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CHAPTER 3
ADJUSTING THE ACCOUNTS
LEARNING OBJECTIVES
1. EXPLAIN THE TIME PERIOD ASSUMPTION.
2. EXPLAIN THE ACCRUAL BASIS OF ACCOUNTING.
3. EXPLAIN THE REASONS FOR ADJUSTING ENTRIES
AND IDENTIFY THE MAJOR TYPES OF ADJUSTING
ENTRIES.
4. PREPARE ADJUSTING ENTRIES FOR DEFERRALS.
5. PREPARE ADJUSTING ENTRIES FOR ACCRUALS.
6. DESCRIBE THE NATURE AND PURPOSE OF AN
ADJUSTED TRIAL BALANCE.
*7. PREPARE ADJUSTING ENTRIES FOR THE ALTERNA-
TIVE TREATMENT OF DEFERRALS.
*8. DISCUSS FINANCIAL REPORTING CONCEPTS.
CHAPTER REVIEW
Timing Issues
1. (L.O. 1) The time period (or periodicity) assumption assumes that the economic life of a
2. Accounting time periods are generally a month, a quarter, or a year. An accounting time period
Accrual Basis of Accounting
3. (L.O. 2) The revenue recognition and expense recognition principles are used under the accrual
4. Generally accepted accounting principles require accrual basis accounting rather than cash basis
Revenue Recognition Principle
5. The revenue recognition principle requires that companies recognize revenue in the accounting
The Expense Recognition Principle
6. The expense recognition principle requires that efforts (expenses) be matched with results
(revenues).
Adjusting Entries
7. (L.O. 3) Adjusting entries are made in order for:
8. Adjusting entries are required every time financial statements are prepared. Adjusting entries can
revenues or accrued expenses).
Deferrals
9. (L.O. 4) Prepaid expenses are expenses paid in cash before they are used or consumed.
a. Prepaid expenses expire with the passage of time or through use and consumption.
b. An asset-expense account relationship exists with prepaid expenses.
c. Prior to adjustment, assets are overstated and expenses are understated.
justing entry at October 31 is:
Insurance Expense ($2,400 X 1/12) .................................. 200
Prepaid Insurance ...................................................... 200
Copyright © 2013 John Wiley & Sons, Inc. Weygandt, Accounting Principles, 11/e, Instructor’s Manual (For Instructor Use Only) 3-3
10. Depreciation is the process of allocating the cost of an asset to expense over its useful life in a
rational and systematic manner.
a. The purchase of equipment or a building is viewed as a long-term prepayment of services
and, therefore, is allocated in the same manner as other prepaid expenses.
b. Depreciation is an estimate rather than a factual measurement of the cost that has expired.
c. In recording depreciation, Depreciation Expense is debited and a contra asset account,
Accumulated Depreciation—Equipment, is credited.
entry at December 31, 2015 is:
Depreciation Expense .............................................. 1,200
Accumulated DepreciationEquipment ............ 1,200
11. Unearned revenues are cash received before services are performed.
a. Unearned revenues are subsequently recognized by performing the service for a customer.
for future service.
f. To illustrate an unearned revenue adjusting entry, assume on October 1, Schoen Co. receives
Unearned Rent Revenue ........................................... 1,000
Rent Revenue ($3,000 X 1/3) ............................ 1,000
Accruals
12. (L.O. 5) Accrued revenues are revenues for services performed but not yet received in cash or
recorded.
d. The adjusting entry results in an increase (a debit) to an asset account and an increase
(a credit) to a revenue account.
at October 31 is:
Accounts Receivable ................................................. 800
Service Revenue ............................................... 800
13. Accrued expenses are expenses incurred but not yet paid in cash or recorded.
a. Accrued expenses result from the same causes as accrued revenues and include interest,
rent, taxes, and salaries.
d. The adjusting entry results in an increase (a debit) to an expense account and an increase
(a credit) to a liability account.
adjusting entry on October 31 is:
Salaries and Wages Expense .................................... 4,000
Salaries and Wages Payable ............................ 4,000
14. Each adjusting entry affects one balance sheet account and one income statement account.
Adjusted Trial Balance
15. (L.O. 6) After all adjusting entries have been journalized and posted an adjusted trial balance
16. The purpose of an adjusted trial balance is to prove the equality of the total debit balances and
17. The accounts in the adjusted trial balance contain all data that are needed for the preparation of
financial statements.
Alternative Treatment
*18. (L.O. 7) Under the alternative treatment, at the time an expense is prepaid, an expense account
is debited, and when unearned revenues are received a revenue account is credited.
*19. The alternative treatment of prepaid expenses and unearned revenues has the same effect on the
financial statements as the procedures described in the chapter.
*20. When a prepaid expense is initially debited to an expense account,
a. No adjusting entry will be required if the prepayment is fully expired or consumed before the
next financial statement date.
b. If the prepayment is not fully expired or consumed, an adjusting entry is required.
c. Prior to adjustment an expense account is overstated and an asset account is understated.
d. The adjusting entry results in a debit (increase) to an asset account and a credit (decrease)
to an expense account.
hand. The adjusting entry is:
Supplies ................................................................... 300
Supplies Expense ............................................. 300
Financial Reporting Concepts
Faithful representation means that accounting information accurately depicts what really
happened. To provide this, information must be complete, neutral and free from error.
*23. Accounting information is comparable when different companies use the same accounting
financial statements.
*24. To be relevant, accounting information must be presented on a timely basis, meaning that it must
be available to decision makers before it loses its capacity to influence decisions. Accounting
information is understandable if it is presented in a clear and concise fashion so that a
proven to be free from error.
*25. The monetary unit assumption states that only those things that can be expressed in monetary
terms are included in the accounting records. The economic entity assumption states that every
economic entity should be separately identified and accounted for.
future.
*27. GAAP generally uses one of two measurement principles. The historical cost principle
states that assets are record at their cost. Cost is used because it is easy to verify: usually there is
documentation when an asset is purchased. The fair value principle indicates that assets and
*28. The full disclosure principle requires that companies must disclose all circumstances and
events that would make a difference to financial statement users. If a piece of information is not
disclosed in one of the four financial statements, then it should be included in the notes to the
statements.
29. The cost constraint relates to the fact that providing information is costly. In deciding what
LECTURE OUTLINE
A. Timing Issues.
artificial time periods.
2. Monthly and quarterly time periods are called interim periods.
3. An accounting time period that is one year in length is a fiscal year.
B. Accrual- vs. Cash-Basis Accounting.
1. Using the accrual basis to determine net income means companies rec-
ognize revenues when they actually perform the services (rather than
when they receive cash). It also means recognizing expenses when
incurred (rather than when paid).
2. Under cash-basis accounting, companies record revenue when they receive
cash. They record an expense when they pay out cash.
C. Recognizing Revenues and Expenses.
1. The revenue recognition principle requires that companies recognize reve-
nue in the accounting period in which the performance obligation is
satisfied.
2. The expense recognition principle requires that efforts (expenses) be
matched with accomplishments (revenues). Expenses are matched with
revenues in the period when efforts are expended to generate revenues.
ETHICS INSIGHT
Allegations of abuse of the revenue recognition principle have become all too
common in recent years. One company was accused of saying that a sale that
occurred at the beginning of one quarter occurred at the end of the previous
quarter in order to achieve the previous quarters sales targets.
What motivates sales executives and finance and accounting executives to
participate in activities that result in inaccurate reporting of revenues?
D. The Basics of Adjusting Entries.
1. In order for revenues and expenses to be reported in the correct period,
companies make adjusting entries at the end of the accounting period.
Adjusting entries ensure that revenues are recognized in the period in
which services are performed, and that expenses are recognized in the
period in which they are incurred.
statements.
3. Deferrals (prepaid expenses and unearned revenues).
a. Expenses paid in cash before they are used or consumed; they
expire either with the passage of time or through use (supplies,
insurance, rent).
b. Depreciation Adjustment.
(1) Depreciation is the process of allocating the cost of an asset to
expense over its useful life in a rational and systematic manner.
(2) Depreciation expense is computed by dividing the cost of an asset
by its useful life.
customer deposits).
ACCOUNTING ACROSS THE ORGANIZATION
Gift cards are popular with marketing executives, but they create accounting
questions. Should revenue be recorded at the time the gift card is sold, or when it
is used by the customer?
should recognize revenue, and why?
Answer: According to the revenue recognition principle, companies should
recognize revenue when the performance obligation is satisfied. In
this case revenue is not recognized until Best Buy provides the
goods. Thus, when Best Buy receives cash in exchange for the gift
Revenue account.
4. Accruals (accrued revenues and accrued expenses).
are accrued expenses (interest, salaries, taxes).
5. Adjusting entries are recorded in the general journal and follow the last
transaction entry. They are posted to the ledger accounts at the end of
the accounting period.
been journalized and posted.
2. The adjusted trial balance proves the equality of the total debit balances
and the total credit balances in the ledger after all adjustments.
balance as reported in the owner’s equity statement.
*F. Alternative Treatment of Prepaid Expenses and Unearned Revenue.
