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53 viewsABM 1 Chapter 4, Adjusting Process
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Ashley Allianna Jane YguintoCopyright
© © All Rights Reserved
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/ 37
Accounting TS
of Service Businesses:
The Adjusting Process
Rhapsody
0 you subscribe to an Internet-based
D Masi service such as Rhapsody’?
Rhapsody, which was formerly ‘owned by
RealNetworks, began by providing digit!
music to its subscribers through Internet
gudio ‘streaming. You can subscribe
to “Rhapsody Premier” for $9.99 Per
sic by New Boyz,
month and listen to mu ;
Coldplay, Flo Rida, or Carrie Underwoo
When should a company sue
as Rhapsody record revenue from is
Subscriptions? Subscription revenue
<4, Subscriptions
recorded when it is earne'
revenue is earned when the service tas
been delivered to the customer. Hower
in many cases is received befor
the rervice is delivered. For example, the
subscription to “Rhapsody Premier” is
paid at the beginning of the month, In this
case, the cash received represents unearned
revenue. As time passes and the services are
delivered, the unearned revenue becomes
earned, and thus becomes revenue. As a
result, companies like Rhapsody must
update their accounting records for items
such as unearned subscriptions before
preparing their financial statements,
"This chapter describes and illustrates
the process by which companies update
their accounting records before preparing,
financial statements, This discussion
includes the adjustments for unearned
revenues made at the end of the accounting
period.
CHAPTER ‘Arver stucying this chaptes,you should be able to:
Learning Objectives
Crane Eee
Describe the nature: of the adjusting process.
ture of the Adjusting Process. EEA)
‘The Adjusting Process BE 4.2
Types of Accounts Requiring Adjustment
Journalize entries for accounts requiting adjustment.
© ssa
reservation or pays
Prepaid ae
xpentes 44
Uneared Revenues as
Acerved Revenuer fEag
Depreciauce apense bite
Summarize the adjustment process.
© Sees tee
@ Prgpare en ssiuseed iat balance, .
Adjusted Trial Balance +.
TED acc rrs
Nature of the Adjusting Process
{hen preparing financial statements, the economic life ofthe business is divided into
be ne perod®: This accounting period concept requires that revenues and expenses
be reported in the proper period. To determine the proper period, accountng wee
generally accepted accounting principles (GAAP), which requires the accrual basis af
accounting.
may or may not be received from customers
during this period. The accounting concept supporting thie reporting of revenues is
called the revenue recognition concept.
Under the accrual basis, expenses are reported in the same period as the revenues
to which they relate. For example, utility “xpenses incurred in December are reported
as an expense and matched against Dever
ber's revenues even though the utility bill
5, net i dis
Properly reported on the income statement." COME OF loss for the perio
Although GAAP requires the accrual basis of i the
cash basis of accounting, Under the cash base of acount ome businesses se
are reported on the income statement in the rong e a aid
recorded when cash is paid to employees The we : 4
between the cash receipts (revenues) and the at a cae loss) is the difference
Small service businesses may use the cari ns (expenses) ——
ari ean stom ac hy hve ow ec
is For them, Provides financat
basis. For most arg businesses howe cane Simi o thse ofthe asl
statement for user needs, For this reason, the ae basis pot ponde accurate fin
in this text.
revenues and expenses Chapter 4. Accounting Cycle of Service Businesses: The Adjusting Process 105
The Adjusting Process
‘At the end of the accounting period, many of the account balances in the ledger are
reported in the financial statements without change. For example, the balances of the
cash and land accounts are normally the amounts reported on the balance sheet.
Some accounts, however, require updating for the following reasons:!
1. Some expenses are not recorded daily. For example, the daily use of supplies would
ire many entries with small amounts. Also, the amount of supplies on hand on
a day-to-day basis is normally not needed.
2. Some revenues and expenses are incurred as time passes rather than as separate
transactions. For example, rent received in advance (unearned rent) expires and
becomes revenue with the passage of time. Likewise, prepaid insurance expires and
becomes an expense with the passage of time.
3, Some revenues and expenses may be unrecorded. For example, a company may have
provided services to customers that it has not billed or recorded at the end of the ac-
counting period. Likewise, a company may not pay its employees until the next account
ing period even though the employees have earned their wages in the current period.
The analysis and updating of accounts at the end of the period before the financial
statements are prepared is called the adjusting process. The journal entries that bring
the accounts up to date at the end of the accounting period are called adjusting entries.
‘All adjusting entries affect at least one income statement account and one balance sheet
account. Thus, an adjusting entry will always involve a revenue or an expense account
and an asset or a liability account.
Graces Pet oretiae ee ead > @
Indicate with a Yes or No whether of not each of the following accounts normally requires an adjusting entry.
a Cash Wages Expense fe Accounts Receivable
Prepaid Rent Land fUnearned Rent
Follow My Example 4-1 >a
2. No «Yes Yes
b Yes 4. No £ Yes
Practice Exercises: PE 4-18, PE 4-16 _
Types of Accounts Requiring Adjustment
Four basic types of accounts require adjusting entries as shown below
1. Prepaid expenses 3. Accrued revenues
2. Unearned revenues 4. Accrued expenses
Prepaid expenses are the advance payment of future expenses and are recorded as
assets when cash is paid. Prepaid expenses become expenses over time or during normal
operations. To illustrate the following transaction of NetSoltions from Chapter 3 is used
Dec 1 Netolutions paid $2,400 as a premium on a one-year insurance policy.
On December 1, the cash payment of $2,400 was recorded as a debit to Prepaid
Insurance and credit to Cash for $2,400. At the end of December, only $200 ($2,400
divided by 12 months) of the insurance premium is expired and has become an expense.
‘The remaining $2,200 of prepaid insurance will become an expense in future months. Thus,
the $200 is inegrance expense of December and should be recorded with an adjusting entry
ps Weal ects do oteqeadsing Ta bees ncn ae rected ony wench
rea ng concerned dria 106
Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
Other examples of prepaid expenses include supplies, prepaid advertising, an4
Prepaid interest. |
Exhibit 1 summarizes the nature of prepaid expenses.
Ea
Transaction
Analysis
Journal Entry
Accounting
Equation
Impact
Adjustment
Prepaid Expenses
Cash is paid in advance for an expense.
Advance payments of future expenses are recorded as assets when the cash is paid,
The transaction is recorded as a debit to a prepaid expense account and a credit
to the cash account
x0
Prep xen a
Paid an expense in advance.
Assets 7 apatites + Owner's Equity
Ff
Prepaid Expense
An end-of-period adjustment is needed to update the prepaid expense account.
Analysis The prepaid expense account is decreased (credited) for the amount of the prepaid
expense that has expired or has been used, and the related expense account is
increased (debited).
Adjusting Expense 100%
Journal Entry Prepaid Expense xxx
Adjustment fr prepaid expense
Accounting Assets = Labities + Owner's Equity (Expense)
Equation Prepaid Expense Expense
Impact 90K KK
Unearned revenues are the advance receipt of future revenues and are recorded
as liabilities when cash is received. Unearned
revenues become earned revenues over
time or during normal operations. To illustrate the following December 1 transaction
of NetSolutions is used.
Dec. 1 _NetSolutions received $360 from a local retailer to rent land for three months.
On December 1, the cash receipt of $360 was rec
a credit to Unearned Rent for $360. At th
rent revenue in future months. Thus, the $120 is rent and
should be recorded with an adjusting entry revenue of December Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process 107
Other examples of unearned revenues include tuition received in advance by @
school, an annual retainer fee received by an attorney, premiums received in advance by
an insurance company, and magazine subscriptions received in advance by a publisher
Exhibit 2 summarizes the nature of unearned revenues.
Unearned Revenues
Gash is received for an unearned revenue. Transaction
[Advance receipts for future services to be provided are recorded asliabilities when Analysis
the cash is received. The transaction is recorded as a debit to the cash account
and a credit to the unearned revenue account,
|
| Cash 10K | |
Unearned Revenue xx Journal Entry
teat Received cash for unearned revenue
Assets uabies + owners Equity Accounting
Cash Unearned Revenue Equation
WR: el ~_
An end-of period adjustment is needed to update the unearned revenue account. Adjustment
‘The unearned revenue account is decreased (debited) for the amount of the revenue watysis
that has been earned, and the related revenue account is increased (credited). ys
UUncarned Revere KK ‘Adjusting
| Revenue xt |
| ‘Ajustment fr unearned revenve Journal Entry
&
Assets = Liabilities + Owner'sEquity(Revenue) Accounting ==
Unearned Revenue Revenue Equation = 3
pao, et t
3
“Accrued revenues are unrecorded revenues that have been earned and for which
cash has yet tobe received Fees for service that an attorney ot a doctor has provided
Far ut Ye billed are accrued revenues. To ilustrate, the following example involving
NetSolutions and one of its customers is used.
Dea 15, NetSolutions signed an. agreement with Dankner Co. under. which |
| Natselutions will bill Dankner Co. on the fifteenth of each month for |
| services rendered at the rate of $20 per hour. |
From December 16-31, NetSolutions provided 25 hours of service to Dankner Co.
Although the revenue of $500 (25 hours X $20) has been earned it will not be billed
anuary 15, Likewise, cash of $500 will not be received until Dankner Co. pays its
Bill ‘Thus, the $600 of accrued revenue and the $500 of fees earned should be recorded
with an adjusting entry on December 31 a
The Adjust
108 Chapter Accounting Cycle of Service Businesses: The Adi
EEN
Transaction
Analysis
Journal Entry
Accounting
Equation
Impact
Adjustment
Analysis
Adjusting
Journal Entry
Accounting
Equation
Impact
9 Process q
es include accrued interest on notes *eceiay
reven le
ued reve to others. ae
of accrued revenues:
Other examples of acer
and accrued rent on property reat
Exhibit 3 summarizes the nature
Accrued Revenues dei
Revenue has been earned but has not been reco
been recorded nor has
venue has not
Revenues have been cared, but th tteon recorded even though revenues hy t
een received. No jo ave
been earned,
No entry has been recorded. |
abilities + Owner's Equity
Assets =
No impact, since the revenue has not been recorded,
e.
An end-of:period adjustment is needed to recognize accrued revenu
f the revenue that h,
is increased (debited) for the amount of 25
Comes ares i fe ie
receivable account that is debited depends upon the type of revenue. For example,
Accounts Receivable would be debited for fees earned. Interest Receivable would
be debited for interest earned.
Po
se Receal
eae v0
Tajosment forced tee
Assets - Uabaities + Owner's Equity (Revenue)
Receivable Revenue
Me ii
Accrued expenses are unrecorded expenses that have been incurred and for which
cash has yet to be paid. Wages owed to employees at the end of a period but not yet
Paid are an accrued expense. To illustrate, the following example involving NetSoluticas
and its employees is used
Dec. 31
NetSolutions owes its employees wages of $250 for Monday and Tuesday,
December 30 and 31.
a |
200 on December 27,
eekly pay periods that ended on those days. As
of December 31, 2013, NetSolutions owes its employees wages of $250 for Monday and
Tuesday, December 30 and 31. The wages of $250 will be Paid on January 10, 2014
however, they are an expense of December. ‘Thus, $250 of accrued wages should be
recorded with an adjusting entry on December 3] Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process 109
Other examples of accrued expenses include accrued interest on notes payable and
accrued taxes,
Exhibit 4 summarizes the nature of accrued expenses.
BESTE ccc epenses
‘An expense has been incurred but has not been recorded. Transaction
An expense has been incurred, but the expense has not been recorded nor has Analysis
cash been paid. No journal entry has been recorded even though an expense has
been incurred,
No entry has been recorded Journal Entry
Assets = LUnbitites + Owners Equity Accounting
No impact since the expense has not been recorded. Equation
Impact
An end-of-period adjustment is needed to recognize the accrued expense. Adjustment
‘An expense account is increased (debited) for the amount of the expense that Analysis
has been incurred, and the related liability account is increased (credited). The
liability account that is credited depends upon the type of expense. For example,
‘Wages Payable would be credited for wages expense. Interest Payable would be
credited for interest expense.
Expense 10K Adjusting
Liability (Payable) XXX, Journal Entry
‘Adjustment for acrued expense.
Assets - Uabities + Ownersequity Expense) Accounting
ravie Expense Equation
08 wr Impact
Asillustrated in Exhibit 4, accrued revenues are earned revenues that are unrecorded.
‘The cash receipts for accrued revenues are normally received in the next accounting
period. Accrued expenses are expenses that have been incurred, but are unrecorded. The
cash payments for accrued expenses are normally paid in the next accounting period.
Prepaid expenses and unearned revenues are sometimes referred to as deferrals,
This is because the recording of the related expense or revenue is deferred to a future
period. Accrued revenues and accrued expenses are sometimes referred to as accruals.
This is because the related revenue or expense should be recorded or accrued in the
current period.
eae ae eds coca > @
Classify the followin items as (1) prepaid expense, 2) unearned revenue, (3) accrued expense, or (4) accrued revenue.
2. Wages owed but not yet paid. Fees received but not yet earned,
. Supplies on hand. 4. Fees eared but not yet received
Follow My Example 4-2 >a
a. Accrued expense Unearned revenue
b. Prepaid expense 4. Accrued revenue
cangageLeaming 204 110 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
@ tournaize Adjusting Entries —
aaing lustrate Satis, 13, the unadjusted trial
: justing ber 31, 2013,
sme Neel nee a wed An expanded car of accounts for NetSluions
"shown in Exhibit, The additional accounts used in this chapter ae showh in color The ru,
of debit and credit shown in Exhibit 3 of Chapter 3 are used to record the adjusting en.
usted ce
H ‘Unadjusted Trial Balance
a Trial eee)
for NetSolutions
Cash o
Accounts Receivable
Supplies .......
Prepaid Insurance
Land, ae
Office Equipment
Accounts Payable
Unearned Rent ..
Chris Clark, Capital .
Chris Clark, Drawing
Fees Eamed .
Wages Expense
Rent Expense ..
Utilities Expense ..
Supplies Expense .
Miscellaneous Expense
300
25,000
16340
ecrriaas
Expanded Chart
of Accounts
for NetSolutions
Balance Sheet Accounts Income Statement Accounts
1. Assets 4. Revenue
11 Cash 41 Feestamed
12 Accounts Receivable 42 RentRevere
14 Supplies 5. Expenses
15. Prepaid insurance 51 Wages Expense
17 Land 52 Rent Expense
18 Office Equipment 53. Depreciation Expense
19. Accumulated DeprecitionOffce Equipment 54 Utittes Benne
2, Liabilities 55. Supplies Expense
21 Accounts Payable 56, Insurance Expense
22 Wages Payable 59. Miscellaneous Expense i
23 Unearned Rent
3. Owners aut i
31, Chris Clark, Capital
:
ee eee ee
Prepaid Expenses
Supplies ‘The December 31, 2013 unadjusted tral balance of Ny cates a balance
in Bee supplies account of $2000. In addition, of NetSolutions indicates a
the prepaid insu lance
$2,400. Each of these accounts requires an adjusting entry. mance account has a bal ‘Chapters Accounting Cycleof Service Businesses:The Adjusting Process 141
The balance NetSolutions supplies account on December 31 is $2,000. Some of
these Pd (not used TE envelopes, etc.) were used during December, and some are
sor ace to deena ecru known, the other can be determined, I
{han to record daily supplies used. the supplies on hand at the end of the month
“Assuming that on December 31 the amount of suppli :
slies on hand is $760, the amount
to be transferred from the asset account to the expense account is 81,240, computed
fs follows:
Supplies available during December (balance of account 2.000
Supplies onhand, December st nee %esoun®) oe
Supplies used (amount of adjustment) $12
At the end of December, the supplies ¢ ; ai
i oe xpense account is increased (debited) for
$1,240, and the supplies account is decreased (credited) for $1,240 to record the supplies
Ssed during December. The adjust
See cme arene tones ane Parma easy and secon for Supplies and
Adjusting
Journal Entry
Bec. |31/ Supplies Expense a AST ao
Supplies 5 oe
Supplies used ($2,000 - $760).
Assets = Lables + Owner Equity Expense) ‘Accounting
Supplies Expense Equation
wai, Impact
Dec 31
‘Adj. Bal.
The adjusting entry is shown in color in the T accounts to separate it from other
transactions. After the adjusting entry is recorded and posted, the supplies account
has a debit balance of $760. This balance is an asset that will become an expense in a
future period.
Prepaid Insurance ‘The debit balance of $2,400 in NetSolutions’ prepaid insurance account
represents a December 1 prepayment of insurance for 12 months. At the end of December,
the insurance expense account is increased (debited), and the prepaid insurance account is
decreased (credited) by $200, the insurance for one month. The adjusting journal entry and
T accounts for Prepaid Insurance and Insurance Expense are as follows:
31) Insurance Expense 6 200 Adjusting
| Prepald insurance 15 200 Journal Entry
‘expired (52400/12
Assets = abies + Accounting
Equation
Impact
After the adjusting entry is recorded and posted, the prepaid insurance account
has a debit balance of $2,200. This balance is an asset that will become an expense in
fature periods. The insurance expense account has a debit balance of $200, which is an
expense of the current period. sting Process
M12 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting
rrance ($200) are not
LF the preceding adjustments for supplies ($1,240) and inser Oy ot
recorded the inaial statements prepared 35 a ee nae
the income statement, Supplies Expense and Insurance FASE NT Ve Ht Chai
by a total of $1,440 ($1,240 + $200), and net income ‘will be overstated by a total
On the balance sheet, Supplies and Prepaid iasecnt Wis Clark, Capital will slay
of $1,440. Since net income increases owner's equity
be overstated by $1,440 on the balance sheet. om
The effects of omitting the adjusting entries on the inc
sheet are as follows
statement and balance
‘ Amount
ornament
Tacoma Saienen '
Revenues corey sted iret
Net income overstated by 0 |
boinc She
eset aw |
Liabilities correctly stated $ wx |
Owner's equity overstated by a
Tota tates nd
ue seat overtly sso
Arrow (1) indicates the effect of the understated expenses on assets. Arrow (2)
indicates the effect of the overstated net income on owner's equity.
Payments for prepaid expenses are sometimes made at the beginning of the period
in which they will be entirely used or consumed. To illustrate, the following December |
transaction of NetSolutions is used
Dec. 1 NetSolutions paid rent of $800 for the month.
On December 1, the rent payment of $800 represents Prepaid Rent. However, the
Prepaid Rent expires daily, and at the end of December there will be no asset left. In
AUCH cases, the payment of $800 is recorded as Rent Expense rather than as Prepaid
Rent. In this way, no adjusting entry is needed at the end ofthe period.
the year Jouralze the adjusting enty requ atthe end ofthe ear sees pied nsura
related to future periods is $3,250. ° eam cltseieled a
Ree)
Insurance Expense
Prepaid Insurance 7s .
Insurance expired ($6,400 + $3,600 ~ $3,250),
Practice Exercises: PE.
6750 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process 13 |
CSAC Esty
integritys,
Unearned Revenues
‘The December 31 unadjusted trial balance of NetSolutions indicates a balance in the
unearned rent account of $360. This balance represents the receipt of three months’
rent on December 1 for December, January, and February. At the end of December, one
‘month's rent has been earned. Thus, the unearned rent account is decreased (debited) by
$120, and the rent revenue account is increased (credited) by $120. The $120 represents
the rental revenue for one month ($360/3). The adjusting journal entry and T accounts
are shown below. |
Ir Adjusting
21) Unearmed Rent al 120
Rent Revenue a2 120 Vessel Entcy
Rent earned ($260/3 months)
Assets Owner's Equity (Revenue) Accounting
Equation
Impact
«credit balance of $240. This balance is a liability that will become revenue in a future
period. Rent Revenue has a balance of $120, which is revenue of the current period,
If the preceding adjustment of unearned rent and rent revenue is not recorded, — cx i sels extended
the financial statements prepared on December 31 will be misstated. On the income warranty contacts with
statement, Rent Revenue and the net income will be understated by $120. On the terms between 12 and
balance sheet, Unearned Rent will be overstated by $120, and Chris Clark, Capital will 38months. The receipts
be understated by $120. The effects of omitting this adjusting entry are shown below. fom ses ol hese
After the adjusting entry is recorded and posted, the unearned rent account has a we
Amount 235 unearned revenue on
cof misstatement, Best Buy's balance sheet
Income Statement Revenue is recorded 35
Revenues understated by 3.120) the contracts expire.
Expenses correctly stated XXX
Net income understated by 20)
Balance Sheet
‘Assets correctly stated $300
Lisbilties overstated by
Oumer's equity understated by
Total liabilities and
‘owner's equity correctly stated $000 114 Chapters Accounting Cycle of Service Businesses The Adjusting Po@
eae
‘The balance in the unearned fees account, before adjustment atthe end ofthe
Jouralze the adjusting entry required If the amount of uneamed fees atthe en
Follow My Example 4-4 >
Uneamed Fees...
Fees Famed...
Fees eamed ($44,900 ~ $22,300).
tn
r,s $44,900.
ofthe yea 822300.
2600
22.600
icivoeaadreoan nana
(ap Accrued Revenues
Baring an accounting evens are recorded ony when ashi ceived
= ‘Thus at theend! en orineh Caos ‘may be revenue that has been earned but
has not been recorded. In such cases, the revenue is recorded by increasing (debiting)
an asset account and increasing (crediting) a revenue account. ;
To illustrate, assume that NetSolutions signed an agreement with Dankner Co. on
Radosh Cmpuaton is
‘engaged in consumer
electronics retain,
RadioShack scenes > 5
feverveforfinanee December 15. The agreement provides that NetSoltions will answer computer questions and
Ghrgesandine* render assistance to Dankner Cas ‘The services will be billed to Dankner Co. on
Payment charges _the fifteenth of each month at arate of $20 per hour. As of December 31, NetSolutions had
reltedtoitscrecit provided 25 hours of assistance to Dankner Co. The revenue of $500 (25 hours X $20) will
Lace be billed on January 15. However, NetSolutions earned the revenue in December.
The claim against the customer for payment of the $500 is an account receivable
(an asset). Thus, the accounts receivable account is increased (debited) by $500, and
the fees earned account is increased (credited) by $500. The adjusting journal entry
and T accounts are shown below.
Adjusting
Journal Entry 21, AecoursRecoate ny |)
‘Accrued fes (25 Wes. X $20).
Accounting Assets = Unites + Overs Equity Revenue)
Equation _Accounts Receivable 12 az 2
Impact
If the adjustment for the accrued revenue ($500) is not recorded, Fees Earned and
the net income will be understated by $500 on the income statement. On the balance
sheet, Accounts Receivable and Chris Clark, Capital will be understated by $500. The
effects of omitting this adjusting entry are shown below.
or atrant
Income Statement
“sunderstated by $0
Expenses corey stated ox
Net income understated by i500)
seeaied 7
“understated by si |
abilities correctly states
overs equity understated by
Total liabilities and
‘owner's equity understated by Chapter 8
a >
spe en of he CANTON Year, $11,680 OF fee have been
ety FeCOnE the accrued foe
veable
ort a 000
ed tes vow
Practice Fxorcines PEA
accrued Expen'
some types of services used in earning revenien are pad fo
performed For example, wages expense is used hour by ho
Aeetly, biweekly, or monthly At the end of the
xcroed but unpaid items isan expense and a liability
For example, if the last day of the employees’ pay period is not the last day of #
counting period, an accrued expense (wages expense) and the related lability (wages
patie) must be recorded by ry This adjusting entry ts necessary so
jer the service has b
1, but ts paid only dally,
Hnting period, the amount of such
hut expenses are properly matched to the period in which they were incurred in earning
even
Toillustrate, NetSolutions pays itsemployeesbiweekly During December, NetSolutions
aid wager of $950 on December 1¥ and $1,200 on December 27. These paymer
covered pay periods ending on those days as shown in Exhibit
‘Accrued Wage:
i mie
+ |
us teterrrn | cn
2 }
on | emoannerea
"Na 0 200 0 0
a eon
|
at
0 of wages to employees for Monday and
Avo solutions owes $2
dal December 31, NetSolutions ovis count is incrensed (debited)
Mwesday, December 30 and 31, Thus, the wages expense ac AOE cP SI, Tine pe
116 chapter 4 Accounting Cycle of Service Businesses: The Adjusting POT
want is increased (credited)
low.
!) by $250. The adjusting
by $250 and the wages payable acco
journal entry and T accounts are shown b
Adjusting
Journal Entry 31| Wages Expense sa
Wages Payable
‘Accrued wages.
‘owner's Equity (Expense)
Accounting Assets = Liabilities +
Equation
Impact i
After the adjusting entry is recorded and posted, the debit balance of the wages
expense account is $4,525. This balance of $4,525 is the wage expense for two months,
Sera acon Desernber. The erdit balance of $250 in Wages Payable i the liability
Glaway GalfCmpary, fF wages owed on December 31.
amanufacuerof’ As shown in Exhibit 7, NetSolutions paid wages of $1,275 on January 10. This
seh eneate. payment: includes the $250 of accrued wages recorded on December 31. Thus, on
gotubsasthe January 10, the wages payable account is decreased (debited) by S25 ‘Also, the wages
,275 - $250), which is the wages
expense account is increased (debited) by $1,025 ($1,
creased (debit .
fhe cash account is decreased (credited) by $1,275.
f wages on January 1
driver reports
Accrued warranty €Xpense for January 1-10. Finally, t
expense onits, The journal entry for the payment of
balance sheet.
(0 is shown below?
]
Jan. ho Wages Expense
| Wages Payable
Cash
al a
for wages ($250) isnot recorded, Wages Expense will be understated
Ifthe adjustment
by $250, and the net income will be overstated by $250 on the income statement On the
Pepaoce sheet, Wages Payable will be understated by $250, and Chris Clark, Capital will
paaverstated by $250. The effects of omitting this adjusting entry are shown as follows:
Amount
of Misstatement.
income Statement
Revenues correctly stated $ xxx
Expenses understated by (250)
‘Net income overstated by F250
Balance Sheet
‘Assets correctly stated 5 xKK
Liabilities understated by $(250)
Owner's equity overstated by 250
Total liabilities and owner's
equity correctly stated Dox
_—_—____—_
[re amy the saborguen cording of the following prods rasan some acount whisk
or as reversing entries OF
2 Tosi Padme, Reversing ene are Gacued and Usain Append atthe end of he textbook y 0
Chi
@pter 4 Accounting Cycle of Service Businesses:The Adjusting Process 117
a I ee ey
fealty Co. pays weekly salaries of $1
soe adustng entry atthe end ofthe accou
mites >
oe
sc
| ares expense.
peeved slaies(812,500/5 days) x 4 days)
a ‘on Friday for a five-day week ending on that day. Journali
ing period, assuming thatthe period ends on Thursday.
10,000
10,000
Practice Exercises: PE 4-6A, PE 4-6B
ESD ae CT
OTOR COMPANY WARRANTIES
when it began selling its new fuel-efficient Ford Escape
Hybrid. The Ford Escape Hybrid has a gas-electric
‘engine that automatically shuts off when the vehicle
is stopped. The Escape also uses an electric motor to
assist in accelerating or when the vehicle is coasting or
slowing down.
Ford's warranty cost accruals (in millions) for two
recent years are a5 follows:
| [st Motor Company provides warranties on the |
itsells, For example, Ford offers “bumper- |
mper” coverage in the United States for five years
Gp00mileson its Ford brand. A bumper-to-bumper
tynormally implies that every part of a new car
red or replaced if it is defective during the |
warranty. Recent Prior
Ford sells a new car, it estimates the future Moar anicewan
feossthatitwillincuron thevehicleandaccrues | Gegiingbabnee SS ST mercy
grpense, Accrualsforestimatedwarrantycosts | Payments during the year 2176) 84)
donhhistorical warranty claim experience, which | Warranties Issued during year 1522182
for changes such as offering new types of | Other 453 740
SForerample, Ford adjusted its warranty costs_|Endingbalance of acre waranties $3646 $3147
Depreciation Expense
Fixed assets, or plant assets, are physical resources that are ‘owned and used by a
business and are permanent or have a long life. Examples of fixed assets include land,
buildings, and equipment. In a sense, fixed assets are a type of long-term prepaid
expense, However, because of their unigue nature and long life, they are discussed
separately from other prepaid expenses.
Fed assets, such as office equipment, are used to generate revenue much like
supplies are used to generate revenue. Unlike supplies, however, there is no visible
reduction in the quantity of the equipment, Instead, as time passes, the equipment loses
ih abit te provide useful services This decrease in usefulness is called depreciation.
Al Rea beoets except land, lose their usefulness and, thus, are said to depreciate
Asa fixed asset depreciates, a portion of its cost should be recorded as an expense. This
Periodic expense is called depreciation expense. a
Theadjusting entry torecord depreciation expenseis similar to the adjusting entry for
suppliss are. The depreciation expense account is increased (debited) for the amount
of derewiation, However, the fixed asset account isnot decreased (credied), This is
sn at Mie bene cost ofa fixed asset and te deprecation recorded singe itt
Purchase are reported on the balance sheet. Instead, an account entitled Accumulated
Depreciation is increased (credited). 18
RABKEE4 Accounting Cycle of Service Busineses Te Adjusting POCSS
Accumulated depreciation accounts are called contra accounts, or contra assey
‘counts, This is because accumulated depreciation accounts are deducted trom the
related fixed asset accounts on the balance sheet. The normal balance of @ contra account jg
[cr sconpinin, _OPPOSIte to the account from which its deducted. Since the normal balance of a fixed asse
bulged land, Account is a debit, the normal balance of an accumulated depreciation account isa cred
ae ene store The normal titles for fixed asset accounts and their related contra asset accounts
of $33,345 millon | ST€ 48 follows:
and cumulated
‘depreciation of ‘Fixed Asset Account __Contra Asset Account ______
eet Land ‘None—Land isnot pected
Buildings: ‘Accumulated Depreciation —Buildings
Store Equipment ‘Recomulaed Depreciation Store Equipment
Office Equipment ‘Accumlated Depreciation—Office Equipment
The December 31, 2013, unadjusted trial balance of NetSolutions (Exhibit 5)
indicates that NetSolutions owns two fixed assets: land and office equipment,
Land does not depreciate; however, an adjusting entry is recorded for the depreciation
of the office equipment for December. Assume that the office equipment depreciates
$50 during December. The depreciation expense account is increased (debited) by $50,
and the accumulated depreciation—office equipment account is increased (credited) by
$50. The adjusting journal entry and T accounts are shown below.
Adjusting [~~ | Prone | 1
Journal Entry | 131) Depreciation Expense 3 30 |
| ‘Accumulated Depreciation—Office Equip, | 19 50
| Depreciation on office equipment.
Accounting ‘Assets = abies + Owners Equity Expense)
‘Equation
jation Expense 53.
open a
—
After the adjusting journal entry is recorded and posted, the office equipment
account still has a debit balance of $1,800. This is the original cost of the office
equipment that was purchased on December 4. The accumulated depreciation—
office equipment account has a credit balance of $50. The difference between these
two balances is the cost of the office equipment that has not yet been depreciated. This
amount, called the book value of the asset (or net book value), is computed as shown
below.
Book Value of Asset = Cost ofthe Asset ~ Accumulated Depreciation of Asset
Book Value of Office Equipment = Cost of Office Equipment - Accumulated Depe of Office Equipment
‘Book Value of Office Equipment = $1,800 - $50,
Book Value of Office Equipment = 51,750
‘The office equipment and its related accumulated depreciation are reported on the
December 31, 2013, balance sheet as follows:
Office equipment $100
Less accumulated depreciation 50 $1,750
‘The market value of a fixed asset usually differs from its book value, This is because
depreciation is an allocation method, not a valuation method, ‘That is, depreciation
allocates the cost of a fixed asset to expense over its estimated life. Depreciation does Chapter
'Pter4 Accounting Cycle of Service Businesses: The Adjusting Process ng
not measure changes in market values, whi
5013, the market Value of NetSolutions east 21Y fom year to year. Thus, on December 31,
office equit it COL
wc ase erection (3nd Depecan Een he
$50. On the balance sheet the Book eae ee oe net income wl be overstated by
wl be vested by 850. The ees af mtg th ajsment or depres
shown below.
Amount
‘of Misstatement
Income Statement
Revenues correctly stated sxx
Expenses understated by 50
Net income overstated by bs
Balance Sheet
[Assets overstated by 50
abilities correctly stated sx
viner’s equity overstated by Pt
Total abilities and owner's ~
equity overstated by $50
PLL eee ee >@
The estimated amount of depreciation on equipment for the current year is $4,250. Jouralize the adjusting entry to
record the depreciation, e eae
Follow My Example 4-7 >
Depreciation Expense.
‘Accumulated Depreciation:
Depreciation on equipment.
4250
quipment
4250
Exercises: PE 4-7A, PE 4-7B
‘A summary of the basic types of adjusting entries is shown in Exhibit 8 on page 120. The | PS
Adjusting entries for NetSolutions are shown in Exhibit 9 on page 121. "The adjusting
ae enjated as of the last day of the period. However, because collecting the
Sdjustment data requires time, the entries are usually recorded at a later date
‘An explanation is normally included with each adjusting entry.
NeSlutions’ adjusting entries are posted to the ledger shown in Exhibit 10 on
pages 122 and 123. The adjustments are shown in color in Exhibit 10 to distinguish
them from other transactions.
g Adjustments > @
ical Co. mistakenly omitted adjusting entries or (1) $8,600 of
wae of $12,500 that was not billed, and (3) acrued wages of
fa) revenues, (b) expenses, and (c) net income for the year
Ere tenuis
eas
Forthe year ending December 31, 2014, Mann Medi
‘unearned revenue that was earned, (2) earned reven
$2800. indicate the combined effect of the errors on
ended December 31, 2014.
Follow My Example 4-8 0
a. Revenues were understated by $21,100 (58600 + $12.50).
by under 2900
& penses wer ud by $8200 (S600 + $12500~ $2900
” Practice Exercises: PE 4-BA, PE 4-8B
Oe Seem m»ve_—vovaJn 120 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
st
T38 Summary of Adjustments
= PREPAIDEXPENSES a —_
aa = TE Financial Statement Impact f
Examples , Reason in Examples from NetSolutions—" pajusting Entry ls Omit
Adjusting Entry ted
for Adjustment
Supplies, Prepaid expenses | Expense Dr. Supplies Expense 1240 hvonene statement
prepa ase hve | eee ce | eater Jaa heveues Nott
fesronce | beer nie ed
consumed in the Prepaid insurance 200, Netincome Overstated,
business opera alance Sheet:
oo fe Oveated
(ontties Noe
Owmesecuty Deemed
ton
UNEARNED REVENUES
Unesnes | Cashreehed Listy Oe Ueamedet_ =D‘ Staten
fertmoy | emocon Terme ce | “tetRerme ta name Undated
terae | someeshwe omer Noe
cerptons_ beenpred necome Undead
recebeain. | urea buance she
sence, | omaysome ‘es _‘Noetec
GF. mae Cabites Ores
Borin. | beaioaes Owme’senity Undead
Bieeet [ounce ‘cma
Eces | suervtacnier
thesccourtng
pers
ACCRUED REVENUES
series [seveestae [Aneto (Acmantsecnate 50 | coe sttamer
fevered |boenproriedts | treme cx | “rortanea 300 Reve Understated
Bernat | trecasemes but Epenet —— Noetct
baa. | hvenotbons Natwcone Undead
teettobe | biledrrecorde bance Shee
receved,” | nerenteseer fe Undead
cored but has, Cabines Noel
rot benteceed OnmersequtyUndrtted
cored tanta
ACCRUED ExPENSES
Wogesor | eapenseshove [pense | WigesEpema 25) | neonesmnens:
faves becrincured, — Laty | Wager Si coe owes
rreueabut | burhewet Scce eaenae
not paid, been paidor | Netincome Overstated
truest” | woe eae
poral thier ndertted
Ownersequty Overstated
‘cota
DEPRECIATION
epee: Reedasets expen O (| Bepectontmese $9 came senemare
tenor |demecetres | Conmtsat ce | Aeon Dupetoe amesttement st
edie. |heygemiceer ‘ofeeucrent Fa see,
sos consumedin Netmcome —Oventated
Butngs | thebuses hee
operations ses owns lf
thes Note
| Owners equity Overstated
1 (capital) Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
121
BLT AT |)
Description
Adjusting Entries
Supplies Expense
Supplies
‘Supplies used ($2,000 - $760)
Insurance Expense
Prepaid insurance
Insurance expired ($2,400/12 months).
31, Unearned Rent
Rent Revenue
Rent earned ($360/3 month)
31 Accounts Receivable
Fees Earmed
‘Accrued fees (25 hrs, x $20).
31, Wages Expense
‘Wages Payable
‘Accrued wages.
31, Depreciation Expense
‘Accum, Depreciation—Office Equipment
| Depreciation on office equipment.
; = adjusting
Fee pebit—creaie Entries —
| NetSolutions
ss 1040
14 1240
56200
5 200
231
2 120
12500
a 500
2 250
= Anaccountant may
B checkwhether all
adjustments have been
2 50
2 ot acon
& cutent period
Eagjustments with those
3 ofthe prior period.
CIT aa
| MICROSOFT CORPORATION
Microsoft Corporation develops, manufactures, licenses
and supportsa wide range of computer software products,
| induding Windows ists, Windows7, WindowsXP, Word.
| Bree), and the Xbox" gaming system. When Microsoft
| tal its products, it incurs an obligation to support its,
Software with technical support and periodic updates. As
‘The percentage of
15% to 25% of the sales price for
revenue recorded as unearned
‘Windows XP Home, approximately 5% to 15%
a result, not all the revenue is earned on the date of sales
some of the revenue on the date of sale is unearned. The
portion of revenue related to support services, stich as,
updates and technical support, is earned as time passes
and support is provided to customers. Thus, each year
Microsoft makes adjusting entries transferring some of
its unearned revenue to revenue. The following excerpts
were taken from recent financial statements of Microsoft
ranges from approximately
of the sales price for Windows XP Professional, .
Unearned Revenue:
Tnearmed revenue (in millions)
| During the next year, Microsoft expects 0 record over
| $1352 million of unearned revenue as revenue. At the
Recent Ye
314830
Prior Year
314288
same time, Microsoft will record additional unearned
revenue from current period sales.
mare Stee enee ween Oe
Yess ee
| Credit
Chapter 4 Accounting Cycle of Service Businesses: The Adj
Ledger with Adjusting Entries—NetSolutions
20000 | 5,000
| 30650
960 | 7,900
2,000 | 5,900
2,400 | 3500
‘800 | 2.700
180 | 2880
+00 | 2480 |
1530 |
4630
900 | 3730
4380
1450 | 2.930
1730
120 |
22s | 1195 |
4065 |
2065
950
| 1.200
310
| 2,000
650 | 1,100 |
800
1240
200 | 2200
Credit
Debit | Credit Debit | Credit
Debit | Credit
| 1250
11800
|
‘Recount No.3!
|2s.000 |
Debit | credit
Debit | creat
7 aaa
1,350
400
2.200
1,800
900
‘Seerarae eur 28
[25,000 ‘Chay
ter 4 Accounting Cycle of Service Businesses: The Adjusting Process 123
Adjusting] 5 50 so |
yaa
Adjusting
Post.
Ref. | Debit | Credit
| es
Adjusting | 200 | 200 |
pev.30 1 | 2,25 | 2125,
be 13 3 | 950 3,075 |
2 | 3 | 1200 4275 |
J 31] Adusting| S| 250 432
| Balance i (2) prepare an
adjusted tal
After the adjustis fe posted, an adjusted trial balance is prepared. The balance.
a aa eri the equality ofthe total debit and credit balances before
financial statements are prepared. If the adjusted trial balance does not balance, an
error has occurred. However, as discussed in Chapter 3, errors may occur even though
the adjnied ret alae totals agree, For example ifn adjusting entry were omitted,
the adjusted trial balance totals would still agree: ss
124 Chapters Accounting Cycle of Service Businesses: The Adjusting Proc
ions as of December 31, 2013,
Exhibit 11 shows the adjusted trial balance fF Nese ce sheet, are
Chapter 5 discusses how financial statements, including
prepared from an adjusted trial balance.
perrentrity
Balance
Debit Credit
Balances Balances
2,065
SS 2.720
‘Accounts Receivable, 760
Supplies. " 2
Prepaid insurance 20,000
od
Office Equipment eens a
‘Accumulated Depreciation—Office Equipment
Accounts Payable . ,
Wages Payable.......cc.sscessseeeee
Unearned Rent......... : .
Chris Clark, Capital i RY. 25,000
Chis Clark, Drawing......sss.s... 4.000
Fees Earned. ......... a ageregain aa 16,840
Rent Revenue... : ‘ satay 20
Wages Expense ....
Rent Expense ....
Depreciation Expense
Utilities Expense
Supplies Expense.
Insurance Expense .
Miscellaneous Expense
eee eee ne ee >@
For each of the following errors, considered individually, indicate whether the error would cause the adjusted trial balance
totals to be unequal. Ifthe error would cause the adjusted tral balance totals to be unequal, indicate whether the cctt wr
credit total is higher and by how much,
2. The adjustment for accrued fees of $5,340 was journalized as a debit to Accounts Payable for $5,340 and a credit to
Fees Earned of $5,340.
b._ The adjustment for depreciation of $3,260 was journalized asa debit to Depreciation a
to Accumulated Depreciation for $3,260. Expense for $3,620 and a credit
Follow My Example 4-9 4
a. The totals are equal even though the debit should have been to Accounts Recel
b. The totals are unequal. The debit totals higher by $360 (53,620 ~ §3,260,
ivable instead of Accounts Payable.
a deat Practice Exercises: PE 4-9A, PE 4-98 Cha
Per 4 Accounting Cycle of Service Businesses:The Adjusting Process 125.
KeyPoints The accrual basis of accounting requires that revenu ;
“s res that revenues are reported in the period in which they are
cane and pent i called th adie hs £eveaueS they generate, The updating of accounts atthe end ofthe
cou is called the adjusting process. Each adjusting entry affects an income statem. the balance
sheet account. The four types of accounts Serta nee ee
requiring adjusting entries are prepaid expenses, unearned revenues, accrued
revenues, and accrued expenses. ‘quiring adjusting ent prepaid expenses, od revenues, acc
Leaming Outcomes | rate
«Explain why accrual accounting requires adjusting entries. heat ers
+ List accounts that do and do NOT require adjusting E41 eetiasein
entries atthe end of the accounting period.
+ Give an example of a prepaid expense, an unearned
EE 42 | PE 42A, 42B
revenue, an accrued revenue, and an accrued expense
POSE ua ca cog cee
Key Points At the end of the period, adjusting entries are needed for prepaid expenses, unearned revenues, accrued
revenues, and accrued expenses. In addition, an adjusting entry is necessary to record depreciation on fixed assets.
iearning Outcomes Bangle Pre |
| « Prepare an adjusting entry for a prepaid expense. EE 43 PE 43A, 43B |
« Prepare an adjusting entry for an unearned revenue. EE 44" PE 4-4A, 443 |
| + Prepare an adjusting entry for an accrued revenue | EE 45 | pE4sa,45p ||
| + Prepare an adjusting entry for an accrued expense EE 46 PE 4.6A, 4-6B |
« Prepare an adjusting entry for depreciation expense. BE 47 PE 4-7A, 4.78
BTU Rue en a ct
Key Points A summary of adjustments, including the type of adjustment, reason for the adjustment, the
adjusting entry, and the effect of omitting an adjustment on the financial statements is shown in Exhibit 8
Learning Outcomes frente: Pcie | |
« Determine the effect on the income statement and balance EE 48 Pe. ga |
| sheet of omitting an adjusting entry for prepaid expense, | 48a,
unearned revenue, accrued revenue, accrued expense, and
| _&epreciation.
DO OCR te Runs
Key Points. After all the adjusting entries have been posted, the equality ofthe total debit balances and
total credit balances is verified by an adjusted trial balance.
Example Practice 7
Learning Outcomes fereses exercises
+ Prepare an adjusted trial balance.
+ Determine the effect of errors on the equality of the adjusted EE 49 PE 49A, 49B
trial balance. ——e
126 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
Key Terms
fined assets (or plant asses) 11,
accounting period concept (104) __book value of the asset (or
accrual basis of accounting (104) net book value) (118) matching concept (or matchin,
accrued expenses (108) cash basis of accounting (104) principle) (104) 8
accrued revenues (107) contra accounts (or contra prepaid expenses (105)
revenue recognition concep (ig
asset accounts) (118)
depreciate (117)
depreciation (117)
depreciation expense (117)
unearned revenues (106)
accumulated depreciation (117)
adjusted trial balance (123)
adjusting entries (105)
adjusting process (105)
‘Three years ago, T. Roderick organized Harbor Realty. At July 31, 2014, the end of the
current year, the unadjusted trial balance of Harbor Realty appears as shown below.
pared
Unadjusted Trial Balance
July 31, 2014
f Debit Credit
csp : : 3,425
| Supplies 1270
| Fees Earned. sos |
| Insurance Expense i Chapter 4 Accounting Cycle of Service Businesses:The Adjusting Process 127
‘The data needed to determine year-end adjustments are as follows:
a. Supplies on hand at July 31, 2014, $380. ;
p, Insurance premiums expired during the year, $315,
c. Depreciation of equipment during the year, $4,950.
4. Wages accrued but not paid at July 31, 2014, $440.
e, Accrued fees earned but not recorded at July 31, 2014, $1,000.
{, Unearned fees on July 31, 2014, $750.
Instructions
1. Prepare the necessary adjusting journal entries. Include journal entry explanations.
2, Determine the balance of the accounts affect
peejasted trial balance 's affected by the adjusting entries, and prepare
Solution
supplies Expense
Supplies
Supplies used ($1,270 ~ $380).
Insurance Expense
Prepaid Insurance
Insurance expired.
Depreciation Expense 4950
‘Accumulated Depreciation—Office Equipment
Depreciation expense.
4950
Wages Expense
‘Wages Payable
‘Accrued wages.
Accounts Receivable
Fees Earned
‘Accrued fees,
1000
‘Unearned Fees 500
Fees Earned
Fees earned ($1,250 - $750).
500
‘caraae Lerang 20
He 128
Accounting Cycle of Service Businesses: The Adjusting Process
Prego
Poteet bub eae
July 31,2014
GEN sevacissvoneee WEEN
Accounts Receivable.
Supplies
Prepaid Insurance
Office Equipment .......-..cersserseeees
Accumulated Depreciation—Office Equipment.
Accounts Payable
‘Wages Payable
Unearned Fees
T. Roderick, Capital
T. Roderick, Drawing.
Fees Earned,
Wages Expense .
Depreciation Expense
Rent Expense
Utilities Expense
Supplies Expense.
| insurance Expense
| Miscellaneous Expense ...
Discussion Questions
How are revenues and expenses reported on 7.
the income statement under (a) the cash basis of
accounting and (b) the accrual basis of accounting?
Is the matching concept related to (a) the cash basis
of accounting or (b) the accrual basis of accounting?
Why are adjusting entries needed at the end of an
accounting period?
What is the difference between adjusting entries and
correcting entries? 8.
‘What are the four different categories of adjusting
entries frequently required at the end of an
accounting period? 9.
If the effect of the debit portion of an adjusting ent
is to increase the balance of an asset account, whic!
of the following statements describes the effect of
the credit portion of the entry?
a, Increases the balance of a revenue account.
b. Increases the balance of an expense account,
¢. Increases the balance of a liability account.
10.
ee |
ee
te |
8,000
7
es
a
vaso
os
Fr
pe
a
samo
soars
ree]
Sm
pa
315 |
If the effect of the credit portion of an adjusting
entry is to increase the balance of a liability account
which of the following statements describes the
effect of the debit portion of the entry?
a. Increases the balance of a revenue account.
b. Increases the balance of an expense account.
¢. Increases the balance of an asset account.
+ Poes every adjusting entry have an effect 0”
fern ining the amount of net income for a period!
On November 1 of the curr :
ent year, a busines Pl
he ‘November rent on the buil ing. ‘hat it ‘occupies
@ fe Fights acquired at November 1 represe*
for dct a8 expense? (b) What is the justificatio?
iting Rent Expense at the time of paymet!”
(2) Explain the
Depreciation
account? (c) Is it c
ustomai
what financeegounts to be equal in amount? (4)
pear? Statements, if any, will each acc! weet p10)
HEA 0
tea oi
FAS p11)
FEMS 9 117
FA pins
FEA p14
Fas y
BES ie
Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
PE4-1A Accounts requiring adjustment ope
Indicate with a Yes or No whether or not each of the following accounts normally requires an
adjusting entry not each of the following accounts normally requires
a, Accumulated Depreciation. Land . Supplies
b. Albert Stucky, Drawing d._ Salaries Payable £. Unearned Rent
PE4-1B Accounts requiring adjustment op).
Indicate with a Yes or No whether or not each of the following accounts normally requires an
adjusting entry.
a. Building c. Interest Expense e, Nathan Archer, Capital
b. Cash 4. Miscellaneous Expense Prepaid Insurance
PE4-2A Type of adjustment 0Bs.1
the following items as (1) prepaid expense, (2) unearned revenue, (3) accrued revenue,
or (4) accrued expense.
a. Cash received for services not yet rendered «cent revenue earned but not received
b. Insurance paid for the next year 4d. Salaries owed but not yet paid
PE4-2B Type of adjustment 0B).1
Classify the following items as (1) prepaid expense, (2) unearned revenue, (3) accrued revenue,
or (4) accrued expense.
a. Cash received for use of land next month c. Rent expense owed but not yet paid
b. Fees earned but not received . Supplies on hand
PE 4-3A Adjustment for prepaid expense ‘Obia
‘The supplies account had a beginning balance of $1,975 and was debited for $4,125 for supplies
purchased during the year. Journalize the adjusting entry required at the end ofthe year, assuming
the amount of supplies on hand is $1,850.
PE4-3B Adjustment for prepaid expense 083.2
‘The prepaid insurance account had a beginning balance of $9,600 and was debited for $12,900
Journalize the adjusting entry required at the end of the year,
of premiums paid during the yea
assuming the amount of unexpired insurance related to future periods is $7,360,
PE 4-4A Adjustment for unearned revenue ona
‘The balance mn the unearned fees account, before adjustment atthe end ofthe year, is $78,500,
Journaties the adjusting entry required, assuming the amount of unearned fees at the end of
the year is $33,675.
PE 4-4B Adjustment for unearned revenue an
Gn Jone 1, 2014, Herbal Co. received $18,900 forthe rent of land for 12 months. Journalize the
adjusting entry required for unearned rent on December 31, 2014,
ued revenues eae
'$12,840 of fees have been earned but have not been billed to
ecord the accrued fees.
PE4-5A Adjustment for acer
At the end of the current year,
clients. Journalize the adjusting entry € ¥
PE4-5B Adjustment for accrued revenues son
Aandi sarrent yeas $17,585 of fees have been earned but have not been billed to
Gente, Jourpalive the adjusting entry t0 record the accrued fees,
129 130 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
a
sees
fea 5117
EE AG p17
FEAT 5119
EAT 2119
BE 4-8 1119
FEa8 2119
E49 p 124
EAS 1 126
08.2
PE4-6A Adjustment for accrued expense
‘Connect Realty Co. pays weekly salaries of $16,250 on Friday for a five-day works ending on
that day. Journalize the necessary adjusting entry at the end of the accounting period, e
that the period ends on Wednesday.
0B).2
600 on Monday for a six-day workweek ending
dusting entry at the end of the accounting
PE4-6B Adjustment for accrued expense
Prospect Realty Co. pays weekly salaries of $275
the preceding Saturday. Journalize the necessary a
period, assuming that the period ends on Friday.
PE 4-7A Adjustment for depreciation Ome
The estimated amount of depreciation on equipment for the current year is $9,100.
Journalize the adjusting entry to record the depreciation.
PE4-7B Adjustment for depreciation 0Bs.2
‘The estimated amount of depreciation on equipment for the current year is $7,700.
Journalize the adjusting entry to record the depreciation.
PE4-8A Effect of omitting adjustments 081.3
For the year ending August 31, 2014, Mammalia Medical Co. mistakenly omitted adjusting
entries for (1) depreciation of $5,800, (2) fees earned that were not billed of $44,500, and
(3) accrued wages of $7,300. Indicate the combined effect of the errors on (a) revenues,
(b) expenses, and (c) net income for the year ended August 31, 2014.
PE 4-8B Effect of omitting adjustments. (08).3
For the year ending April 30, 2014, Urology Medical Services Co. mistakenly omitted adjusting
entries for (1) $1,400 of supplies that were used, (2) unearned revenue of $6,600 that was earned,
and (3) insurance of $9,000 that expired. Indicate the combined effect ofthe errors on (a) revenus,
(b) expenses, and (c) net income for the year ended April 30, 2014.
PE4-9A_ Effect of errors on adjusted trial balance O84
For each of the following errors, considered individually, indicate whether th
the adjusted tal balance totals io be unequal Ifthe ertor would aus the sored et Gane
totals to be unequal, indicate whether the debtor credit totais higher and by how much
2. ‘Theadjustment of $9,800 for accrued fees earned was ournlized asa debi
for $9,800 and a credit to Fees Earned for $8,900. eatatnsicirecanncrr mest
». The adjustment of depreciation of $600 was omited from the end-of period adjusting ent
PE 4-98 Effect of errors on adjusted trial balance ope
For each of the following errors, considered individually, indi i
the adjusted tral balance totals to be unequal Ifthe errer would, iene ceria be
totals to be unequal, inicate whether the debit or eet toa i gh ese rl bala
a. The adjustment for accrued wages of $5,200 was journalized as a vi and by how much. ‘
$5,200 and a credit to Accounts Payable for $5,200, it to Wages Expense for
b. The entry for $1,125 of supplies used during the
Expense of $1,125 and a credit to Supplies ops ‘Was journalized as a debit to Supplies hater 4 Accounting Cycle of Service Businesses: The Adjusting Process 131
i i cn
EX 4-1 Classifying types of adjustments 08
Canty dt re eine 88 (a) prepaid expense, (b) unearned revenue, (c) accrued revenue,
A three-year premium paid on a fire insurance policy.
Fees earned but not yet received,
Fees received but not yet earned.
Salary owed but not yet paid.
Subscriptions received in advance by a magazine publisher.
Supplies on hand.
‘Taxes owed but payable in the following period.
Utilities owed but not yet paid.
EX 4-2. Classifying adjusting entries Bi.
The following accounts were taken from the unadjusted trial balance of Orion Co., a congressional
lobbying firm. Indicate whether or not each account would normally require an adjusting entry.
If the account normally requires an adjusting entry, use the following notation to indicate the
type of adjustment:
AE—Accrued Expense
‘AR—Accrued Revenue
PE—Prepaid Expense
UR—Unearned Revenue
To illustrate, the answer for the first account is shown below.
Answer
‘Accounts Rece Normally requires adjustment (AR)
Cash
Interest Expense
Interest Receivable
Johann Atkins, Capital
Land
Office Equipment
Prepaid Rent
Supplies
Unearned Fees
Wages Expense
EX 4-3 Adjusting entry for supplies 0Bs.2
The valanc in thes plies account, before adjustment atthe end ofthe year, i $2,389, Journalize
the adjusting entry required ifthe amount of supplies on hand atthe end of the year is $830,
x ining supplies purchased , nee
sits eipieceaa ein expe Naccounts at December 31, after adjusting entries have been
Posted at the end of the first year of operations are shown in the following T accounts:
Supplies Expense
Seeks Bal 4,250 |
ia 7560 |
Determine the amount of supplies purchased during the year 132 Chapter4 Accounting Cycle of Service Businesses: The Adjusting Proces*
») WONG ex \h
b) 08 f
va, Amount
of entry:
$7,050
081.23
EX 4-5 Effect of omitting adjusting entry ‘
‘At March 31, the end of the first month of operations, the usual nee
prepaid insurance expired to an expense account is omitted. et (6) the balance sheet as
Stated, because of the eror, on (a) the income statement for Marchand 10) SX en
‘of March 317 Also indicate whether the items in error will be overstated oF Uk
EX 4-6 Adjusting entries for prepaid insurance 0B).2
‘The balance in the prepaid insurance account, before adjustment atthe end ofthe yea $21;700,
Journalize the adjusting entry required under each of the following alternatives for ectcamen tg
the amount of the adjustment: (a) the amount of insurance expired during the year is $16,450;
(b) the amount f unexpired insurance applicable to future periods is $5,250.
EX 4-7 Adjusting entries for prepaid insurance 2812
‘The prepaid insurance account had a balance of $12,000 at the beginning of the year. The account
‘was debited for $18,000 for premiums on policies purchased during the year. Journalize the
adjusting entry required at the end of the year for each ofthe following situations: (a) the amount
of unexpired insurance applicable to future periods is $13,600; (b) the amount of insurance
expired during the year is $16,400.
EX 4-8 Adjusting eritries for unearned fees 0B).2
‘The balance in the unearned fees account, before adjustment at the end of the year, is $37,500.
Journalize the adjusting entry required if the amount of unearned fees at the end of the year is
$12,300.
EX 4-9 Effect of omitting adjusting entry 0B). 2,3
‘At the end of July, the first month of the business year, the usual adjusting entry transferring
rent earned to a revenue account from the unearned rent account was omitted. Indicate which
items will be incorrectly stated, because of the error, on (a) the income statement for July and
(b) the balance sheet as of July 31. Also indicate whether the items in error will be overstated
or understated.
EX 4-10 Adjusting entry for accrued fees ahd.
At the end of the current year, $8,450 of fees have been earned but have not been billed to clients.
a, Journalize the adjusting entry to record the accrued fees.
b. Ifthe cash basis rather than the accrual basis had been used, would an adjusting entry have been
necessary? Explain.
EX 4-11 Adjusting entries for unearned and accrued fees oni
‘The balance inthe unearned fees account, before adjustment at the end of y
Of these fees, $71,600 have been earned, In addition, 47,400 of fos here pose ci og
have not been billed. Journalize the adjusting entries (a) to ad
i ue second the nesrued fees, ig entries (a) to adjust the unearned fees account
EX 4-12 Effect of omitting adjusting entry
‘The adjusting entry for accrued fees was omitted at October 31
cio ‘ ober 31, the end .
Indicate which items willbe in error, because ofthe omission, on (a) the mores see
the current year and (b) the balance sheet as of October 31. Also iy ait atic
error will be overstated or understated. licate whether the items in
0B. 2,3,
EX 4-13 Adjusting entries for accrued salaries
Ocular Realty Co. pays weekly salaries of $11,750 on Fri
that day. Journalize the necestary adjusting entry ar theo {ot five-day workweek ending on
that the period ends (a) on Wednesday and (b) on Thursday, “UNS Period, assuming
oB.2
EX 4-14 Determining wages paid
‘The wages payable and wages expense accounts at May 31, after ad oBs.2
at the end of the first month of operations, are shows in nerg entries have been posted
“ 'S on the next page: smiaoo
Chapter Accounting Cycle of Service Businesses: The Adjusting Process
rae Favabe Wages Expense
Tear 775 Bal 73,250 |
Determine the amount of wages paid during the month,
EX 4-15 Effect of omitting adjusting entry 083.2,3
Accrued salaries owed to employees for October 30
‘and 31 are not considered in preparing the
fos statements for the year ended October 31. Indicate which items will be erroneously
stated, because of the error, on (a) the income statement for the year and (b) the balance sheet as
of October 31. Also indicate whether the items in error will be overstated or understated.
EX 4-16 Effect of omitting adjusting entry 001.2,3
Assume that the error in Exercise 4-15 was not corrected and that the accrued salaries were
included in the first salary payment in November. Indicate which items will be erroneously
stated, because of failure to correct the initial error, on (a) the income statement for the month
of November and (b) the balance sheet as of November 30.
EX 4-17 Adjusting entries for prepaid and accrued taxes 08.2
Diamond Services was organized on April 1 of the current year. On April 2, Diamond Services
prepaid $28,800 to the city for taxes (license fees) for the next 12 months and debited the prepaid
taxes account. Diamond Services is also required to pay in January an annual tax (on property)
for the previous calendar year. The estimated amount of the property tax for the current year
(April 1 to December 31) is $49,800.
& Journalize the two adjusting entries required to bring the accounts affected by the two taxes up
to date as of December 31, the end of the current year.
b. What is the amount of tax expense for the current year?
EX 4-18 Adjustment for depreciation 0B).2
‘The estimated amount of depreciation on equipment for the current year is $6,760. Journalize
the adjusting entry to record the depreciation.
EX 4-19 Determining fixed asset's book value aiice
‘The balance in the equipment account is $1,375,000, and the balance in the accumulated
depreciation—equipment account is $725,000.
a. What is the book value of the equipment?
. Does the balance in the accumulated depreciation account mean that the equipment’s loss of
value is $725,000? Explain.
EX 4-20 Book value of fixed assets one
In a recent balance sheet, Microsoft Corporation reported Property, Plant, and Equipment of
$16259 million and Accumulated Depreciation of $8,629 million
‘What was the book value of the fixed assets?
b. Would the book value of Microsoft Corporation's fixed assets normally approximate their fair
market values?
ts
EX 4-21 Effects of errors on financial statemen' 7 08).2,3
Cane erect othe balance sheet for Costco Wholesale Corporation reported accrued
cepee of 9399 milion For the same period, Costco reported income before income taxes
ene ao riaioe that the adjusting entry for $1,693 milion of accrued expenses was
of $2,054 milion, Asef the current period. What would have been the income (loss) before
income taxes?
133 134 Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process
EX 4-22 Effects of errors on financial statements lamisil
Fora recent year, the balance sheet for The Campbell Soup Company includes accrued expenses,
<€ of $560 million. The income before taxes for The Campbell Soup Company for the year was
$1,242 million,
4. Assume the adjusting entry for $560 milion of accrued expenses was not recorded at the end of
the year. By how much would income before taxes have been misstated?
'b. What is the percentage ofthe misstatement in (a) tothe reported income of $1,242 million? Round
to one decimal place.
EX 4-23 Effects of errors on financial statements 08s.2,3
74%, The accountant for Astaire Medical Co., a medical services consulting firm, mistakenly omitted
Revenue adjusting entries for (a) unearned revenue earned during the year ($23,250) and (b) accrued
understated, Wages ($4,000). Indicate the effect of each error, considered individually, on the income statement
$23,250 for the current year ended August 31. Also indicate the effect of each error on the August 31
balance sheet. Set up a table similar to the following, and record your answers by inserting
the dollar amount in the appropriate spaces. Insert a zero if the error does not affect the item,
Eror(a) —_trrortoy
Over Under Over Under
Stated tated 4
1. Revenue forthe year would be ss Ea
2. Expenses forthe year would be a st
3. Netincomefortheyearwouldbe = $$ _
4, Assets at August 31 would be Posen Saute vo
5. Liabilities at August 31 would be Bima ns emer
6 Owners equity at August’31 wouldbe § | § —
EX 4.24 Effects of errors on financial statements 08.2.3,
If the net income for the current year had been $113,650 in Exercise 4-23, what would have
been the correct net income if the proper adjusting entries had been made?
EX 4-25 Adjusting entries for depreciation; effect of error 083.23
On December 31, 2 business estimates depreciation on equipment used during the first year of
operations to be $13,900.
a. Journalize the adjusting entry required as of December 31
. If the adjusting entry in (a) were omitted, which items would be erroneously stated on
(Q) the income statement for the year and (2) the balance sheet as of December 31?
EX 4-26 Adjusting entries from trial balances
08.4
‘The unadjusted and adjusted trial balances for Editorial Services Co, on March 31, 2014, are
shown below. 2014,
Editorial Services Co,
“rial Balances
‘March 31,2014
Unadjusted
‘Adjusted
nth Credit Debit Credit
ces Balances Balances _Balances
Cash .. i 3 a 7
‘Accounts Receivable. eee 19 E
Supplies fanart é 2
Prepaid insurance .......... ie 5
Land «+. ig ‘
Equipment. : 7 1
‘Accumulated Depreciation—Equipment..... d 2
‘Accounts Payable : z 6
Wages Payable. a : 3
(Continued) Chapter 4 Accounting Cycle of Service Businesses: The Adjusting Process 135
Valerie Nolan, Capital... eccscesseeenee 46 iat |
Valerie Nolan, Drawing
FeesEarned.......
Wages Expense ne 1
Rent Expense
Insurance Expense
Utilities Expense
Depreciation Expense
Supplies Expense
Miscellaneous Expense
7 40
wo ie we ee
Journalize the five entries that adjusted the accounts at March 31, 2014. None of the accounts
were affected by more than one adjusting entry.
EX 4-27 Adjusting entries from trial balances 08.4
Vconected The accountant for Eva's Laundry prepared the following unadjusted and adjusted trial balances.
trialbalance Assume that all balances in the unadjusted trial balance and the amounts of the adjustments
totals, $369,000 a¥e correct. Identify the errors in the accountant’s adjusting entries, assuming that none of the
accounts were affected by more than one adjusting entry.
Eva's Laundry
‘Wial Balances
May 31,2014
Unadjusted ‘Adjusted |
Debit Credit Debit Credit |
Balances Balances Balances Balances
Cash 7,500) 7,500
‘Accounts Receivable. 18250 23,250
Laundry Supplies. 3.750 6750
Prepaid Insurance* 5.200, 1,600 \
Laundry Equipment <..2..2..0... 190,000 17,000
‘Accumulated Depreciation—Laundry Equipment. 48,000 48,000 |
Accounts Payable 9,600 9.600
Wages Payable. 1.000
Eva Bruns, Capital... 110,300 110,300 i
Eva Bruns, Drawing od 28,775 28,775
Laundry Revenue. 182,100 182,100
Wages Expense 49,200 49,200 {|
Rent Expense 25,575 25,575
Utilities Expense 18,500 18,500
Depreciation Expense a ison) j
Laundry Supplies Expense... Sao
Insurance Expense . 600
Miscellaneous Expense sestess 3250 250
|
350,000 350,000 358,000
$2.60 fnsurance exited daring he yer 136 Chapter Accounting Cycle of Service Businesses: The Adjusting Process
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