CHAPTER SIX

BALANCE DAY
ADJUSTMENTS AND
PREPARATION OF FINAL
ACCOUNTS

Prepared By: Afaf Izzati Nafhah bt Radzi

ACCOUNTING CYCLE
Source Documents

Journal (Books Of Prime Entry)

Ledger (Double Entry Accounts)

Trial Balance

Financial Statements
Course Outline
1. Accrual vs. Cash Basis Accounting
 Introduction to Adjusting Entries
• Under accrual accounting, revenues and expenses are
recorded when the revenues and expenses actually occur
instead of when the cash transaction happens.

• To put these revenues and expenses in the right period, an

accountant will record adjusting journal entries.

• Adjusting entries ensure that the revenue recognition and

matching principles are followed.
Why make Adjusting Journal Entries?

Better Financial Statements

 To INCLUDE all revenues and expenses that have not

been recorded but belong in the current period.

 To EXCLUDE all revenues and expenses that have

been recorded but belong in the next period.

Every adjusting entry will have at least:

one SOFP and
one SOPL effect
 Type of Adjusting
Entries

Timing of cash changing hands:

accruals prepayments

cash AFTER event

$ cash BEFORE event
 ACCRUALS

ACCRUALS REVENUE ACCRUALS EXPENSES

•Revenue for the period but not yet •Expenses incurred during the
recorded or received. accounting period but not yet paid.

•Example: •Example:
services (performed on account), salaries, interest, taxes
commission received
•Shown in the CURRENT LIABILITIES in
•Shown in the CURRENT ASSETS in the the SOFP
SOFP
 PREPAYMENT

PREPAID PREPAID
REVENUE EXPENSES
•Revenue received in advance •Expenses for the following
during the current year for the accounting period paid in advance in
goods or services which yet to be the current period.
sold or rendered.
•Example:
•Example: supplies, insurance, rent (tenant)
subscriptions, rent (landlord)
•Shown in the CURRENT ASSETS in
•Shown in the CURRENT the SOFP.
LIABILITIES in the SOFP.
Summary

ACCRUALS PREPAYMENTS

REVENUES CA CL

EXPENSES CL CA
Accrued Revenues
• Revenue is recognized before cash is received.

• Company ABC leases its building space to a tenant. The tenant

agreed to pay monthly rental fees of RM2,000 covering a period
from the 1st to the 30th or 31st of every month.
• On 31 December 2015, ABC Company did not receive the rental fee
for December yet and no record was made in the journal. The
tenant pay the rent on 10 Jan 2016.
• Under the accrual basis, the rent income above should already be
recognized because it has already been earned even if it has not yet
been collected. The adjusting journal entry would be:

Dec 31, 2015 Jan 10, 2016

Revenue is recognized. Cash is received.
• [Journal entry on Dec 31, 2015]
Dr Accrued rent -SOFP 2,000
Cr Rent received -SOPL 2,000

• [Ledger entries]
Accrued rent
Rent received 2,000

Rent received
Accrued rent 2,000
• FINANCIAL STATEMENTS EXTRACT

Statement of Profit or Loss for the year ended 31 Dec 2015

Add : Other Revenues
Rent received 2,000

Statement of Financial Position as at 31 December 2015

Current Asset:
Accrued rent 2,000
Accrued Expense
• Expense is recognized before cash is paid.
• ABC LTD pays loan interest for the month of December 2015
of RM10,000 on 3 January 2016. ABC LTD has an accounting
year end of 31 December 2015.
• ABC LTD will recognize interest expense of RM10,000 in the
financial statements of year 2015 even though it was paid in
the next accounting period as it relates to the current period.

Dec 31, 2015 Jan 3, 2016

Interest expense is recognized. Cash is paid.
• [Journal entry on Dec 31, 2015]
Dr Interest Expense 10,000
Cr Accrued Interest 10,000

• [Ledger entries]
Interest Expense
Accrued Interest 10,000

Accrued Interest
Interest Expense 10,000
• FINANCIAL STATEMENTS EXTRACT

Statement of Profit or Loss for the year ended 31 Dec 2015

Less : Expenses
Interest Expense 10,000

Statement of Financial Position as at 31 December 2015

Current Liabilities:
Accrued Interest 10,000
Prepaid Revenue
• Revenue is recognized after cash is received.
• Example: On Dec 1, 2015, Company A had a new lease
contract with a tenant and received RM6,000 for two month
rent (Jan and Feb 2016), which paid in advance.
•
Dec 1, 2015 Jan 31 and Feb 28, 2016
Cash is received. Revenue is recognized at the end of
Jan and Feb

• Revenue is recognized when Company A provides service. In

this example, service is provided when time passes.
• [Journal entry on Dec 31, 2015]
Dr Cash 6,000
Cr Prepaid rent revenue 6,000

• [Ledger entries]
Cash
Prepaid rent revenue 6,000

Prepaid rent revenue

Cash 6,000
• FINANCIAL STATEMENTS EXTRACT

Statement of Financial Position as at 31 December 2015

Current Asset:
Cash 6,000

Current Liabilities:
Prepaid rent revenue 6,000
Prepaid Expense
• Expense is recognized after cash is paid.
• Example: Company A purchased an insurance for a period
from Jan to Feb , 2016. During Dec 2015, the company paid
RM4,000 cash for two month insurance premium.

Dec , 2015 Jan and Feb 2016

Cash is paid Expense is recognized at the end of Jan and Feb.
• [Journal entry on Dec 31, 2015]
Dr Prepaid insurance 4,000
Cr Cash 4,000

• [Ledger entries]
Prepaid insurance
Cash 4,000

Cash
Prepaid insurance 4,000
• FINANCIAL STATEMENTS EXTRACT

Statement of Financial Position as at 31 December 2015

Current Asset:
Prepaid insurance 4,000
Cash (4,000)
Discussion:
• JUNE 2018
• Question 3
• Additional information no. (2), (5), (6) & (7)

• JAN 2018
• Question 3
• Additional information no. (2), (6), (7) & (8)
2. BAD DEBTS
Debts that are uncollectible from the debtors.

Some receivables will become uncollectible. Why?

ALLOWANCE FOR DOUBTFUL
DEBTS (AFDD)
• Based on experience, there are possibilities that a few
receivables might not be able to settle their debts.

• Therefore estimation should be made as to the amount that

will not collectable in the year sales occurred.

• This is known as allowance for doubtful debts (AFDD).

Bad Debts & Allowance for Doubtful
Debts (AFDD)
2 methods are used in accounting for uncollectible
accounts:
 The allowance method
• The allowance method of accounting for bad debts involves
estimating uncollectible accounts at the end of each period.

1.Recording the Write-Off of an Uncollectible Account (Bad debts).

• Ex: The financial vice-president of Hampson Furniture authorizes a

write-off of the RM500 balance owed by R. A. Ware on March 1,
2009. The entry to record the write-off is,

Mar 1 Dr Allowance for Doubtful Accounts (AFDD) 500

Cr Account Receivable- R. A. Ware 500
• Under this method, companies debit every bad debt write-off to
the allowance account rather than to Bad Debts Expense.
2. Recovery of an Uncollectible Account.
•A company collects from a customer after it has written off the
account as uncollectible.
•The company makes 2 entries to record the recovery of a bad
debt
• (1) It reverse the entry made in writing off the account. This
reinstates the customer’s account.
• (2) It journalizes the collection in the usual manner.
• Ex: On July 1, R. A. Ware pay RM500 amount that Hampson
had written off on March 1. These are the entries,

• [Recognition of bad debts recovery as a revenue]

July 1 Dr Account Receivable- R. A. Ware 500
Cr Bad debts recovered-revenue 500

• [Recognition of the bank/cash received]

July 1 Dr Cash 500
Cr Account Receivable- R. A. Ware 500
2. Recording Estimated Uncollectibles (Allowance for Doubtful
Debts (AFDD))
•Estimation made by the business through experience of the
amount owed by the debtors that may not be collected by the
business.

*AFDD=Allowance for Doubtful Debts

•1st year accounting, record in FULL

•Next accounting period, record only the INCREASE (expenses)
or DECREASE (revenue) of the allowances.
• If increased in AFDD:
Dr Bad Debts
Cr Allowance for Doubtful Debts (AFDD)

• If decreased in AFDD:
Dr Allowance for Doubtful Debts (AFDD)
Cr Bad Debts
Example 1

A business started on 1 January 2016. The accounting period ends

31 December each year. The total amount of accounts receivable
at the end of the accounting period is RM20,000. It is estimated
that 2% of these accounts receivable will eventually go bad due to
certain reasons but there is no evidence whether they are
bankrupt or dead.

Answer:
*Allowance for Doubtful Debts = RM20,000 x 2%
= RM400

.
 (General Journal)
Dec 31 Dr Bad debts 400
Cr Allowance for Doubtful Debts (AFDD) 400
To record the increase in the doubtful debts estimation

•From the journal, as such, postings are made to the ledger which are
as follows:
(General Ledger)
Bad Debts
Dec 31 AFDD 400

Allowance for Doubtful Debts (AFDD)

Dec 31 Bad Debts 400
 Statement of Profit or Loss for the year ended 31 December 2016

Less : Expenses

Bad Debts 400

Statement of Financial Position as at 31 December 2016

Current Assets RM

Debtors 20,000

Less: Allowance for Doubtful Debts (400)

19,600
3. Capital expenditure and
Revenue expenditure
Capital expenditure Revenue expenditure
Expenditure that increases the asset’s Expenditures that will not improve the
value because of the improvement on asset’s value but they are expenses
the capacity or efficiency incurred in the running of the business
operation daily.
Increase the value of the Non-current Cost do not increase the value of Non-
Asset (NCA) in the SOFP current Asset (NCA), but reduce the
net profit- operating expenses.

Repairs and maintenance costs-

incurred to maintain the performance
of NCA.

Debited to the cost of the NCA Debited to expense account in the

account in the SOFP SOPL
 3. Capital expenditure and Revenue
expenditure (con’t..)
Capital expenditure Revenue expenditure
Example: Example:

Freight charges or sales taxes for purchase Repainting of office block

of NCA
Replacing a broken window screen
Legal costs
Motor vehicle insurance
Installation costs
Fuel for motor vehicles
Extension or additions of building

Replacing new engine of motor vehicle

that will extend its useful life.

Replacing major part of a machine that

will increase its production capacity.
4. DEPRECIATION
• The allocation of the original cost of the fixed asset over its
expected useful or economic life
• Criteria of depreciable non current assets:
a) Long life (more than 1 accounting period)
b) To be used in the business to earn profit
c) Not purchased for resale
d) Have limited useful life
• Depreciation is charged as an expense in the SOPL.
CAUSES OF DEPRECIATION
FACTORS OF DEPRECIATION
• The non-current assets should have the following information to
determine depreciation such as:
Original cost of the non-current assets
Useful life
Residual value / Scrap Value / Salvage Value
Methods of Depreciation

Dr Depreciation
Cr Accumulated Depreciation
METHODS OF DEPRECIATION
• There are TWO methods of depreciation:

1) Straight-line method
- To calculate depreciation based on “COST”
- Equal/constant amount of depreciation expenses every
year

Percentage:
Depreciation = Original cost X %

Formula:
Depreciation = Cost – Salvage value
Expected no. Of useful life
Example: Trial Balance as at 31 Dec 2015
Debit Credit
Office Equipment at Cost RM9,000
Accumulated Depreciation as at 1 Jan 2015 RM1,800

Office Equipment is depreciated at 10% per annum by using straight line

method.

Calculation:

Depreciation= RM9,000 x 10%

= RM900

Dr Depreciation- SOPL 900

Cr Accumulated Depreciation-SOFP 900
2) Reducing Balance Method
- Depreciation is calculated based on the “NET BOOK
VALUE” of non-current assets.
- For the 1st year of NCA, depreciation will be calculated
using the original cost, then the year after will be calculated
using the net book value of NCA.

- To calculate:
1st Year = % x Cost
2nd year and above = % x NBV

NBV = Cost – Accumulated Depreciation

Example: Trial Balance as at 31 Dec 2015
Debit Credit
Motor Vehicles at Cost RM80,000
Accumulated Depreciation as at 1 Jan 2015 RM28,800

Motor Vehicles is depreciated at 20% per annum by using reducing balance

method.

Calculation:

Depreciation = (RM80,000-RM28,800) x 20%

= RM10,240

Dr Depreciation- SOPL 10,240

Cr Accumulated Depreciation-SOFP 10,240
Thank You