SOLUTIONS MANUAL FOR Financial Accounting The Cornerstone of Business Decision-Making 5th Edition. J by digitaldownload87

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

ACCOUNTING AND THE FINANCIAL STATEMENTS

DISCUSSION QUESTIONS 1.

Accounting is an information system that identifies, measures, records, and communicates financial information about a company's business activities to permit informed decisions by users of the information. Accounting is often referred to as the language of business because it communicates relevant and reliable information about economic activities of a company that helps people make better decisions.

Accounting information is demanded (or needed) by decision-makers both inside and outside the business to provide information about business activities and finances so that informed decisions can be made. Six groups that create the demand for accounting information and their uses of accounting information are described next: (1)

(2) (3) (4)

(5) (6)

Managers use accounting information to help decide which actions to take, predict the consequences of their actions, and evaluate the effectiveness of their past decisions. They also use accounting information to control the operations of the company. Investors (owners) need accounting information about a business to evaluate the future prospects of a business and to decide where to invest their money. Creditors (lenders) need accounting information to decide whether or not to lend money (extend credit) to a business. Governments need accounting information about businesses to determine taxes owed by businesses, to implement a variety of regulatory objectives, and to make national economic policy decisions. Labor unions use accounting information when negotiating wage increases for its members. Financial analysts use accounting information when offering buy or sell recommendations to clients.

An accounting entity is a business that has an identity separate from that of its owners and managers and for which accounting records are kept. There are three main forms that accounting entities take: a sole proprietorship, a partnership, and a corporation.

A sole proprietorship is a business entity owned by one person. A partnership is a business entity owned jointly by two or more individuals. The owner of a sole proprietorship and the partners in a partnership are responsible for the debts of the business. A corporation is a separate legal entity formed by one or more persons called stockholder(s). A corporation is legally separate from the affairs of its owners, which limits the stockholders’ legal responsibility for the debt of the business to the amount that the stockholders invested in the business. Corporate shareholders

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

generally pay more taxes than owners of sole proprietorships or partnerships. Although the combined number of sole proprietorships and partnerships largely outnumbers the number of corporations, the majority of business in the United States is conducted by corporations. 5.

The three main types of business activities are financing activities, investing activities, and operating activities. Financing activities involve obtaining the funds necessary to begin and operate a business. These funds come from either issuing stock or borrowing money. Investing activities involve buying and selling assets that enable a corporation to operate. Operating activities are the normal business activities that a company engages in as it conducts its business. These activities involve selling products or services, purchasing inventory, collecting amounts due from customers, and paying suppliers.

Assets are the economic resources (or future economic benefits) obtained or controlled by a business. Liabilities are the creditors’ claims on the resources of a business. Stockholders’ equity is the ownership claim on the resources of a business. Stockholders’ equity is considered a residual interest in the assets of a business that remain after deducting the business’s liabilities.

Revenues are the increases in assets that result from the sale of products or services. Expenses are the costs of assets used, or the liabilities created, in the operation of the business. If revenues are greater than expenses, a business has earned net income. If expenses are greater than revenues, a business has incurred a net loss.

The four primary financial statements are as follows: (1)

(2) (3)

(4)

Balance sheet: A presentation of information about a company’s economic resources (assets) and the claims against those resources by creditors and owners (liabilities and stockholders’ equity) at a specific point in time. Income statement: A report on how well a company has performed over a period of time. Retained earnings statement: A report on how much of the company’s income was retained in the business and how much was distributed to owners over a period of time. Statement of cash flows: A report on the changes in a company’s cash during a period of time. The statement of cash flows provides information about the company’s sources (inflows) and uses (outflows) of cash.

There are many questions that can be answered based on each of the financial statements: (1)

Balance sheet: a. What is the total amount of assets (economic resources) of a corporation? What is the total amount of liabilities (claims against the resources) for a corporation? b. How much equity do the owners of the corporation have in its assets? c. Is the corporation able to pay its debts as they become due?

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

(2)

(3)

(4)

Income statement: a. How much revenue was earned last month? Last quarter? Last year? b. What was the total amount of expenses incurred to earn that revenue? c. How much better-off is the corporation at the end of the year than it was at the beginning of the year? d. Was the corporation profitable, and what are the prospects for the corporation’s future profitability? e. What are the prospects for the future growth of the corporation? Retained earnings statement: a. How much income was distributed in dividends by the corporation? b. What amount of equity in the business has been generated internally? Statement of cash flows: a. How much cash was taken in or paid out as a result of operations? b. How much cash was invested in new equipment? c. How much cash was used to pay off business debt?

10. Point-in-time measurement means as of a particular date. The balance sheet is a point-in-time measurement. The period-of-time description applies to what has happened over a time interval. The income statement is a period-of-time measurement that explains the business activities between balance sheet dates. The statement of cash flows and the statement of retained earnings are also period-oftime measurements. 11. The fundamental accounting equation is: Assets = Liabilities + Stockholders’ Equity The equation is significant because it means that the balance sheet must always balance. This implies that what a company owns (its resources) must always be equal to the claims of its creditors (liabilities) and investors (stockholders’ equity). 12. Each financial statement includes a heading that is comprised of (a) the name of the company, (b) the title of the financial statement, and (c) the time period covered— either a point-in-time measurement (an exact date) or a period-of-time description (e.g., a year ended in a specific date). 13. Current assets are cash and other assets that are reasonably expected to be converted to cash within 1 year or the operating cycle, whichever is longer. Current liabilities are obligations that will be satisfied within 1 year or the operating cycle, whichever is longer. Since current assets are presented separately from other assets, statement users can see if the firm is likely to have enough resources available to meet its current liabilities as they become due. If current assets were presented among other assets, such a determination would be difficult. Current liabilities are separated from long-term liabilities because current liabilities will require asset outflows (or replacement with another liability) much

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

sooner than will long-term liabilities. If all liabilities were presented together, financial statement users would have difficulty determining the assets (economic resources) required in the near future to satisfy the current liabilities. 14. Current assets are generally listed on the balance sheet in order of liquidity or nearness to cash, whereas current liabilities are usually listed in the order in which they will be paid. 15. The two main components of equity are contributed capital and retained earnings. Contributed capital is increased by investments of new capital in a company by its owners (the issue of common stock to stockholders). Retained earnings is the accumulated net income of a company that has not been distributed to owners. Retained earnings is increased by net income and decreased by net losses and dividends. 16. Net Income = Total Revenues − Total Expenses 17. The single-step income statement format takes into account only two categories: total revenues and total expenses. Total expenses are subtracted from total revenues in a single step to arrive at net income. The multiple-step income statement organizes revenues and expenses into multiple categories. The resulting subtotals (gross margin [gross profit], income from operations, and net income) highlight important relationships between revenues and expenses that financial statement users find useful. 18. A retained earnings statement summarizes and explains the changes in retained earnings during an accounting period. Retained earnings is the income earned by the company but not paid to the owners in the form of dividends. The retained earnings statement starts with the balance in retained earnings at the beginning of the period. To this balance, add net income (or subtract the net loss) obtained from the income statement. Next, subtract any dividends the company declared during the period. The total is the retained earnings at the end of the period that is reported on the balance sheet. 19. The statement of cash flows classifies cash flows into three categories: (1) cash flows from operating activities, (2) cash flows from investing activities, and (3) cash flows from financing activities. Cash flows from operating activities are the cash flows related to the normal operations of the business in earning income, and these include cash sales and collections of accounts receivable minus cash paid for goods, services, wages, salaries, and interest. Cash flows from investing activities are cash flows related to the acquisition or sale of investments and long-term assets, including cash received from the sales of property, plant, and equipment; investments; and other long-lived assets minus the cash spent to purchase long-term assets. The cash flows from investing activities by a healthy, growing business will often reflect an excess of expenditures over receipts. Cash flows from financing activities are the

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

cash flows related to obtaining the capital of the company, including the cash contributed by owners and borrowed from creditors minus amounts paid as dividends and repayments of liabilities. 20. The retained earnings statement describes the changes in retained earnings, a balance sheet account, that occurs between two balance sheet dates. One of the major sources of change in retained earnings is the net income (or net loss) for the year, which is determined on the income statement. The other major source of change in retained earnings is dividends, which are not considered a part of income. 21. Examples of unethical behavior will differ from one student to another. One example is an accountant who gives in to personal pressure to prepare financial statements that overstate the income of the company by bending or violating generally accepted accounting principles. Overstated income may lead decision-makers to make the wrong choices. Decision-makers inside and outside the business must be able to rely on the financial information they receive to make proper decisions. Therefore, ethical behavior by accountants is necessary. Acting ethically is not always easy. However, because of the important role of accounting in society, accountants are expected to maintain the highest level of ethical behavior.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

MULTIPLE-CHOICE QUESTIONS 1-1.

1-2.

1-3.

1-4.

1-5.

1-6.

1-7.

($7,500 + $3,900 + $3,100)

1-8.

($6,000 + $11,500)

1-9.

1-10. b

($12,900 − $6,300)

($182,300 − $108,800 − $48,600 − $12,000)

1-11. c 1-12. c

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

BRIEF EXERCISES BE 1-13 a. b. c. d. e.

Government Manager Creditor Investor Financial Analyst

BE 1-14 a. b. c. d. e. f. g.

Corporation Sole proprietorship, Partnership Partnership Corporation Corporation Sole proprietorship Corporation

BE 1-15 a. b. c. d. e. f. g.

Financing Operating Investing Financing Operating Operating Financing

BE 1-16 Note: Be sure to treat situations b. through d. independently. 1.

Assets = Liabilities $425,000 = $260,000 X = $165,000 Assets = Liabilities $498,000* = $292,000** X = $206,000 * $425,000 + $73,000 = $498,000 ** $260,000 + $32,000 = $292,000 Assets = Liabilities $373,000* = X X = $173,000

+ Equity + X + Equity + X

+ Equity + $200,000**

* $425,000 − $52,000 = $373,000 ** $165,000 (from part 1) + $35,000 = $200,000

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

BE 1-16 (Continued) 4.

Assets = Liabilities X = $345,000* X = $437,000

+ Equity + $92,000**

* $260,000 + $85,000 = $345,000 ** $165,000 (from part 1) − $73,000 = $92,000

BE 1-17 Scenario 1:

Assets = Liabilities X = $42,000 (a) = $98,000

Scenario 2:

$115,000 = X (b) = $38,000

Scenario 3:

$54,000 = $18,500 (c) = $35,500

+ Equity + $56,000 + $77,000 + X

BE 1-18 1. b 2. c 3. a 4. d 5. a 6. f 7. d 8. a 9. a 10. e 11. g 12. a

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

BE 1-19 Cavernous Homes Inc. Balance Sheet December 31 Assets Cash. ........................................................................................... Accounts receivable ..................................................................... Supplies ....................................................................................... Total assets..................................................................................

$3,200 4,500 8,100 $15,800

Liabilities and Stockholders’ Equity Liabilities: Notes payable ........................................................................ Total liabilities ................................................................. Stockholders’ equity: Common stock ........................................................................ Retained earnings .................................................................. Total stockholders’ equity ................................................ Total liabilities and stockholders’ equity .......................................

$5,000 $5,000 $7,000 3,800 10,800 $15,800

BE 1-20 Rutherford Company Income Statement For the year ending December 31 Revenues and gains: Sales revenue ........................................................................ Interest income...................................................................... Total revenues ................................................................ Expenses and losses: Cost of goods sold .................................................................. Salaries expense .............................................................. Insurance expense ................................................................. Loss on disposal of property, plant, and equipment ................ Income taxes expense ............................................................ Total expenses and losses ............................................... Net income .................................................................................

$65,000 3,900 $68,900 $28,800 22,500 4,300 1,200 2,400

(59,200) $9,700

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

BE 1-21 Rutherford Company Income Statement For the year ending December 31 Sales revenue ........................................................................ Cost of goods sold .................................................................. Gross margin ......................................................................... Operating expenses Salaries expense .................................................................... Insurance expense ................................................................. Total operating expenses ................................................. Income from Operations ........................................................ Other income and expenses: Interest income...................................................................... Loss on disposal of property, plant, and equipment ................ Total other income and expenses ..................................... Income before income taxes ........................................................ Income taxes expense .................................................................. Net income ..................................................................................

$65,000 (28,800) $36,200 $22,500 4,300 (26,800) $9,400 $ 3,900 (1,200) 2,700 $ 12,100 (2,400) $ 9,700

BE 1-22 a. b. c. d. e. f.

Increases retained earnings (I) Decreases retained earnings (D) Increases retained earnings (I) No effect on retained earnings (NE) Decreases retained earnings (D) Decreases retained earnings (D)

BE 1-23 Beginning retained earnings ......................................................... + Net income ($82,000 − $55,000) ............................................. − Dividends .............................................................................. = Ending retained earnings ........................................................

$35,000 27,000 (8,000) $54,000

BE 1-24 a. b. c. d. e.

Operating activities (O) Financing activities (F) Financing activities (F) Operating activities (O) Investing activities (I)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

BE 1-25 (a) $55,000 ($30,000 + $25,000 = a) (b) $64,000 (b + $30,000 = $94,000) (c) $20,000 ($50,000 + c = $70,000)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

EXERCISES E 1-26 1. 2. 3. 4. 5. 6.

Bank (B) Government (G) Business managers (M) Investor (I) Labor union (U) Financial analyst (FA)

E 1-27 1.

Sole proprietorship: 1, 2, 4, 5 Partnership: 2, 3, 4, 5, 7 Corporation: 2, 3, 4, 5, 6, 8 There are many advantages and disadvantages to each particular type of business entity as listed below. a. Sole Proprietorship • Advantages (i) The business is easily formed. (ii) Control over the operations of the business is maintained by the owner. (iii) Sole proprietorships pay less taxes relative to corporations. • Disadvantages (i) The owner is personally liable for the debt of the business. (ii) The life of the business is limited to the owner’s life. b. Partnership • Advantages (i) Have increased access to the financial resources and individual skills of each of the partners. (ii) Partnerships pay less taxes relative to corporations. • Disadvantages (i) Control over the operations of the business is shared among the partners. (ii) The partners are personally liable for the debt of the business. c. Corporation • Advantages (i) Can more easily raise large amounts of money. (ii) Ownership of the business can be easily transferred by selling stock. (iii) The owners’ liability is limited to the amount invested in the business. • Disadvantages (i) The formation and organization of the business are more complex. (ii) Corporations generally pay higher taxes.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-28 a. b. c. d. e. f. g.

Investing (I) Financing (F) Operating (O) Investing (I) Operating (O) Financing (F) Financing (F)

E 1-29 a. b. c. d. e. f. g. h. i. j.

Financing (F) Investing (I) Investing (I) Operating (O) Operating (O) Financing (F) Operating (O) Operating (O) Investing (I) Financing (F)

E 1-30 1. 2. 3. 4. 5. 6. 7.

c e b g d f a

E 1-31 1. 2. 3.

Assets $116,200 212,600 (c) 70,800***

Liabilities (a) $60,800* 145,900 22,500

Equity $55,400 (b) 66,700** 48,300

* $116,200 − $55,400 = $60,800 ** $212,600 − $145,900 = $66,700 *** $22,500 + $48,300 = $70,800

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-32 1. Higgins Company Balance Sheet Specific point in time Assets Current assets: Cash Accounts receivable Inventory Prepaid insurance Total current assets Property, plant, and equipment: Building Equipment Less: Accumulated depreciation Total property, plant, and equipment Intangible assets: Trademarks Total assets Liabilities and Stockholders’ Equity Liabilities: Current liabilities: Accounts payable Income taxes payable Wages payable Total current liabilities Long-term liabilities: Notes payable Bonds payable Total long-term liabilities Total liabilities Stockholders’ equity: Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity 2.

To assess liquidity, it would be helpful to have information on the Higgins Company’s current assets (cash, accounts receivable, inventory, and prepaid insurance) and current liabilities (accounts payable, income taxes payable, and wages payable). With this information, a user could compute a company’s working capital (current assets − current liabilities) and current ratio (current assets ÷ current liabilities). These two measures are helpful in assessing a company’s ability to pay its debts as they become due.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-34 1. Hanson Construction Partial Balance Sheet December 31 Current assets: Cash ........................................................................................ Accounts receivable ................................................................. Notes receivable ...................................................................... Supplies ................................................................................... Total current assets............................................................

$1,380 7,000 1,500 6,200

Current liabilities: Accounts payable ..................................................................... Notes payable .......................................................................... Total current liabilities .......................................................

$2,100 6,800

$16,080

$ 8,900

The accounts receivable of $5,000 due in 18 months will be classified as a long-term asset. The construction equipment and related accumulated depreciation are classified as property, plant, and equipment (a noncurrent asset). 2. Hanson Construction’s liquidity may be evaluated by examining its current ratio and working capital. Its current ratio is 1.81 ($16,080 / $8,900) and its working capital is $7,180 ($16,080 − $8,900). Because current assets well exceed the current liabilities, Hanson appears to be able to pay its debts that become due within the next year.

E 1-35 The balance sheet at December 31 will show equipment at its historical cost of $425,000 reduced by accumulated depreciation (a contra-asset) of $40,000. Therefore, the net book value (or carrying value) of the equipment is $385,000. (Note: The concepts of book value and carrying value will be covered in more detail in later chapters.) The equipment and accumulated depreciation will be reported under the caption “Property, plant, and equipment” in the asset section of the balance sheet. The income statement will show depreciation expense of $40,000. In a multiple-step income statement, depreciation expense will be reported as an operating expense.

E 1-36 Mulcahy Manufacturing Inc. Partial Balance Sheet December 31 Stockholders’ equity: Common stock ......................................................................... Retained earnings .................................................................... Total stockholders’ equity ..................................................

$150,000 37,500 $187,500

Note: Transactions among stockholders do not change stockholders’ equity balances.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-37 1. College Spirit Balance Sheet December 31 Assets Current assets: Cash ....................................................................................... Accounts receivable ................................................................ Inventory ................................................................................ Prepaid rent............................................................................ Total current assets...........................................................

$ 13,300 6,700 481,400 54,000 $555,400

Long-term investments: Investment ............................................................................ Property, plant, and equipment: Furniture ................................................................................ Less: Accumulated depreciation .............................................. Furniture, net ................................................................... Total assets...................................................................................

110,900 $ 88,000 (23,700) 64,300 $730,600

Liabilities and Stockholders’ Equity Current liabilities: Accounts payable .................................................................... Notes payable ......................................................................... Income taxes payable ............................................................. Total current liabilities ......................................................

$104,700 50,000 11,400 $166,100

Long-term liabilities: Bonds payable ....................................................................... Total liabilities .................................................................. Stockholders’ equity: Common stock ........................................................................ Retained earnings ................................................................... Total stockholders’ equity ................................................. Total liabilities and stockholders’ equity ........................................

180,000 $346,100 $300,000 84,500 384,500 $730,600

College Spirit has working capital of $389,300 ($555,400 − $166,100) and a current ratio of 3.34 ($555,400 / $166,100).

The working capital and current ratios show that College Spirit has adequate current assets to cover all of the current liabilities that will become due in the near future. Therefore, College Spirit’s liquidity should not be a major concern. Comparing these items to those of other companies in the same industry and examining the trends in these measures over time will yield additional insights.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-38 1. Jerrison Company Balance Sheet December 31 Assets Current assets: Cash ................................................................................ Investments (short-term) ................................................. Accounts receivable ......................................................... Prepaid insurance ............................................................ Inventory ......................................................................... Total current assets....................................................

$ 11,400 21,000 95,500 5,700 187,900 $321,500

Long-term investments: Investment ...................................................................... Property, plant, and equipment: Land ................................................................................ Building ........................................................................... Less: Accumulated depreciation ....................................... Building, net .............................................................. Trucks .............................................................................. Less: Accumulated depreciation ....................................... Trucks, net ................................................................. Equipment (data processing) ............................................ Less: Accumulated depreciation ....................................... Equipment, net ................................................................ Total property, plant, and equipment ......................... Total assets............................................................................

32,700 $ 41,000 $ 419,900 (216,800) 203,100 $ 106,100 (31,200) 74,900 $ 309,000 (172,400) 136,600

455,600 $809,800

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-38 (Continued) Liabilities and Stockholders’ Equity Current liabilities: Accounts payable ..................................................................... Notes payable .......................................................................... Salaries payable ....................................................................... Interest payable ....................................................................... Income taxes payable .............................................................. Total current liabilities .......................................................

$ 65,100 150,000 14,400 12,600 21,600 $263,700

Long-term liabilities: Bonds payable ........................................................................ Total liabilities ................................................................... Stockholders’ equity: Common stock……………………………………………… .......................... Retained earnings*………………………………………… ........................ Total stockholders’ equity .................................................. Total liabilities and stockholders’ equity .........................................

200,000 $463,700 $150,000 196,100 346,100 $809,800

*Note: Retained earnings is computed using the concepts implied by the fundamental accounting equation. Because assets must equal liabilities plus stockholders’ equity, retained earnings is computed by determining the amount that causes both sides of the accounting equation to remain equal. This amount is computed as follows:

First, compute stockholders’ equity: Total Assets $809,800 X

= = =

Total Liabilities + Total Stockholders’ Equity $463,700 + X $346,100

Next, compute retained earnings: Total Stockholders’ Equity $346,100 Y

= = =

Common Stock + Retained Earnings $150,000 + Y $196,100

Jerrison has working capital of $57,800 ($321,500 − $263,700) and a current ratio of 1.22 ($321,500 / $263,700).

While Jerrison appears to be liquid, inventory is its largest current asset at $187,900. If a large portion of inventory cannot be sold, Jerrison will most likely not generate sufficient cash flow to pay its obligations as they become due.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-39 a. Current assets: (a) + $19,200 + $85,700 + $10,400 = $142,200 (a) = $26,900 b. Long-term liabilities: $14,500 + (b) = $50,300 (b) = $35,800 c. Total liabilities and stockholders’ equity: (e) = Total assets (e) = $142,200 d. Total stockholders’ equity: $142,200 (e) = $50,300 + (d) (d) = $91,900 e. Contributed capital: (c) + $56,900 = $91,900 (d) (c) = $35,000 f.

Total assets: (g) = Total liabilities and stockholders’ equity (g) = $149,200

g. Long-term investments: $25,000 + (f) + $92,800 + $9,200 = $149,200 (g) (f) = $22,200 h. Total liabilities: $12,300 + $34,900 = (h) (h) = $47,200 i.

Contributed capital: (i) + $67,000 = $102,000 (j) (i) = $35,000

Total stockholders’ equity: $47,200 (h) + (j) = $149,200 (j) = $102,000

E 1-40 1.

Butler Company Income Statement For a period of time Revenues: Sales revenue Expenses: Cost of goods sold Advertising expense Salaries expense Utilities expense Depreciation expense Interest expense Income taxes expense Net income

2. Information contained on the income statement can be used to predict a company’s ability to generate future income. Specifically, by examining a company’s net profit margin (Net Income / Sales Revenue), a financial statement user can gain insights into management’s ability to control expenses, a critical factor to achieve future profitability.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-41 1.

ERS Inc. Income Statement For the year ending December 31

Revenues: Service revenue ............................................................ Expenses: Wages expense ............................................................ Salaries expense .......................................................... Supplies expense .......................................................... Rent expense ................................................................ Utilities expense ........................................................... Advertising expense ...................................................... Depreciation expense ................................................... Insurance expense ........................................................ Interest expense ........................................................... Income taxes expense ................................................... Total expenses ......................................................... Net income ...................................................................

$933,800 $448,300 195,600 66,400 58,400 26,100 24,200 16,250 11,900 10,100 15,150 (872,400) $ 61,400

Net profit margin is 6.58% ($61,400 net income / $933,800 service revenue). This indicates that $0.0658 of each sales dollar is profit. If ERS were to increase revenues by $100,000, an additional $6,580 of profit would be recognized. If ERS wanted to achieve larger profits, it should focus on controlling its expenses.

A declining profit margin implies that ERS is having difficulty maintaining control over its expenses. While further investigation is warranted to determine the cause of the growing expenses (e.g., is it due to increasing costs that are within management control or are the cost increases due to economic factors beyond ERS’s short-term control), the declining profit margin signals that ERS may have difficulty generating future profits that are comparable with its past performance.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-42 Bergin Pastry Shop Income Statement For the year ending December 31 Net sales .................................................................................... Cost of goods sold* .................................................................... Gross margin ............................................................................. Operating expenses** ................................................................ Income from operations .............................................................

$85,300 (50,600) $34,700 (25,500) $ 9,200

Other expenses and losses: Interest expense .................................................................. Income before taxes .................................................................. Income taxes expense*** .......................................................... Net income ................................................................................

(1,800) $ 7,400 (1,110) $ 6,290

* Cost of goods sold is computed as net sales ($85,300) minus gross margin ($34,700). ** Operating expenses are computed as gross margin ($34,700) minus income from operations ($9,200). *** 15%  $7,400 = $1,110

E 1-43 1.

Wright Auto Supply Income Statement For the year ending December 31

Revenues: Sales revenue ...................................................................... Expenses: Cost of goods sold .............................................................. Wages expense .................................................................. Salaries expense ................................................................. Depreciation expense ......................................................... Rent expense ..................................................................... Interest expense ................................................................ Income taxes expense ........................................................ Total expenses ............................................................. Net income ..............................................................................

$ 585,600 $292,000 96,750 33,800 31,250 21,000 2,400 32,520

(509,720) $ 75,880

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-43 (Continued) 2.

Wright Auto Supply Income Statement For the year ending December 31

Sales revenue ............................................................................ Cost of goods sold ...................................................................... Gross margin ............................................................................. Operating expenses: Wages expense ................................................................... Salaries expense ................................................................. Depreciation expense ......................................................... Rent expense ...................................................................... Total operating expenses .............................................. Income from operations ...................................................... Other expenses and losses: Interest expense ........................................................... Income before taxes ........................................................... Income taxes expense ......................................................... Net income ......................................................................... 3.

$ 585,600 (292,000) $ 293,600 $96,750 33,800 31,250 21,000 (182,800) $ 110,800 (2,400) $ 108,400 (32,520) $ 75,880

Both a single-step income statement and a multiple-step income statement report the same amount for net income. However, a single-step income statement only contains two categories: total revenues and total expenses. These two categories are subtracted to arrive at net income. A multiple-step income statement provides three important classifications that financial statement users find useful: gross margin, income from operations, and net income. The only difference between the two formats is how the revenues and expenses are classified.

E 1-44 1.

Beginning retained earnings ............................................. + Net income ($837,400 − $792,100) ................................. − Dividends ...................................................................... = Ending retained earnings................................................

Sherwood is paying 85% ($38,650 / $45,300) of its income to its shareholders in the form of dividends. This large dividend payout will result in investors receiving relatively more of the company’s earnings in the form of cash during the year rather than in share appreciation. Financial statement users should examine the dividend payout ratio in relation to the firm’s current ratio and working capital to ensure that Sherwood is not paying too much in dividends so that it will be able to repay its debts when they become due.

$ 18,240 45,300 (38,650) $ 24,890

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-45 1.

Cash flow from operating activities: Cash received from customers ........................................................ $ 139,800 Cash paid for advertising ................................................................ (34,200) Cash paid to employees for salaries ................................................ (46,400) Cash paid for supplies .................................................................... (28,700) Net cash provided by operating activities .......................................

$ 30,500

Cash flow from investing activities: Cash paid for purchase of land and building .................................... $(128,700) Cash paid to purchase machine ...................................................... (32,000) Net cash used by investing activities ...............................................

(160,700)

Cash flow from financing activities: Cash received from owners ............................................................ $ 201,500 Cash paid for dividends to stockholders .......................................... (37,500) Net cash provided by financing activities ........................................

164,000

Walters has positive cash flow, especially from operations, showing the company is in a good financial position to pay its debts as they become due. The negative cash flow (cash outflow) in investing is a sign of a growing company that is investing in revenue-producing assets. In addition, from the large amount of cash received from financing activities, it appears that Walters is able to raise large amounts of capital to finance its operations.

E 1-46 Cash at the end of the year: Cash flow from operating activities ....................................................... Cash outflow for investing activities ...................................................... Cash flow from financing activities ........................................................ Change in cash ...................................................................................... Add: Cash as on January 1 ..................................................................... Cash at December 31 ............................................................................

$ 892,250 (990,300) 108,400 $ 10,350 20,400 $ 30,750

Retained earnings at the end of the year: Retained earnings as on January 1 ......................................................... Add: Net income ($650,100 − $578,600) ................................................ Less: Dividends declared ....................................................................... Retained earnings as on December 31 ...................................................

$ 105,600 71,500 (30,000) $ 147,100

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-47 From the information given in the problem and the fundamental accounting equation: Assets January 1 $82,400 December 31 $88,500

= = =

Liabilities $9,200 $11,300

+ + +

Equity ($50,000 + Retained Earnings) ($50,000 + Retained Earnings)

Solve for retained earnings as on January 1 and December 31: Retained Earnings

= = =

Assets − Liabilities − Common Stock $82,400 − $9,200 − $50,000 $23,200

December 31 Retained Earnings

= = =

Assets − Liabilities − Common Stock $88,500 − $11,300 − $50,000 $27,200

January 1

Using the computed amounts for retained earnings, dividends declared can be determ using the relationships found in the retained earnings statement. Beginning retained earnings ........................................................... + Net income ................................................................................. − Dividends declared ...................................................................... = Ending retained earnings .............................................................

$23,200 19,500 ? $27,200

Dividends = $15,500

E 1-48 From the information given in the problem and the fundamental accounting equation: January 1 December 31

Assets = $152,200 = $171,800 =

Liabilities $56,600 $63,750

+ + +

Equity ($60,000 + Retained Earnings) ($60,000 + Retained Earnings)

For each year, solve for retained earnings: January 1

Retained Earnings

= = =

Assets − Liabilities − Common Stock $152,200 − $56,600 − $60,000 $35,600

December 31

Retained Earnings

= = =

Assets − Liabilities − Common Stock $171,800 − $63,750 − $60,000 $48,050

Using the computed amounts for retained earnings, net income can be determined using the relationships found in the retained earnings statement. Beginning retained earnings ........................................................... + Net income ................................................................................. − Dividends declared...................................................................... = Ending retained earnings .............................................................

$ 35,600 ? (20,000) $ 48,050

Net income = $32,450

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

E 1-49 a. b. c. d. e. f. g. h.

Unethical (U) Ethical (E) Unethical (U) Ethical (E) Ethical (E) Unethical, and probably illegal (U) Ethical (E) Unethical (U)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

PROBLEM SET A P 1-50A The fundamental accounting equation requires that there be an equality between assets and liabilities plus stockholders’ equity. Therefore, the amount of liabilities that Huffer must have at the end of the year can be inferred from the fundamental accounting equation if both assets and stockholders’ equity are known. The amount of Huffer’s assets at December 31 is $285,500. Huffer’s stockholders’ equity at the end of the year is the amount of stockholders’ equity at the beginning of the year plus (minus) net income (loss) minus dividends declared plus the sale of common stock.

Equity, January 1 Net income Dividends declared Common stock issued Equity, December 31

Common Stock $50,000

+ +

15,000 $65,000

Retained Earnings $ 88,200 51,750 (10,000)

= =

Stockholders’ Equity $138,200

$194,950

$129,950

The amount of liabilities that Huffer must have at the end of the year is determined by using the balance sheet equation and solving for the missing amount. Assets As of December 31 $285,500 Liabilities = $285,500 − $194,950 = $90,550

= =

Liabilities ?

+ +

Equity $194,950

P 1-51A It is necessary to answer these questions out of order because of the way the relationships among the accounts work. (a)

(b)

(c)

Assets

Liabilities

Assets Assets

= =

$126,900 $231,000

Assets

Liabilities

$145,200 Stockholders’ Equity

= =

$92,600 $52,600

Stockholders’ Equity (all at the beginning of the year) Stockholders’ Equity

Net Income

−

Dividends

Ending

+ =

$77,500 $26,000

−

Dividends

Stockholders’ Equity $104,100

− − =

Expenses Expenses $477,300

= =

Net Income $77,500

Beginning Stockholders’ Equity $52,600 Dividends

(d)

Revenues $554,800 Expenses

Stockholders’ Equity (all at the end of the year) $104,100

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-52A Powers Wrecking Service Income Statement For the year ending December 31 Revenues: Service revenue ..................................................................... Sales revenue ......................................................................... Interest income....................................................................... Total revenues .................................................................. Expenses: Wages expense ....................................................................... Rent expense .......................................................................... Supplies expense .................................................................... Depreciation expense ............................................................. Miscellaneous expense ........................................................... Income taxes expense ............................................................. Total expenses .................................................................. Net income ....................................................................................

$425,000 137,000 1,575 $563,575 $243,200 84,000 48,575 24,150 17,300 43,900 (461,125) $102,450

P 1-53A Cooper Merchandising Income Statement For the year ending December 31 Net sales ...................................................................................... Cost of goods sold ........................................................................ Gross margin ................................................................................ Operating expenses: Wages expenses ........................................................................... Rent expense ................................................................................ Supplies expense .......................................................................... Depreciation expense .................................................................. Miscellaneous expense ................................................................ Total operating expenses ................................................. Income from operations ...............................................................

$625,000 (248,000) $377,000 $ 103,600 65,000 23,575 12,150 8,300

Other income and expenses: Interest income ...................................................................... Income before taxes ..................................................................... Income taxes expense ................................................................... Net income ...................................................................................

(212,625) $164,375 1,250 $165,625 (32,500) $133,125

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-54A Floyd:

Revenues $125 Assets $905

− − = =

Expenses $92 Liabilities $412

= = + +

Net Income $33 (a) Stockholders’ Equity $493 (b)

Slater:

Revenues $715 Assets $1,988

− − = =

Expenses $531 (c) Liabilities $1,165 (d)

= = + +

Net Income $184 Stockholders’ Equity $823

Wooderson:

Revenues $72 (e) Assets $197 (f)

− − = =

Expenses $54 Liabilities $117

= = + +

Net Income $18 Stockholders’ Equity $80

O’Bannion:

Revenues $2,475 Assets $8,140

− − = =

Expenses $3,075 (g) Liabilities $2,280

= = + +

Net Income (Loss) $(600) Stockholders’ Equity $5,860 (h)

P 1-55A Rogers Enterprises Income Statement For the year ending December 31 Revenues: Service revenue ....................................................................... Expenses: Salaries expense ...................................................................... Rent expense ........................................................................... Supplies expense ..................................................................... Interest expense ...................................................................... Income taxes expense .............................................................. Net income ..............................................................................

$463,500 $235,200 135,000 34,400 16,000 12,800

(433,400) $ 30,100

Rogers Enterprises Balance Sheet December 31 Assets Current assets: Cash ........................................................................................ Accounts receivable ................................................................. Supplies ................................................................................... Prepaid rent............................................................................. Total current assets............................................................ Property, plant, and equipment ..................................................... Total assets....................................................................................

$13,240 72,920 42,000 31,500

$159,660 90,000 $249,660

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-55A (Continued) Liabilities and Stockholders’ Equity Current liabilities: Salaries payable ..................................................................... $ 14,800 Income taxes payable ............................................................ 4,150 Total current liabilities .......................................................

$ 18,950

Long-term liabilities: Notes payable (due in 10 years) .............................................. Total liabilities ...................................................................

25,000 $ 43,950

Stockholders’ equity: Common stock (10,000 shares) ............................................... Retained earnings* ................................................................ Total stockholders’ equity ................................................. Total liabilities and stockholders’ equity ........................................

$ 70,000 135,710 205,710 $249,660

*Retained earnings is computed as the amount needed to make the fundamental accounting equation balance.

P 1-56A Moore Inc. Income Statement For the year ending December 31 Sales revenue .............................................................................. Cost of goods sold ........................................................................ Gross margin ............................................................................... Operating expenses: Salaries expense .................................................................... Rent expense ......................................................................... Supplies expense ................................................................... Total operating expenses ................................................ Income from operations ............................................................... Other income and expenses: Interest income ..................................................................... Interest expense .................................................................... Total other income and expenses ..................................... Income before income taxes ........................................................ Income taxes expense ........................................................... Net income ..................................................................................

$ 863,500 (395,000) $468,500 $ 235,200 135,000 34,400 ($ 404,600) $ 63,900 2,000 (16,000)

(14,000) 49,900 (8,600) $ 41,300

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-56A (Continued) Moore Inc. Balance Sheet December 31 Assets Current assets: Cash ................................................................................ Accounts receivable ......................................................... Supplies........................................................................... Prepaid rent .................................................................... Total current assets..................................................... Property, plant, and equipment .............................................. Total assets.............................................................................

$ 16,290 68,910 44,100 31,500 $160,800 90,000 $250,800

Liabilities and Stockholders’ Equity Current liabilities: Salaries payable ................................................................ Income taxes payable ....................................................... Total current liabilities ................................................. Long-term liabilities: Notes payable (due in 10 years) ........................................ Total liabilities ............................................................. Stockholders’ equity: Common stock (10,000 shares) .......................................... Retained earnings* ........................................................... Total stockholders’ equity ............................................ Total liabilities and stockholders’ equity ...................................

$ 14,800 4,150 $ 18,950 25,000 $ 43,950 $ 70,000 136,850 206,850 $250,800

* Retained earnings is computed as the amount needed to make the fundamental accounting equation balance.

P 1-57A Dittman Expositions Retained Earnings Statement For the years ending December 31, Year 1, and December 31, Year 2 Retained earnings, beginning of year* ...................................... Add: Net income** .................................................................. Less: Dividends declared .......................................................... Retained earnings, end of year ................................................. *

Year 1 $20,900 25,400 (10,250) $36,050

Year 2 $36,050 33,000 (12,920) $56,130

The ending retained earnings balance for Year 1 becomes the beginning retained earnings balance for Year 2

** Net income computed as follows: ................................................. Revenue ................................................................................. Less: Expenses ........................................................................ Net income ............................................................................

Year 1 $407,500 (382,100) $ 25,400

Year 2 $451,600 (418,600) $ 33,000

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-58A (a) $30,700 − Dividends (a) = $27,200 Dividends (a) = $3,500 (b) Retained Earnings, Beginning (Year 2) = Retained Earnings, Ending (Year 1) = $27,200 (c) Retained Earnings, Beginning (b) + Net Income = (c) $27,200 + $10,100 = $37,300 You must solve for (e) prior to solving for (d): (e) Retained Earnings, Ending (Year 2) = Retained Earnings, Beginning (Year 3) = $33,600 (d) Retained Earnings, Ending (e) = (c) − Dividends (d) $33,600 = $37,300 − Dividends (d) Dividends (d) = $3,700 You must solve for (g) prior to solving for (f): (g) Retained Earnings, Ending = (g) − Dividends $41,200 = (g) − $3,900 (g) = $45,100 (f)

Retained Earnings, Beginning + Net Income (f) = (g) $33,600 + Net Income (f) = $45,100 Net Income (f) = $11,500

P 1-59A 1.

Ashton Appliances Income Statement For the year ending December 31

Revenues: Sales revenue ....................................................................... Expenses: Cost of goods sold................................................................. Salaries expense ................................................................... Rent expense ........................................................................ Insurance expense ................................................................ Interest expense ................................................................... Depreciation expense (furniture) .......................................... Depreciation expense (building) ............................................ Income taxes expense ........................................................... Total expenses .................................................................. Net income ...................................................................................

$948,670 $511,350 228,710 80,800 36,610 15,500 12,000 11,050 16,650

(912,670) $ 36,000

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-59A (Continued) Ashton Appliances Retained Earnings Statement For the year ending December 31 Beginning retained earnings, January 1 ........................................... Add: Net income* .......................................................................... Ending retained earnings, December 31 ..........................................

$ 54,000 36,000 $ 90,000

* From the income statement

Ashton Appliances Balance Sheet December 31 Assets Current assets: Cash ...................................................................... Accounts receivable ............................................... Inventory............................................................... Total current assets........................................... Property, plant, and equipment: Building ................................................................. Less: Accumulated depreciation ............................. Building, net ..................................................... Furniture ............................................................... Less: Accumulated depreciation ............................. Furniture, net ................................................. Total property, plant, and equipment ............. Other assets.................................................................. Total assets...................................................................

$ 41,450 69,900 59,850 $171,200 $ 300,000 (104,800) $195,200 $ 130,000 (27,600) 102,400 297,600 92,800 $ 561,600

Liabilities and Stockholders’ Equity Current liabilities: Accounts payable................................................... Income taxes payable ............................................ Salaries payable ..................................................... Total current liabilities ...................................... Long-term liabilities: Bonds payable ....................................................... Total liabilities ................................................. Stockholders’ equity: Common stock ....................................................... Retained earnings* ................................................ Total stockholders’ equity ................................. Total liabilities and stockholders’ equity ........................

$ 16,800 12,000 7,190 $ 35,990 192,000 $227,990 $ 243,610 90,000 333,610 $ 561,600

* From the retained earnings statement

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-59A (Continued) 3.

Both a single-step income statement and a multiple-step income statement report the same amount for net income. However, a single-step income statement contains only two categories: total revenues and total expenses. These two categories are subtracted to arrive at net income. A multiple-step income statement provides three important classifications that financial statement users find useful: gross margin, income from operations, and net income. The only difference between the two formats is how the revenues and expenses are classified. Ashton Appliances Income Statement For the year ending December 31

Sales revenue ................................................................................ Cost of goods sold .......................................................................... Gross margin ................................................................................. Operating expenses: Salaries expense ..................................................................... Rent expense .......................................................................... Insurance expense .................................................................. Depreciation expense (furniture) ............................................ Depreciation expense (building) .............................................. Total operating expenses ................................................... Income from operations .................................................................

$948,670 ($511,350) $437,320 228,710 80,800 36,610 12,000 11,050

Other income and expenses: Interest expense ..................................................................... Income before income taxes .......................................................... Income taxes expense ............................................................. Net income ....................................................................................

(369,170) $ 68,150 (15,500) $52,650 (16,650) $ 36,000

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-60A Berko Company: (a) $62,100 ($50,000 + $12,100) (b) $17,100 ($12,100 + $7,000 − $2,000) (c) $67,100 ($17,100 + $50,000) (d) $25,400 ($92,500 − $67,100) Manning Company: (e) $9,300 ($44,300 − $35,000) (f) $7,500 ($9,300 − $1,800) (g) $42,500 ($35,000 + $7,500) (h) $57,300 ($42,500 + $14,800) Lucas Company: (i) $40,000 ($66,400 − $26,400) Must solve for (k) before (j): (k) $29,500 ($84,500 − $55,000) (j) $2,900 ($26,400 + $6,000 − $29,500) (l) $14,700 ($99,200 − $84,500) Corey Company: (m) $7,100 ($27,600 − $21,900 + $1,400) (n) $42,600 ($15,000 + $27,600) (o) $53,300 ($10,700 + $42,600)

P 1-61A First, use the fundamental accounting equation to determine stockholders’ equity: Assets = Liabilities + Stockholders’ Equity Beginning $385,500 = $152,800 + $232,700 * End $420,250 = $156,600 + $263,650 ** * $385,500 − $152,800 = $232,700 ** $420,250 − $156,600 = $263,650

Next, use these fundamental relationships to solve for each situation: Stockholders’ Equity Change in Stockholders’ Equity Change in Retained Earnings Therefore,

= = =

Common Stock + Change in Common Stock + Net Income − Dividends

Change in Stockholders’ Equity

Change in Common Stock + Net Income − Dividends

($263,650 − $232,700) = $0 + Net Income − $0 Net Income = $30,950

($263,650 − $232,700) = $40,000 + Net Income − $0 Net Loss = ($9,050)

($263,650 − $232,700) = $0 + Net Income − $15,000 Net Income = $45,950

($263,650 − $232,700) = $35,000 + Net Income − $20,000 Net Income = $15,950

Retained Earnings Change in Retained Earnings

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

PROBLEM SET B P 1-50B The fundamental accounting equation requires that there be an equality between assets and liabilities plus stockholders’ equity. Therefore, the amount of liabilities that KJ Corporation must have at the end of the year can be inferred from the fundamental accounting equation if both assets and stockholders’ equity are known. The amount of KJ’s assets at December 31 is $710,100. KJ’s stockholders’ equity at the end of the year is the amount of stockholders’ equity at the beginning of the year plus (minus) net income (loss) minus dividends plus the sale of common stock. Common Stock $100,000

Retained Stockholders’ + Earnings = Equity Equity, Jan. 1 + $134,900 = $234,900 Net income 205,500 Dividends (70,000) Common stock issued 75,000 ________ = ________ Equity, Dec. 31 $175,000 + $270,400 = $445,400 The amount of liabilities that KJ must have at the end of the year is determined by using the balance sheet equation and solving for the missing amount. Assets = Liabilities + Equity At Dec. 31 $710,100 = ? + $445,400 Liabilities = $710,100 − $445,400 = $264,700

P 1-51B It is necessary to answer these questions out of order because of the way the relationships between the accounts work. (a)

Assets

= Liabilities + Stockholders’ Equity (all at the beginning of the year) = $368,200 + $272,900 = $641,100 Note: Item (d) is found prior to finding items (b) and (c). = Revenues − = $929,440 − = $94,120 Note: Item (c) is found prior to finding item (b).

Expenses $835,320

Net Income

−

Dividends

$94,120

−

$35,500

Ending Stockholders’ Equity

$331,520

Assets $758,150 Liabilities

+ +

Stockholders’ Equity (all at end of year) $331,520

(d)

Net Income

(c)

Beginning + Stockholders’ Equity $272,900 +

(b)

= = =

Liabilities Liabilities $426,630

Ending Stockholders’ Equity Ending Stockholders’ Equity

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-52B Parker Renovation Inc. Income Statement For the year ending December 31 Revenues: Service revenue ..................................................................... Interest income ..................................................................... Total revenues .................................................................. Expenses: Wages expense ...................................................................... Depreciation expense ............................................................ Utilities expense .................................................................... Insurance expense ................................................................. Miscellaneous expense .......................................................... Income taxes expense ............................................................ Total expenses .................................................................. Net income ...................................................................................

$763,400 5,475 $768,875 $ 222,900 135,000 109,300 65,850 31,000 61,400 (625,450) $143,425

P 1-53B Lakas Company Income Statement For the year ending December 31 Net sales ....................................................................................... Cost of goods sold .......................................................................... Gross margin ................................................................................. Operating expenses: Wages expenses ..................................................................... Rent expense .......................................................................... Supplies expense .................................................................... Depreciation expense ............................................................. Miscellaneous expense ........................................................... Total operating expenses Income from operations ................................................................ Other income and expenses: Interest income ..................................................................... Interest expense .................................................................... Total other income and expenses ...................................... Income before taxes ..................................................................... Income taxes expense ................................................................... Net income ...................................................................................

$ 425,000 (178,400) $246,600 $ 66,100 35,910 13,122 11,590 8,800 (135,522) $111,078 620 (850)

(230) $ 110,848 (23,200) $ 87,648

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-54B Crick:

Net Income $81 (a) Assets $709

= = = =

Revenues $925 Liabilities $332

− − + +

Expenses $844 Stockholders’ Equity $377 (b)

Pascal:

Net Income $289 Assets $1,810

= = = =

Revenues $533 Liabilities $860 (d)

− − + +

Expenses $244 (c) Stockholders’ Equity $950

Eiffel:

Net Income $126 Assets $552 (f)

= = = =

Revenues $503 (e) Liabilities $454

− − + +

Expenses $377 Stockholders’ Equity $98

Hilbert:

Net Income (Loss) ($340) Assets $3,150

= = = =

Revenues $1,125 Liabilities $2,267

− − + +

Expenses $1,465 (g) Stockholders’ Equity $883 (h)

P 1-55B Ross Airport Auto Service Income Statement For the year ending December 31 Revenues: Service revenue (parking)....................................................... Service revenue (repair) ......................................................... Interest income ..................................................................... Total revenues .................................................................. Expenses: Wages expense ...................................................................... Rent expense ......................................................................... Supplies expense ................................................................... Interest expense .................................................................... Depreciation expense ............................................................ Income taxes expense ............................................................ Total expenses .................................................................. Net income ...................................................................................

$232,600 198,500 4,100 $435,200 $246,100 103,500 36,900 21,300 12,450 2,700

(422,950) $ 12,250

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-55B (Continued) Ross Airport Auto Service Balance Sheet December 31 Assets Current assets: Cash ...................................................................................... Accounts receivable ............................................................... Inventory............................................................................... Prepaid rent .......................................................................... Total current assets...........................................................

$ 7,700 39,200 6,100 27,300 $ 80,300

Long-term investments: Investments ......................................................................

35,000

Property, plant, and equipment: Equipment .............................................................................. $ 270,800 Less: Accumulated depreciation .............................................. (42,300) Total assets....................................................................................

228,500 $ 343,800

Liabilities and Stockholders’ Equity Current liabilities: Accounts payable................................................................... Wages payable ...................................................................... Income taxes payable ............................................................ Interest payable..................................................................... Total current liabilities ......................................................

$ 17,200 12,500 1,100 4,800 $ 35,600

Long-term liabilities: Notes payable ....................................................................... Total liabilities ................................................................. Stockholders’ equity: Common stock ....................................................................... Retained earnings .................................................................. Total stockholders’ equity ................................................. Total liabilities and stockholders’ equity ........................................

160,000 $ 195,600 $ 100,000 48,200 148,200 $ 343,800

Note: Dividends do not appear on the income statement or the balance sheet. Instead, dividends are reported on the retained earnings statement.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-56B Cheng Company Income Statement For the year ending December 31 Sales revenue .......................................................................... Cost of goods sold .................................................................... Gross margin ........................................................................... Operating expenses: Salaries expense ............................................................... Rent expense .................................................................... Supplies expense .............................................................. Research and development expense ................................. Insurance expense ............................................................ Total operating expenses ............................................ Income from operations ........................................................... Other income and expenses: Gain on disposal of property, plant, and equipment .......... Interest expense ...............................................................

$ 525,100 (279,800) $ 245,300 $ 115,900 65,000 14,400 12,700 5,000 ($ 213,000) $ 32,300 5,000 (8,450)

Income taxes expense .................................................. Net income ..............................................................................

(3,450) 28,850 (6,000) $ 22,850

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Cheng Company Balance Sheet December 31 Assets Current assets: Cash ................................................................................ Accounts receivable ......................................................... Supplies........................................................................... Prepaid rent .................................................................... Total current assets..................................................... Property, plant, and equipment .............................................. Patent .................................................................................... Total assets.............................................................................

$ 14,275 58,930 24,600 8,500 $106, 305 105,000 12,380 $ 223,685

Liabilities and Stockholders’ Equity Current liabilities: Salaries payable ............................................................... Income taxes payable ...................................................... Total current liabilities ................................................ Long-term liabilities: Notes payable (due in 10 years)................................... Total liabilities ............................................................ Stockholders’ equity: Common stock (10,000 shares) .......................................... Retained earnings* ........................................................... Total stockholders’ equity ............................................ Total liabilities and stockholders’ equity ...................................

$11,400 2,850 $ 14,250 15,000 $ 29,250 $ 105,000 89,435 194,435 $ 223,685

* Retained earnings is computed as the amount needed to make the fundamental accounting equation balance.

P 1-57B Magical Experiences Vacation Company Retained Earnings Statement For the years ending December 31, Year 1, and December 31, Year 2 Retained earnings, beginning of year* ...................................... Add: Net income** .................................................................. Less: Dividends ........................................................................ Retained earnings, end of year .................................................

Year 1 $ 55,300 33,400 (14,000) $ 74,700

Year 2 $ 74,700 74,600 (16,000) $ 133,300

* The ending retained earnings balance for Year 1 becomes the beginning retained earnings balance for Year2. ** Net income is computed as follows: Year 1 Year 2 Revenue ................................................................................. $221,900 $325,400 Less: Expenses ........................................................................ (188,500) (250,800) Net income ............................................................................ $ 33,400 $74,600

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-58B (a) $26,900 − $11,100 = $15,800 (b) Retained Earnings, Ending (Year 1) = Retained Earnings, Beginning (Year 2) = $ 19,500 You must solve for (e) prior to solving for (c) or (d): (e) Retained Earnings, Ending (Year 2)

= Retained Earnings, Beginning (Year 3) = $ 26,700

You must solve for (d) prior to solving for (c): (d) = Retained Earnings, Ending, Year 2 (e) + Dividends = $ 26,700 + $5,200 = $ 31,900 (c) Net Income = (d) − Retained Earnings, Beginning (Year 2) = $ 31,900 (d) − $19,500 = $ 12,400 (f)

= Retained Earnings, Beginning (Year 3) + Net Income = $ 26,700 + $9,500 = $ 36,200

(g) Dividends = (f) − Retained Earnings, Ending (Year 3) = $ 36,200 (f) − $34,100 = $ 2,100

P 1-59B McDonald Boat Company Income Statement For the year ending December 31 Revenues: Sales revenue ................................................................... Expenses: Cost of goods sold ............................................................. Wages expense ................................................................. Depreciation expense (equipment).................................... Utilities expense ............................................................... Interest expense ............................................................... Supplies expense .............................................................. Depreciation expense (building) ........................................ Rent expense .................................................................... Income taxes expense ....................................................... Total expenses........................................................... Net income ...................................................................................

$ 1,932,300 $ 987,200 348,700 142,300 131,300 99,400 89,100 21,500 14,600 21,700

(1,855,800) 76,500

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-59B (Continued) McDonald Boat Company Retained Earnings Statement For the year ending December 31 Retained earnings, January 1 ........................................ Add: Net income .......................................................... Less: Dividends ............................................................ Retained earnings, December 31 ..................................

$ 128,600 76,500 (25,300) $ 179,800

McDonald Marina Balance Sheet December 31 Assets Current assets: Cash .................................................................. Accounts receivable ........................................... Supplies............................................................. Total current assets....................................... Property, plant, and equipment: Land .................................................................. Building ............................................................. Less: Accumulated depreciation ......................... Equipment ......................................................... Less: Accumulated depreciation ......................... Total property, plant, and equipment ............ Total assets...............................................................

$ 22,300 268,700 9,800 $ 300,800 $ 875,000 $ 197,300 (64,500) $ 2,490,000 (950,400) 2,547,400

132,800 1,539,600 $ 2,848,200

Liabilities and Stockholders’ Equity Current liabilities: Accounts payable............................................................... Wages payable .................................................................. Interest payable................................................................. Rent payable ..................................................................... Total current liabilities ..................................................

$ 26,400 21,600 18,000 2,400 $ 68,400

Long-term liabilities: Bonds payable ................................................................... Total liabilities ................................................................... Stockholders’ equity: Common stock ................................................................... Retained earnings .............................................................. Total stockholders’ equity ............................................. Total liabilities and stockholders’ equity ....................................

2,000,000 $ 2,068,400 $ 600,000 179,800

779,800 $ 2,848,200

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-59B (Continued) 3.

McDonald Boat Company Income Statement For the year ending December 31

Sales revenue ................................................................................ Cost of goods sold .......................................................................... Gross margin ................................................................................. Operating Expenses: Wages expense ....................................................................... Depreciation expense (equipment) ......................................... Utilities expense ..................................................................... Interest expense ..................................................................... Supplies expense .................................................................... Depreciation expense (building) .............................................. Rent expense .......................................................................... Total operating expenses .................................................. Income from operations ................................................................. Income taxes expense .................................................................... Net income ....................................................................................

$1,932,300 ($ 987,200) $ 945,100 348,700 142,300 131,300 99,400 89,100 21,500 14,600 (846,900) $ 98,200 ($ 21,700) $ 76,500

P 1-60B Stackhouse Company: (a) $5,000 ($21,700 − $18,800 + $2,100) (b) $66,700 ($45,000 + $21,700) (c) $81,100 ($14,400 + $66,700) Compton Company: (d) $54,300 ($39,000 + $15,300) (e) $21,600 ($15,300 + $7,100 − $800) (f) $60,600 ($21,600 + $39,000) (g) $27,600 ($88,200 − $60,600) Bellefleur Company: Must solve for (i) first. (i) $15,300 ($95,300 − $80,000) (h) $1,300 ($6,900 + $9,700 − $15,300) (j) $18,100 ($113,400 − $95,300)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

P 1-60B (Continued) Merlotte Company: (k) $13,900 ($38,900 − $25,000) (l) $9,400 ($13,900 − $4,500 − $0) (m) $34,400 ($25,000 + $9,400) (n) $50,100 ($15,700 + $34,400)

P 1-61B First, use the fundamental accounting equation to determine stockholders’ equity: Beginning End

Assets $256,500 $358,200

= = =

Liabilities $92,650 $121,900

+ + +

Stockholders’ Equity $163,850 * $236,300 **

* $256,500 − $92,650 = $163,850 ** $358,200 − $121,900 = $236,300

Next, use these fundamental relationships to solve for each situation: Stockholders’ Equity = Common Stock Change in Stockholders’ Equity = Change in Common Stock Change in Retained Earnings = Net Income − Dividends

+ +

Retained Earnings Change in Retained Earnings

Net Income − Dividends

Therefore, Change in Stockholders’ Equity

= Change in Common Stock

($236,300 − $163,850) = $0 + Net Income − $0 Net Income = $72,450

($236,300 − $163,850) = $15,000 + Net Income − $0 Net Income = $57,450

($236,300 − $163,850) = $0 + Net Income − $10,000 Net Income = $82,450

($236,300 − $163,850) = $20,000 + Net Income − $12,000 Net Income = $64,450

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

CASES Case 1-62 Answers to this question may vary; however, many students will focus on income. If Jim had kept track of his revenues (e.g., his earnings from the summer job, the small scholarship, and the fixed amount from his parents) and his expenses (e.g., tuition, books, apartment, and entertainment) during earlier semesters, he might have been able to budget for the spring term. Many of his expenses will be the same or very similar from term to term. Jim could use the information from the fall term to predict what his revenues and expenses would be for the spring term. He would then have a better idea of how much he could spend on entertainment without “maxing out” his credit card. In addition, Jim could keep track of his assets and liabilities. He could track which assets were current (e.g., cash in his bank account) and which liabilities would become due in the near term (e.g., spring tuition, living expenses). He could then know prior to the spring term which bills would become due and if he had enough liquid assets to pay these bills. Keeping better track of his revenues, expenses, income, assets, and liabilities may have allowed Jim to avoid overspending his resources.

Case 1-63 1.

The following examples are illustrative, and students' answers may vary: a.

Nonbusiness entities (including governments and educational institutions): The Accounting Review (university and college educators), American Accounting Association Issues in Accounting Education (university and college educators), American Accounting Association Journal of Government Financial Management (governmental accountants), Association of Government Accountants (AGA)

Business entities: Strategic Finance (management accountants and finance professionals), Institute of Management Accountants Financial Executive (controllers, treasurers, and senior financial executives), Financial Executives Institute Internal Auditor (internal auditors), Institute of Internal Auditors

Public practice: Journal of Accountancy (certified public accountants), American Institute of Certified Public Accountants The CPA Journal (certified public accountants), New York State Society of CPAs

Activities and events in one segment of the accounting profession affect activities and events in other segments of the profession. Education affects preparedness for public practice. New business activities require new auditing procedures. Accounting research affects the practice of accounting, and accounting practice influences the form of accounting research. Information about developments outside one’s own segment of accounting can help one better understand and, perhaps, shape developments inside one’s own segment.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-64 Student responses to this assignment will vary widely, but it is a good basis for classroom discussion. Some students may have interests in various accounting careers, while others may have interests in other business careers or perhaps graduate professional degrees. Of those with plans for graduate education, some may intend to work for several years before returning for additional education, while others may plan to go directly into graduate school. Some may plan to start their careers in one field and then move into another after several years. Some may have plans to start their own business. The steps necessary to implement these plans can be an interesting basis for discussion.

Case 1-65 1.

Current assets (1/31/2023) Current liabilities (1/31/2023) Current assets (1/31/2022) Current liabilities (1/31/2022)

= = = =

$5,210 + $28,100 + $7,152 = $40,462 $19,655 $4,125 + $32,891 + $7,853 = $44,869 $35,483

Agency Rent-A-Car reported a current ratio of 2.06 ($40,462 / $19,655) in 2023 and a current ratio of 1.26 ($44,869 / $35,483) in 2022. Its working capital is $20,807 ($40,462 − $19,655) in 2023 and $9,386 ($44,869 − $35,483) in 2022. These ratios show that the company has adequate current assets to cover the current liabilities in both years. In addition, its liquidity is improving between 2022 and 2023. 2.

Net Income = Stockholders’ Equity (1/31/2023) − Stockholders’ Equity (1/31/2022) + Dividends* $172,529 − $135,819 + $21,000 = $57,710

* Beg. Stockholders’ Equity $135,819 + Net Income − Dividends $21,000 = End. Stockholders’ Equity $172,529

Case 1-66 1.

Trends: (a) Revenues decreased dramatically from 2021 to 2022. (b) Operating income (loss) has fluctuated dramatically in the 5-year period but shows some improvement (less of a loss) in 2023. (c) Net income (loss) was down dramatically from 2022 and seems to be slowly recovering in 2023 with a much smaller loss.

In 2019 and 2020, Wright Brothers Aviation Company had adequate assets to cover the current liabilities, but the ratio changed dramatically in 2021, 2022, and 2023, causing current liabilities to be much larger than current assets. It seems as though Wright Brothers used its assets to pay down its long-term debt in 2021.

Yes, the company has shown a considerable decrease throughout the 5-year period in net income and also shows that it may have difficulty in paying current liabilities with the small amount of current assets it has.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-67 Ethical behavior by accountants is important to society because capital markets and businesses cannot operate efficiently or effectively without reliable financial information. Financial information determines the way in which resources are deployed and distributed. Thus, individuals who stand to benefit from changes in resource deployment or distribution have an incentive to misrepresent financial information or to pressure accountants to do so. Such individuals may even create financial incentives for accountants to bias or misrepresent the facts. Unethical behavior by an accountant, once revealed, usually brings loss of employment and frequently loss of professional credentials (e.g., professional license) as well. In addition, individuals may face criminal or civil prosecution.

Case 1-68 There are many ethical implications involved with the discussion between Lola and Frank. It is not ethical to change items in the financial statements simply to appear better to the public. This can be very misleading to both creditors and investors and could potentially cause harm to these parties who based their expectations of future performance on the past numbers that have been changed. If the company doesn’t perform as well as expected, these creditors and investors will likely blame the accounting numbers that have been misrepresented. If management intends to pay off accounts within a year, they need to be classified as current liabilities. Also, investments that have been purchased with the intent to hold them for a long period of time should be considered long-term investments. Management should not reclassify these unless their intent changes and they plan to sell the investments within the next year. In addition, the company should follow generally accepted accounting principles and record its assets at historical cost. Management cannot pick and choose which assets to present at their market value. Management should not use the excuse of “judgment” to alter numbers in order to make the company appear better on paper.

Case 1-69 1.

Apple’s fiscal year ended on September 28, 2019. This year-end is different from previous years for the simple reason that Apple has a floating year-end. Apple’s year-end always falls on the last Saturday of the month of September, so the actual date changes from year to year.

Apple presents 2 years of balance sheet information and 3 years of income statement information.

Balance sheet information: a. For 2019, Apple reported total assets of $338,516,000,000, total liabilities of $248,028,000,000, and total stockholders’ equity of $90,488,000,000. b. The dollar amounts for all three categories have changed in the past year. For 2018, Apple reported total assets of $365,725,000,000, total liabilities of $258,578,000,000, and total stockholders’ equity of $107,147,000,000. This represented a decrease in total assets of $27,209,000,000 ($338,516,000,000 − $365,725,000,000), a decrease in total liabilities of $10,550,000,000 ($248,028,000,000 − $258,578,000,000), and a decrease in total stockholders’ equity of $16,659,000,000 ($90,488,000,000 − $107,147,000,000). c. For 2019, Apple reported current assets of $162,819,000,000 and current liabilities of $105,718,000,000. For 2018, Apple reported current assets of $131,339,000,000 and current liabilities of $115,929,000,000.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-69 (Continued) d.

Apple reported working capital of $57,101,000,000 ($162,819,000,000 − $105,718,000,000) for 2019 and working capital of $15,410,000,000 ($131,339,000,000 − $115,929,000,000) for 2018. Apple’s current ratio was 1.54 ($162,819,000,000 / $105,718,000,000) for 2019 and 1.13 ($131,339,000,000 / $115,929,000,000) for 2018. Apple’s current assets are greater than its current liabilities for both years, which indicates that Apple should be able to pay the liabilities that become due within the next year. Apple’s working capital and current ratio have increased during 2019 when compared to 2018. Thus, Apple appears to have sufficient liquidity.

Income statement information: a. For 2019, Apple reported revenues (net sales) of $260,174,000,000 and expenses of $204,918,000,000 ($161,782,000,000 + $34,462,000,000 + $10,481,000,000 − $1,807,000,000). Note: The $18,070,000,000 is a combination of other income and expenses and was subtracted from expenses. Apple’s net income was $55,256,000,000. b. Sales decreased by $11,964,000 from 2018 to 2019 but increased by $29,313,000 from 2017 to 2018, as shown in the comparative income statements. As noted in the management discussion and analysis, the decrease in sales in 2019 is due primarily to decreased iPhone sales. This decrease in sales has caused a corresponding decrease in cost of sales (an expense).

Statement of cash flows information: a. For 2019, Apple reported a net cash inflow from operating activities of $69,391,000,000, a net cash inflow from investing activities of $45,896,000,000, and a net cash outflow from financing activities of $90,976,000,000). b. In 2019, Apple paid $10,495,000,000 for the acquisition of property, plant, and equipment.

Management’s discussion and analysis information: a. Apple’s management considers several accounting policies critical, including following generally accepted accounting principles, revenue recognition, allowance for doubtful accounts, inventory valuation, warranty costs, valuation of marketable securities, income taxes, and contingencies policy. This information was found in the management’s discussion and analysis section of the annual report. More detail on significant accounting policies can also be found in the notes to the financial statements (Note 1). b. The company believes that future gross margins will be under downward pressure due to global product pricing pressures, increased competition, compressed product life cycles, potential increases in cost of components, and a shift to lower gross margin products. Its analysis can be found in the management’s discussion and analysis section (Item 7 of the 10-K).

The financial statements are audited by Ernst & Young.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-70 1.

Kroger is one of the largest retailers in the world based on sales. Its revenues are predominately earned, and cash is generated as consumer products are sold to customers in its stores, fuel centers, and via our online platforms. It manufactures and processes some of the food available in its supermarkets. Sprouts Farmers Market operates as a healthy grocery store that has made healthy living accessible to shoppers for nearly two decades by offering affordable, fresh, natural and organic products. They do offer various private label food products.

The fiscal year-end for Kroger is on the Saturday nearest to January 31. Its most current fiscal year-end is February 1, 2020. Sprouts' fiscal year ends on the Sunday closest to December 31. Its most current fiscal year-end is December 29, 2019. The fiscal year-ends are expected to be similar because the two companies are in the same industry and follow the same major trends in sales.

Balance sheet information: a.

Kroger (as on February 1, 2020): Assets = $45,256,000,000 Liabilities = $36,663,000,000 ($14,243,000,000 + $22,420,000,000 ) Stockholders’ equity = $8,573,000,000 Sprouts (as on December 29, 2010): Assets = $2,722,983,000 Liabilities = $2,141,031,000 ($416,812,000 + $1,724,219,000) Stockholders’ equity = $581,952,000

Kroger (as on February 1, 2020): Current assets = $10,890,000,000 Current liabilities = $14,243,000,000 Sprouts (as on December 29, 2010): Current assets = $387,839,000 Current liabilities = $416,812,000

Kroger’s current assets are approximately 76% of its current liabilities. Kroger reported working capital of -$3,353,000,000 ($10,890,000,000 − $14,243,000,000) and a current ratio of 0.76 ($10,890,000,000/$14,243,000,000). The liquidity picture of Sprouts is similar. Sprouts reports working capital of -$28,973,000 ($387,839,000 − $416,812,000) and a current ratio of 0.93 ($387,839,000 / $416,812,000). Both companies may have to seek additional financing to pay off the liabilities coming due in the next year.

Kroger has almost 17 times the total assets of Sprouts. Thus, Kroger is a much larger company.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-70 (Continued) 4.

Income statement information: a.

Kroger (for the fiscal year ending February 1, 2020): Revenues ...................................................................... Expenses ....................................................................... Net income ...................................................................

$ 122,286,000,000 120,627,000,000 $ 1,659,000,000

Sprouts (for the fiscal year ending December 29, 2010): Revenues ...................................................................... Expenses ....................................................................... Net income ...................................................................

$ 5,634,835,000 5,485,206,000 $149,629,000

* $120,035,000,000 + $270,000,000 + $469,000,000 +-$147,000,000 ** $5,634,835,000 *** $3,740,017,000 + $1,677,458,000 + $21,192,000 +$46,539,000

For Sprouts, revenues show an increasing trend through the 3 years presented. Cost of sales and other expenses have correspondingly increased, resulting in relatively stable income. Kroger shows relatively stable revenues, costs, and income. This stability is reflected in the earnings per share information, which has remained relatively stable also.

Obtained from the statements of cash flows for each of the companies: Kroger: In addition to operating activities, its major source of cash includes borrowings related to long-term debt and sales of businesses. Major uses of cash include capital expenditures (purchases of property, plant, and equipment) and repayment of borrowings. Sprouts: Its major sources of cash arise from its operations as well as proceeds from revolving credit facilities (long-term borrowings). Major uses of cash include capital expenditures, repayment of borrowings, and repurchases of common stock.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Annual Report Problem 1. a. $19,810 million b. $18,375 million c. $110,225 million d. $72,653 million e. $21,729 million 2.

a. $20,810 million b. $20,375 million c. $115,736 million d. $76,286 million e. $22,815 million

3. a. The Home Depot, Inc. b. HD c. Atlanta, GA d. 1.02 e. $39,541 million f. $16,635 million

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-72 1.

The first concern for Front Row Entertainment is to obtain financing for the business. Normally, a concert promoter must pay a significant amount of up-front cash to secure the venue and advertise the tour. Therefore, it is critical that Front Row Entertainment raise a large amount of cash if the business is to succeed. This cash may be raised by issuing debt (e.g., notes payable, bonds payable), shares of stock (e.g., common stock), or a combination of both. Next, Front Row Entertainment must purchase the assets necessary to operate. Because a concert promoter provides a service, the initial investment in property, plant, and equipment is likely to be relatively small and involve typical office equipment (e.g., desks, telephones, computers). These assets are normally combined and reported as equipment on the balance sheet. The business can now begin to operate. Revenues (e.g., sales revenue, service revenue) will be generated as Front Row Entertainment fulfills its contractual duties (e.g., sells tickets). One of the major expenses for a concert promoter would be the fees paid to the musical artist upon completion of the event (reported as cost of sales). In addition, Front Row Entertainment will likely incur large expenses initially as it books the venue and advertises the concert. Typical expenses may include rent expense (for office space of the business as well as a rental fee on the venue), utilities expense, salaries expense (for Cam and Anna’s salaries), advertising expense, and insurance expense. Some of these expenses may be prepaid (resulting in accounts such as prepaid advertising or prepaid rent), while payment for others may be delayed (resulting in accounts such as accounts payable, salaries payable, and rent payable).

Cam and Anna can choose to organize Front Row Entertainment as either a partnership or a corporation. Relative to the corporate form of organization, partnerships are easier to organize. In addition, the control of the partnership would be shared by Cam and Anna, and the business would have access to the financial resources and skills of each partner. Finally, a partnership would also pay less taxes than a corporation. This is because the corporate tax rate is higher than the individual tax rate and the corporation’s income is taxed twice: once at the corporate level and again at the stockholder level as earnings are distributed. However, the corporate form also has advantages. First, it can raise larger amounts of resources through the issuance of stock. Second, the corporate form limits the liability of its stockholders to the amount they have invested in the business. If the business were to fail, shareholders would only lose their investment. On the other hand, creditors could attempt to recover their losses from the personal assets of the partners. Finally, corporations have an unlimited life, with ownership easily transferred by the sale of stock. However, partnerships are dissolved when any partner leaves the partnership. Cam and Anna need to carefully weigh the advantages and disadvantages of each form of business organization and select the form that best fits their needs.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 1: Accounting and the Financial Statements

Case 1-72 (Continued) 3.

Cam and Anna will need to prepare four basic financial statements: a balance sheet, an income statement, a retained earnings statement, and a statement of cash flows. A balance sheet reports the resources (assets) owned by a company and the claims against those resources (liabilities and stockholders’ equity) at a specific point in time. By providing information about the structure of assets, liabilities, and stockholders’ equity, a balance sheet provides users insights into whether a company can pay its obligations as they become due (liquidity). An income statement reports how well a company has performed its operations (revenues, expenses, and income) over a period of time. By providing information about a company’s current profitability, users are better able to judge a company’s ability to generate future income and growth potential. Such information impacts the decision of whether to make a loan to the company or invest in the company. A retained earnings statement reports how much of a company’s income was retained in the business and how much was distributed to owners over a period of time. Insights into a company’s dividend policy assist investors in determining a company’s ability to pursue future growth opportunities. Finally, a statement of cash flows reports the sources and uses of a company’s cash over a period of time. This information allows investors and creditors to judge the ability of a company to generate cash in the future, as well as to assess the creditworthiness of a company and its ability to pay future dividends.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

THE ACCOUNTING INFORMATION SYSTEM

DISCUSSION QUESTIONS 1.

The conceptual framework of accounting is the collection of general concepts that logically flow from the objective of financial reporting—to provide information that is useful in making business and economic decisions. The conceptual framework supports the development of generally accepted accounting principles (GAAP) and provides a consistent body of thought for financial reporting. An understanding of the conceptual framework will provide a logical structure to financial accounting that will help in understanding complex accounting standards.

The conceptual framework identifies two fundamental qualitative characteristics: relevance and faithful representation. Relevant information is capable of making a difference in a decision by helping users predict future events or providing feedback about prior expectations. Relevant information is also material. Faithfully represented information portrays the economic event it intends to portray. Faithfully represented information should be complete (includes all necessary information for the user to understand the economic event), neutral (unbiased), and free of errors (as accurate as possible). In addition to the fundamental qualitative characteristics, the FASB has identified four enhancing characteristics: comparability, verifiability, timeliness, and understandability. Comparable information allows external users to identify similarities and differences between two or more items. Comparability includes consistency, which can be achieved by a company applying the same accounting principles for the same items over time. Verifiable information describes a situation in which independent parties can reach a consensus on the measurement of the activity. Information is timely if it is available to users before it loses its ability to influence decisions. Finally, if users having reasonable knowledge of accounting and business can, with reasonable study effort, comprehend the meaning of the information, it is considered understandable.

Trade-offs are often necessary between the qualitative characteristics. For example, the most relevant information may not be able to be faithfully represented. Similarly, a change in accounting principle may temporarily reduce comparability but improve the relevance of the information. The goal should be to provide the most relevant information that can be faithfully represented.

Comparability refers to the ability to compare information across different companies or with similar information about the same company for another time period. Consistency refers to the use of the same accounting principles for the same items, either from one time period to another time period with in a company or in a single period across companies.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

The cost constraint limits the ability of a company to provide useful information. The cost constraint refers to the idea that some information that is useful would be too expensive for the company to provide based on the benefit that is achieved from providing it.

The four underlying accounting assumptions are the economic entity assumption, going concern assumption, time period assumption, and monetary unit assumption. The economic entity assumption requires that a company be accounted for separately from its owners. The continuity assumption assumes that a company will continue to operate long enough to carry out its existing commitments. The time-period assumption allows the life of a company to be divided into artificial time periods so that net income can be measured for a specific period of time. The monetary unit assumption requires that a company account for and report its financial results in monetary terms.

There are four principles used to measure and record business transactions. First, the historical cost principle requires transactions to be recorded at their cost: the exchange price at the time the activity occurs. Second, the revenue recognition principle determines when revenue is recorded and reported by a company. Under this principle, revenue is recognized in the period a company satisfies its performance obligation or promise within a contract. Generally, this occurs when services are performed or goods are delivered to customers. Third, the expense recognition principle requires that an expense be recorded and reported in the same period as the revenue it helped generate. This may or may not be in the same period that cash is paid. Fourth, the conservatism principle states that accountants should take care to avoid overstating assets or income.

Many events occur that affect the financial position and the operations of a business but only those that qualify for recognition as transactions are recorded in the accounting records. To qualify as a transaction, the effect of the underlying events must impact a financial statement element (asset, liability, stockholders’ equity, revenue, or expense) and, thus, the company’s financial statements. In addition, the event must be able to be faithfully represented.

Faithful representation refers to information faithfully representing the economic event that it is intending to portray. Faithfully presented information should be complete, neutral, and error free. If information is not faithfully represented, it may mislead decision-makers. These decision-makers would find it extremely difficult, if not impossible, to use information that is incomplete or subject to significant error and/or bias.

10. Transaction analysis usually begins with gathering the source documents that describe business activities. Accountants must then analyze these documents to determine which transactions should be recognized in the accounting system. If the transaction is to be recorded in the accounting system, the transaction must then be analyzed to determine the effects it will have on the fundamental accounting equation. This

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

analysis involves three steps: (1) write down the accounting equation, (2) identify the financial statement elements that are affected by the transaction, and (3) determine whether the element increased or decreased. 11. Yes, it is possible for a transaction to affect only one side of the accounting equation. While the accounting equation must always remain in balance (meaning that there must always be a dual effect on the accounting equation), these effects can be on the same side of the accounting equation. An example of this is when a customer pays cash for an accounts receivable. Both cash and accounts receivable are asset accounts (on the left side of the equation). One asset, accounts receivable, is decreasing, while another asset, cash, is increasing by the same amount. This results in the accounting equation remaining in balance, even though only one side of the equation was affected. 12. When a firm earns revenue, its net income is increased. When a firm incurs an expense, its net income is decreased. At the end of the accounting period, net income is added to retained earnings, a stockholders’ equity account. Therefore, an increase in revenue increases stockholders’ equity, and a decrease in revenue decreases stockholders’ equity. Likewise, an increase in expense decreases stockholders’ equity, and a decrease in expense increases stockholders’ equity. 13. A T-account is a two-column record that consists of a title and two sides divided by a vertical line. A T-account gets its name because it resembles the capital letter “T.” The left side is referred to as the debit side, and the right side is referred to as the credit side. 14. No, debit does not mean increase, and credit does not mean decrease. The words debit and credit simply refer to the left and right side of an account. Neither debit nor credit has direct positive or negative connotations. Only when the terms debit and credit are associated with a particular account can a debit or a credit be identified as an increase or a decrease. For example, a debit increases an asset account but decreases a liability account. 15. To debit an account means to add an amount to the left side of that account. A debit balance is a balance on the left side of an account. To credit an account means to add an amount to the right side of that account. A credit balance is a balance on the right side of an account. Debits and credits do not represent increases or decreases. 16. The normal balance of each of the accounts is as follows: (a) (b) (c) (d) (e) (f) (g) (h)

cash—debit sales—credit notes payable—credit inventory—debit retained earnings—credit salary expense—debit equipment—debit unearned revenue—credit

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

17. In each journal entry, the sum of the debits must equal the sum of the credits. If transactions are recorded with debits equal to credits, then the equality of the accounting equation will be maintained. 18. “Double-entry” is an appropriate description of an accounting system, because each transaction will affect at least two accounts and each transaction must have debit and credit entries that must be equal. 19. Accounting transactions are typically recorded initially in a journal on an event-byevent basis. The recording of events in a journal allows the entire effect of a transaction to be contained in one place. The individual effects of a transaction are then posted to the general ledger. Potentially, a firm could put these transactions directly into the general ledger. However, if the transaction were recorded directly into the general ledger, there would be no evidence of the complete transaction in one place, which would make the use of the information very cumbersome. 20. Trial balances help detect errors resulting from inequality of debits and credits. A trial balance usually will not help in the detection of omitted entries or errors of analysis, journalizing, or posting when those errors cause incorrect account balances with equal debits and credits. 21. The initial steps of the accounting cycle involve (1) analyzing transactions, (2) journalizing transactions, (3) posting to the general ledger, and (4) preparing a trial balance. In the first step, data are collected about business activities and analyzed to determine which activities meet the criteria for recognition in the accounting records. If the data meet the recognition criteria, the effect on the fundamental accounting equation is determined. In the second step, the effects of the transaction on the fundamental accounting equation are recorded in the accounting system using debits and credits. In the third step, journal entries are posted to the general ledger, which is organized on an account-by-account basis. Finally, a trial balance is prepared from account balances in the ledger.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

MULTIPLE-CHOICE QUESTIONS 2-1.

2-2.

2-3.

2-4.

2-5.

2-6.

2-7.

2-8.

2-9.

2-10. a 2-11. c 2-12. a 2-13. d 2-14. a 2-15. b

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

BRIEF EXERCISES BE 2-16 a. b. c. d. e. f. g.

Relevance; faithful representation Comparability Consistency Understandability Faithful representation Verifiable Timeliness

BE 2-17 a. b. c. d.

Cost versus benefit Relevance Comparability Materiality

BE 2-18 a. b. c. d.

Monetary unit assumption Economic entity assumption Going concern assumption Time period assumption

BE 2-19 a. b. c. d. e. f.

Revenue recognition principle Conservatism principle Historical cost principle Expense recognition principle Revenue recognition principle Expense recognition principle

BE 2-20 a. b. c. d.

Yes, the event qualifies for recognition. Yes, the event qualifies for recognition. Yes, the event qualifies for recognition. No, the event does not qualify for recognition because no financial statement element will be affected until at least one party to the contract performs its responsibility (the service is performed or money is actually exchanged).

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

BE 2-21

a. b. c. d.

Assets + +/− + −

Liabilities NE NE + NE

Stockholders’ Equity + NE NE −

BE 2-22

a. b. c. d. e. f. g. h.

Assets 50,000 25,000 (25,000) (500) 10,000 3,000 (3,000) (2,500) (−800) 2,100

Liabilities 50,000

Stockholders’ Equity Contributed Capital + Retained Earnings

(500) 10,000

(2,500) (−800) 2,100

BE 2-23

a. b. c. d. e. f. g. h. i. j.

Account Accounts Payable Accounts Receivable Retained Earnings Service Revenue Equipment Common Stock Salary Expense Repair Expense Cash Notes Payable

Normal Balance Credit Debit Credit Credit Debit Credit Debit Debit Debit Credit

Debit Decrease Increase Decrease Decrease Increase Decrease Increase Increase Increase Decrease

Credit Increase Decrease Increase Increase Decrease Increase Decrease Decrease Decrease Increase

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

BE 2-24 Date Jan.

Journal Account and Explanation 1 Cash Notes Payable

Debit 50,000

Credit 50,000

4 Equipment Cash

25,000

6 Rent Expense Cash

500

25,000

500

15 Accounts Receivable Service Revenue

10,000

25 Cash Accounts Receivable

3,000

10,000

3,000

28 Land Cash Notes Payable

200,000

30 Salaries Expense Cash

2,500

10,000 190,000

2,500

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

BE 2-25 Beg. Bal. Jan. 1

Cash 12,000 50,000

End. Bal.

25,000 500 3,000 10,000 2,500 27,000

Beg. Bal. Jan. 4

Equipment 5,000 25,000

End. Bal.

30,000

Jan. 25

Service Revenue 19,500 10,000 29,500

Beg. Bal. Jan. 4 Jan. 6 Jan. 28 Jan. 30

Jan. 15

Accounts Receivable 6,300 10,000 3,000

End. Bal.

13,300 Notes Payable 0 50,000 190,000 240,000

Beg. Bal. Jan. 15 End. Bal.

Beg. Bal. Jan. 30 End. Bal.

1,000 500

End. Bal.

1,500

Beg. Bal. Jan. 1 Jan. 28 End. Bal.

Salary Expense 5,000 2,500 7,500

Rent Expense

Beg. Bal. Jan. 6

Jan. 25

Land Beg. Bal Jan. 28 End. Bal.

0 200,000 200,000

BE 2-26 Borges Inc. Trial Balance December 31 Account Cash .................................................................................................... Accounts Receivable ............................................................................ Equipment ........................................................................................... Accounts Payable ................................................................................. Common Stock..................................................................................... Dividends ............................................................................................ Service Revenue................................................................................... Rent Expense ....................................................................................... Salaries Expense .................................................................................. Advertising Expense .............................................................................

Debit $ 12,850 5,700 12,725

Credit

$ 2,825 15,000 1,500 23,150 2,400 4,300 1,500 $40,975

$ 40,975

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

EXERCISES E 2-27 1. a. b. c. d. 2.

Timeliness Verifiability Understandability Relevance

e. f. g. h.

Relevance Faithful representation Comparability Faithful representation

The conceptual framework flows logically from the fundamental objective of financial reporting—to provide information that is useful for making investment and credit decisions—and its purpose is to support the development of a consistent set of accounting standards and provide a consistent body of thought for financial reporting. The conceptual framework provides a logical structure to financial accounting and helps to explain “why” accountants adopt certain practices.

E 2-28 1. 2. 3. 4.

e. a. d. f.

Historical cost Economic entity Monetary unit Revenue recognition

5. 6. 7. 8.

b. c. h. g.

Going-concern Time-period Conservatism Expense recognition

E 2-29 1. and 2. a. b.

c. d. e.

Yes, the event qualifies for recognition. No, the agreement does not qualify for recognition because no financial statement element will be affected until at least one party to the contract performs its responsibility (the service is performed or money is actually exchanged). Yes, the event qualifies for recognition. Yes, the event qualifies for recognition. No, this transaction does not qualify for recognition in the financial statements of the company because it does not affect the overall common stock of the company. This transaction is between two entities (the individual investors) that are separate from the company. Yes, the event qualifies for recognition.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-30 1. and 2. a. Qualify. b. Does not qualify. The accounting equation has not been affected by ordering the product. When the cash register is delivered or paid for, one of the parties to the contract will have performed, and the transaction will qualify for recording. c. Qualify. d. Does not qualify. It has to do with the owner’s personal transactions, not the company’s transactions. e. Does not qualify. The extension does not affect the accounting equation. Once one of the parties performs according to the contract (the store is occupied in March or rent is paid), the transaction will be recorded. f. Qualify. g. Qualify.

E 2-31 1.

a. b. c. d. e. f. g. h. i.

Increase assets (cash) $2,900 and increase stockholders’ equity (revenue) $2,900. Increase assets (accounts receivable) $1,650 and increase stockholders’ equity (revenue) $1,650. Increase assets (land) $100,000 and decrease assets (cash) $100,000. Increase assets (supplies) $800 and increase liabilities (accounts payable) $800. Decrease assets (cash) $1,200 and decrease stockholders’ equity (dividend) $1,200. Decrease assets (cash) $725 and decrease liabilities (accounts payable) $725. Decrease assets (cash) $1,500 and decrease stockholders’ equity (expense) $1,500. Increase assets (cash) $860 and decrease assets (accounts receivable) $860. Increase assets (cash) $200,000 and increase stockholders’ equity (common stock) $200,000.

For transaction d, supplies were recorded as an asset at their historical cost—the exchange price of the transaction. Later, as the supplies are used, the expense recognition principle will guide the amount of supplies that will be expensed. This application of the principle will be discussed more fully in Chapter 3.

E 2-32

a. b. c. d. e. f. g. h. i. j. k.

Assets 300,000 (80,000) 80,000 2,120 (2,120) (1,200) 4,480 (2,200) (850) (1,640) 1,910 (400)

Liabilities

Stockholders’ Equity Contributed Capital + Retained Earnings 300,000

2,120 (2,120) (1,200) 4,480 (2,200) (850) (1,640)

1,910 (400)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-33 1.

a. b. c. d. e. f. 2.

a. b. c. d. e. f.

Assets 875,000 (875,000) 125,000 86,000 10,400 (10,400) (36,250) (5,000)

Liabilities

Stockholders’ Equity Contributed Retained Capital + Earnings

125,000 86,000

(36,250) (5,000)

Investing Financing Investing Operating Operating Financing

E 2-34 a. b. c. d.

This transaction is a result of purchasing land for cash. This transaction is a result of paying cash for an expense (e.g., rent expense) or a result of paying cash for dividends. This transaction is a result of issuing common stock in exchange for cash. This transaction is a result of borrowing cash.

E 2-35

a. b. c. d. e. f. g. h. i. j. k.

Assets 100,000 60,000 (42,000) 42,000 (9,000) 9,000 7,100 19,250 (10,200) (13,500) 13,500 1,680 (1,100) (1,680)

Liabilities

Stockholders’ Equity Contributed Retained Capital + Earnings 100,000

60,000

7,100 19,250 (10,200)

1,680 (1,100) (1,680)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-36

Assets 15,000 1,500 50,000 (8,500) 2,400 (500)

a. b. c. d. e.

Liabilities 15,000

Stockholders’ Equity Contributed Retained Capital + Earnings 1,500

41,500 2,400 (500)

E 2-37 a. b. c. d.

This transaction is the result of purchasing equipment for cash. This transaction is the result of performing services (generating revenue) in exchange for cash. This transaction is the result of purchasing supplies on account (on credit). This transaction is the result of the use of supplies.

E 2-38 Account Accounts Payable Accounts Receivable Accumulated Depreciation (Equipment) Advertising Expense Cash Common Stock Cost of Goods Sold Depreciation Expense (Equipment) Equipment Interest Expense Inventory Notes Payable Retained Earnings Sales Revenue Utilities Expense

Debit

Credit X

X X X X X X X X X X X X X X

Financial Statement Balance Sheet Balance Sheet Balance Sheet Income Statement Balance Sheet Balance Sheet Income Statement Income Statement Balance Sheet Income Statement Balance Sheet Balance Sheet Balance Sheet, Retained Earnings Statement Income Statement Income Statement

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-39

Assets Increase (Debit) Increase (Debit) Decrease (Credit) Increase (Debit) Decrease (Credit) Increase (Debit) Increase (Debit) Increase (Debit) Decrease (Debit) Increase / Decrease (Debit) / (Credit) Decrease (Credit)

a. b. c. d. e. f. g. h. i. j.

Liabilities Increase (Credit) Increase (Credit)

Stockholders’ Equity Contributed Retained Capital + Earnings

Decrease (Debit) Increase (Credit)

Increase (Credit)

Decrease (Debit) Increase (Credit) Increase (Credit) Increase (Credit)

Decrease (Debit)

E 2-40 Transaction a. b. c. d.

e. f. g.

Account Land Cash Equipment Notes Payable Supplies Accounts Payable Notes Payable Interest Expense Cash Accounts Payable Cash Accounts Receivable Service Revenue Cash Service Revenue

Increase/ Decrease Increase Decrease Increase Increase Increase Increase Decrease Increase Decrease Decrease Decrease Increase Increase Increase Increase

Debit / Credit Debit Credit Debit Credit Debit Credit Debit Debit Credit Debit Credit Debit Credit Debit Credit

Amount $65,000 $65,000 $26,400 $26,400 $1,200 $1,200 $20,000 $700 $20,700 $3,550 $3,550 $61,300 $61,300 $12,800 $12,800

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-40 (Continued) Transaction h. i. j.

Account Cash Accounts Receivable Wages Expense Cash Cash Common Stock

Increase/ Decrease Increase Decrease Increase Decrease Increase Increase

Debit / Credit Debit Credit Debit Credit Debit Credit

Amount $26,910 $26,910 $12,760 $12,760 $45,000 $45,000

E 2-41 Journal Account and Explanation

Date Mar.

Cash Service Revenue

Debit 51,000

51,500

Inventory Accounts Payable

1,800

Wages Expense Cash

9,200

Rent Expense Cash

1,000

Trucks Cash Notes Payable

40,800

Cash Accounts Receivable

1,050

1,800

9,200

1,000

1,000 39,800

1,050

Accounts Payable Cash

950

Cash Notes Payable

10,000

Utilities Expense Cash

185

Advertising Expense Cash

Credit

950

10,000

185 1,550

1,550

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-42 1.

Journal Account and Explanation

Date Nov.

Dec.

Cash Service Revenue

Debit 2,200

Credit 2,200

Supplies Accounts Payable

3,865

Wages Expense Cash

6,220

Accounts Payable Cash

3,865

Utilities Expense Cash

1,950

Repairs & Maintenance Expense Accounts Payable

1,630

Accounts Payable Cash

1,630

3,865

6,220

3,865

1,950

1,630

The recording of the November 10 transaction was based on the expense recognition principle. Remington’s workers helped to produce revenue in November. Therefore, the wages expense that was part of Remington’s normal operations needs to be recorded in the same period as the revenue.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-43 Date Jan.

Journal Account and Explanation 14

Feb.

Mar.

May

June

Cash Common Stock

Debit 80,000

80,000

Cash Notes Payable

45,000

Land Buildings Cash Notes Payable

30,000 60,000

Buildings Cash

4,000

Buildings Accounts Payable

11,000

Accounts Payable Cash

11,000

Supplies Cash

Credit

45,000

34,000 56,000

4,000

11,000

11,000 650

650

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-44 1.

Journal Account and Explanation

Date Jan.

Feb.

Apr.

May

June

Cash Common Stock

Debit 10,000

Credit 10,000

Supplies Accounts Payable

720

Accounts Payable Cash

720

Accounts Receivable Service Revenue

12,500

Cash Accounts Receivable

12,500

Accounts Receivable Service Revenue

9,500

Wages Expense Cash

6,700

12,500

9,500

6,700

2. Jan. 15 May 12 End. Bal.

Cash 10,000 720 12,500 6,700 15,080

Jan. 24 End. Bal.

Supplies 720 720

Feb. 20 June 24

Apr. 25 June 5 End. Bal.

Feb. 20

Common Stock 10,000 10,000

Jan. 15 End. Bal.

Service Revenue 12,500 9,500 22,000

Apr. 25 June 5 End. Bal.

June 24 End. Bal.

Accounts Receivable 12,500 12,500 9,500 9,500 Accounts Payable 720 720 0

May 12

Jan. 24 End. Bal.

Wages Expense 6,700 6,700

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E 2-44 (Continued) 3.

Rosenthal Decorating Inc. Trial Balance June 30

Debit $15,080 9,500 720

6,700 $32,000

Credit

$10,000 22,000 _______ $32,000

E 2-45 Badger Auto Parts Trial Balance December 31 Account Cash .................................................................................................... Accounts Receivable ............................................................................ Prepaid Rent ........................................................................................ Inventory ............................................................................................. Accumulated Depreciation (Furniture) .................................................. Accounts Payable ................................................................................. Interest Payable ................................................................................... Income Taxes Payable .......................................................................... Notes Payable (Long-term) ................................................................... Common Stock..................................................................................... Retained Earnings, Jan. 1 ...................................................................... Sales Revenue ...................................................................................... Cost of Goods Sold ............................................................................... Advertising Expense ............................................................................. Utilities Expense .................................................................................. Depreciation Expense (Furniture) ......................................................... Interest Expense .................................................................................. Income Taxes Expense .........................................................................

Debit $ 3,200 40,800 15,250 60,500

Credit

$ 47,300 8,500 1,800 3,600 50,000 100,000 15,900 264,700 184,300 29,200 9,700 10,400 6,650 3,800 $491,800

_________ $ 491,800

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

E2-46 Mason Company Trial Balance December 31 Account Cash .................................................................................................... Accounts Receivable ............................................................................ Supplies ............................................................................................... Prepaid Insurance ................................................................................ Accounts Payable ................................................................................. Salaries Payable ................................................................................... Unearned Service Revenue................................................................... Notes Payable ...................................................................................... Common Stock..................................................................................... Dividends ............................................................................................ Retained Earnings ................................................................................ Service Revenue................................................................................... Insurance Expense ............................................................................... Salaries Expense .................................................................................. Supplies Expense .................................................................................

Debit $20,000 10,300 1,200 1,900

Credit

$ 3,000 1,900 2,100 3,100 10,000 2,000 8,000 19,200 1,500 9,500 900 $47,300

_______ $47,300

E 2-47 a. b. c. d. e.

The trial balance WILL balance but there is still an error. The transaction was recorded at an incorrect dollar amount. Supplies will be overstated by $36 and cash will be understated by $36. The trial balance will not balance; sales will be overstated by $54. The trial balance will balance; both accounts will be overstated. The trial balance will balance; accounts payable will be overstated by $5,270 and cash will be overstated by $5,270. The trial balance WILL NOT balance; accounts receivable will be understated by $7,600.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

PROBLEM SET A P 2-48A 1.

a. This transaction does not qualify for recognition because receiving a new price list does not affect the accounting equation. Boatsman must enter into a sales contract with one if its customers and there must be performance under the contract (e.g., merchandise is delivered or a service is performed by Boatsman or the customer makes a cash payment) before the transaction is recorded. b. This transaction does not qualify for recognition because the offer does not affect the accounting equation. When there is performance under the contract (property or money is exchanged), the transaction will be recorded. c. This transaction does qualify for recognition because the receipt of cash by Boatsman and the delivery of the deed constitute performance. Assets (cash and land) have been affected by this transaction. d. This transaction does not qualify for recognition, because the total of common stock of Boatsman has not changed as a result of this transaction. This transaction does not involve Boatsman but two other entities: two stockholders. e. This transaction does qualify for recognition, because Boatsman has incurred an expense (maintenance) that will lower stockholders’ equity. The actual performance of the service by the dealer leads to recognition by Boatsman, regardless of whether Boatsman has paid the dealer for the maintenance. Item d illustrates the economic entity assumption—the transactions of a company are accounted for separately from its owners.

P 2-49A 1.

a. b. c. d. e. f. g. h. i. j. k. l.

Cash + 8,000 15,000 (850)

Assets Accounts Receivable + Supplies 15,900 4,100

= =

2,250 8,000 (1,080) (2,150) 4,700 (3,180) 1,920 (500) 1,290 (1,000) 31,410 +

Liabilities + Equity Accounts Notes Common Retained Payable + Payable + Stock + Earnings 2,500 4,000 12,000 9,500 15,000 (850)** 2,250 8,000 (1,080) (2,150)** 4,700* (3,180)** 1,920*

500 (1,290) 16,530

3,670

12,000 +

27,000 +

(1,000) 8,940

*Revenues = $4,700 + $1,920 = $6,620 **Expenses = $850 + $2,150 + $3,180 = $6,180

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-49A (Continued) 2.

Madero Accounting Services Trial Balance August 31

Account Cash .................................................................................................... Accounts Receivable ............................................................................ Supplies ............................................................................................... Accounts Payable ................................................................................. Notes Payable ...................................................................................... Common Stock..................................................................................... Retained Earnings ................................................................................ Dividends ............................................................................................ Revenue .............................................................................................. Expenses .............................................................................................

Debit $31,410 16,530 3,670

Credit

$ 3,670 12,000 27,000 9,500 1,000 6,620 6,180 $58,790

_______ $58,790

P 2-50A 1.

July 2: July 4: July 5: July 7: July 9: July 11: July 14:

Common stock was issued for $1,000 cash. Bought $250 of supplies on account. Paid $150 on a previous account payable. Performed services for cash of $2,500. Bought land for $700 cash. Received cash of $150 for payment of an account receivable. Paid a $750 expense with cash. Chen Construction Company Trial Balance July 31

Debit $2,250 1,250 1,000 3,700

_____ $8,200

Credit

$1,200 5,000 2,000 $8,200

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-51A Account Accounts Payable. Accounts Receivable. Accumulated Depreciation. Cash. Common Stock. Depreciation Expense. Equipment. Income Taxes Expense. Interest Expense. Land. Notes Payable. Prepaid Rent. Retained Earnings. Salaries Expense. Service Revenue. Supplies.

Type of Account Liability Asset Contra Asset Asset Equity Expense Asset Expense Expense Asset Liability Asset Equity Expense Revenue Asset

Normal Balance Credit Debit Credit Debit Credit Debit Debit Debit Debit Debit Credit Debit Credit Debit Credit Debit

Increase Credit Debit Credit Debit Credit Debit Debit Debit Debit Debit Credit Debit Credit Debit Credit Debit

Decrease Debit Credit Debit Credit Debit Credit Credit Credit Credit Credit Debit Credit Debit Credit Debit Credit

Debit 38,900

Credit

P 2-52A Journal Account and Explanation

Date Sept.

5 8 10 11 12 18 22 23 28 30

Trucks Cash Inventory Accounts Payable Supplies Accounts Payable Cash Service Revenue Accounts Receivable Service Revenue Wages Expense Cash Cash Accounts Receivable Cash Notes Payable Cash Common Stock Dividends Cash

38,900 4,200 4,200 1,250 1,250 13,600 13,600 2,400 2,400 4,750 4,750 2,400 2,400 20,000 20,000 35,000 35,000 3,250

3,250

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-53A 1.

Journal Account and Explanation

Date June

Cash Common Stock

Debit 25,000

25,000

Supplies Accounts Payable

1,675

Trucks Cash Notes Payable

13,700

Wages Expense Cash

4,230

Accounts Receivable Service Revenue

10,340

Cash Accounts Receivable

6,100

Cash Service Revenue

Credit

1,675

1,500 12,200

4,230

10,340

6,100 520

520

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-53A (Continued) 2. June 1 26 29 End. Bal.

Cash 25,000 1,500 6,100 4,230 520 25,890

June 3 End. Bal.

Supplies 1,675 1,675

June 14 End. Bal.

June 8 14

Accounts Payable 1,675 1,675

June 3 End. Bal.

Common Stock 25,000

June 1

25,000

End. Bal.

June 22

Accounts Receivable 10,340 6,100

End. Bal.

4,240

June 8 End. Bal.

Trucks 13,700 13,700

June 26

Notes Payable 12,000 12,200

June 8 End. Bal.

Service Revenue 10,340 520 10,860

June 22 29 End. Bal.

Wages Expense 4,230 4,230

P 2-54A 1.

Asset

Liabilities

Equity

22,000

(13,500)

(5,320)

(58,800)

128,200

146,850

18,650 f.

(59,110)

(3,500)

109,400 (109,400)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-54A (Continued) Date a.

f.*

Journal Account and Explanation Cash Common Stock

Debit 22,000

22,000

Rent Expense Cash

13,500

Utilities Expense Cash

5,320

Wages Expense Cash

58,800

Cash Accounts Receivable Service Revenue

18,650 128,200

Supplies Expense Cash

59,110

Dividends Cash

3,500

Cash Accounts Receivable

Credit

13,500

5,320

58,800

146,850

59,110

3,500 109,400 109,400

* An alternative answer would involve making the following two entries: Supplies ............................................................................................................. Cash ........................................................................................................... Supplies Expense ............................................................................................... Supplies .....................................................................................................

59,110 59,110 59,110

59,110

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-54A (Continued) 3. (a) (e) (h)

End. Bal.

Cash 22,000 13,500 18,650 5,320 109,400 58,800 59,110 3,500 9,820 Common Stock 22,000 22,000 Service Revenue 146,850 146,850

Utilities Expense 5,320 5,320

(f) End. Bal.

Supplies Expense 59,110 59,110

(b) (c) (d) (f) (g)

(a) End. Bal.

(e) End. Bal.

(e)

Accounts Receivable 128,200 109,400

End. Bal.

18,800

(g) End. Bal.

Dividends 3,500 3,500

(b) End. Bal.

Rent Expense 13,500 13,500

(d) End. Bal.

Wages Expense 58,800 58,800

(h)

4. Karleen’s Catering Service Trial Balance December 31 Account Cash .................................................................................................... Accounts Receivable ............................................................................ Common Stock…………………………………………………………………………............ Dividends ............................................................................................ Service Revenue................................................................................... Rent Expense ....................................................................................... Utilities Expense .................................................................................. Wages Expense .................................................................................... Supplies Expense .................................................................................

Credit $ 9,820 18,800

Debit

$ 22,000 3,500 146,850 13,500 5,320 58,800 59,110 $ 168,850

________ $ 168,850

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-55A 1. and 3. Beg. Bal. (b) (c)

End. Bal.

(d)

Cash 16,300 58,000 384,000 5,000 983,000 56,000 702,000 22,200 19,700 520,400

(d) (e) (f) (g) (h) (i)

Beg. Bal. (a)

Accounts Receivable 384,000 384,000 994,000 983,000

End. Bal.

11,000

(b) (c)

Accounts Payable 11,900 11,900

Beg. Bal. End. Bal.

(h)

Interest Payable 11,200 11,200 0

Beg. Bal. End. Bal.

Rent Payable 10,000 10,000 0

Beg. Bal. End. Bal.

(e)

Insurance Payable 1,000 1,000 0

Beg. Bal. End. Bal.

Common Stock 165,000 165,000

Beg. Bal. End. Bal.

Service Revenue 994,000 994,000

(a) End. Bal.

Notes Payable 100,000 100,000 Retained Earnings 101,200 101,200

(d) End. Bal.

Rent Expense 48,000 48,000

(e) End. Bal.

Insurance Expense 4,000 4,000

(f) End. Bal.

Utilities Expense 56,000 56,000

(g) End. Bal.

Salaries Expense 702,000 702,000

(h) End. Bal.

Interest Expense 11,000 11,000

(i) End. Bal.

Income Taxes Expense 19,700 19,700

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-55A (Continued) 2. Date a.

Journal Account and Explanation Accounts Receivable Service Revenue

Debit 994,000

Credit 994,000

Cash Accounts Receivable

384,000

Cash Accounts Receivable

983,000

Rent Payable Rent Expense Cash Insurance Payable Insurance Expense Cash

10,000 48,000

Utilities Expense Cash

56,000

Salaries Expense Cash

702,000

Interest Payable Interest Expense Cash

11,200 11,200

Income Taxes Expense Cash

19,700

384,000

983,000

58,000 1,000 4,000 5,000

56,000

702,000

22,200

19,700

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-55A (Continued) 4.

Western Sound Studios Trial Balance December 31

Account Cash .................................................................................................... Accounts Receivable ............................................................................ Accounts Payable ................................................................................. Notes Payable ...................................................................................... Common Stock..................................................................................... Retained Earnings ................................................................................ Service Revenue................................................................................... Rent Expense ...................................................................................... Insurance Expense ............................................................................... Utilities Expense .................................................................................. Salaries Expense .................................................................................. Interest Expense .................................................................................. Income Taxes Expense .........................................................................

Debit $520,400 11,000

Credit

$11,900 100,000 165,000 101,200 994,000 48,000 4,000 56,000 702,000 11,000 19,700 $1,372,100

_________ $1,372,100

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

PROBLEM SET B P 2-48B 1. a.

This transaction does not qualify for recognition because simply signing a contract does not affect the accounting equation. When there is performance under the contract (e.g., products or cash are exchanged), the transaction will be recorded.

This transaction does not qualify for recognition because selling stock to another person does not affect the total amount of common stock outstanding for the company. This transaction does not involve Malcolm Motors but two other entities—two stockholders.

This transaction does qualify for recognition because the transaction affects two accounting elements—cash and the amount of stock outstanding have been increased.

This event does qualify for recognition. While there is no external event affecting the accounting equation (e.g., no cash is being paid for the building), Malcolm must still recognize depreciation as it occupies the building. The concept of depreciation was introduced in Chapter 1 and will be discussed more completely in Chapters 3 and 7.

This event does not qualify for recognition because Malcom Motors does not pay to use the land. Unlike other physical assets, land is not depreciated so there is no periodic cost to recognize. Therefore, the accounting equation has not been affected.

This transaction does qualify to be recorded because two accounting elements have been affected—Malcom Motors has incurred an expense, which lowered its stockholders’ equity, and has paid cash, which lowered its assets.

This transaction does qualify for recognition because two accounting elements have been affected—Malcom Motors has incurred an expense, which lowered its stockholders’ equity, and has incurred a liability that will be paid in the future.

2. Item b illustrates the economic entity assumption—the transactions of a company are accounted for separately from its owners.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-49B 1.

a. b. c. d. e. f. g. h. i. j.

Cash + 3,000 12,000 3,850 925

Assets Accounts Receivable + Supplies 6,600 4,800

= =

Liabilities + Equity Accounts Notes Common Retained Payable + Payable + Stock + Earnings 500 1,000 10,000 2,900 12,000 3,850

(925) 1,140

1,140 (875)

(875) 2,980 (1,350) (800) (1,340) (500) 14,910 +

8,655 +

5,940

765

1,000 +

22,000

2,980* (1,350)** (800)** (1,340)** (500) + 5,740

* Revenues = $3,850 + $2,980 = $6,830 ** Expenses = $1,350 + $800 + $1,340 = $3,490

Emerson Consulting Inc. Trial Balance January 31 Account Cash .................................................................................................... Accounts Receivable ............................................................................ Supplies ............................................................................................... Accounts Payable ................................................................................. Notes Payable ...................................................................................... Common Stock..................................................................................... Retained Earnings ................................................................................ Dividends ............................................................................................ Revenue .............................................................................................. Expenses .............................................................................................

Debit $14,910 8,655 5,940

Credit

765 1,000 22,000 2,900

500 3,490 $33,495

6,830 _______ $33,495

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-50B 1.

April 3: April 8: April 9: April 11: April 15: April 18: April 24:

Received cash from a bank loan of $2,000. Purchased equipment with cash for $700. Paid an accounts payable with cash for $325. Used supplies of $140 (an expense). Purchased $150 of supplies with cash. Performed services in exchange for cash of $1,500. Received $375 in payment of an account receivable from a customer.

Brilliant Minds Inc. Trial Balance April 30

Debit $3,200 325 910 1,900

______ $6,335

Credit

$300 2,000 2,000 2,035 $6,335

P 2-51B Account Accounts Payable Accounts Receivable Bonds Payable Building Cash Common Stock Copyright Cost of Goods Sold Depreciation Expense Income Taxes Expense Income Taxes Payable Insurance Expense Interest Expense Inventory Investments Retained Earnings Sales Revenue Unearned Revenue Utilities Expense

Type of Account Liability Asset Liability Asset Asset Equity Asset Expense Expense Expense Liability Expense Expense Asset Asset Equity Revenue Liability Expense

Normal Balance Credit Debit Credit Debit Debit Credit Debit Debit Debit Debit Credit Debit Debit Debit Debit Credit Credit Credit Debit

Increase Credit Debit Credit Debit Debit Credit Debit Debit Debit Debit Credit Debit Debit Debit Debit Credit Credit Credit Debit

Decrease Debit Credit Debit Credit Credit Debit Credit Credit Credit Credit Debit Credit Credit Credit Credit Debit Debit Debit Credit

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-52B Date Dec.

Journal Account and Explanation Rent Expense Cash

Debit 1,200

Credit 1,200

Cash Notes Payable

25,000

Accounts Receivable Service Revenue

42,600

Supplies Accounts Payable

2,850

Cash Accounts Receivable

20,150

Cash Common Stock

50,000

Wages Expense Cash

13,825

Accounts Payable Cash

1,280

Cash Service Revenue

13,500

Utilities Expense Cash

1,975

25,000

42,600

2,850

20,150

50,000

13,825

1,280

13,500

1,975

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-53B Journal Account and Explanation

Date Sept.

Cash Common Stock

Debit 20,000

20,000

Supplies Cash

1,880

Prepaid Rent Cash

2,400

Advertising Expense Accounts Payable

1,290

Accounts Receivable Service Revenue

2,100

Cash Service Revenue

8,250

Cash Accounts Receivable Wages Expense Cash

Credit

1,880

2,400

1,290

2,100

8,250 835 835 3,970

3,970

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-53B (Continued) 2. Sept. 1 18 25 End. Bal.

Cash 20,000 1,880 8,250 2,400 835 3,970 20,835

Sept. 2 End. Bal.

Supplies 1,880 1,880

Sept. 8 End. Bal.

Sept. 2 5 30

Accounts Payable 1,290 1,290

Sept. 8 End. Bal.

Service Revenue 2,100 8,250 10,350

Sept. 13 18 End. Bal.

Accounts Receivable 2,100 835

Sept. 13

End. Bal.

1,265

Sept. 5 End. Bal.

Prepaid Rent 2,400 2,400 Common Stock 20,000 20,000

Sept. 30

Wages Expense 3,970

End. Bal.

3,970

Sept. 25

Sept. 1 End. Bal.

Advertising Expense 1,290 1,290

P 2-54B 1. a. b. c. d. e. f. g. h. i.

Asset 45,000 18,710 (18,710) 112,880 (87,300) 20,000 (10,200) 2,120 (1,200) (3,250)

Liabilities

Equity 45,000

112,880 (87,300) 20,000 (10,200) 2,120 (1,200)

(3,250)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-54B (Continued) 2. Date a.

Journal Account and Explanation Cash Common Stock

Debit 45,000

Credit 45,000

Equipment Cash

18,710

Cash Service Revenue

112,880

Wages Expense Cash

87,300

Cash Notes Payable

20,000

Rent Expense Cash

10,200

Supplies Accounts Payable

2,120

Accounts Payable Cash

1,200

Utilities Expense Cash

3,250

18,710

112,880

87,300

20,000

10,200

2,120

1,200

3,250

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-54B (Continued) 3. (a) (c) (e)

End. Bal.

Cash 45,000 18,710 112,880 87,300 20,000 10,200 1,200 3,250 57,220

(b) End. Bal.

Equipment 18,710 18,710

(i) End. Bal.

(b) (d) (f) (h) (i)

End. Bal.

(h)

Notes Payable 20,000 20,000

(e) End. Bal.

Service Revenue 112,880 112,880

Utilities Expense 3,250 3,250

(g)

Accounts Receivable 2,120

2,120 Accounts Payable 1,200 2,120 920

(g) End. Bal.

Common Stock 45,000 45,000

(a) End. Bal.

(f) End. Bal.

Rent Expense 10,200 10,200

(d) End. Bal.

Wages Expense 87,300 87,300

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-54B (Continued) 4.

Sweetwater Temporary Clerical Help Service Trial Balance December 31

Account Cash .................................................................................................... Supplies ............................................................................................... Equipment ........................................................................................... Accounts Payable ................................................................................. Notes Payable ...................................................................................... Common Stock..................................................................................... Service Revenue................................................................................... Rent Expense ....................................................................................... Utilities Expense .................................................................................. Wages Expense ....................................................................................

Debit $57,220 2,120 18,710

Credit

$ 920 20,000 45,000 112,880 10,200 3,250 87,300 $178,800

________ $178,800

P 2-55B 1 and 3. Beg. Bal. (b)

End. Bal.

Beg. Bal.

Cash 6,000 8000 699,000 379,000 9,000 28,000 13,000 26,000 10,300 5,000 226,700

Beg. Bal. (a)

Accounts Receivable 130,000 699.000 690,000

End. Bal.

121,000

Supplies 13,000 13,000

Prepaid Rent 96,000 96,000 0

(f) End. Bal.

(g) End. Bal.

Accounts Payable 14,000 14,000

Beg. Bal. End. Bal.

(c)

Interest Payable 8,000 8,000 0

(b)

Beg. Bal. End. Bal.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-55B (Continued) Notes Payable 80,000 80,000 Retained Earnings 16,000 16,000

Beg. Bal. End. Bal.

114,000 114,000

Beg. Bal. End. Bal.

Service Revenue 690,000 690,000

(a) End. Bal.

(f) End. Bal.

Rent Expense 124,000 124,000

(h) End. Bal.

Advertising Expense 26,000 26,000

(d) End. Bal.

Wages Expense 379,000 379,000

Repairs & Maintenance Expense (e) 9,000 End. Bal. 9,000

(j) End. Bal.

Interest Expense 5,000 5,000

(i) End. Bal.

Income Taxes Expense 10,300 10,300

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-55B (Continued) 2. Date a.

Journal Account and Explanation Accounts Receivable Service Revenue Cash* Accounts Receivable

Debit 690,000

690,000 699,000 699,000

Interest Payable Cash

8,000

Wages Expense Cash

379,000

Repairs & Maintenance Expense Cash

Credit

8,000

379,000 9,000 9,000

Rent Expense Prepaid Rent Cash

124,000

Supplies Cash

13,000

Advertising Expense Cash

26,000

Income Taxes Expense Cash

10,300

Interest Expense

5,000

96,000 28,000

13,000

26,000

10,300

5,000 *$570,000 + $129,000 = $699,000

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

P 2-55B (Continued) 4.

Mulberry Services Trial Balance December 31

Account Cash .................................................................................................... Accounts Receivable ............................................................................ Supplies ............................................................................................... Accounts Payable ................................................................................. Notes Payable ...................................................................................... Common Stock..................................................................................... Retained Earnings ................................................................................ Service Revenue................................................................................... Rent Expense ....................................................................................... Advertising Expense ............................................................................. Wages Expense .................................................................................... Repairs & Maintenance Expense .......................................................... Interest Expense .................................................................................. Income Taxes Expense .........................................................................

Debit $226,700 121,000 13,000 $14,000 80,000 114,000 16,000 690,000 124,000 26,000 379,000 9,000 5,000 10,300 $914,000

Credit

_______ $914,000

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

CASES Case 2-56 1.

To qualify as a transaction, the underlying events must impact a financial statement element of the company and must be able to be reliably measured. A reliable measurement is one that is reasonably free from any error and bias and is a faithful representation of what it purports to represent. Prices agreed upon in exchanges between a company and outside (unrelated) parties are usually reasonably free from any error and bias and can serve as the basis for recording the related transaction. The transfer of the building and equipment to the company from Susan Eel, the owner of the company, however, is not an exchange between the company and an outside (unrelated) party; thus, its amount may be biased and a less than faithful representation of the fair value of the building and equipment. Consequently, the amount recorded for the transfer of the building and equipment to the business is open to question. Although the accounts receivable probably involved transactions with outsiders, the absence of supporting documentation for those transactions raises a question about the correctness of their recognition. In general, the absence of source documents to support the amounts recorded for the building, equipment, and accounts receivable violates an important condition for the recording of transactions.

If assets are overstated, assets will need to be reduced so that a correct balance is reflected on the balance sheet. Because the fundamental accounting equation must remain in balance, stockholders’ equity would need to be reduced because the recorded amount for the stock Susan exchanged for the building and equipment would have to be reduced. (Instructor’s Note: Depreciation expense and accumulated depreciation would also be overstated; however, this topic is not covered until later in the text.) If receivables are overstated, sales, net income, and retained earnings are likely also overstated. If accounts payable are understated, it is likely that expenses are understated, as well as net income and retained earnings are overstated.

An independent certified public accountant should be engaged to examine Susan’s financial statements and to recommend their restatement, where necessary. Based on the restated financial statements and an assessment of the future prospects of the business, an offer could be made. Estimating the value of a business is a complex task in which data from many sources (including accounting and nonaccounting information) must be acquired and analyzed. Such estimated values are subject to considerable error.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

Case 2-57 1.

We can analyze the accounts receivable account to determine the amount of cash collected from customers. The journal entry to record credit sales would debit Accounts Receivable and credit Sales Revenue. The collection of an account receivable from a customer requires a debit to Cash and a credit to Accounts Receivable. Therefore, the amount that must be credited to Accounts Receivable to make the ending balance equal to $7,950 must be the amount that customers paid Cable. The calculation of this amount is shown with the T-account next. Beg. Bal. Credit sales End. Bal.

Accounts Receivable 6,325 93,680 92,055 7,950

Collections*

*Collections of $92,055 calculated as $6,325 + $93,680 − $7,950

The cash collected from customers would be classified in the operating section on the statement of cash flows.

We can analyze the wages payable account in a similar way. The journal entry to record the recognition of wages expense is a debit to Wages Expense and a credit to Wages Payable. Payment of wages requires a debit to Wages Payable and a credit to Cash. Therefore, the amount that must be debited to Wages Payable to make the ending balance equal to $3,625 must be the amount that Cable paid its employees.

Wage payments*

Wages Payable 4,960 50,845 49,510 3,625

Beg. Bal. Wages expense End. Bal.

*Wage payments of $50,845 calculated as $4,960 + $49,510 − $3,625

The cash paid for wages would be classified in the operating section of the statement of cash flows.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

Case 2-58 1.

Kathryn has an ethical dilemma known as a conflict of interest. As a top executive for Clean Sweep, she has a professional responsibility to the company. This responsibility to the company is in conflict with her personal responsibility to her family, specifically her son, Ben. This conflict of interest could lead to Kathryn making a decision that is not in the best interests of the company in an effort to help her family.

Kathryn has two major alternatives in this situation. First, she could bring the bookkeeping errors to the attention of the management of Clean Sweep. Such an action would allow her to correct the financial statements of Clean Sweep so that the users of Clean Sweep’s financial statements are provided accurate and reliable information on which to base their decisions. Because the financial statements have not yet been prepared, individuals outside of the company may never know of the errors, and the company will suffer little, if any, harm from these mistakes. However, such an action may have serious personal repercussions. For example, Kathryn may get reprimanded for hiring a relative who was not competent to do the job. Such a reprimand may lead to a below average performance evaluation for Kathryn, which could affect her financially. Second, Kathryn could cover up her son’s mistakes by fixing the errors without telling senior management that any errors were made. Most likely, it is entirely within Kathryn’s responsibility as chief accountant to authorize journal entries that can fix the mistakes and no one may ever question these actions. In addition, because the trial balance still balanced, outside users would have no reason to suspect any errors. If successful, Kathryn would save her family and herself potential embarrassment and financial loss while still protecting the company’s interests. However, if someone (e.g., an auditor) questions these entries and investigates their source, Kathryn would most likely face serious reprimands, and possibly the loss of her job, for covering up the mistakes. The first alternative would be the most ethical choice. Her professional responsibility to the company should come before any personal embarrassment or injury she may suffer.

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

Case 2-59 1.

This information was found in the 2019 annual report for Disney on the statement of financial position (the balance sheet): Total Assets Total Liabilities Total Equity

= = =

$193,984,000,000 $100,095,000,000 $93,889,000,000

Note: Disney reports $8,963,000,000 of redeemable noncontrolling interests as "mezzanine" or "temporary equity." It also reports $5,012,000,000 of minority interest in equity of consolidated affiliates (noncontrolling interests) as part of stockholders’ equity. These topics are beyond the scope of this course. 2.

Normal balances are: a. Debit b. Credit c. Credit d. Debit e. Debit f. Debit g. Credit

Additional accounts involved in the transaction are: a. Cash (decreased as payables are paid off) b. Sales Revenue (increased as credit sales are made to customers) c. Cash (increased when more common stock is issued) d. Wages Expense (increased as wages are earned)

Financial Accounting: The Cornerstone of Business Decision Making, 5e [978-0-357-13278-4], Chapter 2: The Accounting Information System

Case 2-60 1.

Assets

Liabilities

Stockholders’ Equity

Kroger

$45,256,000,000

$36,683,000,000

$8,573,000,000

Sprouts

$2,722,983,000

$2,141,031,000

$581,952,000

The accounting equation for each of these companies balances, as required of a balance sheet. 2. Kroger Beg. Bal. Sales End. Bal.

Accounts Receivable 1,589,000,000 122,286,000,000 122,169,000,000 1,706,000,000

Cash collections*

*Cash collections of $122,169,000,000 were determined as $1,589,000,000, beginning balance + $122,286,000,000 sales − $1,706,000,000 ending balance.

Sprouts Beg. Bal. Sales End. Bal.

Accounts Receivable 40,564,000 5,634,835,000 5,659,686,000 15,713,000

Cash collections*

*Cash collections of $5,656,686,000 were determined as $40,564,000, beginning balance + $5,634,835,000 sales − $15,713,000 ending balance.

100