The recording of prepaid expenses, unearned revenue, accrued revenues, and accrued expenses is very important. There has been some really good explanations provided to justify these actions. Accounts need to be adjusted at period end in order to get a more accurate picture of a company's financial condition. However, how accurate should accountants be in recording adjusting entries?
We have the ability to calculate these numbers down to the closest penny. Does this level of detail truly give us a better picture? The textbooks steer you into thinking that all of these accounts should be adjusted. With the utilization of computers, it can be done. But, is it cost justified to be that accurate? Does Microsoft/Apple/IBM/Walt Disney care about office supply balances at the end of a period? What it comes down to is what is known as professional judgement. Some of the companies that I mentioned above will go through office supplies faster that you will think. Is there a benefit to counting the actual office supply inventory at year end? Does the benefit justify the cost?
So, lets look at the practical side. Can we come up with some practical advice on when we should or should not adjust the entries at the end of the period?
So, the series of questions leads to a conclusion that judgment is involved in deciding when precision is not justified (counting the pads of paper in the supply closet at month end at Microsoft). That's right! You are then asked to come up with some practical advice on when we should or should not adjust the entries at the end of the period.
Clearly, the concept of materiality indicates that some things are too ...
This pragmatic discussion gives pros and cons of adjusting entries, when they might be ignored and when they are critical.