Day One

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Reporting and Preparing Financial Statements

UAA – ACCT 201 Principles of Financial

Accounting Dr. Fred Barbee

Chap

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What Have We Learned?

I have some bad news . . .

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What Have We Learned?

I have some good news . . .

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We Have Learned . . .

The basic accounting equation - and the definition of each of its components

Assets =

Liabilities +

Owners’ Equity

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Double-entry accounting

Assets = Liabilities + Owners’

Equity

Debits=Credits

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The debit/credit rules and how each impacts accounting.

ssets

ncrease

ebits

xpenses

Debit = “Left” side of an account -

Nothing more, nothing less.Acronym:

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The debit/credit rules and how each impacts accounting.

redits

ncrease

iabilities

quity

evenue Credit = “Right” side of

an account - Nothing more, nothing less.

Acronym:


About the basic financial statements and how they interrelate.

IncomeStatement

Stmt of Retained Earnings

BalanceSheet

Net Income

Retained Earnings

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The first five steps in the accounting cycle.

Examine Source Documents

Analyze Transactions

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Record Transactions

Post Transactions

Prepare Trial Balance

Analyze Transactions

Preparing Financial Statements

Examine Source Documents

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Record Transactions

Post Transactions

Financial Statements Prepare

Trial Balance

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Problems in Accounting Measurements

The identification of the accounting period.

The proper point in time to recognize revenue.

The appropriate moment to record an expense.

Identification of the Accounting Period

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Time Period Principle

For reporting purposes, an organization’s life can be divided into separate accounting periods

months, quarters, years, etc.

BEGINNING

Time Period Principle

Life of the Firm

96 97 98 99 00 01 02 03 04 05

ENDING

Discrete (separate) accounting periods.

1 2 3 4 5 6 7 8 9 10 11 12

1 2 3 4

Annual

1 2

Month

Quarter

Semiannual

The Accounting PeriodExh.3.1

The proper point in time to recognize revenues.

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Revenue Recognition . . .

Revenues are recorded when two main criteria have been met:

The earnings process is substantially complete (a sale has taken place or service has been rendered); and

An exchange has taken place.

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Revenue Recognition . . .

Revenue is generally recognized

At the time services are performed; or

When goods are sold and delivered to a customer.

The proper point in time to recognize expenses.

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The Matching Principle

The matching principle requires that all expenses incurred to generate the revenues recognized in an accounting period be matched with those revenues.

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Another view . . .

Let the expense follow the revenue.

First the revenue . . .

Then the expense.

Sometimes referred to as “The Expense Recognition Principle.”

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Accrual Basis Accounting

Revenue Recognition

Matching Principle


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Yikes!! What is Accrual Basis

Accounting?

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Revenues are recognized (recorded) when earned, without regard to when cash is received;

Expenses are recorded as incurred without regard to when they are paid.

The time period principle

Gives rise to the need for

The Revenue Recognition Principle and the Matching Principle

Resulting in . . .

The accrual basis of accounting

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Whoa! Let’s back up a bit here -- this really does

make sense?

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96 97 98 99 00 01 02 03 04 05

? ? ? ? ? ?

How do we recognize revenues?

The Revenue Recognition Principle

How do we recognize expenses?


Peri

od

icit

y

Assu

mp

tion


Accrual Accounting . . .

EOP

Recognized Revenues

Matched Expenses

Recognized Revenues

Matched Expenses

Accrual Net Income

BOP

Bertha, are there any

other bases for

accounting?

Yikes! I don’t know Claude. We probably

better ask the professor!

Absolutely. You don’t think we

would make it that easy,

do you?

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Cash Basis Accounting

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Cash Basis Accounting

With the cash basis . . .

Revenues are recognized in the period cash is received; and

Expenses are recognized in the period when cash is paid out.

Cash Basis Accounting . . .

BOP EOP

Revenue (Cash)

Expenses (Cash)

Revenue (Cash)

Expenses (Cash)

Cash Basis Net Income

Ahhh, but there is

yet another

one! Fun! Fun!

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Modified Cash Basis Accounting

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Modified Cash Basis Accounting

With the Modified Cash Basis . . .

Current period revenues and expenses are treated exactly as in the cash basis;

Expenses covering more than one accounting period are allocated over the useful life of the asset.

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Adjusting Accounts

An adjusting entry is recorded to bring an asset or liability account balance to its proper amount.

Exh.3.4

Fra m ew ork for Adjustm ents

PrepaidExpenses

Depreciation UnearnedRevenues

AccruedExpenses

AccruedRevenues

Adjustm ents

Transactions where cash is paid orreceived before a related expense

or revenue is recognized.

Framework for Adjustments

Transactions where cash is paid orreceived after a related expense

or revenue is recognized.

Exh.3.4


PrepaidExpenses


AccruedExpenses

AccruedRevenues

Adjustm ents

Framework for AdjustmentsExh.3.4

Transaction where cash is paid before a related expense

is recognized.

Here is the checkfor my first

6 months’ rent.

Resources paid for prior to

receiving the actual benefits.

Asset Expense

UnadjustedBalance

CreditAdjustment

DebitAdjustment

Adjusting Prepaid Expenses

GENERAL JOURNAL Page 34Date Description PR Debit Credit


Dec. 31 Rent Expense 2,000

Prepaid Rent 2,000

to record monthly rent

Adjusting Prepaid ExpensesOn December 1, 2001, Scott Company paid $12,000 to cover rent for December 2001 through May 2002.

Let’s look at the adjusting journal entry needed on December 31, 2001.

Prepaid Rent Rent Expense12/1 $12,000 12/31 $2,00012/31 $2,000

After posting, the accounts involved look like this:

Adjusting Prepaid Expenses


PrepaidExpenses


AccruedExpenses

AccruedRevenues

Adjustm ents


Transaction where cash is paid before a related expense

is recognized.

Adjusting for Depreciation

Depreciation is the process of computing expense from allocating the cost of plant and equipment over its expected useful lives.

Straight-Line Depreciation

=Asset Cost – Salvage Value

Useful Life

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On January 1, 2002, Monroe, Inc. purchased oil pumping equipment for $62,000 cash.

The equipment has an estimated useful life of 5 years.

Monroe expects to sell the equipment at the end of its life for $2,000 cash.

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Let’s compute depreciation expense for the year ended December 31, 2002.

2002 Depreciation Expense

=

$62,000 - $2,000

5

= $12,000

Prepare the journal entry.


Dec. 31 Depreciation Exp. 12,000

Accum. Depreciation 12,000

To record annual depreciation

Accumulated depreciation isa contra asset account.


Equipment Depreciation Expense

1/1 $62,000 12/31 $12,000

Accumulated Depreciation

12/31 $12,000

After posting, the accounts involved look like this:


The equipment account is shown on

the balance sheet like

this.



PrepaidExpenses


AccruedExpenses

AccruedRevenues

Adjustm ents


Transaction where cash is received before a related

revenue is recognized.

Buy your season tickets forall home basketball games NOW!

“GO SEAWOLVES”

Adjusting Unearned Revenue

Cash received in advance of providing

products or services.

Liability RevenueUnadjusted

BalanceCredit

AdjustmentDebit

Adjustment


Oct. 1 Cash 100,000

Unearned Basketball Revenue 100,000

Receipts for 1,000 season tickets

On October 1, 2002, UAA sold 1,000 season tickets to its 20 home

basketball games for $100 each. UAA makes the following entry:



Dec. 31

On December 31, UAA has played 10 of its regular home games, winning

8 and losing 2.

Prepare the appropriate Adjusting Entry on December 31

Prepare the appropriate Adjusting Entry on December 31


On December 31, UAA has played 10 of its regular home games, winning

8 and losing 2.



Dec. 31 Unearned Basketball Revenue 50,000

Basketball Revenue 50,000

to recognize basketball revenue

Unearned BasketballRevenue Basketball Revenue

10/1 $100,000 12/31 $50,00012/31 $50,000


After posting, the accounts involved look like this


PrepaidExpenses


AccruedExpenses

AccruedRevenues

Adjustm ents


Transaction where cash is paid after a related expense

is recognized.

We’re about one-halfdone with this job and

want to be paid!

Costs incurred in a period that are

both unpaid and unrecorded.

Adjusting for Accrued Expenses

Expense LiabilityCredit

AdjustmentDebit

Adjustment

12/1/02 12/31/02Year end

Last paydate

12/26/02

Next paydate

1/2/03

Record adjustingjournal entry.

Denton, Inc. pays its employees every Friday. Year-end, 12/31/02, falls on a Wednesday. As of 12/31/02, the employees have earned salaries of $47,250 for Monday through Wednesday of the

week ended 1/02/03.


Denton, Inc. pays its employees every Friday. Year-end, 12/31/02, falls on a Wednesday. As of 12/31/02, the employees have earned salaries of $47,250 for Monday through Wednesday of the

week ended 1/02/03.



Dec. 31 Salaries Expense 47,250

Salaries Payable 47,250

to record salary accrual

Salaries Expense Salaries Payable12/31 $47,250 12/31 $47,250

After posting, the accounts involved will look like this . . .



PrepaidExpenses


AccruedExpenses

AccruedRevenues

Adjustm ents


Transaction where cash is received after a related revenue is recognized.

Yes, you can pay mefor your tax return

when I finish the work.

Adjusting for Accrued Revenues

Revenues earned in a period that

are both unrecorded and not yet received.

Asset Revenue

CreditAdjustment

DebitAdjustment

Smith & Jones, CPAs, had $31,200 of work completed but not yet billed to clients. Let’s make the adjusting entry

necessary on December 31, 2002, the end of the company’s fiscal year.



Dec. 31 Accounts Receivable 31,200

Service Revenues 31,200

Revenues earned but not received

After posting, the accounts involved will look like this . . .


Accounts Receivable Service Revenue

12/31 $31,20012/31 $31,200

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Exh.3.18

CategoryBefore Adjusting

Adjusting EntryB/S I/S

Prepaid Expense

Asset ExpenseDr. Expense Cr. Asset

Unearned Revenue

Liability RevenueDr. Liability Cr. Revenue

Accrued Expenses

Liability ExpenseDr. Expense Cr. Liability

Accrued Revenues

Asset RevenueDr. Asset Cr. Revenue

Exhibit 3.18

Summary of Adjustments and

Financial Statement Links

Overstated

Understated

FastForwardTrial Balance

December 31, 2001

Exh.3.19

First, the initial

unadjusted amounts are added to the worksheet.

First, the initial

unadjusted amounts are added to the worksheet.

Next, FastForward’s adjustments are added.

Next, FastForward’s adjustments are added.


December 31, 2001

Exh.3.19


December 31, 2001Finally, the totals are determined.

Finally, the totals are determined.

Exh.3.19

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Preparing Financial Statements

Let’s use FastForward’s adjusted trial balance to prepare the company’s financial statements.

Step One:Prepare the IncomeStatement.

Exh.3.20

Step Two:Prepare the Statement of Retained Earnings.

Note: The Net Income from the Income Statement carries to the Statement of Retained Earnings.

Exh.3.20

Step Three:Prepare the BalanceSheet.

FastForwardBalance Sheet

December 31, 2001

AssetsCash 3,950$ Accounts receivable 1,800 Supplies 8,670 Prepaid insurance 2,300 Equipment 26,000 Less: accum. depr. (375) 25,625 Total assets 42,345$

LiabilitiesAccounts payable 6,200$ Salaries payable 210 Unearned revenue 2,750 Total liabilities 9,160$

Owner's EquityCommon Stock 30,000 Retained Earnings 3,185 Total liabilities and equity 42,345$

Exh.3.20

Business

Day One