John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-1
CHAPTER 3
ADJUSTING ACCOUNTS FOR FINANCIAL STATEMENTS
Related Assignment Materials
Student Learning Objectives
Questions
Quick Studies*
Exercises*
Problems*
Beyond the
Numbers
Conceptual objectives:
C1. Explain the importance of periodic
reporting and role of accrual
accounting.
1, 2, 3, 20
3-1, 3-2
3
3-3, 3-7
3-8, 3-9
C2. Identify steps in the accounting
cycle.
20
3-23
C3. Explain and prepare a classified
balance sheet.
4,6, 21, 22,
23,26, 27, 28
3-24
3-9
3-7, GL3-1
Analytical objectives:
A1. Compute profit margin and describe
its use in analyzing company
performance.
3-19
3-10
3-2, 3-5,
3-8
3-1, 3-2,
3-5, 3-7, 3-9
A2. Compute the current ratio and
3-25
3-11
3-5, 3-8
3-2
Procedural objectives:
P1. Prepare and explain adjusting entries.
5, 6, 7, 8, 10
11, 12
3-3, 3-4, 3-5,
3-6, 3-7,3-8,3-9,
3-10, 3-11, 3-12,
3-13, 3-14, 3-15,
3-16
3-1, 3-2, 3-3,
3-4, 3-5
3-1, 3-2, 3-3,
3-4, 3-6, SP 3,
GL3-1, GL3-
2, GL3-5,
GL 3-6
3-6
P2. Explain and prepare an adjusted trial
balance.
3-17
3-3, 3-4, 3-6,
SP3, GL3-1,
GL3-2, GL3-6
GL 3-6
P3. Prepare financial statements from an
adjusted trial balance.
3-18
3-5, 3-6, 3-
7,
3-3,3-4,3-5,
3-6,3-,SP3,
GL3-1,GL3-2,
GL3-5, GL3-6
P4. Describe and prepare closing entries.
13, 14, 15,
16, 29
3-21
3-8
3-6, 3-8, SP 3,
GL3-1,
GL3-5, GL3-6
3-1, 3-4
P5. Explain and prepare a post-closing
trial balance.
17
3-22
5, GL3-6
P6. Explain the alternatives in accounting
9
3-20
3-12, 3-13
3-6, SP 3,
GL3-1, GL3-
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-2
P8. Prepare reversing entries and explain
their purpose (Appendix 3C)
24, 25
3-27
3-15
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-4
Additional Information on Related Assignment Material
Connect
Available on the instructor’s course-specific website) repeats all numerical Quick Studies, all Exercises and
Problems Set A. Connect also provides algorithmic versions for Quick Study, Exercises and Problems. It allows
instructors to monitor, promote, and assess student learning. It can be used in practice, homework, or exam mode.
Excel Simulations
Assignable within Connect, Excel Simulations allow students to practice their Excel skills—such as basic formulas
and formatting—within the context of accounting. These questions feature animated, narrated Help and Show Me
tutorials (when enabled). Excel Simulations are auto-graded and provide instant feedback to the student.
Synopsis of Chapter Revisions
• NEW opener—GoPro
• Add partial income statement to margins of Exhibits 3.2 and 3.3.
• New box on Saba accounting fraud and clawbacks.
• Enhanced Exhibit 3.4 with added entries and financial statement effects.
• Simplified depreciation illustration under ‘Prepaid Expenses.’
• New art added to introduce accrued revenues.
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-5
Chapter Outline
Notes
I. Timing and Reporting
A. The Accounting Period
To provide timely information, accounting systems prepare reports
at regular intervals.
three-month quarter, a six-month interval, or a year for
1. Time-period principle assumes that an organization’s activities
can be divided into specific time periods such as a month, a
2. Annual reporting period:
a. Calendar year—January 1 to December 31.
b. Fiscal year—any twelve consecutive months on which to
base the annual financial reports.
B. Accrual Basis versus Cash Basis
1. Accrual basis—uses the adjusting process to recognize
revenues when earned and expenses when incurred with
revenues (match the expenses with the revenue). This means
the economic effects of revenues and expenses are recorded
when earned or incurred, not when cash is received or paid.
Accrual basis is consistent with GAAP. Improves
comparability of statements.
2. Cash basis—revenues are recognized when cash is received
and expenses are recognized when cash is paid. Cash basis is
not consistent with GAAP.
C. Recognizing Revenues and Expenses
1. The revenue recognition principle requires revenue be
recorded when earned, not before and not after.
2. The expense recognition principle (often called the matching
principle) aims to record expenses in the same period as the
revenues earned as a result of these expenses.
II. Adjusting Accounts—An adjusting entry is recorded to bring an asset
or liability account balance to its proper amount. This entry also
updates the related expense or revenue account. Need to determine the
current account balance; what the balance should equal and record the
adjusting entry to get from step 1 to step 2.
than one period.
Chapter Outline
Notes
B. Prepaid (Deferred) Expenses
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-6
1. Prepaid expenses (including depreciation) are items paid for in
advance of receiving their benefits. Prepaid expenses, also
called deferred expenses, are assets. As the assets are used,
C. Depreciation
1. Depreciation is the process of allocating the cost of plant
assets over their expected useful lives.
2. Adjusting entries for depreciation expense involve increasing
(debiting) expenses and increasing (crediting) a special
D. Unearned (Deferred) Revenues
1. Unearned revenues (also called deferred revenues) are
liabilities created by cash received in advance of providing
products or services. The obligation is to provide the service
or product. As they are provided, unearned revenues
(liabilities) become earned revenues (revenues).
E. Accrued Expenses
1. Accrued expenses are costs or expenses incurred in a period
but are both unpaid and unrecorded.
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-7
Chapter Outline
Notes
F. Accrued Revenues
1. Accrued revenues are revenues earned in a period that are both
unrecorded and not yet received in cash.
G. Links to Financial Statements
Each adjusting entry affects one or more income statement
accounts and one or more balance sheet accounts. Failure to make
a necessary adjustment will result in misstatements of amounts on
each of these statements. (See textbook Exhibit 3-12 for a
summary of adjustments and financial statement links.)
III. Preparing Financial Statements—Prepare financial statements
directly from information in the adjusted trial balance. The following
preparation order shows the flow of information from one statement to
another:
A. Income Statement
IV. Closing Process—The closing process is an important step at end of
the accounting period after financial statements have been completed.
Prepares accounts for recording transactions and events for the next
period.
A. Steps in closing process:
1. Identify accounts for closing.
2. Record and post-closing entries.
3. Prepare a post-closing trial balance.
B. Purpose of closing process:
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-8
Chapter Outline
C. Temporary and Permanent Accounts
1. Temporary (or nominal) accounts accumulate data related to
one accounting period. (They are the income statement
accounts, dividends account, and Income Summary.
D. Recording Closing Entries—the purpose is to transfer the end–
of-period balances in revenue, expense, and dividends accounts
to the permanent retained earnings account.
1. Use a new temporary account called Income Summary. The
four closing entries are:
a. Close credit balances in revenue (and gain) accounts by
debiting the accounts and crediting Income Summary.
This transfers revenue balances to the credit side Income
Summary.
2 After all closing entries are posted, all temporary accounts have
a zero balance and retained earnings is up to date.
E. Post-Closing Trial Balance—a list of permanent accounts and
their balances taken from the ledger.
Notes
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
Chapter Outline
Notes
V. Accounting Cycle—steps can vary if a worksheet is used (see Visual
#3-1). The ten steps repeated each accounting cycle are as follows:
1. Analyze transactions
2. Journalize
3. Post
VI. Classified Balance Sheet organizes assets and liabilities into important
subgroups and provides more information for decision makers.
A. Classification Structure
1. One of the more important classifications is the separation
between current and noncurrent assets and liabilities.
2. Current items are expected to come due (both collected and
B. Classification Categories
1. Current assets—cash or other resources that are expected to be
sold, collected, or used within one year or the operating cycle,
whichever is longer. Examples: cash, short-term investments,
accounts receivable, short-term notes receivable, merchandise
inventory, and prepaid expenses.
2. Long-term investments—assets held for more than one year,
that are not used in business operations. Examples: stocks,
bonds, promissory notes, and land held for future expansion.
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-10
Chapter Outline
5. Current liabilities—obligations due to be paid or settled within
the longer of one year or the operating cycle. Examples:
accounts payable, notes payable, wages payable, taxes payable,
interest payable, unearned revenues, current portions of
long-term liabilities.
VII. Global View
A. Adjusting accounts—adjustments presented in this chapter are
identical under both systems.
VIII. Decision Analysis: Profit Margin and Current Ratio
A. Profit margin is used to evaluate operating results by measuring the
ratio of a company’s net income to sales. Also called return on sales.
B. Calculated as net income divided by net sales revenues.
IX. Appendix 3A—Alternative Accounting for Prepayments
Notes
A. Prepaid expenses may originally be recorded with debits to
expense accounts instead of assets. If so, then adjusting entries
must transfer the cost of the unused portions from expense
accounts to prepaid expense (asset) accounts.
X. Appendix 3B—Work Sheet as a Tool
A. Benefits of a Work Sheet (Spreadsheet) – aids in the preparation
of financial statements; reduces errors; links accounts and
adjustments to the financial statements; assists in planning an
audit; helps in preparing interim financial statements; and shows
proposed “what–if” transactions.
John J. Wild, Financial Accounting: Information for Decisions, 8th Edition
3-11
Chapter Outline
B. Use of a Work Sheet – does not substitute for financial statements.
It is a tool used at the end of the period to help organize data and
prepare financial statements.
XI. Appendix 3C—Reversing Entries
A. Accounting without reversing entries
1. To construct proper entries when the cash receipt/payment
B. Accounting with reversing entries (an optional step)
1. Linked to asset and liability account balances that arose from
the accrual of revenues and expenses.
2. Purpose is to simplify recordkeeping.
3. They are prepared after closing entries and dated the first day
of the new period.
Notes