1 4 Completing the Accounting Cycle

2 After studying this chapter, you should be able to: Completing the Accounting Cycle 1 Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements. 2 Prepare financial statements from adjusted account balances. 3 Prepare closing entries. 4-2 After studying this chapter, you should be able to: 4 Describe the accounting cycle.

Completing the Accounting Cycle (continued) 5 Illustrate the accounting cycle for one period. 6 Explain what is meant by the fiscal year and the natural business year.

Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements.

End-of-Period Spreadsheet (Work Sheet) Exhibit 1

Spreadsheet (Work Sheet) Trial Balance AccountsDrCrDrCrDrCr AdjustmentsAdjusted TB Accounts are listed in the Trial Balance column using the ending balance found in the general ledger. Flow of Accounting Information 1

Flow of Accounting Information Spreadsheet (Work Sheet) Trial Balance AccountsDrCrDrCrDrCr AdjustmentsAdjusted TB Adjustments are entered here. Two possibilities: 1. Deferrals – Existing balances are changed. 2. Accruals – New information is entered. 1

Adjustments are combined with the trial balance. Account balances are now adjusted. Trial Balance AccountsDrCrDrCrDrCr AdjustmentsAdjusted TB Spreadsheet (Work Sheet) Flow of Accounting Information 1

Revenue and expense balances in the Adjusted Trial Balance column are extended to the Income Statement column. Adjusted TB AccountsDrCrDrCrDrCr Income State.Balance Sheet Spreadsheet (Work Sheet) Flow of Accounting Information 1

Asset, liability, capital stock, and dividends balances in the Adjusted Trial Balance column are extended to the Balance Sheet column. Adjusted TB AccountsDrCrDrCrDrCr Spreadsheet (Work Sheet) Flow of Accounting Information 1 Income State.Balance Sheet

The balances for the accounts listed below appear in the Adjusted Trial Balance columns of the end-of- period spreadsheet (work sheet). Indicate whether each balance should be extended to (a) an Income Statement column or (b) a Balance Sheet column. 1.Dividends 2.Utilities Expense 3.Accumulated Depreciation—Equipment 4.Unearned Rent 5.Fees Earned 6.Accounts Payable 7.Rent Revenue 8.Supplies 4-11 Example Exercise Flow of Accounts into Financial Statements

Balance Sheet column 2.Income Statement column 3.Balance Sheet column 4.Balance Sheet column 5.Income Statement column 6.Balance Sheet column 7.Income Statement column 8.Balance Sheet column 1 Example Exercise 4-1 (continued) 4-12 For Practice: PE 4-1A, PE 4-1B Follow My Example 4-1

Prepare financial statements from adjusted account balances

The income statement is prepared directly from the Income Statement or Adjusted Trial Balance columns of the spreadsheet (work sheet). 2

to retained earnings statement 2 Financial Statements Prepared from Work Sheet Exhibit 2

In the Balance Sheet columns of the end-of-period spreadsheet (work sheet) for Dimple Consulting Co. for the current year, the Debit column total is $678,450, and the Credit column total is $599,750 before the amount of net income or net loss has been included. In preparing the income statement from the end-of-period spreadsheet (work sheet), what is the amount of net income or net loss? 4-16 Example Exercise Determining the Net Income from End-of-Period Spreadsheet

Example Exercise 4-2 (continued) A net income of $78,700 ($678,450 – $599,750) would be reported. When the Debit column of the Balance Sheet columns is more than the Credit column, net income is reported. If the Credit column exceeds the Debit column, a net loss is reported For Practice: PE 4-2A, PE 4-2B Follow My Example 4-2

The first item presented on the retained earnings statement is the balance of the Retained Earnings account at the beginning of the period. 2 Retained Earnings Statement

from the income statement to the balance sheet 2 Financial Statements Prepared from Work Sheet (continued) Exhibit 2

Zack Gaddis owns and operates Gaddis Employment Services. On January 1, 2009, Retained Earnings had a balance of $186,000. During the year, an additional $40,000 of capital stock was issued for cash and dividends of $25,000 were paid. For the year ended December 31, 2009, Gaddis Employment Services reported a net income of $18,750. Prepare a retained earnings statement for the year ended December 31, Example Exercise Retained Earnings Statement

Example Exercise 4-3 (continued) Retained earnings, January 1, 2009$186,000 Dividends$ 25,000 Less net income 18,750 Decrease in retained earnings 6,250 Retained earnings, December 31, 2009$179, For Practice: PE 4-3A, PE 4-3B GADDIS EMPLOYMENT SERVICES RETAINED EARNINGS STATEMENT For the Year Ended December 31, 2009 Follow My Example 4-3

The balance sheet is prepared directly from the Balance Sheet or Adjusted Trial Balance columns of the spreadsheet (or work sheet). 2

A classified balance sheet is a balance sheet that was expanded by adding subsections for current assets; property, plant, and equipment; and current liabilities. 2 Balance Sheet

Cash and other assets that are expected to be converted into cash, sold or used up usually within a year or less, through the normal operations of the business, are called current assets. Cash Accounts Receivable Supplies 2

Notes receivable are written promises by the customer to pay the amount of the note and possibly interest at an agreed rate. 2

Property, plant, and equipment (also called fixed assets) include assets that depreciate over a period of time. Land is an exception as it is not subject to depreciation. Equipment Machinery Buildings Land 2

Liabilities that will be due within a short time (usually one year or less) and that are to be paid out of current assets are called current liabilities. Accounts payable Wages payable Interest payable Unearned fees 2

Liabilities not due for a long time (usually more than one year) are long-term liabilities. Notes payable Mortgage payable Bond payable 2

Stockholders’ equity is the stockholders’ right to the assets of the business. The stockholders’ equity consists of capital stock and retained earnings. The stockholders’ equity is added to the total liabilities, and the total must be equal to the total assets. 2

from the retained earnings statement 2 Financial Statements Prepared from Work Sheet (continued) Exhibit 2

The following accounts appear in the adjusted trial balance of Hindsight Consulting. Indicate whether each account would be reported in the (a) current asset; (b) property, plant, and equipment; (c) current liability; (d) long-term liability; or (e) stockholders’ equity section of the December 31, 2009 balance sheet of Hindsight Consulting. 1.Capital Stock5.Cash 2.Notes Receivable (due 6.Unearned Rent in 6 months)7. Accumulated Depr.— 3.Notes Payable (due in Equipment 2011)8.Accounts Payable 4.Land Example Exercise Classified Balance Sheet

Example Exercise 4-4 ( continued) Follow My Example Stockholders’ equity 2. Current asset 3. Long-term liability 4. Property, plant, and equipment 5.Current asset 6.Current liability 7. Property, plant, and equipment 8. Current liability 4-32 For Practice: PE 4-4A, PE 4-4B Follow My Example 4-4

Prepare closing entries

Accounts that are relatively permanent from year to year are called real accounts. Accounts that report amounts for only one period are called temporary accounts or nominal accounts. 3 Closing Entries

To report amounts for only one period, temporary accounts should have zero balances at the beginning of the period. At the end of the period the revenue and expense account balances are transferred to Income Summary. 3 Closing Entries

The balance of Income Summary is then transferred to Retained Earnings. The balance of the Dividends account is also transferred to Retained Earnings. The entries that transfer these balances are called closing entries. 3 Closing Entries

The Closing Process Exhibit 3

Debit each revenue account for the amount of its balance, and credit Income Summary for the total revenue. Fees Earned Bal. 16,840 Rent Revenue Bal. 120 Income Summary 16, ,960 3 Flowchart of Closing Entries for NetSolutions (continued) Exhibit 4

Wages Expense Rent Expense Depreciation Expense Utilities Expense Supplies Expense Insurance Expense Bal. 200 Miscellaneous Expense Bal. 455 Income Summary Debit Income Summary for the total expenses and credit each expense account for its balance. 16,960 Bal. 4,525 Bal. 1,600 Bal. 50 Bal. 985 Bal. 2,040 9, , ,600 4,525 3 Flowchart of Closing Entries for NetSolutions (continued) Exhibit 4

Retained Earnings Bal.0 Dividends Bal.4,000 Income Summary 16,960 9,855 7,105 Debit Income Summary for the amount of its balance (in this case, the net income) and credit Retained Earnings. 3 Flowchart of Closing Entries for NetSolutions (continued) Exhibit 4

Retained Earnings Bal. 25,000 7,105 Dividends Bal.4,000 4,000 Debit Retained Earnings for the balance of the dividends account, and credit the dividends account. 3 Flowchart of Closing Entries for NetSolutions (continued) Exhibit 4

Exhibit 4 Flowchart of Closing Entries for NetSolutions (summary) Stockholders ’ Equity

Closing Entries for NetSolutions Step 2 Step 3 Step 1 Step 4 Exhibit 5

After the closing entries are posted, all of the temporary accounts have zero balances. 3 Closing Entries

Ledger for NetSolutions (continued) Exhibit 6

Ledger for NetSolutions (continued) 3 Exhibit 6

Ledger for NetSolutions (continued) Exhibit 6

Ledger for NetSolutions (concluded) Exhibit 6

After the accounts have been adjusted at July 31, the end of the fiscal year, the following balances are taken from the ledger of Cabriolet Services Co. Retained Earnings$615,850 Dividends25,000 Fees Earned380,450 Wages Expense250,000 Rent Expense65,000 Supplies Expense18,250 Miscellaneous Expense6,200 Journalize the four entries required to close the accounts. Example Exercise Closing Entries 4-49

Example Exercise 4-5 (continued) July 31Fees Earned……………………………..380,450 Income Summary………………….380,450 31Income Summary………………………339,450 Wages Expense……………………250,000 Rent Expense………………………65,000 Supplies Expense…………………18,250 Miscellaneous Expense………….6,200 31Income Summary……………………….41,000 Retained Earnings…...……………41,000 31Retained Earnings………………………25,000 Dividends……………….…………..25, For Practice: PE 4-5A, PE 4-5B Follow My Example 4-5

A post-closing trial balance is prepared after the closing entries have been posted. The purpose of the PCTB is to verify that the ledger is in balance at the beginning of the next period. 3 Post-Closing Trial Balance

Post-Closing Trial Balance Exhibit 7

Describe the accounting cycle

The accounting process that begins with analyzing and journalizing transactions and ends with preparing the accounting records for the next period’s transactions is called the accounting cycle. There are ten steps in the accounting cycle. 4

Transactions are posted to the ledger. 3.An unadjusted trial balance is prepared. 4.Adjustment data are assembled and analyzed. 5.An optional end-of-period spreadsheet (work sheet) is prepared. 1.Transactions are analyzed and recorded in the journal. (continued) Accounting Cycle 4

An adjusted trial balance is prepared. 8.Financial statements are prepared. 9.Closing entries are journalized and posted to the ledger. 10.A post-closing trial balance is prepared. 6.Adjusting entries are journalized and posted to the ledger. Accounting Cycle (continued) 4

From the following list of steps in the accounting cycle, identify what two steps are missing. a.Transactions are analyzed and recorded in the journal. b.Transactions are posted to the ledger. c.Adjustment data are assembled and analyzed. d.An optional end-of-period spreadsheet (work sheet) is prepared. e.Adjusting entries are journalized and posted to the ledger. f.Financial statements are prepared. g.Closing entries are journalized and posted to the ledger. h.A post-closing trial balance is prepared. Example Exercise Accounting Cycle

The following two steps are missing: (1) the preparation of an unadjusted trial balance and (2) the preparation of the adjusted trial balance. The unadjusted trial balance should be prepared after step (b). The adjusted trial balance should be prepared after step (e). 4 Example Exercise 4-6 (continued) 4-58 For Practice: PE 4-6A, PE 4-6B Follow My Example 4-6

Illustrate the accounting cycle for one period. 4-59

Journal entries for April, Kelly Consulting, P.C. (continued) Exhibit 9

Journal entries for April, Kelly Consulting, P.C. (concluded) Exhibit 9

Unadjusted Trial Balance, Kelly Consulting Exhibit 10

End-of-Period Spreadsheet (Work Sheet) Exhibit

Adjusting Entries, Kelly Consulting, P.C. Exhibit 12

Adjusted Trial Balance, Kelly Consulting, P.C. Exhibit 13

Financial Statements, Kelly Consulting, P.C. (continued) Exhibit 14

Exhibit 14 Financial Statements, Kelly Consulting, P.C. (continued)

Exhibit 14 5 Financial Statements, Kelly Consulting, P.C. (concluded)

Closing Entries, Kelly Consulting, P.C.Exhibit 15

Post-Closing Trial Balance, Kelly Consulting, P.C. Exhibit 16

Ledger, Kelly Consulting, P.C. (continued) Exhibit 17

Ledger, Kelly Consulting, P.C. (continued) Exhibit 17

Ledger, Kelly Consulting, P.C. (continued) Exhibit 17

Ledger, Kelly Consulting, P.C. (continued) Exhibit 17

Ledger, Kelly Consulting, P.C. (concluded) Exhibit 17

Explain what is meant by the fiscal year and the natural business year. 4-76

The annual accounting period adopted by a business is known as its fiscal year. When a business adopts a fiscal year that ends when business activities have reached the lowest point in its annual operation, such a fiscal year is also called the natural year. 6 Fiscal Year

Financial History of a Business 6

Appendix 1: End-of-Period Spreadsheet (Work Sheet) 4-79

Account TitleDebitCreditDebitCreditDebitCredit The unadjusted trial balance is checked for equality. Trial Balance Adjustments Trial Balance Adjusted Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Adjustments Trial Balance Adjusted 4-81 Supplies needs adjusting Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600

Account TitleDebitCreditDebitCreditDebitCredit (a) 1,240 Trial Balance Adjustments Trial Balance Adjusted 4-82 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 (a) Cost of supplies on hand at December 31 is $760.

Account TitleDebitCreditDebitCreditDebitCredit (b) 200 Trial Balance Adjustments Trial Balance Adjusted 4-83 (a) 1,240 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 (a) 1,240 (b) The insurance expense for December is $200 ($2,400 ÷ 12).

Account TitleDebitCreditDebitCreditDebitCredit (c) 120 Trial Balance Adjustments Trial Balance Adjusted 4-84 (b) 200 (a) 1,240 (b) 200 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 (a) 1,240 (c) Rent revenue earned during December was $120.

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Adjustments Trial Balance Adjusted 4-85 (b) 200 (a) 1,240 (b) 200 (c) 120 (d) 500 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 (a) 1,240 (d) Fees accrued at the end of December, but not recorded, totaled $500.

Account TitleDebitCreditDebitCreditDebitCredit (e) 250 Trial Balance Adjustments Trial Balance Adjusted 4-86 (b) 200 (a) 1,240 (d) 500 (b) 200 (c) 120 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 (d) 500 (e) 250 (a) 1,240 ( (e) Wages accrued but not paid at the end of December totaled $250.

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Adjustments Trial Balance Adjusted 4-87 (b) 200 (a) 1,240 (d) 500 (c) 120 (d) 500 (f) 50 (b) 200 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 (e) 250 (a) 1,240 (e) 250 (f) Depreciation of office equipment is $50 for December.

Account TitleDebitCreditDebitCreditDebitCredit ,360 Trial Balance Adjustments Trial Balance Adjusted 4-88 (b) 200 (a) 1,240 (d) 500 (c) 120 (f) 50 (b) 200 (a) 1,240 (e) 250 (d) 500 Cash2,065 Accounts Receivable2,220 Supplies2,000 Prepaid Insurance2,400 Land20,000 Office Equipment1,800 Accumulated Depr. Accounts Payable900 Wages Payable Unearned Rent360 Capital Stock25,000 Dividends4,000 Fees Earned16,340 Rent Revenue Wages Expense4,275 Rent Expense1,600 Depreciation Expense Utilities Expense985 Supplies Expense800 Insurance Expense Miscellaneous Exp.45542,600 Summed and ruled (f) 50

The next step is to add or subtract the adjustments from (to) the amounts found in the Unadjusted Trial Balance columns and enter the results in the Adjusted Trial Balance columns.

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Adjustments Trial Balance Adjusted ,360 (b) 200 (a) 1,240 (d) 500 (c) 120 (d) 500 (f) 50 (b) 200 (a) 1,240 (e) 250 Cash2,0652,065 Accounts Receivable2,2202,720 Supplies2, Prepaid Insurance2,4002,200 Land20,00020,000 Office Equipment1,8001,800 Accumulated Depr.50 Accounts Payable Wages Payable250 Unearned Rent Capital Stock25,00025,000 Dividends4,0004,000 Fees Earned16,34016,840 Rent Revenue120 Wages Expense4,2754,525 Rent Expense1,6001,600 Depreciation Expense50 Utilities Expense Supplies Expense8002,040 Insurance Expense200 Miscellaneous Exp ,60042,600 43,40043,400 (f) 50

Because of space constraints, the Unadjusted Trial Balance and the Adjustments columns will not be shown in the following slides.

The next step is to extend amounts in the Adjusted Trial Balance columns to the Income Statement and Balance Sheet columns.

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Income Statement Balance Sheet Adjusted 4-93 Cash2,0652,065 Accounts Receivable2,2202,720 Supplies2, Prepaid Insurance2,4002,200 Land20,00020,000 Office Equipment1,8001,800 Accumulated Depr.50 Accounts Payable Wages Payable250 Unearned Rent Capital Stock25,00025,000 Dividends4,0004,000 Fees Earned16,34016,840 Rent Revenue120 Wages Expense4,2754,525 Rent Expense1,6001,600 Depreciation Expense5050 Utilities Expense Supplies Expense8002,040 Insurance Expense200 Miscellaneous Exp ,600

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Income Statement Balance Sheet Adjusted The four columns are summed Cash2,0652,065 Accounts Receivable2,2202,720 Supplies2, Prepaid Insurance2,4002,200 Land20,00020,000 Office Equipment1,8001,800 Accumulated Depr.50 Accounts Payable Wages Payable250 Unearned Rent Capital Stock25,00025,000 Dividends4,0004,000 Fees Earned16,34016,840 Rent Revenue120 Wages Expense4,2754,525 Rent Expense1,6001,600 Depreciation Expense5050 Utilities Expense Supplies Expense8002,040 Insurance Expense200 Miscellaneous Exp ,60042,6009,85516,96033,54526,440

,85516,96033,54526,4407,105 16,96016,96033,54533,545 Income Statement Balance Sheet Net Income The difference between the Income Statement columns totals is the net income (or net loss) for the period.

Account TitleDebitCreditDebitCreditDebitCredit Trial Balance Income Statement Balance Sheet Adjusted Cash2,0652,065 Accounts Receivable2,2202,720 Supplies2, Prepaid Insurance2,4002,200 Land20,00020,000 Office Equipment1,8001,800 Accumulated Depr.50 Accounts Payable Wages Payable250 Unearned Rent Capital Stock25,00025,000 Dividends4,0004,000 Fees Earned16,34016,840 Rent Revenue120 Wages Expense4,2754,525 Rent Expense1,6001,600 Depreciation Expense5050 Utilities Expense Supplies Expense8002,040 Insurance Expense200 Miscellaneous Exp ,60042,6009,85516,96033,54526,440 Net income7,105 7,105 16,96016,96033,54533,