ACCT200 Lecture 4 Outline of Last Lecture II Accounting Information System III The Account IV Steps in the Recording Process V The Trial Balance Outline of Current Lecture VI Timing Issues VII The Basics of Adjusting Entries Current Lecture Chapter 4 Timing Issues Accounts divide the economic life of a business into artificial time periods periodicity assumption Generally a month a quarter or a year Fiscal year vs calendar year o Fiscal year is an accounting time period that is one year long The revenue recognition principle Companies recognize revenue in the accounting period when earned provided work done completed performed Timing Issues Example A customer booked a ticket with US Airways on January 13 and paid cash to US Airways on February 14 The flight took place on April 15 According to the revenue recognition principal in which month should US Airways recognize this revenue o April 15 Because it is received recognized when the work is done Illustration Assume Conrad Dry Cleaners cleans clothing on June 30 but customers do not claim and pay for their clothes until the first week of July The journal entries for June and July would be o June A R 100 A R These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best used as a supplement to your own notes not as a substitute o July Service Rev 100 Cash 100 A R 100 June 100 100 July 1 ace rule of acct Expense Recognition Principle Match expenses with revenues in the period when the company makes efforts to generate those revenues Let the expenses follow the revenues Accrual versus Cash Basis of Accounting Accrual Basis Accounting o Transactions recorded in the periods in which the events occur o Revenues are recognized when services performed not when cash is received o Expenses are recognized when incurred not when cash is paid Cash Basis Accounting o Revenues are recognized only when cash is received Rev cash o Expenses are recognized only when cash is paid Exp cash o Prohibited under generally accepted accounting principles GAAP The Basics of Adjusting Entries Adjusting entries Ensures that using following revenue recognition and expense recognition are required every time financial statements are prepared Includes one income statement account and one balance sheet account Never includes cash Types of Adjusting Entries Deferrals Prepaid expenses record the expense before it is used o Prepaid assets increases cash decreases adjustments use up the prepaid asset Unearned revenues get cash record as a liability to do the work later o Liability increases cash increases adjustment change in liability rev Trial Balance Each account is analyzed to determine whether it is complete and up to date Adjusting Entries for Deferrals Deferrals are either Prepaid expenses prepaid insurance Supplies rent OR unearned revenues Adjusting Entries for Prepaid Expenses Payment of cash that is recorded as an asset because service or benefit will be received in the future such as Prepaid insurance 12000 Cash 12000 Cash payment before expense recorded Prepayments often occur in regards to o Insurance o Supplies o Advertising o Rent o Equipment o Buildings Prepaid asset decrease in credit shows that it is used Expense increase in debit Depreciation Buildings equipment and motor vehicles long lived assets are recorded as assets rather than an expense in the year acquired Companies report a portion of the cost of a long lived asset as an expense depreciation during each period of the asset s useful life Depreciation does not attempt to report the actual change in the value of the asset o No change in fair market value FMV Statement Presentation Accumulated depreciation equipment is contra asset normal balance credit Appears just after the account it offsets equipment on the balance sheet Adjusting Entries for Unearned Revenues Receipt of cash recorded as a liability before services are performed such as Cash 5000 Unearned Service Revenue 5000 Cash receipt before revenue recorded Unearned revenues often occur in regards to Season tickets Airline tickets Gift cards Customer deposits Liability adjustment decrease in liability debit Revenue adjustment increase in revenue credit