Period-End Adjustments: Accruals, Prepayments, and Provisions

Welcome back. In our previous lesson, we mastered the crucial task of reconciling accounts receivable and accounts payable sub-ledgers with the general ledger. That process ensures our detailed records perfectly match the summary control accounts, giving us confidence in the accuracy of our balance sheet figures.

Today, we continue our journey through the period-end closing checklist, moving to the next critical phase. This lesson focuses on ensuring that all financial activity is reported in the correct time period. We will delve into how to review and finalize all period-end adjusting entries for accruals, prepayments, and provisions.

You have encountered adjusting entries before, but our focus now shifts to their practical review and finalization within the closing process. We will also introduce the important concept of provisions, which are essential for prudently managing business risks. Mastering this step is fundamental to producing financial statements that present a true and fair view—an image fidèle—of the company's performance and position.

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1. The Foundation: Why We Adjust

At the heart of adjusting entries are two core accounting principles you've learned about:

• The Accrual Principle (Principe de rattachement des charges aux produits): Transactions are recorded in the period in which they occur, regardless of when cash is exchanged. Revenue is recognized when it is earned, and expenses are recognized when they are incurred.
• The Matching Principle (Principe de spécialisation des exercices): Expenses must be matched with the revenues they helped to generate within the same accounting period.

Because business operations don't always align perfectly with accounting periods, we use adjusting entries to correctly allocate revenues and expenses. These adjustments typically fall into two main families: Deferrals and Accruals.

To refresh these core concepts, the following video provides a comprehensive overview of the four main types of adjusting entries.

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2. Reviewing Deferrals: Cash Paid or Received in Advance

Deferrals are for transactions where cash has been exchanged before the revenue has been earned or the expense has been incurred. At the end of the period, we adjust to recognize the portion that has been earned or used up.

Prepaid Expenses (Charges Constatées d'Avance - CCA)

These are expenses paid in the current period that relate to a future period. Think of an annual insurance premium or a quarterly rent payment.

• Review Process: At the end of the period, you must identify the portion of the expense that has not yet been used and defer it to the next period.
• Example: A company pays 12,000 MAD on December 1st for its annual insurance premium covering the next 12 months. On December 31st, only one month (1/12) of the insurance has been "used." The remaining 11,000 MAD is an expense for the next year.

Let's watch a detailed walkthrough of this process.

In the Moroccan Context:
At the end of the accounting period (e.g., December 31st), the adjusting entry transfers the unused portion from an expense account to an asset account.

• Journal Entry (31/12/N):
  • Debit Account 3491 - Charges constatées d'avance (This is a current asset account).
  • Credit the relevant Class 6 expense account (e.g., 6134 - Primes d'assurances).

This entry effectively reduces the current period's expenses and carries the unused portion forward as an asset, which will be expensed in the next period. At the start of the next period (01/01/N+1), this entry is reversed (contrepassée) to move the expense back into the expense account for the new period.

Deferred Revenues (Produits Constatés d'Avance - PCA)

These are payments received from customers for goods or services that have not yet been delivered or rendered. Think of a client paying for an annual software subscription upfront.

• Review Process: At period-end, you identify the portion of the revenue that has now been earned and recognize it. The unearned portion remains a liability.
• Moroccan Journal Entry (31/12/N):
  • Debit the relevant Class 7 revenue account (e.g., 7127 - Ventes de produits accessoires).
  • Credit Account 4491 - Produits constatés d'avance (This is a current liability account).

This entry reduces the revenue recognized in the current period and creates a liability representing the obligation to provide services in the future. This entry is also reversed at the start of the next period.

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3. Reviewing Accruals: Event Occurs Before Cash is Exchanged

Accruals are for transactions where revenue has been earned or an expense has been incurred, but cash has not yet been exchanged. We adjust to record the financial impact in the period it occurred.

Accrued Expenses (Charges à Payer - CAP)

These are expenses that the business has incurred but has not yet paid for or received an invoice for. Common examples include employee salaries earned in the last days of the month but paid in the next, or a utility bill for December that will only arrive in January.

• Review Process: You must estimate and record any expenses incurred during the period for which no invoice or payment has been processed.
• Example: Your company's electricity bill for December is estimated to be 5,000 MAD. The bill will only arrive on January 20th. On December 31st, you must record an accrued expense to include this 5,000 MAD cost in December's financial statements.

In the Moroccan Context:

• Journal Entry (31/12/N):
  • Debit the relevant Class 6 expense account (e.g., 61251 - Achats de fournitures non stockables (eau, électricité)).
  • Credit a liability account, such as 4417 - Fournisseurs - factures non parvenues (Suppliers - invoices not yet received).

The flowchart above also outlines the logic for Charges à payer, defining them as expenses related to the period but for which the supporting document (invoice) has not yet been received. Like deferrals, these entries are typically reversed at the start of the next period to await the actual invoice.

Accrued Revenues (Produits à Recevoir - PAR)

These are revenues that have been earned by providing a good or service, but the customer has not yet been invoiced or paid.

• Review Process: Identify any work completed or goods delivered for which an invoice has not been issued by the period-end.
• Moroccan Journal Entry (31/12/N):
  • Debit an asset account, such as 3427 - Clients - factures à établir (Customers - invoices to be issued).
  • Credit the relevant Class 7 revenue account (e.g., 7111 - Ventes de marchandises au Maroc).

This entry ensures the revenue is recorded in the period it was earned, even though billing will happen later.

To see practical examples of all four adjustment types with the corresponding Moroccan journal entries and account numbers, please review the following document.

Test your understanding!

A Moroccan SME pays its office rent of 90,000 MAD on December 1st, covering December, January, and February. As the accountant, what adjusting entry must you prepare on December 31st? Which accounts from the Moroccan chart of accounts would you use?

Show answer

This is a Prepaid Expense (Charge Constatée d'Avance).

1. Calculate the amount to defer: The total rent is 90,000 MAD for 3 months, so the monthly rent is 30,000 MAD. On Dec 31st, the rent for January and February (2 months) has been paid but not yet incurred. The amount to defer is 2 * 30,000 = 60,000 MAD.

2. Prepare the journal entry:

   • Debit: Account 3491 - Charges constatées d'avance for 60,000 MAD.
   • Credit: Account 6131 - Locations et charges locatives for 60,000 MAD.

This entry reduces the rent expense for the current year to 30,000 MAD and carries the remaining 60,000 MAD as an asset into the next year.

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4. An Introduction to Provisions (Les Provisions)

Provisions are a distinct but related type of adjustment. They are recorded based on the principle of prudence (principe de prudence), which requires recognizing probable future liabilities or losses as soon as they are foreseen.

A provision is different from an accrual. While an accrual is for a liability that is certain to exist but not yet invoiced (like the December electricity bill), a provision is for a liability or loss that is probable, but uncertain in its exact amount or timing.

As the summary shows, there are two main categories:

1. Provisions for Risks and Charges (Provisions pour Risques et Charges - PRC): These are recorded to cover probable future debts or charges resulting from past events.

   • Examples: A lawsuit (litige) the company is likely to lose; future costs of product warranties; major repair costs.
   • Journal Entry: To create the provision, you would:
     • Debit an expense account, e.g., 6195 - Dotations d'Exploitation aux Provisions pour Risques et Charges.
     • Credit a liability account, e.g., 1511 - Provisions pour litiges.

2. Provisions for Depreciation (Provisions pour Dépréciation): These are recorded when an asset's value has likely decreased, but the loss is not yet final. You have already seen this with the "allowance for bad debts" for accounts receivable.

   • Examples: Provision for obsolete inventory (stocks); provision for a drop in the value of investment securities (titres); provision for doubtful customer accounts (créances douteuses).

Finalizing Provisions: The review process involves re-evaluating each provision at every closing. If the risk no longer exists, the provision must be reversed (reprise sur provision), which creates income. If the estimated amount changes, the provision is adjusted.

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5. Finalization Checklist

To bring this all together, here is a practical checklist for reviewing and finalizing these adjustments during a period-end close:

For Deferrals (CCA & PCA):

• Review expense accounts (insurance, rent, advertising, maintenance contracts) for multi-period payments.
• Calculate the portion of the expense/revenue that belongs to future periods.
• Record the adjusting entry to defer the calculated amount.
• Verify that deferrals from the previous period were correctly reversed at the beginning of the current period.

For Accruals (CAP & PAR):

• Inquire with HR about unpaid salaries, bonuses, or commissions.
• Review recurring vendor bills (utilities, phone, interest); estimate and accrue for any not yet received.
• Inquire with the sales/operations team about any significant services delivered or goods shipped for which invoices have not yet been sent.
• Record the adjusting entries to accrue these expenses and revenues.

For Provisions:

• Review the aged accounts receivable list to identify doubtful accounts and adjust the bad debt provision.
• Discuss with management and legal counsel any ongoing lawsuits or other risks to determine the need for new provisions or adjustments to existing ones.
• Evaluate inventory for obsolescence or decline in value.
• Record any necessary provision creations (dotations) or reversals (reprises).

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Conclusion

You have now revisited the core adjusting entries and learned how to apply them practically in a period-end closing context. You also have a foundational understanding of provisions, a key tool for prudent financial management. The ability to correctly review, calculate, and record these entries is what separates basic bookkeeping from professional accounting. It ensures that the financial statements are not just balanced, but truly accurate.

Key Takeaways:

• Adjusting entries are essential for adhering to the accrual and matching principles.
• Deferrals (CCA, PCA) deal with cash paid or received before the event. The adjustment recognizes what has been used or earned.
• Accruals (CAP, PAR) deal with events that happened before cash is exchanged. The adjustment records the expense or revenue that has occurred.
• Provisions are for probable but uncertain liabilities or asset value decreases, guided by the principle of prudence.
• Most adjusting entries (especially accruals and deferrals) are reversed at the start of the next accounting period to simplify subsequent transaction recording.

Preview of the Next Lesson:
With our accounts adjusted for timing, we will now focus on a major physical asset: inventory. Our next lesson will cover the procedures for the year-end inventory count, including reconciling the physical count and recording any necessary valuation adjustments. This is another cornerstone of a reliable year-end closing process.