Typical Transaction 12
Example: Adjustment for Interest Earned on Bank Deposit: Interest Rate at 10% on Cash at Bank end of period balance
|Adjustment for Interest earned on bank deposit at 5% pa||Increase in Debtors (+)|
|Increase in Retained Earnings (+)|
|Debtors and Prepayments||9,300||85,155|
|Other Current Assets (Stock)||0||0|
|Long Term Liabilities||0||0|
|Long Term Loan||0||0|
|TOTAL Liabilities + Equity + Retained Earnings||811,850||887,705|
Current ratio calculations are as follows:
|Current Assets||Debtors and Prepayments||Creditors||Current Liabilities||Income Statement||Equity||Current Ratio|
|Balance Sheet Original||767,850||9,300||44,000||44,300||-32,450||767,550||767,850 / 44,300 = 17.3|
|Balance Sheet New||843,705||85,155||44,000||44,200||43,405||843,405||843,705/ 44,300 = 19.0|
When booking unearned income (interest in bank deposit, 10% of cash balance), due but not yet paid by the Bank at the end of the period, as in this example, the following changes occur in the Balance sheets (B/S) and the Income Statement:
– Current Assets increase in the new B/S by new unearned amount calculated as follows: 10%*Cash at bank balance = 10%*758,550 = 75,855. New current assets balance: 758,550 + 75,855 = 843,705.
– Current Liabilities remain the same in the new B/S.
– Current Ratio change in the new B/S from 17.3 to 19.0. It means there is an increase in liquidity as the amount to be received from the Bank is 100% sure to be received in the very short term, a matter of days at the beginning of the next accounting period.
– The Income Statement increases by 75,855. The new balance becomes: (-32,450) + 75,855 = 43,405. Equity increases by the same amount.