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This 8 page Class Notes was uploaded by Tala Rafii on Saturday September 24, 2016. The Class Notes belongs to ACCN 2010 at Tulane University taught by Christine Smith in Summer 2015. Since its upload, it has received 4 views. For similar materials see Financial Accounting in Business at Tulane University.
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Date Created: 09/24/16
Financial Accounting Week 4 Bold: key word Green: definition Yellow: important Red: very important è: Therefore, consequently Tuesday, September 19 , 2016 Let’s go back to our accounting cycle problem. Remember: Our initial point of entry into the accounting system: the General Journal. Trans.date Transaction# Account Debit Credit 7/17/14 9 Cash 3,900 Accounts Receivable 3,900 7/26/14 10 Wage Expense 2,600 Cash 2,600 7/31/14 11 Delivery Van Expense 450 Accounts Payable 450 7/31/14 12 Accounts Receivable 4,700 Service Revenue 4,700 7/31/14 13 Accounts Payable 500 Cash 500 7/31/14 14 C. Smith, Drawing 750 Cash 750 Comments: Transaction 12: Accounts Receivable: we have a claim to cash which represents a future economic benefit. We can also call Service Revenue “Fees Earned” à it is an Owner’s Equity account. [At the end of the period, Revenue and Expense accounts, which are temporary, will be closed intro the Owner’s Equity account.] Transaction 13: “We are paying on account”= we are paying on an account that we have previously credited, we will pay later. Transaction 14: C. Smith, Drawing: it is an Owner’s Equity account à it shows change in Christine’s claims against the assets. à By this account, we want to show that Christine’s claims went down. How do we show this? By debiting. è The C. Smith, Drawing account is increased by a debit. On our statement of Owner’s Equity, we have to show the reasons of decreases and increases à this is why we have several Owner’s Equity accounts. à We journalized and posted the transactions into our General Ledger. Now, we will prepare a Trial Balance à to make sure that in the process of journalizing and posting, we have respected the rules of Debit and Credit. Financial Accounting Week 4 -First, we add up the transactions of each account. -A Trial Balance is NOT a financial statement. Now, we will prepare an unadjusted Trial Balance. Christine’s Catering Service Unadjusted Trial Balance As at July 31 , 2014 Account Debit Credit Cash $ 150 Supplies 3,300 Equipment 2,400 Delivery Van 4,200 Prepaid Rent 4,000 Prepaid Insurance 1,200 Accounts Receivable 5,300 Unearned Catering Fees $ 5,400 Accounts Payable 2,250 C. Smith, Capital 10,000 C. Smith, Drawing 750 Fees Earned 9,200 Wages 5,100 Delivery Van Expense 450 TOTAL $ 26,850 $ 26,850 Having Debits=Credits simply means that in the process of journalizing and posting, we followed the rules of Debit and Credit. à What could happen? A misclassification, omitting a transaction, wrong values, etc. à We should be aware of the Trial Balance’s weaknesses. When we get to this point of the process, we should look at the Trial Balance and ask ourselves: “In light of everything I know about this business, do these amounts reflect reality?” à No, we need to adjust entries. On the handout: there are 7 things we should think about. We will go through each of the entries in the Trial Balance and ask ourselves if it reflects reality. Adjusting Entries: With the passage of time, a part of our assets has been used/ consumed. General Journal Transaction Transaction date # Account Debit Credit 7/31/14 A Insurance Expense 100 Financial Accounting Week 4 Prepaid Insurance 100 7/31/14 B Rent Expense 1,000 Prepaid Rent 1,000 7/31/14 C Unearned Revenue 1,800 Earned Revenue 1,800 7/31/14 D Catering Expense 2,100 Supplies 2,100 Comments: A) One month of Insurance has expired. We had purchased a 12-months insurance à every month, we are incurring a cost of $100. B) We had paid the landlord 4 months of rent, and now one month has passed à we need an adjusting entry. During the month of July, we have used 1/4 è $1,000 have gone from being an unused cost (asset) to a being a used cost (expense). At the end of the month, we should know that a part of our asset has been used and became a cost. C) We had received $5,400 of Cash, representing 3 months of catering. 5,400/3=1,800 è 1,800 of the unearned revenue has now become earned. One month has elapsed, so we can take 1,800 of that 5,400 and debit Earned Fees (liability) and credit Earned Fees. D) Now, we take a look at the physical ending inventory count at the end of the accounting period. We have $1,200 of supplies on hand. 1 3,300 – 1,200 = 2,100 à during the period, Christine consumed $2,100. Instead of calling the account Catering Expense, we can call it Cost of Goods Sold (COGS). Transaction Transaction date # Account Debit Credit 7/31/14 A Insurance Expense 100 Prepaid Insurance 100 7/31/14 B Rent Expense 1,000 Prepaid Rent 1,000 7/31/14 C Unearned Revenue 1,800 Earned Revenue 1,800 7/31/14 D Catering Expense 2,100 Supplies 2,100 7/31/14 E Wage Expense 900 Wages Payable 900 7/31/14 F DepreciationExpenseVan 70 AccumulatedDepreciationVan 70 7/31/14 G DepreciationExpenseEquipment 50 1 Beginning amount. Financial Accounting Week 4 AccumulatedDeprEquipment 50 Comments: E) Accrued Wages is $900. We are telling the story for the month ended July 31 .t The last time we paid wages was July 26 à those employees worked and th st earned wages of $900 between July 27 and 31 à it’s a liability because non- owners have claims against our assets, it this case employees. Our employees worked for us but it was not the end of the pay period. The pay period and accounting recording period did not coincide. We must record these costs of the period according to the Matching Principle à if I don’t record Accrued Wages, I am not properly matching Revenues and Expenses. On 8/9/14, we will pay a Payroll of $2,500. We will then have: Account Debit Credit Wages Payable 900 Wages Expense 1,600 Cash 2,500 F) We have to move them from being part of our Balance Sheet (Assets/Unused Costs) to being Expenses. We say that the Delivery Van will help us generate revenue for 5 years. The Van has cost us $4,200. 4,200/(5x12) = $70/month. Instead of crediting Delivery Van directly, GAAP says we have to credit a contra-asset account called Accumulated Depreciation, or Accumulated Depreciation Van. à Why do we need to prepare a contra-asset account for Equipment and not Prepaid Rent or Prepaid Insurance? Because it is not a current asset (< 1 year here). GAAP says that for long-term operation assets, we need to keep the historical cost in a separate account. G) The Equipment has a historical cost of $2,400. We consider it is going to help us generate revenue for 4 years. 2,400/(4 x 12) = $50/month. All adjusting entries have the same date: the last day of the accounting period. Now, we will prepare the Adjusted Trial Balance, because the last one does not include all the adjusting entries. We go to our General Ledger T-accounts, we total them and in the Adjusted Trial Balance, we list all the accounts with their totals. Christine’s Catering Service Adjusted Trial Balance As at July 31 , 2014 Account Debit Credit Cash $ 150 Supplies 1,200 2 2 The physical count said there was $1,200 of supplies left. Financial Accounting Week 4 Prepaid Rent 3,000 Prepaid Insurance 1,100 Accounts Receivable 5,300 Equipment 2,400 AccumulatedDeprEquip 50 Delivery Van 4,200 AccumulatedDeprVan 70 Unearned Fees 3,6003 Accrued Wages 900 Accounts Payable 2,250 C. Smith, Capital 10,000 C. Smith, Drawing 750 Fees Earned 11,000 Wages 6,000 Delivery Van Expense 450 Insurance Expense 100 Rent Expense 1,000 Supplies Expense 2,100 DepreciationExpVan 70 DeprExpEquipment 50 TOTAL 27,870 27,870 Our Debits equal our Credits, so we will assume that we are good to go. Now, we are ready to prepare our Financial Statements. We want to show how good the company did at running the business during that period of time. Success if Revenues>Expenses, in other words: the extent to which the increase of Owner’s Equity (Revenue) is more than the decrease in Owner’s Equity (Expense). Christine’s Catering Services Income Statement st For the Month Ended January 31 , 2014 REVENUES: Fees Earned $ 11,000 EXPENSES: Wages $ 6,000 Supplies 2,100 Delivery Van Expense 450 Rent 1,000 Insurance 100 Depreciation Exp Van 70 3 We still have to perform 2 months worth of services. Financial Accounting Week 4 Depreciation Exp Equip 50 Total expenses 9,770 NET INCOME: $ 1,230 Net assets=Equity=Net income= $ 1,230 The net increase of the assets is ALL to the owners. We cannot spend the $ 1,230 because it is NOT cash. à It is the net increase in Owner’s Claims because they successfully operated the business during the month. Christine’s Catering Services Statement of Owner’s Equity/Capital For the month ended January 31 , 2014 st C. Smith, Capital at July 1 , 2014 $ 0 Contributed Capital 10,000 $ 10,000 Net Income 4 1,230 $ 11,230 C. Smith, Drawing (750) C. Smith, Capital at January 31, 2009 $ 10,480 We do this to show the users how the owner’s claims against the net assets changed during the period. The Statement of Owner’s Equity is our bridge statement: it is the link between the Income Statement and the Balance Sheet, because the $ 10,480 will appear in our Balance Sheet under Owner’s Equity. Now, we are telling what we own (Assets), what we owe (Liabilities) and the owner’s residual. We prepare a classified Balance Sheet, as to current and long-term. Here, if the asset will be used or consumed to help us generate revenue in a year or less, it is a current asset. Long term tangible operational assets=Fixed Assets=Property, Plant and Equipment. Current Liability: the obligation will be paid off in a year or less. 4 The Net Income is the Earned Capital. Financial Accounting Week 4 Christine’s Catering Services Balance Sheet As at January 31 , 2014 ASSETS: Current: Cash $ 150 Supplies 1,200 Prepaid Rent 3,000 Prepaid Insurance 1,100 Accounts Receivable 5,300 Total Current Assets $ 10,750 Property, Plant and Equipment: Equipment $ 2,400 Less Accumulated Depreciation 50 Net Equipment 2,350 Delivery Van 4,200 Less Accumulated Depreciation 70 Net Delivery Van 4,130 Total Property, Plant and Equipment $ 6,480 TOTAL ASSETS: $ 17,230 LIABILITIES: Current Liabilities: Unearned Fees $ 3,600 Accrued Wages 900 Accounts Payable 2,250 Total Current Liabilities $ 6,750 OWNER’S EQUITY: C. Smith, Capital $ 10,480 TOTAL LIABILITIES AND OWNER’S EQUITY: $ 17,230 Afterwards, we have the last financial statement: Cash Flows Next step in our accounting cycle. We have to close entries all of our temporary Owner’s Equity’s accounts, i.e. Revenues and Expenses. à They will become equal to zero. When I start they cycle all over again tomorrow, I am recording and measuring success for the next accounting period. Financial Accounting Week 4 Additional Information: o We record Revenues and Expenses not when Cash comes in or out, but when we’ve earned the Revenue or incurred the Expense (à accrual basis). o News the past week: Wells Fargo. Employees created false bank accounts. They took existing customer’s accounts, opened a new checking account for these clients and transferred some money to the new accounts. The incentive was the bonus model, which was: if they can reach this goal of opening X number of new accounts, they get X bonus à the tone of the top executive was “reach these numbers at any cost”. Once the employees reached the minimum days to open the accounts until they receive their checks, they closed the accounts. à How did it get figured out? When a new account opens, people start getting mails saying “Welcome to Wells Fargo”. With our technological advances, there is a positive and a negative side. o The General Journal is chronological. The Ledger continues on forever. o With the passage of time, through the one month of operating activities, we have received the benefits of our unused costs, which have become used costs. o The adjusting entries are very important. Without them, we would have other numbers in our Financial Statements. o Owner’s claims increase either through Contributed Capital or Earned Capital.