1.Intro to Course: A. Syllabus B. Student Enrollment & Wait List C. Student Questions 2.Introduce...

1. Intro to Course:

A. Syllabus

B. Student Enrollment & Wait List

C. Student Questions

2. Introduce Chapter 3: The Accounting Information System

3. Assignments for Thursday, Sept. 30th:

A. Readings: Chapter 1 and IFRS pp. 3-7

B. Codification CE1-2 and CE1-3

C. Chapter 1: CA1-3 and CA1-15

D. Take-Home Introductory Quiz

Intermediate AccountingIntermediate AccountingSeptember 28September 28thth, 2010, 2010

Intermediate AccountingIntermediate AccountingSeptember 28September 28thth, 2010, 2010

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1. Understand basic accounting terminology

2. Use double-entry rules to record basic business activity, prepare adjusting entries and closing entries

3. Understand how the steps in the accounting cycle lead to preparation of the financial statements:

A. Income Statement

B. Statement of Stockholders’ Equity

C. Balance Sheet

D. Statement of Cash Flows

4. Identify the information found on the Four Financial Statements and how they link (talk) to each other

Chapter 3 Learning ObjectivesChapter 3 Learning ObjectivesChapter 3 Learning ObjectivesChapter 3 Learning Objectives

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Basic Accounting TerminologyBasic Accounting TerminologyBasic Accounting TerminologyBasic Accounting Terminology

EventEvent

TransactionTransaction

AccountAccount

Real AccountReal Account

Nominal AccountNominal Account

DebitDebit

CreditCredit

T AccountsT Accounts

JournalJournal

LedgerLedger

PostingPosting

Trial BalanceTrial Balance

Adjusting EntriesAdjusting Entries

Financial Financial StatementsStatements

Closing EntriesClosing Entries

Reversing EntriesReversing Entries3

Debits and CreditsDebits and CreditsDebits and CreditsDebits and CreditsAn AccountAccount shows the effect of transactions on a given asset, liability, equity, revenue, or expense account.

Double-entry Double-entry accounting system (two-sided effect).

Recording done by debiting at least one account and crediting another.

DEBITS must equalmust equal CREDITS.

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Account Name

Debit / Dr. Credit / Cr.

Debits and CreditsDebits and CreditsDebits and CreditsDebits and CreditsAn arrangement that shows the effect of transactions on an account.

Debit = “Left”

Credit = “Right”

AccounAccountt

An Account can An Account can be illustrated be illustrated in a T-Account in a T-Account form.form.

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TYPE OFACCOUNT

IMPACT OFDEBITINGACCOUNT

IMPACT OFCREDITINGACCOUNT

ASSET

LIABILITY

EQUITY

DIVIDEND

REVENUE

EXPENSE

GAIN

LOSS

Debit & Credit Review Debit & Credit Review

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Balance Sheet Balance Sheet Income Income StatementStatement

Balance Sheet Equation Balance Sheet Equation Debits and Credits SummaryDebits and Credits Summary


Normal Balance

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Balance Sheet Balance Sheet Income Income StatementStatement

= + -Asset Liability

Equity Revenue

ExpenseDebit Credit



Credit Credit DebitNormal Balance

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Balance Sheet Balance Sheet Income StatementIncome Statement

= + =-Asset Liability

Equity Revenue

Expense

Debit

Credit

Debits and Credits SummaryDebits and Credits SummaryDebits and Credits SummaryDebits and Credits Summary

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Balance Sheet Balance Sheet Income StatementIncome Statement

= + =-Asset Liability

Equity Revenue

Expense

Debit

Credit

Debits and Credits SummaryDebits and Credits SummaryDebits and Credits SummaryDebits and Credits Summary

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The Accounting CycleThe Accounting CycleThe Accounting CycleThe Accounting Cycle

TransactionsTransactions

1. Journalize Transactions1. Journalize Transactions

6. Financial Statements6. Financial Statements

7. Closing Entries7. Closing Entries

8. Post-closing trial balance8. Post-closing trial balance

9. Reversing Entries9. Reversing Entries

3. Trial Balance3. Trial Balance

2. Post Entries to Ledger2. Post Entries to Ledger

5. Adjusted trial balance5. Adjusted trial balance

4. Adjusting Entries4. Adjusting EntriesWork SheetWork Sheet

Illustration 3-6

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What information is found on the four required financial statements?

1. Income Statement

2. Statement of Changes in Owners’ (Stockholders’) Equity

3. Balance Sheet

4. Statement of Cash Flows

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Income Statement (P&L)• This financial statement is intended to provide

information related to the results of an entity's operations for a specific time period; typically a year, quarter, or month.

• Includes: Revenues, Expenses, Gains & Losses• Net Income is also called: Net Earnings, Net Profit,

Return, Results and/or Bottom Line

• Income Statement is also known as:– “Statement of Earnings” – “Statement of Results of Operations” – “Profit and Loss Statement”

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The Income StatementThe Kroger Co.The Kroger Co.

Consolidated Statements of OperationsConsolidated Statements of OperationsFor the year ended February 2, 2008For the year ended February 2, 2008

(in millions)(in millions)

SalesSales $ 70,235 $ 70,235 Merchandise Costs(COGS) Merchandise Costs(COGS) 53,779 53,779 Gross Profit or Margin Gross Profit or Margin $16,456$16,456Operating Expenses Operating Expenses -14,155-14,155 Operating Profit (EBIT) $2,301Operating Profit (EBIT) $2,301Other Income & (Expenses) Other Income & (Expenses) - 474 - 474 Income before taxes $1,827Income before taxes $1,827Income Tax ExpenseIncome Tax Expense - 646- 646 Net Earnings $1,181Net Earnings $1,181

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Statement of Owners Equity(or Statement of Stockholders’ Equity)

• The Statement of Stockholders’ (Owners’ ) Equity “connects” the Balance Sheet to the Income Statement.

• It shows the beginning and ending balances of the owners’ equity accounts (from the balance sheet), and the increases or decreases in each of the accounts.

• The Net Income (or net loss) from the Income Statement increases (or decreases) the Owners Equity and is shown on the Statement of Stockholders’ Equity.

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The Statement of Changes in Stockholders’ (Owners’) Equity

Beginning equity+ Investment by owners

+ Net income or – Net Loss– Distribution to owners

= Ending equity`

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Articulation

• There is a linkage between the three financial statements. This is know as articulation.

IncomeStatement

BalanceSheet

Statementof

Equity

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ArticulationIncome Statement

Net Income $ 1,181 Statement of Stockholders’ Equity

Retained Earnings, beg $5,501 Add Net Income 1,181 Other 4 -Dividends - 206 Retained Earnings, end $6,480

Balance Sheet

Total Assets $22,299 Total Liabilities $17,385 Stockholders’ Equity:

Common Stock 947 Add’l Paid in Capital 3,031

Accum. other comp. loss (122) Retained Earnings 6,480 Treasury Stock (5,422) Total Stockholders’ Equity 4,914 Total Liabilities & Equity $22,299

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The balance sheet is also known as:– The Statement of Financial Position, or

– The Statement of Financial Condition

The Balance Sheet

Provides information on what the entity owns (assets) and what groups of people have claims on those assets (creditors or owners) at any particular point.

ASSETS = LIABILITIES + OWNERS’ EQUITY The equality (or “balance”) must always be maintained.

A Classified Balance Sheet shows Current and Long-term Information:

AssetsCurrent Assets: Cash $ 100 Accounts receivable 251,000 Inventory 298,900 Prepaid expenses 50,000 Total current assets $ 600,000

Long-term Assets: Land $ 125,000 Plant & equipment 1,075,000 LESS: Accumulated Depreciation (283,200) Total long-term assets 916,800Total assets $1,516,800 LiabilitiesCurrent Liabilities: Accounts payable $501,000 Short-term note payable 50,000 Total current liabilities $551,000Long-term liabilities: Bonds payable 300,000Total liabilities $851,000

Stockholders’ equity Common stock, $400,000 Retained earnings 265,800 Total stockholders’ equity 665,800Total liabilities & Stockholders’ Equity $1,516,800 20

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What all Economic Decision Makers Want to Know

Economic decision makers attemptEconomic decision makers attemptto predict future cash flow.to predict future cash flow.

Will I be paid?Will I be paid?

When will I be paid?When will I be paid?

How much will I be paid?How much will I be paid?

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Keep your Eye on the Ball.

In the Game of Business Cash is the Ball!

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Cash Flow Statement

BeginningCash

EndingCashOperating Investing Financing

Cash Inflows

Cash Outflows

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Kroger’s Statement of Cash FlowsFor the Year Ending February 2, 2008

Cash flows from Operating Activities:Net Income (based upon accrual accounting) 1,181$ +/- Adjustments to go from accrual to cash 1,400+/- Adj.to eliminate non-operating items -

Net cash provided (or used) by Operating Activities 2,581$

Cash Flows from Investing Activities:Inflows from selling long term assets 49$ Outflows from purchasing long term assets (2,267)

Net cash provided (used) by Investing Activities (2,218)$ Cash Flows from Financing Activities:Inflows from owner investments or borrowing funds 1,883$ Outflows from paying owners or reducing debt (2,193)

Net cash provided (used) by Financing Activities (310)$ Net Increase in Cash During 2006 53$ Beginng Cash, January 1, 2006 189 Cash Balance December 30, 2006 242$

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ArticulationInformation from all three of the other Financial Statements is found on the Cash Flow Statement. They are linked or articulate with each other.

IncomeStatement

Statementof

Equity

Cash Flow

Statement

BalanceSheet

The Accounting Cycle:

During the period:

1. Analyze and record transactions

At the end of the period:

2. Adjusting entries and Adjusted Trial Balance

3. Closing entries

Review of the MechanicsReview of the Mechanics

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Asset

Expense

Debit

Debit

Revenue

Liability Equity

Credit Credit

Credit

Normal balance in account

The Account and the The Account and the Debit-Credit ConventionDebit-Credit Convention

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Supplies


Using T-AccountsUsing T-Accounts

Example:Given:

• 12/31/10 balance in supplies inventory: $700 DR.

• Supplies expense for y/e 12/31/10: $950 DR

• $850 of supplies were purchased during the year ended 12/31/10

Question:What was the balance in supplies

inventory on 1/1/10? 28

A T-Account can help you simplify and solve seemingly complex problems. Put in what you know•If there only one unknown, you can solve for it•If there are multiple unknowns, you can recognize where you need more information

Supplies


$ 700

$ 950$ 850


Example:Given:







Supplies


$ 700

$ 950$ 850

$ 800


Example:Given:







Accrual Accounting

Accrual accounting provides a better basis for predicting future cash flows than does cash flow accounting.

Cash flow accounting reports cash receipts and disbursements as they occur.

Accrual accounting reports on effects of events that ultimately have cash effects.– Focuses on economically meaningful event (revenue recognition)– Matches outflows with the inflows they help to generate (expense

recognition)

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Cash Basis vs. Accrual BasisCash Basis vs. Accrual Basis Most companies must use accrual-basis accounting to comply with GAAP: 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 cash is received, and record expenses only when cash is dispersed.– nothing is recorded unless Cash changes hands.

The Cash Basis violates matching.Plus you get a lot of surprises because you have no record of assets other than cash and no record of upcoming payables.

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Accrual Accounting Recognition of Revenue & Expenses Revenues are recognized when they are both:

– Earned – business has substantially accomplished what it must do to be entitled to the benefits represented by the revenue.

– Realized – business has received cash or a claim to cash (can estimate how much the business will ultimately receive).

Expenses are recognized according to one of the following practices:– Direct - match expense to the specific revenue it helps generate

– Systematic and rational – match expense to periods in which it helps to generate revenue

– Immediate – expense in period the cost is incurred (conservatism)

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Adjusting Entries are required for:Recognizing revenue for the period.

Matching expenses with revenues they helped generate.

Adjusting entries are required every time financial statements are prepared to comply with GAAP

What to record:Events not journalized during period (e.g. consumption of supplies)

Costs that expire with passage of time (e.g. rent, insurance, building deterioration)

Any unrecorded items (e.g. wages earned in current period but not paid until next period)

Accrual Accounting Accrual Accounting Results in the Need for Results in the Need for

Adjusting EntriesAdjusting Entries

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Prepayments (deferrals):– Prepaid expenses – the cash flow precedes the expense recognition (i.e.,

prepaid rent)– Unearned revenue – the cash flow precedes the revenue recognition (i.e.

unearned rent revenue)Accruals (pull the revenue or expense into the current period)

– Accrued expense – the expense recognition precedes the cash flow (i.e. interest expense and interest payable)

– Accrued revenue – the revenue recognition precedes the cash flow (i.e. interest receivable and interest income)

Estimated items:– Accounts are updated based on subjective estimates as of the end of the

period (i.e., bad debt expense, depreciation expense).Periodic inventory:

– Inventory-related accounts (i.e. inventory, cost of goods sold) are adjusted based on an end of period physical count).

Types of Adjusting EntriesTypes of Adjusting Entries

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Adjusting Expensesfor Prepayments

Recording Accrued Expense

Prepayments made in cash and recorded

as assets (cash precedes

expense)

Expense incurredbut not yet

recordedin books

(expense precedes cash)

Adjusting Entries: Adjusting Entries: Matching Matching ExpensesExpenses

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Example:

On December 1, 2010, a firm paid its landlord $9,000 for rent for the following 12 months. The payment was recorded by debiting “Prepaid Rent” and crediting “Cash”. What adjusting entry will be necessary on December 31?

Adjusting Entries – Prepaid Adjusting Entries – Prepaid AssetAsset

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Adjusting Entry:

Debit Credit

Rent Expense $750Prepaid Rent $750

If no adjusting entry is made, will

•Assets be under or overstated on the Dec. 31 Balance Sheet?

•Rent Expense be under or overstated on the Income Statement?

•Net Income be under or overstated on the Income Statement?

•Owners Equity be under or overstated on the Balance Sheet?

Adjusting Entries – Prepaid Adjusting Entries – Prepaid AssetAsset

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Example of Prepaid Adjustment

• You pay a property tax assessment of $6,000 on December 1, 2010, to cover the period from December 1, 20010 to May 31, 2011. What is the adjusting entry needed for December 31? Two scenarios: (1) you recorded the December 1 payment as a prepaid asset, and

(2) you recorded the December 1 payment as an expense – Note that a time line can be useful in organizing data on some

questions

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• You pay a property tax assessment of $6,000 on December 1, 2010, to cover the period from December 1, 2010 to May 31, 2011. What is the adjusting entry needed for December 31, 2010? Two scenarios:

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Dec ‘10

Jan ’11

Feb ’11

Mar ’11

Apr’11

May ’11

(1) you recorded the December 1 payment as a prepaid asset, and Property Tax Expense $1,000 Prepaid Property Taxes $1,000

(2) you recorded the December 1 payment as an expense


• You pay a property tax assessment of $6,000 on December 1, 2010, to cover the period from December 1, 2010 to May 31, 2011. What is the adjusting entry needed for December 31, 2010? Two scenarios:

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Dec ‘10

Jan ’11

Feb ’11

Mar ’11

Apr’11

May ’11

(1) you recorded the December 1 payment as a prepaid asset, and Property Tax Expense $1,000 Prepaid Property Taxes $1,000

(2) you recorded the December 1 payment as an expense

Prepaid Property Taxes $5,000 Property Tax Expense $5,000

Example of Accrued Expense

• On January 15, 2011, you receive an invoice for $8,000 for copier maintenance for the last quarter of 2010. Is any entry needed on the books at December 31, 2010?

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Example of Accrued Expense

• On January 15, 2011, you receive an invoice for $8,000 for copier maintenance for the last quarter of 2010. Is any entry needed on the books at December 31, 2010?

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Maintenance Expense $8,000 Accrued Maintenance Payable $8,000

A firm purchases $1,000 of supplies on July 14 (there were 0 supplies on hand at that time). On December 31, an end of the year count indicates that the firm has $328 of these supplies remaining.

1. What is the required adjusting entry if the firm recorded the initial acquisition of supplies by debiting “Supplies Inventory”?

2.What is the required adjusting entry is the firm recorded the initial acquisition by debiting “Supplies Expense”?

Adjusting EntriesAdjusting Entries Supplies Expense Supplies Expense

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Supplies Expense $672Supplies $672

* If no adjusting entry is made, Assets will be overstated on the Dec. 31 Balance Sheet and Supplies Expense will be understated on the Income Statement (Net Income and Owners’ Equity will both be overstated).


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Supplies Expense $672Supplies $672

2. What is the required adjusting entry is the firm recorded the initial acquisition by debiting “Supplies Expense”?


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Supplies Expense $672

Supplies $672

2.What is the required adjusting entry is the firm recorded the initial acquisition by debiting “Supplies Expense”?

Supplies $328

Supplies Expense $328

* If no adjusting entry is made, Assets will be understated on the Dec. 31 Balance Sheet and Supplies Expense will be overstated on the Income Statement (NI and Owners’ Equity will be understated).


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AdjustingUnearned Revenue

Recording Accrued Revenue

“Revenues” receivedin cash

andrecorded as a liability

(cash received before revenue earned)

Revenues earnedbut not yet

recordedin books

(revenue earned before cash received)

Adjusting Entries: Adjusting Entries: Recognizing RevenueRecognizing Revenue

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Example – Adjusting Entry - Unearned Revenue

On Oct 31, 2010, you receive a $12,000 payment for rent from Nov 1, 2010 to October 31, 2011. Your fiscal y/e is December 31.

(1) What is the required adjusting entry if the initial entry on Oct 31 debits cash, credits unearned rent revenue

(2) What is the required adjusting entry if the initial entry on Oct 31 debits cash, credits rent revenue

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Example – Adjusting Entry - Unearned Revenue

On Oct 31, 2010, you receive a $12,000 payment for rent from Nov 1, 2010 to October 31, 2011. Your fiscal y/e is December 31.

(1) What is the required adjusting entry if the initial entry on Oct 31 debits cash, credits unearned rent revenue

Unearned Rent Revenue $2,000Rent Revenue$2,000

(1) What is the required adjusting entry if the initial entry on Oct 31 debits cash, credits rent revenue

Rent Revenue $10,000Unearned Rent Revenue $10,000

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Example – Accrued Revenue

Support Fee Rent of $300 is due at the end of each month but one of our clients has missed making the last three payments for Oct-Dec. The client pays $1,200 for support fees on January 15, 2011. What is the appropriate adjusting entry on December 31, 2010 assuming no adjusting entries have been in 2010 for this support contract?

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Example – Accrued Revenue

Support Fee Rent of $300 is due at the end of each month but one of our clients has missed making the last three payments for Oct-Dec. The client pays $1,200 for support fees on January 15, 2011. What is the appropriate adjusting entry on December 31, 2010 assuming no adjusting entries have been in 2010 for this support contract?

Support Fees Receivable $900Support Fee Revenue $900

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After all adjusting entries have been made, a firm will generally prepare a report called an “Adjusted Trial Balance”.

A trial balance is list of all accounts of a firm and their balances, which will be used to prepare the financial statements.

The sum of the debit balances must equal the sum of the credit balances.

Adjusted Trial BalanceAdjusted Trial Balance

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Closing Entries are used to:

Update the Retained Earnings account (or Capital accounts for a Proprietor or Partnership)

To reset all temporary accounts (i.e. Revenue, Expense, Dividends, Gain, and Loss accounts) to zero to start the next accounting period.

Debit or Credit each account, doing the opposite of its account balance to bring it to zero.


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1. Debit each Revenue and Gain account in the amount of the balance. Credit a temporary account called “Income Summary” or “R/E” for the same amount.

2. Credit each Expense and Loss account in the amount of the balance. Debit “Income Summary” or “R/E” for the same amount.

3. If “Income Summary” account is used, close it to “R/E”.

4. Credit “Dividends” account by the amount of its balance. Debit “R/E” for the same amount.


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Closing Journal EntriesDr. All Revenue Accounts Cr. All Expense AccountsDr/Cr. Income Summary (plug to balance)

[Assuming net income is positive]:Dr. Income Summary Cr. Retained Earnings

Dr. Retained Earnings Cr. Dividends

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Given:

1.A/R balance on 12/31/2009 is $100

2.A/R balance on 12/31/2010 is $25

3.Cash of $500 was received for the year ending on 12/31/2010

What is the accrual basis revenue for the year?

Converting the Cash Basis Converting the Cash Basis of Accounting to the of Accounting to the

Accrual BasisAccrual Basis

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Given:

1.A/R balance on 12/31/2009 is $100

2.A/R balance on 12/31/2010 is $25

3.Cash of $500 was received for the year ending on 12/31/2010

What is the accrual basis revenue for the year?

Converting the Cash Basis Converting the Cash Basis of Accounting to the of Accounting to the

Accrual BasisAccrual Basis

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Cash Received of $500 less the cash received from prior years revenue as reflected by the decrease in A/R of $75 or $425.

1. Understand basic accounting terminology

2. Use double-entry rules to record basic business activity, prepare adjusting entries and closing entries

3. Understand how the steps in the accounting cycle lead to preparation of the financial statements:

A. Income Statement

B. Statement of Stockholders’ Equity

C. Balance Sheet

D. Statement of Cash Flows

4. Identify the information found on the Four Financial Statements and how they link (talk) to each other

Review Ch. 3 Learning ObjectivesReview Ch. 3 Learning ObjectivesReview Ch. 3 Learning ObjectivesReview Ch. 3 Learning Objectives

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