Chapter 2 Accounting Information System PDF

CHAPTER 2 THE ACCOUNTING INFORMATION SYSTEM Slide 3-1  Learning Learning Objectives Objectives 1. Understand basic accounting terminology. 2. Explain double-entry rules....

CHAPTER 2 THE ACCOUNTING INFORMATION SYSTEM Slide 3-1  Learning Learning Objectives Objectives 1. Understand basic accounting terminology. 2. Explain double-entry rules. 3. Identify steps in the accounting cycle. 4. Record transactions in journals, post to ledger accounts, and prepare a trial balance. 5. Explain the reasons for preparing adjusting entries. 6. Prepare financial statement from the adjusted trial balance. 7. Prepare closing entries. Slide 3-2  The The Accounting Accounting Information Information System System Financial Accounting The Accounting Statements For Information System Cycle Merchandisers Basic terminology Identifying and recording Income statement Debits and credits Journalizing Statement of retained Accounting equation Posting earnings Financial statements Trial balance Statement of financial and ownership position Adjusting entries structure Closing entries Adjusted trial balance Preparing financial statements Closing Post-closing trial balance Reversing entries Slide Summary 3-3  Accounting Accounting Information Information System System Accounting Information System (AIS) Collects and processes transaction data. Disseminates the information to interested parties. Accounting information systems vary widely from one business to another. Various factors shape these systems:  The nature of the business and the transactions in which it engages,  the size of the firm,  the volume of data to be handled, and Slide  The informational demands that management and others require. 3-4  Accounting Accounting Information Information System System Helps management answer such questions as: How much and what kind of debt is outstanding? Were sales higher this period than last? What assets do we have? What were our cash inflows and outflows? Did we make a profit last period? Are any of our product lines or divisions operating at a loss? Can we safely increase our dividends to shareholders? Is our rate of return on net assets increasing? Slide 3-5  Basic Basic Terminology Terminology Event Journal Transaction Posting Account Trial Balance Real Account Adjusting Entries Nominal Account Financial Statements Ledger Closing Entries Slide 3-6 LO 1 Understand basic accounting terminology.  Basic Terminology  EVENT. A happening of consequence.  An event generally is the source or cause of changes in assets, liabilities, and equity.  Events may be external or internal.  TRANSACTION. An external event involving a transfer or exchange between two or more entities.  ACCOUNT. A systematic arrangement that shows the effect of transactions and other  events on a specific element (asset, liability, and so on). Slide 3-7  Basic Terminology  REAL AND NOMINAL ACCOUNTS.  Real (permanent) accounts are asset, liability, and equity accounts;  They appear on the statement of financial position.  Nominal (temporary) accounts are revenue, expense, and dividend accounts;  Except for dividends, they appear on the income statement.  Companies periodically close nominal accounts; they do not close real accounts. Slide 3-8  Debits Debits and and Credits Credits An Account shows the effect of transactions on a given asset, liability, equity, revenue, or expense account. Double-entry accounting system (two-sided effect). Recording done by debiting at least one account and crediting another. DEBITS must equal CREDITS. Slide 3-9 LO 2 Explain double-entry rules.  Debits Debits and and Credits Credits An arrangement that shows the Account effect of transactions on an account. Debit = “Left” Credit = “Right” An Account can Account Name be illustrated in a Debit / Dr. Credit / Cr. T-Account form. Slide 3-10 LO 2 Explain double-entry rules.  Debits Debits and and Credits Credits If Debit entries are greater than Credit entries, the account will have a debit balance. Account Name Debit / Dr. Credit / Cr. Transaction #1 $10,000 $3,000 Transaction #2 Transaction #3 8,000 Balance $15,000 Slide 3-11 LO 2 Explain double-entry rules.  Debits Debits and and Credits Credits If Credit entries are greater than Debit entries, the account will have a credit balance. Account Name Debit / Dr. Credit / Cr. Transaction #1 $10,000 $3,000 Transaction #2 8,000 Transaction #3 Balance $1,000 Slide 3-12 LO 2 Explain double-entry rules.  Debits Debits and and Credits Credits Summary Summary Lia b ilit ie s Normal Debit / Dr. Credit / Cr. Normal Normal Normal Balance Balance Balance Balance Debit Debit Credit Credit Normal Balance As s e t s Chapter 3-24 Eq uit y Debit / Dr. Credit / Cr. Debit / Dr. Credit / Cr. Normal Balance Normal Balance Chapter 3-23 Ex pe ns e Chapter 3-25 Re ve nue Debit / Dr. Credit / Cr. Debit / Dr. Credit / Cr. Normal Balance Normal Balance Chapter 3-27 Chapter 3-26 Slide 3-13 LO 2 Explain double-entry rules.  Debits Debits and and Credits Credits Summary Summary Statement of Financial Position Income Statement Asset = Liability + Equity Revenue - Expense = Debit Credit Slide 3-14 LO 2 Explain double-entry rules.  The The Accounting Accounting Equation Equation Relationship among the assets, liabilities and equity of a business: Illustration 3-3 The equation must be in balance after every transaction. For every Debit there must be a Credit. Slide 3-15 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 1. Owners invest $40,000 in exchange for share capital Assets = Liabilities + Equity + 40,000 + 40,000 Slide 3-16 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 2. Disburse $600 cash for secretarial wages. Assets = Liabilities + Equity - 600 - 600 (expense) Slide 3-17 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 3. Purchase office equipment priced at $5,200, giving a 10 percent promissory note in exchange. Assets = Liabilities + Equity + 5,200 + 5,200 Slide 3-18 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 4. Received $4,000 cash for services rendered. Assets = Liabilities + Equity + 4,000 + 4,000 (revenue) Slide 3-19 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 5. Pay off a short-term liability of $7,000. Assets = Liabilities + Equity - 7,000 - 7,000 Slide 3-20 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 6. Declared a cash dividend of $5,000. Assets = Liabilities + Equity + 5,000 - 5,000 Slide 3-21 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 7. Convert a long-term liability of $80,000 into ordinary shares. Assets = Liabilities + Equity - 80,000 + 80,000 Slide 3-22 LO 2 Explain double-entry rules.  Double-Entry Double-Entry System System Illustration Illustration 8. Pay cash of $16,000 for a delivery van. Assets = Liabilities + Equity - 16,000 + 16,000 Note Notethat thatthe theaccounting accountingequation equationequality equalityisis maintained maintainedafter afterrecording recordingeach eachtransaction. transaction. Slide 3-23 LO 2 Explain double-entry rules.  Financial Financial Statements Statements and and Ownership Ownership Structure Structure Ownership structure dictates the types of accounts that are part of the equity section. Proprietorship Proprietorship or or Corporation Corporation Partnership Partnership  Capital account  Share capital  Drawing account  Share premium  Dividends  Retained Earnings Slide 3-24 LO 2 Explain double-entry rules.  Financial Financial Statements Statements and and Ownership Ownership Structure Structure Illustration 3-4 Statement of Financial Position Equity Share Capital Retained Earnings (Investment by shareholders) (Net income retained in business) Net income or Net loss Dividends (Revenues less expenses) Income Statement Retained Earnings Statement Slide 3-25 LO 2 Explain double-entry rules.  The The Accounting Accounting Cycle Cycle  An enterprise normally uses these accounting procedures/cycle to record transactions and prepare financial statements. Slide 3-26  The The Accounting Accounting Cycle Cycle Illustration 3-6 Transactions & other events 9. Reversing entries 1. Journalization 8. Post-closing trial balance 2. Posting-Monthly/daily 7. Closing entries 3. Trial balance Work 6. Financial Statements Sheet 4. Adjustments 5. Adjusted trial balance Slide 3-27 LO 3 Identify steps in the accounting cycle.  Identify Identify and and Recording Recording Transactions Transactions What to Record? The first problem is to determine what to record. Although IFRS provides guidelines, no simple rules exist that state which events a company should record. In short, a company records as many transactions as possible that affect its financial position. Slide 3-28 LO 3 Identify steps in the accounting cycle.  Identify Identify and and Recording Recording Transactions Transactions  An item should be recognized in the financial statements if it :  meet the definition of an element,  is probable that any future economic benefit associated with the item will flow to or from the entity, and  has a cost or value that can be measured reliably.  is relevant and a faithful representation.  For example, should we value employees for statement of financial position and income statement purposes?  Certainly skilled employees are an important asset (highly relevant), but the problems of determining their  value and measuring it reliably have not yet been solved Slide 3-29  1. 1. Journalizing Journalizing A company records in accounts those transactions and events that affect its assets, liabilities, and equities.  The general ledger contains all the asset, liability, and equity accounts.  An account shows the effect of transactions on particular asset, liability, equity, revenue, and expense accounts.  In practice, companies do not record transactions and selected other events originally in the ledger. Rather……..? Slide 3-30  1. 1. Journalizing Journalizing General Journal – a chronological record of transactions. Journal Entries are recorded in the journal. September 1: Shareholders invested $15,000 cash in the corporation in exchange for ordinary shares. Illustration 3-7 Slide LO 4 Record transactions in journals, post to 3-31 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting Posting – the process of transferring amounts from the journal to the ledger accounts. Illustration 3-7 Illustration 3-8 Slide LO 4 Record transactions in journals, post to 3-32 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting Posting – Transferring amounts from journal to ledger. Illustration 3-8 Slide 3-33 LO 4  2. 2. Posting Posting Expanded Example The purpose of transaction analysis is (1) to identify the type of account involved, and (2) to determine whether a debit or a credit is required. Keep in mind that every journal entry affects one or more of the following items: assets, liabilities, equity, revenues, or expense. Slide 3-34  2. 2. Posting Posting 1. October 1: Shareholders invest $100,000 cash in an advertising venture to be known as Pioneer Advertising Agency Inc. Illustration 3-9 Oct. 1 Cash 100,000 Share capital - ordinary 100,000 Cash Share Capital - Ordinary Debit Credit Debit Credit 100,000 100,000 Slide 3-35  2. 2. Posting Posting 2. October 1: Pioneer Advertising purchases office equipment costing $50,000 by signing a 3-month, 12%, $50,000 note payable. Illustration 3-10 Oct. 1 Office equipment 50,000 Notes payable 50,000 Office Equipment Notes Payable Debit Credit Debit Credit 50,000 50,000 Slide LO 4 Record transactions in journals, post to 3-36 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 3. October 2: Pioneer Advertising receives a $12,000 cash advance from KC, a client, for advertising services that are expected to be completed by December 31. Illustration 3-11 Oct. 2 Cash 12,000 Unearned service revenue 12,000 Cash Unearned Service Revenue Debit Credit Debit Credit 100,000 12,000 12,000 Slide LO 4 Record transactions in journals, post to 3-37 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 4. October 3: Pioneer Advertising pays $9,000 office rent, in cash, for October. Illustration 3-12 Oct. 3 Rent expense 9,000 Cash 9,000 Cash Rent Expense Debit Credit Debit Credit 100,000 9,000 9,000 12,000 Slide LO 4 Record transactions in journals, post to 3-38 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 5. October 4: Pioneer Advertising pays $6,000 for a one-year insurance policy that will expire next year on September 30. Illustration 3-13 Oct. 4 Prepaid insurance 6,000 Cash 6,000 Cash Prepaid Insurance Debit Credit Debit Credit 100,000 9,000 6,000 12,000 6,000 Slide LO 4 Record transactions in journals, post to 3-39 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 6. October 5: Pioneer Advertising purchases, for $25,000 on account, an estimated 3-month supply of advertising materials from Aero Supply. Illustration 3-14 Oct. 5 Advertising supplies 25,000 Accounts payable 25,000 Advertising Supplies Accounts Payable Debit Credit Debit Credit 25,000 25,000 Slide LO 4 Record transactions in journals, post to 3-40 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 7. October 9: Pioneer Advertising signs a contract with a local newspaper for advertising inserts (flyers) to be distributed starting the last Sunday in November. Pioneer will start work on the content of the flyers in November. Payment of $7,000 is due following delivery of the Sunday papers containing the flyers. Illustration 3-15 Slide LO 4 Record transactions in journals, post to 3-41 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 8. October 20: Pioneer Advertising’s board of directors declares and pays a $5,000 cash dividend to shareholders. Illustration 3-16 Oct. 20 Dividends 5,000 Cash 5,000 Cash Dividends Debit Credit Debit Credit 100,000 9,000 5,000 12,000 6,000 5,000 Slide LO 4 Record transactions in journals, post to 3-42 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 9. October 26: Employees are paid every four weeks. The total payroll is $2,000 per day. The pay period ended on Friday, October 26, with salaries of $40,000 being paid. Illustration 3-17 Oct. 26 Salaries expense 40,000 Cash 40,000 Cash Salaries Expense Debit Credit Debit Credit 100,000 9,000 40,000 12,000 6,000 5,000 40,000 Slide LO 4 Record transactions in journals, post to 3-43 ledger accounts, and prepare a trial balance.  2. 2. Posting Posting 10. October 31: Pioneer Advertising receives $28,000 in cash and bills Copa Company $72,000 for advertising services of $100,000 provided in October. Illustration 3-18 Oct. 31 Cash 28,000 Accounts receivable 72,000 Service revenue 100,000 Cash Accounts Receivable Service Revenue Debit Credit Debit Credit Debit Credit 100,000 9,000 72,000 100,000 12,000 6,000 28,000 5,000 40,000 80,000 Slide 3-44  3. 3. Trial Trial Balance Balance Illustration 3-19 Trial Balance – A list of each account and its balance; used to prove equality of debit and credit balances. Slide LO 4 Record transactions in journals, post to 3-45 ledger accounts, and prepare a trial balance.  4. 4. Adjusting Adjusting Entries Entries Makes it possible to: Report on the statement of financial position the appropriate assets, liabilities, and equity at the statement date. Report on the income statement the proper revenues and expenses for the period.  Revenues are recorded in the period in which they are earned. earned  Expenses are recognized in the period in which they are incurred. incurred Slide 3-46 LO 5 Explain the reasons for preparing adjusting entries.  Types Types of of Adjusting Adjusting Entries Entries Illustration 3-20 Deferrals Accruals 1. Prepaid Expenses. 3. Accrued Revenues. Expenses paid in cash and Revenues earned but not recorded as assets before yet received in cash or they are used or consumed. recorded. 2. Unearned Revenues. 4. Accrued Expenses. Revenues received in cash Expenses incurred but not and recorded as liabilities yet paid in cash or before they are earned. recorded. Slide 3-47 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for Deferrals Deferrals Illustration 3-21 Deferrals are either  prepaid expenses or  unearned revenues. Slide 3-48 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Payment of cash that is recorded as an asset because service or benefit will be received in the future. Cash Payment BEFORE Expense Recorded Prepayments often occur in regard to: insurance rent supplies purchasing buildings and advertising equipment Slide 3-49 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Supplies. Pioneer purchased advertising supplies costing $25,000 on October 5. Prepare the journal entry to record the purchase of the supplies. Oct. 5 Advertising supplies 25,000 Cash 25,000 Advertising Supplies Cash Debit Credit Debit Credit 25,000 25,000 Slide 3-50 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Supplies. An inventory count at the close of business on October 31 reveals that $10,000 of the advertising supplies are still on hand. Oct. 31 Advertising supplies expense 15,000 Advertising supplies 15,000 Advertising Supplies Advertising Supplies Expense Debit Credit Debit Credit 25,000 15,000 15,000 10,000 Slide 3-51 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Illustration 3-35 Statement Presentation: Advertising supplies identifies that portion of the asset’s cost that will provide future economic benefit. Slide 3-52 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Illustration 3-34 Statement Presentation: Advertising expense identifies that portion of the asset’s cost that expired in October. Slide 3-53 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Insurance. On Oct. 4th, Pioneer paid $6,000 for a one-year fire insurance policy, beginning October 1. Show the entry to record the purchase of the insurance. Oct. 4 Prepaid insurance 6,000 Cash 6,000 Prepaid Insurance Cash Debit Credit Debit Credit 6,000 6,000 Slide 3-54 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Insurance. An analysis of the policy reveals that $500 ($6,000 / 12) of insurance expires each month. Thus, Pioneer makes the following adjusting entry. Oct. 31 Insurance expense 500 Prepaid insurance 500 Prepaid Insurance Insurance Expense Debit Credit Debit Credit 6,000 500 500 5,500 Slide 3-55 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Illustration 3-35 Statement Presentation: Prepaid Insurance identifies that portion of the asset’s cost that will provide future economic benefit. Slide 3-56 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Illustration 3-34 Statement Presentation: Insurance expense identifies that portion of the asset’s cost that expired in October. Slide 3-57 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Depreciation. Pioneer Advertising estimates depreciation on its office equipment to be $400 per month. Accordingly, Pioneer recognizes depreciation for October by the following adjusting entry. Oct. 31 Depreciation expense 400 Accumulated depreciation 400 Depreciation Expense Accumulated Depreciation Debit Credit Debit Credit 400 400 Slide 3-58 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Illustration 3-35 Statement Presentation: Accumulated Depreciation—is a contra asset account. Slide 3-59 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Prepaid “Prepaid Expenses” Expenses” Illustration 3-34 Statement Presentation: Depreciation expense identifies that portion of the asset’s cost that expired in October. Slide 3-60 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Unearned “Unearned Revenues” Revenues” Receipt of cash that is recorded as a liability because the revenue has not been earned. Cash Receipt BEFORE Revenue Recorded Unearned revenues often occur in regard to: rent magazine subscriptions airline tickets customer deposits school tuition Slide 3-61 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Unearned “Unearned Revenues” Revenues” Unearned Revenue. Pioneer Advertising received $12,000 on October 2 from KC for advertising services expected to be completed by December 31. Show the journal entry to record the receipt on Oct. 2nd. Oct. 2 Cash 12,000 Unearned service revenue 12,000 Cash Unearned Service Revenue Debit Credit Debit Credit 12,000 12,000 Slide 3-62 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Unearned “Unearned Revenues” Revenues” Unearned Revenues. Analysis reveals that Pioneer earned $4,000 of the advertising services in October. Thus, Pioneer makes the following adjusting entry. Oct. 31 Unearned service revenue 4,000 Service revenue 4,000 Service Revenue Unearned Service Revenue Debit Credit Debit Credit 100,000 4,000 12,000 4,000 8,000 Slide 3-63 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Unearned “Unearned Revenues” Revenues” Illustration 3-35 Statement Presentation: Unearned service revenue identifies that portion of the liability that has not been earned. Slide 3-64 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Unearned “Unearned Revenues” Revenues” Illustration 3-34 Statement Presentation: Service revenue represents that portion of the liability that was earned in October. Slide 3-65 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for Accruals Accruals Illustration 3-27 Accruals are either  accrued revenues or  accrued expenses. Slide 3-66 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Revenues” Revenues” Revenues earned but not yet received in cash or recorded. Adjusting entry results in: Revenue Recorded BEFORE Cash Receipt Accrued revenues often occur in regard to: rent interest services performed Slide 3-67 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Revenues” Revenues” Accrued Revenues. In October Pioneer earned $2,000 for advertising services that it did not bill to clients before October 31. Thus, Pioneer makes the following adjusting entry. Oct. 31 Accounts receivable 2,000 Service revenue 2,000 Accounts Receivable Service Revenue Debit Credit Debit Credit 72,000 100,000 2,000 4,000 2,000 74,000 106,000 Slide 3-68  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Revenues” Revenues” Illustration 3-34 Statement Presentation Slide 3-69 Illustration 3-35 LO 5  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Expenses incurred but not yet paid in cash or recorded. Adjusting entry results in: Expense Recorded BEFORE Cash Payment Accrued expenses often occur in regard to: rent salaries interest taxes Slide 3-70 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Accrued Interest. Pioneer signed a three-month, 12%, note payable in the amount of $50,000 on October 1. The note requires interest at an annual rate of 12 percent. Three factors determine the amount of the interest accumulation: 1 2 3 Illustration 3-29 Slide 3-71 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Accrued Interest. Pioneer signed a three-month, 12%, note payable in the amount of $50,000 on October 1. Prepare the adjusting entry on Oct. 31 to record the accrual of interest. Oct. 31 Interest expense 500 Interest payable 500 Interest Expense Interest Payable Debit Credit Debit Credit 500 500 Slide 3-72 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Illustration 3-34 Statement Presentation Slide 3-73 Illustration 3-35 LO 5  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Accrued Salaries. At October 31, the salaries for these days represent an accrued expense and a related liability to Pioneer. The employees receive total salaries of $10,000 for a five-day work week, or $2,000 per day. Slide 3-74 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Accrued Salaries. Employees receive total salaries of $10,000 for a five-day work week, or $2,000 per day. Prepare the adjusting entry on Oct. 31 to record accrual for salaries. Oct. 31 Salaries expense 6,000 Salaries payable 6,000 Salaries Expense Salaries Payable Debit Credit Debit Credit 40,000 6,000 6,000 46,000 Slide 3-75 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Illustration 3-34 Statement Presentation Slide 3-76 Illustration 3-35 LO 5  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Accrued Salaries. On November 23, Pioneer will again pay total salaries of $40,000. Prepare the entry to record the payment of salaries on November 23. Nov. 23 Salaries payable 6,000 Salaries expense 34,000 Cash 40,000 Salaries Expense Salaries Payable Debit Credit Debit Credit 34,000 6,000 6,000 Slide 3-77 LO 5 Explain the reasons for preparing adjusting entries.  Adjusting Adjusting Entries Entries for for “Accrued “Accrued Expenses” Expenses” Bad Debts. Assume Pioneer reasonably estimates a bad debt expense for the month of $1,600. It makes the adjusting entry for bad debts as follows. Illustration 3-32 Slide 3-78 LO 5 Explain the reasons for preparing adjusting entries.  5. 5. Adjusted Adjusted Trial Trial Balance Balance Illustration 3-33 Shows the balance of all accounts, after adjusting entries, at the end of the accounting period. Slide 3-79 LO 5  6. 6. Preparing Preparing Financial Financial Statements Statements Financial FinancialStatements Statementsare areprepared prepareddirectly directlyfrom fromthe the Adjusted AdjustedTrial TrialBalance. Balance. Retained Statement Income Earnings of Financial Statement Statement Position Slide 3-80 LO 6 Prepare financial statement from the adjusted trial balance.  6. 6. Preparing Preparing Financial Financial Statements Statements Illustration 3-34 Slide 3-81 LO 6  6. 6. Preparing Preparing Financial Financial Statements Statements Illustration 3-35 Slide 3-82 LO 6  7. 7. Closing Closing Entries Entries To reduce the balance of the income statement (revenue and expense) accounts to zero. To transfer net income or net loss to equity. Statement of financial position (asset, liability, and equity) accounts are not closed. Dividends are closed directly to the Retained Earnings account. Slide 3-83 LO 7 Prepare closing entries.  7. 7. Closing Closing Entries Entries Illustration 3-36 Slide 3-84 LO 7  7. 7. Closing Closing Entries Entries Illustration 3-37 Slide 3-85 LO 7  8. 8. Post-Closing Post-Closing Trial Trial Balance Balance Illustration 3-38 Slide 3-86 LO 7 Prepare closing entries.  9. 9. Reversing Reversing Entries Entries After preparing the financial statements and closing the books, a company may reverse some of the adjusting entries before recording the regular transactions of the next period. Slide 3-87 LO 7 Prepare closing entries.  Accounting Accounting Cycle Cycle Summarized Summarized 1. Enter the transactions of the period in appropriate journals. 2. Post from the journals to the ledger (or ledgers). 3. Take an unadjusted trial balance (trial balance). 4. Prepare adjusting journal entries and post to the ledger(s). 5. Take a trial balance after adjusting (adjusted trial balance). 6. Prepare the financial statements from the second trial balance. 7. Prepare closing journal entries and post to the ledger(s). 8. Take a trial balance after closing (post-closing trial balance). 9. Prepare reversing entries (optional) and post to the ledger(s). Slide 3-88 LO 7 Prepare closing entries.  Financial Financial Statements Statements for for aa Merchandising Merchandising Company Company Illustration 3-39 Slide 3-89 LO 7  Financial Financial Statements Statements of of aa Merchandising Merchandising Company Company Illustration 3-40 Slide 3-90 LO 7 Prepare closing entries.  Financial Financial Statements Statements of of aa Merchandising Merchandising Company Company Illustration 3-41 Slide 3-91 LO 7   Internal controls are a system of checks and balances designed to prevent and detect fraud and errors. Both of these actions are required under SOX.  Companies find that internal control review is a costly process. One study estimates the cost for U.S. companies at over $35 billion, with audit fees doubling in the first year of compliance.  The enhanced internal control standards apply only to large public companies listed on U.S. exchanges. There is continuing debate over whether foreign issuers should have to comply. Slide 3-92  Most companies use accrual-basis accounting  recognize revenue when it is earned and  expenses in the period incurred, without regard to the time of receipt or payment of cash. Under the strict cash basis, companies  record revenue only when they receive cash, and  record expenses only when they disperse cash. Cash basis financial statements are not in conformity with IFRS. Slide LO 8 Differentiate the cash basis of accounting 3-93 from the accrual basis of accounting.  Illustration: Quality Contractor signs an agreement to construct a garage for $22,000. In January, Quality begins construction, incurs costs of $18,000 on credit, and by the end of January delivers a finished garage to the buyer. In February, Quality collects $22,000 cash from the customer. In March, Quality pays the $18,000 due the creditors. Illustration 3A-1 Slide LO 8 Differentiate the cash basis of accounting 3-94 from the accrual basis of accounting.  Illustration: Quality Contractor signs an agreement to construct a garage for $22,000. In January, Quality begins construction, incurs costs of $18,000 on credit, and by the end of January delivers a finished garage to the buyer. In February, Quality collects $22,000 cash from the customer. In March, Quality pays the $18,000 due the creditors. Illustration 3A-2 Slide LO 8 Differentiate the cash basis of accounting 3-95 from the accrual basis of accounting.  Conversion From Cash Basis To Accrual Basis Illustration: Dr. Diane Windsor, like many small business owners, keeps her accounting records on a cash basis. In the year 2011, Dr. Windsor received $300,000 from her patients and paid $170,000 for operating expenses, resulting in an excess of cash receipts over disbursements of $130,000 ($300,000 - $170,000). At January 1 and December 31, 2011, she has accounts receivable, unearned service revenue, accrued liabilities, and prepaid expenses as shown in Illustration 3A-5. Illustration 3A-5 Slide LO 8 Differentiate the cash basis of accounting 3-96 from the accrual basis of accounting.  Conversion From Cash Basis To Accrual Basis Illustration: Calculate service revenue on an accrual basis. Illustration 3A-8 Illustration 3A-5 Slide LO 8 Differentiate the cash basis of accounting 3-97 from the accrual basis of accounting.  Conversion From Cash Basis To Accrual Basis Illustration: Calculate operating expenses on an accrual basis. Illustration 3A-11 Illustration 3A-5 Slide LO 8 Differentiate the cash basis of accounting 3-98 from the accrual basis of accounting.  Conversion From Cash Basis To Accrual Basis Illustration 3A-12 Slide LO 8 Differentiate the cash basis of accounting 3-99 from the accrual basis of accounting.  Theoretical Weaknesses of the Cash Basis Today’s economy is considerably more lubricated by credit than by cash. The accrual basis, not the cash basis, recognizes all aspects of the credit phenomenon. Investors, creditors, and other decision makers seek timely information about an enterprise’s future cash flows. Slide LO 8 Differentiate the cash basis of accounting 3-100 from the accrual basis of accounting.  Illustration of Reversing Entries—Accruals Illustration 3B-1 Slide 3-101 LO 9 Identifying adjusting entries that may be reversed.  Illustration of Reversing Entries—Deferrals Illustration 3B-2 Slide 3-102 LO 9 Identifying adjusting entries that may be reversed.  Summary of Reversing Entries 1. All accruals should be reversed. 2. All deferrals for which a company debited or credited the original cash transaction to an expense or revenue account should be reversed. 3. Adjusting entries for depreciation and bad debts are not reversed. Recognize that reversing entries do not have to be used. Therefore, some accountants avoid them entirely. Slide 3-103 LO 9 Identifying adjusting entries that may be reversed.  A company prepares a worksheet either on  columnar paper or  within an electronic spreadsheet. A company uses the worksheet to adjust  account balances and  to prepare financial statements. Slide 3-104 LO 10 Prepare a 10-column worksheet.  Worksheet Columns A company prepares a worksheet either on  columnar paper or  within an electronic spreadsheet. Slide 3-105 LO 10 Prepare a 10-column worksheet. Adjusted Trial Balance Slide 3-106 Illustration 3C-1 LO 10 Prepare a 10-column worksheet.  Preparing Financial Statements from a Worksheet The Worksheet: Provides information needed for preparation of the financial statements. Sorts data into appropriate columns, which facilitates the preparation of the statements. Slide 3-107 LO 10 Prepare a 10-column worksheet.  Illustration 3-39 Slide 3-108 LO 10  Illustration 3-40 Slide 3-109 LO 10 Prepare a 10-column worksheet.  Illustration 3-41 Slide 3-110 LO 10  END OF CHAPTER 2 Slide 3-111