TEST BANK. Financial Accounting IFRS AGE, 2nd Edition By Jan Williams, Susan Haka, Mark S. Bettner, by StudyGuide

Chapter 01 - Accounting: Information for Decision Making

Chapter 01 Accounting: Information for Decision Making True / False Questions

1. Managerial accounting information is designed primarily to assist investors and creditors in deciding how to allocate scarce resources. True False

2. Return on investment is the same as return of investment. True False

3. The tax return is one of the primary financial statements. True False

4. Management accounting refers to the preparation and use of accounting information designed to meet the needs of decision makers outside the business organization. True False

5. The content of management accounting reports needs to be presented in conformity with generally accepted accounting principles. True False

6. The tailoring of an accounting report to meet the needs of a specific decision maker is more characteristic of financial accounting reports than of management accounting reports. True False

7. The annual financial statements of large corporations such as Wilmar International or Cathay Pacific need not be audited by independent certified public accountants, since these firms maintain large accounting departments as part of their organizations. True False

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Chapter 01 - Accounting: Information for Decision Making

8. Generally accepted accounting principles were established by the American Accounting Association in 1934 and are updated annually by Congress. True False

9. One purpose of generally accepted accounting principles is to make accounting information prepared by different companies more comparable. True False

10. Today the most authoritative source of generally accepted accounting principles is the American Accounting Association. True False

11. The American Institute of Certified Public Accountants has the legal authority over publicly held corporations to enforce compliance with generally accepted accounting principles. True False

12. An accounting practice can become a "generally accepted accounting principle" through widespread use, even if the practice is not mentioned in the official pronouncements of the accounting standard-setting organizations. True False

13. The statement of financial position and the income statement are one and the same. True False

14. The Securities & Exchange Commission is instrumental in the development of financial accounting standards. True False

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Chapter 01 - Accounting: Information for Decision Making

15. Financial accounting standards issued by the FASB are considered generally accepted accounting principles. True False

16. External users of accounting information have a financial interest in an entity but are not involved with the day-to-day operations of the enterprise. True False

17. Investors are individuals and other enterprises that have provided equity to the reporting enterprise. True False

18. A statement of cash flows depicts the way profits have changed during a designated period. True False

19. Public accounting is the segment of the profession where professionals offer audit, tax and consulting services to clients. True False

20. The CPA examination is administered by the General Accounting Office of The U. S. Government. True False

21. Career opportunities in accounting exist in public accounting, management accounting, governmental accounting and accounting education. True False

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Chapter 01 - Accounting: Information for Decision Making

22. The Sarbanes-Oxley Act places responsibility on CEOs and CFOs of companies to certify the fairness of company's financial statements. The Act also created the Public Company Accounting Oversight Board which oversees the public accounting profession. True False

23. The internal control structure of an organization has no relationship to the reliability of accounting information. True False

24. Management accounting information is oriented toward the future while financial accounting information is historical in nature. True False

25. The Code of Ethics of the AICPA calls for a commitment to ethical behavior but not at the sacrifice of personal advantage. True False

26. The Code of Ethics of the AICPA calls for a member in public practice to be independent in fact and appearance when providing auditing services. True False

27. The Public Company Accounting Oversight Board is responsible for creating and promoting International Financial Reporting Standards. True False

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Chapter 01 - Accounting: Information for Decision Making

Multiple Choice Questions

28. Financial accounting information is A. Designed to assist investors and creditors B. Used by managers and in income tax returns C. Called "general-purpose" accounting information D. All of the above

29. Financial statements may be prepared for A. One year B. Less than one year C. Either A or B D. Neither A or B. Financial statements can only be prepared on a monthly basis.

30. Generally accepted accounting principles A. Originate from a combination of tradition, experience and official decree B. May change over time C. Both A & B D. Neither A nor B

31. The Sarbanes-Oxley Act of 2002 created: A. The Security and Exchange Commission B. The Financial Accounting Standards Board C. The Public Company Accounting Oversight Board D. The Income Tax Return Overview Board

32. Which of the following would not be considered a user of financial information? A. A large pension fund B. A real estate investor C. Company management D. All the above are considered interested in financial information.

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Chapter 01 - Accounting: Information for Decision Making

33. The field of accounting may best be described as: A. Recording the financial transactions of an economic entity. B. Developing information in conformity with generally accepted accounting principles. C. The art of interpreting, measuring, and describing economic activity. D. Developing the information required for the preparation of income tax returns.

34. The basic purpose of bookkeeping is to: A. Provide financial information about an economic entity. B. Develop the types of information best-suited to specific managerial decisions. C. Record the financial transactions of an economic entity. D. Determine the taxable income of individuals and business entities.

35. Which of the following is not characteristic of financial accounting? A. Information used in financial statements is prepared in conformity with generally accepted accounting principles. B. The information is confidential and is intended for use only by company management. C. The information is used in a wide variety of business decisions. D. The information is developed primarily by "private accountants" that is, accountants employed by business organizations.

36. Financial statements are prepared: A. Only for publicly owned business organizations. B. For corporations, but not for sole proprietorships or partnerships. C. Primarily for the benefit of persons outside of the business organization. D. In either monetary or nonmonetary terms, depending upon the need of the decision maker.

37. It is the function of management accounting to perform the following activities, except: A. Financial forecasts B. Cost accounting C. Internal audits D. Audited financial statements

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38. The basic purpose of an audit is to: A. Assure financial statements are in conformity with GAAP. B. Provide as much useful information to decision makers as possible, regardless of cost. C. Record changes in the financial position of an organization by applying the concepts of double entry accounting. D. Meet an organization's need for accounting information as efficiently as possible.

39. The accounting systems of most business organizations: A. Are tailored to meet the organization's needs for accounting information and the resources available for operating the system. B. Are similar in design to the journals, ledgers, and worksheets illustrated in this text. C. Utilize data bases, rather than ledger accounts. D. Are designed by the CPA firm that performs the annual financial audit.

40. Which of the following is not a basic function of an accounting system? A. To interpret and record the effects of business transactions. B. To classify the effects of similar transactions in a manner that permits determination of various totals and subtotals useful to management. C. To ensure that a business organization will be managed profitably. D. To summarize and communicate information to decision makers.

41. Information is cost effective when: A. The information aids management in controlling costs. B. The information is based upon historical costs, rather than upon estimated market values. C. The value of the information exceeds the cost of producing it. D. The information is generated by a computer based accounting system.

42. The objectives of financial reporting are to provide information A. that is useful in assessing cash flow prospects B. about claims to enterprise resources C. that is useful in investment and credit decisions D. all of the above

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Chapter 01 - Accounting: Information for Decision Making

43. Which of the following is generally not considered an external user of accounting information? A. Shareholders of a corporation. B. Bank lending officers. C. Financial analysts. D. Factory managers.

44. Although accounting information is used by a wide variety of external parties, financial reporting is primarily directed toward the information needs of: A. Investors and creditors. B. Government agencies such as the tax authorities. C. Customers. D. Trade associations and labor unions.

45. Investors may be described as: A. Individuals and enterprises that have provided credit to a reporting entity. B. Individuals and enterprises that own a reporting entity business. C. Anyone that has an interest in the results of the operations of the reporting entity. D. Those whose primary economic activity consists of buying and selling stocks and bonds.

46. Investors and creditors are interested in the probability that their original investment or loan will eventually be returned, and that they will receive a reasonable return while their funds are invested or borrowed. These expectations are collectively referred to as: A. Expected profitability. B. The objectives of financial reporting. C. Cash flow prospects. D. Financial position.

47. The FASB takes on a responsibility to do the following, except: A. Set the objectives of financial reporting. B. Describe the elements of financial statements. C. Judge disputes between management and the CPA. D. Determine the criteria for deciding what information to include in financial statements.

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Chapter 01 - Accounting: Information for Decision Making

48. Which organization best serves the professional needs of a CPA? A. FASB. B. AICPA. C. SEC. D. AAA.

49. A complete set of financial statements for Citywide Company, at December 31, 2009, would include each of the following, except: A. Balance sheet as of December 31, 2009. B. Income statement for the year ended December 31, 2009. C. Statement of projected cash flows for 2009. D. Notes containing additional information that is useful in interpreting the financial statements.

50. The general purpose financial statements prepared annually by a corporation would not include the: A. Balance sheet. B. Income tax return. C. Income statement. D. Statement of cash flows.

51. The designation of CPA is given by: A. Universities. B. States. C. The AICPA. D. The SEC.

52. Which of the following is a characteristic of financial accounting information? A. Its preparation requires judgment. B. It is more about the future than it is about the past. C. None of it is based on estimates, assumptions, and judgments. D. Notes and explanations from management are not included.

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53. The financial statements of a business entity: A. Include the balance sheet, income statement, and income tax return. B. Provide information about the cash flow prospects of the company. C. Are the first step in the accounting process. D. Are prepared for a fee by the Financial Accounting Standards Board.

54. Which of the following events is not a transaction that would be recorded in a company's accounting records? A. The purchase of equipment for cash. B. The purchase of equipment on account. C. The investment of additional cash in the business by the owner. D. The death of a key executive.

55. Financial statements are designed primarily to: A. Provide managers with detailed information tailored to the managers' specific information needs. B. Provide people outside the business organization with information about the company's financial position and operating results. C. Report to the relevant tax authorities the company's taxable income. D. Indicate to investors in a particular company the current market values of their investments.

56. The principal difference between management accounting and financial accounting is that financial accounting information is: A. Prepared by managers. B. Intended primarily for use by decision makers outside the business organization. C. Prepared in accordance with a set of accounting principles developed by the Institute of Certified Management Accountants. D. Oriented toward measuring solvency rather than profitability.

57. Which financial statement is prepared as of a specific date? A. The balance sheet. B. The income statement. C. The statement of cash flows. D. All three of the above are for a period of time rather than at a specific date.

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58. In comparison with a financial statement prepared in conformity with generally accepted accounting principles, a management accounting report is more likely to: A. Be used by decision makers outside of the business organization. B. Focus upon the operation results of the most recently completed accounting period. C. View the entire organization as the reporting entity. D. Be tailored to the specific needs of an individual decision maker.

59. Which of the following decision makers is least likely to be among the users of management accounting reports developed by Toyota Motor Corporation? A. The chief executive officer of Toyota. B. The manager of the factory in Toyota. C. The manager of a mutual fund considering investing in Toyota’s' ordinary shares. D. Internal auditors within the Toyota organization.

60. Which financial statement is primarily concerned with reporting the financial position of a business at a particular time? A. The balance sheet. B. The income statement. C. The statement of cash flows. D. All three statements are concerned with the financial position of a business at a particular time.

61. The measures used by an organization to provide reasonable assurance that the organization produces reliable financial reports, complies with applicable laws and regulations, and conducts its operations in an efficient and effective manner are collectively referred to as: A. Generally accepted accounting principles. B. Financial accounting standards. C. Securities and exchange regulations. D. The internal control structure.

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Chapter 01 - Accounting: Information for Decision Making

62. A strong internal control structure: A. Contributes to the accuracy and reliability of the accounting records. B. Will prevent a business from operating at a loss. C. Assures that a business will remain solvent. D. Will prevent fraud, theft, and embezzlement.

63. Which of the following is considered a return "on" investment? A. Dividends. B. Repayment of a loan. C. Both of the above. D. None of the above.

64. The basic purpose of audited financial statements is to: A. Provide the reporting company with assurance that all assets are protected from theft or embezzlement. B. Prepare financial statements for companies that do not have their own accounting departments. C. Provide users of the financial statements with assurance that the statements are reliable and are presented in conformity with generally accepted accounting principles. D. Provide both the reporting company and the users of the statements with a written guarantee that the statements are error-free.

65. Audits of financial statements are performed by: A. The controller of the reporting company. B. The Financial Accounting Standards Board (FASB). C. The management of the reporting company. D. Independent certified public accountants (CPAs).

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66. The auditor's report on the published financial statements of a large corporation should be viewed as: A. The opinion of independent experts as to the overall fairness of the statements. B. The opinion of the corporation's chief accountant as to the overall fairness of the statements. C. A guarantee by a firm of certified public accountants that the statements are accurate. D. A guarantee by the Financial Statements Insurance Board that the statements do not overstate assets or net income.

67. The set of standards, assumptions, and concepts that form the "ground rules" for financial reporting in the United States is termed: A. The conceptual framework. B. Generally accepted accounting principles. C. Statements of Financial Accounting Concepts. D. American standards for certified public accountants.

68. The basic purpose of generally accepted accounting principles is to: A. Minimize the possibility of a business becoming insolvent. B. Provide a framework for financial reporting that is understood by both the preparers and the users of financial statements. C. Ensure that financial statements include the type of information that is best suited to every type of business decision. D. Eliminate the need for professional judgment in preparing financial statements.

69. Generally accepted accounting principles are intended to assist accountants in preparing financial statements that: A. Are relevant, reliable, comparable, and understandable. B. Show the business to be both solvent and profitable. C. Comply with all income tax rules and regulations. D. Are ideally suited to the specific needs of each user of the financial statements.

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70. Which of the following is not an objective of generally accepted accounting principles? A. To minimize the amount of income taxes owed. B. To ensure that both preparers and users of financial statements understand the concepts and assumptions used in presenting information within these statements. C. To enhance the relevance and reliability of information contained in financial statements. D. To increase the comparability of financial statements prepared by different companies.

71. In the phrase "generally accepted accounting principles," the words accounting principles refers to: A. The standards, assumptions, and concepts that serve as "ground rules" for financial reporting. B. Ethical standards that prohibit fraudulent or misleading financial reporting. C. The steps in the accounting cycle. D. The accounting practices authorized by the Financial Accounting Standards Board (FASB).

72. Which of the following is not considered a return "of" investment? A. Dividends. B. Repayment of a loan. C. Both of the above. D. None of the above.

73. The accounting standards and concepts used in the preparation of financial statements are called: A. Certified principles of accounting (CPA). B. Generally accepted accounting principles (GAAP). C. Federal accounting standards and bylaws (FASB). D. Standards enforcing consistency (SEC).

74. Generally accepted accounting principles are the "ground rules" used in the preparation of: A. Income tax returns. B. All accounting reports. C. Reports to federal and state regulatory agencies. D. Financial statements.

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75. The Financial Accounting Standards Board is: A. Responsible for the review and audit of federal income tax returns. B. Primarily concerned with the preparation of the annual federal budget. C. A private group that conducts research and issues Statements that represent authoritative expressions of generally accepted accounting principles. D. A government agency with legal authority to approve or disapprove the financial statements of corporations that sell their securities to the public.

76. Statements of Financial Accounting Standards are developed by: A. The Financial Accounting Standards Board. B. Certified public accountants. C. The Securities and Exchange Commission. D. Tax authorities.

77. Which of the following are considered "external" users of financial statements? A. Owners. B. Creditors. C. Labor unions. D. All three are external users.

78. Which of the following is not recognized as a source of generally accepted accounting principles? A. Widespread and long-term use of a particular practice. B. The Financial Accounting Standards Board (FASB). C. The American Institute of Certified Public Accountants (AICPA). D. None of the above. Generally accepted accounting principles may arise from each of these sources.

79. In the phrase "generally accepted accounting principles," the words generally accepted mean that the principles: A. Have been adopted by Congress or approved by the voters in a general election. B. Are acceptable to the tax authority. C. Are understood and observed by all the participants in the financial reporting process. D. Have been approved by a majority of the members of the Financial Accounting Standards Board.

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Chapter 01 - Accounting: Information for Decision Making

80. An accounting principle must receive substantial authoritative support to qualify as generally accepted. Among the organizations and agencies that have been influential in the development of generally accepted accounting principles, which of the following has provided the most influential leadership? A. Tax authorities. B. Institute of Management Accountants. C. Financial Accounting Standards Board. D. New York Stock Exchange.

81. Which of the following has the least impact upon the reliability of financial statements issued by publicly owned corporations? A. Federal securities laws. B. Professional judgment of the accountants who prepare the financial statements. C. Audits of the financial statements by the tax authorities. D. Competence and integrity of the CPAs who perform audits.

82. Which of the following is true? A. The existence of generally accepted accounting principles (GAAP) virtually eliminates the need for professional judgment except in very unusual circumstances. B. Federal securities laws regarding the issuance of misleading financial statements apply not only to the independent auditors, but to management of the company as well. C. Attaining a passing score on the part of the Uniform CPA Examination that covers professional ethics is evidence of integrity and commitment to ethical conduct. D. A professional accountant should resign his position rather than become involved in the distribution of financial statements indicating insolvency.

83. The work of accountants practicing in public accounting may best be described as: A. Providing various types of accounting services to a wide variety of clients. B. Preparing income tax returns for individuals and small businesses. C. Developing and interpreting information tailored to the needs of business managers. D. Helping governmental agencies carry out their various regulatory responsibilities.

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84. The primary function of external auditors is to: A. Express an opinion on the fairness and reliability of the company's financial statements. B. Determine the accuracy of the management reports. C. Evaluate the efficiency of operations and the degree of compliance with management's policies in all departments within a large organization. D. Determine that financial statements and all special reports to management are prepared in conformity with generally accepted accounting principles.

85. Management accountants primarily are concerned with developing information: A. For use in income tax returns. B. Suited to the needs of shareholders, creditors, and other external decision makers. C. In conformity with generally accepted accounting principles. D. Suited to the needs of decision makers within the organization.

86. The principal function of CPAs is to: A. Audit income tax returns to determine if taxpayers have underpaid their income taxes. B. Conduct audits to determine whether the employees of a business are performing their jobs honestly and efficiently. C. Advise individual investors on stock market investments. D. Perform audits to determine the fairness and reliability of a company's financial statements.

87. The best definition of an accounting system is: A. Journals, ledgers, and worksheets. B. Manual or computer-based records used in developing information about an entity for use by managers and also persons outside the organization. C. The personnel, procedures, devices, and records used by an entity to develop accounting information and communicate this information to decision makers. D. The concepts, principles, and standards specifying the information which should be included in financial statements, and how that information should be presented.

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Chapter 01 - Accounting: Information for Decision Making

88. Suppose a number of your friends have organized a company to develop and sell a new software product. They have asked you to loan them $8,000 to help get the company started, and have promised to repay your $8,000 plus 10% interest in one year. Of the following, which amount may be described as the return on your investment? A. $8,000 B. $800. C. $8,800 D. some other amount.

89. Which of the following is generally not considered one of the general purpose financial statements issued by a corporation? A. Income statement forecast for the coming year. B. Balance sheet. C. Statement of financial position. D. Statement of cash flows.

90. All of the following are characteristics of management accounting, except: A. Reports are used primarily by insiders rather than by persons outside of the business entity. B. Its purpose is to assist managers in planning and controlling business operations. C. Information must be developed in conformity with generally accepted accounting principles or with income tax regulations. D. Information may be tailored to assist in specific managerial decisions.

91. Of the following objectives of financial reporting, which is the most specific? A. Provide information useful in assessing amount, timing, and uncertainty of future cash flows. B. Provide information useful in making investment and credit decisions. C. Provide information about economic resources, claims to resources, and changes in resources and claims. D. Provide information useful to help the enterprise achieve its goals, objectives, and mission.

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Chapter 01 - Accounting: Information for Decision Making

92. Which of the following does not describe accounting? A. It is commonly referred to as the language of business. B. It is an end rather than a means to an end. C. It is useful for decision-making. D. It is used by businesses, governments, non-profit organizations, and individuals.

93. To understand and use accounting information in making economic decisions, you must understand: A. The nature of economic activities that accounting information describes. B. The assumptions and measurement techniques involved in developing accounting information. C. Which information is relevant for a particular type of decision that is being made. D. All of the above.

94. The objectives of an accounting system include all of the following except: A. Interpret and record the effects of business transactions. B. Classify the effects of transactions to facilitate the preparation of reports. C. Summarize and communicate information to decision makers. D. Dictate the specific types of business transactions that the enterprise may engage in.

95. Internal users of financial accounting information include all of the following except: A. Investors. B. Managers. C. Chief Financial Officer. D. Chief Executive Officer.

96. Objectives of financial reporting to external investors and creditors include preparing information about all of the following except: A. Information used to determine which products to produce. B. Information about economic resources, claims to those resources, and changes in both resources and claims. C. Information that is useful in assessing the amount, timing, and uncertainty of future cash flows. D. Information that is useful in making investment and credit decisions.

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Chapter 01 - Accounting: Information for Decision Making

97. Financial accounting information is characterized by all of the following except: A. It is historical in nature. B. It results from inexact and approximate measures. C. It is factual, so it does not require judgment to prepare. D. It is enhanced by management's explanation.

98. Which of the following is not a user of internal accounting information? A. Store manager. B. Chief executive officer. C. Creditor. D. Chief financial officer.

99. Characteristics of internal accounting information include all of the following except: A. It is audited by a CPA. B. It must be timely. C. It is oriented toward the future. D. It measures efficiency and effectiveness.

100. Which of the following are important factors in ensuring the integrity of accounting information? A. Institutional factors, such as standards for preparing information. B. Professional organizations, such as the American Institute of CPAs. C. Competence, judgment, and ethical behavior of individual accountants. D. All of the above.

101. The code of ethics of the American Institute of Certified Public Accountants includes requirements in which of the following areas? A. The Public Interest. B. Objectivity. C. Independence. D. All of the above.

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102. Establishing international accounting standards is the responsibility of A. AICPA B. IASB C. SEC D. AAA

103. The body created by the Sarbanes Oxley Act and charged with oversight of the accounting profession is the: A. Public Company Accounting Oversight Board B. Auditing Standards Board C. International Accounting Standards Board D. Security and Exchange Commission

104. Overseeing a company's affairs to ensure that the company is managed with the best interest of shareholders in mind is called: A. Internal control B. Financial integrity C. Corporate governance D. The audit function

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Chapter 01 - Accounting: Information for Decision Making

Essay Questions

105. Accounting terminology Listed below are nine accounting terms introduced in this chapter:

Each of the following statements may (or may not) describe one of these terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (A.) The repayment to an investor of the amount originally invested in an enterprise. (B.) An investigation of financial statements designed to determine their fairness in relation to generally accepted accounting principles. (C.) The accounting standards and concepts used in the preparation of financial statements. (D.) A system of measures designed to assure management that all aspects of the business are operating according to plan. (E.) A listing of assets, liabilities and shareholders' equity as of a specific date. (F.) The payment of an amount for using another's money. (G.) An activity statement that shows the details of the company's activities involving cash during a period of time.

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106. Accounting terminology Listed below are seven accounting organizations introduced in this chapter:

Each of the following statements may (or may not) describe one of these organizations. In the space provided below each statement, indicate the accounting organization described, or answer "None" if the statement does not correctly describe any of the organizations. (A.) Private sector organization that establishes accounting standards. (B.) A professional organization that establishes auditing standards. (C.) A government organization that establishes financial reporting requirements for publicly-held companies in the United States. (D.) A federal government agency that audits many other agencies of the federal government and reports its findings to Congress. (E.) A professional organization dedicated to the improvement of accounting education, research, and practice. (F.) A professional organization that influences the concepts and ethical practice of management accounting. (G.) A professional organization that establishes global accounting standards

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107. Accounting Terminology Listed below are 8 accounting terms.

Each of the following statements may (or may not) describe one of these terms. In the space provided, indicate the accounting term described or answer "None" if the statement does not accurately describe any of the terms. (A.) Information describing the financial resources, obligations and activities of an economic entity. (B.) An entity's financial resources and obligations at a point in time. (C.) Accounting information intended specifically to assist company's management. (D.) The personnel, procedures, and technology used by an organization to develop accounting information and to communicate this information to decision makers. (E.) An entity's financial activities during the year. (F.) Measures used by an organization to guard against errors, waste and fraud and assure the reliability of accounting information. (G.) A plan of financial operations for some future period. (H.) A written assertion identifying, measuring, and communicating financial information about an economic entity.

108. Financial statements Briefly describe the balance sheet, income statement and the statement of cash flows.

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110. Objectives of financial reporting List and briefly describe the objectives of financial reporting beginning with the most general and ending with the most specific.

111. Financial and management accounting information Explain one way in which the characteristics of financial and management accounting information differ.

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112. AICPA Code of Professional Conduct State and discuss the six articles of the AICPA Code of Professional Conduct that guide members in performing their professional responsibilities.

113. Users of accounting information List seven groups that would typically use financial information.

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114. Match the organizations on the left with the descriptions on the right. Each description should be used only once

115. Investors and creditors are interested in a company's "cash flow prospects." What two specific concerns of investors and creditors are summarized by the term "cash flow prospects?"

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116. List the three financial statements that are used to communicate financial accounting information to interested external parties.

117. Provide a brief example to illustrate that externally reported financial accounting information must be based in part on estimates, judgments, and assumptions.

118. Briefly explain how generally accepted accounting principles enhance the integrity of financial accounting information.

Multiple Choice Questions

119. The best definition of an accounting system is: A. Journals, ledgers, and worksheets. B. Manual or computer-based records used in developing information about an entity for use by managers and also persons outside the organization. C. The personnel, procedures, devices, and records used by an entity to develop accounting information and communicate this information to decision makers. D. The concepts, principles, and standards specifying the information which should be included in financial statements, and how that information should be presented.

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120. Suppose a number of your friends have organized a company to develop and sell a new software product. They have asked you to loan them $7,000 to help get the company started, and have promised to repay your $7,000 plus 10% interest in one year. Of the following, which amount may be described as the return on your investment? A. $7,000. B. $700. C. $7,700. D. Some other amount.

121. Which of the following is generally not considered one of the general purpose financial statements issued by a corporation? A. Income statement forecast for the coming year. B. Balance sheet. C. Statement of financial position. D. Statement of cash flows.

122. All of the following are characteristics of management accounting, except: A. Reports are used primarily by insiders rather than by persons outside of the business entity. B. Its purpose is to assist managers in planning and controlling business operations. C. Information must be developed in conformity with generally accepted accounting principles or with income tax regulations. D. Information may be tailored to assist in specific management decisions.

123. Which of the following is not an objective of financial reporting? A. Provide information useful in assessing amount, timing, and uncertainty of future cash flows. B. Provide information useful in making investment and credit decisions. C. Provide information about economic resources, claims to resources, and changes in resources and claims. D. Provide information to guarantee the enterprise achieves its goals, objectives, and mission.

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Short Answer Questions

124. The information is summarized in a set of statements distributed to the public.

125. The information is historical in nature. It reports the results of events and transactions that have already occurred.

126. The timeliness of the information is more critical than its completeness.

127. To increase its usefulness to investors and creditors, the information is usually accompanied by explanations from management.

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128. The information is intended to be used for planning and control decisions.

Essay Questions

Multiple Choice Questions

130. Which of the following does not describe accounting? A. Language of business. B. Is an end rather than a means to an end. C. Useful for decision-making. D. Used by businesses, governments, non-profit organizations, and individuals.

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Chapter 01 - Accounting: Information for Decision Making

131. To understand and use accounting information in making economic decisions, you must understand: A. The nature of economic activities that accounting information describes. B. The assumptions and measurement techniques involved in developing accounting information. C. Which information is relevant for a particular type of decision that is being made. D. All of the above.

132. Purposes of an accounting system include all of the following except: A. Interpret and record the effects of business transactions. B. Classify the effects of transactions to facilitate the preparation of reports. C. Summarize and communicate information to decision makers. D. Dictate the specific types of business transactions that the enterprise may engage in.

133. External users of financial accounting information include all of the following except: A. Investors. B. Labor unions. C. Line managers. D. General public.

134. Objectives of financial reporting to external investors and creditors include preparing information about all of the following except: A. Information used to determine which products to produce. B. Information about economic resources, claims to those resources, and changes in both resources and claims. C. Information that is useful in assessing the amount, timing, and uncertainty of future cash flows. D. Information that is useful in making investment and credit decisions.

135. Financial accounting information is characterized by all of the following except: A. It is historical in nature. B. It results from inexact and approximate measures. C. It is factual, so it does not require judgment to prepare. D. It is enhanced by management's explanation.

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Chapter 01 - Accounting: Information for Decision Making

136. Which of the following is not a user of management accounting information? A. Store manager. B. Chief Executive Officer. C. Creditor. D. Chief Financial Officer.

137. Characteristics of management accounting information include all of the following except: A. Is audited by a CPA. B. It must be timely. C. It is oriented toward the future. D. It measures efficiency and effectiveness.

138. Which of the following are important factors in ensuring the integrity of accounting information? A. Institutional factors, such as standards for preparing information. B. Professional organizations, such as the American Institute of CPAs. C. Competence, judgment and ethical behavior of individual accountants. D. All of the above.

139. The code of conduct of the American Institute of Certified Public Accountants includes requirements in which of the following areas? A. The Public Interest. B. Objectivity. C. Independence. D. All of the above.

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Chapter 01 - Accounting: Information for Decision Making

Chapter 01 Accounting: Information for Decision Making Answer Key

True / False Questions

1. Managerial accounting information is designed primarily to assist investors and creditors in deciding how to allocate scarce resources. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

2. Return on investment is the same as return of investment. FALSE

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 3

3. The tax return is one of the primary financial statements. FALSE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

4. Management accounting refers to the preparation and use of accounting information designed to meet the needs of decision makers outside the business organization. FALSE

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

5. The content of management accounting reports needs to be presented in conformity with generally accepted accounting principles. FALSE

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

6. The tailoring of an accounting report to meet the needs of a specific decision maker is more characteristic of financial accounting reports than of management accounting reports. FALSE

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3 Learning Objective: 5

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Chapter 01 - Accounting: Information for Decision Making

8. Generally accepted accounting principles were established by the American Accounting Association in 1934 and are updated annually by Congress. FALSE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6

9. One purpose of generally accepted accounting principles is to make accounting information prepared by different companies more comparable. TRUE

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6

10. Today the most authoritative source of generally accepted accounting principles is the American Accounting Association. FALSE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 5 Learning Objective: 6

11. The American Institute of Certified Public Accountants has the legal authority over publicly held corporations to enforce compliance with generally accepted accounting principles. FALSE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 5 Learning Objective: 6

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 5 Learning Objective: 6

13. The statement of financial position and the income statement are one and the same. FALSE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

14. The Securities & Exchange Commission is instrumental in the development of financial accounting standards. TRUE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6

15. Financial accounting standards issued by the FASB are considered generally accepted accounting principles. TRUE

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6

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Chapter 01 - Accounting: Information for Decision Making

16. External users of accounting information have a financial interest in an entity but are not involved with the day-to-day operations of the enterprise. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 3

17. Investors are individuals and other enterprises that have provided equity to the reporting enterprise. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 3

18. A statement of cash flows depicts the way profits have changed during a designated period. FALSE

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

19. Public accounting is the segment of the profession where professionals offer audit, tax and consulting services to clients. TRUE

AACSB: Communications AICPA BB: Global AICPA FN: Decision Making Learning Objective: 8

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Chapter 01 - Accounting: Information for Decision Making

20. The CPA examination is administered by the General Accounting Office of The U. S. Government. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 6

21. Career opportunities in accounting exist in public accounting, management accounting, governmental accounting and accounting education. TRUE

AACSB: Ethics AICPA BB: Industry AICPA FN: Measurement Learning Objective: 8

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 7

23. The internal control structure of an organization has no relationship to the reliability of accounting information. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Risk Analysis Learning Objective: 2

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Chapter 01 - Accounting: Information for Decision Making

24. Management accounting information is oriented toward the future while financial accounting information is historical in nature. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

25. The Code of Ethics of the AICPA calls for a commitment to ethical behavior but not at the sacrifice of personal advantage. FALSE

AACSB: Ethics AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 6 Learning Objective: 7

26. The Code of Ethics of the AICPA calls for a member in public practice to be independent in fact and appearance when providing auditing services. TRUE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6 Learning Objective: 7

27. The Public Company Accounting Oversight Board is responsible for creating and promoting International Financial Reporting Standards. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 7

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Chapter 01 - Accounting: Information for Decision Making

Multiple Choice Questions

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

29. Financial statements may be prepared for A. One year B. Less than one year C. Either A or B D. Neither A or B. Financial statements can only be prepared on a monthly basis.

AACSB: Communications AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3

30. Generally accepted accounting principles A. Originate from a combination of tradition, experience and official decree B. May change over time C. Both A & B D. Neither A nor B

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2 Learning Objective: 5

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6 Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Decision Making Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

37. It is the function of management accounting to perform the following activities, except: A. Financial forecasts B. Cost accounting C. Internal audits D. Audited financial statements

AACSB: Communications AICPA BB: Industry AICPA FN: Reporting Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 5

AACSB: Technology AICPA BB: Resource Management AICPA FN: Leveraging Technology Learning Objective: 2

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Technology AICPA BB: Resource Management AICPA FN: Reporting Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Reporting Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Decision Making Learning Objective: 4

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6

48. Which organization best serves the professional needs of a CPA? A. FASB. B. AICPA. C. SEC. D. AAA.

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 6

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2 Learning Objective: 3

50. The general purpose financial statements prepared annually by a corporation would not include the: A. Balance sheet. B. Income tax return. C. Income statement. D. Statement of cash flows.

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2 Learning Objective: 3

51. The designation of CPA is given by: A. Universities. B. States. C. The AICPA. D. The SEC.

AACSB: Ethics AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 6 Learning Objective: 8

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2 Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Industry AICPA FN: Critical Thinking Learning Objective: 3 Learning Objective: 4

59. Which of the following decision makers is least likely to be among the users of management accounting reports developed by Toyota Motor Corporation? A. The chief executive officer of Toyota. B. The manager of the factory in a Toyota. C. The manager of a mutual fund considering investing in Toyota's ordinary shares. D. Internal auditors within the Toyota organization.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 3 Learning Objective: 4

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Risk Analysis Learning Objective: 2

63. Which of the following is considered a return "on" investment? A. Dividends. B. Repayment of a loan. C. Both of the above. D. None of the above.

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 5

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 5

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2 Learning Objective: 5

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2 Learning Objective: 5

AACSB: Communications AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2 Learning Objective: 5

72. Which of the following is not considered a return "of" investment? A. Dividends. B. Repayment of a loan. C. Both of the above. D. None of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2 Learning Objective: 5

AACSB: Communications AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2 Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 6

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Legal AICPA FN: Research Learning Objective: 6

77. Which of the following are considered "external" users of financial statements? A. Owners. B. Creditors. C. Labor unions. D. All three are external users.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 3

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 5

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 6

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5 Learning Objective: 7

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Risk Analysis AICPA FN: Reporting Learning Objective: 8

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 1

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

95. Internal users of financial accounting information include all of the following except: A. Investors. B. Managers. C. Chief Financial Officer. D. Chief Executive Officer.

AACSB: Communications AICPA BB: Industry AICPA FN: Reporting Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

98. Which of the following is not a user of internal accounting information? A. Store manager. B. Chief executive officer. C. Creditor. D. Chief financial officer.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 6 Learning Objective: 7

102. Establishing international accounting standards is the responsibility of A. AICPA B. IASB C. SEC D. AAA

AACSB: Communications AICPA BB: Global AICPA FN: Research Learning Objective: 6

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Chapter 01 - Accounting: Information for Decision Making

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Risk Analysis Learning Objective: 5

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Essay Questions

105. Accounting terminology Listed below are nine accounting terms introduced in this chapter:

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 - 5

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Chapter 01 - Accounting: Information for Decision Making

106. Accounting terminology Listed below are seven accounting organizations introduced in this chapter:

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 7

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Chapter 01 - Accounting: Information for Decision Making

107. Accounting Terminology Listed below are 8 accounting terms.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 - 5

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Chapter 01 - Accounting: Information for Decision Making

108. Financial statements Briefly describe the balance sheet, income statement and the statement of cash flows. Balance sheet (statement of financial position) - A position statement that shows where the company stands in financial terms at a specific date. Income statement - An activity statement that shows details and results of a company's profit-related activities for a period of time. Statement of cash flows - An activity statement that shows the details of the company's activities involving cash during a period of time.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 Learning Objective: 5

109. Development of generally accepted accounting principles (A.) What is meant by the phrase "generally accepted accounting principles"? (B.) Give the names of three organizations that currently play an active role in the development of accounting principles in the United States. (A.) Generally accepted accounting principles provide the framework for determining what information is to be included in the financial statements and how that information is to be presented. (B.) Financial Accounting Standards Board; Securities and Exchange Commission; American Institute of CPAs; American Accounting Association

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 1 Learning Objective: 3 Learning Objective: 6

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110. Objectives of financial reporting List and briefly describe the objectives of financial reporting beginning with the most general and ending with the most specific. (1.) Provide information useful in making investment and credit decisions (2.) Provide information useful in assessing the amount, timing, and uncertainty of future cash flows. (3.) Provide information about economic resources, claims to economic resources, and changes in resources and claims.

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

111. Financial and management accounting information Explain one way in which the characteristics of financial and management accounting information differ. Financial accounting information is primarily historical in nature while management accounting information is future directed. Financial accounting information is general purpose information designed to serve the needs of a variety of external parties. Management accounting information is customized to the needs of a particular internal decision-maker. The timeliness of management accounting information is critical. For financial accounting information completeness and reliability are more important than timeliness. Financial accounting information is prepared in accordance with generally accepted accounting principles while the nature and content of management accounting information is dictated by the nature of the decision it is intended to support.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 01 - Accounting: Information for Decision Making

112. AICPA Code of Professional Conduct State and discuss the six articles of the AICPA Code of Professional Conduct that guide members in performing their professional responsibilities. (I.) Responsibilities (II.) The Public Interest (III.) Integrity (IV.) Objectivity and Independence (V.) Due Care (VI.) Scope and Nature of Services [the chapter.] del.

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 6 Learning Objective: 7

113. Users of accounting information List seven groups that would typically use financial information. 1. Investors; 2. Creditors; 3. Managers; 4. Owners; 5. Customers; 6. Employees; 7. Regulators

AACSB: Diversity AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 3 Learning Objective: 4

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Chapter 01 - Accounting: Information for Decision Making

114. Match the organizations on the left with the descriptions on the right. Each description should be used only once

Financial Accounting Standards Board (c) Securities and Exchange Commission (a) American Accounting Association (d) Institute of Internal Auditors (b) American Institute of CPAs (f) Institute of Management Accountants (e)

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

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Chapter 01 - Accounting: Information for Decision Making

115. Investors and creditors are interested in a company's "cash flow prospects." What two specific concerns of investors and creditors are summarized by the term "cash flow prospects?" Return of investment and return on investment.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Risk Analysis Learning Objective: 2 Learning Objective: 3

116. List the three financial statements that are used to communicate financial accounting information to interested external parties. Balance sheet (Statement of financial position) Income statement Statement of cash flows

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2 Learning Objective: 3

117. Provide a brief example to illustrate that externally reported financial accounting information must be based in part on estimates, judgments, and assumptions. To account for the use of long-lived equipment, estimates must be made of the lifetime and scrap value of that equipment.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

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Chapter 01 - Accounting: Information for Decision Making

118. Briefly explain how generally accepted accounting principles enhance the integrity of financial accounting information. Adherence to generally accepted accounting principles assures comparability of accounting information among organizations.

AACSB: Communications AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

Multiple Choice Questions

Learning Objective: 01-02 Discuss the significance of accounting systems in generating reliable accounting information and understand the five components of internal control. Learning Objective: 01-03 Explain the importance of financial accounting information for external parties—primarily investors and creditors—in terms of the objectives and the characteristics of that information. Learning Objective: 01-04 Explain the importance of accounting information for internal parties—primarily management—in terms of the objectives and the characteristics of that information.

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Chapter 01 - Accounting: Information for Decision Making

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Chapter 01 - Accounting: Information for Decision Making

Short Answer Questions

124. The information is summarized in a set of statements distributed to the public. Financial

Learning Objective: 01-03 Explain the importance of financial accounting information for external parties—primarily investors and creditors—in terms of the objectives and the characteristics of that information. Learning Objective: 01-04 Explain the importance of accounting information for internal parties—primarily management—in terms of the objectives and the characteristics of that information.

125. The information is historical in nature. It reports the results of events and transactions that have already occurred. Financial

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Chapter 01 - Accounting: Information for Decision Making

126. The timeliness of the information is more critical than its completeness. Management

127. To increase its usefulness to investors and creditors, the information is usually accompanied by explanations from management. Financial

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Chapter 01 - Accounting: Information for Decision Making

128. The information is intended to be used for planning and control decisions. Management

Essay Questions

129. Investors and creditors are interested in a company's "cash flow prospects" What two specific concerns of investors and creditors are summarized by the term "cash flow prospects?" List three financial statements that are used to communicate financial accounting information to interested external parties. Provide a brief example to illustrate that externally reported financial accounting information must be based in part on estimates, judgments, and assumptions. Briefly explain how generally accepted accounting principles enhance the integrity of financial accounting information. 1. Return of investment and return on investment. 2. Balance sheet (Statement of financial position) Income statement Statement of cash flows 3. To account for the use of long lived equipment, estimates must be made of the lifetime and scrap value of that equipment 4. Adherence to generally accepted accounting principles assures comparability of accounting information among organizations.

Learning Objective: 01-02 Discuss the significance of accounting systems in generating reliable accounting information and understand the five components of internal control. Learning Objective: 01-03 Explain the importance of financial accounting information for external parties—primarily investors and creditors—in terms of the objectives and the characteristics of that information. Learning Objective: 01-05 Discuss elements of the system of external and internal financial reporting that create integrity in the reported information.

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Chapter 01 - Accounting: Information for Decision Making

Multiple Choice Questions

133. External users of financial accounting information include all of the following except: A. Investors. B. Labor unions. C. Line managers. D. General public.

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Chapter 01 - Accounting: Information for Decision Making

136. Which of the following is not a user of management accounting information? A. Store manager. B. Chief Executive Officer. C. Creditor. D. Chief Financial Officer.

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Chapter 01 - Accounting: Information for Decision Making

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Chapter 01 - Accounting: Information for Decision Making

CHAPTER 1 NAME 10-MINUTE QUIZ A

# SECTION

Indicate the best answer for each question in the space provided. 1

The best definition of an accounting system is: a Journals, ledgers, and worksheets. b Manual or computer-based records used in developing information about an entity for use by managers and also persons outside the organization. c The personnel, procedures, devices, and records used by an entity to develop accounting information and communicate this information to decision makers. d The concepts, principles, and standards specifying the information which should be included in financial statements, and how that information should be presented.

Suppose a number of your friends have organized a company to develop and sell a new software product. They have asked you to loan them $7,000 to help get the company started, and have promised to repay your $7,000 plus 10% interest in one year. Of the following, which amount may be described as the return on your investment? a $7,000. b $ 700. c $7,700. d Some other amount.

Which of the following is generally not considered one of the general purpose financial statements issued by a corporation? a Income statement forecast for the coming year. b Balance sheet. c Statement of financial position. d Statement of cash flows.

All of the following are characteristics of management accounting, except: a Reports are used primarily by insiders rather than by persons outside of the business entity. b Its purpose is to assist managers in planning and controlling business operations. c Information must be developed in conformity with generally accepted accounting principles or with income tax regulations. d Information may be tailored to assist in specific management decisions.

Which of the following is not an objective of financial reporting? a Provide information useful in assessing amount, timing, and uncertainty of future cash flows. b Provide information useful in making investment and credit decisions. c Provide information about economic resources, claims to resources, and changes in resources and claims. d Provide information to guarantee the enterprise achieves its goals, objectives, and mission.

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Chapter 01 - Accounting: Information for Decision Making

CHAPTER 1

NAME

10-MINUTE QUIZ B

SECTION

Match the organizations on the left with the descriptions on the right. Each description should be used only once. Organization

Description

Financial Accounting Standards Board .

a. Government agency that regulates financial reporting by publiclyheld companies.

Securities and Exchange Commission

b. International organization dedicated to the advancement of internal auditing.

American Accounting Association

c. Private organization most directly involved in the development and issuance of accounting standards.

Institute of Internal Auditors

d. Organization dedicated to the advancement of accounting education and research.

American Institute of CPAs

Organization most involved with the ethical conduct of the accountants working within a company.

Institute of Management Accountants

Organization which develops formal standards for auditing in the United States.

International Accounting Standards Board

g. An organization which develops international accounting standards.

_______Committee of Sponsoring Organizations.

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An organization dedicated to improving financial reporting through ethics, internal controls and corporate governance.

Chapter 01 - Accounting: Information for Decision Making

CHAPTER 1

NAME

10-MINUTE QUIZ C

SECTION

The following is a list of various characteristics of accounting information. In the space provided identify each as a characteristic of either financial or management accounting information.

The information is summarized in a set of statements distributed to the public.

The information is historical in nature. It reports the results of events and transactions that have already occurred.

The timeliness of the information is more critical than its completeness.

To increase its usefulness to investors and creditors, the information is usually accompanied by explanations from management.

The information is intended to be used for planning and control decisions.

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Chapter 01 - Accounting: Information for Decision Making

CHAPTER 1

NAME

10-MINUTE QUIZ D

SECTION

Provide concise written answers to the following: 1.

Investors and creditors are interested in a company’s “cash flow prospects.” What two specific concerns of investors and creditors are summarized by the term “cash flow prospects?”

List three financial statements that are used to communicate financial accounting information to interested external parties.

Provide a brief example to illustrate that externally reported financial accounting information must be based in part on estimates, judgments, and assumptions.

Briefly explain how generally accepted accounting principles enhance the integrity of financial accounting information.

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CHAPTER 1 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

Which of the following does not describe accounting? a Language of business. b Is an end rather than a means to an end. c Useful for decision-making. d Used by businesses, governments, non-profit organizations, and individuals.

To understand and use accounting information in making economic decisions, you must understand: a The nature of economic activities that accounting information describes. b The assumptions and measurement techniques involved in developing accounting information. c Which information is relevant for a particular type of decision that is being made. d All of the above.

Purposes of an accounting system include all of the following except: a Interpret and record the effects of business transactions. b Classify the effects of transactions to facilitate the preparation of reports. c Summarize and communicate information to decision makers. d Dictate the specific types of business transactions that the enterprise may engage in.

External users of financial accounting information include all of the following except: a Investors. b Labor unions. c Line managers. d General public.

Objectives of financial reporting to external investors and creditors includes preparing information about all of the following except: a Information used to determine which products to produce. b Information about economic resources, claims to those resources, and changes in both resources and claims. c Information that is useful in assessing the amount, timing, and uncertainty of future cash flows. d Information that is useful in making investment and credit decisions.

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Chapter 01 - Accounting: Information for Decision Making

Financial accounting information is characterized by all of the following except: a It is historical in nature. b It results from inexact and approximate measures. c It is factual, so it does not require judgment to prepare. d It is enhanced by management’s explanation.

Which of the following is not a user of management accounting information? a Store manager. b Chief Executive Officer. c Creditor. d Chief Financial Officer.

Characteristics of management accounting information include all of the following except: a Is audited by a CPA. b It must be timely. c It is oriented toward the future. d It measures efficiency and effectiveness.

Which of the following are important factors in ensuring the integrity of accounting information? a Institutional factors, such as standards for preparing information. b Professional organizations, such as the American Institute of CPAs. c Competence, judgment and ethical behavior of individual accountants. d All of the above.

The code of ethics of the American Institute of Certified Public Accountants includes requirements in which of the following areas? a The Public Interest. b Objectivity. c Independence. d All of the above.

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SOLUTIONS TO 10 MINUTE QUIZZES QUIZ A 1 C 2 B 3 A 4 C 5 C Learning Objective: 2, 3, 4 QUIZ B Financial Accounting Standards Board Securities and Exchange Commission American Accounting Association Institute of Internal Auditors American Institute of CPAs Institute of Management Accountants International Accounting Standards Board Committee of Sponsoring Organizations Learning Objective: 6 QUIZ C

c a d b f e g h

1 Financial 2 Financial 3 Management 4 Financial 5 Management Learning Objective: 3, 4 QUIZ D 1 2

Return of investment and return on investment. Balance sheet (Statement of financial position) Income statement Statement of cash flows 3 To account for the use of long lived equipment, estimates must be made of the lifetime and scrap value of that equipment 4 Adherence to generally accepted accounting principles assures comparability of accounting information among organizations. Learning Objective: 2, 3, 5

ANSWERS TO CHAPTER 1 SELF-TEST QUESTIONS FROM TEXTBOOK 1. b 2. d 3. d 4. c 5. a 6. c 7. c 8. a 9. d

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Chapter 02 - Basic Financial Statements

Chapter 02 Basic Financial Statements True / False Questions

1. A business entity is regarded as separate from the personal activities of its owners whether it is a sole proprietorship, a partnership, or a corporation. True False

2. Assets need not always have physical characteristics such as buildings, machinery or inventory. True False

3. The going concern principle assumes that the business will continue indefinitely. True False

4. Notes payable and accounts payable are written promises to pay an amount owed by a certain date. Notes payable generally have interest but accounts payable generally do not. True False

5. A profit results from having more revenues than liabilities. True False

6. The sale of additional shares of share capital will cause treasury shares to increase. True False

7. Articulation between the financial statements means that they relate closely to each other. True False

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8. Limited liability means that owners of a business are only liable for the debts of the business up to the amounts they can afford. True False

9. In a business organized as a corporation, it is not necessary to list the equity of each shareholder on the balance sheet. True False

10. Total assets always equal total liabilities plus total equity. True False

11. A cash flow statement reports revenue and expense activities for a specific time period such as one month or one year. True False

12. Any business event that might affect the future profitability of a business should be reported in its balance sheet. True False

13. Total assets plus total liabilities equals total equity. True False

14. The practice of showing assets on the balance sheet at their cost rather than at their current market value is explained in part by the fact that cost is supported by objective evidence that can be verified by independent experts. True False

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15. The recognition principle states that the activities of an entity should be kept separate from those of its owner. True False

16. The entity principle states that the affairs of the owners are not part of the financial operations of a business entity and should be separated. True False

17. The accounting equation may be stated as "assets minus liabilities equals equity." True False

18. A transaction that causes an increase in an asset may also cause a decrease in another asset, an increase in a liability, or an increase in equity. True False

19. The collection of an account receivable will cause total assets to decrease. True False

20. The payment of a liability causes an increase in equity. True False

21. When a business borrows money from a bank, the immediate effect is an increase in total assets and a decrease in liabilities or equity. True False

22. The purchase of an asset such as office equipment, for cash will cause equity to decrease. True False

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23. The owner of a sole proprietorship is personally liable for the debts of the business, whereas the shareholders of a corporation are not personally liable for the debts of the business. True False

24. If a company purchases equipment for cash, its total assets will increase. True False

25. If a company purchases equipment by issuing a note payable, its total assets will not change. True False

26. It is not unusual for an entity to report a significant increase in cash from operating activities, but a decrease in the total amount of cash. True False

27. The cash flow statement provides a link between two balance sheets by showing how profit (or loss) has changed equity from one balance sheet date to the next. True False

28. According to Sarbanes-Oxley, internal controls must be audited by the same accounting firm that audits the financial statements. True False

29. The Public Company Accounting Oversight Board was created by the American Institute of CPAs to oversee the public accounting profession. True False

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30. The major outgrowth from business failures and allegations of fraudulent financial reporting during the 1990's was the passage of the Securities and Exchange Act. True False

Multiple Choice Questions

31. Which of the following best describes liquidity? A. The ability to increase the value of retained earnings B. The ability to pay the debts of the company as they become due. C. Being able to buy everything the company requires for cash. D. Purchasing everything the company requires on credit.

32. Profitability may be defined as: A. The ability to pay the debts of the company as they fall due. B. The ability to increase retained earnings. C. Distributing dividends D. Having excess cash

33. The principle of adequate disclosure means that a company should disclose: A. Only the important monetary information. B. All confidential information regarding the company. C. Any financial facts that a reasonable informed person would consider necessary for the proper interpretation of the financial statements. D. Only subsequent events.

34. Blue Wholesale Shirt Co. sold shirts to Pink Retail Shoppe. The owner of Pink Retail said she would pay Blue at a later date which Blue Wholesale Shirt Co. agreed to. Blue Wholesale Shirt Co. is considered to be a: A. borrower B. liability C. creditor D. debtor

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Chapter 02 - Basic Financial Statements

35. Equity in a business increases as a result of which of the following? A. Payments of cash to the owners. B. Losses from unprofitable operation of the business. C. Earnings from profitable operation of the business. D. Borrowing from a commercial bank.

36. Equity in a business decreases as a result of which of the following? A. Investments of cash by the owners. B. Profits from operating the business. C. Losses from unprofitable operation of the business D. Repaying a loan to a commercial bank

37. Which one of the following is not considered one of the three primary financial statements? A. Balance sheet. B. Income statement. C. Statement of cash flows. D. Statement of budgeting activities.

38. Which of the following is the primary objective of financial statements? A. Providing managers with detailed information tailored to the managers' specific information needs. B. Providing people outside the business organization with information about the company's financial position and operating results. C. Reporting to the tax authority the company's taxable income. D. Indicating to investors in a particular company the current market values of their investments.

39. Which of the following is descriptive of the proper form of a balance sheet? A. The heading sets forth the period of time covered. B. Cash is always the first asset listed, followed by permanent assets (such as land and buildings), and finally by assets such as receivables and supplies. C. Liabilities are listed before equity. D. A subtotal for total assets plus total liabilities is shown.

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Chapter 02 - Basic Financial Statements

40. A balance sheet is designed to show: A. How much a business is worth. B. The profitability of the business during the current year. C. The assets, liabilities, and equity of a business as of a particular date. D. The cost of replacing the assets and of paying off the liabilities at December 31.

41. The way in which financial statements relate is known as: A. Solvency. B. Objectivity. C. Articulation. D. Entity.

42. If total assets equal $270,000 and total liabilities equal $202,500, the total equity must equal: A. $472,500. B. $67,500. C. Can not be determined from the information given. D. Some other amount.

43. Which of the following best defines an asset? A. Something with physical form that is valued at cost in the accounting records. B. An economic resource owned by a business and expected to benefit future operations. C. An economic resource representing cash or the right to receive cash in the near future. D. Something owned by a business that has a ready market value.

44. To appear in a balance sheet of a business entity, an asset need not: A. Be an economic resource. B. Have a ready market value. C. Be expected to benefit future operations. D. Be owned by the business.

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45. If total assets equal $345,000 and total equity equal $120,000, then total liabilities must equal: A. $465,000. B. $225,000. C. Can not be determined from the information given. D. Some other amount.

46. A balance sheet: A. Provides owners, investors, and other interested parties with all the financial information they need to evaluate the financial strength, profitability, and future prospects of a given business entity. B. Shows the current market value of the equity in the business at the balance sheet date. C. Assists creditors in evaluating the debt-paying ability of a business by showing the assets and liabilities of the business combined with those of its owner (or owners). D. Shows the assets, liabilities, and equity of a business entity, valued in conformity with generally accepted accounting principles.

47. Which of the following is correct f a company purchases equipment for $70,000 cash? A. Total assets will increase by $70,000. B. Total assets will decrease by $70,000. C. Total assets will remain the same. D. The company's total equity will decrease.

48. From an accounting viewpoint, when is a business considered an entity separate from its owner(s)? A. Only when organized as a sole proprietorship. B. Only when organized as a partnership. C. Only when organized as a corporation. D. In each of the above situations, the business is an accounting entity separate from the activities of the owner(s).

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Chapter 02 - Basic Financial Statements

49. If a company purchases equipment for $65,000 by issuing a note payable: A. Total assets will increase by $65,000. B. Total assets will decrease by $65,000. C. Total assets will remain the same. D. The company's total equity will decrease.

50. The valuation of assets in the balance sheet is based primarily upon: A. What it would cost to replace the assets. B. Cost, because cost is usually factual and verifiable. C. Current fair market value as established by independent appraisers. D. Cost, because in the event of liquidation, the assets would be sold at an amount equal to their original cost.

51. Which of the following is not a generally accepted accounting principle relating to the valuation of assets? A. The cost principle - in general, assets are valued at cost, rather than at estimated market values. B. The objectivity principle - accountants prefer to use objective, rather than subjective, information as the basis for accounting information. C. The safety principle - assets are valued at no more than the value for which they are insured. D. The going-concern assumption - one reason for valuing assets such as buildings and equipment at cost rather than at their current market values is the assumption that the business will use these assets rather than sell them.

52. Each year the accountant for Southern Real Estate Company adjusts the recorded value of each asset to its market value. Using these market value figures on the balance sheet violates: A. The accounting equation. B. The stable-dollar assumption. C. The business entity concept. D. The cost principle.

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53. The owner of Westhampton Fish Eatery purchased a new car for his daughter who is away at college at a cost of $43,000 and reported this amount as Delivery Vehicle in the restaurant's balance sheet. The reporting of this item in this manner violated the: A. Cost principle. B. Business entity concept C. Objectivity principle. D. Going-concern assumption.

54. Which of the following is correct when a company uses cash to pay for an expense? A. Total assets will decrease. B. Retained earnings will decrease. C. Equity will decrease. D. All three of the above statements are correct.

55. If cash flows from operating activities is a negative amount: A. The company must have a loss for the year. B. The company must have a profit for the year. C. The company must have paid off more debts than it earned during the year. D. The company may have profit or a loss for the year.

56. Eton Corporation purchased land in 1990 for $190,000. In 2008, it purchased a nearly identical parcel of land for $430,000. In its 2008 balance sheet, Eton valued these two parcels of land at a combined value of $860,000. Reporting the land in this manner violated the: A. Cost principle. B. Principle of the business entity. C. Objectivity principle. D. Going-concern assumption

57. Bob Bertolucci, owner of Bob's Bazaar, also owns a personal residence that cost $575,000, but has a market value of $725,000. During preparation of the financial statements for Bob's Bazaar, the accounting principle most relevant to the presentation of Bob's home is: A. The concept of the business entity. B. The cost principle. C. The going-concern assumption. D. The objectivity principle.

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58. Which of the following will not cause a change in the equity of a business? A. Payment of an interest free business debt. B. Withdrawal of cash by the owner. C. Sale of land at a profit. D. Losses from unprofitable operations.

59. Which business organization is recognized as a separate legal entity under the law? A. Corporation. B. Sole proprietorship. C. Partnership. D. All three.

60. The amount of equity in a business is not affected by: A. The percentage of total assets held in cash. B. Investments made in the business by the owner. C. The profitability of the business. D. The amount of dividends paid to shareholders.

61. Decreases in equity are caused by: A. Purchases of assets and payment of liabilities. B. Purchases of assets and incurrence of liabilities. C. Payment of liabilities and unprofitable operations. D. Distributions of assets to the owner and unprofitable operations.

62. Which of the following transactions would cause a change in equity? A. Repayment of the principal on a bank loan. B. Purchase of a delivery truck on credit. C. Sale of land on credit for a price above cost. D. Borrowing money from a bank.

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63. An expense is best defined as: A. Any payment of cash for the benefit of the company. B. Past, present or future payments of cash required to generate revenues. C. Past payments of cash required to generate revenues. D. Future payments of cash required to generate revenues.

64. If a transaction causes an asset account to decrease, which of the following related effects may occur? A. An increase of equal amount in an equity account. B. An increase in a liability account. C. An increase of equal amount in another asset account. D. An increase in the combined total of liabilities and equity.

65. The payment of a business debt not including interest: A. Decreases total assets. B. Increases total liabilities. C. Increases the equity in the business. D. Decreases the equity in the business.

66. The accounting principle that assumes that a company will operate in the foreseeable future is: A. Going concern. B. Objectivity. C. Liquidity. D. Disclosure.

67. Deerpark Corporation recently borrowed $70,000 cash from its bank. Which of the following was unaffected by this transaction? A. Assets. B. Liabilities. C. Equity. D. Cash.

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Chapter 02 - Basic Financial Statements

68. Which of the following transactions would cause an increase in both assets and equity? A. Investment of cash in the business by the owner. B. Sale of land for a price less than its cost. C. Borrowing money from a bank. D. Sale of land for cash at a price equal to its cost.

69. A transaction caused an increase in both assets and equity. This transaction could have been: A. A sale of service to a customer producing revenue. B. Sale of land for a price less than its cost. C. Borrowing money from a bank. D. Sale of land for cash at a price equal to its cost.

70. Retained earnings is: A. The positive cash flows of a company. B. Net worth of a company. C. The equity that has accumulated as a result of profitable operations. D. Equal to the total assets of a company.

71. A revenue transaction results in all of the following except: A. An increase in assets. B. An increase in equity. C. A positive cash flow in either the past, present, or future. D. An increase in liabilities.

72. If a company has a profit: A. Assets will be equal to liabilities plus equity. B. Assets will be less than liabilities plus equity. C. Assets will be greater than liabilities plus equity. D. Equity will be greater than its assets.

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73. Which of the following activities is not a category into which cash flows are classified? A. Marketing activities. B. Operating activities. C. Financing activities. D. Investing activities.

74. The change in equity from one balance sheet to the next is partially explained by the: A. Statement of cash flows. B. Statement of financial position. C. Income statement. D. Tax return.

75. Share capital represents: A. The amount invested in the business by shareholders when shares were initially issued by a corporation. B. The equity for a business organized as a corporation. C. The equity accumulated through profitable operations that have not been paid out as dividends. D. The price paid by the current owners to acquire shares in the corporation, regardless of whether they bought the shares directly from the corporation or from another shareholder.

76. The balance sheet item that represents the portion of equity resulting from profitable operation of the business is: A. Accounts receivable. B. Cash. C. Share capital. D. Retained earnings.

77. Retained earnings appears on: A. The income statement. B. The balance sheet. C. The statement of cash flows. D. All three statements.

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78. Which of the following statements regarding liquidity and profitability is not true? A. If a business is unable to pay its debts as they come due, it is operating unprofitably. B. A business may be liquid, yet operate unprofitably for several years. C. A business may operate profitably, yet be unable to meet its obligations. D. In order to survive in the long run, a business must both remain liquid and operate profitably.

79. The concept of adequate disclosure means that: A. The accounting department of a business must inform management of the accounting principles used in preparing the financial statements. B. The company must inform users of any significant facts necessary for proper interpretation of the financial statements, including events occurring after the financial statement date. C. The independent auditors must disclose in the financial statements any and all errors detected in the company's accounting records. D. The financial statements should include a comprehensive list of each transaction that occurred during the year.

80. If cash increases during a year, it must mean that: A. There was positive profit on the income statement. B. Retained earnings increased. C. The net worth of a company increased. D. None of the three statements above must necessarily be true.

81. A strong statement of cash flows indicates that significant cash is being generated by: A. Operating activities. B. Financing activities. C. Investing activities. D. Effective tax planning.

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Chapter 02 - Basic Financial Statements

At December 31, 2009, the accounting records of Braun Corporation contain the following items:

Accounts Payable Land Share capital Building Retained Earnings

$16,000 $240,000 ? $180,000 $160,000

Accounts Receivable Cash Equipment Notes Payable

$400,000 ? $120,000 $190,000

82. Refer to the above data. If Share Capital is $260,000, what is the December 31, 2009 cash balance? A. $86,000. B. $94,000. C. $46,000. D. $686,000.

83. Refer to the above data. If Share Capital is $320,000, total assets of Braun Corporation at December 31, 2009, amount to: A. $686,000. B. $926,000. C. $726,000. D. $106,000.

84. Refer to the above data. If Cash at December 31, 2009, is $86,000, Share Capital is: A. $260,000. B. $300,000. C. $620,000. D. $168,000.

85. Refer to the above data. If Cash at December 31, 2009, is $26,000, total equity is: A. $160,000. B. $366,000. C. $606,000. D. $400,000.

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Chapter 02 - Basic Financial Statements

86. Refer to the above data. If Cash at December 31, 2009, is $66,000, total assets amount to: A. $606,000. B. $806,000. C. $662,000. D. $646,000.

At December 31, 2010, the accounting records of Hercules Manufacturing Limited contain the following items:

Accounts Payable Land Building Notes Payable Retained Earnings

$12,000 $90,000 $250,000 $135,000 ?

Accounts Receivable Cash Equipment Share capital

$30,000 $7,000 ? 188,000

88. Refer to the above data. If total assets of Hercules Manufacturing Limited are $556,000, Retained Earnings at December 31, 2010, must be: A. $811,000. B. $180,000. C. $221,000. D. $335,000.

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Chapter 02 - Basic Financial Statements

89. Refer to the above data. If Retained Earnings at December 31, 2010, is $140,000, total assets amount to: A. $ 98,000. B. $377,000. C. $475,000. D. $188,000.

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Chapter 02 - Basic Financial Statements

At December 31, 2011 the accounting records of Gordon Limited contain the following items:

Accounts Payable Land Building Notes Payable Retained Earnings

$2,500 $30,000 $31,250 ? $125,000

Accounts Receivable Cash Equipment Share capital

$18,750 ? $40,000 12,500

92. Refer to the above data. If the Notes Payable is $10,000, the December 31, 2011 cash balance is: A. $ 60,000. B. $160,000. C. $ 30,000. D. $ 20,000.

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Chapter 02 - Basic Financial Statements

93. Refer to the above data. If the Note Payable balance is $25,000, then the total assets of Gordon Limited at December 31, 2011 amount to: A. $27,500. B. $152,500. C. $120,000. D. $165,000.

94. Refer to the above data. If the Cash balance at December 31, 2011 is $67,500, the Note Payable balance is: A. $118,750. B. $ 47,500. C. $137,500. D. $140,000.

95. Refer to the above data. If the Cash balance at December 31, 2011 is $62,500 then total liabilities amount to: A. $ 42,500. B. $140,000. C. $ 45,000. D. $182,500.

96. Which of the following is correct if at the end of Crystal Imports' first year of operations, assets are $800,000 and equity is $720,000? A. The owner must have invested $720,000 to start the business. B. The business must be operating profitably. C. Liabilities are $80,000. D. Liabilities are $1,520,000.

97. During the current year, the assets of Wheatley's increased by $362,000, and the liabilities increased by $260,000. The equity in the business must have: A. Decreased by $102,000. B. Decreased by $622,000. C. Increased by $102,000. D. Increased by $622,000.

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Chapter 02 - Basic Financial Statements

98. The total liabilities of Hogan's Company on the balance sheet are $270,000; this amount is equal to three-fourths of the total assets. What is the amount of equity? A. $202,500. B. $ 90,000. C. $360,000. D. $630,000.

99. Thirty percent of the total assets of Shanahan Corporation have been financed through borrowing. The total liabilities of the company are $600,000. What is the amount of equity? A. $ 180,000. B. $2,000,000. C. $1,400,000. D. $2,600,000.

100. A transaction caused a $60,000 increase in both assets and total liabilities. This transaction could have been which of the following? A. Purchase for office equipment for $60,000 cash. B. Purchase of office equipment for $120,000, paying $60,000 cash and issuing a note payable for the balance. C. Repayment of a $60,000 bank loan. D. Investment of $60,000 cash in the business by the owner.

101. If $9,600 cash and a $31,000 note payable are given in exchange for some office machines to be used in a business: A. Total assets are increased. B. Total liabilities are decreased. C. Total assets are decreased. D. The equity is increased.

102. During the current year, liabilities of Corbett's Store increased by $220,000, and equity increased by $160,000 then A. Assets at the end of the year total $380,000. B. Assets at the end of the year total $60,000. C. Assets increased during the year by $380,000. D. Assets decreased during the year by $60,000.

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Chapter 02 - Basic Financial Statements

103. During the current year, liabilities of Hayden Travel decreased by $50,000, and equity increased by $75,000 then. A. Assets at the end of the year total $125,000. B. Assets at the end of the year total $25,000. C. Assets increased during the year by $25,000. D. Assets decreased during the year by $125,000.

104. At the end of the current year, the equity in Barclay Bakery is $246,000. During the year the assets of the business had increased by $120,000, and the liabilities had increased by $72,000. Equity at the beginning of the year must have been: A. $198,000. B. $174,000. C. $284,000. D. $438,000.

105. At the end of the current year, the equity in Durante Co. is $360,000. During the year the assets of the business had increased by $68,000, and the liabilities had increased by $118,000. Equity at the beginning of the year must have been: A. $410,000. B. $310,000. C. $546,000. D. $174,000.

106. During the current year, the assets of Quality Stairs increased by $175,000 and the liabilities decreased by $15,000. If the equity in the business is $475,000 at the end of the year, the equity at the beginning of the year must have been: A. $335,000. B. $285,000. C. $665,000. D. $615,000.

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Chapter 02 - Basic Financial Statements

107. During the month of May, 2009, the Henderson Company had the following transactions: * Revenues of $60,000 were earned and received in cash. * Bank loans of $9,000 were paid off. * Equipment of $20,000 was purchased. * Expenses of $36,800 were paid. * Shareholders purchased additional shares for $22,000 cash. A statement of cash flows for May, 2009, would report net cash flows from operating activities of: A. $60,000 B. $16,200 C. $23,200 D. $20,000

Astoria Co. had the following transactions during the month of August, 2010: * Cash received from bank loans was $20,000. * Dividends of $9,500 were paid to shareholders in cash. * Revenues earned and received in cash amounted to $33,500 * Expenses incurred and paid were $26,000

108. Refer to the above data. What amount of profit will be reported on an income statement for the month of August, 2010? A. $20,000. B. $7,500. C. $0. D. $33,500.

109. Refer to the above data. At the beginning of August, 2010, equity in Astoria was $160,000. Given the transactions of August, 2010, what will equity be at the end of the month? A. $167,500. B. $150,500. C. $193,500. D. $158,000.

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110. Refer to the above data. For the month of August, 2010, net cash flows from operating activities for Astoria were: A. $33,500. B. $7,500. C. $20,000. D. $26,000.

111. The major provisions of the Sarbanes-Oxley Act of 2002 include all of the following except: A. The creation of a new agency to over see the public accounting profession. B. Restrictions on the types of consulting services that accounting firms can provide to audit clients. C. Reducing responsibility for audit committees when overseeing the financial reporting process. D. Requiring the chief executive office and the chief financial officer to certify the accuracy of their company's financial statements.

112. According to the Sarbanes-Oxley Act, CEOs and CFOs must certify to the accuracy of their company's financial statements A. Monthly and Quarterly B. Quarterly and Annually C. Monthly and Annually D. CEOs and CFOs are not required to certify to the company's financial statement; only CPA's do.

Essay Questions

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Chapter 02 - Basic Financial Statements

113. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Assets Balance Sheet Cost principle

Accounting equation Liabilities Equity

Inflation Going concern assumption Liquidity

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. Do not use a term more than once. (A.) Having the financial ability to pay debts as they become due. (B.) An assumption that a business will operate in the foreseeable future. (C.) Economic resources owned by businesses that are expected to benefit future operations. (D.) The debts or obligations of a business organization. (E.) Assets - Liabilities = Equity (F.) The principle which states that assets are valued in the balance sheet at their historical cost. (G.) A residual amount equal to assets minus liabilities.

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115. Effects of transactions on elements of the accounting equation Some of the transactions carried out by Tudor Wholesale during the first month of the company's existence are listed below. You are to determine the effect of each transaction on the total assets, the total liabilities, and the equity. Prepare your answer in columnar form, identifying each transaction by letter and using the symbols (+) for increase, (-) for decrease, and (NC) for no change. An answer is provided for the first transaction to serve as an example.

Transactions

Assets

A. Issued share capital in exchange for cash B. Bought land and a building at a total price of $165,000. Made a down payment of $65,000 cash and signed a note payable for the balance. C. Bough adjoining lot for use as parking lot; paid cash in full D. Sold a portion of the land on credit at a price equal to its cost. E. Obtained a loan from a bank F. Purchased office equipment on credit. G. Paid a liability. H. Collected part of amount owned to the business from purchaser of land. I. Sold another portion of the land for cash at a price in excess of cost.

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Total Liabilities NC

Equity +

Chapter 02 - Basic Financial Statements

116. Effects of transactions on elements of the accounting equation Some of the transactions carried out by Tsang Company during the first month of the company's existence are listed below. You are to determine the dollar effect of each transaction on the total assets, the total liabilities, and the equity of Tsang Company. Use the symbols (+) for increase, (?) (-) for decrease, and (NC) for no change. An answer is provided for the first transaction to serve as an example.

Transactions

Assets

A. Issued share capital to Don Tsang in exchange for his investment of $200,000 in the business B.Purchased a computer for the business for $5,000 cash. C. Borrowed $200,000 from the bank. D. Purchased office furnishings at a total price of $4,200, terms $600 cash and balance payable in two installments. E. Paid $1,800 of the balance due on the office furnishings. F. Sold an extra monitor that had cost $250 for $300 on credit. G. Collected $150 of amount receivable from purchaser of the monitor. H. Bought a small truck to be used in the business for $29,000; paid cash in full.

Total Equity Liabilities +$200,000 NC +200,000

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Chapter 02 - Basic Financial Statements

117. Computation of assets, liabilities, and equity after a series of transactions On April 30, 2009, the balance sheet of China Collectibles showed total assets of $700,000, total liabilities of $400,000, and equity of $300,000. The following transactions occurred in May of 2009: (1) Share capital was issued in exchange for $165,000 cash. (2) The business purchased equipment for $360,000, paying $160,000 cash and issuing a note payable for $200,000. (3) The business paid off $70,000 of its accounts payable. (4) The business collected $54,000 of its accounts receivable. Compute the following as of May 31, 2009: (A.) Total assets $___________ (B.) Total liabilities $___________ (C.) Equity $___________

118. Computation of assets, liabilities, and equity after a series of transactions The December 31, 2009, balance sheet of Charles Realty reported total assets of $900,000, total liabilities of $350,000, and equity of $550,000. The following transactions occurred in January of 2010: (1) The business purchased land for $250,000, paying $100,000 cash and issuing a note payable for the balance. (2) The business collected accounts receivable totaling $45,000. (3) The business sold one-fifth of the land (which had cost $50,000) land costing $50,000 for $60,000 cash. (4) The business paid off $50,000 of the note payable. Compute the following at January 31, 2010: (A.) Total assets$__________ (B.) Total liabilities$__________ (C.) Equity$__________

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Chapter 02 - Basic Financial Statements

119. Preparation of balance sheet Prepare the balance sheet as of December 31, 2009, for Gamma Company, from the following list of items which are arranged in random order. You must compute the amount for accounts payable to complete the balance sheet.

Accounts Payable Land Building Share capital

$? $41,600 $533,000 $494,000

Land Notes Payable Accounts receivable Cash

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$260,000 $377,000 $18,750 $19,760

Chapter 02 - Basic Financial Statements

120. Preparation of balance sheet after a series of transactions The balance sheet was as follows for Custom Ceramics on February 1, 2010:

Assets Land Buildings Office Equipment Accounts receivable Cash

Total assets

$80,000 50,000 30,000 5,200 7,000 ______

$172,200

Custom Ceramics Balance Sheet February 1, 2010 Liabilities & Shareholders’ Equity Liabilities: Notes payable $40,000 Accounts payable 6,000 Total liabilities 46,000 Shareholders’ equity Share capital $100,000 Retained earnings 26,200 $126,200 Total liabilities Shareholders’ equity $172,200

During the first week of February, the following transactions occurred: * The business used cash to pay off $5,000 of its accounts payable. (No payment was made on the notes payable.) * Additional share capital was issued to Joan Custom for $15,000 cash. * Equipment was purchased on credit for $1,800 * The business collected $4,000 cash from accounts receivable. Complete the balance sheet for Custom Ceramics as of February 8, 2010.

Assets Land Buildings Office Equipment Accounts receivable Cash

Total assets

Custom Ceramics Balance Sheet February 8, 2010 Liabilities & Shareholders’ Equity $ Liabilities: Notes payable $ Accounts payable Total liabilities $ Shareholders’ equity ______ Share capital Retained earnings $ Total liabilities $_____ Shareholders’ equity $______

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Chapter 02 - Basic Financial Statements

121. Completion of Balance Sheet Use the following information to complete the balance sheet of Adelphi Construction as of December 31, 2010. (1) The company was organized on January 1, 2010, and has operated for the full year 2010. (2) Earnings have amounted to $275,000, and dividends of $70,000 have been paid to shareholders. (3) Cash and accounts receivable together amount to one and one-half times as much as notes payable.

Assets Land Buildings Equipment Accounts receivable Cash

Total assets

Adelphi Construction Balance Sheet December 31, 2010 Liabilities & Shareholders’ Equity $184,000 Liabilities: 250,000 Notes payable $ 96,000 Accounts payable 85,000 Income taxes payable $ 40,000 Total liabilities $215,000 Shareholders’ equity ______ Share capital $ Retained earnings $______ Total liabilities $ Shareholders’ equity $620,000

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Chapter 02 - Basic Financial Statements

122. Completion of balance sheet Use the following information to complete the December 31, 2009, balance sheet of Copper Supplies Company. (1) Equity as of January 1, 2009, totaled $175,000, which included share capital of $150,000. (2) Additional share capital was issued during 2009 in exchange for $40,000 cash. (3) Profit for 2009 amounted to $200,000; no dividends were paid during 2009. (4) Cash and accounts receivable together amount to 3 times as much as accounts payable.

Assets Land Buildings Equipment Accounts receivable Cash

Total assets

Copper Supplies Company Balance Sheet December 31, 2009 Liabilities & Shareholders’ Equity $ 215,000 Liabilities: 300,000 Accounts payable $40,000 ? Notes payable ? ? Total liabilities $ ? 30,000 Shareholders’ equity Share capital $ Retained earnings $______? Total liabilities $ 620,000 Shareholders’ equity $_______?

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Chapter 02 - Basic Financial Statements

123. Effects of transactions on balance sheet items Show the effect of each of the seven listed transactions on the balance sheet items of Distinctive Draperies. Indicate the new balances after the transaction of May 2 and each subsequent transaction. The effects of the May 1 transaction are already filled in to provide you with an example. May

1 2 8 16 28 30 31

Issued share capital for $75,000 Purchased a small office building at a price of $58,000 for the land and $65,000 for the building. Paid $43,000 cash and signed a note payable for the balance. Borrowed $15,000 from the bank. Signed a 60-day note payable for this amount Purchased copying machines, computers, and other office equipment for $19,000. Paid $9,000 cash and signed a ntoe payable for the balance. Sold an item of office equipment (computer) to a shareholder at its cost of $2,800. The shareholder paid $800 cash and promised to pay the balance within 30 days. Paid $5,000 on the liability for the office equipment. Collected $500 from the shareholder who had bought the computer.

Assets Cash May 1 2 Balance 8 Balance 16 Balance 28 Balance 30 Balance 31 Balance

Accounts Receivable

Land

+$75,000

Building

Office Equipment

Liabilities

Notes Payable

Shareholders’ Equity Share Capital +$75,000

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Chapter 02 - Basic Financial Statements

124. Effects of transactions on balance sheet items Show the effect of each of the seven listed transactions on the balance sheet items of Renaissance Investment Services Limited Indicate the new balances after the transaction of November 2 and each subsequent transaction. The effects of the November 1 transaction are already filled in to provide you with an example.

Nov

1 2 7 12 22 30

Issued share capital for $200,000 Purchased a small office building at a price of $86,000 for the land and $74,000 for the building. Made a cash payment of 20% of the total price and signed a note payable for the balance. Purchased telephones, computers, and other office equipment for $58,000. Paid $23,000 cash and signed a ntoe payable for the balance. Sold one of the comptuers to a shareholder at its cost of $3,500. The shareholder paid $500 cash and agreed to pay the balance within 10 days. Received $3,000 due from the shareholder who had purchased the computer. Paid $17,500 on the note payable for the office equipment.

Assets Cash May 1 2 Balance 7 Balance 12 Balance 22 Balance 30 Balance

+ Accounts Receivable

Land

+$200,000

Building

Office Equipment

Liabilities

Notes Payable

Shareholders’ Equity + Share Capital +$200,000

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Chapter 02 - Basic Financial Statements

125. An inexperienced accounting intern at Tasso Company prepared the following income statement for the month of July, 2009:

Tasso Company Month of July, 2009 Revenues: Services provided to customers Share Capital Loan from bank

$25,000 12,500 37,500

Expenses: Payments to long-term creditors Expenses required to provide services to Customers Purchase of equipment Profit for the month

$75,000

$20,000 18,750 10,000

48,750 $26,250

Instructions: Prepare a revised income statement in accordance with generally accepted accounting principles.

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Chapter 02 - Basic Financial Statements

126. List the following accounts in the order that they would appear on a balance sheet Share capital Equipment Accounts Receivable Retained Earnings Revenue Accounts Payable Cash Rent Expense

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Chapter 02 - Basic Financial Statements

127. From the following accounts and amounts prepare a balance sheet for the Swell Company for December 31, 2010. You must compute the amount for retained earnings to complete the balance sheet.

Accounts Payable Accounts Receivable Building Share Capital Cash Equipment Insurance Expense Land Notes Payable Sales Revenue Salaries Expense

$61,250 $70,500 $50,000 $50,000 $64,000 $30,000 $5,000 $125,000 $175,000 $25,000 $20,000

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Chapter 02 - Basic Financial Statements

131. Forms of Business Organization State and describe the three most common forms of business organizations in the United States.

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Chapter 02 - Basic Financial Statements

Chapter 02 Basic Financial Statements Answer Key

True / False Questions

1. A business entity is regarded as separate from the personal activities of its owners whether it is a sole proprietorship, a partnership, or a corporation. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2 Learning Objective: 8

2. Assets need not always have physical characteristics such as buildings, machinery or inventory. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

3. The going concern principle assumes that the business will continue indefinitely. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

2-39

Chapter 02 - Basic Financial Statements

4. Notes payable and accounts payable are written promises to pay an amount owed by a certain date. Notes payable generally have interest but accounts payable generally do not. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 4

5. A profit results from having more revenues than liabilities. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5

6. The sale of additional shares of share capital will cause treasury shares to increase. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

7. Articulation between the financial statements means that they relate closely to each other. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

2-40

Chapter 02 - Basic Financial Statements

8. Limited liability means that owners of a business are only liable for the debts of the business up to the amounts they can afford. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 8

9. In a business organized as a corporation, it is not necessary to list the equity of each shareholder on the balance sheet. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 8

10. Total assets always equal total liabilities plus total equity. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

11. A cash flow statement reports revenue and expense activities for a specific time period such as one month or one year. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 6

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Chapter 02 - Basic Financial Statements

12. Any business event that might affect the future profitability of a business should be reported in its balance sheet. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

13. Total assets plus total liabilities equals total equity. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

15. The recognition principle states that the activities of an entity should be kept separate from those of its owner. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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Chapter 02 - Basic Financial Statements

16. The entity principle states that the affairs of the owners are not part of the financial operations of a business entity and should be separated. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

17. The accounting equation may be stated as "assets minus liabilities equals equity." TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

18. A transaction that causes an increase in an asset may also cause a decrease in another asset, an increase in a liability, or an increase in equity. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

19. The collection of an account receivable will cause total assets to decrease. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 02 - Basic Financial Statements

20. The payment of a liability causes an increase in equity. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

21. When a business borrows money from a bank, the immediate effect is an increase in total assets and a decrease in liabilities or equity. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

22. The purchase of an asset such as office equipment, for cash will cause equity to decrease. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

23. The owner of a sole proprietorship is personally liable for the debts of the business, whereas the shareholders of a corporation are not personally liable for the debts of the business. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 8

2-44

Chapter 02 - Basic Financial Statements

24. If a company purchases equipment for cash, its total assets will increase. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

25. If a company purchases equipment by issuing a note payable, its total assets will not change. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

26. It is not unusual for an entity to report a significant increase in cash from operating activities, but a decrease in the total amount of cash. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

27. The cash flow statement provides a link between two balance sheets by showing how profit (or loss) has changed equity from one balance sheet date to the next. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 02 - Basic Financial Statements

28. According to Sarbanes-Oxley, internal controls must be audited by the same accounting firm that audits the financial statements. TRUE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 9

29. The Public Company Accounting Oversight Board was created by the American Institute of CPAs to oversee the public accounting profession. FALSE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 9

30. The major outgrowth from business failures and allegations of fraudulent financial reporting during the 1990's was the passage of the Securities and Exchange Act. FALSE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 9

Multiple Choice Questions

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 02 - Basic Financial Statements

32. Profitability may be defined as: A. The ability to pay the debts of the company as they fall due. B. The ability to increase retained earnings. C. Distributing dividends D. Having excess cash

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

2-47

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 7

2-48

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 Learning Objective: 4 Learning Objective: 5 Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

2-49

Chapter 02 - Basic Financial Statements

41. The way in which financial statements relate is known as: A. Solvency. B. Objectivity. C. Articulation. D. Entity.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

2-50

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

2-51

Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 2 Learning Objective: 8

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

2-52

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

2-53

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

55. If cash flows from operating activities is a negative amount: A. The company must have a loss for the year. B. The company must have a net profit for the year. C. The company must have paid off more debts than it earned during the year. D. The company may have profit or a loss for the year.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

2-54

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

2-55

Chapter 02 - Basic Financial Statements

59. Which business organization is recognized as a separate legal entity under the law? A. Corporation. B. Sole proprietorship. C. Partnership. D. All three.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

2-56

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

2-57

Chapter 02 - Basic Financial Statements

65. The payment of a business debt not including interest: A. Decreases total assets. B. Increases total liabilities. C. Increases the equity in the business. D. Decreases the equity in the business.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

66. The accounting principle that assumes that a company will operate in the foreseeable future is: A. Going concern. B. Objectivity. C. Liquidity. D. Disclosure.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

67. Deerpark Corporation recently borrowed $70,000 cash from its bank. Which of the following was unaffected by this transaction? A. Assets. B. Liabilities. C. Equity. D. Cash.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

2-59

Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 5

73. Which of the following activities is not a category into which cash flows are classified? A. Marketing activities. B. Operating activities. C. Financing activities. D. Investing activities.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 6

2-60

Chapter 02 - Basic Financial Statements

74. The change in equity from one balance sheet to the next is partially explained by the: A. Statement of cash flows. B. Statement of financial position. C. Income statement. D. Tax return.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 4

76. The balance sheet item that represents the portion of equity resulting from profitable operation of the business is: A. Accounts receivable. B. Cash. C. Share capital. D. Retained earnings.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

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Chapter 02 - Basic Financial Statements

77. Retained earnings appears on: A. The income statement. B. The balance sheet. C. The statement of cash flows. D. All three statements.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4 Learning Objective: 5 Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2 Learning Objective: 4 Learning Objective: 5

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Chapter 02 - Basic Financial Statements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

81. A strong statement of cash flows indicates that significant cash is being generated by: A. Operating activities. B. Financing activities. C. Investing activities. D. Effective tax planning.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

At December 31, 2009, the accounting records of Braun Corporation contain the following items:

Accounts Payable Land Share capital Building Retained Earnings

$16,000 $240,000 ? $180,000 $160,000

Accounts Receivable Cash Equipment Notes Payable

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$400,000 ? $120,000 $190,000

Chapter 02 - Basic Financial Statements

82. Refer to the above data. If Share Capital is $260,000, what is the December 31, 2009 cash balance? A. $86,000. B. $94,000. C. $46,000. D. $686,000. A/P(16,000) + N/P(190,000) + Share Capital(260,000) + R.E.(160,000) = 626,000 Cash(?) + A/R(40,000) + Land(240,000) + Building(180,000) + Equipment(120,000) = 626,000 Cash = $45,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

83. Refer to the above data. If Share Capital is $320,000, total assets of Braun Corporation at December 31, 2009, amount to: A. $686,000. B. $926,000. C. $726,000. D. $106,000. A/P(16,000) + N/P (190,000) + Share Capital(320,000) + R.E. (160,000) = 686,000 Total Assets = $686,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

84. Refer to the above data. If Cash at December 31, 2009, is $86,000, Share Capital is: A. $260,000. B. $300,000. C. $620,000. D. $168,000. Cash (86,000) + A/R (40,000) + Land(240,000) + Building(180,000) + Equipment(120,000) = 666000 A/P(16,000) + N/P(190,000) + Share Capital(?) + R.E.(160,000) = 666,000. Capital = $300,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

85. Refer to the above data. If Cash at December 31, 2009, is $26,000, total equity is: A. $160,000. B. $366,000. C. $606,000. D. $400,000. Cash(26,000) + A/R(40,000) + Land(240,000) + Building(180,000) + Equipment(120,000) = 606,000 A/P (16,000) + N/P (190,000) + Share Capital(?) + R.E(160,000) = 606,000 Share Capital = (240,000) + R. E. (160,000) = $400,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

86. Refer to the above data. If Cash at December 31, 2009, is $66,000, total assets amount to: A. $606,000. B. $806,000. C. $662,000. D. $646,000. Cash(66,000) + A/R(40,000) + Land(240,000) + Building(180,000) + Equipment(120,000) = 646,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

At December 31, 2010, the accounting records of Hercules Manufacturing Limited contain the following items:

Accounts Payable Land Building Notes Payable Retained Earnings

$12,000 $90,000 $250,000 $135,000 ?

Accounts Receivable Cash Equipment Share capital

$30,000 $7,000 ? 188,000

87. Refer to the above data. If total assets of Hercules Manufacturing Limited are $556,000, Equipment is carried in Hercules Manufacturing accounting records at: A. $377,000. B. $179,000. C. $150,000. D. $ 90,000. Cash(7,000) + A/R(30,000) + Land(90,000) + Building(250,000) + Equipment(?) = 556,000 Equipment = $179,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

88. Refer to the above data. If total assets of Hercules Manufacturing Limited are $556,000, Retained Earnings at December 31, 2010, must be: A. $811,000. B. $180,000. C. $221,000. D. $335,000. A/P(12,000) + N/P(135,000) + Share Capital(188,000) + R.E(?) = 556,000, R. E. = $221,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

89. Refer to the above data. If Retained Earnings at December 31, 2010, is $140,000, total assets amount to: A. $ 98,000. B. $377,000. C. $475,000. D. $188,000. A/P(12,000) + N/P(135,000) + Share Capital(188,000) + R.E.(140,000) =475,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

90. Refer to the above data. If Retained Earnings at December 31, 2010, is $100,000, Equipment is carried in Hercules Manufacturing Limited accounting records at: A. $ 42,000. B. $ 58,000. C. $ 43,500. D. $345,000. A/P(12,000) + N/P(135,000) + Share Capital(188,000) + R.E.(100,000) =435,000 Cash(7,000) + A/R(30,000) + Land(90,000) + Building(250,000) + Equipment(?) = 435,000 Equipment = $58,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

91. Refer to the above data. Assume the Equipment shown above was acquired by the business five years ago and has a book value of $156,000, but has a current appraised value of $200,000. Hercules Manufacturing's Retained Earnings at December 31, 2010, amounts to: A. $533,000. B. $345,000. C. $198,000. D. $356,000. Cash(7,000) + A/R(30,000) + Land(90,000) + Building(250,000) + Equipment(156,000) = 533,000 A/P(12,000) + N/P(135,000) + Share Capital(188,000) + R.E.(?) = 533,000 R.E. = 198,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

At December 31, 2011 the accounting records of Gordon Limited contain the following items:

Accounts Payable Land Building Notes Payable Retained Earnings

$2,500 $30,000 $31,250 ? $125,000

Accounts Receivable Cash Equipment Share capital

$18,750 ? $40,000 12,500

92. Refer to the above data. If the Notes Payable is $10,000, the December 31, 2011 cash balance is: A. $ 60,000. B. $160,000. C. $ 30,000. D. $ 20,000. Cash(?) + A/R(18,750) +Land(30,000) + Building(31,250) + Equipment(40,000) = 150,000, Cash = 30,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

93. Refer to the above data. If the Note Payable balance is $25,000, then the total assets of Gordon Limited at December 31, 2011 amount to: A. $27,500. B. $152,500. C. $120,000. D. $165,000. A/P(2,500) + N/P(25,000) + Share Capital(12,500) + R.E.(125,000) = 165,000 Total Assets = 165,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

94. Refer to the above data. If the Cash balance at December 31, 2011 is $67,500, the Note Payable balance is: A. $118,750. B. $ 47,500. C. $137,500. D. $140,000. Cash(67,500) + A/R(18,750) + Land(30,000) + Building(31,250) + Equipment(40,000) = 187,500 A/P(2,500) + N/P(?) + Share Capital(12,500) + R.E.(125,000) = 187,500 N/P = 47,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

95. Refer to the above data. If the Cash balance at December 31, 2011 is $62,500 then total liabilities amount to: A. $ 42,500. B. $140,000. C. $ 45,000. D. $182,500. Cash(62,500)+ A/R(18,750) + Land(30,000) + Building(31,250) + Equipment(40,000) = 182,500, A/P(2,500) + N/P(?) + Share Capital(12,500) + R.E.(125,000) =182,500 N/P = 42,500; Total liabilities = 2,500 + 42,500 = 45,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 6

108. Refer to the above data. What amount of profit will be reported on an income statement for the month of August, 2010? A. $20,000. B. $7,500. C. $0. D. $33,500. 33,500 - 26,000 = 7,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 5

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Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

110. Refer to the above data. For the month of August, 2010, net cash flows from operating activities for Astoria were: A. $33,500. B. $7,500. C. $20,000. D. $26,000. 33,500 - 26,000 = 7,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 6

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AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 9

Essay Questions

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Chapter 02 - Basic Financial Statements

113. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Assets Balance Sheet Cost principle

Accounting equation Liabilities Equity

Inflation Going concern assumption Liquidity

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 - 4

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Chapter 02 - Basic Financial Statements

114. Accounting equation (A.) During the current year, the assets of Duffy Stationery increased by $650,000, and the liabilities decreased by $340,000. What was the change in equity during the year? (B.) The equity of Graham Interiors appears on the balance sheet as $720,000 and is equal to one-fourth of total assets. Compute the amount of total liabilities. (C.) At the end of 2009 the equity in Scott Mfg. amounted to $845,000. During 2009, the assets of the business increased by $515,000, and the liabilities increased by $205,000. The equity at the beginning of 2009 was how much? (A.) Change in equity = $650,000 + $340,000 = $990,000 increase (B.) Total assets = four times $720,000 = $2,880,000 Total liabilities = $2,880,000 assets - $720,000 equity = $2,160,000 (C.) Change in equity = $515,000 - $205,000 = $310,000 increase Beginning equity = $845,000 ending balance - $310,000 increase = $535,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 02 - Basic Financial Statements

Transactions

Assets

Transactions

Assets

2-81

Total Liabilities NC

Equity

+ +

Total Liabilities NC +

+ NC

Chapter 02 - Basic Financial Statements

E. Obtained a loan from a bank F. Purchased office equipment on credit. G. Paid a liability. H. Collected part of amount owned to the business from purchaser of land. I. Sold another portion of the land for cash at a price in excess of cost.

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+ + NC

NC NC NC NC

Chapter 02 - Basic Financial Statements

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

Assets

Total Equity Liabilities +$200,000 NC +200,000

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Chapter 02 - Basic Financial Statements

Transactions

Assets

Total Equity Liabilities +$200,000 NC +200,000

+$20,000 +$3,600

NC NC

-$1,800

+$50

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Chapter 02 - Basic Financial Statements AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 02 - Basic Financial Statements

(A.) Total assets: $700,000 + $165,000 + $360,000 - $160,000 - $70,000 + $54,000 - $54,000 = $995,000 (B.) Total liabilities: $400,000 + $200,000 - $70,000 = $530,000 (C.) Equity: $300,000 + $165,000 = $465,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 3 Learning Objective: 4

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Chapter 02 - Basic Financial Statements

Accounts Payable Land Building Share capital

$? $41,600 $533,000 $494,000

Land Notes Payable Accounts receivable Cash

$260,000 $377,000 $18,750 $19,760

GAMMA Company Balance Sheet

Assets Land Buildings Office Equipment Accounts receivable Cash

Total Assets

December 31, 2009 Liabilities & Shareholders’ Equity $260,000 Liabilities: 533,000 Notes Payable $377,000 41,600 Accounts Payable 80,860 97,500 Total Liabilities $457,860 19,760 Shareholders’ equity ______ Share Capital 494,000 Total Liabilities and $951,860 shareholders’ equity $951,860

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 4

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Chapter 02 - Basic Financial Statements

120. Preparation of balance sheet after a series of transactions The balance sheet was as follows for Custom Ceramics on February 1, 2010:

Assets Land Buildings Office Equipment Accounts receivable Cash

Total assets

80,000 50,000 30,000 5,200 $7,000 ______

$172,200

Assets Land Buildings Office Equipment Accounts receivable Cash

Total assets

Custom Ceramics Balance Sheet February 8, 2010 Liabilities & Shareholders’ Equity Liabilities: Notes payable $ Accounts payable Total liabilities $ Shareholders’ equity ______ Share capital Retained earnings $ Total liabilities $_____ Shareholders’ equity $______

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Chapter 02 - Basic Financial Statements

Assets Land Buildings Office Equipment Accounts receivable Cash

Total assets

$80,000 50,000 31,800 1,200 21,000 ______

$184,000

Custom Ceramics Balance Sheet February 8, 2010 Liabilities & Shareholders’ Equity a Liabilities: b Notes payable $40,000 Accounts payable 2,800d Total liabilities 42,800 Shareholders’ equity Share capital $115,000 Retained earnings 26,200 $141,200c Total liabilities Shareholders’ equity $184,000

Feedback: (A.) $7,000 + $4,000 + $15,000 - $5,000 = $21,000 (B.) $5,200 - $4,000 collected = $1,200 (C.) $30,000 + $1,800 = $31,800 (D.) $6,000 + $1,800 (equipment purchase) -$5,000 paid = $2,800 (E.) $126,200 + $15,000 (additional investment) = $141,200

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 4

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Chapter 02 - Basic Financial Statements

Assets Land Buildings Equipment Accounts receivable Cash

Total assets

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Chapter 02 - Basic Financial Statements

Assets Land Buildings Equipment Accounts receivable Cash

Total assets

Adelphi Construction Balance Sheet December 31, 2010 Liabilities & Shareholders’ Equity $ 184,000 b Liabilities: 250,000 Notes payable $ 60,000c 96,000 Accounts payable 115,000d 85,000 Income taxes payable $ 40,000 5,000 Total liabilities $215,000 Shareholders’ equity Share capital $200,000f Retained earnings 205,000e $405,000 Total liabilities $ 620,000 a Shareholders’ equity $620,000

Feedback: (A.) Total assets must be $620,000 to agree with the total of liabilities plus equity. (B.) Cash must be $5,000 to achieve a total asset figure of $620,000. (C.) Cash ($5,000) plus accounts receivable ($85,000) equals $90,000. This total is stated to be 1.5 times the amount of notes payable. Notes payable is computed as $90,000 divided by 1.5, or $60,000. (D.) Accounts payable must be $115,000 to achieve total liabilities figure of $215,000. (E.) Retained earnings at the end of the first accounting period must be earnings ($275,000) less dividends ($70,000) or $205,000. (F.) Share capital must be $200,000 to achieve total liabilities and equity figure of $620,000.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 4

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122. Completion of balance sheet Use the following information to complete the December 31, 2009, balance sheet of Copper Supplies Company. (1) Equity as of January 1, 2009, totaled $175,000, which included share capital of $150,000. (2) Additional capital stock was issued during 2009 in exchange for $40,000 cash. (3) Profit for 2009 amounted to $200,000; no dividends were paid during 2009. (4) Cash and accounts receivable together amount to 3 times as much as accounts payable.

Assets Land Buildings Equipment Accounts receivable Cash

Total assets

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Chapter 02 - Basic Financial Statements

Assets Land Buildings Equipment Accounts receivable Cash

Total assets

Copper Supplies Company Balance Sheet December 31, 2009 Liabilities & Shareholders’ Equity $ 215,000 Liabilities: 300,000 b Accounts payable $40,000 200,000 Notes payable 380,000g 90,000 Total liabilities $420,000f 30,000 c Shareholders’ equity Share capital $ 190,000 d Retained earnings 225,000 e $415,000 Total liabilities $ 835,000 Shareholders’ equity $835,000a

Feedback: (A.) Total of liabilities & equity must be $835,000 to agree with the amount of total assets. (B.) Cash and accounts receivable together amount to 3 times accounts payable, or $120,000. Since cash is $30,000, accounts receivable are $120,000 - $30,000, or $90,000. (C.) Equipment must be $200,000 to achieve total assets of $835,000. (D.) Beginning share capital is $150,000 + stock issued of $40,000 = $190,000. (E.) Beginning retained earnings (175,000 - 150,000) + profit of 200,000 = 225,000 (F.) Total liabilities must be $420,000 to achieve the total of liabilities & equity of $835,000. (G.) Since total liabilities are $420,000 and accounts payable are $40,000, notes payable must be $380,000.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement, Reporting Learning Objective: 4

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1 2 8 16 28 30 31

Assets Cash May 1 2 Balance 8 Balance 16 Balance 28 Balance 30 Balance 31 Balance

Accounts Receivable

Land

+$75,000

Building

Office Equipment

Liabilities

Notes Payable

Shareholders’ Equity Share Capital +$75,000

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Chapter 02 - Basic Financial Statements

Assets Cash May 1 2

+$75,000 -43,000

Balance 8 Balance 16 Balance 28 Balance 30 Balance 31 Balance

$32,000 +15,000 $47,000 -9,000 $38,000 +800 $38,800 - 5,000 $33,800 +500 $34,300

Accounts Receivable

+ Land

+ Building

+ Office Equipment

= Liabilitie s = Notes Payable

+ Shareholders’ Equity + Share Capital +$75,000

+ $2,000 $,000 $2,000 -500 $1,500

+$58,00 0 $58,000

+$65,000

+$80,000

$65,000

$75,000

$58,000

$65,000

$80,000 +$15,000 $95,000 +10,000 $105,000

$75,000

$58,000

$65,000

$58,000

$65,000

+$19,000 $19,000 -$2,800 $16,200

$58,000

$65,000

$16,200

$105,000 - 5,000 $100,000

$58,000

$65,000

$16,200

$100,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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$75,000 $75,000

$75,000

Chapter 02 - Basic Financial Statements

1 2 7 12 22 30

Assets Cash May 1 2 Balance 7 Balance 12 Balance 22 Balance 30 Balance

+ Accounts Receivable

Land

+$200,000

Building

Office Equipment

Liabilities

Notes Payable

Shareholders’ Equity + Share Capital +$200,000

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Chapter 02 - Basic Financial Statements

Assets Cash

May 1 2 Balance 7 Balance 12 Balance 22 Balance 30 Balance

+$200,000 -32,000 $168,000 -23,000 $145,000 +500 $145,500 +3,000 $148,500 - 17,500 $131,000

+ Accounts Receivabl e

+ Land

= Liabilities + Building

+ Office Equipment

= Notes Payable

+ Shareholders’ Equity + Share Capital +$200,000

+$3,000 3,000 - $3,000

+$86,000 $86,000

+$74,000 $74,000

$86,000

$74,000

$86,000

$74,000

+$58,000 $58,000 -3,500 $54,500

$86,000

$74,000

$54,500

$86,000

$74,000

$54,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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+$128,000 $128,000 +$35,000 $163,000

$200,000 $200,000

$163,000

$200,000

$163,000 - 17,500 $145,500

$200,000 $200,000

Chapter 02 - Basic Financial Statements

125. An inexperienced accounting intern at Tasso Company prepared the following income statement for the month of July, 2009:

Tasso Company Month of July, 2009 Revenues: Services provided to customers Share Capital Loan from bank

$25,000 12,500 37,500

Expenses: Payments to long-term creditors Expenses required to provide services to Customers Purchase of equipment Profit for the month

$75,000

$20,000 18,750 10,000

48,750 $26,250

Instructions: Prepare a revised income statement in accordance with generally accepted accounting principles.

Tasso Company Month of July, 2009 Revenues: Services provided to customers

$25,000

Expenses: Expenses required to provide services to Customers Profit for the month

18,750 $6,250

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5

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126. List the following accounts in the order that they would appear on a balance sheet Share capital Equipment Accounts Receivable Retained Earnings Revenue Accounts Payable Cash Rent Expense Cash Accounts Receivable Equipment Accounts Payable Share Capital Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 Learning Objective: 4

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127. From the following accounts and amounts prepare a balance sheet for the Swell Company for December 31, 2010. You must compute the amount for retained earnings to complete the balance sheet.

Accounts Payable Accounts Receivable Building Share Capital Cash Equipment Insurance Expense Land Notes Payable Sales Revenue Salaries Expense

Assets Land Equipment Buildings Accounts receivable Cash

Total assets

$61,250 $70,500 $50,000 $50,000 $64,000 $30,000 $5,000 $125,000 $175,000 $25,000 $20,000

Swell Company Balance Sheet December 31, 2010 Liabilities & Shareholders’ Equity $ 125,000 Liabilities: 30,000 b Notes payable $175,000 50,000 Accounts payable 61,250 70,500 Total liabilities $236,250 64,000 c Shareholders’ equity Share capital $50,000 Retained earnings 53,250 Total liabilities $ 339,500 Shareholders’ equity $339,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

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128. Financial statements A set of financial statements for a company includes three related accounting reports, or statements. In the space provided, list the names of three primary statements, and give a brief description of the accounting information contained in each. * Balance sheet. A report showing at a specific date the financial position of the company by reporting the assets (resources) that it owns, the liabilities (debts) that it owes, and the amount of the equity in the business. * Income statement. A report indicating the profitability (or profit) of the business over a specific time period. * Statement of cash flows. A report summarizing the cash receipts and cash payments of the business over the same time period covered by the income statement.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 - 6

129. Development of generally accepted accounting principles (A.) What is meant by the phrase "generally accepted accounting principles?" (B.) Give the names of three organizations that currently play an active role in the development of accounting principles in the United States. (A.) Generally accepted accounting principles are the concepts, standards, or ground rules used in the preparation of financial statements. (B.) Student may list any three of the following: * Financial Accounting Standards Board (FASB) * American Institute of Certified Public Accountants (AICPA) * Securities and Exchange Commission (SEC) * American Accounting Association (AAA)

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

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130. Valuation of assets under generally accepted accounting principles Under generally accepted accounting principles, the assets owned by a business are reported in the balance sheet at their historical cost. Identify and briefly explain two accounting principles other than the cost principle that support the valuation of assets at cost in the balance sheet. Student may choose any two of the following: * Going-concern assumption. An assumption by accountants that a business will operate indefinitely unless specific evidence to the contrary exists, such as impending bankruptcy. Since assets of the business were acquired for use and not for resale, estimated current market prices or appraisal values are of less importance than if these items were intended for sale. * Objectivity principle. Accounting measurements should be based upon dollar amounts that are factual and subject to independent verification. Historical cost of assets is objective; estimated market values or appraisals change over time and are not factual or objective. * Stable-dollar assumption. An assumption by accountants that the dollar is a stable unit of measure. This assumption permits reporting assets at cost, even though individual assets may have been acquired in different years.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 4

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131. Forms of Business Organization State and describe the three most common forms of business organizations in the United States. (1) Sole Proprietorship * One person * Unlimited liability * Owner acts as manager (2) Partnership * Two or more persons * Owners are personally responsible for debts (3) Corporation * Shareholders are owners * Limited liability * Ease of transfer of ownership * Separate entity under the law

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 8

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Chapter 02 - Basic Financial Statements

CHAPTER 2

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer for each question in the space provided. 1

The financial statements of a business entity: a Include the balance sheet, income statement, and income tax return. b Provide information about the profitability and financial position of the company. c Are the first step in the accounting process. d Are prepared for a fee by the Financial Accounting Standards Board.

A balance sheet is designed to show the financial position of an entity: a At a single point in time. b Over a period of time such as a year or quarter. c At December 31 of the current year. d At January 1 of the coming year.

Accounts payable and notes payable are: a Always less than the amount of cash a business owns. b Creditors. c Written promises to pay a certain amount, plus interest, at a definite future date. d Liabilities.

The balance sheet of Dotty Designs includes the following items: Accounts Receivable Share Capital Equipment Notes Payable

Cash Accounts Payable Supplies Notes Receivable

This list includes: a Four assets and three liabilities. b Five assets and three liabilities. c Five assets and two liabilities. d Six assets and two liabilities. 5

An accounting entity may best be described as: a An individual. b A particular economic unit. c A publicly owned corporation. d Any corporation, regardless of size.

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CHAPTER 2

NAME

10-MINUTE QUIZ B

SECTION

Presented below is the balance sheet for Sabino Family Dentistry on January 1 of the current year. SABINO FAMILY DENTISTRY Balance Sheet January 1, 20__ Assets Cash .................................. Accounts receivable ............ Land .................................. Building .............................. Equipment ...........................

$ 33,000 51,150 313,500 371,250 57,750

Total assets..........................

$826,650

Liabilities & Shareholders’ Equity Liabilities: Accounts payable .................................. Total liabilities .................................... Equity: Share capital ........................................ Total liabilities and equity ........................................................

$ 74,250 $ 74,250 752,400 $826,250

During the first few days of January, the following transactions occurred: Jan

1 3 3 5

The business borrowed $99,000 from the bank, giving a note payable due in 90 days. Additional share capital was issued in exchange for $44,550 cash. Equipment was purchased for $62,700 on credit. The business collected $26,400 of its accounts receivable and paid off $37,950 of its accounts payable.

Indicate your answer to each of the following questions in the space provided. 1

On January 6, total assets of the business amount to: a $826,650. b $994,950 c $957,000.

d $950,400.

On January 6, equity amounts to: a $752,400. b $44,550.

$796,950.

d $895,950.

On January 6, the accounts payable balance is: a $136,950. b $36,300. c $24,750.

d $99,000.

On January 6, the accounts receivable balance is: a $24,750. b $38,775. c $77,550.

d $63,525.

On January 6, the cash balance is: a $127,050. b $138,600.

d $202,950

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$165,000.

Chapter 02 - Basic Financial Statements

CHAPTER 2

NAME

10-MINUTE QUIZ C

SECTION

Presented below is the balance sheet for Manhattan Family Dentistry on January 1 of the current year. MANHATTAN FAMILY DENTISTRY Balance Sheet January 1, 20__ Assets Cash .................................. Accounts receivable ............ Land .................................. Building .............................. Equipment ...........................

$ 20,000 31,000 190,000 225,000 35,000

Total assets..........................

$501,000

$ 45,000 $ 45,000 456,000 $501,000

During the first few days of January, the following transactions occurred: Jan

2 2 3 3

Equipment was purchased for $38,000 on credit. The business collected $16,000 of its accounts receivable and paid off $23,000 of its accounts payable. The business borrowed $60,000 from the bank, giving a note payable due in 90 days. Additional share capital was issued in exchange for $27,000 cash.

Complete the following balance sheet for Manhattan Family Dentistry on January 4 of the current year. MANHATTAN FAMILY DENTISTRY Balance Sheet January 4, 20__ Assets Cash ................................ $ Accounts receivable ........... Land ................................. Building ............................. Equipment ..........................

Total assets........................ $

Liabilities & Equity Liabilities: Notes payable ...................................... $ Accounts payable ................................. Total liabilities .................................. $ Equity: Capital stock ...................................... Total liabilities and equity ..................................................... $

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Chapter 02 - Basic Financial Statements

CHAPTER 2

NAME

10-MINUTE QUIZ D

SECTION

Complete the January 31, 20__, balance sheet of Countrywide Legal Services using the following information. (1) (2)

(3) (4)

Shareholders’ equity at January 1, 20__, included share capital of $140,000. The land and building were purchased by the business for a total price of $200,000 on January 25, 20__, from a company forced out of business. On January 31, an appraiser valued the property at $260,000. Additional capital stock was issued in exchange for $50,000 cash. Retained earnings at January 31, 20___, amounted to $49,400.

Assets Land .............................. Building ........................ Equipment ..................... Accounts receivable ...... Cash ..............................

Total assets....................

COUNTRYWIDE LEGAL SERVICES Balance Sheet January 31, 20__ Liabilities & Owners’ Equity $ 135,000 Liabilities: Notes payable ......................................... 35,000 Accounts payable ................................... Total liabilities..................................... 90,000 Equity: Share Capital ................... $ Retained earnings ............ _______ Total liabilities and $ equity ......................................................

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$ 45,600 $

_______ $375,000

Chapter 02 - Basic Financial Statements

CHAPTER 2 SELF-TEST QUESTIONS FROM TEXTBOOK Note: In order to review as many chapter concepts as possible, some self-test questions include more than one correct answer. In these cases, you should indicate all of the correct answers. 1

A set of financial statements: a Is intended to assist users in evaluating the financial position, profitability, and future prospects of an entity. b Is intended to assist the tax authority in determining the amount of income taxes owed by a business organization. c Includes notes disclosing information necessary for the proper interpretation of the statements. d Is intended to assist investors and creditors in making decisions involving the allocation of economic resources.

Which of the following statements is not consistent with generally accepted accounting principles relating to asset valuation? a Many assets are originally recorded in accounting records at their cost to the business entity. b Subtracting total liabilities from total assets indicates what the owner’s equity in the business is worth under current market conditions. c Accountants assume that assets such as office supplies, land, and buildings will be used in business operations, rather than being sold at current market prices. d Accountants prefer to base the valuation of assets upon objective, verifiable evidence rather than upon appraisals or personal opinion.

Waterworld Boat Shop purchased a truck for $12,000, making a down payment of $5,000 cash, and signing a $7,000 note payable due in 60 days. As a result of this transaction: a Total assets increased by $12,000. b Total liabilities increased by $7,000. c From the viewpoint of a short-term creditor, this transaction makes the business more solvent. d This transaction had no immediate effect upon the owner’s equity in the business.

A transaction caused a $15,000 decrease in both total assets and total liabilities. This transaction could have been: a Purchase of a delivery truck for $15,000 cash. b An asset with a cost of $15,000 was destroyed by fire. c Repayment of a $15,000 bank loan. d Collection of a $15,000 account receivable.

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Which of the following is (are) correct about a company’s balance sheet? a It displays sources and uses of cash for the period. b It is an expansion of the basic accounting equation: Assets = Liabilities + Equity. c It is sometimes referred to as a statement of financial position. d It is unnecessary if both an income statement and statement of cash flows are available.

Which of the following would you expect to find in a correctly-prepared income statement? a Cash balance at the end of the period. b Revenues earned during the period. c Contributions by the owner during the period. d Expenses incurred during the period to earn revenues.

What information would you find in a statement of cash flows that you would not be able to get from the other two primary financial statements? a Cash provided by or used in financing activities. b Cash balance at the end of the period. c Total liabilities due to creditors at the end of the period. d Profit.

Which of the following statements relating to the role of professional judgment in the financial reporting process are valid? a Different accountants may evaluate similar situations differently. b The determination of which items should be disclosed in notes to financial statements requires professional judgment. c Once a complete list of generally accepted accounting principles is prepared, judgment need no longer enter into the financial reporting process. d The possibility always exists that professional judgment later may prove to have been incorrect.

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SOLUTIONS TO CHAPTER 2 10-MINUTE QUIZZES QUIZ A 1 B 2 A 3 D 4 C 5 B

QUIZ B 1 B 2 C 3 D 4 A 5 C

Learning Objective: Learning Objective: 2, 4, 5, 6

3, 4

QUIZ C MANHATTAN FAMILY DENTISTRY Balance Sheet January 4, 20__ Assets Cash .................................. $ 100,000a Accounts receivable ............ 15,000b Land .................................. 190,000 Building .............................. 225,000 Equipment ........................... 73,000c _________ Total assets..........................

$603,000

Liabilities & Equity Liabilities: Notes payable ........................................ Accounts payable ................................... Total liabilities .................................... Equity: Share capital ........................................... Total liabilities and equity ........................................................

$ 60,000 60,000e $ 120,000 483,000d $603,000

Computations a b c d e

$20,000 + $16,000 (A/R collected) - $23,000 (paid on A/P) + $60,000 (borrowed) + $27,000 (invested) = $100,000 $31,000 - $16,000 collected = $15,000 $35,000 + $38,000 (equipment purchased) = $73,000 $456,000 + $27,000 additional investment = $483,000 A/P $45,000 + $38,000 - $23,000 (paid) = $60,000

Learning Objective: 4

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QUIZ D

Assets Land .............................. Building ........................ Equipment ..................... Accounts receivable ...... Cash ..............................

Total assets....................

COUNTRYWIDE LEGAL SERVICES Balance Sheet January 31, 20__ Liabilities & Equity $ 135,000 Liabilities: 65,000b Notes payable ......................................... 35,000 Accounts payable ................................... 50,000c Total liabilities..................................... 90,000 Equity: Share Capital ................... $190,000d Retained earnings ............ 49,400 _______ Total liabilities and $375,000a equity ......................................................

$ 90,000f 45,600 $135,600

$239,400 $375,000

Computations a b c d e f

Total assets must be equal to total liabilities & equity of $375,000. $200,000 (cost of land and building) less $135,000 for land = $65,000 for building. (Appraised value of property ignored.) Accounts receivable must be $50,000 to achieve total assets of $375,000. $140,000 (share capital at January 1) plus $50,000 (additional investment). Total liabilities must be $135,600 to achieve total liabilities & equity of $375,000. Notes payable must be $90,000 to achieve total liabilities of $135,600.

Learning Objective: 4 SOLUTIONS TO CHAPTER 2 SELF-TEST QUESTIONS FROM TEXTBOOK 1. a, c, d 2. b 3. b, d 4. c 5. b, c 6. b, d 7. a 8. a, b, d

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Chapter 03 The Accounting Cycle: Capturing Economic Events True / False Questions

1. The credit side of an account is the right side while the debit side is the left side. True False

2. In a computerized accounting system posting may be done automatically but journalizing must be done by someone with an understanding of recording transactions. True False

3. The running balance form or the T account form is typically used in the trial balance to display the accounts and their amounts. True False

4. Dividends are an expense of a corporation and reduce both total assets and liabilities. True False

5. Dividends increase equity and therefore should be added to retained earnings. True False

6. Every business transaction is recorded by a debit to a balance sheet account and a credit to an income statement account. True False

7. Earning revenue increases equity and expenses reduce equity, therefore revenues are recorded with debit entries and expenses are recorded with credit entries. True False

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

8. A trial balance cannot be distributed to stockholders in lieu of a balance sheet. True False

9. Accounts are usually arranged in the ledger in financial statement order, that is, assets first, followed by liabilities, equity, expenses, and revenues. True False

10. A credit to a ledger account refers to the entry of an amount on the right side of an account. True False

11. The left-hand side of an account is used for recording debits and the right-hand side for recording credits. True False

12. If the number of debit entries in an account is greater than the number of credit entries, the account will have a debit balance. True False

13. Liability accounts should only be debited and never credited. True False

14. Increases in equity are recorded by credits; increases in assets and in liabilities are recorded by debits. True False

15. When making a general journal entry, there can only be one debit and one credit. True False

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

16. A business that is profitable and liquid will have more accounts with credit balances than with debit balances. True False

17. Every transaction affects equal numbers of ledger accounts and is recorded by equal dollar amounts of debits and credits. True False

18. When a company uses the double-entry method, the total dollar amount of debits recorded must equal the total dollar amount of credits, but the number of debit and credit entries may differ. True False

19. If ledger accounts are maintained in three-column, running balance form, the journal should be maintained in the same format. True False

20. The general ledger is sometimes called the book of original entry because it is the accounting record where transactions are first recorded. True False

21. Each business transaction is initially recorded in a journal and later transferred to the appropriate accounts in a general ledger. True False

22. The matching concept refers to the relationship between revenues and expenses. True False

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

23. An increase in a liability is recorded by a credit; an increase in equity by a debit. True False

24. Revenues increase equity and are, therefore, recorded by crediting the revenues account. True False

25. The accrual basis of accounting recognizes expenses only when they are paid. True False

26. Every transaction which affects an income statement account also affects a balance sheet account. True False

27. A trial balance that balances provides proof that all transactions were correctly journalized and posted to the ledger. True False

28. A trial balance proves that equal amounts of debits and credits were posted to the ledger. True False

29. Dividends are an expense of a corporation and appear on the income statement. True False

30. A CEO or CFO associated with fraudulent financial reporting could be fined but not imprisoned under the Sarbanes Oxley act. True False

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

31. "I was just following orders" is an acceptable defense if you committed an unethical action during an audit. True False

Multiple Choice Questions

32. Sally Smith had expenses of $800 in June which she paid in July. She declared these expenses on her June income statement. By doing this she is following the accounting principle of: A. Revenue recognition B. Adequate disclosure C. Matching D. Conservatism

33. The price of the goods sold or services rendered during a given accounting period is called: A. Net income B. Profit C. Revenue D. Equity

34. The principle that states revenue should be recognized at the time goods are sold or services rendered is called: A. Adequate disclosure B. Conservatism C. Matching D. Revenue recognition

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

35. Recognizing revenue when it is earned and not when cash is received and recognizing expenses when the related goods or services are used rather than when they are paid for is called: A. Revenue recognition B. Accrual accounting C. Conservatism D. Matching

36. The agreement of the debit and credit totals of the trial balance gives assurance that A. All transactions were posted correctly B. No transactions were omitted C. The number of accounts with debit balances equals the number of accounts with credit balances D. The total debits equal the total credits

37. The sequence of accounting procedures used to record, classify and summarize accounting information is called the: A. Accounting cycle B. Accounting period C. Accrual accounting D. Double entry bookkeeping

38. The purchase of equipment on credit is recorded by a: A. Debit to Equipment and a credit to Accounts Payable. B. Debit to Accounts Payable and a credit to Equipment. C. Debit to Equipment and a debit to Accounts Payable. D. Credit to Equipment and a credit to Accounts Payable.

39. The collection of accounts receivable is recorded by a: A. Debit to Cash and a debit to Accounts Receivable. B. Credit to Cash and a credit to Accounts Receivable. C. Debit to Cash and a credit to Accounts Receivable. D. Credit to Cash and a debit to Accounts Receivable.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

40. Which of the following accounts normally has a debit balance? A. Accounts payable. B. Retained earnings. C. Accounts receivable. D. Service revenue.

41. In a ledger, a separate "account" is maintained for each: A. Type of asset and liability and for each element of equity. B. Business transaction. C. Business day. D. Journal entry.

42. In accounting, the terms debit and credit indicate, respectively: A. Increase and decrease. B. Left and right. C. Decrease and increase. D. Right and left.

43. In a ledger, debit entries cause: A. Increases in equity, decreases in liabilities, and increases in assets. B. Decreases in liabilities, increases in assets, and decreases in equity. C. Decreases in assets, decreases in liabilities, and increases in equity. D. Decreases in assets, increases in liabilities, and increases in equity.

44. Which of the following accounts normally has a credit balance? A. Cash. B. Service revenue. C. Accounts receivable. D. Utilities.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

45. Which of the following is not true regarding the ledger account for Cash? A. The balance of the account indicates the amount of cash owned by the business on a particular date. B. Each debit entry in the Cash account represents a cash receipt. C. Debit entries are made before credit entries. D. Credit entries in the Cash account represent cash payments.

46. The rules of debit and credit may be summarized as follows: A. Accounts on the left side of the balance sheet are increased by debits, whereas accounts on the right side of the balance sheet are increased by credits. B. The balance of a ledger account is increased by debit entries and is decreased by credit entries. C. Accounts on the left side of the balance sheet are increased by credits, whereas accounts on the right side of the balance sheet are increased by debits. D. The balance of a ledger account is increased by credit entries and is decreased by debit entries.

47. The essential point of double-entry system of accounting is that every transaction: A. Affects accounts on both sides of the balance sheet. B. Is recorded in both the journal and the ledger. C. Increases one ledger account and decreases another. D. Affects two or more ledger accounts and is recorded by an equal dollar amount of debits and credits.

48. Double-entry accounting is characterized by which of the following? A. Every transaction affects both an asset account and either a liability account or an equity account. B. The number of ledger accounts with debit balances is equal to the number with credit balances. C. The total dollar amount of debit entries posted to the ledger is equal to the dollar amount of the credit entries. D. The number of debit entries posted to the ledger equals the number of credit entries.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

49. The process of originally recording a business transaction in the accounting records is termed: A. Journalizing. B. Footing. C. Posting. D. Balancing.

50. If your trial balance has a higher debit balance than credit balance, it signifies: A. Assets are more than liabilities. B. A profit. C. A loss. D. An error has been made.

51. Brett Tarek, a manager at D & J Landscaping Limited, needs information regarding the amount of accounts payable currently owed by the company. This information would most easily be found in the: A. General ledger. B. General journal. C. Income Statement. D. Notes to the financial statements.

52. Which of the following accounting procedures requires the greatest knowledge of generally accepted accounting principles? A. Journalizing business transactions. B. Posting journal entries to ledger accounts. C. Preparing a trial balance. D. Locating errors in a trial balance.

53. Transactions are recorded in the general journal in: A. Numerical order. B. Chronological order. C. Account number order. D. Financial statement order.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

54. A transaction is first recorded in which of the following accounting records? A. Trial balance. B. Ledger. C. General journal. D. Balance sheet.

55. What type of account will normally contain a debit balance? A. Asset. B. Liability. C. Equity. D. Revenue.

56. If your trial balance has a smaller debit balance than credit balance, it signifies: A. Assets are more than liabilities. B. A profit. C. A loss. D. An error has been made.

57. The manager of Grande Home Improvements purchased several cash registers for the business on June 10 but does not remember whether he paid cash for the full price or still owes a balance to the vendor. Where is the best place for the manager to get the information about this transaction? A. A trial balance prepared at the end of June. B. The general journal. C. A balance sheet prepared at the end of June. D. The ledger account for equipment.

58. Sue Costa, owner of A-1 Cleaning Services, invested an additional $75,000 in the company. Which of the following would be a part of the correct journal entry to record this transaction? A. A debit to the Cash account. B. A debit to the Equity account. C. A debit to the Share Capital account. D. A debit to the Cash Received account.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

59. If a company purchases equipment on account: A. Assets will increase and equity will also increase. B. Assets will increase and equity will decrease. C. Assets will increase and equity will remain unchanged. D. Assets will increase and liabilities will decrease.

60. Preparing a journal entry in proper form involves all the following except: A. Listing all accounts debited before any credits. B. Computing the balances in accounts involved in the transaction. C. Indicating the date of transaction. D. Providing a brief written explanation of the transaction.

61. The journal entry to record a particular business transaction includes a credit to a liability account. This transaction is most likely also to include: A. Issuance of new share capital. B. The purchase of an asset on account. C. A cash payment. D. A credit to Accounts Receivable.

62. The journal entry to record a particular business transaction includes a credit to the Cash account. This transaction is most likely also to include: A. Issuance of new share capital. B. The purchase of an asset on account. C. Payment of an outstanding note payable. D. A credit to Accounts Receivable.

63. The collection of an account receivable is recorded by a debit to Cash and a credit to Accounts Payable. If this error is not corrected: A. Total liabilities are understated. B. Total assets are understated. C. Total liabilities are overstated. D. Equity is overstated.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

64. Posting is the process of: A. Transferring debit and credit entries from the journal into the appropriate ledger accounts. B. Determining that the dollar amount of debit entries recorded in the ledger is equal to the dollar amount of credit entries. C. Entering information into a computerized data base. D. Preparing journal entries to describe each business transaction.

65. If a company purchases equipment for cash: A. Assets will increase and equity will also increase. B. Assets will increase and equity will decrease. C. Assets will increase and equity will remain unchanged. D. Total assets and equity will remain unchanged.

66. A trial balance that is out of balance indicates that: A. The number of ledger accounts with debit balances is not equal to the number of accounts with credit balances. B. A debit has been posted to the wrong account. C. There is not an equality of debit and credit amounts in the ledger. D. A journal entry has been completely omitted from the posting process.

67. A trial balance consists of: A. A two-column schedule of all debit and credit entries posted to ledger accounts. B. A two-column financial statement intended for distribution to interested parties outside the business. C. A two-column schedule showing the totals of all debits and of all credits made in journal entries. D. A two-column schedule listing names and balances of all ledger accounts.

68. Which statement is true about debits? A. Debits always indicate a benefit to the company. B. Debits always indicate a detriment to the company. C. Debits always increase the net worth of a company. D. None of the above statements are true.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

69. Which of the following errors would be disclosed by preparation of a trial balance? A. The collection of an account receivable was recorded by a debit to the Land account rather than to the Cash account. B. The collection of an account receivable for $219 was recorded by a $291 debit to Cash and a $291 credit to Accounts Receivable. C. The collection of a $365 account receivable was not recorded at all. D. The collection of a $325 account receivable was recorded by a $325 debit to Cash and a $325 debit to Accounts Receivable.

70. Which of the following errors would not be disclosed by preparation of a trial balance? A. An error was made in computing the balance of the Cash account. B. A journal entry included a debit to the Equipment account for $3,200, but this amount was erroneously posted as $2,300. C. During the posting process, a $1,700 debit to Cash was accidentally entered in the credit side of the Cash account. D. The journal entries recorded on the last day of the year have never been posted to the ledger.

71. Which statement is true about credits? A. Credits always indicate a benefit to the company. B. Credits always indicate a detriment to the company. C. Credits always increase the net worth of a company. D. None of the above statements are true.

72. The statement "This business produces profit of $520,000" is unclear because it fails to specify: A. The accounting method, that is, accrual or cash basis. B. Whether the amount earned is before or after expenses. C. The time period. D. The amount of cash withdrawn from the business by the owner.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

73. The term revenue can best be described as: A. The selling price of goods and services rendered to customers during a given accounting period. B. The cash received from selling goods and serving customers during a given accounting period. C. The net increase in equity during a given period. D. The "bottom line" in the income statement.

74. The recognition principle indicates that revenue usually should be recognized and recorded in the accounting records: A. When goods are sold or services are rendered to customers. B. When cash is collected from customers. C. At the end of the accounting period. D. Only when the revenue can be matched by an equal dollar amount of expenses.

75. In February of each year, the Carlton Hotel holds a very popular wine tasting event. Tickets must be ordered and paid for in advance, and are typically sold out by November of the preceding year. The recognition principle indicates that the revenue from these ticket sales should be recognized in the period in which the: A. Order is placed. B. Wine tasting is held. C. Payments are received. D. Expenses associated with the wine tasting are paid in full.

76. Collection of an accounts receivable: A. Increases the total assets of a company. B. Decreases the total assets of a company. C. Does not change the total assets of a company. D. Reduces a company's total liabilities.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

77. The matching principle is best demonstrated by: A. Using debits to record decreases in equity and credits to record increases. B. The equation Assets = Liabilities + Equity. C. Allocating the cost of an asset to expense over the periods during which benefits are derived from ownership of the asset. D. Offsetting the cash receipts of the period with the cash payments made during the period.

78. Profit is: A. The excess of debits over credits. B. The increase in equity resulting from the profitable operations of the business. C. The excess of credits over debits. D. The increase in assets of a company during a year.

79. Clinton prepares monthly financial statements. Which of the following violates the matching principle? A. A portion of the salary payments made this month are not recognized as expense because some of the work was done by employees last month. B. The premium on a six-month insurance policy is charged immediately to expense. C. Expenses for the period exceed revenues. D. The cost of advertising done during the month is charged to expense even though no payment is due for 60 days.

80. The matching principle: A. Applies only to situations in which a cash payment occurs before an expense is recognized. B. Applies only to situations in which a cash receipt occurs before revenue is recognized. C. Is used in accrual accounting to determine the proper period in which to recognize revenue. D. Is used in accrual accounting to determine the proper period for recognition of expenses.

81. The reason that revenue is recorded by a credit entry to a revenue account is: A. That revenue always involves a debit to the Cash account. B. Explained by the recognition principle. C. Explained by the matching principle. D. That revenue increases equity.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

82. Revenues increase equity because: A. Revenues increase profit which increases retained earnings. B. Revenues are recorded by a credit. C. Of the matching principle. D. The recognition principle requires revenues be recognized with an increase to equity

83. The reason that both expenses and dividends are recorded by debit entries is that: A. All dividend and expense transactions involve offsetting credit entries to the Cash account. B. Both expenses and dividends are offset against revenues in the income statement. C. Both expenses and dividends reduce equity. D. The statement is untrue-expenses are recorded by debits, but dividends are recorded by credits to the equity account.

84. A journal entry which records revenue must include: A. A debit to Cash. B. A credit to a revenue account. C. A credit to the equity account. D. A debit to the equity account.

85. A journal entry to record revenue could include each of the following, except: A. A credit to a revenue account. B. A credit to the Share Capital account. C. A debit to Cash. D. A debit to Accounts Receivable.

86. A journal entry to recognize an expense must include: A. A credit to Accounts Payable. B. A credit to an expense account. C. A credit to Cash. D. A debit to an expense account.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

87. A journal entry to recognize an expense could include each of the following, except: A. A debit to an expense account. B. A credit to Accounts Payable. C. A debit to a liability account. D. A credit to Cash.

88. Which of the following accounts normally does not have a debit balance? A. Dividends. B. Wage Expense. C. Building. D. Share Capital.

89. On June 18, Baltic Arena paid $6,600 to Marvin Maintenance Limited for cleaning the arena following a monster truck show held on June 9th. This transaction: A. Is recorded by debiting the Retained Earnings account. B. Is recorded by debiting Cash and crediting Cleaning Expense. C. Causes a decrease in equity by increasing expenses for June. D. May not be recorded until all revenue generated from the monster truck show has been collected in cash.

90. Davis Limited, a music group, entertained at a black-tie dinner dance on April 26, and collected the fee in full at the end of the evening. This transaction: A. Causes an increase in assets and revenue, as well as an increase in equity. B. Is recorded by debiting Cash and crediting the Retained Earnings account. C. Causes an increase in assets and a decrease in equity. D. Violates the matching principle unless any expenses associated with this cash receipt are paid prior to recording the revenue.

91. At the end of October, Flagship Marina received a bill for fuel used in October. Payment is not due until November 30. This transaction: A. Should not be recorded in the accounting records until November. B. Causes a decrease in assets and in equity in November, when the bill is paid. C. Should be recorded as an expense of October, regardless of the payment date. D. Is recorded as a liability in October, but is not considered an expense until paid.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

92. On June 27, Healthy Life Services Limited performed extensive tests on lab specimens submitted by several customers and sent invoices totaling $5,200, due in 30 days. A. No revenue from rendering these services should be recorded until payment is received. B. This situation causes an increase in assets and in revenue in June, but has no effect on equity until payment is received. C. Revenue is earned in June, but assets are not increased until payment is received. D. Assets, revenue, and equity are increased in June, regardless of when payment is received.

The following transactions occurred during March, the first month of operations for Quality Galleries Limited: * Share Capital was issued in exchange for $360,000 cash. * Purchased $180,000 of equipment by making a $60,000 cash down payment and signing a note payable for the balance. * Made a $35,000 cash payment on the note payable from the purchase of equipment. * Sold a piece of equipment for cash of $18,000. The equipment was sold at cost, so there is no gain or loss on the sale.

93. Refer to the above data. What is the balance in the Cash account at the end of March? A. $283,000. B. $343,000. C. $318,000. D. $378,000.

94. Refer to the above data. What are total assets of Quality Galleries at the end of March? A. $283,000. B. $162,000. C. $445,000. D. $480,000.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

95. Refer to the above data. What is the balance in the Note Payable account at the end of March? A. $120,000. B. $85,000. C. $35.000. D. $155,000

96. Refer to the above data. What is the total equity at the end of March? A. $283,000. B. $445,000. C. $480,000. D. $360,000.

The following transactions occurred during May, the first month of operations for Hunter Products Limited: * Issued 50,000 shares of share capital to the owners of the corporation in exchange for $600,000 cash * Purchased a piece of land for $400,000, making a $150,000 cash down payment and signing a note payable for the balance. * Made a $60,000 cash payment on the note payable from the purchase of land. * Purchased equipment on credit from BBW Limited for $63,000.

97. Refer to the above data. What is the balance in the Cash account at the end of May? A. $210,000. B. $390,000. C. $600,000. D. $810,000.

98. Refer to the above data. What are total assets of Hunter Products at the end of May? A. $913,000. B. $790,000. C. $853,000. D. $916,000.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

99. Refer to the above data. What is the total of Hunter Products' liabilities at the end of May? A. $253,000. B. $190,000. C. $63,000. D. $313,000.

100. Refer to the above data. What is the total equity at the end of May? A. $810,000. B. $600,000. C. $790,000. D. $660,000.

101. Master Equipment has a $17,400 liability to Arrow Paint Co. When Master Equipment makes a partial payment of $7,600 on this liability, which of following is true about the journal entry made by Master to record this transaction? A. The Cash Paid Out account is credited $7,600 B. The liability account Accounts Payable is credited $9,800 C. The Cash account is debited $7,600. D. The Accounts Payable account is debited $7,600.

102. Eagle News has a $6,000 account receivable from one of its advertisers, Allwood Floors. When Eagle receives $3,600 from Allwood as partial payment: A. Eagle should debit Accounts Receivable for $3,600. B. Eagle should credit Cash for $3,600. C. Eagle should credit Accounts Receivable for $3,600. D. Eagle makes no journal entry until the total of $6,000 is received from Allwood.

103. Bruno's Pizza Restaurant makes full payment of $8,300 on an account payable to Stella's Cheese Co. Stella's would record this transaction with a: A. Debit to Accounts Payable for $8,300. B. Credit to Cash for $8,300. C. Credit to Accounts Receivable for $8,300. D. Credit to Accounts Payable for $8,300.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

104. The purchase of office equipment at a cost of $7,600 with an immediate payment of $4,200 and agreement to pay the balance within 60 days is recorded by: A. A debit of $7,600 to Office Equipment, a debit of $4,200 to Accounts Receivable, and a credit of $3,400 to Accounts Payable. B. A debit of $7,600 to Office Equipment, a credit of $4,200 to Cash, and a credit of $3,400 to Accounts Receivable. C. A debit of $3,400 to Accounts Receivable, a debit of $4,200 to Cash, and a credit of $7,600 to Office Equipment. D. A debit of $7,600 to Office Equipment, a credit of $4,200 to Cash, and a credit of $3,400 to Accounts Payable.

105. Land is purchased by making a cash down payment of $40,000 and signing a note payable for the balance of $130,000. The journal entry to record this transaction in the accounting records of the purchaser includes: A. A credit to Land for $40,000. B. A debit to Cash for $40,000. C. A debit to Land for $170,000. D. A debit to Note Payable for $130,000.

The bookkeeper for Wood Mfg. made the following journal entry on January 30, 2009:

106. Refer to the above data. This transaction involves: A. The sale of land and building for $286,000. B. Payment of $221,000 on a note payable. C. The receipt of $65,000 cash. D. An increase in liabilities of $221,000.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

107. Refer to the above data. Before the journal entry above, Wood had assets, liabilities, and equity of $450,000, $100,000, and $350,000, respectively. What are total assets immediately after the above transaction occurs? A. $221,000. B. $671,000. C. $735,500. D. $450,000.

The following entry appears in Martin Supply's general journal on March 10, 2010:

108. Refer to the above data. This transaction involves: A. Martin's collection of $35,000 on an account receivable. B. Payment of $21,000 cash by Martin C. A $21,000 overall increase in Martin's assets. D. Sale of equipment by Martin for $51,000.

109. Refer to the above data. Before the journal entry above, Martin had assets of $900,000; liabilities of $460,000; and equity of $440,000. Total assets immediately after the above transaction has been recorded amount to: A. $900,000. B. $921,000. C. $956,000. D. $794,000.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Use the following to answer questions 110-112: Montauk Oil Co. reports these account balances at December 31, 2010

Accounts Payable Land Notes Payable Equipment Cash Accounts Receivable Buildings Share Capital Retained Earnings

$110,000 $200,000 $260,000 $160,000 $80,000 $100,000 $240,000 $340,000 $70,000

On January 2, 2011, Montauk Oil collected $50,000 of its accounts receivable and paid $20,000 of its accounts payable.

110. Refer to the above data. In a trial balance prepared at December 31, 2010 the total of the debit column is: A. $1,540,000. B. $780,000. C. $1,020,000. D. $700,000.

111. Refer to the above data. In a trial balance prepared at January 3, 2011, the total of the debit column is: A. $760,000. B. $1,570,000. C. $740,000. D. $370,000.

112. Refer to the above data. On January 3, 2011, total liabilities are: A. $370,000. B. $350,000. C. $300,000. D. $70,000.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Ceramic Products Limited reports these account balances at January 1, 2009 (shown in alphabetical order):

Accounts Payable Accounts Receivable Buildings Share Capital Cash Equipment Land Notes Payable Retained Earnings

$28,000 $20,000 $153,000 $185,000 $13,000 $20,000 $80,000 $24,000 $49,000

On January 5, Ceramic Products collected $12,000 of its accounts receivable and paid $11,000 on its note payable.

113. Refer to the above data. In a trial balance prepared for Ceramic Products on January 1, 2009, the total of the credit column is: A. $182,000. B. $196000. C. $166,000. D. $286,000.

114. Refer to the above data. In a trial balance prepared on January 5, 2009, the total of the credit column is: A. $275,000. B. $286,000. C. $287,000. D. $297,000.

115. Refer to the above data. On January 5, 2009, total liabilities are: A. $0. B. $30,000. C. $56,000. D. $41,000.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

116. Ben Dryden, president of Jet Glass Limited, noticed a $8,000 debit to Accounts Payable in the company's general ledger. This debit could correspond to: A. A $8,000 sale to a customer. B. A purchase of equipment costing $8,000 on credit. C. A payment of $8,000 to a supplier to settle a balance due. D. The failure to pay this month's $8,000 utility bill on time.

117. Black Systems sold and delivered modems to White Computers for $330,000 to be paid by White in three equal installments over the next three months. The journal entry made by Black Systems to record this transaction will include: A. A debit to Sales Revenue for $330,000. B. A debit to Accounts Receivable for $330,000. C. A debit to Accounts Receivable for $110,000. D. A debit to Cash Paid for $330,000.

118. Green Systems sold and delivered modems to Blue Computers for $660,000 to be paid by Blue in three equal installments over the next three months. The journal entry made by Blue Computers to record the last of the three installment payments will include: A. A debit of $220,000 to Modem Expense. B. A debit of $220,000 to Accounts Receivable. C. A debit of $220,000 to Cash. D. A debit of $220,000 to Accounts Payable.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events Essay Questions

119. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

(A.) The accounting record in which transactions are initially recorded. (B.) A concept designed to avoid overstatement of the financial strength of a company. (C.) A schedule prepared to determine the equality of the debit and credit amounts in the ledger. (D.) An amount entered in the right side of a ledger account. (E.) The sequence of procedures involved in recording transactions, processing the information in the accounting system, and summarizing the information in the form of financial statements. (F.) The accounting record that contains a separate account for each type of asset and liability, and for each element of equity appearing in the balance sheet. (G.) The system of accounting in which every business transaction is recorded by equal dollar amounts of debit and credit entries.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

120. Recording transactions directly in T accounts; trial balance On July 20, Mollie Rose began a new business called MR Printing, which provides typing, duplicating, and printing services. The following six transactions were completed by the business during July. (A.) Issued to Rose 1,000 shares of share capital in exchange for her investment of $200,000 cash. (B.) Purchased land and a small building for $450,000, paying $165,000 cash and signing a note payable for the balance. The land was considered to be worth $240,000 and the building $210,000. (C.) Purchased office equipment for $30,000 from Quality Interiors Limited Paid $17,000 cash and agreed to pay the balance within 60 days. (D.) Purchased a motorcycle on credit for $3,400 to be used for making deliveries to customers and agreed to make payment to Spokes Limited within 10 days. (E.) Paid in full the account payable to Spokes Limited (F.) Borrowed $30,000 from a bank and signed a note payable due in six months. Instructions (A.) Record the above transactions directly in the T accounts below. Identify each entry in a T account with the letter shown for the transaction. This exercise does not call for the use of a journal.

Cash

Office Equipment

Notes Payable

Land

Delivery Equipment

Accounts Payable

Buildings

Share Capital

(B.) Prepare a trial balance at July 31 by completing the form provided.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

121. Recording transactions in T accounts; trial balance On May 15, George Manny began a new business, called Sounds Limited, a recording studio to be rented out to artists on an hourly or daily basis. The following six transactions were completed by the business during May: (A.) Issued to Manny 5,000 shares of share capital in exchange for his investment of $200,000 cash. (B.) Purchased land and a building for $410,000, paying $100,000 cash and signing a note payable for the balance. The land was considered to be worth $310,000 and the building $100,000. (C.) Installed special insulation and soundproofing throughout most of the building at a cost of $120,000. Paid $32,000 cash and agreed to pay the balance in 60 days. Manny considers these items to be additional costs of the building. (D.) Purchased office furnishings costing $18,000 and recording equipment costing $88,400 from Music Supplies. Sounds paid $28,000 cash with the balance due in 30 days. (E.) Borrowed $180,000 from a bank by signing a note payable. (F.) Paid the full amount of the liability to Music Supplies arising from the purchases in D above. Instructions (A.) Record the above transactions directly in the T accounts below. Identify each entry in a T account with the letter shown for the transaction. This exercise does not call for the use of a journal.

Cash

Office Furnishings

Notes Payable

Land

Recording Equipment

Accounts Payable

Buildings

Share Capital

(B.) Prepare a trial balance at May 31 by completing the form provided.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

122. Recording transactions journal entry grid A list of accounts for Harding Company is given below, followed by a series of transactions. Indicate the accounts that would be debited and credited in recording each transaction by placing the appropriate number (or numbers) in the space provided.

1 2 3 4

Cash Accounts Receivable Land Building

5 6 7 8 9

Office Equipment Notes Payable Accounts Payable Share Capital Retained Earnings

Transaction Example: Purchased office equipment, paying part cash, with the balance due on account A. Purchased land and a building, paying part cash and issuing a note payable for the balance of the purchase price B. Sold a piece of the company’s office equipment at cost; received part of the proceeds in cash, with the balance due in 30 days C. Collected an account receivable D. Borrowed money from a bank and signed a note payable due in one year E. Paid an account payable F. Issued share capital in exchange for cash

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Accounts(s) Debited 5

Account(s) Credited 1,7

Chapter 03 - The Accounting Cycle: Capturing Economic Events

123. Listed below are accounts of Global Company, each identified by a number. Following this list of accounts is a series of transactions. You are to indicate for each transaction the accounts that should be debited and credited by inserting the proper account numbers in the space provided.

1 2 3 4

Cash Accounts Receivable Land Building

5 6 7 8 9

Delivery Equipment Notes Payable Accounts Payable Share Capital Retained Earnings

Transaction Example: Purchased delivery equipment, paying part cash and charging the balance on account A. Paid an account payable B. Collected an account receivable C. Issued share capital in exchange for cash D. Sold some delivery equipment at costl received part of the proceeds in cash, with the balance due in 60 days E. Purchased land and building paying part cash and signing a note payable for the balance F. Borrowed money from a bank and signed a note payable due in six months

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Accounts(s) Debited 5

Account(s) Credited 1,7

Chapter 03 - The Accounting Cycle: Capturing Economic Events

124. Recording transactions in general journal Enter the following transactions in the two-column journal of Baumann Bathrooms. Include a brief explanation of the transaction as part of each journal entry.

Mar

1 3 4

8 8 9

Borrowed $90,000 cash from the bank by signing a 90-day note payable. Issued an additional 5,000 shares of share capital in exchange for $40,000 cash Purchased an adjacent vacant lot ofr use as parking space. The price was $70,000, of which $ 30,000 was paid in cash; a note payable was issued for the balance. Acquired shop equipment from Elite Baths for $5,400 cash. Collected an account receivable of $2,900 from a customer, Beekman Art Shoppe. Issued a check for $1,060 in full payment of an account payable to Austin Industries Limited

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

125. Recording transactions in general journal Enter the following transactions in the two-column journal of Festive Parties Limited Include a brief explanation of the transaction as part of each journal entry.

June

Collected an account receivable of $860 from a customer, East Limited 5 Issued a check for $430 in full payment of an account payable to North Limited 9 Borrowed $12,000 cash from the bank by signing a 120-day note payable. 12 Issued an additional 3,000 shares of share capital in exchange for $45,000 cash. 15 Purchased equipment for the business. The price was $13,000, of which $ 3,000 was paid in cash; a note payable was issued for the balance. 21 Acquired office furniture from West Company for $1,100 on account.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

126. Journalize and post basic transactions Precision Grading Co. was organized to grade construction sites. * On June 1, owner Dave Precision deposited $90,000 in a new bank account opened in the name of the business in exchange for share capital. * On June 3, the company acquired grading equipment costing $89,000, paying $43,000 cash and signing a note payable for the balance. * On June 10, the company paid $13,000 of the amount owed for equipment acquired on June 3. Instructions: Journalize these three transactions and post to the ledger accounts.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Share capital Date

Explanation

Debit

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Account No. 50 Credit Balance

Chapter 03 - The Accounting Cycle: Capturing Economic Events

127. Journalize and post basic transactions Geller Landscaping was organized on April 5 when the corporation issued 20,000 shares of share capital to Larry Geller in exchange for $60,000 cash. * On April 8, the business acquired gardening equipment by paying cash of $26,000 and signing a $20,000 note payable, due in four monthly installments of $5,000 each, beginning on April 15. * On April 15, Larry Geller made the first payment on the note payable by writing a check from the business bank account. Instructions: Journalize these three transactions and post to the ledger accounts

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Cash Date

Explanation

Debit

Account No. 1 Credit Balance

Debit

Account No. 25 Credit Balance

Debit

Account No. 40 Credit Balance

Debit

Account No. 50 Credit Balance

Gardening Equipment Date

Explanation

Notes Payable Date

Explanation

Share capital Date

Explanation

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

131. Rules of debit and credit as applied to balance sheet accounts Items in the balance sheet are classified into three categories: assets, liabilities, and equity. (A.) Identify by name two ledger accounts in each of the first two categories above (assets and liabilities) and one equity account. State whether each account would normally have a debit or credit balance. (B.) Describe briefly the rules of debit and credit as applied to the three categories of balance sheet accounts: asset accounts, liability accounts, and equity accounts.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

133. Given the following list of accounts and their amounts for Hayden's Co. in alphabetical order, prepare a trial balance for December 31, 2009 as it should be presented.

Accounts Payable Accounts Receivable Advertising expense Building Share Capital Cash Dividends Land Notes Payable Revenue Retained Earnings Supplies Utilities expense Wage expense Wages Payable

5,000 3,000 400 18,000 14,100 6,500 1,600 26,000 15,000 31,000 ? 700 900 13,250 3,050

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

134. The following trial balance of Brian's Pickle Co for June 30, 2010 does not balance.

Cash Accounts Receivable Supplies Building Note Payable Equity Retained Earnings Revenue Expenses Total

$21,860 35,000 3,640 51,000 $15,500 30,000 10,000 39,500 25,000 $136,500 $95,000

The following errors were discovered: A purchase of supplies for cash was posted as $40 when it should have been $400. The first two numbers of the amount for notes payable were transposed while being copied from the account balance to the trial balance. The correct amount of Notes Payable should be $51,500. A collection of cash was debited to the cash account in the amount of $5,500 but was not credited to the Revenue account. A purchase of supplies for $725 on account was not recorded. Instructions: Prepare a corrected trial balance

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Chapter 03 The Accounting Cycle: Capturing Economic Events Answer Key

True / False Questions

1. The credit side of an account is the right side while the debit side is the left side. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

2. In a computerized accounting system posting may be done automatically but journalizing must be done by someone with an understanding of recording transactions. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

3. The running balance form or the T account form is typically used in the trial balance to display the accounts and their amounts. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

4. Dividends are an expense of a corporation and reduce both total assets and liabilities. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

5. Dividends increase equity and therefore should be added to retained earnings. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

6. Every business transaction is recorded by a debit to a balance sheet account and a credit to an income statement account. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

7. Earning revenue increases equity and expenses reduce equity, therefore revenues are recorded with debit entries and expenses are recorded with credit entries. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 6

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

8. A trial balance cannot be distributed to stockholders in lieu of a balance sheet. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

9. Accounts are usually arranged in the ledger in financial statement order, that is, assets first, followed by liabilities, equity, expenses, and revenues. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

10. A credit to a ledger account refers to the entry of an amount on the right side of an account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

11. The left-hand side of an account is used for recording debits and the right-hand side for recording credits. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

12. If the number of debit entries in an account is greater than the number of credit entries, the account will have a debit balance. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

13. Liability accounts should only be debited and never credited. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

14. Increases in equity are recorded by credits; increases in assets and in liabilities are recorded by debits. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

15. When making a general journal entry, there can only be one debit and one credit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

16. A business that is profitable and liquid will have more accounts with credit balances than with debit balances. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 8

17. Every transaction affects equal numbers of ledger accounts and is recorded by equal dollar amounts of debits and credits. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

18. When a company uses the double-entry method, the total dollar amount of debits recorded must equal the total dollar amount of credits, but the number of debit and credit entries may differ. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

19. If ledger accounts are maintained in three-column, running balance form, the journal should be maintained in the same format. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

20. The general ledger is sometimes called the book of original entry because it is the accounting record where transactions are first recorded. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

21. Each business transaction is initially recorded in a journal and later transferred to the appropriate accounts in a general ledger. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 5

22. The matching concept refers to the relationship between revenues and expenses. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

23. An increase in a liability is recorded by a credit; an increase in equity by a debit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

24. Revenues increase equity and are, therefore, recorded by crediting the revenues account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 8

25. The accrual basis of accounting recognizes expenses only when they are paid. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

26. Every transaction which affects an income statement account also affects a balance sheet account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 8

27. A trial balance that balances provides proof that all transactions were correctly journalized and posted to the ledger. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

28. A trial balance proves that equal amounts of debits and credits were posted to the ledger. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

29. Dividends are an expense of a corporation and appear on the income statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6 Learning Objective: 8

30. A CEO or CFO associated with fraudulent financial reporting could be fined but not imprisoned under the Sarbanes Oxley act. FALSE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 10

31. "I was just following orders" is an acceptable defense if you committed an unethical action during an audit. FALSE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 10

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Chapter 03 - The Accounting Cycle: Capturing Economic Events Multiple Choice Questions

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

33. The price of the goods sold or services rendered during a given accounting period is called: A. Net income B. Profit C. Revenue D. Equity

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

34. The principle that states revenue should be recognized at the time goods are sold or services rendered is called: A. Adequate disclosure B. Conservatism C. Matching D. Revenue recognition

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

40. Which of the following accounts normally has a debit balance? A. Accounts payable. B. Retained earnings. C. Accounts receivable. D. Service revenue.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

41. In a ledger, a separate "account" is maintained for each: A. Type of asset and liability and for each element of equity. B. Business transaction. C. Business day. D. Journal entry.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

42. In accounting, the terms debit and credit indicate, respectively: A. Increase and decrease. B. Left and right. C. Decrease and increase. D. Right and left.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

44. Which of the following accounts normally has a credit balance? A. Cash. B. Service revenue. C. Accounts receivable. D. Utilities.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

49. The process of originally recording a business transaction in the accounting records is termed: A. Journalizing. B. Footing. C. Posting. D. Balancing.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

50. If your trial balance has a higher debit balance than credit balance, it signifies: A. Assets are more than liabilities. B. A profit. C. A loss. D. An error has been made.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 8 Learning Objective: 9

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

53. Transactions are recorded in the general journal in: A. Numerical order. B. Chronological order. C. Account number order. D. Financial statement order.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

54. A transaction is first recorded in which of the following accounting records? A. Trial balance. B. Ledger. C. General journal. D. Balance sheet.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

55. What type of account will normally contain a debit balance? A. Asset. B. Liability. C. Equity. D. Revenue.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

56. If your trial balance has a smaller debit balance than credit balance, it signifies: A. Assets are more than liabilities. B. A profit. C. A loss. D. An error has been made.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

3-60

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

3-61

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

3-62

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

3-63

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

3-64

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

3-65

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7 Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

3-66

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

3-67

Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

84. A journal entry which records revenue must include: A. A debit to Cash. B. A credit to a revenue account. C. A credit to the equity account. D. A debit to the equity account.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

86. A journal entry to recognize an expense must include: A. A credit to Accounts Payable. B. A credit to an expense account. C. A credit to Cash. D. A debit to an expense account.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

88. Which of the following accounts normally does not have a debit balance? A. Dividends. B. Wage Expense. C. Building. D. Share Capital.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 8

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 7 Learning Objective: 8

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 7 Learning Objective: 8

93. Refer to the above data. What is the balance in the Cash account at the end of March? A. $283,000. B. $343,000. C. $318,000. D. $378,000. $360,000 - $60,000 - $35,000 + $18,000 = $283,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

94. Refer to the above data. What are total assets of Quality Galleries at the end of March? A. $283,000. B. $162,000. C. $445,000. D. $480,000. $283,000 + $180,000 - $18,000 = $445,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

95. Refer to the above data. What is the balance in the Note Payable account at the end of March? A. $120,000. B. $85,000. C. $35.000. D. $155,000 $120,000 - $35,000 = $85,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

96. Refer to the above data. What is the total equity at the end of March? A. $283,000. B. $445,000. C. $480,000. D. $360,000. $360,000: share capital issued

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

97. Refer to the above data. What is the balance in the Cash account at the end of May? A. $210,000. B. $390,000. C. $600,000. D. $810,000. $600,000 - $150,000 - $60,000 = $390,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

98. Refer to the above data. What are total assets of Hunter Products at the end of May? A. $913,000. B. $790,000. C. $853,000. D. $916,000. $390,000 + $400,000 + $63,000 = $853,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

99. Refer to the above data. What is the total of Hunter Products' liabilities at the end of May? A. $253,000. B. $190,000. C. $63,000. D. $313,000. $250,000 - $60,000 + $63,000 = $253,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

100. Refer to the above data. What is the total equity at the end of May? A. $810,000. B. $600,000. C. $790,000. D. $660,000. $600,000: share capital issue

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

The bookkeeper for Wood Mfg. made the following journal entry on January 30, 2009:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

The following entry appears in Martin Supply's general journal on March 10, 2010:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

Use the following to answer questions 110-112: Montauk Oil Co. reports these account balances at December 31, 2010

Accounts Payable Land Notes Payable Equipment Cash Accounts Receivable Buildings Share Capital Retained Earnings

$110,000 $200,000 $260,000 $160,000 $80,000 $100,000 $240,000 $340,000 $70,000

On January 2, 2011, Montauk Oil collected $50,000 of its accounts receivable and paid $20,000 of its accounts payable.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

110. Refer to the above data. In a trial balance prepared at December 31, 2010 the total of the debit column is: A. $1,540,000. B. $780,000. C. $1,020,000. D. $700,000. $80,000 + $100,000 + $200,000 + $160,000 + $240,000 = $780,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 9

111. Refer to the above data. In a trial balance prepared at January 3, 2011, the total of the debit column is: A. $760,000. B. $1,570,000. C. $740,000. D. $370,000. $110,000 + $50,000 + $200,000 + $160,000 + $240,000 = $760,000 or $780,000 (from above) - $20,000 payment of liability = $760,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 9

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

112. Refer to the above data. On January 3, 2011, total liabilities are: A. $370,000. B. $350,000. C. $300,000. D. $70,000. $90,000 + $260,000 = $350,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

Ceramic Products Limited reports these account balances at January 1, 2009 (shown in alphabetical order):

Accounts Payable Accounts Receivable Buildings Share Capital Cash Equipment Land Notes Payable Retained Earnings

$28,000 $20,000 $153,000 $185,000 $13,000 $20,000 $80,000 $24,000 $49,000

On January 5, Ceramic Products collected $12,000 of its accounts receivable and paid $11,000 on its note payable.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

113. Refer to the above data. In a trial balance prepared for Ceramic Products on January 1, 2009, the total of the credit column is: A. $182,000. B. $196000. C. $166,000. D. $286,000. $24,000 + $28,000 + $185,000 +$49,000 = $286,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 9

114. Refer to the above data. In a trial balance prepared on January 5, 2009, the total of the credit column is: A. $275,000. B. $286,000. C. $287,000. D. $297,000. $28,000 + $13,000 + $185,000 + $49,000 = $275,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 9

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

115. Refer to the above data. On January 5, 2009, total liabilities are: A. $0. B. $30,000. C. $56,000. D. $41,000. $28,000 + $13,000 = $41,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 8

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 8

Essay Questions

119. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 - 10

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Cash

Office Equipment

Notes Payable

Land

Delivery Equipment

Accounts Payable

Buildings

Share Capital

(B.) Prepare a trial balance at July 31 by completing the form provided.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

(A)

Cash (a) 200,000 (b) 165,000 (e) 30,000 (c) 17,000 (d) 3,400 Land (b) 240,000

Office Equipment (d) 30,000

Notes Payable (b) 285,000 (f) 30,000

Delivery Equipment (d) 3,400

Accounts Payable (f) 3,400 (c) 13,000 (d) 3,400

Buildings (b) 210,000

Share Capital (a) 200,000

(B)

MR PRINTING Trial Balance July 31, 20 Debit $ 44,600 240,000 210,000 30,000 3,400

Cash Land Buildings Office Equipment Delivery Equipment Notes Payable Accounts Payable Share Capital

$528,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 9

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Credit

$315,000 13,000 200,000 $528,000

Chapter 03 - The Accounting Cycle: Capturing Economic Events

Cash

Office Furnishings

Notes Payable

Land

Recording Equipment

Accounts Payable

Buildings

Share Capital

(B.) Prepare a trial balance at May 31 by completing the form provided.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

(A)

Cash (a) 200,000 (b) 100,000 (e) 180,000 (c) 32,000 (d) 28,000 (f) 78,400 Land (b) 310,000

Office Furnishings (d) 18,000

Notes Payable (b) 310,000 (e) 180,000

Recording Equipment (d) 88,400

Accounts Payable (f) 78,400 (c) 88,000 (d) 78,400

Buildings (b) 100,000 (c) 120,000

Share Capital (a) 200,000

(B)

SOUNDS LIMITED Trial Balance May 31, 20__ Debit $ 70,200 200,000? 170,000? 9,000 44,800

Cash Land Buildings Office Furnishings Recording Equipment Notes Payable Accounts Payable Share Capital

$494,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 9

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Credit

$350,000 44,000 100,000 $494,000

Chapter 03 - The Accounting Cycle: Capturing Economic Events

1 2 3 4

Cash Accounts Receivable Land Building

5 6 7 8 9

Delivery Equipment Notes Payable Accounts Payable Share Capital Retained Earnings

Transaction Example: Purchased office equipment, paying part cash, with the balance due on account G. Purchased land and a building, paying part cash and issuing a note payable for the balance of the purchase price H. Sold a piece of the company’s office equipment at cost; received part of the proceeds in cash, with the balance due in 30 days I. Collected an account receivable J. Borrowed money from a bank and signed a note payable due in one year K. Paid an account payable L. Issued share capital in exchange for cash

Account(s)

Debited

Credited

3,4

1,6

3-89

Accounts(s) Debited 5

Account(s) Credited 1,7

Chapter 03 - The Accounting Cycle: Capturing Economic Events B

1,2

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Chapter 03 - The Accounting Cycle: Capturing Economic Events AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

1 2 3 4

Cash Accounts Receivable Land Building

5 6 7 8 9

Delivery Equipment Notes Payable Accounts Payable Share Capital Retained Earnings

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Transaction Example: Purchased delivery equipment, paying part cash and charging the balance on account G. Paid an account payable H. Collected an account receivable I. Issued share capital in exchange for cash J. Sold some delivery equipment at costl received part of the proceeds in cash, with the balance due in 60 days K. Purchased land and building paying part cash and signing a note payable for the balance L. Borrowed money from a bank and signed a note payable due in six months

Account(s)

Debited

Credited

1,2

3,4

1,6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

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Accounts(s) Debited 5

Account(s) Credited 1,7

Chapter 03 - The Accounting Cycle: Capturing Economic Events

Mar

1 3 4

8 8 9

Borrowed $90,000 cahs from the bank by signing a 90-day note payable. Issued an additional 5,000 shares of share capital in exchange for $40,000 cash Purchased an adjacent vacant lot ofr use as parking space. The price was $70,000, of which $ 30,000 was paid in cash; a note payable was issued for the balance. Acquired shop equipment from Elite Baths for $5,400 cash. Collected an account receivable of $2,900 from a customer, Beekman Art Shoppe. Issued a check for $1,060 in full payment of an account payable to Austin Industries Limited

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Date General Journal 20___ Mar. 1 Cash Notes Payable Borrowed money from bank on 90-day note. 3 Cash

90,000 90,000

40,000

Share Capital Issued new share capital

40,000

4 Land

70,000

Cash Note Payable Purchased land for parking lot.

30,000 40,000

8 Shop Equipment Cash Acquired shop equipment from Elite Baths

5,400

9 Accounts Payable Cash Paid in full amount due Austin Industries Limited Purchased Equipment.

1,060

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

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5,400

1,060

Chapter 03 - The Accounting Cycle: Capturing Economic Events

June

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Date 20___ Jun 2 Cash

General Journal 860

Accounts Receivable Collected from customer, East Limited 5 Accounts Payable

860

430

Cash Paid in full amount due North limited 9 Cash

430

12,000

Notes Payable Borrowed money from bank on 120-day note. 12 Cash

12,000

45,000

Share Capital Issued new share capital

45,000

15 Equipment Cash

13,000 3,000 3-96

Chapter 03 - The Accounting Cycle: Capturing Economic Events

Notes Payable Purchased Equipment.

10,000

21 Office Furniture Account Payable Acquired office furniture from West Company. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

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1,100 1,100

Chapter 03 - The Accounting Cycle: Capturing Economic Events

126. Journalize and post basic transactions Precision Grading Co. was organized to grade construction sites. * On June 1, owner Dave Precision deposited $90,000 in a new bank account opened in the name of the business in exchange for stock. * On June 3, the company acquired grading equipment costing $89,000, paying $43,000 cash and signing a note payable for the balance. * On June 10, the company paid $13,000 of the amount owed for equipment acquired on June 3. Instructions: Journalize these three transactions and post to the ledger accounts.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Share capital Date

Explanation

Debit

3-99

Account No. 50 Credit Balance

Chapter 03 - The Accounting Cycle: Capturing Economic Events

GENERAL JOURNAL Date Account Titles & Explanations 20___ Jun 1 Cash Share Capital Issued ordinary shares in exchange for cash. 3 Grading equipment

Debit

1 50

90,000

89,000

Cash Notes Payable Purchased grading equipment

1 40

10 Notes Payable Cash Paid off a portion of note payable

40 1

Date June 1 3 10

Date June 3

Date June 3 10

Date June 1

Cash Explanation

Ref 1 1 1

Page 1 Credit

90,000

43,000 46,000

13,000

Debit 90,000

13,000

Account No. 1 Credit Balance 90,000 47,000 43,000 34,000 13,000

Grading Equipment Explanation Ref Debit 1 89,000

Account No. 25 Credit Balance 89,000

Notes Payable Explanation

Account No. 40 Credit Balance 46,000 46,000 33,000

Share capital Explanation

3-100

Ref 1 1

Debit

Ref 1

Debit

13,000

Account No. 50 Credit Balance 90,000 90,000

Chapter 03 - The Accounting Cycle: Capturing Economic Events AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4 Learning Objective: 5

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Cash Date

Explanation

Debit

Account No. 1 Credit Balance

Debit

Account No. 25 Credit Balance

Debit

Account No. 40 Credit Balance

Debit

Account No. 50 Credit Balance

Gardening Equipment Date

Explanation

Notes Payable Date

Explanation

Share capital Date

Explanation

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Date 20___ Apr 5

GENERAL JOURNAL Account Titles & Explanations Cash Share Capital Issued ordinary shares in exchange for cash.

Debit

1 50

60,000

25 1 40

46,000

40 1

5,000

Page 1 Credit

60,000

8 Gardening equipment Cash Notes Payable Purchased gardening equipment 15 Notes Payable Cash Made payment on liability for gardening equipment.

Date Apr 5 8 15

Date Apr 8

Date Apr 8 15

Date Apr 5

Cash Explanation

26,000 20,000

5,000

Ref Debit 1 60,000 1 1

Account No. 1 Credit Balance 60,000 26,000 34,000 5,000 29,000

Gardening Equipment Explanation Ref Debit 1 46,000

Account No. 25 Credit Balance 46,000

Notes Payable Explanation

Account No. 40 Credit Balance 20,000 20,000 15,000

Share capital Explanation 3-103

Ref 1 1

Debit

Ref 1

Debit

5,000

Account No. 50 Credit Balance 60,000 60,000

Chapter 03 - The Accounting Cycle: Capturing Economic Events

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128. Effects of a series of transactions on balance sheet items Fieldstone Limited had the following transactions during the month of March, the first month of operations for the business: * The corporation issued 12,000 shares of share capital to Sandy Fieldstone in exchange for $120,000 cash. * Purchased $73,000 of equipment; made a $18,000 down payment and signed a note payable for the balance. * Made payment of $9,000 on the amount owed for equipment (A.) Compute the balance in the Cash account at the end of March. (B.) What are the total assets of Fieldstone Limited at the end of March? (C.) Compute the balance in the Notes Payable account at the end of March. (D.) What is the total amount of equity at the end of March? (A. )Balance in Cash account at end of March: $93,000 Computation: $120,000 - $18,000 - $9,000 = $93,000 (B.) Total assets at end of March: $166,000 Computation: Cash $93,000 (part a) + equipment $73,000 = $166,000 (C.) Balance in Notes Payable account at end of March: $46,000 Computation: Original amount $55,000 - $9,000 = $46,000 (D.) Total equity (Share Capital account) at end of March: $120,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

129. Effects of a series of transactions on balance sheet items Clark Plumbing had the following transactions during the month of June, the first month of operations for the business: * The corporation issued 12,000 shares of share capital to Bill Clark in exchange for his investment of $72,000 cash. * Purchased $36,000 of equipment; made an $8,000 down payment and signed a note payable for the balance. * Made payment of $4,000 on the amount owed for equipment (A.) Compute the balance in the Cash account at the end of June. (B.) What are the total assets of Clark Plumbing at the end of June? (C.) Compute the balance in the Notes Payable account at the end of June. (D.) What is the total amount of equity at the end of June? (A.) Balance in Cash account at end of June: $60,000 Computation: $72,000 - $8,000 - $4,000 = $60,000 (B.) Total assets at end of June: $96,000 Computation: Cash $60,000 (part a) + equipment $36,000 = $96,000 (C.) Balance in Notes Payable account at end of June: $24,000 Computation: Original amount $28,000 - $4,000 = $24,000 (D.) Total equity (Share Capital account) at end of June: $72,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

130. Double-entry accounting The accounting system of most businesses, whether manual or computer-based, is some form of a double-entry system of accounting. (A.) What is meant by the term "double-entry accounting"? (B.) Explain how the double-entry system is applied in accounting for the following transaction: Majestic Company purchases a piece of equipment costing $6,000, paying $3,000 cash with the balance of the purchase price to be paid within 60 days. (A.) The phrase "double-entry" refers to the need for both debit entries and credit entries, equal in dollar amount, to record every transaction. As a result of this double-entry system, the accounting equation always remains in balance. (B.) (Students are asked to explain how the double-entry system is applied in accounting for purchase of equipment costing $6,000, paying $3,000 cash with balance to be paid within 60 days.) This transaction is recorded with a debit to the asset Equipment for $6,000, a credit to the asset Cash for $3,000, and a credit to a liability Accounts Payable for $3,000. This accounting demonstrates that the transaction is recorded by an equal dollar amount ($6,000) of debit entries and credit entries. The accounting equation remains in balance-total assets have increased by $3,000, and total liabilities have increased by $3,000 as a result of this transaction.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

Assets Cash Accounts Receivable Land Building Equipment Supplies (All have debit balances)

Liabilities Accounts Payable Notes Payable Salaries Payable Income Taxes Payable (All have credit balances)

Equity Share Capital Retained Earnings (All have credit balances)

(B.) Debit and credit rules for:

Asset accounts Liability and Equity accounts

Increases in assets are recorded by debits. Decreases in assets are recorded by credits. Increases in both liability and equity accounts are recorded by Credits Decreases in both liability and equity accounts are recorded by debits

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3 Learning Objective: 4

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132. Matching principle In April, Grinnel Paving Limited acquired a large quantity of crushed stone on account with payment due in 90 days. The stone was used in May when Grinnel Paving Limited completed a large parking lot for a local shopping center. In early July, Grinnel Paving Limited paid the supplier from which the crushed stone had been obtained. In which month should Grinnel Paving Limited recognize the cost of the crushed stone as an expense? What accounting principle provides the justification for the answer? Grinnel Paving Limited must recognize the expense in the month of May. This is the period in which the stone was consumed in the act of earning revenue. The cost of the stone must be matched against the revenue earned in May. The matching principle requires and supports this accounting treatment.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

133. Given the following list of accounts and their amounts for Hayden's Co. in alphabetical order, prepare a trial balance for December 31, 2009 as it should be presented.

Accounts Payable Accounts Receivable Advertising expense Building Share Capital Cash Dividends Land Notes Payable Revenue Retained Earnings Supplies Utilities expense Wage expense Wages Payable

5,000 3,000 400 18,000 14,100 6,500 1,600 26,000 15,000 31,000 ? 700 900 13,250 3,050

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Hayden’s Company Trial Balance December 31, 2009 Account Cash Accounts Receivable Supplies Land Building Note Payable Accounts Payable Wages Payable Share Capital Retained Earnings Dividends Revenue Advertising Expense Utility Expense Wages Expense Total

Debit $6,500 3,000 700 26,000 18,000

Credit

$15,000 5,000 3,050 14,100 2,200 1,600 31,000 400 900 13,250 $70,350

$70,350

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 8 Learning Objective: 9

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134. The following trial balance of Brian's Pickle Co for June 30, 2010 does not balance.

Cash Accounts Receivable Supplies Building Note Payable Equity Retained Earnings Revenue Expenses Total

$21,860 35,000 3,640 51,000 $15,500 30,000 10,000 39,500 25,000 $136,500 $95,000

A collection of cash was debited to the cash account in the amount of $5,500 but was not credited to the Revenue account. A purchase of supplies for $725 on account was not recorded. Instructions: Prepare a corrected trial balance Brian’s Pickle Co. Trial Balance June 30, 2010 Account Cash Accounts Receivable Supplies Building Note Payable Accounts Payable Equity Retained Earnings Revenue Expenses Total

Debit $21,500 35,000 4,725 51,000

Credit

$51,500 725 30,000 10,000 45,000 25,000 $137,225

$137,225

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4 Learning Objective: 8 Learning Objective: 9

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

CHAPTER 3

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer for each question in the space provided. The account balances for Creative Band Limited as of May 31, 2009, are listed below in alphabetical order: Accounts Payable ....................... Accounts Receivable .................. Building ...................................... Cash ...........................................

$12,000 $14,000 $42,000 $8,000

Equipment............................... Land ........................................ Notes Payable ......................... Share Capital ..........................

$18,000 $52,000 $30,000 $92,000

On June 3, Creative Band, Inc collected $4,000 of its accounts receivable and paid $7,000 of its accounts payable. In addition, $2,000 of additional shares of share capital are issued for $5,600. 1

Refer to the above data. In a trial balance prepared on May 31, 2009, the sum of the debit column is: a $120,000. c $134,000. b $156,000. d Some other amount.

Refer to the above data. On June 4, the balance in the Cash account is: a $17,600. c $10,600. b $ 5,000. d Some other amount.

Refer to the above data. On June 4, the balance in the Share Capital account is: a $86,400. c $94,000. b $97,600. d Some other amount.

Refer to the above data. In a trial balance prepared on June 4, the sum of the credit column is: a $130,000. c $127,000 b $132,600. d Some other amount.

Refer to the above data. On June 6, the bookkeeper for Creative Band, Inc makes this entry: Equipment ................................................................................ 7,400 Cash ....................................................................... 4,200 Accounts Payable .................................................. 3,200 This transaction: a Decreases total assets . b Involves the sale of equipment for $7,400. c Increases total assets $7,400. d Increases liabilities .

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

CHAPTER 3

NAME

10-MINUTE QUIZ B

SECTION

Enter the following transactions in the two-column journal provided for Charlie’s Cabinetry. You may omit explanations. Mar. 2 4 5

Purchased auto cleaning supplies from Robert Suppliers for $750 on account. Collected an account receivable of $525 from a customer, Elegant Kitchens. Paid $275 in partial payment of an account payable to Lucy Co for equipment purchased in February. Issued share capital in exchange for $5,600 cash. Purchased office equipment from Diamond’s Warehouse for $3,700; paid $1,700 cash and issued a note payable due in 90 days for the balance.

7 9

Date 20__

General Journal

Mar 2

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

CHAPTER 3

NAME

10-MINUTE QUIZ C

SECTION

Capital Financial Advisors Limited had the following transactions during January, its first month of operations: a b c d e

Issued to Marvin Tycoon 9,000 shares of share capital in exchange for his investment of $45,000 cash. Borrowed $30,000 from a bank and signed a note payable due in three months. Purchased office furniture costing $19,750; paid $6,000 cash and charged the balance on account. Paid $6,000 of the amount owed for office furniture. Issued an additional 2,000 shares of share capital to an individual who invests $10,000 in the business.

Instructions Record the above transactions directly in the T accounts below. Identify each entry in a T account with the letter shown for the transaction. Cash

Office Furnishings

Accounts Payable

Share Capital

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Notes Payable

Chapter 03 - The Accounting Cycle: Capturing Economic Events

CHAPTER 3

NAME

10-MINUTE QUIZ D

SECTION

The following transactions occurred during June, the first month of operations for Accurate Manufacturing.: * * * *

Issued 60,000 shares of share capital to the owners of the corporation in exchange for $600,000 cash. Purchased a piece of land for $250,000, making an $80,000 cash down payment and signing a note payable for the balance. Made a $100,000 cash payment on the note payable from the purchase of land. Purchased equipment on credit from National Supply for $40,000. 1

Refer to the above data. The balance in the Cash account at the end of June: a $52,000. c $420,000. b $350,000. d $380,000.

Refer to the above data. What are total assets of Precision Manufacturing at the end of June? a $710,000. c $630,000. b $890,000. d $460,000.

Refer to the above data. What is the total of Precision’s liabilities at the end of June? a $70,000. c $200,000. b $110,000. d $240,000.

Refer to the above data. What is the total equity at the end of June? a $60,000. c $240,000. b $110,000. d $600,000

CHAPTER 3 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

According to the rules of debit and credit for balance sheet accounts: a Increases in asset, liability, and equity accounts are recorded by debits. b Decreases in asset and liability accounts are recorded by credits. c Increases in asset and equity accounts are recorded by debits. d Decreases in liability and equity accounts are recorded by debits.

Sunset Tours has a $3,500 account receivable from the Del Mar Rotary. On January 20, the Rotary makes a partial payment of $2,100 to Sunset Tours. The journal entry made on January 20 by Sunset Tours to record this transaction includes: a A debit to the Cash Received account of $2,100. b A credit to the Accounts Receivable account of $2,100. c A debit to the Cash account of $1,400. d A debit to the Accounts Receivable account of $1,400.

Indicate all of the following statements that correctly describe profit. Profit: a Is equal to revenue minus expenses. 3-115

Chapter 03 - The Accounting Cycle: Capturing Economic Events

b c d

Is equal to revenue minus the sum of expenses and dividends. Increases equity. Is reported by a company for a period of time.

Which of the following is provided by a trial balance in which total debits equal total credits? a Proof that no transaction was completely omitted from the ledger during the posting process. b Proof that the correct debit or credit balance has been computed for each account. c Proof that the ledger is in balance. d Proof that transactions have been correctly analyzed and recorded in the proper accounts..

Which of the following explains the debit and credit rules relating to the recording of revenue and expenses? a Expenses appear on the left side of the balance sheet and are recorded by debits; revenue appears on the right side of the balance sheet and is recorded by credits. b Expenses appear on the left side of the income statement and are recorded by debits; revenue appears on the right side of the income statement and is recorded by credits. c Revenue increases equity and is recorded by a credit; expenses decrease equity and are recorded as debits. d The recognition principle and the matching principle.

Which of the following is not considered an analytical aspect of the accounting profession? a Evaluating an organization’s operational efficiency. b Forecasting the probable results of future operations. c Designing systems that provide information to decision makers. d Journalizing and posting business transactions.

Indicate all correct answers. In the accounting cycle: a Transactions are posted before they are journalized.. b A trial balance is prepared after journal entries have been posted. c The Retained Earnings account is not shown as an up-to-date figure in the trial balance. d Journal entries are posted to appropriate ledger accounts.

Indicate all correct answers. Dividends: a Decrease equity. b Decrease profit. c Are recorded by debiting the Dividend account. d Are a business expense.

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SOLUTIONS TO CHAPTER 3 10-MINUTE QUIZZES QUIZ A 1 C 2 C 3 B 4 B 5 D Learning Objective: 2, 3, 4, 9 QUIZ B Learning Objective: 2, 3, 4 Date

General Journal

20__ Mar 2

Supplies

750 Accounts Payable

750

Bought supplies from Robert Suppliers. 4

Cash

525 Accounts Receivable

525

Collected from Elegant Kitchens 5

Accounts Payable

275

Cash

275

Partial payment on amount due to Lucy Co. 7

Cash

5,600 Share Capital

5,600

Issued stock. 9

Office Equipment

3,700

Cash

1,700

Notes Payable

2,000

Purchased office equipment from Diamond’s Warehouse; note due in 90 days.

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Chapter 03 - The Accounting Cycle: Capturing Economic Events

QUIZ C Learning Objective: 2, 3. 4 Cash (a) 45,000 (c) (b) 30,000 (d) (e)

(d)

6,000 6,000

(c)

Office Furnishings 19,750

10,000 Notes Payable (b)

30,000

Accounts Payable 6,000 (c)

13,750

Share Capital (a)

45,000

(e)

10,000

QUIZ D 1 C 2 A 3 B 4 D Learning Objective 2, 3, 4 SOLUTIONS TO CHAPTER 3 SELF-TEST QUESTIONS FROM TEXTBOOK 1 d 2 b 3 a, c, and d 4 c 5 c 6 d 7 b, c, and d 8 a and c

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Chapter 04 The Accounting Cycle: Accruals and Deferrals True / False Questions

1. Adjusting entries are needed whenever transactions affect the revenue or expenses of more than one accounting period. True False

2. The book value of a depreciable asset can be determined by its market value at a particular time. True False

3. The adjusting entry to record estimated income taxes in a profitable period consists of a credit to Income Tax Expense and a debit to Income Tax Payable. True False

4. The failure to record an adjusting entry for depreciation would cause assets to be overstated and profit to be understated. True False

5. The need for adjusting entries results from timing differences between the receipt or disbursement of cash and the dates on the financial statements. True False

6. The adjusted trial balance may be used in place of the income statement. True False

7. The book value of an asset may also be called the market value of the asset. True False

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

8. The period of time over which the cost of an asset is allocated to depreciation expense is called its useful life. True False

9. The adjusted trial balance combines the trial balance items with the adjusting entries to determine the adjusted balances. True False

10. When a company receives cash in advance and it is obligated to provide a service or a product in the future, the entry would be a credit to a liability account and a debit to revenue. True False

11. Adjusting entries are only required when errors are made. True False

12. The Cash account is usually affected by adjusting entries. True False

13. Avalon Company paid $4,400 cash for an insurance policy providing three years protection against fire loss. This transaction could properly be recorded by a $4,400 debit to Unexpired Insurance and a $4,400 credit to Cash. True False

14. Unearned revenue is a liability and should be reported on the income statement. True False

15. Unpaid expenses may be included as an expense on the income statement. True False

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

16. Prepaid expenses are assets that should appear on the balance sheet. True False

17. One of the purposes of adjusting entries is to convert assets to expenses. True False

18. Every adjusting entry involves the recognition of either revenue or equity. True False

19. An adjusting entry to recognize that a fee received in advance has now been earned will cause an increase in total liabilities. True False

20. Omission of the adjusting entry needed to accrue an expense at the end of the period would cause liabilities to be understated. True False

21. Wages are an expense to the employer when earned rather than when paid. True False

22. Immaterial items may be accounted for in the most convenient manner, without regard to other theoretical concepts. True False

23. All assets should be depreciated. True False

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

24. Materiality is a matter of professional judgment. True False

25. An expenditure that benefits the year in which it is made should be deducted from revenue in the same year. True False

26. An expenditure that benefits year one but is paid for in year two should not be capitalized until year two. True False

27. Companies that engage in fraud will often capitalize an asset rather than an expense account. True False

Multiple Choice Questions

28. If Hot Bagel Co. estimates depreciation on an automobile to be $578 for the year they should make the following adjusting entry: A. Debit Accumulated Depreciation $578 and credit Depreciation Expense $578. B. Debit Depreciation Expense $578 and credit Automobile $578. C. Credit Accumulated Depreciation $578 and debit Depreciation Expense $578. D. Debit Automobile $578 and credit Depreciation Expense $578.

29. Accumulated Depreciation is A. An asset account B. A revenue account C. A contra-asset account D. An expense account.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

30. Adjusting entries are prepared A. Before financial statements and after a trial balance has been prepared. B. After a trial balance has been prepared and after financial statements are prepared C. After posting but before a trial balance is prepared. D. Anytime an accountant sees fit to prepare the entries.

31. The normal balance of the Accumulated Depreciation account is A. A debit balance B. A credit balance C. Either a debit balance or a credit balance. D. There is no normal balance for this account.

32. Unearned revenue may also be called A. Profit B. Deferred revenue C. Unexpired revenue D. Services rendered

33. The adjusting entry to record income taxes at the end of an unprofitable accounting period consists of a A. Debit to Income Tax Expense and a credit to Income Tax Payable B. Credit to Income Tax Expense and a debit to Income Tax Payable C. Credit to Income Tax Receivable and a debit to Income Tax Expense D. No adjusting entry is required for income taxes if there are no profits

34. Which of the following is not considered a basic type of adjusting entry? A. An entry to convert a liability to a revenue B. An entry to accrue unpaid expenses C. An entry to convert an asset to an expense D. An entry to convert an asset to a liability

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

35. The United Shipping Co. made an adjusting entry accruing interest on a note payable for the month of January for $800. The note required 12% per annum on the principal. The principal amount of the note payable must have been A. $7,000 B. $9,600 C. $80,000 D. $10,800

36. Rose Corp. has a note receivable from Jewel Co for $80,000. The note matures in 5 years and bears interest of 6%. Rose is preparing financial statements for the month of June. Rose should make an adjusting entry A. Debiting Interest Revenue for $400 and crediting Interest Receivable for $400. B. Debiting Interest Receivable for $400 and crediting Interest Revenue for $400 C. Debiting Interest Revenue for $4,800 and crediting Interest Receivable for $4,800. D. Crediting Interest Payable for $400 and debiting Interest Expense for $400.

37. Hahn Corp. has three employees. Each earns $600 per week for a five day work week ending on Friday. This month the last day of the month falls on a Wednesday. The company should make an adjusting entry A. Debiting Wage Expense for $1,080 and crediting Wages Payable for $1,080 B. Debiting Wage Expense for $360 and crediting Wages Payable for $360 C. Crediting Wage Expense for $1,080 and debiting Wages Payable for $1,080 D. Crediting Wage Expense for $360 and debiting Wages Payable for $360

38. Which of the following activities is least likely to be limited to "year-end"? A. Closing the accounts. B. Drafting notes to accompany statements. C. Recording transactions. D. Undergoing an audit.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

39. Depreciation is: A. An exact calculation of the decline in value of an asset. B. Only an estimate of the decline in value of an asset. C. Only recorded at the end of a year and never over a shorter time period. D. Management must know the exact life of an asset in order to calculate an acceptable depreciation expense.

40. We can compare income of the current period with income of a previous period to determine whether the operating results are improving or declining: A. Only if each accounting period covered is a full year. B. Only if the same accountant prepares the income statement each period. C. Only if the accounting periods are equal in length. D. Only if a manual accounting system is used in both periods.

41. The purpose of adjusting entries is to: A. Prepare the revenue and expense accounts for recording the revenue and expenses of the next accounting period. B. Record certain revenue and expenses that are not properly measured in the course of recording daily routine transactions. C. Correct errors made during the accounting period. D. Update the equity account for the changes in equity that had been recorded in revenue and expense accounts throughout the period.

42. Unearned revenue is: A. An asset. B. Income. C. A liability. D. An expense.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

43. Which of the following is not a purpose of adjusting entries? A. To prepare the revenue and expense accounts for recording transactions of the following period. B. To apportion the proper amounts of revenue and expense to the current accounting period. C. To establish the proper amounts of assets and liabilities in the balance sheet. D. To accomplish the objective of offsetting the revenue of the period with all the expenses incurred in generating that revenue.

44. Which of the following situations does not require an adjusting entry at the end of January? A. On January 1, Empire Company purchased delivery equipment with an estimated useful life of five years. B. On January 1, Empire Company began delivery service for a large client who will pay at the end of a three-month period. C. At the end of January, Empire Company pays the custodian for January office cleaning services. D. On January 1, Empire Company paid rent for six months on its office building.

45. Adjusting entries are needed: A. Whenever revenue is not received in cash. B. Whenever expenses are not paid in cash. C. Only to correct errors in the initial recording of business transactions. D. Whenever transactions affect the revenue or expenses of more than one accounting period.

46. Adjusting entries help achieve the goals of accrual accounting by applying the following two accounting principles: A. Business entity concept and recognition principle. B. Cost principle and the accounting equation. C. Recognition principle and matching principle. D. Matching principle and safety principle.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

47. No adjusting entry should consist of: A. A debit to an expense and a credit to an asset. B. A debit to an expense and a credit to revenue. C. A debit to an expense and a credit to a liability. D. A debit to a liability and a credit to revenue.

48. The entry to record depreciation is an example of an adjusting entry: A. To apportion a recorded cost. B. To apportion unearned revenue. C. To convert a liability to revenue. D. To record unrecorded revenue.

49. During the last month of its fiscal year, Echo Lake Resort accepted numerous deposits from customers. By the end of the month many, but not all, of these guests had completed their stays. The entry to record this event is an example of an adjusting entry A. To apportion a recorded cost. B. To apportion unearned revenue. C. To record unrecorded expenses. D. To record unearned revenue.

50. Prepaid expenses are: A. Assets. B. Income. C. Liabilities. D. Expenses.

51. Colonial Systems prepares monthly financial statements. Colonial would record a prepaid expense in each of the following situations except: A. Colonial Systems purchased a two-year fire insurance policy. B. Colonial Systems paid for six months' gardening services in advance. C. A tenant paid Colonial Systems three months' rent in advance. D. Colonial Systems purchased enough office supplies to last several months.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

52. Which of the following statements is not true regarding prepaid expenses? A. Prepaid expenses represent assets. B. Prepaid expenses are shown in a special section of the income statement. C. Prepaid expenses become expenses only as goods or services are used up. D. Prepaid expenses appear in the balance sheet.

53. The concept of materiality: A. Involves only tangible assets and not intangible assets. B. Relates only to the income statement and not the balance sheet. C. Is always an exact percentage of a financial account balance. D. Is measured by an items influence on the economic decisions of users of financial statements.

54. The balance of an unearned revenue account: A. Appears in the balance sheet as a component of equity. B. Appears in the income statement along with other revenue accounts. C. Appears in a separate section of the income statement for revenue not yet earned. D. Appears in the liability section of the balance sheet.

55. In which of the following situations would Daystar Company record unearned revenue in May? A. In April, Daystar Company received payment from a customer for services that are performed in May. B. Daystar Company completes a job for a customer in May; payment will be received in June. C. Daystar Company is paid on May 25 for work done in the first two weeks of May. D. Daystar Company receives payment in May for work to be performed in June and July.

56. Interest that has accrued during the accounting period on a note payable to the bank calls for an adjusting entry consisting of: A. A debit to Interest Expense and a credit to Cash. B. A debit to Notes Payable and a credit to Interest Payable. C. A debit to an asset and a credit to a liability. D. A debit to Interest Expense and a credit to Interest Payable.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

57. The adjusting entry to record interest that has accrued on a note payable to the bank will cause an immediate: A. Increase in liabilities and reduction in profit. B. Decrease in liabilities and reduction in profit. C. Decrease in assets and reduction in profit. D. Increase in assets and increase in profit.

58. Which of the following would not be considered an adjusting entry?

A. A Above. B. B Above. C. C Above. D. D Above.

59. In which of the following situations would an adjusting entry be made at the end of January to record an accrued expense? A. Ramona's Nursery purchased playground equipment on January 1 with an estimated useful life of six years. B. On January 25, Ramona's Nursery hired a college student to drive the minibus; the new employee is to begin work in February. C. January 31 falls on a Tuesday; salaries are paid on Friday of each week. D. On January 31, Ramona's Nursery paid the interest owed on a note payable for January.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

60. As of January 31, Princess Company owes $500 to Butler Co. for equipment rented during January. If no adjustment is made for this item at January 31, how will Princess's financial statements be affected? A. Cash will be overstated at January 31. B. Profit for January will be overstated. C. Equity will be understated. D. The financial statements will be accurate since the $500 does not have to be paid yet.

61. The accountant for the Grassroots Company forgot to make an adjusting entry to record revenue earned but not yet billed to customers. The effect of this error is: A. An overstatement of assets and of profit offset by an understatement of equity. B. An overstatement of profit and an understatement of assets. C. An understatement of assets, profit, and equity. D. An overstatement of liabilities offset by an understatement of equity.

62. Recently, The Bon Appetite Café contracted and paid for a relatively expensive advertisement in Haute Cuisine magazine. Despite the fact that the ad will appear in Haute Cuisine three months after the end of Bon Appetite Café's current fiscal year, the Cafe's accountant recorded the advertising expense when the payment was made. If no adjusting entry is made, how will this year's financial statements of Bon Appetite Café be affected? A. Profit will be overstated and total assets will be understated. B. Profit will be overstated and total assets will be overstated. C. Profit will be understated and total assets will be understated D. Profit will be understated and total assets will be overstated.

63. An adjusting entry involving recognition of accrued revenue is necessary at the end of March in which of the following situations? A. Midwood Consultants received payment in February for consulting services rendered in March. B. Midwood Consultants began working for a client on March 15; bills will be sent monthly beginning April 15. C. Midwood Consultants made payment in January for office rent for the first three months of the year. D. On March 31, a major customer paid his bill for a consulting job completed in February.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

64. An example of a contra-asset account is: A. Depreciation Expense. B. Accumulated Depreciation. C. Prepaid expenses. D. Unearned revenue.

65. Which of the following entries causes an immediate decrease in assets and in profit? A. The entry to record depreciation expense. B. The entry to record revenue earned but not yet received. C. The entry to record the earned portion of rent received in advance. D. The entry to record accrued wages payable.

66. Which of the following is not considered an end-of-period adjusting entry? A. The entry to record the portion of unexpired insurance which has become expense during the period. B. An entry to record revenue which has been earned but has not yet been billed to customers. C. The entry to record depreciation expense. D. An entry to record repayment of a bank loan and to recognize related interest expense.

67. Which of the following is the accounting principle that governs the timing of revenue recognition? A. Recognition principle B. Materiality. C. Matching. D. Depreciation.

68. Which of the following statements concerning materiality is true? A. Generally accepted accounting principles are violated if estimates are used in end-of-period adjustments. B. Each year the Financial Accounting Standards Board (FASB) publishes the dollar amount considered "material" for each industry. C. Immaterial items should be handled in the most expedient manner, even if resulting financial statements are not completely precise. D. Accountants should not waste time and money in recording transactions involving small dollar amounts.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

69. The concept of materiality: A. Treats as material only those items that are greater than 2% or 3% of profit. B. Justifies ignoring the matching principle or the recognition principle in certain circumstances. C. Affects only items reported in the income statement. D. Results in financial statements that are less useful to decision makers because many details have been omitted.

70. Which of the following would not be a proper application of the concept of materiality by Millridge Corporation? A. Transactions involving small dollar amounts are not recorded in Millridge's accounting records. B. Estimates of supplies on hand are used to determine the supplies expense for the period. C. On a monthly basis, utility bills are expensed in the month paid, rather than in the month in which services are used. D. Immaterial items are ignored in making end-of-period adjusting entries.

71. After preparing the financial statements for the current year, the accountant for Barbara's Jewel Co closed the dividends account at year-end by debiting Retained Earnings and crediting the dividends account. What is the effect of this entry on current-year profit and the balance in the equity account(s) at year-end? A. Profit is overstated; balance in the retained earnings account is correct. B. Profit is correct; balance in the share capital account is correct. C. Profit is understated; balance in the share capital account is correct. D. Profit is understated; balance in the retained earnings account is understated.

72. Which of the following accounting principles is concerned with offsetting revenue with the expenses incurred in producing that revenue? A. Recognition principle. B. Materiality. C. Matching. D. Depreciation.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

73. Which of the following is not an example of an adjusting entry? A. The entry to record unpaid expenses. B. The entry to record uncollected revenues. C. The entry to convert liabilities to revenue. D. The entry to pay outstanding bills.

74. Unearned revenue appears: A. As income on the income statement. B. As an asset on the balance sheet. C. As a liability on the balance sheet. D. As a part of the retained earnings.

75. Prepaid expenses appear: A. As an expense on the income statement. B. As an asset on the balance sheet. C. As a liability on the balance sheet. D. As a reduction to retained earnings.

76. Which of the following is considered an adjusting entry? A. The entry to record depreciation. B. The entry to pay salaries. C. The entry to pay outstanding bills. D. The entry to declare a dividend distribution.

77. Which of the following is considered a contra-asset account? A. Prepaid expenses. B. Unearned revenue. C. Accumulated depreciation. D. All of the above.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

78. Which statement is true about land? A. Land should be depreciated over the same period as the building located on it. B. Land cannot be depreciated for greater than a 40-year period. C. Land should not be depreciated. D. The straight line method should be used to depreciate land.

79. Which statement is true about an adjusted trial balance? A. It is prepared before adjusting entries. B. Revenue accounts and expense accounts should not appear on the adjusted trial balance. C. Balance sheet items are presented before income statement items. D. Accumulated depreciation should equal depreciation expense.

80. On the adjusted trial balance, retained earnings is: A. Stated at the period-end amount. B. Stated at the period-beginning amount. C. Adjusted for all revenues and expenses for the period. D. Adjusted for the period's dividends.

81. Depreciation expense is: A. Only an estimate. B. An exact calculation prepared by an appraiser. C. Not to be calculated unless the exact life of an asset can be determined. D. To be determined for all assets owned by a company.

82. The cost of insurance is considered an expense A. Only when the entire policy period has passed. B. Only when the policy is purchased. C. Only when the premium is paid. D. Evenly over the term of the policy.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

83. Shop supplies are expensed when: A. Consumed. B. Purchased. C. Paid for. D. Ordered.

84. Accumulated depreciation is: A. The depreciation expense recorded on an asset to date. B. The remaining book value of an asset. C. The depreciation expense taken on an asset during the current period. D. An expense on the income statement.

85. The accrual of interest on a note payable will: A. Reduce total liabilities. B. Increase total liabilities. C. Have no effect upon total liabilities. D. Will have no effect upon the income statement but will affect the balance sheet.

86. In which of the following situations would the largest amount be recorded as an expense of the current year? (Assume accrual basis accounting.) A. $4,000 is paid in January for equipment with a useful life of four years. B. $1,800 is paid in January for a two-year fire insurance policy. C. $10,000 cash is withdrawn by the owner for personal use. D. $900 is paid to an attorney for legal services rendered during the current year.

87. Gourmet Shop purchased cash registers on April 1 for $12,000. If this asset has an estimated useful life of four years, what is the book value of the cash registers on May 31? A. $250. B. $3,000. C. $9,000. D. $11,500.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

88. Videobusters Limited offered books of video rental coupons to its patrons at $40 per book. Each book contained a certain number of coupons for video rentals. During the current period 500 books were sold for $20,000, and this amount was credited to Unearned Rental Revenue. At the end of the period it was determined that $15,000 worth of book coupons had been used by customers to rent videos. The appropriate adjusting entry at the end of the period would be: A. Debit Rental Revenue $5,000 and credit Unearned Rental Revenue $5,000. B. Debit Rental Revenue $15,000 and credit Unearned Rental Revenue $15,000. C. Debit Unearned Rental Revenue $5,000 and credit Rental Revenue $5,000. D. Debit Unearned Rental Revenue $15,000 and credit Rental Revenue $15,000.

89. Regal Real Estate which maintains its accounts on the basis of a fiscal year ending June 30, began the management of an office building on June 15 for an agreed annual fee of $4,800. The first payment is due on July 15. The adjusting entry required at June 30 is: A. A debit to Management Fees Receivable for $200 and a credit to a revenue account for $200. B. A $200 debit to Unearned Management Fees and a $200 credit to Management Fees Earned. C. A debit to Cash for $200 and a credit to Management Fees Earned. D. A debit to Cash for $400 offset by a credit to a revenue account for $200 and a liability for $200.

90. Great Kids Co. began providing day care for the children of employees of a large corporation on January 15 for an agreed monthly fee of $9,000. The first payment is to be received on February 15. The adjusting entry required by Great Kids Co. on January 31 includes: A. A credit to Child Care Fees Earned of $4,500. B. A debit to Child Care Fees Receivable of $9,000. C. A debit to Unearned Child Care Revenue of $4,500. D. A debit to Fees Receivable of $9,000.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

91. Before any month-end adjustments are made, the profit of Bennett Company is $76,000. However, the following adjustments are necessary: office supplies used, $3,160; services performed for clients but not yet recorded or collected, $3,640; interest accrued on note payable to bank, $3,040. After adjusting entries are made for the items listed above, Russell Company's profit would be: A. $66,160. B. $78,560. C. $73,440. D. $76,000

92. The accountant for Perfect Painting forgot the following two adjustments at the end of 2010: A. (a) The entry to record depreciation: $3,000. B. (b) The entry to record the portion of fees received in advance which have now been earned: $3,000. As a result of these two omissions: A. Profit for Perfect Painting for 2010 is overstated. B. Profit for Perfect Painting for 2010 is understated. C. Assets of Perfect Painting are overstated at December 31, 2010. D. Liabilities of Perfect Painting are understated at December 31, 2010.

93. Before making month-end adjustments, profit of Cardinal Company was $116,000 for March. Adjusting entries are necessary for the following items: Depreciation for the month of March: $2,300. Interest accrued to March 31, on deposits in banks: $800. Supplies used in March: $100. Fees earned in March that had been collected in advance: $2,600. After recording these adjustments, profit for March is: A. $112,400. B. $113,620. C. $117,000. D. $110,800.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

Omega Company adjusts its accounts at the end of each month. The following information has been assembled in order to prepare the required adjusting entries at December 31: (1) A one-year bank loan of $720,000 at an annual interest rate of 12% had been obtained on December 1. (2) The company's pays all employees up-to-date each Friday. Since December 31 fell on Tuesday, there was a liability to employees at December 31 for two day's pay amounting to $6,800. (3) On December 1 rent on the office building had been paid for four months. The monthly rent is $6,000. (4) Depreciation of office equipment is based on a lifetime of six years. The balance in the Office Equipment account is $9,360; no change has occurred in the account during the year. (5) Fees of $9,800 were earned during the month for clients who had paid in advance.

94. What amount of interest expense has accrued on the bank loan? A. $6,400 B. $7,000. C. $7,200. D. $7,800.

95. The accrued interest should be: A. Debited to Notes Payable. B. Credited to Interest Payable. C. Credited to Cash. D. Credited to Interest Expense.

96. By what amount will the book value of the office equipment decline after the appropriate December adjustment is recorded? A. $1,560. B. $130 C. $0 D. $1,430

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

97. After the appropriate adjusting entry is recorded, the balance in the liability account Unearned Fees will: A. Decrease by $9,800. B. Increase by $9,800. C. Equal $9,800. D. Be unaffected.

98. The entry to record rent expense will include: A. A debit to Prepaid Rent for $6,000. B. A credit to Prepaid Rent for $6,000 C. A credit to Prepaid Rent for $18,000 D. A debit to Prepaid Rent for $18,000.

99. Failure to make the appropriate adjustment to the Salary Expense account will result in: A. Understating profit for December by $6,800. B. Understating profit for January by $6,800. C. Overstating total liabilities at December 31. D. Overstating the balance in Cash at December 31.

Hoffman Limited adjusts its books each month but closes its books at the end of the year. The trial balance at March 31 before adjustments is as follows:

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

Cash Accounts Receivable Supplies Prepaid Insurance Equipment Accumulated Depreciation: Equipment Unearned Service Revenue Share Capital Retained Earnings Dividends Service Revenue Earned Salaries Expense Utilities Expense Rent Expense

Debit Credit $10,920 9,620 1,300 3,120 26,000 $ 10,400 6,500 5,200 13,400 1,560 16,510 7,800 390 1,300 $62,010 $62,010

100. According to service contracts, $4,810 of the Unearned Service Revenue has been earned in March. The amount of Service Revenue Earned to be reported in the March income statement is: A. $16,510. B. $21,320. C. $11,700. D. $20,410.

101. On March 1, Hoffman paid in advance for four months' insurance. The necessary adjusting entry at March 31 includes which of the following? A. A credit to Prepaid Insurance for $2,340. B. A credit to Prepaid Insurance for $780. C. A debit to Prepaid Insurance for $2,340. D. A debit to Prepaid Insurance for $780.

102. At March 31, the amount of supplies on hand is $520. What amount is reported in the January income statement for supplies expense? A. $1,300. B. $0. C. $520. D. $780.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

103. The equipment had an estimated useful life of five years. Compute the book value of the equipment at March 31, after the proper March adjustment is recorded. A. $10,833. B. $15,167. C. $25,567. D. $10,400

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

104. Employees are owed $750 for services since the last payday in March, to be paid the first week in April. The amount to be reported in the March income statement for salaries expense is: A. $7,800. B. $750. C. $ 7,050. D. $8,550.

105. On December 31, Louis Jeweler's made an adjusting entry to record $4,200 accrued interest payable on its mortgage. On January 10, the mortgage payment was made. This payment included interest charges of $6,300, $2,100 of which were applicable to the period from January 1 through January 10. In recording this mortgage payment the accountant should: A. Debit Interest Expense $2,100 and debit Accrued Interest Payable $4,200. B. Debit Interest Expense $6,300. C. Debit Accrued Interest Payable $6,300. D. Debit Interest Expense $2,100 and credit Accrued Interest Payable $4,200.

106. An asset purchased on January 1, 2006 for $60,000 that has an estimated life of 10 years will have a book value on December 31, 2009 of: A. $60,000. B. $24,000. C. $36,000. D. $42,000.

107. If an asset was purchased on January 1, 2006 for $140,000 with an estimated life of 5 years, what is the accumulated depreciation at December 31, 2009? A. $28,000. B. $112,000. C. $56,000. D. $84,000.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

108. Under accrual accounting, salaries earned by employees but not yet paid should be expensed A. In the period in which they are earned. B. In the period in which they are paid. C. In the period with the higher earnings. D. In the period with the lower earnings.

109. Under accrual accounting, Fees received in advance from customers should be shown as being earned A. When cash is collected. B. When services are performed or goods delivered. C. When tax rates are low. D. When tax rates are high.

110. Dolphin Co. received $1,500 in fees during 2009, 1/3 of which was earned in 2010, the rest was earned when received. The company should report which of the following amounts as income in 2009? A. $1,500 B. $500 C. $1,000 D. $0

111. Swordfish Co. earned $75,000 in 2009 and expects to receive 2/3 of the amount in 2010 and the remainder in 2011. How much revenue should they report in 2009? A. $0 B. $25,000 C. $50,000 D. $75,000

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

112. Tuna Co. purchased a building in 2009 for $650,000 and debited an asset called "Buildings" for the entire amount. The company never depreciated the building although it had a useful life of 15 years. This action will cause: A. Profit to be understated. B. Profit to be overstated. C. Profit will not be affected. D. Total assets will be understated.

Essay Questions

113. Accounting terminology Listed below are nine technical accounting terms emphasized in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a.) An account with a credit balance that is an offset against an asset account. (b.) A contra-account. (c.) A liability to customers who have paid in advance. (d.) The estimated current value of an asset. (e.) Entries made to achieve the goals of accrual accounting when revenue or expense transactions span more than one accounting period. (f.) An asset that will expire shortly. (g.) Revenue that has been earned, but not yet received.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

114. Adjusting entries Selected ledger accounts used by Cross Country Truck Rentals Limited, are listed along with identifying numbers. Following this list of account numbers and titles is a series of transactions. For each transaction, you are to indicate the proper accounts to be debited and credited.

1 2 3 4 5 6 21

Cash Accounts Receivable Office Supplies Unexpired Insurance Trucks Accumlated Depr. Expense Trucks Accounts Payable

22 23 24 25 31 32 33

Notes Payable Dividends Payable Income Taxes Payable Unearned Revenue Share Capital Retained Earnings Dividends

41 51 52 53 54 55 56

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Truck Rental Revenue Advertising Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Trucks Income Taxes Expense

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

115. Adjusting entries Selected ledger accounts used by American Advertising Limited, are listed along with identifying numbers. Following this list of account numbers and titles is a series of transactions. For each transaction, you are to indicate the proper accounts to be debited and credited.

1 2 3 4 5 6

Cash Accounts Receivable Office Supplies Unexpired Insurance Office Equipment Accumlated Depr. Expense Office Equip

22 23 24 25 31 32 33

Accounts Payable Income Taxes Payable Unearned Fees Dividends Payable Share Capital Retained Earnings Dividends

4-29

41 51 52 53 54 55

Fees Earned Salaries Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Office Equip. 56 Income Taxes Expense

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

116. End-of-period adjustments-effect on profit Before making any year-end adjusting entries, the revenues of Hot Jazz Studio exceeded expenses by $127,000. However, the following adjustments are necessary: (A.) Prepaid rent consumed, $1,500. (B.) Services rendered to clients but not yet billed, $20,000. (C.) Interest accrued on notes payable, $1,100 (D.) Depreciation, $4,800. (E.) Accrued wages payable, $3,900. (F.) Fees collected in advance which have now been earned, $7,100. Complete the schedule to determine the profit of Hot Jazz Studio after these adjustments have been recorded. Show the effect of each adjustment in the space provided. Compute profit after adjustments and place answer in space provided.

Income before adjusting entries Adjustments:

$127,000

Profit after adjustments

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

117. End-of-period adjustments-effect on profit Ocean View Limited reported revenues of $645,000 and expenses of $360,000 for the month of May, before making any month-end adjusting entries. The following data are provided regarding adjusting entries: (A.) Portion of insurance expiring in May, $2,520. (B.) A customer has used the facilities for two weeks in May; the fee of $4,200 has not yet been billed. (C.) Amount owed for salaries accrued in the last week of May, $1,650. (D.) Depreciation on equipment for May $1,290. (E.) Supplies used in May, $13,125. (F.) Fees collected in advance which have been earned during May, $23,400. Complete the schedule to determine the profit of Ocean View Limited for May after these adjustments have been recorded. Begin your schedule with income before adjusting entries and then show the effect of each adjustment to arrive at profit after adjustment.

Income before adjusting entries Adjustments:

Profit after adjustments

________ $

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

118. Adjusting entries-effect on elements of financial statements Galaxy Entertainment prepares monthly financial statements. On July 31, the accountant made adjusting entries to record: (A.) Depreciation for the month of July. (B.) The portion of prepaid rent for outdoor stage and seating which had expired in July. (C.) Earning of ticket revenue for July which had been subscribed in advance. (When patrons purchase the Summer Jazz Series tickets in advance, the accountant credits Unearned Ticket Revenue.) (D.) Amount owed to Universal from the caterer who sold food and beverages during the July performances. The amount due will be paid to the company on August 8. (E.) Amount owed to the musicians which had accrued since the last pay day in July. Indicate the effect of each of these adjusting entries on the major elements of the company's financial statements-that is, on revenue, expenses, profit, assets, liabilities, and equity. Organize your answer in tabular form, using the column headings shown below and the symbols + for increase, - for decrease, and NE for no effect.

Adjusting Entry (a.) (b.) (c.) (d.) (e.)

Income Statement Revenue Expenses Profit

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Assets

Balance Sheet Liabilities Equity

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

119. Adjusting entries-effect on elements of financial statements. Whoop-It-Up Limited prepares monthly financial statements. On March 31, the company's accountant made adjusting entries to record: (A) Depreciation for the month of March. (B) Amount owed to Whoop-It-Up, Limited for March from the concessionaire operating a juice bar in the facility. The amount due will be remitted to Whoop-It-Up, Limited during the first week in April. (C) Cost of supplies used in March. (When purchased, the cost of supplies is debited to an asset account.) (D) Earning of a portion of annual membership fees which had been collected in advance. (When customers purchase annual memberships, an Unearned Revenue account is credited.) (E) Accrued interest for March owed on a bank loan obtained March 1. No interest expense has yet been recorded. Indicate the effect of each of these adjusting entries on the major elements of the company's financial statements-that is, on revenue, expenses, profit, assets, liabilities, and equity. Organize your answer in tabular form, using the column headings shown below and the symbols + for increase, - for decrease, and NE for no effect.

Adjusting Entry (a.) (b.) (c.) (d.) (e.)

Income Statement Revenue Expenses Profit

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Assets

Balance Sheet Liabilities Equity

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

120. Effects of errors on financial statements Indicate the immediate effect of the following errors on each of the accounting elements described in the column headings below, using the following code: O = Overstated; U = Understated; NE = No Effect.

Error Example: Received $500 cash for services rendered to a customer, but recorded the transaction as $50 (a.) Failed to record depreciation expense for the period. (b.) Recorded payment of an account payable by a credit to cash and debit to an expense account. (c.) Failed to accrue interest earned on investments during the period. (d.) Recorded the purchase of office equipment on account as a debit to Supplies expense and a credit to Accounts Payable.

Total Revenue U

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Total Expense NE

Profit U

Total Assets U

Total Liabilities Ne

Equity U

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

121. Effects of errors on financial statements Indicate the immediate effect of the following errors on each of the accounting elements described in the column headings below, using the following code: O = Overstated; U = Understated; NE = No Effect.

Total Error Revenue Example: Received $500 cash for U services rendered to a customer, but recorded the transaction as $50 (a.) Recorded twice a sale of services to a customer. (b.) Recorded the purchase of office equipment on account as a debit to Office Equipment and a credit to Accounts Receivable (c.) Failed to record intereset accrued at end of period on note payable. (d.) Recorded collection of account receivable by debit to Cash and credit to Revenue.

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Total Expense NE

Profit U

Total Assets U

Total Liabilities Ne

Equity U

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

122. End-of-period adjustments - selected computations Allied Architects adjusts its books each month and closes its books at the end of the year. The trial balance at January 31, 2010, before adjustments is as follows:

Debit $39,645 27,000 3,375 7,560 64,800

Cash Accounts Receivable Supplies Prepaid Advertising Equipment Accumulated Depreciation: Equipment Unearned Consulting Fees Income Taxes Payable Share Capital Retained Earnings Consulting Fees Earned Salaries Expense Utilities Expense Rent Expense

Credit

$22,500 17,550 15,840 18,000 23,850 78,570 28,800 1,080 4,050 $176,310

$176,310

The following information relates to month-end adjustments: (a) According to contracts, consulting fees received in advance that were earned in January total $13,500. (b) On November 1, 2009, the company paid in advance for 5 months' advertising in professional journals. (c) At January 31, supplies on hand amount to $2,250. (d) The equipment has an original estimated useful life of 4 years. (e) The corporation is subject to income taxes of 25% of taxable income. (Assume taxable income is the same as "income before taxes.")

1) After the proper adjusting entry is made, what is the balance in the Unearned Consulting Fees account at January 31? $______________ 2) Compute the amount to be reported in the January income statement for the following: Advertising Expense $______________ Supplies Expense $______________ 3) What is the book value of the quipment at January 31 after the proper adjusting entry is Recorded? $________________ 4) Using the above information, compute the amount of profit or loss to be shown in the January income statement. Profit for January $______________

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

123. End-of-period adjustments West Laboratory adjusts and closes its accounts at the end of each month. The trial balance at September 30, 2010, before adjustments is as follows:

Cash Medical Fees Receivable Prepaid Rent Office Supplies Medical Equipment Accumulated Depreciation: Medical Equipment Accounts Payable Notes Payable Unearned Medical Fees Share Capital Retained Earnings Dividends Medical Fees Earned Salaries Expense Utilities Expense Insurance Expense

Debit $18,200 27,000 5,000 1,200 21,800

Credit

$6,000 3,000 8,000 14,000 18,000 16,000 1,000 31,000 14,000 2,000 5,800 $96,000

$96,000

The following information relates to month end adjustments: (a) Office supplies on hand September 30 amounted to $500. (b) The useful life of the medical equipment was estimated to be 20 years with no residual value. (c) Many patients pay in advance for major medical procedures. Fees of $6,000 were earned during the month by performing procedures on patients who had paid in advance. (d) Salaries earned by employees during the month but not yet recorded amounted to $2,300. (e) On September 1 West Laboratory had moved and paid 2 month's rent in advance. (f) Medical procedures performed during the month but not yet billed or recorded amounted to $4,600. Prepare the adjusting entries required at September 30.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

124. Adjusting Entries Identify four types of timing differences between cash flows and the recognition of expenses or revenues that may require adjusting entries.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

128. Murphy's Auto Co. purchased a large piece of equipment on January 1, 1998. The equipment is being depreciated, using the Straight-Line method, at the rate of $16,000 per year. On January 5, 2009 the book value of the machine was $190,000. (a) What was the original cost of the machine? (b) What will the book value be on December 31, 2010?

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

129. The Blue Chip Co. prepared the following income statement for December 31, 2008 but neglected to make the necessary adjusting entries.

The Blue Chip Co. Income Statement For the Year ending December 31, 2009 Revenues Expenses Wage Expense Rent Expense Telephone Expense Utility Expense Total Expenses Profit

$96,400

$16,480 4,320 560 960 22,320 74,080

Required: Prepare a corrected income statement after considering the following: (1.) The company had purchased a truck for $4,800 on January 1, 2009 which was expected to last 5 years. It was originally debited to the account "Truck" and credited to cash. (2.) Salaries of $2,400 were owed to employees but not yet recorded. (3.) The company owed $640 in accrued interest which was to be paid early in January, 2010. (4.) In November, 2009 the company had received $3,600 of advance payments which were originally recorded as Unearned Revenue. One-third of this was earned in December, 2009.

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

Chapter 04 The Accounting Cycle: Accruals and Deferrals Answer Key

True / False Questions

1. Adjusting entries are needed whenever transactions affect the revenue or expenses of more than one accounting period. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

2. The book value of a depreciable asset can be determined by its market value at a particular time. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

3. The adjusting entry to record estimated income taxes in a profitable period consists of a credit to Income Tax Expense and a debit to Income Tax Payable. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

4. The failure to record an adjusting entry for depreciation would cause assets to be overstated and profit to be understated. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

5. The need for adjusting entries results from timing differences between the receipt or disbursement of cash and the dates on the financial statements. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

6. The adjusted trial balance may be used in place of the income statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

7. The book value of an asset may also be called the market value of the asset. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

8. The period of time over which the cost of an asset is allocated to depreciation expense is called its useful life. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

9. The adjusted trial balance combines the trial balance items with the adjusting entries to determine the adjusted balances. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 9

10. When a company receives cash in advance and it is obligated to provide a service or a product in the future, the entry would be a credit to a liability account and a debit to revenue. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11. Adjusting entries are only required when errors are made. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

12. The Cash account is usually affected by adjusting entries. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

14. Unearned revenue is a liability and should be reported on the income statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

15. Unpaid expenses may be included as an expense on the income statement. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

16. Prepaid expenses are assets that should appear on the balance sheet. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

17. One of the purposes of adjusting entries is to convert assets to expenses. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

18. Every adjusting entry involves the recognition of either revenue or equity. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

19. An adjusting entry to recognize that a fee received in advance has now been earned will cause an increase in total liabilities. FALSE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

20. Omission of the adjusting entry needed to accrue an expense at the end of the period would cause liabilities to be understated. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

21. Wages are an expense to the employer when earned rather than when paid. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

22. Immaterial items may be accounted for in the most convenient manner, without regard to other theoretical concepts. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

23. All assets should be depreciated. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

24. Materiality is a matter of professional judgment. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

25. An expenditure that benefits the year in which it is made should be deducted from revenue in the same year. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

26. An expenditure that benefits year one but is paid for in year two should not be capitalized until year two. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

27. Companies that engage in fraud will often capitalize an asset rather than an expense account. TRUE

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals Multiple Choice Questions

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

29. Accumulated Depreciation is A. An asset account B. A revenue account C. A contra-asset account D. An expense account.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

31. The normal balance of the Accumulated Depreciation account is A. A debit balance B. A credit balance C. Either a debit balance or a credit balance. D. There is no normal balance for this account.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

32. Unearned revenue may also be called A. Profit B. Deferred revenue C. Unexpired revenue D. Services rendered

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

42. Unearned revenue is: A. An asset. B. Income. C. A liability. D. An expense.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

4-57

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6

50. Prepaid expenses are: A. Assets. B. Income. C. Liabilities. D. Expenses.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

4-59

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

4-60

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

58. Which of the following would not be considered an adjusting entry?

A. A Above. B. B Above. C. C Above. D. D Above.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

4-62

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

64. An example of a contra-asset account is: A. Depreciation Expense. B. Accumulated Depreciation. C. Prepaid expenses. D. Unearned revenue.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5 Learning Objective: 6

67. Which of the following is the accounting principle that governs the timing of revenue recognition? A. Recognition principle B. Materiality. C. Matching. D. Depreciation.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7 Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 9

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 6

74. Unearned revenue appears: A. As income on the income statement. B. As an asset on the balance sheet. C. As a liability on the balance sheet. D. As a part of the retained earnings.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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75. Prepaid expenses appear: A. As an expense on the income statement. B. As an asset on the balance sheet. C. As a liability on the balance sheet. D. As a reduction to retained earnings.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

77. Which of the following is considered a contra-asset account? A. Prepaid expenses. B. Unearned revenue. C. Accumulated depreciation. D. All of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

83. Shop supplies are expensed when: A. Consumed. B. Purchased. C. Paid for. D. Ordered.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

88. Videobusters Limited. offered books of video rental coupons to its patrons at $40 per book. Each book contained a certain number of coupons for video rentals. During the current period 500 books were sold for $20,000, and this amount was credited to Unearned Rental Revenue. At the end of the period it was determined that $15,000 worth of book coupons had been used by customers to rent videos. The appropriate adjusting entry at the end of the period would be: A. Debit Rental Revenue $5,000 and credit Unearned Rental Revenue $5,000. B. Debit Rental Revenue $15,000 and credit Unearned Rental Revenue $15,000. C. Debit Unearned Rental Revenue $5,000 and credit Rental Revenue $5,000. D. Debit Unearned Rental Revenue $15,000 and credit Rental Revenue $15,000.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 6

92. The accountant for Perfect Painting forgot the following two adjustments at the end of 2010: A. (a) The entry to record depreciation: $3,000. B. (b) The entry to record the portion of fees received in advance which have now been earned: $3,000. C. As a result of these two omissions: D. Profit for Perfect Painting for 2010 is overstated. E. Profit for Perfect Painting for 2010 is understated. F. Assets of Perfect Painting are overstated at December 31, 2010. G. Liabilities of Perfect Painting are understated at December 31, 2010.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5 Learning Objective: 6

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

94. What amount of interest expense has accrued on the bank loan? A. $6,400 B. $7,000. C. $7,200. D. $7,800. $720,000  .12  1/12 = $7,200

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

95. The accrued interest should be: A. Debited to Notes Payable. B. Credited to Interest Payable. C. Credited to Cash. D. Credited to Interest Expense.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

96. By what amount will the book value of the office equipment decline after the appropriate December adjustment is recorded? A. $1,560. B. $130 C. $0 D. $1,430 $9,360/72 = $130

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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97. After the appropriate adjusting entry is recorded, the balance in the liability account Unearned Fees will: A. Decrease by $9,800. B. Increase by $9,800. C. Equal $9,800. D. Be unaffected.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Hoffman Limited adjusts its books each month but closes its books at the end of the year. The trial balance at March 31 before adjustments is as follows:

Debit Credit $10,920 9,620 1,300 3,120 26,000 $ 10,400 6,500 5,200 13,400 1,560 16,510 7,800 390 1,300 $62,010 $62,010

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

102. At March 31, the amount of supplies on hand is $520. What amount is reported in the January income statement for supplies expense? A. $1,300. B. $0. C. $520. D. $780. $1,300 - $520 = $780

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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106. An asset purchased on January 1, 2006 for $60,000 that has an estimated life of 10 years will have a book value on December 31, 2009 of: A. $60,000. B. $24,000. C. $36,000. D. $42,000. $60,000/10 = $6,000  4 = $24,000; $60,000 - $24,000 = $36,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

Essay Questions

113. Accounting terminology Listed below are nine technical accounting terms emphasized in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a.) An account with a credit balance that is an offset against an asset account. (b.) A contra-account. (c.) A liability to customers who have paid in advance. (d.) The estimated current value of an asset. (e.) Entries made to achieve the goals of accrual accounting when revenue or expense transactions span more than one accounting period. (f.) An asset that will expire shortly. (g.) Revenue that has been earned, but not yet received. (a) Contra-asset (b) Accumulated depreciation (c) Unearned revenue (d) None (Book value is based on cost, not estimated current market value.) (e) Adjusting entries (f) Prepaid expense (g) Accrued revenue

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1-8

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1 2 3 4 5 6 21

Cash Accounts Receivable Office Supplies Unexpired Insurance Trucks Accumlated Depr. Expense Trucks Accounts Payable

22 23 24 25 31 32 33

Notes Payable Dividends Payable Income Taxes Payable Unearned Revenue Share Capital Retained Earnings Dividends

41 51 52 53 54 55 56

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Truck Rental Revenue Advertising Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Trucks Income Taxes Expense

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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1 2 3 4 5 6

Cash Accounts Receivable Office Supplies Unexpired Insurance Office Equipment Accumlated Depr. Expense Office Equip

22 23 24 25 31 32 33

Accounts Payable Income Taxes Payable Unearned Fees Dividends Payable Share Capital Retained Earnings Dividends

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41 51 52 53 54 55

Fees Earned Salaries Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Office Equip. 56 Income Taxes Expense

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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Income before adjusting entries Adjustments:

Profit after adjustments

$127,000

________ $

Income before adjusting entries Adjustments: (a.) Rent expense

$127,000 (1,500)

(b.) Revenue earned not yet recorded

20,000

(c.) Accrued interest expense

(1,100)

(d.) Depreciation expense

(4,800)

(e.) Accrued wages expense

(3,900)

(f.) Earned a portion of unearned revenue

7,100

Profit after adjustments

$142,800

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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117. End-of-period adjustments-effect on profit Ocean View Limited reported revenues of $645,000 and expenses of $360,000 for the month of May, before making any month-end adjusting entries. The following data are provided regarding adjusting entries: (A.) Portion of insurance expiring in May, $2,520. (B.) A customer has used the facilities for two weeks in May; the fee of $4,200 has not yet been billed. (C.) Amount owed for salaries accrued in the last week of May, $1,650. (D.) Depreciation on equipment for May $1,290. (E.) Supplies used in May, $13,125. (F.) Fees collected in advance which have been earned during May, $23,400. Complete the schedule to determine the profit of Ocean View Limited. for May after these adjustments have been recorded. Begin your schedule with income before adjusting entries and then show the effect of each adjustment to arrive at profit after adjustment.

Income before adjusting entries Adjustments:

Profit after adjustments

________ $

Income before adjusting entries Adjustments: (g.) Insurance expiring in May

$285,000 (2,520)

(h.) Revenue earned not yet recorded

4,200

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(i.) Accrued salaries expense for May

(1,650)

(j.) May depreciation expense

(1,290)

(k.) Supplies expense

(13,125)

(l.) Earned a portion of unearned revenue

23,400

Profit after adjustments

$294,015

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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Adjusting Entry (a.) (b.) (c.) (d.) (e.)

Income Statement Revenue Expenses Profit

Income Statement Revenue Expenses Profit NE NE + + NE

+ + NE NE +

+ + -

Assets

Balance Sheet Liabilities Equity

Assets

Balance Sheet Liabilities Equity

NE + NE

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NE NE NE +

+ + -

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Adjusting Entry (a.) (b.) (c.) (d.) (e.)

Income Statement Revenue Expenses Profit

Assets

Balance Sheet Liabilities Equity

Income Statement Revenue Expenses Profit

Assets

Balance Sheet Liabilities Equity

NE + NE + NE

+ NE + NE +

+ + -

+ NE NE

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NE NE NE +

+ + -

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Error Example: Received $500 cash for services rendered to a customer, but recorded the transaction as $50 (a.) Failed to record depreciation expense for the period. (b.) Recorded payment of an account payable by a credit to cash and debit to an expense account. (c.) Failed to accrue intereset earned on investments during the period. (d.) Recorded the purchase of office equipment on account as a debit to Supplies expense and a credit to Accounts Payable.

Total Revenue U

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Total Expense NE

Profit U

Total Assets U

Total Liabilities NE

Equity U

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

Error Example: Received $500 cash for services rendered to a customer, but recorded the transaction as $50 (a.) Failed to record depreciation expense for the period. (b.) Recorded payment of an account payable by a credit to cash and debit to an expense account. (c.) Failed to accrue intereset earned on investments during the period. (d.) Recorded the purchase of office equipment on account as a debit to Supplies expense and a credit to Accounts Payable.

Total Revenue U

Total Expense NE

Profit

Total Liabilities NE

Equity

Total Assets U

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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Total Expense NE

Profit U

Total Assets U

Total Liabilities NE

Equity U

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

Error Example: Received $500 cash for services rendered to a customer, but recorded the transaction as $50 (a.) Recorded twice a sale of services to a customer. (b.) Recorded the purchase of office equipment on account as a debit to Office Equipment and a credit to Accounts Receivable (c.) Failed to record intereset accrued at end of period on note payable. (d.) Recorded collection of account receivable by debit to Cash and credit to Revenue.

Total Revenue U

Total Expense NE

Profit

Total Liabilities NE

Equity

Total Assets U

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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Debit $39,645 27,000 3,375 7,560 64,800

Credit

$22,500 17,550 15,840 18,000 23,850 78,570 28,800 1,080 4,050 $176,310

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$176,310

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

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1) Unearned Consulting Fees, January 31 $4,050 ($17,550 - $13,500 earned in January = $4,050 blance) 2) Advertising Expense Supplies Expense 3) Book Value, January 31

$2,520(7,560 ÷ 3 mos. left = $2,520) $1,125 ($3,375 - $2,250 = $1,125) $40,950

Depreciation per month is $1,350 ($64,800  48 months) Accumulated depreciation at January 31 is $23,850 ($22,500 + $1,350) Book value: $64,800 cost - $23,850 accumulated depreciation = $40,950

Profit for January 31 (see computation below) Profit before adjustment: ($78,570 - $28,800 - $1,080 - $4,050) Adjustments: Fees earned Advertising expense (from 2 above) Supplies expense (from 2 above) Depreciation expense Profit before income taxes Income taxes expense (25% of $53,145) Profit for January

$39,859 $44,460 13,500 (2,520) (1,125) (1,350) $53,145 (13,286) $39,859

Fees earned ($78,570 + 13,500) Less: Salaries expense Utilities expense Rent expense Advertising expense (2 above) Supplies expense (2 above) Depreciation expense Income before taxes Income taxes expense (25% of $53,145) Profit for January

92,070 $28,800 1,080 4,050 2,520 1,125 1,350

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(38,925) 53,145 (13,286) $39,859

Chapter 04 - The Accounting Cycle: Accruals and Deferrals

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

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123. End-of-period adjustments West Laboratory adjusts and closes its accounts at the end of each month. The trial balance at September 30, 2010, before adjustments is as follows:

Debit $18,200 27,000 5,000 1,200 21,800

Credit

$6,000 3,000 8,000 14,000 18,000 16,000 1,000 31,000 14,000 2,000 5,800 $96,000

$96,000

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2-6

124. Adjusting Entries Identify four types of timing differences between cash flows and the recognition of expenses or revenues that may require adjusting entries. (1.) To convert assets to expenses as they are consumed. (2.) To convert liabilities to revenue as they become earned. (3.) To accrue unpaid expenses. (4.) To accrue uncollected revenue.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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125. Materiality (A.) Identify several factors considered by an accountant in deciding whether an item is "material." (B.) Does the concept of materiality complicate or simplify the process of making adjusting entries? Give an illustration to support your answer. (a.) Factors to be considered include the following: The dollar amount of the item (relative to annual profit, for example). The cumulative effect of all items under consideration. The nature of the item (politically sensitive, illegal, contrary to company policies, etc.). Accountants use their professional judgment in deciding which items are material, i.e., might reasonably influence the decisions of users of the financial statements. (b.) The concept of materiality should simplify the adjusting process because it allows accountants to use estimated amounts and even to ignore other accounting principles if the results do not have a "material effect" upon the financial statements. Several examples are listed below: Low-cost assets may be charged directly to expense. Some expenses such as utilities are charged to expense as the bills are paid, rather than when services are used, even though this practice technically violates the matching principle. Some adjusting entries may be ignored for immaterial dollar amounts. Adjusting entries may be based upon estimates if the amount of error is likely to be immaterial.

AACSB: Reflective AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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126. Adequate disclosure (A.) Briefly explain what is meant by the principle of adequate disclosure. (B.) How does professional judgment enter into the application of the principle of adequate disclosure? (C.) List 5 types of information that a publicly-held corporation generally would be required to provide according to the concept of adequate disclosure. (a.) The principle of adequate disclosure means that financial statements should be accompanied by any information necessary for the statements to be interpreted properly. Most disclosures appear within several pages of notes (or footnotes) that accompany the financial statements. (b.) Drafting footnotes requires an in-depth understanding of the company and its operations. As there is no comprehensive list of information that must be disclosed and the content of the notes often is not drawn directly from the accounting records, the adequacy of disclosure is dependent upon the accountants' professional judgment. This professional judgment is used in selecting for disclosure those items that an intelligent person would consider necessary to properly interpret the financial statements. (c.) A publicly-held corporation is generally required to disclose the following types of information (students are required to list five): Accounting methods in use. Due dates of major liabilities. Lawsuits pending against the business. Scheduled plant closings. Governmental investigations into the safety of the company's products or the legality of its pricing policies. Significant events occurring after the balance sheet date, but before the financial statements are actually issued. Specific customers that account for a large portion of the company's business. Unusual transactions or conflicts of interest between the company and its key officers.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7 Learning Objective: 8

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127. Purpose of adjusting entries The president of Crown Construction was informed that the first quarter financial statements would be available "as soon as the adjusting entries are made." Being a non-accountant, the president feels adjustments should not be necessary if the accounting department is operating in a competent manner. Does the need for adjusting entries at the end of the quarter imply that transactions are not being recorded properly? Explain. No, the need for adjusting entries does not mean that transactions are being recorded improperly. There are many situations in which a cash receipt represents revenue of two or more accounting periods, or a cash payment covers expenses of several accounting periods. The purpose of adjusting entries is to ensure that revenue and expenses are recognized on an accrual basis, regardless of when a cash receipt or payment occurs. Revenue is to be recognized when earned; expenses are to be recorded when related goods and services are used. An adjusting entry is required for each transaction which involves either revenue or expense of more than one accounting period.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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129. The Blue Chip Co. prepared the following income statement for December 31, 2008 but neglected to make the necessary adjusting entries.

The Blue Chip Co. Income Statement For the Year ending December 31, 2009 Revenues

$96,400

Expenses Wage Expense Rent Expense Telephone Expense Utility Expense Total Expenses Profit

$16,480 4,320 560 960 22,320 74,080

The Blue Chip Co. Income Statement For the Year ending December 31, 2009 Revenues Expenses Wages Rent Telephone Utilities Depreciation Interest Total Expenses Profit

$97,600

$18,880 4,320 560 960 960 640 26,320 71,280

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CHAPTER 4

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer for each question in the space provided. 1

Joseph Jewelers purchased display shelves on March 1 for $36,000. If this asset has an estimated useful life of five years, what is the book value of the display shelves on April 30? a $600. b $34,800. c $33,600. d $900.

The adjusting entry to recognize an unrecorded expense is necessary: a When an expense is paid in advance. b When an expense has been neither paid nor recorded as of the end of the accounting period. c Whenever an expense remains unpaid at the end of an accounting period. d Because the accountant is likely to forget to pay these unrecorded expenses.

Before any month-end adjustments are made, the profit of Lawrence Company is $550,000. However, the following adjustments are necessary: office supplies used, $35,000; services performed for clients but not yet recorded or collected, $12,300; interest accrued on note payable to bank, $14,100. After adjusting entries are made for the items listed above, Lawrence Company’s profit would be: a $541,400. b $488,600. c $583,200. d $513,200.

Of the following adjusting entries, which one results in an increase in liabilities and the recognition of an expense at the end of an accounting period? a The entry to accrue salaries owed to employees at the end of the period. b The entry to record revenue earned but not yet collected or recorded. c The entry to record earned portion of rent previously received in advance from a tenant. d The entry to write off a portion of unexpired insurance.

The CPA firm auditing Indian Company found that profit had been overstated. Which of the following errors could be the cause? a Failure to record depreciation expense for the period. b No entry made to record purchase of land for cash on the last day of the year. c Failure to record payment of an account payable on the last day of the year. d Failure to make an adjusting entry to record revenue which had been earned but not yet billed to customers.

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CHAPTER 4

NAME

10-MINUTE QUIZ B

SECTION

Manhattan Park adjusts its books each month and closes its books on December 31 each year. The trial balance at January 31, 2010, before adjustments, follows: Cash................................................................................. Supplies ........................................................................... Unexpired Insurance....................................................... Equipment ....................................................................... Accumulated Depreciation: Equipment ......................... Unearned Admission Revenue ....................................... Share Capital ................................................................... Retained Earnings, January 1, 2008 ............................... Admissions Revenue ...................................................... Salaries Expense ............................................................. Utilities Expense ............................................................. Rent Expense ..................................................................

Debit $ 6,600 5,400 12,600 72,000

Credit

$ 18,000 12,000 20,000 38,200 27,600 8,100 5,700 5,400 $115,800

_________ $115,800

Refer to the above data. According to attendance records, $8,200 of the Unearned Admission Revenue has been earned in January. Compute the amount of admissions revenue to be shown in the January income statement: a $35,800. b $19,400. c $8,200. d $3,800.

Refer to the above data. At January 31, the amount of supplies on hand is $2,300. What amount is shown on the January income statement for supplies expense? a $2,300. b $5,400. c $3,100. d $7,700.

Refer to the above data. The equipment has an original estimated useful life of six years. Compute the book value of the equipment at January 31 after the proper January adjustment is recorded: a $1,000. b $71,000. c $53,000. d $60,000.

Refer to the above data. Employees are owed $1,200 for services since the last payday in January to be paid the first week of February. No adjustment was made for this item. As a result of this error: a Assets at January 31 are overstated. b January profit is overstated. c Liabilities at January 31 are overstated. d Equity at January 31 is understated.

Refer to the above data. On August 1, 2007, the park purchased a 12-month insurance policy. The necessary adjusting entry at January 31 includes which of the following entries? (Hint: The company has adjusted its books on a monthly basis.) a A debit to Insurance Expense for $1,050.

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b A credit to Unexpired Insurance for $11,550. c A credit to Unexpired Insurance for $1,800. d A debit to Unexpired Insurance for $10,800. CHAPTER 4

NAME

10-MINUTE QUIZ C

SECTION

Scorpio Travel adjusts its books each month and closes its books on December 31 each year. The trial balance at January 31, 2009, before adjustments, follows: Cash................................................................................. Supplies ........................................................................... Unexpired Insurance....................................................... Equipment ....................................................................... Accumulated Depreciation: Equipment ......................... Unearned Admission Revenue ....................................... Share Capital ................................................................... Retained Earnings, January 1, 2007 ............................... Admissions Revenue ...................................................... Salaries Expense ............................................................. Utilities Expense ............................................................. Rent Expense ..................................................................

Debit $ 3,300 2,700 6,300 36,000

Credit

$9,000 6,000 7,500 21,600 13,800 4,050 2,850 2,700 $57,900

________ $57,900

1 Refer to the above data. According to attendance records, $4,800 of the Unearned Admission Revenue has been earned in January. Compute the balance in the following accounts after the proper adjustment is made. Unearned Admission Revenue account balance $__________ Admission Revenue account balance $__________ 2 Refer to the above data. At January 31, the amount of supplies still on hand was determined to be $675. What amount should be reported in the January income statement for supplies expense? $__________ 3 Refer to the above data. The equipment has an original useful life of eight years. Compute the book value of the equipment at January 31 after the proper January adjustment is recorded. $__________ 4 Refer to the above data. $900 is owed to employees for work since the last payday in January, to be paid the first week of February. What is the effect on January profit if the accountant fails to make any January 31 adjustment for this item? 5 Refer to the above data. On June 1, 2007, the park purchased a 12-month insurance policy. Give the adjusting entry to record insurance coverage expiring in January. (Hint: The company adjusts its books on a monthly basis.)

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CHAPTER 4

NAME

10-MINUTE QUIZ D

SECTION

The accountant for Rose’s Emporium Limited prepared the following trial balance at January 31, 2010, after one month of operations: Debit Credit Cash ................................................................................................... $ 5,700 Accounts Receivable ......................................................................... 4,500 Unexpired Insurance ......................................................................... 2,100 Office Equipment .............................................................................. 18,000 Unearned Consulting Fees ................................................................ $ 3,300 Share Capital ..................................................................................... 15,600 Retained Earnings, January 1, 2005 ................................................. 0 Dividends ........................................................................................... 3,300 Consulting Fees Earned .................................................................... 26,800 Salaries Expense ................................................................................ 7700 Utilities Expense................................................................................ 1,700 Rent Expense ..................................................................................... 2,100 Supplies Expense............................................................................... 600 ______ $45,700 $45,700 Additional information items: a Consulting services rendered to a client in January, not yet billed or recorded, $2,400. b Portion of insurance expiring in January, $300. c Income taxes expense for January of $2,500. d The office equipment has a life of 5 years. Instructions. Prepare adjusting entries for a through d. Adjusting Entries Jan. 31

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

CHAPTER 4 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

The purpose of adjusting entries is to: a Adjust the Retained Earnings account for the revenue, expense, and dividends recorded during the accounting period. b Adjust daily the balances in asset, liability, revenue, and expense accounts for the effects of business transactions. c Apply the recognition principle and the matching principle to transactions affecting two or more accounting periods. d Prepare revenue and expense accounts for recording the transactions of the next accounting period.

Before month-end adjustments are made, the January 31 trial balance of Rover Excursions contains revenue of $27,900 and expenses of $17,340. Adjustments are necessary for the following items:    

Portion of prepaid rent applicable to January: $2,700. Depreciation for January: $1,440. Portion of fees collected in advance earned in January: $3,300. Fees earned in January; not yet billed to customers: $1,950.

Profit for January is: a $10,560. b $17,070. c $7,770. d Some other amount. 3

The CPA firm auditing Mason Street Recording Studios found that total shareholders’ equity was understated and liabilities were overstated. Which of the following errors could have been the cause? a Making the adjusting entry for depreciation expense twice. b Failing to record interest accrued on a note payable. c Failing to make the adjusting entry to record revenue which had been earned but not yet billed to clients. d Failing to record the earned portion of fees received in advance.

Assume Fisher Company usually earns taxable income, but sustains a loss in the current period. The entry to record income taxes expense in the current period will most likely: (indicate all correct answers.) a Increase the amount of that loss. b Include a credit to the Income Taxes Expense account. c Be an adjusting entry, rather than an entry to record a transaction completed during the period.

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d 5

Include a credit to Income Taxes Payable.

The concept of materiality (indicate all correct answers): a Requires that financial statements are to be accurate to the nearest dollar, but need not show cents. b Is based upon what users of financial statements are thought to consider important. c Permits accountants to ignore other generally accepted accounting principles in certain situations. d Permits accountants to use the easiest and most convenient means of accounting for events that are immaterial.

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SOLUTIONS TO CHAPTER 4 10-MINUTE QUIZZES QUIZ A 1 B 2 B 3 D 4 A 5 A Learning Objective: 3–6 QUIZ C

QUIZ B 1 A 2 C 3 C 4 B 5 C Learning Objective: 3, 4, 5

1 Unearned Admission Revenue: $6,000 – $4,800 = $1,200 credit Admission Revenue: $13,800 + $4,800 = $18,600 credit 2 $2,700 – $675 = $2,025 [This is the asset Supplies. The expense should be $675.] 3 January depreciation = $36,000  8  (1/12) = $375 $36,000 – $9,000 – $375 = $26,625 book value 4 Profit is overstated by $900. 5 Insurance Expense ....................................................................... Unexpired Insurance .......................................................... Computation $6,300  5 months remaining = $1,260 per month Learning Objective: 3, 4, 5

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Chapter 04 - The Accounting Cycle: Accruals and Deferrals

QUIZ D Adjusting Entries Jan 31 A Accounts Receivable

2,400

Consulting Fees Earned

2,400

B Insurance Expense

300

Unexpired Insurance

300

C Income Tax Expense

2,500

Income Taxes Payable

2,500

D Depreciation Expense

300

Accumulated Depreciation

300

Learning Objective: 3, 5, 6 SOLUTIONS TO CHAPTER 4 SELF-TEST QUESTIONS FROM TEXTBOOK 1 c 2 d $11,670 ($27,900 – $17,340 – $2,700 – $1,440 + $3,300 + $1,950)) 3 d 4 b, c 5 b, c, d

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Chapter 05 The Accounting Cycle: Reporting Financial Results True / False Questions

1. The report form of the balance sheet lists liabilities and equity below assets. True False

2. A current asset may be cash or must be capable of being converted into cash with a relatively short period of time, usually less than five years. True False

3. Real accounts can only be closed at the end of the year with a single compound entry. True False

4. The adjusted trial balance contains income statement accounts and balance sheet accounts while the after-closing trial balance will only have balance sheet accounts. True False

5. Measures of profitability tell us how quickly current assets can be converted into profits. True False

6. The current ratio is a measure of liquidity. True False

7. The purpose of the after-closing trial balance is to give assurance that the accounts are in balance and ready for the new accounting period. True False

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

8. The account, Accumulated Depreciation, is considered a permanent account. True False

9. The profit percentage can be measured by dividing profit by total revenue. True False

10. Working capital equals current assets divided by current liabilities. True False

11. In regard to disclosures that are required to be contained in annual reports, the FASB has no well-defined list of items that must be included. True False

12. At year-end all equity accounts must be closed. True False

13. The income summary account appears, as stated, on the statement of changes in equity. True False

14. Dividends are closed out directly to retained earnings at year end. True False

15. Income summary does not appear on the income statement. True False

16. Dividends declared are an expense and reduce profit. True False

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

17. The current ratio equals current assets plus current liabilities. True False

18. The return on equity ratio equals profit divided by ordinary shares. True False

19. Interim financial statements usually report on a period of time greater than one year. True False

20. Publicly owned companies are typically managed by their shareholders. True False

21. Financial statements are usually prepared before the closing entries are made. True False

22. Closing entries do not affect the cash account. True False

23. Return on equity is a commonly used measure of a company's solvency. True False

24. The current ratio is a measure of short-term debt paying ability. True False

25. An after-closing trial balance consists only of asset, liability, and equity accounts. True False

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

26. IFRS 1 requires that management and auditors should depart from compliance with GAAP if it is necessary to achieve a fair presentation when reporting financial results. True False

27. An annual report filed with the Securities and Exchange Commission must include a section called "Management's Predictions of Future Earnings". True False

Multiple Choice Questions

28. Of the following, which is not an alternative title for the income statement? A. Earnings statement B. Statement of Operations C. Profit and Loss Statement D. Statement of Financial Position

29. The Retained Earnings statement is based upon which of the following relationships? A. Retained Earnings - Net Income - Dividends B. Retained Earnings - Net Income + Dividends C. Retained Earnings + Net Income + Dividends D. Retained Earnings + Net Income - Dividends

30. In the notes to financial statements, adequate disclosure would typically not include: A. The accounting methods in use B. Lawsuits pending against the business C. Due dates of major liabilities D. The optimism of the CFO regarding future profits.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

31. A worksheet consists of all of the following except: A. A trial balance B. Adjusting entries C. An adjusted trial balance D. Transaction entries

32. Closing entries would be prepared before: A. Financial statements are prepared B. A post-closing trial balance C. An adjusted trial balance D. Adjusting entries

33. When a worksheet is prepared which account would not be entered into the income statement columns? A. Depreciation Expense B. Unearned Revenue C. Service Revenue D. Prepaid Insurance

34. The closing entry for an expense account would consist of a A. Debit to Income Summary and a credit to the expense account. B. Debit to the expense account and a credit to Income Summary. C. Credit to Retained Earnings and a debit to the expense account. D. Credit to Revenue and a debit to the expense account.

35. The income summary account has debits of $85,000 and credits of $75,000. The company had which of the following: A. Profit of $10,000 B. Profit of $160,000 C. Loss of $10,000 D. Loss of $160,000

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

36. What types of information must be disclosed in the financial statements? A. The comprehensive list issued by the FASB. B. Only information that is determined by management. C. Non-financial information that is not included in the basic financial statements. D. Ratio analysis.

37. Dividends declared: A. Reduce retained earnings. B. Increase retained earnings. C. Reduce profit. D. Increase profit.

38. During the closing process: A. All income statement accounts are credited to income summary. B. All income statement accounts are debited to income summary. C. All revenue accounts are credited and expense accounts are debited. D. All revenue accounts are debited and expense accounts are credited.

39. A debit balance in the income summary account indicates: A. An error was made. B. A Net Profit. C. A Loss. D. That revenues were greater than expenses.

40. The dividends account should be: A. Closed to income summary. B. Closed to retained earnings. C. Closed only if there is a profit. D. Not closed at all.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

41. Which account will appear on an after-closing trial balance? A. Dividends. B. Prepaid Expenses. C. Retained Earnings, at the beginning of the period. D. Sales.

42. Which account will not appear on an after-closing trial balance? A. Dividends. B. Prepaid Expenses. C. Unearned Revenue. D. Retained Earnings, at the end of the period.

43. Which of the following items will usually not be disclosed in an annual report? A. Lawsuits pending against the business. B. Significant events occurring after the balance sheet date but before the financial statements are actually issued. C. Scheduled plant closings. D. All three of the above would be disclosed.

44. Return on equity measures: A. Solvency. B. Profitability. C. Leverage. D. All three of the above.

45. Publicly owned companies are: A. Managed and owned by the government. B. Must be not-for-profit companies. C. Listed on a stock exchange. D. Not permitted to be owned by individuals.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

46. The worksheet: A. Is one of the basic financial statements. B. Is prepared throughout the year. C. Is not a formal step in the accounting cycle. D. Starts with the first column being the adjusted trial balance.

47. If Income Summary has a net credit balance, it signifies: A. A loss. B. Profit. C. A reduction of net worth. D. Dividends have been declared.

48. The balance in Income Summary: A. Should equal retained earnings. B. Will always be equal to the increase in retained earnings. C. Will equal profit less dividends. D. Will equal profit or loss.

49. After preparing the financial statements for the current year, the accountant for Exquisite Gems closed the Dividends account at year-end by debiting Income Summary and crediting the Dividends account. What is the effect of this entry on current-year profit and the balance in the Retained Earnings account at year-end? A. Profit is overstated and the balance in the Retained Earnings account is correct. B. Profit is correct and the balance in the Retained Earnings account is correct. C. Profit is understated and the balance in the Retained Earnings account is understated. D. Profit is understated and the balance in the Retained Earnings account is overstated.

50. The concept of adequate disclosure: A. Does not apply to information which is immaterial. B. Grants users of the financial statements access to a company's accounting records. C. Does not apply to events occurring after the balance sheet date. D. Specifies which accounting methods must be used in a company's financial statements.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

51. The concept of adequate disclosure requires a company to inform financial statement users of each of the following, except: A. The accounting methods in use. B. The due dates of major liabilities. C. Destruction of a large portion of the company's inventory on January 20, three weeks after the balance sheet date, but prior to issuance of the financial statements. D. Income projections for the next five years based upon anticipated market share of a new product; the new product was introduced a few days before the balance sheet date.

52. Income Summary appears on which financial statement: A. Income statement. B. Balance sheet. C. Retained Earnings statement. D. Income summary does not appear on any financial statement.

53. Retained Earnings at the end of a period: A. Is equal to the balance in the Retained Earnings account in the adjusted trial balance at the end of a period. B. Is determined in the statement of Changes in Equity C. Is equal to Retained Earnings at the beginning of the period, minus profit (or plus loss) for the period. D. Appears in the income statement for the period.

54. A statement of changes in equity shows: A. The changes in the Cash account occurring during the accounting period. B. The revenue, expense, and dividends of the period. C. The types of assets which have been purchased with the earnings retained during the accounting period. D. The changes in the Retained Earnings account occurring during the accounting period.

55. The normal order in which the financial statements are prepared is: A. Balance sheet, income statement, statement of changes in equity. B. Income statement, statement of changes in equity, balance sheet. C. Income tax return, income statement, balance sheet. D. Income statement, statement of cash flows, balance sheet.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

56. The purpose of making closing entries is to: A. Prepare revenue and expense accounts for the recording of the next period's revenue and expenses. B. Enable the accountant to prepare financial statements at the end of the accounting period. C. Establish new balances in the balance sheet accounts. D. Reduce the number of expense accounts.

57. In the closing of the accounts at the end of the period, which of the following is closed directly into the Retained Earnings account? A. Depreciation Expense. B. Accumulated Depreciation. C. Revenue and liability accounts. D. The Income Summary account.

58. Publicly traded companies must file audited financial statements with the: A. AICPA. B. IRS. C. SEC. D. AAA.

59. Closing entries never involve posting a credit to the: A. Income Summary account. B. Accumulated Depreciation account. C. Dividends. D. Depreciation Expense account.

60. Which of the following account titles could not be debited in the process of preparing closing entries for Andrew's Auto Shop? A. Income Summary. B. Fees Earned. C. Dividends. D. Retained Earnings.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

61. If a business closes its accounts only at year-end: A. Financial statements are prepared only at year-end. B. Adjusting entries are made only at year-end. C. Revenue and expense accounts reflect year-to-date amounts throughout the year. D. Monthly and quarterly financial statements cannot be prepared.

62. Assets are considered current assets if they are cash or will usually be converted into cash: A. Within a month or less. B. Within 3 months. C. Within a year or less. D. Within 6 months or less.

63. Which of the following amounts appears in both the Income Statement debit column and the Balance Sheet credit column of a worksheet? A. Profit. B. Loss. C. Dividends. D. Retained earnings.

64. A worksheet should be viewed as: A. A financial statement to be distributed to investors. B. A financial statement to assist managers in making managerial decisions. C. A tool to assist accountants in making end-of-period adjustments and in preparing financial statements. D. A tool to assist auditors in determining that all transactions have been properly recorded throughout the period.

65. The amount of profit (or loss) will appear on the debit side of the Income Statement columns in a worksheet if: A. Revenue exceeds total expenses for the period. B. The trial balance is out of balance. C. Dividends are more than the income or loss for the period. D. There is a loss for the period.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

66. Return on equity is calculated by: A. Dividing profit by total revenue. B. Dividing profit by average shareholders' equity. C. Dividing profit by working capital. D. Dividing dividends by shareholders' equity.

67. Which of the following is true regarding a worksheet prepared at year-end? A. The number of account titles applicable to the Adjusted Trial Balance columns is usually greater than the number of account titles applicable to the Trial Balance columns. B. The worksheet can be issued instead of financial statements. C. The worksheet eliminates the need to make adjusting and closing entries. D. An equal number of account titles are applicable to the Income Statement columns and the Balance Sheet columns.

68. Interim financial statements: A. Cover a period less than one year. B. Cover only periods of a quarter of a year. C. Cover periods greater than a year. D. Cannot cover a period of one month or less.

69. When a worksheet is used: A. Adjusting entries are not prepared, since adjustments are shown on the worksheet. B. Revenue and expense accounts do not have to be closed to the Income Summary account, because the income statement is prepared from the worksheet and profit is already computed. C. Financial statements may be prepared before recording adjusting and closing entries in the accounting records. D. The Income Statement column and Balance Sheet column of the worksheet eliminate the need to prepare formal financial statements for a business.

70. Preparation of interim financial statements: A. Makes the preparation of year-end financial statements unnecessary. B. Requires the journalizing and posting of adjusting entries. C. Requires the journalizing and posting of closing entries. D. Is done monthly or quarterly, in-between the year-end financial statements.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

71. If monthly financial statements are desired by management: A. Journalizing and posting adjusting entries must be done each month. B. Journalizing and posting closing entries must be done each month. C. Monthly financial statements can be prepared from worksheets; adjustments and closing entries need not be entered in the accounting records. D. Adjusting and closing entries must be entered in the accounting records before preparation of interim financial statements.

72. Declaring a dividend will: A. Increase profit. B. Decrease profit. C. Not change profit. D. Increase the net worth of a company.

73. Dividends will have what effect upon retained earnings? A. Increase. B. Decrease. C. No effect. D. Depends upon if there is income or loss.

74. Which of the following accounts will be closed to Income Summary? A. Prepaid Expenses. B. Unearned Revenue. C. Dividends. D. None of the above.

75. Profit from the Income Statement appears on: A. The Balance Sheet. B. The Statement of Changes in Equity. C. Neither the Balance Sheet nor the Statement of Changes in Equity. D. Both the Balance Sheet and the Statement of Changes in Equity.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

76. Which statement is true regarding the Income Statement? A. Losses do not appear on income statements. B. Dividends reduce profit. C. Both A and B are true. D. Both A and B are false.

77. Which of the following items should not be disclosed in the body of the financial statements, but rather in the notes to the financial statements? A. Lawsuits, under certain circumstances. B. Significant events occurring after the balance sheet date but before the financial statements are issued. C. Neither A nor B D. Both A & B

78. Closing entries should be made: A. Every year. B. Only when an entity goes out of business. C. Only if there is a profit. D. Only if there is a loss.

79. Which accounts should be closed? A. Expenses and revenues. B. Dividends. C. Income summary. D. Each of the above accounts should be closed.

80. Which account appears on the After-Closing Trial Balance? A. Service Revenue. B. Unearned Revenue. C. Dividends. D. Retained Earnings, Beginning of Year.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

81. If sales are $270,000, expenses are $220,000 and dividends are $30,000, Income Summary: A. Will have a credit balance of $50,000. B. Will have a debit balance of $50,000. C. Will have a debit balance of $20,000. D. Will have a credit balance of $20,000.

82. If current assets are $90,000 and current liabilities are $70,000, the current ratio will be: A. 77%. B. $20,000. C. 1.3 D. $160,000

83. If current assets are $110,000 and current liabilities are $50,000, working capital will be: A. 45.5%. B. 2:2. C. $60,000. D. $160,000.

84. The following information is available:

Sales Profit Retained Earnings Avg. Shareholders’ Equity Dividends

$400,000 $ 20,000 $ 40,000 $130,000 $ 6,000

What is the return on equity? (round to the nearest number) A. 5%. B. 20%. C. 25%. D. 15%.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

85. Only two adjustments appear in the adjustments column of a worksheet for Wycliff Publications: one to record $800 depreciation of office equipment, and the other to record the use of $560 of office supplies. If the Trial Balance column totals are $15,380, what are the totals of the Adjusted Trial Balance columns? A. $16,740 B. $15,140. C. $16,180. D. $15,860.

86. The December 31, 2010 worksheet for Fran's Fine Dining showed the following amounts related to the Supplies Expense account: A. (a). In the Trial Balance debit column: $745 B. (b). In the Adjustments debit column: $125 C. (c). In the Adjusted Trial Balance debit column: $870 D. What is the proper balance in the Supplies Expense account on January 1, 2011, after all closing entries for 2010 have been posted, but before any 2011 transactions are recorded? E. $870. F. $745. G. $0. H. $125.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Shown below is a trial balance for Novelty Toys, Limited, on December 31, after adjusting entries:

Novelty Toys Limited Trial Balance December 31, 20___ Cash Accounts receivable

$ 7,750 6,375

Office equipment Accumulated Depreciation

11,250 $3,000

Accounts payable Share Capital

3,875 11,250

Retained earnings Dividends Fees Earned

3,750

-0-

Salaries expense Advertising expense

8,000 1,625

Depreciation expense

2,125 $40,875

22,750

$40,875

87. Refer to the above data. The entry to close the Fees Earned account will: A. Produce a zero balance in that account when posted. B. Include a debit to Income Summary. C. Include a credit to Fees Earned. D. Include a debit to Share Capital.

88. Refer to the above data. The entry to close Salaries Expense account will: A. Produce a zero balance in that account when posted. B. Include a credit to Income Summary. C. Include a debit to Salaries Expense. D. Include a credit to Share Capital.

89. Refer to the above data. Profit for the period equals: A. $18,375. B. $11,000. C. $5,800. D. Some other amount.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

90. Refer to the above data. After closing the accounts, Retained earnings at December 31 equals: A. $11,000. B. $7,250. C. Zero. D. Some other amount.

91. Refer to the above data. The total debits in the After-Closing Trial Balance will equal: A. $25,375. B. $29,125. C. $40,875. D. Some other amount.

92. Refer to the above data. Income Summary will have what balance before it is closed? A. Zero. B. $11,750. C. $7,250. D. Some other amount.

Shown below is the adjusted Trial Balance for Simon Limited, on December 31, after the first year of operations, after adjusting entries:

Simon Limited Adjusted Trial Balance December 31, 2009 DR

Cash

$1,600

Accounts receivable

4,000

Office equipment

16,800

Accumulated Depreciation

$1,600

Share Capital

2,400

Retained earnings

2,720

Dividends

960

Service fees earned

21,920

Wages expense

3,200

Supplies expense

1,120

Depreciation expense

960

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

$28,640

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

93. Refer to the above data. The entry to close the Service Fees Earned account will: A. Produce a zero balance in that account when posted. B. Include a debit to Income Summary. C. Include a credit to Service Fees Earned. D. Include a debit to Share Capital.

94. Refer to the above data. The entry to close Depreciation Expense account will: A. Produce a zero balance in that account when posted. B. Include a credit to Income Summary. C. Include a debit to Depreciation Expense. D. Include a credit to Share Capital.

95. Refer to the above data. Profit for the period equals: A. $20,960. B. $16,640. C. $21,920. D. $23,360.

96. Refer to the above data. After closing the accounts, Retained Earnings at December 31 equals: A. Zero. B. $18,400. C. $19,360. D. Some other amount.

97. Refer to the above data. The total debits in the After Closing-Trial Balance will equal: A. $23,360. B. $28,640. C. $22,400. D. Some other amount.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

98. Refer to the above data. Income Summary will have what balance before it is closed? A. $28,640 B. $15,600. C. $21,920. D. $16,640.

99. The section of the annual report titled "Management Discussion and Analysis" A. Is required by the SEC B. Is not required but may be included by management C. Is required by GAAP D. All of the above

100. Under the Sarbanes-Oxley Act, CFOs and high-ranking corporate officers are now A. Personally responsible for the integrity of annual reports. B. Subject of fines of up to $5 million for knowingly making false statements. C. Facing prison sentences of up to 20 years for knowingly making false statements. D. All of the above.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Essay Questions

101. Accounting terminology Listed below are eight technical accounting terms emphasized in this chapter:

In the space provided below each statement, indicate the accounting term described. A. The generally accepted accounting principle of providing with financial statements any information that users need to interpret those statements properly. B. A trial balance prepared after all closing entries have been posted. This trial balance consists only of accounts for assets, liabilities, and equity. C. Journal entries made at the end of the period for the purpose of closing temporary accounts (revenue, expense, and dividend accounts) and transferring balances to the Retained Earnings account. D. Computer software used for recording transactions, maintaining journals and ledgers, and preparing financial statements. Also includes spreadsheet capabilities for showing the effects of proposed adjusting entries or transactions on the financial statements without actually recording these entries in the accounting records. E. The summary account in the ledger to which revenue and expense accounts are closed at the end of the period. The balance (credit balance for a profit, debit balance for a loss) is transferred to the Retained Earnings account. F. Financial statements prepared for periods of less than one year (includes monthly and quarterly statements). G Supplemental disclosures that accompany financial statements. These notes provide users with various types of information considered necessary for the proper interpretation of the statements. H. A multicolumn schedule showing the relationships among the current account balances (a trial balance), proposed or actual adjusting entries or transactions, and the financial statements that would result if these adjusting entries or transactions were recorded. Used both at the end of the accounting period as an aid to preparing financial statements and for planning purposes.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

102. Inserting missing data into a worksheet. Certain data are given on the worksheet below, and certain missing data are indicated by the blank lines. Sufficient information is included to fill in the missing data. Each account has a debit or credit balance characteristically normal for that kind of account. Note that the dollar amounts have been reduced to figures of not more than three digits to simplify the arithmetic. Insert the figures necessary to complete the worksheet in the blanks indicated by an underline. The lines cover both debit and credit columns; be sure to insert the missing figures in the correct column of the blank line. If no figure should appear in a column within a line, indicate this by placing a "0" in one or more columns with a blank line (see sample box opposite Cash).

Balance sheet accounts: Cash (example) Fees receivable Supplies Equipment Accumulated depreciation Unearned fees Accounts payable Salaries payable Income taxes payable Share capital Retained earnings Dividends Income statement accounts: Fees earned Advertising expense Salaries expense Supplies expense Depreciation expense Income taxes expense

Totals Profit or loss Totals

Trial Balance Dr. Cr.

Adjustments Dr. Cr

72 102 18 116

30 ___ ___ 14 36 52 0 18 49 54

___

400

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___

55 ___ ___ ___ ___ ___

___ 48 58 ___ 16 ___

___

108 108

139 ___ 232

232 ___ 232

___

___ 52 20 25 ___ 54 ___

334 ___ 334

241 ___ 334

___ ___ ___

___ ___ 10 ___ ___

400

___

___ ___ ___

177

Balance Sheet Dr. Cr. 72 ___ 8 116 ___

___

48 38 0 0 0

Income Statement Dr. Cr,

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

103. Preparation of financial statements Using the Adjusted Trial Balance shown below, prepare (a) an Income Statement and (b) a Statement of Changes in Equity for All Star Repairs.

All Star Repairs Adjusted Trial Balance July 31, 20___ Cash Accounts receivable Supplies Shop equipment Accumulated depreciation: shop equipment Accounts payable Notes payable Income taxes payable Share Capital Retained earnings Dividends Fees earned Rent expense Wages expense Supplies expense Utilities expense Depreciation expense; shop equipment Income taxes expense

All Star Repairs Income Statement For the Month Ended July 31, 20__

Debit $20,200 70,600 2,500 26,600

$9,600 18,000 3,700 26,700 22,200 5,900 16,700 127,400 9,000 35,600 2,900 2,100 600 26,700 _______ $213,500 $213,500

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Credit

All Star Repair Statement of Changes in Equity For the Month Ended July 31, 20___

Chapter 05 - The Accounting Cycle: Reporting Financial Results

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

104. Completion of worksheet--missing data Certain data are given on the worksheet below, and certain missing data are indicated by the blank boxes. Sufficient information is included to fill in the missing data. Each account has a debit or credit balance characteristically normal for that kind of account. Note that the dollar amounts have been reduced to figures of not more than three digits to simplify the arithmetic. Insert the figures necessary to complete the worksheet in the blanks indicated by an underline. The boxes cover both debit and credit columns; be sure to insert the missing figures in the correct column of the box. If no figure should appear in a column within a box, indicate this by placing a "0" in one or more columns of the box (see sample box opposite Cash).

Trial Balance Dr. Cr. Balance sheet accounts: Cash (example) Fees receivable Supplies Office equipment Accumulated depreciation Unearned fees Accounts payable Salaries payable Income taxes payable Share capital Retained earnings Dividends Income statement accounts: Fees earned Utilities expense Salaries expense Supplies expense Depreciation expense Income taxes expense Totals Profit or loss Totals

45 43 ___ 51

Adjustments Dr. Cr

Income Statement Dr. Cr,

45 ___ 4 51

13 6 23 ___ 31 0 16 36 26

Balance Sheet Dr. Cr.

___

___ 5 31 7 ___ ___ ___

6 ___ 9

15 48 27 ___ 0 0

191

___ 7 ___ ___ ___

191

5-26

___ 27 7 6 15

64 ___ 67

67 ___ 67

171 ___ 171

168 ___ 171

Chapter 05 - The Accounting Cycle: Reporting Financial Results

105. Closing entries An Adjusted Trial Balance for Tiger, Inc., at December 31 appears below.

Tiger Limited Adjusted Trial Balance December 31, 20___ Cash

$33,750

Accounts receivable

175,000

Office equipment

262,500

Accumulated Depreciation: office equipment Accounts payable

$50,000 100,000

Income taxes payable Share Capital

50,000 125,000

Retained earnings

100,000

Dividends

42,500

Sales commissions earned

542,500

Advertising expense

80,000

Rent expense

110,000

Salaries expense

112,500

Utilities expense

76,250

Depreciation expense: office equipment Income taxes expense

25,000

_______

50,000 967,500

_______ 967,500

Prepare journal entries to close the accounts. Use four entries to: (1) close the revenue account, (2) close the expense accounts, (3) close the Income Summary account, and (4) close the Dividends account.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

106. Adjustments and closing process--basic entries Selected ledger accounts used by Goldstone Advertising Limited, are listed along with identifying numbers. Following this list of account numbers and titles is a series of transactions. For each transaction, you are to indicate the proper accounts to be debited and credited.

1 2 3 4 5 6 21

Cash Accounts Receivable Office Supplies Unexpired Insurance Office Equipment Accumlated Depr. Office Equip Dividends Payable

22 23 24 30 31 32 35

Accounts Payable Income Taxes Payable Unearned Fees Share capital Retained Earnings Dividends Income Summary

5-28

41 51 52 53 54 55

Fees Earned Salaries Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Office Equip. 56 Income Taxes Expense

Chapter 05 - The Accounting Cycle: Reporting Financial Results

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

107. Adjustments and closing process-basic entries Selected ledger accounts used by Speedy Truck Rentals, Inc., are listed along with identifying numbers. Following this list of account numbers and titles is a series of transactions. For each transaction, you are to indicate the proper accounts to be debited and credited.

1 2 3 4 5 6 21

Cash Accounts Receivable Office Supplies Unexpired Insurance Trucks Accumlated Depr. Trucks Accounts Payable

22 23 24 30 31 32 33 35

Notes Payable Dividends Payable Income Taxes Pay. Unearned Revenue Share capital Retained Earnings Dividends Income Summary

5-30

41 51 52 53 54 55

Truck Rental Revenue Advertising Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Trucks 56 Income Taxes Expense

Chapter 05 - The Accounting Cycle: Reporting Financial Results

5-31

Chapter 05 - The Accounting Cycle: Reporting Financial Results

111. Given the following information for the Maple Tree Co. for the year ended December 31, 2009, prepare a Statement of Shareholders' Equity.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

112. The accounts and their amounts for Belgrave Co. at December 31, 20__ are listed below. Prepare closing entries and an After-Closing Trial Balance.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Chapter 05 The Accounting Cycle: Reporting Financial Results Answer Key

True / False Questions

1. The report form of the balance sheet lists liabilities and equity below assets. TRUE

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

2. A current asset may be cash or must be capable of being converted into cash with a relatively short period of time, usually less than five years. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

3. Real accounts can only be closed at the end of the year with a single compound entry. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

4. The adjusted trial balance contains income statement accounts and balance sheet accounts while the after-closing trial balance will only have balance sheet accounts. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

5. Measures of profitability tell us how quickly current assets can be converted into profits. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

6. The current ratio is a measure of liquidity. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Decision Making Learning Objective: 6

7. The purpose of the after-closing trial balance is to give assurance that the accounts are in balance and ready for the new accounting period. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

8. The account, Accumulated Depreciation, is considered a permanent account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

9. The profit percentage can be measured by dividing profit by total revenue. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

10. Working capital equals current assets divided by current liabilities. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

11. In regard to disclosures that are required to be contained in annual reports, the FASB has no well-defined list of items that must be included. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

12. At year-end all equity accounts must be closed. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

13. The income summary account appears, as stated, on the statement of changes in equity. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

14. Dividends are closed out directly to retained earnings at year end. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

15. Income summary does not appear on the income statement. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1 Learning Objective: 4

16. Dividends declared are an expense and reduce profit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

17. The current ratio equals current assets plus current liabilities. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

18. The return on equity ratio equals profit divided by ordinary shares. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

19. Interim financial statements usually report on a period of time greater than one year. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 7

20. Publicly owned companies are typically managed by their shareholders. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

21. Financial statements are usually prepared before the closing entries are made. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

22. Closing entries do not affect the cash account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

23. Return on equity is a commonly used measure of a company's solvency. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

24. The current ratio is a measure of short-term debt paying ability. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

25. An after-closing trial balance consists only of asset, liability, and equity accounts. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

26. IFRS 1 requires that management and auditors should depart from compliance with GAAP if it is necessary to achieve a fair presentation when reporting financial results. TRUE

AACSB: Diversity AICPA BB: Global AICPA FN: Measurement Learning Objective: 1

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

27. An annual report filed with the Securities and Exchange Commission must include a section called "Management's Predictions of Future Earnings". FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 1

Multiple Choice Questions

28. Of the following, which is not an alternative title for the income statement? A. Earnings statement B. Statement of Operations C. Profit and Loss Statement D. Statement of Financial Position

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

29. The Retained Earnings statement is based upon which of the following relationships? A. Retained Earnings - Profit - Dividends B. Retained Earnings - Profit + Dividends C. Retained Earnings + Profit + Dividends D. Retained Earnings + Profit - Dividends

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

31. A worksheet consists of all of the following except: A. A trial balance B. Adjusting entries C. An adjusted trial balance D. Transaction entries

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

32. Closing entries would be prepared before: A. Financial statements are prepared B. A post-closing trial balance C. An adjusted trial balance D. Adjusting entries

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

33. When a worksheet is prepared which account would not be entered into the income statement columns? A. Depreciation Expense B. Unearned Revenue C. Service Revenue D. Prepaid Insurance

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

35. The income summary account has debits of $85,000 and credits of $75,000. The company had which of the following: A. Profit of $10,000 B. Profit of $160,000 C. Loss of $10,000 D. Loss of $160,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

37. Dividends declared: A. Reduce retained earnings. B. Increase retained earnings. C. Reduce profit. D. Increase profit.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

39. A debit balance in the income summary account indicates: A. An error was made. B. A Net Profit. C. A Loss. D. That revenues were greater than expenses.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

40. The dividends account should be: A. Closed to income summary. B. Closed to retained earnings. C. Closed only if there is a profit. D. Not closed at all.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

41. Which account will appear on an after-closing trial balance? A. Dividends. B. Prepaid Expenses. C. Retained Earnings, at the beginning of the period. D. Sales.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

42. Which account will not appear on an after-closing trial balance? A. Dividends. B. Prepaid Expenses. C. Unearned Revenue. D. Retained Earnings, at the end of the period.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

44. Return on equity measures: A. Solvency. B. Profitability. C. Leverage. D. All three of the above.

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

45. Publicly owned companies are: A. Managed and owned by the government. B. Must be not-for-profit companies. C. Listed on a stock exchange. D. Not permitted to be owned by individuals.

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 1 Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

47. If Income Summary has a net credit balance, it signifies: A. A loss. B. Profit. C. A reduction of net worth. D. Dividends have been declared.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

5-46

Chapter 05 - The Accounting Cycle: Reporting Financial Results

48. The balance in Income Summary: A. Should equal retained earnings. B. Will always be equal to the increase in retained earnings. C. Will equal profit less dividends. D. Will equal profit or loss.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

5-47

Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

52. Income Summary appears on which financial statement: A. Income statement. B. Balance sheet. C. Retained Earnings statement. D. Income summary does not appear on any financial statement.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

5-48

Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

5-49

Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

58. Publicly traded companies must file audited financial statements with the: A. AICPA. B. IRS. C. SEC. D. AAA.

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 1 Learning Objective: 2 Learning Objective: 3

59. Closing entries never involve posting a credit to the: A. Income Summary account. B. Accumulated Depreciation account. C. Dividends. D. Depreciation Expense account.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

62. Assets are considered current assets if they are cash or will usually be converted into cash: A. Within a month or less. B. Within 3 months. C. Within a year or less. D. Within 6 months or less.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

63. Which of the following amounts appears in both the Income Statement debit column and the Balance Sheet credit column of a worksheet? A. Profit. B. Loss. C. Dividends. D. Retained earnings.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

5-53

Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

5-54

Chapter 05 - The Accounting Cycle: Reporting Financial Results

72. Declaring a dividend will: A. Increase profit. B. Decrease profit. C. Not change profit. D. Increase the net worth of a company.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

73. Dividends will have what effect upon retained earnings? A. Increase. B. Decrease. C. No effect. D. Depends upon if there is income or loss.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

74. Which of the following accounts will be closed to Income Summary? A. Prepaid Expenses. B. Unearned Revenue. C. Dividends. D. None of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

76. Which statement is true regarding the Income Statement? A. Losses do not appear on income statements. B. Dividends reduce profit. C. Both A and B are true. D. Both A and B are false.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

78. Closing entries should be made: A. Every year. B. Only when an entity goes out of business. C. Only if there is a profit. D. Only if there is a loss.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

79. Which accounts should be closed? A. Expenses and revenues. B. Dividends. C. Income summary. D. Each of the above accounts should be closed.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

80. Which account appears on the After-Closing Trial Balance? A. Service Revenue. B. Unearned Revenue. C. Dividends. D. Retained Earnings, Beginning of Year.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

82. If current assets are $90,000 and current liabilities are $70,000, the current ratio will be: A. 77%. B. $20,000. C. 1.3 D. $160,000 $90,000/$70,000 = 1.3

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

83. If current assets are $110,000 and current liabilities are $50,000, working capital will be: A. 45.5%. B. 2:2. C. $60,000. D. $160,000. $110,000 - $50,000 = $60,000

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

84. The following information is available:

Sales Profit Retained Earnings Avg. Shareholders’ Equity Dividends

$400,000 $ 20,000 $ 40,000 $130,000 $ 6,000

What is the return on equity? (round to the nearest number) A. 5%. B. 20%. C. 25%. D. 15%. $20,000/$130,000 = 15%

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

Shown below is a trial balance for Novelty Toys, Limited, on December 31, after adjusting entries:

Novelty Toys Limited Trial Balance December 31, 20___ Cash Accounts receivable

$ 7,750 6,375

Office equipment Accumulated Depreciation

11,250 $3,000

Accounts payable Share Capital

3,875 11,250

Retained earnings Dividends Fees Earned

3,750

-0-

Salaries expense Advertising expense

8,000 1,625

Depreciation expense

2,125 $40,875

22,750

$40,875

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

89. Refer to the above data. Profit for the period equals: A. $18,375. B. $11,000. C. $5,800. D. Some other amount. $22,750 - $8,000 - $1,625 - $2,125 = $11,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

90. Refer to the above data. After closing the accounts, Retained earnings at December 31 equals: A. $11,000. B. $7,250. C. Zero. D. Some other amount. $11,000 - $3,750 = $7,250

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

91. Refer to the above data. The total debits in the After-Closing Trial Balance will equal: A. $25,375. B. $29,125. C. $40,875. D. Some other amount. $7,750 + $6,375 + $11,250 = $25,375

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

92. Refer to the above data. Income Summary will have what balance before it is closed? A. Zero. B. $11,750. C. $7,250. D. Some other amount. $22,750 - $8,000 - $1,625 - $2,125 = $11,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Shown below is the adjusted Trial Balance for Simon Limited, on December 31, after the first year of operations, after adjusting entries:

Simon Limited Adjusted Trial Balance December 31, 2009 DR

Cash

$1,600

Accounts receivable

4,000

Office equipment

16,800

Accumulated Depreciation

$1,600

Share Capital

2,400

Retained earnings

2,720

Dividends

960

Service fees earned

21,920

Wages expense

3,200

Supplies expense

1,120

Depreciation expense

960

_______

$28,640

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

95. Refer to the above data. Profit for the period equals: A. $20,960. B. $16,640. C. $21,920. D. $23,360. $21,920 - $3,200 - $1,120 - $960 = $16,640

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

96. Refer to the above data. After closing the accounts, Retained Earnings at December 31 equals: A. Zero. B. $18,400. C. $19,360. D. Some other amount. $2,720 + $16,640 - $960 = $18,400

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

97. Refer to the above data. The total debits in the After Closing-Trial Balance will equal: A. $23,360. B. $28,640. C. $22,400. D. Some other amount. $1,600 + $4,000 + $16,800 = $22,400

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

98. Refer to the above data. Income Summary will have what balance before it is closed? A. $28,640 B. $15,600. C. $21,920. D. $16,640. $21,920 - $3,200 - $1,120 - $960 = $16,640

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

AACSB: Ethics AICPA BB: Legal AICPA FN: Risk Analysis Learning Objective: 3

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Essay Questions

101. Accounting terminology Listed below are eight technical accounting terms emphasized in this chapter:

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 1 - 8

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Totals Profit or loss Totals

Trial Balance Dr. Cr.

Adjustments Dr. Cr

72 102 18 116

30 ___ ___ 14 36 52 0 18 49 54

___

400

5-68

___

55 ___ ___ ___ ___ ___

___ 48 58 ___ 16 ___

___

108 108

139 ___ 232

232 ___ 232

___

___ 52 20 25 ___ 54 ___

334 ___ 334

241 ___ 334

___ ___ ___

___ ___ 10 ___ ___

400

___

___ ___ ___

177

Balance Sheet Dr. Cr. 72 ___ 8 116 ___

___

48 38 0 0 0

Income Statement Dr. Cr,

___ ___ ___

Chapter 05 - The Accounting Cycle: Reporting Financial Results

Trial Balance Dr. Cr. Balance sheet accounts: Cash (example) Fees receivable Supplies Equipment Accumulated depreciation Unearned fees Accounts payable Salaries payable Income taxes payable Share capital Retained earnings Dividends Income statement accounts: Fees earned Advertising expense Salaries expense

72 102 18 116

Adjustments Dr. Cr

Income Statement Dr. Cr,

72 132 8 116

30 10 14 36 52 0 18 49 54

Balance Sheet Dr. Cr.

30 11 52 20 25 49 54

25 20 7

6 177

48 38

55 20

5-69

232 48 58

Chapter 05 - The Accounting Cycle: Reporting Financial Results

Supplies expense Depreciation expense Income taxes expense

Totals Profit or loss Totals

0 0 0

400

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

5-70

10 16 7

108 108

139 93 232

232

334

232

334

241 93 334

Chapter 05 - The Accounting Cycle: Reporting Financial Results

103. Preparation of financial statements Using the Adjusted Trial Balance shown below, prepare (a) an Income Statement and (b) a Statement of Changes in Equity for All Star Repairs.

5-71

Debit $20,200 70,600 2,500 26,600

Credit

$9,600 18,000 3,700 26,700 22,200 5,900 16,700 127,400 9,000 35,600 2,900 2,100 600 26,700 _______ $213,500 $213,500

Chapter 05 - The Accounting Cycle: Reporting Financial Results

All Star Repairs Income Statement For the Month Ended July 31, 20__

5-72

All Star Repair Statement of Changes in Equity For the Month Ended July 31, 20___

Chapter 05 - The Accounting Cycle: Reporting Financial Results

All Star Repairs Income Statement For the Month Ended July 31, 20__ Fees Earned: $127,400 Expenses: Rent $9,000 Wages 35,600 Supplies 2,900 Utilities 2,100 Depreciation 600 Total Expenses 50,200 Profit before taxes $ 77,200 Income taxes expense (26,700) Profit $50,500

Share Retained Capital Earnings Balances, June 30, 20__ $22,200 Profit for July 0 Dividends ______0 Balances, July 31, 20__ $22,200

Total Equity

$5,900 $28,100 50,500 50,500 (16,700) (16,700) $39,700 $61,900

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

45 43 ___ 51

Adjustments Dr. Cr

Income Statement Dr. Cr,

45 ___ 4 51

13 6 23 ___ 31 0 16 36 26

Balance Sheet Dr. Cr.

___

___ 5 31 7 ___ ___ ___

6 ___ 9

15 48 27 ___ 0 0

191

___ 7 ___ ___ ___

191

5-75

___ 27 7 6 15

64 ___ 67

67 ___ 67

171 ___ 171

168 ___ 171

Chapter 05 - The Accounting Cycle: Reporting Financial Results

Balance sheet accounts: Cash (example) Fees receivable Supplies Office equipment Accumulated depreciation Unearned fees Accounts payable Salaries payable Income taxes payable Share capital Retained earnings Dividends Income statement accounts: Fees earned Utilities expense Salaries expense Supplies expense Depreciation expense Income taxes expense Totals Profit or loss Totals

Trial Balance Dr. Cr.

Adjustments Dr. Cr

45 43 10 51

0 13

Income Statement Dr. Cr,

45 56 4 51

6 23 11 31 0 16 36 26

38 5 31 7 25 36 26

6 7 9

15 48

27 0 0 191

Balance Sheet Dr. Cr.

191

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

5-76

7 6 15 9 56

67 27 7 6 15 9 64 3 67

171

168 3 171

Chapter 05 - The Accounting Cycle: Reporting Financial Results

105. Closing entries An Adjusted Trial Balance for Tiger Limited, at December 31 appears below.

Tiger Limited Adjusted Trial Balance December 31, 20___ Cash

$33,750

Accounts receivable

175,000

Office equipment

262,500

Accumulated Depreciation: office equipment Accounts payable

$50,000 100,000

Income taxes payable Share Capital

50,000 125,000

Retained earnings

100,000

Dividends

42,500

Sales commissions earned

542,500

Advertising expense

80,000

Rent expense

110,000

Salaries expense

112,500

Utilities expense

76,250

Depreciation expense: office equipment Income taxes expense

25,000

_______

50,000 967,500

_______ 967,500

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

1 2 3 4 5 6 21

Cash Accounts Receivable Office Supplies Unexpired Insurance Office Equipment Accumlated Depr. Office Equip Dividends Payable

22 23 24 30 31 32 35

Accounts Payable Income Taxes Payable Unearned Fees Share capital Retained Earnings Dividends Income Summary

5-79

41 51 52 53 54 55

Fees Earned Salaries Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Office Equip. 56 Income Taxes Expense

Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

107. Adjustments and closing process-basic entries Selected ledger accounts used by Speedy Truck Rentals Limited, are listed along with identifying numbers. Following this list of account numbers and titles is a series of transactions. For each transaction, you are to indicate the proper accounts to be debited and credited.

1 2 3 4 5 6 21

Cash Accounts Receivable Office Supplies Unexpired Insurance Trucks Accumlated Depr. Trucks Accounts Payable

22 23 24 30 31 32 33 35

Notes Payable Dividends Payable Income Taxes Pay. Unearned Revenue Share capital Retained Earnings Dividends Income Summary

5-81

41 51 52 53 54 55

Truck Rental Revenue Advertising Expense Office Supplies Expense Rent Expense Insurance Expense Depreciation Expense: Trucks 56 Income Taxes Expense

Chapter 05 - The Accounting Cycle: Reporting Financial Results

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

108. Materiality (a) Identify several factors considered by an accountant in deciding whether an item is "material." (b) Does the concept of materiality complicate or simplify the process of making adjusting entries? Give an illustration to support your answer. (a) Factors to be considered include the following:  The dollar amount of the itme ( relative to annual profit, for example).  The cumulative effect of all items under consideration.  The nature of the item (politically sensitive, illegal, contrary to company policies, etc.).

(b) The concept of materiality should simplify the adjusting process because it allows accountants to use estimated amounts and even to ignore other accounting principles if the results do not have a “material effect” upon the financial statements. Several examples are listed below:  Low-cost assets may be charged directly to expense.  Some expenses such as utilities are charged to expense as the bills are paid, rather than when services are used,

even though this practice technically violates the matching principle.  Some adjusting entries may be ignored for immaterial dollar amounts.  Adjusting entries may be based upon estimates if the amount of error is likely to be immaterial.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

109. Adequate disclosure (a) Briefly explain what is meant by the principle of adequate disclosure. (b) How does professional judgment enter into the application of the principle of adequate disclosure? (c) List 5 types of information that a publicly-held corporation generally would be required to provide according to the concept of adequate disclosure. (a) The principle of adequate disclosure means that financial statements should be accompanied by any information necessary for the statements to be interpreted properly. Most disclosures appear within several pages of notes (or footnotes) that accompany the financial statements. (b) Drafting footnotes requires an in-depth understanding of the company and its operations. As there is no comprehensive list of information that must be disclosed and the content of the notes often is not drawn directly from the accounting records, the adequacy of disclosure is dependent upon the accountants' professional judgment. This professional judgment is used in selecting for disclosure those items that an intelligent person would consider necessary to properly interpret the financial statements. (c) A publicly held corporation is generally required to disclose the following types of information (students are required to list five):

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 3

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

110. Indicate which of the following accounts will be closed to Income Summary at year-end. (a) Cash (b) Office Supplies Expense (c) Unexpired Insurance (d) Unearned Revenue (e) Dividends (f) Depreciation Expense (g) Income Taxes Payable (h) Accumulated Depreciation (b) Office Supplies Expense and (f) Depreciation Expense are the only accounts shown that will be closed to Income Summary.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

111. Given the following information for the Maple Tree Co. for the year ended December 31, 2009, prepare a Statement of Shareholders' Equity.

The Statement of Shareholders' Equity is as follows:

Maple Tree Co. Statement of Changes in Equity For the year ended December 31,2009 Retained Earnings Balances, January 1, 209 $59,150 Plus: Profit for the year 22,620 Dividends (4,550) Balances, December 31, 2009 $77,220

AACSB: Communications AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

112. The accounts and their amounts for Belgrave Co. at December 31, 20__ are listed below. Prepare closing entries and an After-Closing Trial Balance.

Cash Accounts receivable Machinery Accumulated Depreciation. Mach. Supplies Prepaid Insurance Salary Payable Share Capital Retained earnings Dividends Revenue Insurance Expense Salary Expense Miscellaneous Expense Depreciation Expense Totals

$5,300 5,850 2,600 1,650 360 700 400 5,200 1,940 500 13,250 120 6,210 340 460 $22,440

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______ $22,440

Chapter 05 - The Accounting Cycle: Reporting Financial Results

After-Closing Trial Balance

Belgrave Company After Closing Trial Balance December 31, 20__ Cash Accounts Receivable Supplies Prepaid Insurance Machinery Accumulated Depr. Mach Salary Payable Share Capital Retained Earnings Total

$5,300 5,850 360 700 2,600

$14,810

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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$1,650 400 5,200 7,560 $14,810

Chapter 05 - The Accounting Cycle: Reporting Financial Results

CHAPTER 5

NAME

10-MINUTE QUIZ A SECTION The accountant for Sheldrake Consulting prepared the following “Adjusted” Trial Balance at December 31, 2011, after one year of operations

Cash ................................................................................ Accounts Receivable ...................................................... Unexpired Insurance ....................................................... Office Equipment............................................................ Accumulated Depreciation: Office Equipment............... Unearned Consulting Fees .............................................. Share Capital................................................................... Retained Earnings, January 1, 2011................................ Dividends ........................................................................ Consulting Fees Earned .................................................. Salaries Expense ............................................................. Utilities Expense ............................................................. Rent Expense .................................................................. Depreciation Expense .....................................................

Prepare closing entries for Sheldrake Consulting.

5-89

Debit $ 7,590 5,910 2,550 25,230

Credit

$ 450 4,230 21,030 3,390 1,150 28,150 8,860 2,130 3,390 450 $57,250

______ $57,250

Chapter 05 - The Accounting Cycle: Reporting Financial Results

CHAPTER 5 NAME

10-MINUTE QUIZ B SECTION SUNDIAL Limited Trial Balance December 31 Cash ................................................................................ Accounts Receivable ...................................................... Equipment ....................................................................... Accounts Payable............................................................ Share Capital................................................................... Retained Earnings ........................................................... Dividends ........................................................................ Service Revenue ............................................................. Salaries Expense ............................................................. Depreciation.................................................................... Supplies Expense ............................................................ 1

Debit $ 16 26 191

Credit

$ 21 106 56 11 189

86 26 16 ____ $372 $372 What is the balance in Income Summary before it is closed to Retained Earnings? a $61. b $50. c $73. d $145.

. 2

What is the balance in Retained Earnings after posting closing entries at December 31? a $117 b $106 c $61. d $45.

What is the total debits on the after-closing trial balance? a $222. b $372. c $233. d $161.

Which accounts are closed to Income Summary? a All accounts. b Revenue and expenses. c Revenue, expenses, and dividends. d All accounts that are not nominal.

Which accounts will appear on the balance sheet? a retained earnings of $56 b dividends of $11. c profit of $60. d none of the above.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

CHAPTER 5 NAME

10-MINUTE QUIZ C SECTION The accountant for Successful Consulting prepared the following “Adjusted” Trial Balance at December 31, 20__ after one year of operations

Cash ................................................................................ Accounts Receivable ...................................................... Unexpired Insurance ....................................................... Office Equipment............................................................ Accumulated Depreciation: Office Equipment............... Unearned Consulting Fees .............................................. Share Capital................................................................... Retained Earnings, January 1, 20__................................ Dividends ........................................................................ Consulting Fees Earned .................................................. Salaries Expense ............................................................. Utilities Expense ............................................................. Rent Expense .................................................................. Depreciation Expense .....................................................

Prepare an After-Closing Trial Balance.

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Debit $ 5,700 4,500 2,100 18,300

Credit

$ 600 3,600 15,300 2,700 1,100 21,200 6,600 1,800 2700 600 $43,400

______ $43,400

Chapter 05 - The Accounting Cycle: Reporting Financial Results

CHAPTER 5 NAME

10-MINUTE QUIZ D SECTION David’s, Limited Trial Balance December 31 Cash ................................................................................ Accounts Receivable ...................................................... Equipment ....................................................................... Accounts Payable............................................................ Share Capital................................................................... Retained Earnings ........................................................... Dividends ........................................................................ Service Revenue ............................................................. Salaries Expense ............................................................. Depreciation.................................................................... Advertising Expense .......................................................

Prepare the closing entries.

5-92

Debit $ 21 39 175

Credit

$ 27 117 39 13 203 95 27 16 $386

____ $386

Chapter 05 - The Accounting Cycle: Reporting Financial Results

CHAPTER 5 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

For a publicly held company, indicate which of the following activities are likely to occur at or shortly after year-end. (More than one answer may be correct.) a Preparing of income tax returns. b Adjusting and closing the accounts. c Drafting disclosures that accompany financial statements. d An audit of the financial statements by a firm of CPAs.

Which of the following financial statements is generally prepared first? a Income statement. b Balance sheet. c Statement of changes in equity. d Statement of cash flows.

Which of the following accounts would never be reported in the income statement as an expense? a Depreciation expense. b Income taxes expense. c Interest expense. d Dividends expense.

Which of the following accounts would never appear in the after-closing trial balance? (More than one answer may be correct) a Unearned revenue. b Dividends. c Accumulated depreciation. d Income taxes expense.

Which of the following journal entries is required to close the Income Summary account of a profitable company? a Debit Income Summary, credit Retained earnings. b Credit Income Summary, debit Retained earnings. c Debit Income Summary, credit Share Capital. d Credit Income Summary, debit Share Capital.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

Indicate those items for which generally accepted accounting principles require disclosure in notes accompanying the financial statements. (More than one answer may be correct.) a A large lawsuit was filed against the company two days after the balance sheet date. b The depreciation method in use, given that several different methods are acceptable under generally accepted accounting principles. c Whether small but long-lived items–such as electric pencil sharpeners and handheld calculators–are charged to asset accounts or to expense accounts. d As of year-end, the chief executive officer had been hospitalized because of chest pains.

Ski West adjusts its accounts at the end of each month, but closes them only at the end of the calendar year (December 31). The ending balances in the Equipment Rental Revenue account and the Cash account in February and March appear below.

Cash ................................................................................ Equipment rental revenue ...............................................

Feb. 28 $14,200 12,100

Mar. 31 $26,500 18,400

Ski West prepares financial statements showing separately the operating results of each month. In the financial statements prepared for the month ended March 31, Equipment Rental Revenue and Cash should appear as follows: a Equipment Rental Revenue, $18,400; Cash, $26,500. b Equipment Rental Revenue, $18,400; Cash, $12,300. c Equipment Rental Revenue, $ 6,300; Cash, $26,500. d Equipment Rental Revenue, $ 6,300; Cash, $12,300. 8

Which of the following accounts is not closed to the Income Summary at the end of the accounting period? (More than one answer may be correct). a Rent expense. b Accumulated Depreciation. c Unearned Revenue. d Supplies Expense.

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Chapter 05 - The Accounting Cycle: Reporting Financial Results

SOLUTIONS TO CHAPTER 5 10-MINUTE QUIZZES QUIZ A

Consulting Fees Earned .................................................. Income Summary

DR 28,150

CR 28,150

Income Summary Salaries Expense ........................................... Utilities Expense ........................................... Rent Expense ................................................ Depreciation Expense ...................................

14,820

Income Summary ............................................................ Retained Earnings .........................................

13,330

Retained Earnings ........................................................... Dividends ......................................................

1,150

8,850 2,130 3,390 450

13,330

1,150

Learning Objective: 4 QUIZ B 1 A 2 B 3 C 4 B 5 D

Learning Objective: 4, 5 QUIZ C

Learning Objective: 5

5-95

Debit $ 5,700 4,500 2,100 18,300

______ $30,600

Credit

$ 600 3600 15,300 11,100 $30,600

Chapter 05 - The Accounting Cycle: Reporting Financial Results

Quiz D

Service Revenue ............................................................. Income Summary

DR 203

CR 203

Income Summary Salaries Expense ........................................... Depreciation Expense ................................... Advertising Expense

138

Income Summary ............................................................ Retained Earnings .........................................

Retained Earnings ........................................................... Dividends ......................................................

95 27 16

Learning Objective: 4 SOLUTIONS TO CHAPTER 5 SELF-TEST QUESTIONS FROM TEXTBOOK 1 a, b, c, d 2 a 3 d 4 b, d 5 a 6 a, b 7 c 8 b, c

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Chapter 06 - Merchandising Activities

Chapter 06 Merchandising Activities True / False Questions

1. Inventory is a relatively more liquid asset than Accounts Receivable on the statement of financial position. True False

2. The operating cycle of a merchandising company consists of (1) purchases of goods; (2) sales of the goods; and (3) collection of accounts receivable. True False

3. Inventory shrinkage refers to unrecorded decreases in inventory resulting from breakage, theft and sales of inventory. True False

4. In a perpetual inventory system when goods are purchased it is debited to an account called Purchases. True False

5. In a periodic inventory system the Cost of Goods Sold account may be created during the closing process by debiting Cost of Goods Sold and crediting the Beginning Inventory and the Purchases account. True False

6. Purchase Discounts Lost is shown as a reduction of cost of goods sold in the income statement. True False

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Chapter 06 - Merchandising Activities

7. Net Sales is computed as total sales revenue less sales returns and allowances less sales discounts. True False

8. The contra-revenue accounts, Sales Returns and Allowances and Sales Discounts, should be closed by crediting these accounts and debiting Income Summary for each account. True False

9. Gross profit rate is the dollar amount of gross profit expressed as a percentage of gross sales. True False

10. The accounting cycle of a merchandising business is the length of time covered by the company's income statement. True False

11. Today, most large merchandising companies use a perpetual inventory system. True False

12. Inventories are assets that a company holds for sale in the ordinary course of business. True False

13. In preparing monthly bills to be sent to individual credit customers, the billing department will use the accounts payable subsidiary ledger, rather than the general ledger. True False

14. In a periodic inventory system, the Inventory and Cost of Goods Sold accounts are kept up-to-date throughout the accounting period. True False

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Chapter 06 - Merchandising Activities

15. A perpetual inventory system requires the capability of recording the cost of the goods sold in individual sales transactions. True False

16. Wholesalers buy from retailers and sell to the general public. True False

17. Under the periodic inventory system, no effort is made to keep up-to-date records of either Inventory or Cost of Goods Sold as transactions occur. True False

18. The manager of National Software wants to know how many Microsoft Excel programs the store sold in June. This information is contained in the Inventory controlling account. True False

19. In a retail department store with an efficient perpetual inventory system, the quantities of goods actually on hand are probably somewhat more than the quantities indicated in the accounting records. True False

20. When using a perpetual inventory system, the Purchases account is debited when goods is acquired. True False

21. In a perpetual inventory system, the Inventory and Cost of Goods Sold accounts are kept up-to-date throughout the accounting period. True False

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Chapter 06 - Merchandising Activities

22. In a periodic inventory system, the ending inventory can be determined from the accounting records and a physical count of the goods on hand will confirm the amount. True False

23. In a periodic inventory system, the cost of goods sold is determined by the following end-of-period computation: Beginning Inventory + Purchases - Ending inventory = Cost of Goods Sold. True False

24. Under the perpetual inventory system, two entries are required when goods are sold. True False

25. If ending inventory and cost of goods sold are added together, they should equal gross profit. True False 26. Instead of paying for goods purchased on account, Olympic Corp. returned this goods to the supplier. Olympic should record this transaction by debiting Accounts Payable and crediting Sales Returns and Allowances. True False

27. When using a perpetual inventory system, the Purchases account is debited when goods is acquired. True False

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Chapter 06 - Merchandising Activities

28. A large company with many different kinds of low-cost items would tend to use a perpetual inventory system. 29. The average gross profit rate is a measure of relative profitability.

30. If ending inventory and cost of goods sold are added together, they should equal cost of goods available for sale.

Multiple Choice Questions

32. Sales discounts and allowances: A. When properly recorded will reduce profit for the period. B. When properly recorded will increase profit for the period. C. Will not affect profit for the period. D. Are always immaterial and need not be recorded.

33. Which account listed below is classified as a contra-revenue account? A. Cost of Goods Sold. B. Gross profit. C. Sales Discounts. D. Purchases.

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Chapter 06 - Merchandising Activities

34. The Cost of Goods Sold account is closed by A. Debiting Cost of Goods Sold and crediting Income Summary B. Debiting Cost of Goods Sold and crediting Retained Earnings C. Debiting Income Summary and crediting Cost of Goods Sold D. Debiting Retained Earnings and crediting Cost of Goods Sold

35. Merchandising companies that are small and do not use a perpetual inventory system may elect to use: A. A physical inventory system B. A periodic inventory system C. An inventory shrinkage method D. An inventory subsidiary ledger system.

36. Which of the following would not tend to make a manufacturer choose a perpetual inventory system? A. Management wants information about quantities of specific products B. A low volume of sales transactions and a computerized accounting system C. A high volume of sales transactions and a manual accounting system D. Items in inventory with high per unit costs 37. Which of the following should not be classified as inventory in the statement of financial position of a large automobile dealership? A. Pickup trucks offered for sale. B. Used cars taken in trade and offered for sale on the company's used-car lot. C. Spark plugs, oil filters, and other parts which are intended for use by the service department in repairing and servicing customers' cars. D. "Company cars" provided to specific company executives for their personal use.

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Chapter 06 - Merchandising Activities

38. Which of the following factors would suggest the use of a perpetual inventory system? A. A small company. B. A high volume of many different, low-cost items. C. A desire to minimize record-keeping requirements. D. Only annual reporting is required.

39. Which of the following businesses is likely to have the shortest operating cycle? A. A food store. B. A department store. C. An art store. D. A car store.

40. Which of the following companies would be more likely to use a periodic inventory system? A. IBM. B. Bank of China. C. Marks & Spencer. D. A newspaper stand.

41. Sales revenue is recognized in the period in which: A. Goods are delivered to the customer. B. The customer orders the goods. C. Cash payment is received by the seller. D. Purchases are made to replace the goods sold.

42. Which of the following companies would be more likely to use a perpetual inventory system? A. Corner deli. B. Marks and Spencer. C. James Dean, CPA. D. A manufacturer of custom sailboats.

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Chapter 06 - Merchandising Activities

43. Which of the following appears in the income statement of a merchandising business, but not in the income statement of a business that renders only services? A. Interest revenue. B. Gross profit. C. Advertising expense. D. Income tax expense.

44. Which of the following factors would suggest the use of a periodic inventory system? A. A small company. B. A high volume of sales and a manual accounting system. C. Neither a small company or a high volume of sales and a manual accounting system. D. Both a small company and a high volume of sales and a manual accounting system.

45. Gross profit is the difference between: A. Net sales and the cost of goods sold. B. The cost of goods purchased and the cost of goods sold. C. Net sales and profit for the period. D. Net sales and all expenses.

47. The basic purpose of a subsidiary ledger is to: A. Provide a chronological record of all business transactions. B. Provide details about the individual items comprising the balance of a general ledger account. C. Enable accountants to prepare financial statements. D. Provide persons outside of the organization with detailed information about the company's operations.

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Chapter 06 - Merchandising Activities

48. Under the perpetual inventory system which journal entry would indicate a purchase of goods? A. Debit, Inventory and credit, Cash. B. Debit, Purchases and credit, Cash. C. Debit, Costs of Goods Sold and credit, Inventory. D. Debit, Inventory and credit, Cost of Goods Sold.

49. The purchasing agent of Superb Service Co. wants to know the dollar amount of inventory purchased on account during the year from a particular supplier. This information can be found most easily in Superb Service's: A. Inventory subsidiary ledger. B. Accounts payable controlling account. C. Inventory controlling account. D. Accounts payable subsidiary ledger.

50. Which of the following credit terms is the most advantageous to the purchaser of goods? A. 1/10, n/30. B. 5/10, n/60. C. 2/10, n/30. D. 5/10, n/20.

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Chapter 06 - Merchandising Activities

53. Net sales is calculated by: A. Subtracting cost of sales from sales. B. Subtracting sales returns and sales discounts from sales. C. Subtracting sales returns, cost of sales and sales discounts from sales. D. Subtracting gross profit from sales.

54. In a perpetual inventory system, two entries usually are made to record each sales transaction. The purposes of these entries are best described as follows: A. One entry recognizes the sales revenue, and the other recognizes the cost of goods sold. B. One entry records the purchase of the goods, and the other records the sale. C. One entry records the cost of goods sold, and the other reduces the balance in the Inventory account. D. One entry updates the general ledger, and the other updates the subsidiary ledgers.

55. In a periodic inventory system, which of the following accounts may be closed by debiting Cost of Goods Sold? A. Sales, Inventory (beginning), and Gross Profit. B. Inventory (beginning) and Purchases. C. Purchases and Inventory (ending). D. Sales, Inventory (beginning), and Cost of Goods Available for Sale.

56. In comparing a perpetual inventory system with a periodic inventory system, which of the following statements is not correct? A. Most large companies use perpetual inventory systems. B. A periodic system does not include an inventory subsidiary ledger. C. The perpetual method is easier to apply in a manual accounting system. D. Regardless of the system in use, most businesses take a physical inventory at least once a year.

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Chapter 06 - Merchandising Activities

57. Hicksville's Department Store uses a perpetual inventory system. At year-end, the balance in the Inventory controlling account is $1,200,000. Assuming that the inventory records have been maintained properly, a year-end physical inventory: A. Is unnecessary. B. Is needed to establish the ending inventory, as the $1,200,000 balance in the Inventory controlling account represents the beginning inventory. C. Probably will indicate more than $1,200,000 in goods on hand. D. Probably will indicate less than $1,200,000 in goods on hand.

58. Jayson Products uses a perpetual inventory system. At year-end the Inventory account had a balance of $280,000, but a complete year-end physical inventory indicated goods on hand costing only $273,000. Jayson should: A. Reduce its cost of goods sold by $7,000. B. Record a $7,000 current liability. C. Reduce the balance in its Inventory controlling account and inventory subsidiary ledger by $7,000. D. Reduce the balance in the Inventory controlling account and record a current liability, both in the amount of $7,000.

59. The cost of delivering goods to the customer is: A. Part of cost of goods sold. B. Used in the calculation of net sales. C. An operating expense. D. A reduction of gross profit.

60. In a periodic inventory system, the cost of goods sold is: A. Recorded as sales transactions occur. B. Determined by a computation which is performed at year-end, after the taking of a complete physical inventory. C. Equal to the beginning inventory, plus purchases made during the period, less sales revenue for the period. D. Determined by subtracting the balance in the Gross Profit account from the amount of net sales.

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Chapter 06 - Merchandising Activities

61. In a periodic inventory system, the formula used in computing the cost of goods sold may be summarized as follows: A. Beginning inventory + purchases - ending inventory. B. Beginning inventory + purchases - net sales. C. Ending inventory + purchases - net sales. D. Balance in the Cost of Goods Sold account, less the balance in the Inventory Shrinkage account.

62. Periodic inventory systems are used primarily by: A. Small businesses with manual accounting systems. B. Large manufacturing companies. C. Small businesses that sell a low volume of high-priced items. D. Companies that sell a high volume of low-priced items and record sales transactions on point-of-sale terminals.

63. Inventory shrinkage is not caused by: A. Shoplifting. B. Breakage. C. Price reductions by competitors. D. Spoilage.

64. Which of the following statements about a periodic inventory system is not correct? A. These systems are used primarily by small businesses with manual accounting systems. B. The system does not include an up-to-date inventory ledger. C. The balance in the Inventory account remains unchanged until the end of the period. D. The Cost of Goods Sold account is updated as sales transactions occur.

65. The cost of the transportation of inventory purchased: A. Are expensed in the current period. B. Increases profit for the period. C. Becomes part of the cost of inventory. D. Reduces the sales price.

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Chapter 06 - Merchandising Activities

66. A company's gross profit rate is computed by dividing: A. Net sales by gross profit. B. Cost of goods sold by gross profit. C. Gross profit by the cost of goods sold. D. None of the above.

67. Regal Artworks Co. records purchases net of all available purchase discounts. If the company makes payment after the discount has expired, the entry to record the payment should include a: A. Debit to Purchase Discounts Lost. B. Credit to Purchase Discounts Lost. C. Debit to Sales Discounts. D. Credit to Sales Discounts.

68. To arrive at net sales: A. Add sales discounts to sales. B. Subtract the cost of goods sold from the sales price. C. Subtract sales returns and sales discounts from sales. D. Subtract accounts receivable from sales.

69. As a retailer, which of the following percentages is the least attractive to you? A. Gross profit of 30%. B. Cost of goods sold as a percentage of net sales equal to 70%. C. Gross margin of 30%. D. Sales markup of 30% over cost.

70. Bernice Beverages is not satisfied with the quality of goods purchased from Kowloon Supplies. If Kowloon Supplies agrees to settle this matter by granting Bernice Beverages a sales allowance, Bernice Beverages will: A. Return the entire shipment to Kowloon Supplies and receive a full refund. B. Return only that portion of the goods that it is unable to sell within the discount period. C. Keep the goods, but pay a reduced purchase price. D. Keep the goods and sell it at a reduced sales price.

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Chapter 06 - Merchandising Activities

71. The Sales Returns and Allowances account is debited when: A. Goods is returned to a supplier. B. Goods is returned by a customer. C. Payment is made to a supplier within the discount period. D. An account receivable is collected within the discount period.

72. If sales discounts are shown as a separate item in financial statements, they should be shown as a(n): A. Deduction from accounts receivable. B. Deduction from gross sales revenue. C. Operating expense. D. Current liability.

73. All of the following accounts normally have debit balances except: A. Transportation-in. B. Cost of Goods Sold. C. Sales Returns & Allowances. D. Purchase Returns & Allowance.. 74. The gross profit rate: A. Is the dollar amount of gross profit expressed as a percentage of cost of sales. B. May indicate popular products and successful marketing strategies. C. Must be computed for the business as a whole rather than for specific sales departments. D. Is equal to cost of goods sold plus gross operating expenses.

75. The basic purpose of offering customers cash discounts such as 2/10, n/30 is to: A. Increase sales. B. Reduce net sales. C. Speed up the collection of accounts receivable. D. Focus management's attention upon customers that fail to take advantage of all available cash discounts.

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76. When making sales, the sales taxes received are: A. Revenue. B. A liability. C. An expense if incurred. D. A reduction in inventory value.

77. Emerald Co. uses a perpetual inventory system and records purchases of goods at net cost. The company recently purchased 200 compact discs at an invoice price of $6,000 and terms of 2/10, n/30. Half of these discs had been mislabeled and were returned immediately to the supplier. The journal entry to record payment of this invoice after the discount period has expired will include a: A. Debit to Inventory for $3,000. B. Credit to Cash for $3,000. C. Debit to an expense account for $60. D. Credit to Cash for $2,940.

78. Parkside Pool reports net sales of $625,000, gross profit of $275,000, and profit for the period of $15,000. The company's cost of goods sold is: A. $335,000. B. $350,000. C. $340,000. D. $325,000.

79. The following information is available:

Calculate the gross profit: A. $0. B. $1,500. C. $450. D. $900

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A. $400,000. B. $310,000. C. $300,000. D. $350,000.

81. At the beginning of 2013, Midway Hardware has an inventory of $400,000. Because sales growth was strong during 2013, the owner wants to increase inventory on hand to $450,000 at December 31, 2013. If net sales for 2011 are expected to be $1,600,000, and the gross profit rate is expected to be 35%, compute the cost of the goods the owner should expect to purchase during 2013. A. $1,490,000. B. $1,040,000. C. $1,090,000. D. $1,600,000.

82. If cost of goods sold is $480,000 and the gross profit rate is 40%, what is the gross profit? A. $320,000. B. $288,000. C. $480,000. D. $1,200,000.

83. Sutton Supplies reports net sales of $3,750,000, net income of $375,000, and gross profit of $900,000. The company's cost of goods sold is: A. $1,700,000. B. $1,900,000. C. $3,375,000. D. $2,850,000.

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84. At the beginning of the year, Saratoga Dress Co. had an inventory of $300,000. During the year, the company purchased goods costing $850,000. Net sales for the year totaled $1,200,000, and the gross profit rate was 45%. The cost of goods sold and the ending inventory, respectively, were: A. $1,150,000 and $660,000. B. $540,000 and $610,000. C. $660,000 and $490,000. D. $1,150,000 and $490,000.

85. At the beginning of 2013, England Dresses has an inventory of $140,000. However, management wants to reduce the amount of inventory on hand to $80,000 at 31 December. If net sales for 2013 are forecast at $400,000 and the gross profit rate is expected to be 40%, compute the cost of the goods which management should expect to purchase during 2013. (Hint: First compute the expected cost of goods sold.) A. $240,000. B. $180,000. C. $320,000. D. $220,000. 86. On 1 July, the inventory of at Barnett Shoes was $60,000. Because of anticipated back-to-school sales, the owner wants to have an inventory of $105,000 on hand at the beginning of August. Net sales during July are expected to total $70,000, with a gross profit rate of 45%. During July, the company should purchase goods costing: A. $38,500. B. $143,500. C. $83,500. D. $105,000.

Michael uses its periodic inventory system and the following information is available:

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87. What is the cost of goods sold? A. $9,800. B. $33,600. C. $32,200. D. $43,400.

88. What is the gross profit? A. $9,800 B. $33,600 C. $32,200 D. $43,400

89. If Bartner Furniture, Inc purchased inventory at $1,200 list price and the terms were 3/10, n/30, what would be the value associated with the inventory if payment was made after 20 days? A. $1,176. B. $1,236 C. $1,164. D. $1,200. 90. If costs of goods sold is $560,000 and its gross profit rate is 20%, what is the gross profit? A. $140,000. B. $70,000. C. $120,000. D. $112,000. Washington Warehouse is a small retail business that specializes in the sale of top-of-the-line televisions. This year, the store has begun to carry the Flat TV manufactured by Bass Co. Thus far this year, Washington has recorded the following transactions involving the Flat TV: 5 Jan Purchased 8 Flat TVs at a cost of $14,000 18 Jan Purchased 5 additional Flat TVs at $14,000 each 12 Feb Sold 9 Flat TVs to the Duke Hotel for $153,000

91. Refer to the information above. If Washington uses a perpetual inventory system, the journal entry to record the purchase on 18 January would include which of the following? A. A debit to the Purchases account for $70,000. B. A debit to the Cost of Goods Sold for $70,000 C. A credit to Inventory for $70,000. D. A debit to Inventory for $70,000.

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92. Refer to the information above. The gross profit on the Flat TVs as of 12 February is: A. $112,000. B. $27,000. C. $41,000. D. $153,000.

94. Refer to the information above, Washington maintains a subsidiary ledger account for each type of TV carried in the store. An examination of the account for the Flat TV model at the end of February would show: A. 4 units on hand with a total value of $14,000. B. 4 units on hand with a total value of $56,000. C. 13 units on hand with a total value of $182,000. D. The amount that Washington owes to Bass.

96. Berg Tooling reports net sales of $325,000, gross profit of $175,000, and profit for the period of $15,000. The company's cost of goods sold is: A. $135,000. B. $150,000. C. $140,000. D. $125,000.

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97. VanRoy Supplies reports net sales of $1,750,000, profit for the period of $175,000, and gross profit of $300,000. The company's cost of goods sold is: A. $1,400,000. B. $475,000. C. $1,575,000. D. $1,450,000.

World of Sound is a small retail business that specializes in the sale of top-of-the-line sound systems. This year, the store has begun to carry the Surround Sound manufactured by Carp Co. Thus far, World of Sound has recorded the following transactions involving the Surround Sound 5 May Purchased 18 units at a unit cost of $2,400 18 May Purchased 15 additional units at $2,550 each 12 June Sold 19 units to the Davies Theater

98. If World of Sound uses a perpetual inventory system, the journal entry to record the purchase on 18th May would include which of the following? A. A debit to the Purchases account for $38,250. B. A debit to the Cost of Goods Sold for $38,250. C. A credit to Inventory for $38,250. D. A debit to Inventory for $38,250.

99. If World of Sound uses a perpetual inventory system, the journal entry to record the sale on 12th February would include which of the following? A. A debit to the Cost of Goods Sold for $45,750. B. A credit to the Cost of Goods Sold for $45,750. C. A credit to Purchases for $45,750. D. A debit to Inventory for $45,750

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Bremmer uses a periodic inventory system and the following information is available:

100. What is the cost of goods sold? A. $96,800. B. $133,600. C. $132,200. D. $230,400.

101. What is the gross profit? A. $96,800. B. $133,600. C. $132,200. D. $230,400.

102. If Bounder Dog Supplies, Inc purchased inventory at $2,200 list price and the terms were 3/10 n/30, what would be the value associated with the inventory if payment was made within 10 days? A. $2,268. B. $2,334. C. $2,200. D. $2,134.

103. Pet Foods Plus purchased bagged dog food at an invoice price of $6,000 and terms of 2/10, n/30. Half of the bags had been damaged in shipment and delivery was refused. If Pet Foods Plus pays the remaining amount of the invoice within the discount period, the amount paid should be: A. $2,940. B. $3,000. C. $5,880. D. $6,000.

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104. At the beginning of 2013, Wilson Stores has an inventory of $300,000. Because sales growth was strong during 2013, the owner wants to increase inventory on hand to $450,000 at 31 December, 2013. If net sales for 2013 are expected to be $2,600,000, and the gross profit rate is expected to be 35%, compute the cost of the goods the owner should expect to purchase during 2013. A. $750,000. B. $1,240,000. C. $1,690,000. D. $1,840,000.

105. If cost of goods sold is $360,000 and the gross profit rate is 40%, what is the gross profit? A. $240,000. B. $360,000. C. $600,000. D. $900,000.

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Essay Questions

106. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter: Gross profit Gross profit rate General ledger Cost of goods sold Physical inventory Subsidiary ledger Perpetual inventory system Periodic inventory system Inventory shrinkage Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. a. An approach to accounting for inventories and the cost of goods sold used primarily in small businesses with manual accounting systems. b. A reason why perpetual inventory records may not be entirely accurate. c. The difference between the revenue earned by selling goods and the cost of goods sold. d. Gross profit divided by average total shareholders' equity. e. An accounting procedure used in both perpetual and periodic inventory systems. In a perpetual system, this procedure brings to light the amount of inventory shrinkage. In a periodic system, it is the basis for computing the cost of goods sold. f. An accounting record showing the individual items comprising the balance of a general ledger account. g. The accounting record in which transactions initially are recorded.

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Indicate the effects of each of these transactions upon the elements of the company's financial statements. Organize your answer in tabular form, using the column headings shown below. (Notice that the cost of goods sold is shown separately from all other expenses.) Use the code letters I for increase, D for decrease, and NE for no effect. The answer for transaction a is provided as an example.

Income Statement

Statement of financial position

Trans-

Net

Cost of

All

Profit for

action

Sales -

Goods -

Other =

the period

a b c d e

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Owners’

Assets =

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Chapter 06 - Merchandising Activities

108. Subsidiary ledgers Listed below are several merchandising transactions of Siegel's Garden Center, a garden supply store. (a) Purchased goods from Bayview Wholesale on account. (b) Sold goods for cash. (c) Sold goods on account to Dom's Landscaping Co. (d) Paid the account payable to Bayview Wholesale. (e) Collected the account receivable from Dom's Landscaping Co. Among the accounting records maintained by Siegel's are subsidiary ledgers for inventory, accounts receivable, and accounts payable. For each of the five transactions, you are to indicate any subsidiary ledger (or ledgers) to which the transaction would be posted. Use the code: Inv = Inventory subsidiary ledger AR = Accounts receivable subsidiary ledger AP = Accounts payable subsidiary ledger Also indicate whether each posting causes the balance in the subsidiary ledger account to increase or decrease. Organize your answer in tabular form as illustrated below. The answer for transaction a is provided as an example.

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109. Perpetual inventory system: basic entries Renato Company uses a perpetual inventory system. A partial chart of accounts is shown below, followed by a series of merchandising transactions. Indicate the accounts that should be debited and credited in recording each transaction. (Ignore sales taxes.)

A B C D E

Transactions

Accounts(s) Debited

Account(s) Credited

Example: Sold goods for cash Purchased goods on account Sold goods on account Collected cash from the customer in transaction A Collected cash from the customer in transaction B The physical inventory at year-end disclosed A normal amount of inventory shrinkage

1,60

50,5

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110. Perpetual inventory system: transactions and closing entries Danny's Wholesale Company uses a perpetual inventory system. A partial chart of accounts is shown below, followed by a series of merchandising transactions. Indicate the accounts that should be debited and credited in recording each transaction. (Ignore sales taxes.)

A B C D E F G H

Transactions

Accounts(s) Debited

Account(s) Credited

Example: Sold goods for cash Purchased goods on account Sold goods on account Paid the supplier of the goods in transaction A Collected cash from the customer in transaction B The physical inventory taken at year-end disclosed a normal amount of inventory shrinkage Made an entry to close the revenue account Made an entry at year-end to close the Cost of Goods Sold account Closed the Income Summary account at the end of an unprofitable year

1,60

50,5

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111. Periodic inventory system Soundview Centre uses a periodic inventory system. At the end of 2010, the accounting records include the following information: Inventory, 31 December 2009 Inventory, 31 December 2010 Net sales Purchases

$23,100 $15,900 $318,000 $183,000

Compute the following for 2010:

112. Periodic inventory system Armstrong Creation uses a periodic inventory system. During the current year, the company purchased goods at a cost of $245,000. You are to compute the cost of goods sold under each of the following alternative assumptions:

113. Gross profit The table below contains information from a recent annual report of Molloy, Inc. (Dollar amounts are stated in millions.) Fill in the missing amounts.

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114. Note to instructor: The following exercise requires students to use gross profit rates in a manner not specifically illustrated in the chapter. We view this as an exercise in critical thinking and, as such, it is more challenging than the typical exercise. Part d requires an expository answer. Some instructors may choose to omit part d. Gross profit rates a practical application Your store sells computers and software. The average computer sells for $13,500, but the customer buying a computer also buys an average of $7,500 in software. You earn only 10% gross profit rate on sales of computers, but you make a 40% gross profit rate on software. You currently are selling 150 computers per month. (a) What is the total amount of your monthly gross profit? $________________ (b) To increase sales, you are thinking about selling computers at cost ($12,150.) This would be the "cheapest price in town," and should attract more customers. You expect each customer who buys a computer to also buy $7,500 worth of software. Under these assumptions, how many computers must you sell each month in order to earn the same amount of gross profit as you are earning now? (c) Assume that as a result of reducing the sales price of computers to cost ($12,150), you are able to sell 250 computers each month, and that each customer now buys $8,500 worth of software. What will be the total amount of your monthly gross profit? (d) Assume that you achieve the results specified in part c (250 sales transactions per month, including an average of $8,500 in software). Would you consider the policy of selling computers at cost successful or unsuccessful? Explain specifically why this strategy is working out favorably or unfavorably.

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115. Net sales and gross profit Mayflower Supply House had gross sales revenue of $1,700,000, cost of goods sold of $950,000, sales returns and allowances of $52,500, and allowed sales discounts of $30,000. Compute for the year:

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116. Journal entries for merchandising transactions Shown below is a partial chart of accounts for Main Street Markets., followed by a series of merchandising transactions. The company uses a perpetual inventory system, records purchases at net cost, and records sales at the full invoice price. Sales taxes are collected on all sales, and the sales tax liability is recorded immediately. Freight charges on inbound shipments are recorded in the Transportation-in account.

Indicate the accounts that should be credited in recording each transaction by placing the appropriate account number(s) in the space provided.

A B C D

E F G H I J K L

Transactions

Accounts(s) Debited

Account(s) Credited

Example: Sold goods for cash Purchased goods on account, terms 2/10, n/30 Returned some of the goods purchased in transaction A to the supplier for full credit Sold goods on account, terms 2/10, n/30 The customer in transaction C returned some of the goods, credited the customer’s account for the original sales price (The returned goods were in “new” condition and were returned to inventory) Paid an accounts payable within the discount period Paid an accounts payable after the discount period had expired Received cash payment from a credit customer within the discount period Received payment from a credit customer after the discount period had expired Paid transportation charges on an inbound shipment of goods from a supplier Paid delivery charges on a shipment of goods being sent to a customer Remitted sales taxes collected during the period to the tax authorities The physical inventory taken at year-end disclosed a normal amount of inventory shrinkage

1,60

35,50,5

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117. Inventory systems Briefly distinguish between a perpetual inventory system and a periodic inventory system.

121. Using gross profit rates Explain how the gross profit rate for a particular product is determined. How would you expect the manager of a large department store to use these gross profit rates in deciding which products to feature in the store's window displays and in determining the location of various types of goods within the store? Explain.

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122. A customer purchased goods for $450 which cost the seller $200. The customer was dissatisfied with some of the goods and thus returned $100 worth and received a cash refund. (a) What journal entries should the seller make when the goods is sold and at the time of the return? Assume that the seller uses a perpetual inventory system. (b) If the seller uses a periodic inventory system, what entries would be made?

123. Prepare journals entries for the following assuming the company uses a perpetual inventory method and records purchases at their net amounts.

1 June 2 4 6 8 12 16

Purchased goods from Martin Company for $900 with the terms of 2/10,n/30 Returned $100 of the goods to Martin Company Purchased goods from Elizabeth Company for $700 with the terms of 3/10,n/30 Paid the amount owed to Martin Company Returned $50 of the goods purchased from Elizabeth Company Sold all the goods on hand from Martin Company for $1,060 and collected 8% sales tax in addition to the sales price Paid the amount owed to Elizabeth Company in full

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Multiple Choice Questions

124. Which of the following businesses is most likely to use a periodic inventory system? A. An aircraft manufacturer. B. A supermarket that is part of a national chain. C. An independently owned art gallery with a manual accounting system. D. A beer bar.

125. A periodic inventory system eliminates the need for: A. Taking an annual physical inventory. B. Recording the revenue from sales transactions. C. Recording the cost of goods sold as sales occur. D. None of the above.

126. If management wants to know the cost and quantity of goods on hand at all times, the business will probably: A. Use a periodic inventory system. B. Maintain an inventory subsidiary ledger. C. Take a complete physical inventory each day. D. Debit all purchases of goods directly to the Cost of Goods Sold account.

127. In a perpetual inventory system, the entry to record the cost of goods sold always includes an entry of equal amount to the: A. Inventory account. B. Sales account. C. Purchases account. D. None of the above.

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128. Prior to taking a physical inventory at year-end, the perpetual inventory records of Athena Designs showed an inventory of $26,000, sales of $358,000, and a cost of goods sold of $215,000. The year-end physical inventory indicated goods on hand costing $24,000. The company's gross profit for the year was: A. $334,000. B. $145,000. C. $141,000. D. Some other amount.

At the end of last year, Helen’s Corporation had goods costing $115,000 in inventory. During January of the current year, the company purchased goods costing $35,000, and sold goods which it had purchased at a total cost of $55,000. Based upon the above information, place the best answer in the space provided. In questions 1 through 3 assume that Helen’s uses a perpetual inventory system.

129. The total debited to the Inventory account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

130. The balance in the Inventory account at 31 January was: A. $35,000. B. $205,000. C. $95,000. D. Some other answer.

131. The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

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Assume that Helen’s Corporation uses a periodic inventory system and takes a physical inventory only at year-end.

132. The total debited to the Inventory account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

133. The balance in the Inventory account at 31 January was: A. $0. B. $105,000. C. $115,000. D. Some other answer.

134. The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

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Essay Questions

135. At the end of last year, Baron’s Bazaar had goods costing $381,000 in inventory. During January of the current year, the company purchased goods costing $133,500, and sold goods which it had purchased at a total cost of $109,300. a (1)

Assume that Baron’s Bazaar uses a perpetual inventory system. The total amount debited to the Inventory account during January was: $________________

(2)

The balance in the Inventory account at 31 January was: $________________

(3)

The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: $________________

Assume that Baron’s Bazaar uses a periodic inventory system and takes a physical inventory only at year-end (31 December). (Note: $0 may be an appropriate answer to one or more of the following questions.)

(1)

The total amount debited to the Inventory account during January was: $________________

(2)

The balance in the Inventory account at 31 January was: $________________

(3)

The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: $________________

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136. Phillips Co. is an office supply store. The company uses a perpetual inventory system, records purchases at net cost, and records sales revenue at full invoice price. Record the following transactions in the company’s general journal. To conserve space, you may omit the written explanations which normally should accompany the entries. July 1 Purchased four Lorac copying machines on account from Lorac Corp. Total invoice price was $25,000 per machine ($100,000 total); terms of 2/10, n/30. These machines are intended for resale. 3 Found one of the Lorac copiers to be defective and returned it to Lorac, thus reducing the amount owed. 9 Sold one of the Lorac copiers to Morris Realty. The sales price was $35,000, terms 5/10, n/60. 10 Paid the remaining amount owned to Lorac Corp., less the allowable discount. 19 Received full payment from Morris, less the allowable discount.

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Chapter 06 Merchandising Activities Answer Key

True / False Questions

1. Inventory is a relatively more liquid asset than Accounts Receivable on the statement of financial position. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-01 Describe the operating cycle of a merchandising company. Topic: Merchandising Companies

2. The operating cycle of a merchandising company consists of (1) purchases of goods; (2) sales of the goods; and (3) collection of accounts receivable. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-01 Describe the operating cycle of a merchandising company. Topic: Merchandising Companies

3. Inventory shrinkage refers to unrecorded decreases in inventory resulting from breakage, theft and sales of inventory. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

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4. In a perpetual inventory system when goods are purchased it is debited to an account called Purchases. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-04 Explain how a periodic inventory system operates. Topic: Periodic Inventory Systems

6. Purchase Discounts Lost is shown as a reduction of cost of goods sold in the income statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

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7. Net Sales is computed as total sales revenue less sales returns and allowances less sales discounts. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Sales

8. The contra-revenue accounts, Sales Returns and Allowances and Sales Discounts, should be closed by crediting these accounts and debiting Income Summary for each account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Sales

9. Gross profit rate is the dollar amount of gross profit expressed as a percentage of gross sales. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

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10. The accounting cycle of a merchandising business is the length of time covered by the company's income statement. TRUE

11. Today, most large merchandising companies use a perpetual inventory system. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

12. Inventories are assets that a company holds for sale in the ordinary course of business. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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13. In preparing monthly bills to be sent to individual credit customers, the billing department will use the accounts payable subsidiary ledger, rather than the general ledger. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 06-07 Define special journals and explain their usefulness. Topic: Modifying an Accounting System

14. In a periodic inventory system, the Inventory and Cost of Goods Sold accounts are kept up-to-date throughout the accounting period. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 06-04 Explain how a periodic inventory system operates. Topic: Periodic Inventory Systems

15. A perpetual inventory system requires the capability of recording the cost of the goods sold in individual sales transactions. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

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16. Wholesalers buy from retailers and sell to the general public. FALSE

17. Under the periodic inventory system, no effort is made to keep up-to-date records of either Inventory or Cost of Goods Sold as transactions occur. TRUE

18. The manager of National Software wants to know how many Microsoft Excel programs the store sold in June. This information is contained in the Inventory controlling account. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-07 Define special journals and explain their usefulness. Topic: Modifying an Accounting System

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

20. When using a perpetual inventory system, the Purchases account is debited when goods is acquired. FALSE

21. In a perpetual inventory system, the Inventory and Cost of Goods Sold accounts are kept up-to-date throughout the accounting period. TRUE

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22. In a periodic inventory system, the ending inventory can be determined from the accounting records, and a physical count of the goods on hand will confirm the amount. FALSE

23. In a periodic inventory system, the cost of goods sold is determined by the following end-of-period computation: Beginning Inventory + Purchases - Ending inventory = Cost of Goods Sold. TRUE

24. Under the perpetual inventory system, two entries are required when goods are sold. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

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25. If ending inventory and cost of goods sold are added together, they should equal gross profit. FALSE AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

26. Instead of paying for goods purchased on account, Olympic Corp. returned these goods to the supplier. Olympic should record this transaction by debiting Accounts Payable and crediting Sales Returns and Allowances. FALSE

27. When using a periodic inventory system, the Purchases account is debited when goods is acquired. TRUE

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28. A large company with many different kinds of low-cost items would tend to use a perpetual inventory system. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

29. The average gross profit rate is a measure of relative profitability. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

30. If ending inventory and cost of goods sold are added together, they should equal cost of goods available for sale. TRUE

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Multiple Choice Questions

31. Operating profit is: A. A measure of profitability after deducting cost of sales from net sales. B. A measure of profitability after deducting cost of sales and all expenses incurred in operating the business from net sales. C. A measure of liquidity after deducting cost of sales from net sales. D. The equivalent of net sales. AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 06-01 Describe the operating cycle of a merchandising company. Topic: Merchandising Companies

33. Which account listed below is classified as a contra-revenue account? A. Cost of Goods Sold. B. Gross profit. C. Sales Discounts. D. Purchases.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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Chapter 06 - Merchandising Activities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

36. Which of the following would not tend to make a manufacturer choose a perpetual inventory system? A. Management wants information about quantities of specific products B. A low volume of sales transactions and a computerized accounting system C. A high volume of sales transactions and a manual accounting system D. Items in inventory with high per unit costs AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

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37. Which of the following should not be classified as inventory in the statement of financial position of a large automobile dealership? A. Pickup trucks offered for sale. B. Used cars taken in trade and offered for sale on the company's used-car lot. C. Spark plugs, oil filters, and other parts which are intended for use by the service department in repairing and servicing customers' cars. D. "Company cars" provided to specific company executives for their personal use.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

39. Which of the following businesses is likely to have the shortest operating cycle? A. A food store. B. A department store. C. An art store. D. A car store.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-01 Describe the operating cycle of a merchandising company. Topic: Merchandising Companies

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40. Which of the following companies would be more likely to use a periodic inventory system? A. IBM B. Bank of China C. Marks & Spencer D. A newspaper stand

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

42. Which of the following companies would be more likely to use a perpetual inventory system? A. Corner deli. B. Marks and Spencer. C. James Dean, CPA. D. A manufacturer of custom sailboats.

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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46. The credit term 2/10, n/30 means: A. That after 10 days 2% interest is charged. B. That there is a 10% discount if payment is received within 30 days. C. That there is a 2% discount if payment is received within 10 days, otherwise, full payment is due within 30 days. D. There is a 10% discount if paid immediately and 2% if paid within 30 days. AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

50. Which of the following credit terms is the most advantageous to the purchaser of goods? A. 1/10, n/30. B. 5/10, n/60. C. 2/10, n/30. D. 5/10, n/20.

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51. Cumberland, Inc., has applied to its bank for a loan. The bank asks Cumberland's controller about the total amount of the company's accounts receivable. Assuming that all accounting records are up-to-date, the controller can best answer this question by referring to: A. The Income Statement. B. The Accounts Receivable controlling account. C. The Accounts Receivable subsidiary ledger. D. Last year's Statement of financial position. AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

52. In a perpetual inventory system: A. Merchandising transactions are recorded as they occur. B. No effort is made to record the Cost of Goods Sold until year-end. C. Entries are made in the Cost of Goods Sold account whenever goods is purchased or sold. D. The need for ever taking physical inventory is eliminated. AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-04 Explain how a periodic inventory system operates. Topic: Periodic Inventory Systems

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

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59. The cost of delivering goods to the customer is: A. Part of cost of goods sold. B. Used in the calculation of net sales. C. An operating expense. D. A reduction of gross profit.

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63. Inventory shrinkage is not caused by: A. Shoplifting. B. Breakage. C. Price reductions by competitors. D. Spoilage.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

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66. A company's gross profit rate is computed by dividing: A. Net sales by gross profit. B. Cost of goods sold by gross profit. C. Gross profit by the cost of goods sold. D. None of the above.

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Hard Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

6-64

Chapter 06 - Merchandising Activities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Easy Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Sales

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73. All of the following accounts normally have debit balances except: A. Transportation-in. B. Cost of Goods Sold. C. Sales Returns & Allowances. D. Purchase Returns & Allowances.

74. The gross profit rate: A. Is the dollar amount of gross profit expressed as a percentage of cost of sales. B. May indicate popular products and successful marketing strategies. C. Must be computed for the business as a whole rather than for specific sales departments. D. Is equal to cost of goods sold plus gross operating expenses.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

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AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Sales

76. When making sales, the sales taxes received are: A. Revenue. B. A liability. C. An expense if incurred. D. A reduction in inventory value.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Easy Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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79. The following information is available:

Calculate the gross profit: A. $0. B. $1,500. C. $450. D. $900 $2,850 - $2,400 = $450

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-04 Explain how a periodic inventory system operates. Topic: Periodic Inventory Systems

80. During the year 2013, the inventory of Debra's Gift Shop decreased by $50,000. If the income statement for the year 2013 reported cost of goods sold of $350,000, purchases during the year must have amounted to: A. $400,000. B. $310,000. C. $300,000. D. $350,000. Beginning inventory + Purchases - Ending inventory = Cost of Goods Sold Purchases = Cost of goods sold - (Beginning inventory - Ending inventory) Purchases = $350,000 - 50,000 = $300,000

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

82. If cost of goods sold is $480,000 and the gross profit rate is 40%, what is the gross profit? A. $320,000. B. $288,000. C. $480,000. D. $1,200,000. $480,000/.60 = $800,000 (Sales); $800,000 x .4 = $320,000

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Chapter 06 - Merchandising Activities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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85. At the beginning of 2013, England Dresses has an inventory of $140,000. However, management wants to reduce the amount of inventory on hand to $80,000 at December 31. If net sales for 2013 are forecast at $400,000 and the gross profit rate is expected to be 40%, compute the cost of the goods which management should expect to purchase during 2013. (Hint: First compute the expected cost of goods sold.) A. $240,000. B. $180,000. C. $320,000. D. $220,000. Cost of goods sold = 60% x $400,000 = $240,000 Goods available = $80,000 + $240,000 = $320,000 Purchases = $320,000 - $140,000 = $180,000

86. On July 1, the inventory of at Barnett Shoes was $60,000. Because of anticipated back-to-school sales, the owner wants to have an inventory of $105,000 on hand at the beginning of August. Net sales during July are expected to total $70,000, with a gross profit rate of 45%. During July, the company should purchase goods costing: A. $38,500. B. $143,500. C. $83,500. D. $105,000. Cost of goods sold = 55% x $70,000 = $38,500 Goods available = $38,500 + $105,000 = $143,500 Purchases = $143,500 - $60,000 = $83,500

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Michael uses its periodic inventory system and the following information is available:

87. What is the cost of goods sold? A. $9,800. B. $33,600. C. $32,200. D. $43,400. Beginning inventory ($11,200) + purchases ($32,200) = goods available ($43,400) - ending inventory ($9,800) = cost of goods sold ($33,600)

88. What is the gross profit? A. $9,800 B. $33,600 C. $32,200 D. $43,400 Sales ($43,400) - cost of goods sold ($33,600) = $9,800

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90. If costs of goods sold is $560,000 and its gross profit rate is 20%, what is the gross profit? A. $140,000. B. $70,000. C. $120,000. D. $112,000. Cost of goods sold = 80% Sales = $560,000/.8 = $700,000 Gross Profit = .2 x $700,000 = $140,000

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Washington Warehouse is a small retail business that specializes in the sale of top-of-the-line televisions. This year, the store has begun to carry the Flat TV manufactured by Bass Co. Thus far this year, Washington has recorded the following transactions involving the Flat TV: 5 Jan Purchased 8 Flat TVs at a cost of $14,000 18 Jan Purchased 5 additional Flat TVs at $14,000 each 12 Feb Sold 9 Flat TVs to the Duke Hotel for $153,000

92. Refer to the information above. The gross profit on the Flat TVs as of 12 February is: A. $112,000. B. $27,000. C. $41,000. D. $153,000. $153,000 - (9  $14,000) = $27,000

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93. Refer to the information above. If Washington uses a perpetual inventory system, the journal entry to record the sale on 12 February would include all of the following except: A. A debit to the Cost of Goods Sold for $153,000. B. A credit to Sales Revenue for $182,000. C. A credit to Purchases for $153,000. D. A credit to Inventory for $153,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

94. Refer to the information above. Washington maintains a subsidiary ledger account for each type of TV carried in the store. An examination of the account for the Flat TV model at the end of February would show: A. 4 units on hand with a total value of $14,000. B. 4 units on hand with a total value of $56,000. C. 13 units on hand with a total value of $182,000. D. The amount that Washington owes to Bass. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Topic: Perpetual Inventory Systems

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95. Beacon Food Stores purchased canned goods at an invoice price of $4,000 and terms of 2/10, n/30. Half of the goods had been mislabeled and were returned immediately to the supplier. If Beacon Food pays the remaining amount of the invoice within the discount period, the amount paid should be: A. $1,920. B. $1,960. C. $3,920. D. $4,000. .98 (1/2  $4,000) = $1,960 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales. Topic: Transactions Relating to Purchases

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Bremmer uses a periodic inventory system and the following information is available:

100. What is the cost of goods sold? A. $96,800. B. $133,600. C. $132,200. D. $230,400. Beginning Inventory ($21,200) + Purchases ($132,200) = Goods Available ($153,400) Ending Inventory ($19,800) = Cost of Goods Sold ($133,600)

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101. What is the gross profit? A. $96,800. B. $133,600. C. $132,200. D. $230,400. Sales ($230,400) - Cost of Goods Sold ($133,600) = $96,800

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104. At the beginning of 2013, Wilson Stores has an inventory of $300,000. Because sales growth was strong during 2013, the owner wants to increase inventory on hand to $450,000 at December 31, 2013. If net sales for 2013 are expected to be $2,600,000, and the gross profit rate is expected to be 35%, compute the cost of the goods the owner should expect to purchase during 2013. A. $750,000. B. $1,240,000. C. $1,690,000. D. $1,840,000. $2,600,000 x (1 - .35) = $1,690,000 Cost of Goods Sold $1,690,000 + $450,000 EI - $300,000 BI = $1,840,000 Purchases

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105. If cost of goods sold is $360,000 and the gross profit rate is 40%, what is the gross profit? A. $240,000. B. $360,000. C. $600,000. D. $900,000. $360,000/.60 = $600,000 (Sales); $600,000 x .4 = $240,000

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Essay Questions

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. a. An approach to accounting for inventories and the cost of goods sold used primarily in small businesses with manual accounting systems. b. A reason why perpetual inventory records may not be entirely accurate. c. The difference between the revenue earned by selling goods and the cost of goods sold. d. Gross profit divided by average total shareholders' equity. e. An accounting procedure used in both perpetual and periodic inventory systems. In a perpetual system, this procedure brings to light the amount of inventory shrinkage. In a periodic system, it is the basis for computing the cost of goods sold. f. An accounting record showing the individual items comprising the balance of a general ledger account. g. The accounting record in which transactions initially are recorded. (a) Periodic inventory system; (b) Inventory shrinkage; (c) Gross profit; (d) None (Gross profit rate is gross profit divided by net sales); (e) Physical inventory; (f) Subsidiary ledger; (g) None (The statement describes a journal)

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107. Effects of transactions upon the accounting equation Listed below are selected transactions of Simon's, a retail store which uses a perpetual inventory system: (a) Purchased goods on account. (b) Made an entry to recognize the revenue from a sale of goods on account. (Ignore the cost of goods sold.) (c) Recognized the cost of goods sold relating to the sale in Transaction b. (d) Collected in cash the account receivable from the customer in Transaction b. (e) Following the taking of a physical inventory at year-end, made an adjusting entry to record a normal amount of inventory shrinkage. Indicate the effects of each of these transactions upon the elements of the company's financial statements. Organize your answer in tabular form, using the column headings shown below. (Notice that the cost of goods sold is shown separately from all other expenses.) Use the code letters I for increase, D for decrease, and NE for no effect. The answer for transaction a is provided as an example. + Income Statement Trans-

Net

Cost of

All

action

Sales -

Goods -

Other =

a b c d e

Statement of financial position Profit for

Liabi-

Owners’

the period Assets =

ties +

Equity

Income Statement Trans-

Net

Cost of

All

action

Sales -

Goods -

Other =

a b c d e

NE I NE NE NE

NE NE I NE I

NE NE NE NE NE

Statement of financial position Profit for

Liabi-

Owners’

the period Assets =

ties +

Equity

I NE NE NE NE

NE I D NE D

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I I D NE D

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A B C D E

Transactions

Accounts(s) Debited

Account(s) Credited

1,60

50,5

Transactions

Accounts(s) Debited

Account(s) Credited

1,60 5 2,60 30 1 60

50,5 30 50,5 1 2 5

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A B C D E F G H

Transactions

Accounts(s) Debited

Account(s) Credited

1,60

50,5

Transactions

Accounts(s) Debited

Account(s) Credited

1,60 5 2,60 30 1 60

50,5 30 50,5 2 2 5

50 99

99 60

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111.. Periodic inventory system Soundview Centre uses a periodic inventory system. At the end of 2010, the accounting records include the following information:

Inventory, 31 December 2009 Inventory, 31 December 2010 Net sales Purchases

$23,100 $15,900 $318,000 $183,000

Compute the following for 2010:

(a) Cost of goods sold: $190,200 Computations

(b) Gross Profit: $127,800 Computations:

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113. Gross profit The table below contains information from a recent annual report of Molloy, Inc. (Dollar amounts are stated in millions.) Fill in the missing amounts.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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(a) Monthly gross profit = ($13,500 x 10% + $7,500 x 40%) x 150 = $652,500 (b) Number of computer to be sold = $652,500 / ($7,500 x 40%) = 218 (round up to the next whole number). Note to instructor: You may wish to point out that this computation represents an introduction to cost-volume-profit analysis (or break-even analysis). This type of analysis is useful in assessing the potential impact of many proposed marketing strategies. The topic is addressed in depth in the management accounting course. (c) Monthly gross profit = ($8,500 x 40%) x 250 = $850,000 (d) The policy of selling computers at cost appears modestly successful, increasing the monthly gross profit from $652,500 to $850,000. There are two factors leading in the success of this strategy. The first is an increase in sales transactions to 218 computer sales per month instead of 150. But as shown in part b, an increase to 218 sales per month would not in itself make this strategy successful. The reason that total monthly profit margin increased is that the average customer is now buying more software. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Decision Making Bloom's: Analyze Difficulty: Hard Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

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(a) Net sales: $1,617,500 ($1,700,000 - $52,500 - $30,000) (b) Gross profit: [$1617,500 - $950,000] = $667,500 (c) Gross profit rate: 41.3% [$667,500 (part b)  $1,617,500 (part a)]

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

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Indicate the accounts that should be credited in recording each transaction by placing the appropriate account number(s) in the space provided.

Transactions

Example: Sold goods for cash A Purchased goods on account, terms 2/10, n/30 B Returned some of the goods purchased in transaction A to the supplier for full credit C Sold goods on account, terms 2/10, n/30 D The customer in transaction C returned some of the goods, credited the customer’s account for the original sales price (The returned goods were in “new” condition and were returned to inventory) E Paid an accounts payable within the discount period F Paid an accounts payable after the discount period had expired G Received cash payment from a credit customer within the discount period H Received payment from a credit customer after the discount period had expired I Paid transportation charges on an inbound shipment of goods from a supplier J Paid delivery charges on a shipment of goods being sent to a customer K Remitted sales taxes collected during the period to the tax authorities L The physical inventory taken at year-end disclosed a normal amount of inventory shrinkage

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Accounts(s) Debited

Account(s) Credited

1,60

35,50,5

Chapter 06 - Merchandising Activities

A B C D

E F G H I J K L

Transactions

Accounts(s) Debited

Account(s) Credited

1,60 5 30

35,50,5 30 5

2,60

50,5,35

35,52,5

2,60

30 30,XX

1 1

1,51

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117. Inventory systems Briefly distinguish between a perpetual inventory system and a periodic inventory system. Students' answers should address most of the following points: In a perpetual inventory system: Inventory and Cost of Goods Sold accounts are kept continuously up-to-date, reflecting the effects of the merchandising transactions as they occur. The system requires recording the cost of sales transactions on a timely basis. Often, this is practicable only with a computer-based accounting system. This method is used by virtually all businesses with extensive interim reporting requirements (publicly owned companies), or which must continuously know the quantities of various types of goods on hand. In a periodic inventory system: No effort is made to keep the Inventory account up-to-date, or to record the cost of goods sold as sales take place. The amounts of inventory on hand and the cost of goods sold are not determined until a complete physical inventory is taken, usually only at year-end. The method is used primarily by small businesses with manual accounting systems, and with few external reporting requirements. AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

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118. Inventory systems Indicate whether you would expect each of the following businesses to maintain a perpetual or a periodic inventory system. Explain the reasoning behind your answers: (a) A jewelry store. (b) A roadside vegetable stand. Students' answers should address most of the following points: (a) A jewelry store probably would maintain a perpetual inventory system, for the following reasons: Items have different per-unit costs. Therefore, management needs detailed information about the cost of specific units sold in order to properly measure profit. Because the items are expensive and subject to theft, management needs detailed records of the items in inventory and their cost, to recognize when shrinkage losses occur, to measure such losses, and to support theft-insurance claims. Because the volume of sales transactions is relatively low, it would not be difficult or costly to maintain a perpetual inventory system. (b) A roadside vegetable stand probably would maintain a periodic inventory system, for the following reasons: Management has no need of perpetual inventory records to see what is in stock. It would be difficult to determine the per unit cost of vegetables, as they probably are purchased in bulk. Also, it would be impractical to record the cost of each sales transaction. The company does not need an elaborate accounting system; it probably has no external reporting requirements other than income tax returns. AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

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119. Inventory systems Bookmarks Company sells used books at its store in the resort community of Stanley Bay. The owner maintains a large inventory of used books purchased from estate sales, flea markets, and customers. During the tourist seasons of summer and winter, the store is exceptionally busy with customers. Each customer usually makes small purchases ranging in amount from ten to one hundred dollars. What type of inventory system would you recommend to the owner of Bookmarks Company? Explain the reasoning behind your advice. The owner would be well advised to use a periodic inventory system. Sales during the store's busy seasons are occurring in high volume and are individually of low value. Up-to-date information regarding the cost of goods sold and the value of the existing inventory would not seem to be worth the cost of installing point of sale terminals. A manual perpetual system would impose time costs that would likewise be difficult to justify in terms of the value of the information obtained.

AACSB: Analytic AICPA BB: Industry AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 06-05 Discuss the factors to be considered in selecting an inventory system. Topic: Periodic Inventory Systems

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120. Subsidiary ledgers Explain the nature of subsidiary ledgers, and give two specific examples. For each of these examples, explain (1) the unit of organization within this ledger, and (2) the usefulness of this ledger in business operations. Subsidiary ledgers provide detailed information about the individual items that comprise the balance of a general ledger account. Students are asked to provide two examples of subsidiary ledgers, stating the unit of organization and usefulness of the ledger in business operations. Usually, students select two of the following: Inventory subsidiary ledger. Organized by type of product. Used to determine quantities of the product currently on hand, quantities sold recently, and recent purchase costs relating to the product. Accounts receivable subsidiary ledger. Organized by customer (name or account number). Used in billing customers, evaluating the customers' credit history with the business, and in enforcing credit limits. Accounts payable subsidiary ledger. Organized by creditor. Used in paying creditors and in monitoring the volume of business done with a specific supplier. Of course, students may identify other subsidiary ledgers. Several are described in the text.

AACSB: Communications AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 06-02 Understand the components of a merchandising company's income statement. Topic: Merchandising Companies

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Most businesses seek to maximize sales of those products with the highest gross profit rates (profit margins). Therefore, the store manager wants customers to be aware of these products, and to see them in an appealing setting. The manager logically would feature high-margin products in the window displays. Also, the manager will locate high-margin products where they will be seen by all customers such as on the main floor, near the main entrance. Low-margin items usually are displayed in space off of the main traffic areas, such as the top floor, corners of the store, and the "bargain basement."

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 06-08 Measure the performance of a merchandising business. Topic: Financial Analysis and Decision Making

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(b.)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Learning Objective: 06-04 Explain how a periodic inventory system operates. Topic: Periodic Inventory Systems Topic: Perpetual Inventory Systems

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123. Prepare journals entries for the following assuming the company uses a perpetual inventory method and records purchases at their net amounts. 1 June 2 4 6 8 12 16

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Multiple Choice Questions

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129. The total debited to the Inventory account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

130. The balance in the Inventory account at 31January was: A. $35,000. B. $205,000. C. $95,000. D. Some other answer.

131. The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

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Assume that Helen’s Corporation uses a periodic inventory system and takes a physical inventory only at year-end.

132. The total debited to the Inventory account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

133. The balance in the Inventory account at 31 January was: A. $0. B. $105,000. C. $115,000. D. Some other answer.

134. The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: A. $0. B. $35,000. C. $55,000. D. Some other answer.

Essay Questions

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Assume that Baron’s Bazaar uses a perpetual inventory system. The total amount debited to the Inventory account during January was: $________________

(4)

The balance in the Inventory account at 31 January was: $________________

(5)

The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: $________________

(1)

The total amount debited to the Inventory account during January was: $________________

(2)

The balance in the Inventory account at 31 January was: $________________

(3)

The amount of costs transferred from the Inventory account to the Cost of Goods Sold account during January was: $________________

(1) $133,500 (The goods purchased) (2) $405,200 ($381,000 + $133,500 - $109,300) (3) $109,300 (The cost of goods sold)

(1) $-0- (In a periodic system, goods purchased are debited to the Purchases account, not the Inventory account) (2) $381,000 (The balance at the beginning of the month) (3) $-0- (In a periodic system, no entries are made to transfer costs as sales occur from the Inventory account to the Cost of Goods Sold account)

Learning Objective: 06-03 Account for purchases and sales of goods in a perpetual inventory system. Learning Objective: 06-04 Explain how a periodic inventory system operates.

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General Journal

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Date July 1

General Journal Inventory

98,000

Accounts Payable (Lorac Corp.) 3

Accounts Payable (Lorac Corp.)

98,000 24,500

Inventory 9

24,500

Accounts Receivable (Morris Realty)

35,000

Sales

35,000

Cost of Goods Sold

24,500

Inventory 10

24,500

Accounts Payable (Lorac Corp.)

73,500

Cash 19

73,500

Cash

33,250

Sales Discounts

1,750

Accounts Receivable (Morris Realty)

Learning Objective: 06-06 Account for additional merchandising transactions related to purchases and sales.

Multiple Choice Questions

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Chapter 06 - Merchandising Activities

CHAPTER 6 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

a b c d 2 a b c d

a b c d 4

a b c d

Mark and Amanda Lee own an appliance store and a restaurant. The appliance store sells goods on a 12-month installment plan; the restaurant sells only for cash. Which of the following statements are true? (More than one of the following answers may be correct.) The appliance store has a longer operating cycle than the restaurant. The appliance store probably uses a perpetual inventory system, whereas the restaurant probably uses a periodic system. Both businesses require subsidiary ledgers for accounts receivable and inventory. Both businesses probably have subsidiary ledgers for accounts payable. Which of the following statements about merchandising activities is true? (More than one answer may be correct) As inventory is purchased, the Inventory Expense account is debited and Cash (or Accounts Payable) is credited Inventory is recorded as an asset when it is first purchased. As inventory is sold, its cost is transferred from the statement of financial position to the income statement. As inventory is sold, its cost is transferred from the income statement to the statement of financial position. Chan Company uses a perpetual inventory system. All of its sales are made on account. The company sells goods costing $3,000 at a sales price of $4,300. In recording this transaction, Chan will make all of the following entries except: Credit Sales, $4,300. Credit Inventory, $4,300. Debit Cost of Goods Sold, $3,000. Debit Accounts Receivable, $4,300. Fashion House uses a perpetual inventory system. At the beginning of the year, inventory amounted to $500,000. During the year, the company purchased goods for $2,300,000, and sold goods costing $2,450,000. A physical inventory taken at year-end indicated shrinkage losses of $40,000. Prior to recording these shrinkage losses, the year-end balance in the company’s Inventory account was: $310,000. $350,000. $500,000. Some other amount.

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a b c d

a b

c d

a b c d 8

a b c d

Best Hardware uses a periodic inventory system. Its inventory was $380,000 at the beginning of the year, and $400,000 at the end. During the year, Best made purchases of goods totaling $1,070,000. Identify all of the correct answers: To use this system, Best must take a complete physical inventory twice each year. Prior to making adjusting and closing entries at year-end, the balance in Best’s Inventory account is $380,000. The cost of goods sold for the year is $1,090,000. As sales transactions occur, Best makes no entries to update its inventory records or record the cost of goods sold. The two basic approaches to accounting for inventory and the cost of goods sold are the perpetual inventory system and the periodic inventory system. (More than one of the following statements may be correct.) Most large merchandising companies and manufacturing businesses use periodic inventory systems. As a practical matter, a grocery store or a large department store could not maintain a perpetual inventory system without the use of point-of-sale terminals. In a periodic inventory system the cost of goods sold is not determined until a complete physical inventory is taken. In a perpetual inventory system, the Cost of Goods Sold account is debited promptly for the cost of goods sold. Big Brother, a retail store, purchased 100 television sets from Admiralty Electronics on account at a cost of $2,000 each. Kruger offers credit terms of 2/10, n/30; Big Brother uses a perpetual inventory system and records purchases at net cost. Big Brother determines that 10 of these television sets are defective and returns them to Admiralty for full credit. In recording this return, Big Brother will: Debit Sales Returns and Allowances, $19,600. Debit Accounts Payable, $19,600. Debit Cost of Goods Sold, $19,600. Credit Inventory, $20,000. Two of the lawn mowers sold by Garden Products Co. are the LawnMaster and the Mark 5. LawnMasters sell for $2,500 a piece, which results in a 35% profit margin. Each Mark 5 costs Garden Products $3,000 and sells for $4,000. Indicate all correct answers. The dollar amount of gross profit is greater on the sale of a Mark 5 than a LawnMaster. The gross profit rate is higher on Mark 5s than on LawnMasters. Garden profits more by selling one Mark 5 than one LawnMaster. Garden profits more by selling $20,000 worth of Mark 5s than $20,000 worth of LawnMasters.

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SOLUTIONS TO CHAPTER 6 SELF-TEST QUESTIONS FROM TEXTBOOK 1 a, b, d 2 b, c 3 b 4 b 5 b, d 6 b, c, d 7 b 8 a, c

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Chapter 07 Financial Assets True / False Questions

1. Showing investments in securities on the balance sheet at current market values violates the consistency principle. True False

2. A line of credit creates a liability for the borrower when it is granted by the bank. True False

3. The first step in a bank reconciliation is to update the depositor's accounting records for any deposits-in-transit. True False

4. To "write-off" an account receivable is to reduce the balance of the customer's account to zero. True False

5. The Allowance for Impairment is a contra-asset account and appears on the balance sheet. True False

6. The balance shown on a bank statement is always less than the month-end balance of a company's cash account in the general ledger. True False

7. Deposits-in-transit would not appear on a company's bank reconciliation but would appear on the company's bank statement. True False

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Chapter 07 - Financial Assets

8. Entries made in the general journal after preparing a bank reconciliation are called closing entries. True False

9. Financial assets may be current or long-term assets. True False

10. Cash equivalents include money market funds, U.S. Treasury bills and high-grade commercial paper. True False

11. The term "financial asset" is synonymous with the term "cash equivalent." True False

12. Cash equivalents are the most liquid of assets. True False

13. A credit memoranda from a bank indicates that they have decreased the depositor's cash balance. True False

14. U.S. Treasury bills that mature within six months are cash equivalents. True False

15. A company with more than one bank checking account should show more than one account for Cash in its balance sheet. True False

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Chapter 07 - Financial Assets

16. The amount of cash that should appear on the balance sheet is equal to the amount of cash on deposit, plus currency, coin, and customers' checks on hand, minus the balance of the Cash Over and Short account. True False

17. Financial assets describe not just cash, but all assets that are easily and directly convertible into known amounts of cash, except investments in securities. True False

18. Restricted cash may be available to meet the normal operating needs of a company. True False

19. A compensating balance is often required by a bank as a condition for granting a loan. True False

20. An unrealized gain on available-for-sale securities will increase shareholders' equity. True False

21. Internal control is strengthened by a policy of making payments by check or from cash receipts or from a petty cash fund. True False

22. Compensating balances are not included in the amount of cash listed on a balance sheet. True False

23. In order to be classified as available-for-sale securities, the investment cannot be held for a period longer than three months. True False

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24. In order for a company's accounting records to be up-to-date and accurate after a bank reconciliation has been completed, journal entries should be made for any service charges by the bank and for deposits-in-transit. True False

25. Internal control will aid in achieving accurate accounting for cash. True False

26. Investments in securities includes investments in bonds and in the share capital of publicly traded corporations. True False

27. The Allowance for Impairment should be listed on the balance sheet as a current liability. True False

28. Short-term investments in securities may not be reported in the balance sheet at values higher than original cost. True False

29. If the allowance method is used and an account receivable that had been previously written-off is collected, income is currently recorded. True False

30. The income statement approach used to estimate uncollectible receivables uses a percentage of net sales without considering the current balance in the Allowance account True False

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Chapter 07 - Financial Assets

31. The Allowance for Impairment is called a valuation account or contra-asset account and normally has a credit balance. True False

32. When an Allowance for Impairment is used, accounts receivable are valued in the balance sheet at their estimated collectible amount. True False

33. A major purpose of using an Allowance for Impairment is to recognize uncollectible accounts expense in the same accounting period as the related sales which caused the expense. True False

34. A debit memoranda from a bank indicates that they have decreased your cash balance. True False

35. When the direct write-off method is used to recognize uncollectible accounts expense, an Allowance for Impairment is not required. True False

36. When doing a bank reconciliation, an NSF check will reduce the bank's balance. True False

37. The lower the accounts receivable turnover rate, the longer a company must wait to collect from its credit customers. True False

38. An loss on fair value changes on available-for-sale securities will reduce profit. True False

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39. The direct write-off method is more conservative than the allowance method for valuation of receivables. True False

40. Gains (or losses) on sales of investment in securities as well as any gains (or losses) on fair value changes on investments in available for sale securities are reported in the income statement. True False

41. A note receivable which is not collected promptly at the maturity date should be written off the books by a debit to Accounts Receivable and a credit to Notes Receivable. True False

42. If the time span covered by a note is stated in days, the number of days for which interest accrues is computed by omitting the day on which the note is dated but including the day on which the note falls due. True False

43. Non U. S. companies can never be compared to U. S. Companies because non U. S. companies use foreign currencies. True False

44. Many fraudulent financial reporting schemes seek to manipulate accounts payable in order to overstate revenue and income. True False

45. It has been found that improper revenue recognition was the most common scheme in fraud-related SEC enforcement actions. True False

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46. Management may wish to overstate a company's income because bonus plans and stock options are related to reported earnings. True False

Multiple Choice Questions

47. In order to overstate profit, a company may fraudulently: A. Capitalize operating expenses. B. Recognize revenue before it is earned. C. Both of the above. D. None of the above.

48. A good system of internal control will include all of the following except: A. Preparing a pro-forma financial statement on a monthly basis. B. Separating the handling of cash from the maintenance of accounting records. C. Making all major payments by check. D. Reconciling bank statements with accounting records.

49. In order to hold each department manager accountable for monthly cash transactions, a business will often prepare: A. A bank reconciliation B. A bank statement C. A cash budget D. Petty cash vouchers

50. Accounts receivable A. Are usually converted into cash in 30 to 60 days. B. Are relatively liquid assets. C. Usually appear after short-term investments in securities. D. All of the above are correct.

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51. The Allowance for Impairment will appear on the A. Income statement B. Balance sheet C. Cash flow statement D. Statement of Changes in Equity

52. "Concentrations of credit risk" occur if: A. A significant portion of receivables are due from a few major customers. B. A significant portion of receivables are from customers in the same industry. C. Both of the above D. Neither of the above

53. The mark-to-market adjustment for investments classified as "available for sale" affects: A. The balance sheet B. The income statement C. The cash flow statement D. All of the above

54. Financial assets include all of the following except A. Cash B. Investments in securities C. Inventories D. Accounts receivable

55. The bookkeeper prepared a check for $68 but accidentally recorded it as $86. When preparing the bank reconciliation, this should be corrected by: A. Adding $18 to the bank balance B. Subtracting $18 from the bank balance C. Adding $18 to the book balance D. Subtracting $18 from the book balance.

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Chapter 07 - Financial Assets

56. After preparing a bank reconciliation, a journal entry would be required for which of the following: A. A deposit in transit B. A check for $48 given to a supplier but not yet recorded by the company's bank. C. Interest earned on the company's checking account. D. A deposit made by a company with a similar name and credited to your account.

57. All the following are steps included in the preparation of a bank reconciliation except: A. Comparing deposits listed on the bank statement with the deposits shown in the accounting records. B. Arranging checks by serial numbers and comparing with those listed in the accounting records. C. Deducting any debit memoranda from the balance on the bank statement. D. Preparing journal entries for any adjustments to the depositor's records.

58. Each of these categories of assets is normally shown in the balance sheet at current value, except: A. Inventories. B. Accounts receivable. C. Short-term investments in securities. D. Cash.

59. Financial assets: A. Consist of cash and cash equivalents. B. Are reported at cost in the balance sheet. C. Include short-term investments in securities and receivables, as well as cash. D. Are not very productive assets and should be kept to a minimum in a well-managed company.

60. Which of the following is not considered a cash equivalent? A. US Treasury bills. B. Money market funds. C. Accounts receivable. D. High-grade commercial paper.

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Chapter 07 - Financial Assets

61. The term cash equivalent refers to: A. An item such as a money order, travelers' check, or check from a customer. B. An account receivable from a reliable customer who has always paid bills within the discount period. C. A guaranteed line of credit at the company's bank. D. Very liquid short-term investments such as U.S. Treasury Bills and commercial paper.

62. Under the allowance method, when a receivable that had been previously written off is collected: A. Profit is increased. B. Net assets are increased. C. Profit and net assets are not affected. D. Net assets and profit are both increased.

63. Which of the following is not an example of internal control over cash? A. Preparation of a cash budget. B. Daily deposits of cash receipts at the bank. C. Combining the functions of signing checks with the approval of expenditures. D. Preparation of bank reconciliation.

64. Which of the following practices best illustrates efficient management of cash? A. The accountant records all cash receipts and payments when reconciling the bank account at the end of each month. B. Management arranges for a loan to cover projected cash shortages during the production phase of the business cycle each year. C. Cash budgets (forecasts) are prepared only one month in advance in order to avoid the need for constant revision. D. All cash resources are held in the checking account to maximize liquidity.

65. Efficient management of cash includes which of the following concepts? A. Pay each bill as soon as the invoice is received. B. Deposit all cash receipts and make all cash disbursements at the end of each week. C. Prepare monthly cash budgets (forecasts) up to a year in advance. D. Pay suppliers in cash out of cash sales receipts before depositing them in the bank.

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Chapter 07 - Financial Assets

66. Which of the following are always listed on the balance sheet at face amount? A. Cash. B. Short-term investments. C. Receivables. D. All three of the above.

67. With a line of credit, a liability arises: A. As soon as the line is created. B. As soon as any money is borrowed. C. Upon repayment of the debt. D. At maturity date.

68. Interest received is shown on which section of the statement of cash flows? A. Operating. B. Investing. C. Financing. D. Leveraging.

69. Which of the following does not contribute toward achieving internal control over cash payments? A. The practice of making small cash disbursements directly from the current day's cash receipts. B. The use of a voucher system. C. The use of a petty cash fund. D. The practice of approving every expenditure before the cash disbursement is made.

70. Which of the following is not a basic means of achieving internal control over cash receipts? A. Separate the functions of cash handling and maintenance of accounting records. B. Prepare a daily listing of cash received through the mail. C. Deposit all cash receipts daily in the petty cash fund. D. Use cash registers or pre-numbered sales tickets to record cash sales.

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Chapter 07 - Financial Assets

71. In order to achieve internal control over cash receipts: A. The employee who handles checks received in the mail should not prepare the control listing. B. The cashier should not deposit cash in the bank. C. The salesclerk should not count the cash in the register at the end of the day. D. The checks received in the mail from customers should not be sent to the accounting department to be recorded as cash receipts.

72. Which of the following is not a basic objective of cash management? A. Provide accurate accounting for cash transactions. B. Prevent or minimize theft or fraud. C. Anticipate the need to borrow cash. D. All three of the above are basic objectives of cash management.

73. Which of the following items on a bank reconciliation may not have been known to the depositor until the bank statement had arrived? A. Bank service charges. B. An NSF check. C. A credit for interest earned. D. All three of the above.

74. The primary purpose of a petty cash fund is: A. Accuracy. B. Convenience. C. Internal control. D. Conservatism.

75. Investments in securities are classified into three types; which one is not one of the three types? A. Available-for-sale B. Mark-to-market. C. Trading D. Held-to-maturity

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Chapter 07 - Financial Assets

76. With available-for-sale securities, gains and losses on fair value changes are: A. Not reported until recognized. B. Reported on the income statement. C. Reported as an unearned revenue on the balance sheet. D. Reported in the shareholders' equity section of the balance sheet.

77. When preparing a bank reconciliation, checks outstanding will: A. Increase the balance per depositor's records. B. Decrease the balance per depositor's records. C. Increase the balance per the bank statement. D. Decrease the balance per the bank statement.

78. A bank reconciliation explains the differences between: A. Cash receipts and cash disbursements for the period. B. The balance of cash in the bank and the budgeted expenditures for the upcoming accounting period. C. The balance per bank statement and the cash balance per the accounting records of the depositor. D. The balance per bank statement and cash expected to be on hand according to the cash forecast.

79. In reconciling a bank statement, which of the following items could cause the cash per the bank statement to be greater than the balance of cash shown in the depositor's accounting records? A. An outstanding check. B. A check returned to the depositor marked NSF. C. Check 457 written for $643 was recorded by the depositor as $463. D. A bank service charge.

80. When preparing a bank reconciliation, deposits in transit will: A. Increase the balance per depositor's records. B. Decrease the balance per depositor's records. C. Increase the balance per the bank statement. D. Decrease the balance per the bank statement.

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Chapter 07 - Financial Assets

81. An NSF check returned by the bank should be entered in the depositor's accounting records by a debit to: A. Accounts Receivable. B. An expense account. C. Cash. D. Cash Over and Short.

82. In preparing a bank reconciliation, a service charge shown on the bank statement should be: A. Added to the balance per the bank statement. B. Deducted from the balance per the bank statement. C. Added to the balance per the depositor's records. D. Deducted from the balance per the depositor's records.

83. Enclosed with the bank statement received by Sydney Company at October 31 was an NSF check for $300. No entry has yet been made by the company to reflect the bank's action in charging back the NSF check. During preparation of the bank reconciliation, the NSF check should be: A. Deducted from the balance per the depositor's records. B. Deducted from the balance per the bank statement. C. Added to the balance per the bank statement. D. Added to the balance per the depositor's records.

84. When a bank reconciliation has been satisfactorily completed, the only related entries to be made in the depositor's records are: A. To correct errors made by the bank in recording the dollar amounts of cash transactions during the period. B. To reconcile items that explain the difference between the balance per the books and the balance per the bank statement. C. To record outstanding checks and bank service charges. D. To record items that explain the difference between the balance per the accounting records and the adjusted cash balance.

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Chapter 07 - Financial Assets

85. During preparation of a bank reconciliation, outstanding checks should be: A. Added to the balance per the bank statement. B. Deducted from the balance per the bank statement. C. Added to the balance per the depositor's records. D. Deducted from the balance per the depositor's records.

86. When there is an Allowance for Impairment in use, the writing-off of an uncollectible accounts receivable will: A. Reduce income. B. Reduce an expense. C. Not change income or total assets. D. Increase total assets.

87. Which of the following items would cause cash per the bank statement to be smaller than the balance of cash shown in the accounting records? A. Outstanding checks. B. Interest earned on the average balance of the checking account. C. Check no. 824, in the amount of $620.30, is recorded by the bank as $602.30. D. Deposits in transit.

88. Which of the following items would cause cash per the bank statement to be larger than the balance of cash shown in the accounting records? A. Bank service charges B. Deposits in transit C. Outstanding checks D. NSF check from one of the depositor's customers

89. When a petty cash fund is in use: A. Petty cash is debited only when the fund is replenished. B. The general bank account is debited only when this fund is established. C. Small payments are made out of cash receipts before they are deposited. D. Expenses paid from the fund are recorded when the fund is replenished.

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Chapter 07 - Financial Assets

90. When preparing a bank reconciliation, bank service charges will: A. Increase the balance per depositor's records. B. Decrease the balance per depositor's records. C. Increase the balance per the bank statement. D. Decrease the balance per the bank statement.

91. The purpose of establishing a petty cash fund is to: A. Achieve internal control over small cash disbursements not made by check. B. Keep track of expenditures paid out of cash receipts from customers prior to deposit. C. Ensure that the amount of cash in the bank does not become excessive. D. Keep enough cash on hand in the office to cover all normal operating expenses of the business for a period of time.

92. When preparing a bank reconciliation, an NSF check will: A. Increase the balance per depositor's records. B. Decrease the balance per depositor's records. C. Increase the balance per the bank statement. D. Decrease the balance per the bank statement.

93. The valuation principle of "mark-to-market" applied to investments classified as available for sale securities: A. Affects the current period income statement, but not the balance sheet. B. Enhances usefulness of the balance sheet in evaluating solvency of a business. C. Applies to investments in securities and inventories. D. Requires a corporation to adjust its capital stock account to reflect current market value of its outstanding capital stock.

94. The financial statements of Baxter Corporation include an Gain on Fair Value Changes in Investments. This item: A. Is included in the income statement. B. Is shown as a reduction in total stockholders' equity. C. Indicates that Baxter's investments in securities have a current market value higher than cost. D. Indicate that Baxter Corporation sold investments in securities during the period at a gain.

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Chapter 07 - Financial Assets

95. Restricted cash is: A. Not reported as an asset on the balance sheet. B. Not available for the normal operating needs of a company. C. Not legally owned by the company. D. All three of the above.

96. Accounts receivable are classified as current assets: A. Only if convertible into cash within 60 days or sooner. B. Only if the allowance method is used to estimate the uncollectible accounts. C. Only if convertible into cash within one year. D. Whenever the accounts receivable arise from "normal" sales of merchandise to customers, regardless of the credit terms.

97. Accounts receivable appear in the balance sheet: A. As current assets, combined with cash and cash equivalents. B. As current assets, immediately after cash and cash equivalents. C. As either current assets or noncurrent assets, depending on whether the allowance method or the direct write-off method is used to account for uncollectible accounts. D. Only if the balance sheet method of estimating uncollectible accounts is used.

98. Uncollectible accounts expense: A. Should not occur if the credit department properly investigates prospective customers who wish to purchase merchandise on credit. B. Is the amount of cash a business must pay each time a credit customer fails to pay his or her account. C. Is the amount a business must pay to a collection agency to recover amounts on overdue accounts receivable. D. Represents the loss in value of accounts receivable that are estimated to be uncollectible.

99. When reading a bank statement which of the following will indicate an increase in the cash balance? A. Debit Memorandum B. Credit Memorandum C. NSF Check D. Service Charge

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Chapter 07 - Financial Assets

100. The Allowance for Impairment represents: A. Cash set aside to make up for bad debt losses. B. The amount of uncollectible accounts written off to date. C. The difference between total credit sales and collections on credit sales. D. The difference between the face value of accounts receivable and the estimated collectible amount of accounts receivable.

101. When determining the uncollectible accounts expense in computing taxable income, income tax regulations A. Require the allowance method. B. Require the direct write-off method. C. Require the income statement approach. D. Allow any method.

102. The aging of the accounts receivable approach to estimating uncollectible accounts does not: A. Take into consideration the existing balance in the Allowance for Impairment. B. Utilize a percentage of probable uncollectible accounts for each age group of accounts receivable. C. Stress the relationship between uncollectible accounts expense and net sales. D. Tend to give a reliable estimate of uncollectible accounts because of the consideration given to the collectability of specific accounts receivable.

103. If a company uses a percentage of net sales in computing the amount of uncollectible accounts expense: A. No valuation allowance will be required. B. The relationship between revenue and expenses is being stressed more than the valuation of receivables at the balance sheet date. C. The existing balance in the Allowance for Impairment will be increased sufficiently to equal the probable loss indicated by the percentage of net sales computation. D. Any past-due accounts will be listed as a separate item in the balance sheet.

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104. Factoring of accounts receivables is: A. A way of selling them. B. A way of pledging them as collateral for a loan. C. A way of raising cash quickly. D. All three of the above.

105. Randall Limited uses the allowance method supported by an aging of its accounts receivable to recognize uncollectible accounts expense in its financial statements. What method of recognizing this expense does Randall use in its income tax return? A. It must use the same method. B. The direct write-off method. C. Either the balance sheet or income statement approach is acceptable. D. None, since uncollectible accounts expense is not deductible for income tax purposes.

106. The mark-to-market valuation principle: A. Adheres to the cost principle. B. Adheres to conservatism. C. Does not adhere to the cost principle or conservatism. D. Adheres to both the cost principle and conservatism.

107. The direct write-off method of recognizing uncollectible accounts expense: A. Is acceptable only when most of the company's sales are on credit. B. Records uncollectible accounts expense when individual accounts receivable are determined to be worthless. C. Records uncollectible accounts expense when customers exceed their credit limits. D. Uses a valuation account to record specific customer accounts deemed uncollectible.

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108. Robert Lerner maintains the accounts receivable records, authorizes the write-off of uncollectible accounts, issues credit memoranda to customers, and handles cash receipts from customers. When customers are late in paying their accounts, Lerner often writes off the account as uncollectible and steals the cash received from the customer. This fraud should come to light if an employee other than Lerner: A. Reconciles the bank statement to the accounting records. B. Reconciles the accounts receivable subsidiary ledger to the controlling account. C. Reconciles credit memoranda for sales returns to the returned merchandise accepted by the receiving department. D. None of the above.

109. Joe Costello handles cash receipts from customers and also has responsibility for issuing credit memoranda, writing off uncollectible accounts, and maintaining the accounts receivable records. When customers pay their accounts, Davis occasionally issues a credit memorandum and steals the cash received from the customer. This fraud should come to light if an employee other than Costello: A. Reconciles the bank statement to the accounting records. B. Reconciles the accounts receivable subsidiary ledger to the accounts receivable controlling account. C. Investigates weekly all accounts written off as uncollectible. D. Reconciles credit memoranda for sales returns to returned merchandise accepted by the receiving department.

110. Shrek Cyclery sells a bicycle to W. O'Connor, a customer who uses Empress Charge (a national credit card, but not issued by a bank). In recording this sale, Shrek Cyclery should record: A. An account receivable from W. O'Connor. B. A cash receipt. C. An account receivable from Empress Charge. D. A small increase in the allowance for impairment.

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Chapter 07 - Financial Assets

111. The Kansas Company makes credit sales to customers who use bank credit cards (such as Visa or MasterCard) as well as to customers who use non-bank credit cards (such as American Express or Diner's Club). In this situation: A. Sales to customers using bank credit cards are recorded as cash sales. B. Regardless of the type of credit card used by the customer, Kansas records a receivable from the credit card company when a credit sale is made. C. Regardless of the type of credit card used by the customer, Kansas estimates uncollectible accounts related to these credit sales using the allowance method. D. The fees charged by the credit card company reduce the dollar amount of sales recorded.

112. Sales to customers using bank credit cards, such as Visa or MasterCard, are recorded as: A. Cash sales. B. An account receivable from the cardholder. C. An account receivable from the bank. D. Credit card discount expense.

113. The accounts receivable turnover rate: A. Indicates how many times the receivables were converted into cash during the year. B. Is computed by dividing average receivables by sales. C. Indicates the average number of days a business waits to make collection on a credit sale. D. Indicates the proportion of a company's accounts receivable that the independent auditors were unable to confirm.

114. The accounts receivable turnover rate for Baldwin Corporation is 8, and for Basinger Company is 10. These statistics indicate that: A. Basinger collects its accounts receivable within 10 days on average; Baldwin collects its accounts receivable in 8 days on average. B. Basinger writes off as uncollectible a greater percentage of its accounts receivable than does Baldwin Company. C. Basinger collects its accounts receivable faster than does Baldwin Company. D. Basinger makes on average 10 credit sales annually to each of its customers, while Baldwin makes 8 credit sales to each customer.

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Chapter 07 - Financial Assets

115. Available-for-sale securities are usually held for: A. Less than three months. B. Between six and eighteen months. C. Greater than one year. D. Less than one month.

116. Under the allowance method, when a receivable that had been previously written off is collected: A. Income is recognized. B. An expense is reduced. C. Profit is not affected. D. Net assets are increased.

117. Which of the following activities affects profit, but has no immediate impact upon cash flows? A. Collection of an account receivable. B. Making the end-of-period adjustment to record estimated uncollectible accounts. C. Investing excess cash in investments in securities. D. Write-off of an uncollectible account receivable against the allowance.

118. Each of the following transactions would be reflected in both the income statement and the statement of cash flows for the current period, except: A. Purchase of investments in securities for cash. B. Receipt of dividends earned on investments. C. Payment of interest on bonds. D. Sale of merchandise for cash.

119. Investments in available-for-sale securities: A. Only include investments in the share capital of publicly traded corporations. B. May be reported in the balance sheet at market values lower than cost, but never at values in excess of original cost. C. Are adjusted to current market value at the end of each accounting period. D. Are carried in the accounting records at current market values, and therefore do not generate gains or losses when sold at market values.

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120. The purpose of the mark-to-market adjustment for securities classified as "available-for-sale" is: A. To adjust the valuation of a company's investment to current market value. B. To recognize the proper amount of gain or loss on fluctuations in the market value of these securities in the current period income statement. C. To adjust a corporation's capital stock account to reflect the current market value of the outstanding capital stock. D. Both a and b are correct.

121. The mark-to-market adjustment: A. Affects both the balance sheet and the current period income statement. B. Is not made when the current market value of investments in securities is higher than original cost. C. May result in either a gain or a loss to be reported in the current period income statement. D. Represents a departure from the cost principle.

122. A Gain (or Loss) on Fair Value Changes on Investments classified as "available-for-sale" securities: A. Is reported in the asset section of the balance sheet, as an adjustment to the carrying value of the investments in securities. B. Is reported in the shareholders' equity section of the balance sheet, as either an increase or decrease in total shareholders’ equity. C. Appears in the current period income statement, combined with gains and losses from sales of securities. D. Indicates the amount of cash a company would receive if the investments in securities were sold as of the balance sheet date.

123. J. Lennon borrows a sum of money from Y. Ono. A promissory note is used to document the terms of the transaction. In this situation: A. J. Lennon is considered the maker of the note. B. J. Lennon is considered the payee of the note. C. J. Lennon records the note as an asset in his accounting records. D. The maker of the note could be either Y. Ono or J. Lennon depending on which party actually draws up the document.

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124. Anthony loaned $2,000 to Cleopatra for one year at 10% interest, all due at maturity. He insisted the terms of the transaction be formalized in a promissory note. In this situation: A. The maturity value of the note is $2,000. B. Anthony is considered the maker of the note and records the note as an asset in his accounting records. C. Anthony is considered the maker of the note and records the note as a liability in his accounting records. D. Cleopatra is considered the maker of the note and records the note as a liability in her [his] accounting records.

125. In regard to the accounts receivable turnover rate: A. The higher the better. B. The lower the better. C. In some industries it is better higher and in some industries it is better to be lower. D. The auto industry prefers a lower rate.

126. When a promissory note is issued, you would expect to find: A. Notes payable and interest expense in the financial statements of the maker of the note throughout the life of the note. B. Notes receivable and interest revenue in the financial statements of the maker of the note throughout the life of the note. C. Notes receivable in the financial statements of the maker of the note throughout the life of the note, but interest revenue only when interest payments are received. D. Notes payable in the financial statements of the payee of the note throughout the life of the note, but interest expense only when interest payments are made.

127. When the maker of a note defaults: A. An account receivable is recorded for the principal amount of the note only. B. An account receivable is recorded in the amount of the principal plus interest through the maturity date. C. Any interest earned for the current period is not recorded, since the maker has defaulted. D. Any interest earned in a previous period that has already been recorded as interest receivable is written off as a loss due to the maker's default.

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128. As of December 31, 2009, Valley Company has $16,920 cash in its checking account, as well as several other items listed below:

What amount should be shown in Valley's December 31, 2009, balance sheet as "Cash and cash equivalents"? A. $53,200. B. $70,120. C. $130,120. D. $113,200.

129. While preparing a bank reconciliation, an accountant discovered that a $426 check returned with the bank statement had been recorded erroneously in the depositor's accounting records as $462. In preparing the bank reconciliation the appropriate action to correct this error would be to: A. Add $36 to the balance per the depositor's records. B. Add $36 to the balance per the bank statement. C. Deduct $36 from the balance per the bank statement. D. Deduct $36 from the balance per the depositor's records.

130. The accounting records of Golden Company showed cash of $15,250 at June 30. The balance per the bank statement at June 30 was $15,125. The only reconciling items were deposits in transit of $3,200, outstanding checks totaling $4,100, an NSF check for $1,000 returned by the bank which Golden had not yet charged back to the customer, and a bank service charge of $25. The preparation of a bank reconciliation should indicate cash owned by Golden at June 30 in the amount of: A. $14,475. B. $15,375. C. $14,225. D. $15,525.

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131. A bank statement shows a balance of $8,445 at June 30. A bank reconciliation is prepared and includes outstanding checks of $2,790, deposits in transit of $1,350, and a bank service charge of $30. Among the paid checks returned by the bank was check no. 900 in the amount of $600, which the company had erroneously recorded in the accounting records as $60. The "adjusted cash balance" at June 30 is: A. $6,975. B. $6,465. C. $7,005. D. $7,575.

The Cash account in the ledger of Hensley Limited showed a balance of $3,100 at June 30. The bank statement, however, showed a balance of $3,900 at the same date. The only reconciling items consisted of a $700 deposit in transit, a bank service charge of $7, and a large number of outstanding checks.

132. Refer to the above data. What is the "adjusted cash balance" at June 30? A. $3,900. B. $3,093 C. $7,600 D. Some other amount.

133. Refer to the above data. What is the total amount of the outstanding checks at June 30? A. $1,513. B. $1,486. C. $1,507. D. Some other amount.

134. Refer to the above data. Upon completion of the bank reconciliation, a journal entry will be required to update the depositor's accounting records. This entry will include: A. a credit to Cash for $700. B. a debit to Cash for $700 C. a debit to Cash for $7 D. a debit to Bank Service Charge Expense for $7

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Chapter 07 - Financial Assets

The Cash account in the ledger of Clear Windows shows a balance of $12,596 at September 30. The bank statement, however, shows a balance of $16,253 at the same date. The only reconciling items consist of a bank service charge of $16, a large number of outstanding checks totaling $6,740, and a deposit in transit.

135. Refer to the above data. What is the adjusted cash balance in the September 30 bank reconciliation? A. $16,237. B. $12,580. C. $9,513. D. $5,856.

136. Refer to the above data. What is the amount of the deposit in transit? A. $5,856. B. $9,513. C. $3,067. D. $3,083.

137. Cardinal Company's bank statement showed a balance at May 31 of $180,974. The only reconciling items consisted of a large number of outstanding checks totaling $51,847. At May 31, what balance should Cardinal's Cash account show? A. $232,821 B. $129,127 C. $77,280 D. Some other amount

138. On January 1, Wong Company established a petty cash fund of $300. The journal entry to record the replenishment of the fund for $260 at the end of January includes: A. A debit to Petty Cash of $260. B. A credit to Cash of $260. C. A debit to various expenses of $40. D. No journal entry; an entry is needed only when the petty cash fund is created or discontinued.

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Chapter 07 - Financial Assets

139. Red Pine Limited established a $400 petty cash fund several months ago and replenishes it at the end of each month. During the first two weeks of March, $185 was disbursed from the petty cash box for miscellaneous items. If a surprise count of the fund is made on March 15, the petty cash box should contain: A. $400 cash. B. $215 cash. C. $215 cash left for March plus $400 cash for each month since creation of the petty cash fund. D. $215 cash and receipts for $185 in expenditures.

Kiley Company established a petty cash fund of $750 on January 1. On January 31, receipts for the following items were in the petty cash box:

140. Refer to the above data. The journal entry on January 1 to record establishment of the petty cash fund includes a: A. Credit to Cash of $750. B. Credit to Petty Cash of $750. C. Debit to Petty Cash Expense of $750. D. No journal entry is necessary, since no cash of the company has been disbursed yet.

141. Refer to the above data. The journal entry on January 31 to record replenishment of the petty cash fund includes: A. A credit to Petty Cash for $575. B. Debits to various expenses totaling $575. C. A debit to Petty Cash for $575. D. A debit to Cash for $575.

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Chapter 07 - Financial Assets

142. On January 1, Lucas established a petty cash fund of $350, which it replenishes at the end of each month. When a surprise count of the petty cash fund is made on March 5, the petty cash box contains $70 in cash and receipts for the following items:

This situation indicates: A. Approximately $210 of petty cash has been invested in cash equivalents. B. There were approximately $210 in cash disbursements made from the petty cash fund for the first two months of the year. C. The petty cash expense recognized for the month of March is approximately $210. D. There is approximately $210 of petty cash that is missing and unaccounted for at March 5.

143. Taylor Limited had accounts receivable of $310,000 and an allowance for impairment of $19,500 just before writing off as worthless an account receivable from Burton Company of $1,300. The estimated collectible amount of the accounts receivable before and after the write-off were: A. $290,500 before and $289,200 after. B. $290,500 before and $290,500 after. C. $310,000 before and $308,700 after. D. $329,500 before and $328,200 after.

144. Bert had accounts receivable of $280,000 and an allowance for impairment of $10,800 just before writing off as worthless an account receivable from Ernie Company of $1,600. After writing off this receivable what would be the balance in Bert's Allowance for Impairment? A. $10,800 credit balance. B. $12,400 credit balance. C. $9,200 credit balance. D. $9,200 debit balance.

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Chapter 07 - Financial Assets

145. At December 31, before adjusting and closing the accounts had occurred, the Allowance for Impairment of Seaboard Corporation showed a debit balance of $3,200. An aging of the accounts receivable indicated the amount probably uncollectible to be $2,100. Under these circumstances, a year-end adjusting entry for uncollectible accounts expense would include a: A. Debit to the Allowance for Impairment for $1,100. B. Credit to the Allowance for Impairment for $1,100. C. Debit to Uncollectible Accounts Expense of $2,100. D. Debit to Uncollectible Accounts Expense of $5,300.

146. Kennedy Company uses the balance sheet approach in estimating uncollectible accounts expense. The company prepares an adjusting entry to recognize this expense at the end of each month. During the month of July, the company wrote off a $3,500 receivable and made no recoveries of previous write-offs. Following the adjusting entry for July, the credit balance in the Allowance for Impairment was $3,000 larger than it was on July 1. What amount of uncollectible account expense was recorded for July? A. $2,500. B. $1,000. C. $1,500. D. $3,500.

147. Oceanside Company uses the balance sheet approach in estimating uncollectible accounts expense. It has just completed an aging analysis of accounts receivable at December 31, 2009. This analysis disclosed the following information:

What is the appropriate balance for Oceanside's Allowance for Impairment at December 31, 2009 A. $95,000. B. 2% of credit sales in 2009. C. $1,560. D. $2,160.

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148. At the start of the current year, Minuteman Corporation had a credit balance in the Allowance for Impairment of $1,800. During the year a monthly provision of 2% of sales was made for uncollectible accounts. Sales for the year were $600,000, and $5,600 of accounts receivable were written off as worthless. No recoveries of accounts previously written off were made during the year. The year-end financial statements should show: A. Uncollectible accounts expense of $13,800. B. Allowance for Impairment with a credit balance of $8,200. C. Allowance for Impairment with a credit balance of $6,400. D. Uncollectible accounts expense of $5,600.

Dynamic Limited had credit sales of $675,000 for March. Accounts receivable of $6,000 were determined to be worthless and were written off during March. Accounts receivable total $575,000 at March 31. Management feels that based on past experience, approximately 2% of net credit sales will prove to be uncollectible.

149. Refer to the above data. Assuming Dynamic Limited uses the direct write-off method of accounting for uncollectible accounts, uncollectible accounts expense for March is: A. $13,500. B. $6,000. C. $11,500. D. $17,500.

150. Refer to the above data. Assuming Dynamic Limited uses the income statement approach (an allowance method) to account for uncollectible accounts, uncollectible accounts expense for March is: A. $11,500. B. $17,500. C. $19,500. D. $13,500.

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Chapter 07 - Financial Assets

At the end of January, the unadjusted trial balance of Windsor Limited included the following accounts:

151. Refer to the above data. Windsor uses the balance sheet approach in estimating uncollectible accounts expense, and aging the accounts receivable indicates the estimated uncollectible portion to be $7,400. What is the amount of uncollectible accounts expense recognized in Windsor's income statement for January? A. $7,400. B. $6,600 C. $8,200. D. Some other amount.

152. Refer to the above data. Windsor uses the balance sheet approach in estimating uncollectible accounts expense, and aging the accounts receivable indicates the estimated uncollectible portion to be $7,400. The estimated collectible amount of Windsor's accounts receivable in the January 31 balance sheet is: A. $321,400. B. $340,000. C. $322,600. D. $347,400.

153. Refer to the above data. Windsor uses the income statement approach in estimating uncollectible accounts expense, and uncollectible accounts expense is estimated to be 2% of credit sales. What is the amount of uncollectible accounts expense recognized in Windsor's income statement for January? A. $8,000. B. $10,000. C. $8,700. D. $7,200.

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154. Refer to the above data Windsor uses the income statement approach in estimating uncollectible accounts expense, and uncollectible accounts expense is estimated to be 2% of credit sales. The estimated collectible amount of Windsor's accounts receivable in the January 31 balance sheet is: A. $332,800. B. $332,000. C. $331,200. D. Some other amount.

155. At the beginning of the year, Robert Company's Allowance for Impairment had a $3,200 credit balance. During January, a provision of 2% of sales was made for uncollectible accounts expense. During January, sales totaled $350,000, and $2,900 of accounts receivable were written off as worthless. No recoveries of accounts previously written off were made during the month. Robert's financial statements for January show: A. Allowance for Impairment with a credit balance of $10,200. B. Allowance for Impairment with a credit balance of $7,300. C. Uncollectible Accounts Expense of $9,900. D. Uncollectible Accounts Expense of $4,100.

156. Deegan Industries has an accounts receivable turnover rate of 8. Which of the following statements is not true? A. Deegan's accounts receivable are more liquid than those of a business whose accounts receivable turnover rate is 5. B. Deegan waits approximately 46 days to make collections of its credit sales. (Use 365 days in a year.) C. Deegan writes off accounts receivable as uncollectible if they are over 45 days old. D. Deegan's net credit sales are about eight times the amount of its average accounts receivable.

157. Stanley Limited's 2009 income statement reported net sales of $6,000,000, uncollectible accounts expense of $160,000, and profit of $700,000. Stanley's average accounts receivable during 2009 amounted to $1,200,000. Using 360 days to a year, Stanley's A. Accounts receivable turnover rate is approximately 4.4 times. B. Accounts receivable turnover rate is approximately 2.5 times. C. Average number of days to collect an account receivable is 72 days. D. Accounts receivable turnover rate is approximately 2 times.

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Chapter 07 - Financial Assets

158. Assuming a 365 day year, Gore Industries calculated an average of 53 days to collect its accounts receivable in 2007. During 2007, Gore's accounts receivable turnover rate: A. Was approximately 6.89. B. Was equal to 53 times its average accounts receivable. C. Was approximately 0.15. D. Can't be determined from this information alone.

159. Varsity Corporation sold available-for-sale securities costing $800,000 for $860,000 cash. This transaction is reported in Varsity's income statement and statement of cash flows, respectively, as: A. A $60,000 gain and a $60,000 cash receipt. B. A $860,000 gain and a $60,000 cash receipt. C. A $60,000 gain and a $860,000 cash receipt. D. A $860,000 gain and a $860,000 cash receipt.

160. Fisher Corporation invested $320,000 cash in available-for-sale securities in early December. On December 31, the quoted market price for these securities is $337,000. Which of the following statements is correct? A. Fisher's December income statement includes a $17,000 gain on investments. B. If Fisher sells these investments on January 2 for $300,000, it will report a loss of $37,000. C. Fisher's December 31 balance sheet reports investments in securities at $320,000 and a gain on Fair Value Changes on investments of $17,000. D. Fisher's December 31 balance sheet reports investments in securities at $337,000 and a gain on Fair Value Changes on investments of $17,000.

On October 12, 2010, Neptune Corporation invested $700,000 in short-term available-for-sale securities. The market value of this investment was $730,000 at December 31, 2010, but had slipped to $725,000 by December 31, 2011.

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161. Refer to the above data. In financial statements prepared on December 31, 2010, Neptune Corporation reports: A. The asset Investments in Securities at $700,000 with footnote disclosure of the market value of $730,000. B. The asset Investments in Securities at $730,000, and a $30,000 Gain on Fair Value Change included in total shareholders’ equity. C. The asset Investments in Securities at $730,000, and a $30,000 gain recognized in the income statement. D. The asset Investments in Securities at $700,000, and a $30,000 Gain on Fair Value Change included in total shareholders’ equity.

162. Refer to the above data. Assuming Neptune does not sell this investment, the mark-to-market adjustment necessary at December 31, 2011, includes: A. A $5,000 debit to Gain on Fair Value Changes on Investments. B. A $25,000 credit to Gain on Fair Value Changes on Investments. C. A $5,000 debit to Investments in Securities. D. A $725,000 debit to Investments in Securities.

163. Refer to the above data. Assuming Neptune does not sell this investment, the financial statements prepared at December 31, 2011 will report: A. Investments in Securities of $700,000, reduced by a $30,000 Gain on Fair Value Changes on Investments, in the asset section of the balance sheet. B. The asset Investments in Securities of $700,000 in the balance sheet, and a $25,000 Loss on Fair Value Changes on Investments in the income statement. C. The asset Investments in Securities of $725,000, and a $5,000 Loss on Fair Value Changes deducted from total shareholders’ equity. D. Investment in Securities of $725,000 in the asset section of the balance sheet, with a $25,000 Gain on Fair Value Changes on Investments included in the shareholders’ equity section.

164. If a 15%, 60-day note receivable is acquired from a customer in settlement of an existing account receivable of $5,000, the accounting entry for acquisition of the note will: A. Include a debit to Notes Receivable for $5,750. B. Include a debit to Notes Receivable for $5,062.50. C. Include a credit to Interest Revenue for $62.50. D. Include a debit to Notes Receivable for $5,000 and no entry for interest.

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165. Gold Company received a 60-day, 12% note for $8,000 on June 16. Which of the following statements is true? A. Gold will receive $8,000 plus interest of $960 at maturity. B. Gold should record a total receivable due of $8,080 on June 16. C. The principal of the note plus interest is due on August 15. D. The maturity value of this note is $8,000.

166. On November 1, Willis Corporation sold merchandise in return for a 6%, 90-day note receivable in the amount of $60,000. The proper adjusting entry at December 31 (end of Willis's fiscal year) includes a: A. Credit to Interest Revenue of $600. B. Debit to Cash of $600. C. Debit to Interest Receivable of $300. D. Credit to Notes Receivable of $900.

On June 1, 2009, Jensen Company acquired an 8%, ten-month note receivable from a customer in settlement of an existing account receivable of $130,000. Interest and principal are due at maturity.

167. Refer to the above data. The proper adjusting entry at December 31, 2009, with regard to this note receivable includes a: A. Debit to Cash of $6,067 B. Debit to Notes Receivable of $10,400. C. Credit to Interest Revenue of $10,400. D. Debit to Accrued Interest Receivable of $6,067.

168. Refer to the above data. Jensen's entry to record the collection of this note at maturity includes a: A. Credit to Accrued Interest Receivable of $6,067. B. Credit to Interest Revenue of $6,067. C. Credit to Interest Receivable of $2,600. D. Credit to Notes Receivable of $140,400.

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On November 1, 2010, Salem Corporation sold land priced at $900,000 in exchange for a 6%, six-month note receivable.

169. Refer to the above data. The journal entry made by Salem to record this transaction on November 1, 2010, includes: A. A debit to Notes Receivable of $927,000. B. A debit to Interest Receivable of $27,000. C. A credit to Interest Revenue of $27,000. D. A debit to Notes Receivable of $900,000.

170. Refer to the above data. Salem's balance sheet at December 31, 2010 includes which of the following as a result of the sale of land on November 1? A. Notes Receivable of $900,000 and Interest Receivable of $9,000. B. Notes Receivable of $927,000 and Interest Receivable of $9,000. C. Notes Receivable of $900,000 and Interest Receivable of $27,000. D. Notes Receivable of $900,000 only.

171. Refer to the above data. On May 1, 2011 (maturity date), the note is collected in full by Salem Corporation. Assuming a fiscal year-end of December 31, Salem recognizes which of the following in its income statement for 2011 with regard to this note? A. $927,000 sales revenue. B. $27,000 interest revenue. C. $18,000 interest revenue. D. $9,000 interest revenue.

172. Refer to the above data. Assuming the maker of the note defaults on May 1, 2011, Salem will record on this date: A. An account receivable of $900,000 from the maker of the note. B. An account receivable in the amount of $900,000, as well as interest expense of $27,000. C. An account receivable in the amount of $927,000, as well as interest revenue of $18,000. D. An account receivable in the amount of $900,000, as well as interest revenue of $18,000.

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Chapter 07 - Financial Assets Essay Questions

173. Accounting terminology Listed below are nine technical accounting terms emphasized in this chapter. Mark-to-market Factoring Direct write-off Financial asset Cash equivalent Bank reconciliation Allowance for impairment Accounts receivable turnover Uncollectible accounts expense Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. a. A transaction in which a business sells its accounts receivables to a financial institution. b. An estimate of the portion of year-end accounts receivable that ultimately will turn out to be uncollectible. c. Schedule explaining any differences between cash balances appearing in the accounting records and in the monthly bank statement. d. Balance sheet valuation standard applicable to investments in securities. e. Cash and assets convertible directly into known amounts of cash, such as investments in securities and receivables. f. A ratio, computed by dividing 365 days by average receivables, that indicates the liquidity of the receivables. g. Method of accounting for uncollectible receivables that fails to match revenues and expenses.

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Chapter 07 - Financial Assets

174. Internal control over cash transactions Listed below are seven errors or problems that might occur in the processing of cash transactions. Also shown is a separate list of internal control procedures. Indicate the internal control procedure that should prevent the error or problem from occurring. If none of the control procedures would effectively prevent the error, place X in the space provided. Possible Error or Problem 1. A purchase invoice was paid even though the merchandise was never received. 2. An employee issued a credit memorandum for a nonexistent sales return in order to conceal his theft of the amount received in payment of an account receivable. 3. Management is unaware that blank checks are being issued for unauthorized expenditures by the official designated to sign checks. 4. A salesclerk collects the full selling price from a customer but rings up the sale at less than actual price and pockets the difference 5. Several days' cash receipts are lost in a fire. 6. A new employee often gives customers an incorrect amount of change. 7. No one has discovered that amounts deposited in the company's bank account by the cashier over the last few years are frequently smaller than amounts forwarded to him from the mailroom or sales department. Internal Control Procedures (a.) Periodic reconciliation of bank statements to accounting records. (b.) Use of a Cash Over and Short account. (c.) Adequate subdivision of duties. (d.) Use of pre-numbered sales tickets. (e.) Depositing each day's cash receipts intact in the bank. (f.) Use of electronic cash registers equipped with optical scanners to read magnetically coded labels on merchandise. (g.) Immediate preparation of a control listing when cash is received and the comparison of this listing with bank deposits. (h.) Cancellation of paid vouchers. (i). Requirement that a voucher be prepared as advance authorization of every cash disbursement.

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Chapter 07 - Financial Assets

175. Petty cash fund E-Z Productions established a petty cash fund of $650 on January 1. On January 28, the fund was replenished for the payments made to date as shown by the following petty cash vouchers: postage, $145; telephone expense, $62.80; repairs, $79.20; office supplies, $67.20; and miscellaneous expense, $56. Prepare journal entries in general journal form to record the establishment of the fund on January 1 and its replenishment on January 28.

176. Bank reconciliation--classification Indicate how the following items would be treated in a bank reconciliation. You may choose from the following answers: (a) Deducted from the balance per accounting records. (b) Added to balance per accounting records. (c) Deducted from balance per bank statement. (d) Added to balance per bank statement.

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Chapter 07 - Financial Assets

177. Bank reconciliation--classification Indicate how the following items would be treated in Aladdin's Limited's bank reconciliation. Choose from the following answers: (a.) Deducted from the balance per accounting records. (b.) Added to balance per accounting records. (c.) Deducted from balance per bank statement. (d.) Added to balance per bank statement.

_____

_____ _____

2. 3.

_____

_____ _____ _____ _____

5. 6. 7. 8.

Items Bank service charges for printing new checks ordered by Aladdin’s Limited Deposits in transit at the end of the month. A deposit of $4,364.21 recorded in the accounting records as $4,346.21 Collection of rent from one of Aladdin’s tenants who makes payment directly to the bank. Interest earned on the average balance during the month. Checks outstanding at the end of the month. Customer checks deposited in the bank but returned as NSF. Check No. 153, which was written in the amount of $475 but recorded by the bank as $745.

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Chapter 07 - Financial Assets

178. Bank reconciliation--computation and journal entry The Cash account in the ledger of Arnaz Company showed a balance of $13,307 at March 31. The bank statement, however, showed a balance of $9,936 at the same date. The only reconciling items consisted of a $4,902 deposit in transit, a bank service charge of $36, outstanding checks totaling $2,600, and an NSF check from L.Ball, one of Arnaz' customers. (a) What is the amount of the adjusted cash balance on March 31? (b) What is the amount of the NSF check? (c) Give the journal entry necessary, if any, to adjust Arnaz Company's accounting records at March 31:

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Chapter 07 - Financial Assets

179. Bank reconciliation--computations and journal entry The Cash account in the ledger of Pine Golf Club shows a balance of $11,925 at December 31, 2009. The December 31 bank statement shows a balance of $10,440. The only reconciling items consist of: Bank service charges of $32. Deposit in transit of $1,813. NSF check from customer L. Diamond in the amount of $126. Error in recording check no. 970 for utilities: check was written in the amount of $834 but was recorded in Pine's accounting records as $384. Outstanding checks. (a) What is the amount of the adjusted cash balance at December 31, 2009? $_______________ (b) What is the total amount of outstanding checks at December 31, 2009? $_______________ (c) Give the journal entry necessary, if any, to adjust Pine's Golf Club accounting records at December 31, 2006. (An explanation is not required; a single compound journal entry is acceptable.)

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Chapter 07 - Financial Assets

180. Bank reconciliation At March 31, the balance of the Cash account according to the records of Fisher Company was $7,261. The March 31 bank statement showed a balance of $8,798. You are to prepare the bank reconciliation of Fisher Company at March 31, using the following supplementary information: (a.) Deposit in transit at March 31, $6,772. (b.) Outstanding checks: no. 120, $140; no. 121, $932; no. 127, $307; no. 134, $2,200. (c.) Service charge by bank, $50. (d.) A note receivable for $5,050 left by Fisher Company with bank for collection that had been collected and credited to company's account. No interest involved. (e.) A check for $90 drawn by a customer, Stuart Sands, but deducted from Fisher's account by the bank and returned with the notation "NSF." (f.) Fisher's check no. 480, issued in payment of $970 worth of office equipment, correctly written in the amount of $970 but erroneously recorded in Fisher's accounting records as $790.

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Chapter 07 - Financial Assets

181. Bank reconciliation (a.) You are to complete the June 30 bank reconciliation for Silver Publications using the following information:

(b.) Give in general journal form the entry or entries necessary to correct Silver's accounting records as of June 30. (Explanations may be omitted; one compound journal entry is acceptable.)

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Chapter 07 - Financial Assets

182. Balance sheet method-journal entries The general ledger controlling account for Accounts Receivable has a balance of $120,500 at year-end before adjustment. The company uses the balance sheet approach to estimate uncollectible accounts. By aging the individual customers' accounts, it was determined that the impairment amounted to $5,020. Prepare the year-end adjusting entry for uncollectible accounts under each of the following independent assumptions. (a.) Allowance for Impairment has a credit balance of $2,850. (b.) Allowance for Impairment has a debit balance of $925.

183. Balance sheet method-computations Rainbow Company uses the balance sheet approach to estimate uncollectible accounts. By aging the customers' accounts, it was estimated that $7,325 of the company's month-end accounts receivable would prove to be uncollectible. Determine the amount that should be debited to the Uncollectible Accounts Expense account in the month-end adjusting entry under each of the following independent assumptions: (a.) Before making any adjustment, the Allowance for Impairment has a $635 credit balance. $_______________ (b.) Before making any adjustment, the Allowance for Impairment has a debit balance of $720. $_______________

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Chapter 07 - Financial Assets

184. Uncollectible accounts--two methods At the end of the year the unadjusted trial balance of Angel Provisions included the following accounts:

Debit Sales (80% represent credit sales Accounts Receivable Allowance for Impairment

Credit $780,575

$101,475 $1,218

(a.) If Angel uses the balance sheet approach to estimate uncollectible accounts expense, and aging the accounts receivable indicates the estimated uncollectible portion to be $6,075, what will the uncollectible accounts expense for the year be? (b.) If the income statement approach to estimating uncollectible accounts expense is followed, and uncollectible accounts expense is estimated to be 1% of net credit sales, what is the amount of uncollectible accounts expense for the year?

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Chapter 07 - Financial Assets

185. Write-off of uncollectible account receivable On January 10, Winston, Inc.'s trial balance included the following accounts:

Debit 220,000

Accounts Receivable Allowance for Impairment

Credit $7,200

On January 11, Len Palmer, a major customer, declares bankruptcy, and Winston, determines that a receivable from Palmer in the amount of $3,400 is worthless. (a) In the space provided, show the journal entry made by Winston, to write off the account receivable from Len Palmer on January 11.

(b) Compute the estimated collectible amount of Winston's accounts receivable at each of the following dates: January 10 (before write-off of Palmer's account) $_______________ January 11 (immediately after write-off of Palmers' account) $_______________

186. Accounts receivable turnover rate During 2010, Larsen Company's accounts receivable averaged $750,000. Larsen's 2010 income statement reported net sales of $6,780,000, uncollectible accounts expense of $160,000, and net income of $768,000. (Assume 365 days in a year.) Using the information, compute the following for Larsen Company: (a) Accounts receivable turnover: (Round to the nearest two decimals.) (b) Average number of days to collect accounts receivable (round to nearest day, if necessary): (Round to the nearest %.)

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Chapter 07 - Financial Assets

187. Financial assets-effects of transactions Five events involving financial assets are described below: (a.) Sold merchandise on account. (b.) Sold available-for-sale investments in securities at a gain. Cash proceeds from the sale were equal to the current market value of the securities reflected in the last balance sheet. (c.) Collected an account receivable. (d.) Adjusted the allowance for impairment to reflect the portion of accounts receivable estimated to be uncollectible at year-end. (e.) Made mark-to-market adjustment reducing the balance in the available-for-sale investments in securities account to reflect a decrease in the market value of securities owned. Indicate the effects of each independent transaction or adjusting entry upon the financial measurements shown in the four column headings below. Use the code letters, I for increase, D for decrease, and NE for no effect.

Transaction A B C D E

Current Assets

Profits

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Net Cash Flow From Operating Actitivities

Net Cash Flow (from Any Source)

Chapter 07 - Financial Assets

188. Financial assets--effects of transactions Five events involving financial assets are described below: (a.) Received dividends earned on investment in securities. (b.) Invested excess cash in investments in securities. (c.) Determined that a specific account receivable is worthless and wrote it off against the allowance for impairment. (d.) Made sale of merchandise for cash. (e.) Sold available-for-sale securities at a loss. Cash proceeds from the sale were equal to the current market value reflected in the last balance sheet. Indicate the effects of each independent transaction or adjusting entry upon the financial measurements shown in the four column headings below. Use the code letters, I for increase, D for decrease, and NE for no effect.

Transaction A B C D E

Current Assets

Profits

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Net Cash Flow From Operating Actitivities

Net Cash Flow (from Any Source)

Chapter 07 - Financial Assets

189. At December 31, 2009, Laconia Industries' portfolio of investments in available-for-sale securities consisted of the following:

(a.) Illustrate the presentation of securities and gain (or loss) on fair value changes in Laconia's financial statements at December 31, 2009. Indicate the financial statement and section in which each item appears. (b.) Assume that on March 15, 2010, Laconia made the following sales of securities: (1) Sold 5,000 shares of its investment in Crown, Inc., at a price of $20 per share. (2) Sold 1,000 shares of its investment in Plastic Dots at a price of $45 per share. Compute the gain or loss in Laconia's 2010 income statement for each sale: (1). Sale of 5,000 shares of Crown: $____________ Gain/Loss (2). Sale of 1,000 shares of Plastic Dots: $____________ Gain/Loss (c.) At December 31, 2010, the market values of these shares are: Crown, $21 per share; Plastic Dots, $42 per share. Complete the following schedule showing cost and current market value of securities owned by Laconia at the end of 2010.

(d.) Illustrate the presentation of securities and unrealized holding gain (or loss) on fair value changes in Laconia's financial statements at December 31, 2010. (Follow same format as in part a.)

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Chapter 07 - Financial Assets

190. Notes receivable--computations Complete the following statements about promissory notes and interest by entering amounts in the spaces provided. (Use 360 days in one year.)

191. Note receivable--journal entries On September 1, 2010, Dental Equipment Corporation sold equipment priced at $350,000 in exchange for a six-month note receivable with an annual interest rate of 12%, all due at maturity. (a.) Prepare the December 31, 2010 (fiscal year-end), adjusting entry made by Dental with regard to this note receivable. (b.) Prepare the entry made by Dental on March 1, 2011(maturity date of note), to record collection of note and interest. (a)

(b) 2011 March 1 (c.) Assume that on March 1, 2011, the maker of the note defaults and Dental does not collect the note. Prepare the entry to be made to Dental on March 1, 2011, in this situation. (c) 2011 March 1

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Chapter 07 - Financial Assets

194. Cash management (a.) What is meant by the term "cash management"? (b.) Identify at least three basic objectives of effective cash management.

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Chapter 07 - Financial Assets

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Chapter 07 - Financial Assets

198. Evaluating the quality of receivables (a.) The 2010 annual report of Modern Books, a publicly traded corporation, reports accounts receivable (net of allowance for impairment), of $190,714 as of February 28, 2010. What assurance do readers of Modern Books ' annual report have that these receivables really exist and are not fictitious assets recorded to make the balance sheet "look good"? (b.) The accounts receivable turnover rate is frequently used in evaluating the liquidity of accounts receivable. How is the accounts receivable turnover rate computed? What type of information does the accounts receivable turnover rate provide?

199. Information for the Hooper Company is as follows:

Accounts receivable at March 31, 2009 Allowance for Impairment (Credit balance) Net Sales (85% on credit) for year ending 12/31/09

$9,000 $ 2,000 $100,000

(1) What is the amount of uncollectible account expense for 2009 if the company uses the Percentage of Sales method and 2% of credit sales are deemed uncollectible? (2) What is the amount of uncollectible expense if the company uses the balance sheet approach and estimates $2,200 as uncollectible in 2009? (3) What is the estimated collectible amount of accounts receivable if the company uses the balance sheet approach? (4) If the company writes-off a receivable of $450 what will be the estimated collectible amount of accounts receivable after the write off?

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Chapter 07 - Financial Assets

200. Match the following terms with the explanations below. If no term fits the explanation write none

Accounts Receivable Turnover Rate Allowance for Doubtful Accounts Cash Equivalents Direct Write Off Method

Financial Assets Investments in Securities Mark-to-Market Gain on Fair Value Changes

(1) A means of accounting for uncollectibles which does not recognize any expense until specific receivables are determined to be worthless. (2) An account showing the amount of estimated uncollectible receivables. (3) The process of estimating uncollectible accounts by classifying accounts receivables by age groups. (4) Dividing net sales by average receivables to create a ratio to measure the liquidity of accounts receivable. (5) Very short-term liquid investments which must mature within 90 days of acquisition. (6) Cash and assets convertible directly into known amounts of cash. (7) An account showing the difference between the cost of an investment in securities and its market value. (8) The value of a note at its maturity date. (9) Highly liquid investments that can be sold in organized securities exchanges.

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Chapter 07 - Financial Assets

Chapter 07 Financial Assets Answer Key

True / False Questions

1. Showing investments in securities on the balance sheet at current market values violates the consistency principle. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

2. A line of credit creates a liability for the borrower when it is granted by the bank. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

3. The first step in a bank reconciliation is to update the depositor's accounting records for any deposits-in-transit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 07 - Financial Assets

4. To "write-off" an account receivable is to reduce the balance of the customer's account to zero. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

5. The Allowance for Impairment is a contra-asset account and appears on the balance sheet. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5

6. The balance shown on a bank statement is always less than the month-end balance of a company's cash account in the general ledger. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

7. Deposits-in-transit would not appear on a company's bank reconciliation but would appear on the company's bank statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 07 - Financial Assets

8. Entries made in the general journal after preparing a bank reconciliation are called closing entries. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

9. Financial assets may be current or long-term assets. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

10. Cash equivalents include money market funds, U.S. Treasury bills and high-grade commercial paper. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

11. The term "financial asset" is synonymous with the term "cash equivalent." FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 07 - Financial Assets

12. Cash equivalents are the most liquid of assets. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

13. A credit memoranda from a bank indicates that they have decreased the depositor's cash balance. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

14. U.S. Treasury bills that mature within six months are cash equivalents. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

15. A company with more than one bank checking account should show more than one account for Cash in its balance sheet. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

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Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

17. Financial assets describe not just cash, but all assets that are easily and directly convertible into known amounts of cash, except investments in securities. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

18. Restricted cash may be available to meet the normal operating needs of a company. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

19. A compensating balance is often required by a bank as a condition for granting a loan. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

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Chapter 07 - Financial Assets

20. An unrealized gain on available-for-sale securities will increase shareholders' equity. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

21. Internal control is strengthened by a policy of making payments by check or from cash receipts or from a petty cash fund. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

22. Compensating balances are not included in the amount of cash listed on a balance sheet. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

23. In order to be classified as available-for-sale securities, the investment cannot be held for a period longer than three months. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

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Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

25. Internal control will aid in achieving accurate accounting for cash. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

26. Investments in securities includes investments in bonds and in the share capital of publicly traded corporations. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

27. The Allowance for Impairment should be listed on the balance sheet as a current liability. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5

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Chapter 07 - Financial Assets

28. Short-term investments in securities may not be reported in the balance sheet at values higher than original cost. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

29. If the allowance method is used and an account receivable that had been previously written-off is collected, income is currently recorded. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

30. The income statement approach used to estimate uncollectible receivables uses a percentage of net sales without considering the current balance in the Allowance account TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

31. The Allowance for Impairment is called a valuation account or contra-asset account and normally has a credit balance. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 07 - Financial Assets

32. When an Allowance for Impairment is used, accounts receivable are valued in the balance sheet at their estimated collectible amount. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

33. A major purpose of using an Allowance for Impairment is to recognize uncollectible accounts expense in the same accounting period as the related sales which caused the expense. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

34. A debit memoranda from a bank indicates that they have decreased your cash balance. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

35. When the direct write-off method is used to recognize uncollectible accounts expense, an Allowance for Impairment is not required. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 07 - Financial Assets

36. When doing a bank reconciliation, an NSF check will reduce the bank's balance. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

37. The lower the accounts receivable turnover rate, the longer a company must wait to collect from its credit customers. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

38. An loss on fair value changes on available-for-sale securities will reduce profit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

39. The direct write-off method is more conservative than the allowance method for valuation of receivables. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 07 - Financial Assets

40. Gains (or losses) on sales of investments in securities as well as any gains (or losses) on fair value changes on investments in available for sale securities are reported in the income statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

41. A note receivable which is not collected promptly at the maturity date should be written off the books by a debit to Accounts Receivable and a credit to Notes Receivable. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

43. Non U. S. companies can never be compared to U. S. Companies because non U. S. companies use foreign currencies. FALSE

AACSB: Diversity AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

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Chapter 07 - Financial Assets

44. Many fraudulent financial reporting schemes seek to manipulate accounts payable in order to overstate revenue and income. FALSE

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

45. It has been found that improper revenue recognition was the most common scheme in fraud-related SEC enforcement actions. TRUE

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 7

46. Management may wish to overstate a company's income because bonus plans and stock options are related to reported earnings. TRUE

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

Multiple Choice Questions

47. In order to overstate profit, a company may fraudulently: A. Capitalize operating expenses. B. Recognize revenue before it is earned. C. Both of the above. D. None of the above.

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 07 - Financial Assets

51. The Allowance for Impairment will appear on the A. Income statement B. Balance sheet C. Cash flow statement D. Statement of Changes in Equity

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

53. The mark-to-market adjustment for investments classified as "available for sale" affects: A. The balance sheet B. The income statement C. The cash flow statement D. All of the above

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 07 - Financial Assets

54. Financial assets include all of the following except A. Cash B. Investments in securities C. Inventories D. Accounts receivable

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

58. Each of these categories of assets is normally shown in the balance sheet at current value, except: A. Inventories. B. Accounts receivable. C. Short-term investments in securities. D. Cash.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 07 - Financial Assets

60. Which of the following is not considered a cash equivalent? A. US Treasury bills. B. Money market funds. C. Accounts receivable. D. High-grade commercial paper.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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Chapter 07 - Financial Assets

66. Which of the following are always listed on the balance sheet at face amount? A. Cash. B. Short-term investments. C. Receivables. D. All three of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

67. With a line of credit, a liability arises: A. As soon as the line is created. B. As soon as any money is borrowed. C. Upon repayment of the debt. D. At maturity date.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

68. Interest received is shown on which section of the statement of cash flows? A. Operating. B. Investing. C. Financing. D. Leveraging.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

7-75

Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

74. The primary purpose of a petty cash fund is: A. Accuracy. B. Convenience. C. Internal control. D. Conservatism.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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Chapter 07 - Financial Assets

75. Investments in securities are classified into three types; which one is not one of the three types? A. Available-for-sale B. Mark-to-market. C. Trading D. Held-to-maturity

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

7-78

Chapter 07 - Financial Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Chapter 07 - Financial Assets

81. An NSF check returned by the bank should be entered in the depositor's accounting records by a debit to: A. Accounts Receivable. B. An expense account. C. Cash. D. Cash Over and Short.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

94. The financial statements of Baxter Corporation include an Gain on fair value changes in Investments. This item: A. Is included in the income statement. B. Is shown as a reduction in total stockholders' equity. C. Indicates that Baxter's investments in securities have a current market value higher than cost. D. Indicate that Baxter Corporation sold investments in securities during the period at a gain.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

95. Restricted cash is: A. Not reported as an asset on the balance sheet. B. Not available for the normal operating needs of a company. C. Not legally owned by the company. D. All three of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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99. When reading a bank statement which of the following will indicate an increase in the cash balance? A. Debit Memorandum B. Credit Memorandum C. NSF Check D. Service Charge

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

104. Factoring of accounts receivables is: A. A way of selling them. B. A way of pledging them as collateral for a loan. C. A way of raising cash quickly. D. All three of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 5

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

115. Available-for-sale securities are usually held for: A. Less than three months. B. Between six and eighteen months. C. Greater than one year. D. Less than one month.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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122. A Gain (or Loss) on Fair Value Changes on Investments classified as "available-for-sale" securities: A. Is reported in the asset section of the balance sheet, as an adjustment to the carrying value of the investments in securities. B. Is reported in the shareholders’ equity section of the balance sheet, as either an increase or decrease in total shareholders’ equity. C. Appears in the current period income statement, combined with gains and losses from sales of securities. D. Indicates the amount of cash a company would receive if the investments in securities were sold as of the balance sheet date.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

128. As of December 31, 2009, Valley Company has $16,920 cash in its checking account, as well as several other items listed below:

What amount should be shown in Valley's December 31, 2009, balance sheet as "Cash and cash equivalents"? A. $53,200. B. $70,120. C. $130,120. D. $113,200. $16,920 + $1,400 + $10,000 + $40,000 + $1,800 = $70,120

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

132. Refer to the above data. What is the "adjusted cash balance" at June 30? A. $3,900. B. $3,093 C. $7,600 D. Some other amount. $3,100 - $7 = $3,093

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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133. Refer to the above data. What is the total amount of the outstanding checks at June 30? A. $1,513. B. $1,486. C. $1,507. D. Some other amount. $3,900 + $700 - $3,093 = $1,507

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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135. Refer to the above data. What is the adjusted cash balance in the September 30 bank reconciliation? A. $16,237. B. $12,580. C. $9,513. D. $5,856. $12,596 - $16 = $12,580

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

136. Refer to the above data. What is the amount of the deposit in transit? A. $5,856. B. $9,513. C. $3,067. D. $3,083. $16,253 - $6,740 + x = $12,580 X = $3,067

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

Kiley Company established a petty cash fund of $750 on January 1. On January 31, receipts for the following items were in the petty cash box:

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

What is the appropriate balance for Oceanside's Allowance for Impairment at December 31, 2009 A. $95,000. B. 2% of credit sales in 2009. C. $1,560. D. $2,160. $52,000  .01 = $520; $30,000  .02 = $600; $13,000  .08 = $1,040; total = $2,160

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

At the end of January, the unadjusted trial balance of Windsor Limited included the following accounts:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

On June 1, 2009, Jensen Company acquired an 8%, ten-month note receivable from a customer in settlement of an existing account receivable of $130,000. Interest and principal are due at maturity.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

On November 1, 2010, Salem Corporation sold land priced at $900,000 in exchange for a 6%, six-month note receivable.

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 - 7

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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To replenish the petty cash fund

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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_____

_____ _____

2. 3.

_____

_____ _____ _____ _____

5. 6. 7. 8.

A D B

1. 2. 3.

B C A D

5. 6. 7. 8.

Items Bank charges for printing new checks ordered by Aladdin’s Limited Deposits in transit at the end of the month. A deposit of $4,364.21 recorded in the accounting records as $4,346.21 Collection of rent from one of Aladdin’s tenants who makes payment directly to the bank. Interest earned on the average balance during the month. Checks outstanding at the end of the month. Customer checks deposited in the bank but returned as NSF. Check No. 153, which was written in the amount of $475 but recorded by the bank as $745.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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(a) Adjusted cash balance = $9,936 + $4,902 - $2,600 = $12,238 (b) NSF check = $13,307 - $36 - $12,238 = $1,033

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(a) Adjusted cash balance on Dec. 31, 2009: $11,317.

(b) Outstanding checks at December 31, 2009: $936. $10,440 (balance per bank statement) + $1,813 (deposit in transit) = $12,253. $12,253 - $11,317 (adjusted cash balance, from above) = $936.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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181. Bank reconciliation (a.) You are to complete the June 30 bank reconciliation for Silver Publications using the following information:

(b.) Give in general journal form the entry or entries necessary to correct Silver's accounting records as of June 30. (Explanations may be omitted; one compound journal entry is acceptable.)

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

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Uncollectible Accounts Expense Allowance for Impairment To increase the valuation account to the required level. ($5,020 - $ 2,850 = $2,170)

2,170

Uncollectible Accounts Expense Allowance for Impairment To increase the valuation account to the required level. ($5,020 + $ 925 = $5,945)

5,945

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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2,170

5,945

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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184. Uncollectible accounts--two methods At the end of the year the unadjusted trial balance of Angel Provisions included the following accounts:

Debit Sales (80% represent credit sales Accounts Receivable Allowance for Impairment

Credit $780,575

$101,475 $1,218

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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185. Write-off of uncollectible account receivable On January 10, Winston, Inc.'s trial balance included the following accounts:

Debit 220,000

Accounts Receivable Allowance for Impairment

Credit $7,200

Date 20 Jan. 11

General Journal Allowance for Impairment Accounts Receivable, Len Palmer To write off account receivable from Len Palmer

(b) Jan. 10: $220,000 - $7,200 = $212,800. Jan. 11: $216,600 - $3,800 = $212,800.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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3,400 3,400

Chapter 07 - Financial Assets

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

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187. Financial assets-effects of transactions Five events involving financial assets are described below: (a.) Sold merchandise on account. (b.) Sold available-for-sale securities at a gain. Cash proceeds from the sale were equal to the current market value of the securities reflected in the last balance sheet. (c.) Collected an account receivable. (d.) Adjusted the allowance for impairment to reflect the portion of accounts receivable estimated to be uncollectible at year-end. (e.) Made mark-to-market adjustment reducing the balance in the available-for-sale securities account to reflect a decrease in the market value of securities owned. Indicate the effects of each independent transaction or adjusting entry upon the financial measurements shown in the four column headings below. Use the code letters, I for increase, D for decrease, and NE for no effect.

Transaction A B C D E

Current Assets

Current Assets I NE NE D D

Profits

Net Cash Flow From Operating Actitivities

Net Cash Flow (from Any Source)

Profits I I NE D NE

Net Cash Flow From Operating Actitivities NE NE I NE NE

Net Cash Flow (from Any Source) NE I I NE NE

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*Note to Instructor: Exchanging investments in securities (adjusted to current market value) for an equal amount of cash has no effect upon current assets. The journal entry to record the sale, however, removes the original cost of the securities in exchange for a greater amount of cash in a gain situation. The overall effect is not evident until the mark-to-market adjustment is made at the end of the period. Therefore, you may wish to accept the answer Increase with respect to those students who analyze only the sale transaction journal entry in determining their answer.

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Transaction A B C D E

Current Assets

Profits

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Net Cash Flow From Operating Actitivities

Net Cash Flow (from Any Source)

Chapter 07 - Financial Assets

Transaction A B C D E

Current Assets I NE NE I NE*

Profits I NE NE I D

Net Cash Flow From Operating Actitivities I NE NE I NE

Net Cash Flow (from Any Source) I D NE I I

*Note to Instructor: Exchanging investments in securities (adjusted to current market value) for an equal amount of cash has no effect upon current assets. The journal entry to record the sale, however, removes the original cost of the securities in exchange for a smaller amount of cash in a loss situation. The overall effect is not evident until the mark-to-market adjustment is made at the end of the period. Therefore, you may wish to accept the answer Decrease with respect to those students who analyze only the sale transaction journal entry in determining their answer.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 4 Learning Objective: 5

189. At December 31, 2009, Laconia Industries' portfolio of investments in available-for-sale securities consisted of the following:

(d.) Illustrate the presentation of securities and gain (or loss) on fair value changes in Laconia's financial statements at December 31, 2010. (Follow same format as in part a.)

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(a)

(b)

Balance Sheet Current asset: Investments in securities (cost $350,000) $395,000 Shareholders’ equity: Gain on Fair Value Changes on investments $45,000 (1)

Sale of Crown:

$50,000 gain

$100,000 sales price - $50,000 cost = $50,000 gain (2)

(d)

Sale of Plastic Dots:

$5,000 loss

$45,000 sales price - $ 50,000 cost =

$5,000 loss

Balance Sheet Current assets: Investments in securities (cost $250,000) Shareholders’ equity Gain on Fair Value Changes on investments

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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$273,000 $ 23,000

Chapter 07 - Financial Assets

190. Notes receivable--computations Complete the following statements about promissory notes and interest by entering amounts in the spaces provided. (Use 360 days in one year.)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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192. Financial assets (a.) Briefly explain what is meant by the term "financial assets." (b.) List the three major categories of assets comprising a company's financial assets. For each category, indicate the basis for valuation in the balance sheet. (a) The term financial assets refers to cash and also those assets easily and directly convertible into known amounts of cash. (b) Financial assets are shown in the balance sheet at their current values, meaning the amounts of cash that these assets represent. The three categories of financial assets and the basis of valuation in the balance sheet are summarized below:

Cash (and cash equivalents) Short-term investments Receivables

- Face amount - Current market value (available-for-sale securities) - Estimated collectible amount

Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement

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193. Internal control over cash transactions (a.) Describe three measures contributing to strong internal control over cash receipts. (b.) Describe three measures contributing to effective internal control over cash disbursements. (a) Student may choose three of the following: Cash received through the mail should be in the form of checks, which are stamped with a restrictive endorsement immediately upon receipt. A control listing is prepared daily of checks received in the mail. One copy of this list is sent with checks to the cashier, who deposits the checks in the bank. A separate copy is sent to the accounting department, which records the amount in the accounting records. There should be daily comparisons of the amount on the control listing with the amount recorded in the accounting records and with the amount deposited by the cashier. Cash registers, with a locked in register tape, should be used to ring up cash sales. The register tape serves as a control listing for cash sales, which are recorded by the accounting department after comparison with the amount of cash turned over to the cashier for deposit in the bank. Point of sale terminals record cash sales automatically in the accounting records for comparison with cash turned over to the cashier for deposit. Use of pre-numbered sales tickets enables comparison of sales totals (from the intact series) with cash register tapes and with total cash receipts. Use of a Cash Over and Short account to highlight daily cash shortages and overages. Subdivision of duties - Employees who handle cash receipts should not have access to the accounting records, nor should they have authority to issue credit memoranda for sales returns. Departmental cash budgets provide estimates of expected cash receipts. Significant differences from budgeted amounts should be investigated. (b) Student may choose three of the following: All payments, except from petty cash, should be made by check. Every transaction requiring cash payment should be verified, approved and recorded before a check is issued. Use of a voucher system incorporates these internal control steps. Prompt reconciliation of bank statements. Adequate subdivisions of duties. Accounting personnel who verify and approve disbursements are not authorized to sign checks. Finance department personnel, who issue and sign checks, are not authorized to issue checks without supporting documentation. Use of a petty cash fund for small cash payments. Departmental cash budgets forecast monthly cash expenditures, which are compared to actual cash disbursements. Significant discrepancies are investigated.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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194. Cash management (a.) What is meant by the term "cash management"? (b.) Identify at least three basic objectives of effective cash management. (a) The term cash management refers to planning, controlling, and accounting for cash transactions and cash balances. (b) Student may choose three of the following objectives of cash management: Provide accurate accounting for cash receipts, cash disbursements, and cash balances. Prevent or minimize losses from theft or fraud. Anticipate the need for borrowing and assure the availability of adequate amounts of cash for conducting business. Prevent unnecessarily large amounts of cash from sitting idle in bank accounts that produce no revenue.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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195. Reporting cash in the balance sheet (a.) The first asset shown in the balance sheet of many companies is labeled "cash and cash equivalents." Explain the term "cash equivalent" and give two examples. Why are cash and cash equivalents listed first in the balance sheet? (b.) The December bank statement for Kowal Publishing Co. reports a balance of $13,847.59 at December 31, 2009. Kowal's accounting records, however, show a balance of $15,245.47 in the same bank account prior to preparation of the bank reconciliation. Which amount should be included in the amount of cash reported in Kowal's balance sheet at December 31, 2009? Explain your answer. (a) Cash equivalents are very short term investments that are so liquid that they are considered equivalent to cash. Examples include money market funds, U.S. Treasury bills, certificates of deposit, and commercial paper. These investments must mature within three months of acquisition. In the current asset section of the balance sheet, assets are listed in the order of their liquidity. Cash (and cash equivalents) is listed first because it is the most liquid asset owned by a business. (b) Neither the amount on the bank statement nor the balance in the accounting records is the appropriate amount to include in the balance sheet with respect to this bank account. The amount to be included in cash reported in the balance sheet is the adjusted cash balance determined in the bank reconciliation, and which usually is different from both the balance per bank statement and the balance per depositor's records.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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196. Investments in securities (a.) Explain how investments in available-for-sale securities are valued in the investor's balance sheet. (b.) Is valuation of investments in securities consistent with (1) the cost principle, and (2) the objectivity principle? (c.) What does Gain (or Loss) on Fair Value Changes on Investments represent? How is this item reported in the financial statements? (a) Short-term investments in securities appear in the balance sheet at their current market values as of the balance sheet date. The balance sheet valuation is adjusted to market value at the balance sheet date; this adjustment is termed mark-to-market. (b) (1) Mark-to-market valuation represents a departure from the cost principle, since the investment in securities is reported at current market value. (2) The mark-to-market valuation is consistent with the objectivity principle. Investments in securities are traded daily on organized securities exchanges and they can be purchased or sold immediately at quoted market prices. These market prices are the basis for the mark-to-market valuation adjustments and are both objective and readily verifiable. (c) Gain (or Loss) on Fair Value Changes on Investments represents the difference (as of the balance sheet date) between the cost and the current market value of the portfolio of securities owned.* This item is reported in the balance sheet as an element of shareholders’ equity. If the current market value of the investment in securities is higher than cost, A Gain on Fair Value Changes is added to other components of equity in determining total shareholders’ equity. If current market value of the portfolio is below cost, a Loss on Fair Value Changes is shown as a reduction in total shareholders’ equity. Gains (or Losses) on Fair Value Changes are not reported in the income statement; mark-to-market adjustments have no effect on net income. *Note to instructor: As mentioned in the text, Gains and Losses on Fair Value Changes technically are to be shown in the balance sheet net of expected future income tax effects. In this introductory course, however, the above concept is used in discussions and assignment materials.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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197. Uncollectible accounts (a.) What is an uncollectible account? Explain how a business suffers losses from uncollectible accounts. (b.) "A competent credit manager should set credit policies so as to avoid any and all losses from uncollectible accounts." Is this statement accurate? Explain your answer. (a) An uncollectible account is an account receivable that a business is unable to collect. An account receivable that has been determined to be uncollectible is no longer an asset. A business suffers a loss from an uncollectible account because it has provided services or exchanged merchandise for an asset (the account receivable) that now is worthless. The loss is in terms of cash flow but uncollectible accounts do not appear as a loss on the income statement. (b) This statement is false. If the credit manager becomes overly cautious and conservative in extending credit in order to avoid all credit losses, he or she might lose a greater amount of profitable business by rejecting many acceptable customers.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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(a) The financial statements of publicly traded corporations, such as Modern Books, are audited by CPA firms. In the annual audit of a company by a CPA firm, the independent auditors will verify, or confirm, receivables by communicating directly with the customers of the company. This confirmation process is designed to provide evidence that the customers actually exist, and that they acknowledge owing the amount of the receivable to Modern Books. The CPA firms frequently verify the credit ratings of those customers owing significant amounts. (b) The accounts receivable turnover rate is computed by dividing annual net sales (ideally net credit sales) by average accounts receivable. This accounts receivable turnover rate indicates how many times the receivables were converted into cash during the year, i.e., how many times they were collected.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

199. Information for the Hooper Company is as follows:

Accounts receivable at March 31, 2009 Allowance for Impairment (Credit balance) Net Sales (85% on credit) for year ending 12/31/09

$9,000 $ 2,000 $100,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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200. Match the following terms with the explanations below. If no term fits the explanation write none

Accounts Receivable Turnover Rate Allowance for Impairment Cash Equivalents Direct Write Off Method

Financial Assets Investments in Securities Mark-to-Market Gain on Fair Value Changes

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 4 Learning Objective: 5

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CHAPTER 7

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer for each question in the space provided. Use the following data for questions 1 and 2. At the end of the month the unadjusted trial balance of Four Star Company included the following accounts: Debit Credit Sales (75% represent credit sales) ...................................... Accounts Receivable .......................................................... Allowance for Impairment ..................................................

$1,280,000 $875,000 $10,750

Refer to the above data. If the income statement method of estimating uncollectible accounts expense is followed, and uncollectible accounts expense is estimated to be 2% of net credit sales, the estimated collectible amount of Four Star accounts receivable at the end of the month is: a $855,800. b $845,050. c $19,200 d $1,250,050

Refer to the above data. If Four Star uses the balance sheet approach in estimating uncollectible accounts, and aging the accounts receivable indicates the estimated uncollectible portion to be $24,000, the uncollectible accounts expense for the month is: a $24,000. b $13,250. c $34,750. d $10,750.

Which of the following items is reported in neither the income statement nor the statement of cash flows? a Sale of investments in securities at a loss. b Sale of investments in securities at a gain. c Adjustment of available-for-sale securities owned to current market value at balance sheet date. d Investment of excess cash in securities.

Mark-to-market is the balance sheet valuation standard for: a Investments in all financial assets. b Investments in available-for-sale securities. c Investments in capital stock of any corporation. d Shareholders’ equity of any publicly traded corporation.

Cash equivalents: a Include amounts of cash available through an unused line of credit. b Are investments in the publicly traded shares and bonds of large corporations. c Are usually included in the term “cash” in the balance sheet and the statement of cash flows. d Is another term for financial assets.

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CHAPTER 7

NAME

10-MINUTE QUIZ B

# ......... SECTION

Shown below is a partially completed bank reconciliation for Hubbard Transport at August 31, as well as additional data necessary to answer the questions that follow. HUBBARD TRANSPORT Bank Reconciliation August 31, 20__ Balance per bank statement .................................................................................. $ 17,955 Add: (1) Deduct: (2) Adjusted cash balance ............................................................................................ $ Balance per depositor’s records ............................................................................ $14,249 Add: (3) Deduct: (4) Adjusted cash balance ............................................................................................$________ Additional information a Outstanding checks: no. 729, $1,253; no. 747, $245; no. 752, $781. b Check no. 742 (for repairs) was written for $398 but erroneously recorded in Hubbard’s records as $839. c Deposits in transit, $2,254. d Note collected by the bank and credited to Hubbard’s account, $4,800. e NSF check of C. Craig, one of Hubbard’s customers, $1,525. f Bank service charge for August, $35. 1

In Hubbard’s completed bank reconciliation at August 31, what dollar amount should be deducted from the balance per bank statement (indicated by 2 above)? a $2,254. b $2,279. c $1,525. d $4,800.

In Hubbard’s completed bank reconciliation at August 31, what dollar amount should be added to the balance per depositor’s records (indicated by 3 above)? a $4,800. b $2,254. c $5,241. d $6,766.

In Hubbard’s completed bank reconciliation at August 31, what dollar amount should be deducted from the balance per depositor’s records (indicated by 4 above)? a $2,254. b $2,001. c $1,525. d $1,560.

Hubbard Transport keeps $500 cash on hand in addition to this checking account and has no other bank accounts or cash equivalents. What amount should appear as Cash in Emerald’s August 31 balance sheet? a $18,430. c $14,249. b $17,955. d Some other amount.

The necessary adjustment to Hubbard Transport’s accounting records as of August 31 includes a net: a Increase to Cash of $5,241. c Increase to Cash of $3,681. b Increase to Cash of $3,240. d Decrease to Cash of $35.

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CHAPTER 7

NAME

10-MINUTE QUIZ C 1

# ......... SECTION

You are to complete the June 30 bank reconciliation for Huang Limited using the following information: a Outstanding checks: c Deposit in transit ................... $3,300 No. 181 .............................. $350 d Note collected by bank as No. 184 .............................. $300 Huang’s agent (no No. 185 .............................. $225 interest) ................................. $2,000 b Check no. 142 (for Repair.... e NSF check of I.M. Broke ..... $250 Expense) was written for $320 f Bank service charge .............. $30 but erroneously recorded in Huang’s records as $230. Difference ............................. $90 Huang Limited Bank Reconciliation June 30, 2009

Balance per bank statement, June 30 ................................................................. Add: ________

$13,265 $

Less: ________ $_______

Adjusted balance................................................................................................. Balance per depositor’s records, June 30 ........................................................... Add:

$14,060

________ $ Less: ________ $_______

Adjusted balance (as above) ............................................................................... 2

Give in general journal form the entry or entries necessary to correct Huang’s records as of June 30. (Explanations may be omitted; one compound journal entry is acceptable.) 2009

General Journal

June 30

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Credit

Chapter 07 - Financial Assets

CHAPTER 7

NAME

10-MINUTE QUIZ D

SECTION

After aging its accounts receivable at December 31, Howland Company estimates that $68,000 of the $835,000 outstanding accounts receivable will prove uncollectible. The Allowance for Impairment has a debit balance of $6,200 prior to adjustment. In the space provided, prepare the adjusting entry required by Huey in this situation: Dec. 31

At year-end, Atkins Company applies the income statement approach in estimating uncollectible accounts expense and determines such expense to be 2% of net sales. At December 31 of the current year, accounts receivable total $600,000, and Allowance for Impairment has a credit balance of $4,200 prior to adjustment. Net sales for the current year were $2,300,000. Compute the estimated collectible amount of accounts receivable to be reported in Dewey’s December 31 balance sheet. During the year, Brown Corporation’s average accounts receivable were $316,000. The current-year income statement reported net sales of $2,010,000, uncollectible accounts expense of $118,000, and net income of $982,000. Using 365 days to a year, compute the average number of days Brown waits to collect its accounts receivable. (Round answer to the nearest day, if necessary.)

Use the following for questions 4 and 5. The Cash account in the ledger of Breen Construction shows a balance of $13,221 at September 30. The bank statement, however, shows a balance of $16,720 at the same date. The only reconciling items consist of a bank service charge of $42, outstanding checks totaling $4,744, a deposit in transit, and an error in recording check no. 529. Check no. 529 was written in the amount of $772 but was recorded as $727 in Gentle’s accounting records. 4

Refer to the above data. What is the adjusted cash balance in the September 30 bank reconciliation?

Refer to the above data. What is the amount of the deposit in transit?

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CHAPTER 7 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

In general terms, financial assets appear in the balance sheet at: a Face value. b Current value. c Cost. d Estimated future sales value.

Which of the following practices contributes to efficient cash management? a Never borrow money—maintain a cash balance sufficient to make all necessary payments. b Record all cash receipts and cash payments at the end of the month when reconciling the bank statements. c Prepare monthly forecasts of planned cash receipts, payments and anticipated cash balances up to a year in advance. d Pay each bill as soon as the invoice arrives.

Each of the following measures strengthens internal control over cash receipts except: a The use of a voucher system. b Preparation of a daily listing of all checks received through the mail. c The deposit of cash receipts intact in the bank on a daily basis. d The use of cash registers.

Use the following data for questions 4 and 5. Quinn Company’s bank statement at January 31 shows a balance of $13,360, while the account for Cash in Quinn’s ledger shows a balance of $12,890 at the same date. The only reconciling items are the following: Deposit in transit, $890. Bank service charge, $24. NSF check from customer Greg Denton in the amount of $426. Error in recording check no. 389 for rent: check was written in the amount of $1,320, but was recorded in the company’s books as $1,230. Outstanding checks, $????? 4

Refer to the above data. What is the total amount of outstanding checks at January 31? a $1,048. b $868. c $1,900. d $1,720.

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Refer to the above data. Assuming a single journal entry is made to adjust Quinn Company’s accounting records at January 31, the journal entry includes: a A debit to Rent Expense for $90. b A credit to Accounts Receivable, G. Denton, for $426. c A credit to Cash for $450. d A credit to Cash for $1,720.

Which of the following best describes the application of generally accepted accounting principles to the valuation of accounts receivable? a Recognition principle—Accounts receivable are shown at their estimated collectible amount in the balance sheet. b Matching principle—The loss due to an uncollectible account is recognized in the period in which the sale is made, not in the period in which the account receivable is determined to be worthless. c Cost principle—Accounts receivable are shown at the initial cost of the merchandise to customers, less the cost the seller must pay to cover uncollectible accounts. d Principle of conservatism—Accountants favor using the lowest reasonable estimate for the amount of uncollectible accounts shown in the balance sheet.

On January 1, Dillon Company had a $3,100 credit balance in the Allowance for Impairment. During the year, sales totaled $780,000 and $6,900 of accounts receivable were written off as uncollectible. A December 31 aging of accounts receivable indicated the amount probably uncollectible to be $5,300. (No recoveries of accounts previously written off were made during the year.) Dillon’s financial statements for the current year should include: a Uncollectible accounts expense of $9,100. b Uncollectible accounts expense of $5,300. c Allowance for Impairment with a credit balance of $1,500. d Allowance for Impairment with a credit balance of $8,400.

Under the direct write-off method of accounting for uncollectible accounts: a The current year uncollectible accounts expense is less than the expense would be under the income statement approach. b The relationship between the current period net sales and current period uncollectible accounts expense illustrates the matching principle. c The Allowance for Impairment is debited when specific accounts receivable are determined to be worthless. d Accounts receivable are not stated in the balance sheet at estimated collectible amount, but at the balance of the Accounts Receivable ledger account.

Which of the following actions is least likely to increase a company’s accounts receivable turnover? a Encouraging customers to use bank credit cards, such as Visa and MasterCard, rather than other national credit cards, such as American Express and Diner’s Club. b Offer customers larger cash discounts for making early payments. c Borrowing money, pledging accounts receivable as collateral. d Sell accounts receivable to a factor.

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On October 1, 2007, Coast Financial lent Barr Corporation $300,000, receiving in exchange a nine-month, 12% note receivable. Coast ends its fiscal year on December 31, and makes adjusting entries to accrue interest earned on all notes receivable. The interest earned on the note receivable from Barr Corporation during 2007 will amount to: a $9,000. c $27,000. b $18,000. d Some other amount.

Puget Sound Co. sold available-for-sale securities costing $80,000 for $92,000 cash. In the company’s income statement and statement of cash flows, respectively, this will appear as: a A $12,000 gain, and a $92,000 cash receipt. b A $92,000 gain, and an $8,000 cash receipt. c A $12,000 gain, and an $80,000 cash receipt. d A $92,000 sale and a $92,000 cash receipt.

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SOLUTIONS TO CHAPTER 7 10-MINUTE QUIZZES QUIZ A 1 D 2 B 3 C 4 B 5 C Learning Objective: 1, 4, 5

QUIZ B 1 B 2 C 3 D 4 A 5 C

Learning Objective: 1, 3

QUIZ C Huang Limited Bank Reconciliation June 30, 2009 Balance per bank statement, June 30 ................................................................. Add: Deposit in transit ..........................................................................

$13,265 3,300 $16,565

Less: Outstanding checks: No. 181 .............................................................................................$350 No. 184 ...............................................................................................300 No. 185 ............................................................................................. 225 Adjusted balance.................................................................................................

$(875) $15,690

Balance per depositor’s records, June 30 ........................................................... Add: Note collected by bank as our agent .........................................................

$14,060 2,000 16,060

Less: Error in recording check no. 142 ......................................................$ 90 NSF check from I. M. Broke..............................................................250 Bank service charge............................................................................ 30

(

Adjusted balance (as above) ...............................................................................

$15,690

370)

2 2009 June 30

General Journal Cash

Debit

Credit

$1,630

Repair Expense

Accounts Receivable, I.M. Broke

250

Bank Service Charges

Notes Receivable

2,000

Learning Objective: 3

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QUIZ D 1 Dec. 31

Uncollectible Accounts Expense

74,200

Allowance for Impairment

74,200

To increase allowance for impairment to $68,000.

2 $600,000 - $50,200 ([$2,300,000 x .02] + $4,200) = $549,800 3 Accounts receivable turnover: $2,010,000/$316,000 = 6.36 times Average Days to Collect 365/6.36 = 57 days 4 Adjusted cash balance $13,134. Balance per books $13,221 - $42 service charge - $45 error = $13,134 adjusted cash balance. 5 Deposit in transit: $1,158 Balance per bank statement $16,720 - $4,744 outstanding checks = $11,976. Adjusted cash balance $13,134 (from 4 above) - $11,976 = $1,158 deposit in transit.

Learning Objective: 3, 5, 7 SOLUTIONS TO CHAPTER 7 SELF-TEST QUESTIONS FROM TEXTBOOK 1 b

2 c 3 a 4 c 5 a

6 b 7 a 8 d 9 c 10 a ($300,000 x 12% x 3/12) 11 a

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Chapter 08 - Inventories and the Cost of Goods Sold

Chapter 08 Inventories and the Cost of Goods Sold True / False Questions

1. When goods for sale are not homogeneous in nature it is not necessary to use the specific cost identification method of accounting for inventory. True False

2. An advantage of the weighted average cost method of accounting for inventory is that it values the statement of financial position inventory at current replacement costs. True False

3. An advantage to the LIFO method of accounting for inventory is that it values the cost of goods sold at current replacement costs. True False

4. A write down of inventory due to obsolescence reduces the amount in the Inventory account and may increase the amount in the Cost of Goods Sold account. True False

5. Goods that has been sold but not yet recorded in the accounts should not be included in the physical inventory at year-end. True False

6. Goods sold F.O.B. destination belongs to the buyer while in transit. True False

7. In a periodic system the only account in regard to inventory that is kept up-to-date is the inventory account. True False

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Chapter 08 - Inventories and the Cost of Goods Sold

8. The inventory turnover rate is equal to the average inventory divided by the cost of goods sold. True False

9. The retail inventory method would never be used if a company uses the FIFO method. True False

10. During periods of inflation, the LIFO cost flow assumption will yield a lower inventory value than FIFO. True False

11. Any business that sells numerous units of identical products may determine its cost of goods sold using a flow assumption, rather than the specific cost identification method. True False

12. During periods of inflation the specific cost identification cost flow assumption will yield a higher cost of goods sold than LIFO. True False

13. The cost flow assumption selected by a company must correspond to the actual physical movement of the company's goods. True False

14. A perpetual inventory system eliminates the need for periodically taking a physical inventory. True False

15. Because of the consistency principle, inventory should never be written down below cost. True False

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Chapter 08 - Inventories and the Cost of Goods Sold

16. In a perpetual inventory system the flow of inventory cost is first through the statement of financial position then through the income statement. True False

17. The principle of consistency prohibits a company from changing an inventory valuation method once one is selected. True False

18. In a periodic inventory system, understating the amount of ending inventory will cause an understatement of gross profit in the current year. True False

19. In a periodic inventory system, overstating the amount of ending inventory will cause an understatement of gross profit in the following year. True False

20. If the terms of a sale are F.O.B. shipping point, the sale should not be recorded until the goods are delivered to the buyer. True False

21. Just-in-time inventory systems cannot be used in conjunction with LIFO. True False

22. Companies with perpetual inventories need not take physical inventory counts because inventory amounts are perpetually available. True False

23. The higher a company's inventory turnover rate, the higher its gross profit. True False

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Chapter 08 - Inventories and the Cost of Goods Sold

24. A clothing store would logically have a higher inventory turnover rate than would a coffee shop. True False

25. Overstating the ending inventory will result in understating the cost of good sold and overstating profits for the period. True False

Multiple Choice Questions

26. During the course of an audit of a company's financial statements, an auditor will be concerned that the company's inventory: A. Physically exists B. Is valued correctly C. Both of the above D. None of the above

27. Inventory A. Consists of all goods owned and held for sale to customers. B. Is a non-financial asset C. Both A and B D. Neither A nor B

28. The lower-of-cost-and-net-realizable-value rule may be applied by comparing the market value of the inventory to the cost of the inventory based on: A. Individual inventory items B. Major inventory categories C. The entire inventory D. Any of the three: individual inventory items, major inventory categories, or the entire inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

29. Which of the following is not considered an acceptable inventory cost method according to IFRS? A. First-in, first-out B. First-in, last-out C. Specific cost identification D. Weighted average cost

30. When prices are increasing which inventory method will produce the highest cost of goods sold? A. FIFO B. LIFO C. Weighted average cost D. Cost of goods sold will not change

31. Kent Company has used the same inventory method for many years. This is an example of which principle? A. Matching B. Realization C. Cost D. Consistency

32. Gross profit rate is equal to. A. Net sales divided by gross profit. B. Gross sales divided by gross profit. C. Gross profit divided by net sales. D. Gross profit divided by gross sales.

33. In which of these three inventory cost flow assumptions is it important to determine the actual cost of a particular inventory item being sold in order to determine cost of goods sold? A. Weighted average cost. B. FIFO. C. Specific cost identification. D. All three assumptions.

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Chapter 08 - Inventories and the Cost of Goods Sold

34. In a perpetual inventory system, two entries are normally made to record each sales transaction. The purpose of these entries is best described as follows: A. One entry recognizes the sales revenue and the other recognizes the cost of goods sold. B. One entry records the purchase of inventory and the other records the sale. C. One entry records the cost of goods sold and the other reduces the balance in the Inventory account. D. One entry updates the subsidiary ledger and the other updates the general ledger.

35. Which of the four inventory cost flow assumptions is best suited to inventories of high-priced, low-volume items? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

36. If the ending inventory is overstated in the current year: A. Profit will also be overstated in the current year. B. Next year's beginning inventory will also be overstated. C. Next year's profit will be understated. D. All three of the above statements are correct.

37. In a periodic inventory system, recording a sale on account involves debiting which of the following accounts? A. Only Accounts Receivable. B. Accounts Receivable and Inventory. C. Accounts Receivable and Cost of Goods Sold. D. Accounts Receivable, Cost of Goods Sold, and Inventory.

38. In a periodic inventory system, recording a sale on account involves crediting which of the following accounts? A. Only Sales. B. Sales and Inventory. C. Sales and Cost of Goods Sold. D. Sales, Inventory, and Cost of Goods Sold.

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Chapter 08 - Inventories and the Cost of Goods Sold

39. In a perpetual inventory system, an inventory flow assumption is used primarily for determining which costs to use in: A. Recording purchases of inventory. B. Recording the cost of goods sold. C. Recording sales revenue. D. Forecasts of future operating results.

40. Which of the four inventory cost flow assumptions transfers the most recent purchase cost to the cost of goods sold and the remaining items in inventory are valued at the oldest acquisition costs? A. LIFO B. FIFO C. Average D. Specific cost identification

41. If the beginning inventory of the current year and the ending inventory of the past year were overstated by the same amount: A. Retained earnings at the end of the current year would be correct. B. Retained earnings at the end of the current year would be overstated. C. Retained earnings at the end of the current year would be understated. D. Profit for the current year would be correct.

42. Harris Corporation's inventory of a particular product includes 200 units purchased at a per-unit cost of $50, and another 100 units purchased at a unit cost of $60. If Harris sells 10 units of this product, the cost of goods sold will be: A. $500. B. $550. C. $660. D. The answer will depend upon the inventory flow assumption in use.

43. During periods of inflation, when comparing LIFO with FIFO: A. LIFO inventory and cost of sales would be higher. B. LIFO inventory and cost of sales would be lower. C. LIFO inventory would be lower and cost of sales would be higher. D. LIFO inventory would be higher and cost of sales would be lower.

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Chapter 08 - Inventories and the Cost of Goods Sold

44. The specific cost identification method is more appropriate than a flow assumption method: A. For a large inventory of identical low-priced items. B. If each item in the inventory is unique. C. If purchase costs are rising. D. If purchase costs are falling.

45. When the LIFO costing method is in use, the seller: A. Must sell the most recently acquired units first. B. Must sell the oldest unit in inventory first. C. Assumes that the most recently acquired units are sold first. D. Assumes that the oldest units in inventory are sold first.

46. Which of the following statements is not a characteristic of the LIFO method of pricing inventory? A. During a period of rising prices, LIFO tends to minimize the amounts of income taxes owed. B. The cost of goods sold is measured in relatively current costs. C. Inventory is valued at relatively current costs. D. None of the above; these statements all describe characteristics of the LIFO method.

47. Which of the following will cause profit to be overstated for the following year? A. Current year's ending inventory is understated. B. Current year's ending inventory is overstated. C. Next year's beginning inventory is overstated. D. Next year's ending inventory is understated.

48. Which of the following methods of measuring the cost of goods sold most closely parallels the actual physical flow of the inventory? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

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Chapter 08 - Inventories and the Cost of Goods Sold

49. In a perpetual inventory system, the flow of inventory cost is: A. First through the income statement, then through the statement of financial position. B. First through the statement of financial position, then through the income statement. C. Only through the statement of financial position and not the income statement. D. Only through the income statement and not the statement of financial position.

50. Which of the following results in the cost of goods sold being stated at the most earliest acquisition costs? A. Weighted average cost. B. Specific cost identification. C. LIFO. D. FIFO.

51. Which of the following results in the inventory being stated at the most current acquisition costs? A. Specific cost identification. B. LIFO. C. FIFO. D. Weighted average cost.

52. During periods of inflation which method would yield the largest ending inventory and cost of goods sold? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

53. The write-down of inventory: A. Only affects the statement of financial position and not the income statement. B. Only affects the income statement and not the statement of financial position. C. Affects both the income statement and the statement of financial position. D. Affects neither the income statement nor the statement of financial position.

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Chapter 08 - Inventories and the Cost of Goods Sold

54. During a period of steadily falling prices, which of the following methods of measuring the cost of goods sold is likely to result in reporting the highest gross profit? A. Specific cost identification. B. Weighted average cost. C. LIFO. D. FIFO.

55. During a period of steadily falling prices, which of the following methods of measuring the cost of goods sold is likely to result in the lowest taxable income? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

56. Which of the following inventory valuation methods is only an estimate of actual costs? A. The retail method. B. The gross profit method. C. Both retail and gross profit methods are only estimations. D. Neither the retail nor the gross profit methods are estimations.

57. In a period of rising prices, a company is most likely to use the specific cost identification method of pricing inventory if: A. Each item in the inventory is unique. B. Management wants the same unit cost assigned to items sold and items remaining in inventory. C. Management's primary objective is to minimize income taxes. D. Management wants the company's income statement to indicate the highest possible amounts of gross profit and profit for the period.

58. During periods of inflation which method will yield the smallest ending inventory and the largest cost of goods sold? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

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Chapter 08 - Inventories and the Cost of Goods Sold

59. In a period of rising prices, a company is most likely to use the FIFO method of pricing inventory if: A. Each item in the inventory is unique. B. Management wants the same unit cost assigned to items sold and items remaining in inventory. C. Management's primary objective is to minimize income taxes. D. Management wants the company's income statement to indicate the highest possible amounts of gross profit and profit for the period.

60. Which of the following inventory cost flow assumptions is not in accord with the physical flow of inventory in most businesses? A. LIFO. B. FIFO. C. Specific cost identification. D. Weighted average cost.

61. A store that sells expensive custom-made jewelry is most likely to determine its cost of goods sold using: A. Specific cost identification. B. Weighted average cost. C. First-in, first-out. D. Last-in, last-out.

62. A company with a liquid inventory will have: A. A high inventory turnover and a high average number of days to sell inventory. B. A high inventory turnover and a low average number of days to sell inventory. C. A low inventory turnover and a high average number of days to sell inventory. D. A low inventory turnover and a low average number of days to sell inventory.

63. The choice of inventory valuation method can help achieve each of the following independent goals, except: A. Reduce cost of goods acquired from suppliers. B. Increase reported profit for the period. C. Increase the inventory turnover rate. D. Reduce the amount of income taxes owed.

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Chapter 08 - Inventories and the Cost of Goods Sold

64. With respect to the valuation of inventory and measurement of the cost of goods sold, the principle of consistency means that the same method should be applied: A. In successive accounting periods. B. By all companies in a given industry. C. To all products in the inventory. D. In financial statements and income tax returns.

65. In a manufacturing company, the "just-in-time" concept of inventory management is best illustrated by: A. Receiving deliveries of materials from suppliers just before the materials are used in the production process. B. Completing the manufacturing process just before the deadline established by the customer. C. An automated factory that reduces production time below that of other companies in the industry. D. Selling finished products before they go out of style.

66. The "just-in-time" concept of inventory management is best illustrated by: A. A clothing manufacturer that sells all of its finished goods before they go out of style. B. A defense contractor that completes its projects within the deadlines set by its customer (the government). C. A pharmaceutical firm that consistently brings new products to market ahead of its competitors. D. A homebuilder who has its suppliers deliver lumber and other building materials to the building site the night before these materials will be used by the company's construction crews.

67. The primary advantage of a just-in-time inventory system is: A. The amount of money tied up in inventory is minimized. B. Customers are afforded a wider selection of goods available for immediate delivery. C. The company is able to use the specific cost identification method of inventory pricing. D. The risks of losing sales opportunities or of having to shut down manufacturing operations because of inventory shortages are minimized.

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Chapter 08 - Inventories and the Cost of Goods Sold

68. The principle of consistency states that: A. Companies are prohibited from ever changing their accounting methods. B. Every company in the same industry must use the same accounting principle. C. There must be a consistent blend to the accounting principles. D. If changes in accounting principles are made, the reasons for the change and the effects on the company's profit must be disclosed.

69. From an accounting point of view, one implication of an effective just-in-time inventory system is that: A. Sales transactions must be recorded using on-line point-of-sale terminals. B. Inventories are less material in dollar amount and alternative inventory flow assumptions will produce more similar results. C. The cost of goods sold is significantly reduced. D. Purchases of inventory are recorded as cash payments are made, and sales transactions are recorded as cash is received.

70. As a result of taking an annual physical inventory, it usually is necessary in a perpetual inventory system to make an entry: A. Reducing assets and increasing the cost of goods sold. B. Reducing assets and increasing liabilities. C. Reducing the cost of goods sold. D. Increasing assets and increasing the cost of goods sold.

71. If all things are equal except one company uses weighted average cost during inflation and the other uses FIFO then: A. The weighted average cost company will have a higher inventory turnover. B. The FIFO company will have a higher inventory turnover. C. The two companies will have the same inventory turnover. D. Inventory valuation methods do not effect inventory turnover calculations.

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Chapter 08 - Inventories and the Cost of Goods Sold

72. An advocate of just-in-time inventory system would say: A. Maintain a large inventory selection for customers. B. Leave extra time in order to make inventory deadlines. C. Maintain a small inventory supply. D. Weighted average cost is preferred over FIFO.

73. The logic behind the lower-of-cost-and-net-realizable-value rule is: A. Inventory gradually becomes obsolete. B. Inventory that is unsalable should be written down to zero (or its scrap value). C. An asset is not worth more than it would cost the owner to replace it. D. An asset is not worth more than it would be sold at its net realizable value.

74. Many companies state in their annual reports that inventory is shown at the lower of its cost and net realizable value. This means that the inventory: A. Is obsolete. B. Has been written down to a carrying value below cost. C. Is shown at the lesser of cost or sales value. D. Is valued at current replacement cost or historical cost, whichever is less.

75. The lower-of-cost-and-net-realizable-value rule: A. Is used in conjunction with the other inventory cost flow assumptions. B. Cannot be used if Weighted Average Cost or FIFO is also used. C. Can be used in conjunction with Weighted Average Cost but not FIFO. D. Can only be used with the specific cost identification cost flow assumption.

76. Goods in transit between the buyer and the seller belong to: A. The seller. B. The buyer. C. The freight company. D. The answer depends upon whether the goods were shipped F.O.B. shipping point or F.O.B. destination.

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Chapter 08 - Inventories and the Cost of Goods Sold

77. In a periodic inventory system, the cost of goods sold is determined as follows: A. Year-end inventory, plus purchases during the year, less the inventory at the beginning of the year. B. Net sales, less the balance in the Gross Profit account. C. Cost of goods available for sale during the year, less the ending inventory. D. A physical count is made of all items sold throughout the year, and a cost flow assumption is applied at year-end.

78. During periods of rising prices, and being primarily concerned with tax implications, most companies would select: A. Weighted average cost. B. FIFO. C. Specific cost identification. D. The inventory valuation does not affect taxation.

79. For the purpose of delaying income taxes, during an inflationary period, which method would be best? A. Weighted average cost. B. FIFO. C. Either FIFO or weighted average cost. D. Taxes would be the same under each assumption.

80. Some companies that use a perpetual inventory system and the weighted average cost flow assumption restate their inventories at year-end to the amount indicated by periodic weighted average cost procedures. The primary reason for this adjustment is that: A. Periodic weighted average cost often results in a higher valuation of inventory, thus reducing taxable income. B. This adjustment is necessary to record shrinkage losses. C. Periodic weighted average cost often results in a lower valuation of inventory, thus reducing taxable income. D. Periodic and perpetual costing procedures produce the same results if the year-end inventory has been counted properly. No adjustment would be needed.

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Chapter 08 - Inventories and the Cost of Goods Sold

82. The CPA firm auditing Capri Corporation found that profit for the period had been overstated. Which of the following could be the cause? A. Failure to take advantage of purchase discounts by paying within the discount period. B. Overstatement of inventory at year-end. C. Use of the first-in, first-out (FIFO) method of valuing inventory in a period of rising prices. D. Failure to record payment of an account payable to a supplier on the last day of the year.

83. If an error in valuing inventory occurs in one year: A. It has no effect upon profit in the following year. B. It has no effect upon the income statement, only on the statement of financial position. C. It is self-correcting after two years. D. Retained earnings will be adversely affected until corrected.

84. Companies with periodic inventory systems often use techniques such as the gross profit method and the retail method to: A. Prepare interim financial statements without taking a complete physical inventory. B. Increase gross profit. C. Value inventory at its sales price instead of its cost. D. Reduce taxable income during a period of rising prices.

85. The inventory turnover rate provides an indication of how quickly the average quantity of inventory on hand: A. Spoils. B. Sells. C. Increases. D. Converts into cash.

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Chapter 08 - Inventories and the Cost of Goods Sold

86. Busch, Inc. is a successful company, but has a lower inventory turnover rate than the industry average. Of the following, the most likely explanation is that Busch A. Has a just-in-time inventory system. B. Uses FIFO (assume rising purchase costs). C. Offers its customers an unusually large selection of goods. D. Sells unusually popular items.

87. The gross profit method of valuing inventory: A. Is the most accurate of the commonly used methods. B. Is a satisfactory substitute for taking a physical inventory for annual financial statements. C. Assumes that the gross profit rate will remain the same for the current year as it has in the past year or so. D. Is not an acceptable method under IFRS.

88. Short-term creditors are likely to view a higher-than-average inventory turnover rate as indicating that: A. A company is in financial difficulty. B. The company is able to sell its inventory quickly. C. The company probably has an excessive amount of inventory. D. The company has a longer-than-average operating cycle.

89. Which of the following types of businesses would you expect to have the highest inventory turnover? A. An antique shop. B. An electronics store. C. A dairy store. D. A boat manufacturer.

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Chapter 08 - Inventories and the Cost of Goods Sold

Beech Soda, Inc. uses a perpetual inventory system. The company's beginning inventory of a particular product and its purchases during the month of January were as follows:

Beginning inventory (1 Jan) Purchases (11 Jan.) Purchase (20 Jan.) Total

Quantity 16 14 23 53

Unit Cost ($) 10 12 15

Total Cost ($) 160 168 345 673

On 14 January, Beech Soda, Inc. sold 25 units of this product. The other 28 units remained in inventory at 31 January. 90. Assuming that Beech Soda uses the FIFO flow assumption, the cost of goods sold to be recorded at 14 January is: A. $278. B. $268. C. $393. D. $673.

91. Assuming that Beech Soda uses the LIFO flow assumption, the cost of goods sold to be recorded at 14 January is: A. $393. B. $268. C. $278. D. $673.

92. Assuming that Beech Soda uses the weighted average cost flow assumption, the cost of goods sold to be recorded at 14 January is (round cost per unit to nearest cent): A. $317.50. B. $308.25. C. $273.25 D. $673.00.

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Chapter 08 - Inventories and the Cost of Goods Sold

93. Assuming that Beech Soda uses the FIFO flow assumption, the 28 units of this product in inventory at 31 January have a total cost of: A. $400. B. $395. C. $405. D. $410.

94. Assuming that Beech Soda uses the weighted average cost flow assumption, the 28 units of this product in inventory at 31 January have a total cost of: A. $400. B. $399.7. C. $405.5. D. $410.

At year-end, the perpetual inventory records of Anderson Co. indicate 60 units of a particular product in inventory, acquired at the following dates and unit costs: Purchased in August: 30 units at $750 per unit Purchased in November: 30 units at $700 per unit However, a complete physical inventory taken at year-end indicates only 50 units of this product actually are on hand.

95. Assuming that Anderson uses the weighted average cost flow assumption, it should record this inventory shrinkage by: A. Debiting Cost of Goods Sold $7,250. B. Crediting Cost of Goods Sold $7,500. C. Debiting Cost of Goods Sold $7,500. D. Crediting Cost of Goods Sold $7,250.

96. Assuming that Anderson uses the FIFO flow assumption, it should record this inventory shrinkage by: A. Crediting Cost of Goods Sold $7,500. B. Debiting Cost of Goods Sold $7,000. C. Crediting Cost of Goods Sold $7,000. D. Debiting Cost of Goods Sold $7,500.

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97. Under the FIFO flow assumption, the cost of these items to be included in inventory in the company's year-end statement of financial position is: A. $36,000. B. $36,500. C. $42,000. D. $37,500.

98. Under the weighted average cost flow assumption, the cost of this item to be included as inventory in the company's year-end statement of financial position is: A. $36,000. B. $42,000. C. $36,250. D. $37,500.

At the end of last year, Games-2-Use had goods costing $140,000 in inventory. During January of the current year, the company purchased goods costing $102,000, and sold goods that it had purchased at a total cost of $84,000. Games-2-Use uses a perpetual inventory system.

99. The total amount debited to the Inventory account during January was: A. $0. B. $84,000. C. $102,000. D. $140,000.

100. The balance in the Inventory account at 31 January was: A. $84,000. B. $140,000. C. $158,000. D. $242,000.

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Chapter 08 - Inventories and the Cost of Goods Sold

101. The amount of goods transferred from the Inventory account to the Cost of Goods Sold account during January was: A. $0 B. $84,000. C. $102,000. D. $56,000.

Castle TV, Inc. purchased 1,000 monitors on 5 January at a per-unit cost of $185, and another 1,000 units on 31 January at a per-unit cost of $230. In the period from 1 February through year-end, the company sold 1,800 units of this product. At year-end, 200 units remained in inventory.

102. Assume that Castle TV, Inc. uses the FIFO flow assumption. The cost of the 200 units in inventory at year-end is: A. $41,500. B. $46,000. C. $37,000. D. $83,000.

103. Assume that Castle TV, Inc. uses the weighted average cost flow assumption. The cost of the 200 units in the year-end inventory is: A. $37,000. B. $46,000. C. $41,500. D. $83,000.

104. Assume that the net realizable value of this monitor at year-end is $220 per unit. Using the FIFO flow assumption and the lower-of-cost-and-net-realizable-value rule, Castle TV should write down the carrying amount of this inventory by: A. $0. B. $1,000. C. $2,000. D. $3,000

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Chapter 08 - Inventories and the Cost of Goods Sold

105. Assume that the net realizable value of this monitor at year-end is $210 per unit. Using weighted average cost flow assumption and the lower-of-cost-and-net-realizable-value rule, the ending inventory amounts to: A. $46,000. B. $42,000. C. $37,000. D. $83,000.

106. On Saturday, 30 June, BD Pool Supplies sold goods to E. Lee on account. The sales price was $6,400, and the cost of goods sold was $5,300. The sales revenue was recorded immediately, but the entry recording the cost of goods sold was dated Monday, 2 July. As a result, profit for June was: A. Overstated by $6,400. B. Overstated by $5,300. C. Overstated by $1,100. D. Not affected, but the profit for July is understated. Harding Systems, Inc. uses a periodic inventory system. The purchases of a particular product during the year are shown below:

1 Jan 7 Feb. 10 July 25 Nov.

Beginning inventory Purchases Purchases Purchases Total

Quantity 1100 1450 1600 1000 5150

Unit Cost ($) 7.25 7.50 8.00 8.50

Total Cost ($) 7,975 10,875 12,800 8,500 40,150

At 31 December the ending inventory consisted of 1,500 units. 107. Compute the cost of the ending inventory based on the LIFO method of inventory valuation. A. $12,500. B. $27,650. C. $10,975 D. $29,175.

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108. Compute the cost of goods sold for the current year based on the LIFO method of inventory valuation. A. $12,500. B. $29,175. C. $10,975. D. $27,650

109. Compute the cost of the ending inventory based on the FIFO method of inventory valuation. A. $12,500. B. $29,175. C. $10,975. D. $27,650.

110. Compute the cost of goods sold for the current year based on the FIFO method of inventory valuation. A. $12,500. B. $29,175. C. $10,975. D. $27,650.

111. Compute the cost of the ending inventory based on the weighted average cost method of inventory valuation. (Rounded) A. $10,590. B. $11, 694. C. $29,560. D. $28,450.

112. Compute the cost of goods sold for the current year based on the weighted average cost method of inventory valuation. A. $10,590. B. $11,700. C. $29,560. D. $28,450.

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Chapter 08 - Inventories and the Cost of Goods Sold

Venus Wholesale Co. started carrying a new product in December. Purchases and sales of this product during the month were: 20 Dec 26 Dec 28 Dec

Purchased 100 units at $80 per unit Sold 80 units Purchased 100 units at $90 per unit

113. Assuming the FIFO flow assumption is in use, the perpetual inventory records will indicate an ending inventory of this product of: A. $9,800. B. $10,600. C. $10,800. D. $8,000.

114. At year-end, Venus restates the carrying value of its inventory using periodic FIFO costing procedures. Under periodic costing procedures, the FIFO cost of the inventory is: A. $9,800. B. $10,600. C. $10,800. D. $8,000.

115. For the last several years Conway Corporation has operated with a gross profit rate of 40%. On 1 January of the current year the company had on hand inventory with a cost of $600,000. Purchases of inventory during January amounted to $150,000, and sales for the month were $360,000. Using the gross profit method, what is the estimated inventory at 31 January? A. $144,000. B. $216,000. C. $360,000. D. $534,000.

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Chapter 08 - Inventories and the Cost of Goods Sold

116. During January, Sundown Corporation had sales of $300,000 and a cost of goods available for sale of $600,000. The company consistently earns a gross profit rate of 45%. Using the gross profit method, the estimated inventory at 31 January amounts to: A. $135,000. B. $435,000. C. $165,000. D. $465,000.

117. Colonial uses the retail method to estimate its monthly cost of goods sold and month-end inventory. At 31 August, the accounting records indicate the cost of goods available for sale during the month (beginning inventory plus purchases) totaled $270,000. These goods had been priced for resale at $675,000. Sales in August totaled $450,000. The estimated inventory at 31 August is: A. $48,000. B. $90,000. C. $120,000. D. $270,000.

118. Garden World uses the retail method to estimate its monthly cost of goods sold and month-end inventory. At 31 May, the accounting records indicate the cost of goods available for sale during the month (beginning inventory plus purchases) totaled $540,000. These goods had been priced for resale at $900,000. Sales in May totaled $480,000. The estimated inventory at 31 May is: A. $540,000. B. $252,000. C. $420,000. D. $288,000.

During the current year, Carl Equipment Stores had net sales of $600 million, a cost of goods sold of $500 million, average accounts receivable of $75 million, and average inventory of $50 million.

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119. Carl Equipment's inventory turnover rate is: A. 6.7 times. B. 10 times. C. 12 times. D. 1.2 times.

120. Assuming a 365-day year, the number of days required for Carl Equipment to convert its average inventory into cash is: A. 36.5. B. 73.0. C. 24.3. D. 304.2.

During the current year, Carl Equipment Stores had net sales of $500 million, a cost of goods sold of $400 million, average accounts receivable of $60 million, and average inventory of $50 million.

121. Carl Equipment's inventory turnover rate is: A. 6.7 times. B. 8 times. C. 10 times. D. 1.25 times.

122. Assuming a 365-day year, the number of days required for Carl Equipment to convert its average inventory into cash is: A. 36.5. B. 45.6. C. 54.4. D. 292.

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Midwest Office Products uses the retail method to estimate ending inventory in its monthly financial statements. The following information is available for the month ended 31 May:

Cost

Retail $300,000

Inventory, 1 May Net purchases

$137,400 $184,800

$198,000 $273,000

Goods available for sale

$322,200

$471,000

Sales

123. Determine the cost ratio that should be used in estimating the 31 May inventory using the retail method. A. 63.8%. B. 69.4% C. 66.0%. D. 68.4%.

124. Estimate the cost of the 31 May inventory using the retail method. A. $116,964. B. $137,400. C. $150,425. D. $204,000.

125. Estimate the cost of goods sold for May using the retail method. A. $137,400. B. $150,400. C. $205,236. D. $319,600.

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Chapter 08 - Inventories and the Cost of Goods Sold

Soriano Company had net sales of $300,000 for the month (after returns and allowances of $1,500 and sales discounts of $3,250). Beginning inventory for the month was $60,000; purchases for the month were $175,000; and gross profit was 43%.

126. What were the gross sales for the month? A. $129,000. B. $171,000. C. $300,000. D. $304,750.

127. What were the goods available for sale for the month? A. $129,000. B. $171,000. C. $235,000. D. $304,750.

128. What was the gross profit for the month? A. $129,000. B. $171,000. C. $235,000. D. $304,750.

129. What was the cost of goods sold for the month? A. $129,000. B. $171,000. C. $235,000. D. $304,750.

130. What was the ending inventory for the month? A. $60,000. B. $64,000. C. $129,000. D. $175,000.

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Chapter 08 - Inventories and the Cost of Goods Sold

Essay Questions

131. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter: Just-in-time Weighted average cost method LIFO method Gross profit method Inventory shrinkage FIFO method Retail method Inventory turnover Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. a. The flow assumptions in which the oldest units purchased are assumed to have remained in inventory. b. A method of estimating the cost of goods sold and ending inventory based upon cost relationships from prior periods. c. The practice of valuing inventory in the statement of financial position at expected sales prices, rather than at cost. d. An inventory flow assumption involving only one "cost layer." e. The inventory flow assumption likely to result in the highest reported amount of gross profit during a period of rising prices. f. A technique for minimizing a company's investment in inventory, particularly inventories of raw materials and finished goods. g. A measure of a company's ability to sell its inventory quickly.

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132. Inventory flow assumptions Flat TV uses a perpetual inventory system. Shown below are Flat TV's beginning inventory of a particular product and purchases during January:

1 Jan 6 Jan 25 Jan

Beginning inventory Purchases Purchases Total

Quantity 6 12 12 30

Unit Cost ($) 1,950 2,250 2,300

Total Cost ($) 11,700 27,000 27,600 66,300

On 23 January (prior to the purchase on 25 January), Flat TV sold 13 units of this product. Determine the cost of goods sold relating to the sale on 23 January under each of the following flow assumptions. (Show your computations.) (a) FIFO $__________________ (b) Weighted average cost (or moving average) $______________

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Chapter 08 - Inventories and the Cost of Goods Sold

133. Inventory flow assumptions The perpetual inventory records of Handy Hardware show 150 units of a particular product on hand, acquired at the following dates and costs: Purchase Date 10 May 1 June Total on hand

Quantity 50 100 150

Unit Cost ($) 85 100

Total Cost ($) 4,250 10,000 14,250

On 3 June, Handy sold 120 units of this product. Instructions: Prepare a journal entry to record the cost of goods sold relating to the sale on 3 June, assuming that Handy uses: (a) A FIFO flow assumption. (b) The weighted average cost (or moving average) flow assumption.

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Chapter 08 - Inventories and the Cost of Goods Sold

134. Inventory flow assumptions Arrow, Inc. uses a perpetual inventory system. On 22 January 2013, the company had 200 units of a particular product on hand, with a total cost of $2,400. The per-unit costs were: Date Ending inventory, 2009 10 Jan purchase Total on hand

Purchase Quantity 50 150 200

Unit Cost ($) 9 13

Total Cost ($) 450 1,950 2,400

On 24 January 2013, Arrow sold 65 units of this product. Using the two cost flow assumptions listed below, compute (1) the cost of goods sold, and (2) the cost of the inventory of this product on hand after this sale. Show your computations. (a) Weighted average cost method (b) FIFO

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Chapter 08 - Inventories and the Cost of Goods Sold

135. Comparison of weighted average cost and FIFO methods Company X and Company Y sell the same product. The cost of this product has been rising steadily throughout the year. Both companies reported the same profit for the year, although Company X used the first-in, first-out method of pricing inventory, while Company Y used the weighted average cost method. (a) Which company's valuation of ending inventory in the statement of financial position is more likely to approximate replacement cost? Company ______________________________ (b) Which company reports a cost of goods sold figure in the current year income statement that is more likely to reflect the replacement cost of the units sold? Company ______________________________ (c) Which company is minimizing income taxes it must pay? Company ______________________________ (d) Which company would have reported the higher profit for the year if both companies had used the same method of pricing inventory? Company ______________________________

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136. Shrinkage losses At year-end, the perpetual inventory records of James Products indicate 105 units of a particular product in inventory, acquired at the following dates and unit costs: Acquisition Date 3 May 9 Sept Total on hand

Quantity 45 60 105

Unit Cost ($) 25 39

Total Cost ($) 1,125 2,340 3,465

However, a complete physical inventory taken at year-end indicates only 93 units of this product actually are on hand. Determine the dollar amount of the shrinkage loss assuming that James uses:

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137. lower-of-cost-and-net-realizable-value Elite Systems sells a single product. At 31 December, the company's perpetual inventory records indicate 2,500 units on hand with a total cost (FIFO basis) of $155,000. The net realizable value of this product at this date is $35 per unit. Prepare journal entries to record (a) the write-down of the inventory to the lower-of-costand-net-realizable-value value at 31 December, and (b) the cash sale of 100 units on 4 January at a retail price of $50 per unit.

(a) Dec. 31 (b) Jan. 4

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138. Periodic inventory systems Funky Fashions uses a periodic inventory system. The beginning inventory of a particular product, and the purchases during the current year, were as follows: 1 Jan 15 Feb 30 June 25 Nov

Beginning inventory Purchase Purchase Purchase Total available for sale in year

400 units @ $7.00 = 1,000 units @ $7.50 = 1,400 units @ $8.00 = _1,200 units @ $8.25 = 4,000 units

$ 2,800 7,500 11,200 ___9,900 $ 31,400

At 31 December, the ending inventory of this product consisted of 1,300 units. Determine the cost of the year-end inventory and the cost of goods sold for this product under each of the following methods of inventory valuation:

(a) (b)

Weighted average cost First-in, first-out

Inventory at 31 Dec $____________ $____________

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Chapter 08 - Inventories and the Cost of Goods Sold

139. Periodic inventory systems Tres Chic uses a periodic inventory system. The beginning inventory of a particular product, and the purchases during the current year, were as follows: 1 Jan 9 Mar 11 Aug 23 Dec

Beginning inventory Purchase Purchase Purchase Total available for sale in year

1,000 units @ $14.00 = 1,050 units @ $14.50 = 950 units @ $15.00 = __500 units @ $15.75 = 3,500 units

$ 14,000 15,225 14,250 ___7,875 $ 51,350

At 31 December, the ending inventory of this product consisted of 850 units. Determine the cost of the year-end inventory and the cost of goods sold for this product under each of the following methods of inventory valuation (Rounded to 2 decimal points):

(a) (b)

Weighted average cost First-in, first-out

Inventory at 31 Dec $____________ $____________

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Chapter 08 - Inventories and the Cost of Goods Sold

140. Effects of errors in inventory valuation Show the effect, if any, of each of the following errors on ending inventory, cost of goods sold, gross profit on sales, and profit for the period by placing the appropriate symbol in each column. In use is the periodic inventory system. Use the following symbols: O = overstated, U = understated, NE = no effect. Ending Inventory (a) (b) (c) (d) (e) (f)

Ending inventory is overstated Purchases are understated Beginning inventory is overstated Net sales are overstated Beginning inventory is understated Ending inventory is understated

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Cost of Goods Sold

Gross Profit on Sales

Profit for the Period

Chapter 08 - Inventories and the Cost of Goods Sold

141. Gross profit method Horizon Company had sales of $1,750,000 during the current period and a gross profit rate of 40%. The company's cost of goods available for sale during the period was $1,400,000. The company's ending inventory must have amounted to $_______________.

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142. Gross profit method On 30 April, Greenfield Sales, Inc. lost its entire inventory in a flood. The following information is available from the company's accounting records, which were recovered from the waterproof safe: Inventory, 1 January Purchases, 1 January through 30 April Net sales, 1 January through 30 April

$325,000 $675,000 $975,000

The gross profit of Greenfield Sales, Inc. over the past several years has consistently averaged 35% of net sales. Using the gross profit method, estimate the cost of the inventory lost in the flood on 30 April.

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143. Gross profit method The Walnut Shop is a furniture company that uses a periodic inventory system. On 8 February, 2013, a fire destroyed all the furniture on display in the company's main showroom. Fortunately, $350,000 of the company's inventory was located in a separate warehouse and was not damaged by the fire. Walnut Shop now is attempting to determine the cost of the inventory destroyed in the fire from the following information: Net sales during 2013, through 8 February Ending inventory, 31 December 2012 Purchases in 2013 through 8 February Historical rate of gross profit

$4,500,000 $1,300,000 $2,250,000 45%

Compute the following (show computations): (a) The cost of goods available for sale through 8 February. (b) The cost of goods sold in 2013 through 8 February. (c) The estimated total inventory on hand 8 February, prior to the fire. (d) The cost of the inventory lost in the fire.

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Chapter 08 - Inventories and the Cost of Goods Sold

144. Retail method Omega Signs uses the retail method to estimate ending inventory in its monthly financial statements. The following information is available for the month ended 30 April: Cost Sales Inventory, 1 April Net purchases Goods available for sale

$ 3,000,000 __2,500,000 $ 5,500,000

Retail $ 7,500,000 5,000,000 __5,000,000 $10,000,000

Using the retail method: (a) Determine the cost ratio that should be used in estimating the inventory at 30 April. ___________% (b) Estimate the cost of the inventory at 30 April. $________________ (c) Estimate the cost of goods sold for April. $________________

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145. Retail method Global Office Supply uses the retail method to estimate ending inventory in its monthly financial statements. The following information is available for the month ended 31 July:

Cost Sales Inventory, 1 July Net purchases Goods available for sale

$ 274,800 __369,600 $ 644,400

Retail $ 600,000 396,000 __546,000 $942,000

Using the retail method: (a) Determine the cost ratio that should be used in estimating the inventory at 31 July. ___________% (b) Estimate the cost of the inventory at 31 July. $________________ (c) Estimate the cost of goods sold for July. $________________

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146. Inventory turnover In the spaces provided, indicate the likely effect of each of the following events or strategies upon the inventory turnover rate in the coming period. Use the following code letters: I for Increase, D for Decrease, NE for No Effect and U for Uncertain. (a) Reduced sales prices in order to increase sales volume._______ (b) Ordered substantially larger amounts of goods in order to receive a volume discount from the supplier._______ (c) Switched from the weighted average cost flow assumptions to LIFO during a period of rising prices. _______ (d) Placed salesclerks on commission, rather than a fixed monthly salary. _______ (e) Decided to offer customers a wider selection of goods available for immediate delivery. _______

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147. Inventory turnover In the spaces provided, indicate the likely effect of each of the following events or strategies upon the inventory turnover rate. Use the following code letters: I for Increase, D for Decrease, NE for No Effect and U for Uncertain.. (a) Switched from the LIFO flow assumption to FIFO during a period of rising prices. _____ (b) Dramatically increased advertising expense. ______ (c) Increased the sales price of goods that is so popular it is difficult to keep in stock. ______ (d) Implemented internal control procedures to reduce a serious inventory shrinkage problem. ______ e) Switched from a restrictive credit policy to offering liberal terms to credit customers. ______

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Chapter 08 - Inventories and the Cost of Goods Sold

149. Retail method Many large retailers take a physical inventory near year-end and state in their annual report that inventory has been valued by the "retail method." What does this mean? (Your answer should address [1] whether inventory is valued in the financial statements at cost or retail prices, and [2] how this dollar amount is determined.)

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Chapter 08 - Inventories and the Cost of Goods Sold

150. The Valley Garden Company had the following transactions: 1 July 7 9

Purchased inventory on credit for $3,600 Purchased inventory for cash for $6,300 Sold inventory costing $7,050 for $11,250 on credit

(A) Prepare journal entries for Valley Garden assuming the Company uses the gross profit method when accounting for purchases and a perpetual inventory. (B) Prepare journal entries for Valley Garden assuming the Company uses the gross profit method and a periodic inventory.

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Chapter 08 - Inventories and the Cost of Goods Sold

151. The Multi-Tech uses the gross profit method to estimate inventories. Fill in the missing amounts.

Multiple Choice Questions

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Chapter 08 - Inventories and the Cost of Goods Sold

152. The primary purpose of an inventory flow assumption is to: A. Increase inventory turnover. B. Increase gross profit. C. Determine which unit costs are assigned to inventory and which are assigned to the cost of goods sold. D. Minimize taxable income during periods of rising prices.

153. During a period of steadily rising prices, which of the following inventory valuation methods is likely to result in the lowest cost of goods sold? A. Weighted average cost. B. FIFO. C. The retail method. D. The gross profit method.

154. Which of the following is not considered an acceptable inventory cost method according to IFRS? A. First-in, first-out. B. Last-in, last-out. C. Specific cost identification. D. Weighted average cost..

155. In a periodic inventory system, the cost of goods sold is determined by: A. Multiplying net sales for the period by a cost ratio. B. Journal entries made at the time of each sales transaction. C. Physically counting the quantities of goods sold each day, and determining the cost of these items at year-end. D. Subtracting the cost assigned to the ending inventory from the cost of goods available for sale during the period.

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Chapter 08 - Inventories and the Cost of Goods Sold

156. Salerno Co. has an inventory turnover rate of 7 and an accounts receivable turnover rate of 5. Assuming 365 days in a year, the period of time required for Salerno to convert its inventory into cash through normal business operations is approximately: A. 21 days. B. 52 days. C. 4 months. D. 2.5 months.

Ace Systems, Inc. uses a perpetual inventory system. The company’s beginning inventory of a particular product and its purchases during the month of January were as follows:

Beginning inventory (1 Jan.) Purchase (15 Jan.) Purchase (23 Jan.) Total

Quantity Unit Cost Total Cost 10 ........... $27.50 $275 15............. $28.00 $420 5.............. $29.00 $145 30 $840

On 28 January, Ace Systems sells 18 units (10 units from beginning inventory, 4 units from 15 Jan purchase, and 4 units from 23 Jan purchase) of this product. The other 12 units remain in inventory at 31 January.

157. Assuming that Ace Systems uses the weighted average cost flow assumption, the cost of goods sold to be recorded at 28 January is: A. $504. B. $336. C. $499. D. Some other amount.

158. Assuming that Ace Systems uses the specific cost identification method, the cost of goods sold on 28 January is: A. $331. B. $509. C. $499. D. Some other amount.

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Chapter 08 - Inventories and the Cost of Goods Sold

159. Assuming that Ace Systems uses the FIFO flow assumption, the cost of goods sold on 28 January is: A. $509. B. $341. C. $499. D. Some other amount.

160. Assuming that Ace Systems uses the weighted average cost flow assumption, the 12 units of this product in inventory at 31 January have a total cost of: A. $499. B. $336. C. $509. D. Some other amount.

161. Assuming that Ace Systems uses the FIFO flow assumption, the 12 units of this product in inventory at 31 January have a total cost of: A. $341 B. $509. C. $499. D. Some other amount.

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Chapter 08 - Inventories and the Cost of Goods Sold

Canfield uses a perpetual inventory system. The company’s beginning inventory of a particular product and its purchases during the month of January were as follows: Beginning inventory (1 Jan.) .................................................. Purchase (10 Jan.) ................................................................... Purchase (22 Jan.) ................................................................... Total ............................................................................

Quantity 50 25 25 100

Unit Cost Total Cost $6 $300 $7 $175 $8 $200 $675

On 25 January, Canfield sells 55 units (50 units from beginning inventory, and 5 units from 22 Jan purchase) of this product. The other 45 units remain in inventory at 31 January. 162 Determine the cost of goods sold using each of the following valuation methods: (1) Specific cost identification

$_____________

(2) FIFO

$_____________

(3) Weighted average cost

$_____________

163 Determine the cost of the 45 units in inventory at 31 January using each of the following valuation methods: (1) Specific cost identification

$_____________

(2) FIFO

$_____________

(3) Weighted average cost

$_____________

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Chapter 08 - Inventories and the Cost of Goods Sold

164. Sherman Electric uses a periodic inventory system. The beginning inventory of a particular product, and the purchases during the current year, were as follows: 1 Jan. Beginning inventory .............................. 8 Mar. Purchase................................................. 11 Aug. Purchase................................................. 23 Oct. Purchase ................................................ Total available for sale ............................................

60 units @ 30 units @ 90 units @ 20 units @ 200 units

$105 = $115 = $125 = $135 =

$ 6,300 3,450 11,250 2,700 $23,700

At 31 December, the ending inventory of this product consisted of 65 units. Using periodic costing procedures, determine (1) cost of the year-end inventory and, (2) cost of goods sold relating to this product under each of the following flow assumptions: (1) Inventory at 31 Dec.

(2) Cost of Goods Sold

Weighted average cost

$_______________

First-in, first-out

$_______________

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Chapter 08 - Inventories and the Cost of Goods Sold

Chapter 08 Inventories and the Cost of Goods Sold Answer Key

True / False Questions

1. When goods for sale are not homogeneous in nature it is not necessary to use the specific cost identification method of accounting for inventory. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

2. An advantage of the weighted average cost method of accounting for inventory is that it values the statement of financial position inventory at current replacement costs. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

3. An advantage to the LIFO method of accounting for inventory is that it values the cost of goods sold at current replacement costs. TRUE

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Chapter 08 - Inventories and the Cost of Goods Sold

4. A write down of inventory due to obsolescence reduces the amount in the Inventory account and may increase the amount in the Cost of Goods Sold account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-03 Record shrinkage losses and other year-end adjustments to inventory. Topic: Taking a Physical Inventory

5. Goods that has been sold but not yet recorded in the accounts should not be included in the physical inventory at year-end. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory

6. Goods sold F.O.B. destination belongs to the buyer while in transit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 08-03 Record shrinkage losses and other year-end adjustments to inventory. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

7. In a periodic system the only account in regard to inventory that is kept up-to-date is the inventory account. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Topic: Taking a Physical Inventory

8. The inventory turnover rate is equal to the average inventory divided by the cost of goods sold. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-07 Compute the inventory turnover and explain its uses. Topic: Financial Analysis and Decision Making

9. The retail inventory method would never be used if a company uses the FIFO method. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-06 Estimate the cost of goods sold and ending inventory by the gross profit method and by the retail method. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

10. During periods of inflation, the LIFO cost flow assumption will yield a lower inventory value than FIFO. TRUE

11. Any business that sells numerous units of identical products may determine its cost of goods sold using a flow assumption, rather than the specific cost identification method. TRUE

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Chapter 08 - Inventories and the Cost of Goods Sold

12. During periods of inflation the specific cost identification cost flow assumption will yield a higher cost of goods sold than LIFO. FALSE

13. The cost flow assumption selected by a company must correspond to the actual physical movement of the company's goods. FALSE

14. A perpetual inventory system eliminates the need for periodically taking a physical inventory. FALSE

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Chapter 08 - Inventories and the Cost of Goods Sold

15. Because of the consistency principle, inventory should never be written down below cost. FALSE

16. In a perpetual inventory system the flow of inventory cost is first through the statement of financial position then through the income statement. TRUE

17. The principle of consistency prohibits a company from changing an inventory valuation method once one is selected. FALSE

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Chapter 08 - Inventories and the Cost of Goods Sold

18. In a periodic inventory system, understating the amount of ending inventory will cause an understatement of gross profit in the current year. TRUE AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Topic: Taking a Physical Inventory

19. In a periodic inventory system, overstating the amount of ending inventory will cause an understatement of gross profit in the following year. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Topic: Taking a Physical Inventory

20. If the terms of a sale are F.O.B. shipping point, the sale should not be recorded until the goods are delivered to the buyer. FALSE

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21. Just-in-time inventory systems cannot be used in conjunction with LIFO. FALSE

22. Companies with perpetual inventories need not take physical inventory counts because inventory amounts are perpetually available. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-02 Explain the need for taking a physical inventory. Topic: Taking a Physical Inventory

23. The higher a company's inventory turnover rate, the higher its gross profit. FALSE

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Chapter 08 - Inventories and the Cost of Goods Sold

24. A clothing store would logically have a higher inventory turnover rate than would a coffee shop. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-07 Compute the inventory turnover and explain its uses. Topic: Financial Analysis and Decision Making

25. Overstating the ending inventory will result in understating the cost of good sold and overstating profits for the period. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory

Multiple Choice Questions

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Chapter 08 - Inventories and the Cost of Goods Sold

27. Inventory A. Consists of all goods owned and held for sale to customers. B. Is a non-financial asset C. Both A and B D. Neither A nor B

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

30. When prices are increasing which inventory method will produce the highest cost of goods sold? A. FIFO B. LIFO C. Weighted average cost D. Cost of goods sold will not change

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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Chapter 08 - Inventories and the Cost of Goods Sold

31. Kent Company has used the same inventory method for many years. This is an example of which principle? A. Matching B. Realization C. Cost D. Consistency

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

32. Gross profit rate is equal to. A. Net sales divided by gross profit. B. Gross sales divided by gross profit. C. Gross profit divided by net sales. D. Gross profit divided by gross sales.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 08-06 Estimate the cost of goods sold and ending inventory by the gross profit method and by the retail method. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

35. Which of the four inventory cost flow assumptions is best suited to inventories of high-priced, low-volume items? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

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Chapter 08 - Inventories and the Cost of Goods Sold

8-68

Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

8-69

Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

50. Which of the following results in the cost of goods sold being stated at the most earliest acquisition costs? A. Weighted average cost. B. Specific cost identification. C. LIFO. D. FIFO.

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Chapter 08 - Inventories and the Cost of Goods Sold

51. Which of the following results in the inventory being stated at the most current acquisition costs? A. Specific cost identification. B. LIFO. C. FIFO. D. Weighted average cost.

52. During periods of inflation which method would yield the largest ending inventory and cost of goods sold? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

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Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

58. During periods of inflation which method will yield the smallest ending inventory and the largest cost of goods sold? A. LIFO. B. FIFO. C. Weighted average cost. D. Specific cost identification.

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Chapter 08 - Inventories and the Cost of Goods Sold

8-77

Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

8-79

Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Risk Analysis Bloom's: Understand Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

8-80

Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

75. The lower-of-cost- and-net-realizable-value rule: A. Is used in conjunction with the other inventory cost flow assumptions. B. Cannot be used if Weighted Average Cost or FIFO is also used. C. Can be used in conjunction with Weighted Average Cost but not FIFO. D. Can only be used with the specific cost identification cost flow assumption.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory

8-84

Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

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Chapter 08 - Inventories and the Cost of Goods Sold

81. If the inventory at the end of the current year is understated and the error is never caught, the effect is to: A. Understate profit this year and overstate profit next year. B. Overstate profit this year and understate profit next year. C. Understate profit this year with no effect on profit next year. D. Overstate the cost of goods sold, but have no effect on profit. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

85. The inventory turnover rate provides an indication of how quickly the average quantity of inventory on hand: A. Spoils. B. Sells. C. Increases. D. Converts into cash.

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Chapter 08 - Inventories and the Cost of Goods Sold

89. Which of the following types of businesses would you expect to have the highest inventory turnover? A. An antique shop. B. An electronics store. C. A dairy store. D. A boat manufacturer.

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 08-07 Compute the inventory turnover and explain its uses. Topic: Financial Analysis and Decision Making

8-89

Chapter 08 - Inventories and the Cost of Goods Sold

Beech Soda, Inc. uses a perpetual inventory system. The company's beginning inventory of a particular product and its purchases during the month of January were as follows:

Beginning inventory (1 Jan) Purchases (11 Jan.) Purchase (20 Jan.) Total

Quantity 16 14 23 53

Unit Cost ($) 10 12 15

Total Cost ($) 160 168 345 673

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Chapter 08 - Inventories and the Cost of Goods Sold

91. Assuming that Beech Soda uses the LIFO flow assumption, the cost of goods sold to be recorded at 14 January is: A. $393. B. $268. C. $278. D. $673. (14  $12) + (11  $10) = $278

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Chapter 08 - Inventories and the Cost of Goods Sold

93. Assuming that Beech Soda uses the FIFO flow assumption, the 28 units of this product in inventory at 31 January have a total cost of: A. $400. B. $395. C. $405. D. $410. $673 - $268 = $405

94. Assuming that Beech Soda uses the weighted average cost flow assumption, the 28 units of this product in inventory at 31 January have a total cost of: A. $400. B. $399.7. C. $405.5. D. $410. ($328/30)  5 + (23  $15) = $399.7 or $673 -273.3 = $399.7 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

8-92

Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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Chapter 08 - Inventories and the Cost of Goods Sold

97. Under the FIFO flow assumption, the cost of these items to be included in inventory in the company's year-end statement of financial position is: A. $36,000. B. $36,500. C. $42,000. D. $37,500. (20  $750) + (30  $700) = $36,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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Chapter 08 - Inventories and the Cost of Goods Sold

99. The total amount debited to the Inventory account during January was: A. $0. B. $84,000. C. $102,000. D. $140,000.

100. The balance in the Inventory account at 31 January was: A. $84,000. B. $140,000. C. $158,000. D. $242,000.

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Chapter 08 - Inventories and the Cost of Goods Sold

101. The amount of goods transferred from the Inventory account to the Cost of Goods Sold account during January was: A. $0 B. $84,000. C. $102,000. D. $56,000.

102. Assume that Castle TV, Inc. uses the FIFO flow assumption. The cost of the 200 units in inventory at year-end is: A. $41,500. B. $46,000. C. $37,000. D. $83,000. 200  $230 = $46,000

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Chapter 08 - Inventories and the Cost of Goods Sold

103. Assume that Castle TV, Inc. uses the weighted average cost flow assumption. The cost of the 200 units in the year-end inventory is: A. $37,000. B. $46,000. C. $41,500. D. $83,000 (1000  $185 + 1000  $230) / 2000  200 = $41,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 4, 5

8-97

Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-05 Explain the effects on the income statement of errors in inventory valuation. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

Harding Systems, Inc. uses a periodic inventory system. The purchases of a particular product during the year are shown below:

1 Jan 7 Feb. 10 July 25 Nov.

Beginning inventory Purchases Purchases Purchases Total

Quantity 1100 1450 1600 1000 5150

Unit Cost ($) 7.25 7.50 8.00 8.50

Total Cost ($) 7,975 10,875 12,800 8,500 40,150

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

108. Compute the cost of goods sold for the current year based on the LIFO method of inventory valuation. A. $12,500. B. $29,175. C. $10,975. D. $27,650 $40,150 - $10,975 = $29,175

109. Compute the cost of the ending inventory based on the FIFO method of inventory valuation. A. $12,500. B. $29,175. C. $10,975. D. $27,650. (1,000  $8.50) + (500  $8) = $12,500

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Chapter 08 - Inventories and the Cost of Goods Sold

110. Compute the cost of goods sold for the current year based on the FIFO method of inventory valuation. A. $12,500. B. $29,175. C. $10,975. D. $27,650. $40,150 - $12,500 = $27,650

111. Compute the cost of the ending inventory based on the weighted average cost method of inventory valuation. (Rounded) A. $10,590. B. $11,694. C. $29,560. D. $28,450. ($40,150/5,150)  1,500 = $11,694

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Chapter 08 - Inventories and the Cost of Goods Sold

112. Compute the cost of goods sold for the current year based on the weighted average cost method of inventory valuation. A. $10,590. B. $11,700. C. $29,560. D. $28,450. $40,150 - $11,700 = $28,450

Venus Wholesale Co. started carrying a new product in December. Purchases and sales of this product during the month were: 20 Dec 26 Dec 28 Dec

Purchased 100 units at $80 per unit Sold 80 units Purchased 100 units at $90 per unit

113. Assuming the FIFO flow assumption is in use, the perpetual inventory records will indicate an ending inventory of this product of: A. $9,800. B. $10,600. C. $10,800. D. $8,000. (20  $80) + (100  $90) = $10,600

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Chapter 08 - Inventories and the Cost of Goods Sold

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-06 Estimate the cost of goods sold and ending inventory by the gross profit method and by the retail method. Topic: Taking a Physical Inventory

8-103

Chapter 08 - Inventories and the Cost of Goods Sold

8-104

Chapter 08 - Inventories and the Cost of Goods Sold

During the current year, Carl Equipment Stores had net sales of $600 million, a cost of goods sold of $500 million, average accounts receivable of $75 million, and average inventory of $50 million.

119. Carl Equipment 's inventory turnover rate is: A. 6.7 times. B. 10 times. C. 12 times. D. 1.2 times. $500,000,000 / $50,000,000 = 10

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-07 Compute the inventory turnover and explain its uses. Topic: Financial Analysis and Decision Making

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Chapter 08 - Inventories and the Cost of Goods Sold

120. Assuming a 365-day year, the number of days required for Carl Equipment to convert its average inventory into cash is: A. 36.5. B. 73.0. C. 24.3. D. 304.2. 365/10 = 36.5

During the current year, Carl Equipment Stores had net sales of $500 million, a cost of goods sold of $400 million, average accounts receivable of $60 million, and average inventory of $50 million.

121. Carl Equipment's inventory turnover rate is: A. 6.7 times. B. 8 times. C. 10 times. D. 1.25 times. $400,000,000/$50,000,000 = 8

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Chapter 08 - Inventories and the Cost of Goods Sold

122. Assuming a 365-day year, the number of days required for Carl Equipment to convert its average inventory into cash is: A. 36.5. B. 45.6. C. 54.4. D. 292. 365/8 = 45.6

Midwest Office Products uses the retail method to estimate ending inventory in its monthly financial statements. The following information is available for the month ended 31 May: Cost

Retail $300,000

Inventory, 1 May Net purchases

$137,400 $184,800

$198,000 $273,000

Goods available for sale

$322,200

$471,000

Sales

123. Determine the cost ratio that should be used in estimating the 31 May inventory using the retail method. A. 63.8%. B. 69.4% C. 66.0%. D. 68.4%. $322,200/$471,000 = 68.4%

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Chapter 08 - Inventories and the Cost of Goods Sold

124. Estimate the cost of the 31 May inventory using the retail method. A. $116,964. B. $137,400. C. $150,425. D. $204,000. ($471,000 - $300,000) x 68.4% = $116,964

125. Estimate the cost of goods sold for May using the retail method. A. $137,400. B. $150,400. C. $205,236. D. $319,600. $322,200 - $116,964 = $205,236

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126. What were the gross sales for the month? A. $129,000. B. $171,000. C. $300,000. D. $304,750. $300,000 + $1,500 + $3,250 = $304,750

127. What were the goods available for sale for the month? A. $129,000. B. $171,000. C. $235,000. D. $304,750. $60,000 + $175,000 = $235,000

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Chapter 08 - Inventories and the Cost of Goods Sold

128. What was the gross profit for the month? A. $129,000. B. $171,000. C. $235,000. D. $304,750. $300,000 x 43% = $129,000

129. What was the cost of goods sold for the month? A. $129,000. B. $171,000. C. $235,000. D. $304,750. $300,000 - $129,000 = $171,000

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130. What was the ending inventory for the month? A. $60,000. B. $64,000. C. $129,000. D. $175,000. $235,000 - X = $171,000; X = $64,000

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Essay Questions

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. a. The flow assumptions in which the oldest units purchased are assumed to have remained in inventory. b. A method of estimating the cost of goods sold and ending inventory based upon cost relationships from prior periods. c. The practice of valuing inventory in the statement of financial position at expected sales prices, rather than at cost. d. An inventory flow assumption involving only one "cost layer." e. The inventory flow assumption likely to result in the highest reported amount of gross profit during a period of rising prices. f. A technique for minimizing a company's investment in inventory, particularly inventories of raw materials and finished goods. g. A measure of a company's ability to sell its inventory quickly. (a) LIFO method, (b) Gross profit method, (c) None, (d) Weighted average cost method, (e) FIFO method, (f) Just-in-time, (g) Inventory turnover

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 08-07 Compute the inventory turnover and explain its uses. Topic: Inventories

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132. Inventory flow assumptions Flat TV uses a perpetual inventory system. Shown below are Flat TV's beginning inventory of a particular product and purchases during January:

1 Jan 6 Jan 25 Jan

Beginning inventory Purchases Purchases Total

Quantity 6 12 12 30

Unit Cost ($) 1,950 2,250 2,300

Total Cost ($) 11,700 27,000 27,600 66,300

(a) $27,450 (6 x $1,950 + 7 x $2,250) (b) $27,950 (13 x ($11,700 +$27,000) / 18) AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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Quantity 50 100 150

Unit Cost ($) 85 100

Total Cost ($) 4,250 10,000 14,250

Date 3 June (a)

(b)

Cost of Goods Sold Inventory To record cost of units sold using FIFO: (50 x $85) + (70 x $100)

11,250

Cost of Goods Sold Inventory To record cost of units sold using weighted average cost method: ($14,250 / 150 units) = $95 per unit

11,400

11,250

11,400

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Purchase Quantity 50 150 200

Unit Cost ($) 9 13

Total Cost ($) 450 1,950 2,400

(a) Weighted average cost method (1) Cost of goods sold: $ 780 (65 units @ ($2400/200)) (2) Inventory remaining after sale: $ 1,620 ($2,400 - $ 780) (b) FIFO (1) Cost of goods sold: $ 645 (50 units @ 9 ) + (15 units @ 13 ) (2) Inventory remaining after s sale: $ 1,755 ($2,400 - $ 645)

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(a) Company X (FIFO method). (b) Company Y (weighted average cost method). (c) Company Y (weighted average cost method). (d) Company Y

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Evaluate Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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Quantity 45 60 105

Unit Cost ($) 25 39

Total Cost ($) 1,125 2,340 3,465

However, a complete physical inventory taken at year-end indicates only 93 units of this product actually are on hand. Determine the dollar amount of the shrinkage loss assuming that James uses:

(a) $396 ( $3,465 / 105 x 12) (b) $300 ($25 x 12) AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 08-03 Record shrinkage losses and other year-end adjustments to inventory. Topic: Taking a Physical Inventory

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(a) Dec. 31 (b) Jan. 4

Date 20_ 31 Dec (a)

4 Jan (b)

General journal

Cost of Goods Sold Inventory To reduce carrying amount of inventory to net realizable value (2,500 x $35 = $87,500)

67,500

Cash Sales Sold 100 units @ $50 each

5,000

Cost of Goods Sold Inventory To record cost of selling 100 units carried in inventory at $35 per unit

3,500

67,500

5,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 08-03 Record shrinkage losses and other year-end adjustments to inventory. Topic: Taking a Physical Inventory

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Chapter 08 - Inventories and the Cost of Goods Sold

Beginning inventory Purchase Purchase Purchase Total available for sale in year

400 units @ $7.00 = 1,000 units @ $7.50 = 1,400 units @ $8.00 = _1,200 units @ $8.25 = 4,000 units

$ 2,800 7,500 11,200 ___9,900 $ 31,400

(a) (b)

Weighted average cost First-in, first-out

(a)

Weighted average cost

(b)

First-in, first-out

Inventory at 31 Dec $____________ $____________

Cost of Goods Sold $____________ $____________

Inventory at 31 Dec $10,205 [1,300 x ($31,400/4,000)] $10,700 (1,200 x $8.25 + 100 x $8)

Cost of Goods Sold $21,195 ($31,400 - $10,205) $20,700 ($31,400 - $10,700)

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Beginning inventory Purchase Purchase Purchase Total available for sale in year

1,000 units @ $14.00 = 1,050 units @ $14.50 = 950 units @ $15.00 = __500 units @ $15.75 = 3,500 units

$ 14,000 15,225 14,250 ___7,875 $ 51,350

(a) (b)

Weighted average cost First-in, first-out

(a)

Weighted average cost

(b)

First-in, first-out

Inventory at 31 Dec $____________ $____________

Inventory at 31 Dec $12,469.50 [850 x ($51,350/3,500)] $13,125 (500 x $15.75 + 350 x $15)

Cost of Goods Sold $____________ $____________

Cost of Goods Sold $35,380.50 ($51,350 - $12,469.50) $38,225 ($51,350 - $13,125)

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(a) (b) (c) (d) (e) (f)

Ending Inventory

Cost of Goods Sold

Gross Profit on Sales

Profit for the Period

Ending Inventory

Cost of Goods Sold U U O NE U O

Gross Profit on Sales O O U O O U

Profit for the Period O O U O O U

Ending inventory is overstated Purchases are understated Beginning inventory is overstated Net sales are overstated Beginning inventory is understated Ending inventory is understated

O NE NE NE NE U

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$325,000 $675,000 $975,000

Cost of goods available for sale: Beginning inventory, 1 January Purchases, 1 January through 30 April Cost of goods available for sale Deduct: Estimated cost of goods sold: Net sales Cost percentage (100% - 35%) Estimated cost of goods sold Estimated inventory, 30 April, lost in the flood

$325,000 _675,000 1,000,000 $975,000 x 65% __633,750 $366,250

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$4,500,000 $1,300,000 $2,250,000 45%

(a) The cost of goods available for sale: $3,550,000 ($1,300,000 + $2,250,000) (b) The cost of goods sold: $2,475,000 ($450,000 net sales x 55%*) * Cost ratio = 100% - 45% gross profit rate (c) The estimated total inventory at 8 February: $1,075,000 ($3,550,000(a) - $2,475,000 (b)) (d) The cost of the inventory lost in the fire. $725,000 ($1,075,000(c) - $350,000 in the warehouse)

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Chapter 08 - Inventories and the Cost of Goods Sold

$ 3,000,000 __2,500,000 $ 5,500,000

Retail $ 7,500,000 5,000,000 __5,000,000 $10,000,000

(a) Cost ratio at 30 April: $5,500,000 / $10,000,000 = 55% (b) Estimate the cost of the inventory at 30 April. $1,375,000 Ending inventory at retail = $10,000,000 - $7,500,000 = $2,500,000 Ending inventory at cost = $2,500,000 x 55% = $1,375,000 (c) Estimate the cost of goods sold for April. $4,125,000 ($5,500,000 - $1,375,000 = $4,125,000)

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Chapter 08 - Inventories and the Cost of Goods Sold

145. Retail method Global Office Supply uses the retail method to estimate ending inventory in its monthly financial statements. The following information is available for the month ended 31 July:

Cost Sales Inventory, 1 July Net purchases Goods available for sale

$ 274,800 __369,600 $ 644,400

Retail $ 600,000 396,000 __546,000 $942,000

(a) Cost ratio at 31 July: $644,400 / $942,000 = 68% (b) Estimate the cost of the inventory at 31 July. $232,560 Ending inventory at retail = $942,000 - $600,000 = $342,000 Ending inventory at cost = $342,000 x 68% = $232,560 (c) Estimate the cost of goods sold for July. $411,840 ($644,400 - $232,560 inventory = $411,840)

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(a) Reduced sales prices in order to increase sales volume. __I___ (b) Ordered substantially larger amounts of goods in order to receive a volume discount from the supplier. ___D__ (c) Switched from the weighted average cost flow assumptions to LIFO during a period of rising prices. __I____ (d) Placed salesclerks on commission, rather than a fixed monthly salary. __U___ (e) Decided to offer customers a wider selection of goods available for immediate delivery. ___D___

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 08-07 Compute the inventory turnover and explain its uses. Topic: Financial Analysis and Decision Making

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(a) Switched from the LIFO flow assumption to FIFO during a period of rising prices. __D__ (b) Dramatically increased advertising expense. __I__ (c) Increased the sales price of goods that is so popular it is difficult to keep in stock. __D___ (d) Implemented internal control procedures to reduce a serious inventory shrinkage problem. __D___ e) Switched from a restrictive credit policy to offering liberal terms to credit customers. __I___

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Chapter 08 - Inventories and the Cost of Goods Sold

148. Inventory flow assumptions Briefly discuss the factors management should consider in deciding: (a) Whether to use specific cost identification or a flow assumption in measuring the cost of goods sold. (b) Whether to use FIFO or weighted average cost. (Assume a long-run trend of slowly rising prices.) (a) In large part, the decision of whether to use specific cost identification or a flow assumption depends upon the nature of the inventory. If the individual items comprising the inventory are unique, specific cost identification is the logical choice. If the inventory consists of items similar in cost, function, and sales value, either specific cost identification or a flow assumption may be used. A flow assumption usually is used in these circumstances, as this eliminates the need for tracing each item sold into the accounting records to determine its specific cost. Also, flow assumptions may accomplish specific managerial objectives, such as minimizing income taxes, more effectively than would specific cost identification. (b) The decision of whether to use weighted average cost or FIFO depends upon management's financial reporting objectives. In a period of rising prices, weighted average cost will assign, on average more, higher costs to the cost of goods sold, therefore minimizing reported profit for the period. For this reason, weighted average cost is popular for income tax purposes. However, the tax authorities normally require companies to use same method for income tax and financial reporting purposes. The FIFO method, in contrast, assigns older (and lower) costs to the cost of goods sold, thereby enabling the company to report a higher gross profit. This method may be preferred by a management that is concerned with creating a superficial impression of profitability. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Topic: The Flow of Inventory Costs

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149. Retail method

Many large retailers take a physical inventory near year-end and state in their annual report that inventory has been valued by the "retail method." What does this mean? (Your answer should address [1] whether inventory is valued in the financial statements at cost or retail prices, and [2] how this dollar amount is determined.)

The retail method may be used as a valuation method in conjunction with the taking of a physical inventory. In these cases, the inventory is counted and priced at retail prices, but the cost of the inventory is then estimated by applying the cost ratio to this retail price. In the statement of financial position, the inventory is shown at the estimated cost figure.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Medium Learning Objective: 08-06 Estimate the cost of goods sold and ending inventory by the gross profit method and by the retail method. Topic: Taking a Physical Inventory

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150. The Valley Garden Company had the following transactions: 1 July 7 9

Purchased inventory on credit for $3,600 Purchased inventory for cash for $6,300 Sold inventory costing $7,050 for $11,250 on credit

Date (A) 1 July

7 July

9 July

(B) 1 July

7 July

9 July

General journal

Inventory Accounts Payable

3,600

Inventory Cash

6,300

Cost of Goods Sold Inventory Accounts Receivable Sales Revenue

7,050

3,600

6,300

7,050 11,250 11,250

Purchases Accounts Payable

3,600

Purchases Cash

6,300

Accounts Receivable Sales Revenue

11,250

3,600

6,300

11,250

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 08-06 Estimate the cost of goods sold and ending inventory by the gross profit method and by the retail method. Topic: Taking a Physical Inventory

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151. The Multi-Tech uses the gross profit method to estimate inventories. Fill in the missing amounts.

(a) $304,750 (b) $235,000 (c) $64,000 (d) $171,000 (e) $129,000

Multiple Choice Questions

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Chapter 08 - Inventories and the Cost of Goods Sold

Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method. Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Learning Objective: 08-07 Compute the inventory turnover and explain its uses.

153. During a period of steadily rising prices, which of the following inventory valuation methods is likely to result in the lowest cost of goods sold? A. Weighted average cost.. B. FIFO. C. The retail method. D. The gross profit method.

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Ace Systems, Inc. uses a perpetual inventory system. The company’s beginning inventory of a particular product and its purchases during the month of January were as follows:

Beginning inventory (1 Jan.) Purchase (15 Jan.) Purchase (23 Jan.) Total

Quantity Unit Cost Total Cost 10 ........... $27.50 $275 15............. $28.00 $420 5.............. $29.00 $145 30 $840

157. Assuming that Ace Systems uses the weighted average cost flow assumption, the cost of goods sold to be recorded at 28 January is: A. $504. B. $336. C. $499. D. Some other amount.

158. Assuming that Ace Systems uses the specific cost identification method, the cost of goods sold on 28 January is:

A. $331. B. $509. C. $499. D. Some other amount.

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Chapter 08 - Inventories and the Cost of Goods Sold

159. Assuming that Ace Systems uses the FIFO flow assumption, the cost of goods sold on 28 January is: A. $509. B. $341. C. $499. D. Some other amount.

160. Assuming that Ace Systems uses the weighted average cost flow assumption, the 12 units of this product in inventory at 31 January have a total cost of:

A. $499. B. $336. C. $509. D. Some other amount.

161. Assuming that Ace Systems uses the FIFO flow assumption, the 12 units of this product in inventory at 31 January have a total cost of: A. $341 B. $509. C. $499. D. Some other amount.

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Chapter 08 - Inventories and the Cost of Goods Sold

Quantity 50 25 25 100

Unit Cost Total Cost $6 $300 $7 $175 $8 $200 $675

$_____________

(2) FIFO

$_____________

(3) Weighted average cost

$_____________

Cost of goods sold (1) $340 (50 @ $6) + (5 @ $8) (2) $335 (50 @ $6) + (5 @ $7) (3) $371.25 (675 ÷ 100) x 55 Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method.

163 Determine the cost of the 45 units in inventory at 31 January using each of the following valuation methods: (1) Specific cost identification

$_____________

(2) FIFO

$_____________

(3) Weighted average cost

$_____________

Inventory at 31 Jan.: (1) $335 ($675 - $340) (2) $340($675 - $335) (3) $303.75 (45 @ $6.75) Learning Objective: 08-01 In a perpetual inventory system; determine the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO. Discuss the advantages and shortcomings of each method.

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60 units @ 30 units @ 90 units @ 20 units @ 200 units

$105 = $115 = $125 = $135 =

$ 6,300 3,450 11,250 2,700 $23,700

(2) Cost of Goods Sold

Weighted average cost

$_______________

First-in, first-out

$_______________

Weighted average cost: Inventory $7,702.50 [65 @ ($23,700  200)] Cost of goods sold $15,997.50 ($23,700 - $7,702.50)

First-in, first-out: Inventory Cost of goods sold

$8,325 $15,375

(20 @ $135 + 45 @ $125) ($23,700 - $8,325)

Learning Objective: 08-04 In a periodic inventory system; determine the ending inventory and the cost of goods sold using (a) specific cost identification; (b) weighted average cost; ; and (c) FIFO.

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CHAPTER 8 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

The primary purpose for using an inventory flow assumption is to: a Parallel the physical flow of units of goods sold. b Offset against revenue an appropriate cost of goods sold. c Minimize income taxes. d Maximize the reported amount of profit.

Ace Auto Supply uses a perpetual inventory record. On 10 March, the company sells two Shelby four-barrel carburetors. Immediately prior to this sale, the perpetual inventory records indicate three of these carburetors on hand, as shown below:

Date

Quantity Purchased

Unit Cost

Units on Hand

Total Cost

4 Feb.

$2,200

2 Mar.

2,350

6,900

With respect to this sale on 10 March (more than one of the following answers may be correct): a If the weighted average cost method is used, the cost of goods sold is $4,600. b If these carburetors have identification numbers, Ace must use the specific cost identification method in determining the cost of goods sold. c If the company uses weighted average cost method, the cost of goods sold will be $50 higher than if it were using FIFO. d If the company uses FIFO, the carburetor remaining in inventory after the sales will be assumed to have cost $2,350. 3

T-Shirt City uses a periodic inventory system. During the first year of operations, the company made four purchases of a particular product. Each purchase was for 500 units and the prices were: $9 per unit in the first purchase, $10 per unit in the second purchase, $12 per unit in the third purchase, and $13 per unit in the fourth purchase. At year-end, 650 of these units remained unsold. Compute the cost of goods sold under the FIFO method and weighted average cost method, respectively. a $13,700 (FIFO) and $14,850 (weighted average cost). b $8,300 (FIFO) and $7,150 (weighted average cost). c $14,850 (FIFO) and $13,700 (weighted average cost). d $7,150 (FIFO) and $8,300 (weighted average cost).

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New World Department Store uses a perpetual inventory system but adjusts its inventory records at year-end to reflect the results of a complete physical inventory. In the physical inventory taken at the ends of 2009 and 2010, New World’s employees failed to count the goods in the store’s window display. The cost of these goods amounted to $130,000 at the end of 2009, and $190,000 at the end of 2010. As a result of these errors, the cost of goods sold for 2010 will be: a Understated by $190,000. b Overstated by $60,000. c Understated by $60,000. d None of the above.

In July 2010, the accountant for LBJ Imports is in the process of preparing financial statements for the quarter ended 30 June 2010. The physical inventory, however, was last taken on 5 June and the accountant must establish the approximate cost at 30 June from the following data:

Physical inventory, 5 June 2010....................................................................... Transactions for the period 5 June —30 June Sales.................................................................................................................. Purchases ..........................................................................................................

$900,000 $700,000 $400,000

The gross profit on sales has consistently averaged 40 percent of sales. Using the gross profit method, compute the approximate inventory cost at 30 June 2010. a $420,000. b $880,000. c $480,000. d $1,360,000. 6

Allied Products maintains a large inventory. The company has used the FIFO inventory method for many years, during which the purchase costs of its products have risen substantially. (More than one of the following answers may be correct.) a Allied would have reported a lower profit in past years if it had been using the weighted average cost inventory method. b Allied’s financial statements imply a higher inventory turnover rate than they would if the company were using weighted average cost. c If Allied were to let its inventory fall far below normal levels, the company’s gross profit rate would increase. d Allied would have paid less income taxes in past years if it had been using the weighted average cost inventory method.

SOLUTIONS TO CHAPTER 8 SELF-TEST QUESTIONS FROM TEXTBOOK 1

a, c, d

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a, d

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Chapter 09 Property, Plant, and Equipment, Intangible Assets and Natural Resources True / False Questions

1. Incidental costs incurred in the purchase of land that are charged to Land Improvements will affect profit at some future time. True False

2. To capitalize an expenditure means charging it to an asset account. True False

3. Charging an expenditure directly to an expense account is based on the assumption that the benefits of that expenditure have been used up in the current period. True False

4. The journal entry to record depreciation expense consists of a credit to Accumulated Depreciation and a debit to the asset being depreciated. True False

5. Depreciation is a process of asset valuation. True False

6. Book value represents the cost of an asset that has yet to be allocated to expense. True False

7. The half-year convention allows us to take six months depreciation during the first year of an asset's life even if the asset was purchased on 25th January. True False

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

8. The book value of an asset is equal to its cost plus accumulated depreciation. True False

9. The formula for the double-declining balance method of depreciation is: Remaining book value times the straight line rate is equal to depreciation expense. True False

10. The rule of consistency does not require a company to use the same method of depreciation from year to year for all assets. True False

11. The term property, plant and equipment assets refers to long-lived assets acquired for use in business operations, rather than for resale to customers. True False

12. Any reasonable and necessary expenditures to place a newly acquired PPE asset in service should be debited to a separate asset account. True False

13. Sales tax on equipment is not part of the acquisition cost and should not be capitalized. True False

14. Land improvements are not subject to depreciation. True False

15. It is an acceptable accounting practice to treat an expenditure that is not material in dollar amount as an expense of the current period even though the expenditure may benefit several periods. True False

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

16. The erroneous recording of a revenue expenditure as a capital expenditure will cause an overstatement of total revenue for the period. True False

17. In accounting, depreciation refers to a decline in the asset's current market value, not the allocation of the cost of an asset to expense. True False

18. Just as there are depreciation methods to calculate the decline in value of assets, there are appreciation methods to record the increase in value of assets. True False

19. If an accelerated depreciation method is used for an asset with a useful life of five years, more depreciation expense would be recorded in the third year than in the fifth year. True False

20. Revenue expenditures are a part of selling and administrative expenses. True False

21. Under the half-year convention, six months' depreciation is recorded on an asset in the year of acquisition and in the year of retirement regardless of the month in which the asset is actually purchased or retired. True False

22. Once the estimated life is determined for a depreciable asset it can never be changed. True False

23. Annual depreciation expense is increased when salvage values are small. True False

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

24. Most companies benefit by using accelerated depreciation methods for income tax purposes. True False

25. Goodwill is only recorded when the value of a company increases and not when it decreases in value. True False

26. Straight-line is the most widely used depreciation method in financial statements, and declining-balance is the most widely used method in federal income tax returns. True False

27. The tax basis of a depreciable asset generally is higher than the book value of that asset for financial reporting purposes. True False

28. Research and development costs should be capitalized to match the period of benefit. True False

29. The systematic write-off of intangible assets to expense is called depletion. True False

30. The statement of financial position always reflects a company's current values. True False

31. U. S. GAAP requires that a company should capitalize goodwill and adjust its value if subject to impairment. True False

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

32. A revenue expenditure is an operating expense. True False

33. A capital expenditure is charged to owners' capital. True False

34. The Sarbanes-Oxley Act requires that companies disclose whether they have a code of ethics that applies to the CEO, CFO, and Chief Accounting Officer. True False

Multiple Choice Questions

35. After March 2004 international standards required that goodwill A. Be capitalized and amortized over 20 years or less. B. Be capitalized and amortized over 40 years or less. C. Be capitalized and reviewed annually and its value should be adjusted if impaired. D. Be expensed immediately.

36. If an asset is determined to be impaired, it should be: A. depreciated only using the straight-line method. B. written up to its historical cost. C. reclassified as a liability. D. written down to its fair market value.

37. All of the following may be considered intangible assets except: A. Accounts receivables B. Copyrights C. Franchises D. Goodwill

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

38. When straight-line depreciation is in use, the depreciation rate of an asset is equal to A. 1 divided by the life of the asset B. 1 divided by the cost of the asset C. The cost of the asset divided by the life of the asset D. The cost of the asset less its salvage value divided by the life of the asset.

39. When a depreciable asset is sold at a price equal to its book value, a journal entry would include A. A credit to the asset account for its book value B. A debit to accumulated depreciation C. A credit to accumulated depreciation D. A credit to cash

40. All of the following assets are amortized except: A. Patents B. Franchises C. Copyrights D. Natural resources

41. Land is purchased for $256,000. Additional costs include a $15,300 fee to a broker, a survey fee of $2,400, $1,750 to construct a fence and a legal fee of $8,500. What is the cost of the land? A. $256,000 B. $281,000 C. $284,600 D. $282,200

42. If the 150% declining balance method is being used and an asset has a useful life of 20 years what is the depreciation rate? A. 7.5% B. 10% C. 15% D. Some other amount

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

44. An asset which costs $18,800 and has accumulated depreciation of $6,000 is sold for $11,600. What amount of gain or loss will be recognized when the asset is sold? A. A gain of $1,200 B. A loss of $1,200 C. A loss of $7,200 D. A gain of $7,200

45. The entry to record amortization on a copyright would include: A. A debit to amortization expense B. A debit to accumulated amortization C. A debit to copyright D. A credit to amortization expense

46. Which of the following would not be considered part of the cost of equipment recently purchased? A. Sales tax. B. Transportation charges. C. Installation and setup charges. D. All three are capitalized costs.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

47. Armstrong Company recently acquired a new computer system. Which of the following costs associated with the computer should not be debited to the Equipment account? A. Insurance coverage purchased by United to cover the computer during shipment from the manufacturer. B. Wages paid to system programmers hired to prepare the new computer for use. C. Replacement of several circuit boards damaged during installation. D. Installation of new electrical power supplies required for the computer.

48. Coca-Cola's famous name printed in distinctive typeface is an example of: A. A trademark. B. A patent. C. A copyright. D. Goodwill.

49. When comparing the units-of-output method of depreciation with straight-line depreciation: A. The depreciation expense in the first year will always be greater under units-of-output method. B. The depreciation expense in the first year will always be less under the units-of-output method. C. The depreciation expense in the first year will always be the same. D. The depreciation expense in the first year may be greater than, equal to, or less under the units-of-output method.

50. The fair market value of Lewis Company's net identifiable assets is $5,000,000. Martin Corporation purchases Lewis' entire business for $5,800,000. Which of the following statements is not correct? A. Martin Corporation paid $800,000 for goodwill generated by Lewis Company. B. Martin feels that Lewis Company has the ability to generate earnings in excess of a normal return on net identifiable assets. C. Martin will record amortization expense over a period not to exceed 40 years. D. Martin Corporation will record $800,000 to goodwill, an intangible asset, which will be reported in its balance sheet.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

51. Tomassi Company paid $450,000 to acquire a piece of real estate consisting of land and an office building with a parking lot. In this situation: A. The purchase price should be apportioned among the Land, Land Improvement, and Building accounts. B. The entire purchase price should be debited to the Property, Plant and Equipment account. C. Land, Land Improvement, and Building accounts should each be debited for the respective appraisal value of each item. D. Allocation of the entire $450,000 to Land results in an understatement of profit in the current and future accounting periods.

52. Which of the following is a capital expenditure? A. Sales tax paid in conjunction with the purchase of office equipment. B. Monthly rent of a delivery truck. C. Research and development costs. D. Small expenditures to acquire long-lived assets, such as $13 to purchase a wastebasket.

53. The legal life of most patents is: A. 5 years. B. 20 years. C. 40 years. D. 50 years.

54. Which of the following should not be treated as a revenue expenditure? A. Delivery costs on newly purchased equipment. B. Annual fire insurance premiums on plant and equipment. C. Repair to an elevator of a five year old building. D. The purchase of a pencil sharpener for $10 used in an office.

55. Which of the following is not a capital expenditure? A. Advertising expenditures to introduce a new product line. B. Sales tax paid in conjunction with the purchase of new machinery. C. Installation of elevators to replace escalators. D. An amount paid to acquire a patent with a remaining life of only three years.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

56. The application of the matching principle to depreciation of property, plant and equipment can best be described as: A. The matching of the book value of an asset with its market value. B. Offsetting the revenue of an accounting period with the estimated decline in value of property, plant and equipment during the accounting period. C. Offsetting revenue of an accounting period with the portion of the cost of property, plant and equipment estimated to have been used up during the accounting period. D. The matching of the depreciation expense reported in the income statement for an accounting period with the accumulated depreciation reported in the statement of financial position.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

57. The term accumulated depreciation, as used in accounting, is best defined as: A. The portion of a PPE asset recognized as expense since the asset was acquired. B. Funds (or cash) set aside to replace the asset being depreciated. C. Earnings retained in the business that will be used to purchase another asset when the present asset is depreciated. D. An expense of doing business.

58. Which depreciation method is most commonly used among publicly owned corporations? A. Straight-line. B. Double-declining balance. C. Units-of-output. D. All three of the various depreciation methods are equally employed.

59. The book value of an asset in the property, plant and equipment category is: A. The undepreciated cost of the asset. B. The current replacement cost of the asset. C. The original cost of the asset. D. The accumulated depreciation on the asset to date.

60. A gain is recognized on the disposal of PPE assets when: A. The sales price is greater than the residual value but less than the book value. B. The sales price is less than both the book value and the residual value. C. The sales price is greater than the book value and greater than the residual value. D. The sales price is greater than the book value and less than the residual value.

61. Which of the following would not be amortized? A. Oil well. B. Copyright. C. Franchise fee. D. Patent.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

62. An accelerated depreciation method: A. Results in reporting higher earnings every year. B. Depreciates an asset over a shorter life than does the straight-line method. C. Recognizes more depreciation expense in the early years of an asset's useful life and less in the later years. D. Is required for assets that become technologically obsolete before they physically wear out.

63. Accelerated depreciation methods are used primarily in: A. Income tax returns. B. The financial statements of small businesses. C. The financial statements of publicly owned corporations. D. Companies with computer-based accounting systems.

64. Capital expenditures are recorded as: A. An expense. B. An asset. C. A liability. D. Income.

65. In the fixed-percentage-of-declining-balance depreciation method, the book value of the asset is multiplied by: A. An increasing depreciation rate. B. A constant depreciation rate. C. A decreasing depreciation rate. D. A rate that changes each year but is determined from a table.

66. Revenue expenditures are recorded as: A. An expense. B. An asset. C. A liability. D. Income.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

67. Which of the following situations is impossible? A. Book value is greater than residual value. B. Book value is equal to the residual value. C. Book value is less than residual value. D. Book value is less than the original cost.

68. In the United States, for depreciable property other than real estate, MACRS is based upon: A. Either the 150% or 200% declining-balance method. B. The straight-line method. C. A 10-year recovery period. D. The depreciation method and recovery period used by the company in its financial statements.

69. Which of the following statements about accelerated depreciation methods is not correct? A. An accelerated depreciation method may be used on newly acquired assets for income tax purposes. B. The method permits "depreciating" the asset to a tax basis of $0 over a specified recovery period. C. If a company uses an accelerated depreciation method in its income tax returns, it also must use the accelerated depreciation method in its financial statements. D. Most businesses would benefit from using an accelerated depreciation method rather than straight-line depreciation in their income tax returns.

70. The term net identifiable assets means: A. All assets minus all liabilities. B. All assets except goodwill, minus all liabilities. C. All assets except intangibles, minus all liabilities. D. All fixed assets less liabilities.

71. Responsibility for selection of the depreciation methods used in financial reporting rests with: A. Company management. B. The accounting standard body. C. The tax authority. D. The CPA firm that audits the company's financial statements.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

72. With respect to depreciation policies, the principle of consistency means: A. A company should use the same depreciation methods in its financial statements that it uses in its income tax returns. B. A company should use the same depreciation methods as other companies in the same industry. C. A company should use the same depreciation method from year to year for a given PPE asset. D. A company should use the same depreciation method in computing depreciation expense on all its assets.

73. The book value of PPE assets (other than land): A. Increases with the passage of time. B. Decreases with the passage of time. C. Remains the same with the passage of time. D. May increase or decrease depending upon the economy.

74. The gain on the disposal of equipment is recognized when: A. The book value of the equipment is greater than the value received. B. The book value of the equipment is less than the value received. C. A salvage value exists. D. A gain should not be recognized on the disposal of an asset.

75. For financial reporting purposes, the gain or loss on the sale of a PPE asset is determined by comparing the asset's: A. Cost with its book value. B. Sales price with its book value. C. Tax basis with its book value. D. Sales price with its tax basis.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

76. The gain or loss on the disposal of a depreciable asset reported in financial statements often differs from that reported for income tax purposes. The principal reason for the difference is: A. The cost of the asset is different for financial reporting and income tax purposes. B. The sales price of the asset is different for financial reporting and income tax purposes. C. Different depreciation methods have been used in financial statements and in income tax returns. D. The company has made an error-the same amount of gain or loss should appear in the income tax return as in the financial statements.

77. When a company uses straight-line depreciation and the half-year convention, assets with a five-year life: A. Will have the same depreciation expense in the first and last years. B. Will be depreciated over six accounting years. C. Book value will equal its salvage value at the end of its economic life. D. All of the above statements are correct.

78. Which of the following assets is not subject to depreciation and whose usefulness does not decline over time? A. Patents. B. Copyrights. C. Land. D. Coal mine.

79. Intangible assets are assets used in business operations but which: A. Lack physical substance. B. Cannot be sold. C. Have been depreciated below their estimated salvage values. D. Cannot be specifically identified.

80. As for the depreciable PPE assets of a company, the accounting policy of not charging any depreciation: A. Is recommended. B. Is required. C. Is optional. D. Is not considered to be in conformity with IFRS.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

81. The inclusion of the intangible asset goodwill in the financial statements of a company indicates: A. That the company has a favorable reputation with its customers. B. A monopoly position in the industry or superior management. C. An unbroken record of annual earnings and dividends. D. That the company has purchased a going business at a price in excess of the fair market value of the net identifiable assets.

82. Expenditures for research intended to lead to new products of commercial value: A. Should be recorded as intangible assets and amortized during the years in which benefits are expected. B. Should be charged to expense when incurred. C. Should be capitalized only if patents are expected to be granted. D. Should be classified as deferred charges.

83. The basic purpose of the matching principle is to allocate the cost of an asset to expense over the years in which the asset contributes to revenue. Current accounting practice does not strictly apply this principle to expenditures for: A. Natural resources. B. Research and development. C. Trademarks. D. Equipment.

84. The adjusting entries to record depreciation or amortization expense, or to write down assets that have become impaired: A. Reduce both profit and cash balances. B. Reduce profit, but have no direct effect on cash balances. C. Decrease cash balances, but have no direct effect upon profit. D. Affect neither profit nor cash balances.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

85. Harvard Company purchased equipment having an invoice price of $11,500. The terms of sale were 2/10, n/30, and Harvard paid within the discount period. In addition, Harvard paid a $160 delivery charge, $185 installation charge, and $931 sales tax. The amount recorded as the cost of this equipment is: A. $11,845. B. $12,776. C. $11,615. D. $12,546

86. Land and a warehouse were acquired for $89,000,000. What amounts should be recorded in the accounting records for land and for the warehouse if an appraisal showed the estimated values to be $40,000,000 for the land and $70,000,000 for the warehouse? A. $40,000,000 for land; $49,000,000 for warehouse. B. $32,396,000 for land; $56,604,000 for warehouse. C. $40,000,000 for land; $70,000,000 for warehouse. D. $19,000,000 for land; $70,000,000 for warehouse.

87. On 2 March 2013, Glen Industries purchased two automobiles at a cost of $550,000. The cars are to be depreciated by the straight-line method over five years with no salvage value. Glen uses the half-year convention to compute depreciation for fractional periods. The book value of the two automobiles at 31 December 2014 will be: A. $165,000. B. $400,000. C. $495,000. D. $385,000.

88. On 8 April 2013, Jupitor Corp. acquired equipment at a cost of $480,000. The equipment is to be depreciated by the straight-line method over six years with no provision for salvage value. Depreciation for fractional years is computed by rounding the ownership period to the nearest month. Depreciation expense recognized in 2014 will be: A. $53,333. B. $66,667. C. $60,000. D. $80,000.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

On 30 April 2013, Tilton Products purchased machinery for $88,000. The useful life of this machinery is estimated at 8 years, with an $8,000 residual value.

89. Refer to the above data. Assume that in its financial statements, Tilton Products uses straight-line depreciation and the half-year convention. Depreciation expense recognized on this machinery in 2013 and 2014 will be: A. $7,500 in 2013 and $11,000 in 2014. B. $6,000 in 2013 and $12,000 in 2014 C. $5,000 in 2013 and $10,000 in 2014 D. $5,500 in 2013 and $11,000 in 2014

90. Refer to the above data. Assume that in its financial statements, Tilton Products uses straight-line depreciation and rounds depreciation for fractional years to the nearest month. Depreciation expense recognized on this machinery in 2013 and 2014 will be: A. $2,333 in 2013 and $7,000 in 2014. B. $5,833 in 2013 and $10,000 in 2014. C. $6,667 in 2013 and $10,000 in 2014. D. $10,000 in 2013 and $10,000 in 2014.

91. Refer to the above data. Assume that in its financial statements, Tilton Products uses the 200%-declining-balance method and the half-year convention. Depreciation expense in 2013 and 2014 will be: A. $11,000 in 2013 and $18,857 in 2014. B. $22,000 in 2013 and $12,571 in 2014 C. $22,000 in 2013 and $7,857 in 2014. D. $11,000 in 2013 and $22,000 in 2014

92. Refer to the above data. Assume that in its financial statements, Tilton Products uses the 150%-declining-balance method and the half-year convention. Depreciation expense in 2013 and 2014 will be: A. $8,250 in 2013 and $14,953 in 2014. B. $16,500 in 2013 and $12,964 in 2014. C. $16,500 in 2013 and $16,500 in 2014. D. $15,000 in 2013 and $11,786 in 2014.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

93. Refer to the above data. In the year 2020, Tilton Products sells this machinery for $4,500. At the date of sale, the machinery had been depreciated by Tilton Products to its estimated residual value of $8,000. This sale results in: A. A $3,500 loss in both the company's financial statements and income tax return. B. No gain or loss in either the financial statements or income tax return. C. A $3,500 loss in the financial statements, a $3,500 gain in the income tax return. D. A $3,500 loss in the financial statements, but no gain or loss in the income tax return.

On 2 April 2013, Victor, Inc. acquired a new piece of filtering equipment. The cost of the equipment was $160,000 with a residual value of $20,000 at the end of its estimated useful lifetime of 4 years.

94. Refer to the above information. Assume that in its financial statements, Victor uses straight-line depreciation and rounds depreciation for fractional years to the nearest whole month. Depreciation recognized on this equipment in 2013 and 2014 will be: A. $23,333 in 2013 and $35,000 in 2014. B. $40,000 in 2013 and $30,000 in 2014. C. $20,000 in 2013 and $35,000 in 2014 D. $26,250 in 2013 and $35,000 in 2014.

95. Refer to the above information. Assume that in its financial statements, Victor uses straight-line depreciation and the half-year convention. Depreciation recognized on this equipment in 2013 and 2014 will be: A. $40,000 in 2013 and $30,000 in 2014. B. $23,333 in 2013 and $30,000 in 2014 C. $17,500 in 2013 and $35,000 in 2014 D. $20,000 in 2013 and $35,000 in 2014

96. Refer to the above information. If Victor uses straight-line depreciation with the half-year convention, the book value of the equipment at 31 December 2014 will be: A. $90,000. B. $107,500. C. $106,667. D. $105,000.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

97. Machinery acquired new on 1 January at a cost of $80,000 was estimated to have a useful life of 10 years and a residual salvage value of $20,000. Straight-line depreciation was used. On 1 January, following six full years of use of the machinery, management decided that the estimate of useful life had been too long and that the machinery would have to be retired after three years, that is, at the end of the ninth year of service. Under this revised estimate, the depreciation expense for the seventh year of use would be: A. $8,000. B. $10,000. C. $13,000. D. $24,000.

98. Clark Imports sold a depreciable PPE asset for cash of $35,000. The accumulated depreciation amounted to $70,000, and a loss of $5,000 was recognized on the sale. Under these circumstances, the original cost of the asset must have been: A. $65,000. B. $75,000. C. $100,000. D. $110,000.

99. Mayer Instrumentation sold a depreciable asset for cash of $300,000. The original cost of the asset was $1,200,000. Mayer recognized a gain of $45,000 on the sale. What was the amount of accumulated depreciation on the asset at the time of its sale? A. $945,000. B. $255,000. C. $1,155,000. D. $990,000.

100. Suffolk Associates sold office furniture for cash of $42,000. The accumulated depreciation at date of sale amounted to $38,000, and a gain of $18,000 was recognized on the sale. The original cost of the asset must have been: A. $31,000. B. $62,000. C. $84,000. D. $59,000.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

101. Total shareholders' equity of Tucker Company is $4,000,000. The fair market value of Tucker's net identifiable assets (assets less liabilities) is $5,000,000. Empire Corporation makes an offer to purchase Tucker's entire business for $5,800,000. In this situation: A. Tucker Company should report goodwill of $800,000 in its statement of financial position. B. Tucker Company should report goodwill of $1,800,000 in its statement of financial position. C. Empire Corporation is willing to pay $1,800,000 for goodwill generated by Tucker, and Empire will report this goodwill in its statement of financial position if the purchase is finalized. D. Empire Corporation is willing to pay $800,000 for goodwill generated by Tucker, and Empire will report this goodwill in its statement of financial position if the purchase is finalized.

103. In February 2014, Brilliant Industries purchased the Topaz Mine at a cost of $100,000,000. The mine is estimated to contain 500,000 carats of stone and to have a residual value of $5,000,000 after mining operations are completed. During 2014, 50,000 carats of stone were removed from the mine and sold. In this situation: A. The book value of the mine is $90,000,000 at the end of 2014. B. The amount of depletion deducted from revenue during 2014 is $9,500,000. C. The amount of depletion deducted from revenue during 2014 is $10,000,000. D. The mine is classified as an intangible asset and amortized over a period not to exceed 40 years.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

104. Land is purchased for $456,000. Additional costs include a $30,300 fee to a broker, a survey fee of $3,400, $2,750 to construct a fence, and a legal fee of $12,500. What is the cost of the land? A. $456,000. B. $486,300. C. $502,200. D. $504,950.

105. An asset which costs $97,600 and has accumulated depreciation of $82,000 is sold for $18,000. What amount of gain or loss will be recognized when the asset is sold? A. A gain of $15,600. B. A loss of $15,600. C. A loss of $2,400. D. A gain of $2,400.

106. Yale Company purchased equipment having an invoice price of $21,500. The terms of sale were 2/10, n/30, and Yale paid within the discount period. In addition, Yale paid a $320 delivery charge, $350 installation charge, and $1,183 sales tax. The amount recorded as the cost of this equipment is: A. $21,070. B. $21,500. C. $21,740. D. $22,923

107. Early in the current year, Amazon Co. purchased the Rio Silver Mine at a cost of $30,000,000. The mine was estimated to contain 400,000 tons of ore and to have a residual value of $7,500,000 after mining operations are completed. During the year, 115,000 tons of ore were removed from the mine. At year-end, the book value of the mine is: A. $22,500,000. B. $6,468,750. C. $23,531,250. D. $30,000,000.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

108. In February 2014, Gemstone Industries purchased the Opal Mine at a cost of $20,000,000. The mine is estimated to contain 500,000 carats of stone and to have a residual value of $1,000,000 after mining operations are completed. During 2014, 50,000 carats of stone were removed from the mine and sold. In this situation: A. The book value of the mine is $19,000,000 at the end of 2014. B. The amount of depletion deducted from revenue during 2014 is $1,900,000. C. The amount of depletion deducted from revenue during 2014 is $1,000,000. D. The mine is classified as an intangible asset and amortized over a period not to exceed 40 years.

109. Lewis Imports sold a depreciable plant asset for cash of $135,000. The accumulated depreciation amounted to $170,000, and a loss of $15,000 was recognized on the sale. Under these circumstances, the original cost of the asset must have been: A. $120,000. B. $155,000. C. $185,000. D. $320,000.

110. Cranston Instrumentation sold a depreciable asset for cash of $150,000. The original cost of the asset was $600,000. Cranston recognized a gain of $22,500 on the sale. What was the amount of accumulated depreciation on the asset at the time of its sale? A. $472,500. B. $127,500. C. $577,500. D. $495,000.

111. Glouchester Associates sold office equipment for cash of $142,000. The accumulated depreciation at date of sale amounted to $138,000, and a gain of $18,000 was recognized on the sale. The original cost of the asset must have been: A. $260,000. B. $262,000. C. $280,000. D. $156,000.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

112. An asset which costs $14,400 and has accumulated depreciation of $8,000 is sold for $5,600. What amount of gain or loss will be recognized when the asset is sold? A. A gain of $800. B. A loss of $800. C. A loss of $2,400. D. A gain of $2,400.

113. An asset which costs $28,800 and has accumulated depreciation of $6,000 is sold for $21,600. What amount of gain or loss will be recognized when the asset is sold? A. A gain of $1,200. B. A loss of $1,200. C. A loss of $7,200. D. A gain of $7,200.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Essay Questions

114. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter: Half-year convention Capital expenditure Accelerated depreciation Revenue expenditure

Straight-line

Goodwill

Accumulated depreciation

Research

depletion

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or Answer "None" if the statement does not correctly describe any of the terms. (a.) An expenditure to pay an expense of the current period. (b.) An account showing the portion of the cost of a PPE asset that has been written off to date as depreciation expense. (c.) A policy that fractional-period depreciation on assets acquired or sold during the period should be computed to the nearest month. (d.) An intangible asset representing the present value of future earnings in excess of normal return on net identifiable assets. (e.) Expenditures that could lead to the introduction of new products, but which, according to IFRS, should be viewed as an expense of the current accounting period. (f.) Depreciation methods that take less depreciation in the early years of an asset's useful life, and more depreciation in the later years. (g.) Depreciation methods that take more depreciation in the early years of an asset's useful life, and less depreciation in the later years.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

115. Determining cost of PPE assets New equipment was purchased by Hunter Corporation at a list price of $94,000, with credit terms of 2/10, n/30. Payment was made within the discount period and included $7,800 sales tax in addition to the net purchase price. The company also paid delivery charges of $940 and labor costs of $1,380 for installing the new equipment at the appropriate location. During installation, an inexperienced employee punctured several containers with a forklift, causing damage to the equipment. Cost to repair the damage was $1,960. What is the total cost of Hunter's equipment? Computations

116. Depreciation in financial statements Dynasty Co. uses straight-line depreciation in its financial statements, with depreciation for a partial year rounded to the nearest full month. On 28 September 2006 Dynasty purchased equipment at a cost of $140,000. For financial reporting purposes, the useful life of this equipment was estimated at 5 years, with a $30,000 salvage value. Compute the depreciation expense relating to this equipment that Dynasty will recognize in its financial statements in the following years. If no depreciation will be recognized in a particular year, write zero.

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117. Various depreciation methods-first year On 5 September 2013, Apollo purchased equipment costing $40,000, with an estimated life of 6 years and an estimated salvage value of $4,000. Compute the depreciation expense Apollo would recognize on this equipment in 2010 assuming:

118. Various depreciation methods-first year On 24 March 2013 Tastee Ice Cream Co. purchased equipment costing $140,000, with an estimated life of 5 years and an estimated salvage value of $20,000. Compute the depreciation expense Tastee would recognize on this equipment in 2010 assuming:

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

119. Various depreciation methods--two years On 6 September 2010, East River Tug Co. purchased a new tugboat for $400,000. The estimated life of the boat was 20 years, with an estimated residual value of $40,000. Compute the depreciation on this tugboat in 2010 and 2011 using the following methods. Apply the half-year convention. (If necessary, round to the nearest dollar.)

120. Declining balance depreciation On 6 July 2011, Grayson purchased new machinery with an estimated useful life of 10 years. Cost of the equipment was $80,000, with a residual value of $8,000. Compute the depreciation on this machinery in 2011 and 2012 using each of the following methods.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

121. Depreciation; gains and losses in financial statements In 2010, Amalfi, Inc. purchased equipment with an estimated 10-year life for $42,600. The residual value was estimated at $9,900. Amalfi uses straight-line depreciation and applies the half-year convention. On 18 April 2012 Amalfi closed one of its plants and sold this equipment for $33,600. Under these assumptions compute the following for this equipment:

122. Trade-ins Dietz owned a delivery van with a book value of $20,000. It traded this old van in on a new one which cost $160,000. The dealer allowed Dietz a trade-in allowance of $35,000 on the old van, and Dietz paid the remainder in cash. Compute the following:

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

123. Depreciation and disposal--a comprehensive problem Domino, Inc uses straight-line depreciation with a half-year convention in its financial statements. On 10 March 2006, Domino acquired a computer system at a cost of $98,800. Estimated useful life is six years, with residual value of $5,200. (a) Complete the following schedule, showing depreciation expense Domino expects to recognize each year in the financial statements.

(b) Assume Domino sells the computer system on 3 October 2009, for $26,650.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

124. Computation of Goodwill The profit of Greystone, Inc., during the last several years has averaged $765,000 annually. The company is now being offered for sale as a going concern. The value of Greystone's net identifiable assets (total assets minus all liabilities) at the present time is $4,675,000. One of several corporations interested in buying Greystone, offers to pay an amount equal to the value of the net identifiable assets and to assume all liabilities. In addition, this prospective buyer is willing to pay for goodwill an amount equal to net earnings in excess of 10% on net assets, expected to continue four years. You are to use the above information as a basis for computing the price that the investing corporation will offer for Greystone,, Inc. $_______________

125. Computation of goodwill Chopin Corporation has net assets (total assets minus total liabilities) valued at $880,000 and has earned an average profit of $132,000 per year for the past several years. Sands Company is negotiating the purchase of the company and has agreed to pay an amount equal to the value of the net identifiable assets, assume the liabilities, and pay a sum for goodwill equal to the earnings in excess of 12% on net assets, expected to continue for five years. What is the amount for goodwill Sands is including in its offer? $_______________ Computations

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

126. Caan purchased the Stokes Mine for $600 million. The mine was estimated to contain 6 million tons of anthracite coal and to have a residual value of $120 million. During the first year of mining operations of the Stokes Mine, 800,000 tons of anthracite were mined of which 600,000 tons was sold.

Computations

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

127. Four events pertaining to PPE assets are described below. (a) Computed depreciation for use in the annual income tax return (a different method is used in the financial statements). (b) Made a year-end adjusting entry to record depreciation expense for financial reporting purposes. (c) Sold old equipment for cash at a price below its book value, but above its income tax basis. (d) Traded an old automobile in on a new one. The dealer granted a trade-in allowance on the old vehicle that was substantially above its book value and its tax basis. However, the trade-in allowance amounted to only a small portion of the price of the new car; most of the purchase price was paid in cash. Indicate the immediate effects of each of these events upon the financial measurements in the four column headings listed below. Use the code letters, I for increase, D for decrease, and NE for no effect. Note: Indicate only the immediate effects of each transaction. Do not attempt to anticipate how changes in taxable income will affect future cash flows.

Transaction

Current assets

Profit

Taxable income

Net cash flow (all activities combined)

(a)

_________

(b)

_________

(c)

_________

(d)

_________

128. Briefly explain the difference between a revenue expenditure and a capital expenditure.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

133. Prepare journal entries for the following: (a) 1 November 2013. Purchased machinery for $93,600 with a $7,200 residual value and a six year life by paying $14,400 down and the balance with a Note Payable.(Ignore interest) (b) 31 December 2013. Record the adjusting entry for depreciation using the straight line method to the nearest month. (c) 1 July 2014. Sold the equipment for $81,600 cash and paid off the Note Payable.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

134. The following expenditures are related to land, land improvements and buildings which were acquired on 1 November 2009.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Multiple Choice Questions

On 12 March 2013, Shoreham, Inc. acquired melting equipment for $45,600. The estimated life of the equipment is 6 years, with an estimated residual value of $2,400.

135. In its financial statements, Shoreham uses straight-line depreciation with the half-year convention. The book value of the equipment at 31 December 2014 will be: A. $26,600. B. $42,000. C. $34,800. D. Some other amount.

136. In its financial statements, Shoreham uses double-declining-balance depreciation with half-year convention. The book value of the equipment at 31 December, 2014 will be: A. $20,267. B. $12,667. C. $25,333. D. Some other amount.

137. Sam Dairy sold a delivery truck for cash of 86,800. The original cost of the truck was $336,000, and a loss of $53,200 was recognized on the sale. The accumulated depreciation at the date of sale must have been: A. $249,200. B. $145,600. C. $33,600. D. $196,000.

138. Lee Corporation purchases Presley Company's entire business for $2,700,000. The fair market value of Presley's net identifiable assets is $2,400,000. A. Presley should record goodwill of $300,000. B. Lee paid $300,000 for goodwill generated by Presley. C. Lee should charge the $300,000 excess paid for Presley Company directly to expense. D. Presley should record amortization over a period not to exceed 40 years.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

139. Throughout the current year, Chan Company treated sales taxes paid on purchases of PPE as revenue expenditures. As a result, the current year's: A. Profit is overstated. B. Revenue is overstated. C. Depreciation expense is understated. D. None of the above; payments of sales taxes should be treated as revenue expenditures.

On 5 May 2013, Lloyd purchased a machine for $84,000. The estimated life of the machine was 10 years, with an estimated residual value of $10,000. The service life in terms of "output" is estimated at 8,000 hours of operation.

140. Assume Lloyd uses straight-line depreciation with the half-year convention. Depreciation expense to be recognized in 2013 (the year of purchase) is: A. $7,400. B. $8,400. C. $3,700. D. Some other amount.

141. Assume Lloyd uses 200%-declining-balance depreciation with the half-year convention. Depreciation expense to be recognized in 2014 (the second year of ownership) is: A. $8,400. B. $13,120. C. $15,120. D. Some other amount.

142. Assume Lloyd uses 150%-declining-balance depreciation with the half-year convention. Depreciation expense to be recognized in 2013 (the year of purchase) is: A. $8,400. B. $6,300. C. $12,600. D. Some other amount.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

143. Assume Lloyd uses the units-of-output method and that the machine was in operation for 1,000 hours in 2013 and 1,800 hours in 2014. The book value of the machine at 31 December 2014 is: A. $48,100. B. $58,100. C. $25,900. D. Some other amount.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Short Answer Questions

On 8 April 2010, Dreamland Park purchased a ferris wheel for $300,000. The estimated life of the ferris wheel was 10 years, with an estimated residual value of $60,000. The service life in terms of output is estimated at 30,000 hours of operation. Compute the depreciation on this ferris wheel in 2010 and 2011 using the following methods. 144.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Louisville Farms, a breeder of racehorses, paid $432,000 cash for a prize-winning stallion on 1 January 2007. The stallion is depreciated on a straight-line basis, with depreciation for partial years rounded to the nearest month. Estimated useful life was nine years, with no residual value. After owning the animal for six years and five months, Louisville Farms sold the stallion on 31 May 2013, for cash of $85,000. Depreciation had last been recorded on 31 December, 2012.

145. Compute to the nearest full month depreciation for the fractional period from 1 January 2013 to 31 May of 2013. $______________

146. Compute the book value of the stallion at 31 May of 2013, the date of sale. $______________

147. Compute the gain or loss on the sale of the stallion. $______________ (gain/loss)

148. In the space provided below, prepare the journal entry to record the sale of the stallion on 31 May of 2013. (Use Breeding Stock as the title of the asset account. Assume that depreciation to date of sale already has been recorded.)

2013 31 May

General Journal

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Chapter 09 Property, Plant and Equipment, Intangible Assets and Natural Resources Answer Key

True / False Questions

1. Incidental costs incurred in the purchase of land that are charged to Land Improvements will affect profit at some future time. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-01 Determine the cost of PPE assets. Topic: Acquisition of Property, Plant and Equipment

2. To capitalize an expenditure means charging it to an asset account. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-02 Distinguish between capital expenditures and revenue expenditures. Topic: Acquisition of Property, Plant and Equipment

3. Charging an expenditure directly to an expense account is based on the assumption that the benefits of that expenditure have been used up in the current period. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-02 Distinguish between capital expenditures and revenue expenditures. Topic: Acquisition of Property, Plant and Equipment

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

4. The journal entry to record depreciation expense consists of a credit to Accumulated Depreciation and a debit to the asset being depreciated. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

5. Depreciation is a process of asset valuation. FALSE

6. Book value represents the cost of an asset that has yet to be allocated to expense. TRUE

7. The half-year convention allows us to take six months depreciation during the first year of an asset's life even if the asset was purchased on 25th January. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

8. The book value of an asset is equal to its cost plus accumulated depreciation. FALSE

9. The formula for the double-declining balance method of depreciation is: Remaining book value times the straight line rate is equal to depreciation expense. FALSE

10. The rule of consistency does not require a company to use the same method of depreciation from year to year for all assets. TRUE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

11. The term property, plant and equipment assets refers to long-lived assets acquired for use in business operations, rather than for resale to customers. TRUE

12. Any reasonable and necessary expenditures to place a newly acquired PPE asset in service should be debited to a separate asset account. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-01 Determine the cost of PPE assets. Topic: Acquisition of Property, Plant and Equipment

13. Sales tax on equipment is not part of the acquisition cost and should not be capitalized. FALSE

14. Land improvements are not subject to depreciation. FALSE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

16. The erroneous recording of a revenue expenditure as a capital expenditure will cause an overstatement of total revenue for the period. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-02 Distinguish between capital expenditures and revenue expenditures. Topic: Acquisition of Property, Plant and Equipment

17. In accounting, depreciation refers to a decline in the asset's current market value, not the allocation of the cost of an asset to expense. FALSE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

18. Just as there are depreciation methods to calculate the decline in value of assets, there are appreciation methods to record the increase in value of assets. FALSE

19. If an accelerated depreciation method is used for an asset with a useful life of five years, more depreciation expense would be recorded in the third year than in the fifth year. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

20. Revenue expenditures are a part of selling and administrative expenses. TRUE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

22. Once the estimated life is determined for a depreciable asset it can never be changed. FALSE

23. Annual depreciation expense is increased when salvage values are small. TRUE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

24. Most companies benefit by using accelerated depreciation methods for income tax purposes. TRUE

25. Goodwill is only recorded when the value of a company increases and not when it decreases in value. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

26. Straight-line is the most widely used depreciation method in financial statements, and declining-balance is the most widely used method in federal income tax returns. TRUE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

27. The tax basis of a depreciable asset generally is higher than the book value of that asset for financial reporting purposes. FALSE

28. Research and development costs should be capitalized to match the period of benefit. FALSE

29. The systematic write-off of intangible assets to expense is called depletion. FALSE

30. The statement of financial position always reflects a company's current values. FALSE

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

31. U. S. GAAP requires that a company should capitalize goodwill and adjust its value if subject to impairment. TRUE

32. A revenue expenditure is an operating expense. TRUE

33. A capital expenditure is charged to owners' capital. FALSE

34. The Sarbanes-Oxley Act requires that companies disclose whether they have a code of ethics that applies to the CEO, CFO, and Chief Accounting Officer. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Multiple Choice Questions

AACSB: Ethics AICPA BB: Industry AICPA FN: Risk Analysis Bloom's: Understand Difficulty: Easy Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

37. All of the following may be considered intangible assets except: A. Accounts receivables B. Copyrights C. Franchises D. Goodwill

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

40. All of the following assets are amortized except: A. Patents B. Franchises C. Copyrights D. Natural resources

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-04 Account for depreciation using methods other than straight-line or declining-balance. Topic: Other Depreciation Methods

9-53

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 09-01 Determine the cost of PPE assets. Topic: Acquisition of Property, Plant and Equipment

42. If the 150% declining balance method is being used and an asset has a useful life of 20 years what is the depreciation rate? A. 7.5% B. 10% C. 15% D. Some other amount

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

43. Machinery is purchased on 15 May 2009 for $50,000 with a $5,000 salvage value and a five year life. The half year convention is followed. What method of depreciation will give the highest amount of depreciation expense in year 2? A. Straight line B. Double declining balance C. 150% declining balance D. Amount cannot be determined Straight line: ($50, 000 - $5,000)/5 = $9,000 Double Declining Balance: $50,000  2/5 = $20,000/2 = $10,000: $40,000  2/5 = $16,000 150% Declining Balance $50,000  1.5/5 = $15,000/2 = $7,500; $42,500  1.5/5 = $12,750

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Evaluate Difficulty: Medium Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-04 Account for depreciation using methods other than straight-line or declining-balance. Topic: Other Depreciation Methods

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-01 Determine the cost of PPE assets. Topic: Acquisition of Property, Plant and Equipment

48. Coca-Cola's famous name printed in distinctive typeface is an example of: A. A trademark. B. A patent. C. A copyright. D. Goodwill.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

53. The legal life of most patents is: A. 5 years. B. 20 years. C. 40 years. D. 50 years.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

61. Which of the following would not be amortized? A. Oil well. B. Copyright. C. Franchise fee. D. Patent.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-04 Account for depreciation using methods other than straight-line or declining-balance. Topic: Other Depreciation Methods

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

64. Capital expenditures are recorded as: A. An expense. B. An asset. C. A liability. D. Income.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

66. Revenue expenditures are recorded as: A. An expense. B. An asset. C. A liability. D. Income.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-67

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

78. Which of the following assets is not subject to depreciation and whose usefulness does not decline over time? A. Patents. B. Copyrights. C. Land. D. Coal mine.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-08 Explain the cash effects of transactions involving PPE assets. Topic: Depreciation

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

9-71

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-72

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-01 Determine the cost of PPE assets. Topic: Acquisition of Property, Plant and Equipment

9-73

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Topic: Depreciation

On 30 April 2013, Tilton Products purchased machinery for $88,000. The useful life of this machinery is estimated at 8 years, with an $8,000 residual value.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-76

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 09-04 Account for depreciation using methods other than straight-line or declining-balance. Topic: Other Depreciation Methods

9-77

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-78

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Hard Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

9-79

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-80

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

102. Early in the current year, Tokay Co. purchased the Silverton Mine at a cost of $200,000,000. The mine was estimated to contain 200,000 tons of ore and to have a residual value of $50,000,000 after mining operations are completed. During the year, 105,000 tons of ore were removed from the mine. At year-end, the book value of the mine (cost minus accumulated depletion) is: A. $150,000,000. B. $121,250,000. C. $78,750,000. D. Less than $100,000,000. ($200,000,000 - $50,000,000)/200,000 = $75  105,000 = $78,750,000; $200,000,000 - $78,750,000 = $121,250,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-07 Account for the depletion of natural resources. Topic: Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

9-82

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-83

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-07 Account for the depletion of natural resources. Topic: Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 09-07 Account for the depletion of natural resources. Topic: Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Essay Questions

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Essay Questions

114. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter: Half-year convention

Capital expenditure

Accelerated depreciation

Revenue expenditure

Straight-line

Goodwill

Accumulated depreciation

Research

depletion

(a) Revenue expenditure, (b) Accumulated depreciation, (c) None (The statement describes the alternative to the half-year convention), (d) Goodwill, (e) Research ,(f) None (Accelerated depreciation methods take more depreciation in the early years and less in later years), (g) Accelerated depreciation

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 09-01 Determine the cost of PPE assets. Learning Objective: 09-08 Explain the cash effects of transactions involving PPE assets. Topic: Plant and Intangible Assets

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-89

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-91

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-92

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

9-93

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

(a) Amount of cash payment = $125,000 ($160,000 - $35,000) (b) Gain on disposal = $15,000 ($35,000 - $20,000) (c) Cost assigned new van in financial statement = $160,000 ($125,000 + $35,000)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

(b) Assume Domino sells the computer system on 3 October 2009, for $26,650.

(a) Depreciation Recognized in Financial Statements

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5

9-98

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Computations (a) Depletion recognized in first year = $64,000,000 = [($600,000,000 - $120,000,000)  6,000,000 tons]  800,000 tons (b) Cost of goods sold = $48,000,000 = $80 per ton  600,000 tons

9-100

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Current assets

Profit

Taxable income

Net cash flow (all activities combined)

(a)

_________

(b)

_________

(c)

_________

(d)

_________

Transaction

Current assets

Profit

Taxable income

Net cash flow (all activities combined)

(a)

(b)

(c)

(d)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

9-101

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

128. Briefly explain the difference between a revenue expenditure and a capital expenditure. Capital expenditures are recorded as assets on the statement of financial position and are depreciated over time, eventually becoming an expense on the income statement. Revenue expenditures are recorded as an expense on the income statement in the current period.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-02 Distinguish between capital expenditures and revenue expenditures. Topic: Acquisition of Property, Plant and Equipment

129. Effects of depreciation on profit and cash flows In its financial statements, Flysafe Airlines has for many years depreciated its aircraft over an estimated useful life of 12 years. In preparing this year's financial statements, management decided to revise the estimate from 12 years to 15. Briefly explain how this revision in estimated life is likely to affect this year's: (a) Profit. (b) Net cash flow. (c) Taxable income. (a) By increasing the estimated useful life of depreciable assets, management reduces the amount of depreciation expense recognized for the current year. Therefore, this change in estimated useful life will increase the amount of profit reported for the current year. (b) The recognition of depreciation expense involves no immediate cash outlay. Therefore, changing the assumptions underlying the computation of depreciation expense has no effect upon cash flows of the current period. (c) The useful life used to depreciate assets in financial statements has no effect upon the depreciation reported for tax purposes or, therefore, upon taxable income. For tax purposes, Flysafe Airlines will continue to depreciate its aircraft over the stipulated tax recovery period.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

130. Gains and losses in financial statements and tax returns Explain why the amount of gain or loss resulting from the sale of a depreciable asset usually differs between the seller's financial statements and income tax return. In which of these accounting reports is the gain usually larger (or the loss smaller)? Explain your reasoning. The gain or loss on disposal of a PPE asset for financial reporting purposes is the difference between the sales price and the asset's book value. For tax purposes, the gain or loss is the difference between sales price and the asset's tax basis. Because different depreciation methods generally are used for financial reporting purposes and tax purposes, book value and tax basis often are different amounts. This, in turn, leads to different amounts of gain or loss upon disposal of the asset. Most companies use straight-line depreciation for financial reporting purposes and accelerated methods in their income tax returns. Thus, tax basis tends to be lower than book value, resulting in a larger gain (or smaller loss) being reported in the income tax return.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Disposal of Property, Plant and Equipment

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

131. Goodwill-financial reporting considerations Cabot Corporation's statement of financial position at 31 December 2013 includes an asset entitled goodwill in the amount of $900,000, net of accumulated amortization. (a) Briefly explain what is meant by the term goodwill. (b) Under what circumstances is goodwill recorded in the accounting records? Include in your Answer a specific situation in which Cabot would have recorded the goodwill mentioned above. (a) Goodwill is an intangible asset; the dollar figure initially assigned to this intangible asset represents the present value of future earnings in excess of the normal return on a business's net identifiable assets. Goodwill exists whenever a company can generate future earnings in excess of what is considered a "normal" return on its net identifiable assets, relative to other firms in its industry. (b) Goodwill is recorded in the accounting records only when it is purchased; this situation usually occurs only when a going business is purchased in its entirety. The fact that Cabot reports goodwill in its statement of financial position indicates that Cabot purchased an existing business, paying an amount in excess of the value of the identifiable net assets of the purchased business. The $900,000 figure is net of accumulated amortization for an unknown number of years, therefore the initial amount of the goodwill paid for by Cabot cannot be determined precisely.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

132. Research and development-financial reporting Alert Industries has spent $5 billion over the last three years in developing a new drug labeled BJ13. FDA approval is expected by the end of the month, at which time the drug will be available for sale. None of Alert's competitors has a product similar to BJ13, and the medical community is anxiously awaiting availability of this drug. Although BJ13 promises to be a "wonder drug" with huge financial success, Alert's income statements for the last few years have shown substantial losses and Alert's statement of financial position only includes $ 0.3 billion product BJ13 among the assets of the business. Explain why one of Alert's seemingly most valuable assets apparently has been reported for only $0.3 billion in the statement of financial position, and why Alert's income statements for the past few years reported substantial losses. IFRS currently require that amounts spent for research be expensed as incurred and amounts spent for development be capitalized as intangible assets if and only if all the following six specific recognition criteria are met: 1. The technical feasibility of completing the intangible asset for use or sale; 2. The entity intends to complete the intangible asset and use or sell it; 3. The entity has the ability to use or sell the intangible asset; 4. How the intangible asset will generate probable future economic benefits, for example, the existence of a market for the output of the intangible asset, or the usefulness of the intangible asset for internal purpose; 5. The availability of adequate technical, financial, and other resources to complete the development and to use or sell the intangible asset; and 6. The entity’s ability to measure reliably the expenditure attributable to the intangible asset during its development. This has resulted in $4.7 billion of expenses for R & D over the last three years, which contributed to and may have been responsible for the substantial losses reported by Alert. Because $4.7 billion spent on R & D were expensed, only $0.3 billion has been capitalized or reported as assets. In the case of firms heavily involved in R & D activities, there are frequently no dollar amounts, or very insignificant amounts, in the statement of financial position representing these companies' most valuable assets.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 09-06 Explain the nature of intangible assets; including goodwill. Topic: Intangible Assets

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 09-01 Determine the cost of PPE assets. Learning Objective: 09-03 Compute depreciation by the straight-line and declining-balance methods Learning Objective: 09-05 Account for the disposal of PPE assets. Topic: Acquisition of Property, Plant and Equipment, Depreciation, Disposal of Property, Plant and Equipment

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

134. The following expenditures are related to land, land improvements and buildings which were acquired on 1 November 2009.

Required: Determine the cost of the land, the building and the improvements (Round to the nearest dollar) Prepare journal entries on 31 December 2009 for depreciation assuming the building will have a useful life of 20 years and no residual value. Use double declining balance method and the half-year convention. Depreciate the land improvements using straight-line method, a 5 year life, to the nearest month with zero residual value (to the nearest dollar). The cost of the land: $309,800 ($262,800 + $20,000 + $8,500 + $12,500 + $3,500 + $2,500) The cost of the building: $110,250 ($102,200 + $6,750 + $1,300) The cost of the land improvements: $17,000 ($7,000 + $9,250 + $750) Journal entries:

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

134. The following expenditures are related to land, land improvements, and buildings, which were acquired on November 1, 2009.

Required: Determine the cost of the land, the building and the improvements (Round to the nearest dollar) Prepare journal entries on 31 December, 2009 for depreciation assuming the building will have a useful life of 20 years and no residual value. Use double declining balance method and the half-year convention. Depreciate the land improvements using straight-line method, a 5 year life, to the nearest month with zero residual value (to the nearest dollar). The cost of the land is $309,800 ($262,800 + $20,000 + $8,500 + $12,500 + $3,500 + $2,500) The cost of the building is $110,250 ($102,200 + $6,750 + $1,300) The cost of the land improvements is $17,000 ($7,000 + $9,250 + $750) Journal entries

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Multiple Choice Questions

On 12 March 2013, Shoreham, Inc. acquired melting equipment for $45,600. The estimated life of the equipment is 6 years, with an estimated residual value of $2,400.

136. In its financial statements, Shoreham uses double-declining-balance depreciation with half-year convention. The book value of the equipment at 31 December 2014, will be: A. $20,267. B. $12,667. C. $25,333. D. Some other amount.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

139. Throughout the current year, Chan Company treated sales taxes paid on purchases of PPE assets as revenue expenditures. As a result, the current year's: A. Profit is overstated. B. Revenue is overstated. C. Depreciation expense is understated. D. None of the above; payments of sales taxes should be treated as revenue expenditures.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

143. Assume Lloyd uses the units-of-output method and that the machine was in operation for 1,000 hours in 2013 and 1,800 hours in 2014. The book value of the machine at 31 December 2010 is: A. $48,100. B. $58,100. C. $25,900. D. Some other amount.

Short Answer Questions

144.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

145. Compute to the nearest full month depreciation for the fractional period from 1 January 2013 to 31 May of 2013. $______________

Depreciation for the five months ended 31 May 2013 [($432,000 cost  9 years) x 5/12] .......................................

$ 20,000

146. Compute the book value of the stallion at 31 May of 2013, the date of sale. $______________

Book value of the stallion at 31 May 2013 Original cost................................................................. Depreciation for 6 years (year 1 through year 6) ($432,000  9) x 6 years.............................................. $288,000 Depreciation for 5 months in year 7 (see part a) ........ 20,000 Accumulated depreciation to 31 May 2013 ................ Book value of stallion at 31 May 2013 ..............

$432,000

(308,000) $ 124,000

147. Compute the gain or loss on the sale of the stallion. $______________ (gain/loss) Loss on sale of the stallion: Sales price $85,000 - $124,000 book value ................

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$ 39,000 loss

Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

2013 31 May

Year 2013 31 May

General Journal

General Journal Loss on Sale of Breeding Stock

39,000

Cash

85,000

Accumulated Depreciation, Breeding Stock

308,000

Breeding Stock

432,000

To record sale of stallion at price below book value.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

CHAPTER 9 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

In which of the following situations should the named company not record any depreciation expense on the asset described? a Commuter Airline is required by law to maintain its aircraft in “as good as new” condition. b Metro Advertising owns an office building that has been increasing in value each year since it was purchased. c Computer Sales Company has in inventory a new type of computer designed “never to become obsolete.” d None of the above answers is correct-in each case, the named company should record depreciation on the asset described.

Which of the following statements is (are) correct? a Accumulated depreciation represents a cash fund being accumulated for the replacement of PPE assets. b The cost of a machine includes the cost of repairing damage to the machine during the installation process. c A company may use different depreciation methods in its financial statements and its income tax return. d The use of an accelerated depreciation method causes an asset to wear out more quickly than does use of the straight-line method.

On April 1, 2012, Sanders Construction paid $10,000 for equipment with an estimated useful life of 10 years and a residual value of $2,000. The company uses the double-declining-balance method of depreciation and applies the half-year convention to fractional periods. In 2013, the amount of depreciation expense to be recognized on this equipment is: a $1,600. b $1,400. c $1,280. d Some other amount.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

Evergreen Mfg. is a rapidly growing company that acquires more equipment every year. Evergreen uses straight-line depreciation in its financial statements and an accelerated method in its tax returns. Identify all correct statements: a Using straight-line depreciation in the financial statements instead of an accelerated method increases Evergreen’s reported profit. b Using straight-line depreciation in the financial statements instead of an accelerated method increases Evergreen’s annual net cash flow. c Using an accelerated method instead of straight-line in income tax returns increases Evergreen’s cash flow from operating activities. d As long as Evergreen keeps growing, it will report more depreciation in its income tax returns each year than it does in its financial statements.

Lee Company sold a PPE asset that originally had cost $50,000 for $22,000 cash. If Lee correctly reports a $5,000 gain on this sale, the accumulated depreciation on the asset at the date of sale must have been: a $33,000. b $28,000. c $23,000. d Some other amount.

In which of the following situations would Maritime Industries include goodwill in its statement of financial position? a The fair market value of Maritime’s net identifiable assets amounts to $2,000,000. Normal earnings for this industry are 15% of net identifiable assets. Profit for the past five years has averaged $390,000. b Maritime spent $800,000 during the current year for research and development for a new product which promises to generate substantial revenue for at least 10 years. c Maritime acquired Baxter Electronics at a price in excess of the fair market value of Baxter’s net identifiable assets. d A buyer wishing to purchase Maritime’s entire operation has offered a price in excess of the fair market value of Maritime’s net identifiable assets.

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Chapter 09 – Property, Plant, and Equipment, Intangible Assets and Natural Resources

SOLUTIONS TO CHAPTER 9 SELF-TEST QUESTIONS FROM TEXTBOOK 1 c (Depreciation is not recorded on inventory) 2 c 3 d $1,800 [2012 depreciation = $10,000 x 20% x ½) = $1,000; 2013 depreciation = ($10,000 – $1,000) x 20% = $1,800] 4 c, d 5 a ($22,000 selling price - $17,000 book value = $5,000 gain; $50,000 cost - $17,000 book value = $33,000 accumulated depreciation) 6 c

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Chapter 10 – Liabilities

Chapter 10 Liabilities True / False Questions

1. A liability that is known to exist but the precise dollar amount is not known is called a possible liability True False

2. Bonds secured by a pledge of specific assets are called debenture bonds. True False

3. Junk bonds are attractive to investors because they carry a high rate of interest and are usually convertible into a specified number of shares. True False

4. Dividends paid by a corporation to its shareholders are tax deductible by the corporation but interest paid on bonds is not. True False

5. When bonds are sold by one investor to another, they sell at market price plus accrued interest since the last payment date. True False

6. When bonds are issued at a discount, the borrower must pay more at maturity than the amount originally received. True False

Chapter 10 – Liabilities

7. The account Discount on Bonds Payable actually represents interest expense and will be amortized over the life of the bond. True False

8. A contingent liability is recorded in the accounting records when it is probable that a loss has been incurred and the amount of the loss is known. True False

9. A commitment, such as a contract to pay a football player $50,000,000 a year for five years, should be listed as a noncurrent liability. True False

10. If a lease transfers ownership of the property to the lessee at the end of the lease term, it should be regarded as an operating lease. True False

11. When a company has a fully funded pension plan, they only need to record the present value of pension payments as a current liability. True False

12. Gross pay less withholding tax and less worker's compensation is considered net pay. True False

13. Provisions, contingencies and commitments are usually reported in the noncurrent liability section of the financial statements. True False

Chapter 10 – Liabilities

14. The amount of income tax and medical care tax withheld from an employee is used to pay the employer's percentage of the tax. True False

15. When a company sells bonds, the bondholders are permitted to vote for the board of directors. True False

16. The combination of liabilities and owners' equity used in financing the assets of a business is called the company's capital structure. True False

17. Prepayments and owners' equity are both sources of financing. True False

18. The current portion of long-term debt should be reported separately in the current liabilities section of the statement of financial position. True False

19. When money is borrowed by issuing a note payable, the borrower records a liability equal to the maturity value of the note. True False

20. The most common types of payroll deductions are taxes, insurance premiums, employee savings, and union dues. True False

Chapter 10 – Liabilities

21. Social security and medical care taxes have a cap on employees' salaries where the tax is ended. True False

22. If a long-term debt is to be paid off in monthly installments over a 5-year period, the entire principal should be classified as a noncurrent liability. True False

23. There is a tax advantage for a company to issue bonds in lieu of shares. True False

24. The withholding of taxes from an employee's pay is a liability to the company. True False

25. Bonds payable are a means of dividing a very large, long-term liability among many creditors some of whom may participate in the loan only for a short period of time. True False

26. Liabilities that fall due within one year or within the operating cycle are classified as current liabilities. True False

27. In the marketplace, bond prices tend to fluctuate directly with changes in interest rates. True False

28. Convertible bonds can be exchanged for ordinary shares at the option of the company. True False

Chapter 10 – Liabilities

29. In a long-term finance lease, the lessor views a portion of each lease payment as interest expense. True False

30. Payments of pensions and other benefits to retired workers are recognized as expense in the period payment is made. True False

31. Sinking funds make a bond issue less attractive to the investor. True False

32. Deferred income taxes eventually come due. True False

33. If a bond is callable, the call price is usually lower than the face value of the bond. True False

34. The quick ratio is a more stringent measure of solvency than the current ratio. True False

35. A high interest coverage ratio is a sign of creditworthiness. True False

36. Contingent liabilities stem from past events. True False

Chapter 10 – Liabilities

37. Bonds, with the same face value, issued at a premium will have a higher maturity value than bonds issued at a discount True False

38. Contingent liabilities should be recorded in the accounting records whenever it is probable that a loss has been incurred and the amount of loss might be material in amount. True False

39. The account Discount on Bonds Payable has a debit balance and should appear on the statement of financial position as an asset; the account Premium on Bonds Payable has a credit balance and should be classified as a liability. True False

40. The future value will always be less than the present value. True False

41. The amortization of discount on bonds payable reduces the amount of interest expense recognized during the period. True False

42. The amortization of bond discount by the issuing company decreases the carrying amount of its bonds payable. True False

43. A primary means used by credit rating agencies to evaluate a company's ability to pay its debts is to compare total assets to total liabilities. True False

Chapter 10 – Liabilities

44. Companies may understate liabilities so as not to be perceived as risky by credit rating agencies. True False

45. Special purpose entities (SPEs) are established by corporations to accomplish specific purposes such as borrowing money. True False

Multiple Choice Questions

46. U. S. GAAP requires that convertible bonds be classified on the statement of financial position as: A. Part liability, part equity B. A liability C. Either a liability or equity D. As an asset

47. International accounting standards require that convertible bonds be classified on the statement of financial position as: A. Part liability, part equity B. A liability C. Either a liability or equity D. As an asset

48. Off balance sheet financing may involve either: A. An operating lease B. A special purpose entity C. Both of the above D. Neither of the above

Chapter 10 – Liabilities

49. Employers are normally required to pay all of the following on the wages paid to each employee except: A. Social security taxes B. Worker's compensation insurance C. Medical care taxes D. Health insurance benefits.

50. In preparing an amortization table, it is necessary to include: A. The original amount of the liability, the amount of periodic payments and the interest rate. B. The original amount of the liability, the amount of periodic payments and the amount of past payments. C. The monthly payment, the total amount of past payments and the original amount of the liability. D. The total amount of past payments, the interest rate and the amount of periodic payments.

Chapter 10 – Liabilities

51. A company issues $50 million of bonds at par on 1 January 2014. The bonds pay 10% interest semi-annually on 12/31 and 6/30 and mature in 20 years. The journal entry when the bonds are sold is: A)

A. Option A B. Option B C. Option C D. Option D

52. The amount of the present value of a future cash receipt will depend upon A. The length of time until the money is received. B. The amount of money to be received. C. The required rate of return. D. The amount of money to be received, the length of time until the money is received, and the required rate of return.

Chapter 10 – Liabilities

53. The salaries tax paid by an employer is: A. Greater than the amount paid by the employee. B. Less than the amount paid by the employee. C. Equal to the amount paid by the employee. D. The employer does not pay salaries tax, only the employee pays the tax.

54. When a company sells bonds between interest dates they will pay which of the following at the first interest payment date? A. An amount less than the stated interest rate times the principal. B. An amount more than the stated interest rate times the principal. C. An amount equal to the stated interest rate times the principal. D. The company may skip the first interest payment date since the appropriate time has not passed.

55. A $1,000 bond that sells for 104 has a selling price of: A. $1,004 B. $1,040 C. $1,400 D. $1,000

56. Which of the following is not an accurate statement regarding the distinction between debt and equity? A. Only equity is considered a source of financing for operations of the business, since debt must be repaid at a specified maturity date. B. If a business ceases operations and liquidates, claims of all creditors have legal priority over claims of the shareholders. C. Most debt requires the borrower to pay interest; equity financing does not obligate the company to make a specified payment. D. The providers of equity are owners of the business; the providers of borrowed funds are creditors.

Chapter 10 – Liabilities

72. Temple Corporation purchased a piece of real estate, paying $4,000,000 cash and financing $7,000,000 of the purchase price with a 10-year, 15% installment note. The note calls for equal monthly payments that will result in the debt being completely repaid by the end of the tenth year. In this situation: A. The aggregate amount of the monthly payments is $7,000,000. B. Each monthly payment is greater than the amount of interest accruing each month. C. The portion of each payment representing interest expense will increase over the 10-year period, since principal is being paid off, yet the payment amount does not decrease. D. The portion of each monthly payment representing repayment of principal remains the same throughout the 10-year period.

58. If a bond is selling at 103, it is selling at: A. Maturity value and yields a 2% interest rate. B. A discount. C. A premium. D. $103 per bond.

59. In the United States, which of the following payroll costs are shared equally by the employer and the employee? A. State unemployment taxes. B. Workers' compensation. C. Social security. D. Federal unemployment taxes.

60. Interest payable on a loan becomes a liability: A. When the note payable is issued. B. As it accrues. C. At the maturity date. D. When the borrowed money is received.

Chapter 10 – Liabilities

61. An employer's total payroll-related costs always exceed the wages and salaries earned by employees by: A. Amounts withheld from employees' pay. B. Payroll taxes and mandated programs such as workers' compensation insurance. C. 50%. D. None of the above. Employers' payroll-related costs actually are less than the gross wages and salaries earned by employees, because of amounts withheld from employees' checks.

62. Bonds, with the same face value, issued at a premium will: A. Have a greater maturity value than a bond issued at a discount. B. Have a lesser maturity value than a bond issued at a discount. C. Have the same maturity value as a bond issued at a discount. D. Have a different maturity value than a bond issued at a discount, depending upon the interest rate and maturity date.

63. The amounts that a business withholds as taxes from an employee's earnings: A. Represent payroll taxes expense to the employer. B. Are deposited in an interest-bearing account until the employee is terminated. C. Represent miscellaneous revenue to the employer. D. Represent current liabilities to the employer.

64. Unearned revenue: A. Appears on the income statement as income. B. Appears on the income statement as a reduction to income. C. Appears on the income statement as a liability. D. Appears on the statement of financial position as a liability.

Chapter 10 – Liabilities

The average employee of Girard Corporation earns gross pay of $175,000 per year. The following table shows the relative size of various payroll amounts by expressing each as a percentage of total wages and salaries expense (gross pay):

Workers’ compensation insurance Social security and medical care taxes (employer’s portion) Pension and other postretirement costs expense (paid by employer) Unemployment taxes expense

6% 8% 5% 2%

In addition, Girard pays $825 per month per employee for group health insurance.

Chapter 10 – Liabilities

65. Which of the following is the largest payroll-related expense incurred by Girard? A. Group health insurance premiums. B. Income taxes expense. C. The employer's share of social security taxes. D. Wages and salaries expense.

66. Which of the following represents the second largest payroll related expense incurred by Girard? A. Group health insurance premiums. B. Income taxes expense. C. The employer's share of social security taxes and medical care taxes. D. Wages and salaries expense.

67. Which of the following represents the largest amount withheld from employees' paychecks? A. Workers' compensation insurance. B. Social Security and medical care. C. Personal income taxes. D. Group health insurance.

68. When a corporation has a right to redeem bonds in advance of the maturity date, the bond is considered a: A. Convertible bond. B. Callable bond. C. Junk bond. D. Debenture bond.

69. Sinking funds usually appear on the statement of financial position as: A. Current asset. B. Long-term investment. C. Current liability. D. Appropriation of retained earnings.

Chapter 10 – Liabilities

70. A bond that is not secured is also known as: A. A sinking fund. B. A mortgage. C. A debenture. D. A junk bond.

71. Management has both the intent and the ability to refinance a liability maturing in four months by taking out a new loan at the due date which would not be due for several years. How would this situation be reported in financial statements prepared as of today's date? A. The original liability is classified as current, with a footnote describing management's plan for refinancing. B. The original liability is classified as current and the new loan is reported as a long-term liability. C. The original liability is classified as long-term; the new loan is not included in liabilities at this date. D. The original liability need not be reported at all; only the new loan is reported as a long-term liability.

72. The pension expense of the current period is equal to: A. Amounts paid to retired workers during the current period. B. The estimated future pension benefits earned by today's workers during the current period. C. The present value of the estimated future pension benefits earned by today's workers during the current period. D. Cash payments made during the period to the trustee of the pension plan.

Chapter 10 – Liabilities

73. When an installment note is structured as a "fully amortizing" loan with equal monthly payments (such as a traditional mortgage): A. The portion of each payment allocated to interest expense is the same each month. B. The sum of the monthly payments is equal to the amount of the installment note (mortgage). C. The difference between the sum of all monthly payments and the principal amount of the note constitutes interest. D. The portion of each payment allocated to repayment of principal decreases each month as the mortgage is paid off.

74. In relation to a bond issue, the role of the underwriter is to: A. Guarantee payment to bondholders of both the periodic interest payments and the maturity value. B. Purchase the entire bond issue from the issuing corporation and then sell the bonds to the public. C. Represent the interests of the bondholders and, if necessary, to take legal action on their behalf. D. Maintain a subsidiary ledger of individual bondholders and mail out the periodic interest checks.

75. If a bond is issued at par and between interest dates: A. The cash received by the corporation will be less than the face value of the bond. B. The cash received by the corporation will be greater than the face value of the bond. C. The cash received by the corporation will be the same as the face value of the bond. D. Interest receivable will be debited.

76. The term "junk bonds" describes bonds with: A. Low interest rates. B. Indefinite maturity dates. C. Low maturity values. D. High risk.

Chapter 10 – Liabilities

77. One advantage of issuing bonds instead of shares is that: A. Interest is tax deductible whereas dividends are not. B. Bonds have a longer maturity date. C. Interest rates are lower than dividend rates. D. The issuance of bonds does not affect earnings per share.

78. Choose the statement that correctly summarizes the tax advantage of raising money by issuing bonds instead of ordinary shares: A. The amount paid by the corporation to redeem bonds at maturity date is deductible in computing income subject to corporate income tax. B. Interest payments are deductible in determining income subject to corporate income tax; dividends are not deductible. C. A corporation must pay tax on the sales price of shares issued, but is not taxed on the amount received when bonds are issued. D. Both interest and dividends paid are deductible in computing taxable income, but since interest must be paid annually, the corporation usually gets a larger tax deduction over the life of the bonds payable.

79. Elm Corporation plans to invest $300 million to earn about 15% before income taxes. The company is considering whether it should raise the $300 million by issuing 10% bonds payable or share capital. If the company issues the bonds, it will probably report: A. Lower profit and lower income taxes expense than if it issues shares. B. Higher profit and higher income taxes expense than if it issues shares. C. Lower profit and higher income taxes expense than if it issues shares. D. Higher profit and lower income taxes expense than if it issues shares.

80. The current portion of long-term debt should be reported: A. Separately in the noncurrent liabilities section of the statement of financial position. B. In the noncurrent liabilities section of the statement of financial position, along with the other long-term debt. C. In the current liabilities section of the statement of financial position. D. In a separate section of the statement of financial position, between noncurrent liabilities and shareholders' equity.

Chapter 10 – Liabilities

81. An operating lease: A. Creates an asset and a liability on the statement of financial position. B. Is a form of off-balance sheet financing. C. Is always preferable to a finance lease. D. Transfers title to the asset being leased.

82. Suppose investors decided to sell their holdings of shares in order to purchase outstanding bonds payable and as a result, the prices of bonds payable increased. What would be the likely impact on market interest rates? A. Market interest rates will be unaffected. B. Market interest rates will increase. C. Market interest rates will fall. D. Although interest rates will change, it is impossible to predict the direction of change.

83. Which one of the following is not considered a criterion to capitalize a lease? A. The lease contains a bargain purchase option. B. The lease transfers ownership at the end of the lease term. C. The lease term is more than 75% of economic life of the property. D. The present value of minimum lease payments is less than 90% of the fair market value of the asset.

84. Which of the following payroll taxes do not stop once an employee reaches a certain level of income: A. Medical care taxes. B. Social security taxes. C. Unemployment taxes. D. Medicare, Social security, and unemployment taxes all have a cap on salaries where the tax ends. 85. The price at which a bond sells is equal to the: A. Maturity value of the bonds plus the present value to investors of the future interest payments. B. Sum of the future interest payments, minus the maturity value of the bonds. C. Present value to investors of the future principal and interest payments. D. Sum of the future interest payments, plus the maturity value of the bonds.

Chapter 10 – Liabilities

86. After bonds have been issued, their market value can be expected to: A. Rise as any premium is amortized B. Fall if interest rates rise. C. Fall as any discount is amortized. D. Rise if interest rates rise.

87. The amortization of a bond discount: A. Decreases the carrying amount of a bond and increases interest expense. B. Decreases the carrying amount of a bond and decreases interest expense. C. Increases the carrying amount of a bond and increases interest expense. D. Increases the carrying amount of a bond and decreases interest expense.

88. Which of the following does not affect the market price of an outstanding bond issue? A. Fluctuations in the current market rate of interest. B. The credit rating of the issuing corporation. C. The price at which the bonds were originally issued. D. The length of time remaining until the bonds' maturity date.

89. Each of the following must be disclosed in the financial statements, except: A. The total amounts of long-term debt maturing in each of the next five years. B. The company's debt ratio and interest coverage ratio for the current year. C. Provisions, when a reasonable possibility exists that a material loss has been incurred. D. The fair value of noncurrent liabilities when this value is significantly different from the amount shown in the statement of financial position.

90. A finance lease is recorded in the accounting records of the lessee by an entry: A. Debiting Rent Expense and crediting Cash each time a lease payment is made. B. Debiting Cash and crediting Rental Revenue each time a lease payment is received. C. Debiting an asset account and crediting a liability account for the present value of the future lease payments. D. Debiting an asset account and crediting Sales for the present value of the future lease payments.

Chapter 10 – Liabilities

91. The interest coverage ratio: A. Is computed by dividing total liabilities by annual interest expense. B. Is computed by dividing liquid assets by annual required interest payment. C. Indicates the percentage of total assets that are financed with borrowed money. D. Measures the number of times the annual interest expense could be covered by annual income from operations.

92. Which of the following is an example of a contingent liability that should be disclosed in a footnote to a company's financial statements? A. The president of the company has threatened to resign if the board of directors does not vote to increase executive salaries. B. A lawsuit has been brought against the company, but the company hopes to prevail in the suit and thereby avoid any liability. C. The allowance for uncollectible accounts receivable is estimated at $200,000. D. The company owns special-purpose machinery which, if sold, would probably bring a price less than its current book value.

93. A company with a fully funded pension plan: A. Recognizes no pension expense. B. Reports no noncurrent liability for future pension payments. C. Does not utilize the services of a trustee to operate the pension plan. D. Recognizes pension expense equal to the cash payments made to retirees during the current period.

94. The amortization of a bond premium: A. Decreases the carrying amount of a bond and increases interest expense. B. Decreases the carrying amount of a bond and decreases interest expense. C. Increases the carrying amount of a bond and increases interest expense. D. Increases the carrying amount of a bond and decreases interest expense.

Chapter 10 – Liabilities

95. In estimating annual pension expense, which of the following factors would not be taken into consideration? A. Current financial condition of the company. B. Expected rate of return to be earned on pension fund assets. C. Employee turnover rates. D. Compensation levels and estimated rate of pay increases.

Chapter 10 – Liabilities

96. Is the present value of an amount A. Always greater than the future value. B. Always less than the future value. C. Always equal to the future value. D. Greater than, less than, or equal to the future value depending upon interest rates and the time period involved.

97. Pension expense is: A. The present value of the estimated future pension benefits earned by employees as a result of their services during the period. B. The amount funded to the pension in a given year. C. The future value of rights granted to employees as a result of their services during the period. D. The amount withdrawn from the pension fund to pay retirees during the period.

98. Which of the following is not true about postretirement benefits? A. Postretirement costs should be recognized as expense as the workers earn the right to receive the benefits. B. Most corporations have fully funded their postretirement benefits. C. Unfunded postretirement costs are a non-cash expense. D. A corporation's liability for postretirement benefits is equal to the present value of estimated future payments.

99. A liability for deferred taxes represents: A. Taxes on earnings already reported in the income statement, but that will be taxed in future periods. B. Income taxes already paid on earnings which have not yet been reported in the company's income statement. C. Income tax obligations being disputed with the Internal Revenue Service. D. Income taxes levied in prior years which are now past due.

Chapter 10 – Liabilities

100. In a statement of cash flows, most interest payments are classified as: A. Operating activities. B. Non-operating activities. C. Investing activities. D. Current liabilities.

101. Using different accounting methods on financial statements and tax returns will create: A. No effect upon the statement of financial position, only the income statement. B. No effect upon the statement of financial position nor the income statement. C. A deferred tax liability. D. An illegal situation.

102. The interest coverage ratio is computed by dividing: A. Profit by interest expense. B. Operating profit by interest expense. C. Interest expense by profit. D. Interest expense by operating profit.

103. A call provision on a bond A. Permit the corporation to redeem the bonds at a specified price. B. Allow the corporation to revise the stated interest rate. C. Allow the corporation to revise the maturity date. D. Always create the lowest price at which the bond will sell for.

104. Which of the following statistics is of more significance to a long-term creditor than to a short-term creditor? A. Interest coverage ratio. B. Receivables turnover rate. C. Working capital. D. Quick ratio.

Chapter 10 – Liabilities

105. The basic measure of the amount of leverage being applied within the capital structure of an organization is the: A. Interest coverage ratio. B. Debt ratio. C. Return on assets. D. Return on equity.

106. The principal amount of a bond is: A. The total future interest charges. B. The unpaid balance exclusive of any interest charges. C. The unpaid balance plus any future interest charges. D. The maturity value less any currently unpaid balances.

107. Which of the following is not a characteristic of a provision? A. The liability is known to exist. B. The precise dollar amount cannot be determined until a later date. C. The liability should not be recorded in the accounting records until future events have determined the exact amount. D. The liability stems from past transactions.

Chapter 10 – Liabilities

108. Commitments, such as contracts for future transactions: A. Are classified as liabilities. B. Are classified as assets. C. Are footnoted in financial statements, if material. D. Are only disclosed if negative due to the principle of conservatism.

109. Which of the following is an example of a contingent liability? A. A lawsuit pending against a restaurant chain for improper storage of perishable food items. B. The liability for future warranty repairs on computers sold during the current period. C. A corporation's long-term employment contract with its chief executive officer. D. A liability for notes payable with interest included in the face amount.

110. Which of the following ratios and rates that measure debt-paying ability focuses on the long-term position of a company? A. Quick ratio. B. Inventory turnover. C. Current ratio. D. Debt ratio.

111. Ultimate Company is a defendant in a lawsuit alleging damages of $3 billion. The litigation is expected to continue for several years, and no reasonable estimate can be made at this time of Ultimate Company's ultimate financial responsibility. This situation is an example of: A. Off-balance-sheet financing. B. A contingent liability which should be disclosed in notes to Ultimate Company's financial statements. C. A provision which must appear in Ultimate Company's statement of financial position. D. A loss in purchasing power caused by inflation.

Chapter 10 – Liabilities

112 The Music House issues a contract to a new recording artist to produce a number of albums over the next five years at $1 million per album. This situation is an example of: A. A contingent liability which should be recorded in the accounting records. B. A contingent liability requiring footnote disclosure. C. A provision, since the number of albums to be produced is not yet determined. D. A commitment which, if material, may be disclosed in a footnote.

113. A discount on bonds payable is best described as: A. An element of future interest expense. B. A bonus paid by the bondholders to the issuing corporation because of the unusually high interest rate stated in the bonds. C. The present value of the future interest payments of bond interest and principal. D. An amount below par which the bondholders may be called upon to make good.

114. Deferred taxes are classified as: A. Only a liability. B. Only an asset. C. Either an asset or liability, depending upon the situation. D. A non-operating expense.

Chapter 10 – Liabilities

115. Amortizing a discount on bonds payable: A. Increases interest expense. B. Increases periodic cash payments to bondholders. C. Decreases interest expense. D. Decreases periodic cash payments to bondholders.

116. Premium on bonds payable: A. Is an asset account. B. Increases the carrying amount of the liability. C. Is a contra-asset account. D. Is disclosed by a footnote.

117. Amortizing a premium on bonds payable: A. Increases interest expense. B. Increases periodic cash payments to bondholders. C. Decreases interest expense. D. Decreases periodic cash payments to bondholders.

118. On 1 November, Metro Corporation borrowed $55,000 from a bank and signed a 12%, 90-day note payable in the amount of $55,000. The 30 November adjusting entry will be: (assume 360 days in year) A. Debit Interest Expense $550 and credit Notes Payable $550. B. Debit Interest Expense $550 and credit Interest Payable $550. C. Debit Discount on Notes Payable $1,100 and credit Interest Payable $1,100. D. Debit Interest Expense $550 and credit Cash $550.

The current statement of financial position of Apex reports total assets of $20 million, total liabilities of $2 million, and owners' equity of $18 million. Apex is considering several financing possibilities in order to expand operations. Each question based on this data is independent of any others.

Chapter 10 – Liabilities

119. What will be the effect on Apex's debt ratio if Apex's owner invests an additional $2 million to finance its expansion? A. The debt ratio will decrease from .1 (2/20) to .0909 (2/22) after the additional investment. B. The debt ratio will decrease from 2/9 before to 2/11 after the additional investment. C. The debt ratio will increase from 20 before to 22 after the additional investment. D. Additional investment by owner will have no effect on the debt ratio.

120. Assume Apex borrows $2 million to finance its expansion. Apex's debt ratio immediately after the borrowing will be: A. .10. B. .20. C. .33 (rounded). D. .18.

121. What is the maximum amount Apex can borrow and not exceed a debt ratio of .3? A. $4,000,000. B. $5,500,000. C. $5,000,000. D. $6,000,000.

On 1 November, Year 1, Noble Co. borrowed $80,000 from South Bank and signed a 12%, six-month note payable, all due at maturity. The interest on this loan is stated separately.

122. How much must Noble pay South Bank on 1 May, Year 2, when the note matures? A. $80,000. B. $89,600. C. $84,800. D. $82,400.

Chapter 10 – Liabilities

123. How much interest expense will Noble recognize on this note in Year 2? A. $9,600. B. $4,800. C. $2,400. D. $3,200.

124. At 31 December, Year 1, Noble Co.'s overall liability for this loan amounts to: A. $80,000. B. $81,600. C. $83,200. D. $84,800.

125. At 31 December, Year 1, the adjusting entry with respect to this note includes a: A. Credit to Interest Payable for $1,600. B. Credit to Notes Payable for $1,600. C. Debit to Interest Expense for $3,200. D. Credit to Cash for $3,200.

Chapter 10 – Liabilities

On 1 September, 2014, Able Company purchased a building from Regal Corporation by paying $2,000,000 cash and issuing a one-year note payable for the balance of the purchase price. Interest on the note is stated at an annual rate of 9% and is paid at maturity. In its 31 December 2014, statement of financial position, Able correctly presented the note and interest payable as follows: Interest payable Notes payable, 9%, due 1 September 2015

$180,000 $6,000,000

126. How much must Able pay Regal Corporation on 1 September 2015, when the note matures? A. $6,000,000. B. $6,180,000. C. $6,540,000. D. Some other amount.

127. What is the amount of the interest expense Able will recognize on this note in 2015? A. $180,000. B. $315,000. C. $360,000. D. $540,000.

128. What is the total cash (including interest) paid for the building purchased by Able? A. $8,000,000. B. $8,360,000. C. $8,540,000. D. $8,160,000.

129. The adjusting entry at 31 December 2014, with respect to this note included: A. A debit to Interest Expense for $180000. B. A credit to Cash for $180,000. C. A credit to Notes Payable for $180,000. D. A credit to Interest Expense for $180,000.

Chapter 10 – Liabilities

On 1 September 2014, Select Company borrowed $600,000 from a bank and signed a 12%, six-month note payable, with interest on the note due at maturity.

130. The total amount of the current liability (including interest payable) for this loan that appears in Select Company's statement of financial position at 31 December 2014 is: A. $600,000. B. $624,000. C. $636,000. D. $672,000.

131. Assume Select made no adjusting entry with respect to this note before preparing the financial statements at 31 December 2014. What is the effect of this error on the financial statements for 2014? A. Total liabilities are overstated. B. Profit for the year is overstated. C. Owners' equity is understated. D. Interest Payable is overstated.

132. Sanford Corporation borrowed $90,000 by issuing a 12%, six-month note payable, all due at the maturity date. After one month, the company's total liability for this loan amounts to: A. $90,000. B. $90,450. C. $90,900. D. $91,800.

133. On 1 November of the current year, Garcia Company borrowed $50,000 by issuing a 9%, six-month note payable, all due at maturity date. Interest expense on this note to be recognized during the current year amounts to: A. $500. B. $750. C. $1,500. D. $4,500.

Chapter 10 – Liabilities

Stone Corporation has 25 employees and incurs total wages and salaries expense of $9,000,000 per year. The following table shows various payroll amounts as a percentage of this annual wage and salaries expense:

Workers’ compensation insurance Social security and medical care taxes (employer’s share) Pension and other postretirement costs expense (paid by employer) Salaries tax withheld Unemployment taxes expense

5% 7.65% 5% 10% 2%

In addition, Stone provides group health insurance for its entire workforce. The cost of this insurance is $550 per month for each employee.

134. The company's annual payroll-related expenses amount to approximately: A. $10,085,600. B. $10,933,500. C. $10,250,700. D. $9,000,000.

135. Employees' annual "take-home-pay," totals approximately: A. $6,723,000. B. $7,623,000. C. $6,750,000. D. $7,411,500. 136. Some of the payroll-related expenses incurred by Stone Corporation are mandated by law, rather than negotiated with employees. During the current year, these mandated amounts increased Stone's payroll-related expenses by approximately: A. $688,500. B. $2,007,000. C. $1,318,500. D. $1,768,500.

Chapter 10 – Liabilities

On 1 December, Year 1, Bradley Corporation incurs a 15-year $200 million mortgage liability in conjunction with the acquisition of an office building. This mortgage is payable in monthly installments of $2.4 million, which include interest computed at the rate of 12% per year. The first monthly payment is made on 31 December, Year 1. 138. Compute the total amount to be paid by Bradley over the 15-year life of the mortgage. A. $200 million. B. $562 million. C. $432 million. D. $474 million.

139. How much of the first payment made on 31 December, Year 1, represents interest expense? A. $2,400,000. B. $ 400,000. C. $2,304,000. D. $2,000,000. 140. The total liability related to this mortgage reported in Bradley's statement of financial position at 31 December, Year 1, is: A. $432,100,000. B. $199,600,000. C. $194,923,000. D. $200,000,000.

Chapter 10 – Liabilities

141. Over the 15-year life of the mortgage, the total amount Bradley will pay for interest charges is: A. $232 million. B. $360 million. C. $200 million. D. $432 million .

142. The portion of the second monthly payment made on 31 January, Year 2, which represents repayment of principle is: A. $400,000. B. $404,000. C. $2,400,000. D. $1,996,000.

143. On 1 October 2014, Master's Co. borrows $500,000 from its bank for five years at an annual interest rate of 10%. According to the terms of the loan, the principal amount will not be due for five years. Interest is to be paid monthly on the first day of each month, beginning 1 November 2014. With respect to this borrowing, Master's 31 December 2014, statement of financial position included only a long-term note payable of $500,000. As a result: A. The 31 December 2014, financial statements are accurate. B. Liabilities are understated by $12,500 accrued interest payable. C. Liabilities are understated by $4,167 accrued interest payable. D. Liabilities are understated by the amount of interest for the five-year term of the note that has not yet been paid.

144. At the end of 2014 it is discovered that the accountant for Gower Company failed to record $60,000 of interest payable which had accrued since the last interest payment date. The current ratio, quick ratio and debt ratio, as well as the financial statements, had already been computed using the erroneous data. Correction of the accounting records will have which of the following effects? A. Profit as formerly computed will not be affected by the correction of the error. B. The interest coverage ratio as formerly computed will not change as a result of the correction. C. The debt ratio as formerly computed will decrease as a result of the correction. D. The quick ratio as formerly computed will decrease as a result of the correction.

Chapter 10 – Liabilities

On 1 April, year 1, Cricket Corporation issues $60 million of 12%, 10-year bonds payable at par. Interest on the bonds is payable semiannually each 1 April and 1 October.

145. The amount of cash paid to bondholders for interest during Year 1, is: A. $6,600,000 B. $5,400,000 C. $3,600,000 D. $1,800,000

146. Interest expense on this bond issue reported in Cricket's year 1, income statement is: A. $2,400,000 B. $4,800,000 C. $5,400,000 D. $7,200,000

147. The adjustment necessary at 31 December, Year 1 (if any), related to this bond issue involves: A. Recognition of interest expense of $3,600,000. B. Recognition of interest expense of $1,800,000. C. Payment of cash of $1,800,000. D. There is no adjustment necessary.

148. With respect to this bond issue, Cricket Corporation's statement of financial position at 31 December, Year 1, will include: A. Bonds payable of $61,800,000. B. Bonds payable of $63,600,000. C. Bonds payable of $60 million, as well as interest payable of $1,800,000. D. Bonds payable of $60 million, as well as interest payable of $3,600,000.

Chapter 10 – Liabilities

On 1 April, year 1, Greenway Corporation issues $20 million of 10%, 20-year bonds payable at par. Interest on the bonds is payable semiannually each 1 April and 1 October.

149. The journal entry to record the first cash payment to bondholders on 1 October, year 1, will include: A. A credit to Cash of $2,000,000. B. A debit to Bonds Payable of $1,000,000. C. A debit to Interest Expense of $1,000,000 D. A credit to Interest Payable of $1,000,000.

150. The adjusting entry (if any) required on 31 December, Year 1, related to this bond issue involves: A. Recognition of interest expense of $1,000,000. B. Recognition of interest expense of $500,000. C. A credit to Interest Payable of $2,000,000. D. A credit to Cash of $500,000.

151. In Year 2, Greenway's income statement will report interest expense arising from this bond issue of: A. $1,000,000. B. $2,000,000. C. $500,000. D. $1,500,000.

152. On 1 April, Year 1, the journal entry to record issuance of the bonds will include: A. A credit to Interest Payable of $1,000,000. B. A debit to Cash of $20,000,000. C. A credit to Bonds Payable of $2,100,000. D. A debit to Cash of $21,000,000.

Chapter 10 – Liabilities

153. With respect to this bond issue, Greenway's statement of financial position at 31 December, Year 1, will include: A. Bonds payable of $20,500,000. B. Bonds payable of $19,500,000. C. Bonds payable of $20 million, as well as interest payable of $1,500,000. D. Bonds payable of $20 million, as well as interest payable of $500,000.

Austin Corporation issues $6,000,000 of 10%, 10-year bonds, dated 31 December, Year 1. The bonds are issued on 30 April, Year 2, at 100 plus accrued interest. Interest on the bonds is payable semiannually each 30 June and 31 December.

154. The total amount of cash received by Austin Corporation upon issuance of the bonds on 30 April, Year 2, is: A. $6,000,000. B. $6,200,000. C. $6,150,000. D. $6,300,000.

155. The entry to record the issuance of bonds payable on 30 April, Year 2, includes: A. A credit to Premium on Bonds Payable of $200,000. B. A debit to Cash of $150,000. C. A debit to Bond Interest Expense of $200,000. D. A credit to Bond Interest Payable of $200,000.

156. The journal entry made by Austin Corporation to record the first semiannual interest payment on the bonds includes: A. A debit to Bond Interest Expense of $300,000. B. A debit to Bond Interest Payable of $100,000. C. A debit to Bond Interest Expense of $100,000. D. A debit to Bond interest Expense of $200,000.

Chapter 10 – Liabilities

157. The amount of Austin's interest expense on this bond issue during year 2 amounts to: A. $400,000. B. $450,000. C. $360,000. D. $600,000.

Salem Co. has outstanding $100 million of 7% bonds, due in 7 years, and callable at 104. The bonds were issued at par and are selling today at a market price of 94.

158. If Salem Co. retires $10 million of these bonds by purchasing them from bondholders at current market price, the company will report: A. A $600,000 gain. B. A $500,000 loss. C. An unrealized gain. D. None of the above; neither gains nor losses are recognized on early retirements of debt.

159. If Salem Co. calls $10 million of these bonds it will report: A. A $700,000 gain. B. A $400,000 loss. C. An unrealized gain. D. None of the above; neither gains nor losses are recognized on early retirements of debt.

160. If Salem Co. retires $10 million of these bonds by purchasing them from bondholders at current market price, the company will report: A. A $600,000 cash receipt from operating activities. B. A $9.4 million cash payment for operating activities. C. A $600,000 cash receipt from financing activities. D. A $9.4 million cash payment for financing activities.

Chapter 10 – Liabilities

161. On 28 February 2014, $5,000,000 of 6%, 10-year bonds payable, dated 31 December 2013, are issued. Interest on the bonds is payable semiannually each 30 June and 31 December. If the total amount received (including accrued interest) by the issuing corporation is $5,060,000, which of the following is correct? A. The bonds were issued at a premium. B. The amount of cash paid to bondholders on the next interest date, 30 June 2014, is $300,000. C. The amount of cash paid to bondholders on the next interest date, 30 June 2014, is $50,000. D. The bonds were issued at a discount.

Webster Company issues $1,000,000 face value, 6%, 5-year bonds payable on 31 December 2013. Interest is paid semiannually each 30 June and 31 December. The bonds sell at a price of 97; Webster uses the straight-line method of amortizing bond discount or premium.

162. The entry made by Webster Company to record issuance of the bonds payable at 31 December 2013, includes: A. A debit to Cash of $1,000,000. B. A debit to Discount on Bonds Payable of $30,000. C. A credit to Bonds Payable of $970,000. D. A credit to Bond Interest Payable of $30,000.

163. Webster's entry at 30 June 2014, to record the first semiannual payment of interest and amortization of discount on the bonds includes a: A. Debit to Bond Interest Expense of $30,000. B. Credit to Cash of $33,000. C. Debit to Discount on Bonds Payable of $3,000. D. Debit to Bond Interest Expense of $33,000.

164. The amount of bond interest expense recognized by Webster Company in 2013 with respect to these bonds is: A. $60,000. B. $63,000. C. $120,000. D. $66,000.

Chapter 10 – Liabilities

165. The carrying amount of this liability in Webster Company's 31 December 2014, statement of financial position is: A. $1,000,000. B. $970,000. C. $976,000. D. $967,000.

Rockland Corporation has 22 employees and incurs total wages and salaries expense of $8,000,000 per year. The following table shows various payroll amounts as a percentage of this annual wage and salaries expense:

5% 7.65% 5% 10% 2%

In addition, Rockland provides group health insurance for its entire workforce. The cost of this insurance is $600 per month for each employee.

166. The company's annual payroll-related expenses amount to approximately: A. $9,570,400. B. $9,730,400. C. $9,572,000. D. $9,330,400.

167. Employees' annual "take-home-pay," totals approximately: A. $6,428,000. B. $7,600,000. C. $6,812,000. D. $658,800.

Chapter 10 – Liabilities

168. Some of the payroll-related expenses incurred by Rockland Corporation are mandated by law, rather than negotiated with employees. During the current year, these mandated amounts increased Rockland's payroll-related expenses by approximately: A. $1,012,000. B. $960,000. C. $1,172,000. D. $1,188,000.

The current statement of financial position of Gamma reports total assets of $30 million, total liabilities of $3 million, and owners' equity of $27 million. Gamma is considering several financing possibilities in order to expand operations. Each question based on this data is independent of any others.

169. What will be the effect on Gamma's debt ratio if Gamma's owner invests an additional $5 million to finance its expansion? A. The debt ratio will decrease from .1 (3/30) to .0857 (3/35) after the additional investment. B. The debt ratio will decrease from 3/27 before to 3/32 after the additional investment. C. The debt ratio will increase from 30 before to 35 after the additional investment. D. Additional investment by owner will have no effect on the debt ratio.

170. Assume Gamma borrows $5 million to finance its expansion. Gamma's debt ratio immediately after the borrowing will be (rounded): A. .11. B. .23. C. .30 (rounded). D. .35.

171. What is the maximum amount Gamma can borrow and not exceed a debt ratio of .2? A. $3,750,000. B. $600,000. C. $6,000,000. D. $5,750,000.

Chapter 10 – Liabilities

Trego Company issued, payable on 31 December, 2014, $10,000,000 face value, 4%, 5-year bonds. Interest will be paid semiannually each 30 June and 31 December. The bonds sold at a price of 102; Trego uses the straight-line method of amortizing bond discount or premium.

172. The entry made by Trego Company to record issuance of the bonds payable at 31 December, 2014, includes: A. A debit to Cash of $10,000,000. B. A credit to Premium on Bonds Payable of $200,000. C. A credit to Bonds Payable of $10,200,000. D. A credit to Bond Interest Payable of $200,000.

173. Trego's entry at 30 June, 2015, to record the first semiannual payment of interest and amortization of discount/premium on the bonds includes a: A. Debit to Bond Interest Expense of $200,000. B. Credit to Cash of $220,000. C. Credit to Premium on Bonds Payable of $20,000. D. Debit to Bond Interest Expense of $220,000.

174. The amount of bond interest expense recognized by Trego Company in 2015 with respect to these bonds is: A. $400,000. B. $420,000. C. $600,000. D. $440,000.

175. The carrying value of this liability in Trego Company's 31 December, 2015, statement of financial position is: A. $10,000,000. B. $10,160,000. C. $10,200,000. D. $10,240,000.

Chapter 10 – Liabilities Essay Questions

176. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter: Postretirement benefit expense Deferred taxes Interest coverage ration Operating lease Maturity value Contingent liability Finance lease Applying leverage Provision

Chapter 10 – Liabilities

177. Notes payable On 1 September 2014, Charles Associates borrowed $600,000 from Diana Finance and signed a 9%, one-year note payable, all due at maturity. (a) The amount Charles must pay on 1 September 2015, when the note matures is $________________. (b) The interest expense Charles will recognize on this note in 2015 is $_______________. (c) At 31 December 2014, Charles Associates’ liability to Diana Finance amounts to $________________. (d) In the space provided below, give the adjusting entry made by Charles Associates on 31 December 2014, with respect to this note. 31 Dec

General Journal

Chapter 10 – Liabilities

178. Notes payable On 1 September 2014, George Hanby borrowed $100,000 from The Actors Finance and signed an 6%, one-year note payable, all due at maturity. The interest on this loan is stated separately. (a) The amount Hanby must pay on 1 September 2015, when the note matures is $________________. (b) The interest expense Hanby will recognize on this note in 2015 is $_______________. (c) At 31 December 2014, George Hanby’ overall liability for this loan amounts to $________________. (d) In the space provided below, give the adjusting entry made by George Hanby on 31 December 2014, with respect to this note. 31 Dec

General Journal

Chapter 10 – Liabilities

179. Payroll-related expenses Shown below is a summary of the annual payroll data of Revere Ironworks: Wages and salaried expense (gross pay) Amounts withheld from employee’s pay: Income taxes Social Security and medical care Payroll taxes expense: Social Security and medical care Unemployment taxes Workers’ compensation premiums Group health insurance premiums (paid by employer) Contributions to employees pension plan (paid by employer and fully funded) Cost of other postretirement benefits: Funded Unfunded

$12,250,000 $650,000 500,000 500,000 120,000

1,150,000

620,000 450,000 1,060,000 450,000

$200,000 350,000

550,000

Chapter 10 – Liabilities

180. Fully amortizing installment note payable (mortgage) On 31 October 2014, Seldon Company incurs a 30-year $60,000,000 mortgage liability in conjunction with the purchase of a motel. This mortgage is payable in equal monthly installments of $648,500, which include interest computed at an annual rate of 12%. The first monthly payment is made on 30 November 2014. This mortgage is fully amortizing over 360 months. Complete the amortization table for the first two payments by entering the correct dollar amounts in the blank spaces provided. In addition, answer the questions which follow. Payment Date Issuance 30 Nov. 31 Dec.

Monthly Payment --$648,500 $648,500

Interest Expense --$__________ $__________

Repayment of Principal --$__________ $__________

Unpaid Balance $60,000,000 $__________ $__________

(a) With respect to this mortgage, Seldon's 2014 income statement includes interest expense of $_______________, and Seldon's statement of financial position at 31 December 2014, includes a total liability for this mortgage of _______________. (Do not separate into current and long-term portions.) (b) The aggregate monthly cash payments Seldon will make over the 30-year life of the mortgage amount to $_______________. (c) Over the 30-year life of the mortgage, the amount Seldon will pay for interest amounts to $_______________.

Chapter 10 – Liabilities

181. Fully amortizing installment note payable On 31 October 2014 Ronald signed a 2-year installment note in the amount of $50,000 in conjunction with the purchase of equipment. This note is payable in equal monthly installments of $2,354, which include interest computed at an annual rate of 12%. The first monthly payment is made on 30 November 2014. This note is fully amortizing over 24 months. Complete the amortization table for the first two payments by entering the correct dollar amounts in the blank spaces provided. In addition, answer the questions that follow. Payment Date Issuance 30 Nov. 2014 31 Dec. 2014

Monthly Payment --$2,354 $2,354

Interest Expense --$__________ $__________

Repayment of Principal --$__________ $__________

Unpaid Balance $50,000 $__________ $__________

(a) With respect to this note, Ronald's 2014 income statement includes interest expense of $_______________, and Ronald's statement of financial position at 31 December 2014, includes a total liability for this note payable of _______________. (Do not separate into current and noncurrent portions.) (b) The aggregate monthly cash payments Ronald will make over the 2-year life of the note payable amount to $_______________. (c) Over the 2-year life of the note, the amount Ronald will pay for interest amounts to $_______________.

Chapter 10 – Liabilities

182. Bonds issued at par - basic concepts On 1 April, Year 1, Olsen Products, Inc. issued at par $25 million of 10%, 10-year bonds payable. Interest is payable semiannually each 1 April and 1 October. (a) What is the amount of cash paid to bondholders for interest during year 1? $_______________ (b) Give the adjusting entry necessary at 31 December, Year 1 (if any), regarding this bond issue. (c) Interest expense on this bond issue reported in Olsen Products' Year 1 income statement is: $_______________ (d) With respect to this bond issue, Olsen Products' statement of financial position at 31 December, Year 1, includes bonds payable of $__________________ and interest payable of $_______________ (indicate $0 or "none" if the item is not reported. (e) Give the journal entry made by Olsen Products on 1 April, Year 2, to record the semiannual payment of interest to bondholders.

Chapter 10 – Liabilities

183. Bonds issued at par - basic concepts On 1 March, Year 1, Hubbard Co. issued at a price of 100 $20 million of 8%, 25-year bonds payable. Interest is payable semiannually each 1 March and 1 September. (a) What is the amount of cash paid to bondholders for interest during year 1? $_____________ (b) Give the adjusting entry necessary at 31 December, year 1 (if any), regarding this bond issue. (c) Interest expense on this bond issue reported in Hubbard's Year 1 income statement is: $_______________ (d) With respect to this bond issue, Hubbard 's statement of financial position at 31 December, Year 1, includes bonds payable of $_______________ and interest payable of $_______________. (Indicate $0 or "none" if the item is not reported.) (e) Give the journal entry made by Hubbard on 1 March, Year 2, to record the semiannual payment of interest to bondholders.

Chapter 10 – Liabilities

184. Bonds payable-issued between interest dates Barney Corporation received authorization on 31 December, Year 1, to issue $2,500,000 of 6%, 10-year bonds. The interest payment dates are 30 June and 31 December. All the bonds were issued at a price of 100, plus accrued interest, on 28 February, Year 2, two months after the authorization of the bond issue. (a) The amount of cash received by Barney Corporation from issuance of the bonds on 28 February, Year 2, is: $________________ (b) The amount of cash paid to bondholders on 30 June, Year 2, is: $________________ (c) Bond interest expense reported in Barney’s year 2 income statement is: $________________ (d) Prepare the journal entry at 28 February, Year 2, to record the issuance of the bonds. (e) Prepare the journal entry at 30 June, Year 2 to record the first semiannual interest payment on the bonds.

Chapter 10 – Liabilities

185. Bonds payable issued between interest dates - early retirement Deegan Imports received authorization on 31 December, Year 1, to issue $4,500,000 face value of 8%, 20-year bonds. The interest payment dates are 30 June and 31 December. All the bonds were issued at par, plus accrued interest on 1 February, Year 2. The bonds are callable by Deegan at any time at 105. (a) Prepare the journal entry to record the issuance of the bonds on 1 February, Year 2. (b) Prepare the journal to record the first interest payment on the bonds at 30 June, Year 2 (c) What is the amount of bond interest expense reported in Deegan Imports' Year 2 income statement relating to these bonds? $___________ (d) What is the amount of bond interest payable appearing in Deegan Imports' statement of financial position at 31 December, Year 2, with respect to these bonds? $____________ (e) Deegan exercises the call provision and retires one-third of the bond issue on 1 July, Year 3. Prepare the journal entry to record this transaction on 1 July, Year 3.

Chapter 10 – Liabilities

186. Effects of transactions upon financial measurements Five events relating to liabilities are described below: (a) Recorded a bi-weekly payroll, including the issuance of paychecks to employees. Amounts withheld from employees' pay and payroll taxes will be forwarded to appropriate agencies in the near future. (Ignore postretirement costs.) (b) Made a monthly payment on a 12-month installment note payable, including interest and a partial repayment of the principal amount. (c) Shortly before the maturity date of a six-month bank loan, made arrangements with the bank to refinance the loan on a long-term basis. (d) Made an adjusting entry to record accrued interest payable on a 2-year bank loan (interest is paid monthly.) (e) Made a year-end adjusting entry to amortize a portion of the discount on long-term bonds payable. Indicate the immediate effects of each transaction or adjusting entry upon the financial measurements in the five column headings listed below. Use the code letters, I for increase, D for decrease, and NE for no effect. Transaction

Current Liabilities

Noncurrent Liabilities

Profit

(a) (b) (c) (d) (e)

_______ _______ _______ _______ _______

Net Cash Flow (All Activities Combined) _______ _______ _______ _______ _______

(other than operating Activities) _______ _______ _______ _______ _______

Chapter 10 – Liabilities

187. Bonds issued at discount or premium On 31 March 2014 Louis Company issued $20,000,000 face amount of 7%, 5-year bonds payable, with interest payable each 30 June and 31 December. The company received cash of $20,200,000, including the accrued interest from 31 December 2013. Louis uses the straight-line method of amortizing any discount or premium over the remaining life of the bonds - 57 months. (a) What was the amount of accrued interest received by Louis on 31 March 2014 when the bonds were issued? (Do not assume the bonds were issued at par.) $_______________ (b) What was the amount of discount or premium on the bonds at issuance date? (Indicate discount or premium.) $_______________ (c) What amount of cash is paid to bondholders for interest during year 2014? $_______________ (d) What is Louis’ total interest expense for year 2014 related to this bond issue? $_______________ (e) What is the carrying amount of this bond issue as of 31 December 2014? $_______________

188. Fully amortizing installment notes When Sue Meadow purchased a home, she signed a $1,500,000, 12%, fully amortizing mortgage note, payable at $15,430 per month. After making the first monthly payment, Meadow received a notice from the bank stating that $15,000 of the payment had applied to interest, and only $430 reduced the principal amount of the loan. Meadow does not understand how this loan is fully amortizing over a period of 30 years. She computes that at $430 per month, it will take approximately 3,488 months (or 290 years) to repay this loan. Evaluate Meadow's analysis.

Chapter 10 – Liabilities

189. Bond prices after issuance Several years ago, Clear-Air Systems issued $100 million of 30-year, 8% bonds payable at a small premium. Since the bonds were issued, Clear-Air's financial strength and credit rating have actually improved, but today the bonds are trading among investors at a price of 98. (a) Explain the most probable reason why the market price of these bonds has declined, even though Clear-Air‘s credit rating has improved. (b) How will the drop in the market value of these bonds be reported (if at all) in Clear-Air's income statements and statement of financial positions? Explain.

190. Operating and finance leases Berkeley Corporation wants to expand operations and is considering various leasing arrangements for additional equipment. Berkeley's management has heard the terms finance lease and operating lease mentioned by the accounting department and wants clarification of these terms before signing any lease contracts. (a) Briefly explain the difference between a finance lease and an operating lease from a lessee's (Berkeley's) point of view. Your answer should include the financial statement impact of each type of lease. (b) How does a lessee determine whether a specific lease contract is an operating lease or a finance lease? Include at least three of the indicators or situations of a finance lease specified by IAS 17 in your answer. (c) Which of the above two types of leases is sometimes referred to as "off-balance-sheet financing?" Briefly explain.

Chapter 10 – Liabilities

191. Deferred income taxes At the end of its first year of operations, Harding Construction, Inc., included in its statement of financial position a noncurrent liability entitled "Deferred Taxes." (a) Briefly explain what deferred taxes represents, including how this liability came into existence and whether such an item is generally perceived as favorable or unfavorable from company management's point of view. (b) If Harding Construction, Inc., is a successful, growing business, would you expect the liability for deferred taxes to increase or decrease over the next few years? Explain.

Chapter 10 – Liabilities

193. On 1 March 2011, five-year bonds are sold for $508,026 that have a face value of $500,000 and an interest rate of 10%. Interest is paid semi-annually on 1 March and 1 September. Using the straight-line amortization method, prepare the borrower's journal entries on 1 March 2011 1 September 2011 31 December 2011 1 March 2012

Chapter 10 – Liabilities

194. The LBB Company recently took a mortgage on a property for $100,000. The interest is 12% and the monthly payment is $1,020. Prepare the first four months of the amortization table beginning on 1 January 2014.

Chapter 10 – Liabilities

Multiple Choice Questions

On 30 November 2014, Central Food purchased two trucks for a total of $1,400,000, issuing a one-year, 6% note payable, all due at maturity. The interest on this loan is stated separately. 195. The 31 December 2014, adjusting entry for this note includes: A. A credit to Cash for $14,000. B. A credit to Interest Payable for $84,000. C. A credit to Interest Payable for $14,000. D. A credit to Interest Payable for $7,000.

196. The total liabilities related to this note reported in Central Food's 31 December 2014, balance sheet is: A. $1,400,000. B. $1,484,000. C. $1,407,000. D. $1,414,000.

Chapter 10 – Liabilities

197. What is the amount of interest expense Central Food's recognizes on this note in 2015? A. $7,000. B. $84,000. C. $77,000. D. $14,000.

198. How much must Central Food pay the lender upon maturity of this note? A. $1,407,000. B. $1,400,000. C. $1,477,000. D. $1,484,000.

199. The liability for this loan as of 31 December 2014: A. Is equal to its maturity value. B. Is equal to the book value of the two trucks that were acquired in exchange. C. Is classified as a noncurrent liability, since it was used to acquire noncurrent assets. D. Is classified as a noncurrent liability if Central Food has the intent and ability to refinance by taking out a new loan not due for several years.

Shown below is a summary of the annual payroll data of Rose Co.:

Wages and salaries expense (gross pay)....................... Amounts withheld form employees’ pay: Income taxes ............................................................ Social Security and Medical care ............................ Payroll taxes expense: Social Security and Medical care ............................ Unemployment taxes ............................................... Workers’ compensation premiums................................... Group health insurance premiums (paid by employer) Contributions to employees’ pension plan (paid by employer and fully funded) ..................................... Cost of other postretirement benefits: Funded ..................................................................... Unfunded .................................................................

$2,250,000 $170,000 $150,000 $150,000 58,000

320,000

208,000 130,000 252,000 140,000

$90,000 120,000

210,000

Chapter 10 – Liabilities

200. Rose Company's total payroll-related expense for the year is: A. $2,250,000. B. $3,510,000. C. $2,840,000. D. $3,190,000.

201. Compute the company's cash outlays during the year for payroll-related costs. Assume short-term obligations such as insurance premiums and payroll taxes have been paid. A. $2,750,000. B. $3,070,000. C. $1,930,000. D. $3,510,000.

202. The annual "take-home-pay" of Rose' employees is: A. $2,520,000. B. $2,250,000. C. $1,930,000. D. $2,750,000.

203. Amounts paid during the year to retirees for pension and other postretirement benefits total: A. $140,000. B. $350,000. C. $230,000. D. None of above.

204. When a company has a fully-funded pension plan: A. The dollar amounts paid to retirees are greater than the amounts recognized as pension expense by the employer. B. Pension expense is equal to the cash payments made to retirees during the current period. C. No pension expense is recognized in the income statement. D. It does not use the services of a trustee to operate the pension plan.

Chapter 10 – Liabilities Short Answer Questions

205. Seaview Industries received authorization on 31 December, year 1, to issue $7,000,000 face value of 6%, 10-year bonds. The interest payment dates are 30 June and 31 December. All the bonds were issued at par, plus accrued interest, 1 April, Year 2. The bonds are callable by Seaview Industries at any time at 102. 1

Prepare the journal entry to record issuance of the bonds on 1 April, Year 2.

Prepare the journal entry to record the first semiannual interest payment on the bonds at 30 June, Year 2.

What is the amount of bond interest expense that appears in Seaview’s Year 2 income statement relating to these bonds? $_________________________

What is the amount of accrued bond interest expense that appears in Seaview’s statement of financial position at 31 December, Year 2, with respect to these bonds? $_________________________

Seaview exercises the call provision and retires one-half of the bond issue on 1 July, Year 4. Prepare the journal entry to record this transaction on 1 July, Year 4.

Chapter 10 – Liabilities

On 1 December 2014, Fisher Corporation incurs a 30-year, $40,000,000 mortgage liability upon purchase of a warehouse. This mortgage is payable in monthly installments of $411,445, which include interest computed at the rate of 12% per year. The first monthly payment is made on 31 December 2014.

206 How much of the first payment made on 31 December 2014, is allocated to repayment of principal? $________ 207 What is the total liability related to this mortgage to be reported in Fisher’s statement of financial position at 31 December 2014? (Do not separate into current and long-term portions.) $________ 208 The portion of the second monthly payment made on 31 January 2015, which represents interest expense is $________ 209 What is the aggregate amount paid by Fisher over the 30-year life of the mortgage? $________ 210 Over the 30-year life of the mortgage, the total amount Fisher will pay for interest charges is $________

Chapter 10 – Liabilities Multiple Choice Questions

211. Which of the following is characteristic of liabilities, rather than of equity? (More than one answer may be correct.) A. The obligation matures. B. Interest paid to the provider of the capital is deductible in the determination of taxable income. C. The capital providers' claims are residual in the event of liquidation of the business. D. The capital providers normally have the right to exercise control over business operations.

212. On 1 October, Dalton Corp. borrows $100,000 from National Bank, signing a six-month note payable for that amount, plus interest to be computed at a rate of 9% per annum. Indicate all correct answers. A. Dalton's liability at 1 October is only $100,000. B. The maturity value of this note is $104,500. C. At 31 December Dalton will have a liability for accrued interest payable in the amount of $4,500. D. Dalton's total liability for this loan at 30 November is $101,500.

213. Identify all correct statements concerning payrolls and related payroll costs: A. Both employers and employees are required to contribute to employee pension plans. B. Workers' compensation premiums are withheld from employees' wages. C. An employer's total payroll costs usually exceed total wages expense by about 7 1/2%. D. Employers are required to pay Social Security taxes on employees' earnings, but they are not required to pay for health insurance.

214. Identify those types of information that can readily be determined from an amortization table for an installment loan. (More than one answer may be correct.) A. Interest expense on this liability for the current year. B. The present value of the future payments under current market conditions. C. The unpaid balance remaining after each payment. D. The portion of the unpaid balance that is a current liability.

Chapter 10 – Liabilities

215. Which of the following statements is (are) correct? (More than one statement may be correct.) A. A bond issue is a technique for subdividing a very large loan into a great many small, transferable units. B. Bond interest payments are contractual obligations, whereas the board of directors determines whether or not dividends will be paid. C. As interest rates rise, the market prices of bonds fall; as interest rates fall, bond prices tend to rise. D. Bond interest payments are deductible in determining profit subject to income taxes, whereas dividends paid to stockholders are not deductible.

216. Identify all statements that are consistent with the concept of present value. (More than one answer may be correct.) A. The present value of a future amount is always less than that future amount. B. An amount of money available today is considered more valuable than the same sum which will not become available until a future date. C. A bond's issue price is equal to the present value of its future cash flows. D. The liability for an installment note payable is recorded at only the principal amount, rather than the sum of the scheduled payments.

217. Identify those trends that are unfavorable from the viewpoint of a bondholder (More than one answer may be correct.) A. Market interest rates are steadily rising. B. The issuing company's interest coverage ratio is steadily rising. C. The issuing company's net cash flow from operating activities is steadily declining. D. The issuing company's debt ratio is steadily declining.

218. A basic difference between Contingent Liabilities and "real" liabilities is: A. Liabilities stem from past transactions; Contingent Liabilities stem from future events. B. Liabilities always are recorded in the accounting records, whereas Contingent Liabilities never are. C. The extent of uncertainty involved. D. Liabilities can be large in amount, whereas Contingent Liabilities are immaterial.

Chapter 10 – Liabilities

219. Which of the following situations require recording a liability in 2014? (More than one answer may be correct.) A. In 2014, a company manufactures and sells stereo equipment which carries a three-year warranty. B. In 2014, a theater group receives payments in advance from season ticket holders for productions to be performed in 2015. C. A company is a defendant in a legal action. At the end of 2014, the company's attorney feels it is possible the company will lose, and that the amount of the loss might be material. D. During 2014, a Beijing agricultural co-operative is concerned about the risk of loss if inclement weather destroys the crops.

220. Silverado maintains a fully funded pension plan. During 2014, $1 million was paid to retired workers, and workers currently employed by the company earned a portion of the right to receive pension payments expected to total $6 million over their lifetimes. Silverado's pension expense for 2014 amounts to: A. $1 million. B. $6 million. C. $7 million. D. Some other amount.

221. Deferred taxes result from: A. The fact that bond interest is deductible in the computation of taxable income. B. Depositing income taxes due in future years in a special fund managed by an independent trustee. C. Timing differences between certain revenue and expense items recognized in financial statements and in income tax returns. D. The inability of a bankrupt company to pay its income tax liability on schedule.

Chapter 10 – Liabilities

Chapter 10 Liabilities Answer Key

True / False Questions

1. A liability that is known to exist but the precise dollar amount is not known is called a possible liability FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-01 Define liabilities and distinguish between current and noncurrent liabilities. Topic: Liabilities

2. Bonds secured by a pledge of specific assets are called debenture bonds. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

3. Junk bonds are attractive to investors because they carry a high rate of interest and are usually convertible into a specified number of shares. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

4. Dividends paid by a corporation to its shareholders are tax deductible by the corporation but interest paid on bonds is not. FALSE

5. When bonds are sold by one investor to another, they sell at market price plus accrued interest since the last payment date. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

6. When bonds are issued at a discount, the borrower must pay more at maturity than the amount originally received. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

7. The account Discount on Bonds Payable actually represents interest expense and will be amortized over the life of the bond. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

8. A contingent liability is recorded in the accounting records when it is probable that a loss has been incurred and the amount of the loss is known. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-08 Explain how provisions, contingent liabilities, and commitments are disclosed in financial statements. Topic: Provisions, Contingent Liabilities , and Commitments

9. A commitment, such as a contract to pay a football player $50,000,000 a year for five years, should be listed as a noncurrent liability. FALSE

Chapter 10 – Liabilities

10. If a lease transfers ownership of the property to the lessee at the end of the lease term, it should be regarded as an operating lease. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

11. When a company has a fully funded pension plan, they only need to record the present value of pension payments as a current liability. FALSE

12. Gross pay less withholding tax and less worker's compensation is considered net pay. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

Chapter 10 – Liabilities

13. Provisions, contingencies and commitments are usually reported in the noncurrent liability section of the financial statements. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-08 Explain how provisions, contingent liabilities, and commitments are disclosed in financial statements. Topic: Provisions, Contingent Liabilities , and Commitments

14. The amount of income tax and medical care tax withheld from an employee is used to pay the employer's percentage of the tax. FALSE

15. When a company sells bonds, the bondholders are permitted to vote for the board of directors. FALSE

Chapter 10 – Liabilities

16. The combination of liabilities and owners' equity used in financing the assets of a business is called the company's capital structure. TRUE

17. Prepayments and owners' equity are both sources of financing. FALSE

18. The current portion of long-term debt should be reported separately in the current liabilities section of the statement of financial position. TRUE

Chapter 10 – Liabilities

19. When money is borrowed by issuing a note payable, the borrower records a liability equal to the maturity value of the note. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

20. The most common types of payroll deductions are taxes, insurance premiums, employee savings, and union dues. TRUE

21. Social security and medical care taxes have a cap on employees' salaries where the tax is ended. FALSE

Chapter 10 – Liabilities

22. If a long-term debt is to be paid off in monthly installments over a 5-year period, the entire principal should be classified as a noncurrent liability. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

23. There is a tax advantage for a company to issue bonds in lieu of shares. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Decision Making Bloom's: Remember Difficulty: Easy Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

24. The withholding of taxes from an employee's pay is a liability to the company. TRUE

Chapter 10 – Liabilities

25. Bonds payable are a means of dividing a very large, long-term liability among many creditors some of whom may participate in the loan only for a short period of time. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Decision Making Bloom's: Understand Difficulty: Easy Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

26. Liabilities that fall due within one year or within the operating cycle are classified as current liabilities. TRUE

27. In the marketplace, bond prices tend to fluctuate directly with changes in interest rates. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

28. Convertible bonds can be exchanged for ordinary shares at the option of the company. FALSE

29. In a long-term finance lease, the lessor views a portion of each lease payment as interest expense. FALSE

30. Payments of pensions and other benefits to retired workers are recognized as expense in the period payment is made. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

Chapter 10 – Liabilities

31. Sinking funds make a bond issue less attractive to the investor. FALSE

32. Deferred income taxes eventually come due. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

33. If a bond is callable, the call price is usually lower than the face value of the bond. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

34. The quick ratio is a more stringent measure of solvency than the current ratio. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

Chapter 10 – Liabilities

35. A high interest coverage ratio is a sign of creditworthiness. TRUE

36. Contingent liabilities stem from past events. TRUE

37. Bonds, with the same face value, issued at a premium will have a higher maturity value than bonds issued at a discount FALSE

Chapter 10 – Liabilities

38. Contingent liabilities should be recorded in the accounting records whenever it is probable that a loss has been incurred and the amount of loss might be material in amount. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-08 Explain how provisions, contingent liabilities, and commitments are disclosed in financial statements. Topic: Provisions, Contingent Liabilities, and Commitments

40. The future value will always be less than the present value. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-07 Explain the concept of present value as it relates to bond prices. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

41. The amortization of discount on bonds payable reduces the amount of interest expense recognized during the period. FALSE

42. The amortization of bond discount by the issuing company decreases the carrying amount of its bonds payable. FALSE

43. A primary means used by credit rating agencies to evaluate a company's ability to pay its debts is to compare total assets to total liabilities. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

Chapter 10 – Liabilities

44. Companies may understate liabilities so as not to be perceived as risky by credit rating agencies. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Risk Analysis Bloom's: Understand Difficulty: Easy Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

45. Special purpose entities (SPEs) are established by corporations to accomplish specific purposes such as borrowing money. TRUE

Multiple Choice Questions

46. U. S. GAAP requires that convertible bonds be classified on the statement of financial position as: A. Part liability, part equity B. A liability C. Either a liability or equity D. As an asset

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Remember Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

48. Off balance sheet financing may involve either: A. An operating lease B. A special purpose entity C. Both of the above D. Neither of the above

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

51. A company issues $50 million of bonds at par on 1 January 2014. The bonds pay 10% interest semi-annually on 12/31 and 6/30 and mature in 20 years. The journal entry when the bonds are sold is: A)

A. Option A B. Option B C. Option C D. Option D

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

Chapter 10 – Liabilities

55. A $1,000 bond that sells for 104 has a selling price of: A. $1,004 B. $1,040 C. $1,400 D. $1,000

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Easy Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

58. If a bond is selling at 103, it is selling at: A. Maturity value and yields a 2% interest rate. B. A discount. C. A premium. D. $103 per bond.

Chapter 10 – Liabilities

60. Interest payable on a loan becomes a liability: A. When the note payable is issued. B. As it accrues. C. At the maturity date. D. When the borrowed money is received.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

Chapter 10 – Liabilities

Workers’ compensation insurance Social security and medical care taxes (employer’s portion) Pension and other postretirement costs expense (paid by employer) Unemployment taxes expense

6% 8% 5% 2%

In addition, Girard pays $825 per month per employee for group health insurance.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

Chapter 10 – Liabilities

68. When a corporation has a right to redeem bonds in advance of the maturity date, the bond is considered a: A. Convertible bond. B. Callable bond. C. Junk bond. D. Debenture bond.

69. Sinking funds usually appear on the statement of financial position as: A. Current asset. B. Long-term investment. C. Current liability. D. Appropriation of retained earnings.

Chapter 10 – Liabilities

70. A bond that is not secured is also known as: A. A sinking fund. B. A mortgage. C. A debenture. D. A junk bond.

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Decision Making Bloom's: Understand Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

76. The term "junk bonds" describes bonds with: A. Low interest rates. B. Indefinite maturity dates. C. Low maturity values. D. High risk.

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

Chapter 10 – Liabilities

80. The current portion of noncurrent debt should be reported: A. Separately in the noncurrent liabilities section of the statement of financial position. B. In the noncurrent liabilities section of the statement of financial position, along with the other long-term debt. C. In the current liabilities section of the statement of financial position. D. In a separate section of the statement of financial position, between noncurrent liabilities and shareholders' equity.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

Chapter 10 – Liabilities

83. Which one of the following is not considered a criteria to capitalize a lease? A. The lease contains a bargain purchase option. B. The lease transfers ownership at the end of the lease term. C. The lease term is more than 75% of economic life of the property. D. The present value of minimum lease payments is less than 90% of the fair market value of the asset.

Chapter 10 – Liabilities

85. The price at which a bond sells is equal to the: A. Maturity value of the bonds plus the present value to investors of the future interest payments. B. Sum of the future interest payments, minus the maturity value of the bonds. C. Present value to investors of the future principal and interest payments. D. Sum of the future interest payments, plus the maturity value of the bonds.

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-07 Explain the concept of present value as it relates to bond prices. Topic: Noncurrent liabilities

100

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Medium Learning Objective: 10-08 Explain how provisions, contingent liabilities, and commitments are disclosed in financial statements. Topic: Provisions, Contingent Liabilities, and Commitments

101

Chapter 10 – Liabilities

102

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Medium Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

92. Which of the following is an example of a loss contingency that should be disclosed in a footnote to a company's financial statements? A. The president of the company has threatened to resign if the board of directors does not vote to increase executive salaries. B. A lawsuit has been brought against the company, but the company hopes to prevail in the suit and thereby avoid any liability. C. The allowance for uncollectible accounts receivable is estimated at $200,000. D. The company owns special-purpose machinery which, if sold, would probably bring a price less than its current book value.

103

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

104

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-07 Explain the concept of present value as it relates to bond prices. Topic: Noncurrent liabilities

105

Chapter 10 – Liabilities

100. In a statement of cash flows, most interest payments are classified as: A. Operating activities. B. Non-operating activities. C. Investing activities. D. Current liabilities.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Easy Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

106

Chapter 10 – Liabilities

107

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

108

Chapter 10 – Liabilities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Easy Learning Objective: 10-08 Explain how provisions, contingent liabilities, and commitments are disclosed in financial statements. Topic: Provisions, Contingent Liabilities, and Commitments

110. Which of the following ratios and rates that measure debt-paying ability focuses on the long-term position of a company? A. Quick ratio. B. Inventory turnover. C. Current ratio. D. Debt ratio.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

109

Chapter 10 – Liabilities

112. The Music House issues a contract to a new recording artist to produce a number of albums over the next five years at $1 million per album. This situation is an example of: A. A contingent liability which should be recorded in the accounting records. B. A contingent liability requiring footnote disclosure. C. A provision, since the number of albums to be produced is not yet determined. D. A commitment which, if material, may be disclosed in a footnote.

110

Chapter 10 – Liabilities

114. Deferred taxes are classified as: A. Only a liability. B. Only an asset. C. Either an asset or liability, depending upon the situation. D. A non-operating expense.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Easy Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

111

Chapter 10 – Liabilities

116. Premium on bonds payable: A. Is an asset account. B. Increases the carrying amount of the liability. C. Is a contra-asset account. D. Is disclosed by a footnote.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Understand Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

112

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-02 Account for notes payable and interest expense. Topic: Current Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

113

Chapter 10 – Liabilities

120. Assume Apex borrows $2 million to finance its expansion. Apex's debt ratio immediately after the borrowing will be: A. .10. B. .20. C. .33 (rounded). D. .18. $4/$22 = .18

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-09 Evaluate the safety of creditors' claims. Topic: Evaluating the Safety of Creditors' Claims

121. What is the maximum amount Apex can borrow and not exceed a debt ratio of .3? A. $4,000,000. B. $5,500,000. C. $5,000,000. D. $6,000,000. $7.5/$25.5 = 2.94

On 1 November, Year 1, Noble Co. borrowed $80,000 from South Bank and signed a 12%, six-month note payable, all due at maturity. The interest on this loan is stated separately.

114

Chapter 10 – Liabilities

122. How much must Noble pay South Bank on 1 May, Year 2, when the note matures? A. $80,000. B. $89,600. C. $84,800. D. $82,400. $80,000  12%  6/12 = $4,800 + $80,000 = $84,800

123. How much interest expense will Noble recognize on this note in Year 2? A. $9,600. B. $4,800. C. $2,400. D. $3,200. $80,000  12%  4/12 = $3,200

115

Chapter 10 – Liabilities

124. At 31 December, Year 1, Noble Co.'s overall liability for this loan amounts to: A. $80,000. B. $81,600. C. $83,200. D. $84,800. $80,000 + ($80,000  12%  2/12) = $81,600

$180,000 $6,000,000

116

Chapter 10 – Liabilities

126. How much must Able pay Regal Corporation on 1 September 2015, when the note matures? A. $6,000,000. B. $6,180,000. C. $6,540,000. D. Some other amount. $6,000,000 + ($6,000,000  .09) = $6,540,000

127. What is the amount of the interest expense Able will recognize on this note in 2015? A. $180,000. B. $315,000. C. $360,000. D. $540,000. $6,000,000  .09  8/12 = $360,000

117

Chapter 10 – Liabilities

128. What is the total cash (including interest) paid for the building purchased by Able? A. $8,000,000. B. $8,360,000. C. $8,540,000. D. $8,160,000. $2,000,000 + $6,000,000 + $540,000 = $8,540,000

118

Chapter 10 – Liabilities

On 1 September 2014, Select Company borrowed $600,000 from a bank and signed a 12%, six-month note payable, with interest on the note due at maturity.

119

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120

Chapter 10 – Liabilities

5% 7.65% 5% 10% 2%

In addition, Stone provides group health insurance for its entire workforce. The cost of this insurance is $550 per month for each employee.

134. The company's annual payroll-related expenses amount to approximately: A. $10,085,600. B. $10,933,500. C. $10,250,700. D. $9,000,000. $9,000,000 + (.05  $9,000,000) + (.0765  $9,000,000) + (.05  $9,000,000) + (.02  $9,000,000) + ($550  12  25) = $10,933,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

121

Chapter 10 – Liabilities

135. Employees' annual "take-home-pay," totals approximately: A. $6,723,000. B. $7,623,000. C. $6,750,000. D. $7,411,500. $9,000,000 - ($9,000,000  .0765) - ($9,000,000  .10) = $7,411,500

136. Some of the payroll-related expenses incurred by Stone Corporation are mandated by law, rather than negotiated with employees. During the current year, these mandated amounts increased Stone's payroll-related expenses by approximately: A. $688,500. B. $2,007,000. C. $1,318,500. D. $1,768,500. ($9,000,000  .05) + ($9,000,000  .0765) + ($9,000,000  .02) = $1,318,500 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

122

Chapter 10 – Liabilities

137. Assume that the government implements a 10% payroll tax upon employers to finance health insurance for all citizens and residents. Stone will pay this tax instead of purchasing group health insurance. This will cause Stone’s total annual payroll-related expenses to: A. Increase by $735,000. B. Increase by $150,000. C. Decrease by $325,000. D. No change, because payroll taxes are withheld from employees' pay. ($9,000,000  .10) - ($550  12  25) = $735,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

138. Compute the total amount to be paid by Bradley over the 15-year life of the mortgage. A. $200 million. B. $562 million. C. $432 million. D. $474 million. $2.4 million  12  15 = $432 million

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

123

Chapter 10 – Liabilities

139. How much of the first payment made on 31 December, Year 1, represents interest expense? A. $2,400,000. B. $ 400,000. C. $2,304,000. D. $2,000,000. 1%  $200 million = $2 million

140. The total liability related to this mortgage reported in Bradley's statement of financial position at 31 December, Year 1, is: A. $432,100,000. B. $199,600,000. C. $194,923,000. D. $200,000,000. 200,000,000 – 400,000 = 199,600,000

124

Chapter 10 – Liabilities

141. Over the 15-year life of the mortgage, the total amount Bradley will pay for interest charges is: A. $232 million. B. $360 million. C. $200 million. D. $432 million . $432 million - $200 million = $232 million

142. The portion of the second monthly payment made on 31 January, Year 2, which represents repayment of principle is: A. $400,000. B. $404,000. C. $2,400,000. D. $1,996,000. $2,400,000 - (1%  $199,600,000) = $404,000

125

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-01 Define liabilities and distinguish between current and noncurrent liabilities. Topic: Liabilities

126

Chapter 10 – Liabilities

On 1 April, year 1, Cricket Corporation issues $60 million of 12%, 10-year bonds payable at par. Interest on the bonds is payable semiannually each 1 April and 1 October.

145. The amount of cash paid to bondholders for interest during Year 1, is: A. $6,600,000 B. $5,400,000 C. $3,600,000 D. $1,800,000 $60,000,000  .06 = $3,600,000

146. Interest expense on this bond issue reported in Cricket's year 1, income statement is: A. $2,400,000 B. $4,800,000 C. $5,400,000 D. $7,200,000 $60,000,000  12%  9/12 = $5,400,000

127

Chapter 10 – Liabilities

128

Chapter 10 – Liabilities

On 1 April, year 1, Greenway Corporation issues $20 million of 10%, 20-year bonds payable at par. Interest on the bonds is payable semiannually each 1 April and 1 October.

129

Chapter 10 – Liabilities

151. In Year 2, Greenway's income statement will report interest expense arising from this bond issue of: A. $1,000,000. B. $2,000,000. C. $500,000. D. $1,500,000. $20,000,000  10% = $2,000,000

130

Chapter 10 – Liabilities

154. The total amount of cash received by Austin Corporation upon issuance of the bonds on 30 April, Year 2, is: A. $6,000,000. B. $6,200,000. C. $6,150,000. D. $6,300,000. $6,000,000 + ($6,000,000  10%  4/12) = $6,200,000

131

Chapter 10 – Liabilities

157. The amount of Austin's interest expense on this bond issue during year 2 amounts to: A. $400,000. B. $450,000. C. $360,000. D. $600,000. $6,000,000  10%  8/12 = $400,000

132

Chapter 10 – Liabilities

Salem Co. has outstanding $100 million of 7% bonds, due in 7 years, and callable at 104. The bonds were issued at par and are selling today at a market price of 94.

133

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

134

Chapter 10 – Liabilities

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

163 6. Webster's entry at 30 June 2014, to record the first semiannual payment of interest and amortization of discount on the bonds includes a: A. Debit to Bond Interest Expense of $30,000. B. Credit to Cash of $33,000. C. Debit to Discount on Bonds Payable of $3,000. D. Debit to Bond Interest Expense of $33,000. $1,000,000  3% + $30,000/10 = $33,000

135

Chapter 10 – Liabilities

164. The amount of bond interest expense recognized by Webster Company in 2013 with respect to these bonds is: A. $60,000. B. $63,000. C. $120,000. D. $66,000. $1,000,000  .06 + 2($30,000/10) = $66,000

165. The carrying value of this liability in Webster Company's 31 December 2014, statement of financial position is: A. $1,000,000. B. $970,000. C. $976,000. D. $967,000. $970,000 + $6,000 = $976,000

136

Chapter 10 – Liabilities

5% 7.65% 5% 10% 2%

In addition, Rockland provides group health insurance for its entire workforce. The cost of this insurance is $600 per month for each employee.

166. The company's annual payroll-related expenses amount to approximately: A. $9,570,400. B. $9,730,400. C. $9,572,000. D. $9,330,400. $8,000,000 + (.05 x $8,000,000) + (.0765 x $8,000,000) + (.05 x $8,000,000) + (.02 x $8,000,000) + ($600 x 12 x 22) = $9,730,400

137

Chapter 10 – Liabilities

167. Employees' annual "take-home-pay," totals approximately: A. $6,428,000. B. $7,600,000. C. $6,812,000. D. $6,588,000. $8,000,000 - ($8,000,000 x .0765) - ($8,000,000 x .10) = $6,588,000

138

Chapter 10 – Liabilities

170. Assume Gamma borrows $5 million to finance its expansion. Gamma's debt ratio immediately after the borrowing will be (rounded): A. .11. B. .23. C. .30 (rounded). D. .35. $8/$35 = .23

139

Chapter 10 – Liabilities

171. What is the maximum amount Gamma can borrow and not exceed a debt ratio of .2? A. $3,750,000. B. $600,000. C. $6,000,000. D. $5,750,000. .2 = ($3 + X)/($30 + X); X = 3.75

140

Chapter 10 – Liabilities

174. The amount of bond interest expense recognized by Trego Company in 2015 with respect to these bonds is: A. $400,000. B. $420,000. C. $600,000. D. $440,000. $10,000,000 x .04 + 2($200,000/10) = $440,000

141

Chapter 10 – Liabilities

175. The carrying value of this liability in Trego Company's 31 December, 2015, statement of financial position is: A. $10,000,000. B. $10,160,000. C. $10,200,000. D. $10,240,000. $10,200,000-$40,000 = $10,160,000

142

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Essay Questions

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. ____ (a) Operating profit divided by annual interest expense. ____ (b) The amount paid during the current period to retired employees. ____ (c) A lease agreement that is viewed as equivalent to the lessee purchasing the leased asset. ____ (d) Using borrowed money to finance business operations. ____ (e) The risk of a loss occurring in a future period. ____ (f) A permanent reduction in the amount of income taxes owed which results from the tax deductions for depreciation. ____ (g) The amount that must be paid to settle a liability at the date it becomes due. (a) Interest coverage ratio, (b) None (postretirement benefit expense is the present value of future benefits earned by the workforce, not the amount paid to workers already retired), (c) Finance lease. (d) Applying leverage, (e) None (a contingent liability is a loss that already may have occurred, not a loss that may occur in the future), (f) None (deferred taxes have been postponed, not eliminated), (g) Maturity value

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Bloom's: Remember Difficulty: Easy Learning Objective: 10-08 Explain how provisions, contingent liabilities, and commitments are disclosed in financial statements. Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Liabilities

143

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General Journal

(a) $654,000 [$600,000 + ($600,000  9%)] (b) $36,000 ($600,000  9%  8/12) (c) $618,000 [$600,000 + ($600,000  9%  4/12)] (d) 31 Dec

General Journal Interest Expense Interest Payable To accrue four months’ interest on note Payable ($600,000  9%  4/12)

18,000 18,000

144

Chapter 10 – Liabilities

General Journal

(a)$100,000 + ($100,000  .06) = $106,000 (b)$100,000  .06  8/12 = $4,000 (c)$100,000 + $2,000 (four months' interest payable) = $102,000 (d) 31 Dec General Journal Interest Expense Interest Payable To accrue four months’ interest on note Payable ($100,000  6%  4/12)

2,000 2,000

145

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$12,250,000 $650,000 500,000 500,000 120,000

1,150,000

620,000 450,000 1,060,000 450,000

$200,000 350,000

550,000

(a) Compute Revere’s total payroll-related expense for the year. $________________. (b) Compute the company’s cash outlays during the year for payroll-related expense (assume short-term obligations such as insurance premiums and payroll taxes have been paid.) $_______________. (c) Compute the annual take-home pay of Revere’s employees. $________________. (d) How were the costs of postretirement benefits determined? Which of these amounts results in a liability to Revere Ironworks, and when will this liability be paid? Will the amount of the payments be more or less than the amount now shown as a liability? Explain. (a) $15,380,000 ($12,250,000 + $620,000 + $450,000 + $1,060,000 +$450,000 +550,000) (b) $15,030,000 ($15,380,000 from part a, less $350,000 in unfunded postretirement benefits) (c) $11,100,000 ($12,250,000 gross pay, less$1,150,000 in amounts withheld) (d) The costs of postretirement benefits were determined by estimating the present value of the future costs of retirement benefits earned during the year by today's workforce. Only the unfunded portion of these costs represents a liability to Revere Ironworks. This liability will be paid either when it funds the plan or pays for the promised benefits after today's workers have retired. The liability reflects only the present value of unfunded benefits to be made in the distant future. The actual payments will be substantially larger than their present value at this time.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Hard Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Topic: Current Liabilities

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Monthly Payment --$648,500 $648,500

Interest Expense --$__________ $__________

Repayment of Principal --$__________ $__________

Unpaid Balance $60,000,000 $__________ $__________

Payment Date Issuance 30 Nov. 31 Dec.

Monthly Payment --$648,500 $648,500

Interest Expense --$600,0001 $599,5454

Repayment of Principal --$48,5002 $48,955

Unpaid Balance $60,000,000 $59,951,5003 $59,902,545

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1. $60,000,000 x .12 x 1/12 = $600,000 2. $648,500 - $600,000 = $48,500 3. $60,000,000 - $48,500 = $59,951,500 4. $59,951,500 x .12 x 1/12 = $599,545 (a) With respect to this mortgage, Seldon's 2014 income statement includes interest expense of $1,199,545, and Seldon's statement of financial position at 31 December 2014, includes a total liability for this mortgage of $59,902,545. (Do not separate into current and long-term portions.) $600,000 + $599,545 = $1,199,545 interest expense for 2014 $60,000,000 - $48,500 - $48,955 = $59,902,545 remaining principal (per table). (b) The aggregate monthly cash payments Seldon will make over the 30-year life of the mortgage amount to $233,460,000. $648,500  30 years  12 payments per year = $233,460,000. (c) Over the 30-year life of the mortgage, the amount Seldon will pay for interest amounts to $173,460,000. $233,460,000 aggregate payments - $60,000,000 principal = $173,460,000.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

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Monthly Payment --$2,354 $2,354

Interest Expense --$__________ $__________

Repayment of Principal --$__________ $__________

Unpaid Balance $50,000 $__________ $__________

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Chapter 10 – Liabilities

Payment Date Issuance 30 Nov.2014 31 Dec.2014

Monthly Payment --$2,354 $2,354

Interest Expense --1

$500 $4814

Repayment of Principal --2 $1,854 $1,873

Unpaid Balance $50,000 $48,1463 $46,273

1. $50,000 x .12 x 1/12 = $500 2. $2,354 - $500 = $1,854 3. $50,000 - $1,854 = $48,146 4. $48,146 x .12 x 1/12 = $481 (a) With respect to this note, Ronald's 2014 income statement includes interest expense of $981 (per table); and Ronald's statement of financial position at 31 December 2014, includes a total liability for this note payable of $46,273 (per table). (b) The aggregate monthly cash payments Ronald will make over the 2-year life of the note payable amount to $56,496. $2,354 monthly payment  24 months = $56,496 (c) Over the 2-year life of the note, the amount Ronald will pay for interest amounts to $6,496. $56,496 aggregate payments - $50,000 principal = $6,496. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

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(a) $1,250,000 (Oct. 1 payment: $25,000,000  .10  6/12) (b) Year 1 31 Dec

Bond Interest Expense Bond Interest Payable To accrue bond interest payable for three months ($25,000,000  .10  3/12)

625,000 625,000

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1 April

Bond Interest Expense Bond Interest Payable Cash To record semiannual interest payment to bondholders, and to recognize 3 months of interest expense accrued since year end ($25,000,000  .10  3/12)

625,000 625,000 1,250,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

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Bond Interest Expense Bond Interest Payable To accrue bond interest payable for three months ($20,000,000  8%  4/12)

533,333 533,333

(c) $1,333,333 ($800,000 from part a + $533,333 from part b) (d) Bonds payable $20,000,000 Bond interest payable $ 533,333 (e) 1 March

Bond Interest Expense Bond Interest Payable Cash

266,667 533,333 800,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

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184. Bonds payable-issued between interest dates Barney Corporation received authorization on 31 December, Year 1, to issue $2,500,000 of 6%, 10-year bonds. The interest payment dates are 30 June and 31 December. All the bonds were issued at a price of 100, plus accrued interest, on 28 February, Year 2, two months after the authorization of the bond issue. (d) The amount of cash received by Barney Corporation from issuance of the bonds on 28 February, Year 2, is: $________________ (e) The amount of cash paid to bondholders on 30 June, Year 2, is: $________________ (f) Bond interest expense reported in Barney’s year 2 income statement is: $________________ (d) Prepare the journal entry at 28 February, Year 2, to record the issuance of the bonds. (e) Prepare the journal entry at 30 June, Year 2 to record the first semiannual interest payment on the bonds. (a) $2,525,000 ($2,500,000 + $2,500,000  .06  2/12) (b) $75,000 ($2,500,000  .06  6/12) (c) $125,000 ($2,500,000  .06  10/12) (d) 28 Feb

Cash Bond Payable Bond Interest Payable

2,525,000

Bond Interest Payable Bond Interest Expense Cash

25,000 50,000

2,500,000 25,000

(e) 30 June

75,000

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Chapter 10 – Liabilities

(a) 1 Feb

Cash Bond Payable Bond Interest Payable Issued $4,500,000 face value bonds at par, plus 1 month’s accrued interest ($4,500,000 x 8% x 1/12)

4,530,000

Bond Interest Payable Bond Interest Expense Cash To record payment of semiannual interest ($4,500,000 x 8% x 6/12)

30,000 150,000

4,500,000 30,000 30,000

(b) 30 June

180,000

(c) $330,000 interest expense Since the bonds were issued at par, interest expense is equal to the contractual interest for the period that the bonds were outstanding. ($4,500,000  .08  11/12 = $330,000) (d) $-0- accrued bond interest payable The interest payment date is 31 December; therefore, interest for the last six months of a year is paid and does not appear as a liability in the statement of financial position at 31 December. (e) Year 3 1 July

Bond Payable Loss on Early Retirement of Debt Cash To record retirement of $1,500,000 face value bonds, originally issued at par, at 105)

1,500,000 75,000 1,575,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Hard Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Noncurrent liabilities

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Current Liabilities

Noncurrent Liabilities

Profit

(a) (b) (c) (d) (e)

_______ _______ _______ _______ _______

Current Liabilities

Noncurrent Liabilities

___I___ ___D___ ___D___ ___I___ ___NE__

___NE__ ___NE__ ___I___ ___NE__ ___I___

Transaction

(a) (b) (c) (d) (e)

Net Cash Flow (All Activities Combined) _______ _______ _______ _______ _______

(other than operating Activities)

Profit

Net Cash Flow (All Activities Combined)

(other than operating Activities)

___D___ ___D___ ___NE__ ___D___ ___D___

___D___ ___D___ ___NE__ ___NE__ ___NE__

___NE__ ___D___ ___NE__ ___NE__ ___NE__

_______ _______ _______ _______ _______

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-02 Account for notes payable and interest expense. Learning Objective: 10-03 Describe the costs and the basic accounting activities relating to payrolls. Learning Objective: 10-06 Account for bonds issued at a discount or premium. Topic: Current Liabilities, Noncurrent liabilities

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Chapter 10 – Liabilities

(a) Accrued interest: $20,000,000  7%  3/12 = $350,000 (b) $150,000 discount $20,200,000 - $350,000 accrued interest = $19,850,000 $20,000,000 - $19,850,000 for bonds = $150,000 discount (c) $1,400,000 $700,000 (30 June) + $700,000 (31 December) = $1,400,000 $20,000,000  .07  6/12 = $700,000 semiannually (d) $1,026313 Contract interest ($20,000 x .07 x 9/12) Discount amortization ($150,000 x 9/57) Total interest expense

$1,050,000 23,684 $1,026,313

(e) $19,873,684 Bond face amount Less: Unamortized discount ($150,000 - $23,684)) Carrying amount at 31 December 2014

$20,000,000 126,316 $19,873,684

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188. Fully amortizing installment notes

When Sue Meadow purchased a home, she signed a $1,500,000, 12%, fully amortizing mortgage note, payable at $15,430 per month. After making the first monthly payment, Meadow received a notice from the bank stating that $15,000 of the payment had applied to interest, and only $430 reduced the principal amount of the loan. Meadow does not understand how this loan is fully amortizing over a period of 30 years. She computes that at $430 per month, it will take approximately 3,488 months (or 290 years) to repay this loan. Evaluate Meadow's analysis. Meadow's analysis is incorrect, because the unpaid balance (principal amount) of the mortgage note will not be repaid at a constant rate of $430 per month. The portion of each payment representing interest expense is based upon the unpaid balance of the loan. Since this unpaid balance is reduced each month, the portion of each successive payment representing interest will decrease, and the portion applied to repayment of the principal amount will increase. Thus, the unpaid balance of the loan is repaid at an ever-increasing rate.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 10-04 Prepare an amortization table allocating payments between interest and principal. Topic: Noncurrent liabilities

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(a) The interest rates available to investors have probably increased since Clear-Air issued these bonds. Bonds provide investors with a return which is fixed in dollar amount. Therefore, as the interest rates available from alternative investment opportunities rise, the price of a given bond issue tends to fall. In summary, bond prices vary inversely with fluctuations in market interest rates. (b) After bonds have been issued, they belong to the bondholders, not to the issuing corporation. Therefore, changes in the market price of bonds subsequent to their issuance do not affect the amounts shown in the financial statements of the issuing company. (However, IFRS 7 requires that, when an entity does not measure a financial liability in its statement of financial position at fair value, it should provide fair value information through supplementary disclosures to assist users to compare entities on a consistent basis.)

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Analyze Difficulty: Medium Learning Objective: 10-05 Describe corporate bonds and explain the tax advantage of debt financing. Topic: Noncurrent liabilities

162

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163

Chapter 10 – Liabilities

(a) A finance lease transfers most of the risks and rewards incidental to ownership from the lessor to the lessee. From an accounting point of view, finance leases are regarded as essentially equivalent to a sale of the property to the lessee, even though title to the leased property has not been transferred. When equipment is acquired through a finance lease, the lessee includes an asset, Leased Equipment, and a liability, Obligation Under Finance Lease, in its statement of financial position. Finance Charges and Depreciation Expense on the leased asset are reported in the lessee's income statement annually. No rent expense is involved in a finance lease. In an operating lease, the lessor gives the lessee the right to use leased property for a limited period of time, but retains the usual risks and rewards of ownership. No asset or liability relating to the lease appears in the statement of financial position of the lessee; lease payments are simply reported as rental expense. (b) In determining whether a lease is a finance lease (otherwise, it is classified as an operating lease) under IAS 17, an entity evaluates whether any one or more of the following indicators or situations of a finance lease exist (students are to give any three of the following indicators or situations): 1. The lease transfers ownership of the asset to the lessee by the end of the lease term; 2. The lessee has the option to purchase the asset at a price that is expected to be sufficiently lower than the fair value at the date the option becomes exercisable for it to be reasonably certain, at the inception of the lease, that the option will be exercised; 3. The lease term is for the major part of the economic life of the asset even if title is not transferred; 4. At the inception of the lease, the present value of the minimum lease payments amounts to at least substantially all of the fair value of the leased asset; 5. The leased assets are of such a specialised nature that only the lessee can use them without major modifications; 6. If the lessee can cancel the lease, the lessor’s losses associated with the cancellation are borne by the lessee; 7. Gains or losses from the fluctuation in the fair value of the residual accrue to the lessee; and 8. The lessee has the ability to continue the lease for a secondary period at a rent that is substantially lower than market rent. (c) Operating leases are sometimes referred to as "off-balance-sheet financing." The lessee's statement of financial position contains no asset or liability related to the lease arrangement other than perhaps a current liability for accrued rent payable. The entire leasing arrangement is not reflected in the statement of financial position. AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Hard Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

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(a) For Harding Construction, Inc., deferred taxes represent a portion of the current-year income tax expense whose payment is postponed until future periods. Deferred taxes arise when items of revenue are included in the income statement in the current period, but are not taxed until some future period. Deferred taxes also arise when expenses recognized in the financial statements are smaller than the expenses deducted in the current year's tax return. In both of these situations, pretax accounting profit is larger than the taxable income reported in the current-year income tax return. In general, deferred taxes arise because the income tax expense recognized for accounting purposes is larger than the amount of taxes owed for the current period (based upon the current-year tax return). In most cases, the existence of deferred taxes would be regarded as a favorable situation, as it indicates that the cash outlay for income taxes to date is smaller than the amount of income tax expense reported in the income statement. (b) Although some of the income taxes deferred in prior years constantly are coming due, the liability for deferred taxes usually increases as a company grows and prospers. AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Hard Learning Objective: 10-10 Describe reporting issues related to leases; postretirement benefits; and deferred taxes. Topic: Special Types of Liabilities

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192. Contingent liability Ocean to Coast Airlines could, at any time, incur a large loss if one of its airplanes were to crash. Is this an example of a contingent liability which should be disclosed in the company's financial statements? Explain. The risk of a future airplane crash is not a contingent liability. Contingent liabilities relate to events which have already occurred, but for which the financial impact is uncertain. The risk of a future airplane crash is a potential future loss. Potential future losses are not disclosed in financial statements.

166

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March 1, 2011; September 1, 2011; 31 December 2011; and March 1, 2012.

167

Chapter 10 – Liabilities

168

Chapter 10 – Liabilities Multiple Choice Questions

On 30 November 2014, Central Food purchased two trucks for a total of $1,400,000, issuing a one-year, 6% note payable, all due at maturity. The interest on this loan is stated separately.

195. The 31 December 2014, adjusting entry for this note includes: A. A credit to Cash for $14,000. B. A credit to Interest Payable for $84,000. C. A credit to Interest Payable for $14,000. D. A credit to Interest Payable for $7,000.

196. The total liabilities related to this note reported in Central Food's 31 December 2014, balance sheet is: A. $1,400,000. B. $1,484,000. C. $1,407,000. D. $1,414,000.

197. What is the amount of interest expense Central Food's recognizes on this note in 2015? A. $7,000. B. $84,000. C. $77,000. D. $14,000.

198. How much must Central Food pay the lender upon maturity of this note? A. $1,407,000. B. $1,400,000. C. $1,477,000. D. $1,484,000.

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Chapter 10 – Liabilities

Shown below is a summary of the annual payroll data of Rose Co.:

$2,250,000 $170,000 $150,000 $150,000 58,000

320,000

208,000 130,000 252,000 140,000

$90,000 120,000

210,000

200. Rose Company's total payroll-related expense for the year is: A. $2,250,000. B. $3,510,000. C. $2,840,000. D. $3,190,000.

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Chapter 10 – Liabilities

202. The annual "take-home-pay" of Rose' employees is: A. $2,520,000. B. $2,250,000. C. $1,930,000. D. $2,750,000.

203. Amounts paid during the year to retirees for pension and other postretirement benefits total: A. $140,000. B. $350,000. C. $230,000. D. None of above.

171

Chapter 10 – Liabilities Short Answer Questions

2. Prepare the journal entry to record the first semiannual interest payment on the bonds at 30 June, Year 2.

3. What is the amount of bond interest expense that appears in Seaview’s Year 2 income statement relating to these bonds? $_________________________

4. What is the amount of accrued bond interest expense that appears in Seaview’s statement of financial position at 31 December, Year 2, with respect to these bonds? $_________________________ 5. Seaview exercises the call provision and retires one-half of the bond issue on 1 July, Year 4. Prepare the journal entry to record this transaction on 1 July, Year 4.

1 Cash ................................................................................................... Bonds Payable ............................................................................. Bond Interest Payable.................................................................. Issued $7,000,000 face value bonds at par, plus three months’ accrued interest. ($7,000,000 x 6% x 3/12 = $105,000) 2 Bond Interest Payable ........................................................................ Bond Interest Expense ....................................................................... Cash ............................................................................................. To record payment of semiannual interest. ($7,000,000 x 6% x 1/2)

7,105,000 7,000,000 105,000

105,000 105,000 210,000

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3 $315,000 interest expense. Since the bonds were issued at par, interest expense is equal to the contractual interest for the period that the bonds were outstanding. ($7,000,000 x 6% x 9/12 = $315,000) 4 $0 accrued bond interest payable. The interest payment date is 31 Dec.; therefore, interest for the last six months of a year is paid and does not appear as a liability in the statement of financial position. 5 Bonds Payable ................................................................................... 3,500,000 Loss on Early Retirement of Bonds .................................................. 70,000 Cash ......................................................................................... To record retirement of $3,500,000-face-value bonds, originally issued at par, at 102.

3,570,000

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206 How much of the first payment made on 31 December 2014, is allocated to repayment of principal? $________

$11,445 [$411,445 - $400,000 interest ($40,000,000 x .12 x 1/12)] 207 What is the total liability related to this mortgage to be reported in Fisher’s statement of financial position at 31 December 2014? (Do not separate into current and long-term portions.) $________ $39,988,555 [$40,000,000 - $11,445 repayment of principal]

208 The portion of the second monthly payment made on 31 January 2015, which represents interest expense is $________ $399,886 [$39,988,555 x .12 x 1/12 = $399,886]

209 What is the aggregate amount paid by Fisher over the 30-year life of the mortgage? $________ $148,120,200 [$411,445 monthly x 360 months]

210 Over the 30-year life of the mortgage, the total amount Fisher will pay for interest charges is $________ $108,120,200 [$148,120,200 total payments - $40,000,000 principal]

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Multiple Choice Questions

175

Chapter 10 – Liabilities

176

Chapter 10 – Liabilities

219. Which of the following situations require recording a liability in 2014? (More than one answer may be correct.) A. In 2014, a company manufactures and sells stereo equipment which carries a three-year warranty. B. In 2015, a theater group receives payments in advance from season ticket holders for productions to be performed in 2015. C. A company is a defendant in a legal action. At the end of 2014, the company's attorney feels it is possible the company will lose, and that the amount of the loss might be material. D. During 2014, a Beijing agricultural co-operative is concerned about the risk of loss if inclement weather destroys the crops.

177

Chapter 11 - Shareholders' Equity: Capital

Chapter 11 Shareholders' Equity: Capital

True / False Questions

1. When a shareholder sends in a proxy statement to a corporation he or she owns shares in, they relinquish their voting rights to the officers of the corporation. True False

2. A shareholders' subsidiary ledger will have entries made for each shareholder showing the number of shares held. True False

3. The number of shares a corporation may issue is specified in the articles of incorporation and approved by the Securities and Exchange Commission. True False

4. The par value of a share is the minimum amount of capital of the corporation existing for the protection of creditors. True False

5. When a state authorizes the sale of shares to shareholders, the corporation will credit Retained Earnings for the par value of the shares. True False

6. When a corporation fails to pay a dividend one year on its ordinary shares it is said to be "in arrears". True False

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Chapter 11 - Shareholders' Equity: Capital

7. A share split will normally increase the market price of the share and decrease the number of shares on the market. True False

8. Treasury shares are shares issued and outstanding but not authorized True False

9. The purchase of treasury share creates an asset for the corporation and is recorded at the cost of the shares purchased not par value. True False

10. Contributed capital is equivalent to issued and fully paid capital. True False

11. Ordinary share is considered the legal capital of the corporation. True False

12. Preference share means the share is entitled to its regular dividend plus an additional share of the total amount of declared dividends. True False

13. A corporation is a legal entity separate from its owners; it may sue and be sued, but it may not own property in its own name. True False

14. A corporation continues in existence even if a shareholder dies or withdraws from the organization. True False

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Chapter 11 - Shareholders' Equity: Capital

15. Treasury share is share of a corporation that has been issued and then reacquired and then cancelled. True False

16. A share split will decrease the total par value of the share. True False

17. Shareholders of a corporation are personally liable for the debts of the corporation if all shares are owned by the officers of the corporation. True False

18. It is illegal for the government to double tax corporate earnings. True False

19. Only preference share of a corporation must have a par value. True False

20. The declaration of a cash dividend by the board of directors causes a decrease in a corporation's retained earnings and a decrease in its assets. True False

21. The declaration of a cash dividend causes shareholders' equity to decrease but has no immediate effect upon corporate assets. True False

22. If share is issued by a corporation at a price lower than par value, the difference represents a loss in the period in which the shares are issued. True False

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Chapter 11 - Shareholders' Equity: Capital

23. When par value share is issued, share capital is credited with the par value of the shares issued, regardless of whether the issuance price is equal to par, more than par, or less than par. True False

24. Preference shareholders are owners of the corporation and have rights upon liquidation and to receive dividends. True False

25. Issued and fully paid capital includes donated capital. True False

26. In the event of the liquidation of a corporation, treasury share ordinarily has preference as to liabilities and preference share has preference as to assets. True False

27. Preference shareholders generally do not have the same voting rights as do ordinary shareholders in a corporation. True False

28. Dividends declared and paid to both ordinary and preference shareholders increase retained earnings. True False

29. When assets are donated to a corporation, a revenue account should be credited for the fair market value of the assets received. True False

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Chapter 11 - Shareholders' Equity: Capital

30. A corporation must always have more than one class of share. True False

31. The purchase of treasury share for cash causes no change in total assets. True False

32. The sale of treasury share at a price in excess of its cost results in a realized gain which should be presented as a non-operating item in the income statement. True False

33. Inside directors of a corporation may be officers of the corporation and therefore are not considered independent. True False

34. International accounting standards require mandatory redeemable preference share to be classified as a liability on the balance sheet and not as equity. True False

35. To be consistent with international standards the FASB has changed reporting requirements for redeemable preference share to require it to be reported in the equity section. True False

36. By going public a corporation can raise equity capital from many investors. True False

Multiple Choice Questions

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Chapter 11 - Shareholders' Equity: Capital

37. The advantages of corporations going public include all of the following except: A. Professional management. B. Transferability of ownership. C. Limited shareholder liability. D. Ability to remove assets.

38. In a "pump-and-dump" scheme the owners of the company: A. Falsely claim the business has high growth potential. B. Artificially raise the price of the share. C. Sell the share at a high price. D. All of the above.

39. In order to limit the use of a shell company, the SEC has proposed: A. Greater financial disclosures. B. Eliminating this type of company. C. Arresting promoters of shell companies for fraud. D. That its share only be sold in foreign countries.

40. The ownership of ordinary share in a corporation usually carries the following rights: A. To vote for directors. B. To declare dividends. C. To share in a distribution of assets if the corporation is to be liquidated. D. Both a and c.

41. The board of directors' primary functions include all of the following except: A. Hiring corporate officers. B. Setting officers' salaries. C. Declaring dividends. D. Protecting the interests of the officers.

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Chapter 11 - Shareholders' Equity: Capital

42. Shares that have been sold and are in the hands of shareholders are called A. Outstanding. B. Issued. C. Treasury. D. Underwritten.

43. Book value per share of ordinary share is derived by which of the following A. Shareholders equity divided by the number of shares authorized. B. Shareholders equity divided by the number of shares outstanding. C. Profit divided by the number of shares outstanding D. Profit divided by the number of shares authorized.

44. The net assets of a corporation are equal to: A. Total assets - total liabilities. B. Total assets - retained earnings. C. Total assets + total liabilities. D. Total assets + retained earnings.

45. Cash dividends paid to shareholders will appear in which section of the statement of cash flows: A. Operating. B. Investing. C. Financing. D. Discontinued.

46. When shares are sold from one investor to another they will trade at: A. Par value. B. Book value. C. Market value. D. Stated Value.

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Chapter 11 - Shareholders' Equity: Capital

47. The market price of a preference share will be affected by: A. The dividend rate. B. The chance that the company will not operate profitably. C. The level of interest rates. D. All of the above.

48. Topper Corporation has 60,000 $1 par value ordinary share and 16,000 cumulative 7%, $100 par preference share outstanding. Topper has not paid a dividend for the prior year. If Topper declares a $1.95 per share dividend this year, what will be the total amount they must pay their shareholders? A. $117,000 B. $341,000 C. $327,000 D. $177,000

49. Which of the following is not a characteristic of the corporate form of organization? A. The owners of a corporation cannot lose more than the amount of their investment. B. Shares in a corporation are more readily transferable than is an interest in a partnership. C. Shareholders have authority to decide by majority vote the amount of dividends to be paid. D. The corporation is a very efficient vehicle for obtaining large amounts of capital required for large-scale production.

50. Most preference shares have the following characteristics, except: A. To receive dividends on a preference basis. B. Cumulative dividends. C. Voting rights. D. Callable at the option of the corporation.

51. Which of the following is not an addition to issued and fully paid capital? A. Retained earnings. B. Treasury share. C. Neither retained earnings nor treasury share. D. Both retained earnings and treasury share.

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Chapter 11 - Shareholders' Equity: Capital

52. A primary disadvantage of the corporate form of organization is: A. Unlimited personal liability for business debts. B. Ownership is difficult to transfer. C. Corporate earnings are subject to double taxation. D. Management is separated from ownership.

53. Public corporations are required by law or regulation to perform all of the following except: A. Submit much of their financial information to the SEC for review. B. Make regularly scheduled dividend payments to all shareholders. C. Have their annual financial statements audited by an independent CPA. D. Disclose their financial information to the public.

54. Which of the following is not a right of shareholders? A. To vote for directors and on key issues. B. To participate in dividends declared. C. To share in the distribution of assets if the corporation is liquidated. D. All three of the above are rights of the shareholders.

55. The rights of a ordinary shareholder do not include the right: A. To vote for directors. B. To withdraw a share of corporate net assets proportionate to the person's shareholdings. C. To receive a proportionate share of corporate assets upon liquidation, after creditors have been paid. D. To share in profits when the board of directors declares a dividend.

56. The directors of a corporation: A. Are hired by the officers to run the business on a day-to-day basis. B. May not own share in the same corporation or be officers of the same corporation. C. Are responsible for formulating corporate policy and for hiring corporate officers. D. Are elected by the shareholders to run day-to-day operations.

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Chapter 11 - Shareholders' Equity: Capital

57. Which of the following individuals has the most power to influence corporate policy on a long-term basis? A. A shareholder owning 60% of the outstanding ordinary share. B. A shareholder owning 80% of the outstanding preference share. C. The treasurer of the corporation. D. The controller of the corporation.

58. The term share capital means: A. All assets other than retained earnings. B. Legal capital plus retained earnings. C. Total shareholders' equity minus retained earnings. D. Legal capital minus retained earnings.

59. If a corporation has issued a single class of share, it must be: A. Ordinary Share. B. Preference Share. C. Share issued at Par-value. D. Cumulative preference Share.

60. Which of the following best describes retained earnings? A. Cash available for dividends. B. The amount initially invested in the business by shareholders. C. Cash available for expansion and growth. D. Income that has been reinvested in the business rather than distributed as dividends to shareholders.

61. A deficit appears in a corporation's financial statements: A. Among the operating expenses. B. Among the liabilities. C. As a deduction from assets. D. As a deduction from issued and fully paid capital.

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Chapter 11 - Shareholders' Equity: Capital

62. Which of the following would usually be the greatest amount? A. The number of shares authorized. B. The number of shares issued. C. The number of shares outstanding. D. They must all be the same amount.

63. In a corporation's organization chart, which is the highest position? A. Shareholders. B. Board of directors. C. CEO. D. President.

64. Which of the following best describes the relationship between revenue and retained earnings? A. Revenue increases profit, which in turn increases retained earnings. B. Revenue represents a cash receipt; retained earnings is an element of shareholders' equity. C. Revenue represents the price of goods sold or services rendered; retained earnings represents cash available for paying dividends. D. Retained earnings is equal to assets minus expenses.

65. The overall effect of declaring and distributing a cash dividend includes each of the following except: A. Reducing total assets. B. Reducing shareholders' equity. C. Reducing the balance of the Retained Earnings account. D. Reducing profit for the period.

66. If preference share is convertible, it is so at the option of the: A. Board of directors. B. CEO. C. CFO. D. Shareholders.

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Chapter 11 - Shareholders' Equity: Capital

67. If a corporation has only ordinary share outstanding, which of the following constitutes legal capital at a particular date? A. The amount in the Ordinary Share account. B. The sum of the Ordinary Share account and any share premium. C. The total amount of shareholders' equity. D. The sum of the Ordinary Share account and retained earnings.

68. The par value of the ordinary share of a large listed corporation: A. Tends to establish a ceiling for the market price of the share. B. Tends to establish a floor for the market price of the share. C. Represents legal capital and is not related to the market price of the share. D. Is increased by profit and decreased by dividends.

69. A 2-for-1 share split will: A. Increase the total par value of the share and increase the number of shares outstanding. B. Decrease the total par value of the share and increase the number of shares outstanding. C. Not change the total par value of the share and increase the number of shares outstanding. D. Increase total shareholders' equity.

70. The entry to record the issuance of ordinary share at a price above its par value includes: A. A credit to Cash. B. A credit to a liability account for the difference between the price paid by the shareholders and the par value of the share. C. A credit to Share Premium: Ordinary Share. D. A debit to Ordinary Share.

71. When a corporation issues share at a price higher than the par value: A. The amount received over par value increases retained earnings. B. The entire issue price is credited to the Share Capital account. C. The amount received in excess of par value constitutes profit to the issuing corporation. D. The amount received in excess of par value becomes part of issued and fully paid capital.

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Chapter 11 - Shareholders' Equity: Capital

72. When no-par share is issued: A. The entire amount received is credited to the Share Premium account. B. The issue price is credited to the Share Capital account. C. There is no legal capital created because there is no par or stated value. D. The transaction usually involves only an exchange for non-cash assets or services, since the share has no value on the share exchanges.

73. Which statement is true about a share split? A. Total shareholders' equity increases. B. Total shareholders' equity decreases. C. Total shareholders' equity remains the same. D. A change in total shareholders' equity depends upon whether it is a 2-for-1 split or a 1-for-2 split.

74. Which of the following is not a characteristic of most preference share? A. Dividends that vary as income changes B. Preference as to dividends. C. Preference as to assets in the event of liquidation of the company. D. No voting power.

75. The financial statements of a corporation that failed during the current year to pay any dividends on its cumulative preference share should: A. Include the amount of the omitted dividends among its current liabilities. B. Include a footnote disclosing the amount of the dividends in arrears. C. Show the amount of the omitted dividends as a deduction from retained earnings. D. List the omitted dividends as a long-term liability.

76. If the preference share of a corporation is cumulative: A. Dividends on preference share are guaranteed. B. Dividends cannot be declared in an amount less than that stated on the share certificate. C. Preference shareholders participate in dividends paid in excess of a stated amount on the ordinary shares. D. Dividends in arrears must be paid on preference share before any dividend can be paid on ordinary share.

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Chapter 11 - Shareholders' Equity: Capital

77. Treasury share: A. Is an asset. B. Increases total shareholders' equity. C. Decreases total shareholders' equity. D. Does not change total shareholders' equity.

78. The purchase of treasury share for cash will: A. Increase shareholders' equity. B. Not increase nor decrease shareholders' equity. C. Decrease shareholders' equity. D. Not change total assets.

79. Treasury share should most often be recorded: A. At cost. B. Par value. C. Fair market value at year end. D. Face value.

80. Which of the following best describes the book value of a share? A. Net assets divided by the number of shares outstanding. B. The amount at which the share would sell on the market if sold by a willing and informed seller to a willing and informed buyer. C. Total assets of the company, as reported in the accounting records, divided by the number of shares outstanding. D. Total shareholders' equity divided by the number of shares authorized.

81. A 2-for-1 share split: A. Is accounted for in the same way as a 100% stock dividend. B. Increases the number of outstanding ordinary share, but par value per share remains the same as before the split. C. Is recorded by transferring the par value of additional shares from retained earnings to the ordinary share account. D. Should logically cause the market price per share to drop by approximately 50%.

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Chapter 11 - Shareholders' Equity: Capital

82. Does treasury share represent? A. Shares of ownership in the United States Treasury Department. B. A current asset. C. Authorized shares that have never been issued. D. Previously outstanding shares that have been repurchased by the issuing company.

83. Share that had been issued by a corporation and later reacquired is classified as: A. Treasury share. B. Non-participating preference share. C. Restricted share. D. Issued shares.

84. The purchase of treasury share for cash will have which effect upon the following items?

Total Assets A) B) C) D)

Decrease None Increase Decrease

Total Shareholders’ Equity Decrease Increase Decrease Decrease

Shares Issued

Shares Outstanding

Decrease None Increase None

Decrease Decrease Decrease Decrease

A. Option A B. Option B C. Option C D. Option D

85. Which of the following does not appear in a corporate income statement? A. Gains and losses from treasury share transactions. B. Income tax expense. C. The income or loss from a segment of the business that has been discontinued during the current year. D. Gains and losses not expected to recur in the foreseeable future.

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Chapter 11 - Shareholders' Equity: Capital

86. When treasury share is reissued at a price above cost: A. The corporation recognizes a gain to be recorded on the income statement. B. Issued and Fully Paid Capital is increased. C. The re-issuance is treated as an extraordinary item in the corporation's income statement. D. Retained earnings is increased.

87. A 2-for-1 share split will have what effect upon the following items?

Total Assets A) B) C) D)

None None Increase Decrease

Total Shareholders’ Equity None Increase Decrease Decrease

Shares Issued

Shares Outstanding

Increase None Increase None

Increase Decrease Decrease Decrease

A. Option A B. Option B C. Option C D. Option D

88. Zigma Corporation is authorized to issue 2,000,000 $4 par value shares. The corporation issued half the shares for cash at $8 per share, earned $336,000 during the first three months of operation, and declared a cash dividend of $60,000. The issued and fully paid capital of Zigma Corporation after three months of operation is: A. $7,940,000. B. $8,000,000. C. $8,276,000. D. $8,336,000.

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Chapter 11 - Shareholders' Equity: Capital

89. Thurman Corporation issued 450,000 $.50 par value share at its date of incorporation for cash at a price of $4 per share. During the first year of operations, the company earned $100,000 and declared a dividend of $40,000. At the end of this first year of operations, the balance of the Ordinary Share account is: A. $1,800,000. B. $1,860,000. C. $225,000. D. $1,820,000.

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Chapter 11 - Shareholders' Equity: Capital

90. Century Corporation issued 400,000 $4 par value ordinary shares at the time of its incorporation. The share was issued for cash at a price of $16 per share. During the first year of operations, the company sustained a net loss of $100,000. The year-end balance sheet would show the balance of the Ordinary Share account to be: A. $1,600,000. B. $1,500,000. C. $6,300,000. D. $6,400,000.

91. Mayfair Corporation has outstanding 70,000 $1 par value ordinary share as well as 20,000 7%, $100 par value cumulative preference share. At the beginning of the year, the balance in retained earnings was $800,000, and one year's dividends were in arrears. Profit for the current year is $580,000. Compute the balance in retained earnings at the end of the year if Mayfair Corporation pays a dividend of $3 per share on its ordinary share this year. A. $1,080,000. B. $1,670,000. C. $890,000. D. $310,000.

On January 1, 2009, Juniper Corporation issued 60,000 shares of its total 200,000 authorized $4 par value ordinary share for $8 per share. On December 31, 2009, Juniper Corporation's ordinary share is trading at $12 per share.

92. Refer to the above data. Assuming Juniper Corporation did not issue any more ordinary share in 2009, how does the increase in value of its outstanding share affect Juniper? A. Juniper should recognize additional profit for 2009 of $4 per share, or $240,000. B. Paid-in capital at December 31, 2009, is $720,000 (i.e. 60,000 shares times $12 per share). C. This increase in market value of outstanding share is not recorded in the financial statements of Juniper Corporation. D. Each shareholder must pay an additional $4 per share to Jupiter.

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Chapter 11 - Shareholders' Equity: Capital

93. Refer to the above data. Assume Juniper Corporation decides to issue an additional 1,000 ordinary shares on December 31, 2009. How will the above increase in value affect Jupiter? A. Juniper can issue the 1,000 shares at a higher price than the initial 60,000 shares. B. Juniper can sell the 1,000 shares for $12 each, as well as collect an additional $4 per share for each of the 60,000 shares sold initially. C. Juniper reports a gain of $4 per share on all shares sold during the year. D. Issued and fully paid capital at the end of 2009 will be $732,000 (i.e., 61,000 shares times $12 per share).

94. Shore and Gardiner each own 10,000 S&G Corporation $12 par value shares which they purchased for $38 per share directly from the corporation. If Shore sells his shares to Gardiner for $475,000: A. Shareholders' equity of S&G Corporation increases. B. Assets of S&G Corporation increase. C. Shareholders' equity of S&G Corporation decreases. D. No account of S&G Corporation is affected.

95. Coronet Corp. has total shareholders' equity of $7,400,000. The company's outstanding share capital includes 100,000 $10 par value ordinary shares and 20,000 6%, $100 par value preference shares. (No dividends are in arrears.) The book value per share of ordinary share is: A. $39. B. $49. C. $54. D. $74.

96. Marks Corporation has total shareholders' equity of $7,400,000. The company has outstanding 300,000 $1 par value ordinary shares and 20,000 8% preference shares, $100 par value. (No dividends are in arrears.) The book value per share of ordinary shares is: A. $9.00. B. $24.06. C. $24.66. D. $18.00.

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Chapter 11 - Shareholders' Equity: Capital

97. Seville Corporation has net assets of $2,072,000 and paid-in capital of $700,000. The only share issue consists of 74,000 outstanding ordinary share. From this information, it can be deduced that the company has: A. Retained earnings of $2,072,000. B. A deficit of $2,072,000. C. A book value of $9.46 per share of ordinary share. D. A book value of $28 per share of ordinary share.

98. Santa Fe Boat Yard has total shareholders' equity of $4,100,000, comprised of the following: - $2,000,000 in $5 preference share consisting of 20,000 shares of $100 par value. - $420,000 in ordinary share of $6 par value per share. - $700,000 of share premium. - $980,000 in retained earnings. Assuming there are no dividends in arrears, the book value per share of ordinary share is: A. $30.00. B. $58.57. C. $45.71. D. $6.00.

99. On September 1, 2009, Maryland Corporation's ordinary share was selling at a market price of $200 per share. On that date, Maryland announced a 3 for 2 share split. At what price would you expect the share to trade immediately after the split goes into effect? A. $100 B. $200. C. $133.33. D. $225.

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Chapter 11 - Shareholders' Equity: Capital

Shown below is information relating to the shareholders' equity of Reeve Corporation as of December 31, 2009:

8% non-cumulative preference share, $100 par Ordinary shares, $10 par, 500,000 shares authorized, 120,000 shares issued and outstanding Share premium: ordinary share Retained earnings (Deficit)

$600,000 1,200,000 600,000 (60,000)

100. Refer to the above data. How many preference shares are issued and outstanding? A. 75,000 shares. B. 6,000 shares. C. 60,000 shares. D. Some other amount.

101. Refer to the above data. What was the original issue price per share of ordinary share? A. $10.00 per share. B. $2.40 per share. C. $15.00 per share. D. Some other amount.

102. Refer to the above data. What is issued and fully paid capital? A. $2,292,000. B. $1,800,000. C. $2,400,000. D. Some other amount.

103. Refer to the above data. Total shareholders' equity is: A. $2,400,000. B. $2,460,000. C. $2,340,000. D. Some other amount.

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Chapter 11 - Shareholders' Equity: Capital

104. Refer to the above data. Book value per share of ordinary share (rounded to the nearest penny) is: A. $30.20 per share. B. $29.00 per share. C. $31.80 per share. D. $38.20 per share.

Shown below is information relating to the shareholders' equity of Grant Corporation at December 31, 2009:

6% non-cumulative preference share, $100 par, 10,000 shares authorized, 6,000 shares issued

$600,000

Ordinary shares, $3 par, 500,000 shares authorized, 300,000 shares issued and outstanding Share premium: preference share Share premium: ordinary share Retained earnings

$900,000 $60,000 $1,900,000 $1,090,000

Dividends have been declared and paid for 2009.

105. Refer to the above data. Grant's total legal capital at December 31, 2009, is: A. $3,160,000. B. $3,000,000. C. $2,590,000. D. $1,500,000.

106. Refer to the above data. The total amount of Grant's paid-in capital at December 31, 2009, is: A. $1,960,000. B. $1,090,000. C. $3,460,000. D. $1,960,00.

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Chapter 11 - Shareholders' Equity: Capital

107. Refer to the above data. The average issue price per share of Grant's preference share was: A. $112. B. $100. C. $110. D. $66.

108. Refer to the above data. The book value per share of ordinary share is: A. $ 7.90. B. $13.17. C. $ 9.10. D. $15.17.

109. Refer to the above data. The balance in Retained Earnings at the beginning of the year was $950,000, and there were no dividends in arrears. Profit for 2009 was $980,000. What was the amount of dividend declared on each share of ordinary share during 2009? A. $2.50. B. $2.08. C. $2.00. D. $2.68.

Shown below is information relating to the shareholders' equity of Brookdale Corporation at December 31, 2010:

11% non-cumulative preference share, $130 par, 100,000 shares authorized, 10,000 shares issued Ordinary shares, $1.25 par, 1,000,000 shares authorized, 600,000 shares issued (of which 6,000 are held in treasury ) Share premium: preference shares Share premium: ordinary shares Share premium: treasury share transactions Treasury shares (at cost: 6,000 ordinary shares) Retained earnings

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$1,300,000 750,000 500,000 900,000 6,000 (192,000) 1,350,000)

Chapter 11 - Shareholders' Equity: Capital

110. Refer to the above data. The average issue price per share of the preference share was: A. $150. B. $165. C. $180. D. $195.

111. Refer to the above data. What was the average issue price per share of ordinary share? A. $2.75. B. $1.25 C. $1.50. D. $3.75.

112. Refer to the above data. How many ordinary shares are outstanding? A. 600,000. B. 606,000. C. 594,000. D. Some other number.

113. Refer to the above data. If Brookdale Corporation had reacquired 7,000 treasury shares early in 2010, and this was the company's only treasury share transaction, then some treasury shares must have been sold during 2010 for: A. $32 per share. B. $38 per share. C. $27 per share. D. $6 per share.

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Chapter 11 - Shareholders' Equity: Capital

114. The following two items are disclosed in the shareholders' equity section of Riverside Corporation's December 31, 2009, balance sheet:

Treasury share (200 shares, at cost) Share premium: treasury share transactions

$2,000 $1,000

If the company had reacquired 700 treasury shares in February of 2009, then for what amount was the other treasury shares sold for during 2009? A. $2 per share above its par value. B. $2 per share. C. $2 per share above its cost. D. $22 per share above its cost.

On April 1, 2009, Jetter Corporation reacquired 2,000 shares of its own $60 par share for $120,000 cash. On October 15, 2009, 600 of the treasury shares were reissued at a price of $65 per share.

115. Refer to the above data. The reacquisition of the 2,000 shares on April 1, 2009, causes: A. No change in total assets of Jetter Corporation. B. No change in the number of Jetter Corporation shares outstanding. C. A reduction in total assets and in total shareholders' equity of Jetter Corporation. D. Jetter Corporation to show a new asset, "Treasury Share", for $120,000.

116. Refer to the above data. The journal entry to record the reissuance of the 600 shares on October 15 includes a: A. Credit to Ordinary Share of $6,000. B. Credit to Share Premium: Treasury Share Transactions of $3,000. C. Credit to Gain on Treasury Share Transactions of $3,000. D. Credit to Treasury Share Reissued of $39,000.

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Chapter 11 - Shareholders' Equity: Capital

117. Refer to the above data. Assuming there are no further transactions involving treasury share in 2006, the financial statements of Jetter Corporation for 2009 will show: A. Treasury Share of $81,000 among the assets in the balance sheet. B. Gain on Sale of Treasury Share of $3,000 in the income statement for 2009. C. Treasury Share of $120,000 as a deduction in the shareholders' equity section of the December 31, 2009, balance sheet. D. Share Premium: Treasury Share Transactions of $3,000 in the December 31, 2009 balance sheet.

Vision Corporation has the following information on its financial statement:

Preference share 6%, $100 par, non-cumulative, 10,000 shares authorized Ordinary shares, $3 par, 500,000 shares authorized, 240,000 issued Share premium: preference shares Share premium: ordinary shares Retained earnings

$450,000 720,000 750,000 3,000,000 1,1192,500

118. Refer to the above data. If Vision paid a total of $55,800 in dividends, how much would each ordinary shareholder receive for each share of share owned? A. $.12 B. $.24 C. $.06 D. Some other amount

119. Refer to the above data. If Vision did not pay a dividend for the last two years, but declared a dividend this year, how much will they have to declare in order for the ordinary shareholders to receive $.45 per share? A. $189,000 B. $306,000 C. $108,000 D. Some other amount

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Chapter 11 - Shareholders' Equity: Capital

120. Refer to the above data. If Vision decided to purchase 50,000 ordinary shares to be used for future share option plans at $9.50 per share, what journal entry would they make?

A) B) C) D)

Treasury Share Ordinary Share Retained Earnings Treasury Share Treasury Share Cash Treasury Share Share Premium Cash

475,000 475,000 475,000 475,000 475,000 475,000 150,000 325,000 475,000

A. Option A B. Option B C. Option C D. Option D

Essay Questions

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Chapter 11 - Shareholders' Equity: Capital

121. Accounting terminology. Listed below are nine technical accounting terms introduced in this chapter:

Corporation Preference share

Par value Treasury share

Ordinary share

Underwriter

Dividend Issued and fully paid capital Retained earnings

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a) The type of share whose owners have little say in management of the corporation and whose annual dividend is limited to a preset amount. (b) Distribution of cash or other company assets to the owners of a corporation. (c) An investment banking firm that guarantees an issuing corporation a specific price for a share issue and then makes a profit by selling the shares to the investing public at a higher price. (d) Shares of a corporation's share that have been issued and then reacquired, but not cancelled. (e) An element of shareholders' equity arising from profitable operation of business. (f) The type of share most likely to increase dramatically in value if the issuing corporation is extremely successful. (g) Amounts invested in a corporation by its shareholders.

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Chapter 11 - Shareholders' Equity: Capital

122. Complete shareholders' equity section-account balances given. Please reword. Shown below are selected account balances from the accounting records of Hyde Corporation at December 31, 2010:

Share premium: ordinary shares Retained earnings Organization costs 9% Preference Share, $100 par, 6,000 shares authorized and issued Dividends Payable Notes Payable Income Taxes Payable Ordinary Shares, $5 par, 100,000 shares authorized

$600,000 $1,350,000 $25,700 $600,000 $300,000 $570,000 $86,000 $300,000

Complete the shareholders' equity section using the data provided above:

Shareholders’ equity: 9 % preference share, $100 par value, 6,000 shares authorized And issued

Issued and fully paid capital: Total shareholders’ equity

$600,000 ________ ________ ________ ________ $________

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Chapter 11 - Shareholders' Equity: Capital

123. Cash dividends and two classes of shares. Raymond Limited has two classes of share outstanding: 25,000 5%, $100 par value non-cumulative preference share and 30,000 $10 par value ordinary shares. The company had a deficit (negative balance in retained earnings) of $160,000 at the beginning of the current year, and preference dividends were three years in arrears. During the current year, the company earned profit of $970,000. What will be the balance in the Retained Earnings account at the end of the current year if the company takes all the actions necessary to pay a dividend of $2.50 per share on the ordinary share? $_______________

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Chapter 11 - Shareholders' Equity: Capital

124. Interpreting the shareholders' equity section. The shareholders' equity section of the balance sheet of Benson Corporation (with certain details omitted) appears below:

Shareholders’ equity: 6 % preference share, $100 par, 50,000 shares authorized ?? shares issued Ordinary Share, $25 par, 50,000 shares authorized, ?? shares issued Share premium: Preference share Ordinary share Issued and fully paid capital: Retained earnings

$700,000 625,000 35,000 375,000 $1,735,000 740,000

Total shareholders’ equity

$2,475,000

Answer the following questions based on the shareholders' equity section given above. (a) What is the total amount of legal capital? (b) What is the total amount of dividends paid annually to the preference shareholders? (c) What is the average issue price of a share of ordinary share? (d) The balance in retained earnings at the beginning of the current year was $575,000, and there were no dividends in arrears. Profit for the current year was $360,000. What is the amount of the dividends declared on each share of ordinary share during the current year?

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Chapter 11 - Shareholders' Equity: Capital

125. Interpreting shareholders' equity section. The shareholders' equity section of the balance sheet of Powell Corporation (with certain details omitted) appears below:

Shareholders’ equity: 8 % preference share, $100 par, 100,000 shares authorized ?? shares issued Ordinary Share, $5 par, 200,000 shares authorized, ?? shares issued Share premium: Preference share Ordinary share Issued and fully paid capital: Retained earnings

$1,900,000 950,000 106,000 1,970,000 $4,926,000 1,170,000

Total shareholders’ equity

$6,096,000

Answer the following questions based on the shareholders' equity section given above: (a) What is the total amount of legal capital? (b) What is the total amount of dividends paid annually to the preference shareholders? (c) What is the average issue price of a share of ordinary share? (d) The balance in retained earnings at the beginning of the current year was $1,351,500, and there were no dividends in arrears. Profit for the current year was $700,000. What is the amount of the dividends declared on each share of ordinary share during the current year?

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Chapter 11 - Shareholders' Equity: Capital

126. Prepare a shareholders' equity section. When Haven Corporation was incorporated in 2009, authorization was obtained to issue 200,000 $5 par value ordinary share and 6,000 8% non-cumulative preference share. The preference share has a par value of $100. All the preference shares were issued at $107 per share, and 110,000 the ordinary shares were sold for $9 per share. The operations of the company resulted in a net loss of $19,000 in 2009 and profit of $125,000 in 2010. In 2011, profit was $352,000, and the cash position was sufficient to allow the board of directors to declare a cash dividend of $1 per share to the ordinary shareholders, as well as satisfy all preference dividend requirements. Complete in good form the shareholders' equity section of Haven Corporation's balance sheet at December 31, 2011. (Hint: First determine the total amount of dividends declared in 2011.)

Shareholders’ equity: 8 % preference share, $100 par, 6,000 shares authorized and issued Ordinary Share, $5 par value, 200,000 shares authorized, 110,000 shares issued

Issued and fully paid capital:

$ _________

_________

Total shareholders’ equity

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Chapter 11 - Shareholders' Equity: Capital

127. Prepare journal entries for shareholders' equity transactions. A partial list of the ledger accounts of Skyway Corporation is shown below, followed by a list of transactions. Indicate the accounts that would be debited and credited in recording each transaction.

1 2 3 10 20

Cash Land Organization Costs Dividends Payable Preference Share $100 Par

21 25 26 30 40

Ordinary Share $ 10 Par Share Premium Donated Capital Retained Earnings Income Summary

Transactions

(a) (b) (c) (d) (e) (f) (g)

Example Issued preference share for cash at a price above par. Declared a cash dividend on ordinary share. 10,000 shares of $10 par ordinary shares are issued in exchange for land appraised at $ 1 million Paid attorney for services relating to formation of the corporation. Ordinary shares are sold for cash at a price above par. The dividend declared in a, above, is paid. Income Summary account is closed at the end of a profitable period. Land is donated to the corporation by the City of Chicago.

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Account(s) Debited 1

Account(s) Credited 20,25

Chapter 11 - Shareholders' Equity: Capital

128. Prepare journal entries for shareholders' equity transactions A partial list of the ledger accounts of Hellman Company is shown below, followed by a list of transactions. Indicate the accounts that would be debited and credited in recording each transaction.

1 2 3 10 20

Cash Land Organization Costs Dividends Payable Preference Share $100 Par

21 25 26 30 40

Ordinary Share $ 2 Par Share Premium Donated Capital Retained Earnings Income Summary

Transactions

(a) (b) (c) (d) (e) (f)

Example Issued preference share for cash at a price above par. The City of Hartford donated land to Hellman Company to be used as a building site. Declared a cash dividend on ordinary shares. 10,000 ordinary shares are issued at price above par. 1,000 shares of $2 par ordinary shares are issued in exchange for attorney services relating to formation of corporation, value $3,750 Income Summary account is closed at the end of a period in which Hellman Company reported a net loss The dividend declared in b, above is paid.

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Account(s) Debited 1

Account(s) Credited 20,25

Chapter 11 - Shareholders' Equity: Capital

129. Determining book value per share. Shown below is information relating to the shareholders' equity of Churchill Limited:

6% non-cumulative preference share, $100 par Ordinary share, $10 par 1,000,000 shares authorized Share premium, ordinary shares Deficit (negative retained earnings)

From the above information, compute the following: (a) Number of preference shares issued and outstanding (b) Average issue price per share of ordinary shares (c) Issued and fully paid capital (d) Total shareholders' equity (e) Book value per share of ordinary shares

11-36

$1,200,000 $3,000,000 $6,000,000 $1,200,000

Chapter 11 - Shareholders' Equity: Capital

130. Share values. Presented below is an excerpt from the share listings of a recent issue of the Wall Street Journal.

Answer the following questions based on the information about the Russell Corporation given above: (a) How many Russell Corporation shares were sold on this day? (b) If you had purchased 10 Russell Corporation shares at the lowest price of the day, what would be the total price that you would have paid for the shares? (c) What was the closing price of Russell Corporation Share on the previous day? (d) If the board of directors of Russell Corporation increased the amount of the annual dividends to $1.00 per share, what would be the amount of the yield percentage on the shares?

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Chapter 11 - Shareholders' Equity: Capital

131. Book value per share and other computations Shown below is information relating to the shareholders' equity of Silver Waste Management at December 31, 2009:

8% non-cumulative preference share, $150 par, 10,000 shares authorized and 6,000 issued $900,000 Ordinary share, $6.50 par 500,000 shares authorized 400,000 shares issued and outstanding $2,600,000 Share premium, preference shares $132,000 Share premium, ordinary shares $2,970,000 Retained earnings $1,551,000

(a) White's total legal capital at December 31, 2009, is $_______________. (b) The total amount of Silver's paid-in capital at December 31, 2009, is $_________________. (c) The average issue price per share of Silver's preference shares weres $_______. (d) The book value per share of ordinary share is $_________ per share. (e) The balance in Retained Earnings at the beginning of the year was $1,237,500, and profit for 2009 was $1,600,000. What was the amount of dividend declared on each share of ordinary share during 2007? $______ per share

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Chapter 11 - Shareholders' Equity: Capital

132. Prepare the shareholders' equity section from transaction data. Shown below is the shareholders' equity section of Jone's balance sheet at December 31, 2009

Shareholders’ equity: Ordinary Share, $5 par value, 500,000 shares authorized, ?? shares issued Share premium: ordinary Total Issued and fully paid capital: Retained earnings

$ 600,000 360,000 $ 960,000 750,000

Total shareholders’ equity

$1,710,000

In 2009, the following events occurred: Jones issued 2,000 $5 par value ordinary shares in exchange for legal services relating to the formation of the corporation; value of these services was set at $19,500. Jones issued 8,000 of its 10,000 authorized $8 cumulative preference share, $100 par value, for $108 per share. The board of directors declared and paid dividends of $8 per share to preference shareholders and 50 cents per share to ordinary shareholders. The company's profit for 2009 is $450,000. Instructions: Complete in good form the shareholders' equity section of a balance sheet prepared for Jones at December 31, 2009

Shareholders’ equity: $8 Non-cumulative preference share, $100 par value, 10,000 shares authorized, 8,000 shares issued

$ _____ _____ _____ _____ $ _____ $____

Total Issued and fully paid capital: Total shareholders’ equity

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Chapter 11 - Shareholders' Equity: Capital

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Chapter 11 - Shareholders' Equity: Capital

133. Prepare the shareholders' equity section from transaction data. Shown below is the shareholders' equity section of Farrell Corporation's balance sheet at December 31, 2009:

Shareholders’ equity: Ordinary Share, $3 par value, 200,000 shares authorized, ?? shares issued Share premium: ordinary Total Issued and fully paid capital: Retained earnings

$ 300,000 450,000 $ 750,000 650,000

Total shareholders’ equity

$1,400,000

In 2010, the following events occurred: Farrell Corporation issued 1,000 $3 par ordinary share in exchange for land. Although several real estate appraisers disagree on the value of the land, Farrell 's share is currently selling on a share exchange for $32 per share. Farrell Corporation issued 3,000 5% cumulative preference share, $100 par value, for $108 per share. The board of directors declared a dividend of $1 per share on the ordinary share. Farrell's profit for 2010 is $375,000. Instructions: Complete in good form the shareholders' equity section of a balance sheet prepared for Farrell Corporation at December 31, 2010:

Shareholders’ equity: 5% Non-cumulative preference share, $100 par value, 10,000 shares authorized, 3,000 shares issued

$ _____ $ _____ $____

Total Issued and fully paid capital: Total shareholders’ equity

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Chapter 11 - Shareholders' Equity: Capital

134. Treasury share transactions. Jackson Corporation engaged in the following treasury share transactions during the current year:

June. Aug. Dec.

11 10 11

Purchased 2,000 treasury shares at $62 per share Reissued 800 treasury shares acquired on June 11 at a price of $67 per share Reissued 600 treasury shares at a price of $60 per share.

Complete the following three general journal entries to record these treasury share transactions.

General Journal 20___ June 11

Purchases 2,000 treasury shares at a Price of $62 per share Aug 10

Reissued 800 treasury shares (cost $ 62 per share) at a price of $ 67 per share. Dec 11

Reissued 600 treasury shaers (cost $62 per share) at a price of $60 per share

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Chapter 11 - Shareholders' Equity: Capital

11-43

Chapter 11 - Shareholders' Equity: Capital

136. Financial reporting of losses and retained earnings. A recent annual report of Dobbs, Inc., reported a loss of approximately $63 million and retained earnings of approximately $1.6 billion. (a) Which financial statement shows computation of the $63 million loss? (b) Which financial statement includes the retained earnings figure of $1.6 billion? (c) Explain how it is possible for Dobbs to report both a loss of $63 million and retained earnings of $1.6 billion in a single set of financial statements.

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Chapter 11 - Shareholders' Equity: Capital

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Chapter 11 - Shareholders' Equity: Capital

140. Blake Corporation has the following accounts on December 31, 2010 Ordinary Share $.25 par, 1,000,000 authorized, 400,000 issued. Preference share 6%, $100 par, cumulative, 5,000 shares authorized, 3,000 issued. Treasury share, 1,500 shares purchased at market value of $6 per share

Share premium, preference shares Share premium, ordinary shares Dividends Payable Retained earnings

$190,000 $2,400,000 $415,000 $2,335,000

Required: Prepare the shareholders' equity section of the balance sheet. Prepare the journal entry for the purchase of the treasury share Blake paid the liability for dividends on March 1. Prepare the journal entry for the payment.

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Chapter 11 - Shareholders' Equity: Capital

Chapter 11 Shareholders' Equity: Capital Answer Key

True / False Questions

1. When a shareholder sends in a proxy statement to a corporation he or she owns shares in, they relinquish their voting rights to the officers of the corporation. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 3

2. A shareholders' subsidiary ledger will have entries made for each shareholder showing the number of shares held. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2

3. The number of shares a corporation may issue is specified in the articles of incorporation and approved by the Securities and Exchange Commission. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2 Learning Objective: 4

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Chapter 11 - Shareholders' Equity: Capital

4. The par value of a share is the minimum amount of capital of the corporation existing for the protection of creditors. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 4

5. When a state authorizes the sale of shares to shareholders, the corporation will credit Retained Earnings for the par value of the share. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1 Learning Objective: 4

6. When a corporation fails to pay a dividend one year on its ordinary shares it is said to be "in arrears". FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

7. A share split will normally increase the market price of the share and decrease the number of shares on the market. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 8

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Chapter 11 - Shareholders' Equity: Capital

8. Treasury share is share that is issued and outstanding but not authorized FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

9. The purchase of treasury share creates an asset for the corporation and is recorded at the cost of the shares purchased not par value. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

10. Contributed capital is equivalent to issued and fully paid capital. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11. Ordinary share is considered the legal capital of the corporation. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 4

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Chapter 11 - Shareholders' Equity: Capital

12. Preference share means the share is entitled to its regular dividend plus an additional share of the total amount of declared dividends. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

13. A corporation is a legal entity separate from its owners; it may sue and be sued, but it may not own property in its own name. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

14. A corporation continues in existence even if a shareholder dies or withdraws from the organization. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

15. Treasury share is share of a corporation that has been issued and then reacquired and then cancelled. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 9

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Chapter 11 - Shareholders' Equity: Capital

16. A share split will decrease the total par value of the share. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

17. Shareholders of a corporation are personally liable for the debts of the corporation if all shares are owned by the officers of the corporation. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2 Learning Objective: 3

18. It is illegal for the government to double tax corporate earnings. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

19. Only preference share of a corporation must have a par value. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

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Chapter 11 - Shareholders' Equity: Capital

20. The declaration of a cash dividend by the board of directors causes a decrease in a corporation's retained earnings and a decrease in its assets. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

21. The declaration of a cash dividend causes shareholders' equity to decrease but has no immediate effect upon corporate assets. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

22. If share is issued by a corporation at a price lower than par value, the difference represents a loss in the period in which the shares are issued. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

23. When par value share is issued, share capital is credited with the par value of the shares issued, regardless of whether the issuance price is equal to par, more than par, or less than par. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

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Chapter 11 - Shareholders' Equity: Capital

24. Preference shareholders are owners of the corporation and have rights upon liquidation and to receive dividends. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5

25. Issued and fully paid capital includes donated capital. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

26. In the event of the liquidation of a corporation, treasury share ordinarily has preference as to liabilities and preference share has preference as to assets. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3

27. Preference shareholders generally do not have the same voting rights as do ordinary shareholders in a corporation. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3

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Chapter 11 - Shareholders' Equity: Capital

28. Dividends declared and paid to both ordinary and preference shareholders increase retained earnings. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 5

29. When assets are donated to a corporation, a revenue account should be credited for the fair market value of the assets received. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

30. A corporation must always have more than one class of share. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

31. The purchase of treasury share for cash causes no change in total assets. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

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Chapter 11 - Shareholders' Equity: Capital

32. The sale of treasury share at a price in excess of its cost results in a realized gain which should be presented as a non-operating item in the income statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

33. Inside directors of a corporation may be officers of the corporation and therefore are not considered independent. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Risk Analysis Learning Objective: 3

34. International accounting standards require mandatory redeemable preference share to be classified as a liability on the balance sheet and not as equity. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 1

35. To be consistent with international standards the FASB has changed reporting requirements for redeemable preference share to require it to be reported in the equity section. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 1

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Chapter 11 - Shareholders' Equity: Capital

36. By going public a corporation can raise equity capital from many investors. TRUE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 2

Multiple Choice Questions

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

AACSB: Ethics AICPA BB: Legal AICPA FN: Measurement Learning Objective: 6

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Chapter 11 - Shareholders' Equity: Capital

AACSB: Ethics AICPA BB: Legal AICPA FN: Measurement Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3

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Chapter 11 - Shareholders' Equity: Capital

42. Shares that have been sold and are in the hands of shareholders are called A. Outstanding. B. Issued. C. Treasury. D. Underwritten.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2 Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

44. The net assets of a corporation are equal to: A. Total assets - total liabilities. B. Total assets - retained earnings. C. Total assets + total liabilities. D. Total assets + retained earnings.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 11 - Shareholders' Equity: Capital

45. Cash dividends paid to shareholders will appear in which section of the statement of cash flows: A. Operating. B. Investing. C. Financing. D. Discontinued.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4 Learning Objective: 5

46. When shares are sold from one investor to another they will trade at: A. Par value. B. Book value. C. Market value. D. Stated Value.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

47. The market price of a preference share will be affected by: A. The dividend rate. B. The chance that the company will not operate profitably. C. The level of interest rates. D. All of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 11 - Shareholders' Equity: Capital

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

11-60

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Ethics AICPA BB: Legal AICPA FN: Reporting Learning Objective: 1 Learning Objective: 2

11-61

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 3

11-62

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

59. If a corporation has issued a single class of share, it must be: A. Ordinary Share. B. Preference Share. C. Share issued at Par-value. D. Cumulative Preference Share.

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2

11-63

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2 Learning Objective: 4

11-64

Chapter 11 - Shareholders' Equity: Capital

63. In a corporation's organization chart, which is the highest position? A. Shareholders. B. Board of directors. C. CEO. D. President.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-65

Chapter 11 - Shareholders' Equity: Capital

66. If preference share is convertible, it is so at the option of the: A. Board of directors. B. CEO. C. CFO. D. Shareholders.

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Decision Making Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 7

11-66

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

11-67

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

11-68

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

77. Treasury share: A. Is an asset. B. Increases total shareholders' equity. C. Decreases total shareholders' equity. D. Does not change total shareholders' equity.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

11-69

Chapter 11 - Shareholders' Equity: Capital

78. The purchase of treasury share for cash will: A. Increase shareholders' equity. B. Not increase nor decrease shareholders' equity. C. Decrease shareholders' equity. D. Not change total assets.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

79. Treasury share should most often be recorded: A. At cost. B. Par value. C. Fair market value at year end. D. Face value.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

80. Which of the following best describes the book value of a share share? A. Net assets divided by the number of shares outstanding. B. The amount at which the share would sell on the market if sold by a willing and informed seller to a willing and informed buyer. C. Total assets of the company, as reported in the accounting records, divided by the number of shares outstanding. D. Total shareholders' equity divided by the number of shares authorized.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

11-70

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

83. Share that had been issued by a corporation and later reacquired is classified as: A. Treasury share. B. Non-participating preference share. C. Restricted share. D. Issued shares.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 9

11-71

Chapter 11 - Shareholders' Equity: Capital

84. The purchase of treasury share for cash will have which effect upon the following items?

Total Assets A) B) C) D)

Decrease None Increase Decrease

Total Shareholders’ Equity Decrease Increase Decrease Decrease

Shares Issued

Shares Outstanding

Decrease None Increase None

Decrease Decrease Decrease Decrease

A. Option A B. Option B C. Option C D. Option D

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

11-72

Chapter 11 - Shareholders' Equity: Capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

11-73

Chapter 11 - Shareholders' Equity: Capital

87. A 2-for-1 share split will have what effect upon the following items?

Total Assets A) B) C) D)

None None Increase Decrease

Total Shareholders’ Equity None Increase Decrease Decrease

Shares Issued

Shares Outstanding

Increase None Increase None

Increase Decrease Decrease Decrease

A. Option A B. Option B C. Option C D. Option D

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-74

Chapter 11 - Shareholders' Equity: Capital

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-75

Chapter 11 - Shareholders' Equity: Capital

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-76

Chapter 11 - Shareholders' Equity: Capital

93. Refer to the above data. Assume Juniper Corporation decides to issuean additional 1,000 ordinary shares on December 31, 2009. How will the above increase in value affect Jupiter? A. Juniper can issue the 1,000 shares at a higher price than the initial 60,000 shares. B. Juniper can sell the 1,000 shares for $12 each, as well as collect an additional $4 per share for each of the 60,000 shares sold initially. C. Juniper reports a gain of $4 per share on all shares sold during the year. D. Issued and fully paid capital at the end of 2009 will be $732,000 (i.e., 61,000 shares times $12 per share).

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 6

11-77

Chapter 11 - Shareholders' Equity: Capital

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

11-78

Chapter 11 - Shareholders' Equity: Capital

97. Seville Corporation has net assets of $2,072,000 and share capital of $700,000. The only shares issue consists of 74,000 outstanding ordinary shares. From this information, it can be deduced that the company has: A. Retained earnings of $2,072,000. B. A deficit of $2,072,000. C. A book value of $9.46 per share of ordinary share. D. A book value of $28 per share of ordinary share. $2,072,000/74,000 = $28

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

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Chapter 11 - Shareholders' Equity: Capital

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

Shown below is information relating to the shareholders' equity of Reeve Corporation as of December 31, 2009:

8% non-cumulative preference share, $100 par Ordinary shares, $10 par, 500,000 shares authorized, 120,000 shares issued and outstanding Share premium: ordinary share Retained earnings (Deficit)

$600,000 1,200,000 600,000 (60,000)

100. Refer to the above data. How many preference shares are issued and outstanding? A. 75,000 shares. B. 6,000 shares. C. 60,000 shares. D. Some other amount. $600,000/$100 = 6,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

11-80

Chapter 11 - Shareholders' Equity: Capital

101. Refer to the above data. What was the original issue price per share of ordinary shares? A. $10.00 per share. B. $2.40 per share. C. $15.00 per share. D. Some other amount. $10 + ($600,000/120,000) = $15

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

102. Refer to the above data. What is issued and fully paid capital? A. $2,292,000. B. $1,800,000. C. $2,400,000. D. Some other amount. $600,000 + $1,200,000 + $600,000 = $2,400,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

103. Refer to the above data. Total shareholders' equity is: A. $2,400,000. B. $2,460,000. C. $2,340,000. D. Some other amount. $600,000 + $1,200,000 + $600,000 - $60,000 = $2,340,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-81

Chapter 11 - Shareholders' Equity: Capital

104. Refer to the above data. Book value per share of ordinary shares (rounded to the nearest penny) is: A. $30.20 per share. B. $29.00 per share. C. $31.80 per share. D. $38.20 per share. $1,200,000 + $600,000 - $60,000 = $1,740,000/60,000 = $29.00

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

Shown below is information relating to the shareholders' equity of Grant Corporation at December 31, 2009:

6% non-cumulative preference share, $100 par, 10,000 shares authorized, 6,000 shares issued

$600,000

Ordinary shares, $3 par, 500,000 shares authorized, 300,000 shares issued and outstanding Share premium: preference share Share premium: ordinary share Retained earnings

$900,000

Dividends have been declared and paid for 2009.

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$60,000 $1,900,000 $1,090,000

Chapter 11 - Shareholders' Equity: Capital

105. Refer to the above data. Grant's total legal capital at December 31, 2009, is: A. $3,160,000. B. $3,000,000. C. $2,590,000. D. $1,500,000. $900,000 + $600,000 = $1,500,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

106. Refer to the above data. The total amount of Grant's paid-in capital at December 31, 2009, is: A. $1,960,000. B. $1,090,000. C. $3,460,000. D. $1,960,00. $600,000 + $900,000 + $60,000 + $1,900,000 = $3,460,000.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

107. Refer to the above data. The average issue price per share of Grant's preference shares was: A. $112. B. $100. C. $110. D. $66. ($600,000 + $60,000)/6,000 = $110.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-83

Chapter 11 - Shareholders' Equity: Capital

108. Refer to the above data. The book value per share of ordinary share is: A. $ 7.90. B. $13.17. C. $ 9.10. D. $15.17. ($900,000 + $60,000 + $1,900,000 + $1,090,000)/300,000 = $13.17

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

11-84

Chapter 11 - Shareholders' Equity: Capital

Shown below is information relating to the shareholders' equity of Brookdale Corporation at December 31, 2010:

$1,300,000 750,000 500,000 900,000 6,000 (192,000) 1,350,000)

110. Refer to the above data. The average issue price per share of the preference share was: A. $150. B. $165. C. $180. D. $195. ($1,300,000 + $500,000)/10,000 = $180

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

111. Refer to the above data. What was the average issue price per share of ordinary share? A. $2.75. B. $1.25 C. $1.50. D. $3.75. ($750,000 + $900,000)/600,000 = $2.75

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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112. Refer to the above data. How many ordinary shares are outstanding? A. 600,000. B. 606,000. C. 594,000. D. Some other number. 600,000 - 6,000 = 594,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

113. Refer to the above data. If Brookdale Corporation had reacquired 7,000 treasury shares early in 2010, and this was the company's only treasury share transaction, then some treasury share must have been sold during 2010 for: A. $32 per share. B. $38 per share. C. $27 per share. D. $6 per share. ($192,000/6,000) + ($6,000/1,000) = $38

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 9

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114. The following two items are disclosed in the shareholders' equity section of Riverside Corporation's December 31, 2009, balance sheet:

Treasury share (200 shares, at cost) Share premium: treasury share transactions

$2,000 $1,000

If the company had reacquired 700 treasury shares in February of 2009, then for what amount was the other treasury share sold for during 2009? A. $2 per share above its par value. B. $2 per share. C. $2 per share above its cost. D. $22 per share above its cost. $1,000/(700 - 200) = $2

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

On April 1, 2009, Jetter Corporation reacquired 2,000 shares of its own $10 par share for $120,000 cash. On October 15, 2009, 600 of the treasury shares were reissued at a price of $65 per share.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 9

Vision Corporation has the following information on its financial statement:

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$450,000 720,000 750,000 3,000,000 1,1192,500

Chapter 11 - Shareholders' Equity: Capital

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

119. Refer to the above data. If Vision did not pay a dividend for the last two years, but declared a dividend this year, how much will they have to declare in order for the ordinary shareholders to receive $.45 per share? A. $135,000 B. $306,000 C. $108,000 D. Some other amount ($4,500  $6) + $0.45(240,000) = $135,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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120. Refer to the above data. If Vision decided to purchase 50,000 ordinary shares to be used for future share option plans at $9.50 per share, what journal entry would they make?

A) B) C) D)

Treasury Share Ordinary Share Retained Earnings Treasury Share Treasury Share Cash Treasury Share Share Premium Cash

475,000 475,000 475,000 475,000 475,000 475,000 150,000 325,000 475,000

A. Option A B. Option B C. Option C D. Option D

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

Essay Questions

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Chapter 11 - Shareholders' Equity: Capital

121. Accounting terminology. Listed below are nine technical accounting terms introduced in this chapter:

Corporation Preference share

Par value Treasury share

Ordinary share

Underwriter

Dividend Issued and fully paid capital Retained earnings

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a) The type of share whose owners have little say in management of the corporation and whose annual dividend is limited to a preset amount. (b) Distribution of cash or other company assets to the owners of a corporation. (c) An investment banking firm that guarantees an issuing corporation a specific price for a share issue and then makes a profit by selling the shares to the investing public at a higher price. (d) Shares of a corporation's shares that have been issued and then reacquired, but not cancelled. (e) An element of shareholders' equity arising from profitable operation of business. (f) The type of share most likely to increase dramatically in value if the issuing corporation is extremely successful. (g) Amounts invested in a corporation by its shareholders. (a) Preference share, (b) Dividend, (c) Underwriter, (d) Treasury Share, (e) Retained earnings, (f) Ordinary share, (g) Issued and fully paid capital

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 1 - 9

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122. Complete shareholders' equity section-account balances given. Please reword. Shown below are selected account balances from the accounting records of Hyde Corporation at December 31, 2010:

$600,000 $1,350,000 $25,700 $600,000 $300,000 $570,000 $86,000 $300,000

Complete the shareholders' equity section using the data provided above:

Shareholders’ equity: 9 % preference share, $100 par value, 6,000 shares authorized And issued

Issued and fully paid capital: Total shareholders’ equity

$600,000 ________ ________ ________ ________ $________

Shareholders’ equity: 9 % preference share, $100 par value, 6,000 shares authorized And issued Ordinary Share, $5 par, 100,000 shares authorized, 60,000 shares issued Share premium: Ordinary

$600,000 300,000 600,000

Issued and fully paid capital: Retained earnings

$1,500,000 1,350,000

Total shareholders’ equity

$2,850,000

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

123. Cash dividends and two classes of share. Raymond Limited has two classes of share outstanding: 25,000 5%, $100 par value non-cumulative preference share and 30,000 $10 par value ordinary shares. The company had a deficit (negative balance in retained earnings) of $160,000 at the beginning of the current year, and preference dividends were three years in arrears. During the current year, the company earned profit of $970,000. What will be the balance in the Retained Earnings account at the end of the current year if the company takes all the actions necessary to pay a dividend of $2.50 per share on the ordinary share? $_______________ $610,000 Computations

Deficit at beginning of current yera Profit for current year Retained earnings at end of current year before declaration of dividends Dividends for current year on 5% preference share Dividend for ordinary share (30,000 shares x $2.50 per share)

$(160,000) 970,000 $810,000 (125,000) (75,000)

Retained earnings at end of current year

$610,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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124. Interpreting the shareholders' equity section. The shareholders' equity section of the balance sheet of Benson Corporation (with certain details omitted) appears below:

$700,000 625,000 35,000 375,000 $1,735,000 740,000

Total shareholders’ equity

$2,475,000

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(a) $1,325,000 (b) $42,000 (c) $40 per share (d) $6.12 per share Computations

(a)

Par value of preference share Par value of ordinary share Total legal capital

$ 700,000 625,000 1,325,000

(b)

6% x $700,000 = $42,000 OR 6% x $100 x 7,000 shares = $42,000

(c)

Par value of ordinary share Share premium: ordinary Total Issued and fully paid ordinary shares Number of ordinary shares issued Average issue price per share ($1,000,000/25,000 shares)

$ 625,000 375,000 $1,000,000 25,000 $40

(d)

Retained earnings, beginning of year Add: Profit for the year

$ 575,000 360,000 $ 935,000 740,000 $ 195,000 (42,000) $ 153,000

Less: Retained earnings, end of year Total dividends declared during the year Less: Total dividend declared to preference shareholders (part b). Total dividend declared to ordinary shareholders Dividend declared per ordinary share ($153,000/25,000)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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$ 6.12

Chapter 11 - Shareholders' Equity: Capital

125. Interpreting shareholders' equity section. The shareholders' equity section of the balance sheet of Powell Corporation (with certain details omitted) appears below:

$1,900,000 950,000 106,000 1,970,000 $4,926,000 1,170,000

Total shareholders’ equity

$6,096,000

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(a) $2,850,000 (b) $152,000 (c) $15.37 per share (d) $3.84 per share Computations

(a)

Par value of preference share Par value of ordinary share Total legal capital

$ 1,900,000 950,000 2,850,000

(b)

8% x $1,900,000 = $152,000

(c)

Par value of ordinary share Share premium: ordinary Total Issued and fully paid ordinary shares Number of ordinary shares issued Average issue price per share ($2,920,000/190,000 shares)

$ 950,000 1,970,000 $2,920,000 190,000 $15.37

(d)

Retained earnings, beginning of year Add: Profit for the year

$ 1,351,500 $ 700,000 $ 2,051,500 1,170,000 $ 881,500 (152,000) $ 729,500

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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$ 3.84

Chapter 11 - Shareholders' Equity: Capital

126. Prepare a shareholders' equity section. When Haven Corporation was incorporated in 2009, authorization was obtained to issue 200,000 $5 par value ordinary share and 6,000 8% non-cumulative preference share. The preference share has a par value of $100. All the preference share was issued at $107 per share, and 110,000 ordinary shares were sold for $9 per share. The operations of the company resulted in a net loss of $19,000 in 2009 and profit of $125,000 in 2010. In 2011, profit was $352,000, and the cash position was sufficient to allow the board of directors to declare a cash dividend of $1 per share to the ordinary shareholders, as well as satisfy all preference share dividend requirements. Complete in good form the shareholders' equity section of Haven Corporation's balance sheet at December 31, 2011. (Hint: First determine the total amount of dividends declared in 2011.)

Shareholders’ equity: 8 % preference share, $100 par, 6,000 shares authorized and issued Ordinary Share, $5 par value, 200,000 shares authorized, 110,000 shares issued

Issued and fully paid capital:

$ _________

_________

Total shareholders’ equity

Shareholders’ equity: 8 % preference share, $100 par, 6,000 shares authorized and issued Ordinary Share, $5 par value, 200,000 shares authorized, 110,000 shares issued Share premium: Preference Ordinary Total Issued and fully paid capital: Retained earnings Total shareholders’ equity

$600,000 550,000 42,000 440,000 1,632,000 * 300,000 $1,932,000

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*Computation ($19,000) + $125,000 + $352,000 = $458,000 retained earnings prior to dividends. $458,000 - $48,000 (preference dividend) - $110,000 (ordinary dividend) = $300,000.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

Cash Land Organization Costs Dividends Payable Preference Share $100 Par

21 25 26 30 40

Ordinary Share $ 10 Par Share Premium Donated Capital Retained Earnings Income Summary

Transactions

(a) (b) (c) (d) (e) (f) (g)

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Account(s) Debited 1

Account(s) Credited 20,25

Chapter 11 - Shareholders' Equity: Capital

Transactions

(a) (b) (c) (d) (e) (f) (g)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Account(s) Debited 1 30 2

Account(s) Credited 20,25 10 21,25

3 1 10 40 2

1 21,25 1 30 26

Chapter 11 - Shareholders' Equity: Capital

1 2 3 10 20

Cash Land Organization Costs Dividends Payable Preference Share $100 Par

21 25 26 30 40

Ordinary Share $ 2 Par Share Premium Donated Capital Retained Earnings Income Summary

Transactions

(a) (b) (c) (d) (e) (f)

Transactions

(a) (b) (c) (d) (e) (f)

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Account(s) Debited 1

Account(s) Credited 20,25

Account(s) Debited 1 2

Account(s) Credited 20,25 26

30 1 3

10 21,25 21,25

Chapter 11 - Shareholders' Equity: Capital

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

129. Determining book value per share. Shown below is information relating to the shareholders' equity of Churchill, Limited:

6% non-cumulative preference share, $100 par Ordinary share, $10 par 1,000,000 shares authorized Share premium, ordinary shares Deficit (negative retained earnings)

$1,200,000 $3,000,000 $6,000,000 $1,200,000

From the above information, compute the following: (a) Number of preference shares issued and outstanding (b) Average issue price per share of ordinary share (c) Issued and fully paid capital (d) Total shareholders' equity (e) Book value per share of ordinary share (a) Number of preference shares issued and outstanding: $1,200,000/$100 par value = 12,000 shares (b) Average issue price per share of ordinary share: ($3,000,000 + $6,000,000)/300,000 shares = $30 per share (c) Issued and fully paid capital: $1,200,000 + $3,000,000 + $6,000,000 = $10,200,000 (d) Total shareholders' equity: $10,200,000 - $1,200,000 = $9,000,000 (e) Book value per share of ordinary share: 9,000,000  300,000 = 30.00 per share

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

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Chapter 11 - Shareholders' Equity: Capital

130. Share values. Presented below is an excerpt from the share listings of a recent issue of the Wall Street Journal.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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Chapter 11 - Shareholders' Equity: Capital

131. Book value per share and other computations Shown below is information relating to the shareholders' equity of Silver Waste Management at December 31, 2009:

(a) White's total legal capital at December 31, 2009, is $_______________. (b) The total amount of Silver's issued and fully paid capital at December 31, 2009, is $_________________. (c) The average issue price per share of Silver's preference shares was $_______. (d) The book value per share of ordinary shares is $_________ per share. (e) The balance in Retained Earnings at the beginning of the year was $1,237,500, and profit for 2009 was $1,600,000. What was the amount of dividend declared on each share of ordinary shares during 2007? $______ per share (a) $900,000 + $2,600,000 = $3,500,000 total legal capital (b) $900,000 + $2,600,000 + $132,000 + $2,970,000 = $6,602,000 issued and fully paid capital (c) ($900,000 + $132,000)/6,000 shares = $172 per-share issue price (preference shares) (d) $14,506 book value per share of ordinary shares $2,600,000 + $132,000 + $2,970,000 + $1,551,000 = $7,253,000 ordinary shareholders equity $7,253,000 equity allocable to ordinary shares/400,000 shares = $18.13 per share (e) $3.04 dividend per ordinary share.

Retained earnings, beginning of year Profit

$ 1,237,500 1,600,500

Subtotal Less: Retained earnings, end of year

$2,838,000 ($1,551,000)

Retained earnings declared as dividends Less: Dividends on preference shares

$ 1,287,000 (72,000)

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Total dividends to ordinary shareholders

$ 1,215,000

$1,215,000/400,000 shares = $3.04 per share of ordinary shares.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

132. Prepare the shareholders' equity section from transaction data. Shown below is the shareholders' equity section of Jone's balance sheet at December 31, 2009 Shareholders’ equity: Ordinary Share, $5 par value, 500,000 shares authorized, ?? shares issued Share premium: ordinary Total Issued and fully paid capital: Retained earnings

$ 600,000 360,000 $ 960,000 750,000

Total shareholders’ equity

$1,710,000

In 2009, the following events occurred: Jones issued 2,000 $5 par value ordinary shares in exchange for legal services relating to the formation of the corporation; value of these services was set at $19,500. Jones issued 8,000 of its 10,000 authorized $8 cumulative preference shares, $100 par value, for $108 per share. The board of directors declared and paid dividends of $8 per share to preference shareholders and 50 cents per share to ordinary shareholders. The company's profit for 2009 is $450,000. Instructions: Complete in good form the shareholders' equity section of a balance sheet prepared for Jones at December 31, 2009 Shareholders’ equity: $8 Non-cumulative preference share, $100 par value, 10,000 shares authorized, 8,000 shares issued

$ _____ _____ _____ _____ $ _____ $____

Total Issued and fully paid capital: Total shareholders’ equity

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Chapter 11 - Shareholders' Equity: Capital

Shareholders’ equity: $8 Non-cumulative preference share, $100 par, 10,000 shares authorized, 8,000 issued Ordinary shares, $5 par, 500,000 shares authorized 122,000 shares issued Share premium: Preference Share premium: Ordinary Total Issued and fully paid capital: Retained earnings Total shareholders’ equity

64,000 369,500 $1,843,500 1,075,000 $2,918,500

*Computation Beginning retained earnings Add: Profit for 2009 Less: Dividends declared ($61,000 ordinary + $64,000 preference

$ 750,000 450,000 (125,000)

Retained earnings, Dec. 31 2009

$1,075,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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$800,000 610,000

Chapter 11 - Shareholders' Equity: Capital

133. Prepare the shareholders' equity section from transaction data. Shown below is the shareholders' equity section of Farrell Corporation's balance sheet at December 31, 2009:

Shareholders’ equity: Ordinary Share, $3 par value, 200,000 shares authorized, ?? shares issued Share premium: ordinary Total Issued and fully paid capital: Retained earnings

$ 300,000 450,000 $ 750,000 650,000

Total shareholders’ equity

$1,400,000

In 2010, the following events occurred: Farrell Corporation issued 1,000 $3 par ordinary shares in exchange for land. Although several real estate appraisers disagree on the value of the land, Farrell 's share is currently selling on a share exchange for $32 per share. Farrell Corporation issued 3,000 5% cumulative preference share, $100 par value, for $108 per share. The board of directors declared a dividend of $1 per share on the ordinary share. Farrell's profit for 2010 is $375,000. Instructions: Complete in good form the shareholders' equity section of a balance sheet prepared for Farrell Corporation at December 31, 2010:

Shareholders’ equity: 5% Non-cumulative preference share, $100 par value, 10,000 shares authorized, 3,000 shares issued

$ _____ $ _____ $____

Total Issued and fully paid capital: Total shareholders’ equity

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Chapter 11 - Shareholders' Equity: Capital

Shareholders’ equity: 5% Non-cumulative preference share, $100 par, 10,000 shares authorized and 3,000 issued Ordinary shares, $3 par, 200,000 shares authorized 101,000 shares issued Share premium: Preference Share premium: Ordinary Total Issued and fully paid capital: Retained earnings Total shareholders’ equity

$300,000 303,000 24,000 479,000 $1,106,000 * 909,000 $2,015,000

*Computation Beginning retained earnings Add: Profit for 2010 Less: Dividends declared ($101,000 ordinary + $15,000 preference)

$ 650,000 375,000 (116,000)

Retained earnings, Dec. 31 2010

$909,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 11 - Shareholders' Equity: Capital

134. Treasury share transactions. Jackson Corporation engaged in the following treasury share transactions during the current year:

June. Aug. Dec.

11 10 11

Purchased 2,000 treasury shares at $62 per share Reissued 800 treasury shares acquired on June 11 at a price of $67 per share Reissued 600 treasury shares at a price of $60 per share.

Complete the following three general journal entries to record these treasury share transactions.

General Journal 20___ June 11

Purchases 2,000 treasury shares at a Price of $62 per share Aug 10

Reissued 800 treasury shares (cost $ 62 per share) at a price of $ 67 per share. Dec 11

Reissued 600 treasury shaers (cost $62 per share) at a price of $60 per share

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General Journal 20___ June 11

Treasury Shares Cash

124,000 124,000

Purchases 2,000 treasury shares at a Price of $62 per Share Aug 10

Cash Treasury Shares Share premium: Treasury Share Transactions

53,600 49,600 4,000

Reissued 800 treasury shares (cost $ 62 per share) at a price of $ 67 per share. Dec 11

Cash Share premium: Treasury Share Transactions Treasury Share Reissued 600 treasury shares (cost $62 per share) at a price of $60 per share

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

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36,000 1,200 37,200

Chapter 11 - Shareholders' Equity: Capital

135. Financial reporting of net earnings and retained earnings. The 2009 annual report of Kirtland Products disclosed net earnings of approximately $87 million for the fiscal year ending March 31, 2009, and retained earnings of approximately $485 million as of March 31, 2009. (a) Which financial statement shows computation of the net earnings? (b) Which financial statement includes the retained earnings figure of $485 million? (c) Explain why Kirtland reports $87 million as net earnings, but a much larger amount, $485 million, as retained earnings. (a) Income statement (or statement of operations) (b) Balance sheet (or statement of changes in equity, although this statement is not introduced until the next chapter) (c) Net earnings (or profit) represents the increase in shareholders’ equity resulting from profitable operations for a single period. Kirtland Products generated profit of $87 million for the fiscal year ending March 31, 2009. Retained earnings represents the cumulative amount of profit and losses over the entire life of the business, less all amounts that have been distributed to shareholders as dividends. Since Kirtland Products began operations, the cumulative amount of income in excess of amounts paid out as dividends amounts to $485 million as of March 31, 2009.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

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136. Financial reporting of losses and retained earnings. A recent annual report of Dobbs, Inc., reported a net loss of approximately $63 million and retained earnings of approximately $1.6 billion. (a) Which financial statement shows computation of the $63 million loss? (b) Which financial statement includes the retained earnings figure of $1.6 billion? (c) Explain how it is possible for Dobbs to report both a loss of $63 million and retained earnings of $1.6 billion in a single set of financial statements. (a) Income statement (or statement of operations) (b) Balance sheet (or statement of changes in equity, although this statement is not introduced until the next chapter) (c) Loss represents the decrease in shareholders’ equity resulting from unprofitable operations for a single period. Dobbs, Inc.'s operations generated a net loss of $63 million for the current year. Retained earnings represents the cumulative profit and losses over the entire life of the business, less all amounts that have been distributed to shareholders as dividends. Since Dobbs, Inc., began operations, the cumulative amount of income in excess of amounts paid out as dividends amounts to $1.6 billion.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

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137. What's so "preference" about preference shares? Most preference shares do not have voting power, a basic right of ordinary share. Identify two features of most preference shares that justify or support use of the term preference in describing these types of share issues. Student's answer should include two of the following features of most preference shares that justify the term preference: (a) Preference as to dividends Preference share is entitled to receive each year a dividend of specified amount before any dividend is paid on the ordinary share. (b) Preference as to assets in event of liquidation If a business is terminated, the preference share is entitled to payment in full of its par value or a higher stated liquidation value before any payment is made to ordinary shareholders. (Although not as ordinary, student may also list conversion privilege as a "preference" feature of some preference share.)

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 5

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Chapter 11 - Shareholders' Equity: Capital

138. Factors affecting the market price of shares. (a) Murdock Corporation has outstanding several different share issues. For each of the types of share listed below, briefly describe a situation or circumstance that would cause the market price of that type of share to increase. Preference share Ordinary share Convertible preference share (b) How would the increase in market value of any of Murdock's share be reflected in Murdock's financial statements? (a) Preference share Since the market price of preference share varies inversely with interest rates, a decline in interest rates would cause the market price of preference share to increase. Ordinary share Investors' increased confidence in future profitability of Murdock 's operations would result in a price increase in Murdock 's ordinary share. An increase in market value of ordinary share might also result from expected higher ordinary stock dividends in the future or from a decline in interest rates. Convertible preference share An increase in the market value of ordinary share would cause a corresponding increase in the market value of convertible preference share. (b) After shares have been issued, they belong to the shareholders, not to the issuing corporation. Increases (and decreases) in the market value of shares after issuance are not recorded in the corporation's accounting records.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

139. Share splits. Bainbridge Corporation recently patented an extraordinary invention that will allow average homeowners to cheaply generate a large fraction of the electricity consumed in their houses. As a result, the market price of Bainbridge's ordinary share has soared to $160 per share. Bainbridge is about to announce a 4 for 1 share split. Explain why the company would take this action? The purpose of a share split is to bring the per-share market price of the company's share down into a more appropriate "trading range" - that is, a price that is appealing to a greater number of potential investors.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 11 - Shareholders' Equity: Capital

140. Blake Corporation has the following accounts on December 31, 2010 Ordinary Share $.25 par, 1,000,000 authorized, 400,000 issued. Preference share 6%, $100 par, non-cumulative, 5,000 shares authorized, 3,000 issued. Treasury share, 1,500 shares purchased at market value of $6 per share

Share premium, preference shares Share premium, ordinary shares Dividends Payable Retained earnings

$190,000 $2,400,000 $415,000 $2,335,000

Blake Corporation Shareholder’s Equity December 31, 2010 Issued and fully paid capital Preference share, 6%, $100 par, cumulative, 5,000 shares authorized and 3,000 issued Ordinary shares, $.25 par, 1,000,000 shares authorized 400,000 issued Share premium: Preference Share premium: Ordinary Total Issued and fully paid capital: Retained earnings Treasury Share (1,500 shares) Total shareholders’ equity

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$300,000 $100,000 $190,000 $2,400,000 $2,990,000 $2,335,000 ($9,000) $5,316,000

Chapter 11 - Shareholders' Equity: Capital

2. Treasury Shares Cash

9,000

3. Dividends Payable Cash

415,000

9,000

415,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 9

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Chapter 11 Shareholders’ Equity: Capital CHAPTER 11

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer for each question in the space provided. 1

Lewis Corporation issued 125,000 $5 par value share capital at date of incorporation for cash at a price of $9 per share. During the first year of operations, the company earned $140,000 and declared a dividend of $100,000. At the end of this first year of operations, the balance of the Share Capital account is: a $765,000. c $625,000. b $1,000,000. d $665,000.

Perez Corporation has 100,000 $1 par value ordinary share and 20,000 8% non-cumulative preference share, $100 par value, outstanding. The balance in Retained Earnings at the beginning of the year was $1,600,000. Profit for the current year was $870,000. If Perez Corporation paid a dividend of $2 per share on its ordinary share, what is the balance in Retained Earnings at the end of the year? a $2,150,000. c $2,110,000. b $2,270,000. d $1,950,000.

Pike Corporation has total shareholders’ equity of $8,690,000 as of December 31, 2009. The company has 300,000 $2 par value ordinary share and 20,000 8% non-cumulative preference share, $100 par value, outstanding. Due to lower-than-expected profit, no dividends were declared by Pike’s board of directors for 2009. The book value per share of ordinary share is: a $25.00. c $22.30. b $21.77. d $25.60.

Which of the following most likely explains why a corporation’s share trades at a very high price-earnings ratio? a Investors expect the corporation to have higher earnings in the future. b The corporation pays a very low dividend on its share. c The corporation has several classes of share outstanding. d The corporation is large with very low risk.

Which of the following is not a characteristic of most preference shares? a Preference as to dividends. b No voting power. c Convertible into ordinary share. d Preference as to assets in the event of liquidation of the company.

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CHAPTER 11

NAME

10-MINUTE QUIZ B

# __________________ SECTION

Shown below is information relating to the shareholders’ equity of Revere Corporation at December 31, 2009 8% non-cumulative preference share, $100 par, 50,000 shares authorized, 15,000 shares issued ......................................... $1,500,000 Ordinary share, $5 par, 1,500,000 shares authorized, 1,300,000 shares issued and outstanding.................................................... 6,500,000 Share premium: preference share ................................................................... 250,000 Share premium: ordinary share ....................................................................... 3,750,000 Retained earnings ............................................................................................ 3,260,000 Each account needs a $ sign. Answer the following questions based on the shareholders’ equity section given above. 1

Refer to the above data. The average issue price per share of Revere’s preference share was: a $117. b $100. c $110. d $34.50.

Refer to the above data. The total amount of Revere’s issued and fully paid capital at December 31, 2009, is: a $ 8,000,000. b $15,260,000. c $12,000,000. d $ 4,000,000.

Refer to the above data. Revere’s total legal capital at December 31, 2009, is: a $12,000,000. b $15,260,000. c $11,260,000. d $ 8,000,000.

Refer to the above data. The book value per share of ordinary share, assuming current-year preference dividends have been paid, is: a $9.23. c $8.66. b $10.58. d $6.15.

Refer to the above data. The balance in Retained Earnings at the beginning of the year was $2,710,000, and there were no dividends in arrears. Profit for 2009 was $2,250,000. What was the amount of dividend declared on each share of ordinary share during 2009? a $1.30. c $1.21. b $2.40. d $3.72.

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CHAPTER 11

NAME

10-MINUTE QUIZ C

SECTION

Shown below is information relating to the shareholders’ equity of Novake Corporation at December 31, 2010: 8% non-cumulative preference share, $100 par, 100,000 shares authorized, 7,000 shares issued ................................................... Ordinary share, $3 par, 1,000,000 shares authorized, 500,000 shares issued and outstanding ................................................................. Share premium: preference share ............................................................................. Share premium: ordinary share ................................................................................. Retained earnings ......................................................................................................

$ 700,000 1,500,000 400,000 500,000 800,000

From the above information, compute the following: 1

The total amount of legal capital: $__________

The total amount of issued and fully paid capital: $__________

The average issue price per share of preference share: $_____ per share

The book value per share of ordinary share (assume current-year preference dividends have been paid) $_____ per share

The balance in Retained Earnings at the beginning of the year was $650,000. Profit for 2010 was $475,000. What was the amount of dividend declared on each share of ordinary share during 2010? $_____ per share

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Chapter 11 - Shareholders' Equity: Capital

CHAPTER 11

NAME

10-MINUTE QUIZ D

SECTION

1. Shown below is the shareholders’ equity section of Powell’s balance sheet at December 31, 2009: Shareholders’ equity: Ordinary share, $2 par value, 500,000 shares authorized, ?? shares issued .............................................................................................. Share premium: ordinary share ..............................................................................

$ 500,000 1,750,000

Issued and fully paid capital ........................................................................... Retained earnings ...................................................................................................

$2,250,000 2,400,000

Total shareholders’ equity ......................................................................................

$4,650,000

In 2010, the following events occurred: Powell issued 2,500 $2 par ordinary share as payment for legal services. Although Powell’s share is not traded on any exchange, the agreed-upon value of the legal services is $80,000. Powell issued 4,500 6% non-cumulative preference share, $100 par value, for $106 per share. The board of directors declared a dividend of $1.25 per share on the ordinary share. Powell’s profit for 2007 was $675,000. Instructions Complete in good form the shareholders’ equity section of a balance sheet prepared for Powell at December 31, 2010.

Shareholders’ equity: 6% non-cumulative preference share, $100 par value, 10,000 shares authorized, 4,500 shares issued ............................................ $

_______ Issued and fully paid capital................................................................................ $ _______ Total shareholders’ equity ..................................................................................... $________

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CHAPTER 11 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

When a business is organized as a corporation: a Shareholders are liable for the debts of the business only in proportion to their percentage ownership of share capital. b Shareholders do not have to pay personal income taxes on dividends received, because the corporation is subject to income taxes on its earnings. c Fluctuations in the market value of outstanding share capital do not affect the amount of shareholders’ equity shown in the balance sheet. d Each shareholder has the right to bind the corporation to contracts and to make other managerial decisions.

Western Moving Corporation was organized with authorization to issue 100,000 $1 par value ordinary share. Forty thousand shares were issued to Tom Morgan, the company’s founder, at a price of $5 per share. No other shares have yet been issued. a Morgan owns 40% of the shareholders’ equity of the corporation. b The corporation should recognize a $160,000 gain on the issuance of these shares. c If the balance sheet includes retained earnings of $50,000, issued and fully paid capital amounts to $250,000. d In the balance sheet, the Share Premium account will have a $160,000 balance, regardless of the profits earned or losses incurred since the corporation was organized.

Which of the following is not a characteristic of the ordinary share of a large, publicly owned corporation? a The shares may be transferred from one investor to another without disrupting the continuity of business operations. b Voting rights in the election of the board of directors. c A cumulative right to receive dividends. d After issuance, the market value of the share is unrelated to its par value.

Tri-State Electric is a profitable utility company that has increased its dividend to ordinary shareholders every year for 42 consecutive years. Which of the following is least likely to affect the market price of the company’s preference share? a The company’s earnings are expected to increase significantly over the next several years. b An increase in long-term interest rates. c The annual dividend paid to preference shareholders. d Whether or not the preference share carries a conversion privilege.

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Chapter 11 - Shareholders' Equity: Capital

The following information is taken from the balance sheet and related disclosures of Maxwell, Inc.: Issued and fully paid capital ........................................................... Outstanding shares: Ordinary share, $5 par value........................................................ 6% preference share, $100 par value, callable at $108 per share .......................................................................... Preference dividends in arrears....................................................... Total shareholders’ equity ..............................................................

$5,400,000 100,000 shares 10,000 shares 2 years $4,700,000

Which of the following statements are true? (More than one answer may be correct.) a The preference dividends in arrears amount to $120,000 and should appear as a liability in the corporate balance sheet. b The book value per share of ordinary share is $35. c The shareholders’ equity section of the balance sheet should include a deficit of $700,000. d The company has paid no dividend on its ordinary share during the past two years. 6

On December 10, 2004, Smitty Corporation reacquired 2,000 shares of its own $5 par share at a price of $60 per share. In 2005, 500 of the treasury shares are reissued at a price of $70 per share. Which of the following statements is correct? a The treasury share purchased is recorded at cost and is shown in Smitty’s December 31, 2004 balance sheet as an asset. b The two treasury share transactions result in an overall net reduction in Smitty’s shareholders’ equity of $85,000. c Smitty recognizes a gain of $10 per share on the reissuance of the 500 treasury shares in 2005. d Smitty’s shareholders’ equity was increased by $110,000 when the treasury share was acquired.

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SOLUTIONS TO CHAPTER 11 10-MINUTE QUIZZES QUIZ A 1 C 2 C 3 B 4 A 5 C

QUIZ B 1 A 2 C 3 D 4 B 5 C

QUIZ C 1 $700,000 + $1,500,000 = $2,200,000 total legal capital 2 $700,000 + $1,500,000 + $400,000 + $500,000 = $3,100,000 issued and fully paid capital 3 ($700,000 + $400,000)/7,000 shares = $157.14 per-share issue price 4 $700,000 + $1,500,000 + $400,000 + $500,000 + $800,000 = $3,900,000 total shareholders’ equity $3,900,000 less 700,000 allocable to preference equals shareholders’ equity allocable to ordinary share/500,000 shares ordinary share outstanding = $6.40 book value per share of ordinary share 5 Retained earnings, beginning of year .............................................................................. Profit ............................................................................................................... 475,000

$ 650,000

Subtotal .................................................................................................................. Less: Retained earnings, end of year...............................................................................

$ 1,125,000 (800,000)

Retained earnings declared as dividends ........................................................................ Less: Dividends on preference share ..............................................................................

$ 325,000 (56,000)

Amount of dividends to ordinary shareholders ..............................................................

$269,000

$269,000/500,000 shares ordinary share = $.54 dividend per share

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Chapter 11 - Shareholders' Equity: Capital

QUIZ D Shareholders’ equity: 6% non-cumulative preference share, $100 par value, 10,000 shares authorized, 4,500 shares issued ..................................................... Ordinary share, $2 par value, 500,000 shares authorized, 252,500 shares issued......................................................................... Share premium: Preference .......................................................................................... Share premium: Ordinary ............................................................................................. Issued and fully paid capital.................................................................................. Retained earnings ......................................................................................................... Total shareholders’ equity ............................................................................................

505,000 27,000 1,825,000 $2,807,000 2,732,375* $5,539,375

*Computation Beginning retained earnings ............................................................................................ Add: Profit for 2010 ......................................................................................................... Less: Dividends declared ($315,625 ordinary + $27,000 preference) ............................ Retained earnings, Dec. 31, 2010 ....................................................................................

$2,400,000 675,000 (342,625) 2,732,375

SOLUTIONS TO CHAPTER 11 SELF-TEST QUESTIONS FROM TEXTBOOK 1

b, c, d

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b [(2,000 x $60) – (500 x $70)]

$ 450,000

Chapter 12 Profit and Changes in Retained Earnings

Chapter 12 Profit and Changes in Retained Earnings True / False Questions

1. An extraordinary item appears on the income statement before the section on discontinued operations. True False

2. Earnings per share is equal to profit applicable to ordinary share divided by the weighted number of ordinary shares outstanding. True False

3. In determining earnings per share when a preference share has dividends in arrears, only the current year's dividend is deducted to arrive at earnings per share. True False

4. The price earnings ratio is based on expected future earnings while the earnings per share ratio is based on historical earnings. True False

5. In order to receive a dividend, a shareholder must have owned the share as of the declaration date. True False

6. A stock dividend provides a shareholder with more shares but his or her percentage of ownership in the company, is no larger than before. True False

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Chapter 12 Profit and Changes in Retained Earnings

7. When a small (under 10%) stock dividend is declared the market value of the share is transferred from Retained Earnings into other shareholder equity accounts. True False

8. A share split changes the par value of a share whereas a stock dividend does not. True False

9. Comprehensive income differs from profit in that it includes events that are recognized but not realized. True False

10. Diluted earnings per share are shown to alert investors that earnings per share could be increased by the effects of conversions of securities into ordinary share. True False

11. Comprehensive income is a component of profit. True False

12. Recent rulings by the SEC now require all corporations to prepare an expanded version of the Statement of Changes in Equity showing all equity accounts and their changes for the last three years. True False

13. A statement of shareholders' equity is not a required financial statement and need not be prepared along with a statement of changes in equity. True False

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Chapter 12 Profit and Changes in Retained Earnings

14. In order for a loss on the disposal of a discontinued operation to be classified on the income statement as a discontinued operation, it must be unusual in nature. True False

15. Extraordinary items and the results of discontinued operations are shown in the income statement net of any related income tax effects. True False

16. The IASB has prohibited the reporting of what is considered to be an extraordinary item. True False

17. The amount of cash dividends paid to ordinary shareholders is part of the computation of earnings per share. True False

18. A retrospective restatement to retained earnings is made when a discovery of a material error was made to prior years' profit. True False

19. Diluted earnings per share represents a hypothetical case, showing what earnings per share would be if certain securities were converted into additional shares of ordinary share. True False

20. When a corporation presents both "basic" and "diluted" earnings per share, basic earnings per share will be the smaller of the two figures. True False

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Chapter 12 Profit and Changes in Retained Earnings

21. Share splits are always in a 2 for 1 ratio. True False

22. "Discontinued operations" is an example of an extraordinary item. True False

23. Stock dividends and share splits do not cause a change in the total amount of shareholders' equity. True False

24. The amount transferred out of retained earnings when a 4% stock dividend is declared is equal to the prevailing market value per share times the number of dividend shares to be distributed. True False

25. Large stock dividends tend to keep share prices down. True False

26. Retrospective restatements are shown in the financial statements by adjusting the beginning balance of retained earnings in the statement of changes in equity. True False

27. Retrospective restatements appear in the statement of changes in equity and in the income statement for the current year. True False

28. Discontinued operations should be shown on the statement of changes in equity net of taxes. True False

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Chapter 12 Profit and Changes in Retained Earnings

29. The expropriation (seizure of) of a multinational company's assets by a government is an example of a discontinued operation item. True False

30. The statement of changes in equity discloses the amount of cash dividends as well as stock dividends declared during the current year. True False

31. Comprehensive income may be presented in a separate statement of comprehensive income, or as part of an income statement. True False

32. In an attempt to appeal to investors, a company may be tempted to overstate profit. True False

33. According to the Sarbanes-Oxley Act lying to an external auditor can create a criminal penalty as well as a civil penalty. True False

Multiple Choice Questions

34. Share splits A. Allow management to conserve cash. B. Give shareholders more shares. C. Cause no change in total assets, liabilities, or shareholders' equity. D. All of the above.

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Chapter 12 Profit and Changes in Retained Earnings

35. It would be reasonable to assume that A. Basic earnings per share should exceed diluted earnings per share B. Diluted earnings per share should exceed basic earnings per share C. Basic earnings per share should be equal to diluted earnings per share. D. Basic earnings per share would not be presented with diluted earnings per share.

36. A small stock dividend is recorded at: A. Market value B. Book value C. Par value D. None of the above, just a memorandum entry is required.

37. Treasury share appears as: A. An asset account B. A liability account C. An expense account D. An equity account

38. Where on the income statement are extraordinary items found? A. Before discontinued operations B. Nowhere, since IFRS prohibits such reporting C. Before profit from continuing operations D. After retrospective restatements

39. A company had 125,000 shares of ordinary share outstanding on January 1 and then sold 35,000 additional shares on March 30. Profit for the year was $594,750. What are earnings per share? A. $4.73 B. $4.58 C. $3.93 D. $6.61

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Chapter 12 Profit and Changes in Retained Earnings

40. A company failed to make an adjusting entry in the prior year to accrue earned revenue. To correct this they should: A. Correct last year's statement by increasing profit B. Correct this year's statements with a retrospective restatement increasing beginning retained earnings C. Correct this year's statements with a retrospective restatement decreasing beginning retained earnings. D. Correct this year's statements with a retrospective restatement increasing ending retained earnings.

41. A retrospective restatement is a correction made to: A. Retained earnings of the beginning of the period B. Retained earnings at the end of the period C. Profit of the current year D. Only to last years' financial statements

42. The Price Earnings Ratio is the A. Book value of a share of ordinary share divided by EPS B. Market price of a share of ordinary share divided by EPS. C. Par value of a share of ordinary share divided by EPS. D. Market price divided by book value of a share .

43. Which of the following would have no effect on Retained Earnings? A. Declaration of a cash dividend B. Declaration of a stock dividend C. Declaration of a share split. D. A retrospective restatement

44. Doogle Corporation sold a segment of its operations in 2009 and suffered a one-time loss in 2010. Which of the following would be the most useful in attempting to predict Doogle's performance for 2011? A. Doogle's profit from continuing operations in 2009 and 2010. B. Doogle's profit in 2009 and 2010 C. Doogle's total assets at the end of 2010. D. Doogle's retained earnings at the end of 2010.

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Chapter 12 Profit and Changes in Retained Earnings

45. In preparing the financial statements for 2009, an accountant improperly classified a gain from discontinued operations as an extraordinary item. Which of the following amounts would be incorrect as a result of this improper classification? A. Profit for 2009. B. Ending retained earnings at December 31, 2009. C. Profit from continuing operations for 2009. D. None of the above would be incorrect.

46. Execucomp Corporation's financial statements in the current year show a loss from discontinued operations, a retrospective restatement. If Execucomp income statement is prepared according to generally accepted accounting principles (as illustrated in your text), which of the following four items would appear second in sequence in the income statement? A. Retrospective restatement. B. Profit from continuing operations. C. Loss from discontinued operations. D. Extraordinary gain.

47. Of the items listed, which would appear closest to the bottom of the income statement? A. Discontinued operations B. Retrospective restatement C. Profit from continuing operations D. Extraordinary items

48. Large stock dividends tend to: A. Increase share prices. B. Have no effect upon share prices. C. Keep share prices down. D. Describe total assets.

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Chapter 12 Profit and Changes in Retained Earnings

49. The purpose of developing the subtotal "Profit from Continuing Operations" in an income statement is to: A. Assist investors in forecasting future operating results. B. Increase the amount of reported profit. C. Decrease the amount of profit subject to income taxes. D. Provide investors with the information necessary to compute earnings per share.

50. To qualify as an extraordinary item, a gain or loss must: A. Affect the profit of a prior period. B. Be larger in amount than any other item in the income statement. C. Be associated with a segment of the business that has been discontinued during the current period D. Be material in amount, unusual in nature, and not expected to recur

51. Which of the following would qualify as an extraordinary item? A. A large gift given to the company. B. A loss from obsolete inventory. C. A loss from a natural disaster that affects the company at infrequent intervals. D. None of the above.

52. An example of an extraordinary gain or loss is: A. A large loss arising from inability to collect an account receivable from a bankrupt customer. B. A large gain from disposal of a segment of the business. C. A gain or loss from sale of an expensive machine no longer needed in the business. D. None of these answers.

53. In computing earnings per share, the number of shares used is: A. The year-end number of shares outstanding. B. The beginning of the year number of shares outstanding. C. The average of the beginning and the year-end number of shares outstanding. D. The weighted average of shares outstanding for the year.

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Chapter 12 Profit and Changes in Retained Earnings

54. The amount of earnings per share is usually computed: A. For both preference and ordinary share. B. For ordinary share by deducting the dividends on preference share from profit and dividing the remaining amount by the weighted average number of ordinary shares outstanding. C. By dividing profit by the combined number of preference and ordinary shares. D. On the basis of the number of shares outstanding at year-end, regardless of changes in the number of shares during the year.

55. Which of the following statistics is generally computed for both ordinary and preference share? A. Earnings per share. B. Price-earnings ratio (p/e ratio). C. Annual dividend per share. D. Retained earnings per share.

56. Earnings per share figures are shown in the income statement: A. For profit before extraordinary items and for profit from continuing operations, as well as for profit. B. For ordinary share as well as for preference share. C. For all publicly owned, as well as for all privately held, corporations. D. As an optional disclosure for all corporations, and may be omitted completely or disclosed in a footnote at the option of the issuing corporation.

57. The numerator in calculating earnings per share is reduced for: A. Preference share dividends. B. Ordinary dividends. C. Ordinary share dividends. D. All three above.

58. All things being equal, if investors expect earnings to increase substantially from current levels, the price/earnings ratio will: A. Be quite low. B. Be quite high. C. Not change. D. Not be affected by income expectations.

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Chapter 12 Profit and Changes in Retained Earnings

59. The ordinary share of Securetech Corporation consistently sells at a market price of 20 times earnings, i.e., at a p/e ratio of 20. What would be the most likely effect of a 10 cent increase in Securetech's basic EPS? A. An increase in market price of approximately 10 cents per share. B. An increase in market price of approximately $2 per share. C. A reduction in the p/e ratio due to the larger EPS. D. Nothing, since market price reflects expectations of future earnings.

60. Which of the following has no effect on the computation of earnings per share for the current period? A. The amount of cash dividends declared or paid to preference shareholders. B. The amount of cash dividends declared or paid to ordinary shareholders. C. Profit. D. The number of shares of ordinary share authorized.

61. Diluted earnings per share is a hypothetical computation to warn shareholders what could happen if: A. Loss contingencies turn out adversely. B. Convertible securities are converted into ordinary shares. C. Extraordinary losses were to recur. D. Consideration was given to the loss from operations discontinued during the current period.

62. To receive the next cash dividend, an investor must purchase the share before the: A. Dividend declaration date. B. Ex-dividend date. C. Date of record. D. Payment date announced by the board of directors.

63. Dividends become a liability of a corporation: A. On the date the board of directors declares the dividend. B. On the date of record. C. On the date payment is to be made. D. When cumulative preference share dividends are in arrears.

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Chapter 12 Profit and Changes in Retained Earnings

64. When a company reports both diluted earnings per share and basic earnings per share: A. Basic EPS would be greater than fully diluted EPS. B. Basic EPS would be less than fully diluted EPS. C. Basic EPS may be either greater or less than fully diluted EPS. D. Both should never be shown - only one would be reported.

65. A liquidating dividend: A. Occurs when a corporation distributes its own shares as a dividend, rather than cash. B. Occurs whenever a corporation distributes non-cash assets as a dividend to its shareholders. C. Represents a distribution of a corporation's profits to the shareholders. D. Represents a return of invested capital to a corporation's owners, the shareholders.

66. Dividends are first recorded and retained earnings are reduced on: A. The ex-dividend date. B. The date of record. C. The date of declaration. D. The date of payment.

67. As a result of a 5% stock dividend: A. Total shareholders' equity decreases by 5%. B. The par value per share decreases by 5%. C. The number of shares owned by each shareholder increases by 5%, but total shareholders' equity does not change. D. Both the number of shares outstanding and the total shareholders' equity increase by 5%.

68. If a company presents both the basic and diluted earnings per share, the price/earnings ratio is based on: A. The basic figure. B. The diluted figure. C. The average of the basic and diluted figures. D. A combination of the basic and diluted figures.

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Chapter 12 Profit and Changes in Retained Earnings

69. A large stock dividend and a share split are similar in that they both cause a: A. Reduction in total shareholders' equity. B. Reduction in retained earnings. C. Reduction in the par value per share. D. Reduction in the market price per share.

70. Supervox Corporation declared a 3-for-2 ordinary share split, but this transaction was erroneously recorded as a 50% ordinary share dividend. As a result: A. Retained earnings is understated. B. The total dollar amount of shareholders' equity is overstated. C. The corporate records do not show the correct number of ordinary shares outstanding. D. The ordinary share account is understated.

71. Declaration and distribution of a stock dividend cause each of the following effects except: A. An increase in the number of shares outstanding. B. A decrease in retained earnings. C. A decrease in total assets of the issuing corporation. D. An increase in legal capital of the issuing corporation.

72. A 2-for-1 share split: A. Is accounted for in the same way as a 100% stock dividend. B. Increases the number of outstanding ordinary shares, but par value per share remains the same as before the split. C. Is recorded by transferring the par value of additional shares from retained earnings to the ordinary share account. D. Should logically cause the market price per share to drop by approximately 50%.

73. If a material accounting error was made in a prior year, that error: A. Should be reflected on the current year's income statement. B. Should be reflected, net of taxes, on the retained earnings statement. C. Should be reflected as a change in accounting principle. D. Should be considered as an extraordinary item and shown, net of taxes on the income statement.

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Chapter 12 Profit and Changes in Retained Earnings

74. When a stock dividend is declared, total shareholders' equity will: A. Decrease. B. Increase. C. Not change. D. Increase or decrease, depending upon certain variables.

75. Comprehensive income can be displayed to users of financial statements in which of the following way(s): A. As an item of the balance sheet.. B. In the notes accompanying the financial statements. C. As an element in the changes in shareholders' equity displayed as a column in the statement of shareholders' equity. D. As a single income statement that includes both the components of profit and the components of other comprehensive income or as a second income statement.

76. Which of the following would be treated as a retrospective restatement by Gold Corporation in 2010? A. In 2010, it was discovered that Gold Corporation recorded the purchase of a warehouse in 2007 as a debit to Repairs Expense. B. In 2010, Gold Corporation switched from the straight-line method of depreciation to another method of computing depreciation. C. In 2010, Gold Corporation's management decided that the estimated useful life of its computer equipment should be changed from five years to nine years. D. In 2010, Gold Corporation sold a segment of the business that it has operated since 1996.

77. A retrospective restatement appears in: A. The income statement following the subtotal "Profit before Retrospective Restatements." B. The statement of changes in equity as an adjustment to the ending balance of retained earnings. C. Footnotes to the financial statements. D. The statement of changes in equity as an adjustment to the beginning balance of retained earnings.

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Chapter 12 Profit and Changes in Retained Earnings

78. After preparing the financial statements for 2009, the accountant for the Dawson Corporation discovered that a retrospective restatement had been omitted from the 2007 financial statements. Which of the following is most likely to require correction as a result of this oversight? A. Earnings per share as originally computed. B. Profit for 2009 as originally reported. C. Ending retained earnings at December 31, 2009. D. Extraordinary items as originally reported.

79. A retrospective restatement appears in the financial statements of the current year when: A. An error was made in computing the profit of the current period. B. An error was made in measuring the profit of a previous year or years. C. An extraordinary loss in a prior year was included among normal results of operations in the prior year. D. Earnings per share figures from prior years are restated to reflect the increased number of shares outstanding due to a share split or a stock dividend.

80. A restriction of retained earnings: A. Reduces the dollar amount of retained earnings shown in the balance sheet. B. Appears in the statement of retained earnings as a reduction of ending retained earnings. C. Appears in the liability section of the balance sheet. D. Limits the dollar amount of dividends a corporation may declare.

81. Which of the following items would reduce retained earnings? A. A ordinary share dividend. B. A preference share dividend. C. A cash dividend. D. All three above.

82. A liquidating dividend: A. Occurs only when a company is going out of business. B. Occurs when a corporation pays a dividend that exceeds the balance in the retained earnings account. C. Is an expense to the corporation. D. Occurs only when the corporation has a loss for the year.

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Chapter 12 Profit and Changes in Retained Earnings

83. The shareholders' equity section of the balance sheet: A. Is a required financial statement. B. Uses the figures directly from the statement of changes in equity. C. Shows the changes during the year in all shareholders' equity accounts except retained earnings. D. Is a statement sent to each shareholder showing that person's return on equity.

84. A statement of changes in equity discloses each of the following except: A. The market value of the shareholders' equity at the end of the year. B. The cost of treasury share owned at the end of the year. C. Profit for the current year. D. The amount of cash dividends declared during the current year.

85. Which of the following items would be included in comprehensive income but not reported as a component of profit? A. A lower-of-cost-or-market write-down of inventory. B. A material loss due to natural disaster. C. A gain on the fair value changes on the portfolio of available-for-sale marketable securities. D. A gain on the sale of a segment of the business.

86. Which of the following items would be included in the discontinued operations section of the income statement? A. Profit or loss from operating the segment prior to its disposal. B. The gain or loss on disposal of the segment. C. Both a and b above. D. Only losses and not gains on the disposal of a segment.

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Chapter 12 Profit and Changes in Retained Earnings

87. Family Fashions Corporation discontinued Kid-Choice, its entire line of children's clothing, in November of 2009. Prior to the disposal, Kid-Choice generated a loss of $600,000 (net of tax) for the period from January through the sale date. Because of the value of the real estate and machinery, there was a gain of $850,000 (net of tax) on the actual sale. How should this situation be reported in the financial statements of Family Fashions for 2009? A. A $250,000 should be included in the 2009 income statement as an extraordinary item. B. A $600,000 loss should be included in profit from operations and a $850,000 gain reported in the "discontinued operations" section of the income statement. C. A $250,000 adjustment to beginning retained earnings should be in the statement of retained earnings. D. A $250,000 gain should be in the "discontinued operations" section of the income statement.

88. Sovereign Foods suffered a $1,500,000 loss (net of tax) when the FDA prohibited the sale of food products containing red dye no. 3. On its other products, Sovereign Foods had net sales of $6,580,000 and costs and other expenses of $6,505,000. Which of the following statements is not true? (Ignore taxes) A. Sovereign Foods reports a loss of $1,425,000 for the current year. B. Sovereign Foods reports profit before extraordinary items of $75,000. C. Sovereign Foods combines the $1,500,000 loss with its other costs and expenses of $6,505,000, since this item does not qualify for any special disclosure. D. Sovereign Foods shows the $1,500,000 loss in a separate section of the income statement as an extraordinary item.

89. Corona Corporation's financial statements for the current year include the following:

Profit from continuing operations ( net of taxes) Retrospective restatement (increase in prior year profit, net of taxes) Cash dividends paid to preference shareholders Gain from discontinued operations (net of taxes)

On the basis of this information, profit for the current year is: A. $1,359,600. B. $818,400 C. $1,485,000. D. $1,234,200.

12-17

$693,000 $250,800 $266,640 $541,200

Chapter 12 Profit and Changes in Retained Earnings

90. During the year 2009, Tosco Corporation suffered an $800,000 loss when its factory was destroyed in a flood. Assuming the corporate income tax rate is 36%, what amount will Tosco report as an extraordinary loss on its income statement for 2009? Assume floods are not common in this area. A. $800,000 B. Nothing, since IASB does not allow extraordinary items C. $288,000. D. $672,000

91. General Corporation was organized on January 1 and issued 500,000 ordinary shares on that date. On July 1, an additional 200,000 shares were issued for cash. Profit for the year was $5,184,000. Net earnings per share amounted to: A. $7.41. B. $7.98. C. $8.41. D. $8.64.

92. On January 1, 2009, Carleton Corporation had 55,000 shares of $6 par value ordinary share outstanding. On March 31, 2009, Carleton issued an additional 10,000 shares in exchange for a building. What number of shares will be used in the computation of basic earnings per share for the year 2009? A. 55,000. B. 65,000. C. 62,500. D. 62,000.

93. Platinum Company reports profit of $520,000 for 2009 and declared a cash dividend of $1 per share on each of its 100,000 ordinary shares outstanding. What are earnings per share for 2009? A. $5.20 per share. B. $1.00 per share. C. $1.20 per share. D. $4.80 per share.

12-18

Chapter 12 Profit and Changes in Retained Earnings

94. Designs, Inc. had 4,000 shares of $7, $100 par preference share and 50,000 ordinary shares outstanding throughout 2009. During 2009, Designs declared a dividend of $7 per share on its ordinary share. Compute earnings per share for 2009 if Designs' income statement showed profit of $630,000. A. $7.00 per share. B. $6.00 per share. C. $12.04 per share. D. $12.60 per share.

95. Unique Corp. had 50,000 shares of $5 preference share, $100 par, and 100,000 shares of $1 par ordinary share outstanding throughout the year. Profit for the year was $780,000, and Unique declared and distributed a cash dividend of $1 per share on its ordinary share. Earnings per share amounted to: A. $7.80. B. $1.00. C. $5.30 D. $2.30.

96. On January 1, 2010, Edward Corporation had 10,000 shares of $6 par value ordinary share and 10,000 shares of 8%, $100 par value convertible preference share outstanding. The preference shares carried a 3 for 1 conversion privilege. On October 1, 2010, all of the preference shares were converted to ordinary. What number of shares must Edward use in computing basic earnings per share at December 31, 2010? A. 17,500. B. 40,000. C. 7,500. D. 10,000.

12-19

Chapter 12 Profit and Changes in Retained Earnings

97. For the current year, Voque Company reported basic earnings per share of $8 and diluted earnings per share of $3. The difference between these figures is attributable to outstanding shares of convertible preference share. If all these preference shares had actually been converted into ordinary share at the beginning of the current year, Voque Company would have reported only one earnings per share amount, which would have been: A. $8. B. $5. C. $3. D. Cannot be determined.

98. At the beginning of the current year, Elite Corporation had 200,000 shares of $1 par ordinary share outstanding and had retained earnings of $4,800,000. During the year, the company earned $1,675,000, declared a 10% stock dividend when the price of share was $28 per share, and paid a year-end cash dividend of $3 per share. (The cash dividend was paid after the stock dividend had been distributed.) What was Elite Corporation's retained earnings at the end of the year? A. $5,915,000. B. $5,255,000. C. $5,311,000. D. $3,580,000.

99. On January 31, 2009, Village Bank had 500,000 shares of $2 par value ordinary share outstanding. On that date, the company declared a 14% stock dividend when the market price of the share was $37 per share. The immediate effect of this dividend upon Village Bank was: A. A reduction in cash of $2,590,000. B. A reduction in retained earnings of $2,590,000. C. A reduction in retained earnings of $140,000. D. A liability to the shareholders of $140,000.

12-20

Chapter 12 Profit and Changes in Retained Earnings

The shareholders' equity section of the balance sheet of Caesar Corporation at December 31, 2009, appears as follows: (The company engaged in no treasury share transactions prior to 2009)

Shareholders’ Equity $2 preference share, $100 par, 10,000 shares authorized, 8,000 shares issued Ordinary share, $2 par, 100,000 shares authorized, 75,000 shares issued, 5,000 are held in the treasury Share premium From issuance of preference share From issuance of ordinary share From treasury share transactions From ordinary share dividends Total issued and fully paid capital Retained earnings ($40,000 equal to cost of treasury share is not available for dividends) Less treasury share (at cost: 5,000 ordinary shares) Total Shareholders’ equity

100. Refer to the above data. What was the average issue price per share of preference share? A. $100. B. $110 C. $115. D. $5.

101. Refer to the above data. How many shares of ordinary share are outstanding? A. 100,000 B. 95,000. C. 75,000 D. 70,000.

12-21

$800,000 150,000

80,000 225,000 8,000 26,000 1,289,000 500,000 1,789,000 (40,000) $1,749,000

Chapter 12 Profit and Changes in Retained Earnings

102. Refer to the above data. A small stock dividend of 1,000 shares was declared and distributed during 2009. What was the market price per share on the date of declaration? A. $8.00 per share. B. $2 per share. C. $16 per share. D. $28.00 per share.

103. Refer to the above data. If Caesar Corporation had reacquired 7,000 shares of treasury share early in 2009, then some treasury share must have been sold during 2009 for: A. $8 per share. B. $12.00 per share. C. $1.50 per share. D. $5 per share.

104. Refer to the above data. Assume that all remaining treasury share is reissued at a price of $14 per share in January of 2010. What amount should be credited to the account Share Premium: Treasury Share Transactions in the journal entry to record this transaction? A. $14,000. B. $30,000. C. $40,000. D. Some other amount.

105. Refer to the data above. What was the original cost of the treasury share to Caesar Corporation? A. $5 per share. B. $7 per share. C. $8 per share. D. Cannot be determined.

Essay Questions

12-22

Chapter 12 Profit and Changes in Retained Earnings

106. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Cash dividend Stock dividend Share split Earnings per share Extraordinary item

Price-earnings ratio Profit from continuing operations Statement of changes in equity Retrospective restatement

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a) A financial statement showing the revenue, expenses, and net earnings of a corporation during the current accounting period. (b) A distribution of cash to shareholders. (c) A distribution to shareholders of additional shares, accompanied by a proportionate reduction in the par value per share. (d) The market price of a share of preference share, divided by the profit of the corporation. (e) A correction in the amount of profit reported in an earlier accounting period. (f) Item not allowed to be presented under IFRS. (g) A subtotal sometimes included in an income statement to assist investors in forecasting the income of future accounting periods.

107. Discontinued operations The operations of Global Entertainment, Inc., for the current year are summarized below:

12-23

Chapter 12 Profit and Changes in Retained Earnings

Sales Costs and expenses (including applicatble income taxes) Gain on disposal of discontinued segment,, net of income taxes

From From Continuing Discontinued Operations Segment $8,060,000 $2,275,000 6,890,000 3,315,000 676,000

Global Entertainment had 400,000 shares outstanding. Complete the following condensed income statement for the year, including the appropriate earnings per share figures.

GLOBAL ENTERTAINMENT, INC. Income Statement For the Year Ended December 31, 2006 Sales Costs and expenses (including applicable income taxes)

Earnings per share

108. Income statement and earnings per share Shown below is information relating to operations of Broadway Industries for 2009: Continuing operations: Sales Cost and expenses (including income taxes) Other data: Current-year profit generated by segment of the business discontinued in May ( net of income taxes) Gain on disposal of discontinued segment (net of income taxes) Retrospective restatement (decrease in prior years’ profit net of tax benefit) Extraordinary loss (net of income tax benefit) Cash dividends declared ($6 per share) 12-24

$6,500,000 $5,720,000 $542,100 $185,900 $347,100 $325,000 $520,000

Chapter 12 Profit and Changes in Retained Earnings

In the space provided, complete the income statement for Broadway Industries, including earnings per share figures. Broadway Industries has 100,000 shares of a single class of ordinary share outstanding throughout the year.

12-25

Chapter 12 Profit and Changes in Retained Earnings

109. Income statement and earnings per share Shown below is information relating to operations of Laconia, Inc., for 2009:

Continuing operations: Sales Cost and expenses (including income taxes) Other data: Current-year profit generated by segment of the business discontinued in April (net of income taxes) Gain on disposal of discontinued segment (net of income taxes) Retrospective restatement (decrease in prior years’ profit net of tax benefit) Extraordinary loss (net of income tax benefit) Cash dividends declared ($1.5 per share)

$7,620,000 $3,750,000 $420,000 $108,000 $168,000 $96,000 $150,000

In the space provided, complete the income statement for Laconia, Inc., including earnings-per-share figures. Laconia has 100,000 shares of a single class of ordinary share outstanding throughout the year.

12-26

Chapter 12 Profit and Changes in Retained Earnings

110. Earnings per share-basic and diluted Greenwich Corporation had profit of $1,712,500 in 2009. The company had 300,000 shares of $4 par value ordinary share and 25,000 shares of 8%, $100 par, convertible preference share outstanding throughout the year. Each share of preference share is convertible into four shares of ordinary share. Compute the following for 2009:

111. Earnings per share-basic and diluted Stainless Corporation had profit of $7,800,000 in 2010. The company had 500,000 shares of $4 par value ordinary share and 70,000 shares of 8%, $100 par, convertible preference share outstanding throughout the year. Each share of preference share is convertible into two shares of ordinary share. Compute the following for 2010:

12-27

Chapter 12 Profit and Changes in Retained Earnings

112. Stock dividend-effect on book value Olympic Corporation has 75,000 shares of $1 par value share outstanding. The largest single shareholder is Lou Cheng, who owns 6,000 shares. On December 31, the total assets of the company amount to $4,360,000 and total liabilities to $2,230,000. On that date, the board of directors declared a stock dividend of one new share for each five shares outstanding. Compute the following:

(a) Book value per share before the stock dividend $ ______ per share (b) Book value per share after stock dividend $ ______ per share (c) Total book value of Lou Cheng ‘s shareholdings before the stock dividend $_______________ (d) Total book value of Lou Cheng ‘s shareholdings after the stock dividend $ ______________

113. Stock dividends and share split-journal entries Eagle Corporation has 250,000 shares of $6 par value share outstanding. Prepare journal entries in the space provided to record the following transactions during the current year:

12-28

Chapter 12 Profit and Changes in Retained Earnings

Feb 10 Mar. 15 June 30 Oct. 17

Declared a 25% stock dividend Market price per share was $22 Issued the shares for the stock dividend declared on February 10. Distributed additional shares in a 2-for-1 share split Market price per share was $40 immediately before the share split Declared a 10% stock dividend. Market rice per share was $24

12-29

Chapter 12 Profit and Changes in Retained Earnings

12-30

Chapter 12 Profit and Changes in Retained Earnings

114. Equity transactions-journal entries A partial list of the ledger accounts of Soundview Corporation is shown below, followed by a list of transactions. Indicate the accounts that would be debited and credited in recording each transaction by placing the appropriate account number(s) in the space provided. If no journal entry is required for a particular transaction, use "None."

1 10 20 21 24 25

Cash Dividends Payable Ordinary Share, $1 par Share Premium Stock Dividend to Be Distributed Treasury Share

30 31 45 50

Retained Earnings Dividends All Revenue and Gains All Expenses and Losses

Transactions

(a) (b) (c) (d) (e) (f) (g) (h)

Example Issued ordinary shares for cash at a price above par. Declared a 10% stock dividend. Market price per share is higher than par. Declared a cash dividend on ordinary share Issue shares pursuant to stock dividend declared in a, above. The dividend declared in b, above, is paid. Reacquired shares of Sound view ordinary shares on the open market. Reissued some of the shares reacquired in e, above, at a price higher than cost. Declared and distributed a 100% stock dividend. Market price per share is higher than par value. Declared and distributed a 2-for-1 share split. Market price per share is higher than par value.

12-31

Account(s) Debited 1

Account(s) Credited 20,21

Chapter 12 Profit and Changes in Retained Earnings

115. Retained earnings At the beginning of 2009, Falcon Corporation had 2 million shares of $2 par value ordinary share outstanding and retained earnings of $17 million. During 2009, Falcon earned $12 million, declared a 5% stock dividend when the price of the share was $19 per share, and paid a year-end cash dividend of $2.50 per share. (The cash dividend was declared after the stock dividend had been distributed.) At the end of 2009, what are the company's retained earnings?

116. Stock dividend and treasury share At the beginning of the current year, King Cole, Inc. had 300,000 shares of capital stock outstanding and total shareholders' equity of $1,200,000. During the year, the company earned profit of $325,000, declared cash dividends of $150,000, distributed a 5% stock dividend of 15,000 shares when the market price of the share was $16 per share, and purchased 3,000 shares of treasury share at a cost of $13 per share. Compute the following at the end of the current year: (a) Total shareholders' equity: (b) Number of shares outstanding: (c) Book value per share:

12-32

Chapter 12 Profit and Changes in Retained Earnings

117. Shareholders' equity The shareholders' equity section of the balance sheet of Nautilus Corporation at December 31, 2010, appears as follows:

Shareholders’ Equity 8% non-cumulative preference share, $100 par, 50,000 shares authorized, ?shares issued Ordinary share, $10 par, 500,000 shares authorized, 100,000 shares issued, of which ?? are held in treasury Share premium From issuance of preference share From issuance of ordinary share Total issued and fully paid capital Retained earnings ($160,000 equal to cost of treasury share is not available for dividends) Less: treasury share (at cost: 4,000 ordinary shares) Total shareholders’ equity

$1,400,000 1,000,000

344,000 2,835,000 $5,579,000 1,280,000 $6,859,000 (160,000) $6,699,000

12-33

Chapter 12 Profit and Changes in Retained Earnings

118. Shareholders' equity The shareholders' equity section of the balance sheet of Creative Corporation at December 31, 2009, appears as follows:

Shareholders’ Equity $5 preference share, $100 par, 10,000 shares authorized, 8,000 shares issued Ordinary share, $3 par, 100,000 shares authorized, 50,000 shares issued, of which 5,000 are held in treasury Share premium From issuance of preference share From issuance of ordinary share From treasury share transactions From ordinary share dividends Total issued and fully paid capital Retained earnings ($40,000 equal to cost of treasury share is not available for dividends) Less: treasury share (at cost: 5,000 ordinary shares) Total shareholders’ equity

$800,000 150,000

160,000 550,000 6,000 130,000 $1,796,000 750,000 $2,546,000 (40,000) $2,506,000

12-34

Chapter 12 Profit and Changes in Retained Earnings

119. Special sections in an income statement What is the purpose of arranging an income statement to show subtotals for Profit from Continuing Operations and for Profit before Extraordinary Items?

120. Accounting changes and retrospective restatement Retrospective restatements affect the income of past accounting periods. Explain how retrospective restatements are shown in the financial statements.

121. Stock dividends What is the effect of a stock dividend?

122. MRB Company purchased 1000 shares of its own outstanding $12 par value ordinary share for $16 per share and then sold 400 shares six months later for $19 a share. Prepare the journal entries for the purchase of the share and for the sale.

12-35

Chapter 12 Profit and Changes in Retained Earnings

123. Baron Corporation was authorized by its charter to issue 80,000 shares of 12%, $100 par cumulative preference share and 200,000 shares of $1 par value ordinary share. In their first year of operations, they had the following transactions. (1) Sold 50,000 shares of ordinary share for $300,000 on January 1. (2) Sold 3,000 shares of preference share for $360,000 on January 1. (3) Earned $185,000 for the sale of their merchandise of which $135,000 was on credit. (4) Had expenses of $122,500 in connection with selling the merchandise. All expenses were paid in cash. (5) Purchased 5,000 shares of outstanding ordinary share for $8.00 per share for the treasury. (6) Declared a dividend of $.20 per share of ordinary share and for the amount due the preference share. (7) Paid the required dividends Required: (a) Prepare the necessary journal entries (b) Prepare the shareholders' equity section of the balance sheet.

12-36

Chapter 12 Profit and Changes in Retained Earnings

Chapter 12 Profit and Changes in Retained Earnings Answer Key

True / False Questions

1. An extraordinary item appears on the income statement before the section on discontinued operations. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

2. Earnings per share is equal to profit applicable to ordinary share divided by the weighted number of ordinary shares outstanding. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

3. In determining earnings per share when a preference share has dividends in arrears, only the current year's dividend is deducted to arrive at earnings per share. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

12-37

Chapter 12 Profit and Changes in Retained Earnings

4. The price earnings ratio is based on expected future earnings while the earnings per share ratio is based on historical earnings. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

5. In order to receive a dividend, a shareholder must have owned the shares as of the declaration date. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 6

6. A stock dividend provides a shareholder with more shares of stock but his or her percentage of ownership in the company, is no larger than before. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 6

7. When a small (under 10%) stock dividend is declared the market value of the share is transferred from Retained Earnings into other shareholder equity accounts. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

12-38

Chapter 12 Profit and Changes in Retained Earnings

8. A share split changes the par value of a share whereas a stock dividend does not. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

9. Comprehensive income differs from profit in that it includes events that are recognized but not realized. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

10. Diluted earnings per share are shown to alert investors that earnings per share could be increased by the effects of conversions of securities into ordinary share. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

11. Comprehensive income is a component of profit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

12-39

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 8

13. A statement of shareholders' equity is not a required financial statement and need not be prepared along with a statement of changes in equity. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 8

14. In order for a loss on the disposal of a discontinued operation to be classified on the income statement as a discontinued operation, it must be unusual in nature. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

15. Extraordinary items and the results of discontinued operations are shown in the income statement net of any related income tax effects. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 2

12-40

Chapter 12 Profit and Changes in Retained Earnings

16. The IASB has prohibited the reporting of what is considered to be an extraordinary item. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

17. The amount of cash dividends paid to ordinary shareholders is part of the computation of earnings per share. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

18. A retrospective restatement to retained earnings is made when a discovery of a material error was made to prior years' profit. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

19. Diluted earnings per share represents a hypothetical case, showing what earnings per share would be if certain securities were converted into additional shares of ordinary share. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

12-41

Chapter 12 Profit and Changes in Retained Earnings

20. When a corporation presents both "basic" and "diluted" earnings per share, basic earnings per share will be the smaller of the two figures. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

21. Share splits are always in a 2 for 1 ratio. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

22. "Discontinued operations" is an example of an extraordinary item. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

23. Stock dividends and share splits do not cause a change in the total amount of shareholders' equity. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

12-42

Chapter 12 Profit and Changes in Retained Earnings

24. The amount transferred out of retained earnings when a 4% stock dividend is declared is equal to the prevailing market value per share times the number of dividend shares to be distributed. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

25. Large stock dividends tend to keep share prices down. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

26. Retrospective restatements are shown in the financial statements by adjusting the beginning balance of retained earnings in the statement of changes in equity. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

27. Retrospective restatements appear in the statement of changes in equity and in the income statement for the current year. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 7

12-43

Chapter 12 Profit and Changes in Retained Earnings

28. Discontinued operations should be shown on the statement of changes in equity net of taxes. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

29. The expropriation (seizure of) of a multinational company's assets by a government is an example of a discontinued operation item. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

30. The statement of changes in equity discloses the amount of cash dividends as well as stock dividends declared during the current year. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 8

31. Comprehensive income may be presented in a separate statement of comprehensive income, or as part of an income statement. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 4

12-44

Chapter 12 Profit and Changes in Retained Earnings

32. In an attempt to appeal to investors, a company may be tempted to overstate profit. TRUE

AACSB: Ethics AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 9

33. According to the Sarbanes-Oxley Act lying to an external auditor can create a criminal penalty as well as a civil penalty. TRUE

AACSB: Ethics AICPA BB: Legal AICPA FN: Risk Analysis Learning Objective: 9

Multiple Choice Questions

34. Share splits A. Allow management to conserve cash. B. Give shareholders more shares. C. Cause no change in total assets, liabilities, or shareholders' equity. D. All of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

12-45

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

36. A small stock dividend is recorded at: A. Market value B. Book value C. Par value D. None of the above, just a memorandum entry is required.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

37. Treasury share appears as: A. An asset account B. A liability account C. An expense account D. An equity account

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 8

12-46

Chapter 12 Profit and Changes in Retained Earnings

38. Where on the income statement are extraordinary items found ? A. Before discontinued operations B. Nowhere, since IFRS prohibits such reporting C. Before profit from continuing operations D. After retrospective restatements

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 1

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

40. A company failed to make an adjusting entry in the prior year to accrue earned revenue. To correct this they should: A. Correct last year's statement by increasing Profit B. Correct this year's statements with a retrospective restatement increasing beginning retained earnings C. Correct this year's statements with a retrospective restatement decreasing beginning retained earnings. D. Correct this year's statements with a retrospective restatement increasing ending retained earnings.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

12-47

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6 Learning Objective: 5

12-48

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 7

12-49

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 7

48. Large stock dividends tend to: A. Increase share prices. B. Have no effect upon share prices. C. Keep share prices down. D. Describe total assets.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

49. The purpose of developing the subtotals “Profit from Continuing Operations" in an income statement is to: A. Assist investors in forecasting future operating results. B. Increase the amount of reported profit. C. Decrease the amount of profit subject to income taxes. D. Provide investors with the information necessary to compute earnings per share.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

12-50

Chapter 12 Profit and Changes in Retained Earnings

50. To qualify as a discontinued operation, a gain or loss must: A. Affect the profit of a prior period. B. Be larger in amount than any other item in the income statement. C. Be associated with a segment of the business that has been discontinued during the current period D. Be material in amount, unusual in nature, and not expected to recur

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

51. Which of the following qualify as an extraordinary item? A. A large gift given to the company. B. A loss from obsolete inventory. C. A loss from a natural disaster that affects the company at infrequent intervals. D. None of the above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

12-51

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

12-52

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2

57. The numerator in calculating earnings per share is reduced for: A. Preference share dividends. B. Ordinary dividends. C. Ordinary share dividends. D. All three above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

12-53

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

12-54

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

12-55

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

66. Dividends are first recorded and retained earnings are reduced on: A. The ex-dividend date. B. The date of record. C. The date of declaration. D. The date of payment.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

12-56

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

12-57

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

12-58

Chapter 12 Profit and Changes in Retained Earnings

74. When a stock dividend is declared, total shareholders' equity will: A. Decrease. B. Increase. C. Not change. D. Increase or decrease, depending upon certain variables.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

75. Comprehensive income can be displayed to users of financial statements in which of the following way(s): A. As an item on the balance sheet.. B. In the notes accompanying the financial statements. C. As an element in the changes in shareholders' equity displayed as a column in the statement of shareholders' equity. D. As a single income statement that includes both the components of profit and the components of other comprehensive income or as a second income statement.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

12-59

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

12-60

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

81. Which of the following items would reduce retained earnings? A. A ordinary share dividend. B. A preference share dividend. C. A cash dividend. D. All three above.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 12 Profit and Changes in Retained Earnings

83. The shareholders' equity section of the blance sheet: A. Is a required financial statement. B. Uses the figures directly from the statement of changes in equity. C. Shows the changes during the year in all shareholders' equity accounts except retained earnings. D. Is a statement sent to each shareholder showing that person's return on equity.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

12-62

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 5

12-63

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

89. Corona Corporation's financial statements for the current year include the following:

On the basis of this information, profit for the current year is: A. $1,359,600. B. $818,400 C. $1,485,000. D. $1,234,200. $693,000 + $541,200 = $1,234,200

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 7

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$693,000 $250,800 $266,640 $541,200

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

91. General Corporation was organized on January 1 and issued 500,000 ordinary share on that date. On July 1, an additional 200,000 shares were issued for cash. Profit for the year was $5,184,000. Net earnings per share amounted to: A. $7.41. B. $7.98. C. $8.41. D. $8.64. (500,000  6/12) + (700,000  6/12) = 600,000; $5,184,000/600,000 = $8.64

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

12-65

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

12-66

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

12-67

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

12-68

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6 Learning Objective: 5

12-69

Chapter 12 Profit and Changes in Retained Earnings

The shareholders' equity section of the balance sheet of Caesar Corporation at December 31, 2009, appears as follows: (The company engaged in no treasury share transactions prior to 2009)

100. Refer to the above data. What was the average issue price per share of preference share? A. $100. B. $110 C. $115. D. $5. ($800,000/8,000) + ($80,000/8,000) = $110

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

12-70

$800,000 150,000

80,000 225,000 8,000 26,000 1,289,000 500,000 1,789,000 (40,000) $1,749,000

Chapter 12 Profit and Changes in Retained Earnings

101. Refer to the above data. How many ordinary shares are outstanding? A. 100,000 B. 95,000. C. 75,000 D. 70,000. 75,000 - 5000 = 70,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6 Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

105. Refer to the data above. What was the original cost of the treasury share to Caesar Corporation? A. $5 per share. B. $7 per share. C. $8 per share. D. Cannot be determined. $40,000/5,000 = $8.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

Essay Questions

106. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter: Cash dividend Stock dividend Share split Earnings per share Extraordinary item

Price-earnings ratio Profit from continuing operations Statement of changes in equity Retrospective restatement

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Chapter 12 Profit and Changes in Retained Earnings

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a) A financial statement showing the revenue, expenses, and net earnings of a corporation during the current accounting period. (b) A distribution of cash to shareholders. (c) A distribution to shareholders of additional shares, accompanied by a proportionate reduction in the par value per share. (d) The market price of a share of preference share, divided by the profit of the corporation. (e) A correction in the amount of profit reported in an earlier accounting period. (f) Item no allowed to be presented under IFRS. (g) A subtotal sometimes included in an income statement to assist investors in forecasting the profit of future accounting periods. (a) None (The statement describes an income statement.), (b) Cash dividend, (c) Share split, (d) None (A price-earnings ratio is the market price of ordinary share, divided by earnings per share), (e) Retrospective restatement, (f) Extraordinary item, (g) Profit from continuing operations

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 - 7

107. Discontinued operations The operations of Global Entertainment, Inc., for the current year are summarized below:

Sales Costs and expenses (including applicatble income taxes) Gain on disposal of discontinued segment,, net of income taxes

From From Continuing Discontinued Operations Segment $8,060,000 $2,275,000 6,890,000 3,315,000 676,000

Global Entertainment had 400,000 shares outstanding. Complete the following condensed income statement for the year, including the appropriate earnings per share figures. GLOBAL ENTERTAINMENT, INC. Income Statement For the Year Ended December 31, 2006 Sales Costs and expenses (including applicable income taxes) Earnings per share

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Chapter 12 Profit and Changes in Retained Earnings

GLOBAL ENTERTAINMENT, INC. Income Statement For the Year Ended December 31, 2006 Sales Costs and expenses (including applicable income taxes) Profit from continuing operations Loss from discontinued operations: Operating loss, net of income taxes Gain on disposal, net of income taxes Profit for the year

$8,060,000 (6,890,000) $1,170,000 $1,040,000 676,000

Earnings per share: Earnings from continuing operations ($1,170,000, ÷ 400,000 shares) Loss from discontinued operations ($364,000 ÷ 400,000 shares) Profit ($806,000 ÷ 400,000 shares)

$2.93 (.91) $2.02

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

12-74

(364,000) $ 806,000

$6,500,000 $5,720,000 $542,100 $185,900 $347,100 $325,000 $520,000

Chapter 12 Profit and Changes in Retained Earnings

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Chapter 12 Profit and Changes in Retained Earnings

BROADWAY INDUSTRIES Condensed Income Statement For the Year Ended December 31, 2009 Sales Costs and expenses (including applicable income taxes) Profit from continuing operations Discontinued operations: Operating profit, net of income taxes Gain on disposal, net of income taxes Profit for the year

$6,175,000 (5,720,000) $455,000 $542,100 185,900

Earnings per share: Earnings from continuing operations ($455,000, ÷ 100,000 shares) Gain from discontinued operations ($728,000 ÷ 100,000 shares) Profit ($1,183,000 ÷ 100,000 shares)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2 Learning Objective: 8

109. Income statement and earnings per share Shown below is information relating to operations of Laconia, Inc., for 2009:

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728,000 $1,183,000

$4.55 7.28 $11.83

Chapter 12 Profit and Changes in Retained Earnings

$7,620,000 $3,750,000 $420,000 $108,000 $168,000 $96,000 $150,000

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Chapter 12 Profit and Changes in Retained Earnings

LACONIA, INC. Condensed Income Statement For the Year Ended December 31, 2009 Sales Costs and expenses (including applicable income taxes) Profit from continuing operations Discontinued operations: Operating profit, net of income taxes Gain on disposal, net of income taxes Profit for the year Earnings per share: Earnings from continuing operations ($3,774,000 ÷ 100,000 shares) Gain from discontinued operations ($528,000 ÷ 100,000 shares) Profit ($4,302,000 ÷ 100,000 shares)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 2 Learning Objective:7

12-78

$7,524,000 (3,750,000) $3,774,000 $420,000 108,000

528,000 4,302,000

$ 37.74 $ 5.28 $ 43.02

Chapter 12 Profit and Changes in Retained Earnings

(a) Basic earnings per share ($1,712,500 - $200,000)  300,000 shares = $5.04 per share (b) Number of shares diluted: 300,000 ordinary outstanding + 100,000 from assumed conversion of convertible preference share = 400,000 shares

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

(a) 500,000 (b) 500,000 + (2  70,000) = 640,000 (c) [$7,800,000 - (70,000  $100  8%)]  500,000 = $14.48

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2 Learning Objective: 3

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Chapter 12 Profit and Changes in Retained Earnings

(a) $28.40 per share (b) $23.67 per share (c) $170,400 (d) $170,400 Computations

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 12 Profit and Changes in Retained Earnings

113. Stock dividends and share split-journal entries Eagle Corporation has 250,000 shares at $6 par value outstanding. Prepare journal entries in the space provided to record the following transactions during the current year:

Feb 10 Mar. 15 June 30 Oct. 17

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Chapter 12 Profit and Changes in Retained Earnings

General Journal 20___ Feb.10

Mar.15

Retained Earnings Stock Dividend to be Distributed To record declaration of 35% stock dividend consisting of 62,500 shares of $6 par value ordinary shares

375,000

Stock Dividend to be Distributed Ordinary Shares To record distribution of a stock dividend of 62,500 shares.

375,000

June 30

Memorandum: Issued an additional 312,500 ordinary shares in a 2-for-1 split. Par value reduced From $6 per share to $ 3 per share.

Oct. 17

Retained Earnings Stock Dividend to be Distributed Share Premium: Stock Dividends To record declaration of a 10% stock dividend consisting Of 62,500 shares of $ 3 par value ordinary shares Amount of retained earnings transferred to permanent capital is based on market price of $24 per share

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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375,000

1,500,000 187,500 1,312,500

Chapter 12 Profit and Changes in Retained Earnings

1 10 20 21 24 25

Cash Dividends Payable Ordinary Share, $1 par Share Premium Stock Dividend to Be Distributed Treasury Share

30 31 45 50

Retained Earnings Dividends All Revenue and Gains All Expenses and Losses

Transactions

(a) (b) (c) (d) (e) (f) (g) (h)

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Account(s) Debited 1

Account(s) Credited 20,21

Chapter 12 Profit and Changes in Retained Earnings

Transactions

(a) (b) (c) (d) (e) (f) (g) (h)

Account(s) Debited 1

Account(s) Credited 20,21

24,21

31 or 30 24

10 20

10 25

1 1

25,21

None

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

Retained earnings, beginning Add: Profit for 2009

$17,000,000 12,000,000 $29,000,000

Less: Stock dividend (100,000 shares x $19) Cash dividend (2,100,000 x $2.50) Retained earnings, ending

$1,900,000 5,250,000

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(7,150,000) $21,850,000

Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 8

116. Stock dividend and treasury share At the beginning of the current year, King Cole, Inc. had 300,000 shares outstanding and total shareholders' equity of $1,200,000. During the year, the company earned profit of $325,000, declared cash dividends of $150,000, distributed a 5% stock dividend of 15,000 shares when the market price of the share was $16 per share, and purchased 3,000 shares of treasury share at a cost of $13 per share. Compute the following at the end of the current year: (a) Total shareholders' equity: (b) Number of shares outstanding: (c) Book value per share: (a) Total shareholders' equity: $1,200,000 + $325,000 - $150,000 - $39,000 = $1,336,000 (b) Shares outstanding: 300,000 + 15,000 - 3,000 = 312,000 (c) Book value per share: $1,336,000 (part a)/312,000 shares (part b) = $4.28 per share

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 12 Profit and Changes in Retained Earnings

117. Shareholders' equity The shareholders' equity section of the balance sheet of Nautilus Corporation at December 31, 2010, appears as follows:

$1,400,000 1,000,000

344,000 2,835,000 $5,579,000 1,280,000 $6,859,000 (160,000) $6,699,000

Answer the following questions based on the shareholders' equity section given above. Each question is a separate situation, unless otherwise indicated. (a) What is the total dollar amount paid annually as dividends to preference shareholders? (b) What was the average issue price per share of preference share? (c) What was the average issue price per share of ordinary share? (d) How many shares of ordinary share are outstanding? (e) What is the book value per share of the ordinary share? (f) If all the treasury share is reissued at a price of $45 per share, what amount will be credited to the account Share Premium: Treasury Share Transactions? (a) $100 par  8%  14,000 shares = $112,000 (b) ($1,400,000 + $344,000)  14,000 shares = $124.57 per share (c) ($1,000,000 + $2,835,000)  100,000 shares issued = $38.35 per share (d) 100,000 shares issued - 4,000 shares held in treasury = 96,000 shares (e) ($6,699,000 - $112,000) = $6,587,000  96,000 shares outstanding = $68.61 per share (f) ($45  4,000 shares) - $160,000 = $20,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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Chapter 12 Profit and Changes in Retained Earnings

118. Shareholders' equity The shareholders' equity section of the balance sheet of Creative Corporation at December 31, 2009, appears as follows:

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$800,000 150,000

160,000 550,000 6,000 130,000 $1,796,000 750,000 $2,546,000 (40,000) $2,506,000

Chapter 12 Profit and Changes in Retained Earnings

Answer the following questions based on the shareholders' equity section given above. The company had no treasury share transactions before 2007. (a) What is the average price per share of preference share? (b) How many shares of ordinary share are outstanding? (c) A small stock dividend of 5,000 shares was declared and distributed during 2007. What was the market price per share on the date of declaration? (d) If Creative Corporation had reacquired 7,000 shares of treasury share early in 2007, compute the price per share for which the reissued treasury share was sold. (e) Assume all remaining treasury share is reissued at a price of $12 per share in January of 2008. Give the journal entry to record this transaction. (a) ($800,000 + $160,000) 8,000 shares - $120 per share. (b) 50,000 shares issued - 5,000 held in treasury = 45,000 shares (c) Market price per share on stock dividend declaration date = $130,000 5,000 shares = $26 market value in excess of par. (d) Treasury share reissued at $11 share. 2,000 shares treasury share reissued (7,000 - 5,000 remaining) $6,000 2,000 shares = $3.00 per share in excess of cost, received when the shares were reissued.

(e)

Cash (5,000 shares x $12 per share) Treasury Share Share Premium, Treasury Share Transactions

60,000 40,000 20,000

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Chapter 12 Profit and Changes in Retained Earnings

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

119. Special sections in an income statement What is the purpose of arranging an income statement to show subtotals for Profit from Continuing Operations and for Profit before Extraordinary Items? The purpose of developing subtotals such as Profit from Continuing Operations or Profit before Extraordinary Items is to assist users of the income statement in making forecasts of future earnings. By excluding the operating results of discontinued operations or the effects of unusual and nonrecurring transactions, these subtotals indicate the amount of profit derived from the company's ongoing, normal operations.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

120. Accounting changes and retrospective restatement Retrospective restatements affect the profit of past accounting periods. Explain how retrospective restatements are shown in the financial statements. A retrospective restatement represents a correction of an error in the amount of profit reported in a prior period. Retrospective restatements are shown in the statement of changes in equity as an adjustment to the balance of retained earnings at the beginning of the period in which the error was discovered.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

121. Stock dividends What is the effect of a stock dividend? Stock dividends do not change total assets. The number of shares outstanding increase, but total shareholders' equity does not change. They are popular with shareholders because the dividend is not subject to income taxation until the shares received are sold.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 12 Profit and Changes in Retained Earnings

At time of purchase: Treasury Share Cash At time of sale: Cash Share Premium- Treasury Share Treasury Share

16,000 16,000

7,600 1,200 6,400

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

12-90

Chapter 12 Profit and Changes in Retained Earnings

(a)

4. 5. 6. 7.

(b)

Cash Ordinary Share Share Premium: Ordinary Shares Cash Preference Share Share Premium: Preference Shares Accounts Receivable Cash Revenue Expenses Cash Treasury Share Cash Dividends Dividends Payable Dividends Payable Cash

300,000 50,000 250,000 360,000 300,000 60,000 135,000 500,000 185,000 122,500 122,500 40,000 40,000 45,000 45,000 45,000 45,000

Shareholders’ Equity Preference share,12%, $100 par, non-cumulative 80,000 shares authorized, 3,000 shares issued Ordinary share, $1 par, 200,000 shares authorized, 50,000 shares issued, (of which 5,000 are held in treasury) Share premium From issuance of preference share From issuance of ordinary share Retained earnings Treasury share (at cost: 5,000 ordinary shares) Total shareholders’ equity

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

12-91

$300,000 50,000 60,000 250,000 17,500 (40,000) $637,500

Chapter 12 Profit and Changes in Retained Earnings

CHAPTER 12

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer for each question in the space provided. 1

Beck Corporation declared a 2-for-1 ordinary share split, but this transaction was erroneously recorded as a 100% ordinary share dividend. As a result: a The ordinary share account is overstated. b The total dollar amount of shareholders’ equity is overstated. c The corporate records do not show the correct number of shares of ordinary share outstanding. d The par value per share is understated.

Fuller Mfg.’s financial statements for the current year include the following: Profit from continuing operations ................................................................... Retrospective restatement (increase in prior-year profit, net of taxes) .................................................................................................... Cash dividends paid to preference shareholders ............................................. Gain from discontinued operations (net of taxes) ........................................... On the basis of this information, profit for the current year is: a $488,800. b $922,400. c $725,600. d

$488,800 180,000 196,800 433,600

$1,102,400.

The following two items are disclosed in the shareholders’ equity section of Cort Corporation’s December 31, 2010, balance sheet: Treasury share (500 shares, at cost) ................................................................ Share Premium: treasury share transactions ...................................................

$50,000 22,500

If the company had reacquired 3,000 shares of treasury share in February of 2010 then some of the treasury share must have been sold during 2010 for: a $9 per share above its par value. b $9 per share. c $109 per share. d $109 per share above its cost. 4

At the beginning of the current year, Bard Corporation had 400,000 shares of $1 par ordinary share outstanding and had retained earnings of $11,000,000. During the year, the company earned $5,000,000, declared a 5% stock dividend when the price was $25 per share, and paid a year-end cash dividend of $2 per share. (The cash dividend was paid after the stock dividend had been distributed.) Bard Corporation’s retained earnings at the end of the year amount to: a $16,000,000. b $14,660,000. c $14,320,000. d $14,700,000

Donnell Corp. had 100,000 shares of 8% preference share, $100 par, and 500,000 shares of $1 par ordinary share outstanding throughout the year. Profit for the year was

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Chapter 12 Profit and Changes in Retained Earnings

$4,800,000, and Donnell declared and distributed a cash dividend of $4 per share on its ordinary share. Earnings per share amounted to: a $8.80. b $4.00. c $8.00. d $2.00. CHAPTER 12 NAME # 10-MINUTE QUIZ B

SECTION

The shareholders’ equity section of the balance sheet of Global Publishing at December 31, 2009, appears as follows: Shareholders’ equity: 5% preference share, $100 par, 50,000 shares authorized, ?? shares issued ................................................. Ordinary share, $2 par, 500,000 shares authorized, 140,000 shares issued, of which ?? are held in treasury ............................ Share Premium: From issuance of preference share ............................................................. From issuance of ordinary share ................................................................. From treasury share transactions ................................................................ From ordinary share dividends ................................................................... Issued and fully paid capital ..................................................................... Retained earnings ($112,000 equal to cost of treasury share is not available for dividends) ............................................................ Less: Treasury share (at cost: 14,000 ordinary shares) ................................ Total shareholders’ equity.............................................................................

$1,200,000 280,000 288,000 840,000 16,000 400,000 $3,024,000 880,000 $3,904,000 (112,000) $3,792,000

Answer the following questions based on the shareholders’ equity section given above. The company had no treasury share purchases before 2009. 1

Refer to the above data. What was the average issue price per share of preference share? a $80. b $100. c $124. d $148.

Refer to the above data. How many shares of ordinary share are outstanding? a 140,000. b 126,000. c 500,000. d 120,000.

Refer to the above data. A small stock dividend of 5,000 shares was declared and distributed during 2009. What was the market price per share on the date of declaration? a $82 per share. b $80 per share. c $2 per share. d $78 per share

Refer to the above data. If Global Publishing had reacquired 16,000 shares of treasury share early in 2009, then some treasury share must have been sold during 2009 for: a $5 per share. b $8 per share. c $6 per share. d $16 per share.

Refer to the above data. Assume that all remaining treasury share is reissued at a price of $18 per share in January of 2010. What amount should be credited to the account Share Premium: Treasury Share Transactions in the journal entry to record this transaction? a $96,000. b $140,000. c $112,000. d $288,000.

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Chapter 12 Profit and Changes in Retained Earnings

CHAPTER 12

NAME

10-MINUTE QUIZ C

# SECTION

The shareholders’ equity section of the balance sheet of Xanadu Fashions, Inc., at December 31, 2010 appears as follows: Shareholders’ equity: 7% preference share, $100 par, callable at $105, 50,000 shares authorized, 40,000 shares issued ......................................... Ordinary share, $2 par, 600,000 shares authorized, 450,000 shares issued, of which 30,000 are held in treasury ..................... Share premium: From issuance of preference share ............................................................. From issuance of ordinary share ................................................................. From treasury share transactions ................................................................ From ordinary share dividends ................................................................... Issued and fully paid capital ..................................................................... Retained earnings ($240,000 equal to cost of treasury share is not available for dividends) ............................................................ Less: Treasury share (at cost: 30,000 ordinary shares) ................................ Total shareholders’ equity.............................................................................

$4,000,000 900,000 640,000 1,890,000 60,000 450,000 $7,940,000 3,600,000 $11,540,000 (240,000) $11,300,000

Answer the following questions based on the shareholders’ equity section given above. The company purchased no treasury share before 2008 1

Refer to the above data. What was the average issue price per share of preference share?

Refer to the above data. How many shares of ordinary share are outstanding?

Refer to the above data. A small stock dividend of 20,000 shares was declared and distributed during 2010. What was the market price per share on the date of declaration?

Refer to the above data. If Xanadu Fashions had reacquired 35,000 shares of treasury share early in 2010, compute the price per share for which the reissued treasury share was sold. Refer to the above data. Assume all remaining treasury share is reissued at a price of $24 per share in January of 2011. Prepare the journal entry to record this transaction:

12-94

Chapter 12 Profit and Changes in Retained Earnings

CHAPTER 12........................................................................................................ NAME 10-MINUTE QUIZ D

SECTION

Shown below is information relating to operations of R. Brook, Inc for the current year: Continuing operations: Sales ................................................................................................... $2,750,000 Costs and expenses (including income taxes) ........................................................ Other data: Current-year loss generated by segment of the business discontinued in July (net of income tax benefit) .................................................. Gain on disposal of discontinued segment (net of income tax) ............................................................................................................ Retrospective restatement (decrease in prior year’s depreciation expense, net of income taxes) ............................................................................... Extraordinary loss (net of income tax benefit) ....................................................... Cash dividends declared ($1.50 per share) .............................................................

2,125,000

207,500 137,500 45,000 17,500 150,000

In the space provided, complete the income statement for R. Brook, Inc., including earnings per share figures. R. Brook, Inc. has 100,000 shares of a single class of ordinary share outstanding throughout the year. R. BROOK, INC. Condensed Income Statement For the Year Ended December 31, 2009

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Chapter 12 Profit and Changes in Retained Earnings

CHAPTER 12 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

The primary purpose of showing special types of events separately in the income statement is to: a Increase earnings per share. b Assist users of the income statement in evaluating the profitability of normal, ongoing operations. c Minimize the income taxes paid on the results of ongoing operations. d Prevent unusual losses from recurring.

Which of the following situations would not be presented in a separate section of the current year’s income statement of Hamilton Corporation? (More than one answer may be correct.) During the current year: a Hamilton’s St. Louis factories are destroyed by a tornado and the operation has been discontinued. b Hamilton sells its entire juvenile furniture operations and concentrates upon its remaining children’s clothing segment. c Hamilton’s accountant discovers that the entire price paid several years ago to purchase company offices in Texas had been charged to a Land account; consequently, no depreciation has ever been taken on these buildings. d As a result of labor union contract changes, Hamilton paid increased compensation expense during the year.

When a corporation has outstanding both ordinary and preference share: a Basic and diluted earnings per share are reported only if the preference share is cumulative. b Earnings per share are reported for each type of share outstanding. c Earnings per share are computed without regard to the amount of dividends declared on ordinary share. d Earnings per share are computed after deducting the amount of preference share dividends from profit.

Which of the following is not true about a stock dividend? a Total shareholders’ equity does not change when a stock dividend is declared or when it is distributed. b Between the time a stock dividend is declared and when it is distributed, the company’s commitment is presented in the balance sheet as a current liability. c Stock dividends do not change the relative portion of the company owned by individual shareholders. d Stock dividends have no impact on the amount of the company’s assets. The statement of changes in equity: (More than one answer may be correct) a Includes retrospective restatements and cash dividends, but not stock dividends. b Indicates the amount of cash available for the payment of dividends. c Reconcile all the balances of the sharehoders’ equity. d Shows revenue, expenses, and dividends for the accounting period.

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Chapter 12 Profit and Changes in Retained Earnings

SOLUTIONS TO CHAPTER 12 10-MINUTE QUIZZES QUIZ A 1 A 2 B 3 C 4 B 5 C

QUIZ B 1 C 2 B 3 A 4 D 5 B

QUIZ C 1 Average issue price per share of preference share: $116 per share ($4,000,000 + $640,000)/40,000 shares = $116 per share 2 420,000 shares of ordinary share outstanding: 450,000 shares issued - 30,000 held in treasury = 420,000 shares 3 Market price per share on stock dividend declaration date: $24.50. $450,000/20,000 shares = $22.50 market value in excess of par $2 par value + $22.50 excess over par (above) = $24.50 per share 4 5,000 shares of treasury share reissued at $20 per share 5,000 shares treasury share reissued (35,000 - 30,000 remaining) $60,000/5,000 shares = $12 per share in excess of cost was received when the shares were reissued. $240,000/30,000 shares left = $8 cost + $12 (above) =$20 reissue price 5 Cash (30,000 shares x $24 per share) ................................................ Treasury Share ............................................................................. Share Premium: Treasury Share Transactions ....................................................................

12-97

720,000 240,000 480,000

Chapter 12 Profit and Changes in Retained Earnings

QUIZ D R. BROOK, INC. Condensed Income Statement For the Year Ended December 31, 2009 Sales ................................................................................................. Cost and expenses (including applicable income taxes) ................................................................................... Profit from continuing operations ..................................................... Discontinued operations: Operating loss (net of income tax benefits) .................................... Gain on disposal (net of income taxes) ........................................... Profit for the year ...............................................................................

$2,732,500 (2,125,000) $ 607,500 $(207,500) 137,500 $

(70,000) 537,500

Earnings per share: Earnings from continuing operations ($607,500  100,000 shares) ................................................................................. Loss from discontinued operations ($70,000  100,000 shares) ...................................................................................

$ 6.07

Net earnings ($537,500  100,000 shares) ...............................................................

$ 5.37

SOLUTIONS TO CHAPTER 12 SELF-TEST QUESTIONS FROM TEXTBOOK 1 b

2 c, d 3 d

4 b 5 a, c

12-98

( .70)

Chapter 13 - Statement of Cash Flows

Chapter 13 Statement of Cash Flows True / False Questions

1. The principal purpose of a statement of cash flows is to measure the profitability of a business that maintains its accounting records on the cash basis. True False

2. All cash receipts and cash payments not classified as investing or financing activities are classified as indirect activities. True False

3. Interest paid is classified as either operating or financing activities. True False

4. Receipts of interest revenue are classified as operating or investing activities. True False

5. Dividends paid belong in the operating section of the statement of cash flows. True False

6. In a statement of cash flows, the term cash includes both cash and cash equivalents. True False

7. Companies that show profit for the year on the income statement will always show positive cash flows from operating activities. True False

13-1

Chapter 13 - Statement of Cash Flows

8. The purchase of equipment for the manufacturing of inventory belongs in the operations section of the statement of cash flows. True False

9. In the long run, it is more important for a business to generate positive cash flows from investing activities than from operating activities. True False

10. Depreciation is a non-cash expense. True False

11. If accounts receivable decrease during the period, Cash receipts from customers probably exceeds net sales. True False

12. Depreciation expense reduces profit for the year but does not reduce the net cash from operating activities. True False

13. If cash increased during the year and there was also a loss for the year, there must be positive cash flows from financing and investing activities. True False

14. Any "non-cash" investing and financing transactions should be disclosed in a supplementary schedule accompanying a statement of cash flows. True False

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Chapter 13 - Statement of Cash Flows

15. The IASB permits a company to use the direct method for the statement of cash flows or the indirect method. True False

16. Net cash from operating activities will have the same total no matter which method is used, direct or indirect. True False

17. Both the direct method and the indirect method of computing net cash from operating activities convert accrual-based income statement amounts into cash flows. True False

18. Under the indirect method, when machinery is sold at a gain, the gain is added in the operating section of the statement of cash flows and the cost is added in the investing section. True False

19. A net decrease in accounts payable to suppliers indicates that cash payments to suppliers were less than purchases made during the period. True False

20. Whether one uses the direct or the indirect method of presentation of the statement of cash flows, the totals from each of the three sections (activities) will be the same regardless of the method used. True False

21. Under the indirect method, depreciation, increase in inventories, and "non-operating" losses are added to profit for the year to arrive at net cash from operating activities. True False

13-3

Chapter 13 - Statement of Cash Flows

22. The "worksheet approach" to preparing a statement of cash flows involves analyzing changes in non-cash statement of financial position accounts. True False

23. The operating activities section of the cash flow statement includes the cash effects of those transactions reported on the income statement. True False

24. The purchase or sale of equity securities is reported in the statement of cash flows as a financing activity. True False

25. For a company to survive in the long-run it must have positive cash flows from investing activities. True False

26. If accounts receivable increased during the year, deducting the increase from net sales determines the amount of cash received. True False

27. If a company's accounts payable has increased over a year, it is an indication that the company is buying more goods. True False

28. To determine cash dividends paid subtract the increase in dividends payable from the amount of dividends declared. True False

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Chapter 13 - Statement of Cash Flows

29. The indirect method of computing cash flows from operations begins with profit for the year. True False

30. Products that tie in with a company's other products are called complementary products. True False

31. Free cash flow refers to the excess of cash inflows over cash outflows. True False

32. When a company uses peak pricing they are charging the highest or "peak" prices the public will be willing to pay during periods of low demand. True False

33. When applying the direct method in a statement of cash flows, the amount of depreciation is added to profit for the year True False

34. The Stock exchange of Hong Kong requires listed companies in Hong Kong to use the indirect method for the statement of cash flows. True False

35. Both FASB and IASB require the cash flow statement to be organized in three categories, operating activities, investing activities and financing activities. True False

13-5

Chapter 13 - Statement of Cash Flows

36. Large cash flows from operations are more important to financial statement analysts over the long term than cash flows from financing or investing. True False

37. When preparing a statement of cash flows, money held in cash equivalents is considered the same as cash. True False

Multiple Choice Questions

38. All of the following are advantages of an increasing cash flow from operations except: A. A company is likely to pay its current bills with cash from operations not earnings. B. A company with cash is in a better position to fund growth. C. Large cash flows eliminate the need for borrowing. D. Earnings are viewed better if cash flows from operations closely match profit for the year.

39. Free cash flow arises out of: A. Operating activities B. Investing activities C. Financing activities D. All of the above

40. Does peak pricing charge: A. A higher price when demand is high and a lower price when demand is low? B. A lower price when demand is high and a higher price when demand is low? C. A low price when demand is high and a lower price when demand is low? D. A high price when demand is high and a higher price when demand is low?

13-6

Chapter 13 - Statement of Cash Flows

41. Cash flows from operating activities include all of the following except: A. Collections from customers for sales of goods B. Interest and dividends received C. Payments of interest D. Payments of dividends

13-7

Chapter 13 - Statement of Cash Flows

42. Cash flows from investing activities include all of the following except: A. Cash proceeds from selling investments B. Cash proceeds from collections on loans C. Cash advanced to borrowers D. Cash proceeds from borrowing

43. All of the following are considered cash equivalents except A. Equity securities B. Money market funds C. Commercial paper D. Treasury bills

44. Profit for the year differs from net cash from operations because of all the following except: A. Non-cash expenses such as depreciation. B. Timing differences between recognizing revenue and expenses and their cash flows. C. Gains and losses included in profit for the year but classified as investing or financings activities. D. All of the above will cause a difference between profit for the year and cash flows.

45. All of the following are financing activities except: A. Borrowing money B. Lending money C. Selling ordinary shares D. Paying dividends

46. A stock dividend is reported on the A. Financing section of the statement of cash flows B. Statement of financial position C. Income statement D. Operating section of the statement of cash flows

13-8

Chapter 13 - Statement of Cash Flows

47. A statement of cash flows is not intended to assist investors in evaluating: A. Reasons for differences between the amount of profit for the year and net cash from operations. B. The company's ability to meet its obligations and to pay dividends. C. Non-cash aspects of investing and financing activities. D. The profitability of business operations.

48. The "bottom line" in a statement of cash flows shows: A. The cash (including cash equivalents) on the statement of financial position at the end of the period. B. Net increase or decrease in cash during the period. C. Profit for the year, computed by the cash basis of accounting. D. Net cash from operating activities.

49. In the statement of cash flows, the purchase of supplies is classified as: A. Operating activities. B. Financing activities. C. Investing activities. D. None of the above.

50. In a statement of cash flows, cash transactions are classified into three major categories. Which of the following is not one of these three categories? A. Managing activities. B. Operating activities. C. Financing activities. D. Investing activities.

51. In a statement of cash flows, collections of accounts receivable are classified as: A. Operating activities. B. Financing activities. C. Investing activities. D. Revenues and Gains.

13-9

Chapter 13 - Statement of Cash Flows

52. In a statement of cash flows, payments of dividends are classified as: A. Operating activities. B. Financing activities. C. Investing activities. D. Costs and Expenses

53. Which of the following would indicate a cash disbursement? A. Selling equipment at a loss. B. A decrease in accounts receivable. C. An increase in prepaid expenses. D. A decrease in inventory.

54. Which of the following does not decrease the cash flow from operating activities? A. The prepayment of an expense. B. The purchase of operating equipment. C. The payment of interest. D. All three decrease cash from operating activities.

55. Which of the following is not classified among the operating activities in a statement of cash flows? A. Payment of interest on a bank loan. B. Payment of the principal amount owed on a bank loan. C. Payment of an account payable to a supplier. D. Payment of income taxes.

56. Which of the following is not classified among the investing activities in a statement of cash flows? A. Purchase of equity securities for cash. B. Collection of the principal amount of cash loans made to others. C. Investment of cash made in the business by the owners. D. Purchase of property, plant, and equipment for cash.

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Chapter 13 - Statement of Cash Flows

57. Which of the following is not classified among the financing activities in a statement of cash flows? A. Long-term borrowing. B. Payment of dividends to shareholders. C. Payment of interest to creditors. D. Short-term borrowing.

58. Which of the following is an investing activity? A. Purchase of equipment. B. Payment of interest. C. Issuing ordinary shares. D. Issuing long-term debt.

59. In a statement of cash flows, the term cash includes: A. Only money on deposit in bank accounts. B. Only bank accounts and cash on hand. C. Bank accounts, cash on hand, and cash equivalents. D. Bank accounts, cash on hand, cash equivalents, and equity securities classified as current assets.

60. Which of the following is a financing activity? A. Receipts of interest. B. Payment of dividends. C. Making sales on account. D. Paying off accounts payable.

61. Which of the following indicates cash receipts? A. Debit entries in the Notes Receivable account. B. Credit entries in the Equity Securities account. C. Debit entries in the Notes Payable account. D. Credit entries in the Accumulated Depreciation account.

13-11

Chapter 13 - Statement of Cash Flows

62. Which of the following indicates a cash receipt? A. A decrease in accrued expenses, such as wages payable. B. A decrease in accounts receivable. C. An increase in inventory. D. A decrease in accounts payable.

63. Which method will yield higher cash flows from operating activities? A. The indirect method. B. The direct method. C. Both direct and indirect methods will yield the same amount. D. Depends upon the situation.

64. Which of the following would not be presented in the cash from operating activities section of the statement of cash flows when the indirect method is used? A. Gain on the sale of investments. B. Depreciation expense. C. Neither a nor b would be shown. D. Both a and b would be shown.

65. Which of the following sets of data is sufficient to compute the amount of cash paid for goods? A. Cost of goods sold, increase or decrease in inventory, increase or decrease in accounts payable. B. Increase or decrease in cash, increase or decrease in inventory, increase or decrease in accounts payable. C. Cost of goods sold, increase or decrease in accounts payable. D. Cost of goods sold.

66. Which of the following does not create a difference between profit for the year and the net cash from operations? A. Non-operating gains and losses. B. Depreciation expense. C. Timing differences between credit sales and collections from customers. D. Payment of a cash dividend.

13-12

Chapter 13 - Statement of Cash Flows

67. Which method will yield the higher cash flows from financing activities? A. The indirect method. B. The direct method. C. Both direct and indirect methods will yield the same amount. D. Depends upon the situation.

68. Cigna Corporation's 2014 profit for the year is smaller than net cash from operating activities. Which of the following would not be an explanation of why profit for the year is smaller than net cash from operating activities? A. Cigna paid dividends to shareholders during 2014. B. Cigna's accounts payable increased during 2014. C. Cigna recognized depreciation expense in 2014. D. Cigna sold equipment at a loss in 2014.

69. When using the indirect method, depreciation expense: A. Increases net cash from operations. B. Decreases net cash from operations. C. Does not affect profit for the year. D. Does not affect net cash from operations.

70. Which of the following is impossible? A. Profit for the year is less than cash from operating activities. B. Profit for the year is greater than cash from operating activities. C. Profit for the year is equal to cash from operating activities. D. None of the three above is impossible.

13-13

Chapter 13 - Statement of Cash Flows

71. Which of the following statements regarding the direct and indirect methods of reporting cash flow from operating activities is false? A. Although both methods result in the same net increase or decrease in cash for the year, net cash from operating activities will be different under the two methods. B. The direct method shows the specific cash inflows and outflows constituting the operating activities of the business. C. Under the indirect method, the computation of net cash from operating activities begins with profit for the year as shown in the income statement. D. The IASB permits both the direct and the indirect methods, but has expressed a preference for the direct method.

72. Which of the following would not be presented in the cash flows from operating activities section of the statement of cash flows when the direct method is used? A. Dividends paid. B. Dividends received. C. Neither A nor B would be shown. D. Both A and B would be shown.

73. An example of a non-cash investing or financing activity that is disclosed in a supplementary schedule accompanying the statement of cash flows is: A. Recording depreciation expense for the current year. B. Declaring, but not paying, dividends on ordinary shares. C. Selling land in exchange for a note receivable. D. Transferring cash from a checking account into a money market fund.

74. When equipment is sold at a loss: A. The net proceeds are shown in the investing section. B. The book value of the asset is shown in the investing section. C. The book value of the asset is shown in the investing section, and the loss is shown in the operating section. D. The net proceeds are shown in the financing section.

13-14

Chapter 13 - Statement of Cash Flows

75. When net cash from operating activities is presented by the direct method, the statement of cash flows is accompanied by a supplementary schedule reconciling: A. Net cash from operating activities with net sales. B. Profit for the year with the net increase or decrease in cash and cash equivalents. C. Profit for the year with net cash from operating activities. D. Net cash from operating activities shown in the statement with that which would result from use of the indirect method.

76. Which of the following is not true regarding the direct and indirect methods of computing net cash from operating activities? A. Both methods result in the same dollar amount of cash flow from operating activities. B. Both methods involve adjusting entries to the company's books so that the accounting records reflect the figures shown in the statement of cash flows. C. Both methods are acceptable to the IASB for reporting purposes. D. Both methods convert accrual-based income statement amounts to cash flow results.

77. When equipment is purchased entirely through a loan: A. The equipment is shown as an increase in the investing activities section. B. The equipment is shown as a decrease in the investing activities section. C. The loan is shown as an increase in the financing section. D. Neither the loan nor the purchase of equipment is shown in the investing or the financing sections.

78. From the viewpoint of shareholders or potential investors, which of the following cash flow measurements would be of least importance? A. The dollar amount of net cash from operating activities for the current year. B. The trend in net cash from operating activities from year to year. C. The corporation's free cash flow for the current year. D. The dollar amount of overall increase or decrease in cash for the current year.

13-15

Chapter 13 - Statement of Cash Flows

79. Craig Corporation's reported profit for 2013 is less than its net cash from operating activities. One reason for this could be: A. The sale of machinery at a loss in 2013 B. An increase in inventory levels during 2013 C. The sale of investments at a gain in 2013 D. An error in the preparation of the statement of cash flows; profit for the year should be greater than or equal to net cash from operating activities.

80. The Nelson Corporation reported profit for the year in excess of its net cash from operating activities for the current year. An explanation for this may be: A. A loss on the sale of equipment in the current year. B. An increase in accounts payable during the year. C. Depreciation expense recognized for the year. D. A gain on the sale of investments during the year.

81. Gannon Corporation uses the indirect method to prepare its statement of cash flows. Following this approach, a gain on sale of equipment was deducted from profit for the year in computing net cash from operating activities. The most likely reason for this adjustment is that: A. The sale of equipment did not result in the receipt of any cash by Gannon Corporation. B. The sale resulted in a cash receipt in an accounting period different from the period in which the gain was recognized. C. The amount of the gain recognized was not equal to the cash received. D. This type of transaction is not classified as an operating activity.

82. Which statement is true as to the IASB's position on the presentation of the statement of cash flows? A. The IASB recommends the use of the indirect method, but most companies use the direct method. B. The IASB recommends the use of the direct method, but most companies use the indirect method. C. The IASB recommends the use of the direct method, and most companies use the direct method. D. The IASB recommends the use of the indirect method, and most companies use the indirect method.

13-16

Chapter 13 - Statement of Cash Flows

83. The statement of cash flows of Bosley Corporation shows the amount of Cash receipts from customers as $720,000. If net sales in Bosley Corporation's income statement are reported at $670,000 then: A. Bosleys accounts receivable increased $50,000. B. Bosley's Cash account decreased $50,000. C. Bosleys accounts receivable decreased $50,000. D. Bosley's accounts receivable are $50,000 at the end of the year.

84. The IASB classifies interest received on investments and interest paid on debt financing as part of operating cash flows while the IASB: A. allows interest received to be classified as either operating or investing and interest paid as either operating or financing. B. Allows interest received to be classified as either operating or financing and interest paid as either operating or investing. C. Allows interest received to be classified only as investing and interest paid only as financing D. Allows interest received to be classified only as financing and interest paid only as investing.

85. Hamilton Company reported an increase of $370,000 in its accounts receivable during the year 2014. The company's statement of cash flows for 2014 reported $1 million of Cash receipts from customers. What amount of net sales must Hamilton have recorded in 2014? A. $630,000. B. $1,370,000. C. $1,000,000. D. $370,000

86. Rent expense in Marrin Company's 2014 income statement is $420,000. If Prepaid Rent was $70,000 at 31 December 2013, and is $95,000 at 31 December 2014, the cash paid for rent during 2014 is: A. $420,000. B. $445,000. C. $395,000. D. $480,000.

13-17

Chapter 13 - Statement of Cash Flows

87. Bert's Bungy Jumping Company paid $650,000 cash for casualty insurance during the year 2014. If the income statement for the year, reports insurance expense of $620,000: A. Bert's prepaid insurance decreased $30,000. B. Bert's cash account balance decreased $30,000. C. Bert's prepaid insurance increased $30,000. D. Bert's prepaid insurance was $30,000 at year-end.

The financial statements of New World Company provide the following information for the current year:

88. Compute the amount of Cash receipts from customers during the current year. A. $3,097,500. B. $3,129,000. C. $3,066,000. D. $3,612,000.

89. Compute the amount of New World's cash payments for purchases of goods during the current year. A. $1,627,500. B. $1,622,250. C. $1,638,000. D. $2,157,750.

13-18

Chapter 13 - Statement of Cash Flows

90. Compute the amount of New World's cash payments for operating expenses. A. $277,200. B. $283,500. C. $378,000. D. $349,650.

91. New World's net cash from operating activities for the current year is: A. $1,191,750 B. $1,192,800. C. $1,113,000. D. $1,160,250.

The financial statements of Oriental Company provide the following information for the current year:

92. Compute the amount of Cash receipts from customers during the current year. A. $265,000. B. $255,000. C. $260,000. D. $40,000.

13-19

Chapter 13 - Statement of Cash Flows

93. Compute the amount of Oriental Company's cash payments for purchases of merchandise during the current year. A. $130,000. B. $125,000. C. $133,000. D. $127,000.

94. Compute the amount of Oriental Company's cash payments for operating expenses. A. $73,000. B. $59,000. C. $81,000. D. $65,000.

95. Oriental Company's net cash from operating activities for the current year is: A. $57,000. B. $59,000. C. $61,000. D. $67,000.

96. Early in 2014, Larsen Corporation purchased equity securities at a cost of $90,000. In September, dividends of $6,600 were received; Larsen sold the securities in December at a gain of $5,600. How would these transactions be reported on Larsen's statement of cash flows for 2014? A. $5,600 net cash from investing activities; $6,600 included in cash from operating activities. B. $12,200 net cash from investing activities. C. $95,600 cash from investing activities; $90,000 cash used in financing activities. D. $84,400 net cash used in investing activities; $95,600 cash from investing activities.

13-20

Chapter 13 - Statement of Cash Flows

97. In 2013, Anderson Company purchased equipment for $363,000 and also sold some special purpose machinery with a book value of $155,000 for $182,000. In its statement of cash flows for 2013, Anderson should report the following with respect to the above transactions: A. $363,000 net cash used in investing activities. B. $181,000 net cash used in investing activities; $27,000 net cash from operating activities. C. $181,000 net cash used in investing activities. D. $363,000 cash used in investing activities; $182,000 cash from financing activities.

An analysis of Korman Corporation's Investment in Equity Securities account during 2014 disclosed the following:

Korman 's 2014 income statement included a $40,000 gain on sale of equity securities and $30,000 dividend income from equity securities. All payments and proceeds relating to equity securities transactions were in cash.

98. The amount of cash paid by Korman Corporation in 2014 for the purchase of equity securities was: A. $240,000. B. $160,000. C. $200,000. D. $190,000.

99. The cash proceeds received by Korman Corporation in 2014 for the sale of equity securities was: A. $160,000. B. $230,000. C. $240,000. D. $280,000.

13-21

Chapter 13 - Statement of Cash Flows

100. How should the transactions involving equity securities be classified in Korman's statement of cash flows for 2014? A. The purchase of equity securities, sales of equity securities, and receipt of dividends are all classified as investing activities. B. The purchase and the sale of equity securities are classified as investing activities; the receipt of dividends is classified as an operating or investing activity. C. The purchase of equity securities is classified as an investing activity; the sale of equity securities is classified as a financing activity; the receipt of dividends is classified as an operating or investing activity. D. The purchase and the sale of equity securities are classified as investing activities; the receipt of dividends is classified as a financing activity.

101. Based solely on the above information and the receipt of dividends is classified as an operating activity, Korman's net cash from investing activities for 2014 is: A. $80,000 net cash used in investing activities. B. $80,000 net cash from investing activities. C. $120,000 net cash from investing activities. D. $240,000 net cash from investing activities.

An analysis of Kenny Corporation's Investment in Equity securities account during 2014 disclosed the following:

Kenny s 2014 income statement included a $90,000 loss on sale of equity securities and $65,000 dividend income from equity securities. All payments and proceeds relating to equity securities transactions were in cash.

102. The amount of cash paid by Kenny Corporation in 2014 for the purchase of equity securities was: A. $445,000. B. $535,000. C. $355,000. D. $420,000.

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Chapter 13 - Statement of Cash Flows

103. The cash proceeds received by Kenny Corporation in 2014 for the sale of equity securities was: A. $230,000. B. $280,000. C. $195,000. D. $180,000.

104. How should the transactions involving equity securities be classified in Kenny's statement of cash flows for 2014? A. The purchase of equity securities, sales of equity securities, and receipt of dividends are all classified as investing activities. B. The purchase and the sale of equity securities are classified as investing activities; the receipt of dividends is classified as an operating or investing activity. C. The purchase of equity securities is classified as an investing activity; the sale of equity securities is classified as a financing activity; the receipt of dividends is classified as an operating or investing activity. D. The purchase and the sale of equity securities are classified as investing activities; the receipt of dividends is classified as a financing activity.

105. Based solely on the above information and the receipt of dividends is classified as an operating activity, Kenny's net cash from investing activities for 2014 is: A. $215,000 net cash used in investing activities. B. $165,000 net cash from investing activities. C. $265,000 net cash used in investing activities. D. $290,000 net cash from investing activities.

13-23

Chapter 13 - Statement of Cash Flows

An analysis of changes in selected statement of financial position accounts of Johnson Corporation shows the following for the current year: Property, Plant, and Equipment accounts: Debit entries to asset accounts Credit entries to asset accounts Debit entries to accumulated depreciation accounts (resulting from sale of PPE assets) Credit entries to accumulated depreciation accounts (representing depreciation for the current year)

$160,000 $118,000 $91,000 $107,000

106. The amount of cash paid by Johnson to acquire property, plant, and equipment during the current year was: A. $53,000. B. $267,000. C. $42,000. D. $160,000.

107. Total cash proceeds received by Johnson from sales of property, plant, and equipment during the current year amounted to: A. $13,000. B. $104,000. C. $195,000. D. $41,000.

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Chapter 13 - Statement of Cash Flows

108. How should purchases, sales, and depreciation of property, plant, and equipment be classified in Johnson's statement of cash flows for the current year? (Assume the direct method is used in Johnson.) A. Purchases of property, plant, and equipment are classified as investing activities; sales of property, plant, and equipment are classified as financing activities; depreciation is classified as an operating activity. B. Purchases of property, plant, and equipment and depreciation are classified as investing activities; sales of property, plant, and equipment are classified as financing activities. C. Purchases and sales of property, plant, and equipment are classified as investing activities; depreciation does not appear as an operating, financing, or investing activity. D. Since property, plant, and equipment are used to generate income from operations, purchases, sales, and depreciation of property, plant, and equipment are all classified as operating activities.

109. Based solely on the data provided above, Johnson's net cash from investing activities for the current year is: A. $160,000 net cash used in investing activities. B. $147,000 net cash used in investing activities. C. $13,000 net cash from investing activities. D. $91,000 net cash used in investing activities.

An analysis of changes in selected statement of financial position accounts of Hierarchy Corporation shows the following for the current year:

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Chapter 13 - Statement of Cash Flows

110. The amount of cash paid by Hierarchy to acquire property, plant, and equipment during the current year was: A. $252,000. B. $504,000. C. $724,000. D. $768,000.

111. Total cash proceeds received by Hierarchy from sales of property, plant, and equipment during the current year amounted to: A. $696,000. B. $705,600. C. $633,600. D. $768,000.

112. How should purchases, sales, and depreciation of property, plant, and equipment be classified in Hierarchy's statement of cash flows for the current year? (Assume the direct method is used in Hierarchy.) A. Purchases of property, plant, and equipment are classified as operating activities; sales of property, plant, and equipment are classified as financing activities; depreciation is classified as an operating activity. B. Purchases of property, plant, and equipment and depreciation are classified as investing activities; sales of property, plant, and equipment are classified as operating activities. C. Purchases and sales of property, plant, and equipment are classified as investing activities; depreciation does not appear as an operating, financing, or investing activity. D. Since property, plant, and equipment are used to generate income from operations, purchases, sales, and depreciation of property, plant, and equipment are all classified as operating activities.

113. Based solely on the data provided above, Hierarchy's net cash from investing activities for the current year is: A. $264,000 net cash from investing activities. B. $264,000 net cash used in investing activities. C. $201,600 net cash from investing activities. D. $1,200,000 net cash from investing activities.

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Chapter 13 - Statement of Cash Flows

114. Haven Corporation issued $700,000 of 10-year bonds payable at par in 2010 During 2014 Haven paid $50,000 interest and an additional $233,333 to retire one-third of the bonds at par. These activities would be reported in Haven's statement of cash flows for 2014 as: A. $283,333 net cash from financing activities. B. $466,667 net cash used in financing activities. C. $233,333 net cash used in financing activities, and $50,000 cash disbursed for operating activities. D. $466,667 net cash from financing activities, and $50,000 cash disbursed for operating activities.

115. Hines Cannery issued ordinary shares in 2014 for $700,000. During 2014 the company paid dividends of $250,000. What is the effect of these events in Hines ' statement of cash flows for 2014? A. $700,000 cash from investing activities, and $250,000 cash disbursed for financing activities. B. $700,000 cash from financing activities, and $250,000 cash disbursed for investing activities. C. $700,000 cash from financing activities, and $250,000 cash disbursed for operating activities. D. $450,000 net cash from financing activities.

116. The accountant for Foster Institute, Inc., determined the cash flow for several transactions to be as follows:

On the basis of the above transactions alone, determine the net cash from financing activities. A. $275,000 net cash used in financing activities. B. $440,000 net cash from financing activities. C. Zero: cash inflows equal cash outflows from financing activities. D. $285,000 net cash from financing activities.

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Chapter 13 - Statement of Cash Flows

117. The 2014 statement of cash flows of Dickens Corporation shows $500,000 cash paid for dividends. If dividends in Hemingway's statement of retained earnings are reported at $550,000 then: A. Dickens' dividends payable must amount to $50,000 at the end of 2014 B. Dickens' Cash account must have increased by $50,000 in 2014 C. Dickens' dividends payable must have increased by $50,000 in 2014. D. Dickens' dividends payable must have decreased by $50,000 in 2014

During 2014, the cash flows related to Global Data, Inc.'s lending and borrowing activities are summarized as follows:

118. On the basis of the above information alone and interest payment is classified as an operating activity, what is Global Data's net cash from financing activities? A. $147,000 net cash used in financing activities. B. $145,500 net cash used in financing activities. C. $206,100 net cash used in financing activities. D. $500,100 net cash used in financing activities.

119. If Global Data's income statement for 2014 reports interest expense of $25,200, then: A. Interest payable decreased by $16,800 in 2014. B. Interest payable increased by $16,800 in 2014. C. Interest payable at the end of 2014 amounts to $16,800. D. Either the amount reported in the income statement or the interest payment shown above must be incorrect.

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Chapter 13 - Statement of Cash Flows

120. If interest receivable was $6,300 at 31 December 2013, and is $10,500 at the end of 2014, interest revenue reported in Global Data's income statement for 2014 must have been: A. $16,800 B. $21,000. C. $35,700. D. Some other amount.

121. During 2014, Gillespie Corporation made a loan of $155,000 to a major customer. By the end of 2014 the customer had paid back $60,000 of the loan plus interest of $12,000. In the statement of cash flows for 2014, Gillespie Corporation would report: A. A net decrease in cash and cash equivalents of $72,000 for 2014. B. $72,000 net cash used in investing activities. C. $95,000 net cash used in investing activities, and $12,000 cash from operating activities. D. $155,000 net cash used in investing activities, and $72,000 net cash from financing activities.

122. The comparative statements of financial position of Friends, Inc. show a net increase in accounts receivable of $650 and a net decrease in inventory of $500. To determine net cash from operating activities under the indirect method, profit for the year should be: A. Reduced by $650. B. Increased by $650. C. Reduced by $150. D. Increased by $150.

123. The comparative statements of financial position of Greenvale Games, Inc. show a net decrease in unexpired insurance of $400 and a net decrease in interest payable of $250. In order to reconcile profit for the year with net cash from operating activities, profit for the year should be: A. Increased by $650. B. Reduced by $650. C. Increased by $150. D. Reduced by $150.

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Chapter 13 - Statement of Cash Flows

124. The comparative statements of financial position of Apollo Rocket, Inc. show a net increase in inventory of $79,000 and a net decrease in accounts payable of $42,000 during 2014. In computing net cash from operating activities under the indirect method, profit for 2014 should be: A. Increased by $37,000. B. Reduced by $37,000. C. Increased by $121,000. D. Reduced by $121,000.

125. During the current year, Atkins Company sold a parcel of land for $84,000,000 cash. The land had been purchased by Atkins several years ago for $41,000,000. Atkins Company uses the indirect method to prepare its statement of cash flows. In order to reconcile profit for the year to net cash from operating activities, profit for the year must be: A. Decreased by $41,000,000. B. Decreased by $43,000,000 C. Increased by $43,000,000. D. None of the above. The sale of land is classified as an investing activity.

126. At the end of the first year of operations, the statement of financial position of Midwood Medical Supply showed the following: Accounts Receivable, $5,000; Accounts Payable, $6,000; Inventory, $3,000; and Unexpired Insurance, $2,000. The corporation reported profit of $79,000 for the year, including depreciation expense of $5,000, and uses the indirect method of computing net cash from operating activities. Solely on the basis of this information, net cash from operating activities is: A. $78,000. B. $82,000. C. $77,000. D. $80,000.

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Chapter 13 - Statement of Cash Flows

127. At the end of the first year of operations, Meacham's statement of financial position showed the following: Accounts Receivable, $13,400; Inventory, $9,400; and Accounts Payable, $14,650. The company's income statement reports profit for the year of $37,400, including depreciation expense of $10,400. Using only the given information, compute Meacham's net cash from operating activities using the indirect method. A. $65,250. B. $39,650. C. $24,350. D. $26,650. 128. Chapin Company reported profit of $410,000 for 2014. Balances of selected current asset and current liability accounts are as shown on the indicated dates:

Accounts receivable Inventory Accounts payable

1 Jan 2014 $60,000 $130,000 $54,000

31 Dec. 2014 $ 69,400 $141,000 $48,000

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Chapter 13 - Statement of Cash Flows

129. Beijing Company uses the indirect method to prepare its statement of cash flows. The following information has been gathered for the current period: Gain on sale of land Profit for the year Depreciation expense Cash received from sale of land Decrease in inventory Increase in accounts receivable Increase in accounts payable

$54,000 $171,000 $83,000 $169,000 $19,000 $14,000 $20,000

On the basis of the above information only, Beijing Company's statement of cash flows shows net cash from operating activities to be: A. $187,000. B. $333,000. C. $225,000. D. $361,000.

130. Empire Company uses the indirect method to prepare its statement of cash flows. The following information has been gathered for the current period: Gain on sale of land Profit for the year Depreciation expense Cash received from sale of land Decrease in accounts receivable Increase in inventory Decrease in accounts payable Dividend paid

$1,500,000 $30,900,000 $6,800,000 $7,000,000 $1,700,000 $2,200,000 $2,900,000 $8,800,000

Solely on the basis of the above information, Empire's net cash from operating activities is: A. $33,800,000. B. $42,800,000. C. $35,500,000. D. $343,000.

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Chapter 13 - Statement of Cash Flows

131. Royal Corporation uses the indirect method of computing net cash from operating activities and reported the following for 2014: accounts receivable decreased by $10,300, inventory increased by $15,300, accounts payable decreased by $4,000, and income taxes payable increased by $18,800. If Royal Corporation reported profit for 2014 of $157,800 (including $34,800 of depreciation expense), net cash from operating activities for 2014 is: A. $202,400. B. $132,800. C. $164,800. D. $221,700.

132. At the end of 2014, Schenck Corporation sold its only piece of equipment for $9,000 cash, a price which resulted in a loss of $3,000. During 2014, depreciation expense recognized by Schenck was $1,000. Schenck uses the indirect method to compute net cash from operating activities. In reconciling profit for the year to net cash from operating activities under the indirect method, the required adjustments based upon the given data: A. Increase profit for the year by $4,000. B. Increase profit for the year by $1,000. C. Decrease profit for the year by $4,000. D. Increase profit for the year by $3,000.

133. Alexander Company reported an increase of $185,000 in its accounts receivable during the year. The company's statement of cash flows reported $500,000 of cash receipts from customers. What amount of net sales must Alexander have recorded? A. $315,000. B. $685,000. C. $500,000. D. $185,000

134. Rent expense in Burr Company's income statement is $480,000. If Prepaid Rent was $120,000 on 1 January and is $95,000 on 31 December, the cash paid for rent during the year is: A. $480,000. B. $455,000. C. $360,000. D. $575,000.

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Chapter 13 - Statement of Cash Flows

The financial statements of York, Inc., provide the following information for the current year:

135. Compute the amount of cash receipts from customers during the current year. A. $1,548,750. B. $1,564,500. C. $1,533,000. D. $1,806,000.

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Chapter 13 - Statement of Cash Flows

136. Compute the amount of cash payments for purchases of goods during the current year. A. $813,750. B. $811,125. C. $819,000. D. $1,078,875.

137. Compute the amount of cash payments for operating expenses. A. $138,600. B. $141,750. C. $189,000. D. $174,825.

138. Net cash from operating activities for the current year is: A. $595,875. B. $596,400. C. $556,500. D. $580,125.

The financial statements of Garver, Inc., provide the following information for the current year:

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Chapter 13 - Statement of Cash Flows

139. Compute the cash receipts from customers during the current year. A. $530,000. B. $510,000. C. $520,000. D. $80,000.

140. Compute the cash payments for purchases of goods during the current year. A. $260,000. B. $250,000. C. $266,000. D. $254,000.

141. Compute the cash payments for operating expenses. A. $146,000. B. $118,000. C. $162,000. D. $130,000.

142. Net cash from operating activities for the current year is: A. $114,000. B. $118,000. C. $122,000. D. $134,000.

Essay Questions

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Chapter 13 - Statement of Cash Flows

143. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. ____ (a) Cash sales and collections of accounts receivable. ____ (b) The classification of cash flows which includes issuing ordinary shares and paying dividends. ____ (c) The financial statement which best describes the profitability of a business. ____ (d) The section of a statement of cash flows summarizing the cash effects of most transactions entering into the determination of profit for the year. ____ (e) An expense that reduces net cash flow but does not reduce profit for the year. ____ (f) The classification of cash flows that includes purchases and sales of property, plant, and equipment. ____ (g) Transactions shown in a supplementary schedule accompanying a statement of cash flows.

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

146. Computation of cash flows An analysis of changes in selected statement of financial position accounts of Tam Corporation shows the following for the current year: Equity Securities account Debit entries Credit entries Property, Plant, and Equipment accounts: Debit entries to asset accounts Credit entries to asset accounts Debit entries to accumulated depreciation accounts (resulting from sale of PPE assets) Credit entries to accumulated depreciation accounts (representing depreciation for the current year)

$1,600,000 $1,000,000 $3,600,000 $2,800,000 $1,300,000 $500,000

The income statement for the current year included the following items relating to the transactions summarized above: Loss on sale of equity securities Gain on sale of property, plant, and equipment

$350,000 $650,000

All payments and proceeds relating to these transactions were in cash. Using this information, compute the following cash flows for the current year: (a) Purchases of equity securities (b) Proceeds from sale of equity securities (c) Purchases of property, plant, and equipment (d) Proceeds from sale of property, plant, and equipment Computations

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$____________ $____________ $____________ $____________

Chapter 13 - Statement of Cash Flows

147. Computation of cash flows An analysis of changes in selected statement of financial position accounts of Gable Corporation shows the following for the current year: Equity Securities account Debit entries Credit entries Property, Plant, and Equipment accounts: Debit entries to asset accounts Credit entries to asset accounts Debit entries to accumulated depreciation accounts (resulting from sale of PPE assets) Credit entries to accumulated depreciation accounts (representing depreciation for the current year)

$250,000 $400,000 $700,000 $900,000 $300,000 $125,000

The income statement for the current year included the following items relating to the transactions summarized above: Loss on sale of equity securities Gain on sale of property, plant, and equipment

$85,000 $150,000

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$____________ $____________ $____________ $____________

Chapter 13 - Statement of Cash Flows

148. Computation of operating cash flows The financial statements of Park Company provide the following information for the current year:

Accounts receivable Inventory Prepaid expenses Accounts payable (for inventory) Accrued liabilities Net sales Cost of goods sold Expenses (including depreciation of $43,000)

End of Year $106,000 $105,000 $31,000 $74,000 $30,000 $848,000 $318,000 $258,000

Beginning of Year $ 98,000 $120,000 $29,000 $70,000 $28,000

Using this information, compute for the current year: (a) Cash receipts from customers (b)Cash payments for purchases of inventory (c) Cash payments for operating expenses (d) Net cash from operating activities

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$____________ $____________ $____________ $____________

Chapter 13 - Statement of Cash Flows

149. Computation of operating cash flows The financial statements of Custom Corporation provide the following information for the current year:

Accounts receivable Inventory Short-term prepayments Accounts payable (for inventory) Accrued operating expenses payable Accrued income taxes payable Net sales Cost of goods sold Operating expenses (including depreciation of $40,000) Income taxes expense

End of Year $201,000 $249,000 $12,000 $177,000 $25,500 $12,600 $801,000 $465,000 $300,000 $39,000

Beginning of Year $ 221,000 $233,000 $9,500 $170,000 $33,200 $15,500

Using this information, compute for the current year: (a) Cash receipts from customers (b) Cash payments for purchases of inventory (c) Cash payments for operating expenses (d) Income taxes paid

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$____________ $____________ $____________ $____________

Chapter 13 - Statement of Cash Flows

150. Format of a cash flow statement-direct method Arrange the following information to complete the statement of cash flows for Olympia Company. Place parentheses around those dollar amounts representing cash outlays. Purchase of equity securities Proceeds from sales of equity securities Interest and dividends received Interest paid Tax paid Dividends paid Proceeds from short-term borrowing Payments to settle short-term debt (principal repaid) Cash receipts from customers Cash paid to suppliers and employees Proceeds from issuing ordinary shares Purchases of property, plant and equipment Proceeds from sales of property, plant and equipment Cash and cash equivalents, beginning of year

13-44

$48,000 $75,000 $19,500 $18,000 $43,500 $27,000 $31,500 $36,000 $681,000 $531,000 $118,500 $201,000 $58,500 $73,500

Chapter 13 - Statement of Cash Flows

Olympia Company Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (direct method):

$_________ $

Cash from operating activities

$ ___________ Cash disbursed for operating activities

_________

Net cash from operating activities

Cash flows from investing activities:

________ Net cash used in investing activities: Cash flows from financing activities:

___________ ___________

Net cash used in financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year

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$ ___________ $ __________

Chapter 13 - Statement of Cash Flows

151. Format of a cash flows statement-direct method Arrange the following information to complete the statement of cash flows for Jericho Corporation assuming interest and dividends received and paid are classified as operating activities. Place parentheses around those dollar amounts representing cash outlays.

Collection on loans made to borrowers Loans made to borrowers Interest and dividends received Interest paid Income taxes paid Dividends paid Payments to retire bonds payable Payments to settle short-term debts Cash receipts from customers Cash paid to suppliers and employees Proceeds from issuing ordinary shares Purchases of property, plant and equipment Proceeds from sales of property, plant and equipment Cash and cash equivalents, beginning of year

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$104,000 $229,000 $24,000 $21,500 $91,500 $44,000 $179,000 $474,000 $1,709,000 $1,054,000 $254,000 $684,000 $329,000 $481,500

Chapter 13 - Statement of Cash Flows

Jericho Corporation Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (direct method):

$_________ $

Cash from operating activities

$ ___________ Cash disbursed for operating activities

_________

Net cash from operating activities

Cash flows from investing activities:

________ Net cash used in investing activities: Cash flows from financing activities:

___________ ___________

Net cash used in financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year

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$ ___________ $ __________

Chapter 13 - Statement of Cash Flows

152. Comparison of cash flows and accrual basis Underhill Corporation's statement of cash flows for 2014 shows the following information regarding investing activities: Purchases of equity securities Proceeds from sale of equity securities Proceeds from sale of land Net cash used in investing activities

$(1,518,000) 811,000 425,000 $ (282,000)

Underhill Corporation's income statement for 2014 includes the following items: Loss on sale of equity securities Gain on sale of land

$157,000 $179,000

(a) All payments and proceeds relating to these transactions were in cash. Using this information, compute the following: (1) Cost of the land sold during 2014 $_____________ (2) Cost (book value) of equity securities sold during 2014 $_____________ (b) Underhill Corporation’s statement of financial position at the end of 2013 showed Land of $3,057,000 and Investment in Equity Securities of $2,218,000. On the basis of the data presented above, compute the amount to be reported for Land and for Investment in Equity Securities on Underhill Corporation’s statement of financial position at the 31 December 2014.

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Chapter 13 - Statement of Cash Flows

153. Relationship of cash flows to accrual accounting (a) The 2014 statement of cash flows of Citation Corporation shows the amount of Cash receipts from customers as $800,000. Statements of financial position report accounts receivable to be $70,000 at 1 January and $100,000 at 31 December 2014. Compute the amount of net sales reported in Citation Corporation's income statement for 2014$_______________ (b) The supplementary schedule for noncash investing and financing activities accompanying Citation Corporation's 2014 statement of cash flows disclosed the following:

Citation Corporation's 2014 income statement reports a $61,000 loss on the disposal of land. Give the journal entry made by Citation in 2014 to record this sale of land.

154. Cash flows from operating activities-indirect method In the computation of net cash from operating activities for 2013 by the indirect method, determine whether each of the following items would be added to profit for the year, deducted from profit for the year, or omitted from the computation. Indicate your answer by using the following symbols: + (added to profit for the year), - (deducted from profit for the year), or 0 (omitted from computation). ____ (a) A decrease in accounts payable to suppliers of merchandise during 2013. ____ (b) A loss recognized on the sale of office equipment during 2013. ____ (c) Depreciation expense for 2013. ____ (d) Dividends, declared at the end of last year, paid to shareholders during the current year. ____ (e) An increase in inventory levels during 2013. ____ (f) A decrease in accounts receivable from customers during 2013.

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Chapter 13 - Statement of Cash Flows

155. Cash flow from operations activities-indirect method An analysis of the 2014 financial statements of Portside Provisions reveals the following: (a) Accounts payable to suppliers of inventory decreased by $65,000 during 2014. (b) Dividends of $135,000 were declared in November 2014, to be paid in January 2011. (c) Dividends of $120,000, declared in November 2013, were paid in January 2014. (d) Inventory levels increased by $91,000 during 2014. (e) Depreciation expense for 2014 amounted to $53,000. (f) Land, which had a cost of $350,000, was sold in 2014 for $400,000 cash, resulting in a gain of $50,000. (g) Profit for 2014 was $745,000. Using only the above information, follow the indirect method to compute Portside Provisions' net cash from operating activities for 2014.

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Chapter 13 - Statement of Cash Flows

156. Cash flows from operating activities-indirect method The data below are taken from the financial statements of the Rutherford Corporation: Income Statement:

2014

Profit for the year Depreciation expense Amortization of patent Gain on sale of equipment

$840,000 170,000, 30,000 110,000

Statement of financial position:

31 Dec 2014

31 Dec 2013

$710,000 840,000 30,000 660,000 430,000

$680,000 800,000 35,000 630,000 440,000

Accounts receivable Inventory Prepaid expenses Accounts payable Accrued expense payable

Complete the partial statement of cash flows for the year ended 31 December 2014, showing the computation of net cash from operating activities by the indirect method: Rutherford Corporation. Partial Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (indirect method): Profit for the year Add:

$ $

________ $

Subtotal

Less:

__________ $_________

Net cash from operating activities

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Chapter 13 - Statement of Cash Flows

157. Cash flows from operating activities-indirect method The data below are taken from the financial statements of the Garland Corporation: Income Statement:

2014

Profit for the year Depreciation expense Amortization of trademark Gain on sale of machinery

$299,000 101,000, 20,000 38,000

Statement of financial position:

31 Dec 2014

31 Dec 2013

$195,000 353,000 50,000 314,000 158,000

$204,000 321,000 38,000 290,000 159,000

Accounts receivable Inventory Prepaid expenses Accounts payable Accrued expense payable

Complete the partial statement of cash flows for the year ended 31 December 2014, showing the computation of net cash from operating activities by the indirect method: Garland Corporation. Partial Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (indirect method): Profit for the year Add:

$ $

________ $

Subtotal

Less:

__________ $_________

Net cash from operating activities

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Chapter 13 - Statement of Cash Flows

158. Based on the information provided below, complete the following worksheet to be used to prepare the statement of cash flows for the Gulp-it-Down Coffee Co. Gulp-it-Down Coffee Co.

Worksheet for a Statement of Cash Flows For the Year Ended 31 December 2014 Statement of financial position effects: Assets Cash and cash equivalents Accounts receivable Inventory

Beginning Balance

Debit Changes

Credit Changes

Ending Balance

160,000 380,000 (4) 420,000 (5)

(x)

140,000 400,000 480,000

820,000 (8) 1,780,000

(3)

860,000 1,8800,000

Property, plant and equipment (net of accumulated depreciation) Totals Liabilities & Equity Accounts payable Accrued expenses payable Notes payable Share capital Retained earnings Totals

260,000 (6) 100,000 720,000 420,000 280,000 (2) 1,780,000

(7) (9) (1) 260,000

260,000

Sources

Cash effects:

Uses

Operating activities: Profit for the year Depreciation expense

(1) (3)

60,000 100,000

Increase in accounts receivable Increase in inventory Decrease in accounts payable Increase in accrued expenses payable

(7)

(4) (5) (6)

20,000 60,000 20,000

(8)

140,000

(2)

20,000

Investing activities: Cash paid to acquire PPE Financing activities: Dividends paid Proceeds from Issuance of Notes payable Subtotals Net decrease in cash and cash equivalents

(9)

60,000 240,000

(x)

20,000

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_______ 260,000

240,000 120,000 780,000 420,000 320,000 1,880,000

Chapter 13 - Statement of Cash Flows

260,000

Totals

260,000

Additional Information: (1.) Profit for the year amounted to $60,000, and cash dividends were declared and paid in the amount of $20,000. (2.) Gulp-it-Down Coffee Co.'s only noncash expense was depreciation which totaled $100,000. (3.) The company purchased property, plant, and equipment for $140,000. (4.) Notes payable in the amount of $60,000 were issued during the year.

159. Cash flows and accounting records In a business with an accrual-based accounting system, is a statement of cash flows based upon account balances shown in the adjusted trial balance? Explain.

160. Significance of cash flows In the long run, is it more important for a business to have a positive cash flow from its operating activities, investing activities, or financing activities? Why?

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Chapter 13 - Statement of Cash Flows

162. Differences between profit for the year and operating cash flow Identify three factors that may cause profit for the year to differ from the net cash from operating activities.

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Chapter 13 - Statement of Cash Flows

163. The following information was obtained from the Champion Company for the year ending 31 December 2014.

Cash paid to suppliers Ordinary share issued Equipment purchased Interest paid Cash receipts from customers Tax paid Proceeds from long-term borrowing Collections of loans made Interest received Proceeds from sale of equipment Dividends paid Loans made to borrowers Cash and cash equivalents, 1 Jan 2014 Cash and cash equivalents, 31 December 2014 Using the direct method, prepare a statement of cash flows.

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$289,000 $81,000 $58,000 $10,500 $936,000 $28,000 $116,000 $17,000 $16,000 $24,000 $4,600 $29,000 $1,781,000 $2,551,900

Chapter 13 - Statement of Cash Flows

164. Place an X in the column signifying whether the activity is an operating, investing or a financing activity and if it is a source or a use of funds or if it is a non-cash activity.

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Chapter 13 - Statement of Cash Flows

In order to prepare the statement of cash flows for Rag Dolls Corporation for 2014, the accountant has compiled the following data regarding cash flows: Cash paid to acquire equity securities .................................................................... $ 370,000 Proceeds from sale of equity securities .................................................................. 17,500 Proceeds from issuance of ordinary shares ............................................................ 280,000 Proceeds from issuance of bonds payable .............................................................. 55,000 Payments to settle short-term debt ......................................................................... 32,500 Interest and dividends received .............................................................................. 10,000 Cash receipts from customers ................................................................................ ? Dividends paid ....................................................................................................... 130,000 Cash paid to suppliers and employees ................................................................... 1,030,000 Interest paid ........................................................................................................... 25,000 Income taxes paid ................................................................................................... 70,000 Cash and cash equivalents, 1 January, 2014 .......................................................... 43,000 Cash and cash equivalents, 31 December 2014 ..................................................... 58,000 Using the above information, indicate the best answer for each question in the space provided. (Assume interest and dividends received and paid are classified as operating activities) 165. Rag Dolls’ cash flow from investing activities during 2014 is: A $390,000 net cash used in investing activities. B. $322,500 net cash from investing activities. C. $352,500 net cash used in investing activities. D. $360,000 net cash used in investing activities. 166. Rag Dolls’ cash flow from financing activities during 2014 is: A $322,500 net cash from financing activities. B. $172,500 net cash from financing activities. C. $127,500 net cash from financing activities. D. $375,000 net cash from financing activities. 167. Rag Dolls’ cash flow from operating activities during 2014 is: A $45,000 net cash from operating activities. B. $1,155,000 net cash used in operating activities. C. $240,000 net cash from operating activities. D. $195,000 net cash from operating activities. 168. In the 2014 statement of cash flows for Rag Dolls Corporation, the amount of Cash receipts from customers is: A $1,310,000. B. $1,103,000. C. $1,233,000. D. $1,293,000.

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Chapter 13 - Statement of Cash Flows

Lester Corporation’s statement of cash flows for 2014 shows the following investing activities: Proceeds from sale of equity securities .................................................................. $ 160,000 Purchase of land ..................................................................................................... (250,000) Proceeds from sale of land ..................................................................................... 125,000 Net cash from investing activities ....................................................................... $ 15,000 Lester’s income statement for 2014 includes the following: Loss on sale of equity securities............................................................................. Gain on disposal of land .........................................................................................

$47,000 65,000

169. The cost of the land sold during 2014 was: A $65,000. B. $125,000. C. $190,000. D. $60,000. 170. The cost (book value) of the equity securities sold during 2014 was: A $207,000. B. $113,000. C. $160,000. D. Some other amount. 171. Lester’s statement of financial position at the end of 2013 showed Land of $100,000. On the basis of the data presented above, compute the amount to be reported for Land in Lester Corporation’s statement of financial position at 31 December 2014. A $250,000. B. $350,000. C. $290,000. D. Some other amount. 172. Lester’s statement of financial position at the end of 2013 showed Investment in Equity Securities at $250,000. On the basis of the data presented above, compute the amount to be reported for Investment in Equity Securities in Lester Corporation’s statement of financial position at 31 December 2014. A $43,000. B. $110,000. C. $137,000. D. $253,000.

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Chapter 13 - Statement of Cash Flows

173. Which of the following correctly describes a difference between the direct method and the indirect method of computing operating cash flow? A The direct method is used when accounting records are kept on a cash basis; the indirect method is used when accounting records are maintained on an accrual basis. B. The direct method may be used only when a company maintains special journals for cash receipts and cash disbursements; the indirect method is used in all other situations. C. Both the direct and the indirect methods result in the same net cash from operating activities, but the format of this section of the statement of cash flows is different under the alternative methods. D. The direct method is used when all accounting records and bank statements are available; the indirect method is used when some accounting records or documents are missing or have been destroyed.

Essay Questions

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Chapter 13 - Statement of Cash Flows

174. Using the following information, complete the statement of cash flows for Nutritional Foods for the year ended 31 December 2014. Place parentheses around those figures in the statement representing cash outlays. (Assume interest and dividends received and paid are classified as operating activities) Payments for purchase of land ............................................................................... $ 416,000 Proceeds from sale of land ..................................................................................... $58,000 Proceeds from issuance of ordinary shares ............................................................ $347,000 Proceeds from issuance of bonds payable .............................................................. $99,000 Payments to settle short-term debt ......................................................................... $74,000 Interest and dividends received .............................................................................. $49,500 Cash receipts from customers ................................................................................ $1,502,000 Dividends paid ....................................................................................................... $182,000 Cash paid to suppliers and employees ................................................................... $1,172,000 Interest paid ........................................................................................................... $66,000 Income taxes paid ................................................................................................... $115,500 Cash and cash equivalents, 1 January, 2014 .......................................................... $86,000 Cash and cash equivalents, 31 December 2014 ..................................................... ?

NUTRITIONAL FOODS Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (direct method): Cash receipts from customers .............................................

$ _________

Cash from operating activities ........................................

$ $ _________

Cash disbursed for operating activities ........................... Net cash from operating activities............................... Cash flows from investing activities:

(_______) $ $ _________

Net cash used in investing activities ............................ Cash flows from financing activities:

(

)

$ _________ Net cash from financing activities ............................... Net increase (decrease) in cash ................................................ Cash and cash equivalents, beginning of year ......................... Cash and cash equivalents, end of year ....................................

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_______ $ _______ $______

Chapter 13 - Statement of Cash Flows

175. The following statements of financial position are provided for Socrates Foods End of Beginning Year of Year Cash and cash equivalents........................................................... $170,000 $120,000 Accounts receivable .................................................................... 80,000 65,000 Inventory ..................................................................................... 140,000 130,000 Property, plant and equipment (net) ............................................ 130,000 80,000 Total assets ............................................................................... $520,000 $395,000 Accounts payable (for inventory)................................................ Wages payable ............................................................................ Long-term liabilities .................................................................... Ordinary shares ........................................................................... Retained earnings ........................................................................ Total liabilities and owners’ equity ..........................................

$ 65,000 120,000 95,000 100,000 140,000 $520,000

$ 35,000 110,000 70,000 100,000 80,000 $395,000

Selected information from Socrates Foods’s current year income statement: Sales ................................................................................................................. Cost of goods sold ............................................................................................ Wages expense .................................................................................................

$1,650,000 840,000 260,000

Compute the following: (1) Cash receipts from customers during the year ............................... $__________ (2) Cash payments for inventory during the year ................................ $__________ (3) Wages paid to employees during the year...................................... $__________ (4) In Socrates Foods’s statement of cash flows, what amount would be reported as the net change in cash and cash equivalents? $__________ (increase/decrease)

Socrates Foods recorded the sale of equipment as follows: Cash .................................................................................... Accumulated Depreciation: Equipment ............................. Loss on Disposal of Equipment ......................................... Equipment ......................................................................

25,000 20,000 15,000 60,000

How would this transaction be reported in Socrates Foods’s statement of cash flows? (Assume the direct method is being used.)

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Chapter 13 - Statement of Cash Flows

Chapter 13 Statement of Cash Flows Answer Key

True / False Questions

1. The principal purpose of a statement of cash flows is to measure the profitability of a business that maintains its accounting records on the cash basis. FALSE

2. All cash receipts and cash payments not classified as investing or financing activities are classified as indirect activities. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

3. Interest paid is classified as either operating or financing activities. TRUE

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Chapter 13 - Statement of Cash Flows

4. Receipts of interest revenue are classified as operating or investing activities. TRUE

5. Dividends paid belong in the operating section of the statement of cash flows. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

6. In a statement of cash flows, the term cash includes both cash and cash equivalents. TRUE

7. Companies that show profit for the year on the income statement will always show positive cash flows from operating activities. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

8. The purchase of equipment for the manufacturing of inventory belongs in the operations section of the statement of cash flows. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

9. In the long run, it is more important for a business to generate positive cash flows from investing activities than from operating activities. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-01 Explain the purposes and uses of a statement of cash flows. Topic: Statement of Cash Flows

10. Depreciation is a non-cash expense. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

11. If accounts receivable decrease during the period, Cash receipts from customers probably exceeds net sales. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

12. Depreciation expense reduces profit for the year but does not reduce the net cash from operating activities. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

13. If cash increased during the year and there was also a loss for the year, there must be positive cash flows from financing and investing activities. FALSE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

14. Any "non-cash" investing and financing transactions should be disclosed in a supplementary schedule accompanying a statement of cash flows. TRUE

15. The IASB permits a company to use the direct method for the statement of cash flows or the indirect method. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

16. Net cash from operating activities will have the same total no matter which method is used, direct or indirect. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

17. Both the direct method and the indirect method of computing net cash from operating activities convert accrual-based income statement amounts into cash flows. TRUE

18. Under the indirect method, when machinery is sold at a gain, the gain is added in the operating section of the statement of cash flows and the cost is added in the investing section. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

19. A net decrease in accounts payable to suppliers indicates that cash payments to suppliers were less than purchases made during the period. FALSE

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Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-05 Distinguish between the direct and indirect methods of reporting operating cash flows. Topic: Preparing a Statement of Cash Flows

21. Under the indirect method, depreciation, increase in inventories, and "non-operating" losses are added to profit for the year to arrive at net cash from operating activities. FALSE

22. The "worksheet approach" to preparing a statement of cash flows involves analyzing changes in non-cash statement of financial position accounts. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-09 Explain how a worksheet may be helpful in preparing a statement of cash flows. Topic: A Worksheet for Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

23. The operating activities section of the cash flow statement includes the cash effects of those transactions reported on the income statement. TRUE

24. The purchase or sale of equity securities is reported in the statement of cash flows as a financing activity. FALSE

25. For a company to survive in the long-run it must have positive cash flows from investing activities. FALSE

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Chapter 13 - Statement of Cash Flows

26. If accounts receivable increased during the year, deducting the increase from net sales determines the amount of cash received. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

27. If a company's accounts payable has increased over a year, it is an indication that the company is buying more goods. FALSE

28. To determine cash dividends paid subtract the increase in dividends payable from the amount of dividends declared. FALSE

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Chapter 13 - Statement of Cash Flows

29. The indirect method of computing cash flows from operations begins with profit for the year. TRUE

30. Products that tie in with a company's other products are called complementary products. TRUE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Risk Analysis Bloom's: Remember Difficulty: Easy Learning Objective: 13-08 Discuss the likely effects of various business strategies on cash flows. Topic: Managing Cash Flows

31. Free cash flow refers to the excess of cash inflows over cash outflows. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-08 Discuss the likely effects of various business strategies on cash flows. Topic: Managing Cash Flows

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Chapter 13 - Statement of Cash Flows

32. When a company uses peak pricing they are charging the highest or "peak" prices the public will be willing to pay during periods of low demand. FALSE

33. When applying the direct method in a statement of cash flows, the amount of depreciation is added to profit for the year FALSE

34. The Stock exchange of Hong Kong requires listed companies in Hong Kong to use the indirect method for the statement of cash flows. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Bloom's: Remember Difficulty: Easy Learning Objective: 13-05 Distinguish between the direct and indirect methods of reporting operating cash flows. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

35. Both FASB and IASB require the cash flow statement to be organized in three categories, operating activities, investing activities and financing activities. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Bloom's: Remember Difficulty: Medium Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

36. Large cash flows from operations are more important to financial statement analysts over the long term than cash flows from financing or investing. TRUE

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

37. When preparing a statement of cash flows, money held in cash equivalents is considered the same as cash. TRUE

Multiple Choice Questions

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Chapter 13 - Statement of Cash Flows

39. Free cash flow arises out of: A. Operating activities B. Investing activities C. Financing activities D. All of the above

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-08 Discuss the likely effects of various business strategies on cash flows. Topic: Managing Cash Flows

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-08 Discuss the likely effects of various business strategies on cash flows. Topic: Managing Cash Flows

13-75

Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

43. All of the following are considered cash equivalents except A. Equity securities B. Money market funds C. Commercial paper D. Treasury bills

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Chapter 13 - Statement of Cash Flows

45. All of the following are financing activities except: A. Borrowing money B. Lending money C. Selling ordinary shares D. Paying dividends

46. A stock dividend is reported on the A. Financing section of the statement of cash flows B. Statement of financial position C. Income statement D. Operating section of the statement of cash flows

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Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Risk Analysis Bloom's: Understand Difficulty: Medium Learning Objective: 13-01 Explain the purposes and uses of a statement of cash flows. Topic: Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-01 Explain the purposes and uses of a statement of cash flows. Topic: Statement of Cash Flows

49. In the statement of cash flows, the purchase of supplies is classified as: A. Operating activities. B. Financing activities. C. Investing activities. D. None of the above.

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Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Bloom's: Remember Difficulty: Easy Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

51. In a statement of cash flows, collections of accounts receivable are classified as: A. Operating activities. B. Financing activities. C. Investing activities. D. Revenues and Gains.

52. In a statement of cash flows, payments of dividends are classified as: A. Operating activities. B. Financing activities. C. Investing activities. D. Costs and Expenses

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Chapter 13 - Statement of Cash Flows

53. Which of the following would indicate a cash disbursement? A. Selling equipment at a loss. B. A decrease in accounts receivable. C. An increase in prepaid expenses. D. A decrease in inventory.

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Chapter 13 - Statement of Cash Flows

58. Which of the following is an investing activity? A. Purchase of equipment. B. Payment of interest. C. Issuing ordinary shares. D. Issuing long-term debt.

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Chapter 13 - Statement of Cash Flows

60. Which of the following is a financing activity? A. Receipts of interest. B. Payment of dividends. C. Making sales on account. D. Paying off accounts payable.

13-82

Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-05 Distinguish between the direct and indirect methods of reporting operating cash flows. Topic: Preparing a Statement of Cash Flows

13-83

Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Easy Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

13-84

Chapter 13 - Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Evaluate Difficulty: Medium Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

13-85

Chapter 13 - Statement of Cash Flows

71. Which of the following statements regarding the direct and indirect methods of reporting cash flow from operating activities is false? A. Although both methods result in the same net increase or decrease in cash for the year, net cash from operating activities will be different under the two methods. B. The direct method shows the specific cash inflows and outflows constituting the operating activities of the business. C. Under the indirect method, the computation of net cash from operating activities begins with profit for the year for the year as shown in the income statement. D. The IASB permits both the direct and the indirect methods, but has expressed a preference for the direct method.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

13-86

Chapter 13 - Statement of Cash Flows

13-87

Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Risk Analysis Bloom's: Evaluate Difficulty: Medium Learning Objective: 13-08 Discuss the likely effects of various business strategies on cash flows. Topic: Managing Cash Flows

13-88

Chapter 13 - Statement of Cash Flows

13-89

Chapter 13 - Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Evaluate Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

13-90

Chapter 13 - Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

84. The FASB classifies interest received on investments and interest paid on debt financing as part of operating cash flows while the IASB: A. allows interest received to be classified as either operating or investing and interest paid as either operating or financing. B. Allows interest received to be classified as either operating or financing and interest paid as either operating or investing. C. Allows interest received to be classified only as investing and interest paid only as financing D. Allows interest received to be classified only as financing and interest paid only as investing.

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

The financial statements of New World Company provide the following information for the current year:

88. Compute the amount of Cash receipts from customers during the current year. A. $3,097,500. B. $3,129,000. C. $3,066,000. D. $3,612,000. $3,097,500 - ($273,000 - $241,500) = $3,066,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

13-93

Chapter 13 - Statement of Cash Flows

89. Compute the amount of New World's cash payments for purchases of inventory during the current year. A. $1,627,500. B. $1,622,250. C. $1,638,000. D. $2,157,750. $1,627,500 + ($262,500 - $252,000) - ($237,300 - $221,550) = $1,622,250

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

90. Compute the amount of New World's cash payments for operating expenses. A. $277,200. B. $283,500. C. $378,000. D. $349,650. $367,500 - $94,500 + ($67,200 - $63,000) + ($72,450 - $66,150) = $283,500

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Chapter 13 - Statement of Cash Flows

91. New World's net cash from operating activities for the current year is: A. $1,191,750 B. $1,192,800. C. $1,113,000. D. $1,160,250 $3,066,000 - $1,622,250 - $283,500 = $1,160,250

The financial statements of Oriental Company provide the following information for the current year:

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Chapter 13 - Statement of Cash Flows

92. Compute the amount of Cash receipts from customers during the current year. A. $265,000. B. $255,000. C. $260,000. D. $40,000. $260,000 + ($40,000 - $35,000) = $265,000

93. Compute the amount of Oriental Company's cash payments for purchases of merchandise during the current year. A. $130,000. B. $125,000. C. $133,000. D. $127,000. $130,000 + ($55,000 - $51,000) - ($33,000 - $32,000) = $133,000

13-96

Chapter 13 - Statement of Cash Flows

94. Compute the amount of Oriental Company's cash payments for operating expenses. A. $73,000. B. $59,000. C. $81,000. D. $65,000. $80,000 - $18,000 - ($14,000 - $12,000) + ($20,000 - $15,000) = $65,000

95. Oriental Company's net cash from operating activities for the current year is: A. $57,000. B. $59,000. C. $61,000. D. $67,000. $265,000 - $133,000 - $65,000 = $67,000

13-97

Chapter 13 - Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

13-98

Chapter 13 - Statement of Cash Flows

An analysis of Korman Corporation's Investment in Equity Securities account during 2014 disclosed the following:

98. The amount of cash paid by Korman Corporation in 2014 for the purchase of equity securities was: A. $240,000. B. $160,000. C. $200,000. D. $190,000.

99. The cash proceeds received by Korman Corporation in 2014 for the sale of equity securities was: A. $160,000. B. $230,000. C. $240,000. D. $280,000. $240,000 + $40,000(Gain) = $280,000

13-99

Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

13-100

Chapter 13 - Statement of Cash Flows

An analysis of Kenny Corporation's Investment in Equity Securities account during 2014 disclosed the following:

102. The amount of cash paid by Kenny Corporation in 2014 for the purchase of equity securities was: A. $445,000. B. $535,000. C. $355,000. D. $420,000.

103. The cash proceeds received by Kenny Corporation in 2014 for the sale of equity securities was: A. $230,000. B. $280,000. C. $195,000. D. $180,000. $270,000 - $90,000 = 180,000

13-101

Chapter 13 - Statement of Cash Flows

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

13-102

Chapter 13 - Statement of Cash Flows

An analysis of changes in selected statement of financial position accounts of Johnson Company shows the following for the current year:

Property, Plant, and Equipment accounts: Debit entries to asset accounts Credit entries to asset accounts Debit entries to accumulated depreciation accounts (resulting from sale of PPE assets) Credit entries to accumulated depreciation accounts (representing depreciation for the current year)

$160,000 $118,000 $91,000 $107,000

Johnson 's income statement for the current year includes a $14,000 loss on disposal of property, plant, and equipment. All payments and proceeds relating to purchase or sale of property, plant, and equipment were in cash. 106. The amount of cash paid by Johnson to acquire property, plant, and equipment during the current year was: A. $53,000. B. $267,000. C. $42,000. D. $160,000.

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Chapter 13 - Statement of Cash Flows

107. Total cash proceeds received by Johnson from sales of property, plant, and equipment during the current year amounted to: A. $13,000. B. $104,000. C. $195,000. D. $41,000. $118,000 - $91,000 - $14,000 = $13,000

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

An analysis of changes in selected statement of financial position accounts of Hierarchy Corporation shows the following for the current year: Property, Plant, and Equipment accounts: Debit entries to asset accounts Credit entries to asset accounts Debit entries to accumulated depreciation accounts (resulting from sale of PPE assets) Credit entries to accumulated depreciation accounts (representing depreciation for the current year)

$504,000 $768,000 $72,000 $192,000

Hierarchy's income statement for the current year includes a $9,600 gain on disposal of property, plant, and equipment. All payments and proceeds relating to purchase or sale of property, plant, and equipment were in cash. 110. The amount of cash paid by Hierarchy to acquire property, plant, and equipment during the current year was: A. $252,000. B. $504,000. C. $724,000. D. $768,000.

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111. Total cash proceeds received by Hierarchy from sales of property, plant, and equipment during the current year amounted to: A. $696,000. B. $705,600. C. $633,600. D. $768,000. $768,000 + $9,600 - $72,000 = $705,600

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

114. Haven Corporation issued $700,000 of 10-year bonds payable at par in 2010. During 2014 Haven paid $50,000 interest and an additional $233,333 to retire one-third of the bonds at par. These activities would be reported in Haven's statement of cash flows for 2014 as: A. $283,333 net cash from financing activities. B. $466,667 net cash used in financing activities. C. $233,333 net cash used in financing activities, and $50,000 cash disbursed for operating activities. D. $466,667 net cash from financing activities, and $50,000 cash disbursed for operating activities.

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Chapter 13 - Statement of Cash Flows

116. The accountant for Foster Institute, Inc., determined the cash flow for several transactions to be as follows:

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Chapter 13 - Statement of Cash Flows

During 2014, the cash flows related to Global Data, Inc.'s lending and borrowing activities are summarized as follows:

119. If Global Data's income statement for 2014 reports interest expense of $25,200, then: A. Interest payable decreased by $16,800 in 2014. B. Interest payable increased by $16,800 in 2014. C. Interest payable at the end of 2013 amounts to $16,800. D. Either the amount reported in the income statement or the interest payment shown above must be incorrect. $42,000 - $25,200 = $16,800

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

127. At the end of the first year of operations, Meacham's statement of financial position showed the following: Accounts Receivable, $13,400; Inventory, $9,400; and Accounts Payable, $14,650. The company's income statement reports profit for the year of $37,400, including depreciation expense of $10,400. Using only the given information, compute Meacham's net cash from operating activities using the indirect method. A. $65,250. B. $39,650. C. $24,350. D. $26,650. $37,400 - $13,400 - $9,400 + $14,650 + $10,400 = $39,650

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Chapter 13 - Statement of Cash Flows

128. Chapin Company reported profit of $410,000 for 2014. Balances of selected current asset and current liability accounts are as shown on the indicated dates:

Accounts receivable Inventory Accounts payable

1 Jan 2014 $60,000 $130,000 $54,000

31 Dec. 2014 $ 69,400 $141,000 $48,000

Depreciation expense for 2014 amounted to $65,000. Using only the above information, compute Chapin's net cash from operating activities (indirect method) for 2014: A. $470,600. B. $467,400. C. $460,600. D. $448,600. $410,000 + $65,000 - $9,400 - $11,000 - $6,000 = $448,600 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

$54,000 $171,000 $83,000 $169,000 $19,000 $14,000 $20,000

On the basis of the above information only, Beijing Company's statement of cash flows shows net cash from operating activities to be: A. $187,000. B. $333,000. C. $225,000. D. $361,000.

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Chapter 13 - Statement of Cash Flows

$171,000 - $54,000 + $83,000 + $19,000 - $14,000 + $20,000 = $225,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

$1,500,000 $30,900,000 $6,800,000 $7,000,000 $1,700,000 $2,200,000 $2,900,000 $8,800,000

Solely on the basis of the above information, Empire's net cash from operating activities is: A. $33,800,000. B. $42,800,000. C. $35,500,000. D. $34,300,000. $30,900,000 + $6,800,000 + $1,700,000 - $2,200,000 - $2,900,000 = $34,300,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

The financial statements of York, Inc., provide the following information for the current year:

135. Compute the amount of cash receipts from customers during the current year. A. $1,548,750. B. $1,564,500. C. $1,533,000. D. $1,806,000. $1,548,750 - ($136,500 - $120,750) = $1,533,000

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Chapter 13 - Statement of Cash Flows

136. Compute the amount of cash payments for purchases of goods during the current year. A. $813,750. B. $811,125. C. $819,000. D. $1,078,875. $813,750 + ($131,250 - $126,000) - ($118,650 - $110,775) = $811,125

137. Compute the amount of cash payments for operating expenses. A. $138,600. B. $141,750. C. $189,000. D. $174,825. $183,750 - $47,250 + ($33,600 - $31,500) + ($36,225 - $33,075) = $141,750

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Chapter 13 - Statement of Cash Flows

138. Net cash from operating activities for the current year is: A. $595,875. B. $596,400. C. $556,500. D. $580,125. $1,533,000 - $811,125 - $141,750 = $580,125

The financial statements of Garver, Inc., provide the following information for the current year:

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Chapter 13 - Statement of Cash Flows

139. Compute the cash receipts from customers during the current year. A. $530,000. B. $510,000. C. $520,000. D. $80,000. $520,000 + ($80,000 - $70,000) = $530,000

140. Compute the cash payments for purchases of goods during the current year. A. $260,000. B. $250,000. C. $266,000. D. $254,000. $260,000 + ($110,000 - $102,000) - ($66,000 - $64,000) = $266,000

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Chapter 13 - Statement of Cash Flows

141. Compute the cash payments for operating expenses. A. $146,000. B. $118,000. C. $162,000. D. $130,000. $160,000 - $36,000 - ($28,000 - $24,000) + ($40,000 - $30,000) = $130,000

142. Net cash from operating activities for the current year is: A. $114,000. B. $118,000. C. $122,000. D. $134,000. $530,000 - $266,000 - $130,000 = $134,000

Essay Questions

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Chapter 13 - Statement of Cash Flows

143. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. ____ (a) Cash sales and collections of accounts receivable. ____ (b) The classification of cash flows which includes issuing ordinary shares and paying dividends. ____ (c) The financial statement which best describes the profitability of a business. ____ (d) The section of a statement of cash flows summarizing the cash effects of most transactions entering into the determination of profit for the year. ____ (e) An expense that reduces net cash flow but does not reduce profit for the year. ____ (f) The classification of cash flows that includes purchases and sales of property, plant, and equipment. ____ (g) Transactions shown in a supplementary schedule accompanying a statement of cash flows. (a) Cash receipts from customers, (b) Financing activities, (c) Income statement, (d) Operating activities, (e) None (Any "expense" reduces profit for the year. Depreciation expense reduces profit for the year; however, it does not reduce net cash flow.), (f) Investing activities, (g) Non-cash investing and financing activities

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-01 Explain the purposes and uses of a statement of cash flows. Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Statement of Cash Flows

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144. Classification of cash flows Indicate how each of the following events should be classified in a statement of cash flows for the current calendar year. Use the following code: O = operating activities, I = investing activities, and F = financing activities. Assume use of the direct method. If the event does not involve a cash flow that should be included in the statement of cash flows, use an X. ____ (a) Paid an account payable for inventory purchased in a prior accounting period. ____ (b) On 28 December made a large credit sale; terms, 2/10, n/30. ____ (c) Received a dividend from an investment in IBM ordinary shares. ____ (d) Paid a dividend to shareholders. ____ (e) Paid the interest on a note payable to First Bank. ____ (f) Paid the principal amount due on the note payable to First Bank. ____ (g) Transferred cash from a checking account into a money market fund. ____ (h) Made an adjusting entry to record accrued wages payable at the end of the period. ____ (i) Recorded depreciation expense for the current year. ____ (j) Purchased property, plant, and equipment for cash. O (a) Paid an account payable for inventory purchased in a prior accounting period. X (b) On 28 December made a large credit sale; terms, 2/10, n/30. O or I (c) Received a dividend from an investment in IBM ordinary shares. F (d) Paid a dividend to shareholders. O or F (e) Paid the interest on a note payable to First Bank. F (f) Paid the principal amount due on the note payable to First Bank. X(g) Transferred cash from a checking account into a money market fund. X (h) Made an adjusting entry to record accrued wages payable at the end of the period. X (i) Recorded depreciation expense for the current year. I (j) Purchased property, plant, and equipment for cash.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

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145. Classification of cash flows Indicate how each of the following events should be classified in a statement of cash flows for the current calendar year. Use the following code: O = operating activities, I = investing activities, and F = financing activities. Assume this company uses the direct method. If the event does not involve a cash flow that should be included in the statement of cash flows, use an X. ____ (a) Declared a dividend to be paid early next year. ____ (b) Recorded depreciation expense for the current year. ____ (c) At year-end, paid rent in advance for the next six months. ____ (d) Issued ordinary shares for cash; management plans to use this cash to invest in equity securities. ____ (e) Sold a parcel of unused land at a loss. ____ (f) Collected principal amount due on a note receivable. ____ (g) Used the cash received in d, above, to purchase equity securities. ____ (h) Collected interest due on note receivable described in f, above. ____ (i) Made an adjusting entry to accrue interest payable at year-end. ____ (j) Collected account receivable from a customer who made a large credit purchase in a prior period. X (a) Declared a dividend to be paid early next year. X (b) Recorded depreciation expense for the current year. O (c) At year-end, paid rent in advance for the next six months. F (d) Issued ordinary shares for cash; management plans to use this cash to invest in equity securities. I (e) Sold a parcel of unused land at a loss. I (f) Collected principal amount due on a note receivable. I (g) Used the cash received in d, above, to purchase equity securities. O or I (h) Collected interest due on note receivable described in f, above. X (i) Made an adjusting entry to accrue interest payable at year-end. O (j) Collected account receivable from a customer who made a large credit purchase in a prior period.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Remember Difficulty: Easy Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

$1,600,000 $1,000,000 $3,600,000 $2,800,000 $1,300,000 $500,000

The income statement for the current year included the following items relating to the transactions summarized above: Loss on sale of equity securities Gain on sale of property, plant, and equipment

$350,000 $650,000

$____________ $____________ $____________ $____________

Computations (a) $1,600,000 (debit entries to Equity Securities account) (b) $650,000 ($1,000,000 credit entries - $350,000 loss on sale) (c) $3,600,000 (debit entries to property, plant, and equipment asset accounts) (d) $2,150,000 Computations Cost of PPE assets sold (credit entries to asset accounts) Less Accumulated depreciation on assets sold (debit entries to accumulated depreciation accounts) is missing above Book value of PPE assets sold Gain on sale of PPE assets Proceeds from sale (all cash)

13-128

$2,800,000 (1,300,000) $1,500,000 $ 650,000 $2,150,000

Chapter 13 - Statement of Cash Flows

$250,000 $400,000 $700,000 $900,000 $300,000 $125,000

The income statement for the current year included the following items relating to the transactions summarized above: Loss on sale of equity securities Gain on sale of property, plant, and equipment

$85,000 $150,000

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$____________ $____________ $____________ $____________

Chapter 13 - Statement of Cash Flows

(a) $250,000 (debit entries to Equity securities account) (b) $485,000 ($400,000 credit entries + $85,000 gain on sale) (c) $700,000 (debit entries to plant asset accounts) (d) $450,000 Computations Cost of PPE assets sold (credit entries to asset accounts) Less Accumulated depreciation on assets sold (debit entries to accumulated depreciation accounts) is missing above Book value of PPE assets sold Gain on sale of PPE assets Proceeds from sale (all cash)

13-130

$900,000 (300,000) $600,000 $ 150,000 $ 450,000

Chapter 13 - Statement of Cash Flows

148. Computation of operating cash flows The financial statements of Park Company provide the following information for the current year:

Accounts receivable Inventory Prepaid expenses Accounts payable (for inventory) Accrued liabilities Net sales Cost of goods sold Expenses (including depreciation of $43,000)

End of Year $106,000 $105,000 $31,000 $74,000 $30,000 $848,000 $318,000 $258,000

Beginning of Year $ 98,000 $120,000 $29,000 $70,000 $28,000

$____________ $____________ $____________ $____________

(a) Cash receipts from customers: $848,000 (net sales) - $8,000 (increase in accounts receivable) = $840,000 (b) Cash payments for purchases of inventory: $318,000 (cost of goods sold) - $15,000 decrease in inventory) - $4,000 (increase in accounts payable) = $299,000 (c) Cash payments for operating expenses: $258,000 (operating expenses) - $43,000 (non-cash expenses) + $2,000 (increase in prepaid expenses) - $2,000 (increase in accrued liabilities) = $215,000 (d) Net cash from operating activities: $840,000 (a) - $299,000 (b) - $215,000 (c) = $326,000

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Chapter 13 - Statement of Cash Flows

149. Computation of operating cash flows The financial statements of Custom Corporation provide the following information for the current year:

End of Year $201,000 $249,000 $12,000 $177,000 $25,500 $12,600 $801,000 $465,000 $300,000 $39,000

Beginning of Year $ 221,000 $233,000 $9,500 $170,000 $33,200 $15,500

Using this information, compute for the current year: (a) Cash receipts from customers (b) Cash payments for purchases of inventory (c) Cash payments for operating expenses (d) Income taxes paid

$____________ $____________ $____________ $____________

(a) Cash receipts from customers: $801,000 (net sales) + $20,000 (decrease in accounts receivable) = $821,000 (b) Cash payments for purchases of merchandise: $465,000 (costs of goods sold) + $16,000 (increase in inventory) - $7,000 (increase in accounts payable) = $474,000 (c) Cash payments for operating expenses: $300,000 (operating expenses) - $40,000 (non-cash expenses) + $2,500 (increase in prepayments) + $7,700 (decrease in accrued liabilities) = $270,200 (d) Income taxes paid: $39,000 (income tax expense) + $2,900 (decrease in accrued income taxes payable) = $41,900 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-03 Compute the major cash flows relating to operating activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

13-133

$48,000 $75,000 $19,500 $18,000 $43,500 $27,000 $31,500 $36,000 $681,000 $531,000 $118,500 $201,000 $58,500 $73,500

Chapter 13 - Statement of Cash Flows

Olympia Company Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (direct method):

$_________ $

Cash from operating activities

$ ___________ Cash disbursed for operating activities

_________

Net cash from operating activities

Cash flows from investing activities:

________ Net cash used in investing activities: Cash flows from financing activities:

___________ ___________

Net cash used in financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year

13-134

$ ___________ $ __________

Chapter 13 - Statement of Cash Flows

Olympia Company Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities: Cash receipts from customers

$ 681,000

Interest and dividends received

19,500 $ 700,500

Cash from operating activities

$ (531,000) (18,000) (43,500)

Cash paid to suppliers and employees Interest paid Income taxes paid

(592,500) $ 108,000

Cash disbursed for operating activities Net cash from operating activities Cash flows from investing activities: Purchases of equity securities Proceeds from sales of equity securities Purchases of property, plant and equipment Proceeds from sales of property, plant and equipment

$ (48,000) 75,000 (201,000) 58,500 (115,500)

Net cash used in investing activities: Cash flows from financing activities:

$ 31,500 (36,000) 118,500 (27,000)

Proceeds from short-term borrowing Payments to settle short-term debts Proceeds from issuing ordinary shares Dividends paid

87,000

Net cash used in financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Medium Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

13-135

$ 79,500 73,500 $ 153,000

Chapter 13 - Statement of Cash Flows

13-136

$104,000 $229,000 $24,000 $21,500 $91,500 $44,000 $179,000 $474,000 $1,709,000 $1,054,000 $254,000 $684,000 $329,000 $481,500

Chapter 13 - Statement of Cash Flows

Jericho Corporation Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (direct method):

$_________ $

Cash from operating activities

$ ___________ Cash disbursed for operating activities

_________

Net cash from operating activities

Cash flows from investing activities:

________ Net cash used in investing activities: Cash flows from financing activities:

___________ ___________

Net cash used in financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year

13-137

$ ___________ $ __________

Chapter 13 - Statement of Cash Flows

Jericho Corporation Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities: Cash receipts from customers

$ 1,709,000

Interest and dividends received

24,000 $ 1,733,000

Cash from operating activities

$ (1,054,000) (21,500) (91,500)

Cash paid to suppliers and employees Interest paid Income taxes paid

(1,167,000) $ 566,000

Cash disbursed for operating activities Net cash from operating activities Cash flows from investing activities: Loans made to borrowers Collections on loans Purchases of property, plant and equipment Proceeds from sales of property, plant and equipment

$ (229,000) 104,000 (684,000) 329,000 (480,000)

Net cash used in investing activities: Cash flows from financing activities:

$ (179,000) (74,000) 254,000 (44,000)

Payments to retire bonds Payments to settle short-term debts Proceeds from issuing ordinary shares Dividends paid

(43,000)

Net cash used in financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year

13-138

$ 43,000 81,500 $ 124,500

Chapter 13 - Statement of Cash Flows

$(1,518,000) 811,000 425,000 $ (282,000)

Underhill Corporation's income statement for 2014 includes the following items: Loss on sale of equity securities Gain on sale of land

$157,000 $179,000

(a) (1) $425,000 (cash proceeds) - $179,000 (gain on sale) = $246,000 cost of land sold (2) $811,000 (cash proceeds) + $157,000 (loss on sale) = $968,000 book value of equity securities (b) (1) $3,057,000 - $246,000 (cost of land sold) = $2,811,000 (2) $2,218,000 + $1,518,000 (equity securities purchased) - $968,000 (equity securities sold) = $2,768,000 AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-04 Compute the cash flows relating to investing and financing activities. Topic: Preparing a Statement of Cash Flows

13-139

Chapter 13 - Statement of Cash Flows

153. Relationship of cash flows to accrual accounting (a) The 2014 statement of cash flows of Citation Corporation shows the amount of Cash receipts from customers as $800,000. Statements of financial position report accounts receivable to be $70,000 at 1 January and $100,000 at 31 December 2014. Compute the amount of net sales reported in Citation Corporation's income statement for 2014 $_______________ (b) The supplementary schedule for noncash investing and financing activities accompanying Citation Corporation's 2014 statement of cash flows disclosed the following:

Citation Corporation's 2014 income statement reports a $61,000 loss on the disposal of land. Give the journal entry made by Citation in 2014 to record this sale of land. (a) Net sales (in the income statement): $830,000 Net sales - increase in accounts receivable = Cash receipts from customers Net sales - $30,000 = $800,000 Net sales = $800,000 + $30,000 = $830,000 (b)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Medium Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

13-140

Chapter 13 - Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Apply Difficulty: Easy Learning Objective: 13-07 Compute net cash from operating activities using the indirect method. Topic: Preparing a Statement of Cash Flows

13-141

Chapter 13 - Statement of Cash Flows

$592,000 Computations Profit for the year Add: Depreciation expense

$745,000 53,000 (65,000) (91,000) (50,000) $592,000

Less: Decrease in accounts payable Increase in inventories Non-operating gain Net cash from operating activities

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Chapter 13 - Statement of Cash Flows

156. Cash flows from operating activities-indirect method The data below are taken from the financial statements of the Rutherford Corporation: Income Statement:

2014

Profit for the year Depreciation expense Amortization of patent Gain on sale of equipment

$840,000 170,000, 30,000 110,000

Statement of financial position: Accounts receivable Inventory Prepaid expenses Accounts payable Accrued expense payable

31 Dec 2014

31 Dec 2013

$710,000 840,000 30,000 660,000 430,000

$680,000 800,000 35,000 630,000 440,000

Profit for the year

Add:

________ $

Subtotal

Less:

__________ $_________

Net cash from operating activities

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Chapter 13 - Statement of Cash Flows

Rutherford Corporation. Partial Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (indirect method):

Profit for the year

Add: Depreciation expense Amortization Decrease in prepaid expenses Increase in accounts payable

170,000 30,000 5,000 30,000

Subtotal

Less: Increase in accounts receivable Increase in inventory Increase in short-term prepayments Decrease in accrued expenses payable Non-operating gain Net cash from operating activities

13-144

840,000

_235,000 1,075,000

(190,000) 885,000

30,000 40,000 10,000 4,000 110,000

Chapter 13 - Statement of Cash Flows

157. Cash flows from operating activities-indirect method The data below are taken from the financial statements of the Garland Corporation: Income Statement:

2014

Profit for the year Depreciation expense Amortization of trademark Gain on sale of machinery

$299,000 101,000, 20,000 38,000

Statement of financial position: Accounts receivable Inventory Prepaid expenses Accounts payable Accrued expense payable

31 Dec 2014

31 Dec 2013

$195,000 353,000 50,000 314,000 158,000

$204,000 321,000 38,000 290,000 159,000

$ $

Add:

________ $

Subtotal

Less:

__________ $_________

Net cash from operating activities

13-145

Chapter 13 - Statement of Cash Flows

Garland Corporation. Partial Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities (indirect method): Profit for the year

Add: Depreciation expense Amortization Decrease in accounts receivable Non-operating loss Increase in accounts payable

Increase in inventory Decrease in accrued expenses payable Net cash from operating activities

13-146

299,000

_192,000 491,000

(45,000) 446,000

101,000 20,000 9,000 38,000 24,000

Subtotal Less: Increase in prepaid expenses

12,000 32,000 __1,000

Chapter 13 - Statement of Cash Flows

158. Based on the information provided below, complete the following worksheet to be used to prepare the statement of cash flows for the Gulp-it-Down Coffee Co. Gulp-it-Down Coffee Co.

Worksheet for a Statement of Cash Flows For the Year Ended 31 December 2014 Beginning Debit Credit Statement of financial position effects: Balance Changes Changes Assets Cash and cash equivalents Accounts receivable Inventory

Ending Balance

160,000 380,000 (4) 420,000 (5)

(x)

140,000 400,000 480,000

820,000 (8) 1,780,000

(3)

860,000 1,8800,000

Property, plant and equipment (net of accumulated depreciation) Totals Liabilities & Equity Accounts payable Accrued expenses payable Notes payable Share capital Retained earnings Totals

260,000 (6) 100,000 720,000 420,000 280,000 (2) 1,780,000

(7) (9) (1) 260,000

260,000

Sources

Cash effects:

Uses

Operating activities: Profit for the year Depreciation expense

(1) (3)

60,000 100,000

Increase in accounts receivable Increase in inventory Decrease in accounts payable Increase in accrued expenses payable

(7)

(4) (5) (6)

20,000 60,000 20,000

(8)

140,000

(2)

20,000

Investing activities: Cash paid to acquire PPE Financing activities: Dividends paid Proceeds from Issuance of Notes payable Subtotals Net decrease in cash and cash equivalents Totals

(9)

60,000 240,000

_______ 260,000

(x)

20,000 260,000

260,000

13-147

240,000 120,000 780,000 420,000 320,000 1,880,000

Chapter 13 - Statement of Cash Flows

Gulp-it-Down Coffee Co.

Worksheet for a Statement of Cash Flows For the Year Ended 31 December 2014 Statement of financial position effects: Effect of Transactions Beginning Debit Credit Balance Changes Changes Assets Cash and cash equivalents Accounts receivable Inventory

Ending Balance

160,000 380,000 (4) 420,000 (5)

(x)

20,000

20,000 60,000

140,000 400,000 480,000

820,000 (8) 1,780,000

140,000 (3) 220,000

100,000 120,000

860,000 1,8800,000

260,000 (6) 100,000 720,000 420,000 280,000 (2) 1,780,000

20,000

Property, plant and equipment (net of accumulated depreciation) Totals Liabilities & Equity Accounts payable Accrued expenses payable Notes payable Share capital Retained earnings Totals

(7) (9)

20,000 60,000

20,000 (1) 260,000

60,000 260,000

Sources

Cash effects:

Uses

Operating activities: Profit for the year Depreciation expense

(1) (3)

60,000 100,000 (4) (5) (6)

Increase in accounts receivable Increase in inventory Decrease in accounts payable Increase in accrued

(7)

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20,000

20,000 60,000 20,000

240,000 120,000 780,000 420,000 320,000 1,880,000

Chapter 13 - Statement of Cash Flows expenses payable Investing activities: Cash paid to acquire PPE

(8)

140,000

(2)

20,000

Financing activities: Dividends paid Proceeds from Issuance of Notes payable Subtotals Net decrease in cash and cash equivalents Totals

(9)

60,000 240,000

_______ 260,000

(x)

20,000 260,000

260,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Analyze Difficulty: Hard Learning Objective: 13-09 Explain how a worksheet may be helpful in preparing a statement of cash flows. Topic: A Worksheet for Preparing a Statement of Cash Flows

159. Cash flows and accounting records In a business with an accrual-based accounting system, is a statement of cash flows based upon account balances shown in the adjusted trial balance? Explain. No. In an accrual-based accounting system, the balances in the revenue and expense accounts are based upon revenue earned and expenses incurred, not upon cash flows. Therefore, the balances of the ledger accounts must be adjusted to the cash basis in order to determine the items and amounts appearing in a statement of cash flows.

Note to instructor: In discussing this question in class, it should be pointed out that these adjustments to the accrual balances are made solely for the purpose of preparing the cash flow statement. They are not recorded in the accounting records as are end-of-period "adjusting entries." Many of the general ledger software packages include a routine that quickly prepares a statement of cash flows by adjusting the accrual-based data in the manner discussed in the text.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-01 Explain the purposes and uses of a statement of cash flows. Topic: Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

160. Significance of cash flows In the long run, is it more important for a business to have a positive cash flow from its operating activities, investing activities, or financing activities? Why? In the long run, it is most important for a business to have positive cash flows from operating activities. To a large extent, the ability of a business to generate positive cash flows from financing activities is dependent upon its ability to generate cash from operations. Investors are reluctant to invest money in a business that does not have an operating cash flow sufficient to assure interest and dividend payments. Also, a business cannot sustain a positive cash flow from investing activities over the long run. A company can only sell productive assets for a limited period of time. In fact, a successful and growing business will normally show a negative cash flow from investing activities, as the company normally is increasing its investment in property, plant, and equipment.

AACSB: Communications AICPA BB: Resource Management AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

161. Significance of cash flows Saxony Company is a relatively new business. In its first three years of operations, the company has recorded positive and increasing net cash from its operating activities. In each of these three years the company has also reported a loss on its income statement. Suggest at least one plausible explanation for these financial results. Given the losses in the first three years of operations, should investors be concerned about the solvency and future profitability of Saxony? Explain. In its first years of operations, Saxony would have acquired significant amounts of new equipment. Depreciation expense could have been large enough to generate operating losses. However, since this is a non-cash expense it would have had no impact on cash flows from operating activities. The company might also be experiencing non-operating losses due to its financing activities in early years of operations. Because Saxony has shown an ability to generate positive cash flows from operations, the business has demonstrated the ability to remain solvent. The prospects for future profitability are less clear. Again, however, the increasing cash flows from operations are consistent with strong customer demand and effective management of operating assets. Both of these factors would suggest positive earnings in the future.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Evaluate Difficulty: Hard Learning Objective: 13-08 Discuss the likely effects of various business strategies on cash flows. Topic: Managing Cash Flows

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Chapter 13 - Statement of Cash Flows

162. Differences between profit for the year and operating cash flow Identify three factors that may cause profit for the year to differ from the net cash from operating activities. Profit for the year may differ from the net cash from operating activities as a result of such factors as: (1) Depreciation and other "non-cash" expenses that enter into the determination of profit for the year. (2) Short-term timing differences between the cash basis and accrual basis of accounting. These include changes in the amounts of accounts receivable, inventories, prepaid expenses, accounts payable, and accrued liabilities. (3) Non-operating gains and losses which, although included in the measurement of profit for the year, are attributable to investing or financing activities rather than to operating activities.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-06 Explain why profit for the year differs from net cash from operating activities. Topic: Preparing a Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

163. The following information was obtained from the Champion Company for the year ending 31 December 2014.

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$289,000 $81,000 $58,000 $10,500 $936,000 $28,000 $116,000 $17,000 $16,000 $24,000 $4,600 $29,000 $1,781,000 $2,551,900

Chapter 13 - Statement of Cash Flows

Champion Company Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities:

$ 936,000

Cash receipts from customers Interest received

16,000 $ 952,000

Cash from operating activities

$ (289,000) (10,500) (28,000)

Cash paid to suppliers Interest paid Tax paid

(327,500) $ 624,500

Cash disbursed for operating activities Net cash from operating activities Cash flows from investing activities:

$ 17,000 (29,000) (58,000) 24,000

Collections of loans Loans to borrowers Purchases of equipment Proceeds from sales of equipment

(46,000)

Net cash used in investing activities: Cash flows from financing activities:

$ 116,000 81,000 (4,600)

Proceeds from long-term borrowing Proceeds from issuing ordinary shares Dividends paid

192,400

Net cash from financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, 1 January 2014 Cash and cash equivalents, 31 December 2014

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770,900 1,781,000 $ 2,551,900

Chapter 13 - Statement of Cash Flows

164. Place an X in the column signifying whether the activity is an operating, investing or a financing activity and if it is a source or a use of funds or if it is a non-cash activity.

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Chapter 13 - Statement of Cash Flows

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Bloom's: Understand Difficulty: Medium Learning Objective: 13-02 Describe how cash transactions are classified in a statement of cash flows. Topic: Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

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Chapter 13 - Statement of Cash Flows

$47,000 65,000

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Chapter 13 - Statement of Cash Flows

Essay Questions

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Chapter 13 - Statement of Cash Flows

$ _________

Cash from operating activities ........................................

$ $ _________

Cash disbursed for operating activities ........................... Net cash from operating activities............................... Cash flows from investing activities:

(_______) $ $ _________

Net cash used in investing activities ............................ Cash flows from financing activities:

(

)

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_______ $ _______ $______

Chapter 13 - Statement of Cash Flows

NUTRITIONAL FOODS Statement of Cash Flows For the Year Ended 31 December 2014 Cash flows from operating activities: Cash receipts from customers .................................................. Interest and dividends received................................................ Cash from operating activities .............................................. Cash paid to suppliers and employees ..................................... Interest paid .............................................................................. Income taxes paid .....................................................................

$ 1,502,000 49,500 $1,551,500 $(1,172,000) (66,000) (115,500)

Cash disbursed for operating activities ..................................

(1,353,500)

Net cash from operating activities ...........................................

$ 199,000

Cash flows from investing activities: Cash paid to acquire land ......................................................... Proceeds from sale of land .......................................................

$ (416,000) 58,000

Net cash used in investing activities ...................................... Cash flows from financing activities: Proceeds from issuing bonds payable ...................................... Payments to settle short-term debts ......................................... Proceeds from issuance of ordinary shares ............................. Dividends paid..........................................................................

(358,000)

99,000 (74,000) 347,000 (182,000)

Net cash from financing activities ......................................... Net increase (decrease) in cash ................................................... Cash and cash equivalents, beginning of year ............................ Cash and cash equivalents, end of year ......................................

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190,000 $

30,000 86,000 $ 116,000

Chapter 13 - Statement of Cash Flows

$ 65,000 120,000 95,000 100,000 140,000 $520,000

$ 35,000 110,000 70,000 100,000 80,000 $395,000

$1,650,000 840,000 260,000

25,000 20,000 15,000 60,000

How would this transaction be reported in Socrates Foods’s statement of cash flows? (Assume the direct method is being used.)

a (1)

$1,650,000 (sales) – $15,000 (increase in accounts receivable) = $1,635,000

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Chapter 13 - Statement of Cash Flows

(2)

$840,000 (cost of goods sold) + $10,000 (increase in inventory) - $30,000 (increase in accounts payable) = $820,000

(3)

$260,000 (wages expense) – $10,000 (increase in wages payable) = $250,000

(4)

$50,000 (Cash and cash equivalents were $120,000 at beginning of year and $170,000 at end of year.)

$25,000 proceeds from disposal of equipment, classified as an investing activity or $25,000 cash from investing activities.

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Chapter 13 - Statement of Cash Flows

CHAPTER 13 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

The statement of cash flows is designed to assist users in assessing each of the following, except: a The ability of a company to remain liquid. b The major sources of cash receipts during the period. c The company’s profitability. d The reasons why net cash from operating activities differs from profit for the year.

Which of the following is not included in the statement of cash flows or in a supplementary schedule accompanying the statement of cash flows? a Disclosure of investing or financing activities that did not involve cash. b A reconciliation of profit for the year to net cash from operating activities. c Disclosure of the amount of cash invested in money market funds during the accounting period. d The amount of cash and cash equivalents owned by the business at the end of the accounting period.

Cash flows are grouped in the statement of cash flows into the following major categories: a Operating activities, investing activities, and financing activities. b Cash receipts, cash disbursements, and noncash activities. c Direct cash flows and indirect cash flows. d Operating activities, investing activities, and collecting activities.

The following is a list of various cash payments and cash receipts: Cash paid to suppliers and employees...................................................... Dividends paid .......................................................................................... Interest paid ............................................................................................... Purchases of property, plant, and equipment ........................................... Interest and dividends received ............................................................... Payments to settle short-term bank loans ................................................. Income taxes paid ..................................................................................... Cash receipts from customers ................................................................... Based only upon the above items, net cash from operating activities is: a $138,000. b $91,000. c $120,000. d $163,000.

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$420,000 $18,000 $12,000 $45,000 $17,000 $29,000 $23,000 $601,000

Chapter 13 - Statement of Cash Flows

During the current year, two transactions were recorded in the Land account of Duke Industries. One involved a debit of $3,200,000 to the Land account; the second was a $2,100,000 credit to the Land account. Duke’s income statement for the year reported a loss on sale of land in the amount of $250,000. All transactions involving the Land account were cash transactions. These transactions would be shown in the statement of cash flows as: a $3,200,000 cash from investing activities and $2,100,000 cash disbursed for investing activities. b $1,850,000 cash from investing activities and $3,200,000 cash disbursed for investing activities. c $2,350,000 cash from financing activities and $3,200,000 cash disbursed for investing activities. d $2,100,000 cash from investing activities and $3,200,000 cash disbursed for investing activities.

Which of the following business strategies is most likely to increase the net cash flows of a software developer in the short run but reduce them over a longer term? a Develop software that is more costly to create but easier to update and improve. b Lower the price of existing versions of products as customer demand begins to fall. c Reduce expenditures for the purpose of developing new products. d Purchase the building in which the business operates (assume the company currently rents this location).

SOLUTIONS TO CHAPTER 13 SELF-TEST QUESTIONS FROM TEXTBOOK 1 c

2 c 3 a 4 d ($601,000 - $420,000 - $12,000 - $23,000 + $17,000)

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5 b 6 c

Chapter 14 - Financial Statement Analysis

Chapter 14 Financial Statement Analysis True / False Questions

1. Vertical analysis compares the results of financial information with a business in the same industry for a number of consecutive periods of time. True False

2. The quick ratio is especially useful in evaluating the liquidity of a company with fast moving inventories. True False

3. Deducting the cost of goods sold from profit gives us operating profit. True False

4. The gross profit rate is gross profit expressed as a percentage of net sales. True False

5. The gross profit rate usually is lowest on fast moving merchandise and highest on specialty and novelty products True False

6. When an income statement does not show gross profit or operating profit it is called a consolidated statement. True False

7. ROE - return on equity - is measured by dividing profit by average number of shares outstanding. True False

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Chapter 14 - Financial Statement Analysis

8. The yield rate on share is measured by dividing dividends per share by market price per share. True False

9. The trend in ratios is usually more useful than looking at a single year's ratio. True False

10. The acid test ratio includes marketable securities but does not include accounts receivable. True False

11. Comparative financial statements show side-by-side financial data for two or more companies. True False

12. The quality of earnings tends to be higher for a company that uses straight-line depreciation and defers costs whenever possible than for a company which uses accelerated depreciation and defers costs only when necessary. True False

13. If total current assets are $140,000 at the end of Year 1, increase by $50,000 by the end of Year 2, and increase by $50,000 in Year 3, the percentage increase over the preceding year is less in Year 3 than in Year 2. True False

14. Working capital is the excess of current assets over current liabilities. True False

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Chapter 14 - Financial Statement Analysis

15. A company's liquidity refers to its ability to remain profitable. True False

16. Inventory is an example of a quick asset. True False

17. Current assets are those assets that can be converted into cash within a year and never longer. True False

18. The debt ratio is computed by dividing total liabilities by current assets. True False

19. The lower the current ratio, the more liquid the company appears. True False

20. The owners of a corporation are not personally responsible for the debts of the business. True False

21. A single-step and multiple-step income statement are different in form and in the amount of profit reported. True False

22. A company whose sales are growing at less than the rate of inflation may actually be selling less merchandise every year. True False

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Chapter 14 - Financial Statement Analysis

23. A company cannot be increasing its market share if its net sales are declining. True False

24. Profit stated as a percentage of sales is one means of evaluating a company's ability to control its expenses. True False

25. A company whose future earnings are expected to rise substantially is likely to have a higher price/earnings ratio than a company whose future earnings are expected to decline. True False

26. From a creditor's point of view, the lower the debt ratio; the safer the creditors' position. True False

27. The price/earnings ratio is calculated by dividing earnings per share by the current market price of an ordinary share of the company. True False

28. If the return on total assets ratio is substantially below the cost of borrowing, ordinary shareholders will benefit from a high debt ratio. True False

29. The return on equity ratio may be either higher or lower than the return on assets ratio. True False

30. The current ratio may be less than, equal to, or greater than the quick ratio. True False

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Chapter 14 - Financial Statement Analysis

31. The inventory turnover rate indicates how quickly inventory sells. True False

32. In a single-step income statement, all revenue items are listed then all expense items are combined and deducted from total revenue. True False

33. In a classified balance sheet, assets are subdivided into current assets, plant and equipment and other assets, while liabilities are all classified as current. True False

34. The more pessimistic investors' expectations regarding a company's future performance the lower the price/earnings ratio is likely to be. True False

35. A company should carry the amount of working capital necessary to conduct operations not necessarily maximize its working capital. True False

Multiple Choice Questions

36. In order for investors and creditors to decide whether to invest in a company or loan a company funds they may A. Analyze financial statements. B. Focus on corporate governance. C. Both of the above. D. Neither of the above.

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Chapter 14 - Financial Statement Analysis

37. A comparative financial statement A. Places the balance sheet, the income statement and the statement of cash flows side by side in order to compare the results. B. Places two or more years of a financial statement side by side in order to compare results. C. Places the financial statements of two or more companies side by side in order to compare results. D. Places the dollar amounts next to the percentage amounts of a given year for the income statement.

38. The changes in financial statement items from a base year to following years are called: A. Money changes B. Trend percentages C. Component percentages D. Ratios

39. The measurement of the relative size of each item included in a total is called: A. Money changes B. Trend percentages C. Component percentages D. Ratios

40. One number expressed as a percentage of another is called: A. Money changes B. Trend percentages C. Component percentages D. Ratios

41. The excess of current assets over current liabilities is called: A. Current ratio B. Working capital C. Debt ratio D. Quick ratio

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Chapter 14 - Financial Statement Analysis

42. Quick assets include which of the following? A. Cash, investments in securities and receivables. B. Cash, investments in securities and inventories. C. Cash, inventories and receivables. D. Investments in securities, receivables and inventories.

43. The ratio which measures total liabilities as a percentage of total assets is called: A. Current ratio B. Working capital C. Debt ratio D. Quick ratio

44. The price/earnings ratio is measured by dividing A. Book value by earnings per share. B. Par value by earnings per share. C. Market value by earnings per share. D. Market value by total profit.

45. The principle factors affecting the quality of working capital are: A. The nature of the current assets. B. The length of time to convert current assets into cash. C. Both A and B. D. Neither A nor B.

46. All of the following ratios are considered measures of profitability except: A. Earnings per share B. Gross profit rate C. Price earnings ratio D. Return on assets

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Chapter 14 - Financial Statement Analysis

47. All of the following ratios are considered measures of liquidity except: A. Quick ratio B. Debt ratio C. Current ratio D. Receivables turnover rate

48. The term classified financial statements refers: A. To the financial statements of all companies working on government projects. B. Only to the financial statements of defense contractors working on secret projects. C. To financial statements prepared for use by management, but not for distribution outside of the organization. D. To financial statements in which items with certain characteristics are placed together in a group in an effort to develop useful subtotals.

49. Comparative financial statements compare the company's current statements with: A. Those of prior periods. B. Those of other companies in the same industry. C. Those of the company's principal competitor. D. The budgeted level of performance for the period.

50. Which of the following is not a measure of short-term liquidity? A. Quick ratio. B. Working capital. C. Current ratio. D. Debt ratio.

51. The current ratio will be _______________ the quick ratio. A. Less than. B. Greater than or equal to. C. The same as. D. Always different than.

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Chapter 14 - Financial Statement Analysis

52. Which of the following is not a measure of long-term credit risk? A. Quick ratio. B. Debt ratio. C. Interest coverage ratio. D. Trend in net cash provided by operating activities.

53. A high quality of earnings is indicated by: A. Earnings derived largely from newly introduced products. B. Declaration of both cash and stock dividends. C. Use of the FIFO method of inventory during sustained inflation. D. A history of increasing earnings and conservative accounting methods.

54. In evaluating the quality of a company's earnings, which of the following factors is least important? A. The accounting methods used by management. B. The trend of the company's earnings over a period of years. C. The dollar amount of earnings per share. D. The stability and sources of the company's earnings.

55. The measures most often used in evaluating solvency--the current ratio, quick ratio, and amount of working capital are developed from amounts appearing in the: A. Balance sheet. B. Income statement. C. Statement of changes in equity. D. Statement of cash flows.

56. Which of the following is not a measure of profitability? A. EPS. B. ROI. C. ROE. D. NLR.

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Chapter 14 - Financial Statement Analysis

57. Which American industry would tend to have the greatest debt ratio? A. Auto. B. Retail clothing. C. Manufacturing. D. Banking.

58. The current ratio: A. Is computed by dividing current assets by current liabilities. B. Is computed by subtracting current liabilities from current assets. C. Remains unchanged throughout the operating cycle. D. Is a measure of short-term profitability.

59. Component percentages indicate the relative size of each item included in a total. Which of the following statements is true? A. Income statement items are expressed as a percentage of profit and balance sheet items as a percentage of total assets. B. Income statement items are expressed as a percentage of sales and balance sheet items as a percentage of total assets. C. Income statement items are expressed as a percentage of profit and balance sheet items as a percentage of net worth. D. Both income statement and balance sheet items are expressed as a percentage of net worth.

60. How would a company's working capital be affected if a substantial amount of accounts payable were paid in cash? A. It would be unaffected. B. It would fall. C. It would increase. D. The change would depend on the relationship between the payables liquidated and current liabilities.

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Chapter 14 - Financial Statement Analysis

61. Current assets are those assets that can be converted into cash within: A. One year and never longer. B. One year or the operating cycle, whichever is longer. C. One year or the operating cycle, whichever is shorter. D. Management's discretion.

62. The current ratio is calculated by: A. Dividing current assets by total assets. B. Dividing current assets by total liabilities. C. Dividing current assets by shareholders' equity. D. Dividing current assets by current liabilities.

63. The quick ratio: A. Is computed by dividing current assets by current liabilities. B. Is always higher than the current ratio. C. Cannot be higher than the current ratio. D. May be higher or lower than the current ratio.

64. Short-term creditors are most likely to use the quick ratio instead of the current ratio in evaluating the solvency of a company with large, slow-moving: A. Plant and equipment. B. Receivables. C. Inventories. D. Employees.

65. Which of the following is considered a quick asset? A. Accounts receivable. B. Inventory. C. Automobiles. D. Prepaid expenses.

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Chapter 14 - Financial Statement Analysis

66. Which of the following transactions would cause a change in the amount of a company's working capital? A. Collection of an account receivable. B. Payment of an account payable. C. Borrowing cash over a 60-day period. D. Selling merchandise at a price above its cost.

67. The debt ratio indicates the percentage of: A. Total assets financed by long-term mortgages. B. Revenue consumed by interest expense. C. Total assets financed by creditors. D. Total liabilities classified as current.

68. The debt ratio is used primarily as a measure of: A. Short-term liquidity. B. Creditors' long-term risk. C. Profitability. D. Return on Investment.

69. Generally speaking, which appears to be a desirable current ratio? A. 20 to 1. B. 1 to 20. C. 2 to 1. D. 1 to 2.

70. All of the following captions or subtotals are typical of a multiple-step income statement except for: A. Net sales. B. Gross profit. C. Total costs and expenses. D. Operating profit.

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Chapter 14 - Financial Statement Analysis

71. When comparing the current ratio to the quick ratio: A. The current ratio will always be greater B. The quick ratio will always be greater C. The quick ratio is sometimes greater and sometimes less than the current ratio D. They always will be the same

72. The gross profit rate represents: A. Total sales revenue. B. The percentage change in net sales from the prior period. C. The percentage of sales revenue remaining after providing for the cost of the merchandise sold. D. Profit stated as a percentage of total sales revenue.

73. A rising gross profit rate most strongly suggests: A. An increase in physical sales volume. B. Strong consumer demand for the company's products. C. Intense competition. D. Increased short-term solvency.

74. Operating profit excludes each of the following, except: A. Interest expense. B. Income taxes. C. Depreciation. D. Prepaid expenses.

75. Assume that sales are increasing faster than the rate of inflation, and that the company's gross profit rate is rising. Of the following, the most logical conclusion is that: A. The company's cost of purchasing merchandise is rising rapidly. B. Operating expenses are falling. C. Demand for the company's products is very strong. D. The company has achieved an increase in sales volume by reducing its sales prices.

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Chapter 14 - Financial Statement Analysis

76. In calculating earnings per share, the denominator of the equation includes: A. Only ordinary shares outstanding. B. Ordinary shares plus preference shares. C. Ordinary shares less preference shares. D. The total shares of authorized ordinary shares.

77. On common size income statements, each component in the income statement is represented as a percentage of: A. Profit. B. Sales. C. Total assets. D. Profit.

78. In a multiple-step income statement, interest expense usually is not classified as an operating expense because interest charges: A. Do not contribute to the production of revenue. B. Stem from the manner in which assets are financed, not the manner in which they are used in business operations. C. Relate directly to the cost of goods sold. D. The statement is incorrect. Interest usually is classified as an operating expense.

79. In a multiple-step income statement, income taxes are not classified as operating expenses because: A. Income taxes do not contribute to the production of revenue. B. Income taxes stem from the manner in which assets are financed, not the manner in which they are used in business operations. C. Not all forms of business organization are subject to income taxes. D. The statement is incorrect; income taxes are classified as operating expenses.

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Chapter 14 - Financial Statement Analysis

80. Traditionally, shares of financially sound companies with stable earnings usually have a price/earnings ratio of: A. 90. B. 12. C. 1/4. D. 3.

81. Return on equity computations are used in evaluating: A. Liquidity. B. Profitability. C. Gross profit. D. Whether a ratio is improving or deteriorating over time.

82. The financial ratio intended to measure the effectiveness with which management has utilized the resources of the business, regardless of how these resources are financed, is: A. Gross profit rate. B. Current ratio. C. Return on assets. D. Return on equity.

83. The return on assets ratio usually is computed as: A. Sales divided by average total assets. B. Gross profit divided by average total assets. C. Operating profit divided by average total assets. D. Profit divided by average total assets.

84. If a company has a current ratio of 2 to 1, and purchases inventory on credit, what will this do to its current ratio? A. Increase the current ratio. B. Decrease the current ratio. C. Does not change the current ratio. D. Cannot be determined.

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Chapter 14 - Financial Statement Analysis

85. The return on equity ratio usually is computed as: A. Profit divided by average total assets. B. Operating profit divided by average total shareholders' equity. C. Gross profit divided by average total shareholders' equity. D. None of the above answers is correct.

86. The measurement that best reflects investors' expectations about future earnings is: A. Earnings per share. B. Return on assets. C. The price/earnings ratio. D. Return on equity.

87. The interest coverage ratio is computed by dividing: A. Operating profit by annual interest expense. B. Profit by annual interest expense. C. Carrying value of bonds by cash interest payments. D. Earnings per share by the prime interest rate.

88. Amalgamated Corporation's profit was $2,400,000 in 2009 and $800,000 in 2010. What percentage increase in profit must Amalgamated achieve in 2011 to offset the decline in profits in 2010? A. 75%. B. 300%. C. 33.33%. D. 800%.

89. If a retail store has a current ratio of 2.5 and current assets of $195,000, the amount of working capital is: A. $78,000. B. $380,000. C. $330,000. D. $117,000.

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Chapter 14 - Financial Statement Analysis

90. The Plaza Company has working capital of $540,000 and a current ratio of 3 to 1. The amount of current assets is: A. $405,000. B. $540,000. C. $810,000. D. $270,000.

91. During the years 2009 through 2011, Powers Limited, reported the following amounts of profit (dollars in thousands):

Relative to the prior year, the percentage change in profit: A. Was the same in 2010 and 2011. B. Was larger in 2011 than in 2010. C. Was smaller in 2011 than in 2010. D. Cannot be determined without knowing how many shares were outstanding.

Shown below are selected data from the balance sheet of Compros, a small electronics store (dollar amounts are in thousands):

92. Refer to the above data. What is the quick ratio? A. 1.5 to 1. B. .7 to 1. C. .45 to 1. D. Some other amount.

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Chapter 14 - Financial Statement Analysis

93. Refer to the above data. What is the current ratio? A. 5.0 to 1. B. 1.5 to 1. C. .7 to 1. D. Some other amount.

94. Refer to the above data. What is working capital amounts to: A. $225,000. B. $300,000. C. $150,000. D. Some other amount.

95. Refer to the above data. What is Compro's debt ratio? A. 75%. B. 25%. C. 60%. D. Some other amount.

Shown below are selected data from the balance sheet of Bill's Auto Parts, a retail store (dollar amounts are in thousands):

96. Refer to the above data. What is the quick ratio? A. 5%. B. 1.5 to 1. C. 20%. D. Some other amount.

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Chapter 14 - Financial Statement Analysis

97. Refer to the above data. What is the current ratio? A. 1.2 to 1. B. Less than 2 to 1, but not 1.2 to 1. C. 2.6 to 1. D. More than 2 to 1, but not 2.6 to 1.

98. Refer to the above data. Working capital amounts to: A. $560,000 B. $530,000 C. $270,000 D. Some other amount.

99. Refer to the above data. Bill's debt ratio is: A. 22%. B. 27%. C. 57%. D. Some other amount.

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Chapter 14 - Financial Statement Analysis

Shown below are selected data from the financial statements of Supreme Co. Dollar amounts are in millions (except for the per share data).

Income statement data: Sales Cost of goods sold Operating expenses Profit

$1,230 520 440 $390

Balance sheet data: Average total equity Average total assets

$2,400 $4,000

Per share data (these amounts stated in actual dollars, not millions): Supreme reported earnings per share for the year of $4 and paid cash dividends of $1 per share. At year end, the Wall Street Journal listed Supreme's shares as trading at $88 per share.

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Chapter 14 - Financial Statement Analysis

100. Refer to the above data. Supreme's gross profit rate was: A. 42.9%. B. 57.7%. C. 20.0%. D. Some other amount.

101. Refer to the above data. What was Supreme's operating profit? (in millions): A. $710. B. $390. C. $270. D. Some other amount.

102. Refer to the above data. Supreme's return on assets was: A. 10%. B. 6.75%. C. 15%. D. Some other percentage.

103. Refer to the above data. Supreme's return on equity was: A. 11%. B. 25%. C. 7.5%. D. 16.3%.

104. Refer to the above data. Supreme's price/earnings ratio at year end was: A. 25. B. 22. C. 100. D. Some other amount.

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Chapter 14 - Financial Statement Analysis

Shown below are selected data from the financial statements of Noble Computers. (Dollar amounts are in millions, except for the per share data.)

Income statement data: Sales Cost of goods sold Operating expenses Profit

$3,500 1,890 675 $115

Balance sheet data: Average total equity Average total assets

$540 $4,400

Per share data (these amounts stated in actual dollars, not millions): Noble reported earnings per share for the year of $6 and paid cash dividends of $2.00 per share. At year end, the Wall Street Journal listed Noble's shares as trading at $81 per share.

105. Refer to the above data. Noble's price/earnings ratio at year end was: A. .7. B. 13.5. C. 17. D. Some other amount.

106. Refer to the above data. Noble's gross profit rate was: A. 18%. B. 46%. C. 50%. D. Some other amount.

107. Refer to the above data. Noble's operating profit was: A. $1,610. B. $675 C. $935. D. Some other amount.

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Chapter 14 - Financial Statement Analysis

108. Refer to the above data. Noble's return on assets was: A. 2.6% B. 21%. C. 26%. D. Some other amount.

109. Refer to the above data. Noble's return on equity was: A. 10%. B. 13%. C. 21%. D. Some other amount.

Given below are comparative balance sheets and an income statement for Claret Corporation

Claret Corporation

Balance Sheets – 2009

Income Statement

Equipment (net) Inventory Accounts receivable Cash Accounts payable

Dividends payable Long-term note payable Share capital, $5 par Retained earnings

Dec.31 Jan. 1 $ 57,200 $66,300 32,500 36,400 46,800 37,700 15,600 15,600 $152,100 $156,000 26,000 28,600

For the year ended 2009 Sales $228,800 Cost of goods sold (137,540) Gross profit on sales $ 91,260 Operating expenses (75,868) Operating profit $ 15,392 Interest expense and (9,100) income taxes Profit $ 6,292

7,800 3,900 14,300 14,300 72,800 72,800 31,200 36,400 $152,100 $156,000

All sales were made on account. Cash dividends declared during the year totaled $11,492

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Chapter 14 - Financial Statement Analysis

110. Refer to the above data. Claret Corporation's accounts receivable turnover for 2009 is: A. 4.6 times. B. 2.9 times. C. 5.4 times. D. 68 days.

111. Refer to the above data. Claret Corporation's inventory turnover for 2009 is: A. 6.6 times. B. 3.9 times. C. 4.1 times. D. 94 days.

112. Refer to the above data. Claret Corporation's gross profit rate for 2009 is: A. 60.1%. B. 39.9%. C. 33%. D. 68%.

113. Refer to the above data. Claret Corporation's return on assets for 2009 rounded to the nearest tenth of a percent is: A. 9.9%. B. 4.1%. C. 5.9%. D. 16.9%.

114. Refer to the above data. Claret Corporation's return on ordinary shareholders' equity for 2009, rounded to the nearest tenth of a percent, is: A. 5.9%. B. 6.05%. C. 14.4%. D. 9.4%.

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Chapter 14 - Financial Statement Analysis

115. In an attempt to standardize financial practices worldwide, two areas of particular interest to the International Accounting Standards Committee are: A. Capitalizing and expensing B. Segments and consolidations C. Pensions and Leases D. Partnerships and corporation

116. An organization that provides ratings of corporate governance services is: A. SEC B. ISS C. IRS D. IBM

Essay Questions

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Chapter 14 - Financial Statement Analysis

117. Accounting terminology Listed below are eight technical accounting terms introduced in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. For each statement, indicate the term described, or answer "None" if the statement does not correctly describe any of the terms. (a) The percentage of total assets financed by creditors. (b) A measure of the effectiveness with which management utilizes a company's resources, regardless of how those resources are financed. (c) A company's percentage share of total dollar sales within its industry. (d) Current assets less current liabilities. (e) A measure reflecting investors expectations of future profitability. (f) A measure of short-term solvency often used when a company has large inventories that cannot be quickly converted into cash. (g) A ratio that helps individual shareholders relate the profit of a large corporation to their equity investment.

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Chapter 14 - Financial Statement Analysis

118. Current ratio and working capital The balance sheet of Red Missile Company contained the following items, among others:

Cash Accounts Receivable Inventory Store Equipment (net) Other Assets Mortgage Payable (due in 3 years) Note Payable (due in 10 days) Accounts Payable Share Capital Retained Earnings

$18000 $84,000 $124,000 $236,000 $67,500 $169,000 $163,000 $96,000 $67,500 $197,000

(a) From the above information compute: (1) Current assets: $_______ (2) Current liabilities: $______ (3) The current ratio: ______ to 1 (4) Working capital: $______ (b) Assume that Red Missile Company pays the note payable of $163,000, thus reducing cash to $17,000. Compute the following after the completion of this transaction: (1) The current ratio: ______ to 1 (2) Working capital: $______

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Chapter 14 - Financial Statement Analysis

119. Measures of solvency and credit risk Shown below are selected items appearing in a recent balance sheet of Grant Products. (Dollar amounts are in thousands.)

Cash and cash equivalents Investments in securities Receivables Inventories Prepaid expense and other current assets Plant and equipment Accounts payable Bank loans payable within one year Income taxes payable Retained Earnings

$620 $300 $1,400 $1,100 $450 $3,300 $1,600 $300 $300 $1700

(a) Compute the following: (1) Total quick assets $____________ (2) Total current assets $____________ (3) Total current liabilities $____________ (4) Quick ratio ______ to 1 (5) Current ratio ______ to 1 (b) Research indicates an industry average quick ratio is 1.3 to 1, and a current ratio of 2.3 to 1. Based upon this information, does Grant Products appear more or less solvent than the average company in its industry? Explain briefly.

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Chapter 14 - Financial Statement Analysis

120. Multiple-step income statement Shown below is a recent income statement for Phaeton, Inc.:

PHAETON LIMITED Income Statement For the Year Ended December 31, 2010 Sales Cost and expenses: Cost of goods sold Operating expenses Interest expense Profit before income taxes Income taxes Profit

$6,000,000 $(4,200,000) (900,000) (150,000)

($5,250,000) $ 750,000 (360,000) $ 390,000

Prepare an income statement for the year in a multiple-step format. (Use the grid provided below.)

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Chapter 14 - Financial Statement Analysis

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Chapter 14 - Financial Statement Analysis

121. Return on investment Shown below are selected data from a recent annual report of Quality Service. (Dollar amounts are in millions.)

Beginning of the Year $6,000 $3,200

Total assets Total shareholders’ equity Operating profit Profit

Compute for the year:

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End of the Year $6,600 $3,700 $2,000 $1,900

Chapter 14 - Financial Statement Analysis

122. Computation of profitability ratios Shown below are selected data from a recent annual report of Tall Oaks Co. (Dollar amounts are in thousands.)

Beginning of the Year $7,400 $3,900

Total assets Total shareholders’ equity Sales Gross profit Operating profit Profit

Compute for the year the company's:

(a) (b) (c)

Gross profit rate. Return on average total assets Return on average total shareholders’ equity

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______% ______% ______%

End of the Year $8,100 $4,600 $14,000 $5,000 $1,400 $1,000

Chapter 14 - Financial Statement Analysis

123. Profitability measures Shown below is a recent income statement for B-D Electric.

B-D ELECTRIC Income Statement For the Year Ended January 31, 2010 Sales Less: Cost of goods sold Gross profit Interest expense Profit before income taxes Less: Non-operating expenses: Interest expense Income taxes expense Profit

$7,500,000 4,100,000 $3,400,000 1,975,000 $1,425,000 $175,000 280,000

455,000 $ 970,000

Assume that comparative balance sheets for B-D Electric indicate average total assets for the year of $2,500,000, and average total equity of $2,050,000. Compute the following:

(a) (b) (c) (d)

Gross profit rate. Profit as a percentage of sales Return on assets Return on equity

______% ______% ______% ______%

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Chapter 14 - Financial Statement Analysis

124. Percentage changes Selected information from the financial statements of Perfectly Baked Cake Co. appears below:

2011 $1,692,000 1,470,000 $222,000

Sales Total expenses Profit

2010 $1,600,000 1,520,000 $80,000

(a) Compute the percentage change in each of the above items from 2010 to 2011. Use a + or to indicate increase or decrease.

Sales Total expenses Profit

_________% _________% _________%

(b) Compute profit as a percentage of net sales in each year. (Round to the nearest one-tenth of 1%)

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Chapter 14 - Financial Statement Analysis

125. Percentage changes; p/e ratios and investors' expectations Shown below are Gamma Limited's earnings per share for a four-year period, along with the per-share market price of the company's shares at each year-end. The earnings in 2011 were the highest in the company's history.

Earnings per share Percentage change Year-end share price Price/earnings ratio

2011 $9 __% $72 ___

2010 $7 __% $140 ___

2009 $6 __% $56 ___

2008 $5 __% $50 ___

(a) Compute the percentage change in earnings per share in 2009, 2010, and 2011. (Place your answers in the spaces provided above.) (b) Compute the p/e ratio of shares at the end of each of the four years. (Place your answers in the spaces provided above.) (c) What does the p/e ratio at the end of 2011 indicate about investors' expectations of earnings per share for the coming year? Explain your reasoning.

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Chapter 14 - Financial Statement Analysis

126. Effects of events on financial measurements Indicate the probable effects of each of the following strategies or events upon the financial measurements of Lindsay Corp. listed below. Use the code letters I = Increase, D = Decrease, and NE = No Effect.

(a) A supplier raised by 3% the purchase price of several products sold by Lindsay. Lindsay did not change its sales prices for these products. Gross profit rate ____ Current liabilities ____ (b) Lindsay began purchasing larger than normal quantities from a particular supplier in order to receive a “ volume discount.” Gross profit rate ____ Quick ratio ____ (c) Lindsay has consistently earned a return on assets of 15%. Recently the company borrowed money at an interest rate of 10% to expand its operations. Lindsay expencts its investment of these borrowed funds to earn a return (operating profit) of 20%. Return on assets ____ Debt Ratio ____ (d) Lindsay extended the credit term allowed to customers buying merchandise on account from 30 days to 90 days. Sales ____ Cash collected from customers: Dollar amount of gross profit ( over the next 90 days) ____ Dollar amount of gross profit (after the next 90 days) _____

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Chapter 14 - Financial Statement Analysis

127. Financial ratios Shown below are some key figures from the balance sheets of Minuteman Gas Company for two successive years:

Total assets (of which 30% are current) Current liabilities Bonds payable (long term) Share capital, $6 par value Retained Earnings

December 31, 2010 December 31, 2009 $2,820,000 $2,220,000 $336,000 $372,000 $1,080,000 $840,000 $660,000 $660,000 $828,000 $480,000

Dividends of $96,000 were declared and paid in 2010. Compute the following:

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Chapter 14 - Financial Statement Analysis

128. Financial ratios Given below are comparative balance sheets and an income statement for the Excellent Corporation:

Excellent Corporation

Balance Sheets – 2009

Income Statement for the year ended 2009

Cash Accounts receivable Inventory Equipment (net)

Dec.31 $ 34,000 94,000 68,000 114,000 310,000

Jan. 1 $ 34,000 78,000 74,000 132,000 318,000

Accounts payable

54,000

60,000

Dividends payable Long-term note payable Share capital, $10 par Retained earnings

20,000 12,000 32,000 32,000 140,000 140,000 64,000 74,000 310,000 $318,000

Sales Cost of goods sold Gross profit on sales Operating expenses Operating profit Interest expense and income taxes Profit

$524,000 (328,000) $ 196,000 (118,700) $ 77,300 (28,750) $ 48,550

All sales were made on account. Cash dividends declared during the year totaled $58,550. Compute the following:

(a) Average accounts receivable turnover (b) Average inventory turnover (c)Earnings per share capital (d) book value per share capital at year-end (e) Current ratio at year-end (f) Quick ratio at beginning of year (g) Debt ratio at year-end (h) Operating expense ratio (i) Return on assets (j) Return on ordinary shareholders’ equity

________times ________times $________ $________ ________to 1 ________to 1 ________% ________% ________% ________%

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Chapter 14 - Financial Statement Analysis

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Chapter 14 - Financial Statement Analysis

129. Effects of transactions upon analytical measurements Determine the immediate effect of each of the transactions described below on the ratio listed beside each transaction. In the blank space to the left of each statement, you are to indicate the effect by writing the appropriate code letter. The code letters are as follows: I = increase the ratio, D = decrease the ratio, and NE = no effect on this ratio.

______ ______ ______ ______ ______ ______ ______ ______

Return on ordinary shareholders’ equity (13%): Issued 10% bonds and invested the proceeds to earn 12%. Return on total assets(13%): Issued 10% bonds and invested the proceeds to earn 12% Accounts receivable turnover ratio (4 times): Shortened credit period from 60 days to 30 days and raised standards for accepting credit customers. Earnings per ordinary share($6.25): Sold ordinary shares held in the treasury at a price above cost Inventory turnover (4 times): Made large purchases increasing the average size of inventory. Current ratio (2.1 to 1): Collected a large account receivable Quick ratio: Wrte off an uncollectible account receivable against the allowance account. Debt ratio: Declared a cash dividend, to be paid in three months

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Chapter 14 - Financial Statement Analysis

130. Use and interpretation of financial measurements Shown below are various financial measurements for two companies which are similar in size and sell similar products:

Instructions: You are to enter code letters in the spaces provided in the two right-hand columns. In the first column, indicate which of the following three groups probably would be most interested in the specified financial measurement. Identify one group, using the following code letters: STC = indicating short-term creditors, LTC = indicating long-term creditors, and S = indicating shareholders. In the second column, enter an X or a Y to indicate whether your "most interested group" would prefer the measurement results reported by Co. X or Co. Y. Consider each financial measurement independently of the others.

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Chapter 14 - Financial Statement Analysis

132. ROI: What and why? In general terms, what do all "ROI" ratios measure? Why are such computations useful?

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Chapter 14 - Financial Statement Analysis

135. Below is a number of ratios. Match the computation to one of the ratios. If there is no match fill in "none"

(a.) Profit - preference shares dividends divided by average number of ordinary shares outstanding. (b.) Net sales divided by average accounts receivable (c.) Operating profit divided by average total assets (d.) Current assets divided by current liabilities (e.) Annual dividend divided by current share price (f.) Current assets minus current liabilities (g.) Total liabilities divided by total assets (h.) Profit divided by average total equity (i.) Ordinary shareholder's equity divided by shares of ordinary shares outstanding. (j.) Current share price divided by earnings per share

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Chapter 14 - Financial Statement Analysis

136. The following information is available for the Grant Company for 2010:

Sales $1,200,000 Profit $600,000 Market price per ordinary share $32 Dividend per ordinary share $1.80 Ordinary shares authorized Par value $10 $100,000 Average ordinary shares Outstanding 50,000 7% $100 par preference share Authorized $70,000 Preference share outstanding $30,000 Average total shareholders’ equity $160,000 Market price per preference share $118

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Chapter 14 - Financial Statement Analysis

Chapter 14 Financial Statement Analysis Answer Key

True / False Questions

1. Vertical analysis compares the results of financial information with a business in the same industry for a number of consecutive periods of time. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Learning Objective: 1

2. The quick ratio is especially useful in evaluating the liquidity of a company with fast moving inventories. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 4

3. Deducting the cost of goods sold from profit gives us operating profit. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 14 - Financial Statement Analysis

4. The gross profit rate is gross profit expressed as a percentage of net sales. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

5. The gross profit rate usually is lowest on fast moving merchandise and highest on specialty and novelty products TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

6. When an income statement does not show gross profit or operating profit it is called a consolidated statement. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 5

7. ROE - return on equity - is measured by dividing profit by average number of shares outstanding. FALSE

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

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Chapter 14 - Financial Statement Analysis

8. The yield rate on shares is measured by dividing dividends per share by market price per share. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

9. The trend in ratios is usually more useful than looking at a single year's ratio. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

10. The acid test ratio includes marketable securities but does not include accounts receivable. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

11. Comparative financial statements show side-by-side financial data for two or more companies. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 14 - Financial Statement Analysis

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

14. Working capital is the excess of current assets over current liabilities. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

15. A company's liquidity refers to its ability to remain profitable. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 14 - Financial Statement Analysis

16. Inventory is an example of a quick asset. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

17. Current assets are those assets that can be converted into cash within a year and never longer. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

18. The debt ratio is computed by dividing total liabilities by current assets. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

19. The lower the current ratio, the more liquid the company appears. FALSE

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Risk Analysis Learning Objective: 4

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Chapter 14 - Financial Statement Analysis

20. The owners of a corporation are not personally responsible for the debts of the business. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

21. A single-step and multiple-step income statement are different in form and in the amount of profit reported. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

22. A company whose sales are growing at less than the rate of inflation may actually be selling less merchandise every year. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

23. A company cannot be increasing its market share if its net sales are declining. FALSE

AACSB: Analytic AICPA BB: Marketing AICPA FN: Measurement Learning Objective: 6

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Chapter 14 - Financial Statement Analysis

24. Profit stated as a percentage of sales is one means of evaluating a company's ability to control its expenses. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

25. A company whose future earnings are expected to rise substantially is likely to have a higher price/earnings ratio than a company whose future earnings are expected to decline. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

26. From a creditor's point of view, the lower the debt ratio; the safer the creditors' position. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

27. The price/earnings ratio is calculated by dividing earnings per share by the current market price of an ordinary share of the company. FALSE

AACSB: Reflective Thinking AICPA BB: Industry AICPA FN: Measurement Learning Objective: 5

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Chapter 14 - Financial Statement Analysis

28. If the return on total assets ratio is substantially below the cost of borrowing, ordinary shareholders will benefit from a high debt ratio. FALSE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

29. The return on equity ratio may be either higher or lower than the return on assets ratio. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

30. The current ratio may be less than, equal to, or greater than the quick ratio. FALSE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

31. The inventory turnover rate indicates how quickly inventory sells. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

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Chapter 14 - Financial Statement Analysis

32. In a single-step income statement, all revenue items are listed then all expense items are combined and deducted from total revenue. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

33. In a classified balance sheet, assets are subdivided into current assets, plant and equipment and other assets, while liabilities are all classified as current. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3 Learning Objective: 4

34. The more pessimistic investors' expectations regarding a company's future performance the lower the price/earnings ratio is likely to be. TRUE

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

35. A company should carry the amount of working capital necessary to conduct operations not necessarily maximize its working capital. TRUE

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 4

Multiple Choice Questions

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Chapter 14 - Financial Statement Analysis

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

38. The changes in financial statement items from a base year to following years are called: A. Money changes B. Trend percentages C. Component percentages D. Ratios

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Chapter 14 - Financial Statement Analysis

39. The measurement of the relative size of each item included in a total is called: A. Money changes B. Trend percentages C. Component percentages D. Ratios

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

40. One number expressed as a percentage of another is called: A. Money changes B. Trend percentages C. Component percentages D. Ratios

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 7

41. The excess of current assets over current liabilities is called: A. Current ratio B. Working capital C. Debt ratio D. Quick ratio

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 14 - Financial Statement Analysis

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

43. The ratio which measures total liabilities as a percentage of total assets is called: A. Current ratio B. Working capital C. Debt ratio D. Quick ratio

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

44. The price/earnings ratio is measured by dividing A. Book value by earnings per share. B. Par value by earnings per share. C. Market value by earnings per share. D. Market value by total profit.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 14 - Financial Statement Analysis

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

46. All of the following ratios are considered measures of profitability except: A. Earnings per share B. Gross profit rate C. Price earnings ratio D. Return on assets

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

47. All of the following ratios are considered measures of liquidity except: A. Quick ratio B. Debt ratio C. Current ratio D. Receivables turnover rate

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 14 - Financial Statement Analysis

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 3

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

50. Which of the following is not a measure of short-term liquidity? A. Quick ratio. B. Working capital. C. Current ratio. D. Debt ratio.

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 4

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Chapter 14 - Financial Statement Analysis

51. The current ratio will be _______________ the quick ratio. A. Less than. B. Greater than or equal to. C. The same as. D. Always different than.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

52. Which of the following is not a measure of long-term credit risk? A. Quick ratio. B. Debt ratio. C. Interest coverage ratio. D. Trend in net cash provided by operating activities.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 2

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Chapter 14 - Financial Statement Analysis

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Risk Analysis Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

56. Which of the following is not a measure of profitability? A. EPS. B. ROI. C. ROE. D. NLR.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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Chapter 14 - Financial Statement Analysis

57. Which American industry would tend to have the greatest debt ratio? A. Auto. B. Retail clothing. C. Manufacturing. D. Banking.

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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Chapter 14 - Financial Statement Analysis

AACSB: Analytic AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 14 - Financial Statement Analysis

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

65. Which of the following is considered a quick asset? A. Accounts receivable. B. Inventory. C. Automobiles. D. Prepaid expenses.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

68. The debt ratio is used primarily as a measure of: A. Short-term liquidity. B. Creditors' long-term risk. C. Profitability. D. Return on Investment.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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69. Generally speaking, which appears to be a desirable current ratio? A. 20 to 1. B. 1 to 20. C. 2 to 1. D. 1 to 2.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

70. All of the following captions or subtotals are typical of a multiple-step income statement except for: A. Net sales. B. Gross profit. C. Total costs and expenses. D. Operating profit.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

74. Operating profit excludes each of the following, except: A. Interest expense. B. Income taxes. C. Depreciation. D. Prepaid expenses.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

77. On common size income statements, each component in the income statement is represented as a percentage of: A. Profit. B. Sales. C. Total assets. D. Profit.

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

80. Traditionally, shares of financially sound companies with stable earnings usually have a price/earnings ratio of: A. 90. B. 12. C. 1/4. D. 3.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

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81. Return on equity computations are used in evaluating: A. Liquidity. B. Profitability. C. Gross profit. D. Whether a ratio is improving or deteriorating over time.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Resource Management AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

86. The measurement that best reflects investors' expectations about future earnings is: A. Earnings per share. B. Return on assets. C. The price/earnings ratio. D. Return on equity.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

89. If a retail store has a current ratio of 2.5 and current assets of $195,000, the amount of working capital is: A. $78,000. B. $380,000. C. $330,000. D. $117,000. $195,000 - ($195,000/2.5) = $117,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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90. The Plaza Company has working capital of $540,000 and a current ratio of 3 to 1. The amount of current assets is: A. $405,000. B. $540,000. C. $810,000. D. $270,000. 3CL - CL = $540,000: CL = $270,000; CA = $810,000

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91. During the years 2009 through 2011, Powers Limited, reported the following amounts of profit (dollars in thousands):

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

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Shown below are selected data from the balance sheet of Compros, a small electronics store (dollar amounts are in thousands):

92. Refer to the above data. What is the quick ratio? A. 1.5 to 1. B. .7 to 1. C. .45 to 1. D. Some other amount. ($75 + $135)/$300 = .7

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93. Refer to the above data. What is the current ratio? A. 5.0 to 1. B. 1.5 to 1. C. .7 to 1. D. Some other amount. ($75 + $135 + $240)/$300 = 1.5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

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94. Refer to the above data. What is working capital amounts to: A. $225,000. B. $300,000. C. $150,000. D. Some other amount. $450 - $300 = $150

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

95. Refer to the above data. What is Compro's debt ratio? A. 75%. B. 25%. C. 60%. D. Some other amount. $675/$900 = 75%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

Shown below are selected data from the balance sheet of Bill's Auto Parts, a retail store (dollar amounts are in thousands):

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96. Refer to the above data. What is the quick ratio? A. 5%. B. 1.5 to 1. C. 20%. D. Some other amount. ($130 + $370)/$340 = 1.47

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

97. Refer to the above data. What is the current ratio? A. 1.2 to 1. B. Less than 2 to 1, but not 1.2 to 1. C. 2.6 to 1. D. More than 2 to 1, but not 2.6 to 1. ($130 + $370 + $400) /$340 = 2.65

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

98. Refer to the above data. Working capital amounts to: A. $560,000 B. $530,000 C. $270,000 D. Some other amount. ($130 + $370 + $400) - $340 = $560

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

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99. Refer to the above data. Bill's debt ratio is: A. 22%. B. 27%. C. 57%. D. Some other amount. ($340 + $280)/$1260 = 49%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

Shown below are selected data from the financial statements of Supreme Co. Dollar amounts are in millions (except for the per share data).

Income statement data: Sales Cost of goods sold Operating expenses Profit

$1,230 520 440 $390

Balance sheet data: Average total equity Average total assets

$2,400 $4,000

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100. Refer to the above data. Supreme's gross profit rate was: A. 42.9%. B. 57.7%. C. 20.0%. D. Some other amount. $1,230 - $520 = $710; $710/$1,230 = 57.7%

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101. Refer to the above data. What was Supreme's operating profit? (in millions): A. $710. B. $390. C. $270. D. Some other amount. $1,230 - $520 - $440 = $270

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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102. Refer to the above data. Supreme's return on assets was: A. 10%. B. 6.75%. C. 15%. D. Some other percentage. $230/$4,000 = .6%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

103. Refer to the above data. Supreme's return on equity was: A. 11%. B. 25%. C. 7.5%. D. 16.3%. $390/$2,400 = 16.3%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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104. Refer to the above data. Supreme's price/earnings ratio at year end was: A. 25. B. 22. C. 100. D. Some other amount. $88/$4 = 22

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

Shown below are selected data from the financial statements of Noble Computers. (Dollar amounts are in millions, except for the per share data.)

Income statement data: Sales Cost of goods sold Operating expenses Profit

$3,500 1,890 675 $115

Balance sheet data: Average total equity Average total assets

$540 $4,400

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105. Refer to the above data. Noble's price/earnings ratio at year end was: A. .7. B. 13.5. C. 17. D. Some other amount. $81/$6 = 13.5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

106. Refer to the above data. Noble's gross profit rate was: A. 18%. B. 46%. C. 50%. D. Some other amount. ($3,500 - $1,890)/$3,500 = 46%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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107. Refer to the above data. Noble's operating profit was: A. $1,610. B. $675 C. $935. D. Some other amount. $3,500 - $1,890 - $675 = $935

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

108. Refer to the above data. Noble's return on assets was: A. 2.6% B. 21%. C. 26%. D. Some other amount. $935/$4,400 = 21%

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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109. Refer to the above data. Noble's return on equity was: A. 10%. B. 13%. C. 21%. D. Some other amount. $115/$540 = 21%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

Given below are comparative balance sheets and an income statement for Claret Corporation

Claret Corporation

Balance Sheets – 2009

Income Statement

Equipment (net) Inventory Accounts receivable Cash Accounts payable

Dividends payable Long-term note payable Share capital, $5 par Retained earnings

Dec.31 Jan. 1 $ 57,200 $66,300 32,500 36,400 46,800 37,700 15,600 15,600 $152,100 $156,000 26,000 28,600

7,800 3,900 14,300 14,300 72,800 72,800 31,200 36,400 $152,100 $156,000

All sales were made on account. Cash dividends declared during the year totaled $11,492

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110. Refer to the above data. Claret Corporation's accounts receivable turnover for 2009 is: A. 4.6 times. B. 2.9 times. C. 5.4 times. D. 68 days. $228,800/ [($46,800 + $37,700)/2] = 5.4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

111. Refer to the above data. Claret Corporation's inventory turnover for 2009 is: A. 6.6 times. B. 3.9 times. C. 4.1 times. D. 94 days. 137,540/[(32,500 + 36,400)/2] = 3.99

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

112. Refer to the above data. Claret Corporation's gross profit rate for 2009 is: A. 60.1%. B. 39.9%. C. 33%. D. 68%. $91,260/$228,800 = 39.9%

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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113. Refer to the above data. Claret Corporation's return on assets for 2009 rounded to the nearest tenth of a percent is: A. 9.9%. B. 4.1%. C. 5.9%. D. 16.9%. $15,392/[(($152,100 + $156,000)/2)] = 9.9%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

114. Refer to the above data. Claret Corporation's return on ordinary shareholders' equity for 2009, rounded to the nearest tenth of a percent, is: A. 5.9%. B. 6.05%. C. 14.4%. D. 9.4%. $6,292/[($104,000 + $109,200)/2] = 5.9%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

116. An organization that provides ratings of corporate governance services is: A. SEC B. ISS C. IRS D. IBM

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 4 Learning Objective: 7

Essay Questions

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117. Accounting terminology Listed below are eight technical accounting terms introduced in this chapter:

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 - 8

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118. Current ratio and working capital The balance sheet of Red Missile Company contained the following items, among others:

Cash Accounts Receivable Inventory Store Equipment (net) Other Assets Mortgage Payable (due in 3 years) Note Payable (due in 10 days) Accounts Payable Share Capital Retained Earnings

$18000 $84,000 $124,000 $236,000 $67,500 $169,000 $163,000 $96,000 $67,500 $197,000

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119. Measures of solvency and credit risk Shown below are selected items appearing in a recent balance sheet of Grant Products. (Dollar amounts are in thousands.)

$620 $300 $1,400 $1,100 $450 $3,300 $1,600 $300 $300 $1700

(b.) Grant Products' current ratio and quick ratio both are below the industry averages. This means that Grant Products has less liquid assets in relation to its current liabilities, and therefore appears less solvent, than the average company in the industry.

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 7

120. Multiple-step income statement Shown below is a recent income statement for Phaeton, Inc.: PHAETON LIMITED Income Statement For the Year Ended December 31, 2010 Sales Cost and expenses: Cost of goods sold Operating expenses Interest expense Profit before income taxes Income taxes Profit

$6,000,000 $(4,200,000) (900,000) (150,000)

($5,250,000) $ 750,000 (360,000) $ 390,000

Prepare an income statement for the year in a multiple-step format. (Use the grid provided below.) PHAETON LIMITED Income Statement For the Year Ended December 31, 2010 Sales

$6,000,000

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PHAETON LIMITED Income Statement For the Year Ended December 31, 2010 Sales Cost of goods sold Gross profit Operating expenses Operating profit Nonoperating expenses: Interest expense Profit before income taxes Income tax expense Profit

$6,000,000 $4,200,000 $1,800,000 900,000 $ 900,000 $150,000 750,000 360,000 $ 390,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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121. Return on investment Shown below are selected data from a recent annual report of Quality Service. (Dollar amounts are in millions.)

Beginning of the Year $6,000 $3,200

Total assets Total shareholders’ equity Operating profit Profit

Compute for the year:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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End of the Year $6,600 $3,700 $2,000 $1,900

Chapter 14 - Financial Statement Analysis

122. Computation of profitability ratios Shown below are selected data from a recent annual report of Tall Oaks Co. (Dollar amounts are in thousands.)

Beginning of the Year $7,400 $3,900

Total assets Total shareholders’ equity Sales Gross profit Operating profit Profit

Compute for the year the company's:

(a) (b) (c)

Gross profit rate. Return on average total assets Return on average total shareholders’ equity

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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______% ______% ______%

End of the Year $8,100 $4,600 $14,000 $5,000 $1,400 $1,000

Chapter 14 - Financial Statement Analysis

123. Profitability measures Shown below is a recent income statement for B-D Electric.

$7,500,000 4,100,000 $3,400,000 1,975,000 $1,425,000 $175,000 280,000

455,000 $ 970,000

Assume that comparative balance sheets for B-D Electric indicate average total assets for the year of $2,500,000, and average total equity of $2,050,000. Compute the following:

(a) (b) (c) (d)

Gross profit rate. Profit as a percentage of sales Return on assets Return on equity

______% ______% ______% ______%

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(a) (b) (c) (d)

Gross profit rate. ($3,400,000 ÷ $7,500,000) Profit as a percentage of sales: ($970,000 ÷ $7,500,000) Return on assets ($1,425,000 ÷ $2,500,000) Return on equity ($970,000 ÷ $2,500,000)

45% 12.9% 57% 47%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6 Learning Objective: 7

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124. Percentage changes Selected information from the financial statements of Perfectly Baked Cake Co. appears below:

2011 $1,692,000 1,470,000 $222,000

Sales Total expenses Profit

2010 $1,600,000 1,520,000 $80,000

(a) Compute the percentage change in each of the above items from 2010 to 2011. Use a + or to indicate increase or decrease.

Sales Total expenses Profit

_________% _________% _________%

(b) Compute profit as a percentage of net sales in each year. (Round to the nearest one-tenth of 1%)

(a)

Percentage changes in: Sales: ($1,692,000 - $1,600,000) ÷ $1,600,000 Total expense ($1,470,000 - $1,520,000) ÷ $1,520,000

(b)

5.8%

-3.3%

Profit: ($222,000 - $ 80,000) ÷ $80,000

177.5%

Profit as a percentage of sales: 2010 ($80,000 ÷ $1,600,000)

5.0%

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2011 ($222,000 ÷ $1,692,000)

13.1%

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Learning Objective: 1 Learning Objective: 7

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Earnings per share Percentage change Year-end share price Price/earnings ratio

2011 $9 __% $72 ___

2010 $7 __% $140 ___

2009 $6 __% $56 ___

2008 $5 __% $50 ___

(a) (b)

Earnings per share Percentage change Year-end share price Price/earnings ratio

2011 2010 $9 $7 28.57% + 17% $77 $140 8.5 20

2009 $6 -16.67% $84 14

2008 $7 $70 10

(c) The p/e ratio of 8.5 is low by historical standards, indicating that investors do not expect the rapid earnings growth of recent years to continue. The sharp declines in share price and price/earnings ratio occurring during Gamma's "record year" suggest that investors may be expecting earnings to decline from current levels. The current price/earnings ratio of 8.5 is even less than that at the end of 2008 which was preceded by a decline in earnings per share.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1 Learning Objective: 5 Learning Objective: 8

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(a) (b) (c) (d)

Gross profit rate Gross profit rate Return on assets Sales Dollar amount of gross profit

D I I I I

Current liabilities Quick ratio Debt ratio Cash collected from customers (over the next 90 days) (after the next 90 days)

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 8

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127. Financial ratios Shown below are some key figures from the balance sheets of Minuteman Gas Company for two successive years:

Total assets (of which 30% are current) Current liabilities Bonds payable (long term) Share capital, $6 par value Retained Earnings

December 31, 2010 December 31, 2009 $2,820,000 $2,220,000 $336,000 $372,000 $1,080,000 $840,000 $660,000 $660,000 $828,000 $480,000

Dividends of $96,000 were declared and paid in 2010. Compute the following:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 7

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128. Financial ratios Given below are comparative balance sheets and an income statement for the Excellent Corporation:

Excellent Corporation

Balance Sheets – 2009

Income Statement for the year ended 2009

Equipment (net) Inventory Accounts receivable Cash

Dec.31 Jan. 1 $114,000 $ 132,000 68,000 74,000 94,000 78,000 34,000 34,000 310,000 318,000

Accounts payable

54,000

60,000

Dividends payable Long-term note payable Share capital, $10 par Retained earnings

20,000 32,000 140,000 64,000 310,000

12,000 32,000 140,000 74,000 $318,000

Sales Cost of goods sold Gross profit on sales Operating expenses Operating profit Interest expense and income taxes Profit

$524,000 (328,000) $ 196,000 (118,700) $ 77,300 (28,750) $ 48,550

All sales were made on account. Cash dividends declared during the year totaled $58,550. Compute the following:

________times ________times $________ $________ ________to 1 ________to 1 ________% ________% ________% ________%

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(a) Average accounts receivable turnover ($524,000 ÷ $86,000) (b) Average inventory turnover ($328,000 ÷ $71,000) (c)Earnings per share capital ($48,550 ÷ $14,000) (d) book value per share capital at year-end (e) Current ratio at year-end ($196,000 ÷ $74,000)= (f) Quick ratio at beginning of year ($112,000 ÷ $72,000) = (g) Debt ratio at year-end ($106,000 ÷ $310,000) = (h) Operating expense ratio ($118,700 ÷ $524,000) = (i) Return on assets ($77,300 ÷ $310,000) (j) Return on ordinary shareholdres’ equity ($48,550 ÷ $204,000) =

6.1 times 4.6 times $3.47 $14.57 2.21 1.56 34% 23% 25% 23.8%

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______ ______ ______ ______ ______ ______ ______ ______

I D I D D NE NE I

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 7

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130. Use and interpretation of financial measurements Shown below are various financial measurements for two companies which are similar in size and sell similar products:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7 Learning Objective: 8

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131. Evaluating the adequacy of profit Assume that Delta Corp. earns profit of $1,000,000 in the current year. Identify two important factors that investors should consider in evaluating the reasonableness of this dollar amount. Explain what investors may learn from each of these considerations. Students are to identify two important factors to be considered in the evaluation of a company's earnings, and to explain what investors may learn from these considerations. Most students identify two of the following factors: -The resources invested in the effort to generate the company's earnings (i.e., size of the company). This consideration indicates the efficiency with which economic resources are employed. -The earnings of the company in prior periods. The trend in earnings indicates whether performance is improving or deteriorating. -The earnings of comparable companies (in size, as well as in the nature of operations). This comparison provides an indication of the company's ability to compete.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 6

132. ROI: What and why? In general terms, what do all "ROI" ratios measure? Why are such computations useful? "ROI" ratios measure an investor's "return" as a percentage of the average amount of the required investment. Such computations provide investors with a basis for comparing the profitability of alternative investment opportunities.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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133. Income statement classifications Simon Hardware and Garfunkel Foods are sole proprietorships with similar amounts of total assets. Also, both businesses earn similar amounts of revenue, incur similar amounts of operating expenses, and report similar profits. However, Simon has a higher cost of goods sold, while Garfunkel Foods has higher interest expense. Indicate which of these companies has the higher (a) gross profit rate, and (b) return on assets. In each case, explain the reasons for each answer. (a) Both companies earn similar amounts of revenue, but Simon Hardware has the higher cost of goods sold. Therefore, Garfunkel Foods must have the higher total gross profit and also the higher gross profit rate. (b) Garfunkel Foods has the higher return on assets. Return on assets usually is computed by expressing operating profit as a percentage of average total assets. As both companies have similar amounts of total assets, the company with the higher operating profit will have the higher return on assets. Garfunkel Foods probably has the higher operating profit. As both companies earn similar amounts of revenue and profit, their total costs and expenses also must be similar. Simon however, has a higher cost of goods sold, which is deducted in arriving at operating profit. Garfunkel Foods has higher interest expense, but interest is deducted after the determination of operating profit. Therefore, Garfunkel Foods probably has the higher operating profit of the two businesses. Note to instructor: Income taxes is another "non-operating item" which may cause two businesses with similar profits to have different levels of operating profit. However, both Simon Hardware and Garfunkel Foods are organized as sole proprietorships, and, therefore, do not include income taxes expense in their income statements.

AACSB: Communications AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 6 Learning Objective: 8

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134. Improving the current ratio Carter Corporation financed construction of a new addition to its facilities with a large long-term note payable. As a condition of obtaining the loan, Carter agreed to maintain a current ratio at year-end of at least 1.7 to 1. If Carter fails to maintain this ratio, the lender may demand immediate repayment of the principal amount of the note and all unpaid accrued interest. As the end of the year approaches, Carter is concerned about the magnitude of its current ratio. Suggest some actions that the company might take to increase the magnitude of the current ratio. Paying any current liabilities will increase the current ratio. The company could also consider postponing until after year-end any routine transactions that would reduce current assets, such as the acquisition of equipment or scheduled maintenance and repair expenditures. The sale of existing inventory (or any other current asset) for a price above cost would also cause the current ratio to increase.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Decision Making Learning Objective: 4

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135. Below is a number of ratios. Match the computation to one of the ratios. If there is no match fill in "none"

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 7

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136. The following information is available for the Grant Company for 2010:

Required: What are earnings per share for the current year? What is the P/E ratio? What is the book value per ordinary shares? What is the dividend yield on ordinary shares? What is the profit ratio? What is the return on equity? Earnings per share $600,000 - $2,100/50,000 = $11.96 Price/Earnings ratio $32/$11.96 = $2.68 Book value ($160,000 - $30,000)/ 50,000 = $2.60 Dividend yield $1.80/$32 = 5.63% Profit rate $600,000/$1,200,000 = 50% Return on equity $600,000/$160,000 = 375%

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5 Learning Objective: 7

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CHAPTER 14

NAME

10-MINUTE QUIZ A

SECTION

Indicate the best answer to each question in the space provided. 1

The quick ratio is considered more useful than the current ratio for: a Evaluating the profitability of a business that sells inventory very quickly, such as a restaurant. b Evaluating the solvency of a business that turns inventory into cash very slowly, such as a shipbuilder. c Evaluating long-term credit risk. d Evaluating investors’ expectations concerning future earnings.

The debt ratio is a measure of: a Net cash flows relating to financing activities. b Long-term credit risk. c Short-term solvency. d Profitability, independent of the manner in which assets are financed.

In the long-run, it is most important for a business to generate an inflow of cash from its: a Operating activities. b Shareholders. c Investing activities. d Creditors.

Return on assets measures the efficiency with which management: a Generates earnings from the assets under its control, regardless of how these assets are financed. b Generates earnings from the assets under its control, giving consideration to any costs of financing these assets. c Generates cash from the assets under its control, regardless of accrual-based measures of profitability. d Converts its current assets into cash.

A transaction that will increase the quick ratio but cause the current ratio to decline is: a Short-term borrowing. b Investing cash in plant assets. c Sale of inventory at a price below cost. d Collection of an account receivable.

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CHAPTER 14

NAME

10-MINUTE QUIZ B

SECTION

Shown below are data taken from a recent annual report of Falcon Co. (Dollar amounts in millions.) Beginning End of Year of Year Balance sheet data: Current assets ................................................................ Total assets .................................................................... Current liabilities........................................................... Total liabilities .............................................................. Total shareholders’ equity ............................................

$1,034 $1,532 $379 $546 $1,000

Income statement data: Sales............................................................................... Gross profit.................................................................... Operating profit ............................................................. Profit ..............................................................................

41,120 $1,822 $318 $477 41,217

$2,759 $1,264 $574 $421

. Based upon the above information, indicate the best answer in the space provided. 1

The current ratio at year-end (rounded to the nearest tenth) is: a 2.3 to 1. c 3.5 to 1. b .6 to 1. d Some other answer.

The amount of working capital at the beginning of the year (in millions) was: a $785 c $479. b $1,193. d Some other answer.

The gross profit rate for the year (rounded to the nearest 1 percent) was: a 46%. c 69%. b 54%. d Some other answer

The return on average total assets during the year (rounded to the nearest percent) was: a 24%. c 79%. b 34%. d Some other answer.

The return on average total shareholders’ equity during the year (rounded to the nearest 1 percent) was: a 50%. c 38%. b 41%. d Some other answer.

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CHAPTER 14

NAME

10-MINUTE QUIZ C

SECTION

Shown below are data taken from a recent annual report of, Topaz Limited (Dollar amounts in millions.) Beginning End of Year of Year Balance sheet data: Current assets ................................................................ Total assets .................................................................... Current liabilities........................................................... Total liabilities .............................................................. Total shareholders’ equity ............................................

$ 625 $1,050 $275 $500 $575

$700 $1,200 $175 $600 $725

$1,900 $900 $450 $300

Instructions Compute the following: a Current ratio at year-end (round to nearest tenth). ........

________ to 1

b Working capital at the beginning of the year (in millions)

$____________

Gross profit rate for the year (round to the nearest 1 percent)

______%

d Return on average total assets for the year (round to the nearest 1 percent)

______%

Return on average total equity for the year (round to the nearest 1 percent)

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Chapter 14 - Financial Statement Analysis

CHAPTER 14

NAME

10-MINUTE QUIZ D

SECTION

Given below are comparative balance sheets and an income statement for the Copper Corporation:

Copper Corporation Balance Sheets – Current Year Dec. 31 Jan. 1 Equipment (net) $129,000 $ 152,000

Copper Corporation Income Statement for the Current Year Sales $936,000

Inventory

173,000

178,000

Cost of goods sold

(515,000)

Accounts receivable

252,000

216,000

Gross profit on sales

$421,000

Cash

31,600

26,900

Operating expenses

(332,000)

$585,600

$572,900

$ 89,000

Accounts payable

$135,000

$147,000

Dividends payable Share Capital, $9 par Retained earnings

18,000

14,000

Operating profit Interest expense and income taxes Profit

90,000 342,600

90,000 321,900

$585,600

$572,900

(39,000) $ 50.000

All sales were made on account. Cash dividends declared during the year totaled $29,300. Compute the following: a

Average accounts receivable turnover

times

Book value per share at the end of the current year

$______________

Earnings per share of share capital

$______________

Return on assets

Return on ordinary shareholders’ equity is computed by dividing $ ____________ by $______________

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CHAPTER 14 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

Which of the following usually is least important as a measure of short-term liquidity? a Quick ratio. b Debt ratio. c Current ratio. d Cash flow from operating activities.

In each of the last five years, the net sales of Plaza Co. have increased at about half the rate of inflation, but profit has increased at approximately twice the rate of inflation. During this period, the company’s total assets, liabilities, and equity have remained almost unchanged; dividends are approximately equal to profit. These relationships suggest (indicate all correct answers): a Management is successfully controlling costs and expenses. b The company is selling more merchandise every year. c The annual return on assets has been increasing. d Financing activities are likely to result in a net use of cash.

From the viewpoint of a shareholder, which of the following relationships do you consider of the least significance? a The return on assets consistently is higher than the industry average. b The return on equity has increased in each of the past five years. c Profit is greater than the amount of working capital. d The return on assets is greater than the rate of interest being paid to creditors.

The following data are available from the annual report of Frixall Motors: Current assets ....................... $ 480,000 Average total assets.............. 2,000,000 Average total equity ............. 800,000

Current liabilities ............... $300,000 Operating profit ................. 240,000 Profit................................... 80,000

Which of the following statements are correct? (More than one statement may be correct.) a The return on equity exceeds the return on assets. b The current ratio is .625 to 1. c Working capital is $1,200,000. d None of the above answers are correct.

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Hart Corporation’s profit was $400,000 in 2004 and $160,000 in 2005. What percentage increase in profit must Hart achieve in 2006 to offset the decline in profits in 2005? a 60%. b 150%. c 600%. d 67%.

If a company’s current ratio declined in a year during which its quick ratio improved, which of the following is the most likely explanation? a Inventory is increasing. b Inventory is declining. c Receivables are being collected more rapidly than in the past. d Receivables are being collected more slowly than in the past.

In financial statement analysis, the most difficult of the following items to predict is whether: a The company will be liquid in six months. b The company’s market share is increasing or declining. c Profits will increase in the coming year. d The market price of shares will rise or fall over the next two months.

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SOLUTIONS TO CHAPTER 14 10-MINUTE QUIZZES QUIZ A 1 B 2 B 3 A 4 A 5 C

QUIZ B 1 C 2 D ($1,034 - 379 = $662) 3 A 4 B 5 C

QUIZ C a

Current ratio at year-end $700  $175 = 4

4 to 1

Working capital at the beginning of the year (in millions) $625 - $275 = $350

$350

Gross profit rate $900  $1,900 = 47.4%

47.4%

Return on average total assets $450  [($1,050 + $1,200)  2] = 40%

Return on average total shareholders’ equity $300  [($575 + $725)  2] = 46.2%

40%

QUIZ D a b c d e

Accounts receivable turnover ($936,000  $234,000) = 4 times Book value per share at the end of the current year = ($432,600  10,000 shares) = $43.26 Earnings per share of share capital ($50,000  10,000 shares) = $5.00 Return on assets ($89,000 [ ($585,600 + $572,900)/2] = 15% Return on ordinary shareholders’ equity is computed by dividing $50,000 by $422,250. [($432,600 + $411,900)  2]

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Chapter 14 - Financial Statement Analysis

SOLUTIONS TO CHAPTER 14 SELF-TEST QUESTIONS FROM TEXTBOOK 1 b 2 a, c, d 3 c 4 d (see below) 5 b (see below) 6 b 7 d Why answers A, B, and C in question 4 are incorrect: A The return on assets, 12% ($240,000  $2,000,000), exceeds the return on equity, which is 10% ($80,000  $800,000). B The current ratio is 1.6 to 1 ($480,000  $300,000). C Working capital amounts to $180,000 ($480,000 - $300,000). Increase in profit required in question 5: ($400,000 - $160,000)  $160,000 = 150%

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Chapter 15 Global Business and Accounting True / False Questions

1. An international joint venture involves the creation of a new company that is owned by two or more firms from different countries. True False

2. In a planned economy, ownership of land and the means of production are private, and markets dictate the allocation of resources and the output among segments of the economy. True False

3. Differences in accounting practices among countries reflect the different sources of capital in those countries. True False

4. A wholly owned international subsidiary exists when a company owns 100% of the equity in a U.S. foreign subsidiary. True False

5. Although cultural differences are significant in business dealings, they pose no difficulties to the design and implementation of an accounting system. True False

6. In a planned economy, the government uses central planning to allocate resources and determines output among various segments of the economy. True False

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Chapter 15 - Global Business and Accounting

7. The standards issued by the International Accounting Standards Board must be followed by all multinational companies. True False

8. An exchange rate represents the price of one currency stated in terms of another. True False

9. Having a liability that is fixed in terms of a foreign currency results in a loss for the debtor if the exchange rate falls between the transaction date and the payment date. True False

10. The statement that "the yen has fallen against the dollar" means that the yen has become less valuable relative to the dollar. True False

11. U.S. cultural traits include high uncertainty avoidance and a long-term orientation. True False

12. Whenever an American corporation sells merchandise to foreign companies, the transaction must be stipulated in American dollars. True False

13. An American corporation making purchases from foreign companies will experience gains and losses from exchange rate fluctuations if (a) the purchase prices are stated in terms of the foreign currency and (b) the purchases are made on account. True False

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Chapter 15 - Global Business and Accounting

14. Hedging refers to the strategy of taking offsetting positions so that gains in one currency offset losses in another currency. True False

15. A company has a "hedged position" when it has similar amounts of accounts receivable and accounts payable in that same foreign currency. True False

16. The accounting profession has been slow to develop in Asian countries because of strict governmental control of accounting regulations. True False

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Chapter 15 - Global Business and Accounting

17. An international joint venture is a company owned by two or more companies from different countries. True False

18. Accounting as a profession did not exist in England prior to 1988. True False

19. An increase in the exchange rate between a transaction date and the date of payment will cause the debtor to incur a loss. True False

20. As foreign exchange rates fall, United States based importers will lose and exporters will gain. True False

21. To convert a foreign currency into dollars, divide the foreign currency by the foreign exchange rate. True False

22. To convert a dollar amount into a foreign currency divide the dollar amount by the exchange rate. True False

23. A dollar that is stronger than the British pound would make travel to the United States more attractive to British citizens. True False

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24. Future contracts are used by companies to hedge against losses in foreign currencies. True False

25. "Convergence" means abandoning a country's financial reporting standards and replacing them with the International financial Reporting Standard True False

26. China, Japan & Australia have amended their current standards to converge with International Financial Reporting Standards but the United States chooses to adopt the International Financial Reporting Standards. True False

27. "Adoption" means replacing current financial reporting standards with International Financial Reporting Standards. True False

Multiple Choice Questions

28. Accounting practices are affected by all of the following except: A. Political systems B. Economic systems C. Technology and infrastructure D. All of the above affect accounting systems

29. Establishing international accounting standards is the responsibility of A. Securities and Exchange Commission B. International Accounting Standards Board C. Financial Accounting Standards Board D. Accounting Association of America

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Chapter 15 - Global Business and Accounting

30. Gains and losses from fluctuations in exchange rates should be shown on the A. Balance sheet B. Income statement C. Statement of changes to owners' equity D. Cash flow statement

31. On November 1 a French company purchased machinery from an American company for 800,000 euros when the exchange rate was $.83. When preparing financial statements on December 31 when the rate for the euros was $.88, what amount of gain or loss should the American company report? A. $40,000 gain B. $40,000 loss C. $19,000 gain D. No gain or loss would be reported

32. Of the following globalization strategies, which would be least demanding in terms of the quantity and variety of accounting information required? A. Exporting. B. International licensing. C. Joint ventures. D. Establishing a wholly owned foreign subsidiary.

33. Which of the following does not affect the cost associated with producing and selling goods and services in global markets? A. Tariffs. B. Duties. C. Special trade zones. D. All three affect the cost.

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Chapter 15 - Global Business and Accounting

34. In Japan, financial reporting requirements are based primarily on the need to provide information to: A. Investors. B. Government agencies. C. Banks. D. U.S. subsidiaries of Japanese companies.

35. Which of the following organizations is responsible for developing uniform worldwide accounting standards? A. The Securities Exchange Commission. B. The International Accounting Standards Board. C. The Financial Accounting Standards Board. D. The International Organization of Accounting Boards.

36. Low individualism and high long-term orientation is indicative of which culture? A. United States. B. Great Britain. C. Japan. D. Germany.

37. The price of one currency stated in terms of another currency is the: A. Current ratio. B. Exchange rate. C. Facilitating payment. D. International clearing price.

38. When the government uses central planning to allocate resources and to determine output among various segments of the economy, this is known as: A. A dictatorship. B. A democracy. C. A planned economy. D. A market economy.

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Chapter 15 - Global Business and Accounting

39. If the exchange rate for a foreign currency (stated in dollars) has risen, a dollar will purchase: A. An increased amount of that foreign currency. B. An unchanged amount of that foreign currency. C. A smaller amount of that foreign currency. D. An undetermined amount of that foreign currency.

40. Consider the following statement: "A strong dollar rose sharply against the British pound, but fell slightly against the Japanese yen." This statement indicates that: A. The British pound is a stronger currency than the Japanese yen. B. The exchange rate for the yen, stated in dollars, is rising. C. The exchange rate for the pound, stated in dollars, is rising. D. The exchange rate for the yen, stated in pounds, is falling.

41. Assume the exchange rate for the Canadian dollar is rising relative to the U.S. dollar. An American company will incur losses from this rising exchange rate if it is making: A. Credit sales to Canadian companies at prices stated in Canadian dollars. B. Credit purchases from Canadian companies at prices stated in U.S. dollars. C. Credit sales to Canadian companies at prices stated in U.S. dollars. D. Credit purchases from Canadian companies at prices stated in Canadian dollars.

42. Assume the exchange rate for the Mexican Peso is falling relative to the U.S. dollar. An American company will incur losses from this falling exchange rate if the company is making: A. Credit sales to Mexican companies at prices stated in U.S. dollars. B. Credit purchases from Mexican companies at prices stated in U.S. dollars. C. Credit sales to Mexican companies at prices stated in Mexican Pesos. D. Credit purchases from Mexican companies at prices stated in Mexican Pesos.

43. Which of the following is true about foreign trade zones? A. They are illegal in the United States. B. Goods imported into these designated U.S. areas are duty free until they leave the zone. C. They have a special excise tax. D. They are areas outside the United States that offer special tax treatments.

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Chapter 15 - Global Business and Accounting

44. Blue Waters is an American company that does business with several Japanese corporations. In recent months, Blue Waters has been reporting losses from increases in the exchange rate of the Japanese yen. The majority of Blue Waters transactions with the Japanese companies probably consist of: A. Credit sales at prices stated in U.S. dollars. B. Credit sales at prices stated in Japanese yen. C. Credit purchases at prices stated in U.S. dollars. D. Credit purchases at prices stated in Japanese yen.

45. A corporation that uses a strategy of hedging all contracts specifying a foreign currency (i.e. foreign accounts receivable and foreign accounts payable): A. Will always be better off than if the contracts were not hedged. B. Recognizes a net loss if the foreign exchange rate increases. C. Avoids net losses from fluctuations in foreign exchange rates. D. Recognizes a net gain if the foreign exchange rate increases.

46. Samson Corporation buys a foreign currency future contract as a hedging strategy to protect against possible losses from fluctuations in a particular foreign exchange. This strategy suggests that Samson Corporation has: A. Foreign accounts payable and expects the exchange rate to fall. B. Foreign accounts receivable and expects the exchange rate to rise. C. Foreign accounts payable and expects the exchange rate to rise. D. Foreign accounts receivable and expects the exchange rate to fall.

47. Gains and losses from fluctuations in exchange rates on transactions carried out in a foreign currency are reported in: A. The balance sheet, as an adjustment to shareholders’ equity. B. The income statement. C. The footnotes to the financial statements. D. The statement of changes in equity.

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Chapter 15 - Global Business and Accounting

48. A contract giving the right to receive a specified quantity of foreign currency at a future date is known as: A. Hedging. B. Exchange rates. C. Macquiladora. D. Future contracts.

In a recent financial journal, the exchange rate between the dollar and the British pound was quoted in two ways:

49. Refer to the above data. The number of pounds equal to $50,000 on this date is: A. £31,250. B. £80,000. C. Some other amount. D. Depends upon whether the item is a receivable or a payable.

50. Refer to the above data. The number of dollars equivalent to £50,000 on this date is: A. $31,250. B. $80,000. C. Some other amount. D. Depends upon whether the item is a receivable or a payable.

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Chapter 15 - Global Business and Accounting

In a recent financial journal, the exchange rate between the dollar and the Japanese yen (¥) was quoted two ways:

51. Refer to the above data. The number of Japanese yen equivalent to $40,000 on this date is: (rounded to whole ¥) A. ¥3,056,000. B. ¥5,235,602 C. Some other amount. D. Depends upon whether the item is a receivable or a payable.

52. Refer to the above data. The number of dollars equivalent to ¥5,250,000 on this date is: A. $40,110.00. B. $687,172.50 C. Some other amount. D. Depends upon whether the item is a receivable or a payable.

53. Walblue imports a desk from a French manufacturer for sale in its chain of U.S. stores. The cost of a desk to Walblue is 3,700 Euros. What is the dollar cost of one of these desks if the exchange rate is currently 1.117 Euros per U.S. dollar? (round to nearest cent) A. $1,117.00 B. $4,132,90 C. $3,312.44 D. Some other amount.

54. At the current exchange rate of $1.40 per British pound, a one-day pass to Worldwide Theme Park of Florida sells for 45 pounds at travel agencies throughout Great Britain. If the exchange rate increases to $1.70 per pound, what will happen to the price of a one-day pass sold in Great Britain? A. The price will be unchanged. B. The price will fall to 37 pounds. C. The price will increase to 54 pounds. D. The price will fall by 12 pounds.

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Chapter 15 - Global Business and Accounting

55. Rochester Limited purchased cameras from a Japanese company at a price of 4 million yen. On the purchase date, the exchange rate was $0.0100 per Japanese yen, but when Rochester Limited, paid the liability, the exchange rate was $0.0103 per yen. When this foreign account payable was paid, Rochester Limited, recorded a: A. Debit to Inventory of $1,200. B. Loss of $1,200. C. Credit to Accounts Payable of $41,200. D. Gain of $1,200.

56. Hayden Limited purchased knobs from a Greek company for 185,000 Euros. On the purchase date the exchange rate was $.80 per Euro, but when Hayden paid the liability, the exchange rate was $.70 per Euro. When this foreign account payable was paid, Hayden Limited, recorded a: A. Debit to Inventory of $18,500. B. Loss of $18,500. C. Credit to Accounts Payable of $148,000. D. Gain of $18,500.

57. Tuliptime Limited sold American fashions to a Japanese company at a price of 4 million yen. On the sale date, the exchange rate was $.0100 per Japanese yen, but when Tuliptime received payment from its customer, the exchange rate was $.0103 per Japanese yen. When the foreign receivable was collected, Tuliptime: A. Credited Sales for $1,200. B. Debited Cash for $40,000. C. Credited Gain on Fluctuation of Foreign Currency for $1,200. D. Debited Loss on Fluctuation of Foreign Currency for $1,200.

58. Barter Corp. sold American telecommunications equipment to a British company for 650,000 pounds. On the sale date, the exchange rate was $1.65 per British pound, but when Barter received payment from its customer, the exchange rate was $1.60 per pound. When the foreign receivable was collected, Barter Enterprises: A. Credited Sales for $32,500. B. Debited Cash for $1,040,000. C. Credited Gain on Fluctuation of Foreign Currency for $32,500. D. Debited Loss on Fluctuation of Foreign Currency for $32,500.

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59. Flynn Corporation purchased bicycles from a British manufacturer at a price of 45,000 British pounds on November 15, 2009, with payment due in 60 days. Using the following exchange rates, what gain or loss from currency fluctuations should be recognized in 2009 and 2010?

60. Exact Instruments sold equipment to a British research group at a price of 70,000 British pounds on December 1, 2009, with payment due in 90 days. Using the following exchange rates, what gain or loss from currency fluctuations should recognized in 2009 and 2010?

61. Trente Switch and Signal sold equipment to a Canadian transportation company at a price of 300,000 Canadian dollars with payment due in 60 days. On the date of sale the exchange rate was 1.50 Canadian dollars per U.S. dollar. Trente decided to hedge the risk of currency fluctuations by purchasing 300,000 Canadian dollars with payment due in 60 days. If the exchange rate in 60 days is 1.25 Canadian dollars per U.S. dollar, Trente Switch and Signal will: A. Recognize a net gain of $40,000 on the two transactions. B. Recognize a $40,000 gain when it collects the receivable and incur a $40,000 loss when it pays the liability. C. Incur a $40,000 loss when it collects the receivable and recognize a $40,000 gain when it pays the liability. D. Incur a net loss of $40,000 on the two transactions.

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Chapter 15 - Global Business and Accounting

Essay Questions

62. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a) The strategy of creating offsetting positions so that losses from currency fluctuations will be offset by gains resulting from the same fluctuations. (b) The price of foreign currency, stated in terms of the domestic currency. (c) An item likely to appear in the income statements of American-based importers when foreign exchange rates are rising. (d) The organization responsible for developing uniform worldwide accounting standards. (e) Payments made to foreign officials to expedite paperwork. (f ) The process of restating an amount of foreign currency in terms of the equivalent number of U.S. dollars. (g ) An item likely to appear in the income statements of American-based exporters when foreign exchange rates are falling.

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63. Importing transactions-journal entries Striking Furs imports furs from Canada. In the space provided below, prepare journal entries to record the following events. Dec. 11, 2009: Purchased furs from Capable Trappers, Ltd., a Canadian corporation, at a price of 25,000 Canadian dollars, due in 60 days. The current exchange rate is .85 U.S. dollars per Canadian dollar. (Striking uses the perpetual inventory method; debit the Inventory account.) Dec. 31, 2009: Striking made a year-end adjusting entry relating to the account payable to Capable Trappers. The exchange rate at year-end is .89 U.S. dollars per Canadian dollar. Feb. 9, 2010: Issued a check for $21,750 (U.S. dollars) to National Bank in full settlement of the liability to Capable Trappers, Ltd. The exchange rate at this date is .87 U.S. dollars per Canadian dollar.

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Chapter 15 - Global Business and Accounting

64. Exporting transactions-journal entries Jung Farms exports wheat to Germany. In the space provided below, prepare journal entries to record the following events. Nov. 15, 2010: Sold wheat to a German restaurant chain at a price of 2 million Euros, due in 90 days. The current exchange rate is .8 U.S. dollars per Euro. (Jung uses the periodic inventory method.) Dec. 3, 2010: Jung made a year-end adjusting entry relating to the account receivable from the German restaurant chain. The exchange rate at year-end is .85 U.S. dollars per Euro. Feb. 15, 2011: Received a check for $1,640,000 from the InterContinental Bank in full settlement of the receivable from the German restaurant chain. The exchange rate at this date is .82 U.S. dollars per Euro.

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Chapter 15 - Global Business and Accounting

65. Foreign currency transactions The following table summarizes the facts of five independent cases (labeled a through e) of American companies engaging in credit transactions with foreign corporations while the foreign exchange rate is fluctuating:

Instructions: Notice that for each case, a blank space has been left in one of the four columns. You are to fill this blank space after evaluating the information about the case provided in the other three columns. The content of each column and the word or words that you should enter in the blank spaces are described below: Column 1 indicates the type of credit transaction in which the American company engaged with the foreign corporations. The answer entered in this column should be either "Sales" or "Purchases." Column 2 indicates the currency in which the invoice price is stated. The answer may be either "U.S. dollars" or "Foreign currency." Column 3 indicates the direction in which the foreign currency exchange rate has moved between the date of the credit transaction and the date of settlement. The answer in this column may be either "Rising" or "Falling." Column 4 indicates the effect of the exchange rate fluctuation upon the income of the American company. The answers entered in this column are to be selected from the following: "Gain," "Loss," or "No effect."

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66. Exchange rates and hedging On October 1, 2009 Glenn Company accepted a shipment of beer from Germany. The purchase contract specifies payment of 3,000,000 Euros is to be made on December 1, 2009. The exchange rate on October 1, 2009 was: $1 = 1.4 Euros. Instructions: (a) If the exchange rate on December 1, 2009 is: $1 = 1.18 Euros, what amount of gain or loss due to the exchange rate fluctuation will be recognized on the purchase? (b) On October 1, Glenn's analysts were forecasting the exchange rate to be: $1 = 1.20 Euros on December 1, 2009. Glenn can enter into a hedging contract on October 1, 2009 whereby the bank will accept $2,480,000 in exchange for 3,000,000 Euros on December 1. The bank will charge a $2,000 fee to enter into the agreement. Should Glenn enter into the hedge agreement? (c) If Glenn enters into the hedging contract, what will be the exchange gain/loss recorded on December 1, 2009?

67. Prepare journal entries for the following transactions for Inter-Global Co. October 10: Purchased merchandise on account from Le Monde, a French company, for 80,000 euros. The exchange rate was $.82. November 2: Paid Le Monde for the merchandise purchased on October 1. The exchange rate at this date was $.83. November 15: Sold merchandise to Nippon, a Japanese company for 300,000 yen on account. The rate of exchange was .0091. November 20: The Japanese company paid the full amount. The exchange rate was .0090. December 5: Sold merchandise to Ponti, an Italian company for $24,000. The exchange rate is .81. The Italian company agrees to pay in U.S. dollars. December 18: Collected the full amount from the Italian company.

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Chapter 15 - Global Business and Accounting

68. Listed below are several terms and statements with missing expressions. You are to fill in the blanks with the appropriate term

Multiply/Divide Market economies Planned economies Weak Exchanging

Foreign trade zones Int’l Accounting Standards Board Strong

Hedging

Translating

(1) To convert a foreign currency to an equivalent dollar amount _________ the foreign currency by the foreign exchange rate. (2) To convert a dollar amount into an equivalent amount of foreign currency ___________ the dollar amount by the exchange rate. (3) Goods imported into __________ are duty free. (4) ___________ minimizes or eliminates the risk of loss associated with foreign currency fluctuations. (5) In a __________ ownership of land and the means of production are privately held. (6) In a __________ the government allocates resources and determines output among various segments of the economy. (7) The process of restating an amount of foreign currency in terms of the equivalent number of dollars is called ________ the foreign currency. (8) A currency is described as ___________ when its exchange rate is rising relative to other currencies. (9) A currency is described as __________ when its exchange rate is falling in relation to other currencies.

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Chapter 15 - Global Business and Accounting

Chapter 15 Global Business and Accounting Answer Key

True / False Questions

1. An international joint venture involves the creation of a new company that is owned by two or more firms from different countries. TRUE

AACSB: Global AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

2. In a planned economy, ownership of land and the means of production are private, and markets dictate the allocation of resources and the output among segments of the economy. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

3. Differences in accounting practices among countries reflect the different sources of capital in those countries. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

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4. A wholly owned international subsidiary exists when a company owns 100% of the equity in a U.S. foreign subsidiary. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

5. Although cultural differences are significant in business dealings, they pose no difficulties to the design and implementation of an accounting system. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

6. In a planned economy, the government uses central planning to allocate resources and determines output among various segments of the economy. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 2

7. The standards issued by the International Accounting Standards Board must be followed by all multinational companies. FALSE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 3

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8. An exchange rate represents the price of one currency stated in terms of another. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

9. Having a liability that is fixed in terms of a foreign currency results in a loss for the debtor if the exchange rate falls between the transaction date and the payment date. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 5

10. The statement that "the yen has fallen against the dollar" means that the yen has become less valuable relative to the dollar. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 5

11. U.S. cultural traits include high uncertainty avoidance and a long-term orientation. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

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12. Whenever an American corporation sells merchandise to foreign companies, the transaction must be stipulated in American dollars. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 5

14. Hedging refers to the strategy of taking offsetting positions so that gains in one currency offset losses in another currency. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

15. A company has a "hedged position" when it has similar amounts of accounts receivable and accounts payable in that same foreign currency. TRUE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Risk Analysis Learning Objective: 6

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16. The accounting profession has been slow to develop in Asian countries because of strict governmental control of accounting regulations. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 2

17. An international joint venture is a company owned by two or more companies from different countries. TRUE

AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Measurement Learning Objective: 1

18. Accounting as a profession did not exist in England prior to 1988. FALSE

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting Learning Objective: 3

19. An increase in the exchange rate between a transaction date and the date of payment will cause the debtor to incur a loss. TRUE

AACSB: Analytic AICPA BB: Global AICPA FN: Risk Analysis Learning Objective: 5

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20. As foreign exchange rates fall, United States based importers will lose and exporters will gain. FALSE

AACSB: Analytic AICPA BB: Global AICPA FN: Risk Analysis Learning Objective: 5

21. To convert a foreign currency into dollars, divide the foreign currency by the foreign exchange rate. FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

22. To convert a dollar amount into a foreign currency divide the dollar amount by the exchange rate. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

23. A dollar that is stronger than the British pound would make travel to the United States more attractive to British citizens. FALSE

AACSB: Analytic AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

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24. Future contracts are used by companies to hedge against losses in foreign currencies. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Risk Analysis Learning Objective: 6

25. "Convergence" means abandoning a country's financial reporting standards and replacing them with the International financial Reporting Standard FALSE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 3

27. "Adoption" means replacing current financial reporting standards with International Financial Reporting Standards. TRUE

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 3

Multiple Choice Questions

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28. Accounting practices are affected by all of the following except: A. Political systems B. Economic systems C. Technology and infrastructure D. All of the above affect accounting systems

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 1

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 3

30. Gains and losses from fluctuations in exchange rates should be shown on the A. Balance sheet B. Income statement C. Statement of changes to owners' equity D. Cash flow statement

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

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AACSB: Analytic AICPA BB: Global AICPA FN: Measurement Learning Objective: 5

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 7

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34. In Japan, financial reporting requirements are based primarily on the need to provide information to: A. Investors. B. Government agencies. C. Banks. D. U.S. subsidiaries of Japanese companies.

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 3

36. Low individualism and high long-term orientation is indicative of which culture? A. United States. B. Great Britain. C. Japan. D. Germany.

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Research Learning Objective: 2

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37. The price of one currency stated in terms of another currency is the: A. Current ratio. B. Exchange rate. C. Facilitating payment. D. International clearing price.

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 2

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

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AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 4

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 5

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AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 7

AACSB: Analytic AICPA BB: Global AICPA FN: Measurement Learning Objective: 5

AACSB: Analytic AICPA BB: Global AICPA FN: Measurement Learning Objective: 5 Learning Objective: 6

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AACSB: Analytic AICPA BB: Global AICPA FN: Measurement Learning Objective: 6

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 5

48. A contract giving the right to receive a specified quantity of foreign currency at a future date is known as: A. Hedging. B. Exchange rates. C. Macquiladora. D. Future contracts.

AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 6

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AACSB: Reflective Thinking AICPA BB: Legal AICPA FN: Reporting Learning Objective: 8

In a recent financial journal, the exchange rate between the dollar and the British pound was quoted in two ways:

49. Refer to the above data. The number of pounds equal to $50,000 on this date is: A. £31,250. B. £80,000. C. Some other amount. D. Depends upon whether the item is a receivable or a payable. $50,000 /1.60 = $31,250 or $50,000  .625 = $31,250

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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50. Refer to the above data. The number of dollars equivalent to £50,000 on this date is: A. $31,250. B. $80,000. C. Some other amount. D. Depends upon whether the item is a receivable or a payable. 50,000  $1.60 = $80,000 or 50,000 /$.625 = $80,000

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

In a recent financial journal, the exchange rate between the dollar and the Japanese yen (¥) was quoted two ways:

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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Chapter 15 - Global Business and Accounting

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

A. A $2,250 loss in 2009 and a $900 gain in 2010. B. No gain or loss in 2009 and a $1,350 loss in 2010. C. A $2,250 gain in 2009 and a $900 loss in 2010. D. No gain or loss in 2009 and a $1,350 gain in 2010. (45,000  $1.75) - (45,000  $1.70) = $2,250 loss in 2009 (45,000  $1.75) - (45,000  $1.73) = $900 gain in 2010

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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A. A $2,800 loss in 2009 and a$3,500 gain in 2010. B. No gain or loss in 2009 and a $700 loss in 2010. C. A $2,800 gain in 2009 and a $3,500 loss in 2010. D. No gain or loss in 2009 and a $700 gain in 2010. (70,000  $1.78) - (70,000  $1.82) = $2,800 gain (70,000  $1.77) - (70,000  $1.82) = $3,500 loss

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 6

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Essay Questions

62. Accounting terminology Listed below are nine technical accounting terms introduced in this chapter:

Each of the following statements may (or may not) describe one of these technical terms. In the space provided below each statement, indicate the accounting term described, or answer "None" if the statement does not correctly describe any of the terms. (a) The strategy of creating offsetting positions so that losses from currency fluctuations will be offset by gains resulting from the same fluctuations. (b) The price of foreign currency, stated in terms of the domestic currency. (c) An item likely to appear in the income statements of American-based importers when foreign exchange rates are rising. (d) The organization responsible for developing uniform worldwide accounting standards. (e) Payments made to foreign officials to expedite paperwork. (f ) The process of restating an amount of foreign currency in terms of the equivalent number of U.S. dollars. (g ) An item likely to appear in the income statements of American-based exporters when foreign exchange rates are falling. (a ) Hedging (b.) Exchange rate (c.) Loss on fluctuations in foreign exchange rates (d.) International Accounting Standards Board (e.) Facilitating payments (f.) Translating a currency (g.) Loss on fluctuations in foreign exchange rates

AACSB: Reflective Thinking AICPA BB: Global AICPA FN: Measurement Learning Objective: 1 - 8

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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Flynn should enter into the hedging contract since the expected cost of settling the payable is less with the hedge.

AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5 Learning Objective: 6

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AACSB: Analytic AICPA BB: Critical Thinking AICPA FN: Measurement Learning Objective: 4 Learning Objective: 5

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Chapter 15 - Global Business and Accounting

68. Listed below are several terms and statements with missing expressions. You are to fill in the blanks with the appropriate term

Multiply/Divide Market economies Planned economies Weak Exchanging

Foreign trade zones Int’l Accounting Standards Board Strong

Hedging

Translating

AACSB: Reflective AICPA BB: Global AICPA FN: Measurement Learning Objective: 1 - 8

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Chapter 15 - Global Business and Accounting

CHAPTER 15

NAME

#_________

10-MINUTE QUIZ A

SECTION____________________________

Indicate the best answer for each question in the space provided. Use the following data for questions 1 through 3 Nancy Brown owns an American company that sells music cassettes to Mexican outlets. On December 10, 2009, she sold tapes to Music of Mexico for a price of 16,000 pesos, due in 60 days. The foreign currency exchange rates on specific dates are as follows: Dec. 10, 2009 Dec. 31, 2009 Feb. 8, 2010

$.1600 per peso $.1596 per peso $.1599 per peso

Refer to the above data. The journal entry to record the sale in Brown’s accounting records on December 10, 2009, includes: a A debit to Accounts Receivable for 16,000 pesos. b A credit to Sales for $2,560. c A debit to Loss on Fluctuation of Foreign Currency for $260. d No entry is made until year-end on this type of transaction..

Refer to the above data. With regard to this transaction, Brown’s financial statements at December 31, 2009, include: a An account receivable of $2,560 b A gain on fluctuation of foreign currency of $6.40 c Sales revenue of $2,553.60 d A loss on fluctuation of foreign currency of $6.40.

Refer to the above data. Which of the following is not true regarding the above sales transaction to Music of Mexico? a Brown recognizes a loss on fluctuation of foreign currency in the amount of $4.65 in 2009. b Brown recognizes a gain on fluctuation of foreign currency in the amount of $4.80 in 2010. c Brown has incurred an overall loss of $1.60 on fluctuation of foreign currency in the period from December 10, 2009 to February 8, 2010. d Brown could have avoided any loss due to fluctuations in foreign currency by setting the sales price of the cassettes in terms of U.S. dollars instead of pesos.

Which of the following businesses or individuals would benefit most from a strong U.S. dollar? a A small store that sells American-made cameras in St. Louis, Missouri. The store has no foreign receivables or payables. b The Cancun, Mexico, outlet for Levi’s jeans(made in the U.S.) c International Harvester (an American manufacturer of farming machinery that sells equipment to foreign customers.) d An American tourist visiting France.

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Chapter 15 - Global Business and Accounting

CHAPTER 15

NAME

10-MINUTE QUIZ B

SECTION____________________________________

Utah Ranchers exports beef to Japan. In the space provided below, prepare journal entries to record the following events. 2008 Nov. 1

Dec. 31

2009 Feb. 1

2008 Nov. 1

Sold beef steaks to a Japanese restaurant chain at a price of 1 million yen, due in 90 days. The current exchange rate is .0101 U. S. dollars per yen. (Utah uses the periodic Inventory method.) Utah made a year-end adjusting entry relating to the account receivable from the Japanese restaurant chain. The exchange rate at year-end is .0102 U. S. dollars per yen.

Received a check for $10,300 from the Universal Bank in full settlement of the receivable from the Japanese restaurant chain. The exchange rate at this date is .0103 U. S. dollars per yen. General Journal

Dec. 31

2009 Feb. 1

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Chapter 15 - Global Business and Accounting

CHAPTER 15

NAME

10-MINUTE QUIZ C

SECTION____________________________________

The following table summarizes the facts of five independent cases (labeled a through e) of American companies engaging in credit transactions with foreign corporations while the foreign exchange rate is fluctuating:

Case a b c d e

Type of Credit Transaction 1 Sales Purchases Purchases Sales

Column Currency Used in Contract 2 Foreign currency Foreign currency U.S. dollars Foreign currency

Exchange Rate Direction 3 Rising Rising Falling Falling

Effect on Income 4 No effect Loss Gain

Instructions Notice that for each case, a blank space has been left in one of the four columns. You are to fill this blank space after evaluating the information about the case provided in the other three columns. The content of each column and the word or words that you should enter in the blank spaces are described below: Column 1 indicates the type of credit transaction in which the American company engaged with the foreign corporations. The answer entered in this column should be either “Sales” or “Purchases.” Column 2 indicates the currency in which the invoice price is stated. The answer may be either “U.S. dollars” or “Foreign currency.” Column 3 indicates the direction in which the foreign currency exchange rate has moved between the date of the credit transaction and the date of settlement. The answer in this column may be either “Rising” or “Falling.” Column 4 indicates the effect of the exchange rate fluctuation upon the income of the American company. The answers entered in this column are to be selected from the following: “Gain,” “Loss,” or “No effect.”

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Chapter 15 - Global Business and Accounting

CHAPTER 15

NAME

10-MINUTE QUIZ D

SECTION____________________________________

Listed below are nine global business terms introduced in this chapter: Foreign exchange risk

Future contracts

International Accounting Standards Board

Loss on fluctuation in foreign exchange rates

Hedging

Exporting

Planned economy

International licensing

Each of the following statements may (or may not) describe one of these terms. In the space provided below each statement, indicate the accounting term described, or answer “None” if the statement does not correctly describe any of the terms a

The strategy of creating offsetting positions so that losses from currency fluctuations will be offset by gains resulting from the same fluctuations. ______________________________

Selling a good or service to a foreign customer. ______________________________

Government allocates resources and determines output through central planning. ______________________________

The organization responsible for developing uniform worldwide accounting standards. ______________________________

A cross-border contractual agreement allowing one company to use trademarks, patents or technology of another company. ______________________________

The impact on the value of a company of unexpected fluctuations in the exchange rate. ______________________________

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Chapter 15 - Global Business and Accounting

CHAPTER 15 SELF-TEST QUESTIONS FROM TEXTBOOK Choose the best answer for each of the following questions and insert the identifying letter in the space provided. 1

Which of the following statements are true about globalization methods? a International licensing involves the creation of a new company that is owned by two or more firms from different countries. b Exporting involves contracts that allow a foreign company to use a domestic company’s trademarks, patents, processes, or technology. c Global sourcing involves the close coordination of research and development, purchasing, marketing, and manufacturing across national boundaries. d A wholly owned international subsidiary is created when a foreign government owns 100% of the equity in a U.S. based firm.

Which of the following environmental factors can impact the cost of doing business in a foreign country. a The educational level of the workforce. b Laws regulating the transfer of profits out of a country. c Tax and tariff regulations. d Restricted access to communication and transportation networks.

A country whose citizens are highly group-oriented and who accept unequal power distributions between and within organizations would be considered: a Individualistic and lower power distance. b Collectivist and high power distance. c Individualistic and high power distance. d Collectivist and low power distance.

On March 1, Laton Products (a U.S. firm) purchased manufacturing inputs from a Mexican supplier for 20,000 pesos, payable on June 1. The exchange rate for pesos on March 1 was $0.17. If the exchange rate increases to $0.19 on June 1, what amount of gain or loss would be reported by Laton related to the currency exchange? a $400 gain. b $200 loss. c $400 loss. d $200 gain.

On January 1, 2005 a German company purchased merchandise from a U.S. firm for $50,000, payable on March 1. The exchange rate for euro on January 1 was $0.70. If the exchange rate increases to $0.72 on March 1, what amount of gain or loss would the U.S. firm report related to currency fluctuation? a $1,000 gain. b $1,000 loss. c $500 gain d No gain or loss would be reported.

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SOLUTIONS TO CHAPTER 15 10-MINUTE QUIZZES QUIZ A 1 B 2 D 3 A 4 D QUIZ B 2008 Nov. 1

Dec. 31

2009 Feb. 1

General Journal Accounts receivable Sales To record the sale of beef steaks to Japanese restaurant for 1 million yen when the exchange rate is 0.0101 U. S. dollars per yen. (1 million yen x 0.0101 = $10,100) Accounts receivable Gain on fluctuations in foreign exchange rates To adjust balance of 10,000 dollar account receivable to amount indicated by year-end exchange rate: Original account balance $10,100 Adjusted balance (1 mil. yen x 0.0102) $10,200 Required adjustment (gain) $ 100

Cash Gain on fluctuations in foreign exchange rate Accounts receivable To record receipt $10,300 in settlement of account receivable, and to recognize gain from exchange rate since Dec. 31 Accounts receivable, adjusted balance $10,200 Amount paid, Feb 1 10,300 Gain from increase in exchange rate $ 100

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10,100 10,100

100 100

10,300 100 10,200

$10,100 $ 100

Chapter 15 - Global Business and Accounting

QUIZ C

Case

Type of Credit Transaction 1

Column Currency Used in Contract 2

Exchange Rate Direction 3

Effect on Income 4

Sales

Foreign currency

Rising

Gain

Purchases

U.S. dollars

Rising

Purchases

Foreign currency

Sales

Purchases

No effect Loss

Rising

U.S. dollars

Falling

Foreign currency

No effect

Falling

Gain

QUIZ D a b c d e f

Hedging Exporting Planned economy International Accounting Standards Board International licensing Foreign exchange risk

SOLUTIONS TO CHAPTER 15 SELF-TEST QUESTIONS FROM TEXTBOOK 1

C 2 A, B, C, D 3 B

4 C (0.17 – .19) x 20,000

dollars)

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D (The transaction was denominated in