HI5001_Lecture_05_v3 Accounting for Business Decisions at Holmes

Accounting for Business Decisions

1. HI5001 Accounting for Business Decisions Lecture 5 Completing the Accounting Cycle

2. Overview Lecture Lecture Topic Readings/Preparation 1 Role of Accounting for Decision Making Textbook Chapter: 1 2 Financial Statements & Decision Making Textbook Chapter: 2 3 Recording Business Transactions Textbook Chapter: 3 4 Adjusting Entries & Preparing Financial Statements Textbook Chapter: 4 5 Completing The Accounting Cycle Textbook Chapters: 5 6 Accounting Systems Textbook Chapter: 7 7 Cash Management & Control Textbook Chapter: 11 8 Receivables Textbook Chapter: 12 9 Inventories Textbook Chapter: 6 & 13 10 Non-current Assets Textbook Chapter: 14 & 15 11 Liabilities Textbook Chapter: 16 12 Analysis & Interpretation of Financial Reports Textbook Chapter: 19

3. Lecture 4 Lecture 5 Adjusting Entries & Preparing Financial Statements Completing the Accounting Cycle Overview

4. 2 Closing temporary accounts and the closing process Here’s what you will learn from this lecture: Topics Covered In This Lecture 1 Steps in completing the accounting cycle 3 Accruals for future periods using reversing entries 4 Prepare the equity accounts for a partnership and for a company

5. 1. Recognise & record transactions 2. Journalise transactions 3. Post to ledger accounts 4. Prepare unadjusted trial balance of GL Source documents General journal General ledger Trial balance (unadjusted) Continued next slide The Complete Accounting Cycle

6. The Complete Accounting Cycle (cont.) 5. Determine adjusting entries and/or journalise 6. Post adjusting entries to general ledger 7. Prepare adjusted trial balance of GL (adjusted) 8. Journalise closing entries General journal General ledger (accounts adjusted) Trial balance(adjusted) General journal Continued next slide

7. The Complete Accounting Cycle (cont.) 9. Post closing entries to GL 10. Prepare post closing trial balance 11. Prepare financial statements 12. Journalise reversing entries GL – temporary accounts closed Trial balance (post closing) Financial statements General journal Worksheet 13. Post reversing entries to GL GL – temporary accounts opened

8. The Complete Accounting Cycle (cont.) The accounting cycle, that sequence of events or steps which leads from source documents to the final production of the financial statements, is completed usually once a year. Steps 1 to 3 are carried out continuously during the year as transactions occur. Steps 4 to 13 are carried out only at the end of the accounting period (the financial year).

9. Gather information in one place Worksheet Using the Worksheet

10. Gather information in one place Enables preparation of Financial Statements Worksheet Using the Worksheet

11. Gather information in one place Enables preparation of Financial Statements Easy reflection of adjusting entries Worksheet Using the Worksheet

12. Gather information in one place Enables preparation of Financial Statements Easy reflection of adjusting entries Facilitates closing journal preparation Worksheet Using the Worksheet

13. Using the Worksheet to Record Adjusting Entries From worksheet formal adjusting entries are entered in general journal Entries are dated the last day of the accounting period Data for determining the entity’s closing entries for the period are found in income statement columns of worksheet which contain temporary income and expense accounts

14. Review the accounting cycle A worksheet can gather together in the one place all the information needed to adjust account balances and prepare financial statements. Enables preparation of interim financial statements. Interim statements are prepared between the annual reports issued at year‐end. Adjusting entries are easily reflected. Facilitates closing journal preparation. All the information necessary to record closing entries in the general journal and post to ledger accounts is readily available. Pause Point 1

15. Types of accounts Temporary (nominal) accounts Permanent (real) accounts Closing Temporary Accounts

16. Types of accounts Temporary (nominal) accounts Permanent (real) accounts I ncome accounts & expense accounts I ncome statement accounts Closing Temporary Accounts

17. Types of accounts Temporary (nominal) accounts Permanent (real) accounts I ncome accounts & expense accounts A ccounts closed off at end of accounting period I ncome statement accounts C losing process Final step of the accounting cycle Closing Temporary Accounts

18. C losing process D uring period Expense account I ncome account $____ $____ $____ $____ $____ $____ Closing Temporary Accounts

19. End of period Expense account I ncome account $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ NIL NIL B alances transferred to another account C losing process Closing Temporary Accounts

20. C losing process End of period Expense account I ncome account $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ Closing entries Closing entries B alances transferred to another account NIL NIL Closing Temporary Accounts

21. End of period Expense account I ncome account T emporary account called Profit or Loss Summary account $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ $____ Closing entries Closing entries B alances transferred to another account NIL NIL C losing process Closing Temporary Accounts

22. Closing Temporary Accounts Closing Temporary Accounts

23. The Closing Process Income accounts closed to Profit or Loss summary Debit income Credit P & L summary

24. The Closing Process Expense accounts closed to Profit or Loss summary Debit P & L summary Credit expense

25. The Closing Process (cont.) Profit & Loss Summary balances to determine profit/loss then closed to Capital Debit P & L summary (assuming a profit) Credit capital account

26. The Closing Process (cont.) Drawings closed to Capital Debit capital account Credit drawings account

27. The Closing Process (cont.) 27 P & L Summary Capital Account Income 12,000 7,500 9,000 Salary expense 1,500 1,800 Rent expense 800 Supplies expense 350 28,500 28,500 (Close Income Account) 24,050 24,050 (Close P & L Summary) Drawings 2,500 3,300 4,450 (Close Expense Accounts) 350 800 24 , 050 2,500 (Close Drawings Account) 2,500

28. Account Balances after the Closing Process All income accounts have nil balances All expense accounts have nil balances The drawings account has a nil balance The Capital Account has been increased or decreased by the profit or loss and decreased by the drawings

29. The Post-closing Trial Balance The post-closing trial balance reflects all accounts with balances after the closing process Prepared to verify the equality of debits and credits. Confirm that the ledger is ‘in balance’. These balances are also the starting point for the next accounting period.

30. Pause the video here and take few moments to do a search online. Understand how income, expenses, and drawings are closed. Understand steps for creating a post-closing trial balance. Pause Point 2

31. Illegal Ordinary B B b I must account for services provided by us for which cash receipt is still to be received Accrual Entries in Subsequent Periods

32. Accrual Entries in Subsequent Periods Adjusting entries are made at the end of the accounting period to record accruals Cash received or paid in subsequent periods for accruals must be analysed to correctly apportion amount between the two periods e.g. payment for salaries

33. Accrual Entries in Subsequent Periods (cont.) Example of the payment of salaries Adjusting entry (30 June) Normal entry (6 July) July 6 Salary payable 3,980 Salary expense 3,420 Cash at bank 7,400 To record payment of salaries from 23 June to 6 July June 30 Salary expense 3,980 Salary payable 3,980 To accrue salaries owing to 30 June

34. Reversing Entries Reversal of accrual entries Alternative to previous treatment Dated the first day of the subsequent accounting period Exactly reverse certain adjusting entries An accounting technique used to simplify the recording of regular transactions in the next period

35. Reversing Entries (cont.) July 1 Salary payable 3,980 Salary expense 3,980 To reverse the adjusting entry to accrue unpaid salaries at end of previous month July 6 Salary expense 7,400 Cash at bank 7,400 Payment of salaries for period 27 June to 6 July June 30 Salary expense 3,980 Salary payable 3,980 To accrue salaries owing to 30 June

36. Reversing Entries (cont.) Not required for all adjusting entries Only used where adjustment is temporary: 4 cases: Accrued expenses Accrued income Prepayments originally recorded as expenses Unearned income originally recorded as income

37. Reversing Entries (cont.) Reversal of deferral entries Adjusting entries are made for prepaid expenses and unearned or pre-collected revenue Need for reversal entries depends on whether initial recording occurred in a permanent account

38. Reversing Entries (cont.) B B b Deferrals (adjusting entry) Prepaid expenses Unearned revenue Reversal entry – whether initial recording in permanent account

39. Pause the video here and take few moments to do a search online. Research reversing entries. Pause Point 3

40. Illegal Ordinary Types of Business Structure Sole Trader Partnership Company Accounting Procedures Applicable to a Partnership or a company

41. Accounting Procedures Applicable to a Partnership or a company Accounting for a partnership Separate capital and drawings accounts for each partner Profit/loss at the end of the period is allocated to each partner in accordance with the partnership agreement Each drawings account is closed off to the partner’s capital account

42. Accounting for a company Owners are referred to as shareholders Owner’s interests are called ‘share capital’ Not all profits/losses are distributed to shareholders Share capital represents the amount invested by the shareholders R etained profits (or accumulated losses) reflect accumulated profit (or losses) earned by the company and retained in the business Accounting Procedures Applicable to a Partnership or a company

43. INTELLECT MANAGEMENT SERVICES LTD Statement of Changes in Equity For the year ended 31 December 2015 Share Capital, 1 January 2015 $240,000 Share Capital, 31 December 2015 240,000 Retained earnings, 1 January 2015 -- Add: Profit for the year 50,000 Less: Cash dividends for the year 24,000 Retained earnings, 31 December 2015 $ 26,000 Note: profits are distributed as dividends Accounting Procedures Applicable to a Partnership or a company

44. Equity section of Balance Sheet for a company INTELLECT MANAGEMENT SERVICES LTD Balance Sheet (extract) as at 31 December 2015 EQUITY Share capital (240,000 shares issued for $1) $240,000 Retained earnings 26,000 Total equity $266,000 Accounting Procedures Applicable to a Partnership or a company

45. Pause the video here and take few moments to do a search online. Search and download the annual report of a company. Review the equity section of its balance sheet. Review the statement of changes in equity. Pause Point 4

46. In-class Worked Example The following information is provided at 30/6/2014: Prepaid insurance was debited for $1,800 on 28/2 (for six months policy beginning on 1 March) Interest earned but not received, $3,600 Received $7,488 in rent revenue on 1/5 (for 3 months commencing that date) June electricity account for $828 has not been paid or recorded. A tax invoice is received on 24/6. Consulting fees owing to the business and unrecorded as at 30 June amounted to $7,560 Required: Prepare entries when it occurred. Prepare adjusting entries for all at 30/06/2014 Prepare closing entries where appropriate.

47. Solution a) Journal Entries: 28/2 Prepaid insurance 1,800 Cash at Bank 1,800 To record prepaid insurance (6 months) 1/5 Cash at Bank 7,488 Unearned rent revenue 7,488 To record prepaid rent revenue received for 3 months (from 1/5) 24/6 Electricity expense 828 Electricity payable 828 To record electricity account incurred but not paid

48. Solution (cont.) b) Adjusting Entries: 30/6 Insurance expense 1,200 Prepaid insurance 1,200 To recognise the insurance expended from 1/3/ to 30/6 (4 months) 30/6 Interest receivable 3,600 Interest revenue 3,600 To record interest earned to 30/6 but not received

49. Solution (cont.) Adjusting Entries: 30/06 Unearned rent revenue 4,965 Rent revenue 4,965 To record rent revenue for period 1/5 to 30/6 that was prepaid 30/06 Consulting fees receivable 7,560 Consulting fees revenue 7,560 To record consulting fees earned but not yet received

50. Solutions (cont.) c) Closing Entries: 30/6 Interest revenue 3,600 Consulting fees revenue 7,560 Rent Revenue 4,965 Profit or Loss Summary 16,125 Profit or Loss Summary 2028 Electricity expense 828 Insurance expense 1,200 Profit or Loss Summary 14,097 Capital 14,097 To close temporary accounts to P/L account (as provided) Note: This would be only a part of the adjustments but covers the ones provided

51. Key Take Aways Summary of Lecture 5 Steps in completing the accounting cycle and record adjustments using a worksheet Closing temporary accounts and the closing process Accruals for future periods using reversing entries Prepare the equity accounts for a partnership and for a company

52. End of Lecture 5 Recommended Readings Hoggett & Edwards - Chapter 5 Tutorial Questions Hoggett & Edwards - Chapter End Questions Discussion Board & Drop-in Session Post your questions in the discussion board Next Lecture Lecture 6 – Accounting Systems