Accounting Chapter 3 Homework Besides Expense The Advertising 2018 Will Show

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Chapter 03 - The Accounting Cycle: End of the Period
Solution:
1. Closing entries
December 31
Debit
Credit
Service Revenue . . . . . . . . . . . . . . . . . . . . . . . . . . .
17,200
Retained Earnings . . . . . . . . . . . . . . . . . .
17,200
2. Post-closing trial balance
3. The balance of retained earnings increases by $1,100 from the adjusted trial balance to the
post-closing trial balance. The balance increases by the amount of net income ($2,400) and
decreases by the amount of dividends ($1,300).
Swan Dance Academy
Post-Closing Trial Balance
December 31
Account Title
Debit
Credit
Cash
$3,400
Accounts Receivable
6,200
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Chapter 03 - The Accounting Cycle: End of the Period
Key Points by Learning Objective
LO3-1 Understand when revenues and expenses are recorded.
The revenue recognition principle states that we record revenue in the period in which we
LO3-2 Distinguish between accrual-basis and cash-basis accounting.
The difference between accrual-basis accounting and cash-basis accounting is timing. Under
LO3-3 Demonstrate the purposes and recording of adjusting entries.
Adjusting entries are a necessary part of accrual-basis accounting. They help to update the
balances of assets, liabilities, revenues, and expenses at the end of the accounting period for
LO3-4 Post adjusting entries and prepare an adjusted trial balance.
LO3-5 Prepare financial statements using the adjusted trial balance.
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Chapter 03 - The Accounting Cycle: End of the Period
LO3-6 Demonstrate the purposes and recording of closing entries.
Closing entries serve two purposes: (1) to transfer the balances of temporary accounts (revenues,
LO3-7 Post closing entries and prepare a post-closing trial balance.
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Chapter 03 - The Accounting Cycle: End of the Period
Common Mistakes
Common Mistake
When recording the interest payable on a borrowed amount, students sometimes mistakenly
credit the liability associated with the principal amount (Notes Payable). We record interest
payable in a separate account (Interest Payable), to keep the balance owed for principal separate
from the balance owed for interest.
Common Mistake
Students sometimes mistakenly include the Cash account in an adjusting entry. Typical adjusting
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Chapter 03 - The Accounting Cycle: End of the Period
Decision Points
Question
Accounting Information
Analysis
Can the company
generate revenues that
Revenues and expenses
reported in the income
Revenues measure sales to customers
during the year. Expenses measure the
Question
Accounting Information
Analysis
The amounts reported
for revenues and
expenses represent
activity over what
period of time?
Income statement
Revenue and expense accounts
measure activity only for the current
reporting period (usually a month,
quarter, or year). At the end of each
period, they are closed and begin the
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Chapter 03 - The Accounting Cycle: End of the Period
Career Corner
Career Corner
In practice, accountants do not prepare closing entries. Virtually all companies have accounting
software packages that automatically update the Retained Earnings account and move the
temporary accounts at the end of the year. Of course, accounting information systems go far
beyond automatic closing entries. In today’s competitive global environment, businesses demand
information systems that can eliminate redundant tasks and quickly gather, process, and
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Chapter 03 - The Accounting Cycle: End of the Period
Ethical Dilemma
Ethical Dilemma
You have recently been employed by a large clothing retailer. One of your tasks is to help
prepare financial statements for external distribution. The company’s lender, National Savings &
Loan, requires that financial statements be prepared according to generally accepted accounting
principles (GAAP). During the months of November and December 2018, the company spent $1
million on a major TV advertising campaign. The $1 million included the costs of producing the
commercials as well as the broadcast time purchased to run them. Because the advertising will be
aired in 2018 only, you charge all the costs to advertising expense in 2018, in accordance with
requirements of GAAP.
The company’s chief financial officer (CFO), who hired you, asks you for a favor. Instead of
charging the costs to advertising expense, he asks you to set up an asset called prepaid
advertising and to wait until 2019 to record advertising expense. The CFO explains, “This ad
campaign has produced significant sales in 2018, but I think it will continue to bring in
customers throughout 2019. By recording the ad costs as an asset, we can match the cost of the
advertising with the additional sales in 2019. Besides, if we expense the advertising in 2018, we
will show an operating loss in our income statement. The bank requires that we continue to show
profits in order to maintain our loan in good standing. Failure to remain in good standing could
mean we’d have to lay off some of our recent hires.” As an employee, should you knowingly
record advertising costs incorrectly if asked to do so by your superior? Does your answer change
if you believe that misreporting will save employee jobs?
Key Issues
Recording all advertising expense in 2018 (instead of delaying a portion until 2019) has
the effect of reducing net income.
Since the bank requires the company to maintain profitability, recording all advertising
expenses in 2018 causes the company to lose good standing.
Strictly following the rules of accounting vs. the use of discretion
What is the role of an employee? Do the right thing or do what your boss tells you?
Option 1: Expense advertising costs immediately per GAAP
GAAP guidelines are in place for accountants to follow, and the correct action is to
expense the advertising costs in the current year, regardless of what the CFO says and
regardless of the consequences.
Option 2: Establish a prepaid advertising account to delay the recognition of some expenses
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Chapter 03 - The Accounting Cycle: End of the Period
Why do I have to be the employee to take on the burden of standing up to the CFO? Is
my job not to do as I am told?
The CFO has a point. If we don’t set up the prepaid account, long-term ramifications
such as violating the debt covenant with the bank would not be good for the company.
Plus, this prepaid account is just a timing issue, as we will still eventually report all of the
expense related to advertising.
Am I not simply protecting my fellow employees’ jobs by complying with the CFO’s
request?
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Chapter 03 - The Accounting Cycle: End of the Period
EAGLE GOLF ACADEMY
Worksheet
December 31
Unadjusted
Trial Balance
Adjusting
Entries
Adjusted
Trial Balance
Income
Statement
Balance
Sheet
Accounts
Debit
Credit
Debit
Credit
Debit
Credit
Debit
Credit
Debit
Credit
Cash
$ 6,900
$ 6,900
$ 6,900
Accounts Receivable
2,000
(h) 700
2,700
2,700
Interest Payable
(g) 100
100
100
Notes Payable
10,000
10,000
10,000
Common Stock
25,000
25,000
25,000
Retained Earnings
0
0
0
Dividends
200
200
200
Service Revenue
6,300
(d) 200
7,200
$7,200
(h) 700
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Chapter 03 - The Accounting Cycle: End of the Period
General Ledger of Eagle Golf Academy After Adjusting Entries
(Illustration 3-9, page 124)
ASSETS
Account: Cash
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Dec. 1
Issue common stock for cash
25,000
25,000
Account: Accounts Receivable
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Supplies
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Prepaid Rent
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Dec. 1
Prepay rent with cash
6,000
6,000
Dec. 31
Reduce prepaid rent due to passage of time
500
5,500
Account: Equipment
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
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Chapter 03 - The Accounting Cycle: End of the Period
Account: Accumulated Depreciation
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Dec. 31
Depreciate equipment
400
400
LIABILITIES
Account: Accounts Payable
Date
Description
Debit
Credit
Balance
Account: Deferred Revenue
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Dec. 23
Receive cash in advance from customers
600
600
Dec. 31
Provide services to customers who paid in advance
200
400
Account: Salaries Payable
Date
Description
Debit
Credit
Balance
Account: Utilities Payable
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Interest Payable
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Dec. 31
Owe for interest charges in the current period
100
100
Account: Notes Payable
Date
Description
Debit
Credit
Balance
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Chapter 03 - The Accounting Cycle: End of the Period
STOCKHOLDERS’ EQUITY
Account: Common Stock
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Retained Earnings
Date
Description
Debit
Credit
Balance
Account: Dividends
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Service Revenue
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Dec. 12
Providing training to customers for cash
4,300
4,300
Account: Rent Expense
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Supplies Expense
Date
Description
Debit
Credit
Balance
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Chapter 03 - The Accounting Cycle: End of the Period
Account: Salaries Expense
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Utilities Expense
Date
Description
Debit
Credit
Balance
Dec. 1
Beginning balance
0
Account: Interest Expense
Date
Description
Debit
Credit
Balance

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