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ELS. Accounting Systems. Preparing an Income Statement. Time Period Assumption. Divides the economic life of a business into artificial time periods WHY? to provide immediate feedback on how the business is doing. Time Period Assumption. Generally a month, a quarter, or a year. - PowerPoint PPT Presentation
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1
Accounting Systems
ELS
Preparing an Income Statement
2
Time Period Assumption...
Divides the economic life of a business into artificial time periods
WHY?to provide immediate feedback on how the business is doing.
3
Time Period Assumption...
Generally a month, a quarter, or a year.
An accounting time period that starts on January 1 and ends December 31 is
called a calendar year.
An accounting time period that is one year long is called fiscal year.
4
Revenue Recognition Principle...
dictates that revenue be recognized in the accounting period in which it is earned.
is considered earned when the service has been provided or when the goods are delivered.
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Matching Principle...
requires that expenses be recorded
in the same period in which the
revenues they helped produce are
recorded.
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Cash Basis
Revenue recorded only when cash is received.Expense recorded only when cash is paid.
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Cash Basis in not GAAP
GA
AP
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Accrual Basis Accounting
Adheres to the:• Revenue Recognition Principle• Matching Principle
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Accrual Basis Accounting
•Revenue recorded only when earned, not when cash is received•Expense recorded only when incurred, not when cash paid
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Accrual Basis adheres to...
•Generally•Accepted•Accounting•Principles
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Year 1 Year 2
Purchased paint, painted building , paid employees
Received payment for work done in year one
Activity
Accrualbasis
Cashbasis
Revenue $80,000
Expense 50,000
Net Income $30,000
Revenue $ 0
Expense 50,000
Net Loss ( $50,000)
Revenue $80,000
Expense 0
Net Income $80,000
Revenue $ 0
Expense 0
Net Income $ 0
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Adjusting Entries
Adjusting entries make the:
revenue recognition &
matching principles
HAPPEN!
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Types of Adjusting Entries
Prepayments:Prepaid expenses: Expenses paid in cash and
recorded as assets before they are used or consumed.
Unearned Revenues: Cash received and recorded as liabilities before revenue is earned.
Accruals:Accrued revenues: Revenues earned but not yet
received in cash or recorded.Accrued expenses: Expenses incurred but not yet
paid in cash or recorded.
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Prepayments
•Cash or other asset has been spent but the item acquired has not been used or consumed
•Cash has been collected before revenue is earned
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You can start with the trial balance to find information to
adjust prepayments.
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Sierra CorporationTrial Balance
October 31, 2004
Debit Credit Cash $15,200Advertising Supplies 2,500Prepaid Insurance 600Office Equipment 5,000Notes Payable $ 5,000Accounts Payable 2,500Unearned Service Revenue 1,200Common Stock 10,000Dividends 500Service Revenue 10,000Salaries Expense 4,000Rent Expense 900 $28,700 $28,700
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On October 5 the company paid
$2,500 for advertising supplies.
GENERAL JOURNAL Debit Credit
Oct 5 Supplies 2,500 Cash 2,500
Purchased advertising supplies
Supplies2,500Oct 5
Cash2,500Oct 5
Supplies Expense
SuppliesIllustration 4-6
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An inventory on October 31 reveals that $1,000 of supplies remain on hand; therefore $1,500 of supplies have been used. ($2,500 - $1,000) =$ 1,500
GENERAL JOURNAL Debit Credit
Oct 5 Supplies Expense 1,500 Supplies 1,500
To record advertising supplies consumed
Supplies2,500 Oct 5
Cash2,500Oct 5
Supplies Expense
Supplies
1,500Oct 311,500Oct 31
Illustration 4-6
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Oct $1,500
Mar $1,435
Apr $1,510
May $1,592
Feb $1,601
Nov $1,800
Dec $1,410
Jan $1,425
June $1,652
July $1,621
Aug $1,427
Sept $1,555
Supplies expense is based on usage... so different amounts appear each month
Supplies Expense
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Prepaid Expenses
On October 1 the company paid $600 for a 1-year insurance policy. Coverage began
October 1.
GENERAL JOURNAL Debit Credit
Oct 1 Prepaid Insurance 600 Cash 600
Purchased one-year policy effective October 1
Prepaid Insurance
600Oct 1
Cash600Oct 1
Insurance Expense
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Insurance Policy
1 Year $ 600
Oct $50
Mar $50
Apr $50
May $50
Feb $50
Nov $50
Dec $50
Jan $50
June $50
July $50
Aug $50
Sept $50
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Prepaid ExpensesOn October 31st, $50 ($600/12 months) of the insurance was used-up
or expired.
GENERAL JOURNAL Debit Credit
Oct 31 Insurance Expense 50
Prepaid Insurance 50
Record insurance expense for the month
Prepaid Insurance
600Oct 1
Cash600Oct 1
Insurance Expense
50 Oct 3150 Oct 31
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How do you apply the Matching Principle to the cost of a long lived asset ?
Depreciation
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Allocate the cost of an asset to expense over its useful life
Depreciation is an ALLOCATION CONCEPT- not a VALUATION CONCEPT.
We’re not attempting to reflect the actual change in value of an asset!
Depreciation
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Office Equipment
Depreciation= $480/year
Oct $40
Mar $40
Apr $40
May $40
Feb $40
Nov $40
Dec $40
Jan $40
June $40
July $40
Aug $40
Sept $40
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GENERAL JOURNAL Debit Credit
Oct 31 Depreciation Expense 40
Accumulated Depreciation-Office Equip 40
To record monthly depreciation Accumulated depreciation is a
contra asset account - an offset against the fixed asset account.
Accumulated Depreciation-
Office Equipment40Oct 31
Office Equipment5,000Oct 2
Depreciation Expense
40 Oct 31
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Office equipment $ 5,000
Less : accumulated depreciation 40
$4,960
Balance Sheet Presentation
Book Value or Carrying Value
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Unearned RevenuesReceived on Oct. 2 $1,200 for advertising services expected to be completed by Dec 31.
Unearned Service RevenueCash
1,200Oct 21,200Oct 2
Service Revenue
GENERAL JOURNAL Debit Credit
Oct 2 Cash 1,200
Unearned Service Revenue 1,200
Collected money for work to be performed by Dec 31.
30
Unearned RevenuesDuring October $400 of the revenue was
earned.
Unearned Service RevenueCash
1,200Oct 2
Service Revenue
1,200Oct 2
GENERAL JOURNAL Debit Credit
Oct 31 Unearned Service Revenue 400
Service Revenue 400
To record revenue earned
Oct. 31 400 Oct. 31 400
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Accrual
•Revenue has been earned, but not collected.
•Expenses have been incurred, but not yet paid.
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Accrued Revenues
Revenues earned but not yet received in cash or recorded at the statement date
33
Accrued Revenues
Earned $200 for advertising services to clients in October, but they were not billed until after October 31st.
GENERAL JOURNAL Debit Credit
Oct 31 Accounts Receivable 200
Service Revenue 200
Accounts Receivable
200Oct 31
Service Revenue
200Oct 31
34
Accrued Expenses
Expenses incurred but not yet paid or recorded at the statement date.
35
Formula for Computing Interest
Face Value of Note Interest
Timein term of One Year
Annual Interest
Rate
$ 5,000 X 12% 1/12 = $50
Interest expense is the cost a company incurs to use money:Information needed to compute interest expense: face value of note interest rate (always expressed in annual rate) the length of time note is outstanding
36
Interest Expense Interest Payable
Oct 31 50 Oct 31 50
GENERAL JOURNAL Debit Credit
Oct 31 Interest Expense 50 Interest Payable 50
Accrue interest expense for the month
Accrued Interest
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Accrued Salaries - Salaries Paid for after the Service Has Been Performed.
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Salaries Expense Salaries Payable
Oct 31 1,200 Oct 31 1,200
GENERAL JOURNAL Debit Credit
Oct 31 Salaries Expense 1,200
Salaries Payable 1,200
Accrue salary expense for the month
Accrued Salaries
39
The adjusted trial balance is used to prove the equity of total debit balances and total credit balances after the adjusting entries have been made.
Financial statements can be easily prepared from the adjusted trial balance.
Adjusted Trial Balance
40
SIERRA CORPORATIONAdjusted Trial Balance
For the Month Ended October 31, 2004
SIERRA CORPORATIONRetained Earnings Statement
For the Month Ended October 31, 2004
SIERRA CORPORATIONAdjusted Trial Balance
For the Month Ended October 31, 2004
41
Balance as Oct. 31 fromRetained Earnings Statement
SIERRA CORPORATIONAdjusted Trial Balance
For the Month Ended October 31, 2004
SIERRA CORPORATION Balance Sheet
October 31, 2004
42
Closing the Books
Closing entries transfer the temporary account balances to the stockholders’ equity account...
and reduce the balances in the temporary accounts to zero.
43
Temporary Permanent
All revenues accounts All asset accounts
All expense accounts All liability accounts
DividendsStockholders’ equity
accounts
44
Retained Earnings is a permanent account; the others shown hereare temporary
Individual Expenses
Retained Earnings
Income Summary
Individual Revenues
Dividends
1
3
4
2
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The Accounting Cycle
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Required Steps in the Accounting Cycle
Analyze business transactions.
Journalize the transactions.
Post to ledger accounts.
Prepare a trial balance.
Journalize and post adjusting entries--
prepayments and accruals.
Prepare an adjusting trial balance.
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Page 202 in book
SalesRevenue
Cost ofGoods Sold
GrossProfit
OperatingExpenses
Net Income (Loss)
Less
LessEquals
Equals
How Income is Measured in a Merchandising Company
48
What Is Charged to Merchandise Inventory?
All costs of getting the inventory to company and ready to sell +Freight-In +Special Permits
Only costs associated with merchandise purchased for resale - not assets acquired for use, such as supplies
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Merchandise PurchasesOn May 4 the company bought $ 3,800 worth of merchandise from PW Audio
Supply, Inc.
Task:Record the purchase by getting information from the Purchase Invoice.The Purchase Invoice is a copy of the sales invoice.
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•1. Seller•2.Invoice Date•3.Purchaser•4.Salesperson•5.Credit terms•6.Freight terms•7.Goods sold: catalog no.,description,quantity, price per unit•8.Total invoice price
Invoice No. 731
Address 125 Main StreetAttention o f James Hoover, Purchasing Agent
Firm Name: Sauk Stero
City Chelsea State Illinois Zip 60915
Date5/4/04 Salesperson Maone Terms 2/10,n/30 Freight Paid by Buyer
Catalog No. Description QTY Price Amount
IMPORTANT: ALL RETURNS MUST BE MADE WITHIN 10 DAYS TOTAL $3,800
1,5003008Production ModelCircuits
A2547Z48
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Merchandise PurchasesOn May 4 the company bought $ 3,800 worth of merchandise from PW Audio
Supply, Inc.
GENERAL JOURNAL Debit Credit
May 4 Merchandise Inventory 3,800 Accounts Payable 3,800
To record goods purchased on account.
Accounts Payable
Merchandise Inventory
May 4 3,800
Freight-out May 4 3,800
52
Purchases Returns and AllowancesOn May 8 the company returned $300 worth
of merchandise to PW Audio Supply, Inc.
GENERAL JOURNAL Debit Credit
May 8 Accounts Payable 300 Merchandise Inventory 300
To record goods returned that were purchased on account.
Accounts Payable
Merchandise Inventory
May 4 3,800
Freight-out May 4 3,800May 8 300 May 8 300
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Freight Costs - On Incoming Inventory
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Freight Costs - On Incoming InventoryOn May 6 the company paid $ 150 to have the merchandise inventory delivered to
them.
GENERAL JOURNAL Debit Credit
May 6 Merchandise Inventory 150
Cash 150
To record payment of freight.
Freight-Out
Merchandise Inventory
May 4 3,800
Cash May 6 150May 8 300
May 6 150
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Freight Costs - On Outgoing Inventory
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Freight Costs-on outgoing inventoryOn May 6 the seller company paid $ 150 to have merchandise inventory delivered to
the buyer.
GENERAL JOURNAL Debit Credit
May 6 Freight-Out 150
Cash 150
To record payment of freight on goods sold.
Freight-OutMerchandise
Inventory Cash May 6 150May 6 150
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Purchase Discounts
•Credit terms of a purchase on account may permit the buyer to claim a cash discount for prompt payment.
•Credit terms specify the amount of cash discounts and the time period during which they are offered.
•2/10,n/30
•1/10 EOM
58
Purchases Discounts
Review - Company purchased $3800 of merchandise and returned $300. The credit terms are 2/10, n/30 and the invoice was paid within the discount period
Original Invoice $3,800
-Returns 300
Amount due before discount $3,500
2% discount 70
Net due $3,430
59
Purchases DiscountsReview - Company purchased $3800 of merchandise and returned $300. The credit terms are 2/10, n/30 and the invoice was paid within the discount period.
GENERAL JOURNAL Debit Credit
May 14 Accounts Payable 3,500
Cash 3,430 Merchandise Inventory 70
To record payment within discount period.
Accounts Payable
Merchandise Inventory
May 4 3,800
Cash May 4 3,800May 8 300 May 8 300
May 14 70 May 14 3,500
May 14 3430May 6 150
May 6 150
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Payment of InvoiceReview - Company purchased $3800 of merchandise and returned $300. The credit terms are 2/10, n/30 and the invoice was NOT paid within the discount period.
GENERAL JOURNAL Debit Credit
June 3 Accounts Payable 3,500
Cash 3,500
To record payment NOT within discount period.
Accounts Payable
Merchandise Inventory
May 4 3,800
Cash May 4 3,800May 8 300 May 8 300
Jun 3 3,500 Jun 3 3,500
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Sales Invoice ...
a business document that provides written evidence of a credit sale.
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•1. Seller•2.Invoice Date•3.Purchaser•4.Salesperson•5.Credit terms•6.Freight terms•7.Goods sold: catalog no.,description,quantity, price per unit•8.Total invoice price
Invoice No. 731
Address 125 Main StreetAttention o f James Hoover, Purchasing Agent
Firm Name: Sauk Stero
City Chelsea State Illinois Zip 60915
Date 5/4/04 Salesperson Maone Terms 2/10,n/30 Freight Paid by Buyer
Catalog No. Description QTY Price Amount
IMPORTANT: ALL RETURNS MUST BE MADE WITHIN 10 DAYS TOTAL $3,800
1,5003008Production ModelCircuits
A2547Z48
63
Sales Revenues -Under a Perpetual System
are recorded when earned-revenue recognition principle
must be supported by a business document-written evidence
2 entries are made for each sale one to record sale one to record cost of merchandise sold
64
Sales - under a perpetual systemAssume a sale of $ 3,800 ON ACCOUNT
CashAccounts
ReceivableMerchandise
Inventory
Cost of Goods Sold
Sales Returns & AllowancesSales
May 4 3,800
May 4 2,400
May 4 2,400
For merchandise having a cost of $2,400
May 4 3,800
65
Sales Returns and AllowancesFlip side of purchase returns and
allowanceOn buyer’s books
GENERAL JOURNAL Debit Credit
May 8 Accounts Payable 300 Merchandise Inventory 300
To record goods returned that were purchased on account.
On seller’s books
GENERAL JOURNAL Debit Credit
May 8 Sales Returns and Allowance 300 Accounts Receivable 300
To record return of goods delivered to Sauk Stero.
66
Sales - under a perpetual systemAssume a sale of $ 3,800 ON ACCOUNT
CashAccounts
ReceivableMerchandise
Inventory
Cost of Goods Sold
Sales Returns & AllowancesSales
May 4 3,800
May 4 2,400
May 4 2,400
For merchandise having a cost of $2,400
May 4 3,800
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What Is the Sales Returns and Allowances Account?
Contra Revenue Account to salesUsed to show how much came in on returns
and allowances
Excessive returns and allowances suggest:inferior merchandiseinefficiencies in filing orderserrors in billing customersmistakes in delivery or shipment of goods
68
What Is the Sales Discount Account?
Contra Revenue Account to salesUsed to disclose amount of cash discounts
taken by customers
69
Sales Discounts
Flip side of purchase discounts
On seller’s books
GENERAL JOURNAL Debit Credit
May 14 Cash 3,430 Sales Discounts 70
Accounts Receivable 3500
To record collection within discount period.
On buyer’s books
GENERAL JOURNAL Debit Credit
May 14 Accounts Payable 3,500 Cash 3,430 Merchandise Inventory 70
To record payment within discount period
70
Two Forms OfIncome Statements
Single-step income statementMultiple-step income statement
71
Single-Step Income Statement
One step… subtract total
expenses from total revenues
Revenues $10,000Expenses 3,000Net income $ 7,000
72
PW AUDIO, Inc.Single-step Income Statement
For the Year Ended December 31, 2004
Sales $460,000Interest Revenue 3,000Gain on Sale of equipment 600
Total Revenues $463,600
ExpensesCost of goods sold $316,000
Selling expenses 76,000Administrative expenses 38,000Interest expense 1,800Casualty Loss from vandalism 200Income tax expense 10,100
Total expenses 442,100Net income $ 21,500
73
Sales revenuesSales $ 480,000Less: Sales returns and allowance $12,000
Sales discounts 8,000 20,000Net sales 460,000Cost of goods sold 316,000Gross profit $ 144,000Operating expenses Selling expenses:
Store salaries expense $45,000 Advertising expense 16,000 Depreciation expense 8,000 Freight-out 7,000
Total selling expenses $76,000 Administrative expenses Salaries expense $19,000
Utilities expense 17,000 Insurance Expense 2,000
Total administrative expenses 38,000 Total operating expenses 114,000 Income from operations $ 30,000
PW AUDIO SUPPLY, INC.Multi-step Income Statement For the Year Ended
December 31, 2004
74
Income from operations (continued) $ 30,000 Other revenues and gains Interest revenue $ 3,000 Gain on sale of equipment 600
$ 3,600Other expenses and losses Interest expense $ 1,800 Casualty loss from vandalism 200 2,000 1,600
31,600Income before income taxes Income tax expense 10,100Net income $21,500
PW AUDIO SUPPLY, INC.Multi-step Income Statement
For the Year Ended December 31, 2004
75
Cost of Goods Sold -Periodic Method
A running account of changes in inventory is not maintained.
Separate accounts use to record freight costs, returns and discounts
Cost of goods sold and ending inventory are calculated at end of period.
76
Cost of goods sold Inventory, January 1 $ 36,000
Purchases $325,000Less Purchase returns and allowances $10,400Purchase discounts 6,800 17,200
Net purchases 307,800Add: Freight-in 12,200
Cost of goods purchased 320,000 Cost of goods available for sale 356,000 Inventory, December 31 40,000
Cost of goods sold 316,000
PW AUDIO SUPPLY, INC.Cost of Goods Sold
For the Year Ended December 31, 2004
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