Financial
Managerial
&
Accounting
for MBAs Sixth Edition
Peter D. Easton
Robert F. Halsey
Mary Lea McAnally
Module 3
Transactions, Adjustments, and
Financial Statements
© Cambridge Business Publishers, 2021
Learning Objective 1
Explain the accounting cycle, and
construct the financial statement effects
template.
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Accounting Cycle
Step 1 Record transactions in the accounting records
Step 2 Prepare accounting adjustments
Step 3 Prepare financial statements
Step 4 Close the books in anticipation of the start of a new accounting
cycle
© Cambridge Business Publishers, 2021 4
Accounting Cycle Tools
Financial Statement Effects Template (FSET)
Provides a convenient way to represent relatively complex financial
accounting transactions and events in a simple, concise manner
Captures transaction on all four financial statements
Facilitates analysis and interpretation, especially “What if” scenarios
T-Accounts
Expands each account into increases and decreases and can be used to keep
running totals
Journal entries
Classic debits and credits
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Financial Statement Effects Template
(FSET)
The FSET captures the transaction on the:
Balance sheet
Income statement
Statement of stockholders’ equity
Statement of cash flows
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T-Accounts
T-accounts capture increases and decreases to individual balance
sheet and income statement accounts.
T-accounts illustrate the effect of each transaction.
Assets’ normal balance is on the left. Asset T-accounts record increases on
the left and decreases on the right.
Liabilities’ normal balance is on the right. Liability T-accounts record
increases on the right and decreases on the left.
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Journal Entries
Journal entries capture the effects of transactions.
Journal entries reflect increases and decreases to accounts using
the language of debits and credits .
Debits and credits simply refer to the left or right side of a T-
account, respectively.
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Learning Objective 2
Apply the financial statement effects
template to analyze accounting
transactions.
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Apple FSET
2017-2018
For each transaction, we ask these three questions:
What accounts are affected?
What is the direction of the effect?
What is the amount of the effect?
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Learning Objective 3
Prepare and explain accounting
adjustments and their financial
statement effects.
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Accounting Adjustments
Companies make accounting adjustments so that financial
statements are accurate and complete.
For example, employees might have earned wages during an accounting
period but not been paid before the end of the period.
Failure to recognize the wages owed would understate liabilities
(because wages payable would be too low) and would overstate net
income for the period.
(because wages expense would be too low)
Both the balance sheet and the income statement
would be inaccurate.
SO, the company makes an accounting adjustment.
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Four Types
of Accounting Adjustments
Prepaid expenses―advance cash payments that will ultimately become
expenses
Unearned revenues―cash received from customers before any services or
goods are provided
Accrued expenses―expenses incurred and recognized on the income
statement even though cash has not been paid yet
Accrued revenues―revenues earned and recognized on the income statement
even though cash is not received yet
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Prepaid Expenses
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Unearned Revenues
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Accrued Expenses
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Accrued Revenues
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Four Types
of Accounting Adjustments
Prepaid expenses―advance cash payments that will ultimately become
expenses
Unearned revenues―cash received from customers before any services or
goods are provided
Accrued expenses―expenses incurred and recognized on the income
statement even though cash has not been paid yet
Accrued revenues―revenues earned and recognized on the income statement
even though cash is not received yet
© Cambridge Business Publishers, 2021 18
Learning Objective 4
Construct financial statements from the
accounting records.
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Constructing
the Financial Statements
When all transactions and adjustments have been recorded in the
FSET, sum each column to obtain ending balances.
Prepare financial statements in this order:
1. Income statement
2. Statement of stockholders’ equity―including the retained earnings
reconciliation
3. Balance sheet
4. Statement of cash flows
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Apple’s Income Statement
Apple’s income statement accounts are in the last three columns
of the FSET.
We use the data from those columns to prepare the income
statement.
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Apple’s
Retained Earnings Reconciliation
Update the retained earnings balance:
Add net income
Subtract dividends
Subtract any stock repurchased and retired
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Apple’s
Statement of Stockholders’ Equity
We use the information from the contributed capital and earned
capital columns in the FSET to prepare the statement of
stockholders’ equity.
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Apple’s Balance Sheet
Use the ending balances
from the last row in the
FSET.
Balance sheet accounts
are called permanent
accounts because their
respective balances carry
over from one period to
the next.
© Cambridge Business Publishers, 2021 24
Learning Objective 5
Explain and apply
the closing process.
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The Closing Process
AKA: Closing the books
The closing process―“zeroing out” of the temporary accounts
by transferring their ending balances to retained earnings
Revenues, expenses, and dividends are temporary accounts
because the balance at the start of each accounting period is $0 so
that only the current period’s activities are included in the total
amount.
Balance sheet accounts are permanent accounts and do NOT
CLOSE each period.
© Cambridge Business Publishers, 2021 26
The Closing Process
FSET vs. Practice
Closing Process: FSET
The FSET and T-accounts are pedagogical tools that represent transactions’ effects on
financial statements.
The FSET is highly stylized, but its simplicity is instructive.
Each transaction and adjustment is automatically transferred to retained earnings―no
additional closing process.
Closing Process: Practice
Journal entries capture transactions and adjustments.
Retained earnings are not continuously updated.
Companies use a formal “closing process” at the end of each reporting period.
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Journal Entries
Debit Credit Debit Credit Debit Credit
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1. Close Revenue and Gain Accounts
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2. Close Expense and Loss Accounts
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3. Close Dividend Accounts
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Financial
Managerial
&
Accounting
for MBAs Sixth Edition
Cambridge Business Publishers
www.cambridgepub.com
