Chapter 6: Review and Adjustments

Principles for the review of GL accounts

General Ledger consists of 3 types of accounts
1. Nominal (temp) accounts : Income & Expense
2. Real accounts : Assets & Liabilities
3. Equity accounts : Share Capital & Retained earnings

2
Principles for adjusting GL accounts
EXPENSES
DR CR

increase decrease

ASSET
DR CR

increase decrease

3
Principles for adjusting GL accounts
INCOME
DR CR

decrease increase

LIABILITY
DR CR

decrease increase

4
Principles for adjusting GL accounts

EQUITY
DR CR

decrease increase

5
 The accounting process
Transaction/ AFS (Annual financial
event statements) of:
- Profit and loss (P/L)
Journal - Statement of financial
(prime entry) position (SFP)
- Statement of changes
General ledger in Equity (SCE)
(accounts) - Cash flow statement
(C/F)
Trial balance & - Notes & policies
adjustments 6
Review And adjustments- End of reporting period

Review assets,
liabilities, equity,
income and
Pre- Adjustment Trial expenses- and events Post adjustment trial
Balance still need to be Adjustments balance
recognized? Accrual
basis of accounting
Errors or omissions?
Review And adjustments
• At the end of the reporting period you have to do a
thorough review of each category (Assets, Liabilities,
Income, Expenses, Equity)

• The result is, usually there will be transactions and

events that still need to be recognized in respect of the
current reporting period. Eg. Depreciation, Bank
charges, Interest Income.

• F/S provides fair presentation of financial performance

(P/L) and financial position (SFP). To achieve this you
have to provide faithful representation.
Review And adjustments
• Errors could still occur if due care taken. Eg. Rent paid
in advance erroneously debited to rent expense account.

• Therefore necessary for the expert/accountant to review

the accounts to identify any errors or omissions.

• Errors. E.g Rent paid for 13 months erroneously debited

to rent expense account in full instead of only 12 months
(correct)
• Omissions. E.g Bank charges (journalise as normal).
Review And adjustments
• Therefore distinction made between pre and post-
adjustment trial balance. E.g Depreciation

• You may identify certain transactions and events that

have to still be recognized for the current reporting
period. Refer to slide per review item.

• Post adjustment trial balance

 What should the
asset, liability or
equity
be at year end???
What is the correct
balance?
 Review and other adjustments. Page 230 - 234
Assets - Items Review: looking for…
o Non- current assets Depreciation &
impairment
o Trade inventories Shortage &
Write-down to NRV
o Trade receivables Allowance for bad debts
Bad debts
o Office supplies Asset vs expense
o Term deposit Amortised cost –
interest accrued
o Cash & cash equivalents Bank charges
 Review and other adjustments. Page 230 - 234

Othet – Items Review: looking for…

 Liabilities - loan Amortised cost -
interest accrued
 Trade & other All recognised
payables
 What should the
income or expense
Be at year end???
What is the correct
amount?
Expenses & Income Review: looking for…

 Office supplies All purchased utilised

 Rent expense 12 months (last
month)
 Insurance Only portion relates to
current year
 Water & electricity 12 months (last
month)
 Interest expense Current period
 Rent income 12 months
Accrued Expenses
(owing/payable)
Relates to current period but is unpaid at end of period
therefore, a liability (still owing)

Rent Expense is R2 000 per month. XYZ Traders have

been renting this property for the full 12 month period.
Review at 31 December shows that XYZ traders have
paid for 11 months.
Trial balance before adjustments (Pre-adjustment)
Acc Dr Cr
Rent expense 22 000
(R2000 X 11 months)

Adjustment
Dr Cr
Dec 31 Rent expense (P/L) 2 000
Rent expense payable (SFP) 2 000

Trial balance after adjustments (Post-adjustment)

Acc Dr Cr
Rent expense payable 2 000

Rent expense
(drR22 000 drR2000) 24 000
Office supplies on reporting
date
Only the part used in this period should be treated as an
expense
Office supplies purchased for 2020= R100 000. Office
supplies still on hand at 31 December 2020 is R55 000.
Trial balance before adjustments (Pre-adjustment)
Acc Dr Cr
Office supplies expense 100 000

Adjustment
2020 Dr Cr
Dec 31 Office supplies on hand (SFP) 55 000
Office supplies expense (P/L) 55 000

Trial balance after adjustments (Post-adjustment)

Acc Dr Cr
Office supplies on hand 55 000

Office supplies expense 45 000

(drR100 000 – crR55 000)
Income Received in Advance

Income received in certain period that relates to future

periods
Entity is still obliged to perform that service for which the
extra payment relates therefore LIABILITY!
Eg. Tenant rented premises from entity for full 12 month
period. Rental Income is R3 000 per month. In
December, the lessee/tenant paid for December and
January.
Trial balance before adjustments
Acc Dr Cr
Rent income 39 000
(R3 000 X 13 months)

Adjustment
Dr Cr
Dec 31 Rent income (P/L) 3 000
Rent income received in advance 3 000
(SFP)

Trial balance after adjustments

Acc Dr Cr
Rent income received in advance 3 000

Rent income
(crR39 000 – drR3 000) 36 000
Income Receivable

Entity is owed income at the end of the year therefore

current asset .
Rent Income is R 2 500 per month. Tenant rented premises
from entity for full 12 months. At the end of December it
was noted that entity had received rent from tenant for
11 months only.
Trial balance before adjustments
Acc Dr Cr
Rent income 27 500
(R2 500 X 11 months)

Adjustment
Dr Cr
Dec 31 Rent income receivable (SFP) 2 500
Rent income (P/L) 2 500

Trial balance after adjustments

Acc Dr Cr
Rent income receivable 2 500

Rent income
(crR27 500 + crR2500) 30 000
 Adjusting Entries continued…

o Review
• PPE
• Trade receivables
• Term Deposit
• Inventory
o Correction of errors

24
 Term Deposit

On 1 January 2020, R200 000 was invested in a

term deposit earning an interest of 10% p.a. The
interest income still needs to be accounted for.

• Journals for review/adjustment

Dr Term Deposit(F/P)
Cr Interest Income on term deposit (I/S)
• Post-adjustment trial balance?
25
Trial balance before adjustments
Acc Dr Cr
Term Deposit 200 000

Adjustment
2020 Dr Cr
Dec 31 Term Deposit (SFP) 20 000
Interest Income (P/L) 20 000
(R200 000 X 10%)

Trial balance after adjustments

Acc Dr Cr
Term Deposit
(dr R200 000 dr R20 000) 220 000
Interest Income 20 000
 Trade receivables

• Have bad debts been recorded?

• On 31 Dec 2020 the balance for trade
receivables was R150 000. Of this balance
R5000 must be written off as bad debts.
• Journals for review/adjustment
Dr Bad debt(P/L)
Cr Trade Receivables (F/P)
• Post-adjustment trial balance?
27
Trial balance before adjustments
Acc Dr Cr
Trade receivable 150 000

Adjustment
2020 Dr Cr
Dec 31 Bad debts (P/L) 5 000
Trade receivable (SFP) 5 000

Trial balance after adjustments

Acc Dr Cr
Trade receivable
(dr R150 000 cr R5000) 145 000
Bad debts 5 000
 PPE

• Has depreciation been recorded?

• An asset has a cost price of R500 000.
Depreciation on this asset is calculated at
10% each year.
• Journals
Dr Depreciation (P/L)
Cr Accumulated Depreciation (F/P)
• Post-adjustment trial balance?
29
Trial balance before adjustments
Acc Dr Cr
PPE 500 000

Adjustment
2020 Dr Cr
Dec 31 Depreciation (P/L) 50 000
Accumulated Depreciation 50 000
(SFP)
(R500 000 X 10%)
Trial balance after adjustments
Acc Dr Cr
PPE 500 000
Accumulated Depreciation 50 000
Depreciation 50 000
 Adjusting Entries continued…

o Trade inventories review

• Perpetual vs periodic
• Shortages
• Write-down
o Correction of errors

31
 Inventory accounting systems
• What are the two types of inventory systems used to
account for inventory?
Periodic inventory system and perpetual inventory
system.
• What does an inventory accounting system mean?
Methods used to track the quantity of goods on hand
 Perpetual inventory system
• What is the perpetual inventory system?
Provides correct detail about the status of inventory on
an up to date basis.
Any purchase or sale of inventory will affect the
inventory account on an accrual basis
• Keeps continual track of inventory balances.
Trade inventories continued…

• Stock shortages
 Physical stock < Stock on system
 Inventory shortages recognized as an expense in the
current period
 Initial recognition?
Dr Loss with inventory shortage (P/L)
Cr Trade Inventories (SFP)
Trade inventories continued…

• Write down of inventories to NRV

 Initial recognition of inventories at cost
 End of year inventory must be recognized at Lower of Cost or NRV
 Write down to NRV is recognized as an expense in the period in which
the loss occurred.
 Recognition of write-down NRV?
Dr Loss with write down of inventories to net realizable
value (P/L)
Cr Trade inventories (SFP)
 Write down to NRV

On 31 December 2020 the inventory system indicated that certain inventory items
had a cost of R50 000 and a net realisable value of R40 000.

Required:

Provide the journal entry for the above transaction.

36
Trial balance before adjustments
Acc Dr Cr
Trade inventories 50 000

Adjustment
2020 Dr Cr
Dec 31 Loss due to write-down to NRV 10 000
(P/L)
Trade inventories (SFP) 10 000

Trial balance after adjustments

Acc Dr Cr
Write-down to NRV 10 000

Trade inventories
(drR50 000 crR10 000) 40 000