Chapter 4- Adjustments, Financial Statements and the Closing Process

Financial Accounting

Revenue Recognition Principle

revenues are record when they are earned

Expense Recognition Principle

Expenses are record when they are incurred to generate revenue

Deferred (Unearned) Revenues

Liabilities created from collecting cash from customers before providing goods or services to customers; need to be adjusted at the end of the period to reflect the amount of revenue earned by providing goods or services over time to customers.

Accrued Revenues

Assets (receivables) created when revenues are earned, but cash will be collected from customers in the future; created at end of period during the adjustment process to reflect the amount of revenue earned by providing goods or services over time to customers who will pay in the future.

Deferred Expenses

Assets created when purchased in the past before being used to generate revenues; need to be adjusted at the end of the accounting period to reflect the amount of expense incurred by using the asset to generate revenue over time.

Contra- Account

An account that is an offset to, or reduction of, the primary account or financial statement section. An example is Treasury Stock.

Net Book Value

The acquisition cost of an asset less its accumulated depreciation, depletion (of natural resources), or amortization (of intangible assets).

Annual Rate Equation

PXRXT/12
P= principle

R= annual interest rate

T/12= Time (The number of months of 12)

Interest Formula

Interest=Principalx Annual Interest Ratex Time= Interest for the Period

Permanent Accounts

The balance sheet accounts that carry their ending balances into the next accounting period.

Temporary Accounts

Income statement (and sometimes dividends declared) accounts that are closed to Retained Earnings at the end of the accounting period.

Closing Entries

Made at the end of the accounting period to transfer balances in temporary accounts to Retained Earnings and to establish a zero balance in each of the temporary accounts for beginning the next accounting period.

Post-Closing Trial Balance

Prepared as an additional step in the accounting cycle to check that debits equal credits and all temporary accounts have been closed (have zero balances).

Total asset turnover

Prepared as an additional step in the accounting cycle to check that debits equal credits and all temporary accounts have been closed (have zero balances).

Total Asset Turnover Equation

Total Asset Turnover= Net Sales (or Operating Revenues)/Average of Total Assets