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Unformatted text preview: wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 134 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: A Look Back A Look at This Chapter A Look Ahead Chapter 3 explained the timing of reports. We described why adjusting accounts is key for recognizing revenues and expenses in the proper period. We prepared an adjusted trial balance and used it to prepare financial statements. This chapter emphasizes the final steps in the accounting process and reviews the entire accounting cycle. We explain the closing process, including accounting procedures and the use of a post-closing trial balance. We show how a work sheet aids in preparing financial statements. Chapter 5 looks at accounting for merchandising activities. We describe the sale and purchase of merchandise and their implications for preparing and analyzing financial statements. 4 Completing the Accounting Cycle Chapter Learning Objectives CAP Conceptual Analytical Procedural why temporary accounts the C1 Explaineach period. (p. 140) are A1 Computewhat current ratio anda P1 Prepare a work sheet and explain its closed describe it reveals about usefulness. (p. 136) company’s financial condition. (p. 147) C2 Identify steps in the accounting P2 Describe(p.and prepare closing cycle. (p. 144) entries. 141) prepare C3 Explain(p.and prepare a classified balance P3 Explain and142) a post-closing trial sheet. 145) balance. (p. 4A P4 Appendixand —Prepare reversing entries explain their purpose. LP4 (p. 153) wiL79549_ch04_0134-0175 08/18/2008 10:38 am Page 135 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Decision Feature Walk in Her Shoes CHICAGO—As a teenager, Kathryn Kerrigan wore a “Stay true to your vision and your mission” —Kathryn Kerrigan Kathryn has successfully controlled materials costs while monitor- size 11 shoe and found shopping for shoes grueling. “I ing both revenues and customer needs. She uses the accounting sys- remember driving with my dad to every shopping mall tem and closing entries to help identify and match costs with rev- looking for shoes,” recalls Kathryn. “It’s embarrassing and it doesn’t enues for specific time periods. Kathryn says she relies on classified have to be.” Kathryn decided to do something about it. She wrote a balance sheets to know when to pay bills. But what pulls her through, business plan for a college project and executed that plan with her admits Kathryn, is knowing that “we’re putting out a product that’s dad’s encouragement. Her start-up company, Kathryn Kerrigan missing in the marketplace.” (KathrynKerrigan.com), now provides stylish women’s shoes through size 14. Success, however, requires Kathryn to monitor costs. “We had to Kathryn is on a mission. “What keeps me going,” explains Kathryn, “are all the women who keep coming up to me . . . asking for shoes that fit.” To make that happen, she tracks the accounting numbers to create the molds for every shoe size,” explains Kathryn. “These cost be sure it is a money-making venture. “It’s important for entrepre- about $2,000 each.” She set up an accounting system to track rev- neurs to be realistic,” insists Kathryn.Yet she adds, “A great pair of enues and control costs, but it is a constant struggle as her business shoes can make all the difference!” grows. Kathryn says that properly applying the accounting cycle, preparing classified financial statements, and acting on that information increase the odds of success. However, at times, admits Kathryn, “I had to find humility and ask for help.” [Sources: Kathryn Kerrigan Website, January 2009; Success Magazine, February 2008; Inc.com, July 2007; Beep, October 2007; Chicago Sun-Times, February 2008] wiL79549_ch04_0134-0175 08/18/2008 10:38 am Page 136 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter Preview Many of the important steps leading to financial statements were explained in earlier chapters. We described how transactions and events are analyzed, journalized, and posted. This chapter explains the closing process that readies revenue, expense, and withdrawal accounts for the next reporting period and updates the capital account. A work sheet is shown to be a useful tool for these final steps and in preparing financial statements. It also explains how accounts are classified on a balance sheet to increase their usefulness to decision makers. Completing the Accounting Cycle Work Sheet Closing Process • Benefits of a work • • Temporary and sheet Use of a work sheet • • permanent accounts Closing entries Post-closing trial balance Accounting Cycle • Definition of • accounting cycle Review of accounting cycle Classified Balance Sheet • Classification • structure Classification categories Work Sheet as a Tool Information preparers use various analyses and internal documents when organizing information for internal and external decision makers. Internal documents are often called working papers. One widely used working paper is the work sheet, which is a useful tool for preparers in working with accounting information. It is usually not available to external decision makers. Benefits of a Work Sheet P1 Prepare a work sheet and explain its usefulness. A work sheet is not a required report, yet using a manual or electronic work sheet has several potential benefits. Specifically, a work sheet Aids the preparation of financial statements. Reduces the possibility of errors when working with many accounts and adjustments. Links accounts and adjustments to their impacts in financial statements. Assists in planning and organizing an audit of financial statements—as it can be used to reflect any adjustments necessary. Helps in preparing interim (monthly and quarterly) financial statements when the journalizing and posting of adjusting entries are postponed until year-end. Shows the effects of proposed or “what-if” transactions. Decision Insight High-Tech Work Sheet An electronic work sheet using spreadsheet software such as Excel allows us to easily change numbers, assess the impact of alternative strategies, and quickly prepare financial statements at less cost. It can also increase the available time for analysis and interpretation. Use of a Work Sheet Point: Since a work sheet is not a required report or an accounting record, its format is flexible and can be modified by its user to fit his/her preferences. When a work sheet is used to prepare financial statements, it is constructed at the end of a period before the adjusting process. The complete work sheet includes a list of the accounts, their balances and adjustments, and their sorting into financial statement columns. It provides two columns each for the unadjusted trial balance, the adjustments, the adjusted trial balance, the income statement, and the balance sheet (including the statement of owner’s equity). To wiL79549_ch04_0134-0175 08/18/2008 11:43 am Page 141 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 141 Recording Closing Entries To record and post closing entries is to transfer the end-of-period balances in revenue, expense, and withdrawals accounts to the permanent capital account. Closing entries are necessary at the end of each period after financial statements are prepared because Revenue, expense, and withdrawals accounts must begin each period with zero balances. Owner’s capital must reflect prior periods’ revenues, expenses, and withdrawals. An income statement aims to report revenues and expenses for a specific accounting period. The statement of owner’s equity reports similar information, including withdrawals. Since revenue, expense, and withdrawals accounts must accumulate information separately for each period, they must start each period with zero balances. To close these accounts, we transfer their balances first to an account called Income Summary. Income Summary is a temporary account (only used for the closing process) that contains a credit for the sum of all revenues (and gains) and a debit for the sum of all expenses (and losses). Its balance equals net income or net loss and it is transferred to the capital account. Next the withdrawals account balance is transferred to the capital account. After these closing entries are posted, the revenue, expense, withdrawals, and Income Summary accounts have zero balances. These accounts are then said to be closed or cleared. Exhibit 4.3 uses the adjusted account balances of FastForward (from the Adjusted Trial Balance columns of Exhibit 4.1 or from the left side of Exhibit 4.4) to show the four steps necessary to close its temporary accounts. We explain each step. Four-Step Closing Process Expense Accounts Depreciation Expense—Equip. Balance 375 3 Close income summary account 1,610 Insurance Expense Balance 100 Four-Step Closing Process 2 Close expense accounts Salaries Expense Balance 1,610 EXHIBIT 4.3 1 Close revenue accounts 375 Point: To understand the closing process, focus on its outcomes — updating the capital account balance to its proper ending balance, and getting temporary accounts to show zero balances for purposes of accumulating data for the next period. 4 Close withdrawals account 100 Rent Expense Balance 1,000 Revenue Accounts 1,000 Consulting Revenue Supplies Expense Balance 1,050 1,050 7,850 Balance 7,850 Utilities Expense Balance 230 Rental Revenue Income Summary 230 2 4,365 8,150 3,785 Balance 3,785 1 300 Balance C. Taylor, Capital C. Taylor, Withdrawals Balance 200 4 300 3 Balance 30,000 200 3,785 Balance 33,585 200 Step 1: Close Credit Balances in Revenue Accounts to Income Summary The first closing entry transfers credit balances in revenue (and gain) accounts to the Income Summary account. We bring accounts with credit balances to zero by debiting them. For FastForward, this journal entry is step 1 in Exhibit 4.4. This entry closes revenue accounts and leaves them with zero balances. The accounts are now ready to record revenues when they occur in the next period. The $8,150 credit entry to Income Summary equals total revenues for the period. Step 2: Close Debit Balances in Expense Accounts to Income Summary The second closing entry transfers debit balances in expense (and loss) accounts to the Income Summary account. We bring expense accounts’ debit balances to zero by crediting them. With a balance of zero, these accounts are ready to accumulate a record of expenses for the next Point: C. Taylor, Capital is the only permanent account in Exhibit 4.3. P2 Describe and prepare closing entries. Point: It is possible to close revenue and expense accounts directly to owner’s capital. Computerized accounting systems do this. wiL79549_ch04_0134-0175 08/18/2008 11:24 am Page 142 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 142 FASTFORWARD Adjusted Trial Balance December 31, 2009 Debit Cash .................................................... $ 4,350 Accounts receivable ............................ 1,800 Supplies .............................................. 8,670 Prepaid insurance ................................ 2,300 Equipment ........................................... 26,000 Accumulated depreciation—Equip...... Accounts payable ................................ Salaries payable .................................. Unearned consulting revenue ............. C. Taylor, Capital ................................. 200 C. Taylor, Withdrawals ........................ Consulting revenue ............................. Rental revenue .................................... 375 Depreciation expense—Equip............. Salaries expense ................................. 1,610 100 Insurance expense .............................. Rent expense ...................................... 1,000 Supplies expense ................................ 1,050 Step 1: Dec. 31 Credit General Journal Consulting Revenue................................ 7,850 Rental Revenue....................................... 300 Income Summary............................... To close revenue accounts. 8,150 Step 2: Dec. 31 $ 375 6,200 210 2,750 30,000 7,850 300 230 Utilities expense .................................. Totals .................................................. $47,685 $47,685 Income Summary................................... 4,365 Depreciation Expense—Equipment.. Salaries Expense............................... Insurance Expense............................ Rent Expense.................................... Supplies Expense............................... Utilities Expense................................ To close expense accounts. 375 1,610 100 1,000 1,050 230 Income Summary................................... 3,785 C. Taylor, Capital............................... To close Income Summary account. 3,785 Step 3: Dec. 31 Step 4: Dec. 31 C. Taylor, Capital.................................... C. Taylor, Withdrawals....................... To close the withdrawals account. 200 200 EXHIBIT 4.4 Preparing Closing Entries period. This second closing entry for FastForward is step 2 in Exhibit 4.4. Exhibit 4.3 shows that posting this entry gives each expense account a zero balance. Step 3: Close Income Summary to Owner’s Capital After steps 1 and 2, the balance of Income Summary is equal to December’s net income of $3,785. The third closing entry transfers the balance of the Income Summary account to the capital account. This entry closes the Income Summary account–see step 3 in Exhibit 4.4. The Income Summary account has a zero balance after posting this entry. It continues to have a zero balance until the closing process again occurs at the end of the next period. (If a net loss occurred because expenses exceeded revenues, the third entry is reversed: debit Owner Capital and credit Income Summary.) Step 4: Close Withdrawals Account to Owner’s Capital The fourth closing entry transfers any debit balance in the withdrawals account to the owner’s capital account—see step 4 in Exhibit 4.4. This entry gives the withdrawals account a zero balance, and the account is now ready to accumulate next period’s withdrawals. This entry also reduces the capital account balance to the $33,585 amount reported on the balance sheet. We could also have selected the accounts and amounts needing to be closed by identifying individual revenue, expense, and withdrawals accounts in the ledger. This is illustrated in Exhibit 4.4 where we prepare closing entries using the adjusted trial balance.1 (Information for closing entries is also in the financial statement columns of a work sheet.) Post-Closing Trial Balance P3 Explain and prepare a post-closing trial balance. Exhibit 4.5 shows the entire ledger of FastForward as of December 31 after adjusting and closing entries are posted. (The transaction and adjusting entries are in Chapters 2 and 3.) The temporary accounts (revenues, expenses, and withdrawals) have ending balances equal to zero. 1 The closing process has focused on proprietorships. It is identical for partnerships with the exception that each owner has separate capital and withdrawals accounts (for steps 3 and 4). The closing process for a corporation is similar with the exception that it uses a Retained Earnings account instead of a Capital account, and a Dividend account instead of a Withdrawals account. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 143 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: EXHIBIT 4.5 General Ledger after the Closing Process for FastForward Asset Accounts Cash Date Acct. No. 101 Explan. PR Debit Credit Balance 2009 Dec. Accounts Receivable Date Acct. No. 106 Explan. PR Debit Credit Balance 2009 1 2 3 5 6 12 12 22 24 24 26 26 26 26 G1 30,000 30,000 G1 2,500 27,500 G1 26,000 1,500 G1 4,200 5,700 G1 2,400 3,300 G1 1,000 2,300 G1 700 1,600 G1 1,900 3,500 G1 900 2,600 G1 200 2,400 G1 3,000 5,400 G1 120 5,280 G1 230 5,050 G1 700 4,350 Date Explan. PR Debit Credit Balance 2009 Dec. 12 22 31 G1 1,900 G1 G1 1,800 Adj. Supplies Date 1,900 0 1,800 Dec. Acct. No. 126 Date 1,900 Explan. PR Debit Credit Balance 6 31 2 6 26 31 G1 2,500 G1 7,100 G1 120 G1 Adj. 2,500 9,600 9,720 1,050 8,670 Adj. G1 G1 2,400 100 Equipment 2,400 2,300 Acct. No. 167 Explan. PR Debit Credit Balance 2009 Dec. 2009 Dec. Prepaid Insurance Acct. No. 128 3 G1 26,000 26,000 Accumulated Depreciation— Equipment Acct. No. 168 Date Explan. PR Debit Credit Balance 2009 Dec. 31 Adj. G1 375 375 Liability and Equity Accounts Accounts Payable Acct. No. 201 Date Explan. PR Debit Credit Balance Date 2009 Dec. Unearned Consulting Revenue Acct. No. 236 6 24 900 7,100 6,200 Salaries Payable Date G1 G1 7,100 Acct. No. 209 Explan. PR Debit Credit Balance 2009 Dec. 26 31 C. Taylor, Capital Date Adj. 3,000 250 Explan. PR Debit Credit Balance 2009 Dec. G1 G1 3,000 2,750 1 G1 31 Closing G1 31 Closing G1 Date 2009 Adj G1 210 30,000 30,000 3,785 33,785 200 33,585 C. Taylor, Withdrawals Explan. PR Debit Credit Balance Dec. 31 210 Acct. No. 301 Acct. No. 302 Explan. PR Debit Credit Balance 2009 Dec. 24 G1 31 Closing G1 200 200 200 0 Revenue and Expense Accounts (Including Income Summary) Consulting Revenue Acct. No. 403 Date Explan. PR Debit Credit Balance 2009 Dec. G1 G1 G1 G1 G1 7,850 Rental Revenue 4,200 1,600 250 1,800 4,200 5,800 6,050 7,850 0 Acct. No. 406 Explan. PR Debit Credit Balance 2009 Dec. 12 G1 31 Closing G1 300 300 300 0 Depreciation Expense— Equipment Acct. No. 612 Date Explan. PR Debit Credit Balance 2009 5 12 31 Adj. 31 Adj. 31 Closing Date Salaries Expense Acct. No. 622 Date Explan. PR Debit Credit Balance 2009 Dec. 31 Adj. G1 31 Closing G1 375 375 375 0 G1 G1 G1 G1 700 700 210 1,610 Insurance Expense 700 1,400 1,610 0 Acct. No. 637 Explan. PR Debit Credit Balance 2009 Dec. 31 Adj. G1 31 Closing G1 100 Rent Expense Date Acct. No. 652 Explan. PR Debit Credit Balance 2009 Dec. 12 26 31 Adj. 31 Closing Date Supplies Expense Date 100 100 0 Acct. No. 640 Explan. PR Debit Credit Balance 2009 Dec. 12 G1 1,000 31 Closing G1 1,000 1,000 0 Dec. 31 Adj. G1 31 Closing G1 1,050 1,050 1,050 0 Utilities Expense Acct. No. 690 Date Explan. PR Debit Credit Balance 2009 Dec. 26 G1 31 Closing G1 230 Income Summary Date 230 230 0 Acct. No. 901 Explan. PR Debit Credit Balance 2009 Dec. 31 Closing G1 8,150 31 Closing G1 4,365 31 Closing G1 3,785 8,150 3,785 0 wiL79549_ch04_0134-0175 07/28/2008 5:12 pm Page 144 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 144 A post-closing trial balance is a list of permanent accounts and their balances from the ledger after all closing entries have been journalized and posted. It lists the balances for all accounts not closed. These accounts comprise a company’s assets, liabilities, and equity, which are identical to those in the balance sheet. The aim of a post-closing trial balance is to verify that (1) total debits equal total credits for permanent accounts and (2) all temporary accounts have zero balances. FastForward’s post-closing trial balance is shown in Exhibit 4.6. The postclosing trial balance usually is the last step in the accounting process. EXHIBIT 4.6 FASTFORWARD Post-Closing Trial Balance December 31, 2009 Post-Closing Trial Balance Debit Cash . . . . . . . . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . . . . . . . . Supplies . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Accounts payable . . . . . . . . . . . . . . . Salaries payable . . . . . . . . . . . . . . . . . Unearned consulting revenue . . . . . . . C. Taylor, Capital . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $ 4,350 1,800 8,670 2,300 26,000 $ $43,120 375 6,200 210 2,750 33,585 $43,120 Accounting Cycle C2 Identify steps in the accounting cycle. The term accounting cycle refers to the steps in preparing financial statements. It is called a cycle because the steps are repeated each reporting period. Exhibit 4.7 shows the 10 steps in the cycle, beginning with analyzing transactions and ending with a post-closing trial balance EXHIBIT 4.7 Steps in the Accounting Cycle* 1. Analyze transactions 2. Journalize 3. Post Video4.1 Explanations 1. Analyze transactions 2. Journalize 3. Post 4. Prepare unadjusted trial balance 5. Adjust 6. Prepare adjusted trial balance 7. Prepare statements 8. Close 9. Prepare post-closing trial balance 10. Reverse (optional) 10. Reverse (optional) 9. Prepare postclosing trial balance 7. Prepare statements Accounting Cycle 4. Prepare unadjusted trial balance 8. Close 5. Adjust 6. Prepare adjusted trial balance Analyze transactions to prepare for journalizing. Record accounts, including debits and credits, in a journal. Transfer debits and credits from the journal to the ledger. Summarize unadjusted ledger accounts and amounts. Record adjustments to bring account balances up to date; journalize and post adjustments. Summarize adjusted ledger accounts and amounts. Use adjusted trial balance to prepare financial statements. Journalize and post entries to close temporary accounts. Test clerical accuracy of the closing procedures. Reverse certain adjustments in the next period—optional step; see Appendix 4A. * Steps 4, 6, and 9 can be done on a work sheet. A work sheet is useful in planning adjustments, but adjustments (step 5) must always be journalized and posted. Steps 3, 4, 6, and 9 are automatic with a computerized system. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 145 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 145 or reversing entries. Steps 1 through 3 usually occur regularly as a company enters into transactions. Steps 4 through 9 are done at the end of a period. Reversing entries in step 10 are optional and are explained in Appendix 4A. Quick Check Answers—p. 154 4. What are the major steps in preparing closing entries? 5. Why are revenue and expense accounts called temporary? Identify and list the types of temporary accounts. 6. What accounts are listed on the post-closing trial balance? Classified Balance Sheet Our discussion to this point has been limited to unclassified financial statements. This section describes a classified balance sheet. The next chapter describes a classified income statement. An unclassified balance sheet is one whose items are broadly grouped into assets, liabilities, and equity. One example is FastForward’s balance sheet in Exhibit 4.2. A classified balance sheet organizes assets and liabilities into important subgroups that provide more information to decision makers. C3 Explain and prepare a classified balance sheet. Classification Structure A classified balance sheet has no required layout, but it usually contains the categories in Exhibit 4.8. One of the more important classifications is the separation between current and noncurrent items for both assets and liabilities. Current items are those expected to come due (either collected or owed) within one year or the company’s operating cycle, whichever is longer. The operating cycle is the time span from when cash is used to acquire goods and services until cash is received from the sale of goods and services. “Operating” refers to company operations and “cycle” refers to the circular flow of cash used for company inputs and then cash received from its outputs. The length of a company’s operating cycle depends on its activities. For a service company, the operating cycle is the time span between (1) paying employees who perform the services and (2) receiving cash from customers. For a merchandiser selling products, the operating cycle is the time span between (1) paying suppliers for merchandise and (2) receiving cash from customers. Assets Liabilities and Equity Current assets Noncurrent assets Long-term investments Plant assets Intangible assets Current liabilities Noncurrent liabilities Equity Most operating cycles are less than one year. This means most companies use a one-year period in deciding which assets and liabilities are current. A few companies have an operating cycle longer than one year. For instance, producers of certain beverages (wine) and products (ginseng) that require aging for several years have operating cycles longer than one year. A balance sheet lists current assets before noncurrent assets and current liabilities before noncurrent liabilities. This consistency in presentation allows users to quickly identify current assets that are most easily converted to cash and current liabilities that are shortly coming due. Items in current assets and current liabilities are listed in the order of how quickly they will be converted to, or paid in, cash. Classification Categories This section describes the most common categories in a classified balance sheet. The balance sheet for Snowboarding Components in Exhibit 4.9 shows the typical categories. Its assets are Video4.1 EXHIBIT 4.8 Typical Categories in a Classified Balance Sheet wiL79549_ch04_0134-0175 07/28/2008 5:13 pm Page 146 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 146 EXHIBIT 4.9 Example of a Classified Balance Sheet Chapter 4 Completing the Accounting Cycle SNOWBOARDING COMPONENTS Balance Sheet January 31, 2009 Assets Current assets Cash . . . . . . . . . . . . . . . . . . . . Short-term investments . . . . . . Accounts receivable, net . . . . . Merchandise inventory . . . . . . . Prepaid expenses . . . . . . . . . . . Total current assets . . . . . . . . . Long-term investments Notes receivable . . . . . . . . . . . Investments in stocks and bonds Land held for future expansion . Total long-term investments . . . Plant assets Equipment and buildings . . . . . . Less accumulated depreciation . Land . . . . . . . . . . . . . . . . . . . . Total plant assets . . . . . . . . . . . Intangible assets . . . . . . . . . . . Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 6,500 2,100 4,400 27,500 2,400 .. . .. .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,500 18,000 48,000 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 203,200 53,000 .. .. .. .. .. .. .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 15,300 3,200 3,000 7,500 . . . . . . Liabilities Current liabilities Accounts payable . . . . . . . . . . . . . . . . . . . . . Wages payable . . . . . . . . . . . . . . . . . . . . . . . Notes payable . . . . . . . . . . . . . . . . . . . . . . . Current portion of long-term liabilities . . . . . Total current liabilities . . . . . . . . . . . . . . . . . Long-term liabilities (net of current portion) Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . Equity T. Hawk, Capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total liabilities and equity . . . . . . . . . . . . . . . . . . . . . . . . $ 42,900 67,500 150,200 73,200 223,400 10,000 $343,800 $ 29,000 150,000 179,000 164,800 $343,800 classified as either current or noncurrent. Its noncurrent assets include three main categories: long-term investments, plant assets, and intangible assets. Its liabilities are classified as either current or long-term. Not all companies use the same categories of assets and liabilities for their balance sheets. K2 Inc.’s balance sheet lists only three asset classes: current assets; property, plant and equipment; and other assets. Point: Current is also called shortterm, and noncurrent is also called long-term. Current Assets Current assets are cash and other resources that are expected to be sold, collected, or used within one year or the company’s operating cycle, whichever is longer. Examples are cash, short-term investments, accounts receivable, short-term notes receivable, goods for sale (called merchandise or inventory), and prepaid expenses. The individual prepaid expenses of a company are usually small in amount compared to many other assets and are often combined and shown as a single item. The prepaid expenses in Exhibit 4.9 likely include items such as prepaid insurance, prepaid rent, office supplies, and store supplies. Prepaid expenses are usually listed last because they will not be converted to cash (instead, they are used). wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 147 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 147 Long-Term Investments A second major balance sheet classification is long-term (or noncurrent) investments. Notes receivable and investments in stocks and bonds are long-term assets when they are expected to be held for more than the longer of one year or the operating cycle. Land held for future expansion is a long-term investment because it is not used in operations. Plant Assets Plant assets are tangible assets that are both long-lived and used to produce or sell products and services. Examples are equipment, machinery, buildings, and land that are used to produce or sell products and services. The order listing for plant assets is usually from most liquid to least liquid such as equipment and machinery to buildings and land. Point: Plant assets are also called fixed assets; property, plant and equipment; or long-lived assets. Intangible assets are long-term resources that benefit business operations, usually lack physical form, and have uncertain benefits. Examples are patents, trademarks, copyrights, franchises, and goodwill. Their value comes from the privileges or rights granted to or held by the owner. K2, Inc., reports intangible assets of $228 million, which is nearly 20 percent of its total assets. Its intangibles include trademarks, patents, and licensing agreements. Intangible Assets Current Liabilities Current liabilities are obligations due to be paid or settled within one year or the operating cycle, whichever is longer. They are usually settled by paying out current assets such as cash. Current liabilities often include accounts payable, notes payable, wages payable, taxes payable, interest payable, and unearned revenues. Also, any portion of a longterm liability due to be paid within one year or the operating cycle, whichever is longer, is a current liability. Unearned revenues are current liabilities when they will be settled by delivering products or services within one year or the operating cycle, whichever is longer. Current liabilities are reported in the order of those to be settled first. Point: Many financial ratios are distorted if accounts are not classified correctly. Long-term liabilities are obligations not due within one year or the operating cycle, whichever is longer. Notes payable, mortgages payable, bonds payable, and lease obligations are common long-term liabilities. If a company has both short- and longterm items in each of these categories, they are commonly separated into two accounts in the ledger. Long-Term Liabilities Equity is the owner’s claim on assets. For a proprietorship, this claim is reported in the equity section with an owner’s capital account. (For a partnership, the equity section reports a capital account for each partner. For a corporation, the equity section is divided into two main subsections, common stock and retained earnings.) Equity Quick Check Answers—p. 154 7. Classify the following assets as (1) current assets, (2) plant assets, or (3) intangible assets: (a) land used in operations, (b) office supplies, (c) receivables from customers due in 10 months, (d) insurance protection for the next 9 months, (e) trucks used to provide services to customers, ( f ) trademarks. 8. Cite two examples of assets classified as investments on the balance sheet. 9. Explain the operating cycle for a service company. Current Ratio Decision Analysis An important use of financial statements is to help assess a company’s ability to pay its debts in the near future. Such analysis affects decisions by suppliers when allowing a company to buy on credit. It also affects decisions by creditors when lending money to a company, including loan terms such as interest rate, due date, and collateral requirements. It can also affect a manager’s decisions about using cash to pay debts when they come due. The current ratio is one measure of a company’s ability A1 Compute the current ratio and describe what it reveals about a company’s financial condition. wiL79549_ch04_0134-0175 08/18/2008 11:24 am Page 148 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 148 to pay its short-term obligations. It is defined in Exhibit 4.10 as current assets divided by current liabilities. EXHIBIT 4.10 Current ratio Current Ratio Current assets Current liabilities Using financial information from Limited Brands, Inc., we compute its current ratio for the recent fouryear period. The results are in Exhibit 4.11. EXHIBIT 4.11 $ in millions Limited Brands’ Current Ratio Millions $4,500 $4,000 $3,500 $3,000 $2,500 $2,000 $1,500 $1,000 $500 $0 Ratio 3.5 3.0 . . . . 2006 2005 2004 $2,771 $1,709 1.6 2.3 $2,784 $1,575 1.8 2.4 $2,684 $1,451 1.8 2.5 $4,433 $1,388 3.2 2.7 2.5 2.0 1.5 0.0 2007 Limited: Current assets . . . . . . . . . . . . Current liabilities . . . . . . . . . . Current ratio . . . . . . . . . . . Industry current ratio . . . . . . 2007 2006 Current Liabilities ($) 2005 2004 Current Assets ($) Current Ratio Limited Brands’ current ratio averaged 2.1 for 2004 through 2007. The current ratio for each of these years suggests that the company’s short-term obligations can be covered with its short-term assets. However, if its ratio would approach 1.0, Limited would expect to face challenges in covering liabilities. If the ratio were less than 1.0, current liabilities would exceed current assets, and the company’s ability to pay short-term obligations could be in doubt. Decision Maker Analyst You are analyzing the financial condition of a company to assess its ability to meet upcoming loan payments. You compute its current ratio as 1.2. You also find that a major portion of accounts receivable is due from one client who has not made any payments in the past 12 months. Removing this receivable from current assets lowers the current ratio to 0.7. What do you conclude? [Answer—p. 153] Demonstration Problem The partial work sheet of Midtown Repair Company at December 31, 2009, follows. DP4 Adjusted Trial Balance Debit Cash . . . . . . . . . . . . . . . . . . . . . . . . . Notes receivable (current) . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . . Prepaid rent . . . . . . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Accounts payable . . . . . . . . . . . . . . . . Long-term notes payable . . . . . . . . . . . C. Trout, Capital . . . . . . . . . . . . . . . . . C. Trout, Withdrawals . . . . . . . . . . . . . Repair services revenue . . . . . . . . . . . Interest revenue . . . . . . . . . . . . . . . . . Depreciation expense—Equipment . . . Wages expense . . . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Interest expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit 95,600 50,000 16,000 4,000 170,000 57,000 52,000 63,000 178,500 30,000 180,800 7,500 28,500 85,000 48,000 6,000 5,700 538,800 538,800 Income Statement Debit Credit Balance Sheet and Statement of Owner’s Equity Debit Credit wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 149 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle Required 1. Complete the work sheet by extending the adjusted trial balance totals to the appropriate financial statement columns. 2. Prepare closing entries for Midtown Repair Company. 3. Set up the Income Summary and the C. Trout, Capital account in the general ledger (in balance column format) and post the closing entries to these accounts. 4. Determine the balance of the C. Trout, Capital account to be reported on the December 31, 2009, balance sheet. 5. Prepare an income statement, statement of owner’s equity, and classified balance sheet (in report form) as of December 31, 2009. Planning the Solution • Extend the adjusted trial balance account balances to the appropriate financial statement columns. • Prepare entries to close the revenue accounts to Income Summary, to close the expense accounts to • • • Income Summary, to close Income Summary to the capital account, and to close the withdrawals account to the capital account. Post the first and second closing entries to the Income Summary account. Examine the balance of income summary and verify that it agrees with the net income shown on the work sheet. Post the third and fourth closing entries to the capital account. Use the work sheet’s two right-most columns and your answer in part 4 to prepare the classified balance sheet. Solution to Demonstration Problem 1. Completing the work sheet. Adjusted Trial Balance Debit Cash . . . . . . . . . . . . . . . . . . . . . . . . Notes receivable (current) . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Prepaid rent . . . . . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Accounts payable . . . . . . . . . . . . . . . Long-term notes payable . . . . . . . . . . C. Trout, Capital . . . . . . . . . . . . . . . . C. Trout, Withdrawals . . . . . . . . . . . . Repair services revenue . . . . . . . . . . . Interest revenue . . . . . . . . . . . . . . . . Depreciation expense—Equipment . . Wages expense . . . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Interest expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Net income . . . . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit Balance Sheet and Statement of Owner’s Equity Income Statement Debit Credit 95,600 50,000 16,000 4,000 170,000 Debit 95,600 50,000 16,000 4,000 170,000 57,000 52,000 63,000 178,500 57,000 52,000 63,000 178,500 30,000 30,000 180,800 7,500 28,500 85,000 48,000 6,000 5,700 538,800 Credit 538,800 180,800 7,500 28,500 85,000 48,000 6,000 5,700 173,200 15,100 188,300 188,300 365,600 188,300 365,600 350,500 15,100 365,600 2. Closing entries. Dec. 31 Repair Services Revenue . . . . . . . . . . . . . . . . . . . . . . Interest Revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . Income Summary . . . . . . . . . . . . . . . . . . . . . . . To close revenue accounts. [continued on next page] 180,800 7,500 188,300 149 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 150 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 150 Chapter 4 Completing the Accounting Cycle [continued from previous page] Dec. 31 Dec. 31 Dec. 31 Income Summary . . . . . . . . . . . . . . . . . Depreciation Expense—Equipment. Wages Expense . . . . . . . . . . . . . . . Rent Expense . . . . . . . . . . . . . . . . Insurance Expense. . . . . . . . . . . . . Interest Expense . . . . . . . . . . . . . . To close expense accounts. Income Summary . . . . . . . . . . . . . . . . . C. Trout, Capital . . . . . . . . . . . . . . To close the Income Summary account. C. Trout, Capital . . . . . . . . . . . . . . . . . . C. Trout, Withdrawals . . . . . . . . . . To close the withdrawals account. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 173,200 .......... .......... 15,100 .......... .......... 30,000 28,500 85,000 48,000 6,000 5,700 15,100 30,000 3. Set up the Income Summary and the capital ledger accounts and post the closing entries. Income Summary Date 2009 Jan. 1 Dec. 31 31 31 Explanation Account No. 901 PR Beginning balance . . . . . Close revenue accounts . Close expense accounts Close income summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . Credit 188,300 173,200 15,100 C. Trout, Capital Date Explanation Debit Close C. Trout, Withdrawals . . . . . . . Credit Balance 15,100 Beginning balance . . . . . . . . . . . . . . . Close Income Summary . . . . . . . . . . 31 0 188,300 15,100 0 Account No. 301 PR 2009 Jan. 1 Dec. 31 Balance 178,500 193,600 30,000 163,600 4. The final capital balance of $163,600 (from part 3) will be reported on the December 31, 2009, bal- ance sheet. The final capital balance reflects the increase due to the net income earned during the year and the decrease for the owner’s withdrawals during the year. 5. MIDTOWN REPAIR COMPANY Income Statement For Year Ended December 31, 2009 Revenues Repair services revenue . . . . . . . . Interest revenue . . . . . . . . . . . . . Total revenues . . . . . . . . . . . . . . Expenses Depreciation expense—Equipment Wages expense . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . Interest expense . . . . . . . . . . . . . Total expenses . . . . . . . . . . . . . . Net income . . . . . . . . . . . . . . . . . . ........ ........ ........ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $180,800 7,500 $188,300 28,500 85,000 48,000 6,000 5,700 173,200 $ 15,100 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 151 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 151 MIDTOWN REPAIR COMPANY Statement of Owner’s Equity For Year Ended December 31, 2009 C. Trout, Capital, December 31, 2008 . . . . . . . . . . . . . . Add: Investment by owner . . . . . . . . . . . . . . . . . . . . . Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . $178,500 $ 0 15,100 Less: Withdrawals by owner . . . . . . . . . . . . . . . . . . . C. Trout, Capital, December 31, 2009 . . . . . . . . . . . . . . 15,100 193,600 30,000 $163,600 MIDTOWN REPAIR COMPANY Balance Sheet December 31, 2009 Assets Current assets Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . Notes receivable . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . . . . . Prepaid rent . . . . . . . . . . . . . . . . . . . . . . . Total current assets . . . . . . . . . . . . . . . . . Plant assets Equipment . . . . . . . . . . . . . . . . . . . . . . . . Less: Accumulated depreciation—Equipment Total plant assets . . . . . . . . . . . . . . . . . . . Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . .. .. . . . . . . . . . . . . . . . . . . . . . . . . Liabilities Current liabilities Accounts payable . . . . . . . . . . . . . . . . . . . . . . . . . . . Long-term liabilities Long-term notes payable . . . . . . . . . . . . . . . . . . . . . . Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Equity C. Trout, Capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total liabilities and equity . . . . . . . . . . . . . . . . . . . . . . . $ 95,600 50,000 16,000 4,000 165,600 $170,000 (57,000) 113,000 $278,600 $ 52,000 63,000 115,000 163,600 $278,600 APPENDIX Reversing Entries Reversing entries are optional. They are recorded in response to accrued assets and accrued liabilities that were created by adjusting entries at the end of a reporting period. The purpose of reversing entries is to simplify a company’s recordkeeping. Exhibit 4A.1 shows an example of FastForward’s reversing entries. The top of the exhibit shows the adjusting entry FastForward recorded on December 31 for its employee’s earned but unpaid salary. The entry recorded three days’ salary of $210, which increased December’s total salary expense to $1,610. The entry also recognized a liability of $210. The expense is reported on December’s income statement. The expense account is then closed. The ledger on January 1, 4A Point: As a general rule, adjusting entries that create new asset or liability accounts are likely candidates for reversing. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 152 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 152 Chapter 4 Completing the Accounting Cycle EXHIBIT 4A.1 Accrue salaries expense on December 31, 2009 Reversing Entries for an Accrued Expense 210 Salaries Expense Salaries Payable 210 Salaries Expense Date Expl. Debit Credit Balance 2009 Dec. 12 (7) 700 700 26 (16) 700 1,400 31 (e) 210 1,610 Salaries Payable Date Expl. Debit Credit Balance 2009 Dec. 31 210 (e) — OR — No reversing entry recorded on January 1, 2010 NO ENTRY Salaries Expense Expl. Debit Credit Balance Date 210 Reversing entry recorded on January 1, 2010 Salaries Payable 210 Salaries Expense 210 Salaries Expense* Expl. Debit Credit Balance Date 2010 2010 Salaries Payable Expl. Debit Credit Balance Date Jan. 1 210 Date 2009 Dec. 31 210 (e) 210 2009 Dec. 31 2010 210 Salaries Payable Expl. Debit Credit Balance 210 (e) 210 2010 210 Jan. 1 0 Pay the accrued and current salaries on January 9, the first payday in 2010 Salaries Expense 490 Salaries Payable 210 Cash 700 Salaries Expense Date Expl. Debit Credit Balance Salaries Expense 700 Cash 700 Salaries Expense* Expl. Debit Credit Balance Date 2010 490 Jan. Jan. Salaries Payable Expl. Debit Credit Balance Date Jan. 9 Date 490 210 (e) 210 210 700 210 490 Salaries Payable Expl. Debit Credit Balance Dec. 31 210 (e) 210 2010 2010 Jan. 9 1 9 2009 2009 Dec. 31 2010 210 0 Jan. 1 210 0 Under both approaches, the expense and liability accounts have identical balances after the cash payment on January 9. Salaries Expense Salaries Payable $490 $0 *Circled numbers in the Balance column indicate abnormal balances. 2010, shows a $210 liability and a zero balance in the Salaries Expense account. At this point, the choice is made between using or not using reversing entries. Accounting without Reversing Entries The path down the left side of Exhibit 4A.1 is described in the chapter. To summarize here, when the next payday occurs on January 9, we record payment with a compound entry that debits both the expense and liability accounts and credits Cash. Posting that entry creates a $490 balance in the expense account and reduces the liability account balance to zero because the debt has been settled. The disadvantage of this approach is the slightly more complex entry required on January 9. Paying the accrued wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 153 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 153 liability means that this entry differs from the routine entries made on all other paydays. To construct the proper entry on January 9, we must recall the effect of the December 31 adjusting entry. Reversing entries overcome this disadvantage. Accounting with Reversing Entries The right side of Exhibit 4A.1 shows how a reversing entry on January 1 overcomes the disadvantage of the January 9 entry when not using reversing entries. A reversing entry is the exact opposite of an adjusting entry. For FastForward, the Salaries Payable liability account is debited for $210, meaning that this account now has a zero balance after the entry is posted. The Salaries Payable account temporarily understates the liability, but this is not a problem since financial statements are not prepared before the liability is settled on January 9. The credit to the Salaries Expense account is unusual because it gives the account an abnormal credit balance. We highlight an abnormal balance by circling it. Because of the reversing entry, the January 9 entry to record payment is straightforward. This entry debits the Salaries Expense account and credits Cash for the full $700 paid. It is the same as all other entries made to record 10 days’ salary for the employee. Notice that after the payment entry is posted, the Salaries Expense account has a $490 balance that reflects seven days’ salary of $70 per day (see the lower right side of Exhibit 4A.1). The zero balance in the Salaries Payable account is now correct. The lower section of Exhibit 4A.1 shows that the expense and liability accounts have exactly the same balances whether reversing entries are used or not. This means that both approaches yield identical results. P4 Prepare reversing entries and explain their purpose. Summary C1 Explain why temporary accounts are closed each period. Temporary accounts are closed at the end of each accounting period for two main reasons. First, the closing process updates the capital account to include the effects of all transactions and events recorded for the period. Second, it prepares revenue, expense, and withdrawals accounts for the next reporting period by giving them zero balances. Identify steps in the accounting cycle. The accounting cycle consists of 10 steps: (1) analyze transactions, (2) journalize, (3) post, (4) prepare an unadjusted trial balance, (5) adjust accounts, (6) prepare an adjusted trial balance, (7) prepare statements, (8) close, (9) prepare a post-closing trial balance, and (10) prepare (optional) reversing entries. Explain and prepare a classified balance sheet. Classified balance sheets report assets and liabilities in two categories: current and noncurrent. Noncurrent assets often include long-term investments, plant assets, and intangible assets. Owner’s equity for proprietorships (and partnerships) report the capital account balance. A corporation separates equity into common stock and retained earnings. Compute the current ratio and describe what it reveals about a company’s financial condition. A company’s current ratio is defined as current assets divided by current liabilities. We use it to evaluate a company’s ability to pay its current liabilities out of current assets. C2 C3 A1 P1 Prepare a work sheet and explain its usefulness. A work sheet can be a useful tool in preparing and analyzing financial statements. It is helpful at the end of a period in preparing adjusting entries, an adjusted trial balance, and financial statements. A work sheet usually contains five pairs of columns: Unadjusted Trial Balance, Adjustments, Adjusted Trial Balance, Income Statement, and Balance Sheet & Statement of Owner’s Equity. Describe and prepare closing entries. Closing entries involve four steps: (1) close credit balances in revenue (and gain) accounts to Income Summary, (2) close debit balances in expense (and loss) accounts to Income Summary, (3) close Income Summary to the capital account, and (4) close withdrawals account to owner’s capital. Explain and prepare a post-closing trial balance. A postclosing trial balance is a list of permanent accounts and their balances after all closing entries have been journalized and posted. Its purpose is to verify that (1) total debits equal total credits for permanent accounts and (2) all temporary accounts have zero balances. A Prepare reversing entries and explain their purpose. Reversing entries are an optional step. They are applied to accrued expenses and revenues. The purpose of reversing entries is to simplify subsequent journal entries. Financial statements are unaffected by the choice to use or not use reversing entries. P2 P3 P4 Guidance Answers to Decision Maker and Decision Ethics Yes, you are concerned about the absence of a depreciation adjustment. Equipment does depreciate, and financial statements must recognize this occurrence. Its absence suggests an error or a misrepresentation (there is also the possibility that equipment is fully depreciated). Entrepreneur Analyst A current ratio of 1.2 suggests that current assets are sufficient to cover current liabilities, but it implies a minimal buffer in case of errors in measuring current assets or current liabilities. Removing the past due receivable reduces the current ratio to 0.7. Your assessment is that the company will have some difficulty meeting its loan payments. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 154 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 154 Guidance Answers to Quick Checks 1. Amounts in the Unadjusted Trial Balance columns are taken from 5. Revenue (and gain) and expense (and loss) accounts are called current account balances in the ledger. The balances for new accounts expected to arise from adjusted entries can be left blank or set at zero. 2. A work sheet offers the advantage of listing on one page all necessary information to make adjusting entries. 3. A work sheet can help in (a) accounting efficiency and avoiding errors, (b) linking transactions and events to their effects in financial statements, (c) showing adjustments for audit purposes, (d) preparing interim financial statements, and (e) showing effects from proposed, or what-if, transactions. 4. The major steps in preparing closing entries are to close (1) credit balances in revenue accounts to Income Summary, (2) debit balances in expense accounts to Income Summary, (3) Income Summary to owner’s capital, and (4) any withdrawals account to owner’s capital. temporary because they are opened and closed each period. The Income Summary and owner’s withdrawals accounts are also temporary. Permanent accounts make up the post-closing trial balance, which consist of asset, liability, and equity accounts. Current assets: (b), (c), (d ). Plant assets: (a), (e). Item ( f ) is an intangible asset. Investment in common stock, investment in bonds, and land held for future expansion. For a service company, the operating cycle is the usual time between (1) paying employees who do the services and (2) receiving cash from customers for services provided. 6. 7. 8. 9. mhhe.com/wildFAP19e Key Terms Key Terms are available at the book’s Website for learning and testing in an online Flashcard Format. Pro forma financial statements (p. 140) Reversing entries (p. 151) Temporary accounts (p. 140) Unclassified balance sheet (p. 145) Working papers (p. 136) Work sheet (p. 136) Income Summary (p. 141) Intangible assets (p. 147) Long-term investments (p. 147) Long-term liabilities (p. 147) Operating cycle (p. 145) Permanent accounts (p. 140) Post-closing trial balance (p. 144) Accounting cycle (p. 144) Classified balance sheet (p. 145) Closing entries (p. 141) Closing process (p. 140) Current assets (p. 146) Current liabilities (p. 147) Current ratio (p. 147) Answers on p. 175 Multiple Choice Quiz mhhe.com/wildFAP19e Additional Quiz Questions are available at the book’s Website. 1. G. Venda, owner of Venda Services, withdrew $25,000 from the business during the current year. The entry to close the withdrawals account at the end of the year is: a. b. c. d. e. G.Venda, Withdrawals . . . G.Venda, Capital . . . . Income Summary . . . . . . . G.Venda, Capital . . . . G.Venda, Withdrawals . . . Cash . . . . . . . . . . . . G.Venda, Capital . . . . . . . Salary Expense . . . . . G.Venda, Capital . . . . . . . G.Venda, Withdrawals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2. The following information is available for the R. Kandamil Company before closing the accounts. After all of the closing entries are made, what will be Quiz4 the balance in the R. Kandamil, Capital account? 25,000 25,000 25,000 25,000 25,000 25,000 Total revenues . . . . . . . Total expenses . . . . . . . R. Kandamil, Capital . . . R. Kandamil, Withdrawals .... .... .... ... 25,000 25,000 25,000 25,000 a. $360,000 b. $250,000 c. $160,000 d. $150,000 e. $60,000 . . . . . . . . . . . . . . . . $300,000 195,000 100,000 45,000 wiL79549_ch04_0134-0175 08/18/2008 10:39 am Page 155 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 3. Which of the following errors would cause the balance sheet and statement of owner’s equity columns of a work sheet to be out of balance? a. Entering a revenue amount in the balance sheet and statement of owner’s equity debit column. b. Entering a liability amount in the balance sheet and statement of owner’s equity credit column. c. Entering an expense account in the balance sheet and statement of owner’s equity debit column. d. Entering an asset account in the income statement debit column. e. Entering a liability amount in the income statement credit column. 4. The temporary account used only in the closing process to hold the amounts of revenues and expenses before the net difference is added or subtracted from the owner’s capital account is called the a. Closing account. b. Nominal account. Superscript letter A 155 c. Income Summary account. d. Balance Column account. e. Contra account. 5. Based on the following information from Repicor Company’s balance sheet, what is Repicor Company’s current ratio? Current assets . . . Investments . . . . . Plant assets . . . . . Current liabilities . Long-term liabilities D. Repicor, Capital a. 2.10 b. 1.50 c. 1.00 . . . . . . . . . .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 75,000 30,000 300,000 50,000 60,000 295,000 d. 0.95 e. 0.67 denotes assignments based on Appendix 4A. Discussion Questions 1. What accounts are affected by closing entries? What accounts 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. are not affected? What two purposes are accomplished by recording closing entries? What are the steps in recording closing entries? What is the purpose of the Income Summary account? Explain whether an error has occurred if a post-closing trial balance includes a Depreciation Expense account. What tasks are aided by a work sheet? Why are the debit and credit entries in the Adjustments columns of the work sheet identified with letters? What is a company’s operating cycle? What classes of assets and liabilities are shown on a typical classified balance sheet? How is unearned revenue classified on the balance sheet? What are the characteristics of plant assets? 12.AHow do reversing entries simplify recordkeeping? 13.AIf a company recorded accrued salaries expense of $500 at the 14. 15. 16. 17. end of its fiscal year, what reversing entry could be made? When would it be made? Refer to the balance sheet for Best Buy in Appendix A. What five noncurrent asset categories are used on its classified balance sheet? Refer to Circuit City’s balance sheet in Appendix A. Identify the accounts listed as current liabilities. Refer to RadioShack’s balance sheet in Appendix A. Identify the accounts listed as current assets. Refer to Apple’s financial statements in Appendix A. What journal entry was likely recorded as of September 30, 2006, to close its Income Summary account? Denotes Discussion Questions that involve decision making. Available with McGraw-Hill’s Homework Manager Irvine Company began the current period with a $35,000 credit balance in the M. Irvine, Capital account. At the end of the period, the company’s adjusted account balances include the following temporary accounts with normal balances. Service fees earned . . . . . . . . . Salaries expense . . . . . . . . . . . Depreciation expense . . . . . . . $42,000 31,000 11,000 Interest revenue . . . . . . . . . . . . . . M. Irvine, Withdrawals . . . . . . . . . . Utilities expense . . . . . . . . . . . . . . $8,000 9,200 5,000 After closing the revenue and expense accounts, what will be the balance of the Income Summary account? After all closing entries are journalized and posted, what will be the balance of the M. Irvine, Capital account? QUICK STUDY QS 4-1 Determining effects of closing entries C1 P2 wiL79549_ch04_0134-0175 08/18/2008 11:24 am Page 156 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 156 Chapter 4 Completing the Accounting Cycle QS 4-2 List the following steps of the accounting cycle in their proper order. a. Preparing the financial statements. f. Journalizing and posting adjusting entries. b. Preparing the unadjusted trial balance. g. Preparing the adjusted trial balance. c. Journalizing transactions and events. h. Journalizing and posting closing entries. d. Preparing the post-closing trial balance. i. Analyzing transactions and events. e. Posting the journal entries. Identifying the accounting cycle C2 QS 4-3 Classifying balance sheet items C3 QS 4-4 Identifying current accounts and computing the current ratio C3 A1 QS 4-5 Interpreting a work sheet P1 The following are common categories on a classified balance sheet. A. Current assets D. Intangible assets B. Long-term investments E. Current liabilities C. Plant assets F. Long-term liabilities For each of the following items, select the letter that identifies the balance sheet category where the item typically would appear. _____ 1. Accounts payable _ _____ 5. Land not currently used in operations _ _____ 2. Store equipment _ _____ 6. Notes payable (due in three years) _ _____ 3. Wages payable _ _____ 7. Accounts receivable _ _____ 4. Cash _ _____ 8. Trademarks _ Compute Palmolive Company’s current ratio using the following information. Accounts receivable Accounts payable . . Buildings . . . . . . . . . Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $18,000 11,000 45,000 7,000 Long-term notes payable . . Office supplies . . . . . . . . . . Prepaid insurance . . . . . . . Unearned services revenue . . . J. Fischer, Capital . . . . . . . . . . . . . J. Fischer, Withdrawals . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . Applying a work sheet P1 . . . . . . . . . . . . . . . . . . . . . . . . $21,000 2,860 3,500 3,000 The following selected information is taken from the work sheet for Fischer Company as of December 31, 2009. Using this information, determine the amount for J. Fischer, Capital, that should be reported on its December 31, 2009, balance sheet. Income Statement QS 4-6 . . . . Dr. Cr. Balance Sheet and Statement of Owner’s Equity Dr. Cr. 36,000 18,000 61,000 90,000 In preparing a work sheet, indicate the financial statement Debit column to which a normal balance in the following accounts should be extended. Use I for the Income Statement Debit column and B for the Balance Sheet and Statement of Owner’s Equity Debit column. _____ a. Depreciation expense—Equipment _ _____ d. Equipment _ _____ b. Accounts receivable _ _____ e. Owner, Withdrawals _ _____ c. Insurance expense _ _____ f. Prepaid rent _ wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 157 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 157 List the following steps in preparing a work sheet in their proper order by writing numbers 1–5 in the blank spaces provided. _ a. _____ Prepare an unadjusted trial balance on the work sheet. _ b. _____ Prepare an adjusted trial balance on the work sheet. _ c. _____ Enter adjustments data on the work sheet. _____ Total the statement columns, compute net income (loss), and complete work sheet. _ d. _ e. _____ Extend adjusted balances to appropriate financial statement columns. QS 4-7 The ledger of Edgardo Company includes the following unadjusted normal balances: Prepaid Rent $4,000, Services Revenue $65,000, and Wages Expense $30,000. Adjusting entries are required for (a) prepaid rent expense expired, $800; (b) accrued services revenue $950; and (c) accrued wages expense $750. Enter these unadjusted balances and the necessary adjustments on a work sheet and complete the work sheet for these accounts. Note: Also include the following accounts: Accounts Receivable, Wages Payable, and Rent Expense. QS 4-8 The ledger of Simms Company includes the following accounts with normal balances: P. Simms, Capital $18,000; P. Simms, Withdrawals $1,600; Services Revenue $26,000; Wages Expense $16,800; and Rent Expense $3,200. Prepare the necessary closing entries from the available information at December 31. QS 4-9 Identify the accounts listed in QS 4-9 that would be included in a post-closing trial balance. QS 4-10 Ordering work sheet steps P1 Preparing a partial work sheet P1 Prepare closing entries from the ledger P2 Identify post-closing accounts P3 On December 31, 2008, Yates Co. prepared an adjusting entry for $24,000 of earned but unrecorded management fees. On January 16, 2009, Yates received $37,500 cash in management fees, which included the accrued fees earned in 2008. Assuming the company uses reversing entries, prepare the January 1, 2009, reversing entry and the January 16, 2009, cash receipt entry. QS 4-11A Reversing entries P4 Available with McGraw-Hill’s Homework Manager Use the March 31 fiscal year-end information from the following ledger accounts (assume that all accounts have normal balances) to prepare closing journal entries and then post those entries to the appropriate ledger accounts. Date PR Mar. 31 Acct. No. 301 G2 R. Cruz, Withdrawals Date PR Mar. 31 Credit Mar. 31 Credit Mar. 31 G2 Mar. 31 Debit Credit Debit Date PR Mar. 31 Credit Debit PR Mar. 31 Credit Acct. No. 640 G2 Balance 17,000 Debit PR Credit Balance 9,440 Income Summary Date Balance 4,420 Rent Expense Date Balance Acct. No. 637 G2 Balance P2 32,500 Insurance Expense Balance Acct. No. 603 Credit Acct. No. 622 G2 114,530 Debit Depreciation Expense PR PR Acct. No. 401 G2 Date Date 46,770 Debit Services Revenue PR Balance Acct. No. 302 G2 Date Salaries Expense 65,000 Debit Exercise 4-1 Preparing and posting closing entries General Ledger R. Cruz, Capital EXERCISES Acct. No. 901 Debit Credit Balance Check R. Cruz, Capital (ending balance), $69,400 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 158 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 158 Chapter 4 Completing the Accounting Cycle Exercise 4-2 The adjusted trial balance for Santara Marketing Co. follows. Complete the four right-most columns of the table by first entering information for the four closing entries (keyed 1 through 4) and second by completing the post-closing trial balance. Preparing closing entries and a post-closing trial balance P2 P3 No. 101 106 153 154 193 201 209 233 301 302 401 611 622 640 677 901 Adjusted Trial Balance Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Franchise . . . . . . . . . . . . . . . . . . . . . Accounts payable . . . . . . . . . . . . . . . Salaries payable . . . . . . . . . . . . . . . . . Unearned fees . . . . . . . . . . . . . . . . . T. Santara, Capital . . . . . . . . . . . . . . . T. Santara, Withdrawals . . . . . . . . . . . Marketing fees earned . . . . . . . . . . . . Depreciation expense—Equipment . . . Salaries expense . . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Miscellaneous expenses . . . . . . . . . . . Income summary . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Exercise 4-3 Preparing closing entries and a post-closing trial balance .... .... .... ... .... .... .... .... .... .... .... .... .... .... .... .... .... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Dr. $ 11,900 24,000 41,000 Closing Entry Information Dr. Cr. Post-Closing Trial Balance Dr. Cr. $ 16,500 30,000 14,000 3,200 2,600 66,701 14,400 83,000 11,000 33,034 12,616 8,051 $186,001 $186,001 The following adjusted trial balance contains the accounts and balances of Ferrara Company as of December 31, 2009, the end of its fiscal year. (1) Prepare the December 31, 2009, closing entries for Ferrara Company. (2) Prepare the December 31, 2009, post-closing trial balance for Ferrara Company. C1 P2 P3 No. Check (2) N. Ferrara, Capital (ending), $50,400; Total debits, $56,900 Cr. 101 126 128 167 168 301 302 404 612 622 637 640 652 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Supplies . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment N. Ferrara, Capital . . . . . . . . . . . . . . . N. Ferrara, Withdrawals . . . . . . . . . . . Services revenue . . . . . . . . . . . . . . . . Depreciation expense—Equipment . . . Salaries expense . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Supplies expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $18,000 13,900 2,000 23,000 $ 6,500 48,168 6,000 37,200 2,000 21,687 1,562 2,492 1,227 $91,868 $91,868 wiL79549_ch04_0134-0175 08/18/2008 11:24 am Page 159 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle Use the following adjusted trial balance of Resource Trucking Company to prepare the (1) income statement, and (2) statement of owner’s equity, for the year ended December 31, 2009. The J. Reso, Capital account balance is $161,901 at December 31, 2008. Account Title Debit Cash . . . . . . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . . . . . . Office supplies . . . . . . . . . . . . . . Trucks . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Trucks Land . . . . . . . . . . . . . . . . . . . . . . Accounts payable . . . . . . . . . . . . . Interest payable . . . . . . . . . . . . . . Long-term notes payable . . . . . . . J. Reso, Capital . . . . . . . . . . . . . . J. Reso, Withdrawals . . . . . . . . . . . Trucking fees earned . . . . . . . . . . Depreciation expense—Trucks . . . Salaries expense . . . . . . . . . . . . . Office supplies expense . . . . . . . . Repairs expense—Trucks . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 159 Exercise 4-4 Preparing the financial statements C2 Credit $ 5,800 17,500 3,000 156,000 $ 32,136 85,000 9,800 4,000 53,000 161,901 20,000 121,000 20,727 56,749 6,655 10,406 $381,837 $381,837 Use the information in the adjusted trial balance reported in Exercise 4-4 to prepare Resource Trucking Company’s classified balance sheet as of December 31, 2009. Exercise 4-5 Preparing a classified balance sheet C3 Check Total assets, $235,164; J. Reso, Capital, $168,364 Use the information in the adjusted trial balance reported in Exercise 4-4 to compute the current ratio as of the balance sheet date (round the ratio to one decimal). Interpret the current ratio for the Resource Trucking Company. (Assume that the industry average for the current ratio is 1.5.) Exercise 4-6 Calculate the current ratio in each of the following separate cases (round the ratio to two decimals). Identify the company case with the strongest liquidity position. (These cases represent competing companies in the same industry.) Exercise 4-7 Current Assets Case Case Case Case Case 1 2 3 4 5 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Computing and analyzing the current ratio $26,666 64,351 41,204 69,156 84,638 Use the following information from the Adjustments columns of a 10-column work sheet to prepare the necessary adjusting journal entries (a) through (e). Adjustments No. Account Title Debit 109 124 128 Interest receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . Office supplies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . . . . . . . . . . . . . . (d) $ 636 [continued on next page] A1 A1 Current Liabilities $ 76,000 101,080 42,863 82,308 58,444 Computing the current ratio Credit (b) $1,729 (a) 979 Exercise 4-8 Preparing adjusting entries from a work sheet P1 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 160 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 160 Chapter 4 Completing the Accounting Cycle [continued from previous page] 164 209 409 612 620 636 637 650 Exercise 4-9 Extending adjusted account balances on a work sheet P1 Exercise 4-10 Extending accounts in a work sheet Accumulated depreciation—Office equipment Salaries payable . . . . . . . . . . . . . . . . . . . . . . Interest revenue . . . . . . . . . . . . . . . . . . . . . Depreciation expense—Office equipment . . Office salaries expense . . . . . . . . . . . . . . . . Insurance expense—Office equipment . . . . . Insurance expense—Store equipment . . . . . Office supplies expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (c) 3,300 (e) 716 (d) 636 (c) 3,300 (e) 716 (a) 470 (a) 509 (b) 1,729 $7,360 $7,360 These 16 accounts are from the Adjusted Trial Balance columns of a company’s 10-column work sheet. In the blank space beside each account, write the letter of the appropriate financial statement column (A, B, C, or D) to which a normal account balance is extended. A. Debit column for the Income Statement columns. B. Credit column for the Income Statement columns. C. Debit column for the Balance Sheet and Statement of Owner’s Equity columns. D. Credit column for the Balance Sheet and Statement of Owner’s Equity columns. _____ 1. Accounts Receivable _ _____ 9. Interest Revenue _ _____ 2. Accumulated Depreciation _ _____ 10. Machinery _ _____ 3. Office Supplies _ _____ 11. Owner, Withdrawals _ _____ 4. Insurance Expense _ _____ 12. Depreciation Expense _ _____ 5. Interest Receivable _ _____ 13. Accounts Payable _ _____ 6. Cash _ _____ 14. Service Fees Revenue _ _____ 7. Rent Expense _ _____ 15. Owner, Capital _ _____ 8. Wages Payable _ _____ 16. Interest Expense _ The Adjusted Trial Balance columns of a 10-column work sheet for Linn Company follow. Complete the work sheet by extending the account balances into the appropriate financial statement columns and by entering the amount of net income for the reporting period. P1 No. 101 106 153 154 183 201 209 233 301 302 401 611 622 640 677 Check Net income, $18,127 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . . . . . . Trucks . . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Trucks Land . . . . . . . . . . . . . . . . . . . . . . Accounts payable . . . . . . . . . . . . . Salaries payable . . . . . . . . . . . . . . . Unearned fees . . . . . . . . . . . . . . . D. Linn, Capital . . . . . . . . . . . . . . . D. Linn, Withdrawals . . . . . . . . . . . Plumbing fees earned . . . . . . . . . . . Depreciation expense—Trucks . . . Salaries expense . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . Miscellaneous expenses . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $ 8,200 35,834 41,500 $ 16,683 30,000 19,106 4,370 3,770 69,012 15,534 84,000 5,561 39,312 12,768 8,232 $196,941 $196,941 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 161 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle These partially completed Income Statement columns from a 10-column work sheet are for Johnson’s Bike Rental Company. (1) Use the information to determine the amount that should be entered on the net income line of the work sheet. (2) Prepare the company’s closing entries. The owner, C. Johnson, did not make any withdrawals this period. 161 Exercise 4-11 Completing the income statement columns and preparing closing entries P1 P2 Account Title Rent earned . . . . . . . . . . . . Salaries expense . . . . . . . . . Insurance expense . . . . . . . . Office supplies expense . . . . Bike repair expense . . . . . . . Depreciation expense—Bikes Totals . . . . . . . . . . . . . . . . . Net income . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit 90,000 39,960 5,670 13,230 2,790 17,190 Check Net income, $11,160 The following unadjusted trial balance contains the accounts and balances of Santaga Delivery Company as of December 31, 2009, its first year of operations. (1) Use the following information about the company’s adjustments to complete a 10-column work sheet for Dylan. a. Unrecorded depreciation on the trucks at the end of the year is $16,000. b. The total amount of accrued interest expense at year-end is $8,000. c. The cost of unused office supplies still available at the year-end is $500. (2) Prepare the year-end closing entries for this company, and determine the capital amount to be reported on its year-end balance sheet. Account Title Cash Accounts receivable Office supplies Trucks Accumulated depreciation—Trucks Land Accounts payable Interest payable Long-term notes payable D. Santaga, Capital D. Santaga, Withdrawals Delivery fees earned Depreciation expense—Truck Salaries expense Office supplies expense Interest expense Repairs expense—trucks Totals Debit Exercise 4-12 Preparing a work sheet and recording closing entries P1 P2 Credit $ 15,000 33,000 4,000 340,000 $ 112,000 150,000 23,550 6,000 104,000 272,770 38,000 274,350 48,000 128,670 14,000 6,000 16,000 $792,670 $792,670 The following two events occurred for Tankwell Co. on October 31, 2009, the end of its fiscal year. a. Tankwell rents a building from its owner for $3,300 per month. By a prearrangement, the company delayed paying October’s rent until November 5. On this date, the company paid the rent for both October and November. Check Adj. trial balance totals, $810,670; Net income, $40,180 Exercise 4-13A Preparing reversing entries P4 wiL79549_ch04_0134-0175 08/18/2008 10:39 am Page 162 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 162 b. Tankwell rents space in a building it owns to a tenant for $1,050 per month. By prearrangement, the tenant delayed paying the October rent until November 8. On this date, the tenant paid the rent for both October and November. Required 1. Prepare adjusting entries that the company must record for these events as of October 31. 2. Assuming Tankwell does not use reversing entries, prepare journal entries to record Tankwell’s pay- ment of rent on November 5 and the collection of rent on November 8 from Tankwell’s tenant. 3. Assuming that the company uses reversing entries, prepare reversing entries on November 1 and the journal entries to record Tankwell’s payment of rent on November 5 and the collection of rent on November 8 from Tankwell’s tenant. Exercise 4-14A Preparing reversing entries P4 Scholl Company records prepaid assets and unearned revenues in balance sheet accounts. The following information was used to prepare adjusting entries for the company as of August 31, the end of the company’s fiscal year. a. The company has earned $4,500 in unrecorded service fees. b. The expired portion of prepaid insurance is $3,750. c. The company has earned $2,100 of its Unearned Service Fees account balance. d. Depreciation expense for office equipment is $2,600. e. Employees have earned but have not been paid salaries of $2,700. Prepare any necessary reversing entries for the accounting adjustments a through e assuming that the company uses reversing entries in its accounting system. Available with McGraw-Hill’s Homework Manager PROBLEM SET A Problem 4-1A Determining balance sheet classifications C3 Problem 4-2A Applying the accounting cycle C1 C2 P2 P3 x e cel mhhe.com/wildFAP19e In the blank space beside each numbered balance sheet item, enter the letter of its balance sheet classification. If the item should not appear on the balance sheet, enter a Z in the blank. D. Intangible assets F. Long-term liabilities A. Current assets E. Current liabilities G. Equity B. Long-term investments C. Plant assets _____ 10. Unearned services revenue _ _____ 1. Accumulated depreciation— _ Trucks _____ 11. Long-term investment in stock _ _____ 2. Cash _ _____ 12. Depreciation expense—Building _ _____ 3. Buildings _ _____ 13. Prepaid rent _ _____ 4. Store supplies _ _____ 14. Interest receivable _ _____ 5. Office equipment _ _____ 15. Taxes payable _ _____ 16. Automobiles _ _____ 6. Land (used in operations) _ _____ 17. Notes payable (due in 3 years) _ _____ 7. Repairs expense _ _____ 18. Accounts payable _ _____ 8. Office supplies _ _____ 19. Prepaid insurance _ _____ 9. Current portion of long-term _ _____ 20. Owner, Capital _ note payable On April 1, 2009, Jiro Nozomi created a new travel agency, Adventure Travel. The following transactions occurred during the company’s first month. April 1 2 3 10 14 24 28 29 30 30 Nozomi invested $32,000 cash and computer equipment worth $26,000 in the company. The company rented furnished office space by paying $1,300 cash for the first month’s (April) rent. The company purchased $2,500 of office supplies for cash. The company paid $2,502 cash for the premium on a 12-month insurance policy. Coverage begins on April 11. The company paid $2,300 cash for two weeks’ salaries earned by employees. The company collected $16,000 cash on commissions from airlines on tickets obtained for customers. The company paid $2,400 cash for two weeks’ salaries earned by employees. The company paid $750 cash for minor repairs to the company’s computer. The company paid $550 cash for this month’s telephone bill. Nozomi withdrew $1,200 cash from the company for personal use. wiL79549_ch04_0134-0175 07/28/2008 5:57 pm Page 163 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 163 The company’s chart of accounts follows: 101 106 124 128 167 168 209 301 302 Cash Accounts Receivable Office Supplies Prepaid Insurance Computer Equipment Accumulated Depreciation—Computer Equip. Salaries Payable J. Nozomi, Capital J. Nozomi, Withdrawals 405 612 622 637 640 650 684 688 901 Commissions Earned Depreciation Expense—Computer Equip. Salaries Expense Insurance Expense Rent Expense Office Supplies Expense Repairs Expense Telephone Expense Income Summary Required 1. Use the balance column format to set up each ledger account listed in its chart of accounts. 2. Prepare journal entries to record the transactions for April and post them to the ledger accounts. The company records prepaid and unearned items in balance sheet accounts. 3. Prepare an unadjusted trial balance as of April 30. 4. Use the following information to journalize and post adjusting entries for the month: a. Two-thirds of one month’s insurance coverage has expired. b. At the end of the month, $700 of office supplies are still available. c. This month’s depreciation on the computer equipment is $500. d. Employees earned $720 of unpaid and unrecorded salaries as of month-end. e. The company earned $3,050 of commissions that are not yet billed at month-end. 5. Prepare the income statement and the statement of owner’s equity for the month of April and the bal- ance sheet at April 30, 2009. Check (3) Unadj. trial balance totals, $74,000 (4a) Dr. Insurance Expense, $139 (5) Net income, $8,591; J. Nozomi, Capital (4/30/2009), $65,391; Total assets, $66,111 6. Prepare journal entries to close the temporary accounts and post these entries to the ledger. 7. Prepare a post-closing trial balance. $66,611 The adjusted trial balance of Charon Repairs on December 31, 2009, follows. Problem 4-3A Preparing trial balances, closing entries, and financial statements CHARON REPAIRS Adjusted Trial Balance December 31, 2009 No. 101 124 128 167 168 201 210 301 302 401 612 623 637 640 650 690 C3 P2 P3 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Office supplies . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Accounts payable . . . . . . . . . . . . . . . Wages payable . . . . . . . . . . . . . . . . . L. Charon, Capital . . . . . . . . . . . . . . . L. Charon, Withdrawals . . . . . . . . . . . Repair fees earned . . . . . . . . . . . . . . Depreciation expense—Equipment . . Wages expense . . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Office supplies expense . . . . . . . . . . . Utilities expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (7) P-C trial balance totals, . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $ 16,100 1,300 2,800 50,000 x e cel mhhe.com/wildFAP19e $ 5,000 12,000 1,400 33,000 16,000 98,600 5,000 39,000 800 13,000 3,100 2,900 $150,000 $150,000 wiL79549_ch04_0134-0175 07/30/2008 5:51 pm Page 164 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 164 Required Check (1) Ending capital balance, $51,800; net income, $34,800 (2) P-C trial balance totals, $70,200 1. Prepare an income statement and a statement of owner’s equity for the year 2009, and a classified balance sheet at December 31, 2009. There are no owner investments in 2009. 2. Enter the adjusted trial balance in the first two columns of a six-column table. Use columns three and four for closing entry information and the last two columns for a post-closing trial balance. Insert an Income Summary account as the last item in the trial balance. 3. Enter closing entry information in the six-column table and prepare journal entries for it. Analysis Component 4. Assume for this part only that a. None of the $800 insurance expense had expired during the year. Instead, assume it is a prepay- ment of the next period’s insurance protection. b. There are no earned and unpaid wages at the end of the year. (Hint: Reverse the $1,400 wages payable accrual.) Describe the financial statement changes that would result from these two assumptions. Problem 4-4A The adjusted trial balance for Tamar Construction as of December 31, 2009, follows. Preparing closing entries, financial statements, and ratios TAMAR CONSTRUCTION Adjusted Trial Balance December 31, 2009 C3 A1 P2 No. 101 104 126 128 167 168 173 174 183 201 203 208 210 213 233 251 301 302 401 406 407 409 606 612 623 633 637 640 652 682 683 684 688 690 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Short-term investments . . . . . . . . . . . Supplies . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Building . . . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Building . Land . . . . . . . . . . . . . . . . . . . . . . . . Accounts payable . . . . . . . . . . . . . . . Interest payable . . . . . . . . . . . . . . . . Rent payable . . . . . . . . . . . . . . . . . . . Wages payable . . . . . . . . . . . . . . . . . Property taxes payable . . . . . . . . . . . Unearned professional fees . . . . . . . . Long-term notes payable . . . . . . . . . . E. Tamar, Capital . . . . . . . . . . . . . . . . E. Tamar, Withdrawals . . . . . . . . . . . . Professional fees earned . . . . . . . . . . Rent earned . . . . . . . . . . . . . . . . . . . Dividends earned . . . . . . . . . . . . . . . Interest earned . . . . . . . . . . . . . . . . . Depreciation expense—Building . . . . Depreciation expense—Equipment . . Wages expense . . . . . . . . . . . . . . . . . Interest expense . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Supplies expense . . . . . . . . . . . . . . . . Postage expense . . . . . . . . . . . . . . . . Property taxes expense . . . . . . . . . . . Repairs expense . . . . . . . . . . . . . . . . Telephone expense . . . . . . . . . . . . . . Utilities expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $ 7,000 23,500 8,200 7,500 45,000 $ 22,500 162,000 54,000 66,770 17,000 2,900 3,500 2,100 900 7,100 66,000 131,700 11,000 102,000 15,000 3,000 2,200 11,880 6,750 30,500 4,700 8,900 10,900 5,500 2,500 5,000 6,200 3,100 3,000 $429,900 $429,900 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 165 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 165 E. Tamar invested $7,000 cash in the business during year 2009 (the December 31, 2008, credit balance of the E. Tamar, Capital account was $124,700). Tamar Construction is required to make a $7,500 payment on its long-term notes payable during 2010. Required 1. Prepare the income statement and the statement of owner’s equity for the calendar year 2009 and the classified balance sheet at December 31, 2009. 2. Prepare the necessary closing entries at December 31, 2009. 3. Use the information in the financial statements to compute these ratios: (a) return on assets (total assets at December 31, 2008, was $200,000), (b) debt ratio, (c) profit margin ratio (use total revenues as the denominator), and (d ) current ratio. The following unadjusted trial balance is for Archer Construction Co. as of the end of its 2009 fiscal year. The June 30, 2008, credit balance of the owner’s capital account was $55,800, and the owner invested $27,000 cash in the company during the 2009 fiscal year. Check (1) Total assets (12/31/2009), $243,470; Net income, $23,270 Problem 4-5A Preparing a work sheet, adjusting and closing entries, and financial statements C3 P1 P2 ARCHER CONSTRUCTION CO. Unadjusted Trial Balance June 30, 2009 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 No. 101 126 128 167 168 201 203 208 210 213 251 301 302 401 612 623 633 637 640 652 683 684 690 Account Title Cash Supplies Prepaid insurance Equipment Accumulated depreciation—Equipment Accounts payable Interest payable Rent payable Wages payable Property taxes payable Long-term notes payable G. Archer, Capital G. Archer, Withdrawals Construction fees earned Depreciation expense—Equipment Wages expense Interest expense Insurance expense Rent expense Supplies expense Property taxes expense Repairs expense Utilities expense Totals Debit $ Credit 17,000 7,000 5,500 149,200 $ 25,500 5,200 0 0 0 0 20,000 82,800 31,500 141,000 $ 0 40,000 2,200 0 11,000 0 4,900 2,900 3,300 274,500 $ 274,500 Required 1. Prepare a 10-column work sheet for fiscal year 2009, starting with the unadjusted trial balance and including adjustments based on these additional facts. a. The supplies available at the end of fiscal year 2009 had a cost of $2,520. b. The cost of expired insurance for the fiscal year is $3,465. c. Annual depreciation on equipment is $8,300. d. The June utilities expense of $560 is not included in the unadjusted trial balance because the bill arrived after the trial balance was prepared. The $560 amount owed needs to be recorded. e. The company’s employees have earned $1,900 of accrued wages at fiscal year-end. f. The rent expense incurred and not yet paid or recorded at fiscal year-end is $500. g. Additional property taxes of $700 have been assessed for this fiscal year but have not been paid or recorded in the accounts. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 166 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 166 Chapter 4 Completing the Accounting Cycle h. The long-term note payable bears interest at 12% per year. The unadjusted Interest Expense Check (3) Total assets, $136,955; Current liabilities, $13,560; Net income, $56,595 account equals the amount paid for the first 11 months of the 2009 fiscal year. The $200 accrued interest for June has not yet been paid or recorded. (Note that the company is required to make a $4,500 payment toward the note payable during the 2010 fiscal year.) 2. Use the work sheet to enter the adjusting and closing entries; then journalize them. 3. Prepare the income statement and the statement of owner’s equity for the year ended June 30 and the classified balance sheet at June 30, 2009. Analysis Component 4. Analyze the following separate errors and describe how each would affect the 10-column work sheet. Explain whether the error is likely to be discovered in completing the work sheet and, if not, the effect of the error on the financial statements. a. Assume that the adjustment for supplies used consisted of a credit to Supplies for $2,520 and a debit for $2,520 to Supplies Expense. b. When the adjusted trial balance in the work sheet is completed, assume that the $17,000 Cash balance is incorrectly entered in the Credit column. Problem 4-6AA Preparing adjusting, reversing, and next period entries The following six-column table for Hunter Golf Range includes the unadjusted trial balance as of December 31, 2009. HUNTER GOLF RANGE December 31, 2009 P4 Unadjusted Trial Balance Account Title Dr. Cash . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . Supplies . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . Accumulated depreciation— Equipment . . . . . . . . . . . Interest payable . . . . . . . . . Salaries payable . . . . . . . . . Unearned member fees . . . Notes payable . . . . . . . . . . A. J. Hunter, Capital . . . . . . A. J. Hunter, Withdrawals . . Member fees earned . . . . . . Depreciation expense— Equipment . . . . . . . . . . . Salaries expense . . . . . . . . . Interest expense . . . . . . . . Supplies expense . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cr. Adjustments Dr. Cr. Adjusted Trial Balance Dr. Cr. $ 10,000 0 4,230 102,000 $ 19,584 0 0 10,770 57,000 28,893 15,000 40,800 0 21,542 4,275 0 $157,047 $157,047 Required 1. Complete the six-column table by entering adjustments that reflect the following information. a. As of December 31, 2009, employees had earned $689 of unpaid and unrecorded salaries. The next payday is January 4, at which time $1,226 of salaries will be paid. b. The cost of supplies still available at December 31, 2009, is $2,076. c. The notes payable requires an interest payment to be made every three months. The amount of unrecorded accrued interest at December 31, 2009, is $1,425. The next interest payment, at an amount of $1,710, is due on January 15, 2010. d. Analysis of the unearned member fees account shows $4,308 remaining unearned at December 31, 2009. wiL79549_ch04_0134-0175 08/18/2008 10:39 am Page 167 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 167 e. In addition to the member fees included in the revenue account balance, the company has earned another $6,936 in unrecorded fees that will be collected on January 31, 2010. The company is also expected to collect $8,000 on that same day for new fees earned in January 2010. f. Depreciation expense for the year is $9,792. 2. Prepare journal entries for the adjustments entered in the six-column table for part 1. 3. Prepare journal entries to reverse the effects of the adjusting entries that involve accruals. 4. Prepare journal entries to record the cash payments and cash collections described for January. Check (1) Adjusted trial balance totals, $175,889 In the blank space beside each numbered balance sheet item, enter the letter of its balance sheet classification. If the item should not appear on the balance sheet, enter a Z in the blank. A. Current assets E. Current liabilities B. Long-term investments F. Long-term liabilities C. Plant assets G. Equity D. Intangible assets _____ 1. Rent receivable _ _____ 12. Interest receivable _ _____ 2. Salaries payable _ _____ 13. Long-term investment in stock _ _____ 3. Income taxes payable _ _____ 14. Prepaid insurance _ _____ 4. Owner, Capital _ _____ 15. Machinery _ _____ 5. Office supplies _ _____ 16. Notes payable (due in _ 15 years) _____ 6. Interest payable _ _____ 17. Copyrights _ _____ 7. Rent revenue _ _____ 18. Current portion of long-term note _ _____ 8. Notes receivable (due in 120 _ payable days) _____ 19. Accumulated depreciation—Trucks _ _____ 9. Land (used in operations) _ _____ 20. Office equipment _ _____ 10. Depreciation expense—Trucks _ _____ 11. Commissions earned _ PROBLEM SET B On July 1, 2009, Carl Park created a new self-storage business, Safe Storage Co. The following transactions occurred during the company’s first month. Problem 4-2B July 1 2 5 10 C1 C2 P2 P3 14 24 28 29 30 31 Park invested $34,000 cash and buildings worth $175,000 in the company. The company rented equipment by paying $1,500 cash for the first month’s (July) rent. The company purchased $1,300 of office supplies for cash. The company paid $3,600 cash for the premium on a 12-month insurance policy. Coverage begins on July 11. The company paid an employee $1,280 cash for two weeks’ salary earned. The company collected $11,500 cash for storage fees from customers. The company paid $1,320 cash for two weeks’ salary earned by an employee. The company paid $250 cash for minor repairs to a leaking roof. The company paid $850 cash for this month’s telephone bill. Park withdrew $2,400 cash from the company for personal use. The company’s chart of accounts follows: 101 106 124 128 173 174 209 301 302 Cash Accounts Receivable Office Supplies Prepaid Insurance Buildings Accumulated Depreciation—Buildings Salaries Payable C. Park, Capital C. Park, Withdrawals 401 606 622 637 640 650 684 688 901 Storage Fees Earned Depreciation Expense—Buildings Salaries Expense Insurance Expense Rent Expense Office Supplies Expense Repairs Expense Telephone Expense Income Summary Required 1. Use the balance column format to set up each ledger account listed in its chart of accounts. 2. Prepare journal entries to record the transactions for July and post them to the ledger accounts. Record prepaid and unearned items in balance sheet accounts. Problem 4-1B Determining balance sheet classifications C3 Applying the accounting cycle wiL79549_ch04_0134-0175 07/30/2008 5:51 pm Page 168 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 168 Chapter 4 Completing the Accounting Cycle Check (3) Unadj. trial balance totals, $220,500 3. Prepare an unadjusted trial balance as of July 31. 4. Use the following information to journalize and post adjusting entries for the month: a. Two-thirds of one month’s insurance coverage has expired. b. At the end of the month, $800 of office supplies are still available. c. This month’s depreciation on the buildings is $1,750. d. An employee earned $570 of unpaid and unrecorded salary as of month-end. e. The company earned $2,350 of storage fees that are not yet billed at month-end. 5. Prepare the income statement and the statement of owner’s equity for the month of July and the bal- (4a) Dr. Insurance Expense, $200 (5) Net income, $5,630; C. Park, Capital (7/31/2009), $212,230; Total assets, $212,800 (7) P-C trial balance totals, ance sheet at July 31, 2009. 6. Prepare journal entries to close the temporary accounts and post these entries to the ledger. 7. Prepare a post-closing trial balance. $214,550 Problem 4-3B Goldsmith Company’s adjusted trial balance on December 31, 2009, follows. Preparing trial balances, closing entries, and financial statements GOLDSMITH COMPANY Adjusted Trial Balance December 31, 2009 C3 P2 P3 No. 101 125 128 167 168 201 210 301 302 401 612 623 637 640 651 690 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Store supplies . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Accounts payable . . . . . . . . . . . . . . . Wages payable . . . . . . . . . . . . . . . . . N. Goldsmith, Capital . . . . . . . . . . . . N. Goldsmith, Withdrawals . . . . . . . . Repair fees earned . . . . . . . . . . . . . . Depreciation expense—Equipment . . Wages expense . . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Store supplies expense . . . . . . . . . . . Utilities expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $ 10,300 1,400 2,200 52,000 $ 9,000 17,000 1,300 33,400 16,500 91,500 8,500 41,500 1,000 11,400 4,400 3,000 $152,200 $152,200 Required Check (1) Ending capital balance, $38,600 (2) P-C trial balance totals, $65,900 1. Prepare an income statement and a statement of owner’s equity for the year 2009, and a classified balance sheet at December 31, 2009. There are no owner investments in 2009. 2. Enter the adjusted trial balance in the first two columns of a six-column table. Use the middle two columns for closing entry information and the last two columns for a post-closing trial balance. Insert an Income Summary account (No. 901) as the last item in the trial balance. 3. Enter closing entry information in the six-column table and prepare journal entries for it. Analysis Component 4. Assume for this part only that a. None of the $1,000 insurance expense had expired during the year. Instead, assume it is a pre- payment of the next period’s insurance protection. b. There are no earned and unpaid wages at the end of the year. (Hint: Reverse the $1,300 wages payable accrual.) Describe the financial statement changes that would result from these two assumptions. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 169 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 169 Problem 4-4B The adjusted trial balance for Myra Co. as of December 31, 2009, follows. Preparing closing entries, financial statements, and ratios MYRA COMPANY Adjusted Trial Balance December 31, 2009 No. 101 104 126 128 167 168 173 174 183 201 203 208 210 213 233 251 301 302 401 406 407 409 606 612 623 633 637 640 652 682 683 684 688 690 C3 A1 P2 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Short-term investments . . . . . . . . . . . Supplies . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Building . . . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Building . Land . . . . . . . . . . . . . . . . . . . . . . . . Accounts payable . . . . . . . . . . . . . . . Interest payable . . . . . . . . . . . . . . . . Rent payable . . . . . . . . . . . . . . . . . . . Wages payable . . . . . . . . . . . . . . . . . Property taxes payable . . . . . . . . . . . Unearned professional fees . . . . . . . . Long-term notes payable . . . . . . . . . . S. Myra, Capital . . . . . . . . . . . . . . . . . S. Myra, Withdrawals . . . . . . . . . . . . . Professional fees earned . . . . . . . . . . Rent earned . . . . . . . . . . . . . . . . . . . Dividends earned . . . . . . . . . . . . . . . Interest earned . . . . . . . . . . . . . . . . . Depreciation expense—Building . . . . Depreciation expense—Equipment . . Wages expense . . . . . . . . . . . . . . . . . Interest expense . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Supplies expense . . . . . . . . . . . . . . . . Postage expense . . . . . . . . . . . . . . . . Property taxes expense . . . . . . . . . . . Repairs expense . . . . . . . . . . . . . . . . Telephone expense . . . . . . . . . . . . . . Utilities expense . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ Credit 7,500 23,500 8,100 8,600 40,000 $ 20,000 177,000 59,000 68,120 17,000 3,000 3,500 2,500 1,300 7,900 64,500 132,600 10,300 104,000 18,000 2,500 2,300 12,980 6,000 27,500 3,800 7,700 11,300 6,100 2,800 3,400 6,900 3,200 3,300 $438,100 $438,100 S. Myra invested $7,500 cash in the business during year 2009 (the December 31, 2008, credit balance of the S. Myra, Capital account was $125,100). Myra Company is required to make a $6,000 payment on its long-term notes payable during 2010. Required 1. Prepare the income statement and the statement of owner’s equity for the calendar year 2009 and the classified balance sheet at December 31, 2009. 2. Prepare the necessary closing entries at December 31, 2009. 3. Use the information in the financial statements to calculate these ratios: (a) return on assets (total assets at December 31, 2008, were $200,000), (b) debt ratio, (c) profit margin ratio (use total revenues as the denominator), and (d ) current ratio. Check (1) Total assets (12/31/2009), $253,820; Net income, $31,820 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 170 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 170 Chapter 4 Completing the Accounting Cycle Problem 4-5B The following unadjusted trial balance is for Brawn Demolition Company as of the end of its April 30, 2009, fiscal year. The April 30, 2008, credit balance of the owner’s capital account was $51,610, and the owner invested $30,000 cash in the company during the 2009 fiscal year. Preparing a work sheet, adjusting and closing entries, and financial statements C3 P1 P2 BRAWN DEMOLITION COMPANY Unadjusted Trial Balance April 30, 2009 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 No. 101 126 128 167 168 201 203 208 210 213 251 301 302 401 612 623 633 637 640 652 683 684 690 Account Title Cash Supplies Prepaid insurance Equipment Accumulated depreciation—Equipment Accounts payable Interest payable Rent payable Wages payable Property taxes payable Long-term notes payable J. Brawn, Capital J. Brawn, Withdrawals Demolition fees earned Depreciation expense—Equipment Wages expense Interest expense Insurance expense Rent expense Supplies expense Property taxes expense Repairs expense Utilities expense Totals Debit $ Credit 17,000 9,500 6,500 140,460 $ 22,000 6,000 0 0 0 0 25,000 81,610 25,500 140,000 $ 0 48,000 2,750 0 15,400 0 4,400 2,100 3,000 274,610 $ 274,610 Required 1. Prepare a 10-column work sheet for fiscal year 2009, starting with the unadjusted trial balance and Check (3) Total assets, $130,285; current liabilities, $15,230; Net income, $38,945 including adjustments based on these additional facts. a. The supplies available at the end of fiscal year 2009 had a cost of $3,420. b. The cost of expired insurance for the fiscal year is $4,095. c. Annual depreciation on equipment is $11,000. d. The April utilities expense of $580 is not included in the unadjusted trial balance because the bill arrived after the trial balance was prepared. The $580 amount owed needs to be recorded. e. The company’s employees have earned $1,500 of accrued wages at fiscal year-end. f. The rent expense incurred and not yet paid or recorded at fiscal year-end is $1,400. g. Additional property taxes of $500 have been assessed for this fiscal year but have not been paid or recorded in the accounts. h. The long-term note payable bears interest at 12% per year. The unadjusted Interest Expense account equals the amount paid for the first 11 months of the 2009 fiscal year. The $250 accrued interest for April has not yet been paid or recorded. (Note that the company is required to make a $5,000 payment toward the note payable during the 2010 fiscal year.) 2. Enter the adjusting and closing entry information in the work sheet; then journalize it. 3. Prepare the income statement and the statement of owner’s equity for the year ended April 30 and the classified balance sheet at April 30, 2009. Analysis Component 4. Analyze the following separate errors and describe how each would affect the 10-column work sheet. Explain whether the error is likely to be discovered in completing the work sheet and, if not, the effect of the error on the financial statements. wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 171 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 171 a. Assume the adjustment for expiration of the insurance coverage consisted of a credit to Prepaid Insurance for $2,405 and a debit for $2,405 to Insurance Expense. b. When the adjusted trial balance in the work sheet is completed, assume that the $2,100 Repairs Expense account balance is extended to the Debit column of the balance sheet columns. The following six-column table for Oberst Co. includes the unadjusted trial balance as of December 31, 2009. OBERST COMPANY December 31, 2009 Unadjusted Trial Balance Account Title Dr. Cash . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . Supplies . . . . . . . . . . . . . . Machinery . . . . . . . . . . . . . Accumulated depreciation— Machinery . . . . . . . . . . . Interest payable . . . . . . . . . Salaries payable . . . . . . . . . Unearned rental fees . . . . . Notes payable . . . . . . . . . . B. Oberst, Capital . . . . . . . B. Oberst, Withdrawals . . . . Rental fees earned . . . . . . . Depreciation expense— Machinery . . . . . . . . . . . Salaries expense . . . . . . . . Interest expense . . . . . . . . Supplies expense . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cr. Problem 4-6BA Preparing adjusting, reversing, and next period entries P4 Adjustments Dr. Cr. Adjusted Trial Balance Dr. Cr. $ 18,500 0 7,825 188,700 $ 36,230 0 0 19,924 54,000 101,044 27,750 75,480 0 39,853 4,050 0 $286,678 $286,678 Required 1. Complete the six-column table by entering adjustments that reflect the following information: a. As of December 31, 2009, employees had earned $1,275 of unpaid and unrecorded wages. The next payday is January 4, at which time $2,269 in wages will be paid. b. The cost of supplies still available at December 31, 2009, is $3,842. c. The notes payable requires an interest payment to be made every three months. The amount of unrecorded accrued interest at December 31, 2009, is $1,350. The next interest payment, at an amount of $1,620, is due on January 15, 2010. d. Analysis of the unearned rental fees shows that $7,969 remains unearned at December 31, 2009. e. In addition to the machinery rental fees included in the revenue account balance, the company has earned another $12,831 in unrecorded fees that will be collected on January 31, 2010. The company is also expected to collect $8,000 on that same day for new fees earned in January 2010. f. Depreciation expense for the year is $18,115. 2. Prepare journal entries for the adjustments entered in the six-column table for part 1. 3. Prepare journal entries to reverse the effects of the adjusting entries that involve accruals. 4. Prepare journal entries to record the cash payments and cash collections described for January. Check (1) Adjusted trial balance totals, $320,249 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 172 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 172 Chapter 4 Completing the Accounting Cycle SERIAL PROBLEM (This serial problem began in Chapter 1 and continues through most of the book. If previous chapter segments were not completed, the serial problem can begin at this point. It is helpful, but not necessary, to use the Working Papers that accompany the book.) Success Systems P2 P3 SP 4 The December 31, 2009, adjusted trial balance of Success Systems (reflecting its transactions from October through December of 2009) follows. No. 101 106 126 128 131 163 164 167 168 201 210 236 301 302 403 612 613 623 637 640 652 655 676 677 684 901 Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accounts receivable . . . . . . . . . . . . . . . . . . . . . Computer supplies . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . . . . . . . . . Prepaid rent . . . . . . . . . . . . . . . . . . . . . . . . . . . Office equipment . . . . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Office equipment . . . Computer equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Computer equipment Accounts payable . . . . . . . . . . . . . . . . . . . . . . . Wages payable . . . . . . . . . . . . . . . . . . . . . . . . . Unearned computer services revenue . . . . . . . . A. Lopez, Capital . . . . . . . . . . . . . . . . . . . . . . . . A. Lopez, Withdrawals . . . . . . . . . . . . . . . . . . . . Computer services revenue . . . . . . . . . . . . . . . . Depreciation expense—Office equipment . . . . . . Depreciation expense—Computer equipment . . Wages expense . . . . . . . . . . . . . . . . . . . . . . . . Insurance expense . . . . . . . . . . . . . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . . . . . . . . . Computer supplies expense . . . . . . . . . . . . . . . Advertising expense . . . . . . . . . . . . . . . . . . . . . Mileage expense . . . . . . . . . . . . . . . . . . . . . . . . Miscellaneous expenses . . . . . . . . . . . . . . . . . . . Repairs expense—Computer . . . . . . . . . . . . . . . Income summary . . . . . . . . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $ 58,160 5,668 580 1,665 825 8,000 $ 400 20,000 1,250 1,100 500 1,500 83,000 7,100 31,284 400 1,250 3,875 555 2,475 3,065 2,965 896 250 1,305 $119,034 0 $119,034 Required Check Post-closing trial balance totals, $94,898 1. Record and post the necessary closing entries for Success Systems. 2. Prepare a post-closing trial balance as of December 31, 2009. BEYOND THE NUMBERS REPORTING IN ACTION C1 P2 BTN 4-1 Refer to Best Buy’s financial statements in Appendix A to answer the following. Required 1. For the fiscal year ended March 3, 2007, what amount is credited to Income Summary to summarize its revenues earned? 2. For the fiscal year ended March 3, 2007, what amount is debited to Income Summary to summarize its expenses incurred? wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 173 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 173 3. For the fiscal year ended March 3, 2007, what is the balance of its Income Summary account before it is closed? 4. In its statement of cash flows for the year ended March 3, 2007, what amount of cash is paid in div- idends to common stockholders? Fast Forward 5. Access Best Buy’s annual report for fiscal years ending after March 3, 2007, at its Website (BestBuy.com) or the SEC’s EDGAR database (www.SEC.gov). How has the amount of net income closed to Income Summary changed in the fiscal years ending after March 3, 2007? How has the amount of cash paid as dividends changed in the fiscal years ending after March 3, 2007? BTN 4-2 Key figures for the recent two years of Best Buy and RadioShack follow. Key Figures ($ thousands) Current assets . . . . . . . . . . Current liabilities . . . . . . . . Best Buy RadioShack Current Year Prior Year Current Year $7,985 6,056 $1,600 984 A1 Prior Year $9,081 6,301 COMPARATIVE ANALYSIS $1,627 986 Required 1. 2. 3. 4. Compute the current ratio for both years for both companies. Which company has the better ability to pay short-term obligations according to the current ratio? Analyze and comment on each company’s current ratios for the past two years. How do Best Buy’s and RadioShack’s current ratios compare to their industry average ratio of 1.6? BTN 4-3 On January 20, 2009, Tamira Nelson, the accountant for Picton Enterprises, is feeling pressure to complete the annual financial statements. The company president has said he needs up-to-date financial statements to share with the bank on January 21 at a dinner meeting that has been called to discuss Picton’s obtaining loan financing for a special building project. Tamira knows that she will not be able to gather all the needed information in the next 24 hours to prepare the entire set of adjusting entries that must be posted before the financial statements accurately portray the company’s performance and financial position for the fiscal period ended December 31, 2008. Tamira ultimately decides to estimate several expense accruals at the last minute. When deciding on estimates for the expenses, she uses low estimates because she does not want to make the financial statements look worse than they are. Tamira finishes the financial statements before the deadline and gives them to the president without mentioning that several account balances are estimates that she provided. ETHICS CHALLENGE C2 Required 1. Identify several courses of action that Tamira could have taken instead of the one she took. 2. If you were in Tamira’s situation, what would you have done? Briefly justify your response. BTN 4-4 Assume that one of your classmates states that a company’s books should be ongoing and therefore not closed until that business is terminated. Write a half-page memo to this classmate explaining the concept of the closing process by drawing analogies between (1) a scoreboard for an athletic event and the revenue and expense accounts of a business or (2) a sports team’s record book and the capital account. (Hint: Think about what would happen if the scoreboard is not cleared before the start of a new game.) COMMUNICATING IN PRACTICE C1 P2 wiL79549_ch04_0134-0175 07/26/2008 4:10 pm Page 174 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: 174 Chapter 4 Completing the Accounting Cycle TAKING IT TO THE NET BTN 4-5 Access Motley Fool’s discussion of the current ratio at Fool.com/School/Valuation/ CurrentAndQuickRatio.htm. (If the page changed, search that site for the current ratio.) A1 Required 1. What level for the current ratio is generally regarded as sufficient to meet near-term operating needs? 2. Once you have calculated the current ratio for a company, what should you compare it against? 3. What are the implications for a company that has a current ratio that is too high? TEAMWORK IN ACTION P1 P2 P3 BTN 4-6 The unadjusted trial balance and information for the accounting adjustments of Noseworthy Investigators follow. Each team member involved in this project is to assume one of the four responsibilities listed. After completing each of these responsibilities, the team should work together to prove the accounting equation utilizing information from teammates (1 and 4). If your equation does not balance, you are to work as a team to resolve the error. The team’s goal is to complete the task as quickly and accurately as possible. Unadjusted Trial Balance Account Title Cash . . . . . . . . . . . . . . . . . . . . . . . . Supplies . . . . . . . . . . . . . . . . . . . . . . Prepaid insurance . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . Accumulated depreciation—Equipment Accounts payable . . . . . . . . . . . . . . . D. Noseworthy, Capital . . . . . . . . . . . D. Noseworthy, Withdrawals . . . . . . . Investigation fees earned . . . . . . . . . . Rent expense . . . . . . . . . . . . . . . . . . Totals . . . . . . . . . . . . . . . . . . . . . . . . Debit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Credit $16,000 12,000 3,000 25,000 $ 7,000 3,000 34,000 6,000 33,000 15,000 $77,000 $77,000 Additional Year-End Information a. b. c. d. Insurance that expired in the current period amounts to $2,200. Equipment depreciation for the period is $4,000. Unused supplies total $5,000 at period-end. Services in the amount of $800 have been provided but have not been billed or collected. Responsibilities for Individual Team Members 1. Determine the accounts and adjusted balances to be extended to the balance sheet columns of the work sheet for Noseworthy. Also determine total assets and total liabilities. 2. Determine the adjusted revenue account balance and prepare the entry to close this account. 3. Determine the adjusted account balances for expenses and prepare the entry to close these accounts. 4. Prepare T-accounts for both D. Noseworthy, Capital (reflecting the unadjusted trial balance amount) and Income Summary. Prepare the third and fourth closing entries. Ask teammates assigned to parts 2 and 3 for the postings for Income Summary. Obtain amounts to complete the third closing entry and post both the third and fourth closing entries. Provide the team with the ending capital account balance. 5. The entire team should prove the accounting equation using post-closing balances. ENTREPRENEURIAL DECISION A1 C3 P2 BTN 4-7 Review this chapter’s opening feature involving Kathryn Kerrigan and her shoe business. 1. Explain how a classified balance sheet can help Kathryn Kerrigan know what bills are due when, and whether she has the resources to pay those bills. wiL79549_ch04_0134-0175 08/18/2008 10:39 am Page 175 pinnacle 201:MHBR055:mhwiL19:wiL19ch04: Chapter 4 Completing the Accounting Cycle 175 2. Why is it important for Kathryn Kerrigan to match costs and revenues in a specific time period? How do closing entries help her in this regard? 3. What objectives are met when Kathryn Kerrigan applies closing procedures each fiscal year-end? BTN 4-8 Select a company that you can visit in person or interview on the telephone. Call ahead to the company to arrange a time when you can interview an employee (preferably an accountant) who helps prepare the annual financial statements. Inquire about the following aspects of its accounting cycle: 1. Does the company prepare interim financial statements? What time period(s) is used for interim statements? 2. Does the company use the cash or accrual basis of accounting? 3. Does the company use a work sheet in preparing financial statements? Why or why not? 4. Does the company use a spreadsheet program? If so, which software program is used? 5. How long does it take after the end of its reporting period to complete annual statements? HITTING THE ROAD BTN 4-9 DSG international plc is the United Kingdom’s largest retailer of consumer electronics. Access its financial statements for the year ended April 28, 2007, at the company’s Website (www.DSGiplc.com). The following selected information is available from DSG’s financial statements. GLOBAL DECISION (£ millions) Current assets . . . . . . . . . Current liabilities . . . . . . . Current Year Prior Year £2,067 1,869 £2,094 1,749 Required 1. Compute DSG’s current ratio for both the current year and the prior year. 2. Comment on any change from the prior year to the current year for the current ratio. ANSWERS TO MULTIPLE CHOICE QUIZ 1. e 2. c 3. a 4. c 5. b C2 A1 ...
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This note was uploaded on 10/16/2011 for the course ACC 111 taught by Professor Jessicajones during the Fall '09 term at Chandler-Gilbert Community College.

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