Financial accounting the impact on decision makers 9e chapter 4

Recognition and Measurementin Financial Statements  Recognition: process of recording an item as an asset, a liability, a revenue, an expense, or the like  Measurement: requires two c

Chapter 4

Income Measurement and

Accrual Accounting

Recognition and Measurement

in Financial Statements

 Recognition: process of recording an item as an

asset, a liability, a revenue, an expense, or the

like

 Measurement: requires two choices to be made

 Choice 1: The attribute to be measured

Exhibit 4.1—Recognition and Measurement in Financial Statements

Cash and Accrual Bases of

Accounting

 Cash basis: revenues are recognized when cash

is received and expenses are recognized when cash is paid

 Accrual basis: revenues are recognized when

earned and expenses are recognized when

incurred

LO 2

Example 4.1—Comparing the Cash and Accrual Bases of Accounting

Exhibit 4.2—Comparing the Cash and Accrual Bases of Accounting

The Revenue Recognition Principle

are realized, or realizable, and earned

 Revenues: Inflows of assets or settlements of

Expense Recognition and the

Matching Principle

the costs necessary to generate that revenue

 Direct matching: associate revenues of a period with their costs

 Indirect matching: associate costs with a particular period

• Example: depreciation on building

 From the use of an asset

 From the recognition of a liability

LO 4

Example 4.3—Comparing Three Methods

for Matching Costs with Revenue

Adjusting Entries

 Made at the end of an accounting period

 internal transactions and do not affect the Cash

account

 Adjustment of either an asset or a liability with a

corresponding change in revenue or expense

 Types of adjusting entries:

 Property and equipment

 Written off and replaced with an expense as the costs expire

Example 4.4—Adjusting a Deferred

Expense Account

Deferred Revenue

 Insurance collected in advance

 Subscriptions collected in advance

 Gift certificates

 Initially recorded as liabilities (unearned or

refundable receipts) and recorded as revenues

in future periods when earned

Example 4.6—Adjusting a Deferred

Revenue Account

Accrued Liability

rather than before its incurrence

 Payroll

 Taxes

 Utilities

Example 4.8—Recording an Accrued

Liability for Wages

Accrued Asset

passage of time and require an adjustment if

cash has not yet been received

cash is received, receivable is increased and

revenue is also increased

Example 4.10—Recording an Accrued Asset

30 adjustment to recognize insurance

expense:

Accruals and Deferrals

30 adjustment to recognize insurance

expense:

The Accounting Cycle

30 adjustment to recognize insurance

expense: Series of steps performed each period and

culminating with the preparation of a set of

financial statements

LO 6

Exhibit 4.5—Steps in the

Accounting Cycle

Work sheet

30 adjustment to recognize insurance

expense: Device used at the end of the period to gather the information needed to prepare financial statements without actually recording and

posting adjusting entries

Closing Entries

zero

dividends of the period to the Retained Earnings account

Real and Nominal accounts

 Real accounts: balance sheet accounts

 Permanent in nature

 Not closed at the end of the period

 Nominal accounts: revenue, expense, and

dividend accounts

 Temporary in nature

 Closed at the end of the period

Closing Process

Summary—single entry is made

Summary—single entry is made

transferred to Retained Earnings

with an offsetting debit to Retained Earnings

Interim Financial Statements

30 adjustment to recognize insurance

expense: Financial Statements prepared monthly,

quarterly or at other intervals less than a year in duration

End of Chapter 4