Adjusting Process

Differentiate between accrual and cash-basis accou
nting
Copyright (c) 2009 Prentice Hall. All rights reserved. 2

Accrual Basis Cash Basis
Revenues are recogn Revenues are recogn
ized when earned an ized when cash is re
d expenses are reco ceived and expenses
gnized when incurre recorded when cash
d. is paid.

Accrual – Revenue recognized
when services provided
Cash – Revenue recognized w

hen cash is received

Accrual – Expense recognized
when incurred
Cash – Expense recognized w

hen cash is paid

Define and apply the accounting period concept, rev
enue, and matching principles

 Businesses prepare financial statements for specif
ic periods to evaluate performance
 Basic accounting period = one year
◦ Calendar year
◦ Fiscal year
(often follows seasonal nature of business)
 Interim periods
◦ Financial statements of less than one year
 Monthly
 Quarterly
 Semiannually

 When to record revenue?
◦ When it is earned
 When service is provided or product delivered
 This is not necessarily the time when cash is received
 Follows legal rules of transaction (Can you sue for it?)
 What amount of revenue should be recorded?
◦ Value of item or service transferred to customer
◦ This is based on what they will pay for it

 Measure all expenses incurred during the accounti
ng period
 Match the expenses against the revenues earned
during the same period
 This is a MAJOR difference between cash and acc
rual
◦ Accrual matches
◦ Cash may not

 Requires that accounting information be reported
at regular intervals
 Accounts are updated at the end of each accounti
ng period
◦ MUST be updated at end of period
◦ May be updated at interval reporting
◦ It is driven by the need to prepare statements

Explain why adjusting entries are needed

Smart Touch Learning
Unadjusted Trial Balance
May 31, 2010
Cash 4,800
Accounts Receivable 2,200
Supplies 700
Prepaid Rent 3,000
Furniture 18,000
Building 48,000
Accounts Payable 18,200
Kay Torres, Capital 29,500
Kay Torres, Withdrawals 3,200
Service Revenue 7,000
Salary Expense 550
Utilities Expense 400
50,050 50,050
12
 Prepared at end of an accounting period
 Assign:
◦ Revenues to the period when earned
 These were previously recorded as unearned revenue when
the cash was received
◦ Expenses to the period when incurred
 These were previously recorded as pre-paid expense when t
he cash was paid out.
 Need to properly measure:
◦ Net Income
◦ Assets & Liabilities

 Update asset and liability accounts
◦ Assets
 Types of entries
 Prepaid expenses (record how much expense has been incurre
d on expenses that were prepaid)
 Depreciation of Plant And Equipment (and amortization)
 Accrued revenue (record how much revenue has been earned fr
om customers who owe for goods and services received)
 You will be doing one of the following
 Decreasing the asset (credit)
 recording an expense (debit)
 Increasing an asset (debit)
 recording revenue

 Update asset and liability accounts
◦ Liabilities
 Types of entries
 Unearned revenue (When customers prepay, you set up a liabilit
y. You now must show how much of this prepayment has been
earned)
 Accrued expense (Business owes for goods and services receiv
ed but that haven’t been paid)
 You will be doing one of the following
 Decreasing the liability (debit)
 Recording a revenue (credit)
 Increasing a liability (credit)
 Recording an expense (debit)

Journalize and post adjusting entries

 Advance payments of expenses
 Examples:
◦ Rent
◦ Insurance
◦ Supplies
 Recorded as an asset
 Adjusting entry records amount used as an expen
se

GENERAL JOURNAL
DATE DESCRIPTION REF DEBIT CREDIT
May 1 Prepaid Rent 3,000

Cash 3,000
Prepaid rent for 3 months
Prepaid rent
5/1 3,000

GENERAL JOURNAL
May 31 Rent expense 1,000

Prepaid rent 1,000
To record rent expired in May
Prepaid rent Rent expense

5/1 3,000 5/31 1,000 5/31 1,000
Bal 2,000

GENERAL JOURNAL
May 2 Supplies 500

Cash 500
Supplies
5/2 500

GENERAL JOURNAL
May 15 Supplies 200

Cash 200
Supplies
5/2 500
15 200

GENERAL JOURNAL
May 31 Supplies expense 100

Supplies 100
To record supplies used in May
Supplies Supplies expense

5/31 700 5/31 100 5/31 100
Bal 600

 Plant assets
◦ Long-lived tangible assets used in business operations
 Examples:
◦ Land, buildings, equipment, and furniture
 Depreciation
◦ Allocation of a plant asset’s cost to expense over its usef
ul life
◦ Land is not depreciated

 Depreciation spreads the COST of an ass
et, (its book value) over the life of the asse
t (the time it will be used to generate reven
ue).
 It is NOT adjusting the asset to market val

ue

GENERAL JOURNAL
May 3 Furniture 18,000

Cash 18,000
Purchased furniture
Furniture
5/3 18,000
27
Depreciation - process of allocating the cost
of a plant asset to expense over its expected
useful life
Straight-Line Asset Cost

=
Depreciation Expense Useful Life
28
Accumulated depreciation accounts are called contra a
sset accounts because they are deducted from the rela
ted asset accounts on the balance sheet.
Hint! Consider it like a tick on the back of a dog!
29
Income Statement Accou
nt
GENERAL JOURNAL
May 31 Depreciation Expense,

Furniture 300
Accumulated Depreciation,
Furniture 300
To record depreciation for Sep.
Balance Sheet Account

Accumulated depreciation is
a contra asset account
30
Furniture
Bal. 18,000
Accumulated Depreciation, Depreciation Expense,

Furniture Furniture
5/31 300 5/31 300
Bal 300 Bal 300
31
 Reported on balance sheet
 Cost minus accumulated depreciation
32
Balance Sheet
May 31, 20XX
Assets
Cash $XXXX
.
.
.
Furniture $ 18,000
Less: Accumulated Depreciation (300) 17,700 Total
Assets $XXXX
Book Value
33
Income Statement Accou
nt
GENERAL JOURNAL
May 31 Depreciation Expense,

Building 200
Accumulated Depreciation,
Building 200
To record depreciation for Sep.
Balance Sheet Account

Accumulated depreciation is
a contra asset account
34
 Expenses incurred before payment is made
◦ Results in a liability
 Opposite of a prepaid expense
 Examples:
◦ Salaries
◦ Interest

Adjustments – Accrued Expense
Smart Touch received employee services for the second half of
the month of May amounting to $900, to be paid on June 1.
Record accrued wages of $900
Salary Payable Liabilities
Salary Expense
5/15 900 Expenses
36
GENERAL JOURNAL
May 31 Salary expense 900

Salary Payable 900
To record salaries accrued in May

Smart Touch received employee services for the second half of the m
onth of May amounting to $900, to be paid on June 1.
Record accrued wages of $900
Salary Payable Liabilities

900
A5
Salary Expense A5
5/15 900 Expenses
5/31 900
1,800
38
Adjustments – Accrued Expenses
On May 1, Smart Touch borrowed $20,000 from a bank signing
a one year note payable.
Cash
20,000
Notes Payable
20,000
39
GENERAL JOURNAL
May 31 Interest expense 100

Interest Payable 100
To record interest accrued in May

Smart Touch recorded interest accrued of $100
Interest Payable Liabilities

100
A5
Interest Expense A5
5/31 100 Expenses
Bal. 100
41
 Revenue earned before cash is received
 Results in a receivable
GENERAL JOURNAL
Dec 31 Accounts receivable $$$$

Service revenue $$$$
To record accrued revenues

Adjustments – Deferrals and Accruals
Revenues Current Period Future Period
Accruals Revenue Recorded Cash Received
Expenses
Current Period Future Period
Prepaid Cash Paid Expense Recorded
Accruals Expense Recorded Cash Paid
43
Adjustments – Accrued Revenue
As of May 31, Smart Touch provided a ½ month of services. C

ash to be received on 6/15.
Record services earned of $400.
Accounts Receivable Assets

Bal.....2,200
Services Revenue
7,000 Bal.
Revenues
44
 Revenue earned before cash is received
 Results in a receivable
GENERAL JOURNAL
May 31 Accounts receivable 400

Service revenue 400
To record accrued revenues

Adjustments – Accrued Revenue
As May 31 Smart Touch provided a ½ month of services. Cash to be r

eceived on 6/15.
Record services earned of $400.
Accounts Receivable Assets

Bal.....2,200
5/31 400
2,600 A6
Services Revenue
A6
7,000 bal. Revenues
400 5/31
7,400 bal.
46
 Cash is collected before revenue is earned
◦ Results in a liability as the company owes a product or se
rvice or they will have to give the money back
 Also called deferred revenue
BEFORE

Adjustments – Deferrals and Accruals
Revenues Current Period Future Period

Unearned Cash Received Revenue Recorded
Accruals Revenue Recorded Cash Received
Expenses
Current Period Future Period
Prepaid Cash Paid Expense Recorded
Accruals Expense Recorded Cash Paid
48
Adjustments – Deferred Revenue
On May 21, Smart Touch received cash of $600 in advance for
e-learning services to be performed over the next 30 days.
Example S1 – Sale initially recorded as a liability.

Adjustment A3 – Record servic
Cash
es earned for Sept.
600
Unearned Service Rev
enue Liabilities
600
Service Revenue
7,000
400 Revenues
49
GENERAL JOURNAL
May 31 Unearned Service Revenue 200

Services Revenue 200
To record revenue earned in May

Adjustments – Deferred Revenue
On May 21, Smart Touch received cash of $600 in advance for
e-learning services to be performed over the next 30 days.
Example S1 – Sale initially recorded as a liability.

Adjustment A3 – Record servic
Cash
es earned for May
600
10/30 X600= $200
Unearned Service Rev
enue Liabilities
5/31 200 600
Service Revenue
7,000
400 Revenues
200
7,600
51
 To properly measure net income on the income st
atement
◦ Each adjusting entry affects a revenue or an expense
 To update the balance sheet
◦ Each adjusting entry affects an asset or a liability

Category of Adjusting Entry Debit Credit
Prepaid expense Expense Asset
Depreciation Expense Contra asset
Accrued expense Expense Liability
Accrued revenue Asset Revenue
Unearned revenue Liability Revenue

Explain the purpose of and prepare an adjusted trial ba
lance
 Prepared after adjusting entries are posted
 Useful step in preparing financial statements
 Often appears on a work sheet
◦ Tool accountants use at end of period
 It is now often done by computers and run with clo
sing entries (which we will get to later)

Adjusted Trial Balance
May 31, 2020
Debit Credit
Cash 4,800
Supplies 600
Prepaid Rent 2,000
Furniture 18,000
Building 48,000
Accum. Deprec. Furniture 300
Accum. Depreciation:Building 200

Salary Payable 900
Unearned Service Revenue 400
Notes Payable 20,000
Sheena Bright, Capital 33,200
Sheena Bright, Withdrawals 1,000
Rent expense 1,000
Salary expense 1,800
Supplies expense 100
Deprec. Expense: Furniture 300
Depreciation Expense: Build. 200
Interest Expense 100
Utilities Expense 400 _ ____
80,900 80,900
56
Prepare the financial statements from the adjusted tria
l balance
Adjusted Trial Balance
May 31, 2020
Debit Credit
Cash 4,800
Supplies 600
Prepaid Rent 2,000
Furniture 18,000
Building 48,000
Accum. Deprec. Furniture 300
Accum. Depreciation:Building 200

Salary Payable 900
Unearned Service Revenue 400
Notes Payable 20,000
Sheena Bright, Capital 33,200
Sheena Bright, Withdrawals 1,000
Rent expense 1,000
Salary expense 1,800
Deprec. Expense: Furniture 300
Depreciation Expense: Build. 200
Utilities Expense 400 _ ____
80,900 80,900
59
Income Statement
Month Ended May 31, 2010
Service Revenue $7,600

Expenses:
Salary expense $1,800
Rent Expense 1,000
Utilities Expense 400
Deprec. Expense-Furniture 300
Deprec. Expense-Building 200
Supplies Expense 100
Total expenses 3,900
Net income $3,700
Financial Statements

Statement of Owners Equity
Month Ended May 31, 2010
Sheena Bright, capital, May 1, 2010 $ 33,200

Net income 3,700
$36,900
Less withdrawals (1,000)
Sheena Bright, Capital May 31, 2010 $35,900

Balance Sheet
May 31, 2020
Assets Liabilities
Cash $4,800 Accounts Payable

Accounts Receivable 2,600 $18,200
Supplies 600
Prepaid rent 2,000 Salary Payable 900
Furniture $18,000 Unearned Serv. Revenue 400
Less: Accum Dep. -300 17,700 Notes Payable 20,000
Building 48,000 Total Liabilities $39,600
Accumulated
Owner’s Equity
depreciation -200 47,800
Sheens Bright, Capital
35,900
Total Assets $75,500 Total Liabilities &
Owner’s Equity
$75,500
62
Any Company
Worksheet
December 31, 2010
Adjusted
Trial Balance
Account Title Dr. Cr.
Cash 5,400
Supplies 200
Equipment 17,000
Accum. depr. - Equip. 2,000 Balance sheet
Accounts payable 200
Interest payable 100
Note payable 9,000
Josie Smith, Capital 6,000
Josie Smith, W/D 1,000
Service revenue 12,000
Rent expense 4,000
Supplies expense 500 Income statement
Depreciation expense 1,000
Interest expense 200
Totals 28,300 28,300
Any Company
Income Statement
Year ended December 31, 2010
Revenue:
Service revenue $ 12,000
Expenses:
Rent expense $ 4,000
Depreciation expense 1,000
Interest expense 200
Total expenses 5,700
Net income $ 6,300

Any Company
Worksheet
December 31, 2010
Adjusted
Trial Balance Adjustments Trial Balance
Account Title Dr. Cr. Dr. Cr. Dr. Cr.
Cash 5,400
Supplies 700 a. 500 200
Equipment 17,000
Accum. depr. - Equip. 1,000 b. 1,000 2,000
Accounts payable 200
Interest payable c. 100 100
Note payable 9,000 9,000
Josie Smith, Capital 6,000 6,000
Josie Smith, W/D 1,000 1,000
Service revenue 12,000 12,000
Rent expense 4,000 4,000
Supplies expense a. 500 500
Depreciation expense b. 1,000 1,000
Interest expense 100 c. 100 200
Totals 27,200 27,200 1,600 1,600 28,300 28,300

Adjusting Process

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Adjusting Process

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Differentiate between accrual and cash-basis accou

Copyright (c) 2009 Prentice Hall. All rights reserved. 2

Copyright (c) 2009 Prentice Hall. All rights reserved. 3

Cash – Revenue recognized w

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Cash – Expense recognized w

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Copyright (c) 2009 Prentice Hall. All rights reserved. 11

Copyright (c) 2009 Prentice Hall. All rights reserved. 13

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May 1 Prepaid Rent 3,000

Prepaid rent for 3 months

Copyright (c) 2009 Prentice Hall. All rights reserved. 20

May 31 Rent expense 1,000

Prepaid rent Rent expense

Copyright (c) 2009 Prentice Hall. All rights reserved. 21

May 2 Supplies 500

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May 15 Supplies 200

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May 31 Supplies expense 100

Supplies Supplies expense

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 It is NOT adjusting the asset to market val

Copyright (c) 2009 Prentice Hall. All rights reserved. 26

May 3 Furniture 18,000

Straight-Line Asset Cost

Hint! Consider it like a tick on the back of a dog!

May 31 Depreciation Expense,

Balance Sheet Account

Accumulated Depreciation, Depreciation Expense,

Bal 300 Bal 300

May 31 Depreciation Expense,

Balance Sheet Account

Copyright (c) 2009 Prentice Hall. All rights reserved. 35

Record accrued wages of $900

Salary Payable Liabilities

May 31 Salary expense 900

Copyright (c) 2009 Prentice Hall. All rights reserved. 37

Record accrued wages of $900

Salary Payable Liabilities

May 31 Interest expense 100

Copyright (c) 2009 Prentice Hall. All rights reserved. 40

Interest Payable Liabilities

Dec 31 Accounts receivable $$$$

Copyright (c) 2009 Prentice Hall. All rights reserved. 42

Revenues Current Period Future Period

Accruals Revenue Recorded Cash Received

Accruals Expense Recorded Cash Paid

As of May 31, Smart Touch provided a ½ month of services. C

Accounts Receivable Assets

May 31 Accounts receivable 400

Copyright (c) 2009 Prentice Hall. All rights reserved. 45

As May 31 Smart Touch provided a ½ month of services. Cash to be r