MODULE IN FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT 2

Recall our example in Chapter 10, about Pedro Matapang who started his Matapang Computer Repairs business on February
14, 2016. The following transactions transpired in February 2016:
1. February 14, 2016 - Pedro Matapang invested PHP200,000
into his Matapang Computer Repair business.
2. February 15, 2016 - Pedro purchased one computer unit
from XY Computer Store to be used for his business. He issued
check number 001 amounting to PHP25,000.
3. February 16, 2016 - Pedro hired Juana Magaling, an
experienced secretary.
4. February 17, 2016 – Repaired the computer of Jean and
collected PHP10,000.
5. February 18, 2016 – Repaired the computer of Mike;
however, Mike will pay PHP15,000 only on March 18, 2016.
6. February 19, 2016 – Pedro purchased Office Supplies from
MM Merchandise amounting to PHP5,000 on account. Pedro
will pay this on March 30, 2016.
7. February 25, 2016 – Paid the salary of Juana amounting to
PHP4,000.

Adjusting Entries
Adjusting entries ensure that both the revenue recognition and matching principles are followed. Prior to your lecture, recall
the previous discussion on accounting principles and concepts, specifically the matching principle.

Revenue Recognition – accounting standards require that revenue is recognized when it is earned and the amount can be
measured reliably. To illustrate:
• Assume that you are preparing the financial statements for Feb 2016. Matapang Computer Repairs rendered services
amounting to PHP25,000 for the repair of the computer units of Mr. Tamad on Feb 26, 2016. However, the payment for these
services of Matapang will be made on Mar 15, 2016. 
 Question: when should you recognize the PHP25,000 as revenue or
income, in February or March? Applying the revenue recognition principle, it should be reported as revenue for February
2016.
• Assume that you are preparing the financial statements for February 2016. On February 28, 2016, Matapang Repairs
received payment from Mr. Tamad amounting to PHP25,000. This payment is for the repair of the computer units of Mr.
Tamad on March 5, 2016. 
 Question: when should you recognize the PHP25,000 as revenue or income, in February or
March? Applying the revenue recognition principle, it should be reported as revenue in March 2016. Take note that since
the service will be rendered in March, the revenue should also be earned in March. What about February 2016? The
amount is recorded as a liability because Matapang Repairs has the obligation to render this service in the future.

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Matching Principle - this principle directs a business to report an expense on its income statement within the same period as
its related income. To illustrate:
• Assume that you are preparing the financial statements for February 2016. The business gives a commission of 10% service
income to its employees. The commission is paid the following month. On February 2016, the total service income for the
month is PHP100,000. Thus, the employees are entitled to a commission of PHP10,000. This amount will be paid on March
12, 2016. Question: when should the commission expense be recorded in the book of accounts of the business, in March or
in February? Applying the matching principle, the answer is in February.

Adjusting entries are made at the end of each accounting period. Adjusting entries make it possible to report correct amounts
on the statement of financial position and on the income statement. All adjusting entries affect at least one income
statement account and one statement of financial position account. Thus, an adjusting entry will always involve an income or
an expense account and an asset or a liability account. There are five basic sources of adjusting entries:
1. Depreciation expense
2. Deferred expenses or prepaid expenses
3. Deferred Income or unearned income
4. Accrued expenses or accrued liabilities
5. Accrued income or accrued assets
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A. DEPRECIATION - Depreciation is a method of allocating the cost of an asset to an expense over the accounting periods
that make up the asset’s useful life. Examples of assets subject to depreciation are: Store, Office, Building, and Transportation
equipment. These types of assets lose their ability to provide useful service as time passes. Depreciation can also be referred
to as the decrease in the usefulness of these types of assets. Take note that Land is not subject to depreciation because the
value of land mostly increases as time passes.

Exercise on Adjusting entries to record Depreciation

Recall that Matapang acquired office equipment on February 15, 2016 for his repair shop business. The cost of the equipment
is PHP25,000. It was estimated to have a useful life of five years. It is estimated that after five years, the office equipment can
be sold at a scrap value of PHP1,000. The company uses the straight line method of depreciation.
Depreciation is a means of allocating the cost of an asset to an expense over the accounting period that will benefit the use of
the asset. In the exercise above, the equipment will be used by Matapang for five years. Proper accounting procedures
dictates that the cost of PHP25,000 should be spread over five years.
There are several methods or formulas to compute the amount of depreciation. The simplest is the straight line method. The
formula is Annual Depreciation : ( Acquisition Cost – Salvage or Residual Value) / Useful Life. Applying this formula to the
exercise:
Annual Depreciation = (25,000-1,000) / 5
= PHP4,800
If the accounting period being reported by Matapang is for the month ending February 29, 2016, the adjusting entry to
record this depreciation in the books of Matapang is:
General
Date Journal
Account Title and Explanation Ref Debit Credit

2/29/16 Depreciation Expense 200

Accumulated Depreciation-Office Eqpt 200
The depreciation expense of PHP200 was derived by computing the monthly depreciation of PHP400 (Annual
Depreciation of PHP4,800/12 months) and multiplying the PHP400 by one-half since the equipment was acquired
in the middle of February.

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B. DEFERRED EXPENSES OR PREPAID EXPENSES. These are items that have been initially recorded as assets but are
expected to become expenses over time or through the operations of the business.
Exercise - Adjusting entries to record deferred expenses or prepaid expenses

Recall that on February 19, 2016 Matapang purchased PHP5,000 worth of office supplies on account. By the end of the
month, PHP2,000 worth of these supplies are still unused.
The February 19, 2016 entry to record the purchase on the account of office supplies was already posted to the general
ledger and included in the balances, as shown in the unadjusted trial balance above. The entry was shown only for
illustration purposes.
General
Date Journal
Account Title and Explanation Ref Debit Credit

2/19/16 Supplies Expense 5,000

Accounts Payable 5,000
To record the purchased of office supplies on
account
2/29/16 Supplies 2,000

Supplies Expense 2,000

To set-up the value of unused supplies

The “Supplies” account debited on February 29, 2016 above is an asset account and represents the value of
supplies unused as of the end of February 2016. If these journal entries are posted to the general ledger, the
following should be the balance of each account:
Account Title Debit Credit

Supplies 2,000
Accounts Payable 5,000
Supplies Expense 3,000
The alternative entries to record the above transactions are:
General
Date Journal
Account Title and Explanation Ref Debit Credit

2/19/16 Supplies 5,00

Accounts Payable 0 5,00
To record the purchased of office supplies 0

2/29/16 Supplies Expense 3,000

Supplies 3,000

To set up the value of unused supplies

If these entries are posted in the general ledger, the following should be the balances of each account:
Account Title Debit Credit

Supplies 2,000

Accounts Payable 5,000

Supplies Expense 3,000
Notice that even with the different approaches in recording the transactions in the
journal entries, the balances in the general ledger will always be the same whether
you used the first approach or the second approach
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C. DEFERRED INCOME OR UNEARNED INCOME. These are items that have been initially recorded as
liabilities but are expected to become income over time or through the operations of the business.
Exercise – Adjusting entries to record deferred or unearned income
On February 15, 2016 Matapang entered into a contract with Makisig to maintain the computers of Makisig for
two months starting on February 15, 2016 up to April 15, 2016. On the same date, Makisig paid the total
contract amount of PHP40,000 in full. The entries to record and adjust the books are:
In the February 29, 2016 entry above, as of end of February 2016, Matapang has already earned the service
revenue for the first 15 days, thus an adjusting entry is recorded.

General
Date Account Title and Explanation
Journal Ref Debit Credit
2/15/16 Cash 40,00
Unearned Service Revenue 0 40,00
To record receipt of full payment for the two- 0
month service contract with Makisig

2/29/16 Unearned Service Revenue 10,00

Service Revenue 0 10,00
To record service income earned from Feb 15-29, 0
2016; P40,000 x (1/2 month /2 months)

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D. ACCRUED EXPENSES OR ACCRUED LIABILITIES. These are items of expenses that have been incurred but
have not been recorded and paid.
Exercise – Adjusting entries to record Accrued expenses or accrued liabilities
On February 29, 2016, Matapang received the electric bill for the month of February amounting to
PHP3,800. Matapang will pay this bill on March 2016.
The electric bill represents the cost of electricity used (or incurred) for February. Although the said bill is still
unpaid and thus was not recorded, the matching principle and accrual basis of accounting dictates that the
same should be recorded in February. Otherwise, your expense will be understated and thus the company will
be reporting an overstated income (or an erroneous income). Needless to say, erroneous information may lead
to wrong decisions.
The entry to record the accrual of this expense is:
General
Date Journal
Account Title and Explanation Ref Debit Credit
2/29/16 Utilities Expense 3,80
Utilities Payable 0 3,80
To accrue the cost of electricity incurred for 0
the month of February.

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E. ACCRUED INCOME OR ACCRUED ASSETS
These are income items that have been earned but have not been recorded and paid by the customer. In
short, these are receivables of the business.
Exercise – Adjusting entries to record accrued income or accrued assets
On February 28, 2016, Matapang repaired the computer of Pedro for PHP15,000. Pedro was on an out- of-town
trip so he could not pay Matapang . He told Matapang that he will pay for their services on March 1, 2016.
Matapang has already earned the PHP15,000 but was not paid as of the end of February 2016. Therefore, an
income should be properly recognized in February 2016 for this transaction. The entry to record this is:
General
Date Account Title and Explanation
Journal Ref Debit Credit
2/29/16 Accounts Receivable 15,00
Service Income 0 15,00
To accrue the cost of electricity incurred for 0
the month of February.
Enter all adjustments to the worksheet:

Matapang Computer Repairs

Worksheet
For the month ending February Unadjusted Trial Adjustments Adjusted Trial Balance
29, 2016 Balance Position

DR CR DR CR DR CR
Balance Sheet Accounts
Cash 221,000 221,000
Accounts Receivable 15,000 15,000 30,000
Supplies 2,000 2,000
Office Equipment 25,000 25,000
Accum. Deprn-Off Eqpt 200 200
Accounts Payable 5,000 5,000
Utilities Payable 3,800 3,800
Unearned Service Revenue 40,000 10,000 30,000
Matapang, Capital 200,000 200,000

Income Statement Accounts

Service Revenue 25,000 25,000 50,000
Supplies Expense 5,000 2,000 3,000
Salaries Expense 4,000 4,000
Utilities Expense 3,800 3,800
Depreciation Expense 200 200
270,000 270,000 31,000 31,000 289,000 289,000
Note: The entry to record the receipt of PHP40,000 from Makisig on February 15, 2016 was reflected in the
unadjusted trial balance columns.

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