ACCT2511 Additional Questions – Solutions

TOPIC 2: The Accounting Cycle (Part 2): Recording Accrual

Discussion Questions from Chapter 4:

DQ4.8
Expense: cost of assets used or costs incurred in producing revenue. Recognition of expense may
precede, accompany or follow payment of cash (cash disbursement).

DQ4.13
The purpose of accrual accounting adjustments is to make the financial statements as reliable as
possible. The intention is to identify with each accounting period the revenue earned in that period and
to determine the expenses associated with generating the period’s revenue. The difference between
the revenue and expense for the period then represents the profit or loss for the period. Thus the
adjustments augment the cash-based figures to implement accrual accounting.

DQ4.14
 Expiration of assets: Prepaid expenses are assets that arise because an expenditure has
been made, but there is still value extending into the future. If they have been treated as assets
at the time of expenditure, an adjustment is necessary at balance date to reduce the amount of
the asset and to treat the expired portion of the asset as an expense, reducing profit for the
period.
 Unearned revenues: These are future revenues where cash has been received in advance of
earning revenue. They are treated as liabilities at the time of receipt. At balance date any
revenue earned must be recognised (i.e. increase profits) and the liability reduced.
 Accrued expenses: These are expenses which have been incurred during the current period
but will not be paid until the following period. At balance date expenses must be increased
reducing profit and a liability recorded in the balance sheet.
CRICOS Provider Code
00098G
  Accrued revenue: This arises when a service has been provided but cash will not be received
until the following period. At period end an adjustment must be made increasing an asset as
well as revenue.

DQ4.15
At the time customers pay for the flights this is recorded as a liability because the airline has an
obligation to make a future sacrifice of economic benefits. When the flight has been made revenue is
recognised. Profit is increased by the amount of revenue less costs incurred in providing the service.

DQ4.16
The mining company has the advantage of the use of cash until the contractors submit their bills. At
year-end this does mean that the company must record the liability for unpaid accounts. In many cases
it is necessary for the company to make an estimate of the value of work undertaken to date.

DQ4.17
The depreciating of noncurrent assets spreads the costs of the assets over their useful lives to match
the consumption of those costs to the benefits (revenue) gained from their use.

DQ4.18
Depreciation is the allocation of the cost of a noncurrent asset to expense each period over the life of
the asset to recognise the consumption of the asset’s economic value.
Accumulated depreciation is an account that accumulates total depreciation expense over a number of
years. The account balance is deducted from the asset’s cost to arrive at book value.

DQ4.19
Book value is the amount shown in the accounts for an asset after deducting accumulated
depreciation. It is important for a manager thinking about disposing of some assets because the
difference between the book value and the amount received on disposal will be recorded in the
accounts of the organisation as a loss or a profit. A loss on such a transaction may reflect badly on the
manager.

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DQ4.20
Some points that might be made:
• measuring availability and use of ‘real resources’ involves more than cash flow, because the
resources do not necessarily generate cash immediately or smoothly.
• therefore something besides cash is needed to do the measurement job the business person
seems to want: ‘profit’ is an attempt to do that.
• ‘profit’ measures economic performance, which is the generation of returns before, after or
even coincidentally with cash flow.
• therefore, accrual accounting does not so much diverge from measuring cash flow as enrich or
augment it.
• cash flow may be affected by forces beyond the organisation’s earnings performance, such as
customers’ ability to make payments, debt payment deadlines or unexpected opportunities, so
using it as a performance measure contaminates the measure with non-performance events:
profit avoids this similarly, cash flow tends to be a ‘lumpy’ measure but profit is smoother
(because it is not mixed with non-performance events) and therefore may better measure the
organisation’s basic performance.
• profit also reflects the ‘matching’ principle, in which revenue generation and expense incurrence
are measured consistently, producing a more meaningful net figure (profit): cash flow does not
reflect any similar principle.

DQ4.21
Here are example circumstances, illustrated in journal entry form:
a)
DR Interest expense
CR Interest payable
DR Wage expense
CR Wages payable
b)
DR Depreciation expense
CR Accumulated depreciation
DR Bad debts expense
CR Allowance for doubtful debts

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c)
DR Interest receivable
CR Interest revenue

DR Commission receivable
CR Commission revenue

d)
DR Unearned revenue
CR Sales revenue

DQ4.22
a) Prepayments: not record the full adjustment at year end; therefore, expenses would be
understated (and profit overstated).
b) Unearned revenue: recognising revenue before it is actually earned, i.e. reducing unearned
revenue and increasing revenue prematurely would overstate revenues (and therefore
overstate profit).
c) Accrued expenses: not recognising a particular accrued expense would understate both
liabilities and expenses (and therefore overstate profit).
d) Accrued revenue: recognising accrued revenue before it has been earned would overstate
assets and revenue (and therefore profit).

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Problem Questions from Chapter 4:
P4.6
1 Total Revenue (60 x 7,000) = $420,000.
2 List of expenses:
$
Rent (1/3 x $36,000) 12,000
Wages ($60,000 + 10,000) 70,000
Interest ($24,000 x 10% x 1/12) 200
Depreciation 5,000
87,200
3 Closing balance of cash account:
$
Opening balance 600,000
From accounts receivable 62,000
Paid rent (36,000)
Received payment for 30 days of training 210,000
Received deposit 6,000
Paid for equipment and installation (600,000)
Paid wages (60,000)
Paid a dividend (40,000)
Loan 24,000
Closing balance 166,000

P4.9
a Expense increases (insurance Asset decreases (prepaid insurance)
expense)
b Asset increases (dividend receivable) Revenue increases (dividend revenue)
c Expenses increase (commission Liabilities increase (commission payable)
expense)
d Revenue decreases (sales) Liabilities increase (unearned revenue)
e Assets increase (supplies) Expenses decrease (office supplies
expense)
f Expenses increase (interest expense) Liabilities increase (accrued interest)

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P4.11

Account names $ $
1 Commission receivable 2,000
Commission revenue 2,000
2 Wages expense 1,200
Wages payable 1,200
3 Interest receivable 2,000
Interest revenue 2,000
4 Office supplies expense 8,100
Office supplies inventory 8,100
(or Office supplies or
Office supplies on hand)

P4.12

Assets Liabilities Revenues Expenses

b NE -12,000 +12,000 NE

c -13,500 NE NE +13,500

d NE +43,000 NE +43,000

e NE +7,000 NE +7,000

f -2,600 NE NE +2,600

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P4.19

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Discussion Questions from Chapter 10:
DQ10.6
The basic point is that accounting records and financial statements need not be complex or expensive
to be useful. Every manager needs to know how the business is performing and to be able to explain
that to bankers and others. This performance goes beyond mere sales records, even if sales are the
lifeblood of the firm. The accounting system provides information about profitability, cash flows, debts
and other factors important to the business besides sales. Bankers and tax authorities want to know
about such things, even if the businessman claims not to.
It should be said also that the entrepreneur mentioned may well have an accounting system that fits
the modest needs of his/her business well. He/she understands cost-benefit: accounting, like
everything else, should be worth its cost. But he/she should ask himself/herself if he/she could be a
better manager if he/she had more information, and perhaps accounting could help him/her there.

DQ10.9
Most accruals are estimates which can be made with varying degrees of accuracy. For example,
accrued wages and accrued interest can usually be quite precise. However, accrued electricity is a bit
more difficult as the company has to estimate the amount of electricity used towards the end of the
year for which they do not have an invoice. Many accrued revenue items can be difficult to estimate,
for example, construction revenue on building a tunnel. So if these expenses or revenues are
underestimated in one year they will end up as revenue or expenses in the next year. So keep in mind
that profit involves many estimates around which period revenues and expenses go into. In some rare
circumstances involving very large dollar amounts, accounts may need to be restated but this would
normally involve ASIC.

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Problem Questions from Chapter 10:
P10.7

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P10.15

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