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Chapter 4

Chapter 4

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Department
Commerce
Course
COMMERCE 1BA3
Professor
Emad Mohammad
Semester
Fall

Description
Accounting – Chapter 4: Adjustments, Financial Statements and the Quality of Earnings Accounting cycle: the process used by entities to analyze and record transactions, adjust the  records at the end of the period, prepare financial statements and prepare the records for the next  cycle. Purpose and Types of Adjustments Revenues are recorded when earned (revenue principle) Expenses are recorded when they are incurred to generate revenue during the same period  (matching process) Assets are reported at amounts that represent the probable future benefits remaining at the end of  the period Liabilities are reported at amounts that represent the probable future sacrifices of assets or  services owed at the end of the period. Adjusting entries: are entries necessary at the end of the accounting period to identify and  record all revenues and expenses of that period. Types of Adjustments There are 4 types of adjustments divided into two categories: Revenues Deferred revenues – previously recorded liabilities that were created when cash was received in  advance and that must be adjusted for the amount of revenue actually earned during the period. Accrued revenues – revenues that were earned but not recorded because cash was received after  the services were performed or goods were delivered. Expenses Deferred expenses – previously recorded assets, such as prepaid rent, supplies and equipment  that were created when cash was paid in advance and that must be adjusted for the amount of  expense actually incurred during the period through use of the asset. Accrued expenses – expenses that were incurred but were not recorded because cash was paid  after the goods or services were used. Each of these types of adjustments involves two entries: 1. One for the cash receipt of payment 2. One for recording the revenue or expense in the proper period Cash is never adjusted! Cash was recorded when received prior to the end of the period, or will  be recorded when collected in a future period. Adjustment Process There are 3 steps in analyzing adjustments at the end of the period: 1. Identify the type of adjustment – If cash was received or paid, then deferred revenue and  deferred expense accounts exist at the end of the period, but are overstates. If cash has not  been received or aid, then revenues and expenses that have been accrued but have not  been recorded are understated. 2. Determine the amount – of revenue that has been earned or expense that has been  incurred during the period. 3. Record the adjusting journal entry – and post it to the appropriate accounts.  Trial balance: a list of all accounts with their balances, to provide a check on the equality of the  debits and credits. Before adjusting the accounting records, managers first review the unadjusted trial balance. Property, plant and equipment represent deferred expenses that will be use
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