 31, 2018. Show the entries for the purchase using the asset method and the
expense method. What adjusting entries would be necessary at December 31 if financial statements
are prepared at that time?
ASSET METHOD EXPENSE METHOD

2. Assume that rent of P57,600 was paid on September 1, 2018, to cover a one-year period from that
date. Prepare the journal entries needed to record (a) the payment and (b) the adjustment as of
December 31, 2018, using both the asset method and the expense method.
ASSET METHOD EXPENSE METHOD

3. Assume that a company acquires a building on January 1, 2018, at a cost of P1,410,000. The building
has an estimated useful life of 20 years and an estimated residual value of P150,000. What is the
adjusting entry needed on December 31, 2018 to record the depreciation for the entire year?

4. Amiable Company incurs salaries at a rate of P4,200 per day. The last payday in January is Friday,
January 27 and no work for Saturday and Sunday. Give the adjusting entry on January 31.

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 10- NAB
5. On June 1, 2018, ABC Company received a total P14,400 as payment in advance of a one-year
subscriptions to a monthly magazine, beginning June 1, 2018. Give the entry to record (a) receipt of
subscription fees and (b) to adjust the accounts on December 31, 2018 using the liability and revenue
method.
LIABILITY METHOD REVENUE METHOD

6. Liza and Enrique, a law firm, performed legal service in late December 2018 for clients. The P42,
000 will be billed in January 2017. Give the necessary adjusting entry on December 31, 2018 if
financial statements are prepared at the end of the month.

7. Assume that on December 31, 2018, the end of the company’s accounting period, the company has
outstanding Accounts Receivable of P400,000. The company estimates that 5% of these receivables
might not be collected.
a. Assume that there is no beginning balance for Allowance for Uncollectible Accounts, what is the
adjusting entry?

b. Assume that there is P12,000 (credit) balance for Allowance for Uncollectible Accounts, what is
the adjusting entry?

c. Assume that there is P12,000 (debit) balance for Allowance for Uncollectible Accounts, what is
the adjusting entry?

Exercise 4. Selected account balance before adjustments for Kiss Me Again Company at December
31, 2018 are as follows:
Debit Credit
Accounts Receivable P84,625
Supplies 11,375
Equipment 215,000
Accumulated Depreciation P34,450
Wages payable 0
Unearned fees 23,500
Fees earned 348,975
Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 11- NAB
 Wages expense 79,700
Rent expense 48,000
Depreciation Expense 0
Supplies expense 0
The data needed for year-end adjustments are as follows:
a. Fees earned but not yet collected at December 31, P31,575.
b. Supplies on hand at December 31, P2,785
c. Rent expired during the year, P36,000
d. Depreciation for equipment during the year, P5,000
e. Wages accrued but unpaid at December 31, P13,800
f. Accounts receivable of P10,000 is doubtful of being collected.

Date Description PR Debit Credit

Exercise 5. Write True if the statement is correct, and False if the statement is incorrect.
1. The adjusting entry to recognize earned commission revenues not previously recorded or billed
will cause total assets to increase.
2. Every adjusting entry must change both an income statement account and balance sheet
account.
3. Accumulated depreciation accounts may be referred to as contra-asset accounts.
4. The adjusting entry to recognized earned revenues which was received in advance will cause
total liabilities to decrease.
5. A decrease in an expense account is the equivalent of a decrease in owner’s equity.
6. Book value is the original cost of a building less depreciation for the year.

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 12- NAB
 7. Acquiring a computer for cash is just exchanging one asset for another and will not result in an
expense even in the future periods.
8. The adjusting entry to allocate part of the cost of a one-year fire insurance policy to expense
will cause total assets to increase.
9. The adjustment to record depreciation of property and equipment consists of a debit to
depreciation expense and a credit to accumulated depreciation.
10. If all transactions were originally recorded in conformity with GAAP, there would be no need
for adjusting entries at the end of the accounting period.
11. When services are not paid for until after they have been performed, the accrued expense is
recorded by an adjusting entry at the end of the accounting period.
12. The amount of accrued revenues is recorded by debiting an asset account and crediting an
income account.
13. When the reduction in prepaid expenses is not properly recorded, this causes the asset accounts
and expense accounts to be understated.
14. The adjusting entry to recognize earned expenses which is unrecorded and unpaid will cause
total assets to increase.
15. Accrued revenue is a term used to describe revenue that has been received but not yet earned.
16. Applying accrual accounting results in a more accurate measurement of profit for the period
than does the cash basis of accounting.
17. Revenue cannot be recognized unless delivery of goods has occurred or services have been
rendered.
18. Adjusting entries affect cash flows in the current period.
19. Accrual accounting recognizes revenues and expenses at the point that cash changes hands.
20. An adjusting entry includes at least one balance sheet account and at least one income statement
account.
21. A deferral is the recognition of an expense that has arisen but has not yet been recorded.
22. Recording incurred but unpaid expenses is an example of an accrual.
23. Adjusting entries are useful in apportioning costs among two or more accounting periods.
24. Revenue results from collection of accounts receivable.
25. When there is no direct connection between revenues and costs among two or more account
periods.
26. Failure to record the adjusting entry for accrued salaries results in the current year’s profit being
overstated.
27. Accounting periods should be of equal length to facilitate comparisons between periods.
28. A company’s fiscal year must correspond to the calendar year.
29. If the adjustment for accrued salaries is omitted, liabilities and expenses will be understated.
30. In recording the adjusting entry for accrued salaries, all the accounts involved are decreased.
31. Not all increases to cash represent revenues
32. Accounts that are partly income statement amounts and partly balance sheet amounts are called
mixed amounts
33. Failure to record the adjusting entry for depreciation will overstate asstes on the balance sheet.
34. All decreases in owner’s equity are a result of expenses.
35. In recording the adjusting entries ,for depreciation, both accounts involved are increased.
36. A fiscal period must begin on January 1
37. Failure to record the adjusting entry for depreciation results in assets and owner’s equity being
overstated on the balance sheet
38. Revenue is equal to cash received by a company during an accounting period.
39. As equipment is depreciated, its book value increases and its accumulated depreciation
increases.

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 13- NAB
 40. Assets become liabilities when they expire.
41. An asset’s book value represents the true market value of the asset.
42. The owners persona withdrawals for the year cause a decrease in profit.
43. The expiration of usefulness of equipment during an accounting period is called depreciation.

Exercise 6. Choose the letter of the best answer.

Part 1
1. Depreciation is
a. an expense that is incurred during an accounting period
b. shown on balance sheet as liability
c. added to the cost of equipment on the balance sheet
d. a method of saving cash to replace plant assets
e. a decrease in the fair market value of an asset

2. The type of account and normal balance of Accumulated Depreciation is

a. contra asset, debit d. liability, credit
b. contra asset, credit e. asset, debit
c. asset, credit

3. The adjusting entry to record depreciation of equipment is

a. debit Accumulated Depreciation; credit Equipment
b. debit Depreciation Expense; credit Depreciation Payable
c. debit Equipment; credit Accumulated Depreciation
d. debit Depreciation Expense; credit Accumulated Depreciation
e. debit Accumulated Depreciation; credit Depreciation Expense

4. Accrued salaries are

a. salaries that have been earned by employees but not paid
b. salaries that have been neither earned by employees nor paid
c. salaries that have been paid
d. salaries that were earned by employees and have been paid
e. salaries that have been paid but not earned by employee

5. Accumulated Depreciation-Equipment, is shown as

a. a contra account on the balance sheet
b. an addition to equipment on the balance sheet
c. salaries that have been paid
d. a deduction from profit on the statement of owner’s equity
e. a liability on the balance sheet

6. Which of the following accounts is not adjusted?

a. Prepaid Insurance d. Salaries Payable
b. Owner’s Capital e. Accumulated Depreciation
c. Depreciation Expense

7. If equipment cost P200,000 and accumulated depreciation amounts to P60,000 the book value of
the equipment is
a. P140,000 b. P60,000 c. P200,000 d. P260,000

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 14- NAB
8. Reynante Rivera Company bought equipment on January 3 of this year for P100,000. At the time
of the purchase, the equipment was estimated to have a useful life of nine years and a trade-in of
P10,000 at the end of nine years. Using the straight-line method, the amount of one year’s depreciation
is
a. P12,220 b. P90,000 c. P10,000 d. P20,000 e. P11,110

9. The balance in the Prepaid Insurance account before adjustment at the end of the year is P7,200,
which represents twelve months’ Insurance purchased on December 1. The adjusting entry required
on Dec. 31, 2018 is
a. debit Prepaid Insurance , P7,200; credit Insurance Expense, P7,200
b. debit Insurance Expense, P600; credit Insurance Payable, P600
c. debit Insurance Expense, P6,600; credit Prepaid Insurance, P6,600
d. debit Prepaid Insurance, P600; credit Insurance Expense, P600
e. debit, Insurance Expense, P600; credit Prepaid Insurance, P600

10. Failure to record the entry for accrued salaries results in

a. salaries expense being understated d. profit being overstated
b. total assets being understated e. salaries payable being overstated
c. total assets being overstated

11. If an accountant fails to make and adjusting entry at the end of the fiscal period to record prepaid
insurance, the omission will cause
a. liabilities to be overstated d. total revenue to be understated
b. liabilities to be understated e. total assets to be understated
c. total expenses to be understated

12. The entry to record expired insurance is omitted. This theory causes
a. an increase in liabilities d. liabilities to be overstated
b. expenses to be overstated e. assets to be overstated
c. liabilities to be understated

13. An adjusting entry must contain

a. two income statement accounts d. an asset account and an expense account
b. two balance sheet accounts e. an asset account and a liability account
c. a balance sheet account and an income statement account

14. A business pays weekly salaries of P200,000 on Friday for five-day week ending on that day. If
the fiscal period ends on Wednesday, the adjusting entry is
a. debit Withdrawals, P120,000; credit Salaries Payable, P120,000
b. debit Salaries Payable, P120,000; credit Salaries Expense, P120,000
c. debit Salaries Expense, P120,000; credit Salaries Payable, P120,000
d. debit Salaries Expense, P120,000; credit Withdrawals P120,000

Part 2
1. An item that represents services received from the firm for which it will play for in the future is
called
a. an unearned revenue c. an accrued revenue
b. an prepaid expense d. an accrued expense

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 15- NAB
2. The journal entry to record an accrued expense results in which of the following types of accounts
being debited and credited?
a. asset and liability c. expense and liability
b. expense and asset d. asset and income

3. The journal entry to record an accrued revenue results in which of the following types of accounts
being debited and credited?
a. asset and liability c. expense and liability
b. asset and income d. expense and asset

4. Which of the following is an example of an adjusting entry?

a. recording depreciation expense truck
b. recording the payment of salaries to employees
c. recording the purchase of supplies on account
d. recording the billing of customers for services rendered

5. Accumulated Depreciation is reported in the

a. income statement c. capital statement
b. balance sheet d. both a and b

6. The word “accrued” implies which of the following?

a. Money has not been paid or received but the service has already been performed or rendered.
b. Money has been paid and the service has been provided.
c. Money has been paid for a service to be performed during the next period
d. Money has been paid but no services have been provided.

7. An adjusting entry to accrue salaried incurred but not yet paid is an example of
a. reflecting unrecorded revenues earned during the accounting period.
b. reflecting unrecorded expenses incurred the accounting period.
c. aligning recorded revenues earned with appropriate accounting periods.
d. aligning recorded costs with appropriate accounting period

8. A law firm began November with office supplies of P16,000. During the month, the firm purchased
supplies of P29,000. On November 30, supplies on hand totaled P21,000. Supplies expense for the
period is
a. P45,000 b. P29,000 c. P24,000 d. P21,000

9. Adjusting entries involve

a. at least one real and one normal account c. only real accounts
b. only nominal account d. only capital accounts.

10. The decrease in usefulness of property and equipment as time passes is called
a. contra asset b. depreciation c. consumption d. deterioration

11. The broad classification of adjusting entries are

a. accruals and closing c. closing and trials
b. trials and deferrals d. accrual and deferrals

12. A prepaid expense is not an

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 16- NAB
 a. economic resource c. asset
b. unexpired cost d. expired cost

13. Under the revenue recognition principle, revenue is recorded

a. after it has been earned, but not before. c. at the end of the accounting period.
b. at the latest acceptable time. d. at the earliest acceptable time.

14. The amount of accrued but unpaid expenses at the end of the period is both an expense and
a. an asset b. an income c. a deferral d. a liability

15. From the viewpoint of the firm receiving the cash, an item that represents services that have been
paid for by the customer, but have not yet been provided to that customer by the firm which received
the cash, is called
a. an unearned revenue. c. an accrued expense.
b. an accrued revenue. d. a prepaid expense.

16. The adjusting entry to accrue salaries expense

a. debits salaries expense and credits salaries payable.
b. debits salaries payable and credits salaries expense.
c. debits salaries payable and credits cash.
d. debits salaries expense and credits cash.

17. A business received cash of P30,000 in advance for revenue that will be earned later. The receipt
entry debited cash and credited unearned revenues for P30,000. At the end of the period, P11,000 is
still unearned. The adjusting entry for this situation will
a. debit revenues and credit unearned revenues for P19,000.
b. debit revenues and credit unearned revenues for P11,000.
c. debit unearned revenues and credit revenues for P11,000.
d. debit unearned revenues and credit revenues for P19,000.

18. If a P2,500 adjustment for depreciation is omitted, which of the following financial statement
errors will occur?
a. profit will be understated c. expenses will be overstated
b. assets will be understated d. owner's equity will be overstated

19. Accrued expenses

a. increase assets b. decrease assets. c. increase liabilities. d. decrease liabilities.

20. Accrued revenues

a. increase liabilities b. decrease liabilities c. increase assets d. decrease assets.

21. An item that represents services provided by a firm for which it will receive payment in the future
is called
a. a prepaid expense. c. an unearned revenue.
b. an accrued expense. d. an accrued revenue.

22. An item that represents services that have been paid for by a firm, but which have not yet been
receive by that firm is called
a. an accrued revenue. c. a prepaid expense.

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 17- NAB
 b. an unearned revenue. d. an accrued expense.

23. Entries required at the end of an accounting period to bring the accounts up to date and to ensure
the proper matching of income and expenses are called
a. adjusting entries. b. correcting entries. c. contra entries. d. matching entries.

24. Adjusting entries

a. bring asset and liability accounts to correct balances.
b. assign revenues to the period in which they are earned.
c. help to properly measure the period's profit or loss.
d. all of the above.

Part 3
1. Which of the following transactions during the year would most likely not need an adjusting entry
at the end of the period?
a. Cash withdrawal by the owner. c. Performance of a service that previously paid.
b. Purchase of a two-year insurance policy. d. Purchase of office equipment.

2. The recording of an expense could result in a corresponding increase in

a. Revenue b. an asset c. a liability d. owner's equity

3. Which of the following accounts would likely not need to be adjusted at year-end?
a. Land c. Prepaid Advertising
b. Unearned Revenues d. Office Supplies

4. Which of the following transactions will not result in the recognition of an expense?
a. Expiration of prepaid insurance. c. Expiration of prepaid insurance.
b. Use of machinery during the period. d. Interest accrued on a bank loan.

5. Which of the following transactions will not result in an increase in revenues?

a. An investment in the business by the owner.
b. Accumulation of interest in bank account.
c. Sale of goods on credit.
d. Sale of services for cash.

6. The accountant may spread the cost of a building over many years primarily because of the
a. fiscal year assumption. c. periodicity and going concern assumption.
b. going concern assumption. d. periodicity assumption.

7. Which of the following accounts would probably need to be adjusted at year-end?

a. Land b. Supplies c. Withdrawals d. Notes Payable

8. An adjusting entry can include a debit to a(n)

a. revenue and credit to an asset. c. liability and a credit to a revenue.
b. asset and a credit to a liability. d. expense and a credit to a revenue.

9. An adjusting entry cannot include a debit to a(n)

a. asset and a credit to a liability. c. expense and a credit to an asset.
b. liability and a credit to a revenue. d. asset and a credit to a revenue.

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 18- NAB
10. Which of the following is an example of a deferral?
a. Medical fees earned but not yet collected. c. Interest expense incurred but not yet paid.
b. A commission collected in advance. d. Interest earned on a bank account.

11. An adjusting entry would not include in which of the following accounts?
a. Cash c. Property Taxes Payable
b. Unearned Revenues d. Interest Receivable

12. Which of the following is an example of accrual?

a. Six months' rent paid in advance. c. Equipment purchased for use in the business.
b. Interest earned but not yet received. d. Bookkeeping fees collected but not yet earned.

13. Failure to record depreciation at year-end will result in an

a. overstatement of total assets. c. understatement of total liabilities.
b. overstatement of total liabilities. d. understatement of profit.

14. The adjustment for that portion of revenue received in advance which was earned is to debit
a. Cash and credit Unearned Revenues. c. Unearned Revenues and credit Service Revenues.
b. Unearned Revenues and credit Cash. d. Service Revenues and credit Unearned Revenues.

15. An adjusting entry made to record interest on a note payable due next year consists of a debit to
a. Interest expense and a credit to Cash.
b. Interest Expense and a credit to Interest Payable.
c. Interest Receivable and a credit to Interest Earned.
d. Interest Expense and a credit to Notes Payable.

16. Failure to adjust for accrued Salaries at year-end will result in an

a. overstatement of profit. c. understatement of owner's equity.
b. overstatement of liabilities. d. understatement of assets.

Use the following information to answer questions 17 to 21 below.

Noel Bergonia Company

Trial Balance
Dec. 31, 2013

Cash P 20,000
Accounts Receivable 50,000
Prepaid Insurance 5,000
Supplies 15,000
Office Equipment 40,000
Accumulated Depreciation- Office Equipment P 20,000
Accounts Payable 30,000
Bergonia, Capital 60,000
Service Revenues 50,000
Salaries Expense 10,000
Rent Expense __20,000_ __________
Total P160,000 P 160,000

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 19- NAB
17. If as Dec. 31, 2013 the rent of 10,000 for December had not been recorded or paid, the adjusting
entry would include a
a. credit to Cash for P10,000 c. debit to Rent Payable for P10,000
b. debit to Rent Expense for P10,000 d. credit to Accumulated Rent for P10,000

18. If on Dec. 31, 2013, supplies on hand were P2,000, she adjusting entry would contain a
a. debit to Supplies Expense for P13,000 c. debit to Supplies for P2,000
b. credit to Supplies Expense for P13,000 d. credit to Supplies for P2,000

19. If services totaling P12,500 had been performed but not yet billed, the adjusting entry to record
this would include a
a. debit to Service Revenues for P12,500. c. credit to Unearned Service Revenues for P12,500.
b. credit to Service Revenues for P12,500. d. credit to Service Revenues for P62,500.

20. If on Dec. 31, 2013, the insurance still unexpired amounted to P2,000, the adjusting entry would
contain a
a. debit to Insurance Expense for P2,000 c. credit to Prepaid Insurance for P3,000
b. debit to Prepaid Insurance for P3,000 d. credit to Prepaid Insurance for P2,000

21. If the estimated depreciation for office equipment were P20,000, the adjusting entry would
contain a
a. credit to Accumulated Depreciation-Office Equipment for P20,000.
b. credit to Office Equipment for P20,000.
c. debit to Accumulated Depreciation-Office Equipment for P20,000
d. credit to Depreciation Expense-Office Equipment for P20,000.

Use the following information to answer questions 22 to 26 below. The following information pertains
to TayNew Machine Shop.
❖ The company's Supplies account showed a beginning debit balance of P2,000 and supplies
purchased of P8,000;P3,000 of supplies were on hand at year-end.
❖ Depreciation on buildings is at P50,000
❖ A one-year insurance policy was purchased for P20,000. Three months have passed since the
purchase.
❖ Accrued interest on a note receivable amounted to P1,000.
❖ The company received a P36,000 advance payment during the year on services still to be
performed. By the end of the year, one-fourth of the services had been performed.
22. The adjusting entry for depreciation on buildings would include a
a. credit to Buildings for P50,000.
b. debit to Accumulated Depreciation-Buildings for P50,000.
c. credit to Depreciation Expense-Buildings for P50,000.
d. credit to Accumulated Depreciation-Buildings for P50,000

23. The adjusting entry for Supplies would include a

a. debit to Supplies Expense for P7,000. c. debit to Supplies Expense for P8,000.
b. credit to Supplies for P3,000. d. credit to Supplies Expense for P8,000.

24. The adjusting entry to record the accrued interest on the note would include a
a. credit to Interest Income for P1,000 c. debit to Interest Payable for P1,000
b. credit to Interest Receivable for P1,000 d. debit to Interest Expense for P1,000

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 20- NAB
25. The adjusting entry for the insurance policy would include a
a. debit to Insurance Expense for P15,000 c. debit to Prepaid Insurance for P5,000
b. credit to Prepaid Insurance for P5,000 d. credit to Insurance Expense for P15,000.

26. Office Supplies were P9,000 at the end of January and P11,400 at the end of February. Office
Supplies Expense equaled P3,000. How much cash was paid for Office Supplies during February?
a. P5,400 b. P17,400 c. P14,400 d. P2,400

27. Unearned Revenues was P6,000 at the end of February and P7,500 at the end of March. Service
Revenues was P42,000 for the month of March. How much cash was received for services provided
during March?
a. P40,500 b. P28,500 c. P55,500 d. P43,500

28. Salaries Payable were P3,500 at the end of September and P2,800 at the end of October. Salaries
Expense for October was P18,000. How much cash was paid for salaries during October?
a. P11,700 b. P18,700 c. P24,100 d. P17,300

29. The adjusting entry record the amount of service revenues earned during the period would include
a
a. debit to Service Revenues for P27,000.
b. credit to Unearned Service Revenues for P9,000.
c. debit to Unearned Service Revenues for P27,000.
d. debit to Unearned Service Revenues for P9,000

Module 4 ABM 1203 - Fundamentals of Accountancy, Business and Management 1 21- NAB