Chapter 3: Accrual Accounting and Income

Net Working Capital (include formula) - what does it represent? - what is the general rule for companies in regards to liquidity? - formula? - what does this formula mean?

- Computed dollar amount that represents operating liquidity - Generally, companies should have excess current assets over current liabilities (in order for the company to be considered "liquid") Total Current Assets - Total Current Liabilities = Net Working Capital - Net working capital means that after the company has paid off all of its current debts, it will have this amount in liquid current assets that can be easily converted into cash

Rule of Thumb for Debt Ratio -Good? -In Between? -Bad?

- Good: .4 or lower -In between: .6 to .7 -Bad: higher than.7

How do Transactions affect ratios?

- If the revenue increases and costs decreases then current assets, net income and retained earnings will increase - sell stock will increase cash and equity - Choose to borrow less money from lenders (less liabilities)

2 Problems with Cash Basis Accounting

- Incomplete Balance Sheet - if we do not record a sale on account, the balance sheet does not report any Account Receivables, which can lead to an understated amount of assets on the statement for the recorded period - Incomplete Income Statement - a sale on account provides revenue that increases the wealth off the company, so by ignoring this sale you're understating the revenue and net income of the company

What does the process of liquidation mean for businesses? -what is the thing that ongoing businesses can't wait for? -what must they do before?

- It means that its going out of business (Going-Out) - Ongoing companies can't wait until they go out of business, so that they may be able to measure their income. -prior to this, they must have regular progress reports, which is what the Time-Period Concept ensures (accounting info will be reported at regular intervals)

Adjusting entries

- Journal entries made to ensure that revenues and expenses are recognized in the proper accounting period. - Usually made at the end of the accounting period - Includes at least 1 income statement account and 1 balance sheet statement

Why do we adjust the accounts?

- Most exchange transactions are recorded at cash basis or through accounts receivables or accounts payable. -However, there are several other account balances on the trial balance that may not be on the basis of accrual accounting and there are certain transactions that may not have been recorded at all yet.

Therefore, every adjusting entry affects both of the following:

- Revenues or Expense - to measure income (income statement or statement of operations) - Asset or Liability - to update the balance sheet (statement of financial position)

Example of Unearned Revenue: A service-type business signs a contract to perform a service for a customer and the value of the service is $50,000. After signing this contract, they became obligated to complete the service by a certain date. -what does the transaction do? -when do they recognize the revenue earned? -what will satisfy the contractual obligation?

- The transaction creates an Accounts Payable from the company, since they owe a client a service one exchange for the money they paid for the unperformed service - The revenue will not be recognized until the company has performed the service (will be considered unearned revenue prior to the company fulfilling its obligations) - Performing the service will satisfy the contractual obligations and has completely finished performing its service

How do banks consider lending money to businesses?

- They must predict whether the borrower can repay them: - if the borrower has a lot of debt, the probability of repayment is low - if the borrower has little debt, the probability is high for repayment of a loan

Debt Ratio - what does it measure? - what proportion is shown here? - formula?

- measures a business's ability to pay both its current and long term debts (debt-paying ability) - shows the proportion of a company's assets that are financed with debt (accounts payable/nots payable) - a low debt ratio is safer than a high debt ratio Total Liability/ Total Assets = Debt Ratio

Current Assets (examples)

- most liquid assets - will be converted to cash, sold or consumed within the next 12 months (next year) or within the business's operating cycle if its longer than a year -examples: cash, short-term investments, accounts receivable and prepaid expenses

Current Ratio - calculates a company's debt paying ability -represents? - what does it measure? - Formula - what do companies prefer in this ratio? - what happens if you have a higher current ratio from period to period?

- represents operating liquidity - measures a company's ability to pay off its current liabilities with its current ratios Total Current Assets/Total Current Liabilities = Current Ratio - companies prefer a high current ratio (means that the business has plenty of current assets to pay its current liabilities) -if you have higher current ratio from period to period, this shows an improvement in company's liquidity

Accrual accounting records non cash transactions, such as (6):

- sales and purchases on account (AR and AP) - Purchases of inventory on account (AP) - accrual of expenses incurred, but not yet paid (SP, RP, etc.) - Depreciation expense - Using prepaid rent, insurance and supplies (prepaid assets converted to expenses as being used) - Earning revenue for cash collected in advance (unearned revenue - liability)

Long Term Assets (examples)

-All assets that are not classified as current -examples: Plant Assets (Property, Plant and Equipment, net), Land, Buildings, Furniture and Fixtures, Equipment, Long term investments, intangible assets, other assets (category for assets that are not categorized more precisely)

At the end of the period, the business reports its financial statements. What is the process for "adjusting the accounts"?

-Begins with an unadjusted trial balance because many of the accounts are not yet ready for the financial statements -Accounts must be brought up-to-date -must recognize certain revenues and expenses that have not yet been recognized

Example of Liabilities being adjusted by Deferral Adjustments

-Disney collects cash for park tickets several months in advance before earning the revenue, which means that the customers have yet to use the tickets before entering the park and buy the tickets in advance to their visitation - Collection of cash before its considered earned revenue is a liability (Unearned Revenue) because they owe a service/good to a customer -This is called Unearned (Deferred) Services Revenue -Once the customer has entered into the park and used the ticket they purchased, the earned revenue is recognized -In order to adjust the account once the earned revenue is recognized, this would require to decrease the liability in the Unearned Services Revenue Account and an increase in the company's Services Revenue account (equity)

Why must certain accounts be adjusted at the last couple of weeks in an accounting cycle?

-Must bring them up-to-date -Goal is to clearly + transparently reflect the company's financial position and operating results that follow the GAAP (Generally Accepted Accounting Principles) in the Unities States - You must also close their books for the year

In the above example, what is the ending balance of the Supplies in June? What is the beginning balance in July?

-The ending balance in June is $400 in the Supplies account. -The beginning balance in July is $400 in the Supplies account. -Cost of Supplies used = Supplies Expense -To measure supplies expense, the business will count the supplies on hand at the end of the month and deduct the amount that they used for that period, then allocate it to the expense account and deduct from the supplies account.

Accrual Adjustment

-The opposite of a deferral -cash occurs later (not in advance) -This is revenue the business has earned and will collect next year -at year end, the company must accrue the revenue by: Receivable: Debit (increase) Revenue: Credit (increase) -the above process is similar to how you would accrue Interest Revenue Interest Receivable: Debit (increase) Interest Revenue: Credit (increase)

Example of Accrual Accounting: If you sell inventory that costs you $500 and sell it for $800 on account and then 30 days later collect the $800 Receivable from the customer. -how many transactions were there? -which transaction increases wealth? -how much does making the sale increase your wealth by?

-There are two separate transactions: the sale of inventory exchanged for the account receivable and the later cash payment for the Account Receivable - Making the sale will increase your wealth; not the account receivable. This is because you were able to sell your inventory that cost you 500 for a receivable worth 800. -The Receivable or the transaction where you collect your cash later will not increase your wealth because you're swapping an $800 receivable for $800 cash. -Making the sale increases your wealth by $300 (800-500)

Data visualization -what is it? -what is its typical form? - difference between a graph and chart

-Visual summary of information; makes it easier to spot patterns or trends -Usually in the form of charts and graphs -Chart: shows more data than just the mathematical relationship -Graph: shows a mathematical relationship between two types of data

Income Tax Accrual (Income Tax Expense) (the final adjusting entry entered at the end of the period)

-follows the pattern for accrued expenses -corporations must pay income taxes (like taxpayers) - a business usually accrues (pays with cash later) the income tax expense and the related income tax payable as the final adjusting entry of the period

Example of Accrued Revenues: - Assume that on June 15th a hotel agrees to pay Alladin a commission of $600 for booking 100 clients into its hotel over the next 30 days. Alladin books 50 clients in June and 50 in July. Alladin will earn half a month's fee, $300, for work done June 15 through June 30.

1. Accounts Receivable: debit 300 Revenue: credit 300

How to Record Unearned Revenue (deferral adjustment)?

1. Cash: debit Unearned Revenue: credit 2. Unearned Revenue: debit Revene: credit

Example of Unearned Service Revenue: Assume Disney World pays Alladin Travel $400 monthly, beginning immediately, if it books up to eight clients into the resort within a 30-day period. If Alladin Travel collects the first amount on June 15th, then it records this transaction as follows: (1st journal entry) During the last 15 days of the month, Alladin Travel books four clients into Disneyworld Resort to earn 1/2 of the $400. Record the adjustment. -All revenues received in advance are accounted as a liability and then adjusted/transferred as Earned Service Revenue once the service is performed or the good has been delivered.

1. Cash: debit 400 Unearned Service Revenue: credit 400 2. Unearned Service Revenue: debit 200 Service Revenue: credit 200

How to Record Accrued Expenses (accrual adjustment)?

1. Expenses: debit Account Payable: credit 2. Account Payable: debit Cash: credit

Example of Income Tax Accrual: Alladin Travel, Inc. would make an additional adjusting entry to accrue income tax expense of $600 and the related income tax payable as the final adjusting entry of the period

1. Income Tax Expense: debit 600 Income Tax Payable: credit 600

How to Record Prepaid Expenses (deferral adjustment)?

1. Prepaid Expenses: debit Cash: credit 2. Expenses: debit Prepaid Expenses: credit

How to Record Accrued Revenue (accrual adjustment)?

1. Receivable: debit Revenue: credit 2. Cash: debit Receivable: credit

Steps to close the books (3)

1. Debit each revenue for the amount of its credit balance. Credit the Retained Earnings for the sum of all revenues. (increases RE) 2. Credit each expense account for the amount of its debit balance. Debit Retained Earnings for the sum of all expenses. (decreases RE) 3. Credit the Dividends account for the amount of its debit balance. Debit Retained Earnings for the same amount. (represents a permanent reduction of RE)

Accrual records cash transactions, such as (6):

1. collecting cash from customers 2. receiving cash from interest earned 3. paying salaries, rent and other expenses 4. borrowing money 5. paying off loans 6. issuing stock

Example of Earned Revenue: Person buys a ticket and inserts a credit card to purchase a 1 Day Park Pass -what does the transaction do? -when do they recognize the revenue earned? -what satisfies the contractual obligation?

1. Person buys a ticket and inserts a credit card to purchase a 1 Day Park Pass - Transaction forms a contract between both of the parties that are obligated to fulfill (company and customer) - Recognize the revenue earned once the ticket is used because it means the contractual obligation of the company has been satisfied since they provided the service for the customer that paid for the ticket, which entitles the company to collect the cash - Contractual obligation is satisfied when the customer receives and uses 1-day pass in exchange for the price of admission

Accrual Accounting

1. Records impact of transactions when they occur -when a business gets revenue or pays an expense, the accountant records the transaction even if the business does not receive cash or does not pay cash 2. Required by U.S GAAP 3. Records revenue when earned and expenses when incurred (not when cash changes hands)

What are the two routes that can happen to an expense?

1. Some expenses are paid in cash. 2. Expenses can arise from using up an asset or when a company creates a liability -Salary Liability

Rule of Thumb for Current Ratio (3) -strong current ratio? explain why -"not weak and not strong"? explain why -weak current ratio? explain why

1. Strong Current Ratio: 1.50 - means a company has a $1.50 in current assets for every $1 in current liabilities - company with this ratio will have little issue in paying off its current liabilities 2. "In Between": 1.20 - 1.50 (not weak and not strong) - slightly above breaking even 3. Weak: less than 1 -meaning that there are more current liabilties than current assets

Accounting Cycle (end of year)

1. Unadjusted Trial Balance 2. Adjust the accounts 3. Construct the financial statements 4. Close the books

Example: Accrued Salary Expense Suppose Alladin Travel, Inc. pays its employees a month salary of $1,800 half on the 15th and half on the last day of the month. Assume that if a payday falls on a Sunday, Alladin's pays the employee on the following Monday. -journal entry for the first half-month salary paid for The second half-month amount of $900 will be paid on Monday, July 1. On June 30, Alladin Travel makes the adjusting entry. - to accrue salary expense

1st month: Salary Expense: debit 900 Cash: credit 900 2nd month: Salary Expense: debit 900 Salary Payable: credit 900

Why is it safer to have a low debt ratio in comparison to a high debt ratio?

A company with few liabilities has low required debt and unlikely to have financial difficulty A company with a high debt ratio would have trouble paying off its liabilities, especially when its sales are low and cash (current asset) is scarce - most bankruptcies result from high debt

What type of account is an Accumulated Depreciation account? -what are the 2 distinct characteristics of the contra asset account?

A contra asset account -an asset account with a normal credit balance Contra accounts have 2 distinct characteristics: 1. has a companion account (asset account) 2. normal balance (credit) is opposite than that of its companion (debit)

Unearned Service Revenue

A liability created when a company receives of cash before earning the revenue - earned revenue is recognized once the job is completed

Accrued Expense -examples included

A liability that arises from an expense that has not yet been paid (not paid for in advance) -incur expenses before receiving cash - not recorded daily or weekly, but is recorded at the end of the period as an adjusting entry (in order to update each expense and related liability for the financial statements) -Salary expense: accrues as employees work before they are paid -Interest expense: from a note payable; interest accrues before the payment date

Although accrual accounting may be more complex, what does it provide?

A more faithful representation of company's financial position in comparison to the cash-basis method *this explains why all companies (excluding small businesses) use accrual accounting

What happens to the plant asset as it is being used? -what is the name of the principle that is being used?

A portion of the asset's cost is transferred to the Depreciation Expense Account - while the equipment is being used to generate revenue, the cost of the equipment should be allocated against that specific revenue -known as the Matching Principle

Deferrals - what accounts require deferral adjustments

An adjustment for payment of an item or receipt of cash in advance - Supplies, Prepaid Expenses and Liabilities require deferral adjustments

Why does there need to be regular progress reports?

Accountants need those regular progress reports, so that they may create financial statements for specific periods. -Time Period Concept ensures that accounting info is reported at regular intervals

When should you record revenue?

After it has been earned (not before) -In most cases, earned revenue is when businesses have delivered the goods or performed the services for a customer for an amount the business expects to receive in exchange for its goods/servcies

Long Term Liabilities (examples)

All liabilities that are not current -examples: notes payable that are longer than a year or operating cycle

Depreciation -what adjustment is this one identical to? How do they defer?

Allocates the cost of a plant asset to expense over the asset's useful life -most common long term deferral -Process of Depreciation is identical to Deferral; the only difference is the type of asset involved

What happens when you recognize an expense in the same period as related revenues?

Allows you to compute net income or net loss (Net Income (net loss) = Revenues - Expenses)

What amount of revenue to record? -example: A company runs a promotion on one of its products that usually sell for $20, but the discounted price is $15. How much revenue should the company record when a customer buys that product?

Amount of cash or its equivalent that is transferred, or will be transferred (account receivable), from the customer to the seller. -The amount of revenue is $15 because that was the cash earned in the sale; this is the current fair value of transaction

Where does the contra-account Accumulated Depreciation-(plant asset name) appear on the balance sheet?

Appears after the value of the plant asset is stated in the Assets section

Close the books

At the end of each month or accounting period, it is necessary to close the books in order to make an accurate measurement of revenue, expenses and dividends for that specific period before preceding to the next period.

What is the only way for a business to know how well it performed ("end goal")?

By shutting down the business, selling all of its assets, paying off all its liabilities and returning any leftover each to the owners --->AKA Liquidation

Line Chart

Can be used to visualize data over time -example: A specific corporation's current ratio trend in the course of 5 fiscal years -example: Several corporations current ratio trend in the course of 5 fiscal years

What does a business for each of its depreciable plant assets (except Land)?

Carries an accumulated depreciation account for each of its depreciable assets

Assets (in order of liquidity)

Cash Accounts Receivable Inventory (company must first sell these goods in order to receive cash) Equipment and buildings (these cash take even more time to sell and receive cash)

What do closing entries transfer?

Closing entries transfer temporary accounts (revenues, expenses and liabilities) balances to Retained Earnings, where they will remain permanently

Example of Deferral Adjustments

Companies use supplies for use of its operations, so some of the supplies (assets) are used up and become expenses. -at the end of the period, adjustment is needed to decrease the Supplies (asset) account and the same amount will then increase the Supplies Expense account

Assets and liabilities are classified as what? - what is the classification based on?

Current or Long Term - based on liquidity

Revenue Principle

Deals with two issues: 1. When to record ("recognize") revenue (a.k.a recording revenue has been earned) 2. What amount of revenue to record (record the cash or its equivalent that is (or will be ) transferred)

Current Liabilities (examples)

Debts that must be paid within one year or within the operating cycle if longer than a year -examples: Accounts Payable, Notes payable due within one year, Salary Payable, Unearned Revenue, Interest Payable and Income Tax Payable

Example of Depreciation

Disney buys buildings and equipment, so that they may use these plant assets. - while the assets are being used, Disney will record the depreciation based on the wear, tear and obsolescence of the asset. -Accounting Adjustment: Increase in Depreciation Expense Decrease in Asset's Book Value over its life

Time-Period Concept

Ensures that accounting information is reported at regular intervals -the basic accounting period is 1 year (around 60% of large companies use the regular accounting period (1 year) from January 1 to December 31) -fiscal year can end on any other date than December 31 -companies also prepare financial statements for interim periods (periods that are less than one year) -it could be a monthly period, quarter period (3 months) or semiannual period (6 months)

Expense Recognition Principle (includes Matching Principle) - which of the two steps is the matching principle?

Expenses: costs required to generate revenue - once you have received the benefit of a cost (used or consumed it), it is an expense Includes two steps: 1. Identify all expenses incurred during the period 2. Measure the expenses and recognize them in the SAME PERIOD in which any related revenues and expenses are earned -AKA "The Matching Principle"

Single Step Income Statement

Lists all the revenues together under "revenues" or "revenues and gains". Expenses are listed together in a single category called "expenses" or "expenses and losses". The only step is to subtract the sum of expenses and losses form the sum of revenues and gains in order to determine a company's income before income tax expense.

Why do we need to make an adjusting entry at the end of an interval period?

If the prepaid balance were to still be $3,000 (after two or three months have already passed), then the asset is overstated and will not include the deduction in prepaid expenses and will not consider the expense being incurred even though it has. We have already received 2/3 of its benefit as an asset, which would mean the original asset would be overstated. -this entry reduces the asset value to its remaining benefit

Some note payables are paid in installments. -explain the process -are all installments considered long term liability or are there exceptions?

Installments are paid in a series of installments, such as: 1. 1st installment is due within one year 2. 2nd installment is due the next year 3. the rest of the installments as follows - The 1st installment of the notes payable is considered a current liability because its due within the company's operating cycle - The rest of the installments are considered long term because they need to be paid in more than a year

Example of Depreciation on Plant Assets: Equipment: Suppose that on June 3, Alladin Travel purchased equipment on account for $24,000. If Alladin's equipment remains useful for 5 years, - calculate depreciation expense per year, as well as depreciation expense per month -show the journal entry for its monthly depreciation for the month of June

Journal Entry: Equipment: debit 24,000 Accounts Payable: credit 24,000 Depreciation expense per year: $4,800 Depreciation expense per month: $400 Depreciation Expense-Equipment: debit 400 Accumulated depreciation-Equipment: credit 400

Liquidity

Measure of how quickly an item can be converted to cash - how quickly an item can be converted into cash and be used to pay off any liabilities that are due within the next year or operating cycle - very important measure because even a profitable company can go out of business if it doesn't have enough cash on hand to pay bills

Is cash affected when adjusting entries?

No cash is affected. - When cash changes hands, this is a part of an exchange transaction

Do all companies conform to the same formats?

No, they do not all conform to the same format because many companies have operations that are to complex. It would be impossible for all companies to follow these exact terms because of this reason.

Accrual accounting is based on what concepts/principles?

Principles from Ch. 1: Entity Assumption, Historical Cost Principle, Stable Monetary Assumption and Continuity (Going-Concern Assumption) -Time-period Concept - Revenue Principle - Expense Recognition Principle

Prepaid Expense -what is the type of adjustment that it requires? -how will the unadjusted accounts look like? adjusted accounts?

Prepaid Expense: an expense paid in advance and is considered an asset because it will provide a future benefit to the owners. -This requires a deferral adjustment because its a cash receipt that was paid in advance Unadjusted: -Prepaid expenses: debit (increase) -Cash: credit (decrease) Adjusted: -Expenses: debit (increase) -Prepaid expenses: credit (decrease)

Closing the books

Prepares the accounts for the next period's transactions - this closing process is handled by computers, but requires a company's accounting department managers to oversee the process

Depreciation of Plants - what are plant assets? - what is the process of depreciation? - which plant asset is an exception to the rule?

Plant assets: long-lived tangible assets (land, buildings, furniture and equipment) -Depreciation is the process of allocating cost to expense for a long-term plant asset -to resemble the decline in usefulness of the plant asset --> expense of plant assets -Spread the cost of each plant asset over its useful life -The exception to plant assets is Land because it does not decline in usefulness

Why is there an accumulated depreciation account?

Purpose is to preserve the original cost of the plant asset account -this will show the sum of all depreciation expense from using the asset -balance of account is always increasing over the assets life

Example to Close the Books: Assume that Alladin Travel closes its books at the end of each month. After closing the books, the Retained Earnings account of Alladin Travel, Inc., appears as follows:

RE Beginning Balance: $18,800 credit + Revenues: $7,500 credit - Expenses: $4,600 debit - Dividends: $3,200 debit RE Ending Balance: $18,500

Temporary accounts -which accounts?

Related to a limited period of time -revenues, expenses and dividends -closing process is only applied to the temporary accounts

What are the two formats for Balance Sheets? - explain the difference - are both forms acceptable?

Report and Account -report: lists the assets at the top, then liabilities and finally stockholder's equity -account: lists assets on the left side, while liabilities and stockholders sweaty is on the right; same way a T Account formats accounts based on debit and credit -yes, both forms are acceptable

Multi Step Income Statement

Reports a number of subtotals to highlight important relationships between revenues and expenses - example: gross profit: shows the amount of "pure profit" that results from subtracting the costs of goods/services directly from the revenue generated by those goods and services -you can calculate the gross profit on services and gross profit of goods separately -includes "Other items of Income": a separate section for income from operations because this is income that the company did not earn from services or goods; such as interest income or other investment income

Accrued Revenue

Revenue that has been earned but not yet collected (cash is received later) -businesses often earn revenue before they receive the cash

What does the adjustments in the accounts above demonstrate?

Salary Expense has a full month's salary, 1/2 of it has been paid for and the Salary Payable shows the amount owed on June 30th.

Example of when a company incurs an expense based on the creation of a liability: Salary Expense

Salary Expense occurs when employees work for a company, but a company may not pay that expense right away. -So, the company records that expense as a liability that will be paid later. -Conclusion: company incurred an expense as a result of a liability -The purpose of recording this is because of the employees that are working for the company (not because of the actual payment)

Closing entries

Set temporary accounts back to zero - it sets the revenue, expenses and dividend balances back to zero at the end of the period

What are the two formats for Income Statements?

Single-step and Multi-step

Operating Cycle

Time span over which a company pays cash to produce goods and services, which then are sold to bring cash back into business -most businesses have an operating cycle of a few months

Adjusted Trial Balance

Summarizes all accounts and their final balances after all adjusting entries have been journalized and posted into the ledger

What is Revenue? -when does a company earn revenue?

The amount a company is entitled to receive for delivering goods or performing services for a customer. - Company earns revenue by giving something up

In order to record depreciation, what is needed to be placed in a journal entry? - how do you record this adjustment?

The amount that gets accumulate as depreciation will go into a contra-asset account called "accumulated depreciation-equipment" and a depreciation expense account

Book Value (AKA "carrying value")

cost of the plant asset minus accumulated depreciation - net amount of plant asset (actual cost - accumulated depreciation) -must report the net amount of its plant assets

Permanent Accounts -which accounts?

These accounts are not closed -assets, liabilities and Equity -they do not close these accounts because they get carried over into the next period -the ending balances of these accounts in one period become the beginning balances in the next period

Why are Bankers and Lenders interested in the due dates of a company's liabilities? -how does this correlate to the Balance Sheet?

They are interested in the due dates of a company's liabilities because the sooner a liability must be paid, the more pressure that liability creates. - explains why a balance sheet lists liabilities in the order in which they must be paid

In order to analyze a company's financial position, what must a decision maker do?

They must use data and ratios computed from various items in the financial statements.

Example of Prepaid Expenses (deferral adjustment): -Show journal entry for unadjusted accounts and adjusted accounts -this resembles the Expense Recognition Principle we record an expense when incurred in order to measure net income Suppose Aladdin's Travel Inc., prepays three months' store rent ($3,000) on June 1. Throughout June, Prepaid Rent carries the balance of $3,000. On June 30, an adjusting entry is required to transfer $1,000.

Unadjusted Account: -Prepaid Rent: debit 3,000 (increase) -Cash: credit 3,000 (decrease) Adjusted Account: -Rent Expense: debit 1,000 (increase) -Prepaid Rent: credit 1,000 (decrease)

Example of Supplies(deferral adjustment): On June 2, Alladin Travel paid cash of $700 for cleaning supplies. A count on June 30th indicates the $400 of supplies remain on end. -Show journal entry for unadjusted accounts and adjusted accounts -this resembles the Expense Recognition Principle we record an expense when incurred in order to measure net income

Unadjusted Account: -Supplies: debit $700 (increase) -Cash: credit 700 (decrease) Adjusted Account: -Supplies Expense: debit 300 (increase) -Prepaid Supplies: credit 300 (decrease)

What is the amount of liquidity that is considered to be "sufficient"?

Varies on the type of industry

How do we ensure that the results of our accounting are at accrual accounting?

We record Adjusting entries

Is order important in a Balance Sheet?

Yes - assets are organized by liquidity and are separated by Current Assets and Long Term Assets -liabilities are organized by due date needed to be paid and are separated by Current Liabilities and Long Term liabilities

Example of Cash Basis Accounting

Your business makes a sale on account, which means the cash basis method will not record that sale because you have not yet physically received cash

Categories of Adjusting Entries

deferrals, accruals, depreciation

Two purposes of the adjusting process are to:

measure income and update the balance sheet

Cash-Basis Accounting

records only cash transactions- cash receipts (revenue) and cash payments (expenses) -ignores important information (lacks relevant info) ---> leads to mistakes -Results in incomplete financial statements (not updated) -Does not follow GAAP because of the lack of important info -Only used by the smallest businesses

Financial statements can be prepared from what?

the Adjusted Trial Balance

Bar Chart (column chart)

used to display categorical data information in a relevant format -example: current ratios for a specific fiscal period between selected companies in the Hospitality industry