AJEs - Presentation

ADJUSTING JOURNAL
ENTRIES (AJEs)
Adjusting in the recording process to recognize unnoticed revenues
or expenses which have been earned or incurred during an
accounting period.
• At the end of the reporting/accounting period (normally at the

end of the year)
• After the unadjusted trial balance is produced. When posted in
the ledger, the adjusted trial balance is prepared.
1. Time Period (Periodicity) Assumption
“The economic life of a business can be divided into
artificial time periods or accounting periods which are usually of
equal length for the purposes of preparing financial reports.”
Assumption above necessitates the use of AJEs so revenues and

expenses are assigned to the time periods in which they
belong. The adjusting of entries also helps allocate multi-period
and accrued items to periods in which they fit.
2. Ensure that the revenue recognition principle and matching

principle are followed.
AJEs are journal entries made at the end of the accounting period
to allocate revenue and expenses to the period in which they are
actually are earned and incurred, respectively. Adjusting entries are
required because normal journal entries are based on actual
transactions, and the date on which these transactions occur may
not be the date required to fulfill the matching principle of accrual
accounting.
1. ACCRUALS
a. REVENUES
- AJE is necessary when revenues have been earned but cash is
not yet received and/or recorded
- Examples: interest revenue on extended loans, completed
services or delivered goods that, for any number of reasons,
have not been billed to customers.
b. EXPENSES
- AJE is necessary when expenses have been incurred but
payment is not yet tendered and/or recorded
- Examples: salaries and wages for work performed in the
current period but not paid until the following period and
interest expense on notes payable and other debts
ACCRUALS – Sample Problem
On 31 March 2013, EDX Financing extended a three-year loan to one of
its valued customers, RV Enterprises, with the following terms:
a. Principal = P10,000
b. Interest = 6% payable at the beginning of the following month
Prepare the journal entries on the books of EDX Financing and RV
Enterprises on the following dates:
a. 31 March 2013
b. 30 April 2013
c. 01 May 2013
OMMISSION of AJE's on ACCRUALS
Revenue Expense
Asset Understated -
Liability - Understated
Income Understated -
Expense - Understated
Net Income Understated Overstated
2. DEFERRALS
a. UNEARNED REVENUES
- Recognized when cash receipt from a counterparty (in a
transaction) includes payments for future services to be
performed or goods to be delivered .
- Adjustments are made to recognize the correct earnings
during the period
- Examples: payments for newspaper or magazine
subscriptions, extended warranties
METHODS:
1. Income Method
2. Liability Method
2. DEFERRALS (continued)
b. PREPAID EXPENSES
- Recognized when payments tendered to a counterparty (in a
transaction) includes payments for future services to be
performed or goods to be delivered.
- Adjustments are made to recognize the actual expenses
incurred through use or the passage of time
- Examples: office supplies, advanced rental payments
METHODS:
1. Expense Method
2. Asset Method
DEFERRALS – Sample Problem
On 31 March 2013, EDX Financing insured its automobile to FilAXA
Inc. for P1,800. The insurance agreement covers a six-month period.
Prepare the journal entries (for each method) on the books of EDX
Financing and FILAXA Inc. on the following dates:
a. 31 March 2013
b. 30 April 2013
OMMISSION of AJE's on DEFERRALS
Unearned Revenue Prepaid Expense

Income M. Liability M. Expense M. Asset M.
Asset - - Understated Overstated
Liability Understated Overstated -
Income Overstated Understated -
Expense - - Overstated Understated
Net Income Overstated Understated Understated Overstated
3. ESTIMATES
a. DEPRECIATION
- Depreciation is the process of allocating the depreciable
cost of a long-lived asset, except for land which is never
depreciated, to expense over the asset’s estimated service
life.
- Depreciable cost includes all costs necessary to acquire an
asset and make it ready for use minus the asset’s expected
salvage value, which is the asset’s worth at the end of its
service life, usually the amount of time the asset is
expected to be used in the business.
- Most common method of depreciating assets is the
Straight Line Method.
3. ESTIMATES (continued)
b. BAD DEBTS
- A risk exists for an entity that sells on credit that some
customers will not be able to pay their accounts or
obligations.
- When an account becomes uncollectible, the entity sustains
a bad debt loss
METHODS:
1. Allowance Method
a. Aging of Accounts Receivable
b. Percent of Accounts Receivable
c. Percent of Sales
2. Direct write-off method
OMMISSION of AJE's on ESTIMATES
Asset Overstated
Liability -
Income -
Expense Understated
Net Income Overstated
3. OTHERS
Inventory
- AJE is required to determine the Cost of Sales (Cost of
Goods Sold)
- ONLY for entities using the periodic inventory system
• When working with AEs, remember two very important rules. First,
cash is not involved. Cash is recorded when it is received or paid. It is
adjusted when the monthly bank reconciliation is made. Cash is not
part of the end of accounting period adjusting process. Second,
adjusting entries usually affects one income statement account and one
balance sheet account.
• There are two scenarios where adjusting journal entries are needed
before the financial statements are prepared:
a. Nothing has been entered in the accounting records for certain
expenses or revenues, but those expenses and/or revenues did
occur and must be included in the current period’s income
statement and balance sheet.
b. Something has already been entered in the accounting records, but
the amounts needs to be divided up between two or more
accounting periods.
• ALL accruals need to be reversed.
• AJEs on deferrals that create a balance in a real account need to be
reversed.

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ADJUSTING JOURNAL

• At the end of the reporting/accounting period (normally at the

Assumption above necessitates the use of AJEs so revenues and

2. Ensure that the revenue recognition principle and matching

OMMISSION of AJE's on ACCRUALS

OMMISSION of AJE's on DEFERRALS

Unearned Revenue Prepaid Expense

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