ACCT2010

Principles of
Accounting I
A closer look at year end
adjustments

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Relevant readings
1. Chapter 4 – Key points (textbook page reference)

a. Adjusting revenues & expenses pp.172-174

b. Deferred & accrued revenues pp.174-175
c. Deferred (prepaid) & accrued expenses pp.175-182
d. Relationship among income statement, statement of stockholder’s equity and
balance sheet pp.183-187
e. Closing the books pp.190-192
f. Financial analysis tools – earnings per share p.186 and total asset turnover
ratio pp.188-189

2. Demonstration Case – Terrific Lawn Maintenance Corporation pp.194-

198
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Content
I. What are adjusting entries and Why needed
II. Deferred & accrued revenues
III. Deferred & accrued expenses
IV. Preparing financial statements from adjusted trial balance
V. Financial analysis tool
VI. Review key concepts
VII. Conclusions and summary

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ACCT2010
Principles of
Accounting I
I. What are the adjusting entries
and Why needed

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What are adjusting entries & Why needed
1. Revisit the accounting cycle

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What are adjusting entries & Why needed
2. Unadjusted trial balance (TB) - revisit

a. A listing of individual accounts in general ledger, in financial

statement order
b. Account ending balances, where Dr. and Cr. Balances are listed in
two separate columns
c. Total Dr. = total Cr.
d. Watch the video again
https://www.youtube.com/watch?v=J-o3ItE0sbk

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What are adjusting entries & Why needed
3. How a typical TB looks like … (Exhibit 4.5 of textbook, p.130)

[Please enlarge it in your revision]

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What are adjusting entries & Why needed
4. Why adjusting entries are needed (Purpose of adjustments)

a. Adjustments are required at the end of each

accounting period
b. In order to get the revenues & expenses into the “right”
period

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What are adjusting entries & Why needed
5. Types of adjustments

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Match business situations with terms
Business situations
• Revenue not yet earned; collected in
advance
• Rent not yet collected; already earned
• Property taxes incurred; not yet paid
• Rent revenue collected; not yet earned
Terms
• Deferred revenue / unearned
revenue / contractual obligations
• Accrued revenue (it’s about receivable)
• Accrued expense (it’s about payable)
• Deferred revenue / unearned
revenue / contractual obligations
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Match business situations with terms
Business situations Terms

• An expense incurred; not yet paid or recorded • Accrued expense (it’s about payable)
• Office supplies on hand to be used next period • Deferred expense
• An expense not yet incurred; paid in advance • Deferred expense
• A revenue earned; not yet collected • Accrued revenue (it’s about receivable)

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ACCT2010
Principles of
Accounting I
II. Deferred & accrued revenues

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Deferred & accrued revenues
1. Adjustment process examples – refers to …

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Deferred & accrued revenues
2. Deferred (Unearned) revenues - illustration

Papa John’s received cash last period and recorded an increase in Cash
and increase in Unearned Franchise Fees, a liability, to recognize the
business’s obligation to provide future services to franchisees. During
January, Papa John’s performed $1,100 in services for franchisees who
had previously paid fees.

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Deferred & accrued revenues
3. Accrued revenues - illustration
Papa John’s franchisees owe Papa John’s $830 in royalties for sales the
franchisees made in the last week of January. The cash will be received in
the future.

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Deferred & accrued revenues
3. Accrued revenues – illustration (Continued)
Papa John’s loaned $3,000 to franchisees on December 31 (one month ago) at 6
percent interest per year with interest to be paid at the end of each year. There
was also $8,000 in notes receivable outstanding all month from prior loans. There
are two components when lending or borrowing money: principal (the amount
loaned or borrowed) and interest (the cost of borrowing). Notes Receivable (the
principal) was recorded properly when the money was loaned.

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Deferred & accrued revenues
3. Accrued revenues – illustration (Continued)
Papa John’s loaned $3,000 to franchisees on December 31 (one month ago) at 6
percent interest per year with interest to be paid at the end of each year. There
was also $8,000 in notes receivable outstanding all month from prior loans. There
are two components when lending or borrowing money: principal (the amount
loaned or borrowed) and interest (the cost of borrowing). Notes Receivable (the
principal) was recorded properly when the money was loaned.

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ACCT2010
Principles of
Accounting I
III. Deferred & accrued expenses

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Deferred & accrued expenses
1. Deferred (Prepaid) expenses

a. Prepaid Expenses includes $2,000 paid on January 1 for

insurance coverage for four months (January through April)
and $6,000 paid on January 1 for rental of space at shopping
centers over three months (January through March).

Compute the amount of expense incurred. One month has expired for each of
the prepaid amounts:
Insurance: $2,000 x 1 month/4 months = $ 500 used in January.
Rent: $6,000 x 1 month/3 months = $2,000 used in January.

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Deferred & accrued expenses
1. Deferred (Prepaid) expenses (Continued)

a. Prepaid Expenses includes $2,000 paid on January 1 for

insurance coverage for four months (January through April)
and $6,000 paid on January 1 for rental of space at shopping
centers over three months (January through March).

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Deferred & accrued expenses
1. Deferred (Prepaid) expenses
b. Supplies include food and paper products. At the end of the
month, Papa John’s counted $12,000 in supplies on hand,
but the Supplies account indicated a balance of $16,000.
We need to determine the supplies used during the current
accounting period.

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Deferred & accrued expenses
1. Deferred (Prepaid) expenses (Continued)
b. Supplies include food and paper products. At the end of the
month, Papa John’s counted $12,000 in supplies on hand,
but the Supplies account indicated a balance of $16,000.
We need to determine the supplies used during the current
accounting period.

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Deferred & accrued expenses
1. Deferred (Prepaid) expenses

c. The owner estimates depreciation charge to be $30,000

yearly

$30,000 ÷ 12 months = $2,500 per month depreciation expense

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Deferred & accrued expenses
2. Accrued expenses
a. Papa John’s owed (1) its employees salaries for working four days at the end
of January at $500 per day, (2) $610 for utilities used in January, and (3)
interest on its long-term notes payable borrowed at a 6 percent annual rate.

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Deferred & accrued expenses
2. Accrued expenses
The final adjusting journal entry is to record the accrual of income taxes that will be
paid in the next quarter. This requires computing adjusted pretax income (that is,
balances from the unadjusted trial balance plus the effects of all of the other
adjustments):

From our unadjusted trial

balance shown earlier.
(Slide #8)

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Deferred & accrued expenses
2. Accrued expenses
b. Papa John’s average income tax rate is 34 percent. So, the estimated
amount of the taxes on this income that will be at the end of the quarter is
$11,500 × .34 = $3,910.

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ACCT2010
Principles of
Accounting I
IV. Preparing financial statements
from adjusted trial balance

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Preparing financial statements from adjusted
trial balance
1. Before we prepare a complete set of financial statements,
we need to update the trial balance to reflect the
adjustments and provide us with adjusted balances for:

a. Income statement;
b. Statement of stockholders’ equity;
c. Balance sheet; and
d. Statement of cash flows (will be discussed in Chapter 12)

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Preparing financial statements from adjusted
trial balance
2. Updating the trial balance …

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Preparing financial statements from adjusted
trial balance
3. Financial statement relationships - revisit

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Preparing financial statements from adjusted
trial balance
4. Income statement

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Preparing financial statements from adjusted
trial balance
4. Statement of stockholders’ equity – net income shown as an
increase in retained earnings

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Preparing financial statements from adjusted
trial balance
6. Balance sheet

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ACCT2010
Principles of
Accounting I
V. Financial analysis tool

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Financial analysis tool
1. Earnings per share (EPS)
EPS is reported on the income statement. It is widely used in evaluating
the operating performance and profitability of a company.

Weighted

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Financial analysis tool
2. Total asset turnover

a. Measures the ability of a company to use its assets to efficiently

generate sales (or operating income).
b. It considers all assets, current and fixed
c. Net sales / average total assets = ? Times
d. The lower the ratio, the more sluggish the company’s sales
e. It indicates a problem with one or more of the asset categories,
e.g., inventory, receivables or fixed assets

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ACCT2010
Principles of
Accounting I
VI. Class activity:
Review key concepts

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Review key concepts
1. Qualtrics survey
2. There are 7 questions
3. The WHY is way more important than the WHAT
4. URL: https://ust.az1.qualtrics.com/jfe/form/SV_cFIOy7NFp7iuXKm
5. QR Code for mobile device

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ACCT2010
Principles of
Accounting I
VII. Conclusions & summary

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Conclusions & summary
1. Based on accrual accounting principle, and the need to get
(update) the revenues & expenses to the “right” period – we
have adjusting entries
2. Adjusting entries categories, namely, deferred (unearned) &
accrued revenues; and deferred (prepaid) & accrued
expenses
3. Relationship among financial statements, i.e., net income ->
retained earnings -> stockholders’ equity
4. How to prepare financial statements from adjusted trial
balance
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Conclusions & summary
5. EPS commonly used to evaluate the operating performance
and profitability of a company
6. Total asset turnover measures how efficient a company used
its total asset to generate revenue or sales

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