AC113 Seminar Unit 4 – Chapter 3

Basic Accrual Accounting Concepts Transactions… are recorded as they occur. are recorded even if cash is not paid or received. affect the accounting equation (A=L+OE).

Accrual Basis Revenue is recognized (recorded) when earned. Liabilities are recognized when the obligation is incurred.

Matching Principle When revenues are earned and recorded, all expenses incurred in generating the revenues must also be recorded. Matching subtracts expenses incurred from revenues earned to arrive at Net Income or Net Loss.

The Adjustment Process Necessary to match revenues and expenses – application of the matching concept. Completes the information necessary for financial statement preparation.

Deferrals Created by recording a transaction in a way that delays the recognition of an expense or a revenue. Examples: Prepaid/deferred expenses Unearned/deferred revenues

Accruals Created when a revenue or expense has been earned or incurred, but has not been recorded at the end of an accounting period. Examples: Accrued expenses/liabilities Accrued revenues/assets

Deferrals and Accruals

Accrual Basis Accounting Enhances interpretation of financial statements by following a standard set of rules (GAAP) for recording and reporting. Is a better predictor of long-term profitability. Required for publicly held corporations.

Cash Basis Accounting Transactions are recorded when cash is paid or received. Used by individuals and small businesses.

Accrual Accounting Uses the Accounting Cycle Basic steps of the accounting cycle: Identifying, analyzing, and recording the effects of transactions on the accounting equation. Identifying, analyzing, and recording adjustment data. Preparing financial statements.

Adjustments: Exercise 3-8, pg. 112 Given: The balance in the supplies account, before adjustment at the end of the year, is $1,850. What is the amount of the adjustment if the amount of supplies on hand at the end of the year is $675?

Exercise 3-8, pg. 112 (cont.) When we purchase supplies, our supplies account increases. The problem tells us that the balance in the account is $1,850. However, a physical inventory of supplies reveals that only $675 worth of supplies are still on hand. What does this mean?

Exercise 3-8, pg. 112 (cont.) The $675 of supplies still on hand are the supplies that have not been used. The difference between the $1,850 balance and the $675 still on hand is $1,175. What do you think might have happened to the $1,175 worth of supplies???

Exercise 3-8, pg. 112 (cont.) They were used in the business! So, our adjustment will be to move $1,175 out of supplies (asset) and into supplies expense.

Exercise 3-8, pg. 112 (cont.) Part B, Given: The supplies account has a balance of $380, and the supplies expense account has a balance of $1,560 at December 31, 2009. If 2009 was the first year of operations, what was the amount of supplies purchased during the year?

Exercise 3-8, pg. 112 (cont.) Basic Formula Beginning Inventory + Purchases Supplies available for use Ending inventory Supplies used during the year

Exercise 3-8, pg. 112 (cont.) Fill in the blanks $0 (because this is the first year of operations) + ??????? (this is the number we are looking for) Supplies available for use $380 $1,560

Exercise 3-8, pg. 112 (cont.) $1,560 + $380 = $1,940 – supplies available for use. Because we started with a beginning inventory of $0, the $1,940 must have been purchased during the current accounting period.

Exercise 3-29, pg. 115 Here we are asked to prepare a classified balance sheet. Let’s revisit a balance sheet. What type of items do we include on a balance sheet?

Exercise 3-29, pg. 115 (cont.) Assets = Liabilities + Stockholders’ Equity Now, what might a classified balance sheet mean?

Exercise 3-29, pg. 115 (cont.) A classified balance sheet basically means that we will categorize (classify) our accounts into various categories. What are some of the classifications that we might use on a classified balance sheet?

Exercise 3-29, pg. 115 (cont.) Asset Categories: Current Assets – assets expected to be converted to cash, sold, or used up in one year or less. Fixed Assets – long-term physical assets to be used in the business to generate revenue. Intangible Assets – long-term assets lacking physical substance such as copyrights, patents, trademarks, and brand names.

Exercise 3-29, pg. 115 (cont.) Liabilities: Current Liabilities – liabilities that will be paid within one year. Long-Term Liabilities – liabilities that will be paid in longer than one year.

Exercise 3-29, pg. 115 (cont.) Which accounts should we include in the current assets section of our balance sheet? ***Hint: Assets that will turn to cash, be sold, or used up within one year.

Exercise 3-29, pg. 115 (cont.)

Exercise 3-29, pg. 115 (cont.) Which accounts should be part of our fixed assets? How about intangible assets? Do you see any intangible assets in the list?

Exercise 3-29, pg. 115 (cont.)

Exercise 3-29, pg. 115 (cont.) Which accounts should be part of current liabilities? How about long-term liabilties? How about stockholders’ equity?

Exercise 3-29, pg. 115 (cont.)

Questions Does anyone have additional questions?