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Good morning!

ADJUSTING ENTRIES
Resource Speaker:

Teresita Flordeliz M. Ragudo


CPA, MM-BM

Master of Management Summer Workshop


College of Economics and Management
University of the Philippines Los Banos

Learning objectives:
1. Identify the different types of
adjustments
2. Compute for the amount of
adjustments necessary

The Accounting Cycle


Transaction
Analysis

Documents

Journal

Journalizing
1

Ledger

Posting

Working
Paper

Adjusting
1

Reporting

Statement of
Financial Position

Income Statement

Statement of Changes in
Equity

Cash Flow
Statement

Notes to Financial
Statements

7
Closing

Reversing
4

Why do we need to adjust?


1. To bring the accounts up-to-date

2. To assure the proper matching of


revenues and expenses.

What are adjusting entries?

Adjusting entries are adjustments used


to bring the assets, liabilities, revenues
and expenses up-to-date at the end of
accounting period.

They are usually made at the end of


accounting period in order for revenues
to be recognized within the period
earned, and for expenses to be
recognized within the period they are
incurred.

Methods of accounting
1.

Cash basis

Revenue is recognized when cash


is received.
Expense is recognized when cash
is paid.
2.

Accrual basis

Revenue is recognized when


earned.
Expense is recognized when
incurred.
7

Accounts to adjust:
1.

Accruals

2.

Deferrals

3.

Depreciation and amortization

4.

Estimated uncollectible accounts

5.

Ending inventory
(applicable to merchandising and manufacturing
businesses)
8

Things to remember:
Adjusting

of accounts is made at the


end of the period before FS are
prepared.

Adjusting

is done to make sure that


financials comply with the standards of
GAAP.

Apply

appropriate account
relationships.
Asset & Revenue, Liability and Expense
Asset and Expense, Liability and Revenue

ACCRUALS
1.

Accrued Revenues
Accruing revenue means bringing into
existence an income that is already earned but not
yet received and not yet recorded.
Asset (Accrued revenue)
xxx
Revenue
xxx

2.

Accrued Expenses
Accruing an expense means recognizing an
incurred and unrecorded expense that is unpaid
because payment is not yet due.
Expenses
xxx
Liability (Accrued Expense)
xxx
10

Illustrative

case:

Star Service Company seller

Sun Food Corporation buyer

One-year service contract that commenced on December


1, 2010

Calendar year as accounting period

Reciprocal accounts
Star(Seller)

Accruals:
expense

Accrued revenue

Deferrals:
expense

Pre-collected revenue

Sun (Buyer)
Accrued
Prepaid
11

Accruals
Star

Company is engaged in
providing janitorial services to Sun
Food Corp. Star is paid P10,000
every Friday for a five-day a week
service that begins on Monday and
ends on Friday.

December

31 falls on a Wednesday.
12

Accruals
December 2013
Sunday Monday
1
7
8
14
15
21
22
28
29

Tuesday Wednesday Thursday Friday


2
3
4
5
9
10
11
12
16
17
18
19
23
24
25
26
30
31

Saturday
6
13
20
27

Sunday Monday Tuesday Wednesday Thursday Friday


1
2
4
5
6
7
8
9
11
12
1
3
14
15
17
18
19
20
21
22
24
25
26
27
28
29
31

Saturday
3
10
16
23
30

January 2014

13

Journal Entries during the month of December


2010
Stars (Seller)
12/5/13 Cash

Revenue

Suns (Buyer)
P10,000

12/5/13 Utilities

P10,000

P10,000

Cash
P10,000

12/12/13 Cash
Revenue
12/19/13 Cash
Revenue

12/26/13 Cash
Revenue

P10,000
P10,000 12/12/13 Utilities
Cash
P10,000
P10,000
P10,000

P10,000

12/19/13 Utilities

P10,000

P10,000

Cash
P10,000

P10,000
12/26/13 Utilities

P10,000

Cash

P10,000

14

Star

Sun

Adjusting entry:

Adjusting entry:

12/31/13 Accrued Revenue P6,000

12/31/13 Utilities
P6,000

Revenue
P6,000

Accrued Utilities
P6,000

Reversing entry:
1/1/14 Revenue

Reversing entry:
P6,000

Accrued Revenue
P6,000

Regular entry: 2014


1/2/14 Cash
Revenue

P10,000

P10,000

1/1/13 Accrued Utilities

P6,000

Utilities
P6,000

Regular entry: 2014


1/2/14 Utilities
Cash
P10,000

P10,000
15

Star

Sun

1/2/14
Cash
P10,000
Revenue
P4,000
Accrued Revenue
6,000

1/2/14
Utilities
P4,000
Accrued Utilities 6,000
Cash
P10,000

1/9/14
Cash
P10,000
Revenue
P10,000

1/9/14
Utilities
Cash
P10,000

P10,000

Reversing not done


16

- END (for now)

More to follow!

17

LO4

DEFERRALS
(Prepayments & Precollections)
(a) Prepaid expenses
Expenses that are paid in cash and
recorded as assets before they are used
or consumed

(b) Unearned (precollected) revenue


Cash that is received before revenue is
earned and recorded as liabilities
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

18

LO4

A.
B.
C.
D.

Question 1
The primary difference between prepaid
and accrued expenses is that prepaid
expenses have
been incurred and accrued expenses have
not
not been paid and accrued expenses have
been recorded and accrued expenses have
not
not been recorded and accrued expenses
have
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Abraham, University of Western Sydney

19

LO5

Adjusting entries for


prepayments
1. Prepaid expenses
Expenses paid in cash and recorded as
assets before they are used or consumed
Expire either with the passage of time or
through use and consumption
Adjusting entry
Asset
Unadjusted Credit
balance
adjusting
entry (-)

Expense
Debit
adjusting
entry (+)
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Abraham, University of Western Sydney

20

Adjusting entries for


prepayments continued
(a) Supplies

Supplies on hand 31 December: P1000


Expense of P2500 recorded as an asset 10 May
Journal entry:

Dec. 31 Supplies Expense


1 500
Supplies
(To record supplies used)

1 500

General Ledger entry:


Supplies
Supplies Expense
5/10
2 500 12/31 Adj. 1 500 12/31 Adj. 1 500
12/31 Bal. 1 000
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

21

Adjusting entries for


prepayments continued
(b) Insurance
Insurance paid for 1 year in advance: P600, 10
Dec.
Insurance for 31 December P600/12 = P50
Journal entry:

Dec. 31 Insurance Expense


Prepaid Insurance
(To record insurance expired)

General ledger:

Prepaid Insurance
12/4
600 12/31 Adj. 50
12/31 Bal. 550

50

50

Insurance Expense
12/31 Adj. 50
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

22

Adjusting entries for


precollections
2. Unearned revenue
Revenue received before it is earned and
recorded as a liability
It is earned by providing a service to the
customer
e.g., rent, magazine subscriptions
Adjusting entry
Liability
Debit
Unadjusted
adjusting
balance
entry (-)

Revenue
Credit
adjusting
entry (+)

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

23

Adjusting entries for


precollections continued
Example
P1,600 received 2 December Year A for
advertising services to be completed 31 March
Year B
Journal entry:
Dec. 31 Unearned Revenue
400
Service Revenue
(To record revenue for services provided)

Unearned
Revenue
General
Ledger:
12/31/A Adj.
400 12/2/A
1 600
12/310 Bal. 1,200

400

Service Revenue
12/31 Bal. 10 000
12/31 Adj.
400
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

24

Question 5

LO5

A.
B.

C.
D.

As prepaid expenses expire with the passage


of time, the correct adjusting entry will be
debit to an asset account and a credit to an
expense account
debit to an expense account and a credit to
an asset account
debit to an asset account and a credit to an
asset account
debit to an expense account and a credit to
an expense account
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

25

Provision for Depreciation


Depreciation is the used or expired portion
of productive facilities (tangible assets),
such as building, furniture and fixtures,
equipment which have been recorded at
their acquisition costs as capital
expenditures in accordance with the cost
principle of accounting.

These productive facilities are also called


property, plant and equipment or fixed
assets.
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

26

Provision for Depreciation


Allocation of the cost of the asset to
expense over its useful life
Common method is to divide cost of asset
by useful life (straight-line method)

27

Adjusting entries for depreciation


continued

On January 1, 2012, Computromix acquired a


computer for office use with an invoice price of
P50,000. It was estimated to have a useful life of
five years and a salvage value of P5,000.
Dec. 31 Depreciation Expense
JournalDepreciation
entry:
Accumulated
- Office Equipment
(To record annual depreciation)

1/1

9,000
9,000

Office Equipment
50 000

General Ledger

Accumulated Depreciation
Office Equipment
12/31 Adj. 9,000

Depreciation Expense
12/31 Adj. 9,000

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

28

Adjusting entries for depreciation


continued

Carrying amount or book value is the


difference between the cost of any
depreciable asset and its related
accumulated depreciation
It is usually different from the assets fair
value (market value)
Statement of Financial Position
Office Equipment
Less: Accumulated Depreciation
Carrying Value

P50, 000
9,000
P41,000

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

29

Adjusting entries for accruals


LO6

1. Accrued revenue
Revenue earned by not yet received in
cash or recorded
Adjusting entry is required to:
Show receivable exists at balance date
Record income earned in the period

Adjusting entry
Asset
Debit
adjusting
entry (+)

Income
Credit
adjusting
entry (+)
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

30

Adjusting entries for accruals


continued

Example:
Service Revenue of $200 earned, but not yet
recorded
Journal entry:
Oct. 31 Accounts Receivable
200
Service Revenue
(To record revenue for services provided)

200

General Ledger:
Accounts Receivable
31/10 Adj. 200

Service Revenue
31/10
10 000
31/10
400
31/10 Adj. 200
31/10
Bal. by
10Dr600
PowerPoint
presentation
Anne
Abraham, University of Western Sydney

31

Adjusting entries for accruals


continued

2. Accrued expenses
Expenses incurred by not yet paid
Adjusting entry is required to:
Show record obligations at balance date
Recognise expenses incurred in the period

Adjusting entry
Expenses

Debit
adjusting
entry (+)

Liability
Credit
adjusting
entry (+)
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

32

Adjusting entries for accruals


continued

(a) Accrued Interest


Company signed a $5000, 3 month note
payable on 1 October
Interest rate: 12% p.a.
Interest determined by considering
Face value
Interest rate
Length of time note is outstanding

Interest owing:
$5000 x 12% x 1/12 = $50
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

33

Adjusting entries for accruals


continued

Journal entry
Oct. 31

Interest Expense
Interest Payable
(To accrue interest on notes payable)

50
50

General Ledger
Interest Expense
31/10 Adj. 50

Interest Payable
31/10 Adj.

50

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

34

Adjusting entries for accruals


continued

(b) Accrued Salaries


Salaries outstanding for October: $1200
(3 days x $400)

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

35

Adjusting entries for accruals


continued

Journal entry
Oct. 31

Salaries Expense
Salaries Payable
(To record accrued salaries)

1200
1200

General Ledger
Salaries Expense
26/10
4000
31/10 Adj. 1200
31/10 Bal. 5200

Salaries Payable
31/10 Adj. 1200

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

36

LO6

A.

B.
C.
D.

Question 6
Failure to prepare an adjusting entry at the end
of a period to record an accrued revenue would
cause
profit to be overstated
an understatement of assets and an
understatement of revenues
an understatement of revenues and an
understatement of liabilities
an understatement of revenues and an
overstatement of liabilities
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

37

LO7

THE ADJUSTED TRIAL


BALANCE
AND FINANCIAL STATEMENTS
The adjusted trial balance is prepared
after all adjusting entries have been
journalised and posted
Its purpose is to prove equality of the
total debit and credit balances in the
ledger after adjustments have been
made
The adjusted trial basis is the main
basis for preparation of the financial
statements

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

38

PIONEER ADVERTISING AGENCY


Cash
Accounts Receivable
Advertising Supplies
Prepaid Insurance
Office Equipment
Accumulated Depreciation Office
Equipment
Notes Payable
Accounts Payable
Unearned Income
Salaries Payable
Interest Payable
CR Hill, Capital
CR Hill, Drawings
Service Revenue
Salaries Expense
Advertising Supplies Expense
Rent Expense
Insurance Expense
Interest Expense
Depreciation Expense
Profit

Trial Balances as at 31 October 2010


Before adjustment
After adjustment
Dr
Cr
Dr
Cr
$15 200
$15 200
200
2 500
1 000
600
550
5 000
5 000
$

$ 5 000
2 500
1 200

500
4 000
900

$28 700

10 000
10 000

500

40
5 000
2 500
800
1 200
50
10 000
10 600

5 200
1 500
900
50
50
40
PowerPoint presentation by Dr Anne
$28
700
$30 190
$30 19039
Abraham, University of Western Sydney

Preparing financial
statements
The income statement is prepared
from the revenue and expense
accounts
The statement of changes in equity is
Current prepared using the owners
capital and drawings accounts and net
profit (or loss) from income statement
The statement of financial position is
prepared from asset and liability
accounts and ending owners capital
balance reported in statement of
changes in equity

PowerPoint presentation by Dr Anne


Abraham, University of Western Sydney

40

PIONEER ADVERTISING AGENCY


Adjusted Trial Balance
as at 31 October 2010

Account
Debit Credit
Cash
$15 200
Accounts Receivable
200
Advertising Supplies
1 000
Prepaid Insurance
550
Office Equipment
5 000
Accumulated Depreciation
- Office Equipment
$
40
Bank Loan
5 000
Notes Payable
2 500
Unearned Income
800
Salaries Payable
1 200
Interest Payable
50
CR Hill, Capital
-CR Hill, Drawings
500
Service Revenue
10 600
Salaries Expense
5 200
Advertising Supplies Expense 1 500
Rent Expense
900
Insurance Expense
50
Interest Expense
50
Depreciation Expense
40
$30 190 $30 190

PIONEER ADVERTISING AGENCY


Income Statement
for the month ended 31 October 2010

Income
Service revenue

$10 600

Expenses
Salaries expense
$5 200
Advertising supplies expense 1 500
Rent expense
900
Insurance expense
50
Interest expense
50
Depreciation expense
40
Total expenses
7 740
Profit
$ 2 860

PIONEER ADVERTISING AGENCY


Statement of Changes in Equity
for the month ended 31 October 2010

CR Hill, Capital, 1 October


Add: Investment by owners
CR Hill, Capital
Profit

$
0
10 000
10 000
2 860
12 860
Less: Drawings
500
PowerPoint presentation by Dr Anne
CR Hill Capital,
October
$2 360
Abraham,31
University
of Western Sydney
41

PIONEER
ADVERTISING AGENCY
PIONEER
ADVERTISING
AGENCY
Statement Balance
of Financial
SheetPosition
as at
as at
3131October
October2010
2007

PIONEER ADVERTISING AGENCY


Adjusted Trial Balance
as at 31 October 2010

Account
Debit
Cash
$15 200
Accounts Receivable
200
Advertising Supplies
1 000
Prepaid Insurance
550
Office Equipment
5 000
Accumulated Depreciation
- Office Equipment
Notes Payable
Accounts Payable
Unearned Income
Salaries Payable
Interest Payable
CR Hill, Capital
CR Hill, Drawings
500
Service Revenue
Salaries Expense
5 200
Advertising Supplies Expense 1 500
Rent Expense
900
Insurance Expense
50
Interest Expense
50
Depreciation Expense
40
$30 190

Credit

40
5 000
2 500
800
1 200
50
10 000
10 600

$30 190

Assets
Assets

Cash
Cash
$15
$15200
200
Accounts
Receivable
200
Accounts
Receivable
200
Adverting
Supplies
000
Adverting
Supplies
1 1000
PrepaidInsurance
Insurance
550
Prepaid
550
Office
OfficeEquipment
Equipment
$5$5
000000
Less:Accumulated
Accumulated
Depreciation 40 404 960
4 960
Less:
Depreciation
Total
TotalAssets
Assets
$21
$21910
910
Liabilitiesand
andOwners
Owners
Equity
Liabilities
Equity
Liabilities
Liabilities
NotesPayable
Payable
Notes
$5 000
Accounts
Payable
2 500
Accounts
Payable
UnearnedIncome
Income
800
Unearned
SalariesPayable
Payable
1 200
Salaries
InterestPayable
Payable
50
Interest
Total
liabilities
9 550
Total
liabilities
OwnersEquity
Equity
Owners
CRHill,
Hill,Capital
Capital
12 360
CR
Total
Liabilities
Total
Liabilities
and
Owners
Equity
$21 910
910
and
Owners
Equity

Capital balances at 31 Oct.


from statement of changes
PowerPoint presentation by Dr Anne
in equity
on previous slide
Abraham, University of Western Sydney

42

Question 7

LO7

A.
B.

C.
D.

An adjusted trial balance


is prepared after the financial statements are
completed
proves the equality of the total debit balances
and total credit balances of ledger accounts
after all adjustments have been made
is a required financial statement under
generally accepted accounting principles
cannot be used to prepare financial
statements
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

43

APPENDIX
ALTERNATIVE TREATMENT OF PREPAID
EXPENSES AND UNEARNED REVENUE
LO8

Some firms initially use income statement


accounts rather than liability accounts
Debit the expense for prepaid expenses when
cash is paid
Credit the revenue at the time cash is received

After adjustments, the two treatments will


result in the same effect on the financial
statements as the initial entries to the
statement of financial position accounts
PowerPoint presentation by Dr Anne
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44

ALTERNATIVE TREATMENT
continued

(1) Prepaid expenses

Supplies on hand 31 October: $1000


$2500 recorded as an expense on 5 October
Journal entry:

Oct. 31

Advertising Supplies
Advertising Supplies Expense
(To record supplies inventory)

1 000
1 000

General Ledger entry:


Advertising Supplies
31/10 Adj. 1 000

Advertising Supplies Expense


5/10
2 500 31/10 Adj. 1 000
31/10 Bal. 1 500
PowerPoint presentation by Dr Anne
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45

ALTERNATIVE TREATMENT
continued

(2) Unearned revenue

$1200 received 2 October for advertising


services to be completed 31 December
Journal entry:

Oct. 31

Service Revenue
Unearned Revenue
(To record unearned revenue)

800
800

General Ledger:

Unearned Revenue
31/10 Adj.

800

Service Revenue
31/10 Bal.
800 2/10
1200
31/10 Bal.
400
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46

Question 8

LO8

A.
B.
C.
D.

The alternative method for recording


prepayments initially involves
a debit to an asset account or a credit to a
liability account
a credit to an asset account or a debit to a
liability account
a debit to an expense account or a credit to a
revenue account
a credit to an expense account or a debit to a
revenue account
PowerPoint presentation by Dr Anne
Abraham, University of Western Sydney

47