USING OUTKAST ON TOUR: AN INSTRUCTIONAL MINI-CASE FOR LEARNING ACCRUAL ACCOUNTING CONCEPTS
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1 USING OUTKAST ON TOUR: AN INSTRUCTIONAL MINI-CASE FOR LEARNING ACUAL ACCOUNTING CONCEPTS Daniel J. Jones Assistant Professor of Accounting Assumption College 500 Salisbury Street Worcester, MA (508)
2 USING OUTKAST ON TOUR: AN INSTRUCTIONAL MINI-CASE FOR LEARNING ACUAL ACCOUNTING CONCEPTS INTRODUCTION OutKast on Tour is a classroom resource that enables students to understand the essence of accrual accounting. It covers concert revenue recognition for a band and the corresponding expense recognition for three purchasers of concert tickets. Adele pays cash for her ticket one month before the concert; Bono buys a ticket for cash as the concert begins; and Carrie pays for her ticket one month after the concert. There are no other possible relationships (before, same day, or after) regarding cash transfer and recognition of revenues and expenses. This problem is designed for use early in the introductory accounting course: after the second chapter for most Accounting Principles textbooks. After completing two chapters, most students understand concepts relating to revenue and expense recognition regarding transactions for which cash transfers (receipts and payments) occur either simultaneous to or after revenue and expense transactions. Using OutKast on Tour enables students to grasp concepts relating to cash transfers that occur prior to revenue and expense recognition. This serves as a foundation for understanding prepaid expenses, unearned revenues, adjusting entries, and other accrual accounting issues (that are covered in the third chapter of most Accounting Principles textbooks). Students learn the following fundamental concept: under accrual accounting: the timing of revenues and expense recognition is not dependent on the receipt of cash (for revenues) or payment of cash (for expenses). The author uses the resource in the following manner: A. He assigns the OutKast on Tour problem on the two pages that follow. B. Students discuss the problem in class for minutes, with the instructor serving as discussion leader. He reproduces the Revenues Journal Entries exhibit on the classroom whiteboard for use during discussions. After completing coverage of revenues, he repeats the process for discussing Expenses Journal Entries. He explains to students that detailed note-taking is unnecessary, because he will distribute a solution note. After the discussions, he distributes OutKast on Tour Solution Note and Note Regarding Adjusting Entries for Prepaid Assets (included below) during the course of the discussion. The OutKast on Tour Discussion Notes page in this document provides guidance for instructors in leading the classroom discussion.
3 OUTKAST ON TOUR OutKast scheduled the Hey Ya! Tour during the summer of On August 15, OutKast performed at the Laska Center. A. On July 15, Adele paid $ to purchase a ticket for the concert. B. On August 15, just prior to the concert, Bono paid $ to purchase a ticket for the concert C. OutKast permitted Carrie to purchase a concert ticket for $ on credit. She paid for the ticket one month later on September 15. Requirement 1: For OutKast, prepare the journal entries that should be recorded regarding cash received and concert revenue earned for these three tickets on July 15, August 15, and September 15. Journal Entries REVENUES July 15 August 15 September 15 A (for Adele s ticket) Cash received before Cash B (for Bono s ticket) Cash received on same day as Cash C (for Carrie s ticket) Cash received after Cash Case A: Cash is received before revenue is recognized (deferred revenue). Chapter 3 example: Unearned Revenue à Revenue Case B: Cash is received on same day as revenue is recognized. This is covered in Chapter 1. Case C: Cash is received after revenue is recognized (accrued revenue). This is covered in Chapter 1.
4 Requirement 2: For Adele, Bono, and Carrie, prepare the journal entries that should be recorded regarding cash paid and entertainment expense recognized for these three tickets on July 15, August 15, and September 15. EXPENSES A (for Adele s ticket) Cash received before Journal Entries Cash B (for Bono s ticket) Cash received on same day as Cash C (for Carrie s ticket) Cash received after Cash Case A: Cash is paid before expense is recognized (deferred expense). Chap. 3 example: Prepaid Insurance à Insurance Expense Case B: Cash is paid on same day as expense is recognized. This is covered in Chapter 1. Case C: Cash is paid after expense is recognized (accrued expense). This is covered in Chapter 1.
5 OUTKAST ON TOUR SOLUTION HANDOUT REVENUES July 15 August 15 September 15 A (for Adele s ticket) Cash received before Cash Unearned Concert Revenue Unearned Concert Revenue Concert Revenue B (for Bono s ticket) Cash received on same day as Cash Concert Revenue C (for Carrie s ticket) Cash received after Accounts Receivable Concert Revenue Cash Accounts Receivable Case A: Cash is received before revenue is recognized (deferred revenue). Chapter 3 Example: Unearned Revenue à Revenue Case B: Cash is received on same day as revenue is recognized. This is covered in Chapter 1. Case C: Cash is received after revenue is recognized (accrued revenue. This is covered in Chapter 1. A (for Adele s ticket) Cash received before Prepaid Concert Ticket Cash Entertainment Expense Prepaid Concert Ticket B (for Bono s ticket) Cash received on same day as Entertainment Expense Cash C (for Carrie s ticket) Cash received after Entertainment Expense Accounts Payable Accounts Payable Cash Case A: Cash is paid before expense is recognized (deferred expense). Chap. 3 Example: Prepaid Insurance à Insurance Expense Case B: Cash is paid on same day as expense is recognized. This is covered in Chapter 1. Case C: Cash is paid after expense is recognized (accrued expense) This is covered in Chapter 1.
6 OUTKAST ON TOUR DISCUSSION NOTES Use of this instructional resource enables students to understand the essence of accrual accounting. It provides an opportunity for classroom discussion of the criteria for recognition of revenues and expenses. Covering this problem provide a foundation for understanding adjusting entries, unearned revenues and prepaid assets (prepaid expenses and plant & equipment). Revenue Considerations There are only three possible relationships Regarding the recognition of revenue and the corresponding receipt of cash Revenues can be recognized after the corresponding receipt of cash. Revenues can be recognized at the same time as the corresponding receipt of cash. Revenues can be recognized before the corresponding receipt of cash. After completing the journal entries, instructor should ask the students: What is common among the three journal entries on the day of the concert, August 15? The ensuing discussion should cover the essence of accrual accounting for revenues: No matter whether earning event takes place after, at the same time as, or before the receipt of cash, Concert Revenue is recognized on the day of the earning event (i.e., completion of the concert in the OutKast case)! Expense Considerations There are only three possible relationships regarding the recognition of expenses and the corresponding payment of cash Expenses can be recognized after the corresponding payment of cash. Expenses can be recognized at the same time as the corresponding receipt of cash. Expenses can be recognized before the corresponding receipt of cash. After completing the journal entries, the instructor should ask the students: What is common among the three journal entries on the day of the concert, August 15? The ensuing discussion should cover the essence of accrual accounting: No matter whether the service is provided after, at the same time as, or before the payment of cash, Concert Expense is recognized on the day of the service provided (i.e., completion of the concert in the OutKast case)! In order to relate the concepts learned to textbook topics regarding prepaid assets, instructor can distribute and discuss the Note Regarding Adjusting Entries for Prepaid Assets handout on the page that follows.
7 NOTE REGARDING ADJUSTING ENTRIES FOR PREPAID ASSETS In the OutKast on Tour example, Adele s purchase of a ticket (an asset) is similar to a company purchasing an asset such as: Prepaid Insurance Prepaid Rent Supplies Equipment The table below explains what happens at the time of purchase and when the asset loses value. General Case OutKast Example Entries for Prepaid Assets Recording the transactions for assets that get used up. Journal Entries are: For Purchaser (Adele) Assume that Adele bought tickets to a series of 12 monthly concerts. For Purchaser (Buyer) Assume that Buyer bought Insurance coverage (in advance) for 12 months For Purchaser (Buyer) Assume that Buyer bought Rent coverage (in advance) for 12 months At time of à Asset Prepaid Tickets 1,200 Prepaid Insurance 1,200 Prepaid Rent 1,200 Purchase Cash Cash 1,200 Cash 1,200 Cash 1,200 When the à Expense Ent ment Expense Insurance Expense Rent Expense Asset loses value Asset Prepaid Tickets Prepaid Insurance Prepaid Rent Note regarding Plant, & Equipment (P&E): When Equipment (or other P & E) is depreciates, the corresponding adjusting journal entry records a debit to Depreciation Expense and a credit to Accumulated Depreciation: Equipment. Since the two accounts, Equipment and Accumulated Depreciation: Equipment, together comprise the book value of the equipment asset, the credit to Accumulated Depreciation reduces the value (book value) of the equipment asset
8 RELATED READINGS Needles, B. E., M. Powers, and S. Crosson Principles of Accounting. 11th edition. Mason, OH. Cengage Learning (South-Western Publishing Co.). Weygandt, J. J., D. E. Kieso, and P. D. Kimmel Accounting Principles. 10th edition. Hoboken, NJ. John Wiley & Sons, Inc. Wild, J. J., K. W. Shaw. and B. Chiappetta Fundamental Accounting Principles. 20th edition. New York, NY. McGraw-Hill/Irwin.
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