Financial and Managerial Accounting, 9th Edition
CHAPTER 3
ADJUSTING ACCOUNTS FOR FINANCIAL STATEMENTS
Related Assignment Materials
Student Learning
Objectives
Questions
Quick Studies*
Exercises*
Problems*
AA, BTN, DA
Conceptual objectives:
and the role of accrual
C2. Explain and prepare a
classified balance
13, 14, 15
3-26, 3-27, 3-28,
3-29, 3-30, 3-31
3-6, 3-7, 3-8,
3-9, GL 3-6
DA 3-4, DA 3-5
DA 3-6
C1. Explain the importance
of periodic reporting
1, 2, 3
3-1, 3-2
3-1, 3-2, 3-3
BTN 3-1
Analytical objectives:
A1. Compute and analyze
profit margin and
current ratio.
3-32, 3-33
3-18, 3-25, 3-26,
3-27
AA 3-1, AA 3-2,
AA 3-3,
BTN 3-2
Procedural objectives:
3-5, 3-6, 3-8
entries for deferral of
revenues.
3-11, 3-12, 3-15,
3-16
3-5, 3-8, 3-11
SP, GL: 3-2,
3-5, 3-6, 3-8
BTN 3-4,
DA 3-1, DA 3-2
P1. Prepare adjusting
4, 5
3-3, 3-4, 3-5, 3-6,
3-4, 3-5, 3-6,
3-1, 3-2, 3-3,
BTN 3-1,
P3. Prepare adjusting
entries for accrued
expenses.
3-3, 3-4, 3-13, 3-15,
3-16, 3-14, 3-17
3-4, 3-6, 3-7,
3-8, 3-9, 3-10,
3-11, 3-12, 3-13
3-1, 3-2, 3-3,
3-5, 3-8, 3-11
SP, GL: 3-2,
3-5, 3-6, 3-8
BTN 3-3,
DA 3-2
entries for accrued
3-5, 3-6, 3-8
adjusted trial balance.
SP, GL: 3-1,
3-2, 3-5, 3-6,
3-8
P6. Prepare closing entries
and a post-closing trial
8, 9, 10, 11,
12, 13
3-23, 3-24, 3-25
3-23, 3-34, 3-35
3-5, 3-7, 3-8,
3-9, GL 3-5,
3-6
DA 3-5, AA 3-1
P4. Prepare adjusting
6, 7
3-3, 3-4, 3-15, 3-16
3-4, 3-9, 3-10,
3-1, 3-2, 3-3,
BTN 3-3,
Fundamental Accounting Principles, 25th Edition
P7.A Explain the
alternatives in
16
3-34, 3-35
3-19, 3-20, 3-28,
3-29
3-5, 3-10,
GL 3-5
P8. Prepare a worksheet
and explain its
3-36, 3-37, 3-38
3-30, 3-31, 3-32,
3-33, 3-34, 3-35
3-8, GL 3-6
See additional information that pertains to these quick studies, exercises, and problems.
SP refers to the Serial Problem
AA refers to Accounting Analysis
Additional Information on Related Assignment Material
See Chapter 1 of the Instructor’s Resource Manual for more information on materials for this text available in
Connect.
Connect
Available on the instructor’s course-specific website, Connect:
• All numerical Quick Studies, all Exercises and Problems Set A.
Hints/Guided Examples
Please note that the Guided Examples are labeled as “Hints” in Connect assignments. The animated PowerPoints without
Need-to-Know Videos
LO
Need–to–
Know
Title
Time
P1
3-1
Prepaid Expenses
4:51
P2
3-2
Unearned Revenues
3:34
Fundamental Accounting Principles, 25th Edition
3-3
P6
3-6
Closing Entries
C2
3-7
Classified Balance Sheet
Concept Overview Videos
Each video is paired with a Knowledge Check question.
LO
Title
Time
C1
Explain the importance of periodic reporting and the role of accrual accounting.
The Accounting Period
0:45
Annual Reporting Periods
Accrual Basis versus Cash Basis
1:15
Accrual Basis versus Cash Basis – Accrual Basis Illustration
1:25
Accrual Basis versus Cash Basis – Cash Basis Illustration
1:05
Recognizing Revenues and Expenses
C2
Explain and prepare a classified balance sheet.
Unclassified Balance Sheet
2:32
Classified Balance Sheet
2:58
A1
Compute and analyze profit margin and current ratio.
Profit Margin
0:46
Profit Margin Illustration
1:37
Current Ratio
0:40
Current Ratio —Illustration
1:49
P1
Prepare adjusting entries for deferral of expenses.
P2
Prepare adjusting entries for deferral of revenues.
Unearned (Deferred) Revenue
3:11
P3
Prepare adjusting entries for accrued expenses.
Accrued Expense
2:56
P4
Prepare adjusting entries for accrued revenues.
P5
Prepare financial statements from an adjusted trial balance.
Adjusted Trial Balance
1:13
Preparing Financial Statements
0:24
Income Statement and Statement of Owner’s Equity
0:08
Balance Sheet
0:19
P6
Prepare closing entries and a post-closing trial balance.
The Closing Process
1:12
Closing Entries Illustration
2:45
The Retained Earnings Account
Post-Closing Trial Balance
1:13
Fundamental Accounting Principles, 25th Edition
3-4
Steps in the Accounting Cycle
1:33
P7
Explain the alternatives in accounting for prepaids. Appendix 3A
Recording Prepaid Expenses
2:44
Recording Prepaid Revenues
2:25
P8
Prepare a worksheet and explain its usefulness. Appendix 3B
Benefits of a Work Sheet
0:53
Completing a Work Sheet – Steps 01,02, and 03
1:15
Completing a Work Sheet – Step 04
0:48
Completing a Work Sheet – Step 05
2:50
P9
Prepare reversing entries and explain their purpose. Appendix 3C
Reversing Entries
1:16
Reversing Entries: Not Used
1:18
Reversing Entries: Used
1:38
Reversing Entries: Comparing Used and Not Used
0:22
Synopsis of Chapter Revisions
NEW opener—Sword & Plough and entrepreneurial assignment.
Combined learning objectives on adjusted trial balance and financial statements.
New Analytics Insight on accounting for Bitcoin.
Fundamental Accounting Principles, 25th Edition
Chapter Outline
I. Timing and Reporting
A. The Accounting Period
To provide timely information, accounting systems prepare reports at regular intervals.
2. Annual reporting period:
1. Time period principle assumes that an organization’s activities can be divided into
specific time periods such as a month, a three-month quarter, a six-month interval, or a
B. Accrual Basis versus Cash Basis
C. Recognizing Revenues and Expenses
1. Accrual basis accounting—uses the adjusting process to recognize revenues when earned
and expenses when incurred with revenues (match the expenses with the revenue). This
2. Cash basis accounting—revenues are recognized when cash is received and expenses are
recognized when cash is paid. Accrual accounting better reflects business performance
customers.
1. The revenue recognition principle requires that revenue be recorded when goods or
services are provided to customers and at an amount expected to be received from
D. Framework for Adjustments—An adjusting entry is recorded to bring an asset or liability
account balance to its proper amount. Adjustments exist for transactions that extend over more
than one period. This entry also updates the related expense or revenue account. The three
steps for making an adjustment are:
1. Determine the current account balance
II. Deferral of Expense
A. Adjusting Deferral of Expenses
1. Prepaid expenses (including depreciation) are items paid for in advance of receiving their
Fundamental Accounting Principles, 25th Edition
3. Adjusting entries for prepaids involves increasing (debiting) expenses and decreasing
B. Adjusting for 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
III. Deferral of Revenue
A. Unearned revenues (also called deferred revenues) are liabilities created by cash received in
IV. Accrued Expense
B. Common accrued expenses are salaries, interest, rent, and taxes.
A. Accrued expenses are costs or expenses incurred in a period but are both unpaid and
unrecorded.
V. Accrued Revenue
A. Accrued revenues are revenues earned in a period that are both unrecorded and not yet received in
cash.
B. Accrued revenues commonly result from partially completed jobs or interest earned.
VI. Trial Balance and Financial Statements
A. Adjusted Trial Balance—A list of accounts and balances prepared after adjusting entries are
recorded and posted to the ledger.
B. 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:
Fundamental Accounting Principles, 25th Edition
3-7
VII. Closing Process — The closing process occurs at the end of the accounting period after financial
statements are completed.
A Steps in closing process:
1. Identify accounts for closing.
B. Two purposes of closing process:
1. To reset revenues, expenses, and dividends account balances to zero at the end of every period
C. Temporary and Permanent Accounts
1. Temporary accounts relate to one accounting period. They include all income
statement accounts, dividends accounts, and Income Summary. Closing process applies only to
D. Recording Closing Entries—the purpose is to transfer the end-of-period balances in revenue,
expense, and dividends accounts to the permanent capital account. Closing entries necessary at the
end of each period after financial statements are prepared so revenue, expense, and dividends
accounts can begin each period with zero balances, and so that retained earnings will reflect prior
periods’ revenues, expenses and dividends.
1. Use a new temporary account called Income Summary. The four steps in the closing process:
a. Step 1. Close credit balances in revenue accounts to Income Summary by debiting the
revenue 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
Eearnings is up to date.
E. Post-Closing Trial Balance—list of permanent accounts and their balances after all closing entries.
2. Verifies that all temporary accounts have zero ending balances.
1. Verifies that total debits equal total credits for permanent accounts.
VIII. Accounting Cycle— steps in preparing financial statements (see Exhibit 3.19).
The ten steps repeated each accounting cycle are as follows:
Fundamental Accounting Principles, 25th Edition
3-8
1. Analyze transactions
2. Journalize
3. Post
IX. Classified Balance Sheet — organizes assets and liabilities into important subgroups.
A. Classification Structure
1. One of the classifications is the separation between current and noncurrent assets and liabilities.
B. Classification Categories
1. Current assets—cash or other assets 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: notes receivable and investments in stocks and bonds expected to be held
for more than one year or operating cycle.
Examples: equipment, buildings, land. Also called property, plant and equipment (PP&E).
Examples: goodwill, patents, trademarks, franchises, copyrights.
operating cycle. Examples: accounts payable, wages payable, taxes payable, interest payable,
common stock and retained earnings.
X. 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.
Fundamental Accounting Principles, 25th Edition
3-9
XI. Alternative Accounting for Prepayments (Appendix 3A)
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.
different.
XII. Work Sheet as a Tool (Appendix 3B)
accounts and adjustments to financial statements, and shows the effect of proposed or “what if”
transactions.
A. The work sheet is an internal document that serves as a useful tool for organizing accounting
information. It is not a required report.
C. Use of a Work Sheet – constructed at the end of a period before the adjusting process. Steps to
prepare a work sheet:
The financial statement columns yield pro forma financial statements because they show the
statements as if the proposed transactions occurred.
1. Enter Unadjusted Trial Balance in the first two columns.
2. Enter Adjustments in the third and fourth columns. Total columns to verify debit adjustments
equal credit adjustments.
income or loss.
D. Preparing Financial Statements from a Work Sheet – it does not substitute for financial statements.
XIII. Reversing Entries -Appendix 3C
A. Accounting without reversing entries
1. To construct proper entries when the cash receipt/payment occurs in the next accounting period.
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.
Fundamental Accounting Principles, 25th Edition
Chapter 3 Alternate Demonstration Problem #1
On July 1, 2021, Howard M. Tenant rents office space from John Q. Landlord
for two years, starting immediately, at a rate of $100 per month, or $2,400 in
Fundamental Accounting Principles, 25th Edition
3-11
Solution: Chapter 3 Alternate Demonstration Problem #1
Tenant
Landlord
7/1/21
Prepaid Rent
2,400
Cash
2,400
Cash
2,400
Unearned Rent Rev.
2,400
12/31/21
Rent Expense
Unearned Rent Rev.
Prepaid Rent
Rent Revenue
12/31/22
Rent Expense
1,200
Unearned Rent Rev.
1,200
*Prepaid Rent
1,200
Rent Revenue
1,200
12/31/22
*Rent Expense
Unearned Rent Rev.
Prepaid Rent
Rent Revenue
An Alternative Solution (Based on the Appendix)
Tenant
Landlord
7/1/21
Rent Expense
2,400
Cash
2,400
Cash
2,400
Rent Rev.
2,400
12/31/21
Prepaid Rent
1,800
Rent Rev.
1,800
Rent Expense
1,800
1,800
Rent Expense
1,200
Unearned Rent Rev.
1,200
Prepaid Rent
1,200
Rent Revenue
1,200
*12/31/22
Unearned Rent Rev.
Prepaid Rent
Rent Revenue
Fundamental Accounting Principles, 25th Edition
Chapter 3 Alternate Demonstration Problem #2
The trial balance of M. Large Company at the end the year is as follows:
LARGE COMPANY
Trial Balance
December 31, 2021
Cash ……………………………………………………………….
$ 4,000
Accounts Receivable………………………………..
400
Prepaid Insurance ……………………………………………
1,200
Supplies …………………………………………………………
2,100
Equipment ……………………………………………………..
Accumulated Depreciation—Equipment …………..
$ 2,000
Common Stock
Retained Earnings………………………………….
9,000
Dividends ……………………………………………………….
2,000
Revenue ………………………………………………………….
Salaries Expense …………………………………………….
Totals ……………………………………………………………..
$54,000
$54,000
Additional information:
1. Expired insurance, $400.
2. Unused supplies, per inventory, $800.
Fundamental Accounting Principles, 25th Edition
Solution: Chapter 3 Alternate Demonstration Problem #2
1.
Insurance Expense ……………………………………
400
Prepaid Insurance ………………………………..
400
Supplies Expense ……………………………………..
Supplies …………………………..………………….
Depreciation Expense Equip. ……………………..
Accumulated Depreciation Equip. …………
Salaries Expense ……………………………………….
700
Salaries Payable ………………………………….
700
Accounts Receivable …………………………………
500
Fundamental Accounting Principles, 25th Edition
Chapter 3 Alternate Demonstration Problem #3
The trial balance of M. Large Company at the end of the year is as follows:
M. LARGE COMPANY
Trial Balance
December 31, 2021
Cash ……………………………………………………………….
$ 4,000
Prepaid Insurance ……………………………………………
1,600
Supplies …………………………………………………………
2,100
Equipment ……………………………………………………..
Accumulated Depreciation—Equipment …………..
$ 2,000
Common Stock
Retained Earnings ………………………………………….
Dividends ……………………………………………………….
2,000
Revenue ………………………………………………………….
Salaries Expense …………………………………………….
Rent Expense …………………………………………………
Totals ……………………………………………………………..
$54,000
$54,000
Additional information:
6. Expired insurance, $600.
Required:
1. Prepare adjusting entries.
Fundamental Accounting Principles, 25th Edition
3-15
Chapter 3 Solution: Alternate Demonstration Problem #3
1.
Insurance Expense ……………………………………
600
Prepaid Insurance ………………………………..
600
Supplies Expense ……………………………………..
1,300
Supplies …………………………..………………….
1,300
Depreciation Expense Equip. ……………………..
1,000
Salaries Expense ……………………………………….
700
Salaries Payable ………………………………….
700
Chapter 3 Alternate Demo Problem #4
The trial balance of Large Company, Inc. at the end of its annual accounting
period is as follows:
LARGE COMPANY, INC.
Trial Balance
December 31, 2021
Cash ……………………………………………………………….
$ 4,000
Prepaid Insurance ……………………………………………
1,600
Supplies …………………………………………………………
2,100
Equipment ……………………………………………………..
Accumulated Depreciation—Equipment …………..
$ 2,000
Common Stock
Retained Earnings ………………………………………….
9,000
Dividends ………………………………………………………..
2,000
Revenue ………………………………………………………….
Salaries Expense …………………………………………….
Rent Expense …………………………………………………
Totals ……………………………………………………………..
$54,000
$54,000
Fundamental Accounting Principles, 25th Edition
3-16
Additional information:
10. Expired insurance, $600.
13. Earned but unpaid salaries, $700
Required
2. Prepare adjusting entries.
Fundamental Accounting Principles, 25th Edition
3-17
Chapter 4 Solution: Alternate Demo Problem
1.
Insurance Expense ……………………………………
600
Prepaid Insurance ………………………………..
600
Supplies Expense ……………………………………..
Supplies …………………………..………………….
Depreciation Expense Equip. ……………………..
Salaries Expense ……………………………………….
700
Salaries Payable ………………………………….
700
2.
Revenue ……………………………………………………
33,000
Income Summary …………………………………
33,000
Income Summary ………………………………………
27,900
Salaries Expense …………………………………
19,000
Rent Expense ………………………………………
Insurance Expense ………………………………
600
Supplies Expense ………………………………..
Depreciation Expense ………………………….
Income Summary ………………………………………
Retained Earnings ……………………………….
Retained Earnings ……………………………………..
Dividends ……………………………………………
Fundamental Accounting Principles, 25th Edition
3.
LARGE COMPANY, INC.
Post-Closing Trial Balance
December 31, 2021
Dr.
Cr.
Cash …………………………..…………………………….
$4,000
Prepaid Insurance ……………………………………..
1,000
Supplies ……………………………………………………
20,000
Accumulated Depreciation, Equipment ………
Salaries Payable ………………………………………..
Common Stock
10,000
Retained Earnings ……………………………………..
12,100
Totals ……………………………………………………….