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CH 04
CH 04
ACCRUAL
ACCOUNTING
CONCEPTS
Financial Accounting
Seventh Edition
Kimmel Weygandt Kieso
4-4
Timing Issues
Review Question
What is the periodicity assumption?
a. Companies should recognize revenue in the
accounting period in which it is earned.
b. Companies should match expenses with revenues.
c. The economic life of a business can be divided into
artificial time periods.
d. The fiscal year should correspond with the calendar
year.
Companies recognize
revenue in the accounting
period in which the
performance obligation is
satisfied.
2013 2014
Review Question
Which one of these statements about the accrual basis of
accounting is false?
a. Companies record events that change their financial
statements in the period in which events occur, even if cash
was not exchanged.
b. Companies recognize revenue in the period in which the
performance obligation is satisfied.
c. This basis is in accord with generally accepted accounting
principles.
d. Companies record revenue only when they receive cash, and
record expense only when they pay out cash.
Adjusting entries
◆ ensure that the revenue recognition and expense
recognition principles are followed.
Review Question
Adjusting entries are made to ensure that:
a. expenses are recognized in the period in which they
are incurred.
b. revenues are recognized in the period in which the
performance obligation is satisfied.
c. balance sheet and income statement accounts have
correct balances at the end of an accounting period.
d. All of the above.
Trial Balance –
Each account is
analyzed to
determine
whether it is
complete and up-
to-date.
Illustration 4-4
◆ Prepaid expenses
OR
◆ Unearned revenues.
Prepaid Expenses
◆ Costs that expire either with the passage of time or
through use.
Depreciation
◆ Buildings, equipment, and motor vehicles (long-lived
assets) are recorded as assets, rather than an expense,
in the year acquired.
Statement Presentation
◆ Accumulated Depreciation-
Equipment is a contra asset
account.
Summary
Illustration 4-10
Unearned Revenues
◆ Adjusting entry to record the revenue that has been
earned and to show the liability that remains.
Summary
Illustration 4-13
Made to record:
OR
◆ Expenses incurred
Accrued Revenues
Illustration 4-15
Summary
Illustration
Illustration 4-16
4-16
◆ rent ◆ taxes
◆ interest ◆ salaries
Accrued Expenses
Summary
Illustration 4-22
4-52 LO 6 Describe the nature and purpose of the adjusted trial balance.
The Adjusted Trial Balance
Illustration 4-26
Adjusted trial balance
4-53 LO 6
The Adjusted Trial Balance
Review Question
Which of the following statements is incorrect concerning the
adjusted trial balance?
a. An adjusted trial balance proves the equality of the total
debit balances and the total credit balances in the ledger
after all adjustments are made.
b. The adjusted trial balance provides the primary basis for the
preparation of financial statements.
c. The adjusted trial balance lists the account balances
segregated by assets and liabilities.
d. The adjusted trial balance is prepared after the adjusting
entries have been journalized and posted.
4-54 LO 6 Describe the nature and purpose of the adjusted trial balance.
Preparing Financial Statements
Retained
Income Balance
Earnings
Statement Sheet
Statement
4-55 LO 6 Describe the nature and purpose of the adjusted trial balance.
Preparing Financial Statements
Illustration 4-27
4-56
Preparing Financial Statements
Illustration 4-28
4-57
Quality of Earnings
4-58 LO 6 Describe the nature and purpose of the adjusted trial balance.
Closing the Books
Illustration 4-29
Illustration 4-30
2014
Illustration 4-31
4-61
Closing the Books
Illustration 4-32
Posting of
closing entries
7. Prepare financial
4. Prepare a trial balance
statements
Illustration 4-27
4-66
LO 9
Appendix 4A
Adjusting Entries in an Automated World— Using a
Worksheet
Trial Balance –
Each account is
analyzed to
determine whether
it is complete and
up-to-date.
Illustration 4-4
4-67
Steps in Preparing a Worksheet
1. Prepare a Trial Balance on the Worksheet Illustration 4A-1
Adjusted Income
Trial Balance Adjustments Trial Balance Statement Balance Sheet
Account Titles Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr.
Cash 15,200
Supplies 2,500
Prepaid Insurance 600
Equipment 5,000
Notes Payable 5,000
Accounts Payable 2,500
Unearned Service Revenue 1,200
Common Stock 10,000
Dividends 500
Service Revenue 10,000
Adjusting
Journal
Entries
4-70
Steps in Preparing a Worksheet
2. Enter the Adjustments in the Adjustments Columns
Adjusted Income
Trial Balance Adjustments Trial Balance Statement Balance Sheet
Account Titles Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr.
Cash 15,200
Supplies 2,500 (a) 1,500
Prepaid Insurance 600 (b) 50
Equipment 5,000
Adjustments Key:
Notes Payable 5,000 (a) Supplies Used.
Accounts Payable 2,500
Unearned Service Revenue 1,200 (d) 400 (b) Insurance Expired.
Common Stock 10,000
(c) Depreciation Expensed.
Dividends 500
Service Revenue 10,000 (d) 400 (d) Service Revenue Earned.
(e) 200
Salaries & Wages Exp. 4,000 (g) 1,200
(e) Service Revenue Accrued.
Rent Expense 900 (f) Interest Accrued.
Totals 28,700 28,700
Supplies Expense (a) 1,500 (g) Salaries Accrued.
Insurance Expense (b) 50
Accumulated Depreciation (c) 40
Depreciation Expense (c) 40
(e)
Accounts Receivable 200 Enter adjustment amounts, total
(f)
Interest Expense 50
Interest Payable (f) 50 adjustments columns,
(g)
Salaries and Wages Payable 1,200 and check for equality.
Totals 3,440 3,440
4-75 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
Key Points
◆ GAAP has more than 100 rules dealing with revenue recognition.
In contrast, revenue recognition under IFRS is determined primarily
by a single standard.
◆ Revenue recognition fraud is a major issue in U.S. financial
reporting. The same situation occurs in other countries, as
evidenced by revenue recognition breakdowns at Dutch software
company Baan NV, Japanese electronics giant NEC, and Dutch
grocer AHold NV.
4-76 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
Key Points
◆ A specific standard exists for revenue recognition under IFRS (IAS
18). In general, the standard is based on the probability that the
economic benefits associated with the transaction will flow to the
company selling the goods, providing the service, or receiving
investment income. In addition, the revenues and costs must be
capable of being measured reliably. GAAP uses concepts such as
realized, realizable (that is, it is received, or expected to be
received), and earned as a basis for revenue recognition.
◆ Under IFRS, revaluation of items such as land and buildings is
permitted. IFRS allows depreciation based on revaluation of
assets, which is not permitted under GAAP.
4-77 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
Key Points
◆ The terminology used for revenues and gains, and expenses and
losses, differs somewhat between IFRS and GAAP. For example,
income is defined as:
Increases in economic benefits during the accounting period in
the form of inflows or enhancements of assets or decreases of
liabilities that result in increases in equity, other than those
relating to contributions from shareholders.
4-78 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
Key Points
◆ Income includes both revenues, which arise during the normal
course of operating activities, and gains, which arise from activities
outside of the normal sales of goods and services. Instead, under
GAAP income refers to the net difference between revenues and
expenses. Expenses are defined as: Decreases in economic
benefits during the accounting period in the form of outflows or
depletions of assets or incurrences of liabilities that result in
decreases in equity other than those relating to distributions to
shareholders.
◆ Procedures of the closing process are applicable to all companies
whether they are using IFRS or GAAP.
4-79 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
Looking to the Future
The IASB and FASB are now involved in a joint project on revenue
recognition. The purpose of this project is to develop comprehensive
guidance on when to recognize revenue. Presently, the Boards are
considering an approach that focuses on changes in assets and
liabilities (rather than on earned and realized) as the basis for revenue
recognition. It is hoped that this approach will lead to more consistent
accounting in this area. For more on this topic, see
www.fasb.org/project/revenue_recognition.shtml.
4-80 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
IFRS Practice
Which of the following statements is false?
4-81 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
IFRS Practice
As a result of the revenue recognition project being undertaken by
the FASB and IASB:
4-83 LO 11 Compare the procedures for revenue recognition under GAAP and IFRS.
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4-84