3
The Adjusting Process
3-1
1
Under the accrual basis of
accounting, revenues are
reported in the income
statement in the period in
which they are earned.
3-2
1
Revenue Recognition Concept
The accounting concept supporting
the reporting of revenues when
they are earned regardless of when
cash is received is called the
revenue recognition concept.
3-3
1
Matching Principle
The accounting concept supporting
reporting revenues and related
expenses in the same period is
called the matching concept, or
matching principle.
3-4
1
Under the cash basis of accounting,
revenues and expenses are reported
in the income statement in the period
in which cash is received or paid.
3-5
1
The Adjusting Process
Under the accrual basis, at the end of the
accounting period some of the accounts need
updating for the following reasons:
1. Some expenses are not recorded daily.
2. Some revenues and expenses are incurred
as time passes rather than as separate
transactions.
3. Some revenues and expenses may be
unrecorded.
3-6
1
The Adjusting Process
The analysis and updating of
accounts at the end of the period
before the financial statements are
prepared is called the adjusting
process.
3-7
1
Types of Accounts
Requiring Adjustment
Prepaid expenses are the
advance payment of future
expenses and are recorded
as assets when cash is paid.
3-8
1
Types of Accounts
Requiring Adjustment
Unearned revenues are the
advance receipt of future
revenues and are recorded
as liabilities when cash is
received.
3-9
1
Types of Accounts
Requiring Adjustment
Accrued revenues are unrecorded
revenues that have been earned
and for which cash has yet to be
received.
3-10
1
Types of Accounts
Requiring Adjustment
Accrued expenses are unrecorded
expenses that have been incurred
and for which cash has not been
paid.
3-11
1
Example Exercise 3-2
Type of Adjustment
Classify the following items as (1) prepaid expense, (2) unearned
revenue, (3) accrued expense, or (4) accrued revenue.
a. Wages owed but not
paid.
b. Supplies on hand.
c. Fees received but not yet
earned.
d. Fees earned but not yet
received.
Follow My Example 3-2
Follow
My Example 6-1
a. Accrued expense
b. Prepaid expense
c. Unearned revenue
d. Accrued revenue
For Practice: PE 3-2A, PE 3-2B
3-17
3-12
2
Exhibit 3
3-13
Unadjusted Trial Balance for NetSolutions
2
Prepaid Expenses
NetSolutions’ Supplies account has a balance of
$2,000 in the unadjusted trial balance. Some of
these supplies have been used. On December 31,
a count reveals that $760 of supplies are on hand.
Supplies (balance on trial balance) $2,000
Supplies on hand, December 31
– 760
Supplies used
$1,240
3-14
2
Prepaid Expenses
The debit balance of $2,400 in
NetSolutions’ Prepaid
Insurance account represents
the December 1 prepayment of
insurance for 12 months.
3-15
2
Example Exercise 3-3
Example Exercise 3-3
Adjustment for Prepaid Expenses
The prepaid insurance account had a beginning balance
of $6,400 and was debited for $3,600 of premiums paid
during the year. Journalize the adjusting entry required
at the end of the year assuming the amount of unexpired
insurance related to future periods is $3,250.
Follow My Example 3-3
Insurance Expense……………………… 6,750
Prepaid Insurance……………………
6,750
Insurance expired ($6,400 +
$3,600 – $3,250).
For Practice: PE 3-3A, PE 3-3B
3-26
3-16
2
Unearned Revenues
The December 31 unadjusted
trial balance of NetSolutions
indicates a balance in the
unearned rent account of $360.
3-17
2
Example Exercise 3-4
Adjustment for Unearned Revenue
The balance in the unearned fees account, before
adjustment at the end of the year, is $44,900.
Journalize the adjusting entry required if the amount of
unearned fees at the end of the year is $22,300.
Follow My Example 3-4
Unearned Fees……………………………. 22,600
Fees Earned…………………………..
22,600
Fees earned ($44,900 – $22,300).
For Practice: PE 3-4A, PE 3-4B
3-31
3-18
2
Accrued Revenues
NetSolutions signed an agreement with
Danker Co. on December 15 to
provide services at $20 per hour. As of
December 31, NetSolutions had
provided 25 hours of assistance.
3-19
2
Example Exercise 3-5
Adjustment for Accrued Revenues
At the end of the current year, $13,680 of fees have
been earned but have not been billed to clients.
Journalize the adjusting entry to record the accrued
fees.
Follow My Example 3-5
Accounts Receivable……………………. 13,680
Fees Earned…………………………..
13,680
Accrued fees.
For Practice: PE 3-5A, PE 3-5B
3-36
3-20
2
Accrued Expenses
NetSolutions pays it employees biweekly.
During December, NetSolutions paid wages of
$950 on December 13 and $1,200 on December
27. As of December 31, NetSolutions owes
$250 of wages to employees for Monday and
Tuesday.
3-21
2
Example Exercise 3-6
Adjustment for Accrued Expenses
Sanregret Realty Co. pays weekly salaries of $12,500
on Friday for a five-day week ending on that day.
Journalize the necessary adjusting entry at the end
of the accounting period, assuming that the period
ends on Thursday.
Follow My Example 3-6
Salaries Expense……………………….. 10,000
Salaries Payable……………………..
10,000
Accrued salaries [($12,500 ÷ 5
days) × 4 days].
For Practice: PE 3-6A, PE 3-6B
3-43
3-22
2
Fixed Assets
Fixed assets, or plant assets,
are physical resources that are
owned and used by a business
and are permanent or have a
long life.
3-23
2
Depreciation
As time passes, a fixed
asset loses its ability to
provide useful services.
This decrease in usefulness
is called depreciation.
3-24
2
Normal titles for fixed asset accounts and their
related contra asset accounts are as follows:
Fixed Asset
Contra Asset
Land
Buildings
None—Land is not depreciated
Accumulated Depreciation—
Buildings
Accumulated Depreciation—Store
Equipment
Accumulated Depreciation—Office
Equipment
Store Equipment
Office Equipment
3-25
2
NetSolutions estimates the
depreciation on its office
equipment to be $50 for
the month of December.
3-26
2
Example Exercise 3-7
Adjustment for Depreciation
The estimated amount of depreciation on equipment
for the current year is $4,250. Journalize the adjusting
entry to record the depreciation.
Follow My Example 3-7
Depreciation Expense………...……….. 4,250
Accumulated Depreciation—
Equipment…………………………..
Depreciation on equipment.
4,250
For Practice: PE 3-7A, PE 3-7B
3-52
3-27
4
The purpose of the adjusted trial
balance is to verify the equality
of the total debit and credit
balances before the financial
statements are prepared.
3-28