Hi.
Else here.
And today, we'll be talking about accrued revenue
adjusting entries and their impact
on the accounting equation.
What are accrued revenues?
We already know what accrued means.
It means to increase or gather together.
Revenue means that we have earned something,
because what the company has done for their customer
or client.
So similar to accrued expenses, which
we covered in our last video, accrued revenue
means to gather together the revenue that the business has
earned, but have not, as yet, recorded or received in cash
at period end.
At period end, what are we going to do about these revenues
that we have earned, but not recorded or received in cash?
Earned means that we have delivered a good
or provided a service, so we have to record a revenue.
Not received yet means we have a legal right
to collect from a customer or client in the future,
and that's an asset.
At every period end, we'll recognize
the revenue that was earned, but not recorded,
and the cash the company has a legal right to receive,
because they've done what they needed
to do in order to earn revenue.
Let's do an example to solidify our understanding
and actually see the entries that
impact the accounting equation.
ABC Company provided a service to a customer for $800
on December 30.
The company records their adjusting entries at year end,
and their year end is December 31.
No invoice was sent out, nor was cash
collected from the customer at December 31.
On January 8 of the next year, ABC Company
sends an invoice out to their customer.
On February 12 of the next year, the customer
pays their outstanding invoice in full.
What entry, if any, must be recorded on December 31?
What did we earn on December 31?
We earned revenue, because we provided a service
to a customer on December 30.
When we substantially complete what
we have to do for our customer or client,
we have the right to recognize and record revenue.
Our revenue is $800.
What else can we record?
The customer has not paid us yet,
so do we have a legal right to collect cash
from our customer in the future?
Yes, we do.
And that means we can record an accounts receivable
as an asset, because it has future benefit for the company.
Accounts receivable will be increased by $800.
Note, is this an adjusting entry?
Absolutely.
How do we know that?
Because this is an internal transaction.
The customer did not receive an invoice,
and they have not come knocking at our door
to demand that we record a receivable from them.
We have to record the asset accounts receivable,
because we know we have a legal right
to collect cash in the future and because we
need to ensure that our assets are properly
stated at every period end.
Therefore, we record what we have a right to collect,
because the customer has not yet paid.
Its an adjusting entry, because it's made by the company
to recognize that something has been earned,
but not yet received in cash.
Now, let's fast forward to January 8.
Remember, whenever we look at any scenario, stand in the date
and don't look forward.
On January 8, ABC Company sends out an invoice to the customer.
What entry, if any, should be made?
Should we record accounts receivable in revenue?
Many students do, but they would be totally wrong.
We are sending out a piece of paper
to confirm what we have already recorded on December 31.
When we send out a follow-up invoice,
we should never record anything.
This is an event, not a transaction.
And therefore, the correct entry is no entry at all.
Now, let's go forward to February 12.
Again, we have to stand in that date
and consider the impact on the accounting equation.
On February 12, the customer pays their outstanding invoice
in full.
What did we get?
We got cash.
So cash goes up by $800.
What about the other side of the entry?
What did we give away?
Many students say the other side of the entry should be revenue,
but that would be incorrect.
Why?
Because we have not done anything else for the customer,
nor have we earned more revenue.
We already recognized and recorded the revenue
on December 31, so we shouldn't do it again.
So what's the other side of the entry?
Remember that at December 31, we recorded an accounts
receivable, an asset of $800.
That asset is still sitting in the accounts receivable
account.
We received the cash from the customer on February 12.
So do we still have an asset with future benefit?
The answer is no, not anymore.
And therefore, we have to recognize
that we received cash, and we have
to get rid of the accounts receivable,
because it's been collected, and we no longer have a legal right
to collect anything else.
So the other side of the entry is
a reduction of accounts receivable,
because we collected the cash.
What type of entry is this?
It's a transactional entry, because it's an exchange
between two parties.
Plus, it involved cash, and we know
that whenever cash changes hands,
it's a transactional entry.
It's also an external transaction,
because it's an exchange between two parties involving cash.
External transactions are always transactional entries.
Now, let's look at both entries together.
Remember that the first entry is an adjusting
entry made at the end of the period or year.
It's an internal transaction recording the fact
that the company earned revenue, because they provided
a service, and an asset, because they have a legal right
to collect cash in the future.
The following year, when the company sends out an invoice,
they have no entry.
When they finally collect the cash from their customer,
they have a right to record a transactional entry.
Remember that this is an external transaction,
because they received cash from an outside party.
And their asset, accounts receivable,
decreases, because they don't have any further right
to collect cash in the future.
Let's compare unearned revenue adjusting entries
to accrued revenue adjusting entries,
so we can see the similarities and differences.
Unearned revenue starts as a liability
with a transactional entry sometime during the year
and follows with an adjusting entry at the period or year end
to recognize the revenue has been earned
and the liability has disappeared.
Accrued revenue starts as a revenue and asset using
an adjusting entry, and in the following year,
uses a transactional entry to recognize cash received.
Both have transactional entries and adjusting entries.
The adjusting entries are always at the period or year end.
But the unearned has a transactional entry
before the adjusting entry.
The accrued revenue has a transactional entry
after the adjusting entry.
Keep that in mind when you're working
on adjusting entries and trying to decide
which entries to make first.
We have now covered all the different types
of adjusting entries.
In our next video, we're going to look
at a more complicated and comprehensive question
and its solution.