Chapter 03 Solution of fundamental of financial accouting by EDMONDS (4th edition)

ANSWERS TO QUESTIONS - CHAPTER 3

1. Assets are used by a business to generate profits. One measure of the profitability of a business is return on assets, or how efficiently a business uses its assets.

2. Deferral is the recognition of revenue or expenses in a period after the cash consequences are realized, i.e., cash is collected in advance of performing the service.

3. If cash is collected in advance for services, the revenue is recognized when the services are rendered.

4. Salvage value is the expected value of an asset at the end of its useful life.

5. If cash is collected in advance for services, a liability is created (unearned revenue), increasing the claims side of the accounting equation.

6. Unearned revenue is revenue that has been collected but the service has not yet been performed.

7. Straight line depreciation is computed by taking the cost of an asset minus the salvage value and dividing by the number of years of useful life. Straight line depreciation allocates an equal amount of depreciation to each accounting period.

8. Depreciation expense is the process of recognizing the used portion of a long-term tangible asset by allocating its cost to expense over its useful life.

9. A contra asset account is an account that has a balance opposite of the normal balance and has the effect of reducing the asset to which it is associated.

Example of a contra asset account: Accumulated Depreciation

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10. The book value of an asset is the asset's historical cost minus the accumulated depreciation.

11. $12,000 $10,000 = $2,000 book value.

12. The concept of financial leverage is the practice of using borrowed money to increase the return on owners' equity. The business borrows money and invests it in assets that will yield a return greater than the cost of the borrowed money.

13. Cash paid for office equipment is shown in the cash flows from investing activities section of the statement of cash flows.

14. A cost can be either an asset or an expense. If the item acquired has already been used in the process of earning revenue, its cost represents an expense. If the item will be used in the future to generate revenue, its cost represents an asset.

15. A cost is held in the asset account until the item is used to produce revenue. When the revenue is generated, the asset is converted into an expense in order to match revenues with related expenses. Not all costs become expenses. If the value of an asset will not expire in the revenue generating process, the asset will not become an expense. For example, the cost of land will not become an expense.

16. Supplies used during the accounting period are recognized in a single adjusting entry at the end of the period. The amount of supplies used is determined by subtracting the amount of supplies on hand at the end of the period from the amount of supplies that were available for use (beginning supplies balance plus supplies purchased).

17. The depreciation of office equipment is an example of an asset whose cost is systematically allocated over several accounting periods.

3-2

18. Expenses are matched to revenues by: (1) direct match; (2) systematic allocation over several accounting periods; and (3) match with period incurred.

19. Losses are decreases in assets or increases in liabilities which result from peripheral or incidental transactions. For example, when land purchased for $4,000 is sold for $3,500, the loss is $500. This is a peripheral activity if the company is not in the business of selling land.

20. Gains are increases in assets or decreases in liabilities which result from peripheral or incidental transactions. For example, when land purchased for $4,000 is sold for $5,000, the gain is $1,000.

21. Income from operations is computed by subtracting expenses from revenues. Gains and losses are not included in the computation of income from operations.

22. A peripheral activity is an activity that does not arise from normal or ordinary business operations.

23. Revenues $45,000Oper. Exp. (36,000 ) Income from Operations $9,000Gain from Sale of Land 12,500Net Income $21,500

24. The concept of materiality: If the decision of a reasonable person would be influenced by the omission or misstatement of accounting information, the omission or misstatement is considered material.

25. Among the reasons a global GAAP has not been established are:

Different political structures Different economic structures

26. Return on Assets = Net Income Total Assets

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This ratio provides a common unit of measure that enables comparisons between different size companies.

27. Debt-to- Assets = Total DebtTotal Assets

This ratio measures the level of risk of a company.

28. If a company can earn a ROA which is higher than the cost of borrowed money (i.e. interest rate), the excess increases ROE.

SOLUTIONS TO EXERCISES - SERIES A - CHAPTER 3

EXERCISE 3-1A

a. The owners invested cash in the business.

Cash revenue is earned.

b. Recorded accrued salaries.

Recorded accrued interest expense.

c. Paid cash dividends to stockholders.

Paid an expense with cash.

d. Paid cash for operating expenses previously purchased

on account.

Repaid a loan with cash.

e. Unearned revenue is earned and recognized.

f. The business invested cash by purchasing a building.

Collected accounts receivable.

3-4

g. Received cash in advance for services to be provided in

the future.

Borrowed cash from the bank.

3-5

EXERCISE 3-2A

a. accrual

b. accrual

c. deferral

d. deferral

e. accrual

f. neither

g. deferral

h. deferral

i. accrual

j. neither

3-6

EXERCISE 3-3A

a.Even

tAssets = Liabiliti

es+ Stockholders’ Equity

CashPrepaid

RentCommon

Stock +Retained Earnings

1. (24,000)

24,000

Adj. (10,000)*

(10,000)

*$24,000 x 5/12 = $10,000

b.Even

tAssets = Stockholders’ Equity

Cash Equipment

Accumulated

Depreciation

Common Stock +

Retained Earnings

1. (22,000)

22,000

Adj. (7,000)* (7,000)

*$22,000 $1,000 = $21,000; $21,000 3 = $7,000

c.Even

tAssets = Liabilities + Stockholders’ Equity

Cash Unearned Revenue

Common Stock

Retained Earnings

1. 20,000 20,000Adj. (10,000)* 10,000

*$20,000 x 3/6 = $10,000

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EXERCISE 3-4A

Accounting Equation

Stock. Equity Income StatementType of Com. Ret. Net Cash

Event Event Assets = Liab. + Stock + Earn. Rev. Exp. = Inc. Flowsa. AS I I NA NA NA NA NA I OAb. AU D D NA NA NA NA NA D OAc. AS I NA I NA NA NA NA I FAd. AE I/D NA NA NA NA NA NA D IAe. CE NA I NA D NA I D NAf. AE I/D NA NA NA NA NA NA D OAg. AS I NA NA I I NA I NAh. AE I/D NA NA NA NA NA NA D OAi. AU D NA NA D NA I D NAj. AU D NA NA D NA I D D OAk. AS I NA NA I I NA I I OAl. AU D NA NA D NA NA NA D FA

m. CE NA I NA D NA I D NAn. AE/AS I I NA NA NA NA NA D IAo. AE I/D NA NA NA NA NA NA I OAp. AU D NA NA D NA I D NAq. AU D D NA NA NA NA NA D OA

3-8

EXERCISE 3-5Aa.

Management Consulting ServicesEffect of Events on the Accounting Equation

Assets = Stockholders’ Equity

Event CashPrepaid

Rent =Com.Stock

Retained Earnings

1. Acq. Stock 12,000 12,0002. Prepaid Rent (9,000) 9,0003. Provided Service 18,000 18,0004. Used Rent (8,250)* (8,250)Totals 21,000 750 = 12,000 9,750

*$9,000 x 11/12 = $8,250

b.Management Consulting Services

Income StatementFor the Year Ended December 31, 2007

Revenue $18,000Expense (8,250)

Net Income $ 9,750

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EXERCISE 3-5A b. (cont.)

Management Consulting ServicesStatement of Cash Flows

For the Year Ended December 31, 2007

Cash Flows From Operating Activities:Cash Receipt from Revenue $18,000Cash Payment for Rent (9,000)

Net Cash Flow from Operating Activities $ 9,000

Cash Flow From Investing Activities -0-

Cash Flows From Financing ActivitiesCash from Issue of Stock 12,000

Net Cash Flow from Financing Activities 12,000

Net Change in Cash 21,000Plus: Beginning Cash Balance -0-Ending Cash Balance $21,00

0

c. The difference of $750 ($9,750 $9,000) is attributed to recognizing rent expense of $8,250 in the income statement, whereas the cash payment for rent is $9,000.

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EXERCISE 3-6Aa.

Quick PrintingEffect of Events on Financial Statements for 2005

Assets = Liab. Stockholders’ Equity

Income Statement

Event No. Cash Supplie

s=

Accts.Pay. +

Com.Stock

Retained

EarningsRev. Exp. =

Net Incom

e

Beg. Bal. 5,000 -0- -0- 2,000 3,0001. NA 7,200 7,200 NA NA NA NA NA2. 15,000 NA NA NA 15,000 15,000 NA 15,0003. (5,000

)NA (5,000) NA NA NA NA NA

4. NA (5,800) NA NA (5,800) NA 5,800 (5,800)

Totals 15,000 1,400 2,200 2,000 12,200 15,000 5,800 9,200

b. The difference in net income and cash flow from operating activities of $800 ($9,200 $10,000) is attributed to recognizing supplies expense of $5,800 in the income statement, whereas the cash payment on accounts payable (for supplies) was only $5,000.

3-11

EXERCISE 3-7Aa.

Tasty PizzaAccounting Equation for 2008


Event Cash OvenAccum. Depr. =

Com.Stock +

RetainedEarnings

1. Issue Stk. 12,000 12,0002. Pur. Oven (11,000) 11,0003. Rev. 8,000 8,0004. Paid Exp. (2,000) (2,000)5. Depr. Exp. (2,000)* (2,000)Totals 7,000 11,000 (2,000) = 12,000 + 4,000

*(11,000 $1,000) 5=$2,000 depreciation per year

b. $2,000 each year.

c. 4,000 of accumulated depreciation ($2,000 for 2008 + $2,000 for 2009).

d. No, because depreciation is a non-cash expense. Depreciation is the systematic allocation of the cost of an asset to expense. The cash payment occurred when the oven was purchased.

3-12

EXERCISE 3-8A a.

a.Kim Vanderbilt Personal Financial Planning

Horizontal Statements Model for 2003

Assets = Liabilities + Stk. Equity Income Statement

Event Cash =Unearned Revenue +

RetainedEarnings Rev. Exp. =

Net Income

1. Advance Payment 72,000 72,000 NA NA NA 72,0002. Revenue Earned (60,000)* 60,000 60,000 NA 60,000Totals 72,000 = 12,000 60,000 60,000 60,000 72,000

*$72,000 x 10/12 = $60,000

b. Revenue that will be recognized in 2004 is $12,000, the remainder of the unearned revenue.

c. $-0-, no cash is received. All cash was received in 2003.

3-13

EXERCISE 3-9A

IBC Enterprises2004 Accounting Equation


Event Cash Land =Common


a.1 +5,500 (6,000) = (500)

b.1 +7,000 (6,000) = 1,000

a. (1) See above.

a. (2) Loss of $500 ($5,500 sales price $6,000 cost).

a. (3) Cash inflow from investing activities, $5,500.

b. (1) See above.

b. (2) Gain of $1,000 ($7,000 sales price $6,000 cost).

b. (3) Cash inflow from investing activities, $7,000.

3-14

EXERCISE 3-10A

Net IncomeCash Flow from

Operating Activities

Event No.Direction of Change

Amount of Change

Direction of Change

Amount of Change

a. Increase $12,000 Increase $10,000

b. Decrease 6001 Decrease 3,600

c. Decrease 6,000 No Effect

d. Decrease 4,0002 No Effect

e. Decrease 1,4003 Decrease 1,200

f. Increase 5,400 Increase 5,400

g. Decrease 2,000 Decrease 2,000

h. Increase 1,8004 Increase 2,400

i. No Effect No Effect

j. Increase 2,000 No Effect

1$3,600 x 2/12 = $6002($20,000 $4,000) 4=$4,000 depreciation expense per year.3$1,600 $200 = $1,4004$2,400 x 9/12 = $1,800

3-15

EXERCISE 3-11A

R. Ross Attorney At LawEffect of Transactions on the Financial Statements for 2002

Balance Sheet Income Statement

Assets = Liabilities + S. Equity

Rev Exp. = Net Inc.

No. Cash + Supplies

=Acct.

Payable

+Unearn. Revenu

e+

Retained

Earnings

1. 15,000 + NA = NA + 15,000 + NA NA NA =2. NA + 900 = 900 + NA + NA NA NA =3. 35,300 + NA = NA + NA + 35,300 35,300 NA = 35,3004. (21,400

)+ NA = NA + NA + (21,400

)NA 21,400 = (21,400

5. (4,000) + NA = NA + NA + (4,000) NA NA =6. (700) + NA = (700) + NA + NA NA NA =7. NA + (825) = NA + NA + (825) NA 825 = (8258. NA + NA = NA + (11,250

)*

+ 11,250 11,250 NA = 11,250

Totals

24,200 + 75 = 200 + 3,750 + 20,325 46,550 22,225 = 24,325

*$15,000 x 9/12 = $11,250

3-16

EXERCISE 3-12A

a. A cost is the value sacrificed for goods and services that

are expected to bring a current or future benefit to the

organization. A cost can be either an asset or expense.

Costs that are incurred to produce future benefits are

classified as assets. In a profit-making firm, future

benefits usually mean revenues. As costs are used up

in the production of revenues, they are said to expire.

Expired costs are called expenses. In each period,

expenses are deducted from revenues in the income

statement to determine the period’s profits. Once the

benefit has been obtained, the cost is classified as an

expense.

b.Asset Expense

(1) X (Purchased Equipment)

(2) X (Purchased Supplies)

(3) X (Used Supplies)(4) X (Purchased

Equipment)(5) X (Accrued Interest)

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EXERCISE 3-13A

Cost

Matched Directly with

Revenue

Matched with the Period Incurred

Systematically Matched

Rent Office Equipment

Land that has been sold Utilities Sales Commissions

Furniture Advertising

3-18

EXERCISE 3-14Aa.

Stotzy CorporationAccounting Equation 2007

Assets = Liab. + Stockholders’ Equity

Event CashPrepaid

Insurance = +Com.Stock +

Retained Earnings

Pur. Insurance (7,200) +7,200Adj. Ins Exp. (3,000) (3,000)Totals (7,200) 4,200 = -0- + -0- + (3,000)

*$7,200 x 10/24 = $3,000

or: Decrease:Retained Earnings (Insurance Expense) $3,000

Decrease: Prepaid Insurance$3,000

b. The required entry would decrease assets by $3,000

[($7,200 24) x 10] and decrease stockholders’ equity

by $3,000 (retained earnings). If this entry is not made,

assets and stockholders’ equity would both be

overstated on the balance sheet by $3,000. On the

income statement, expenses would be understated

causing net income to be overstated by $3,000.

3-19

EXERCISE 3-15A

Note: There are many examples of events that illustrate the required effects. An example is given of each event.

a. Recognized revenue that had been received in advance (unearned revenue).

b. Provided service for cash.

c. Recognized accrued interest expense.

d. Paid salaries expense.

3-20

EXERCISE 3-16A

Note: This exercise can be used to assess writing skills.

The tutoring fees of $600 received in advance by Jacob Huron from Kev Saia should be reported as a liability. Although the cash has been received by Jacob Huron, it has not yet been earned. Huron has an obligation to either perform the services for refund the cash advantage. When the tutoring service is provided to Kev, the unearned revenue should be recognized as revenue earned by Huron.

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SOLUTIONS TO PROBLEMS - SERIES A - CHAPTER 3

PROBLEM 3-17A

Midwest CompanyEffect of Events on the Financial Statements

Balance Sheet Income StatementAssets = Liabilities + Stock. Equity Rev. Exp.

Event Cash +

Accts Rec. + Supp

.=

Accts. Pay. +

Unearn Rev. +

Com. Stock +

Ret. Earn.

1. 8,000 + NA + NA = NA + NA + 8,000

+ NA NA NA

2. 2,000 + NA + NA = NA + NA + NA + 2,000 2,000 NA

3. NA + 10,000 + NA = NA + NA + NA + 10,000

10,000

NA

4. 7,500 + (7,500)

+ NA = NA + NA + NA + NA NA NA

5. (800) + NA + 800 = NA + NA + NA + NA NA NA

6. NA + NA + (650) = NA + NA + NA + (650) NA 6507. 3,000 + NA + NA = NA + 3,000 + NA + NA NA NA

8. NA + NA + NA = NA + (500) + NA + 500 500 NA9. (3,20

0)+ NA + NA = NA + NA + NA + (3,200

)NA 3,20

010. NA + NA + NA = 1,200 + NA + NA + (1,200

)NA 1,20

011. (1,00

0)+ NA + NA = (1,00

0)+ NA + NA + NA NA NA

12. (800) + NA + NA = NA + NA + NA + (800) NA NABal. 14,70

0+ 2,500 + 150 = 200 + 2,500 + 8,00

0+ 6,650 12,50

0 5,05

0

3-22

PROBLEM 3-18A a.

Wax MadeAccounting Equation for 2005

Assets = Liabilities + Stockholders’ EquityEvent Date.

Cash Prepaid Rent

Com. Stock Retained Earnings

3/1 50,000 NA NA 50,000 NA5/1 (48,000) 48,000 NA NA NA12/31 65,000 NA NA NA 65,00012/31 NA (32,000)* NA NA (32,000)Totals 67,000 16,000 = -0- + 50,000 33,000

*$48,000 x 8/12 = $32,000

Computation of net income:

Service Revenue $65,000

ExpensesRent Expense $32,000

Total Expenses (32,000)

Net Income $33,000

Computation of Cash Flow from Operating Activities

Cash Flows From Operating Activities:Cash Receipt from Revenue $65,000Cash Payment for Expense (48,000)

Net Cash Flow from Operating Activities $17,000

3-23

PROBLEM 3-18A b. (cont.)(For Instructor’s Use)

Copeland & AssociatesAccounting Equation for 2001

Assets = Liabilities + Stockholders’ EquityEvent Date. Cash

Unearned Revenue

Common Stock

Retained Earnings

4/1 21,000 21,000 NA NA12/31 NA (15,750)* NA 15,750Totals 21,000 = 5,250 + -0- 15,750

*$21,000 x 9/12 = $15,750

Copeland & AssociatesFinancial Statements


Income Statement

Consulting Revenue $15,750

Expenses -0-

Net Income $15,750

Statement of Changes in Stockholders’ Equity

Beginning Common Stock $ -0-Plus, Stock Issued -0-Ending Common Stock $ -0-

Beginning Retained Earnings -0-Plus, Net Income 15,750Ending Retained Earnings 15,750

Total Stockholders’ Equity $15,750

3-24

PROBLEM 3-18A b. (cont.)

Copeland & AssociatesBalance Sheet

As of December 31, 2001

AssetsCash $21,000

Total Assets $21,000

LiabilitiesUnearned Revenue $ 5,250

Total Liabilities $ 5,250

Stockholders’ EquityCommon Stock -0-Retained Earnings 15,750

Total Stockholders’ Equity 15,750

Total Liabilities and Stockholders’ Equity $21,000

Statement of Cash FlowsFor the Year Ended December 31, 2001

Cash Flows From Operating Activities:Cash Receipt from Revenue $21,000


Net Cash Flow From Investing Activities: -0-

Net Cash Flow From Financing Activities: -0-

Net Change in Cash 21,000Plus, Beginning Cash Balance -0-

Ending Cash Balance $21,000

3-25

PROBLEM 3-18A c. (cont.)

Fashion CentsAccounting Equation for 2003

Assets = Liab. + Stock. Equity Income StatementEvent Date Cash Equip.

Accum. Depr.

Comm. Stock

Retained Earnings Rev. Exp. =

1/1 35,000 NA NA NA 35,000 NA NA NA1/1 (35,000) 35,000 NA NA NA NA NA NA12/31 10,000 NA NA NA NA 10,000 10,000 NA 10,00012/31 NA NA (6,000) NA NA (6,000)* NA 6,000 (6,000Totals 10,000 35,000 (6,000) = -0- + 35,000 4,000 10,000 6,000 4,000

*($35,000 $5,000) 5 = $6,000 depreciation per year

3-26

PROBLEM 3-19A

The Accounting Equation

Total Assets = Liabilities + EquityEvent/

Adjust.Asset 1(Cash)

Asset 2 Common Stock Retained Earnings

a. (18,000) +18,000 NA NA NAa. Adj.1 NA +450 NA NA +450

b. (4,200) +4,200 NA NA NAb. Adj.2 NA (1,050) NA NA (1,050)

c. NA +2,000 +2,000 NA NAc. Adj.3 NA (1,800) NA NA (1,800)

d. (9,000) +9,000 NA NA NAd. Adj.4 NA (7,500) NA NA (7,500)

e. +10,000 NA +10,000 NA NAe. Adj.5 NA NA +900 NA (900)

f. (19,000) +19,000 NA NA NAf. Adj.6 NA (5,000) NA NA (5,000)

g. +6,000 NA +6,000 NA NAg. Adj.7 NA NA (2,500) NA 2,500

1$18,000 x 5% = $900; $900 x 6/12 = $4502$4,200 x 3/12 = $1,0503$2,000 $200 = $1,8004$9,000 x 10/12 = $7,5005$10,000 x 12% = $1,200; $1,200 x 9/12 = $9006$19,000 $4,000 = $15,000; $15,000 3 = $5,0007$6,000 x 5/12 = $2,500

3-27

PROBLEM 3-20Aa.

Nevada Drilling CompanyAccounting Equation for 2002

Assets = Liabilities

EventType of Event Cash

Accts. Rec. Supp.

Prepd.Rent Land

Office Equip.

Acc. Depr. =

Accts.Pay.

AccruedSalaries

1. AS 40,0002. AE (17,000) 17,0003. AE (8,000) 8,0004. AE (600) 6005. AS 16,0006. AU (7,200)7. AE 10,000 (10,000)8. CE 4,1009. AU (500)10. AU (3,200)*Totals 17,200 6,000 100 -0- 8,000 17,000 (3,200) = -0- 4,100


3-28

PROBLEM 3-20A a. (cont.)

Nevada Drilling CompanyAccounting Equation for 2003


EventType of Event Cash

Accts. Rec. Supp.

Prepd.Rent Land

Off. Equip.

Acc. Depr. =

Accts.Pay.

AccruedSalaries

Unearn.Revenue

Bal. 17,200 6,000 100 -0- 8,000 17,000 (3,200) -0- 4,1001. AS 6,0002. AU (4,100) (4,100)3. AE (2,100) 2,1004. AE/AU 7,500 (8,000)5. AS 4,800 4,8006. AS 1,000 1,0007. AS 12,0008. AE 13,000 (13,000)9. AU (1,000)10. AU (1,400)1

11. CE (2,00012. AU (980)13. AU (3,200)3

14. CE 4,000Totals 41,300 5,000 120 700 -0- 17,000 (6,400) = 1,000 4,000 2,800

1$2,100 x 8/12 = $1,4002$4,800 x 5/12 = $2,0003($17,000 $1,000) 5 = $3,200 depreciation per year

3-29

PROBLEM 3-20A (cont.)b.

Nevada Drilling CompanyFinancial Statements

For the Years Ended December 31, 2002 and 2003

Income Statements

2002 2003

Service Revenue $ 16,000 $ 14,000

Expenses Operating Expenses (7,200) -0-Depreciation Expense (3,200) (3,200)Supplies Expense (500) (980)Salaries Expense (4,100) (4,000)Rent Expense -0- (1,400)

Total Expenses (15,000) (9,580)Net Operating Income 1,000 4,420Less: Loss on Sale of Land -0- (500)Net Income $ 1,000 $ 3,920

Statements of Changes in Stockholders’ Equity

Beginning Common Stock $ -0- $40,000Plus: Stock Issued 40,000 6,000Ending Common Stock 40,000 46,000

Beginning Retained Earnings -0- 1,000Plus: Net Income 1,000 3,920Less: Dividends -0- (1,000)Ending Retained Earnings 1,000 3,920

Total Stockholders’ Equity $41,000 $49,920

3-30


Nevada Drilling CompanyBalance Sheets

As of December 31, 2002 and 2003

2002 2003Assets

Cash $17,200 $41,300Accounts Receivable 6,000 5,000Supplies 100 120Prepaid Rent -0- 700Land 8,000 -0-Office Equipment 17,000 17,000Less: Accum. Depreciation (3,200) (6,400)

Total Assets $45,100 $57,720

LiabilitiesAccounts Payable $ -0- $ 1,000Accrued Salaries 4,100 4,000Unearned Revenue -0- 2,800

Total Liabilities 4,100 7,800

Stockholders’ EquityCommon Stock 40,000 46,000Retained Earnings 1,000 3,920

Total Stockholders’ Equity 41,000 49,920

Total Liab. and Stockholders’ Equity $45,100 $57,720

3-31


Nevada Drilling CompanyStatements of Cash Flows


2002 2003

Cash Flows From Operating Activities:Cash Receipt from Revenue $10,000 $17,800Cash Payment for Expense (7,800) (6,200)

Net Cash Flow from Operating Activities 2,200 11,600

Cash Flows From Investing Activities:Cash Payment for Land (8,000) -0-Cash Payment for Office Equipment (17,000) -0-Cash Receipt from Sale of Land 7,500

Net Cash Flow From Investing Activities (25,000) 7,500

Cash Flows From Financing Activities:Cash Receipts from Stock Issue 40,000 6,000Cash Payment for Dividends -0- (1,000)

Net Cash Flow From Financing Activities 40,000 5,000

Net Change in Cash 17,200 24,100Plus: Beginning Cash Balance -0- 17,200Ending Cash Balance $17,200 $41,300

3-32

PROBLEM 3-21A (Prepared for Instructor's Use)

Accounting EquationAssets Liabilities

Date Cash Acc Rec Pp. Rent

Supp. CD Int Rec

Van Acc Depr.

Land Acc Pay.

Sal. Pay.

Note Pay.

Int Pay.

Bal. 70,000 41,000 40,000 44,0001/1 10,0001/1 (18,000) 18,0003/1 8,000 8,0005/1 (3,900) 3,9006/1 (1,000)7/1 (16,000) 16,0008/1 (7,000) (7,000)9/1 5,6009/30 17,000 (20,000)10/1 1,500 1,50011/1 (10,000) 10,00012/31 45,00012/31 47,000 (47,000)12/31 6,00012/31 2,00012/31 (1,400)12/31a (5,000)1

12/31a 8002

12/31a (2,600)3

12/31a12/31a 1005

Bal. 101,700 39,000 1,300 100 10,000 100 18,000 (5,000) 36,000 44,500 2,000 8,000 800

(1) 12/31a Depreciation Expense ($18,000 $3,000 = $15,000; $15,000 3 = $5,000 per year.(2) 12/31a Interest Expense ($8,000 x 12% = $960; $960 x 10/12 = $800)(3) 12/31a Expired Rent ($3,900 x 8/12 = $2,600)(4) 12/31a Unearned Revenue Earned ($5,600 x 4/8 = $2,800)(5) 12/31a Interest Earned ($10,000 x 6% = $600; $600 x 2/12 = $100)

3-33

PROBLEM 3-21A (cont.)

a. The five transactions that need adjusting entries are as follows:1. Jan. 1, purchase of delivery van.2. March 1, note payable issued.3. May 1, prepaid rent.4. Sept. 1, unearned revenue; cash was received in advance.5. Nov. 1, purchase of CD.

b. $8,000 X 12% X 10/12=$800

c. $47,000 + $5,600 $3,900 $7,000 = $41,700

d. $3,900 X 8/12 = $2,600

e. $58,100 (see total of liabilities columns above; $44,500 + $2,000 + $8,000 + $800 + $2,800).

f. $1,500 $100 = $1,400

g. $2,800=$5,600 $2,800

h. $(27,000) = [$(18,000)+$(16,000)+$17,000+$(10,000)]

i. $8,000 x 12% x 10/12 = $800

j. Total expenses, $17,800 ($2,000+$6,000+$1,400+$2,600+$5,000+$800)

k. Ending retained earnings $53,100 (Beg. RE $27,000 + NI $27,100 Dist. $1,000)

l. Total revenue $47,900=$45,000+$2,800 + $100

m. $17,000=$10,000+$8,000 $1,000

n. ($3,000)= $17,000 $20,000

o. $27,100 = (l) $47,900 (j) $17,800 (n) $3,000

3-33

PROBLEM 3-22AHighpoint CompanyFinancial Statements

For the Year Ended 2005

Income Statement

RevenueService Revenue $50,000

Total Revenue $50,000

ExpensesOperating Expenses 10,000Supplies Expense 850Depreciation Expense 2,000Insurance Expense 1,500


Net Income $35,650


Beginning Common Stock $ 6,500Plus: Stock Issued 28,000Ending Common Stock $34,500

Beginning Retained Earnings 12,000Plus: Net Income 35,650Less: Dividends (2,500)Ending Retained Earnings 45,150

Total Stockholders’ Equity $79,650

3-34


Highpoint CompanyBalance Sheet

As of the December 31, 2005

AssetsCash $30,000Accounts Receivable 18,000Supplies 150Prepaid Insurance 6,000Office Equipment $28,000Less: Accum. Depreciation (11,500) 16,500Land 12,000


LiabilitiesAccounts Payable $ 3,000


Stockholders’ EquityCommon Stock 34,500Retained Earnings 45,150


Total Liab. and Stockholders’ Equity $82,650

3-35


Highpoint CompanyStatement of Cash Flows


Cash Flow From Operating Activities $15,000

Cash Flow From Investing Activities (20,000)

Cash Flow From Financing Activities 5,500

Net Change in Cash 500Plus: Beginning Cash Balance 29,500*Ending Cash Balance $30,000

*Not given in the problem. Ending Cash Bal. Increase in cash = Beg. Cash Balance $30,000 $500 = $29,500

3-36

PROBLEM 3-23A

Item/Account Statement Item/Account Statement

a. Total Assets BS t. Interest Receivable BSb. Consulting Rev. IS u. Salary Expense ISc. Depreciation Exp. IS v. Notes Receivable BSd. Supplies Expense IS w. Unearned Revenue BSe. Salaries Payable BS x. Cash Flow from

Investing ActivitiesCF

f. Notes Payable BS y. Insurance Expense ISg. Ending Common Stock BS,SE z. End. Retained Earn. SE,BSh. Interest Payable BS aa. Accumulated Depr. BSi. Office Equipment BS bb. Supplies BSj. Interest Revenue IS cc. Beg. Retained Earn. SEk. Land BS dd. Certificate of Deposit BSl. Operating Expenses IS ee Cash Flow from

Financing ActivitiesCF

m. Total Liabilities BS ff. Accounts Receivable BSn. Debt-to-Equity Ratio NA gg. Prepaid Insurance BSo. Salaries Expense IS hh. Cash BS/CFp. Net Income IS/SE ii. Interest Expense ISq. Service Revenue IS jj. Accounts Payable BSr. Cash Flow from

Operating Activities CF kk. Beg. Common Stock SE

s. Return-on-Assets NA ll. Dividends SE,CF

3-37

PROBLEM 3-24AFor the instructor’s use.

Computation of income statement and cash flow amounts:1. Beginning Accounts Receivable $ 45,000

Add: Services provided on account (IS) 128,000Less: Accounts Receivable ending balance

(28,000)

Cash collected, 2004 (CF) $145,000

2. Unearned revenue 3/1; (for 24 months) (CF)

$21,000

Income earned (10 months) (IS) (8,750)Unearned Revenue, 12/31/2004 $12,250

3. Interest earned on Certificate of Deposit:$30,000 x .15 x 4/12 (IS) $1,500

4. Depreciation Expense, 2004 (IS) $18,000

5. Salaries Expense, 2004 (IS) $25,000Less, increase in Salaries Payable (3,500)Salaries paid, 2004 (CF) $21,500

6. Operating expense accrued and paid (IS/CF)

$70,000

3-38

PROBLEM 3-24A (cont.)a.

Cornell CorporationIncome Statement


RevenueService Revenue $136,750Interest Revenue 1,500


ExpensesOperating Expenses 70,000Salaries Expense 25,000Depreciation Expense 18,000


Net Income $ 25,250

b.Cornell Corporation

Cash Flows From Operating Activities:Cash Receipts from Revenue $145,000Cash Received from Unearned Rev. 21,000Cash Paid for Salaries (21,500)Cash Payments for Operating Expenses (70,000)


3-39

PROBLEM 3-25A

Note: This exercise can be used to evaluate both writing and thinking skills. The student must understand the differences in risk in order to write an answer.

a. Investment: Earnings ÷ Total Assets = Percent

Everhart $11,220 ÷ $185,000 = 6.1%Harrison $ 900 ÷ $ 20,000 = 4.5%

b. Everhart’s investment in a small business produced a higher return than Harrison’s deposit at the bank, but bank deposits carry much less risk than running a small business. A business can have a high return one year, and a very low return the next year due to a weak economy or a new competitor. Running a business also requires management skills; the bank deposit does not.

3-40

SOLUTIONS TO EXERCISES - SERIES B - CHAPTER 3

EXERCISE 3-1B

a. The business invested cash by purchasing a building.

Collected accounts receivable.

b. Purchased land with a note.

Purchased supplies on account.

c. Paid accounts payable.

Paid notes payable.

d. Paid a cash dividend to owners.

Paid an expense with cash.

e. Recorded accrued salaries.

Recorded accrued interest expense.

f. The owners invested cash in the business.

Cash revenue is earned.

g. Unearned revenue is earned and recognized.

3-41

EXERCISE 3-2B

a. neither

b. deferral

c. accrual

d. accrual

e. neither

f. deferral

g. deferral

h. accrual

i. accrual

j. deferral

3-42

EXERCISE 3-3B

a.Even


Cash Equipment

Accumulated Depreciation

Common Stock +

Retained Earnings

1. (12,400)

12,400

Adj. (2,750)* (2,750)

*$12,400 $1,400 = $11,000; $11,000 4 = $2,750

b.Even


CashPrepaid

Rent= Common


1. (15,000)

15,000

Adj. (3,750)* (3,750)

*$15,000 x 3/12 = $3,750

c.Even

tAssets = Liabilities + Stockholders’ Equity

Cash Unearned Revenue

Common Stock

Retained Earnings

1. 50,000 50,000Adj. (12,500)* 12,500

*$50,000 x 2/8 = $12,500

3-43

EXERCISE 3-4B

Horizontal Statement Model

Stk. Equity Income Statement

Type of

Com. Ret. Net Cash

Event

Event Assets

= Liab. + Stock

+ Earn.

Rev.

Exp.

= Inc. Flows

a. AE I/D NA NA NA NA NA NA D IAb. AS I NA I NA NA NA NA I FAc. AU D D NA NA NA NA NA D OAd. AS I I NA NA NA NA NA I OAe. AE I/D NA NA NA NA NA NA I OAf. AU D NA NA D NA I D D OAg. CE NA I NA D NA I D NAh. AE I/D NA NA NA NA NA NA D IAi. AS I NA NA I I NA I NAj. AE I/D NA NA NA NA NA NA D OAk. AU D NA NA D NA I D NAl. AS I NA NA I I NA I I OAm. AE/AS I I NA NA NA NA NA D IAn. AU D D NA NA NA NA NA D OAo. AU D NA NA D NA NA NA D FAp. AU D NA NA D NA I D NAq. CE NA I NA D NA I D NA

3-44

EXERCISE 3-5Ba.

Belview Consulting ServicesEffect of Events on the Accounting Equation


Event CashPrepaid

Rent =Common

StockRetained Earnings

1. Acq. Stock 25,000 25,0002. Prepaid Rent (18,000) 18,0003. Provided Service

28,000 28,000

4. Used Rent (13,500)* (13,500)Totals 35,000 4,500 = 25,000 14,500

*$18,000 x 9/12 = $13,500

b.

Belview Consulting ServicesBalance Sheet


AssetsCash $35,000Prepaid Rent 4,500


Liabilities $ -0-

Stockholders’ EquityCommon Stock $25,000Retained Earnings 14,500


Total Liabilities and Stockholders’ Equity

$39,500

c. Rent Expense: $13,500

3-45

EXERCISE 3-5B (cont.)

d.Cash Flow From Operating Activities:

Cash Revenue $28,000Paid Rent (18,000)

Net Cash Flow from Operating Activities

$10,000

3-46

EXERCISE 3-6Ba.

A & I ExpressEffect of Events on Financial Statements for 2003

Assets = Liab. Stockholders’ Equity

Income Statement

Event No. Cash Supplie

s=

Accts.Pay. +

Com.Stock

Ret. Earn. Rev. Exp. =

Net Incom

e

Beg. Bal

2,000 -0- -0- 1,200 800

1. NA 2,400 2,400 NA NA NA NA NA2. 10,800 NA NA NA 10,800 10,800 NA 10,800

3. (1,800)

NA (1,800) NA NA NA NA NA

4. NA (2,200) NA NA (2,200) NA 2,200 (2,200)

Totals 11,000 200 600 1,200 9,400 10,800 2,200 8,600

b. The difference in net income and cash flow from operating activities of $400 ($8,600 $9,000) is attributed to recognizing supplies expense of $2,200 in the income statement, whereas the cash payment on accounts payable (for supplies) was only $1,800.

3-47

EXERCISE 3-7Ba.

Papa’s Deli DelightAccounting Equation for 2006


Event Cash StoveAccum. Depr. =

Com.Stock +

RetainedEarnings

1. Acq. Cap. 30,000 30,0002. Pur. Oven (22,000) 22,0003. Rev. 21,000 21,0004. Paid Exp. (4,000) (4,000)5. Depr. Exp.

(5,250)* (5,250)

Totals 25,000 22,000 (5,250) = 30,000 + 11,750

*(22,000 $1,000) 4=$5,250 depreciation per year

Papa’s Deli Delight Balance Sheet


AssetsCash $25,000Stove $22,000Less: Accum. Depreciation (5,250) 16,750


Liabilities $ -0-

Stockholders’ EquityCommon Stock $30,000Retained Earnings 11,750


Total Liab. and Stockholders’ Equity

$41,750

3-48

EXERCISE 3-7B b. (cont.)

Papa’s Deli DelightStatement of Cash Flows


Cash Flows From Operating Activities:

Cash Receipt from Revenue $21,000Cash Payment for Salaries (4,000)


$17,000

Cash Flows From Investing Activities:

Cash Outflow for Stove (22,000)

Net Cash Flow from Investing Activities

(22,000)

Cash Flows From Financing Activities:

Cash Receipts from Issue of Stock 30,000Net Cash Flow from Financing Activities

30,000

Net Change in Cash 25,000Plus: Beginning Cash Balance -0-Ending Cash Balance $25,00

0

c. Net Income: $11,750 (see the Retained Earnings column above. There were no dividends paid.)

d. Depreciation expense for 2007: $5,250 (see computation above; same as 2006)

e. Accumulated Depreciation on December 31, 2007:$10,500 ($5,250 for 2006 + $5,250 for 2007)

3-49

f. No, depreciation is a non-cash expense. Depreciation is the systematic allocation of the cost of an asset to expense. The cash payment occurred when the stove was purchased.

3-50

EXERCISE 3-8Ba.

Holder Personal Financial PlanningHorizontal Statements Model for 2003


+ Stk. Equity

Event Cash =Unearne

d Revenue

+RetainedEarnings Rev. Exp. =

Net Income

1. Advance Payment

30,000 30,000 NA NA NA

2. Revenue Earned

(22,500)*

22,500 22,500

NA 22,500

Totals 30,000 = 7,500 22,500 22,500

22,500

*$30,000 x 9/12 = $22,500

b. Revenue that will be recognized in 2004 is $7,500, the remainder of the unearned revenue.

c. $-0-, no cash is received. All cash was received in 2003.

3-51

EXERCISE 3-9B

Mega Enterprises2004 Accounting Equation


Event Cash Land =Common


a.1 +15,000(16,000)= (1,000)

Cash LandCommon

StockRetained Earnings

b.1 +18,000(16,000)= +2,000

a. (1) See above.

a. (2) Loss of $1,000 ($15,000 sales price $16,000 cost).

a. (3) Cash inflow from investing activities, $15,000.

b. (1) See above.

b. (2) Gain of $2,000 ($18,000 sales price $16,000 cost).

b. (3) Cash inflow from investing activities, $18,000.

3-52

EXERCISE 3-10B

Net IncomeCash Flow from

Operating Activities

Event No.Direction of Change

Amount of Change

Direction of Change

Amount of Change

a. Decrease $1,000 Decrease $6,000

b. Decrease 9001 Decrease $700

c. Decrease 7,5002 No Effect

d. Increase 8,000 Increase 8,000

e. Increase 1,2003 Increase 1,800

f. Decrease 3,200 No Effect

g. Increase 2,500 No Effect

h. No Effect No Effect

i. Increase 8,000 Increase 5,000

j. Decrease 3,000 Decrease 3,000

1$1,000 $100 = $9002($36,000 $6,000) 4=$7,500 depreciation expense per year3$1,800 x 8/12 = $1,200

3-53

EXERCISE 3-11B

Moody Attorney At LawEffect of Transactions on the Financial Statements for 2001

Balance Sheet Income Statement

Assets = Liabilities + S. Equity

Rev Exp. = Net Inc.

No. Cash + Supplies

=Accts. Payabl

e+

Unearn. Rev. +

Retained

Earnings

1. 24,000 + NA = NA + 24,000 + NA NA NA =2. 29,000 + NA = NA + NA + 29,000 29,000 NA = 29,0003. NA + 1,400 = 1,400 + NA + NA NA NA =4. (1,000) + NA = (1,000) + NA + NA NA NA =5. (5,000) + NA = NA + NA + (5,000) NA NA =6. (16,200

)+ NA = NA + NA + (16,200

)NA 16,200 = (16,200

7. NA + (1,250) = NA + NA + (1,250) NA 1,250 = (1,2508. NA + NA = NA + (18,000

)*

+ 18,000 18,000 NA = 18,000

Totals

30,800 + 150 = 400 + 6,000 + 24,550 47,000 17,450 = 29,550

*$24,000 x 9/12 = $18,000

3-54

EXERCISE 3-12B

a. A cost that is an asset is the cost of resources that are

given up in acquiring some type of asset, such as an

automobile, office equipment, or land. A cost that is an

expense is the use of assets (depreciation) or the

payment for an expense that is incurred in the current

period (utilities, salaries, etc.)

b. Examples of costs that are assets:1. Purchased land2. Purchased equipment3. Purchased supplies for future use.

c. Examples of costs that are expenses:1. Paid monthly salary expense.2. Paid monthly utilities expense.3. Used supplies that had been previously

purchased.

3-55

EXERCISE 3-13B

Cost

Matched Directly

with Revenue

Matched with the Period

Incurred

Systematically

MatchedDelivery Van Office Manager’s salary

Office supplies Insurance Office Building Loss on sale of warehouse

Sales commissions

3-56

EXERCISE 3-14Ba.

Black CorporationAccounting Equation 2007

Assets = Liab. + Stockholders’ Equity

Event CashPrepaidInsuranc

e= +

Com.Stock +

Retained

Earnings

Paid rent in advance (9,000) +9,000Adj. Rent exp.

(6,000) (6,000)

Totals (9,000) 3,000 = -0- + -0- + (6,000)

*$9,000 x 8/12 = $6,000

or: Decrease:Retained Earnings (Rent Expense)$6,000

Decrease: Prepaid Rent$6,000

b. The required entry would decrease assets by $6,000

[($9,000 12) x 8] and decrease stockholders’ equity by

$6,000 (retained earnings). If this entry is not made,

assets and stockholders’ equity would both be

overstated on the balance sheet by $6,000. On the

income statement, expenses would be understated

causing net income to be overstated by $6,000.

3-57

EXERCISE 3-15B

Note: There are many examples of events that illustrate the required effects. An example is given of each event.

a. Recognized revenue on account.

b. Recognized revenue that had been received in advance.

c. Recognized an expense on account.

d. Paid utilities expense.

3-58

EXERCISE 3-16B

Note: This exercise can be used to assess writing skills.

The fee that Matlock receives in advance is a liability at the time of receipt. Matlock has the duty to either perform the service or return the money received in advance. When Matlock performs the service, the liability will be satisfied and the revenue will be recognized.

3-59

PROBLEM 3-17B

Ice LandEffect of Events on the Financial Statements

Balance Sheet Income StatementAssets = Liabilities + Stkholders’

EquityRev. Exp.

Event Cash +

Accts Rec. +

Pp. Rent =

Accts. Pay. +

Unearn Rev. +

Com. Stock +

Ret. Earn.

1. 8,000 + NA + NA = NA + NA + 8,000 + NA NA NA2. NA + 9,000 + NA = NA + NA + NA + 9,000 9,000 NA3. 3,000 + NA + NA = NA + NA + NA + 3,000 3,000 NA

4. 2,500 + NA + NA = NA + 2,500 + NA + NA NA NA

5. 5,600 + (5,600)

+ NA = NA + NA + NA + NA NA NA

6. (1,100)

+ NA + NA = NA + NA + NA + (1,100)

NA 1,100

7. NA + NA + NA = NA + (1,400)

+ NA + 1,400 1,400 NA

8. NA + NA + NA = 2,800 + NA + NA + (2,800)

NA 2,800

9. (2,400)

+ NA + 2,400 = NA + NA + NA + NA NA NA

10. (2,200)

+ NA + NA = (2,200)

+ NA + NA + NA NA NA

11. (1,500)

+ NA + NA = NA + NA + NA + (1,500)

NA NA

12. NA + NA + (1,800)*

= NA + NA + NA + (1,800)

NA 1,800

Bal. 11,900

+ 3,400 + 600 = 600 + 1,100 + 8,000 + 6,200 13,400

5,700

*$2,400 x 9/12 = $1,800

3-60

PROBLEM 3-18B a.

Oliver CompanyAccounting Equation for 2006


+ Stockholders’ Equity

Event Date. Cash

Prepaid Rent

Common Stock

Retained

Earnings

2/1 10,000 NA NA 10,000 NA6/1 (2,400) 2,400 NA NA NA12/31 5,200 NA NA NA 5,20012/31 NA (1,400)* NA NA (1,400)Totals 12,800 1,000 = -0- + 10,000 3,800

*$2,400 x 7/12 = $1,400

Computation of Net Income:

Service Revenue $5,200

ExpensesRent Expense $1,400


Net Income $3,800

Computation of Cash Flows from Operating Activities:


Cash Receipt from Revenue $5,200Cash Payment for Expense (2,400)


$2,800

3-61

PROBLEM 3-18B b. (cont.)(For Instructor’s Use)

Cooper & AssociatesAccounting Equation for 2005

Assets = Liabilities + Stockholders’ EquityEvent Date. Cash

Unearned Revenue

Common Stock

Retained Earnings

9/1 12,000 12,000 NA NA12/31 NA (4,000)* NA 4,000Totals 12,000 = 8,000 + -0- 4,000

*$12,000 x 4/12 = $4,000

Cooper & AssociatesFinancial Statements


Income Statement

Consulting Revenue $4,000

Expenses -0-

Net Income $4,000


Beginning Common Stock

$ -0-

Plus, Stock Issued -0-Ending Common Stock $ -0-

Beginning Retained Earnings

-0-

Plus, Net Income 4,000Ending Retained Earnings

4,000

Total Stockholders’ Equity

$4,000

3-63

PROBLEM 3-18B b. (cont.)

Cooper & AssociatesBalance Sheet


AssetsCash $12,000


LiabilitiesUnearned Revenue $ 8,000


Stockholders’ EquityCommon Stock -0-Retained Earnings 4,000



$12,000

Statement of Cash FlowsFor the Year Ended December 31, 2005


Cash Receipt from Revenue $12,000Net Cash Flow from Operating Activities

$12,000

Net Cash Flow From Investing Activities:

-0-

Net Cash Flow From Financing Activities:

-0-

Net Change in Cash 12,000Plus, Beginning Cash Balance -0-

Ending Cash Balance $12,000

3-65

PROBLEM 3-18B c. (cont.)

Eagle CompanyAccounting Equation for 2004

Assets = Liab. + Stkholders’ Equity Income StatementEvent Date

Cash Equip. Accum. Depr.

Comm. Stock

Retained Earnings Rev. Exp. =

1/1 10,000 NA NA NA 10,000 NA NA NA1/1 (10,000) 10,000 NA NA NA NA NA NA12/31 5,200 NA NA NA NA 5,200 5,200 NA 5,20012/31 NA NA (2,000) NA NA (2,000)* NA 2,000 (2,000Totals 5,200 10,000 (2,000) = -0- + 10,000 3,200 5,200 2,000 3,200


3-66

PROBLEM 3-19B

The Accounting Equation

Total Assets = Liabilities

+ Stockholders’ Equity

Event/Adjust.

Asset 1(Cash)

Asset 2 Common Stock

Retained

Earnings

a. (3,600) +3,600 NA NA NAa. Adj. NA (900)1 NA NA (900)

b. +20,000 NA +20,000 NA NAb. Adj. NA NA +1,3502 NA (1,350)

c. (19,000) +19,000 NA NA NAc. Adj. NA (3,750)3 NA NA (3,750)

d. +1,800 NA 1,800 NA NAd. Adj. NA NA (1,350)4 NA +1,350

e. NA +800 +800 NA NAe. Adj. NA (660)5 NA NA (660)

f. (8,000) +8,000 NA NA NAf. Adj. NA +3206 NA NA +320

g. (7,200) +7,200 NA NA NAg. Adj. NA (3,000)7 NA NA (3,000)

1$3,600 x 3/12 = $9002$20,000 x 9% = $1,800; $1,800 x 9/12 = $1,3503$19,000 $4,000 = $15,000; $15,000 4 = $3,7504$1,800 x 9/12 = $1,3505$800 $140 = $6606$8,000 x 6% = $480; $480 x 8/12 = $3207$7,200 x 5/12 = $3,000

3-67

PROBLEM 3-20Ba.

Great Plains CompanyAccounting Equation for 2005

Assets = LiabilitiesEven

tType

of Event

CashAccts. Rec. Supp.

Prepd.

RentLand

Com. Equip.

Acc. Depr. =

Accts.Pay.

Accrued

Salaries

Unear

1. AS 25,000

2. AE (6,000) 6,0003. AE

(12,000)

12,000

4. AE (500) 5005. AS 9,0006. AU (2,400)7. AE 7,000 (7,000)8. CE 3,2009. AU (400)10. AU

(1,000)*

Totals

11,100 2,000 100 -0-12,000

6,000 (1,000) = -0- 3,200


3-68

PROBLEM 3-20B a. (cont.)

Great Plains CompanyAccounting Equation for 2006

Assets = LiabilitiesEven

tType

of Event

CashAccts. Rec. Supp.

Prepd.Rent Land

Off. Equip

.

Acc. Depr. =

Accts.

Pay.

Accrued

Salaries

Unear

Rev.

Bal.11,100

2,000 100 -0- 12,000 6,000(1,000)

-0- 3,200

1. AS12,000

2. AU(3,200)

(3,200)

3. AE(6,000)

6,000

4. AE/AS18,000

(12,000)

5. AS 8,400 8,4006. AS 2,000

2,000

7. AS 11,0008. AE 9,000 (9,000)9. AU

(2,000)

10. AU(5,500)1

11. CE(2,100)

12. AU(1,900)3

13. AU(1,000

3-69

)4

14. CE 6,000

Totals 47,30

0

4,000 200 500 -0- 6,000(2,000)

=2,000

6,000 6,300

1$6,000 x 11/12 = $5,5002$8,400 x 3/12 = $2,1003$100 + $2,000 $200 = $1,9004($6,000 $2,000) 4 = $1,000 depreciation per year

3-70

PROBLEM 3-20B (cont.)b.

Great Plains CompanyFinancial Statements


Income Statements

2005 2006

Service Revenue $9,000 $ 13,100

Expenses Operating Expenses (2,400) -0-Depreciation Expense (1,000) (1,000)Supplies Expense (400) (1,900)Salaries Expense (3,200) (6,000)Rent Expense -0- (5,500)

Total Expenses (7,000) (14,400)Net Operating Income (Loss)

2,000 (1,300)

Plus: Gain on Sale of Land

-0- 6,000

Net Income $2,000 $ 4,700

Statements of Changes in Stockholders’ Equity

Beginning Common Stock

$ -0- $25,000

Plus, Stock Issued 25,000 12,000Ending Common Stock 25,000 37,000


-0- 2,000

Plus, Net Income 2,000 4,700Less, Dividends -0- (2,000)Ending Retained Earnings

2,000 4,700


$27,000 $41,700

3-71


Great Plains CompanyBalance Sheets

As of December 31, 2005 and 2006

2005 2006Assets

Cash $11,100 $47,300Accounts Receivable 2,000 4,000Supplies 100 200Prepaid Rent -0- 500Land 12,000 -0-Communication

Equipment6,000 6,000

Less: Accum. Depreciation

(1,000) (2,000)

Total Assets $30,200 $56,000

LiabilitiesAccounts Payable $ -0- $ 2,000Accrued Salaries 3,200 6,000Unearned Revenue -0- 6,300

Total Liabilities 3,200 14,300

Stockholders’ EquityCommon Stock 25,000 37,000Retained Earnings 2,000 4,700


27,000 41,700

Total Liab. and Stock. Equity

$30,200 $56,000

3-73


Great Plains CompanyStatements of Cash Flows


2005 2006


Cash Receipt from Revenue $7,000 $17,400Cash Payment for Expense (2,900) (9,200)


4,100 8,200

Cash Flows From Investing Activities:

Cash Payment for Land (12,000) -0-Cash Payment for Comm.

Equipment(6,000) -0-

Cash Receipt from Sale of Land 18,000Net Cash Flow From Investing Activities

(18,000) 18,000

Cash Flows From Financing Activities:

Cash Receipts from Stock Issue 25,000 12,000Cash Payment for Dividends -0- (2,000)

Net Cash Flow From Financing Activities

25,000 10,000

Net Change in Cash 11,100 36,200Plus: Beginning Cash Balance -0- 11,100Ending Cash Balance $11,100 $47,300

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PROBLEM 3-21B Accounting Equation (Prepared for Instructor's Use)

Accounting EquationAssets Liabilities

Date Cash Acc RecPp.

Rent Supp. CDInt

Rec TruckAcc

Depr. LandAcc Pay.

Sal. Pay.

Note Pay.

Int Pay.

Bal. 23,000 7,000 42,000 5,0001/1 12,0001/1 (22,000) 22,0002/1 10,000 10,0002/1 (3,000) 3,0003/1 (1,000)4/1 (28,000) 28,0005/1 (2,000) (2,000)7/1 5,4009/1 60,000 (42,000)10/1 3,000 3,00011/1 (50,000) 50,00012/31 35,00012/31 40,000 (40,000)12/31 6,00012/31 4,80012/31 (2,950)12/31a (5,000)1

12/31a 8252

12/31a (2,750)3

12/31a12/31a 5005

Bal. 44,400 2,000 250 50 50,000 500 22,000 (5,000) 28,000 12,000 4,800 10,000 825

(1) 12/31a Depreciation Expense $22,000 $2,000 = $20,000; $20,000 4 = $5,000(2) 12/31a Interest Expense $10,000 x 9% = $900; $900 x 11/12 = $825(3) 12/31a Expired Rent $3,000 x 11/12 = $2,750(4) 12/31a Unearned Revenue earned $5,400 x 6/12 = $2,700(5) 12/31a Interest Earned $50,000 x 6% = $3,000; $3,000 x 2/12 = $500

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PROBLEM 3-21B (cont.)

a. The five transactions that need adjusting entries are as follows:1. Jan. 1, purchase of truck.2. Feb. 1, note payable issued.3. Feb. 1, prepaid rent.4. July 1, unearned revenue; cash was received in

advance.5. Nov. 1, purchase of CD.

b. $10,000 X 9% X 11/12=$825

c. $40,000 + $5,400 $3,000 $2,000 = $40,400

d. $3,000 X 11/12 = $2,750

e. $12,000 + $4,800 + $10,000 + $2,700 + 825 = $30,325

f. $3,000 $50 = $2,950

g. $5,400 $2,700 = $2,700

h. ($22,000) +($28,000) + $60,000+ ($50,000) = ($40,000)

i. $10,000 x 9% x 11/12 = $825

j. Total expenses, $22,325 ($6,000+$4,800+$2,950+$2,750+$5,000+$825)

k. Ending retained earnings $75,875 (Beg. RE $43,000 + NI $33,875 Div. $1,000)

l. Total revenue $38,200=$35,000+$2,700 + $500

m. $21,000=$10,000+$12,000 $1,000

n. $60,000 $42,000 = $18,000

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o. $33,875 = (l) $38,200 (j) $22,325 + (n) $18,000

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PROBLEM 3-22B

Johnson CompanyFinancial Statements

For the Year Ended December 31, 20--

Income Statement



ExpensesOperating Expenses 35,000Supplies Expense 750Depreciation Expense 1,500Insurance Expense 1,800


Net Income $ 6,400


Beginning Common Stock $24,000Plus: Stock Issued 6,000Ending Common Stock $30,000


14,500

Plus: Net Income 6,400Less: Dividends (6,000)Ending Retained Earnings 14,900


$44,900

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Johnson CompanyBalance Sheet

As of December 31, 20--

AssetsCash $ 9,000Accounts Receivable 7,000Supplies 300Prepaid Insurance 600Office Equipment $16,000Less: Accum. Depreciation (8,000) 8,000Land 36,000


LiabilitiesAccounts Payable $16,000

Total Liabilities $16,000




$60,900

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Johnson CompanyStatement of Cash Flows

For the Year Ending December 31, 20--

Cash Flow From Operating Activities $10,450

Cash Flow From Investing Activities (7,800)

Cash Flow From Financing Activities -0-

Net Change in Cash 2,650Plus: Beginning Cash Balance 6,350*Ending Cash Balance $9,000

*Not given in the problem.

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PROBLEM 3-23B

Item/Account Statement

Item/Account Statement

a. Depreciation Exp. IS t. Cash BS/CFb. Interest Receivable

BS u. Supplies BS

c. Certificate of Deposit

BS v. Cash Flow fromFinancing Act.

CF

d. Unearned Revenue

BS w. Interest Revenue IS

e. Service Revenue IS x. End Retained Earn.

BS/SE

f. Cash Flow from Investing

Activities

CF y. Net Income IS/SE

g. Consulting Revenue

IS z. Dividends SE/CF

h. Interest Expense IS aa.Equipment

BS

i. End. Common Stock

BS/SE bb.Ratio

NA

j. Total Liabilities BS cc.Land BSk. Debt-to-Asset Ratio

NA dd. BS

l. Cash Flow fromOperating

Activities

CF ee. IS

m.Expenses

IS ff. Notes Receivable BS

n. Supplies Expense IS gg.Payable

BS

o. Beg. Retained Earn.

SE hh. BS

p. Beg. Common Stock

SE ii. Salaries Payable BS

q. Prepaid Insurance BS jj. Insurance Expense

IS

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r. Salary Expense IS kk. BSs. Accumulated Depr.

BS ll. Accounts Rec. BS

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PROBLEM 3-24B a.Not Required.

Deluxe Technology CompanyAccounting Equation

Assets Liabilities Stockholders’ EquityCash Computers Acct. Pay. Com.

StockRet.

EarningsBal. 6,500 Bal. 35,000 Bal. 10,000 Bal

.15,000 Bal. 22,150

Coll. 84,000 Chg.

38,600 Inv.

10,000

Rent (5,000) Pd.

(34,000)

Bal.

25,000 Dividends

Sup. (1,000) Acc. Depr. Bal. 14,600 12/31

(700)

Exp.

(34,000)

Bal. (7,000)

Stk. 10,000 12/31

(3,500) Svc. Revenue

Div. (700) Bal. (10,500) 12/31

93,000

Bal. 59,800Rent

Expense12/31

(6,000)

Acct. Rec.Bal. 8,000 Supp.

ExpenseRev. 93,000 12/3

1(1,100)

Coll.

(84,000)

Bal. 17,000Depr.

Expense

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Supplies 12/31

(3,500)

Bal. 150Pur. 1,000Exp. (1,100) Oper.

ExpenseBal. 50 12/3

1 (38,600)

Prepaid RentBal. 4,500Pd. 5,000Exp. (6,000)Bal. 3,500

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PROBLEM 3-24B a. (cont.)

Beginning Retained Earnings: $22,150($6,500 + $8,000 + $4,500 + $150 + $35,000 $7,000 $10,000 $15,000)

b.

Deluxe Technology CompanyIncome Statement




ExpensesOperating Expenses 38,600 Supplies Expense 1,100Depreciation Expense 3,500Rent Expense 6,000


Net Income $43,800

Deluxe Technology CompanyStatement of Changes in Stockholders’ Equity


Beginning Common Stock $15,000Plus: Stock Issued 10,000Ending Common Stock $25,000


22,150

Plus: Net Income 43,800Less: Dividends (700)Ending Retained Earnings 65,250

Total Stockholders’ $90,250

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Equity


Deluxe Technology CompanyBalance Sheet

As of December 31, 20--

AssetsCash $59,800Accounts Receivable 17,000Supplies 50Prepaid Rent 3,500Office Equipment $35,000Less: Accum. Depreciation (10,500) 24,500


LiabilitiesAccounts Payable $14,600

Total Liabilities $14,600




$104,850

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Deluxe Technology CompanyStatement of Cash Flows


Cash Flows from Operating Activities:

Cash Receipts from Revenue $84,000Cash Payments for Expenses (40,000)


$44,000

Net Cash Flow from Investing Activities

-0-

Cash Flows from Financing Activities:Cash Receipts from Stock Issue 10,000Cash Payments for Dividends (700)

Net Cash Flow from Financing Activities

9,300

Net Change in Cash 53,300Plus Beginning Cash Balance 6,500Ending Cash Balances $59,800

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PROBLEM 3-25B

Note: This exercise can be used to evaluate both writing and thinking skills. The student must understand the difference between retained earnings and cash in order to write an answer.

Marty’s assessment of his father’s cash position is

invalid. Retained earnings is the net income

accumulated over the life of the business and

retained in the business and not distributed to the

owners.

Marty can gain more information about his father’s

cash position by observing the balance of the cash

account on the balance sheet and by examining the

statement of cash flows.

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ATC 3-1

Financial Statement Analysis

a. Debt-to-assets: $7,813 ÷ $13,435 = 58.2%

b. Return-on-assets: $2,177 ÷ $13,435 = 16.2%

c. Return-on-equity: $2,177 ÷ $5,622 = 38.7%

d. Dell’s return on equity is more than double its return on assets due to financial leverage.

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ATC 3-2

a.1Compute the amount of season ticket sales:

2003 2004 2005

Deferred revenue, 12/31 (4 months)

$127,000 $249,000 $275,000

Season ticket sales revenue earned, 12/31

127,000 249,000 275,000

Total season ticket sales $254,000 $498,000 $550,000

2.Compute the amount of door sales:

2003 2004 2005

Total Revenue $450,000 $575,000 $625,000Less, previous year deferred revenue earned -0- (127,000

)(249,000

)Less, current year season ticket sales earned (127,000

)(249,000

)(275,000

)Door sales $323,000 $199,000 $101,000

3.Net Income 2003 2004 2005Total Revenue $450,000 $575,000 $625,000Operating Expense (231,000

)(326,000

)(428,000

)Net Income $219,000 $249,000 $197,000

4. No instructor response required.

b. Students should notice that season ticket sales are increasing while door sales are decreasing. One explanation for this would be that the company may be discounting the season ticket prices. It appears that

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the company is stressing season ticket sales more than door sales. This would be more desirable for the company because the season ticket sales are collected in advance. Thus, the funds are available to pay production expenses that are incurred prior to the actual performances.

ATC 3-3

a. Assessing risk involves more than computing a company’s debt-to-assets ratio. Some industries are inherently riskier than others. The construction industry is very sensitive to changes in the economy, and is a relatively unregulated industry. Banks, while sensitive to changing interest rates, are generally viewed as more stable than home construction. Perhaps the biggest difference between banks and construction companies is the very high level of regulation and oversight to which banks are subjected. When a bank gets into financial trouble, government agencies probably will intervene to prevent this failure. Such is not the case for construction companies.

b. Ryland is more highly leveraged than Pulte. Ryland is using this additional leverage to increase its return-on-equity compared to its return on assets.

Though not covered in the text to avoid undue confusion, instructors may wish to show students the following mathematical relationship between the two companies’ debt-to assets, return-on-assets, and return-on-equity ratios.

Except for rounding and assorted “weird stuff” that sometimes occur, the following relationship holds:

Return-on-assets (1.0 Debt-to-assets) = Return-on-equity

Ryland: 6.0%

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(1.0 .67) = 18.2% (rounding is thereason for 18.2%

vs. 18.1%)

Pulte: 6.5% (1.0 .57) = 15.1%

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ATC 3-4a.

CompanyTotal Debt

Total Assets =

Common Unit

of Measure %

Men’s Clothier $58,000 $215,000

= 27.0%

Women’s Fashions

$256,500

$675,000

= 38.0%

b. Based only on the debt-to-assets ratio, Women’s Fashions has more financial risk than Men’s Clothier because it is financing more of its assets with borrowed money.

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ATC 3-5

a. Debt-to-Assets Ratio: Total debt ÷ Total assets

El Greco $ 93,000 ÷ $127,000 = 73.2%Athenian: $452,000 ÷ $753,000 = 60.0%

Return-on-Equity Ratio: Net income ÷ Equity

El Greco $ 8,000 ÷ $ 34,000 = 23.5%Athenian $45,000 ÷ $301,000 = 15.0%

b. El Greco 100% 73.2% = 26.8%Athenian 100% 60.0% = 40.0%

c. Based only on the information available, El Greco appears to have the greatest financial risk.

d. El Greco has the highest profitability.

e. Yes, companies with higher percentages of assets financed by debt have lower percentages of assets financed by owners. If a company can achieve about the same level of earnings with less investment by the owners, the ROE ratio will be higher.

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ATC 3-6

The following information should be contained in the memo:

a.Present Return on Assets:$425,000 $3,500,000 = 12.14%

If the asset is sold for $1,500,000:Assets: $3,500,000 + ($1,500,000 $900,000) =

$4,100,000Net Income: $425,000 + $600,000 = $1,025,000

New Return on Assets:$1,025,000 $4,100,000= 25%

An increase of both denominator and numerator by the same amount will cause the rate of return to increase.

b.If the asset is sold for $600,000:Assets: $3,500,000 ($600,000 $900,000) = $3,200,000Net Income: $425,000 $300,000 = $125,000

New Return on Assets:$125,000 $3,200,000 = 3.91%

A decrease In both the denominator and numerator by the same amount will cause the rate of return to decrease.

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ATC 3-7a.

Income Statement Balance Sheet

Service Revenue

$120,000

Assets: $167,000

Operating Exp.

(40,000)

Net Income $ 80,000

Liabilities: $ 5,000

Stockholders’ Equity: Common Stock 82,000 Retained Earnings

80,000

Total Liab. 162,000

Total Liab. and Stk. Equity $167,000

Computations for Income Statement Items:

Revenue: $38,000+$82,000 = $120,000Operating Expense: $70,000 $30,000 = $40,000

Computations for Balance Sheet Items:

Assets: $85,000+$82,000 = $167,000Liabilities: $35,000 $30,000 = $5,000Retained Earnings: ($32,000) + $82,000 + $30,000 = $80,000

b. Willful deception is an act of fraud and punishable under the law. Good intentions are not sufficient justification for breaking the law. Students should learn to avoid operating under an ends justifies the means philosophy. Suppose the unexpected happens in this case. Glenn

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fails to obtain the contract and is forced to declare bankruptcy after having manipulated the statements. He would not only stand to lose the friend that he deceived, but also may become a convicted felon on charges of fraudulent reporting.

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Chapter 03 Solution of fundamental of financial accouting by EDMONDS (4th edition)

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Transcript of Chapter 03 Solution of fundamental of financial accouting by EDMONDS (4th edition)