Chapter 4
Completing the Accounting Cycle
Review Questions
1. What document are financial statements prepared from?
The financial statements are prepared from the adjusted trial balance or worksheet.
2. What does the income statement report?
3. What does the statement of retained earnings show?
4. What does the balance sheet report?
The balance sheet reports assets, liabilities, and stockholders’ equity as of the last day of the period.
5. Why are financial statements prepared in a specific order? What is that order?
The financial statements are prepared in a specific order because net income from the income
6. What is a classified balance sheet?
In a classified balance sheet, each asset and each liability is classified into specific categories. Assets
7. Identify two asset categories on the classified balance sheet, and give examples of each category.
Current: Cash, Accounts Receivable, Office Supplies. Plant Assets: Equipment, Land, Buildings.
8. Identify two liability categories on the classified balance sheet, and give examples of each category.
9. What does liquidity mean?
10. How could a worksheet help in preparing financial statements?
The worksheet contains columns for the income statement and the balance sheet and calculates net
income.
11. If a business had a net loss for the year, where would the net loss be reported on the worksheet?
12. What is the closing process?
Closing the books (often referred to as the closing process) consists of journalizing and posting the
13. What are temporary accounts? Are temporary accounts closed in the closing process?
14. What are permanent accounts? Are permanent accounts closed in the closing process?
The permanent accounts (also known as real accounts)—the assets, liabilities, common stock and
forward into the next time period. All accounts on the balance sheet are permanent accounts.
15. How is the Income Summary account used? Is it a temporary or permanent account?
The Income Summary account summarizes the net income (or net loss) for the period by collecting
16. What are the steps in the closing process?
Step 1: Make the revenue accounts equal zero via the Income Summary account. This closing entry
17. If a business had a net loss for the year, what would be the closing entry to close Income Summary
and transfer the net loss to the Retained Earnings account?
18. What types of accounts are listed on the post-closing trial balance?
19. List the steps of the accounting cycle.
The steps of the accounting cycle are:
Step 1. Start with beginning account balances.
Step 2. Analyze and journalize transactions as they occur.
20. What is the current ratio, and how is it calculated?
The current ratio measures a company’s ability to pay its current liabilities with its current assets.
This ratio is computed as follows: Current ratio = Total current assets / Total current liabilities.
21A. What are reversing entries? Are they required by GAAP?
Reversing entries are special journal entries that ease the burden of accounting for transactions in
Short Exercises
S4-1 Preparing an income statement
Learning Objective 1
Daylen Hair Stylists’s adjusted trial balance follows. Prepare Daylen’s income statement for the year
ended December 31, 2017.
SOLUTION
DAYLEN HAIR STYLISTS
Income Statement
Year Ended December 31, 2017
S4-2 Preparing a statement of retained earnings
Learning Objective 1
Refer to the data in Short Exercise S4-1. Prepare Daylen’s statement of retained earnings for the year
ended December 31, 2017.
SOLUTION
DAYLEN HAIR STYLISTS
Statement of Retained Earnings
Year Ended December 31, 2017
S4-3 Preparing a balance sheet (unclassified, account form)
Learning Objective 1
Refer to the data in Short Exercise S4-1. Prepare Daylen’s unclassified balance sheet at December 31, 2017. Use the account form.
SOLUTION
DAYLEN HAIR STYLISTS
Balance Sheet
December 31, 2017
S4-4 Preparing a balance sheet (classified, report form)
Learning Objective 1
Refer to the data in Short Exercise S4-1. Prepare Daylen’s classified balance sheet at December 31,
2017. Assume the Notes Payable is due on December 1, 2020. Use the report form.
SOLUTION
DAYLEN HAIR STYLISTS
Balance Sheet
S4-5 Classifying balance sheet accounts
Learning Objective 1
For each account listed, identify the category in which it would appear on a classified balance sheet.
SOLUTION
a. current assets
b. current liabilities
S4-6 Using the worksheet to prepare financial statements
Learning Objective 2
Answer the following questions:
Requirements
1. What type of normal balance does the Retained Earnings account have—debit or credit?
2. Which type of income statement account has the same type of balance as the Retained Earnings
account?
3. Which type of income statement account has the opposite type of balance as the Retained Earnings
account?
4. What do we call the difference between total debits and total credits on the income statement section
of the worksheet?
SOLUTION
1. Credit
S4-7 Determining net income using a worksheet
Learning Objective 2
A partial worksheet for Ramson Law Firm is presented below. Solve for the missing information.
SOLUTION
a. $15,100 ($23,475 – $8,375)
S4-8 Determining net loss using a worksheet
Learning Objective 2
A partial worksheet for Akerman Adjusters is presented below. Solve for the missing information.
SOLUTION
a. $17,500 ($22,300 – $4,800)
S4-9 Journalizing closing entries
Learning Objective 3
Brett Tamas Enterprises had the following accounts and normal balances listed on its adjusted trial
balance: Service Revenue, $21,800; Salaries Expense, $7,200; Rent Expense, $4,400; Advertising
Expense, $2,600; Dividends, $6,000.
Journalize the closing entries for Tamas Enterprises.
SOLUTION
Date
Accounts and Explanation
Debit
Credit
Dec. 31
Service Revenue
21,800
Income Summary
21,800
To close revenue.
Income Summary
14,200
Salaries Expense
7,200
Rent Expense
4,400
Advertising Expense
2,600
To close expenses.
Income Summary
Retained Earnings
7,600
To close Income Summary.
Retained Earnings
Dividends
6,000
To close dividends.
S4-10 Posting closing entries directly to T-accounts
Learning Objective 3
The following balances appear on the books of Brian Kaufman Enterprises: Retained Earnings, $30,000;
Dividends, $5,400; Service Revenue, $20,200; Salaries Expense, $6,800; Rent Expense, $3,000;
Advertising Expense, $3,200. All accounts have normal balances.
Requirements
1. Open a T-account for each account, and insert its adjusted balance as given (denote as Adj. Bal.) at
December 31.
2. Post the closing entries to the accounts, denoting posted amounts as Clos.
3. Compute the ending balance of Retained Earnings.
SOLUTION
Requirements 1 and 2
Retained Earnings
Dividends
Service Revenue
30,000
Bal.
Bal.
5,400
20,200
Bal.
Clos.
5,400
7,200
Clos.
5,400
Clos.
Clos. 20,200
31,800
Bal.
Bal.
0
0
Bal.
Bal.
Bal.
Bal.
6,800
Clos.
3,000
Clos.
3,200
Bal.
Bal.
Bal.
0
Income Summary
Clos.
13,000
20,200
Clos.
7,200
7,200
Bal.
0
Bal.
Requirement 3
Ending balance of Retained Earnings: $31,800
S4-11 Identifying accounts included on a post-closing trial balance
Learning Objective 4
For each account listed, identify whether the account would be included on a post-closing trial balance.
Signify either Yes (Y) or No (N).
SOLUTION
a. Y
S4-12 Identifying steps in the accounting cycle
Learning Objective 5
Review the steps in the accounting cycle, and answer the following questions:
1. What is the first step?
2. Are any steps optional?
3. Which steps are completed throughout the period?
4. Which steps are completed only at the end of the period?
5. What is the last step in the accounting cycle?
SOLUTION
1. Start with beginning account balances.
S4-13 Calculating the current ratio
Learning Objective 6
Heart of Tennessee Telecom has these account balances at December 31, 2016:
Requirements
1. Calculate Heart of Tennessee Telecom’s current ratio.
2. How much in current assets does Heart of Tennessee Telecom have for every dollar of current
liabilities that it owes?
SOLUTION
Requirement 1
Current ratio = Total current assets / Total current liabilities
S4A-14 Journalizing reversing entries
Learning Objective 7
Appendix 4A
Lake View Associates accrued $7,000 of Service Revenue at December 31. Lake View Associates
received $13,500 on January 15, including the accrued revenue recorded on December 31.
Requirements
1. Record the adjusting entry to accrue Service Revenue.
2. Record the reversing entry.
3. Journalize the cash receipt.
SOLUTION
Requirement 1
Exercises
E4-15 Preparing the financial statements
Learning Objective 1
2. Ending Retained Earnings $6,300
The adjusted trial balance for Burlington Advertising Services is presented below:
Requirements
1. Prepare the income statement for the year ending December 31, 2016.
2. Prepare the statement of retained earnings for the year ending December 31, 2016.
3. Prepare the classified balance sheet as of December 31, 2016. Use the report form.
SOLUTION
Requirement 1
BURLINGTON ADVERTISING SERVICES
Income Statement
Year Ended December 31, 2016
BURLINGTON ADVERTISING SERVICES
Year Ended December 31, 2016
E4-15, cont.
Requirement 3
BURLINGTON ADVERTISING SERVICES
Balance Sheet
December 31, 2016
Assets
Current Assets:
Cash
$ 14,100
Office Supplies
Total Current Assets
Plant Assets:
Furniture
Less: Accumulated Depreciation—Furniture
Building
Less: Accumulated Depreciation—Building
Land
Total Plant Assets
Total Assets
Current Liabilities:
Accounts Payable
$ 10,200
Salaries Payable
Unearned Revenue
Total Current Liabilities
Common Stock
Retained Earnings
Total Liabilities and Stockholders’ Equity
E4-16 Classifying balance sheet accounts
Learning Objective 1
For each account listed, identify the category that it would appear on a classified balance sheet. Use the
following categories: Current Assets, Long-term Investments, Plant Assets, Intangible Assets, Current
Liabilities, Long-term Liabilities, and Stockholders’ Equity. If the item does not belong on the classified
balance sheet, put an X.
SOLUTION
a. Plant Assets i. Long-Term Liabilities
E4-17 Preparing a classified balance sheet and calculating the current ratio
Learning Objectives 1, 6
1. Total Assets $67,000
The adjusted trial balance of Penny O’Hara Dance Studio Company follows:
Requirements
1. Prepare the classified balance sheet of Penny O’Hara Dance Studio Company at August 31, 2016.
Use the report form. You must compute the ending balance of Retained Earnings.
2. Compute O’Hara’s current ratio at August 31, 2016. One year ago, the current ratio was 1.57.
Indicate whether O’Hara’s ability to pay current debts has improved, deteriorated, or remained the
same.
SOLUTION
Requirement 1
PENNY O’HARA DANCE STUDIO COMPANY
Balance Sheet
August 31, 2016
Assets
Current Assets:
Cash
$ 14,400
Office Supplies
2,600
Prepaid Rent
1,400
Total Current Assets
Plant Assets:
Equipment
54,000
Less: Accumulated Depreciation—Equipment
Total Plant Assets
Total Assets
Current Liabilities:
Accounts Payable
$ 4,100
Salaries Payable
Unearned Revenue
4,900
Total Current Liabilities
Long-term Liabilities:
Notes Payable (long-term)
4,900
Total Liabilities
Common Stock
20,000
Retained Earnings
32,300
Total Liabilities and Stockholders’ Equity
E4-17, cont.
Requirement 2
E4-18 Preparing a worksheet
Learning Objective 2
The unadjusted trial balance of Voice Link at November 30, 2016, follows:
Additional information at November 30, 2016:
a. Accrued service revenue, $600.
b. Depreciation, $300.
c. Accrued salaries expense, $600.
d. Prepaid rent expired, $900.
e. Office Supplies used, $500.
Requirements
1. Complete Voice Link’s worksheet for the month ended November 30, 2016.
2. How much was net income for November?