Completing the Accounting Cycle Chapter 4 HORNGREN ♦ HARRISON ♦ BAMBER ♦ BEST ♦ FRASER ♦ WILLETT

4 - 2 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objectives 1.Prepare an accounting work sheet. 2.Use the work sheet to complete the accounting cycle. 3.Close the revenue, expense and drawings accounts. 4.Classify assets and liabilities as current or non-current. 5.Use the current and debt ratios to evaluate a business’s ability to pay its debts

4 - 3 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Prepare an accounting work sheet. Objective 1

4 - 4 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Accounting Cycle l The accounting cycle is the process by which accountants prepare financial statements for an entity for a specific period of time.

4 - 5 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Accounting Cycle l For a new business, begin by setting up ledger accounts.. l For an established business, begin with account balances carried over from the previous period.

4 - 6 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Accounts Receivable 1,350 Accounts Receivable 1,700 Service Revenue 1,700 Accounts Receivable 1,350 1,700 3,050 Accounts Receivable 1,350 1,700 The Accounting Cycle

4 - 7 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Work Sheet Cash Accounts receivable 12,100 3,050 Statement of Financial Position Statement of Financial Performance The Accounting Cycle

4 - 8 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Postclosing Trial Balance Cash Accounts receivable 12,100 3,050 Adjusting entriesClosing entries Cash Accounts Receivable 12,1003,050 The Accounting Cycle

4 - 9 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Accounting Work Sheet l What is the work sheet? l A work sheet is a multi-columned document used by accountants to help move data from the trial balance to the financial statements. l It is an internal document.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Adjusted Trial Balance Adjustments Trial Balance Account Title Dr. Cr. Dr. Cr. Dr. Cr. Cash Accounts receivable Supplies Equipment Accum. depreciation Accounts payable Salary payable Unearned revenue Capital Drawings Revenue Salary expense Supplies expense Depreciation expense Totals 12,100 1, ,500 1,000 12,000 42,200 7,500 1,200 1,100 1,500 7,200 23,700 42,200 The Accounting Work Sheet

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Accounting Work Sheet aThe company has earned revenue of $1,700 which will be collected next month. bInventory of supplies at month end totaled $150. cDepreciation for the period was calculated as $200.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Adjusted Trial Balance Adjustments Trial Balance Account Title Dr. Cr. Dr. Cr. Dr. Cr. Cash Accounts receivable Supplies Equipment Accum. depreciation Accounts payable Salary payable Unearned revenue Capital Drawings Revenue Salary expense Supplies expense Depreciation expense Totals 12,100 1, ,500 1,000 12,000 42,200 7,500 1,200 1,100 1,500 7,200 23,700 42,200 a) 1,700 b) 100 c) 200 2,000 b) 100 c) 200 a) 1,700 2,000 12,100 3, ,500 1,000 12, ,100 7,700 1,200 1,100 1,500 7,200 25,400 44,100 The Accounting Work Sheet

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Adjusted Income Balance Trial Balance Statement Sheet Account Title Dr. Cr. Dr. Cr. Dr. Cr. Cash Accounts receivable Supplies Equipment Accum. depreciation Accounts payable Salary payable Unearned revenue Capital Drawings Revenue Salary expense Supplies expense Depreciation expense Totals 7,700 1,200 1,100 1,500 7,200 25,400 44,100 12,10 0 3, ,50 0 1,000 12, , ,10 0 3, ,50 0 1,000 31,80 0 7,700 1,200 1,100 1,500 7,200 18,700 The Accounting Work Sheet

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Adjusted Income Balance Trial Balance Statement Sheet Account Title Dr. Cr. Dr. Cr. Dr. Cr. Cash Accounts receivable Supplies Equipment Accum. depreciation Accounts payable Salary payable Unearned revenue Capital Drawings Revenue Salary expense Supplies expense Depreciation expense Totals 7,700 1,200 1,100 1,500 7,200 25,400 44,100 12,10 0 3, ,50 0 1,000 12, , ,10 0 3, ,50 0 1,000 31,80 0 7,700 1,200 1,100 1,500 7,200 18,700 12, ,300 25,400 The Accounting Work Sheet

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Adjusted Income Balance Trial Balance Statement Sheet Account Title Dr. Cr. Dr. Cr. Dr. Cr. Cash Accounts receivable Supplies Equipment Accum. depreciation Accounts payable Salary payable Unearned revenue Capital Drawings Revenue Salary expense Supplies expense Depreciation expense Totals Net profit 7,700 1,200 1,100 1,500 7,200 25,400 44,100 12,10 0 3, ,50 0 1,000 12, , ,10 0 3, ,50 0 1,000 31,80 0 7,700 1,200 1,100 1,500 7,200 18,700 13,100 31,800 12, ,300 13,100 25,400 The Accounting Work Sheet

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Use the work sheet to complete the accounting cycle. Objective 2

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The work sheet helps identify the accounts that need adjustments. Actual adjustment of the accounts requires journalising and posting the entries. Recording the Adjusting Entries

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Recording the Adjusting Entries l The adjusting entries may be recorded in the journal when they are entered on the work sheet. l Many accountants journalise and post the adjusting entries just before they make the closing entries.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Close the revenue, expense, and drawings accounts. Objective 3

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Closing the Accounts l Closing the accounts is the end of period process that prepares the accounts for recording transactions during the next period.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Closing Entries Revenues increase Owner’s Equity. Revenues increase Owner’s Equity. Expenses and Drawings decrease Owner’s Equity. Expenses and Drawings decrease Owner’s Equity. Closing the Accounts

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Closing the Accounts l Revenues and Expense accounts are closed to Profit and Loss Summary. l Profit and Loss Summary is closed to Capital. l Drawings are closed to Capital. l In a company, Dividends are closed to Retained Profits.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Profit and Loss Summary A credit balance represents net profit. A debit balance represents net loss. Closing the Accounts

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Revenue P & L Summary 12,000 7,500 9,000 Salary Exp 3,300 28,500 1,500 1,800 4,450 28,500 Rent Exp 800 Supplies Exp ,050 (Close Revenue Account) (Close Expense Accounts) (Close P & L Summary) Drawings 2,500 Capital Account (Close Drawings Account) Closing the Accounts

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Post-closing Trial Balance l The accounting cycle ends with the postclosing trial balance. l The postclosing trial balance is dated as of the end of the period for which the statements have been prepared.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Permanent Accounts l What accounts never close? – Assets – Liabilities – Owner’s equity l Balances of permanent accounts carry over to the next period.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Classify assets and liabilities as current or non-current. Objective 4

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Liquidity l This is a measure of how quickly an item can be converted into cash. l On the statement of financial position, assets and liabilities are classified as either current or non-current to indicate their relative liquidity.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Current Assets l Current assets are cash, or will be converted to cash, in one year (or within the normal business operating cycle). l What are some other examples? – short-term receivables – inventory – prepaid expenses

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Current Liabilities l Current liabilities are debts or obligations due within one year or within the operating cycle. l What are some examples? – accounts and salary payables – short-term bills payable – unearned revenue

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Non-current Assets and Liabilities l Non-current assets include all other assets. – property, equipment, and intangibles l Non-current liabilities are all other debts due in longer than one year (or the entity’s operating cycle).

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Debit side Current assets Non-current assets Credit side Current liabilities Non-current liabilities Listed in the order of decreasing liquidity Listed in the order of decreasing liquidity Listed in the order of how soon they must be paid Listed in the order of how soon they must be paid The Classified Statement of Financial Position

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Assets Liabilities Current assets: Current liabilities: Cash12,100Accounts payable 1,200 Accounts receivable 3,050Salary payable 1,100 Supplies 150Unearned revenue 1,500 Total current assets15,300 Total liabilities 3,800 Non-current assets Owner’s equity Equipment15,500 Capital19,300 Less Accum. deprec. 7,700 7,800 Total liabilities and Total assets23,100owner’s equity23,100 XYZ Services June 30, 2005 The Classified Statement of Financial Position See exhibit 4-12 (MYOB) page 151 of the textbook

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Report Format Assets = Liabilities + Owner’s Equity Account Format Assets = Liabilities + Owner’s Equity Different Formats of Statements of Financial Position

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Use the current and debt ratios to evaluate a business’s ability to pay its debts. Objective 5

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Comparative Financial Statements l They enhance the user’s ability to analyse a company’s past performance. l What are two common ratios used to measure liquidity? 1 Current ratio 2 Debt ratio

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Current ratio = Current assets ÷ Current liabilities Current Ratio l This measures the ability of a business to pay its current liabilities with its current assets.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Total liabilities ÷ Total assets Debt Ratio l It indicates the proportion of a business’s assets that are financed with debt. l It measures their ability to pay both current and long-term debt.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Trend Analysis l Decision makers compare various ratios over a period of time.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia End of Chapter 4