CHAPTER 3
ACCRUAL ACCOUNTING CONCEPTS
CLASS DISCUSSION QUESTIONS
1. AT&T and Microsoft use the accrual
basis of accounting. Generally accepted
accounting principles (GAAP) require all but
very small businesses to use the accrual
basis of accounting. This is because the ac-
2. a. Under the cash basis of accounting,
revenues are reported in the period in
which cash is received, and expenses
are reported in the period in which cash
is paid.
b. Under the accrual basis of accounting,
revenues are reported in the period in
5. Accrual basis only: c, f
Cash or accrual basis: a, b, d, e
6. Yes. Land needs no adjustment at the end
of the period.
7. No. Supplies before adjustments normally
represents the cost of the supplies at the
beginning of the period plus the cost of the
supplies purchased during the period. Some
of the supplies have been used; therefore,
an adjustment is necessary for the supplies
used before the amount for the balance
sheet is determined.
10. Statement (b): Increases the balance of an
expense account (accrued expense).
11. Statement (a): Increases the balance of a
revenue account (accrued revenue).
pired cost for the period. The reduction
in the fixed asset account is recorded by
increasing Accumulated Depreciation
rather than decreasing the fixed asset
account. The use of the contra asset ac-
count facilitates the presentation of orig-
inal cost and accumulated depreciation
for tax and other purposes.
in time.
c. Depreciation Expense appears in the
income statement; Accumulated Depre-
ciation appears in the balance sheet.
Note: Depreciation may also appear on
the statement of cash flows when the
indirect method is used. The indirect
method of preparing the statement of
cash flows is discussed in Chapter 4.
14. a. Current assets are composed of cash
and other assets that may reasonably be
expected to be realized in cash or sold
EXERCISES
E3–1
Statement of
Balance Sheet
Income
Cash Flows
Assets
=
+
Stockholders’ Equity
Statement
Prepaid
Capital
Retained
Cash
+
Supplies
+
Ins.
=
+
Stock
+
Earnings
a.
Investment
25,000
25,000
b.
Paid insurance
–4,200
4,200
Balances
20,800
4,200
25,000
c.
Purchased supplies
1,200
Balances
20,800
1,200
4,200
25,000
d.
Fees earned
36,500
36,500
d.
Balances
57,300
1,200
4,200
25,000
36,500
e.
Paid expenses
–16,100
e.
Balances
41,200
1,200
4,200
25,000
20,400
Paid dividends
–7,500
Balances
33,700
1,200
4,200
25,000
a.
Financing
25,000
Fees earned
b.
Operating
–4,200
Wages exp.
–12,000
d.
36,500
Rent exp.
e.
Operating
Utilities exp.
Financing
–7,500
Misc. exp.
–1,100
E3–2
Statement of
Balance Sheet
Income
Cash Flows
Assets
=
Liabilities
+
Stockholders’ Equity
Statement
Prepaid
Accounts
Capital
Retained
Cash
+
Supplies
+
Ins.
=
Payable
+
Stock
+
Earnings
a.
Investment
25,000
25,000
b.
Paid insurance
–4,200
4,200
Balances
20,800
4,200
25,000
c.
Purchased supplies
1,200
1,200
Balances
1,200
4,200
1,200
25,000
d.
Fees earned
36,500
36,500
d.
Balances
57,300
1,200
4,200
1,200
25,000
36,500
e.
Paid expenses
–16,100
e.
Balances
41,200
1,200
4,200
1,200
25,000
20,400
Paid dividends
–7,500
–7,500
Balances
33,700
1,200
4,200
1,200
25,000
12,900
a1.
Insurance expense
–350
–350
a1.
Balances
33,700
1,200
3,850
1,200
25,000
12,550
a2.
Supplies expense
–300
–300
a2.
Balances, Feb. 28
33,700
900
3,850
1,200
25,000
12,250
Statement of Cash Flows
Income Statement
a.
Financing
25,000
d.
Fees earned
36,500
b.
Operating
–4,200
e.
Wages exp.
–12,000
d.
Operating
36,500
e.
Rent exp.
–2,000
e.
Operating
e.
Utilities exp.
–1,000
Financing
e.
Misc. exp.
–1,100
Supplies exp.
–300
E3–3
THE HERBAL SHOPPE
Income Statement
For the Month Ended February 28, 20Y4
Fees earned ……………………………………………………………….. $36,500
Operating expenses:
Wages expense ……………………………………………………… $12,000
Rent expense…………………………………………………………. 2,000
THE HERBAL SHOPPE
Retained Earnings Statement
For the Month Ended February 28, 20Y4
Net income …………………………………………………………………. $19,750
E3–3, Concluded
THE HERBAL SHOPPE
Balance Sheet
February 28, 20Y4
Assets
Cash ………………………………………………………………………….. $33,700
Supplies …………………………………………………………………….. 900
Prepaid insurance ………………………………………………………. 3,850
Total assets …………………………………………………………… $38,450
THE HERBAL SHOPPE
Statement of Cash Flows
For the Month Ended February 28, 20Y4
Cash flows from operating activities:
Cash received from customers……………………………….. $ 36,500
Cash paid for expenses ………………………………………….. (20,300)*
E3–4
Net income …………………………………………………………………. $19,750
Add increase in accounts payable. ………………………………. 1,200
Deduct:
E3–5
a. Transaction:
(a) Issued capital stock in exchange for cash, $50,000
(b) Purchased supplies on account, $1,500
(c) Paid cash to creditors for amounts owed, $1,000
E3–6
1. (b) Deferred revenue (unearned revenue)
2. (a) Deferred expense (prepaid expense)
3. (b) Deferred revenue (unearned revenue)
4. (d) Accrued revenue (accrued asset)
E3–7
Account Answer
Accounts Receivable ……………………… Normally requires adjustment (AR).
Accumulated Depreciation ……………… Normally requires adjustment (DE).
Capital Stock …………………………………. Does not normally require adjustment.
Dividends ………………………………………. Does not normally require adjustment.
E3–8
a. $2,250 ($4,000 – $1,750)
b. $4,200 ($1,100 + $3,100)
E3–9
a. Insurance Expense, increase, $10,500 ($14,400 + $9,600 – $13,500)
E3–10
E3–11
a. Unearned Revenue, decrease, $6,000 million
Revenue, increase, $6,000 million
E3–12
a. Rent revenue (or revenues) will be understated by $36,750. Net income will be
E3–13
a. Salary Expense, increase, $4,740 [($7,900/5 days) × 3 days]
E3–14
$813,100 ($825,000 – $11,900)
E3–15
a. Salary expense (or expenses) will be understated by $6,750. Net income will
be overstated by $6,750.
E3–16
a. Salary expense (or expenses) will be overstated by $6,750. Net income will be
understated by $6,750.
E3–17
a. $598,000,000
E3–18
Error (a) Error (b)
Over- Under- Over- Under-
stated stated stated stated
1. Revenue for the year would be ………….. $ 0 $175,000 $ 0 $ 0
2. Expenses for the year would be ………… 0 0 0 12,300
E3–19
$2,387,300 ($2,224,600 + $175,000 – $12,300)
E3–20
a. Accounts Receivable, increase, $47,700
E3–21
a. Unearned Fees, decrease, $50,000
Fees Earned, increase, $50,000
E3–22
a. Fees earned (or revenues) will be understated by $13,400. Net income will be
E3–23
a. Depreciation Expense, increase, $133,000
Accumulated Depreciation, increase, $133,000
b. (1) Depreciation expense would be understated by $133,000. Net income
E3–24
Adjustment Account Increase or Decrease Amount
1. Accounts Receivable Increase $11,250
Fees Earned Increase 11,250
2. Supplies Expense Increase 1,350
Supplies Decrease 1,350
3. Insurance Expense Increase 1,800
Prepaid Insurance Decrease 1,800
E3–25
a. $622,655 ($2,983,797 – $2,361,142)
E3–26
a. Current asset: 1, 3, 5, 6
E3–27
Since current liabilities are usually due within one year, $96,000 ($8,000 × 12
months) would be reported as a current liability on the balance sheet. The re-
E3–28
POUNDS-AWAY SERVICES CO.
Balance Sheet
November 30, 20Y9
Assets
Current assets:
Cash ……………………………………………………….…. $ 87,600
Accounts receivable …………………………………… 129,000
Supplies …………………………………………………….. 48,000
Liabilities
Current liabilities:
Accounts payable ………………………………………. $135,600
Salaries payable …………………………………………. 26,400
Unearned fees ……………………………………………. 18,000
Total liabilities ………………………………………………… $ 180,000
Stockholders’ Equity
Capital stock …………………………………………………… $150,000
E3–29
LA-Z-BOY INC.
Balance Sheet
April 30, 20Y8
(in thousands)
Assets
Current assets:
Cash ……………………………………………………….…………….. $115,262
Accounts receivable ………………………………………………. 161,299
Inventories …………………………………………………………….. 138,444
Other current assets ………………………………………………. 17,218
Liabilities
Current liabilities:
Accounts payable ………………………………………………….. $ 49,537
Accrued expenses …………………………………………………. 77,447
Debt due within one year ……………………………………….. 5,120
Total current liabilities ………………………………………. $132,104
Stockholders’ Equity
Capital stock ………………………………………………………………. $256,322
Retained earnings ………………………………………………………. 107,818
E3–30
1. The date of the statement should be “May 31, 20Y5” and not “For the Year
Ended May 31, 20Y5.”
2. Accounts payable should be a current liability.
3. Land should be classified as property, plant, and equipment.
4. “Accumulated depreciation” should be deducted from the related fixed asset.
E3–30, Concluded
A corrected balance sheet would be as follows:
ATLAS SERVICES CO.
Balance Sheet
May 31, 20Y5
Assets
Current assets:
Cash ……………………………………………………… $ 12,000
Accounts receivable ………………………………. 40,800
Building ………………………………………………… $225,000
Less accumulated depreciation …………. 54,600 170,400
Equipment …………………………………………….. $ 90,000
Less accumulated depreciation …………. 32,400 57,600
Total property, plant, and equipment 628,000
Total assets ……………………………………………….. $703,000
PROBLEMS
P3–1
Statement of
Balance
Cash Flows
Assets
Accts.
Prepaid
Acc.
Cash
+
Rec.
+
Insurance
+
Supplies
+
Building
–
Depr.
+
Balances, Jan. 1
20,000
34,500
700
1,000
150,000
–11,200
Jan. 1.
Received rent rev.
15,000
Balances
35,000
34,500
700
1,000
150,000
–11,200
Jan. 1.
Paid ins.
–4,200
4,200
Balances
30,800
34,500
4,900
1,000
150,000
–11,200
Jan. 6.
Purchased supplies
1,800
Balances
30,800
34,500
4,900
2,800
150,000
–11,200
Jan. 9.
Collected cash
27,500
–27,500
Balances
58,300
7,000
4,900
2,800
150,000
–11,200
Jan. 11.
Paid creditors
–3,000
Balances
55,300
7,000
4,900
2,800
150,000
–11,200
Jan. 18.
Issued capital stock
25,000
Balances
80,300
7,000
4,900
2,800
150,000
–11,200
Jan. 20.
Billed patients
62,000
Balances
80,300
69,000
4,900
2,800
150,000
–11,200
Jan. 25.
Cash fees
12,900
Balances
93,200
69,000
4,900
2,800
150,000
–11,200
Jan. 30.
Paid expenses
Balances
55,500
69,000
4,900
2,800
150,000
–11,200
Jan. 30.
Paid dividends
Balances
40,500
69,000
4,900
2,800
150,000
–11,200
Statement of Cash Flows
Jan. 1.
Operating
15,000
Jan. 1.
Operating
–4,200
Jan. 9.
Operating
27,500
Jan. 11.
Operating
–3,000
Jan. 18.
Financing
Jan. 25.
Operating
Jan. 30.
Operating
Jan. 30.
Financing
Net increase in cash, Jan. 1
20,000
Ending cash balance, Jan. 31
40,500
P3–1, Concluded
Sheet
Income
=
Liabilities
+
Stockholders’ Equity
Statement
Accts.
Unearned
Wages
Notes
Capital
Retained
+
Land
=
Payable
+
Revenue
+
Payable
+
Payable
+
Stock
+
Earnings
120,000
7,500
0
0
30,000
50,000
227,500
15,000
120,000
7,500
15,000
0
30,000
50,000
227,500
120,000
7,500
15,000
0
30,000
50,000
227,500
1,800
120,000
9,300
15,000
0
30,000
50,000
227,500
120,000
9,300
15,000
0
30,000
50,000
227,500
120,000
6,300
15,000
0
30,000
50,000
227,500
120,000
6,300
15,000
0
30,000
227,500
Jan. 20.
120,000
6,300
15,000
0
30,000
289,500
12,900
Jan. 25.
120,000
6,300
15,000
0
30,000
302,400
–37,700
Jan. 30.
–15,000
120,000
6,300
15,000
0
30,000
249,700
Income Statement
Jan. 20. Fees earned
62,000
Jan. 25. Fees earned
12,900
Jan. 30. Wages exp.
–24,000
–6,000
–5,000
–2,500