Completing the Accounting Cycle

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# Completing the Accounting Cycle - PowerPoint PPT Presentation

4. C H A P T E R . Completing the Accounting Cycle. Learning Objective 1. Describe how accrual accounting allows for timely reporting and a better measure of a company's economic performance. Why Use Accrual Accounting?. Define the Time Period Concept. Time Period. Financial Reports.

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4
• C H A P T E R

Completing the

Accounting Cycle

Learning Objective 1
• Describe how accrual accounting allows for timely reporting and a better measure of a company's economic performance.
Financial Reports
• Most companies report to stockholders at fiscal year-end.
• Other reports are issued more frequently, perhaps monthly or quarterly.
• This frequency of reports forces accountants to use data based on judgments and estimates.

ABC Inc.

Annual Report

Revenue Recognition

Revenues are recorded when two main criteria are met: What are they?

Example: Accrual- vs. Cash-Basis Accounting

During 2006, Crown Consulting billed its client for \$48,000. On December 31, 2006, it had received \$41,000, with the remaining \$7,000 to be received in 2007. Total expenses during 2006 were \$31,000 with \$3,000 of these costs not yet paid at December 31. Determine net income under both methods.

Crown Consulting

Reported Income for 2006

Learning Objective 2
• Explain the need for adjusting entries and make adjusting entries for unrecorded receivables, unrecorded liabilities, prepaid expenses, and unearned revenues.
• Each adjusting entry always involves at least one income statement account and one balance sheet account.

Unrecorded Receivables

Unrecorded Liabilities

Prepaid Expenses

Unearned Revenues

Define Each of These Common Adjusting Entries
Example: Unrecorded Receivables

Bullseye Management earns a rent revenue of \$500 in 2006 but will not receive the payment until January 10, 2007. An adjustment will be needed. What is the adjusting entry?

Rent Receivable

Rent Revenue

Original entry none none

Correct balances 500 500

Example: Unrecorded Liabilities

MoneyTree Inc. is assessed property taxes of \$1,000 for 2006, but will not make this payment until January 5, 2007. An adjustment will be needed. What is the adjusting entry?

Property Tax

Expense

Property Tax Payable

Original entry none none

Correct balances 1,000 1,000

Example: Prepaid Expenses

On July 1, 2006, I Think I Can Inc. pays \$3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. What is the adjusting entry?

Rent Expense

Prepaid Rent

Cash

Original entry 3,600 3,600

Correct balances 1,800 1,800

Example: Unearned Revenues

On July 1, 2006, Clean As A Whistle Co. received \$3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. What is the adjusting entry?

Unearned Rent

Rent Revenue

Cash

Original entry 3,600 3,600

Correct balances 1,800 1,800

Learning Objective 3
• Explain the preparation of the financial statements, the explanatory notes, and the audit report.
PreparingFinancial Statements
• Prepared directly from the data in the adjusted ledger accounts.
• Explanatory notes clarify the methods and assumptions.
• The auditor reviews the statements with GAAP.
Using a Work Sheet
• What Is a Work Sheet?

How Does It Work?

Learning Objective 4
• Complete the closing process in the accounting cycle.
nominal or

temporary

accounts

real (permanent) account

Closing Entries Identify Nominal and Real Accounts

Dec. 31 Sales Revenue. . . . . . . . . . . 1,500

Rent Revenue. . . . . . . . . . . . 100

Cost of Goods Sold . . . . . 1,100

Salaries Expense. . . . . . . 200

Other Expenses . . . . . . . . 150

Retained Earnings . . . . . . 150

Step 1. Close all revenue accounts by debiting them.

Sales Revenue. . . . . . . . . 15,000

Retained Earnings . . . . 15,000

Step 2. Close all expense accounts by crediting them.

Retained Earnings. . . . . . . 13,600

Cost of Goods Sold. . . . 12,800

Insurance Expense. . . . 500

Supplies Expense. . . . . 300

Make All Three Dividends Entries for \$200

Declaration of Dividends:

Payment of Dividends:

Closing Entry for Dividends:

Revenues

xxx

Bal. xxx

Revenues

Since the revenues account is a nominal account, it is closed at the end of the period to Retained Earnings.

Expenses

Bal. xxx

The Closing Process Revenues

RetainedEarnings

Beg. Bal. xxx

Dividends

Bal. xxx

Revenues

xxx

Bal. xxx

Expenses

The expenses account is also a nominal account and is debited to Retained Earnings to close it.

Expenses

xxx

Bal. xxx

The Closing Process Expenses

RetainedEarnings

Beg. Bal. xxx

Revenues

Dividends

Bal. xxx

Revenues

xxx

Bal. xxx

The dividends account, which is also nominal, is credited to close out the balance.

Dividends

Expenses

Bal. xxx

xxx

xxx

The Closing Process Dividends

RetainedEarnings

Beg. Bal. xxx

Revenues

Expenses

Dividends

Bal. xxx

Revenues

xxx

Bal. xxx

Retained Earnings is a real account and always carries a balance.

End. Bal. xxx

Net income for the period is determined by these two entries.

Expenses

Bal. xxx

xxx

The Closing Process

RetainedEarnings

Beg. Bal. xxx

Revenues

Expenses

Dividends

Dividends

Bal. xxx

xxx

Post-Closing Trial Balance
• Optimal last step.
• Information taken from the General Ledger after all closing entries are posted.
• Lists all real account balances at the end of the closing process.
• Assures that total debits equal total credits prior to the beginning of the new accounting period.
• Only real accounts will have a balance at this time.
Example: Post-ClosingTrial Balance

Three Monkeys Inc.

Post-Closing Trial Balance

December 31, 2006

Debits Credits

Cash \$ 8,200

Accounts Receivable 4,000

Inventory 3,000

Supplies 1,000

Accounts Payable \$ 5,000

Capital Stock 10,000

Retained Earnings ______ 1,200

Totals \$16,200 \$16,200

Learning Objective 6
• Understand how all the steps in the accounting cycle fit together.
Summary of theAccounting Cycle
• Financial statements:
• Result from the accounting cycle.
• Provide useful information to investors, creditors, and other users.
• Are included in the annual reports provided to stockholders.
• Can be analyzed and compared to statements of similar firms to detect strengths and weaknesses.
Learning Objective 7Expanded Material
• Make adjusting entries for prepaid expenses and unearned revenues when the original cash amounts are recorded as expenses and revenues.
Example: Prepaid Expenses

On July 1, 2006, Time Flies Company pays \$3,600 for one year’s rent in advance (covering July 1, 2002, to June 30, 2007). On December 31, 2006, an adjustment will be needed. What is the adjusting entry using the expense approach?

Prepaid Rent

Cash

Rent Expense

Original entry 3,600 3,600

Correct balances 1,800 1,800

Unearned Rent

Rent Revenue

Cash

Example: Prepaid Expenses

On July 1, 2006, Pot Of Gold Inc. pays the Rainbow Company \$3,600 for one year’s rent in advance (covering July 1, 2006, to June 30, 2007). On December 31, 2006, an adjustment will be needed. Use the revenue approach.

Original entry 3,600 3,600

Correct balances 1,800 1,800

"Things which

matter most

must never be

at the mercy

of things which

matter least."