After completing this chapter you should be able to: Explain the importance of periodic reporting and the time period assumption, explain accrual accounting and how it improves financial statements, identify the types of adjustments and their purpose. | ADJUSTING ACCOUNTS AND PREPARING FINANCIAL STATEMENTS Chapter 3 Chapter 3: Adjusting Accounts and Preparing Financial Statements. 1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 Annually 1 2 Monthly Quarterly Semiannually THE ACCOUNTING PERIOD Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec C1 To provide timely information, accounting systems prepare reports at regular intervals. This results in an accounting process impacted by the time period (or periodicity) assumption. The time period assumption presumes that an organization’s activities can be divided into specific time periods such as a month, a three-month quarter, a six-month interval, or a year. Most organizations use a year as their primary accounting period. Many organizations also prepare interim financial statements covering one, three, or six months of activity. When we divide business activities into arbitrary fixed periods of time, it is often necessary to have special accounting for transactions that cross from one time period to the next. Most of our time will be spent looking at the special adjusting process for some of these transactions. ACCRUAL BASIS VS. CASH BASIS On the cash basis the entire $2,400 would be recognized as insurance expense in 2009. No insurance expense from this policy would be recognized in 2010 or 2011, periods covered by the policy. C2 In our first transaction, on December first, 2009, FastForward paid $2,400 cash for a twenty-four month business insurance policy. On the cash basis, the entire $2,400 would be recognized as an expense in 2009 even though the policy provides protection for 2009, 2010, and 2011. Let’s look at how this type of transaction is handled in an accrual basis accounting system. ACCRUAL BASIS VS. CASH BASIS On the accrual basis $100 of insurance expense is recognized in 2009, $1,200 in 2010, and $1,100 in 2011. The expense is matched with the periods benefited by the insurance coverage. C2 On the accrual basis, we would record $100 of insurance . | ADJUSTING ACCOUNTS AND PREPARING FINANCIAL STATEMENTS Chapter 3 Chapter 3: Adjusting Accounts and Preparing Financial Statements. 1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 Annually 1 2 Monthly Quarterly Semiannually THE ACCOUNTING PERIOD Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec C1 To provide timely information, accounting systems prepare reports at regular intervals. This results in an accounting process impacted by the time period (or periodicity) assumption. The time period assumption presumes that an organization’s activities can be divided into specific time periods such as a month, a three-month quarter, a six-month interval, or a year. Most organizations use a year as their primary accounting period. Many organizations also prepare interim financial statements covering one, three, or six months of activity. When we divide business activities into arbitrary fixed periods of time, it is often necessary to have special accounting for transactions that cross from one time .
