Chapter 3 Lecture 06

Lecture Review Transactions Rules of Debit and Credit Journalizing Posting into Ledgers Balancing the Ledger Accounts Errors Correction of Errors horizontal Analysis

The Matching Concept and the Adjusting Process

1.Explain how the matching concept relates to the accrual basis of accounting. 2.Explain why adjustments are necessary and list the characteristics of adjusting entries. 3.Journalize entries for accounts requiring adjustment. 4.Summarize the adjustment process and prepare an adjusted trial balance. 5.Use vertical analysis to compare financial statement items with each other and with industry averages.

The Matching Concept

TWO METHODS Cash Basis of Accounting Accrual Basis of Accounting

Under the cash basis for the accounting period concept, revenues and expenses are reported in the income statement in the period in which cash is received or paid.

Under the accrual basis for the accounting period concept, revenues are reported in the income statement in the period in which they are earned.

Revenue reported when earned Expense reported when incurred Properly matches revenues and expenses in determining net income Requires adjusting entries at end of period Revenue reported when earned Expense reported when incurred Properly matches revenues and expenses in determining net income Requires adjusting entries at end of period

Paid $10,000 for an advertising campaign for a product that will be introduced in Sold the advertised product. Paid Rs.10,000 for an advertising campaign for a product that will be introduced in 2010.

Paid $10,000 for an advertising campaign for a product that will be introduced in Sold the advertised product. Paid Rs.10,000 for an advertising campaign for a product that will be introduced in 2010.

Opportunities Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Unadjusted trial balance

Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Inc. Trial Balance December 31, 2010 Assets

Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Inc. Trial Balance December 31, 2010 Liabilities

Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Trial Balance December 31, 2010 Owner’s Equity

Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Inc. Trial Balance December 31, 2010 Revenue

Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Inc. Trial Balance December 31, 2010 Expenses

Opportunities Inc. Chart of Accounts Balance Sheet Income Statement 1.Assets Cash Accounts Receivable Supplies Prepaid Insurance Land Office Equipment 2.Liabilities Accounts Payable Wages Payable Unearned Rent 3.Owner’s Equity Javid Iqbal, Capital Javid Iqbal, Drawing 4.Revenue Fees Earned Rent Revenue 5.Expenses Wages Expense Rent Expense Depreciation Expense Utilities Expense Supplies Expense Insurance Expense Miscellaneous Expense

Deferred Expenses (Prepaid Expenses)

Opportunities Inc. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense

Opportunities Inc. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Some of these supplies have been used. On December 31, a count reveals that Rs.760 of supplies are on hand.

Supplies Expense1 240 Supplies1 240 Supplies (balance on trial balance)Rs.2,000 Supplies on hand, December 31 – 760 Supplies used1,240 Dec Dec. 311,240 Supplies Bal. 2,000 Supplies Expense Bal.800 2,

Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Inc. Trial Balance December 31, 2010 The prepayment for 24 months of insurance does not reflect that December’s insurance has theoretically expired.

31Insurance Expense100 Prepaid Insurance100 Dec Prepaid Insurance Bal. 2,400 Insurance Expense 2,300

Deferred Revenue (Unearned Revenue)

Opportunities Inc. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense

Opportunities Inc. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Three months’ rent, Rs.360, was received on December 1. As of December 31, only Rs.120 has been earned.

31Unearned Rent120 Rent Revenue120 Dec Unearned Rent Bal.360 Rent Revenue 240

Accrued Expenses (Accrued Liabilities)

Opportunities Inc. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Chris Clark, Capital Chris Clark, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense

Opportunities Inc. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense At the end of December, accrued wages amounted to Rs.250. Currently, Wages Expense is understated and there is no liability shown for these wages.

31Wages Expense250 Wages Payable250 Dec Wages Payable Bal.4,275 Wages Expense

Effect of Omitting Adjustment

Accrued Revenues (Accrued Assets)

Opportunities In. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense

Opportunities In. Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 220 Supplies2 000 Prepaid Insurance2 400 Land Office Equipment1 800 Accounts Payable900 Unearned Rent360 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Wages Expense4 275 Rent Expense1 600 Utilities Expense985 Supplies Expense800 Miscellaneous Expense Opportunities Inc. provided Rs.500 in services during December for which the customer has not been billed.

31 Accounts Receivable500 Fees Earned500 Dec Accounts Receivable Bal.16,340 Fees Earned Bal.2,220 2,720 16,840

Fixed Assets

Land has an infinite life; therefore, it does not depreciate.

A building has a limited life, so it must be depreciated. The contra account used in the adjusting entry is Accumulated Depreciation—Building

Because equipment has a limited life, it depreciates. The contra account used is Accumulated Depreciation—Equipment

Accumulated Depreciation— Office Equipment50 Dec Depreciation Expense Dec Accumulated Depreciation— Office Equipment Depreciation Expense5031

Office equipment Rs.1,800 Less accumulated depreciation 50 Rs.1,750 Book value

Opportunities Inc.’ Adjusted Trial Balance for December 31, 2010

Opportunities Adjusted Trial Balance December 31, 2010 Cash2 065 Accounts Receivable2 720 Supplies760 Prepaid Insurance2 300 Land Office Equipment1 800 Accumulated Depreciation50 Accounts Payable900 Wages Payable250 Unearned Rent240 Javid Iqbal, Capital Javid Iqbal, Drawing4 000 Fees Earned Rent Revenue120 Wages Expense4 525 Rent Expense1 600 Utilities Expense985 Continued

Opportunities Inc. Trial Balance December 31, 2010 (Continued) Supplies Expense2 040 Insurance Expense100 Miscellaneous Expense

Vertical Analysis and Interpretation

Fees earnedRs.187,500Rs.150,000 Operating expenses: Wages expense60,00045,000 Rent expense15,00012,000 Utilities expense12,5009,000 Supplies expense2,7003,000 Miscellaneous exp. 2,300 1,800 Total operating expenses92,500 70,800 Net income95,00079,200 Amount Percent Amount Percent J. Holmes, Attorney-at-Law Income Statements For the Years Ended December 31, 2010 and 2010

Fees earnedRs.187, %Rs.150, % Operating expenses: Wages expense60,00045,000 Rent expense15,00012,000 Utilities expense12,5009,000 Supplies expense2,7003,000 Miscellaneous exp. 2,300 1,800 Total operating expenses92,500 70,800 Net income95,00079,200 Amount Percent Amount Percent

Fees earnedRs.187, %Rs.150, % Operating expenses: Wages expense60,000$45,000 Rent expense15,00012,000 Utilities expense12,5009,000 Supplies expense2,7003,000 Miscellaneous exp. 2,300 1,800 Total operating expenses92,50070,800 Net income95,00079, Amount Percent Amount Percent60,000187,50060,000187, % 8.0%

Fees earnedRs.187, %Rs.150, % Operating expenses: Wages expense60,00045,000 Rent expense15,00012,000 Utilities expense12,5009,000 Supplies expense2,7003,000 Miscellaneous exp. 2,300 1,800 Total operating expenses92,50070,800 Net income95,00079, Amount Percent Amount Percent 32.0% 8.0%

Fees earned187, %150, % Operating expenses: Wages expense60,00045, % Rent expense15,00012,0008.0% Utilities expense12,5009,0006.0% Supplies expense2,7003,0002.0% Miscellaneous exp. 2,300 1, % Total operating expenses92,50070, % Net income95,00079, % 6.7% 1.4% 1.2% 49.3% 50.7% Amount Percent Amount Percent 32.0% 8.0%

The End Chapter 3