Basic Accounting:Concepts, Techniques,and Conventions Chapter 15 (Contd.)
Adjustments to the Accounts Under the accrual basis of accounting, adjustments are used to record implicit transactions, in contrast to the explicit transactions that trigger nearly all day-to-day routine entries. Companies generally make adjustments when they are about to prepare the financial statements.
Principal Adjustments Expiration of unexpired costs Recognition (earning) of unearned revenues Accrual of unrecorded expenses Accrual of unrecorded revenues
Expiration of unexpired costs - Depreciation Accountants usually… (1) predict the length of the useful life, (2) predict the residualvalue, and (3) allocate the cost of the equipment to the years of its useful life.
Depreciation (Contd.) Depreciation for the year = (original cost – estimated residual value)/ no. of years of useful life = (RM14,000 – RM2,000)/10 years = RM1,200 per year
Recognition (earning) of unearned revenues Unearned revenue = collections from customers that companies receive & record before they earn the revenue E.g. Advance customer deposits received for goods not yet delivered
Accrual of unrecorded expenses Unrecorded expenses = expenses which have accumulated and are payable, but are not yet recorded E.g. unpaid wages at month end, accumulated interest on borrowings
Accrual of unrecorded revenue Unrecorded revenue = revenue which the company has earned, but not yet recorded E.g. interest earned on money lent
Dividends Dividends are distributions of assets to shareholders that reduce retained earnings. Cash dividends are distributions of cash rather than some other asset. The distribution is made possible by profitable operations.
Retained Earnings Retained earnings is a result of profitable operations, it is not a pot of cash awaiting distribution to shareholders.
Income Statement for the Month Ended April 30, 20xx Sales $85,000 Cost of goods sold 70,000 Gross profit $15,000 Operating expenses: Rent $1,000 Wages 6,600 7,600 Net income $ 7,400 King Hardware Company
King Hardware Company Balance Sheet as of April 30, 20xx Assets Cash $ 60,000 Accounts receivable 102,000 Inventory 20,000 Prepaid rent 1,000 Total assets $183,000
King Hardware Company Balance Sheet as of April 30, 20xx Liabilities and Stockholders’ Equity Liabilities Accounts payable $ 71,000 Accrued wages payable 600 Unearned sales revenue 3,000 $ 74,600 Shareholders’ equity Paid-in capital $100,000 Retained income 8,400 108,400 Total equities $183,000
King Hardware Company Statement of Retained Earnings for the Month Ended April 30, 20xx Retained earnings, March 31, 20XX $19,000 Add: Net income for April7,400 Total 26,400 Deduct: Dividends 18,000 Retained earnings, April 30, 20xx $ 8,400
Generally Accepted Accounting Principles (GAAP) Accounting is based on a set of principles on which there is general agreement, not on rules that can be “proved.”
Audit An audit is an “examination” or in-depth inspection of financial statements and companies’ records that is made in accordance with generally accepted auditing standards (GAAP).
Accounting Standards Malaysian GAAP is set by the Malaysian Accounting Standards Board (MASB). The Securities Commission (SC) has the ultimate responsibility for specifying GAAP for Malaysian companies whose shares are held by the general investing public.
Accounting Conventions Recognition Matching Stable monetary unit
Accounting Conventions (Contd.) Going concern Objectivity/Verifiability Materiality
Accounting Conventions (Contd.) Conservatism/Prudence Cost-benefit Room for judgement