Balance Day Adjustments and Company Financial Statements WACE Year 12 Accounting and Finance
“Process balance day adjustments for accruals, prepayments, depreciation, doubtful debts and stock, and prepare a classified Income Statement, Statement of Changes in Equity and Balance Sheet for a company”
Balance day adjustments apply the accrual basis: revenue is recognised when earned and expenses when incurred, regardless of cash. The main adjustments are accrued expenses, prepaid expenses, accrued and unearned revenue, depreciation and doubtful debts. Once adjusted, you prepare a classified Income Statement, a Statement of Changes in Equity, and a classified Balance Sheet that obeys Assets equal Liabilities plus Equity.
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What this dot point is asking
SCSA wants you to journalise balance day adjustments, explain why each is needed under accrual accounting, and prepare the three company financial statements in correct classified form.
Why balance day adjustments are needed
Under the accrual basis, transactions are recorded in the period in which they occur, not when cash is received or paid. Revenue is recognised when earned; expenses are recognised when incurred. This matches expenses against the revenue they help generate.
The main adjustments
- Accrued expense: an expense incurred but not yet paid (for example wages owing). Debit the expense, credit a liability (Accrued Wages).
- Prepaid expense: a cost paid in advance for future benefit. The unused portion is an asset. Debit the expense for the used portion, leaving the asset balance.
- Accrued revenue: revenue earned but not yet received. Debit a receivable, credit the revenue.
- Unearned revenue: cash received before the service is provided. It is a liability until earned.
- Depreciation: allocating the cost of a non-current asset over its useful life. Debit Depreciation Expense, credit Accumulated Depreciation.
- Doubtful debts: estimating receivables unlikely to be collected. Debit Bad and Doubtful Debts Expense, credit Allowance for Doubtful Debts.
Accumulated Depreciation and Allowance for Doubtful Debts are contra-asset accounts. They are credit balances that are subtracted from the related asset to show its carrying amount on the Balance Sheet, rather than reducing the asset account directly.
The order of work at balance day
A reliable routine prevents lost marks. First, identify each adjustment from the additional information and decide which two accounts it touches. Second, post the adjustment so the expense or revenue lands in the Income Statement and the asset, liability or contra account lands in the Balance Sheet. Third, build the classified Income Statement to find profit. Fourth, carry that profit into the Statement of Changes in Equity to find closing Retained Earnings. Finally, assemble the classified Balance Sheet using the adjusted figures, checking that Assets equal Liabilities plus Equity. Because the statements are linked, an error in one adjustment ripples through all three, which is why a single missed second effect is so costly.
Classification on the Balance Sheet also earns marks. Current assets and current liabilities are those expected to be realised or settled within twelve months: cash, receivables, inventory, prepayments on the asset side, and accrued expenses, unearned revenue and the current portion of borrowings on the liability side. Non-current items include property, plant and equipment (shown net of accumulated depreciation) and long-term loans. Equity lists share capital, reserves and retained earnings.
Preparing the three statements
Income Statement reports revenue less expenses to arrive at profit, often showing Gross Profit (Sales less Cost of Sales) then less operating expenses.
Statement of Changes in Equity reconciles opening to closing equity: opening Retained Earnings plus profit less dividends, plus any share issues and reserve movements.
Balance Sheet classifies assets and liabilities into current and non-current, and reports equity. It must balance.
Hartley Ltd has Sales $500 000 and Cost of Sales $300 000, giving Gross Profit $200 000. Operating expenses before adjustments are $120 000. Two adjustments apply: accrued wages of $6 000 and depreciation of $14 000, adding $20 000 to expenses, so total expenses are $140 000.
In the Statement of Changes in Equity, opening Retained Earnings of $30 000 plus profit $60 000 less dividends $10 000 gives closing Retained Earnings of $80 000. On the Balance Sheet, the $6 000 accrued wages is a current liability and the $14 000 depreciation increases Accumulated Depreciation, reducing the equipment carrying amount. Assets equal Liabilities plus Equity remains intact.
Every adjustment has two sides. Students often record the expense but forget to create the matching liability, asset or contra account, or vice versa. For example, recording depreciation expense but not increasing Accumulated Depreciation overstates assets and breaks the Balance Sheet. Always trace both the Income Statement effect and the Balance Sheet effect.
Exam-style questions
Questions in the style of SCSA exam questions on this dot point, each with a worked answer. They are written by ExamExplained unless tagged "Past paper"; the year shows the paper a question is modelled on.
WACE 2021-style9 marksAt 30 June, Lyle Ltd has Sales $720 000, Cost of Sales $430 000 and operating expenses before adjustments of $150 000. Adjustments required: wages owing $8 000; insurance prepaid $5 000 (already fully expensed); depreciation of equipment $22 000; doubtful debts to be raised by $4 000. Calculate profit after the adjustments and state the Balance Sheet effect of each adjustment.Show worked answer →
A 9 mark response needs each adjustment, the revised profit, and the Balance Sheet effect.
Gross profit. .
Adjusting expenses. Start at +8,000-5,000+22,000+4,000= 150,000 + 8,000 - 5,000 + 22,000 + 4,000 = 179,000$.
Profit. .
Balance Sheet effects. Accrued wages is a current liability; prepaid insurance is a current asset; accumulated depreciation rises , cutting equipment carrying amount; the allowance for doubtful debts rises , cutting receivables to net realisable value. Markers reward each adjustment with the right sign, the revised profit, and the matching Balance Sheet item.
WACE 2023-style5 marksExplain why every balance day adjustment affects both the Income Statement and the Balance Sheet, using accrued wages and depreciation as examples.Show worked answer →
A 5 mark response needs the double-entry logic and both examples.
Double-entry. Every adjustment has two equal effects because of double-entry: one side adjusts an income or expense (Income Statement) and the other adjusts an asset or liability (Balance Sheet). This keeps the accounting equation in balance.
Accrued wages. Debit Wages Expense (raises expense, lowers profit) and credit Accrued Wages, a liability on the Balance Sheet. The expense is recognised in the period incurred even though cash has not been paid.
Depreciation. Debit Depreciation Expense (lowers profit) and credit Accumulated Depreciation, a contra-asset that reduces the asset's carrying amount on the Balance Sheet. Recording the expense without the contra account would overstate assets and unbalance the statements. Markers reward the dual-effect principle and both correctly traced examples.