ACCT 2000 Exam #2 Prep

What is the periodicity assumption, and why is it "artificial"?

It chops continuous business life into time periods. Artificial because business doesn't actually stop.

Under the revenue recognition principle, WHEN is revenue recorded — and what two things does it NOT depend on?

Recorded when work/performance is satisfied. Does NOT depend on invoice date or cash receipt.

Under the expense recognition principle, how is an expense matched to a period?

Matched to the period of the revenue it helped generate, not when cash is paid.

Why does GAAP prohibit cash-basis accounting? Use the idea of "distortion" in your answer.

Tying performance to cash timing distorts results, making profitable periods look like losses.

In the Fresh Colors example, why did cash-basis show a LOSS in 2019 even though the company did $80,000 of profitable work that year?

Cash was received in 2020, so 2019 showed $50,000 cash expenses and zero revenue.

What TWO accounts does every single adjusting entry affect, without exception?

Exactly one income statement account and exactly one balance sheet account.

What are the two big CATEGORIES of adjusting entries, and what's the core difference between them?

Deferrals (cash moved first, existing account modified) and Accruals (work occurred first, new entry created).

Quick-test rule: in a DEFERRAL adjusting entry, which direction do the two accounts move?

One account goes down (asset/liability) and one account goes up (expense/revenue).

Quick-test rule: in an ACCRUAL adjusting entry, which direction do the two accounts move?

BOTH sides always go up (asset/liability increases, revenue/expense increases).

Define "Prepaid Expense" and explain WHY it's recorded as an asset instead of an expense at the moment of payment.

Cash paid for unconsumed future benefits. Recorded as asset until benefit is actually used.

What is the adjusting entry pattern (which account down, which up) for a Prepaid Expense?

Asset decreases, Expense increases. Cash is not touched.

Define "Unearned Revenue" and explain WHY it's a liability instead of revenue at the moment cash is received.

Cash received before service delivery. Liability because company owes future performance or refund.

What is the adjusting entry pattern (which account down, which up) for Unearned Revenue?

Liability decreases, Revenue increases. Cash is not touched.

A company pays $12,000 on May 1 for a one-year service contract, recorded as a Prepaid asset. Walk through the 3-step process to find the Sept 30 balance.

$1,000/mo × 5 months = $5,000 expense. $12,000 - $5,000 = $7,000 asset remaining balance.

Why is "May to September" 5 months elapsed and not 4? What's the common counting mistake here?

May counts as month one. The mistake is subtracting 9-5 instead of counting May-Sept.

How is the Supplies Expense adjustment calculated, and why is its formula different from Prepaid Insurance's?

(Beginning + Purchases) - Ending Count = Expense. Based on physical consumption, not elapsed time.

A store starts with $900 supplies, buys $400 more, and counts $250 left at month-end. What's the Supplies Expense, and which accounts move which direction?

Expense is $1,050 ($1,300 available - $250 left). Supplies goes down $1,050, Expense goes up $1,050.

Why is depreciation called an "allocation concept" and NOT a "valuation concept"? What's the practical difference?

It spreads asset cost over life; it does not estimate current market or resale value.

Why does depreciation use a separate "Accumulated Depreciation" account instead of reducing the Equipment account directly?

It preserves original cost on Equipment while tracking total allocated depreciation in a contra asset.

What is "book value" (carrying value), and how is it different from the Accumulated Depreciation balance itself?

Book value = Cost minus Accumulated Depreciation. It is remaining unallocated cost, not total depreciation.

A company buys equipment for $48,000, 8-year life, no salvage value. Walk through finding BOTH the Accumulated Depreciation and the Book Value after 6 months.

$500/mo × 6 = $3,000 Accumulated Depreciation. Book Value = $48,000 - $3,000 = $45,000.

Define "Accrued Revenue" and explain what's DIFFERENT about it compared to a deferral, in terms of what's already on the books.

Revenue earned but not billed/collected. Unlike deferrals, zero prior entries exist on the books.

What is the adjusting entry pattern for Accrued Revenue, and which specific asset account is typically used?

Accounts Receivable (asset) increases; Revenue increases.

Why is money owed TO a company always an asset, never a liability?

It represents future cash inflow belonging to the company, whereas liabilities are company obligations.

Define "Accrued Expense" and give two classic examples from this chapter.

Expense incurred but not yet paid in cash. Examples: Interest expense and Salaries expense.

What is the adjusting entry pattern for Accrued Expenses?

Liability (Payable) increases; Expense increases.

What is the exact formula for calculating accrued interest, and what does the "time" fraction represent?

Face Value × Annual Rate × (Months / 12). Fraction represents elapsed fraction of a year.

A company signs a $20,000 note at 9% annual interest on July 1. How much Interest Expense has accrued by October 31, and how many months count?

4 months elapsed (July-Oct). $20,000 × 9% × (4/12) = $600 Interest Expense.

Why can't Salaries accruals use a simple monthly rate the way Prepaid Insurance does?

Pay periods rarely align with month-end, requiring specific unpaid workday counts.

Employees earn $450/day (5-day week). Last payday was a Friday. Statements are prepared the following Thursday. How many unpaid workdays, and what's the Salaries Payable amount?

4 unpaid days (Mon-Thu). $450 × 4 = $1,800 Salaries Payable and Expense.

If a company completely SKIPS a Prepaid Expense adjusting entry it should have made, what happens to Assets, Expenses, and Net Income (overstated or understated each)?

Assets overstated; Expenses understated; Net Income overstated.

If a company completely SKIPS an Accrued Expense adjusting entry it should have made, what happens to Liabilities, Expenses, and Net Income?

Liabilities understated; Expenses understated; Net Income overstated.

General rule: how do you determine whether a skipped adjustment causes an account to be overstated or understated?

If missing entry was supposed to decrease account, it's overstated; if to increase, understated.

A magazine publisher receives $960 on Nov 1 for a 12-month subscription. By Jan 31, how much revenue is recognized, and what's the reasoning for classifying this as a deferral?

$80/mo × 3 months = $240 revenue. Deferral because cash was received before magazine delivery.

A freelancer performs $1,500 of work in the last days of the accounting period but hasn't invoiced yet. Why is this an ACCRUAL and not a deferral, and what's the entry?

Accrual because no prior entry/cash occurred. Entry: Accounts Receivable +$1,500, Service Revenue +$1,500.

Memory hook: what's the simplest one-line way to distinguish a deferral from an accrual?

Deferral = cash moved first, work later. Accrual = work happened first, cash later.

What are the two "control features" gained by using a bank, and why does each one matter?

(1) Minimizes cash on hand, reducing theft risk. (2) Creates a double record of transactions to catch errors.

Why does having a bank create a "double record," and why does that matter for internal control?

The bank keeps independent records of deposits and payments, allowing discrepancies in company books to be caught.

What does it mean when a check is called "canceled," and why is this NOT a bad thing?

It means the bank paid the check successfully. It is not voided or an error.

Why is a bank account a LIABILITY to the bank but an ASSET to the company?

The bank owes the money to the customer (liability); the customer owns and accesses it (asset).

When your company writes and the bank pays a check, does the bank's liability to your company go up or down, and why?

Down. Money leaves the account, so the bank owes you less than before.

When your company makes a deposit, does the bank's liability to your company go up or down, and why?

Up. Money enters the account, so the bank owes you more than before.

What is an NSF check, and what does NSF stand for?

"Not Sufficient Funds." A check that bounced because the account lacked money to cover it.

A customer's $200 check to your company turns out to be NSF. What happens to YOUR company's book balance, and why?

It goes DOWN by $200 because uncollectible funds must be reversed out of the books.

What are the TWO underlying causes of the need for a bank reconciliation?

(1) Time lags in processing transactions. (2) Errors made by the bank or company.

Why do outstanding checks and deposits in transit exist at all?

Processing takes time, creating a temporary gap between when each party records the transaction.

What is the general RULE for deciding whether a reconciling item adjusts the bank balance or the book balance?

Adjust the side that does NOT know about the transaction yet to catch it up.

Using the "who doesn't know yet" rule, explain why a deposit in transit adjusts the BANK balance (not the books).

The company already recorded it; the bank hasn't processed it yet, so the bank balance adjusts.

Using the "who doesn't know yet" rule, explain why a bank service charge adjusts the BOOK balance (not the bank).

The bank already deducted it; the company hasn't seen it yet, so the book balance adjusts.

Classify each and state the direction (+/-): Deposit in transit / Outstanding check / Bank service charge / Unrecorded EFT receipt from a customer

Deposit in transit: BANK (+). Outstanding check: BANK (-). Service charge: BOOK (-). Unrecorded EFT: BOOK (+).

A company correctly writes a check for $1,226, and the bank correctly pays $1,226 - but the company's own books mistakenly recorded it as $1,262. Whose error is this, and how is the book balance corrected?

Company error. The books subtracted $36 too much, so ADD $36 back to book balance.

General rule: if a company error caused the books to subtract too much, do you add the difference back or subtract it again to correct the balance?

Add it back, because subtracting too much left the balance understated.

What are the FIVE possible adjustments listed on the "Balance per Bank" side of a reconciliation, and their signs?

Deposits in transit (+), Outstanding checks (-), Bank errors (+/- depending on error).

What are the THREE possible categories of adjustments on the "Balance per Books" side of a reconciliation, and their signs?

Unrecorded receipts/EFT (+), Unrecorded payments like NSF/fees (-), Company errors (+/- depending on error).

What is the end goal of a bank reconciliation - what should the two final numbers equal?

Both adjusted balances must equal the same final number: the true, correct cash balance.

Laird Company: balance per bank is $15,907.45. Deposits in transit are $2,201.40 and outstanding checks total $5,904.00. What is the adjusted bank balance?

$15,907.45 + $2,201.40 - $5,904.00 = $12,204.85 adjusted bank balance.

Laird Company: balance per books is $11,709.45. Unrecorded EFT receipt $1,035.00, unrecorded payments $575.60, company error +$36.00. What is the adjusted book balance?

$11,709.45 + $1,035.00 - $575.60 + $36.00 = $12,204.85 adjusted book balance.

Why does it make sense that the adjusted bank balance and the adjusted book balance end up EQUAL?

Because once timing gaps and errors are corrected, both records reflect true cash reality.