ADJUSTING ENTRIES

Adjusting for Accruals 2. Prepaid expense

 Paid in advance but have not yet been
1. Accrued income incurred, and thus assets
 Income earned but not yet collected  Ex. Prepaid insurance, prepaid taxes, prepaid
 Ex. Accrued rental receivable, Accrued rent, supplies etc.
interest receivable, Accrued royalties
Proforma entries:
receivable etc.
a. Asset method – (use this if problem is silent)
Proforma entry:
Prepaid asset xx
Accounts receivable xx INITIAL ENTRY
Cash xx
Revenue xx

Expense xx
ADJUSTING ENTRY
2. Accrued expense Prepaid asset xx
 Expense incurred but not yet paid
 Ex. Accrued salaries payable, accrued interest USED PORTION

payable, accrued rental payable etc.

b. Expense method
Proforma entry:
Expense xx
Expense xx INITIAL ENTRY
Cash xx
Accounts payable xx

Prepaid asset xx
Adjusting for Deferrals Expense xx
ADJUSTING ENTRY

1. Deferred income UNUSED PORTION

 Cash already collected from customers, but

service is not yet performed. Estimates
 Aka Deferred income which is a Liability
account
 Ex. Unearned rental income, unearned 1. Depreciation – systematic allocation of the
interest income depreciable amount of an asset over its useful life

Proforma entries: Proforma entry:

a. Liability method – (use this if problem is silent)
Depreciation expense xx
Cash xx Accumulated depreciation xx
INITIAL ENTRY
Unearned revenue xx Methods:

a. Straight line method

Unearned revenue xx
ADJUSTING ENTRY  The annual depreciation charge is calculated
Revenue xx
by allocating the depreciable amount equally
over the number of years of useful life
EARNED PORTION

Formula:
b. Income method
Historical cost XX
Cash xx
INITIAL ENTRY
Revenue xx Less: Residual value (XX)

Depreciable amount XXX

Revenue xx
ADJUSTING ENTRY
Unearned Revenue xx Divide: Useful life XX

Depreciation expense each period XXX

UNEARNED PORTION
ADJUSTING ENTRIES

To compute for the book value:

ACCOUNT RECEIVABLE
Historical cost XX
Beginning balance Collections
Less : Accum. depreciation (XX) (including recovery)
Credit sales
Book value XXX Beginning balance
Recovery Write-off

b. Diminishing balance method

 Provide higher depreciation in the earlier years Ending balance
and lower depreciation in the later years
 Includes Sum of years digits method and
Ending balance of A/R XX
double declining balance method
Less: ADA, end XX
Net Realizable Value XXX
Sum of years digits method

Step 1: Compute for SYDx ALLOW. FOR DOUBTFUL ACCOUNTS

n (n + 1/n) Write off Beginning balance

Where; Recoveries
n = useful life
Doubtful accounts
Step 2: Compute for depreciable amount expense

Step 3: to get the depreciation multiply the Ending balance

depreciable amount to the fraction of remaining
life and SYDx
CASH TO ACCRUAL
Depreciable amount x Remaining life
SYDx Prior Current Subsequent
Accrued Beg. Earned Collected -
income End - Earned Collected
Double Declining Balance Method Deferred Beg. Collected Earned -
income End - Collected Earned
Step 1: Compute for DDM rate Accrued Beg. Incurred Paid -
expense End Incurred Paid
Useful life x 2 Prepaid Beg. Paid Incurred -
100 expense End. - Paid Incurred

Step 2: Get the book value

 Accrued income, beg. is deducted from income-
Step 3: Multiply the DDM rate to the book value to cash basis of the current period because it was
get the depreciation already earned in the prior period but only collected
in the current period.
Note: Residual value will only be considered in the last year of the
asset  Accrued income, end is added to income-cash basis
of the current period because it was earned in the
2. Uncollectible – represents some accounts that current period but not yet collected that is why it is not
will never be collected. yet included in the income under cash basis.

Proforma entry:  Deferred income, beg. is added to income-cash basis

of the current period because it was earned in the
Doubtful accounts expense xx
current period but already collected in the prior
Allowance for doubtful accounts xx period that is why it is not yet included in the income
under cash basis.

 Deferred income, end is deducted from income-cash

basis of the current period because it is not yet earned
in the current period but already collected in
advance in the current period.
ADJUSTING ENTRIES

 Accrued expense, beg. is deducted incurred in the

basis of the Accrued period because it was already
incurred in the prior period but only paid in the current
period.

 Accrued expense, end is added to expense-cash

basis of the current period because it was incurred in
the current period but not yet paid that is why it is not
yet included in the expense under cash basis.

 Prepaid expense, beg. is added to expense-cash

basis of the current period because it was incurred in
the current period but already paid in the prior period
that is why it is not yet included in the expense under
cash basis.

 Prepaid expense, end is deducted from expense-cash

basis of the current period because it was not yet
incurred in the current period but already paid in
advance.

FORMULA:

Income – Cash basis xx

Add: Deferred income, beg xx
Accrued income, end xx
Less: Deferred income, end (xx)
Accrued income, beg (xx)
Income – Accrual basis xxx

Expense – Cash basis xx

Add: Prepaid expense, beg xx
Accrued expense, end xx
Less: Prepaid expense, end (xx)
Accrued expense, beg (xx)
Expense – Accrual basis xxx
 ADJUSTING ENTRIES ACTIVITY
TRUE OR FALSE
1. The matching principle requires that efforts be matched with accomplishments.
2. In general, adjusting entries are required each time financial statements are prepared.
3. When a prepaid expense is initially debited to an expense account, expenses and assets are both overstated
prior to adjustment.
4. The time period assumption states that the economic life of a business entity can be divided into artificial
time periods.

MULTIPLE CHOICE
5. An accounting time period that is one year in length, but does not begin on January 1, is referred to as
a. a fiscal year. c. the time period assumption.
b. an interim period. d. a reporting period.

6. Which statement is correct?

a. As long as a company consistently uses the cash basis of accounting, generally accepted accounting
principles allow its use.
b. The use of the cash basis of accounting violates both the revenue recognition and matching principles.
c. The cash basis of accounting is objective because no one can be certain of the amount of revenue until
the cash is received.
d. As long as management is ethical, there are no problems with using the cash basis of accounting.

7. An adjusting entry
a. affects two balance sheet accounts. c. affects a balance sheet account and
b. affects two income statement an income statement account.
accounts. d. Is always compound entry

PROBLEMS
8. Neil Company purchased a truck from Cute Co. by issuing a 6-month, 8% note payable for P60,000 on
November 1. On December 31, the accrued expense adjusting entry is

9. Nick is a lawyer who requires that his clients pay him in advance of legal services rendered. Nick routinely
credits Legal Service Revenue when his clients pay him in advance. In June Nick collected P12,000 in
advance fees and completed 75% of the work related to these fees. What adjusting entry is required by Nick’s
firm at the end of June?

Beef Company had the following transactions during 2024.

• Sales of P4,500 on account
• Collected P2,000 for services to be performed in 2025
• Paid P625 cash in salaries
• Purchased airline tickets for P250 in December for a trip to take place in 2025

10. What is Beef’s 2024 net income using accrual accounting?

11. What is Beef’s 2024 net income using cash basis accounting?
 ABC company purchased an equipment on June 1, 2024 for P15,000,000. The company estimated that after
8 years the equipment will only be P1,500,000. After the third year of using the equipment, the company
decided to sell the equipment for P7,500,000. The company take a full year depreciation at the year of
acquisition.

12. If the company uses sum of years digits method to depreciate its equipment what amount should be
recorded as depreciation for 2025?
13. What amount of gain or loss the company should recognize in 2026?

On January 1, 2024 an entity borrows P10,000,000 from a bank. Interest is payable annually at 8% while
Principal payment of P2,000,000 is payable every December 31.

14. Compute for interest expense for the year 2024

15. Compute for interest expense for the year 2027

BONUS QUESTION

Assuming that the principal will be paid in full after 5 years compute for interest income the company should
recorded at 2028?
FINANCIAL STATEMENTS

Financial Statements Statement of financial Performance

 Financial statements are the means by which the  Single: Income and expense for the period
information accumulated and processed in financial  Two statements: a statement showing components
accounting is periodically communicated to the of profit or loss (separate income statement) and
users. second statement that starts with profit or loss and
 End product or main output of financial accounting displays components of comprehensive income
process.  Income statement is the result of entity’s operation
 Can be referred to as general purpose financial  It measures the level of income
statements as it is intended to meet the needs of  Information about financial performance is useful in
common users and not specific users predicting future performance and ability to
 Prepared at least annually generate future cash flows
 Presentation: Functional and natural (for
Complete set of Financial Statements merchandising business)
 If income > expense there is a net income/ profit
1. Statement of financial position at the end of the
 If income < expense there is a net loss
period
2. Statement of financial performance for the period
Statement of Changes in Equity
3. Statement of changes in equity for the period
4. Statement of cashflows  Summarizes the changes that occurred in owner’s
5. Notes equity
6. Comparative financial statements  Increases: arises from profit and additional capital
investment
 Decreases: arises from loss and withdrawals by the
Note: 1-4 is the face of financial statements
owner

Objective of Financial Statements Statement of cash flows

The objective of general-purpose financial  Summarizes the operating, investing, and financing
statements is to provide information about the financial activities of an entity
position, financial performance, and cash flows of an  Provides information about cash receipts and cash
entity that is useful to a wide range of users in making payments during the period
economic decisions. To meet that objective, financial
statements provide information about an entity's: Cash flows from operating activities
 assets  Derived primarily from the principal revenue
 liabilities producing activities of the entity
 equity  Includes: Current assets, Current liability, Income,
Expenses (normal business operation)
 income and expenses(including gains and
losses)
Cash flows from investing activities
 contributions by and distributions to owners (in
 Derived from the acquisition and disposal of long-
their capacity as owners)
term assets and other investment
 cash flows.
 Includes: Non-current assets

Statement of financial Position Cash flows from financing activities

 Derived from equity capital and borrowings of the
 Shows Assets, Liabilities, and equity
entity
 Helps investors, creditors, and other statement users
 Includes: Non-current liability, Owner’s investment,
to evaluate liquidity, solvency, and need for
withdrawals
additional financing
 Format: Report form (vertical); Account form Special note:
(Horizontal) Treatment for Interest
Classification a) Interest received
 Assets – current and non-current (presentation 1. Operating (if silent)
base on liquidity) 2. Investing (alternative)
 Liability- Current and non - current
FINANCIAL STATEMENTS

b) Interest paid
1. Operating (if silent)
2. Financing (alternative)

Treatment for dividends

a) Dividends received
1. Operating (if silent)
2. Investing (alternative)
b) Dividends paid
1. Financing (if silent)
2. Operating (alternative)

Methods of Presenting cash flow activities

1. Direct method
2. Indirect method

Indirect method

 Adjusts net income or loss for the effects of

noncash transactions
 Starts with accrual basis net income
 Applicable for computing the net cash flow
from operating activities

Following guidelines to consider:

1. Increases in current assets should be deducted

2. Decreases in current assets should be added
3. Decreases in current liability should be deducted
4. Increases in current liability should be added
5. Depreciation, amortization, and other noncash
expenses should be added back to net income
6. Gains deduct
7. Losses add