ACCOUNTING TOOLS FOR BUSINESS DECISIONS MAKING 8TH EDITION BY PAUL KIMMEL, JERRY WEYGANDT, JILL MITCHELL SOLUTIONS MANUAL
CHAPTER 1 Introduction to Financial Statements Learning Objectives 1. 2. 3. *4.
Identify the forms of business organization and the uses of accounting information. Explain the three principal types of business activity. Describe the four financial statements and how they are prepared. Explain the career opportunities in accounting.
ANSWERS TO QUESTIONS 1.
The three basic forms of business organizations are (1) sole proprietorship, (2) partnership, and (3) corporation.
LO 1 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA BC: Governance Perspective
2.
Advantages of a corporation are limited liability (stockholders not being personally liable for corporate debts), easy transferability of ownership, and ease of raising funds. Disadvantages of a corporation are increased taxation and government regulations.
LO 1 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA BC: Governance Perspective
3.
Proprietorships and partnerships receive favorable tax treatment compared to corporations and are easier to form than corporations. They are also owner controlled. Disadvantages of proprietorships and partnerships are unlimited liability (proprietors/partners are personally liable for all debts) and difficulty in obtaining financing compared to corporations.
LO 1 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA BC: Governance Perspective
4.
Yes. Companies can choose one of the hybrid business forms, limited liability corporations (LLCs) or subchapter S corporations, which combine the tax advantages of partnerships with the limited liability of corporations.
LO 1 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA BC: Governance Perspective
5.
Yes. A person cannot earn a living, spend money, buy on credit, make an investment, or pay taxes without receiving, using, or dispensing financial information. Accounting provides financial information to interested users through the preparation and distribution of financial statements.
LO 1 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
6.
Internal users are managers who plan, organize, and run a business. To assist management, accounting provides timely internal reports. Examples include financial comparisons of operating alternatives, projections of income from new sales campaigns, forecasts of cash needs for the next year, and financial statements.
LO 1 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
7.
External users are those outside the business who have either a present or potential direct financial interest (investors and creditors) or an indirect financial interest (taxing authorities, regulatory agencies, labor unions, customers, and economic planners).
LO 1 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
8.
The four most common types of data analytics and the basic question each addresses are: Descriptive (What happened?), Diagnostic (Why did it happen?), Predictive (What is likely to happen?), and Prescriptive (What should we do about it?).
LO 1 BT: K Difficulty: E TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
Questions Chapter 1 (Continued) 9.
The three types of business activities are financing activities, investing activities, and operating activities. Financing activities include borrowing money and selling shares of stock. Investing activities include the purchase and sale of property, plant, and equipment. Operating activities include selling goods, performing services, and purchasing inventory.
LO 2 BT: C Difficulty: M TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
10. (a) Income statement. (b) Balance sheet. (c) Income statement.
(d) Balance sheet. (e) Balance sheet. (f) Balance sheet.
LO 3 BT: K Difficulty: M TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
11. When a company pays dividends, it reduces the amount of assets available to pay creditors. Therefore, banks and other creditors monitor dividend payments to ensure they do not put a company’s ability to make debt payments at risk. LO 3 BT: C Difficulty: M TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Anallysis and Interpretation
12.
Yes. Net income does appear on the income statement—it is the result of subtracting expenses from revenues. In addition, net income appears in the retained earnings statement—it is shown as an addition to the beginning-of-period retained earnings. Indirectly, the net income of a company is also included in the balance sheet. It is included in the retained earnings account which appears in the stockholders’ equity section of the balance sheet.
LO 3 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
13.
The primary purpose of the statement of cash flows is to provide financial information about the cash receipts and cash payments of a business for a specific period of time.
LO 3 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
14.
The three categories of the statement of cash flows are operating activities, investing activities, and financing activities. The categories were chosen because they represent the three principal types of business activities.
LO 3 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
15.
Retained earnings is the net income retained in a corporation. Retained earnings is increased by net income and is decreased by dividends and a net loss.
LO 3 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
16.
The basic accounting equation is Assets = Liabilities + Stockholders’ Equity.
LO 3 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 1 (Continued) 17.
(a) Assets are resources owned by a business. Liabilities are amounts owed to creditors. Put more simply, liabilities are existing debts and obligations. Stockholders’ equity is the ownership claim on net assets. (b) The items that affect stockholders’ equity are issuance of common stock and the components of retained earnings (dividends, revenues, and expenses).
LO 3 BT: K Difficulty: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
18.
The liabilities are (b) Accounts payable and (g) Salaries and wages payable.
LO 3 BT: C Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
19.
(a) Net income from the income statement is reported as an increase to retained earnings on the retained earnings statement. (b) The ending amount on the retained earnings statement is reported as the retained earnings amount on the balance sheet. (c)
The ending amount on the statement of cash flows is reported as the cash amount on the balance sheet.
LO 3 BT: C Difficulty: M TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
20.
The purpose of the management discussion and analysis section is to provide management’s views on its ability to pay short-term obligations, its ability to fund operations and expansion, and its results of operations. The MD&A section is a required part of the annual report.
LO 3 BT: K Difficulty: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
21.
An unqualified opinion shows that, in the opinion of an independent auditor, the financial statements have been presented fairly, in conformity with generally accepted accounting principles. This gives investors more confidence that they can rely on the figures reported in the financial statements.
LO 3 BT: C Difficulty: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
22.
Information included in the notes to the financial statements clarifies information presented in the financial statements and includes descriptions of accounting policies, explanations of uncertainties and contingencies, and statistics and details too voluminous to be reported in the financial statements.
LO 3 BT: K Difficulty: E TOT: 1 min. AACSB: None AICPA FC: Reporting
23.
Using dollar amounts, Apple’s accounting equation (in millions) is: Assets $323,,888
=
Liabilities $258,549
+
Stockholders’ Equity $65,339
LO 3 BT: AP Difficulty: E TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
Questions Chapter 1 (Continued) 24.
A critical audit matter is an audit issue that was material in size and that involved challenging, subjective, or complex auditor judgement.
LO 3 BT: K Difficulty: E TOT: 2 min. AACSB: Knowledge AICPA AC: Research
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 1.1 (a)
P
Shared control, tax advantages, increased skills and resources.
(b)
SP
Simple to set up and maintains control with owner.
(c)
C
Easier to transfer ownership and raise funds, no personal liability.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA BC: Governance Perspective
BRIEF EXERCISE 1.2 (a) (b) (c) (d) (e)
4 3 2 5 1
Investors in common stock Marketing managers Creditors Chief Financial Officer Internal Revenue Service
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 1.3 O F F O I
(a) (b) (c) (d) (e)
Cash received from customers. Cash paid to stockholders (dividends). Cash received from issuing new common stock. Cash paid to suppliers. Cash paid to purchase a new office building.
LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation & Reporting
BRIEF EXERCISE 1.4 E R E E D R E NSE C
(a) (b) (c) (d) (e) (f) (g) (h) (i)
Advertising expense Service revenue Insurance expense Salaries and wages expense Cash distributed to stockholders. Rent revenue Utilities expense Cash purchase of equipment Cash received from investors.
LO 3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation & Reporting
BRIEF EXERCISE 1.5 KAROL COMPANY Balance Sheet December 31, 2025 Assets Cash ............................................................................... Accounts receivable ..................................................... Total assets ...................................................................
$22,000 71,000 $93,000
Liabilities and Stockholders’ Equity Liabilities Accounts payable .................................................. Stockholders’ equity Common stock....................................................... Retained earnings.................................................. Total stockholders’ equity ............................................ Total liabilities and stockholders’ equity.....................
$65,000 $18,000 10,000
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
28,000 $93,000
BRIEF EXERCISE 1.6 IS BS BS BS BS IS IS BS BS IS
(a) (b) (c) (d) (e) (f) (g) (h) (i) (j)
Income tax expense Inventory Accounts payable Retained earnings Equipment Sales revenue Cost of goods sold Common stock Accounts receivable Interest expense
LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 1.7 IS BS SCF BS
(a) (b) (c) (d)
Revenue during the period. Supplies on hand at the end of the year. Cash received from issuing new bonds during the period. Total debts outstanding at the end of the period.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 1.8 (a) $90,000 + $230,000 = $320,000 (Total assets) (Liabilities + Stockholders’ equity = Assets) ($90,000 + $230,000 = $320,000)
(b) $170,000 – $80,000 = $90,000 (Total liabilities) (Assets – Stockholders’ equity = Liabilities) ($170,000 – $80,000 = $90,000)
(c) $800,000 – 0.25($800,000) = $600,000 (Stockholders’ equity) (Assets – (0.25 × Assets) = Stockholders’ equity) [$800,000 – (0.25 × $800,000) = $600,000] LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA: AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 1.9 (a) ($800,000 + $150,000) – ($500,000 – $80,000) = $530,000 (Stockholders’ equity) [(Assets ± Change in assets) – (Liabilities ± Change in liabilities) = Stockholders’ equity] [($800,000 + $150,000) – ($500,000 – $80,000) = $530,000]
(b) ($500,000 + $100,000) + [($800,000 – $500,000) – $70,000] = $830,000 (Assets) [(Liabilities ± Change in liabilities) + (Stockholders’ equity ± Change in stockholders’ equity) = Assets] [($500,000 + $100,000) + [($800,000 – $500,000) – $70,000] = $830,000]
(c) ($800,000 – $80,000) – [($800,000 – $500,000) + $110,000] = $310,000 (Liabilities) [(Assets ± Change in assets) – (Stockholders’ equity ± Change in stockholders’ equity) = Liabilities] [($800,000 – $80,000) – [($800,000 – $500,000) + $110,000] = $310,000] LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 1.10 A L A A SE L
(a) (b) (c) (d) (e) (f)
Accounts receivable Salaries and wages payable Equipment Supplies Common stock Notes payable
LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 1.11 (d) All of these are required. LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 1.1a (a) Easier to transfer ownership: corporation (b) Easier to raise funds: corporation (c) More owner control: sole proprietorship (d) Tax advantages: sole proprietorship and partnership (e) No personal legal liability: corporation LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Kowledge AICPA BC: Governance Perspective
DO IT! 1.1b _3_ _5_ _2_ _1_ _4_
(a) Accounting (b) Internal users of financial information (c) Element of Sarbanes-Oxley Act (d) External users of financial information (e) Steps in solving an ethical dilemma
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 1.2 (a) Issuance of ownership shares is classified as common stock. (b) Land purchased is classified as an asset. (c) Amounts owed to suppliers are classified as liabilities. (d) Bonds payable are classified as liabilities. (e) Amount recorded from selling a product is classified as revenue. (f) Cost of advertising is classified as expense. LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 1.3a GRAY CORPORATION Income Statement For the Year Ended December 31, 2025 Revenues Service revenue ........................................... Expenses Rent expense................................................ Advertising expense .................................... Supplies expense......................................... Total expenses .................................. Net income...........................................................
$25,000 $10,000 4,000 1,700 15,700 $ 9,300
[Serv. rev.– Tot. expenses = Net inc. or (loss)] [$25,000 – ($10,000 + $4,000 + $1,700) = $9,300]
GRAY CORPORATION Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1.................................. Add: Net income .................................................... Less: Dividends....................................................... Retained earnings, December 31 ............................ (Beg. ret. earn. + Net inc. – Div.= End. ret. earn.) ($0 + $9,300 – $2,500 = $6,800)
$ –0– 9,300 9,300 2,500 $6,800
DO IT! 1.3a (Continued) GRAY CORPORATION Balance Sheet December 31, 2025 Assets Cash .......................................................................... Accounts receivable................................................. Supplies .................................................................... Equipment................................................................. 26,800 Total assets...............................................................
$ 3,100 2,000 1,900 $33,800
Liabilities and Stockholders’ Equity Liabilities Notes payable.................................................... Account payable ............................................... Total liabilities......................................... Stockholders’ equity Common stock .................................................. Retained earnings ............................................. Total stockholders’ equity ..................... Total liabilities and stockholders’ equity................
$ 7,000 5,000 $12,000 15,000 6,800
(Assets = Liabl. + SE) [($3,100 + $2,000 + $1,900 + $26,800) = (($7,000 + $5,000) + ($15,000 + $6,800))] LO 3 BT: AP Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
21,800 $33,800
DO IT! 1.3b (a) Description of ability to pay near-term obligations: MD&A (b) Unqualified opinion: auditor’s report (c) Details concerning liabilities, too voluminous to be included in the statements: notes to the financial statements (d) Description of favorable and unfavorable trends: MD&A (e) Certified Public Accountant (CPA): auditor’s report (f) Descriptions of significant accounting policies: notes to the financial statements LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 1.1 (a) (b) (c) (d) (e) (f) (g) (h) (i)
8. 1. 6. 7. 3. 2. 9. 5. 4.
Auditor’s opinion Corporation Common stock Accounts payable Accounts receivable Creditor Hybrid form of organization Stockholder Partnership
LO 1-3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE 1.2 Sole Proprietorship Partnership Corporation 1. 2.
3. 4.
No personal liability. Owners pay personal income tax on company income. Generally the easiest form of organization to raise capital. Ownership indicated by shares.
F
F
T
T
T
F
F
F
T
F
F
T
5.
Owned by one person.
T
F
F
6.
Limited life.
T
T
F
7.
Usually easiest form of organization to set up.
T
F
F
LO 1 BT: C Difficulty: Medium TIME: 10 min. AACSB: Knowledge AICPA BC: Governance Perspective
EXERCISE 1.3
Investor Marketing manager Creditor Chief financial officer Internal revenue service Labor union
(a) Type of Evaluation
(b) Type of User
5 4 1 6 2 3
External Internal External Internal External External
LO 1 BT: C Difficulty: Easy TIME: 5 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 1.4 a. 8 b. 1 c. 4 d. 9 e. 10 f.
2
g. 6 h. 3
i.
11
j. 7 k. 5
Assets = Liabilities + Stockholders’ Equity. An individual who has met certain criteria and is thus allowed to perform audits of corporations. Payments of cash from a corporation to its stockholders. The cost of assets consumed or services used in the process of generating revenues. Amounts owed to creditors in the form of debts and other obligations. A section of the annual report that presents management’s views on the company’s ability to pay near-term obligations, its ability to fund operations and expansion, and its results of operations. The amount by which expenses exceed revenues. The increase in assets or decrease in liabilities resulting from the sale of goods or the performance of services in the normal course of business. Regulations passed by Congress to reduce unethical corporate behavior. A business owned by one person. The owner’s claim to assets.
LO 1-3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
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EXERCISE 1.5 (a) Answers will vary.
Abitibi-Consolidated Inc. California State University—Northridge Student Union Oracle Corporation
Aquilini Investment Group Grant Thornton LLP
Southwest Airlines
Financing Sale of stock Borrow money from a bank
Investing Purchase long-term investments Purchase office equipment
Sale of bonds
Purchase other companies
Payment of dividends to stockholders Distribute earnings to partners Sale of stock
Purchase hockey equipment Purchase computers Purchase airplanes
Operating Sale of newsprint Payment of wages and benefits Payment of research expenses Payment for ice rink rentals Bill clients for professional services Payment for jet fuel
(b) Financing Sale of stock is common to all corporations. Borrowing from a bank is common to all businesses. Distribution of earnings to partners would only be common to partnerships. Payment of dividends is common to all corporations. Sale of bonds is common to large corporations. Investing Purchase and sale of property, plant, and equipment would be common to all businesses—the types of assets would vary according to the type of business and some types of businesses require a larger investment in long-lived assets. A new business or expanding business would be more apt to acquire property, plant, and equipment while a mature or declining business would be more apt to sell it. Purchase of long-term investments and other companies would be common to all businesses. Operating The general activities identified would be common to most businesses, although the service or product would differ. LO 2 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE 1.6
1. 2. 3. 4. 5. 6. 7. 8.
O I O F F F O F
LO 2 BT: K Difficulty: Easy TIME: 5 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 1.7 Accounts payable Accounts receivable Equipment Sales revenue Service revenue Inventory Mortgage payable Supplies expense Rent expense Salaries and wages expense
L A A R R A L E E E
LO 2, 3 BT: C Difficulty: Easy TOT: 3 min AACSB: Knowledge AICPA AC:, Reporting
EXERCISE 1.8 1. 2. 3. 4. 5. 6. 7. 8.
IS BS, SCF SCF IS BS RE RE BS
9. 10. 11. 12. 13. 14. 15.
BS IS IS SCF BS BS BS
LO 3 BT: K Difficulty: Easy TIME: 10 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 1.9 BENSER CO. Income Statement For the Year Ended December 31, 2025 Revenues Service revenue ..................................................... Expenses Salaries and wages expense................................. Rent expense ......................................................... Utilities expense .................................................... Advertising expense .............................................. Total expenses ............................................... Net income .....................................................................
$58,000 $30,000 10,400 2,400 1,800 44,600 $13,400
(Serv. rev. – Tot. exp. = Net inc.) [$58,000 – ($30,000 + $10,400 + $2,400 + $1,800) = $13,400]
BENSER CO. Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1 .......................................................... Add: Net income............................................................................. Less: Dividends............................................................................... Retained earnings, December 31 .................................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($67,000 + $13,400 – $6,000 = $74,400) LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
$67,000 13,400 80,400 6,000 $74,400
EXERCISE 1.10 (a)
MERCK AND CO. Income Statement For the Year Ended December 31, 2025 (in millions) Revenues Sales revenue.................................................. $38,576.0 Expenses Cost of goods sold ......................................... $ 9,018.9 Selling and administrative expenses ............ 8,543.2 Research and development expense ............ 5,845.0 Income tax expense........................................ 2,267.6 Total expenses ............................................ 25,674.7 Net income............................................................... $12,901.3
(Sales rev. – Tot. exp. = Net inc.) [$38,576.0 – ($9,018.9 + $8,543.2 + $5,845.0 + $2,267.6) = $12,901.3]
MERCK AND CO. Retained Earnings Statement For the Year Ended December 31, 2025 (in millions) Retained earnings, January 1 ................................. Add: Net income.................................................... Less: Dividends ...................................................... Retained earnings, December 31 ........................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($43,698.8 + $12,901.3 – $3,597.7 = $53,002.4]
$43,698.8 12,901.3 56,600.1 3,597.7 $53,002.4
EXERCISE 1.10 (Continued) (b) The short-term implication would be a decrease in expenses of $2,922.5 ($5,845 × 50%) resulting in a corresponding increase in income (ignoring income taxes). If all other revenues and expenses remain unchanged, decreasing research and development expenses would produce 22.7% more net income ($2,922.5 ÷ $12,901.3). The long-term implications would be more difficult to quantify but it is safe to predict that a reduction in research and development expenses would probably result in lower sales revenues in the future. Pharmaceutical companies are usually able to charge higher prices for newly developed products while lower cost generic versions usually replace older products. Decreasing research and development activities will probably mean fewer new products. The stock market’s initial reaction might be positive since Merck’s net income would increase significantly. Such a reaction would probably be very short-lived as more knowledgeable investors reviewed Merck’s financial statements and discovered the cause of the increase. LO 3 BT: AP Difficulty: Hard TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.11 ZHENG INC. Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1.................................. Add: Net income ....................................................
$130,000 225,000* 355,000 65,000 $290,000
Less: Dividends....................................................... Retained earnings, December 31 ............................ *Service revenue ...................................................... Total expenses ........................................................ Net income ..............................................................
$400,000 175,000 $225,000
(Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) [$130,000 + ($400,000 – $175,000) – $65,000 = $290,000] LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.12 RANDALL INC. Balance Sheet December 31, 2025 Assets Cash .......................................................................... Accounts receivable ................................................ Inventory................................................................... Supplies .................................................................... Equipment (net) ........................................................ Total assets ..........................................................
$
6,250 2,400 2,840 3,760 108,200 $123,450
EXERCISE 1.12 (Continued) Liabilities and Stockholders’ Equity Liabilities Notes payable .............................................. Accounts payable ........................................ Interest payable ........................................... Salaries and wages payable ....................... Unearned service revenue .......................... Total liabilities ................................................ Stockholders’ equity Common stock............................................. Retained earnings**..................................... Total stockholders’ equity* ............................ Total liabilities and stockholders’ equity..........
$ 31,500 3,700 580 745 850 $37,375 50,700 35,375 86,075 $123,450
*Tot. assets – Total liabl. = Total SE $123,450 – $37,375 = $86,075 **Tot. SE – Common stk. = Ret. earn. $86,075 – $50,700 = $35,375 LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.13 (a) Lee Corporation is distributing nearly all of this year’s net income as dividends. This suggests that Lee is not pursuing rapid growth. Companies that have a lot of opportunities for growth pay low dividends. (b) Steele Corporation is not generating sufficient cash provided by operating activities to fund its investing activities. Instead it generates additional cash through financing activities. This is common for companies in their early years of existence. LO 3 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.14 (a)
(b)
A SE E E A A A R L L R E
Cash Retained earnings Cost of goods sold Salaries and wages expense Prepaid insurance Inventory Accounts receivable Sales revenue Notes payable Accounts payable Service revenue Interest expense LONYEAR INC. Income Statement For the Year Ended December 31, 2025
Revenues Sales revenue...................................... Service revenue .................................. Total revenues ................................. Expenses Cost of goods sold ............................. Salaries and wages expense.............. Interest expense ................................. Total expenses ................................ Net income ..................................................
$584,951 4,806 $589,757 438,458 115,131 1,882 555,471 $ 34,286
[Tot. rev. – Tot. exp. = Net inc.] [($584,951 + $4,806) – ($438,458 + $115,131 + $1,882) = $34,286] LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE 1.15 (a) E L L R A E
(b)
Interest expense Interest payable Notes payable Sales revenue Cash Salaries and wages expense
A E A SE E
Equipment, net Depreciation expense Supplies Common stock Supplies expense
FAMILIA INC. Income Statement For the Year Ended December 31, 2025 Revenues Sales revenue...................................... Expenses Salaries and wages expense.............. Depreciation expense ......................... Interest expense.................................. Supplies expense................................ Total expenses ................................ Net income.…………………………………….
$44,300 $15,600 3,200 2,200 900
[Tot. rev. – Tot. exp. = Net inc.] [$44,300 – ($15,600 + $3,200 + $2,200 + $900) = $22,400] LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
21,900 $22,400
EXERCISE 1.16 First note that the retained earnings statement shows that (b) equals $27,000. Accounts payable + Common stock + Retained earnings = Total liabilities and stockholders’ equity
$5,000 + a + $27,000 = $62,000 a + $32,000 = $62,000 a = $30,000 Common stock Beginning retained earnings + Net income – Dividends = Ending retained earnings
$12,000 + e – $5,000 = $27,000 $7,000 + e = $27,000 e = $20,000 Net income From above, we know that net income (d) equals $20,000. Revenues – Cost of goods sold – Salaries and wages expense = Net income
$85,000 – c – $10,000 = $20,000 $75,000 – c = $20,000 c = $55,000 Cost of goods sold LO 3 BT: AN Difficulty: Hard TOT: 7 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.17 (c) $37,000 (given) (d) $97,000 = ($22,000 + $38,000 + $37,000) (b) $97,000 (See (d)) (a) $3,000 = ($97,000 – $29,000 – $65,000) (e) $17,000 = [$53,000 – ($25,000 + $1,000 + $10,000)] (g) $25,000 (given) (f) $18,000 = ($37,000 + $6,000 – $25,000) LO 3 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.18 (a)
Service revenue ............................................ Sales revenue................................................ Total revenues....................................... Expenses ....................................................... Net income ....................................................
$132,000 25,000 $157,000 126,000 $ 31,000
(Tot. rev. – Exp. = Net inc.) [($132,000 + $25,000) – $126,000 = $31,000]
(b)
OTAY LAKES PARK Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1 ................................................ Add: Net income ................................................................... Less: Dividends ..................................................................... Retained earnings, December 31...........................................
(Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($5,000 + $31,000 – $9,000 = $27,000)
$ 5,000 31,000 36,000 9,000 $27,000
EXERCISE 1.18 (Continued) OTAY LAKES PARK Balance Sheet December 31, 2025 Assets Cash.................................................................... Supplies ............................................................. Equipment .......................................................... Total assets........................................................
$
8,500 5,500 114,000 $128,000
Liabilities and Stockholders’ Equity Liabilities Notes payable............................................. Accounts payable ...................................... Total liabilities..................................... Stockholders’ equity Common stock ........................................... Retained earnings ...................................... Total stockholders’ equity ................. Total liabilities and stockholders’ equity .........
$50,000 11,000 $ 61,000 40,000 27,000 67,000 $128,000
(Assets = Liabl. + SE) [($8,500 + $5,500 + $114,000) = (($50,000 + $11,000) + ($40,000 + $27,000))]
(c) The income statement indicates that revenues from the general store were only about 16% ($25,000 ÷ $157,000) of total revenues which tends to support Walt’s opinion. In order to decide if the store is “more trouble than it is worth,” I would need to know the amount of expenses attributable to the general store. The income statement reports all expenses in a single category rather than separating them into camping and general store expenses to correspond with revenues. A break down into two categories would help me decide if the general store is generating a profit or loss. Even if the general store is operating at a loss, I might recommend retaining it if campers indicated that the convenience of having a general store on site was an important amenity in selecting a campground. LO 3 BT: AP Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.19 (a)
(b)
SE E E A L E L A R L SE E
Retained earnings Cost of goods sold Selling and administrative expenses Cash Notes payable Interest expense Bonds payable Inventory Sales revenue Accounts payable Common stock Income tax expense
KELLOGG COMPANY Income Statement For the Year Ended December 31, 2025 (in millions) Revenues Sales revenue ........................................... Expenses Cost of goods sold................................... Selling and administrative expenses ...... Income tax expense ................................. Interest expense ....................................... Total expenses.................................. Net income .......................................................
$12,575 $7,184 3,390 498 295
[Sales rev. – Tot. exp. = Net inc.] [$12,575 – ($7,184 + $3,390 + $498 + $295) = $1,208] LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
11,367 $ 1,208
EXERCISE 1.20 (a)
WILLIAMS CORPORATION Statement of Cash Flows For the Year Ended December 31, 2025 Cash flows from operating activities Cash received from customers..........................$ 50,000 Cash paid to suppliers ...................................... (16,000) Net cash provided by operating activities ..... $ 34,000 Cash flows from investing activities Cash paid for new equipment ........................... (28,000) Net cash used by investing activities ............ (28,000) Cash flows from financing activities Cash received from lenders ........................... 20,000 Cash dividends paid ....................................... (8,000) Net cash provided by financing activities ..... 12,000 Net increase in cash ............................................... 18,000 Cash at beginning of period................................... 12,000 Cash at end of period ............................................. $ 30,000
(Cash flows from oper., invest., and fin. act. = Net change in cash) [($50,000 – $16,000) – $28,000 + ($20,000 – $8,000) = $18,000]
(b) As a creditor, I would feel reasonably confident that Williams has the ability to repay its lenders. During 2025, Williams generated $34,000 of cash from its operating activities. This amount more than covered its expenditures for new equipment but not both equipment purchases and dividends. LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.21 (a)
SOUTHWEST AIRLINES Statement of Cash Flows For the Year Ended December 31, 2025 (in millions) Cash flows from operating activities Cash received from customers ............................. $9,823 Cash paid for goods and services ......................... (6,978) Net cash provided by operating activities ........ Cash flows from investing activities Cash paid for property and equipment ................ (1,529) Net cash used by investing activities ............... Cash flows from financing activities Cash received from issuance of long-term debt................................................. 500 Cash received from issuance of common stock................................................. 144 Cash paid for repurchase of common stock ..... (1,001) Cash paid for repayment of debt........................ (122) Cash paid for dividends...................................... (14) Net cash used by financing activities ................ Net increase in cash.................................................. Cash at beginning of period ..................................... Cash at end of period................................................
$2,845
(1,529)
(493) 823 1,390 $2,213
(Cash flows from oper., invest., and fin. act. = Net change in cash) [($9,823 – $6,978) – $1,529 + ($500 + $144 – $1,001 – $122 – $14) = $823]
(b) Southwest reported $2,845,000,000 cash from operating activities but spent $1,529,000,000 to invest in new property and equipment. Its cash from operating activities was sufficient to finance its investing activities. Southwest supplemented the cash from operating activities by issuing long-term debt and additional shares of common stock. It used excess cash to repurchase stock, pay down debt, and pay dividends. In total, it generated more cash from operating activities than it paid for investing and financing activities resulting in a net increase in cash for 2025. LO 3 BT: AP Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.22 BEESON COMPANY Balance Sheet December 31, 2025 Assets Cash .............................................................................. Accounts receivable .................................................... Supplies ........................................................................ Equipment..................................................................... Total assets ..................................................................
$18,000 12,000 9,500 40,000 $79,500
Liabilities and Stockholders’ Equity Liabilities Accounts payable ................................................. Stockholders’ equity Common stock...................................................... Retained earnings................................................. Total stockholders’ equity ........................................... Total liabilities and stockholders’ equity....................
$16,000 $40,000 23,500*
*$31,500 – $8,000 (Assets = Liabl. + SE) [($18,000 + $12,000 + $9,500 + $40,000) = ($16,000 + ($40,000 + ($31,500 – $8,000)))] LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
63,500 $79,500
EXERCISE 1.23 All dollars are in millions. (a) Assets Cash........................................................................................... $ 2,291.1 Accounts receivable ................................................................. 2,883.9 Inventory ................................................................................... 2,357.0 Equipment ................................................................................. 1,957.7 Buildings...................................................................................... 3,759.9 Total assets ................................................................................. $13,249.6 Liabilities Notes payable ........................................................................... $ 342.9 Accounts payable ..................................................................... 2,815.8 Mortgage payable ..................................................................... 1,311.5 Income taxes payable ................................................................. 86.3 Total liabilities........................................................................... $ 4,556.5 Stockholders’ Equity Common stock .......................................................................... $ 2,874.2 Retained earnings ....................................................................... 5,818.9 Total stockholders’ equity........................................................ $ 8,693.1 (b)
Assets $13,249.6
Liabilities $4,556.5
Stockholders’ Equity $8,693.1
(c) Nike has relied more heavily on equity than debt to finance its assets. Debt (liabilities) financed 34% of its assets ($4,556.5 ÷ $13,249.6) compared to equity financing of 66% ($8,693.1 ÷ $13,249.6). LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.24 (a)
Assets $110,000 (a)
= = =
Liabilities $70,000 $40,000
+ +
Stockholders’ Equity (a)
(b)
Assets (b) (b)
= = =
Liabilities $120,000 $180,000
+ +
Stockholders’ Equity $60,000
(c)
Beginning Stockholders’ Equity $40,000(a)
+
Revenues
–
+
$215,000 $ 90,000
– $165,000 – (c) (c)
Expenses
– Dividends
=
– (c)
= = =
Ending Stockholders’ Equity $60,000 $60,000 $30,000
(d)
Assets $150,000 (d)
= = =
Liabilities (d) $80,000
+ +
Stockholders’ Equity $70,000
(e)
Assets $180,000 (e)
= = =
Liabilities $ 55,000 $125,000
+ +
Stockholders’ Equity (e)
(f)
Beginning Stockholders’ Equity $70,000 (f)
+
Revenues
–
Expenses
– Dividends
=
+ =
(f) $140,000
–
$80,000
– $5,000
=
Ending Stockholders’ Equity $125,000(e)
LO 3 BT: AN Difficulty: Hard TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 1.25 (a) (b) (c) (d) (e) (f)
Financial statements Auditor’s opinion Notes to the financial statements Financial statements Management discussion and analysis Not disclosed
LO 3 BT: K Difficulty: Easy TOT: 3.0 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 1.26 (a) L A A A SE A L A A L L A
Accounts payable Accounts receivable Buildings Cash Common stock Equipment, net Income taxes payable Inventory Land Mortgage payable Notes payableSE Retained earnings Supplies
(b) Note to instructors: Students may list the accounts in the following statement in any order within the assets, liabilities, and shareholders’ equity classifications as they have not yet learned how to classify/order accounts.
EXERCISE 1.26 (Continued) AVENTURA INC. Balance Sheet November 30, 2025 Assets Cash Accounts receivable Inventory Supplies Land Buildings Equipment,, net Total assets
$ 20,000 19,500 18,000 700 44,000 100,000 30,000 $232,200
Liabilities and Stockholders’ Equity Liabilities Accounts payable Income taxes payable Notes payable Mortgage payable Total liabilities Stockholders’ equity Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity
$ 26,200 6,000 34,000 97,500 $163,700 20,000 48,500
(Assets = Liabilities + Stockholders’ equity) LO 3 BT: AP Difficulty: Medium TIME: 20 min. AACSB: Analytic AICPA AC: Reporting
68,500 $232,200
SOLUTIONS TO PROBLEMS PROBLEM 1.1
(a) The concern over legal liability would make the corporate form a better choice over a partnership. Also, the corporate form will allow the business to raise cash more easily, which may be of importance in a rapidly growing industry. (b) Bob should run his business as a sole proprietor. He has no real need to raise funds, and he doesn’t need the expertise provided by other partners. The sole proprietorship form would provide the easiest form. One should avoid a more complicated form of business unless the characteristics of that form are needed. (c) The fact that the combined business expects that it will need to raise significant funds in the near future makes the corporate form more desirable in this case. (d) It is likely that this business would form as a partnership. Its needs for additional funds would probably be minimal in the foreseeable future. Also, the three know each other well and would appear to be contributing equally to the firm. Service firms, like consulting businesses, are frequently formed as partnerships. (e) One way to ensure control would be for Don to form a sole proprietorship. However, in order for this business to thrive it will need a substantial investment of funds early. This would suggest the corporate form of business. In order for Don to maintain control over the business he would need to own more than 50 percent of the voting shares of common stock. In order for the business to grow, he may have to be willing to give up some control. LO 1 BT: C Difficulty: Medium TOT: 20 min. AACSB: Knowledge AICPA BC: Governance Perspective
PROBLEM 1.2
(a) In deciding whether to extend credit for 30 days, The North Face would be most interested in the balance sheet because the balance sheet shows the assets on hand that would be available for settlement of the debt in the near-term. (b) In purchasing an investment that will be held for an extended period, the investor must try to predict the future performance of Amazon.com. The income statement provides the most useful information for predicting future performance. (c) In extending a loan for a relatively long period of time, the lender is most interested in the probability that the company will generate sufficient income to meet its interest payments and repay its principal. The lender would therefore be interested in predicting future net income using the income statement. It should be noted, however, that the lender would also be very interested in both the balance sheet and statement of cash flows—the balance sheet because it would show the amount of debt the company had already incurred, as well as assets that could be liquidated to repay the loan. And the company would be interested in the statement of cash flows because it would provide useful information for predicting the company’s ability to generate cash to repay its obligations. (d) The president would probably be most interested in the statement of cash flows since it shows how much cash the company generates and how that cash is used. The statement of cash flows can be used to predict the company’s future cash-generating ability. LO 3 BT: C Difficulty: Medium TOT: 15 min AACSB: Knowledge AICPA AC: Reporting
PROBLEM 1.3
(a)
ELITE SERVICE CO. Income Statement For the Month Ended June 30, 2025 Revenues Service revenue .............................................. Expenses Salaries and wages expense.......................... Supplies expense............................................ Maintenance and repairs expense ................. Advertising expense ....................................... Utilities expense.............................................. Total expenses ........................................ Net income ...............................................................
$7,500 $1,400 1,000 600 400 300 3,700 $3,800
(Serv. rev. – Tot. exp. = Net inc.) [$7,500 – ($1,400 + $1,000 + $600 + $400 + $300) = $3,800]
ELITE SERVICE CO. Retained Earnings Statement For the Month Ended June 30, 2025 Retained earnings, June 1 ....................................................... Add: Net income..................................................................... Less: Dividends....................................................................... Retained earnings, June 30 ..................................................... (Beg. ret. earn. – Net inc. – Div. = End. ret. earn.) ($0 + $3,800 – $1,400 = $2,400)
$
0 3,800 3,800 1,400 $2,400
PROBLEM 1.3 (Continued) ELITE SERVICE CO. Balance Sheet June 30, 2025 Assets Cash ........................................................................... Accounts receivable.................................................. Supplies ..................................................................... Equipment.................................................................. Total assets................................................................
$ 4,600 4,000 2,400 26,000 $37,000
Liabilities and Stockholders’ Equity Liabilities Notes payable .................................................... $12,000 Accounts payable .............................................. 500 Total liabilities ............................................ Stockholders’ equity Common stock ................................................... 22,100 Retained earnings.............................................. 2,400 Total stockholders’ equity ......................... Total liabilities and stockholders’ equity ....................
$12,500
24,500 $37,000
(Assets = Liabl. + SE) [($4,600 + $4,000 + $2,400 + $26,000) = (($12,000 + $500) + ($22,100 + $2,400))]
(b) Elite had a very successful first month, earning $3,800 or about 51% of service revenues ($3,800 ÷ $7,500). Its net income represents a little over 17% return on the initial investment ($3,800 ÷ $22,100). (c) Distributing a dividend after only one month of operations is probably unusual. Most new businesses choose to build up a cash balance to provide for future operating and investing activities or pay down debt. Elite distributed approximately 37% ($1,400 ÷ $3,800) of its first month’s income but it had adequate cash to do so and still showed a significant increase in retained earnings. LO 3 BT: AP Difficulty: Hard TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 1.4 REESE INC. Income Statement For the Month Ended October 31, 2025 Revenues: Service revenue ................................................. Expenses: Salaries and wages expense ............................ Interest expense ................................................ Supplies expense .............................................. Depreciation expense ....................................... Total expense ................................................ Net Income………………………………………….
$20,920 $2,500 410 380 270 3,560 $17,360
(Serv. rev. – Tot. exp. = Net inc.) [$20,920 – ($2,500 + $410 + $380 + $270) = $17,360]
REESE INC. Retained Earnings Statement For the Month Ended October 31, 2025 Retained earnings, October 1 ................................ Add: Net income ..................................................... Retained earnings, October 31………………………. (Beg. ret. earn. + Net inc. = End. ret. earn.) ($0 + $17,360 = $17,360)
$
0 17,360 $17,360
PROBLEM 1.4 (Continued) REESE INC. Balance Sheet October 31, 2025 Assets Cash......................................................................... Accounts receivable............................................... Supplies .................................................................. Equipment (net) ...................................................... Total assets.............................................................
$ 3,950 1,300 2,460 48,200 $55,910
Liabilities and Stockholders’ Equity Liabilities Bonds payable ................................................... Accounts payable .............................................. Unearned service revenue ................................ Salaries and wages payable ............................. Interest payable ................................................. Total liabilities........................................... Stockholders’ Equity Common stock................................................... Retained earnings.............................................. Total stockholders’ equity ....................... Total liabilities and stockholders’ equity ...............
$21,500 3,300 4,065 445 140 $29,450 9,100 17,360 26,460 $55,910
(Assets = Liabl. + SE) [($3,950 + $1,300 + $2,460 + $48,200) = (($21,500 + $3,300 + $4,065 + $445 + $140) + ($9,100 + $17,360))] LO 3 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 1.5
(a) ROJO CORPORATION Statement of Cash Flows For the Year Ended December 31, 2025 Cash flows from operating activities Cash received from customers ........................... $132,000 Cash paid to suppliers ........................................ (104,000) Net cash provided by operating activities ....... $28,000 Cash flows from investing activities Cash paid to purchase equipment ...................... (12,000) Net cash used by investing activities .............. (12,000) Cash flows from financing activities Cash received from issuing common stock.... 22,000 Cash dividends paid.......................................... (7,000) Net cash provided by financing activities ....... 15,000 Net increase in cash ................................................ 31,000 Cash at beginning of period.................................... 9,000 Cash at end of period .............................................. $40,000 (Cash flows from oper., invest., and fin. act. = Net change in cash) [($132,000 – $104,000) – $12,000 + ($22,000 – $7,000) = $31,000]
(b) Rojo Corporation’s operating activities provided $28,000 of cash which was adequate to fund its investing activities $12,000 and make $7,000 of dividend payments. LO 3 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 1.6
(a) 1. Since the boat actually belongs to Miko Liu—not to Micado Corporation—it should not be reported on the corporation’s balance sheet. Likewise, the boat loan is a personal loan of Miko’s—not a liability of Micado Corporation.
(b)
2.
The inventory should be reported at $25,000, the amount paid when it was purchased. Micado Corporation will record $36,000 as revenues when the inventory is sold.
3.
The $10,000 receivable is not an asset of Micado Corporation—it is a personal asset of Miko Liu. MICADO CORPORATION Balance Sheet December 31, 2025
Assets Cash.......................................................................... Accounts receivable................................................ Inventory .................................................................. Total assets..............................................................
$20,000 40,000* 25,000 $85,000
Liabilities and Stockholders’ Equity Liabilities Notes payable...................................................... Accounts payable ............................................... Total liabilities.......................................................... Stockholders’ equity ............................................... Total liabilities and stockholders’ equity ...............
$15,000 30,000
*$50,000 – $10,000 **$85,000 – $45,000 (Total assets minus total liabilities) (Assets = Liabl. + SE) [($20,000 + ($50,000 – $10,000) + $25,000) = (($15,000 + $30,000) + ($85,000 – $45,000))] LO 3 BT: AN Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
$45,000 40,000** $85,000
CC1
CONTINUING CASE: COOKIE CREATIONS
(a) Natalie has a choice between a sole proprietorship and a corporation. A partnership is not an option since she is the sole owner of the business. A proprietorship is easier to create and operate because there are no formal procedures involved in creating the proprietorship. However, if she operates the business as a proprietorship she will personally have unlimited liability for the debts of the business. Operating the business as a corporation would limit her liability to her investment in the business. Organizing as a corporation would also allow Natalie to seek investors in her business. Natalie will in all likelihood require the services of a lawyer to incorporate. Costs to incorporate as well as additional ongoing costs to administrate and operate the business as a corporation may be costly. Also, her taxes would be higher if she incorporates (since the net income of the corporation would be taxed and any dividends Natalie receives would also be taxed). (b) Yes, Natalie will need accounting information to help her operate her business. She will need information concerning her cash balance on a daily or weekly basis to help her determine if she can pay her bills. She will need to know the cost of her services so she can establish her prices. She will need to know revenue and expenses so she can report her net income for personal income tax purposes, on an annual basis. If she borrows money, she will need financial statements so lenders can assess the liquidity, solvency, and profitability of the business. Natalie would also find financial statements useful to better understand her business and identify any financial issues as early as possible. Monthly financial statements would be best because they are more timely, but they are also more work to prepare. (c) Assets: Cash, Accounts Receivable, Supplies, Equipment, Prepaid Insurance Liabilities: Accounts Payable, Unearned Service Revenue, Notes Payable Revenue: Service Revenue Expenses: Advertising Expense, Supplies Expense, Travel Expense, Utilities Expense, Insurance Expense
CC1 (Continued) (d) Natalie should have a separate bank account. This will make it easier to prepare financial statements for her business. Regardless of the organizational form of the business it will be a separate entity from Natalie and must be accounted for separately. (e) I recommend that Natalie keep the car as a personal asset and pay for all costs personally. She should keep track of how many miles she drives for business purposes versus personal use and determine the percentage of business use versus personal use. She should keep track of all costs of owning and operating her car including such things as fuel, insurance, registration, and repairs and maintenance. Then she can multiply the percentage of business use by the total cost of owning and operating her car to calculate the amount of expense the business can record for travel. The business will record this as an expense. Natalie can either reimburse herself for these business expenses by taking cash out of the business to pay for these costs or she can treat it as an investment in the business. [Note to instructors: This last question is fairly complex and there are income tax considerations. This suggested solution does not cover all of the issues that should be considered. The intent is just to ensure students begin to think about how to deal with a fairly common issue for self-employed people.]
CT1.1
FINANCIAL REPORTING PROBLEM
(a) Apple’s total assets at September 26, 2020 were $323,888 million and at September 28, 2019 were $338,516 million. (b) Apple had $38,016 million of cash and cash equivalents at September 26, 2020. (c) Apple had accounts payable totaling $42,296 million on September 26, 2020 and $46,236 million on September 28, 2019. (d) Apple reported net sales in 2020 of $274,515 million, in 2019 of $260,174 million, and in 2018 of $265,595 million. (e) Apple’s net income increased by $2,155 million from 2019 to 2020, from $55,256 million to $57,411 million. LO 3 BT: AN Difficulty: Medium TOT: 5.0 min. AACSB: Analytic AICPA AC: Reporting
CT1.2
COMPARATIVE ANALYSIS PROBLEM
(a) (amounts in thousands)
1. Total liabilities 2. Net property, plant and equipment 3. Net cash provided (used) by investing activities. 4. Net income(loss)
Columbia Sportswear Company $1,003,800
Under Armour, Inc. $3,354,635
$309,792
$ 658,678
$(27,171) $108,013
$66,345 $(549,177)
(b) Columbia is profitable, while Under Armour is not. Under Armour’s net property, plant, and equipment and total liabilities suggest that it is substantially bigger than Columbia. Under Armour’s liabilities are more than three times as big as Columbia’s. LO 3 BT: AN Difficulty: Medium TOT: 8.0 min. AACSB: Analytic AICPA AC: Reporting
CT1.3
(a)
COMPARATIVE ANALYSIS PROBLEM
(in millions) 1. Total assets 2. Accounts receivable (net) 3. Net sales 4. Net income (loss)
Amazon.com $321,195 $24,542 $215,915 $21,331
Walmart, Inc. $252,496 $6,516 $555,233 $13,510
(b) Amazon’s total assets are a little over 27% greater than Walmart’s, but, Walmart’s net sales are 2.6 times as large as Amazon’s. However, Walmart’s net income is only 63% as big as Amazon’s. It appears that Amazon does a better job controlling its costs than Walmart. So, it appears that Amazon is the bigger company and more profitable.
LO 3 BT: AN Difficulty: Medium TOT: 10.0 min AACSB: Analytic AICPA AC: Reporting
CT1.4
INTERPRETING FINANCIAL STATEMENTS
(a) Creditors lend money to companies with the expectation that they will be repaid at a specified point in time in the future. If a company is generating cash from operations in excess of its investing needs, it is more likely that it will be able to repay its creditors. Not only did Xerox actually have negative cash from operations, but all of the cash it received in order to meet its cash deficiency was from issuing new debt. Both of these facts would be of concern to the company’s creditors, since it would suggest it will be less likely to be able to repay its debts. (b) As a stockholder, you are interested in the long-term performance of a company and how that translates into its stock price. Often during the early years of a company’s life its cash provided by operations is not sufficient to meet its investment needs, so the company will have to get cash from outside sources. However, in the case of Xerox, the company has operated for many years and has a well-established name brand. The negative cash from operations might suggest operating deficiencies. (c) The statement of cash flows reports information on a cash basis. An investor cannot get the complete story on the company’s performance and financial position without looking at the income statement and balance sheet. Also, investors would want to look at more than one year’s worth of data. The current year might not be representative of past or future years. (d) Xerox is a well-known company. It has a past record of paying dividends. Its management probably decided to continue to pay a dividend to demonstrate confidence in the company’s future. They may have felt that by not paying the dividend for the year they would send a negative message to investors. However, by choosing to pay a cash dividend the company obviously weakened its cash position, and decreased its ability to repay its debts. LO 3 BT: S Difficulty: Hard TOT: 15.0 min. AACSB: Analytic AICPA AC: Reporting AICPA PC: Decision Making
CT1.5
REAL-WORLD FOCUS
Answers to this question will differ depending on the companies chosen by the student, and the year. We provide the following solution for Netflix for the year ended December 31, 2018. (a) During the year ended December 31, 2018, Netflix reported net income of $1,211,242 thousand. (b) During the year ended December 31, 2018. Netflix reported sales of $15,794,341 thousand. (c) The “Industry” label on the left side of the Profile site tells us that Netflix is in the CATV systems. (d) Companies also in this industry would include Directv, Hulu, Dish Network, and Comcast Corporation. (e) We chose Dish Network. During the year ended December 31, 2018, Dish reported sales of $13,621,302 thousand and net income of $1,575,091 thousand. LO 3 BT: AP Difficulty: Medium TOT: 15.0 min. AACSB: Technology AICPA AC: Reporting
CT1.6
REAL-WORLD FOCUS
(a) The old auditor’s report focused primarily on whether or not a company’s numbers were “fairly presented”. (b) The new report requires auditors to tell investors about any “critical audit matters” – areas of their audit that were especially challenging or complex or forced them to make tough decisions in evaluating a company’s books. Examples include: assessing how a company sets aside loan-loss reserves when it introduces a new loan product; evaluation of a company’s estimates; and, evaluation of the valuations used for acquired assets. (c) The new report requirements will bring the U. S. closer to the U. K. and other European countries where such disclosures in the audit report are already required. (d) To be disclosed, an item must be material and significant enough to be reported to the company’s audit committee. LO 3 BT: S Difficulty: Medium TOT: 15.0 min. AACSB: Technology, Communication AICPA AC: Reporting AICPA PC: Communication
CT1.7
DECISION-MAKING ACROSS THE ORGANIZATION
(a) The Report of Independent Registered Public Accounting Firm indicates that PricewaterhouseCoopers LLP performed the audit of Johnson & Johnson’s financial statements. (b) The Consolidated Statements of Operations states that its basic earnings per share were $5.59 for the year ended January 3 2021. (c) In the Selected Financial Data (Part II, Item 6 and Note to Financial Statements No. 17), shows that customer – international sales was $39,451 ($82,584 – $43,133) million in 2020. (d) In the Consolidated Income Statement, sales to customers for 2018 was $81,581 million. (e) The Shareholders’ Equity section of the Consolidated Balance Sheets states that 4,320,000,000 common shares were authorized. (f) Per the Consolidated Statements of Cash Flows, $3,347 million was spent on additions to property, plant, and equipment. (g) Note 1 states that building and building equipment depreciation is based on 20–30 years using straight-line depreciation. (h) Per the Consolidated Statement of Financial Position, inventories were $9,020 million in 2019. LO 3 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT1.8
COMMUNICATION ACTIVITY
To:
Marci Ling
From:
Student
I have received the balance sheet of Samco Company, Inc. as of December 31, 2025. The purpose of a balance sheet is to report a company’s financial position at a point in time. It reports what the company owns (assets) and what it owes (liabilities) and the net amount attributed to owners (equity). A number of items in this balance sheet are not properly reported. They are: (1) The balance sheet should be dated as of a specific date, not for a period of time. Therefore, it should be stated “December 31, 2025.” (2) Equipment should be below Supplies on the balance sheet. (3) Accounts receivable should be shown as an asset and reported between Cash and Supplies on the balance sheet. (4) Accounts payable should be shown as a liability, not an asset. Therefore, it should be reported in the liability section, after notes payable. (5) Liabilities and stockholders’ equity should be shown separately on the balance sheet. Common stock, Retained earnings, and Dividends are not liabilities. (6) Common stock, Retained earnings, and Dividends are part of stockholders’ equity. The Dividends account is not reported on the balance sheet but is subtracted from beginning Retained earnings to arrive at the ending balance. A correct balance sheet is as follows:
CT1.8 (Continued) SAMCO COMPANY, INC. Balance Sheet December 31, 2025 Assets Cash .............................................................................. Accounts receivable..................................................... Supplies ........................................................................ Equipment..................................................................... Total assets...................................................................
$ 9,000 6,000 1,000 18,000 $34,000
Liabilities and Stockholders’ Equity Liabilities Notes payable ....................................................... Accounts payable ................................................. Total liabilities ............................................... Stockholders’ equity Common stock ...................................................... Retained earnings................................................. Total stockholders’ equity ............................ Total liabilities and stockholders’ equity.................... *Retained earnings ....................................................... Less: Dividends ......................................................... Ending retained earnings ...........................................
$10,000 4,000 $14,000 12,000 8,000* 20,000 $34,000 $10,000 2,000 $ 8,000
(Assets = Liabl. + SE) [($9,000 + $6,000 + $1,000 + $18,000) = (($10,000 + $4,000) + ($12,000 + ($10,000 – $2,000)))] LO 3 BT: C Difficulty: Medium TOT: 15.0 min. AACSB: Knowledge AICPA AC: Reporting
CT1.9
ETHICS CASE
(a) Investors rely on auditors to perform an independent assessment of a company. If the auditor owns stock in that company, he or she might not be able to act in an independent and impartial manner. (b) There are pros and cons to this argument. On the positive side, it could be argued that as long as a person has no direct relationship with a client company, that person will not influence the findings of the work. However, a counter argument is that an influential partner within a firm, who had an investment in a client that he or she didn’t work on, might be tempted to try to influence the findings of the audit if he or she feared that the findings were going to negatively affect the value of his or her investment. (c) The fact that four firms have become so big means that prohibiting employees of those accounting firms from buying stock in clients of the firm would bar those employees from investing in roughly 25% of publicly traded companies. Some have argued that such restrictive rules would create undue hardship, and unfairly restrict the investment options of these people. They also argue that in such a large organization it is increasingly unlikely that an individual who does not work on a particular audit will be able to influence the outcome of that audit. As a consequence, rules that focus on restricting investments by those employees actually involved in the audit of a client may be most reasonable and most effective. (d) Answers to this question will vary. This is a particularly difficult issue since the rule effectively eliminates the individual’s control over their investment portfolio. They did nothing wrong when they bought the shares, but now they are being forced to sell when it is not advantageous. (e) The management of PricewaterhouseCoopers noted that auditor independence is vitally important to the audit function. If investors don’t think the auditor is independent of the client they will lose faith in auditing, which would have dire consequences for securities markets. Therefore, it was important that the firm make a bold, unambiguous response to address this problem. LO 3 BT: E Difficulty: Hard TOT: 30.0 min. AACSB: Ethics AICPA AC: Reporting AICPA PC: Ethical Conduct
CT1.10
ETHICS CASE
Students responses to each topic will vary. The responses presented below include points that should appear, in some way, to each topic. a. Yes, companies, specifically the management, should be held accountable for the accuracy of their communications. In fact, the Sarbanes-Oxley Act, requires that the top management certify the fairness of the information contained in a company’s financial statements. b. The steps taken to ensure that a company’s financial communications are accurate should include: 1. Hire managers with the appropriate education and experience. 2. Install an accounting information system that will ensure that accounting transactions are recorded and reported accurately. 3. Assuming the company being discussed is a corporation, require the Board of Directors have oversight responsibilities of the reporting system. 4. Hire a CPA firm to conduct an annual audit of the information contained in the annual financial statements. 5. To ensure that interested outside parties receive timely information, issue periodic (quarterly) financial information. c. The comments presented here are based on the following web addresses: https://www.sec.gov/news/press-release/2018-226; https://www.cnbc.com/2019/03/19/tesla-and-elon-musk-lawsuitsoverview.html; https://www.washingtonpost.com/technology/2020/02/13/tesla-sec/ A summary of the charges levied against Elon Musk and Tesla and the subsequent settlement include: In 2018, the SEC claimed that Mr. Musk had intentionally tweeted misleading information about Tesla that negatively impacted the stock market. Additionally, the SEC claimed that Tesla failed to have the required disclosure requirements and procedures related to the accuracy of Mr. Musk’s tweets.
CT1.10 (Continued) In 2019, a settlement was reached that required that: Mr. Musk step down as Tesla’s Chairman. Tesla would appoint two new independent directors to the board. Tesla would create a new committee of independent directors with additional controls and procedures to oversee Mr. Musk’s communications. Both Mr. Musk and Tesla would each pay a $20 million penalty that would be used to compensate harmed investors. In 2020, the SEC issued a subpoena for Tesla financial records due to Mr. Musk making another misleading tweet regarding Tesla’s production estimates that was not approved in advance by securities experts. d. If investors and creditors cannot rely on the accuracy of the information contained in company financial statements then capital markets would, at best, be greatly reduced, or, at worst, cease to exist. Without accurate, reliable information, investors and creditors would be unable to assess the risk of investing or lending. As a result, companies seeking cash inflows from investors/creditors to run and grow their operations, would have to rely solely on the owner(s) personal assets. The result would be to reduce the size of company operations, which would affect employment, and result in a stultifying effect on the economy. LO 1 BT: S Difficulty: Hard TOT: 45.0 min. AACSB: Ethics AICPA AC: Reporting AICPA PC: Ethical Conduct
CT1.11 (a)
ALL ABOUT YOU
Answers to the following will vary depending on students’ opinions. 1.
(b)
(c)
(d)
This does not represent the hiding of assets, but rather a choice as to the order of use of assets. This would seem to be ethical. 2. This does not represent the hiding of assets, but rather is a change in the nature of assets. Since the expenditure was necessary, although perhaps accelerated, it would seem to be ethical. 3. This represents an intentional attempt to deceive the financial aid office. It would therefore appear to be both unethical and potentially illegal. 4. This is a difficult issue. By taking the leave, actual net income would be reduced. The form asks the applicant to report actual net income. However, it is potentially deceptive since you do not intend on taking unpaid absences in the future, thus future income would be higher than reported income. Companies might want to overstate net income in order to potentially increase the stock price by improving investors’ perceptions of the company. Also, a higher net income would make it easier to receive debt financing. Finally, managers would want a higher net income to increase the size of their bonuses. Sometimes companies want to report a lower income if they are negotiating with employees. For example, professional sports teams frequently argue that they cannot increase salaries because they aren’t making enough money. This also occurs in negotiations with unions. For tax accounting (as opposed to the financial accounting in this course) companies frequently try to minimize the amount of reported taxable income. Unfortunately, many times people who are otherwise very ethical will make unethical decisions regarding financial reporting. They might be driven to do this because of greed. Frequently it is because their superiors have put pressure on them to take an unethical action, and they are afraid to not follow directions because they might lose their job. Also, in some instances top managers will tell subordinates that they should be a team player, and do the action because it would help the company, and therefore would help fellow employees.
LO3 BT: E Difficulty: Hard TOT: 30.0 min. AACSB: Reflective Thinking AICPA AC: Reporting AICPA PC: Decision Making
CT1.12
FASB CODIFICATION ACTIVITY
No solution necessary.
CT1.13 (a)
CONSIDERING PEOPLE, PLANET AND PROFIT
The 5 aspirations relate to the company’s goals: (1) sustaining its business, (2) its brands, (3) its people, (4) its community, and (5) the planet.
LO 3 BT: AN Difficulty: Medium TOT: 15.0 min. AACSB: Analytic and Technology AICPA AC: Reporting
CHAPTER 2 A Further Look at Financial Statements Learning Objectives 1. 2. 3.
Identify the sections of a classified balance sheet. Use ratios to evaluate a company’s profitability, liquidity, and solvency. Discuss financial reporting concepts.
ANSWERS TO QUESTIONS 1.
A company’s operating cycle is the average time that is required to go from cash to cash in producing revenue—to purchase inventory, sell it on account, and then collect cash from customers..
. LO 1 BT: K Diff: E TOT: 1 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
2.
Current assets are assets that a company expects to convert to cash or use up within one year of the balance sheet date or the company’s operating cycle, whichever is longer. Current assets are listed in the order in which they are expected to be converted into cash.
LO 1 BT: K Diff: E TOT: 1 min. AACSB: None AICPA FC: Reporting
3.
Long-term investments are investments in stocks and bonds of other companies where the conversion into cash is not expected within one year or the operating cycle, whichever is longer, and plant assets not currently in operational use. Property, plant, and equipment are tangible resources of a relatively permanent nature that are being used in the business and not intended for sale.
LO 1 BT: C Diff: M TOT: 2 min. AACSB: None AICPA FC: Reporting
4.
Current liabilities are obligations that will be paid within the coming year or operating cycle, whichever is longer. Long-term liabilities are obligations that will be paid after one year.
LO 1 BT: C Diff: M TOT: 1 min. AACSB: None AICPA FC: Reporting
5.
The two parts of stockholders’ equity and the purpose of each are: (1) Common stock is used to record investments of assets in the business by the owners (stockholders) and (2) Retained earnings is used to record net income retained in the business.
LO 1 BT: K Diff: M TOT: 2 min. AACSB: None AICPA FC: Reporting
6.
(a)
Geena is not correct. There are three characteristics: liquidity, profitability, and solvency.
(b) The three parties are not primarily interested in the same characteristics of a company. Short-term creditors are primarily interested in the liquidity of the company. In contrast, long-term creditors and stockholders are primarily interested in the profitability and solvency of the company. LO 2 BT: C Diff: M TOT: 3 min. AACSB: None AICPA FC: Reporting
7.
(a)
Liquidity ratios: Working capital and current ratio.
(b) Solvency ratios: Debt to assets and free cash flow. (c)
Profitability ratio: Earnings per share.
LO 2 BT: K Diff: E TOT: 2 min. AACSB: None AICPA FC: Reporting
Questions Chapter 2 (Continued) 8.
Debt financing is riskier than equity financing because debt must be repaid at specific points in time, whether the company is performing well or not. Thus, the higher the percentage of assets financed by debt, the riskier the company.
LO 2 BT: C Diff: E TOT: 2 min. AACSB: None AICPA FC: Reporting
9.
(a) Liquidity ratios measure the short-term ability of the company to pay its maturing obligations and to meet unexpected needs for cash. (b) Profitability ratios measure the income or operating success of a company for a given period of time. (c)
Solvency ratios measure the company’s ability to survive over a long period of time.
LO 2 BT: K Diff: E TOT: 2 min. AACSB: None AICPA FC: Reporting
10.
(a) The increase in earnings per share is good news because it means that profitability has improved. (b) An increase in the current ratio signals good news because the company improved its ability to meet maturing short-term obligations. (c)
The increase in the debt to assets ratio is bad news because it means that the company has increased its obligations to creditors and has lowered its equity “buffer.”
LO 2 BT: AN Diff: M TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
11.
(a) The debt to assets ratio and free cash flow indicate the company’s ability to repay the face value of the debt at maturity and make periodic interest payments. (b) The current ratio and working capital indicate a company’s liquidity and short-term debtpaying ability. (c)
Earnings per share indicates the earning power (profitability) of an investment.
LO 2 BT: C Diff: M TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
12.
(a) Generally accepted accounting principles (GAAP) are a set of rules and practices, having substantial support, that are recognized as a general guide for financial reporting purposes. (b) The body that provides authoritative support for GAAP is the Financial Accounting Standards Board (FASB).
LO 3 BT: K Diff: E TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
13.
(a) The primary objective of financial reporting is to provide information useful for decision making. (b) The fundamental qualitative characteristics are relevance and faithful representation. The enhancing qualities are comparability, consistency, verifiability, timeliness, and understandability.
LO 3 BT: K Diff: M TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
Questions Chapter 2 (Continued) 14.
Dietz is correct. Consistency means using the same accounting principles and accounting methods from period to period within a company. Without consistency in the application of accounting principles, it is difficult to determine whether a company is better off, worse off, or the same from period to period.
LO 3 BT: AN Diff: M TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation, Reporting
15.
Comparability results when different companies use the same accounting principles. Consistency means using the same accounting principles and methods from year to year within the same company.
LO 3 BT: C Diff: E TOT: 1 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
16.
The cost constraint allows accounting standard-setters to weigh the cost that companies will incur to provide information against the benefit that financial statement users will gain from having the information available.
LO 3 BT: K Diff: E TOT: 1 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
17.
Accounting standards are not uniform because individual countries have separate standardsetting bodies. Currently many non-U.S. countries are choosing to adopt International Financial Reporting Standards (IFRS). Accounting standards in the United States are converging towards IFRS.
LO 3 BT: C Diff: M TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
18.
Accounting relies primarily on two measurement principles. Fair value is sometimes used when market price information is readily available. However, in many situations reliable market price information is not available. In these instances, accounting relies on historical cost as its basis.
LO 3 BT: C Diff: M TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
19.
The economic entity assumption states that every economic entity can be separately identified and accounted for. This assumption requires that the activities of the entity be kept separate and distinct from (1) the activities of its owners (the shareholders) and (2) all other economic entities. A shareholder of a company charging personal living costs as expenses of the company is an example of a violation of the economic entity assumption.
LO 3 BT: C Diff: M TOT: 3 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
20.
At September 26, 2020 Apple’s largest current asset was marketable securities of $52,927 million, its largest current liability was other current liabilities of $42,684 million and its largest item under “Assets” was non-current marketable securities of $100,887 million.
LO 1 BT: C Diff: M TOT: 5 min. AACSB: None AICPA FC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 2.1 CL Accounts payable PPE Buildings CA Accounts receivable CA Cash PPE Accumulated depreciation IA Goodwill CL Income taxes payable CA Inventory LTI Investment in long-term bonds IA Patents PPE Land CA Supplies LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Reporting
BRIEF EXERCISE 2.2 Identify the order of asset classifications. 2 5 7 4 1 6 3
Long-term investments Current liabilities Stockholders’ equity Intangible assets Current assets Long-term liabilities Property, plant, and equipment
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Reporting
BRIEF EXERCISE 2.3 CHIN COMPANY Partial Balance Sheet Current assets Cash......................................................................................... Debt investments.................................................................... Accounts receivable............................................................... Supplies .................................................................................. Prepaid insurance................................................................... Total current assets ........................................................ LO 1 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
$10,400 8,200 14,000 3,800 2,600 $39,000
BRIEF EXERCISE 2.4 Net income Preferred dividends Average common shares outstanding $220 million – $0 $.66 per share 333 million shares
Earnings per share
LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Reporting
BRIEF EXERCISE 2.5 Working capital = Current assets – Current liabilities Current assets Current liabilities Working capital
$102,500,000 201,200,000 ($ 98,700,000)
Current ratio: Current assets $102,500,000 Current liabilities $201,200,000 .51 : 1 LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
BRIEF EXERCISE 2.6 Current assets Current liabilities
$262,787 0.89:1 $293,625
Total liabilities Total assets
$376,002 85.5% $439,832
(a)
Current ratio
(b)
Debt to assets
LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
BRIEF EXERCISE 2.7 (a) True. (b) False. The primary standard-setting body in the U.S. is the FASB. LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and interpretation
BRIEF EXERCISE 2.8 (a) (b) (c) (d) (e) (f) (g) (h)
Predictive value. Confirmatory value. Materiality. Complete. Free from error. Comparability. Verifiability. Timeliness.
LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement Analysis and interpretation
BRIEF EXERCISE 2.9 (a) Relevant. (b) Faithful representation. (c) Consistency. LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and interpretation
BRIEF EXERCISE 2.10 (a) (b) (c) (d)
1. 2. 3. 4.
Predictive value. Neutral. Verifiable. Timely.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and interpretation
BRIEF EXERCISE 2.11 (c) financial statements should disclose sufficient detail regarding events and circumstances that would make a difference to users of financial statements. LO 3 BT: K Difficulty: Easy TOT: 1 min. AACSB: None AICPA FC: Measurement Analysis and interpretation
SOLUTIONS TO DO IT! EXERCISES DO IT! 2.1a MYLAR CORPORATION Balance Sheet (partial) December 31, 2025 Assets Current assets Cash .................................................................. $ 13,000 Accounts receivable......................................... 22,000 Inventory ........................................................... 58,000 Supplies ............................................................... 7,000 Total current assets ............................... Long-term investments Stock-investments............................................ Property, plant, and equipment Equipment......................................................... Less: Accumulated depreciation— equipment .............................................. Intangible assets Goodwill ............................................................ Total assets...............................................................
$100,000 1,900
180,000 50,000
130,000 4,100 $236,000
(Current assets + L-T invest. + Prop., plant, & equip. + Intang. assets = Tot. assets) [($13,000 + $22,000 + $58,000 + $7,000) + $1,900 + ($180,000 – $50,000) + $4,100 = $236,000] LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA FC: Reporting
DO IT! 2.1b IA CL NA CL LTI CL
Trademarks Notes payable (current) Interest revenue Income taxes payable Debt investments (long-term) Unearned sales revenue
CA Inventory PPE Accumulated depreciation PPE Land SE Common stock NA Advertising expense LTL Mortgage payable (due in 3 years
LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
DO IT! 2.2 (a)
2025
2024
($80,000 – $6,000) $1.29 (40,000 75,000)/2
($40,000 – $6,000) $0.97 (30,000 40,000)/2
Nguoi’s profitability, as measured by the amount of income available for each share of common stock, increased by 33 percent (($1.29 – $0.97)/$0.97) during 2025. Earnings per share should not be compared across companies because the number of shares issued by companies varies widely. Thus, we cannot conclude that Nguoi Corporation is more profitable than Matisse Corporation based on its higher EPS in 2025. Net Income - Preferred Dividends Average Common Shares Outstanding
(b)
2025 $54,000 = 2.45:1 $22,000
Current ratio
2024 $36,000 = 1.20:1 $30,000
Current assets Current liabilities Debt to assets ratio
$72,000 = 30% $240,000
$100,000 = 49% $205,000
Total liabilities Total assets The company’s liquidity, as measured by the current ratio improved from 1.20:1 to 2.45:1. Its solvency also improved, because the debt to assets ratio declined from 49% to 30%. LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
DO IT! 2.3 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12.
Monetary unit assumption Faithful representation Economic entity assumption Cost constraint Consistency Historical cost principle Relevance Periodicity assumption Full disclosure principle Materiality Going concern assumption Comparability
LO 3 BT: K Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA FC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 2.1 CL CA PPE PPE CA CL IA CL
Accounts payable Accounts receivable Accumulated depreciation—equip. Buildings Cash Interest payable Goodwill Income taxes payable
CA CA PPE LTL CA PPE CA
Inventory Stock investments Land (in use) Mortgage payable Supplies Equipment Prepaid rent
LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.2 CA Prepaid advertising PPE Equipment IA Trademarks CL Salaries and wages payable CL Income taxes payable SE Retained earnings CA Accounts receivable LTI Land (held for future use)
IA Patents LTL Bonds payable SE Common stock PPE Accumulated depreciation—equipment CL Unearned sales revenue CA Inventory
LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.3 BOEING COMPANY Partial Balance Sheet December 31, 2025 (in millions) Assets Current assets Cash....................................................................... Debt investments .................................................. Accounts receivable ............................................. Notes receivable ................................................... Inventory ............................................................... Total current assets ......................................
$ 9,215 2,008 5,785 368 16,933 $34,309
Long-term investments Notes receivable ................................................... Property, plant, and equipment Buildings ............................................................... Less: Accumulated depreciation—buildings..... Intangible assets Patents................................................................... Total assets...................................................................
5,466 21,579 12,795
8,784 12,528 $61,087
[(Cash + Debt invest. + Accts. rec. + Notes rec. + Inv.) + Notes rec. + (Bldgs. – Accum. depr.-bldgs.) + Patents = Tot. assets] [($9,215 + $2,008 + $5,785 + $368 + $16,933)) + $5,466 + ($21,579 – $12,795) + $12,528 = $61,087] LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.4 H. J. HEINZ COMPANY Partial Balance Sheet April 30, 2025 (in thousands) Assets Current assets Cash.................................................. Accounts receivable ........................ Inventory........................................... Prepaid insurance............................ Total current assets..................
$ 373,145 1,171,797 1,237,613 125,765 $ 2,908,320
Property, plant, and equipment Land .................................................. 76,193 Buildings .......................................... $4,033,369 Less: Accumulated depreciation— Buildings .................................. 2,131,260 1,902,109 Intangible assets Goodwill ........................................... Trademarks ...................................... Total assets ............................................
3,982,954 757,907
1,978,302
4,740,861 $ 9,627,483
[(Cash + Accts. rec. + Inv. + Prepd. ins.) + (Land + (Bldgs. – Accum. depr.-bldgs.)) + (Goodwill + Trademarks) = Tot. assets] [($373,145 + $1,171,797 + $1,237,613 + $125,765) + ($76,193 + ($4,033,369 – $2,131,260)) + ($3,982,954 + $757,907) = $9,627,483] LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.5 LONGHORN CO. Balance Sheet December 31, 2025 Assets Current assets Cash..................................................... Accounts receivable ........................... Prepaid insurance............................... Total current assets ................................... Property, plant, and equipment Land ..................................................... Buildings ............................................. Less: Accumulated depreciation— buildings .................................. Equipment ........................................... Less: Accumulated depreciation— equipment ................................ Total assets .................................
$11,840 12,600 3,200 $ 27,640 61,200 $105,800 45,600 82,400
60,200
18,720
63,680
185,080 $212,720
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................... Current maturity of note payable ........ Interest payable .................................. Total current liabilities ................ Long-term liabilities Note payable ($93,600 – $13,600)....... Total liabilities ............................. Stockholders’ equity Common stock .................................... Retained earnings ($40,000 + $6,020*) ............................ Total stockholders’ equity .......... Total liabilities and stockholders’ equity ...........................................
$ 9,500 13,600 3,600 $ 26,700 80,000 106,700 60,000 46,020 106,020 $212,720
*Net income = $14,700 – $780 – $5,300 – $2,600 = $6,020 [(Current assets + Prop., plant & equip.) = Current liabl. + Long-term liabl. + SE)] [(($11,840 + $12,600 + $3,200) + ($61,200 + ($105,800 – $45,600) + ($82,400 – $18,720))) = (($9,500 + $13,600 + $3,600) + $80,000 + ($60,000 + $46,020)) LO 1 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.6 CARMEN CO. Balance Sheet December 31, 2025 Assets Current assets Cash..................................................... Debt Investments................................ Accounts receivable........................... Notes receivable ................................. Supplies .............................................. Total current assets Long-term investments Stock investments ............................... Property, plant, and equipment Land...................................................... Buildings $261,200 Less: Accumulated depreciation—buildings .............. 32,600 Equipment ............................................ 82,400 Less: Accumulated depreciation—equipment ............ 18,720 Land improvements............................. 45,780 Less: Accumulated depreciation—land improvements Total property, plant and equipment Intangible assets Patents ................................................ Total assets ................................................
$11,840 4,100 21,700 5,300 9,200 $52,140 71,500 195,600 228,600 63,680 12,600
33,180 521,060 46,700 $691,400
EXERCISE 2.6 (Continued) Liabilities and Stockholders’ Equity Current liabilities Accounts payable .................................................... Current portion of mortgage payable ..................... Income taxes payable .............................................. Interest payable ....................................................... Total current liabilities ..................................... Long-term liabilities ........................................................ Mortgage payable .................................................... Total liabilities .................................................. Stockholders’ equity Common stock ......................................................... Retained earnings** ................................................. Total stockholders’ equity*.............................. Total liabilities and stockholders’ equity.......................
$ 9,500 9,100 14,700 3,600 $36,900 84,500 121,400 75,000 495,000 570,000 $691,400
*($691,400 − $121,400 = $570,000) **($570,000 – $75,000) [(Current assets + L-T invest. + Prop., plant, & equip. + Intang. assets) = (Current liabl. + L-T liabl. + SE)] [(($11,840 + $4,100 + $21,700 + $5,300 + $9,200) + $71,500 + ($195,600 + ($261,200 – $32,600) + ($82,400 – $18,720) + ($45,780 – $12,600)) + $46,700) = (($9,500 + $9,100 + $14,700 + $3,600) + $84,500 + ($75,000 + $495,000))] LO 1 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.7 TEXAS INSTRUMENTS, INC. Balance Sheet December 31, 2025 (in millions) Assets Current assets Cash ......................................................................... Debt investments..................................................... Accounts receivable................................................ Inventory .................................................................. Prepaid rent.............................................................. Total current assets ......................................... Long-term investments Stock investments ................................................... Property, plant, and equipment Equipment ............................................................... Less: Accumulated depreciation—equipment ..... Intangible assets Patents ..................................................................... Total assets .....................................................................
$ 1,182 1,743 1,823 1,202 164 $ 6,114 637 6,705 3,547
3,158 2,210 $12,119
Liabilities and Stockholders’ Equity Current liabilities Accounts payable .................................................... Income taxes payable.............................................. Total current liabilities ..................................... Long-term liabilities Notes payable .......................................................... Total liabilities.......................................................... Stockholders’ equity Common stock......................................................... Retained earnings.................................................... Total stockholders’ equity ............................... Total liabilities and stockholders’ equity.......................
$1,459 128 $ 1,587 810 2,397 2,826 6,896 9,722 $12,119
[(Current assets + L-T invest. + Prop., plant, & equip. + Intang. assets) = (Current liabl. + L-T liabl. + SE)] [(($1,182 + $1,743 + $1,823 + $1,202 + $164) + $637 + ($6,705 – $3,547) + $2,210) = (($1,459 + $128) + $810 + ($2,826 + $6,896))] LO 1 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.8 RANDAL INC. Balance Sheet (partial) October 28, 2025 (in millions) Liabilities and Stockholders' Equity Current liabilities Accounts payable Income taxes payable Unearned sales revenue Current portion of long-term debt Total current liabilities Long-term liabilities Long-term debt Other long-term liabilities Total long-term liabilities Total liabilities Stockholders' equity Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders' equity
$ 431.6 14.8 16.0 254.9 $ $1,209.8 122.6 1,332.4 2,049.7 $ 642.4 979.8 1,622.2 $3,671.9
LO 1 BT: AP Difficulty: Medium Time: 20 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.9 a.
717.3
Net income..................... = Revenues – Expenses = $183,040 – $158,680 – $4,550 – $5,200 = $14,610 ............................................ Retained earnings = Beginning retained earnings + Net income – Dividends declared = $116,520 + $14,610 – $0 ..... = $131,130
EXERCISE 2.9 (Continued) b. SUMMIT LTD. Balance Sheet December 31, 2025 Assets Current assets Cash....................................................................... Accounts receivable............................................. Supplies ................................................................ Prepaid insurance................................................. Total current assets ...................................... Long-term investments................................................ Property, plant, and equipment................................... Land...................................................... Buildings ................................................. $133,800 Less: Accumulated depreciation .......... 50,600 Equipment ............................................ 66,100 Less: Accumulated depreciation...... 21,470 Total property, plant, and equipment .......... Total assets ..................................................................
$ 24,040 20,780 1,240 1,420 $47,480 28,970 194,000 83,200 44,630 321,830 $398,280
Liabilities and Stockholders' Equity Current liabilities Accounts payable ................................................. Interest payable .................................................... Current portion of mortgage payable.................. Total current liabilities .................................. Mortgage payable ($104,000 – $30,500) ...................... Total liabilities .............................................................. Stockholders' equity Common stock...................................................... Retained earnings................................................. Total stockholders’ equity ............................ Total liabilities and stockholders' equity....................
$21,050 2,100 30,500 $ 53,650 73,500 127,150 140,000 131,130
LO 1 BT: AP Difficulty: M Time: 25 min. AACSB: Analytic AICPA FC: Reporting
271,130 $398,280
EXERCISE 2.10 BATRA CORPORATION Income Statement Year Ended July 31, 2025 Revenues Service revenue .................................................... $113,600 Rent revenue ......................................................... 18,500 Total revenues............................................... Expenses 44,700 Salaries and wages expense................................ Operating expenses.............................................. 32,500 Rent expense ........................................................ 10,800 Depreciation expense ........................................... 3,000 Utilities expense ................................................... 2,600 Interest expense ................................................... 2,000 Supplies expense.................................................. 900 Total expenses .............................................. Income before income tax ........................................... Income tax expense .................................................... Net Income ................................................................... [Revenues – Expenses = Net income or (loss)] BATRA CORPORATION Retained Earnings Statement Year Ended July 31, 2025 Retained earnings,, August 1, 2024 ............................ Add: Net income ........................................................... . ........................................................... 48,540 Less: Dividends............................................................ Retained earnings, July 31, 2025.................................
$17,940 30,600 12,000 $36,540
$132,100
96,500 35,600 5,000 $30,600
EXERCISE 2.10 (Continued) BATRA CORPORATION Balance Sheet July 31, 2025 Assets Current assets Cash.......................................................... $ 5,060 Debt investments (short-term) .................. 20,000 Accounts receivable .................................. 17,100 Supplies .................................................... 1,500 Total current assets ...................................... Property, plant, and equipment Equipment .................................................. 62,900 Less: Accumulated depreciation ............ 6,000 Total property, plant, and equipment .......... Total assets ..................................................................
$ 43,660
56,900 $100,560
Liabilities and Stockholders' Equity Current liabilities Accounts payable .................................... $ 4,220 Interest payable............................................ 1,000 Unearned sales revenue ............................ 12,000 Bank loan payable ..................................... 21,800 Total liabilities ............................................... $ 39,020 Stockholders' equity Common stock ........................................... 25,000 Retained earnings .................................... 36,540 Total stockholders’ equity ..................................... 61,540 Total liabilities and stockholders' equity.................... $100,560 (Assets = Liabilities + Stockholders’ equity) LO 1 BT: AP Difficulty: M Time: 45 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.11
(a) Earnings per share =
Net income Preferred dividends Average common shares outstanding
2025:
$66,176,000 – 0 = $ 1.01 (66,282,000 + 64,507,000) / 2
2024:
$54,587,000 – 0 = $ .78 (73,139,000 + 66,282,000) / 2
(b) Using net income (loss) as a basis to evaluate profitability, Callaway Golf’s income improved by 21% [($66,176 – $54,587) ÷ $54,587] between 2024 and 2025. Its earnings per share increased by 29% [($1.01 – $0.78) ÷ $0.78]. (c) To determine earnings per share, dividends on preferred stock are subtracted from net income, but dividends on common stock are not subtracted. LO 2 BT: AP Difficulty: Medium TOT: 7 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.12 (a)
FAIRVIEW CORPORATION Income Statement For the Year Ended July 31, 2025 Revenues Service revenue............................................. Rent revenue ................................................. Total revenues ....................................... Expenses Salaries and wages expense ........................ Supplies expense.......................................... Depreciation expense ................................... Total expenses....................................... Net loss .................................................................
$66,100 8,500 $74,600 57,500 15,600 4,000 77,100 $ (2,500)
(Tot. rev. – Tot. exp. = Net loss) [($66,100 + $8,500) – ($57,500 + $15,600 + $4,000) = ($2,500)]
FAIRVIEW CORPORATION Retained Earnings Statement For the Year Ended July 31, 2025 Retained earnings, August 1, 2024...................... Less: Net loss ..................................................... Dividends .................................................. Retained earnings, July 31, 2025......................... (Beg. ret. earn. – (Net loss + Div.)= End. ret. earn.) [$34,000 – ($2,500 + $4,000) = $27,500]
$34,000 $2,500 4,000
6,500 $27,500
EXERCISE 2.12 (Continued) (b)
FAIRVIEW CORPORATION Balance Sheet July 31, 2025 Assets Current assets Cash ............................................................... Accounts receivable ..................................... Total current assets............................... Property, plant, and equipment Equipment...................................................... Less: Accumulated depreciation— equipment....................................... Total assets ...........................................................
$29,200 9,780 $38,980 18,500 6,000
12,500 $51,480
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................................ Salaries and wages payable ........................... Total current liabilities................................. Long-term liabilities Notes payable .................................................. Total liabilities .............................................. Stockholders’ equity Common stock................................................. Retained earnings............................................ Total stockholders’ equity........................... Total liabilities and stockholders’ equity ...............
$ 4,100 2,080 $ 6,180 1,800 7,980 16,000 27,500
[(Current assets + Prop., plant, & equip.) = (Current liabl. + L-T liabl. + SE)] [(($29,200 + $9,780) + ($18,500 – $6,000)) = (($4,100 + $2,080) + $1,800 + ($16,000 + $27,500))]
(c)
Current ratio =
$38,980
= 6.3 : 1
$6,180 Debt to assets ratio =
$7,980 = 15.5% $51,480
(Current assets ÷ Current liabl.) and (Tot. liabl.÷ Tot. assets) ($38,980 ÷ $6,180) and ($7,980 ÷ $51,480)
43,500 $51,480
EXERCISE 2.12 (Continued) (d) The current ratio would not change because equipment is not a current asset and a 5-year note payable is a long-term liability rather than a current liability. The debt to assets ratio would increase from 15.5% to 39.1%*. Looking solely at the debt to assets ratio, I would favor making the sale because Fairview’s debt to assets ratio of 15.5% is very low. Looking at additional financial data, I would note that Fairview reported a loss for the current year which would lead me to question its ability to make interest and loan payments (and even remain in business) in the future. I would not make the proposed sale unless Fairview convinced me that it would be capable of earnings in the future rather than losses. I would also consider making the sale but requiring a substantial downpayment and smaller note. *($7,980 + $20,000) ÷ ($51,480 + $20,000) LO 1, 2 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 2.13 (a)
Beginning of Year
End of Year
Working capital
$3,361 – $1,635 = $1,726
$3,217 – $1,601 = $1,616
Current ratio
$3,361 = 2.06:1 $1,635
$3,217 = 2.01:1 $1,601
(Current assets – Current liabl.) and (Current assets ÷ Current liabl.) [Beg. of yr.: ($3,361 – $1,635) and ($3,361 ÷ $1,635)]; [End of yr.: ($3,217 – $1,601) and ($3,217 ÷ $1,601)]
(b) Nordstrom’s liquidity decreased slightly during the year. Its current ratio decreased from 2.06:1 to 2.01:1. Also, Nordstrom’s working capital decreased by $110 million. (c) Nordstrom’s current ratio at both the beginning and the end of the recent year exceeds Best Buy’s current ratio. Nordstrom’s end-of-year current ratio (2.01) exceeds Best Buy’s 2020 current ratio (1.10) as shown in the chapter. Nordstrom would be considered much more liquid than Best Buy for the recent year. LO 2 BT: AP Difficulty: Medium TOT: 10 min. Difficulty: Analytic AICPA FC: Reporting
EXERCISE 2.13 (a) Current ratio =
$60,000
= 2.0: 1
$30,000 Working capital = $60,000 – $30,000 = $30,000 (Current assets ÷ Current liabl.) and (Current assets – Current liabl.) ($60,000 ÷ $30,000) and ($60,000 – $30,000)
(b) Current ratio =
$40,000*
= 4.0: 1 $10,000** Working capital = $40,000 – $10,000 = $30,000
*$60,000 – $20,000
**$30,000 – $20,000
(Current assets ÷ Current liabl.) and (Current assets – Current liabl.) [($60,000 – $20,000) ÷ ($30,000 – $20,000)]and ($40,000 – $10,000)
(c) Liquidity measures indicate a company’s ability to pay current obligations as they become due. Satisfaction of current obligations usually requires the use of current assets. If a company has more current assets than current liabilities it is more likely that it will meet obligations as they become due. Since working capital and the current ratio compare current assets to current liabilities, both are measures of liquidity. Payment of current obligations frequently requires cash. Neither working capital nor the current ratio indicate the composition of current assets. If a company’s current assets are largely comprised of items such as inventory and prepaid expenses it may have difficulty paying current obligations even though its working capital and current ratio are large enough to indicate favorable liquidity. In Myeneke’s case, payment of $20,000 of accounts payable will leave only $5,000 cash. Since salaries and wages payable will require $10,000, the company may need to borrow in order to make the required payment for salaries.
EXERCISE 2.14 (Continued) (d) The CFO’s decision to use $20,000 of cash to pay off accounts payable is not in itself unethical. However, doing so just to improve the year-end current ratio could be considered unethical if this action misled creditors. Since the CFO requested preparation of a “preliminary” balance sheet before deciding to pay off the liabilities he seems to be “managing” the company’s financial position, which is usually considered unethical. LO 2 BT: AP Difficulty: Medium TOT: 15 min. Difficulty: Analytic AICPA FC: Reporting
EXERCISE 2.15 (a) Current ratio (b) Earnings per share
(c) Debt to assets ratio
2025
2024
$925,359 2.30 : 1 $401,763 $179,061 $0.87 205,169
$1,020,834 2.71: 1 $376,178 $400,019 $1.85 216,119
$554,645 28.2% $1,963,676
$527,216 28.2% $1,867,680
(d) American Eagles' solvency remained constant from 2024 to 2025 since its debt to total assets ratio remained the same for both years. LO 2 BT: AP Difficulty: Medium TOT: 15 min. Difficulty: Analytic AICPA FC: Reporting
EXERCISE 2.15 a. b. c. d. e. f.
7 10 11 3 2 8
g. h. i. j. k. l.
1 6 4 5 9 12
LO 3 BT: K Difficulty: M Time: 20 min. AACSB: None AICPA FC: Reporting
EXERCISE 2.17 (a) (b) (c) (d) (e) (f)
2 6 3 4 5 1
Going concern assumption Economic entity assumption Monetary unit assumption Periodicity assumption Historical cost principle Full disclosure principle
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Reporting
EXERCISE 2.18 a. 4 Whether omitting or misstating an item could influence the decision of a financial statement user. b. 5 Constraint that weighs the cost that companies will incur to provide the information against the benefit that financial statement users will gain from having the information available. c. 11 Obligations that a company expects to pay within the next year or operating cycle, whichever is longer. d. 6 Information that is complete, neutral, and free from error. e. 3 The primary accounting standard-setting body in the United States. f. 10 A set of accounting standards that has substantial authoritative support and which guide accounting professionals. g. 7 The ability of a company to pay obligations that are expected to become due within the next year or operating cycle. h. 9 The average time required to purchase inventory, sell it on account, and then collect cash from customers—that is, go from cash to cash. i. 12 The quality of information that has predictive value and that confirms or corrects prior expectations. j. 1 The agency of the U.S. government that oversees U.S. financial markets and accounting standard-setting bodies. k. 13 The quality of information that occurs when independent observers, using the same methods, obtains similar results. l. 8 The difference between the amounts of current assets and current liabilities. m. 2 The ability of a company to pay interest as it comes due and to repay the balance of a debt due at its maturity. LO 1, 2, 3 BT: K Difficulty: Easy TOT: 10 min. AACSB: None AICPA FC: Reportig
EXERCISE 2.19 (a) This is a violation of the historical cost principle. The inventory was written up to its fair value when it should have remained at cost. (b) This is a violation of the economic entity assumption. The treatment of the transaction treats Victor Lopez and Lopez Co. as one entity when they are two separate entities. The cash used to purchase the truck should have been treated as part of dividends. (c) This is a violation of the periodicity assumption. This assumption states that the economic life of a business can be divided into artificial time periods (months, quarters, or a year). By adding two more weeks to the year, Lopez Co. would be misleading financial statement readers. In addition, 2025 results would not be comparable to previous years’ results. The company should use a 52 week year. LO 3 BT: C Difficulty: Medium TOT: 5 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
SOLUTIONS TO PROBLEMS PROBLEM 2.1 YAHOO! INC. Balance Sheet December 31, 2025 (Amounts are in millions) Assets Current assets Cash..................................................... Debt investments................................ Accounts receivable........................... Prepaid rent......................................... Total current assets .................... Long-term investments Stock investments .............................. Property, plant, and equipment Equipment ........................................... Less: Accumulated depreciation— equipment ...................................... Intangible assets Goodwill .............................................. Patents ............................................... Total assets ................................................
$2,292 1,160 1,061 233 $ 4,746 3,247 1,737 201 3,927 234
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................... $ 152 Unearned sales revenue .................... 413 Total current liabilities ................ Long-term liabilities Notes payable ..................................... Total liabilities.......................... Stockholders’ equity Common stock.................................... 6,283 Retained earnings............................... 6,108 Total stockholders’ equity .............. Total liabilities and stockholders’ equity...................................................
1,536
4,161 $13,690
$ 565 734 1,299
12,391 $13,690
[(Current Assets + L-T invest. + Prop., plant, & equip. + Intang. assets) = (Current liabl. + L-T libal. + SE)]
PROBLEM 2.1 (Continued) [(($2,292 + $1,160 + $1,061 + $233) + $3,247 + ($1,737 – $201) + ($3,927 + $234)) = (($152 + $413) + $734 + ($6,283 + $6,108))] LO 1 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA FC: Reporting
PROBLEM 2.2
MARTIN CORPORATION Income Statement For the Year Ended December 31, 2025 Revenues Service revenue .................................................... Expenses Salaries and wages expense ............................... Depreciation expense........................................... Insurance expense ............................................... Utilities expense ................................................... Maintenance and repairs expense....................... Total expenses .............................................. Net income....................................................................
$68,000 $37,000 3,600 2,200 2,000 1,800 46,600 $21,400
(Serv. rev. – Tot. exp. = Net inc.) [$68,000 – ($37,000 + $3,600 + $2,200 + $2,000 + $1,800) = $21,400]
MARTIN CORPORATION Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1, 2025.............................................. Add: Net income .......................................................................... Less: Dividends............................................................................. Retained earnings, December 31, 2025 ........................................ (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($31,000 + $21,400 – $12,000 = $40,400)
$31,000 21,400 52,400 12,000 $40,400
PROBLEM 2.2 (Continued) MARTIN CORPORATION Balance Sheet December 31, 2025 Assets Current assets Cash....................................................................... $10,100 Accounts receivable ............................................. 11,700 Supplies................................................................. 3,100 Prepaid insurance................................................. 3,500 Total current assets ...................................... $28,400 Long-term investments Debt investments .................................................. 5,700 Property, plant, and equipment Equipment ............................................................. 66,000 Less: Accumulated depreciation—equipment... 17,600 48,400 Intangible assets Trademarks ........................................................... 2,000 Total assets................................................................... $84,500 Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................... Salaries and wages payable............... Total current liabilities ................ Stockholders’ equity Common stock .................................... Retained earnings............................... Total stockholders’ equity .......... Total liabilities and stockholders’ equity..
$18,300 3,000 $21,300 22,800 40,400 63,200 $84,500
[(Current assets + L-T invest. + Prop., plant, & equip. + Intang. assets) = (Current liabl. + SE)] [(($10,100 + $11,700 + $3,100 + $3,500) + $5,700 + ($66,000 – $17,600) + $2,000) = (($18,300 + $3,000) + ($22,800 + $40,400))] LO 1 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA FC: Reporting
PROBLEM 2.3
(a)
LAZURIS ENTERPRISES Income Statement For the Year Ended April 30, 2025 Sales revenue ....................................................... Expenses Cost of goods sold ....................................... Salaries and wages expense ....................... Interest expense ........................................... Depreciation expense................................... Insurance expense ....................................... Income tax expense...................................... Total expenses....................................... Net income ............................................................
$5,100 $1,060 700 400 335 210 165 2,870 $2,230
(Sales rev. – Tot. exp. = Net inc.) [$5,100 – ($1,060 + $700 + $400 + $335 + $210 + $165) = $2,230]
LAZURIS ENTERPRISES Retained Earnings Statement For the Year Ended April 30, 2025 Retained earnings, May 1, 2024 ........................... Add: Net income ................................................. Less: Dividends ................................................... Retained earnings, April 30, 2025 ........................ (Beg. ret. earn. + net inc. – Div. = End. ret. earn.) ($1,600 + $2,230 – $325 = $3,505)
$1,600 2,230 3,830 325 $3,505
PROBLEM 2.3 (Continued) (b)
LAZURIS ENTERPRISES Balance Sheet April 30, 2025 Assets Current assets Cash ...................................................... Stock investments................................ Accounts receivable............................. Inventory ............................................... Prepaid insurance ................................ Total current assets...................... Long-term investments Investment in land................................. Property, plant, and equipment Land....................................................... Equipment ................................................$2,420 Less: Accumulated depreciation—equipment.................. 670 Intangible assets Goodwill ................................................ Total assets..................................................
$1,270 1,200 810 967 60 $ 4,307 14,200 3,100
1,750
4,850 1,800 $25,157
PROBLEM 2.3 (Continued) Liabilities and Stockholders’ Equity Current liabilities Notes payable ................................................... Accounts payable ............................................. Salaries and wages payable............................. Income taxes payable ....................................... Total current liabilities .............................. Long-term liabilities Mortgage payable ............................................. Total liabilities ........................................... Stockholders’ equity Common stock .................................................. Retained earnings............................................. Total stockholders’ equity ........................ Total liabilities and stockholders’ equity ...............
$ 61 834 222 135 $ 1,252 3,500 4,752 16,900 3,505 20,405 $25,157
[(Current assets + L-T invest. + Prop., plant, & equip. + Intang. assets )= (Current liabl. + L-T liabl. + SE)] [(($1,270 + $1,200 + $810 + $967 + $60) + $14,200 + ($3,100 + ($2,420 – $670)) + $1,800) = (($61 + $834 + $222 + $135) + $3,500 + ($16,900 + $3,505)) LO 1 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA FC: Reporting
PROBLEM 2.4
(a) Loeb Company’s net income for 2025 is $248,000 ($1,800,000 – $1,175,000 – $283,000 – $9,000 – $85,000). Its earnings per share is $3.10 ($248,000 ÷ 80,000 shares outstanding). Bowsh’s net income for 2025 is $142,200 ($620,000 – $340,000 – $98,000 – $3,800 – $36,000). Its earnings per share is $2.84 ($142,200 ÷ 50,000 common shares outstanding). (b) Loeb appears to be more liquid. Loeb’s 2025 working capital of $340,875 ($407,200 – $66,325) is more than twice as high as Bowsh’s working capital of $156,620 ($190,336 – $33,716). In addition, Loeb’s 2025 current ratio of 6.1:1 ($407,200 ÷ $66,325) is higher than Bowsh’s current ratio of 5.6:1 ($190,336 ÷ $33,716). (c) Loeb appears to be slightly more solvent. Loeb’s 2025 debt to assets ratio of 18.6% ($174,825 ÷ $939,200)a is lower than Bowsh’s ratio of 22.5% ($74,400 ÷ $330,064)b. The lower the percentage of debt to assets, the lower the risk that a company may be unable to pay its debts as they come due. a
$174,825 ($66,325 + $108,500) is Loeb’s 2025 total liabilities. $939,200 ($407,200 + $532,000) is Loeb’s 2025 total assets.
b
$74,400 ($33,716 + $40,684) is Bowsh’s 2025 total liabilities. $330,064 ($190,336 + $139,728) is Bowsh’s 2025 total assets.
LO 2 BT: AN Difficulty: Hard TOT: 25 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
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PROBLEM 2.5
(a) (i)
Working capital = $458,900 – $195,500 = $263,400
(ii) Current ratio =
$458,900 2.35 :1 $195,500
(iii) Debt to assets ratio =
$395,500 38.2% $1,034,200
(iv) Earnings per share =
$153,100 $3.06 50,000 common shares outstanding
(b) During 2025, the company’s current ratio increased from 1.65:1 to 2.35:1 and its working capital increased from $160,500 to $263,400. Both measures indicate an improvement in liquidity during 2025. The company’s debt to assets ratio increased from 31.0% in 2024 to 38.2% in 2025 indicating that the company is less solvent in 2025. Earnings per share decreased from $3.15 in 2024 to $3.06 in 2025. This indicates a decline in profitability during 2025. LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis ad Interpretation
PROBLEM 2.6
2024 (a) Earnings per share. $60,000 = $2.00 30,000 common shares
2025 $70,000 = $2.12 33,000 common shares
(b) Working capital. ($20,000 + $62,000 + $73,000) – $70,000 = $85,000
($28,000 + $70,000 + $90,000) – $75,000 = $113,000
(c) Current ratio. $155,000 = 2.2:1 $70,000
$188,000 = 2.5:1 $75,000
(d) Debt to assets ratio. $160,000 = 23.4% $685,000
$155,000 = 20.4% $760,000
(e) Net income and earnings per share have increased, indicating that the underlying profitability of the corporation has improved. The liquidity of the corporation as shown by the working capital and the current ratio has improved slightly. Also, the corporation improved its solvency by improving its debt to assets ratio. LO 2 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
PROBLEM 2.7
Ratio
Target Walmart (All Dollars are in Millions)
(a)
Working capital
$17,488 – $10,512 = $6,976
$48,949 – $55,390 = ($6,441)
(b)
Current ratio
1.66:1 ($17,488 ÷ $10,512)
.88:1 ($48,949 ÷ $55,390)
(c)
Debt to assets ratio
68.9% ($30,394 ÷ $44,106)
60.1% ($98,144 ÷ $163,429)
(d)
Earnings per share
$2.86 =
$2,214 774
$3.39 =
$13, 400 3, 951
(e) The comparison of the two companies shows the following: Liquidity—Target’s current ratio of 1.66:1 is much better than Walmart’s .88:1 and Target has significantly higher working capital than Wal-Mart. Solvency—Walmart’s debt to assets ratio is about 13% less than Target’s. LO 2 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA FC: Measurement Analysis and interpretation
PROBLEM 2.8
(a)
Accounting information is the compilation and presentation of financial information for a company. It provides information in the form of financial statements and additional disclosures that is useful for decisionmaking. The accounting rules and practices that have substantial authoritative support and are recognized as a general guide for financial reporting purposes are referred to as generally accepted accounting principles (GAAP). The biotechnology company that employs Saira will follow GAAP to report its assets, liabilities, stockholders’ equity, revenues, and expenses as it prepares financial statements.
(b) Saira is correct in her understanding that the low success rate for new biotech products will be a cause of concern for investors. Her suggestion that detailed scientific findings be reported to prospective investors might offset some of their concerns but it probably won’t conform to the qualitative characteristics of accounting information. These characteristics consist of relevance, faithful representation, comparability, consistency, verifiability, timeliness, and understandability. They apply to accounting information rather than the scientific findings that Saira wants to include. LO 3 BT: E Difficulty: Medium TOT: 15 min. AACSB: Reflective Thinking AICPA FC: Measurement and Reporting
CCC2
CONTINUING COOKIE CREATIONS
(a) The balance sheet reports the assets, liabilities, and stockholders’ equity of a company at a specific date. The income statement presents the revenues and expenses and resulting net income or net loss of a company for a specific period of time. The retained earnings statement summarizes the changes in retained earnings for a specific period of time. Finally, the cash flow statement provides information about the cash inflows and cash outflows for a specific period of time. (b) By looking at the balance sheet and the cash flow statement and calculating liquidity ratios we can measure a company’s short term ability to pay its obligations. Liquidity ratios include the calculation of working capital (current assets minus current liabilities) and current ratio (current assets divided by current liabilities). (c) By looking at the balance sheet and the cash flow statement and calculating solvency ratios we are able to measure a company’s ability to survive over a long period of time. These solvency ratios include debt to assets (total liabilities divided by total assets). (d) By looking at the income statement we can determine if Biscuits is profitable. If revenues earned by Biscuits exceed expenses incurred, then Biscuits is profitable. Profitability ratios can measure a company’s ability to generate earnings over a period of time. One profitability ratio is earnings per share (net income minus preferred dividends divided by average common shares outstanding). (e) By looking at the balance sheet we can determine if Biscuits has any debt. By looking at the balance sheet and cash flow statement and calculating solvency ratios we are able to determine whether a company has the ability to repay its long-term debt. Profitability ratios will help in determining whether a company is able to pay its interest expense. The more profitable the company the better able it is to repay its longterm obligations as well as the amount of interest it is paying on its debt.
CCC 2 (Continued) (f)
By looking at the statement of cash flows we can determine whether Biscuits has paid any dividends to its shareholders.
(g) Be aware that financial statements of Biscuits provide a historical perspective of what has already taken place. The financial statements may prove to be a good indicator of what will happen in the future but remember that is not necessarily guaranteed. Consumer tastes change, and as a result, the demand for Biscuits’ product may also change. There are other issues that Natalie must consider as well. Does she have the ability to meet the demands of Biscuits? Will she be able to produce 1,500 dozen cookies a week? Does she have enough staff to enable her to do so? Does she have a large enough oven to do so? Does she have enough cash to pay her staff, purchase supplies, and cover operating expenses until she receives payment from Biscuits?
CT2.1
FINANCIAL REPORTING PROBLEM
(a) Total current assets were $143,713 million at September 26, 2020, and $162,819 million at September 28, 2019. (b) Current assets are properly listed in the order of liquidity. As you will learn in a later chapter, inventories are considered to be less liquid than accounts receivable. Thus, they are listed below receivables and before prepaid expenses. (c) The asset classifications are similar to the text: (a) current assets, (b) long-term marketable securities, (c) property, plant, and equipment, and (d) other non-current assets. (d) Total current liabilities were $105,392 million at September 26, 2020, and $105,718 million at September 28, 2019. LO 1 BT: AN Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
CT2.2
(a)
COMPARATIVE ANALYSIS PROBLEM
($ in thousands)
Columbia Sportswear
Under Armour
1. Working capital
$1,855,621 – $552,622 = $1,302,999
$3,222,975 – $1,413,276 = $1,809,699
2. Current ratio
$1,855,621 ÷ $552,622 = 3.36:1
$3,222,975 ÷ $1,413,276 = 2.28:1
3. Debt to assets ratio
$1, 003, 800 = 35.4% $2, 836,571
$3, 354, 635 = 66.7% $5, 030, 628
(b) Liquidity Under Armour appears much more liquid since it has more working capital than Columbia; however, looking at the current ratios, we see that Columbia’s ratio is greater than that of Under Armour. Solvency Based on the debt to assets ratio, Columbia is more solvent. Columbia’s debt to assets ratio is significantly lower than Under Armour’s and, therefore, Columbia would be considered better able to pay its debts as they come due. LO 2 BT: AN Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
CT2.3
(a)
COMPARATIVE ANALYSIS PROBLEM
($ in millions)
Amazon
Walmart
1.
Working capital
$132,733 – $126,385 = $6,348
$90,067 – $92,645 = $(2,578)
2.
Current ratio
$132,733 ÷ $126,385 = 1.05:1
$90,067 ÷ $92,645 = .97:1
3.
Debt to assets ratio
$227, 791 = 70.9% $321,195
*
$164, 965 $252, 496
**
= 65.3%
*$126,385 + $52,573 + $31,816 + $17,017 **$92,645 + $41,194 +$12,909 +$3,847 + $14,370
(b) Liquidity Amazon appears more liquid since it has $8,926 million more working capital than Walmart. Also, Amazon’s current ratio is slightly better than Walmart’s. Solvency Based on the debt to assets ratio, Walmart is slightly more solvent. Walmart’s debt to assets ratio is lower than Amazon’s and, therefore, Walmart would be considered better able to pay its debts as they come due. LO 2 BT: AN Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
CT2.4
INTERPRETING FINANCIAL STATEMENTS
(a) The percentage decrease in Gap’s total assets during this period is calculated as: $7,065 – $8,544 = 17.3% $8,544 The average decrease per year can be approximated as: 17.3% = 4.3% per year 4 years (b) Gap’s working capital and current ratio decreased (2022), increased (2023 and 2024) and then decreased (2025) during this period, indicating a decline, an improvement and then another decline in liquidity. The current ratio is a better measure of liquidity because it provides a relative measure; that is, current assets compared to current liabilities. Working capital only tells us the net amount of current assets less current liabilities. It is hard to say whether a given amount of working capital is adequate or inadequate without knowing the size of the company. (c) The debt to assets ratio suggests that Gap’s solvency didn’t change much during the period. Debt to assets was .39 in 2021, rose to .45 in 2022 and then came back down to .42 in 2025. (d) The earnings per share suggest that Gap’s profitability improved significantly from 2021 to 2025, increasing from $0.94 to $1.89. LO 2 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
REAL-WORLD FOCUS CT 2.5 Answers will vary depending on the company chosen and the date. LO 2 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic and Technology AICPA FC: Reporting
CT 2.6 Answers will vary depending on the company chosen and the date. LO 1, 2 BT: E Difficulty: Hard TOT: 25 min. AACSB: Analytic, Technology, and Reflective Thinking AICPA FC: Reporting AICPA BB: Decision Making
CT2.7
DECISION-MAKING ACROSS THE ORGANIZATION
The current ratio increase is a favorable indication as to liquidity, but alone tells little about the prospects of the client. From this ratio change alone, it is impossible to know the amount and direction of the changes in individual accounts, total current assets, and total current liabilities. Also unknown are the reasons for the changes. The working capital increase is also a favorable indication as to liquidity, but again the amount and direction of the changes in individual current assets and current liabilities cannot be determined from this measure.
The decrease in the debt to assets ratio is a favorable indicator for solvency and going-concern prospects. The lower the percentage of debt to assets, the lower the risk that a company may be unable to pay its debts as they come due. A decline in the debt to assets ratio is also a positive sign regarding going-concern potential. The increase in net income is a favorable indicator for both solvency and profitability prospects although much depends on the quality of receivables generated from sales and how quickly they can be converted into cash. A significant factor here may be that despite a decline in sales the client’s management has been able to reduce costs to produce this increase. Indirectly, the improved income picture may have a favorable impact on solvency and going-concern potential by enabling the client to borrow currently to meet cash requirements. The earnings per share increase is a favorable indicator for profitability. A 109% (from $1.15 to $2.40) increase indicates a significant increase in net income and provides a favorable sign regarding going-concern potential. LO 2 BT: E Difficulty: Hard TOT: 20 min. AACSB: Communication and Reflective Thinking AICPA PC: Collaboration, Leadership, and Communication
CT2.8
COMMUNICATION ACTIVITY
To:
B. P. Palmer
From:
Accounting Major
Subject:
Financial Statement Analysis
(a) Ratios can be classified into three types, which measure three different aspects of a company’s financial health: 1.
Liquidity ratios—These measure a company’s ability to pay its current obligations.
2.
Solvency ratios—These measure a company’s ability to pay its long-term obligations and survive over the long-term.
3.
Profitability ratios—These measure the ability of the company to generate a profit.
(b) 1.
Examples of liquidity measures are: Working capital = Current assets – Current liabilities Current ratio =
2.
Current assets Current liabilities
Example of solvency measures: Debt to assets ratio =
Total liabilities Total assets
CT2.8 (Continued) 3.
Example of profitability measure: Earnings per share =
Net income Preferred dividends Average common shares outstanding
(c) There are three bases for comparing a company’s results: The bases of comparison are: 1.
Intracompany—This basis compares an item or financial relationship within a company in the current year with the same item or relationship in one or more prior years.
2.
Industry averages—This basis compares an item or financial relationship of a company with industry averages (or norms).
3.
Intercompany—This basis compares an item or financial relationship of one company with the same item or relationship in one or more competing companies.
LO 2 BT: C Difficulty: Medium TOT: 18 min. AACSB: Communication AICPA PC: Communication
CT2.9
ETHICS CASE
(a) The stakeholders in this case are: Boeing’s management; CEO, public relations manager, Boeing’s stockholders, McDonnell Douglas stockholders, other users of the financial statements; especially potential investors of the new combined company. (b) The ethical issues center around full disclosure of financial information. Management attempted to “time” the release of bad news in order to complete a merger that would have been revoked if cost overruns had been disclosed as soon as management became aware of them. (c) The periodicity assumption requires that financial results be reported on specific, pre-determined dates. The full disclosure principle requires that all circumstances and events that make a difference to financial statement users must be disclosed. (d) It is not ethical to “time” the release of bad news. GAAP requires that all significant financial information be released to allow users to make informed decisions. (e) Answers will vary. One possibility: Release the information regarding cost overruns as it became available. Describe the causes of such overruns and explain how Boeing would address them (probably by improving production methods to eliminate the inefficiencies alluded to in the text). (f)
Investors and analysts should be aware that Boeing’s management will probably “manage” information in the future in ways that will interfere with full disclosure.
LO 3 BT: E Difficulty: Hard TOT: 20 min. AACSB: Ethics AICPA FC: Measurement Analysis ad Interpretation AICPA PC: Ethical Conduct
CT2.10
ALL ABOUT YOU
Answers will vary. LO - BT: S Difficulty: Hard TOT: 30 min. AACSB: Communication and Reflective Thinking AICPA PC: Communication
CT2.11
FASB CODIFICATION ACTIVITY
(a) 1. Current assets is used to designate cash and other assets or resources commonly identified as those that are reasonably expected to be realized in cash or sold or consumed during the normal operating cycle of the business. 2. Current liabilities is used principally to designate obligations whose liquidation is reasonably expected to require the use of existing resources properly classifiable as current assets, or the creation of other current liabilities. (b) Access FASB Codification 210-20-45 A right of set off exists when all of the following conditions are met: 1.
Each of two parties owes the other determinable amounts.
2.
The reporting party has the right to offset the amount owed with the amount owed by the other party.
3.
The reporting party intends to offset.
4.
The right of offset is enforceable at law. As a result, a company may not offset accounts payable against cash on its balance sheet.
LO 1 BT: C Difficulty: Medium TOT: 15 min. AACSB: Analytic and Technology AICPA FC: Research
CT2.12
PEOPLE, PLANET, AND PROFIT
(a)
The existence of three different forms of certification would most likely create confusion for coffee purchasers. It would be difficult to know what aspects of the coffee growing process each certification covered. Similarly, if there were multiple groups that certified financial statements, each with different criteria, it would be difficult for financial statement users to know what each certification promised.
(b)
The certifications have multiple objectives including purchasing and using safety equipment, worker and environmental health conditions, child labor regulations, standard of living and income changes, and quality control. Certifications can also be financially beneficial because companies can benefit from the positive public relations effects of either producing or buying coffee produced using sustainable practices.
LO - BT: S Difficulty: Hard TOT: 30 min. AACSB: Technology and Reflective Thinking AICPA FC: Measurement Analysis and Interpretation, Reporting AICPA BB: Global and Industry Perspectives
CHAPTER 3 The Accounting Information System Learning Objectives 1. 2. 3. 4. 5.
Analyze the effect of business transactions on the basic accounting equation. Explain how accounts, debits, and credits are used to record business transactions. Indicate how a journal is used in the recording process. Explain how a ledger and posting help in the recording process. Prepare a trial balance.
ANSWERS TO QUESTIONS 1.
The system of collecting and processing transaction data and communicating financial information to decision makers is known as the accounting information system.
LO 1 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
2.
Yes, a business can enter into a transaction in which only the left side of the accounting equation is affected. An example would be a transaction where an increase in one asset is offset by a decrease in another asset. An increase in the equipment account which is offset by a decrease in the cash account is a specific example.
LO 1 BT: K Diff: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
3.
Accounting transactions are the economic events of the company recorded by accountants because they affect the basic accounting equation. (a) The death of a major stockholder of the company is not an accounting transaction as it does not affect the basic accounting equation. (b) Supplies purchased on account is an accounting transaction because it affects the basic accounting equation. (c) An employee being fired is not an accounting transaction as it does not affect the basic accounting equation. (d) Paying a cash dividend to stockholders is an accounting transaction as it does affect the basic accounting equation.
LO 1 BT: C Diff: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
4.
(a) (b) (c) (d)
Decrease assets and decrease stockholders’ equity. Increase assets and decrease assets. Increase assets and increase stockholders’ equity. Decrease assets and decrease liabilities.
LO 1 BT: C Diff: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
5.
An account consists of three parts: (a) the title, (b) the left or debit side, and (c) the right or credit side. Because the alignment of these parts resembles the letter T, it is referred to as a T account.
LO 2 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
6.
Disagree. The terms debit and credit are synonymous with left and right, respectively.
LO 2 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
7.
Barry is incorrect. The double-entry system merely records the dual (two-sided) effect of a transaction on the accounting equation. A transaction is not recorded twice; it is recorded once, and must affect two or more accounts to keep the basic accounting equation in balance. In other words, for each transaction, debits must equal credits.
LO 2 BT: C Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 3 (Continued)
8.
Misty is incorrect. A debit balance only means that debit amounts exceed credit amounts in an account. Conversely, a credit balance only means that credit amounts are greater than debit amounts in an account. Thus, a debit or credit balance is neither favorable or unfavorable.
LO 2 BT: C Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
9.
(a) Asset accounts are increased by debits and decreased by credits. (b) Liability accounts are decreased by debits and increased by credits. (c) The common stock account is decreased by debits and increased by credits.
LO 2 BT: K Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
10.
(a) (b) (c) (d) (e) (f) (g)
Accounts Receivable—debit balance. Cash—debit balance. Dividends—debit balance. Accounts Payable—credit balance. Service Revenue—credit balance. Salaries and Wages Expense—debit balance. Common Stock—credit balance.
LO 2 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
11.
(a) (b) (c) (d) (e)
Accounts Receivable—asset—debit balance. Accounts Payable—liability—credit balance. Equipment—asset—debit balance. Dividends—stockholders’ equity—debit balance. Supplies—asset—debit balance.
LO 2 BT: K Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
12.
(a) Debit Supplies and credit Accounts Payable. (b) Debit Cash and credit Notes Payable. (c) Debit Salaries and Wages Expense and credit Cash.
LO 2 BT: C Diff: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
13.
(a) (b) (c) (d) (e) (f)
Cash—both debit and credit entries. Accounts Receivable—both debit and credit entries. Dividends—debit entries only. Accounts Payable—both debit and credit entries. Salaries and Wages Expense—debit entries only. Service Revenue—credit entries only.
LO 2 BT: K Diff: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
14.
Normal balances for accounts in Apple’s financial statements: (a) Accounts Receivable—debit; (b) Accounts Payable—credit; (c) Sales—credit; (d) Selling, General, and Administrative Expenses—debit.
LO 2 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 3 (Continued) 15.
The basic steps in the recording process are: (1) Analyze each transaction in terms of its effect on the accounts.
(2) Enter the transaction information in a journal. (3) Transfer the journal information to the appropriate accounts in the ledger. LO 3 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
16.
(a) The debit should be entered first. (b) The credit should be indented.
LO 3 BT: K Diff: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
17.
(a) No, debits and credits should not be recorded directly in the ledger. (b) The advantages of using the journal are: (1) It discloses in one place the complete effect of a transaction. (2) It provides a chronological record of all transactions. (3) It helps to prevent or locate errors because the debit and credit amounts for each entry can be readily compared.
LO 3 BT: C Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
18.
(a) Cash ........................................................................................................... 12,000 Common Stock................................................................................. (Issued stock for cash) (b) Prepaid Insurance.................................................................................... Cash................................................................................................. (Paid one-year insurance policy) (c)
12,000
800 800
Supplies ........................................................................................................ 1,800 Accounts Payable............................................................................. (Purchased supplies on account)
1,800
(d) Cash ............................................................................................................. 7,500 Service Revenue .............................................................................. (Received cash for services rendered)
7,500
LO 3 BT: AP Diff: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
19.
(a) A record of all accounts maintained by a company and their balances, including all the asset, liability, and stockholders’ equity accounts, is referred to collectively as the ledger. (b) The chart of accounts is important, particularly for a company that has a large number of accounts, because it helps organize the accounts and identify their location in the ledger.
LO 4 BT: C Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
20.
A trial balance is a list of accounts and their balances at a given time. The primary purpose of a trial balance is to prove the mathematical equality of debits and credits after all journalized transactions have been posted. A trial balance also facilitates the discovery of errors in journalizing and posting. In addition, it is useful in preparing financial statements.
LO 5 BT: K Diff: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 3 (Continued) 21.
The proper sequence is as follows: (b) Accounting transaction occurs.
(c) (a) (e) (d)
Information is entered in the journal. Debits and credits are posted to the ledger. Trial balance is prepared. Adjusting entries are entered, adjusted trial balance is prepared, and financial statements are prepared.
LO 5 BT: C Diff: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
22.
(a) The trial balance would balance. (b) The trial balance would not balance since the debits would be $720 ($800 – $80) higher than the credits.
LO 5 BT: AN Diff: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 3.1 (a) (b) (c)
Assets + + –
Liabilities + NE NE
Stockholders’ Equity NE + –
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 3.2
Cash (1)
+$60,000
(2)
–9,000
(3) (4)
+13,000
Assets = Liabilities + Stockholders’ Equity Accounts Accounts Bonds Common Ret. Earn. + Receivable + Supplies = Payable + Payable + Stock + Dividends +$60,000 –$9,000 –$13,000 +$3,100
+$3,100
LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 3.3 Assets Cash (1)
–$286,176
(2)
+137,590
(3)
+ Inventory +
Equipment
=
Liabilities
+
=
Accounts Payable
+
Stockholders’ Equity Common Stock
+
Retained Earnings
+$286,176 +$137,590 +$68,480
+$68,480
LO 1 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 3.4
(a) (b) (c) (d) (e) (f)
Accounts Payable Advertising Expense Service Revenue Accounts Receivable Retained Earnings Dividends
Debit Effect Decrease Increase Decrease Increase Decrease Increase
Credit Effect Increase Decrease Increase Decrease Increase Decrease
LO 2 BT: K Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
Normal Balance Credit Debit Credit Debit Credit Debit
BRIEF EXERCISE 3.5
(a) (b) (c) (d) (e) (f)
Bonds Payable Unearned Service Revenue Depreciation Expense Common Stock Buildings Rent Revenue
Debit Effect Decrease Decrease Increase Decrease Increase Decrease
Credit Effect Increase Increase Decrease Increase Decrease Increase
Normal Balance Credit Credit Debit Credit Debit Credit
LO 2 BT: K Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement
BRIEF EXERCISE 3.6
June 1 2 3 12
Account Debited Cash Equipment Rent Expense Accounts Receivable
Account Credited Common Stock Accounts Payable Cash Service Revenue
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 3.7 June 1 2 3 12
Cash ..................................................................... Common Stock ............................................
5,000
Equipment ........................................................... Accounts Payable........................................
1,100
Rent Expense ...................................................... Cash .............................................................
740
Accounts Receivable .......................................... Service Revenue..........................................
700
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
5,000 1,100 740 700
BRIEF EXERCISE 3.8 Sept. 1 5 7 16 22
Supplies ....................................................... Cash........................................................
910
Dividends ..................................................... Cash........................................................
300
Cash.............................................................. Unearned Service Revenue...................
4,600
Cash.............................................................. Accounts Receivable.............................
675
Equipment .................................................... Cash........................................................ Notes Payable ........................................
1,900
910
300 4,600 675 600 1,300
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 3.9 The basic steps in the recording process are: 1.
Analyze each transaction. In this step, source documents are examined to determine the effects of the transaction on the accounts.
2.
Enter each transaction in a journal. This step is called journalizing and it results in making a chronological record of the transactions.
3.
Transfer journal information to ledger accounts. This step is called posting. Posting makes it possible to accumulate the effects of journalized transactions on individual accounts.
LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 3.10 (a) Basic Analysis
(b)
Debit-Credit Analysis
Aug. 1
The asset Cash is increased; the stockholders’ equity account Common Stock is increased.
Debits increase assets: debit Cash $10,000. Credits increase stockholders’ equity: credit Common Stock $10,000.
4
The asset Prepaid Insurance is increased; the asset Cash is decreased.
Debits increase assets: debit Prepaid Insurance $1,500. Credits decrease assets: credit Cash $1,500.
16 The asset Cash is increased; the revenue Service Revenue is increased.
Debits increase assets: debit Cash $900. Credits increase revenues: credit Service Revenue $900.
27
Debits increase expenses: debit Salaries and Wages Expense $620. Credits decrease assets: credit Cash $620.
The expense Salaries and Wages Expense is increased; the asset Cash is decreased.
LO 3 BT: C Difficulty: Medium TOT: 8 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 3.11 Aug. 1 4 16 27
Cash...................................................................... Common Stock.............................................
10,000
Prepaid Insurance................................................ Cash ..............................................................
1,500
Cash...................................................................... Service Revenue ..........................................
900
Salaries and Wages Expense.............................. Cash ..............................................................
620
LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
10,000 1,500 900 620
BRIEF EXERCISE 3.12 5/12 5/15
5/5
Cash 1,600 2,000
Service Revenue 5/5 5/15
3,800 2,000
Accounts Receivable 3,800 5/12 1,600
LO 4 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 3.13 PEETE COMPANY Trial Balance June 30, 2025 Cash ............................................................................ Accounts Receivable ................................................. Equipment................................................................... Accounts Payable ...................................................... Common Stock ........................................................... Dividends .................................................................... Service Revenue......................................................... Salaries and Wages Expense .................................... Rent Expense .............................................................
Debit $ 5,400 3,000 13,000
Credit
$ 1,000 18,000 1,200 8,600 4,000 1,000 $27,600
$27,600
[(Cash + Accts. rec. + Equip. + Div. + Sal. & wages exp. + Rent exp.) = (Accts. pay. + Common stk. + Serv. rev.)] [($5,400 + $3,000 + $13,000 + $1,200 + $4,000 + $1,000) = ($1,000 + $18,000 + $8,600)] LO 5 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 3.14 BIRELLIE COMPANY Trial Balance December 31, 2025 Cash ............................................................................ Prepaid Insurance ...................................................... Accounts Payable ...................................................... Unearned Service Revenue ....................................... Common Stock........................................................... Retained Earnings...................................................... Dividends.................................................................... Service Revenue ........................................................ Salaries and Wages Expense .................................... Rent Expense .............................................................
Debit $20,800 3,500
Credit
$ 2,500 1,800 10,000 6,600 5,000 25,600 14,600 2,600 $46,500
$46,500
[(Cash + Prepd. ins. + Div. + Sal. & wages exp. + Rent exp.) = (Accts. pay. + Unearn. serv. rev. + Common stk. + Ret. earn. + Serv. rev.)] [($20,800 + $3,500 + $5,000 + $14,600 + $2,600) = ($2,500 + $1,800 + $10,000 + $6,600 + $25,600)] LO 5 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 3.1 Assets = Accounts Cash + Receivable = (1) (2)
+$20,000 +$20,000
(3) (4)
Liabilities Accounts Payable
+ +
Common Stock
Stockholders’ Equity Retained Earnings + Revenues – Expenses – Dividends +$20,000
–20,000 –$1,800
+$1,800 –3,000
–$3,000
LO 1 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 3.2 Account 1. Unearned Service Revenue 2. Accounts Payable 3. Common Stock 4. Salaries and Wages Expense 5. Dividends
Classification Liability Liability Stockholders’ equity Stockholders’ equity Stockholders’ equity
Normal Balance Credit Credit Credit Debit Debit
Debit Effect Decrease Decrease Decrease Increase Increase
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 3.3 Each transaction that is recorded is entered in the general journal. The three activities would be recorded as follows: 1. 2.
3.
Cash.......................................................................... Common Stock ................................................. Supplies ................................................................... Accounts Payable ............................................ Cash ..................................................................
8,000
No entry because no transaction has occurred.
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
8,000 950 550 400
DO IT! 3.4 Cash 4/1 Bal. 1,900 4/16 4/3 3,400 4/20 4/30 Bal. 4,500
500 300
LO 4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 3.5 CHILLIN’ COMPANY Trial Balance December 31, 2025 Cash ............................................................................ Accounts Receivable ................................................. Supplies ...................................................................... Equipment................................................................... Notes Payable............................................................. Accounts Payable ...................................................... Salaries and Wages Payable ..................................... Common Stock ........................................................... Dividends.................................................................... Service Revenue ........................................................ Rent Expense ............................................................. Salaries and Wages Expense ....................................
Debit $ 6,000 8,000 5,000 76,000
Credit
$ 20,000 9,000 3,000 25,000 8,000 86,000 2,000 38,000 $143,000
$143,000
[(Cash + Accts. rec. + Supp. + Equip. + Div. + Rent exp. + Sal. & wages exp.) = (Notes pay. + Accts. pay. + Sal. & wages pay. + Common stk. + Serv. rev.)] [($6,000 + $8,000 + $5,000 + $76,000 + $8,000 + $2,000 + $38,000) = ($20,000 + $9,000 + $3,000 + $25,000 + $86,000)] LO 5 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 3.1 1. 2. 3. 4. 5. 6. 7. 8. 9.
Increase in assets and increase in stockholders’ equity. Decrease in assets and decrease in stockholders’ equity. Increase in assets and increase in stockholders’ equity. Increase in assets and increase in stockholders’ equity. Decrease in assets and decrease in stockholders’ equity. Increase in liabilities and decrease in stockholders’ equity. Increase in assets and decrease in assets. Increase in assets and decrease in assets. Increase in assets and increase in liabilities.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Kowledge AICPA AC: Reporting
EXERCISE 3.2 Assets
=
Accounts Cash (1)
+
Receivable
+ Equipment =
Payable
Stockholders’ Equity Common
+
+$40,000
Retained Earnings + Revenues –
Stock
+$30,000
–4,000
–$4,000 +$19,000
(5)
+5,000
(6)
–8,000
(7)
–30,000
Expenses
+$40,000 +$30,000
(4)
Rent Expense
+$19,000
Service Revenue
+5,000
Service Revenue –8,000
Utilities Expense
–1,300
Advertising Expense
–30,000
(8) (9)
+
Accounts
(2) (3)
Liabilities
+1,300 +12,000
–12,000
$15,000 +
$7,000
$52,000
+
$30,000
=
$ 1,300
+
$40,000 +
$24,000
–
$13,300
$52,000
LO 1 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.4 (a)
1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Stockholders invested $20,000 cash in the business. Purchased equipment for $5,000, paying $1,000 in cash and the balance of $4,000 on account. Paid $750 cash for supplies. Earned $9,500 in revenue, receiving $4,100 cash and $5,400 on account. Paid $1,500 cash on accounts payable. Paid $2,000 cash dividends to stockholders. Paid $800 cash for rent. Collected $450 cash from customers on account. Paid salaries of $3,000. Incurred $300 of utilities expense on account.
(b) Issued common stock ............................................................ Service revenue ...................................................................... Dividends ................................................................................ Rent expense .......................................................................... Salaries and wages expense ................................................. Utilities expense ..................................................................... Increase in stockholders’ equity ...........................................
$20,000 9,500 (2,000) (800) (3,000) (300) $23,400
(Add’l. invest. + Rev. – Tot. exp. – Div. = Change in SE) [$20,000 + $9,500 – ($800 + $3,000 + $300) – $2,000 = $23,400]
(c) Service revenue ...................................................................... Rent expense .......................................................................... Salaries and wages expense ................................................. Utilities expense ..................................................................... Net income .............................................................................. (Serv. rev. – Tot. exp. = Net inc.) [$9,500 – ($800 + $3,000 + $300) = $5,400] LO 1 BT: AP Difficulty: Medium TOT. 12 min. AACSB: Analytic AICPA AC: Reporting
$ 9,500 (800) (3,000) (300) $ 5,400
EXERCISE 3.5 WOLFE COMPANY Income Statement For the Month Ended August 31, 2025 Revenues Service revenue ....................................................... Expenses Salaries and wages expense................................... Rent expense ........................................................... Utilities expense ...................................................... Total expenses ................................................. Net income .......................................................................
$9,500 $3,000 800 300 4,100 $5,400
(Serv. rev. – Tot. exp. = Net inc.) [$9,500 – ($3,000 + $800 + $300) = $5,400]
WOLFE COMPANY Retained Earnings Statement For the Month Ended August 31, 2025 Retained earnings, August 1 ............................................................ Add: Net income.............................................................................. Less: Dividends................................................................................ Retained earnings, August 31 .......................................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($0 + $5,400 – $2,000 = $3,400)
$ 0 5,400 5,400 2,000 $3,400
WOLFE COMPANY Balance Sheet August 31, 2025 Assets Current assets Cash .......................................................................... Accounts receivable ................................................ Supplies .................................................................... Total current assets.............................................. Equipment..................................................................... Total assets...........................................................
$15,500 4,950 750 $21,200 5,000 $26,200
Liabilities and Stockholders’ Equity Current liabilities Accounts payable..................................................... Stockholders’ equity Common stock ......................................................... $20,000 Retained earnings .................................................... 3,400 Total liabilities and stockholders’ equity ....
$ 2,800 23,400 $26,200
[((Cash + Accts. rec. + Supp.) + Equip.) = (Accts. pay. (Common stk. + Ret. earn.))] [(($15,500 + $4,950 + $750) + $5,000) = ($2,800 + ($20,000 + $3,400))] LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.6
Account Accounts Payable Accounts Receivable Common Stock Depreciation Expense Interest Expense Interest Income Inventories Prepaid Expenses Property and Equipment Revenues
(a) Normal Balance Debit or Credit Credit Debit Credit Debit Debit Credit Debit Debit Debit Credit
(b) Balance Sheet or Income Statement Balance sheet Balance sheet Balance sheet Income statement Income statement Income statement Balance sheet Balance sheet Balance sheet Income statement
LO 2 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 3.7
Account Accounts receivable Bank loans payable Buildings Cash Depreciation expense Dividends Equipment Income taxes payable Income tax expense Interest expense Interest revenue Inventories Service revenue
a. Type of Account Asset Liability Asset Asset Stockholders’ equity Stockholders’ equity Asset Liability Stockholders’ equity Stockholders’ equity Stockholders’ equity Asset Stockholders’ equity
b. Normal Balance Debit Credit Debit Debit
Financial Statement Balance sheet Balance sheet Balance sheet Balance sheet
Debit
Income statement
c.
Debit Credit
Retained earnings statement Balance sheet Balance sheet
Debit
Income statement
Debit
Income statement
Credit
Income statement
Debit
Balance sheet
Credit
Income statement
Debit
LO 2 BT: K Difficulty: Medium Time: 7 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 3.9 Oct. 1 Debits increase assets: debit Cash $30,000. Credits increase stockholders’ equity: credit Common Stock $30,000. 2
No accounting transaction.
3
Debits increase assets: debitEquipment $3,800. Credits increase liabilities: creditAccounts Payable $3,800.
6
Debits increase assets: debit Accounts Receivable $10,800. Credits increase revenues: credit Service Revenue $10,800.
10
Debits increase assets: debitCash $140. Credits increase revenues: creditService Revenue $140.
27
Debits decrease liabilities: debitAccounts Payable $700. Credits decrease assets: creditCash $700.
30
Debits increase expenses: debit Salaries and Wages Expense $3,000. Credits decrease assets: credit Cash $3,000.
LO 2 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 3.10 (Continued) (b) General Journal Trans. 1. 2. 3.
4. 5.
6. 7. 8.
Account Titles Cash.................................................................. Common Stock.........................................
Debit 15,000
Equipment ........................................................ Cash ..........................................................
10,000
Supplies............................................................ Accounts Payable ....................................
300
Accounts Receivable....................................... Service Revenue ......................................
3,700
Advertising Expense ....................................... Cash ..........................................................
200
Cash.................................................................. Accounts Receivable ...............................
1,100
Accounts Payable ............................................ Cash ..........................................................
300
Dividends ......................................................... Cash ..........................................................
400
Credit 15,000 10,000 300 3,700 200
LO 2,3 BT: AP Difficulty: Medium TOT: 15 AACSB: Analytic AICPA AC: Reporting
1,100 300 400
EXERCISE 3.11 General Journal Date Oct. 1
Account Titles Cash................................................................. Common Stock........................................
Debit 30,000
30,000
2
No entry.
3
Equipment ....................................................... Accounts Payable ...................................
3,800
Accounts Receivable...................................... Service Revenue .....................................
10,800
Cash................................................................. Service Revenue .....................................
140
Accounts Payable........................................... Cash .........................................................
700
Salaries and Wages Expense......................... Cash .........................................................
3,000
6 10 27 30
Credit
3,800 10,800 140 700
LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
3,000
EXERCISE 3.12 General Journal Date Mar.
2 4
10 13 25 27 30 31
Account Titles Cash .................................................................. Common Stock
Debit 11,000
Credit 11,000
Equipment ....................................................... 10,000 Cash ............................................................. Accounts Payable........................................
1,000 9,000
Accounts Receivable ...................................... Service Revenue..........................................
2,300 2,300
Advertising Expense....................................... Cash .............................................................
225
Cash ................................................................. Accounts Receivable ..................................
1,000
Accounts Payable ............................................ Cash .............................................................
9,000
Cash ................................................................. Unearned Service Revenue ........................
700
Dividends......................................................... Cash .............................................................
300
225 1,000
LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
9,000 700 300
EXERCISE 3.13 General Journal Trans. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Account Titles Equipment .......................................................... Accounts Payable........................................
Debit 8,000
Rent Expense ..................................................... Cash..............................................................
1,600
Accounts Receivable ......................................... Service Revenue ..........................................
3,800
Utilities Expense ................................................ Cash..............................................................
300
Cash .................................................................... Notes Payable ..............................................
20,000
Accounts Payable .............................................. Cash..............................................................
8,000
Prepaid Insurance.............................................. Cash..............................................................
500
Cash .................................................................... Accounts Receivable...................................
3,000
Dividends ........................................................... Cash..............................................................
500
Income Tax Expense.......................................... Cash..............................................................
250
Credit 8,,000 1,600 3,800 300 20,000 8,000 500 3,000 500
LO 3 BT: AP Difficulty: Medium Time: 15 min. AACSB: Analytic AICPA AC: Reporting
250
EXERCISE 3.14 General Journal Date May 4 7 8 9 17 22 29
Account Titles Accounts Payable........................................... Cash .........................................................
Debit 700
Accounts Receivable ..................................... Service Revenue .....................................
6,800
Supplies .......................................................... Accounts Payable ...................................
850
Equipment....................................................... Cash .........................................................
1,000
Salaries and Wages Expense ........................ Cash .........................................................
530
Maintenance and Repairs Expense ............... Accounts Payable ...................................
900
Prepaid Insurance .......................................... Cash .........................................................
1,200
Credit 700 6,800 850 1,000 530 900
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
1,200
EXERCISE 3.15 General Journal Date March
1
3 5 8
12 14 22 24 27 28 30
Account Titles Rent Expense .................................................. Cash .........................................................
Debit 1,200
Accounts Receivable...................................... Service Revenue .....................................
140
Cash................................................................. Service Revenue .....................................
75
Equipment ....................................................... Cash ......................................................... Accounts Payable ...................................
600
Cash................................................................. Accounts Receivable ..............................
140
Salaries and Wages Expense......................... Cash .........................................................
525
Utilities Expense ............................................. Cash .........................................................
72
Cash................................................................. Notes Payable..........................................
1,500
Maintenance and Repairs Expense ............... Cash .........................................................
220
Accounts Payable ........................................... Cash .........................................................
520
Prepaid Insurance........................................... Cash .........................................................
1,800
Credit 1,200
140 75 80 520 140 525 72 1,500 220 520
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
1,800
EXERCISE 3.16 Trans. 1. 2. 3. 4. 5. 6. 7.
8. 9. 10. 11. 12. 13. 14.
Account Titles Cash.................................................................. Common Stock.........................................
Debit 24,000
Cash.................................................................. Notes Payable...........................................
7,000
Equipment ........................................................ Cash ..........................................................
11,000
Rent Expense ................................................... Cash ..........................................................
1,200
Supplies............................................................ Cash ..........................................................
1,450
Advertising Expense ....................................... Accounts Payable ....................................
600
Cash.................................................................. Accounts Receivable....................................... Service Revenue ......................................
2,000 16,000
Dividends ......................................................... Cash ..........................................................
400
Utilities Expense .............................................. Cash ..........................................................
2,000
Accounts Payable ............................................ Cash ..........................................................
600
Interest Expense .............................................. Cash ..........................................................
40
Salaries and Wages Expense.......................... Cash ..........................................................
6,400
Cash.................................................................. Accounts Receivable ...............................
12,000
Income Tax Expense ....................................... Cash ..........................................................
1,500
Credit 24,000 7,000 11,000 1,200 1,450 600
18,000 400 2,000 600 40 6,400 12,000
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
1,500
EXERCISE 3.17 7
a. A list of accounts and their balances at a given time.
2
b. An accounting record in which transactions are initially recorded in chronological order.
3
c. A record of all accounts maintained by a company and their amounts.
6
d. An individual accounting record of increases and decreases in specific asset, liability, stockholders’ equity, revenue, or expense items.
4
e. A list of the names of a company’s accounts.
1
f.
5
g. The procedure of transferring journal entry amounts to the ledger accounts.
9
h. The left side of an account.
8
i.
The right side of an account.
Events that require recording in the financial statements because they affect assets, liabilities, or stockholders’ equity.
LO 1, 2, 3, 4, 5 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 3.18 (a) Oct. 1 10 Bal.
Cash 30,000 Oct. 27 140 30 26,440
700 3,000
Accounts Payable Oct. 27 700 Oct. 3 Bal.
3,800 3,100
Common Stock Oct. 1 Bal.
30,000 30,000
Accounts Receivable Oct. 6 10,800 Bal. 10,800
Oct. 3 Bal.
Service Revenue Oct. 6 10,800 10 140 Bal. 10,940
Equipment 3,800 3,800
Salaries and Wages Expense Oct. 30 3,000 Bal. 3,000
(b)
MCCALL REAL ESTATE AGENCY Trial Balance October 31, 2025 Cash.................................................................... Accounts Receivable......................................... Equipment .......................................................... Accounts Payable .............................................. Common Stock .................................................. Service Revenue ................................................ Salaries and Wages Expense............................
Debit $26,440 10,800 3,800
Credit
$ 3,100 30,000 10,940 3,000 $44,040
[(Cash + Accts. rec. + Equip. + Sal. & wages exp.) = (Accts. pay. + Common stk. + Serv. rev.)] [($26,440 + $10,800 + $3,800 + $3,000) = ($3,100 + $30,000 + $10,940)] LO 4, 5 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
$44,040
EXERCISE 3.19 (a) Assets
=
Accounts Cash Sept. 1
+$20,000
5
–3,000
+
Receivable
Liabilities Accounts
+ Equipment =
Payable
Stockholders’ Equity
+ Common +
Stock
Retained Earnings + Revenues
25
–4,000
30
–500
–
Div.
+$9,000
Issued stock
+$ 6,000
+$18,000 –1,200
Exp.
+$20,000
8 14
–
+$18,000
Ser. Rev. –$1,200
S&W Exp.
–4,000 –$500 Dividends
$ 11,300 +
$18,000
+
$9,000
=
$ 2,000
+
$20,000
$38,300
+
$18,000
–
$1,200
–
$500
$38,300
(b) General Journal Date Sept. 1 5
8 14 25 30
Account Titles Cash ............................................................... Common Stock ......................................
Debit 20,000
Equipment...................................................... Accounts Payable .................................. Cash........................................................
9,000
Accounts Receivable .................................... Service Revenue ....................................
18,000
Salaries and Wages Expense ....................... Cash........................................................
1,200
Accounts Payable.......................................... Cash........................................................
4,000
Dividends ....................................................... Cash........................................................
500
J1 Credit 20,000 6,000 3,000
18,000 1,200 4,000 500
EXERCISE 3.19 (Continued) (c)
Bal.
Cash 20,000 9/5 9/14 9/25 9/30 11,300
9/8 Bal.
Accounts Receivable 18,000 18,000
9/5 Bal.
Equipment 9,000 9,000
9/1
9/25
Accounts Payable 4,000 9/5 Bal.
Common Stock 9/1 Bal.
3,000 1,200 4,000 500 9/30 Bal.
20,000 20,000
Dividends 500 500 Service Revenue 9/8 Bal.
18,000 18,000
Salaries and Wages Expense 9/14 1,200 Bal. 1,200 6,000 2,000
LO 1, 3, 4 BT: AP Difficulty: Hard TOT:20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.20 (a) General Journal Account Titles and Explanation Cash................................................................. Common Stock........................................ (Issued stock for cash)
Date Apr. 1
4
7
12
15
25
29
30
Debit 15,000
Credit 15,000
Supplies........................................................... Accounts Payable ................................... (Purchased supplies on account)
5,200
Accounts Receivable...................................... Service Revenue ..................................... (Billed clients for services rendered)
3,400
Cash................................................................. Service Revenue ..................................... (Received cash for revenue earned)
700
Salaries and Wages Expense......................... Cash ......................................................... (Paid salaries)
800
Accounts Payable........................................... Cash ......................................................... (Paid creditors on account)
3,500
Cash................................................................. Accounts Receivable .............................. (Received cash in payment of account)
800
Cash................................................................. Unearned Service Revenue .................... (Received cash for future services)
900
5,200
3,400
700
800
3,500
800
900
EXERCISE 3.20 (Continued) (b)
SALVADOR’S GARDENING COMPANY, INC. Trial Balance April 30, 2025 Cash.................................................................... Accounts Receivable......................................... Supplies.............................................................. Accounts Payable .............................................. Unearned Service Revenue............................... Common Stock .................................................. Service Revenue ................................................ Salaries and Wages Expense............................
Debit $13,100 2,600 5,200
Credit
$ 1,700 900 15,000 4,100 800 $21,700
$21,700
[(Cash + Accts. rec. + Supp. + Sal. & wages exp.) = (Accts. pay. + Unearn. serv. rev. + Common stk. + Serv. rev.)] [($13,100 + $2,600 + $5,200 + $800) = ($1,700 + $900 + $15,000 + $4,100)] LO 3, 5 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.21 (a) Aug. 1 10 31 Bal.
Cash 8,000 Aug. 12 1,700 600 9,100
Accounts Receivable Aug. 25 3,400 Aug. 31 Bal. 2,800
Aug. 12 Bal.
(b)
1,200
Notes Payable Aug. 12 Bal.
5,000 5,000
Common Stock Aug. 1 Bal.
8,000 8,000
Service Revenue Aug. 10 25 Bal.
1,700 3,400 5,100
600
Equipment 6,200 6,200
BAYLEE INC. Trial Balance August 31, 2025 Cash .................................................................... Accounts Receivable ......................................... Equipment .......................................................... Notes Payable .................................................... Common Stock................................................... Service Revenue ................................................
Debit $ 9,100 2,800 6,200
$18,100 [(Cash + Accts. rec. + Equip.) = (Notes pay. + Common stk. + Serv. rev.)] [($9,100 + $2,800 + $6,200) = ($5,000 + $8,000 + $5,100)] LO 4, 5 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
Credit
$ 5,000 8,000 5,100 $18,100
EXERCISE 3.22 (a) Oct. 1
10
10
20
20
Cash ............................................................... Common Stock ...................................... (Issued stock for cash)
7,000
Cash ............................................................... Service Revenue.................................... (Received cash for services provided)
980
Cash ............................................................... Notes Payable........................................ (Issued note payable for cash)
8,000
Cash ............................................................... Accounts Receivable ............................ (Received cash in payment of account)
700
Accounts Receivable .................................... Service Revenue.................................... (Billed clients for services provided)
920
7,000
980
8,000
700
920
EXERCISE 3.22 (Continued) (b)
KRISCOE CO. Trial Balance October 31, 2025 Cash .................................................................... Accounts Receivable ......................................... Supplies.............................................................. Equipment .......................................................... Notes Payable .................................................... Accounts Payable .............................................. Common Stock................................................... Dividends............................................................ Service Revenue ................................................ Salaries and Wages Expense ............................ Supplies Expense .............................................. Rent Expense .....................................................
Debit $15,730 1,020 220 3,000
Credit
$ 8,000 1,500 9,000 300 2,700 500 180 250 $21,200
$21,200
[(Cash + Accts. rec. + Supp. + Equip. + Div. + Sal. & wages exp. + Supp. exp. + Rent exp.) = (Notes pay. + Accts. pay. + Common stk. + Serv. rev.)] [($15,730 + $1,020 + $220 + $3,000 + $300 + $500 + $180 + $250) = ($8,000 + $1,500 + $9,000 + $2,700)] LO 3, 5 BT: AN Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.23 (a) Date Oct.
1 2 4 7
8 10 12 16 21 24 27 31
Account Titles Cash ................................................................ Common Stock........................................
Debit 66,000
Credit 66,000
No entry Rent Expense.................................................. Cash .........................................................
2,000
Equipment ....................................................... Cash ......................................................... Accounts Payable ...................................
18,000
Advertising Expense ...................................... Cash .........................................................
500
Maintenance and Repairs Expense ............... Accounts Payable ...................................
390
Accounts Receivable...................................... Service Revenue .....................................
3,200
Supplies .......................................................... Accounts Payable ...................................
410
Accounts Payable........................................... Cash .........................................................
14,000
Utilities Expense............................................. Cash .........................................................
148
Cash ................................................................ Accounts Receivable ..............................
3,200
Salaries and Wages Expense ........................ Cash .........................................................
5,100
2,000 4,000 14,000 500 390 3,200 410 14,000 148 3,200 5,100
EXERCISE 3.23 (Continued) (b) 10/1 10/27
Bal.
Cash 66,000 10/4 3,200 10/7 10/8 10/21 10/24 10/31 43,452
2,000 4,000 500 14,000 148 5,100
Accounts Receivable 10/12 3,200 10/27 3,200
10/16 Bal.
Supplies 410 410
10/7 Bal.
Equipment 18,000 18,000
10/21
10/8 Bal.
3,200 3,200
Advertising Expense 500 500
Salaries and Wages Expense 10/31 5,100 Bal. 5,100 Maintenance & Repairs Expense 10/10 390 Bal. 390
Accounts Payable 14,000 10/7 14,000 10/10 390 10/16 410 Bal. 800 Common Stock 10/1 Bal.
Service Revenue 10/12 Bal.
66,000 66,000
10/4 Bal.
Rent Expense 2,000 2,000
10/24 Bal.
Utilities Expense 148 148
EXERCISE 3.23 (Continued) (c)
BEYERS CORPORATION Trial Balance October 31, 2025 Cash.................................................................... Supplies.............................................................. Equipment .......................................................... Accounts Payable .............................................. Common Stock .................................................. Service Revenue ................................................ Advertising Expense ......................................... Salaries and Wages Expense............................ Maintenance and Repairs Expense .................. Rent Expense ..................................................... Utilities Expense ................................................
Debit $43,452 410 18,000
Credit
$ 800 66,000 3,200 500 5,100 390 2,000 148 $70,000
$70,000
[(Cash + Supp. + Equip. + Advert. exp. + Sal. & wages exp. + Maint. & repairs exp. + Rent exp. + Util. exp.) = (Accts. pay. + Common stk. + Serv. rev.)] [($43,452 + $410 + $18,000 + $500 + $5,100 + $390 + $2,000 + $148) = ($800 + $66,000 + $3,200)] LO 3-5 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.24 Error 1. 2. 3. 4. 5. 6.
(a) In Balance No Yes Yes No Yes No
(b) Difference $400 — — 300 — 36*
(c) Larger Column Debit — — Credit — Credit
*$395 – $359 LO 5 BT: AN Difficulty: Hard TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.25 (a)
RAPID DELIVERY SERVICE Trial Balance July 31, 2025 Debit Cash ($98,370 – Debit total without Cash $85,946) ........................................................... Accounts Receivable.......................................... Prepaid Insurance............................................... Equipment ........................................................... Accounts Payable ............................................... Salaries and Wages Payable.............................. Notes Payable (due 2028)................................... Common Stock ................................................... Retained Earnings .............................................. Dividends ............................................................ Service Revenue ................................................. Salaries and Wages Expense............................. Maintenance and Repairs Expense ................... Insurance Expense .............................................
Credit
$12,424 13,400 2,200 59,360 $ 8,400 820 28,450 40,000 5,200 700 15,500 7,428 1,958 900 $98,370
$98,370
[(Cash + Accts. rec. + Prepd. ins. + Equip. + Div. + Sal. & wages exp. + Maint. & repairs exp. + Ins. exp.) = (Accts. pay. + Sal. & wages pay. + Notes pay. + Common stk. + Ret. earn. + Serv. rev.)] [(($98,370 – $85,946) + $13,400 + $2,200 + $59,360 + $700 + $7,428 + $1,958 + $900) = ($8,400 + $820 + $28,450 + $40,000 + $5,200 + $15,500)]
EXERCISE 3.25 (Continued) (b)
RAPID DELIVERY SERVICE Income Statement For the Month Ended July 31, 2025 Revenues Service revenue................................................. Expenses Salaries and wages expense ............................ Maintenance and repairs expense ................... Insurance expense ............................................ Total expenses............................................... Net income ............................................................
$15,500 $7,428 1,958 900 10,286 $ 5,214
(Serv. rev. – Tot. exp. = Net inc.) [$15,500 – ($7,428 + $1,958 + $900) = $5,214]
RAPID DELIVERY SERVICE Retained Earnings Statement For the Month Ended July 31, 2025 Retained earnings, July 1..................................... Add: Net income ................................................. Less: Dividends ................................................... Retained earnings, July 31................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($5,200 + $5,214 – $700 = $9,714)
$ 5,200 5,214 10,414 700 $ 9,714
EXERCISE 3.25 (Continued) RAPID DELIVERY SERVICE Balance Sheet July 31, 2025 Assets Current assets Cash.................................................................... Accounts receivable.......................................... Prepaid insurance.............................................. Total current assets ....................................... Equipment ............................................................. Total assets ....................................................
$12,424 13,400 2,200 $28,024 59,360 $87,384
Liabilities and Stockholders’ Equity Current liabilities Accounts payable.............................................. Salaries and wages payable ............................. Total current liabilities................................... Notes payable........................................................ Total liabilities ................................................ Stockholders’ equity Common stock .................................................. Retained earnings ............................................. Total stockholders’ equity............................. Total liabilities and stockholders’ equity .....
$ 8,400 820 $ 9,220 28,450 37,670 40,000 9,714 49,714 $87,384
[((Cash + Accts. rec. + Prepd. ins.) + Equip.) = = [(Acct. Pay. + Sal. & Wages Pay. + Notes Pay.) + (Common Stock + Ret. Earn.) [(($12,424 + $13,400 + $2,200) + $59,360) = (($8,400 + $820) + $28,450 + ($40,000 + $9,714))] LO 5 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.26 1. 2. 3. 4. 5. 6. 7. 8. 9.
Financing activity Operating activity Operating activity Non-cash event Financing activity Non-cash event Operating activity Investing activity Non-cash event
LO 5 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 3.27 1. 2. 3. 4. 5. 6. 7. 8. 9.
Financing activity Financing activity Investing activity Operating activity Non-cash event Operating activity Non-cash event Operating activity Financing activity
LO 5 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.1 (Continued) (b) Service Revenue ...................................................... Expenses Salaries and Wages Expense .......................... Rent Expense ................................................... Advertising Expense........................................ Net Income ................................................
$12,000 $1,800 900 200
2,900 $ 9,100
OR Revenues.................................................................. Less: Expenses....................................................... Net Income ............................................................... (Serv. rev. – Tot. exp. = Net inc.) [$12,000 – ($1,800 + $900 + $200) = $9,100] LO 1 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
$12,000 2,900 $ 9,100
PROBLEM 3.2 (Continued) (b)
CURRY CONSULTING INC. Income Statement For the Month Ended May 31, 2025 Revenues Service revenue ($1,400 + $4,200)................ Expenses Salaries and wages expense ........................ Rent expense................................................. Utilities expense............................................ Advertising expense ..................................... Total expenses....................................... Net income ............................................................
$5,600 $2,500 600 180 150 3,430 $2,170
(Serv. rev. – Tot. exp. = Net inc.) [$5,600 – ($2,500 + $600 + $180 + $150) = $2,170]
(c)
CURRY CONSULTING INC. Balance Sheet May 31, 2025 Assets Current assets Cash............................................................... Accounts receivable ..................................... Supplies......................................................... Total current assets .............................. Equipment ..................................................... Total assets............................................
$18,270 3,000 500
Liabilities and Stockholders’ Equity Current liabilities Notes payable ............................................... $ 5,000 Accounts payable ......................................... 1,800 Total current liabilities .......................... Stockholders’ equity Common stock.............................................. 15,000 Retained earnings ($0 + $2,170 – $200)....... 1,970 Total liabilities and stockholders’ equity..................................................
$21,770 2,000 $23,770
$ 6,800 16,970 $23,770
[((Cash + Accts. rec. + Supp.) + Equip.) = ((Notes pay. + Accts. pay.) + (Common stk. + Ret. earn.))] [(($18,270 + $3,000 + $500) + $2,000) = (($5,000 + $1,800) + ($15,000 + ($0 + $2,170 – $200)))] LO 1, 2 BT: AP Difficulty: Hard TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.3 (Continued) (b)
BINDY CRAWFORD INC. Income Statement For the Month Ended August 31, 2025 Revenues Service revenue................................................ Expenses Salaries and wages expense ........................... Rent expense.................................................... Utilities expense............................................... Advertising expense ........................................ Total expenses.......................................... Net income ...............................................................
$5,400 $1,400 700 380 350 2,830 $2,570
(Serv. rev. – Tot. exp. = Net inc.) [$5,400 – ($1,400 + $700 + $380 + $350) = $2,570]
BINDY CRAWFORD INC. Retained Earnings Statement For the Month Ended August 31, 2025 Retained earnings, August 1 .................................................... Add: Net income...................................................................... Less: Dividends ........................................................................ Retained earnings, August 31................................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($1,600 + $2,570 – $700 = $3,470)
$1,600 2,570 4,170 700 $3,470
PROBLEM 3.3 (Continued) BINDY CRAWFORD INC. Balance Sheet August 31, 2025 Assets Current assets Cash ................................................................ Accounts receivable ...................................... Supplies .......................................................... Total current assets................................ Equipment....................................................... Total assets.............................................
$7,150 3,200 500 $10,850 9,000 $19,850
Liabilities and Stockholders’ Equity Current liabilities Notes payable................................................. Accounts payable........................................... Total current liabilities............................ Stockholders’ equity Common stock ............................................... Retained earnings .......................................... Total liabilities and stockholders’ equity ...................................................
$5,000 5,180 $10,180 6,200 3,470
9,670 $19,850
[((Cash + Accts. rec. + Supp.) + Equip.) = ((Notes pay. + Accts. pay.) + (Common stk. + Ret. earn.))] [(($7,150 + $3,200 + $500) + $9,000) = (($5,000 + $5,180) + ($6,200 + $3,470))] LO 1, 2 BT: AP Difficulty: Hard TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.4
Date Mar. 1
3
5
6
10
18
19
25
Account Titles and Explanation Cash ................................................................ Common Stock........................................ (Issued stock for cash)
Debit 50,000
Land................................................................. Buildings ......................................................... Equipment....................................................... Cash ......................................................... (Purchased Snead’s Golf Land)
23,000 9,000 6,000
Advertising Expense ...................................... Cash ......................................................... (Paid for advertising)
1,200
Prepaid Insurance .......................................... Cash ......................................................... (Paid for one-year insurance policy)
2,400
Equipment....................................................... Accounts Payable ................................... (Purchased equipment on account)
5,500
Cash ................................................................ Service Revenue ..................................... (Received cash for revenue earned)
1,600
Cash (100 X $25) ............................................. Unearned Service Revenue .................... (Received cash for coupon books sold)
2,500
Dividends ........................................................ Cash ......................................................... (Payment of cash dividend)
500
Credit 50,000
38,000
1,200
2,400
5,500
1,600
2,500
500
PROBLEM 3.4 (Continued) Date Mar. 30
30
31
Account Titles and Explanation Salaries and Wages Expense......................... Cash ......................................................... (Paid salaries expense)
Debit 800
Accounts Payable........................................... Cash ......................................................... (Paid creditor on account)
5,500
Cash................................................................. Service Revenue ..................................... (Received cash for revenue earned)
900
Credit 800
5,500
LO 3 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
900
PROBLEM 3.5 (a) Date Apr. 1
Account Titles and Explanation Cash ................................................................. Common Stock ........................................ (Issued shares of stock for cash)
1
Debit 18,000
Credit 18,000
No entry—not a transaction. 2
3
10
11
20
30
30
Rent Expense .................................................. Cash.......................................................... (Paid monthly office rent)
900
Supplies ........................................................... Accounts Payable.................................... (Purchased supplies on account from Burmingham Company)
1,300
Accounts Receivable ...................................... Service Revenue ...................................... (Billed clients for services rendered)
1,900
Cash ................................................................. Unearned Service Revenue..................... (Received cash advance for future service)
700
Cash ................................................................. Service Revenue ...................................... (Received cash for service performed)
2,800
Salaries and Wages Expense ......................... Cash.......................................................... (Paid monthly salary)
1,500
Accounts Payable ........................................... Cash.......................................................... (Paid Burmingham Company on account)
300
900
1,300
1,900
700
2,800
1,500
300
PROBLEM 3.5 (Continued) (b) 4/1 4/11 4/20 Bal.
4/10 Bal.
4/3 Bal.
4/30
Cash 18,000 4/2 700 4/30 2,800 4/30 18,800
900 1,500 300
Accounts Receivable 1,900 1,900
18,000 18,000
Service Revenue 4/10 4/20 Bal.
1,900 2,800 4,700
Salaries and Wages Expense 4/30 1,500 Bal. 1,500
Supplies 1,300 1,300 Accounts Payable 300 4/3 Bal.
Common Stock 4/1 Bal.
1,300 1,000
Unearned Service Revenue 4/11 700 Bal. 700
4/2 Bal.
Rent Expense 900 900
PROBLEM 3.5 (Continued) (c)
AYALA ARCHITECTS INC. Trial Balance April 30, 2025 Cash.................................................................... Accounts Receivable......................................... Supplies.............................................................. Accounts Payable .............................................. Unearned Service Revenue............................... Common Stock .................................................. Service Revenue ................................................ Salaries and Wages Expense............................ Rent Expense .....................................................
Debit $18,800 1,900 1,300
Credit
$ 1,000 700 18,000 4,700 1,500 900 $24,400
$24,400
[(Cash + Accts. rec. + Supp. + Sal. & wages exp. + Rent exp.) = (Accts. pay. + Unearn. serv. rev. + Common stk. + Serv. rev.)] [($18,800 + $1,900 + $1,300 + $1,500 + $900) = ($1,000 + $700 + $18,000 + $4,700)] LO 3-5 BT: AP Difficulty: Hard TOT: 35 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.6
(a) & (c) Cash 10/1 Bal. 19,200 10/15 10/5 1,300 10/20 10/17 600 10/29 10/31 Bal. 17,300
1,200 1,900 300 400
Retained Earnings 10/1 Bal. 11,000 Bal. 11,000
Accounts Receivable 10/1 Bal. 2,600 10/5 1,300 10/10 5,100 Bal. 6,400
10/1 Bal. Bal.
Supplies 2,100 2,100
10/1 Bal. Bal.
Equipment 8,000 8,000
10/20
Accounts Payable 1,900 10/1 Bal. Bal.
Common Stock 10/1 Bal. 15,000 Bal. 15,000
10/29 Bal.
Dividends 300 300 Service Revenue 10/10 10/17 Bal.
5,100 600 5,700
Salaries and Wages Expense 10/15 1,200 Bal. 1,200 4,800 2,900 10/31 Bal.
Unearned Service Revenue 10/1 Bal. 1,100 Bal. 1,100
Utilities Expense 400 400
PROBLEM 3.6 (Continued) (b) Date Oct. 5
10
15
17
20
29
31
Account Titles and Explanation Cash ................................................................ Accounts Receivable .............................. (Received collections from customers on account)
Debit 1,300
Accounts Receivable ..................................... Service Revenue ..................................... (Billed customers for services performed)
5,100
Salaries and Wages Expense ........................ Cash ......................................................... (Paid employee salaries)
1,200
Cash ................................................................ Service Revenue ..................................... (Performed services for customers)
600
Accounts Payable........................................... Cash ......................................................... (Paid creditors on account)
1,900
Dividends ........................................................ Cash ......................................................... (Paid cash dividend)
300
Utilities Expense............................................. Cash ......................................................... (Paid utilities)
400
Credit 1,300
5,100
1,200
600
1,900
300
400
PROBLEM 3.6 (Continued) (d)
LACEY COMPANY Trial Balance October 31, 2025 Cash .................................................................... Accounts Receivable ......................................... Supplies.............................................................. Equipment .......................................................... Accounts Payable .............................................. Unearned Service Revenue ............................... Common Stock................................................... Retained Earnings.............................................. Dividends............................................................ Service Revenue ................................................ Salaries and Wages Expense ............................ Utilities Expense ................................................
Debit $ 17,300 6,400 2,100 8,000
Credit
$ 2,900 1,100 15,000 11,000 300 5,700 1,200 400 $35,700
$35,700
[(Cash + Accts. rec. + Supp. + Equip. + Div. + Sal. & wages exp. + Util. exp.) = (Accts. pay. + Unearn. serv. Rev. + Common stk. + Ret. earn. + Serv. rev.)] [($17,300 + $6,400 + $2,100 + $8,000 + $300 + $1,200 + $400) = ($2,900 + $1,100 + $15,000 + $11,000 + $5,700)] LO 3-5 BT: AP Difficulty: Hard TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
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PROBLEM 3.7
WASHBURN CO. Trial Balance June 30, 2025 Cash ($3,090 – $780 + $870) .............................. Accounts Receivable* ....................................... Supplies ($800 – $340)....................................... Equipment ($3,000 + $340) ................................ Accounts Payable ($3,686 – $206 – $260) ........ Unearned Service Revenue............................... Common Stock .................................................. Dividends ($800 + $600) .................................... Service Revenue ................................................ Salaries and Wages Expense ($3,600 + $700 – $600)..................................... Utilities Expense ................................................
Debit $ 3,180 3,910 460 3,340
Credit
$ 3,220 1,200 9,000 1,400 3,480 3,700 910 $16,900
$16,900
*$3,190 + $780 – $870 – $90 + $900 [(Cash + Accts. rec. + Supp. + Equip. + Div. + Sal. & wages exp. + Util. exp.) = (Accts. pay. + Unearn. rev. + Common stk. + Serv. rev.)] [(($3,090 – $780 + $870) + ($3,190 + $780 – $870 – $90 + $900) + ($800 – $340) + ($3,000 + $340) + ($800 + $600) + ($3,600 + $700 – $600) + $910) = (($3,686 – $206 – $260) + $1,200 + $9,000 + $3,480)] LO 5 BT: AN Difficulty: Hard TOT: 35 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.8
(a) & (c) 3/1 Bal. 3/9 3/20 3/31 3/31 Bal.
3/31 Bal.
2,000 10,900 500 5,000 3,800
Accounts Receivable 750 750
3/1 Bal. Bal.
3/1 Bal. Bal.
3/1 Bal. Bal.
3/10
Cash 16,000 3/2 9,900 3/10 8,300 3/12 750 3/20 20,000 3/31 32,750
Land 38,000 38,000
Buildings 22,000 22,000
Equipment 16,000 16,000
Accounts Payable 10,900 3/1 Bal. 12,000 3/2 8,000 Bal. 9,100
Common Stock 3/1 Bal. Bal.
80,000 80,000
Service Revenue 3/9 3/20 3/31 Bal.
9,900 8,300 20,000 38,200
Rent Revenue 3/31 Bal.
1,500 1,500
3/12 Bal.
Advertising Expense 500 500
3/2 3/20 Bal.
Rent Expense 10,000 5,000 15,000
Salaries and Wages Expense 3/31 3,800 Bal. 3,800
PROBLEM 3.8 (Continued) (b) Date Mar. 2
Account Titles and Explanation Rent Expense ................................................. Accounts Payable................................... Cash ........................................................ (Rented films for cash and on account)
Debit 10,000
8,000 2,000
3
No entry—not a transaction.
9
Cash ................................................................ Service Revenue..................................... (Received cash for admissions)
9,900
Accounts Payable ($8,000 + $2,900) ............. Cash ........................................................ (Paid creditors on account)
10,900
10
9,900
10,900
11
No entry—not a transaction.
12
Advertising Expense...................................... Cash ........................................................ (Paid advertising expenses)
500
Cash ................................................................ Service Revenue..................................... (Received cash for admissions)
8,300
Rent Expense ................................................. Cash ........................................................ (Paid film rental)
5,000
Salaries and Wages Expense ........................ Cash ........................................................ (Paid salaries expense)
3,800
20
20
31
Credit
500
8,300
5,000
3,800
PROBLEM 3.8 (Continued) Date Mar. 31
31
(d)
Account Titles and Explanation Cash ................................................................ Accounts Receivable ..................................... Rent Revenue (15% X $10,000) ................ (Received cash and balance on account for concessions)
Debit 750 750
Cash ................................................................ Service Revenue ..................................... (Received cash for admissions)
20,000
Credit
1,500
20,000
TRIQUEL THEATER INC. Trial Balance March 31, 2025 Cash ................................................................. Accounts Receivable ...................................... Land ................................................................. Buildings ......................................................... Equipment ....................................................... Accounts Payable ........................................... Common Stock................................................ Service Revenue ............................................. Rent Revenue .................................................. Advertising Expense....................................... Rent Expense .................................................. Salaries and Wages Expense .........................
Debit $ 32,750 750 38,000 22,000 16,000
Credit
$
500 15,000 3,800 $128,800
9,100 80,000 38,200 1,500
$128,800
[(Cash + Accts. rec. + Land + Bldgs. + Equip. + Advert. exp. + Rent exp. + Sal. & wages exp.) = (Accts. pay. + Common stk. + Serv. rev. + Rent rev.)] [($32,750 + $750 + $38,000 + $22,000 + $16,000 + $500 + $15,000 + $3,800) = ($9,100 + $80,000 + $38,200 + $1,500)] LO 3-5 BT: AP Difficulty: Hard TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.9 (a) & (c) 7/31 Bal. 8/3 8/5 8/7 8/18 8/26 Bal.
Cash 4,000 8/6 1,200 8/12 1,300 8/14 3,000 8/20 3,500 8/31 2,000 6,225
2,700 400 4,675 500 500
Retained Earnings 7/31 Bal. Bal.
8/20 Bal.
3,400 3,400
Dividends 500 500
Accounts Receivable 7/31 Bal. 1,500 8/3 1,200 8/7 3,500 8/18 3,500 8/24 1,000 Bal. 1,300
Service Revenue 8/7 8/24 Bal.
7/31 Bal. Bal.
Supplies 500 500
Salaries and Wages Expense 8/14 3,500 Bal. 3,500
7/31 Bal. 8/12 Bal.
Equipment 5,000 1,200 6,200
8/14 Bal.
Rent Expense 900 900
8/14 Bal.
Advertising Expense 275 275
8/28 Bal.
Utilities Expense 275 275
8/31 Bal.
Income Tax Expense 500 500
8/6
Accounts Payable 2,700 7/31 Bal. 8/12 8/28 Bal. Notes Payable 8/26 Bal. Common Stock 7/31 Bal. 8/5 Bal.
4,100 800 275 2,475
2,000 2,000
3,500 1,300 4,800
6,500 1,000 7,500
PROBLEM 3.9 (Continued) (b) Date Aug. 3 5 6 7
12
14
18 20 24 26
Account Titles Cash ................................................................ Accounts Receivable .............................
Debit 1,200
Cash ................................................................ Common Stock .......................................
1,300
Accounts Payable .......................................... Cash ........................................................
2,700
Cash ................................................................ Accounts Receivable ..................................... Service Revenue.....................................
3,000 3,500
Equipment ...................................................... Cash ........................................................ Accounts Payable...................................
1,200
Salaries and Wages Expense ........................ Rent Expense ................................................. Advertising Expense...................................... Cash ........................................................
3,500 900 275
Cash ................................................................ Accounts Receivable .............................
3,500
Dividends........................................................ Cash ........................................................
500
Accounts Receivable ..................................... Service Revenue.....................................
1,000
Cash ................................................................ Notes Payable.........................................
2,000
1,200 1,300 2,700
6,500 400 800
4,675 3,500 500 1,000 2,000
27
No entry
28
Utilities Expense ............................................ Accounts Payable...................................
275
Income Tax Expense...................................... Cash ........................................................
500
31
Credit
275 500
PROBLEM 3.9 (Continued) (d)
HILLS LEGAL SERVICES INC. Trial Balance August 31, 2025 Cash.................................................................... Accounts Receivable......................................... Supplies.............................................................. Equipment .......................................................... Accounts Payable .............................................. Notes Payable .................................................... Common Stock .................................................. Retained Earnings ............................................. Dividends ........................................................... Service Revenue ................................................ Salaries and Wages Expense............................ Rent Expense ..................................................... Advertising Expense ......................................... Utilities Expense ................................................ Income Tax Expense .........................................
Debit $ 6,225 1,300 500 6,200
Credit
$ 2,475 2,000 4,800 3,400 500 7,500 3,500 900 275 275 500 $20,175
$20,175
[(Cash + Accts. rec. + Supp. + Equip. + Div. + Sal. & wages exp. + Rent exp. + Advert. exp. + Util. exp. + Inc. tax exp.) = (Accts. pay. + Notes pay. + Common stk. + Ret. earn. + Serv. rev.)] [($6,225 + $1,300 + $500 + $6,200 + $500 + $3,500 + $900 + $275 + $275 + $500) = ($2,475 + $2,000 + $4,800 + $3,400 + $7,500)] LO 3-5 BT: AP Difficulty: Hard TOT: 55 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.10 (a) & (c) Apr. 30 May 7 8 15 22 29
Bal.
Cash 5,000 1,500 May 1 1,200 4 800 14 1,000 21 1,700 25 31 31 31 5,100
Apr. 30 Bal.
Supplies 500 500
Apr. 30 Bal.
Equipment 24,000 24,000
Accounts Payable Apr. 30 May 4 1,100 May 22 21 1,000 25 Bal. Notes Payable Apr. 30 Bal.
Common Stock Apr. 30 1,000 1,100 1,200 1,000 400 50 1,200 150
Bal.
10,000
Bal.
11,400
1,200 800 700 1,000 1,700 600 6,000
Salaries and Wages Expense May 14 1,200 31 1,200 Bal. 2,400
May 1 Bal.
Rent Expense 1,000 1,000
10,000
Unearned Service Revenue Apr. 30 1,000 May 15 700 May 7 1,500 29 600 Bal. 1,200
5,000
Retained Earnings Apr. 30 11,400
Service Revenue May 8 15 15 22 29 29 Bal.
2,100 700 500 1,200
5,000
Supplies Expense May 22 700 Bal. 700 Advertising Expense May 25 500 Bal. 500
PROBLEM 3.10 (Continued) Utilities Expense May 25 400 Bal. 400 Interest Expense May 31 50 Bal. 50
Income Tax Expense May 31 150 Bal. 150
PROBLEM 3.10 (Continued) (b) Date May 1 4 7 8 14 15 15 21 22 22
Account Titles Rent Expense ................................................. Cash ........................................................
Debit 1,000
Accounts Payable .......................................... Cash ........................................................
1,100
Cash ................................................................ Unearned Service Revenue ...................
1,500
Cash ................................................................ Service Revenue.....................................
1,200
Salaries and Wages Expense ........................ Cash ........................................................
1,200
Cash ................................................................ Service Revenue.....................................
800
Unearned Service Revenue ........................... Service Revenue.....................................
700
Accounts Payable ($2,100 - $1,100) .............. Cash ........................................................
1,000
Cash ................................................................ Service Revenue.....................................
1,000
Supplies Expense .......................................... Accounts Payable...................................
700
Credit 1,000 1,100 1,500 1,200 1,200 800 700 1,000 1,000 700
PROBLEM 3.10 (Continued) Date May 25 25 29 29 31 31 31
Account Titles Advertising Expense ..................................... Accounts Payable ..................................
Debit 500
Utilities Expense ............................................ Cash ........................................................
400
Cash................................................................ Service Revenue.....................................
1,700
Unearned Service Revenue........................... Service Revenue.....................................
600
Interest Expense ............................................ Cash ........................................................
50
Salaries and Wages Expense........................ Cash ........................................................
1,200
Income Tax Expense ..................................... Cash ........................................................
150
Credit 500 400 1,700 600 50 1,200 150
PROBLEM 3.10 (Continued) (d)
PAMPER ME SALON INC. Trial Balance May 31, 2025 Cash .................................................................... Supplies.............................................................. Equipment .......................................................... Accounts payable .............................................. Notes payable..................................................... Unearned service revenue................................. Common stock ................................................... Retained earnings .............................................. Service revenue ................................................. Salaries and wages expense............................. Rent expense...................................................... Supplies expense............................................... Advertising expense .......................................... Utilities expense................................................. Interest expense................................................. Income tax expense ........................................... Totals ..............................................................
Debit $ 5,100 500 24,000
Credit
$ 1,200 10,000 1,200 5,000 11,400 6,000 2,400 1,000 700 500 400 50 150 $34,800
$34,800
[(Cash + Supp. + Equip. + Sal. & wages exp. + Rent exp. + Supp. exp. + Advert. exp. + Util. exp. + Int. exp. + Inc. tax exp.) = (Accts. pay. + Notes pay. Unearn. serv. rev. + Common stk. + Ret. earn. + Serv. rev.)] [($5,100 + $500 + $24,000 + $2,400 + $1,000 + $700 + $500 + $400 + $50 + $150) = ($1,200 + $10,000 + $1,200 + $5,000 + $11,400 + $6,000)] LO 3-5 BT: AP Difficulty: Hard TOT: 55 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 3.11
Error 1.
(a) In Balance No
(b) Difference $600
(c) Larger Column Debit
2.
Yes
None
N/A
3.
Yes
None
N/A
4.
No
$680
Credit
5.
Yes
None
N/A
6.
Yes
None
N/A
7.
No
$900
Debit
8.
Yes
None
N/A
LO 5 BT: AN Difficulty: Hard TOT: 35 min. AACSB: Analytic AICPA AC: Reporting
CC3
CONTINUING CASE: COOKIE CREATIONS
(a) General Journal Date Nov.
8
Account Titles No journal entry required.
8
No journal entry required.
8
Cash ............................................................ Common Stock ....................................
500
Supplies ...................................................... Cash .....................................................
95
Supplies ...................................................... Cash .....................................................
125
Equipment................................................... Common Stock ....................................
300
Cash ............................................................ Notes Payable ......................................
2,000
Equipment................................................... Cash .....................................................
900
11 14 15 16 17 18 25 29
Debit
Credit
500 95 125 300 2,000 900
No journal entry required. Cash ............................................................ Unearned Service Revenue.................
60
Cash ............................................................ Service Revenue..................................
100
60 100
CC3 (Continued) Date Nov. 30
30 30 30
Account Titles Website ....................................................... Accounts Payable ...............................
Debit 600
Prepaid Insurance ...................................... Cash .....................................................
1,200
Accounts Receivable ................................. Service Revenue..................................
300
Utilities Expense ........................................ Accounts Payable ...............................
50
Credit 600
1,200 300 50
(b) Cash Nov. 8 500 Nov. 11 Nov. 16 2,000 Nov. 14 Nov. 25 60 Nov. 17 Nov. 29 100 Nov. 30 Nov. 30 Bal. 340
Accounts Receivable Nov. 30 300 Nov. 30 Bal. 300
Supplies Nov. 11 95 Nov. 14 125 Nov. 30 Bal. 220
Prepaid Insurance Nov. 30 1,200 Nov. 30 Bal. 1,200
95 125 900 1,200
Equipment Nov. 15 300 Nov. 17 900 Nov. 30 Bal. 1,200
Website Nov. 30 600 Nov. 30 Bal. 600
Accounts Payable Nov. 30 600 Nov. 30 50 Nov. 30 Bal. 650
Unearned Service Revenue Nov. 25 60 Nov. 30 Bal. 60
CC3 (Continued)
(c)
Notes Payable Nov. 16 Nov. 30 Bal.
2,000 2,000
Utilities Expense Nov. 30 50 Nov. 30 Bal. 50
Common Stock Nov. 8 Nov. 15 Nov. 30 Bal.
500 300 800
Service Revenue Nov. 29 Nov. 30 Nov. 30 Bal.
100 300 400
COOKIE CREATIONS INC. Trial Balance November 30, 2023 Cash ........................................................................ Accounts Receivable ............................................. Supplies .................................................................. Prepaid Insurance .................................................. Equipment............................................................... Website ................................................................... Accounts Payable .................................................. Unearned Service Revenue ................................... Notes Payable......................................................... Common Stock ....................................................... Service Revenue..................................................... Utilities Expense.....................................................
Debit $ 340 300 220 1,200 1,200 600
Credit
$ 650 60 2,000 800 400 50 $3,910
(Tot. dr. amount = Cash + A/R + Sup. + Prep. Ins. + Equip. + Web. + Util. Exp.) ($340 + $300 + $220 + $1,200 + $1,200 + $600 + $50) LO 3, 4 5 BT: AP Difficulty: Moderate TOT: 45 mi. AACSB: Analysis AICPA AC: Reporting
$3,910
CT3.1
FINANCIAL REPORTING PROBLEM
(a) Account Common Stock Accounts Payable Accounts Receivable Selling, General, and Administrative Expenses Inventories Net Property, Plant, and Equipment Net Sales
Increase Side Right/Credit Right/Credit Left/Debit
Decrease Side Left/Debit Left/Debit Right/Credit
Normal Balance Credit Credit Debit
Left/Debit Left/Debit
Right/Credit Right/Credit
Debit Debit
Left/Debit Right/Credit
Right/Credit Left/Debit
Debit Credit
(b)
1. 2. 3.
Cash is increased. Cash is decreased. Cash is decreased or Accounts Payable is increased.
(c)
1. 2.
Cash is decreased or Interest Payable is increased. Cash is decreased or Notes (or Mortgage) Payable is increased.
LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
CT3.2
(a) 1. 2. 3. 4. 5.
COMPARATIVE ANALYSIS PROBLEM
Columbia Sportswear Accounts Receivable debit Net Property, Plant, and Equipment debit credit Accounts Payable Retained Earnings credit Net Sales credit
1. 2. 3. 4. 5.
Under Armour Inventories debit Income Taxes (Expense) debit Accrued Liabilities credit credit Common Stock debit Interest Expense
(b) The following other accounts are ordinarily involved: 1.
Increase in Accounts Receivable: Service Revenue or Sales Revenue is increased (credited).
2.
Decrease in Notes Payable: Cash is decreased (credited).
3.
Increase in Equipment: Notes Payable is increased (credited) or Cash is decreased (credited).
4.
Increase in Interest Revenue: Cash or Interest Receivable is increased (debited).
LO 2 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
CT3.3
(a) 1. 2. 3.
COMPARATIVE ANALYSIS PROBLEM
Amazon Interest Expense: Cash and Cash Equivalents: Accounts Payable:
debit debit
1. 2.
Walmart Product Revenues: Inventories:
credit
3.
Cost of Sales:
credit debit debit
(b) The following other accounts are ordinarily involved: 1.
Increase in Accounts Receivable: Service Revenue or Sales Revenue is increased (credited).
2.
Increase in Interest Expense: Cash is decreased or Interest Payable is increased (credited).
3.
Decrease in Salaries and Wages Payable: Cash is decreased (credited).
4.
Increase in Service Revenue: Cash or Accounts Receivable is increased (debited).
LO 2 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
CT3.4
INTERPRETING FINANCIAL STATEMENTS
CHIEFTAIN INTERNATIONAL, INC. (a) One of the primary advantages to Chieftain of having no long-term debt is that there is room for growth through the use of debt and the company’s financial risk is greatly reduced. Another advantage is that profitability is enhanced when there is no interest expense. A possible disadvantage is that the company could have expanded more and earned a greater return if the growth had been financed with long-term debt. (b) An advantage to Chieftain from having a large cash balance is that cash is available to finance such things as the drilling of new wells and the investment in new technology. New opportunities may be seized and expansions may be undertaken at the time most advantageous for the business. A disadvantage is that cash earns little or no interest. A higher rate of return might be generated on excess cash by some other type of investment. (c) Accounts payable, as purchases on credit, represent interest-free loans. Business enterprises don’t pay cash unless the supplier requires immediate payment. Nearly all exchange transactions are conducted on 30-day or more credit. LO 2 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Reflective Thinking AICPA AC: Reporting
CT3.5
REAL-WORLD FOCUS
(a) CPAs work in public accounting, business and industry, government, and education. (b) A CPA needs: strong leadership, communication skills, technology know-how, business savvy. (c) Salary ranges are: $63,250 – $83,250 during the first three years for a CPA at a large firm; $207,000 – $465,750 for Chief Financial Officer at a large corporation. LO N/A BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic and Technology AICPA PC: Communication
CT3.6
REAL-WORLD FOCUS
(a) The reason the Green Bay Packers’ issue an annual report is because they are a publicly owned, nonprofit company. They issue the report to the more than 350,000 shareholders. None of the other teams are publicly owned, so they have no obligation to make their financial information available except to their small group of owners. (b) At the time that the article was written the owners of the NFL teams and the players’ labor union were negotiating a new contract. Knowing how profitable the NFL teams are would be useful information for the players to know so that they would have a better sense of how much the teams could afford to pay. The Packers are obviously a “small market” team, they are not necessarily representative of teams in general. However, the Packers’ annual report does give the players some sense of the profitability of other teams. (c) Since some of the cost of the stadium that the Packers play in is covered by taxpayers, the county and state governments have an interest in the team’s finances. (d) The Packers’ revenues increased during recent years. However, because the cost of players’ salaries increased at a faster rate than revenues, the Packers’ operating profit actually declined. LO N/A BT: E Difficulty: Hard TOT: 25 min. AACSB: Analytic, Technology and Reflective Thinking AICPA AC: Reporting AICPA PC: Decision-Making
CT3.7
DECISION MAKING ACROSS THE ORGANIZATION
(a) May 1
Cash............................................................... Common Stock ......................................
5 7 9 14 15 20 31
15,000 15,000
Correct. Cash............................................................... Unearned Service Revenue ..................
500
Supplies......................................................... Accounts Payable .................................
1,500
Equipment ..................................................... Cash .......................................................
800
Dividends....................................................... Cash .......................................................
400
Cash............................................................... Service Revenue....................................
154
Maintenance and Repairs Expense ............. Accounts Payable .................................
75
500 1,500 800 400 154 75
(b) The error in the entries of May 14 and May 20 would prevent the trial balance from balancing. (c) Net income as reported .......................................... Add: 5/9, Supplies expense ................................. 5/15, Salaries and wages expense (dividends paid) ...........................................
$ 4,500 $1,500 400
Less: 5/7, Unearned service revenue ................... Correct net income ................................................. (d) Cash as reported .................................................... Add: 5/9, Purchase on account............................ 5/20, Transposition error ($154 – $145) ......
1,900 6,400 500 $ 5,900 $12,475
$1,500 9
1,509 $13,984
LO 3, 5 BT: AN Difficulty: Hard TOT: 30 min. AACSB: Reflective Thinking and Communication AICPA PC: Collaboration, Leadership and Communication
CT3.8
COMMUNICATION ACTIVITY
To:
Accounting Instructor
From:
Accounting Student
Re:
Steps in Recording Process
In the first transaction, bills totaling $6,000 were sent to customers for services provided. Therefore, the asset Accounts Receivable is increased $6,000 and the revenue Service Revenue is increased $6,000. Debits increase assets and credits increase revenues, so the journal entry is: Accounts Receivable ............................................................ Service Revenue ............................................................ (Billed customers for services provided)
6,000 6,000
The $6,000 amount is then posted to the debit side of the general ledger account Accounts Receivable and to the credit side of the general ledger account Service Revenue. In the second transaction, $2,000 was paid in salaries to employees. Therefore, the expense Salaries and Wages Expense is increased $2,000 and the asset Cash is decreased $2,000. Debits increase expenses and credits decrease assets, so the journal entry is: Salaries and Wages Expense ............................................... Cash................................................................................ (Salaries paid)
2,000 2,000
The $2,000 amount is then posted to the debit side of the general ledger account Salaries and Wages Expense and to the credit side of the general ledger account Cash. LO 3 BT: S Difficulty: Hard TOT: 25 min. AACSB: Communication AICPA PC: Communication
CT3.9
ETHICS CASE
(a) The stakeholders in this situation are:
Vanessa Jones, assistant chief accountant. Users of the company’s financial statements. IBT Company.
(b) By adding $1,000 to the Equipment account, that account total is intentionally misstated. By not locating the error causing the imbalance, some other account may also be misstated by $1,000. If the amount of $1,000 is determined to be immaterial, and the intent is not to commit fraud (cover up an embezzlement or other misappropriation of assets), Vanessa’s action might not be considered unethical in the preparation of interim financial statements. However, if Vanessa is violating a company accounting policy by her action, then she is acting unethically. (c) Vanessa’s alternatives are: 1.
Miss the deadline but find the error causing the imbalance.
2.
Tell her supervisor of the imbalance and suffer the consequences.
3.
Do as she did and locate the error later, making the adjustment in the next quarter.
LO 5 BT: E Difficulty: Hard TOT: 20 min. AACSB: Ethics AICPA PC: Ethical Conduct
CT3.10
ETHICS CASE
(a) The chief executive is accused of misappropriating investor funds for himself. He stated he was operating an online market place for hiring private investigators. He provided investors with detailed financial statements which falsely inflated its results. He also sent an investment memo that cited results of previous Trustify affiliated private investigations. The veracity of these claims could not be verified. He also sent false emails that pretended to verify funds sent from other investors, and he told one investor the company had $18 million in cash when it had less than $10,000. (b) If a company’s financial statements have not been audited by a CPA firm, then the investor is relying solely on the honesty and financial reporting ability of the company’s management. Companies that are in the early stages of operations are often in dire need of financing to remain in business. Sometimes otherwise honest managers will be tempted to engage in fraudulent activities in order to help the company survive. (c)
The article explains that sometimes investors are afraid to ask for supporting documents because they don’t want to offend company managers, and they don’t want to be left out of investment opportunities. They say that this is particularly likely when a venture capital market becomes “overheated” with too many investor dollars chasing too few good investment opportunities. Making investment decisions without good data is risky. In this case, the investor should be asking whether the risk is justified by the opportunity. Clearly, in the case of Trustify, the answer is no.
LO 3, 4 BT: E Difficulty: Hard TOT: 20 min. AACSB: Ethics AICPA PC: Ethical Conduct
CT3.11
ALL ABOUT YOU
We address the issue of contingent liabilities in greater detail in Chapter 10. Our primary interest in this exercise is to engage students in a discussion regarding the general nature of the financial statement elements (assets, liabilities, equity, revenues and expenses). (a)
By taking out the bank loan your friend has incurred a liability. You do not have a liability unless your friend defaults, or unless it becomes clear that he will default. The loan application may, however, require you to disclose any guarantees that you have signed, since they represent potential liabilities.
(b) Accounting standards have specific requirements regarding accounting for situations where there is uncertainty regarding whether a liability has been incurred. Those standards require an evaluation of the probability of an amount being owed. Without going into detail regarding those standards, the basic idea is that if it is probable that you will owe money, then you should accrue a liability. If it is not probable, but it is possible that you will owe money, then you should disclose facts regarding the situation. The most important point is that this event has the potential to materially impact your finances, and therefore you have a responsibility to disclose it to the bank in some form. (c)
Losing your job would not create a financial liability, although it would most certainly reduce your revenues. You are obviously concerned that you might lose your job, but you don’t have specific information that would suggest that it will happen. Therefore, you probably don’t have an obligation to disclose this information to the bank. However, unless you are relatively certain that you would be able to find suitable employment relatively quickly, you might want to wait until your job situation has stabilized before pursuing a loan of this size.
LO N/A BT: S Difficulty: Hard TOT: 30 min. AICPA AC: Reporting AICPA PC: Communication
AACSB: Communication and Reflective Thinking
CHAPTER 4 Accrual Accounting Concepts Learning Objectives 1. 2. 3. 4. *5.
Explain the accrual basis of accounting and the reasons for adjusting entries. Prepare adjusting entries for deferrals. Prepare adjusting entries for accruals. Prepare an adjusted trial balance and closing entries. Describe the purpose and the basic form of a worksheet.
ANSWERS TO QUESTIONS 1.
(a)
Under the periodicity assumption, an accountant is required to determine the effect of each accounting transaction on a specific accounting period.
(b) An accounting time period that is one year in length is referred to as a fiscal year. LO 1 BT: C Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
2.
The two generally accepted accounting principles that pertain to adjusting the accounts are: The revenue recognition principle, which states that revenue should be recognized in the time period in which the performance obligation is satisfied. The expense recognition principle, which states that expenses be matched with revenues in the period when the company makes efforts to generate those revenues.
LO 1 BT: K Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
3.
The five steps of the revenue recognition process are: Step 1: Identify the contract with customers. Step 2: Identify the separate performance obligations in the contract. Step 3: Determine the transaction price. Step 4: Allocate the transaction price to the separate performance obligations. Step 5: Recognize revenue when each performance obligation is satisfied.
LO 1 BT: K Diff: E TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
4.
The law firm should recognize the revenue in April. The revenue recognition principle states that revenue should be recognized in the accounting period in which the performance obligation is satisfied.
LO 1 BT: C Diff: M TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
5.
Expenses of $4,700 should be deducted from the revenues in April. Under the expense recognition principle efforts (expenses) should be matched with results (revenues).
LO 1 BT: AP Diff: M TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
6.
No, adjusting entries are required by the revenue and expense recognition principles.
LO 1 BT: C Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
7.
The financial information in a trial balance may not be up-to-date because: (1) Some events are not journalized daily because it is not useful or efficient to do so. (2) The expiration of some costs occurs with the passage of time rather than as a result of recurring daily transactions. (3) Some items may be unrecorded because the transaction data are not known.
LO 1 BT: C Diff: M TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
Questions Chapter 4 (Continued) 8.
The two categories of adjusting entries are deferrals and accruals. Deferrals consist of revenues collected before services are provided and expenses paid before they are incurred. Accruals consist of revenues for services performed prior to collection and expenses incurred prior to payment.
LO 1 BT: C Diff: M TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation , Reporting
9.
In a prepaid expense adjusting entry, expenses are debited and assets or contra-assets are credited.
LO 2 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
10.
No. Depreciation is the process of allocating the cost of an asset to expense over its useful life. Depreciation results in the presentation of the book value of the asset, not its fair value.
LO 2 BT: C Diff: M TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
11.
Depreciation expense is an expense account whose normal balance is a debit. This account shows the cost that has expired during the current accounting period. Accumulated depreciation is a contra asset account whose normal balance is a credit. The balance in this account is the depreciation that has been recognized from the date of acquisition to the balance sheet date.
LO 2 BT: C Diff: M TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
12.
Equipment ............................................................................... Less: Accumulated depreciation—equipment .........................
$15,000 7,000
$8,000
LO 2 BT: AP Diff: E TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
13.
In an unearned revenue adjusting entry, liabilities are debited and revenues are credited.
LO 2 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
14.
The sale of a three-year maintenance contract on December 29, 2024 will have no effect on the 2024 income statement but receipt of $100,000 on December 29, 2024, 2025, and 2026 will increase an asset, Cash, and a liability, Unearned Service Revenue. As Abe Technologies provides service to its customer during 2025, 2026, and 2027, the liability will decrease and revenue will be recognized. Accrual accounting rules require that revenue be recognized as the performance obligation is satisfied rather than when cash is received.
LO 2 BT: AN Diff: H TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
15.
This promotion plan sounds like a bad idea for two reasons: (1) GAAP requires that the sale of a gift card be recorded as Unearned Sales Revenue (a liability) rather than Sales Revenue. Revenue recognition is delayed until the gift card is used or expires. Ed’s plan will not help the company meet its target revenue unless customers use the cards by year-end. (2) Selling a $50 card for $45 will probably not help the company meet its target net income. Although this promotion may result in additional sales revenue as the cards are used, the income resulting from the cards will be much less than usual since they eliminate $5 of normal gross profit.
LO 2 BT: AN Diff: H TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
Questions Chapter 4 (Continued) 16.
An asset is debited and a revenue is credited.
LO 3 BT: C Diff: M TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
17.
An expense is debited and a liability is credited.
LO 3 BT: C Diff: M TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
18.
Net income was understated $270 because prior to adjustment revenues are understated by $780 and expenses are understated by $510. The difference in this case is $270 ($780 – $510).
LO 3 BT: AN Diff: H TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
19.
The entry is: Jan. 9 Salaries and Wages Expense ....................................... Salaries and Wages Payable ........................................ Cash.....................................................................
5,100 1,100 6,200
LO 3 BT: AP Diff: M TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
20.
(a) Accrued revenues. (b) Unearned revenues. (c) Accrued expenses.
(d) Accrued expenses or prepaid expenses. (e) Prepaid expenses. (f) Accrued revenues or unearned revenues.
LO 2 & 3 BT: AN Diff: M TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
21.
(a) Salaries and Wages Payable. (b) Accumulated Depreciation. (c) Interest Expense.
(d) Supplies Expense. (e) Service Revenue. (f) Service Revenue.
LO 2 & 3 BT: AP Diff: M TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
22.
Disagree. Every adjusting entry will include one balance sheet account and one income statement account.
LO 1 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
23.
Apple reports Accounts Receivable. This suggests that it records revenue when it has delivered goods, even though it hasn’t received payment. If it used a cash basis it wouldn’t record revenue until cash was received, and it would therefore not establish receivables.
LO 1 & 3 BT: C Diff: E TOT: 2 min. AACSB: Kowledge AICPA AC: Reporting
24.
Financial statements can be prepared from an adjusted trial balance because the balances of all accounts have been adjusted to show the effects of all financial events that have occurred during the accounting period.
LO 4 BT: C Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 4 (Continued) 25.
(a) Information presented on an accrual basis is useful because it reveals important information about the relationship between efforts and results. This information is useful in predicting future results. Trends in revenues and expenses are thus more meaningful. (b) Information presented on a cash basis is useful for predicting the future availability of cash. Cash basis financial statements provide useful information about a company’s sources and uses of cash.
LO 1 & 4 BT: C Diff: M TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
26.
The amount shown in the adjusted trial balance column for an account equals the account balance in the ledger after adjusting entries have been journalized and posted.
LO 4 BT: C Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
27.
(1) (Dr) Individual revenue accounts and (Cr) Income Summary. (2) (Dr) Income Summary and (Cr) Individual expense accounts. (3) (Dr) Income Summary and (Cr) Retained Earnings (for net income). (4) (Dr) Retained Earnings and (Cr) Dividends.
LO 4 BT: C Diff: M TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
28.
Financial information is used by managers to direct and evaluate a company’s performance. The sooner such information is made available; the sooner changes can be made to get a company “back on track”. A “virtual close” speeds up the reporting process and allows managers to react much faster to changing economic conditions.
LO 4 BT: C Diff: M TOT: 3 min. AACSB: Knnowledge AICPA AC: Reporting
29.
Income Summary is a temporary account that is used in the closing process. The account is debited for expenses and credited for revenues. The difference, either net income or net loss, is then closed to Retained Earnings.
LO 4 BT: C Diff: M TOT: 2 min. AACSB: Knnowledge AICPA AC: Reporting
30.
The post-closing trial balance contains only balance sheet accounts. Its purpose is to prove the equality of the permanent account balances that the company carries forward into the next accounting period.
LO 4 BT: C Diff: M TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
31.
The accounts that will not appear in the post-closing trial balance are: Depreciation Expense; Dividends; and Service Revenue.
LO 4 BT: C Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
32.
The steps that involve journalizing are (1) journalize the transactions, (2) journalize the adjusting entries, and (3) journalize the closing entries.
LO 4 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
33.
The three trial balances are the (1) trial balance, (2) adjusted trial balance, and (3) post-closing trial balance.
LO 4 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 4 (Continued) 34. Earnings management is the planned timing of revenues, expenses, gains, and losses to smooth out bumps in net income. Such action is undertaken to help a company meet target financial numbers. Quality of earnings indicates the level of full and transparent information that a company provides to users of financial statements. LO 4 BT: K Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
35. Examples of ways a company can manage earnings include the following. Use of “one-time” items to prop up earnings numbers. A company may decide to sell property that has appreciated in value in order to record a gain on the sale. Such a gain will increase the current year’s net income but future income will probably not include a similar increase. Inflating revenue in the short-run to the detriment of the long-run. A company may implement changes in its promotion activities near the end of an accounting period to boost year-end revenues. Offering a special rebate or a two–for–one package is likely to increase sales for the time the promotion runs but usually results in lower sales in subsequent periods. Savvy customers may even postpone purchases until special deals are available. Recording improper adjusting entries. Some adjusting entries require estimates and judgment to properly recognize revenue and match expenses. By recognizing revenue “sooner” and delaying the recognition of expenses, earnings can be overstated in early periods and understated in subsequent periods. This type of management is most prevalent with multi-year contracts and prepaid expenses. LO 4 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
*36.
The worksheet is a working paper designed to make it easier to prepare adjusting entries and financial statements.
LO 5 BT: K Diff: E TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
*37.
The columns of the worksheet from left to right are two columns each for the trial balance, adjustments, adjusted trial balance, income statement, and balance sheet. LO 5 BT: K Diff: E TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 4.1 4
Allocate the transaction price to the separate performance obligations.
1
Identify the contract with customers.
2
Identify the separate performance obligations in the contract.
5
Recognize revenue when each performance obligation is satisfied.
3
Determine the transaction price.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 4.2
(a) (b) (c) (d) (e) (f)
Cash $–100 0 0 +800 –2,500 0
Net Income $0 –20 +1,300 0 0 –600
LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 4.3 (a) Prepaid Insurance—to recognize insurance expired during the period. (b) Depreciation Expense—to allocate the cost of an asset to expense during the current period. (c) Unearned Service Revenue—to account for unearned revenue for which services were provided during the period. (d) Interest Payable—to recognize interest accrued but unpaid on notes payable during the current period. LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 4.4 Item
(1) Type of Adjustment
(2) Accounts Before Adjustment
(a)
Prepaid Expenses
Assets Overstated Expenses Understated
(b)
Accrued Revenues
Assets Understated Revenues Understated
(c)
Accrued Expenses
Expenses Understated Liabilities Understated
(d)
Unearned Revenues
Liabilities Overstated Revenues Understated
LO 1 BT: AN Difficulty: Hard TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.5 Dec. 31
Supplies Expense ........................................... Supplies ...................................................
Supplies 12/31 Bal. 8,800 12/31 Adj. 7,700 12/31 Adj. Bal. 1,100
7,700
Supplies Expense 12/31 Adj. 7,700 12/31 Adj. Bal. 7,700
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
7,700
BRIEF EXERCISE 4.6 Dec. 31
Depreciation Expense ..................................... Accumulated Depreciation— Equipment.............................................
Depreciation Expense 12/31 2,750
2,750 2,750
Accumulated Depreciation— Equipment 12/31 2,750
Balance Sheet: Equipment ..................................................................... $22,000 Less: Accumulated depreciation—equipment ...... 2,750
$19,250
LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.7 July 1
Dec. 31
Prepaid Insurance............................................ Cash ..........................................................
12,400
Insurance Expense ($12,400 x 6/24) ............... Prepaid Insurance ....................................
3,100
Prepaid Insurance 7/1 12,400 12/31 Adj. 3,100 12/31 Adj. Bal. 9,300
12,400
Insurance Expense 12/31Adj. 3,100 12/31 Adj. Bal. 3,100
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
3,100
BRIEF EXERCISE 4.8 July 1 Dec. 31
Cash ................................................................. Unearned Service Revenue ....................
12,400
Unearned Service Revenue ............................ Service Revenue ($12,400 x 6/24)...........
3,100
Unearned Service Revenue 12/31 Adj. 3,100 7/1 12,400 12/31 Adj. Bal. 9,300
12,400 3,100
Service Revenue 12/31 Adj. 3,100 12/31 Adj. Bal. 3,100
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.9 1. Supplies Expense.................................................... Supplies ($3,100 – $500).................................
2,600
2. Unearned Service Revenue .................................... Service Revenue .............................................
2,900
3. Rent Expense .......................................................... Prepaid Rent....................................................
400
2,600 2,900 400
LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.10 (a) Dec. 31 (b) (c)
31 31
Interest Expense .............................. Interest Payable ...............................
300
Accounts Receivable .............................. Service Revenue ..............................
1,700
Salaries and Wages Expense ................. Salaries and Wages Payable ...........
780
300
LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
1,700 780
BRIEF EXERCISE 4.11 Dec. 31
Maintenance and Repairs Expense.................. Accounts Payable ....................................
770
31 .. Utilities Expense............................................... Accounts Payable ....................................
240
31 Accounts Receivable ........................................ Rent Revenue ...........................................
1,900
770 240 1,900
LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.12 Account
(1) Type of Adjustment
(2) Related Account
(a)
Accounts Receivable
Accrued Revenues
Service Revenue
(b)
Prepaid Insurance
Prepaid Expenses
Insurance Expense
(c)
Cash
Not required
(d)
Accum. Depreciation— Equipment
Prepaid Expenses
(e)
Dividends
Not required
(f)
Interest Payable
Accrued Expenses
Interest Expense
(g)
Unearned Service Revenue
Unearned Revenues
Service Revenue
Depreciation Expense
LO 4 BT: AN Difficulty: Hard TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.13 LEVIN CORPORATION Income Statement For the Year Ended December 31, 2025 Revenues Service revenue .................................................... Expenses Salaries and wages expense................................ Rent expense ........................................................ Insurance expense................................................ Supplies expense.................................................. Depreciation expense ........................................... Total expenses .............................................. Net income ....................................................................
$32,000 $14,000 3,900 1,800 1,500 1,000 22,200 $ 9,800
[Rev. – Exp. = Net inc. or (loss)] ($32,000 $22,200 = $9,800) LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 4.14 LEVIN CORPORATION Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1 ......................................................... Add: Net income ............................................................................ Less: Dividends.............................................................................. Retained earnings, December 31 ................................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($17,200 + $10,400 - $6,000 = $21,600) LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
$17,200 10,400 27,600 6,000 $21,600
BRIEF EXERCISE 4.15 (a) (b) (c) (d) (e) (f) (g)
Account Accumulated Depreciation Depreciation Expense Retained Earnings (beginning) Dividends Service Revenue Supplies Accounts Payable
Financial Statement Balance Sheet Income Statement Retained Earnings Statement Retained Earnings Statement Income Statement Balance Sheet Balance Sheet
LO 4 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 4.16 The accounts that will appear in the post-closing trial balance are: Accumulated Depreciation Retained Earnings (ending) Supplies Accounts Payable LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 4.17 (a) July 31
Closing Entries Service Revenue...................................... Income Summary.............................. (To close revenue account)
16,000 16,000
Income Summary .................................... Salaries and Wages Expense .......... Maintenance and Repairs Expense.......................................... Income Tax Expense ........................ (To close expense accounts)
11,900
Income Summary .................................... Retained Earnings ............................ (To close net income to retained earnings)
4,100
Retained Earnings ................................... Dividends .......................................... (To close dividends to retained earnings)
1,300
8,400 2,500 1,000
4,100
(b) Retained Earnings 1,300 7/1 Bal. 20,000 4,100 7/31 Bal. 22,800 LO 4 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
1,300
BRIEF EXERCISE 4.18 The proper sequencing of the required steps in the accounting cycle is as follows: 1. 2. 3. 4. 5. 6. 7. 8. 9.
(c) (e) (i) (d) (h) (b) (g) (f) (a)
Analyze business transactions. Journalize the transactions. Post to ledger accounts. Prepare a trial balance. Journalize and post adjusting entries. Prepare an adjusted trial balance. Prepare financial statements. Journalize and post closing entries. Prepare a post-closing trial balance.
LO 4 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 4.1 1. (d)
2. (e)
3. (h)
4. (c)
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 4.2 1.
2.
3.
4.
Insurance Expense ....................................................... Prepaid Insurance................................................... (To record insurance expired)
300
Supplies Expense ($2,500 - $900) ................................ Supplies .................................................................. (To record supplies used)
1,600
Depreciation Expense................................................... Accumulated Depreciation—Equipment .............. (To record monthly depreciation)
200
Unearned Service Revenue .......................................... Service Revenue ($10,000 x 2/5) ............................ (To record revenue for services provided)
4,000
300
1,600
200
4,000
LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 4.3 1.
2.
3.
Salaries and Wages Expense ....................................... Salaries and Wages Payable.................................. (To record accrued salaries)
1,100
Interest Expense ($20,000 x .09 x 1/12)........................ Interest Payable ...................................................... (To record accrued interest)
150
Accounts Receivable ................................................... Service Revenue ..................................................... (To record revenue for service provided)
1,600
LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
1,100
150
1,600
DO IT! 4.4a Income statement: Service Revenue, Utilities Expense. Balance sheet: Accounts Receivable, Accumulated Depreciation, Notes Payable, Common Stock. LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 4.4b Dec. 31
Service Revenue...................................................... 108,000 Income Summary.............................................. 108,000 (To close revenue to income summary)
Dec. 31
Income Summary..................................................... Salaries and Wages Expense .......................... Rent Expense.................................................... Utilities Expense ............................................... Supplies Expense ............................................. (To close expenses to income summary)
72,000
Income Summary..................................................... Retained Earnings ............................................ (To close net income to retained earnings)
36,000
Dec. 31
Dec. 31
40,000 18,000 8,000 6,000
Retained Earnings ................................................... 22,000 Dividends .......................................................... (To close dividends to retained earnings)
LO 4 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
36,000
22,000
SOLUTIONS TO EXERCISES EXERCISE 4.1 The revenue recognition principle requires that companies recognize revenue in the accounting period in which the performance obligation is satisfied. (a) Since the sales effort is not complete until the flight actually occurs, revenue should not be recognized until December. Southwest Airlines should recognize the revenue in December when the customer has been provided with the flight. (b) Sales revenue should be recognized at the time of delivery. (c) Revenue should be recognized on a per game basis over the season from April through October. (d) Interest revenue should be accrued and recognized by RBC evenly over the term of the loan. (e) Revenue should be recognized when the sweater is shipped to the customer in September. LO 1 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 4.2 The revenue recognition principle requires that companies recognize revenue in the accounting period in which the performance obligation is satisfied. a.
Receipt of cash on June 1 creates a performance obligation to provide advertising services. The performance obligation is satisfied as advertising services are provided during the month. Revenue will be recognized in an adjusting entry on June 30 adjustment.
b.
The revenue will be recognized when the goods are delivered on June 12.
c.
Receipt of cash on September 1 creates a performance obligation to provide online movie viewing services. The performance obligation is satisfied as viewing services are provided during the month. Revenue will be recognized in an adjusting entry on September 30.
d.
The revenue will be recognized when the goods are delivered on March 14.
EXERCISE 4.2 (Continued) e.
Receipt of cash on October 1 creates a performance obligation to provide online video conferencing services for a 12 month period. The performance obligation is satisfied as video conferencing services are provided during each month. Revenue will be recognized evenly with 12 monthly adjustments.
LO 2 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 4.3 (a) (b) (c) (d) (e) (f) (g) (h)
8. 1. 7. 3. 6. 4. 2. 5.
Going concern assumption. Economic entity assumption. Full disclosure principle. Monetary unit assumption. Materiality. Periodicity assumption. Expense recognition principle. Historical cost principle.
LO 1 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 4.4 (a) (b) (c) (d) (e) (f)
Revenue recognition principle. Periodicity assumption. No violation. Going concern assumption. Historical cost principle. Economic entity assumption.
LO 1 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 4.5 $ 33,640 + 3,400 – 2,800 + 1,300 – 1,460 – 2,000 + 2,400 – 1,400 + 1,100 $ 34,180
Cash-basis earnings. Accounts receivable arise from sales that have been made, thus revenue must be recognized for balance outstanding at the end of the current year. Accounts receivable collected in current year, for sales made in previous year must be deducted from earnings. Supplies on hand at year end should be set up as an asset rather than expensed, this increases earnings. Supplies on hand at the end of the previous year should be expensed this year, this decreases earnings. Wages owing at the end of the current year should be accrued, thus reducing earnings. Wages owed at the end of the previous year should not be deducted from the current year’s earnings, thus increasing earnings. Other unpaid amounts owed at the end of the current year should be accrued, thus reducing earnings. Other unpaid amounts owed at the end of the previous year should not be deducted from the current year’s earnings, thus increasing earnings. Accrual-basis earnings.
LO 1-3 BT: AP Difficulty: Hard TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.6 (a) Service Revenue – Operating Expenses – Insurance Expense Net Income
Cash Basis $22,000 12,000 2,400 $ 7,600
Accrual Basis $28,000 15,800 — $12,200
[Serv. rev. rec’d. – (Oper. exp. pd. + Ins. exp. pd.) = Cash basis net inc.] [$22,000 – ($12,000 + $2,400) = $7,600]
(b) The accrual basis of accounting provides more useful information for decision makers because it recognizes revenues when the performance obligation is satisfied and expenses when incurred. LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.7 (a)
FRANKEN COMPANY Income Statement For the Six Months Ended April 30, 2025 Revenues Service revenue ($32,150 + $540) ................... Expenses Income tax expense......................................... Salaries and wages expense ($2,600 + $420). Depreciation expense [($9,200 ÷ 4) x 6/12]..... Rent expense ................................................... Utilities expense .............................................. Advertising expense........................................ Total expenses .......................................... Net income...............................................................
$32,690 $10,000 3,020 1,150 1,050 970 375 16,565 $16,125
[Rev. – Exp. = Net inc. or (loss)] [($32,150 + $540) – ($10,000 + ($2,600 + $420) + (($9,200 ÷ 4) x 6/12) + $1,050 + $970 + $375) = $16,125]
EXERCISE 4.7 (Continued) (b)
FRANKEN COMPANY Balance Sheet April 30, 2025 Assets Current assets Cash ............................................................... Accounts receivable ..................................... Total current assets ............................... Property, plant, and equipment Equipment...................................................... Less: Accumulated depreciation—equipment .......................... Total assets ............................................
$27,955 540 $28,495 9,200 1,150
Liabilities and Stockholders’ Equity Current liabilities Salaries and wages payable........................ Stockholders’ equity Common stock ............................................. $20,000 Retained earnings ........................................ 16,125 Total stockholders’ equity.............. Total liabilities and stockholders’ equity................................................... (Assets = liabl. + SE) [($27,955 + $540) + ($9,200 $1,150) = $420 + ($20,000 + $16,125)] LO 1-3 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
8,050 $36,545
$
420
36,125 $36,545
EXERCISE 4.8 (a) Event 180-day financing for customers
Cash Accounting Revenue is recorded as cash is received.
Accrual Accounting Revenue is recorded when the performance obligation is satisfied. BizCon records revenue (and a receivable) as soon as services are provided but may wait up to 180 days to receive cash.
Payment to Equipment expense is equipment recorded as an suppliers upon expense as soon as delivery of goods equipment is received and paid for.
Equipment is recorded as an asset and depreciated.
Prepayment for 2 years of insurance coverage
Insurance expense is recorded as soon as payment is made.
Prepayment is recorded as an asset and recognized as an expense as time passes.
One month’s salaries owed at year-end
No salary expense is recorded until salaries are paid.
Salary expense is recorded as employees perform work. Amounts owed at year-end would be recorded as a liability.
Proper accrual accounting would require adjusting depreciation, prepaid insurance, and accrued salaries.
entries for
EXERCISE 4.8 (Continued) (b) Accrual accounting rules require that revenue be recognized as a company performs services and expenses be matched with the revenue they help produce. Receipt or payment of cash does not influence the calculation of net income. BizCon has provided many services during the year and thus has positive net income. Since BizCon allowed its largest customers to take up to 180 days to pay, but was forced to pay cash for all purchases, it is likely that the company has very little cash at year-end. New companies frequently experience cash shortages because they extend credit to attract customers but are unable to receive credit from their suppliers. As time passes, the cash supply should increase as payments on accounts receivable come in and offset current purchases. LO 1-3 BT: C Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE 4.9 Item
(1) Type of Adjustment
(2) Accounts Before Adjustment
(a)
Accrued Revenues
Assets Understated Revenues Understated
(b)
Prepaid Expenses
Assets Overstated Expenses Understated
(c)
Accrued Expenses
Expenses Understated Liabilities Understated
(d)
Unearned Revenues
Liabilities Overstated Revenues Understated
(e)
Accrued Expenses
Expenses Understated Liabilities Understated
(f)
Prepaid Expenses
Assets Overstated Expenses Understated
LO 1-3 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.10 1.
2. 3. 4.
5.
Mar. 31
31 31 31
31
Depreciation Expense ($280 x 3) ......... Accumulated Depreciation— Equipment .........................................
840
Unearned Rent Revenue .............................. Rent Revenue ($12,400 x 1/2) ...............
6,200
Interest Expense........................................... Interest Payable ....................................
400
Supplies Expense......................................... Supplies ($3,000 – $850).......................
2,150
Insurance Expense ($400 x 3)...................... Prepaid Insurance.................................
1,200
840 6,200 400 2,150
LO 2, 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
1,200
EXERCISE 4.11 July
31
Accounts Receivable ............................. Service Revenue.............................
800
31 Rent Expense.......................................... Prepaid Rent ................................... ($1,500 ÷ 2 = $750)
750
31 Supplies Expense................................... Supplies .......................................... ($1,400 − $500 = $900)
900
31 Depreciation Expense ............................ Accumulated Depreciation— Equipment...................................
250
31
800
750
900
250
Interest Expense ..................................... Interest Payable...............................
2
31 Salaries and Wages Expense ................ Salaries and Wages Payable ..........
2,500
Unearned Service Revenue................... Service Revenue .............................
2,000
31
2
2,500
LO 2,3 BT: AP Difficulty: Medium Time: 15 min. AACSB: Analytic AICPA AC: Reporting
2,000
EXERCISE 4.12 1. 2. 3.
Jan. 31 31 31
31 4. 5.
31 31
Accounts Receivable ................................... Service Revenue ...................................
760
Utilities Expense........................................... Accounts Payable .................................
450
Depreciation Expense .................................. Accumulated Depreciation— Equipment .........................................
400
Interest Expense........................................... Interest Payable ....................................
500
Insurance Expense ($24,000 ÷ 12) ............... Prepaid Insurance.................................
2,000
Supplies Expense ($1,750 – $550)............... Supplies.................................................
1,200
760
450
400
500 2,000
LO 2, 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
1,200
EXERCISE 4.13 1.
2. 3.
4. 5. 6. 7.
Oct. 31
31 31
31 31 31 31
Supplies Expense ......................................... Supplies ($2,500 – $500)...................................
2,000
Insurance Expense ....................................... Prepaid Insurance .................................
100
Depreciation Expense .................................. Accumulated Depreciation— Equipment .........................................
75
Unearned Service Revenue.......................... Service Revenue ...................................
800
Accounts Receivable.................................... Service Revenue ...................................
280
Interest Expense ........................................... Interest Payable.....................................
70
Salaries and Wages Expense ...................... Salaries and Wages Payable ................
1,400
2,000
100
75
800 280 70
LO 2, 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
1,400
EXERCISE 4.14 Date July 31 31
31 31
31 31 31
Account Titles Debit Interest Receivable ($20,000 .06 1/12) ....... 100 Interest Revenue.......................................
Credit 100
Supplies Expense ($24,000 – $18,600)............ 5,400 Supplies.....................................................
5,400
Rent Expense ($3,600 4) ............................... Prepaid Rent .............................................
900
900
Salaries and Wages Expense .......................... 3,100 Salaries and Wages Payable.................... Depreciation Expense ($6,000 12) ................ Accumulated Depreciation—Buildings ...
3,100
500 500
Unearned Service Revenue ............................. 4,700 Service Revenue .......................................
4,700
Maintenance and Repairs Expense................. 2,300 Accounts Payable.....................................
2,300
LO 2, 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.15 NORSKI CO. Income Statement For the Month Ended July 31, 2025 Revenues Service revenue ($5,500 + $700) ............................. Expenses Salaries and wages expense ($2,100 + $360)......... Supplies expense ($900 – $200).............................. Utilities expense ...................................................... Insurance expense................................................... Depreciation expense .............................................. Total expenses ................................................. Net income .......................................................................
$6,200 $2,460 700 500 350 150 4,160 $2,040
[Revenues – Expenses = Net income or (loss)] [($5,500 + $700) – (($2,100 + $360) + ($900 $200) + $500 + $350 + $150)) = $2,040] LO 1-3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.16 (a)
July 10 14 15 20
Supplies ........................................................ Cash .......................................................
200
Cash............................................................... Service Revenue ...................................
3,800
Salaries and Wages Expense ...................... Cash .......................................................
1,000
Cash............................................................... Unearned Service Revenue ..................
600
200
3,800 1,000 600
EXERCISE 4.16 (Continued) (b) July 31
31 31 31
Supplies Expense......................................... Supplies.................................................
750
Accounts Receivable ................................... Service Revenue ...................................
500
Salaries and Wages Expense ...................... Salaries and Wages Payable ................
1,000
Unearned Service Revenue ......................... Service Revenue ...................................
900
750 500 1,000 900
LO 2, 3 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.17 Answer
Computation
(a) Supplies balance = $1,350
Supplies expense Add: Supplies (1/31) Less: Supplies purchased Supplies (1/1)
$ 950 700 300 $1,350
(b) Total premium = $6,240
Total premium = Monthly 12; $520 x 12 = $6,240
premium x
Purchase date = May 1, 2024
Purchase date: On Jan. 31, there are 3 months coverage remaining ($520 x 3). Thus, the purchase date was 9 months earlier on May 1, 2024.
EXERCISE 4.17 (Continued) (c) Salaries and wages payable = $1,760
Cash paid Salaries and wages payable (1/31/25)
$2,500 1,060 3,560
Less: Salaries and wages expense Salaries and wages payable (12/31/24) (d) Unearned service revenue = $2,950
Service revenue Unearned revenue (1/31/25) Less: Cash received in Jan. Unearned revenue (12/31/24)
1,800 $1,760
$4,000 750 4,750 1,800 $2,950
LO 1-3 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.18
Item Incorrect balances Effects of: Salaries and Wages
Net Income $70,000
Rent Revenue Depreciation Correct balances
4,000 (9,000) $55,000
Total Total Stockholders’ Assets Liabilities Equity $150,000 $70,000 $80,000
(10,000)
10,000 (4,000) (9,000) $141,000
$76,000
(10,000) 4,000 (9,000) $65,000
(Incorrect net inc. – Unrecorded exp. incurred + Unrecorded rev. earned = Correct net inc.) ($70,000 $10,000 + $4,000 $9,000 = $55,000) LO 2, 3 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.19 (a) 2025 June
Aug. Sept. Nov. Dec.
1
31 4 30 5
Prepaid Insurance ...................................... Cash .....................................................
1,800
Prepaid Rent............................................... Cash .....................................................
6,500
Cash ............................................................ Unearned Service Revenue ................
3,600
Prepaid Cleaning........................................ Cash .....................................................
2,000
Cash ............................................................ Unearned Service Revenue ................
1,500
Insurance Expense .................................... Prepaid Insurance............................. ($1,800 × 7/12 months = $1,050)
1,050
Rent Expense ............................................. Prepaid Rent...................................... ($6,500 × 4/5 months = $5,200)
5,200
Unearned Service Revenue ....................... Service Revenue ............................... ($3,600 × 4/9 months = $1,600)
1,600
Maintenance and Repairs Expense .......... Prepaid Cleaning...............................
1,000
Unearned Service Revenue ....................... Service Revenue ............................... ($1,500 – $475 not played = $1,025 played)
1,025
1,800 6,500 3,600 2,000 1,500
(b) 2025 Dec.
31
31
31
31 31
1,050
5,200
1,600
1,000 1,025
EXERCISE 4.19 (Continued) (c)
June 1
Prepaid Insurance 1,800 Dec. 31 Adj. 1,050
Dec. 31 Bal.
750
Dec. 31 Adj. 1,050
Rent Expense Dec. 31 Adj. 5,200
Prepaid Rent Aug. 31
Insurance Expense
6,500 Dec. 31 Adj. 5,200
Service Revenue
Dec. 31 Bal. 1,300
Dec. 31 Adj. 1,600 Dec. 31 Adj. 1,025
Unearned Service Revenue Dec. 31 Adj. 1,600 Sept. 4 Dec. 31 Adj. 1,025 Dec. 5
Dec. 31 Bal. 2,625
3,600 1,500
Maintenance and Repairs Expense Dec. 31 Bal. 2,475
Dec. 31 Adj. 1,000
Prepaid Cleaning Nov. 30
2,000 Dec. 31 Adj. 1,000
Dec. 31 Bal. 1,000 Note: The Cash account has not been included in this solution, as per the instructions. LO 2, 3 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.20 (a) 2025 Dec.
31 31
31
31 31 (b) 2026 Jan.
11
4
1 4 2
Utilities Expense ........................................ Accounts Payable .............................
425
Salaries and Wages Expense.................... Salaries and Wages Payable ............ ($3,500 × 4/7 days = $2,000)
2,000
425 2,000
Interest Expense ........................................ 188 Interest Payable ................................ ($45,000 × 5% × 1/12 months = $188 (rounded)) Accounts Receivable ................................. Service Revenue ...............................
300
Accounts Receivable ................................. Rent Revenue ....................................
6,000
Accounts Payable ...................................... Cash .....................................................
425
Salaries and Wages Payable ..................... Salaries and Wages Expense.................... Cash .....................................................
2,000 1,500
Interest Payable ......................................... Cash .....................................................
188
Cash ............................................................ Accounts Receivable ..........................
300
Cash ............................................................ Accounts Receivable ..........................
6,000
188
300 6,000
425
3,500 188 300
LO 2, 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
6,000
EXERCISE 4.21 a.
5 Expenses paid in cash before they are used or consumed.
b.
7 The difference between the cost of a depreciable asset and its related accumulated depreciation.
c.
8 A list of accounts and their balances after all adjustments have been made.
d.
4 Entries made at the end of an accounting period to ensure that the revenue recognition and expense recognition principles are followed.
e.
9 Entries at the end of accounting period to transfer the balances of temporary accounts to a permanent stockholders’ equity account, Retained Earnings.
f.
6 Revenue, expense, and dividend accounts whose balances a company transfers to Retained Earnings at the end of an accounting period.
g. 10 The planned timing of revenues, expenses, gains, and losses to smooth out bumps in net income. h.
1 An account that is offset against an asset account on the balance sheet.
i. 11 A temporary account used in closing revenue and expense accounts. j.
2 Balance sheet accounts whose balances are carried forward to the next accounting period.
k.
3 The process of allocating the cost of an asset to expense over its useful life.
LO1, 2, 3, 4 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 4.22 Jan. 31 31
31
Service Revenue.................................................. Income Summary .........................................
4,000
Income Summary................................................. Salaries and Wages Expense...................... Supplies Expense ........................................ Insurance Expense ......................................
3,270
Income Summary................................................. Retained Earnings........................................
730
4,000 1,800 950 520 730
LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.23 (a) Date Dec. 31
31
31 31
Account Titles Service Revenue........................................ Rent Revenue ............................................ Income Summary...............................
Debit 183,800 6,200
Income Summary ...................................... Salaries and Wages Expense............ Depreciation Expense ....................... Rent Expense ..................................... Supplies Expense ..............................
109,300
Income Summary ...................................... Retained Earnings .............................
80,700
Retained Earnings ..................................... Dividends ...........................................
26,300
Credit
190,000 91,100 13,200 3,600 1,400
80,700 26,300
EXERCISE 4.23 (Continued) (b) Retained Earnings Jan. 1 61,800 Dec. 31 26,300 Dec. 31 80,700 Bal. 116,200 LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.24 a. Mar. 31
Service Revenue ...................... 956,000 Interest Revenue ...................... 19,000 Income Summary ................ 975,000
31
Income Summary ..................... 674,000 Depreciation Expense ......... 50,000 Salaries Expense................. 561,000 Utilities Expense.................. 9,000 Insurance Expense.............. 12,000 Income Tax Expense ........... 42,000
31
Income Summary ..................... 301,000 Retained Earnings............... 301,000
31
Retained Earnings ................... Dividends .............................
21,000 21,000
(Income statement accounts are closed to the Income Summary account) b.
Beginning balance April 1, 2024 ............$ 88,000 Add: Net income ...................................... 301,000 389,000 Less: Dividends ...................................... 21,000 Ending balance March 31, 2025 ............. $368,000
LO 5 BT: AP Difficulty: Medium Time: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.25 Aug. 31 31 31 31 31 31
Accounts Receivable ................................... Service Revenue ..........................................
600
Supplies Expense................................................ Supplies........................................................
2,000
Insurance Expense .............................................. Prepaid Insurance ........................................
1,500
Depreciation Expense ......................................... Accumulated Depreciation—Equipment ....
1,200
Salaries and Wages Expense ............................. Salaries and Wages Payable .......................
1,100
Unearned Rent Revenue ..................................... Rent Revenue ...............................................
1,000
600 2,000 1,500 1,200 1,100
LO 2-4 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
1,000
EXERCISE 4.26 RYAN COMPANY Income Statement For the Year Ended August 31, 2025 Revenues Service revenue .................................................... Rent revenue ......................................................... Total revenues............................................... Expenses Salaries and wages expense................................ Rent expense ........................................................ Supplies expense.................................................. Insurance expense................................................ Depreciation expense ........................................... Total expenses .............................................. Net income ....................................................................
$34,600 13,100 $47,700 18,100 10,800 2,000 1,500 1,200 33,600 $14,100
(Tot. rev. – Tot. exp. = Net inc.) [($34,600 + $13,100) – ($18,100 + $10,800 + $2,000 + $1,500 + $1,200) = $14,100]
RYAN COMPANY Retained Earnings Statement For the Year Ended August 31, 2025 Retained earnings, September 1, 2024 .......................................... Add: Net income ............................................................................ Less: Dividends.............................................................................. Retained earnings, August 31, 2025 .............................................. (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($5,500 + $14,100 $2,800 = $16,800)
$ 5,500 14,100 19,600 2,800 $16,800
EXERCISE 4.26 (Continued) RYAN COMPANY Balance Sheet August 31, 2025 Assets Current assets Cash........................................................................ Accounts receivable.............................................. Supplies ................................................................. Prepaid insurance.................................................. Total current assets ....................................... Property, plant, & equipment Equipment .............................................................. Less: Accum. depreciation—equipment............... Total assets ....................................................
$10,900 9,400 500 2,500 $23,300 16,000 4,800
11,200 $34,500
Liabilities and Stockholders’ Equity Current liabilities Accounts payable .................................................. Salaries and wages payable ................................. Unearned rent revenue.......................................... Total current liabilities ................................... Stockholders’ equity Common stock....................................................... Retained earnings.................................................. Total stockholders’ equity ......................... Total liabilities and stockholders’ equity .....
$ 5,800 1,100 800 $ 7,700 10,000 16,800 26,800 $34,500
(Assets = Liabl. + SE) [(($10,900 + $9,400 + $500 + $2,500) + ($16,000 $4,800)) = (($5,800 + $1,100 + $800) + ($10,000 + $16,800))] LO 4 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 4.27 Aug. 31
31
31 31
Service Revenue ..................................... Rent Revenue.................................................. Income Summary ....................................
34,600 13,100
Income Summary............................................ Salaries and Wages Expense ................. Rent Expense .......................................... Supplies Expense ................................... Insurance Expense ................................. Depreciation Expense.............................
33,600
Income Summary............................................ Retained Earnings...................................
14,100
Retained Earnings .......................................... Dividends.................................................
2,800
47,700 18,100 10,800 2,000 1,500 1,200 14,100
LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
2,800
SOLUTIONS TO PROBLEMS PROBLEM 4.1 (a)
(b)
1. Cash ..................................................................... 19,000 Accounts Receivable .................................... 19,000 2. Unearned Sales Revenue ................................... 23,000 23,000 Sales Revenue............................................... 3. Cash ..................................................................... 44,000 44,000 Unearned Sales Revenue.............................. Unearned Sales Revenue ($44,000 – $20,000) ........................................... 24,000 Sales Revenue............................................... 24,000 4. Accounts Receivable .......................................... 151,000 151,000 Service Revenue............................................ 5. Cash ..................................................................... 136,000 136,000 Accounts Receivable ($151,000 – $15,000) ... Cash received with respect to fees and dues 1. Collection of 2024 dues $ 19,000 3. Sale of tickets 44,000 5. Collection of 2025 dues 136,000 $199,000
Cash 1. 19,000 3. 44,000 5. 136,000 2025 Bal. 199,000 Accounts Receivable 2024 Bal. 19,000 4. 151,000 1. 19,000 5. 136,000 2025 Bal. 15,000
2. 3.
Service Revenue 4. 151,000 2025 Bal.151,000 Sales Revenue 2. 23,000 3. 24,000 2025 Bal. 47,000
Unearned Sales Revenue 2024 Bal. 23,000 44,000 23,000 3. 24,000 2025 Bal. 20,000
LO 1-3 BT: AP Difficulty: Medium TOT: 30 min. AACSB Analytic AICPA AC: Reporting
PROBLEM 4.2 (a)
1.
Date 2025
Account Titles
Debit
June 30
Supplies Expense .................................... Supplies ($2,000 – $720) ..................
1,280
Utilities Expense ...................................... Accounts Payable ............................
180
Insurance Expense .................................. Prepaid Insurance ($2,880 ÷ 12 months) ....................
240
Unearned Service Revenue..................... Service Revenue...............................
4,100
Salaries and Wages Expense.................. Salaries and Wages Payable ...........
1,250
Depreciation Expense ............................. Accumulated Depreciation— Equipment.....................................
250
Accounts Receivable............................... Service Revenue...............................
3,900
2. 3.
4. 5. 6.
7.
30 30
30 30 30
30
Credit
1,280 180
240 4,100 1,250
250 3,900
(b)
6/30 Bal.
Cash 6,850
Accounts Receivable 6/30 Bal. 7,000 6/30 3,900 6/30 Bal. 10,900
6/30 Bal. 6/30 Bal.
Supplies 2,000 6/30 720
Prepaid Insurance 6/30 Bal. 2,880 6/30 6/30 Bal. 2,640
1,280
240
PROBLEM 4.2 (Continued) Equipment 6/30 Bal. 15,000 Accumulated Depreciation— Equipment 6/30 250 6/30 Bal. 250 Accounts Payable 6/30 Bal. 6/30 6/30
4,230 180 4,410
Salaries and Wages Payable 6/30 1,250 6/30 Bal. 1,250 Unearned Service Revenue 6/30 4,100 6/30 Bal. 5,200 6/30 Bal. 1,100 Common Stock 6/30 Bal. 22,000 Service Revenue 6/30 Bal. 8,300 6/30 4,100 6/30 3,900 6/30 Bal. 16,300
Salaries and Wages Expense 6/30 Bal. 4,000 6/30 1,250 6/30 Bal. 5,250 Rent Expense 6/30 Bal. 2,000 Depreciation Expense 6/30 250 6/30 Bal. 250 Insurance Expense 6/30 240 6/30 Bal. 240 Utilities Expense 6/30 180 6/30 Bal. 180 Supplies Expense 6/30 1,280 6/30 Bal. 1,280
PROBLEM 4.2 (Continued) (c)
KUMAR CONSULTING Adjusted Trial Balance June 30, 2025 Cash .................................................................... Accounts Receivable ......................................... Supplies.............................................................. Prepaid Insurance .............................................. Equipment .......................................................... Accumulated Depreciation—Equipment .......... Accounts Payable .............................................. Salaries and Wages Payable ............................. Unearned Service Revenue ............................... Common Stock................................................... Service Revenue ................................................ Salaries and Wages Expense ............................ Rent Expense ..................................................... Depreciation Expense........................................ Insurance Expense ............................................ Utilities Expense ................................................ Supplies Expense ..............................................
Debit $ 6,850 10,900 720 2,640 15,000
Credit
$
250 4,410 1,250 1,100 22,000 16,300
5,250 2,000 250 240 180 1,280 $45,310
$45,310
(Tot. debits = Tot. credits) [($6,850 + $10,900 + $720 + $2,640 + $15,000 + $5,250 + $2,000 + $250 + $240 + $180 + $1,280) = ($250 + $4,410 + $1,250 + $1,100 + $22,000 + $16,300)] LO 2-4 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 4.3 a. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
2025 Nov. 30 30 30 30 30 30 30 30 30 30
Insurance Expense ............................................... Prepaid Insurance ($7,320 ÷ 12 × 8) ............
4,880
Depreciation Expense .......................................... Accumulated Depreciation—Equipment
25,080
Supplies Expense ($965 – $300).......................... Supplies........................................................
665
Interest Expense ($54,000 × 7% × 1/12 months). Interest Payable ...........................................
315
Unearned Service Revenue.................................. Service Revenue ($1,400 × 10 tours) ..........
14,000
Salaries and Wages Expense .............................. Salaries and Wages Payable.......................
500
Accounts Receivable............................................ Service Revenue ..........................................
1,250
Advertising Expense ............................................ Accounts Payable ........................................
260
Rent Expense ........................................................ Prepaid Rent ($2,400 ÷ 2) ...........................
1,200
Income Tax Expense ............................................ Income Tax Payable.....................................
300
4,880 25,080 665 315 14,000 500 1,250 260 1,200 300
PROBLEM 4.3 (Continued)
Cash Nov. 30 Bal. 15,800
Accumulated Depreciation— Equipment Nov. 30 Bal. 50,160 Nov. 30 Adj. 25,080 Nov. 30 Bal. 75,240
Accounts Receivable Nov. 30 Bal. 7,640 Nov. 30 Adj. 1,250 Nov. 30 Bal. 8,890
Nov. 30 Bal. Nov. 30 Bal.
Supplies 965 Nov. 30 Adj. 300
Prepaid Rent 2,400 Nov. 30 Adj. Nov. 30 Bal. 1,200
Accounts Payable Nov. 30 Bal. Nov. 30 Adj. Nov. 30 Bal. 665
Notes Payable Nov. 30 Bal. 54,000
Nov. 30 Bal.
Prepaid Insurance Nov. 30 Bal. 7,320 Nov. 30 Adj. Nov. 30 Bal. 2,440 Equipment Nov. 30 Bal.153,840
1,925 260 2,185
1,200
Interest Payable Nov. 30 Adj. Salaries and Wages Payable Nov. 30 Adj.
4,880
315 500
PROBLEM 4.3 (Continued) b. (continued) Income Tax Payable Nov. 30 Adj.
300
Unearned Service Revenue Nov. 30 Bal. 14,000 Nov. 30 Adj. 14,000 Nov. 30 Bal. 0
Common Stock Nov. 30 Bal. 10,000 Retained Earnings Nov. 30 Bal. 27,225 Service Revenue Nov. 30 Bal. 130,575 Nov. 30 Adj. 14,000 Nov. 30 Adj. 1,250 Nov. 30 Bal. 145,825
Rent Expense Nov. 30 Bal 13,200 Nov. 30 Adj. 1,200 Nov. 30 Bal 14,400 Interest Expense Nov. 30 Bal 3,465 Nov. 30 Adj. 315 Nov. 30 Bal 3,780 Advertising Expense Nov. 30 Bal. 825 Nov. 30 Adj. 260 Nov. 30 Bal 1,085 Depreciation Expense Nov. 30 Adj. 50,160 Supplies Expense Nov. 30 Adj. 665
Salaries and Wages Expense Nov. 30 Bal. 69,560 Nov. 30 Adj. 500 Nov. 30 Bal. 70,060
Insurance Expense Nov. 30 Adj. 4,880
Maintenance and Repairs Expense Nov. 30 Bal. 11,170
Income Tax Expense Nov. 30 Bal 1,700 Nov. 30 Adj. 300 Nov. 30 Bal. 2,000
PROBLEM 4.3 (Continued) c. WOLASTOQ TOURS INC. Adjusted Trial Balance November 30, 2025
Cash ........................................................................... Accounts Receivable ................................................ Supplies ..................................................................... Prepaid Rent .............................................................. Prepaid Insurance ..................................................... Equipment.................................................................. Accumulated Depreciation—Equipment ................. Accounts Payable ..................................................... Salaries and Wages Payable .................................... Interest Payable......................................................... Income Tax Payable .................................................. Notes Payable, due 2028 .......................................... Common Stock .......................................................... Retained Earnings..................................................... Service Revenue........................................................ Salaries and Wages Expense ................................... Depreciation Expense ............................................... Rent Expense............................................................. Maintenance and Repairs Expense ......................... Insurance Expense.................................................... Supplies Expense...................................................... Advertising Expense ................................................. Interest Expense........................................................ Income Tax Expense ................................................. Totals ......................................................................
Debit $ 15,800 8,890 300 1,200 2,440 153,840
Credi t
$75,240 2,185 500 315 300 54,000 10,000 27,225 145,825 70,060 25,080 14,400 11,170 4,880 665 1,085 3,780 2,000 $315,590
(Total debits = Total credits) LO 2,3,4 BT: AP Difficulty: Medium Time: 60 min. AACSB: Analytic AICPA AC: Reporting
$315,590
PROBLEM 4.4
(a) 1. May 31 2. 3.
31 31
31
4.
5. 6.
31
31 31
Insurance Expense ................................. Prepaid Insurance ...........................
450
Supplies Expense ................................... Supplies ($2,600 – $1,050) ..............
1,550
Depreciation Expense ($3,600 x 1/12) ..................................... Accumulated Depreciation— Building........................................ Depreciation Expense ($3,000 x 1/12) ..................................... Accumulated Depreciation— Equipment ...................................
450 1,550 300 300
250 250
Interest Expense ..................................... Interest Payable [($36,000 x 6%) x 1/12] ................
180
Unearned Rent Revenue ........................ Rent Revenue ..................................
2,500
Salaries and Wages Expense................. Salaries and Wages Payable ..........
900
180 2,500 900
(b)
5/31 Bal.
Cash 2,500
Prepaid Insurance 5/31 Bal. 1,800 5/31 5/31 Bal. 1,350
5/31 Bal. 5/31 Bal.
Supplies 2,600 5/31 1,050
Land 5/31 Bal. 15,000
1,550
450
PROBLEM 4.4 (Continued) Building 5/31 Bal. 70,000
Notes Payable 5/31 Bal. 36,000
Accumulated Depreciation— Building 5/31 300 5/31 Bal. 300
Rent Revenue 5/31 Bal. 9,000 5/31 2,500 5/31 Bal. 11,500
Equipment 5/31 Bal. 16,800 Accumulated Depreciation— Equipment 5/31 250 5/31 Bal. 250
Accounts Payable 5/31 Bal.
4,700
Unearned Rent Revenue 5/31 2,500 5/31 Bal. 3,300 5/31 Bal. 800
Salaries and Wages Payable 5/31 900 5/31 Bal. 900
Interest Payable 5/31 5/31 Bal.
Common Stock 5/31 Bal. 60,000
180 180
Salaries and Wages Expense 5/31 Bal. 3,000 5/31 900 5/31 Bal. 3,900
Utilities Expense 5/31 Bal. 800 Advertising Expense 5/31 Bal. 500 Interest Expense 5/31 180 5/31 Bal. 180
Insurance Expense 5/31 450 5/31 Bal. 450
PROBLEM 4.4 (Continued) Supplies Expense 5/31 1,550 5/31 Bal. 1,550
Depreciation Expense 5/31 300 5/31 250 5/31 Bal. 550
MOTO HOTEL Adjusted Trial Balance May 31, 2025
(c)
Cash................................................................. Supplies........................................................... Prepaid Insurance........................................... Land ................................................................. Building ........................................................... Accumulated Depreciation—Building ........... Equipment ....................................................... Accumulated Depreciation—Equipment ....... Accounts Payable ........................................... Unearned Rent Revenue................................. Salaries and Wages Payable .......................... Interest Payable .............................................. Notes Payable ................................................. Common Stock ............................................... Rent Revenue.................................................. Salaries and Wages Expense......................... Utilities Expense ............................................. Advertising Expense ...................................... Interest Expense ............................................. Insurance Expense ......................................... Supplies Expense ........................................... Depreciation Expense ....................................
Debit $ 2,500 1,050 1,350 15,000 70,000
Credit
$
300
16,800 250 4,700 800 900 180 36,000 60,000 11,500 3,900 800 500 180 450 1,550 550 $114,630
$114,630
(Total debits = Total credits) [($2,500 + $1,050 + $1,350 + $15,000 + $70,000 + $16,800 + $3,900 + $800 + $500 + $180 + $450 + $1,550 + $550) = ($300 + $250 + $4,700 + $800 + $900 + $180 + $36,000 + $60,000 + $11,500)]
PROBLEM 4.4 (Continued) (d) (i)
MOTO HOTEL Income Statement For the Month Ended May 31, 2025
Revenues Rent revenue .................................................. Expenses Salaries and wages expense ......................... Supplies expense ........................................... Utilities expense ............................................. Depreciation expense .................................... Advertising expense ...................................... Insurance expense ......................................... Interest expense ............................................. Total expenses........................................ Net income .............................................................
$11,500 $3,900 1,550 800 550 500 450 180 7,930 $ 3,570
(Rent rev. – Tot. exp. = Net inc.) [$11,500 – ($3,900 + $1,550 + $800 + $550 + $500 + $450 + $180) = $3,570]
(ii)
MOTO HOTEL Retained Earnings Statement For the Month Ended May 31, 2025
Retained earnings, May 1 ...................................... Add: Net income .................................................. Retained earnings, May 31 .................................... (Beg. ret. earn. + Net inc. = End. ret. earn.) ($0 + $3,570 = $3,570)
$
0 3,570 $3,570
PROBLEM 4.4 (Continued) (d) (iii)
MOTO HOTEL Balance Sheet May 31, 2025 Assets
Current assets Cash................................................... Supplies ............................................ Prepaid insurance ............................ Total current assets.................. Property, plant, and equipment Land................................................... Building ............................................. Less: Accumulated deprec.—building .......................... Equipment ......................................... Less: Accumulated deprec.—equipment ...................... Total assets...............................
$ 2,500 1,050 1,350 $
4,900 15,000
$70,000 300 16,800
69,700
250
16,550
101,250 $106,150
Liabilities and Stockholders’ Equity Current liabilities Notes payable ................................................. Accounts payable........................................... Salaries and wages payable .......................... Unearned rent revenue .................................. Interest payable .............................................. Total current liabilities............................ Stockholders’ equity Common stock ............................................... Retained earnings .......................................... Total stockholders’ equity............... Total liabilities and stockholders’ equity ...................................................
$36,000 4,700 900 800 180 $
42,580
60,000 3,570 63,570 $106,150
[(Current assets + Prop., plant & equip.) = ((Current liabl. + Long-term liabl) + SE)] [($2,500 + $1,050 + $1,350) + ($15,000 + ($70,000 $300) + ($16,800 $250)) = (($4,700 + $900 + $800 + $180) + $36,000) + ($60,000 + $3,570)]
PROBLEM 4.4 (Continued) (e) The following accounts would be closed: Rent Revenue, Salaries and Wages Expense, Utilities Expense, Advertising Expense, Interest Expense, Insurance Expense, Supplies Expense, Depreciation Expense. LO 2-4 BT: AP Difficulty: Hard TOT: 60 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 4.5 (a)
Sept. 30 30 30 30 30 30 30
(b)
Accounts Receivable .................................... Service Revenue....................................
600
Rent Expense ................................................ Prepaid Rent ..........................................
900
Supplies Expense ......................................... Supplies .................................................
1,020
Depreciation Expense................................... Accum. Depreciation—Equipment .......
350
Interest Expense ........................................... Interest Payable.....................................
50
Unearned Rent Revenue............................... Rent Revenue ........................................
200
Salaries and Wages Expense....................... Salaries and Wages Payable ................
600
600 900 1,020 350 50 200 600
SALT CREEK GOLF INC. Income Statement For the Quarter Ended September 30, 2025 Revenues Service revenue............................................... Rent revenue ................................................... Total revenues ......................................... Expenses Salaries and wages expense .......................... Rent expense................................................... Supplies expense............................................ Utilities expense.............................................. Depreciation expense ..................................... Interest expense.............................................. Total expenses......................................... Net income ..............................................................
(Tot. rev. – Tot. exp. = Net inc.) [($14,700 + $900) – ($9,400 + $1,800 + $1,020 + $470 + $350 + $50) = $2,510]
$14,700 900 $15,600 9,400 1,800 1,020 470 350 50 13,090 $ 2,510
PROBLEM 4.5 (Continued) SALT CREEK GOLF INC. Retained Earnings Statement For the Quarter Ended September 30, 2025 Retained earnings, July 1, 2025 ................................................ Add: Net income ...................................................................... Less: Dividends ........................................................................ Retained earnings, September 30, 2025...................................
$
0 2,510 2,510 600 $1,910
(Beg. ret. earn. + Net inc. – Div. = End. ret.earn.) ($0 + $2,510 $600 = $1,910)
SALT CREEK GOLF INC. Balance Sheet September 30, 2025 Assets Current assets Cash ............................................................... Accounts receivable ..................................... Supplies ......................................................... Prepaid rent ................................................... Total current assets............................... Property, Pplant and equipment Equipment...................................................... Less: Accumulated depreciation— equipment .......................................... Total assets............................................
$ 6,700 1,000 180 900 $ 8,780 15,000 350
14,650 $23,430
Liabilities and Stockholders’ Equity Current liabilities Notes payable................................................ Accounts payable.......................................... Unearned rent revenue ................................. Salaries and wages payable ......................... Interest payable ............................................. Total current liabilities........................... Stockholders’ equity Common stock .............................................. Retained earnings ......................................... Total stockholders’ equity ................. Total liabilities and stockholders’ equity ..................................................
$ 5,000 1,070 800 600 50 $ 7,520 14,000 1,910 15,910 $23,430
PROBLEM 4.5 (Continued) [(Current assets + Prop., plant & equip.) = (Current liabl. + SE)] [(($6,700 + $1,000 + $180 + $900) + ($15,000 $350)) = (($5,000 + $1,070 + $800 + $600 + $50) + ($14,000 + $1,910))]
(c) The following accounts would be closed: Service Revenue, Rent Revenue, Salaries and Wages Expense, Rent Expense, Utilities Expense, Depreciation Expense, Supplies Expense, Interest Expense, Dividends. (d) Interest of 12% per year equals a monthly rate of 1%; monthly interest is $50 ($5,000 x 1%). Since total interest payable is $50, the note has been outstanding one month. LO 2-4 BT: AP Difficulty: Hard TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 4.6
1.
Dec. 31
Insurance Expense ....................................... Prepaid Insurance ................................. [($9,600 ÷ 3) = $3,200 ($7,200 x 12/18) = 4,800 $8,000]
8,000 8,000
2.
Dec. 31
Unearned Rent Revenue ...................................84,000 Rent Revenue ........................................ 84,000 [ Nov. 5 x $5,000 x 2 = 50,000 Dec. 4 x $8,500 x 1 = 34,000 $84,000]
3.
Dec. 31
Interest Expense ........................................... Interest Payable ($40,000 x 7% x 3/12)..........................
700
Salaries and Wages Expense ...................... Salaries and Wages Payable ................ [5 x $600 x 3/5 = $1,800 3 x $700 x 3/5 = 1,260 $3,060]
3,060
4.
Dec. 31
700
LO 2, 3 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
3,060
PROBLEM 4.7
(a) 1. June 2. 3.
4.
5.
6.
7.
30 30 30
30
30
30
30
Rent Revenue ................................... Unearned Rent Revenue ........
57,000
Supplies Expense............................. Supplies ($8,200 – $1,800)......
6,400
57,000 6,400
Insurance Expense ($14,400 x 3/12) .............................. Prepaid Insurance...................
3,600
Maintenance and Repairs Expense ........................... Utilities Expense............................... Advertising Expense ........................ Accounts Payable...................
4,450 215 110
Salaries and Wages Expense ($300 x 4)........................................ Salaries and Wages Payable ................................. Interest Expense ($14,000 x 6% x 2/12) ..................... Interest Payable ..................... Income Tax Expense ........................ Income Taxes Payable ...........
3,600
4,775 1,200 1,200 140 140 13,400 13,400
PROBLEM 4.7(Continued) (b)
ROADSIDE TRAVEL COURT Income Statement For the Quarter Ended June 30, 2025 Revenues Rent revenue ($212,000 – $57,000) ...................... $155,000 Expenses Salaries and wages expense ($80,500 + $1,200)............................................... $ 81,700 Income tax expense .............................................. 13,400 Maintenance and repairs expense ($4,300 + $4,450)................................................. 8,750 Supplies expense.................................................. 6,400 Advertising expense ($3,800 + $110) ................... 3,910 Insurance expense................................................ 3,600 Depreciation expense ........................................... 2,700 Utilities expense ($900 + $215)............................. 1,115 Interest expense.................................................... 140 Total expenses ...................................................... 121,715 Net income............................................................. $ 33,285
(Correct rent rev. – Correct tot. exp. = Correct net inc.) [($212,000 $57,000) – (($80,500 + $1,200) + $13,400 + ($4,300 + $4,450) + $6,400 +($3,800 + $110) + $3,600 + $2,700 + ($900 + $215) + $140) = $33,285]
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PROBLEM 4.7 (Continued) (c)
The generally accepted accounting principles pertaining to the income statement not recognized by Betty were the revenue recognition principle and the expense recognition principle. The revenue recognition principle states that revenue is recognized when the performance obligation is satisfied. The performance obligation of $57,000 for summer rentals has not been satisfied and, therefore, should not be reported as revenue for the quarter ended June 30. The expense recognition principle dictates that efforts (expenses) be matched with accomplishments (revenue) whenever it is reasonable and practicable to do so. This means that the expenses should include amounts incurred in June but not paid until July, and any other costs related to the operations of the business during the period April–June. The difference in reported expenses was $29,515 ($121,715 – $92,200). The overstatement of revenues ($57,000) plus the understatement of expenses ($29,515) equals the difference in reported income of $86,515 ($119,800 – $33,285).
LO 2, 3 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM 4.8
(a) , (c) & (e)
Cash 11/1 Bal. 2,790 11/8 11/10 1,800 11/20 11/12 3,700 11/22 11/29 750 11/25 11/30 Bal. 3,840
1,220 2,500 480 1,000
Accounts Receivable 11/1 Bal. 2,910 11/10 1,800 11/27 900 11/30 Bal. 2,010
Supplies 11/1 Bal. 1,120 11/30 11/17 1,300 11/30 Bal. 1,100
1,320
Equipment 11/1 Bal. 10,000 11/15 3,600 11/30 Bal. 13,600
Accumulated Depreciation— Equipment 11/1 Bal. 500 11/30 250 11/30 Bal. 750
11/20
11/30
Accounts Payable 2,500 11/1 Bal. 2,300 11/15 3,600 11/17 1,300 11/30 Bal. 4,700
Unearned Service Revenue 500 11/1 Bal. 11/29 11/30 Bal.
400 750 650
Salaries and Wages Payable 11/8 620 11/1 Bal. 620 11/30 480 11/30 Bal. 480
Common Stock 11/1 Bal. 10,000 11/30 Bal. 10,000
Retained Earnings 11/1 Bal. 3,000 11/30 Bal. 3,000
PROBLEM 4.8 (Continued) Service Revenue 11/12 3,700 11/27 900 11/30 500 11/30 Bal. 5,100
Depreciation Expense 11/30 250 11/30 Bal. 250
Supplies Expense 11/30 1,320 11/30 Bal. 1,320
Salaries and Wages Expense 11/8 600 11/25 1,000 11/30 480 11/30 Bal. 2,080
Rent Expense 11/22 480 11/30 Bal. 480
PROBLEM 4.8 (Continued) (b) General Journal Date Nov. 8
10 12 15 17 20 22 25 27 29
Account Titles Salaries and Wages Payable ........................ Salaries and Wages Expense ....................... Cash........................................................
Debit 620 600
Cash ............................................................... Accounts Receivable.............................
1,800
Cash ............................................................... Service Revenue ....................................
3,700
Equipment...................................................... Accounts Payable..................................
3,600
Supplies ......................................................... Accounts Payable..................................
1,300
Accounts Payable ......................................... Cash........................................................
2,500
Rent Expense ................................................ Cash........................................................
480
Salaries and Wages Expense ....................... Cash........................................................
1,000
Accounts Receivable .................................... Service Revenue ....................................
900
Cash ............................................................... Unearned Service Revenue...................
750
Credit
1,220
1,800 3,700 3,600 1,300 2,500 480 1,000 900 750
PROBLEM 4.8 (Continued) (d) & (f)
SOHO EQUIPMENT REPAIR Trial Balances November 30, 2025
Cash............................................ Accounts Receivable................. Supplies...................................... Equipment .................................. Accumulated Depreciation— Equipment ............................... Accounts Payable ...................... Unearned Service Revenue....... Salaries and Wages Payable..... Common Stock .......................... Retained Earnings ..................... Service Revenue ........................ Depreciation Expense ............... Supplies Expense ..................... Salaries and Wages Expense ... Rent Expense .............................
Before Adjustment Dr. Cr. $ 3,840 2,010 2,420 13,600 $
500 4,700 1,150
After Adjustment Dr. Cr. $ 3,840 2,010 1,100 13,600 $
10,000 3,000 4,600
750 4,700 650 480 10,000 3,000 5,100
1,600 480 $23,950 $23,950
250 1,320 2,080 480 $24,680 $24,680
PROBLEM 4.8 (Continued) (e)
1. Supplies Expense ................................... Supplies ($2,420 – $1,100)......................
1,320
2. Salaries and Wages Expense ........................ Salaries and Wages Payable..................
480
3. Depreciation Expense .................................... Accumulated Depreciation-Equipment .
250
4. Unearned Service Revenue ........................... Service Revenue .....................................
500
Nov. 30
30
30
30
(g)
1,320
480
250
500
SOHO EQUIPMENT REPAIR Income Statement For the Month Ended November 30, 2025 Revenues Service revenue.............................................. Expenses Salaries and wages expense ......................... Supplies expense ........................................... Rent expense.................................................. Depreciation expense .................................... Total expenses........................................ Net income .............................................................
$5,100 $2,080 1,320 480 250 4,130 $ 970
(Serv. rev. – Tot. exp. = Net inc.) [$5,100 – ($2,080 + $1,320 + $480 + $250) = $970]
SOHO EQUIPMENT REPAIR Retained Earnings Statement For the Month Ended November 30, 2025 Retained earnings, November 1............................ Add: Net income .................................................... Retained earnings, November 30.......................... (Beg. ret. earn. + Net inc. = End. ret. earn.) ($3,000 + $970 = $3,970)
$3,000 970 $3,970
PROBLEM 4.8 (Continued)
SOHO EQUIPMENT REPAIR Balance Sheet November 30, 2025 Assets Current assets Cash ................................................................... $ 3,840 Accounts receivable ......................................... 2,010 Supplies ................................................................. 1,100 Total current assets .................................. Property, plant and equipment Equipment ......................................................... 13,600 Less: Accumulated depreciation— equipment .............................................. 750 Total assets................................................
$ 6,950
12,850 $19,800
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................................. $ 4,700 Unearned service revenue................................ 650 Salaries and wages payable ................................. 480 Total current liabilities .............................. Stockholders’ equity Common stock .................................................. 10,000 Retained earnings ................................................. 3,970 Total stockholders’ equity .................... Total liabilities and stockholders’ equity....................................................... [(Current assets + Prop., plant & equip.) = (Current liabl. + SE)] [(($3,840 + $2,010 + $1,100) + ($13,600 $750)) = (($4,700 + $650 + $480) + ($10,000 + $3,970))] LO 2-4 BT: AP Difficulty: Hard TOT: 70 min. AACSB: Analytic AICPA AC: Reporting
$ 5,830
13,970 $19,800
CC4
CONTINUING CASE: COOKIE CREATIONS
(a) Date Dec.
1 5
8 9 15 16 19 23
23 23 28
General Journal Account Titles No journal entry required.
Debit
Cash ................................................................ Unearned Service Revenue ........................... Service Revenue......................................
90 60
Cash ................................................................ Accounts Receivable...............................
300
Cash ................................................................ Unearned Service Revenue.....................
750
Accounts Payable .......................................... Cash .........................................................
50
Accounts Payable .......................................... Cash .........................................................
600
Cash ................................................................ Unearned Service Revenue.....................
60
Cash ................................................................ Accounts Receivable ..................................... Service Revenue......................................
3,000 1,000
Supplies .......................................................... Cash .........................................................
1,250
Salaries and Wages Expense ........................ Cash .........................................................
800
Dividends ........................................................ Cash .........................................................
500
Credit
150
300 750 50 600 60
4,000 1,250 800 500
CC 4 (Continued) (d) Date
Account Titles
(1) Dec. 31 (2) 31
(3) 31 (4) 31 (5) 31 (6) 31 (7) 31 (8) 31 (9) 31 (10) 31
Debit
Supplies Expense ............................................ Supplies .....................................................
45
Depreciation Expense ..................................... Accumulated Depreciation— Equipment...............................................
40
Amortization Expense...................................... Website ......................................................
25
Interest Expense ($2,000 x .09 x 1.5/12) .......... Interest Payable.........................................
23
Insurance Expense ($1,200 ÷ 12) .................... Prepaid Insurance .....................................
100
Accounts Receivable ....................................... Service Revenue........................................
450
Supplies Expense ............................................ Supplies .....................................................
1,025
Utilities Expense .............................................. Accounts Payable .....................................
75
Salaries and Wages Expense ($8 x 7)............. Salaries and Wages Payable ....................
56
Unearned Service Revenue ($750 x 3/5) ......... Service Revenue........................................
450
Credit
45
40
25
23
100
450
1,025
75
56
450
CC 4 (Continued) (b), (d), (g) Cash (b), (d), and (g) 11/30 Bal. 340 12/15 12/5 90 12/16 12/8 300 12/23 12/9 750 12/23 12/19 60 12/28 12/23 3,000 12/31 Bal. 1,340 Accounts Receivable 11/30 Bal. 300 12/8 12/23 1,000 12/31 450 12/31 Bal. 1,450 Supplies 11/30 Bal. 220 12/31 12/23 1,250 12/31 12/31 Bal. 400 Prepaid Insurance 11/30 Bal. 1,200 12/31 12/31 Bal. 1,100
50 600 1,250 800 500
300
45 1,025
Interest Payable 12/31 12/31 Bal.
23 23
Salaries and Wages Payable 12/31 56 12/31 Bal. 56 Unearned Service Revenue 12/5 60 11/30 Bal. 60 12/9 750 12/31 450 12/19 60 12/31 Bal. 360
100
Common Stock 11/30 Bal. 12/31 Bal. 12/31
Accumulated Depreciation 12/31 40 12/31 Bal. 40
11/30 Bal. 12/31 Bal.
650 75 75
Notes Payable 11/30 Bal. 2,000 12/31 Bal. 2,000
Equipment 11/30 Bal. 1,200 12/31 Bal. 1,200
Website 600 12/31 575
12/15 12/16
Accounts Payable 50 11/30 Bal. 600 12/31 12/31 Bal.
25
800 800
Retained Earnings 500 12/31 Bal. 3,211 12/31 Bal. 2,711
COOKIE CREATIONS 4 (Continued) CC 4 (Continued)
12/28 12/31 Bal.
12/31
Dividends 500 12/31 Bal. 0
500
Service Revenue 11/30 Bal. 400 12/5 150 12/23 4,000 12/31 450 5,450 12/31 450 12/31 Bal. 0
Utilities Expense 11/30 Bal. 50 12/31 75 12/31 12/313 Bal. 0
125
Salaries and Wages Expense 12/23 800 12/31 56 12/31 856 12/31 Bal. 0 Depreciation Expense 12/31 Bal. 40 12/31 12/31 Bal. 0
40
Interest Expense 12/31 23 12/31 12/31 Bal. 0
23
Insurance Expense 12/31 100 12/31 12/31 Bal. 0
100
Amortization Expense 12/31 25 12/31 12/31 Bal. 0
25
Supplies Expense 12/31 45 12/31 1,070 12/31 1,025 12/31 Bal. 0 12/31 12/31
Income Summary 2,239 12/31 3,211 12/31 Bal.
5,450 0
CC 4 (Continued) (c) COOKIE CREATIONS INC. Trial Balance December 31, 2025 Debit Cash .................................................................... Accounts Receivable ......................................... Supplies .............................................................. Prepaid Insurance .............................................. Equipment........................................................... Website ............................................................... Unearned Service Revenue ............................... Notes Payable..................................................... Common Stock ................................................... Dividends ............................................................ Service Revenue................................................. Utilities Expense................................................. Salaries and Wages Expense ............................
Credit
$1,340 1,000 1,470 1,200 1,200 600 810 2,000 800 500 4,550 50 800 $8,160
$8,160
CC 4 (Continued) (e)
COOKIE CREATIONS INC. Adjusted Trial Balance December 31, 2025 Cash .................................................................... Accounts Receivable ......................................... Supplies .............................................................. Prepaid Insurance .............................................. Equipment .......................................................... Accumulated Depreciation—Equipment .......... Website ............................................................... Accounts Payable .............................................. Interest Payable.................................................. Salaries and Wages Payable ............................. Unearned Service Revenue ............................... Notes Payable..................................................... Common Stock................................................... Dividends............................................................ Service Revenue ................................................ Utilities Expense ................................................ Salaries and Wages Expense ............................ Supplies Expense .............................................. Depreciation Expense........................................ Amortization Expense........................................ Interest Expense ................................................ Insurance Expense ............................................
Debit $1,340 1,450 400 1,100 1,200
Credit
$
40
575 75 23 56 360 2,000 800 500 5,450 125 856 1,070 40 25 23 100 $8,804
$8,804
CC 4 (Continued) (f)
COOKIE CREATIONS INC. Income Statement For the Two Months Ended December 31, 2025 Revenues Service revenue......................................... Operating expenses Supplies expense ...................................... Salaries and wages expense .................... Utilities expense ........................................ Insurance expense .................................... Depreciation expense ............................... Amortization expense ............................... Interest expense ........................................ Total operating expenses ................ Net income.......................................................... $3,211
$5,450 $1,070 856 125 100 40 25 23 2,239
(Ser. rev. – sup. exp. – sal./wage exp. – util. exp. – ins. exp. – dep. exp. – amort. exp. – int. exp.)
COOKIE CREATIONS INC. Retained Earnings Statement For the Two Months Ended December 31, 2025 Retained earnings, November 1 ............................................ Add: Net income.................................................................... Less: Dividends..................................................................... Retained earnings, December 31 ..........................................
(Beg. R/E + net inc. – div. = End. R/E)
$
0 3,211 3,211 500 $2,711
CC 4 (Continued) COOKIE CREATIONS INC. Balance Sheet December 31, 2025 Assets Current assets Cash ........................................................... Accounts receivable ................................. Supplies ..................................................... Prepaid insurance ..................................... Total current assets ......................... Property, plant and equipment Equipment ................................................. Less: Accumulated depr.—equip............ Intangible assets Website ...................................................... Total assets ........................................................
$1,340 1,450 400 1,100 $4,290* 1,200 40
1,160 575 $6,025
*(Cash + acc. rec. + sup. + prep. ins.)
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ..................................... $ 75 Unearned service revenue........................ 360 Salaries and wages payable..................... 56 Total current liabilities..................... Long-term liabilities Notes payable............................................ 2,000 Interest payable......................................... 23 Total liabilities .................................. Stockholders’ equity Common stock .......................................... 800 Retained earnings ..................................... 2,711 Total stockholders’ equity............... Total liabilities and stockholders’ equity ............................................. *(Acc. pay. + un. serv. rev. + sal./wage pay.)
$ 491* 2,023 2,514
3,511 $6,025
CC 4 (Continued) (g)
31 31
31 31 (h)
Service Revenue .............................................. Income Summary ....................................
5,450
Income Summary ............................................. Supplies Expense ................................... Salaries and Wages Expense ................. Utilities Expense ..................................... Insurance Expense ................................. Depreciation Expense............................. Amortization Expense............................. Interest Expense .....................................
2,239
Income Summary ............................................. Retained Earnings...................................
3,211
Retained Earnings............................................ Dividends.................................................
500
5,450 1,070 856 125 100 40 25 23 3,211 500
COOKIE CREATIONS INC. Post-Closing Trial Balance December 31, 2025 Debit Cash ........................................................................... Accounts Receivable ................................................ Supplies ..................................................................... Prepaid Insurance ..................................................... Equipment.................................................................. Accumulated Depr.—Equip. ..................................... Website ...................................................................... Accounts Payable ..................................................... Interest Payable......................................................... Salaries and Wages Payable .................................... Unearned Service Revenue ...................................... Notes Payable............................................................ Common Stock .......................................................... Retained Earnings .....................................................
Credit
$1,340 1,450 400 1,100 1,200 $
40
575
$6,065
75 23 56 360 2,000 800 2,711 $6,065
ACR4.1
ACCOUNTING CYCLE REVIEW 4.1
(a)
General Journal Date July 1
1
3 5 12 18 20 21 25 31 31
Account Titles Cash ................................................................ Common Stock........................................
Debit 12,000
Equipment....................................................... Accounts Payable ................................... Cash .........................................................
8,000
Supplies .......................................................... Accounts Payable ...................................
900
Prepaid Insurance .......................................... Cash .........................................................
1,800
Accounts Receivable...................................... Service Revenue .....................................
3,700
Accounts Payable........................................... Cash .........................................................
1,500
Salaries and Wages Expense ........................ Cash .........................................................
2,000
Cash ................................................................ Accounts Receivable ..............................
1,600
Accounts Receivable...................................... Service Revenue .....................................
2,500
Maintenance and Repairs Expense ............... Cash .........................................................
290
Dividends ........................................................ Cash .........................................................
600
Credit 12,000 6,000 2,000 900 1,800 3,700 1,500 2,000 1,600 2,500 290 600
ACR 4.1 (Continued) (b) , (e) & (h)
Cash 7/1 12,000 7/1 7/21 1,600 7/5 7/18 7/20 7/31 7/31 7/31 Bal. 5,410
2,000 1,800 1,500 2,000 290 600
7/18
Accounts Payable 1,500 7/1 7/3 7/31 Bal.
Salaries and Wages Payable 7/31 400 7/31 Bal. 400
Accounts Receivable 7/12 3,700 7/21 1,600 7/25 2,500 7/31 1,700 7/31 Bal. 6,300
7/3 7/31 Bal.
Supplies 900 7/31 320
Prepaid Insurance 7/5 1,800 7/31 7/31 Bal. 1,650
7/1 7/31 Bal.
6,000 900 5,400
Common Stock 7/1 12,000 7/31 Bal. 12,000
580
Retained Earnings 600 7/31 7/31 Bal.
4,300 3,700
150
Dividends 600 600 7/31
600
7/31 7/31
Income Summary 3,600 7/31 4,300 7/31 Bal.
7,900 4,300
7/31
Service Revenue 7/12 7/25 7/31 7,900 7/31 Bal.
3,700 2,500 1,700 7,900
7/31
Equipment 8,000 8,000
Accumulated Depreciation— Equipment 7/31 180 7/31 Bal. 180
7/31 7/31 Bal.
ACR 4.1 (Continued) Maintenance and Repairs Expense 7/31 290 7/31 Bal. 290 7/31 290
Supplies Expense 7/31 580 7/31 Bal. 580 7/31
580
Depreciation Expense 7/31 180 7/31 Bal. 180 7/31
180
Insurance Expense 7/31 150 7/31 Bal. 150 7/31
150
Salaries and Wages Expense 7/20 2,000 7/31 400 7/31 Bal. 2,400 7/31 2,400
ACR 4.1 (Continued) (c) & (f)
KLEENE WINDOW WASHING INC. Trial Balance July 31, 2025
Cash ................................................... Accounts Receivable ........................ Supplies ............................................. Prepaid Insurance ............................. Equipment.......................................... Accumulated Depreciation— Equipment...................................... Accounts Payable ............................. Salaries and Wages Payable ............ Common Stock .................................. Dividends ........................................... Service Revenue................................ Maintenance and Repairs Expense.. Supplies Expense.............................. Depreciation Expense ....................... Insurance Expense............................ Salaries and Wages Expense ...........
Before Adjustment Debit Credit $ 5,410 4,600 900 1,800 8,000
After Adjustment Debit Credit $ 5,410 6,300 320 1,650 8,000 $
180 5,400 400 12,000
$ 5,400 12,000 600
600 6,200
7,900
2,000 $23,600 $23,600
290 580 180 150 2,400 $25,880 $25,880
290
(Before adjust.: Tot. debits = Tot. credits) [($5,410 + $4,600 + $900 + $1,800 + $8,000 + $600 + $290 + $2,000) = ($5,400 + $12,000 + $6,200)] (After adjust.: Tot. debits = Tot. credits) [($5,410 + $6,300 + $320 + $1,650 + $8,000 + $600 + $290 + $580 + $180 + $150 + $2,400) = ($180 + $5,400 + $400 + $12,000 + $7,900)]
ACR 4.1 (Continued) (d)
General Journal Date 1. July 31 2. 3. 4. 5.
(g)
31 31 31 31
Account Titles Accounts Receivable....................................... Service Revenue ........................................
Debit 1,700
Depreciation Expense ..................................... Accumulated Depreciation—Equipment ....
180
Insurance Expense ($1,800 x 1/12) ................. Prepaid Insurance......................................
150
Supplies Expense ($900 – $320) ..................... Supplies......................................................
580
Salaries and Wages Expense.......................... Salaries and Wages Payable.....................
400
Credit 1,700 180 150 580 400
KLEENE WINDOW WASHING INC. Income Statement For the Month Ended July 31, 2025 Revenues Service revenue................................................ Expenses Salaries and wages expense ........................... Supplies expense............................................. Maintenance and repairs expense .................. Depreciation expense ...................................... Insurance expense........................................... Total expenses.......................................... Net income ...............................................................
(Serv. rev – Tot. exp. = Net inc.) [$7,900 – ($2,400 + $580 + $290 + $180 + $150) = $4,300]
$7,900 $2,400 580 290 180 150 3,600 $4,300
ACR 4.1 (Continued) (g)
KLEENE WINDOW WASHING INC. Retained Earnings Statement For the Month Ended July 31, 2025 Retained earnings, July 1...................................... Add: Net income ..................................................
$
0 4,300 4,300 600 $3,700
Less: Dividends ................................................... Retained earnings, July 31................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($0 + $4,300 $600 = $3,700)
KLEENE WINDOW WASHING INC. Balance Sheet July 31, 2025 Assets Current assets Cash ................................................................ $ Accounts receivable ...................................... Supplies .......................................................... Prepaid insurance .......................................... Total current assets................................ Property, plant, and equipment Equipment....................................................... Less: Accumulated depreciation ................. Total assets.............................................
5,410 6,300 320 1,650 $13,680 8,000 180
7,820 $21,500
Liabilities and Stockholders’ Equity Current liabilities Accounts payable........................................... Salaries and wages payable .......................... Total current liabilities............................ Stockholders’ equity Common stock ............................................... Retained earnings .......................................... Total stockholders’ equity................. Total liabilities and stockholders’ equity ...................................................
$ 5,400 400 $ 5,800 12,000 3,700 15,700 $21,500
ACR 4.1 (Continued) [(Current assets + Prop., plant & equip.) = (Current liabl. + SE)] [(($5,410 + $6,300 + $320 + $1,650) + ($8,000 $180)) = (($5,400 + $400) + ($12,000 + $3,700))]
(h) Date July 31 31
31 31
(i)
General Journal Account Titles and Explanation Service Revenue............................................. Income Summary ....................................
Debit 7,900
Credit 7,900
Income Summary............................................ Salaries and Wages Expense................. Supplies Expense ................................... Maintenance and Repairs Expense ....... Depreciation Expense............................. Insurance Expense .................................
3,600
Income Summary............................................ Retained Earnings ..................................
4,300
Retained Earnings .......................................... Dividends.................................................
600
2,400 580 290 180 150 4,300 600
KLEENE WINDOW WASHING INC. Post-Closing Trial Balance July 31, 2025 Cash.................................................................... Accounts Receivable......................................... Supplies.............................................................. Prepaid Insurance.............................................. Equipment .......................................................... Accumulated Depreciation—Equipment .......... Accounts Payable .............................................. Salaries and Wages Payable ............................. Common Stock .................................................. Retained Earnings .............................................
$
Debit 5,410 6,300 320 1,650 8,000
Credit
$
$21,680 (Tot. debits for perm. accts. = Tot. credits for perm. accts.) [($5,410 + $6,300 + $320 + $1,650 + $8,000) = ($180 + $5,400 + $400 + $12,000 + $3,700)] LO 2-4 BT: AP Difficulty: Hard TOT: 80 min. AACSB: Analytic AICPA AC: Reporting
180 5,400 400 12,000 3,700 $21,680
ACR4.2 (a) Date Mar. 1 1 1 2 3 6 14 18 20 21 28 31 31
ACCOUNTING CYCLE REVIEW 4.2 General Journal Account Titles Cash................................................................ Common Stock.......................................
Debit 15,000
Cash................................................................ Notes Payable.........................................
6,000
Equipment ...................................................... Cash ........................................................
8,000
Prepaid Rent .................................................. Cash ........................................................
1,500
Prepaid Insurance.......................................... Cash ........................................................
2,400
Supplies.......................................................... Accounts Payable ..................................
2,000
Accounts Receivable..................................... Service Revenue ....................................
3,700
Accounts Payable.......................................... Cash ........................................................
500
Salaries and Wages Expense........................ Cash ........................................................
1,750
Cash................................................................ Accounts Receivable .............................
1,600
Accounts Receivable..................................... Service Revenue ....................................
4,200
Maintenance and Repairs Expense .............. Cash ........................................................
350
Dividends ....................................................... Cash ........................................................
900
Credit 15,000 6,000 8,000 1,500 2,400 2,000 3,700 500 1,750 1,600 4,200 350 900
ACR 4.2 (Continued) (b) , (e) & (h) Cash 3/1 15,000 3/1 3/1 6,000 3/2 3/21 1,600 3/3 3/18 3/20 3/31 3/31 3/31 Bal. 7,200
8,000 1,500 2,400 500 1,750 350 900
Accounts Receivable 3/14 3,700 3/21 1,600 3/28 4,200 3/31 200 3/31 Bal. 6,500
3/6 3/31 Bal.
Supplies 2,000 3/31 280
1,720
3/2 3/31 Bal.
Prepaid Rent 1,500 3/31 1,000
500
Prepaid Insurance 3/3 2,400 3/31 3/31 Bal. 2,000
3/1 3/31 Bal.
Equipment 8,000 8,000
Accumulated Depreciation— Equipment 3/31 250 3/31 Bal. 250
3/18
Notes Payable 3/1 3/31 Bal.
6,000 6,000
Accounts Payable 500 3/6 3/31 Bal.
2,000 1,500
Salaries and Wages Payable 3/31 1,080 3/31 Bal. 1,080 Interest Payable 3/31 3/31 Bal.
30 30
Common Stock 3/1 15,000 3/31 Bal. 15,000
400 3/31
Retained Earnings 900 3/31 3/31 Bal.
2,020 1,120
Dividends 900 900 3/31
900
3/31 3/31 Bal.
ACR 4.2 (Continued) 3/31 3/31
Income Summary 6,080 3/31 2,020 3/31
3/31
Service Revenue 3/14 3/28 3/31 8,100 3/31 Bal.
8,100 2,020
3,700 4,200 200 8,100
Maintenance and Repairs Expense 3/31 350 3/31 Bal. 350 3/31 350 Supplies Expense 3/31 1,720 3/31 Bal. 1,720 3/31
1,720
Depreciation Expense 3/31 250 3/31 Bal. 250 3/31
250
Insurance Expense 3/31 400 3/31 Bal. 400 3/31
400
Salaries and Wages Expense 3/20 1,750 3/31 1,080 3/31 Bal. 2,830 3/31 2,830 Rent Expense 3/31 500 3/31 Bal. 500 3/31
500
Interest Expense 3/31 30 3/31 Bal. 30 3/31
30
ACR 4.2 (Continued) (c) & (f)
LARS CLEANERS Trial Balance March 31, 2025
Cash ..................................................... Accounts Receivable .......................... Supplies ............................................... Prepaid Rent........................................ Prepaid Insurance ............................... Equipment ........................................... Accumulated Depreciation— Equipment ........................................ Notes Payable ..................................... Accounts Payable ............................... Salaries and Wages Payable .............. Interest Payable................................... Common Stock.................................... Dividends............................................. Service Revenue ................................. Maintenance and Repairs Expense.... Salaries and Wages Expense ............. Depreciation Expense......................... Insurance Expense ............................. Supplies Expense ............................... Rent Expense ...................................... Interest Expense .................................
Before Adjustment Debit Credit $ 7,200 6,300 2,000 1,500 2,400 8,000
After Adjustment Debit Credit $ 7,200 6,500 280 1,000 2,000 8,000 $
250 6,000 1,500 1,080 30 15,000
$ 6,000 1,500 15,000 900
900 7,900
8,100
$30,400 $30,400
350 2,830 250 400 1,720 500 30 $31,960 $31,960
350 1,750
(Before adjust.: Tot. debits = Tot. credits) [($7,200 + $6,300 + $2,000 + $1,500 + $2,400 + $8,000 + $900 + $350 + $1,750) = ($6,000 + $1,500 + $15,000 + $7,900)] (After adjust.: Tot. debits = Tot. credits) [($7,200 + $6,500 + $280 + $1,000 + $2,000 + $8,000 + $900 + $350 + $2,830 + $250 + $400 + $1,720 + $500 + $30) = ($250 + $6,000 + $1,500 + $1,080 + $30 + $15,000 + $8,100)]
ACR 4.2 (Continued) (d)
1. 2.
3.
4. 5. 6. 7.
Date March 31 31
31
31 31 31 31
General Journal Account Titles Accounts Receivable............................. Service Revenue.............................
Debit 200
Credit 200
Depreciation Expense ........................... Accumulated Depreciation— Equipment....................................
250
Insurance Expense ................................ Prepaid Insurance ($2,400 ÷ 6)......................................
400
Supplies Expense .................................. Supplies ($2,000 – $280) ................
1,720
Salaries and Wages Expense................ Salaries and Wages Payable .........
1,080
Rent Expense ......................................... Prepaid Rent ($1,500 ÷ 3) ...............
500
Interest Expense .................................... Interest Payable ($6,000 × .06 × 1/12) .....................
30
250
400 1,720 1,080 500 30
ACR 4.2 (Continued) (g)
LARS CLEANERS Income Statement For the Month Ended March 31, 2025 Revenues Service revenue................................................ Expenses Salaries and wages expense ........................... Supplies expense............................................. Rent expense.................................................... Insurance expense........................................... Maintenance and repairs expense .................. Depreciation expense ...................................... Interest expense............................................... Total expenses.......................................... Net income ...............................................................
$8,100 $2,830 1,720 500 400 350 250 30 6,080 $2,020
(Serv. rev. – Tot. exp. = Net inc.) [$8,100 – ($2,830 + $1,720 + $500 + $400 + $350 + $250 + $30) = $2,020]
LARS CLEANERS Retained Earnings Statement For the Month Ended March 31, 2025 Retained earnings, March 1 ................................... Add: Net income ................................................... Less: Dividends ..................................................... Retained earnings, March 31 ................................. (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($0 + $2,020 $900 = $1,120)
$
0 2,020 2,020 900 $1,120
ACR 4.2 (Continued) LARS CLEANERS Balance Sheet March 31, 2025 Assets Current assets Cash ................................................................ $7,200 Accounts receivable ...................................... 6,500 Supplies .......................................................... 280 Prepaid rent .................................................... 1,000 Prepaid insurance .......................................... 2,000 Total current assets................................ Property, plant, and equipment Equipment....................................................... 8,000 Less: Accumulated depreciation— equipment........................................ 250 Total assets.............................................
$16,980
7,750 $24,730
Liabilities and Stockholders’ Equity Current liabilities Notes payable................................................. Accounts payable........................................... Salaries and wages payable .......................... Interest payable .............................................. Total current liabilities............................ Stockholders’ equity Common stock ............................................... Retained earnings .......................................... Total stockholders’ equity.................. Total liabilities and stockholders’ equity ......................................................
$ 6,000 1,500 1,080 30 $ 8,610 15,000 1,120 16,120 $24,730
[(Current assets + Prop., plant, & equip.) = (Current liabl. + SE)] [(($7,200 + $6,500 + $280 + $1,000 + $2,000) + ($8,000 $250)) = (($6,000 + $1,500 + $1,080 + $30) + ($15,000 + $1,120))]
ACR 4.2 (Continued) (h) General Journal Date Mar. 31 31
31 31
Account Titles Service Revenue............................................. Income Summary ....................................
Debit 8,100
Income Summary............................................ Salaries and Wages Expense................. Supplies Expense ................................... Rent Expense .......................................... Insurance Expense ................................. Maintenance and Repairs Expense ....... Depreciation Expense............................. Interest Expense .....................................
6,080
Income Summary............................................ Retained Earnings ..................................
2,020
Retained Earnings .......................................... Dividends.................................................
900
Credit 8,100 2,830 1,720 500 400 350 250 30 2,020 900
ACR 4.2 (Continued) (i)
LARS CLEANERS Post-Closing Trial Balance March 31, 2025 Cash..................................................................... Accounts Receivable.......................................... Supplies............................................................... Prepaid Rent ....................................................... Prepaid Insurance............................................... Equipment ........................................................... Accumulated Depreciation—Equipment........... Notes Payable ..................................................... Accounts Payable............................................... Salaries and Wages Payable.............................. Interest Payable .................................................. Common Stock ................................................... Retained Earnings ..............................................
Debit $ 7,200 6,500 280 1,000 2,000 8,000
Credit
$
$24,980
250 6,000 1,500 1,080 30 15,000 1,120 $24,980
(Perm. accts. with debit bal. = Perm. accts. with credit bal.) [($7,200 + $6,500 + $280 + $1,000 + $2,000 + $8,000) = ($250 + $6,000 + $1,500 + $1,080 + $30 + $15,000 + $1,120)] LO 2-4 BT: AP Difficulty: Hard TOT: 90 min. AACSB: Analytic AICPA AC: Reporting
ACR4.3
ACCOUNTING CYCLE REVIEW 4.3
(a), (c), (e) & (h) 8/1 Bal. 8/5 8/12 8/29 8/31 Bal.
Cash 6,040 8/1 1,200 8/3 2,800 8/10 780 8/20 8/25 2,020
400 380 3,120 2,000 2,900
Accounts Receivable 8/1 Bal. 2,910 8/5 1,200 8/27 3,760 8/31 Bal. 5,470
Equipment 8/1 Bal. 10,000 8/15 2,000 8/31 Bal. 12,000
Accumulated Depreciation— Equipment 8/1 Bal. 600 8/31 320 8/31 Bal. 920
8/20 Notes Receivable 8/1 Bal. 4,000 8/31 Bal. 4,000
Interest Receivable 8/31 20 8/31 Bal. 20
8/1 Bal. 8/22 8/31 Bal.
Supplies 1,030 8/31 800 960
Prepaid Advertising 8/1 400 8/31 8/31 Bal. 200
8/31
Accounts Payable 2,000 8/1 Bal. 8/15 8/22 8/31 Bal.
2,300 2,000 800 3,100
Unearned Service Revenue 800 8/1 Bal. 8/29 8/31 Bal.
1,260 780 1,240
870 Salaries and Wages Payable 8/10 1,420 8/1 Bal. 1,420 8/31 1,540 8/31 Bal. 1,540 200 Common Stock 8/1 Bal. 12,000 8/31 Bal. 12,000
ACR 4.3 (Continued) 8/31
Retained Earnings 530 8/1 Bal. 8/31 Bal.
Income Summary 8/31 7,910 8/31 8/31 Bal. 530 8/31
8/31
Service Revenue 8/12 8/27 8/31 7,360 8/31 Bal.
8/31
Interest Revenue 8/31 20 8/31 Bal.
6,400 5,870
Depreciation Expense 8/31 320 8/31 Bal. 320 8/31
320
7,380 530
Supplies Expense 8/31 870 8/31 Bal. 870 8/31
870
2,800 3,760 800 7,360
Salaries and Wages Expense 8/10 1,700 8/25 2,900 8/31 1,540 8/31 Bal. 6,140 8/31 6,140
20 20
Rent Expense 8/3 380 8/31 Bal. 380 8/31
380
Advertising Expense 8/31 200 8/31 Bal. 200 8/31
200
ACR 4.3 (Continued) (b)
General Journal
Date Aug. 1 3 5 10
12 15 20 22 25 27 29
Account Titles Prepaid Advertising ....................................... Cash ........................................................
Debit 400
Rent Expense ................................................. Cash ........................................................
380
Cash ................................................................ Accounts Receivable .............................
1,200
Salaries and Wages Payable ......................... Salaries and Wages Expense........................ Cash ........................................................
1,420 1,700
Cash ................................................................ Service Revenue.....................................
2,800
Equipment ...................................................... Accounts Payable ..................................
2,000
Accounts Payable .......................................... Cash ........................................................
2,000
Supplies.......................................................... Accounts Payable ..................................
800
Salaries and Wages Expense........................ Cash ........................................................
2,900
Accounts Receivable ..................................... Service Revenue.....................................
3,760
Cash ................................................................ Unearned Service Revenue ...................
780
Credit 400 380 1,200
3,120
2,800 2,000 2,000 800 2,900 3,760 780
ACR 4.3 (Continued) (d) & (f)
B & B REPAIR SERVICES Trial Balances August 31, 2025
Cash............................................ Accounts Receivable................. Notes Receivable ....................... Interest Receivable .................... Supplies...................................... Prepaid Advertising ................... Equipment .................................. Accumulated Depr.— Equipment ............................... Accounts Payable ...................... Unearned Service Revenue....... Salaries and Wages Payable ..... Common Stock .......................... Retained Earnings ..................... Service Revenue ........................ Interest Revenue ........................ Salaries and Wages Expense.... Rent Expense ............................. Supplies Expense ...................... Depreciation Expense ............... Advertising Expense .................
Before Adjustment Dr. Cr. $ 2,020 5,470 4,000 1,830 400 12,000 $
600 3,100 2,040
12,000 6,400 6,560 4,600 380
$30,700 $30,700
After Adjustment Dr. Cr. $ 2,020 5,470 4,000 20 960 200 12,000 $
920 3,100 1,240 1,540 12,000 6,400 7,360 20
6,140 380 870 320 200 $32,580 $32,580
(Before adjust,: Tot. debits = Tot. credits) [($2,020 + $5,470 + $4,000 + $1,830 + $400 + $12,000 + $4,600 + $380) = ($600 + $3,100 + $2,040 + $12,000 + $6,400 + $6,560)] (After adjust.: Tot. debits = Tot. credits) [($2,020 + $5,470 + $4,000 + $20 + $960 + $200 + $12,000 + $6,140 + $380 + $870 + $320 + $200) = ($920 + $3,100 + $1,240 + $1,540 + $12,000 + $6,400 + $7,360 + $20)]
ACR 4.3 (Continued) (e) Aug. 31
31
31
31
31
31
1. Supplies Expense ................................... Supplies ($1,830 – $960).........................
870
2. Salaries and Wages Expense ........................ Salaries and Wages Payable..................
1,540
3. Depreciation Expense .................................... Accumulated Depreciation-Equipment .
320
4. Unearned Service Revenue ........................... Service Revenue .....................................
800
5. Advertising Expense...................................... Prepaid Advertising................................
200
6. Interest Receivable......................................... Interest Revenue ($4,000 × .06 × 1/12)...
20
870
1,540
320
800
200
20
ACR 4.3 (Continued) (g)
B & B REPAIR SERVICES Income Statement For the Month Ended August 31, 2025 Revenues Service revenue.............................................. Interest revenue.............................................. Total revenues ........................................ Expenses Salaries and wages expense ......................... Supplies expense ........................................... Rent expense.................................................. Depreciation expense .................................... Advertising expense ...................................... Total expenses........................................ Net loss...................................................................
$7,360 20 $7,380 6,140 870 380 320 200 7,910 ($530)
(Tot. rev. – Tot. exp. = Net loss) [($7,360 + $20) – ($6,140 + $870 + $380 + $320 + $200) = ($530)]
B & B REPAIR SERVICES Retained Earnings Statement For the Month Ended August 31, 2025 Retained earnings, August 1................................. Less: Net loss ....................................................... Retained earnings, August 31............................... (Beg. ret. earn. – Net loss = End. ret. earn.) ($6,400 $530 = $5,870)
$6,400 530 $5,870
ACR 4.3 (Continued)
B & B REPAIR SERVICES Balance Sheet August 31, 2025 Assets Current assets Cash ............................................................... Accounts receivable ..................................... Notes receivable............................................ Interest receivable......................................... Supplies ......................................................... Prepaid advertising....................................... Total current assets .............................. Property, plant and equipment Equipment ..................................................... Less: Accumulated depreciation— equipment .......................................... Total assets............................................
$ 2,020 5,470 4,000 20 960 200 $12,670 12,000 920
11,080 $23,750
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................................... $ 3,100 Unearned service revenue.................................. 1,240 Salaries and wages payable ................................. 1,540 Total current liabilities ................................ Stockholders’ equity Common stock .................................................... 12,000 Retained earnings ............................................... 5,870 Total stockholders’ equity .......................... Total liabilities and stockholders’ equity.........................................................
$ 5,880
17,870 $23,750
[((Current assets) + (Prop., plant, & equip.)) = ((Current liabl.) + (SE))] [(($2,020 + $5,470 + $4,000 + $20 + $960 + $200) + ($12,000 $920)) = (($3,100 + $1,240 + $1,540) + ($12,000 + $5,870))]
ACR 4.3 (Continued) (h) General Journal Date Aug.
Account Titles 31 Service Revenue........................................... Interest Revenue........................................... Income Summary ..................................
Debit 7,360 20
31
Income Summary.......................................... Salaries and Wages Expense............... Supplies Expense ................................. Rent Expense ........................................ Depreciation Expense .......................... Advertising Expense ............................
7,910
Retained Earnings ........................................ Income Summary ..................................
530
31
(i)
Credit
7,380 6,140 870 380 320 200 530
B & B REPAIR SERVICES Post-Closing Trial Balance March 31, 2025 Cash..................................................................... Accounts Receivable.......................................... Notes Receivable ................................................ Interest Receivable ............................................. Supplies............................................................... Prepaid Advertising ............................................ Equipment ........................................................... Accumulated Depreciation—Equipment........... Accounts Payable............................................... Unearned Service Revenue................................ Salaries and Wages Payable.............................. Common Stock ................................................... Retained Earnings ..............................................
Debit $ 2,020 5,470 4,000 20 960 200 12,000
Credit
$
$24,670
920 3,100 1,240 1,540 12,000 5,870 $24,670
(Perm. accts. with debit bal. = Perm. accts. with credit bal.) [($2,020 + $5,470 + $4,000 + $20 + $960 + $200 + $12,000) = ($920 + $3,100 + $1,240 + $1,540 + $12,000 + $5,870)] LO 2-4 BT: AP Difficulty: Hard TOT: 90 min. AACSB: Analytic AICPA AC: Reporting
ACR4.4
ACCOUNTING CYCLE REVIEW 4.4
(b) Date July
1
2
3
3
6
Account Titles
Debit
Equipment................................................................ Cash................................................................. Notes Payable.................................................
24,000
Cash ........................................................................ Common Stock ...............................................
50,000
Prepaid Insurance ................................................... Cash.................................................................
3,600
Prepaid Rent ............................................................ Cash.................................................................
8,000
Supplies ................................................................... Cash.................................................................
3,800
4,000 20,000
50,000
3,600
8,000
3,800
9
No entry required (consulting agreement)
10
Cash ......................................................................... Accounts Receivable .....................................
1,200
Unearned Service Revenue .................................... Service Revenue.............................................
1,120
Accounts Payable ................................................... Cash.................................................................
400
Cash ......................................................................... Unearned Service Revenue ...........................
12,000
Salaries and Wages Expense ................................. Cash.................................................................
11,000
Accounts Receivable ............................................. Service Revenue.............................................
28,000
13
14
16
18
20
Credit
1,200
1,120
400
12,000
11,000 28,000
ACR 4.4 (Continued) (b) (Continued) Date July 20 23 27
Account Titles
Debit
Advertising Expense .............................................. Accounts Payable ..........................................
2,200
Unearned Service Revenue.................................... Service Revenue ............................................
10,000
Cash ......................................................................... Accounts Receivable.....................................
15,000
Credit
2,200 10,000 15,000
(e) Adjusting Entries 31
31 31
31
31
31 31 31
Insurance Expense ................................................. Prepaid Insurance.......................................... ($3,600 × 1/12)
300
Rent Expense .......................................................... Prepaid Rent...................................................
4,000
Supplies Expense ................................................... Supplies..........................................................
1,250
Depreciation Expense ............................................ Accumulated Depreciation—Equipment...... ($24,000 ÷ 4 × 1/12)
500
Interest Expense ..................................................... Interest Payable ............................................. ($20,000 × 6% × 1/12)
100
Salaries and Wages Expense ................................ Salaries and Wages Payable.........................
11,000
Utilities Expense ..................................................... Accounts Payable ..........................................
800
Income Tax Expense .............................................. Income Taxes Payable...................................
1,200
300
4,000 1,250
500
100
11,000 800 1,200
ACR 4.4 (Continued) (a) , (c), (e), and (h)
Cash July
July
1 Bal.
5,230 July
1
4,000
2
50,000
3
3,600
10
1,200
3
8,000
16
12,000
6
3,800
27
15,000
14 18
400 11,000
31 Bal.
52,630 Accounts Receivable
July
1 Bal. 20
1,200 28,000
July
31 Bal.
13,000
July
10 27
1,200 15,000
31
1,250
31
300
31
4,000
Supplies July
1 Bal. 6
690 July 3.800
July
31 Bal.
3,240
July
3
July
31 Bal.
Prepaid Insurance 3,600 July 3,300 Prepaid Rent
July
3
8,000 July
July
31 Bal.
4,000
ACR 4.4 (Continued) (a), (c), (e), and (h) (Continued) Equipment July
1
24,000
July 31 Bal.
24,000 Accumulated Depreciation—Equipment July 31
500
July 31 Bal
500
Accounts Payable July 14
400 July 1 Bal.
400
20 31
2,200 800
July 31 Bal.
3,000
Interest Payable July 31 July 31 Bal.
100 100
Salaries and Wages Payable July 31
11,000
July 31 Bal.
11,000
Income Taxes Payable July 31 July 31 Bal.
1,200 1,200
ACR 4.4 (Continued) (a), (c), (e), and (h) (Continued) Unearned Service Revenue July 13 23
1,120 10,000
July 1 Bal. 16
1,120 12,000
July 31 Bal.
2,000
Notes Payable July 1
20,000
July 31 Bal.
20,000
Common Stock July 1 Bal. 2
3,600 50,000
July 31 Bal.
53,600
Retained Earnings July 1 Bal. July 31
2,000 6,770
July 31 Bal.
8,770
Service Revenue
July 31
July 13
1,120
20 23
28,000 10,000
39,120 July 31 Bal.
39,120
ACR 4.4 (Continued) (a), (c), (e), and (h) (Continued)
Salaries and Wages Expense July 18 July 31
11,000 11,000
July 31 Bal.
22,000 July 31
22,000
Rent Expense July 31
4,000
July 31 Bal.
4,000 July 31
July 20 July 31 Bal.
July 31 July 31 Bal.
4,000
Advertising Expense 2,200 2,200 July 31
2,200
Supplies Expense 1,250 1,250 July 31
1,250
ACR 4.4 (Continued) (a), (c), (e), and (h) (Continued)
Utilities Expense 800
July 31 July 31 Bal.
July
31
July 31 Bal.
July
31
July 31 Bal.
July
31
July 31 Bal.
July 31 July 31 Bal.
July
31
July
31
800 July 31
800
Depreciation Expense 500 500 July 31
500
Insurance Expense 300 300 July 31
300
Interest Expense 100 100 July 31
100
Income Tax Expense 1,200 1,200 July 31
1,200
Income Summary 32,350 July 31
39,120
6,770 July 31 Bal.
6,770
ACR 4.4 (Continued) (d) and (f) (Continued) GREEN RIVER COMPUTER CONSULTANTS Trial Balances July 31, 2025
Cash .............................................................. Accounts receivable .................................... Supplies ........................................................ Prepaid insurance ........................................ Prepaid rent ................................................... Equipment ..................................................... Accumulated depreciation—equipment ...... Accounts payable ......................................... Interest payable ............................................ Salaries and wages payable ........................ Income taxes payable .................................. Unearned service revenue ........................... Notes payable ................................................ Common stock ............................................. Retained earnings ........................................ Service revenue ............................................ Salaries and wages expense ....................... Rent expense ................................................ Advertising expense .................................... Supplies expense ......................................... Utilities expense ........................................... Depreciation expense .................................. Insurance expense ....................................... Interest expense ........................................... Income tax expense .....................................
Before Adjustment
After Adjustment
Debit $ 52,630 13,000 4,490 3,600 8,000 24,000
Debit $ 52,630 13,000 3,240 3,300 4,000 24,000
Credit
Credit
$ $
2,200
2,000 20,000 53,600 2,000 39,120 11,000 2,200
$118,920
$118,920
22,000 4,000 2,200 1,250 800 500 300 100 1,200 $132,520
500 3,000 100 11,000 1,200 2,000 20,000 53,600 2,000 39,120
$132,520
(Before adjust.: Tot. debits = Tot. credits) [($52,630 + $13,000 + $4,490 + $3600 + $8,000 + $24,000 + $11,000 + $2,200) = ($2,200 + $2,000 + $20,000 + $53,600 + $2,000 + $39,120)] (After adjust.: Tot. debits = Tot. credits) [($52,630 + $13,000 + $3,240 + $3,300 + $4,000 + $24,000 + $22,000 + $4,000 + $2,200 + $1,250 + $800 + $500 + $300 + $100 + $1,200) = ($500 + $3,000 + $100 + $11,000 + $1,200 + $2,000 + $20,000 + $53,600 + $2,000 + $39,120)]
ACR 4.4 (Continued) (g) (1) GREEN RIVER COMPUTER CONSULTANTS Income Statement For the Month Ended July 31, 2025
Revenues Service revenue ............................................ Expenses Salaries and wages expense........................ Rent expense................................................. Advertising expense ..................................... Supplies expense.......................................... Utilities expense............................................ Depreciation expense ................................... Insurance expense........................................ Interest expense............................................ Income tax expense ...................................... Total expenses ..................................... Net income..............................................................
$39,120 $22,000 4,000 2,200 1,250 800 500 300 100 1,200 32,350 $ 6,770
(Serv. rev. – Tot. exp. = Net inc.) [$39,120 – ($22,000 + $4,000 + $2,200 + $1,250 + $800 + $500 + $300 + $100 + $1,200) = $6,770]
(2) GREEN RIVER COMPUTER CONSULTANTS Retained Earnings Statement For the Month Ended July 31, 2025
Retained earnings, July 1 ..................................... Add: Net income.................................................... Retained earnings, July 31 ................................... (Beg. ret. earn. + Net inc. = End. ret. earn.) ($2,000 + $6,770 = $8,770) ...........................................................................
$2,000 6,770 $8,770
ACR 4.4 (Continued) (g) (Continued) (3) GREEN RIVER COMPUTER CONSULTANTS Balance Sheet July 31, 2025 Assets Current assets Cash........................................................... Accounts receivable................................. Supplies .................................................... Prepaid insurance .................................... Prepaid rent .............................................. Total current assets ........................ Property, plant, and equipment Equipment ................................................. Less: Accumulated depreciation ............ Total assets........................................................
$52,630 13,000 3,240 3,300 4,000 76,170 $24,000 500
Liabilities and Stockholders’ Equity Current liabilities Accounts payable..................................... $ 3,000 Salaries and wages payable .................... 11,000 Interest payable ........................................ 100 Income tax payable .................................. 1,200 Unearned service revenue....................... 2,000 Total current liabilities ........................ Long-term liabilities Notes payable ........................................... Total liabilities.................................. Stockholders’ equity Common stock.......................................... $53,600 Retained earnings .................................... 8,770 Total stockholders’ equity .............. Total liabilities and stockholders’ equity ........
23,500 $99,670
$17,300 20,000 37,300
62,370 $99,670
[((Current assets) + (Prop., plant, & equip.)) = ((Current liabl.) + (SE))] [(($52,630 + $13,000 + $4,000 + $3,300 + $3,240) + ($24,000 $500)) = (($3,000 + $11,000 + $100 + $11,200 + $2,000) + ($53,600 + $8,770))]
ACR 4.4 (Continued) (h) Date July 31 31
31
Debit
Account Titles Service Revenue...................................................... Income Summary ...........................................
39,120
Income Summary .................................................... Salaries and Wages Expense ........................ Rent Expense.................................................. Advertising Expense ...................................... Supplies Expense........................................... Utilities Expense............................................. Depreciation Expense .................................... Insurance Expense......................................... Interest Expense............................................. Income Tax Expense ......................................
32,350
Income Summary .................................................... Retained Earnings ..........................................
6,770
Credit
39,120 22,000 4,000 2,200 1,250 800 500 300 100 1,200 6,770
(i) GREEN RIVER COMPUTER CONSULTANTS Post-Closing Trial Balance July 31, 2025 Cash ............................................................... Accounts receivable ..................................... Supplies ......................................................... Prepaid insurance ......................................... Prepaid rent ................................................... Equipment ..................................................... Accumulated depreciation—equipment ...... Accounts payable ......................................... Interest payable ............................................ Salaries and wages payable ........................ Income taxes payable ................................... Unearned service revenue ........................... Notes payable ................................................ Common stock .............................................. Retained earnings .........................................
Debit $ 52,630 13,000 3,240 3,300 4,000 24,000
Credit
$
$100,170
500 3,000 100 11,000 1,200 2,000 20,000 53,600 8,770 $100,170
(Perm. accts. with debit bal. = Perm. accts. with credit bal.) [($52,630 + $13,000 + $3,240 + $3,300 + $4,000 + $24,000) = ($500 + $3,000 + $100 + $11,000 + $1,200 + $2,000 + $20,000 + $53,600 + $8,770)] LO 2-4 BT: AP Difficulty: Hard TOT: 180 min. AACSB: Analytic AICPA AC: Reporting
CT4.1
FINANCIAL REPORTING PROBLEM
(a) Items that may result in adjusting entries for deferrals are: 1. 2. 3. (b) 1.
Other current assets (prepaid expenses). Property, plant net (equipment accumulated depreciation). Deferred revenue. Provision for income taxes.
2. Other items not explicitly identified on the income statement could include: accrued revenues, accrued salaries and wages expense, and accrued interest expense. (c)Depreciation and amortization expense was $11,056 (millions) in 2020 and $12,547 (millions) in 2019. Accumulated depreciation was reported in Note 4 to the consolidated financial statements. (d) The statement of cash flows (at the bottom) reports income taxes paid in 2020 of $9,501 (millions). The income statement reports income tax expense of $9680 (millions). LO 2-4 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Communication and Analytic AICPA AC: Reporting AICPA PC: Communication
CT4.2
COMPARATIVE ANALYSIS PROBLEM
Accounts that provide evidence of the use of accrual accounting are: Balance Sheet
Income Statement
(a) Columbia Sportswear Company 1. Accounts receivable, net 2. Prepaid expenses 3. Income taxes payable 4. Accrued liabilities
1. Sales 2. Insurance (or supplies) expense 3. Income tax expense 4. Miscellaneous expense
(b) Under Armour, Inc. 1. Property, plant and equipment, (net) 2. Accounts receivable net 3. Deferred income taxes 4. Accrued expenses
1. Depreciation expense 2. Sales 3. Income tax expense 4. Interest expense, Salaries & wages expense
LO 1 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT4.3
COMPARATIVE ANALYSIS PROBLEM
Accounts that provide evidence of the use of accrual accounting are: Balance Sheet
Income Statement
(a) Amazon.com, Inc. 1. Accounts receivable, net and other 2. Accrued expenses and other 3. Unearned revenue
1. Product or Service Sales 2. Interest expense 3. Product or Service revenue
(b) Walmart, Inc. 1. Prepaid expenses 2. Property, plant, and equipment, net 3. Receivables, net 4. Accrued liabilities 5. Accrued income taxes
1. 2. 3. 4. 5.
Insurance (or supplies) expense Depreciation expense Sales Miscellaneous expense Income tax expense
LO 1 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT4.4
INTERPRETING FINANCIAL STATEMENTS
LASER RECORDING SYSTEMS (a)
Laser Recording is handling legal expense via an accrued expense adjustment. This is explained by the fact that accrued professional services increased during the year.
(b)
Each of the three adjustments is an accrued expense adjustment. Since this type of adjustment increases expenses, net income is decreased by each adjustment.
(c)
In recording accrued interest, Laser Recording debited Interest Expense and credited Interest Payable.
LO 3 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT4.5
REAL-WORLD FOCUS
(a) The SEC was created by Congress after the stock market crash of 1929. The SEC was created to restore investor confidence in our capital markets by providing more structure and government oversight. (b) Division of Corporation Finance. The Division of Corporation Finance oversees corporate disclosure of important information to the investing public. Corporations are required to comply with regulations pertaining to disclosure that must be made when stock is initially sold and then on a continuing and periodic basis. The Division’s staff routinely reviews the disclosure documents filed by companies. The staff also provides companies with assistance interpreting the Commission’s rules and recommends to the Commission new rules for adoption. Division of Trading and Markets. The Division of Trading and Markets establishes and maintains standards for fair, orderly, and efficient markets. It does this primarily by regulating the major securities market participants: broker-dealer firms; self-regulatory organizations (SROs), which include the stock exchanges and the National Association of Securities Dealers (NASD), Municipal Securities Rulemaking Board (MSRB), and clearing agencies (SROs that help facilitate trade settlement); transfer agents (parties that maintain records of stock and bond owners); and securities information processors. (A self-regulatory organization is a member organization that creates and enforces rules for its members based on the federal securities laws. SROs, which are overseen by the SEC, are the front line in regulating broker-dealers.) Division of Investment Management. The Division of Investment Management oversees and regulates the $15 trillion investment management industry and administers the securities laws affecting investment companies (including mutual funds) and investment advisers. In applying the federal securities laws to this industry, the Division works to improve disclosure and minimize risk for investors without imposing undue costs on regulated entities.
CT4.5 (Continued) Division of Enforcement. The Division of Enforcement investigates possible violations of securities laws, recommends Commission action when appropriate, either in a federal court or before an administrative law judge, and negotiates settlements on behalf of the Commission. While the SEC has civil enforcement authority only, it works closely with various criminal law enforcement agencies throughout the country to develop and bring criminal cases when the misconduct warrants more severe action. Division of Economic and Risk Analysis. The Division of Economic and Risk Analysis assists the Commission in executing its mission to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation by integrating robust economic analysis and rigorous data analytics into the work of the SEC. The Division has a broad role in Commission activities, interacting with nearly every Division and Office, providing sophisticated and data-driven economic and risk analyses to help inform the agency's policymaking, rulemaking, enforcement, and examinations. There are two main functions for the Division. First, DERA staff provide vital support in the form of economic analyses in support of Commission rulemaking and policy development. Second, the Division also provides economic analysis and research, risk assessment, and data analytics to critically support the agency's resources on matters presenting the greatest perceived risks in litigation, examinations, and registrant reviews, as well as providing economic support for enforcement matters. (c) Office of the Chief Accountant. The Chief Accountant is appointed by the Chairman to be the principal adviser to the Commission on accounting and auditing matters. The Office of the Chief Accountant assists the Commission in executing its responsibility under the securities laws to establish accounting principles, and for overseeing the private sector standards-setting process. The Office works closely with the Financial Accounting Standards Board, whose accounting standards the Commission has recognized as generally accepted for purposes of the federal securities laws, as well as the International Accounting Standards Board and the American Institute of Certified Public Accountants.
CT4.5 (Continued) In addition to its responsibility for accounting standards, the Commission is responsible for the approval or disapproval of auditing rules put forward by the Public Company Accounting Oversight Board, a private-sector regulator established by the Sarbanes-Oxley Act to oversee the auditing profession. The Commission also has thorough-going oversight responsibility for all of the activities of the PCAOB, including approval of its annual budget. To assist the Commission in the execution of these responsibilities, the Office of the Chief Accountant is the principal liaison with the PCAOB. The Office also consults with registrants and auditors on a regular basis regarding the application of accounting and auditing standards and financial disclosure requirements. Because of its expertise and ongoing involvement with questions concerning the financial books and records of public companies registered with the SEC, the Office of the Chief Accountant is often called upon to assist in addressing issues that arise in the context of Commission enforcement actions. LO None BT: S Difficulty: Medium TOT: 60 min. AACSB: Communication, Technology and Reflective Thinking AICPA AC: Reporting AICPA PC: Communication
CT4.6 (a)
DECISION-MAKING ACROSS THE ORGANIZATION ABBEY PARK Income Statement For the Quarter Ended March 31, 2025
Revenues Rent revenue ($83,000 – $21,000) ................ Expenses Salaries and wages expense [$27,600 + ($290 x 3)]............................. Advertising expense ($4,200 + $110) ........... Supplies expense ($4,500 – $600)................ Maintenance and repairs expense ($2,800 + $1,040) .................................... Insurance expense ($7,200 x 3/12)............... Utilities expense ($1,500 + $240).................. Depreciation expense ................................... Interest expense ($20,000 x 7% x 3/12)........ Total expenses....................................... Net income ............................................................
$62,000 $28,470 4,310 3,900 3,840 1,800 1,740 800 350 45,210 $16,790
(Correct rent rev. – Tot. correct exp. = Correct net inc.) [($83,000 $21,000) – (($27,600 + ($290 x 3)) + ($4,200 + $110) + ($4,500 $600) + ($2,800 + $1,040) + ($7,200 x 3/12) + ($1,500 + $240) + $800 + ($20,000 x 7% x 3/12)) = $16,790]
(b) The generally accepted accounting principles pertaining to the income statement that were not recognized by Trudy were the revenue recognition principle and the expense recognition principle. The revenue recognition principle states that revenue is recognized when the performance obligation is satisfied. The performance obligation of $21,000 for summer rentals has not been satisfied and, therefore, should not be reported as revenue for the quarter ended March 31. The expense recognition principle dictates that efforts (expenses) be matched with results (revenues) whenever it is reasonable and practicable to do so. This means that the expenses should include amounts incurred in March but not paid until April. The difference in expenses was $8,310 ($45,210 – $36,900). The overstatement of revenues ($21,000) plus the understatement of expenses ($8,310) equals the difference in reported income of $29,310 ($46,100 – $16,790). LO 2-4 BT: AN Difficulty: Hard Tot: 60 min. AACSB: Communication and Reflective Thinking AICPA AC: Reporting AICPA PC: collaboration, Leadership and Communication
CT4.7
COMMUNICATION ACTIVITY
(a) Accrual-basis accounting records the events that change an entity’s financial statements in the periods in which the events occur, rather than in the periods in which the entity receives or pays cash. Information presented on an accrual-basis is useful because it reveals relationships that are likely to be important in predicting future results. Conversely, under cash-basis accounting, revenue is recorded only when cash is received, and an expense is recognized only when cash is paid. As a result, the cash-basis of accounting often results in misleading financial statements. (b) Politicians might desire a cash-basis accounting system over an accrualbasis system because if an accrual accounting system is used, it could mean that billions in government liabilities presently unrecorded would have to be reported in the federal budget immediately. Currently, the federal government is facing a huge budget deficit. The recognition of these additional liabilities would make the deficit even worse. This is not what politicians would like to see and be held responsible for. (c) Dear Senator, It is my understanding, after having taken a beginning course in accounting principles, that the federal government uses a cash-basis accounting system rather than an accrual-basis accounting system. I am shocked at such a practice! There must be billions of dollars of liabilities hidden in many contracts that have not been recorded because they haven’t been paid yet. I realize that the deficit would dramatically increase if we were to implement an accrual system, but in all fairness, we citizens should be given a more accurate picture of what our government is up to. Sincerely, CONCERNED STUDENT LO 1 BT: S Difficulty: Hard TOT: 45 min. AACSB: Communication and Reflective Thinking AICPA AC: Reportinng AICPA PC: Communication AICPA BC: Governance Perspective
CT4.8
ETHICS CASE
(a) The stakeholders in this situation are:
Tim Allen, controller. The president of Wells Company. Company stockholders and potential stockholders.
(b) 1. It is unethical for the president to place pressure on Tim to misstate net income by requesting him to prepare incorrect adjusting entries. 2. It is customary for adjusting entries to be dated as of the balance sheet date although the entries are prepared at a later date. Tim did nothing unethical by dating the adjusting entries December 31. (c) Tim can accrue revenues and defer expenses through the preparation of adjusting entries and be ethical so long as the entries reflect economic reality. Intentionally misrepresenting the company’s financial condition and its results of operations is unethical (it is also illegal). LO 2, 3 BT: E Difficulty: Medium TOT: 30 min. AACSB: Ethics AICPA PC: Ethical Conduct
CT4.9
ALL ABOUT YOU ACTIVITY
The following is a personal balance sheet using the classified presentation. Note that the earnings from the part-time job as well as the tuition costs are not listed since neither of those items is an asset, liability, or equity item. Assets Current assets Cash ................................................................. Money market account ................................... Certificate of deposit....................................... Accounts receivable from brother .................. Total current assets.................................
$1,200 1,800 3,000 300
Property, plant, and equipment Automobile ...................................................... Video and stereo equipment .......................... Home computer ............................................... Total assets..............................................
7,000 1,250 800
$ 6,300
9,050 $15,350
Liabilities and Equity Current liabilities Current portion of automobile loan ............... Current portion of credit card payable .......... Total current liabilities............................. Long-term liabilities Student loan .................................................... Automobile loan .............................................. Credit card payable ......................................... Total long-term liabilities ........................ Total liabilities....................................
$1,500 150 $ 1,650 5,000 4,000 1,650 10,650 12,300
Equity M. Y. Own, Capital ($15,350 – $12,300) ..........
3,050
Total liabilities and equity ...................
$15,350
LO None BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT4.10
FASB CODIFICATION ACTIVITY
(a) Revenues are “inflows or other enhancements of assets of an entity or settlements of its liabilities (or a combination of both) from delivering or producing goods, rendering services, or other activities that constitute the entity’s ongoing major or central operations.” (b) Compensation is reciprocal transfers of cash or other assets in exchange for services performed. LO 1 BT: C Difficulty: Medium TOT: 20 min. AACSB: Communication and Technology AICPA AC: Reporting AICPA PC: Communication
CHAPTER 5 Merchandising Operations and the Multiple-Step Income Statement Learning Objectives 1. 2. 3. 4. 5. 6. *7. *8.
Describe merchandising operations and inventory systems. Record purchases under a perpetual inventory system. Record sales under a perpetual inventory system. Prepare a multiple-step income statement. Determine cost of goods sold under a periodic inventory system. Compute and analyze gross profit rate and profit margin. Record purchases and sales of inventory under a periodic inventory system. Prepare adjusting entry for credit sales with returns and allowances.
ANSWERS TO QUESTIONS 1.
(a)
Disagree. The steps in the accounting cycle are the same for both a merchandising company and a service company.
(b) The measurement of net income is conceptually the same. In both types of companies, net income (or loss) results from the matching of expenses with revenues. LO 1 BT: C Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
2.
The components of revenues and expenses differ as follows:
Revenues Expenses
Merchandising Sales revenue Cost of goods sold and Operating
Service Fees, Rents, etc. Operating (only)
LO 1 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
3.
Under a periodic inventory system the company does not keep track of how many units are on hand. Instead it takes a physical count at the end of the period to determine ending inventory and cost of goods sold. Under a perpetual system the company adjusts its inventory account each time it purchases or sells inventory. Thus it always has a record of its available inventory. Having knowledge of inventory balances helps a company avoid lost sales due to “stock-outs” as well as carrying too much inventory on hand (which results in additional storage and handling costs). The purchasing department can make better decisions with the aid of perpetual inventory records.
LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
4.
(a)
The income measurement process is as follows: Sales Revenue
Less
Cost of Goods Sold
Equals
Gross Profit
Less
Operating Expenses
Equals
Net Income (Loss)
(b) Income measurement in a merchandising company differs from a service company as follows: (a) sales are the primary source of revenue and (b) expenses are divided into two main categories: cost of goods sold and operating expenses. LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
5.
Net sales........................................................................................................................ $100,000 Cost of goods sold ......................................................................................................... 70,000 Gross profit .............................................................................................................. $ 30,000
LO 1 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
6.
Agree. In accordance with the revenue recognition principle, sales revenues are generally considered to be recognized when the goods are transferred from the seller to the buyer; that is, when the performance obligation is satisfied. The recognition of revenue is not dependent on the collection of credit sales.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation,
Questions Chapter 5 (Continued) 7.
(a) The primary source documents are (1) cash sales—cash register tapes and (2) credit sales— sales invoice. (b) The entries are: Debit Cash sales—
Credit sales—
Cash ................................................................... Sales Revenue............................................
Credit
XX XX
Cost of Goods Sold............................................. Inventory .....................................................
XX
Accounts Receivable .......................................... Sales Revenue............................................
XX
Cost of Goods Sold............................................. Inventory .....................................................
XX
XX
XX
XX
LO 3 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
8.
July 19
Cash ($800 – $8) .......................................................................... Sales Discounts ($800 x 1%) ........................................................ Accounts Receivable ($900 – $100) ......................................
792 8 800
LO 3 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
9.
Shipping unwanted goods to customers is generally considered unethical behavior. In addition, if proper accounting is applied, in most cases it won’t achieve the desired result of increasing sales. If it is expected that the unwanted goods will be shipped back to the seller, then they should not be treated as sales in the first place. (Note: The practice of shipping more goods than were ordered in order to meet sales goals and get rid of extra inventory is referred to as channel stuffing.)
LO 3 BT: E Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA PC: Ethical Conduct
10.
In most industries returns are not significant, and they are therefore accounted for as they occur. When returns are expected to be significant, the company should make an adjusting entry at the end of the period to estimate the amount of returns that will result from the period’s sales, so that revenues will not be overstated during the period.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
11.
July 24
Accounts Payable ($1,900 – $300) ............................................... Cash ($1,600 – $32).............................................................. Inventory ($1,600 x 2%) ........................................................
1,600 1,568 32
LO 2 BT: AP Difficulty: Medium TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
12.
Gross profit.................................................................................................... Less: Net income.......................................................................................... Operating expenses.......................................................................................
$560,000 230,000 $330,000
LO 4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
Questions Chapter 5 (Continued) 13.
Its current terms of 1/10, n/30 means that customers get a 1% discount if they pay within 10 days, otherwise they have to pay the full amount within 30 days. If they switch to 2/10, n/45 customers would get a 2% discount for paying within 10 days, otherwise they have to pay the full amount in 45 days. By offering 2%, more of Mai’s customers would likely pay within the 10 day period. Management would have to determine whether it is worth the additional cost to be paid quicker. Also, by extending the full payment period from 30 to 45 days, Mai would end up receiving its money even later from its slow payers.
LO 2 & 3 BT: AN Difficulty: H TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
14.
The gain on the sale of the plant represents a one-time gain. That is, it won’t be recurring next year. If you eliminate the effect of this one-time gain, then the company’s income actually declined by $5 million relative to the prior year. When predicting future earnings investors frequently place little weight on non-recurring events such as this.
LO 4 BT: AN Difficulty: Hard TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
15.
There are three distinguishing features in the income statement of a merchandising company: (1) a sales revenues section, (2) a cost of goods sold section, and (3) gross profit.
LO 4 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
16.
The normal operating cycle for a merchandising company is likely to be longer than for a service company because inventory must first be purchased and sold, and then the receivables must be collected.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
17.
Apple uses the term gross margin. Total gross margin increased by $6,564 million.
LO 4 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
18.
Of the merchandising accounts, only Inventory will appear in the post-closing trial balance.
LO 4 BT: K Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
19.
Businesses most likely to use a perpetual inventory system would include automobile dealerships, equipment supply companies, and other companies selling products having a high unit-value. With automation, perpetual systems are becoming increasingly cost-effective.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
20. Accounts Purchase Returns and Allowances Purchase Discounts Freight-In
(a) Added/Deducted Deducted Deducted Added
LO 5 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
(b) Normal Balance Credit Credit Debit
Questions Chapter 5 (Continued) 21.
(a) X = Purchase returns and allowances and Y = Purchase discounts, or vice versa. (b) X = Freight-in. (c) X = Cost of goods purchased. (d) X = Ending inventory.
LO 5 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
22. Profitability is affected by gross profit, as measured by the gross profit rate, and by management’s ability to control operating expenses, as measured by the profit margin. LO 6 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting
23. Factors affecting a company’s gross profit rate include selling products with a higher (or lower) “markup,” increased competition that results in lower selling prices, and price increases or decreases from suppliers. LO 6 BT: C Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
24. Gross profit represents the amount by which sales exceeds cost of goods sold. In order for the company to be profitable, gross profit must exceed the company’s operating expenses. Before the selling price is cut, the company should do a careful analysis estimating what its gross profit and operating expenses would be if more units were sold at a lower selling price. In addition, a big concern is what the likely reaction of competitors will be. If competitors also cut their price, then volume will not increase, and the company’s net income will be lower. LO 6 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA BC: Strategic Perspective
25. Mark Coney should calculate the company’s quality of earnings ratio. This is calculated by dividing net cash provided by operating activities by net income. A measure significantly below 1 would suggest that the company might be using aggressive accounting techniques to recognize income early. LO 6 BT: AN Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA PC: Decision Making
*26.
July 24
Accounts Payable ($1,900 – $400) .................................. Cash ($1,500 – $30) ............................................... Purchase Discounts ($1,500 x 2%).........................
1,500 1,470 30
LO 7 BT: AP Difficulty: Medium TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
*27. This adjustment requires two entries at the end of the period. The first entry requires a debit to Sales Returns and Allowances and a credit to Refund Liability for the selling price of the estimated returns. The second entry requires a debit to Estimated Inventory Returns and a credit to Cost of Goods Sold for the cost of the estimated returns. LO 8 BT: C Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
*28. The Refund Liability is a liability account. The Estimated Inventory Returns will generally be added to the Inventory account at the end of period. LO 8 BT: C Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 5.1 (a) Cost of goods available for sale = $80,000 + $100,000 = $180,000. (b) Ending inventory = $180,000 – $120,000 = $60,000. (Beg. Inv. + Purch. = Cost of gds. avail. for sale); ($80,000 + $100,000 = $180,000) (Cost of gds. avail. for sale – CGS = End. inv.); ($180,000 – $120,000 = $60,000)
(c) Purchases = $115,000 – $50,000 = $65,000. (d) Cost of goods sold = $115,000 – $35,000 = $80,000. (Cost of gds. avail. for sale – Beg. inv. = Purch.); ($115,000 – $50,000 = $65,000) (Cost of gds. avail. for sale – End. inv. = CGS); ($115,000 – $35,000 = $80,000)
(e) (f)
Beginning inventory = $160,000 – $110,000 = $50,000. Cost of goods sold = $160,000 – $29,000 = $131,000.
(Cost of gds. avail. for sale – Purch. = Beg. inv.); ($160,000 – $110,000 = $50,000) (Cost of gds. avail. for sale – End. inv. = CGS); ($160,000 – $29,000 = $131,000) LO1 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.2 (a) (b) (c) (d) (e) (f)
Cost of goods sold = $41,200 ($71,200 – $30,000). Operating expenses = $17,900 ($30,000 – $12,100). Gross profit = $38,000 ($108,000 – $70,000). Operating expenses = $8,500 ($38,000 (from c) – $29,500). Sales revenue = $181,500 ($71,900 + $109,600). Net income = $63,400 ($109,600 – $46,200).
LO 1, 4 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.3 Rita Company Inventory .............................................................. Accounts Payable ........................................
900
Linus Company Accounts Receivable........................................... Sales Revenue..............................................
900
Cost of Goods Sold ............................................. Inventory .......................................................
900
900 590 590
LO 2, 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.4 (a) March 2 2 (b)
6 6
(c)
12
Accounts Receivable ....................... Sales Revenue ........................
800,000
Cost of Goods Sold.......................... Inventory..................................
540,000
Sales Returns and Allowances ....... Accounts Receivable ..............
140,000
Inventory........................................... Cost of Goods Sold ................
94,000
Cash ($660,000 – $13,200) ............... Sales Discounts ($660,000 x 2%) .... Accounts Receivable ($800,000 – $140,000)..........
646,800 13,200
800,000 540,000 140,000 94,000
660,000
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.5 (a) (b) (c)
March 2 6 12
Inventory........................................... Accounts Payable ...................
800,000
Accounts Payable ............................ Inventory..................................
140,000
Accounts Payable ($800,000 – $140,000).................... Cash ($660,000 – $13,200) ...... Inventory ($660,000 x 2%) ......
800,000 140,000 660,000
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
646,800 13,200
BRIEF EXERCISE 5.6 BARTO COMPANY Income Statement (Partial) For the Month Ended October 31, 2025 Sales Sales revenue ($300,000 + $150,000) ..................... Less: Sales returns and allowances ..................... Sales discounts ............................................ Net sales ......................................................................
$450,000 $19,000 5,000
24,000 $426,000
LO 4 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.7 RANCID CORP. Income Statement For the Year Ended December 31, 2025 Sales Sales revenue .......................................................... Less: Sales returns and allowances ..................... Sales discounts ............................................ Net sales ...................................................................... Cost of goods sold ...................................................... Gross profit.................................................................. Operating expenses .................................................... Income from operations.............................................. Other revenues and gains........................................... Other expenses and losses ........................................ Income before income taxes ...................................... Income tax expense ($255,600 x 25%) ....................... Net income ...................................................................
$752,000 $10,000 3,600
22,600 (3,400)
13,600 738,400 286,000 452,400 216,000 236,400 19,200 255,600 63,900 $191,700
[(Sales rev. – (Sales rtns. & allow. + Sales disc.) – CGS – Oper. exp. + (Other rev. & gains – Other exp. & losses) – Inc. tax. exp. = Net inc.] [($752,000 – ($10,000 + $3,600) – $286,000 – $216,000 + ($22,600 – $3,400) – $63,900 = $191,700] LO 4 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.8 As the name suggests, numerous steps are required in determining net income in a multiple-step statement. Item
Section
Gain on disposal of plant assets Cost of goods sold Depreciation expense Sales returns and allowances
Other revenues and gains Cost of goods sold Operating expenses Sales
LO 4 BT: K Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 5.9 Beginning inventory.................................................. Add: Purchases....................................................... Cost of goods available for sale............................... Less: Ending inventory............................................ Cost of goods sold....................................................
$ 67,000 380,000 447,000 50,000 $397,000
(Beg. inv. + Purch. – End. inv. = CGS) ($67,000 + $380,000 – $50,000 = $397,000) LO 5 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.10 Purchases .................................................................. Less: Purchase returns and allowances ............... Purchase discounts ...................................... Net purchases ...........................................................
$404,000 $13,000 9,000
Net purchases ........................................................... Add: Freight-in .......................................................... Cost of goods purchased .........................................
22,000 $382,000 $382,000 16,000 $398,000
[Purch. – (Purch. rtns. & allow. + Purch. disc.) = Net purch.]; (Net purch. + Frt.-in = Cost of gds. purch.) [$404,000 – ($13,000 + $9,000) = $382,000]; ($382,000 + $16,000 = $398,000) LO 5 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.11 Net sales .................................................................... Beginning inventory.................................................. Add: Cost of goods purchased* ............................. Cost of goods available for sale............................... Less: Ending inventory ............................................ Cost of goods sold .................................................... Gross profit................................................................
$612,000 $ 60,000 398,000 458,000 90,000 368,000 $244,000
*Information taken from Brief Exercise 5.10. [Net sales – (Beg. inv. + Cost of gds. purch. – End. inv.) = Gross profit] [$612,000 – ($60,000 + $398,000 – $90,000) = $244,000] LO 5 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.12 (a) Profit margin = $32,500 ÷ $250,000 = 13.0% The profit margin measures the extent by which selling price covers all expenses. In this case 87% of sales revenues cover all expenses (cost of goods sold, operating expenses, and other expenses) leaving 13% of revenues as net income. Or, for every dollar of net sales, the company earns $0.13 in net income. (b) Gross profit rate = ($250,000 – $150,000) ÷ $250,000 = 40.0% The gross profit rate measures the margin by which selling price exceeds cost of goods sold. In this case, 40% of sales revenues remain (after deducting cost of goods sold) to cover all other expenses and produce net income. Or, for every dollar of net sales, the company generates $0.40 in gross profit. LO 6 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.13 (a) Profit margin = $68,000 ÷ $800,000 = 8.5% The profit margin measures the extent by which selling price covers all expenses. In this case, 91.5% of sales revenues cover all expenses (cost of goods sold and operating expenses) leaving 8.5% of revenues as net income. Or, for every dollar of net sales, the company earns $0.085 in net income. (b) Gross profit rate = ($800,000 – $520,000) ÷ $800,000 = 35.0% The gross profit rate measures the margin by which selling price exceeds cost of goods sold. In this case, 35% of sales revenues remain (after deducting cost of goods sold) to cover operating expenses and produce net income. Or, for every dollar of net sales, the company generates $0.35 in gross profit. LO 6 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 5.14 The quality of earnings ratio is calculated by dividing net cash provided by operating activities by net income. For Cabo Corporation this would be $224,900 ÷ $346,000 = 0.65. This is significantly less than 1, which suggests that the company may be using aggressive accounting techniques in order to recognize income early. The factors that are causing net income to differ from net cash provided by operating activities should be examined. LO 6 BT: C Difficulty: Medium TOT: 4 min. AACSB: None AICPA AC: Measurement
*BRIEF EXERCISE 5.15 (a) March 2 (b)
(c)
6
12
Purchases......................................... Accounts Payable ...................
800,000
Accounts Payable ............................ Purchase Returns and Allowances ...........................
95,000
Accounts Payable ($800,000 – $95,000) ...................... Cash ($705,000 – $14,100) ...... Purchase Discounts ($705,000 x 2%).....................
800,000
95,000 705,000 690,900 14,100
LO 7 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 5.16 Dec 31
Sales Returns and Allowances .............. Refund Liability ................................
1,400
Estimated Inventory Returns ................. Cost of Goods Sold..........................
650
LO 8 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
1,400 650
SOLUTIONS TO DO IT! EXERCISES DO IT! 5.1 1. 2. 3. 4.
True False. Under a perpetual inventory system, a company determines the cost of goods sold at each time a sale occurs. False. Both service and merchandising companies are likely to use accounts receivable. True.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
DO IT! 5.2 Oct. 5
Oct. 8
Inventory ........................................................................ 5,000 Accounts Payable............................................. (To record goods purchased on account) Accounts Payable ..................................................... Inventory ........................................................... (To record return of defective goods)
5,000
640 640
LO 2 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 5.3 Oct. 5
Oct. 8
Accounts Receivable .................................................... 5,000 Sales Revenue .................................................. (To record credit sales)
5,000
Cost of Goods Sold ....................................................... 3,000 Inventory ........................................................... (To record cost of goods sold)
3,000
Sales Returns and Allowances ................................ Accounts Receivable........................................ (To record credit granted for receipt of returned goods)
640
Inventory.................................................................... Cost of Goods Sold .......................................... (To record scrap value of goods returned)
240
640
240
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 5.4 BERLIN CORP. Income Statement For the Year Ended December 31, 2025 Sales Sales revenue .............................................. Less: Sales returns and allowances .......... Net sales............................................................. Cost of goods sold ............................................ Gross profit ........................................................ Operating expenses .......................................... Income from operations .................................... Other revenues and gains................................. Other expenses and losses .............................. Income before income taxes............................. Income tax expense ($209,400 x 30%).............. Net income .........................................................
$592,000 40,000 $552,000 156,000 396,000 186,000 210,000 12,700 (13,300)
(600) 209,400 62,820 $146,580
[(Sales rev. – Sales rtns. & allow.) – CGS – Oper. exp. + (Other rev. & gains – Other exp. & losses) – Inc. tax exp. = Net inc.] [($592,000 – $40,000) – $156,000 – $186,000 + ($12,700 – $13,300) – $62,820 = $146,580] LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 5.5 (a) Cost of goods purchased $161,400: Purchases – Purchase returns and allowances – Purchase discounts + Freight-in $162,500 – $3,600 – $5,900 + $8,400 (b) Cost of goods sold $165,170: Beginning inventory + Cost of goods purchased – Ending inventory $31,720 + $161,400 – $27,950 LO 5 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 5.6 2025 Gross profit rate ($150,000 – $90,000) = 40% $150,000
2024 ($120,000 – $72,000) = 40% $120,000
Profit margin
$22,000 ÷ $120,000 = 18.3%
$10,000 ÷ $150,000 = 6.7%
The company’s gross profit rate remained constant, however, its profit margin decreased significantly due to sharp increase in its operating costs as a percentage of sales. They increased from 13.3% of net sales ($16,000 ÷ $120,000) to 21.3% ($32,000 ÷ $150,000). LO 6 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 5.1 1. True. 2. False. For a merchandiser, sales revenue less cost of goods sold is called gross profit. 3. True. 4. True. 5. False. The operating cycle of a merchandiser differs from that of a service company. The operating cycle of a merchandiser is ordinarily longer. 6. False. In a periodic inventory system, no detailed inventory records of goods on hand are maintained. 7. True. 8. False. A perpetual inventory system provides better control over inventories than a periodic system. LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 5.2 (a) (1) April (2) April (3) April (4) April
5 6 7 8
(5) April 15
(b)
May 4
Inventory.......................................... Accounts Payable ...................
28,000
Inventory.......................................... Cash .........................................
700
Equipment ....................................... Accounts Payable ...................
30,000
Accounts Payable ........................... Inventory ..................................
3,600
Accounts Payable ($28,000 – $3,600)......................... Cash ($24,400 – $488) ............. Inventory [($28,000 – $3,600) x 2%]......
28,000 700 30,000 3,600 24,400
Accounts Payable ($28,000 – $3,600) 24,400 Cash .........................................
23,912 488
24,400
LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.3 April
3
6
7
8
30
Inventory............................................ Accounts Payable............................
28,000
Inventory............................................... Cash..................................................
700
Supplies ................................................ Accounts Payable............................
5,000
Accounts Payable ................................ Inventory ..........................................
3,500
Accounts Payable ($28,000 – $3,500) . Cash .................................................
24,500
28,000
700
5,000
3,500
24,500
LO 2 BT: AP Difficulty: Medium Time: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.4 April
3
Accounts Receivable ........................ Sales Revenue ..............................
28,000
Cost of Goods Sold........................... Inventory .......................................
19,000
28,000
19,000
6
No entry necessary - Freight costs paid by Olaf.
7
No entry necessary.
8
Sales Returns and Allowances ........ Accounts Receivable....................
3,500
Inventory............................................ Cost of Goods Sold ......................
2,300
Cash ................................................... Accounts Receivable ($28,000 – $3,500) ....................
24,500
30
3,500
2,300
24,500
LO 3 BT: AP Difficulty: Medium Time: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.5 (a) (1) Dec. 3
Accounts Receivable ................... Sales Revenue......................
500,000
Cost of Goods Sold ..................... Inventory ...............................
330,000
Sales Returns and Allowances ... Accounts Receivable ...........
25,000
Cash ($475,000 – $4,750) ............. Sales Discounts [($500,000 – $25,000) x 1%] ..... Accounts Receivable ($500,000 – $25,000) .........
470,250
Cash..................................................... Accounts Receivable ($500,000 – $25,000) ................
475,000
(2) Dec. 8 (3) Dec. 13
(b) Jan. 2
500,000 330,000 25,000
4,750 475,000
475,000
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.6 Sept. 6 9 10 12
Inventory ....................................................... Accounts Payable .................................
1,650
Inventory ....................................................... Cash .......................................................
50
Accounts Payable ......................................... Inventory................................................
66
Accounts Receivable.................................... Sales Revenue.......................................
690
Cost of Goods Sold ...................................... Inventory................................................
520
1,650 50 66 690 520
14
Sales Returns and Allowances ..................... Accounts Receivable .............................
45 45
EXERCISE 5.6 (Continued) 14 20
Inventory......................................................... Cost of Goods Sold ................................
34
Accounts Receivable ..................................... Sales Revenue ........................................
760
Cost of Goods Sold........................................ Inventory .................................................
570
34 760 570
LO 2, 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.7 (a) June 10 11 12 19
(b) June 10
Inventory.......................................... Accounts Payable ...........................
9,000
Inventory ................................................. Cash .................................................
400
9,000 400
Accounts Payable........................................ Inventory...............................................
600
Accounts Payable ($9,000 – $600).............. Cash ($8,400 – $252) ............................ Inventory ($8,400 x 3%)........................
8,400
Accounts Receivable ........................... Sales Revenue......................................
9,000
Cost of Goods Sold ..................................... Inventory...............................................
5,000
11
No entry
12
Sales Returns and Allowances ................... Accounts Receivable ...........................
600 8,148 252 9,000 5,000
600 600
Inventory ...................................................... Cost of Goods Sold .............................
310 310
EXERCISE 5.7 (Continued) June 19
Cash ($8,400 – $252) ............................ Sales Discounts ($8,400 x 3%).................... Accounts Receivable ($9,000 – $600)..................................
8,148 252 8,400
LO 2, 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.8 DOQE COMPANY Income Statement (Partial) For the Year Ended October 31, 2025 Sales Sales revenue .................................................... Less: Sales returns and allowances ............... Sales discounts ...................................... Net sales ....................................................................
$900,000 $22,000 13,500
Note: Freight-out is a selling expense. LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
35,500 $864,500
EXERCISE 5.9 ORLANDO CORPORATION Income Statement Year Ended December 31, 2025 Sales revenue.................................................................. Cost of goods sold ......................................................... Gross profit ..................................................................... Operating expenses Salaries and wages expense .................................... Depreciation expense ............................................... Advertising expense ................................................. Freight-out.................................................................. Insurance expense .................................................... Total operating expenses .................................... Income from operations ................................................. Other revenue and gains Interest revenue......................................................... Rent revenue.............................................................. Other expenses and losses ........................................... Interest expense ........................................................ Income before income taxes.......................................... Income tax expense........................................................ Net income ......................................................................
$2,589,500 1,172,000 1,417,500 $705,000 125,000 55,000 25,000 23,000 933,000 484,500 30,000 24,000
54,000 (62,000) 476,500 70,000 $ 406,500
(Sales rev. – Cost of goods sold – Oper. exp. = Inc. from oper.) (Inc. from oper. + Other rev. and gains – Other exp. and loss. – Inc. tax. exp. = Net inc.) LO 4 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.10 (a)
LIEU CO. Income Statement For the Month Ended January 31, 2025 Sales Sales revenue ............................................. Less: Sales returns and allowances ........ Sales discounts .............................. Net sales ..................................................... Cost of goods sold ............................................ Gross profit ........................................................ 130,000 Operating expenses Salaries and wages expense ..................... Rent expense.............................................. Insurance expense ..................................... Freight-out .................................................. Total operating expenses................... Income before income taxes ............................. Income tax expense........................................... Net income ......................................................... $ 14,000
$370,000 $20,000 8,000
28,000 342,000 212,000
60,000 32,000 12,000 7,000 111,000 19,000 5,000
[(Sales rev. – (Sales rtns. & allow. + Sales disc.)) – CGS – Oper. exp. – Inc. tax exp. = Net inc.] [($370,000 – ($20,000 + $8,000) – $212,000 – ($60,000 + $32,000 + $12,000 + $7,000) – $5,000 = $14,000]
(b) Profit margin =
$14,000 = 4.1% $342,000
Gross profit rate =
$130,000 = 38.0% $342,000
LO 4, 6 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.11 (a) Yoste Company Sales revenue ...................................................................... *(a)Sales returns and allowances ($90,000 – $84,000) ....... Net sales...............................................................................
$ 90,000 (6,000) $ 84,000
Net sales............................................................................... Cost of goods sold .............................................................. *(b)Gross profit .....................................................................
$ 84,000 (58,000) $ 26,000
Gross profit .......................................................................... Operating expenses ............................................................ *(c)Net income.......................................................................
$ 26,000 (14,380) $ 11,620
Noone Company *(d)Sales revenue ($100,000 + $5,000) ................................. Sales returns and allowances............................................. Net sales...............................................................................
$105,000 (5,000) $100,000
Net sales............................................................................... *(e)Cost of goods sold ($100,000 – $40,000) ....................... Gross profit ..........................................................................
$100,000 (60,000) $ 40,000
Gross profit .......................................................................... *(f)Operating expenses ($40,000 – $17,000) ........................ Net income ........................................................................... *Indicates missing amount
$ 40,000 (23,000) $ 17,000
(b)
Yoste
Noone
Profit margin
$11,620 ÷ $84,000 = 14%
$17,000 ÷ $100,000 = 17%
Gross profit rate
$26,000 ÷ $84,000 = 31%
$40,000 ÷ $100,000 = 40%
(c) Noone has a higher profit margin than Yoste. Each dollar of net sales by Noone results in 17 cents of net income compared to only 14 cents for Yoste. Noone also has a higher gross profit rate. For each dollar of Noone’s net sales, 60 cents is required to cover cost of goods sold leaving 40 cents to cover other expenses and produce net income. Yoste’s gross profit of .31 indicates that only 31 cents of each dollar of net sales is available to cover other expenses and produce net income.
LO 4, 6 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic, Communication AICPA AC: Reporting AICPA PC: Communication
EXERCISE 5.12 (a)
DARREN COMPANY Income Statement For the Year Ended December 31, 2025 Sales Sales revenue .............................. Less: Sales discounts................. Net sales.............................................. $2,050,000 Cost of goods sold ............................. Gross profit ......................................... Operating expenses Salaries and wages expense ...... Depreciation expense ................. Utilities expense.......................... Total operating expenses................... Income from operations ..................... Other revenues and gains Interest revenue .......................... Other expenses and losses Loss on disposal of plant assets .............................. Interest expense.......................... Income before income taxes.............. Income tax expense............................ Net income ..........................................
$2,210,000 160,000 987,000 1,063,000 465,000 310,000 110,000 885,000 178,000 65,000 (83,500) (71,000)
(154,500) 88,500 25,000 $ 63,500
[(Sales rev. – Sales disc.) – CGS – Oper. exp. + Int. rev. – (Loss on disp. of plant assets + Int. exp.) – Inc. tax exp. = Net inc.] [($2,210,000 – $160,000) – $987,000 – ($465,000 + $310,000 + $110,000) + $65,000 – ($83,500 + $71,000) – $25,000 = $63,500]
(b) Profit margin: $63,500 ÷ $2,050,000 = 3% Gross profit rate: $1,063,000 ÷ $2,050,000 = 52%
EXERCISE 5.12 (Continued) (c) During the current year Darren had a loss on the sale of plant assets of $83,500. This loss is not part of operating income, and it is most likely a non-recurring event, meaning that we wouldn’t expect it to happen again next year. If we ignore this loss, then Darren Company’s net income would have been $147,000 ($63,500 + $83,500) and its profit margin would have been 7.2% ($147,000 ÷ $2,050,000). Therefore, while the loss is not good news, it is less of a concern than a similar drop in income from operations. LO 4, 6 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.13 (a)
THE CLOROX COMPANY Income Statement For the Year Ended June 30, 2025 (in millions) Sales Sales revenue............................................... Less: Sales returns and allowances........... Net sales ............................................................. Cost of goods sold ............................................ Gross profit ........................................................ Operating expenses Advertising expense .................................. Salaries and wages expense ..................... Research and development expense........ Rent expense.............................................. Depreciation expense ................................ Utilities expense ......................................... Total operating expenses................... Income from operations .................................... Other expenses and losses Interest expense ......................................... Loss on disposal of plant assets .............. Income before income taxes ............................. Income tax expense ($811 x 34%)..................... Net income .........................................................
$5,730 280 $5,450 3,104 2,346 499 460 114 105 90 60 1,328 1,018 (161) (46)
(207) 811 276 $ 535
[(Sales rev. – Sales rtns. & allow.) – CGS – Oper. exp. – Other exp. & losses – Inc. tax exp. = Net inc.]
[($5,730 – $280) – $3,104 – ($499 + $460 + $114 + $105 + $90 + $60) – ($161 + $46) – $276 = $535]
EXERCISE 5.13 (Continued) (b) Gross profit rate: $2,346 ÷ $5,450 = 43.0% Profit margin: $535 ÷ $5,450 = 9.8% The gross profit rate indicates that about 57 cents of each dollar of net sales is required to cover the cost of goods sold, leaving about 43 cents to cover all remaining expenses and produce net income. The profit margin indicates that each dollar of net sales results in about 10 cents of net income. (c)
THE CLOROX COMPANY Income Statement For the Year Ended June 30, 2025 (in millions) Sales Sales revenue* ............................................ Sales returns and allowances** ................. Net sales...................................................... Cost of goods sold*** ........................................ Gross profit ........................................................ Operating expenses Advertising expense****............................. Salaries and wages expense ..................... Research and development expense........ Rent expense.............................................. Depreciation expense ................................ Utilities expense ......................................... Total operating expenses................... Income from operations .................................... Other expenses and losses Interest expense ......................................... Loss on disposal of plant assets .............. Income before income taxes ............................. Income tax expense ($1,,058 x 34%)................. Net income ......................................................... *$5,730 + (.25 x $5,730) **$280 + (.25 x $280) ***$3,104 + (.25 x $3,104) ****$499 + $340
$7,163 350 $6,813 3,880 2,933 $839 460 114 105 90 60 1,668 1,265 (161) (46)
(207) 1,058 360 $ 698
(Net sales – CGS – Oper. exp. – Other exp. & losses – Inc. tax exp. = Net inc.) [$6,813 – $3,880 – ($839 + $460 + $114 + $105 + $90 + $60) – ($161 + $46) - $360 = $698]
EXERCISE 5.13 (Continued) Gross profit rate: $2,933 ÷ $6,813 = 43.1% Profit margin: $698 ÷ $6,813 = 10.2% The gross profit rate remained nearly unchanged at 43.1%. This result would be expected since advertising expenses are not part of cost of goods sold. The profit margin increased from 9.8% to 10.2% because net income increased over 30% ($163 ÷ $535) while net sales rose only 25%. It appears that the marketing department’s plan has merit. If the expected increase in sales materializes, net income will increase $163 million ($698 – $535). LO 4, 6 BT: AN Difficulty: Hard TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.14 LAINE INC. Income Statement For the Year Ended December 31, 2025 Sales Sales revenue .......................................................$ 2,350,000 Less: Sales discounts .......................................... 150,000 Net sales ............................................................... $ 2,200,000 Cost of goods sold ............................................... 1,256,000 Gross profit........................................................... 944,000 Operating expenses ............................................. 725,000 Income from operations....................................... 219,000 Other revenue and gains Interest revenue.................................................... 33,000 Other expenses and losses Loss on disposal of plant assets ................. .. (17,000) Interest expense ............................................... (70,000) (87,000) Income before income taxes ............................... 165,000 Income tax expense ............................................. 47,000 Net income............................................................ $ 118,000 (Net sales – CGS – Oper. exp. + Other rev. & gains – Other exp. & losses – Inc. tax exp. = Net inc.) [$2,200,000 – $1,256,000 – $725,000 + $33,000 – ($17,000 + $70,000) – $47,000 = $118,000]
LO 4 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.15 BLUE DOOR CORPORATION Income Statement For the Year Ended December 31, 2025 Sales Sales revenue ......................................................... Less: Sales returns and allowances.................... Sales discounts ......................................... Net sales................................................................... Cost of goods sold .................................................. Gross profit .............................................................. Operating expenses: Salaries and wages expense................................ Depreciation expense........................................... Advertising expense............................................. Freight-out............................................................. Insurance expense ............................................... Total operating expenses................................... Income from operations ......................................... Other revenues and gains Interest revenue ................................................... Rent revenue ........................................................ Other expenses and losses Interest expense .................................................. Income before income taxes.................................. Income tax expense................................................ Net income ..............................................................
$2,400,000 $41,000 8,500
49,500 2,350,500 1,085,000 1,265,500
675,000 125,000 55,000 25,000 15,000 895,000 370,500 30,000 24,000
54,000 (70,000) 354,500 70,000 $284,500
[(Sales – (Sales rtns. & allow. + Sales disc.)) – CGS – Oper. exp. + Other rev. & gains – Other exp. & losses – Inc. tax exp. = Net inc.] [($2,400,000 – ($41,000 + $8,500)) – $1,085,000 – ($675,000 + $125,000 + $55,000 + $25,000 + $15,000) + ($30,000 + $24,000) – $70,000 – $70,000 = $284,500] LO 4 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.16 Inventory, September 1, 2024 ................................... Purchases .................................................................. Less: Purchase returns and allowances ................ Net purchases............................................................ Add: Freight-in ....................................................... Cost of goods purchased ......................................... Cost of goods available for sale............................... Inventory, August 31, 2025 ....................................... Cost of goods sold ............................................
$ 18,700 $154,000 5,000 149,000 8,000 157,000 175,700 (21,000) $154,700
[Beg. inv. + (Purch. – Purch. rtns. & allow. + Frt.-in) – End. inv. = CGS] [$18,700 + ($154,000 – $5,000 + $8,000) – $21,000 = $154,700] LO 5 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.17 (a) $1,420 ($1,500 – $80) (b) $1,550 (1,420 + $130) (c) $1,490 ($1,800 – $310) (d) $40 (e) $190 (f) $120
($1,080 – $1,040) ($1,230 – $1,040) ($1,350 – $1,230)
(g) (h) (i) (j) (k) (I)
$7,700 $640 $8,750
($290 + $7,410) ($8,050 – $7,410) ($700 + $8,050) OR ($7,600 + $1,150) $5,000 ($49,530 – $44,530 from (I)) $1,300 ($43,590 – $42,290) $44,530 ($42,290 + $2,240)
LO 5 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 5.18 (a) Earnings have high quality if they provide a full and transparent depiction of how a company performed. (b) One indicator of earnings quality is the quality of earnings ratio which is net cash provided by operating activities divided by net income. For Dorsett Corporation this is $23,103 ÷ $45,300 = .51. This is significantly lower than 1, which indicates that the company might be using aggressive accounting techniques in order to accelerate the recognition of net income.
EXERCISE 5.18 (Continued) (c) In order to identify potential aggressive accounting techniques one should examine the factors that are causing net income to differ from net cash provided by operating activities. Many of these differences would be due to adjusting entries used for accrual accounting. The fact that the company’s Accounts Receivable balance is increasing so rapidly is a possible concern because it might suggest that the company is recording credit sales that really aren’t sales. For example, it might be shipping goods to customers that the customer didn’t order. This would cause sales to increase, but since the customers probably won’t ever pay, it would cause the balance in Accounts Receivable to build up. LO 6 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
*EXERCISE 5.19 (a) (1) April 5 (2) April 6 (3) April 7 (4) April 8
(5) April 15
(b)
May 4
Purchases .......................................... Accounts Payable ....................
27,000
Freight-In............................................ Cash ..........................................
1,200
Equipment.......................................... Accounts Payable ....................
30,000
Accounts Payable.............................. Purchase Returns and Allowances ............................
3,600
Accounts Payable ($27,000 – $3,600) ........................... Cash ($23,400 – $468) .............. Purchase Discounts [($27,000 – $3,600) x 2%]....... Accounts Payable ($27,000 – $3,600) ........................... Cash ..........................................
27,000 1,200 30,000
3,600
23,400 22,932 468 23,400
LO 7 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
23,400
*EXERCISE 5.20 2025 Dec. 31 Sales Returns and Allowances........................... Refund Liability ................................................ 4,700
4,700
Estimated Inventory Returns ............................. Cost of Goods Sold..........................................
1,870
Refund Liability .................................................. Accounts Receivable ......................................
4,700
1,870
2026 Jan. 17
Inventory ............................................................. Estimated Inventory Returns........................... LO 7 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
4,700 1,870 1,870
SOLUTIONS TO PROBLEMS PROBLEM 5.1
(a) General Journal Date May 1
Account Titles Inventory
Debit 8,000
Credit 8,000
Accounts Payable 2
Accounts Receivable
4,400 4,400
Sales Revenue 3,300 3,300 Cost of Goods Sold Inventory 5
Accounts Payable
200 200
Inventory 9
Cash ($4,400 – $88)
4,312 88
Sales Discounts ($4,400 x 2%)
4,400
Accounts Receivable 10
Accounts Payable ($8,000 – $200) Cash Inventory ($7,800 x 1%)
7,800 7,722 78
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11
Supplies
900 900
Cash 12
Inventory
3,100 3,100
Cash 15
Cash
230 230
Inventory 17
Inventory
2,500 2,500
Accounts Payable
PROBLEM 5.1 (Continued) General Journal Date May 19
Account Titles Inventory
Debit 250
Credit 250
Cash
24
Cash
5,500 5,500
Sales Revenue 4,100 4,100 Cost of Goods Sold Inventory 25
Inventory
800 800
Accounts Payable
27
Accounts Payable
2,500 2,450 50
Cash Inventory ($2,500 x 2%) 29
Sales Returns and Allowances
92 92
Cash 70 70 Inventory Cost of Goods Sold
31
Accounts Receivable
1,280 1,280
Sales Revenue 762 762 Cost of Goods Sold Inventory
PROBLEM 5.1 (Continued) (b) 5/1 Bal. 5/9 5/15 5/24
5/31 Bal.
Cash 8,000 5/10 4,312 5/11 230 5/12 5,500 5/19 5/27 5/29 3,528
7,722 900 3,100 250 2,450 92
Accounts Receivable 5/2 4,400 5/9 4,400 5/31 1,280 5/31 Bal. 1,280
5/31 Bal.
Inventory 8,000 5/2 3,100 5/5 2,500 5/10 250 5/15 800 5/24 70 5/27 5/31 6,000
5/11 5/31 Bal.
Supplies 900 900
5/1 5/12 5/17 5/19 5/25 5/29
5/5 5/10 5/27
Accounts Payable 200 5/1 7,800 5/17 2,500 5/25 5/31 Bal.
3,300 200 78 230 4,100 50 762
8,000 2,500 800 800
Common Stock 5/1 Bal. 8,000 5/31 Bal. 8,000 Sales Revenue 5/2 4,400 5/24 5,500 5/31 1,280 5/31 Bal. 11,180 Sales Returns and Allowances 5/29 92 5/31 Bal. 92 Sales Discounts 5/9 88 5/31 Bal. 88 Cost of Goods Sold 5/2 3,300 5/29 5/24 4,100 5/31 762 5/31 Bal. 8,092
70
PROBLEM 5.1 (Continued) (c)
WINTERS HARDWARE STORE Income Statement (Partial) For the Month Ended May 31, 2025 Sales Sales revenue .................................................... Less: Sales returns and allowances ............... Sales discounts...................................... Net sales .................................................................... Cost of goods sold ................................................... Gross profit ...............................................................
$11,180 $92 88
[(Sales rev. – (Sales rtns. & allow. + Sales disc.)) – CGS = Gross profit] [($11,180 – ($92 + $88)) – $8,092 = $2,908]
(d) Profit margin: ($2,908 – $1,408) ÷ $11,000 = 13.6% Gross profit rate: $2,908 ÷ $11,000 = 26.4% LO 2-4, 6 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
180 11,000 8,092 $ 2,908
PROBLEM 5.2
June 1 3
6 9
15 17
20 24
Inventory.............................................................. Accounts Payable........................................
1,040
Accounts Receivable .......................................... Sales Revenue .............................................
1,200
Cost of Goods Sold............................................. Inventory ......................................................
720
Accounts Payable ............................................... Inventory ......................................................
40
Accounts Payable ($1,040 – $40) ....................... Cash ............................................................. Inventory ($1,000 x .02) ...............................
1,000
Cash ..................................................................... Accounts Receivable ..................................
1,200
Accounts Receivable .......................................... Sales Revenue .............................................
1,200
Cost of Goods Sold............................................. Inventory ......................................................
730
Inventory.............................................................. Accounts Payable........................................
700
Cash ..................................................................... Sales Discounts ($1,200 x .02) ........................... Accounts Receivable ..................................
1,176 24
1,040 1,200 720 40 980 20 1,200 1,200 730 700
1,200
PROBLEM 5.2 (Continued) June 26
28
30
Accounts Payable ............................................... Cash.............................................................. Inventory (700 x .01) ....................................
700
Accounts Receivable .......................................... Sales Revenue .............................................
1,300
Cost of Goods Sold............................................. Inventory ......................................................
780
Sales Returns and Allowances........................... Accounts Receivable...................................
130
Inventory.............................................................. Cost of Goods Sold .....................................
80
693 7 1,300 780
LO 2, 3 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
130 80
PROBLEM 5.3
(a) General Journal Date Apr. 5
Account Titles Inventory
Debit 1,500
Credit 1,500
Accounts Payable 7
Inventory
80 80
Cash 9
Accounts Payable
200 200
Inventory 10
Accounts Receivable
1,340 1,340
Sales Revenue 820 820 Cost of Goods Sold Inventory 12
Inventory
830 830
Accounts Payable 14
Accounts Payable ($1,500 – $200) Cash Inventory ($1,300 x 3%)
1,300 1,261 39
17
Accounts Payable
30 30
Inventory 20
Accounts Receivable
810 810
Sales Revenue 550 550 Cost of Goods Sold Inventory 21
Accounts Payable ($830 – $30) Cash Inventory ($800 x 1%)
800 792 8
PROBLEM 5.3 (Continued) Date Apr. 27
Account Titles Sales Returns and Allowances
Debit 80
Credit 80
Accounts Receivable 30
Cash
1,220 1,220
Accounts Receivable
(b) 4/1 Bal. 4/30 4/30 Bal.
Cash 2,500 4/7 1,220 4/14 4/21 1,587
80 1,261 792
4/1 Bal. 4/5 4/7 4/12
4/30 Bal.
Accounts Payable 4/1 Bal. 6,000 4/30 Bal. 6,000
30 800 4/30 Bal.
0
Common Stock
Accounts Receivable 4/10 1,340 4/27 80 4/20 810 4/30 1,220 4/30 Bal. 850
Inventory 3,500 4/9 1,500 4/10 80 4/14 830 4/17 4/20 4/21 4,263
4/17 4/21
200 820 39 30 550 8
Sales Revenue 4/10 4/20 4/30 Bal.
1,340 810 2,150
Sales Returns and Allowances 4/27 80 4/30 Bal. 80
Cost of Goods Sold 4/10 820 4/20 550 4/30 Bal. 1,370
4/9 4/14
200 4/5 1,300 4/12
1,500 830
(c)
GRANITE HILLS PRO SHOP Trial Balance April 30, 2025 Cash........................................................................ Accounts Receivable............................................. Inventory ................................................................ Common Stock ...................................................... Sales Revenue ....................................................... Sales Returns and Allowances ............................. Cost of Goods Sold ...............................................
Debit $1,587 850 4,263
Credit
6,000 2,150 80 1,370 $8,150
$8,150
[(Cash + Accts. rec. + Inv. + Sales rtns. & allow. + CGS) = (Common stk. + Sales rev.)] [($1,587 + $850 + $4,263 + $80 + $1,370) = ($6,000 + $2,150)]
(d)
GRANITE HILLS PRO SHOP Income Statement (Partial) For the Month Ended April 30, 2025 Sales Sales revenue ..................................................................... Less: Sales returns and allowances ................................ Net sales..................................................................................... Cost of goods sold .................................................................... Gross profit ................................................................................
[(Sales – Sales rtns. & allow.) – CGS = Gross profit] [($2,150 – $80) – $1,370 = $700] LO 2-4 BT: AP Difficulty: Medium TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
$2,150 80 2,070 1,370 $ 700
PROBLEM 5.3 (Continued) PROBLEM 5.4
(a)
WOLFORD DEPARTMENT STORE Income Statement For the Year Ended November 30, 2025 Sales Sales revenue .................................. Less: Sales returns and allowances............................ Net sales ................................................. Cost of goods sold .................................. Gross profit.............................................. Operating expenses Salaries and wages expense .......... Rent expense................................... Advertising expense ....................... Depreciation expense ..................... Utilities expense .............................. Insurance expense .......................... Freight-out ....................................... Total operating expenses....... Income from operations.......................... Other revenues and gains Gain on disposal of plant assets.... Other expenses and losses Interest expense .............................. Income before income taxes .................. Income tax expense ................................ Net income ...............................................
$904,000 20,000 884,000 614,380 269,620 $117,000 34,000 33,500 13,500 10,600 9,000 6,200 223,800 45,820 2,000 5,112
(3,112) 42,708 10,000 $ 32,708
[(Sales rev. – Sales rtns. & allow.) – CGS – Oper. exp. + (Other rev. & gains – Other exp. & losses) – Inc. tax exp. = Net inc.] [($904,000 – $$20,000) - $614,380 – ($117,000 + $34,000 + $33,500 + $13,500 + $10,600 + $9,000 + $6,200) + ($2,000 – $5,112) – $10,000 = $32,708]
WOLFORD DEPARTMENT STORE Retained Earnings Statement For the Year Ended November 30, 2025 Retained earnings, December 1, 2024 ..................................... Add: Net income ..................................................................... Less: Dividends ....................................................................... Retained earnings, November 30, 2025 ...................................
$14,200 32,708 46,908 12,000 $34,908
(Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($14,200 + $32,708 – $12,000 = $34,908)
WOLFORD DEPARTMENT STORE Balance Sheet November 30, 2025 Assets Current assets Cash...................................................... $ 8,000 Accounts receivable............................ 17,008 Inventory .............................................. 26,200 Prepaid insurance................................ 6,000 Total current assets...................... $ 57,208 Property, plant, and equipment Equipment ............................................ $157,000 Less: Accumulated depreciation— equipment................................. 68,000 89,000 Total assets................................... $146,208
PROBLEM PROBLEM 5.4 (Continued) 5.4 (Continued) WOLFORD DEPARTMENT STORE Balance Sheet (Continued) November 30, 2025 Liabilities and Stockholders’ Equity Current liabilities Accounts payable................................................. $26,800 Salaries and wages payable ................................ 6,000 Total current liabilities .............................. Long-term liabilities Note payable due 2029 .................................... Total liabilities ........................................... Stockholders’ equity Common stock ................................................. 35,000 Retained earnings ............................................ 34,908 Total stockholders’ equity ........................ Total liabilities and stockholders’ equity ......................................................
$ 32,800 43,500 76,300
69,908 $146,208
[((Cash + Accts. rec. + Inv. + Prepd. ins.) + (Equip. – Accum. depr.-equip.)) = ((Accts. pay. + Sal. & wages pay.) + Note pay. + (Common stk. + Ret. earn.))] [(($8,000 + $17,008 + $26,200 + $6,000) + ($157,000 – $68,000)) = (($26,800 + $6,000) + $43,500 + ($35,000 + $34,908))]
(b) Profit margin: $32,708 ÷ $884,000 = 3.7% Gross profit rate: $269,620 ÷ $884,000 = 30.5% (c) Revised net income = Current net income + increase in gross profit – increase in operating expenses $15,249 = $32,708 + $40,443 – $57,902 Revised net sales = Current net sales + (.15 x current net sales) $1,016,600 = $884,000 + $132,600 Revised gross profit = Current gross profit + $40,443 $310,063 = $269,620 + $40,443 Revised profit margin: $15,249 ÷ $1,016,600 = 1.5%
Revised gross profit rate: $310,063 ÷ $1,016,600 = 30.5% This plan increased net sales and gross profit but did not change the gross profit rate. This is not surprising since the proposed change affects selling expenses rather than cost of goods sold. An increase in sales would increase the dollar amount of cost of goods sold but not cost of goods sold as a percentage of sales dollars. The plan decreased net income by $17,459 ($32,708 – $15,249) or 53.4%. Since net sales increased 15% and net income decreased 53.4%, the profit margin decreased from 3.7% to 1.5%. A 53.4% decrease in net income combined with the smaller profit margin indicates that the proposal should not be adopted. LO 4, 6 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 5.5 PROBLEM 5.4 (Continued) SIMON COMPANY Income Statement For the Year Ended December 31, 2025 Sales Sales revenue....................................... Less: Sales returns and allowances ................................ Sales discounts ........................ Net sales ............................................... Cost of goods sold ...................................... Gross profit.................................................. Operating expenses Salaries and wages expense* ............. Freight-out............................................ Rent expense ($24,000 – $6,000)......... Advertising expense ............................ Utilities expense .................................. Depreciation expense .......................... Total operating expenses ............ Income from operations.............................. Other revenues and gains Rent revenue ........................................ Other expenses and losses Interest expense .................................. Income before income taxes ...................... Income tax expense .................................... Net income ...................................................
$911,000 $28,000 18,000
46,000 865,000 555,000 310,000
136,000 33,000 18,000 13,000 12,000 10,000 222,000 88,000 4,000 2,000
2,000 90,000 22,500 $ 67,500
*($80,000 + $6,000 + $3,000 + $47,000) [(Sales rev. – (Sales rtns. & allow. + Sales disc.)) – CGS – Oper. exp. + (Other rev. & gains – Other exp. & losses) – Inc. tax exp. = Net inc.] [($911,000 – ($28,000 + $18,000)) – $555,000 – ($136,000 + $33,000 + $18,000 + $13,000 + $12,000 + $10,000) + ($4,000 – $2,000) – $22,500 = $67,500] LO 4 BT: AP Difficulty: Hard TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 5.6
(a) Dec. 31
31 31
Depreciation Expense .............................. Accumulated Depreciation— Buildings ....................................... Accumulated Depreciation— Equipment .....................................
15,000
Interest Expense ...................................... Interest Payable ................................
4,500
Income Tax Expense................................ Income Taxes Payable .....................
24,000
8,000 7,000 4,500 24,000
(b) Accumulated Depreciation—Buildings 12/31 Bal. 60,000 12/31 8,000 12/31 Bal. 68,000 Accumulated Depreciation—Equipment 12/31 Bal. 40,500 12/31 7,000 12/31 Bal. 47,500 Depreciation Expense 12/31 15,000 12/31 Bal. 15,000
Interest Expense 12/31 4,500 12/31 Bal. 4,500 Interest Payable 12/31 4,500 12/31 Bal. 4,500 Income Tax Expense 12/31 24,000 12/31 Bal. 24,000 Income Taxes Payable 12/31 24,000 12/31 Bal. 24,000
Adjusted Trial Balance December 31, 2025 Cash ............................................................ Accounts Receivable ................................. Inventory..................................................... Land ............................................................ Buildings .................................................... Accumulated Depreciation— Buildings................................................. Equipment .................................................. Accumulated Depreciation— Equipment .............................................. Notes Payable ............................................ Accounts Payable ...................................... Interest Payable ......................................... Income Taxes Payable ............................... Common Stock........................................... Retained Earnings...................................... Dividends.................................................... Sales Revenue............................................ Sales Discounts ......................................... Cost of Goods Sold.................................... Salaries and Wages Expense .................... Utilities Expense ........................................ Maintenance and Repairs Expense .......... Advertising Expense.................................. Insurance Expense .................................... Depreciation Expense................................ Income Tax Expense.................................. Interest Expense ........................................ Totals...................................................
Debit $ 31,400 37,600 70,000 92,000 200,000
Credit
$
68,000
83,500 47,500 54,700 17,500 4,500 24,000 160,000 67,200 10,000 922,100 6,000 709,900 51,300 11,400 8,900 5,200 4,800 15,000 24,000 4,500 $1,365,500
$1,365,500
[(Cash + Accts. rec. + Inv. + Land + Bldgs. + Equip. + Div. + Sales disc. + CGS + Sal. & wages exp. + Util. exp. + Maint. & repairs exp. + Advert. exp. + Ins. exp. + Depr. exp. + Inc. tax exp. + Int. exp.) = (Accum. depr.-bldgs. + Accum. depr.-equip. + Notes pay. + Accts. pay. + Int. pay. + Inc. taxes pay. + Common stk. + Ret. earn. + Sales rev.)]
+ $37,600 + $70,000 + $92,000 + $200,000 + $83,500 + $10,000 + $6,000 + $709,900 + $51,300 + PROBLEM [($31,400 5.6 (Continued) $11,400 + $8,900 + $5,200 + $4,800 + $15,000 + $24,000 + $4,500) = ($68,000 + $47,500 + $54,700 + $17,500
(c)
+ $4,500 +PEOPLE’S $24,000 + $160,000 + $67,200 + $922,100)] CHOICE WHOLESALE COMPANY
Income Statement For the Year Ended December 31, 2025 Sales Sales revenue ............................................. Less: Sales discounts............................... Net sales ..................................................... Cost of goods sold ............................................ Gross profit ........................................................ Operating expenses Salaries and wages expense ..................... Depreciation expense ................................ Utilities expense ......................................... Maintenance and repairs expense ............ Advertising expense .................................. Insurance expense ..................................... Total operating expenses................... Income from operations .................................... Other expenses and losses Interest expense ......................................... Income before income taxes............................. Income tax expense........................................... Net income .........................................................
$922,100 6,000 916,100 709,900 206,200 $51,300 15,000 11,400 8,900 5,200 4,800 96,600 109,600 4,500 105,100 24,000 $ 81,100
[(Sales rev. – Sales disc.) – CGS – Oper. exp. – Other exp. & losses – Inc. tax exp. = Net inc.] [($922,100 – $6,000) – $709,900 – ($51,300 + $15,000 + $11,400 + $8,900 + $5,200 + $4,800) – $4,500 – $24,000 = $81,100]
PEOPLE’S CHOICE WHOLESALE COMPANY Retained Earnings Statement For the Year Ended December 31, 2025 Retained earnings, January 1 ............................................... Add: Net income .................................................................. Less: Dividends .................................................................... Retained earnings, December 31.......................................... (Beg. ret. earn. + Net inc. – Div. = End. ret. earn.) ($67,200 + $81,100 – $10,000 = $138,300)
$ 67,200 81,100 148,300 10,000 $138,300
5.6 (Continued) PROBLEM PROBLEM 5.6 (Continued) (d)
PEOPLE’S CHOICE WHOLESALE COMPANY PEOPLE’S CHOICE WHOLESALE COMPANY Balance Sheet December 31, 2025 Assets Current assets Cash ............................................... Accounts receivable ..................... Inventory ........................................ Total current assets................ Property, plant, and equipment Land ............................................... Buildings........................................ Less: Accum. depreciation— buildings............................. Equipment...................................... Less: Accum. depreciation— equipment .......................... Total assets.............................
$ 31,400 37,600 70,000 $139,000 92,000 $200,000 68,000 83,500
132,000
47,500
36,000
Liabilities and Stockholders’ Equity Current liabilities Notes payable.................................................. $ 15,000 Accounts payable ........................................... 17,500 Income taxes payable ..................................... 24,000 Interest payable ................................................... 4,500 Total current liabilities.............................. Long-term liabilities Notes payable ($54,700 – $15,000)................. Total liabilities............................................ Stockholders’ equity Common stock ................................................. 160,000 Retained earnings ............................................ 138,300 Total stockholders’ equity ........................ Total liabilities and stockholders’ equity .......................................................
260,000 $399,000
$ 61,000 39,700 100,700
298,300 $399,000
[((Cash + Accts. rec. + Inv.) + (Land + (Bldgs. – Accum. depr.-bldgs.) + (Equip. – Accum. depr.-equip.))) = ((Notes pay. + Accts pay. + Inc. tax. pay. + Int. pay.) + Notes pay. + (Common stk. + Ret. earn.))] [($31,400 + $37,600 + $70,000) + ($92,000 + ($200,000 – $68,000) + ($83,500 – $47,500))) = (($15,000 + $17,500 + $24,000 + $4,500) + $39,700 + ($160,000 + $138,300))]
LO 4 BT: AP Difficulty: Medium TOT: 60 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 5.7 OATES DEPARTMENT STORE Income Statement (Partial) For the Year Ended November 30, 2025 Sales Sales revenue ......................... Less: Sales returns and allowances ................... Net sales.................................. Cost of goods sold Inventory, Dec. 1, 2024 ........... Purchases ............................... Less: Purchase discounts .... Purchase returns and allowances............ Net purchases......................... Add: Freight-in ..................... Cost of goods purchased....... Cost of goods available for sale...................................... Less: Inventory, Nov. 30, 2025 .............. Cost of goods sold .......... Gross profit.................................... $272,600
$902,000 20,000 882,000 $ 41,300 $613,000 $7,000 6,760
13,760 599,240 5,060 604,300 645,600 36,200 609,400
[(Sales rev. – Sales rtns. & allow.) – (Beg. inv. + (Purch. – (Purch. disc. + Purch. rtns. & allow.) + Frt.-in) – End. inv.) = Gross profit] [($902,000 – $20,000) – ($41,300 + ($613,000 – ($7,000 + $6,760) + $5,060) – $36,200) = $272,600] LO 4, 5 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
(a) (a) Cost of goods sold = Sales revenue – Gross profit = $97,000 – $67,900 = $29,100 (b) Net income = Gross profit – Operating expenses = $67,900 – $63,050 = $4,850 (c) Merchandise inventory = 2023 Inventory + Purchases – CGS = $13,000 + $25,890 – $29,100 = $9,790 (d) Cash payments to suppliers = 2023 Accounts payable + Purchases – 2024 Accounts payable = $5,800 + $25,890 – $6,500 = $25,190 (e) Sales revenue = Cost of goods sold + Gross profit = $28,160 + $59,840 = $88,000 (f) Operating expenses = Gross profit – Net income = $59,840 – $3,520 = $56,320 (g) 2024 Inventory + Purchases – 2025 Inventory = CGS Purchases = CGS – 2024 Inventory + 2025 Inventory = $28,160 – $9,790 [from (c)] + $14,700 = $33,070 (h) Cash payments to suppliers = 2024 Accounts payable + Purchases – 2025 Accounts Payable = $6,500 + $33,070 [from (g)] – $4,600 = $34,970 (i) Gross profit = Sales revenue – CGS = $82,000 – $27,060 = $54,940 (j) Net income = Gross profit – Operating expenses = $54,940 – $52,480 = $2,460
PROBLEM 5.8 (Continued)
PROBLEM 5.8
(k) 2025 Inventory + Purchases – 2026 Inventory = CGS 2026 Inventory = 2025 Inventory + Purchases – CGS = $14,700 + $24,050 – $27,060 = $11,690 (I) 2026 Accounts payable = 2025 Accounts payable + Purchases – Cash payments = $4,600 + $24,050 – $24,650 = $4,000 (Sales revenue – Cost of goods sold – Operating expenses = Net income; Beginning inventory + Purchases of inventory on account – Ending inventory = Cost of goods sold)
(b) No. A decline in sales does not necessarily mean that profitability declined. Profitability is affected by sales, cost of goods sold and operating expenses. If cost of goods sold or operating expenses decline more than sales, profitability can increase even when sales decline. However, in this particular case, sales declined with insufficient offsetting cost savings to improve profitability. Therefore, profitability declined for Zhou Inc.
Gross profit rate Profit margin
2024 2025 $67,900 ÷ $97,000 $59,840 ÷ $88,000 = 70.0% = 68.0%
2026 $54,940 ÷ $82,000 = 67.0%
$4,850 ÷ $97,000 = 5.0%
$2,460 ÷ $82,000 = 3.0%
$3,520 ÷ $88,000 = 4.0%
LO 4-6 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
(a) Date Apr.
General Journal Account Titles and Explanation 5 Purchases
Debit 1,500
Accounts Payable
7 Freight-In
1,500
80
Cash 9 Accounts Payable
Credit
80 200
Purchase Returns and Allowances 200 10 Accounts Receivable
1,340
Sales Revenue 12 Purchases
1,340 830
Accounts Payable 14 Accounts Payable ($1,500 – $200) Cash ($1,300 – $39)
830 1,300 1,261
Purchase Discounts 39
(1,300 x 3%)
*PROBLEM 5.9
17 Accounts Payable
30
Purchase Returns and Allowances 30 20 Accounts Receivable
810
Sales Revenue 21 Accounts Payable ($830 – $30) Cash ($800 – $8)
810 800 792
Purchase Discounts ($800 x 1%) 8
Date Apr.
Account Titles and Explanation 27 Sales Returns and Allowances
Debit 80
Accounts Receivable
Credit
80
30 Cash ..................................................................... Accounts Receivable
1,220 1,220
(b) Cash 4/1 Bal. 2,500 4/7 4/30 1,220 4/14 4/21 4/30 Bal. 1,587
80 1,261 792
Accounts Receivable 4/10 1,340 4/27 80 4/20 810 4/30 1,220 4/30 Bal. 850 Inventory 4/1 Bal. 3,500 4/30 Bal. 3,500
4/9 4/14 4/17 4/21
Accounts Payable 200 4/5 1,300 4/12 30 800 4/30 Bal.
1,500 830
0
Common Stock 4/1 Bal. 6,000 4/30 Bal. 6,000 Sales Revenue 4/10 1,340 4/20 810 4/30 Bal. 2,150 Sales Returns and Allowances 4/27 80 4/30 Bal. 80 Purchases 4/5 1,500 4/12 830 4/30 Bal. 2,330
*PROBLEM*PROBLEM 5.9 (Continued) 5.9 (Continued) Purchase Returns and Allowances 4/9 200 4/17 30 4/30 Bal. 230
Purchase Discounts 4/14 4/21 4/30 Bal.
4/7 4/30 Bal.
39 8 47
Freight-In 80 80
(c) GRANITE HILLS PRO SHOP Trial Balance April 30, 2025 Debit Cash .................................................................. Accounts Receivable ....................................... Inventory ........................................................... Common Stock ................................................. Sales Revenue .................................................. Sales Returns and Allowances........................ Purchases ......................................................... Purchase Returns and Allowances ................. Purchase Discounts ......................................... Freight-In...........................................................
Credit
$1,587 850 3,500 $6,000 2,150 80 2,330 230 47 80 $8,427
$8,427
[(Cash + Accts. rec. + Inv. + Sales rtns. & allow. + Purch. + Frt.-in) = (Common stk. + Sales rev. + Purch. rtns. & allow. + Purch. disc.)] [($1,587 + $850 + $3,500 + $80 + $2,330 + $80) = ($6,000 + $2,150 + $230 + $47)]
(d) GRANITE HILLS PRO SHOP Income Statement (Partial) For the Month Ended April 30, 2025 Sales Sales revenue .......................... Less: Sales returns and allowances.................... Net sales .................................. Cost of goods sold Inventory, April 1 ..................... Purchases ................................ Less: Purchase returns and allowances ............ Purchase discounts..... Net purchases ......................... Add: Freight-in ...................... Cost of goods purchased ....... Cost of goods available for sale........................................ Less: Inventory, April 30 ....... Cost of goods sold .............. Gross profit .............................
$2,150 80 2,070 $3,500 $2,330 $230 47
277 2,053 80 2,133 5,633 4,263 1,370 $ 700
[(Sales rev. – Sales rtns. & allow.) – (Beg. inv. + (Purch. – (Purch. rtns. & allow. + Purch. disc.) + Frt.in) – End. inv.) = Gross profit] [($2,150 – $80) – ($3,500 + ($2,330 – ($230 + $47) + $80) – $4,263) = $700] LO 5, 7 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 5.9 (Continued) CC5 CONTINUING CASE: COOKIE CREATIONS (a)
Responses to Natalie’s questions 1.
The mixers should be classified as inventory as they are for resale.
2.
A perpetual inventory system will provide better control over inventory. Because you are dealing with high value items you should use the perpetual system.
3.
You still need to count inventory to ensure that your records are accurate and that the inventory that is supposed to be on hand is actually there. I suggest that you count inventory once a year.
(b) Date Jan. 4 6 7 8 12 12 13 14
General Journal Account Titles and Explanation Inventory ................................................... Accounts Payable ..............................
Debit 2,750
Credit 2,750
Inventory ................................................... Cash ....................................................
100
Accounts Payable [($2,750 ÷ 5) + $20] .... Inventory.............................................
570
Cash .......................................................... Accounts Receivable .........................
450
Accounts Receivable ............................... Sales Revenue....................................
3,300
Cost of Goods Sold ($570 x 3)................. Inventory.............................................
1,710
Accounts Payable .................................... Cash ....................................................
75
Freight-Out................................................ Cash ....................................................
75
100 570 450 3,300 1,710 75 75
CC5 (Continued) (b) (Continued) Date Jan. 14 17 18 20 20 28
28 31
31
General Journal Account Titles and Explanation Inventory .................................................. Accounts Payable.............................
Debit 2,200
2,200
Cash ......................................................... Common Stock .................................
1,000
Inventory .................................................. Cash...................................................
80
Cash ......................................................... Sales Revenue ..................................
2,200
Cost of Goods Sold ($570 x 2) ................ Inventory ...........................................
1,140
Salaries and Wages Expense (20 x $8) .. Salaries and Wages Payable .................. Cash...................................................
160 56
Cash ......................................................... Accounts Receivable........................
3,300
Accounts Payable ($2,750 – $570 + $2,200) ....................... Cash................................................... Dividends ................................................. Cash...................................................
Credit
1,000 80 2,200 1,140
216 3,300 4,380 4,380 750 750
CC5 (Continued)
(b) and (d) Cash Date Jan. 1 6 8 13 14 17 18 20 28 28 31 31
Date Jan. 1 8 12 28
Explanation Balance
Debit
Credit 100
450 75 75 1,000 80 2,200 216 3,300 4,380 750
Explanation Balance
Accounts Receivable Debit
Credit 450
3,300 3,300
Balance 1,340 1,240 1,690 1,615 1,540 2,540 2,460 4,660 4,444 7,744 3,364 2,614
Balance 1,450 1,000 4,300 1,000
Inventory Date Jan. 4 6 7 12 14 18 20
Explanation
Debit 2,750 100
Credit
570 1,710 2,200 80 1,140
Balance 2,750 2,850 2,280 570 2,770 2,850 1,710
CC5 (Continued) (b) and (d) (Continued) Supplies Date Jan. 1
Explanation Balance
Debit
Credit
Balance 400
Debit
Credit
Balance 1,100 1,000
Prepaid Insurance Date Jan. 1 31
Explanation Balance Adjusting entry
100
Equipment Date Jan. 1
Explanation Balance
Debit
Credit
Date Jan. 1 31
Accumulated Depreciation—Equipment Explanation Debit Credit Balance Adjusting entry 20
Balance 1,200
Balance 40 60
Website Date Jan. 1 31
Explanation Balance Adjusting entry
Debit
Credit 25
Balance 575 550
CC5 (Continued) (b) and (d) (Continued) Accounts Payable Date Jan. 1 4 7 13 14 31 31
Date Jan. 1 28
Explanation Balance
Debit
Credit 2,750
570 75 2,200 4,380 Adjusting entry
75
Salaries and Wages Payable Explanation Debit Balance 56
Balance 75 2,825 2,255 2,180 4,380 0 75
Credit
Balance 56 0
Credit
Balance 23 38
Interest Payable Date Jan. 1 31
Explanation Balance Adjusting entry
Debit
Date Jan. 1
Unearned Service Revenue Explanation Debit Balance
15
Credit
Balance 360
Credit
Balance 2,000
Notes Payable Date Jan. 1
Explanation Balance
Debit
CC5 (Continued) (b) and (d) (Continued) Common Stock Date Jan. 1 17
Explanation Balance
Debit
Credit 1,000
Balance 800 1,800
Retained Earnings Date Jan. 1
Explanation Balance
Debit
Credit
Balance 2,711
Debit 750
Credit
Balance 750
Debit
Credit 3,300 2,200
Balance 3,300 5,500
Debit 1,710 1,140
Credit
Balance 1,710 2,850
Credit
Balance 160
Credit
Balance 75
Dividends Date Jan. 31
Explanation
Sales Revenue Date Jan. 12 20
Explanation
Cost of Goods Sold Date Jan. 12 20
Date Jan. 28
Explanation
Salaries and Wages Expense Explanation Debit 160 Utilities Expense
Date Jan. 31
Explanation Adjusting entry
Debit 75
CC5 (Continued) (b) and (d) (Continued) Date Jan. 31
Depreciation Expense Explanation Debit Adjusting entry 20
Credit
Balance 20
Date Jan. 31
Amortization Expense Explanation Debit Adjusting entry 25
Credit
Balance 25
Debit 100
Credit
Balance 100
Debit 75
Credit
Balance 75
Debit 15
Credit
Balance 15
Insurance Expense Date Jan. 31
Explanation Adjusting entry Freight-out
Date Jan. 14
Explanation
Interest Expense Date Jan. 31
Explanation Adjusting entry
CC5 (Continued) (c) COOKIE CREATIONS INC. Trial Balance January 31, 2024 Cash......................................................................... Accounts Receivable.............................................. Inventory ................................................................. Supplies .................................................................. Prepaid Insurance .................................................. Equipment ............................................................... Accumulated Depreciation—Equipment............... Website.................................................................... Accounts Payable................................................... Salaries and Wages Payable.................................. Interest Payable ...................................................... Unearned Service Revenue.................................... Notes Payable ......................................................... Common Stock ....................................................... Retained Earnings .................................................. Dividends ................................................................ Sales Revenue ........................................................ Cost of Goods Sold ................................................ Salaries and Wages Expense ................................ Freight-Out ..............................................................
Debit $ 2,614 1,000 1,710 400 1,100 1,200
Credit
$
40
575 0 0 23 360 2,000 1,800 2,711 750 5,500 2,850 160 75 $12,434
$12,434
CC5 (Continued) (d) General Journal Date Jan.
Account Titles and Explanation 31 Depreciation Expense .................................. Accumulated Depreciation— Equipment...............................................
Debit Credit 20 20
31 Amortization Expense.................................. Website........................................................
25
31 Interest Expense........................................... Interest Payable ..........................................
15
31 Insurance Expense....................................... Prepaid Insurance ......................................
100
31 Utilities Expense........................................... Accounts Payable.......................................
75
25
15
100
75
CC5 (Continued) (e) COOKIE CREATIONS INC. Adjusted Trial Balance January 31, 2024 Cash ......................................................................... Accounts Receivable .............................................. Inventory .................................................................. Supplies ................................................................... Prepaid Insurance ................................................... Equipment................................................................ Accumulated Depreciation—Equipment................ Website..................................................................... Accounts Payable.................................................... Salaries and Wages Payable................................... Interest Payable ....................................................... Unearned Service Revenue .................................... Notes Payable .......................................................... Common Stock ........................................................ Retained Earnings ................................................... Dividends ................................................................. Sales Revenue ......................................................... Cost of Goods Sold ................................................. Salaries and Wages Expense ................................. Utilities Expense...................................................... Depreciation Expense ............................................. Amortization Expense ............................................. Insurance Expense.................................................. Freight-Out............................................................... Interest Expense......................................................
Debit $ 2,614 1,000 1,710 400 1,000 1,200
Credit
$
60
550 75 0 38 360 2,000 1,800 2,711 750 5,500 2,850 160 75 20 25 100 75 15 $12,544
$12,544
(Tot. cr. amount = A/D - equip. + A/P + Int. Pay. + Un. Ser. Rev. + N/P + Com. St. + R/E + Sal. Rev.)
CC5 (Continued) (f) COOKIE CREATIONS INC. Income Statement For the Month Ended January 31, 2024 Sales revenue ......................................................... Cost of goods sold ................................................. Gross profit ............................................................. Operating expenses Salaries and wages expense........................... Insurance expense............................................ Utilities expense............................................... Freight-out........................................................ Amortization expense...................................... Depreciation expense ...................................... Total operating expenses....................................... Income from operations ......................................... Other expenses and losses Interest expense................................................. Net income .......................................................
$5,500 2,850 2,650 $160 100 75 75 25 20 455 2,195 15 $2,180
(Sal. rev. – COGS – tot. oper. exp. – int. exp.)
COOKIE CREATIONS INC. Retained Earnings Statement For the Month Ended January 31, 2024 Retained earnings, January 1 ................................ Add: Net income................................................... Less: Dividends ..................................................... Retained earnings, January 31 .............................. (Beg. R/E + Net inc. – div.)
$2,711 2,180 4,891 750 $4,141
CC5 (Continued) (g) COOKIE CREATIONS INC. Balance Sheet January 31, 2024 Assets Current assets Cash............................................................... Accounts receivable ..................................... Inventory ....................................................... Supplies......................................................... Prepaid insurance......................................... Total current assets ................................ Property, plant, and equipment Equipment ..................................................... Less: Accumulated depr.—equip. .............. Intangible asset Website.......................................................... Total assets ..........................................................
$2,614 1,000 1,710 400 1,000 $6,724* 1,200 60
1,140 550 $8,414
*(Cash + A/R + Inven. + Sup. + Prep. ins.)
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ......................................... Unearned service revenue ........................... Total current liabilities.................................. Long-term liabilities Notes payable ............................................... Interest payable............................................. Total long-term liabilities.............................. Total liabilities...................................................... Stockholders’ equity Common stock .............................................. Retained earnings......................................... Total stockholders’ equity................................... Total liabilities and stockholders’ equity ........... *(A/P + Unearn. serv. rev. + N/P + Int. pay.)
$
75 360 $ 435 2,000 38 2,038 2,473* 1,800 4,141 5,941 $8,414
ACR5.1 CC5 (Continued) ACCOUNTING CYCLE REVIEW
(a)
Dec. 6
Salaries and Wages Payable
1,000 600
Salaries and Wages Expense
1,600
Cash 8
Cash
1,900 1,900
Accounts Receivable 10
Cash
6,300 6,300
Sales Revenue 4,100 4,100 Cost of Goods Sold Inventory 13
Inventory
9,000 9,000
Accounts Payable 15
Supplies
2,000 2,000
Cash 18
Accounts Receivable
12,000 12,000
Sales Revenue 8,000 8,000
Cost of Goods Sold Inventory 20
Salaries and Wages Expense
1,800 1,800
Cash 23
Accounts Payable
9,000 8,820 180
Cash Inventory ($9,000 x .02) 27
Cash Sales Discounts ($12,000 x .03) Accounts Receivable
11,640 360 12,000
(c)
Dec. 31
Salaries and Wages Expense
800 800
Salaries and Wages Payable Depreciation Expense
200
Accumulated Depreciation— Equipment Supplies Expense
200
1,700 1,700
Supplies ($3,200 – $1,500) Income Tax Expense
200 200
Income Taxes Payable (b) & (c)
General Ledger
Cash 12/1 Bal. 7,200 12/6 12/8 1,900 12/15 12/10 6,300 12/20 12/27 11,640 12/23 12/31 Bal. 12,820
1,600 2,000 1,800 8,820
Supplies 12/1 Bal. 1,200 12/31 12/15 2,000 12/31 Bal. 1,500
Accounts Receivable 12/1 Bal. 4,600 12/8 1,900 12/18 12,000 12/27 12,000 12/31 Bal. 2,700
Equipment 12/1 Bal. 22,000 12/31 Bal. 22,000
Inventory 12/1 Bal. 12,000 12/10 12/13 9,000 12/18 12/23 12/31 Bal. 8,720
Accumulated Depr.—Equipment 12/1 Bal. 2,200 12/31 200 12/31 Bal. 2,400
4,100 8,000 180
1,700
ACR5.1 (Continued) Accounts Payable 12/23 9,000 12/1 Bal. 4,500 12/13 9,000 12/31 Bal. 4,500 Salaries and Wages Payable 12/6 1,000 12/1 Bal. 1,000
12/31 12/31 Bal.
800 800
Income Taxes Payable 12/31 12/31 Bal.
200 200
ACR5.1 (Continued) Common Stock 12/1 Bal. 15,000 12/31 Bal. 15,000 Retained Earnings 12/1 Bal. 24,300 12/31 Bal. 24,300 Sales Revenue 12/10 6,300 12/18 12,000 12/31 Bal. 18,300 Sales Discounts 12/27 360 12/31 Bal. 360 Cost of Goods Sold 12/10 4,100 12/18 8,000 12/31 Bal. 12,100
Depreciation Exp. 12/31 200 12/31 Bal. 200 Salaries and Wages Expense 12/6 600 12/20 1,800 12/31 800 12/31 Bal. 3,200 Supplies Expense 12/31 1,700 12/31 Bal. 1,700 Income Tax Expense 12/31 200 12/31 Bal. 200
ACR5.1 (Continued) (d)
DEVINE DISTRIBUTING COMPANY Adjusted Trial Balance December 31, 2025 Cash............................................................... Accounts Receivable.................................... Inventory ....................................................... Supplies......................................................... Equipment ..................................................... Accumulated Depreciation—Equipment ..... Accounts Payable ......................................... Salaries and Wages Payable ........................ Income Taxes Payable.................................. Common Stock ............................................. Retained Earnings ........................................ Sales Revenue .............................................. Sales Discounts ............................................ Cost of Goods Sold ...................................... Depreciation Expense .................................. Salaries and Wages Expense....................... Supplies Expense ......................................... Income Tax Expense ....................................
DR. $12,820 2,700 8,720 1,500 22,000
CR.
$ 2,400 4,500 800 200 15,000 24,300 18,300 360 12,100 200 3,200 1,700 200 $65,500
$65,500
[(Cash + Accts. rec. + Inv. + Supp. + Equip. + Sales disc. + CGS + Depr. exp. + Sal. & wages exp. + Supp. exp. + Inc. tax exp.) = (Accum. depr.-equip. + Accts. pay. + Sal. & wages pay. + Inc. tax. pay. + Common stk. + Ret. earn. + Sales rev.)] [($12,820 + $2,700 + $8,720 + $1,500 + $22,000 + $360 + $12,100 + $200 + $3,200 + $1,700 + $200) = ($2,400 + $4,500 + $800 + $200 + $15,000 + $24,300 + $18,300)]
ACR5.1 (Continued) (e)
DEVINE DISTRIBUTING COMPANY Income Statement For the Month Ending December 31, 2025 Sales revenue................................................ Less: Sales discounts ................................. Net sales ........................................................ Cost of goods sold........................................ Gross profit ................................................... Operating expenses Salaries and wages expense ................ Supplies expense .................................. Depreciation expense............................ Income before income taxes ........................ Income tax expense ...................................... Net income.....................................................
$18,300 360 $17,940 12,100 5,840 3,200 1,700 200
5,100 740 200 $ 540
[(Sales rev. – Sales disc.) – CGS – Oper. exp. – Inc. tax exp. = Net inc.] [($18,300 – $360) – $12,100 – ($3,200 + $1,700 + $200) – $200 = $540]
DEVINE DISTRIBUTING COMPANY Retained Earnings Statement For the Month Ended December 31, 2025 Retained earnings, Dec. 1............................................. Add: Net income.......................................................... Retained Earnings, Dec. 31 .......................................... (Beg. ret. earn. + Net inc. = End. ret. earn.)
$24,300 540 $24,840
ACR5.1 (Continued) DEVINE DISTRIBUTING COMPANY Balance Sheet December 31, 2025 Assets Current assets Cash ......................................................... Accounts receivable................................ Inventory .................................................. Supplies ................................................... Total current assets...........................
$12,820 2,700 8,720 1,500
Property, plant, and equipment Equipment................................................ Less: Accumulated depreciation........... Total assets .....................................................
22,000 2,400
$25,740
19,600 $45,340
Liability and Stockholders’ Equity Current liabilities Accounts payable.................................... Salaries and wages payable ................... Income taxes payable ............................. Total current liabilities.......................
$ 4,500 800 200
Stockholders’ equity Common stock ........................................ Retained earnings ................................... Total stockholders’ equity................. Total liabilities and stockholders’ equity ......
15,000 24,840
$ 5,500
39,840 $45,340
[((Cash + Accts. rec. + Inv. + Supp.) + (Equip. – Accum. depr.-equip.)) = ((Accts. pay. + Sal. & wages pay. + Inc. tax. pay.) + (Common stk. + Ret. earn.))] LO 2, 3, 4 BT: AP Difficulty: Medium TOT: 60 min. AACSB: Analytic AICPA AC: Reporting
ACR5.2 ACR5.1 (Continued) ACCOUNTING CYCLE REVIEW (b) Date Nov. 8
10
General Journal Account Titles Salaries and Wages Payable Salaries and Wages Expense Cash
Debit 1,700 1,850
Cash
1,900
3,550
Accounts Receivable 11 12
15 19
20
22
1,900
Inventory Accounts Payable
8,000
Accounts Receivable Sales Revenue Cost of Goods Sold Inventory
5,500
Accounts Payable Inventory
8,000 5,500 4,000 4,000 300 300
Cash ($5,500 – $110) Sales Discounts ($5,500 × 2%) Accounts Receivable
5,390 110
Accounts Payable ($8,000 – $300) Inventory ($7,700 × 2%) Cash
7,700
Cash
2,300
5,500 154 7,546
Service Revenue 25 27 28
Credit
2,300
Equipment Accounts Payable
5,000
Supplies Accounts Payable
1,700
Accounts Payable
3,000
5,000 1,700
Cash ACR5.2 (Continued) 29 29
29 29
30 30 30 30
30
30
30
Rent Expense Cash Salaries and Wages Expense Cash
3,000 375 375 1,300 1,300
Accounts Receivable Service Revenue
700
Cash Unearned Service Revenue
675
(d) ADJUSTING ENTRIES Supplies Expense($860 + $1,700 – $1,600) Supplies
700 675
960 960
Salaries and Wages Expense Salaries and Wages Payable
500
Depreciation Expense Accum. Depr.—Equipment
250
Unearned Service Revenue Service Revenue ($4,675 – $650)
4,025
(g) CLOSING ENTRIES Service Revenue Sales Revenue Income Summary Income Summary Salaries and Wages Expense Rent Expense Depreciation Expense Supplies Expense Cost of Goods Sold Sales Discounts Income Summary Retained Earnings
500 250 4,025 7,025 5,500 12,525 9,345 3,650 375 250 960 4,000 110 3,180 3,180
11/30 Bal. 1,250
ACR5.2 (Continued) (a), (c), (d) & (g) Cash 11/1 Bal. 9,000 11/8 11/10 1,900 11/20 11/19 5,390 11/28 11/22 2,300 11/29 11/29 675 11/29 11/30 Bal. 3,494
3,550 7,546 3,000 375 1,300
Accounts Receivable 11/1 Bal. 2,240 11/10 1,900 11/12 5,500 11/19 5,500 11/29 700 11/30 Bal. 1,040
11/11
11/30
Inventory 8,000 11/12 11/15 11/20 3,546
Supplies 11/1 Bal. 860 Adj 11/27 1,700 11/30 Bal. 1,600
4,000 300 154
960
Equipment 11/1 Bal. 25,000 11/25 5,000 11/30 Bal. 30,000 Accumulated Depreciation— Equipment 11/1 Bal. 1,000 Adj 250
11/15 11/20 11/28
Adj
Accounts Payable 300 11/1 Bal. 3,400 7,700 11/11 8,000 3,000 11/25 5,000 11/27 1,700 11/30 Bal. 7,100
Unearned Service Revenue 4,025 11/1 Bal. 4,000 11/29 675 11/30 Bal. 650
Salaries and Wages Payable 11/8 1,700 11/1 Bal. 1,700 Adj 500 11/30 Bal. 500
Common Stock 11/1 Bal. 20,000 11/30 Bal.20,000
Retained Earnings 11/1 Bal. 7,000 Close 3,180 11/30 Bal 10,180
ACR5.2 (Continued) Close
Income Summary 9,345 Close 12,525
Close 3,180 11/30 11/30 Bal. 0
Close
Close
Cost of Goods Sold 11/12 4,000 Close 4,000 11/30 Bal. 0 3,180
Service Revenue 11/22 2,300 11/29 700 7,025 Adj 4,025 11/30 Bal. 0 Sales Revenue 5,500 11/12 5,500 11/30 Bal. 0
Sales Discounts 11/19 110 Close 11/30 Bal. 0
110
Depreciation Expense Adj 250 Close 11/30 Bal. 0
250
Salaries and Wages Expense 11/8 1,850 11/29 1,300 3,650 Adj 500 Close 11/30 Bal. 0 Supplies Expense Adj 960 Close 11/30 Bal. 0
960
Rent Expense 11/29 375 Close 11/30 Bal. 0
375
ACR5.2 (Continued) (e)
IKONK, INC. Adjusted Trial Balance November 30, 2025 Cash............................................................... Accounts Receivable.................................... Inventory ....................................................... Supplies......................................................... Equipment ..................................................... Accumulated Depreciation—Equipment ..... Accounts Payable ......................................... Unearned Service Revenue.......................... Salaries and Wages Payable ........................ Common Stock ............................................. Retained Earnings ........................................ Service Revenue ........................................... Sales Revenue………………………………….. Sales Discounts ............................................ Cost of Goods Sold ...................................... Depreciation Expense .................................. Salaries and Wages Expense....................... Supplies Expense ......................................... Rent Expense ................................................ Totals……………………………………………. .
DR. $ 3,494 1,040 3,546 1,600 30,000
CR.
$ 1,250 7,100 650 500 20,000 7,000 7,025 5,500 110 4,000 250 3,650 960 375 $49,025
$49,025
ACR5.2 (Continued) (f)
IKONK, INC. Income Statement For the Month Ended November 30, 2025 Sales Sales revenue ................................................. Less: Sales discounts.................................... Net sales ............................................. Service revenue.............................................. Total revenues ....................................... Less: Cost of goods sold ...................................... Gross profit ............................................................ Operating expenses Salaries and wages expense ......................... Supplies expense ........................................... Rent expense.................................................. Depreciation expense .................................... Total expenses........................................ Net income .............................................................
$5,500 110 $5,390 7,025 12,415 4,000 8,415 3,650 960 375 250 5,235 $ 3,180
[((Sales rev. – Sales disc.) + Serv. rev) – CGS – Operating exp. = Net inc.] [(($5,500 – $110) + $7,025) – $4,000 – ($3,650 + $960 + $375 + $250) = $3,180]
IKONK, INC. Retained Earnings Statement For the Month Ended November 30, 2025 Retained earnings, November 1............................ Add: Net income ................................................... Retained earnings, November 30.......................... (Beg. ret. earn. + Net inc. = End. ret. earn.) ($7,000 + $3,180 = $10,180)
$ 7,000 3,180 $10,180
ACR5.2 (Continued) IKONK, INC. Balance Sheet November 30, 2025 Assets Current assets Cash ............................................................... Accounts receivable ..................................... Inventory........................................................ Supplies ......................................................... Total current assets .............................. Property, plant and equipment Equipment ..................................................... Less: Accumulated depreciation— equipment.................................................. Total assets............................................
$ 3,494 1,040 3,546 1,600 $ 9,680 30,000 1,250
28,750 $38,430
Liabilities and Stockholders’ Equity Current liabilities Accounts payable ............................................. $ 7,100 Salaries and wages payable............................. 500 Unearned service revenue .................................... 650 Total current liabilities .............................. Stockholders’ equity Common stock .................................................. 20,000 Retained earnings ............................................. 10,180 Total stockholders’ equity ........................ Total liabilities and stockholders’ equity .
$ 8,250
30,180 $38,430
[(($3,494 + $1,040 + $3,546 + $1,600) + ($30,000 – $1,250)) = (($7,100 + $500 + $650) + ($20,000 + $10,180))] LO 2, 3, 4 BT: AP Difficulty: Medium TOT: 90 min. AACSB: Analytic AICPA AC: Reporting
ACR5.2 (Continued) SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT5.1
FINANCIAL REPORTING PROBLEM
(a) Percentage change in net sales: 2019 to 2020 ($274,515 – $260,174) ÷ $260,174 = 5.5% Percentage change in net income: 2019 to 2020 ($57,411 – $55,256) ÷ $55,256 = 3.9% (b) Profit margin: 2018 2019 2020
$59,531 ÷ $265,595 = 22.4% $55,256 ÷ $260,174 = 21.2% $57,411 ÷ $274,515 = 20.9%
The profit margin decreased by 6.7% From 2018 to 2020. (c) Gross profit rates: 2018 2019 2020
$101,839 ÷ $265,595 = 38.3% $98,392 ÷ $260,174 = 37.8% $104,956 ÷ $274,515 = 38.2%
The gross profit rate decreased slightly in 2019 due to the gross margin decreasing percentage-wise more than net sales and in 2020 the rate returned to roughly what it was in 2018 due to the gross margin increasing percentage-wise more than net sales. LO 6 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
(a) (1) Profit margin
Columbia Sportswear Company
Under Armour, Inc.
$108,013 4.3% $2,501,554
$(549,177) (12.3%) $4, 474,667
(2) Gross profit (000’s)
1,223,889
(3) Gross profit rate
$1,223,889 48.9% $2,501,554
$2,160,095 48.3% $4, 474,667
$137,049
($613,438)
(4) Operating income (000’s) (5) Percent change in operating income
$137,049 $394,971 (65.3%) $394,971
$2,160,095
($613, 438) $236,770 (359.1%) $236,770
(b) Columbia was significantly more profitable in 2020 than Under Armour as shown by a much higher profit margin, operating income, and net income. Even though Under Armour had a much higher gross profit amount, both companies had similar gross profit rates. Each company reported substantial decreases in operating income during 2020. LO 6 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT5.2
CT5.3
COMPARATIVE COMPARATIVE ANALYSIS ANALYSIS PROBLEM PROBLEM
(a)
Amazon.com
Walmart Inc.
$21, 331 5.5% $386,064
$13,510 2.4% $555,233
$386,064 - $233,307 = $152,757
$555,233 - $420,315 = $134,918
$152,757 39.6% $386,064
$134,918 24.3% $555,233
(4) Operating income (000’s)
$22,899
$22,548
(5) Percent change in operating income
$22,899 $14,541 57.5% $14,541
$22,548 $20,568 9.6% $20,568
(1) Profit margin (2) Gross profit (millions) (3) Gross profit rate
(b) While Amazon’s profit margin, gross profit and gross profit rate exceed Walmart’s, their operating incomes are almost identical. Also, Amazon’s percentage increase in 2020 operating income is practically 6 times Walmart’s increase. LO 6 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
(a) Carrefour (Euros) Gross profit rate
Walmart (Dollars)
(€70, 486 – €54, 630) €70, 486
= 22.5%
($256, 329 – $198, 747)
= 22.5%
$256, 329
The ratio is the same for each company, indicating that they have similar markups on the cost of their products. (b) Profit margin
€1,738 ÷ €70,486 = 2.5%
$9,054 ÷ $256,329 = 3.5%
Walmart is renowned for its efficiency—this is what has caused it to dominate its U.S. competitors. It would appear from this data that it is also more efficient in its ability to generate net income from each dollar of sales than Carrefour. (c)
Current ratio
€14,521 ÷ €13,660 = 1.06:1
$34,421 ÷ $37,418 = .92:1
Debt to assets ratio
€29,434 ÷ €39,063 = .75
$61,289 ÷ $104,912 = .58
Both companies report low current ratios. This is not surprising since in recent years most large companies have tried to reduce costs and increase profitability by limiting the amount of current assets that they hold. However, Walmart’s current ratio is less than 1:1 and might be cause for further investigation. The debt to assets ratio reveals that Carrefour relies more heavily on debt financing. This reduces Carrefour’s solvency and makes Carrefour more susceptible to swings in the economy. This could reduce its ability to compete head-to-head with Walmart.
CT5.4
CT5.4 (Continued) INTERPRETING FINANCIAL STATEMENTS (d) Ratios improve our ability to compare these two companies that report financial information using different currencies. However, other factors can still reduce our ability to compare them. Different accounting standards in the two countries might result in dramatically different results under the same circumstances. Also, differences in laws, such as bankruptcy laws, can affect the results. For example, if French bankruptcy laws favor shareholders more than U.S. bankruptcy laws, then it would be prudent for a French company to rely more on debt financing than a U.S. company. LO 6 BT: AN Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
Answers will vary depending on the company and article chosen by the student. LO None BT: S Difficulty: Hard TOT: 60 min. AACSB: Technology and Communication AICPA AC: Reporting AICPA PC: Communication
CT5.5
CT5.6 (a) (1)
DECISION-MAKING ACROSS THE ORGANIZATION REAL-WORLD FOCUS GIGASALES DEPARTMENT STORE Projected Income Statement For the Year Ended December 31, 2026 Net sales [$700,000 + ($700,000 x 4%)] ..... Cost of goods sold ($728,000 x 75%)* ...... Gross profit ($728,000 x 25%)**................. Operating expenses Selling expenses ................................ Administrative expenses ................... Total operating expenses ........... Net income..................................................
$728,000 546,000 182,000 $100,000 20,000 120,000 $ 62,000
*Alternatively: Net sales, $728,000 – gross profit, $182,000. **25% = ($140,000 ÷ $700,000) + 5%. (Net sales – CGS – Oper. exp. = Net inc.) [($700,000 x 104%) – ($728,000 x 75%) – ($100,000 + $20,000) = $62,000]
(2)
GIGASALES DEPARTMENT STORE Projected Income Statement For the Year Ended December 31, 2026 Net sales ..................................................... Cost of goods sold..................................... Gross profit ................................................ Operating expenses Selling expenses ................................ Administrative expenses ................... Net income..................................................
$700,000 560,000 140,000 $68,000* 20,000
88,000 $ 52,000
*$100,000 – $30,000 – ($40,000 x 40%) + ($700,000 x 2%) = $68,000. (Net sales – CGS – Oper. exp. = Net inc.) [$700,000 – $560,000 – (($100,000 – $30,000 – ($40,000 x 40%) + ($700,000 x 2%)) + $20,000) = $52,000]
(b) Karen’s proposed changes will increase net income by $42,000. Reece’s proposed changes will reduce operating expenses by $32,000 and result in a corresponding increase in net income. Thus, if the choice is between Karen’s plan and Reece’s plan, Karen’s plan should be adopted. While Reece’s plan will increase net income, it may also have an adverse effect
on sales personnel. Under Reece’s plan, sales personnel will be taking a cut of $16,000 in compensation [$60,000 – ($30,000 + $14,000)].
CT5.6 (Continued) (c)
GIGASALES DEPARTMENT STORE Projected Income Statement For the Year Ended December 31, 2026 Net sales............................................................. Cost of goods sold ............................................ Gross profit ........................................................ Operating expenses Selling expenses ........................................ Administrative expenses ........................... Total operating expenses .................. Net income .........................................................
$728,000 546,000 182,000 $68,560* 20,000 88,560 $ 93,440
*$68,000 + [2% x ($728,000 – $700,000)] = $68,560. (Net sales – CGS – Oper. exp. = Net inc.) [$728,000 – $546,000 – ($68,000 + [2% x ($728,000 – $700,000)] + $20,000) = $93,440]
If both plans are implemented, net income will be $73,440 ($93,440 – $20,000) higher than the 2025 results. This is an increase of over 360%. Given the size of the increase, Reece’s plan to compensate sales personnel might be modified so that they would not have to take a pay cut. For example, if sales commissions were 3%, the compensation cut would be reduced to $8,160 [$60,000 – ($30,000 + ($728,000 x 3%))]. (d) A variety of factors might be presented by the student. For example, increasing the quantity of inventory purchased will increase warehousing and other costs of inventory. It will also increase the risk of holding obsolete or out-of-fashion inventory. Cutting salespersons’ salaries and making them more dependent on commissions might actually be viewed favorably by the sales staff if they have the potential to increase their total compensation. Reduced store deliveries may anger customers, especially if competitors provide more frequent service. LO 4, 6 BT: S Difficulty: Hard TOT: 45 min. AACSB: Communication and Reflective Thinking AICPA PC: Collaboration, Leadership, and Communication
CT5.7
COMMUNICATION ACTIVITY
(a) , (b)
President Surfing Hawaii Co. Dear Sir: As you know, the financial statements for Surfing Hawaii Co. are prepared in accordance with generally accepted accounting principles. One of these principles is the revenue recognition principle, which provides that revenues should be recognized when the performance obligation is satisfied. Typically, sales revenues are recognized when the goods are transferred from the seller to the buyer. At this point, the sales transaction is completed and the sales price is established. Thus, in the typical situation, revenue on the surfboard ordered by Aikan is recognized at event No. 8, when Aikan picks up the surfboard. The circumstances pertaining to this sale may seem to you to be atypical because Aikan has ordered a specific kind of surfboard. From an accounting standpoint, this would be true only if you could not reasonably expect to sell this surfboard to another customer. In such case, it would be proper under generally accepted accounting principles to recognize sales revenue when you have completed the surfboard for Aikan. Whether Aikan makes a down payment with the purchase order is irrelevant in recognizing sales revenue because at this time, you have not done anything to earn the revenue. A down payment may be an indication of Aikan’s “good faith.” However, its effect on your financial statements is limited entirely to recognizing the down payment as unearned revenue. If you have further questions about the accounting for this sale, please let me know. Sincerely, LO 2 BT: S Difficulty: Medium TOT: 30 min. AACSB: Communication and Reflective Thinking AICPA AC: Measurement Analysis ad Interpretation AICPA PC: Communication
CT5.8
ETHICS CASE
a. The company was unable to make payments that were due on a large credit line from Commerzbank. It was able to avoid filing for “insolvency” by persuading Commerzbank to loan it an additional €8 million and by borrowing against its receivables (commonly referred to as factoring). Investigations showed that the company created fake invoices and delivery receipts using Photoshop as documentation for receivables that did not actually exist in order to increase the amount it received through factoring. b. Precision CastParts, the Berkshire Hathaway subsidiary, first became aware that its acquisition of Wilhelm Schulz might be problematic when it received an email from a Wilhelm Schulz employee which said that some of his co-workers had entered fake customer orders into the system. c. To inflate profits an employee created a five-day outage of the company’s computer system that was used to track sales and orders. During this time company employees created almost 50 fake orders worth tens of millions of euros. LO N/A BT: E Difficulty: Hard TOT: 45 min. AACSB: Ethics AICPA AC: Measurement Analysis and Interpretation AICPA PC: Ethical Conduct
CT5.9
ETHICS CASE
(a) Tabitha Andes, as a new employee, is placed in a position of responsibility and is pressured by her supervisor to continue an unethical practice previously performed by him. The unethical practice is taking undeserved cash discounts. Her dilemma is either follow her boss’s unethical instructions or offend her boss and maybe lose the job she just assumed. (b) The stakeholders (affected parties) are: Tabitha Andes, the assistant treasurer. Pete Wilson, the treasurer. Southside Stores, the company. Creditors of Southside Stores (suppliers). Mail room employees (those assigned the blame). (c) Tabitha’s alternatives: 1. Tell the treasurer (her boss) that she will attempt to take every allowable cash discount by preparing and mailing checks within the discount period—the ethical thing to do. This will offend her boss and may jeopardize her continued employment. 2. Join the team and continue the unethical practice of taking undeserved cash discounts. 3. Go over her boss’s head and take the chance of receiving just and reasonable treatment from an officer superior to Pete. The company may not condone this practice. Tabitha definitely has a choice, but probably not without consequence. To continue the practice is definitely unethical. If Tabitha submits to this request, she may be asked to perform other unethical tasks. If Tabitha stands her ground and refuses to participate in this unethical practice, she probably won’t be asked to do other unethical things—if she isn’t fired. Maybe nobody has ever challenged Pete’s unethical behavior and his reaction may be one of respect rather than anger and retribution. Being ethically compromised is no way to start a new job.
LO 2 BT: E Difficulty: Hard TOT: 45 min. AACSB: Ethics AICPA AC: Measurement Analysis and Interpretation AICPA PC: Ethical Conduct
CT5.10
ALL ABOUT YOU
In order for revenue to be recognized, the performance obligation must be satisfied. In this case FarWest has an obligation to provide goods with a value equal to the gift card. That obligation is not fulfilled until one of two things happens: Either the customer redeems the card for goods, or the card expires. Until either of those events occur, FarWest cannot record revenue. LO 3 BT: C Difficulty: Medium TOT: 10 min. AACSB:Knowledge AICPA AC: Measurement Analysis and Interpretation
CT5.11
FASB CODIFICATION ACTIVITY
(a) 1. Inventory is the aggregate of those items of tangible personal property that have any of the following characteristics: a. Held for sale in the ordinary course of business b. In process of production for such sale c. To be currently consumed in the production of goods or services to be available for sale. The term inventory embraces goods awaiting sale (the merchandise of a trading concern and the finished goods of a manufacturer), goods in the course of production (work in process), and goods to be consumed directly or indirectly in production (raw materials and supplies). This definition of inventories excludes long-term assets subject to depreciation accounting, or goods which, when put into use, will be so classified. The fact that a depreciable asset is retired from regular use and held for sale does not indicate that the item should be classified as part of the inventory. Raw materials and supplies purchased for production may be used or consumed for the construction of long-term assets or other purposes not related to production, but the fact that inventory items representing a small portion of the total may not be absorbed ultimately in the production process does not require separate classification. By trade practice, operating materials and supplies of certain types of entities such as oil producers are usually treated as inventory. 2. A customer is a reseller or a consumer, either an individual or a business that purchases a vendor’s products or services for end use rather than for resale. This definition is consistent with paragraph 280-10-50-42, which states that a group of entities known to a reporting entity to be under common control shall be considered as a single customer, and the federal government, a state government, a local government (for example, a county or municipality), or a foreign government each shall be considered as a single customer. Customer includes any purchaser of the vendor’s products at any point along the distribution chain, regardless of whether the purchaser acquires the vendor’s products directly or indirectly (for example, from a distributor) from the vendor. For example, a vendor may sell its products to a distributor who in turn resells the products to a retailer. The retailer in that example is a customer of the vendor.
CT5.11 (Continued) (b) 330-10-35-15 Only in exceptional cases may inventories properly be stated above cost. For example, precious metals having a fixed monetary value with no substantial cost of marketing may be stated at such monetary value; any other exceptions must be justifiable by inability to determine appropriate costs, immediate marketability at quoted market price, and the characteristic of unit interchangeability. LO 2 BT: S Difficulty: Medium TOT: 25 min. AACSB: Communication and Technology AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CHAPTER 6 Reporting and Analyzing Inventory Learning Objectives 1. Discuss how to classify and determine inventory. 2. Apply inventory cost flow methods and discuss their financial effects. 3. Explain the statement presentation and analysis of inventory. *4. Apply inventory cost flow methods to perpetual inventory records. *5. Indicate the effects of inventory errors on the financial statements.
ANSWERS TO QUESTIONS 1. Agree. Effective inventory management is frequently the key to successful business operations. Management attempts to maintain sufficient quantities and types of goods to meet expected customer demand. It also seeks to avoid the cost of carrying inventories that are clearly in excess of anticipated sales. LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA PC: Communication
2. Inventory items for a merchandiser have two common characteristics: (1) they are owned by the company and (2) they are in a form ready for sale to customers in the ordinary course of business. LO 1 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA PC: Communication
3. Just-in-time inventory management is the practice of manufacturing or purchasing inventory “just-intime” to fill a sales order. Since inventory quantities are kept at very low amounts, just-in-time management reduces the costs associated with carrying inventory as well as the risk of obsolescence. LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA PC: Communication
4. Taking a physical inventory involves actually counting, weighing, or measuring each kind of inventory on hand. Retailers, such as hardware stores, generally have thousands of different items to count. This is normally done when the store is closed. LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA PC: Communication
5. (a) (1) The goods will be included in Bonita Company’s inventory if the terms of sale are FOB destination. (2) The goods will be included in Myan Corporation’s inventory if the terms of sale are FOB shipping point. (b) Bonita Company should include goods that have been consigned to another company and not yet sold in its inventory. Goods held by Bonita Company on consignment should not be included in inventory. LO 1 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA PC: Communication
6. Inventoriable costs are $3,015 (invoice cost $3,000 + freight charges $75 purchase discounts $60). The cost of inventory includes all expenditures necessary to acquire goods and place them in a condition ready for sale. This means that incoming freight charges are included in the inventoriable cost. LO 1 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
7. The primary basis of accounting for inventories is cost in accordance with the historical cost principle. LO 1 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA PC: Communication
8. Actual physical flow may be impractical because many items are indistinguishable from one another. Actual physical flow may be inappropriate because management may be able to manipulate net income through specific identification of items sold. LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
9. The major advantage of the specific identification method is that it tracks the actual physical flow of the goods available for sale. The major disadvantage is that management could manipulate net income. LO 2 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledgge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
10. No. Selection of an inventory costing method is a management decision. However, once a method has been chosen, it should be consistently applied. LO 2 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation PC: Communication
AICPA
11. (a) FIFO, (b) Average-cost, (c) LIFO. LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation PC: Communication
12.
AICPA
Short Company is using the FIFO method of inventory costing, and King Company is using the LIFO method. Under FIFO, the latest goods purchased remain in inventory. Thus, the inventory on the balance sheet should be close to current costs. The reverse is true of the LIFO method. Short Company will have the higher gross profit because cost of goods sold will include a higher proportion of goods purchased at earlier (lower) costs.
LO 2 BT: C Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation & Reporting AICPA PC: Communication
13. Mamosa Corporation may experience severe cash shortages if this policy continues. All of its net income is being paid out as dividends, yet some of the earnings must be reinvested in inventory to maintain inventory levels. Some earnings must be reinvested because net income is computed with cost of goods sold based on older, lower costs while the inventory must be replaced at current, higher costs. Because of this factor, net income under FIFO is sometimes referred to as including “phantom profits.” In addition, Mamosa is also depleting cash more quickly under FIFO because FIFO results in higher income tax payments. LO 2 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting AICPA PC: Communication
14. Oscar is partially correct. In a period of inflation, FIFO produces a higher net income because the lower unit costs of the first units purchased are matched against revenues. A switch from LIFO to FIFO will thus produce higher net income and a larger bonus for Oscar, which he perceives as being “better off”. It is more difficult to determine if the company would be “better off” if it used FIFO instead of LIFO. Using FIFO would mean higher reported income and higher inventory values which investors usually interpret as “better” results. On the other hand, the higher net income reported with FIFO would mean higher bonus and income tax expenses. Since both of these items require cash, switching to FIFO may leave the company with an inadequate amount of cash to meet normal operating needs. LO 2 BT: C Difficulty: Hard TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting AICPA PC: Communication
Questions Chapter 6 (Continued) Questions Chapter 6 (Continued) 15. When prices are increasing, LIFO results in higher cost of goods sold, and lower income relative to FIFO. Because LIFO income is lower the company pays lower taxes, which results in higher cash flows. The quality of earnings ratio is net cash provided by operating activities divided by income. The use of LIFO will increase the numerator (net cash provided by operating activities) and decrease the denominator (net income), both of which increase the value of the ratio. LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting AICPA PC: Communication
16. Hank should know the following: (a) A departure from the cost basis of accounting for inventories is justified when the value of the inventory is lower than its cost. The write down to net realizable value should be recognized in the period in which the price decline occurs. (b) Net realizable value refers to the net amount that a company expects to realize (receive) from the sale of inventory. Specifically, net realizable value is the estimated selling price in the normal course of business, less estimated costs to complete and sell. LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
17. Jackson Music Center should report the five TVs at $350 each for a total of $1,750. $350 is the net realizable value under the lower-of-cost-or-net realizable value (LCNRV) basis of accounting for inventories. When the value of inventory is lower than its cost, companies must “Write down” the inventory to its net realizable value. LO 3 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation & Reporting AICPA PC: Communication
18. Lower-of-cost-or-net realizable value can be applied after any of the cost flow assumptions has been used, including LIFO, FIFO, average-cost, or specific identification. LO 3 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
19. Freight-out expense is not a cost associated with purchasing goods, so it should not affect cost of goods sold. It is an expense incurred to sell goods already purchased, so it should be reported as a selling expense. LO 2 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Reporting AICPA PC: Communication
20.
Tilton Company should disclose (1) the major inventory classifications, (2) the basis of accounting (cost or lower-of-cost-or-net realizable value), and (3) the costing method (FIFO, LIFO, or averagecost).
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting AICPA PC: Communication
21.
An inventory turnover that is too high may indicate that the company is losing sales opportunities because of inventory shortages. Inventory outages may also cause customer ill will and result in lost future sales.
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA PC: Communication
22.
The LIFO reserve is a required disclosure for companies that employ LIFO. It is the difference between ending inventory using LIFO and ending inventory if FIFO were used instead. Ignoring a large LIFO reserve when analyzing a company can distort any comparisons that an analyst might try to make with a company’s competitors that used FIFO.
LO 3 BT: K Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA PC: Communication
*23. Disagree. The results under the FIFO method are the same but the results under the LIFO method may be different. The reason is that the pool of inventoriable costs (costs of goods available for sale) is not the same. Under a periodic system, the pool of costs is the goods available for sale for the entire period, whereas under a perpetual system, the pool is the goods available for sale up to the date of sale. LO 4 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
*24. In a perpetual inventory system, the average is a moving average of goods available for sale after each purchase. In a periodic inventory system, the average is a weighted average based on total goods available for sale for the period. LO 4 BT: C Difficulty: Medium TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
*25. (a) Albert Company’s 2024 net income will be understated $5,000; (b) 2025 net income will be overstated $5,000; and (c) the combined net income for the two years will be correct. LO 5 BT: AN Difficulty: Medium TOT: 2 min. AACSB: Analytic AICPA AC: Reporting AICPA PC: Communication
Questions Chapter 6 (Continued)
SOLUTIONS TO BRIEF EXERCISES
BRIEF EXERCISE 6.1 (a) Ownership of the goods belongs to the owner (Peete). Thus, these goods should be included in Peete’s inventory. (b) The goods in transit should not be included in the inventory count because ownership by Peete does not occur until the goods reach the buyer. (c) The goods being held belong to the customer. They should not be included in Peete’s inventory. (d) Ownership of these goods rests with the other company (the owner). Thus, these goods should not be included in the physical inventory. LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 6.2 Physical inventory Add: Goods purchased from Pelzer Goods sold to Alvarez Stallman ending Inventory
$200,000 25,000 22,000 $247,000
The goods purchased from Pelzer of $25,000 are included in ending inventory because the terms are F.O.B. shipping point which means Stallman takes title at the time the goods are shipped. Goods sold to Alvarez F.O.B. destination means that the goods are still Stallman’s until delivered. LO 1 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 6.3 (a) The ending inventory under FIFO consists of 200 units at $9 for a total allocation of $1,800. (b) The ending inventory under LIFO consists of 200 units at $6 for a total allocation of $1,200. LO 2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
Average unit cost is $7.917 computed as follows: 300 400 500 1,200
× × ×
$6 $8 $9
= $1,800 = 3,200 = 4,500 $9,500
$9,500 ÷ 1,200 = $7.917 The cost of the ending inventory is $1,583 (200 × $7.917). LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 6.5 FIFO Beginning inventory (10 × $11) ................................ Purchases May 5 (30 × $16) .................................................. Jul. 16 (15 × $19) ................................................ Dec. 7 (20 × $23) ................................................. Cost of goods available for sale ............................... Less: Ending inventory (20 × $23) + (5 × $19) ......... Cost of goods sold.....................................................
LIFO Cost of goods available for sale ............................... Less: Ending inventory (10 × $11) + (15 × $16) ........ Cost of goods sold.....................................................
$ 110 $480 285 460
1,225 1,335 555 $ 780
$1,335 350 $ 985
AVERAGE-COST $1,335 ÷ 75 = $17.80 weighted-average unit cost Cost of goods available for sale................................ Less: Ending inventory (25 × $17.80)........................ Cost of goods sold.....................................................
$1,335 445 $ 890
LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 6.4 BRIEF EXERCISE 6.6 (a) FIFO would result in the highest net income. (b) FIFO would result in the highest ending inventory. (c) LIFO would result in the lowest income tax expense (because it would result in the lowest taxable income). (d) Average cost would result in the most stable income over a number of years because it averages out any big changes in the cost of inventory. LO 2 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 6.7 Cost of goods sold under: LIFO
FIFO
Cost of goods available for sale Less: Ending inventory Cost of goods sold
$6 × 100 $7 × 200 $8 × 140 3,120 1,160* $ 1,960
$6 × 100 $7 × 200 $8 × 140 3,120 1,400** $ 1,720
*(100 × $6) + (80 × $7)
**(140 × $8) + (40 × $7)
Purchases
Since the cost of goods sold is $240 ($1,960 – $1,720) less under FIFO that is the amount of the phantom profit. It is referred to as “phantom profit” because FIFO matches current selling prices with old inventory costs. To replace the units sold the company will have to pay the current price of $8 per unit, rather than the $6 per unit which some of the units were priced at under FIFO. Therefore, profit under LIFO is more representative of what the company can expect to earn in future periods. LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
(a) LIFO results in a higher quality of earnings ratio. (b) FIFO results in higher phantom profits. (c) FIFO results in higher net income. (d) LIFO results in lower taxes. (e) FIFO results in lower net cash provided by operating activities. LO 2 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 6.9 Inventory Categories Cameras Camcorders DVDs Total valuation
Cost $12,500 9,000 13,000
NRV $13,400 9,500 12,200
LCNRV $12,500 9,000 12,200 $33,700
The lower-of-cost-or-net realizable value is $33,700. LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 6.10 $349,114 2.54 times $349,114 Inventory turnover: ($119,035 $155, 377) 2 $137,206 Days in inventory:
365 2.54
144 days
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 6.11 2025 ending inventory using LIFO ............................ 2025 LIFO reserve ...................................................... 2025 ending inventory assuming FIFO ..................... LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
$46,850,000 30,346,000 $77,196,000
*BRIEF EXERCISE 6.12 BRIEF EXERCISE 6.8 (1) FIFO June 1 sale: Aug. 27 sale:
Cost of Goods Sold 25 units @ $10 = $250 25 units @ $10 = $250 5 units @ $15 = 75 325 $575 (2) LIFO
June 1 sale: Aug. 27 sale:
25 units @ $10 = 30 units @ $15 =
Cost of Goods Sold $250 450 $700
(3) MOVING-AVERAGE June 1 sale: Aug. 27 sale:
Cost of Goods Sold 25 units @ $10 = $250 30 units @ $12.727* = 382 $632
*[(50 – 25) X$10]+(30X $15) 55 units
(A new average cost per unit is computed each time a purchase is made under the moving–average method) LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*BRIEF EXERCISE 6.13 The understatement of ending inventory caused cost of goods sold to be overstated $7,000 and net income to be understated $7,000. The correct net income for 2025 is $99,000 ($92,000 + $7,000). Total assets in the balance sheet will be understated by the amount that ending inventory is understated, $7,000. LO 5 BT: AN Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 6.1 Inventory per physical count.................................................. 1. Inventory out on consignment ........................................... 2. Inventory sold, in transit at year-end ................................. 3. Inventory purchases, in transit at year-end....................... Correct December 31 inventory .............................................
$300,000 28,000 0 13,000 $341,000
LO 1 BT: AN Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
DO IT! 6.2 Cost of goods available for sale = (3,000 × $5) + (8,000 × $7) = $71,000 Ending inventory = 3,000 + 8,000 – 9,400 = 1,600 units (a) FIFO: $71,000 – (1,600 × $7) = $59,800 (b) LIFO: $71,000 – (1,600 × $5) = $63,000 (c) Average-cost: $71,000/11,000 = $6.455 per unit (11,000 – 1,600) × $6.455= $60,677 LO 2 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
DO IT! 6.3a The lowest value for each inventory type is: Small $61,000, Medium $260,000, and Large $152,000. The total inventory value under the lower-of-cost-ornet realizable value approach is the sum of these figures, $473,000. LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
DO IT! 6.3b 2024 Inventory turnover Days in inventory
2025
$1,200,000 $1, 425,000 6.3 9.5 ($170,000 $210,000)/2 ($210,000 $90,000)/2 365 ÷ 6.3 = 57.9 days
365 ÷ 9.5 = 38.4 days
The company experienced a very significant decline in its ending inventory as a result of the just-in-time inventory. This decline improved its inventory turnover ratio and its days in inventory. Also, its sales increased by 19%. It is possible that this increase is the result of a more focused inventory policy. It appears that this change is a win-win situation for Fedor Company. LO 3 BT: AN Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 6.1 Ending inventoryphysical count................................................ $275,000 1. No effecttitle passes to purchaser upon shipment when terms are FOB shipping point............................... 0 2. No effecttitle does not transfer to Pohl until goods are received .......................................................... 0 3. Add to inventory: Title passed to Pohl when goods were shipped ........................................................ 25,000 4. Add to inventory: Title remains with Pohl until purchaser receives goods .............................................. 51,000 5. Subtract from inventory: The goods did not arrive prior to year-end. The goods, therefore, cannot be included in the inventory .................................................................... (42,000) Correct inventory ........................................................................... $309,000 (Legal title determines if an item should be included in inventory) LO 1 BT: AN Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.2 Ending inventory-as reported....................................................... 1.
2.
3.
4.
$740,000
Subtract from inventory: The goods belong to Nader Corporation. Ryder is merely holding them on consignment. ............................................
(228,000)
Add to inventory: The goods belong to Ryder as soon as they are shipped (December 28)......................................................................
40,000
Subtract from inventory: Office supplies should be carried in a separate account. They are not considered inventory held for resale...........................
(17,000)
Add to inventory: The goods belong to Ryder until they are shipped (Jan. 1). ............................................
29,000
EXERCISE 6.2 (Continued) 5.
Subtract from inventory: GAAP requires that inventory be valued at the lower-of-cost-ornet realizable value. Obsolete parts should be adjusted from cost to zero if they have no other use.......................
(50,000)
Correct inventory ..........................................................................
$514,000
(Legal title determines if an item should be included in inventory) LO 1 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.3 (a) Do not include in inventory or any other account—Gato does not own items held on consignment. (b) Include in inventory—Gato still owns the items as they were only shipped on consignment. (c) Include in inventory—Shipping terms FOB destination means that Gato owns the items until they reach the customer. (d) Do not include in inventory—Because the shipping terms are FOB shipping point, ownership has transferred to the customer. Gato as seller, should record this transaction as a sale on the income statement. (e) Do not include in inventory or any other account—Because the shipping terms are FOB destination, Gato does not own the goods until they arrive at Gato’s premises. (f) Include in inventory—Shipping terms FOB shipping point means that ownership transferred at the time of shipping and therefore, Gato, the purchaser, owns the goods in transit. (g) Do not include in inventory. Record as Supplies on the balance sheet. LO 1 BT: K Difficulty: Medium TOT: 8 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.4 (a) 1. 2. 3. 4. 5.
Ending inventory—physical count ................................ $326,000 The goods did not arrive prior to year-end. The goods, therefore, cannot be included in the inventory ............ (49,000) No effect—title passes to purchaser upon shipment when terms are FOB shipping point ............................. 0 No effect—title does not transfer to Bean until goods are received ......................................................... 0 Add to inventory: Title passed to Bean when goods were shipped................................................................... 27,000 Add to inventory: Title remains with Bean until purchaser receives goods ............................................. 38,000 Correct inventory............................................................ $342,000
(b) Inventory… .................................................................................. 27,000 Accounts Payable………………………………………….. 27,000 LO 1 BT: AN Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.5 (a)
FIFO Ending inventory (20 × $105) + (5 × $104)
$2,620
LIFO Ending inventory (12 × $100) + (13 × $103)
$2,539
AVERAGE-COST $13,135 ÷ 127 = $103.425 weighted-average unit cost Ending inventory (25* × $103.425)
$2,586
*(127 units available – 102 units sold) (b) FIFO Beginning inventory (12 × $100) .................................. Purchases Sept. 12 (45 × $103) ................................................ Sept. 19 (50 × $104) ................................................ Sept. 26 (20 × $105) ................................................ Cost of goods available for sale................................... Less: Ending inventory (20 × $105) + (5 × $104) ....... Cost of goods sold........................................................ LIFO Cost of goods available for sale........................................... Less: Ending inventory (12 × $100) + (13 × $103) ............ Cost of goods sold................................................................
$ 1,200 $4,635 5,200 2,100
11,935 13,135 2,620 $10,515
$13,135 2,539 $10,596
AVERAGE-COST Cost of goods available for sale........................................... Less: Ending inventory (25 × $103.425) .............................. Cost of goods sold ...............................................................
$13,135 2,586 $10,549
LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.6 (a) FIFO Total units available Less: Number of units sold Units in ending inventory Ending inventory (19 x $11)
93 74 19 $209
(b) LIFO Ending inventory (19 x $9)
$171
(c) AVERAGE-COST $938 ÷ 93 = $10.086 weighted-average unit cost Ending inventory (19 x $10.086) LO 2 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
$192
EXERCISE 6.7 (a) FIFO
Cost
of
Goods
Sold
(#1012) $52 + (#1045) $48 = $100 (b) It could choose to sell specific units purchased at specific costs if it wished to impact earnings selectively. If it wished to minimize earnings it would choose to sell the units purchased at higher costs–in which case the Cost of Goods Sold would be $100, as shown in (a) . If it wished to maximize earnings it would choose to sell the units purchased at lower costs–in which case the cost of goods sold would be $88 ($40 + $48). (c) The FIFO method provides a more appropriate balance sheet valuation and reduces the opportunity to manipulate earnings. (The answer may vary depending on the method the student chooses.) LO 2 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 6.8 (a)
(1) FIFO Beginning inventory (120 × $5) ................................. Purchases June 12 (370 × $6) ............................................... June 23 (200 × $7) ............................................... Cost of goods available for sale................................ Less: Ending inventory (200 × $7) + (30 × $6) ........ Cost of goods sold.....................................................
$ 600 $2,220 1,400
3,620 4,220 1,580 $2,640
(2) LIFO Cost of goods available for sale................................ Less: Ending inventory (120 × $5) + (110 × $6) ...... Cost of goods sold.....................................................
$4,220 1,260 $2,960
(3) AVERAGE-COST Cost of Goods Total Units Weighted-Average Available for Sale ÷ Available for Sale = Unit Cost $4,220 690 $6.116 Ending inventory (230 × $6.116) $1,407 Cost of goods sold (460 × $6.116) $2,813 or $4,220 – $1,407 = $2,813 (b) The FIFO method will produce the highest ending inventory because costs have been rising. Under this method, the earliest costs are assigned to cost of goods sold, and the latest costs remain in ending inventory. The LIFO method will produce the highest cost of goods sold for Jeters Company. Under LIFO the most recent costs are charged to cost of goods sold and the earliest costs are included in the ending inventory. (c) The average-cost ending inventory ($1,407) is higher than LIFO ($1,260) but lower than FIFO ($1,580). For cost of goods sold, average cost ($2,813) is higher than FIFO ($2,640) but lower than LIFO ($2,960). (d) The simple average would be (($5 + $6 + $7)/3) = $6. However, the average -cost method uses a weighted-average unit cost, not a simple average of unit costs. LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.9 (a) Sales...................................................................... Cost of goods sold ............................................... Operating expenses (including depreciation) .... Income before income taxes ............................... Income tax expense (20%) ................................... Net income ............................................................ (b) Sales...................................................................... Less: Cash paid for inventory purchases.......... Cash paid for operating expenses ($27,000 – $10,000)................................. Cash paid for income tax.......................... Net cash provided by operating activities .......... (c) Net cash provided by operating activities .......... ÷ Net income ......................................................... Quality of earnings ratio ......................................
LIFO $86,000 38,000 27,000 21,000 4,200 $16,800
FIFO $86,000 29,000 27,000 30,000 6,000 $24,000
LIFO $86,000 32,000
FIFO $86,000 32,000
17,000 4,200 $32,800
17,000 6,000 $31,000
LIFO $32,800 $16,800 1.95
FIFO $31,000 $24,000 1.29
LIFO results in a higher quality of earnings ratio because, assuming rising prices, it results in lower taxes, and thus higher net cash provided by operating activities. This increases the numerator of the ratio relative to FIFO. Also, LIFO results in lower net income, which decreases the denominator of the ratio relative to FIFO. Both effects result in a higher quality of earnings ratio. LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.10 Inventory at Lower-of-CostLower-of-Costor-NRV Units or-NRV
Cost/Unit
NRV/Unit
$170 145
$158 152
$158 145
5 7
$ 790 1,015
125 120
114 135
114 120
12 10
1,368 1,200 $4,373
Cameras: Minolta Canon Light Meters: Vivitar Kodak Total
LO 3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.11 Total Cost
NRV
Total NRV
Type of Bean Caffeinated Coffea arabica Coffea robusta
13,000 bags $5.60 $72,800 5,000 bags 3.40 17,000
$5.55 $72,150 $72,150 3.50 17,500 17,000 89,150
Decaffeinated Coffea arabica Coffea robusta
11,000 bags $6.20 $68,200 4,000 bags 4.80 19,200
$6.40 $70,400 4.50 18,000
Total
Quantity
Unit Cost
LCNRV
68,200 18,000 86,200 $175,350
LO 3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 6.12
(a) Inventory turnover
2025
2024
2023
$20,099 ($2,522 + $2,618) ÷ 2 $20,099 = 7.8 times $2,570
$20,351 ($2,290 + $2,522) ÷ 2 $20,351 = 8.5 times $2,406
$18,038 ($1,926 + $2,290) ÷ 2 $18,038 = 8.6 times $2,108
(b) Days in inventory
365 7.8
8.5
8.6
(c) Gross profit rate
($43,232 – $20,099) $43,232 = 53.5%
($43,251 – $20,351) $43,251 = 52.9%
($39,474 – $18,038) $39,474 = 54.3%
= 46.8 days
365
365
= 42.9 days
= 42.4 days
(d) The inventory turnover decreased by approximately 10% from 2023 to 2025 while the days in inventory increased by a similar amount (10%) over the same time period. Both of these changes would be considered unfavorable since it’s better to have a higher inventory turnover with a corresponding lower days in inventory. PepsiCo., Inc.’s gross profit rate decreased by 1.5% from 2023 to 2025. LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 6.13 (a) $1, 552,000
Inventory Turnover (2025):
Days in Inventory (2025) :
($553,000 $568,000) 2
365
Gross Profit Rate (2025):
Inventory Turnover (2024):
Days in Inventory (2024) :
2.8 times
130 days
2.8
($1,948,000 $1,552,000) 20.3% $1,948,000 $1,288,000 2.9 times ($568,000 $332,000) 2 365 2.9
126 days
EXERCISE 6.13 (Continued) Gross Profit Rate (2024):
($1,725,000 $1,288,000) 25.3% $1,725,000
(b) In 2025, Zoe’s Activewear experienced a deterioration in liquidity and profitability. The liquidity has been deteriorated due to the increase in time required to turn over its inventory, from 126 days to 130 days. The company has experienced deteriorated profitability due to a significant drop in its gross profit rate from 25.3% to 20.3%. LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 6.14 (a)
Inventory turnover
Days in inventory
$16,255 $16,255 5.98 ($3,042 $2, 397) 2 $2,719.5 365
61 days
5.98
(b) Based on data presented:
Current ratio
$30,857 ÷ $12,753 = 2.42 : 1
After adjusting for LIFO reserve: Current ratio ($30,857 + $1,367) ÷ $12,753 = 2.53 : 1 (c) After adjusting for the LIFO reserve, Deere’s current ratio increases
from 2.42 : 1 to 2.53 : 1. Deere’s liquidity looks slightly better after the adjustment. LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 6.15 (a) COST OF GOODS AVAILABLE FOR SALE Date April 1 10 24
Explanation Beginning inventory Purchase Purchase Total
Units 150 200 300 650
Unit Cost $210 250 270
Total Cost $ 31,500 50,000 81,000 $162,500
Ending inventory in units = units available for sale – units sold Ending inventory in units = 650 – (75 + 250 + 200) = 125
EXERCISE 6.15 (Continued) FIFO Ending Inventory Unit Total Date Units Cost Cost April 24 125 $270 $33,750
Cost of Goods Sold Cost of goods available for sale $162,500 Less: Ending inventory 33,750 Cost of goods sold $128,750
LIFO Ending Inventory Unit Total Date Units Cost Cost April 1 125 $210 $26,250
Cost of Goods Sold Cost of goods available for sale $162,500 Less: Ending inventory 26,250 Cost of goods sold $136,250
AVERAGE-COST Ending Inventory $162,500 ÷ 650 = $250
Units 125
Unit Cost $250
Total Cost $31,250
Cost of Goods Sold Cost of goods available for sale $162,500 Less: Ending inventory 31,250 Cost of goods sold $131,250
(b) SALES Date April 3 17 30 Total
Units 75 250 200
Unit Price $400 400 400
Total Sales $ 30,000 100,000 80,000 $210,000
EXERCISE 6.15 (Continued) Gross Profit
Gross Profit Rate
FIFO: $210,000 – $128,750 = $81,250 LIFO: $210,000 – $136,250 = $73,750 Avg.Cost: $210,000 – $131,250 = $78,750
$81,250 ÷ $210,000 = 38.7% $73,750 ÷ $210,000 = 35.1% $78,750 ÷ $210,000 = 37.5%
(c) Wisconsin Trading Company is experiencing increasing inventory cost in April. As a result, using FIFO will result in the highest ending inventory cost because this method expenses the oldest (lowest) costs first. That means it will generate the lowest Cost of Goods Sold, the highest Gross Profit, and the highest Gross Profit Rate. Using LIFO will result in the lowest ending inventory cost because it expenses the newest (highest) costs first. So, it will generate the highest Cost of Goods Sold, the lowest Gross Profit, and the lowest Gross Profit Rate. Using Average-Cost will generate results that fall somewhere between those for FIFO and LIFO. LO 2, 3 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*EXERCISE 6.16 (a)
Date June 1
Purchases
June 12
(370 @ $6) $2,220
FIFO Cost of goods sold
Balance (120 @ $5) $ 600 (120 @ $5) (370 @ $6)
June 15 June 23
(120 @ $5)
$ 600
(290 @ $6)
$1,740
(200 @ $7) $1,400
(80 @ $6) $ 480 (80 @ $6) (200 @ $7)
June 27
(50 @ $6)
$ 300 $2,640
Ending inventory: $1,580. Cost of goods sold: $2,640.
$2,820
$1,880
(30 @ $6) $1,580 (200 @ $7)
*EXERCISE 6.16 (Continued)
Date Purchases June 1 June 12 (370 @ $6) $2,220 June 15 June 23
LIFO Cost of Goods Sold
(370 @ $6) (40 @ $5)
$2,220 $ 200
(50 @ $7)
$ 350 $2,770
Balance (120 @ $5) $ 600 (120 @ $5) $2,820 (370 @ $6) (80 @ $5) $ 400 (80 @ $5) $1,800 (200 @ $7) (80 @ $5) $1,450 (150 @ $7)
(200 @ $7) $1,400
June 27
Ending inventory: $1,450. Cost of goods sold: $2,770.
Date
Purchases
Moving-Average Cost of Goods Sold
June 1 June 12
(120 @ $5) (370 @ $6) $2,220
June 15 June 23 June 27
Balance $ 600
(490 @ $5.755) $2,820 (410 @ $5.755) $2,360* (80 @ $5.755)
(200 @ $7) $1,400
$ 460*
(280 @ $6.643*) $1,860 (50 @ $6.643) $ 332* (230 @ $6.643) $1,528 $2,692
*rounded Ending inventory: $1,528. Cost of goods sold: $2,692. (A new average cost per unit is computed each time a purchase is made)
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*EXERCISE 6.16 (Continued) (b) FIFO gives the same ending inventory and cost of goods sold values
under both the periodic and perpetual inventory system. LIFO and moving-average give different ending inventory and cost of goods sold values under the periodic and perpetual inventory systems. (c) The simple average would be [($5 + $6 + $7) ÷ 3] or $6. However, the
moving-average method uses a weighted-average unit cost that changes each time a purchase is made rather than a simple average. LO 4 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*EXERCISE 6.17 Date 9/1 9/5 9/12
FIFO Cost of Goods Sold
Purchases
9/26
$
800
(4 @ $100) (44 @ $103)
$ 4,932
(45 @ $103) $4,635
9/16 9/19
(8 @ $100)
(50 @ $104) $5,200 (20 @ $105) $2,100
9/29
Ending inventory = $2,620
(1 @ $103) (45 @ $104)
$ 4,783 $10,515
Balance (12 @ $100) $1,200 (4 @ $100) $ 400 (4 @ $100) (45 @ $103) $5,035 (1 @ $103) (1 @ $103) (50 @ $104) (1 @ $103) (50 @ $104) (20 @ $105) (5 @ $104) (20 @ $105)
$ 103 $5,303 $7,403 2,620
*EXERCISE 6.17 (Continued) Date 9/1 9/5 9/12
LIFO Cost of Goods Sold
Purchases
9/19 9/26
(8 @ $100)
$
(45 @ $103) (3 @ $100)
$ 4,935
(45 @ $103) $4,635
9/16 (50 @ $104) $5,200 (20 @ $105) $2,100
9/29
Balance (12 @ $100) $1,200 800 (4 @ $100) $ 400 (4 @ $100) (45 @ $103) $5,035
(20 @ $105) (26 @ $104)
(1 @ $100) (1 @ $100) (50 @ $104) (1 @ $100) (50 @ $104) (20 @ $105)
$ 4,804 (1 @ $100) $10,539 (24 @ $104)
$ 100 $5,300 $7,400
$2,596
Ending inventory = $2,596 Date 9/1 9/5 9/12 9/16 9/19 9/26 9/29
Purchases
MOVING-AVERAGE Cost of Goods Sold
Balance (12 @ $100) $1,200 (8 @ $100) $ 800 (4 @ $100) $ 400 a (45 @ $103) $4,635 (49 @ $102.755) $5,035 (48 @ $102.755) $ 4,932* (1 @ $102.755) $ 103 (50 @ $104) $5,200 (51 @ $103.980)b $5,303 (20 @ $105) $2,100 (71 @ $104.268)c $7,403 (46 @ $104.268) $ 4,796* (25 @ $104.268) $2,607 $10,528
Ending inventory = $2,607 *Rounded a 5,035 ÷ 49 = $102.755 b 5,303 ÷ 51 = $103.980 c 7,403 ÷ 71 = $104.268 (A new average cost per unit is computed each time a purchase is made) LO 4 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*EXERCISE 6.18 Beginning inventory................................................... Cost of goods purchased .......................................... Cost of goods available for sale................................ Less: Corrected ending inventory ........................... Cost of goods sold..................................................... a
2024 2025 $ 20,000 $ 28,000 164,000 175,000 184,000 203,000 28,000a 42,000b $156,000 $161,000
$30,000 – $2,000 = $28,000 $37,000 + $5,000 = $42,000
b
LO 5 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*EXERCISE 6.19 (a) Sales revenue ...................................................... Cost of goods sold Beginning inventory .................................... Cost of goods purchased ............................ Cost of goods available for sale ................. Less: Ending inventory 2024: ($40,000 – $8,000) ................... Cost of goods sold............................. Gross profit .........................................................
2024 2025 $210,000 $250,000 32,000 173,000 205,000
32,000 202,000 234,000
32,000 173,000 $ 37,000
55,000 179,000 $ 71,000
(b) The cumulative effect on total gross profit for the two years is zero as shown below: Incorrect gross profits: Correct gross profits: Difference
$45,000 + $63,000 = $108,000 $37,000 + $71,000 = 108,000 $ 0
*EXERCISE 6.19 (Continued) (c) Dear Mr./Ms. President: Because your ending inventory of December 31, 2024 was overstated by $8,000, your net income for 2024 was overstated and net income for 2025 was understated by $8,000. In a periodic system, the cost of goods sold is calculated by deducting the cost of ending inventory from the total cost of goods you have available for sale in the period. Therefore, if this ending inventory figure is overstated, as it was in December 2024, the cost of goods sold is understated and therefore net income will be overstated by that amount. Consequently, this overstated ending inventory figure goes on to become the next period’s beginning inventory amount and is a part of the total cost of goods available for sale. Therefore, the mistake repeats itself in the reverse. Thank you for allowing me to bring this to your attention. If you have any questions, please contact me at your convenience. Sincerely, LO 5 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
SOLUTIONS TO PROBLEMS PROBLEM 6.1
(a) The goods should not be included in inventory as they were shipped FOB shipping point and shipped February 26. Title to the goods transfers to the customer February 26. Pitt should have recorded the transaction in the Sales Revenue and Accounts Receivable accounts at the sales price. (Legal title determines if an item should be included in inventory) (b) The amount should not be included in inventory as they were shipped FOB destination and not received until March 2. The seller still owns the inventory. No entry is recorded. (Legal title determines if an item should be included in inventory) (c) Include $500 in inventory. (Legal title determines if an item should be included in inventory) (d) Include $400 in inventory. (Legal title determines if an item should be included in inventory) (e) $750 should be included in inventory as the goods were shipped FOB shipping point. (Legal title determines if an item should be included in inventory) (f)
The sale will be recorded on March 2. The goods should be included in inventory at the end of February at their cost of $280. (Legal title determines if an item should be included in inventory)
(g) The damaged goods should not be included in inventory. They should be recorded in a loss account since they are not saleable. LO 1 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
PROBLEM 6.2
(a) COST OF GOODS AVAILABLE FOR SALE Date March 1 5 13 21 26
Explanation Beginning inventory Purchase Purchase Purchase Purchase Total
Units 2,500 2,000 3,500 5,000 2,000 15,000
Unit Cost $ 6.50 8.00 9.00 10.00 11.00
Total Cost $ 16,250 16,000 31,500 50,000 22,000 $135,750
(b) FIFO (1)
Ending Inventory Unit Total Date Units Cost Cost March 26 2,000 $11 $22,000 21 1,000 10 10,000 3,000* $32,000
(2) Cost of Goods Sold Cost of goods available for sale $135,750 Less: Ending inventory 32,000 Cost of goods sold $103,750
*15,000 – 12,000 = 3,000 Proof of Cost of Goods Sold Unit Total Date Units Cost Cost March 1 2,500 $ 6.50 $ 16,250 5 2,000 8.00 16,000 13 3,500 9.00 31,500 21 4,000 10.00 40,000 12,000 $103,750
PROBLEM 6.2 (Continued) LIFO (1)
Ending Inventory Unit Total Date Units Cost Cost March 1 2,500 $6.50 $16,250 5 500 8.00 4,000 3,000 $20,250
(2) Cost of Goods Sold Cost of goods available for sale $135,750 Less: Ending inventory 20,250 Cost of goods sold $115,500
Proof of Cost of Goods Sold Unit Total Date Units Cost Cost March 26 2,000 $ 11 $ 22,000 21 5,000 10 50,000 13 3,500 9 31,500 5 1,500 8 12,000 12,000 $115,500
AVERAGE-COST (1) Ending Inventory (2) Cost of Goods Sold Cost of goods $135,750 ÷ 15,000 = $9.05 available for sale $135,750 Less: Ending Unit Total inventory 27,150 Units Cost Cost Cost of goods sold $108,600 3,000 $9.05 $27,150
(c) (1) As shown in (b), FIFO produces the highest inventory amount, $32,000. (2) As shown in (b), LIFO produces the highest cost of goods sold, $115,500. LO 2 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
PROBLEM 6.3
(a)
COST OF GOODS AVAILABLE FOR SALE Date
Explanation
Units
Unit Cost
Jan. 1 Feb. 20 May 5 Aug. 12 Dec. 8
Beginning inventory Purchase Purchase Purchase Purchase Total
100 600 500 400 100 1,700
$ 8 9 10 11 12
Total Cost $
800 5,400 5,000 4,400 1,200 $16,800
(b) FIFO (1) Date Dec. 8 Aug. 12
Ending Inventory Unit Units Cost 100 100 200*
$12 11
Total Cost
(2) Cost of Goods Sold Cost of goods available for sale $16,800
$1,200 1,100 $2,300
Less: Ending inventory Cost of goods sold
*1,700 – 1,500 = 200 Proof of Cost of Goods Sold Total Unit Date Units Cost Cost Jan. 1 Feb. 20 May 5 Aug. 12
100 600 500 300 1,500
$ 8 9 10 11
$
800 5,400 5,000 3,300 $14,500
2,300 $14,500
PROBLEM 6.3 (Continued) LIFO (1)
Ending Inventory Total Unit Date Units Cost Cost Jan. 1 100 $8 $ 800 Feb. 20 100 9 900 200 $1,700
(2) Cost of Goods Sold Cost of goods $16,800 available for sale Less: Ending inventory 1,700 Cost of goods sold $15,100
Proof of Cost of Goods Sold Total Unit Date Units Cost Cost Dec. 8 Aug. 12 May 5 Feb. 20
100 400 500 500 1,500
$12 11 10 9
$ 1,200 4,400 5,000 4,500 $15,100
AVERAGE-COST (1) Ending Inventory (2) Cost of Goods Sold Cost of goods $16,800 ÷ 1,700 = $9.882 available for sale $16,800 Less: Ending Unit Total inventory 1,976 Units Cost Cost Cost of goods sold $14,824 200 $9.882 $1,976
(c) LIFO results in the lowest inventory amount for the balance sheet, $1,700. FIFO results in the lowest cost of goods sold for the income statement $14,500. LO 2 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation and Reporting
PROBLEM 6.4
(a)
NATIONAL INC. Condensed Income Statements For the Year Ended December 31, 2025 Sales revenue ...................................................... Cost of goods sold Beginning inventory .................................... Cost of goods purchased............................ Cost of goods available for sale ................. Less: Ending inventory* ............................ Cost of goods sold ...................................... Gross profit.......................................................... Operating expenses ............................................ Income before income taxes .............................. Income tax expense (28%) .................................. Net income ...........................................................
FIFO LIFO $750,000 $750,000 35,000 35,000 468,500 468,500 503,500 503,500 132,300a 116,400b 371,200 387,100 378,800 362,900 124,000 124,000 254,800 238,900 71,344 66,892 $183,456 $172,008
*
End. inventory = [(Beg. inventory + Purchases) – Sales] 32,000 = [(10,000 + 120,000) – 98,,000] a (25,000 @ $4.20) + (7,000 @ $3.90) = $132,300. b (10,000 @ $3.50) + (22,000 @ $3.70) = $116,400.
(b) Answers to questions: (1) The FIFO method produces the inventory amount that most closely approximates the amount that would have to be paid to replace the inventory because the units are costed at the most recent purchases cost. (2) The LIFO method produces the net income amount that is a more likely indicator of next period’s net income because the costs of the most recent purchases are matched against sales. (3) The FIFO method is most likely to approximate actual physical flow because the oldest goods are usually sold first to minimize spoilage and obsolescence.
PROBLEM 6.4 (Continued) (4) There will be $4,452 additional cash available under LIFO because income taxes are $66,892 under LIFO and $71,344 under FIFO. (5) The illusionary gross profit is $15,900 ($378,800 – $362,900) under FIFO. Under LIFO, National Inc. has recovered the current replacement cost of the units ($387,100), whereas under FIFO, it has only recovered the earlier costs ($371,200). This means that under FIFO, the company must reinvest $15,900 of the gross profit to replace the units sold. Answer in business-letter form: Dear National Inc. After preparing the comparative condensed income statements for 2025 under the FIFO and LIFO methods, we have found the following: The FIFO method produces the most meaningful inventory amount for the balance sheet because the units are costed at the most recent purchases. This method is most likely to approximate actual physical flow because the oldest goods are usually sold first to minimize spoilage and obsolescence. The LIFO method produces the most meaningful net income because the costs of the most recent purchases are matched against sales. There will be $4,452 additional cash available under LIFO because income taxes are $66,892 under LIFO and $71,344 under FIFO. There exists an illusionary gross profit of $15,900 ($378,800 – $362,900) under FIFO. Under LIFO, you have recovered the current replacement cost of the units ($387,100) whereas under FIFO you have only recovered the earlier costs ($371,200). This means that under FIFO, the company must reinvest $15,900 of the gross profit to replace the units used. Sincerely, LO 2 BT: AN Difficulty: Medium TOT: 35 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
PROBLEM 6.5
Cost of Goods Available for Sale Date Explanation October 1 Beginning inventory 9 Purchase 17 Purchase 25 Purchase
Ending Inventory in Units
Units 60 120 100 70 350
Unit Cost $24 26 27 29
Total Cost $1,440 3,120 2,700 2,030 $9,290
Sales revenue
Units available for sale Sales (100 + 60 + 110) Units remaining in ending inventory
350 270 80
Date October 11 22 29
Units 100 60 110 270
Unit Price $35 40 40
Total Sales $ 3,500 2,400 4,400 $10,300
(a) (1) LIFO (i) Ending inventory October 1 60 @ $24 = $1,440 9 20 @ $26 = $ 520 80 $1,960
(ii) Cost of goods sold Cost of goods available for sale Less: Ending inventory Cost of goods sold
(iii) Gross profit Sales revenue Cost of goods sold Gross profit
(iv) Gross profit rate Gross profit $2,970 = 28.8% Net sales $10,300
$10,300 7,330 $ 2,970
$9,290 1,960 $7,330
PROBLEM 6.5 (Continued) (2) FIFO (i) Ending inventory
(ii) Cost of goods sold Cost of goods available October 25 70 @ $29 = $2,030 for sale October 17 10 @ $27 = $ 270 Less: Ending inventory 80 $2,300 Cost of goods sold
(iii) Gross profit Sales revenue Cost of goods sold Gross profit
$9,290 2,300 $6,990
(iv) Gross profit rate $10,300 6,990
Gross profit $3,310 = = 32.1% Net sales $10,300
$ 3,310
(3) Average-Cost Weighted-average cost per unit:
(i) Ending inventory 80 @ $26.543 = $2,123* *rounded to nearest dollar (iii) Gross profit Sales revenue Cost of goods sold Gross profit
$10,300 7,167 $ 3,133
Cost of goods available for sale Units available for sale $9,290 = $26.543 350
(ii) Cost of goods sold Cost of goods available for sale Less: Ending inventory Cost of goods sold
$9,290 2,123 $7,167
(iv) Gross profit rate Gross profit $3,133 = 30.4% = Net sales $10,300
(b) LIFO produces the lowest ending inventory value, gross profit, and gross profit rate because its cost of goods sold is higher than FIFO or average-cost. Since FIFO’s cost of goods sold is lower than LIFO or average cost, FIFO produces the highest ending inventory value, gross profit, and gross profit rate. The cost of goods sold using average-cost is between that of FIFO and LIFO, so its ending inventory value, gross profit, and gross profit rate will be as well. LO 2 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
PROBLEM 6.6
(a) (1) To maximize gross profit, Jewels Gems should sell the diamonds with the lowest cost. Sale Date March 5 March 25
Cost of goods sold 150 @ $310 $ 46,500 30 @ $350 10,500 170 @ $350 59,500 220 @ $375 82,500 570 $199,000
Sales Revenue 180 @ $600 $108,000 390 @ $650 570
253,500 $361,500
Gross profit $361,500 – $199,000 = $162,500 (2) To minimize gross profit, Jewels Gems should sell the diamonds with the highest cost. Sale Date March 5 March 25
Cost of goods sold 180 @ $350 $ 63,000 330 @ $375 123,750 20 @ $350 7,000 40 @ $310 12,400 570 $206,150
Sales Revenue 180 @ $600 $108,000 390 @ $650 253,500 570 $361,500
Gross profit: $361,500 – $206,150 = $155,350 (b) FIFO Cost of goods available for sale March 1 3 10
Beginning inventory Purchase Purchase
Goods available for sale Units sold Ending inventory
150 @ $310 200 @ $350 330 @ $375 680
$ 46,500 70,000 123,750 $240,250
680 570 110 @ $375
$41,250
PROBLEM 6.6 (Continued) Cost of goods available for sale – Ending inventory Cost of goods sold Gross profit:
$361,500 – $199,000 = $162,500.
(c) LIFO Cost of goods available for sale (from part b) – Ending inventory 110 @ $310 Cost of goods sold Gross profit:
$240,250 41,250 $199,000
$240,250 34,100 $206,150
$361,500 – $206,150 = $155,350.
(d) The choice of inventory method depends on the company’s objectives. Since the diamonds are marked and coded, the company could use specific identification. This could, however, result in “earnings management” by the company because, as shown, it could carefully choose which diamonds to sell to result in the maximum or minimum income. Employing a cost flow assumption, such as LIFO or FIFO, would reduce record-keeping costs; FIFO would result in higher income, but LIFO would reduce income taxes and provide better matching of current sales revenue with current costs. LO 2 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
PROBLEM 6.7
(a)
Inventory turnover
Days in inventory
$166,259 $166,259 11.5 times ($13,921 $14,939) 2 $14, 430 365 11.5
(b)
Current ratio
31.7 days
$60,135 .86:1 $70, 308
(c) Current assets using LIFO
$60,135 1,423 $61,558
LIFO reserve Current assets assuming FIFO
Current ratio
$61,558
=.88:1
$70,308
(d) The current ratio was slightly higher in (c) compared to (b) because
current assets (i.e., inventory) are larger in (c). LO 3 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 6.8 (a) Sales: Date January 6 January 10 January 30 Tot. sales rev.
180 @ $40 50 @ $45 130 @ $48
$ 7,200 2,250 6,240 $15,690
(1) LIFO Date January
Purchases
Cost of goods sold
1
January 2 January 6
(100 @ $22) $2,200
January
(75 @ $24) $1,800
9
(100 @ $22) $3,800 (80 @ $20)
January 10 January 23
January 30
(50 @ $24) $1,200 (100 @ $25) $2,500
(100 @ $25) (25 @ $24) $3,200 (5 @ $20) $8,200
Balance (160 @ $20) $3,200 (160 @ $20) $5,400 (100 @ $22) (80 @ $20) $1,600 (80 @ $20) $3,400 (75 @ $24) (80 @ $20) $2,200 (25 @ $24) (80 @ $20) (25 @ $24) $4,700 (100 @ $25) (75 @ $20) $1,500
(i) Cost of goods sold: $8,200. (ii) Ending inventory = $1,500. (iii) Gross profit = $15,690 – $8,200 = $7,490.
*PROBLEM 6.8 (Continued) (2) FIFO Date January
1
January
2
January
6
January
Purchases
9
(100 @ $22) $2,200 (160 @ $20) (20 @ $22)
$3,640
(75 @ $24) $1,800
January 10 January 23
Cost of goods sold
(50 @ $22)
$1,100
(100 @ $25) $2,500
January 30
(30 @ $22) (75 @ $24) (25 @ $25)
$3,085
Balance (160 @ $20) $3,200 (160 @ $20) (100 @ $22)
$5,400
(80 @ $22)
$1,760
(80 @ $22) (75 @ $24)
$3,560
(30 @ $22) (75 @ $24)
$2,460
(30 @ $22) (75 @ $24) (100 @ $25)
$4,960
(75 @ $25)
$1,875
$7,825
(i) Cost of goods sold: $7,825. (ii) Ending inventory = $1,875. (iii) Gross profit = $15,690 – $7,825 = $7,865. (3) Moving-Average: Date January 1 January 2 January 6 January 9 January 10 January 23 January 30 a
Purchases
Cost of goods sold
(100 @ $22) $2,200 (180 @ $20.769) $3,738 (75 @ $24) $1,800 (50 @ $22.335)
$1,117
(100 @ $25) $2,500
$5,400 ÷ 260 = $20.769 b $3,462 ÷ 155 = $22.335
(130 @ $23.634) $3,072 $7,927 c
Balance (160 @ $20) $3,200 a (260 @ $20.769) $5,400 (80 @ $20.769) $1,662 (155 @ $22.335)b $3,462 (105 @ $22.335) $2,345 (205 @ $23.634)c $4,845 (75 @ $23.634) $1,773
$4,845 ÷ 205 = $23.634
(i) Cost of goods sold: $7,927. (ii) Ending inventory = $1,773. (iii) Gross profit = $15,690 – $7,927 = $7,763. (A new average cost per unit is computed each time a purchase is made)
*PROBLEM 6.8 (Continued) (b) Gross profit: Sales revenue – Cost of goods sold Gross profit Ending Inventory
LIFO
FIFO
$15,690 8,200 $ 7,490 $ 1,500
$15,690 7,825 $ 7,865 $ 1,875
MovingAverage $15,690 7,927 $ 7,763 $ 1,773
In a period of rising costs, the LIFO cost flow assumption results in the highest cost of goods sold and lowest gross profit. FIFO gives the lowest cost of goods sold and highest gross profit. The moving-average cost flow assumption results in amounts between the other two. On the balance sheet, FIFO gives the highest ending inventory (representing the most current costs); LIFO gives the lowest ending inventory (representing the oldest costs); and moving-average cost results in an ending inventory falling between the other two. LO 4 BT: AP Difficulty: Hard TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*PROBLEM 6.9 (a) (1) Date Purchases July 1 (7 @ $ 62) $434 6 11 (3 @ $ 66) $198 14
FIFO Cost of Goods Sold (5 @ $62) $310 (2 @ $62) (1 @ $66) $190
21 (4 @ $ 71) $284 27
(2 @ $66) (1 @ $71) $203
Balance (7 @ $ 62) $434 (2 @ $ 62) $124 (2 @ $ 62) (3 @ $ 66) $322 (2 @ $ 66) $132 (2 @ $ 66) (4 @ $ 71) $416 (3 @ $ 71) $213
(2)
MOVING-AVERAGE Cost of Date Purchases Goods Sold Balance July 1 (7 @ $ 62) $434 (7 @ $62) $434 6 (5 @ $62) $310 (2 @ $62) $124 11 (3 @ $ 66) $198 (5 @ $64.40)* $322 14 (3 @ $64.40) $193 (2 @ $64.40) $129 21 (4 @ $ 71) $284 (6 @ $68.833)**$413 27 (3 @ $68.833) $206***(3 @ $68.833) $207*** *$322 ÷ 5 = $64.40. **$413 ÷ 6 = $68.833. ***rounded (A new average cost per unit is computed each time a purchase is made under the moving average method.) (3)
LIFO Cost of Goods Sold
Date Purchases July 1 (7 @ $ 62) $434 6 (5 @ $ 62) $310 11 (3 @ $ 66) $198 14 (3 @ $ 66) $198 21 (4 @ $ 71) $284 27 (b)
(3 @ $ 71) $213
Balance (7 @ $ 62) $434 (2 @ $ 62) $124 (2 @ $ 62) $322 (3 @ $ 66) (2 @ $ 62) $124 (2 @ $ 62) (4 @ $ 71) $408 (2 @ $ 62) $195 (1 @ $ 71)
The highest ending inventory is $213 under the FIFO method.
LO 4 BT: AP Difficulty: Hard TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
CC6 (a) Feb. 2
16 25 Mar. 2 30 31 Apr. 1 13 30 May 4 27
CONTINUING CASE: COOKIE CHRONICLE Purchases............................................... Accounts Payable ..........................
1,150
Cash ........................................................ Sales Revenue ................................
1,100
Accounts Payable .................................. Cash ................................................
1,150
Purchases............................................... Accounts Payable ..........................
592
Cash ........................................................ Sales Revenue ................................
2,200
Accounts Payable .................................. Cash ................................................
592
Purchases............................................... Accounts Payable ..........................
1,172
Cash ........................................................ Sales Revenue ................................
3,300
Accounts Payable .................................. Cash ................................................
1,172
Purchases............................................... Accounts Payable ..........................
1,800
Cash ........................................................ Sales Revenue ................................
1,100
1,150 1,100 1,150 592 2,200 592 1,172 3,300 1,172 1,800 1,100
CC6 (Continued)
(b)
COST OF GOODS AVAILABLE FOR SALE Date Explanation Units Unit Cost Feb. 1 Beginning Inventory 3 $570 Feb. 2 Purchase 2 575 Mar. 2 Purchase 1 592 Apr. 1 Purchase 2 586 May 4 Purchase 3 600 Total 11
Total Cost $1,710 1,150 592 1,172 1,800 $6,424
(c) LIFO Ending Inventory Date Feb. 1 Feb. 2
Units 3 1 4
Unit Cost $570 575
Gross Profit Sales revenue Less: Cost of goods sold Gross profit
Total Cost $1,710 575 $2,285
$7,700* 4,139 $3,561
*$1,100 + $2,200 + $3,300 + $1,100 = $7,700
Cost of Goods sold Cost of goods available for sale $6,424 Less: Ending inventory 2,285 Cost of goods sold $4,139
Gross Profit Rate $3,561 $7,700
46.25%
CC6 (Continued) FIFO Ending Inventory Date May 4 Apr. 1
Units 3 1 4
Unit Cost $600 586
Total Cost $1,800 586 $2,386
Gross Profit Sales revenue Less: Cost of goods sold Gross Profit
Cost of Goods sold Cost of goods available for sale $6,424 Less: Ending inventory 2,386 Cost of goods sold $4,038
Gross Profit Rate $3,662 $7,700
$7,700 4,038 $3,662
47.56%
Average Cost Ending Inventory $6,424/11 = $584 Units 4
Unit Cost $584
Total Cost $2,336
Gross Profit Sales revenue Less: Cost of goods sold Gross profit
$7,700 4,088 $3,612
Cost of Goods Sold Cost of goods available for sale $6,424 Less: Ending inventory $2,336 Cost of goods sold $4,088
Gross Profit Rate $3,612 $7,700
46.91%
(d) It should not actually matter which cost flow assumption Natalie chooses for the purpose of the bank loan. Bankers should be able to recognize that the choice of cost flow assumption may result in timing differences within periods, but does not affect overall financial position. If it is important for purposes of the bank loan, the FIFO cost flow assumption will result in a higher net income, and higher inventory valuation on the balance sheet.
ACR6 (a)
ACCOUNTING CYCLE REVIEW SOLUTION
Dec. 3 5
7
17 22
31
Inventory (4,000 × $0.72)............................ Accounts Payable...............................
2,880
Accounts Receivable (4,400 × $0.90) ........ Sales Revenue ....................................
3,960
Cost of Goods Sold.................................... Inventory (3,000 × $0.60) + (1,400 × $0.72) ..................................
2,808
Sales Returns and Allowances ................. Accounts Receivable..........................
180
Inventory..................................................... Cost of Goods Sold ............................
144
Inventory (2,200 × $0.80)............................ Cash ....................................................
1,760
Accounts Receivable (2,000 × $0.95) ........ Sales Revenue ....................................
1,900
Cost of Goods Sold (2,000 × $0.72)........... Inventory .............................................
1,440
Salaries and Wages Expense .................... Salaries and Wages Payable..............
400
Depreciation Expense................................ Accumulated Depreciation— Equipment ........................................
200
Income Tax Expense.................................. Income Taxes Payable .......................
215
2,880 3,960
2,808
180 144 1,760 1,900 1,440 400
200 215
ACR6 (Continued) (b)
General Ledger Cash 4,800 Dec. 17 3,040
Bal. Bal.
Accounts Receivable Bal. 3,900 Dec. 7 Dec. 5 3,960 22 1,900 Bal. 9,580 Bal. Dec. 3 7 17 Bal.
Inventory 1,800 Dec. 5 2,880 22 144 1,760 2,336
Bal.
Equipment 21,000
1,760
180
2,808 1,440
3,000 2,880 5,880
Salaries and Wages Payable Dec. 31 400 Bal. 400 Income Taxes Payable Dec. 31 Bal.
10,000
Retained Earnings Bal. 17,000 Sales Revenue Dec. 5 22 Bal. Cost of Goods Sold Dec. 5 2,808 Dec. 7 22 1,440 Bal. 4,104
Accumulated Depreciation—Equipment Bal. 1,500 Dec. 31 200 Bal. 1,700 Accounts Payable Bal. Dec. 3 Bal.
Common Stock Bal.
215 215
3,960 1,900 5,860 144
Depreciation Expense Dec. 31 200 Bal. 200 Salaries and Wages Expense Dec. 31 400 Bal. 400 Sales Returns & Allowances Dec. 7 180 Bal. 180 Income Tax Expense Dec. 31 215 Bal. 215
ACR6 (Continued) (c)
WAYLON COMPANY Adjusted Trial Balance December 31, 2025 Cash .............................................................. Accounts Receivable ................................... Inventory....................................................... Equipment .................................................... Accumulated Depreciation—Equipment .... Accounts Payable ........................................ Salaries and Wages Payable ....................... Income Taxes Payable ................................. Common Stock............................................. Retained Earnings........................................ Sales Revenue.............................................. Sales Returns & Allowances ....................... Cost of Goods Sold...................................... Salaries and Wages Expense ...................... Depreciation Expense.................................. Income Tax Expense....................................
DR. $ 3,040 9,580 2,336 21,000
CR.
$ 1,700 5,880 400 215 10,000 17,000 5,860 180 4,104 400 200 215 $41,055
$41,055
[(Cash + Accts. rec. + Inv. + Equip. + Sales rtns. & allow. + CGS + Sal. & wages exp. + Depr. exp. + Inc. tax exp.) = (Accum. depr.-equip. + Accts. pay. + Sal. & wages pay. + Inc. tax. pay. + Common stk. + Ret. earn. + Sales rev.)] [($3,040 + $9,580 + $2,336 + $21,000 + $180 + $4,104 + $400 + $200 + $215) = ($1,700 + $5,880 + $400 + $215 + $10,000 + $17,000 + $5,860)]
ACR6 (Continued) (d)
WAYLON COMPANY Income Statement For the Month Ending December 31, 2025 Sales revenue............................................. Less: Sales returns and allowances........ Net sales..................................................... Cost of goods sold .................................... Gross profit ................................................ Operating expenses Salaries and wages expense ............. Depreciation expense ........................ Income before income tax......................... Income tax expense................................... Net income .................................................
$5,860 180
[(Sales rev. – Sales rtns. & allow.) – CGS – Oper. exp. – Inc. tax exp. = Net inc.] [(5,860 – $180) – $4,104 – ($400 + $200) – $215 = $761]
$5,680 4,104 1,576 400 200
600 976 215 $ 761
ACR6 (Continued) WAYLON COMPANY Balance Sheet December 31, 2025 Assets Current assets Cash........................................................ Accounts receivable.............................. Inventory ................................................ Total current assets ......................... Property, plant, and equipment Equipment .............................................. Less: Accumulated depreciation— Equipment .................................. Total assets ...................................................
$ 3,040 9,580 2,336 $14,956 21,000 1,700
19,300 $34,256
Liabilities and Stockholders’ Equity Current liabilities Accounts payable .................................. Salaries and wages payable ................. Income taxes payable............................ Total current liabilities..................... Stockholders’ equity Common stock....................................... Retained earnings ($17,000 + $761)...... Total stockholders’ equity............... Total liabilities and stockholders’ equity ....
$ 5,880 400 215 $ 6,495 10,000 17,761 27,761 $34,256
[((Cash + Accts. rec. + Inv.) + (Equip. – Accum. depr.-equip.)) = ((Accts. pay. + Sal. & wages pay. + Inc. tax. pay.) + (Common stk. + Ret. earn.))] [(($3,040 + $9,580 + $2,336) + ($21,000 – $1,700)) = (($5,880 + $400 + $215) + ($10,000 + $17,761))]
ACR6 (Continued) (e) FIFO Method
Beg. Inventory Dec. 3 purchase Dec. 17 purchase
Units 3,000 4,000 2,200 9,200
Unit Cost $0.60 $0.72 $0.80
Cost of Goods Available for Sale $1,800 2,880 1,760 $6,440
Ending Inventory
Cost of Goods Sold
Dec. 17 2,200 × $0.80 = $1,760 Dec. 3 800* × $0.72 = 576 3,000 $2,336
Cost of goods available for sale Less: Ending inventory Cost of goods sold
$6,440 2,336 $4,104
*(9,200 – 4,400 + 200 – 2,000) – 2,200 (f)
LIFO Method Ending Inventory Dec. 1
3,000 × $0.60 = $1,800
Cost of Goods Sold Cost of goods available for sale Less: Ending inventory Cost of goods sold
LO 2 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
$6,440 1,800 $4,640
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT6.1
FINANCIAL REPORTING PROBLEM
(Note: All dollar amounts are in millions) (a) Inventories were $4,061 at September 26, 2020 and $4,106 at September 28, 2019. (b) Inventories decreased $45 ($4,061 - $4,106) in 2020. Using 2019 as the base year, the decrease was approximately 1.1% ($45 ÷ $4,106). In 2020, inventories were approximately 2.8% of current assets ($4,061 ÷ $143,713). (c) Cost of product sales was: 2020, $151,286; 2019, $144,996; and 2018, $148,164. In 2020, cost of product sales was 68.5% of net product sales ($151,286 ÷ $220,747). LO 3 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
CT6.2
COMPARATIVE ANALYSIS PROBLEM
(a)
Columbia Sportswear
Under Armour
1. Inventory turnover
$1,277,665 $2, 314,572 ($556,530 $605,968) 2 ($895,974 $892,258) 2 $1,277,665 2.2 times $581,249
$2, 314,572 2.6 times $894,116
365
365
2. Days in inventory 2.2
= 165.9 days
= 140.4 days
2.6
(b) Generally, companies that are able to keep their inventory at lower levels and higher turnovers and still satisfy customer needs are the most successful. Both companies have low inventory turnovers. As a result, Columbia keeps more than five months of inventory on hand and Under Armour keeps more than four months on hand. LO 3 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
CT6.3
COMPARATIVE ANALYSIS PROBLEM
(a)
Amazon.com
Walmart
1. Inventory turnover
$233, 307 ($20, 497 $23,795) 2 $233, 307
10.5 times
$22,146
2. Days in inventory
b)
365 34.8 days 10.5
$420, 315 ($44,949 $44, 435) 2 $42, 315 9.4 times $44,692 365
38.8 days
9.4
Amazon has a slightly higher inventory turnover resulting in a smaller amount of inventory on hand than Walmart.
LO 3 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
CT6.4
INTERPRETING FINANCIAL STATEMENTS
(a) Finished goods are manufactured inventory items that are completed and ready for sale. Work in process is inventory that has been put into production but is not complete. Raw materials are the basic materials that have not yet been placed in production. (b) American Greetings may use LIFO for U.S. operations because of its tax advantages. Since many foreign countries do not allow the use of LIFO, American Greetings may use FIFO for non-domestic inventories. Using FIFO will result in higher reported profit and inventory values than LIFO. (c) Inventory turnover:
Days in inventory:
2025 $809, 956 ($216, 671 + $203, 873)/2 $809, 956 = 3.9 times $210, 272 365/3.9 = 93.6 days
2024 $780, 771 ($182, 618 + $216, 671)/2 $780, 771 = 3.9 times $199, 644.5 365/3.9 = 93.6 days
The inventory turnover remains unchanged from 2024 to 2025. (d) The LIFO reserve, $86,025, represents 42% of total inventory ($86,025/$203,873 = .42). Ending inventory using LIFO .................... Ending LIFO reserve.................................. Ending inventory assuming FIFO.............
$203,873 86,025 $289,898
This difference is probably considered “material” since it exceeds 10 percent. Since the reserve is disclosed, analysts can include both FIFO and LIFO amounts when analyzing performance. The FIFO value better represents the current value of American Greetings’ inventory.
CT6.4 (Continued) (e) Current ratio:
$561, 395
= 1.63 : 1
$343, 405 Current assets using LIFO Ending LIFO reserve Current assets assuming FIFO Current ratio:
$647, 420
$561,395 86,025 $647,420
= 1.89 : 1
$343, 405 LO 3 BT: AN Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
CT6.5
REAL-WORLD FOCUS
The following responses are based on Cisco's annual report for the Fiscal year ending July 25, 2020: (a) $1,282 million, as of July 25, 2020. (b) $1,282 million – $1,383 million = $101 million decrease. (c) 46.9 percent ($601 ÷ $1,282) per note 7 to the financial statements. LO 3 BT: AN Difficulty: Easy TOT: 15 AACSB: Analytic, Technology AICPA AC: Reporting
CT6.6
REAL WORLD FOCUS
(a) (1) Practice proper segregation of duties, (2) Implement a formal management reporting process, (3) Incorporate the element of surprise, (4) Automate your processes, (5) Conduct a production yield analysis, and (6) Pay special attention to bill and hold arrangements. (b) According to the author, segregation of duties “means don’t allow one person to be involved in two processes that have a conflict of interest.” The example he gives is that the same person should not be in charge of production and shipping. (c) Examples given for employing the element of surprise were conducting surprise stock counts or doing an unannounced shipping audit. (d) The author suggests employing data analytics through an analysis of production yield. This involves comparing the company’s actual output versus a standard output calculated from standard inputs of material and labor. Significant discrepancies should be investigated. (e) In some instances a buyer will purchase goods, but ask the supplier to continue to hold the goods in the seller’s warehouse until needed. The buyer will often do this to take advantage of an advantageous price, or to ensure an uninterrupted supply. They will ask the seller to store the goods because the buyer might not have adequate warehouse space, or it may not want to incur warehousing costs. Revenue can only be recognized under a bill-and-hold arrangement when a number of strict conditions have been met. Otherwise, there is a risk of fraudulently recognizing revenue before it is earned. LO 1 BT: S Difficulty: Medium TOT: 30 min. AACSB: Analytic and Technology AICPA AC: System and Process Management, and Reporting
CT6.7
DECISION-MAKING ACROSS THE ORGANIZATION
(a)
2025 Current ratio
2024
$1,800
$1,423 = 3.00 : 1
$600
Gross profit rate
$590
$9,428 – $6,328
Days in inventory
$6,328 = 7.5 times ($925 + $757)/2 365
$979 = 11.4%
= 13.0% $8,674 $7,536 $5,474 $4,445 = 8.1 times = 8.7times ($757 + $602)/2 ($602 + $418)/2 365
365 = 48.7 days
7.5
= 41.0% $7,536
$987
$9,428
Inventory turnover
$7,536 – $4,445 = 36.9%
$8,674 = 8.0%
= 2.25 : 1 $525
$8,674 – $5,474
$9,428 $754
$1,183 = 2.41 : 1
= 32.9%
Profit margin
2023
= 45.1 days 8.1
= 42.0 days 8.7
(b) The company’s current ratio has increased steadily over this period. While this might be interpreted as a positive, since it would normally represent improved liquidity, the company started this period with a current ratio in excess of 2, thus it already had good liquidity. With its current ratio now 3 it would appear that the company has too many funds tied up in current assets. In particular, it would appear that the company has a surplus of unsold inventory. This is supported by the fact that inventory as a percent of total assets has increased significantly. The gross profit rate has been steadily declining. From the CEO’s comments we learned that the company has frequently been forced to discount its products in order to move them off the shelves. This discounting will directly reduce the gross profit rate. The profit margin has also declined. Originally the company made a profit of 13 cents on each dollar of sales. Now it only makes 8 cents per sales dollar. A significant portion of this decline is most likely the result of the decline in the gross profit rate. Inventory turnover, as measured by the days in inventory has worsened considerably during this period. At the beginning of this period it took 42 days to sell the average inventory item, now it takes 49.
CT6.7 (Continued) (c) The evaluation above suggests that many of the company’s problems stem from poor inventory management. As the company has grown, its ability to manage its inventory has declined. This has caused a decline in its profitability. By implementing a just-in-time inventory system the company could reduce the amount of resources that it has tied up in inventory, thus reducing its storage and handling costs. Also, it should reduce the need for product discounting, since the company will be less likely to be stuck with surplus inventory. (d) The marketing and sales department may well be concerned that a justin-time inventory system will result in more stock-outs. The company already is having stock-out problems, even though it has a lot of inventory. The company’s current inventory system appears to lack good technological support, which would allow it to identify which products are selling well. As discussed in the case of both Caterpillar and Dell computers in the chapter, a well implemented just-in-time system, supported by technology and coordination with suppliers, would enable the company to reduce its inventory balance while actually increasing its ability to deliver products to customers in a timely fashion. LO 1, 3 BT: E Difficulty: Hard TOT: 45 min. AACSB: Analytic and Communication AICPA AC: Measurement Analysis and Interpretation, and Reporting AICPA PC: Collaboration, Leadership, and Communication
CT6.8
COMMUNICATION ACTIVITY
In a period of changing prices, the cost flow assumption can have a significant impact on income and on evaluations based on income. Under the FIFO method, the costs of the earliest goods purchased are the first to be recognized as cost of goods sold. Under the average-cost method, the calculation of cost of goods sold is made on the basis of the weightedaverage unit cost incurred. In a period of rising prices, FIFO will produce a lower cost of goods sold and a higher net income. Starbucks’ change from FIFO to average-cost will result in a higher cost of goods sold and a lower net income. Because of increasing competition, Starbucks probably is not able to pass the coffee bean price increase on to its customers. Using the average-cost method allows Starbucks to average its changing inventory prices and avoid a distortion of income. A possible disadvantage of the change is the related balance sheet effect. Since inventory is a current asset, Starbucks’ current ratio will be lower because of the change. In addition, the company’s inventory turnover and days in inventory could be adversely affected. LO 2 BT: E Difficulty: Hard TOT: 30 min. AACSB: Reflective Thinking and Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication AICPA BC: Strategic Perspective
*CT6.9
COMMUNICATION ACTIVITY
MEMO To:
H.K. Logan, President
From:
Student
Subject: 2024 ending inventory error As you know, 2024 ending inventory was overstated by $1 million. Of course, this error will cause 2024 net income to be incorrect because the ending inventory is used to compute 2024 cost of goods sold. Since the ending inventory is subtracted in the computation of cost of goods sold, an overstatement of ending inventory results in an understatement of cost of goods sold and therefore an overstatement of net income. Unfortunately, unless corrected, this error will also affect 2025 net income. The 2024 ending inventory is also the 2025 beginning inventory. Therefore, 2025 beginning inventory is also overstated, which causes an overstatement of cost of goods sold and an understatement of 2025 net income. LO 5 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic and Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CT6.10
ETHICS CASE
(a) The higher cost of the items ordered, received, and on hand at yearend will be charged to cost of goods sold, thereby lowering current year’s income and income taxes. Next year’s income will be increased because the inventory carried at lower costs from the earlier year will be charged to next year’s cost of goods sold. If the purchase at yearend had been made in the next year, the next year’s cost of goods sold would have absorbed the higher cost. (b) No. The president would not have given the same directive because the purchase under FIFO would have had no effect on net income of the current year. (c) The accountant has no grounds for not ordering the goods if the president insists. The purchase is legal and ethical, even though it allows the company to “manage” this year’s net income. LO 2 BT: E Difficulty: Medium TOT: 20 min. AACSB: Ethics, Reflective Thinking and Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication and Ethical Conduct
CT6.11
ALL ABOUT YOU
Students’ responses to this question will vary depending on the inventory fraud they choose to investigate. Here are responses for the two examples given in the activity. The fraud at Leslie Fay involved a number of illegal actions, all of which increased net income. The company intentionally overstated ending inventory, which has the effect of understating cost of goods sold. It also understated or completely omitted discounts and allowances that it gave to retailers. In addition, it recorded inventory costs at amounts that differed from the invoice amount. It also reported sales in incorrect periods. McKesson Corporation increased its reported net income through manipulation of inventory and sales records. It back-dated many transactions to increase current period results. It also swapped inventory to increase reported revenue. Many of the transactions that it reported as sales, and which resulted in reductions in inventory, were actually not sales because they had negotiated side agreements which allowed the buyer to return the merchandise. LO 2 BT: E Difficulty: Hard TOT: 40 min. AACSB: Ethics, Technology, Reflective Thinking and Communication AICPA AC: Reporting AICPA PC: Communication and Ethical Conduct
CT6.12
FASB CODIFICATION ACTIVITY
(a) The primary basis of accounting for inventories is cost, which has been defined generally as the price paid or consideration given to acquire an asset. As applied to inventories, cost means in principle the sum of the applicable expenditures and charges directly or indirectly incurred in bringing an article to its existing condition and location. It is understood to mean acquisition and production cost, and its determination involves many considerations. (330-10-30-1) (b) The basis of stating inventories shall be consistently applied and shall be disclosed in the financial statements; whenever a significant change is made therein, there shall be disclosure of the nature of the change and, if material, the effect on income. A change of such basis may have an important effect upon the interpretation of the financial statements both before and after that change, and hence, in the event of a change, a full disclosure of its nature and of its effect, if material, upon income shall be made. Codification reference (330-10-50-1). LO 1, 3 BT: AP Difficulty: Hard TOT: 40 min. AACSB: Technology, and Communication AICPA AC: Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
CT6.13
CONSIDERING PEOPLE, PLANET, AND PROFIT
(a) The company’s goals as stated in the 2019 report were separated into two groups as follows: 2020 Goals for Operations ● Reduce recordable workplace injury rate to 0.6 and lost-time case rate due to injury to 0.15 ● Reduce energy intensity by 50% from 2006. ● Reduce greenhouse gas emissions intensity by 50% from 2006. ● Use alternative/renewable sources to meet 20% of our energy needs. ● Reduce by-product materials intensity by 50% from 2006. ● Reduce water consumption intensity by 50% from 2006. ● Design all new facility construction to meet Leadership in Energy and Environmental Design (LEED) or comparable green building criteria 2020 Goals for Product Stewardship ● Provide leadership in the safety of people in, on and around our products. ● Leverage technology and innovation to improve sustainability of our products, services and solutions for our customers. ● Increase managed fleet hours by 100% from 2013. ● Increase remanufactured and rebuild business sales by 20% from 2013. (b) The company improved its Recordable Injury Frequency rate by 93 percent from the 2003 baseline year and 19 percent from its last reporting period. It improved its Lost-Time Case Frequency rate by 95 percent from the 2003 baseline year and 6 percent from the last reporting period. Both of these would appear to be significant improvements in the area of worker conditions and safety. (c) The company measures its energy intensity by dividing its total revenue in dollars into a measure of its total energy used. This then provides a measure of how much energy it uses to generate revenue. Based on this measure, the company showed significant improvement relative to the base year of 2006. LO None BT: AP Difficulty: Hard TOT: 40 min. AACSB: Technology and Communication Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
AICPA AC:
CHAPTER 7 Fraud, Internal Control, and Cash Learning Objectives 1. Define fraud and the principles of internal control. 2. Apply internal control principles to cash. 3. Identify the control features of a bank account. 4. Explain the reporting of cash and the basic principles of cash management. *5. Explain the operation of a petty cash fund.
ANSWERS TO QUESTIONS 1.
Fraud is a dishonest act by an employee that results in personal benefit to the employee at a cost to the employer. An example of fraud that might occur at a bank would be a computer operator embezzling funds by transferring a customer’s deposits into another account.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
2.
The three main factors that contribute to employee fraud are opportunity, financial pressure, and rationalization. Opportunities that an employee can take advantage of occur when the workplace lacks sufficient controls to deter and detect fraud. Financial pressure occurs when employees want to lead a lifestyle that they cannot afford on their current salary. Rationalization involves employees justifying fraud because they believe they are underpaid while their employer is making lots of money.
LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
3.
The five components of a good internal control system are: (1) A control environment, (2) Risk assessment, (3) Control activities, (4) Information and communication, and (5) Monitoring.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
4.
Disagree. Internal control is also concerned with the safeguarding of company assets, increasing efficiency of operations, and ensuring compliance with laws and regulations.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
5.
The Sarbanes-Oxley Act requires that a company develop sound principles of internal control over financial reporting and continually verify that these controls are working. The act specifically requires top management to attest that the company’s internal controls are reliable and effective.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
6.
The principles of internal control that apply to most businesses are: (a) establishment of responsibility, (b) segregation of duties, (c) documentation procedures, (d) physical controls, (e) independent internal verification, and (f) human resource controls.
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
7.
Yes, this is a violation of the internal control principle of establishing responsibility. In this case, each sales clerk should have a separate cash register or cash register drawer.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
8.
The two applications of segregation of duties are: (1) The responsibility for related activities should be assigned to different individuals. (2) The responsibility for record keeping for an asset should be separate from the physical custody of that asset.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 7 (Continued) 9.
Documentation procedures contribute to good internal control by providing evidence of the occurrence of transactions and events and, when signatures (or initials) are added, the documents establish responsibility for the transactions. The prompt transmittal of documents to accounting contributes to recording transactions in the proper period, and the prenumbering of documents helps to ensure that a transaction is not recorded more than once or not at all.
LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
10.
Safes, vaults, and locked warehouses contribute to the safeguarding of company assets. Cash registers and computerized accounting equipment contribute to the accuracy and reliability of the accounting records, and electronic burglary systems and sensors help to safeguard assets.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
11.
(a) Independent internal verification involves the review, comparison, and reconciliation of data prepared by employees. (b) Maximum benefit is obtained from independent internal verification when: (1) The verification is made periodically or on a surprise basis. (2) The verification is done by an employee who is independent of the personnel responsible for the information. (3) Discrepancies and exceptions are reported to a management level that can take appropriate corrective action.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
12.
(a) The concept of reasonable assurance means that the costs of establishing control procedures should not exceed their expected benefit. Ordinarily, a system of internal control provides reasonable but not absolute assurance, since absolute assurance would be too costly. (b) The human element is an important factor in a system of internal control. A good system may become ineffective as the result of employee fatigue, carelessness, or indifference. Moreover, internal control may become ineffective as a result of collusion.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
13.
The human resources department plays an important role in internal control by (a) bonding employees who handle cash, (b) rotating employees’ duties and requiring employees to take vacations, (c) conducting thorough background checks.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
14.
Cash should be reported at $21,100 (Cash in Bank-Savings account, $8,000 + Cash on Hand, $1,100 + Checking Account Balance, $12,000).
LO 4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
15.
Daily cash counts pertain primarily to the principles of segregation of duties, documentation procedures, and independent internal verification. Daily cash counts also involve the establishment of responsibility for performing the counts.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: knowledge AICPA AC: Reporting
Questions Chapter 7 (Continued) 16.
Cash registers are readily visible to the customer. Thus, they prevent the sales clerk from ringing up a lower amount and pocketing the difference. In addition, the customer receives an itemized receipt, and the cash register tape is locked into the register for further verification, providing documentation and enabling independent internal verification.
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
17.
Two mail clerks contribute to a more accurate listing of mail receipts and to the endorsement of all checks “For Deposit Only.” In addition, two clerks reduce the likelihood of mail receipts being diverted to personal use.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
18.
True. Payment by check or electronic fund transfer contributes to effective internal control over cash disbursements. However, effective control is also possible when small payments are made from petty cash.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
19.
The procedure and related principle are: Procedure
Principle
(1) Treasurer signs checks. (2) Checks imprinted by a checkwriter. (3) Comparing check with approved invoice before signing.
Establishment of responsibility. Physical controls. Independent internal verification.
LO 2 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
20. (a) Physical controls apply to cash disbursements when blank checks are stored in a safe, and access to the safe is restricted to authorized personnel, and a check-writing machine is used to print amounts on checks with indelible ink. (b) Human resource controls apply when the company bonds personnel who handle cash, requires employees to take vacations, and conducts background checks. LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: knowledge AICPA AC: Reporting
21. Electronic funds transfer is a cash disbursement system that uses wire, telephone, or computers to transfer cash balances from one location to another. LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
22. True. A bank contributes significantly to internal control over cash because it: (1) safeguards cash on deposit, (2) minimizes the amount of cash that must be kept on hand, and (3) provides a double record of all bank transactions. LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 7 (Continued) 23. The lack of agreement between the balances may be due to either: (1) Time lags—a check written in July does not clear the bank until August. (2) Errors—a check for $110 is recorded by the depositor as $101. LO 3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
24. The basic principles of cash management are: (1) increase the speed of receivables collection, (2) keep inventory low, (3) monitor payment of liabilities, (4) plan timing of major expenditures, and (5) invest idle cash. LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
An NSF check occurs when the check writer’s bank balance is less than the amount of the check. (b) In a bank reconciliation, a customer’s NSF check is deducted from the balance per books. (c) An NSF check results in an adjusting entry in the company’s books, as a debit to Accounts Receivable and a credit to Cash.
25. (a)
LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
26. (a) Cash equivalents are short-term highly liquid investments that may be converted to a specific amount of cash. Cash equivalents may be reported with cash in the current assets section of the balance sheet. (b) Cash restricted for a special purpose should be reported separately as a current or noncurrent asset depending on when the cash is expected to be used. LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
27.
At September 26,, 2020, Apple reported cash and cash equivalents of $38,016 (millions). It reported no restricted cash on the face of the balance sheet; however, in Note 3 in the “Restricted Cash” section to its financial statements, Apple reported restricted cash of $36 million were included in other current assets and $1,737 (millions) were included in other non-current assets. It also disclosed that “the Company’s restricted cash primarily consisted of cash to support the Company’s iPhone Upgrade Program.”. In Note 1 to its financial statements it defines cash equivalents as “All highly liquid investments with maturities of three months or less at the date of purchase.”
LO 4 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
*28.
The activities in a petty cash system and the related principles are: Establishment of responsibility for custody of the fund. (2) Making payments from the fund. Documentation procedures because the custodian must use a prenumbered petty cash receipt. (3) Replenishing the fund. Independent internal verification because the request for replenishment must be approved before the check is written.
(a) (1) Establishing the fund.
(b) Journal entries are required for a petty cash fund when it is established and replenished. Entries are also required when the size of the fund is increased or decreased. LO 5 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 7.1 (a) (b) (c) (d)
Financial Pressure Rationalization Financial Pressure Opportunity
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.2 (a) True. (b) True. (c) False. The Sarbanes-Oxley Act requires U.S. corporations to maintain an adequate system of internal control. LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.3 The purposes of internal control are to: 1.
Safeguard a company’s assets from employee theft, robbery, and unauthorized use. An application for Young Co. is the use of a cash register to safeguard assets.
2.
Enhance the accuracy and reliability of a company’s accounting records by reducing the risk of errors (unintentional mistakes) and irregularities (intentional mistakes and misrepresentations) in the accounting process. An application for Young Co. is the preparation of a bank reconciliation.
3.
Increase efficiency of operations. An application is assignment of responsibility to specific employees.
4.
Ensure compliance with laws and regulations. An application is use of cash register tapes to document sales and applicable sales taxes.
All of these purposes are important to the success of any business endeavor.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.4 (a) Segregation of duties. (b) Independent internal verification. (c) Documentation procedures. LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.5 (a) (b) (c) (d) (e)
Physical controls. Human resource controls. Independent internal verification. Segregation of duties. Establishment of responsibility.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.6 (a) Cash.................................................................. Cash Over and Short ....................................... Sales Revenue...........................................
6,820.75 50.75
(b) Cash.................................................................. Cash Over and Short ....................................... Sales Revenue...........................................
6,899.82
6,871.50 28.32 6,871.50
LO 2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 7.7 Cash ($1,125.74 – $150.00)...................................... Cash Over and Short............................................... Sales Revenue ................................................. LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
975.74 12.88 988.62
BRIEF EXERCISE 7.8 (a) (b) (c) (d) (e)
Documentation procedures. Independent internal verification. Physical controls. Establishment of responsibility. Segregation of duties.
LO 1, 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.9 (a) The use of a checking account minimizes the amount of currency that must be kept on hand. Therefore, cash is safeguarded by using the bank as a depository and clearinghouse for checks written and received. (b) A bank statement provides a double record of a depositor’s bank transactions. It also is used in making periodic independent bank reconciliations. LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 7.10 (a) Outstanding checks—deducted from cash balance per bank. (b) Bank debit memorandum for service charge—deducted from cash balance per books. (c) Bank credit memorandum for EFT—added to cash balance per books. (d) Deposit in transit—added to cash balance per bank. LO 3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 7.11 (a) The reconciling items per the books, items (b) and (c) above, will require adjustment on the books of the depositor. (b) The other reconciling items, deposits in transit and outstanding checks, do not require adjustment because they have already been recorded on the depositor’s books. LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 7.12 Cash balance per bank statement................................................ Add: Deposits in transit .............................................................. Less: Outstanding checks ........................................................... Adjusted cash balance per bank ..................................................
$7,291 1,350 8,641 762 $7,879
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 7.13 Checks written in November ........................................................ Less: Checks paid by bank in November .................................. Checks outstanding at the end of November .............................. Add: Checks written in December............................................. Less: Checks paid by bank in December................................... Checks outstanding at the end of December ..............................
$ 9,750 8,800 950 11,762 10,889 $ 1,823
LO 3 BT: AP Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 7.14 Cash balance per books ............................................................... Add: Interest earned ..................................................................... Less: Charge for printing company checks............................... Adjusted cash balance per books................................................
$9,500 40 9,540 35 $9,505
LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 7.15 Spahn Company should report cash in bank and payroll bank account as current assets. Plant expansion fund cash should be reported as restricted cash, a non-current asset, assuming the fund is not expected to be used during the next year. LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 7.16 BONKERS COMPANY Cash Budget For the Month of January Beginning cash balance ............................................................... Add: Cash receipts ..................................................................... Total available cash ...................................................................... Less: Cash disbursements.......................................................... Excess of available cash over cash disbursements................... Add: Borrowings $9,000 - $4,000) ............................................... Ending cash balance.....................................................................
$12,000 59,000 71,000 67,000 4,000 5,000 $ 9,000
(Beg. cash bal. + Cash receipts – cash disb. + Borrowings = End. cash bal.) ($12,000 + $59,000 - $67,000 + $5,000 = $9,000) LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 7.17 Mar. 20
Postage Expense.......................................................... Supplies ........................................................................ Travel Expense ............................................................. Cash ($100 - $19) ..................................................
LO 5 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
40 26 15 81
SOLUTIONS TO DO IT! EXERCISES DO IT! 7.1 1.
Violates the control activity of documentation procedures. Source documents should be promptly forwarded to the accounting department so accounting entries can be made. This control activity helps to ensure timely recording of sales transactions and contributes directly to the accuracy and reliability of the accounting records.
2.
Violates the control activity of segregation of duties. Different individuals should be responsible for related activities, such as these three related purchasing activities. Many abuses could occur, including the following: placing orders with friends and getting kickbacks; approving fictitious invoices for payment.
3.
Violates the control activity of establishment of responsibility. Draper’s would be unable to determine who was responsible for a cash shortage; this lapse could even encourage employee theft.
LO 1 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
DO IT! 7.2 All mail receipts should be opened in the presence of two mail clerks. Those mail clerks should immediately stamp each check “For Deposit Only.” The mail clerks should prepare, in triplicate, a list of the checks received each day. The checks and the original copy of the list should be sent on to the cashier’s department each day. The cashier’s department should deposit cash receipts daily. A copy of the list is sent to the accounting department for recording in the accounting records. The clerks also keep a copy. LO 2 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
DO IT! 7.3 Ned should treat the reconciling items as follows: 1.
Outstanding checks: Deduct from balance per bank.
2.
A deposit in transit: Add to balance per bank.
3.
The bank charged to our account a check written by another company: Add to balance per bank and notify the bank of its error.
4.
A debit memorandum for a bank service charge: Deduct from balance per books.
LO 3 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 7.4a 1. 2. 3. 4.
True. False. A company that has received NSF checks should report these checks as a current asset (accounts receivable) on the balance sheet. False. Restricted cash that is a current asset is not reported as part of cash and cash equivalents. True.
LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 7.4b Beginning cash balance ............................................... Add: Cash receipts for September.............................. Total available cash ...................................................... Less: Cash disbursements for September ................. Excess (deficiency) of available cash over cash disbursements............................................................ Add: Borrowings ($8,000 + $5,530) ............................. Ending cash balance.....................................................
$ 12,270 97,200 109,470 115,000 (5,530) 13,530 $ 8,000
To maintain the desired minimum cash balance of $8,000 Stern must borrow $13,530 of cash. (Beg. cash bal. + Sept. cash receipts – Sept. cash disb. + Borrowings = End. cash bal.) ($12,270 + $97,200 $115,000 + $13,530 = $8,000) LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 7.1 The principles of internal control inherent in the “maker-checker” procedure are: 1.
Segregation of duties. The employee records the transactions. The supervisor verifies and approves the transactions.
2.
Physical controls. Access to the computer system is passwordprotected and task-specific.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.2 1.
Establishment of responsibility. The counter clerk is responsible for handling cash. Other employees are responsible for making the pizzas.
2.
Segregation of duties. Employees who make the pizzas do not handle cash.
3.
Documentation procedures. The counter clerk uses your order invoice (ticket) in registering the sale on the cash register. The cash register produces a tape of all sales.
4.
Physical controls. A cash register is used to record the sale.
5.
Independent internal verification. The counter clerk, in handling the pizza, compares the size of the pizza with the size indicated on the order.
6.
Human resource controls. No visible application possible.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.3 Procedure
IC good or weak?
1. 2. 3. 4. 5.
Weak Good Weak Good Weak
Related internal control principle Establishment of Responsibility Independent Internal Verification Segregation of Duties Segregation of Duties Documentation Procedures
LO 1, 2 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.4 Procedure
IC good or weak?
1. 2. 3. 4. 5.
Good Weak Weak Good Good
Related internal control principle Human Resource Controls Establishment of Responsibility Segregation of Duties Independent Internal Verification Physical Controls
LO 1, 2 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.5 (a) Principle Violated
(b) Recommended Change
Procedure
Weakness
1.
Cashiers are not bonded and background checks are not conducted.
Human resource controls.
Cashiers should be bonded and background checks should be performed.
2.
Inability to establish responsibility for cash on a specific clerk.
Establishment of responsibility.
There should be separate cash drawers and register codes for each clerk.
3.
Cash is not adequately
Physical controls.
Cash should be stored in a safe until
protected from theft.
it is deposited in bank.
EXERCISE 7.5 (Continued) 4.
Cash is not independently counted.
Independent internal verification.
A cashier office supervisor should count cash, and reconcile the total to the cash register tape.
5.
The accountant should not handle cash.
Segregation of duties.
The cashier’s department should make the deposits.
LO 2 BT: E Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.6 (a) Procedure
Weakness
(b) Principle Violated
Recommended Change
1.
Checks are not stored in a secure area.
Physical controls.
Checks should be stored in a safe or locked file drawer.
2.
The approval and payment of bills is done by the same individual.
Segregation of duties.
The store manager should approve bills for payment and the treasurer should sign and issue checks.
3.
Unauthorized employees making purchases.
Establishment of responsibility.
Only employees granted authority should make purchases for the store.
Use of cash instead of checks; no prenumbered invoices.
Documentation procedures.
Purchases should be paid with prenumbered checks and the purchases should be documented
by a prenumbered invoice signed by the seller.
EXERCISE 7.6 (Continued) 4.
Filing does not prevent a bill from being paid more than once.
Documentation procedures.
Bills should be stamped PAID after payment.
5.
The bank reconciliation is not independently prepared.
Independent internal verificationor segregation of duties.
Someone with no other responsibilities relating to cash should prepare the bank reconciliation.
LO 2 BT: E Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.7 (a) Weaknesses
(b) Suggested Improvement
1.
Checks are not prenumbered. (Documentation procedures)
Use prenumbered checks.
2.
The purchasing agent signs checks. (Establishment of responsibility)
Only the treasurer’s department personnel should sign checks.
3.
Unissued checks are stored in unlocked file cabinet. (Physical controls)
Unissued checks should be stored in a locked file cabinet with access restricted to authorized personnel.
4.
Purchasing agent approves and pays for goods purchased. (Segregation of duties)
Purchasing should approve bills for payment by the treasurer.
5.
After payment, the invoice paid by the purchasing agent is filed. (Documentation procedures)
The invoice should be stamped PAID.
6.
The purchasing agent records payments in cash disbursements journal. (Segregation of duties)
Only accounting department personnel should record cash disbursements.
EXERCISE 7.7 (Continued) 7.
The treasurer records the checks in cash disbursements journal. (Segregation of duties)
Same as answer to No. 6 above.
8.
The treasurer reconciles the bank statement. (Independent internal verification)
An internal auditor, or someone with no other responsibilities relating to cash, should reconcile the bank
statement. LO 2 BT: E Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 7.8 (a)
RANCHERO COMPANY Bank Reconciliation August 31, 2025
(a) Cash balance per bank statement .................................. Add: Deposits in transit ................................................
$7,328 2,700 10,028 686 $9,342
Less: Outstanding checks ............................................. Adjusted cash balance per bank .................................... Cash balance per books.................................................. Add: Collection on electronic funds transfer................
$7,364 2,016 9,380 38 $9,342
Less: Bank service charge............................................. Adjusted cash balance per books .................................. (Cash per bank + Dep. in transit – Outstdg cks.); (Cash per books + Coll. of EFT – Bank svc. chrg .) ($7,328 + $2,700 $686); ($7,364 + $2,016 $38)
(b) Aug. 31 31
Cash ..................................................... Accounts Receivable..................
2,016
Bank Charge Expense ........................
38
2,016
Cash ............................................ LO 3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
38
EXERCISE 7.9 (a) Cash balance per bank statement .................. Add: Deposits in transit ................................
$3,677.20 590.00 4,267.20 770.00 $3,497.20
Less: Outstanding checks ............................. Adjusted cash balance per bank .................... (Cash bal. per bank stmt. + Dep. in transit – Outsdg. Cks. = Adj. cash bal. per bank) ($3,677.20 + $590.00 $770,00 = $3,497.20)
(b) Cash balance per books.................................. Less: NSF check ............................................. Bank service charge............................. Adjusted cash balance per books ..................
$3,975.20 $450.00 28.00
478.00 $3,497.20
(Cash bal. per books – (NSF ck. + Bank serv. chrg.) = Adj. cash bal. per books) ($3,975.20 – ($450.00 + $28.00) = $3,497.20)
(c) Accounts Receivable....................................... Cash ...........................................................
450.00
Bank Charges Expense ................................... Cash ...........................................................
28.00
450.00
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 7.10 The outstanding checks are as follows: No. 255 261 264
Amount $ 700 500 360 Total $1,560
LO 3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
28.00
EXERCISE 7.11 (a)
LANCE COMPANY Bank Reconciliation July 31, 2025 Cash balance per bank statement ................................. Add: Deposits in transit ...............................................
$8,732 3,500 12,232 1,486 $10,746
Less: Outstanding checks ............................................ Adjusted cash balance per bank ................................... Cash balance per books................................................. Add: Electronic funds transfer received .....................
$8,768 2,023 10,791 45 $10,746
Less: Bank service charge............................................ Adjusted cash balance per books .................................
[(Cash bal. per bank stmt. + Dep. in transit – Outstdg. Cks. = Adj. cash bal. per bank); (Cash bal. per books + EFT – Bank serv. chrg. = Adj. cash bal. per books)] [($8,732 + $3,500 $1,486 = $10,746); ($8,768 + $2,023 $45 = $10,746)]
(b) July 31 31
Cash ....................................................... Accounts Receivable ............................
2,023
Bank Charges Expense ................................ Cash .......................................................
45
LO 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
2,023 45
EXERCISE 7.12 (a)
HOWARD COMPANY Bank Reconciliation September 30, 2025 Cash balance per bank statement ......................... Add: Deposits in transit .......................................
$16,500 4,738 21,238 2,383 $18,855
Less: Outstanding checks .................................... Adjusted cash balance per bank ........................... Cash balance per books......................................... Add: Electronic funds transfer received ............ Interest earned .............................................
$17,600 $1,830 45
Less: NSF check .................................................... Safety deposit box rent ............................... Adjusted cash balance per books .........................
560 60
1,875 19,475 620 $18,855
[(Cash bal. per bank stmt. + Dep. in transit – Outstdg. cks. = Adj. cash bal. per bank); (Cash bal. per books + (EFT + Int. earned) – (NSF ck. + Safety dep. box rent) = Adj. cash bal. per books)] [($16,500 + $4,738 $2,383 = $18,855); ($17,600 + ($1,830 + $45) – ($560 + $60) = $18,855)]
(b) Sept. 30 30 30 30
Cash ...................................................... Accounts Receivable....................
1,830
Cash ...................................................... Interest Revenue...........................
45
Accounts Receivable—H. Kane .......... Cash ..............................................
560
Bank Charges Expense ....................... Cash ..............................................
60
LO 3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
1,830 45 560 60
EXERCISE 7.13 (a) Deposits in transit: Deposits per books in July........................... Less: Deposits per bank in July.................. Deposits in transit, June 30 .............. July receipts deposited in July .................... Deposits in transit, July 31 ...........................
$16,900 $15,600 (580) 15,020 $ 1,880
[July deposits per books – (July deposits per bank – June 30 deposits in transit) = July 31 deposits in transit] [($16,900 – ($15,600 $580) = $1,880]
(b) Outstanding checks: Checks per books in July ............................. Less: Checks clearing bank in July ............ Outstanding checks, June 30 ........... July checks cleared in July .......................... Outstanding checks, July 31 ........................
$17,500 $16,400 (940) 15,460 $ 2,040
[July cks. per books – (Cks. clearing bank in July – June 30 Outstdg. Cks.) = July 31 Outstdg. cks.] [$17,500 – ($16,400 $940) = $2,040]
(c) Deposits in transit: Deposits per bank statement in September ................................................. Add: Deposits in transit, September 30 .... Total deposits to be accounted for .............. Less: Deposits per books............................ Deposits in transit, August 31......................
$25,900 2,200 28,100 26,400 $ 1,700
(Dep. per bank Sept. stmt. + Sept. 30 dep. in transit – Dep. per books = Aug.31 dep. in transit) ($25,900 + $2,200 $26,400 = $1,700)
(d) Outstanding checks: Checks clearing bank in September ............ Add: Outstanding checks, September 30 ..................................... Total checks to be accounted for ................ Less: Cash disbursements per books........ Outstanding checks, August 31................... (Cks. clearing bank in Sept. + Sept. 30 outstdg. cks. – Cash disb. Per books = Aug. 31 outstdg. cks.) ($24,000 + $2,100 $23,500 = $2,600) LO 3 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
$24,000 2,100 26,100 23,500 $ 2,600
EXERCISE 7.14 (a) Deposits in transit = $74,000 – ($71,000 – $4,800) = $7,800 (b) Outstanding checks = ($73,570 + $360*) – ($68,678 – $4,500) = $9,752 (c)
PERTH INC. Bank Reconciliation August 31, 2025 Cash balance per bank statement ...................... Add: Deposits in transit .....................................
$20,692* 7,800 28,492 9,752 $18,740
Less: Outstanding checks .................................. Adjusted cash balance per bank ........................ Cash balance per books...................................... Add: Interest earned .......................................... Less: Error in recording check ($400 – $40)* .... Service charge .......................................... Safety deposit box rent ............................ Adjusted cash balance per books ......................
$19,130** 45 19,175 $360 50 25
435 $18,740
*Proof of cash balance per bank statement: $18,400 + $71,000 – $68,678 + $45 – $25 – $50 = $20,692 **Proof of cash balance per books: $18,700 + $74,000 – $73,570 = $19,130 [(Cash bal. per bank stmt. + Dep. in transit – Outstdg. cks. = Adj. cash bal. per bank); (Cash bal. per books + Int. earned – (Error in recording ck. + Serv. chrg. + Safety dep. box rent) = Adj. cash bal. per books)] [(($18,400 + $71,000 $68,678 + $45 $25 $50) + $7,800 $9,752 = $18,740); (($18,700 + $74,000 $73,570) + $45 – ($360 + $50 + $25) = $18,740)]
(d) Aug. 31 Cash ........................................................... Interest Revenue ............................... 31 31
45 45
Accounts Payable ..................................... Cash ...................................................
360
Bank Charges Expense ($50 + $25) ......... Cash ...................................................
75
LO 3 BT: AP Difficulty: Hard TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
360 75
EXERCISE 7.15 (a) Cash and Cash Equivalents 1. 2. 3. 5. 6.
Currency........................................................................... U.S. Treasury bill ............................................................. April checks ..................................................................... Checking account............................................................ Savings account .............................................................. Total ............................................................................
$ 60 10,000 260 2,500 4,800 $17,620
(b) 4. Post-dated check—Accounts Receivable; Balance Sheet 7. Prepaid postage in postage meter—Prepaid Postage Expense; Balance Sheet, or Postage Expense; Income Statement 8. IOU from company receptionist—Accounts Receivable; Balance Sheet LO 4 BT: AP Difficulty: Medium TOT: 7 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 7.16 Suggestions to improve cash management practices for Lance, Art and Wayne: 1. 2. 3. 4.
Prepare a cash budget. Bill clients as work progresses. Establish a line of credit with bank. Arrange a long-term loan for renovations and equipment and plan the timing of major expenditures.
LO 4 BT: C Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 7.17 RIGLEY COMPANY Cash Budget For the Two Months Ending February 28, 2025
Beginning cash balance......................................... Add: Cash receipts Collections from customers ....................... Sale of short-term investments.................. Total receipts............................................... Total available cash................................................ Less: Cash disbursements Payments to suppliers................................ Wages .......................................................... Administrative expenses ............................ Selling expenses ......................................... Total disbursements ................................... Excess (deficiency) of available cash over disbursements ..................................................... Financing Add: Borrowings Feb. ($20,000 - $12,000).......... Less: Repayments................................................. Ending cash balance..............................................
January
February
$ 46,000
$ 24,000
71,000 12,000 83,000 129,000
146,000 0 146,000 170,000
40,000 30,000 *20,000 15,000 105,000
75,000 40,000 **23,000 20,000 158,000
24,000
12,000
0 0 $ 24,000
8,000 0 $ 20,000
Total Administrative Expenses less Depreciation: Jan. ($21,000 - $1,000)* Feb. ($24,000 - $1,000)** (Jan.: Beg. cash bal. + Cash receipts – Cash disb. ± Financing = End cash bal.) [Jan.: $46,000 + ($71,000 + $12,000) – ($40,000 + $30,000 + $20,000 + $15,000) ± $0 = $24,000] LO 4 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 7.18 Oct. 1 31
Petty Cash......................................................... Cash...........................................................
150.00
Petty Cash......................................................... Postage Expense.............................................. Supplies ............................................................ Miscellaneous Expense ................................... Freight-Out........................................................ Cash Over and Short ($140.30 - $139.00)........ Cash ($200.00 – $59.70)............................
50.00 39.70 26.10 16.40 6.80 1.30
150.00
140.30
LO 5 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 7.19 (a) Aug. 1 15
16 31
(b) 8/1 8/16 8/31 Bal.
Petty Cash ................................................ Cash ..................................................
200.00
Freight-Out ............................................... Entertainment Expense ........................... Postage Expense ..................................... Miscellaneous Expense ........................... Cash Over and Short ($175 - $171.60) .... Cash ..................................................
74.40 36.00 33.70 27.50 3.40
Petty Cash ................................................ Cash ..................................................
200.00
Postage Expense ..................................... Entertainment Expense ........................... Freight-Out ............................................... Cash Over and Short ($283 - $282) ......... Cash ..................................................
145.00 90.60 46.40 1.00
Petty Cash 200 200 400
200.00
175.00 200.00
283.00
*EXERCISE 7.19 (Continued) (c) The internal control features of a petty cash fund include: (1) A custodian is responsible for the fund. (2) A pre-numbered petty cash receipt signed by the custodian and the individual receiving payment is required for each payment from the fund. (3) The treasurer’s office examines all payments and stamps supporting documents to indicate they were paid when the fund is replenished. (4) Surprise counts can be made at any time to determine whether the fund is intact. LO 5 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO PROBLEMS PROBLEM 7.1 (a) Principles
Application to Gary Theater
Establishment of responsibility.
Only cashiers are authorized to sell tickets. Only the manager and cashier can handle cash.
Segregation of duties.
The duties of receiving cash and admitting customers are assigned to the cashier and to the doorperson. The manager maintains custody of the cash, and the company accountant records the cash.
Documentation procedures.
Tickets are prenumbered. Cash count sheets are prepared. Deposit slips are prepared.
Physical controls.
A safe is used for the storage of cash and a machine is used to issue tickets.
Independent internal verification.
Cash counts are made by the manager at the end of each cashier’s shift. Daily comparisons are made by the company treasurer.
Human resource controls.
Cashiers are bonded.
(b) Actions by the doorperson and cashier to misappropriate cash include: (1) Instead of tearing the tickets, the doorperson could return the tickets to the cashier who could resell them, and the two could divide the cash. (2) The cashier could issue a lower price ticket than paid for and the doorperson would admit the customer. The difference between the price of the ticket issued and the cash received could be divided between the doorperson and cashier. LO 2 BT: C Difficulty: Medium TOT: 30 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
PROBLEM 7.2
Grant has created a situation that leaves many opportunities for undetected theft. Here is a list of some of the weaknesses in internal control. You may find others. 1.
Documentation procedures. The tickets were unnumbered. By numbering the tickets, the students could have been held more accountable for the tickets. See number 3 below.
2.
Physical controls and establishment of responsibility. The tickets were left in an unlocked box on his desk. Instead, Grant should have assigned control of the tickets to one individual, in a locked box which that student alone had control over.
3.
Documentation procedures. No record was kept of which students took tickets to sell or how many they took. In combination with items 1 and 2 above, the student assigned control over the tickets should have kept a record of which tickets were issued to each student for resale. (Note: This problem could have been largely avoided if the tickets had only been sold at the door on the day of the dance.)
4.
Documentation procedures. There was no control over unsold tickets. This deficiency made it possible for students to sell tickets, keep the cash, and tell Grant that they had disposed of the unsold tickets. Instead, students should have been required to return the unsold tickets to the student maintaining control over tickets, and the cash to Grant. In each case, the students should have been issued a receipt for the cash they turned in and the tickets they returned.
5.
Establishment of responsibility. Inadequate control over the cash box. In effect, it was operated like a petty cash fund, but too many people had the key. Instead, Grant should have had the key and disbursed funds when necessary for purchases.
6.
Documentation procedures. Instead of receipts, students simply wrote notes saying how they used the funds. Instead, it should have been required that they provided a valid receipt.
PROBLEM 7.2 (Continued) 7.
Segregation of duties. Lynn Dandi counted the funds, made out the deposit slip, and took the funds to the bank. This made it possible for Lynn Dandi to take some of the money and deposit the rest since there was no external check on his work. Grant should have counted the funds, with someone observing him. Then he could have made out the deposit slip and had Lynn Dandi deposit the funds.
8.
Documentation procedures. Grant did not receive a receipt from Kray Zee. Without a receipt, there is no way to verify how much Kray Zee was actually paid. For example, it is possible that he was only paid $100 and that Grant took the rest.
9.
Segregation of duties. Dana Uhler was collecting tickets and receiving cash for additional tickets sold. Instead, there should have been one person selling tickets at the door and a second person collecting tickets.
LO 2 BT: C Difficulty: Medium TOT: 30 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
PROBLEM 7.3
(a)
KEEDS COMPANY Bank Reconciliation July 31, 2025 Cash balance per bank statement .................... Add: Deposits in transit ..................................
$7,690.80 1,193.30 8,884.10 1,860.10 $7,024.00
Less: Outstanding checks ............................... Adjusted cash balance per bank ...................... Cash balance per books.................................... Add: Electronic funds transfer received..................................... Less: NSF check ............................................... Error in recording check No. 2480......... Bank service charge............................... Adjusted cash balance per books ....................
$6,140.00 1,520.00 7,660.00 $575.00 *36.00 25.00
636.00 $7,024.00
*($384 - $348) [(Cash bal. per bank stmt. + dep. in transit – Outstdg. cks. = Adj. cash bal. per bank); (Cash bal. per books + EFT - (NSF ck. + Error in recording ck. no. 2480 + Bank serv. chrg.) = Adj. cash bal. per books)] [($7,690.80 + $1,193.30 $1,860.10 = $7,024.00); ($6,140.00 + $1,520.00 – ($575.00 + $36.00 + $25.00) = $7,024.00)]
(b) July 31 31 31 31
Cash ................................................... Accounts Receivable ................
1,520
Accounts Receivable—W. Krueger ... Cash ...........................................
575
Accounts Payable—L. Taylor........... Cash ...........................................
36
Bank Charges Expense .................... Cash ...........................................
25
LO 3 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
1,520 575 36 25
PROBLEM 7.4
(a)
BOGALUSA COMPANY Bank Reconciliation November 30, 2025 Cash balance per bank statement ................ Add: Deposits in transit .............................. Less: Outstanding checks No. 2451........................................... No. 2472........................................... No. 2478........................................... No. 2482........................................... No. 2484........................................... No. 2485........................................... No. 2487........................................... No. 2488........................................... Adjusted cash balance per bank ..................
$17,712.50 1,304.00 19,016.50 $1,260.40 426.80 538.20 612.00 829.50 974.80 398.00 800.00
Cash balance per books................................ Add: Electronic funds transfer received................................. Less: Check printing charge........................ Error in recording check No. 2479 ($1,750 – $1,705).............. Error in 11-21 deposit ($2,954 – $2,945) ............................. Adjusted cash balance per books ................
5,839.70 $13,176.80 $11,073.80 2,242.00 13,315.80
$
85.00 45.00 9.00
139.00 $13,176.80
[(Cash bal. per bank stmt. + Dep. in transit – Outstdg. cks. = Adj. cash bal. per bank); (Cash bal. per books + EFT + (Ck. print. Chrg. + Error in recording ck. no. 2479 + Error in 11/21 deposit) = Adj. cash bal. per books)] [($17,712.50 + $1,304.00 – ($1,260.40 + $426.80 + $538.20 + $612.00 + $829.50 + $974.80 + $398.00 + $800.00) = $13,176.80); ($11,073.80 + $2,242.00 – ($85.00 + $45.00 + $9.00) = $13,176.80)]
PROBLEM 7.4 (Continued) (b) Nov. 30 30 30 30
Cash................................................. Accounts Receivable......................
2,242
Bank Charges Expense.......................... Cash.................................................
85
Accounts Payable................................... Cash.................................................
45
Accounts Receivable ............................. Cash.................................................
9
LO 3 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
2,242 85 45 9
PROBLEM 7.5 (a)
TIMMINS COMPANY Bank Reconciliation May 31, 2025 Cash balance per bank statement .................... Add: Deposits in transit .................................. $1,880.15 Bank error—Tomins ............................... 360.00 Less: Outstanding checks ............................... Adjusted cash balance per bank ...................... Cash balance per books.................................... Add: Electronic funds transfer received .................................
$6,968.00 2,240.15 9,208.15 276.25 $8,931.90 $6,738.90 2,690.00 9,428.90
Less: NSF check ............................................... $ 380.00 Error in May 12 deposit ($933.15 - $883.15) ..... 50.00 Error in recording check No. 1181($685 - $658) 27.00 Check printing charge ............................... 40.00 Adjusted cash balance per books ....................
497.00 $8,931.90
[(Cash bal. per bank stmt. + (Dep. in transit + Bank error) – Outstdg. cks. = Adj. cash bal. per bank); (Cash bal. per books + EFT + (NSF ck. + Error in May 12 dep. + Error in recording ck. no. 1181 + Ck. printing chrg.) = Adj. cash bal. per books)] [($6,968.00 + ($1,880.15 + $360.00) $276.25 = $8,931.90); ($6,738.90 + $2,690.00 – ($380.00 + $50.00 + $27.00 + $40.00) = $8,931.90)]
(b) May 31 31
31 31 31
Cash ................................................... Notes Receivable.......................
2,690
Accounts Receivable— -S. Ballard ....................................... Cash ...........................................
2,690 380 380
Sales Revenue................................... Cash ...........................................
50
Accounts Payable—H. Moses .......... Cash ...........................................
27
Bank Charges Expense .................... Cash ...........................................
40
LO 3 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
50 27 40
PROBLEM 7.6 (a)
DAISEY COMPANY Bank Reconciliation October 31, 2025 Balance per bank statement .............................................. Plus: Undeposited receipts* ............................................ Less: Outstanding checks No. Amount No. 62 $140.75 862 183 180.00 863 284 253.25 864
$18,380.00 3,795.51 22,175.51
Amount $190.71 226.80 165.28 .....................
1,156.79
Adjusted balance per bank ................................................
$21,018.72
Cash balance per books..................................................... Add: Bank credit (collection of note receivable) ............ Adjusted balance per books (before theft) ....................... Less: Theft ($22,062.72 – $21,018.72) ............................... Adjusted balance per books ..............................................
$21,877.72 185.00 22,062.72 1,044.00 $21,018.72
*Included since cash on hand is recorded in the same account as the bank account. [(Bal. Per bank stmt. + Undep. receipts – Outstdg. cks. = Adj. bal. per bank.); (Cash bal. per books + Bank credit – Theft = Adj. bal. per books)] [($18,380.00 + $3,795.51 – ($140.75 + $180.00 + $253.25 + $190.71 + $226.80 + $165.28) = $21,018.72); ($21,877.72 + $185.00 – ($22,062.72 $21,018.72) = $21,018.72)]
(b) The cashier attempted to cover the theft of $1,044.00 by: 1. Not listing as outstanding three checks totaling $574.00 (No. 62, $140.75; No. 183, $180.00; and No. 284, $253.25). 2. Underfooting the outstanding checks listed by $100. (The correct total is $582.79.) 3. Subtracting the $185 credit from the bank balance instead of adding it to the book balance, thereby concealing $370 of the theft. (c) 1. The principle of independent internal verification has been violated because the cashier prepared the bank reconciliation. 2. The principle of segregation of duties has been violated because the cashier had access to the accounting records and also prepared the bank reconciliation. LO 1 - 3 BT: E Difficulty: Hard TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 7.7
MOYNAHAN INC. Cash Budget For the Month Ending April 30, 2025 Beginning cash balance ............................................. Add: Cash receipts Cash sales........................................................ Collections from customers............................ Total receipts ................................................ Total available cash .................................................... Less: Cash disbursements Payment of March purchases ......................... April cash purchases....................................... Cash operating costs ...................................... Equipment purchase ....................................... Total disbursements .................................... Excess (deficiency) of available cash over disbursements ......................................................... Financing Add: Borrowings ($9,000 - $7,200)........................... Less: Repayments ..................................................... Ending cash balance................................................... (Beg. cash bal. + Cash receipts – Cash disb. ± Financing = End cash bal.) [$11,000 + ($42,000 + $18,400) – ($22,400 + $28,100 + $11,200 + $2,500) + $1,800 = $9,000] LO 4 BT: AP Difficulty: Medium TOT: 35 min. AACSB: Analytic AICPA AC: Reporting
$11,000 42,000 18,400 60,400 71,400 22,400 28,100 11,200 2,500 64,200 7,200 1,800 0 $ 9,000
PROBLEM 7.8
BASTILLE CORPORATION Cash Budget For the Two Months Ending February 28, 2025
Beginning cash balance........................................ Add: Cash receipts Collections from customers ...................... Notes receivable ......................................... Sale of securities ........................................ Total receipts ......................................................... Total available cash............................................... Less: Cash disbursements Purchases ................................................... Salaries ....................................................... Administrative expenses (Jan. $72,000 – $1,000; Feb. $75,000 – $1,000) ................ Selling expenses ........................................ Dividends .................................................... Total disbursements ............................................. Excess (deficiency) of available cash over disbursements.................................................... Financing Add: Borrowings (Feb. $40,000 - $37,000) ......... Less: Repayments ................................................ Ending cash balance.............................................
January
February
$ 46,000
$ 43,000
326,000 15,000 0 341,000 387,000
378,000
110,000 84,000
135,000 81,000
71,000 79,000 0 344,000
74,000 88,000 10,000 388,000
43,000
37,000
0 0 $ 43,000
3,000 0 $ 40,000
4,000 382,000 425,000
(Feb.: Beg. cash bal. + Cash receipts – Cash disb. ± Financing = End. cash bal.) [Feb.: $43,000 + ($378,000 + $4,000) – ($135,000 + $81,000 + $74,000 + $88,000 + $10,000) + $3,000 = $40,000] LO 4 BT: AP Difficulty: Medium TOT: 35 min. AACSB: Analytic AICPA AC: Reporting
CC7
CONTINUING CASE: COOKIE CREATIONS
Part 1 The weaknesses in internal accounting controls in the system recommended by John are: (1) The cash could be stolen from John’s car before it is deposited in the bank. (2) John could potentially steal from the company and then cover the theft because of a lack of segregation of duties between the handling of cash, bank reconciling process and recording of transactions in the accounting records. (3) The accounting information for the business could be lost or stolen if it is all stored on John’s laptop. (4) John should not be able to write checks to himself as this leaves the company vulnerable to theft. Improvements should include the following: (1) Cash should be deposited in the bank daily. At a minimum cash should be locked in a safe until it can be deposited. (2) John should be responsible for the accounting function only. Natalie (or some other independent person) should sign all checks and make all deposits. Checks should only be signed when there is documentation present to support the payment. All invoices should be stamped “PAID” to avoid duplicate payment. (3) Bank reconciliations should be prepared by a person independent of the handling and recording of cash. However, this may not be possible in a small organization such as Cookie Creations. At a minimum, Natalie, and not John, should prepare bank reconciliations monthly. (4) The accounting records should be maintained on site and regular back-ups should be prepared. It would be best if John used a computer at Cookie Creations to prepare the accounting information; however, if he is going to use his laptop, Natalie should insist that she is provided with a regular back-up of all the accounting records. This ensures that if John should ever lose his laptop or decide to no longer perform Cookie Creations’ accounting, Natalie would still have access to the company’s accounting records. (5) John should submit a monthly invoice for the work he has done to Natalie for her approval. Natalie should then write and sign the check.
CONTINUING CASE: COOKIE CREATIONS (Continued) Part 2
(a) COOKIE CREATIONS INC. Bank Reconciliation June 30, 2024 Cash balance per bank statement............................ Add: Deposit in transit ............................................ Bank error Check No. 603 ($452 – $425) .....
$3,359 $110 27
Less: Outstanding checks ($238 + $297)................. Adjusted cash balance per bank.............................. Cash balance per books ........................................... Less: Service charge ............................................... Error in deposit June 20th ($155 – $125)....... EFT.................................................................. NSF check ($100 + $35 service charge) ....... Adjusted cash balance per books............................
(b)
June
(c)
$3,224 $ 13 30 85 135
30 Bank Charges Expense.......................... Cash ..............................................
13
30
Service Revenue ..................................... Cash...............................................
30
Utilities Expense ..................................... Cash...............................................
85
30 Accounts Receivable—Ron Black......... Cash...............................................
135
30
137 3,496 535 $2,961
263 $2,961
13 30 85 135
If a balance sheet were prepared, cash at June 30, 2024 would be $2,961.
ACR7
(a)
ACCOUNTING CYCLE REVIEW
Dec. 7 12 17
19 22
26
31
Cash ........................................................... Accounts Receivable ........................
3,600
Inventory.................................................... Accounts Payable .............................
12,000
Accounts Receivable ................................ Sales Revenue ...................................
16,000
Cost of Goods Sold .................................. Inventory ............................................
10,000
Salaries and Wages Expense................... Cash ...................................................
2,200
Accounts Payable ..................................... Cash ($12,000 - $120)) ....................... Inventory ($12,000 x .01) ...................
12,000
Cash ($16,000 - $320)................................ Sales Discounts ($16,000 x .02) ............... Accounts Receivable ........................
15,680 320
Cash .......................................................... Accounts Receivable ........................
2,700
3,600 12,000 16,000 10,000 2,200 11,880 120
16,000 2,700
ACR7 (Continued) (b) & (e) General Ledger Cash 12/1 Bal. 18,200 12/19 12/7 3,600 12/22 12/26 15,680 12/31 12/31 2,700 12/31 2,000 12/31 Bal. 27,420 Notes Receivable 12/1 Bal. 2,000 12/31 12/31 Bal. – 0 –
12/22 2,200 11,880 680
Common Stock 12/1 Bal. 50,000 Retained Earnings 12/1 Bal. 14,200 2,000
Accounts Receivable 12/1 Bal. 7,500 12/7 3,600 12/17 16,000 12/26 16,000 12/31 680 12/31 2,700 12/31 Bal. 1,880 Inventory 12/1 Bal. 16,000 12/17 12/12 12,000 12/22 12/31 Bal. 17,880 Prepaid Insurance 12/1 Bal. 1,600 12/31 12/31 Bal. 1,200
12/1 Bal.
Accounts Payable 12,000 12/1 Bal. 6,100 12/12 12,000 12/31 Bal. 6,100
Sales Revenue 12/17 16,000 12/31 Bal. 16,000 Sales Discounts 12/26 320 12/31 Bal. 320
10,000 120
Cost of Goods Sold 12/17 10,000 12/31 Bal. 10,000
400
Depreciation Expense 12/31 200 12/31 Bal. 200
Equipment 28,000
Accumulated Depreciation—Equipment 12/1 Bal. 3,000 12/31 200 12/31 Bal. 3,200 Income Taxes Payable 12/31 425 12/31 Bal. 425
Salaries and Wages Expense 12/19 2,200 12/31 Bal. 2,200 Insurance Expense 12/31 400 12/31 Bal. 400 Income Tax Expense 12/31 425 12/31 Bal. 425
ACR7 (Continued) (c)
RAVENWOOD COMPANY Bank Reconciliation December 31, 2025 Cash balance per bank statement .......................... Add: Deposits in transit ..........................................
$25,930 2,700 28,630 1,210 $27,420
Less: Outstanding checks ...................................... Adjusted cash balance per bank ............................ Cash balance per books ......................................... Add: Electric funds transfer received ....................
$26,100 2,000 28,100 680 $27,420
Less: NSF check ...................................................... Adjusted cash balance per books ..........................
[(Cash bal. per bank stmt. + Dep. in transit – Outstdg. cks. = Adj. cash bal. per bank); (Cash bal. per books + EFT – NSF cks. = Adj. cash bal. per books)] [($25,930 + $2,700 $1,210 = $27,420); ($26,100 + $2,000 $680 = $27,420)]
(d) Dec. 31 Cash .......................................................... Notes Receivable ...............................
2,000
Accounts Receivable – M. Lawrence ...... Cash....................................................
680
Depreciation Expense .............................. Accumulated Depreciation— Equipment .......................................
200
Insurance Expense................................... Prepaid Insurance..............................
400
Income Tax Expense ................................ Income Taxes Payable.......................
425
31 31
31 31
2,000 680
200
400 425
ACR7 (Continued) (f)
REVENWOOD COMPANY Adjusted Trial Balance December 31, 2025 Cash ............................................................. Accounts Receivable .................................. Inventory...................................................... Prepaid Insurance ....................................... Equipment ................................................... Accumulated Depreciation—Equipment ... Accounts Payable ....................................... Income Taxes Payable ................................ Common Stock............................................ Retained Earnings....................................... Sales Revenue............................................. Sales Discounts .......................................... Cost of Goods Sold..................................... Depreciation Expense................................. Salaries and Wages Expense ..................... Insurance Expense ..................................... Income Tax Expense...................................
DR. $27,420 1,880 17,880 1,200 28,000
CR.
$ 3,200 6,100 425 50,000 14,200 16,000 320 10,000 200 2,200 400 425 $89,925
$89,925
[(Cash + Accts. rec. + Inv. + Prepd. ins. + Equip. + Sales disc. + CGS + Depr. exp. + Sal. & wages exp. + Ins. exp. + Inc. tax exp.) = (Accum. depr.-equip. + Accts. pay. + Inc. tax pay. + Common stk. + Ret. earn. + Sales rev.)] [($27,420 + $1,880 + $17,880 + $1,200 + $28,000 + $320 + $10,000 + $200 + $2,200 + $400 + $425) = ($3,200 + $6,100 + $425 + $50,000 + $14,200 + $16,000)]
ACR7 (Continued) (g)
RAVENWOOD COMPANY Income Statement For the Month Ending December 31, 2025 Sales revenue.............................................. Less: Sales discounts ............................... Net sales...................................................... Cost of goods sold ..................................... Gross profit ................................................. Operating expenses Salaries and wages expense .............. Insurance expense .............................. Depreciation expense ......................... Income before income taxes ...................... Income tax expense.................................... Net income ..................................................
[(Sales rev. – Sales disc.) – CGS – Oper. exp. – Inc. tax exp. = Net inc.] [($16,000 $320) $10,000 – ($2,200 + $400 + $200) $425 = $2,455]
$16,000 320 15,680 10,000 5,680 $2,200 400 200
2,800 2,880 425 $ 2,455
ACR7 (Continued) (g)
RAVENWOOD COMPANY Balance Sheet December 31, 2025 Assets Current assets Cash........................................................ Accounts receivable.............................. Inventory ................................................ Prepaid insurance.................................. Total current assets .......................... Property, plant, and equipment Equipment .............................................. Less: Accumulated depreciation—Equipment .......... Total assets ...................................................
$27,420 1,880 17,880 1,200 $48,380 28,000 3,200
24,800 $73,180
Liabilities and Stockholders’ Equity Current liabilities Accounts payable .................................. Income taxes payable............................ Stockholders’ equity Common stock....................................... Retained earnings ($14,200 + $2,455)... Total stockholders’ equity............... Total liabilities and stockholders’ equity ....
$6,100 425
$6,525
50,000 16,655 66,655 $73,180
[(Current assets + Prop., plant, & equip.) = (Current liabl. + SE)] [(($27,420 + $1,880 + $17,880 + $1,200) + ($28,000 $3,200)) = (($6,100 + $425) + ($50,000 +($14,200 + $2,455)))] LO 3 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT7.1
FINANCIAL REPORTING PROBLEM
(a) The first paragraph of the independent registered public accounting firm’s report states that: We have audited the accompanying consolidated balance sheets of Apple Inc. as of September 26, 2020 and September 28, 2019, and the related consolidated statements of operations, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended September 26, 2020. Also in the first paragraph of the report it states that: In our opinion, the financial statements referred to above present fairly, in all material respects the consolidated financial position of Apple Inc. at September 26 2020 and September 28, 2019, and the consolidated results of its operations and its cash flows for each of the three years in the period ended September 26, 2020, in conformity with U.S. generally accepted accounting principles. (b) The consolidated balance sheet shows the combined cash and cash equivalent balances (in millions) at September 26, 2020 and September 28, 2019: 2020—$38,016 and 2019—$48,844 (c) The consolidated statement of cash flows indicates that three activities are responsible for the change in cashduring 2020: (1) operating, (2) investing, and (3) financing. (d) In Note 1 under cash equivalents and marketable securities, it states: All highly liquid investments with maturities of three months or less at the date of purchase are classified as cash equivalents.
CT7.1 (Continued) (e) The management of Apple Inc. is responsible for establishing and maintaining adequate internal control over financial reporting. After performing an evaluation of company procedures, management concluded that its internal control over financial reporting was effective. Management’s assessment of Apple’s internal control was audited by and addressed in the opinion of its public accounting firm, Ernst & Young, LLP. LO 4 BT: AN Difficulty: Hard TOT: 30 min. AACSB: Technology and Communication AICPA AC: Reporting AICPA PC: Communication
CT7.2
COMPARATIVE ANALYSIS PROBLEM
(In thousands) (a) Cash/cash equivalents balance (b) Cash as a percentage of total assets 2020: 2019:
Columbia Sportswear
Under Armour, Inc.
$790,725
$1,517,361
27. 9%* 23.4%**
30.2%*** 16.3%****
Cash as a percentage of total assets increased 19% for Columbia Sportswear and increased by 85% for Under Armour. (c) Cash provided by operating activities
$276,077
$212,864
(d) The objective in cash management is to ensure that a company has sufficient cash to meet payments as they come due, yet minimize the amount of non-revenue-generating cash on hand. The increase in cash as a percentage of total assets experienced by both companies indicates that they have done an excellent job of managing their cash. *$790,725/$2,836,571 **$686,009/$2,931,591 ***$1,517,361/$5,030,628 ****$788,072/$4,843,531 LO 4 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Technology and Communication AICPA AC: Reporting AICPA PC: Communication
CT7.3
COMPARATIVE ANALYSIS PROBLEM
Amazon. com
Walmart Inc.
(a) Cash/cash equivalents balance
$42,122
$17,741
(b) Cash as a percentage of total assets Amazon 2020; Walmart 2021: Amazon 2019; Walmart 2020:
13.1%* 16.0%**
7.0%*** 4.0%****
(In millions)
Cash as a percentage of total assets decreased by 18.1% for Amazon and increased 75% for Walmart. (c) Cash provided by operating activities *$42,122/$321,195 **$36,092/$225,248
$66,064
$36,074
***$17,741/$252,496 ****$9,465/$236,495
(d) The percentage of cash to total assets for Amazon was 87% higher than the percentage of cash to total assets for Walmart in 2020 and 3 times higher in 2019. Additionally, Amazon generated roughly 1.8 times the operating cash flow during 2020 as Walmart. This may be a somewhat troubling difference that Walmart faces in generating cash from operations (if it continues in the long-term), but perhaps it is part of the company’s shorter-term strategic plan to undercut competitor prices. Taken together with Amazon’s comparatively larger percentage of cash to total assets, it seems as if the company is currently not in danger of having to borrow to meet temporary cash shortfalls, if this is its underlying strategic maneuver. LO 4 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Technology and Communication AICPA AC: Reporting AICPA PC: Communication
CT7.4
INTERPRETING FINANCIAL STATEMENTS
a. 38% of respondents stated that bribery/corrupt practices occur widely in business in their country. 13% of respondents would justify cash payments to win/retain business when helping a business survive an economic downturn. b. The survey found that younger respondents were more likely to justify cash payments. One in five respondents under age 35 felt justified, while only one in eight above age 35 felt justified. c. The following is the percentage of respondents that chose each party as being responsible for ensuring employees behave with integrity. Students responses to whom they think bears responsibility will vary. Legal and compliance department Human resources department Board of directors Individual responsibility Management
9% 11% 15% 22% 41%
LO 1 BT: AN Difficulty: Hard TOT: 30 min. AACSB: Technology, Communication, and Ethics AICPA AC: Reporting AICPA PC: Communication and Ethical Conduct
CT7.5
REAL-WORLD FOCUS
The potential benefits of blockchain technology for each of the five primary components of internal control are: (1)
control environment: It can improve the control environment because of its ability to record transactions with minimal human intervention.
(2)
risk assessment: Helps mitigate risks by promoting accountability, maintaining record integrity, and providing an irrefutable record.
(3)
control activities: Can minimize human error and reduces opportunities for fraud.
(4)
information and communication: The enhanced visibility associated with blockchain can provide a faster, more effective way for management to communicate financial information.
(5)
Monitoring: Facilitates monitoring more often, on more topics, and in more detail.
LO 1 BT: C Difficulty: Moderate TOT: 30 min. AACSB: Technology, Communication AICPA AC: Reporting AICPA PC: Communication
CT7.6
REAL-WORLD FOCUS
(a) The steps in the standard-setting process are: 1. Identify topic. 2. Conduct pre-agenda research. 3. Make agenda decision. 4. Deliberate at public meeting. 5. Issue document for public comment. 6. Host public hearings or round tables (Major projects). 7. Re-deliberate based on comments & research. 8. Issue final standard. 9. Education. 10. Implementation. (b) The current advisory groups are:
Financial Accounting Standards Advisory Council (FASAC)
Investor Advisory Committee (IAC)
Not-for-Profit Advisory Committee (NAC)
Small Business Advisory Committee (SBAC)
(c) The characteristics that make the FASB’s procedures an “open” decision-making process include the following: The decision-making process is evenhanded. The decision-making process is open to public observation and participation. The decision-making process is orderly. The decision-making process is comprehensive. The decision-making process is timely. The decision-making process is thorough. LO None BT: S Difficulty: Hard TOT: 40 min. AACSB: Technology and Communication AICPA AC: Reporting AICPA PC: Communication
CT7.7
REAL-WORLD FOCUS
(a) The PCAOB mission is to oversee the audits of public companies in order to protect the interests of investors and further the public interest in the preparation of informative, accurate, and independent audit reports. The PCAOB also oversees the audits of broker-dealers, including compliance reports filed pursuant to federal securities laws, to promote investor protection. (b) The PCAOB inspects registered public accounting firms to assess compliance with the Sarbanes-Oxley Act, the rules of the Board, the rules of the Securities and Exchange Commission, and professional standards, in connection with the firm's performance of audits, issuance of audit reports, and related matters involving U.S. companies, other issuers, brokers and dealers. (c) The PCAOB has authority to investigate and discipline registered public accounting firms and persons associated with those firms for noncompliance with the Sarbanes-Oxley Act of 2002, the rules of the PCAOB and the Securities and Exchange Commission, and other laws, rules, and professional standards governing the audits of public companies. When violations are found, the PCAOB can impose appropriate sanctions. As required by the Sarbanes-Oxley Act, the Board’s investigations are confidential and nonpublic. The SarbanesOxley Act also requires that disciplinary proceedings are confidential and nonpublic, unless and until there is a final decision imposing sanctions. LO 1 BT: S Difficulty: Hard TOT: 40 min. AACSB: Technology, Communication and Ethics AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication and Ethical Conduct AICPA BC: Governance Perspective
CT7.8
DECISION MAKING ACROSS THE ORGANIZATION
(a) The material weaknesses and the related principle(s) of internal control that was violated are as follows: Material Weakness
Internal Control Principle
Non-timely deposit of cash receipts
Physical controls—cash should be deposited in total daily
Excessive past due accounts receivable
Establishment of responsibility
Disregard of advantages offered by vendors for prompt payment of invoices
Establishment of responsibility
Absence of segregation of duties
Segregation of duties
Inadequate procedures for applying accounting principles
Documentation procedures
Lack of qualified management personnel
Establishment of responsibility
Lack of supervision by outside board of directors
Establishment of responsibility; independent internal verification
Overall poor recordkeeping
Documentation procedures
(b) Under the Sarbanes-Oxley Act, publicly traded companies are required to maintain adequate systems of internal control. Failure to comply with the Act can result in fines and imprisonment of officers. Managers should recognize that good internal control is necessary to stay in business. In addition, good internal control principles should benefit the company by safeguarding its assets and enhancing the accuracy and reliability of accounting records. LO 1, 2 BT: E Difficulty: Hard TOT: 60 min. AACSB: Communication and Ethics AICPA PC: Communication and Ethical Conduct
CT7.9
COMMUNICATION ACTIVITY
Mr. Frank Simon Simon Company Main Street, USA Dear Mr. Simon: During our audit of your financial statements, we reviewed the internal controls over cash receipts. The weaknesses we discovered and our suggested improvements are listed below. Weaknesses
Suggested Improvement
1.
A list of checks received is not prepared by the person who opens the mail.
This list should be prepared so that it can later be compared with the daily cash summary. While this procedure does not assure that all checks will be listed, it does allow the company to verify that all checks on the list did get deposited.
2.
Mail is opened by only one person.
When this occurs, there is no assurance that all incoming checks are forwarded to the cashier’s department.
3.
The cashier is allowed to open the mail.
Under this arrangement, it is possible for the cashier to open the mail, prepare the cash summary and make the bank deposit. This involves no segregation of duties as the cashier controls the cash from the time it is received until it is deposited in the bank.
4.
The accounts receivable clerk is allowed to open the mail.
Again, there is poor segregation of duties. In this case, the clerk could write off a customer’s account as uncollectible and then misappropriate the collection when it’s received.
CT7.9 (Continued)
5.
Weaknesses
Suggested Improvement
Mail receipts are deposited weekly.
This makes the receipts vulnerable to robbery and to misappropriation. The receipts should be deposited daily.
We would be pleased to discuss the weaknesses and our recommended improvements with you, at your convenience. Yours sincerely, Blacke and Whyte Certified Public Accountants LO 2 BT: E Difficulty: Hard TOT: 40 min. AACSB: Communication and Reflective Thinking AICPA AC: Measurement Analysis and Interpretation, Reporting AICPA PC: Communication
CT7.10
ETHICS CASE
(a) The amount of fee revenue depending on order of processing would be: (1) Largest to smallest: (2) Smallest to largest: (3) In order of check number:
5 bounced checks x $30 = $150 1 bounced check x $30 = $30 2 bounced checks x $30 = $60
(b) Whether this is ethical is subject to debate. On the one hand, it can be argued that customers have a responsibility to maintain an adequate balance in their accounts. Some customers are frequently overdrawn; thus only severe penalties will persuade them to maintain an adequate balance. However, it could be argued that charging $30 for something that has a cost to the bank of $1.50 is “gouging”—that is, taking unfair advantage of the customer. (c) In deciding what approach to take, the bank must consider its relationship with the customer. Clearly, by adopting a “largest to smallest” approach, it is going to anger some customers, who may well decide to leave the bank and go to a more customer-friendly bank. However, it could be argued that some of the customers the bank may lose are customers that are frequently overdrawn and therefore costly to the bank. Also, it can be time-consuming to change banks, and most people don’t have the spare time to change banks unless they really need to. (d) Answer will vary depending on student’s opinion. LO 2 BT: E Difficulty: Hard TOT: 40 min. AACSB: Communication, Reflective Thinking and Ethics AICPA AC: Measurement Analysis and Interpretation and Reporting AICPA PC: Communication and Ethical Conduct
CT7.11
ETHICS CASE
Answers will vary depending on article chosen. LO 1 BT: S Difficulty: Hard TOT: 40 min. AACSB: Communication, Ethics and Technology AICPA AC: Measurement Analysis and Interpretation and Reporting AICPA PC: Communication and Ethical Conduct
CT7.12
ALL ABOUT YOU
Answers are provided to students on the government website as they complete the ID Theft Faceoff quiz. LO 1 BT: S Difficulty: Hard TOT: 40 min. AACSB: Communication and Technology AICPA AC: Measurement Analysis and Interpretation, Reporting
CT7.13
FASB CODIFICATION ACTIVITY
(a) Consistent with common usage, cash includes not only currency on hand but demand deposits with banks or other financial institutions. Cash also includes other kinds of accounts that have the general characteristics of demand deposits in that the customer may deposit additional funds at any time and also effectively may withdraw funds at any time without prior notice or penalty. All charges and credits to those accounts are cash receipts or payments to both the entity owning the account and the bank holding it. For example, a bank’s granting of a loan by crediting the proceeds to a customer’s demand deposit account is a cash payment by the bank and a cash receipt of the customer when the entry is made. Codification reference (Master Glossary). (b) Cash equivalents are short-term, highly liquid investments that have both of the following characteristics: a.
Readily convertible to known amounts of cash
b.
So near their maturity that they present insignificant risk of changes in value because of changes in interest rates.
Generally, only investments with original maturities of three months or less qualify under that definition. Original maturity means original maturity to the entity holding the investment. For example, both a threemonth U.S. Treasury bill and a three-year Treasury note purchased three months from maturity qualify as cash equivalents. However, a Treasury note purchased three years ago does not become a cash equivalent when its remaining maturity is three months. Examples of items commonly considered to be cash equivalents are Treasury bills, commercial paper, money market funds, and federal funds sold (for an entity with banking operations). Codification reference (Master Glossary).
CT7.13 (Continued) (c) Cash and cash items. Separate disclosure shall be made of the cash and cash items which are restricted as to withdrawal or usage. The provisions of any restrictions shall be described in a note to the financial statements. Restrictions may include legally restricted deposits held as compensating balances against short-term borrowing arrangements, contracts entered into with others, or company statements of intention with regard to particular deposits; however, time deposits and short-term certificates of deposit are not generally included in legally restricted deposits. In cases where compensating balance arrangements exist but are not agreements which legally restrict the use of cash amounts shown on the balance sheet, describe in the notes to the financial statements these arrangements and the amount involved, if determinable, for the most recent audited balance sheet required and for any subsequent unaudited balance sheet required in the notes to the financial statements. Compensating balances that are maintained under an agreement to assure future credit availability shall be disclosed in the notes to the financial statements along with the amount and terms of such agreement. LO 4 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Technology and Communication AICPA AC: Reporting AICPA PC: Comunication
CHAPTER 8 Reporting and Analyzing Receivables Learning Objectives 1. 2. 3. 4.
Explain how companies recognize accounts receivable. Describe how companies value accounts receivable and record their disposition. Explain how companies recognize, value, and dispose of notes receivable. Describe the statement presentation of receivables and the principles of receivables management.
ANSWERS TO QUESTIONS 1.
Accounts receivable are amounts customers owe on account. They result from the sale of goods and services (i.e., in trade). Notes receivable represent claims that are evidenced by formal instruments of credit.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
2.
Other receivables include nontrade receivables such as interest receivable, loans to company officers, advances to employees, and income taxes refundable. These do not generally result from the operations of the business.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
3.
The essential features of the allowance method of accounting for bad debts are: (1) Uncollectible accounts receivable are estimated and matched against revenues in the same accounting period in which the revenues are recorded. (2) Estimated uncollectibles are debited to Bad Debt Expense and credited to Allowance for Doubtful Accounts through an adjusting entry at the end of each period. (3) Actual uncollectibles are debited to Allowance for Doubtful Accounts and credited to Accounts Receivable at the time the specific account is written off as uncollectible.
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
4.
Lance should realize that the decrease in cash realizable value occurs when estimated uncollectibles are recognized in an adjusting entry. The write-off of an uncollectible account reduces both accounts receivable and the allowance for doubtful accounts by the same amount. Thus, cash realizable value does not change.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACCSB: Knowledge AICPA AC: Reporting
5.
The adjusting entry under the percentage-of-receivables basis is: Bad Debt Expense .................................................................................. Allowance for Doubtful Accounts ($5,100 – $2,200) ..........................
2,900 2,900
LO 2 BT: AP Difficulty: Medium TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
6.
Apple reports two types of receivables on its balance sheet: Accounts receivable, and vendor non-trade receivables. Since Apple’s balance sheet reports allowance amounts for receivables, we know that Apple uses the allowance method rather than the direct write-off method.
LO 2 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
7.
Under the direct write-off method, bad debt losses are not estimated and no allowance account is used. When an account is determined to be uncollectible, the loss is debited to Bad Debt Expense and credited to Accounts Receivable. The direct write-off method makes no attempt to match bad debt expense to revenues or to show the cash realizable value of the receivables in the balance sheet.
LO 2 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 8 (Continued) 8.
Offering credit usually results in an increase in sales because customers prefer to “buy now and pay later”. If a company decides to extend credit to customers, it should also establish credit standards to determine if a particular customer is credit worthy. Standards that are easily met can result in additional sales being made to customers that may not be able to meet the “tighter” credit policies of competitors. If such customers fail to pay, the additional sales revenue will be offset by higher collection costs and bad debt expense.
LO 2 BT: E Difficulty: Hard TOT: 5 min. AACSB: Reflective Thinking AICPA AC: Reporting
9.
From its own credit cards, the JC Penney Company may realize financing charges from customers who do not pay the balance due within a specified grace period. They also may result in more brand loyalty. National credit cards offer the following advantages: (1) The credit card issuer does the credit investigation of the customer. (2) The issuer maintains individual customer accounts. (3) The issuer undertakes the collection process and absorbs any losses from uncollectible accounts. (4) The retailer receives cash more quickly from the credit card issuer than it would from individual customers.
LO 1, 2 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
10.
The reasons companies sell their receivables are: (1) Receivables may be sold because they may be the only reasonable source of cash. (2) Billing and collection are often time-consuming and costly. As a result, it is often easier for a retailer to sell the receivables to another party that has expertise in billing and collecting receivables.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
11.
Cash ................................................................................................................. 388,000 Service Charge Expense (3% × $400,000).......................................................... 12,000 Accounts Receivable .............................................................................. 400,000
LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Reporting
12.
A promissory note gives the holder a stronger legal claim than one on an account receivable. As a result, it is easier to sell to another party. Promissory notes are negotiable instruments, which means they can be transferred to another party by endorsement. The holder of a promissory note also can earn interest.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
13.
The maturity date of a promissory note may be stated in one of three ways: (1) on demand, (2) on a stated date, and (3) at the end of a stated period of time.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 8 (Continued) 14.
The missing amounts are: (a) $27,000 = [$270 ÷ (6% x 60/360)], (b) 10% = [$2,500 ÷ ($60,000 x 5/12)], (c) six months (out of 12) or 180 days(out of 360) = .5 = [$2,750 ÷ ($$50,000 x 11%)] , and (d) $7,200 = ($30,000 x 8% x 3).
LO 3 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
15.
When Mendosa Company has dishonored a note, the lender can renegotiate new terms for the receivable which is equal to the full amount of the note plus the interest due. It will then try to collect the balance due, or as much as possible. If there is no hope of collection, it will write-off the note receivable.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
16.
Each of the major types of receivables should be identified in the balance sheet or in the notes to the financial statements. Both the gross amount of receivables and the allowance for doubtful accounts should be reported. If collectible within a year or the operating cycle, whichever is longer, these receivables are reported as current assets immediately below short-term investments. Notes receivable are usually listed before accounts receivable because notes are more easily converted to cash.
LO 4 BT: K Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
17.
The steps involved in receivables management are: (1) Determine to whom to extend credit. (2) Establish a payment period. (3) Monitor collections. (4) Evaluate the liquidity of receivables. (5) Accelerate cash receipts from receivables when necessary.
LO 4 BT: K Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
18.
A company can prepare an aging schedule to monitor collection success. An aging schedule provides information about the overall collection experience of a company and identifies problem accounts.
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
19.
A concentration of credit risk is a threat of nonpayment from either a single large customer or class of customers that could adversely affect the company’s financial health.
LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
20.
An increase in the current ratio normally indicates an improvement in short-term liquidity. This may not always be the case because the composition of current assets may vary. In order to determine if the increase is an improvement in financial health, other ratios that should be considered include: accounts receivable turnover and average collection period.
LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 8 (Continued) 21.
An increase of more than 100% in the average collection period is probably caused by the adoption of looser credit standards. The new sales director may have increased sales by extending credit to customers that did not meet the company’s previous credit standards. Management should try to determine if the longer collection period jeopardizes the company’s overall financial position. It should compare its collection period to that of its competitors to determine if it is reasonable. It should also monitor collections to see if the additional sales are producing significant increases in costs associated with collection and bad debts. To reduce the average collection period, management might consider offering a sales discount to encourage customers to pay sooner.
LO 4 BT: AN Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
22.
Net credit sales for the period are 9.05 × $3,424 million = $30,987.2 million. Average collection period in days = 365 days ÷ 9.05 = 40.3 days.
LO 4 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
23.
Sales revenue is recorded when goods or services are provided, even if cash is yet to be received. As a consequence, if sales are growing rapidly, cash collections are sometimes significantly lower than sales.
LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
24.
Cash collections can be determined by adjusting Sales Revenue for the net change in Accounts Receivable. An increase in the receivables balance is deducted from Sales Revenue, a decrease in the receivables balance is added to Sales Revenue. LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 8.1 (a) Other receivables. (b) Notes receivable. (c) Accounts receivable. LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 8.2 (a) Jul y 1 (b) (c)
8 11
Accounts Receivable................................ Sales Revenue......................................
23,000
Sales Returns and Allowances ................ Accounts Receivable ...........................
2,400
23,000 2,400
Cash ($20,600 – $412)............................... 20,188 Sales Discounts ($20,600 × 2%)............... 412 Accounts Receivable ($23,000 – $2,400)
20,600 LO 1 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.3 (a) Allowance for Doubtful Accounts........................... Accounts Receivable ...................................... (b) Accounts receivable Less: Allowance for doubtful accounts Cash realizable value
(1) Before Write-Off $700,000
4,300 4,300 (2) After Write-Off $695,700
25,000 $675,000
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
20,700 $675,000
BRIEF EXERCISE 8.4 Accounts Receivable ...................................................... Allowance for Doubtful Accounts ..........................
4,300
Cash ................................................................................. Accounts Receivable ..............................................
4,300
4,300 4,300
LO 2 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.5 (a) Bad Debt Expense [($400,000 × 2%) – $2,800] .................................... Allowance for Doubtful Accounts ..................
5,200
(b) Bad Debt Expense [($400,000 × 2%) + $900]....................................... Allowance for Doubtful Accounts ..................
8,900
5,200
8,900
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.6 (a)
Bad Debt Expense................................................... Allowance for Doubtful Accounts [($550,000 × .03) + $4,200] ...................
20,700 20,700
(b)
Allowance for Doubtful Accounts Unadj. Bal. 4,200 Bad Debts 20,700 Adj. Bal. 16,500
(c)
Cash (net) realizable value of receivables is $533,500 ($550,000 − $16,500)
LO 2 BT: AP Difficulty: Hard TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.7 (a) Cash ($200 – $6)....................................................... Service Charge Expense ($200 × 3%)..................... Sales Revenue..................................................
194 6
(b) Cash ($65,000 – $1,950) ........................................... Service Charge Expense ($65,000 × 3%)................ Accounts Receivable .......................................
63,050 1,950
200
65,000
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.8 Interest Maturity Date (a) $800 August 9 ($80,000 x 6% x (60/360)) (Omit the date the note is issued but include the due date) (b) $875 October 12 ($50,000 x 7% x (90/360)) (Omit the date the note is issued but include the due date) (c) $200 July 11 ($12,000 x 8% x (75/360)) (Omit the date the note is issued but include the due date) LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.9 Maturity Date Annual Interest Rate Total Interest (a) May 31 9% $9,000 (The computation of interest assumes 360 days for the year) (b) August 1 8% $ 600 (The computation of interest assumes 360 days for the year) (c) September 7 10% $6,000 LO 3 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.10 Jan. 10 Feb. 9
Accounts Receivable ...................................... Sales Revenue ........................................
8,000
Notes Receivable............................................. Accounts Receivable .............................
8,000
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
8,000 8,000
BRIEF EXERCISE 8.11 (a) Bad Debt Expense .................................................. Allowance for Doubtful Accounts ..................
18,000
(b) Current assets Cash ................................................................. Accounts receivable ....................................... $400,000 Less: Allowance for doubtful accounts........ 18,000 Inventory.......................................................... Supplies ...........................................................
(c)
18,000 $ 90,000 382,000 180,000 13,000 $665,000
$3,000,000 10 times $300,000 365 days 36.5 days Average collection period 10 Accounts receivable turnover
The accounts receivable turnover is a liquidity measure. The average collection period indicates the effectiveness of a company’s credit and collection policies. To evaluate Fertig’s liquidity and credit policies, these measures should be compared to the same measures for competitors. LO 2, 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement and Reporting
BRIEF EXERCISE 8.12 Accounts Receivable Turnover: $23.1B = 7.2 times $23.1B = ($3.2B + 3.25B) ÷ 2 $3.225B Average Collection Period: 365 days
= 50.7 days
7.2 times LO 4 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 8.13 Accounts Receivable
Beg. Sales End
70,000 598,000 577,000 91,000
Collections or
Sales Increase in Receivables Cash Collections $598,000 $91,000 $70,000 $577,000
(Collections reduce the accounts receivable balance) LO 4 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 8.1 Mar. 1 Mar. 6 Mar. 11
Accounts Receivable ...................................... Sales Revenue ..........................................
28,000
Sales Returns and Allowances....................... Accounts Receivable ...............................
1,000
Cash ($27,000 – $270) ..................................... Sales Discounts ($27,000 × 1%) ..................... Accounts Receivable ...............................
26,730 270
28,000 1,000
27,000
LO 1 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 8.2a The following entry should be prepared to bring the balance in the Allowance for Doubtful Accounts up from $5,700 credit to $21,700 credit (7% × $310,000): Bad Debt Expense .................................................................... 16,000 Allowance for Doubtful Accounts............................... (To record estimate of uncollectible accounts)
16,000
LO 2 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 8.2b To speed up the collection of cash, Neumann sells $170,000 of its accounts receivable to a factor. Assuming the factor charges Neumann a 2% service charge, it would make the following entry: Cash ..................................................................................... 166,600 Service Charge Expense ($170,000 × 2%) ..................... 3,400 Accounts Receivable ............................................. (To record sale of receivables to factor) LO 2 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
170,000
DO IT! 8.3 The interest payable at maturity is $186: Face Value × Rate × Time = Interest $6,200 × 9% × 4/12 = $186 The entry recorded by Buffet Wholesalers at the maturity date is: Cash ................................................................................. 6,386 Notes Receivable ...................................................... Interest Revenue....................................................... (To record collection of Gates note and interest)
6,200 186
(Face value × Int. rate × Time = Int.) ($6,200 × 9% × 4/12 = $186) LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 8.4 (a)
Net credit sales ÷
Average net accounts receivable
(b)
$1,600,000
÷
Days in year
÷
365
$108,000 + $120,000 2
Accounts receivable turnover ÷ 14.0 times
=
Accounts receivable turnover
=
14.0 times
= =
Average collection period in days 26.1 days
LO 4 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 8.1 Jan. 6 16
Accounts Receivable—Harley Inc.................. Sales Revenue ..........................................
9,200
Cash ($9,200 – $92) ......................................... Sales Discounts (1% × $9,200) ....................... Accounts Receivable—Harley Inc ...........
9,108 92
9,200
9,200
LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.2 Jan. 10 Feb. 12 Mar. 10
Accounts Receivable—Amise ........................ Sales Revenue ..........................................
1,700
Cash ................................................................. Accounts Receivable—Amise .................
1,100
Accounts Receivable—Amise ........................ Interest Revenue [1% × ($1,700 – $1,100)].........................
6
1,700 1,100
6
LO 1 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.3 (a)
(b)
Accounts Receivable ........................................... Sales Revenue .................................................
800,000
Cash ...................................................................... Accounts Receivable ......................................
763,000
Allowance for Doubtful Accounts ....................... Accounts Receivable ......................................
7,300
800,000
763,000 7,300
EXERCISE 8.3 (Continued) (c)
(d)
Accounts Receivable............................................ Allowance for Doubtful Accounts ..................
3,100
Cash....................................................................... Accounts Receivable.......................................
3,100
Bad Debt Expense ................................................ Allowance for Doubtful Accounts ..............
20,200
3,100 3,100 20,200
Allowance for Doubtful Accounts Beg. Bal. 9,000 b c Write-off 7,300 Recovery 3,100 d Bad Debts20,200 [$25,000 – ($9,000 + $3,100 – $7,300)] End Bal. 25,000
(e)
Accounts Receivable Beg. Bal. 200,000 aCollections763,000 a Sales 800,000 bWrite-off 7,300 c c Recovery 3,100 Collections 3,100 End Bal. 229,700
Allowance for Doubtful Accounts Beg. Bal. 9,000 c b Write-off 7,300 Recovery 3,100 d Bad Debts 20,200 End Bal. 25,000
(f) Cash (net) realizable value of receivables is $204,700 ($229,700 – $25,000) LO 1, 2 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.4 (a)
(b)
(c)
(d)
Cash ($600,000 x 25%) ......................................... Accounts Receivable ($600,000 x 75%) .............. Sales Revenue .................................................
150,000 450,000
Cash ...................................................................... Accounts Receivable ......................................
480,000
Allowance for Doubtful Accounts ....................... Accounts Receivable ......................................
8,100
Accounts Receivable ........................................... Allowance for Doubtful Accounts ..................
840
Cash ...................................................................... Accounts Receivable ......................................
840
600,000 480,000 8,100 840 840
Accounts Receivable Beg. Bal. 145,000 aCollections 480,000 a Sales 450,000 bWrite-off 8,100 c c Recovery 840 Collections 840 *End. Bal.106,900
(e)
$106,900* × .05 = $5,345**
(f)
Bad Debt Expense ................................................ Allowance for Doubtful Accounts..............
4,655 4,655
Allowance for Doubtful Accounts Beg. Bal. 7,950 840 bWrite-off 8,100 cRecovery f Bad Debts 4,655 [$5,345 – ($7,950 + $840 – $8,100)] ** End. Bal. 5,345 (g) Cash (net) realizable value of receivables is $101,555 ($106,900 – $5,345) LO 1, 2 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.5 (a)
(b) (c)
Accounts Receivable............................................ Sales Revenue .................................................
945,000
Cash....................................................................... Accounts Receivable.......................................
910,000
Allowance for Doubtful Accounts ....................... Accounts Receivable.......................................
5,200
Accounts Receivable............................................ Allowance for Doubtful Accounts ..................
1,900
Cash....................................................................... Accounts Receivable.......................................
1,900
(d)
Accounts Receivable Beg. Bal. 142,000 aCollections 910,000 a Sales 945,000 bWrite-off 5,200 c c Recovery 1,900 Collections 1,900 * End. Bal. 171,800
(e)
Bad Debt Expense ................................................ Allowance for Doubtful Accounts .................. [($171,800* × .08) − $8,060]..................
(f)
945,000 910,000 5,200
1,900 1,900
Allowance for Doubtful Accounts Beg. Bal. 11,360 c b 1,900 Write-off 5,200 Recovery Unadj. Bal. 8,060
Allowance for Doubtful Accounts Beg. Bal. 11,360 b Write-off 5,200 cRecovery 1,900 Unadj. Bal. 8,060 e Bad Debts 5,684 Adj. Bal. 13,744
LO 1, 2 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
5,684 5,684
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EXERCISE 8.6 (a) July 7
(b) Dec. 31
(c) Dec. 31
Bad Debt Expense........................................... Accounts Receivable—Matisse ...............
900 900
Bad Debt Expense........................................... 6,700 Allowance for Doubtful Accounts [($78,000 × 10%) – $1,100].....................
6,700
Bad Debt Expense........................................... 6,740 Allowance for Doubtful Accounts [($78,000 × 8%) + $500] .........................
6,740
LO 2 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA FC: Reporting
EXERCISE 8.7 (a) May 8 (b) May 8
Bad Debt Expense........................................... Accounts Receivable—Randal ................
450
Allowace for Doubtful Accounts .................... Accouts Receivable—Randal ..................
450
450 450
(c) Dec. 31
Bad Debt Expense........................................... 12,590 Allowance for Doubtful Accounts 12,590 [($130,000 × 9%) + $890]........................
(d) Dec. 31
Bad Debt Expense........................................... Allowance for Doubtful Accounts [($130,000 × 7%) – $1,090].....................
LO 2 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
8,010 8,010
EXERCISE 8.8 (a)
Accounts Receivable Current 1–30 days past due 31–90 days past due Over 90 days past due
Amount $65,000 12,900 10,100 7,400
% Estimated Uncollectible 2 $1,300 5 645 30 3,030 50 3,700 $8,675
(b) Mar. 31
Bad Debt Expense ........................................... 6,575 Allowance for Doubtful Accounts 6,575 ($8,675 – $2,100) .................................... (Bad Debt Expense takes into account any existing balance in the allowance account)
(c) The total balance of receivables increased from 2024 to 2025. However, of concern is the fact that each of the three categories of older accounts increased substantially during 2025. That is, customers are taking longer to pay and bad debts are likely to increase. Management needs to investigate the causes of this change. LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.9 December 31, 2024 Bad Debt Expense .......................................................... Allowance for Doubtful Accounts [(9% × $90,000) + $1,400] ......................................
9,500 9,500
May 11, 2025 Allowance for Doubtful Accounts .................................. Accounts Receivable—Jared ..................................
1,200
June 12, 2025 Accounts Receivable—Jared ......................................... Allowance for Doubtful Accounts...........................
1,200
Cash ................................................................................. Accounts Receivable—Jared .................................. LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
1,200
1,200 1,200 1,200
EXERCISE 8.10 Mar. 3
Cash ($710,000 – $28,400) .............................. Service Charge Expense (4% × $710,000) ..... Accounts Receivable ...............................
681,600 28,400 710,000
LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.11 May 10
Cash ($4,000 – $152) ....................................... Service Charge Expense (3.8% × $4,000) ...... Sales Revenue ..........................................
3,848 152 4,000
LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.12 July 4
Cash ($250 – $10) ............................................ Service Charge Expense (4% × $250) ............ Sales Revenue ..........................................
240 10 250
LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.13 Nov. 1 Dec. 11 16
Notes Receivable............................................. Cash ..........................................................
60,000
Notes Receivable............................................. Sales Revenue ..........................................
3,600
Notes Receivable............................................. Accounts Receivable—A. Murdock.........
12,000
60,000 3,600
Interest Receivable.......................................... 761 Interest Revenue* ..................................... *Calculation of interest revenue: Bohr’s note: $60,000 × 7% × 2/12 = $700 Pine’s note: 3,600 × 8% × 20/360 = 16 Murdock’s note: 12,000 × 9% × 15/360 = 45 Total accrued interest = $761 (The computation of interest assumes a 360 day year)
12,000
31
761
EXERCISE 8.13 (Continued) [Dec. 31: (Bohr note: Face value × Int. rate × Tme in months) + (Pine note: Face value × Int. rate × Time in days) + (Murdock note: Face value × Int. rate × Time in days) = Tot. int. rec.] [Dec. 31: ($60,000 × 7% × 2/12) + ($3,600 × 8% × 20/360) + ($12,000 × 9% × 15/360) = $761] LO 3 BT: AP Difficulty: Hard TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.14 May
1
Dec. 31
May
1
2024 Notes Receivable............................................. Accounts Receivable—R. Stoney............ Interest Receivable.......................................... Interest Revenue ($5,000 × 6% × 8/12) ............................... 2025 Cash ................................................................. Notes Receivable ...................................... Interest Receivable ................................... Interest Revenue ($5,000 × 6% × 4/12) ...............................
LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
5,000 5,000 200 200 5,300 5,000 200 100
EXERCISE 8.15 4/1/25 7/1/25 12/31/25
4/1/26
Notes Receivable............................................. Accounts Receivable ...............................
30,000
Notes Receivable............................................. Cash ..........................................................
25,000
Interest Receivable.......................................... Interest Revenue ($30,000 × 6% × 9/12) ............................
1,350
Interest Receivable.......................................... Interest Revenue ($25,000 × 10% × 6/12) ..........................
1,250
Cash ................................................................. Notes Receivable...................................... Interest Receivable................................... Interest Revenue ($30,000 × 6% × 3/12) ............................
31,800
Accounts Receivable ...................................... Notes Receivable...................................... Interest Receivable ................................... Interest Revenue ($25,000 × 10% × 3/12) ...........................
26,875
30,000 25,000
1,350
1,250 30,000 1,350 450 25,000 1,250 625
(12/31/25: Int. rec. = Face value × Int. rate × Fraction of yr.); [Int. rec. = ($30,000 × 6% × 9/12) + ($25,000 × 10% × 6/12)] (4/1/26: Int. rev. = Face value × Int. rate × Fraction of yr.); [Int. rec. = ($30,000 × 6% ×3/12) + ($25,000 × 10% × 3/12)] LO 3 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.16 EILEEN CORP. Balance Sheet (Partial) October 31, 2025 (in thousands) Receivables Notes receivable ........................................................ Accounts receivable .................................................. Other receivables....................................................... Total receivables........................................................ Less: Allowance for doubtful accounts ........................ Net receivables ................................................................
$1,353 2,910 189 $4,452 52 $4,400
LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.17 (a) 2. Reviewing company ratings in the Dun and Bradstreet Reference Book of American Business. (b) 3. Collecting information on competitors’ payment period policies. (c) 4. Preparing monthly accounts receivable aging schedule and investigating problem accounts. (d) 5. Calculating the accounts receivable turnover ratio and average collection period. (e) 1. Selling receivables to a factor. LO 4 BT: K Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 8.18 (a)
$35,497 = 9.2 times ($3,391 + $4,359)/2 365 days Average collection period = = 39.7 days 9.2
Accounts receivable turnover =
(b)
Accounts receivable comprise 48% ($3,391/$7,116) of the company’s total current assets. This is certainly a material component.
(c)
The balance in the allowance account increased $38 million ($196 – $158) while its accounts receivable decreased $930 million ($3,587 – $4,517). As a result, the allowance for uncollectible accounts increased from 3.5% of accounts receivable in 2024 to 5.5% in 2025.
LO 4 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.19 (a) At first glance it appears that Ming’s liquidity had deteriorated over the past year since the company’s current ratio has fallen from 1.5:1 to 1.3:1. However, it is taking the company less time to collect its accounts receivable as evidenced by the higher accounts receivable turnover. The company also appears to be moving its inventory more quickly as evidenced by the higher inventory turnover. It is possible that the lower current ratio is due to the fact that with improved collections and inventory turnover, the company is carrying fewer current assets and not because the company’s liquidity has deteriorated. (b) Changes in the turnover ratios do not directly affect profitability. However, improvements in turnover generally indicate that the company is better able to convert sales to cash. Improved liquidity could allow the company to better manage its cash flows and therefore, indirectly improve profitability. (c) There are several steps that Ming might have taken to improve its accounts receivable and inventory turnover:
EXERCISE 8.19 (Continued) Receivables -
The company could limit credit to only the best customers, however, this could negatively affect sales.
-
The company could initiate the use of a cash discount to encourage early payment of accounts receivable.
-
The company could more aggressively monitor collections to encourage customers to pay on time.
-
The company could sell its accounts receivable to a factor to accelerate cash receipts.
Inventory -
The company could limit the amount of inventory by improving its purchasing relationships with suppliers. If inventory could be purchased more frequently, required inventory levels could be reduced.
-
Improvements in production processes could reduce the amount of work in process, thereby reducing inventory and improving the turnover ratio.
-
Moving to a system whereby inventory is only produced as needed, will reduce the amount of finished goods inventory and improve the turnover ratio. However, there is some risk to this option as sales could be lost if stock-outs occur.
LO 4 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 8.20 One possible reason Office Depot chose to sell its receivables may have been to improve its financial ratios. Other reasons include not wanting to deal with the administration, and the cost, of collecting accounts or the desire to accelerate cash receipts. LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 8.21 (a)
Accounts Receivable Collections or
Sales Increase in Receivables Cash Collections $380,000 $191,000 $38,000 $227,000
(Collections reduce the accounts receivable balance) (b) The quality of earnings ratio is net cash provided by operating activities divided by net income. If accrual sales exceed cash collections, then net income will exceed net cash provided by operating activities, all else being equal. Therefore, this would cause a drop in the quality of earnings ratio. (c) If the company relaxed its credit requirements it should increase its estimated bad debt expense. If it doesn’t do this, net income in the current period will likely be overstated. LO 4 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 8.22 1
(a) Written promise (as evidenced by a formal instrument) for amounts to be received.
8
(b) A method of accounting for bad debts that involves estimating uncollectible accounts at the end of each period.
3
(c) A measure of the liquidity of accounts receivable, computed by dividing net credit sales by average net accounts receivable.
9
(d) A method of accounting for bad debts that involves charging receivable balances to Bad Debt Expense at the time receivables from a particular company are determined to be uncollectible.
10
(e) A finance company or bank that buys receivables from businesses for a fee and then collects the payments directly from the customers.
2
(f) The net amount a company expects to receive in cash from receivables.
7
(g) The threat of nonpayment from a single large customer or class of customers that could adversely affect the financial health of the company.
6
(h) A note that is not paid in full at maturity.
5
(i) A method of estimating the amount of bad debt expense, whereby management establishes a percentage relationship between the amount of receivables and the expected losses from uncollectible accounts.
4
(j) A schedule of customer balances classified by the length of time they have been unpaid.
LO 1, 2, 3, 4 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA FC: Measurement Analysis and Interpretation
SOLUTIONS TO PROBLEMS PROBLEM 8.1
(a)
Total estimated bad debts Number of Days Outstanding 31–60 61–90 91–120
Over 120
$377,000 $222,000 1%
$90,000 4%
$38,000 5%
$15,000 8%
$12,000 10%
$10,120
$3,600
$1,900
$1,200
$1,200
Total Accounts receivable % uncollectible Estimated bad debts
(b)
(c) (d)
(e)
0–30
$2,220
Bad Debt Expense.......................................... Allowance for Doubtful Accounts ($10,120 + $4,000) .................................
14,120
Allowance for Doubtful Accounts ................. Accounts Receivable ..............................
5,000
Accounts Receivable ..................................... Allowance for Doubtful Accounts ..........
5,000
Cash ................................................................ Accounts Receivable ..............................
5,000
14,120
5,000 5,000 5,000
If Rianna.com used 3% of total accounts receivable rather than aging the individual accounts, the bad debt expense adjustment would be $15,310 [($377,000 × 3%) + $4,000]. Aging the individual accounts rather than applying a percentage to the total accounts receivable should produce a more accurate allowance account and bad debt expense.
LO 2 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 8.2
(a)
1.
Accounts Receivable ........................................2,500,000 Sales Revenue ......................................... 2,500,000
2.
Sales Returns and Allowances...................... Accounts Receivable...............................
Cash...................................................................2,200,000 Accounts Receivable............................... 2,200,000
4.
Allowance for Doubtful Accounts ................. Accounts Receivable...............................
41,000
Accounts Receivable ..................................... Allowance for Doubtful Accounts ..........
15,000
Cash ................................................................ Accounts Receivable...............................
15,000
Accounts Receivable Bal. 600,000 (1) 2,500,000 (5) 15,000 Bal.
(c)
50,000
3.
5.
(b)
50,000
(2) 50,000 (3) 2,200,000 (4) 41,000 (5) 15,000
41,000 15,000 15,000
Allowance for Doubtful Accounts (4)
41,000
809,000
Bal. (5)
37,000 15,000
Bal.
11,000
Balance needed ...................................................... Balance before adjustment [See (b)]..................... Adjustment required ..............................................
$46,000 (11,000) $35,000
The journal entry would therefore be as follows: Bad Debt Expense.................................................. Allowance for Doubtful Accounts ...............
35,000 35,000
PROBLEM 8.2 (Continued) (d)
$2,500, 000 – $50,000 $2,450,000 = = 3.7 times ($563,000* + $763,000**) ÷ 2 $663,000 *$600,000 – $37,000 **$809,000 – $46,000 The average collection period is: 365 days
= 98.6 days
3.7 LO 2, 4 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 8.3
(a) Dec. 31
Bad Debt Expense ..................................... Allowance for Doubtful Accounts ($42,400 – $8,000) ............................
34,400 34,400
(a) & (b) 12/31 12/31
Bad Debt Expense
Allowance for Doubtful Accounts
34,400 Bal. 34,400
2024
2025 3/1
(b) (1)
(2)
May 1
1
Dec. 31
600 5/1
2025 Allowance for Doubtful Accounts ....... Accounts Receivable....................
Mar. 1
(c)
12/31 Bal. 8,000 12/31 34,400 12/31 Bal. 42,400 600
600 600
Accounts Receivable............................ Allowance for Doubtful Accounts ....................................
600
Cash....................................................... Accounts Receivable....................
600
2025 Bad Debt Expense ...................................... Allowance for Doubtful Accounts ($36,700 + $1,400) ..............................
LO 2 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
600
600 38,100 38,100
PROBLEM 8.4
(a) $37,000. (b) $30,600 [($840,000 × 4%) – $3,000]. [(Accts. rec. × Uncoll. %) – Credit bal. in allow. acct. = Bad debt exp.] [($840,000 × 4%) – $3,000 = $30,600]
(c) $34,600 [($840,000 × 4%) + $1,000]. [(Accts. rec. × Uncoll. %) + Debit bal. in allow. acct. = Bad debt exp.) [($840,000 × 4%) + $1,000 = $34,600]
(d) The are two major weaknesses with the direct write-off method. First, it does not match expenses with revenues. Second, the accounts receivable are not stated at cash realizable value at the balance sheet date. LO 2 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 8.5
(a) Dec. 31
(b) Dec. 31
(c)
(d)
(e)
Bad Debt Expense ($10,200 – $1,500) ..... Allowance for Doubtful Accounts .....
8,700 8,700
Bad Debt Expense ($10,200 + $1,500) .........11,700 Allowance for Doubtful Accounts .....
Allowance for Doubtful Accounts ........................... Accounts Receivable ........................................
2,100
Bad Debt Expense.................................................... Accounts Receivable ........................................
2,100
11,700
2,100
2,100
The advantages of the allowance method over the direct write-off method are: 1.
It attempts to match bad debt expense related to uncollectible accounts receivable with sales revenues on the income statement.
2.
It attempts to show the cash realizable value of the accounts receivable on the balance sheet.
LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 8.6
Jan.
5
Feb. 2 12 26 Apr.
5
Accounts Receivable—Rian Company.......... Sales Revenue..........................................
4,000
Notes Receivable ............................................ Accounts Receivable—Rian Company...
4,000
Notes Receivable – Cato Company ............... Sales Revenue..........................................
12,000
Accounts Receivable—Malcolm Co............... Sales Revenue..........................................
5,200
Notes Receivable. ........................................... Accounts Receivable—Malcolm Co ........
5,200
4,000 4,000 12,000 5,200 5,200
12
Cash ($12,000 + $200) ..................................... 12,200 Notes Receivable – Cato Co .................... 12,000 Interest Revenue ($12,000 × 10% × 2/12)........................... 200 (When the terms of a note are expressed in months, the time element is based on 12 months) (Face value × Int. rate × Time in months = Int. rev.) ($12,000 × 10% × 2/12 = $200)
June 2
Cash ($4,000 + $120) ....................................... 4,120 Notes Receivable – Rian Co .................... 4,000 Interest Revenue ($4,000 × 9% × 4/12) .... 120 (When the terms of a note are expressed in months, the time element is based on 12 months) (Face value × Int. rate × Time in months = Int. rev.) ($4,000 × 9% × 4/12 = $120)
June 15
Notes Receivable – Gerri Inc.......................... Sales Revenue..........................................
2,000
LO 1, 3 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
2,000
PROBLEM 8.7
Transaction 1. Recorded cash sale. 2. Recorded bad debt expense. Use allowance method 3. Wrote off an account receivable as uncollectible. Use allowance method 4. Recorded sales on account.
Current Ratio (2:1) I
Accounts Receivable Turnover (10X) NE
Average Collection Period (36.5 days) NE
D
I
D
NE
NE
NE
I
D
I
LO 4 BT: C Difficulty: Hard TOT: 20 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
PROBLEM 8.8
(a) July
5
Accounts Receivable ............................... Sales Revenue ....................................
4,500
Cash ($600 – $18) ..................................... Service Charge Expense ($600 × 3%) ..... Sales Revenue ....................................
582 18
Cash ......................................................... Notes Receivable – Coote Inc............ Interest Revenue ($6,000 × 8% × 90/360) ..................... (The interest computation assumes a 360-day year)
6,120
14
20
4,500
600
6,000 120
(Face value × Int. rate × Time in days = Int. rev.) ($6,000 × 8% × 90/360 = $120)
24
Cash ......................................................... Notes Receivable – Brady Co ............ Interest Revenue ($7,800 × 10% × 60/360) ................... (The interest computation assumes a 360-day year)
7,930 7,800 130
(Face value × Int. rate × Time in days = Int. rev.) ($7,800 × 10% × 60/360 = $130)
31
Interest Receivable .................................. Interest Revenue ($10,000 × 6% × 1/12) .......................
50 50
(Face value × Int. rate × Time in months = Int. rev.) ($10,000 × 6% × 1/12 = $50)
(b) Notes Receivable 7/1 Bal. 23,800 7/20 7/24 7/31 Bal. 10,000
6,000 7,800
Accounts Receivable 7/5 4,500 7/31 Bal. 4,500
7/31
Interest Receivable 50
7/31 Bal.
50
PROBLEM 8.8 (Continued) MILTON COMPANY Balance Sheet (Partial) July 31, 20XX (c) Current assets Notes receivable............................................... Accounts receivable......................................... Interest receivable ............................................ Total receivables......................................... LO 1, 2, 3, 4 BT: AP Difficulty: Medium TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
$10,000 4,500 50 $14,550
PROBLEM 8.9
Nike Accounts receivable turnover
adidas €10,381
$19,176.1 a
b
($2,795.3 + $2,883.9 )/2 $19,176.1
= 6.8 times
$2,839.6
(€1,624c + €1,429d )/2 €10,381 = 6.8 times €1,526.5
a $2,873.7 – $78.4 b $2,994.7 – $110.8 c €1,743 – €119 d €1,553 – €124
Average collection period
365 6.8
= 53.7 days
365
= 53.7 days
6.8
Both companies have the same turnover ratios and average collection periods. LO 4 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
CC8
CONTINUING CASE: COOKIE CREATIONS
(a) Answers to Natalie’s questions 1. Calculations you should perform on the statements are:
Working Capital = Current Assets – Current Liabilities Current Ratio = Current Assets ÷ Current Liabilities Inventory Turnover = Cost of Goods Sold ÷ Average Inventory Days Sales in Inventory = Days in the Year ÷ Inventory Turnover
Given the type of business, it is unlikely that Curtis would have a significant amount of accounts receivable. Positive working capital and a current ratio of greater than 2 is an indication that the company has good liquidity and will be more likely to be able to pay for the mixer. The inventory turnover and days sales in inventory will provide additional information—the days sales in inventory will tell you how long, on average it takes for inventory to be sold. 2. Other alternatives to extending credit to Curtis include: Waiting for 30 days to make the sale Having Curtis borrow from the bank Having Curtis use a credit card to finance the purchase. 3. The advantages of allowing customers to use credit cards include making the purchase easier for the customer, potentially increasing sales, as customers are not limited to the amount of cash in their wallet, and reducing the accounts receivable you have to manage if credit cards are used instead of granting credit to customers. The disadvantage is the cost to your business. When a customer makes a purchase using a credit card you will have to pay a percentage of the sale to the credit card company. The rate varies but 3% would not be unusual. You will also have to pay to rent the equipment needed to process each credit card sale. The fee is not large but is an ongoing expense.
CC8 (Continued) (b) June 1
Accounts Receivable—Lesperance........... Sales Revenue .....................................
1,100
Cost of Goods Sold..................................... Inventory ..............................................
600
1,100 600
2
No entry
30
Cash ($1,050 + ($900 × 97%)) ..................... Service Charge Expense ($900 × 3%) ........ Service Revenue ($1,050 + $900)........
1,923 27
Service Charge Expense ............................ Cash .....................................................
75
Notes Receivable ........................................ Accounts Receivable—Lesperance ...
1,100
Cash ($1,100 × 97%).................................... Service Charge Expense ($1,100 × 3%) ..... Sales Revenue .....................................
1,067 33
Cost of Goods Sold..................................... Inventory ..............................................
600
Cash ($1,200 + ($1,200 × 97%)) .................. Service Charge Expense ($1,200 × 3%) ..... Service Revenue ($1,200 + $1,200).......
2,364 36
Service Charge Expense ............................ Cash .....................................................
75
30 30 July 15
30
31 31
Aug. 10 31
Interest Receivable ($1,100 × 6% × 1/12) ................................ Interest Revenue .................................
1,950 75 1,100
1,100 600
2,400 75 5.50 5.50
No entry Cash ............................................................. Interest Receivable.............................. Interest Revenue ................................. Notes Receivable.................................
1,111.00 5.50 5.50 1,100.00
ACR8
ACCOUNTING CYCLE REVIEW
(a) Jan. 1
3 8 11
15
17 21 24
27 31
Notes Receivable........................................... Accounts Receivable— Betheny Company ..............................
1,200
Allowance for Doubtful Accounts ................ Accounts Receivable ($450 + $280)......
730
Inventory ........................................................ Accounts Payable ..................................
17,200
Accounts Receivable .................................... Sales Revenue .......................................
25,000
Cost of Goods Sold ....................................... Inventory ................................................
17,500
Cash ............................................................... Service Charge Expense ($1,000 x 3%) ....... Sales Revenue .......................................
970 30
Cost of Goods Sold ....................................... Inventory ................................................
700
Cash ............................................................... Accounts Receivable.............................
22,900
Accounts Payable ......................................... Cash........................................................
16,300
Accounts Receivable .................................... Allowance for Doubtful Accounts.........
280
Cash ............................................................... Accounts Receivable.............................
280
Supplies ......................................................... Cash........................................................
1,400
Other Operating Expenses ........................... Cash........................................................
3,218
1,200 730 17,200 25,000 17,500
1,000 700 22,900 16,300 280 280 1,400 3,218
ACR8 (Continued) Adjusting Entries Jan. 31 31
31 31
(b)
Interest Receivable ........................................ Interest Revenue ($1,200 × 8% × 1/12) ....... Bad Debt Expense [($19,950 × 6%) – ($800 – $730 + $280)] .................................. Allowance for Doubtful Accounts..........
8 8
847 847
Supplies Expense .......................................... Supplies ($1,400 – $560) ........................
840
Income Tax Expense...................................... Income Taxes Payable [$2,873 (See c) × 30%] .........................
862
840
862
HUDSON CORPORATION Adjusted Trial Balance January 31, 2025 Cash ............................................................ Notes Receivable ....................................... Accounts Receivable ................................. Allowance for Doubtful Accounts............. Interest Receivable .................................... Inventory..................................................... Supplies...................................................... Accounts Payable ...................................... Income Taxes Payable ............................... Common Stock........................................... Retained Earnings...................................... Sales Revenue............................................ Cost of Goods Sold.................................... Supplies Expense ...................................... Bad Debt Expense...................................... Service Charge Expense ........................... Other Operating Expenses ........................ Interest Revenue ........................................ Income Tax Expense..................................
Debit $16,332 1,200 19,950
Credit
$ 1,197 8 8,400 560 9,650 862 20,000 12,730 26,000 18,200 840 847 30 3,218 8 862 $70,447
$70,447
ACR8 (Continued) [(Cash + Notes rec. + Accts. rec. + Int. rec. + Inv. + Supp. + CGS + Supp. exp. + Bad debt exp. + Serv. chrg. exp. + Other oper. exp. + Inc. tax exp.) = (Allow. for dbtfl. accts. + Accts. pay. + Inc. tax pay. + Common stk. + Ret. earn. + Sales rev. + Int. rev.)] [($16,332 + $1,200 + $19,950 + $8 + $8,400 + $560 + $18,200 + $840 + $847 + $30 + $3,218 + $862) = ($1,197 + $9,650 + $862 + $20,000 + $12,730 + $26,000 + $8)]
(b)
Optional T accounts for accounts with multiple transactions
Cash 1/1 Bal. 13,100 1/21 1/15 970 1/27 1/17 22,900 1/31 1/24 280 1/31 Bal. 16,332
16,300 1,400 3,218
1/21
Accounts Receivable 1/1 Bal. 19,780 1/1 1,200 1/11 25,000 1/3 730 1/24 280 1/17 22,900 1/24 280 1/31 Bal. 19,950
Allowance for Doubtful Accounts 1/3 730 1/1 Bal. 800 1/24 280 1/31 847 1/31 Bal. 1,197
Inventory 1/1 Bal. 9,400 1/11 1/8 17,200 1/15 1/31 Bal. 8,400
1/27 1/31 Bal.
17,500 700
Supplies 1,400 1/31 560
840
Accounts Payable 16,300 1/1 Bal. 8,750 1/8 17,200 1/31 Bal. 9,650 Sales Revenue 1/11 25,000 1/15 1,000 1/31 Bal. 26,000
Cost of Goods Sold 1/11 17,500 1/15 700 1/31 Bal. 18,200
ACR8 (Continued) (c)
HUDSON CORPORATION Income Statement For the Month Ending January 31, 2025 Sales revenue................................................. Cost of goods sold......................................... Gross profit .................................................... Operating expenses....................................... Other operating expenses...................... Bad debt expense ................................... Supplies expense ................................... Service charge expense ......................... Total operating expenses .............................. Income from operations ................................ Other revenues and gains ............................. Interest revenue ...................................... Income before taxes ...................................... Income tax expense ($2,873 × 30%) ...... Net income......................................................
(Sales rev. – CGS – Oper. exp. + Int. rev. – Inc. tax exp. = Net inc.) [$26,000 – $18,200 – ($3,218 + $847 + $840 + $30) + $8 – $862 = $2,011]
$26,000 18,200 7,800 $3,218 847 840 30 4,935 2,865 8 2,873 862 $ 2,011
ACR8 (Continued) HUDSON CORPORATION Retained Earnings Statement For the Month Ending January 31, 2025 Retained earnings, January 1 .......................................... Add: Net income ............................................................... Retained earnings, January 31 ........................................
$12,730 2,011 $14,741
HUDSON CORPORATION Balance Sheet January 31, 2025 Assets Current assets Cash ........................................................ Notes receivable ..................................... Accounts receivable............................... Less: Allowance for doubtful accounts ...................................... Interest receivable .................................. Inventory ................................................. Supplies .................................................. Total assets ....................................................
$16,332 1,200 $19,950 1,197
18,753 8 8,400 560 $45,253
Liabilities and Stockholders’ Equity Current liabilities Accounts payable................................... Income taxes payable ............................ Total liabilities................................................ Stockholders’ equity Common stock ....................................... Retained earnings .................................. Total stockholders’ equity ..................... Total liabilities and stockholders’ equity .....
$ 9,650 862 $10,512 20,000 14,741 34,741 $45,253
[Current assets = (Current liabl. + SE)] [($16,332 + $1,200 +($19950 – $1,197) + $8 + $8,400 + $560) = (($9,650 + $862) + ($20,000 + $14,741))] LO 1 – 4 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT8.1
(a)
FINANCIAL REPORTING PROBLEM
Accounts receivable turnover =
Average collection period =
(b)
2020 $274,515 ($16,120 + $22,926) ÷ 2 $274,515 14.1 times $19,523 365 25.9 days 14.1
Note 3 under Accounts Receivable states that
As of September 26, 2020 and September 28, 2019, the Company had no customers that individually represented 10% or more of total trade receivables. The Company's cellular network carriers accounted for 51% of total trade receivables as of September 28, 2019. (c)
At 25.9 days, Apple’s average collection period appears appropriate. It should be compared to its credit terms (normally 30 days) and to previous years to determine whether it is of concern.
LO 4 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT8.2
(a) (1)
COMPARATIVE ANALYSIS PROBLEM
Accounts receivable turnover Columbia Sportswear
(2)
Under Armour, Inc.
$2,501,554 ($452,945 + $488,233) 2
$4, 474,667 ($527, 340 + $708,714) 2
$2,501,554 5.3 times $470,589
$4, 474,667 7.2 times $618,027
Average collection period 365 5.3
68.9 days
365
50.7 days
7.2
(b) The general rule for the average collection period is that it should not greatly exceed the credit term period. Under Armour’s average collection period (approximately 51 days) is longer than the normal credit term period of 30 days but is better than Columbia's 69 day average collection period. Both average collection periods are unfavorable and could be improved. LO 4 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT8.3
(a) (1)
(2)
COMPARATIVE ANALYSIS PROBLEM
Accounts receivable turnover Amazon.com
Walmart Inc.
$386,064 ($24,542 + $20,816) 2
$555,233 ($6,516 + $6,284) 2
$386,064 17.0 times $22,679
$555,233 86.8 times 6, 400
Average collection period 365 17.0
= 21.5 days
365
= 4.2 days
86.8
(b) The general rule for the average collection period is that it should not greatly exceed the credit term period. Amazon’s average collection period (approximately 22 days) is shorter than the normal credit term period of 30 days but is much longer than Walmart’s 4.2 days. LO 4 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT8.4
(a)
INTERPRETING FINANCIAL STATEMENTS
Accounts receivable turnover = *$270.4 – $10.6 **$259.7 – $11.4 Average collection period =
$2,981.8 = 11.7 times ($259.8* + $248.3**)/2 365 days
= 31.2 days
11.7 (b)
Accounts receivable represent 24.9% [($270.4 – $10.6)/$1,044.9] of the company’s current assets. This is a material amount of the current assets.
(c)
The ratios would probably vary throughout the year as receivables increase during the busy season and decrease in the “off” season. To improve the accuracy of the ratio, average receivables should be calculated using monthly or quarterly data, rather than just the beginning and ending balance.
(d)
It is difficult to evaluate Scotts’ credit risk with only a single year’s data and no industry norms. An average collection period of 31.2 days may be reasonable for the type of customers that make up Scotts’ receivables. Scotts explained that a majority of its receivables were from its North American Consumer segment. Within this segment, there were several subgroups (i.e., home centers, mass merchandisers, hardware stores). The note explains that its top 3 customers accounted for 48% of its total receivables from the North American consumer business. In addition its two largest customers accounted for more than 34% of its net sales. These facts indicate a higher degree of credit risk than having numerous smaller customers.
CT8.4 (Continued) (e)
Note 19 addressed the issues that surround credit risk. It provided the reader with at least a moderate degree of “comfort” that Scotts’ accounts receivable and allowance policies were acceptable. The note also appears to comply with the full disclosure principle required under GAAP. It does not, however, disclose what the company’s credit exposure is to any individual customers. This would be of interest, since some of its customers are probably very large. As noted in part (d), having the receivables balance spread across multiple customers is usually less risky than having a few large customers.
LO 4 BT: AN Difficulty: Hard TOT: 25 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT8.5
(a)
REAL-WORLD FOCUS
Invoice factoring can benefit your business in many ways. An invoice factoring line: ■ ■ ■ ■ ■ ■
Is available to small business that have no credit Provides you with money quickly Improves your cash flow Is easier to get than business loans Allows you to offer net 30 to net 60 days to clients Can be set up quickly
(b)
Factoring rates range between 1.15% and 3.5% per month. The two major variables considered when determining the rate are: (1) the size of the transaction, and (2) the credit quality of the company’s clients .
(c)
The first installment is paid within a couple of days and is typically 80% - 95% of the invoice amount. After customers pay the invoice amount to the factor, the second installment (20%) is paid, less a fee for the transaction.
LO 2, 4 BT: S Difficulty: Hard TOT: 20 min. AACSB: Analytic, Communication and Technology AICPA AC: Reporting AICPA PC: Communication
CT8.6
REAL-WORLD FOCUS
(a)
MGA Entertainment Inc. cut Sears’ credit line and shortened its payment terms to 30 days from 60 days. LG Electronics and Samsung Electronics require Sears to pay cash up front for some goods. Levi Strauss & Co. stopped supplying women’s jeans to Sears. Clorox adjusted its payment terms. Whirlpool quit supplying Sears with appliances.
(b)
As a consequence of steps by its suppliers to restrict or eliminate shipments, many of Sears’ shelves were empty. Also, the shorter payment terms required Sears to tie up more of its working capital and cash. It, therefore, had to borrow more money, which further restricted its ability to acquire goods and to operate profitably.
(c)
Factors would no longer provide services for transactions with Sears. As a consequence, those suppliers that relied on factors were reluctant to do business with Sears, and would only do so with shortened payment terms to reduce their risk.
LO 2, 4 BT: S Difficulty: Hard TOT: 20 min. AACSB: Analytic, Communication and Technology AICPA AC: Reporting AICPA PC: Communication
CT8.7
DECISION MAKING ACROSS THE ORGANIZATION
(a) 2025 $500,000
2024 $600,000
2023 $400,000
$
2,900
$ 2,600
$ 1,600
4,400 8,000 2,500 1,000 $ 18,800
4,400 9,600 3,000 1,200 $ 20,800
4,400 6,400 2,000 800 $ 15,200
3.8%
3.5%
3.8%
Average accounts receivable (5%) ...
$ 25,000
$ 30,000
$ 20,000
Investment earnings (10%) ..............
$
2,500
$ 3,000
$ 2,000
Total credit and collection expense per above .................................. Add: Investment earnings* ............. Net credit and collection expense ....
$ 18,800 2,500 $ 21,300
$ 20,800 3,000 $ 23,800
$ 15,200 2,000 $ 17,200
Net expenses as a percentage of net sales ...............................
4.3%
4.0%
4.3%
Net credit sales................................. Credit and collection expenses Collection agency fees............. Salary of accounts receivable clerk .................................... Uncollectible accounts (@1.6%). Billing and mailing costs (@.5%) Credit investigation fees (@.2%) Total .................................... Total expenses as a percentage of net credit sales .....................
(b)
*The lost investment earnings on the cash tied up in accounts receivables is an additional expense of continuing the existing credit policies. (c) The analysis shows that the credit card fee of 4% of net credit sales will be higher than the percentage cost of credit and collection expenses in each year before considering the effect of earnings from other investment opportunities. However, after considering investment earnings, the credit card fee of 4% will be less than or equal to the company’s percentage cost.
CT8.7 (Continued) Finally, the decision hinges on (1) the accuracy of investment earnings, (2) the expected trend in credit sales, and (3) the effect the new policy will have on sales. Nonfinancial factors include the effects on customer relationships of the alternative credit policies and whether the Santos want to continue with the handling of their own accounts receivable. LO 4 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Collaboration, Leadership and Communication
CT8.8
COMMUNICATION ACTIVITY
To:
John Doe, President
From:
Mary Jane, Student
Re:
Improving debt-paying ability
The first step that should be taken to improve your company’s debt-paying ability is to accelerate collections of your accounts receivable. The current credit policy (i.e., “pay when they can”) encourages slow payment from credit customers. Most companies have a 30-day credit period with finance charges applied on late payments. You may also want to consider adopting a discount period which allows customers a reduction in the amount owed if payment is made within a specified time period. Measuring success in improving collections can be done by monitoring collections and evaluating the receivables balance. Monitoring collections is done by preparing an accounts receivable aging schedule on a monthly basis. Evaluating receivables is accomplished by computing an accounts receivable turnover and an average collection period. Another step that can be taken with receivables to ease your company’s liquidity problems is to sell the receivables to another company for cash. Selling receivables to another company (called a factor) shortens the cashto-cash operating cycle. It should be pointed out that factors normally charge a commission of 1% to 3%. Hopefully this memo addresses the questions you have on improving your company’s debt-paying ability. Please contact me if you have any questions or need additional information. LO 4 BT: S Difficulty: Hard TOT: 30 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT8.9
(a)
ETHICS CASE
The stakeholders in this situation are: The president of Mendez Corp. The controller of Mendez Corp. The stockholders of Mendez Corp.
(b)
Yes. The controller is posed with an ethical dilemma—should he/she follow the president’s “suggestion” and prepare misleading financial statements (understated net income) or should he/she attempt to stand up to and possibly anger the president by preparing a fair (realistic) income statement.
(c)
No. Mendez Corp.’s growth rate should be a product of fair and accurate financial statements, not vice versa. That is, one should not prepare financial statements with the objective of achieving or sustaining a predetermined growth rate. The growth rate should be a product of management and operating results, not of creative accounting.
LO 2 BT: E Difficulty: Hard TOT: 30 min. Communication and Ethical Conduct
AACSB: Analytic, Communication and Ethics
AICPA PC:
CT8.10
ALL ABOUT YOU
Note: Students answers may vary (a) There are a number of sources that compare features of credit cards. Here are three: www.creditcards.com/, www.creditkarma.com/ credit-cards, and www.nerdwallet.com/compare/credit-cards. (b) Here are some of the features you should consider: annual percentage rate, credit limit, annual fees, billing and due dates, minimum payment, penalties and fees, premiums received (airlines miles, hotel discounts etc.), and cash rebates. (c) Answer depends on present credit card and student’s personal situation. LO 2 BT: S Difficulty: Hard TOT: 30 min. AACSB: Analytic, Communication and Technology AICPA PC: Communication AICPA BC: Strategic Perspective
CT8.11
FASB CODIFICATION ACTIVITY
(a) Receivables represent contractual rights to receive money on fixed or determinable dates, whether or not there is any stated provision for interest. Receivables may arise from credit sales, loans, or other transactions. Receivables may be in the form of loans, notes, and other types of financial instruments and may be originated by an entity or purchased from another entity. (Codification reference 310-10-05-4). (b) The conditions under which receivables exist usually involve some degree of uncertainty about their collectability, in which case a contingency exists. Subtopic 450-20 requires recognition of a loss when both of the following conditions are met: a. Information available prior to issuance of the financial statements indicates that it is probable that an asset has been impaired at the date of the financial statements. b. The amount of the loss can be reasonably estimated. Losses from uncollectible receivables shall be accrued when both the preceding conditions are met. Those conditions may be considered in relation to individual receivables or in relation to groups of similar types of receivables. If the conditions are met, accrual shall be made even though the particular receivables that are uncollectible may not be identifiable. (Codification reference 310-10-35-7, 35-8-35-9). LO 1, 2 BT: S Difficulty: Hard TOT: 40 min. AACSB: Analytic, Communication and Technology AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CHAPTER 9 Reporting and Analyzing Long-Lived Assets Learning Objectives 1. Explain the accounting for plant asset expenditures. 2. Apply depreciation methods to plant assets. 3. Explain how to account for the disposal of plant assets. 4. Identify the basic issues related to reporting intangible assets. 5. Discuss how long-lived assets are reported and analyzed. *6. Compute periodic depreciation using the declining-balance method and the units- of-activity method.
ANSWERS TO QUESTIONS 1.
For plant assets, the historical cost principle states that plant assets are recorded at cost, which consists of all expenditures necessary to acquire the asset and make it ready for its intended use.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
2.
In a cash transaction, cost is equal to the cash paid. In a noncash transaction, cost is equal to the cash equivalent price paid, which is the fair value of the asset given up or the fair value of the asset received, whichever is more clearly determinable.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
3.
When only the land is to be used, all demolition and removal costs of the building less any proceeds from salvaged materials are necessary expenditures to make the land ready for its intended use. Any costs for clearing, draining, filling, and grading are also part of the cost of the land. Any back taxes are also included in the cost of the land. When both the land and building are to be used, necessary costs of the building include remodeling expenditures and the cost of replacing or repairing the roofs, floors, wiring, and plumbing.
LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
4.
Ordinary repairs are made to maintain the operating efficiency and expected productive life of the asset. Capital expenditures are additions and improvements made to increase efficiency, productive capacity, or expected useful life of the asset. Ordinary repairs are recognized as expenses when incurred; capital expenditures are generally debited to the plant asset affected.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
5.
The potential benefits of leasing are (1) reduced risk of obsolescence (an obvious concern to Nolan), (2) little or no required down payment, and (3) shared tax advantages.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
6.
You should explain to the president that depreciation is a process of allocating the cost of a plant asset to expense over its service (useful) life in a rational and systematic manner. Recognition of depreciation is not intended to result in the accumulation of cash for replacement of the asset.
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
7.
(a) Salvage value is the expected cash value of the asset at the end of its useful life. (b) Salvage value is used in determining depreciable cost in the straight-line method by subtracting it from the plant asset’s cost.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 9 (Continued) 8.
(a) Useful life is expressed in years under the straight-line method and in units of activity under the units-of-activity method. (b) The pattern of periodic depreciation expense over an asset’s useful life is constant under the straight-line method and variable under the units-of-activity method.
LO 2 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
9.
The effects of the three depreciation methods on annual depreciation expense are: Straight-line— constant amount; units-of-activity—varying amounts; declining-balance—decreasing amounts.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
10.
A revision of depreciation is made in current and future years but not retroactively. The rationale is that continual restatement of prior periods would adversely affect the reader’s confidence in the financial statements.
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
11.
In a sale of plant assets, the book value of the asset is compared to the proceeds received from the sale. If the proceeds of the sale exceed the book value of the plant asset, a gain on disposal occurs. If the proceeds of the sale are less than the book value of the plant asset sold, a loss on disposal occurs.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC; Reporting
12.
The plant asset and related accumulated depreciation should continue to be reported on the balance sheet without further depreciation or adjustment until the asset is retired. Reporting the asset and related accumulated depreciation on the balance sheet informs the reader of the financial statements that the asset is still being used by the company. However, once an asset is fully depreciated, even if it is still being used, no additional depreciation should be taken on this asset. In no situation can the depreciation on the plant asset exceed the cost of the plant asset.
LO 3, 5 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
13.
Apple depreciates its buildings over the lesser of 40 years or the remaining life of the underlying building, and its machinery and equipment between 1 to 5 years.
LO 5 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic & Technology AICPA AC: Reporting, Technology and Tools
14.
Depreciation and amortization are both concerned with allocatig the cost of an asset to expense over the periods benefited. Depreciation refers to allocating the cost of a plant asset to expense and amortization to allocating the cost of an intangible asset to expense.
LO 2, 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 9 (Continued) 15.
It is true that successful marketing campaigns often benefit multiple accounting periods in the future, enhancing the company’s value, and potentially creating goodwill. However, from an accounting perspective Bruce’s proposal is unacceptable. First of all, accounting standards only allow the recording of “purchased goodwill” that results from the purchase of another business. Internally created goodwill is not allowed to be recorded. Second, marketing expenditures are to be treated as expenses of the period in which they are incurred. They cannot be capitalized. It is unethical to capitalize costs simply to boost reported income by spreading the cost over multiple periods.
LO 4 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
16.
The intern is not correct. If an intangible asset has a limited life, the cost of the asset should be amortized over that asset’s useful life (the period of time when operations are benefited by use of the asset) or its legal life, whichever is shorter. The cost of intangible assets with indefinite lives should not be amortized.
LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
17.
The favorable attributes which could result in goodwill include exceptional management, desirable location, good customer relations, skilled employees, high-quality products, fair pricing policies, and harmonious relations with labor unions.
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
18.
Goodwill is the value of many favorable attributes that are intertwined in the business enterprise. Goodwill can be identified only with the business as a whole and, unlike other assets, cannot be sold separately. Goodwill can only be sold if the entire business is sold.
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
19.
Goodwill is recorded only when there is an exchange transaction that involves the purchase of an entire business. Goodwill is the excess of cost over the fair value of the net assets (assets less liabilities) acquired. The recognition of goodwill without an exchange transaction would lead to subjective valuations which would reduce the reliability of financial statements. Goodwill is not amortized because it has an indefinite life. It remains at its original value as an intangible asset unless it is considered to be impaired. If it is impaired, it is written down.
LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
20.
Research and development costs present several accounting problems. It is sometimes difficult to assign the costs to specific projects, and there are uncertainties in identifying the extent and timing of future benefits. As a result, research and development costs are usually recorded as an expense when incurred.
LO 4 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 9 (Continued) 21.
Campbell Soup Company’s return on assets is computed as follows: $736 = 11.7% Net Income = Average Total Assets $6,265
LO 5 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
22.
The return on assets is closely monitored by management. It is the product of the profit margin and the asset turnover. At first glance, if this new product line has a lower profit margin, then it will reduce the company’s asset turnover. However, it is likely that it will have a higher turnover than the company’s more expensive offerings. As a consequence, it is not possible to know what effect the new product line will have on the company’s return on assets without knowing the expected effect on the company’s asset turnover.
LO 5 BT: AN Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
23.
(a) Grocery stores usually have a high asset turnover and a low profit margin. (b) Car dealerships normally have a low asset turnover and a high profit margin.
LO 5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
24.
Since Peyton uses the straight-line depreciation method, its depreciation expense will be lower in the early years of an asset’s useful life as compared to using an accelerated method. Rogers’ depreciation expense in the early years of an asset’s useful life will be higher as compared to the straight-line method. Peyton’s net income will be higher than Rogers’ in the first few years of the asset’s useful life.
LO 2 BT: AN Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
25.
Yes, the tax regulations of the IRS allow a company to use a different depreciation method on the tax return than is used in preparing financial statements. Mesa Corporation uses an accelerated depreciation method for tax purposes to minimize its income taxes in the early years of the assets’ lives.
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Kowledge AICPA AC: Reporting
26.
By selecting a higher estimated useful life, Gore Corp. is spreading the plant assets’ cost over a longer period of time. The depreciation expense reported in each period is lower and net income is higher. Ross’s choice of a shorter estimated useful life will result in higher depreciation expense reported in each period and lower net income.
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
27.
In the operating activities section of the statement of cash flows, depreciation expense (from plant assets) and amortization expense (from intangible assets) are added back to net income in the determination of net cash provided by operating activities. In the investing section, cash paid to purchase plant assets or intangible assets is shown as a use of cash. If the company sells any of its used plant assets, or if it sells intangibles, it would report the amount of cash received as a source of cash from investing activities.
LO 5 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 9.1 All of the expenditures should be included in the cost of the land. Therefore, the cost of the land is $73,900 ($60,000 + $5,000 + $2,100 + $3,300 + $3,500). LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.2 The cost of the truck is $26,780 (cash price $24,000 + sales taxes $1,080 + painting and lettering $1,700). The expenditures for insurance and motor vehicle license should not be added to the cost of the truck. LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.3 (a) Maintenance and Repairs Expense ........................ Cash ....................................................................
38
(b) Equipment ................................................................ Cash ....................................................................
400
38
400
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.4 The depreciable cost is $27,000 ($31,000 – $4,000). With a 4-year useful life, annual depreciation is $6,750 ($27,000 ÷ 4). Under the straight-line method, depreciation is the same each year. Thus, depreciation is $6,750 for both the first and second years. LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.5 It is likely that management requested this accounting treatment to boost reported net income. Land is not depreciated; thus, by reporting land at $130,000 above its actual value the company increased yearly income by $130,000 $6,500 or the reduction in depreciation expense. This practice is 20 years not ethical because management is knowingly misstating asset values. LO 2 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.6 Book value, 1/1/25 ($36,000 – $13,600) ........................................... Less: Salvage value ........................................................................ Depreciable cost .............................................................................. Remaining useful life ....................................................................... Revised annual depreciation ($20,400 ÷ 2) .....................................
$22,400 2,000 $20,400 2 years $10,200
LO 2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.7 (a) Accumulated Depreciation—Equipment................ Equipment...........................................................
41,000
(b) Accumulated Depreciation—Equipment................ Loss on Disposal of Plant Assets .......................... Equipment ..........................................................
37,200 3,800
Cost of delivery equipment Less accumulated depreciation Book value at date of disposal Proceeds from sale Loss on disposal
41,000
$41,000 37,200 3,800 0 $ 3,800
LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
41,000
BRIEF EXERCISE 9.8 (a) 7/31/25 Depreciation Expense .............................. Accumulated Depreciation— Equipment ........................................
4,600
(b) 7/31/25
46,600 21,000 4,400
Accumulated Depreciation—Equipment.... Cash........................................................... Loss on Disposal of Plant Assets............ Equipment .......................................... Cost of office equipment Less accumulated depreciation Book value at date of disposal Proceeds from sale Loss on disposal
4,600
72,000
$72,000 46,600* 25,400 21,000 $ 4,400
*$42,000 + $4,600 LO 3 BT: AP Difficulty: Medium TOT: 7 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.9 (a) Amortization Expense ($156,000 ÷ 6) ..................... Patents ..............................................................
26,000
(b) Intangible Assets Patents (Net of $26,000 of amortization).........
26,000
$130,000
LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.10 (a)
Return on assets =
$4.55
= 15.5%
($28.46 + $30.22)÷2
(b)
Asset turnover =
$22.74
= .78 times
($28.46 + $30.22) ÷ 2
LO 5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
BRIEF EXERCISE 9.11 NIKE, INC. Partial Balance Sheet As of May 31, 2025 (in millions) Property, plant, and equipment Land........................................................ Buildings ................................................ Machinery and equipment..................... Other plant assets ................................. Less: Accumulated depreciation......... Total property, plant, and equip. .. Intangible assets Goodwill ................................................. Patents and trademarks ........................ $515.1 Less: Accumulated amortization ......... 47.7 Total intangible assets...................
$ 221.6 $ 974.0 2,094.3 965.8 2,298.0
1,736.1 1,957.7
193.5 467.4 660.9*
*Alternatively, many companies would simply show a single line for net intangibles. LO 5 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 9.12 In the determination of net cash provided by operating activities, add depreciation expense and amortization expense to net income: Net cash provided by = $157,000 + $12,000 + $8,000 = $177,000 operating activities LO 5 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 9.13 The declining-balance rate is 50% (1/4 x 2) and this rate is applied to the book value at the beginning of the year. The computations are: Book Value Year 1 Year 2
$31,000 ($31,000 – $15,500)
×
Rate
=
Depreciation
50% 50%
$15,500 $ 7,750
LO 6 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 9.14 The depreciation cost per unit is 18 cents per mile computed as follows: Depreciable cost ($27,500 – $500) ÷ 150,000 = $.18 Depreciation expense for each year is as follows: 2024 32,000 miles × $.18 = $5,760 2025 33,000 miles × $.18 = $5,940 LO 6 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 9.1 The following four items are expenditures necessary to acquire the truck and get it ready for use: Negotiated purchase price ........................................ Installation of special shelving.................................. Painting and lettering................................................. Sales tax ..................................................................... Total paid.........................................................
$24,000 1,100 900 1,440 $27,440
Thus, the cost of the truck is $27,440. The cost of the motor vehicle license is an operating cost and is expensed. The annual insurance policy would be recorded as prepaid insurance and then expensed over the 2 years. LO 1 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 9.2a Depreciation expense =
Cost – Salvage Useful life
=
$15,000 – $1,000
= $1,400
10 years
The entry to record the first year’s depreciation would be: Depreciation Expense .......................................................... Accumulated Depreciation—Equipment....................
1,400 1,400
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 9.2b Original depreciation expense = ($50,000 – $2,000) ÷ 8 years = $6,000 Accumulated depreciation after three years = 3 × $6,000 = $18,000 Book value, $50,000 – $18,000 ............................................ Less: Salvage value (New).................................................. Depreciable cost .................................................................. Remaining useful life (10 – 3) .............................................. Revised annual depreciation ($28,000 ÷ 7) ......................... LO 2 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
$32,000 4,000 $28,000 7 years $ 4,000
DO IT! 9.3 (a)
Sale of machine for cash at a gain: Accumulated Depreciation—Equipment ........................ 28,000 Cash .................................................................................. 25,000 Equipment ............................................................. Gain on Disposal of Plant Assets ........................
50,000 3,000*
*[$25,000 – ($50,000 - $28,000)]
(b)
Sale of machine for cash at a loss: Accumulated Depreciation—Equipment ........................ 28,000 Cash .................................................................................. 15,000 Loss on Disposal of Plant Assets............................... 7,000* Equipment.............................................................. 50,000 *[$15,000 – ($50,000 - $28,000)]
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 9.4 1. 2. 3. 4. 5.
Intangible assets Amortization Franchise Research and development costs Goodwill
LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA FC: Measurement Analysis and Interpretation
DO IT! 9.5 Asset turnover = $400,000/[($300,000 + $340,000)/2] = 1.25 times LO 5 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis ad Interpretation, Reporting
SOLUTIONS TO EXERCISES EXERCISE 9.1 (a)
The following points explain the application of the historical cost principle to plant assets. 1.
2.
3.
(b)
Under the historical cost principle, the acquisition cost for a plant asset includes all expenditures necessary to acquire the asset and make it ready for its intended use. Cost is measured by the cash paid in a cash transaction, or by the cash equivalent price paid when noncash assets are used in payment. The cash equivalent price is equal to the fair value of the asset given up or the fair value of the asset received, whichever is more clearly determinable.
1. Land 2. Equipment 3. Equipment 4. Land Improvements
5. 6. 7. 8.
Equipment Equipment Prepaid Insurance License Expense
LO 1 BT: C Difficulty: Medium TOT: 10 min AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 9.2 1. 2. 3. 4. 5. 6. 7. 8. 9.
Equipment Equipment Equipment Land Prepaid Insurance Land Improvements Land Improvements Land Building
LO 1 BT: C Difficulty: Medium TOT: 4 min AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 9.3 (a)
(b)
Cost of land Cash paid .................................................................. Net cost of removing warehouse ($8,200 – $1,700) ... Attorney’s fee ........................................................... Real estate broker’s fee ........................................... Total....................................................................
$80,000 6,500 1,900 5,200 $93,600
The architect’s fee ($9,100) should be debited to the building account. The cost of the driveways and parking lot ($14,000) should be debited to Land Improvements.
LO 1 BT: AP Difficulty: Medium TOT: 5 min AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 9.4 a.
Cost of equipment = $75,000 + $500 delivery + $200 insurance in transit + $2,800 testing and installation = $78,500 The one-year insurance payment is for an annual expense and unlike the insurance for the equipment in transit, was not incurred to get the asset ready for use. Training costs are also expensed as they were incurred to get staff ready to use the machinery. These costs were not incurred on the machinery itself.
b.
The company should use the straight-line method since the economic benefits are expected to be consumed evenly over the equipment’s useful life.
c.
Depreciation expense in 2025 would be $5,888 ($78,500 ÷ 10 × 9/12).
LO 1,2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.5 a.
Cost Less: Salvage value Depreciable cost
Machine 1 $800,000 40,000 $760,000
Useful life in years
20
Cost Less: Salvage value Depreciable cost
Annual depreciation $760,000 ÷ 20 = $38,000 b.
5 $115,000 ÷ 5 = $23,000
Accumulated depreciation, December 31, 2024 Machine 1 ($38,000 × 11 years) $418,000 Machine 2 ($23,000 × 1.5 years) 34,,500 Book value, December 31, 2024 Machine 1 ($800,000 – $418,000) Machine 2 ($120,000 – $34,500)
c.
Machine 2 $120,000 5,000 $115,000
$382,000 85,500
The change in salvage value in 2025 is a change in estimate. This change is implemented in 2025 on a prospective basis. The increase in salvage value would be applied in 2025 to adjust the calculation of depreciation expense for 2025. Accumulated depreciation at December 31, 2024 is not adjusted.
LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.6 1. 2. 3. 4. 5. 6. 7.
False. Depreciation is a process of cost allocation, not asset valuation. True. False. The book value of a plant asset may be quite different from its market value. False. Depreciation applies to three classes of plant assets: land improvements, building, and equipment. False. Depreciation does not apply to land because its usefulness and revenue-producing ability generally remain intact over time. True. False. Recognizing depreciation on an asset does not result in an accumulation of cash for replacement of the asset.
EXERCISE 9.6 (Continued) 8. 9. 10.
True. False. Depreciation expense is reported on the income statement, and accumulated depreciation is reported as a deduction from plant assets on the balance sheet. True.
LO 2 BT: C Difficulty: Medium TOT: 10 min AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 9.7 Straight-line method:
$90,000 – $8,000 = $8,200 per year. 10
2025 depreciation = $8,200 × 3/12 = $2,050 2026 depreciation = $8,200 LO 2 BT: AP Difficulty: Medium TOT: 5 min AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.8 (a) 2025: (($34,000 − $2,000)/8) × ½ = $2,000 2026: ($34,000 − $2,000)/8 = $4,000 [2025: ((Cost − SV) ÷ Est. useful life) × ½ yr.= 6 mos. depr. exp.] 2025: (($34,000 − $2,000) ÷ 8) × ½ = $2,000 [2026: (Cost − SV) ÷ Est. useful life = Ann. depr. exp.] [2026: ($34,000 − $2,000) ÷ 8 = $4,000]
(b) Depreciation Expense.............................................. Accumulated Depreciation—Equipment.........
2,000
(c) Depreciation Expense.............................................. Accumulated Depreciation—Equipment.........
4,000
(d) Equipment ................................................................ Less: Accumulated Depreciation—Equipment .....
2,000 4,000 $34,000 6,000 $28,000
LO 2 BT: AP Difficulty: Easy TOT: 5 min AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 9.9 (a)
Type of Asset Cost........................................................ Less: Accumulated depreciation ......... Book value, 1/1/25 ................................. Less: Salvage value ............................. Depreciable cost (1) ..............................
Building $700,000 130,000 570,000 35,000 $535,000
Warehouse $120,000 23,000 97,000 3,600 $ 93,400
50*
15**
Revised remaining useful life in years (2) *(58 – 8)
**(20 – 5)
Revised annual depreciation (1) ÷ (2) (b)
Dec. 31
$10,700
Depreciation Expense ............................ Accumulated Depreciation— Buildings .......................................
$6,227 10,700 10,700
LO 2 BT: AN Difficulty: Hard TOT: 15 min AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.10 (a) 2022 Dec. 31
(b) 2023 Dec. 31
Depreciation Expense ..................................... Accumulated Depreciation—Equipment [(($80,000 – $10,000) ÷ 7) × 1/2].............
5,000 5,000
Depreciation Expense ........................................ 10,000 Accumulated Depreciation—Equipment [(($80,000 – $10,000) ÷ 7]....................... 10,000
(c) Cost..................................................................................... $80,000 Less: Accumulated Depreciation ($10,000 x 2 ½ years) ........ 25,000 Book value 1/1/25 ................................................................. 55,000 Less: Revised salvage value ............................................... 5,000 Depreciable cost .................................................................. 50,000 Remaining useful life........................................................ ÷ 10 Revised annual depreciation ............................................... $5,000
EXERCISE 9.10 (Continued) (d) 2025 Dec. 31
Depreciation Expense .......................................... 5,000 Accumulated Depreciation—Equipment......
5,000
(e) 2022 depreciation.............................................................. $ 5,000 2023 depreciation.............................................................. 10,000 2024 depreciation.............................................................. 10,000 2025 depreciation............................................................ 5,000 Accumulated depreciation – equipment 12/31/25........... $30,000 LO 2 BT: AP Difficulty: Moderate TOT: 12 min AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.11 a.
The amount paid for the equipment is $1,100.
Jan.
1
b.
Depreciation Expense .................................... Accumulated Depreciation—Equipment
100 100
The amount of the gain on disposal is $50 [$450 – ($440 - $40)] and is derived from the disposal entry that follows.
Dec. 31
d.
1,100
The amount of depreciation expense is $100.
Dec. 31
c.
Equipment ...........................................................1,100 Cash..........................................................
Cash ................................................................ Accumulated Depreciation—Equipment....... Gain on Disposal ..................................... Equipment ................................................
450 40 50 440
The amount of the impairment loss on the remaining equipment is $55 based on the Dec. 31 credit entry to Accumulated Depreciation Equipment.
Dec. 31
Impairment Loss............................................. Accumulated Depreciation—Equipment
55
LO 2, 3 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
55
EXERCISE 9.12 (a) Loss on Disposal of Plant Assets [$0 – ($50,000 - $24,000)] ................................. Accumulated Depreciation—Equipment.................. Equipment ........................................................
26,000 24,000 50,000
(b) Cash.......................................................................... Accumulated Depreciation—Equipment................ Equipment ........................................................ Gain on Disposal of Plant Assets [$37,000 – ($50,000 - $24,000)].........................
37,000 24,000
(c) Accumulated Depreciation—Equipment................ Cash.......................................................................... Loss on Disposal of Plant Assets [$20,000 – ($50,000 - $24,000)]......................... Equipment ........................................................
24,000 20,000
50,000 11,000
6,000 50,000
LO 3 BT: AP Difficulty: Medium TOT: 8 min AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.13 Jan.
1 Accumulated Depreciation—Equipment ........... Equipment ......................................................
62,000
June 30 Depreciation Expense ......................................... Accum. Depreciation—Equipment ($36,000 × 1/3 × 6/12) ..................................
6,000
Accumulated Depreciation—Equipment ($36,000 × 2/3 = $24,000; $24,000 + $6,000) ...... Cash ..................................................................... Loss on Disposal of Plant Assets [$5,000 – ($36,000 – $30,000)] .......................... Equipment ......................................................
62,000
6,000 30,000 5,000 1,000 36,000
EXERCISE 9.13 (Continued) Dec. 31 Depreciation Expense ........................................ Accumulated Depreciation—Equipment [($25,000 – $4,000) × 1/5] ...........................
4,200 4,200
31 Accumulated Depreciation—Equipment [($25,000 – $4,000) × 4/5] ................................. Cash..................................................................... Equipment ..................................................... Gain on Disposal of Plant Assets [$9,000 – ($25,000 - $16,800)] ...............
16,800 9,000 25,000 800
LO 3 BT: AP Difficulty: Hard TOT: 15 min AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.14 (a) Cash .......................................................................... Accumulated Depreciation—Equipment [($65,000 – $5,000) × 3/5].................................. Equipment......................................................... Gain on Disposal of Plant Assets.................... (b)
Depreciation Expense.............................................. [($65,000 – $5,000) × 1/5 × 4/12] .............................. Accumulated Depreciation—Equipment..........
31,000 36,000 65,000 2,000 4,000 4,000
Cash .......................................................................... Accumulated Depreciation—Equipment ($36,000 + $4,000)..................................................... Equipment......................................................... Gain on Disposal of Plant Assets [$31,000 – ($65,000 - $40,000)].........................
31,000
(c) Cash .......................................................................... Accumulated Depreciation—Equipment ................. Loss on Disposal of Plant Assets [$11,000 – ($65,000 - $36,000)] ................................ Equipment ...........................................................
11,000 36,000
40,000 65,000 6,000
18,000 65,000
EXERCISE 9.14 (Continued) (d) Depreciation Expense [($65,000 – $5,000) ÷ (5 × 9/12)]............................... Accumulated Depreciation—Equipment ......... Cash.......................................................................... Accumulated Depreciation—Equipment ($36,000 + $9,000)............................................. Loss on Disposal of Plant Assets [$11,000 – ($65,000 - $45,000)] ................................ Equipment ........................................................
9,000 9,000 11,000 45,000 9,000 65,000
LO 3 BT: AP Difficulty: Moderate TOT: 12 min AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.15 (a) The amount paid for the equipment is $2,200 Jan.1
Equipment............................................................ Cash................................................................
2,200 2,,200
(b) The amount of depreciation expense is $200 Dec. 31
Depreciation Expense ......................................... Accumulated Depreciation—Equipment......
200 200
(c) The amount of the loss on disposal is $70 and is derived from the disposal entry that follows. Dec. 31
Cash ..................................................................... Accumulated Depreciation—Equipment ........... Loss on Disposal of Plant Assets [$500 – ($630 – $60)] ...................................... Equipment ......................................................
500 60
LO 1, 2, 3 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
70 630
EXERCISE 9.16 1.
Depreciation is the process of allocating the cost of a long-lived asset to expense over the asset’s useful life. Because the value of land generally does not decline with time and usage, its usefulness and revenue producing ability does not decline. In addition, the useful life of land is indefinite. Therefore, it would be incorrect for the student to depreciate the land.
2.
Goodwill is an intangible asset with an indefinite life. According to generally accepted accounting principles, goodwill is not amortized but reviewed annually for impairment. If a permanent decline in value has occurred the goodwill is written down and an impairment loss is recorded on the income statement. Therefore the amortization entry should be reversed and no decline in value recorded until an impairment in value occurs.
3.
This is a violation of the historical cost principle. Because current market values are subjective and not reliable, they are not used to increase the recorded value of an asset after acquisition. The appropriate accounting treatment is to leave the building on the books at its zero book value.
LO 1, 2, 3, 4 BT: C Difficulty: Medium TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 9.17 Dec. 31
Amortization Expense ..................................... Copyright ($120,000 × 1/6)........................
20,000
31 Amortization Expense ..................................... Patents ($54,000 × 1/4 × 10/12).................
11,250
20,000 11,250
The goodwill would not require an adjusting entry because it has an indefinite life. LO 4 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.18 (a)
1/2/25
Patents ...................................................... Cash.............................................
280,000
Franchise .................................................. Cash.............................................
540,000
Research and Development Expense ..... Cash.............................................
185,000
Amortization Expense............................................ Patents ($280,000 ÷ 5) ..................................... Franchise [($540,000 ÷ 9) × 6/12] ....................
86,000
7/1/25 9/1/25 (b)
(c)
280,000 540,000 185,000
56,000 30,000
Ending balances, 12/31/25: Patents = $224,000 ($280,000 – $56,000) Franchise = $510,000 ($540,000 – $30,000) Goodwill = $360,000
LO 4 BT: AN Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 9.19 Alliance Atlantis Communications Inc.’s change of accounting policy to amortize broadcast rights will probably increase its reported income. Prior to the change, Alliance Atlantis had amortized broadcast rights over a maximum of two years. Their new policy calls for amortization over the contracted exhibition period. If this is greater than two years, annual amortization expense will decrease and income will increase. A change of this nature will make a comparison of financial results with previous years’ difficult. To evaluate the company’s performance one will need to make an adjustment for such changes in estimated lives. LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE 9.20 (a)
A company should depreciate its buildings because depreciation is necessary in order to allocate the cost of the buildings to the periods in which they are in use. This allows the cost of the buildings to be properly allocated and recorded with the associated revenues generated each year in accordance with the expense recognition principle.
(b)
A building can have a zero book value if it has no salvage value and it is fully depreciated—that is, if it has been used for a period at least as long as its expected life. Because depreciation is used to allocate cost rather than to reflect actual value, it is not at all unlikely that a building could have a low or zero book value, but a substantial fair value.
(c)
Examples of intangibles that might be found on a college campus are a franchise of a bookstore chain, the license to operate a radio station, a patent developed by professors, and a permit to operate a bus service.
(d)
Typical company or product trade names are: Clothes—Gap, Gitano, Dockers, Calvin Klein, Chaus, Guess. Perfume— Passion, Ruffles, Chanel No. 5, Diamonds. Cars—Accord, Charger, Mustang, Corvette. Shoes—Nike, Florsheim, L.A. Gear, adidas. Breakfast cereals—Cheerios, Wheaties, Frosted Mini-Wheats, Rice Krispies. Trade names and trademarks are reported on a balance sheet if there is a cost attached to them. If the trade name or trademark is purchased, the cost is the purchase price. If it is developed by the enterprise, the cost includes attorney’s fees, registration fees, design costs, successful legal defense costs, and other expenditures directly related to securing the trade name or trademark.
LO 2, 4 BT: C Difficulty: Medium TOT: 15 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 9.21 (a)
Asset turnover =
(b)
Return on assets =
$35,497
= 1.42 times
($25,633 + $24,244) ÷ 2 $98
= .4%
($25,633 + $24,244) ÷ 2
LO 5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 9.22 (a) Return on assets Profit margin
Asset turnover
Without new products $500,000 = 10% $5,000,000 $500,000 = 5% $10,000,000 $10,000,000 = 2.0 $5,000,000
With new products $960,000 = 8% $12,000,000 $960,000 = 6% $16,000,000 $16,000,000 = 1.3 $12,000,000
(b) The return on assets declined from 10% to 8%. This means that the company is not generating as much income from each dollar invested in assets. It is common for companies to try to maximize their return on assets. Thus top management might not find this proposal very desirable. The new product line would increase the company’s profit margin (the amount of net income generated from each dollar of sales) from 5% to 6%. However, because of the huge investment in new assets that the proposal requires, the asset turnover plummets from 2.0 times down to 1.3 times. LO 5 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 9.23 (a) ($ in millions) 1. Return on assets 2. Asset turnover 3. Profit margin
$264.8 = 6.2% $4,312.6 + $4,254.3 ÷ 2 $11,408.5 = 2.7 times $4,312.6 + $4,254.3 ÷ 2 $264.8 = 2.3% $11,408.5
(b) Profit Margin × Asset Turnover = Return on Assets = 2.3% × 2.7 times = 6.2% (c) Asset turnover and profit margin vary considerably across industries. Therefore, when you have a diverse group of businesses from several industry types combined into one company, such as in Linley Company, the ability to compare these ratios to other businesses becomes very difficult. Linley Company would almost need to calculate ratios for each of the separate industry segments to allow for a meaningful analysis. LO 5 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 9.24 Net Income
10-year life $58,000
15-year life $102,000*
*$58,000 + ($132,000 – $88,000) Calculation of net cash provided by operating activities: 10-year Net income $ 58,000 Plus: depreciation expense 132,000 Net cash provided by operating activities $190,000
15-year $102,000 88,000 $190,000
EXERCISE 9.24 (Continued) The CEO is correct regarding the impact on net income. By increasing the expected useful life, depreciation expense would be lowered and net income would increase. However, this move would be appropriate only if, in fact, a 15-year life was a better estimate of the expected period of use. The CEO is incorrect in stating that cash provided by operating activities would be increased. Depreciation expense does not use up cash. Therefore, net cash provided by operating activities would be the same no matter what expected life was used. LO 5 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 9.25 8 _ (a) Any depreciation method that produces higher depreciation __ expense in the early years than the straight-line approach. 11 _ (b) The process of allocating to expense the cost of an intangible ____ asset. 1__ (c) Expenditures that increase the company's investment in plant assets. 10 _ (d) A depreciation method that applies a constant rate to the ____ declining book value of the asset and produces a decreasing annual depreciation expense over the asset's useful life. 7 (e) A permanent decline in the fair value of an asset. ___ 9 (f) Rights, privileges, and competitive advantages that result from ___ the ownership of long-lived assets that do not possess physical substance. 12 _ (g) A party that has made contractual arrangements to use another ____ party's asset for a period at an agreed price. 4 _ (h) A party that has agreed contractually to let another party use its __ asset for a period at an agreed price. 14 ___ (i) Expenditures to maintain the operating efficiency and expected productive life of the asset. 3 _ (j) Resources that have physical substance, are used in the operations __ of a business, and are not intended for sale to customers. 15 ____ _ (k) A depreciation method in which useful life is expressed in terms of the total units of production or use expected from the asset. 6 ___ (l) An exclusive right granted by the federal government allowing the owner to reproduce and sell an artistic or published work. 13 ____ _ (m) A word, phrase, jingle, or symbol that distinguishes or identifies a particular enterprise or product.
EXERCISE 9-25 (Continued) 5 _ (n) An exclusive right issued by the U.S. Patent Office that enables __ the recipient to manufacture, sell, or otherwise control an invention for a period of 20 years from the date of the grant. 2 _ (o) The value of all favorable attributes that relate to a company that __ are not attributable to any other specific asset. LO 1,2,3,4, BT: K Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
*EXERCISE 9.26 (a)
Depreciation cost per unit is $.575 per mile [($100,000 – $8,000) ÷ 160,000].
(b)
Computation
Years
Units of Activity
2025 2026 2027 2028
40,000 52,000 41,000 27,000
End of Year
Annual Depreciation Depreciation Accumulated × Cost/Unit = Expense Depreciation $.575 .575 .575 .575
$23,000 29,900 23,575 15,525
$23,000 52,900 76,475 92,000
LO 6 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
Book Value $77,000 47,100 23,525 8,000
*EXERCISE 9.27 (a)
Declining-balance method: 2025 depreciation = $90,000 × 20%* × 3/12 = $4,500 Book value January 1, 2023 = $90,000 – $4,500 = $85,500 2026 depreciation = $85,500 × 20% = $17,100. *(1/10) × 2 = 20%
(b)
Units-of-activity method: $90,000 – $8,000 70,000 = $1.17 per hour
2025 depreciation = 480 hours × $1.17 = $562 (rounded) LO 6 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO PROBLEMS PROBLEM 9.1
Item 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Land
Building
Other Accounts
$ 23,000 33,000 640,000 $280,000 $29,000
Land Improvements
6,800
Land Improvements
6,400
Property Tax Expense
3,170 31,000 (12,000) $302,170
$696,000
LO 1 BT: C Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM 9.2 (a) April May
1
Land ...................................................... 2,200,000 Cash ............................................... 2,200,000
1 Depreciation Expense .......................... Accumulated Depreciation— Equipment ($600,000 × 1/10 × 4/12) .............. 1 Accumulated Depreciation— Equipment.......................................... Cash ...................................................... Equipment...................................... Gain on Disposal of Plant Assets .........................................
20,000 20,000 440,000 170,000 600,000 10,000
Cost ............................................ $600,000 Accum. depr.—Equipment ........ (440,000) [(($600,000 × 1/10) × 7) + $20,000)] Book value ................................... 160,000 Cash proceeds ........................... 170,000 Gain on disposal ..................... $ 10,000 June
1
Cash ...................................................... 1,600,000 Land................................................ 1,000,000 Gain on Disposal of Plant Assets ......................................... 600,000
July
1
Equipment............................................. 1,100,000 Cash ............................................... 1,100,000
Dec. 31
31
Depreciation Expense .......................... Accumulated Depreciation— Equipment ($700,000 × 1/10)...... Accumulated Depreciation— Equipment.......................................... Equipment......................................
70,000 70,000 700,000 700,000
PROBLEM 9.2 (Continued) Cost ........................................ Accum. depr.—Equipment ($700,000 × 1/10 × 10)......... Book value .............................
(b) Dec. 31
31
$700,000 (700,000) $ 0
Depreciation Expense ............................ Accumulated Depreciation— Buildings ($26,500,000 × 1/40) .....
662,500 662,500
Depreciation Expense .............................. 3,925,000 Accumulated Depreciation— Equipment ..................................... 3,925,000 $38,700,000* × 1/10 ...................$3,870,000 $ 1,100,000 × 1/10 × 6/12 .......... 55,000 $3,925,000 *($40,000,000 – $600,000 – $700,000)
(c)
ARNOLD CORPORATION Partial Balance Sheet December 31, 2026 Plant Assets* Land ........................................................ Buildings ................................................ Less: Accumulated depreciation— buildings ..................................... Equipment .............................................. Less: Accumulated depreciation— equipment ................................... Total plant assets ............................. *See T-accounts which follow.
$ 4,200,000 $26,500,000 12,587,500 39,800,000
13,912,500
7,875,000
31,925,000 $50,037,500
PROBLEM 9.2 (Continued) Land 12/31/25 04/01/26
3,000,000 2,200,000
12/31/26
Bal. 4,200,000
6/1/26
1,000,000
Buildings 12/31/25
26,500,000
12/31/26
Bal. 26,500,000
Equipment 12/31/25 07/01/26
40,000,000 1,100,000
12/31/26
Bal. 39,800,000
05/01/26 12/31/26
600,000 700,000
Accumulated Depreciation—Buildings 12/31/25 12/31/26
11,925,000 662,500
12/31/26
Bal. 12,587,500
Accumulated Depreciation—Equipment 05/01/26 12/31/26
440,000 700,000
12/31/25 5/1/26 12/31/26 12/31/26
5,000,000 20,000 70,000 3,925,000
12/31/26
Bal. 7,875,000
LO 2, 3, 5 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 9.3 Jan.
1
June 30
June 30
Dec. 31
31
Accumulated Depreciation—Equipment....... Equipment ................................................
71,000
Depreciation Expense .................................... Accum. Depreciation—Equipment ($30,000 × 1/5 × 6/12) ............................
3,000
Cash ................................................................ Accumulated Depreciation—Equipment....... Equipment ................................................ Gain on Disposal of Plant Assets...........
12,000 21,000
Cost ................................................................. Accumulated Depreciation—Equipment [(($30,000 × 1/5) × 3) + $3,000] .................... Book Value...................................................... Cash Proceeds ............................................... Gain on Disposal ............................................
$30,000
Depreciation Expense .................................... Accumulated Depreciation—Equipment [($33,400 – $3,000) × 1/8] ......................
3,800
Loss on Disposal of Plant Assets ................. Accumulated Depreciation—Equipment....... Equipment ................................................
10,600 22,800
71,000
3,000
30,000 3,000
(21,000) 9,000 12,000 $ 3,000
3,800
Cost ..................................................................... $33,400 Accumulated Depreciation—Equipment [($33,400 – $3,000) × 1/8 × 6] ........................... (22,800) Book Value...................................................... 10,600 Proceeds ............................................................ 0 Loss on Disposal ................................................ $10,600 LO 3 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
33,400
PROBLEM 9.4 (a)
April
May
1
1
Land............................................................... Cash ...................................................... Notes Payable.......................................
4,400,000
Depreciation Expense .................................. Accumulated Depreciation—Equipment
93,333
1,100,000 3,300,000
93,333 ($2,800,000 ÷ 10 × 4/12 = $93,333) 1
June
July
1
1
Dec. 31
31
Cash............................................................... Accumulated Depreciation—Equipment .... Loss on Disposal.......................................... Equipment.............................................
300,000 2,333,333 166,667
Cost Accumulated depreciation—equipment [(($2,800,000 ÷ 10) × 8) + $93,333)] Carrying amount Cash proceeds Loss on disposal
$2,800,000
Cash............................................................... Notes Receivable.......................................... Land....................................................... Gain on Disposal [($900,000 + $2,700,000) - $1,400,000].
900,000 2,700,000
Equipment..................................................... Cash ......................................................
2,200,000
Depreciation Expense .................................. Accumulated Depreciation—Equipment ($1,000,000 ÷ 10 = $100,000)
100,000
Accumulated Depreciation—Equipment .... Equipment................................................
1,000,000
2,800,000
2,333,333 466,667 300,000 $ (166,667)
1,400,000 2,200,000
2,200,000
100,000
1,000,000
PROBLEM 9.4 (Continued) (b) Dec.
31
31
Depreciation Expense..................................... Accumulated Depreciation—Buildings . ($97,400,000 ÷ 40 = $2,435,000)
2,435,000 2,435,000
Depreciation Expense ......................................... 14,730,000 Accumulated Depreciation—Equipment $146,200,000* ÷ 10 $2,200,000 ÷ 10 × 6/12
14,730,000
$14,620,000 110,000 $14,730,000
* $150,000,000 – $2,800,000 – $1,000,000 = $146,200,000 (c)
YOUNGSTOWN Company Balance Sheet (Partial) December 31, 2025 Property, plant, and equipment1 Land .................................................................. Buildings .......................................................... Less: Accumulated depreciation ................... Equipment ........................................................ Less: Accumulated depreciation ................... Total property, plant, and equipment...... 1 See T accounts on the following page.
$ 23,000,000 $97,400,000 64,635,000 $148,400,000 65,590,000
32,765,000 82,810,000 $138,575,000
PROBLEM 9.4 (Continued) (c) (Continued) Land Jan. 1, 2025 April 1, 2025
20,000,000 4,400,000
Dec. 31, 2025
Bal. 23,000,000
June 1, 2025
1,400,000
Buildings Jan. 1, 2025
97,400,000
Dec. 31, 2025
Bal. 97,400,000
Equipment Jan. 1, 2025 July 1, 2025
150,000,000 2,200,000
Dec. 31, 2025
Bal. 148,400,000
May 1, 2025 Dec. 31, 2025
2,800,000 1,000,000
Accumulated Depreciation—Buildings Jan. 1, 2025 Dec. 31, 2025
62,200,000 2,435,000
Dec. 31, 2025
Bal. 64,635,000
Accumulated Depreciation—Equipment May 1, 2025 Dec. 31, 2025
2,333,333 1,000,000
Jan. 1, 2025 May 1, 2025 Dec. 31, 2025 Dec. 31, 2025
54,000,000 93,333 100,000 14,730,000
Dec. 31, 2025
Bal. 65,590,000
LO 1, 2, 3, 5 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 9.5 Patents ........................................................ Cash.......................................................
46,800
Jan.– June
Research and Development Expense ....... Cash.......................................................
230,000
July 1
Patents ........................................................ Cash.......................................................
20,000
Advertising Expense .................................. Cash.......................................................
40,000
(a) Jan. 2
Sept. 1 Oct. 1 (b) Dec. 31
31
46,800 230,000 20,000 40,000
Copyright .................................................... 200,000 Cash....................................................... Amortization Expense ................................ Patents................................................... [($60,000 × 1/10) + ($46,800 × 1/9) + ($20,000 × 1/20 × 6/12)]
11,700
Amortization Expense ................................ Copyrights............................................. [($36,000 × 1/10) + ($200,000 × 1/50 × 3/12)]
4,600
11,700
(c) Intangible Assets Patents ($126,800 cost less $17,700 amortization) (1) ........ Copyrights ($236,000 cost less $29,800 amortization) (2).... Total intangible assets ................................................. (1) (2) (d)
200,000
4,600
$109,100 206,200 $315,300
Cost ($60,000 + $46,800 + $20,000); amortization ($6,000 + $11,700). Cost ($36,000 + $200,000); amortization ($25,200 + $4,600).
The intangible assets of Amato Corporation consist of two patents and two copyrights. One patent with a cost of $60,000 is being amortized over 10 years. In addition, legal costs of $46,800 incurred in the successful defense of this patent are being amortized over the remaining useful life, 9 years. The other patent with a cost of $20,000 is being amortized over 20 years. A copyright with a cost of $36,000 is being amortized over 10 years; the other copyright with a cost of $200,000 is being amortized over 50 years.
LO 4, 5 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 9.6
1.
2.
Research and Development Expense ....................... 160,000 Patents ................................................................ Patents ........................................................................ Amortization Expense [$10,000 – ($40,000 × 1/20)] .............................
8,000
Goodwill ...................................................................... Amortization Expense ........................................
2,000
160,000
8,000
LO 4 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
2,000
PROBLEM 9.7
(a)
Blythe
Jacke
1.
Return on assets
$240,000 = 7.5% $3,200,000
$300,000 = 10.0% $3,000,000
2.
Profit margin
$240,000 = 20.9% $1,150,000
$300,000 = 25.0% $1,200,000
3.
Asset turnover
$1,150,000 = .36 times $3,200,000
$1,200,000 = .40 times $3,000,000
(b) Based on the asset turnover, Jacke Corp. is more effective in using assets to generate sales. Its asset turnover is 11% higher than Blythe’s ratio. A factor that inhibits comparing the two companies is the differing composition of total assets for each company. Eighty-four percent [($2,400,000 + $300,000) ÷ $3,200,000] of Blythe’s total assets are plant or intangible assets compared to only sixty percent ($1,800,000 ÷ $3,000,000) for Jacke. Also, Jacke reports no intangible assets. LO 5 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
*PROBLEM 9.8
(a) Year
Computation
Accumulated Depreciation 12/31
2023 2024 2025 2026
MACHINE 1 $84,000* × 1/8 = $10,500 $84,000 × 1/8 = $10,500 $84,000 × 1/8 = $10,500 $84,000 × 1/8 = $10,500
$10,500 21,000 31,500 42,000
*($96,000 – $12,000) 2024 2025 2026
MACHINE 2 $85,000 × 40%* × 6/12 = $17,000 $68,000 × 40% = $27,200 $40,800 × 40% = $16,320
$17,000 44,200 60,520
*(1/5) × 2 2024 2025 2026 a
(b)
MACHINE 3 800 × $2.00a = $ 1,600 4,500 × $2.00 = 9,000 6,000 × $2.00 = 12,000
($66,000 – $6,000) ÷ 30,000 Year 2024
Depreciation Expense MACHINE 2 $85,000 × 40% × 9/12 = $25,500
2025
$59,500 × 40%
= $23,800
LO 2, 6 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
$ 1,600 10,600 22,600
*PROBLEM 9.9 (a)
STRAIGHT-LINE DEPRECIATION Computation Depreciable Years Cost ×
End of Year
Annual Depreciation Depreciation Accumulated Rate = Expense Depreciation
2025 $220,000* 2026 220,000 2027 220,000 2028 220,000
25%** 25% 25% 25%
$ 55,000 55,000 55,000 55,000 $220,000
$ 55,000 110,000 165,000 220,000
Book Value $195,000 140,000 85,000 30,000
*($250,000 – $30,000) **1/4 = 25% DOUBLE-DECLINING-BALANCE DEPRECIATION Computation Book Value Beginning of Year Years × 2025 2026 2027 2028
$250,000 125,000 62,500 31,250
End of Year
Annual Depreciation Accumulated Depreciation Rate Depreciation = Expense 50%* 50% 50% 50%
$125,000 62,500 31,250 1,250** $220,000
$125,000 187,500 218,750 220,000
Book Value $125,000 62,500 31,250 30,000
*(1/4) × 2 = 50% **Adjusted so ending book value will equal salvage value.
(b)
Straight-line depreciation provides the lower amount for 2025 depreciation expense ($55,000) and, therefore, the higher 2025 income. Over the four-year period, both methods result in the same total depreciation expense ($220,000) and, therefore, the same total income.
(c)
Double-declining-balance depreciation provides the higher amount for 2025 depreciation expense ($125,000) and, therefore, the lower 2025 income. Both methods result in the same total income over the fouryear period.
LO 2, 6 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
CC9
CONTINUING CASE: COOKIE CREATIONS
Part 1 Aug. 31 (a)
(b)
Website............................................ Cash ..........................................
1,800 1,800
Monthly amortization $600 ÷ 24 months = $25 Accumulated amortization August 31, 2024 9 months × $25 = $225 Book value at August 31, 2024 = $2,175 ($600 + $1,800 – $225)
(c)
(d)
Revised monthly amortization Original cost....................................................... Less: Accumulated amortization ..................... Plus: Additional cost ........................................ Amortizable cost ................................................ # of months remaining (24 – 9) ......................... Revised monthly amortization ..........................
$ 600 (225) 1,800 2,175 ÷ 15 $ 145
Cost ($600 + $1,800) .......................................... Accumulated amortization: ............................... Calculated in (b).......................................... 4 months × $145 ......................................... Book value .........................................................
$2,400 $225 580
805 $1,595
CC9
(Continued)
Part 1 (Continued) (e)
Costs incurred for website maintenance and insurance are costs incurred to maintain the operating efficiency of the website and are therefore recorded as an expense of the period. These costs are matched to the revenues earned during the period in which these costs (expenses) are incurred. The generally accepted accounting principle that plays a part in the recording of these types of transactions is the expense recognition principle. Costs incurred for the website upgrade increase the operating efficiency of the website and therefore increase the value of the intangible asset account, Website. Cookie Creations will now be able to accept orders over the Internet expanding the area in which the business can operate. The website will become a much more productive investment after the upgrade. The generally accepted accounting principles in question are the historical cost principle and the expense recognition principle. The website asset will be used to carry out activities such as order entry and promotion of the products Cookie Creations is selling. The website asset has the ability to provide future economic benefits that will generate future cash inflows.
Part 2 (a)
Cost of Van: Purchase price $38,500 Painting 2,500 Remove seat & install shelves 1,500 Total cost $42,500
(b)
Straight-line depreciation
Year
Computation Depreciable Depreciation Cost (a) Rate (b)
2024 2025 2026 2027 2028 2029
$36,000 36,000 36,000 36,000 36,000 36,000
(a) ($42,500 – $6,500) (b) 1/5 = 20%
20% × 4/12 20% 20% 20% 20% 20% × 8/12
Annual Depreciation Expense $ 2,400 7,200 7,200 7,200 7,200 4,800 $36,000
End of Year Accumulated Book Depreciation Value $42,500 $ 2,400 40,100 9,600 32,900 16,800 25,700 24,000 18,500 31,200 11,300 36,000 6,500
CC9 (Continued) Part 2 (Continued) (c)
Natalie should use a special accelerated depreciation method for tax purposes. Using an accelerated method, rather than the straight-line method, will minimize income tax expenses in the early years of an asset’s life. Paying less tax will allow Natalie to use cash for other purposes. Natalie is not required to use the same depreciation method for financial reporting and tax reporting. Like many businesses, she may choose straight-line depreciation for financial reporting and an accelerated method for tax reporting.
ACR9.1 (a)
ACCOUNTING CYCLE REVIEW
Dec. 2 2
Equipment.................................................... 16,800 Cash ........................................................ Depreciation Expense ................................. Accumulated Depreciation— Equipment ...........................................
825
Cash ............................................................. Accumulated Depreciation—Equipment.... Equipment .............................................. Gain on Disposal of Plant Assets [$3,500 – ($5,000 – $2,625)].................
3,500 2,625
15 Accounts Receivable .................................. Sales Revenue........................................
5,000
Cost of Goods Sold ..................................... Inventory.................................................
3,500
23 Salaries and Wages Expense ..................... Cash ........................................................
6,600
31 Bad Debt Expense ($4,000 – $500) ............. Allowance for Doubtful Accounts.........
3,500
Interest Receivable ($10,000 × .08 × 9/12) ................................ Interest Revenue ....................................
600
16,800
825
5,000 1,125 5,000 3,500 6,600 3,500
600
Insurance Expense ($3,600 × 4/6)............... Prepaid Insurance ..................................
2,400
Depreciation Expense ................................. Accumulated Depreciation—Building [($150,000 – $30,000) ÷ 30]..................
4,000
Depreciation Expense ................................. Accumulated Depreciation— Equipment [($55,000 – $5,500) ÷ 5] ....
9,900
2,400
4,000
9,900
ACR 9.1 (Continued) Depreciation Expense.................................... Accumulated Depreciation—Equipment [($16,800 – $1,800) ÷ 5] × 1/12 ...............
250
Amortization Expense ($9,000 ÷ 9)................ Patent ........................................................
1,000
Salaries and Wages Expense ........................ Salaries and Wages Payable....................
2,200
Interest Expense ............................................ Interest Payable [($11,000 + $35,000) × .10] .....................
4,600
Income Tax Expense...................................... Income Taxes Payable..............................
15,000
250 1,000 2,200
4,600 15,000
ACR 9.1 (Continued) (b)
MILO CORPORATION Adjusted Trial Balance December 31, 2025 Debits $ 2,100 41,800 10,000 600 32,700 1,200 20,000 150,000 71,800 8,000
Cash ................................................................ Accounts Receivable ...................................... Notes Receivable............................................. Interest Receivable .......................................... Inventory .......................................................... Prepaid Insurance ........................................... Land.................................................................. Buildings .......................................................... Equipment........................................................ Patent ............................................................... Allowance for Doubtful Accounts .................. Accumulated Depreciation—Buildings.......... Accumulated Depreciation—Equipment........ Accounts Payable............................................ Salaries and Wages Payable........................... Notes Payable (due April 30, 2026) ................ Interest Payable ............................................... Notes Payable (due in 2031) ........................... Income Taxes Payable .................................... Common Stock ................................................ Retained Earnings ........................................... Dividends ......................................................... 12,000 Sales Revenue ................................................. Interest Revenue.............................................. Gain on Disposal of Plant Assets................... Bad Debt Expense ........................................... 3,500 Cost of Goods Sold ......................................... 633,500 Depreciation Expense ..................................... 14,975 Insurance Expense.......................................... 2,400 Interest Expense.............................................. 4,600 Other Operating Expenses ............................. 61,800 Amortization Expense ..................................... 1,000 Salaries and Wages Expense ......................... 118,800 Income Tax Expense ....................................... 15,000 Total .......................................................... $1,205,775
Credits
$
4,000 54,000 32,350 27,300 2,200 11,000 4,600 35,000 15,000 50,000 63,600 905,000 600 1,125
$1,205,775
ACR 9.1 (Continued) (c)
MILO CORPORATION Income Statement For the Year Ended December 31, 2025 Sales revenue ....................................... Cost of goods sold ............................... Gross profit........................................... Operating expenses Salaries and wages expense ......... Other operating expenses ............. Depreciation expense ......................... Bad debt expense........................... Insurance expense ......................... Amortization expense .................... Total operating expenses .................... Income from operations....................... Other revenues and gains Gain on disposal of plant assets ... Interest revenue.............................. Other expenses and losses Interest expense ............................. Income before income taxes ............... Income tax expense ............................. Net income ............................................
$905,000 633,500 271,500 $118,800 61,800 14,975 3,500 2,400 1,000 202,475 69,025 1,125 600
1,725 (4,600) 66,150 15,000 $ 51,150
MILO CORPORATION Retained Earnings Statement For the Year Ending December 31, 2025 Retained earnings, 1/1/25.......................................... Add: Net income ...................................................... Less: Dividends........................................................ Retained earnings, 12/31/25......................................
$ 63,600 51,150 114,750 12,000 $102,750
ACR 9.1 (Continued) (d)
MILO CORPORATION Balance Sheet December 31, 2025
Current assets Cash ........................................................... $ 2,100 Accounts receivable.................................. $ 41,800 Less: Allowance for doubtful accounts.... 4,000 37,800 Notes receivable ........................................ 10,000 Interest receivable ..................................... 600 Inventory .................................................... 32,700 Prepaid insurance ..................................... 1,200 Total current assets ............................. 84,400 Property, plant, and equipment Land............................................................ 20,000 Buildings .................................................... $150,000 Less: Accum. depr.—buildings ............... 54,000 96,000 Equipment.................................................. 71,800 Less: Accum. depr.—equipment ............. 32,350 39,450 Total property, plant, and equipment ... 155,450 Intangible assets Patents ....................................................... 8,000 Total assets...................................................... $247,850 Current liabilities Notes payable (due April 30, 2026)........... Accounts payable...................................... Income taxes payable................................ Interest payable ......................................... Salaries and wages payable ..................... Total current liabilities......................... Long-term liabilities Notes payable (due in 2031)...................... Total liabilities ................................................. Stockholders’ equity Common stock........................................... Retained earnings ..................................... Total liabilities and stockholders’ equity.......
$ 11,000 27,300 15,000 4,600 2,200 60,100 35,000 95,100 50,000 102,750
LO 1 – 5 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Reporting
152,750 $247,850
ACR9.2
ACCOUNTING CYCLE REVIEW
(a) Date 2/1/2025
3/1/2025
3/28/2025
3/29/2025
3/29/2025
3/29/2025
3/31/2025
3/31/2025
Account Titles Cash Unearned Service Revenue
Debit Credit 12,000 12,000
Equipment Cash Accounts Payable
9,600
Patents Cash
9,600
3,000 6,600
9,600
Account Receivable Service Revenue
140,000
Cash Accounts Receivable
133,000
Accounts Payable Cash
16,370
Operating Expenses Cash
97,525
140,000
133,000
16,370
97,525
Allowance for Doubtful Accounts Accounts Receivable
200
Depreciation Expense Accumulated Depreciation – Equipment [(11,000–1,000)/5) × (3/12)]
500
Cash Accumulated Depreciation – Equipment Loss on Disposal of Plant Assets [$1, 620 – ($11,000 - $8,500)] Equipment
1,620 8,500
200
500
880 11,000
ACR 9.2 (Continued) (b), (c), and (f) Bal. Feb. 1 Mar. 29 Mar. 31
Cash 24,300 12,000 3,000 133,000 9,600 1,620 16,370 97,525 100
Feb. 1 Mar. 1 Mar. 29 Mar. 29 Adj. Mar. 31
44,325
Bal. Mar. 28
Accounts Receivable 22,400 140,000 133,000 200
Mar. 29 Mar. 31
29,200
Mar. 31
Allowance for Doubtful Accts 1,200 Bal. 200 800 Adj. Mar. 31
1,800
Bal. Feb. 1
Equipment 20,000 9,600 11,000 18,600
Mar. 31
ACR 9.2 (Continued) Accum Depreciation—Equipment 15,000 Bal. 500 Mar. 31 505 Adj. Mar. 31 Mar. 31 8,500 7,505
Land Bal.
20,000
20,000
Bal.
Buildings 100,000 100,000
Accum Depreciation—Buildings 15,000 Bal. 750 Adj. Mar. 31 15,750
Patents Mar. 1
9,600 80 9,520
Adj. Mar. 31
ACR 9.2 (Continued) Mar. 29
Accounts Payable 16,370 12,370 6,600
Bal. Feb. 1
2,600
Unearned Service Revenue 12,000 Feb. 1 Adj. Mar. 31 2,000 10,000
Income Taxes Payable 12,258 Mar. 31 Adj. 12,258
Common Stock 90,000
Bal.
90,000
Retained Earnings 53,130
Bal.
53,130
Service Revenue 140,000 Mar. 28 2,000 Mar. 31 Adj. 142,000
ACR 9.2 (Continued) Operating Expenses Mar. 29 97,525 Mar. 31 Adj. 100 97,625
Depreciation Expense Mar. 31 500 Mar. 31 Adj. 505 Mar. 31 Adj. 750 1,755
Loss on Disposal of Equip Mar. 31 880 880
Patent Amortization Expense Mar. 31 Adj. 80 80
Bad Debt Expense Mar. 31 Adj. 800 800
Income Tax Expense Mar. 31 Adj. 12,258 12,258
ACR 9.2 (Continued) (d) and (g)
Aberkonkie Corporation 3/31/25 Trial Balance
Accounts
Debit
Adjusted Trial Balance
Credit
Debit
Credit
Cash
$44,425
$44,325
Accounts receivable
29,200
29,200
Allowance for doubtful accounts
$1,000
$1,800
Land
20,000
20,000
Buildings
100,000
100,000
Acc. depreciation-buildings Equipment
15,000 18,600
Acc depreciation-equipment Patents
15,750 18,600
7,000 9,600
7,505 9,520
Accounts payable
2,600
2,600
Unearned service revenue
12,000
10,000
Income taxes payable
12,258
Common stock
90,000
90,000
Retained earnings
53,130
53,130
Service revenue
140,000
142,000
Operating expenses Depreciation expense
97,525
97,625
500
1,755
Patent amortization expense
80
Bad debt expense
800
Loss on disp. of plant assets
880
880
Income tax expense Total
12,258 $320,730
$320,730
$335,043
$335,043
ACR 9.2 (Continued) (e) BANK RECONCILIATION Balance per Bank .......................................................... Add: Deposits in Transit 3/31/25 .................................. Less: Outstanding Checks ................................... #440 #454 #455 #456 Adjusted balance per bank
$64,594 1,620 $3,444 5,845 3,000 9,600
Balance per books ........................................................ Less: Bank Service Charge .......................................... Adjusted balance per books
21,889 $44,325 $44,425 100 $44,325
(f) Date
Account titles
3/31/2025 Operating Expenses Cash Unearned Service Revenue Service Revenue ($12,000/12 × 2)
Debit 100
100 2,000 2,000
Bad Debt Expense Allowance for Doubtful Accounts {($26,000 × .04 = $1,040) + [($29,200 – $26,000) × .2375 = $760]} – $1,000
800
Depreciation Expense Accumulated Depreciation – Equipment [($9,000/10) × (3/12) = $225] + [($9,600 – $1,200)/5) × (2/12) = $280]
505
Depreciation Expense Accumulated Depreciation – Buildings (($100,000 – $10,000)/30) × (3/12)
750
Patent Amortization Expense Patents [($9,600/10) × (1/12)]
80
Income Tax Expense ($40,860 x 30%) Income Taxes Payable
Credit
800
505
750
80
12,258 12,258
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ACR 9.2 (Continued) Aberkonkie Corporation Income Statement For the Quarter Ended 3/31/25 Service Revenue............................................................ Operating expenses Operating Expenses .................................................. Depreciation Expense................................................ Bad Debt Expense ..................................................... Amortization Expense ............................................... Total Expenses .............................................................. Income from Operations ............................................... Other Expenses and Losses Loss on Disposal ....................................................... Income before Taxes ..................................................... Income Tax Expense ($40,860 x 30%) ...................... Net Income ..................................................................... $28,602
$142,000 $97,625 1,755 800 80 100,260 41,740 880 40,860 12,258
Aberkonkie Corporation Retained Earnings Statement For the Quarter Ended 3/31/25 Retained Earnings, 1/1/25 ............................................. Add: Net Income ........................................................... Retained Earnings, 3/31/25 ...........................................
$53,130 28,602 $81,732
ACR 9.2 (Continued) Aberkonkie Corporation Balance Sheet 3/31/2025 Assets Current Assets Cash ............................................................... Accounts Receivable .................................... $29,200 Less: Allowance for Doubtful Accounts...... 1,800 Total Current Assets .................... Property, Plant, and Equipment 20,000 Land ............................................................... Equipment...................................................... $ 18,600 Less: Accumulated Depreciation—Equip ......... 7,505 11,095 Buildings........................................................ 100,000 Less: Accumulated Depreciation—Build .......... 15,750 84,250 Total property, plant, & equip....................... Patents, less amortization ............................ Total Assets..................................
$44,325 27,400 71,725
115,345 9,520 $196,590
Liabilities & Stockholder’s Equity Current Liabilities Accounts Payable ............................................. Unearned Revenue ............................................ Income Taxes Payable....................................... Total Liabilities ............................................ Stockholders’ Equity Common Stock .................................................. Retained Earnings ............................................. Total Liabilities and Stockholders’ Equity
$ 2,600 10,000 12,258 $24,858 90,000 81,732
LO 1 – 5 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Reporting
171,732 $196,590
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT9.1
FINANCIAL REPORTING PROBLEM
(All amounts are in millions) (a)
At September 26, 2020, total cost of property, plant and equipment was $103,526 (Per Notes to Consolidated Financial Statements #4); book value was $36,766 (Per Consolidated Balance Sheets and Note #4).
(b)
Depreciation is computed by use of the straight-line method over the estimated useful lives of the assets (Per Note #1).
(c)
Depreciation and amortization was: 2020, $11,056; 2019, $12,547; 2018, $10,903.
(d)
Apple’s purchases of property, plant, and equipment were: 2020, $7,309; 2019, $10,495.
LO 1, 2, 4, 5 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic, Communication and Technology AICPA AC: Reporting AICPA PC: Communication
CT9.2
COMPARATIVE ANALYSIS PROBLEM
(a) 1. Return on assets 2. Profit margin
Columbia Sportswear $108,013 ($2,836,571 + $2,931,591) 2 $108,013
= 3.7%
($549,177) = (11.1%) ($5,030,628 + $4,843,531) 2 ($549,177) = (12.3%) $4, 474,667
= 4.3%
$2,501,554 3. Asset turnover
Under Armour, Ic.
$2,501,554 = .87 times ($2,836,571 + $2,931,591) 2
$4, 474,667 = .91 times ($5,030,628 + $4,843,531) 2
(b) The asset turnover measures how efficiently a company uses its assets to generate sales. It shows the dollars of sales generated by each dollar invested in assets. Both companies generated roughly the same asset turnover. However, Columbia Sportswear generated profit from its sales (4.3%) while Under Armour generated a loss from its sales (-12.3%). This resulted in Columbia Sportswear generating a positive return on assets and Under Armour a negative return on assets. LO 5 BT: AN Difficulty: Medium TOT: 25 min. Reporting AICPA PC: Communication
AACSB: Analytic and Communication AICPA AC:
CT9.3
COMPARATIVE ANALYSIS PROBLEM
(a) 1. Return on assets
2. Profit margin
Amazon.com $21, 331 = 7.8% ($321,195 + $225,248) 2
$13,510 = 5.5% ($252, 496 + $236, 496) 2
$21, 331
$13,510 = 2.4% $559,151
= 5.5%
$386,064 3. Asset turnover
Walmart Inc.
$386,064 = 1.41 times ($321,195 + $225,248) 2
$559,151 = 2.29 times ($252, 496 + $236, 496) 2
(b) While Amazon was significantly better, both companies generated an acceptable asset turnover. However, Amazon was much more effective in generating profit from sales (5.5%) compared to Walmart(2.4%). This resulted in a higher return on assets for Amazon (7.8%). LO 5 BT: AN Difficulty: Medium TOT: 25 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT9.4 (a)
INTERPRETING FINANCIAL STATEMENTS
Online retailers, such as Amazon, have large investments in sophisticated warehouses, but they have no money tied up in massive stores, such as those of Best Buy. This means that, all else being equal, an online retailer would have lower total assets, which would increase the asset turnover as well as the return on assets. We would also expect that the online retailer’s operating costs would be lower since it doesn’t incur salary and other costs of running a store. This should increase its net income, which would increase the profit margin ratio. 2025
(b)
$1, 277
Profit Margin
2020 $1,140
= 2.5%
$30, 848
$50, 272 $50, 272
Asset Turnover
$30, 848
= 2.78 times
(c)
$1,140
$1, 277
= 7.1% ($17, 849 + $18, 302) / 2
Profit Margin 2020 3.7% 2025 2.5%
× × ×
Asset Turnover 2.78 2.78
= 2.78 times
($11, 864 + $10, 294) / 2
($17, 849 + $18, 302) / 2 Return on Assets
= 3.7%
($11, 864 + $10, 294) / 2 = = =
= 10.3
Return on Assets 10.3 6.95%*
*Difference due to rounding. (d)
It is interesting to note that the asset turnover stayed the same, at 2.78 times between 2020 and 2025. This means that the company generates the same amount of sales per dollar invested in assets. However, the profit margin declined from 3.7% down to 2.5%. This means that the company previously generated 3.7 cents profit on each dollar of sales, but it now only generates only 2.5 cents. From the presentation in part (c) we can clearly see that the decline in the return on assets is due to the decline in the profit margin. This is consistent with the suggestion that the company is having a hard time competing with online retailers. The online retailers can offer lower prices because they have lower operating costs. Best Buy lowers its prices to meet the competition, which then cuts into its profit margin.
LO 5 BT: AN Difficulty: Hard TOT: 30 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT9.5
REAL-WORLD FOCUS
Answers will vary depending on the company chosen by student. LO 2, 5 BT: AN Difficulty: Medium TOT: 25 min. AACSB: Analytic, Technology and Communication AICPA AC: Reporting AICPA PC: Communication
CT9.6 a.
b.
c.
d.
REAL-WORLD FOCUS
According to the author, if you were interested in purchasing a Subway franchise, you would not find much information about what you could expect to make as a franchise owner. A company spokesperson said that prospective franchisees could get information from specific franchise owners. The article suggests that Subway’s lack of disclosure differs from many other franchises that have increased the amount of financial disclosure that they provide. It suggests that this could make potential franchisees more likely to choose other franchises, rather than Subway. It notes that at the time of the article Subway had shrunk by 2,300 locations. The Franchise Grade study notes that, during the 7 year period of study, the 870 franchise systems that did not disclose financial performance information saw the number of locations decline by 0.2%, while the 652 franchise systems that did provide financial details experienced an increase of 13%. A report by FRANdata found that 97% of lenders said that they were more likely to provide funding for a franchise purchase if the franchise brand provides financial performance information.
LO 4, 5 BT: S Difficulty: Hard TOT: 40 min. AACSB: Analytic, Technology and Communication AICPA AC: Measurement Analysis and Interpretation, Reporting AICPA PC: Communication
CT9.7
DECISION MAKING ACROSS THE ORGANIZATION
(a) (in thousands) Return on assets Profit margin Asset turnover
Current results
Proposed results without cannibalization
Proposed results with cannibalization
$12,000 = .12 $100,000 $12,000 = .30 $40,000 $40,000 = .40 $100,000
$13,500 = .135 $100,000 $13,500 = .225 $60,000 $60,000 = .60 $100,000
$10,500 = .105 $100,000 $10,500 = .21 $50,000 $50,000 = .50 $100,000
(b)
If there is no cannibalization, return on assets increases from 12% to 13.5%. This occurs even though the profit margin decreases from 30% to 22.5% because the asset turnover increases significantly, from .40 times to .60 times. However, if there is cannibalization, the return on assets declines to .105 because both the profit margin and asset turnover decline.
(c)
Yes, there are other alternatives. Here are some examples. 1.
Increase spending on marketing in an effort to increase sales of the high-end product, without offering the new, low-end product line. If this was successful it would increase the asset utilization, thus increasing the asset turnover and return on assets.
2.
Consider marketing the new line under a different name, so as to minimize the cannibalization. This might substantially increase the marketing costs, and therefore reduce the profit margin. But the benefit of reducing cannibalization might make up for the increased marketing costs.
3.
If neither of 1. or 2. seem feasible, they should consider closing a plant. This would increase the asset turnover and return on assets.
LO 5 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT9.8
COMMUNICATION ACTIVITY
Answers will depend on the position selected by the student. Some points that should be considered include: 1.
Some relatively small companies may spend less on R&D because they must expense these costs. However, the vast majority of companies realize that for continued growth and stability, R&D expenditures are a high priority regardless of how they are recorded for accounting purposes. Requiring companies to expense R&D costs instead of allowing them to be capitalized could leave U.S. companies at a competitive disadvantage as compared to non-U.S. companies. U.S. companies may be more reluctant to invest millions of dollars on research and development since the costs would negatively impact their financial statements in the short-run.
2.
The tangible future benefits of R&D costs may not be realized for several years, if ever. Conversely, the purchase of a long-lived asset (i.e., equipment, building) will provide benefits immediately as well as in future years. Accountants often employ an approach called conservatism which dictates that when reasonable doubt exists, a company should choose the option that has the least favorable effect on income. Expensing R&D costs is an example of applying conservatism.
LO 4 BT: AN Difficulty: Medium TOT: 30 min. Reporting AICPA PC: Communication
AACSB: Analytic and Communication
AICPA AC:
CT9.9
ETHICS CASE
(a)
The stakeholders in this situation are: Wade Truman, president of Clean Aire Anti-Pollution Company. Kate Rollins, controller. The stockholders of Clean Aire Anti-Pollution Company. Potential investors in Clean Aire Anti-Pollution Company.
(b)
The intentional misstatement of the life of an asset or the amount of the salvage value is unethical for whatever the reason. There is nothing unethical per se about changing the estimates used for the life of an asset or of an asset’s salvage value if the change is an attempt to better allocate to expense the cost of an asset associated with the revenues generated by that asset, over the asset’s remaining useful life. In this case, it appears from the controller’s reaction that the revision in the life is intended only to improve earnings which would be unethical. The fact that the competition uses a longer life for its equipment is not necessarily relevant. The competition’s maintenance and repair policies and activities may be different. The competition may use its equipment fewer hours a year (e.g., one shift rather than two shifts daily) than Clean Aire Anti-Pollution Company.
(c)
Income before income taxes in the year of change is increased $155,000 ($387,500 – $232,500) by implementing the president’s proposed changes. Old Estimates Asset cost............................................................. Less: Estimated salvage...................................... Depreciable cost .................................................. Depreciation per year (1/8) ..................................
$3,500,000 400,000 3,100,000 $ 387,500 Revised Estimates
Asset cost............................................................. Less: Estimated salvage...................................... Depreciable cost .................................................. Less: Depreciation taken to date ($387,500 × 2) Remaining depreciable cost................................ Remaining life in years ........................................ Depreciation per year ($2,325,000 ÷ 10)..............
$3,500,000 400,000 3,100,000 775,000 2,325,000 ÷10 years $ 232,500
LO 2 BT: E Difficulty: Hard TOT: 50 min. AACSB: Analytic, Communication and Ethics AICPA AC: Reporting AICPA PC: Communication and Ethical Conduct
CT9.10
(a) 1 c
ALL ABOUT YOU
2b
3a 4a
(b) For the most part, the value of a brand is not reported on a company’s balance sheet. Most companies are required to expense all costs related to the maintenance of a brand name. Also any research and development that went into the development of the related product is generally expensed. The only way significant costs related to the value of the brand are reported on the balance sheet is when a company purchases another company that has a significant tradename (brand). In that case, given an objective transaction, companies are able to assign value to the brand and report it on the balance sheet. A conservative approach is used in this area because the value of the brand can be extremely difficult to determine. It should be noted that international rules permit companies to report brand values on their balance sheets. LO 4, 5 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
CT9.11
FASB CODIFICATION ACTIVITY
(a) Capitalize is a term used to indicate that the cost would be recorded as the cost of an asset. That procedure is often referred to as deferring a cost, and the resulting asset is sometimes described as a deferred cost. (b)
Intangible assets are assets that lack physical substance. (The term intangible asset is used to refer to intangible assets other than goodwill.)
(c)
Codification reference 360-10-35-2 addresses the concept of depreciation accounting and the various factors to consider in selecting the related periods and methods to be used in such accounting. Generally accepted accounting principles (GAAP) require that the cost of a productive facility be spread over the expected useful life of the facility in such a way as to allocate it as equitably as possible to the periods during which services are obtained from the use of the facility (Codification reference 360-10-35-4).
LO 1, 2, 4 BT: S Difficulty: Medium TOT: 30 min. AACSB: Analytic, Technology and Communication AICPA AC: Measurement AICPA PC: Communication
CT9.12
CONSIDERING PEOPLE, PLANET AND PROFIT
(a)
Airbus developed a wing attachment called a Sharklet that is designed to reduce fuel consumption. It is quite similar to a device that is sold by Aviation Partners called a Winglet. Aviation Partners has a patent on the device. Airbus filed a lawsuit against Aviation Partners claiming that the patent should be declared invalid.
(b)
Aviation Partners says that its Winglets will reduce fuel consumption by 5 to 7 percent. It says that the total amount of jet fuel that its device has saved is approximately 3 billion gallons.
(c)
Airbus and Aviation Partners were involved in discussions for about 5 years before they reached a memorandum of understanding to form a joint venture to design a device for use on Airbus aircraft. However, Airbus then developed the Sharklet, which Aviation Partners says violates its patent.
(d)
If Aviation Partners loses the lawsuit it would have to expense the cost of the lawsuit. It would also have to review the recorded value of its patent to determine whether the loss of the lawsuit has caused the value of the patent to be impaired.
LO 4 BT: S Difficulty: Medium TOT: 45 min. AACSB: Analytic, Technology and Communication AICPA AC: Measurement Analysis and Interpretation AICPA BC: Global and Industry Perspectives
CHAPTER 10 Reporting and Analyzing Liabilities Learning Objectives 1. Explain how to account for current liabilities. 2. Describe the major characteristics of bonds. 3. Explain how to account for bond transactions 4. Discuss how liabilities are reported and analyzed. *5. Apply the straight-line method of amortizing bond discount and bond premium. *6. Apply the effective-interest method of amortizing bond discount and bond premium. *7. Explain how to account for long-term notes payable.
ANSWERS TO QUESTIONS 1.
While this is generally true, more precisely a current liability is a debt that can reasonably be expected to be paid: (a) from existing current assets or through the creation of other current liabilities and (2) within one year or the operating cycle, whichever is longer.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
2.
In the balance sheet, Notes Payable of $20,000 and Interest Payable of $450 ($20,000 9% 3/12) should be reported as current liabilities. In the income statement, Interest Expense of $450 should be reported under other expenses and losses.
LO 1 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
3.
(a) Disagree. The company only serves as a collection agent for the taxing authority. It does not report sales taxes as an expense; it merely forwards the amount paid by the customer to the government. (b) The entry to record the proceeds is: Cash......................................................................................... Sales Revenue ................................................................. Sales Taxes Payable ........................................................
8,550 8,000 550
LO 1 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
4.
(a) The entry when the tickets are sold is: Cash ............................................................................................... 900,000 Unearned Ticket Revenue ................................................
900,000
(b) The entry after each game is: Unearned Ticket Revenue .............................................................. 180,000 Ticket Revenue.................................................................
180,000
LO 1 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
5.
Three taxes commonly withheld by employers from employees’ gross pay are (1) federal income taxes, (2) state income taxes, and (3) social security (FICA) taxes.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
6.
(a) Three taxes commonly paid by employers on employees’ salaries and wages are (1) social security (FICA) taxes, (2) state unemployment taxes, and (3) federal unemployment taxes. (b) Taxes withheld from employees’ gross pay and not yet remitted to the appropriate government agency are reported in the balance sheet as current liabilities.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 10 (Continued) 7.
The liabilities that Apple identified as current are: Accounts payable, Other current liabilities, Deferred revenue, Commercial paper, and Term debt.
LO 1 BT: AN Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
8.
(a) Long-term liabilities are obligations that are expected to be paid after one year. Examples include bonds and long-term notes. (b) Bonds are a form of interest-bearing notes payable issued by corporations, universities, and governmental agencies.
LO 2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
9.
(a) Secured bonds have specific assets of the issuer pledged as collateral. In contrast, unsecured bonds are issued against the general credit of the borrower. (b) Convertible bonds permit bondholders to convert them into common stock at their option. In contrast, callable bonds are subject to call and redemption (bought back) at a stated dollar amount prior to maturity at the option of the issuer.
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
10.
(a) Face value is the amount of principal due at the maturity date. (b) The contractual interest rate is the rate used to determine the amount of cash interest the issuer pays and the investor receives. This rate is also called the stated interest rate because it is the rate stated on the bonds. (c) A bond certificate is a legal document that indicates the name of the issuer, the face value of the bonds, and other data such as the contractual interest rate and the maturity date of the bonds.
LO 2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
11.
(a) A convertible bond permits bondholders to convert it into common stock at the option of the bondholders. (b) For bondholders, the conversion feature gives an opportunity to benefit if the market price of the common stock increases substantially. For the issuer, convertible bonds usually have: (1) a lower rate of interest than other debt securities, (2) a higher selling price.
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
12.
The two major obligations incurred by a company when bonds are issued are the interest payments due on a periodic basis and the principal which must be paid at maturity.
LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 10 (Continued) 13.
Less than. Investors were required to pay more than the face value; therefore, the market interest rate is less than the contractual rate.
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
14.
No, Lee is not right. The market price on any bond is a function of three factors: (1) the dollar amounts to be received by the investor (interest and principal), (2) the length of time until the amounts are received (interest payment dates and maturity date), and (3) the market interest rate.
LO 3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
15.
$48,000. $800,000 6% 1 year = $48,000.
LO 3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
16.
$664,000. The balance of the Bonds Payable account minus the balance of the Discount on Bonds Payable account (or plus the balance of the Premium on Bonds Payable account) equals the carrying value of the bonds.
LO 4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
17.
Debits: Credits:
Bonds Payable (for the face value) and Premium on Bonds Payable (for the unamortized balance). Cash (for 97% of the face value) and Gain on Bond Redemption (to balance entry).
LO 4 BT: AN Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
18.
By financing a major purchase such as this with short-term financing the company will reduce its liquidity. In the case of Johnson Inc., its current ratio will decrease from 2.2:1 to a less acceptable level of 1.5:1. The company has the choice of locking in a long-term rate of 8%, or continually refinancing at whatever the short-term rate is when its short-term debt matures. If short-term rates increase substantially the increase in interest expense could significantly reduce the company’s profitability.
LO 4 BT: AN Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
19. (a) The nature and the amount of each long-term liability should be presented in the balance sheet or in schedules in the accompanying notes to the financial statements. The notes should also indicate the interest rates, maturity dates, conversion privileges, and assets pledged as collateral. (b) To evaluate liquidity a company may compute working capital and the current ratio. To evaluate long-run solvency a company may compute a debt to assets ratio, and times interest earned. LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 10 (Continued) 20. No, Ernie is not correct. Liquidity involves measuring the short-term ability of a company to pay its maturing obligations and to meet unexpected needs for cash. Solvency involves measuring the ability of a company to survive over a long period of time. LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
21. Jon is not correct. In order to reduce costs, many companies today keep low amounts of inventory on hand. Consequently, liquidity ratios are generally lower than they used to be. Companies that keep fewer liquid assets on hand frequently rely on a bank line of credit. A line of credit allows a company to borrow money on a short-term basis to meet any cash shortfalls caused by a low amount of liquid assets. LO 4 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
22. Two criteria must be met: (1) the contingency must be probable and (2) the company must be able to arrive at a reasonable estimate. If these criteria are not met, the company should disclose the major facts concerning the contingency in the notes to its financial statements. LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
*23.
The straight-line method of amortization results in the same amortized amount being assigned to Interest Expense each interest period. This amount is determined by dividing the total bond discount or premium by the number of interest periods the bonds will be outstanding.
LO 5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
*24. The total amount of interest expense is $10,800. Interest expense is the interest to be paid in cash less the premium amortization for the year. Cash to be paid equals 6% $200,000 or $12,000. Total premium equals 3% of $200,000 or $6,000. Since this is to be amortized over 5 years (the life of the bonds) in equal amounts, the amortization amount is $6,000 ÷ 5 = $1,200. Thus, $12,000 – $1,200 or $10,800 is the interest expense for 2025. LO 5 BT: AP Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
Questions Chapter 10 (Continued) *25. Honore is probably indicating that the effective-interest method results in a varying amount of interest expense but a constant rate of interest on the balance outstanding. Accordingly, it results in a better matching of expenses with revenues than the straight-line method. In addition, GAAP requires that the effective-interest method be used if there is a material difference in the amount of interest calculated under the straight-line and effective-interest methods. LO 6 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
*26.
Decrease. Under the effective-interest method the interest expense per period is determined by multiplying the carrying value of the bonds by the effective-interest rate. When bonds are issued at a premium, the carrying value decreases over the life of the bonds. As a result, the interest expense will also decrease over the life of the bonds because it is determined by multiplying the decreasing carrying value of the bonds at the beginning of the period by the effective-interest rate.
LO 6 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
*27. The installment note requires equal payments. Each payment will pay any interest that has been incurred during the time that has passed since the previous payment. The remaining amount of the payment will pay off part of the principal balance owed. Over time, as the principal is paid down, the amount of interest owed will decline, so that the principal paid off by each payment will increase. LO 7 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
*28. No, Tim is not right. Each payment by Tim consists of: (1) interest on the unpaid balance of the loan and (2) a reduction of loan principal. The interest decreases each period while the portion applied to the loan principal increases each period. LO 7 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 10.1 (a) A note payable due in two years is a long-term liability. (b) $20,000 of the mortgage payable is a current maturity of long-term debt. This amount should be reported as a current liability. The remaining amount is a long-term liability. (c) Interest payable is a current liability. (d) Accounts payable is a current liability. LO 1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 10.2 (a) July 1 (b) Dec. 31
Cash .......................................................... Notes Payable ...................................
90,000
Interest Expense....................................... Interest Payable ($90,000 7% 6/12).....................
3,150
90,000
3,150
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.3 Sales tax payable (1) Sales = ($10,388 ÷ 1.06) = $9,800 (2) Sales taxes payable = ($9,800 6%) = $588 or $10,388 – $9,800 = $588 Mar. 16
Cash .................................................................. Sales Revenue .......................................... Sales Taxes Payable.................................
10,388
[Sales revenue = Total receipts ÷ (1 + sales tax rate)] ($9,800 = $10,388 ÷ 1.06) LO 1 BT: AP Difficulty: Medium TOT: 7 min. AACSB: Analytic AICPA AC: Reporting
9,800 588
BRIEF EXERCISE 10.4 (a) Cash (3,500 $80).................................................. Unearned Ticket Revenue.............................. (To record sale of 3,500 season tickets)
280,000
(b) Unearned Ticket Revenue ..................................... Ticket Revenue ($280,000 ÷ 10)...................... (To record basketball ticket revenue earned)
28,000
280,000
28,000
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.5 Gross earnings: Regular pay (40 $16) ........................................... Overtime pay (7 $24) ........................................... Gross earnings .............................................................. Less: FICA taxes payable ($808 7.65%) ................... Federal income taxes payable........................... Net pay ...........................................................................
$640.00 168.00
$808.00 $808.00
$ 61.81 95.00
156.81 $651.19
LO 1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.6 Jan.
Jan.
15
15
Salaries and Wages Expense.................... FICA Taxes Payable ($808 7.65%). Federal Income Taxes Payable ........ Salaries and Wages Payable ............
808.00
Salaries and Wages Payable ..................... Cash...................................................
651.19
61.81 95.00 651.19 651.19
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.7 Jan.
15
Payroll Tax Expense .................................. FICA Taxes Payable ($808 7.65%).
61.81
LO 1 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
61.81
BRIEF EXERCISE 10.8 Mar. 1
Cash ($300,000 .98)................................. Discount on Bonds Payable...................... Bonds Payable ..................................
294,000 6,000 300,000
(Cash rec’d. = Face value of bond Issued %) ($294,000 = $300,000 98%) LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.9 June 1
Cash ($400,000 1.01)............................... Bonds Payable ........................................... Premium on Bonds Payable ............
404,000 400,000 4,000
(Cash rec’d. = Face value of bond Issued %) ($404,000 = $400,000 101%) LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.10 2025 (a) Jan. 1
(b) Dec. 31
Cash ..................................................... 3,000,000 Bonds Payable (3,000 $1,000)....................... 3,000,000 Interest Expense........................ Interest Payable ($3,000,000 7%)..............
210,000 210,000
(Int. exp. = Face value of bond stated int. rate) ($210,000 = $3,000,000 7%)
2026 (c) Jan. 1
Interest Payable ......................... Cash......................................
210,000
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
210,000
BRIEF EXERCISE 10.11 July 1
Bonds Payable ...................................... Loss on Bond Redemption ($2,040,000 – $1,955,000).................... Cash ($2,000,000 1.02)................... Discount on Bonds Payable ............
2,000,000 85,000 2,040,000 45,000
(Cash pd. = Face value of bond %) ($2,040,000 = $2,000,000 102%) LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.12 Long-term liabilities Bonds payable (due 2029)............................... Less: Discount on bonds payable ................. Notes payable (due 2027) ................................ Total long-term liabilities .........................
$700,000 28,000
$672,000 80,000 $752,000
LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 10.13 O’BRIAN INC. Balance Sheet (Partial) December 31, 2025 Current liabilities Notes payable (due May 1, 2026) .............. Accounts payable ...................................... Unearned rent revenue.............................. Interest payable ......................................... FICA taxes payable.................................... Income taxes payable................................ Sales taxes payable................................... Total current liabilities .......................... Long-term liabilities Bonds payable (due 2029)......................... Less: Discount on bonds payable ........... Notes payable (due 2027).......................... Total long-term liabilities..................... Total liabilities ...................................................
$ 20,000 157,000 240,000 40,000 7,800 3,500 1,700 $ 470,000 900,000 41,000
LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
859,000 80,000 939,000 $1,409,000
BRIEF EXERCISE 10.14 (a) (b) (c) (d)
Working capital = $4,485 – $2,836 = $1,649 Current ratio = $4,485 ÷ $2,836 = 1.58:1 Debt to assets = $5,099 ÷ $8,875 = 57% Times interest earned = ($245 + $113 + $169) ÷ $169 = 3.12 times
(Times int. earned = (Net inc. + Inc. taxes + Int. exp.) ÷ Int. exp.) [3.12 times = ($245 + $113 + $169) ÷ $169]
Working capital and the current ratio measure a company’s ability to pay maturing obligations and meet cash needs. adidas’ current assets are 58% larger than the amount of its current liabilities which indicates a relatively high degree of liquidity. Debt to assets and times interest earned measure a company’s ability to survive over a long period of time. adidas’ debt to assets ratio indicates that approximately $.57 of every dollar invested in assets was provided by creditors. adidas’ times interest earned ratio of 3.12 indicates that its earnings are adequate to make interest payments as they come due. LO 4 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*BRIEF EXERCISE 10.15 (a) Jan. 1
(b) Dec. 31
Cash (99% $2,000,000).................. Discount on Bonds Payable............ Bonds Payable .........................
1,980,000 20,000
Interest Expense .............................. Cash ($2,000,000 7%) ............ Discount on Bonds Payable ($20,000 ÷ 10) .........
142,000
2,000,000
(Bond disc. amort. = Disc. ÷ Number of int. periods) ($2,000 = $20,000 ÷ 10) LO 5 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
140,000 2,000
*BRIEF EXERCISE 10.16 (a) Jan.
1
(b) Dec. 31
Cash (102% $4,000,000) .............. Bonds Payable......................... Premium on Bonds Payable ...
4,080,000
Interest Expense............................. Premium on Bonds Payable ($80,000 ÷ 5) ............................ Interest Payable ($4,000,000 8%) .....................
304,000
4,000,000 80,000
16,000 320,000
(Bond prem. amort. = Prem. ÷ Number of int. periods) ($16,000 = $80,000 ÷ 5) LO 5 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 10.17 (a) Interest Expense .............................................. Discount on Bonds Payable .................... Cash ..........................................................
48,070 3,070 45,000
(b) Interest expense is greater than interest paid because the bonds sold at a discount. The bonds sold at a discount because investors demanded a market interest rate higher than the contractual interest rate. Interest expense is calculated using the effective interest rate which is higher than the stated rate used to compute the cash payment. (c) Interest expense increases each period because the bond carrying value increases each period. As the market interest rate is applied to this bond carrying value, interest expense will increase. LO 6 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 10.18 (A) Interest Period Issue Date 1 2025 Dec. 31 2026 June 30
Cash Payment
(B) Interest Expense (D) 10%
(C) Reduction of Principal (A) – (B)
$130,196
$80,000
$50,196
(D) Principal Balance (D) – (C) $800,000 749,804
Cash ...................................................... Mortgage Payable .......................
800,000
Interest Expense .................................. Mortgage Payable ................................ Cash.............................................
80,000 50,196
800,000
LO 7 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
130,196
SOLUTIONS TO DO IT! EXERCISES DO IT! 10.1a 1. 2.
$60,000 10% 5/12 = $2,500 $42,000/1.05 = $40,000; $40,000 5% = $2,000
[Sales rev. = Tot. receipts ÷ (1 + sales tax rate)]; (Sales tax. pay. = Tot. receipts – Sales rev.) ($40,000 = $42,000 ÷ 1.05); ($2,000 = $42,000 – $40,000)
3.
$42,000 2/6 = $14,000
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 10.1b (a) To determine wages payable, reduce wages expense by the withholdings for FICA, federal income tax, and state income tax. Feb. 28 Salaries and Wages Expense ....................... FICA Taxes Payable .................................. Federal Income Taxes Payable................. State Income Taxes Payable..................... Salaries and Wages Payable ....................
74,000 5,661 7,100 1,900 59,339
(b) Payroll taxes would be for the company’s share of FICA, as well as for federal and state unemployment tax. Feb. 28 Payroll Tax Expense...................................... FICA Taxes Payable .................................. Federal Unemployment Taxes Payable.... State Unemployment Taxes Payable .......
5,931 5,661 110 160
LO 1 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 10.2 1. 2. 3. 4.
False. Convertible bonds can be converted into common stock at the bondholder’s option; callable bonds can be redeemed by the issuer at a set amount prior to maturity. True. True. True.
LO 2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
DO IT! 10.3a (a)
(b)
Cash ...........................................................................315,000 Bonds Payable................................................ Premium on Bonds Payable .......................... (To record sale of bonds at a premium) Long-term liabilities Bonds payable ................................................ Plus: Premium on bonds payable ................
300,000 15,000
$300,000 15,000 $315,000
LO 3 BT: AP Difficulty: 5 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 10.3b Bonds Payable ..................................................... Loss on Bond Redemption.................................. Cash ($400,000 99%) .................................... Discount on Bonds Payable .......................... (To record redemption of bonds at 99)
400,000 8,000 396,000 12,000
(Loss on redemption = Carrying value of the bond – Price pd.) [$8,000 = ($400,000 – $12,000) – ($400,000 99%)] LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 10.4 (a) Current ratio $11,500 ÷ $12,000 = .96:1 Working capital $11,500 – $12,000 = ($500) (b) Current ratio $8,500 ÷ $9,000 = .94:1 Working capital $8,500 – $9,000 = ($500) (c) Debt to assets ratio $26,000 ÷ $38,000 = 68% Times interest earned ratio ($16,000 + $3,200 + $1,300) ÷ $1,300 = 15.8 times LO 4 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
SOLUTIONS TO EXERCISES EXERCISE 10.1 2025 (a) June 1 (b) June 30
Cash .......................................................... Notes Payable...................................
15,000 15,000
Interest Expense ($15,000 .08 1/12) ............................ Interest Payable................................
100 100
(Interest exp. = Face value of note interest rate Fraction of yr. outstanding) ($100 = $15,000 .08 1/12)
(c) Interest payable accrued each month ...................... Number of months from borrowing to year end.............................................................. Balance in interest payable account ........................ 2026 (d) Jan. 1
Notes Payable........................................... Interest Payable........................................ Cash ..................................................
$100 7 $700 15,000 700 15,700
LO 1 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.2 (a) Principal .08 4/12 = $480 Principal = $480 ÷ (.08 4/12) Principal = $18,000 ($480 = Face value of note .08 4/12) (b) $18,500 Interest rate 4/12 = $555 Interest rate = $555 ÷ ($18,500 4/12) Interest rate = 9 percent ($555 = $18,500 Interest rate 4/12) (c) Initial Borrowing: May 15
Cash ........................................................ Notes Payable .................................
18,000 18,000
EXERCISE 10.2 (Continued) Repayment: Sept. 15
Notes Payable.......................................... Interest Expense ..................................... Cash..................................................
18,000 480 18,480
LO 1 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.3 (a) June 1 (b) June 30
Cash ...............................................................60,000 Notes Payable ..................................... Interest Expense ($60,000 .08 1/12)..... Interest Payable ..................................
60,000
400 400
(Interest expense = Face value of note interest rate Fraction of yr. outstanding) ($400 = $60,000 .08 1/12)
(c) Dec.
1
Notes Payable ................................................60,000 Interest Payable ($60,000 .08 6/12) ...........2,400 Cash.....................................................
62,400
(Interest payable = Face value of note interest rate Fraction of yr. outstanding) ($2,400 = $60,000 .08 6/12)
(d) Interest expense accrued each month ........................ $ 400 Number of months of loan ........................................... 6 Total interest expense .................................................... $2,400 LO 1 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.4 July 1, 2025 Cash ................................................................................. Notes Payable.........................................................
50,000
November 1, 2025 Cash ................................................................................. Notes Payable.........................................................
60,000
December 31, 2025 Interest Expense ($50,000 8% 6/12).......................... Interest Payable......................................................
2,000
50,000
60,000
2,000
EXERCISE 10.4 (Continued) Interest Expense…($60,000 6% 2/12) ....................... Interest Payable......................................................
600
February 1, 2026 Notes Payable.................................................................. Interest Payable............................................................... Interest Expense ($60,000 6% 1/12)......................... Cash ........................................................................
60,000 600 300
April 1, 2026 Notes Payable.................................................................. Interest Payable............................................................... Interest Expense ($50,000 8% 3/12)......................... Cash ........................................................................
50,000 2,000 1,000
600
60,900
53,000
LO 1 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.5 Apr. 10
15
CERVIQ COMPANY Cash ....................................................................... 23,100 Sales Revenue.............................................. Sales Taxes Payable ....................................
22,000 1,100
QUARTZ COMPANY Cash........................................................................ 13,780 Sales Revenue ($13,780 ÷ 1.06)................... Sales Taxes Payable ($13,780 – $13,000) ...
13,000 780
[Sales revenue = Total receipts ÷ (1 + sales tax rate)] ($13,000 = $13,780 ÷ 1.06) LO 1 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.6 (a) Mar. 31
(b) Mar. 31
Salaries and Wages Expense ............... FICA Taxes Payable....................... Federal Income Taxes Payable ..... State Income Taxes Payable ......... Union Dues Payable ...................... Salaries and Wages Payable.........
64,000
Payroll Tax Expense ............................. FICA Taxes Payable....................... State Unemployment Taxes Payable .......................................
5,596
4,896 7,500 3,100 400 48,104 4,896 700
LO 1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.7 (a) Net pay = Gross pay – FICA taxes – Federal income tax Net pay = $1,780 − $136 − $303 Net pay = $1,341 (b) Salaries and Wages Expense ................................ FICA Taxes Payable ........................................ Federal Income Taxes Payable ...................... Salaries and Wages payable ..........................
1,780
(c) Salaries and Wages Payable.................................. Cash .................................................................
1,341
136 303 1,341
1,341
LO 1 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.8 Payroll Tax Expense ...................................................... FICA Taxes Payable ........................................ Federal Unemployment Taxes Payable ......... State Unemployment Taxes Payable .............
244.38
LO 1 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
137.68 13.77 92.93
EXERCISE 10.9 (a) $1,728,000 ÷ $320 = 5,400 season tickets sold. (b) $1,728,000 ÷ 16 home games = $108,000 revenue recognized per home game. $1,188,000 ÷ $108,000 = 11 home games already played. (c) Cash......................................................................... 1,728,000 Unearned Ticket Revenue............................... 1,728,000 (d) Unearned Ticket Revenue ...................................... Ticket Revenue ................................................
108,000 108,000
LO 1 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.10 (a) Nov. (b) Dec. 31
(c) Mar. 31
Cash (6,300 $28) ................................ Unearned Subscription Revenue.
176,400
Unearned Subscription Revenue ........ Subscription Revenue ($176,400 1/12).........................
14,700
Unearned Subscription Revenue ........ Subscription Revenue ($176,400 3/12).........................
44,100
176,400
14,700
LO 1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.11 1. True. 2. True. 3. False. Unsecured bonds are also known as debenture bonds. 4. True. 5. True. 6. True. 7. True. LO 1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
44,100
EXERCISE 10.12 2025 (a) Aug. 1
Cash ....................................................... Bonds Payable ...............................
600,000 600,000
(b) Dec. 31
Interest Expense ................................... 17,500 Interest Payable ($600,000 7% 5/12) ................ 17,500 (Interest expense = Face value of bond stated interest rate 5/12)
2026 (c) Aug. 1
Interest Expense ($600,000 7% 7/12) ........................ Interest Payable..................................... Cash ($600,000 7%) ....................
24,500 17,500 42,000
(Interest expense = Face value of bond stated interest rate Fraction of yr. outstanding) ($24,500 = $600,000 7% 7/12) LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.13 (a) Jan. 1
(b) Dec. 31
(c) Jan. 1
Cash ....................................................... Bonds Payable ...............................
300,000
Interest Expense.................................... Interest Payable ($300,000 8%) ...........................
24,000
Interest Payable ..................................... Cash................................................
24,000
300,000
24,000
LO 3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
24,000
EXERCISE 10.14 (a) Jan.
1
Cash ($600,000 1.03) ........................... Bonds Payable ................................ Premium on Bonds Payable .........
618,000 600,000 18,000
(Cash received = Face value of bond Issue %) ($618,000 = $600,000 103%)
(b) Long-term Liabilities Bonds Payable, due 2035.............................. Add: Premium on Bonds Payable ................
$600,000 10,800 $610,800
(c) The bonds sold for more than their face value because the contract interest rate (6%) was higher than the market interest rate. When the contract rate is higher than the market rate, bonds will sell at a premium. LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.15 (a) Jan.
1
Cash ($500,000 .96) .......................... Discount on Bonds Payable ................ Bonds Payable ..............................
480,000 20,000 500,000
(Cash received = Face value of bond Issue %) ($480,000 = $500,000 96%)
(b) Long-term Liabilities Bonds Payable, due 2040 .................................. $500,000 Less: Discount on Bonds Payable ............... 12,000 $488,000 (c) The bonds sold for less than their face value because the contract interest rate (7%) was lower than the market interest rate. When the contract rate is lower than the market rate, the bonds will sell at a discount. LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.16 (a) The General Electric bonds were issued at a premium and the Boeing bonds were issued at a discount.
EXERCISE 10.16 (Continued) (b) The prices of the two bonds differed because bond price is based on the market rate of interest, not the stated rate of interest. Market interest rates must have been different when the two bonds were issued causing the selling prices to differ. (c) Cash (111.12% $800,000)..................................... Bonds Payable.................................................. Premium on Bonds Payable ............................
888,960
Cash (99.08% $800,000)....................................... Discount on Bonds Payable .................................. Bonds Payable..................................................
792,640 7,360
800,000 88,960
800,000
(Cash received = Face value of bond Issue price) ($792,640 = $800,000 99.08%) LO 3 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.17 2025 (a) Jan. 1 (b) Dec. 31
2026 (c) Jan. 1 2045 (d) Jan. 1
Cash ....................................................... Bonds Payable ...............................
350,000
Interest Expense.................................... Interest Payable ($350,000 8%) ...........................
28,000
Interest Payable ..................................... Cash................................................
28,000
Bonds Payable....................................... Cash................................................
350,000
350,000
28,000
28,000
350,000
LO 3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.18 (a) April 30
Bonds Payable...................................... Loss on Bond Redemption .................. Cash ($140,000 101%)................ Discount on Bonds Payable ($140,000 – $126,500)................
140,000 14,900* 141,400 13,500
EXERCISE 10.18 (Continued) [Loss on redemption = Carrying value of bond – (face value of bond % pd.)] [$14,900 = ($140,000 – $13,500) – ($140,000 101%)]
$126,500 – (101% $140,000) (b) June 30
Bonds Payable ..................................... Premium on Bonds Payable ............... Cash ($170,000 98%) ................. Gain on Bond Redemption ..........
170,000 14,000 166,600 17,400**
[Gain on redemption = Carrying value of bond – (face value of bond % pd.)] [$17,400 = ($170,000 + $14,000) – ($170,000 98%)]
**$184,000 – (98% $170,000) LO 3 BT: AP Difficulty: Hard TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.19 (a)
Account
Classification
Reason
Accounts payable Unearned rent revenue Bonds payable Current portion of mortgage payable Income taxes payable Mortgage payable Notes payable (due in 2028) Salaries and wages payable Notes payable (due in 2026) Warranty liability—current
Current liability Current liability Long-term liability Current liability
Due within one year Due within one year Not due within one year Due within one year
Current liability Long-term liability Long-term liability
Due within one year Not due within one year Not due within one year
Current liability Current liability Current liability
Due within one year Due within one year Can be current and/or long-term depending on the length of the warranty. Given as current
EXERCISE 10.19 (Continued) (b)
SANCHEZ INC. Balance Sheet (Partial) December 31, 2025 (in thousands) Current liabilities Notes payable ............................................ Accounts payable...................................... Current portion of mortgage payable....... Warranty liability........................................ Unearned rent revenue ............................. Salaries and wages payable ..................... Income taxes payable ............................... Total current liabilities.......................... Long-term liabilities Mortgage payable ...................................... Bonds payable........................................... Notes payable ............................................ Total long-term liabilities .................... Total liabilities...................................................
$2,563.6 4,263.9 1,992.2 1,417.3 1,058.1 858.1 265.2 $12,418.4 $6,746.7 1,961.2 335.6 9,043.5 $21,461.9
LO 4 BT: AP Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 10.20 (a) (b) (c) (d)
Working capital = $3,416.3 – $2,988.7 = $427.6 (in millions) Current ratio = $3,416.3 ÷ $2,988.7 = 1.14:1 Debt to assets ratio = $16,191.0 ÷ $30,224.9 = 54% Times interest earned = ($4,551.0 + $1,936.0 + $473.2) ÷ $473.2 = 14.71 times
[Times interest earned = (Net income + Interest expense + Income taxes) ÷ Interest expense] [14.71 times = ($4,551.0 + $1,936.0 + $473.2) ÷ $473.2]
A current ratio of 1.14 indicates lower liquidity. The debt to assets ratio indicates that $.54 of each dollar of assets have been financed by creditors. The times interest earned of over 14 times indicates that McDonald’s income is large enough to make required interest payments as they come due. LO 4 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 10.21 (a) Current ratio 2025 2024
$10,795 ÷ $4,897 = 2.20:1 $9,598 ÷ $5,839 = 1.64:1
(b) Current ratio $10,495 ÷ $4,597 = 2.28:1 It would make its current ratio increase from 2.20 to 2.28. LO 4 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 10.22 (a) Current ratio 2025 2024
$6,244 ÷ $4,503 = 1.39:1 $3,798 ÷ $2,619 = 1.45:1
(b) Current ratio ($6,244 – $1,500) ÷ ($4,503 – $1,500) = 1.58:1 It would make its current ratio increase (from 1.39:1 to 1.58:1). (c) The liquidity ratios would not change but having access to a line of credit means that cash is available on a short-term basis and therefore the assessment of the company’s short-term liquidity would improve. LO 4 BT: AN Difficulty: EASY TOT: 7 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
EXERCISE 10.23 (a)
The company does not have to record these contingencies because they have determined that they are not likely to occur and the impact would be immaterial in any event.
(b) For financial statement users it is important to understand the possible implications that the contingencies could have on the financial results of the company. If the contingencies result in material losses for the company it will negatively impact the company’s financial results and affect the decisions made by the users of the financial statements. LO 4 BT: C Difficulty: Medium TOT: 6 min. AACSB: Knowedge AICPA AC: Reporting
EXERCISE 10.24 5 ____
(a) The value today of an amount to be received at some date in the future after taking into account current interest rates.
10 _ (b) Bonds that have specific assets of the issuer pledged as _____ collateral. 9 (c) Events with uncertain outcomes that may represent potential ____ liabilities. 15 _ (d) Bonds that can be converted into common stock at the _____ bondholder’s option. 1 ____
(e) A legal document that indicates the name of the issuer, the face value of the bonds, and other data such as the contractual interest rate and the maturity date of the bonds.
7 ____
(f)
6 ____
(g) The date on which the final payment on a bond is due from the bond issuer to the investor.
Bonds that the issuing company can redeem (buy back) at a stated dollar amount prior to maturity.
11 _ (h) Rate used to determine the amount of interest the issuer pays _____ and the investor receives
EXERCISE 10.24 (Continued) 3 ____
(i)
4 ____
(j) A measure of a company’s solvency, calculated by dividing the sum of net income, interest expense, and income tax expense by interest expense.
8 ____
(k) The rate investors corporation.
14 _ (I) _____
The difference between the face value of a bond and its selling price when a bond is sold for less than its face value.
demand
for
loaning
funds
to
the
Amount of principal due at the maturity date of the bond.
12 _ (m) Bonds issued against the general credit of the borrower. _____ 13 _ (n) The intentional effort by a company to structure its financing _____ arrangements so as to avoid showing liabilities on its balance sheet. 2 ____
(o) The difference between the selling price and the face value of a bond when a bond is sold for more than its face value.
LO 1,2,3,4 BT: K Difficulty: Ensg TOT: 7 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
*EXERCISE 10.25 2025 (a) Jan. 1
Cash ($500,000 103%)....................... Bonds Payable ............................. Premium on Bonds Payable ........
515,000 500,000 15,000
(Cash received = Face value of bond Issue %) ($515,000 = $500,000 103%)
(b) Dec. 31
Interest Expense .................................. Premium on Bonds Payable ($15,000 1/30) ................................. Interest Payable ($500,000 6%)..........................
29,500
(Amortization of premium = Premium on bonds payable ÷ Number of interest periods) ($500 = $15,000 ÷ 30)
500 30,000
EXERCISE 10.25 (Continued) 2026 (c) Jan. 1
2055 (d) Jan. 1
Interest Payable .................................... Cash...............................................
30,000
Bonds Payable...................................... Cash...............................................
500,000
30,000
500,000
LO 3, 5 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 10.26 2024 (a) Dec. 31
2025 (b) Dec. 31
Cash ...................................................... Discount on Bonds Payable ................ Bonds Payable ..............................
288,000 12,000
Interest Expense................................... Cash ($300,000 8%).................... Discount on Bonds Payable ($12,000 1/15)...........................
24,800
300,000
24,000 800
(Amortization of discount = Discount on bonds payable ÷ Number of interest periods) ($800 = $12,000 ÷ 15)
2039 (c) Dec. 31
Bonds Payable...................................... Cash...............................................
300,000
LO 3, 5 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
300,000
*EXERCISE 10.27 2025 (a) Jan. 1
(b) Dec. 31
Cash ....................................................... Discount on Bonds Payable................. Bonds Payable...............................
360,727 39,273
Interest Expense ($360,727 8%)........ Interest Payable ($400,000 7%)........................... Discount on Bonds Payable .........
28,858
400,000
28,000 858
(Interest expense = Carrying value of bond effective interest rate) ($28,858 = $360,727 8%)
2026 (c) Jan. 1
Interest Payable .................................... Cash ...............................................
28,000
For explanation of calculations, see the following table.
28,000
Copyright © 2022 John Wiley & Sons, Inc.
(b), (c) (A)
Kimmel, Financial Accounting, 10e, Solutions Manual
Interest Periods Issue date 1 2
(B) Interest Expense to Be Recorded Interest to (8% X Preceding Be Paid Bond Carrying Value) [(E) X .08] (7% $400,000) 28,000 28,000
28,858 28,927
(C)
(D)
Discount Amortization (B) – (A)
Unamortized Discount (D) – (C)
858 927
39,273 38,415 37,488
LO 3, 6 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
(For Instructor Use Only)
10-31
*EXERCISE 10.28 2025 (a) Jan. 1
(b) Dec. 31
Cash....................................................... Bonds Payable .............................. Premium on Bonds Payable .........
407,968
Interest Expense ($407,968 6%)........ Premium on Bonds Payable ................ Interest Payable ($380,000 7%)...........................
24,478 2,122
380,000 27,968
26,600
(Interest expense = Carrying value of bond effective interest rate) ($24,478 = $407,968 6%)
2026 (c) Jan. 1
Interest Payable .................................... Cash ...............................................
26,600
For explanation of calculations, see the following table.
26,600
10-33 Copyright © 2022 John Wiley & Sons, Inc.
(b), (c) (A)
Interest Periods
Kimmel, Financial Accounting, 10e, Solutions Manual
Issue date 1 2
(B) Interest Expense to Be Recorded (6% X Preceding Interest to Bond Carrying Value) Be Paid (7% X $380,000) [(E) X .06]
26,600 26,600
24,478 24,351
(C)
(D)
Premium Amortization (A) – (B)
Unamortized Premium (D) – (C)
2,122 2,249
27,968 25,846 23,597
LO 3, 6 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
(For Instructor Use Only)
*EXERCISE 10.29 2025
2026
2027
Dec. 31
Dec 31
Dec. 31
Issuance of Note Cash ................................................ Mortgage Payable ...................
300,000
First Installment Payment Interest Expense ($300,000 10%) ......................... Mortgage Payable........................... Cash......................................... Second Installment Payment Interest Expense [($300,000 – $20,000) 10%]...... Mortgage Payable........................... Cash.........................................
300,000
30,000 20,000 50,000
28,000 22,000 50,000
For reference for explanation of how the principle and interest components of each payment is calculated, see the following amortization table: (A) Annual Interest Period Issue date 12/31/26 12/31/27
Cash Payment
(B) Interest Expense (D 10%)
(C) Reduction of Principal (A) – (B)
$50,000 50,000
$30,000 28,000
$20,000 22,000
LO 7 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
(D) Principal Balance (D) – (C) $300,000 280,000 258,000
*EXERCISE 10.30 (A) Annual Interest Period 1/1/2025 1/1/2026
Cash Payment
(B) Interest Expense (D) 10%
(C) Reduction of Principal (A) – (B)
$8,137
$5,000
$3,137
(D) Principal Balance (D) – (C) $50,000 46,863
WAITE CORPORATION Balance Sheet (Partial) December 31, 2025 Current liabilities Current portion of long-term debt .............................................. Interest payable ...........................................................................
$3,137 5,000
Long-term liabilities Notes payable ..............................................................................
46,863
LO 7 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO PROBLEMS PROBLEM 10.1
(a)
Jan. 1 5
12 14 20
Cash .......................................................... Notes Payable...................................
18,000
Cash .......................................................... Sales Revenue ($6,254 ÷ 1.06) ......... Sales Taxes Payable ($6,254 – $5,900) ...........................
6,254
Unearned Service Revenue ..................... Service Revenue...............................
10,000
Sales Taxes Payable ................................ Cash ..................................................
6,600
Accounts Receivable ............................... Sales Revenue .................................. Sales Taxes Payable (500 $48 6%) ............................
25,440
18,000 5,900 354 10,000 6,600 24,000 1,440
[Sales revenue = Total cash receipts ÷ (1 + sales tax rate)] ($24,000 = $25,440 ÷ 1.06)
(b) Jan. 31
31
31
Interest Expense ...................................... Interest Payable ($18,000 5% 1/12) ....................
75
Salaries and Wages Expense.................. FICA Taxes Payable ......................... Federal Income Taxes Payable........ State Income Taxes Payable............ Salaries and Wages Payable ...........
70,000
Payroll Tax Expense ................................ FICA Taxes Payable .........................
5,355
75 5,355 5,000 1,500 58,145 5,355
PROBLEM 10.1 (Continued) (c) Current liabilities Notes payable................................................................. $ 18,000 Accounts payable .......................................................... 42,500 Salaries and wages payable.......................................... 58,145 FICA taxes payable ($5,355 2) .................................... 10,710 Unearned service revenue ($19,000 – $10,000)............ 9,000 Federal income taxes payable....................................... 5,000 Sales taxes payable ....................................................... 1,794* State income taxes payable .......................................... 1,500 Interest payable .................................................................. 75 Total current liabilities ........................................... $146,724 *($6,600 + $354 – $6,600 + $1,440) LO 1, 4 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 10.2
(a)
Sept. 1 30
Oct.
1
31
Inventory ................................................... Notes Payable ...................................
12,000 12,000
Interest Expense ($12,000 .06 1/12) ............................ Interest Payable ................................ Equipment................................................. Notes Payable ...................................
60 60 16,500 16,500
Interest Expense [($16,500 .08 1/12) + $60] ................ Interest Payable ................................
170 170
[Int. exp. = Pippen int. (Prin. Int. rate 1 mo.) + Prime int. (Prin. Int. rate 1 mo.)] [$170 = ($12,000 .06 1/12) + ($16,500 .08 1/12)]
Nov.
1
30
Dec.
1
31
Equipment................................................. Notes Payable ................................... Cash................................................... Interest Expense [($26,000 .06 1/12) + $110 + $60] .... Interest Payable ................................
34,000 26,000 8,000 300 300
Notes Payable........................................... Interest Payable ........................................ Cash...................................................
12,000 180
Interest Expense ($110 + $130)................ Interest Payable ................................
240
12,180 240
PROBLEM 10.2 (Continued) (b) Notes Payable 12/1 12,000 9/1 12,000 10/1 16,500 11/1 26,000 12/31 Bal. 42,500 12/1
Interest Payable 180 9/30 10/31 11/30 12/31 12/31 Bal.
60 170 300 240 590
Interest Expense 9/30 60 10/31 170 11/30 300 12/31 240 12/31 Bal. 770 (c) Current liabilities Notes payable..................................................................... Interest payable.................................................................. (d) Total interest expense is $770. See (b) above. LO 1, 4 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
42,500 590
PROBLEM 10.3
(a) Jan. 1 (b) Jan. 1
Interest Payable ................................ Cash ...........................................
40,000
Bonds Payable .................................. Loss on Bond Redemption .............. Cash ($200,000 103%) ............
200,000 6,000
40,000
206,000
(Cash pd. = Face value of bond % pd.) ($206,000 = $200,000 103%)
(c) Dec. 31
Interest Expense ............................... Interest Payable ($300,000 8%).......................
24,000
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
24,000
PROBLEM 10.4
2024 (a) Oct. 1 (b) Dec. 31
Cash .................................................. Bonds Payable ..........................
700,000
Interest Expense............................... Interest Payable ($700,000 5% 3/12)............
8,750
700,000
8,750
(Interest expense = Face value of bond Interest rate Fraction of yr. outstanding) [$8,750 = $700,000 5% (3/12)]
(c) Current Liabilities Interest payable ............................................ Long-term Liabilities Bonds payable .............................................. 2025 (d) Oct. 1
Interest Expense ($700,000 5% 9/12) ................... Interest Payable ................................ Cash ($700,000 5%)................
8,750 700,000
26,250 8,750 35,000
(Interest expense = Face value of bond Interest rate Fraction of yr. outstanding) [$26,250 = $700,000 5% (9/12)]
(e) Dec. 31
(f)
2026 Jan. 1
Interest Expense............................... Interest Payable ........................
8,750
Interest Payable ................................ Cash...........................................
8,750
Bonds Payable.................................. Loss on Bond Redemption .............. Cash ($700,000 104%)............
700,000 28,000
8,750
8,750
Loss on redemption = Carrying value of bond – (Face value of bond 1.04)) LO 3, 4 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
728,000
PROBLEM 10.5
2025 (a) Jan. 1
Cash ($6,000,000 98%)................ Discount on Bonds Payable ......... Bonds Payable .......................
5,880,000 120,000 6,000,000
(Cash received = Face value of bond Issue %) ($5,880,000 = $6,000,000 98%)
(b) Long-term Liabilities Bonds Payable, due 2040 ........................... $6,000,000 Less: Discount on bonds payable ........ 112,000 $5,888,000 2027 (c) Jan. 1
Bonds Payable ............................... Loss on Bond Redemption ($6,120,000 – $5,896,000)........... Cash ($6,000,000 102%) ...... Discount on Bonds Payable ...............................
6,000,000 224,000
*$6,000,000 – $5,896,000 (Loss on redemption = Carrying value of bond – (Face value of bond % pd.)) [$224,000 = ($6,000,000 – $104,000) – ($6,000,000 102%)] LO 3, 4 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
6,120,000 104,000*
PROBLEM 10.6
(a) 1. Current ratio 2. Debt to assets ratio 3. Times interest earned
2025 $2,893 ÷ $2,806 = 1.03:1 $9,355 ÷ $14,308 = 65% $4081 ÷ $130 = 3.14 times
2024 $4,443 ÷ $4,836 = .92:1 $9,831 ÷ $16,772 = 59% $1,1772 ÷ $119 = 9.89 times
1$178 + $100 + $130 = $408 2$645 + $413 + $119 = $1,177
(b) The company’s position as measured through all ratios except the current ratio has deteriorated. Southwest appears to be much less liquid and solvent when comparing 2025 to 2024. LO 4 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*PROBLEM 10.7
2025 (a) Jan. 1
(b) Dec. 31
Interest Payable ................................ Cash ...........................................
96,000
Interest Expense ............................... Interest Payable ($2,400,000 4%)................... Discount on Bonds Payable ($24,000 ÷ 10).........................
98,400
96,000
96,000 2,400
(Amortization of discount = Discount on bonds payable ÷ Number of interest periods) ($2,400 = $24,000 ÷ 10)
2026 (c) Jan. 1
Bonds Payable .................................. Loss on Bond Redemption .............. Cash ($400,000 102%) ............ Discount on Bonds Payable .....
400,000 11,600 408,000 3,600*
*($24,000 – $2,400) ($400,000/$2,400,000) = $3,600 (Loss on redemption = Carrying value of bond – (Face value of bond 1.02)) [$11,600 = ($400,000 – $3,600) – ($400,000 102%)]
(d) Dec. 31
Interest Expense ............................... Interest Payable......................... Discount on Bonds Payable .....
82,000 80,000** 2,000*
(Amortization of discount = Remaining discount balance ÷ Remaining number of interest periods) [$2,000 = ($24,000 – $2,400 – $3,600) ÷ 9]
*$24,000 – $2,400 – $3,600 = $18,000; $18,000 ÷ 9 = $2,000 or $2,400 $2,000,000/$2,400,000 = $2,000 **($2,400,000 – $400,000 = $2,000,000; $2,000,000 4% = $80,000) LO 3, 5 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 10.8
(a)
Jan. 1
Dec. 31
Cash ($2,000,000 102%) ............... Bonds Payable ......................... Premium on Bonds Payable....
2,040,000
Interest Expense.............................. Premium on Bonds Payable ($40,000 ÷ 5) ................................ Interest Payable ($2,000,000 7%) .................
132,000
2,000,000 40,000
8,000 140,000
(Amortization of premium = (Cash received – Face value of bond) ÷ Number of interest periods) [$8,000 = ($2,040,000 – $2,000,000) ÷ 5]
(b) Jan. 1
Dec. 31
Cash ($2,000,000 97%) ................. Discount on Bonds Payable ........... Bonds Payable .........................
1,940,000 60,000
Interest Expense.............................. Interest Payable ....................... Discount on Bonds Payable ($60,000 ÷ 5) ...........
152,000
2,000,000 140,000 12,000
(Amortization of discount = (Face value of bond – Cash received) ÷ Number of interest periods) [$12,000 = ($2,000,000 – $1,940,000) ÷ 5]
(c) Premium Current Liabilities Interest payable........................................
$ 140,000
Long-term Liabilities Bonds payable, due 2030 ............................. $2,000,000 Add: Premium on bonds payable .......... 32,000
2,032,000
Discount Current Liabilities Interest payable........................................
$ 140,000
Long-term Liabilities Bonds payable, due 2030 ............................. $2,000,000 Less: Discount on bonds payable ......... 48,000
1,952,000
LO 3 – 5 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 10.9
(a) 1.
2.
1/1/25
1/1/25
Cash ($3,000,000 103%) ....... Bonds Payable ................. Premium on Bonds Payable .........................
3,090,000
Cash ($3,000,000 98%) ......... Discount on Bonds Payable................................. Bonds Payable .................
2,940,000
3,000,000 90,000
60,000 3,000,000
(Premium/discount = (Face value of bond issue price) – Face value of bond) [(1. $90,000 = ($3,000,000 103%) – $3,000,000); (2. $60,000 = ($3,000,000 98%) – $3,000,000)]
(b) See amortization tables on following page. (c) 1.
2.
12/31/25
12/31/25
Interest Expense...................... Premium on Bonds Payable................................. Interest Payable ...............
231,000
Interest Expense...................... Interest Payable ............... Discount on Bonds Payable .........................
246,000
9,000 240,000 240,000 6,000
(Amortization of premium/discount = (Cash received – Face value of bond) ÷ Number of interest periods) [(1. $9,000 = ($3,090,000 – $3,000,000) ÷ 10); (2. $6,000 = ($2,940,000 – $3,000,000) ÷ 10)]
(d) 1.
Long-term Liabilities: Bonds payable ........................................$3,000,000 Add: Unamortized bond premium ................................... 81,000 $3,081,000
2.
Long-term Liabilities: Bonds payable ........................................$3,000,000 Less: Unamortized bond discount ................................... 54,000 $2,946,000
10-47
(b) , (1) Copyright © 2022 John Wiley & Sons, Inc.
Annual Interest Periods Issue date 1 2 3
(A) Interest to Be Paid (8% X $3,000,000)
(B) Interest Expense to Be Recorded (A) – (C)
(C) Premium Amortization ($90,000 ÷ 10)
(D) Unamortized Premium (D) – (C)
Kimmel, Financial Accounting, 10e, Solutions Manual
$240,000 240,000 240,000
$231,000 231,000 231,000
$9,000 9,000 9,000
$90,000 81,000 72,000 63,000
(A) Interest to Be Paid (8% x $3,000,000)
(B) Interest Expense to Be Recorded (A) + (C)
(C) Discount Amortization ($60,000 ÷ 10)
(D) Unamortized Discount (D) – (C)
$6,000 6,000 6,000
$60,000 54,000 48,000 42,000
(2) Annual Interest Periods Issue date 1 2 3
$240,000 240,000 240,000
$246,000 246,000 246,000
LO 3 - 5 BT: AP Difficulty: Hard TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
(For Instructor Use Only)
*PROBLEM 10.10
2025 (a) Jan. 1
(b)
Cash................................................. Discount on Bonds Payable .......... Bonds Payable ........................
1,667,518 132,482 1,800,000
LACHTE CORP. Bond Discount Amortization Effective-Interest Method—Annual Interest Payments 5% Bonds Issued at 6% (B) (C) (D) (E) Interest Discount UnamorBond Interest Expense Amortized Carrying to Be to Be tization Discount Value Paid Recorded (B) – (A) (D) – (C) ($1,800,000 – D) (A)
Annual Interest Periods
Issue date 1 $90,000 2 90,000 3 90,000 (c) Dec. 31
$100,051 100,654 101,293
$10,051 10,654 11,293
$132,482 122,431 111,777 100,484
$1,667,518 1,677,569 1,688,223 1,699,516
Interest Expense ($1,667,518 6%) ..................................... 100,051 Interest Payable ($1,800,000 5%).......................... Discount on Bonds Payable ............
90,000 10,051
(Interest expense = Carrying value of bond effective interest rate) ($90,000 = $1,800,000 5%)
2026 (d) Jan. 1
(e) Dec. 31
Interest Payable ....................................... Cash ..................................................
90,000
Interest Expense [($1,667,518 + $10,051) 6%] .................. 100,654 Interest Payable................................ Discount on Bonds Payable ............
LO 3, 6 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
90,000
90,000 10,654
*PROBLEM 10.11
(a) 1.
2.
3. 4.
Jan. 1
Dec. 31
Jan. 1 Dec. 31
2025 Cash ............................................... 2,147,202 Bonds Payable ................... Premium on Bonds Payable ........................... Interest Expense ($2,147,202 6%) ................... Premium on Bonds Payable ................................... Interest Payable ($2,000,000 7%)............ 2026 Interest Payable ......................... Cash .................................... Interest Expense ........................ [($2,147,202 – $11,168) 6%] Premium on Bonds Payable ................................... Interest Payable..................
2,000,000 147,202
128,832 11,168 140,000
140,000 140,000 128,162 11,838 140,000
(Interest expense = Carrying value of bond effective interest rate) [$128,162 = ($2,147,202 – $11,168) 6%]
(b) Bonds payable ....................................................... 2,000,000 Add: Premium on bonds payable ..................... 124,196*
2,124,196
*($147,202 – $11,168 – $11,838) (c) 1.
Total bond interest expense—2026, $128,162.
2. The effective-interest method will result in more interest expense reported than the straight-line method in 2026 when the bonds are sold at a premium. Straight-line interest expense for 2026 is $125,280 [$140,000 – ($147,202 ÷ 10)]. LO 3, 4, 6 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 10.12
(a)
(A) Annual Interest Period
Cash Payment
(B) Interest Expense (D) x 8%
(C) Reduction of Principal (A) – (B)
Issue Date 1 $80,146 $25,600 $54,546 2 80,146 21,236 58,910 3 80,146 16,524 63,622 4 80,146 11,434 68,712 5 80,146 5,936* 74,210 * Rounded to make principal element equal to balance. (b) Dec. 31
Mortgage Payable ................................ Interest Expense .................................. Cash...............................................
(D) Principal Balance (D) – (C) $320,000 265,454 206,544 142,922 74,210 0
54,546 25,600 80,146
(c) Current liabilities Current portion of mortgage payable ...........
$ 58,910
Long-term liabilities Mortgage payable........................................... Total liabilities .................................
206,544 $265,454
LO 4, 7 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 10.13
(a) Cash Payment (A)
Period July 1, 2024 June 30, 2025 June 30, 2026 June 30, 2027 June 30, 2028 June 30, 2029 Total
$ 36,584 36,584 36,584 36,584 36,584 $182,920
Interest Principal Expense Reduction (B) = (D) 7% (C) = (A) – (B) $10,500 8,674 6,720 4,630 2,396* $32,920
$ 26,084 27,910 29,864 31,954 34,188 $150,000
Balance (D) = (D) – (C) $150,000 123,916 96,006 66,142 34,188 0
*Rounded to make principal element equal to balance. (b) July
2024 Cash................................................... Notes Payable ..............................
June 2025
June 2026
150,000 150,000
Notes Payable ................................... Interest Expense ............................... Cash..............................................
26,084 10,500
Notes Payable ................................... Interest Expense ............................... Cash..............................................
27,910 8,674
(c) 2026 Current liabilities Current portion of long-term debt ..................... Long-term liabilities Note payable ($96,006 – $29,864).......................
36,584
36,584
$29,864 $66,142
LO 4, 7 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
CC10
CONTINUING CASE: COOKIE CREATIONS
(a)
$2,000 9% 2.5/12 = $38
(b)
Total interest expense and interest payable $2,000 9% 9.5/12 = $143 Entry required $143 – $38 accrued to January 31 = $105 Aug. 31 Interest Expense ............................................. Interest Payable .......................................
(c)
Sept. 15
105
Notes Payable ................................................... 2,000 Interest Payable ($38 + $105) ......................... 143 Interest Expense [$2,150 – ($2,000 + $143)].. 7 Cash ($2,000 + ($2,000 9% 10/12)).....
105
2,150
ACR10
(a)
ACCOUNTING CYCLE REVIEW
1. Interest Payable .............................................. Cash .........................................................
2,500
2. Inventory ......................................................... Accounts Payable ...................................
241,100
3. Cash................................................................. Sales Revenue......................................... Sales Taxes Payable ...............................
508,800
Cost of Goods Sold ........................................ Inventory..................................................
265,000
4. Accounts Payable........................................... Cash .........................................................
230,000
5. Interest Expense ............................................. Cash .........................................................
2,500
6. Insurance Expense ......................................... Prepaid Insurance ...................................
5,600
7. Prepaid Insurance .......................................... Cash .........................................................
10,200
8. Sales Taxes Payable....................................... Cash .........................................................
17,000
9. Other Operating Expenses............................. Cash .........................................................
91,000
10. Interest Expense ............................................. Cash .........................................................
2,500
Bonds Payable................................................ Cash ......................................................... Gain on Bond Redemption .....................
50,000
2,500 241,100 480,000 28,800 265,000 230,000 2,500 5,600 10,200 17,000 91,000 2,500 48,000 2,000
ACR10 (Continued) 11.
Cash (90,000 103%)...................................... Bonds Payable ........................................ Premium on Bonds Payable ...................
92,700 90,000 2,700
Adjusting Entries
(b)
1. Insurance Expense ($10,200 5/12) .............. Prepaid Insurance ...................................
4,250
2. Depreciation Expense ($38,000 – $3,000) ÷ 5 .... Accumulated Depreciation— Equipment.............................................
7,000
3. Income Tax Expense ($104,150 x 30%) ......... Income Taxes Payable ............................
31,245
4,250
7,000 31,245
AIMES CORPORATION Trial Balance 12/31/2025 Account Cash ............................................................ Inventory..................................................... Prepaid Insurance ...................................... Equipment .................................................. Accumulated Depreciation—Equipment .. Accounts Payable ...................................... Sales Taxes Payable .................................. Income Taxes Payable ............................... Bonds Payable ........................................... Premium on Bonds Payable...................... Common Stock........................................... Retained Earnings...................................... Sales Revenue............................................ Cost of Goods Sold.................................... Depreciation Expense................................ Insurance Expense .................................... Other Operating Expenses ........................ Interest Expense ........................................ Gain on Bond Redemption ........................ Income Tax Expense..................................
Debit $227,800 6,850 5,950 38,000
Credit
$
7,000 24,850 11,800 31,245 90,000 2,700 25,000 13,100 480,000
265,000 7,000 9,850 91,000 5,000 2,000 31,245 $687,695
$687,695
ACR10 (Continued) (a) and (b)
Bal.
Bal.
Bal. Bal.
Optional T accounts
Cash 30,000 508,800 92,700
2,500 230,000 2,500 10,200 17,000 91,000 2,500 48,000
227,800 Inventory 30,750 241,100 6,850
265,000
Interest Payable 2,500 Bal. Bal.
Sales Taxes Payable 17,000 28,800 Bal. 11,800 Income Taxes Payable 31,245
Bonds Payable 50,000 Bal. Bal.
Bal.
Prepaid Insurance 5,600 10,200 5,950
Bal.
Equipment 38,000
Bal.
5,600 4,250
Accumulated Depreciation—Equipment 7,000
Accounts Payable 13,750 230,000 Bal. 241,100 Bal. 24,850
2,500 0
50,000 90,000 90,000
Premium on Bonds Payable 2,700
Common Stock Bal.
25,000
Retained Earnings Bal. 13,100
Sales Revenue 480,000
ACR10 (Continued) (a) and (b) (Continued) Cost of Goods Sold 265,000
Interest Expense 2,500 2,500 5,000
Bal. Depreciation Expense 7,000
Bal.
Insurance Expense 5,600 4,250 9,850
Income Tax Expense 31,245
Gain on Bond Redemption 2,000
Other Operating Expenses 91,000
(c)
AIMES CORPORATION Income Statement For the Year Ending 12/31/25 Sales revenue............................................. Cost of goods sold..................................... Gross profit ................................................ Operating expenses Insurance expense ............................. Depreciation expense ........................ Other operating expenses ................. Total operating expenses .......................... Income from operations ............................ Other revenues and expenses Gain on bond redemption .................. Interest expense ................................. Income before taxes .................................. Income tax expense ........................... Net income..................................................
$480,000 265,000 215,000 $ 9,850 7,000 91,000 107,850 107,150 2,000 5,000 104,150 31,245 $ 72,905
ACR10 (Continued) AIMES CORPORATION Retained Earnings Statement For the Year Ending 12/31/25 Retained earnings, 1/1/25 ............................................................ $13,100 Add: Net income .......................................................................... 72,905 Retained earnings, 12/31/25 ........................................................ $86,005 AIMES CORPORATION Balance Sheet 12/31/2025 Current Assets Cash .................................................... Inventory ............................................. Prepaid insurance .............................. Total current assets...................... Property, Plant, and Equipment Equipment........................................... Accumulated depreciation— equipment ........................................ Total plant assets ......................... Total assets ................................................ Current Liabilities Accounts payable............................... Income taxes payable ........................ Sales taxes payable............................ Total current liabilities.................. Long-term liabilities Bonds payable.................................... Add: Premium on bonds payable...... Total long-term liabilities ............. Total liabilities............................... Stockholders’ Equity Common stock ................................... Retained earnings .............................. Total stockholders’ equity............ Total liabilities and stockholders’ equity .......................................................
$227,800 6,850 5,950 $240,600 38,000 7,000 31,000 $271,600 $24,850 31,245 11,800 $ 67,895 90,000 2,700 92,700 160,595 25,000 86,005
LO 1, 3, 4 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Reporting
111,005 $271,600
CT10.1
FINANCIAL REPORTING PROBLEM
(a) Total current liabilities at September 26, 2020, $105,392 million. Apple's total current liabilities decreased by $326 million ($105,718 – $105,392) relative to the prior year. (b) Apple's accounts payable at September 26, 2020, $42,296 million. (c) The other components of current liabilities are: Other current liabilities............................................ Deferred revenue ..................................................... Commercial paper.................................................... Term debt .................................................................
$42,684 million 6,643 4,996 8,773
LO 4 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic and Communication Reporting AICPA PC: Communication
AICPA AC:
CT10.2
(a) (1) Current ratio
COMPARATIVE ANALYSIS PROBLEM
Columbia Sportswear
Under Armour, Inc.
$1, 855, 621 3.36 : 1 $552, 622
$3, 222, 975 2.28 : 1 $1, 413, 276
Based on the current ratio, Columbia is more liquid than Under Armour. Columbia’s current ratio is 47% larger than Under Armour. Both companies have strong current ratios, but Columbia appears more able to meet its current obligations. (b)
Columbia Sportswear
Under Armour
(1) Debt to assets
$1,003, 800 35.4% $2, 836, 571
$3, 354, 635 66.7% $5,030, 628
(2) Times interest earned
Has no interest expense indicated
Has a net loss
The higher the percentage of debt to assets, the greater the risk that a company may be unable to meet its maturing obligations. Columbia’s 2020 debt to assets ratio was considerably less than Under Armour’s; thus, Columbia would be considered significantly better able to meet its obligations. The times interest earned provides an indication of a company’s ability to meet interest payments. Since Columbia has no interest expense to cover it is in a highly solvent position. Under Armour, however, has a net loss and even adding back income taxes and interest expense, the numerator for the ratio is still negative. Therefore, its times interest earned is zero, indicating a lack of solvency. LO 4 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic and Communication Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
AICPA AC:
CT10.3
COMPARATIVE ANALYSIS PROBLEM
(a) (1) Current ratio
Amazon .com
Walmart
$132,733 1.05 : 1 $126, 385
$90,067 0.97 : 1 $92,645
Based on the current ratio, Amazon is more liquid than Walmart. Amazon’s current ratio is 8% larger than Walmart. Amazon appears more able to meet its current obligations. (b)
Amazon .com
Walmart
(1) Debt to assets
$227,791* 70.9% $321,195
$164,965** 65.3% $252, 496
(2) Times interest earned
$21, 331 $2, 863 $1, 647 15.7 times $1, 647
$13,706 $6, 858 $2, 315 * * * 9.9 times $2, 315
*$321,195 - $93,404
**$252,496 - $87,531 ***$1,976 + $339
The higher the percentage of debt to assets, the greater the risk that a company may be unable to meet its maturing obligations. Walmart’s debt to assets ratio was less than Amazon’s; thus, Walmart would be considered better able to meet its obligations. The times interest earned provides an indication of a company’s ability to meet interest payments. Since Amazon’s times interest earned is approximately 1.6 times as large as Walmart's, Amazon had a better ability to meet its interest payments in the most recent year than Walmart.
LO 4 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic and Communication Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
AICPA AC:
CT10.4
(a)
INTERPRETING FINANCIAL STATEMENTS
Hechinger
Home Depot
Working capital
$1,153 – $938 = $215*
$4,933 – $2,857 = $2,076*
Current ratio
$1,153 ÷ $938 = 1.23:1
$4,933 ÷ $2,857 = 1.73:1
*million On both measurements Hechinger’s liquidity is low and Home Depot’s is strong. (b) Debt to assets ratio Times interest earned
$1,339 = 85% $1,577
$4,716 = 35% $13,465
Has a net loss
$1, 614 $37 $1, 040 = 72.7 times $37
Hechinger relied heavily on debt financing—85% of every dollar of assets was financed with debt versus only 35% by Home Depot. Hechinger’s has a net loss and even adding back income taxes and interest expense, the numerator for the ratio is still negative. Therefore, its times interest earned is zero, indicating a lack of solvency. In contrast, Home Depot’s times interest earned ratio is exceptionally high, suggesting it could handle even more debt. (c) Return on assets Profit margin
($93)
= -5.7%
($1, 577 + $1, 668) ÷ 2 ($93) $3, 444
= -2.7%
$1, 614 = 13.1% ($13, 465 $11, 229) 2
$1,614 = 5.3% $30,219
Hechinger reported negative profitability ratios because it reported a loss for the year. If you combine its low liquidity and low solvency with its inability to generate a profit, it was clearly headed for trouble. LO 4 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic and Communication Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
AICPA AC:
CT10.5
INTERPRETING FINANCIAL STATEMENTS
Borders
Barnes and Noble
(a)
Current ratio
$978.7 ÷ $918.1 = 1.07 : 1
$1, 719.5 ÷ $1, 724.4 = 1.00 : 1
(b)
Debt to assets ratio
$1,257.3 ÷ $1,415.6 = 89%
$2,802.3 ÷ $3,705.7 = 76%
Times interest earned
Has a net loss
$36.7 + $28.2 + $8.4
= 2.60times
$28.2
(c) Neither Borders nor Barnes and Noble were very liquid since their respective current ratios were only 1.07:1 and 1.0:1. Both companies had very high debt to assets ratios, Barnes and Noble’s times interest earned was relatively low, and Borders had a net loss, resulting in a zero times interest earned. The bankruptcy of Borders did seem likely considering it had a very high debt to assets ratio and a zero times interest earned. In addition, its current ratio was fairly low. LO 4 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic and Communication AICPA Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
AC:
CT10.6
REAL-WORLD FOCUS
(a) An ‘A’ rating means that the company has a strong capacity to meet financial commitments, but is somewhat susceptible to adverse economic conditions and changes in circumstances. A ‘C’ rating means that a company is currently highly vulnerable to non-payment, and ultimate recovery is expected to be lower than that of higher rated obligations. (b) Some factors that can change a company’s credit rating are new competition, changes in technology, increases or decreases in debt burdens, changes in the economy or business environment. In the case of states or municipalities, change may be due to shifts in populations or changes in taxpayer incomes. (c) To determine whether an investment has merit really depends on particular issues of importance to an individual. For example, a risky investment might have merit to a wealthy investor who can afford to take a chance in order to have the chance of a large gain. That same investment might not have merit to somebody with limited wealth who cannot afford to take large risks. Therefore, credit ratings provide important inputs in determining whether an investment would be of interest to an investor. But a high (or low) credit rating does not necessarily mean that a particular investment would be a good or bad investment but is an indicator of risk. LO 2, 3 BT: S Difficulty: Medium TOT: 30 min. AACSB: Analytic, Technology, and Communication AICPA AC: Measurement Analysis and Interpretation, and Reporting AICPA PC: Communication
CT10.7
REAL-WORLD FOCUS
(a) If a company can determine a reasonable estimate of the expected loss and if it is probable it will lose the suit, then the company should accrue for the loss. It should debit a loss account and credit a liability account. If it cannot arrive at a reasonable estimate, or if the loss is only possible (not probable) then it should disclose the item in the notes to the financial statements. (b) The article suggests that many of these companies are paying out amounts each year, but that their liability account remains roughly the same. This would suggest that rather than accruing for the full amount of their expected costs in the year that these costs become evident, they are simply expensing costs as they pay for them. This is not consistent with the approach described in part (a) because they are not accruing for the estimated costs up front. (c) The article suggests that if a company cannot come up with a reasonable estimate of costs, but instead can only estimate a range of possible costs, then financial reporting rules say that they should accrue for the low end of the range. For example, if you thought you would lose between $1,000 and $10,000, you would accrue for $1,000. However, for insurance purposes they often report the higher number. The problem from the perspective of investors is that if they rely on the numbers reported in the financial statements they may not be well informed about the potential loss that the company may well incur. (d) International accounting rules differ from U.S. rules with regard to dealing with estimated ranges. They require in a situation where a company estimates a range of possible losses, the company should accrue for the midpoint. LO 4 BT: S Difficulty: Medium TOT: 40 min. AACSB: Analytic, Technology, and Communication AICPA AC: Reporting AICPA PC: Communication
CT10.8
(a) 1.
DECISION-MAKING ACROSS THE ORGANIZATION
Bonds Payable ........................................... Cash .................................................... Discount on Bonds Payable .............. Gain on Bond Redemption ($2,946,000 – $2,500,000) ............... (To record redemption of 8% bonds)
3,000,000 2,500,000 54,000* 446,000
*($3,000,000 – $2,946,000) 2.
Cash............................................................ Bonds Payable ................................... (To record sale of 10-year, 12% bonds at par)
2,500,000 2,500,000
(b) Dear President Marquis: The early redemption of the 8%, 5-year bonds results in recognizing a gain of $446,000 that increases current year net income by the after-tax effect of the gain. The amount of the liabilities on the balance sheet will be lowered by the issuance of the new bonds and redemption of the 5-year bonds. 1.
The cash flow of the company as it relates to bonds payable will be adversely affected as follows: Annual interest payments on the new issue ($2,500,000 .12)........................................................ Less: Annual interest payments on the 5-year bonds ($3,000,000 .08) ............................................ Additional cash outflows per year ................................
$300,000 240,000 $ 60,000
CT10.8 (Continued) 2.
The amount of interest expense shown on the income statement will be higher as a result of the decision to issue new bonds: Annual interest expense on new bonds .......... Annual interest expense on 8% bonds: Interest payment......................................... Discount amortization ($54,000 ÷ 3 yrs.).... Additional interest expense per year...............
$300,000 $240,000 18,000 (258,000) $ 42,000
These comparisons hold for only the 3-year remaining life of the 8%, 5-year bonds. The company must plan on either redemption of the 8% bonds at maturity, January 1, 2028, or refinancing of that issue at that time and consider what interest rates will be in 2028 in evaluating a redemption and issuance in 2025. Sincerely, LO 3 BT: AN Difficulty: Medium TOT: 45 min. AACSB: Analytic and Communication Reporting AICPA PC: Collaboration, Leadership, and Communication
AICPA AC:
CT10.9
COMMUNICATION ACTIVITY
To:
Jerry Hogan
From:
I. M. Student
Subject:
Bond Financing
The advantages of bond financing over common stock financing include: 1.
Stockholder control is not affected.
2.
Tax savings result.
3.
Return on common stockholders’ equity may increase.
4.
Earnings per share of common stock may be higher.
The types of bonds that may be issued are: 1.
Secured or unsecured bonds. Secured bonds have specific assets of the issuer pledged as collateral while unsecured bonds do not.
2.
Convertible bonds, which can be converted by the bondholder into common stock.
3.
Callable bonds, which are subject to early redemption by the issuer at a stated amount.
State laws grant corporations the power to issue bonds after formal approval by the board of directors and stockholders. The terms of the bond issue are set forth in a legal document called a bond indenture. After the bond indenture is prepared, bond certificates are printed. LO 2 BT: C Difficulty: Easy TOT: 20 min. AACSB: Knowledge AICPA AC: Reporting AICPA PC: Communication
CT10.10
ETHICS CASE
(a) The stakeholders in this situation include: Stockholders Creditors Employees Government inspectors Customers flying in airplanes (b) The possible courses of action and their consequences include: 1.
The CEO could inform the auditors. The auditors would then require that this information be disclosed in the annual report. When the lenders learn about this potential problem, they may decide to call their loans, and the company’s suppliers may decide to quit sending it goods. This could result in the bankruptcy of the company, even if the company was not at fault for the engine failures. However, this would be in compliance with the accounting requirement to disclose all material facts. By not disclosing, the CEO is misinforming a large number of important stakeholders.
2.
The CEO could conceal the information from the auditors. If the company is not ultimately found at fault, then the company will not have sustained any financial hardship. However, if the company is found to be at fault for the engine failures, then not only is it likely the company will go bankrupt, but the CEO could face prosecution for failing to disclose the existence of this problem to auditors.
(c) Answer will vary according to student. (d) If the CEO conceals the information, and the company is subsequently found to be at fault, a number of stakeholders will suffer. First, the company’s creditors will lose money because it is likely the company won’t be able to repay its loans in full. The stockholders will lose because the value of their shares will plummet. The employees may well lose their jobs because the company is likely to go bankrupt. Also, it is possible that other engines might fail in the interim, possibly resulting in a crash. Answers as to whether the CEO should be punished for concealing this information will vary by student. LO 4 BT: E Difficulty: Hard TOT: 30 min. AACSB: Analytic, Ethics, and Communication AICPA AC: Reporting AICPA PC: Communication and Ethical Conduct
CT10.11
ETHICS CASE
(a) The stakeholders include: 1. Enron management 2. Citigroup management 3. Enron investors 4. Enron creditors (b) Yes. Although the primary responsibility for proper accounting rests with company management, other knowledgeable parties have secondary responsibilities. Auditors are expected to attest to full disclosure. Lenders, with access to information that is generally unavailable to others, are expected to provide full and accurate disclosure of transactions with borrowers. (c) The auditor may have been unable to detect the inappropriate accounting treatment because “secret” agreements between Enron and Citigroup were not made available for review. (d) A company may wish to conceal financing arrangements in order to appear more solvent to investors and creditors. GAAP requires full disclosure of all information that would make a difference to financial statement users. Intentionally understating liabilities is a violation of GAAP and thus inappropriate. It is unethical for lenders to market deals that circumvent GAAP. (e) The Citigroup deal was more harmful than other off-balance-sheet transactions because it was not fully explained in the financial statement notes. (The auditors didn’t even know the details.) This lack of explanation made it impossible for users of Enron's financial statements to incorporate such off-balance-sheet information into their evaluation of Enron’s performance. LO 4 BT: S Difficulty: Hard TOT: 30 min. AACSB: Analytic, Ethics, and Communication AICPA AC: Reporting AICPA PC: Communication and Ethical Conduct
CT10.12
ALL ABOUT YOU
The answer to these questions depends on the state in which the student resides. It will also depend on the year chosen, although we expect that the results will be much the same whether they pick any rates between 2021 and 2024. We provide a solution for this problem using a fictitious state as an example. It should be pointed out that certain taxes can be deducted for computing federal income tax but are ignored in our computation. (a) The state income tax for a single person with a taxable income of $60,000 is $3,710.80. The tax rate between $17,680 and $132,580 is $950.30 plus 6.5 percent over $17,680. Therefore, the computation is as follows: ($60,000 – $17,680) 6.5% = $2,751 Base rate 950 Total state income tax $3,701 (b) The property tax on a $300,000 home at 2.1% is $6,300. (c) The state gasoline tax is 32.9 cents per gallon and the federal gasoline tax is 18.4 cents per gallon. Your total taxes on gasoline are computed as follows: 300 gallons ($0.329 + $0.184) = $154 (d) The state sales tax rate is 5% and excludes food and prescription drug purchases. Therefore the sales tax is $200 ($4,000 5%). (e) The social security rate is 7.65% on income of $60,000 or $4,590. (f) Federal income tax for a single person with a taxable income of $60,000 is $8,949. The tax rate between $40,525 and $86,375 is $4,664 plus 22% over $40,525. Therefore, the computation is as follows: ($60,000 – $40,525) 22% = $ 4,285 Base amount 4,664 Total tax $8949
CT10.12 (Continued) The total taxes paid therefore are computed as follows, based on a $60,000 income amount: State income tax.................................................................. Property tax on home ......................................................... Gasoline tax......................................................................... Sales tax .............................................................................. Social security tax............................................................... Federal income tax.............................................................. Total tax ............................................................................... The percentage of total taxes to income ($23,894/$60,000), given the information above.
is
$ 3,701 6,300 154 200 4,590 8,949 $23,894 therefore
LO 1 BT: AP Difficulty: Medium TOT: 60 min. AACSB: Analytic AICPA AC: Reporting
39.8%
CT10.13
FASB CODIFICATION ACTIVITY
(a) Current liabilities is used principally to designate obligations whose liquidation is reasonably expected to require the use of existing resources properly classifiable as current assets, or the creation of other current liabilities. See paragraphs 210-10-45-5 through 45-12. (b) Long-term obligations are those scheduled to mature beyond one year (or the operating cycle, if applicable) from the date of an entity’s balance sheet. (c) The Codification provides the following guidance for disclosure of longterm obligations: Bonds, mortgages and other long-term debt, including capitalized leases. (1)
State separately, in the balance sheet or in a note thereto, each issue or type of obligation and such information as will indicate (see §210.4–06): (i)
The general character of each type of debt including the rate of interest; (ii) the date of maturity, or, if maturing serially, a brief indication of the serial maturities, such as “maturing serially from 1980 to 1990”; (iii) if the payment of principal or interest is contingent, an appropriate indication of such contingency; (iv) a brief indication of priority; and (v) if convertible, the basis. (2)
The amount and terms (including commitment fees and the conditions under which commitments may be withdrawn) of unused commitments for long-term financing arrangements that would be disclosed under this rule if used shall be disclosed in the notes to the financial statements if significant.
LO 1, 4 BT: S Difficulty: Medium TOT: 60 min. AACSB: Analytic, Technology, and Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CT10.14
CONSIDERING PEOPLE, PLANET AND PROFIT
a.
Under normal circumstance about 5% of Dvara Trust’s small loans default. During the pandemic approximately 90% of borrowers were unable to pay loans. Many borrowers who had available cash were not able to pay because repayments for traditional microfinance is in cash payments made in person to debt-collectors. Since much of India was in lockdown, in-person payments were not possible.
b.
According to the World Bank, MSMEs represent 90 percent of businesses. It is estimated that these MSMEs provide more than 50% of global employment. Microfinance institutions serve approximately 140 million customers.
c.
Between 2011 and 2017 the number of unbanked people in the world fell from 2.5 billion to 1.7 billion.
d.
One way to reduce default rates and increase microfinance opportunities is through mobile-money accounts so that loans could be serviced on phones.
LO - BT: S Difficulty: Medium TOT: 60 min. AACSB: Analytic, Technology, and Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CHAPTER 11 Reporting and Analyzing Stockholders’ Equity Learning Objectives 1. Discuss the major characteristics of a corporation. 2. Explain how to account for the issuance of common, preferred stock, and treasury stock. 3. Explain how to account for cash dividends, stock dividends, and stock splits. 4. Discuss how stockholders’ equity is reported and analyzed. *5. Prepare entries for stock dividends.
ANSWERS TO QUESTIONS 1.
(a)
Separate legal existence. A corporation is separate and distinct from its owners and it acts in its own name rather than in the name of its stockholders. In contrast to a partnership, the acts of the owners (stockholders) do not bind the corporation unless the owners are agents of the corporation.
(b)
Limited liability of stockholders. Because of its separate legal existence, creditors of a corporation ordinarily have recourse only to corporate assets to satisfy their claims. Thus, the liability of stockholders is normally limited to their investment in the corporation.
(c)
Transferable ownership rights. Ownership of a corporation is shown in shares of capital stock. The shares are transferable units. Stockholders may dispose of part or all of their interest by simply selling their stock. The transfer of ownership to another party is entirely at the discretion of the stockholder.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting AICPA BC: Governance Perspective
2.
(a) Corporate management is an advantage to a corporation because it can hire professional managers to run the company. Corporate management is a disadvantage to a corporation because it prevents owners from having an active role in directly managing the company. (b)
Two other disadvantages of a corporation are government regulations and additional taxes. A corporation is subject to numerous state and federal regulations. For example, state laws prescribe the requirements for issuing stock, and federal securities laws govern the sale of stock to the general public. Corporations must pay both federal and state income taxes. These taxes are substantial. In addition, stockholders must pay income taxes on cash dividends received.
LO 1 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
3.
Nona is incorrect. A corporation must be incorporated in only one state. It is to the company’s advantage to incorporate in a state whose laws are favorable to the corporate form of business organization. A corporation may incorporate in a state in which it does not have a headquarters’ office or major operating facilities.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting AICPA BC: Governance Perspective
4.
In the absence of restrictive provisions, the basic ownership rights of common stockholders are the rights to: (1) (2) (3) (4)
vote in the election of the board of directors and in corporate actions that require stockholders’ approval. share in corporate earnings. maintain the same percentage ownership when additional shares of common stock are issued (the preemptive right). share in assets upon liquidation.
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: reporting AICPA BC: Governance Perspective
Questions Chapter 11 (Continued) 5.
Legally, a corporation is an entity, separate and distinct from its owners. As a legal entity, a corporation possesses most of the privileges and is subject to the same duties and responsibilities as a natural person. The corporation acts under its own name rather than under the names of its stockholders. A corporation may buy, own, and sell property, borrow money, enter into legally binding contracts, and sue or be sued.
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: reporting AICPA BC: Governance Perspective
6.
The principal components of stockholders’ equity for a corporation are paid-in capital and retained earnings.
LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
7.
The maximum number of shares that a corporation is legally allowed to issue is the number authorized. Gage Corporation is authorized to sell 100,000 shares. Of these shares, 70,000 shares have been issued. Outstanding shares are those issued shares which have not been reacquired by the corporation; in other words, issued shares less treasury shares. Gage has 66,000 shares outstanding (70,000 issued less 4,000 treasury).
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
8.
The relative par values should have no effect on the investment decision. The par value of common stock has no effect on its market value. Par value used to be a legal amount per share which usually indicated the minimum amount at which a share of stock can be issued. Therefore, either stock mentioned in the question could be the better investment.
LO 2 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
9.
A corporation may acquire treasury stock (1) to reissue the shares to officers and employees under bonus and stock compensation plans, (2) to increase trading of the company’s stock in the securities market in the hopes of enhancing its market value, (3) to have additional shares available for use in the acquisition of other companies, (4) to reduce the number of shares outstanding and, thereby, increase earnings per share, or (5) to avoid a takeover of the company by investors that are hostile to management.
LO 2 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
10.
When treasury stock is purchased, Treasury Stock is debited and Cash is credited at cost ($11,000 in this example). Treasury Stock is a contra stockholders’ equity account and cash is an asset. Thus, this transaction has (a) no effect on net income, (b) decreases total assets, (c) has no effect on total paid-in capital, and (d) decreases total stockholders’ equity.
LO 2 BT: C Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
11.
(a) Common stock and preferred stock both represent ownership of the corporation. Common stock signifies the basic residual ownership; preferred stock is ownership with certain privileges or preferences. Preferred stockholders typically have a preference as to dividends and as to assets in the event of liquidation. However, preferred stockholders generally do not have voting rights.
Questions Chapter 11 (Continued) (b)
Some preferred stocks possess the additional feature of being cumulative. Cumulative preferred stock means that preferred stockholders must be paid both current year dividends and unpaid prior year dividends before common stockholders receive any dividends.
(c)
Dividends in arrears are disclosed in the notes to the financial statements.
LO 3 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
12.
The debits and credits to retained earnings are:
1. 2.
Debits Net loss Cash and stock dividends
1.
Credits Net income
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
13.
The answers are summarized in the table below:
(a) (b) (c) (d)
Account Common Stock Paid-in Capital in Excess of Par Value Retained Earnings Treasury Stock
(e) (f)
Paid-in Capital in Excess of Stated Value Preferred Stock
Classification Paid-in capital—capital stock Paid-in capital—additional paid-in capital Retained earnings Deducted from total paid-in capital and retained earnings Paid-in capital—additional paid-in capital Paid-in capital—capital stock
LO 4 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
14.
For a cash dividend to be paid, a corporation must have retained earnings, adequate cash, and a dividend declared by the board of directors.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
15.
May 1 is the date on which the board of directors formally declares (authorizes) and announces the cash dividend. May 15 is the record date which marks the time when ownership of outstanding shares is determined for dividend purposes from the stockholders’ records. May 31 is the date when the dividend checks are mailed to stockholders. Accounting entries are made on May 1 (debit Cash Dividends and credit Dividends Payable), and on May 31 (debit Dividends Payable and credit Cash).
LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
16.
A cash dividend decreases assets, retained earnings, and total stockholders’ equity. A stock dividend decreases retained earnings, increases paid-in capital, and has no effect on total assets and total stockholders’ equity.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 11 (Continued) 17.
A corporation generally issues stock dividends for one of the following reasons: (1) (2)
(3)
To satisfy stockholders’ dividend expectations without spending cash. To increase the marketability of its stock by increasing the number of shares outstanding and thereby decreasing the market price per share. Decreasing the market price of the stock makes it easier for small investors to purchase shares. To emphasize that a portion of stockholders’ equity that had been reported as retained earnings has been permanently reinvested in the business and therefore is unavailable for cash dividends.
LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
18.
In a stock split, the number of shares is increased in the same proportion that par value is decreased. Thus, in Jayne Corporation the number of shares will increase to 30,000 (10,000 × 3) and the par value will decrease to $5 ($15 ÷ 3). The effect of a split on market value is generally inversely proportional to the size of the split. In this case, the market price would fall to approximately $40 per share ($120 ÷ 3).
LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
19.
The different effects of a stock split versus a stock dividend are: Item Total paid-in capital Total retained earnings Total par value (common stock) Par value per share
Stock Split No change No change No change Decrease
Stock Dividend Increase Decrease Increase No change
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
20.
The cost of Apple’s treasury stock acquired during the year ended September 26, 2020 was $72,358 million.
LO 4 BT: AN Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
21.
(a)
The purpose of a retained earnings restriction is to indicate that a portion of retained earnings is currently unavailable for dividends.
(b)
Restrictions may result from the following causes: legal, contractual, or voluntary.
LO 4 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
22.
Par value is a legal amount per share, often set at an arbitrarily selected amount, which usually indicates the minimum amount at which a share of stock can be issued. Market value is generally unrelated to par value. A stock’s market value will reflect many factors, including the company’s anticipated future earnings, its expected dividend rate per share, its current financial position, the current state of the economy, and the current state of the securities markets.
LO 1 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 11 (Continued) 23.
The payout ratio is computed by dividing cash dividends declared on common stock by net income. The payout ratio indicates the percentage of earnings distributed as cash dividends to common stockholders.
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
24.
Debt financing will increase the return on common stockholders’ equity when the return on assets exceeds the interest rate paid on debt.
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
25.
The return on assets will equal the return on common stockholders’ equity when a company has no preferred stock and no debt.
LO 4 BT: C Difficulty: Hard TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
26.
The issuance of bonds combined with a reduction in outstanding shares increases the company’s reliance on debt financing which will be reflected in an increase of the debt to assets ratio. The return on common stockholders’ equity should increase because the company’s return on assets exceeds the interest rate on the new debt and because the amount of stockholders’ equity in the denominator of the ratio has been reduced. LO 4 BT: AN Difficulty: Hard TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 11.1 The advantages and disadvantages of a corporation are as follows: Advantages Separate legal existence Limited liability of stockholders Transferable ownership rights Ability to acquire capital Continuous life Corporate management— professional managers
Disadvantages Corporate management— separation of ownership and management Government regulations Additional taxes
LO 1 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE 11.2 May 10 Cash (2,500 × $13)........................................ Common Stock (2,500 × $5) ................. Paid-in Capital in Excess of Par Value—Common Stock (2,500 × $8) ...........................................
32,500 12,500 20,000
(Common stk = No. of shs. issued × par value per sh.) ($12,500 = 2,500 × $5) LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 11.3 June 1 Cash (3,000 × $7).......................................... Common Stock ..................................... LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
21,000 21,000
BRIEF EXERCISE 11.4 Cash (8,000 × $106) .................................................... Preferred Stock (8,000 × $100) ........................... Paid-in Capital in Excess of Par Value— Preferred Stock (8,000 × $6) ..............................
848,000 800,000 48,000
(Pref. stk. = No. of shs. issued × par value per sh) ($800,000 = 8,000 × $100) LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 11.5 July
1
Treasury Stock (500 × $9) ........................ Cash.......................................................
4,500 4,500
LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 11.6 Nov.
1
Dec. 31
Cash Dividends (7,000 × $1) .................... Dividends Payable ............................
7,000
Dividends Payable.................................... Cash ...................................................
7,000
7,000 7,000
LO 3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 11.7 Total dividend Allocated to preferred stock: Dividends in arrears 2025 dividend Remainder allocated to common stock
$375,000 $160,000 80,000
(240,000) $135,000
[Tot. div. – (Div. in arrears + 2025 div.) = Remainder alloc. to common stk.] [$375,000 – ($160,000 + $80,000) = $135,000] LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Measurement
BRIEF EXERCISE 11.8
(a) Stockholders’ equity Paid-in capital Common stock, $8 par Paid in capital in excess of par value—common stock Total paid-in capital Retained earnings Total stockholders’ equity
Before Dividend
After Dividend
$1,000,000
$1,100,000
– 1,000,000 300,000 $1,300,000
137,500 1,237,500 62,500 $1,300,000
(A stk. div. reduces ret. earn. by the no. of shs. issued × Mkt. price per share) ($237,500 = 12,500 shs. × $19)
(b) Outstanding shares
125,000
137,500
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 11.9 Total Total Total Stockholders’ Transaction Assets Liabilities Equity (a) Declared cash dividend N/A + – (b) Paid cash dividend declared in (a) – – N/A (c) Declared stock dividend N/A N/A N/A (d) Distributed stock dividend declared in (c) N/A N/A N/A (e) Split stock three-for-one N/A N/A N/A LO 3 BT: K Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 11.10 Stockholders’ equity Paid-in capital Capital stock Common stock, $10 par value, 5,000 shares issued and 4,500 shares outstanding ........................... $ 50,000 Additional paid-in capital Paid-in capital in excess of par value— common stock .................................. ....................... 22,000 Total paid-in capital ............................................. 72,000 Retained earnings ..................................................................... 42,000 Total paid-in capital and retained earnings ....... 114,000 Less: Treasury stock (500 shares)........................................... 11,000 Total stockholders’ equity .................................. $103,000 LO 4 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 11.11 Payout ratio—last year =
$120,000
= 20%
$600,000 Dividends paid this year = $1,600,000 × .20 = $320,000 (assuming the same payout ratio) Maintaining a constant payout ratio may be considered a sign of stability from the stockholders’ perspective. However, maintaining a constant payout ratio may have a negative impact on the company’s cash flow and its ability to grow. LO 4 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
BRIEF EXERCISE 11.12 Return on common stockholders’ equity =
Net income–Preferred dividends Average common stockholders’ equity $393 – $0 = 14.37% ($2,581 + $2,887) ÷ 2
Supervalu’s 14.37% return on common stockholders’ equity indicates that about 14 cents of net income was earned for each dollar invested by common stockholders. LO 4 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
BRIEF EXERCISE 11.13 Income before interest and taxes Interest ($2,000,000 × 6%) Income before income taxes Income tax expense (30%) Net Income (a) Outstanding shares (b) Earnings per share (a) ÷ (b)
Issue Stock $1,500,000 0 1,500,000 450,000 $1,050,000
Issue Bond $1,500,000 120,000 1,380,000 414,000 $ 966,000
900,000 $1.17
700,000 $1.38
Net income is higher if stock is used. However, earnings per share is lower than earnings per share if bonds are used because of the additional shares of stock that are outstanding. Issuance of bonds is preferable since earnings per share is higher under this alternative. LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 11.14 Dec. 1
31
Stock Dividends (24,000 × $17) ..................... Common Stock Dividends Distributable (24,000 × $10) ........................................... Paid-in Capital in Excess of Par Value— Common Stock (24,000 × $7) .............................................
408,000
Common Stock Dividends Distributable ...... Common Stock .........................................
240,000
240,000
168,000
(Stock div.idends= No. of shs. issued × Mkt. price per sh.) ($408,000 = 24,000 × $17) LO 5 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
240,000
SOLUTIONS TO DO IT! EXERCISES DO IT! 11.1a 1. 2. 3. 4. 5.
True. True. False. Additional government regulation is a disadvantage of the corporate form of business. True. False. No-par value stock is quite common today.
LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
DO IT! 11.1b (a)
(b)
Income Summary ................................................. Retained Earnings .......................................... (To close Income Summary and transfer net income to retained earnings)
236,000 236,000
Stockholder’s equity Paid in capital Common stock ........................................ $1,000,000 Retained earnings ....................................... 236,000 Total stockholders’ equity ...................... $1,236,000
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 11.2a Apr. 1
Cash (55,000 × $13) ........................................ Common Stock (55,000 × $5) ................... Paid-in Capital in Excess of Par Value—Common Stock.....................
715,000
Cash (1,000 × $6) ............................................ Preferred Stock (1,000 × $1)..................... Paid-in Capital in Excess of Par Value—Preferred Stock ....................
6,000
LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
275,000 440,000 1,000 5,000
DO IT! 11.2b Aug. 1
Treasury Stock .............................................. Cash...........................................................
76,000 76,000
LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 11.3a (1) The company has not missed past dividends and the preferred stock is noncumulative; thus, the preferred stockholders are paid only this year’s dividend. The dividend paid to preferred stockholders would be $24,000 (3,000 × .08 × $100). The dividend paid to common stockholders would be $81,000 ($105,000 – $24,000). (2) The preferred stock is noncumulative; thus, past unpaid dividends do not have to be paid. The dividend paid to preferred stockholders would be $24,000 (3,000 × .08 × $100). The dividend paid to common stockholders would be $81,000 ($105,000 – $24,000). (3) The preferred stock is cumulative; thus, dividends that have been missed in the past (dividends in arrears) must be paid. The dividend paid to preferred stockholders would be $72,000 (3 × 3,000 × .08 × $100). The dividend paid to common stockholders would be $33,000 ($105,000 – $72,000). LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 11.3b (a) 1.
The stock dividend amount is $3,000,000 [(400,000 × 15%) × $50]. The new balance in retained earnings is $9,000,000 ($12,000,000 – $3,000,000).
2.
The retained earnings after the stock split would be the same as it was before the split: $12,000,000.
(A stk. div. reduces ret. earn. by the no. of shs. issued × mkt. price per sh.)
DO IT! 11.3b (Continued) (b) (1) and (2) The effects on the stockholders’ equity accounts are as follows:
Paid-in capital Retained earnings Total stockholder’s equity Shares outstanding
Original Balance $ 2,400,000 12,000,000 $14,400,000 400,000
After Dividend $ 5,400,000 9,000,000 $14,400,000 460,000
After Split $ 2,400,000 12,000,000 $14,400,000 800,000
Total stockholders’ equity remains the same under both options. (Pd in cap. is increased by the tot. amt. of the stk. div.) ($3,000,000 = 400,000 shs. × 15% × $50)
(c) 1. The stock dividend will not affect the par value per share. It remains at $2. 2. The 2-for-1 stock split will cut the par value per share in half. It will be $1 ($2 × 1/2). LO 3 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 11.4a HOYLE CORPORATION Balance Sheet (Partial) Stockholders’ equity Paid-in capital Capital Stock 9% preferred stock, $100 par value, 10,000 shares authorized, 2,000 shares issued and outstanding......... Common stock, $5 par value, 500,000 shares authorized, 100,000 shares issued, and 93,000 shares outstanding ................ Total capital stock ....................... Additional paid-in capital Paid-in capital in excess of par value— preferred stock ................................... Paid-in capital in excess of par value— common stock.................................... Total additional paid-in capital ... Total paid-in capital ..................... Retained earnings ............................................. Total paid-in capital and retained earnings........................ Accumulated other comprehensive income.... Less: Treasury stock (7,000 shares) (at cost) ...................................................... Total stockholders’ equity ..........
$200,000
500,000 $ 700,000 23,000 263,000
LO 4 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
286,000 986,000 372,000 1,358,000 67,000 46,000 $1,379,000
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DO IT! 11.4b (a)
2024 ($100,000– $30,000)
Return on common = 10.4% stockholders’ equity ($600,000 + $750,000) /2
2025 ($110,000– $30,000)
= 10.1%
($750,000 + $830,000)/2
(b) Between 2024 and 2025, return on common stockholders’ equity decreased from 10.4% to 10.1%. It is important to note that even though net income increased during this period average common stockholders’ equity increased more causing the return percentage to slightly decrease. LO 4 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS TO EXERCISES EXERCISE 11.1 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
True. True. False. Most of the largest U.S. corporations are publicly held corporations. True. False. The net income of a corporation is taxed as a separate entity. False. Creditors have no legal claim on the personal assets of the owners of a corporation if the corporation does not pay its debts. False. The transfer of stock from one owner to another does not require the approval of either the corporation or other stockholders; it is entirely at the discretion of the stockholder. False. The board of directors of a corporation manages the corporation for the stockholders, who legally own the corporation. True. False. Corporations are subject to more state and federal regulations than partnerships or proprietorships.
LO 1 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: None AICPA BC: Governance Perspective
EXERCISE 11.2 1. 2. 3. 4. 5. 6. 7. 8. 9.
True. False. Corporation management (separation of ownership and management), government regulation, and additional taxes are the major disadvantages of a corporation. False. When a corporation is formed, organization costs are expensed as incurred. True. False. The number of issued shares is always less than or equal to the number of authorized shares. False. No journal entry is required for the authorization of capital stock. False. Publicly held corporations usually issue stock indirectly through an investment banking firm. True. False. The market value of common stock has no relationship with the par value.
EXERCISE 11.2 (Continued) 10.
False. Paid-in capital is the total amount of cash and other assets paid in to the corporation by stockholders in exchange for capital stock.
LO 1 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: None AICPA BC: Governance Perspective
EXERCISE 11.3 (a) Jan. 10 July
1
Cash (30,000 × $5) ................................ Common Stock..............................
150,000
Cash (60,000 × $7) ................................ Common Stock (60,000 × $5)........ Paid-in Capital in Excess of Par Value—Common Stock (60,000 × $2) .................................
420,000
150,000 300,000 120,000
(Common stk. = No. of shs. issued × Par value per sh.) (July 1: $300,000 = 60,000 × $5)
(b) Jan. 10
July
1
Cash (30,000 × $5) ................................ Common Stock (30,000 × $1)........ Paid-in Capital in Excess of Stated Value—Common Stock (30,000 × $4) .................................
150,000
Cash (60,000 × $7) ................................ Common Stock (60,000 × $1)........ Paid-in Capital in Excess of Stated Value—Common Stock (60,000 × $6) .................................
420,000
30,000 120,000
(Common stk. = No. of shs. issued × Stated value per sh.) ($60,000 = 60,000 × $1) LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
60,000 360,000
EXERCISE 11.4 June
July
Nov.
12
11
28
Cash.......................................................... Common Stock (80,000 × $1) ........... Paid-in Capital in Excess of Par Value—Common Stock ...................
300,000
Cash (3,000 × $106).................................. Preferred Stock (3,000 × $100)......... Paid-in Capital in Excess of Par Value—Preferred Stock (3,000 × $6) .......................................
318,000
Treasury Stock ........................................ Cash...................................................
9,000
80,000 220,000 300,000
18,000 9,000
(Pref. stk. = No. of shs. issued × Par value per sh.) (July 11: $300,000 = 3,000 × $100) LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.5 Mar.
June
July
Nov.
2 ........................... Organization Expense Common Stock (5,000 × $5) ............. Paid-in Capital in Excess of Par— Common Stock ................................ 12
11
28
30,000 25,000 5,000
Cash ......................................................... Common Stock (60,000 × $5) ........... Paid-in Capital in Excess of Par— Common Stock ................................
375,000
Cash (1,000 × $110).................................. Preferred Stock (1,000 × $100)......... Paid-in Capital in Excess of Par— Preferred Stock (1,000 × $10)..........
110,000
Treasury Stock ........................................ Cash...................................................
80,000
LO 2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
300,000 75,000 100,000 10,000 80,000
EXERCISE 11.6 (a) Feb. 1 Cash (40,000 × $51)............................... Preferred Stock (40,000 × $50)...... Paid-in Capital in Excess of Par Value—Preferred Stock (40,000 × $1) ..................................
2,040,000
July 1 Cash (60,000 × $56)............................... Preferred Stock (60,000 × $50)...... Paid-in Capital in Excess of Par Value—Preferred Stock (60,000 × $6) ..................................
3,360,000
2,000,000 40,000 3,000,000 360,000
(Pref. stk. = No. of shs. issued × Par value per sh.) (July 1: $3,000,000 = 60,000 × $50)
(b) Preferred Stock 2/1 2,000,000 7/1 3,000,000 5,000,000
Paid-in Capital in Excess of Par Value—Preferred Stock 2/1 40,000 7/1 360,000 400,000
(c) Preferred Stock—listed first in paid-in capital under capital stock. Paidin Capital in Excess of Par Value—Preferred Stock—listed first under additional paid-in capital. LO 2, 4 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.7 (a) Common stock outstanding is 574,000 shares. (Issued shares 580,000 less treasury shares 6,000.) (b) The stated value of the common stock is $5 per share. (Common stock issued $2,900,000 ÷ 580,000 shares.) (c) The par value of the preferred stock is $100 per share. (Preferred stock $600,000 ÷ 6,000 shares.)
EXERCISE 11.7 (Continued) (d) The dividend rate is 6% ($36,000 ÷ $600,000). (e) The Retained Earnings balance is still $1,158,000. Cumulative dividends in arrears are only disclosed in the notes to the financial statements. LO 2, 4 BT: C Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.8 May
2
10
15
Cash (8,000 × $13) .................................... Common Stock (8,000 × $10)............ Paid-in Capital in Excess of Par Value—Common Stock (8,000 × $3)........................................
104,000
Cash (10,000 × $53) .................................. Preferred Stock (10,000 × $20) ......... Paid-in Capital in Excess of Par Value—Preferred Stock (10,000 × $33)....................................
530,000
Treasury Stock (600 × $12) ...................... Cash ...................................................
7,200
80,000
24,000 200,000 330,000 7,200
LO 2 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.9 (a) June 15 Cash Dividends (69,000* × $1.50)..... Dividends Payable .....................
103,500 103,500
*60,000 shares + 9,000 shares July 10 Dividends Payable ............................ Cash ............................................
103,500
Dec. 15 Cash Dividends (73,000** × $1.60) ... Dividends Payable .....................
116,800
**69,000 shares + 4,000 shares (Cash div. = No. of shs. outstanding × div. per sh.) [Dec. 15: $116,800 = (60,000 + 9,000 + 4,000) × $1.60]
103,500 116,800
EXERCISE 11.9 (Continued) (b) In the retained earnings statement, total dividends declared of $220,300 will be deducted. In the balance sheet, Dividends Payable of $116,800 will be reported as a current liability. LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.10 (a) Total dividend Allocation to preferred stock Remainder to common stock
2024 $5,000 5,000 $ 0
2025 $12,000 6,000 $ 6,000
2026 $28,000 6,000 $22,000
(b) Total dividend Allocation to preferred stock Remainder to common stock
2024 $5,000 5,000 $ 0
2025 $12,000 9,0001 $ 3,000
2026 $28,000 7,000 $21,000
1
Dividends in arrears for Year 1, $2,000 + current dividend for Year 2, $7,000
(c) Dec. 31
Cash Dividends ................................. Dividends Payable .....................
28,000 28,000
LO 3 BT: AP Difficulty: Medium TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 11.11
Stockholders’ equity Paid-in capital Retained earnings Total stockholders’ equity Outstanding shares
Before Action
After Stock Dividend
After Stock Split
$ 648,000 400,000
$ 716,850 331,150
$ 648,000 400,000
$1,048,000 81,000
$1,048,000 85,050
$1,048,000 162,000
(Stk. div. = No. of shs. to be issued × Mkt. price per sh.) [$68,850 = (81,000 × 5%) × $17] LO 3 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.12 Mar.
June Sept. Oct. Dec.
1 ................................. Cash (6,000 x $85) Common Stock (6,000 × $10) ........... Paid-in Capital in Excess of Stated Value—Common Stock....... 22 1 1 1
510,000 60,000 450,000
Treasury Stock (1,000 × $11)................... Cash...................................................
11,000
Cash Dividends ($400,000 × .08)............. Dividends Payable ............................
32,000
Dividends Payable ................................... Cash...................................................
32,000
Cash Dividends (147,000 x $0.70) ........... Dividends Payable ............................
102,900
11,000 32,000 32,000 102,900
(Cash div. = No. of shs. outstanding × div. per share) [Dec. 1: $102,900 = (($1,500,000 ÷ $10) + 6,000 – (8,000 + 1,000)) ×$.70]
Dec.
31 31
31
Income Summary..................................... Retained Earnings ............................
110,000
Retained Earnings ................................... Cash Dividends ($32,000 + $102,900) .........................
134,900
Dividends Payable ................................... Cash...................................................
102,900
110,000
134,900
LO 2,3 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
102,900
EXERCISE 11.13 a.
Total annual preferred dividend should be 900,000 × $1.10 per share or $990,000.
b.
Dividends in arrears can only arise from cumulative preferred shares. If a dividend is not declared for a noncumulative preferred stock, the dividend entitlement does not carry forward into the future. If the stock is cumulative, dividends in arrears at the end of Year 1 are $340,000 ($990,000 annual dividend minus dividends declared of $650,000). By the end of Year 2, the dividends paid of $550,000 are first allocated to the $340,000 dividends in arrears from Year 1 and the remaining $210,000 is for Year 2. Consequently, by the end of Year 2, dividends in arrears at that time are $780,000. ($990,000 $210,000)
c.
Dividends in arrears are not accrued as a liability. Rather, the amount of any dividends in arrears is disclosed in the notes to the financial statements.
d.
March is required to pay annual dividends of $990,000 to its preferred stockholders first before paying dividends to the common stockholders. If the preferred stock was cumulative, dividend in arrears of $780,000 and the annual dividend of $990,000 for a total of $1,770,000 would have to be paid to the preferred stockholders before any dividend could be paid to the common stockholders.
LO 2 BT: AN Difficulty: C Time: 20 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.14 Before Action
(1) (2) (3) After Cash After Stock After Stock Dividend Dividend Split
Total assets
$1,250,000
$1,200,000 $1,250,000
$1,250,000
Total liabilities
$ 250,000
$ 250,000
$ 250,000
$ 250,000
Common stock Retained earnings Total stockholders' equit Total liabilities and stockholders’ equity
600,000 400,000 1,000,000
600,000 350,000 950,000
670,000* 330,000 1,000,000
600,000 400,000 1,000,000
$1,200,000 $1,250,000
$1,250,000
Number of common shares
$1,250,000 100,000
100,000
105,000
* $600,000 + (100,000 shares × 5% × $14) = $670,000 (Common stock is increased by the total amount of the stock dividend) LO 3 BT: AP Difficulty: M Time: 20 min. AACSB: Analytic AICPA AC: Reporting
200,000
EXERCISE 11.15 WELLS FARGO & COMPANY Partial Balance Sheet December 31, 2025 (in millions) Stockholders’ equity Paid-in capital Capital stock Preferred stock................................................. Common stock, par value, 6 billion shares authorized, 5,245,971,422 shares issued, and 5,178,624,593 shares outstanding .............. Total capital stock ...................................... Additional paid-in capital Paid-in capital in excess of par value— common stock................................................ Total paid-in capital .................................... Retained earnings ................................................. Total paid-in capital and retained earnings ..................................................... 111,669 Accumulated other comprehensive income ......... Less: Treasury stock (67,346,829 shares) ............. Total stockholders’ equity .........................
$8,485
8,743
LO 4 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
$ 17,228 52,878 70,106 41,563
8,327 2,450 $117,546
EXERCISE 11.16 RYDER CORPORATION Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock 8% Preferred stock, $100 par value, noncumulative, 6,000 shares issued ................................. $ 600,000 Common stock, no par, $2 stated value, 800,000 shares issued, and 788,000 shares outstanding ............................................. 1,600,000 Total capital stock ......................... $2,200,000 Additional paid-in capital Paid-in capital in excess of par value—preferred stock ....................... 45,000 Paid-in capital in excess of stated value— common stock ....................................... 1,050,000 Total additional paid-in capital ..... 1,095,000 Total paid-in capital ....................... 3,295,000 Retained earnings ............................................... 1,334,000 Total paid-in capital and retained earnings.......................... 4,629,000 Less: Treasury stock (12,000 common shares) ......................... 72,000 Total stockholders’ equity ............ $4,557,000 LO 4 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.17 PAISAN INC. Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock 8% Preferred stock, $50 par value, 40,000 shares authorized, 14,000 shares issued ......................... Common stock, no-par, $1 stated value, 400,000 shares authorized, 250,000 shares issued and 241,000 outstanding ........................................ Total capital stock ....................... Additional paid-in capital Paid-in capital in excess of par value—preferred stock ...................... Paid-in capital in excess of stated value—common stock....................... Total additional paid-in capital ... Total paid-in capital ..................... Retained earnings (See Note R) ....................... Total paid-in capital and retained earnings........................ Accumulated other comprehensive loss......... Less: Treasury stock (9,000 common shares) ........................ Total stockholders’ equity ..........
$ 700,000
250,000 $ 950,000 24,000 1,200,000 1,224,000 2,174,000 920,000 3,094,000 31,000 64,000 $2,999,000
Note R: Retained earnings restricted for plant expansion, $100,000. LO 4 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.18 2025
2024
Payout ratio
Return on common stockholders’ equity Flintlock Corporation’s dividends decreased over 51% even though its net income decreased only 9% and return on common stockholders’ equity decreased 8%. The company’s dividend policies should be reviewed for an explanation of these inconsistencies. (Rtn. on common stockholders’ equity = (Net inc. – pref. div. ÷ Ave. common stockholders’ equity) [2025: 18.3% = ($504 – $40) ÷ $2,532] LO 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 11.19 Payout ratio Return on common stockholders’ equity
2025 $471 = 23.5% $2,006 $2,006 – $0 = 14.7% $13,622.5
2024 394
= 18.3%
$2,157 $2,157 – $0 = 18% $11,986.5
Walgreen’s payout ratio increased 28% even though its return on common stockholders’ equity and net income decreased by 18% and 7% respectively. The company’s dividend policies should be reviewed for an explanation. (Payout ratio = Common div. ÷ Net inc.) [2025: 23.5% = $471 ÷ $2,006] LO 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 11.20 (a) 2025:
$182,000– $8,000 = 17.4% $1,000,000
2024:
$150,000 – $8,000 = 20.3% $700,000
(Rtn. on common stockholders’ equity = (Net inc. – pref. div.) ÷ Ave. common stockholders’ equity) [2025: 17.4% = ($182,000 – $8,000) ÷ $1,000,000]
(b) Kojak Corporation’s net income increased in part because it retired bonds and eliminated the interest expense associated with the bonds. Such an increase in income would produce an increase in return on common equity if stockholders’ equity had remained constant. In this example, common stockholders’ equity increased by 43% [($1,000,000 – $700,000) ÷ $700,000] while income increased by only 21%. (c) 2025:
$200,000 = 16.7% $1,200,000
2024:
$500,000 = 41.7% $1,200,000
Kojak Corporation retired all of its long-term debt on January 1, 2025. This decreased its debt to assets ratio from 41.7% to 16.7%. Kojak Corporation would be considered to be very solvent. (Debt to assets ratio = Tot. liabl. ÷ Tot. assets) (2025: 16.7% = $200,000 ÷ $1,200,000) LO 4 BT: AN Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE 11.21
Income before interest and taxes ......... Interest ($2,000,000 × 12%).................... Income before taxes .............................. Income tax expense (30%) .................... Net income ............................................. Outstanding shares ............................... Earnings per share ................................
(a) Plan One Issue Stock $800,000
(b) Plan Two Issue Bonds $800,000 240,000 560,000 168,000 $392,000 90,000 $4.36
800,000 240,000 $560,000 140,000 $4.00
(EPS = Net inc ÷ No. of shs. outstanding) (Plan One: $4.00 = $560,000 ÷ 140,000)
LO 4 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 11.22 (a)
No Debt Pre-debt net income .............................. Interest expense ($400,000 × .04) ......... Net income ............................................. Outstanding shares ............................... Earnings per share ................................
$100,000 0 $100,000 40,000 $ 2.50
With Debt $100,000 16,000 $ 84,000 20,000 $ 4.20
(Int. exp. = FV of debt × int. rate) (With debt: $16,000 = $400,000 × .04)
(b) Net income Average common stockholders’ equity Net income Average total assets
No Debt $ 100,000 = 10% $1,000,000
With Debt $ 84,000 = 14% $600,000
$ 100,000 = 10% $1,000,000
$ 84,000 = 8.4% $1,000,000
EXERCISE 11.22 (Continued) (c) Total liabilities Total assets
No Debt 0 =0 $1,000,000
With Debt $ 400,000 = 40% $1,000,000
(d) The issuance of debt reduced the company’s net income because of the interest cost that was incurred. However, the debt significantly increased the company’s earnings per share because it was used to acquire treasury stock. This reduced the number of outstanding shares, thus increasing earnings per share. The issuance of debt also increased the company’s leverage. Because the interest rate paid on the debt was only 4% but the company’s return on assets was 10% (no debt) and 8.4% (with debt), the company was able to earn much more on each dollar invested in assets than it was paying on the debt. Thus, it was able to significantly increase its return on common stockholders’ equity. This was especially true because it used the debt to repurchase shares of stock. The issuance of the debt reduced the company’s solvency. Prior to the debt, the company had no liabilities. After issuing the debt, it had a debt to assets ratio of 40%. Investors might be concerned that the increased reliance on debt has made the company too risky. The determination as to whether this was a good decision depends on one’s opinion regarding the tradeoff between the increased risk versus the increased return. LO 4 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
*EXERCISE 11.23 (a) Stock Dividends (22,500* × $15)......................... Common Stock Dividends Distributable (22,500 × $10)........................ Paid-in Capital in Excess of Par Value— Common Stock (22,500 × $5) ..................... *[($1,200,000 ÷ $10) + 30,000] × 15% (Stk. div. = No. of shs. to be issued × Mkt. price per sh.) [$337,500 = ((($1,200,000 ÷ $10) + 30,000) × 15%) x $15]
337,500 225,000 112,500
EXERCISE 11.23 (Continued) (b) Stock Dividends (40,500* × $8)........................... Common Stock Dividends Distributable (40,500 × $5).......................... Paid-in Capital in Excess of Par Value— Common Stock (40,500 × $3) .....................
324,000
*[($1,200,000 ÷ $5) + 30,000] × 15% (Stk. div. = No. of shs. to be issued × Mkt. price per sh.) [$324,000 = ((($1,200,000 ÷ $5) + 30,000) × 15%) x $8] LO 5 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
202,500 121,500
SOLUTIONS TO PROBLEMS PROBLEM 11.1 (a) Jan. 10
Cash (70,000 × $4) ............................. Common Stock (70,000 × $1)..... Paid-in Capital in Excess of Stated Value—Common Stock (70,000 × $3) ....................
280,000 70,000 210,000
(PIC in excess of stated value = No. of shs. issued × (Mkt. price per sh. –Stated value per sh.)) [$210,000 = 70,000 × ($4 – $1)]
Mar. 1
May
1
Sept. 1
Nov. 1
Cash (12,000 × $53) ........................... Preferred Stock (12,000 × $50) .... Paid-in Capital in Excess of Par Value—Preferred Stock (12,000 × $3) ..............................
636,000
Cash (120,000 × $6) ........................... Common Stock (120,000 × $1)... Paid-in Capital in Excess of Stated Value—Common Stock (120,000 × $5) ..................
720,000
Cash (5,000 × $5) ............................... Common Stock (5,000 × $1) ...... Paid-in Capital in Excess of Stated Value—Common Stock (5,000 × $4)......................
25,000
Cash (3,000 × $56) ............................. Preferred Stock (3,000 × $50) .... Paid-in Capital in Excess of Par Value—Preferred Stock (3,000 × $6) ................................
168,000
600,000 36,000 120,000
600,000 5,000
20,000 150,000 18,000
PROBLEM 11.1 (Continued) (b)
(c)
Preferred Stock 3/1 600,000 11/1 150,000 12/31 Bal. 750,000
Paid-in Capital in Excess of Par Value—Preferred Stock 3/1 36,000 11/1 18,000 12/31 Bal. 54,000
Common Stock 1/10 70,000 5/1 120,000 9/1 5,000 12/31 Bal. 195,000
Paid-in Capital in Excess of Stated Value—Common Stock 1/10 210,000 5/1 600,000 9/1 20,000 12/31 Bal. 830,000
TIDAL CORPORATION Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock 6% Preferred stock, $50 par value, 20,000 shares authorized and 15,000 shares issued................................ Common stock, no-par, $1 stated value, 500,000 shares authorized, 195,000 shares issued ............................................ Total capital stock .................. Additional paid-in capital Paid-in capital in excess of par value—preferred stock................. Paid-in capital in excess of stated value—common stock.................. Total additional paid-in capital..................................... Total paid-in capital................
$750,000
195,000 $ 945,000 54,000 830,000
LO 2, 4 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
884,000 $1,829,000
PROBLEM 11.2 (a) Feb.
1 Cash .......................................................... Common Stock (5,000 × $4) ............. Paid-in Capital in Excess of Stated Value—Common Stock ........
30,000
Mar. 20 Treasury Stock (1,000 × $7)...................... Cash ...................................................
7,000
Oct.
1 Cash Dividends ($300,000 × .07) ............. Dividends Payable ............................
21,000
1 Dividends Payable ................................... Cash ...................................................
21,000
1 Cash Dividends ........................................ [250,000* + 5,000 – (5,000 + 1,000)] × $.50 Dividends Payable ............................
124,500
Nov. Dec.
20,000 10,000 7,000 21,000 21,000
124,500
(Cash dividends = No. of shs. outstanding × div. per sh.) [$124,500 = (($1,000,000 ÷ $4) + 5,000 – (5,000 + 1,000)) × $.50]
Income Summary ..................................... Retained Earnings.............................
280,000
31 Retained Earnings.................................... Cash Dividends ($21,000 + $124,500) ..........................
145,500
31 Dividends Payable ................................... Cash ...................................................
124,500
Dec. 31
*$1,000,000 ÷ $4
280,000
145,500 124,500
PROBLEM 11.2 (Continued) (b)
300,000 300,000
Paid-in Capital in Excess of Par Value—Preferred Stock 1/1 Bal. 15,000 12/31 Bal. 15,000
Common Stock 1/1 Bal. 1,000,000 2/1 20,000 12/31 Bal. 1,020,000
Paid-in Capital in Excess of Stated Value—Common Stock 1/1 Bal. 480,000 2/1 10,000 12/31 Bal. 490,000
Preferred Stock 1/1 Bal. 12/31 Bal.
12/31
Retained Earnings 145,500 1/1 Bal. 688,000 12/31 280,000 12/31 Bal. 822,500
Cash Dividends 10/1 21,000 12/1 124,500 12/31 12/31 Bal. –0–
145,500
Treasury Stock 1/1 Bal. 40,000 3/20 7,000 12/31 Bal. 47,000
PROBLEM 11.2 (Continued) (c)
CYRUS CORPORATION Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock 7% Preferred stock, $100 par value, noncumulative, 5,000 shares authorized, 3,000 shares issued and outstanding ................................... Common stock, no-par, $4 stated value, 300,000 shares authorized, 255,000 shares issued and 249,000 shares outstanding ................................... Total capital stock .................. Additional paid-in capital Paid-in capital in excess of par value—preferred stock ................ Paid-in capital in excess of stated value—common stock................. Total additional paid-in capital..................................... Total paid-in capital................ Retained earnings ........................................ Total paid-in capital and retained earnings................... Less: Treasury stock (6,000 common shares)............................................... Total stockholders’ equity .....
$ 300,000
1,020,000 $1,320,000 15,000 490,000 505,000 1,825,000 822,500 2,647,500 47,000 $2,600,500
PROBLEM 11.2 (Continued) (d) Payout ratio =
$124,500
= 44.5%
$280,000
Earnings per share = *250,000 – 5,000
$280,000 – $21,000 = $259,000 = $1.05 (245,000 * + 249,000 * *) ÷ 2 247,000
**255,000 – 6,000
(EPS = (Net inc. – pref. div.) ÷ Ave. no. of common shs. outstanding) [$1.05 = ($280,000 – $21,000) ÷ ((245,000 + 249,000) ÷ 2)]
Return on common stockholders’ equity = $280,000 – $21,000 = $259,000 = 11.7% a b ($2,128,000 + $2,285,500 ) ÷ 2 $2,206,750 a
Beginning common stockholders’ equity: $1,000,000 + $480,000 + $688,000 – $40,000
b
Ending common stockholders’ equity: $1,020,000 + $490,000 + $822,500 – $47,000
LO 2 4 BT: AP Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM 11.3 (a) Jan.
Feb.
10 Cash (120,000 x $107) .............................. 12,840,000 Preferred Stock (120,000 × $100) ..... 12,000,000 Paid-in Capital in Excess of 840,000 Par Value— Preferred Stock............ 8 Treasury Stock (15,000 × $11).................. Cash ...................................................
165,000 165,000
May
9 Cash Dividends ($12,000,000 × .09) ........ 1,080,000 Dividends Payable ............................ 1,080,000
Jun.
8 Cash Dividends ........................................ 1,542,000 [(1,300,000 – 15,000) × $1.20] Dividends Payable ............................ 1,542,000
Jun. 10 Dividends Payable ................................... 1,080,000 Cash ................................................... 1,080,000 Jul.
10 Dividends Payable ................................... 1,542,000 Cash ................................................... 1,542,000
Dec. 31
Income Summary ..................................... 3,600,000 3,600,000 Retained Earnings.............................
31 Retained Earnings .................................... 2,622,000 Cash Dividends 2,622,000 ($1,080,000 + $1,542,000)...........
PROBLEM 11.3 (Continued) (b)
JONS COMPANY Partial Balance Sheet December 31, 2025
Stockholders’ equity Paid-in capital Capital stock 9% Preferred stock, $100 par value, cumulative, 120,000 shares issued and outstanding................................. $12,000,000 Common stock, $5 par value, 1,300,000 shares issued and 1,285,000 shares outstanding ........... 6,500,000 Total capital stock ....................... $18,500,000 Additional paid-in capital Paid-in capital in excess of par value—preferred stock ...................... 840,000 Paid-in capital in excess of par value—common stock....................... 1,800,000 Total additional paid-in capital ... 2,640,000 Total paid-in capital ..................... 21,140,000 Retained earnings ............................................. 2,178,000* Total paid-in capital and retained earnings........................ 23,318,000 Less: Treasury stock (15,000 shares).............. 165,000 Total stockholders’ equity .......... $23,153,000 *$1,200,000 + $3,600,000 – $1,542,000a – $1,080,000 a
1,300,000 shares issued less 15,000 shares in treasury = 1,285,000 shares; outstanding; 1,285,000 × $1.20 = $1,542,000.
(End. ret. earn. = Beg. ret. earn. + Net inc. – div. declared) ($2,178,000 = $1,200,000 + $3,600,000 – $1,542,000) LO 2 4 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 11.4 (a)
Retained Earnings Dec. 31
(b)
400,000 Jan. 1 Dec. 31 Dec. 31
Balance Balance
2,380,000 880,000 2,860,000
WAITE CORPORATION Partial Balance Sheet December 31, 2025
Stockholders’ equity Paid-in capital Capital stock 8% Preferred stock, $100 par value, noncumulative, 20,000 shares authorized, 10,000 shares issued and outstanding ............................................ $1,000,000 Common stock, no-par, $5 stated value, 600,000 shares authorized, 300,000 shares issued and outstanding .......................... 1,500,000 Total capital stock .................. $2,500,000 Additional paid-in capital Paid-in capital in excess of par value—preferred stock ....................... 200,000 Paid-in capital in excess of stated value—common stock........................ 1,600,000 Total additional paid-in capital ..... 1,800,000 Total paid-in capital ....................... 4,300,000 Retained earnings (See Note A) ......................... 2,860,000 Total stockholders’ equity ............ $7,160,000 Note A: Retained earnings restricted for plant expansion, $160,000. LO 3, 4 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 11.5
(a) 1.
2.
Cash .............................................................. Preferred Stock (1,500 × $100) ............. Paid-in Capital in Excess of Par Value—Preferred Stock .......................
170,000
Cash .............................................................. Common Stock (400,000 × $5) ............. Paid-in Capital in Excess of Stated Value—Common Stock .......................
3,520,000
150,000 20,000
2,000,000 1,520,000
(PIC in excess of stated value = No. of shs. issued × (Mkt. price per sh. –Stated value per sh. [(a)2: $1,520,000 = 400,000 × ($8.80 – $5.00)]
3.
Treasury Stock (4,000 × $9)......................... Cash.......................................................
36,000 36,000
PROBLEM 11.5 (Continued) (b)
LAYES CORPORATION Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock 7% Preferred stock, $100 par value, noncumulative, 20,000 shares authorized, 1,500 shares issued and outstanding ................................... $ 150,000 Common stock, no-par, $5 stated value, 1,000,000 shares authorized, 400,000 shares issued, and 396,000 shares outstanding....................... 2,000,000 Total capital stock .................. $2,150,000 Additional paid-in capital Paid-in capital in excess of par value—preferred stock................. 20,000 Paid-in capital in excess of stated value—common stock.................. 1,520,000 Total additional paid-in capital..................................... 1,540,000 Total paid-in capital................ 3,690,000 Retained earnings................................. 82,000 Total paid-in capital and retained earnings................... 3,772,000 Accumulated other comprehensive income 51,000 Less: Treasury stock (4,000 shares) ............................ 36,000 Total stockholders’ equity ..... $3,787,000
LO 2, 4 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 11.6
KIMBEL INC. Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock .............................................................. Common stock, $1 par value, 2,000,000 shares authorized, 710,000* shares issued, and 690,000 shares outstanding ................................ Additional paid-in capital Paid-in capital in excess of par value— common stock .................................................. Total paid-in capital ..................................... Retained earnings ............................................................. Total paid-in capital and retained earnings ...................................................... Accumulated other comprehensive income ($60,000 + $17,000)........................................................... Less: Treasury stock—common (20,000 shares) ........... Total stockholders’ equity ..........................
*600,000 + 50,000 + 60,000 = 710,000 shares **$1,500,000 + (50,000 × $2) + (60,000 × $3) = $1,780,000 ***$700,000 – $207,000 + $410,000 = $903,000 (End. ret. earn. = Beg. ret. earn. + Net inc. – Div. declared) ($903,000 = $700,000 + $410,000 – $207,000)
LO 2 4 BT: AP Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
$ 710,000 1,780,000** 2,490,000 903,000*** 3,393,000 77,000 76,000 $3,394,000
PROBLEM 11.7 (a) (1)
2025 Return on assets
$2,240,000
2024 = 14.3%
(3)
Return on common stockholders’ equity
Payout ratio
$2,240,000 – $300,000
= 20.6%
$9,400,000 $890,000
= 39.7%
Times interest earned
$1,026,000
$3,000,000 = 41.4%
$14,500,000
(5)
= 15.6%
= 41.0%
$2,500,000
$6,000,000 Debt to assets ratio
$2,500,000 – $300,000 $14,100,000
$2,240,000
(4)
= 14.1%
$17,763,000
$15,687,500 (2)
$2,500,000
= 17.8%
$16,875,000
($2,240,000 + $500,000 + $670,000)
($2,500,000 + $140,000 + $750,000)
$500,000
$140,000
= 6.8 times
= 24.2 times
(b) Spahn’s net income declined from $2,500,000 to $2,240,000. Its return on assets increased slightly, but its return on common stockholders’ equity increased 32%. Based on these two measures, profitability improved. The payout ratio declined about 3%. (c) Spahn’s debt to assets ratio increased from 17.8% to 41.4% and its times interest earned decreased from 24.2 to 6.8 times. These changes indicate that Spahn is less solvent in 2025 than 2024. (d) It appears that the decision to issue debt to purchase common stock was wise. Spahn’s 10% interest rate was less than its return on assets of 14.3%. This resulted in the 32% increase in return on common stockholders’ equity. Although the solvency ratios declined, Spahn does not appear to be in trouble covering the extra debt. Its times interest earned ratio of 6.8 times is probably good coverage. If Spahn’s earnings start to drop, it could consider reissuing the treasury stock and paying off debt. LO 4 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
*PROBLEM 11.8
(a) Jan. 15 Feb. 15 Apr. 15
May 15
Cash Dividends (70,000 × $0.50) ...... Dividends Payable .....................
35,000
Dividends Payable ............................ Cash ............................................
35,000
Stock Dividends (7,000 × $14) .......... Common Stock Dividends Distributable (7,000 × $10) ........ Paid-in Capital in Excess of Par Value—Common Stock (7,000 × $4) ................................
98,000
Common Stock Dividends Distributable ..................................... Common Stock (7,000 × $10).....
35,000 35,000
70,000
28,000 70,000 70,000
(Common stk. div. distrib. = (No. of shs. outstanding × 10%) × par value per sh.)) [$70,000 = (70,000 × 10%) × $10]
Dec.
1 31 31 31
Cash Dividends (77,000 × $0.60) ...... Dividends Payable .....................
46,200
Income Summary .............................. Retained Earnings......................
400,000
Retained Earnings............................. Stock Dividends .........................
98,000
Retained Earnings............................. Cash Dividends ..........................
81,200
46,200 400,000 98,000 81,200
(b) Common Stock 1/1 Bal. 700,000 5/15 70,000 12/31 Bal. 770,000
12/31 12/31
Retained Earnings 98,000 1/1 Bal. 620,000 81,200 12/31 400,000 12/31 Bal. 840,800
*PROBLEM 11.8 (Continued) Paid-in Capital in Excess of Par Value 1/1 Bal. 500,000 4/15 28,000 12/31 Bal. 528,000 Cash Dividends 1/15 35,000 12/1 46,200 12/31 12/31 Bal. –0–
81,200
Common Stock Dividends Distributable 5/15 70,000 4/15 70,000 12/31 Bal. –0–
Stock Dividends 4/15 98,000 12/31 12/31 Bal. –0–
98,000
(End. ret. earn. = Beg. ret. earn. + Net inc. – (stk. div. + Cash div.)) [$840,000 = $620,000 + $400,000 – ($98,000 + $81,200)]
(c)
TACOMA CORPORATION Partial Balance Sheet December 31, 2025 Stockholders’ equity Paid-in capital Capital stock Common stock, $10 par value, 77,000 shares issued and outstanding .......................................... Additional paid-in capital Paid-in capital in excess of par value . Total paid-in capital....................... Retained earnings ............................................... Total stockholders’ equity ............
$ 770,000 528,000 1,298,000 840,800 $2,138,800
*PROBLEM 11.8 (Continued) (d) Payout ratio =
$81,200
= 20.3%
$400,000
Return on common stockholders’ equity = $400,000 – 0 ($1,820,000*+$2,138,800**) ÷ 2
= $400,000 = 20.2% $1,979,400
*$700,000 + $500,000 + $620,000 **from req. (c) (Rtn. common stockholders’ equity = (Net inc. – pref. div.) ÷ Ave. common stockholders’ equity)) [20.2% = ($400,000 – $0) ÷ (($1,820,000 + $2,138,800) ÷ 2)] LO 3 5 BT: AP Difficulty: Medium TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
CC11
CONTINUING CASE: COOKIE CREATIONS
Part 1 (a)
1. One of the major advantages of issuing preferred stock is that the preferred stockholder does not have voting rights. In this case, Curtis’ dad and Natalie’s grandmother can participate in the future success of Cookie & Coffee Creations (by receiving annual dividends) without attempting to influence any decisions that would require stockholder approval. Both will receive an annual dividend of $6 per share as long as the dividend is declared. Any additional dividends declared and paid will be paid to the common stockholders. This could prove to be another advantage to both Natalie and Curtis if the company is successful and has excess cash to pay out dividends. 2. The advantages of offering your family cumulative preferred stock is that when dividends were declared, the preferred stockholders would receive dividends both for the current year and for years in which the preferred dividends were in arrears. However, from the common stockholders’ perspective, the biggest disadvantage is that if the preferred shares are cumulative, any dividends that are in arrears (in addition to the current year’s preferred dividends) must be paid before any dividends can be paid to the common stockholders.
CC11 (Continued)
(b)
(c)
Date Account Titles 2024 Nov. 1 Cash............................................................ Accounts Receivable................................. Inventory .................................................... Equipment .................................................. Common Stock ................................. Nov. 1 Cash............................................................ Preferred Stock .................................
Debit
Credit
19,500 600 1,580 3,500 25,180 10,000 10,000
(d) COOKIE & COFFEE CREATIONS INC. Balance Sheet November 1, 2024 Assets Current assets Cash ......................................................................... $29,500 Accounts receivable ............................................ 600 Inventory............................................................... 1,580 Total current assets ........................................ $31,680 Plant and equipment Equipment ............................................................ 3,500 Total assets...................................................... $35,180 Stockholders’ Equity Capital stock Preferred stock, no-par value, $6, cumulative, 10,000 shares authorized, 2,000 shares issued and outstanding ................................................... Common stock, $1 par, 50,000 shares authorized, 25,180 shares issued and outstanding............... Total capital stock ........................................... Retained earnings ......................................................... Total stockholders’ equity ..............................
$10,000 25,180 $35,180 0 $35,180
CC11 (Continued) Part 2 (a) Date 2025 Jan. 1
General Journal Account Titles Cash .................................................................
Debit 4,000
Preferred Stock ...................................... Oct. 15
Cash Dividends ...............................................
4,000 28,000
Dividends Payable (P.S. $16,800) (C.S. $11,200) ............. *[(2,000 + 800) x $6] **($28,000 - $16,800) Oct. 31
Credit
Income Tax Expense [($472,500 – $416,500) × .20] ....................... 11,200 Income Taxes Payable...........................
28,000
11,200
(b) COOKIE & COFFEE CREATIONS INC. Retained Earnings Statement For the Year Ended October 31, 2025 Balance, November 1, 2024 ................................... Add: Net income ................................................... Less: Cash dividends............................................ Balance, October 31, 2025.....................................
$ – 44,800 44,800 28,000 $16,800
CC11 (Continued) (c) COOKIE & COFFEE CREATIONS INC. Partial Balance Sheet October 31, 2025 Stockholders’ equity Paid-in capital Capital stock Preferred stock, no-par value, $6, cumulative, 10,000 authorized, 2,800 shares issued and outstanding....... Common stock, $1 par, 50,000 shares authorized, 25,180 shares issued and outstanding ................................................ Total paid-in capital...............................
$14,000 25,180 $39,180
Retained earnings............................................. Total stockholders’ equity ...........................
(d) Date 2025 Oct. 31
16,800 $55,980
General Journal Account Titles
Debit
Credit
Revenues ............................................................. 472,500 Income Summary ....................................... 472,500
31
Income Summary ................................................ 427,700 416,500 Expenses .................................................... Income Tax Expense.................................. 11,200
31
Income Summary ................................................ Retained Earnings......................................
44,800
Retained Earnings............................................... Cash Dividends ..........................................
28,000
31
44,800 28,000
ACR11.1
(a)
ACCOUNTING CYCLE REVIEW
1. Cash ................................................................ Preferred Stock ....................................... Paid-in Capital in Excess of Par Value—Preferred Stock ...........
49,200
2.
Cash ................................................................ Common Stock ....................................... Paid-in Capital in Excess of Par Value—Common Stock............
21,000
Accounts Receivable ..................................... Service Revenue .....................................
320,000
Cash ................................................................ Unearned Service Revenue....................
36,000
Cash ................................................................ Accounts Receivable..............................
276,000
Supplies .......................................................... Accounts Payable...................................
35,100
Accounts Payable .......................................... Cash.........................................................
32,200
Treasury Stock .............................................. Cash.........................................................
11,200
9. Other Operating Expenses ............................ Cash.........................................................
188,200
10. Cash Dividends ($3,360 + $10,200*) .............. Dividends Payable ..................................
13,560
11. Allowance for Doubtful Accounts ................. Accounts Receivable..............................
1,700
3. 4. 5. 6. 7. 8.
*[($80,000 ÷ $10) + 900 – 400] × $1.20
48,000 1,200 9,000 12,000 320,000 36,000 276,000 35,100 32,200 11,200 188,200 13,560 1,700
ACR11.1 (Continued) Adjusting Entries 1. Supplies Expense ($4,400 + $35,100 – $5,900).. Supplies ......................................................
33,600
2. Unearned Service Revenue............................... Service Revenue ($36,000 × 9/12).............
27,000
3. Bad Debt Expense [$3,500 – ($1,500 – $1,700)]...... Allowance for Doubtful Accounts ............
3,700
4. Depreciation Expense........................................ Accumulated Depreciation—Buildings ($142,000 – $10,000) ÷ 30 .......................
4,400
5. Income Tax Expense.......................................... Income Taxes Payable...............................
35,130*
33,600 27,000 3,700
4,400
*[($347,000 – $188,200 – $33,600 – $4,400 – $3,700) × .30]
35,130
ACR11.1 (Continued) (b)
HAWKEYE CORPORATION Adjusted Trial Balance 12/31/25 Account Debit Cash .........................................................................$175,200 Accounts Receivable .......................................... 87,800 Allowance for Doubtful Accounts...................... Supplies............................................................... 5,900 Land ..................................................................... 40,000 Buildings ............................................................. 142,000 Accumulated Depreciation—Buildings ............. Accounts Payable ............................................... Income Taxes Payable........................................ Unearned Service Revenue ................................ Dividends Payable .............................................. Preferred Stock ................................................... Paid-in Capital in Excess of Par Value—P.S..... Common Stock ................................................... Paid-in Capital in Excess of Par Value—C.S..... Retained Earnings .............................................. Cash Dividends ................................................... 13,560 Treasury Stock ................................................... 11,200 Service Revenue ................................................. Bad Debt Expense .............................................. 3,700 Depreciation Expense ........................................ 4,400 Supplies Expense ............................................... 33,600 Other Operating Expenses................................. 188,200 Income Tax Expense .......................................... 35,130 Total ................................................................. $740,690
Credit $ 3,500
26,400 28,500 35,130 9,000 13,560 48,000 1,200 89,000 12,000 127,400 347,000
$740,690
ACR11.1 (Continued) (c) Optional T Accounts Bal.
Bal.
Bal. Bal.
Cash 24,600 49,200 21,000 36,000 276,000 175,200
32,200 11,200 188,200
Accounts Receivable 45,500 276,000 320,000 1,700 87,800
Allowance for Doubtful Accounts 1,700 Bal. 1,500 3,700 Bal. 3,500
Accum. Depreciation—Buildings Bal. 22,000 4,400 Bal. 26,400 Accounts Payable 32,200 Bal. 25,600 35,100 Bal. 28,500 Income Taxes Payable 35,130 Unearned Service Revenue 27,000 36,000 Bal. 9,000
Dividends Payable
Bal.
Supplies 4,400 35,100 5,900
Bal.
Land 40,000
Bal.
Buildings 142,000
Bal.
13,560 33,600 Preferred Stock 48,000 Paid-in Capital in Excess of Par Value—P.S. 1,200
ACR11.1 (Continued) (c)
(Continued) Common Stock Bal. Bal.
80,000 9,000 89,000
Paid-in Capital in Excess of Par Value—C.S. 12,000
Retained Earnings Bal. 127,400
Depreciation Expense 4,400 Supplies Expense 33,600 Other Operating Expenses 188,200 Income Tax Expense 35,130
Cash Dividends 13,560 Treasury Stock 11,200 Service Revenue
Bal.
Bad Debt Expense 3,700
320,000 27,000 347,000
ACR11.1 (Continued) (c)
HAWKEYE CORPORATION Income Statement For the Year ending December 31, 2025 Service revenue .......................................... Operating expenses Other operating expenses .................. Supplies expense ................................ Depreciation expense ......................... Bad debt expense................................ Total operating expenses........................... Income before taxes ................................... Income tax expense ............................ Net income ..................................................
$347,000 $188,200 33,600 4,400 3,700 229,900 117,100 35,130 $ 81,970
HAWKEYE CORPORATION Retained Earnings Statement For the Year ending December 31, 2025 Retained earnings, 1/1/25 ............................................ Add: Net income ........................................................ Less: Dividends ........................................................... Retained earnings, 12/31/25 ........................................
$127,400 81,970 209,370 13,560 $195,810
ACR11.1 (Continued) HAWKEYE CORPORATION Balance Sheet At December 31, 2025 Assets Current assets Cash ......................................................... Accounts receivable ............................... Less: Allowance for doubtful accounts ........ Supplies ................................................... Total current assets..........................
$175,200 $ 87,800 3,500
Property, plant, and equipment Land.......................................................... 40,000 Buildings.................................................. $142,000 Less: Accumulated depreciation Bldg.......... 26,400 115,600 Total assets ..................................................... Liabilities and Stockholders’ Equity Current liabilities Accounts payable .................................... $ 28,500 Income taxes payable .............................. 35,130 Dividends payable.................................... 13,560 Unearned service revenue ...................... 9,000 Total current liabilities ........................ Stockholders’ equity Paid-in capital Capital stock Preferred stock.............................. $48,000 Common stock .............................. 89,000 Total capital stock ..................... 137,000 Additional paid-in capital Paid-in capital in excess of par value—preferred stock ......... 1,200 Paid-in capital in excess of par value—common stock .......... 12,000 Total additional paid-in capital ....... 13,200 Total paid-in capital ...................... 150,200 Retained earnings .................................... 195,810 Total paid-in capital and retained earnings ......................... 346,010 Less: Treasury stock (400 shares) .................................. 11,200 Total stockholders’ equity ........... Total liabilities and stockholders’ equity ........... LO 2, 4 BT: AP Difficulty: Medium TOT: 75 min. AACSB: Analytic AICPA AC: Reporting
84,300 5,900 265,400
155,600 $421,000
$ 86,190
334,810 $421,000
ACR11.2
ACCOUNTING CYCLE REVIEW
(a) 2025 Feb. 1
1
1
1
3
Cash ................................................................... Common Stock ............................................. Paid in Capital in Excess of Par ..................
Debit 13,000
7,500 5,500
Cash .................................................................... Note Payable .................................................
8,000
Equipment .......................................................... Cash ...............................................................
9,020
Utilities Expense ................................................ Cash ...............................................................
220
Supplies .............................................................. Accounts Payable.........................................
980
8000
9,020
220
980
4
No entry ..............................................................
5
Prepaid Insurance.............................................. Cash ...............................................................
2,460
Cash .................................................................... Loss on Disposal of Plant Assets ................... Equipment .....................................................
3,950 250
Accounts Receivable......................................... Service Revenue ...........................................
3,900
Cash .................................................................... Unearned Service Revenue .........................
540
Accounts Payable .............................................. Cash ...............................................................
300
Treasury Stock ................................................... Cash ...............................................................
900
Accounts Receivable......................................... Service Revenue ...........................................
4,300
Salaries and Wages Expense ........................... Cash ...............................................................
3,840
Cash .................................................................... Accounts Receivable....................................
2,500
Prepaid Expenses .............................................. Cash ...............................................................
220
Dividends ............................................................ Cash ...............................................................
940
5
16
17
18
20
23
24
25
27
28
Credit
2,460
4,200
3,900
540
300
900
4,300
3,840
2,500
220 940
ACR11.2 (Continued) (d) Feb. 28 1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
Accounts Receivable............................................. Service Revenue ................................................
Debit 3,800
3,800
Allowance for Doubtful Accounts ........................ Accounts Receivable.........................................
200
Bad Debt Expense [($9,300 × 3%) + $200] ........... Allowance for Doubtful Accounts ....................
479
Depreciation Expense[(($9,020 $4,200) $500) ÷ 4 8] Accumulated Depreciation-Equipment............
90
Insurance Expense ($9,840 ÷ 12).......................... Prepaid Insurance..............................................
820
Supplies Expense ($980 $400)........................... Supplies ..............................................................
580
Unearned Service Revenue ($540 ÷ 4) ................. Service Revenue ................................................
135
Salaries and Wages Expense ($480 × 4).............. Salaries and Wages Payable ............................
1,920
Interest Expense ($8,000 × 6% × 1/12) ................. Interest Payable .................................................
40
Income Tax Expense ($3,896 x 20%)* .................. Income Taxes Payable.......................................
779
*See Part (g)
Credit
200
479
90
820
580
135
1,920
40 779
ACR11.2 (Continued) (c) and (f)
Accounts Cash Accounts Receivable Allowance for Doubtful Accounts Prepaid Expenses Prepaid Insurance Supplies Equipment Accumulated DepreciationEquipment Accounts Payable Unearned Service Revenue Salaries and Wages Payable Interest Payable Note Payable Common Stock Paid-in Capital in Excess of Par Retained Earnings Dividends Treasury Stock Service Revenue Utilities Expense Salaries and Wages Expense Loss on Disposal of Plant Assets Bad Debt Expense Depreciation Expense Insurance Expense Supplies Expense Interest Expense Income Tax Expense Income Taxes Payable Total
Trial Balance Debit Credit $10,090 5,700
Adjusted Trial Balance Debit Credit $10,090 9,300 $279
220 2,460 980 4,820
220 1,640 400 4,820 90 680 405 1,920 40 8,000 7,500 5,500
$680 540
8,000 7,500 5,500 940 900
940 900 8,200
12,135
220 3,840
220 5,760
250
250 479 90 820 580 40 779
$30,420 $30,420
779 $37,328 $37,328
ACR11.2 (Continued) (h) Debit Feb. 28
Service Revenue ..................................... Income Summary ................................
12,135
Income Summary .................................... Bad Debt Expense .............................. Depreciation Expense ........................ Insurance Expense ............................. Supplies Expense ............................... Salaries and Wages Expense ............ Interest Expense ................................. Utilities Expense ................................. Loss on Disposal of Plant Assets ..... Income Tax Expense ..........................
9,018
Income Summary .................................... Retained Earnings ..............................
3,117
Retained Earnings .................................. Dividends.............................................
940
Credit
12,135 479 90 820 580 5,760 40 220 250 779
3,117 940
ACR11.2 (Continued)
(b), (e), and (h) Cash 2/1 13,000 2/1 2/1 8,000 2/1 2/5 3,950 2/5 2/17 540 2/18 2/25 2,500 2/20 2/24 2/27 2/28 2/28 Bal. 10,090
9,020 220 2,460 300 900 3,840 220 940
Accounts Receivable 2/16 3,900 2/25 2,500 2/23 4,300 2/28 200 2/28 3,800 2/28 Bal. 9,300 2/3 2/28 Bal.
Supplies 980 2/28 400
Prepaid Insurance 2/5 2,460 2/28 2/28 Bal. 1,640
580
820
Prepaid Expenses 2/27 220 2/28 Bal. 220
2/1 2/28 Bal.
980 680
Notes Payable 2/1 2/28 Bal.
8,000 8,000
Salaries and Wages Payable 2/28 1,920 2/28 Bal. 1,920 Interest Payable 2/28
40
2/28 Bal.
40
Income Taxes Payable 2/28 2/28 Bal.
779 779
Unearned Service Revenue 2/28 135 2/17 540 2/28 Bal. 405
Allowance for Doubtful Accounts 2/28 200 2/28 479 2/28 Bal. 279 Equipment 9,020 2/5 4,820
2/18
Accounts Payable 300 2/3 2/28 Bal.
4,200
Accumulated Depr.—Equipment 2/28 90 2/28 Bal. 90
ACR11.2 (Continued)
Common Stock 2/1 7,500 2/28 Bal. 7,500 Paid in Cap. In Excess of Par 2/1 5,500 2/28 Bal. 5,500
2/28 2/28 Bal.
Dividends 940 2/28 0
940
Treasury Stock 2/20 900 2/28 Bal. 900
2/28
2/28 2/28
2/28
Retained Earnings 940 2/28 3,117 2/28 Bal. 2,177 Income Summary 9,018 2/28 12,135 3,117 2/28 Bal. 0 Service Revenue 12,135 2/16 2/23 2/28 2/28 2/28 Bal.
3,900 4,300 3,800 135 0
Utilities Expense 2/1 220 2/28 2/28 Bal. 0
220
Salaries and Wages Expense 2/24 3,840 2/28 5,760 2/28 1,920 2/28 Bal. 0 Insurance Expense 2/28 820 2/28 2/28 Bal. 0
820
Depreciation Expense 2/28 90 2/28 2/28 Bal. 0
90
Bad Debt Expense 2/28 479 2/28 2/28 Bal. 0
479
Supplies Expense 2/28 580 2/28 2/28 Bal. 0
580
Interest Expense 2/28 40 2/28 2/28 Bal. 0
40
Loss on Disposal of Plant Assets 2/5 2/28 Bal.
250 2/28 0
Income Tax Expense 2/28 779 2/28 2/28 Bal. 0
250
779
ACR11.2 (Continued) (g) CLEAN SWEEP INC. Income Statement For the Month Ending February 28, 2025 Service revenue..................................... Operating expenses: Salaries and wages expense............ Utilities expense ................................ Bad debt expense.............................. Depreciation expense ....................... Insurance expense ............................ Supplies expense .............................. Income from operations ....................... Loss on disposal of plants assets ...... Interest expense.................................... Income before income taxes................ Income tax expense (20%) ................... Net income.............................................
$12,135 $5,760 220 479 90 820 580 250 40
7,949 4,186 290 3,896 779 $3,117
CLEAN SWEEP INC. Retained Earnings Statement For the Month Ending February 28, 2025 Retained earnings, 2/1/25 ..................... Add: Net income.................................... Less: Dividends..................................... Retained earnings, 2/28/25 ...................
– 3,117 940 $2,177
ACR11.2 (Continued) CLEAN SWEEP INC. Balance Sheet February 28, 2025 Assets Current assets Cash .......................................................... Accounts receivable ................................ Less: Allowance for doubt. accounts .... Prepaid expenses .................................... Prepaid insurance.................................... Supplies .................................................... Total current assets.....................................
$10,090 $9,300 279
21,371
Property, plant and equipment Equipment ................................................ Less: Accum depreciation-equipment ... Total assets .................................................
4,820 90
Liabilities and Stockholders’ Equity Current liabilities........................................... Accounts payable ..................................... $680 Unearned service revenue ....................... 405 Salaries and wages payable..................... 1,920 Income tax payable................................... 779 40 Interest payable......................................... Total current liabilities.................................. Note payable, 6% due 2/1/2027 .................... Total liabilities ............................................... Stockholders' Equity Common stock, $1.50 par value, 5,000 shares issued, 4,700 outstanding............ Paid-in capital in excess of par................ Retained earnings..................................... Less: Treasury stock at cost (300 shares) Total stockholders' equity........................ Total liabilities and stockholders' equity
9,021 220 1,640 400
4,730 $26,101
$3,824 8,000 $11,824
$7,500 5,500
13,000 2,177
15,177 900
LO 2, 4 BT: AP Difficulty: Medium TOT: 75 min. AACSB: Analytic AICPA AC: Reporting
14,277 $26,101
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT11.1
FINANCIAL REPORTING PROBLEM
(a) The common stock has a par value of $0.00001 per share. (b) There are 50,400,000 thousand shares authorized of which 16,976,763 thousand are issued. The percentage is 34% (16,976,763 ÷ 50,400,000). (c) The shares outstanding were (Thousands)
(d) Payout ratio =
$14,087
2020
2019
16,976,763
17,772,945
= 24.5%
$57,411
Basic earnings per share = $3.31
Return on common stockholders’ equity =
$57, 411 $0 73.7% $77,913.5 *
*($65,339 + $90,488) ÷ 2 LO 4 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
CT11.2
COMPARATIVE ANALYSIS PROBLEM
(a)
Columbia Sportswear Company Return on common stockholders’ equity
$108,013 ÷ $1,841,109* = 5.9%
*($1,832,771 + $1,849,447) ÷ 2
Under Armour, Inc.
$(549,177) ÷ $1,913,040** = (28.7)%
**($1,675,993 + $2,150,087) ÷ 2
Debt to assets
$1,003,800 ÷ $2,836,571 = 35.4%
$3,354,635 ÷ $5,030,628 = 66.7%
Return on assets
$108,013 ÷ $2,884,081* = 3.7%
$(549,177) ÷ $4,937,080 = (11.1)%
*($2,836,571 + $2,931,591) ÷ 2
**($5,030,628 + $4,843,531) ÷ 2
(b) It’s clear that Columbia Sportswear is more profitable than Under Armour as Columbia has a net income and Under Armour a net loss. It is also evident that Under Armour relies on debt financing (66.7%) much more than Columbia (35.4%). And, because Under Armour suffered a net loss, the reliance on debt financing results in a greater loss on common stockholders’ equity [(28.7%)] than its loss on assets [(11.1%)].
CT11.2 (Continued) Columbia Sportswear Company Under Armour, Inc.
(c) Payout ratio
$17,195 = 15.9% $108,013
$0
= N/A
$(549,177)
Columbia had a net income and declared a dividend, while Under Armour had a net loss and did not declare a dividend. LO 4 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
CT11.3
(a)
COMPARATIVE ANALYSIS PROBLEM
Amazon.com Return on common stockholders’ equity
Debt to assets
Return on assets
Walmart, Inc.
$21,331 ÷ $77,732* = 27.4%
$13,510 ÷ $84,542* = 16.0%
*($62,060 + $93,404) ÷ 2
*($87,531 + $81,552) ÷ 2
$227,791* ÷ $321,195 = 70.9%
$164,965* ÷ $252,496 = 65.3%
*($126,385 + $52,573 + $31,816 + $17,017)
*($92,645 + $41,194 +$12,909+ $3,847 + $14,370)
$21,331 ÷ $273,221.5* = 7.8%
$13,510 ÷ $244,496* = 5.5%
*($225,248 + $321,195) ÷ 2
*($252,496 + $236,495) ÷ 2
(b) Amazon’s return on assets, 7.8%, is larger than Walmart’s 5.5% indicating that it is more profitable. Comparing the return on common stockholders' equity indicates that Amazon is 71.3% more profitable because its shareholders earned 27.4% on each dollar invested while Walmart’s investors-earned only 16.0%. Both companies have significant amounts of debt as indicated by the debt to assets ratios of 70.9% for Amazon and 65.3% for Walmart. Amazon is able to use this debt to generate a larger return for its shareholders than Walmart. Amazon.com (c) Payout ratio
$0 = 0%% $21,331
Walmart, Inc. $6,116 = 45.3% $13,510
Walmart pays a higher portion of its earnings as dividends since Amazon did not declare any dividends. LO 4 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
CT11.4
INTERPRETING FINANCIAL STATEMENTS
(a) This is a dividend transaction—a property dividend. (b) Debt to assets ratio (c) Return on assets
Host Marriott $3,112 = 81.4% $3,822 $(25)
= (.7%)
$3,822 Return on common stockholders’ equity
$(25) $710
Marriott International $2, 440 = 76.1% $3,207 $200
= 6.2%
$3,207 = (3.5%)
$200
= 26.1%
$767
(d) The debtholders were concerned that by splitting the company and leaving most of the debt with only one half of the original company the likelihood that the debtholders would be repaid was reduced—that is, the probability that Marriott would default on the debt increased. This reduces the value of the debt investment. LO 4 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
CT11.5
REAL-WORLD FOCUS
Answers will vary depending on the company chosen by the student. LO 4 BT: AN Difficulty: Medium TOT: 20 min. AACSB: Analytic and Technology AICPA AC: Reporting
CT11.6
DECISION MAKING ACROSS THE ORGANIZATION
Year ended After Purchase of Before Purchase of Treasury Stock Treasury Stock $193.6 0 $123.4 0 = $1.76 = $1.03 119.9 109.7
(a) Earnings per share
Return on common stockholders’ equity
$193.6 = 18% $1,078
$123.4 = 11% $1,126.2
Return on assets
$193.6 = 9.6% $2,016.9
$123.4 = 6.5% $1,889.8
All three measures indicate a significant increase in profitability. $26.8 = 13.8% $193.6
(b) Payout ratio Average cash dividend paid per share
$26.8 = $.24 109.7
$31.0
= 25.1%
$123.4 $31.0 = $.26 119.9
Wendy’s paid less of its earnings as dividends after the purchase of treasury shares than the year before. Wendy’s appeared to be retaining more of its earnings to invest in its operations. (c) Debt to assets ratio
$1,046.3 = 50.4% $2,076.0
$769.9 = 41.9% $1,837.9
Times interest earned
($193.6 + $30.2 + $113.7) $30.2 = 11.2 times
($123.4 + $19.8 + $84.3) $19.8 = 11.5 times
CT11.6 (Continued) Wendy’s debt to assets ratio increased from 41.9% to 50.4% indicating a decrease in its solvency. This increase may not be cause for concern since Wendy’s times interest earned decreased only slightly. (d) Since Wendy’s return on assets and its return on common stockholders’ equity both increased it can be concluded that the improvement was due partially to increased reliance on debt financing and partially to improved profitability in use of assets. (e) It appears that Wendy’s International acted wisely in purchasing treasury stock and taking on more debt. Its profitability improved significantly and it appears to be handling its debt payments comfortably. Wendy’s has been able to increase its earnings per share and return to its stockholders. LO 4 BT: E Difficulty: Medium TOT: 40 min. AACSB: Analytic, Technology and Communication AICPA AC: Measurement Analysis and Interpretation, Reporting AICPA PC: Communication
CT11.7
COMMUNICATION ACTIVITY
Dear Uncle Earl: Thanks for your recent letter and for asking me to explain four terms. Here are my explanations: (1) Authorized stock is the total amount of stock that a corporation is given permission to sell as indicated in its charter. If all authorized stock is sold, a corporation must obtain the consent of the state to amend its charter before it can issue additional shares. (2) Issued stock is the amount of stock that has been sold either directly to investors or indirectly through an investment banking firm. (3) Outstanding stock is capital stock that has been issued and is being held by stockholders. It represents the difference between the stock issued by the company and the stock repurchased by the company. (4) Preferred stock is capital stock that has contractual preferences over common stock in certain areas. I really enjoy my accounting classes and especially like the accounting instructors. I hope your corporation does well, and I wish you continued success with your inventions. Regards, LO 1 BT: C Difficulty: Easy TOT: 6 min. AACSB: Analytic and Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CT11.8
ETHICS CASE
(a) The stakeholders in this situation are: The director of Pele’s R&D division. The president of Pele. The shareholders of Pele. Those who live in the environment to be sprayed by the new (untested) chemical. (b) The president is risking the environment and everything and everybody in it that is exposed to this new chemical in order to enhance his company’s sales and to preserve his job. Presidents and entrepreneurs frequently take risks in performing their leadership functions, but this action appears to be irresponsible and unethical. (c) A parent company may protect itself against loss and most reasonable business risks by establishing separate subsidiary corporations, but whether it can insulate itself against this type of action is a matter of state corporate law and criminal law. LO BT: E Difficulty: Medium TOT: 10 min. AACSB: Analytic, Ethics and Communication AICPA AC: Reporting AICPA PC: Ethical Conduct
CT11.9
ETHICS CASE
(a) The stakeholders in this situation are: Mr. Boyd, president of Cooper Corporation. Dana Marks, financial vice-president. The stockholders of Cooper Corporation. (b) There is nothing unethical in issuing a stock dividend. But the president’s order to write a press release convincing the stockholders that the stock dividend is just as good as a cash dividend is unethical. A stock dividend is not a cash dividend and does not necessarily place the stockholder in the same position. A stock dividend is a “paper” dividend—the issuance of a certificate, not a check (cash). (c) The stock dividend results in a decrease in retained earnings and an increase of the same amount in paid-in capital with no change in total stockholders’ equity. There is no change in total assets and no change in total liabilities and stockholders’ equity. As a stockholder, preference for a cash dividend versus stock dividend is dependent upon one’s investment objective—income (cash flow) or growth (reinvestment). LO 3 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic, Ethics and Communication AICPA AC: Reporting AICPA PC: Ethical Conduct
CT11.10
ALL ABOUT YOU
Student responses will vary depending on the organization chosen by the student. LO BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic, Ethics and Communication AICPA AC: Reporting AICPA PC: Ethical Conduct
CT11.11
FASB CODIFICATION ACTIVITY
(a)
Stock Dividend: An issuance by a corporation of its own common shares to its common shareholders without consideration and under conditions indicating that such action is prompted mainly by a desire to give the recipient shareholders some ostensibly separate evidence of a part of their respective interests in accumulated corporate earnings without distribution of cash or other property that the board of directors deems necessary or desirable to retain in the business.
(b)
Stock Split: An issuance by a corporation of its own common shares to its common shareholders without consideration and under conditions indicating that such action is prompted mainly by a desire to increase the number of outstanding shares for the purpose of effecting a reduction in their unit market price and, thereby, of obtaining wider distribution and improved marketability of the shares. It is sometimes called a stock split-up.
(c)
Except for a few instances, the issuance of additional shares of less than 20 or 25 percent of the number of previously outstanding shares would call for treatment as a stock dividend as described in paragraph 505-20-30-3.
LO 3 BT: C Difficulty: Easy TOT: 20 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CT11.12
CONSIDERING PEOPLE, PLANET AND PROFIT
a. Public Benefit Corporation is a legal incorporation status (like a C Corporation or LLC). Public benefit corporations describe in their charter how they will consider the interests of multiple stakeholders (society, workers, the community, and the environment) in addition to shareholders when making decisions. In contrast “B Corp” status is a simply a certification that a company can earn by meeting certain social and environmental criteria. The certification is administered by a non-profit group known as B Lab. Patagonia and AltSchool have both labels. b. Public benefit corporations (PBC) and non-profit corporations are actually quite different. PBCs are actually for-profit companies. While they must spell out in their charter the extra societal benefits they will provide, they still have an obligation to their shareholders to meet financial objectives. They are taxed like any other corporation. Nonprofit companies exist solely for a specified charitable purpose. They are not taxed, as long as they don’t begin to operate like a for-profit organization. c. If shareholders do not feel that the company is meeting its stated public benefit goals they can launch a proceeding against the company. A minimum of 5% of the shareholders must do this in order for the proceeding to go forward. d. Public benefit corporation status can protect a company from being sued by shareholders for engaging in charitable activities that go beyond the normal goals of maximizing company profits. In the article they mention that Patagonia’s decision to donate its Black Friday profits to nonprofit organizations was more easily justified to its shareholders because of its PBC status. LO 1 BT: C Difficulty: Medium TOT: 40 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication
CHAPTER 12 Statement of Cash Flows
Learning Objectives 1. Discuss the usefulness and format of the statement of cash flows. 2. Prepare a statement of cash flows using the indirect method. 3. Analyze the statement of cash flows. *4. Prepare a statement of cash flows using the direct method. *5. Use a worksheet to prepare the statement of cash flows using the indirect method. *6. Use the T-account approach to prepare a statement of cash flows. *Note: All asterisked Questions, Brief Exercises, Exercises, and Problems relate to material contained in the appendices to the chapter.
ANSWERS TO QUESTIONS 1.
(a) The statement of cash flows reports the cash receipts, cash payments, and the net change in cash resulting from the operating, investing, and financing activities of a company during a period. (b) Not true. The statement of cash flows is required. It is the fourth basic financial statement.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
2.
The statement of cash flows answers the following questions about cash: (a) Where did the cash come from during the period? (b) What was the cash used for during the period? and (c) What was the change in the cash balance during the period?
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
3.
The three types of activities are: Operating activities include the cash effects of transactions that generate revenues and expenses and thus enter into the determination of net income. Investing activities include: (a) acquiring and disposing of investments and property, plant and equipment and (b) lending money and collecting loans. Financing activities include: (a) obtaining cash from issuing debt and repaying amounts borrowed and (b) obtaining cash from stockholders, repurchasing shares, and paying cash dividends.
LO 1 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
4.
(a) Major inflows of cash include cash from sales; issuance of debt; collection of loans; issuance of capital stock; sale of investments; and sale of property, plant, and equipment. (b) Major outflows of cash include the purchase of inventory, payment of wages, taxes, interest, and other operating expenses, payment of cash dividends; redemption of debt; purchase of investments; making loans; repurchase of capital stock; and the purchase of property, plant, and equipment.
LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
5.
The body of the statement of cash flows presents investing and financing activities exclusive of noncash transactions. If these transactions affect financial conditions significantly, the FASB requires that they be disclosed in either a separate schedule at the bottom of the statement of cash flows or in a separate note or supplementary schedule to the financial statements.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
6.
Examples of significant noncash activities are: (1) issuance of stock for assets, (2) conversion of bonds into common stock, (3) issuance of bonds or notes for assets, and (4) noncash exchanges of property, plant, and equipment.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
7.
Comparative balance sheets, a current income statement, and certain transaction data all provide information necessary for preparation of the statement of cash flows. Comparative balance sheets indicate how assets, liabilities, and equities have changed during the period. A current income statement provides net income (the starting point for the statement of cash flows when the indirect method is used) and pertinent noncash items such as depreciation expense and gains and losses from plant asset disposals. Certain transactions provide additional detailed information needed to determine how cash was provided or used during the period.
LO 2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 12(Continued) 8.
The advantage of the direct method is that it presents the major categories of cash receipts and cash payments in a format that is similar to the income statement and familiar to statement users. Its principal disadvantage is that the necessary data can be expensive and time-consuming to accumulate. The advantage of the indirect method is it is generally considered easier to prepare, and it focuses on the differences between net income and net cash provided by operating activities. It also tends to reveal less company information to competitors. Its primary disadvantage is the difficulty in understanding the adjustments that comprise the reconciliation. Both methods are acceptable but the FASB expressed a preference for the direct method. Yet, the indirect method is the overwhelming favorite of companies.
LO 2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
9. When total cash inflows exceed total cash outflows, the excess is identified as a “net increase in cash” near the bottom of the statement of cash flows. LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
10. The indirect method involves converting accrual net income to net cash provided by operating activities. This is done by starting with accrual net income and adding or subtracting noncash items included in net income. Examples of adjustments include depreciation and other noncash expenses, gains and losses on the disposal of plant assets, and changes in the balances of current asset and current liability accounts from one period to the next. LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
11. It is necessary to convert accrual-basis net income to cash-basis net income because the unadjusted net income includes items that do not provide or use cash. An example would be an increase in accounts receivable. If accounts receivable increased during the period, revenues reported on the accrual basis would be higher than the actual cash revenues received. Thus, accrual-basis net income must be adjusted to reflect the net cash provided by operating activities. LO 2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
12. A number of factors could have caused an increase in cash despite the net loss. These are (1) high cash revenues relative to low cash expenses; (2) sales of property, plant, and equipment; (3) sales of investments; (4) issuance of debt or capital stock, and (5) differences between cash-basis and accrual-basis accounting, e.g. depreciation. LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
13. Depreciation expense. Gain or loss on disposal of a plant asset Increase/decrease in accounts receivable Increase/decrease in inventory Increase/decrease in accounts payable LO 2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
14. Under the indirect method, depreciation is added back to net income to reconcile net income to net cash provided by operating activities because depreciation is an expense but not a cash payment. LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 12(Continued) 15. The statement of cash flows is useful because it provides information to the investors, creditors, and other users about: (1) the company’s ability to generate future cash flows, (2) the company’s ability to pay dividends and meet obligations, (3) the reasons for the difference between net income and net cash provided by operating activities, and (4) the cash investing and financing transactions during the period. LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
16.
This significant noncash transaction is reported in the notes to the financial statement or on a schedule entitled “Noncash investing and financing activities” at the bottom of the statement of cash flows as follows: “Retirement of bonds payable through issuance of common stock, $1,700,000.”
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
17. In its 2019 statement of cash flows, Apple reported $69,391 million cash generated by operating activities, $45,896 million cash generated by investing activities, and $90,976 million cash used by financing activities. LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
18.
(a) The phases of the corporate life cycle are the introductory phase, growth phase, maturity phase, and decline phase. (b) During the introductory phase, net cash provided by operating and investing activities would be expected to be negative, and cash from financing would be positive. During the growth phase, a company would be expected to show some small amounts of cash from operations while continuing to show negative cash from investing and positive cash from financing. During the maturity phase, net cash provided by operating, investing, and financing activities would all be expected to be positive while in the decline phase, net cash provided by operating and investing activities would continue to be positive while cash from financing would be negative.
LO 3 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
19.
Apple has positive net cash provided by operating activities that exceeds its net income. Net cash provided by operating activities exceeded its investing needs and it bought back shares of stock and paid dividends. Apple appears to be in the middle to late maturity phase.
LO 3 BT: AN Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
*20. Net cash provided by operating activities under the direct approach is the difference between cash revenues and cash expenses. The direct approach adjusts the revenues and expenses directly to reflect the cash basis. This results in cash-basis net income, which is equal to “net cash provided by operating activities.” LO 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 12(Continued) *21. (a) Cash receipts from customers = Sales revenue
(b) Purchases = Cost of goods sold
+ Decrease in accounts receivable – Increase in accounts receivable
+ Increase in inventory – Decrease in inventory
Cash payments to suppliers = Purchases
+ Decrease in accounts payable – Increase in accounts payable
LO 4 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
*22.
Sales revenue ............................................................................................................. $2,000,000 Add: Decrease in accounts receivable .................................................................. 150,000 Cash receipts from customers ..................................................................................... $2,150,000
(Cash rec’d from cust. = Sales rev. + Decr. in accts. rec.); ($2,000,000 + $150,000) LO 4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
*23. Depreciation expense is not listed in the direct method operating activities section because it is not a cash flow item—it does not affect cash. LO 4 BT: C Difficulty: Easy TOT: min. AACSB: Knowledge AICPA AC: Reporting
*24. A worksheet is desirable because it allows the accumulation and classification of data that will appear on the statement of cash flows. It is an optional but efficient device that aids in the preparation of the statement of cash flows. LO 5 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 12.1 (a) (b) (c) (d)
Cash inflow from financing activity, $200,000 Cash outflow from investing activity, $180,000 Cash inflow from investing activity, $20,000 Cash outflow from financing activity, $50,000
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 12.2 (a) Investing activity (b) Investing activity (c) Financing activity
(d) Operating activity (e) Financing activity (f) Financing activity
LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE 12.3 Cash flows from financing activities Proceeds from issuance of bonds payable ....................... Payment of dividends.......................................................... Net cash provided by financing activities ..................
$300,000 (40,000) $260,000
(Financing activity cash flows = Issuance/repayment of L-T debt, Issuance/repurchase of stock, and payment of cash dividends) ($260,000 = $300,000 − $40,000) LO 1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.4 Net cash provided by operating activities is $2,730,000. Using the indirect method, the solution is: Cash flows from operating activities Net income ................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .......................... Decrease in accounts receivable ........ Decrease in accounts payable ............ Net cash provided by operating activities ....................................
$2,500,000
$160,000 350,000 (280,000)
230,000 $2,730,000
(Adjustments to net income include depreciation expense (+); decrease in noncash current assets (+); and decrease in noncash current liabilities (−)) ($230,000 = $160,000 + $350,000 − $280,000) LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.5 Cash flows from operating activities Net income ................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .......................... Loss on disposal of plant assets ........ Net cash provided by operating activities ....................................
$280,000
$70,000 28,000
(Adjustments to net income include depreciation expense (+); loss on disposal of plant assets (+)) ($98,000 = $70,000 + $28,000) LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
98,000 $378,000
BRIEF EXERCISE 12.6 Cash flows from operating activities Net income ...................................................... Adjustments to reconcile net income to net cash provided by operating activities: Decrease in accounts receivable................ Increase in prepaid expenses ..................... Increase in inventories ................................ Net cash provided by operating activities ...................................................
$186,000 $80,000 (28,000) (40,000)
12,000 $198,000
(Adjustments to net income include decrease in noncash current assets (+); and increase in noncash current assets (−)) ($12,000 = $80,000 − $28,000 − $40,000) LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.7 Original cost of equipment sold ................................................. Less: Accumulated depreciation............................................... Book value of equipment sold.................................................... Less: Loss on disposal of equipment....................................... Cash flow from sale of equipment .............................................
$21,000 5,100 15,900 3,500 $12,400
(Loss on disposal = book value of disposed equipment – cash proceeds) [$3,500 = ($21,000 − $5,100) − $12,400] LO 2 BT: AN Difficulty: Moderate TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.8 (a) Net cash provided by operating activities would be lower than net income during the growth phase because inventory must be purchased for future projected sales. Since sales during the growth phase are projected to be increasing, inventory purchases must increase and inventory expensed on an accrual basis would be less than inventory purchased on a cash basis. Also, collections on accounts receivable would lag behind sales; thus, accrual sales would exceed cash collections during the period. (b) Cash from investing is often positive during the late maturity phase and the decline phase because the firm may sell off excess long-term assets that are no longer needed for productive purposes. LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, and Reporting
BRIEF EXERCISE 12.9 Free cash flow = $89,303,000 – $25,823,000 – $0 = $63,480,000 LO 3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.10 Free cash flow = $412,000 – $200,000 – $0 = $212,000 LO 3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.11 Free cash flow = ($104,539,000) – $79,330,000 – $0 = ($183,869,000) LO 3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE 12.12 Free cash flow is net cash provided by operating activities less capital expenditures and cash dividends paid. For Uhuru Inc. this would be $332,000 ($734,000 – $310,000 – $92,000). Since it has positive free cash flow that far exceeds its dividend, an increase in the dividend might be possible. However, other factors should be considered. For example, it must have adequate retained earnings, and it should be convinced that a larger dividend can be sustained over future years. It could also use the free cash flow to expand its operations or pay down its debt. LO 3 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 12.13
Cash receipts = from customers
Sales revenue
+ Decrease in accounts receivable – Increase in accounts receivable
$1,317,060,000 = $1,244,023,000 + $73,037,000 (Cash receipts from cust. = Sales rev. ± Change in accts. rec.); [$1,244,023,000 + ($299,585,000 - $226,548,000)] LO 4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 12.14 + Decrease in income taxes payable
Cash payments Income tax = for income taxes expense
– Increase in income taxes payable
$119,000,000 = $370,000,000 – $251,000,000* *$528,000,000 – $277,000,000 = $251,000,000 (Cash pmts. for inc. taxes = Inc. tax exp. ± Change in inc. tax. pay.); [$370,000,000 – ($578,000,000 - $277,000,000)] LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
*BRIEF EXERCISE 12.15 Cash Operating payments for expenses, = excluding operating depreciation expenses
+ Increase in prepaid expenses – Decrease in prepaid expenses and + Decrease in accrued expenses payable – Increase in accrued expenses payable
$78,400 = $90,000 – $7,200 – $4,400 (Cash pmts. .for oper. exp. = Oper. exp., excluding depr. ± Chg. in prepd. exp. and ± Chg. in accrued exp. pay.); ($90,000 $7,200 - $4,400) LO 4 BT: AP Difficulty: Moderate TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO DO IT! EXERCISES DO IT! 12.1 (1) (2) (3) (4) (5)
Financing activity Operating activity Financing activity Investing activity Investing activity
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
DO IT! 12.2a Cash flows from operating activities Net income.................................................................. Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ........................................... Patent amortization expense................................ Gain on disposal of plant assets ......................... Decrease in accounts receivable ......................... Increase in accounts payable............................... Net cash provided by operating activities.....
$100,000 $6,300 4,000 (3,600) 6,000 3,200
15,900 $115,900
[Net cash provided by oper. act. = Net inc. + (Depr. exp. + Amort. exp. – Gain on disp. of plant assets + Decr. in accts. rec. + Incr. in accts. pay.)]; [$100,000 + ($6,300 + $4,000 - $3,600 + $6,000 + $3,200)] LO 2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 12.2b ALEX COMPANY Statement of Cash Flows—Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ................................................................. $156,000 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .......................................... $ 40,000 Loss on disposal of plant assets ........................ 2,000 Increase in accounts receivable.......................... (40,000) Increase in inventory ........................................... (44,000) Increase in prepaid expenses ............................. (2,000) Increase in accounts payable.............................. 3,000 Decrease in accrued expenses payable ............. (10,000) (51,000) Net cash provided by operating activities .... 105,000 Cash flows from investing activities Sale of land ................................................................ 15,000 Sale of equipment...................................................... 34,000 Purchase of equipment ............................................. (166,000) Net cash used by investing activities ........... (117,000) Cash flows from financing activities (50,000) Redemption of bonds................................................ Issuance of common stock....................................... 170,000 Payment of cash dividends ...................................... (85,000) Net cash provided by financing activities .... 35,000 Net increase in cash......................................................... 23,000 Cash at beginning of period ............................................ 36,000 Cash at end of period ....................................................... $59,000 [Net cash provided by oper. act. = Net inc. + (Depr. exp. + Loss on disp. of plant assets – Incr. in accts. rec. – Incr. in inv. – Incr. in prepd. exp. + Incr. in accts. pay. – Decr. in accrued exp. pay.)]; [$156,000 + ($40,000 + $2,000 - $40,000 - $44,000 $2,000 + $3,000 - $10,000)] LO 2 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
DO IT! 12.3 (a) Free cash flow = $73,700 – $24,200 – $13,000 = $36,500 (b) Net cash provided by operating activities fails to consider that a company must invest in new plant assets just to maintain the current level of operations. Companies must also maintain dividends at current levels to satisfy investors. The measurement of free cash flow provides additional insight regarding a company’s cash-generating ability. LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO EXERCISES EXERCISE 12.1 (a) (b) (c) (d) (e) (f) (g)
Noncash investing and financing activity Financing activity Noncash investing and financing activity Financing activity Investing activity Operating activity Operating activity
LO 1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 12.2 (a) Significant noncash investing and financing activity (b) Investing activity (c) Financing activity (d) Operating activity (e) Significant noncash investing and financing activity (f) Financing activity
(g) Operating activity (h) Significant noncash investing and financing activity (i) Investing activity (j) Operating activity (loss); investing activity (cash proceeds from sale) (k) Financing activity
LO 1 BT: C Difficulty: Easy TOT: 7 min. AACSB: Knowledge AICPA AC: Reporting
EXERCISE 12.3 1. (a) Cash........................................................... Land.................................................... Gain on Disposal of Plant Assets.....
15,000 12,000 3,000
(b) The cash receipt of $15,000 is reported in the investing section. The gain of $3,000 is deducted from net income in the operating section. 2. (a) Cash........................................................... Common Stock ..................................
20,000 20,000
(b) The cash receipt of $20,000 is reported in the financing section.
EXERCISE 12.3 (Continued) 3. (a) Depreciation Expense .............................. Accumulated Depreciation— Buildings.........................................
17,000 17,000
(b) Depreciation expense of $17,000 is added to net income in the operating section. 4. (a) Salaries and Wages Expense ............................... Cash ...............................................................
9,000 9,000
(b) Salaries and wages expense is not reported separately on the statement of cash flows. It is part of the computation of net income on the income statement, and is included in the net income amount on the statement of cash flows. 5. (a)
Equipment............................................................... Common Stock ............................................... Paid-in Capital in Excess of Par— Common Stock ...........................................
8,000 1,000 7,000
(b) The issuance of common stock for equipment of $8,000 is reported as a significant noncash investing and financing activity at the bottom of the statement of cash flows. 6. (a)
Cash ........................................................................ Loss on Disposal of Plant Assets ......................... Accumulated Depreciation—Equipment............... Equipment .......................................................
1,200 1,800 7,000 10,000
(b) The cash receipt of $1,200 is reported in the investing section. The loss of $1,800 is added to net income in the operating section. LO 1 BT: AP Difficulty: Moderate TOT: 12-14 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.4 SOSA COMPANY Statement of Cash Flows (Partial) – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ....................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .............................. $35,000 Loss on disposal of plant assets ............ 5,000 Increase in accounts receivable.............. (15,000) Increase in prepaid expenses ................. (4,000) Increase in accounts payable.................. 17,000 Net cash provided by operating activities ........................................
$190,000
38,000 $228,000
[Net cash provided by oper. act. = Net inc. + (Depr. exp. + Loss on disp. of plant assets - Incr. in accts. rec. - Incr. in prepd. exp. + Incr. in accts. pay.)]; [$190,000 + ($35,000 + $5,000 – $15,000 – $4,000 + $17,000)] LO 2 BT: AP Difficulty: Easy TOT: 7 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.5 SUNN INC. Statement of Cash Flows (Partial) – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ........................................................ Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ............................... Decrease in accounts receivable ............. Decrease in inventory ............................... Increase in prepaid expenses .................. Increase in accrued expenses payable ... Decrease in accounts payable ................. Net cash provided by operating activities .........................................
$153,000 $27,000 9,000 4,000 (5,000) 10,000 (7,000)
38,000 $191,000
[Net cash provided by oper. act. = Net inc. + (Depr. exp. + Decr. in accts. rec. + Decr. in inv. – Incr. in prepd. exp. + Incr. in accrued exp. pay. – Decr. in accts. pay.)]; [$153,000 + ($27,000 + $9,000 + $4,000 - $5,000 + $10,000 - $7,000)] LO 2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.6 STAMOS CORPORATION Statement of Cash Flows—Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income .................................................................. Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ......................................... Increase in accounts receivable ........................ Increase in inventory .......................................... Increase in income taxes payable...................... Decrease in accounts payable ........................... Net cash provided by operating activities ...
$284,100 $162,000 (8,200) (11,000) 4,700 (3,700)
Cash flows from investing activities Sale of land.......................................................... Purchase of building........................................... Net cash used by investing activities ..........
35,000 (289,000)
Cash flows from financing activities Issuance of bonds............................................... Payment of dividend ........................................... Purchase of treasury stock ................................ Net cash provided by financing activities ...
200,000 (12,000) (26,000)
Net increase in cash................................................... Cash at beginning of period ...................................... Cash at end of period .................................................
143,800 427,900
(254,000)
162,000 335,900 45,000 $380,900
[Net cash provided by oper. act. = Net inc. + (Depr. exp. – Incr. in accts. rec. – Incr. in inv. + Incr. in inc. tax. pay. – Decr. In accts. pay.)]; [$284,100 + ($162,000 - $8,200 - $11,000 + $4,700 - $3,700)] LO 2 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.7 BEIBER CORP. Statement of Cash Flows (Partial) – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ........................................................ Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ............................... Loss on disposal of plant assets ............. Net cash provided by operating activities.................................................
$ 72,000
$28,000 8,000
108,000
Cash flows from investing activities Sale of equipment............................................. Purchase of equipment .................................... Net cash used by investing activities ......
25,000* (123,000)
Cash flows from financing activities Payment of cash dividends.............................. Net cash used by financing activities......
(14,000)
*Cost of equipment sold................................... Accumulated depreciation.............................. Book value ....................................................... Loss on sale of equipment ............................. Cash proceeds ................................................
$49,000 (16,000) 33,000 (8,000) $25,000
(98,000)
(14,000)
(Net cash used by invest. act. = Sale of equip.– Purch of equip.); [($49,000 - $16,000 - $8,000) - $123,000)] LO 2 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
36,000
EXERCISE 12.8 (a)
ROJAS CORPORATION Statement of Cash Flows – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income .......................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense* ................................ $ 5,000 Loss on disposal of plant assets (Land)**. 1,100 Decrease in accounts receivable ............... 2,200 Decrease in accounts payable ................... (18,730) Net cash provided by operating activities 12,200 Cash flows from investing activities Sale of land ......................................................... Net cash provided by investing activities 4,900 Cash flows from financing activities Issuance of common stock................................ Payment of dividends......................................... Net cash used by financing activities ... Net increase in cash ................................................. Cash at beginning of period ..................................... Cash at end of period ...............................................
$ 22,630
(10,430)
4,900
6,000 (19,500) (13,500) 3,600 10,700 $ 14,300
*2025 Accumulated depreciation – 2024 Accumulated depreciation; ($15,000) – ($10,000) **Proceeds from sale of land – (2025 cost of land – 2024 cost of land); $4,900 - ($26,000 - $20,000) [Net cash provided by oper. act. = Net inc. + (Depr. exp. + Loss on disp. of plant assets + Decr. in accts. rec. – Decr. in accts. pay.)]; {$22,630 + ($5,000 + $1,100 + $2,200 - $18,730)]
(b)
$12,200 – $0 – $19,500 = ($7,300)
LO 2, 3 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.9 MITCH COMPANY Statement of Cash Flows – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income................................................. Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense........................ Increase in accounts receivable ....... Decrease in inventory ....................... Decrease in accounts payable.......... Net cash provided by operating activities .................................. Cash flows from investing activities Sale of land................................................ Purchase of equipment............................. Net cash used by investing activities .................................. Cash flows from financing activities Issuance of common stock ...................... Payment of cash dividends ...................... Redemption of bonds ............................... Net cash used by financing activities .................................. Net increase in cash ......................................... Cash at beginning of period ............................ Cash at end of period .......................................
$ 93,000
$ 34,000 (12,000) 22,000 (4,000)
40,000 133,000
20,000 (60,000) (40,000) 42,000 (39,000) (50,000) (47,000) 46,000 22,000 $ 68,000
[Net cash provided by oper. act. = Net inc. + (Depr. exp. – Incr. in accts. rec. + Decr. in inv. – Decr. in accts. pay.)]; [$93,000 + ($34,000 - $12,000 + $22,000 - $4,000)] LO 2 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.10 (a)
RODRIQUEZ CORPORATION Statement of Cash Flows – Indirect Method For the Year Ended December 31, 2025
Cash flows from operating activities Net income................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense........................... Loss on disposal of plant assets......... Increase in accounts receivable .......... Increase in accounts payable .............. Net cash provided by operating activities......................................
$ 18,300
$ 5,200* 5,500** (2,900) 3,500
11,300 29,600
Cash flows from investing activities Sale of equipment ....................................... 3,300 Purchase of investments ............................ (4,000) Net cash used by investing activities (700 ) Cash flows from financing activities Issuance of common stock ......................... 5,000 Payment of dividends....................................... (16,400) Retirement of bonds ........................................ (20,000) Net cash used by financing activities (31,400 ) Net decrease in cash .......................................... Cash at beginning of period............................... Cash at end of period ......................................... *[$14,000 – ($10,000 – $1,200)]
(2,500) 17,700 $ 15,200
**[$3,300 – ($10,000 – $1,200)]
[Net cash provided by oper. act. = Net inc. + (Depr. exp. + Loss on disp. of plant assets – Incr. in accts. rec. + Incr. in accts. pay.)]; {$18,300 + [($14,000 – ($10,000 - $1,200)) – ($3,300 – ($10,000 - $1,200)) - $2,900 + $3,500]}
(b)
$29,600 – $0 – $16,400 = $13,200
LO 2, 3 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE 12.11 Point in Time
Phase
M N O P
Introductory phase Decline phase Maturity phase Growth phase
During the introductory phase (point M), net cash provided by operating and investing activities are expected to be negative while cash from financing would be positive. In the growth phase (point P), a company would continue to show negative net cash provided by operating and investing and positive cash from financing. During the maturity phase (point O), net cash provided by operating activities and net income would be approximately the same. Net cash provided by operating activities would exceed investing needs. In the decline phase (point N), net cash provided by operating activities would diminish while cash from financing would be negative. LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, and Reporting
*EXERCISE 12.12 Sales revenues ....................................................... Deduct: Increase in accounts receivable ............ Cash receipts from customers* ..................... Operating expenses ............................................... Deduct: Increase in accounts payable................. Cash payments for operating expenses** .... Net cash provided by operating activities ............ *
$198,000 60,000 $138,000 83,000 23,000
Accounts Receivable Balance, Beginning of year 0 Sales revenues for the year 198,000 Cash receipts for year Balance, End of year 60,000
60,000 $ 78,000
138,000
*EXERCISE 12.12 (Continued) ** Payments for the year
Accounts Payable Balance, Beginning of year 60,000 Operating expenses for year Balance, End of year
0 83,000 23,000
(Cash receipts from customers = Sales revenues – increase in accounts receivable; cash payments for operating expense = Operating expenses – increase in accounts payable) [$138,000 = $198,000 –$60,000]; [$60,000 = $83,000 –$23,000] LO 4 BT: AP Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 12.13 (a) Cash payments to suppliers Cost of goods sold........................ Deduct: Decrease in inventory .... Cost of purchases ......................... Deduct: Increase in accounts payable ........................... Cash payments to suppliers......... (b) Cash payments for operating expenses Operating expenses exclusive of depreciation ($10,725.7 – $1,216.2) ................ Add: Increase in prepaid expenses ........................ Deduct: Increase in accrued expenses payable ..................... Cash payments for operating expenses....................................
$5,178.0 million 5.3 5,172.7 million 15.6 $5,157.1 million
$9,509.5 million $ 42.2 199.8
(157.6) $9,351.9 million
[Cash pmts. for oper. exp. = (Oper. exp. – depr. exp.) + Incr. in prepd. exp. – Incr. in accrued exp. pay.]; [($10,725.5 - $1,216.2) + $42.2 - $199.8] LO 4 BT: AP Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 12.14 MEGAN TRANSPORT Statement of Cash Flows (Partial) – Direct Method For the Year Ended December 31, 2025 Cash flows from operating activities Cash receipts from Customers ................................................. Dividend revenue ...................................... Less: Cash payments: To suppliers for merchandise .................. For salaries and wages............................. For operating expenses............................ For income taxes....................................... For interest ................................................ Net cash provided by operating activities ......................................... *$48,000 + $195,000
$243,000* 18,000 261,000 $97,000 53,000 28,000 12,000 10,000
200,000 $ 61,000
(Net cash provided by oper. act. = Cash receipts – Cash pmts.); [($48,000 + $195,000 + $18,000) – ($97,000 + $53,000 + $28,000 + $12,000 + $10,000)] LO 4 BT: AP Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 12.15 Cash payments for rent Rent expense .............................................................. Add: Increase in prepaid rent ................................... Cash payments for rent..............................................
$ 30,000 1,500 $ 31,500
Cash payments for salaries Salaries and wages expense ..................................... Deduct: Increase in salaries and wages payable .... Cash payments for salaries .......................................
$ 54,000 6,000 $ 48,000
Cash receipts from customers Revenue from sales.................................................... Add: Decrease in accounts receivable..................... Cash receipts from customers ..................................
$160,000 9,000 $169,000
(Cash receipts from cust. = Sales rev. + Decr. in accts. rec.); ($160,000 + $9,000) LO 4 BT: AN Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Reporting
*EXERCISE 12.16 INTERNATIONAL COMPANY Worksheet Statement of Cash Flows For the Year Ended December 31, 2025 Balance Sheet Accounts
Reconcili ng Items
Balance 12/31/24
Debit
Credit
Balance 12/31/25
Debits Cash Accounts receivable Inventory Land Equipment Total
22,000 76,000 189,000 100,000 200,000 587,000
Credits Accumulated depreciation—equipment Accounts payable Bonds payable Common stock Retained earnings Total
42,000 47,000 200,000 164,000 134,000 587,000
(k) (a)
(d)
52,000 9,000 (b) (c)
10,000 25,000
(e)
24,000
50,000
(f) (g)
13,000 40,000
(j)
55,000
(j)
100,000
(b)
10,000
(h) 60,000 (i) 100,000
Statement of Cash Flow Effects Operating activities Net income Increase in accounts receivable Decrease in inventory Decrease in accounts payable Depreciation expense Investing activities Sale of land Purchase of equipment Financing activities Payment of dividends Redemption of bonds Issuance of common stock Totals Increase in cash Totals
(e)
24,000
(c)
25,000
(h)
(a)
9,000
(f)
13,000
(d)
50,000
(j) (g)
55,000 40,000
(k)
386,000 52,000 438,000
60,000 486,000 438,000
LO 5 BT: AP Difficulty: Moderate TOT: 18 min. AACSB: Analytic AICPA AC: Reporting
74,000 85,000 179,000 75,000 250,000 663,000 66,000 34,000 160,000 224,000 17 9,000 663,000
SOLUTIONS TO PROBLEMS PROBLEM 12.1
(a) (b) (c) (d) (e) (f) (g) (h) (i) (j)
Depreciation expense was $80,000 Interest Payable account increased $5,000 Received $26,000 from sale of plant assets Acquired land by issuing common stock to seller Paid $17,000 cash dividend to preferred stockholders Paid $4,000 cash dividend to common stockholders Accounts Receivable account decreased $10,000 Inventory increased $2,000 Received $100,000 from issuing bonds payable Acquired equipment for $16,000 cash
SCF Section Affected
If Operating, should it be Added (A) to or Subtracted (S) from net income?
O
A
O
A
I
–
NC
–
F
–
F
–
O O
A S
F
–
I
–
LO 1, 2 BT: C Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 12.2
(a) Net income for 2025 can be determined by analyzing the retained earnings account. Retained earnings beginning of year .............................. $270,000 Add: Net income (plug) .................................................... 58,800* 328,800 Less: Cash dividends declared .................................. 20,000 Stock dividends declared ..................................... 8,800 Retained earnings, end of year ....................................... $300,000 *($300,000 + $8,800 + $20,000 – $270,000) [Net inc. = (End ret. earn. + stk. div. + cash div.) – Beg. ret. earn.] [$58,800 = ($300,000 + $8,800 + $20,000) – $270,000]
(b) Cash inflow from the issuance of common stock was $12,000 ($160,800 – $140,000 – $8,800). Common Stock 140,000 8,800 12,000 160,800
12/31/2024 Balance Stock Dividend Shares Issued for Cash 12/31/2025 Balance
Cash outflow for dividends was $20,000. The stock dividend does not use cash. (c) Both of the above activities (issuance of common stock and payment of cash dividends) would be classified as financing activities on the statement of cash flows. LO 2 BT: AN Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 12.3
MUNSUN COMPANY Statement of Cash Flows (Partial) – Indirect Method For the Year Ended November 30, 2025 Cash flows from operating activities Net income ........................................................... $1,750,000 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ............................. $ 110,000 Decrease in accounts receivable............... 380,000 Decrease in inventory............................. 300,000 Increase in prepaid expenses ..................... (150,000) Decrease in accounts payable.................... (350,000) Decrease in accrued expenses payable... (100,000) 190,000 Net cash provided by operating activities....................................... $1,940,000 [Net cash provided by oper. act. = Net inc. + (Depr. exp. + Decr. in accts. rec. + Decr. in inv. – Incr. in prepd. exp. – Decr. in accts. pay. – Decr. in accrued exp. pay.)]; [$1,750,000 + ($110,000 + $380,000 + $300,000 - $150,000 - $350,000 $100,000)] LO 2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 12.4
MUNSUN COMPANY Statement of Cash Flows (Partial) – Direct Method For the Year Ended November 30, 2025 Cash flows from operating activities Cash receipts from customers......... Less cash payments: To suppliers............................... For operating expenses ............ Net cash provided by operating activities ........................................
$7,980,000 (1) $4,750,000 (2) 1,290,000 (3)
6,040,000 $1,940,000
Computations: (1) Cash receipts from customers Sales revenue ................................................... Add: Decrease in accounts receivable .......... Cash receipts from customers ........................
$7,600,000 380,000 $7,980,000
(2) Cash payments to suppliers Cost of goods sold........................................... Deduct: Decrease in inventory ...................... Cost of purchases ............................................ Add: Decrease in accounts payable .............. Cash payments to suppliers............................
$4,700,000 300,000 4,400,000 350,000 $4,750,000
(3) Cash payments for operating expenses Operating expenses, exclusive of depreciation............................... Add: Increase in prepaid expenses.................................. Decrease in accrued expenses payable.................. Cash payments for operating expenses........................................
$1,040,000* $150,000 100,000
250,000 $1,290,000
*$450,000 + ($700,000 – $110,000) [Net cash provided by oper. act. = Cash receipts from cust. – (Cash pmts. to suppliers and for oper. exp.)]; [($7,600,000 + $380,000) – (($4,700,000 - $300,000 + $350,000) + ($450,000 + $700,000 – $110,000) + $150,000 + $100,000))] LO 4 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 12.5
REWE COMPANY Statement of Cash Flows (Partial) – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ........................................................ Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ............................... Loss on disposal of plant assets ............. Increase in accounts receivable .............. Increase in accounts payable................... Increase in income taxes payable............ Net cash provided by operating activities .........................................
$229,000
$55,000 16,000 (10,000) 9,000 6,000
76,000 $305,000
[Net cash provided by oper. act. = Net inc. + (Depr. exp. + Loss on disp. of plant assets – Incr. in accts. rec. + Incr. in accts. pay. + Incr. in inc. tax. pay)]; [$229,000 + ($55,000 + $16,000 - $10,000 + $9,000 + $6,000)] LO 2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 12.6
REWE COMPANY Statement of Cash Flows (Partial) – Direct Method For the Year Ended December 31, 2025 Cash flows from operating activities Cash receipts from customers......... Less cash payments: For operating expenses ............. For income taxes ........................ Net cash provided by operating activities .............................
$960,000 (1) $605,000 (2) 50,000 (3)
(1) Cash receipts from customers Sales revenue................................................................. Deduct: Increase in accounts receivable ($70,000 – $60,000) ......................................... Cash receipts from customers...................................... (2) Cash payments for operating expenses Operating expenses per income statement ................. Deduct: Increase in accounts payable ($41,000 – $32,000) ......................................... Cash payments for operating expenses ...................... (3) Cash payments for income taxes Income tax expense per income statement ................. Deduct: Increase in income taxes payable ($13,000 – $7,000) ........................................... Cash payments for income taxes .................................
655,000 $305,000
$970,000 10,000 $960,000
$614,000 9,000 $605,000 $ 56,000 6,000 $ 50,000
[Net cash provided by oper. act. = Cash receipts from cust. – (Cash pmts. to suppliers and for inc. taxes)]; [($970,000 $10,000) – (($614,000 - $9,000) + ($56,000 - $6,000))] LO 4 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 12.7
(a)
WARNER COMPANY Statement of Cash Flows – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income .................................................. Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense ........................... Increase in accounts receivable .......... Increase in inventory ............................ Increase in accounts payable .............. Decrease in income taxes payable ...... Net cash provided by operating activities ............................................
$32,000
$17,500 (6,000) (8,000) 4,000 (1,000)
38,500
Cash flows from investing activities Sale of equipment....................................... Net cash provided by investing activities 8,500 Cash flows from financing activities Issuance of common stock ........................ Redemption of bonds ................................. Payment of dividends................................. Net cash used by financing activities ............................................. Net increase in cash .......................................... Cash at beginning of period ............................. Cash at end of period ........................................
6,500
8,500
4,000 (16,000) (20,000) (32,000) 15,000 20,000 $35,000
[Net cash provided by oper. act. = Net inc. + (Depr. exp. – Incr. in accts. rec. – Incr. in inv. + Incr. in accts. pay. – Decr. In inc. tax. pay.)]; [ $32,000 + ($17,500 - $6,000 - $8,000 + $4,000 - $1,000)]
(b) $38,500 – $0 – $20,000 = $18,500 LO 2, 3 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 12.8
(a)
WARNER COMPANY Statement of Cash Flows – Direct Method For the Year Ended December 31, 2025 Cash flows from operating activities Cash receipts from customers ...... Less cash payments: To suppliers ............................ For operating expenses ......... For interest.............................. For income taxes .................... Net cash provided by operating activities ............. Cash flows from investing activities Sale of equipment .......................... Net cash provided by investing activities.............................. Cash flows from financing activities Issuance of common stock ........... Redemption of bonds .................... Payment of dividends .................... Net cash used by financing activities ..............................
$236,000 (1) $179,000 (2) 6,500 (3) 3,000 9,000 (4)
197,500 38,500
8,500 8,500 4,000 (16,000) (20,000)
Net increase in cash .............................. Cash at beginning of period.................. Cash at end of period ............................
(32,000) 15,000 20,000 $ 35,000
Computations: (1) Cash receipts from customers Sales revenue ......................................................... Deduct: Increase in accounts receivable ............ Cash receipts from customers......................................
$242,000 6,000 $236,000
*PROBLEM 12.8 (Continued) (2) Cash payments to suppliers Cost of goods sold....................................................... Add: Increase in inventory ......................................... Cost of purchases........................................................ Deduct: Increase in accounts payable ...................... Cash payments to suppliers .......................................
$175,000 8,000 183,000 4,000 $179,000
(3) Cash payments for operating expenses Operating expenses ..................................................... Deduct: Depreciation .................................................. Cash payments for operating expenses.....................
$ 24,000 17,500 $ 6,500
(4) Cash payments for income taxes Income tax expense ..................................................... Add: Decrease in income taxes payable ................... Cash payments for income taxes ...............................
$ $
8,000 1,000 9,000
Note: Since the balance sheet did not report interest payable, the interest expense of $3,000 reported on the income statement represents the actual cash outflow. [Net cash provided by oper. act. = Cash rec’d from cust. – (Cash pmts. to suppliers + oper. exp. + inc. tax. + int.)]; [($242,000 $6,000) – (($175,000 + $8,000 - $4,000) + ($24,000 - $17,500) + ($8,000 + $1,000) + $3,000)]
(b) $38,500 – $0 – $20,000 = $18,500 LO 3, 4 BT: AP Difficulty: Hard TOT: 50 min. AACSB: Analytic AICPA AC: Reporting
PROBLEM 12.9
GRANGER INC. Statement of Cash Flows – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ....................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .............................. Loss on disposal of plant assets ............ Increase in accounts receivable.............. Increase in inventory ............................... Increase in prepaid expenses ................. Increase in accounts payable.................. Decrease in accrued expenses payable ... Net cash provided by operating activities................................................ Cash flows from investing activities Sale of plant assets ......................................... Purchase of investments................................. Purchase of plant assets................................. Net cash used by investing activities................................................ Cash flows from financing activities Issuance of common stock ............................. Payment of cash dividends............................. Redemption of bonds ...................................... Net cash used by financing activities................................................ Net increase in cash................................................ Cash at beginning of period ................................... Cash at end of period ..............................................
$154,580
$46,500 7,500 (49,800) (9,650) (2,400) 34,700 (4,500)
22,350 176,930
1,500 (29,000) (100,000) (127,500) 45,000 (26,030) (36,000) (17,030) 32,400 48,400 $ 80,800
[Net cash provided by oper. act. = Net inc. + (Depr. + Loss on disp. of plant assets – Incr. in accts. rec. – Incr. in inv. – Incr. in prepd. exp. + Incr. in accts. pay – Decr. in accrued exp. pay.)]; [$154,580 + ($46,500 + $7,500 – $49,800 - $9,650 - $2,400 + $34,700 - $4,500)] LO 2 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 12.10
GRANGER INC. Statement of Cash Flows – Direct Method For the Year Ended December 31, 2025 Cash flows from operating activities Cash receipts from customers ............. Less cash payments: To suppliers.................................... For income taxes............................ For operating expenses................. For interest ..................................... Net cash provided by operating activities...................................... Cash flows from investing activities Sale of plant assets ............................... Purchase of investments ...................... Purchase of plant assets....................... Net cash used by investing activities...................................... Cash flows from financing activities Issuance of common stock................... Payment of cash dividends................... Redemption of bonds ............................ Net cash used by financing activities...................................... Net increase in cash...................................... Cash at beginning of period ......................... Cash at end of period....................................
$338,660 (1) $110,410 (2) 27,280 19,310 (3) 4,730
161,730 176,930
1,500 (29,000) (100,000) (127,500) 45,000 (26,030) (36,000) (17,030) 32,400 48,400 $ 80,800
*PROBLEM 12.10 (Continued) Computations: (1) Cash receipts from customers Sales revenue ......................................................................$388,460 Deduct: Increase in accounts receivable ......................... 49,800 Cash receipts from customers ...........................................$338,660 (2) Cash payments to suppliers Cost of goods sold .............................................................. $135,460 Add: Increase in inventory ................................................. 9,650 Cost of purchases .......................................................... 145,110 Deduct: Increase in accounts payable .............................. 34,700 Cash payments to suppliers ............................................... $110,410 (3) Cash payments for operating expenses Operating expenses exclusive of depreciation .............................................. Add: Increase in prepaid expenses ................... $2,400 Decrease in accrued expenses payable ................................................. 4,500 Cash payments for operating expenses ...................................................
$12,410 6,900 $19,310
Note: Since the balance sheet did not report interest payable or income taxes payable, the interest expense of $4,730 and the income tax expense of $27,280 reported on the income statement represent the actual cash outflows. [Net cash provided by oper. act. = Cash receipts from cust. – (Cash pmts. to suppliers + Inc. tax. + Oper. exp. + Int.)]; [($388,460 - $49,800) – (($135,460 + $9,650 - $34,700) + $27,280 + ($12,410 + $2,400 + $4,500) + $4,730)] LO 4 BT: AP Difficulty: Hard TOT: 50 AACSB: Analytic AICPA AC: Reporting
PROBLEM 12.11
SPICER COMPANY Statement of Cash Flows – Indirect Method For the Year Ended December 31, 2025 Cash flows from operating activities Net income ........................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .................................. Loss on disposal of plant assets*............... Decrease in accounts receivable ................ Increase in inventory ................................... Decrease in prepaid expenses .................... Increase in accounts payable...................... Net cash provided by operating activities.................................................... Cash flows from investing activities Sale of land ($130,000 + $40,000 – $145,000)..... Sale of equipment................................................ Purchase of equipment ....................................... Net cash used by investing activities .........
$ 37,000
$42,000 2,000 8,000 (9,450) 5,720 8,730
57,000 94,000
25,000 8,000 (92,000) (59,000)
Cash flows from financing activities Payment of cash dividends................................. Net increase in cash.................................................... Cash at beginning of period ....................................... Cash at end of period..................................................
(12,000) 23,000 45,000 $68,000
Noncash investing and financing activities Acquired land by issuance of common stock .........................................
$40,000
*($8,000 – $10,000) [Net cash provided by oper. act. = Net inc. + (Depr. exp. + Loss on disp. of plant assets + Decr. in accts. rec. - Incr. in Inv. + Decr. in prepd. exp. + Incr. in accts. pay.)]; [$37,000 + ($42,000 + ($10,000 - $8,000) + $8,000 – $9,450 + $5,720 + $8,730)] LO 2 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
*PROBLEM 12.12
OAKLEY COMPANY Worksheet—Statement of Cash Flows For the Year Ended December 31, 2025 Balance Sheet Accounts Debits Cash Accounts receivable Inventory Investments Equipment Totals Credits Accumulated depreciation—equipment Accounts payable Accrued expenses payable Bonds payable Common stock Retained earnings Totals Statement of Cash Flow Effects Operating activities Net income Increase in accounts receivable Increase in inventory Increase in accounts payable Decrease in accrued expenses payable Depreciation expense Gain on disposal of plant assets Investing activities Sale of investments Sale of plant assets Purchase of equipment Financing activities Issuance of common stock Issuance of bonds Payment of dividends Totals Increase in cash Totals
Reconcil ing Items Debit Credit
Balance 12/31/24 47,250 57,000 102,650 87,000 205,000 498,900
(m) (a) (b)
35,450 33,800 24,250
(d)
97,000
40,000 48,280 18,830 70,000 200,000 121,790 498,900
(e)
40,200
(h)
6,730
(l)
83,400
(c) (e)
2,500 47,000
(f) (g)
49,700 9,420
(i) 30,000 (j) 50,000 (k) 132,210
(k) 132,210 (g)
9,420
(f)
49,700
(c) (e) (j) (i)
(a) (b)
33,800 24,250
(h)
6,730
(e)
8,750
(d)
97,000
2,500 15,550 50,000 30,000 (l) 610,210 610,210
LO 5 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting
83,400 574,760 (m) 35,450 610,210
Balance 12/31/25 82,700 90,800 126,900 84,500 255,000 639,900 49,500 57,700 12,100 100,000 250,000 170,600 639,900
CC12 (a)
CONTINUING CASE: COOKIE CREATIONS
Indirect method COOKIE & COFFEE CREATIONS INC. Statement of Cash Flows for the Year Ended October 31, 2026
Cash flows from operating activities Net income ........................................................... Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense .................................. Loss on disposal of plant assets ................ Increase in accounts receivable ................. Increase in inventory ................................... Decrease in prepaid expenses .................... Decrease in accounts payable .................... Increase in income taxes payable............... Increase in salaries and wages payable .... Increase in interest payable ........................ Net cash provided by operating activities .............................................. Cash flows from investing activities Sale of equipment................................................ Purchase of equipment ($4,000 + $2,000 + ($13,000)………………………………………… Net cash used by investing activities ......... Cash flows from financing activities Issuance of preferred stock ................................ Reissuance of treasury stock ............................. Principal repayment of notes payable................ Payment of cash dividends ($16,800 + $37,002 - $26,802)…………………………………… Net cash used by financing activities.........
$37,002 $ 17,600 2,500 (540) (447) 250 (1,300) 2,051 5,970 188
26,272 63,274
500 (19,000) (18,500) 1,000 750 (2,000) (27,000) (27,250)
Net increase in cash.................................................... Cash, November 1 ....................................................... Cash, October 31.........................................................
17,524 11,550 $29,074
Noncash investing and financing activities Issuance of note payable to purchase equipment ............................................................
$12,000
CC12 (Continued) *(b)
Direct method COOKIE & COFFEE CREATIONS INC. Statement of Cash Flows for the Year Ended October 31, 2026
Cash flows from operating activities Cash receipts from customers............................ (1)$485,085 Cash payments To suppliers.................................................. $224,441 (2) For operating expenses ............................... 189,945 (3) For interest ................................................... 225 (4) For income tax.............................................. 7,200 (5) (421,811) Net cash provided by operating activities ................................................ 63,274 Cash flows from investing activities Sale of equipment ................................................ Purchase of equipment ($4,000 + $2,000 + $13,000)…………………………………………… Net cash used by investing activities ......... Cash flows from financing activities Issuance of preferred stock ................................ Reissuance of treasury stock ............................. Principal repayment of notes payable................ Payment of cash dividends ($16,800 + $37,002 - $26,802)…………………………………… Net cash used by financing activities .........
500 (19,000) (18,500) 1,000 750 (2,000) (27,000) (27,750)
Net increase in cash.................................................... Cash, November 1 ....................................................... Cash, October 31 .........................................................
17,524 11,550 $ 29,074
Noncash investing and financing activities Issuance of note payable to purchase equipment
$ 12,000
CC12 (Continued) (b) Continued Calculations: (1) Cash receipts from customers Sales ............................................................................... Less: Increase in accounts receivable ........................ Cash receipts from customers......................................
$485,625 540 $485,085
(2) Cash payments to suppliers Cost of goods sold......................................................... Add: Increase in inventory ........................................... Cost of goods purchased .............................................. Add: Decrease in accounts payable ............................ Cash payments to suppliers .........................................
$222,694 447 223,141 1,300 $224,441
(3) Cash payments for operating expenses Other operating expenses and salaries and wages..... Less: Decrease in prepaid expenses........................... Increase in salaries and wages payable....................... Cash payments for operating expenses .........................
$196,165* 250 (5,970) $189,945
*$147,979 + $48,186 (4) Cash payments for interest Interest expense............................................................. Less: Increase in interest payable ............................... Cash payments for interest ........................................... (5) Cash payments for income tax Income tax expense ....................................................... Less: Increase in income tax payable ......................... Cash payments for income tax .....................................
$ $
413 188 225
$9,251 2,051 $ 7,200
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT12.1
FINANCIAL REPORTING PROBLEM
(a) Net cash provided (generated) by operating activities (in millions): September 26, 2020 September 28, 2019
$80,674 $69,391
(b) The decrease in cash and cash equivalents for the year ended September 26, 2020 was $10,828 million. (c) Apple uses the indirect method of computing and presenting the net cash provided (generated) by operating activities. (d) According to the statement of cash flows, accounts receivable decreased $6,917 million in the year ended September 26, 2020. Inventories increased $127 million. Accounts payable decreased $4,062 million in fiscal year ending September 26, 2020. (e) The net cash (used) by investing activities in fiscal year ending September 26, 2020 was ($4,289) million. (f)
The supplemental disclosure of cash flow information at the bottom of the statement of cash flows disclosed interest paid of $3,002 million and income taxes paid of $9,501 million in fiscal year ending September 26, 2020.
LO 2 BT: AN Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Reporting
CT12.2
(a)
COMPARATIVE ANALYSIS PROBLEM
(in thousands)
Columbia Sportswear
$276,077 − $28,758 − $17,195 = $212,864 - $92,291 - $0 =
$230,124
Under Armour, Inc. $120,573
(b) Columbia Sportswear generated almost 2 times as much free cash flow as Under Armour. However, both had a significant amount of "free cash" available after covering capital expenditures and cash dividends. However, it should be noted that Columbia Sportswear paid a cash dividend whereas, Under Armour, Inc. did not pay a cash dividend. LO 3 BT: AN Difficulty: Easy TOT: 10 min, AACSB: Analytic AICPA AC: Reporting
CT12.3
(a)
COMPARATIVE ANALYSIS PROBLEM
(All amounts in millions) Amazon.com $66,064 − $40,140 − $0 =
Walmart
$25,924
$36,074 - $10,264- $6,550* =
$19,260
*$6,116 + $434= $6,550 (b) Both companies had a significant amount of “free cash” available after covering capital expenditures and cash dividends. However, Amazon generated 35% more free cash than Walmart. It should be noted that Walmart paid a cash dividend but Amazon did not. LO 3 BT: AN Difficulty: Easy TOT: 10 min, AACSB: Analytic AICPA AC: Reporting
CT12.4
REAL-WORLD FOCUS
(a) Crucial to the SEC’s effectiveness is its enforcement authority. Each year the SEC brings hundreds of civil enforcement actions against individuals and companies that break the securities laws. Typical infractions include insider trading, accounting fraud, and providing false or misleading information about securities and the companies that issue them. (b) The main purposes of these laws can be reduced to two common-sense notions: ⯈ Companies publicly offering securities for investment dollars must
tell the public the truth about their businesses, the securities they are selling, and the risks involved in investing. ⯈ People who sell and trade securities—brokers, dealers, and exchan-
ges—must treat investors fairly and honestly, putting investors’ interests first. (c) President Franklin Delano Roosevelt appointed Joseph P. Kennedy, President John F. Kennedy’s father, to serve as the first Chairman of the SEC. LO N/A BT: C Difficulty: Easy TOT: 20 min. AACSB: Knowledge, Technology AICPA AC: Technology
CT12.5
REAL-WORLD FOCUS
Answers will vary depending on the company chosen by the student. LO N/A BT: C Difficulty: Easy TOT: 20 min. AACSB: Knowledge, Technology AICPA AC: Technology
CT12.6
DECISION-MAKING ACROSS THE ORGANIZATION
(a) Computation of net income (loss) Sales revenue ........................................... Interest revenue........................................ Gain on sale of investment ($80,000 – $75,000) ............................... Total revenues and gains................. Merchandise purchased for resale ......... Operating expenses paid......................... Depreciation expense .............................. Interest expense ....................................... Total expenses.................................. Net loss*.................................................... *Carried forward to part (b)
$385,000 6,000 5,000 396,000 $258,000 170,000 55,000 3,000 486,000 $ (90,000)
CT12.6 (Continued) (b)
SULLIVAN COMPANY Statement of Cash Flows For the Year Ended January 31, 2025 Cash flows from operating activities Net loss [from part (a)]........................... Adjustments to reconcile net income to net cash used by operating activities: Gain from disposal of investment . Depreciation expense..................... Net cash used by operating activities ...................................... Cash flows from investing activities Sale of investment ................................. Purchase of investment......................... Purchase of fixtures and equipment..... Net cash used by investing activities ...................................... Cash flows from financing activities Issuance of capital stock....................... Purchase of treasury stock ................... Net cash provided by financing activities ...................................... Net increase in cash ..................................... Cash at beginning of period ........................ Cash at end of period ................................... Noncash investing and financing activities Issuance of note for truck ....................
$ (90,000)*
(5,000) 55,000 (40,000) 80,000 (75,000) (320,000) (315,000) 405,000 (10,000) 395,000 40,000 140,000 $180,000
$ 20,000
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CT12.6 (Continued)
(c) From the information given, it appears that Maria is correct from an operating standpoint, Sullivan Company did not have a superb first year, having suffered a $90,000 net loss. However, Maria is wrong about the actual increase in cash not being $40,000; $40,000 is the correct increase in cash. LO 2 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Reporting
CT12.7
COMMUNICATION ACTIVITY
MEMO To:
Walt Jax
From:
Student
Re:
Statement of cash flows
The statement of cash flows provides information about the cash receipts and cash payments of a firm, classified as operating, investing, and financing activities. The operating activities section of the company’s statement of cash flows shows that cash increased by $172,000 as a result of transactions which affected net income. This amount is computed by adjusting net income for those items which affect net income, but do not affect cash, such as sales on account which remain uncollected at year-end. The investing activities section of the statement reports cash flows resulting from changes in investments and other long-term assets. The company had a cash outflow from investing activities due to purchases of buildings and equipment. The financing activities section of the statement reports cash flows resulting from changes in long-term liabilities and stockholders’ equity. The company had a cash inflow from financing activities due to the issuance of common stock and a cash outflow due to the payment of cash dividends. If you have any further questions, please do not hesitate to contact me. LO 1, 2 BT: C Difficulty: Easy TOT: 15 min. AACSB: Knowledge AICPA AC: Reporting
CT12.8
ETHICS CASE
(a) The stakeholders in this situation are: Hans Pfizer, president of Pendleton Automotive Corp. Kurt Nolte, controller. The Board of Directors. The stockholders of Pendleton Automotive Corp. (b) The president’s statement, “We must get that amount above $1 million,” puts undue pressure on the controller. This statement along with his statement, “I know you won’t let me down, Kurt,” encourages Kurt to do something unethical. Controller Kurt Nolte’s reclassification (intentional misclassification) of a cash inflow from a long-term note (financing activity) issuance to an “increase in payables” (operating activity) is inappropriate and unethical. (c) It is unlikely that any board members (other than board members who are also officers of the company) would discover the misclassification. Board members generally do not have detailed enough knowledge of their company’s transactions to detect this misstatement and most board members do not have finance and accounting expertise. It is possible that an officer of the bank that made the loan would detect the misclassification upon close reading of Pendleton Automotive Corp.’s statement of cash flows. It is also possible that close scrutiny of the balance sheet showing an increase in notes payable (long-term debt) would reveal that there is no comparable financing activity item (proceeds from note payable) in the statement of cash flows. LO 2 BT: E Difficulty: Easy TOT: 15 min. AACSB: Communication, Ethics AICPA PC: Communication, Ethical Conduct
CT12.9
ALL ABOUT YOU
(a) The article describes three factors that determine how much money you should set aside. (1) Your willingness to take risk. You need to evaluate how willing you are to experience wide swings in your financial position. (2) Your needs. You need to carefully evaluate your situation and evaluate the possibility of various events and what the financial implications would be. This is also impacted by the number of dependents you have. (3) Your upcoming expenses. Here you need to look further out into the horizon and consider the implications of larger events such as a big trip, a wedding, or education costs. (b) They recommend having at least three months of living expenses set aside, and up to six months. (c) Responses to this question will vary. What is most important is that students begin the process of considering their cash needs and developing a plan to set aside enough money to provide a cushion in the event of a financial “hiccup.” LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Communication, Analytic AICPA PC: Communication, Decision Making
CT12.10
FASB CODIFICATION ACTIVITY
(a) Cash equivalents are short-term, highly liquid investments that have both of the following characteristics: a. Readily convertible to known amounts of cash b. So near their maturity that they present insignificant risk of changes in value because of changes in interest rates. Generally, only investments with original maturities of three months or less qualify under that definition. Original maturity means original maturity to the entity holding the investment. For example, both a three-month U.S. Treasury bill and a three-year U.S. Treasury note purchased three months from maturity qualify as cash equivalents. However, a Treasury note purchased three years ago does not become a cash equivalent when its remaining maturity is three months. Examples of items commonly considered to be cash equivalents are Treasury bills, commercial paper, money market funds, and federal funds sold (for an entity with banking operations). (b) Financing activities include obtaining resources from owners and providing them with a return on, and a return of, their investment; receiving restricted resources that by donor stipulation must be used for long-term purposes; borrowing money and repaying amounts borrowed, or otherwise setting the obligation; and obtaining and paying for other resources obtained from creditors on long-term credit. (c) Investing activities include making and collecting loans and acquiring and disposing of debt or equity instruments and property, plant, and equipment and other productive assets, that is, assets held for or used in the production of goods or services by the entity (other than materials that are part of the entity’s inventory). Investing activities exclude acquiring and disposing of certain loans or other debt or equity instruments that are acquired specifically for resale, as discussed in paragraph 230-10-45-12 and 230-10-45-21.
CT12.10 (Continued) (d) Operating activities include all transactions and other events that are not defined as investing or financing activities (see paragraph 230-1045-12 through 45-15). Operating activities generally involve producing and delivering goods and providing services. Cash flows from operating activities are generally the cash effects of transactions and other events that enter into the determination of net income. (e) The primary objective of a statement of cash flows is to provide relevant information about the cash receipts and cash payments of an entity during a period. As indicated in the glossary at this same section, cash includes not only currency on hand but also demand deposits with banks or other financial institutions. Cash also includes other kinds of accounts that have the general characteristics of demand deposits in that the customer may deposit additional funds at any time and also effectively may withdraw funds at any time without prior notice or penalty. All charges and credits to those accounts are cash receipts or payments to both the entity owning the account and the bank holding it. For example, a bank’s granting of a loan by crediting the proceeds to a customer’s demand deposit account is a cash payment by the bank and a cash receipt of the customer when the entry is made. Thus, the basis for the statement of cash flows is cash, not broader measures of liquidity, like working capital. (f)
Information about all investing and financing activities of an entity during a period that affect recognized assets or liabilities but that do not result in cash receipts or cash payments in the period shall be disclosed. Those disclosures may be either narrative or summarized in a schedule, and they shall clearly relate the cash and noncash aspects of transactions involving similar items.
LO 1 BT: C Difficulty: Moderate TOT: 15 min. AACSB: Technology AICPA AC: Reporting
CHAPTER 13 Financial Analysis: The Big Picture Learning Objectives 1. Apply the concepts of sustainable income and quality of earnings. 2. Apply horizontal analysis and vertical analysis. 3. Analyze a company’s performance using ratio analysis.
ANSWERS TO QUESTIONS 1.
Sustainable income is defined as the most likely level of income to be obtained in the future. It is the amount of regular income that a company can expect to earn from its normal operations. In order to distinguish a company’s net income from its sustainable income, unusual revenues, expenses, gains, and losses are separated from operating transactions. In addition, information on unusual items such as gains and losses on discontinued items and components of other comprehensive income are disclosed separately.
LO 1 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
2.
This would not be considered a favorable trend for Hogan Inc. The relevant earnings per share figures are the $3.26 in 2024 and the $2.99 in 2025. These figures indicate that, unless there was an additional issuance of common stock, the earnings from the continuing operations of the company decreased during 2025. This should give the company’s management some concern because they will not always be able to count on income or gains from discontinued operations.
LO 1 BT: AN Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
3.
Companies report a change from the FIFO method to the average-cost method for inventory costing, retroactively. That is, they report both the current period and any previous periods reported on the face of the statement using the new principle. As a result, the same principle applies to all periods reported. This treatment improves the ability to compare results across years.
LO 1 BT: C Difficulty: Easy TOT: 3 AACSB: Knowledge AICPA AC: Reporting
4.
Apple reported “Total other comprehensive income” of $42 million for year ended September 26, 2020. “Comprehensive income” was more than “Net income” by 0.1% [($57,453 – $57,411) ÷ $57,411]
LO 1 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
5.
Factors that affect the quality of earnings include: (1) Use of alternative accounting methods. Variations among companies in the application of generally accepted accounting principles may hamper comparability. (2) Use of pro forma income measures that do not follow GAAP. Pro forma income is calculated by excluding items that the company believes are unusual or nonrecurring. It is often difficult to determine what was included and excluded. (3) Improper revenue and expense recognition. Many high-profile cases of inappropriate accounting involve recording items in the wrong period.
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 13 (Continued) 6.
(a) During a period of inflation, net income will be less under the LIFO inventory costing method than it will be using the FIFO method because LIFO results in the larger cost of goods sold amount. (b) Inflation does not affect the amount of depreciation taken (except through its effect on salvage value) since the depreciable amount is based on the acquisition cost. A six-year life produces greater depreciation for the first six years (thus, less net income) and less depreciation in years 7, 8, 9 (thus, more net income in those years) than a nine-year life. (c) Inflation does not affect the amount of depreciation taken. Use of the straight-line method results in less depreciation in the earlier years (thus, more net income) than the decliningbalance method but more depreciation in the later years.
LO 1 BT: AN Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
7.
Horizontal analysis, (also called trend analysis), measures the dollar and percentage increase or decrease of an item over a period of time. In this approach, the amount of the item on one statement is compared with the amount of that same item in one or more earlier periods. Vertical analysis, (also called common-size analysis), expresses each item within a financial statement as a percent of a relevant base amount, such as total assets for the balance sheet and net sales for the income statement..
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
8.
(a) $300,000 × 1.245 = $373,500, 2025 net income. (b) $300,000 ÷ .06 = $5,000,000, 2024 revenue.
LO 2 BT: AP Difficulty: Medium TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
9.
(a) Gina is not correct. There are three characteristics: liquidity, profitability, and solvency. (b) The three parties are not primarily interested in the same characteristics of a company. Short-term creditors are primarily interested in the liquidity of the enterprise. In contrast, long-term creditors and stockholders are primarily interested in the profitability and solvency of the company.
LO 3 BT: C Difficulty: Medium TOT: 4 min. AACSB: Knowledge AICPA AC: Reporting
10. (a) Comparison of financial information can be made on an intracompany basis, an intercompany basis, and an industry average basis. 1. An intracompany basis compares the same item with prior periods, or with other financial items in the same period within a company. 2. An intercompany basis compares the same item with other companies’ published reports. 3. The industry average compares the item with the industry average as compiled by Dun & Bradstreet or by trade associations. (b) The intracompany basis of comparison is useful in detecting changes in financial relationships and significant trends within a company. The intercompany basis of comparison provides insight into a company’s competitive position. The industry average basis provides information about a company’s relative position within the industry.
LO 2 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 13 (Continued) 11.
(a)
Liquidity ratios: current ratio, inventory turnover, days in inventory, accounts receivable turnover, and average collection period. (b) Solvency ratios: Debt to assets ratio, times interest earned, and free cash flow.
LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
12.
Tina is correct. A single ratio by itself may not be very meaningful and is best interpreted by comparison with (1) past ratios of the same company, (2) ratios of other companies, or (3) industry norms or predetermined standards. In addition, other ratios of the company are necessary to determine overall financial well-being.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
13.
(a)
Liquidity ratios measure the short-term ability of the company to pay its maturing obligations and to meet unexpected needs for cash. (b) Solvency ratios measure the company’s ability to survive over a long period of time. (c) Profitability ratios measure the income or operating success of a company for a given period of time.
LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
14.
Working capital and the current ratio both relate current assets to current liabilities. Working capital produces a dollar amount that indicates the difference between current assets and current liabilities. The current ratio produces a ratio that indicates the proportional relationship between current assets and current liabilities.
LO 3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
15.
Handi Mart does not necessarily have a problem. The accounts receivable turnover can be misleading in that some companies encourage credit and revolving charge sales and slow collections in order to earn a healthy return on the outstanding receivables in the form of high rates of interest.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
16.
(a) (b) (c) (d)
Asset turnover Inventory turnover and days in inventory Return on common stockholders’ equity Times interest earned
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
17.
The price earnings (P-E) ratio is a reflection of investors’ assessments of a company’s potential future earnings. The P-E ratio takes into account such factors as relative risk, stability of earnings, trends in earnings, and the market’s perception of the company’s growth potential. In this question, investors favor Microsoft because it has the higher P-E ratio. The investors feel that Microsoft will be able to generate even higher future earnings and thus investors are willing to pay more for the stock.
LO 3 BT: C Difficulty: Medium TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 13 (Continued) 18.
The payout ratio is cash dividends paid on common stock divided by net income. In a growth company, the payout ratio is often low because the company is reinvesting earnings in the business instead of distributing earnings to its investors.
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
19.
(a)
An increase in the profit margin is good news because it means that a greater percentage of net sales is resulting in income.
(b) A decrease in inventory turnover signals bad news because it is taking the company longer to sell the inventory and consequently there is a greater chance of inventory obsolescence. (c) An increase in the current ratio signals good news because the company improved its ability to meet maturing short-term obligations. (d) Earnings per share is a deceptive ratio. A decrease might be bad news to the company because it could mean a decrease in net income. Or the decrease might be good news to the company because of an increase in stockholders’ investment. (e) An increase in the price-earnings ratio is generally good news because it means that the market price per share of stock has increased and investors are willing to pay that higher price for the stock. (f)
An increase in the debt to assets ratio is bad news because it means that the company has increased its obligations to creditors and has lowered its equity “buffer.”
(g) A decrease in the times interest earned is bad news because it means that the company’s ability to meet interest payments as they come due has weakened. LO 3 BT: C Difficulty: Hard TOT: 6 min. AACSB: Knowledge AICPA AC: Reporting
20.
Net Income Return on assets = Average Total Assets (7.6%) Net Income - Preferred dividends Return on common stockholders’ equity = Average common stockholders’ equity (12.8%) The difference between the two rates can be explained by looking at the denominator value and by remembering the basic accounting equation, A = L + SE. The asset value will be the larger of the two denominator values; therefore, it will also give the smaller rate of return.
LO 3 BT: AN Difficulty: Hard TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
Questions Chapter 13 (Continued) 21.
(a) Times interest earned, which is an indication of the company’s ability to meet interest charges, and the debt to assets ratio, which indicates the company’s ability to withstand losses without impairing the interests of creditors. (b) The current ratio and accounts receivable turnover, which indicate a company’s liquidity and short-term debt-paying ability. (c)
The earnings per share of common stock and the return on common stockholders’ equity, both of which indicate the earning power of the investment.
LO 3 BT: C Difficulty: Medium TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
22.
Net income - Preferred dividends = Earnings per share. Average common shares outstanding $200,000 – $20,000
= $4.50
40,000 EPS of $4.50 is high relative to what? Is it high relative to last year’s EPS? The president may be comparing the EPS of $4.50 to the market price of the company’s stock, which is inappropriate. LO 3 BT: AP Difficulty: Medium TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 13.1 FLORES CORPORATION Partial Income Statement Discontinued operations: Income from operations of Mexican facility, net of $50,000 income tax ($200,000 × 25%)….................$150,000 Loss on disposal of Mexican facility, net of $160,000 income tax savings ($640,000 × 25%) 480,000
($330,000)
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.2 SILVA CORPORATION Partial Statement of Comprehensive Income Net Income .................................................................................. Other comprehensive income Unrealized gain on available-for-sale securities, net of $17,500 income taxes ($70,000 × 25%)………… ...... Comprehensive income ..............................................................
$337,500 52,500 $390,000
LO 1 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.3 The change in inventory costing for Bryce should be reported retroactively. That is, it should report both the current period and previous periods included on the face of the statement using the new principle. As a result, the same principle applies in all periods. The treatment improves the ability to compare results across years. LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
BRIEF EXERCISE 13.4 Horizontal analysis:
Dec. 31, 2025 Dec. 31, 2024 Accounts receivable (net) Inventory Total assets
*$60,000 = .15 $400,000
$ 460,000 780,000 3,164,000
$ 400,000 650,000 2,800,000
$130,000 = .20 $650,000
Increase or (Decrease) Amount Percent* $ 60,000 130,000 364,000
15% 20% 13%
$364,000 = .13 $2,800,000
LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.5 Vertical analysis: Dec. 31, 2025 Accounts receivable (net) Inventory Total assets
Dec. 31, 2024
Amount
Percent*
Amount
Percent**
$ 460,000 780,000 3,164,000
14.5% 24.7% 100%
$ 400,000 650,000 2,800,000
14.3% 23.2% 100%
*$460,000 = .145 $3,164,000
**$400,000 $2,800,000
= .143
$780,000 = .247 $3,164,000
** $650,000 $2,800,000
= .232
LO 2 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.6
Net income
2025 $518,400
2024 $485,000
2023 $500,000
Increase or (Decrease) Amount Percent* ($15,000) (3%) $33,400 7%
(a) 2023–2024 (b) 2024–2025 *($15,000) = (.03) $500,000
$33,400 = .07 $485,000
LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.7
Net income .16 =
2025 $382,800
2024 X
Increase 16%
$382,800 – X X
.16X = $382,800 – X 1.16X = $382,800 X = $330,000 2024 Net Income = $330,000 (% inc. in net inc. = (2025 net inc. – 2024 net inc.) ÷ 2024 net inc.) (16% = ($382,800 – 2024 net inc.) ÷ 2024 net inc.) LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.8
Net sales Cost of goods sold Expenses Net income
2025 100.0 60.5 26.0 13.5
2024 100.0 62.9 26.6 10.5
2023 100.0 64.8 27.5 7.7
Net income as a percent of net sales for Palau increased over the threeyear period because cost of goods sold and expenses both decreased as a percent of net sales every year. LO 2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.9 Comparing the percentages presented results in the following conclusions: The net income for Phoenix increased in 2024 because of the combination of an increase in net sales and a decrease in both cost of goods sold and expenses. However, the reverse was true in 2025 as net sales decreased, while both cost of goods sold and expenses increased. This resulted in a decrease in net income. LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic and Communication AICPA AC: Reporting AICPA PC: Communication
BRIEF EXERCISE 13.10 Current ratio: 2025 $80,260 Current assets = = .33:1 $245,805 Current liabilities
2024 $70,874 = .22:1 $326,203
The current ratio increased by 50% indicating that Bob Evans Farms is more liquid in 2025; however, the current ratio is very low for both years. LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.11 Accounts receivable turnover =
Net credit sales Average net accounts receivable
2025 (a)
$4,300,000 = 7.9 times $545,000* *($540,000 + $550,000) ÷ 2
2024 $4,000,000 = 7.5 times $530,000** **($520,000 + $540,000) ÷ 2
(b) Average collection period 365 = 46.2 days 7.9
365 = 48.7 days 7.5
Colby Company can be somewhat pleased with the effectiveness of its credit and collection policies. The company has decreased the average collection period by more than two days and the collection period of approximately 46 days almost equals the 45 days allowed in the credit terms. LO 3 BT: AN Difficulty: Medium TOT: 10 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
BRIEF EXERCISE 13.12 (a) Inventory turnover =
Cost of goods sold Average inventory
2025
2024 $4,541,000**
$4,780,000*
$840,000 + $960,000 = 5.0 times
$960,000 + $1,020,000 = 4.8 times 2
2
2025 $ 960,000 4,840,000 5,800,000 1,020,000 $4,780,000*
Beginning inventory Purchases Goods available for sale Ending inventory Cost of goods sold
2024 $ 840,000 4,661,000 5,501,000 960,000 $4,541,000**
(Inv. turnover = CGS ÷ Ave. inv.) [2025: 4.8 times = ($960,000 + $4,840,000 – $1,020,000) ÷(($960,000 + $1,020,000) ÷ 2)]
(b) Days in inventory 2025 365 = 76 days 4.8
2024 365 5.0
= 73 days
Management should be concerned with the fact that inventory moved slower in 2025 than it did in 2024. The decrease in inventory turnover could be because of poor pricing decisions or because the company is stuck with obsolete inventory it is unable to sell. LO 3 BT: AN Difficulty: Hard TOT: 15 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
BRIEF EXERCISE 13.13 Net sales
(a) Asset turnover =
Average total assets =
$24,275.5 $13,073.1 $13,717.3 2
= 1.81 times Staples generated $1.81 of net sales for each dollar it had invested in assets. (Asset turnover = Net sales ÷ Ave. tot. assets) [1.81 times = $24,275.5 ÷ (($13,073.1 + $13,717.3) ÷ 2)]
(b) Profit margin =
Net income Net sales
=
$738.7 $24,275.5
= 3.0% Each dollar of net sales resulted in about 3 cents of net income. LO 3 BT: AN Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.14 Cash dividends paid on common stock Net income
Payout ratio =
X
.18 =
$72,000 X = $72,000 (.18) = $12,960 Cash dividends paid = $12,960 (Cash div. paid = Net inc. × Payout ratio) ($12,960 = $72,000 × .18)
Return on assets
=
Net income Average total assets
.20 =
$72,000 X
.20X = $72,000 X =
$72,000 .20
X = $360,000 Average total assets = $360,000 (Ave. tot. assets = Net inc. ÷ Rtn. on assets) ($360,000 = $72,000 ÷ .20) LO 3 BT: AN Difficulty: Hard TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
BRIEF EXERCISE 13.15 Free cash flow = Cash provided by operating activities – Capital expenditures – Cash dividends $10.4 – $3.7 – $6.2 = $0.5 Topps Company generated enough cash from operating activities to maintain its current productive capacity and pay dividends. The free cash flow that remained could have been used to expand operations, pay additional dividends, or reduce debt. LO 3 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
SOLUTIONS TO DO IT! EXERCISES DO IT! 13.1 HRABIK CORPORATION Income Statement (Partial) For the Year Ended December 31, 2025 Income before income taxes ........................................ Income tax expense ...................................................... Income from continuing operations ............................ Discontinued operations Loss from operations of music division, net of $12,000 income tax savings ($60,000 × 20%) ......................................................... $48,000 Gain from disposal of music division, net of $8,000 income taxes ($40,000 × 20%) ...... 32,000 Net income.....................................................................
$500,000 100,000 400,000
(16,000) $384,000
HRABIK CORPORATION Statement of Comprehensive Income For the Year Ended December 31, 2025 Net income..................................................................... Other comprehensive income: Unrealized loss on available-for-sale securities, net of $30,000 income tax savings ($150,000 × 20%) Comprehensive income ................................................
$384,000 120,000 $264,000
(Discont. Oper. = Loss from oper. of music div., net of inc. tax savings + Gain from disp. of music div., net of inc. tax.) [($16,000) = (($60,000) × (1.00 .20)) + ($40,000 × (1.00 .20))] LO 1 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
DO IT! 13.2 Increase or (Decrease) in 2025 Amount Current assets Plant assets Total assets
Percent
$ (20,000) (9.1)% [($ 200,000 – $ 220,000) ÷ $ 220,000] 260,000 33.3% [($1,040,000 – $ 780,000) ÷ $ 780,000] $240,000 24% [($1,240,000 – $1,000,000) ÷ $1,000,000]
LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
DO IT! 13.3 2025 (a) Current ratio: $1,380 ÷ $900 = $1,310 ÷ $790 =
1.53:1
(b) Inventory turnover: $955/ [($460 + $390) ÷ 2)] = $890/ [($390 + $340) ÷ 2)] =
2.25 times
(c) Profit margin: $294 ÷ $3,800 = $154 ÷ $3,460 =
7.7%
(d) Return on assets: $294/[($2,340 + $2,210) ÷ 2)] = $154/[($2,210 + $1,900) ÷ 2)] =
12.9%
(e) Return on common stockholders’ equity: $294/[($1,030 + $1,040) ÷ 2)] = $154/[($1,040 + $900) ÷ 2)] =
28.4%
(f)
Debt to assets ratio: ($900 + $410) ÷ $2,340 = ($790 + $380) ÷ $2,210 =
(g) Times interest earned: ($294 + $126 + $25) ÷ $25 = ($154 + $66 + $20) ÷ $20 =
2024
1.66:1
2.44 times
4.5%
7.5%
15.9% 56.0% 52.9% 17.8 times 12.0 times
LO 3 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
SOLUTIONS TO EXERCISES EXERCISE 13.1 (a)
HAAS CORPORATION Income Statement (Partial) For the Year Ended October 31, 2025 Income before income taxes.................................................. Income tax expense ($540,000 × 20%) .................................. Income from continuing operations ...................................... Discontinued operations Loss from operations, net of $10,000 income tax savings ($50,000 × 20%) .................. $40,000 Loss on disposal, net of $14,000 income tax savings ($70,000 × 20%) ................... 56,000 Net income ..............................................................................
$540,000 108,000 432,000
96,000 $336,000
(Discont. Oper. = Loss from oper., net of inc. tax. savings + Loss on disp., net of inc. tax savings) [($96,000) = (($50,000) × (1.00 .20)) + (($70,000) × (1.00 .20))]
(b)
To:
Chief Accountant
From: Your name, Independent Auditor After reviewing your income statement for the year ended 10/31/25, we believe it is misleading for the following reasons: The amount reported for income from continuing operations is overstated by $24,000. The income tax expense should be 20% of $540,000, or $108,000, not $84,000. Also, the effect of the loss on discontinued operations on net income is only $96,000, not $120,000. An income tax savings of $24,000 should be netted against the loss. LO 1 BT: AN Difficulty: Medium TOT: 15 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
EXERCISE 13.2 TRAYER CORPORATION Income Statement (Partial) For the Year Ended December 31, 2025 Income from continuing operations ...................... Discontinued operations Loss from operations, net of $2,000 income tax savings ($10,000 × 20%)........... Gain from disposal, net of $8,000 income taxes ($40,000 × 20%) ................... Net income ..............................................................
$290,000 $ 8,000 32,000
24,000 $314,000
TRAYER CORPORATION Statement of Comprehensive Income For the Year Ended December 31, 2025 Net income ...................................................................... $314,000 Other comprehensive income Unrealized loss on available-for-sale securities, net of $16,000 income tax savings ($80,000 × 20%) ....... 64,000 Comprehensive income .............................................................. $250,000 (Discont. Oper. = Loss from oper., net of inc. tax. savings + Gain on disp., net of inc. tax.) [$24,000 = (($10,000) × (1.00 .20)) + ($40,000 × (1.00 .20))] LO 1 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
EXERCISE 13.3 GLITTER INC. Condensed Balance Sheets December 31 Increase or (Decrease) Amount Percent
2025
2024
Assets Current assets Plant assets (net) Total assets
$106,000 400,000 $506,000
$ 90,000 350,000 $440,000
$16,000 50,000 $66,000
17.8% 14.3% 15.0%
Liabilities Current liabilities Long-term liabilities Total liabilities
$ 99,000 122,000 $221,000
$ 65,000 90,000 $155,000
$34,000 32,000 $66,000
52.3% 35.6% 42.6%
130,000 155,000
115,000 170,000
15,000 (15,000)
13.0% (8.8%)
285,000
285,000
–0–
–0–
$506,000
$440,000
$66,000
15.0%
Stockholders’ Equity Common stock, $1 par Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity
LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.4 JOSHUA CORPORATION Condensed Income Statements For the Years Ended December 31 2025 Net sales Cost of goods sold Gross profit Selling expenses Administrative expenses Total operating expenses Income before income taxes Income tax expense Net income
Amount $800,000 520,000 280,000 120,000 60,000 180,000 100,000 30,000 $ 70,000
Percent 100.0% 65.0% 35.0% 15.0% 7.5% 22.5% 12.5% 3.7% 8.8%
2024 Amount $600,000 408,000 192,000 72,000 48,000 120,000 72,000 24,000 $ 48,000
Percent 100.0% 68.0% 32.0% 12.0% 8.0% 20.0% 12.0% 4.0% 8.0%
LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.5 (a)
NIKE, INC. Condensed Balance Sheets May 31 ($ in millions)
Assets Current assets Property, plant, and equipment (net) Other assets Total assets
Increase or (Decrease) Amount Percent
2025
2024
$ 9,734
$ 8,839
$895
10.1%
1,958 1,558 $13,250
1,891 1,713 $12,443
67 (155) $807
3.5% (9.0)% 6.5%
EXERCISE 13.5 (Continued) NIKE, INC. Condensed Balance Sheets (Continued) May 31 2025
2024
$ 3,277
$ 3,322
$ (45)
(1.4%)
1,280
1,296
(16)
(1.2%)
8,693
7,825
868
11.1%
$13,250
$12,443
$807
6.5%
$ (in millions)
Percent
Assets Current assets Property, plant, and equipment (net) Other assets Total assets
$ 9,734 1,958 1,558 $13,250
73.5% 14.8% 11.7% 100.0%
Liabilities and stockholders’ equity Current liabilities Long-term liabilities Stockholders’ equity Total liabilities and stockholders’ equity
$ 3,277 1,280 8,693 $13,250
24.7% 9.7% 65.6% 100.0%
Liabilities and stockholders’ equity Current liabilities Long-term liabilities Stockholders’ equity Total liabilities and stockholders’ equity
(b)
Increase or (Decrease) Amount Percent
NIKE, INC. Condensed Balance Sheet May 31, 2025
LO 2 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.6 (a)
DELANEY CORPORATION Condensed Income Statement For the Years Ended December 31
2025 $598,000 477,000 121,000 80,000 $ 41,000
Net sales Cost of goods sold Gross profit Operating expenses Net income (b)
2024 $500,000 420,000 80,000 44,000 $ 36,000
Increase or (Decrease) During 2025 Amount Percentage $98,000 19.6% 57,000 13.6% 41,000 51.3% 36,000 81.8% $ 5,000 13.9%
DELANEY CORPORATION Condensed Income Statements For the Years Ended December 31 2025 Net sales Cost of goods sold Gross profit Operating expenses Net income
$ $598,000 477,000 121,000 80,000 $ 41,000
Percent 100.0% 79.8% 20.2% 13.4% 6.8%
2024 $ $500,000 420,000 80,000 44,000 $ 36,000
Percent 100.0% 84.0% 16.0% 8.8% 7.2%
LO 2 BT: AP Difficulty: Medium TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.7 Current ratio = 2.01:1 ($4,054 ÷ $2,014) Accounts receivable turnover = 4.2 times ($8,258 ÷ $1,988.5a) Average collection period = 86.9 days (365 days ÷ 4.2) Inventory turnover = 5.9 times ($5,328 ÷ $899b) Days in inventory = 61.9 days (365 days ÷ 5.9) a
($2,035 + $1,942) ÷ 2
b
($898 + $900) ÷ 2
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.8 Current ratio as of February 1, 2025 = 3.00:1 ($120,000 ÷ $40,000). Feb. 3 7 11 14 18
3.00: No change in total current assets or liabilities. 2.43: ($97,000a ÷ $40,000). 2.43: No change in total current assets or liabilities. 3.04: ($85,000b ÷ $28,000c). 2.66: ($85,000 ÷ $32,000d).
$120,000 $23,000 = $97,000
a
b
$120,000 $23,000 $12,000 = $85,000
$40,000 $12,000 = $28,000
c
d
$28,000 + $4,000 = $32,000 LO 3 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.9 (a) Current ratio =
$15,000 + $70,000 + $60,000 = 2.90:1 $50,000
(b) Accounts receivable turnover =
$375,000 – $25,000 $65,000(1)
(1)
(c)
= 5.4 times
($70,000 + $60,000) 2
Average collection period = 365 days ÷ 5.4 = 67.6 days
(d) Inventory turnover = (2)
$198,000 = 3.6 times $55,000( 2 )
$60,000 $50,000 2
(e)
Days in inventory = 365 days ÷ 3.6 = 101.4 days
(f)
Free cash flow = $48,000 – $25,000 – $10,000 = $13,000
LO 3 BT: AP Difficulty: Medium TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.10 $75.9
(a) Profit margin
$5,121.8 (b) Asset turnover
= 1.5%
$5,121.8 = 1.64 times $2,993.9 + $3,249.8
2
(Asset turnover = Net sales ÷ Ave. tot. assets) [1.64 times = $5,121.8 ÷ (($2,993.9 + $3,249.8) ÷ 2)]
(c) Return on assets
$75.9 = 2.4% $2,993.9 + $3,249.8
2
(Rtn. on assets = Net inc. ÷ Ave. tot. assets) [2.4% = $75.9 ÷ (($2,993.9 + $3,249.8) ÷ 2)]
(d) Return on common stockholders’ equity
($75.9– $0) = 7.6% $921.6 + $1,074.7
2
(Rtn. on CSE = (Net inc. – Pref. div.) ÷ Ave. common stockholders' equity) [7.6% = ($75.9 $0) ÷ (($921.6 + $1,074.7) ÷ 2)]
(e) Gross profit rate
$5,121.8 $3,540.6 30.9% $5,121.8
LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.11 (a) Earnings per share
$72,000 $0
$72,000 $2.00 32,000 40,000 36,000 2
(EPS = (Net inc. – Pref. div.) ÷ Wtd.-ave. no. of common shs. outstanding) [$2.00 = ($72,000 – $0) ÷ ((32,000 + 40,000) ÷ 2)]
EXERCISE 13.11 (Continued) (b) Price-earnings ratio
$14.00
7.0 times
$2.00 $21,000
(c) Payout ratio
= 29.2%
$72,000 (d) Times interest earned
$72,000 $16,000 $24,000 = $112,000 = 7.0 $16,000
$16,000
times LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.12 (a) Inventory turnover = 3.8 =
Cost of goods sold $200,000 + $180,000 2
3.8 × $190,000 = Cost of goods sold Cost of goods sold = $722,000. (CGS = Ave. inv. × Inv. turnover) [$722,000 = (($200,000 + $180,000) ÷ 2) × 3.8]
(b) Accounts receivable turnover = 11.2 =
Net credit sales $126,000 + $72,500 2
11.2 × $99,250 = Net credit sales = $1,111,600. (Net credit sales = Ave. accts. rec. × Accts. rec. turnover) [$1,111,600 = (($126,000 + $72,500) ÷ 2) × 11.2]
(c) Return on common stockholders’ equity = 22% = Net income $400,000 + $113,500 + $400,000 + $101,000 2 .22 × $507,250 = Net income = $111,595.
EXERCISE 13.12 (Continued) (Net inc. = Ave. common stockholders' equity × Rtn. on common stockholders' equity) [$111,595 = (($400,000 + $113,500 + $400,000 + $101,000) ÷ 2) × .22]
(d) Return on assets = 18% =
Net income Average assets
Average assets =
=
$111,595 [see (c) above] Average assets
= $619,972
Total assets (Dec. 31, 2025) + $605,000 = $619,972 2 Total assets (Dec. 31, 2025) = ($619,972 × 2) – $605,000 = $634,944. (Ave. assets = Net inc. ÷ Rtn. on assets) ($619,972 = $111,595 ÷ 18%) LO 3 BT: AN Difficulty: Hard TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
EXERCISE 13.13 2025 (a) Current ratio: $1,390 ÷ $820 = $1,310 ÷ $790 =
1.70:1
(b) Inventory turnover: $970/[($460 + $390) ÷ 2)] = $890/[($390 + $340) ÷ 2)] =
2.28 times
2024
1.66:1
2.44 times
(Inv. turnover = CGS ÷ Ave. inv.) [2025: 2.28 = $970 ÷ (($460 + $390) ÷ 2)]
(c) Profit margin: $252 ÷ $3,800 = $132 ÷ $3,460 =
6.6% 3.8%
EXERCISE 13.13 (Continued) (d) Return on assets: $252/[($2,340 + $2,210) ÷ 2)] = $132/[($2,210 + $1,900) ÷ 2)] =
11.1% 6.4%
(Rtn. on assets = Net inc. ÷ Ave. tot. assets) [2025: 11.1% = $252 ÷ (($2,340 + $2,210) ÷ 2)]
(e) Return on common stockholders’ equity: $252/[($1,040 + $1,040) ÷ 2)] = $132/[($1,040 + $900) ÷ 2)] =
24.2% 13.6%
(Rtn. on common stockholders' equity = Net inc. ÷ Ave. common stockholders' equity) [2025: 24.2% = $252 ÷ (($1,040 + $1,040) ÷ 2)]
(f) Debt to assets ratio: ($820 + $480) ÷ $2,340 = ($790 + $380) ÷ $2,210 =
55.6%
(g) Times interest earned: ($252 + $168 + $10) ÷ $10 = ($132 + $88 + $20) ÷ $20 =
43 times
52.9%
12 times
LO 3 BT: AP Difficulty: Medium TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
SOLUTIONS TO PROBLEMS PROBLEM 13.1
(a)
Condensed Income Statement For the Year Ended December 31, 2025 Duke Company Lord Company Dollars Percent Dollars Percent $1,849,000 100.0% $546,000 100.0% 1,063,200 57.5% 289,000 52.9% 785,800 42.5% 257,000 47.1% 240,000 13.0% 82,000 15.0% 545,800 29.5% 175,000 32.1%
Net sales Cost of goods sold Gross profit Operating expenses Income from operations Other expenses and losses Interest expense 6,800 Income before income taxes 539,000 Income tax expense 62,000 Net income $ 477,000
.4% 3,600 29.1% 171,400 3.4% 28,000 25.8% $143,400
.7% 31.4% 5.1% 26.3%
(b) From an analysis of only dollar amounts, Duke Company seems more profitable than Lord Company; Duke Company’s gross profit, income from operations, and net income all far exceed those of Lord Company. A vertical analysis, however, yields a different conclusion. Lord Company’s gross profit, income from operations and net income as a percent of net sales exceed those of Duke Company. Also, Lord Company’s return on assets of 67.0% ($143,400 ÷ $214,172)b exceeds Duke Company’s return on assets of 57.3% ($477,000 ÷ $832,593)a; and Lord Company’s return on common stockholders’ equity of 93.1% (143,400 ÷ $154,047)d exceeds Duke Company’s return on common stockholders’ equity of 72.3% ($477,000 ÷ $659,528)c. Both the vertical analysis and the two ratios indicate that Lord Company is more profitable.
PROBLEM 13.1 (Continued) a
$477,000 is Duke's 2025 net income. $832,593 is Duke's 2025 average assets: Current assets Plant assets (net) Total assets
2025 2024 $325,975 $312,410 526,800 500,000 $852,775 + $812,410 =
$1,665,185 2
b
$143,400 is Lord's 2025 net income. $214,172 is Lord's 2025 average assets: Current assets Plant assets (net) Total assets
2025 2024 $ 83,336 $ 79,467 139,728 125,812 $223,064 + $205,279 = $428, 343 2
c
$477,000 is Duke's 2025 net income. $659,528 is Duke's 2025 average common stockholders’ equity: Common stock Retained earnings Common stockholders’ equity
2025 $500,000 172,460
2024 $500,000 146,595
$672,460 + $646,595 = $1, 319,055 2
d
$143,400 is Lord's 2025 net income. $154,047 is Lord's 2025 average common stockholders’ equity: Common stock Retained earnings Common stockholders’ equity
2025 $120,000 38,096
2024 $120,000 29,998
$158,096 + $149,998 = $308,094 2
LO 2, 3 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic and Communication Measurement, Analysis and Interpretation AICPA PC: Communication
AICPA AC:
PROBLEM 13.2
(a) Earnings per share = (1)
($218,000 – $0) = $3.69 59,000(1)
60,000* + 58,000** 2
*$300,000 $5
**$290,000 $5
Note: There was no treasury stock, so the number of shares issued equals the number of shares outstanding. (b) Return on common stockholders’ equity =
($218,000 – $0) $465,400 + $603,400
=
2
$218,000 $534,400
= 40.8% (Rtn. on common stockholders' equity = (Net inc. Pref. div.) ÷ Ave. common stockholders' equity) [40.8% = ($218,000 $0) ÷ (($465,400 + $603,400) ÷ 2)]
(c) Return on assets =
$218,000 $218,000 = = 23.2% $939,850 $852,800 + $1,026,900
2
(Rtn. on assets = Net inc. ÷ Ave. tot. assets) [23.2% = $218,000 ÷ (($852,800 + $1,026,900) ÷ 2)]
(d) Current ratio = $377,900 = 1.86:1 $203,500
PROBLEM 13.2 (Continued)
(e) Accounts receivable turnover =
$1,890,540 ($102,800 + $117,800) 2
$1,890,540 = = 17.1 times $110,300 (Accts. rec. turnover = Net credit sales ÷ Ave. net accts. rec.) [17.1 times = $1,890,540 ÷ (($102,800 + $117,800) ÷ 2)]
(f)
Average collection period = 365 days ÷ 17.1 = 21.3 days
(g) Inventory turnover =
$1,058,540 $1,058,540 = = 8.8 times $120,750 $115,500 + $126,000
2
(Inv. turnover = CGS ÷ Ave. inv.) [8.8 times = $1,058,540 ÷ (($115,500 + $126,000) ÷ 2)]
(h) Days in inventory = 365 days ÷ 8.8 = 41.5 days (i)
Times interest earned = $218,000 + $92,000+$22,000 = 15.1 times $22,000
(j)
Asset turnover =
$1,890,540 = 2.01 times $1,026,900 + $852,800 2
(Asset turnover = Net sales ÷ Ave. tot. assets) [2.01 times = $1,890,540 ÷ (($1,026,900 + $852,800) ÷ 2)]
(k) Debt to assets ratio = $423,500 = 41% $1,026,900 (l)
Free cash flow = $220,000 – $136,000 – $70,000 = $14,000
LO 3 BT: AP Difficulty: Medium TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
PROBLEM 13.3
(a)
2025 (1)
Profit margin $95,000 $700,000
(2)
2024
$70,000 = 12.3% $570,000
= 13.6%
Gross profit rate $220,000 = 38.6% $570,000
$275,000 = 39.3% $700,000 (3)
Asset turnover
$700,000 = 1.06 times $600,000 + $725,000
2
$570,000 = 1.01 times $533,000 + $600,000
2
(Asset turnover = Net sales ÷ Ave. tot. assets) [2025: 1.06 times = $700,000 ÷ (($600,000 + $725,000) ÷ 2)]
(4)
Earnings per share $95,000 = $3.02 31,000 + 32,000
$70,000 = $2.30 30,000 + 31,000
2 2 Note: There was no treasury stock, so number of shares issued equals number of shares outstanding. Divide the total amount for common stock each year by the $10 par value. (5)
(6)
Price-earnings ratio $8.50 = 2.8 times
$7.50
$3.02
$2.30
= 3.3 times
Payout ratio $45,000** $95,000
= 47%
**($125,000 + $95,000 – $175,000) (2024 Ret. earn. + 2025 Net inc. – 2025 Ret. earn)
$58,000* $70,000
= 83%
*($113,000 + $70,000 – $125,000) (2023 Ret.earn. + 2024 Net inc. – 2024 Ret. earn.)
PROBLEM 13.3 (Continued) (7)
Debt to assets ratio ($85,000 + $145,000) = 32% $725,000
($80,000 + $85,000) = 28% $600,000
(b) The underlying profitability of the corporation appears to have improved. For example, profit margin and earnings per share have both increased. The corporation’s debt to assets ratio has increased but the improvements in profitability indicate that taking on more debt was a wise move. LO 3 BT: AN Difficulty: Medium TOT: 30 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
PROBLEM 13.4
(a) LIQUIDITY 2025
2024
% Change
Current ratio
$484,000 = 1.76:1 $275,000
Accounts receivable turnover
$882,000 = 9.1 times $790,000 = 9.0 times $97,000 $88,000
1%
Inventory turnover
$640,000 = 3.2 times $575,000 = 4.1 times $140,000 $197,500
(22%)
$383,000 = 1.81:1 $212,000
(3%)
An overall decrease in liquidity has occurred. (Both accts. rec. and inv. turnovers have an ave. in their denominator)
PROFITABILITY Profit margin
= 5.9%
= 6.1%
(3%)
Asset turnover
= 1.12 times
= 1.16 times
(3%)
Return on assets
= 6.6%
= 7.1%
(7%)
Earnings 8% = $2.60 = $2.40 per share Note: Since there was no treasury stock, number of shares issued is equal to number shares outstanding.
(Both asset turnover and rtn. on assets have the same ave. in their denominator)
PROBLEM 13.4 (Continued) (b) 1.
2.
3.
(a) (b) (c)
2025
2026
%Change
$52,000 = 15.6% $332,500(a)
$54,000 = 11.6% $466,000(b)
(26%)
Debt to assets ratio
$525,000
$355,000
$874,000
$900,000
Priceearnings ratio
$9.00 = 3.5 times $2.60
$12.00 = 4.4 times $2.70(c)
Return on common stockholders’ equity
= 60%
= 39%
(35%)
26%
($200,000 + $149,000 + $200,000 + $116,000) ÷ 2. ($380,000* + $203,000** + $200,000 + $149,000) ÷ 2. $54,000 ÷ 20,000. *$200,000 + (18,000 × $10/share) **$149,000 + $54,000
Note: Since there was no treasury stock, shares issued is equal to shares outstanding. (Rtn. on common stockholders' equity has an ave. in its denominator) LO 3 BT: AN Difficulty: Medium TOT: 50 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
PROBLEM 13.5
(a)
Ratio
Target
Walmart
(All Dollars Are in Millions) (1) Current ratio 1.63:1 ($18,424 ÷ $11,327) .87:1 ($48,331 ÷ $55,561) (2) Accounts receivable turnover 8.7 ($65,357 ÷ $7,525) 101.4 ($408,214 ÷ $4,025) (3) Average collection period (in days) 42.0 (365 ÷ 8.7) 3.6 (365 ÷ 101.4) (4) Inventory turnover 6.6 ($45,583 ÷ $6,942) 9.0 ($304,657 ÷ $33,836) (5) Days in inventory 55.3 (365 ÷ 6.6) 40.6 (365 ÷ 9.0) (6) Profit margin 3.8% ($2,488 ÷ $65,357) 3.5% ($14,335 ÷ $408,214) (7) Asset turnover 1.5 ($65,357 ÷ $44,319.5a) 2.4 ($408,214 ÷ $167,067.5d) (8) Return on assets 5.6% ($2,488 ÷ $44,319.5a) 8.6% ($14,335 ÷ $167,067.5d) (9) Return on common stockholders’ equity 17.1% ($2,488 ÷ $14,529.5b) 21.0% ($14,335 ÷ $68,369e) (10) Debt to assets ratio 66% ($29,186 ÷ $44,533) 58% ($99,650 ÷ $170,706) (11) Times interest earned 6.5 ($4,579c ÷ $707) 11.4 ($23,539f ÷ $2,065) (12) Free cash flow $3,656 ($5,881 – $1,729 – $496) $9,848 ($26,249 – $12,184 – $4,217) a
($44,533 + $44,106) ÷ 2 b ($15,347 + $13,712) ÷ 2 c ($2,488 + $1,384 + $707)
d
($170,706 + $163,429) ÷ 2 ($71,056 + $65,682) ÷ 2 f ($14,335 + $7,139 + $2,065) e
(b) The comparison of the two companies shows the following: Liquidity— Target’s current ratio of 1.63:1 is better than Walmart’s .87:1. However, Walmart has a better inventory turnover than Target and its accounts receivable turnover is significantly better than Target’s. Solvency—Walmart surpasses Target in all of the solvency ratios. Thus, it is more solvent than Target. Profitability—With the exception of profit margin, Walmart exceeds Target in all of the profitability ratios. Thus, it is more profitable than Target. LO 3 BT: AN Difficulty: Medium TOT: 60 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
CC13
CONTINUING CASE: COOKIE CREATIONS
(a)
2026 1.
Current ratio
$46,021 $48,839 2.
$27,760 $37,930
= .94:1
$37,930 = 40% $94,160
= 45%
Gross profit rate $254,375 = 55% $462,500
$262,931 = 54% $485,625 4.
Profit margin $37,002 = 7.6% $485,625
5.
Return on assets
= 9.1%
$37,002 = 34.1% $122,821 94,160 2 6.
= .73:1
Debt to assets ratio
$54,839 $122,821 3.
2025
$42,000 = 64.9% $94,160 $35,180 2
Return on common stockholders’ equity $37,002 $18,000 * = 39.7% $52,982 $42,730 2
$42,000 $16,800 * = 74.2% $42,730 $25,180 2
*Preferred dividends – 2026 ($18,000) and 2025 ($16,800)
CC13 (Continued) (b)
COOKIE & COFFEE CREATIONS INC. Income Statement For The Year Ended October 31
Sales revenue Cost of goods sold Gross profit Operating expenses Salaries & wages expense Depreciation expense Other operating expenses Total operating expenses Income from operations Other expenses Interest expense Loss on disposal of plant assets Total other expenses Income before income tax Income tax expense Net income
2026
2025
Difference
Horizontal Analysis
$485,625 222,694 262,931
$462,500 208,125 254,375
$23,125 14,569 8,556
5% 7% 3%
147,979 17,600 48,186 213,765 49,166
146,350 9,100 42,925 198,375 56,000
1,629 8,500 5,261 15,390 (6,834)
1% 93% 12% 8% –12%
413
—
413
2,500 2,913 46,253 9,251 $ 37,002
— — 56,000 14,000 $ 42,000
2,500 2,913 (9,747) (4,749) $ (4,998)
–17% –34% –12%
CC13 (Continued) (c)
COOKIE & COFFEE CREATIONS INC. Income Statement For The Year Ended October 31
Sales revenue Cost of goods sold Gross profit Operating expenses Salaries & wages expense Depreciation expense Other operating expenses Total operating expenses Income from operations Other expenses Interest expense Loss on disposal of plant assets Total other expenses Income before income tax Income tax expense Net income
(d)
2026
Vertical Analysis
2025
Vertical Analysis
$485,625 222,694 262,931
100.00% 45.86% 54.14%
$462,500 208,125 254,375
100.00% 45.00% 55.00%
147,979 17,600 48,186 213,765 49,166
30.47% 3.62% 9.92% 44.02% 10.12%
146,350 9,100 42,925 198,375 56,000
31.64% 1.97% 9.28% 42.89% 12.11%
413
0.09%
—
0.00%
2,500 2,913 46,253 9,251 $ 37,002
0.51% 0.60% 9.52% 1.90% 7.62%
— — 56,000 14,000 $ 42,000
0.00% 0.00% 12.11% 3.03% 9.08%
Sales have increased by 5% from 2025 to 2026; however the cost of goods sold increased by 7%. This resulted in a decrease in gross profit as a percent of sales from 55% in 2025 to 54.1% in 2026. This analysis ties into the calculations done with respect to gross profit rates and profit margin in part (a). It would appear that the decrease in the gross profit rate and the profit margin is primarily related to the increase in the cost of goods sold in 2026. Depreciation has increased by 93%; however, this coincides with significant increases in the purchase of plant assets during 2025 and 2026.
CC13 (Continued) (d) (Continued) Salaries and wages expense only increased 1%. However, other operating expenses increased by 12% in comparison to the 5% growth in sales during the year. It would appear that Natalie and Curtis need to do a better job managing other operating expenses. The current ratio has improved significantly from .73:1 to .94:1. This indicates that Cookie & Coffee Creations is likely in a better position to meet its currently maturing obligations. However, a review of the components of the current ratio—primarily receivables and inventory needs to be performed before we can conclude that liquidity has improved. The debt to assets ratio has increased slightly from 40% to 45%. Return on total assets and return on common stockholders’ equity have both decreased significantly during the year. This decrease resulted from a significant increase in assets and stockholders’ equity. (e) The impact on borrowing an additional $20,000: Current ratio would decline slightly due to the semi-annual loan payment plus the interest on the unpaid balance. Debt to assets ratio—Total liabilities would increase by $20,000; however total assets would also increase by the same amount. There would be a slight increase in the ratio. Gross profit rate—no change. Profit margin—Interest expense (less the related tax savings) would cause profits to decline.
CC13 (Continued) (e)
(Continued) Return on assets—Net income would decrease (due to the additional interest expense); total assets would increase causing this ratio to decrease. Return on common stockholders’ equity—Net income would decrease (due to the additional interest expense); total stockholders’ equity would remain the same causing this ratio to decrease.
(f)
The justification for the purchase of the additional equipment would be the related increase in sales revenue. In this case, Cookie & Coffee Creations Inc. is a relatively new business whose equipment was only recently purchased. If the equipment needs to be replaced to maintain current sales levels then there is a justification with respect to the purchase of the equipment. Instead of bank financing, Cookie & Coffee Creations could lease the equipment.
LO 2, 3 BT: AN Difficulty: Complex TOT: 90 min. AACSB: Analytic and Communication Measurement, Analysis and Interpretation AICPA PC: Communication
AICPA AC:
CT13.1
FINANCIAL REPORTING PROBLEM
(a)
APPLE INC. Trend Analysis of Net Sales and Net Earnings For the Five Years Ended 2020 Base Period 2016—($ in millions) 2020
2019
2018
2017
(1) Net sales Trend
$274,515 127%
$260,174 121%
$265,595 $229,234 $215,639 123% 106% 100%
(2) Net income Trend
$57,411 126%
$55,256 121%
$59,531 130%
$48,351 106%
2016
$45,687 100%
Both net sales and net income increased in 2017 and 2018, decreased in 2019 (although above 2016), and then increased again in 2020. In each of the years 2017, 2019, and 2020, the change in net income matched that of net sales, indicating that costs and expenses were increasing at the same rate. However, in 2018, net income increased at a higher rate than net sales, indicating that costs and expenses increased at a slower rate than net sales. (b) (in millions) 1.
Debt to Assets Ratio 2020: 2019:
2.
$258,549 ÷ $323,888 = 80% $248,028 ÷ $338,516 = 73%
Times Interest Earned
2020: ($57,411 + $9,680 + $2,873) ÷ $2,873* = 24.4 times 2019: ($55,256 + $10,481 + $3,576) ÷ $3,576* = 19.4 times *Interest expense was found in Note 4 to the consolidated financial statements. Apple's long-term solvency has decreased. The debt to assets ratio indicates that creditors are financing approximately 80% of Apple's total assets, up from 73%. Also, the times interest earned has increased, indicating that Apple easily has the ability to pay interest payments when they come due as indicated by the times interest earned of approximately 24 times.
CT13.1 (Continued) (c) ($ in millions) 1.
Profit Margin 2020: $57,411 ÷ $274,515 = 20.9% 2019: $55,256 ÷ $260,174 = 21.2%
2.
Asset Turnover 2020: $274,515 ÷ [($323,888 + $338,516) ÷ 2] = .83 times 2019: $260,174 ÷ [($338,516 + $365,725) ÷ 2] = .74 times
3.
Return on Assets 2020: $57,411 ÷ [($323,888 + $338,516) ÷ 2] = 17.3% 2019: $55,256 ÷ [($338,516 + $365,725) ÷ 2] = 15.7%
4.
Return on Common Stockholders’ Equity 2020: $57,411 ÷ [($65,339 + $90,488) ÷ 2] = 73.7% 2019: $55,256 ÷ [($90,488 + $107,147) ÷ 2] = 55.9%
Because the profit margin decreased less than the increase in the asset turnover, the return on assets increased slightly. However, the return on common stockholders’ equity increased significantly. Considering that Apple is primarily in a high-price business where the margin above costs is historically high, the profit margins for both 2020 and 2019 are still good. (d) Substantial amounts of important information about a company are not in its financial statements. Events involving such things as industry changes, management changes, competitors’ actions, technological developments, governmental actions, and union activities are often critical to the successful operation of a company. Financial reports in the media and publications of financial service firms (Standard & Poors, Dun & Bradstreet) will provide additional relevant information not usually found in the annual report. LO 2, 3 BT: AN Difficulty: Hard TOT: 60 min. AACSB: 60 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
CT13.2
COMPARATIVE ANALYSIS PROBLEM
(a) Columbia Sportswear
$2,501,554 $3,042, 478
1. (i) Percentage increase (decrease) in net sales
$4, 474,667 $5,267,132 $5, 267,132
$3, 042, 478
$108,013 $330, 489 (67.3%) $330, 489
$2, 836,571 $2, 931,591 (3.2%)
2. (i) Percentage increase (decrease) in total assets
(decrease) in total stockholders’ equity
(17.8%)
(15.0%)
(ii) Percentage increase (decrease) in net income
(ii) Percentage increase
Under Armour, Inc.
$2, 931,591
$1, 832, 771 $1, 849, 447 (0.9%)
3. Basic earnings per share
$1, 849, 447
$1.63*
$(549,177) $92,139 (696%) $92,139
$5, 030, 628 $4, 843,531 3.9% $4, 843,531
$1,675,993 $2,150,087 (22.1%) $2,150, 087 $(1.21)*
*Given on income statement
(b) It is evident from the decreases shown above for both companies 2020 was not a banner year because of the COVID-19 pandemic. However, Columbia still generated a net income, making it the more profitable of the two companies. Under Armour experienced an increase in total assets, while Columbia’s shrunk. But, Columbia’s total stockholders’ equity decreased significantly less than Under Armour’s. LO 2 BT: AN Difficulty: Medium TOT: 30 min. AACSB: 60 min. AACSB: Analytic and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
CT 13.3
COMPARATIVE ANALYSIS PROBLEM
(a) 1. (i) Percentage increase (decrease) in net sales (ii) Percentage increase (decrease) in net income 2. (i) Percentage increase (decrease) in total assets (ii) Percentage increase (decrease) in total stockholders’ equity 3. Basic earnings per share
Amazon.com
Walmart Inc.
$386, 064 $280,522 37.6%
$559,151 $523,964 6.7%
$21, 331 $11,588 84.1% $11,588
$13,706 $15,201 (9.8%)
$321,195 $225, 248 42.6% $225, 248
$252, 496 $236, 495 6.7%
$93, 404 $62, 060 50.5% $62, 060
$87,531 $81,552 7.3%
$280,522
$42.64*
$523,964
$15,201
$236, 495
$81,552
$4.77*
*Given on income statement
(b) Amazon’s increase in net sales was more than five and a half times greater than the increase for Walmart. In addition, Amazon’s net income increased, while Walmart’s decreased. Amazon’s total assets, and total stockholders’ equity were both significantly larger than Walmart’s, indicating that Amazon is growing faster than Walmart. LO 2 BT: AN Difficulty: Medium TOT: 30 min. AACSB: 60 min. AACSB: Analytic and Communication AICPA AC: Measurement and Reporting AICPA PC: Communication
CT13.4 (a)
INTERPRETING FINANCIAL STATEMENTS Liquidity Ratios
Coca-Cola
PepsiCo
(1) Current ratio
1.28:1 ($17,551 ÷ $13,721)
1.44:1 ($12,571 ÷ $8,756)
(2) Accounts receivable turnover
9.1 times ($30,990 ÷ $3,424)
9.3 times ($43,232 ÷ $4,654)
(3) Average collection period
40.1 days (365 ÷ 9.1)
39.2 days (365 ÷ 9.3)
(4) Inventory turnover
4.9 times ($11,088 ÷ $2,271)
7.8 times ($20,099 ÷ $2,570)
74.5
46.8 (365 ÷ 7.8)
(5) Days in inventory
(365 ÷ 4.9)
PepsiCo is more liquid than Coca-Cola. PepsiCo betters Coca-Cola in all of the ratios. (b)
Solvency Ratios (1) Debt to assets ratio interest (2) Times earned (3) Free cash flow
Coca-Cola $23,872 = 49% $48,671
PepsiCo $23,044 = 58% $39,848
$6,824 $2,040 $355 5,946 $2,100 $3.97 $355 = 26.0 times
$397 = 21.3 times
$8,186 – $1,993 – $3,800 = $2,393
$6,796 – $2,128 – $2,732 = $1,936
Coca-Cola is more solvent than PepsiCo.
CT13.4 (Continued) (c)
Profitability Ratios
Coca-Cola
PepsiCo
(1) Profit margin
22.0% ($6,824 ÷ $30,990)
13.8% ($5,946 ÷ $43,232)
(2) Asset turnover
.69 times ($30,990 ÷ $44,595)
1.14 times ($43,232 ÷ $37,921)
(3) Return on assets
15.3% ($6,824 ÷ $44,595)
15.7% ($5,946 ÷ $37,921)
(4) Return on common stockholders’ equity
30.1% ($6,824 ÷ $22,636)
40.8% ($5,946 ÷ $14,556)
PepsiCo, Inc. has a lower profit margin than the Coca-Cola Company. However, PepsiCo, Inc. has a higher asset turnover, return on assets, and return on common stockholders’ equity. LO 3 BT: AP Difficulty: Medium TOT: 45 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation
CT13.5
REAL-WORLD FOCUS
(a), (b), and (c) Answers will vary depending on the companies chosen by the student. LO 3 BT: AN Difficulty: Hard TOT: 60 min. AACSB: Analytic, Technology and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
CT13.6
REAL-WORLD FOCUS
a. EBITDA is a non-GAAP performance metric that excludes many costs included in the determination of GAAP based net income. EBITDA stands for earnings before interest, taxes, depreciation and amortization. Kraft’s “adjusted operating earnings” adjusts EBITDA by excluding some additional expenses such as costs incurred to integrate and restructure the company after Kraft and Heinz merged, as well as costs related to compensating company employees with Kraft Heinz stock. b. They are similar in some respects, for example both numbers exclude depreciation and amortization. They differ in that Cash flow from operations is a cash-based number that is reported in the statement of cash flows. EBITDA is an accrual based number that is based on numbers reported in the income statement. EBITDA completely excludes interest and tax costs. In contrast, cash flow from operations includes interest and tax costs, but on a cash as opposed to accrual basis (that is, the actual cash paid for interest and taxes, as opposed to including accrued interest and taxes). c. The Securities and Exchange Commission allows companies to report non-GAAP metrics, but they must provide sufficient supporting detail so that investors understand how the numbers were determined. Also, they can’t be presented in a fashion that makes them more prominent or visible than GAAP-based numbers. The SEC has publicly criticized many companies for what the SEC considered inappropriate presentation and emphasis of non-GAAP metrics. d. Companies argue that their tailored numbers provide a truer picture of their finances. In its reports, Kraft Heinz says that its adjusted EBITDA is useful to investors because it removes items “that management believes don’t directly affect our underlying operations.”
CT13.6 (Continued) e. Responses to this question should discuss the potential benefits and drawbacks to non-GAAP measures. It can be argued that allowing companies to adjust numbers to take account of specific company attributes and circumstances could potentially result in information that is more representationally faithful, and therefore more useful. However, because managers have an obvious motivation to report numbers that are beneficial to them, tailored numbers risk being biased and even in some cases deceptive. The pros and cons of allowing companies to report non-GAAP measures is an area that the SEC continues to study. LO 3 BT: E Difficulty: Hard TOT: 60 min. AACSB: Analytic, Technology and Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
CT13.7
DECISION MAKING ACROSS THE ORGANIZATION
(a) Lenders prefer that financial statements are audited because an audit gives independent assurance that the financial statements give a reasonable representation of the company’s financial position and results of operations. With this independent assurance, they feel more comfortable making a decision. (b) The current ratio increase is a favorable indication as to liquidity but alone tells little about the going-concern prospects of the client. From this ratio change alone, it is impossible to know the amount and direction of the changes in individual accounts, total current assets, and total current liabilities. Also unknown are the reasons for the changes. The change in asset turnover cannot alone tell anything about either solvency or going-concern prospects. There is no way to know the amount and the direction of the changes in the two items. An increase in sales would be favorable for going-concern prospects, while a decrease in assets could represent a number of possible scenarios and would need to be investigated further. The increase in net income is a favorable indicator for both solvency and going-concern prospects although much depends on the quality of receivables generated from sales and how quickly they can be converted into cash. Indirectly, the improved income picture may have a favorable impact on solvency and going-concern potential by enabling the client to borrow currently to meet cash requirements. The 32 percent [($3.30 – $2.50) ÷ $2.50] increase in earnings per share, which is identical to the percentage increase in net income, is an indication there has probably been no change in the number of shares of common stock outstanding. This in turn indicates that financing was not obtained through the issuance of common stock. It is not possible to reach conclusions about solvency and going-concern prospects without additional information about the nature and extent of financing. The collective implications of these data alone are that the client entity is about as solvent and viable as a going concern at the end of the CT current year as it was at the beginning although there may be a need for short-term operating cash.
CT13.7 (Continued) Although a quick evaluation of a reporting entity can be made using only a few ratios and comparing these with past ratios and industry statistics, the creditors should realize the limitations of such analysis even from the best prepared statements carrying a CPA’s unqualified opinion. A limitation on comparisons with industry statistics or other companies within the industry exists because material differences can be created through the use of alternative (but acceptable) accounting methods. Further, when evaluating changes in ratios or percentages, the evaluation should be directed to the nature of the item being evaluated because very small differences in ratios or percentages can represent significant changes in dollar amounts or trends. The creditors should evaluate conclusions drawn from ratio analysis in light of the current status of, and expected changes in, such things as general economic conditions, the client’s competitive position, the public’s demand (for the product itself, increased quality of the product, control of noise and pollution, etc.), and the client’s specific plans. (c) 1.
Accounts receivable turnover—indicates liquidity.
2.
Debt to assets ratio—indicates solvency.
3.
Times interest earned—indicates ability to repay interest when due.
Other answers are possible. LO 3 BT: E Difficulty: Hard TOT: 60 min. AACSB: Analytic and Communication AICPA AC: Measurement and Reporting AICPA PC: Collaboration, Leadership and Communication
CT13.8
COMMUNICATION ACTIVITY
To:
Larry Dundee
From:
Accounting Student
Re:
Financial Statement Analysis
There are two fundamental considerations in financial statement analysis: (1) the bases of comparison and (2) the limitations of financial statement analysis. Each of these considerations is explained below. 1. Bases of comparison. The bases of comparison are:
2.
a.
Intracompany—This basis compares an item or financial relationship within a company in the current year with the same item or relationship in one or more prior years.
b.
Intercompany—This basis compares an item or financial relationship of one company with the same item or relationship in one or more competing companies.
c.
Industry averages—This basis compares an item or financial relationship of a company with industry averages (or norms).
Three factors that affect quality of earnings are: a.
Alternative accounting methods—Variations among companies in the application of generally accepted accounting principles (GAAP) can cause variation in earnings quality across companies.
b.
Pro forma income—Many companies now report non-GAAP income measures in addition to GAAP income. There is little guidance regarding these measures, thus the earnings quality of these measures is difficult to determine.
c.
Improper recognition—In order to meet earnings targets, some companies record revenues and expenses in the wrong period. This directly reduces earnings quality.
LO 1, 2 BT: C Difficulty: Medium TOT: 30 min. AACSB: Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication
CT13.9
ETHICS CASE
(a) The stakeholders in this case are: René Kelly, president of RL Industries. Erin Lourdes, public relations director. You, as controller of RL Industries. Stockholders of RL Industries. Potential investors in RL Industries. Any readers of the press release. (b) The president’s press release is deceptive and incomplete and to that extent her actions are unethical. (c) As controller you should at least inform Erin, the public relations director, about the biased content of the release. She should be aware that the information she is about to release, while factually accurate, is deceptive and incomplete. Both the controller and the public relations director (if she agrees) have the responsibility to inform the president of the bias of the about-to-be-released information. LO 3 BT: E Difficulty: Medium TOT: 20 min. AACSB: Analytic, Communication and Ethics AICPA AC: Reporting AICPA PC: Communication and Ethical Conduct
CT13.10
ALL ABOUT YOU
Student responses will vary. We suggest that in class you ask for a few students to share their responses in order to increase students’ understanding of the reasons why different people will choose different investment vehicles. LO - BT: AN Difficulty: Easy TOT: 20 min. AACSB: Analytic and Technology AICPA AC: Reporting
CT 13.11
FASB CODIFICATION ACTIVITY
(a) Discontinued Operations 205-20-45-1 The results of operations of a component of an entity that either has been disposed of or is classified as held for sale under the requirements of paragraph 360-10-45-9, shall be reported in discontinued operations in accordance with paragraph 205-20-45-3 if both of the following conditions are met: a. The operations and cash flows of the component have been (or will be) eliminated from the ongoing operations of the entity as a result of the disposal transaction. b. The entity will not have any significant continuing involvement in the operations of the component after the disposal transaction.
(b) Comprehensive Income The change in equity (net assets) of a business entity during a period from transactions and other events and circumstances from nonowner sources. It includes all changes in equity during a period except those resulting from investments by owners and distributions to owners. LO 1 BT: S Difficulty: Medium TOT: 20 min. AACSB: Analytic and Technology AICPA AC: Reporting
CHAPTER 14 Managerial Accounting Learning Objectives 1. Identify the features of managerial accounting and the functions of management. 2. Describe the classes of manufacturing costs and the differences between product and period costs. 3. Demonstrate how to compute cost of goods manufactured and prepare financial statements for a manufacturer. 4. Discuss trends in managerial accounting.
ANSWERS TO QUESTIONS 1.
(a) Not true. Managerial accounting is a field of accounting that provides economic and financial information for managers and other internal users. (b) Joe is incorrect. Managerial accounting applies to all types of businesses—service, merchandising, and manufacturing.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
2.
(a) Financial accounting is concerned primarily with external users such as stockholders, creditors, and regulators. In contrast, managerial accounting is concerned primarily with internal users such as officers and managers. (b) Financial statements are the end product of financial accounting. These statements are prepared quarterly and annually. In managerial accounting, internal reports may be prepared as frequently as needed. (c) The purpose of financial accounting is to provide general-purpose information for external users. The purpose of managerial accounting is to provide special-purpose information for specific internal decisions.
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
3.
Differences in the content of the reports are as follows: Financial
Managerial
Pertains to business as a whole and is highly aggregated. Limited to accrual accounting and cost data. Generally accepted accounting principles.
Pertains to subunits of the business and may be very detailed. Extends beyond accrual accounting system to any relevant data. Standard is relevance to decisions.
In financial accounting, financial statements are verified annually through an independent audit by certified public accountants. There are no independent audits of internal reports prepared by managerial accountants. LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: None AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
4.
Linda should know that the management of an organization performs three broad functions: (1) Planning requires management to look ahead and to establish objectives. (2) Directing involves coordinating the diverse activities and human resources of a company to produce a smooth-running operation. (3) Controlling is the process of keeping the company’s activities on track.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
5.
Not true. Decision-making is not a separate management function. Rather, decision-making involves the exercise of good judgment in performing the three management functions explained in the answer to question four above.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 14 (Continued) 6.
Employees with line positions are directly involved in the company’s primary revenue generating operating activities. Examples would include factory managers and supervisors, and the vice president of operations. In contrast, employees with staff positions are not directly involved in revenue-generating operating activities, but rather serve in a support capacity to line employees. Examples include employees in finance, legal, and human resources.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
7.
The difference in balance sheets pertains to the presentation of inventories in the current asset section. In a merchandising company, only inventory is shown. In a manufacturing company, three inventory accounts are shown: finished goods, work in process, and raw materials.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
8.
Manufacturing costs are classified as either direct materials, direct labor, or manufacturing overhead.
LO2 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
9.
No, Mel is not correct. The distinction between direct and indirect materials is based on two criteria: (1) physical association and (2) the convenience of making the physical association. Materials which cannot be easily associated with the finished product are considered indirect materials.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
10.
Product costs, or inventoriable costs, are costs that are a necessary and integral part of producing the finished product, they are classified as manufacturing costs. Period costs are costs that are identified with a specific time period rather than with a salable product. These costs relate to nonmanufacturing activities and therefore are not inventoriable costs, they are expensed as incurred.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
11.
A merchandising company that uses the periodic inventory system reports beginning inventory, cost of goods purchased, and ending inventory in the cost of goods section of the income statement. A manufacturing company reports beginning finished goods inventory, cost of goods manufactured, and ending finished goods inventory in its determination of cost of goods sold.
LO3 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12.
(a) (b)
X = total cost of work in process. X = cost of goods manufactured.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 14 (Continued)
13.
Raw materials inventory, beginning…………………………………………………… Raw materials purchases....................................................................................................... Less: Total raw materials available for use .......................................................................... Raw materials inventory, ending .......................................................................................... Direct materials used ..................................................................................................
$12,000 170,000 182,000 15,000 $167,000
LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting ($12,000 + $170,000 - $15,000 = $167,000) (Beg. RM + RM purch. – End. RM = DM used)
14.
Direct materials used ............................................................................................................ Direct labor .......................................................................................................................... Total manufacturing overhead .............................................................................................. Total manufacturing costs ..........................................................................................
$240,000 220,000 180,000 $640,000
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting ($240,000 + $220,000 + $180,000 = $640,000) (DM used + DL used + Tot. MOH = Tot. mfg. costs)
15.
(a) (b)
Total cost of work in process ($26,000 + $640,000).................................................. Cost of goods manufactured ($666,000 – $32,000) ...................................................
$666,000 $634,000
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(a: $26,000 + $640,000 = $666,000); (b: $666,0000 - $32,000 = $634,000)] [(a: Beg. WIP + Tot. mfg. costs = Tot. cost of WIP); (b: Tot. cost of WIP – End. WIP = COGM)]
16.
The order of reporting is finished goods inventory, work in process inventory, and raw materials inventory.
LO3 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
17.
The products differ in how each are consumed by the customer. Services are consumed as they are provided; and not capitalized into inventory. Meals at a restaurant are the best example where they are consumed immediately by the customer. There could be a long lead time before the product is sold to a customer in a manufacturing environment.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
18.
The product costing techniques apply equally well to manufacturers and service companies. Each needs to keep track of the cost of production or services in order to know whether it is generating a profit. The techniques shown in this chapter, to accumulate manufacturing costs to determine manufacturing inventory, are equally useful for determining the cost of services.
LO4 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
19.
The value chain refers to all activities associated with providing a product or service. For a manufacturer, these include research and development, product design, acquisition of raw materials, production, sales and marketing, delivery, customer relations, and subsequent service. The value chain includes both manufacturing and nonmanufacturing activities and costs.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Systems & Process Management IMA: Reporting & Control: Cost Accounting
Questions Chapter 14 (Continued)
20.
An enterprise resource planning (ERP) system is an integrated software system that provides a comprehensive, centralized resource for information. Its primary benefits are that it replaces the many individual systems typically used for receivables, payables, inventory, human resources, etc. Also, it can be used to get information from, and provide information to, the company’s customers and suppliers.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: System and Process Management IMA: Strategy Planning & Performance: Strategic and Tactical Planning
21.
In a just-in-time inventory system, the company has no extra inventory stored. Consequently, if some units that are produced are defective, the company will not have enough units to deliver to customers.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: System and Process Management IMA: Strategy Planning & Performance: Strategic and Tactical Planning
22.
The balanced scorecard is called “balanced” because it strives to not over emphasize any one performance measure, but rather uses both financial and non-financial measures to evaluate all aspects of a company’s operations in an integrated fashion.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: System and Process Management IMA: Strategy Planning & Performance: Strategic and Tactical Planning
23.
Budgets are prepared by companies to provide future direction. Because the budget is also used as an evaluation tool, some managers may try to game the budgeting process by underestimating their division’s predicted performance so that it will be easier to meet their performance targets. On the other hand, if the budget is set at unattainable levels, managers sometimes take unethical actions to meet targets to receive higher compensation or in some cases to keep their jobs.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Ethics AICPA PC: Ethical Conduct IMA: Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
24.
According to the Sarbanes-Oxley Act of 2002, CEOs and CFOs must now certify that financial statements give a fair presentation of the company’s operating results and its financial condition and that the company maintains an adequate system of internal controls. In addition, the composition of the board of directors and audit committees receives more scrutiny, and penalties for misconduct have increased.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Ethics AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Ethical Conduct IMA: Reporting & Control: Internal Controls
25.
Activity-based costing is an approach used to allocate overhead based on each product’s relative use of activities in making the product. Activity-based costing is beneficial because it results in more accurate product costing and in more careful scrutiny of all activities in the value chain.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 14.1
Financial Accounting Primary users
External users
Managerial Accounting Internal users
Types of reports Financial statements Quarterly and annually
Internal reports As frequently as needed
Frequency of reports
Quarterly and annually
As frequently as needed
Purpose of reports
General-purpose
Special-purpose information for specific decisions
Content of reports
Pertains to business as a whole. Pertains to subunits of the Highly aggregated. business. Limited to accrual accounting Very detailed. Extends beyond accrual and cost data. Generally accepted accounting accounting to any relevant data. principles Evaluated based on relevance to decisions
Verification process
Annual audit by certified public accountant
No independent audits
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.2 (a) 1. Planning. (b) 2. Directing. (c) 3. Controlling. LO1 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.3 (a) (b) (c) (d)
DM DL MO MO
Frames and tires used in manufacturing bicycles. Wages paid to production workers. Insurance on factory equipment and machinery. Depreciation on factory equipment.
BRIEF EXERCISE 14.3 (Continued) LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.4 (a) (b) (c) (d) (e) (f) (g) (h)
Direct materials. Direct materials. Direct labor. Manufacturing overhead. Manufacturing overhead. Direct materials. Direct materials. Manufacturing overhead.
LO2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.5 (a) (b) (c) (d) (e) (f)
Product. Period. Period. Period. Product. Product.
LO2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.6
Direct Materials (a) (b) (c) (d)
Product Costs Direct Manufacturing Labor Overhead X
X X X
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.7 (a) Direct materials used ....................................................................... Direct labor .......................................................................................
$180,000 209,000
Total manufacturing overhead ....................................................... Total manufacturing costs ......................................................
208,000 $597,000
(b) Beginning work in process .............................................................. Total manufacturing costs............................................................... Total cost of work in process..................................................
$ 25,000 597,000 $622,000
($25,000 + $597,000 = $622,000) (Beg. WIP + Tot. mfg. costs = Tot. cost in WIP) LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 14.8 ROLAND COMPANY Balance Sheet (Partial) December 31, 2025 ASSETS Current assets Cash .............................................................................. Accounts receivable .................................................... Inventories Finished goods..................................................... Work in process .................................................. Raw materials ..................................................... Prepaid expenses ......................................................... Total current assets....................................
$ 62,000 200,000 $91,000 87,000 83,000
261,000 38,000 $561,000
LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting [$62,000 + $200,000 + ($91,000 + $87,000 + $83,000) + $38,000 = $561,000] [Cash + Accts. rec. + (Fin. gds. + WIP + Raw mat.) + Prepd. exp. = Tot. current assets]
BRIEF EXERCISE 14.9
Direct Materials Used
Direct Labor
Manufacturing Overhead
Total Manufacturing Costs
(1) (2) (3)
$151,000(a) $81,000(b) $144,000(c)
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting (a) $40,000 + $61,000 + $50,000 = $151,000 (b) $296,000 - $140,000 - $75,000 = $81,000 (c) $310,000 - $55,000 - $111,000 = $144,000
BRIEF EXERCISE 14.10 Total Manufacturing Costs $151,000*
Work in Process (January 1)
Work in Process (December 31)
(1) (2) $133,000(b) (3) $58,000(c) *$40,000 + $61,000 + $50,000 (data from BE 14.9)
Cost of Goods Manufactured $189,000(a)
LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting (a) $151,000 + $120,000 - $82,000 = $189,000 (b) $331,000 + $98,000 - $296,000 = $133,000 (c) ($310,000 + $463,000) - $715,000 = $58,000
BRIEF EXERCISE 14.11 One implication of Sarbanes-Oxley Act of 2002 (SOX) was to clarify top management’s responsibility for the company’s financial statements. CEOs and CFOs must certify that financial statements give a fair presentation of the company’s operating results and its financial condition. In addition, top managers must certify that the company maintains an adequate system of internal controls to ensure accurate financial reports. Also, more attention is now paid to the composition of the company’s board of directors. In particular, the audit committee of the board of directors must be comprised entirely of independent members (that is, non-employees) and must contain at least one financial expert. Finally, to increase the likelihood of compliance with these and other new rules, the penalties for misconduct were substantially increased to include not only fines but also incarceration. BRIEF EXERCISE 14.11 (Continued) LO4 BT: C Difficulty: Easy TOT: 6 min. AACSB: Ethics, Communication AICPA PC: Ethical Conduct, Communication IMA: Reporting & Control: Internal Controls
SOLUTIONS FOR DO IT! EXERCISES DO IT! 14.1
1. 2. 3. 4.
False. The board of directors’ primary responsibility is to formulate the operating policies of the company. False. Financial accounting reports pertain to the business as a whole and are highly aggregated (condensed). False. Managerial account reports do not have to follow GAAP and are not audited by CPAs. True
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 14.2 Period costs: Advertising Salaries of sales representatives Product costs: Blank CDs (DM) Depreciation of CD image burner (MO) Salary of factory manager (MO) Factory supplies used (MO) Paper inserts for CD cases (DM) CD plastic cases (DM) Salaries of factory maintenance employees (MO) Salaries of employees who burn music onto CDs (DL) LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 14.3 TOMLIN COMPANY Cost of Goods Manufactured Schedule For the Month Ended April 30, 2025 Work in process, April 1 ......................................... Direct materials........................................................ Raw materials, April 1 ....................................... Raw materials purchases ................................... Total raw materials available for use ............... Less: Raw materials, April 30 .......................... Direct materials used.......................................... Direct labor .............................................................. Manufacturing overhead ........................................ Total manufacturing costs ...................................... Total cost of work in process .................................. Less: Work in process, April 30 ............................ Cost of goods manufactured ...................................
$ 5,000 $ 10,000 98,000 108,000 14,000 $ 94,000 80,000 160,000 334,000 339,000 3,500 $335,500
LO3 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting [$5,000 + (($10,000 + $98,000 - $14,000) + $80,000 + $160,000) - $3,500 = $335,500] [Beg. WIP + ((Beg. raw mat. + Raw mat. purch. – End. raw mat.) + DL + MOH) – End. WIP = COGM]
DO IT! 14.4 1. 2. 3. 4. 5. 6. 7.
f a c d e b g
LO4 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: None IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO EXERCISES EXERCISE 14.1 1. False. Financial accounting focuses on providing information to external users. 2. False. Line positions are directly involved in the company's primary revenuegenerating operating activities. 3. False. Preparation of budgets is part of managerial accounting. 4. False. Managerial accounting applies to service, merchandising and manufacturing companies. 5. True. 6. False. Managerial accounting reports are prepared as frequently as needed. 7. True. 8. True. 9. False. Financial accounting reports must comply with generally accepted accounting principles. 10. False. The company treasurer reports directly to the vice president of finance/chief financial officer. LO1 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.2 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
(c) (c) (c) (c) (a) (b) (c) (c) (c) (a)
Manufacturing overhead. Manufacturing overhead. Manufacturing overhead. Manufacturing overhead. Direct materials. Direct labor. Manufacturing overhead. Manufacturing overhead. Manufacturing overhead. Direct materials.
LO2 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.3 (a) Bicycle components...................... DM Depreciation on factory ............MOH Property taxes on retail store .............................. Period Labor costs of assemblyline workers.................................. DL Factory supplies used ................MOH
Advertising expense ....................... Period Property taxes on factory ............... MOH Customer delivery expense ............................................ Period Sales commissions .......................... Period Salaries paid to sales clerks ........... Period
(b) Product costs are recorded as a part of the cost of inventory because they are an integral part of the cost of producing the bicycles. Product costs are not expensed until the bicycles are sold. Period costs are recognized as an expense when incurred. LO2 BT: C Difficulty: Easy TOT: 8 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.4 (a) Factory utilities ................................................................................... Depreciation on factory equipment .................................................. Indirect factory labor ......................................................................... Indirect materials ............................................................................... Factory manager’s salary .................................................................. Property taxes on factory building ................................................... Factory repairs.................................................................................... Manufacturing overhead ...................................................................
$ 15,500 12,650 48,900 80,800 8,000 2,500 2,000 $170,350
($15,500 + $12,650 + $48,900 + $80,800 + $8,000 + $2,500 + $2,000 = $170,350) (Fact. util. + Depr. on fact. equip. + Ind. fact. labor + Ind. mat. + Fact. mgr’s. sal. + Prop. tax. on fact. bldg.. + Fact. repairs = MOH)
(b) Direct materials used.......................................................................... Direct labor.......................................................................................... Manufacturing overhead ................................................................... Product costs .......................................................................................
$137,600 69,100 170,350 $377,050
(c)
$ 3,800 46,400 1,300 15,000 2,640 $ 69,140
Depreciation on delivery trucks........................................................ Sales salaries ....................................................................................... Repairs to office equipment .............................................................. Advertising.......................................................................................... Office supplies used............................................................................ Period costs .........................................................................................
($3,800 + $46,400 + $1,300 + $15,000 + $2,640 = $69,140) (Depr. on del. trks. + Sales sal. + Repairs on off. equip. + Advert. + Off. sup. used = Period costs) LO2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.5 1. 2.
(c) (c)
3. 4.
(a) (c)
5. 6.
(c) (d)
7. 8.
(a) (b)
9. 10.
(c) (c)
LO2 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.6 1. (b) 2. (c) 3. (a) 4. (c) (Only for the portion that applies to the X-ray department) 5. (c) 6. (c) 7. (c) 8. (c) 9. (c) 10. (c) (Only for the portion that applies to the X-ray department) LO2 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.7 (a)
Delivery service (product) costs: Indirect materials Depreciation on delivery equipment Dispatcher’s salary Gas and oil for delivery trucks Drivers’ salaries Delivery equipment repairs Total
$ 6,400 11,200 5,000 2,200 16,000 300 $41,100
($6,400 + $11,200 + $5,000 + $2,200 + $16,000 + $300 = $41,100) (Ind. mat. + Depr. on del. equip. + Dispatch. sal. + Gas & oil for del. trks. + Drivers’ sal. + Del. equip. repairs = Tot. product costs)
(b)
Period costs: Property taxes on office building CEO’s salary Advertising Office supplies Office utilities Repairs on office equipment Total
$ 870 12,000 4,600 650 990 180 $19,290
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.8 Manufacturing Direct Direct Manufacturing Materials Labor Overhead Broom inspector’s salaries Copy machine maintenanceheadquarters Assembly worker hourly wages Research and development for new broom types Factory manager’s salary Depreciation-broom assembly equipment CEO administrative assistant’s salary Wood for handles Cleaning suppliesfactory Lubricants for factory broom assembly equipment Customer service agents' salaries Factory maintenance crew salaries Sales team golf outings with customers Raw materials receiving department salaries Advertising Depreciation-CFO company car Straw for brooms Salespersons’ salaries Shipping costs to customers
Non manufacturing
Product or Period Product
X
X X
Period Product
X
Period
X
Product
X
Product X
X
Period Product
X
Product
X
Product X
X
Period Product
X
Period
X
Product Period
X
X
Period Product
X
Period
X
Period
X
LO2 BT: C Difficulty: Easy TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
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EXERCISE 14.9 (a) Work in process, January 1 ............................ Direct materials used ....................................... Direct labor ....................................................... Manufacturing overhead Depreciation on factory ........................... Factory supplies used............................... Property taxes on factory ........................ Total manufacturing overhead ....................... Total manufacturing costs............................... Total cost of work in process........................... Less: Work in process, December 31 ............. Cost of goods manufactured ...........................
$ 12,000 $120,000 110,000 $60,000 23,000 14,000 97,000 327,000 339,000 15,500 $323,500
[$12,000 + (($120,000 + $110,000 + ($60,000 + $23,000 + $14,000)) - $15,500 = $323,500] [Beg. WIP + ((DM used + DL + (Depr. on factory + Fact. sup. used + Prop. tax on factory)) – End. WIP = COGM]
(b) Finished goods, Jan. 1 ...................................... Cost of goods manufactured .......................... Cost of goods available for sale....................... Less: Finished goods, ........ nventory, Dec. 31 Cost of goods sold.............................................
$ 60,000 323,500 383,500 45,600 $337,900
(c) The costs not include in either the Schedule of Cost of Goods Manufactured or the Schedule of Cost of Goods sold are: Property taxes on store, Advertising expense, Delivery expense, Sales commissions, and Salaries paid to sales clerks. They would all be classified as period costs, and as such, would be reported on the income statement under operating expenses. LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 14.10 Total raw materials available for use: Direct materials used ................................................................... Add: Raw materials inventory, Dec. 31 ................................... Total raw materials available for use ......................................... ($180,000 + $22,500 = $202,500) (DM used + End. raw mat. = Tot. raw mat. avail. for use)
$180,000 22,500 $202,500
EXERCISE 14.10 (Continued) Raw materials inventory (Jan. 1): Total raw materials available for use: Direct materials used ................................................................... Add: Raw materials inventory, Dec. 31 .................................. Total raw materials available for use......................................... Less: Raw materials purchases ................................................ Raw materials inventory, Jan. 1 ................................................
$180,000 22,500 202,500 158,000 $ 44,500
($180,000 + $22,500 - $158,000 = $44,500) (DM used + End. raw mat. – Raw mat. purch. = Beg. raw mat.)
Total cost of work in process: Cost of goods manufactured ....................................................... Add: Work in process, Dec. 31 ................................................... Total cost of work in process ......................................................
$540,000 81,000 $621,000
Total manufacturing costs: Total cost of work in process ............................................ Less: Work in process, Jan. 1 ........................................... Total manufacturing costs.................................................
$621,000 210,000 $411,000
Direct labor: Total manufacturing costs................................................. Less: Total manufacturing overhead ............................... Direct materials used ............................................. Direct labor.........................................................................
$411,000 $122,000 180,000
302,000 $109,000
[$411,000 – ($122,000 + $180,000) = $109,000] [Tot. mfg. costs – (Tot. MOH + DM used) = DL] LO3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.11 Case A a + $57,000 + $46,500 = $195,650 a = $92,150
$252,500 – $11,000 = f f = $241,500
$195,650 + b = $221,500 b = $25,850
Case C $130,000 + g + $102,000 = $253,700 g = $21,700
EXERCISE 14.11 (Continued) $221,500 – c = $185,275 c = $36,225
$253,700 + h = $337,000 h = $83,300
Case B $68,400 + $86,000 + $81,600 = d d = $236,000
$337,000 – $70,000 = i i = $267,000
$236,000 + $16,500 = e e = $252,500 Additional explanation to EXERCISE 14.11 solution: Case A (a)
Total manufacturing costs ................................................. Less: Manufacturing overhead ......................................... Direct labor ............................................................. Direct materials used .........................................................
$195,650 $46,500 57,000
103,500 $ 92,150
[$195,650 – ($46,500 + $57,000) = $92,150] [Tot. mfg. costs – (MOH + DL) = DM used]
(b) Total cost of work in process............................................. Less: Total manufacturing costs ....................................... Work in process (1/1/25)....................................................
$221,500 195,650 $ 25,850
(c)
$221,500 185,275 $ 36,225
Total cost of work in process............................................. Less: Cost of goods manufactured.................................... Work in process (12/31/25)................................................
Case B (d) Direct materials used ......................................................... Direct labor ......................................................................... Manufacturing overhead ................................................... Total manufacturing costs .................................................
$ 68,400 86,000 81,600 $236,000
($68,400 + $86,000 + $81,600 = $236,000) (DM used + DL + MOH = Tot. mfg. costs)
(e) Total manufacturing costs ................................................. Work in process (1/1/25).................................................... Total cost of work in process.............................................
$236,000 16,500 $252,500
EXERCISE 14.11 (Continued) (f)
Total cost of work in process ............................................ Less: Work in process (12/31/25)...................................... Cost of goods manufactured .............................................
$252,500 11,000 $241,500
Case C (g) Total manufacturing costs................................................. Less: Manufacturing overhead........................................ Direct materials used ............................................ Direct labor.........................................................................
$253,700 $102,000 130,000
232,000 $ 21,700
[$253,700 – ($102,000 + $130,000) = $21,700] [Tot. mfg. costs – (MOH + DM used) = DL]
(h)
Total cost of work in process ............................................ Less: Total manufacturing costs....................................... Work in process (1/1/25)....................................................
$337,000 253,700 $ 83,300
(i)
Total cost of work in process ............................................ Less: Work in process (12/31/25)...................................... Cost of goods manufactured .............................................
$337,000 70,000 $267,000
LO3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.12 (a) (a)
$117,000 + $140,000 + $87,000 = $344,000
(b) $344,000 + $33,000 – $360,000 = $17,000 ($344,000 + $33,000 - $360,000 = $17,000) (Tot. mfg. costs + Beg. WIP – COGM = End. WIP)
(c)
$450,000 – ($200,000 + $132,000) = $118,000
(d) $40,000 + $470,000 – $450,000 = $60,000 ($40,000 + $470,000 - $450,000 = $60,000) (End. WIP + COGM – Tot. mfg. costs = Beg. WIP)
(e)
$265,000 – ($80,000 + $100,000) = $85,000
(f)
$265,000 + $60,000 – $80,000 = $245,000
($265,000 + $60,000 - $80,000 = $245,000) (Tot. mfg. costs + Beg. WIP – End. WIP = COGM)
(g) $288,000 – ($70,000 + $75,000) = $143,000 (h) $288,000 + $45,000 – $270,000 = $63,000 ($288,000 + $45,000 - $270,000 = $63,000)
Tot. mfg. Costs + Beg. WIP – COGM = End. WIP
EXERCISE 14.12 (Continued) (b)
HORIZON COMPANY Cost of Goods Manufactured Schedule For the Year Ended December 31, 2025 Work in process, Jan. 1................................................ Direct materials used ................................................... Direct labor ................................................................... Manufacturing overhead ............................................. Total manufacturing costs .................................. Total cost of work in process....................................... Less: Work in process inventory, Dec. 31............................................................... Cost of goods manufactured........................................
$ 33,000 $117,000 140,000 87,000 344,000 377,000 17,000 $360,000
[($33,000 + ($117,000 + $140,000 + $87,000)) - $17,000 = $360,000] [(Beg. WIP + (DM + DL + MOH)) – End. WIP = COGM] LO3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.13 (a)
CEPEDA CORPORATION Cost of Goods Manufactured Schedule For the Month Ended June 30, 2025 Work in process, June 1...................................... Direct materials used .......................................... Direct labor .......................................................... Manufacturing overhead Indirect factory labor ................................. Factory manager’s salary .......................... Indirect materials used............................... Maintenance, factory equipment .............. Depreciation, factory equipment............... Factory utilities ........................................... Total manufacturing overhead ......... Total manufacturing costs .................................. Total cost of work in process.............................. Less: Work in process, June 30......................... Cost of goods manufactured...............................
$ 3,000 $20,000 40,000 $4,500 3,000 2,200 1,800 1,400 400 13,300
[($3,000 + ($20,000 + $40,000 + ($4,500 + $3,000 + $2,200 + $1,800 + $1,400 + $400))) - $3,800 = $72,500]
73,300 76,300 3,800 $72,500
EXERCISE 14.13 (Continued) [(Beg. WIP + (DM used + DL + (Ind. labor + Fact. mgrs.. sal. + Ind. mat. used + Maint., fact. equip. + Depr., fact. equip. + Fact. util.))) – End. WIP = COGM]
(b)
CEPEDA CORPORATION Income Statement (Partial) For the Month Ended June 30, 2025 Sales revenue ..................................................................... Cost of goods sold Finished goods inventory, June 1............................ Cost of goods manufactured [from (a)].................. Cost of goods available for sale ............................... Less: Finished goods inventory, June 30............... Cost of goods sold .................................. Gross profit........................................................................
$92,100 $ 5,000 72,500 77,500 7,500 70,000 $22,100
LO3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.14 (a) WASHINGTON CONSULTING Schedule of Cost of Contract Services Performed For the Month Ended August 31, 2025 Supplies used (direct materials).............................................. Salaries of professionals (direct labor)................................... Service overhead: Utilities for contract operations ........................................ Contract equipment depreciation ..................................... Insurance on contract operations ..................................... Janitorial services for professional offices ....................... Total overhead.............................................................. Total cost of contract services provided ...........................
$ 1,700 15,600 $1,400 900 800 700 3,800 $21,100
[$1,700 + $15,600 + ($1,400 + $900 + $800 + $700) = $21,100] [Supp. used + Sal. of profs. + (Util. on contract oper. + Contract equip. depr. + Ins. on contract oper. + Jan. srvs. for prof. off.) = $21,100]
EXERCISE 14.14 (Continued) (b) The costs not included in the Schedule of Cost of Contract Services Performed are: Supplies used in administrative offices, Depreciation used on administrative office equipment, Salaries of administrative office personnel, Janitorial services for administrative offices, Insurance on administrative operations, and Utilities for administrative offices. They would all be classified as period costs, and as such, they would be reported on the income statement under administrative expenses. LO2, 3 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.15 (a) Work in process, Jan. 1 ................................ Direct materials Raw materials inventory, Jan. 1 ........... Raw materials purchased ...................... Raw materials available for use............ Less: Raw materials inventory, Dec. 31 ..................................................... Direct materials used ..................................... Direct labor ..................................................... Manufacturing overhead............................... Total manufacturing costs............................. Total cost of work in process......................... Less: Work in process, Dec. 31 ..................... Cost of goods manufactured .........................
$ 13,500 $ 21,000 150,000 171,000 30,000
[$13,500 + (($21,000 + $150,000 - $30,000) + $220,000 + $180,000) - $17,200 = $537,300] [Beg. WIP + ((Beg. RM + RM purch. – End. RM) + DL + MOH) – End. WIP = COGM]
$141,000 220,000 180,000 541,000 554,500 17,200 $537,300
EXERCISE 14.15 (Continued) AIKMAN COMPANY Income Statement (Partial) For the Year Ended December 31, 2025 (b) Sales revenue ................................................. Cost of goods sold Finished goods inventory, Jan. 1 ............ Cost of goods manufactured [From (a)] Cost of goods available for sale .............. Less: Finished goods inventory, Dec. 31 .................................... Cost of goods sold............................. Gross profit....................................................
$910,000 $ 27,000 537,300 564,300 21,000 543,300 $366,700
[$910,000 – ($27,000 + $537,300 - $21,000) = $366,700] [Sales rev. – (Beg. FG inv. + COGM – End. FG inv.) = GP]
AIKMAN COMPANY Balance Sheet (Partial) December 31, 2025 Assets (c) Current assets Inventories Finished goods.......................................................... Work in process ...................................................... Raw materials ..........................................................
$21,000 17,200 30,000
$68,200
(d) In a merchandising company’s income statement (using the periodic inventory system), the only difference would be in the computation of cost of goods sold. Beginning and ending finished goods inventory would be replaced by beginning and ending inventory, and cost of goods manufactured would be replaced by purchases. In a merchandising company’s balance sheet, there would be one inventory account (inventory) instead of three. LO3 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.16
1. 2. 3. 4. 5. 6. 7. 8.
(a) (a) (a), (c) (b) (a) (a) (a) (b), (c)
9. 10. 11. 12. 13. 14. 15. 16.
(a) (a), (b) (b) (b) (a) (a) (a) (a)
LO3 BT: C Difficulty: Easy TOT: 8 min. AACSB: None AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.17 (a)
ROBERTS COMPANY Cost of Goods Manufactured Schedule For the Month Ended June 30, 2025 Work in process inventory, June 1 ....................... Direct materials Raw materials inventory, June 1 ................... Raw materials purchases................................ Total raw materials available for use............ Less: Raw materials inventory, June 30 ....... Direct materials used ...................................... Direct labor ............................................................. Manufacturing overhead Indirect labor................................................... Factory insurance............................................ Machinery depreciation.................................. Factory utilities................................................ Machinery repairs........................................... Miscellaneous factory costs ............................ Total manufacturing overhead ............. Total manufacturing costs ..................................... Total cost of work in process................................. Less: Work in process inventory, June 30 .......... Cost of goods manufactured..................................
$ 5,000 $ 9,000 54,000 63,000 13,100 $49,900 47,000 5,500 4,000 4,000 3,100 1,800 1,500 19,900 116,800 121,800 7,000 $114,800
[$5,000 + (($9,000 + $54,000 - $13,100) + $47,000 + ($5,500 + $4,000 + $4,000 + $3,100 + $1,800 + $1,500)) – $7,000 = $114,800] [Beg. WIP + ((Beg. raw mat. + Raw mat. purch. – End. raw mat.) + DL + (Ind. labor + Fact. ins. + Mach. depr. + Fact. util. + Mach. repairs + Misc. fact. costs)) – End. WIP = COGM]
EXERCISE 14.17 (Continued)
(b)
ROBERTS COMPANY Balance Sheet (Partial) June 30, 2025 ASSETS Current assets Inventories Finished goods ..................................................... Work in process .................................................. Raw materials......................................................
$ 8,000 7,000 13,100
$28,100
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
EXERCISE 14.18 (a) Raw Materials account: Work in Process account: Finished Goods account: Cost of Goods Sold account: Selling Expenses account:
(5,000 – 4,650) x $15 = $5,250 (4,600 x 10%) x $15 = $6,900 (4,600 x 90% x 30%) x $15 = $18,630 (4,600 x 90% x 70%) x $15 = $43,470 50 x $15 = $750
Proof of cost of head lamps allocated (5,000 x $15 = $75,000) Raw materials Work in process Finished goods Cost of goods sold Selling expenses Total
$ 5,250 6,900 18,630 43,470 750 $75,000
[(Raw mat.: (5,000 – 4,650) x $15 = $5,250); (WIP: 4,600 x 10% x $15 = $6,900); (Fin. gds.: (4,600 x 90% x 30%) x $15 = $18,630); (CGS: (4,600 x 90% x 70%) x $15 = $43,470); (Sell. exp.: 50 x $15 = $750)] [(Raw mat.: (Lamps purch. – Lamps withdrawn) x Unit cost = Acct. bal.); (WIP: (Lamps issued to production x % still in production) x Unit cost = Acct. bal.); (Fin. Gds.: (Lamps in production x % completed x % not sold) x Unit cost = Acct. bal.); (CGS: Lamps in production x % completed x % sold) x Unit cost = Acct. bal.); (Sell. exp.: Lamps in sales staff cars x Unit cost = Acct. bal.)]
EXERCISE 14.18 (Continued)
(b) To:
Chief Accountant
From:
Student
Subject:
Statement Presentation of Accounts
Two accounts will appear in the income statement. Cost of Goods Sold will be deducted from net sales in determining gross profit. Selling expenses will be shown under operating expenses and will be deducted from gross profit in determining net income. Sometimes, the calculation for Cost of Goods Sold is shown on the income statement. In these cases, the balance in Finished Goods inventory would also be reported on the income statement. The other accounts associated with the head lamps are inventory accounts which contain end-of-period balances. Thus, they would be reported under inventories in the current assets section of the balance sheet in the following order: finished goods, work in process, and raw materials. LO3 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 14.19 (a) (b) (c) (d)
3. 4. 2. 1.
Balanced scorecard Value chain Just-in-time inventory Activity-based costing
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: System and Process Management IMA: Strategy Planning & Performance: Strategic and Tactical Planning
14-26 Copyright © 2022 John Wiley & Sons, Inc. Kimmel, Accounting, 8e, Solutions Manual (For Instructor Use Only)
(a) Cost Item Rent on factory equipment Insurance on factory building Raw materials used Utility costs for factory Supplies used for general office Wages for assembly-line workers Depreciation on office equipment Miscellaneous materials used Factory manager’s salary Property taxes on factory building Advertising for helmets Sales commissions Depreciation on factory building
Direct Materials
Product Costs Direct Manufacturing Labor Overhead $11,000 1,500
Pe C
$75,000 900 $ $58,000 1,100 5,700 400
$75,000
$58,000
1,500 $22,100
14 10 000 $25
[(MOH: $11,000 + $1,500 + $900 + $1,100 + $5,700 + $400 + $1,500 = $22,100); (Period costs: $300 + $800 + $14,000 + $10, $25,100)] [(MOH: Rent, on fact. equip. + Ins., on fact. bldg. + Fact. util. + Misc. mat. + Fact. mgrs.. sal. + Prop. tax, fact. on bldg.. + Depr bldg. = Tot.); (Period costs: Gen. off. supp. + Depr., on off. equip. + Advert. for helmets + Sales comm. = Tot. period costs)]
(b) Total production costs Direct materials Direct labor Manufacturing overhead Total production cost
$ 75,000 58,000 22,100 $155,100
Production cost per helmet = $155,100/10,000 = $15.51. LO2 BT: AP Difficulty: Easy TOT: 25 min. AACSB: Analytic AICPA AC: Measurement , Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
(a) Copyright © 2022 John Wiley & Sons, Inc. Kimmel, Accounting, 8e, Solutions Manual
Cost Item Direct materials (1) Wages for workers (2) Rent on equipment Indirect materials (3) Factory supervisor’s salary Janitorial costs Advertising Depreciation on factory building (4) Property taxes on factory building (5)
Direct Materials $111,000
Product Costs Direct Manufacturing Labor Overhead $90,000 $ 4,900 7,500 3,000 1,300
$111,000
$90,000
650 750 $18,100
(1) $74 x 1,500 = $111,000. (2) $12 x 5 x 1,500 = $90,000.
(3)$5 x 1,500 = $7,500. (4)$7,800/12 = $650. (5)$9,000/12 = $750.
(For Instructor Use Only)
[(MOH: $4,900 + ($5 x 1,500) + $3,000 + $1,300 + ($7,800/12) + ($9,000/12) = $18,100); (Period costs: $9,500)] [(MOH: Rent, on equip. + (Ind. mat. cost/system x No. systems) + Fact. super. sal. + Jan. costs + (Ann. depr./mos. in a yr.) + (A in a yr,) = Tot.); (Period costs: Advert.)]
(b) Total production costs Direct materials $111,000 Direct labor 90,000 Manufacturing overhead 18,100 Total production cost $219,100 Production cost per system = $219,100/1,500 = $146.07. (rounded) LO2 BT: AP Difficulty: Easy TOT: 25 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Control: Cost Accounting
14-27
PROBLEM 14.3
(a) Case 1 a = $9,600 + $5,000 + $8,000 = $22,600 Total manufacturing costs $22,600 + $1,000 – B = $17,000 b = $22,600 + $1,000 – $17,000 = $6,600 Ending WIP inventory $17,000 + C = $22,000 c = $22,000 – $17,000 = $5,000 Beginning F.G. inventory d = $22,000 – $3,400 = $18,600 Cost of goods sold e = ($24,500 – $2,500) – $18,600 = $3,400 Gross profit f = $3,400 – $2,500 = $900 Net income [(B: $22,600 + $1,000 - $17,000 = $6,600); (E: ($24,500 - $2,500) - $18,600 = $3,400)] [(B: Tot. mfg. costs + Beg. WIP – COGM = End. WIP); (E: (Sales rev. – sales disc.) – CGS = GP)]
Case 2 g + $8,000 + $4,000 = $16,000 g = $16,000 – $8,000 – $4,000 = $4,000 D.M. used $16,000 + h – $3,000 = $24,000 h = $24,000 + $3,000 – $16,000 = $11,000 Beginning WIP inventory (i – $1,400) – k = $7,000 (i– $1,400) – $24,800 = $7,000 i = $1,400 + $24,800 + $7,000 = $33,200 Sales revenue (Note: Item i can only be solved after item k is solved.) j = $24,000 + $3,300 = $27,300 Cost of goods available for sale k = $27,300 – $2,500 = $24,800 Cost of goods sold $7,000 – l = $5,000 l = $2,000 Operating expenses
PROBLEM 14.3 (Continued) [(H: $24,000 + $3,000 - $16,000 = $11,000); (I: $1,400 + $24,800 + $7,000 = $33,200); (K: $27,300 - $2,500 = $24,800)] [(H: COGM + End. WIP – Tot. mfg. costs = Beg. WIP); (I: Sales disc. + CGS + GP = Sales rev.); (K: Gds. avail. for sale – End. fin. gds. = CGS)]
(b)
CASE 1 Cost of Goods Manufactured Schedule For the Year Ended December 31, 2025 Work in process, beginning ............................................ Direct materials ............................................................... Direct labor ...................................................................... Manufacturing overhead ................................................ Total manufacturing costs ..................................... Total cost of work in process.......................................... Less: Work in process, ending ...................................... Cost of goods manufactured...........................................
(c)
$ 1,000 $9,600 5,000 8,000 22,600 23,600 6,600 $17,000
CASE 1 Income Statement For the Year Ended December 31, 2025 Sales revenue.................................................................... Less: Sales discounts ...................................................... Net sales .......................................................................... Cost of goods sold Finished goods inventory, beginning .................... Cost of goods manufactured .................................. Cost of goods available for sale ............................. Less: Finished goods inventory, ending............... Cost of goods sold........................................... Gross profit ...................................................................... Operating expenses ......................................................... Net income........................................................................
$24,500 2,500 $22,000 5,000 17,000 22,000 3,400
[($24,500 - $2,500) – ($5,000 + $17,000 - $3,400) - $2,500 = $900] [(Sales rev. – Sales disc.) – (Beg. fin. gds. inv. + COGM – End. fin. gds. inv.) – Oper. exp. = Net inc.]
PROBLEM 14.3 (Continued)
18,600 3,400 2,500 $ 900
CASE 1 Balance Sheet (Partial) December 31, 2025 Assets Current assets Cash ......................................................................... Accounts receivables (net) ..................................... Inventories Finished goods ................................................ Work in process ............................................. Raw materials................................................. Prepaid expenses .................................................... Total current assets........................................
$ 3,000 15,000 $3,400 6,600 600
10,600 400 $29,000
LO3 BT: AN Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
PROBLEM 14.4
(a)
CLARKSON COMPANY Cost of Goods Manufactured Schedule For the Year Ended June 30, 2025 Work in process, July 1, 2024 ................... Direct materials Raw materials inventory, July 1, 2024 ..................................... Raw materials purchases .................. Total raw materials available for use.............................................. Less: Raw materials inventory, June 30, 2025 ......................... Direct materials used......................... Direct labor ................................................. Manufacturing overhead Factory manager’s salary ................. Factory utilities .................................. Indirect labor ..................................... Factory machinery depreciation ...... Factory property taxes ...................... Factory insurance .............................. Factory repairs................................... Total manufacturing overhead................................. Total manufacturing costs ......................... Total cost of work in process..................... Less: Work in process, June 30, 2025...... Cost of goods manufactured......................
$ 19,800 $ 48,000 96,400 144,400 39,600 $104,800 139,250 58,000 27,600 24,460 16,000 9,600 4,600 1,400 141,660 385,710 405,510 18,600 $386,910
[$19,800 + (($48,000 + $96,400 - $39,600) + $139,250 + ($58,000 + $27,600 + $24,460 + $16,000 + $9,600 + $4,600 + $1,400)) - $18,600 = $386,910] [Beg. WIP + ((Beg. raw mat. + Raw mat. purch. – End. raw mat.) + DL + (Fact. mgrs.. sal. + Fact. util. + Ind. labor + Fact. mach. depr. + Fact. prop. tax. + Fact. ins. + Fact. repairs)) – End. WIP = COGM]
PROBLEM 14.4 (Continued) (b)
CLARKSON COMPANY Income Statement (Partial) For the Year Ended June 30, 2025 Sales revenues Sales revenue....................................................... Less: Sales discounts ......................................... Net sales ............................................................... Cost of goods sold Finished goods inventory, July 1, 2024...................................................... Cost of goods manufactured [From (a)]........... Cost of goods available for sale ......................... Less: Finished goods inventory, June 30, 2025......................................... Cost of goods sold....................................... Gross profit .........................................................
$534,000 4,200 $529,800
96,000 386,910 482,910 75,900 407,010 $122,790
[($534,000 - $4,200) – ($96,000 + $386,910 - $75,900) = $122,790] [(Sales rev. – Sales disc.) – (Beg. fin. gds. inv. + COGM – End. fin. gds. inv.) = GP]
(c)
CLARKSON COMPANY Balance Sheet (Partial) June 30, 2025 Assets Current assets Cash ..................................................................... Accounts receivable............................................ Inventories Finished goods ............................................ Work in process ......................................... Raw materials............................................. Total current assets ...........................
$ 32,000 27,000 $75,900 18,600 39,600
134,100 $193,100
LO3 BT: AP Difficulty: Moderate TOT: 35 AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
PROBLEM 14.5
(a)
EMPIRE COMPANY Cost of Goods Manufactured Schedule For the Month Ended October 31, 2025 Work in process, October 1...................... Direct materials Raw materials inventory, October 1 ....................................... $ 18,000 Raw materials purchases ........................................... 264,000 Total raw materials available for use............................................. 282,000 Less: Raw materials inventory, October 31............................. 29,000 Direct materials used........................ Direct labor ................................................ Manufacturing overhead Factory facility rent ......................... 60,000 Depreciation on factory equipment ..................................... 31,000 Indirect labor ................................... 28,000 Factory utilities* .............................. 9,000 Factory insurance** ........................ 4,800 Total manufacturing overhead............................... Total manufacturing costs ....................... Total cost of work in process................... Less: Work in process, October 31........ Cost of goods manufactured....................
$ 20,000
$253,000 190,000
132,800 575,800 595,800 14,000 $581,800
*$12,000 x 75% = $9,000 **$ 8,000 x 60% = $4,800 [$20,000 + (($18,000 + $264,000 - $29,000) + $190,000 + ($60,000 + $31,000 + $28,000 + ($12,000 x 75%) + ($8,000 x 60%))) - $14,000 = $581,800] [Beg. WIP + ((Beg. raw mat. inv. + Raw mat. purch. – End. raw mat. inv.) + DL + (Fact. facil. rent + Depr. on fact. equip. + Ind. labor + Fact. util. + Fact. ins.)) – End. WIP = COGM]
PROBLEM 14.5 (Continued) (b)
EMPIRE COMPANY Income Statement For the Month Ended October 31, 2025 Sales revenue .............................................................. Cost of goods sold Finished goods inventory, October 1 ............... Cost of goods manufactured [From (a)].......... Cost of goods available for sale ........................ Less: Finished goods inventory, October 31 ............................................ Cost of goods sold...................................... Gross profit................................................................. Operating expenses Advertising expense........................................... Selling and administrative salaries .................. Depreciation expense—sales equipment....................................................... Insurance expense** ......................................... Utilities expense* ............................................... Total operating expenses.......................... Net income ..................................................................
$780,000 $ 30,000 581,800 611,800 50,000 561,800 218,200 90,000 75,000 45,000 3,200 3,000 216,200 $ 2,000
*$12,000 x 25% **$ 8,000 x 40% LO3 BT: AN Difficulty: Moderate TOT: 35 AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
CD14
CURRENT DESIGNS
The answers to parts (a) and (b) may vary from student to student. (a) What are the primary information needs of each manager? Mike Cichanowski, CEO, needs to know the overall financial picture of the company. He also needs to have a general picture of sales by territory and product line, and of cost per unit by product line. Diane Buswell, Controller, needs all accounting-related information. Deb Welch, Purchasing Manager, needs to know the costs of the components for each product. Bill Johnson, Sales Manager, needs to know sales by territory and product line. Dave Thill, Kayak Factory Manager, needs to know all the costs of producing each type of kayak. Rick Thrune, Production Manager for Composite Kayaks, needs to know the costs related to the composite kayak production.
CD14 (Continued) (b) Name one special-purpose management accounting report that could be designed for each manager. Include the name of the report, the information it would contain, and how frequently it should be issued.
Manager
Name of report Analysis of proposed new product line
Mike Cichanowski
Diane Buswell
Companywide budget analysis
Deb Welch
Purchasing History
Bill Johnson
Sales Summary
Dave Thill
Rick Thrune
Cost of Production Report Cost of Production Report for Composite Kayaks
Information report would contain Projected revenues and expenses for a possible new product line Revenues, expenses, and net income compared to the budgeted amounts for each List of items purchased and most recent cost for each item Sales by product line and by customer
How frequently should it be issued?
As needed and requested
Monthly Monthly or available on-line
Monthly or weekly
Direct materials, direct labor, and manufacturing overhead costs assigned to each product line
Monthly or weekly
Detailed direct material and direct labor costs for the composite kayaks
Weekly
CD14 (Continued) (c) When Diane Buswell, controller for Current Designs, reviewed the accounting records for a recent period, she noted the following items. Classify each item as a product cost or a period cost. If a cost is a product cost, note if it is a direct materials, direct labor, or manufacturing overhead item. Product Costs Payee Winona Agency Bill Johnson (sales manager) Xcel Energy Winona Printing Jim Kaiser (sales representative) Dave Thill (factory manager) Dana Schultz (kayak assembler)
Composite One Fastenal
Ravago Winona County North American Composites Waste Management
None Totals
Purpose
Direct Materials
Direct Labor
Property insurance for the manufacturing factory Payroll–payment to sales manager Electricity for manufacturing factory Price lists for salespeople Sales commissions
Manufacturing Period Costs Overhead $3,200 $1,700 450 85 1,250
Payroll–payment to factory manager Payroll–payment to kayak assembler Bagging film used when kayaks are assembled; it is discarded after use. Shop supplies–brooms, paper towels, etc. Polyethylene powder which is the main ingredient for the rotational molded kayaks Property taxes on manufacturing factory Kevlar fabric for composite kayaks Trash disposal for the company office building Record depreciation of manufacturing equipment
1,450 $760
260 890
$3,170 5,480 4,930 660
$8,100
$760
4,540 $16,270
$3,695
LO1, 2 BT: AN Difficulty: Moderate TOT: 60 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting, Strategy, Planning & Performance: Performance Measurement
WC14 a.
WATERWAYS CORPORATION
WC 14 (Continued) WATERWAYS CORPORATION Cost of Goods Manufactured Schedule For the Month Ended November 30, 2025 Work in process 10/31 Direct materials
$ 52,700
Raw materials inventory 10/31 Raw material purchases
$ 38,000 184,500
Total raw materials available for use
222,500
Less: Raw materials inventory 11/30
52,700
Direct materials used Direct labor Manufacturing overhead Depreciation— factory equipment
$169,800 42,000
16,800
Factory utilities
27,000
Indirect labor
48,000
Rent—factory equipment
47,000
Repairs—factory equipment Total factory overhead
4,500 143,300
Total manufacturing costs Total cost of work in process
355,100 407,800
Less: Work in process 11/30 Cost of goods manufactured
42,000 $365,800
WC 14 (Continued) WATERWAYS CORPORATION Income Statement For the Month Ended November 30, 2025 Sales Revenue $1,350,000 Cost of goods sold Finished goods inventory 10/31 $ 72,550 Cost of goods manufactured 365,800 Cost of goods available for sale 438,350 Less: Finished goods inventory 11/30 68,800 369,550 Cost of goods sold Gross profit 980,450 Operating expenses Selling expenses Advertising expenses 54,000 Sales commissions 40,500 Total selling expenses 94,500 Administrative expenses Depreciation—office equipment $ 2,400 Office supplies expense 1,600 Other administrative expenses 72,000 325,000 Office salaries 401,000 Total administrative expenses Total operating expenses
495,500 $ 484,950
Net income WATERWAYS CORPORATION Balance Sheet (partial) November 30, 2025 Assets Current assets Cash Accounts receivable Inventories Finished goods inventory $68,800 Work in process inventory 42,000 Raw materials inventory 52,700 Prepaid expenses Total current assets
$260,000 275,000
163,500 41,250 $739,750
LO3 BT: AN Difficulty: Moderate TOT: 60 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT14.1
DECISION-MAKING ACROSS THE ORGANIZATION
Ending Raw Materials Inventory Beginning raw materials + Raw materials purchased = Raw materials available for use = $19,000 + $365,000 = $384,000 Raw materials available for use – Ending raw materials inventory = Direct materials used $384,000 – Ending raw materials inventory = $350,000 Ending raw materials inventory = $384,000 – $350,000 = $34,000 ($19,000 + $365,000 - $350,000 = $34,000) (Beg. raw mat. + Raw mat. purch. – DM used = End. raw mat.)
Ending Work in Process Inventory Direct materials used + Direct labor + Manufacturing overhead = Total manufacturing costs = $350,000 + $250,000 + ($250,000 x 60%) = $750,000 Beginning work in process inventory + Total manufacturing costs = Total cost of work in process = $25,000 + $750,000 = $775,000 Cost of goods manufactured + Beginning finished goods inventory = Cost of goods available for sale Cost of goods manufactured + $38,000 = $770,000 Cost of goods manufactured = $770,000 – $38,000 = $732,000 Total cost of work in process – Ending work in process inventory = Cost of goods manufactured $775,000 – Ending work in process inventory = $732,000 Ending work in process inventory = $775,000 – $732,000 = $43,000 [($25,000 + ($350,000 + $250,000 + ($250,000 x 60%)) = $775,000); ($770,000 - $38,000 = $732,000); ($775,000 $732,000 = $43,000)] [(Beg. WIP + (DM + DL + (DL x MOH rate)) = Tot. cost in WIP); (Cost of gds. avail. for sale – Beg. fin. gds. = COGM); (Tot. cost in WIP – COGM = End. WIP)]
Ending Finished Goods Inventory Sales – Cost of goods sold = Gross profit $1,240,000 – Cost of goods sold = $1,240,000 x 40% Cost of goods sold = $1,240,000 – $496,000 = $744,000 Cost of goods available for sale – Ending finished goods inventory = Cost of goods sold $770,000 – Ending finished goods inventory = $744,000 Ending finished goods inventory = $770,000 – $744,000 = $26,000
CT14.1 (Continued) LO3 BT: AN Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
CT14.2
MANAGERIAL ANALYSIS
Since the questions were fairly open-ended, the following are only suggested results. The class may be able to think of others, or of more items for each one. (a) Jason Dennis Peggy Groneman
Needs cost information for her department.
Dave Marley
Needs all manufacturing accounting information.
Kevin Carson
Needs product cost information.
Sally Renner
Needs information on component costs and costs for her department. Income statement.
(b) Jason Dennis
(c)
Needs information on sales, perhaps by salesperson and by territory.
Peggy Groneman
None.
Dave Marley
All.
Kevin Carson
Income statement and cost of goods manufactured schedule.
Sally Renner Jason Dennis
None. Sales by Territory—Detailed information, possibly by product line, issued daily or weekly.
Peggy Groneman
Cost of Computer Programs—Accumulated cost incurred for each major program used including maintenance and updates of program, issued monthly.
Dave Marley
Cost of Preparing Reports—Detailed analysis of all reports provided, their frequency, time, and estimated cost to prepare, issued monthly.
Kevin Carson
Cost of Product—Detailed cost by product line, including a comparison with estimated costs for that product. Issued as each batch of production is completed.
Sally Renner
Cost of Product Design—Accumulated total costs of each new product, issued at end of each project.
LO3 BT: AN Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting, Strategy, Planning & Performance: Performance Measurement
CT14.3
REAL-WORLD FOCUS
(a) The IMA has more than 125,000 members. These members include business leaders, managers, and decision makers in accounting and finance. (b) Student and Associate members receive most of the benefits of Regular membership at a significant savings. Unique access to the professional designation, the Certified Management Accountant (CMA) Specialized learning opportunities Educational assistance, grants, educational competitions Around-the-Clock Networking Career management resources (c)
The answer to this question will vary by school.
LO N/A BT: K Difficulty: Easy TOT: 20 min. AACSB: Technology AICPA PC: Communication IMA: None
CT14.4
COMMUNICATION ACTIVITY
Ms. Shelly Phillips President Phillips Company Dear Shelly: As you requested, I corrected the income statement for October from the information you gave me. The corrected statement is enclosed and it shows that you actually earned net income of $2,000 for October. I also noticed that you did not have a cost of goods manufactured schedule, so I prepared one for you. The income statement your assistant accountant prepared was not correct for two primary reasons. First, product costs were not separated from selling and administrative expenses. Second, and more importantly, the reported net loss did not reflect changes in inventories. This had the effect of treating these costs as expenses rather than assets. A reconciliation of the reported net loss of $23,000 to net income of $2,000 is as follows: Net loss as reported ................................................................ Increase (decrease) in inventories Raw materials ($29,000 – $18,000) ............................... Work in process ($14,000 – $20,000)............................ Finished goods ($50,000 – $30,000) .............................. Total increase......................................................... Net income as corrected .........................................................
$(23,000) $11,000 (6,000) 20,000 25,000 $ 2,000
The changes in raw materials and work in process inventories are reported in the cost of goods manufactured schedule. You will see, for example, that the cost of direct materials used was $253,000, not $264,000 as reported by your accountant in the income statement. The difference is the change in raw materials inventories. Similarly, you will see that the $6,000 decrease in work in process inventories increases total manufacturing costs of $575,800 to produce cost of goods manufactured of $581,800. The change in finished goods inventories is reported in the income statement. Notice that the change of $20,000 is subtracted from cost of goods manufactured of $581,800 to produce cost of goods sold of $561,800.
CT14.4 (Continued) I have also modified the form of the income statement to recognize the distinction between product costs (cost of goods sold) and period costs (operating expenses) as required by generally accepted accounting principles. Thanks for letting me help. If I can be of further assistance, don’t hesitate to call. I hope you find a replacement for your controller soon. Sincerely, LO3 BT: AN Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Reporting AICPA PC: Communication IMA: Reporting & Control: Financial Statement Preparation
CT14.5
ETHICS CASE
(a) The stakeholders in this situation are:
The users of Newton Industries’ financial statements. Steve Morgan, controller. The vice-president of finance. The president of Newton Industries.
(b) The ethical issues in this situation pertain to the adherence to sound and acceptable accounting principles. Intentional violation of generally accepted accounting principles in order to satisfy a practical short-term personal or company need and thus create misleading financial statements would be unethical. Selecting one acceptable method of accounting and reporting among other acceptable methods is not necessarily unethical. (c)
Ethically, the management of Newton Industries should be trying to report the financial condition and results of operations as fairly as possible; that is, in accordance with GAAP. Steve should inform management what is acceptable accounting and what is not. The basic concept to be supported in this advertising cost transaction is matching costs and revenues. Normally, advertising costs are expensed in the period in which they are incurred because it is very difficult to associate them with specific revenues.
LO2, 3 BT: E Difficulty: Moderate TOT: 20 min. AACSB: Ethics AICPA AC: Reporting AICPA PC: Ethical Conduct, Communication IMA: Professional Ethics & Values: Recognizing and Resolving Unethical Behavior, Reporting & Control: Financial Statement Preparation
CT14.6
ALL ABOUT YOU
Student responses will vary. We have provided some basic examples that may represent common responses. (a) Individuals must often make purchase decisions which involve choosing between an item that has a more expensive initial purchase price, but is expected to either last longer, or provides some form of cost savings. The question that the individual faces is whether the cost savings or additional benefit justifies the additional initial cost. For example, more expensive dishwashers and refrigerators also tend to be more energy efficient. The labels on these appliances provide information regarding the energy savings which can be used to make a break-even evaluation. (Chapter 18) (b) In order to increase control over their financial situation and reduce the probability of financial hardship, all people should prepare personal budgets. Preparation of a personal budget requires the individual to plan for the future and to prioritize expenditures. (Chapter 22) (c) Companies employ the balanced scorecard as a mechanism to ensure that their financial goals are consistent with their efforts. Use of the balanced scorecard requires clear articulation of goals, priorities, and strategies. By employing these same techniques in their everyday life, individuals can be better assured that they will expend effort on those things that really matter to them, rather than wasting efforts on less important distractions. (Chapter 24) (d) Capital budgeting involves financial evaluation of long-term assets. Companies routinely make capital budgeting decisions, but so do individuals. The purchase of a home or car is a decision that has implications for your finances for many subsequent years. Buying a house or car is a very personal decision, influenced by many personal, nonfinancial, preferences. However, these decisions should also be subjected to a financial evaluation using capital budgeting techniques to ensure that the choice makes good economic sense. (Chapter 25) LO N/A BT: C Difficulty: Moderate TOT: 25 min. AACSB: Communication AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting, Strategy, Planning & Performance: Budgeting & Forecasting, Strategy, Planning & Performance: Performance Measurement
CT14.7
CONSIDERING YOUR COSTS AND BENEFITS
Discussion guide: This is a difficult decision. While the direct costs of outsourced tax return preparation may in fact be lower, you must also consider other issues: Will the accuracy of the returns be as high? Will your relationships with your customers suffer due to the loss of direct contact? Will customers resent having their personal information shipped overseas? While you may not want to lay off six employees, you also don’t want to put your firm at risk by not remaining competitive. Perhaps one solution would be to outsource the most basic tasks, and then provide training to the six employees so they can perform higher-skilled services such as tax planning. Many of the techniques that you learn in the remaining chapters of this text will help you evaluate the merits of your various options. LO2 BT: E Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication IMA: Reporting & Control: Cost Accounting
CHAPTER 15 Job Order Costing Learning Objectives 1. Describe cost systems and the flow of costs in a job order system. 2. Use a job cost sheet to assign costs to work in process. 3. Demonstrate how to determine and use the predetermined overhead rate. 4. Prepare entries for manufacturing and service jobs completed and sold. 5. Distinguish between under- and overapplied manufacturing overhead.
ANSWERS TO QUESTIONS 1.
(a) Cost accounting involves the measuring, recording, and reporting of product costs. A cost accounting system consists of manufacturing cost accounts that are fully integrated into the general ledger of a company. (b) An important feature of a cost accounting system is the use of a perpetual inventory system that provides immediate, up-to-date information on the cost of a product.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
2.
(a) The two principal types of cost accounting systems are: (1) job order cost system and (2) process cost system. Under a job order cost system, costs are assigned to each job or batch of goods; at all times each job or batch of goods can be separately identified. A job order cost system measures costs for each completed job, rather than for set time periods. Under a process cost system, product-related costs are accumulated by or assigned to departments or processes for a set period of time. Job order costing lends itself to specific, special-order manufacturing or servicing while process costing is better suited to similar, largevolume products and continuous process manufacturing. (b) A company can use both types of systems. For example, General Motors uses process costing for standard model cars and job order costing for custom-made vehicles.
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
3.
A job order cost system is most likely to be used by a company that receives special orders, or custom builds, or produces heterogeneous items or products; that is, the product manufactured or the service rendered is tailored to the customer or client’s requests, needs, or situation. Examples of industries that use job order systems are custom home builders, commercial printing companies, motion picture companies, construction contractors, repair shops, accounting and law firms, hospitals, shipbuilders, and architects.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
4.
A process cost system is most likely to be used by manufacturing companies with continuous production flows usually found in mass production, assembly line, large-volume, uniform, or relatively similar product industries. Companies producing appliances, chemicals, pharmaceuticals, rubber and tires, plastics, cement, petroleum, and automobiles utilize process cost systems.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
5.
The major steps in the flow of costs in a job order cost system are: (1) accumulating the manufacturing costs incurred and (2) assigning the accumulated costs to work done.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
6.
Not true. Entries to Manufacturing Overhead are also made at the end of an accounting period. For example, there will be adjusting entries for factory depreciation, property taxes, and insurance.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
7.
The source document for assigning materials is the materials requisition slip and the source document for assigning labor is the time ticket. The entries are: Materials Work in Process Inventory Manufacturing Overhead Raw Materials Inventory
Labor XX XX XX
Work in Process Inventory Manufacturing Overhead Factory Labor
XX XX XX
Questions Chapter 15 (Continued) LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
8.
The purpose of a job cost sheet is to record the costs chargeable to a specific job and to determine the total and unit costs of the completed job.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
9.
The source documents for charging costs to specific jobs are materials requisition slips for direct materials, time tickets for direct labor, and the predetermined overhead rate for manufacturing overhead.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
10.
The materials requisition slip is a business document used as an authorization to issue materials from inventory to production. It is approved and signed by authorized personnel so that materials may be removed from inventory and charged to production, to specific jobs, departments, or processes. The materials requisition slip is the basis for posting to the materials inventory records and to the job cost sheet.
LO2 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
11.
Not true. Actual manufacturing overhead cannot be determined until the end of a period of time. Consequently, there could be a significant delay in assigning overhead and in determining the total cost of the completed job.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12.
The elements for computing the predetermined overhead rate are the estimated annual overhead costs and an expected activity base such as direct labor hours. The rate is computed by dividing the estimated annual overhead costs by the expected annual operating activity.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
13.
At any point in time, the balance in Work in Process Inventory should equal the sum of the costs shown on the job cost sheets of unfinished jobs. Alternatively, posting to Work in Process Inventory may be compared with the sum of the postings to the job cost sheets for each of the manufacturing cost elements.
LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
14.
Jane is incorrect. There is a difference in computing total manufacturing costs. In job order costing, manufacturing overhead applied is used, whereas in Chapter 1, actual manufacturing overhead is used.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
15.
Underapplied overhead means that the overhead assigned to work in process is less than the overhead incurred. Overapplied overhead means that the overhead assigned to work in process is greater than the overhead incurred. Manufacturing Overhead will have a debit balance when overhead is underapplied and a credit balance when overhead is overapplied.
LO5 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 15 (Continued) 16.
Under- or overapplied overhead is not closed to Income Summary. The balance in Manufacturing Overhead is eliminated through an adjusting entry. Under- or overapplied overhead generally is considered to be an adjustment of Cost of Goods Sold.
LO5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
15-4 Raw Materials Inventory (1) Purchases (4) Materials used
Work in Process Inventory (4) Direct (7) Cost of commaterials used pleted jobs (5) Direct labor used (6) Overhead applied
Finished Goods Inve (7) Cost of com(8) Co pleted jobs so l
Cost of Goods So (8) Cost of goods sold
Factory Labor (2) Factory labor (5) Factory labor incurred used
Key to Entries: Accumulation 1. Purchase raw materials 2. Incur factory labor 3. Incur manufacturing overhead
Assignment 4. Raw materials are used 5. Factory labor is used 6. Overhead is applied 7. Completed goods are reco 8. Cost of goods sold is reco
Manufacturing Overhead (3) Depreciation (6) Overhead Insurance applied Repairs (4) Indirect materials used (5) Indirect labor used LO1 BT: C Difficulty: Moderate TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Co Accounting
BRIEF EXERCISE 15.2 Jan. 31 31 31
Raw Materials Inventory ...................................... Accounts Payable.........................................
4,000
Factory Labor ....................................................... Payroll Liabilities .........................................
6,000
Manufacturing Overhead ..................................... Utilities Payable ............................................
2,000
4,000 6,000 2,000
LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.3 Jan. 31
Work in Process Inventory .................................. Manufacturing Overhead ..................................... Raw Materials Inventory...............................
2,800 600 3,400
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.4 Jan. 31
Work in Process Inventory .................................. Manufacturing Overhead ..................................... Factory Labor................................................
5,200 800 6,000
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.5
Date 1/31 1/31
Job 1 Direct Materials 900
Direct Labor
Date 1/31 1/31
2,200
Date 1/31 1/31
Job 3 Direct Materials 700
Job 2 Direct Materials 1,200
Direct Labor 1,600
Direct Labor 1,400
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.6 Overhead rate per direct labor cost is 180%, or ($900,000 ÷ $500,000). Overhead rate per direct labor hour is $18, or ($900,000 ÷ 50,000 DLH). Overhead rate per machine hour is $9, or ($900,000 ÷ 100,000 MH). LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.7 Jan. 31
Feb. 28
Mar. 31
Work in Process Inventory ............................. Manufacturing Overhead ($40,000 x 70%) ....................................
28,000
Work in Process Inventory ............................. Manufacturing Overhead ($30,000 x 70%) ....................................
21,000
Work in Process Inventory ............................. Manufacturing Overhead ($50,000 x 70%) ....................................
35,000
28,000
21,000
35,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.8 Mar. 31 31 31
Finished Goods Inventory .............................. Work in Process Inventory .....................
50,000
Cash ................................................................. Sales Revenue .........................................
35,000
Cost of Goods Sold......................................... Finished Goods Inventory ......................
20,000
50,000 35,000
LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
20,000
BRIEF EXERCISE 15.9 Service Contracts in Process ......................... Operating Overhead........................................ Payroll Liabilities ..................................... Service Contracts in Process ($28,000 x .25) .......................................... Operating Overhead ................................
28,000 8,000 36,000
7,000 7,000
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15.10 Dec. 31
Dec. 31
Shimeca Company Cost of Goods Sold......................................... Manufacturing Overhead.........................
1,200
Garcia Company Manufacturing Overhead ................................ Cost of Goods Sold .................................
900
1,200
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
900
SOLUTIONS FOR DO IT! EXERCISES DO IT! 15.1 (a) Raw Materials Inventory............................................ Accounts Payable ............................................... (Purchases of raw materials on account)
18,000
(b) Factory Labor............................................................. Payroll Liabilities................................................. (To record factory labor costs)
40,000
(c) Manufacturing Overhead .......................................... Accumulated Depreciation—Buildings.............. Utilities Payable................................................... Prepaid Factory Insurance................................. (To record overhead costs)
15,300
18,000
40,000
9,500 3,100 2,700
LO1 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 15.2 The two summary entries are: Work in Process Inventory ($7,200 + $9,000) .................. Raw Materials Inventory............................................ (To assign materials to jobs)
16,200
Work Process Inventory ($4,000 + $8,000) ...................... Factory Labor............................................................. (To assign labor to jobs)
12,000
16,200
LO2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12,000
DO IT! 15.3 The predetermined overhead for Washburn Company is: $200,000 2,500 hours = $80.00 per machine hour The amount of overhead assigned to number 551 would be: 90 machine hours $80.00 = $7,200 The entry to record the assignment of overhead to job number 551 on January 15th is: January 15
Work in Process Inventory......................... Manufacturing Overhead ....................... (To assign overhead to job 551)
7,200 7,200
LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [($200,000 ÷ 2,500 hrs. = $80/hr.); (90 hrs. x $80/hr. = $7,200)] [(Expected MOH ÷ Expected MH = Predet. OH rate); (Act. MH x Predet. OH rate = Applied OH)]
DO IT! 15.4 Jan. 31 Finished Goods Inventory ...................................... 120,000 Work in Process Inventory .............................
120,000
(To record completion of Job 310, costing $70,000 and Job 312, costing $50,000)
31 Accounts Receivable .......................................... Sales Revenue ................................................
90,000 90,000
(To record sale of Job 312)
31 Cost of Goods Sold ............................................. Finished Goods Inventory ...............................
50,000 50,000
(To record cost of goods sold for Job 312) LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 15.5 Manufacturing overhead applied = 130% x $85,000 = $110,500 Underapplied manufacturing overhead = $115,000 – $110,500 = $4,500 LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [($85,000 x 130% = $110,500); ($115,000 - $110,500 = $4,500)] [(Actual DL cost x Predet. OH rate = Applied OH); (Actual OH – Applied OH = Underapp. MOH)]
SOLUTIONS TO EXERCISES EXERCISE 15.1 (a) Jan. 31 (b) Jan. 31
Factory Labor ........................................ Payroll Liabilities ............................ Work in Process Inventory ($90,000 x 85%) .................................. Manufacturing Overhead ...................... Factory Labor .................................
90,000 90,000
76,500 13,500 90,000
LO1, 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.2 (a) May 31
31
31
31
Work in Process Inventory.................... Manufacturing Overhead....................... Raw Materials Inventory ................
10,400 800
Work in Process Inventory.................... Manufacturing Overhead....................... Factory Labor .................................
12,500 1,200
Work in Process Inventory ($12,500 x 60%) .................................. Manufacturing Overhead ............... Finished Goods Inventory ..................... Work in Process Inventory ............
11,200
13,700 7,500 7,500 7,540 7,540
($2,000 + $2,500 + $1,900 + $1,140*)
*$1,900 x 60% (b) May 1 Balance 31 31 31 May 31 Balance
Work in Process Inventory 3,500 May 31 10,400 12,500 7,500 26,360
7,540
EXERCISE 15.2 (Continued) Job Cost Sheets Job No. 430 431
Beginning Work in Process $1,500 0 $1,500
Direct Material $3,500 4,400 $7,900
Direct Labor $ 3,000 7,600 $10,600
Manufacturing* Overhead $1,800 4,560 $6,360
Total $ 9,800 16,560 $26,360
*Direct labor x .60 LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.3 (a) 1.
$15,200, or ($5,000 + $6,000 + $4,200).
2. Last year 70%, or ($4,200 ÷ $6,000); this year 80% (either $6,400 ÷ $8,000 or $3,200 ÷ $4,000). [Last yr.: ($4,200 ÷ $6,000 = 70%); This yr.: ($3,200 ÷ $4,000 = 80%)] [Last yr.: (MOH cost ÷ DL cost = MOH predet. OH rate); This yr.: (MOH cost ÷ DL cost = Predet. OH rate)]
(b) Jan. 31
31
Work in Process Inventory....................... Raw Materials Inventory ...................
8,000
Work in Process Inventory....................... Factory Labor ....................................
12,000
Work in Process Inventory....................... Manufacturing Overhead ..................
9,600
Finished Goods Inventory........................ Work in Process Inventory ...............
44,800
31 31
8,000
12,000 9,600 44,800
LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.4 $145,650 + (a) = $201,500 (a) = $55,850 (b) + $50,000 + $42,500 = $145,650 (b) = $53,150
EXERCISE 15.4 (Continued) $201,500 – (c) = $192,300 (c) = $9,200 [Note: The instructions indicate that manufacturing overhead is applied on the basis of direct labor cost, and the rate is the same in all cases. From Case A, a student should note the overhead rate to be 85%, or ($42,500 ÷ $50,000).] (d) = .85 x $140,000 (d) = $119,000 [($42,500 ÷ $50,000) x $140,000 = $119,500] [From Case A: (MOH applied ÷ DL cost) x Case B DL cost = Case B MOH app.]
$83,000 + $140,000 + $119,000 = (e) (e) = $342,000 $342,000 + $15,500 = (f) (f) = $357,500 $357,500 – $11,800 = (g) (g) = $345,700 LO1, 5 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.5 (a) $2.40 per machine hour ($300,000 ÷ 125,000 MH). (b) ($322,000) – ($2.40 x 130,000 Machine Hours) $322,000 – $312,000 = $10,000 underapplied [$322,000 – ($2.40 x 130,000) = $10,000 underapp.]
(c) Cost of Goods Sold ................................................... Manufacturing Overhead ...................................
10,000
LO3, 5 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
10,000
EXERCISE 15.6 (a) (1) The source documents are: Direct materials—Materials requisition slips. Direct labor—Time tickets. Manufacturing overhead—Predetermined overhead rate. (2) The predetermined overhead rate is 125% of direct labor cost. For example, on July 15, the computation is $550 ÷ $440 = 125%. The same result is obtained on July 22 and 31. ($550 ÷ $440 = 125% of DL cost) (July 15: MOH cost ÷ DL cost = Predet. MOH rate)
(3) The total cost is: Direct materials ............................................................ Direct labor ................................................................... Manufacturing overhead..............................................
$4,690 1,360 1,700 $7,750
The unit cost is $3.10 ($7,750 ÷ 2,500). (b) July 31
Finished Goods Inventory............................ Work in Process Inventory ...................
7,750 7,750
LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.7 1. 2.
3. 4.
Raw Materials Inventory ................................................ Accounts Payable ..................................................
46,300
Work in Process Inventory............................................ Manufacturing Overhead............................................... Raw Materials Inventory ........................................
29,200 6,800
Factory Labor................................................................. Payroll Liabilities....................................................
59,900
Work in Process Inventory............................................ Manufacturing Overhead............................................... Factory Labor .........................................................
54,000 5,900
46,300
36,000
59,900
59,900
EXERCISE 15.7 (Continued) 5. 6. 7.
8. 9.
Manufacturing Overhead....................................... Accounts Payable ..........................................
80,500
Depreciation Expense ........................................... Accumulated Depreciation—Building ..........
8,100
Work in Process Inventory ($54,000 x 150%)....... Manufacturing Overhead ...............................
81,000
Finished Goods Inventory..................................... Work in Process Inventory ............................
88,000
Accounts Receivable............................................. Sales Revenue................................................
103,000
Cost of Goods Sold ............................................... Finished Goods Inventory .............................
75,000
80,500 8,100 81,000 88,000 103,000 75,000
LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 18 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.8 1.
2.
3.
Raw Materials Inventory........................................ Accounts Payable ..........................................
192,000
Factory Labor......................................................... Payroll Liabilities............................................
87,300
Work in Process Inventory.................................... Manufacturing Overhead....................................... Raw Materials Inventory ................................
153,530 4,470
Work in Process Inventory.................................... Manufacturing Overhead....................................... Factory Labor .................................................
80,000 7,300
Manufacturing Overhead....................................... Accounts Payable ..........................................
49,500
192,000 87,300
158,000
87,300 49,500
EXERCISE 15.8 (Continued) 4. 5. 6.
7.
Manufacturing Overhead....................................... Accumulated Depreciation—Equipment ......
14,550
Depreciation Expense ........................................... Accumulated Depreciation—Building...........
14,300
Work in Process Inventory.................................... Manufacturing Overhead (90% x $80,000)...........................................
72,000
Finished Goods Inventory..................................... Work in Process Inventory ............................
240,930
14,550 14,300
72,000 240,930
Computation of cost of jobs finished: Job A20 A21 A23
Direct Materials $35,240 42,920 39,270
Direct Labor $18,000 22,000 25,000
Manufacturing Overhead (90% x DL$) $16,200 19,800 22,500
Total $ 69,440 84,720 86,770 $240,930
LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 18 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.9 (a)
LOPEZ COMPANY Cost of Goods Manufactured Schedule For the Month Ended May 31, 2025 Work in process, May 1 ........................................ Direct materials used............................................ Direct labor............................................................ Manufacturing overhead applied ......................... Total manufacturing costs............................ Total cost of work in process .............................. Less: Work in process, May 31 ........................... Cost of goods manufactured ...............................
[($14,700 + ($62,400 + $50,000 + $40,000)) - $15,900 = $151,200] [(Beg. WIP + (DM + DL + MOH app.)) – End. WIP = COGM]
$ 14,700 $62,400 50,000 40,000 152,400 167,100 15,900 $151,200
EXERCISE 15.9 (Continued) (b)
LOPEZ COMPANY Income Statement (Partial) For the Month Ended May 31, 2025 Sales revenue .................................................... Cost of goods sold Finished goods, May 1............................... Cost of goods manufactured..................... Cost of goods available for sale ............... Less: Finished goods, May 31.................. Cost of goods sold ............................. Gross profit ........................................................
(c)
$215,000 $ 12,600 151,200 163,800 9,500 154,300 $ 60,700
LOPEZ COMPANY Balance Sheet (Partial) May 31, 2025 Current assets: Finished goods inventory.......................... Work in process inventory ........................ Raw materials inventory ............................
$ 9,500 15,900 7,100
$32,500
LO1, 5 BT: AP Difficulty: Easy TOT: 18 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement P
EXERCISE 15.10 (a) Work in Process Inventory April 30 $ 9,300 (#10, $5,200 + #11, $4,100) May 31 $18,600 (#11, ($4,100 + $3,900) + #13, $4,700 + #14, $5,900) June 30 $ 9,500 (#14, $5,900 + $3,600) [(Apr. 30: $5,200 + $4,100 = $9,300); (May 31: $8,000 + $4,700 + $5,900 = $18,600); (June 30: $5,900 + $3,600 = $9,500)] [(Apr. 30: Job #10 + Job #11 = End. WIP); (May 31: (Job #11 + Job #13 + Job #14 = End. WIP); (June 30: Job #14 = End. WIP)]
(b) Finished Goods Inventory April 30 $ 1,200 (#12) May 31 $ 9,600 (#10) June 30 $19,200 (#11, $10,000 + #13, $9,200)
EXERCISE 15.10 (Continued) (c) Gross Profit Job Number(s) 12 10 11/13
Month May June July
Sales $ 1,500 12,000 24,000
Cost of Goods Sold $ 1,200 9,600 19,200
Gross Profit $ 300 2,400 4,800
[(May: ($1,200 x 125%) - $1,200 = $300); (June: ($9,600 x 125%) - $9,600 = $2,400); (July: ($19,200 x 125%) $19,200 = $4,800)] [(May: (CGS x 1 + Markup %) – CGS = GP); (June: (CGS x 1 + Markup %) – CGS = GP); (July: (CGS x 1 + Markup %) – CGS = GP)] LO2, 4 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation, Reporting IMA: Cost management, Reporting & Control: Financial Statement Preparation
EXERCISE 15.11 (a) 1. 2.
3.
4. 5.
6.
Supplies ............................................ Accounts Payable......................
1,800
Service Contracts in Process .......... Operating Overhead ......................... Supplies .....................................
720 480
Service Contracts in Process .......... Operating Overhead ......................... Salaries and Wages...................
56,000 14,000
Operating Overhead ......................... Cash ...........................................
40,000
1,800
1,200
70,000
40,000
Service Contracts in Process ($56,000 X 90%).............................. Operating Overhead ..................
50,400
Cost of Completed Service Contracts........................................ Service Contracts in Process ...
75,000
50,400
75,000
EXERCISE 15.11 (Continued) (b) 2. 3. 5.
Service Contracts in Process 720 75,000 56,000 50,400 32,120
6.
LO1, 3, 4 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.12 (a) Direct materials Auditor labor costs Applied overhead* Total cost
Waters $ 600 5,400 3,600 $9,600
Renolds $ 400 6,600 4,400 $11,400
Bayfield $ 200 3,375 2,250 $5,825
*Waters: 72 x $50 = $3,600 Renolds: 88 x $50 = $4,400 Bayfield: 45 x $50 = $2,250 [(Waters app. OH: 72 x $50 = $3,600); (Renolds app. OH: 88 x $50 = $4,400); (Bayfield app. OH: 45 x $50 = $2,250)] [(Waters app. OH: (Auditor hrs. x Predet. OH rate = App. OH); (Renolds app. OH: (Auditor hrs. x Predet. OH rate = App. OH); (Bayfield app. OH: (Auditor hrs. x Predet. OH rate = App. OH)]
(b) The Waters job is the only incomplete job, therefore, $9,600. (c) Actual overhead Applied overhead Balance (underapplied)
$11,000 (DR) 10,250 (CR) $ 750 (DR)
[$11,000 – ($3,600 + $4,400 + $2,250) = $750] [Act. OH – (Waters app. OH + Renolds app. OH + Bayfield app. OH) = Underapp. OH] LO2, 3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15.13 (a) Predetermined overhead rate = Estimated overhead ÷ Estimated decorator hours = $960,000 ÷ 40,000 decorator hours = $24 per decorator hour (b) Service Contracts in Process (40,500 hrs x $24) ......... 972,000 Operating Overhead...................................... 972,000
EXERCISE 15.13 (Continued) (c)
Actual overhead Applied overhead Balance (underapplied)
$982,800 (DR) 972,000 (CR) $ 10,800 (DR)
[$982,800 – (40,500 x $24) = $10,800] [Act. OH – (Act. dec. hrs. x Predet. OH rate) = Underapp. OH] LO3, 5 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO PROBLEMS PROBLEM 15.1
(a) $840,000 ÷ $700,000 direct labor costs = 120% of direct labor costs ($840,000 ÷ $700,000 = 120% of DL cost) (Est. OH costs ÷ Est. DL cost = Predet. OH rate)
(b) See solution to part (e) for job cost sheets (c) Raw Materials Inventory............................................ Accounts Payable ..............................................
90,000
Factory Labor............................................................. Payroll Liabilities................................................
70,000
Manufacturing Overhead........................................... Accounts Payable .............................................. Accumulated Depreciation—Equipment ..........
28,000
(d) Work in Process Inventory........................................ Manufacturing Overhead........................................... Raw Materials Inventory ($10,000 + $39,000 + $30,000 + $17,000) .......
79,000 17,000
Work in Process Inventory........................................ Manufacturing Overhead........................................... Factory Labor ($5,000 + $25,000 + $20,000 + $20,000) .........
50,000 20,000
Work in Process Inventory........................................ Manufacturing Overhead ................................... ($50,000 x 120% of direct labor costs)
60,000
90,000
70,000 16,000 12,000
96,000
70,000
See solution to part (e) for postings to job cost sheets.
60,000
PROBLEM 15.1 (Continued) (b) &(e)
Job Cost Sheets
Job No. 50 Date Direct Materials Beg. $20,000 Jan. 10,000 $30,000
Direct Labor $12,000 5,000 $17,000
Manufacturing Overhead $16,000 6,000* $22,000
Cost of completed job Direct materials .............................................................. Direct labor ..................................................................... Manufacturing overhead ............................................... Total cost ...............................................................................
$30,000 17,000 22,000 $69,000
*$5,000 x 120% [Job #50: $5,000 x 120% = $6,000] [Job #50: DL cost x Predet. OH rate = App. OH]
Job No. 51 Date Jan.
Direct Materials $39,000 $39,000
Direct Labor $25,000 $25,000
Manufacturing Overhead $30,000** $30,000
Cost of completed job Direct materials .............................................................. Direct labor ..................................................................... Manufacturing overhead ............................................... Total cost ...............................................................................
$39,000 25,000 30,000 $94,000
**$25,000 x 120% [Job #51: $25,000 x 120% = $30,000] [Job #51: DL cost x Predet. OH rate = App. OH]
Job No. 52 Date Direct Materials Jan. $30,000 ***$20,000 x 120% [Job #52: $20,000 x 120% = $24,000] [Job #52: DL cost x Predet. OH rate = App. OH]
Direct Labor $20,000
Manufacturing Overhead $24,000***
PROBLEM 15.1 (Continued)
(f)
Finished Goods Inventory...................................... Work in Process Inventory ($69,000 + $94,000)......................................
163,000
Accounts Receivable.............................................. Sales Revenue ($122,000 + $158,000) ............
280,000
Cost of Goods Sold ................................................ Finished Goods Inventory ($90,000 + $69,000)......................................
159,000
(g) Beginning balance Cost of completed jobs 50 and 51 Ending balance
Finished Goods Inventory 90,000 159,000 163,000 94,000
163,000
280,000
159,000
Cost of jobs 49 and 50 sold
The balance in this account consists of the cost of completed Job No. 51 which has not yet been sold. [$90,000 + ($69,000 + $94,000) – ($90,000 + $69,000) = $94,000] [Beg. bal. + (Cost of compltd. jobs 50 & 51) – (Cost of jobs 49 & 50 sold) = End. bal.]
(h) Manufacturing Overhead Actual Applied 65,000 60,000 5,000 The balance in the Manufacturing Overhead account is underapplied. [$65,000 – ($6,000 + $30,000 + $24,000) = $5,000] [Act. MOH – (MOH app. To jobs #50, #51, & #52) = MOH underapp.] LO1, 2, 3, 4, 5 BT: AP Difficulty: Easy TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
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PROBLEM 15.2
(a) 1/1
12/31
Work in Process Inventory Balance (1) 128,400 Completed work (5) (c) Direct materials (2) 131,000 Direct labor (3) 139,000 Manufacturing overhead (4) 166,800 Balance 179,000
386,200
(1)
Job 7640 Job 7641
$ 77,800 50,600 $128,400
(3)
Job 7640 Job 7641 Job 7642
$ 36,000 48,000 55,000 $139,000
(2)
Job 7640 Job 7641 Job 7642
$ 30,000 43,000 58,000 $131,000
(4)
Job 7640 Job 7641 Job 7642
$ 43,200 57,600 66,000 $166,800
(5) (a) Job 7640 Beginning balance................................................ Direct materials..................................................... Direct labor............................................................ Manufacturing overhead ......................................
(b) Job 7641 Beginning balance................................................ Direct materials..................................................... Direct labor............................................................ Manufacturing overhead ......................................
(c) Total cost of completed work Job 7640 ................................................................ Job 7641 ................................................................
$ 77,800 30,000 36,000 43,200 $187,000
$ 50,600 43,000 48,000 57,600 $199,200
$187,000 199,200 $386,200
PROBLEM 15.2 (Continued) Work in process balance..............................................
$179,000
Unfinished job No. 7642 ...............................................
$179,000*
*
Current year’s cost Direct materials................................. $ 58,000 Direct labor ....................................... 55,000 Manufacturing overhead ....................... 66,000 $179,000
[($77,800 + $50,600) + ($30,000 + $43,000 + $58,000) + ($36,000 + $48,000 + $55,000) + ($43,200 + $57,600 + $66,000) – ($187,000 + $199,200) = $179,000] [Beg. WIP bal. + DM + DL + App. OH – Cost of compltd. jobs 7640 & 7641 = End. WIP bal.]
(b) Actual overhead costs Incurred on account.............................................. Indirect materials .................................................. Indirect labor ......................................................... Depreciation .......................................................... Applied overhead costs Job 7640................................................................. Job 7641................................................................. Job 7642.................................................................
Actual overhead............................................................ Applied overhead.......................................................... Overapplied overhead .................................................. Manufacturing Overhead ................................................. 6,800 Cost of Goods Sold...............................................
$120,000 14,000 18,000 8,000 $160,000 $ 43,200 57,600 66,000 $166,800 $160,000 166,800 $ 6,800
6,800
[($120,000 + $14,000 + $18,000 + $8,000) – ($43,200 + $57,600 + $66,000) = ($6,800)] [(OH incurred on acct. + Ind. Mat. + Ind. Labor + Depr.) – (App. OH to jobs #7640 + #7641 + #7642) = Overapp. OH]
PROBLEM 15.2 (Continued) CINTA COMPANY Income Statement (Partial) For the Year Ended December 31, 2025 (c) Sales revenue (given) ........................................ Cost of goods sold Add: Job 7638 ................................................... Job 7639 ................................................... Job 7641 ................................................... Less: Overapplied overhead ........................... Gross profit .......................................................
$530,000 $ 87,000 92,000 199,200 378,200 6,800
371,400 $158,600
LO1, 2, 3, 4, 5 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting, Reporting & Control: Financial Statement Preparation
PROBLEM 15.3
(a) (1)
(2)
(3)
Raw Materials Inventory............................................ Accounts Payable ..............................................
4,900
Factory Labor............................................................. Cash ....................................................................
4,800
Manufacturing Overhead........................................... Accumulated Depreciation—Equipment .......... Accounts Payable ..............................................
1,300
Work in Process Inventory........................................ Manufacturing Overhead........................................... Raw Materials Inventory ....................................
4,900 1,500
Work in Process Inventory........................................ Manufacturing Overhead........................................... Factory Labor .....................................................
3,600 1,200
Work in Process Inventory ($3,600 x 1.25)............... Manufacturing Overhead ...................................
4,500
Finished Goods Inventory......................................... Work in Process Inventory ................................
14,740
Job
Direct Materials
Direct Labor
Manufacturing Overhead*
Total Costs
Rogers Stevens Linton
$1,700 1,300 2,200
$1,560 900 1,780
$1,950 1,125 2,225
$ 5,210 3,325 6,205 $14,740
4,900 4,800 900 400
6,400
4,800 4,500 14,740
*125% x direct labor amount Cash............................................................................ Sales revenue .....................................................
18,900
Cost of Goods Sold ................................................... Finished Goods Inventory .................................
14,740
18,900 14,740
PROBLEM 15.3 (Continued) (b) 6/1
6/30
Work in Process Inventory Balance 5,540 June Completed work Direct materials 4,900 Direct labor 3,600 Overhead applied 4,500 Balance 3,800
(c) Work in Process Inventory........................................................ Job: Koss (Direct materials $2,000 + Direct labor $800 + Manufacturing overhead $1,000) ................................. (d)
14,740
$3,800 $3,800
CASE INC. Cost of Goods Manufactured Schedule For the Month Ended June 30, 2025 Work in process, June 1.......................................... Direct materials used............................................... Direct labor............................................................... Manufacturing overhead applied ............................ Total manufacturing costs............................... Total cost of work in process ................................. Less: Work in process, June 30............................. Cost of goods manufactured ..................................
$ 5,540 $4,900 3,600 4,500 13,000 18,540 3,800 $14,740
[($5,540 + ($4,900 + $3,600 + $4,500)) - $3,800 = $14,740] [(Beg. WIP + (DM used + DL + MOH app.)) – End. WIP = COGM] LO1, 2, 3, 4, 5 BT: AP Difficulty: Easy TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting, Reporting & Control: Financial Statement Preparation
PROBLEM 15.4
(a) Department D: Department E: Department K:
$1,200,000 ÷ $1,500,000 = 80% of direct labor cost. $1,500,000 ÷ 125,000 = $12.00 per direct labor hour. $900,000 ÷ 120,000 = $7.50 per machine hour.
(b) Manufacturing Costs Direct materials Direct labor Overhead applied Total
D $140,000 120,000 96,000* $356,000
Department E $126,000 110,000 132,000** $368,000
K $ 78,000 37,500 78,000*** $193,500
D $99,000 96,000 $ 3,000
Department E $124,000 132,000 $ (8,000)
K $79,000 78,000 $ 1,000
*$120,000 x 80% **11,000 x $12.00 ***10,400 x $7.50 (c) Manufacturing Overhead Incurred Applied Under (over) applied
[(D: $99,000 – ($120,000 x 80%) = $3,000); (E: $124,000 – (11,000 x $12) = ($8,000)); (K: $79,000 – (10,400 x $7.50) = $1,000)] [(D: Act. MOH – (DL cost x Predet. MOH rate) = Underapp. MOH); (E: Act. MOH – (Act. DL hrs. x Predet. MOH rate) = Overapp. MOH); (K: Act. MOH – (Act. MH x Predet. MOH rate) = Underapp. MOH)] LO3, 5 BT: AP Difficulty: Easy TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 15.5
(a) $7,600
($16,850 + $7,975 – $17,225).
($16,850 + $7,975 - $17,225 = $7,600) (RM requisitions + RM end. bal. – RM purch. = RM beg. bal.)
(b) $36,000
[$9,750 + $15,000 + (75% x $15,000)]. (Given in other data).
(c) $13,950
($16,850 – $2,900).
($16,850 - $2,900 = $13,950) (RM requisitions – Ind. Mat. = DM)
(d) $6,300
($8,400 x 75%).
(e) $12,200
[Given in other data—$3,800 + $4,800 + (75% x $4,800)].
[$3,800 + $4,800 + (75% x $4,800) = $12,200] [Job 158: DM + DL cost + (Predet. MOH rate x DL cost) = End. bal. WIP]
(f)
$52,450
($36,000 + $13,950 + $8,400 + $6,300 – $12,200).
($36,000 + $13,950 + $8,400 + $6,300 - $12,200 = $52,450) (Beg. bal. WIP + DM + DL + MOH app. – End. bal. WIP = Jobs completed]
(g) $5,000
(Given in other data).
(h) $52,450
(See (f) above).
(i)
($5,000 + $52,450 – $4,000).
$53,450
($5,000 + $52,450 - $4,000 = $53,450) (Beg. bal. fin. gds. inv. + Jobs completed – End. bal. fin. gds. inv. = CGS)
(j)
$4,000
(Given in other data).
(k) $12,025
(Equal to factory labor incurred).
(l)
($12,025 – $8,400).
$3,625
(m) $6,300
($7,770* – $1,470) or (Same as (d)).
*$2,900 + $3,625 + $1,245 LO1, 2, 3, 4, 5 BT: AN Difficulty: Complex TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CD15
CURRENT DESIGNS
Cost for one kayak: Direct Materials Polyethylene powder Finishing kit
54 pounds @ $1.50 per pound 1 kit @ $170
Direct Labor More skilled Less skilled
2 hours @ $15 per hour 3 hours @ $12 per hour
$
81 170 30 36
Manufacturing overhead 150% of direct labor costs 150% x $66 Total cost for one kayak
99 $ 416
Cost for order of 20 kayaks $416 per kayak x 20 kayaks
$8,320
LO2, 3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
WC15
WATERWAYS CORPORATION
(a)
JOB COST SHEET Quantity 237 units Job Number J57 Date Requested Dec. 2 Date Completed Dec. 15 Item special order parts
Date
Direct Materials
Dec. 2 Dec. 3 Dec. 8 Dec. 9 Dec. 14 Dec. 15
Direct Labor
Manufacturing Overhead Hours Rate Amount
$66
2 1/2
$398*
$ 995
66
3
398
1,194
66
3
398
1,194
$3,374 706 2,306
Cost Summary Direct materials Direct labor Manufacturing overhead Total Cost Unit Cost ($9,967/237 units)
*$840,576 2,112
$6,386 198 3,383 $9,967 $42.05
WC15 (Continued)
JOB COST SHEET Quantity 142 units Job Number K52 Date Requested Dec. 2 Date Completed Dec. 15 Item special order parts
Date Dec. 2 Dec. 3 Dec. 8 Dec. 9 Dec. 14 Dec. 15
Direct Materials
Manufacturing Overhead Hours Rate Amount
$1,687 $33
2
$398*
$796
33
2
398
796
33
2
398
796
353 1,153
Cost Summary Direct materials Direct labor Manufacturing overhead Total Cost Unit Cost ($5,680/142 units) *$840,576 2,112
Direct Labor
$3,193 99 2,388 $5,680 $40.00
WC15 (Continued) (b)
GENERAL JOURNAL 12/1
Raw Materials Inventory
DEBIT 53,200
Accounts Payable
CREDIT 53,200
(Purchase of raw materials on account) 12/2
Work in Process Inventory
5,061
Raw Materials Inventory
5,061
(To assign materials to jobs J57 & K52) 12/2
Work in Process Inventory
40,000
Manufacturing Overhead Raw Materials Inventory
3,000 43,000
(To assign materials to jobs and overhead) 12/3
Work in Process Inventory
99
Factory Labor
99
(To assign labor to jobs J57 & K52) 12/3
Work in Process Inventory
1,791
Manufacturing Overhead
1,791
(To assign overhead to jobs J57 & K52) 12/8
Work in Process Inventory Raw Materials Inventory (To assign materials to jobs J57 & K52)
1,059 1,059
WC15 (Continued) GENERAL JOURNAL DEBIT 12/9
Work In Process Inventory
CREDIT
99
Factory Labor
99
(To assign labor to jobs J57 & K52) 12/9
Work in Process Inventory
1,990
Manufacturing Overhead
1,990
(To assign overhead to jobs J57 & K52) 12/12 Factory Labor
65,000
Cash
65,000
(To record factory labor costs and payment) 12/13 Manufacturing Overhead
9,000
Cash
9,000
(To record payment of factory water bill) 12/14 Work in Process Inventory Raw Materials Inventory (To assign materials to jobs J57 & K52)
3,459 3,459
WC15 (Continued) GENERAL JOURNAL DEBIT 12/15 Work In Process
CREDIT
99
Factory Labor
99
(To assign labor to jobs J57 & K52 12/15 Work in Process Inventory
1,990
Manufacturing Overhead
1,990
(To assign overhead to jobs J57 & K52) 12/15 Finished Goods Inventory
15,647
Work in Process Inventory
15,647
(To record completion of jobs J57 & K52) 12/18 Finished Goods Inventory
50,000
Work in Process Inventory
50,000
(To record completion of jobs) 12/21 Manufacturing Overhead Cash (To record payment of factory electric bill)
12,000 12,000
WC15 (Continued) GENERAL JOURNAL DEBIT 12/31 Manufacturing Overhead
CREDIT
36,800
Property Taxes Payable
12,000
Prepaid Insurance
8,800
Accumulated Depreciation
16,000
(To record overhead costs) (c) 12/31 Cost of Goods Sold Manufacturing Overhead*
3,600 3,600
(To transfer underapplied overhead to cost of goods sold) (d) Since production involved the use of machinery that required minimal labor, using machine hours as the cost driver for producing the sprinkler heads would more accurately reflect the overhead costs than would direct labor. When the irrigation system is installed, this would require a great deal of labor and minimal machinery. Therefore, the cost driver for overhead costs would more likely be direct labor costs. LO2, 3, 5 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT15.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) The manufacturing cost element that is responsible for the fluctuating unit costs is manufacturing overhead. Manufacturing overhead is being included as incurred rather than being applied on a predetermined basis. Direct materials and direct labor are not the cause as they have the same unit cost per batch in each quarter. (b) The solution is to apply overhead using a predetermined overhead rate based on a relevant basis of production activity. Based on actual overhead incurred and using batches of product TC-1 as the activity base, the overhead rate is $16,000 per batch [($105,000 + $153,000 + $97,000 + $125,000) ÷ 30]. Another approach would be to use direct labor cost as the relevant basis to apply overhead on a predetermined basis. For example, a rate of 133 1/3% of direct labor cost ($480,000 ÷ $360,000) could be used. Either approach will provide the same result. (c) The quarterly results using a predetermined overhead rate based on batches produced are as follows: Quarter Costs Direct materials Direct labor Manufacturing overhead Applied ($16,000 x batches) Total (a)
1 $100,000 60,000
2 $220,000 132,000
3 $ 80,000 48,000
4 $200,000 120,000
80,000 $240,000
176,000 $528,000
64,000 $192,000
160,000 $480,000
Production in batches (b)
5
11
4
10
$ 48,000
$ 48,000
$ 48,000
$ 48,000
Unit cost (per batch) (a) ÷ (b)
(Note: The unit cost of a batch remains the same in each quarter. Both sales and production should be pleased with this solution to fluctuating unit costs.) LO2, 3 BT: E Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CT15.2
1.
MANAGERIAL ANALYSIS
(a) Work in Process Inventory ............................. Raw Materials Inventory..........................
25,000 25,000
(b) If not corrected, the balance sheet is affected. Cash is understated and Raw Materials Inventory is overstated. 2.
(a) Sales Bonus Expense..................................... Cash .........................................................
12,000 12,000
(b) The income statement would be affected because the Cost of Goods Sold account would be overstated due to the Manufacturing Overhead account being underapplied (more actual overhead charges then overhead applied), causing Gross Profit to be understated. However, Sales Bonus Expense, an operating expense, would be understated be the same amount, causing an increase in net income to offset the understatement in Gross Profit. Therefore, net income would be unaffected. There would be no effect on the balance sheet. 3.
(a) Manufacturing Overhead ................................ Raw Materials Inventory..........................
3,000 3,000
(b) The income statement would not be affected because both the overstatement in Work in Process Inventory (and subsequently Finished Goods Inventory) and the understatement in Manufacturing Overhead would be washed out (offsetting each other) through the Cost of Goods account. Therefore, net income would be unaffected. Likewise, there would be no effect on the balance sheet. LO2, 3, 5 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting AICPA PC: Communication IMA: Reporting & Control: Cost Accounting, Reporting & Control: Financial Statement Preparation
CT15.3
REAL-WORLD FOCUS
(a) Candidates for the CMA or CFM Certificate must complete two continuous years of professional experience in management accounting or financial management. This requirement may be completed prior to or within seven years of passing the examination. (b) CMAs, CFMs, and candidates who have completed the CMA and/or the CFM examination but have not yet met the experience requirement, are required to maintain their proficiency in the fields of management accounting and financial management. This includes knowledge of new concepts and techniques as well as their application in the management accounting and financial management professions. The objective is to maintain the professional competence of the individual and to enhance one’s ability to perform job-related requirements. Persons who have retired need not meet continuing education requirements. The continuing requirement is 30 hours per year and at least 2 of those hours must be ethics-related. A broad range of subjects may be included in the programs for which hours of credit will be given. The subjects should be related to the topics covered on the CMA/CFM examination and/or to an individual’s job responsibilities. Illustrative of the subjects that may qualify are: all aspects of accounting, financial management, business applications of mathematics and statistics, computer science, economics, management, production, marketing, business law, and organizational behavior. LO N/A BT: C Difficulty: Easy TOT: 20 min AACSB: Technology, Communication AICPA AC: Reporting AICPA PC: Communication IMA: None
CT15.4
COMMUNICATION ACTIVITY
Williams Company Date Nancy Kopay 123 Cedar Lane Altoona, Kansas 66651 Dear Ms. Kopay: Thank you for your prompt payment! I am very glad that you found the cost information helpful. Thank you also for your questions about our overhead costs. We do try to provide our customers with as much information as possible, but we cannot give detailed information on overhead costs. The cost of providing such information is prohibitive. You asked why we do not use actual overhead costs when we bill our customers. We estimate overhead costs, rather than use actual costs, for several reasons. One of the most important reasons for you is that we could not prepare bills in a timely manner if we had to use actual overhead. We would have to wait until we were billed for such things as electricity and telephone service. A second reason is that some costs we include in overhead are only payable once or twice a year, such as insurance and taxes. When we use an estimated rate, we are able to allow for those costs. A third reason is that some costs are fixed, which means that they stay the same in dollar amount from month to month. This category includes items such as rent. If we billed you based on our actual costs, you would be billed a higher amount if your work was done during a slow time (because we would have fewer jobs to spread the costs over). An estimated overhead rate allows us to level out these costs.
CT15.4 (Continued) I hope this answers some of your questions. I’m glad you are interested in our company and that you took the time to write. I am sending a copy of our annual report under separate cover. It contains some details on the information you asked about. Thanks again for your letter and for having Williams make your new cabinets! Sincerely, Student LO3 BT: C Difficulty: Easy TOT: 20 min. AACSB: Communication AICPA AC: Measurement Analysis and Interpretation, Reporting AICPA PC: Communication IMA: Reporting & Control: Cost Accounting
CT15.5
ETHICS CASE
(a) The stakeholders in this situation are: ⯈ Alice Reiley, controller for LRF Printing. ⯈ The president of LRF Printing. ⯈ The customers of LRF Printing. ⯈ The competitors of LRF Printing. (b) Padding cost-plus contracts is both unethical and illegal. Alice is faced with an ethical dilemma. She will be in trouble with the president if she doesn’t follow his directive, and she will be committing an unethical act if she does follow his instructions. (c) Alice should continue to accurately account for cost-plus contracts and, if challenged by the president, she should say that she is doing her very best to charge each and every legitimate cost to the cost-plus contracts. LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Ethics AICPA AC: Reporting AICPA PC: Ethical Conduct, Communication IMA: Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT15.6
ALL ABOUT YOU
The 10 steps for starting a business are: 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Conduct market research Write your business plan Fund your business Pick your business location Choose a business structure Choose your business name Register your business Get federal and state tax IDs Apply for licenses and permits Open a business bank account
LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Technology AICPA AC: Reporting AICPA PC: Communication IMA: Business Acumen & Operations: Operational Knowledge
CT15.7
CONSIDERING YOUR COSTS AND BENEFITS
Discussion guide: The situation presented is a difficult one because you are presently receiving some help for free. It would seem that the best strategy is to price your services based on what it would cost you to do the landscape business without any free help. In the long run, it is going to be impossible to continue unless you can cover these costs. In addition, if you underprice your services today, your customers may expect your prices will remain as low in the future. That probably cannot happen, given that your costs will increase substantially after the first two years. However, we should note that it is not unusual to start a small business with some assets available to you. Then, as your business grows, you acquire additional assets to meet your needs. After all, you may need a low price to get started, and as you gain experience you will be able to charge more or become more efficient. So what to do? Let’s address your old truck first. You should treat the truck as an asset owned by your business. Record it on your books at its fair value, and depreciate it over a reasonable life. This will result in an overhead charge. You need to cover the cost of that truck, as you will have to buy another one someday. The land, barn, and your mother’s services are a little more difficult. If you rented the land and barn and if you paid an assistant, all of these costs would be charged to overhead. (The assistant would be indirect labor.) You are currently getting all these services for free. This is a good situation now, and you may need this situation early in your business to help you get started. But you should recognize that even if you run your business profitably for the first two years, you may have problems beginning in the third year. Thus, it would seem prudent to establish a budget based on both scenarios for the first two years. If you can charge based on your expected costs in the future, do so. If that is not realistic, because you need to establish yourself and get more experience, then charge less. But be sure from the start to cover a reasonable amount of your costs, or the business does not make sense for you financially. LO2, 3, 4 BT: E Difficulty: Moderate TOT: 25 min. AACSB: Reflective Thinking, Communication AICPA AC: Measurement Analysis and Interpretation, Reporting, AICPA PC: Communication IMA: Strategy, Planning & Performance: Strategic Cost Management, Business Acumen & Operations: Operational Knowledge
CHAPTER 15A Job Order Costing
Learning Objectives 1. Describe cost systems and the flow of costs in a job order system. 2. Use a job cost sheet to assign costs to work in process. 3. Demonstrate how to determine and use the predetermined overhead rate. 4. Record manufacturing and service jobs completed and sold. 5. Distinguish between under- and overapplied manufacturing overhead.
ANSWERS TO QUESTIONS 1.
(a) Cost accounting involves the measuring, recording, and reporting of product costs. A cost accounting system consists of manufacturing cost accounts that are fully integrated into the accounting records of a company. (b) An important feature of a cost accounting system is the use of a perpetual inventory system that provides immediate, up-to-date information on the cost of a product.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
2.
(a) The two principal types of cost accounting systems are: (1) job order cost system and (2) process cost system. Under a job order cost system, costs are assigned to each job or batch of goods; at all times each job or batch of goods can be separately identified. A job order cost system measures costs for each completed job, rather than for set time periods. Under a process cost system, product-related costs are accumulated by or assigned to departments or processes for a set period of time. Job order costing lends itself to specific, special-order manufacturing or servicing while process costing is better suited to similar, large-volume products and continuous process manufacturing. (b) A company can use both types of systems. For example, General Motors uses process costing for standard model cars and job order costing for custom-made vehicles.
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
3.
A job order cost system is most likely to be used by a company that receives special orders, or custom builds, or produces heterogeneous items or products; that is, the product manufactured or the service rendered is tailored to the customer or client’s requests, needs, or situation. Examples of industries that use job order systems are custom homebuilders, commercial printing companies, motion picture companies, construction contractors, repair shops, accounting and law firms, hospitals, shipbuilders, and architects.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
4.
A process cost system is most likely to be used by manufacturing firms with continuous production flows usually found in mass production, assembly line, large-volume, uniform, or relatively similar product industries. Companies producing appliances, chemicals, pharmaceuticals, rubber and tires, plastics, cement, petroleum, and automobiles utilize process cost systems.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
5.
The major steps in the flow of costs in a job order cost system are: (1) accumulating the manufacturing costs incurred, (2) assigning the accumulated costs to Work in Process Inventory, (3) transferring the cost of completed jobs to Finished Goods Inventory, and (4) transferring the cost of jobs sold to Cost of Goods Sold.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
6.
The three inventory control accounts and their subsidiary ledgers are: Raw materials inventory—materials inventory records. Work in process inventory—job cost sheets. Finished goods inventory—finished goods records.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 15A (Continued) 7.
Disagree. Updates to Manufacturing Overhead are also made at the end of an accounting period. For example, there will be adjusting entries for factory depreciation, property taxes, and insurance.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
8.
The source document for assigning materials is the materials requisition slip and the source document for assigning labor is the time ticket. The entries are: Manufacturing Costs
Direct materials Indirect materials Direct labor Indirect labor
Raw Materials Inventory –$XX –XX
Factory Labor
Manufacturing Overhead
Work in Process Inventory +$XX
+$XX –$XX –XX
+XX +XX
LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
9.
The purpose of a job cost sheet is to record the costs chargeable to a specific job and to determine the total and unit costs of the completed job.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Cost Management
10.
The source documents for charging costs to specific jobs are materials requisition slips for direct materials, time tickets for direct labor, and the predetermined overhead rate for manufacturing overhead.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
11.
The materials requisition slip is a business document used as an authorization to issue materials from inventory to production. It is approved and signed by authorized personnel so that materials may be removed from inventory and charged to production, to specific jobs, departments, or processes. The materials requisition slip is the basis for posting to the materials inventory records and to the job cost sheet.
LO2 BT: K Difficulty: Easy TOT: 4 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12.
Disagree. Actual manufacturing overhead cannot be determined until the end of a period of time. Consequently, there could be a significant delay in assigning overhead and in determining the total cost of the completed job.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
13.
The elements for computing the predetermined overhead rate are the estimated annual overhead costs and an expected activity base such as direct labor hours. The rate is computed by dividing the estimated annual overhead costs by the expected annual operating activity.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 15A (Continued) 14.
At any point in time, the balance in Work in Process Inventory should equal the sum of the costs shown on the job cost sheets of unfinished jobs. Alternatively, posting to Work in Process Inventory may be compared with the sum of the postings to the job cost sheets for each of the manufacturing cost elements.
LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
15.
When Manufacturing Overhead has a positive balance, overhead is underapplied. Underapplied overhead means that the overhead applied to work in process is less than the overhead incurred. When Manufacturing Overhead has a negative balance, overhead is overapplied. Overapplied overhead means that the overhead applied to work in process is greater than the overhead incurred.
LO5 BT: C Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
16.
Not correct. Under- or overapplied overhead is not eliminated by adjusting the cost sheets. If the balance in Manufacturing Overhead is positive, it is decreased and Cost of Goods Sold is increased. If the balance in Manufacturing Overhead is negative, it is increased and Cost of Goods Sold is decreased.
LO5 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 15A.1 Work in Process Inventory
Manufacturing Costs Raw Materials Inventory (1)Purchase raw materials (2)Incur factory labor (3)Factory utilities (3)Factory insurance (3)Factory repairs (3)Factory depreciation (3)Factory property taxes (4)Direct materials (4)Indirect materials (5)Direct labor (5)Indirect labor (6)Assign manufacturing overhead (7)Completed jobs (8)Sale of jobs
Factory Labor
Finished Goods Inventory
Cost of Goods Sold
+$XX –XX
+$XX
Manufacturing Overhead
+$XX +$XX +$XX +XX +XX +XX +XX –XX –XX
(1) Purchase raw materials (2) Incur factory labor (3) Incur manufacturing overhead (4) Raw materials are used
+$XX +XX –XX –XX
+XX +XX
–XX
+XX –XX
(5) Factory labor is used (6) Overhead is applied (7) Completed goods are recognized (8) Cost of goods sold is recognized
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.2 Manufacturing Costs Raw Materials Inventory Purchased raw materials Incurred factory labor Factory utilities Balance
Manufacturing Overhead
Factory Labor
+$4,000 +$6,000 $4,000
$6,000
+$2,000 $2,000
LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.3
Manufacturing Costs Raw Factory Manufacturing Materials Labor Overhead Inventory Balance from BE2A.2 Direct materials (From Jobs 1, 2 & 3)
Indirect materials Balance
$4,000
$6,000
$2,000
–2,800 –600 $600
Work in Process Inventory
+$2,800
$6,000
+600 $2,600
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
$2,800
BRIEF EXERCISE 15A.4 Work in Process Inventory
Manufacturing Costs Raw Materials Inventory Balance from BE2A.3 Direct labor
$600
Factory Labor
Manufacturing Overhead
$6,000 –5,200
$2,600
–800 $0
+800 $3,400
$2,800 +5,200
(From Jobs 1, 2 & 3)
Indirect labor Balance
$600
$8,000
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.5
Date 1/31 1/31
Job 1 Direct Materials $900
Direct Labor
Date 1/31 1/31
$2,200
Date 1/31 1/31
Job 3 Direct Materials $700
Job 2 Direct Materials $1,200
Direct Labor $1,600
Direct Labor $1,400
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.6 Overhead rate per direct labor cost is 180%, or ($900,000 ÷ $500,000). Overhead rate per direct labor hour is $18, or ($900,000 ÷ 50,000 DLH). Overhead rate per machine hour is $9, or ($900,000 ÷ 100,000 MH). LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.7 January $40,000 x 70% = $28,000 February $30,000 x 70% = $21,000 March
$50,000 x 70% = $35,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.8
Manufacturing Costs Raw Materials Inventory Balance Completion of Jobs: Job 10 Job 11 Job Sold: Job 10 Balance
Factory Labor
Work in Process Inventory
Finished Goods Inventory
Cost of Goods Sold
Manufacturing Overhead $50,000 –20,000 –30,000
+$20,000 +30,000 –20,000 30,000
LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
+$20,000 20,000
BRIEF EXERCISE 15A.9
Service Contract Costs Service Salaries Operating and Supplies Overhead Wages Beginning balance $36,000 Assign personnel –36,000 +$8,000 costs to projects Assign operating overhead to –7,000 projects* Ending balance $0 $1,000
Service Contract in Process
+$28,000 +7,000 $35,000
*$28,000 x 25% = $7,000 LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 15A.10 Shimeca Company The adjustment will increase Cost of Goods Sold and decrease Manufacturing Overhead. Garcia Company The adjustment will decrease Cost of Goods Sold and increase Manufacturing Overhead. LO5 BT: C Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS FOR DO IT! EXERCISES DO IT! 15A.1 Manufacturing Costs Raw Materials Factory Manufacturing Inventory Labor Overhead (a) Purchased raw materials (b) Incurred factory labor (c) Factory utilities (c) Factory property taxes (c)Factory depreciation
+$18,000 +$40,000 +$3,100 +2,700 +9,500
Balance
$18,000
$40,000
$15,300
LO1 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 15A.2 The two summary entries are:
Manufacturing Costs
Direct Materials Direct Labor
Raw Materials Inventory –$16,200
Factory Labor
Work in Process Inventory
Manufacturing Overhead +$16,200
–$12,000
+12,000
LO2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 15A.3 The predetermined overhead for Washburn Company is: $200,000 2,500 hours = $80.00 The amount of overhead assigned to number 551 would be: 90 hours $80.00 = $7,200 LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [($200,000 ÷ 2,500 hrs. = $80/hr.); (90 hrs. x $80/hr. = $7,200)] [(Expected MOH ÷ Expected MH = Predet. OH rate); (Act. MH x Predet. OH rate = Applied OH)]
DO IT! 15A.4
Manufacturing Costs Raw Materials Inventory Balance Completion of Job No. 310 Completion of Job No. 312 Sale of Job No. 312 Balances
Factory Labor
Work in Finished Process Goods Inventory Inventory
Cost of Goods Sold
Manufacturing Overhead $120,000 –70,000
+$70,000
–50,000
+50,000
$0
–50,000 $70,000
+$50,000 $50,000
LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 15A.5 Manufacturing overhead applied = 130% x $85,000 = $110,500 Underapplied manufacturing overhead = $115,000 – $110,500 = $4,500 LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Cost Management [($85,000 x 130% = $110,500); ($115,000 - $110,500 = $4,500)] [(Actual DL cost x Predet. OH rate = Applied OH); (Actual OH – Applied OH = Underapp. MOH)]
SOLUTIONS TO EXERCISES EXERCISE 15A.1 (a) & (b) Work in Process Inventory
Manufacturing Costs Raw Materials Inventory (a) Incurred factory labor (b) Direct labor* (b) Indirect labor** Balances
Factory Labor $90,000 –76,500 –13,500 $0
Manufacturing Overhead
+$76,500 +$13,500 $13,500
$76,500
*$90,000 x 85% = $76,500 **$90,000 x 15% = $13,500 LO1, 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.2 (a) – (c) Work in Process Inventor y
Manufacturing Costs
(a) Balances (a) Incurred factory labor (b) Direct materials (b) Indirect materials (b) Direct labor (b) Indirect labor (b) Assign Manufacturin g overhead*
Raw Materials Inventor y $15,000
Factory Labor
Finished Goods Inventor y
Manufacturin g Overhead $3,500
+$13,70 0 –10,400
+10,400
–800
+$800 –12,500 –1,200
+12,500 +1,200 –
+7,500
–$5,500
–7,540 $26,360
+$7,540 $7,540
Job Cost Sheets Direct Direct Manufacturing* Material Labor Overhead $3,500 $ 3,000 $1,800 4,400 7,600 4,560
Total $ 9,800 16,560
7,500 (b) Completion of job No. 429** Balance
$3,800
$
0
*$12,500 x 60% = $7,500 **$2,000 + $2,500 + $1,900 + ($1,900 x 60%) = $7,540 (c) Job No. 430 431
Beginning Work in Process $1,500 0
$1,500
$7,900
$10,600
$6,360
$26,360
*Direct labor x .60 LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.3 (a) $15,200, or ($5,000 + $6,000 + $4,200). (b) Last year 70%, or ($4,200 ÷ $6,000); this year 80% (either $6,400 ÷ $8,000 or $3,200 ÷ $4,000). [Last yr.: ($4,200 ÷ $6,000 = 70%); This yr.: ($3,200 ÷ $4,000 = 80%)] [Last yr.: (MOH cost ÷ DL cost = Predet. OH rate); This yr.: (MOH ÷ DL cost = Predet. OH rate)] LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.4 (a) + $50,000 + $42,500 = $145,650 (a) = $53,150 $145,650 + (b) = $201,500 (b) = $55,850 $201,500 – (c) = $192,300 (c) = $9,200 [Note: The instructions indicate that manufacturing overhead is applied on the basis of direct labor cost, and the rate is the same in all cases. From Case A, a student should note the overhead rate to be 85%, or ($42,500 ÷ $50,000).] (d) = .85 x $140,000 (d) = $119,000 [($42,500 ÷ $50,000) x $140,000 = $119,500] [From Case A: (MOH applied ÷ DL cost) x Case B DL cost = Case B MOH app.]
$83,000 + $140,000 + $119,000 = (e) (e) = $342,000 $342,000 + $15,500 = (f) (f) = $357,500 $357,500 – $11,800 = (g) (g) = $345,700 [Note: (h) and (i) are solved together.] (i) = .85(h)
EXERCISE 15A.4 (Continued) $63,150 + (h) + .85(h) = $213,000 1.85(h) = $149,850 (h) = $81,000 (i) = $68,850 (j) = $213,000 + $18,000 (j) = $231,000 $231,000 – (k) = $222,000 (k) = $9,000 LO1, 5 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.5 (a) $2.40 per machine hour ($300,000 ÷ 125,000 MH). (b) ($322,000) – ($2.40 x 130,000 Machine Hours) $322,000 – $312,000 = $10,000 underapplied [$322,000 – ($2.40 x 130,000) = $10,000 underapp.]
(c) The adjustment to assign the underapplied overhead to Cost of Goods Sold will decrease Manufacturing Overhead and increase Cost of Goods Sold. LO3, 5 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.6 (a) The source documents are: Direct materials—Materials requisition slips. Direct labor—Time tickets. Manufacturing overhead—Predetermined overhead rate. (b) The predetermined overhead rate is 125% of direct labor cost. For example, on July 15, the computation is $550 ÷ $440 = 125%. The same result is obtained on July 22 and 31. ($550 ÷ $440 = 125% of DL cost) (July 15: MOH cost ÷ DL cost = Predet. MOH rate)
EXERCISE 15A.6 (Continued) (c) The total cost is: Direct materials ............................................................ Direct labor ................................................................... Manufacturing overhead..............................................
$4,690 1,360 1,700 $7,750
The unit cost is $3.10 ($7,750 ÷ 2,500). LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.7
Manufacturing Costs Raw Factory Manufacturing Materials Labor Overhead Inventory (1)Purchased raw materials (2)Direct materials (2)Indirect materials (3)Incurred factory labor (4)Direct labor (4)Indirect labor (5)Overhead costs incurred (6)Assigned overhead (7)Completed goods (8)Goods sold Ending Balance
Work in Process Inventory
Finished Goods Inventory
Cost of Goods Sold
+$88,000 –75,000 $13,000
+$75,000 $75,000
+$46,300 –29,200
+$29,200
–6,800
+$6,800 +$59,900 –54,000 –5,900
+54,000 +5,900
+80,500 –81,000
+81,000 –88,000
$ 10,300
$
0
$12,200
$76,200
LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 18 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.8 Work in Process Inventory
Manufacturing Costs Raw Materials Inventory (1)Purchased raw materials (1)Incurred factory labor (2)Direct materials (2)Indirect materials (2)Direct labor (2)Indirect labor (3)Incurred overhead costs (4)Factory depreciation (5)Assigned overhead (6)Completed jobs Ending Balance
Factory Labor
Finished Goods Inventory
Cost of Goods Sold
Manufacturing Overhead
+$192,000
+$87,300 –153,530
+$153,530
–4,470
+$4,470 –80,000 –7,300
+80,000 +7,300
+49,500 +14,550 –72,000
$34,000
$
0
$3,820
+72,000 –240,930
+$240,930
$ 64,600
$240,930
Computation of cost of jobs finished:
Job A20 A21 A23
Direct Materials $35,240 42,920 39,270
Direct Labor $18,000 22,000 25,000
Manufacturing Overhead (DL x 90%) $16,200 19,800 22,500
Total $ 69,440 84,720 86,770 $240,930
LO1, 2, 3, 4 BT: AP Difficulty: Easy TOT: 18 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.9 (a)
LOPEZ COMPANY Cost of Goods Manufactured Schedule For the Month Ended May 31, 2025 Work in process, May 1 ........................................ Direct materials used ........................................... Direct labor............................................................ Manufacturing overhead applied......................... Total manufacturing costs ........................... Total cost of work in process .............................. Less: Work in process, May 31........................... Cost of goods manufactured ...............................
$ 14,700 $62,400 50,000 40,000 152,400 167,100 15,900 $151,200
[($14,700 + ($62,400 + $50,000 + $40,000)) - $15,900 = $151,200] [(Beg. WIP + (DM + DL + MOH app.)) – End. WIP = COGM]
(b)
LOPEZ COMPANY Income Statement (Partial) For the Month Ended May 31, 2025 Sales revenue .................................................... Cost of goods sold Finished goods, May 1............................... Cost of goods manufactured..................... Cost of goods available for sale ............... Less: Finished goods, May 31.................. Cost of goods sold ............................. Gross profit ........................................................
(c)
$215,000 $ 12,600 151,200 163,800 9,500 154,300 $ 60,700
LOPEZ COMPANY Balance Sheet (Partial) May 31, 20225 Current assets: Finished goods inventory.......................... Work in process inventory ........................ Raw materials inventory ............................
$ 9,500 15,900 7,100
$32,500
LO1, 5 BT: AP Difficulty: Easy TOT: 18 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.10 (a) Work in Process Inventory April 30 $ 9,300 (#10, $5,200 + #11, $4,100) May 31 $18,600 (#11, $8,000 + #13, $4,700 + #14, $5,900) June 30 $ 9,500 (#14, $5,900 + $3,600) [(Apr. 30: $5,200 + $4,100 = $9,300); (May 31: $8,000 + $4,700 + $5,900 = $18,600); (June 30: $5,900 + $3,600 = $9,500)] [(Apr. 30: Job #10 + Job #11 = End. WIP); (May 31: (Job #11 + Job #13 + Job #14 = End. WIP); (June 30: Job #14 = End. WIP)]
(b) Finished Goods Inventory April 30 $ 1,200 (#12) May 31 $ 9,600 (#10) June 30 $19,200 (#11, $10,000 + #13, $9,200) (c) Gross Profit Month May June July
Job Number 12 10 11/13
Sales $ 1,500 12,000 24,000
Cost of Goods Sold $ 1,200 9,600 19,200
Gross Profit $ 300 2,400 4,800
[(May: ($1,200 x 125%) - $1,200 = $300); (June: ($9,600 x 125%) - $9,600 = $2,400); (July: ($19,200 x 125%) $19,200 = $4,800)] [(May: (CGS x 1 + Markup %) – CGS = GP); (June: (CGS x 1 + Markup %) – CGS = GP); (July: (CGS x 1 + Markup %) – CGS = GP)] LO2, 4 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.11
(a) (1)Purchased supplies (2)Direct supplies* (2)Indirect supplies** (3)Direct labor (3)Indirect labor (4)Incurred overhead costs (5)Assigned overhead*** (6)Completed work Ending Balance
Service Contract Costs Service Operating Salaries Supplies and Wages Overhead
Service Contracts in Process
Cost of Completed Service Contracts
+$1,800 –720
+$720
–480
+$480 –$56,000 –14,000
+56,000 +14,000
+40,000
$ 600
-$70,000
–50,400
+50,400
$4,080
–75,000 $32,120
+$75,000 $75,000
*$ 1,200 x 60% = $720 **$ 1,200 x 40% = $480 ***$56,000 x 90% = $50,400
(b) Service Contracts in Process (2) $ 720 (3) 56,000 (5) 50,400 (6) –75,000 Balance $ 32,120 LO1, 3, 4 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.12 (a) Direct materials Auditor labor costs Applied overhead Total cost
Waters Inc. $ 600 5,400 3,600 $9,600
Renolds Inc. $ 400 6,600 4,400 $11,400
Bayfield Inc. $ 200 3,375 2,250 $5,825
[(Waters app. OH: 72 x $50 = $3,600); (Renolds app. OH: 88 x $50 = $4,400); (Bayfield app. OH: 45 x $50 = $2,250)] [(Waters app. OH: (Auditor hrs. x Predet. OH rate = App. OH); (Renolds app. OH: (Auditor hrs. x Predet. OH rate = App. OH); (Bayfield app. OH: (Auditor hrs. x Predet. OH rate = App. OH)]
(b) The Waters Inc. job is the only incomplete job, therefore, $9,600. (c) Actual overhead Applied overhead Balance
$11,000 10,250 ($3,600 + $4,400 + $2,250) $ 750 (underapplied)
[$11,000 – ($3,600 + $4,400 + $2,250) = $750] [Act. OH – (Waters app. OH + Renolds app. OH + Bayfield app. OH) = Underapp. OH] LO2, 3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 15A.13 (a) Predetermined overhead rate = Estimated overhead ÷ Estimated decorator hours = $960,000 ÷ 40,000 decorator hours = $24 per decorator hour (b) 40,500 hrs. x $24 = $972,000 (c)
Actual overhead Applied overhead Balance
$982,800 972,000 $ 10,800 underapplied
[$982,800 – (40,500 x $24) = $10,800] [Act. OH – (Act. dec. hrs. x Predet. OH rate) = Underapp. OH] LO3, 5 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO PROBLEMS PROBLEM 15A.1 (a) $840,000 ÷ $700,000 direct labor costs = 120% of direct labor costs ($840,000 ÷ $700,000 = 120% of DL cost) (Est. OH costs ÷ Est. DL cost = Predet. OH rate)
(b) See solution to part (e) for job cost sheets (c) - (f) Work in Process Inventory
Manufacturing Costs Raw Materials Inventory Beginning Balance (c)Purchase raw materials (c)Incurred factory labor (c)Factory depreciation (c)Other overhead costs (c)Indirect materials (c)Indirect labor (d)Direct materials (d)Direct labor (d)Assigned overhead (e)Jobs completed (f)Jobs sold Ending Balance
Factory Labor
Finished Goods Inventory
Cost of Goods Sold
Manufacturin g Overhead
$15,000 +90,000 +$70,000 +$12,000
+16,000 –17,000
+17,000 –20,000
+20,000
–79,000
+$79,000 –50,000
+50,000 –60,000
+60,000 –163,000*
$ 9,000
$0
$5,000
$26,000
+$163,000 –159,000**
+$159,000
$ 4,000
$159,000
*($69,000 + $94,000 = $163,000); (Job 50 costs + Job 51 costs = Cost of completed jobs)**($90,000 + $69,000 = $159,000); (Job 49 costs + Job 50 costs = Cost of jobs sold)
PROBLEM 15A.1 (Continued) See solution to part (e) for postings to job cost sheets. (b)&(e)
Job Cost Sheets
Job No. 50 Date Direct Materials Beg. $20,000 Jan. 10,000 $30,000
Direct Labor $12,000 5,000 $17,000
Manufacturing Overhead $16,000 6,000* $22,000
Cost of completed job Direct materials .............................................................. Direct labor ..................................................................... Manufacturing overhead ............................................... Total cost ...............................................................................
$30,000 17,000 22,000 $69,000
*$5,000 x 120% [Job #50: $5,000 x 120% = $6,000] [Job #50: DL cost x Predet. OH rate = App. OH]
Job No. 51 Date Jan.
Direct Materials $39,000 $39,000
Direct Labor $25,000 $25,000
Manufacturing Overhead $30,000** $30,000
Cost of completed job Direct materials .............................................................. Direct labor ..................................................................... Manufacturing overhead ............................................... Total cost ............................................................................... **$25,000 x 120% [Job #51: $25,000 x 120% = $30,000] [Job #51: DL cost x Predet. OH rate = App. OH]
$39,000 25,000 30,000 $94,000
PROBLEM 15A.1 (Continued) Job No. 52 Date Direct Materials Jan. $30,000
Direct Labor $20,000
Manufacturing Overhead $24,000***
***$20,000 x 120% [Job #52: $20,000 x 120% = $24,000] [Job #52: DL cost x Predet. OH rate = App. OH]
(g)
Finished Goods Inventory Beg. bal. $ 90,000 Completed Jobs 50 & 51 163,000 Sold Jobs 49 & 50 End. bal.
–159,000 $ 94,000
The balance in this account consists of the cost of completed Job No. 51 which has not yet been sold. [$90,000 + ($69,000 + $94,000) – ($90,000 + $69,000) = $94,000] [Beg. bal. + (Cost of completed jobs 50 & 51) – (Cost of jobs 49 & 50 sold) = End. bal.]
(h)
Manufacturing Overhead Actual Applied Underapplied
$65,000 –60,000 $5,000
The balance in the Manufacturing Overhead account is underapplied. [$65,000 – ($6,000 + $30,000 + $24,000) = $5,000] [Act. MOH – (MOH app. to jobs #50, #51, & #52) = MOH underapp.] LO1, 2, 3, 4, 5 BT: AP Difficulty: Easy TOT: 40 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 15A.2 (a) - (c) Work in Process Inventory
Manufacturing Costs
(a) Beginning balance Purchased raw materials Incurred factory labor Direct materials Indirect materials Direct labor Indirect labor Overhead costs incurred
Raw Materials Inventory
Factory Labor
Cost of Goods Sold
Manufacturin g Overhead
$15,000
(1) $128,400
$179,000
+140,000 +$157,000 –131,000
(2) +131,000
–14,000
+$14,000 –139,000 –18,000
(3) +139,000 +18,000 +120,000
Factory equip. depreciation Assigned overhead
+8,000
–166,800
Completed jobs Sold jobs
(4) +166,800 –386,200
(b) WIP balance (c) Overapplied overhead Ending Balance
Finished Goods Inventory
(5) +386,200 –378,200
+$378,200
$179,000
–6,800
+6,800 $10,000
$
0
$
0
$179,000
$187,000
Numbered entries: Entries labeled (1) – (5) are cross-referenced to calculations shown in Part (b) below.
$371,400
PROBLEM 15A.2 (Continued) (b) (1) Job 7640 Job 7641
$ 77,800 50,600 $128,400
(3)
Job 7640 Job 7641 Job 7642
$ 36,000 48,000 55,000 $139,000
(2) Job 7640 Job 7641 Job 7642
$ 30,000 43,000 58,000 $131,000
(4)
Job 7640 Job 7641 Job 7642
$ 43,200 57,600 66,000 $166,800
(5) (a) Job 7640 Beginning balance................................................. Direct materials...................................................... Direct labor ............................................................ Manufacturing overhead .......................................
(b) Job 7641 Beginning balance................................................. Direct materials...................................................... Direct labor ............................................................ Manufacturing overhead ....................................... (c) Total cost of completed work Job 7640 ................................................................ Job 7641 ................................................................
Work in process balance .....................................................
$ 77,800 30,000 36,000 43,200 $187,000
$ 50,600 43,000 48,000 57,600 $199,200 $187,000 199,200 $386,200 $179,000
Unfinished job No. 7642 ............................................... $179,000 * Current year’s cost Direct materials................................. $ 58,000 Direct labor ....................................... 55,000 Manufacturing overhead .................. 66,000 $179,000
*
[($77,800 + $50,600) + ($30,000 + $43,000 + $58,000) + ($36,000 + $48,000 + $55,000) + ($43,200 + $57,600 + $66,000) – ($187,000 + $199,200) = $179,000] [Beg. WIP bal. + DM + DL + App. OH – Cost of completed jobs 7640 & 7641 = End. WIP bal.]
PROBLEM 15A.2 (Continued) (c) Actual overhead costs Incurred on account .............................................. Indirect materials................................................... Indirect labor ......................................................... Depreciation .......................................................... Applied overhead costs Job 7640................................................................. Job 7641................................................................. Job 7642.................................................................
Actual overhead ............................................................ Applied overhead.......................................................... Overapplied overhead ..................................................
$120,000 14,000 18,000 8,000 $160,000 $ 43,200 57,600 66,000 $166,800 $160,000 166,800 $ 6,800
[($120,000 + $14,000 + $18,000 + $8,000) – ($43,200 + $57,600 + $66,000) = $6,800] [(OH incurred on acct. + Ind. Mat. + Ind. Labor + Depr.) – (App. OH to jobs #7640 + #7641 + #7642) = Overapp. OH]
(d) Sales revenue (given) ........................................ Cost of goods sold Add: Job 7638 ................................................... Job 7639 ................................................... Job 7641 ................................................... Less: Overapplied overhead ........................... Gross profit .......................................................
$530,000 $ 87,000 92,000 199,200 378,200 6,800
371,400 $158,600
LO1, 2, 3, 4, 5 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 15A.3 (a) Work in Process Inventory
Manufacturing Costs Raw Materials Inventory Beginning balance (1)Purchased raw materials (1)Incurred factory labor (1)Misc. overhead costs (1)Factory equip. depr. (2)Direct materials (2)Indirect materials (2)Direct labor (2)Indirect labor (2)Assigned overhead* (6)Completion of jobs** (3)Sale of jobs Ending balance
Factory Labor
Finished Goods Inventory
Manufacturing Overhead
$4,200 +4,900
-$990
$5,540
+4,800 +$400
+900 –4,900
+4,900
–1,500
+1,500 –3,600 –1,200
+3,600 +1,200 –4,500
+4,500 –14,740
$2,700
$0
-$1,490
+$14,740 –14,740
+$14,740
$0
$14,740
$3,800
*($3,600 x 125% = $4,500); (DL x MOH rate = Assigned OH) **
Job Rodgers Stevens Linton
***125% x DL
Cost of Goods Sold
DM $1,700 1,300 2,200
DL $1,560 900 1,780
MOH*** $1,950 1,125 2,225
Tot. Costs $5,210 3,325 6,205 $14,740
PROBLEM 15A.3 (Continued) (b)
Beginning balance Direct materials Direct labor Assigned overhead Completed jobs Ending balance
Work in Process Inventory $5,540 4,900 3,600 4,500 -14,740 $3,800
Job: Koss (Direct materials $2,000 + Direct labor $800 + Manufacturing overhead $1,000) ................................. (c)
$3,800
CASE INC. Cost of Goods Manufactured Schedule For the Month Ended June 30, 2025 Work in process, June 1.......................................... Direct materials used............................................... Direct labor............................................................... Manufacturing overhead applied ............................ Total manufacturing costs............................... Total cost of work in process ................................. Less: Work in process, June 30............................. Cost of goods manufactured ..................................
$ 5,540 $4,900 3,600 4,500 13,000 18,540 3,800 $14,740
[($5,540 + ($4,900 + $3,600 + $4,500)) - $3,800 = $14,740] [(Beg. WIP + (DM used + DL + MOH app.)) – End. WIP = COGM] LO1, 2, 3, 4, 5 BT: AP Difficulty: Easy TOT: 40 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 15A.4
(a) Department D: Department E: Department K:
$1,200,000 ÷ $1,500,000 = 80% of direct labor cost. $1,500,000 ÷ 125,000 = $12.00 per direct labor hour. $900,000 ÷ 120,000 = $7.50 per machine hour.
(b) Manufacturing Costs Direct materials Direct labor Overhead applied Total
D $140,000 120,000 96,000* $356,000
Department E $126,000 110,000 132,000** $368,000
K $ 78,000 37,500 78,000*** $193,500
D $99,000 96,000 $ 3,000
Department E $124,000 132,000 $ (8,000)
K $79,000 78,000 $ 1,000
*$120,000 x 80% **11,000 x $12.00 ***10,400 x $7.50 (c) Manufacturing Overhead Incurred Applied Under (over) applied
[(D: $99,000 – ($120,000 x 80%) = $3,000); (E: $124,000 – (11,000 x $12) = ($8,000)); (K: $79,000 – (10,400 x $7.50) = $1,000)] [(D: Act. MOH – (DL cost x Predet. MOH rate) = Underapp. MOH); (E: Act. MOH – (DL hrs. x Predet. MOH rate) = Overapp. MOH); (K: Act. MOH – (Act. MH x Predet. MOH rate) = Underapp. MOH)] LO3, 5 BT: AP Difficulty: Easy TOT: 25 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 15A.5
(a) $7,600
($16,850 + $7,975 – $17,225).
($16,850 + $7,975 - $17,225 = $7,600) (RM used + RM end. bal. – RM purch. = RM beg. bal.)
(b) $36,000
[$9,750 + $15,000 + (75% x $15,000)]. (Given in other data).
(c) $13,950
($16,850 – $2,900).
($16,850 - $2,900 = $13,950) (RM used – Ind. Mat. = DM)
(d) $6,300
($8,400 x 75%).
(e) $12,200
[Given in other data—$3,800 + $4,800 + (75% x $4,800)].
[$3,800 + $4,800 + (75% x $4,800) = $12,200] [Job 158: DM + DL cost + (Predet. MOH rate x DL cost) = End. bal. WIP]
(f)
$52,450
($36,000 + $13,950 + $8,400 + $6,300 – $12,200).
($36,000 + $13,950 + $8,400 + $6,300 - $12,200 = $52,450) (Beg. bal. WIP + DM + DL + MOH app. – End. bal. WIP = Jobs completed]
(g) $5,000
(Given in other data).
(h) $52,450
(See (f) above).
(i)
($5,000 + $52,450 – $4,000).
$53,450
($5,000 + $52,450 - $4,000 = $53,450) (Beg. bal. fin. gds. inv. + Jobs completed – End. bal. fin. gds. inv. = CGS)
(j)
$4,000
(Given in other data).
(k) $12,025
(Equal to factory labor incurred).
(l)
($12,025 – $8,400).
$3,625
(m) $6,300 ($7,770* – $1,470) or (Same as (d)). *$2,900 + $3,625 + $1,245 (n) $1,470
(Given in other data).
(o) $53,450
(Same as (i) above).
(p) $53,450
(Same as (i) above).
LO1, 2, 3, 4, 5 BT: AN Difficulty: Complex TOT: 40 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CD15A
CURRENT DESIGNS
Cost for one kayak: Direct Materials Polyethylene powder Finishing kit
54 pounds @ $1.50 per pound 1 kit @ $170
Direct Labor More skilled Less skilled
2 hours @ $15 per hour 3 hours @ $12 per hour
$
81 170 30 36
Manufacturing overhead 150% of direct labor costs 150% x $66 Total cost for one kayak
99 $ 416
Cost for order of 20 kayaks $416 per kayak x 20 kayaks
$8,320
LO2, 1, 2, 3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
WC15A
WATERWAYS CORPORATION
(a) JOB COST SHEET Quantity 237 units Job Number J57 Date Requested Dec. 2 Date Completed Dec. 15 Item special order parts
Date
Direct Materials
Dec. 2 Dec. 3 Dec. 8 Dec. 9 Dec. 14 Dec. 15
Direct Labor
Manufacturing Overhead Hours Rate Amount
$66
2 1/2
$398*
$ 995
66
3
398
1,194
66
3
398
1,194
$3,374 706 2,306
Cost Summary Direct materials Direct labor Manufacturing overhead Total Cost Unit Cost ($9,967/237 units) *$840,576 2,112
$6,386 198 3,383 $9,967 $42.05
WC15A (Continued) JOB COST SHEET Quantity 142 units Job Number K52 Date Requested Dec. 2 Date Completed Dec. 15 Item special order parts
Date Dec. 2 Dec. 3 Dec. 8 Dec. 9 Dec. 14 Dec. 15
Direct Materials
Manufacturing Overhead Hours Rate Amount
$1,687 $33
2
$398*
$796
33
2
398
796
33
2
398
796
353 1,153
Cost Summary Direct materials Direct labor Manufacturing overhead Total Cost Unit Cost ($5,680/142 units)
*$840,576 2,112
Direct Labor
$3,193 99 2,388 $5,680 $40.00
WC15A (Continued) (b) Since production involved the use of machinery that required minimal labor, using machine hours as the cost driver for producing the sprinkler heads would more accurately reflect the overhead costs than would direct labor. When the irrigation system is installed, this would require a great deal of labor and minimal machinery. Therefore, the cost driver for overhead costs would more likely be direct labor costs. LO2, 3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CC15A 1.
GREETINGS INC.
A predetermined manufacturing overhead rate means that all manufacturing overhead costs, are allocated to each job based on a cost driver. Often this is done based on the expected volume of units produced. That is, products that are produced in higher volume are allocated more overhead. In the case of Greetings Inc., in addition to volume sold, the base used is the cost of each print sold. That is, each print is allocated an amount of manufacturing overhead based on the cost of the print. The management of Greetings Inc. felt that this approach was logical because it was expected that more expensive prints would be more likely to be framed, and that the processing of framing requires the incurrence of considerably more overhead costs.
2.
The advantages of using the cost of each print as the manufacturing overhead cost driver are that: (1) it is relatively inexpensive to implement in a business, (2) it is easy to explain, and (3) it keeps accounting records in compliance with GAAP. The primary disadvantage of using the cost of each print as the manufacturing overhead cost driver is that it may not result in a reasonable estimate of the cost of a job, batch, or service. That is, the assumed relationship—that the cost of the print is related to the amount of overhead cost incurred—may be incorrect. Many of the overhead costs incurred are the result of the framing and matting processes. However, the approach used by Greetings Inc. will result in a high overhead allocation to expensive prints, even if those prints are not framed. Furthermore, even if overhead costs are related to the cost of prints, and substantially more unframed prints are sold than framed prints, then an inordinate amount of overhead will still be allocated to the unframed prints simply because more of those are sold. By allocating overhead in an inappropriate fashion, product costs are distorted, and, as a consequence, management decision making is affected.
CC15A (Continued) 3.
Under a job order costing system, a predetermined overhead rate must be used, since the cost of jobs must be calculated throughout the year (rather than just at year-end). This predetermined overhead rate is based on expected costs and the expected total amount of the cost driver. Therefore, the first thing that must be done is to compute the total expected overhead cost. This step was completed in the information provided by the accounting and production teams. It was determined to be $375,200. The second step is to determine the total expected cost of prints for the period. Unframed: 80,000 X $12 = $ 960,000 Steel-framed: 15,000 X $16 = 240,000 Wood-framed: 7,000 X $20 = 140,000 Total expected cost of prints $1,340,000 Once the total expected overhead cost and total expected print cost are known, the overhead rate can be determined. Predetermined overhead rate = $375,200 ÷ $1,340,000 = $0.28 This means that for every $1 of print cost, it is assumed that 28¢ of manufacturing overhead costs are consumed. For example, a $12 print will be assigned $3.36 ($12 X $0.28) of overhead.
CC15A (Continued) 4.
Lance Armstrong Print
John Elway Steel-Framed Print, No Matting
Lambeau Field Wood-Framed Print, with Matting
$12.00
$16.00 4.00
$20.00 6.00 4.00
2.00
2.00
2.00
Direct material Print Frame and glass Matting Direct labor Picking ([10/60] X $12) Matting and framing ([20/60] X $21) ([30/60] X $21) Manufacturing overhead (0.28 X $12, $16, $20) Total product cost
5.
(a) Unframed prints (b) Steel-framed prints (c) Wood-framed prints
7.00 10.50 3.36 $17.36
4.48 $33.48
80,000 X $12 X $0.28 = 15,000 X $16 X $0.28 = 7,000 X $20 X $0.28 =
5.60 $48.10
$268,800 67,200 39,200 $375,200
(d) As a percentage, unframed prints are being allocated 71.6 percent or ($268,800 ÷ $375,200) of the total overhead cost. 6.
No. Unframed prints are being allocated too much manufacturing overhead and framed prints too little manufacturing overhead. In designing the allocation approach, management had assumed that since the average cost of framed prints would exceed the average cost of unframed prints, more of the overhead would be allocated to framed prints. However, the cause of the apparent misallocation is that the volume of unframed prints is much greater than the volume of framed prints. This dramatic difference in volume far outweighs the difference in price. Therefore, unframed prints as a category end up absorbing the bulk of the overhead costs. This does not seem appropriate since a review of the manufacturing overhead costs shows that many of the overhead costs are associated with the framing and matting component of the production area, such as salaries, rent of factory equipment, and information systems.
CC15A (Continued) 7.
The high-volume unframed prints will be over-costed and the lowvolume framed prints will be under-costed. This will occur because the category of prints that are sold most frequently will generally carry the greatest amount of overhead. For example, in reference to the solution to question 4, the framed and matted print is being allocated only $5.60, but an unframed print is allocated $3.36 of manufacturing overhead. This is not logical because a substantial portion of manufacturing overhead costs is dedicated to framing and matting prints. As a result, Greetings Inc. might end up selling framed prints at a price that is too low to cover its cost. Changing the way the overhead is allocated may improve the profit center’s performance.
LO3 BT: E Difficulty: Difficult TOT: 60 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources
CT15A.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) The manufacturing cost element that is responsible for the fluctuating unit costs is manufacturing overhead. Manufacturing overhead is being included as incurred rather than being applied on a predetermined basis. Direct materials and direct labor are not the cause as they have the same unit cost per batch in each quarter. (b) The solution is to apply overhead using a predetermined overhead rate based on a relevant basis of production activity. Based on actual overhead incurred and using batches of product TC-1 as the activity base, the overhead rate is $16,000 per batch [($105,000 + $153,000 + $97,000 + $125,000) ÷ 30]. Another approach would be to use direct labor cost as the relevant basis to apply overhead on a predetermined basis. For example, a rate of 133 1/3% of direct labor cost ($480,000 ÷ $360,000) could be used. Either approach will provide the same result. (c) The quarterly results using a predetermined overhead rate based on batches produced are as follows: Quarter Costs Direct materials Direct labor Manufacturing overhead Applied ($16,000 x batches) Total (a)
1 $100,000 60,000
2 $220,000 132,000
3 $ 80,000 48,000
4 $200,000 120,000
80,000 $240,000
176,000 $528,000
64,000 $192,000
160,000 $480,000
Production in batches (b)
5
11
4
10
$ 48,000
$ 48,000
$ 48,000
$ 48,000
Unit cost (per batch) (a) ÷ (b)
(Note: The unit cost of a batch remains the same in each quarter. Both sales and production should be pleased with this solution to fluctuating unit costs.) LO2, 3 BT: E Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CT15A.2
MANAGERIAL ANALYSIS
1.
Increase Work in Process Inventory and decrease Raw Materials Inventory.
2.
Increase Sales Bonus Expense and decrease Cash.
3.
Increase Factory Labor and increase Factory Wages Payable.
4.
Increase Manufacturing Overhead and decrease Raw Materials Inventory.
LO2, 3, 5 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA FC: Measurement, Analysis and Interpretation, Reporting AICPA PC: Communication IMA: Reporting & Control: Cost Accounting
CT15A.3
REAL-WORLD FOCUS
(a) Candidates for the CMA Certificate must complete two continuous years of professional experience in management accounting or financial management. (b) CMAs, and candidates who have completed the CMA examination, but have not yet met the experience requirement, are required to maintain their proficiency in the fields of management accounting and financial management. This includes knowledge of new concepts and techniques as well as their application in the management accounting and financial management professions. The objective is to maintain the professional competence of the individual and to enhance one’s ability to perform jobrelated requirements. Persons who have retired need not meet continuing education requirements. The continuing requirement is 30 hours per year and at least 2 of those hours must be ethics-related. A broad range of subjects may be included in the programs for which hours of credit will be given. The subjects should be related to the topics covered on the CMA examination and/or to an individual’s job responsibilities. Illustrative of the subjects that may qualify are: all aspects of accounting, financial management, business applications of mathematics and statistics, computer science, economics, management, production, marketing, business law, and organizational behavior. LO N/A BT: C Difficulty: Easy TOT: 20 min AACSB: Technology, Communication AICPA FC: Reporting AICPA PC: Communication IMA: None
CT15A.4
COMMUNICATION ACTIVITY
Williams Company Date Nancy Kopay 123 Cedar Lane Altoona, Kansas 66651 Dear Ms. Kopay: Thank you for your prompt payment! I am very glad that you found the cost information helpful. Thank you also for your questions about our overhead costs. We do try to provide our customers with as much information as possible, but we cannot give detailed information on overhead costs. You asked why we do not use actual overhead costs when we bill our customers. We estimate overhead costs, rather than use actual costs, for several reasons. One of the most important reasons for you is that we could not prepare bills in a timely manner if we had to use actual overhead. We would have to wait until we were billed for such things as electricity and telephone service. A second reason is that some costs we include in overhead are only payable once or twice a year, such as insurance and taxes. When we use an estimated rate, we are able to allow for those costs. A third reason is that some costs are fixed, which means that they stay the same in dollar amount from month to month. This category includes items such as rent. If we billed you based on our actual costs, you would be billed a higher amount if your work was done during a slow time (because we would have fewer jobs to spread the costs over). An estimated overhead rate allows us to level out these costs.
CT15A.4 (Continued) I hope this answers some of your questions. I’m glad you are interested in our company and that you took the time to write. I am sending a copy of our annual report under separate cover. It contains some details on the information you asked about. Thanks again for your letter and for having Williams make your new cabinets! Sincerely, Student LO3 BT: C Difficulty: Easy TOT: 20 min. AACSB: Communication AICPA FC: Measurement, Analysis and Interpretation, Reporting AICPA PC: Communication IMA: Reporting & Control: Cost Accounting
CT15A.5
ETHICS CASE
(a) The stakeholders in this situation are: ⯈ Alice Reiley, controller for LRF Printing. ⯈ The president of LRF Printing. ⯈ The customers of LRF Printing. ⯈ The competitors of LRF Printing. (b) Padding cost-plus contracts is both unethical and illegal. Alice is faced with an ethical dilemma. She will be in trouble with the president if she doesn’t follow his directive, and she will be committing an unethical act if she does follow his instructions. (c) Alice should continue to accurately account for cost-plus contracts and, if challenged by the president, she should say that she is doing her very best to charge each and every legitimate cost to the cost-plus contracts. Let the president perform the unethical act if he continues to persist in padding costs. LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Ethics AICPA FC: Reporting AICPA PC: Ethical Conduct, Communication IMA: Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT15A.6
ALL ABOUT YOU
The top 10 steps to starting a business are: 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Conduct market research. Write your business plan. Fund your business. Pick your business location. Choose a business structure. Choose your business name. Register your business. Get federal and state tax IDs. Apply for licenses and permits. Open a business bank account.
LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Technology AICPA FC: Reporting AICPA PC: Communication IMA: Business Acumen & Operations: Operational Knowledge
CT15A.7
CONSIDERING YOUR COSTS AND BENEFITS
Discussion guide: The situation presented is a difficult one because you are presently receiving some help for free. It would seem that the best strategy is to price your services based on what it would cost you to do the landscape business without any free help. In the long run, it is going to be impossible to continue unless you can cover these costs. In addition, if you underprice your services today, your customers may expect your prices will remain as low in the future. That probably cannot happen, given that your costs will increase substantially after the first two years. However, we should note that it is not unusual to start a small business with some assets available to you. Then, as your business grows, you acquire additional assets to meet your needs. After all, you may need a low price to get started, and as you gain experience you will be able to charge more or become more efficient. So what to do? Let’s address your old truck first. You should treat the truck as an asset owned by your business. Put it on your books at its fair value, and depreciate it over a reasonable life. This will result in an overhead charge. You need to cover the cost of that truck, as you will have to buy another one some day. The land, barn, and your mother’s services are a little more difficult. If you rented the land and barn and if you paid an assistant, all of these costs would be charged to overhead. (The assistant would be indirect labor.) You are currently getting all these services for free. This is a good situation now, and you may need this situation early in your business to help you get started. But you should recognize that even if you run your business profitably for the first two years, you may have problems beginning in the third year. Thus, it would seem prudent to establish a budget based on both scenarios for the first two years. If you can charge based on your expected costs in the future, do so. If that is not realistic, because you need to establish yourself and get more experience, then charge less. But be sure from the start to cover a reasonable amount of your costs, or the business does not make sense for you financially. LO2, 3, 4 BT: E Difficulty: Moderate TOT: 25 min. AACSB: Reflective Thinking, Communication AICPA FC: Measurement, Analysis and Interpretation, Reporting, AICPA PC: Communication IMA: Strategy, Planning & Performance: Strategic Cost Management, Business Acumen & Operations: Operational Knowledge
CHAPTER 16 Process Costing Learning Objectives 1.
Discuss the uses of a process cost system and how it compares to a job order cost system.
2.
Explain the flow of costs in a process cost system and the journal entries to assign manufacturing costs.
3.
Compute equivalent units of production.
4.
Complete the four steps to prepare a production cost report.
*5.
Compute equivalent units using the FIFO method.
*Note: All asterisked Brief Exercises, Exercises, and Problems relate to material contained in the appendix to the chapter.
ANSWERS TO QUESTIONS 1.
(a) (b) (c) (d)
Process cost Process cost Job order Job order
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
2.
The primary focus of job order cost accounting is on the individual job. In process cost accounting, the primary focus is on the processes involved in producing homogeneous products.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
3.
The similarities are: (1) all three manufacturing cost elements—direct materials, direct labor, and overhead—are tracked the same; (2) the accumulation of the costs of materials, labor, and overhead is the same; and (3) the flow of costs is the same.
LO 1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
4.
The features of process cost accounting are: (1) separate work in process accounts are maintained for each process, (2) production cost reports are produced periodically (typically monthly), (3) product costs are computed for each accounting period, and (4) unit costs are computed based on total manufacturing costs.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
5.
Sam is correct. The flow of costs is the same in process cost accounting as in job order cost accounting. The method of assigning costs, however, is significantly different.
LO 1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
6.
(a) (1) Materials are charged to production on the basis of materials requisition slips. (2) Labor is usually charged to production on the basis of the payroll register or departmental payroll summaries. (b) The criterion used in assigning overhead to processes is to identify the activity that “drives” or causes the cost. In many companies this activity is machine time, not direct labor.
LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
7.
The entry to assign overhead to production is: July 31
Work in Process—Machining .................................................... Work in Process—Assembly ..................................................... Manufacturing Overhead ...................................................
15,000 12,000 27,000
LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
8.
To prepare a production cost report, four steps are followed: (a) compute the physical unit flow, (b) compute equivalent units of production, (c) compute unit production costs, and (d) prepare a cost reconciliation schedule.
LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
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Questions Chapter 16 (Continued) 9.
Physical units to be accounted for consist of units in process at the beginning of the period plus units started (or transferred-in) into production during the period. Units accounted for consist of units completed and transferred out during the period plus units in process at the end of the period.
LO 4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
10.
Equivalent units of production measure the work done during the period, expressed in fully completed units.
LO 3 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
11. Equivalent units of production are the sum of: (1) units completed and transferred out and (2) equivalent units of ending work in process. LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12.
Units started into production were 9,600, or (9,000 + 600).
LO 3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
13. Units transferred out Work in process 500 X 100% 500 X 20% Total equivalent units
Equivalent Units Materials Conversion Costs 12,000 12,000 500 12,500
100 12,100
LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(Mat: 12,000 + 500 = 12,500); (CC: 12,000 + 100 = 12,100)] [(Mat.: Units transferred out + (units in end. WIP x % complete) = Equiv. units); (CC: Units transferred out + (units in end. WIP x % complete) = Equiv. units)]
14. Units transferred out were 3,200* Units to be accounted for Work in process (beginning) Started into production Total units to be accounted for Units accounted for Completed and transferred out Work in process (ending) Total units accounted for *3,500 – 300
500 3,000 3,500 3,200* 300 3,500
LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(500 + 3,000 = 3,500); (3,500 – 300 = 3,200)] [(Beg. WIP units + Units started into production = Tot. units acct’d. for); (Tot. units acct’d. for – End. WIP units = Units transferred out)]
15.
(a) (b)
The cost of the units transferred out is $112,000, or (14,000 × $8). The cost of the units in ending inventory is $8,500, or [(2,000 × $3) + (500 × $5)].
[(2,000 x $3) + ((2,000 x 25%) x $5) = $8,500] [(DM equiv. units x Cost/unit) + ((CC units in end. WIP x % complete) x Cost/unit) = Cost of end WIP] LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 16 (Continued) 16.
(a) (b)
Ann is incorrect. The report is an internal report for management. There are four sections in a production cost report: (1) physical unit flow, (2) equivalent units of production, (3) unit production costs, and (4) cost reconciliation schedule.
LO 4 BT: K Difficulty: Easy TOT: 3 min. AACSB: Kowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
17. The production cost report provides the basis for evaluating: (1) the productivity of a department, (2) whether unit and total costs are reasonable, and (3) whether current performance is meeting planned objectives. LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
18. The per unit conversion cost is $11.25. [Conversion costs = $6,000 – $2,400 = $3,600. Equivalent units for conversion costs are 320 (800 × 40%); $3,600 ÷ 320 = $11.25.] LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [($6,000 – (800 x $3) = $3,600); (800 x 40% = 320); ($3,600 ÷ 320 = $11.25)] [(Tot. assigned cost – (Units in end. WIP x DM cost/unit) = CC); (Units in end. WIP x % completed = Equiv. units); (CC ÷ Equiv. units = CC/equiv. unit)]
19. Operations costing is similar to process costing in that standardized methods are used to manufacture the product. At the same time, the product may have some customized individual features that require the use of a job order cost system. LO 4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
20. In deciding which system to use, a cost-benefit tradeoff occurs. In a job order system, detailed information related to the cost of the product is involved. The cost of implementing this system is often expensive. In a process cost system, an average cost of the product will suffice and therefore the cost to implement is less. In summary, the cost of implementing the system must be balanced against the benefits provided from the additional information. LO 1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*21. Units transferred out were 2,800 (2,000 + 800). LO 5 BT: AP Difficulty: Easy TOT: 1 AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting (2,000 + 800 = 2,800) (Units started & compltd. + Units in beg. WIP = Units trans. Out)
*22. (a)
The cost of the units transferred out is $120,000 (12,000 × ($3 + $7)).
[12,000 x ($3 + $7) = $120,000] [Units transferred out x (DM cost/unit + CC/unit) = Cost of units transferred out]
(b)
The cost of the units in ending inventory is $9,500 [(2,000 × $3) + (500 × $7)].
[(2,000 x $3) + ((2,000 x 25%) x $7) = $9,500] [Equiv. units in end. WIP x DM/unit) + ((Units in end. WIP x % complete) x CC/unit) = Cost of units in end. WIP] LO 5 BT: AP Difficulty: Easy TOT: 3 AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 16.1 Mar. 31 31
Raw Materials Inventory .................................. Accounts Payable.....................................
50,000
Factory Labor ................................................... Wages Payable .........................................
60,000
50,000 60,000
LO 2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16.2 Mar. 31
31
Work in Process—Assembly Department ...... Work in Process—Finishing Department ....... Raw Materials Inventory...........................
24,000 26,000
Work in Process—Assembly Department ...... Work in Process—Finishing Department ....... Factory Labor ...........................................
35,000 25,000
50,000
60,000
LO 2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16.3 Mar. 31
Work in Process—Assembly Department ($35,000 × 160%) .......................................... Work in Process—Finishing Department ($25,000 × 160%) .......................................... Manufacturing Overhead .........................
56,000 40,000 96,000
LO 2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16.4
January March July a. b. c.
Materials 45,000 (35,000 + 10,000) 48,000 (40,000 + 8,000) 61,000 (45,000 + 16,000) 10,000 × 40% 8,000 × 75% 16,000 × 25%
Conversion Costs 39,000 (35,000 + 4,000a) 46,000 (40,000 + 6,000b) 49,000 (45,000 + 4,000c)
BRIEF EXERCISE 16.4 (Continued) LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(Jan. CC: 35,000 + (10,000 x 40%) = 39,000); (Mar. CC: 40,000 + (8,000 x 75%) = 46,000); (Jul. CC: 45,000 + (16,000 x 25%) = 49,000)] [(Jan. CC: Units transferred out + (End. WIP units x % complete) = Equiv. units); (Mar. CC: Units transferred out + (End. WIP units x % complete) = Equiv. units); (Jul. CC: Units transferred out + (End. WIP units x % complete) = Equiv. units)]
BRIEF EXERCISE 16.5
Units transferred out Work in process, November 30 Materials (7,000 × 100%) Conversion costs (7,000 × 40%) Total equivalent units
(a) Materials 9,000
(b) Conversion Costs 9,000
7,000 16,000
2,800 11,800
LO 3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [CC: 9,000 + (7,000 x 40%) = 11,800] [CC: Units transferred out + (End. EIP units x % complete) = Equiv. units]
BRIEF EXERCISE 16.6 Total materials costs $33,000 Total conversion costs $54,000 Unit materials cost $3.30
÷
Equivalent units of materials 10,000
÷
Equivalent units of conversion costs 12,000
+
Unit conversion cost $4.50
=
Unit materials cost $3.30
=
Unit conversion cost $4.50
=
Total manufacturing cost per unit $7.80
LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16.7 Assignment of Costs
Equivalent Units
Transferred out Transferred out Work in process, 4/30 Materials Conversion costs Total costs
Unit Cost
40,000
×
$11
5,000 2,000*
× ×
$ 4 $ 7
Total
Costs $440,000
$20,000 14,000
34,000 $474,000
*(5,000 × 40%) LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(40,000 x ($4 + $7) = $440,000); (((5,000 x $4) + ((5,000 x 40%) x $7)) = $34,000); ($440,000 + $34,000 = $474,000)] [(Units transferred out x (DM cost/unit + CC/unit) = Transferred out costs); (((End. WIP units x DM cost/unit) + ((End. WIP units x % complete) x CC/unit)) = End. WIP costs); (Transferred out costs + End. WIP costs = Tot. costs)]
BRIEF EXERCISE 16.8 Total materials costs $12,000 Total conversion costs $47,500*
÷
Equivalent units of materials 20,000
÷
Equivalent units of conversion costs 19,000
=
Unit materials cost $0.60
=
Unit conversion cost $2.50
*$29,500 + $18,000 LO 4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16.9 Costs accounted for Transferred out Work in process Materials Conversion costs Total costs *$0.60 + $2.50
(18,000 × $3.10*) (2,000 × $0.60) (1,000** × $2.50)
$55,800 $1,200 2,500
3,700 $59,500
**2,000 × 50%
LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(18,000 x ($.60 + $2.50) = $55,800); (((2,000 x $.60) + ((2,000 x 50%) x $2.50)) = $3,700); ($55,800 + $3,700 = $59,500)] [(Units transferred out x (DM cost/unit + CC/unit) = Transferred out costs); (((End. WIP units x DM cost/unit) + ((End. WIP units x % complete) x CC/unit)) = End. WIP costs); (Transferred out costs + End. WIP costs = Tot. costs)]
*BRIEF EXERCISE 16.10 Costs to Be Assigned Assignment of Costs
Equivalent Units
Unit Cost
Total Costs Assigned
Transferred out Work in process, 3/1 Started and completed
0 30,000
$ 0 $16
$
Work in process, 3/31 Materials Conversion costs
5,000 2,000
$ 6 $10
0 480,000 480,000
$530,000 $ 30,000 20,000
50,000 $530,000
LO 5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(30,000 x ($6 + $10) = $480,000); (((5,000 x 100%) x $6) + ((5,000 x 40%) x $10) = $50,000); ($480,000 + $50,000 = $530,000)] [(Units started & compltd. x (DM cost/unit + CC/unit) = Cost of units transfrd. out); (((Units in End. WIP x % complete) x DM cost/unit) + ((Units in end. WIP x % complete) x CC/unit) = Cost of units in end. WIP); (Cost of units transfrd. out + Cost of units in end. WIP = Tot. costs)]
*BRIEF EXERCISE 16.11 Equivalent Units Conversion Materials Costs Units accounted for Completed and transferred out Work in process, March 1 Started and completed Work in process, March 31 Total units
-030,000 5,000 35,000
-030,000 2,000 32,000
[(Mat.: 0 + 30,000 + (5,000 x 100%) = 35,000); (CC: 0 + 30,000 + (5,000 x 40%) = 32,000)] [(Mat.: Units in Beg. WIP + Units started & compltd. + (Units in end. WIP x % compltd.) = Tot. equiv. units); (CC: Units in Beg. WIP + Units started & compltd. + (Units in end. WIP x % compltd.) = Tot. equiv. units)]
*BRIEF EXERCISE 16.11 (Continued) PIX COMPANY Production Cost Report (Partial) For the Month Ended March 31, 2025 Direct Materials Unit costs Total costs (a) Equivalent units (b) Unit costs (a) ÷ (b) Costs to be accounted for In process, March 1 Started into production Total costs Costs accounted for Transferred out In process, March 1 Started and completed (30,000 units × $16) In process, March 31 Materials (5,000 × $6) Conversion costs (2,000 × $10) Total costs
$210,000* 35,000 $ 6
Conversion Costs
Total
$320,000** $530,000 32,000 $ 10 $ 16 $
0 530,000 $530,000
$
0 480,000
$ 30,000 20,000
50,000 $530,000
*35,000 equivalent units × $6 per unit **32,000 equivalent units × $10 per unit [(Mat.: 35,000 x $6 = $210,000); (CC: 32,000 x $10 = $320,000); ($210,000 + $320,000 = $530,000)] [(Mat.: Tot. mat. equiv. units x Mat. cost/unit = Tot. mat. costs); (CC: Tot. CC equiv. units x CC/unit = Tot. CC); (Tot. mat. costs + Tot. CC = Tot. costs to be acctd. for)] LO 5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS FOR DO IT! EXERCISES DO IT! 16.1 1. 2. 3. 4.
False False True False
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 16.2 Work in Process—Mixing................................................... Work in Process—Packaging ............................................ Raw Materials Inventory ............................................. (To record direct materials used)
10,000 28,000
Work in Process—Mixing................................................... Work in Process—Packaging ............................................ Factory Labor.............................................................. (To assign direct labor to production)
8,000 36,000
Work in Process—Mixing................................................... Work in Process—Packaging ............................................ Manufacturing Overhead............................................ (To assign overhead to production)
12,000 54,000
Work in Process—Packaging ............................................ Work in Process—Mixing ........................................... (To record transfer of units to the Packaging Department)
21,000
38,000
44,000
66,000
Finished Goods Inventory .................................................... 106,000 Work in Process—Packaging .................................... (To record transfer of units to finished goods)
21,000
106,000
LO 2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 16.3 (a) Since materials are entered at the beginning of the process, the equivalent units of ending work in process are 10,000. 20,000 units + 10,000 units = 30,000 equivalent units of production for materials. (b) Since ending work in process is only 70% complete as to conversion costs, the equivalent units of ending work in process for conversion costs are 7,000 (70% × 10,000 units). 20,000 units + 7,000 units = 27,000 equivalent units of production for conversion costs. LO 3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 16.4 (a) 0 (Work in process, March 1) + 26,000* (Started into production) = 26,000 *22,000 + 4,000 (0 + (22,000 + 4,000) = 26,000) (Beg. WIP units + Units started into production = Units to acct. for)
(b) Equivalent units of production: Materials Conversion Units completed & transferred out 22,000 22,000 Work in process, March 31 ....... 4,000 1,600 (4,000 × 40%) Total............................................ 26,000 23,600 (c) Cost reconciliation schedule Costs accounted for Completed and transferred out (22,000 × $18).......................... $396,000 Work in process, March 31 Materials (4,000 × $10) ......................$40,000 Conversion costs (1,600 × $8) ..... 12,800 52,800 Total costs ................................................. $448,800 [(22,000 x ($10 + $8) = $396,000); ((4,000 x $10) + (1,600 x $8) = $52,800); ($396,000 + $52,800 = $448,800)] [(Units transferred out x (DM cost/unit + CC/unit) = Transferred out costs); (((End. WIP units x DM cost/unit) + ((End. WIP units x % complete) x CC/unit)) = End. WIP costs); (Transferred out costs + End. WIP costs = Tot. costs)] LO 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO EXERCISES EXERCISE 16.1 1. True. 2. True. 3. False. Companies that produce soft drinks and computer chips would use process cost accounting. Companies that produce movies would use a job order cost system. 4. False. In a job order cost system, costs are tracked by individual jobs. 5. False. Job order costing and process costing track the same three manufacturing cost components. 6. True. 7. True. 8. False. In a process cost system, multiple work in process accounts are used. 9. False. In a process cost system, costs are summarized in a production cost report for each department. 10. True. LO 1 BT: C Difficulty: Easy TOT: 8 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16.2 April 30
30
30
30
Work in Process—Cooking....................... Work in Process—Canning............................... Raw Materials Inventory ...........................
21,000 9,000
Work in Process—Cooking............................... Work in Process—Canning............................... Factory Labor ............................................
8,500 7,000
Work in Process—Cooking............................... Work in Process—Canning............................... Manufacturing Overhead ..........................
31,500 25,800
Work in Process—Canning............................... Work in Process—Cooking.......................
53,000
30,000
15,500
57,300
LO 2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
53,000
EXERCISE 16.3 (a) Work in process, May 1 Started into production Total units to be accounted for Less: Completed and transferred out Work in process, May 31
400 1,600 2,000 1,700 300
[(400 + 1,600) – 1,700 = 300] [(Beg. WIP + Started into production) – Transferred out = End. WIP]
(b) and (c) Units completed and transferred out Work in process, May 31 300 × 100% 300 × 40%
Work in process, May 1 Costs added Total costs Equivalent units Unit costs [(a) (b)]
Equivalent Units Materials Conversion Costs 1,700 1,700 300 2,000
120 1,820
Materials $2,040 5,160 (a) $7,200 (b) 2,000 $3.60
Conversion Costs $1,550 3,910* $5,460 1,820 $3.00
*$2,530 + $1,380 [(DM: ($2,040 + $5,160) ÷ (1,700 + 300) = $3.60); (CC: ($1,550 + ($2,530 + $1,380)) ÷ (1,700 + (300 x 40%)) = $3.00)] [(DM: (Beg. WIP costs + DM costs added) ÷ (Units transferred out + Units in end. WIP) = DM cost/unit); (CC: (Beg. WIP costs + (DL + OH costs added)) ÷ (Units transferred out + Equiv. units in end. WIP) = CC/unit)]
(d) Completed and transferred out (1,700 × $6.60) (e) Work in process Materials (300 × $3.60) Conversion costs (120 × $3.00)
$11,220 $ 1,080 360 $ 1,440
LO 2, 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16.4 1. 2. 3.
4.
5.
6.
7. 8. 9.
Raw Materials Inventory .......................................... Accounts Payable ............................................
62,500
Factory Labor........................................................... Wages Payable .................................................
60,000
Manufacturing Overhead......................................... Cash .................................................................. Accounts Payable ............................................
70,000
Work in Process—Cutting....................................... Work in Process—Assembly .................................. Raw Materials Inventory ..................................
15,700 8,900
Work in Process—Cutting....................................... Work in Process—Assembly .................................. Factory Labor ...................................................
33,000 27,000
Work in Process—Cutting (1,680 × $18)................. Work in Process—Assembly (1,720 × $18) ............ Manufacturing Overhead .................................
30,240 30,960
Work in Process—Assembly .................................. Work in Process—Cutting ...............................
67,600
Finished Goods Inventory....................................... Work in Process—Assembly ...........................
134,900
Cost of Goods Sold ................................................. Finished Goods Inventory ...............................
150,000
Accounts Receivable............................................... Sales Revenue..................................................
200,000
62,500 60,000 40,000 30,000
24,600
60,000
61,200
67,600 134,900 150,000
LO 2 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
200,000
EXERCISE 16.5 (a)
January
May
Units to be accounted for Beginning work in process Started into production Total units
0 13,000 13,000
0 21,000 21,000
Units accounted for Transferred out Ending work in process Total units
11,000 2,000 13,000
14,000 7,000 21,000
[(Jan: (0 + 13,000) = (11,000 + (13,000 – 11,000)); (May: (0 + 21,000) = (14,000 + (21,000 – 14,000)] [(Jan: (Beg. WIP + Started into production) = (Transferred out + (Tot. units – Transferred out); (May: (Beg. WIP + Started into production) = (Transferred out + (Tot. units – Transferred out)]
(b)
(1) January March May July
Materials 13,000 (11,000 + 2,000) 15,000 (12,000 + 3,000) 21,000 (14,000 + 7,000) 11,500 (10,000 + 1,500)
(2)
Conversion Costs 12,200 (11,000 + 1,200) 12,900 (12,000 + 900) 19,600 (14,000 + 5,600) 10,600 (10,000 + 600)
[Jan. (DM: 11,000 + (2,000 x 100%) = 13,000); (CC: 11,000 + (2,000 x 60%) = 12,200)] [Jan. (DM: Units transferred out + (Units in end. WIP x % complete) = Equiv. units); (CC: Units transferred out + (Units in end. WIP x % complete) = Equiv. units)] LO 3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16.6 (a) Units completed and transferred out Work in process, July 31 3,000 × 100% 3,000 × 60% T otal equivalent units
(1) Materials
(2) Conversion Costs
12,000
12,000
3,000 15,000
1,800 13,800
(b) Materials: $45,000 ÷ 15,000 = $3.00 Conversion costs: ($16,200 + $18,300) ÷ 13,800 = $2.50 [(DM: $45,000 ÷ (12,000 + 3,000) = $3.00); (CC: ($16,200 + $18,300) ÷ (12,000 + (3,000 x 60%)) = $2.50)] [(DM: DM costs ÷ (Units transferred out + Units in end. WIP) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete) = CC/unit)]
EXERCISE 16.6 (Continued) Costs accounted for Completed and Transferred out (12,000 × $5.50) Work in process, July 31 Materials (3,000 × $3.00) Conversion costs (1,800 × $2.50) Total costs
$66,000 $9,000 4,500
13,500 $79,500
LO 3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16.7 QUIK FURNITURE COMPANY Sanding Department Production Cost Report For the Month Ended March 31, 2025
Quantities
Physical Units
Units to be accounted for Work in process, March 1 Started into production Total units
0 10,000 10,000
Units accounted for Completed and Transferred out Work in process, March 31 Total units
7,000 3,000 10,000
Unit costs Unit costs Total cost Equivalent units Unit costs [(a) ÷ (b)]
Equivalent Units Conversion Materials Costs
7,000 3,000 10,000
7,000 600 7,600
Materials
Conversion Costs
(a) $33,000 (b) 10,000 $3.30
$57,000* 7,600 $7.50
Cost Reconciliation Schedule Costs to be accounted for Work in process, March 1 Started into production Total costs Costs accounted for Completed and transferred out (7,000 × $10.80) Work in process, March 31 Materials (3,000 × $3.30) Conversion costs (600 × $7.50) Total costs
(3,000 × 20%)
Total $90,000 $10.80
$
0 90,000 $90,000
$75,600 $9,900 4,500
14,400 $90,000
*$21,000 + $36,000 LO 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting [(DM: $33,000 ÷ (7,000 + 3,000) = $3.30); (CC: ($21,000 + $36,000) ÷ (7,000 + (3,000 x 20%)) = $7.50)] [(DM: DM costs ÷ (Units transferred out + Units in end. WIP) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete) = CC/unit)]
EXERCISE 16.8 (a)
(1)
Units completed and transferred out Work in process, April 30 1,000 × 100% 1,000 × 40% Equivalent units of production (b) Total cost Equivalent units Unit costs (1) (2)
Materials $900,000(1) 18,000 $ 50
Materials
(2) Conversion Costs
17,000
17,000
1,000 400 17,400
18,000 Conversion Costs $435,000(2) 17,400 $ 25
Total $1,335,000 $
75
$100,000 + $800,000 $ 70,000 + $365,000
[(DM: ($100,000 + $800,000) ÷ (17,000 + 1,000) = $50); (CC: ($70,000 + $365,000) ÷ (17,000 + (1,000 x 40%)) = $25)] [(DM: (DM costs in beg. WIP + DM costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: CC in beg. WIP + CC costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
(c) Completed and transferred out (17,000 × $75) Work in process Materials (1,000 × $50) Conversion costs (400 × $25) Total costs
$1,275,000 $50,000 10,000
60,000 $1,335,000
LO 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16.9 (a) Materials: 30,000* + 6,000 = 36,000 Conversion costs: 30,000* + (6,000 × 40%) = 32,400 *36,000 – 6,000 (b) Materials: $72,000/36,000 = $2.00 Conversion costs: ($61,000 + $101,000)/32,400 = $5.00 [(DM: $72,000 ÷ (30,000 + 6,000) = $2); (CC: ($61,000 + $101,000) ÷ (30,000 + (6,000 x 40%)) = $5)]
EXERCISE 16.9 (Continued) [(DM: DM costs ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
(c) Completed and Transferred out: 30,000 × ($5.00 + $2.00) = Ending work in process: Materials (6,000 × $2.00) Conversion costs (2,400 × $5.00) Total
$210,000
= =
$12,000 12,000 $24,000
LO 3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Cost Management
EXERCISE 16.10 (a) Beginning work in process Units started into production Units to account for Units completed and transferred out Ending work in process Units accounted for *(20,000 + 164,000) – 24,000
Physical Units 20,000 164,000 184,000
160,000* 24,000 184,000
(b) Costs incurred Equivalent units Unit costs
Materials $101,200 184,000 $0.55
Equivalent Units
Conversion Materials Costs 160,000 24,000 184,000
160,000 14,400 (60% × 24,000) 174,400
Conversion Costs $348,800 174,400 $2.00
Total $450,000 $2.55
[(DM: $101,200 ÷ (160,000 + 24,000) = $0.55); (CC: ($164,800 + $184,000) ÷ (160,000 + (24,000 x 60%)) = $2.00)] [(DM: DM costs ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
(c) Assignment of costs: Completed and Transferred out (160,000 × $2.55) Ending work in process Materials (24,000 × $0.55) Conversion costs (14,400 × $2.00) Total costs
$408,000 $13,200 28,800
42,000 $450,000
LO 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 16.11 (a)
Physical Units 1,600 42,900 44,500
Work in process, September 1 Units started into production Units to account for Units completed and transferred out (1,600 + 42,900) – 5000 Work in process, September 30 Units accounted for
Units completed and transferred out Work in process 5,000 × 100% 5,000 × 10% (b)
39,500 5,000 44,500 Equivalent Units Materials Conversion Costs 39,500 39,500 5,000 500 40,000
44,500 Materials
Work in process, September 1 Direct materials Costs added to production during September Total materials cost
$ 20,000 175,800 $195,800
$195,800 ÷ 44,500 = $4.40 (Materials cost per unit) Conversion Costs Work in process, September 1 Conversion costs $ 43,180 Costs added to production during September Conversion costs 382,820 ($125,680 + $257,140) $426,000 Total conversion costs $426,000 ÷ 40,000 = $10.65 (Conversion cost per unit) [(DM: ($20,000 + $175,800) ÷ (39,500 + 5,000) = $4.40); (CC: ($43,180 + ($125,680 + $257,140)) ÷ (39,500 + (5,000 x 10%)) = $10.65)]
EXERCISE 16.12 (Continued) [(DM: (DM costs in beg. WIP + DM costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (CC in beg. WIP + (DL + OH costs added)) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
(c) Costs accounted for Completed and transferred out (39,500 × ($4.40 + $10.65)) Work in process, September 30 Materials (5,000 × $4.40) Conversion costs (500 × $10.65) Total costs
$594,475 $22,000 5,325
27,325 $621,800
LO 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 16.12 To: From: Re:
David Skaros Student Ending inventory
The reason for any confusion related to your department’s ending inventory quantity stems from the fact that the quantity can be measured in two different ways, depending on what the information is used for. The ending inventory quantity can be measured in physical units or equivalent units. Physical units are actual units present without regard to the stage of completion. Your department’s ending inventory in physical units is at least double the amount reported as equivalent units. Equivalent units measure the work done on the physical units, expressed in terms of fully completed units. Therefore, if your ending inventory contains 4,000 units which are 50% complete, that is equivalent to having 2,000 completed units at month end. Therefore, the ending inventory could be expressed as containing 4,000 physical units or 2,000 equivalent units. I hope this clears up any misunderstandings. Please contact me if you have any further questions. LO 4 BT: S Difficulty: Moderate TOT: 12 min. AACSB: Communication AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 16.13 HEALTHY COMPANY Welding Department Production Cost Report For the Month Ended February 28, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, February 1 Started into production Total units
15,000 51,000 66,000
Units accounted for Completed and transferred out Work in process, February 28 Total units
55,000 11,000 66,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
55,000 11,000 66,000
55,000 2,200 57,200
Materials
Conversion Costs
(1)
(a) $198,000 (b) 66,000 $3.00
$143,000(2) 57,200 $2.50
Costs to be accounted for Work in process, February 1 Started into production(3) Total costs
(11,000 × 20%)
Total $341,000 $5.50
$ 32,175 308,825 $341,000
Cost Reconciliation Schedule (Step 4) Costs accounted for Completed and Transferred out (55,000 × $5.50) Work in process, February 28 Materials (11,000 × $3.00) Conversion costs (2,200 × $2.50) Total costs
$302,500 $33,000 5,500
38,500 $341,000
(1)
$18,000 + $180,000 $14,175 + $67,380 + $61,445 (3) $180,000 + $67,380 + $61,445 (2)
LO 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting [(DM: ($18,000 + $180,000) ÷ (55,000 + 11,000) = $3.00); (CC: ($14,175 + $67,380 + $61,445) ÷ (55,000 + (11,000 x 20%)) = $2.50)]
EXERCISE 16.14 (Continued) [(DM: (DM costs in beg. WIP + DM costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (CC in beg. WIP + (DL + OH costs added)) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
*EXERCISE 16.14 (a) (1) Materials: Production Data
Physical Units
Materials Added This Period
Equivalent Units
Work in process, August 1 Started and completed Work in process, August 31 Total
0 10,000 2,000 12,000
0 100% 100%
0 10,000 2,000 12,000
[0 + (10,000 x 100%) + (2,000 x 100%) = 12,000] [Units in beg. WIP + (Units started & compltd. x % compltd.) + (Units in end. WIP x % compltd.) = Tot. equiv. units]
(2) Conversion Costs: Production Data
Physical Units
Work Added This Period
Equivalent Units
Work in process, August 1 Started and completed Work in process, August 31 Total
0 10,000 2,000 12,000
0 100% 40%
0 10,000 800 10,800
[0 + (10,000 x 100%) + (2,000 x 40%) = 10,800] [Units in beg. WIP + (Units started & compltd. x % compltd.) + (Units in end. WIP x % compltd.) = Tot. equiv. units]
(b) Unit costs are: Materials Conversion costs Total
$45,000 ÷ 12,000 = $3.75 $29,700* ÷ 10,800 = 2.75 $6.50
*$13,600 + $16,100 [(Mat.: $45,000 ÷ 12,000 = $3.75); (CC: ($13,600 + $16,100) ÷ 10,800 = $2.75)] [(Mat.: DM costs ÷ Mat. equiv. units = DM/unit); (CC: (Labor +OH) ÷ CC equiv. units = CC/unit)]
*EXERCISE 16.14 (Continued) Costs to Be Assigned
Assignment of Costs
Equivalent Units
Total mfg. costs Completed and transferred out Work in process, August 1 0 $74,700 (1) Started and completed 10,000 Work in process, August 31 Materials Conversion costs
2,000 800
Unit Cost
Total Costs Assigned
$ 0 $6.50
$
0 65,000
$3.75 $2.75
$ 7,500 2,200
$65,000
9,700 $74,700
(1) $45,000 + $13,600 + $16,100. LO 5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16.15 (a) (1) Materials Work in process, September 1 Started and completed Work in process, September 30 Total
Physical Units
Materials Added This Period
Equivalent Units
2,000 9,000
0% 100%
0 9,000
1,000 12,000
100%
1,000 10,000
[0 + (9,000 x 100%) + (1,000 x 100%) = 10,000] [Beg. WIP + (Units started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. mat. equiv. units]
(2) Conversion Costs Work in process, September 1 Started and completed Work in process, September 30 Total
Physical Units
Work Added This Period
Equivalent Units
2,000 9,000
80% 100%
1,600 9,000
1,000 12,000
40%
400 11,000
[(2,000 x 80%) + (9,000 x 100%) + (1,000 x 40%) = 11,000] [(Beg. WIP x % compltd.) + (Units started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. CC equiv. units]
(b) Materials Conversion costs
$ 60,000 ÷ 10,000 = $ 6 $132,000 ÷ 11,000 = 12 $18
[(Mat.: $60,000 ÷ 10,000 = $6); (CC: $132,000 ÷ 11,000 = $12)] [(Mat.: [(DM costs ÷ Mat. equiv. units = DM/unit); (CC: CC ÷ CC equiv. units = CC/unit)]
*EXERCISE 16.15 (Continued) (c)
Costs to Be Assigned Total mfg. costs
$207,200*
Assignment of Costs
Equivalent Units
Completed & transferred out Work in process, 9/1 0 Conversion costs 1,600 Started and completed 9,000 Total costs transferred out Work in process, 9/30 Materials 1,000 Conversion costs 400 Total costs
Unit Cost
Total Costs Assigned
$ 0 $12 $18
$15,200 19,200
$ 6 $12
$6,000 4,800
$ 34,400 162,000 196,400
10,800 $207,200
*Work in process, September 1, $15,200 + materials costs $60,000 + labor and overhead costs $132,000. LO 5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16.16 (a) Work in process, March 1 800 Started into production 1,100 Total units to be accounted for 1,900 Less: Completed & transferred out 1,500 Work in process, March 31 400 (b) Materials: Physical Materials Added Production Data Units This Period Work in process, March 1 800 0 Started and completed 700 100% Work in process, March 31 400 100% Total 1,900
Equivalent Units 0 700 400 1,100
Unit cost = $6,600 ÷ 1,100 = $6.00. [(800 x 0%) + (700 x 100%) + (400 x 100%) = 1,100); ($6,600 ÷ 1,100 = $6.00)] [(Beg. WIP x % compltd.) + (Started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. Mat. equiv. units); (Mat. costs ÷ Mat. equiv. units = Mat. cost/unit)]
*EXERCISE 16.16 (Continued) (c) Conversion costs: Physical Production Data Units Work in process, March 1 800 700 Started and completed 400 Work in process, March 31 Total 1,900
Work Added This Period 70% 100% 40%
Equivalent Units 560 700 160 1,420
Unit cost = $2,400 + $1,150 = $3,550 ÷ 1,420 = $2.50. [(800 x 70%) + (700 x 100%) + (400 x 40%) = 1,420); (($2,400 + $1,150) ÷ 1,420 = $2.50)] [(Beg. inv. x % compltd.) + (Started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. CC equiv. units); ((Labor + OH costs) ÷ CC equiv. units = CC/unit)]
(d) In process, March 1 ......................................................... Conversion costs (560 × $2.50)....................................... Total cost..........................................................................
$3,680 1,400 $5,080
[$3,680 + (560 x $2.50) = $5,080] [Beg. WIP costs + (Equiv. units added x CC/unit) = Tot. cost]
(e) 700 × ($6.00 + $2.50) = $5,950.
(f)
Materials (400 × $6.00) ..................................................... Conversion costs (160 × $2.50)....................................... Total cost of work in process, March 31 ........................
$2,400 400 $2,800
LO 5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16.17 MAJESTIC COMPANY Welding Department Production Cost Report For the Month Ended February 28, 2025
Quantities
Equivalent Units Conversion Materials Costs (Step 2)
Physical Units (Step 1)
Units to be accounted for Work in process, February 1 Started into production Total units
15,000 64,000 79,000
Units accounted for Completed and transferred out Work in process, February 1 Started and completed Total Work in process, February 28 Total units
15,000 39,000* 54,000 25,000 79,000
0 39,000 39,000 25,000 64,000
13,500 (15,000 X 90%) 39,000 52,500 5,000 (25,000 X 20%) 57,500
*(64,000 – 25,000) [(Mat.: 0 + (39,000 x 100%) + (25,000 x 100%) = 64,000); (CC: (15,000 x 90%) + (39,000 x 100%) + (25,000 x 20%) = 57,500)] [(Mat.: Beg. WIP + (Started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. equiv. units); (CC: (beg. WIP x % compltd.) + (Started & compltd. x % comptd.) + (End. WIP x % compltd.) = Tot. equiv. units)]
Costs Unit costs (Step 3) Costs in February Equivalent units Unit costs (a) ÷ (b) Cost Reconciliation Schedule Costs to be accounted for Work in process, February 1 Started into production Total costs
(a) (b)
Materials
Conversion Costs
$192,000 64,000 $3.00
$103,500 * 57,500 $1.80
Total $295,500 $4.80
$ 32,175 295,500 $327,675
[(Mat.: ($57,000 + $135,000) ÷ 64,000 = $3.00); (CC: ($35,100 + $68,400) ÷ 57,500 = $1.80); ($32,175 + ($192,000 + $103,500) = $327,675)] [(Mat.: Mat. costs + Transfrd. in costs) ÷ Equiv. units = Mat. cost/unit); (CC: (Labor + OH costs) ÷ Equiv. units = CC/unit); (Beg. WIP costs + (Mat. costs added + CC added) = Tot. costs to be acctd. for)]
*EXERCISE 16.17 (Continued) Costs accounted for (Step 4) Transferred out Work in process, February 1 Costs to complete beginning work in process Conversion costs (13,500 × $1.80) Total costs Units started and completed (39,000 × $4.80) Total costs completed & transferred out Work in process, February 28 Materials (25,000 × $3.00) Conversion costs (5,000 × $1.80) Total costs
$32,175
24,300 $ 56,475 187,200 $243,675 75,000 9,000
84,000 $327,675
(*) Labor $35,100 plus overhead $68,400. LO 5 BT: AP Difficulty: Moderate TOT:20 AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO PROBLEMS PROBLEM 16.1
1. 2.
3. 4.
5. 6.
7. 8. 9.
Raw Materials Inventory.................................. Accounts Payable ....................................
300,000
Work in Process—Mixing................................ Work in Process—Packaging ......................... Raw Materials Inventory ..........................
210,000 45,000
Factory Labor................................................... Wages Payable .........................................
278,900
Work in Process—Mixing................................ Work in Process—Packaging ......................... Factory Labor ...........................................
182,500 96,400
Manufacturing Overhead................................. Accounts Payable ....................................
810,000
Work in Process—Mixing (28,000 × $23)........ Work in Process—Packaging (6,000 × $23) ................................................. Manufacturing Overhead .........................
644,000
300,000
255,000 278,900
278,900
810,000
138,000 782,000
Work in Process—Packaging ......................... Work in Process—Mixing ........................
979,000
Finished Goods Inventory............................... Work in Process—Packaging..................
1,315,000
Accounts Receivable....................................... Sales Revenue..........................................
2,500,000
Cost of Goods Sold ......................................... Finished Goods Inventory .......................
1,604,000
979,000 1,315,000 2,500,000 1,604,000
LO 2 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 16.2 (a) Physical units Units to be accounted for Work in process, June 1 Started into production Total units Units accounted for Completed & transferred out Work in process, June 30 Total units
0 22,000 22,000
20,000 2,000 22,000
(b) Equivalent units Units transferred out Work in process, June 30 2,000 × 100% 2,000 × 40% Total equivalent units
Materials 20,000
Conversion Costs 20,000
2,000 22,000
800 20,800
[(Mat.: 20,000 + (2,000 x 100%) = 22,000); (CC: 20,000 + (2,000 x 40%) = 20,800)] [(Mat.: Units transfrd. out + (End. WIP units x % compltd.) = Tot. equiv. units); (CC: Units transfrd. out + (End. WIP units x % compltd.) = Tot. equiv. units)]
(c) Materials Conversion costs Total unit cost
Unit Costs $9.00 ($198,000 ÷ 22,000) $8.00 ($166,400* ÷ 20,800) $17.00 ($9.00 + $8.00)
*$53,600 + $112,800 [(Mat.: $198,000 ÷ 22,000 = $9); (CC: ($53,600 + $112,800) ÷ 20,800 = $8); ($9 + $8 = $17)] [(Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit); (CC: (Labor + OH costs) ÷ CC equiv. units = CC/unit); (DM cost/unit + CC/unit = Cost/compltd. unit)]
(d) Costs accounted for Completed & transferred out (20,000 × $17.00) Work in process, June 30 Materials (2,000 × $9.00) $18,000 Conversion costs (800 × $8.00) 6,400 Total costs
$340,000 24,400 $364,400
[(20,000 x $17) + ((2,000 x $9) + (800 x $8)) = $364,400] [(Units transfrd. out x Cost/compltd. unit) + ((Mat. equiv. units in End. WIP x Mat. cost/unit) + (CC equiv. units in End. WIP x CC/unit)) = Tot. costs acctd. for]
PROBLEM 16.2 (Continued) (e)
ROSENTHAL COMPANY Molding Department Production Cost Report For the Month Ended June 30, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, June 1 Started into production Total units
0 22,000 22,000
Units accounted for Completed & transferred out Work in process, June 30 Total units
20,000 2,000 22,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
20,000 2,000 22,000
20,000 800 (2,000 × 40%) 20,800
Materials
Conversion Costs
(a) $198,000 (b) 22,000 $9.00
$166,400 20,800 $8.00
Cost Reconciliation Schedule (Step 4) Costs to be accounted for Work in process, June 1 Started into production Total costs
Costs accounted for Completed & transferred out (20,000 × $17.00) Work in process, June 30 Materials (2,000 × $9.00) Conversion costs (800 × $8.00) Total costs
Total $364,400 $17.00
$ 0 364,400 $364,400
$340,000 $18,000 6,400
24,400 $364,400
LO 3, 4 BT: AP Difficulty: Simple TOT: 40 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 16.3 (a) (1) Physical units T12 Tables Units to be accounted for Work in process, July 1 Started into production Total units
0 20,000 20,000
Units accounted for Completed & transferred out Work in process, July 31 Total units
17,000 3,000 20,000
(2) Equivalent units T12 Tables Conversion Materials Costs Units completed & transferred out Work in process, July 31 (3,000 × 100%) (3,000 × 60%) Total equivalent units
17,000
17,000
3,000 1,800 18,800
20,000
[(Mat.: 17,000 + (3,000 x 100%) = 20,000); (CC: 17,000 + (3,000 x 60%) = 18,800)] [(Mat.: Units transfrd. out + (End. WIP units x % compltd. = Mat. equiv. units); (CC: Units transfrd. out + (End. WIP units x % compltd. = CC equiv. units)]
(3) Unit costs
Materials ($380,000 ÷ 20,000) Conversion costs ($338,400* ÷ 18,800) Total
T12 Tables $19 18 $37
*$234,400 + $104,000 [T12: (Mat.: $380,000 ÷ 20,000 = $19) + (CC: ($234,400 + $104,000) ÷ 18,800 = $18); ($19 + $18 = $37)] [T12: (Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit) + (CC: (Labor + OH costs) ÷ CC equiv. units = CC/unit); (Mat. cost/unit + CC/unit = Cost/ compltd. unit)]
PROBLEM 16.3 (Continued) (4)
T12 Tables Costs accounted for Completed & transferred out (17,000 × $37) Work in process Materials (3,000 × $19) $57,000 Conversion costs (1,800 × $18) 32,400 Total costs
$629,000 89,400 $718,400
[T12: (17,000 x $37) + ((3,000 x $19) + (1,800 x $18)) = $718,400] [T12: (Units transfrd. out x Cost/compltd. unit) + ((Mat. end. WIP units x Mat. cost/unit) + (CC end. WIP units x CC/unit)) = Tot. costs acctd. for]
(b)
THAKIN INDUSTRIES INC. Cutting Department Production Cost Report For the Month Ended July 31, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, July 1 Started into production Total units
0 20,000 20,000
Units accounted for Completed & Transferred out Work in process, July 31 Total units
17,000 3,000 20,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b) Cost Reconciliation Schedule (Step 4) Costs to be accounted for Work in process, July 1 Started into production Total costs
17,000 3,000 20,000
17,000 1,800 (3,000 × 60%) 18,800
Materials
Conversion Costs
(a) $380,000 (b) 20,000 $ 19
$338,400 18,800 $ 18
Total $718,400 $
$
37
0 718,400 $718,400
PROBLEM 16.3 (Continued) Costs accounted for Completed and Transferred out (17,000 × $37) Work in process, July 31 Materials (3,000 × $19) Conversion costs (1,800 × $18) Total costs
$629,000 $57,000 32,400
89,400 $718,400
LO 3, 4 BT: AP Difficulty: Simple TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 16.4
(a) Physical Units Units to be accounted for Work in process, November 1 Started into production Total units
35,000 660,000 695,000
Units accounted for Completed & transferred out Work in process, November 30 Total units
670,000 25,000 695,000
Equivalent Units Conversion Materials Costs
670,000 25,000 695,000
670,000 10,000* 680,000
*25,000 × 40% [(Mat.: 670,000 + (25,000 x 100%) = 695,000); (CC: 670,000 + (25,000 x 40%) = 680,000)] [(Mat.: Units transfrd. out + (End. WIP units x % compltd.) = Mat. equiv. units); (CC: Units transfrd. out + (End. WIP units x % compltd.) = CC equiv. units);
Materials Beginning work in process Added during month Total Equivalent units Cost per unit [(a) (b)]
Conversion costs
$ (a) (b)
79,000 1,589,000 $1,668,000 695,000 $2.40
$ 48,150 563,850 $612,000 680,000 $0.90
($225,920 + $337,930)
$3.30
[(Mat.: ($79,000 + $1,589,000) ÷ 695,000 = $2.40); (CC: ($48,150 + ($225,920 + $337,930)) ÷ 680,000 = $.90)] [(Mat.: (Beg. WIP + Mat. cost added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (Beg. WIP + (Labor + OH costs added)) ÷ CC equiv. units = CC/unit)]
(b) Costs accounted for Completed and transferred out (670,000 × $3.30) Work in process, November 30 Materials (25,000 × $2.40) Conversion costs (10,000 × $0.90) Total costs
$2,211,000 $60,000 9,000
69,000 $2,280,000
[(670,000 x $3.30) + ((25,000 x $2.40) + (10,000 x $.90)) = $2,280,000] [(Units transfrd. out x Cost/compltd. unit) + ((Mat. equiv. units in end. WIP x Mat. cost/unit) + (CC equiv. units in end. WIP x CC/unit)) = Tot. costs to be acctd. for]
PROBLEM 16.4 (Continued) (c)
RIVERA COMPANY Assembly Department Production Cost Report For the Month Ended November 30, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, November 1 Started into production Total units
35,000 660,000 695,000
Units accounted for Completed & transferred out Work in process, November 30 Total units
670,000 25,000 695,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
670,000 25,000 695,000
670,000 10,000 (25,000 X 40%) 680,000
Materials
Conversion Costs
(a) $1,668,000 (b) 695,000 $2.40
$612,000 680,000 $0.90
Cost Reconciliation Schedule (Step 4) Costs to be accounted for Work in process, November 1 Started into production(1) Total costs Costs accounted for Completed and Transferred out (670,000 × $3.30) Work in process, November 30 Materials (25,000 × $2.40) Conversion costs (10,000 × $.90) Total costs
Total $2,280,000 $3.30
$ 127,150 2,152,850 $2,280,000
$2,211,000 $60,000 9,000
69,000 $2,280,000
(1) $1,589,000 + $225,920 + $337,930
LO 3, 4 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Cost Management
PROBLEM 16.5
(a)
(1) Physical Units Units to be accounted for Work in process, July 1 Started into production Total units
500 1,000 1,500
Units accounted for Completed & transferred out Work in process, July 31 Total units
900 600 1,500
Equivalent Units Conversion Materials Costs
900 600 1,500
900 240* 1,140
*600 × 40% [(Mat.: 900 + (600 x 100%) = 1,500); (CC: 900 + (600 x 40%) = 1,140)] [(Mat.: Units transfrd. out + (Units in end. WIP x % compltd.) = Mat. equiv. units); (CC: Units transfrd. out + (Units in end. WIP x % compltd.) = CC equiv. units)]
(2) Beginning work in process Added during month Total Equivalent units Cost per unit [(a) (b)] *$1,580 + $1,240
Materials
Conversion costs
Total
$ 750 2,400 (a) $3,150 (b) 1,500 $2.10
$ 600 2,820* $3,420 1,140 $3.00
$5.10
[(Mat.: ($750 + $2,400) ÷ 1,500 = $2.10); (CC: ($600 + ($1,580 + $1,240)) ÷ 1,140 = $3.00)] [(Mat.: (Beg. WIP + Costs added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (Beg. WIP + (Labor + OH costs added)) ÷ CC equiv. units = CC/unit)]
(3) Costs accounted for Completed and Transferred out (900 × $5.10) Work in process, July 31 Materials (600 × $2.10) Conversion costs (240 × $3.00) Total costs
$4,590 $1,260 720
1,980 $6,570
[(900 x $5.10) + ((600 x $2.10) + (240 x $3.00)) = $6,570] [(Units transfrd. out x Cost/compltd. unit) + ((Mat. equiv. units in end. WIP x Mat. cost/unit) + (CC equiv. units in end. WIP x CC/unit)) = Tot. costs acctd. for]
PROBLEM 16.5 (Continued) (b)
POLK COMPANY Bladder Department Production Cost Report For the Month Ended July 31, 2025
Quantities Units to be accounted for Work in process, July 1 Started into production Total units Units accounted for Completed & transferred out Work in process, July 31 Total units *600 × 40%
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
500 1,000 1,500
900 600 1,500
Costs Unit costs (Step 3) Total costs Equivalent units Unit costs (a) ÷ (b)
(a) (b)
900 600 1,500
900 240* 1,140
Materials
Conversion Costs
$3,150 1,500 $2.10
$3,420 1,140 $3.00
Cost Reconciliation Schedule (Step 4) Costs to be accounted for Work in process, July 1 Started into production Total costs Costs accounted for Completed and Transferred out (900 × $5.10) Work in process, July 31 Materials (600 × $2.10) Conversion costs (240 × $3.00) Total costs
Total $6,570 $5.10
$1,350 5,220 $6,570
$4,590 $1,260 720
1,980 $6,570
LO 3, 4 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 16.6
(a) Computation of equivalent units:
Units accounted for Completed & transferred out Work in process, October 31 (60% materials, 40% conversion costs) Total units accounted for
Physical Units
Equivalent Units Conversion Materials Costs
120,000
120,000
120,000
50,000 170,000
30,000 150,000
20,000 140,000
[(Mat.: 120,000 + (50,000 x 60%) = 150,000); (CC: 120,000 + (50,000 x 40%) = 140,000)] [(Mat.: Units transfrd. out + (Units in end. WIP x % compltd.) = Tot. equiv. units); (CC: Units transfrd. out + (Units in end. WIP x % compltd.) = Tot. CC equiv. units)]
Computation of October unit costs Materials: $240,000 ÷ 150,000 equivalent units = $1.60 Conversion cost: $105,000 ÷ 140,000 equivalent units = 0.75 Total unit cost, October $2.35 [(Mat.: $240,000 ÷ 150,000 = $1.60); (CC: $105,000 ÷ 140,000 = $.75); ($1.60 + $.75 = $2.35)] [(Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit); (CC: CC ÷ CC equiv. units = CC/unit); (Mat. cost/unit + CC/unit = Tot. cost/compltd. unit)]
(b) Cost Reconciliation Schedule Costs accounted for Completed and transferred out (120,000 × $2.35) Work in process, October 31 Materials (30,000 × $1.60) $48,000 Conversion costs (20,000 × $0.75) 15,000 Total costs
$282,000 63,000 $345,000
LO 3, 4 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
*PROBLEM 16.7
(a) Bicycles (1) Equivalent units—Materials Materials Added This Period
Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
200 700 (1,000 – 300) 300 1,200
Equivalent Units
0%* 100% 100%
0 700 300 1,000
*All materials are added at the beginning of the production process. [(200 x 0%) + (700 x 100%) + (300 x 100%) = 1,000] [(Beg. WIP units x % mat. added) + (Units started and compltd. x % mat. added) + (End. WIP units x % mat. added) = Tot. mat. equiv. units]
Equivalent units—Conversion costs Conversion Added This Period
Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
200 700 (1,000 - 300) 300 1,200
Equivalent Units
20% (1 - 0.8) 100% 40%
40 700 120 860
[(200 x 20%) + (700 x 100%) + (300 x 40%) = 860] [(Beg. WIP units x % CC added) + (Units started and compltd. x % CC added) + (End. WIP units x % CC added) = Tot. CC equiv. units]
(2) Unit costs
Costs in March (a) Equivalent units (b) Unit costs (a) ÷ (b)
Materials $50,000 1,000 $ 50
Conversion Costs $55,900** 860 $ 65
**Direct Labor $25,900 + Manufacturing Overhead $30,000 [(Mat.: $50,000 ÷ 1,000 = $50); (CC: ($25,900 + $30,000) ÷ 860 = $65)] [(Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit); (CC: (DL + OH costs) ÷ CC equiv. units = CC/unit)]
*PROBLEM 16.7 (Continued) (3) Assignment of costs to units transferred out and in process Costs to Be Assigned Total mfg. costs $125,180***
Assignment of Costs
Equivalent Unit Units Cost
Transferred out Work in process, March 1 Conversion Started and completed Total costs completed & transferred out
40 700
Work in process, March 31 Materials Conversion costs Total costs
300 120
$ 65 $115
Total Costs Assigned $19,280 2,600 80,500 $102,380
$50 $65
15,000 7,800
22,800 $125,180
***Work in process, March 1, $19,280 + Materials $50,000 + Labor $25,900 + Overhead $30,000 ($19,280 + $50,000 + $25,900 + $30,000 = $125,180); (Beg. WIP + Mat. + Labor + OH = Tot. mfg. costs to be assigned) [($19,280 + (40 x $65) + (700 x $115)) + ((300 x $50) + (120 x $65)) = $125,180] [(Beg. WIP + (CC equiv. units x CC/unit) + (Started & complted. units x Cost/compltd. unit)) + ((End. WIP mat. units x Mat. cost/unit) + (End. WIP CC units x CC/unit)) = Tot. costs assigned]
Tricycles (1) Equivalent units—Materials Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
100 940 (1,000 - 60) 60 1,100
Materials Added This Period 0%* 100% 100%
Equivalent Units 0 940 60 1,000
*All materials are added at the beginning of the production process.
Equivalent units—Conversion costs Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
100 940 (1,000 - 60) 60 1,100
Conversion Added This Period 25% (1 - 0.75) 100% 25%
Equivalent Units 25 940 15 980
*PROBLEM 16.7 (Continued) (2) Unit costs
Costs in March (a) Equivalent units (b) Unit costs [(a) ÷ (b)]
Conversion Costs $34,300** 980 $ 35
Materials $30,000 1,000 $ 30
**Direct Labor $14,300 + Manufacturing Overhead $20,000 (3) Assignment of costs to units transferred out and in process Costs to Be Assigned
Assignment of Costs
Equivalent Unit Units Cost
Total mfg. costs Transferred out Work in process, March 1 $70,425*** Conversion Started and completed Total costs completed and transferred out
25 940
Work in process, March 31 Materials Conversion costs Total costs
60 15
$35 $65
Total Costs Assigned $ 6,125 875 61,100 $68,100
$30 $35
1,800 525
2,325 $70,425
***Work in process, March 1, $6,125 + Materials $30,000 + Labor $14,300 + Overhead $20,000
*PROBLEM 16.7 (Continued) (b)
OWEN COMPANY Production Cost Report—Bicycles For the Month Ended March 31, 2025
Quantities Units to be accounted for Work in process, March 1 Started into production Total units Units accounted for Completed and transferred out Work in process, March 1 Started and completed Work In process, March 31 Total units
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
200 1,000 1,200
200 700 300 1,200
0 700 300 1,000
Costs
Materials
Conversion Costs
Unit costs (Step 3) Costs in March (a) Equivalent units (b) Unit costs [(a) ÷ (b)]
$50,000 1,000 $ 50
$ 55,900 860 $ 65
Cost Reconciliation Schedule (Step 4) Costs to be accounted for Work in process, March 1 Started into production Total costs Costs accounted for Transferred out Work in process, March 1 Conversion costs to complete beginning inventory (40 × $65) Started and completed (700 × $115) Work in process, March 31 Materials (300 × $50) Conversion costs (120 × $65) Total costs
40 700 120 860 Total $105,900 $
115
$ 19,280 105,900* $125,180
$19,280 2,600 80,500 15,000 7,800
$102,380
22,800 $125,180
*($50,000 + $25,900 + $30,000) LO 5 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
CD16
DECISION-MAKING AT CURRENT DESIGNS CURRENT DESIGNS Fabrication Department Production Cost Report For the Month Ended April 30, 2025
Quantities
Physical Units
Materials
(Step 1) Units to be accounted for Work in process, April 1 Started into production Total units Units accounted for Completed & transferred out Work in process, April 30 Total units
Costs Unit costs (Step 3) Total cost* Equivalent units Unit costs [(a) ÷ (b)] Cost Reconciliation Schedule (Step 4) Costs to be accounted for Work in process, April 1 Started into production Total costs Costs accounted for Transferred out (67 × $950) Work in process, April 30 Materials (7 × $350) Conversion costs (14 × $600) Total costs
Equivalent Units Conversion Costs (Step 2)
30 72 102 67 35 102
67 7 (35 × 20%) 74
Materials
Conversion Costs
(a) $25,900 (b) 74 $ 350
$48,600 81 $ 600
67 14 (35 × 40%) 81
Total $74,500 $
950
$17,400 57,100 $74,500 $63,650 $ 2,450 8,400
10,850 $74,500
*Material costs = $8,400 + $17,500 Conversion costs = $9,000 + $39,600 LO 4 BT: AP Difficulty: Moderate AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting [Step 3: (Mat.: ($8,400 + $17,500) ÷ 74 = $350); (CC: ($9,000 + $39,600) ÷ 81 = $600); (Costs: $17,400 + $57,100 = $74,500)] [Step 3: (Mat.: (Mat. in beg. WIP + Mat. added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (CC in beg. inv. + CC added) ÷ CC equiv. units = CC/unit); (Costs: Beg. WIP + Started into production = Tot. costs to be acctd. for)]
WC16
WATERWAYS CORPORATION
(a)Production Cost Report—Weighted-Average Method WATERWAYS CORPORATION Molding Department Production Cost Report For the month of January Equivalent Units Physical Units
Materials
Conversion Costs
58,000
Quantities Units to be accounted for: Work in process, Jan 1 (80% materials, 30% conversion)...........
22,000
Started into production ................................................................
60,000
Total units.......................................................................................
82,000
Units accounted for: Completed & transferred out ........................................................
58,000
58,000
Work in process, Jan 31 (50% materials, 10% conversion)..........
24,000
12,000
2,400
82,000
70,000
60,400
Materials
Conversion Costs
$433,300 70,000 $6.19
$434,880 60,400 $7.20
Total units....................................................................................... Costs Unit costs Costs in January* ........................................................................ Equivalent units ........................................................................... Unit costs [(a)/ (b)]........................................................................ Costs to be accounted for Work in process, January 1 .......................................................... Started into production ................................................................. Total costs .................................................................................. *Additional computations to support production costs report data: Materials cost—$168,360 + $264,940 Conversion costs—$67,564 + $17,270 + $289,468 + $60,578
(a) (b)
Total $868,180 $13.39 $253,194 614,986 $868,180
Cost Reconciliation Schedule Costs accounted for Completed & transferred out (58,000 × $13.39) .......................... Work in process, Jan 31 Materials (12,000 × $6.19).......................................................... Conversion (2,400 × $7.20) ........................................................ Total costs
$776,620 74,280 17,280
91,560 $868,180
WC16 (Continued) *(b) Equivalent Units—FIFO Method Equivalent Units Physical Units
Conversion Materials
Costs
Units accounted for Completed and transferred out Work in process, January 1 (20% materials, 70% conversion) ....
22,000
4,400
15,400
Started and completed in January ...............................................
36,000
36,000
36,000
Work in process, Jan 31 (50% materials, 10% conversion) ...........
24,000
12,000
2,400
Total units ........................................................................................
82,000
52,400
53,800
LO 4 BT: AP Difficulty: Moderate AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
CT16.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) The unit cost suggests that Joe took the highest total costs and divided these costs by the units started into production. The highest total costs would be the total costs charged to the Mixing Department ($88,000 + $573,000 + $765,000) divided by the units started during July (100,000 gallons), which results in a per unit cost of $14.26 ($1,426,000 ÷ 100,000). (b) The principal errors made by Joe were: (1) he did not compute equivalent units of production; (2) he did not use the weighted-average costing method; and (3) he did not assign costs to ending work-in-process.
CT16.1 (Continued) (c)
FLORIDA BEACH COMPANY Mixing Department Production Cost Report For the Month Ended July 31, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, July 1 Started into production Total units
8,000 100,000 108,000
Units accounted for Completed & transferred out Work in process, July 31 Total units
103,000 5,000 108,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
103,000 5,000 108,000
103,000 1,000 (5,000 × 20%) 104,000
Materials
Conversion Costs
(a) $594,000 (b) 108,000 $5.50
$832,000 104,000 $8.00
Costs to be accounted for Work in process, July 1 Started into production Total costs
Total $1,426,000 $13.50
$
88,000 1,338,000 $1,426,000
Cost Reconciliation Schedule (Step 4) Costs accounted for Completed and transferred out (103,000 × $13.50) Work in process, July 31 Materials (5,000 × $5.50) Conversion costs (1,000 × $8.00) Total costs
$1,390,500 $27,500 8,000
35,500 $1,426,000
[Step 3: (Mat.: ($21,000 + $573,000) ÷ 108,000 = $5.50); (CC: ($67,000 + $765,000) ÷ 104,000 = $8.00); (Costs: $88,000 + $1,338,000 = $1,426,000)] [Step 3: (Mat.: (Mat. in beg. WIP + Mat. added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (CC in beg. inv. + CC added) ÷ CC equiv. units = CC/unit); (Costs: Beg. WIP + Started into production = Tot. costs to be acctd. for)] LO 3, 4 BT: AN Difficulty: Easy TOT: 25 min. TOT Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
CT16.2
MANAGERIAL ANALYSIS
(a) The unit cost of materials is $150 ($450,000 ÷ 3,000). ($450,000 ÷ 3,000 = $150) (Mat. costs ÷ No. sofas started = Mat. cost/unit)
(b) The materials cost of the goods transferred out is $375,000 (2,500 × $150). Conversion costs, therefore, are $225,000 ($600,000 – $375,000), and per unit conversion cost is $90 ($225,000 ÷ 2,500). [(Mat.: 2,500 x $150 = $375,000); (CC: $600,000 - $375,000 = $225,000; $225,000 ÷ 2,500 = $90)] [(Mat.: Sofas transfrd. out x Mat. cost/unit = Mat. costs transfrd. out); (CC: Tot. costs transfrd. out – Mat. costs transfrd. out = CC transfrd. out; CC transfrd. out ÷ sofas transfrd. out = CC/unit)]
(c) There are 500 units in ending work-in-process inventory (3,000 started – 2,500 transferred out). The materials cost is $75,000 (500 × $150). Thus, the conversion costs in the inventory are $36,000 ($111,000 – $75,000). $36,000 divided by $90 per unit conversion cost equals 400 equivalent units or 80% (400 ÷ 500) complete. LO 3 BT: AN Difficulty: Easy TOT: 25 min. TOT Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
CT16.3
REAL-WORLD FOCUS
Answers will vary based on the different videos viewed online. (a) The outer shell of the paintballs is made from a mixture that includes water, sweeteners, food ingredients, and most importantly, gelatin. All of the ingredients used to make paintballs are food grade, biodegradable products. The “paint” filling inside a paintball is comprised of the same inert ingredient used in cough syrup, as well as crayon wax. After mixing the gelatin and other materials, the mixture is heated, and then spread on rolling drums which create thin gelatin ribbons. Each of the ribbons then passes over a rotating die. The dies are designed so that they can form round capsules. The dies press against each other as they rotate. As the dies meet, both shells are filled with paint, which is injected into the area between the sheets. The two halves then seal as they press against each other to form a filled capsule. Once the capsules are sealed they drop out of the machine to become paintballs. They pass along a conveyor belt to a tumble drier, then onto a drying rack. Once they are dry, they go into a counting machine, then into a packing machine which packs exactly the correct number of balls into each container. (b) Materials: water, sweeteners, food ingredients, gelatin, “cough syrup material”, crayon wax, and food coloring. Labor: People would be needed run the various machines. Overhead: Depreciation and maintenance of the various machines. It would appear that overhead would be by far the highest cost because the process is very automated. Machines are needed for mixing the gelatin, heating it, rolling it into ribbons, making the capsules, filling the capsules, sorting and drying the capsules, counting the capsules and packing them. (c) This would appear to be a perfect situation for the use of process costing. Paintballs are a high volume product, and the paintballs are very homogenous. While there may be some differences in various types of paintballs that would merit keeping track of specific costs to make the various types, the primary method of cost determination would be process costing. LO 1, 3, 4 BT: C Difficulty: Moderate TOT: 30 min. AACSB: Technology, Communication AICPA AC: Reporting IMA: Reporting & Control: Cost Accounting
CT16.4
COMMUNICATION ACTIVITY
To:
Diane Barone, Regional Sales Manager
From:
Student, Accounting Manager
Re:
Production Cost Reports
Diane, congratulations again on your promotion! It’s going to be great working with you. It kind of reminds me of our days at Dairy-Freeze after school (although this work is more fun, and it certainly pays better!). I’ll try to clear up some of the questions you raised in your email. Here in the Snack Foods Division we use process costing rather than the job order system that Special Projects uses. The reason for this is that we produce all our products in a more or less continuous process, even when we run occasional special orders. You see, all our workers are assigned a particular part of the process to control. One might be in charge of making sure the mixing machines work properly, while another verifies the weight of the finished products. Whichever job a worker is assigned, he or she stays with it to completion, or at least the completion of that particular process. That’s different from what you had in Special Projects, where workers moved from job to job. That’s why we don’t usually track the orders separately. Our special orders are for various quantities of the foods we produce, so only the Packing Department needs to be concerned with the particular set of products shipped to the particular customer—which is its ordinary concern anyway. Your next question was about what an equivalent unit is. Well, you know already that Special Projects bids on various jobs, and then costs are recorded when the jobs are complete. The costs accumulated on jobs that aren’t complete are reflected in Work in Process inventory. We in Snack Foods can’t use that method for a simple reason—we produce our products in huge batches that we keep going fairly continuously. Or, in other words, we don’t have a “job” that we can record as “complete.” A batch may contain enough of our product to fill thirty or more orders, so we may have thirty or more “jobs” in each batch. One job may happen to be filled from two batches. Since the cost of each batch is about the same, it isn’t worth keeping track of separately.
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CT16.4 (Continued) At the end of the month, we need to record what we finished and what still remains undone. Equivalent units are the way we measure the amount of work we have done on our work in process. It’s kind of like comparing the contents of 4-ounce cups with the contents of 12-ounce cups. It doesn’t make sense to compare by counting the number of cups you have. You need to find out how many ounces you have in one set; then you can get a meaningful comparison with the ounces you have in the other set. We compare by the number of “units” of materials or labor that are required to finish a product completely. If it requires 12 ounces of flour and 15 minutes of labor for a finished bag of pretzels, for example, then the 12 ounces and 15 minutes are “finished equivalents.” If we have enough pretzels to fill 30 bags, but we’ve only spent 5 minutes (or 1/3 of the total required) of labor on them at the end of the month, we could have used the same amount of time and completely finished 10 bags. Thus, we have the “equivalent” of 10 bags worth of labor. Your last question is the easiest to answer. You get four reports because we use four processes here in Snack Foods Division. Each process has to report its status at the end of every month. It’s kind of like we have four miniature factories, each reporting “completion” of a certain number of products. The products from one department are used as raw materials for other departments, so we have a chain of reports. Notice that the units and costs transferred out of Process 1 are the same as the units and costs transferred in to Process 2, and so on. I hope this helps. Call, write, or email me any time! LO 1, 2, 3, 4 BT: S Difficulty: Moderate TOT: 45 min. AACSB: Reflective Thinking, Communication AICPA AC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
CT16.5
ETHICS CASE
(a) The stakeholders in this situation are: ⯈ ⯈ ⯈ ⯈
Jan Wooten, molding department head. Tony Ferneti quality control inspector. Customers of R. B. Dillman Company. The department manager of the assembly department.
(b) Tony is placed in an ethical dilemma. He can offend his department head by disregarding Jan’s instructions and lose the support of his supervisor, and maybe lose his job. He can follow Jan’s instructions and be in violation of company policy. He can also report Jan’s instructions to supervisors (factory superintendent or vice-president of production). The company should make the position of quality control inspector responsible to someone other than the department head. Tony should not report to Jan. LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Ethics, Communication AICPA PC: Ethical Conduct, Communication IMA: Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT16.6
CONSIDERING PEOPLE, PLANET, AND PROFIT
(a) Some of the costs that the company now faces include: Monetary damages: The company would likely pay fines to regulators; significant compensation to those affected by the accident; and to repair and update its refinery. Bad publicity Lost sales Cost of cleaning up the affected area including transporting workers to the site; housing workers near the site; per diem for cleanup workers; safety equipment for the workers Transportation and storage/disposal fees for any contaminants removed from the area Legal fees associated with lawsuits/settlements Reimburse the Coast Guard for any oil containment equipment provided Possible air/water testing for an extensive time following the accident (b) Some steps that the company could have taken to reduce the environmental failure costs include:
Install up to date safety equipment Increase the frequency and efficacy of inspections Increase maintenance on older facilities Be responsive to and investigate thoroughly complaints by neighbors and regulators Invest in research to discover safer means of boosting octane Locate factories further away from population centers to the extent possible LO N/A BT: E Difficulty: Moderate TOT: 20 min. AACSB: Reflective Thinking AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CHAPTER 16A Process Costing Learning Objectives 1.
Discuss the uses of a process cost system and how it compares to a job order system.
2.
Explain the flow of costs in a process cost system and how to record the assignment of manufacturing costs.
3.
Compute equivalent units of production.
4.
Complete the four steps to prepare a production cost report.
*5.
Compute equivalent units using the FIFO method.
*Note: All asterisked Brief Exercises, Exercises, and Problems relate to material contained in the appendix to the chapter.
ANSWERS TO QUESTIONS 1.
(a) (b) (c) (d)
Process cost. Process cost. Job order. Job order.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
2.
The primary focus of job order cost accounting is on the individual job. In process cost accounting, the primary focus is on the processes involved in producing homogeneous products.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
3.
The similarities are: (1) all three manufacturing cost elements—direct materials, direct labor, and overhead—are tracked the same; (2) the accumulation of the costs of materials, labor, and overhead is the same; and (3) the flow of costs is the same.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
4.
The features of process cost accounting are: (1) separate work in process accounts are maintained for each process, (2) production cost reports are produced periodically (typically monthly), (3) product costs are computed for each accounting period, and (4) unit costs are computed based on total manufacturing costs.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
5.
Sam is correct. The flow of costs is the same in process cost accounting as in job order cost accounting. The method of assigning costs, however, is significantly different.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
6.
(a)
(b)
(1) Materials are charged to production on the basis of materials requisition slips. (2) Labor is usually charged to production on the basis of the payroll register or departmental payroll summaries. The criterion used in assigning overhead to processes is to identify the activity that “drives” or causes the cost. In many companies this activity is machine time, not direct labor.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
7.
The assignment of overhead to production is: Manufacturing Costs Raw Materials Inventory Assigning manufacturing overhead
Factory Labor
Manufacturing Overhead
Work in Process – Machining
Work in Process – Assembly
-$27,000
+$15,000
+$12,000
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 16A (Continued) 8.
To prepare a production cost report, four steps are followed: (a) compute the physical unit flow, (b) compute equivalent units of production, (c) compute unit production costs, and (d) prepare a cost reconciliation schedule.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
9.
Physical units to be accounted for consist of units in process at the beginning of the period plus units started (or transferred-in) into production during the period. Units accounted for consist of units completed and transferred out during the period plus units in process at the end of the period.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
10.
Equivalent units of production measure the work done during the period, expressed in fully completed units.
LO3 BT: K Difficulty: Easy TOT: 1 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
11.
Equivalent units of production are the sum of: (1) units completed and transferred out and (2) equivalent units of ending work in process.
LO3 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12.
Units started into production were 9,600, or (9,000 + 600).
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
13. Units transferred out Work in process 500 X 100% 500 X 20% Total equivalent units
Equivalent Units Materials Conversion Costs 12,000 12,000 500 12,500
100 12,100
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(Mat: 12,000 + 500 = 12,500); (CC: 12,000 + 100 = 12,100)] [(Mat.: Units transferred out + (units in end. WIP x % complete) = Equiv. units); (CC: Units transferred out + (units in end. WIP x % complete) = Equiv. units)]
14. Units transferred out were 3,200* Units to be accounted for Work in process (beginning) Started into production Total units to be accounted for Units accounted for Completed and transferred out Work in process (ending) Total units accounted for *3,500 – 300
500 3,000 3,500 3,200* 300 3,500
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(500 + 3,000 = 3,500); (3,500 – 300 = 3,200)] [(Beg. WIP units + Units started into production = Tot. units acct’d. for); (Tot. units acct’d. for – End. WIP units = Units transferred out)]
15. (a) (b)
The cost of the units transferred out is $112,000, or (14,000 x $8). The cost of the units in ending inventory is $8,500, or [(2,000 x $3) + (500 x $5)].
[(2,000 x $3) + ((2,000 x 25%) x $5) = $8,500]
Questions Chapter 16A (Continued) [(DM units in end. WIP x Cost/unit) + ((CC units in end. WIP x % complete) x Cost/unit) = Cost of end WIP] LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
16. (a) (b)
Ann is incorrect. The report is an internal report for management. There are four sections in a production cost report: (1) physical unit flow, (2) equivalent units of production, (3) unit production costs, and (4) cost reconciliation schedule.
LO4 BT: K Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
17. The production cost report provides the basis for evaluating: (1) the productivity of a department, (2) whether unit and total costs are reasonable, and (3) whether current performance is meeting planned objectives. LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement IMA: Reporting & Control: Cost Accounting
18. The per unit conversion cost is $11.25. [Conversion costs = $6,000 – $2,400 = $3,600. Equivalent units for conversion costs are 320 (800 x 40%); $3,600 ÷ 320 = $11.25.] LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [($6,000 – (800 x $3) = $3,600); (800 x 40% = 320); ($3,600 ÷ 320 = $11.25)] [(Tot. assigned cost – (Units in end. WIP x DM cost/unit) = CC); (Units in end. WIP x % completed = Equiv. units); (CC ÷ Equiv. units = CC/equiv. unit)]
19. Operations costing is similar to process costing in that standardized methods are used to manufacture the product. At the same time, the product may have some customized individual features that require the use of a job order cost system. LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
20. In deciding which system to use, a cost-benefit tradeoff occurs. In a job order system, detailed information related to the cost of the product is involved. The cost of implementing this system is often expensive. In a process cost system, an average cost of the product will suffice and therefore the cost to implement is less. In summary, the cost of implementing the system must be balanced against the benefits provided from the additional information. LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*21. Units transferred out were 2,800 (2,000 + 800). LO5 BT: AP Difficulty: Easy TOT: 1 AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting (2,000 + 800 = 2,800) (Units started & compltd. + Units in beg. WIP = Units trans. out)
*22. (a)
The cost of the units transferred out is $120,000 (12,000 x ($3 + $7)).
[12,000 x ($3 + $7) = $120,000] [Units transferred out x (DM cost/unit + CC/unit) = Cost of units transferred out]
(b)
The cost of the units in ending inventory is $9,500 [(2,000 X $3) + (500 X $7)].
[(2,000 x $3) + ((2,000 x 25%) x $7) = $9,500] [Equiv. units in end. WIP x DM/unit) + ((Units in end. WIP x % complete) x CC/unit) = Cost of units in end. WIP] LO5 BT: AP Difficulty: Easy TOT: 3 AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 16A.1 Manufacturing Costs Raw Materials Inventory Purchases direct materials Incurs direct factory labor
Factory Labor
Manufacturing Overhead
Work in Process
Assembly Finishing
+$50,000
+$60,000
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16A.2 Manufacturing Costs Raw Materials Inventory Direct materials used Assign direct factory labor
Factory Labor
-$50,000 $60,000
Manufacturing Overhead
Work in Process
Assembly Finishing
+$24,000
+$26,000
+35,000
+25,000
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16A.3 Manufacturing Costs Raw Materials Inventory
Factory Labor
Balance Assigning Overhead
Work in Process
Manufacturing Overhead Assembly Finishing +$104,000 -96,000 +$56,000* +$40,000*
*($35,000 x 160%) **($25,000 x 160%) LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16A.4
January March July a. b. c.
Materials 45,000 (35,000 + 10,000) 48,000 (40,000 + 8,000) 61,000 (45,000 + 16,000)
Conversion Costs 39,000 (35,000 + 4,000a) 46,000 (40,000 + 6,000b) 49,000 (45,000 + 4,000c)
10,000 x 40% 8,000 x 75% 16,000 x 25%
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(Jan. CC: 35,000 + (10,000 x 40%) = 39,000); (Mar. CC: 40,000 + (8,000 x 75%) = 46,000); (Jul. CC: 45,000 + (16,000 x 25%) = 49,000)] [(Jan. CC: Units transferred out + (End. WIP units x % complete) = Equiv. units); (Mar. CC: Units transferred out + (End. WIP units x % complete) = Equiv. units); (Jul. CC: Units transferred out + (End. WIP units x % complete) = Equiv. units)]
BRIEF EXERCISE 16A.5
Units transferred out Work in process, November 30 Materials (7,000 x 100%) Conversion costs (7,000 x 40%) Total equivalent units
(a) Materials 9,000
(b) Conversion Costs 9,000
7,000 16,000
2,800 11,800
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [CC: 9,000 + (7,000 x 40%) = 11,800] [CC: Units transferred out + (End. EIP units x % complete) = Equiv. units]
BRIEF EXERCISE 16A.6 Total materials costs $33,000 Total conversion costs $54,000 Unit materials cost $3.30
÷
Equivalent units of materials 10,000
÷
Equivalent units of conversion costs 12,000
+
Unit conversion cost $4.50
=
Unit materials cost $3.30
=
Unit conversion cost $4.50
=
Total manufacturing cost per unit $7.80
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16A.7 Assignment of Costs Transferred out Transferred out Work in process, 4/30 Materials Conversion costs Total costs
Equivalent Units
Unit Cost
40,000
x
$11
5,000 2,000*
x x
$ 4 $ 7
Total
Costs $440,000
$20,000 14,000
34,000 $474,000
*(5,000 x 40%) LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(40,000 x ($4 + $7) = $440,000); (((5,000 x $4) + ((5,000 x 40%) x $7)) = $34,000); ($440,000 + $34,000 = $474,000)] [(Units transferred out x (DM cost/unit + CC/unit) = Transferred out costs); (((End. WIP units x DM cost/unit) + ((End. WIP units x % complete) x CC/unit)) = End. WIP costs); (Transferred out costs + End. WIP costs = Tot. costs)]
BRIEF EXERCISE 16A.8 Total materials costs $12,000 Total conversion costs* $47,500
÷
Equivalent units of materials 20,000
÷
Equivalent units of conversion costs 19,000
=
Unit materials cost $.60
=
Unit conversion cost $2.50
*$29,500 + $18,000 LO4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 16A.9 Costs accounted for Transferred out Work in process Materials Conversion costs Total costs
(18,000 x $3.10*) (2,000 x $.60) (1,000* x $2.50)
$55,800 $1,200 2,500
3,700 $59,500
*$2.50 + $.60 **2,000 x 50% LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(18,000 x ($.60 + $2.50) = $55,800); (((2,000 x $.60) + ((2,000 x 50%) x $2.50)) = $3,700); ($55,800 + $3,700 = $59,500)] [(Units transferred out x (DM cost/unit + CC/unit) = Transferred out costs); (((End. WIP units x DM cost/unit) + ((End. WIP units x % complete) x CC/unit)) = End. WIP costs); (Transferred out costs + End. WIP costs = Tot. costs)]
*BRIEF EXERCISE 16A.10 Costs to Be Assigned Assignment of Costs
Equivalent Units
Unit Cost
Total Costs Assigned
Transferred out Work in process, 3/1 Started and completed
0 30,000
$ 0 $16
$
Work in process, 3/31 Materials Conversion costs
5,000 2,000
$ 6 $10
0 480,000 480,000
$530,000 $ 30,000 20,000
50,000 $530,000
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(30,000 x ($6 + $10) = $480,000); (((5,000 x 100%) x $6) + ((5,000 x 40%) x $10) = $50,000); ($480,000 + $50,000 = $530,000)] [(Units started & compltd. x (DM cost/unit + CC/unit) = Cost of units transfrd. out); (((Units in end. WIP x % complete) x DM cost/unit) + ((Units in end. WIP x % complete) x CC/unit) = Cost of units in end. WIP); (Cost of units transfrd. out + Cost of units in end. WIP = Tot. costs)]
*BRIEF EXERCISE 16A-11 Equivalent Units Conversion Materials Costs Units accounted for Completed and transferred out Work in process, March 1 Started and completed Work in process, March 31 Total units
-030,000 5,000 35,000
-030,000 2,000 32,000
[(Mat.: 0 + 30,000 + (5,000 x 100%) = 35,000); (CC: 0 + 30,000 + (5,000 x 40%) = 32,000)] [(Mat.: Units in Beg. WIP + Units started & compltd. + (Units in end. WIP x % compltd.) = Tot. equiv. units); (CC: Units in Beg. WIP + Units started & compltd. + (Units in end. WIP x % compltd.) = Tot. equiv. units)]
*BRIEF EXERCISE 16A.11 (Continued) PIX COMPANY Production Cost Report (Partial) For the Month Ended March 31 COSTS Materials Unit costs Total costs (a) Equivalent units (b) Unit costs (a) ÷ (b) Costs to be accounted for In process, March 1 Started into production Total costs Costs accounted for Transferred out In process, March 1 Started and completed (30,000 units x $16) In process, March 31 Materials (5,000 x $6) Conversion costs (2,000 x $10) Total costs
$210,000* 35,000 $ 6
Conversion Costs
Total
$320,000** $530,000 32,000 $ 10 $ 16 $
0 530,000 $530,000
$
0 480,000
$ 30,000 20,000
50,000 $530,000
*35,000 equivalent units x $6 per unit **32,000 equivalent units x $10 per unit [(Mat.: 35,000 x $6 = $210,000); (CC: 32,000 x $10 = $320,000); ($210,000 + $320,000 = $530,000)] [(Mat.: Tot. mat. equiv. units x Mat. cost/unit = Tot. mat. costs); (CC: Tot. CC equiv. units x CC/unit = Tot. CC); (Tot. mat. costs + Tot. CC = Tot. costs to be acctd. for)] LO5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*BRIEF EXERCISE 16A.12 Total materials costs $75,0001 1
Equivalent units of materials 20,000
÷
=
Unit materials cost $3.75
=
Unit conversion cost $2.00
$8,000 + $67,000 = $75,000
Total conversion costs $38,0002 2
÷
Equivalent units of conversion costs 19,000
$20,000 + $18,000
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(($8,000 + $67,000) ÷ 20,000 = $3.75); (($20,000 + $18,000) ÷ 19,000 = $2.00)] [((Mat. costs + Transfrd. in costs) ÷ Equiv. units of mat. = Unit mat. cost); ((Labor costs + OH costs) ÷ Equiv. units of CC = Unit CC)]
SOLUTIONS FOR DO IT! EXERCISES DO IT! 16A.1 1. 2. 3. 4.
False False True False
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 16A.2 See next page
DO IT! 16A.2 Manufacturing Costs Raw Materials Inventory Direct materials used Factory labor assigned Manufacturing overhead assigned Transfer from Mixing to Packaging Transfer from Packaging to Finished Goods Inventory
Factory Labor
Work in Process
Manufacturing Overhead
-$38,000 -$44,000
-$66,000
Mixing
Packa
+$10,000
+$
+8,000
+
+12,000
+
-21,000
+
-1
LO2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Repor
16A-13
DO IT! 16A.3 (a) Since materials are entered at the beginning of the process, the equivalent units of ending work in process are 10,000. 20,000 units + 10,000 units = 30,000 equivalent units of production for materials. (b) Since ending work in process is only 70% complete as to conversion costs, the equivalent units of ending work in process for conversion costs are 7,000 (70% x 10,000 units). 20,000 units + 7,000 units = 27,000 equivalent units of production for conversion costs. LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 16A.4 (a) 0 (Work in process, March 1) + 26,000* (Started into production) = 26,000 *22,000 + 4,000 (0 + (22,000 + 4,000) = 26,000) (Beg. WIP units + Units started into production = Units to acct. for)
(b) Equivalent units of production: Units transferred out ................. Work in process, March 31........ Total ............................................
Materials 22,000 4,000 26,000
(c) Cost reconciliation schedule Costs accounted for Transferred out (22,000 x $18) ............ Work in process, March 31 Materials (4,000 x $10) .................. Conversion costs (1,600 x $8)...... Total costs..................................................
Conversion 22,000 1,600 (4,000 X 40%) 23,600
$396,000 $40,000 12,800
52,800 $448,800
[(22,000 x ($10 + $8) = $396,000); ((4,000 x $10) + (1,600 x $8) = $52,800); ($396,000 + $52,800 = $448,800)] [(Units transferred out x (DM cost/unit + CC/unit) = Transferred out costs); (((End. WIP units x DM cost/unit) + ((End. WIP units x % complete) x CC/unit)) = End. WIP costs); (Transferred out costs + End. WIP costs = Tot. costs)] LO4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO EXERCISES EXERCISE 16A.1 1. True. 2. True. 3. False. Companies that produce soft drinks and computer chips would use process cost accounting. 4. False. In a job order cost system, costs are tracked by individual jobs. 5. False. Job order costing and process costing track the same three manufacturing cost elements. 6. True. 7. True. 8. False. In a process cost system, multiple work in process accounts are used. 9. False. In a process cost system, costs are summarized in a production cost report for each department. 10. False. Unit cost is the sum of the direct materials cost per equivalent unit and the conversion cost per equivalent unit. LO1 BT: C Difficulty: Easy TOT: 8 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.2 Manufacturing Costs Raw Materials Inventory Direct materials used Factory labor Manufacturing overhead assigned Transfer from Cooking to Canning
Factory Labor
Work in Process
Manufacturing Overhead
-$30,000 $15,500
-$57,300
Cooking Canning +$21,000 +8,500
+$9,000 +7,000
+31,500
+25,800
-53,000
+53,000
LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.3 (a) Work in process, May 1 Started into production Total units to be accounted for Less: Transferred out Work in process, May 31
400 1,600 2,000 1,700 300
[(400 + 1,600) – 1,700 = 300] [(Beg. WIP + Started into production) – Transferred out = End. WIP]
(b) and (c) Units transferred out Work in process, May 31 300 x 100% 300 x 40%
Work in process, May 1 Costs added Total costs Equivalent units Unit costs
Equivalent Units Materials Conversion Costs 1,700 1,700 300 2,000
120 1,820
Materials $2,040 5,160 $7,200 2,000 $3.60
Conversion Costs $1,550 3,910* $5,460 1,820 $3.00
*$2,530 + $1,380 [(DM: ($2,040 + $5,160) ÷ (1,700 + 300) = $3.60); (CC: ($1,550 + ($2,530 + $1,380)) ÷ (1,700 + (300 x 40%)) = $3.00)] [(DM: (Beg. WIP costs + DM costs added) ÷ (Units transferred out + Units in end. WIP) = DM cost/unit); (CC: (Beg. WIP costs + (DL + OH costs added)) ÷ (Units transferred out + Equiv. units in end. WIP) = CC/unit)]
(d) Transferred out (1,700 x $6.60) (e) Work in process Materials (300 x $3.60) Conversion costs (120 x $3.00)
$11,220 $ 1,080 360 $ 1,440
LO2, 3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.4 Manufacturing Costs Raw Materials Inventory 1. Direct materials purchased 2. Factory labor incurred 3.Manufacturing overhead incurred 4. Direct materials used 5. Factory labor assigned 6. Manufacturing Overhead assigned 7. Transfer from Cutting to Assembly 8. Transfer from Assembly to Finished Goods 9. Record Cost of Goods Sold
Work in Process Fi
Factory Labor
Manufacturing Overhead
Cutting
Assembly
In
+$62,500 +$60,000 +$70,000 -24,600 -60,000 -61,200
+$15,700
+$8,900
+33,000
+27,000
+30,240*
+30,960**
-67,600
+67,600
-109,000
*(1,680 x $18); **(1,720 x $18) LO2 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Repor
16A-17
EXERCISE 16A.5 (a) Units to be accounted for Beginning work in process Started into production Total units Units accounted for Transferred out Ending work in process Total units
January
May
0 13,000 13,000
0 21,000 21,000
11,000 2,000 13,000
14,000 7,000 21,000
[(Jan: (0 + 13,000) = (11,000 + (13,000 – 11,000)); (May: (0 + 21,000) = (14,000 + (21,000 – 14,000)] [(Jan: (Beg. WIP + Started into production) = (Transferred out + (Tot. units – Transferred out); (May: (Beg. WIP + Started into production) = (Transferred out + (Tot. units – Transferred out)]
(b)
(1) January March May July
Materials 13,000 (11,000 + 2,000) 15,000 (12,000 + 3,000) 21,000 (14,000 + 7,000) 11,500 (10,000 + 1,500)
(2)
Conversion Costs 12,200 (11,000 + 1,200) 12,900 (12,000 + 900) 19,600 (14,000 + 5,600) 10,600 (10,000 + 600)
[Jan. (DM: 11,000 + (2,000 x 100%) = 13,000); (CC: 11,000 + (2,000 x 60%) = 12,200)] [Jan. (DM: Units transferred out + (Units in end. WIP x % complete) = Equiv. units); (CC: Units transferred out + (Units in end. WIP x % complete) = Equiv. units)] LO3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.6 (a) Units transferred out Work in process, July 31 3,000 x 100% 3,000 x 60% Total equivalent units
(1) Materials 12,000
(2) Conversion Costs 12,000
3,000 15,000
1,800 13,800
(b) Materials: $45,000 ÷ 15,000 = $3.00 Conversion costs: ($16,200 + $18,300) ÷ 13,800 = $2.50 [(DM: $45,000 ÷ (12,000 + 3,000) = $3.00); (CC: ($16,200 + $18,300) ÷ (12,000 + (3,000 x 60%)) = $2.50)] [(DM: DM costs ÷ (Units transferred out + Units in end. WIP) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete) = CC/unit)]
Costs accounted for Transferred out (12,000 x $5.50) Work in process, July 31 Materials (3,000 x $3.00) Conversion costs (1,800 x $2.50) Total costs
$66,000 $9,000 4,500
13,500 $79,500
LO3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.7 QUIK FURNITURE COMPANY Sanding Department Production Cost Report For the Month Ended March 31, 2025
Quantities
Physical Units
Units to be accounted for Work in process, March 1 Started into production Total units
0 10,000 10,000
Units accounted for Transferred out Work in process, March 31 Total units
7,000 3,000 10,000
Equivalent Units Conversion Materials Costs
7,000 3,000 10,000
7,000 600 7,600
Costs
Materials
Conversion Costs
Unit costs Total cost Equivalent units Unit costs (a) ÷ (b)
$33,000 10,000 $3.30
$57,000* 7,600 $7.50
Costs to be accounted for Work in process, March 1 Started into production Total costs
(3,000 X 20%)
Total $90,000 $10.80
$
0 90,000 $90,000
Cost Reconciliation Schedule Costs accounted for Transferred out (7,000 x $10.80) Work in process, March 31 Materials (3,000 x $3.30) Conversion costs (600 x $7.50) Total costs
$75,600 $9,900 4,500
14,400 $90,000
*$21,000 + $36,000 LO3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting [(DM: $33,000 ÷ (7,000 + 3,000) = $3.30); (CC: ($21,000 + $36,000) ÷ (7,000 + (3,000 x 20%)) = $7.50)] [(DM: DM costs ÷ (Units transferred out + Units in end. WIP) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete) = CC/unit)]
EXERCISE 16A.8 (a)
(1)
Units transferred out Work in process, April 30 1,000 x 100% 1,000 x 40% Equivalent units of production
Materials 17,000 1,000 18,000
(b) Total cost Equivalent units Unit costs
(2) Conversion Costs 17,000
Materials $900,000(*) 18,000 $ 50
400 17,400
Conversion Costs $435,000(**) 17,400 $ 25
Total $1,335,000 $
75
(*)
$100,000 + $800,000 $ 70,000 + $365,000
(**)
[(DM: ($100,000 + $800,000) ÷ (17,000 + 1,000) = $50); (CC: ($70,000 + $365,000) ÷ (17,000 + (1,000 x 40%)) = $25)] [(DM: (DM costs in beg. WIP + DM costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: CC in beg. WIP + CC costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
(c) Transferred out (17,000 x $75) Work in process Materials (1,000 x $50) Conversion costs (400 x $25) Total costs
$1,275,000 $50,000 10,000
60,000 $1,335,000
LO3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.9 (a) Materials: 30,000* + 6,000 = 36,000 Conversion costs: 30,000* + (6,000 x 40%) = 32,400 *36,000 – 6,000 (b) Materials: $72,000 ÷ 36,000 = $2.00 Conversion costs: ($61,000 + $101,000) ÷ 32,400 = $5.00 [(DM: $72,000 ÷ (30,000 + 6,000) = $2); (CC: ($61,000 + $101,000) ÷ (30,000 + (6,000 x 40%)) = $5)] [(DM: DM costs ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
EXERCISE 16A.9 (Continued) (c) Transferred out: 30,000 x ($5.00 + $2.00) = $210,000 Ending work in process: Materials (6,000 x $2.00) Conversion costs (2,400 x $5.00) Total
= =
$12,000 12,000 $24,000
LO3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.10 (a) Beginning work in process Units started into production Units to account for
Physical Units 20,000 164,000 184,000
Units transferred out Ending work in process Units accounted for
160,000 24,000 184,000
(b) Costs incurred Equivalent units Unit costs
Materials $101,200 184,000 $0.55
Equivalent Units
Conversion Materials Costs 160,000 160,000 24,000 14,400 (60% x 24,000) 184,000 174,400
Conversion Costs $348,800 174,400 $2.00
Total $450,000 $2.55
[(DM: $101,200 ÷ (160,000 + 24,000) = $0.55); (CC: ($164,800 + $184,000) ÷ (160,000 + (24,000 x 60%)) = $2.00)] [(DM: DM costs ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (DL + OH costs) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
(c) Assignment of costs: Transferred out (160,000 x $2.55) Ending work in process Materials (24,000 x $0.55) Conversion costs (14,400 x $2.00) Total costs LO3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic Cost Accounting
$408,000 $13,200 28,800
42,000 $450,000
AICPA FC: Reporting IMA: Reporting & Control:
EXERCISE 16A.11 (a) Work in process, September 1 Units started into production Units to account for
Physical Units 1,600 42,900 44,500
Units transferred out Work in process, September 30 Units accounted for
39,500 5,000 44,500
Units transferred out Work in process 5,000 x 100% 5,000 x 10%
Equivalent Units Materials Conversion Costs 39,500 39,500 5,000 44,500
(b)
500 40,000
Materials Work in process, September 1 Direct materials Costs added to production during September Total materials cost
$ 20,000 175,800 $195,800
$195,800 ÷ 44,500 = $4.40 (Materials cost per unit) Conversion Costs Work in process, September 1 Conversion costs Costs added to production during September Conversion costs ($125,680 + $257,140) Total conversion costs
$ 43,180
382,820 $426,000 $426,000 ÷ 40,000 = $10.65 (Conversion cost per unit) [(DM: ($20,000 + $175,800) ÷ (39,500 + 5,000) = $4.40); (CC: ($43,180 + ($125,680 + $257,140)) ÷ (39,500 + (5,000 x 10%)) = $10.65)]
[(DM: (DM costs in beg. WIP + DM costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (CC in beg. WIP + (DL + OH costs added)) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
EXERCISE 16A.11 (Continued) (c) Costs accounted for Transferred out (39,500 x ($4.40 + $10.65)) Work in process, September 30 Materials (5,000 x $4.40) Conversion costs (500 x $10.65) Total costs
$594,475 $22,000 5,325
27,325 $621,800
LO3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.12 To:
David Skaros
From:
Student
Re:
Ending inventory
The reason for any confusion related to your department’s ending inventory quantity stems from the fact that the quantity can be measured in two different ways, depending on what the information is used for. The ending inventory quantity can be measured in physical units or equivalent units. Physical units are actual units present without regard to the stage of completion. Your department’s ending inventory in physical units is at least double the amount reported as equivalent units. Equivalent units measure the work done on the physical units, expressed in terms of fully completed units. Therefore, if your ending inventory contains 4,000 units which are 50% complete, that is equivalent to having 2,000 completed units at month end. Therefore, the ending inventory could be expressed as containing 4,000 physical units or 2,000 equivalent units. I hope this clears up any misunderstandings. Please contact me if you have any further questions. LO4 BT: S Difficulty: Moderate TOT: 12 min. AACSB: Communication AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.13 HEALTHY COMPANY Welding Department Production Cost Report For the Month Ended February 28, 2025
Quantities
Physical Units
Equivalent Units Conversio Materials n Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, February 1 Started into production Total units
15,000 51,000 66,000
Units accounted for Transferred out Work in process, February 28 Total units
55,000 11,000 66,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
55,000 11,000 66,000
55,000 2,200 57,200
Materials
Conversion Costs
(a) $198,000(1) (b) 66,000 $3.00
$143,000(2) 57,200 $2.50
Costs to be accounted for Work in process, February 1 Started into production Total costs
(11,000 X 20%)
Total $341,000 $5.50
$ 32,175 308,825(3) $341,000
Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (55,000 x $5.50) Work in process, February 28 Materials (11,000 x $3.00) Conversion costs (2,200 x $2.50) Total costs
$302,500 $33,000 5,500
38,500 $341,000
(1)
$18,000 + $180,000 $14,175 + $67,380 + $61,445 (3) $180,000 + $67,380 + $61,445 (2)
LO3, 4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.13 (Continued) [(DM: ($18,000 + $180,000) ÷ (55,000 + 11,000) = $3.00); (CC: ($14,175 + $67,380 + $61,445) ÷ (55,000 + (11,000 x 20%)) = $2.50)] [(DM: (DM costs in beg. WIP + DM costs added) ÷ (Units transferred out + (Units in end. WIP x % complete)) = DM cost/unit); (CC: (CC in beg. WIP + (DL + OH costs added)) ÷ (Units transferred out + (Units in end. WIP x % complete)) = CC cost/unit)]
EXERCISE 16A.14 (a)
Containers in transit, April 1 Containers loaded Total containers
0 1,200 1,200
Containers off-loaded Containers in transit, April 30 Total containers
850 350 1,200
(b) Containers off-loaded Containers in transit, April 30 Total equivalent units *350 x 40% = 140 **350 x 20% = 70
Equivalent Units Physical Direct Conversion Materials Units Costs 850 850 850 350 140* 70** 990 920
LO3, 4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 16A.15 (a) Applications transferred out Work in process, September 30 Equivalent units *100 + 1,000 – 800 = 300 **300 x 60% = 180
Materials 800 300* 1,100
Conversion Costs 800 180** 980
EXERCISE 16A.15 (Continued) (b) Materials: ($1,000 + $4,500) ÷ 1,100 = $5.00 Conversion costs: $25,480* ÷ 980 = $26.00 Costs accounted for: Transferred out (800 x $31.00) Work in process, September 30 Materials (300 x $5.00) Conversion costs (180 x $26.00) Total costs *($3,960 + $12,000 + $9,520)
$24,800 $1,500 4,680
6,180 $30,980
[(Transfrd. out: 800 x $31 = $24,800); (End. WIP: (300 x $5) + (180 x $26) = $6,180); ($24,800 + $6,180 = $30,980)] [(Transfrd. out: units transfrd. out x Cost/unit = Costs transfrd. out); (End. WIP: (DM units x Cost/DM unit) + (CC units x Cost/CC unit) = Cost of end. WIP); (Costs transfrd. out + Cost of end. WIP = Tot. costs)] LO3, 4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16A.16
(a) Applications completed: Work in process, September 1 Started and completed Work in process, September 30 Total units
Physical Units 100 700 300 1,100
Equivalent Units Conversion Materials Costs 0 700 300 1,000
60 700 180 940
[(Mat.: 0 + 700 + (300 x 100%) = 1,000); (CC: (100 x 60%) + 700 + (300 x 60%) = 940)] [(Mat.: Units of beg. WIP + Units started & compltd. + (Units of end. WIP x % compltd.) = Tot. equiv. units); (CC: (Units of beg. WIP x % compltd.) + Units started & compltd. + (Units of end WIP x % compltd.) = Tot. equiv. units)]
(b) Materials: $4,500 ÷ 1,000 = $4.50 Conversion costs: $21,620* ÷ 940 = $23.00 *($12,000 + $9,620) [(Mat.: $4,500 ÷ 1,000 = $4.50); (CC: ($12,000 + $9,620) ÷ 940 = $23.00)] [(Mat.: DM costs ÷ Tot. mat. equiv. units = DM cost/unit); (CC: (Labor cost + OH cost) ÷ Tot. CC equiv. units = CC/unit)]
*EXERCISE 16A.16 (Continued) Costs accounted for: Applications completed: Work in process, September 1 Conversion costs (60 x $23.00) Started and completed (700 x $27.50) Work in process, September 30: Materials (300 x $4.50) Conversion costs (180 x $23.00) Total costs
$4,960 1,380
$ 6,340 19,250 1,350 4,140
$25,590 5,490 $31,080*
*Total costs to be accounted for: $1,000 + $3,960 + $4,500 + $12,000 + $9,620 = $31,080 LO5 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16A.17 (a) (1) Materials: Production Data
Physical Units
Materials Added This Period
Equivalent Units
Work in process, August 1 Started and completed Work in process, August 31 Total
0 10,000 2,000 12,000
0 100% 100%
0 10,000 2,000 12,000
[0 + (10,000 x 100%) + (2,000 x 100%) = 12,000] [Units in beg. WIP + (Units started & compltd. x % compltd.) + (Units in end. WIP x % compltd.) = Tot. equiv. units]
(2) Conversion Costs: Production Data
Physical Units
Work Added This Period
Equivalent Units
Work in process, August 1 Started and completed Work in process, August 31 Total
0 10,000 2,000 12,000
0 100% 40%
0 10,000 800 10,800
[0 + (10,000 x 100%) + (2,000 x 40%) = 10,800] [Units in beg. WIP + (Units started & compltd. x % compltd.) + (Units in end. WIP x % compltd.) = Tot. equiv. units]
*EXERCISE 16A.17 (Continued) (b) Unit costs are: Materials Conversion costs Total
$45,000 ÷ 12,000 = $3.75 $29,700* ÷ 10,800 = 2.75 $6.50
*$13,600 + $16,100 [(Mat.: $45,000 ÷ 12,000 = $3.75); (CC: ($13,600 + $16,100) ÷ 10,800 = $2.75)] [(Mat.: DM costs ÷ Mat. equiv. units = DM/unit); (CC: (Labor + OH) ÷ CC equiv. units = CC/unit)]
Costs to Be Assigned
Equivalent Units
Unit Cost
Total mfg. costs Transferred out Work in process, August 1 $74,700 (1) Started and completed
0 10,000
$ 0 $6.50
$
Work in process, August 31 Materials Conversion costs
2,000 800
$3.75 $2.75
$ 7,500 2,200
Assignment of Costs
Total Costs Assigned 0 65,000
$65,000
9,700 $74,700
(1) $45,000 + $13,600 + $16,100. LO5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16A.18 (a)
(1) Materials
Physical Units
Materials Added This Period
Equivalent Units
Work in process, September 1 Started and completed Work in process, September 30 Total
2,000 9,000 1,000 12,000
0% 100% 100%
0 9,000 1,000 10,000
[0 + (9,000 x 100%) + (1,000 x 100%) = 10,000] [Beg. WIP + (Units started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. mat. equiv. units]
(2) Conversion Costs
Physical Units
Work Added This Period
Equivalent Units
Work in process, September 1 Started and completed Work in process, September 30 Total
2,000 9,000 1,000 12,000
80% 100% 40%
1,600 9,000 400 11,000
[(2,000 x 80%) + (9,000 x 100%) + (1,000 x 40%) = 11,000] [(Beg. WIP x % compltd.) + (Units started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. CC equiv. units]
*EXERCISE 16A.18 (Continued) (b) Materials Conversion costs
$ 60,000 ÷ 10,000 = $ 6 $132,000 ÷ 11,000 = 12 $18
[(Mat.: $60,000 ÷ 10,000 = $6); (CC: $132,000 ÷ 11,000 = $12)] [(Mat.: [(Mat.: DM costs ÷ Mat. equiv. units = DM/unit); (CC: CC ÷ CC equiv. units = CC/unit)]
(c)
Costs to Be Assigned Total mfg. costs
$207,200*
Assignment of Costs
Equivalent Units
Transferred out Work in process, 9/1 0 Conversion costs 1,600 Started and completed 9,000 Total costs transferred out Work in process, 9/30 Materials 1,000 Conversion costs 400 Total costs
Unit Cost
Total Costs Assigned
$ 0 $12 $18
$15,200 19,200
$ 6 $12
$6,000 4,800
$ 34,400 162,000 196,400
10,800 $207,200
*Work in process, September 1, $15,200 + materials costs $60,000 + labor and overhead costs $132,000. LO5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16A.19 (a) Work in process, March 1 Started into production Total units to be accounted for Less: Transferred out Work in process, March 31
800 1,100 1,900 1,500 400
(b) Materials: Physical Materials Added Production Data Units This Period Work in process, March 1 800 0 Started and completed 700 100% Work in process, March 31 400 100% Total 1,900
Equivalent Units 0 700 400 1,100
Unit cost = $6,600 ÷ 1,100 = $6.00. [(800 x 0%) + (700 x 100%) + (400 x 100%) = 1,100); ($6,600 ÷ 1,100 = $6.00)] [(Beg. WIP x % compltd.) + (Started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. Mat. equiv. units); (Mat. costs ÷ Mat. equiv. units = Mat. cost/unit)]
*EXERCISE 16A.19 (Continued) (c) Conversion costs: Physical Production Data Units Work in process, March 1 800 Started and completed 700 Work in process, March 31 400 Total 1,900
Work Added This Period 70% 100% 40%
Equivalent Units 560 700 160 1,420
Unit cost = $2,400 + $1,150 = $3,550 ÷ 1,420 = $2.50. [(800 x 70%) + (700 x 100%) + (400 x 40%) = 1,420); (($2,400 + $1,150) ÷ 1,420 = $2.50)] [(Beg. inv. x % compltd.) + (Started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. CC equiv. units); ((Labor + OH costs) ÷ CC equiv. units = CC/unit)]
(d) In process, March 1 ......................................................... $3,680 Conversion costs (560 X $2.50) ...................................... 1,400 Total cost.......................................................................... $5,080 [$3,680 + (560 x $2.50) = $5,080] [Beg. WIP costs + (Equiv. units added x CC/unit) = Tot. cost]
(e) 700 x ($6.00 + $2.50) = $5,950. (f)
Materials (400 x $6.00)..................................................... Conversion costs (160 x $2.50)....................................... Total cost of work in process, March 31 ........................
$2,400 400 $2,800
LO5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 16A.20 MAJESTIC COMPANY Welding Department Production Cost Report For the Month Ended February 28, 2025
Quantities
Equivalent Units Conversion Materials Costs (Step 2)
Physical Units (Step 1)
Units to be accounted for Work in process, February 1 Started into production Total units
15,000 64,000 79,000
Units accounted for Completed and transferred out Work in process, February 1 Started and completed Total Work in process, February 28 Total units
15,000 39,000* 54,000 25,000 79,000
0 39,000 39,000 25,000 64,000
13,500 (15,000 X 90%) 39,000 52,500 5,000 (25,000 X 20%) 57,500
*(64,000 – 25,000) [(Mat.: 0 + (39,000 x 100%) + (25,000 x 100%) = 64,000); (CC: (15,000 x 90%) + (39,000 x 100%) + (25,000 x 20%) = 57,500)] [(Mat.: Beg. WIP + (Started & compltd. x % compltd.) + (End. WIP x % compltd.) = Tot. equiv. units); (CC: (beg. WIP x % compltd.) + (Started & compltd. x % comptd.) + (End. WIP x % compltd.) = Tot. equiv. units)]
Costs Unit costs (Step 3) Costs in February Equivalent units Unit costs (a) ÷ (b) Costs to be accounted for Work in process, February 1 Started into production Total costs
(a) (b)
Materials
Conversion Costs
$192,000 (1) 64,000 $3.00
$103,500 (2) 57,500 $1.80
Total $295,500 $4.80
$ 32,175 295,500 $327,675
[(Mat.: ($57,000 + $135,000) ÷ 64,000 = $3.00); (CC: ($35,100 + $68,400) ÷ 57,500 = $1.80); ($32,175 + ($192,000 + $103,500) = $327,675)] [(Mat.: Mat. costs + Transfrd. in costs) ÷ Equiv. units = Mat. cost/unit); (CC: (Labor + OH costs) ÷ Equiv. units = CC/unit); (Beg. WIP costs + (Mat. costs added + CC added) = Tot. costs to be acctd. for)]
*EXERCISE 16A.20 (Continued) Cost Reconciliation Schedule Costs accounted for (Step 4) Transferred out Work in process, February 1 Costs to complete beginning work in process Conversion costs (13,500 x $1.80) Total costs Units started and completed (39,000 x $4.80) Total costs transferred out Work in process, February 28 Materials (25,000 x $3.00) Conversion costs (5,000 x $1.80) Total costs
$32,175
24,300 $ 56,475 187,200 $243,675 75,000 9,000
84,000 $327,675
(1) Cost of materials added $57,000 plus costs transferred in $135,000. (2) Labor $35,100 plus overhead $68,400. LO5 BT: AP Difficulty: Moderate TOT:20 AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
Manufacturing Costs Raw Materials Inventory 1. Direct materials purchased 2. Direct materials used
Factory Labor
Work in Process
Manufacturing Overhead
Mixing
Packaging
Finished Goods Inventory
+$300,000 -255,000
3.Factory labor incurred 4. Factory labor assigned 5. Manufacturing overhead incurred 6. Manufacturing Overhead assigned 7. Transfer from Mixing to Packaging 8. Transfer from Packaging to Finished Goods 9. Record Cost of Goods Sold *(28,000 x $23); **(6,000 x $23)
+$210,000
+$45,000
+182,500
+96,400
+644,000*
+138,000**
-979,000
+979,000
+$278,900 -278,900 +$810,000 -782,000
-1,215,000
+$1,215,000 -1,100,000
LO2 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation IMA: R Accounting
PROBLEM 16A.2
(a) Physical units Units to be accounted for Work in process, June 1 Started into production Total units
0 22,000 22,000
Units accounted for Transferred out Work in process, June 30 Total units
20,000 2,000 22,000
(b) Equivalent units Units transferred out Work in process, June 30 2,000 x 100% 2,000 x 40% Total equivalent units
Materials 20,000
Conversion Costs 20,000
2,000 800 20,800
22,000
[(Mat.: 20,000 + (2,000 x 100%) = 22,000); (CC: 20,000 + (2,000 x 40%) = 20,800)] [(Mat.: Units transfrd. out + (End. WIP units x % compltd.) = Tot. equiv. units); (CC: Units transfrd. out + (End. WIP units x % compltd.) = Tot. equiv. units)]
(c) Materials Conversion costs Total unit cost
Unit Costs $9.00 ($198,000 ÷ 22,000) $8.00 ($166,400* ÷ 20,800) $17.00 ($9.00 + $8.00)
*$53,600 + $112,800 [(Mat.: $198,000 ÷ 22,000 = $9); (CC: ($53,600 + $112,800) ÷ 20,800 = $8); ($9 + $8 = $17)] [(Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit); (CC: (Labor + OH costs) ÷ CC equiv. units = CC/unit); (Mat. cost/unit + CC/unit = Cost/compltd. unit)]
(d) Costs accounted for Transferred out (20,000 x $17.00) Work in process, June 30 Materials (2,000 x $9.00) Conversion costs (800 x $8.00) Total costs
$340,000 $18,000 6,400
24,400 $364,400
[(20,000 x $17) + ((2,000 x $9) + (800 x $8)) = $364,400] [(Units transfrd. out x Cost/compltd. unit) + ((Mat. equiv. units x Mat. cost/unit) + (CC equiv. units x CC/unit)) = Tot. costs acctd. for]
PROBLEM 16A.2 (Continued) (e)
ROSENTHAL COMPANY Molding Department Production Cost Report For the Month Ended June 30, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, June 1 Started into production Total units
0 22,000 22,000
Units accounted for Transferred out Work in process, June 30 Total units
20,000 2,000 22,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
20,000 2,000 22,000
20,000 800 (2,000 X 40%) 20,800
Materials
Conversion Costs
(a) $198,000 (b) 22,000 $9.00
$166,400 20,800 $8.00
Costs to be accounted for Work in process, June 1 Started into production Total costs
Total $364,400 $17.00
$ 0 364,400 $364,400
Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (20,000 x $17.00) Work in process, June 30 Materials (2,000 x $9.00) Conversion costs (800 x $8.00) Total costs
$340,000 $18,000 6,400
24,400 $364,400
LO3, 4 BT: AP Difficulty: Simple TOT: 40 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 16A.3
(a) (1) Physical units T12 Tables Units to be accounted for Work in process, July 1 Started into production Total units
0 20,000 20,000
Units accounted for Transferred out Work in process, July 31 Total units
17,000 3,000 20,000
(2) Equivalent units
Units transferred out Work in process, July 31 (3,000 X 100%) (3,000 X 60%) Total equivalent units
T12 Tables Conversion Materials Costs 17,000 17,000 3,000 1,800 18,800
20,000
[(Mat.: 17,000 + (3,000 x 100%) = 20,000); (CC: 17,000 + (3,000 x 60%) = 18,800)] [(Mat.: Units transfrd. out + (End. WIP units x % compltd. = Mat. equiv. units); (CC: Units transfrd. out + (End. WIP units x % compltd. = CC equiv. units)]
(3) Unit costs
Materials ($380,000 ÷ 20,000) Conversion costs ($338,400(*) ÷ 18,800) Total
T12 Tables $19 18 $37
(*)
$234,400 + $104,000
[T12: (Mat.: $380,000 ÷ 20,000 = $19) + (CC: ($234,400 + $104,000) ÷ 18,800 = $18); ($19 + $18 = $37)] [T12: (Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit) + (CC: (Labor + OH costs) ÷ CC equiv. units = CC/unit); (Mat. cost/unit + CC/unit = Cost/ compltd. unit)]
PROBLEM 16A.3 (Continued) (4)
T12 Tables Costs accounted for Transferred out (17,000 x $37) Work in process Materials (3,000 x $19) Conversion costs (1,800 x $18) Total costs
$629,000 $57,000 32,400
89,400 $718,400
[T12: (17,000 x $37) + ((3,000 x $19) + (1,800 x $18)) = $718,400] [T12: (Units transfrd. out x Cost/compltd. unit) + ((Mat. end. WIP units x Mat. cost/unit) + (CC end. WIP units x CC/unit)) = Tot. costs acctd. for]
PROBLEM 16A.3 (Continued) (b)
THAKIN INDUSTRIES INC. Cutting Department Production Cost Report For the Month Ended July 31, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, July 1 Started into production Total units
0 20,000 20,000
Units accounted for Transferred out Work in process, July 31 Total units
17,000 3,000 20,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
17,000 3,000 20,000
17,000 1,800 (3,000 x 60%) 18,800
Materials
Conversion Costs
(a) $380,000 (b) 20,000 $ 19
$338,400 18,800 $ 18
Costs to be accounted for Work in process, July 1 Started into production Total costs
Total $718,400 $
37
$
0 718,400 $718,400
Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (17,000 x $37) Work in process, July 31 Materials (3,000 x $19) Conversion costs (1,800 x $18) Total costs
$629,000 $57,000 32,400
89,400 $718,400
LO3, 4 BT: AP Difficulty: Simple TOT: 40 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 16A.4
(a) Physical Units Units to be accounted for Work in process, November 1 Started into production Total units
35,000 660,000 695,000
Units accounted for Transferred out Work in process, November 30 Total units
670,000 25,000 695,000
Equivalent Units Conversion Materials Costs
670,000 25,000 695,000
670,000 10,000* 680,000
*25,000 x 40% [(Mat.: 670,000 + (25,000 x 100%) = 695,000); (CC: 670,000 + (25,000 x 40%) = 680,000)] [(Mat.: Units transfrd. out + (End. WIP units x % compltd.) = Mat. equiv. units); (CC: Units transfrd. out + (End. WIP units x % compltd.) = CC equiv. units);
Beginning work in process Added during month Total Equivalent units Cost per unit
Materials cost
Conversion costs
$ 79,000 1,589,000 $1,668,000
$ 48,150 563,850 $612,000
695,000
680,000
$2.40
$.90
($225,920 + $337,930)
$3.30
[(Mat.: ($79,000 + $1,589,000) ÷ 695,000 = $2.40); (CC: ($48,150 + ($225,920 + $337,930)) ÷ 680,000 = $.90)] [(Mat.: (Beg. WIP + Mat. cost added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (Beg. WIP + (Labor + OH costs added)) ÷ CC equiv. units = CC/unit)]
(b) Costs accounted for Transferred out (670,000 x $3.30) Work in process, November 30 Materials (25,000 x $2.40) Conversion costs (10,000 x $.90) Total costs
$2,211,000 $60,000 9,000
69,000 $2,280,000
[(670,000 x $3.30) + ((25,000 x $2.40) + (10,000 x $.90)) = $2,280,000] [(Units transfrd. out x Cost/compltd. unit) + ((Mat. equiv. units in end. WIP x Mat. cost/unit) + (CC equiv. units in end. WIP x CC/unit)) = Tot. costs to be acctd. for]
PROBLEM 16A.4 (Continued) (c)
RIVERA COMPANY Assembly Department Production Cost Report For the Month Ended November 30, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, November 1 Started into production Total units
35,000 660,000 695,000
Units accounted for Transferred out Work in process, November 30 Total units
670,000 25,000 695,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
670,000 25,000 695,000
670,000 10,000 (25,000 x 40%) 680,000
Materials
Conversion Costs
(a) $1,668,000 (b) 695,000 $2.40
$612,000 680,000 $.90
Costs to be accounted for Work in process, November 1 Started into production Total costs
Total $2,280,000 $3.30
$ 127,150 2,152,850(*) $2,280,000
Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (670,000 x $3.30) Work in process, November 30 Materials (25,000 x $2.40) Conversion costs (10,000 x $.90) Total costs
$2,211,000 $60,000 9,000
69,000 $2,280,000
(*) $1,589,000 + $225,920 + $337,930
LO3, 4 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA FC: Reporting IMA: Cost Management, Reporting
PROBLEM 16A.5
(a)
(1)
Equivalent Units Physical Units Units to be accounted for Work in process, July 1 Started into production Total units
500 1,000 1,500
Units accounted for Transferred out Work in process, July 31 Total units
900 600 1,500
Materials
Conversion Costs
900 600 1,500
900 240* 1,140
*600 x 40% [(Mat.: 900 + (600 x 100%) = 1,500); (CC: 900 + (600 x 40%) = 1,140)] [(Mat.: Units transfrd. out + (Units in end. WIP x % compltd.) = Mat. equiv. units); (CC: Units transfrd. out + (Units in end. WIP x % compltd.) = CC equiv. units)]
(2)
Materials cost
Conversion costs
Beginning work in process Added during month Total
$ 750 2,400 $3,150
$ 600 2,820 $3,420
Equivalent units
1,500
1,140
Cost per unit
$2.10
$3.00
($1,580 + $1,240)
$5.10
[(Mat.: ($750 + $2,400) ÷ 1,500 = $2.10); (CC: ($600 + ($1,580 + $1,240)) ÷ 1,140 = $3.00)] [(Mat.: (Beg. WIP + Costs added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (Beg. WIP + (Labor + OH costs added)) ÷ CC equiv. units = CC/unit)]
(3) Costs accounted for Transferred out (900 x $5.10) Work in process, July 31 Materials (600 x $2.10) Conversion costs (240 x $3.00) Total costs
$4,590 $1,260 720
1,980 $6,570
[(900 x $5.10) + ((600 x $2.10) + (240 x $3.00)) = $6,570] [(Units transfrd. out x Cost/compltd. unit) + ((Mat. equiv. units in end. WIP x Mat. cost/unit) + (CC equiv. units in end. WIP x CC/unit)) = Tot. costs acctd. for]
PROBLEM 16A.5 (Continued) (b)
POLK COMPANY Basketball Department Production Cost Report For the Month Ended July 31, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, July 1 Started into production Total units
500 1,000 1,500
Units accounted for Transferred out Work in process, July 31 Total units
900 600 1,500
Costs Unit costs (Step 3) Total costs Equivalent units Unit costs (a) ÷ (b)
(a) (b)
900 600 1,500
900 240 1,140
Materials
Conversion Costs
$3,150 1,500 $2.10
$3,420 1,140 $3.00
Costs to be accounted for Work in process, July 1 Started into production Total costs
Total $6,570 $5.10
$1,350 5,220 $6,570
Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (900 x $5.10) Work in process, July 31 Materials (600 x $2.10) Conversion costs (240 x $3.00) Total costs
$4,590 $1,260 720
1,980 $6,570
LO3, 4 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
PROBLEM 16A.6
(a) Computation of equivalent units:
Units accounted for Transferred out Work in process, October 31 (60% materials, 40% conversion costs) Total units
Physical Units
Equivalent Units Conversion Materials Costs
120,000
120,000
120,000
50,000 170,000
30,000 150,000
20,000 140,000
[(Mat.: 120,000 + (50,000 x 60%) = 150,000); (CC: 120,000 + (50,000 x 40%) = 140,000)] [(Mat.: Units transfrd. out + (Units in end. WIP x % compltd.) = Tot. equiv. units); (CC: Units transfrd. out + (Units in end. WIP x % compltd.) = Tot. equiv. units)]
Computation of October unit costs Materials: $240,000 ÷ 150,000 equivalent units = $1.60 Conversion cost: $105,000 ÷ 140,000 equivalent units = .75 Total unit cost, October $2.35 [(Mat.: $240,000 ÷ 150,000 = $1.60); (CC: $105,000 ÷ 140,000 = $.75); ($1.60 + $.75 = $2.35)] [(Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit); (CC: CC ÷ CC equiv. units = CC/unit); (Mat. cost/unit + CC/unit = Tot. cost/compltd. unit)]
(b) Cost Reconciliation Schedule Costs accounted for Transferred out (120,000 x $2.35) Work in process, October 31 Materials (30,000 x $1.60) Conversion costs (20,000 x $0.75) Total costs
$282,000 $48,000 15,000
63,000 $345,000
LO3, 4 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
*PROBLEM 16A.7
(a) Bicycles (1) Equivalent units—Materials Materials Added This Period
Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
200 700 (1,000 – 300) 300 1,200
Equivalent Units
0%* 100% 100%
0 700 300 1,000
*All materials are added at the beginning of the production process. [(200 x 0%) + (700 x 100%) + (300 x 100%) = 1,000] [(Beg. WIP units x % mat. added) + (Units started and compltd. x % mat. added) + (End. WIP units x % mat. added) = Tot. mat. equiv. units]
Equivalent units—Conversion costs Conversion Added This Period
Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
200 700 (1,000 – 300) 300 1,200
Equivalent Units
20% (1 – .8) 100% 40%
40 700 120 860
[(200 x 20%) + (700 x 100%) + (300 x 40%) = 860] [(Beg. WIP units x % CC added) + (Units started and compltd. x % CC added) + (End. WIP units x % CC added) = Tot. CC equiv. units]
(2) Unit costs
Costs in March (a) Equivalent units (b) Unit costs (a) ÷ (b)
Materials $50,000 1,000 $ 50
Conversion Costs $55,900** 860 $ 65
**Direct Labor $25,900 + Manufacturing Overhead $30,000 [(Mat.: $50,000 ÷ 1,000 = $50); (CC: ($25,900 + $30,000) ÷ 860 = $65)] [(Mat.: Mat. costs ÷ Mat. equiv. units = Mat. cost/unit); (CC: (DL + OH costs) ÷ CC equiv. units = CC/unit)]
*PROBLEM 16A.7 (Continued) (3) Assignment of costs to units transferred out and in process Costs to Be Assigned Total mfg. costs $125,180***
Assignment of Costs
Equivalent Unit Units Cost
Transferred out Work in process, March 1 Conversion Started and completed Total costs transferred out Work in process, March 31 Materials Conversion costs Total costs
40 700
$ 65 $115
Total Costs Assigned $19,280 2,600 80,500 $102,380
300 120
$50 $65
15,000 7,800
22,800 $125,180
***Work in process, March 1, $19,280 + Materials $50,000 + Labor $25,900 + Overhead $30,000 ($19,280 + $50,000 + $25,900 + $30,000 = $125,180); (Beg. WIP + Mat. + Labor + OH = Tot. mfg. costs to be assigned) [($19,280 + (40 x $65) + (700 x $115)) + ((300 x $50) + (120 x $65)) = $125,180] [(Beg. WIP + (CC equiv. units x CC/unit) + (Started & complted. units x Cost/compltd. unit)) + ((End. WIP mat. units x Mat. cost/unit) + (End. WIP CC units x CC/unit)) = Tot. costs assigned]
Tricycles (1) Equivalent units—Materials Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
100 940 (1,000 – 60) 60 1,100
Materials Added This Period 0%* 100% 100%
Equivalent Units 0 940 60 1,000
*All materials are added at the beginning of the production process.
Equivalent units—Conversion costs Physical Units Work in process, March 1 Started and completed Work in process, March 31 Total
100 940 (1,000 – 60) 60 1,100
Conversion Added This Period 25% (1 – .75) 100% 25%
Equivalent Units 25 940 15 980
*PROBLEM 16A.7 (Continued) (2) Unit costs
Costs in March (a) Equivalent units (b) Unit costs (a) ÷ (b)
Conversion Costs $34,300** 980 $ 35
Materials $30,000 1,000 $ 30
**Direct Labor $14,300 + Manufacturing Overhead $20,000 (3) Assignment of costs to units transferred out and in process Costs to Be Assigned
Assignment of Costs
Total mfg. costs Transferred out Work in process, March 1 $70,425*** Conversion Started and completed Total costs transferred out Work in process, March 31 Materials Conversion costs Total costs
Equivalent Unit Units Cost
25 940
$35 $65
Total Costs Assigned $ 6,125 875 61,100 $68,100
60 15
$30 $35
1,800 525
2,325 $70,425
***Work in process, March 1, $6,125 + Materials $30,000 + Labor $14,300 + Overhead $20,000
*PROBLEM 16A.7 (Continued) (b)
OWEN COMPANY Production Cost Report—Bicycles For the Month Ended March 31
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, March 1 Started into production Total units
200 1,000 1,200
Units accounted for Completed and transferred out Work in process, March 1 Started and completed Work In process, March 31 Total units
200 700 300 1,200
0 700 300 1,000
Costs
Materials
Conversion Costs
Unit costs (Step 3) Costs in March (a) Equivalent units (b) Unit costs [(a) ÷ (b)]
$50,000 1,000 $ 50
$ 55,900 860 $ 65
Costs to be accounted for Work in process, March 1 Started into production Total costs Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out Work in process, March 1 Conversion costs to complete beginning inventory (40 X $65) Started and completed (700 X $115) Work in process, March 31 Materials (300 X $50) Conversion costs (120 X $65) Total costs
40 700 120 860 Total $105,900 $
$ 19,280 105,900* $125,180
$19,280 2,600 80,500 15,000 7,800
$102,380
22,800 $125,180
*($50,000 + $25,900 + $30,000) LO5 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
115
CD16A
DECISION-MAKING AT CURRENT DESIGNS CURRENT DESIGNS Fabrication Department Production Cost Report For the Month Ended April 30, 2025
Quantities
Physical Units Materials
Equivalent Units Conversion Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, April 1 Started into production Total units
30 72 102
Units accounted for Transferred out Work in process, April 30 Total units
67 35 102
Costs Unit costs (Step 3) Total cost* Equivalent units Unit costs [(a) ÷ (b)]
67 7 (35 X 20%) 74
Materials
Conversion Costs
(a) $25,900 (b) 74 $ 350
$48,600 81 $ 600
Costs to be accounted for Work in process, April 1 Started into production Total costs Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (67 x $950) Work in process, April 30 Materials (7 x $350) Conversion costs (14 x $600) Total costs
67 14 (35 X 40%) 81
Total $74,500 $
950
$17,400 57,100 $74,500
$63,650 $ 2,450 8,400
10,850 $74,500
*Material costs = $8,400 + $17,500 Conversion costs = $9,000 + $39,600 LO4 BT: AP Difficulty: Easy AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting [Step 3: (Mat.: ($8,400 + $17,500) ÷ 74 = $350); (CC: ($9,000 + $39,600) ÷ 81 = $600); (Costs: $17,400 + $57,100 = $74,500)] [Step 3: (Mat.: (Mat. in beg. WIP + Mat. added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (CC in beg. inv. + CC added) ÷ CC equiv. units = CC/unit); (Costs: Beg. WIP + Started into production = Tot. costs to be acctd. for)]
WC16A
WATERWAYS CORPORATION
(a) Production Cost Report—Weighted-Average Method
WATERWAYS CORPORATION Molding Department Production Cost Report For the month Ended January 31, 2025 Equivalent Units Physical Units
Conversion
Materials
Costs
Quantities Units to be accounted for: Work in process, Jan 1 (80% materials, 30% conversion)......... Started into production ................................................................ Total units.........................................................................................
22,000 60,000 82,000
Units accounted for: Transferred out .............................................................................. Work in process, Jan 31 (50% materials, 10% conversion)........ Total units.........................................................................................
58,000 24,000
58,000 12,000
58,000 2,400
82,000
70,000
60,400
Costs Unit costs Costs in January*.......................................................................... Equivalent units ............................................................................ Unit costs [(a)/ (b)] ......................................................................... Costs to be accounted for Work in process, January 1 .......................................................... Started into production ................................................................. Total costs .................................................................................... *Additional computations to support production costs report data: Materials cost—$168,360 + $264,940 Conversion costs—$67,564 + $17,270 + $289,468 + $60,578
Materials (a) (b)
$433,300 70,000 $6.19
Conversion Costs $434,880 60,400 $7.20
Total $868,180 $13.39 $253,194 614,986 $868,180
Cost Reconciliation Schedule Costs accounted for Transferred out (58,000 x $13.39) ................................................
$776,620
Work in process, Jan 31 Materials (12,000 x $6.19) ............................................................
74,280
Conversion (2,400 x $7.20) ..........................................................
17,280
Total costs
91,560 $868,180
WC16A (Continued) *(b) Equivalent Units—FIFO Method Equivalent Units Physical Units
Materials
Conversion Cost
Work in process, January 1 (20% materials, 70% conversion)
22,000
4,400
15,400
Started and completed in January ..............................................
36,000
36,000
36,000
Work in process, Jan 31 (50% materials, 10% conversion) ........
24,000
12,000
2,400
Total units .........................................................................................
82,000
52,400
53,800
Units accounted for Completed and transferred out
LO4, 5 BT: AP Difficulty: Moderate AACSB: Analytic AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
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CT16A.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) The unit cost suggests that Joe took the highest total costs and divided these costs by the units started into production. The highest total costs would be the total costs charged to the Mixing Department ($88,000 + $573,000 + $765,000) divided by the units started during July (100,000 gallons), which results in a per unit cost of $14.26 ($1,426,000 ÷ 100,000). (b) The principal errors made by Joe were: (1) he did not compute equivalent units of production; (2) he did not use the weighted-average costing method; and (3) he did not assign costs to ending work-inprocess.
CT16A.1 (Continued) (c)
FLORIDA BEACH COMPANY Mixing Department Production Cost Report For the Month Ended July 31, 2025
Quantities
Physical Units
Equivalent Units Conversion Materials Costs
(Step 1)
(Step 2)
Units to be accounted for Work in process, July 1 Started into production Total units
8,000 100,000 108,000
Units accounted for Transferred out Work in process, July 31 Total units
103,000 5,000 108,000
Costs Unit costs (Step 3) Total cost Equivalent units Unit costs (a) ÷ (b)
103,000 5,000 108,000
103,000 1,000 (5,000 x 20%) 104,000
Materials
Conversion Costs
(a) $594,000 (b) 108,000 $5.50
$832,000 104,000 $8.00
Costs to be accounted for Work in process, July 1 Started into production Total costs
Total $1,426,000 $13.50
$
88,000 1,338,000 $1,426,000
Cost Reconciliation Schedule (Step 4) Costs accounted for Transferred out (103,000 x $13.50) Work in process, July 31 Materials (5,000 x $5.50) Conversion costs (1,000 x $8.00) Total costs
$1,390,500 $27,500 8,000
35,500 $1,426,000
[Step 3: (Mat.: ($21,000 + $573,000) ÷ 108,000 = $5.50); (CC: ($67,000 + $765,000) ÷ 104,000 = $8.00); (Costs: $88,000 + $1,338,000 = $1,426,000)] [Step 3: (Mat.: (Mat. in beg. WIP + Mat. added) ÷ Mat. equiv. units = Mat. cost/unit); (CC: (CC in beg. inv. + CC added) ÷ CC equiv. units = CC/unit); (Costs: Beg. WIP + Started into production = Tot. costs to be acctd. for)] LO3, 4 BT: AN Difficulty: Easy TOT: 25 min. TOT Analytic AICPA FC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
CT16A.2
MANAGERIAL ANALYSIS
(a) The unit cost of materials is $150 ($450,000 ÷ 3,000). ($450,000 ÷ 3,000 = $150) (Mat. costs ÷ No. sofas started = Mat. cost/unit)
(b) The materials cost of the goods transferred out is $375,000 (2,500 x $150). Conversion costs, therefore, are $225,000 ($600,000 – $375,000), and per unit conversion cost is $90 ($225,000 ÷ 2,500). [(Mat.: 2,500 x $150 = $375,000); (CC: $600,000 - $375,000 = $225,000; $225,000 ÷ 2,500 = $90)] [(Mat.: Sofas transfrd. out x Mat. cost/unit = Mat. costs transfrd. out); (CC: Tot. costs transfrd. out – Mat. costs transfrd. out = CC transfrd. out; CC transfrd. out ÷ sofas transfrd. out = CC/unit)]
(c) There are 500 units in ending work-in-process inventory (3,000 started – 2,500 transferred out). The materials cost is $75,000 (500 x $150). Thus, the conversion costs in the inventory are $36,000 ($261,000 – $225,000). $36,000 divided by $90 per unit conversion cost equals 400 equivalent units or 80% (400 ÷ 500) complete. LO3 BT: AN Difficulty: Moderate TOT: 25 min. TOT Analytic AICPA FC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
CT16A.3
REAL-WORLD FOCUS
Answers will vary because different videos may be viewed. (a) The outer shell of the paintballs is made from a mixture that includes water, sweeteners, food ingredients, and most importantly, gelatin. All of the ingredients used to make paintballs are food grade, biodegradable products. The “paint” filling inside a paintball is comprised of the same inert ingredient used in cough syrup, as well as crayon wax. After mixing the gelatin and other materials, the mixture is heated, and then spread on rolling drums which create thin gelatin ribbons. Each of the ribbons then passes over a rotating die. The dies are designed so that they can form round capsules. The dies press against each other as they rotate. As the dies meet, both shells are filled with paint, which is injected into the area between the sheets. The two halves then seal as they press against each other to form a filled capsule. Once the capsules are sealed they drop out of the machine to become paintballs. They pass along a conveyor belt to a tumble drier, then onto a drying rack. Once they are dry, they go into a counting machine, then into a packing machine which packs exactly the correct number of balls into each container. (b) Materials: water, sweeteners, food ingredients, gelatin, “cough syrup material”, crayon wax, and food coloring. Labor: People would be needed run the various machines. Overhead: Depreciation and maintenance of the various machines. It would appear that overhead would be by far the highest cost because the process is very automated. Machines are needed for mixing the gelatin, heating it, rolling it into ribbons, making the capsules, filling the capsules, sorting and drying the capsules, counting the capsules and packing them. (c) This would appear to be a perfect situation for the use of process costing. Paintballs are a high volume product, and the paintballs are very homogenous. While there may be some differences in various types of paintballs that would merit keeping track of specific costs to make the various types, the primary method of cost determination would be process costing.
LO1, 3, 4 BT: C Difficulty: Moderate TOT: 30 min. AACSB: Technology, Communication AICPA FC: Reporting IMA: Reporting & Control: Cost Accounting
CT16A.4
COMMUNICATION ACTIVITY
To:
Diane Barone, Regional Sales Manager
From:
Student, Accounting Manager
Re:
Production Cost Reports
Diane, congratulations again on your promotion! It’s going to be great working with you. It kind of reminds me of our days at Dairy-Freeze after school (although this work is more fun, and it certainly pays better!). I’ll try to clear up some of the questions you raised in your email. Here in the Snack Foods Division we use process costing rather than the job order system that Special Projects uses. The reason for this is that we produce all our products in a more or less continuous process, even when we run occasional special orders. You see, all our workers are assigned a particular part of the process to control. One might be in charge of making sure the mixing machines work properly, while another verifies the weight of the finished products. Whichever job a worker is assigned, he or she stays with it to completion, or at least the completion of that particular process. That’s different from what you had in Special Projects, where workers moved from job to job. That’s why we don’t usually track the orders separately. Our special orders are for various quantities of the foods we produce, so only the Packing Department needs to be concerned with the particular set of products shipped to the particular customer—which is its ordinary concern anyway. Your next question was about what an equivalent unit is. Well, you know already that Special Projects bids on various jobs, and then costs are recorded when the jobs are complete. The costs accumulated on jobs that aren’t complete are reflected in Work in Process inventory. We in Snack Foods can’t use that method for a simple reason—we produce our products in huge batches that we keep going fairly continuously. Or, in other words, we don’t have a “job” that we can record as “complete.” A batch may contain enough of our product to fill thirty or more orders, so we may have thirty or more “jobs” in each batch. One job may happen to be filled from two batches. Since the cost of each batch is about the same, it isn’t worth keeping track of separately.
CT16A.4 (Continued) At the end of the month, we need to record what we finished and what still remains undone. Equivalent units are the way we measure the amount of work we have done on our work in process. It’s kind of like comparing the contents of 4-ounce cups with the contents of 12-ounce cups. It doesn’t make sense to compare by counting the number of cups you have. You need to find out how many ounces you have in one set; then you can get a meaningful comparison with the ounces you have in the other set. We compare by the number of “units” of materials or labor that are required to finish a product completely. If it requires 12 ounces of flour and 15 minutes of labor for a finished bag of pretzels, for example, then the 12 ounces and 15 minutes are “finished equivalents.” If we have enough pretzels to fill 30 bags, but we’ve only spent 5 minutes (or 1/3 of the total required) of labor on them at the end of the month, we could have used the same amount of time and completely finished 10 bags. Thus, we have the “equivalent” of 10 bags worth of labor. Your last question is the easiest to answer. You get four reports because we use four processes here in Snack Foods Division. Each process has to report its status at the end of every month. It’s kind of like we have four miniature factories, each reporting “completion” of a certain number of products. The products from one department are used as raw materials for other departments, so we have a chain of reports. Notice that the units and costs transferred out of Process 1 are the same as the units and costs transferred in to Process 2, and so on. I hope this helps. Call, write, or email me any time! LO1, 2, 3, 4 BT: S Difficulty: Moderate TOT: 45 min. AACSB: Reflective Thinking, Communication AICPA FC: Measurement Analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
CT16A.5
ETHICS CASE
(a) The stakeholders in this situation are: ⯈ ⯈ ⯈ ⯈
Jan Wooten, molding department head. Tony Ferneti, quality control inspector. Customers of R. B. Dillman Company. The department manager of the assembly department.
(b) Tony is placed in an ethical dilemma. He can offend his department head by disregarding Jan’s instructions and lose the support of his supervisor, and maybe lose his job. He can follow Jan’s instructions and be in violation of company policy. He can also report Jan’s instructions to supervisors (factory superintendent or vice-president of production). The company should make the position of quality control inspector responsible to someone other than the department head. Tony should not report to Jan. LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Ethics, Communication AICPA PC: Ethical Conduct, Communication IMA: Business Applications, Reporting & Control: Cost Accounting, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT16A.6
CONSIDERING PEOPLE, PLANET, AND PROFIT
(a) Some of the costs that the company now faces include: Monetary damages: The company would likely pay fines to regulators; significant compensation to those affected by the accident; and to repair and update its refinery. Bad publicity Lost sales Cost of cleaning up the affected area including transporting workers to the site; housing workers near the site; per diem for cleanup workers; safety equipment for the workers Transportation and storage/disposal fees for any contaminants removed from the area Legal fees associated with lawsuits/settlements Reimburse the Coast Guard for any oil containment equipment provided Possible air/water testing for an extensive time following the accident (b) Some steps that the company could have taken to reduce the environmental failure costs include:
Install up to date safety equipment Increase the frequency and efficacy of inspections Increase maintenance on older facilities Be responsive to and investigate thoroughly complaints by neighbors and regulators Invest in research to discover safer means of boosting octane Locate factories further away from population centers to the extent possible LO N/A BT: E Difficulty: Moderate TOT: 20 min. AACSB: Reflective Thinking AICPA FC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CHAPTER 17 Activity-Based Costing Learning Objectives 1. Discuss the difference between traditional costing and activity-based costing. 2. Apply activity-based costing to a manufacturer. 3. Explain the benefits and limitations of activity-based costing. 4. Apply activity-based costing to service industries. *5. Explain just-in-time (JIT) processing. *Note: All asterisked Questions, Brief Exercises, Exercises, and Problems relate to material contained
in the appendix to the chapter.
ANSWERS TO QUESTIONS 1.
Direct labor is a valid basis for allocating overhead when: (a) direct labor constitutes a significant part of total product cost, and (b) there is a high correlation between direct labor and changes in the amount of overhead costs.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
2.
The amount of direct labor in many industries has greatly decreased, due to advances in computerized systems, technological innovation, global competition and automation. Total overhead costs resulting from depreciation on expensive equipment and machinery, utilities, repairs, and maintenance have significantly increased along with a reduction of direct labor hours due to terminating hourly employees. Many companies now use machine hours as the basis on which to allocate overhead in an automated manufacturing environment.
LO1 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
3.
In many automated manufacturing environments, machine hours is a more relevant basis on which to allocate overhead.
LO1 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
4.
Under a traditional volume-based costing system where overhead cost is allocated on the basis of units of output, the high-volume product will undoubtedly absorb more overhead than the lowvolume product.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
5.
The principal differences are: (1) Primary focus (2) Bases of allocation
Activity-Based Costing Activities performed in making products Multiple cost drivers
Traditional Costing Units of production Single unit-level base
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
6.
Activity-based overhead rates are computed using the following formula: Estimated Overhead per Activity Estimated Use of Cost Drivers per Activity
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
7.
The four steps involved in developing an ABC system are: 1. Identify and classify the major activities involved in the manufacture of specific products and allocate overhead to cost pools. 2. Identify the cost driver that has a strong correlation to the costs accumulated in each cost pool and estimate total annual cost driver usage. 3. Compute the activity-based overhead rate for each cost pool. 4. Assign overhead costs to products using the overhead rates determined for each cost pool and each product’s use of each cost driver.
LO2 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 17 (Continued) 8.
A value-added/non-value-added activity flowchart is based on a systematic analysis of all the activities (resource-consuming actions and transactions) performed to manufacture a product or render a service. The flowchart documents each activity and the time involved in each activity. The flow chart also documents management’s proposed reengineering of the manufacturing process.
LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
9.
An activity cost pool is the overhead cost attributed to a distinct type of activity or related activities.
LO2 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
10.
A cost driver is any factor or activity that has a direct cause-effect relationship with the resources consumed.
LO2 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
11.
A cost driver is accurate and appropriate if it measures the actual consumption of the activity in manufacturing a product or rendering a service and the data relating to the cost driver is available and easily obtained.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
12.
The formula for assigning activity cost pools to products is: Activity-based overhead rate X Expected or actual use of cost drivers per product
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
13.
The use of more cost pools results in more accurate product costing, enhanced control over overhead costs, and better management decisions.
LO3 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
14.
The limitations of ABC are: (a) increased costs that accompany multiple-activity cost pools and cost drivers and (b) some arbitrary allocations remain.
LO3 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
15.
ABC is the superior costing system when: (1) product lines differ greatly in volume and manufacturing complexity; (2) product lines are numerous, diverse, and require differing degrees of support services; (3) overhead costs constitute a significant portion of total costs; (4) the manufacturing process or the number of products has changed significantly; and (5) data from the existing system is being ignored or challenged by management.
LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
16.
Basic ABC has been enhanced by identifying activities as value-added and non-value-added.
LO3 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
17.
Identifying non-value-added activities highlights for managers the activities that should be reduced or eliminated if they are not essential and they add no value to the product.
LO3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
Questions Chapter 17 (Continued) 18.
The overall objective of ABC in service firms is no different than for manufacturing companies; that is, improved costing of services rendered (by job, service, contract, or customer). The general approach to costing is the same—analyze operations, identify activities, assign overhead costs to activity cost pools, and identify and use cost drivers to assign the cost pools to the services.
LO4 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
19.
Greater accuracy in cost allocation is achieved by recognizing the four levels of activity. Some activities are affected (driven) by changes in the number of units produced, while other activities are affected only by changes in the number of batches or the number of products, and some, facility-level activities, are unaffected by changes in either units, batches, or products produced.
LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*20. (a) Just-in-time processing has a just-in-time philosophy and a pull approach to eliminate inventory. It is dedicated to having the right amount of materials, parts, or products just as they are needed. (b) There are three important elements in JIT processing: (1) A company must have dependable suppliers who are willing to deliver on short notice exact quantities of raw materials according to precise quality specifications. (2) A multiskilled workforce must be developed. (3) A total quality control system must be established. LO5 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 17.1
(a)
Estimated annual overhead costs = Predetermined overhead rate Estimated annual operating activity $975,000 100,000
(b)
= $9.75 per direct labor hour
92,000 direct labor hours x $9.75 = $897,000 overhead applied
(92,000 x $9.75 = $897,000) (Act. DLH x Predet. OH rate = OH applied)
(c)
If the manufacturing process is complex, then multiple allocation bases for multiple cost pools can result in more accurate productcost computations. In such situations, managers need to consider an overhead cost allocation method that uses multiple bases.
LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.2 Under ABC, overhead costs are shifted from the high-volume products to the low-volume products. This shift results in more accurate costing for two reasons: 1. Low-volume products often require more special handling, such as more machine setups and inspections, than high-volume products. Thus, the low-volume product frequently is responsible for more overhead costs per unit than is a high-volume product. 2. Assigning overhead using ABC will usually increase the cost per unit for low-volume products. Therefore, a traditional overhead allocation such as direct labor hours is usually a poor cost driver for assigning overhead costs to low-volume products. As a result, for Finney, one of the products (Product RX3) may have been low volume and therefore may have more overhead costs assigned to it under an ABC system. LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.3 An appropriate cost driver for each activity is: Activity Materials handling Machine setups Factory machine maintenance Factory supervision Quality control
Cost Driver Number of requisitions Number of setups Machine hours used Number of employees Number of inspections
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.4 (a) (b) (c) (d) (e) (f) (g)
Number of parts or assemblies Number of setups Number of employees Number of inspections Number of purchase orders Machine hours Square footage occupied
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.5 Machine setups Machining Inspections
$150,000 ÷ 2,500 = $60 per setup $375,000 ÷ 25,000 = $15 per machine hour $ 87,500 ÷ 1,750 = $50 per inspection
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Cost Management
BRIEF EXERCISE 17.6 Activity Cost Pool Sizing and cutting Stitching and trimming Wrapping and packing
Estimated Estimated Use of Overhead ÷ Cost Drivers per Activity = $4,000,000 1,440,000 336,000
160,000 machine hours 80,000 labor hours 32,000 finished units
Activity-Based Overhead Rates $25.00 per machine hour $18.00 per labor hour $10.50 per finished unit
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.7 Activity Cost Pool Ordering and receiving Food processing Packaging
Estimated Estimated Use of Overhead ÷ Cost Drivers per Activity = $
84,000 480,000 1,760,000
Use of Cost Drivers 7,000 orders 40,000 machine hours 25,000 labor hours
x
12,000 orders 60,000 machine hours 40,000 labor hours
Activity-Based Overhead Rates $7.00 per order $8.00 per machine hour $44.00 per labor hour
Activity-Based Overhead = Total Overhead Rates Assigned $7.00 $ 49,000 $8.00 320,000 $44.00 1,100,000 $ 1,469,000
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [(7,000 x $7 = $49,000); (40,000 x $8 = $320,000); (25,000 x $44 = $1,100,000)] [(No. of orders x OH rate/order = Assigned OH); (No. of MH x OH rate/MH = Assigned OH); (No. of labor hrs. x OH rate/labor hr. = Assigned OH)]
BRIEF EXERCISE 17.8 (a) (b) (c) (d) (e) (f)
Non-value-added Value-added Non-value-added Non-value-added Non-value-added Value-added
LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.9 Value-added Activities (a) Designing and drafting (c) On-site supervision (e) Consultation with client
Hours 3.0 2.0 1.5 6.5
BRIEF EXERCISE 17.9 (Continued) Non-value-added Activities (b) Staff meetings (d) Lunch (f) Entertaining a prospective client
Hours 1.0 1.0 2.0 4.0
LO3, 4 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.10 (a) (b) (c) (d) (e) (f) (g) (h) (i) (j)
Unit- or Batch-level Unit-level Unit-level Batch- or unit-level Facility-level Batch- or product-level Batch- or product-level Unit-level Facility-level Batch-level
LO3, 4 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.11 (a) (b) (c) (d) (e) (f) (g) (h)
Facility-level Unit-level Product-level Unit-level Batch-level Batch-level Product-level Facility-level
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
BRIEF EXERCISE 17.12 (a) Initial concept formation
(b)
$40,000 = $2,000 per project change 20
Design
$300,000 = $2 per square foot 150,000
Construction oversight
$100,000 = $1,000 per month 100
Initial concept formation—product-level Design—unit-level Construction oversight—batch-level
LO3, 4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO DO IT! EXERCISES DO IT! 17.1 (a) True (b) False (c) False (d) True (e) True LO1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 17.2 (a) Computations of activity-based overhead rates per cost driver: Activity Cost Pools Machine setup Machining Packing
Estimated Overhead $ 16,000 110,000 30,000 $156,000
Estimated Use of Cost Activity-Based Drivers per Activity Overhead Rates 40 setups $400 per setup 5,000 machine hours $ 22 per machine hr. 500 orders $ 60 per order
(b) Assignment of each activity’s overhead cost to products using ABC: BC113 Use of Cost Drivers Activity-Based Cost Assig per Produc Overhead Rates ned t Machine setup 25 $400 $10,000 Machining 1,000 $ 22 22,000 Packing 150 $ 60 9,000 Total assigned costs $41,000 Activity Cost Pools
AD908 Use of Cost Drivers per Product 15 4,000 350
Activity-Based Overhead Cost Assig Rates ned $400 $ 22 $ 60
$
6,000 88,000 21,000 $115,000
[(BC113: (25 x $400) + (1,000 x $22) + (150 x $60) = $41,000); (AD908: (15 x $400) + (4,000 x $22) + (350 x $60) = $115,000)] [(BC113: (No. of setups x OH rate/setup) + (No. of MH x OH rate/MH) + (No. of orders x OH rate/order) = Tot. assigned OH); (AD908: (No. of setups x OH rate/setup) + (No. of MH x OH rate/MH) + (No. of orders x OH rate/order) = Tot. assigned OH)]
DO IT! 17.2 (Continued) (c) Computation of overhead cost per unit: Total costs assigned Total units produced Overhead cost per unit
(a) (b) (a) ÷ (b)
BC113 $41,000 3,000 $ 13.67
AD908 $115,000 1,500 $ 76.67
[(BC113: $41,000 ÷ 3,000 = $13.67); (AD908: $115,000 ÷ 1,500 = $76.67)] [(BC113: Tot. assigned OH ÷ Tot. units produced = OH/unit); (AD908: Tot. assigned OH ÷ Tot. units produced = OH/unit)]
(d) These computations show that the total overhead assigned to Product AD908 is more than two and a half times that assigned to BC113. On a per unit basis, the overhead assigned to AD908 is close to six times that assigned to each BC113. LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 17.3 (a) (b) (c) (d) (e) (f) (g) (h)
unit-level product-level facility-level batch-level unit-level batch-level facility-level unit-level
LO3 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
DO IT! 17.4 (a) The activity based overhead rates would be:
Estimated Overhead Loading and unloading Travel Logistics
$ 90,000 $450,000 $ 75,000
Estimated Use of Cost Driver Per Activity 90,000 600,000 3,000
=
Activity-Based Overhead Rate $1.00 per piece $0.75 per mile $25.00 per hour
DO IT! 17.4 (Continued) (b) The overhead applied to Job XZ3275 is: (150 $1.00) (200 $0.75) (0.75 $25) = $318.75 [(150 x $1.00) + (200 x $.75) + (.75 x $25) = $318.75] [(No. of pieces x OH rate/piece) + (No. of miles x OH rate/mi.) + (No. of hrs. x OH rate/hr.) = Tot. OH applied] LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO EXERCISES EXERCISE 17.1 (a)
Estimated overhead = Predetermined overhead rate Estimated Direct labor costs $240,000 = 160% of direct labor cost $50,000 + $100,000
[$240,000 ÷ ($50,000 + $100,000) = 160%] [Est. OH ÷ (Std. DL costs + Custom DL costs) = Predet. OH rate as a % of DL cost]
(b) Activity cost pools Machining Machine setup
Cost drivers Machine hours Setups
Estimated overhead $140,000 100,000
Activity-based overhead rates Machining: Machine setup: $140,000 $100,000 = $70 per machine hour = $200 per setup 1,000 + 1,000 400 + 100 [(Mach.: $140,000 ÷ (1,000 + 1,000) = $70); (Mach. setup: $100,000 ÷ (400 + 100) = $200)] [(Mach.: Est. OH ÷ (Std. MH + Custom MH) = OH rate/MH); (Mach. setup: Est. OH ÷ (Custom setups + Std. setups) = OH rate/setup.)]
(c) Traditional costing $50,000 x 160% $100,000 x 160%
Standard $80,000 $80,000
Activity-based costing Machining: 1,000 x $70 1,000 x $70 Machine setup: 100 x $200 400 x $200
Custom $160,000 $160,000
$70,000 $70,000 20,000 $90,000
80,000 $150,000
LO1, 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.2 (a)
Traditional costing system
Sales Costs Operating income (b)
Product 540X
Product 137Y
Product 249S
$180,000 55,000 $125,000
$160,000 50,000 $110,000
$70,000 15,000 $55,000
Product 540X
Product 137Y
Product 249S
$180,000 50,000 $130,000
$160,000 35,000 $125,000
$70,000 35,000 $35,000
Activity-based costing system
Sales Costs Operating income (c) Product 540X:
($130,000 – $125,000) ÷ $125,000 = 4.00%
Product 137Y
($125,000 – $110,000) ÷ $110,000 = 13.64%
Product 249S
($35,000 – $55,000) ÷ $55,000 = (36.36%)
[(540X: ($130,000 - $125,000) ÷ $125,000 = 4.00%); (137Y: ($125,000 - $110,000) ÷ $110,000 = 13.64%); (249S: ($35,000 - $55,000) ÷ $55,000 = (36.36%))] [(540X: (ABC oper. inc. – Trad. oper. inc.) ÷ Trad. oper. inc. = % diff. in oper. inc.); (137Y: (ABC oper. inc. – Trad. oper. inc.) ÷ Trad. oper. inc. = % diff. in oper. inc.); 249S(ABC oper. inc. – Trad. oper. inc.) ÷ Trad. oper. inc. = % diff. in oper. inc.)]
(d) These costs are similar probably because the cost drivers are essentially the same; that is, they are based on a unit volume concept. LO1 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.3 (a)
Activity cost pools Cutting Design
Cost drivers Machine hours Number of setups
Activity-based overhead rates Cutting $360,000 = $1.80 per machine hour 200,000
Estimated overhead $360,000 585,000
Design $585,000 = $390 per setup 1,500 Wool
Activity-based costing Cutting 100,000 x $1.80 100,000 x $1.80 Design 1,000 x $390 500 x $390 Total cost assigned
Cotton
$180,000 $180,000 390,000 195,000 $375,000
$570,000
[(Wool: (100,000 x $1.80) + (1,000 x $390) = $570,000); (Cotton: (100,000 x $1.80) + (500 x $390) = $375,000)] [(Wool: (No. of MH x OH rate/MH) + (No. of setups x OH rate/setup = Tot. OH cost assigned); (Cotton: (No. of MH x OH rate/MH) + (No. of setups x OH rate/setup = Tot. OH cost assigned)]
(b) Estimated overhead = $945,000 = $2.10 per direct labor hour Estimated direct labors hours 450,000
Wool Traditional costing 225,000 x $2.10 225,000 x $2.10
Cotton
$472,500 $472,500
[(Wool: 225,000 x $2.10 = $472,500); (Cotton: (225,000 x $2.10 = $472,500)] [(Wool: No. of DLH x OH rate/DLH = Tot. OH cost assigned); (Cotton: No. of DLH x OH rate/DLH = Tot. OH cost assigned)]
The wool product line is assigned $97,500 ($570,000 – $472,500) more overhead cost when an activity-based costing system is used. As a result, the cotton product line is assigned $97,500 ($472,500 – $375,000) less. LO1, 2 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.4 (a)
Direct labor hours for car wheels (40,000 x 1) = 40,000 Direct labor hours for truck wheels (10,000 x 3) = 30,000 Total direct labor hours 70,000 $770,000 (total estimated overhead) 70,000 (total estimated direct labor = $11 per direct labor hour. hours) Overhead assigned
Car wheels Truck wheels Total overhead
(40,000 x $11) (30,000 x $11)
= $440,000 = 330,000 $770,000
[(Car: 40,000 x $11 = $440,000); (Truck: 30,000 x $11 = $330,000)] [(Car: No. of DLH x OH rate/DLH = Tot. OH cost assigned); (Truck: No. of DLH x OH rate/DLH = Tot. OH cost assigned)]
(b)
Estimated Use of Cost Drivers
Activity Estimated Cost Pool Overhead ÷ Setting up machines $220,000 1,000 setup Assembling 280,000 70,000 DLHs Inspection 270,000 1,200 inspections
(c)
Car Wheels Use of Cost Driver per Product
Activity Cost Pools Setting up machines 200 Assembling 40,000 Inspection 100 Total cost assigned
x
ABC Overhead Rate
=
$220/setup $ 4/DLH $225/inspection
Activity-Based Overhead Rates = $220 $ 4 $225
Cost Assigned $ 44,000 160,000 22,500 $226,500
EXERCISE 17.4 (Continued) (c)
Truck Wheels Activity-Based Use of Cost Driver Overhead Activity Cost Pools per Product x Rates = Setting up machines 800 $220 Assembling 30,000 $ 4 Inspection 1,100 $225 Total cost assigned
Cost Assigned $176,000 120,000 247,500 $543,500
[(Car: (200 x $220) + (40,000 x $4) + (100 x $225) = $226,500); (Truck: (800 x $220) + (30,000 x $4) + (1,100 x $225) = $543,500)] [(Car: (No. of mach. setups x OH rate/setup) + (No. of DLH x OH rate/DLH) + (No. of inspect. x OH rate/inspect.) = Tot. OH cost assigned); (Truck: (No. of mach. setups x OH rate/setup) + (No. of DLH x OH rate/DLH) + (No. of inspect. x OH rate/inspect.) = Tot. OH cost assigned)]
(d)
Assuming that the cost drivers are a reasonable representation of what is occurring in the two product lines, it seems appropriate to switch to activity-based costing. By using this system, more accurate cost information is developed which should lead to better allocation of resources and pricing decisions in the future.
LO1, 2 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.5 (a) Traditional costing: $260,000 ÷ 2,500 (800 + 1,700) hours = $104 per direct labor hour (1) One mobile safe: 800 hours x $104 = $83,200 $83,200 ÷ 200 = $416 each (2) One walk-in safe: 1,700 hours x $104 = $176,800 $176,800 ÷ 50 = $3,536 each [(Mobile: (800 x $104 = $83,200; $83,200 ÷ 200 = $416)); (Walk-in: (1,700 x $104 = $176,800; $176,800 ÷ 50 = $3,536))] [(Mobile: (No. of DLH x OH rate/DLH = OH cost allocated; OH cost allocated ÷ No. of safes = OH cost/safe)); (Walk-in: (No. of DLH x OH rate/DLH = OH cost allocated; OH cost allocated ÷ No. of safes = OH cost/safe))]
EXERCISE 17.5 (Continued) (b) Activity-based costing: (1) Material handling costs $160,000 ÷ 500 (300 + 200) moves = $320 per move (a) One mobile safe: 300 moves x $320 = $96,000 $96,000 ÷ 200 = $480 each (b) One walk-in safe: 200 moves x $320 = $64,000 $64,000 ÷ 50 = $1,280 each [(Mobile: 300 x $320 = $96,000; $96,000 ÷ 200 = $480); (Walk-in: 200 x $320 = $64,000; $64,000 ÷ 50 = $1,280)] [(Mobile: No. of moves x OH rate/move = Mat. hand. cost assigned; Mat. hand. cost assigned ÷ No. of safes = Mat. hand. cost/safe); (Walk-in: No. of moves x OH rate/move = Mat. hand. cost assigned; Mat. hand. cost assigned ÷ No. of safes = Mat. hand. cost/safe)]
(2) Purchasing activity costs $100,000 ÷ 800 (450 + 350) orders = $125 per order (a) One mobile safe: 450 orders x $125 = $56,250 $56,250 ÷ 200 = $281.25 each (b) One walk-in safe: 350 orders x $125 = $43,750 $43,750 ÷ 50 = $875 each [(Mobile: 450 x $125 = $56,250; $56,250 ÷ 200 = $281.25); (Walk-in: 350 x $125 = $43,750; $43,750 ÷ 50 = $875)] [(Mobile: No. of orders x OH rate/order = Purch. act. cost assigned; Purch. act. cost assigned ÷ No. of safes = Purch. act. cost/safe); (Walk-in: No. of orders x OH rate/order = Purch. act. cost assigned; Purch. act. cost assigned ÷ No. of safes = Purch. act. cost/safe)]
(c) The total amount of overhead assigned to each unit of the two products under the two allocation approaches is:
Mobile safe Walk-in safe *$480 + $281.25 **$1,280 + $875
Traditional Costing $ 416 $3,536
Activity-Based Costing $761.25* $ 2,155**
LO1, 2 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.6 Budgeted Costs
Activity Cost Pool
Cost Driver
Engineering design Engineering prototypes
Engineering
Engineering hours
Depreciation, machinery Electricity, machinery Machine maintenance wages
Machinery
Machine hours
Machine setup, indirect labor Machine setup, indirect materials
Machine setup
Number of setups
Inspections Tests
Quality control
Number of tests or inspections
Depreciation, factory Insurance, factory Property taxes on factory Factory heating Electricity, factory lighting
Factory costs
Square feet or Machine hours
LO2 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.7 The following cost drivers might be used to assign overhead: 1. Gallons of chemicals 7. Number of bottles Number of bottles 2. Number of carts or labor hours 8. Number of boxes 3. Number of carts 9. 4. Gallons of juice 10. Number of shipments 5. Gallons of juice 11. Square feet 6. Gallons of wine or months of aging 12. Machine hours LO2 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.8 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12.
Number of engineering change orders; hours of designing Number of orders processed Number of parts in stock Weight of material; number of boxes or cartons Employee turnover; number of employees hired Machine hours; direct labor hours Number of assembly workers; number of parts; direct labor hours Number of employees Book or market value of assets Cost of goods manufactured, direct labor hours; number of employees Machine hours; number of machines Gallons of paint; number of appliances
LO2 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.9 (a) The overhead rates are: Activity Cost Pools
Estimated Use Estimated of Cost Drivers Activity-Based Overhead ÷ per Activity = Overhead Rates
Materials handling Machine setups Quality inspections
$40,000 21,500 33,000
1,000 500 600
$40 per requisition $43 per setup $55 per inspection
(b) The assignment of the overhead costs to products is as follows: Instruments Gauges Total Use of Cost Use of Cost Cost Drivers per Cost Drivers per Cost Cost Driver Product Assigned Product Assigned Assigned Requisitions ($40) 400 $16,000 600 $24,000 $40,000 Machine setups ($43) 200 8,600 300 12,900 21,500 Inspections ($55) 200 11,000 400 22,000 33,000 Total costs assigned (a) $35,600 $58,900 $94,500 Units produced (b) 50 300 Overhead cost per Unit (a) ÷ (b) $ 712 $ 196*
EXERCISE 17.9 (Continued) *Rounded to nearest dollar [(Instruments: (400 x $40) + (200 x $43) + (200 x $55) = $35,600; $35,600 ÷ 50 = $712); (Gauges: (600 x $40) + (300 x $43) + (400 x $55) = $58,900; $58,900 ÷ 300 = $196)] [(Instruments: (No. of reqs. X OH rate./req.) + (No. of setups. X OH rate/setup) + (No. of inspect. x OH rate/inspect.) = Tot. OH costs assigned; Tot. OH costs assigned ÷ No. units made = OH cost/unit); (Gauges: (No. of reqs. X OH rate.req.) + (No. of setups. X OH rate/setup) + (No. of inspect. x OH rate/inspect.) = Tot. OH costs assigned; Tot. OH costs assigned ÷ No. units made = OH cost/unit)]
(c)
MEMO To:
President, Air United, Inc.
From:
Student
Re:
Benefits of activity-based costing (ABC)
ABC focuses on the activities performed in producing a product. Overhead costs are assigned to products based on cost drivers that measure the activities performed on the product. The primary benefit of ABC is more accurate and meaningful product costing. This improved cost data can lead to reduced costs as managers become more aware of the underlying causes of cost incurrence. Thus, control over costs is enhanced. The improved cost data should also lead to better management decisions. More accurate product costing should contribute to setting selling prices which will help achieve desired profitability levels. In addition, it should be helpful in deciding whether to make or buy a product part or component, and sometimes even whether to eliminate a product. LO2, 3 BT: AP Difficulty: Easy TOT: 12 min AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.10 (a) (1) Traditional product costing system: $400,000 x 0.70 = $280,000 selling costs assigned in March to the “high intensity” product line. (2) Activity-based costing system:
Activity Cost Pools Sales commissions Advertising—TV Advertising—Internet Catalogs Cost of catalog sales Credit and collection Total assigned cost for March
ActivityBased Cost Drivers Overhead Cost Overhead Used x Rates = Assigned $900,000 250 2,000 60,000 9,000 $900,000
$0.05 $300 $10 $2.50 $1.00 $0.03
$ 45,000 75,000 20,000 150,000 9,000 27,000 $326,000
(b) As compared to ABC, traditional costing grossly under costs the selling costs assigned to the “high intensity” product line. The difference of $46,000 ($326,000 – $280,000) in the month of March is a 14.1% understatement. [($326,000 - $280,000 = $46,000); ($46,000 ÷ $326,000 = 14.1%)] [(Tot. assigned OH costs under ABC – Tot. assigned OH costs under traditional = Understated diff.); (Understated diff. ÷ Tot. assigned OH costs under ABC = Understated % diff.)] LO1, 2, 3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.11 (a) 1.
Traditional product costing system: Quality-control overhead costs assigned in June to the low-calorie breakfast line are $11,900 ($70,000 x .17).
2.
Activity-based costing system:
Activity Cost Pools Inspections of material received In-process inspections FDA certification Total assigned cost for June
ActivityBased Overhead Cost Drivers Overhead Cost Rate = Used x Assigned 6,000 10,000 420
$ 0.90 $ 0.33 $ 12.00
$ 5,400 3,300 5,040 $13,740
(b) As compared to ABC, the traditional costing system under costs the quality-control overhead cost assigned to the low-calorie breakfast line by $1,840 ($13,740 – $11,900) in the month of June. That is a 13.4% understatement. [($13,740 - $11,900 = $1,840); ($1,840 ÷ $13,740 = 13.4%)] [(Tot. assigned OH costs under ABC – Tot. assigned OH costs under traditional = Understated diff.); (Understated diff. ÷ Tot. assigned OH costs under ABC = Understated % diff.)] LO1, 2, 3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.12 Activity Cost Pools Engineering Machinery Machine setup Quality control Factory costs
Activity Level Product-level Unit-level Batch-level Depends on frequency. Could be unit, batch, or product-level Facility-level
LO3 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.13 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Facility-level activity Product-level activity Batch-level activity Product-level activity Product-level activity Batch-level activity Facility-level activity Batch-level or unit-level activity Unit-level activity Unit-level activity
LO3 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.14 (a) Activity Cost Pools Estimated Overhead ÷ Scheduling and travel $85,000 Setup time $90,000 Supervision $60,000
Estimated use of Cost Drivers 1,250 hours 600 setups $400,000*
= ABC Overhead Rates $ 68.00 per hour $150.00 per setup $ 0.15 per dollar
*$100,000 + $300,000 Commercial Activity Cost Pools Scheduling and travel Setup time Supervision Total assigned costs
Use of Cost Drivers per Product 750 hours 350 setups $100,000
x
ABC Overhead Rates = $ 68.00/hr. $150.00/setup $ 0.15/dollar
Cost Assigned $ 51,000 52,500 15,000 $118,500
Residential Activity Cost Pools Scheduling and travel Setup time Supervision Total assigned costs
Use of Cost Drivers per Product 500 hours 250 setups $300,000
x ABC Overhead Rates $ 68.00/hr. $150.00/setup $ 0.15/dollar
= Cost Assigned $ 34,000 37,500 45,000 $116,500
EXERCISE 17.14 (Continued) [(Commercial: (750 x $68) + (350 x $150) + ($100,000 x $0.15) = $118,500); (Residential: (500 x $68) + (250 x $150) + ($300,000 x $0.15) = $116,500)] [(Commercial: (Hrs. of travel x OH rate/hr.) + (No. of setups x OH rate/setup) + (DL cost x OH rate/DL$) = Tot. assigned OH costs); (Residential: (Hrs. of travel x OH rate/hr.) + (No. of setups x OH rate/setup) + (DL cost x OH rate/DL$) = Tot. assigned OH costs)]
(b) Revenues Direct material costs Direct labor costs Overhead costs Operating income (loss)
Commercial $300,000 $ 30,000 100,000 118,500
248,500 $ 51,500
Residential $480,000 $ 50,000 300,000 116,500
466,500 $ 13,500
(c) Assuming that the cost drivers are a reasonable representation of what is being consumed by the two product lines, it seems appropriate to switch to activity-based costing. By using this system, more accurate cost information is developed which should lead to better allocations of resources, better profitability reporting, and more informative pricing decisions in the future. LO4 BT: AP Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.15 The following activities might be identified at Snap Prints Company from your analysis of its operations and a discussion with the owner-manager, Terry Morton. 1. Hiring and training personnel 2. Purchasing supplies and materials 3. Selling, promoting, and marketing 4. Billing and collecting 5. Designing 6. Offset printing 7. Black-and-white copying 8. Color copying 9. Faxing 10. Collating 11. Cutting and folding 12. Maintenance and repairs 13. Delivery 14. Accounting LO4 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.16 Value-Added Activities Writing contracts and letters Taking depositions Doing research Contemplating legal strategy Litigating a case in court
Hours
Non-Value-Added Activities Attending staff meetings Traveling to/from court Eating lunch Entertaining a prospective client
Hours 0.5 1.0 1.0 1.5 4.0
1.5 1.0 1.0 1.0 2.5 7.0
Writing contracts is value-added; writing letters may be value-added if related to a specific case or it may be non-value-added if it is billing a client or collecting receivables. Research may be value-added if it is unique, related to a specific case, and is billable. Research may be non-value-added if it is something the attorney should already have known and is not billable to the client. LO3, 4 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 17.17 (a)
The predetermined overhead rate under traditional costing would be: $42,000 1,500 hours $28/labor hour
(b)
The amount of overhead assigned to the average residential job would be: $28/labor hour 0.5 labor hour $14
(Residential: .5 hrs. x $28 = $14) (Residential: Ave. hrs. of labor x OH rate/hr. = OH allocated/residential job)
(c)
The activity-based overhead rates for each cost pool would be
Activity Cost Pools Plowing Snow throwing
(d)
Estimated Overhead $38,000 $ 4,000
Estimated Use of Cost Drivers per Activity
200,000 square yards 50,000 linear feet
Activity Based Overhead Rate $0.19 per square yard $0.08 per linear foot
The amount of overhead assigned to the average residential job under activity based costing would be:
Plowing Snow throwing
Use of Cost Driver Per Job
Activity Based Overhead Rate
Cost Assigned
20 60
$0.19 $0.08
$3.80 4.80 $8.60
[Residential: (20 x $.19) + (60 x $.08) = $8.60] [Residential: (No. of sq. yds. X OH rate/sq. yd.) + (No. of linear ft. x OH rate/linear ft.) = OH assigned/residential job]
(e)
The amount of overhead assigned to the average residential job under traditional costing is $14, versus $8.60 under ABC. This means that too much overhead is being assigned to residential jobs, and too little to commercial jobs under traditional costing. This would make the residential jobs appear less profitable than they actually are, and would overstate the profitability of the commercial jobs.
LO4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO PROBLEMS PROBLEM 17.1
(a) Computation of unit costs—traditional costing. Products Manufacturing Costs
Home Model
Commercial Model
$18.50 19.00 24.68* $62.18
$26.50 19.00 24.68* $70.18
Direct materials Direct labor Overhead Total unit cost *$16.45 x 1.5 = $24.68
(b) Estimated Overhead ÷
Activity Cost Pool Receiving Forming Assembling Testing Painting Packing and shipping
$
80,400 150,500 412,300 51,000 52,580 837,500 $1,584,280
Estimated Use of Cost Drivers
Activity-Based Overhead Rate
=
335,000 Pounds 35,000 Machine hours 217,000 Parts 25,500 Tests 5,258 Gallons 335,000 Pounds
$ 0.24 per pound $ 4.30 per machine hour $ 1.90 per part $ 2.00 per test $10.00 per gallon $ 2.50 per pound
(c) Home Model ActivityUse of Based Cost Drivers by Overhead Product x Rates = Assigned
Activity Cost Pool Receiving Forming Assembling Testing Painting Packing and shipping Total costs assigned (a) Units produced
(b)
215,000 27,000 165,000 15,500 3,680 215,000
$ 0.24 $ 4.30 $ 1.90 $ 2.00 $10.00 $ 2.50
$
51,600 116,100 313,500 31,000 36,800 537,500 $1,086,500 54,000
Commercial Model ActivityUse of Based Cost Drivers by Overhead Product x Rates = Assigned 120,000 8,000 52,000 10,000 1,578 120,000
$ 0.24 $ 4.30 $ 1.90 $ 2.00 $10.00 $ 2.50
$ 28,800 34,400 98,800 20,000 15,780 300,000 $497,780 10,200
Overhead cost per unit [(a) ÷ (b)] $ 20.12 $ 48.80 [(Home: (215,000 x $.24) + (27,000 x $4.30) + (165,000 x $1.90) + (15,500 x $2) + (3,680 x $10) + (215,000 x $2.50) = $1,086,500; $1,086,500 ÷ 54,000 = $20.12); (Commercial: (120,000 x $.24) + (8,000 x $4.30) + (52,000
PROBLEM 17.1 (Continued) X $1.90) + (10,000 x $2) + (1,578 x $10) + (120,000 x $2.50) = $497,780; $497,780 ÷ 10,200 = $48.80)] [(Home: (No. of lbs. x OH rate/lb.) + (No. of MH x OH rate/MH) + (No. of parts x OH rate/part) + (No. of tests x OH rate/test) + (No. of ga. X OH rate/ga.) + (No. of lbs. x OH rate/lb.) = Tot. OH assigned; Tot. OH assigned ÷ No. units made = OH cost/unit); (Commercial: (No. of lbs. x OH rate/lb.) + (No. of MH x OH rate/MH) + (No. of parts x OH rate/part) + (No. of tests x OH rate/test) + (No. of ga. X OH rate/ga.) + (No. of lbs. x OH rate/lb.) = Tot. OH assigned; Tot. OH assigned ÷ No. units made = OH cost/unit)]
(d) ABC Manufacturing Costs Direct materials Direct labor Overhead Total cost per unit
Home Model $18.50 19.00 20.12 $57.62
Commercial Model $26.50 19.00 48.80 $94.30
(e)
Activity Receiving Forming Assembling Testing Painting Packing and shipping
Value- vs. Non-Value-Added Non-value-added Value-added Value-added Non-value-added Value-added Value-added
(f)
(1) Activity-based costing shows the commercial model absorbs nearly 21/2 ($48.80 ÷ $20.12) times as much overhead per unit as the home model. (2) The comparison of ABC and traditional costing shows that the proper amount of overhead assigned to the two products is not equal at $24.68 but rather $20.12 for the home model and $48.80 for the commercial model. Under traditional costing, the margin of error on the commercial model was almost 100%, an understatement of $24.12 on an assignment of $24.68. These distorted overhead assignments have likely led to overpricing the home model and underpricing the commercial model.
LO1, 2, 3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 17.2
(a) The allocation of total manufacturing overhead using activity-based costing is as follows: Royale
Overhead Rate
Cost Drivers Used
Purchase orders @ $30 Machine setups @ $50 Machine hours @ $40 Inspections @ $25 Total assigned costs (a)
17,000 5,000 75,000 11,000
Cost Assigned $ 510,000 250,000 3,000,000 275,000 $4,035,000
Units produced (b) Cost per unit (a) ÷ (b)
Majestic Cost Drivers Used 23,000 13,000 45,000 17,000
Cost Assigned
Total Overhead
$ 690,000 650,000 1,800,000 425,000 $3,565,000
$1,200,000 900,000 4,800,000 700,000 $7,600,000
25,000 $
10,000
161.40
$
356.50
[(Royale: (17,000 x $30) + (5,000 x $50) + (75,000 x $40) + (11,000 x $25) = $4,035,000; $4,035,000 ÷ 25,000 = $161.40); (Majestic: (23,000 x $30) + (13,000 x $50) + (45,000 x $40) + (17,000 x $25) = $3,565,000; $3,565,000 ÷ 10,000 = $356.50)] [(Royale: (No. of P.O.s x OH rate/P.O.) + (No. of setups x OH rate/setup) + (No. of MH x OH rate/MH) + (No. of inspect. x OH rate/inspect.) = Tot. OH assigned costs; Tot. OH assigned costs ÷ No. units made = OH cost/unit); (Majestic: (No. of P.O.s x OH rate/P.O.) + (No. of setups x OH rate/setup) + (No. of MH x OH rate/MH) + (No. of inspect. x OH rate/inspect.) = Tot. OH assigned costs; Tot. OH assigned costs ÷ No. units made = OH cost/unit)]
(b) The cost per unit and gross profit of each model under ABC were: Direct materials Direct labor Manufacturing overhead Total cost per unit
Royale $ 700.00 120.00 161.40 $ 981.40
Majestic $ 420.00 100.00 356.50 $ 876.50
Sales price per unit Cost per unit Gross profit
$1,600.00 981.40 $ 618.60
$1,300.00 876.50 $ 423.50
(c) Management’s future plans for the two television models are not sound. Under ABC, the Royale model is $195.10 ($618.60 – $423.50) per unit more profitable than the Majestic model. If either product should be phased out, it is the Majestic. However, by applying ABC and activitybased management analysis, Schultz may determine how to reduce the costs of producing the Majestic model. LO2 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 17.3 (a) Predetermined overhead rate using machine hours: $868,000 ÷ 100,000 hrs. = $8.68 per machine hour (b) Manufacturing cost per stairway under traditional costing: Direct materials............................................................... Direct labor...................................................................... Overhead (14,500 x $8.68) .............................................. Total cost of 250 stairs ...........................................
$ 103,600 112,000 125,860 $ 341,460
Cost per stairway ($341,460 ÷ 250)................................
$1,365.84
[$103,600 + $112,000 + (14,500 x $8.68) = $341,460; $341,460 ÷ 250 = $1,365.84] [DM + DL + (No. of MH x OH rate/MH) = Tot. cost; Tot. cost ÷ No. of stairways = Tot. cost/stairway]
(c) Manufacturing cost per stairway under activity-based costing: Computation of Activity-Based Overhead Rates Activity Cost Pools Purchasing Handling materials Production Setting up machines Inspecting Inventory control Utilities
Estimated Estimated Use of Cost Overhead ÷ Drivers per Activity = $ 75,000 82,000 210,000 105,000 90,000 126,000 180,000 $868,000
600 Orders 8,000 Moves 100,000 D/L Hours 1,250 Setups 6,000 Inspections 168,000 Components 90,000 Sq. ft.
Activity-Based Overhead Rate $125 per order $10.25 per move $2.10 per D/L hour $84 per setup $15 per inspection $0.75 per component $2.00 per sq. ft.
Assignment of Overhead to Order of 250 Stairs
Activity Cost Pools
Use of Cost Drivers
Purchasing 60 Orders Handling materials 800 Moves Production 5,000 D/L Hours Setting up machines 100 Setups Inspecting 450 Inspections Inventory control 16,000 Components Utilities 8,000 Sq. ft. Total overhead assigned
Activity-Based x Overhead Rates = Cost Assigned $125 $10.25 $2.10 $84 $15 $0.75 $2.00
$ 7,500 8,200 10,500 8,400 6,750 12,000 16,000 $69,350
PROBLEM 17.3 (Continued) [(60 x $125) + (800 x $10.25) + (5,000 x $2.10) + (100 x $84) + (450 x $15) + (16,000 x $.75) + (8,000 x $2) = $69,350] [(No. of P.O.s x OH rate/P.O.) + (No. of moves x OH rate/move) + (No. of DLHs x OH rate/DLH); (No. of setups x OH rate/setup) + (No. of inspect. x OH rate/inspect.) + (No. of components x OH rate/component) + (No. of sq. ft. x OH rate/sq. ft.) = Tot. OH assigned]
Total manufacturing cost per stairway under ABC: Direct materials ...................................................................... Direct labor............................................................................. Overhead ................................................................................ Total cost of 250 stairs...................................................
$ 103,600 112,000 69,350 $ 284,950
Total cost per stairway ($284,950 ÷ 250) ..............................
$1,139.80
($103,600 + $112,000 + $69,350 = $284,950; $284,950 ÷ 250 = $1,139.80) (DM + DL + OH = Tot. cost; Tot. cost ÷ No. of stairways = Tot. cost/stairway)
(d) The difference between the traditional cost and the activity-based cost per unit, $1,365.84 versus $1,139.80, is not great in amount but $226.04 ($1,365.84 – $1,139.80) is 19.8% of the more correct ABC cost per unit. Activity-based costing is the preferable costing system for setting prices because the real costs are more accurately reflected, leading to more competitive pricing. The greater accuracy is a result of multiple, more relevant activity cost drivers under ABC than the single cost driver used with the traditional volume-based system. LO1, 2 BT: AN Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 17.4
(a) Computation of unit costs—traditional costing Overhead cost per direct labor hour is $1,241,660 ÷ (150,000 + 27,000) = $7.015 Products Manufacturing Costs Direct materials Direct labor Overhead
CoolDay $0.400 0.500 0.351* $1.251
LiteMist $1.200 0.900 0.631** $2.731
*$7.015 x .05 **$7.015 x.09 [(CoolDay: $0.400 + $0.500 + (.05 x $7.015) = $1.251); (LiteMist: $1.200 + $0.900 + (.09 x $7.015) = $2.731)] [(CoolDay: DM + DL + (DLHs x OH rate/DLH) = Tot. unit cost); (LiteMist: DM + DL + (DLHs x OH rate/DLH) = Tot. unit cost)]
(b) Activity Cost Pools Grape processing Aging Bottling and corking Labeling and boxing Maintain and inspect equipment
Estimated Estimated Use Overhead ÷ of Cost Drivers = $ 145,860 396,000 270,000 189,000
6,600 6,600,000 900,000 900,000
240,800 $1,241,660
800
Activity-Based Overhead Rates $22.10 per cart $ 0.06 per month $ 0.30 per bottle $ 0.21 per bottle $301 per inspection
PROBLEM 17.4 (Continued) (c) Use of Cost Drivers
Activity Cost Pools Grape processing Aging Bottling and corking Labeling and boxing Maintain and inspect equipment Overhead costs assigned (a)
6,000 3,000,000 600,000 600,000 350
CoolDay ActivityBased Overhead Cost x Rates = Assigned $22.10 $ 0.06 $ 0.30 $ 0.21
$132,600 180,000 180,000 126,000
600 3,600,000 300,000 300,000
$301
105,350 $723,950
450
3,000,000 Liters produced
LiteMist ActivityBased Use of Cost Overhead Cost Drivers x Rates = Assigned $22.10 $ 0.06 $ 0.30 $ 0.21
$ 13,260 216,000 90,000 63,000
$301
135,450 $517,710 300,000
(b)
Overhead cost per $0.241 $1.726 liter [(a) ÷ (b)] [(CoolDay: (6,000 x $22.10) + (3,000,000 x $.06) + (600,000 x $.30) + (600,000 x $.21) + (350 x $301) = $723,950; $723,950 ÷ 3,000,000 = $.241); (LiteMist: (600 x $22.10) + (3,600,000 x $.06) + (300,000 x $.30) + (300,000 x $.21) + (450 x $301) = $517,710; $517,710 ÷ 300,000 = $1.726)] [(CoolDay: (No. of carts x OH rate/cart) + (No. of mos. x OH rate/mo.) + (No. of bottles x OH rate/bottle) + (No. of bottles x OH rate/bottle) + (No. of inspect. x OH rate/inspect.) = Tot. OH costs assigned; Tot. OH costs assigned ÷ No. of liters made = OH cost/liter); (LiteMist: (No. of carts x OH rate/cart) + (No. of mos. x OH rate/mo.) + (No. of bottles x OH rate/bottle) + (No. of bottles x OH rate/bottle) + (No. of inspect. x OH rate/inspect.) = Tot. OH costs assigned; Tot. OH costs assigned ÷ No. of liters made = OH cost/liter)]
PROBLEM 17.4 (Continued) (d)
Products Manufacturing Costs Direct materials Direct labor Overhead
(e) To:
CoolDay $0.400 0.500 0.241 $1.141
LiteMist $1.200 0.900 1.726 $3.826
Mr. Jack Eller
From:
Student
Subject:
Product costs using traditional approach versus ABC
The memorandum covers the following points: a.
ABC assigns overhead costs as a function of each product’s use of cost drivers. Thus, ABC results in overhead assignment that more closely approximates each product’s generation of overhead costs.
b.
Traditional approaches that assign costs as a function of volume tend to be biased toward assigning too much overhead to high volume, simple products, and too little to low volume, complex products. This is because the actual incurrence of overhead costs is rarely correlated with labor costs.
c.
In the case of the Benton Corporation, the LiteMist product required the company to begin using more complex methods and equipment. Overhead costs increased substantially. When overhead costs were assigned using labor rates, too much overhead was assigned to the high volume CoolDay product. This reduced the apparent profitability of this product.
LO1, 2 BT: AN Difficulty: Moderate TOT: 50 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
PROBLEM 17.5 (a) Computation of assigned overhead under traditional costing (“direct labor dollars” appears in the first line of the schedule of overhead data): Predetermined overhead rate x direct labor dollars Overhead assigned to audit: Overhead assigned to tax:
0.40 x $1,100,000 = $440,000 0.40 x $700,000 = $280,000
[(Audit: $1,100,000 x .40 = $440,000); (Tax: $700,000 x .40 = $280,000)] [(Audit: (DL$ x OH rate/DL$ = OH assigned); (Tax: (DL$ x OH rate/DL$ = OH assigned)]
(b) (1) Computation of activity-based overhead rates:
Activity Cost Pools Employee training Typing and secretarial Computing Facility rental Travel
Estimated Overhead ÷
Expected Use of Cost Drivers per Activity
$216,000 76,200 204,000 142,500 81,300 $720,000
$1,800,000 Direct labor dollars 2,500 Reports/forms 60,000 Minutes 40 Employees Direct
Activity-Based Overhead Rates
=
$0.12 per DL dollar $30.48 per report/form $3.40 per minute $3,562.50 per employee Direct
(2) Assignment of overhead to audit and tax services:
Activity Cost Pools Employee training Typing and secretarial Computing Facility rental Travel Overhead costs assigned
Audit
Tax
Use of ActivityCost Based Driver per x Overhead Cost Service Rate = Assigned
Use of ActivityCost Based Driver per x Overhead Cost Service Rate = Assigned
$1,100,000 800 27,000 22 56,000
$700,000 1,700 33,000 18 25,300
$0.12 $30.48 $3.40 $3,562.50 Direct
$132,000 24,384 91,800 78,375 56,000
$0.12 $30.48 $3.40 $3,562.50 Direct
$ 84,000 51,816 112,200 64,125 25,300
$382,559 $337,441 [(Audit: ($1,100,000 x $.12) + (800 x $30.48) + (27,000 x $3.40) + (22 x $3,562.50) + $56,000 = $382,559); (Tax: ($700,000 x $.12) + (1,700 x $30.48) + (33,000 x $3.40) + (18 x $3,562.50) + $25,300 = $337,441)] [(Audit: (DL$ x OH rate/DL$) + (No. of reports x OH rate/report) + (No. of min. x OH rate/min.) + (No. of emp. X OH rate/emp.) + Travel = Tot. OH costs assigned); (Tax: (DL$ x OH rate/DL$) + (No. of reports x OH rate/report) + (No. of min. x OH rate/min.) + (No. of emp. X OH rate/emp.) + Travel = Tot. OH costs assigned)]
PROBLEM 17.5 (Continued) (c) Overhead is assigned to the two service lines as follows:
Traditional costing ABC Difference
Audit $440,000 382,559 $ 57,441
Tax $280,000 337,441 $ 57,441
The $57,441 difference for audits is 13% lower under ABC, while the $57,441 difference for tax is 20.5% higher under ABC. Clearly, ABC should be used to determine the relative profitability of each service. LO1, 2, 3, 4 BT: AN Difficulty: Moderate TOT: 35 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CD17
CURRENT DESIGNS
(a) Directly assigned Remaining amount ($832,000) allocated 50% to each product line Total Number of units Cost assigned per unit
Composite $ 28,000
Rotomolded $ 40,000
$416,000 $444,000 1,000 $ 444.00
$416,000 $456,000 4,000 $ 114.00
[(Composite: $28,000 + ($832,000 x 50%) = $444,000; $444,000 ÷ 1,000 = $444); (Rotomolded: ($40,000 + ($832,000 x 50%) = $456,000; $456,000 ÷ 4,000 = $114)] [(Composite: Vacuum oper. costs + (Remaining OH costs x 50%) = Tot. assigned OH; Tot. assigned OH ÷ No. of units = OH cost assigned/unit); (Rotomolded: Oven oper. costs + (Remaining OH costs x 50%) = Tot. assigned OH; Tot. assigned OH ÷ No. of units = OH cost assigned/unit)]
(b) Directly assigned Remaining amount ($832,000) allocated based on direct labor costs Total Number of units Cost assigned per unit
Composite $ 28,000
Rotomolded $ 40,000
$374,400* $402,400 1,000 $ 402.40
$457,600** $497,600 4,000 $ 124.40
*Overhead rate = $832,000 ÷ ($234,000 + $286,000) = $160% of direct labor cost Composite: 160% x $234,000 = 374,400. **Using overhead rate calculated in* Rotomolded: 160% x $286,000 = $457,600 [(Composite: $28,000 + ($234,000 x 160%) = $402,400; $402,400 ÷ 1,000 = $402.40); (Rotomolded: ($40,000 + ($286,000 x 160%) = $497,600; $497,600 ÷ 4,000 = $124.40)] [(Composite: Vacuum oper. costs + (DL$ x OH rate/DL$) = Tot. assigned OH; Tot. assigned OH ÷ No. of units = OH cost assigned/unit); (Rotomolded: Oven oper. costs + (DL$ x OH rate/DL$) = Tot. assigned OH; Tot. assigned OH ÷ No. of units = OH cost assigned/unit)]
CD17 (Continued) (c) Activity Cost Pools Design Prototypes Molds Supervision Curing time
Estimated Overhead $121,100 152,000 188,500 180,000 190,400
Estimated Use of Cost Drivers 4 8 13 24 17,000
Composite
Activity-Based Overhead Rates $30,275 per model $19,000 per prototype $14,500 per mold $7,500 per employee $11.20 per day
Rotomolded
Use of Use of Activity Cost Drivers Overhead Cost Drivers Overhead Cost Pool per Kayak Rates Assigned per Kayak Rates Assigned Design 3 $30,275 $ 90,825 1 $30,275 $ 30,275 Prototypes 6 $19,000 114,000 2 $19,000 38,000 Molds 12 $14,500 174,000 1 $14,500 14,500 Supervision 12 $ 7,500 90,000 12 $ 7,500 90,000 Curing time 15,000 $ 11.20 168,000 2,000 $ 11.20 22,400 Total amount allocated 636,825 195,175 Directly assigned 28,000 40,000 Total cost (a) $664,825 $235,175 Number of units (b) ÷ 1,000 ÷ 4,000 Cost assigned per unit (a) ÷ (b) $ 664.83 $ 58.79 [(Composite: (3 x $30,275) + (6 x $19,000) + (12 x $14,500) + (12 x $7,500) + (15,000 x $11.20) + $28,000 = $664,825; $664,825 ÷ 1,000 = $664.83); (Rotomolded: (1 x $30,275) + (2 x $19,000) + (1 x $14,500) + (12 x $7,500) + (2,000 x $11.20) + $40,000 = $235,175; $235,175 ÷ 4,000 = $58.79)] [(Composite: (No. of models x OH rate/model) + (No. of prototypes x OH rate/prototype) + (No. of molds x OH rate/mold) + (No. of emp. X OH rate/emp.) + (No. of days x OH rate/day) + Vacuum oper. costs = Tot. OH costs assigned; Tot. OH costs assigned ÷ No. of units = Assigned OH cost/unit); (Rotomolded: (No. of models x OH rate/model) + (No. of prototypes x OH rate/prototype) + (No. of molds x OH rate/mold) + (No. of emp. X OH rate/emp.) + (No. of days x OH rate/day) + Oven oper. costs = Tot. OH costs assigned; Tot. OH costs assigned ÷ No. of units = Assigned OH cost/unit)]
CD17 (Continued) (d) Activity-based costing assigns significantly more costs to the composite kayaks. Since the cost is divided into pools and each pool is allocated using a cost driver that is related to those particular costs, it provides a more accurate way to allocate the costs. Current Designs would need to weigh the additional costs of implementing an ABC system against the benefits that it provides. LO1, 2 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
WC17
WATERWAYS CORPORATION
(a) These answers are examples of possible cost drivers. Not all possible answers have been given. Assembling—number of parts Billing— number of billings sent Digging trenches—machine hours or labor costs Janitorial—cost per square feet maintained Machine maintenance—number of maintenance hours Machine setups—number of setups needed Molding— machine hours Packaging—cost per package or number of labor hours Payroll— number of employees Factory supervision—number of employees Product design—cost per design or development costs or number of designs Purchasing materials—number of purchase orders Selling— number of sales calls or number of items sold Testing— number of tests Welding—labor cost or labor hours (b) WATERWAYS CORPORATION Estimated Use of Activity Cost Pools
Cost Drivers
Irrigation instal lation Labor cost Machining (all machine use)
Machine hours Customer orders Number of orders Shipping none (direct)
Estimated Overhead
ActivityBased
OH
Cost Drivers Overhead Use of Cost per Activity Rates Drivers
Cost Assigned
$1,998,432
12,960
$154.20
1,670,400 30,636
33,408,000 2,553 N/A
0.05 12.00 usage
12,941
$1,995,502.20
33,409,000 1,670,450 2,520 30,240 traced directly
Design
Cost per design
820
8
102.50
7
717.50
Selling
Number of sales calls
350,400
21,900
16.00
22,100
353,600
WC17 (Continued) (c) Testing of products—batch or unit if all items are tested Designing new products— product Packaging—unit Molding— unit Assembling—unit Depreciation—facility Machine maintenance—facility (d)
Advertising—product Equipment setup—batch Electricity required to run equipment—batch Requisitioning materials—batch
(1) If Waterways is better able to control its overhead costs, it may be worth the time and initial costs required to set up and use ABC. Waterways does have a large variety of items that are manufactured. However, the items manufactured do not differ greatly in terms of the complexity of production. If, however, the cost savings are not sufficient to cover the added costs of using an ABC system, it would not be a wise decision for Waterways to use ABC. This may well be the case as the complexity of production is not very diverse. Also, because Waterways does handle special orders, dealing with differing cost drivers for special orders may prove difficult and expensive. (2) The use of ABC may allow managers to see what is actually driving the highest costs and better manage these costs, particularly those that are not value-added costs. It might also allow Waterways to focus on the constraints (or bottlenecks) in production and eliminate them. This translates into making continuous improvement in production, products, and service.
LO1, 2, 3 BT: AP Difficulty: Moderate TOT: 50 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CC17 1.
GREETINGS INC.
ABC is beneficial when traditional overhead allocation results in inaccurate product costing. Wall Décor should investigate the product costing system because in order to sell the unframed prints the stores must mark them up only slightly above their cost, while the framed prints enjoy a large profit margin. Traditional overhead allocation often results in inappropriate overhead allocation when one product is a highvolume item (in this case, the unframed prints) and another product is a more complex, low-volume item (in this case, the framed prints). Another indication that ABC would be beneficial occurs when company managers have begun to develop their own costing systems because they have lost faith in the traditional system. In this case, the production manager does not have faith in the company’s costing system and instead has developed her own costing system.
2.
The activity-based overhead rates can be calculated by dividing the estimated overhead associated with each activity by the expected use of the cost driver.
CC17 (Continued) Cost Driver
Estimated Overhead
Expected Use of Cost Driver
Picking prints
Number of prints
$ 30,600
(80,000 + 15,000 + 7,000) = 102,000 prints
$0.30 per pick
Inventory selection and management
Number of components: Print (1) Print and frame (2) Print, mat, and frame (3)
$ 91,700
Prints: 80,000 components Print and frame: 15,000 x 2 = 30,000 components Print, mat, and frame: 7,000 x 3 = 21,000 components Total = 131,000 components
$0.70 per component
Website optimization Unframed
Number of prints at capacity $ 25,800
Unframed prints— 100,000 print capacity
$0.258 per print
$103,200
Framed or framed and matted prints— 25,000 capacity
$4.128 per framed or framed and matted print
$123,900
Print and frame: 16,000 x 2 = 32,000 components at capacity Print, mat, and frame: 9,000 x 3 = 27,000 components at capacity Total = 59,000 components
$2.10 per component
Activity
Framed
Framing and matting
Number of components at capacity
$375,200
Activity-Based Overhead Rate
CC17 (Continued) 3. Description Direct materials Print Frame and glass Matting Total Direct labor Picking ([10/60] x $12) Matting and framing ([20/60] x$21) ([30/60] x $21) Total Manufacturing overhead by activity Picking prints @ $0.30 per pick Inventory selection and management @ $0.70 per component (1, 2, and 3) Website optimization @ $0.258 per print @ $4.128 per framed or framed and matted Framing and matting @ $2.10 per component Total Total product cost
4.
Lance Armstrong Print
John Elway Steel-Framed Print, No Matting
Lambeau Field Wood-Framed Print, with Matting
$12.00
$16.00 4.00
12.00
20.00
$20.00 6.00 4.00 30.00
2.00
2.00
2.00
7.00 2.00
9.00
10.50 12.50
0.30
0.30
0.30
0.70
1.40
2.10
0.258
0.00
0.00
4.128
4.128
0.00 1.258
4.20 10.028
6.30 12.828
$15.258
$39.028
$55.328
In Case 1 the high-volume prints consumed the greatest amount of overhead because it was assumed all manufacturing overhead was driven by print cost combined with sales volume, regardless of the mix of unframed prints and framed prints. Since far more unframed prints were sold, most of the overhead was allocated to unframed prints.
CC17 (Continued) Under ABC, this changes. Although still based on estimates, ABC first provides an analysis of how resources were consumed by activity. Next, in the second step of allocation, activity costs are allocated to unframed prints and framed prints using different types of drivers. These drivers are designed to model how manufacturing overhead resources were consumed at the product level. For example, the last activity (framing and matting) is allocated to framed items only. The reason is that unframed prints do not consume framing and matting equipment, space, and general overhead resources. The primary implication for the company is that the product costs will be more accurate, which will result in better product pricing and more accurate evaluation of the relative profitability of the products. 5.
There are some costs that are very difficult to allocate because it is difficult to determine a meaningful cost driver that captures differences across products. Time and resources dedicated to web optimization for an integrated system fall into this category. In this case, in order to reflect the significant difference between the amount of time spent on web optimization by the IT staff on unframed prints versus framed prints, the total cost of web optimization was first split between these two categories. Time of IT staff was used to subdivide the cost by resource consumption between unframed prints and framed prints. This allocation, although it may appear simple, is sometimes very difficult to accomplish in the real world. Once identified, management can see that much of IT’s resources are being consumed by framed and matted items.
6.
The advantage of ABC versus traditional predetermined overhead allocation is that ABC allocates costs based on the activities that generate those costs. This results in more accurate product costing. By breaking costs down into more refined categories, product costing will be even more accurate. However, having more categories is costly from a record-keeping perspective. Increasingly, there is an effort by ABC consultants to “keep it simple” so as to reduce the cost of implementing ABC. It is believed that many of the benefits of ABC can be attained with relatively simple systems.
CC17 (Continued) 7.
By allocating fixed overhead costs using operating capacity as the basis, management can see how much, approximately, each item costs at capacity. Although this is somewhat arbitrary, it does provide a benchmark for comparability and improvement. The advantage is that management can manage costs based on a standard. If expected sales volume is used to allocate fixed overhead costs, then the allocation rate will fluctuate as sales fluctuate. This reduces the usefulness of analysis across years and makes planning very difficult. In fact, it can result in a vicious cycle: As volume decreases, the fixed cost per unit goes up, so product cost goes up. In response, management raises prices (because the product cost has risen). When the price rises, volume falls even further, and the cycle starts over again. Keep in mind that costs must be controlled at the activity level. Therefore, an activity cost at a standard is what is necessary for measurement, resource allocation, and evaluation. By allocating based on capacity these fluctuations can be eliminated (as long as capacity doesn’t vary). Therefore, the use of operating capacity for allocating fixed overhead costs can result in better decision making.
8.
(a) The allocation of the overhead to the three product categories would be as follows: Unframed prints Activity Cost Pool Picking prints Inventory selection management Website optimization Framing and matting Total
Expected Use of Cost Driver
Overhead Rate
80,000 80,000 80,000 na
$0.30 0.70 0.258
Cost Assigned $ 24,000 56,000 20,640 $100,640
Steel-framed prints Activity Cost Pool Picking prints Inventory selection management Website optimization Framing and matting Total
Expected Use of Cost Driver
Overhead Rate
15,000 30,000 15,000 30,000
$0.30 0.70 4.128 2.10
Cost Assigned $
4,500 21,000 61,920 63,000 $150,420
CC17 (Continued) Wood-framed prints with matting Activity Cost Pool Picking prints Inventory selection management Website optimization Framing and matting Total
Expected Use of Cost Driver
Overhead Rate
7,000 21,000 7,000 21,000
$0.30 0.70 4.128 2.10
Cost Assigned $ 2,100 14,700 28,896 44,100 $89,796
(b) The total overhead allocated was $340,856, ($100,640 + $150,420 + $89,796). This is $34,344 less than the total overhead of $375,200. The overhead rates for website optimization and framing and matting were both determined using the capacity amount rather than the expected sales amount. The reasons for this were discussed earlier. Since expected/ actual sales were less than capacity, the overhead is underapplied. This cost of $34,344 can be viewed as the cost of operating at less than capacity. In order to reduce this amount, management should either figure out ways to increase sales or reduce fixed costs by shifting resources to other products.
CT17.1
DECISION-MAKING ACROSS THE ORGANIZATION
The following activities and cost drivers might be submitted: (a) Activities Laundering Housekeeping Dietary Computing information technology Nursing care Surgery Clinical lab Imaging (X-ray, etc.) Pharmacy Emergency room Maintenance Billing and collecting
(b) Cost Drivers Pounds of linen Square footage; number of beds Number of meals Minutes of computer usage; or number of work stations Number of patient days Number of procedures or operations Number of tests Number of images Number of prescriptions Number of cases or patients Square footage Number of invoices
LO2 BT: C Difficulty: Easy TOT: 15 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CT17.2
MANAGERIAL ANALYSIS
(a) Computation of activity-based overhead rate:
Activity Cost Pools
Total Estimated Overhead ÷
Estimated Use of Cost Drivers Per Activity
Market analysis Product design Product development Prototype testing
$1,050,000 2,350,000 3,600,000 1,400,000
15,000 Hours 2,500 Designs 90 Products 500 Tests
=
Activity-Based Overhead Rates $ 70 per hour $ 940 per design $40,000 per product $ 2,800 per test
(b) Charges to in-house manufacturing department: In-House Manufacturing Department
Activity Cost Pools
Activity-Based Cost Drivers Used x Overhead Rates = Cost Assigned
Market analysis 1,800 Hours Product design 280 Designs Product development 10 Products Prototype testing 92 Tests Total overhead assigned
$ 70 $ 940 $40,000 $ 2,800
$ 126,000 263,200 400,000 257,600 $1,046,800
[(1,800 x $70) + (280 x $940) + (10 x $40,000) + (92 x $2,800) = $1,046,800] [(No. of hrs. x OH rate/hr.) + (No. of designs x OH rate/design) + (No. of prod. x OH rate/prod.) + (No. of tests x OH rate/test) = Tot. OH assigned]
(c) Charges to outside R & D contractor: Outside Contract Costs
Activity Cost Pools
Activity-Based Cost Drivers Used x Overhead Rates = Cost Assigned
Market analysis 800 Hours Product design 178 Designs Product development 3 Products Prototype testing 70 Tests Total overhead assigned
$ 70 $ 940 $40,000 $ 2,800
$ 56,000 167,320 120,000 196,000 $539,320
[(800 x $70) + (178 x $940) + (3 x $40,000) + (70 x $2,800) = $539,320] [(No. of hrs. x OH rate/hr.) + (No. of designs x OH rate/design) + (No. of prod. x OH rate/prod.) + (No. of tests x OH rate/test) = Tot. OH assigned]
CT17.2 (Continued) (d) Activity-based costing permits the company to identify its R&D costs by the activities that cause the costs; that is, ABC allows closer scrutiny of the causes for cost incurrences; hence, greater control. By charging inhouse manufacturing departments for their fair share of the company’s R&D costs, these departments may exert their own control over such costs. Activity-based costing allows Ideal to compile realistic costs for bidding and charging outside users of its R&D department’s services. LO1, 2, 3 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
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CT17.3
REAL-WORLD FOCUS
(a) Some of the benefits of ABC for the financial services industry include: Identification of the most profitable customers More accurate product and service pricing Increased product profitability Well-organized process costs (b) Three things that the company’s original costing method did not take into account were: (1) The same servicing and administrative expenses were applied equally to all accounts, including fixed and adjustable rate mortgages. (2) No consideration was given to “seasoning”, that is, the amount of time a loan had been on the books. (3) It did not take credit quality into account. (c) Some of the cost drivers used under the new approach were: Average number of accounts that were at least 60 days delinquent. Average number of accounts outstanding. Average number of bankrupt accounts plus the average number of real estate owned accounts. LO4 BT: C Difficulty: Easy TOT: 20 min. AACSB: Technology, Communication AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
CT17.4
ETHICS CASE
(a) The stakeholders (parties affected by Curtis’s and Ed’s actions) in this case are: Curtis as cost accountant. Ed and all personnel employed in the production of the Supercut Model of lawn tractor. Hi-Power Mower management. Hi-Power Mower owners (stockholders). The stakeholder group may be expanded to include Hi-Power Mower’s suppliers, creditors, and customers. (b) The objective of cost accounting is to provide useful, accurate information for decision making by managers. Ed is coercing Curtis to massage the data to save the product line and, thus, Ed’s job. Ed is advocating knowingly providing false data, deceiving management, and jeopardizing Curtis’s job. (c) Curtis is a management accountant employed by Hi-Power Mower Company. His first job responsibility is to his employer to: (1) communicate information fairly and objectively and (2) disclose fully all relevant information that could reasonably be expected to influence an intended user’s understanding of the reports, comments, and recommendations presented. Curtis’s obligation is to provide management with timely, truthful information. LO1 BT: E Difficulty: Easy TOT: 20 min. AACSB: Ethics, Communication AICPA AC: Measurement Analysis and Interpretation AICPA PC: Ethical Conduct, Communication IMA: Reporting & Control: Cost Accounting, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT 17.5
ALL ABOUT YOU
(a) The three main tools for time management for students are: Term calendar—records quizzes, exams, project due dates and other major events. Weekly schedule—records your scheduled time for learning for each course. Daily to do list—lists the tasks that must be accomplished each day in order to identify priorities. (b) Studies show that students are most inclined to waste time during the morning and afternoon. Your brain is best prepared for learning during day-light hours. Therefore, it is important to schedule your time so that you tackle your most difficult topics during daylight hours. (c) Many students resent time management practices because they think they will be constraining. In fact, time management practices can be liberating because they help you to get control of your life so that you have more time to devote to those things that are really important to you. (d) Goal setting is important because if you have clearly defined goals you will be more likely to accomplish those things that are important to you. Good goals are clearly defined, with as much detail as possible. They also should be realistic. To help you develop your goals, you should discuss your goals and objectives with a mentor or advisor. LO N/A BT: C Difficulty: Easy TOT: 30 min. AACSB: Technology, Communication AICPA PC: Communication IMA: None
CT 17.6
CONSIDERING YOUR COSTS AND BENEFITS
Discussion guide: In part, the response to this question depends on how broadly you apply the term “value-added activity” when looking at one’s life. For example, some value-added activities relate to goals and objectives for school and work. It is important to try to manage your time effectively to maximize your chance of achieving these objectives. But it is also important to identify the other things in life that are important. These would include time with friends, family, your health, and hobbies and activities that you value. When identifying personal value-added activities, it is important to identify all the things, school-related and otherwise, that matter most to you. In applying the activity-based concepts that you learned in this chapter to your life, try to eliminate the non-value-added activities that reduce your ability to focus on those aspects of life that are really important to you. LO3 BT: S Difficulty: Easy TOT: 20 min. AACSB: Communication AICPA PC: Communication IMA: Reporting & Control: Cost Accounting
CHAPTER 19 Cost-Volume-Profit Analysis: Additional Issues Learning Objectives 1. Apply basic CVP concepts. 2. Explain the term sales mix and its effects on break-even sales. 3. Determine sales mix when a company has limited resources. 4. Indicate how operating leverage affects profitability. *5. Explain the differences between absorption costing and variable costing.
ANSWERS TO QUESTIONS 1.
CVP or cost-volume-profit analysis is the study of the effects of changes in costs and volume on a company’s profit.
LO1 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
2.
Managers use CVP analysis to make decisions involving break-even point, sales required to reach a target net income, margin of safety, the most profitable sales mix, allocation of limited resources, and operating leverage.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
3.
Both types of income statements report the same amount of net income. But the format used to reach net income differs. A traditional income statement’s format consists of: Sales revenue – cost of goods sold = gross profit; Gross profit – selling and administrative expenses = net income. A CVP income statement’s format consists of: Sales revenue – variable expenses = contribution margin; Contribution margin – fixed expenses = net income.
LO1 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
4.
The CVP income statement isolates variable costs from fixed costs while the traditional income statement does not. The CVP format indicates contribution margin in total and frequently on a per unit basis as well. This format facilitates calculation of break-even point and target net income. It also highlights how changes in sales volume or cost structure affect net income.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
5.
WHEAT COMPANY CVP Income Statement Sales ........................................................................................................ Variable costs ($500,000 x 0.75) + ($200,000 x 0.75)............................... Contribution margin ..................................................................................
$900,000 525,000 $375,000
LO1 BT: AP Difficulty: Easy TOT: 3min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy Planning & Performance: Decision Analysis
6.
If the selling price is reduced but variable and fixed costs remain unchanged, the break-even point will increase.
LO1 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
7.
Sales mix is the relative percentage of each product sold when a company sells more than one product. It is used to calculate the weighted-average unit contribution margin, and changes the calculation of the break-even point because the fixed costs must be divided by the weightedaverage unit contribution margin.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
8.
The 150,000-mile tire has a higher unit contribution margin, that is, each tire sold covers a larger amount of fixed costs. Therefore, if the sales mix shifts away from the 150,000-mile tire to the 50,000-mile tire, the company will have to sell more total tires in order to break-even.
Questions Chapter 19 (Continued) LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
9.
If a company has many products, the break-even point is calculated using sales information for divisions or product lines, rather than individual products. The weighted-average contribution margin ratio is computed by multiplying the sales mix percentage of each product line by the contribution margin ratio of each product line, and then summing the results. Total break-even sales in dollars is then calculated by dividing the company’s total fixed costs by the weightedaverage contribution margin ratio. Finally, to determine the amount of sales generated by each product line at the break-even point, multiply the total break-even sales by the sales mix percentage of each product line.
LO2 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
10. Contribution margin per unit of limited resource is determined by dividing the unit contribution margin of the product by the number of units of the limited resource required to produce the product. LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
11. The theory of constraints is a specific approach used to identify and manage constraints to achieve the company’s goals. According to this theory, a company must continually identify its constraints and find ways to reduce or eliminate them, where appropriate. Examples of constraints would be production bottlenecks or poorly trained workers. LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
12. Cost structure refers to the relative proportion of fixed costs versus variable costs that a company incurs. Companies that rely heavily on fixed costs will have higher break-even points. LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
13. Operating leverage refers to the extent to which a company’s net income reacts to a given change in sales. A company can increase its operating leverage by increasing its reliance on fixed costs. LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
14. Typically, manual labor is considered a variable cost. Depreciation on factory equipment is a fixed cost. Therefore, if a company replaces manual labor with automated factory equipment it will increase fixed costs, its operating leverage, and its break-even point. LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
15. The degree of operating leverage provides a measure of a company’s earnings volatility and can be used to compare companies. It is calculated by dividing the contribution margin by net income at a particular level of sales. LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
16. Pine’s degree of operating leverage of 8 versus Fir’s measure of 4 tells us that Pine will experience twice (8 ÷ 4) the increase (or decrease) in net income for a given increase (decrease) in sales as Fir. LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
Questions Chapter 19 (Continued) *17. Under absorption costing, both variable and fixed manufacturing costs are considered to be product costs. Under variable costing, only variable manufacturing costs are product costs and fixed manufacturing costs are expensed when incurred. LO5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*18. (a)
The rationale for variable costing centers on the purpose of fixed manufacturing costs, which is to have productive facilities available for use. Since these costs are incurred whether a company operates at zero or 100% capacity, it is argued that they should be expensed when they are incurred. Under variable costing it is easier to understand the impact of variable and fixed costs on net income. (b) Variable costing cannot be used for financial reporting purposes because it does not follow generally accepted accounting principles which requires that fixed manufacturing overhead be accounted for as a product cost
LO5 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*19.
One way to compute the difference is as follows: Ending inventory 8,500
x Fixed manufacturing overhead cost per unit x $5
= $42,500
Absorption costing will report a $42,500 higher net income than variable costing because a portion of the fixed manufacturing overhead costs are deferred in inventory under absorption costing. LO5 BT: C Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*20. If production equals sales in any given period, the net income under both methods will be equal. In this case, there is no increase in the ending inventory. So fixed manufacturing overhead costs in the current period are not deferred to future periods through the ending inventory. The same total cost is expensed under both methods. LO5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*21. If production is greater than sales, absorption costing net income will be greater than variable costing net income. Absorption costing net income is higher because some of the fixed manufacturing overhead costs will be deferred in the inventory account until the products are sold. LO5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*22. In the long run, neither method will produce a higher net income amount. Over a long period of time, sales can never exceed production, nor production exceed sales by significant amounts. For this reason, over the lifetime of a corporation, variable costing and absorption costing will tend to yield the same cumulative net income amounts. LO5 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Reporting &Control: Cost Accounting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 19.1 1.
(a)
$70 = ($250 – $180)
(b)
28% = ($70 ÷ $250)
($70 ÷ $250 = 28%) (UCM ÷ USP = CM ratio)
2.
(c)
$300 = ($500 – $200)
($500 - $200 = $300) (USP – UCM = UVC)
3.
(d)
40% = ($200 ÷ $500)
(e)
$1,100 = ($330 ÷ 30%)
($330 ÷ 30% = $1,100) (UCM ÷ CM ratio = USP)
(f)
$770 = ($1,100 – $330)
LO1 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
BRIEF EXERCISE 19.2 HAMBY INC. CVP Income Statement For the Quarter Ended March 31, 2025 Sales........................................................................ Variable expenses Cost of goods sold ......................................... Selling expenses............................................. Administrative expenses................................ Total variable expenses.......................... Contribution margin............................................... Fixed expenses Cost of goods sold ......................................... Selling expenses............................................. Administrative expenses................................ Total fixed expenses ............................... Net income..............................................................
$2,000,000 $760,000 95,000 79,000 934,000 1,066,000 600,000 60,000 66,000 726,000 $ 340,000
LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation
BRIEF EXERCISE 19.2 (Continued) [$2,000,000 – ($760,000 + $95,000 + $79,000) – ($600,000 + $60,000 + $66,000) = $340,000] [Sales – (Var. CGS + Var. sell. exp. + Var. admin. exp.) – (Fix. CGS + Fix. sell. exp. + Fix. admin. exp.) = Net inc.]
BRIEF EXERCISE 19.3 Contribution margin ratio = [($250,000 – $150,000) ÷ $250,000] = 40% Required sales in dollars = $120,000 ÷ 40% = $300,000 LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision analysis
[(($250,000 - $150,000) ÷ $250,000 = 40%); ($120,000 ÷ 40% = $300,000)] [((Rev. – VC) ÷ Rev. = CM ratio); (FC ÷ CM ratio = BEP in $)]
BRIEF EXERCISE 19.4 (a) $400Q = $250Q + $210,000 $150Q = $210,000 Q = 1,400 units (b) Unit contribution margin $150, or ($400 – $250) X = $210,000 ÷ $150 X = 1,400 units [$210,000 ÷ ($400 - $250) = 1,400] [FC ÷ (USP – UVC) = BEP in units] LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
BRIEF EXERCISE 19.5 X = 0.70X + $210,000 + $60,000 0.30X= $270,000 X = $900,000 LO1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(X - 0.70X) = ($210,000 + $60,000); X = $270,000 ÷ 0.30); (X = $900,000)] [(Sales – VC as % of sales) = (FC + Target net inc.); (Sales = (Fixed costs + Target net inc.) ÷ CM ratio); (X = Req. sales $)
BRIEF EXERCISE 19.6 Margin of safety = $1,200,000 – $960,000 = $240,000 Margin of safety ratio = $240,000 ÷ $1,200,000 = 20% LO1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [($1,200,000 - $960,000) ÷ $1,200,000 = 20%] [(Act. sales – BEP sales) ÷ Act. sales = MOS ratio]
BRIEF EXERCISE 19.7 Model A12 B22 C124
Sales Mix Percentage 60% 15% 25%
Unit Contribution Margin $15 ($50 – $35) $30 ($100 – $70) $100 ($400 – $300)
Weighted-Average Unit Contribution Margin $ 9.00 4.50 25.00 $38.50
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(A12: 60% x ($50 - $35)) + (B22: 15% x ($100 - $70)) + (C124: 25% x ($400 - $300)) = $38.50] [(A12: Sales mix % x (USP – UVC)) + (B22: Sales mix % x (USP – UVC)) + (C124: Sales mix % x (USP – UVC)) = Wtd.-ave. UCM]
BRIEF EXERCISE 19.8 Total break-even = ($269,500 ÷ $38.50*) = 7,000 units *Computed in BE 19.7 Sales Units Units of A12 = 0.60 x 7,000 = 4,200 Units of B22 = 0.15 x 7,000 = 1,050 Units of C124 = 0.25 x 7,000 = 1,750 7,000 LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [($269,500 ÷ $38.50 = 7,000); (A12: 7,000 x 0.60 = 4,200); (B22: 7,000 x 0.15 = 1,050); (C124: 7,000 x 0.25 = 1,750)] [(FC ÷ Wtd.-ave. UCM = BEP in units); (A12: BEP in units x Sales mix % = Unit sales at BEP); (B22: BEP in units x Sales mix % = Unit sales at BEP); (C124: BEP in units x Sales mix % = Unit sales at BEP);]
BRIEF EXERCISE 19.9 (a)
Weighted-average contribution = margin ratio
(0.30 x 0.20) + (0.50 x 0.30) + ( 0.20 x 0.45) = 0.30
[(B’day: 0.30 x 0.20) + (Std.: 0.50 x 0.30) + (Lrg.: 0.20 x0 .45) = 0.30] [(B’day: Sales mix % x CM ratio) + (Std.: Sales mix % x CM ratio) + (Lrg.: Sales mix % x CM ratio) = Wtd.-ave. CM ratio]
(b)
Total break-even point = in dollars
($450,000 ÷ 0.30) = $1,500,000
Birthday $1,500,000 x 0.30 = $ 450,000 Standard tapered $1,500,000 x 0.50 = 750,000 Large scented $1,500,000 x 0.20 = 300,000 $1,500,000 LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
BRIEF EXERCISE 19.10 (a)
Sales Mix Bedroom Division $500,000 ÷ $1,250,000 = 0.40 Dining Room Division $750,000 ÷ $1,250,000 = 0.60
[(Bedrm.: $500,000 ÷ $1,250,000 = .40); (Dining Rm.: $750,000 ÷ $1,250,000 = .60)] [(Bedrm.: Div. sales ÷ Tot. sales = Sales mix %); (Dining Rm.: Div. sales ÷ Tot. sales = Sales mix %)]
(b)
Weighted-average $575,000 = = contribution ____________________ 0.46 margin ratio $1,250,000 OR Contribution Margin Ratio Bedroom Division($275,000 ÷ $500,000) = 0.55 Dining Room Division($300,000 ÷ $750,000) = 0.40 Weighted-average contribution margin ratio = (0.55 x 0.40) + (0.40 x 0.60) = 0.46
($575,000 ÷ $1,250,000 = 0.46) (Tot. CM ÷ Tot. sales = Wtd.-ave. CM ratio) LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
BRIEF EXERCISE 19.11
Unit contribution margin (a) Machine hours required (b) Contribution margin per unit of limited resource [(a) ÷ (b)]
Product A $10 2 $ 5
Product B $12 3 $ 4
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(A: $10 ÷ 2 = $5); (B: $12 ÷ 3 = $4)] [(A: UCM ÷ MH/unit = CM/unit of lmtd. resource); (B: UCM ÷ MH/unit = CM/unit of lmtd. resource)]
BRIEF EXERCISE 19.12
Unit contribution margin (a) Machine hours required (b) Contribution margin per unit of limited resource [(a) ÷ (b)]
Product 1 $ 42 0.15 $280
Product 2 $ 32 0.10 $320
BRIEF EXERCISE 19.12 (Continued) Product 2 has a higher contribution margin per unit of limited resource, even though it has a unit lower contribution margin. Given that machine hours are limited to 2,000 per month, Sage Corporation should produce Product 2. LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(Prod. 1: $42 ÷ .15 = $280); (Prod. 2: ($32 ÷ .10 = $320)] [(Prod. 1: UCM ÷ MH/unit = CM/unit of lmtd. resource); (Prod. 2: UCM ÷ MH/unit = CM/unit of lmtd. resource)]
BRIEF EXERCISE 19.13 Degree of operating leverage (old) =
$200,000 ÷ $40,000 = 5.0
Degree of operating leverage (new) =
$240,000 ÷ $40,000 = 6.0
If Sam’s sales change, the resulting change in net income will be 1.2 times (6 ÷ 5) higher or lower with the new machine than under the old system. LO4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(Old: $200,000 ÷ $40,000 = 5); (New: $240,000 ÷ $40,000 = 6)] [(Old: CM ÷ Net inc. = DOL); (New: CM ÷ Net inc. = DOL)]
BRIEF EXERCISE 19.14 Break-even point in dollars: Diggs Co. $75,000 ÷ ($120,000 ÷ $200,000) = $125,000
Doggs Co. $105,000 ÷ ($150,000 ÷ $200,000) = $140,000
Doggs Company’s cost structure relies much more heavily on fixed costs than that of Diggs Co. As result, Doggs has a higher contribution margin ratio of .75 ($150,000 ÷ $200,000) versus .60 ($120,000 ÷ $200,000), for Diggs Co. Doggs also has much higher fixed costs to cover. Its break-even point is therefore higher than that of Diggs Co. LO4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(Diggs: $75,000 ÷ ($120,000 ÷ $200,000) = $125,000); (Doggs: $105,000 ÷ ($150,000 ÷ $200,000) = $140,000)] [(Diggs: FC ÷ CM ratio = BEP in $); (Doggs: FC ÷ CM ratio = BEP in $)]
BRIEF EXERCISE 19.15 Degree of operating leverage = Contribution margin ÷ Net income Montana Corp. 1.6 = Contribution margin ÷ $50,000 Contribution margin = $50,000 x 1.6 = $80,000 APK Co. 5.4 = Contribution margin ÷ $50,000 Contribution margin = $50,000 x 5.4 = $270,000 LO4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [(Montana: $50,000 x 1.6 = $80,000); (APK: $50,000 x 5.4 = $270,000)] [(Montana: Net inc. x DOL = CM); (APK: Net inc. x DOL = CM)]
*BRIEF EXERCISE 19.16 Variable Costing Direct materials Direct labor Variable manufacturing overhead Total product costs
$14,400 25,600 29,400 $69,400
LO5 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting ($14,400 + $25,600 + $29,400 = $69,400) (DM + DL + VOH = Tot. prod. costs)
*BRIEF EXERCISE 19.17 Absorption Costing Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Total product costs
$14,400 25,600 29,400 12,000 $81,400
LO5 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting ($14,400 + $25,600 + $29,400 + $12,000 = $81,400) (DM + DL + VOH + FOH = Tot. prod. costs)
*BRIEF EXERCISE 19.18 (a) Absorption Costing Direct materials................................................................ Direct labor....................................................................... Variable manufacturing overhead .................................. Fixed manufacturing overhead ($128,000 ÷ 8,000) ........ Total manufacturing cost per unit ..................................
$20 14 15 16 $65
*BRIEF EXERCISE 19.18 (Continued) [$20 + $14 + $15 + ($128,000 ÷ 8,000) = $65] [DM + DL + VOH + (Tot. FOH ÷ No. units made) = Tot. mfg. unit cost]
(b) Variable Costing Direct materials............................................... Direct labor ..................................................... Variable manufacturing overhead ................. Total manufacturing cost per unit .................
$20 14 15 $49
($20 + $14 + $15 = $49) (DM + DL + VOH = Tot. mfg. unit cost) LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*BRIEF EXERCISE 19.19 MEMO To:
Chief financial officer
From:
Student
Re:
Absorption and variable costing
Under absorption costing, fixed manufacturing overhead is a product cost, while under variable costing, fixed manufacturing overhead is a period cost (expensed as incurred). Since units produced (50,000) exceeded units sold (46,000) last month, income under absorption costing will be higher than under variable costing. Some fixed overhead (4,000 units x $4 = $16,000) will be assigned to ending inventory and therefore not expensed under absorption costing, whereas all fixed overhead is expensed under variable costing. Therefore, absorption costing net income will be higher than variable costing net income by $16,000. LO5 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO DO IT! EXERCISES DO IT! 19.1 (a)
Break-even point in units is 7,500 units ($150,000 ÷ $20). Break-even point in sales dollars is $375,000 ($150,000 ÷ 0.40). The margin of safety in dollars is $75,000 ($450,000 – $375,000).
(b)
Break-even point in units is 8,333 units (rounded) ($150,000 ÷ $18*). Break-even point in sales dollars is $400,000 ($150,000 ÷ 0.375**). The margin of safety in dollars is $118,400 ($518,400*** – $400,000). *$50 – (0.04 x $50) – $30 = $18. **$18 ÷ $48 = 0.375 ***9,000 + (0.20 x 9,000) = 10,800 units, 10,800 units x $48 = $518,400
[$50 – (0.04 x $50) - $30 = $18]; [USP – Decr. in USP – UVC = UCM] ($150,000 ÷ $18 = 8,333 (rounded)); (FC ÷ UCM = BEP in units) [$150,000 ÷ ($18 ÷ $48) = $400,000]; [FC ÷ CM ratio = BEP in $] [(9,000 + (0.20 x 9,000)) x $48 = $518,400]; [(Unit sales + Incr. in unit sales) x USP = Exp. sales $] ($518,400 - $400,000 = $118,400); (Exp. sales $ - BEP in $ = MOS in $)
The increase in the break-even point from $375,000 to $400,000 indicates that management should not implement the proposed change while the increase in the margin of safety from $75,000 to $118,400 indicates that management should implement the proposed change. Since the expected 20% increase in sales volume will result in a contribution margin of $194,400 (10,800 x $18) which is only $14,400 more than the current amount, management should be cautious before reducing unit prices. LO1 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic, Communication AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
DO IT! 19.2 (a)
The sales mix percentages as a function of units sold is: Basic 750 ÷ 1,500 = 50%
Basic Plus 450 ÷ 1,500 = 30%
Premium 300 ÷ 1,500 = 20%
(b) The weighted-average unit contribution margin is: [0.50 X ($250 – $195)] + [0.3 x ($400 – $285)] + [0.20 x ($800 – $415)] = $139. [(Basic: 50% x ($250 - $195)) + (Basic Plus: 30% x ($400 - $285)) + (Premium: 20% x ($800 - $415)) = $139] [(Basic: Sales mix % x UCM) + (Basic Plus: Sales mix % x UCM) + (Premium: Sales mix % x UCM) = Wtd.-ave. UCM]
DO IT! 19.2 (Continued) (c)
The break-even point in units is: $180,700 ÷ $139 = 1,300 units.
(d)
The break-even units to produce for each product are: Basic: 1,300 units x 50% = 650 units Basic Plus 1,300 units x 30% = 390 units Premium: 1,300 units x 20% = 260 units 1,300 units
[(Basic: 1,300 x 50% = 650) + (Basic Plus: 1,300 x 30% = 390) + (Premium: 1,300 x 20% = 260) = 1,300] [(Basic: Tot. BEP units x Sales mix % = Units at BEP) + (Basic Plus: Tot. BEP units x Sales mix % = Units at BEP) + (Premium: Tot. BEP units x Sales mix % = Units at BEP) = Tot. BEP units] LO2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
DO IT! 19.3 (a)
The Best binoculars have the highest unit contribution margin. Thus, ignoring any manufacturing constraints, it would appear that the company should shift toward production of more Best units.
(b) The contribution margin per unit of limited resource is calculated as:
Unit contribution margin Limited resource consumed per unit
Good Better Best $40 $150 $420 0.5 = $80 1.5 = $100 6 = $70
[(Good: $40 ÷ 0.5 = $80); (Better: $150 ÷ 1.5 = $100); (Best: $420 ÷ 6 = $70)] [(Good: UCM ÷ Hrs. per unit); (Better: UCM ÷ Hrs. per unit); (Best: UCM ÷ Hrs. per unit)]
(c)
The Better binoculars have the highest contribution margin per unit of limited resource, even though they do not have the highest unit contribution margin. Given the resource constraint, any additional capacity should be used to make Better binoculars.
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance:Decision Analysis
DO IT! 19.4 (a) Old New
Contribution Margin $1,400,000 $2,300,000
Net Income
=
$400,000 $400,000
= =
Degree of operating Leverage 3.50 5.75
DO IT! 19.4 (Continued) (b) The degree of operating leverage measures the company’s sensitivity to changes in sales. By switching to a cost structure dominated by fixed costs, the company would significantly increase its operating leverage. As a result, with a percentage change in sales, its percentage change in net income would be 1.64 times as much (5.75 ÷ 3.5) under the new structure as it would under the old. LO4 BT: AP Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
SOLUTIONS TO EXERCISES EXERCISE 19.1 (a)
1.
Contribution margin per room = Contribution margin per room = Contribution margin ratio =
$60 – ($8 + $34) $18 $18 ÷ $60 = 30%
Fixed costs = $10,600 + $2,400 + $1,500 + $800 = $15,300 Break-even point in rooms = $15,300 ÷ $18 = 850 [($10,600 + $2,400 + $1,500 + $800) ÷($60 - $8 - $34) = 850] (FC ÷ UCM = BEP in rooms)
2.
Break-even point in dollars
= =
850 rooms x $60 per room $51,000 per month
OR Fixed costs ÷ Contribution margin ratio = $15,300 ÷ 0.30 = $51,000 per month (b)
1.
Margin of safety in dollars: Planned activity = 50 rooms per day x 30 days = 1,500 rooms per month Expected rental revenue = 1,500 rooms x $60 = $90,000 Margin of safety in dollars = $90,000 – $51,000 = $39,000
[(50 x 30 x $60) - $51,000 = $39,000] [(No. rooms per day x days per mo. x rent per night) – BEP in $ = MOS in $]
2.
Margin of safety ratio:
$39,000 = 43.3% $90,000 (rounded)
LO1 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic, Communication AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.2 (a)
Contribution margin in dollars: Sales = 4,000 x $30 =
$120,000 Variable costs = $120,000 x 75% = 90,000 Contribution margin $ 30,000
Unit contribution margin: Contribution margin ratio:
$30 – $22.50 ($30 x 75%) = $7.50. $7.50 ÷ $30 = 25%.
[(4,000 x $30) – ($120,000 x 75%) = $30,000]; [(Units sold x USP) – (Sales $ x VC as % of sales) = CM] [$30 – ($30 x 75%) = $7.50]; [USP – (USP x VC as % of sales) = UCM] ($7.50 ÷ $30 = 25%); (UCM ÷ USP = CM ratio)
EXERCISE 19.2 (Continued) (b) Break-even sales in dollars:
$16,800 = $67,200. 25%
Break-even sales in units:
$16,800 = 2,240. $7.50
(c) Margin of safety in dollars: Margin of safety ratio:
$120,000 – $67,200 = $52,800. $52,800 ÷ $120,000 = 44%.
($120,000 - $67,500 = $52,800); (Act. sales $ - BEP in $ = MOS in $) ($52,800 ÷ $120,000 = 44%); (MOS in $ ÷ Act. sales $ = MOS ratio) LO1 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.3 Current selling price = $325,000 ÷ 5,000 units Current selling price = $65 1.
Increase selling price to $71.50 ($65 x 110%). Net income = $357,500* – $210,000 – $75,000 = $72,500. *($71.50 x 5,000)
($325,000 ÷ 5,000 = $65); (Tot. sales $ ÷ Units sold = Current USP) [(($65 x 110%) x 5,000) - $210,000 - $75,000 = $72,500]; [((Current USP x % incr.) x Units sold) – Tot. VC – Tot. FC = Net inc.]
2.
Reduce variable costs to 58% of sales. Net income = $325,000 – $188,500** – $75,000 = $61,500. **($325,000 x 58%)
[$325,000 – ($325,000 x 58%) - $75,000 = $61,500] [Tot sales – (Tot. sales x Reduced VC % of sales) – FC = Net inc.]
3.
Reduce fixed costs to $60,000 ($75,000 – $15,000). Net income = $325,000 – $210,000 – $60,000 = $55,000.
Alternative 1, increasing unit sales price, will produce the highest net income. LO1 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.4 $30,000
(a) 1. Contribution margin ratio is:
= 62.5%
$48,000 Break-even point in dollars = $20,250 = $32,400 62.5% 2. Contribution margin $30,000 = $75 per flight 400 flights = Break-even point in flights =
$20,250
= 270 flights
$75 ($30,000 ÷ $48,000 = 62.5%); (CM ÷ Sales = CM ratio) ($20,250 ÷ 62.5% = $32,400); (FC ÷ CM ratio = BEP in $) ($30,000 ÷ 400 = $75); (CM ÷ No. of flights = CM per flight) ($20,250 ÷ $75 = 270); (FC ÷ CM per flight = BEP in flights)
(b) At the break-even point fixed costs and contribution margin are equal. Therefore, the contribution margin at the break-even point would be $20,250. (c) Fare revenue ($108* x 500**) Variable costs ($18,000 x 125%) Contribution margin Fixed costs Net income
$54,000 22,500 31,500 20,250 $11,250
Yes, the fare decrease should be implemented because net income increases to $11,250 from $9,750. *$120 – (10% x $120) **400 + (25% x 400) [$120 – ($120 x 10%) = $108]; [Current price per flight – (current price per flight x % decr.) = Proposed price per flight] (400 + 100 = 500); (Current no. of flights + proposed incr. = Proposed no. of flights) [($108 x 500) – ($18,000 x 125%) - $20,250 = $11,250]; [(Proposed price per flight x proposed no. of flights) – (Current VC x Proposed % incr.) – FC = Proposed net inc.] LO1 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.5 (a)
CAREY COMPANY CVP Income Statement For the Year Ended December 31, 2025
Sales (60,000 x $25).............................. Variable costs (60,000 x $15)............... Contribution margin (60,000 x $10)..... Fixed costs ........................................... Net income............................................
(b)
Total $1,500,000 900,000 600,000 500,000 $ 100,000
Per Unit $25 15 $10
% of Sales 100% 60 40%
CAREY COMPANY CVP Income Statement For the Year Ended December 31, 2025
Sales [(60,000 x 105%) x $23.50*] ............... Variable costs (63,000 x $12.00**) .............. Contribution margin (63,000 x $11.50)....... Fixed costs ($500,000 + $100,000) ............. Net income...................................................
Total $1,480,500 756,000 724,500 600,000 $ 124,500
Per Unit $23.50 12.00 $11.50
% of Sales 100% 51 49%
*$25.00 – ($3.00 x 50%) = $23.50 **$15.00 – ($15.00 x 20%) = $12.00; or $15.00 - $3.00(given) = $12.00 [((60,000 x 105%) x ($26 – ($3 x 50%))) – (63,000 x ($15 – ($15 x 20%))) – ($500,000 + $100,000) = $124,500] [(Incr. units sold x reduced USP) – (Incr. units sold x reduced UVC) – Incr. FC = New net inc.] LO1 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.6
Lawnmowers Weed-trimmers Chainsaws
Sales Mix Percentage
Unit contribution Margin
20% 50% 30%
$30 $20 $40
WeightedAverage Contribution Margin $ 6 10 12 $28
Total break-even sales in units = $4,200,000 ÷ $28 = 150,000 units
EXERCISE 19.6 (Continued)
Lawnmowers Weed-trimmers Chainsaws Total units
Sales Mix Percentage 20% x 50% x 30% x
Total Break-even Sales in Units 150,000 = 150,000 = 150,000 =
Sales Units Needed Per Product 30,000 units 75,000 units 45,000 units 150,000 units
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis [$4,200,000 ÷ ((20% x $30) + (50% x $20) + (30% x $40)) = 150,000]; (FC ÷ Wtd.-ave. CM = Tot. BEP units) [(20% x 150,000 = 30,000) + (50% x 150,000 = 75,000) + (30% x 150,000 = 45,000) = 150,000]; [(Lawnmowers sales mix % x Tot. BEP units = Lawnmowers at BEP) + (Weed-trimmers sales mix % x Tot. BEP units = Weedtrimmers at BEP) + (Chainsaws sales mix % x Tot. BEP units = Chainsaws at BEP) = Tot. BEP units]
EXERCISE 19.7 (a)
Oil changes Brake repair
Sales Mix Percentage 70% 30%
Contribution Margin Ratio 20% 40%
Weighted-Average Contribution Margin Ratio 0.14 0.12 0.26
Total break-even sales in dollars = $15,600,000 ÷ 0.26 = $60,000,000
Oil changes Brake repair Total sales
Sales Mix Percentage 70% x 30% x
Total Break-even Sales in Dollars $60,000,000 $60,000,000
= =
Sales Dollars Needed Per Product $42,000,000 18,000,000 $60,000,000
[$15,600,000 ÷ ((70% x 20%) + (30% x 40%)) = $60,000,000]; (FC ÷ Wtd.-ave. CM ratio = Tot. BEP $) [(70% x $60,000,000 = $42,000,000) + (30% x $60,000,000 = $18,000,000) = $60,000,000]; [(Oil changes sales mix % x Tot. BEP $ = Oil changes sales $ at BEP) + (Brake repair sales mix % x Tot. BEP $ = Brake repair $ at BEP) = Tot. BEP $]
EXERCISE 19.7 (Continued) (b) Sales to achieve target net income = ($78,000 + $52,000) ÷ .26 = $500,000
Oil changes Brake repair Total sales
Sales Mix Percentage 70% x 30% x
Total Sales Needed $500,000 = $500,000 =
Sales Dollars Needed Per Product Per Service Outlet $350,000 150,000 $500,000
LO2 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.8 (a)
Mail pouches and small boxes Non-standard boxes
Sales Mix Percentage
Contribution Margin Ratio
Weighted-Average Contribution Margin Ratio
80%
20%
0.16
20%
70%
0.14 0.30
Total break-even sales in dollars = $12,000,000 ÷ 0.30 = $40,000,000 Total Breakeven Sales in Dollars
Sales Mix Percentage Mail pouches and small boxes Non-standard boxes Total sales
Sales Dollars Needed Per Product
80%
x
$40,000,000
=
$32,000,000
20%
x
$40,000,000
=
8,000,000 $40,000,000
EXERCISE 19.8 (Continued) (b)
Mail pouches and small boxes Non-standard boxes
Sales Mix Percentage
Contribution Margin Ratio
Weighted-Average Contribution Margin Ratio
40%
20%
0.08
60%
70%
0.42 0.50
Total break-even sales in dollars = $12,000,000 ÷ 0.50 = $24,000,000 Total Breakeven Sales in Dollars
Sales Mix Percentage Mail pouches and small boxes Non-standardized boxes Total sales
Sales Dollars Per Product
40%
x
$24,000,000
=
$ 9,600,000
60%
x
$24,000,000
=
14,400,000 $24,000,000
[$12,000,000 ÷ ((40% x 20%) + (60% x 70%)) = $24,000,000]; (FC ÷ Wtd.-ave. CM ratio = Tot. BEP $) [(40% x $24,000,000 = $9,600,000) + (60% x $24,000,000 = $14,400,000) = $24,000,000]; [(Mail pouches sales mix % x Tot. BEP $ = Mail pouches sales $ at BEP) + (Non-std. boxes sales mix % x Tot. BEP $ = Non-std. boxes sales $ at BEP) = Tot. BEP $] LO2 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.9 (a) Weighted-average unit contribution margin = ($40 x 0.35) + ($20 x 0.55) + ($60 x 0.10) = $31 Break-even point in units = $620,000 ÷ $31 = 20,000 [$620,000 ÷ (($40 x 0.35) + ($20 x 0.55) + ($60 x 0.10)) = 20,000] (FC ÷ Wtd.-ave. UCM = BEP units)
(b) Shoes (20,000 x 0.35) = 7,000 pairs of shoes Gloves (20,000 x 0.55) = 11,000 pairs of gloves Range-finders (20,000 X 0.10)= 2,000 range-finders
EXERCISE 19.9 (Continued) (c) Shoes: 7,000 x $40 = $280,000 Gloves: 11,000 x $20 = 220,000 Range-finders: 2,000 x $60 = 120,000 Total contribution margin 620,000 Fixed costs 620,000 Net income $ 0 [((7,000 x $40) + (11,000 x $20) + (2,000 x $60)) - $620,000 = $0] [((Shoes units sold at BEP x UCM) + (Gloves units sold at BEP x UCM) + (Range-finders units sold at BEP x UCM)) – FC = Net inc.] LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.10 (a) Sales mix percentage Tablet division: $600,000 ÷ ($600,000 + $400,000) = 0.60 MP3 Player division: $400,000 ÷ ($600,000 + $400,000) = 0.40 Contribution margin ratio: Tablet division: $180,000 ÷ $600,000 = 0.30 MP3 Player division:$140,000 ÷ $400,000 = 0.35 [($600,000 ÷ ($600,000 + $400,000) = .60); ($400,000 ÷ ($600,000 + $400,000) = .40)]; [(Tablet ÷ Tot. sales = Tablet sales mix %); (MP3 player sales ÷ Tot. sales = MP3 player sales mix %)] [($180,000 ÷ $600,000 = .30); ($140,000 ÷ $400,000 = .35)]; [Tablet CM ÷ Tablet sales = Tablet CM ratio); (MP3 player CM ÷ MP3 player sales = MP3 player CM ratio)]
(b)
Weighted-average contribution = $320,000 = 0.32 margin ratio $1,000,000
OR
Weighted-average contribution margin ratio = (0.60 x 0.30) + (0.40 x 0.35) = 0.32 (c) Break-even point in dollars = $120,000 ÷ 0.32 = $375,000 (d) Sales dollars needed at break-even point for each division Tablet division: $375,000 x 0.60 = $225,000 MP3 Player division:$375,000 x 0.40 = $150,000 [($375,000 x .60 = $225,000); ($375,000 x .40 = $150,000)]; [(Tablet: BEP in $ x Tablet sales mix % = Tablet sales $ at BEP); (MP3 player: BEP in $ x MP3 player sales mix % = MP3 player sales $ at BEP)] LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.11 (a) A Unit contribution margin (a) Machine hours required (b) Contribution margin per unit of limited resource (a) ÷ (b)
Product B
$
6 2 $3.00
$
2 1 $2.00
C $
3 2 $1.50
[(A: $6 ÷ 2 = $3); (B: $2 ÷ 1 = $2); (C: $3 ÷ 2 = $1.50)] [(A: UCM ÷ MH/unit = CM/MH); (B: UCM ÷ MH/unit = CM/MH); (C: UCM ÷ MH/unit = CM/MH)]
(b) Product A should be manufactured because it results in the highest contribution margin per machine hour. (c) 1. Machine hours (a) (3,000 ÷ 3) Contribution margin per unit of limited resource (b) Total contribution margin [(a) x (b)]
Product A B 1,000 1,000 $3.00 $3,000
C 1,000
$ 2.00 $ 1.50 $2,000 $1,500
The total contribution margin = ($3,000 + $2,000 + $1,500) = $6,500. [(A: 1,000 x $3) + (B: 1,000 x $2) + (C: 1,000 x $1.50) = $6,500] [(A: MH x CM/MH) +(B: MH x CM/MH) + (C: MH x CM/MH) = Tot. CM]
2. Machine hours (a) Contribution margin per unit of limited resource (b) Total contribution margin [(a) x (b)]
Product A 3,000 $3.00 $9,000
(A: 3,000 x $3 = $9,000) (A: MH x CM/MH = Tot. CM) LO3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.12 (a) Product D: $30 ÷ $10 = 3.0 hours per unit Product E: $80 ÷ $10 = 8.0 hours per unit Product F: $35 ÷ $10 = 3.5 hours per unit [(D: $30 ÷ $10 = 3.0); (E: $80 ÷ $10 = 8.0); ($35 ÷ $10 = 3.5)] [(D: DL cost ÷ DL hrly. rate = DLH/unit); (E: DL cost ÷ DL hrly. rate = DLH/unit); (F: DL cost ÷ DL hrly. rate = DLH/unit)]
EXERCISE 19.12 (Continued) (b) Selling price Variable costs Contribution margin Direct labor hours per unit Contribution margin per direct labor hour
D $ 200 125 75 ÷ 3.0
Product E $ 300 160 140 ÷ 8.0
F $ 250 180 70 ÷ 3.5
$25.00
$17.50
$20.00
[(D: ($200 - $125) ÷ 3 = $25); (E: ($300 - $160) ÷ 8 = $17.50); (F: ($250 - $180) ÷ 3.5 = $20)] [(D: (USP – UVC) ÷ DLH/unit = CM/DLH); (E: (USP – UVC) ÷ DLH/unit = CM/DLH); (F: (USP – UVC) ÷ DLH/unit = CM/DLH)]
(c) Product D should be produced because it generates the highest contribution margin per direct labor hour.
Total direct labor hours available Contribution margin per direct labor hour Total contribution margin
Product D 2,000 x $25 $50,000
LO3 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.13 (a)
Product Basic Deluxe $40 $52 22 24 $18 $28 0.5 0.8
Selling price per unit Variable costs per unit Unit contribution margin (a) Machine hours required (b) Contribution margin per machine hour (a) ÷ (b)
$36
$35
[(Basic: ($40 - $22) ÷ .5 = $36); (Deluxe: ($52 - $24) ÷ .8 = $35)] [(Basic: (USP – UVC) ÷ MH/unit = CM/MH); (Deluxe: (USP – UVC) ÷ MH/unit = CM/MH)]
(b) The Basic product should be manufactured because it results in the higher contribution margin per machine hour. (c) 1. Machine hours allocated x Contribution margin per machine hour Contribution margin
Basic 500
Deluxe 500
Total 1,000
$36 $18,000
$35 $17,500
$35,500
Basic 1,000
Deluxe –0–
Total 1,000
$36 $36,000
$35 –0–
$36,000
[(Basic: 500 x $36) + (Deluxe: 500 x $35) = $35,500] [(Basic: MH alloc. X CM/MH) + (Deluxe: MH alloc. X CM/MH) = Tot. CM]
2. Machine hours allocated x Contribution margin per machine hour Contribution margin
(Basic: 1,000 x $36 = $36,000) (Basic: MH alloc. x CM/MH = Tot. CM) LO3 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.14 (a)
Armstrong Contador
Contribution Margin $260,000 $450,000
÷ ÷ ÷
Net Income $100,000 $100,000
Degree of Operating = Leverage = 2.60 = 4.50
Interpretation: Contador has a higher degree of operating leverage. Its earnings would increase (decrease) by a greater amount than Armstrong if each experienced an equal increase (decrease) in sales. [(Armstrong: $260,000 ÷ $100,000 = 2.60); (Contador: $450,000 ÷ $100,000 = 4.50)]
EXERCISE 19.14 (Continued) [(Armstrong: CM ÷ Net inc. = DOL); (Contador: CM ÷ Net inc. = DOL)]
(b) Sales Variable costs Contribution margin Fixed costs Net income
Armstrong Company $550,000* 264,000** 286,000 160,000 $126,000
Contador Company $550,000 55,000*** 495,000 350,000 $145,000
*$500,000 x 1.1 **$240,000 x 1.1 ***$ 50,000 x 1.1 [(Armstrong: ($500,000 x 1.1) – ($240,000 x 1.1) - $160,000 = $126,000); (Contador: $550,000 – ($50,000 x 1.1) $350,000 = $145,000)] [(Armstrong: Incr. sales – Incr. VC – FC = Net inc.); (Contador: Incr. sales – Incr. VC – FC = Net inc.)]
(c) Each company experienced a $50,000 increase in sales. However, because of Contador’s higher operating leverage, it experienced a $45,000 ($145,000 – $100,000) increase in net income while Armstrong experienced only a $26,000 ($126,000 – $100,000) increase. This is what we would have expected, since Contador’s degree of operating leverage exceeds that of Armstrong. LO4 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.15 (a)
Manual system Computerized system (b)
Contribution Margin $300,000
÷ ÷
Net Income $200,000
= =
Degree of Operating Leverage 1.50
$900,000
÷
$200,000
=
4.50
The computerized system would produce profits that are 3.0 times (4.50 ÷ 1.50) as much as the manual system. With a $150,000 increase in sales, net income would increase $30,000 ($230,000 – $200,000) under the manual system and $90,000 ($290,000 – $200,000) under the computerized system.
EXERCISE 19.15 (Continued) Manual System $1,650,000 1,320,000* 330,000 100,000 $ 230,000
Sales Variable costs Contribution margin Fixed costs Net income
Computerized System $1,650,000 660,000** 990,000 700,000 $ 290,000
*($1,200,000 ÷ $1,500,000) x $1,650,000 **($600,000 ÷ $1,500,000) x $1,650,000 [(Manual: ($1,500,000 + $150,000) – (($1,200,000 ÷ $1,500,000) x $1,650,000) - $100,000 = $230,000); (Computerized: ($1,500,000 + $150,000) – (($600,000 ÷ $1,500,000) x $1,650,000) - $700,000 = $290,000)] [(Manual: Incr. sales – Incr. VC – FC = Net inc.); (Computerized: Incr. sales – Incr. VC – FC = Net inc.)]
(c) (Actual Sales
–
Break-even Sales)
÷
Actual Sales
=
Margin of Safety Ratio
Manual system
($1,500,000
–
$500,000*)
÷
$1,500,000
=
.67
Computerized system
($1,500,000
–
$1,166,667**)
÷
$1,500,000
=
.22
*$100,000 ÷ ($300,000 ÷ $1,500,000) **$700,000 ÷ ($900,000 ÷ $1,500,000) The manual system could weather the greater decline in sales before reaching the break-even point. Under the manual system sales could drop 67% before suffering a loss, while sales under the computerized system could only decline by 22% before suffering a loss. [(Manual: ($1,500,000 - ($100,000 ÷ ($300,000 ÷ $1,500,000)) ÷ $1,500,000 = .67); (Computerized: ($1,500,000 – ($700,000 ÷ ($900,000 ÷ $1,500,000)) ÷ $1,500,000 = .22)] [(Manual: (Act. sales $ - BEP $) ÷ Act. sales $ = MOS ratio); (Computerized: (Act. sales $ - BEP $) ÷ Act. sales $ = MOS ratio)] LO4 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
EXERCISE 19.16 (a) Contribution Net Degree of Operating Margin ÷ Income = Leverage Traditional Yams $ 80,000 ÷ $50,000 = 1.60 Auto-Yams $240,000 ÷ $50,000 = 4.80 Auto-Yams, which relies more heavily on fixed costs, has the higher degree of operating leverage, 4.80 versus 1.60. That means for every
EXERCISE 19.16 (Continued) dollar of increase (decrease) in sales, Auto-Yams will generate 3 (4.80 ÷ 1.60) times more (less) in contribution margin and net income. (b) % Change in Sales
x
Degree of Operating Leverage
15% decrease: Traditional Yams Auto-Yams
(15%) (15%)
x x
1.60 4.80
= =
(24.0%) (72.0%)
10% increase: Traditional Yams Auto-Yams
10% 10%
x x
1.60 4.80
= =
16.0% 48.0%
% Change in = Net Income
[(Traditional: (15%) x 1.60 = (24%)); (Auto: (15%) x 4.80 = (72%))]; [(Traditional: % decr. in sales x DOL = % decr. in net inc.); (Auto: % decr. in sales x DOL = % decr. in net inc.)] [(Traditional: 10% x 1.60 = 16%); (Auto: 10% x 4.80 = 48%)]; [(Traditional: % incr. in sales x DOL = % incr. in net inc.); (Auto: % incr. in sales x DOL = % incr. in net inc.)]
(c)
There are several possible answers that could be given. For example, if the candied Yams business is fairly stable, Auto-Yams might be the choice, because it will generate the higher contribution margin and net income. If, however, sales swing widely from year to year, Traditional Yams might be chosen because they will provide the more stable contribution margin and net income. Finally, if the investment banker is a risk taker, she might choose Auto-Yams in spite of year to year sales swings.
LO4 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
*EXERCISE 19.17 (a) Unit Cost Direct materials Direct labor Variable manufacturing overhead Manufacturing cost per unit
$ 7.50 3.45 5.80 $16.75
*EXERCISE 19.17 (Continued) (b) SIREN COMPANY Income Statement For the Year Ended December 31, 2025 Variable Costing Sales (80,000 lures x $25) Variable cost of goods sold (80,000 lures x $16.75) Variable selling and administrative expenses (80,000 lures x $3.90) Contribution margin Fixed manufacturing overhead Fixed selling and administrative expenses Net Income (loss)
$2,000,000 $1,340,000 312,000
1,652,000 348,000
225,000 210,100 $
435,100 (87,100)
[(80,000 x $25) – ((80,000 x $16.75) + (80,000 x $3.90)) – ($225,000 + $210,100) = ($87,100)] [(Units sold x USP) – ((Units sold x Unit VCGS) + (Units sold x Unit VS&A)) – (FMOH + FS&A) = Net loss]
(c) Unit Cost Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead ($225,000 ÷ 90,000) Manufacturing cost per unit
$ 7.50 3.45 5.80 2.50 $19.25
(d) SIREN COMPANY Income Statement For the Year Ended December 31, 2025 Absorption Costing Sales (80,000 lures x $25) Cost of goods sold (80,000 lures x $19.25) Gross profit Variable selling and administrative expenses (80,000 lures x $3.90) Fixed selling and administrative expenses Net Income (loss)
$2,000,000 1,540,000 460,000 $312,000 210,100
522,100 $ (62,100)
[(80,000 x $25) – (80,000 x $19.25) – ((80,000 x $3.90) + $210,100) = ($62,100)] [(Units sold x USP) – (Units sold x Mfg. cost/unit) – ((Units sold x Unit VS&A) + FS&A) = Net loss]
*EXERCISE 19.17 (Continued) LO5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting, Reporting & Control: Financial Stateent Preparation
*EXERCISE 19.18 (a)
Direct materials used Direct labor incurred Variable manufacturing overhead Variable manufacturing costs
$ 79,000 30,000 21,500 $130,500
Variable manufacturing cost per unit = $130,500 ÷ 9,000 = $14.50 per unit Finished goods inventory cost = (9,000 – 8,200 units) x $14.50 = $11,600 [(($79,000 + $30,000 + $21,500) ÷ 9,000 = $14.50); ((9,000 – 8,200) x $14.50 = $11,600)] [((DM used + DL incurred + Var. MOH) ÷ Units produced = Var. mfg. cost/unit); ((Units produced – Units sold) x Var. mfg. cost/unit = Fin. gds. inv. cost)]
(b)
Absorption costing would show a higher net income because a portion of the fixed costs are deferred to future periods. The following computation indicates that finished goods inventory will be $4,000 higher under absorption costing which will cause its net income to be $4,000 higher. Direct materials used Direct labor incurred Variable manufacturing overhead Fixed manufacturing overhead Total manufacturing costs
$ 79,000 30,000 21,500 45,000 $175,500
Total manufacturing costs per unit = $175,500 ÷ 9,000 = $19.50 per unit Finished goods inventory cost = (9,000 – 8,200 units) x $19.50 = $15,600 Inventory (absorption costing) Inventory (variable costing)
$15,600 11,600 $ 4,000
[(($79,000 + $30,000 + $21,500 + $45,000) ÷ 9,000 = $19.50); ((9,000 – 8,200) x $19.50 = $15,600)] [((DM used + DL incurred + Var. MOH + Fix. MOH) ÷ Units produced = Tot. mfg. cost/unit); ((Units produced – Units sold) x Tot. mfg. cost/unit = Fin. gds. inv. cost)] LO5 BT: AN Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 19.19 (a)
Months in a year 12 Months in a year 12
x x x x
Utility Expense Kilowatt Hourly Variable x = hours Charge Utilities 500 x $0.50 = $3,000 Monthly Fee $1,500
Fixed Utilities = $18,000 =
Variable Costing Labor: Crate builders Material: Wood Variable Overhead: Utilities Nails Total manufacturing costs
$43,000 54,000 3,000 350 $100,350
[$43,000 + $54,000 + (12 x 500 x $0.50) + $350 = $100,350] [DL + DM + Var. util. + Nails = Tot. var. mfg. costs]
(b)
Absorption Costing Labor: Crate builders Material: Wood Variable overhead: Utilities Nails Fixed overhead: Utilities Rent Total manufacturing costs
$ 43,000 54,000 3,000 350 18,000 21,400 $139,750
($43,000 + $54,000 + $3,000 + $350 + $18,000 + $21,400 = $139,750) (DL + DM + Var. util. + Nails + Fix. util. + Rent = Tot. mfg. costs)
EXERCISE 19.19 (Continued) (c)
The entire difference in costs between the two methods is due to the fact that fixed overhead is included as part of manufacturing costs only under the absorption costing method. This difference amounts to $39,400 ($18,000 + $21,400).
LO5 BT: AN Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
SOLUTIONS TO PROBLEMS PROBLEM 19.1 (a) Sales were $2,000,000 and variable expenses were $1,200,000, which means contribution margin was $800,000 and the CM ratio was 0.40. Fixed expenses were $1,035,000. Therefore, the break-even point in dollars is: $1,035,000 = $2,587,500 0.40 [(($2,000,000 - $1,200,000) ÷ $2,000,000 = .40); ($1,035,000 ÷ .40 = $2,587,500)] [((Sales – VC) ÷ Sales = CM ratio); (FC ÷ CM ratio = BEP in $)]
(b) 1.
The effect of this alternative is to increase the selling price per unit to $31.25 ($25 x 125%). Total sales become $2,500,000 (80,000 x $31.25). Thus, contribution margin ratio changes to 52% [($2,500,000 – $1,200,000) ÷ $2,500,000]. The new break-even point is: $1,035,000 = $1,990,385 (rounded) 0.52
[(((80,000 x ($25 x 125%)) - $1,200,000) ÷ $2,500,000 = .52); ($1,035,000 ÷ .52 = $1,990,385 (rounded))] [((Units sold x Incr. USP) – VC) ÷ Incr. sales = CM ratio); (FC ÷ CM ratio = New BEP in $)]
2.
The effects of this alternative are: (1) fixed costs decrease by $160,000, (2) variable costs increase by $100,000 ($2,000,000 x 5%), (3) total fixed costs become $875,000 ($1,035,000 – $160,000), and the contribution margin ratio becomes 0.35 [($2,000,000 – $1,200,000 – $100,000) ÷ $2,000,000]. The new break-even point is: $875,000 = $2,500,000 0.35
3.
The effects of this alternative are: (1) variable and fixed cost of goods sold become $784,000 (($1,050,000 + $518,000) ÷ 2) each, (2) total variable costs become $934,000 ($784,000 + $92,000 + $58,000), (3) total fixed costs are $1,301,000 ($784,000 + $425,000 + $92,000) and the contribution margin ratio becomes 0.533 [($2,000,000 – $934,000) ÷ $2,000,000]. The new break-even point is: $1,301,000 = $2,440,901 (rounded) 0.533
[(($1,568,000 x .50) + $92,000 + $58,000 = $934,000); (($1,568,000 x .50) + $425,000 + $92,000 = $1,301,000); (($2,000,000 - $934,000) ÷ $2,000,000 = .533); ($1,301,000 ÷ .533 = $2,440,901 (rounded))] [(Var. CGS + Var. sell. exp. + Var. admin. sell. = Tot. VC); (Fix. CGS + Fix. sell. exp. + Fix. admin. exp. = Tot. FC); ((Sales – Tot. VC) ÷ Sales = CM ratio); (Tot. FC ÷ CM ratio = New BEP in $)]
PROBLEM 19.1 (Continued) Alternative 1 is the recommended course of action using break-even analysis because it has the lowest break-even point. LO1 BT: AN Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
PROBLEM 19.2
(a) (1) Current Year $1,500,000
Sales Variable costs Direct materials Direct labor Manufacturing overhead ($350,000 x 0.70) Selling expenses ($250,000 x 0.40) Administrative expenses ($270,000 x 0.20) Total variable costs Contribution margin
511,000 290,000 245,000 100,000 54,000 1,200,000 $ 300,000
Sales
Current Year $1,500,000 x 1.1
Variable costs Direct materials Direct labor Manufacturing overhead Selling expenses Administrative expenses Total variable costs Contribution margin
511,000 290,000 245,000 100,000 54,000 1,200,000 $ 300,000
x 1.1 x 1.1 x 1.1 x 1.1 x 1.1 x 1.1 x 1.1
Projected Year $1,650,000 562,100 319,000 269,500 110,000 59,400 1,320,000 $ 330,000
[(Current yr.: $1,500,000 – ($511,000 + $290,000 + ($350,000 x .70) + ($250,000 x .40) + ($270,000 x .20)) = $300,000); (Projected yr.: $300,000 x 1.1 = $330,000) [(Current yr.: Sales – (DM + DL + Var. MOH + Var. sell. exp. + Var. admin. exp.) = CM); (Projected yr.: Current yr. CM x Projected incr. = CM)]
(2) Fixed Costs Current Year Manufacturing overhead ($350,000 x 0.30) $105,000 Selling expenses ($250,000 x 0.60) 150,000 Administrative expenses ($270,000 x 0.80) 216,000 Total fixed costs $471,000
Projected year $105,000 150,000 216,000 $471,000
[Current & projected yr.: ($350,000 x .30) + ($250,000 x .60) + ($270,000 x .80) = $471,000] [Current & projected yr.: Fix. MOH + Fix. sell. exp. + Fix. admin. exp. = Tot. FC]
PROBLEM 19.2 (Continued) (b) Unit selling price = $1,500,000 ÷ 100,000 = $15 Unit variable cost = $1,200,000 ÷ 100,000 = $12 Unit contribution margin = $15 – $12 = $3 Contribution margin ratio = $3 ÷ $15 = 0.20 Break-even point in units 157,000 units
= Fixed costs = $471,000
÷ ÷
Unit contribution margin $3.00
Break-even point in dollars $2,355,000
= Fixed costs = $471,000
÷ ÷
Contribution margin ratio 0.20
[(($1,500,000 ÷ 100,000) – ($1,200,000 ÷ 100,000) = $3); ($3 ÷ $15 = .20)]; [(USP – UVC = UCM); (UCM ÷ USP = CM ratio)] [($471,000 ÷ $3 = 157,000); ($471,000 ÷ .20 = $2,355,000)]; (FC ÷ UCM = BEP in units); (FC ÷ CM ratio = BEP in $)]
(c) Sales dollars required for = (Fixed costs target net income
+ Target net income)
÷ Contribution margin ratio
$3,355,000
+
÷
=
($471,000
(d) Margin of safety ratio 29.8%
$200,000)
0.20
= (Expected sales
– Break-even sales)
÷ Expected sales
=
–
÷
($3,355,000
$2,355,000)
(e) (1) Sales Variable costs Direct materials Direct labor ($290,000 – $104,000) Manufacturing overhead ($350,000 x 0.30) Selling expenses ($250,000 x 0.90) Administrative expenses ($270,000 x 0.20) Total variable costs Contribution margin
Current Year $1,500,000 511,000 186,000 105,000 225,000 54,000 1,081,000 $ 419,000
$3,355,000
PROBLEM 19.2 (Continued) Fixed cost Manufacturing overhead ($350,000 x 0.70) Selling expenses ($250,000 x 0.10) Administrative expenses ($270,000 x 0.80) Total fixed costs
$245,000 25,000 216,000 $486,000
(2) Contribution margin ratio = $419,000 ÷ $1,500,000 = 0.28 (rounded) (3) Break-even point in dollars = $486,000 ÷ 0.28 = $1,735,714 (rounded) The break-even point in dollars declined from $2,355,000 to $1,735,714. This means that overall the company’s risk has declined because it doesn’t have to generate as much in sales. The two changes actually had opposing effects on the break-even point. By changing to a more commission-based approach to compensate its sales staff the company reduced its fixed costs, and therefore reduced its break-even point. In contrast, the purchase of the new equipment increased the company’s fixed costs (by increasing its equipment depreciation) which would increase the break-even point. LO1 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
PROBLEM 19.3 (a)
Appetizers Main entrees Desserts Beverages
Sales Mix Percentage 15% 50% 10% 25%
Total sales required to achieve target net = income
Appetizers Main entrees Desserts Beverages
Contribution x Margin Ratio = x 50% = x 25% = x 50% = x 80% =
Weighted-Average Contribution Margin Ratio 0.075 0.125 0.050 0.200 0.450
( $1,053,000 + $117,000 ) ÷ 0.45 = $2,600,000
Sales Mix Percentage x 15% x 50% x 10% x 25% x
Total Sales Needed $2,600,000 $2,600,000 $2,600,000 $2,600,000
= = = = =
Sales from Each Product $ 390,000 1,300,000 260,000 650,000 $2,600,000
[(Appet.: 15% x 50%) + (Main ent.: 50% x 25%) + (Desserts: 10% x 50%) + (Bev.: 25% x 80%) = .450]; [(Appet.: Sales mix % x CM ratio) + (Main ent.: Sales mix % x CM ratio) + (Desserts: Sales mix % x CM ratio) + (Bev.: Sales mix % x CM ratio) = Wtd.-ave. CM ratio] [($1,053,000 + $117,000) ÷ .45 = $2,600,000]; [(FC + Target net inc.) ÷ Wtd.-ave. CM ratio = Tot. sales $ req.] [(Appet.: 15% x $2,600,000) + (Main ent.: 50% x $2,600,000) + (Desserts: 10% x $2,600,000) + (Bev.: 25% x $2,600,000) = $2,600,000]; [(Appet.: Sales mix % x Tot. sales $ req.) + (Main ent.: 50% x Tot. sales $ req.) + (Desserts: Sales mix % x Tot. sales $ req.) + (Bev.: Sales mix % x Tot. sales $ req.) = Tot. sales $ req.]
(b)
Appetizers Main entrees Desserts Beverages
Sales Mix Percentage 25% 25% 10% 40%
Total sales required to achieve target net income = *$1,053,000 + $585,000
x x x x x
Contribution Margin Ratio 50% 10% 50% 80%
= = = = =
Weighted-Average Contribution Margin Ratio 0.125 0.025 0.050 0.320 0.520
( $1,638,000* + $117,000) ÷ 0.52 = $ 3,375,000
PROBLEM 19.3 (Continued) Thus, sales would have to increase by $775,000 ($3,375,000 – $2,600,000) to achieve the target net income. This increase in sales is driven by the increase in fixed costs. The sales of each product line would be:
Appetizers Main entrees Desserts Beverages
Sales Mix Percentage x 25% x 25% x 10% x 40% x
Total Sales Needed $3,375,000 $3,375,000 $3,375,000 $3,375,000
= = = = =
Sales from Each Product $ 843,750 843,750 337,500 1,350,000 $3,375,000
(c)
Appetizers Main entrees Desserts Beverages
Sales Mix Percentage x 15% x 50% x 10% x 25% x
Contribution Margin Ratio 50% 10% 50% 80%
= = = = =
Weighted-Average Contribution Margin Ratio 0.075 0.050 0.050 0.200 0.375
The weighted-average contribution margin ratio computed in part (a) was 45%. With the contribution margin ratio on entrees falling to 10%, that average will now be 37.5% as shown previously. Applying this to the new fixed costs of $1,638,000 and target net income of $117,000 we get: Total sales required to achieve target net income
Appetizers Main entrees Desserts Beverages
=
($1,638,000 + $117,000) ÷ 0.375 = $ 4,680,000
Sales Mix Percentage 15% 50% 10% 25%
x x x x x
Total Sales Needed $4,680,000 $4,680,000 $4,680,000 $4,680,000
= = = = =
Sales from Each Product $ 702,000 2,340,000 468,000 1,170,000 $4,680,000
Relative to parts (a) and (b), the total required sales for (c) would increase. It appears that the least risky approach would have been for Paul to switch to the new sales mix, but not to incur the additional fixed costs of expanding operations. If the switch in sales mix appears to be successful, then it may be appropriate for him to incur the additional fixed costs necessary for expansion of operations.
PROBLEM 19.3 (Continued) [(Appet.: 15% x 50%) + (Main ent.: 50% x 10%) + (Desserts: 10% x 50%) + (Bev.: 25% x 80%) = .375]; [(Appet.: Sales mix % x CM ratio) + (Main ent.: Sales mix % x CM ratio) + (Desserts: Sales mix % x CM ratio) + (Bev.: Sales mix % x CM ratio) = Wtd.-ave. CM ratio] [($1,638,000 + $117,000) ÷ .375 = $4,680,000]; [(FC + Target net inc.) ÷ Wtd.-ave. CM ratio = Tot. sales $ req.] [(Appet.: 15% x $4,680,000) + (Main ent.: 50% x $4,680,000) + (Desserts: 10% x $4,680,000) + (Bev.: 25% x $4,680,000) = $4,680,000]; [(Appet.: Sales mix % x Tot. sales $ req.) + (Main ent.: 50% x Tot. sales $ req.) + (Desserts: Sales mix % x Tot. sales $ req.) + (Bev.: Sales mix % x Tot. sale $s req.) = Tot. sales $ req.] LO2 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
PROBLEM 19.4
(a) Selling price Less: Variable costs Unit contribution margin
Economy $30 16 $14
Product Standard $50 20 $30
Deluxe $100 46 $ 54
Ignoring the machine time constraint, the Deluxe product should be produced because it has the highest unit contribution margin. (b) Unit contribution margin (a) Machine hours required (b) Contribution margin per limited resource (a)/(b)
Economy $ 14 0.5
Product Standard $ 30 0.8
Deluxe $ 54 1.6
$28.00
$37.50
$33.75
[(Econ.: ($30 - $16) ÷ .5 = $28); (Std.: ($50 - $20) ÷ .8 = $37.50); (Deluxe: ($100 - $46) ÷ 1.6 = $33.75)] [(Econ.: UCM ÷ MH/unit = CM/MH); (Std.: UCM ÷ MH/unit = CM/MH); (Deluxe: UCM ÷ MH/unit = CM/MH)]
(c) If additional machine hours become available, the additional time should be used to produce the Standard product since it has the highest contribution margin per machine hour. LO3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
PROBLEM 19.5 (a) To determine the break-even point in dollars we must first calculate the contribution margin ratio for each company. Contribution ÷ Margin
Contribution Margin Ratio 0.44 0.64
Sales
=
Blanc Company Noir Company
$220,000 $320,000
÷ ÷
$500,000 $500,000
= =
Blanc Company Noir Company
Fixed Costs $170,000 $270,000
÷ ÷ ÷
Contribution Break-even Point Margin Ratio = in Dollars 0.44 = $386,364 0.64 = $421,875
Margin of Safety Ratio (Actual Sales – Break-even Sales) ÷ Actual Sales = Blanc Company ($500,000 – $386,364) ÷ $500,000 = 0.227 Noir Company ($500,000 – $421,875) ÷ $500,000 = 0.156 [(Blanc: $220,000 ÷ $500,000 = .44); (Noir: $320,000 ÷ $500,000 = .64)]; [Blanc: CM ÷ Sales = CM ratio); (Noir: CM ÷ Sales = CM ratio)] [(Blanc: $170,000 ÷ .44 = $386,364); (Noir: $270,000 ÷ .64 = $421,875)]; [(Blanc: FC ÷ CM ratio = BEP in $); (Noir: FC ÷ CM ratio = BEP in $)] [(Blanc: ($500,000 - $386,364) ÷ $500,000 = .227); (Noir: ($500,000 - $421,875) ÷ $500,000 = .156)]; [(Blanc: (Act. sales $ - BEP in $) ÷ Act. sales $ = MOS ratio); (Noir: (Act. sales $ - BEP in $) ÷ Act. sales $ = MOS ratio)]
(b) Blanc Company Noir Company
Contribution Margin $220,000 $320,000
÷ ÷ ÷
Net Income $50,000 $50,000
Degree of Operating = Leverage = 4.4 = 6.4
Because Noir Company relies more heavily on fixed costs, it has a higher degree of operating leverage. This means that its net income will be more sensitive to changes in sales. For a given change in sales, the change in net income will be 1.45 (6.4 ÷ 4.4) times higher or lower for Noir Company than for Blanc Company. (c) Blanc Company Noir Company Sales $600,000* $600,000 Variable costs 336,000** 216,000*** Contribution margin 264,000 384,000 Fixed costs 170,000 270,000 Net income $ 94,000 $114,000 *$500,000 x 1.2 **$280,000 x 1.2
***$180,000 x 1.2
PROBLEM 19.5 (Continued) (d) Sales Variable costs Contribution margin Fixed costs Net income (Loss)
Blanc Company $400,000* 224,000** 176,000 170,000 $ 6,000
Noir Company $400,000 144,000*** 256,000 270,000 ($ 14,000)
*$500,000 x 0.80 **$280,000 x 0.80 ***$180,000 x 0.80 [(Blanc: ($500,000 x .80) – ($280,000 x .80) - $170,000 = $6,000); (Noir: ($500,000 x .80) – ($180,000 x .80) $270,000 = ($14,000))] [(Blanc: Decr. sales – Decr. VC – FC = Net inc.); (Noir: Decr. sales – Decr. VC – FC = Net loss)]
(e) In part (b) the degree of operating leverage of Noir Company was higher than that of Blanc Company, telling us that the net income of Noir Company was more sensitive to changes in sales than that of Blanc Company. In part (c) we see that a 20% increase in sales increased the net income of Noir Company by $64,000 ($114,000 – $50,000), while the net income of Blanc Company increased by only $44,000 ($94,000 – $50,000). However, in part (d) we see that a 20% decrease in sales resulted in a $64,000 ($50,000 + $14,000) decline in net income for Noir Company, while Blanc Company’s net income only declined by $44,000 ($50,000 – $6,000). The increased risk caused by higher operating leverage is also seen in part (a). Noir Company has a higher break-even point, and a lower margin of safety ratio than Blanc Company. Thus, while operating leverage can be very beneficial for a company that expects its sales to increase, it can also significantly increase a company’s risk. LO4 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
PROBLEM 19.6
(a) Reformat the income statement to CVP format. All amounts are in $000s. Sales ......................................................... Variable costs ($31,500 + $13,500).......... Contribution margin ................................ Less: Fixed costs ($8,610 + $10,260) ..... Operating income ....................................
$75,000 45,000 30,000 18,870 $11,130
Contribution margin ratio = $30,000 ÷ $75,000 = 40% Break-even point = $18,870 ÷ 40% = $47,175 [($75,000 – ($31,500 + $13,500) – ($8,610 + $10,260) = $11,130)]; [Sales – VC – FC = Oper. inc.] [($30,000 ÷ $75,000 = 40%); ($18,870 ÷ 40% = $47,175)] [(CM ÷ Sales = CM ratio); (FC ÷ CM ratio = BEP in $)]
(b) If a hired workforce replaces sales agents, commissions will be reduced to 8% of sales, or $6,000; but fixed costs will increase by $7,500. Sales ......................................................... Variable costs ($31,500 + $6,000)............ Contribution margin ................................ Less: Fixed costs ($18,870* + $7,500) ... Operating income ....................................
$75,000 37,500 37,500 26,370 $11,130
*($8,610 + $10,260) Contribution margin ratio = $37,500 ÷ $75,000 = 50% Break-even point = $26,370 ÷ 50% = $52,740 [($75,000 – ($31,500 + $6,000) – ($8,610 + $10,260 + $7,500) = $11,130)]; [Sales – VC – FC = Net inc.] [($37,500 ÷ $75,000 = 50%); ($26,370 ÷ 50% = $52,740)] [(CM ÷ Sales = CM ratio); (FC ÷ CM ratio = BEP in $)]
(c) Operating leverage = contribution margin ÷ operating income (1) Current situation: from part (a) $30,000 ÷ $11,130 = 2.70 (2) Proposed situation: from part (b) $37,500 ÷ $11,130 = 3.37
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PROBLEM 19.6 (Continued) The calculations indicate that at a sales level of $75 million, a percentage change in sales and contribution margin will result in 2.70 times the percentage change in operating income if Bonita continues to use sales agents. If it chooses to employ its own sales staff, the change in operating income will be 3.37 times the percentage change in sales. The higher contribution margin per dollar of sales and higher fixed costs from Bonita employing its own sales staff gives it more operating leverage. This will result in greater benefits (increases in operating income) if revenues increase, but greater risks (decreases in operating income) if revenues decline. (d) The sales level at which operating incomes will be identical is when the cost of the network of agents (18% of sales) is exactly equal to the cost of paying employees 8% commission along with additional fixed costs of $7.5 million. None of the other costs is relevant, because they will not change between alternatives. Let the sales volume = S 18% x S = (8% x S) + $7,500,000 0.18S = .08S + $7,500,000 0.10S = $7,500,000 S = $75,000,000 LO1, 4 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
*PROBLEM 19.7
(a)
JACKSON COMPANY Income Statement For the Year Ended December 31, 2024 Variable Costing Sales (3,500 tons x $2,000) .......................... Variable cost of goods sold Inventory, January 1 ............................. Variable cost of goods manufactured [4,000 tons x ($2,000 x 0.15)] ............ Variable cost of goods available for sale ............................................... Inventory, December 31 [500 tons x ($2,000 x 0.15)] .............. Variable cost of goods sold ................. Variable selling expenses [3,500 tons x ($2,000 x 0.10)] ............ Contribution margin ..................................... Fixed manufacturing overhead.................... Fixed administrative expenses.................... Net income ....................................................
$7,000,000 $
–0–
1,200,000 1,200,000 150,000 1,050,000 700,000 2,800,000 500,000
1,750,000 5,250,000 3,300,000 $1,950,000
[(3,500 x $2,000) – (($0 + (4,000 x ($2,000 x .15)) – (500 x ($2,000 x .15))) – (3,500 x ($2,000 x .10)) – ($2,800,000 + $500,000) = $1,950,000] [Sales – (Beg. inv. + Var. COGM – End. inv.) – Var. sell. exp. – (Fix. MOH + Fix. admin. exp.) = Net inc.]
*PROBLEM 19.7 (Continued) JACKSON COMPANY Income Statement For the Year Ended December 31, 2025 Variable Costing Sales (4,000 tons x $2,000)............................ Variable cost of goods sold Inventory, January 1 .............................. Variable cost of goods manufactured [3,500 tons x ($2,000 x 0.15)] ............. Variable cost of goods available for sale ................................................ Inventory, December 31......................... Variable cost of goods sold .................. Variable selling expenses [4,000 tons x ($2,000 x 0.10)] ............. Contribution margin ...................................... Fixed manufacturing overhead..................... Fixed administrative expenses ..................... Net income .....................................................
$8,000,000 $ 150,000 1,050,000 1,200,000 –0– 1,200,000 800,000 2,800,000 500,000
2,000,000 6,000,000 3,300,000 $2,700,000
[(4,000 x $2,000) – ($150,000 + (3,500 x ($2,000 x .15)) - $0) – (4,000 x ($2,000 x .10)) – ($2,800,000 + $500,000) = $2,700,000] [Sales – (Beg. inv. + Var. COGM – End. inv.) – Var. sell. exp. – (Fix. MOH + Fix. admin. exp.) = Net inc.]
(b)
JACKSON COMPANY Income Statement For the Year Ended December 31, 2024 Absorption Costing Sales (3,500 tons x $2,000)....................... Cost of goods sold Inventory, January 1 ......................... Cost of goods manufactured............ Cost of goods available for sale ...... Inventory, December 31.................... Cost of goods sold............................ Gross profit ............................................... Variable selling expenses [3,500 tons x ($2,000 x 0.10)]................ Fixed administrative expenses ................ Net income ................................................
$7,000,000 $ –0– 4,000,000 (1) 4,000,000 500,000 (2) 3,500,000 3,500,000 700,000 500,000
1,200,000 $2,300,000
*PROBLEM 19.7 (Continued) (1) 4,000 x [($2,000 x 0.15) + ($2,800,000 ÷ 4,000)] (2) 500 x [($2,000 x 0.15) + ($2,800,000 ÷ 4,000)] [(3,500 x $2,000) – ($0 + (4,000 x (($2,000 x .15) + ($2,800,000 ÷ 4,000))) – (500 x (($2,000 x .15) + ($2,800,000 ÷ 4,000)))) – ((3,500 x ($2,000 x .10)) + $500,000) = $2,300,000] [Sales – (Beg. inv. + COGM – End. inv.) – (Var. sell. exp. + Fix. admin. exp.) = Net inc.]
JACKSON COMPANY Income Statement For the Year Ended December 31, 2025 Absorption Costing Sales (4,000 tons x $2,000) .................. $8,000,000 Cost of goods sold Inventory, January 1 ..................... $ 500,000 Cost of goods manufactured ........ 3,850,000 (1) Cost of goods available for sale ... 4,350,000 Inventory, December 31................ –0– 4,350,000 Cost of goods sold ....................... Gross profit........................................... 3,650,000 Variable selling expenses [4,000 tons x ($2,000 x 0.10)]............ 800,000 Fixed administrative expenses............ 500,000 1,300,000 Net income ............................................ $2,350,000 (1) 3,500 x [($2,000 x 0.15) + ($2,800,000 ÷ 3,500)] [(4,000 x $2,000) – ($500,000 + (3,500 x (($2,000 x .15) + ($2,800,000 ÷ 3,500))) – $0) – ((4,000 x ($2,000 x .10)) + $500,000) = $2,350,000] [Sales – (Beg. inv. + COGM – End. inv.) – (Var. sell. exp. + Fix. admin. exp.) = Net inc.]
(c)
The variable costing and the absorption costing net income can be reconciled as follows: 2024 Variable costing net income $1,950,000 Fixed manufacturing overhead expensed with variable costing $2,800,000 Less: Fixed manufacturing overhead expensed with absorption costing (2,450,000)(1) Difference 350,000 Absorption costing net income $2,300,000
2025 $2,700,000 $2,800,000 (3,150,000)(2) (350,000) $2,350,000
*PROBLEM 19.7 (Continued) In 2024, with absorption costing $2,450,000 $2, 800,000 3, 500 units sold of the 4,000 units produced
(1)
fixed manufacturing overhead is expensed as part of cost of goods sold, and $350,000 500 units in inventory $2, 800,000 4,000 units produced is included in the ending inventory.
(2)
In 2025, with absorption costing $3,150,000 of fixed manufacturing overhead is expensed as part of cost of goods sold. This includes the fixed manufacturing overhead for 2025 of $2,800,000 plus $350,000 of fixed manufacturing overhead from 2024 that was included in the beginning inventory for 2025.
(d)
Income parallels sales under variable costing as seen in the increase in net income in 2025 when 500 additional units were sold. In contrast, under absorption costing, income parallels production as seen in the higher net income in 2024 when production exceeded sales by 500 tons.
LO5 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting, Reporting & Control: Financial Statement Preparation
*PROBLEM 19.8 (a) DILITHIUM BATTERIES DIVISION Income Statement For the Year Ended December 31, 2025 Absorption Costing
Sales (60,000 units x $30) Cost of goods sold (60,000 units x $21) Gross profit Variable selling and administrative expenses (60,000 units x $2) Fixed selling and administrative expenses Net income
60,000 Produced $1,800,000 1,260,000 540,000
90,000 Produced $1,800,000 (60,000 x $18)
1,080,000 720,000
120,000
120,000
50,000 $ 370,000
50,000 $ 550,000
[90,000 produced: (60,000 x $30) – (60,000 x $21) – ((60,000 x $2) + $50,000) = $550,000] [90,000 produced: Sales – CGS – (Var. S&A exp. + Fix. S&A exp.) = Net inc.]
(b) DILITHIUM BATTERIES DIVISION Income Statement For the Year Ended December 31, 2025 Variable Costing
Sales (60,000 units x $30) Variable cost of goods sold (60,000 units x $12) Variable selling and administrative expenses (60,000 units x $2) Contribution margin Fixed manufacturing overhead Fixed selling and administrative expenses Net income
60,000 Produced $1,800,000
90,000 Produced $1,800,000
720,000
720,000
120,000 960,000 540,000
120,000 960,000 540,000
50,000 $ 370,000
50,000 $ 370,000
[90,000 produced: (60,000 x $30) – ((60,000 x $12) + (60,000 x $2)) – ($540,000 + $50,000) = $370,000] [90,000 produced: Sales – (Var. CGS + Var. S&A exp.) – (Fix. MOH + Fix. S&A exp.) = Net inc.]
*PROBLEM 19.8 (Continued) (c) If the company produces 90,000 units, but only sells 60,000 units, then 30,000 units will remain in ending inventory. Under absorption costing these 30,000 units will each include $6 of fixed manufacturing overhead—a total of $180,000. However, under variable costing, fixed manufacturing overhead is expensed when incurred. This accounts for the $180,000 difference ($550,000 – $370,000) in net income. This is summarized as: Net income under absorption costing Less: Fixed manufacturing overhead included in ending inventory (30,000 units x $6) Net income under variable costing
$550,000 180,000 $370,000
[$550,000 – (30,000 x $6) = $370,000] [Absorp. Cost. net inc. – Fix MOH in end. inv. = Var. cost. net inc.]
(d) Variable costing has a number of advantages over absorption costing for decision making and evaluation purposes. (1) The use of variable costing is consistent with cost-volume-profit and incremental analysis. (2) Net income computed under variable costing is unaffected by changes in production levels. Note that, under variable costing the company’s net income is $370,000 no matter what the level of production is. (3) Net income computed under variable costing is closely tied to changes in sales levels (not production levels), and therefore provides a more realistic assessment of the company’s success or failure during a period. (4) The presentation of fixed and variable cost components on the face of the variable costing income statement makes it easier to identify these costs and understand their effect on the business. Under absorption costing, the allocation of fixed costs to inventory makes it difficult to evaluate the impact of fixed costs on the company’s results. LO5 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, Reporting IMA: Reporting & Control: Cost Accounting, Reporting & Control: Financiall Statement Preparation
CD19
CURRENT DESIGNS
(a)
Rotomolded Kayaks (($950 – $570) x 0.80)
Composite Kayaks
+
(($2,000 – $1,340) x 0.20)
=
Weighted Average Unit Contribution Margin $436
[Roto.: (($950 - $570) x .80) + Comp.:(($2,000 - $1,340) x .20) = $436] [Roto.: ((USP – UVC) x Sales mix %) + Comp.: ((USP – UVC) x Sales mix %) = Wtd.-ave. UCM]
(b) Break-even Sales = $820,000 ÷ $436 = 1,881 units Break-even Sales Distribution:
Rotomolded Kayaks = 1,881 x 80% = 1,505 units Composite Kayaks = 1,881 x 20% = 376 units
[$820,000 ÷ $436 = 1,881]; [FC ÷ Wtd.-ave. UCM = BEP in units] [(Roto.: 1,881 x 80% = 1,505); (Comp.: 1,881 x 20% = 376)]; [(Roto.: Tot. BEP units x Sales mix % = Roto units); (Comp.: Tot. BEP units x Sales mix % = Comp. units)]
(c) Target Net Income in Units:
Rotomolded Kayaks + ($380 x 0.70)
Composite Kayaks ($660 x 0.30)
=
Weighted-Average CM/Unit $464
Required Sales in Units = ($820,000 + $2,000,000) ÷ $464 = 6,078 units Required Sales Distribution:
Rotomolded Kayaks = 6,078 x 70% = 4,255 units Composite Kayaks = 6,078 x 30% = 1,823 units
(d) CVP Income Statement
Sales Variable Costs Contribution Margin Fixed Costs Net Income
Rotomolded $2,000,000 1,200,000* 800,000 660,000 $ 140,000
Composite $1,000,000 670,000** 330,000 160,000 $ 170,000
CD19 (Continued) *($570 ÷ $950) x $2,000,000
**($1,340 ÷ $2,000) x $1,000,000
[(Roto: $2,000,000 – (($570 ÷ $950) x $2,000,000) - $660,000 = $140,000); (Comp.: $1,000,000 – (($1,340 ÷ $2,000) x $1,000,000) - $160,000 = $170,000)] [(Roto: Sales – VC – FC = Net inc.); (Comp.: Sales – VC – FC = Net inc.)]
(e) Degree of Operating Leverage Rotomolded Kayaks = $800,000 ÷ $140,000 = 5.71 Composite Kayaks = $330,000 ÷ $170,000 = 1.94 At a sales mix of 2/3 to 1/3, the degree of operating leverage is nearly three times as high for the rotomolded kayaks as it is for the composite kayaks. This means that the company’s net income will respond more quickly to a change in the sales of rotomolded kayaks than to composite kayaks. For example, an increase in sales of the rotomolded kayaks will increase the company’s net income at a faster rate than an increase in the sales of the composite kayaks. This result will differ depending on what sales mix assumption is made. [(Roto.: $800,000 ÷ $140,000 = 5.71); (Comp.: $330,000 ÷ $170,000 = 1.94)] [(Roto.: CM ÷ Net inc. = DOL); (Comp.: CM ÷ Net inc. = DOL)] LO1, 2, 4 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, IMA: Reporting & Control: Cost Accounting, Strategy Planning & Performance: Decision Analysis
WC19
WATERWAYS CORPORATION
Part 1 (a)
Total units = 460,000 + 1,480,000 + 60,000 = 2,000,000 Sales mix
Sprinklers Valves Controllers
460,000 2,000,000 1,480,000 2,000,000 60,000
23% 74% 3%
2,000,000
(b) Per unit Sales price Variable costs: Manufacturing Selling & admin. Total variable costs Contribution margin
Sprinklers $26.50
Valves $11.20
Controllers $42.50
13.96 1.30 15.26 $11.24
7.95 0.50 8.45 $ 2.75
29.75 3.41 33.16 $ 9.34
Weighted-Average Unit Contribution Margin Weighted-Ave. Unit CM x Sales Mix % = Unit CM Sprinklers $11.24 23% $ 2.59 Valves 2.75 74% 2.04 Controllers 9.34 3% 0.28 $ 4.91 (c) Break-even Point in Units Fixed Costs $2,360,000* = = 480,652 units Weighted Average $4.91 Unit CM *($760,000 + $1,600,000)
WC19 (Continued) Part 2 The small set is the best use of a limited resource as it produces a higher contribution margin per machine hour. Contribution margin per unit Machine hours required Contribution margin per unit of limited resource
Small Set Large Set $27* $ 52** ÷ 9 ÷ 20 $ 3
$ 2.60
*$77 – $50 **$152 – $100
Part 3 (a)
February Sales (4,000 x $42.50) Variable costs (4,000 x $12.75*) Contribution margin Fixed costs ($81,000 + $13,122) Net income
$170,000 51,000* 119,000 94,122 $ 24,878
*($9.75 + $3.00)
Contribution Margin Ratio Contribution Margin / Sales = Contribution Margin Ratio $119,000 / $170,000 = 70% Degree of Operating Leverage Contribution Margin / Net Income = Degree of Operating Leverage $119,000 / $24,878 = 4.78 Break-even Point in Dollars Fixed Costs / Contribution Margin Ratio = Break-even Point in Sales Dollars $94,122 / 0.70 = $134,460 Margin of Safety Ratio (Actual Sales – Break-even Sales) / Actual Sales = Margin of Safety Ratio ($170,000 – $134,460) / $170,000 = 20.9%
WC19 (Continued) (b) Waterways has high fixed costs relative to its variable costs. This results in a high degree of operating leverage. As a consequence, if the market is good and the company’s sales increase, its net income will increase very rapidly. Its degree of operating leverage of 4.78 means that a 10% increase in sales will result in a 47.8% (10% x 4.78) increase in net income. However, it also means that if sales decline, its net income will decline very rapidly. A 10% decrease in sales will result in a 47.8% decrease in net income. The margin of safety tells us that if that company’s sales decline by 20.9% or more it will be operating at a loss.
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT19.1
DECISION MAKING ACROSS THE ORGANIZATION
(a) Sales (10,000 seats x $500) Variable costs (10,000 seats x $200) Contribution margin Fixed costs Net income
$5,000,000 2,000,000 3,000,000 2,000,000 $1,000,000
(b) Contribution margin ratio = $3,000,000 ÷ $5,000,000 = 60% Break-even point in dollars = $2,000,000 ÷ 0.60 = $3,333,333 Margin of safety ratio = ($5,000,000 – $3,333,333) ÷ $5,000,000 = 0.333 Degree of operating leverage = $3,000,000 ÷ $1,000,000 = 3.00 [($3,000,000 ÷ $5,000,000 = .60); ($2,000,000 ÷ .60 = $3,333,333); (($5,000,000 - $3,333,333) ÷ $5,000,000 = .333); ($3,000,000 ÷ $1,000,000 = 3.00)] [(CM ÷ Sales = CM ratio); (FC ÷ CM ratio = BEP in $); ((Act. sales $ - BEP in $) ÷ Act. sales $ = MOS ratio); (CM ÷ Net inc. = DOL)]
(c) Sales (10,000 seats x $500) Variable costs (10,000 seats x $ 100) Contribution margin Fixed costs Net income
$5,000,000 1,000,000 4,000,000 3,000,000 $1,000,000
(d) Contribution margin ratio = $4,000,000 ÷ $5,000,000 = 80% Break-even point in dollars = $3,000,000 ÷ 0.80 = $3,750,000 Margin of safety ratio = ($5,000,000 – $3,750,000) ÷ $5,000,000 = 25% Degree of operating leverage = $4,000,000 ÷ $1,000,000 = 4.00 [($4,000,000 ÷ $5,000,000 = .80); ($3,000,000 ÷ .80 = $3,750,000); (($5,000,000 - $3,750,000) ÷ $5,000,000 = .25); ($4,000,000 ÷ $1,000,000 = 4.00)] [(CM ÷ Sales = CM ratio); (FC ÷ CM ratio = BEP in $); ((Act. sales $ - BEP in $) ÷ Act. sales $ = MOS ratio); (CM ÷ Net inc. = DOL)]
(e) By automating its manufacturing process the company will replace some of its variable costs with fixed costs. This shift toward more fixed costs will increase its break-even point from $3,333,333 to $3,750,000 and reduce its
CT19.1 (Continued) margin of safety from 33.3% to 25%. This means that under the old system sales could fall by 33.3% percent before the company would operate at a loss, whereas under the automated system they could only fall by 25%. Both of these findings suggest that the company would be riskier with the automated system. The company’s degree of operating leverage would increase from 3.00 to 4.00. This means that with a change in sales, the change in net income would be 1.33 (4 ÷ 3) times higher under the automated system. This would be good if the company expects sales to increase, but would be bad if the company’s sales fall. LO1, 4 BT: AN Difficulty: Moderate TOT: 45 min. AACSTB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA:
Strategy Planning & Performance: Decision Analysis
CT 19.2
(a)
MANAGERIAL ANALYSIS
The contribution margin ratios under each approach are: Current approach Automated approach
$500,000 ÷ $2,000,000 = 25% $1,000,000 ÷ $2,000,000 = 50%
This means that for every dollar of sales, net income goes up by 25 cents under the current approach, but by $.50 under the automated approach. (b)
The break-even points in sales dollars under each approach are: Current approach Automated approach
$380,000 ÷ 0.25 $800,000 ÷ 0.50
= $1,520,000 = $1,600,000
This shows that, under the automated approach, the company’s sales would have to be 5.26% (($1,600,000 - $1,520,000) ÷ $1,520,000) higher just to break-even. [(Current: $380,000 ÷ ($500,000 ÷ $2,000,000) = $1,520,000); (Auto.: $800,000 ÷ ($1,000,000 ÷ $2,000,000) = $1,600,000)] [(Current: FC ÷ CM ratio = BEP in $); (Auto.: FC ÷ CM ratio = BEP in $)]
(c)
At the current level of sales, the margin of safety ratio under each approach is: Current approach Automated approach
($2,000,000 – $1,520,000)/$2,000,000 ($2,000,000 – $1,600,000)/$2,000,000
= 0.24 = 0.20
The company has a low margin of safety under either approach. Under the current approach sales could drop 24% before the company would be operating at a loss. Under the automated approach the company’s sales could drop by 20% before it would be operating at a loss. [(Current: ($2,000,000 - $1,520,000) ÷ $2,000,000 = .24); (Auto.: ($2,000,000 - $1,600,000) ÷ $2,000,000 = .20)] [(Current: (Act. sales $ - BEP $) ÷ Act. sales $ = MOS ratio); (Auto.: (Act. sales $ - BEP $) ÷ Act. sales $ = MOS ratio)]
(d)
The degree of operating leverage under each approach at the current level of sales is: Current approach Automated approach
$500,000/$120,000 $1,000,000/$200,000
= =
4.17 5.00
CT 19.2 (Continued) This means that for a 10% drop in sales net income would drop by 41.7 % for the current approach, but 50% for the automated approach. Recall, however, that at the current level of sales the company makes considerably more money using the automated approach. [(Current: $500,000 ÷ $120,000 = 4.17); (Auto.: $1,000,000 ÷ $200,000 = 5.00)] [(Current: CM ÷ Net inc. = DOL); (Auto.: CM ÷ Net inc. = DOL)]
(e)
In order to solve for the sales level where net income would be equal under either approach, set the two CVP equations equal to each other and solve for sales: Sales – ((1 – 0.75) x Sales) – $380,000= Sales – ((1 – 0.5) x Sales) – $800,000 (0.25 x Sales) – $380,000 = (0.5 x Sales) – $800,000 (0.25 x Sales) = $420,000 Sales = $1,680,000
When sales are equal to $1,680,000 the company would make the same amount of income under either approach. Current approach $1,680,000 – [(1 – 0.25) x $1,680,000] – $380,000 = $40,000 Automated approach $1,680,000 – [(1 – 0.5) x $1,680,000] – $800,000 = $40,000
(f)
Based upon this numeric analysis it would appear that the decision to purchase the automated system would be a good decision. The current level of sales far exceeds the break-even point, and, unless sales were to fall all the way to $1,680,000, the company would be better off under the automated system. However, there are many difficult issues that should also be considered. Not-the-least of these is the decision to layoff 15 employees, many of whom have likely been with the company for a long time. Also, the company should carefully evaluate whether the automated system will be able to attain the same level of quality as the skilled employees. Perhaps the automated system would be more appropriate for some of the painting work, while skilled labor would be more appropriate for other painting work.
LO1, 4 BT: AN Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, IMA: Strategy Planning & Performance: Decision Analysis
CT 19.3
REAL-WORLD FOCUS
(a)
Sales Variable costs Contribution margin
Consumer Products $1,031.8 610.0 $ 421.8
Pet Products $ 837.3 350.0 $ 487.3
Soup and Infant-Feeding Products $ 302.0 100.0 $ 202.0
Contribution margin ÷ Sales Contribution margin ratio
$ 421.8 1,031.8 40.9%
$ 487.3 837.3 58.2%
$ 202.0 302.0 66.9%
Division sales ÷ Total sales Sales mix percentage
$1,031.8 2,171.1 47.5%
$ 837.3 2,171.1 38.6%
$ 302.0 2,171.1 13.9%
($ in millions)
[Cons. Prod.: ($1,031.8 - $610.0 = $421.8); ($421.8 ÷ $1,031.8 = 40.9%); ($1,031.8 ÷ $2,171.1 = 47.5%)] [Cons. Prod.: (Sales – VC = CM); (CM ÷ Div. sales = CM ratio); (Div. sales ÷ Tot. sales = Sales mix %)]
(b)
Consumer products Pet products Soup and infant-feeding products Break-even point in dollars
=
Weighted-Average Sales Mix Contribution Contribution Percentage x Margin Ratio = Margin Ratio 47.5% 40.9% 0.194 38.6% 58.2% 0.225 13.9%
66.9%
0.093 0.512
$860,300,000 ÷ 0.512 = $1,680,273,438
[(Cons. prod.: 47.5% x 40.9%) + (Pet prod.: 38.6% x 58.2%) + (Soup prod.: 13.9% x 66.9%) = .512] [(Cons. Prod.: Sales mix % x CM ratio) + (Pet prod.: Sales mix % x CM ratio) + (Soup prod.: Sales mix % x CM ratio) = Wtd.-ave. CM ratio] ($860,300,000 ÷ .512 = $1,680,273,438); (FC ÷ Wtd.-ave. CM ratio = BEP in $)
Consumer products Pet products Soup and infantfeeding products Total sales *Sales are rounded
Sales Mix Percentage x 47.5% x 38.6% x 13.9%
x
Total Sales = $1,680,273,438 = $1,680,273,438 = $1,680,273,438 =
Sales from Each Product* $ 798,129,883 648,585,547 233,558,008 $1,680,273,438
CT14.3 (Continued) LO1, 4 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement analysis and Interpretation, AICPA PC: Decision Making IMA: Strategy Planning & Performance: Decision Analysis
CT 19.4
(a)
REAL-WORLD FOCUS
The four reportable business segments are FedEx Express, FedEx Ground, FedEx Freight, and FedEx Services.
(b) FEDEX GROUND Income Statement For the Year Ended May 31, 2020 Variable Costing (In Millions) Revenues...................................................... Variable costs: Salaries and employee benefits............. Purchased transportation ...................... Fuel .......................................................... Maintenance and repairs ........................ Intercompany charges............................ Contribution margin ............................... Fixed costs: Rentals..................................................... Depreciation and amortization............... Other ........................................................ Net income ...................................................
$22,733 $4,060 10,799 15 392 1,581 989 789 2,094
16,847 5,886
3,872 $2,014
CT 19.4 (Continued) (c) Contribution Margin $5,886 Fixed Costs $3,872
÷ ÷
Revenues $22,733
÷ ÷
Contribution Margin Ratio 0.259
= =
Contribution Margin Ratio 25.9%
= =
Break-even Point in Dollars $14,950 million
[($5,886 ÷ $22,733 = 25.9%; ($3,872 ÷ .259 = $14,950 million)] [(CM ÷ Rev. = CM ratio); (FC ÷ CM ratio = BEP in $)] LO1, 5 BT: AN Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation Reporting, IMA: Strategy Planning & Performance: Decision Analysis, Reporting & Control: Financial Statement Preparation
CT 19.5
COMMUNICATION ACTIVITY
MEMO To:
Bjorn Borg—CEO
From:
Student
Re:
Best use of limited resources
I share your concern, that, since we are operating at full capacity, we need to ensure that our product mix maximizes our profitability. The decision of how to best utilize our limited productive resources is one of the most important decisions we face. We currently make two different anchors, a traditional fishing anchor, and a high-end yacht anchor. The unit contribution margin of the yacht anchor is three times that of the fishing anchor, thus one might logically assume that we should shift our production toward producing the yacht anchor. However, this assumption ignores an element that is critical to the decision. In order to make a proper decision, we would need to know the contribution margin per unit of limited resource that each product produces. While the yacht anchor has a very high contribution margin, it also may consume considerably more productive resources. I propose that a study be done to determine exactly how much of the limited productive resource is consumed by one unit of each of the two anchor types. In addition, at the same time that this study is being undertaken, I propose that the marketing department undertake a study of the demand for each anchor type. This is important so that we don’t produce anchors that we can’t sell. Finally, a shift in our product mix would maximize our profitability at our current level of productive capacity. However, we should also consider a more long-term solution to our production constraints. Since we have been operating at, or near full capacity for two years, it would seem appropriate to undertake a study of whether an acquisition of additional plant equipment would be appropriate. LO3 BT: C Difficulty: Easy TOT: 15 min. AACSB: None AICPA AC: Measurement Analysis and Interpretation Reporting IMA: Strategy Planning & Performance: Decision Analysis, Reporting & Control: Financial Statement Preparation
*CT 19.6
ETHICS CASE
(a) The division’s net income increased by $225,000 ($525,000 – $300,000). This represents a 75% increase over the previous year ($225,000 ÷ $300,000). Thus Brett’s bonus would be 75 x $5,000 = $375,000. (b) In 2024 the number of units produced and sold were equal. When this occurs variable costing and absorption costing provide the same results. Thus, in 2024, net income under variable costing would have been the same at $300,000. In 2025, units produced exceeded units sold by 5,000 units. However, net income under variable costing is not impacted by the number of units produced. Since the number of units sold did not change from 2024 to 2025, and the selling price, variable cost per unit, and total fixed costs didn’t change, the division’s net income in 2025 would equal its 2024 income of $300,000. (c) In part (b) it was determined that the division’s net income would have been $300,000 in 2025 under variable costing. Since this is the same as 2024 net income, Brett would not receive a bonus. (d) If Brett intentionally overproduced inventory in order to increase his bonus, then his actions were unethical. Overproduction of inventory increases the company’s costs related to inventory, such as storage, handling, waste and theft. Based on the information provided we can’t actually determine Brett’s motives. He may have believed that justin-time inventory was causing the company to lose sales due to “stockouts.” If that was the case, there would be options available to the company other than totally giving up on just-in-time practices. In order to eliminate any potential conflicts of interest between Brett and the company, and to ensure that his actions are in the best interest of the company, the company could begin preparing variable costing income statements to supplement its absorption costing statements for the purpose of calculating bonuses. This would eliminate any incentive Brett might have to over-produce, as well as providing useful information for other internal management decision making. LO5 BT: E Difficulty: Moderate TOT: 20 min. AACSB: Analytic, Ethics AICPA PC: Communication, Ethical Conduct IMA: Professional Ethics & Values: Recognizing ad Resolving Unethical Behavior , Reporting & Control: Financial Statement Analysis
CT 19.7
(a)
ALL ABOUT YOU
Using a common equation for CVP analysis, Sales = Variable Costs + Fixed Costs + Net Income, and substituting the information provided, and knowing that at break-even, net income = $0, ($26 x 300) = Variable Costs + ($4,000 + $1,460) + $0 $7,800 = Variable Costs + $5,460 + $0 $2,340 = Variable Costs (in total) or $7.80 (variable costs/member/month) = $2,340 ÷ 300
[At BEP: ($26 x 300) – VC – ($4,000 + $1,460) = $0; VC = $2,340; $2,340 ÷ 300 = $7.80] [At BEP: Sales – VC – FC = Net inc.; VC = Tot. VC; Tot. VC ÷ No. members = UVC]
(b)
To find the sales required to reach a target net income, contribution margin must be calculated. Contribution Margin = Sales – Variable Costs Contribution Margin = $7,800 – $2,340 Contribution Margin = $5,460 Unit Contribution Margin = $5,460/300 memberships = $18.20 Contribution Margin Ratio = $5,460/$7,800 = 70% To compute the sales required to reach a target net income of $3,640. Required Sales in Units = (Fixed Costs + /Unit Contribution Target Net Income) Margin Required Sales in Units = ($5,460 + $3,640)/$18.20 Required Sales in Units = 500 memberships Required Sales in Dollars = 500 memberships x $26 = $13,000 OR Using the contribution margin ratio, Required Sales in Dollars = (Fixed Costs + Target Net Income)
/Contribution Margin Ratio
Required Sales in Dollars = ($5,460 + $3,640)/70% Required Sales in Dollars = $13,000 [($7,800 - $2,340 = $5,460); ($5,460 ÷ 300 = $18.20); ($5,460 ÷ $7,800 = 70%); (($5,460 + $3,640) ÷ $18.20 = 500); (500 x $26 = $13,000)] [(Sales – VC = CM); (CM ÷ No. members = UCM); (CM ÷ Sales = CM ratio); ((FC + Target net inc.) ÷ UCM = BEP in members); (BEP in members x USP = BEP in $)]
CT 19.7 (Continued) (c)
Answers will vary. Suggested examples include franchise fees, employee wages, utilities, supplies, and maintenance.
(d)
Answers will vary.
LO1 BT: S Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy Planning & Performance: Decision Analysis
CT 19.8
CONSIDERING PEOPLE, PLANET, AND PROFIT
Discussion Guide: If reduction of greenhouse gas emissions is a goal, then one step toward attainment of that goal is to assign a cost to greenhousegas emissions. One approach that is currently being used is the buying and selling of carbon-emission rights. As companies buy and sell emission rights, the price of polluting becomes a tangible factor in the formulations that will be used to make future energy-source decisions. This approach has been effective in addressing similar issues, such as the reduction of sulfur emissions. However, as suggested in the “No” response, many believe that, to be effective and fair, an enforceable international agreement on such an approach would be necessary. In the United States, companies currently participate on a voluntary basis; in some other countries, participation is required. Another factor to consider in these decisions is the timing of conversion to new technology. A gradual conversion to new technologies as existing power plants reach the end of their productive lives would be far less costly than a rapid conversion to new technologies that required scrapping existing plants before they are fully depreciated. Decisions about which plants to replace and when to replace them will require careful costbenefit analyses. LO N/A BT: E Difficulty: Moderate TOT: 20 min. AACSB: Reflective Thinking, Communication IMA: Strategy, Planning & Performance: Capital Investment Decisions
CHAPTER 20 Incremental Analysis Learning Objectives 1.
Describe management’s decision-making process and incremental analysis.
2.
Analyze the relevant costs in accepting an order at a special price.
3.
Analyze the relevant costs in a make-or-buy decision.
4.
Analyze the relevant costs and revenues in determining whether to sell or process materials further.
5.
Analyze the relevant costs to be considered in repairing, retaining, or replacing equipment.
6.
Analyze the relevant costs in deciding whether to eliminate an unprofitable segment or product.
ANSWERS TO QUESTIONS 1.
The following steps are frequently involved in management’s decision-making process: (1) Identify the problem and assign responsibility. (2) Determine and evaluate possible courses of action. (3) Make a decision. (4) Review results of the decision.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
2.
My roommate is incorrect. Accounting contributes to the decision-making process at Steps 2 and 4. Prior to the decision, accounting provides relevant revenue and cost data for each course of action. Following the decision, internal reports are prepared to show the actual impact of the decision.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
3.
Not true. Incremental analysis involves the identification of financial data that change under alternative courses of action.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
4.
In incremental analysis, the important point to consider is whether costs will differ (change) between the two alternatives. As a result, sometimes (1) variable costs do not change under the alternative courses of action and (2) fixed costs do change.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
5.
The relevant data in deciding whether to accept an order at a special price are the incremental revenues to be obtained compared to the incremental costs of filling the special order.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
6.
The manufacturing costs that are relevant in the make-or-buy decision are those that will change if the parts are purchased.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
7.
Opportunity cost is the potential benefit that is lost when one course of action is chosen rather than an alternative course of action. Opportunity cost is relevant in a make-or-buy decision when the facilities used to make the part can be used to generate additional income.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
8.
The decision rule in a decision to sell a product or to process it further is: Process further as long as the incremental revenue from the additional processing exceeds the incremental processing costs.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
9.
Joint products are products that are produced from a single raw material and a common production process. An accounting issue related to joint products is how to allocate the joint costs incurred during the production process that creates the joint products.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
Questions Chapter 20 (Continued) 10.
Joint costs are irrelevant to a sell-or-process-further decision because they are sunk costs an d will not change whether the decision is to sell the existing product or process it further. Therefore, joint costs are ignored in this decision.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
11.
A sunk cost is a cost that cannot be changed by any present or future decision. Sunk costs, such as the book value of an old piece of equipment, therefore, are not relevant in a decision to retain or replace equipment.
LO5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
12.
Net income will be lower if an unprofitable product line is eliminated when the product line is producing a positive contribution margin and its fixed costs cannot be avoided or reduced.
LO6 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 20.1 The correct order is: 1. Identify the problem and assign responsibility. 2. Determine and evaluate possible courses of action. 3. Make a decision. 4. Review results of the decision. LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
BRIEF EXERCISE 20.2
Revenues Costs Net income
Alternative A $160,000 100,000 $ 60,000
Alternative B $180,000 125,000 $ 55,000
Net Income Increase (Decrease) $ 20,000 (25,000) ($ 5,000)
Alternative A is better than Alternative B because its net income is $5,000 greater. LO1 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement IMA: Strategy, Planning & Performance: Decision Analysis [$20,000 – $25,000 = ($5,000)] [Incr. in net inc. – Decr. in net incr. = Decr. in net inc.]
BRIEF EXERCISE 20.3
Revenues Costs—Variable manufacturing Shipping Net income
Reject Order $0 0 0 $0
Accept Order $75,000* 60,000** 9,000*** $ 6,000
Net Income Increase (Decrease) $ 75,000 (60,000) (9,000) $ 6,000
The special order should be accepted because net income will increase by $6,000. *3,000 x $25 **3,000 x $20 ***3,000 x $ 3
BRIEF EXERCISE 20.3 (Continued) LO2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Accept order: (3,000 x $25) – ((3,000 x $20) + (3,000 x $3)) = $6,000] [Accept order: (Units sold x USP) – ((Units sold x UVC) + (Units sold x Unit shipping cost)) = Net inc.]
BRIEF EXERCISE 20.4
Variable manufacturing costs Fixed manufacturing costs Purchase price Total annual cost
Make $50,000 30,000 –0– $80,000
Buy $ –0– 30,000 60,000 $90,000
Net Income Increase (Decrease) $ 50,000 0 (60,000) $(10,000)
The decision should be to make the part as it is $10,000 less costly. LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(Make: $50,000 + $30,000 = $80,000); (Buy: $30,000 + $60,000 = $90,000)] [(Make: Var. mfg. costs + Fixed mfg. costs = Tot. ann. cost); (Buy: Fixed mfg. costs + Purch. price = Tot. ann. cost)]
BRIEF EXERCISE 20.5
Sales price per unit Cost per unit Variable Fixed Total Net income per unit
Sell $62.00
Process Further $70.00
Net Income Increase (Decrease) $8.00
36.00 10.00 46.00 $16.00
42.00 10.00 52.00 $18.00
(6.00) 0 (6.00) $2.00
The bookcases should be processed further because the incremental revenues exceed incremental costs by $2.00 per unit. LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(Sell: $62 – ($36 + $10) = $16); (Process further: $70 – ($42 + $10) = $18)] [(Sell: USP – (UVC + UFC) = Net inc./unit); (Process further: USP – (UVC + UFC) = Net inc./unit)]
BRIEF EXERCISE 20.6 The allocated joint costs are irrelevant to the sell or process further decisions. If AB1 is processed further, the company will earn incremental revenue of $50,000 ($150,000 – $100,000) and only incur incremental costs of $45,000. Therefore, the company should process AB1 further and sell AB2. If XY1 is processed further, the company will earn incremental revenue of $35,000 ($130,000 – $95,000) but will incur incremental costs of $50,000. Therefore, the company should sell XY1 rather than process it further. LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
BRIEF EXERCISE 20.7
Variable manufacturing costs for 5 years New machine cost Sell old machine Total
Retain Equipment
Replace Equipment
Net 5-Year Income Increase (Decrease)
$3,000,000
$2,500,000 400,000 (30,000) $2,870,000
$ 500,000 (400,000) 30,000 $ 130,000
$3,000,000
The old factory machine should be replaced as it will result in $130,000 less cost. LO5 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis ($500,000 – $400,000 + $30,000 = $130,000) (Var. mfg. cost savings for 5 yrs. – New machine cost + Sale of old machine = Tot. incr. in net inc.)
BRIEF EXERCISE 20.8
Sales Variable costs Contribution margin Fixed costs Net income
Continue $200,000 180,000 20,000 30,000 $ (10,000)
Eliminate $ –0– –0– –0– 20,000 $(20,000)
Net Income Increase (Decrease) $(200,000) 180,000 (20,000) 10,000 $ (10,000)
BRIEF EXERCISE 20.8 (Continued) The Big Bart product line should be continued because $20,000 of contribution margin will not be realized if the line is eliminated. This amount is greater than the $10,000 savings of fixed costs. LO6 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis (-$200,000 + $180,000 + $10,000 = -$10,000) (Lost sales + VC savings + FC savings = Decr. in net inc.)
SOLUTIONS FOR DO IT! EXERCISES DO IT! 20.1
Revenues Maintenance expense Operating expenses Equipment upgrade Opportunity cost
Option 1 $65,000 5,000 26,000 17,000 4,000
Option 2 $60,000 5,000 22,000 0 0
Net Income Increase (Decrease) $(5,000) 0 4,000 0 4,000 $3,000
Sunk (s)
S
LO1 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: ($5,000) + $0 + $4,000 + $0 +$4,000 = $3,000] [Net inc. effect: Decr. rev. + Maint. exp. change + Oper. exp. savings + Equip. upgrade (S) + Opp. cost = Net inc. incr.]
DO IT! 20.2
Revenues Costs Net income
Reject $ –0– $ –0– $ –0–
Accept $180,000 144,000* $ 36,000
Net Income Increase (Decrease) $180,000 (144,000) $ 36,000
*(6,000 x $20) + (6,000 x $4) Given the results of the above analysis, Maize Company should accept the special order as net income will increase by $36,000. LO2 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: $180,000 – ((6,000 x $20) + (6,000 x $4)) = $36,000] [Net inc. effect: Incr. rev. – ((units sold x Var. mfg. costs/unit) + (Units sold x Add’l. costs/unit)) = Net inc. incr.]
DO IT! 20.3 (a)
Direct materials Direct labor Variable overhead Fixed overhead Purchase price Net income
Make $ 30,000 42,000 45,000 60,000 –0– $177,000
Buy $ –0– –0– –0– 45,000 162,000* $207,000
Net Income Increase (Decrease) $ 30,000 42,000 45,000 15,000 (162,000) $ (30,000)
*60,000 $2.70 Given the results of the above analysis, Wilma Company will incur $30,000 of additional costs if it buys the switches, therefore, Wilma should continue to make the switches. [Net inc. effect: $30,000 + $42,000 + $45,000 + $15,000 – (60,000 x $2.70) = ($30,000)] [Net inc. effect: DM cost savings + DL cost savings + VOH cost savings + FOH cost savings – (Units sold x New USP) = Decr. in net inc.]
(b) Total cost Opportunity cost Total cost
Make $177,000 34,000 $211,000
Buy $207,000 –0– $207,000
Net Income Increase (Decrease) $(30,000) 34,000 $ 4,000
Yes, the answer is different: The analysis shows that net income is expected to increase by $4,000 if Wilma Company purchases the switches. LO3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
DO IT! 20.4
Sales price per unit Cost per unit Variable Fixed Total Net income per unit
Sell $75
Process Further $100
Net Income Increase (Decrease) $25
$40 10 $50
$ 59 13 $ 72
($19) (3) ($22)
$25
$ 28
$ 3
The tables should be processed further and Mesa Verde should finish the tables because the incremental revenues are expected to exceed incremental costs by $3 per unit. LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: $25 – ($19 + $3) = $3] [Net inc. effect: Incr. in USP – (Incr. in UVC + Incr. in UFC) = Inc. in net inc./unit]
DO IT! 20.5 Retain Equipment Operating expenses $450,000 Repair costs 50,000 Rental revenue New machine cost Sale of old machine Total $500,000
Replace Equipment $ 300,000 (50,000) 170,000 (15,000) $ 405,000
Net Income Increase (Decrease) $150,000 50,000 50,000 (170,000) 15,000 $ 95,000
The equipment should be replaced because it is expected to increase net income by $95,000 over retaining and repairing it. LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: $150,000 + $50,000 + $50,000 - $170,000 + $15,000 = $95,000] [Net inc. effect: Oper. exp. savings + Repair cost savings + Rental rev. – New machine cost + Sale of old machine = Incr. in net inc.]
DO IT! 20.6
Sales Variable costs Contribution margin Fixed costs Net income
Continue $500,000 370,000 130,000 150,000 $ (20,000)
Eliminate $ 0 0 0 38,000 $(38,000)
Net Income Increase (Decrease) $(500,000) 370,000 (130,000) 112,000 $ (18,000)
The analysis indicates that Gator should not eliminate the gloves and mittens line because net income is expected to decrease $18,000. LO6 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: ($500,000) + $370,000 + $112,000 = ($18,000) [Net inc. effect: Lost sales + VC savings + FC savings = Decr. in net inc.]
SOLUTIONS TO EXERCISES EXERCISE 20.1 1. 2. 3. 4. 5. 6. 7. 8. 9.
False. The first step in management’s decision-making process is “identify the problem and assign responsibility”. False. The final step in management’s decision-making process is to review the results of the decision. True. False. In making business decisions, management ordinarily considers both financial and nonfinancial information. True. True. False. Costs that are the same under all alternative courses of action do not affect the decision. False. When using incremental analysis, either costs or revenues or both will change under alternative courses of action. False. Sometimes variable costs will not change under alternative courses of action, but fixed costs sometimes will.
LO1 BT: C Difficulty: Easy TOT: 15 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.2 (a)
Reject Order $ –0– –0– –0–
Accept Order $24,000 (2,500) (7,500)
Revenues ($4.80 x 5,000) Materials ($0.50* x 5,000) Labor ($1.50** x 5,000) Variable overhead –0– (5,000) ($1.00*** x 5,000) Cost of equipment rental (6,000) Net income $ –0– $ 3,000 *($10,000 ÷ 20,000) **($30,000 ÷ 20,000) ***($20,000 ÷ 20,000)
Net Income Increase (Decrease) $24,000 (2,500) (7,500) (5,000) (6,000) $ 3,000
[Net inc. effect: $24,000 - $2,500 - $7,500 - $5,000 - $6,000 = $3,000] [Net inc. effect: Incr. rev. – Incr. mat. – Incr. labor – Incr. VOH – Cost of equip. rent. = Net inc. incr.]
(b) As shown in the incremental analysis, Gruden should accept the special order because incremental revenue exceeds incremental expenses by $3,000.
EXERCISE 20.2 (Continued) (c) It is assumed that sales of the golf discs in other markets would not be affected by this special order. If other sales were affected, Gruden would have to consider the lost sales in making the decision. Second, if Gruden is operating at full capacity, it is likely that the special order would be rejected. LO2 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.3 (a)
Revenues (15,000 x $7.60) Cost of goods sold Operating expenses Net income
Reject Order $0 0 0 $0
Accept Order $114,000 78,000 (1) 31,800 (2) $ 4,200
Net Income Increase (Decrease) $114,000 (78,000) (31,800) $ 4,200
(1) Variable cost of goods sold = $2,600,000 x 70% = $1,820,000. Variable cost of goods sold per unit = $1,820,000 ÷ 350,000 = $5.20 Variable cost of goods sold for the special order = $5.20 x 15,000 = $78,000. [($2,600,000 x 70% = $1,820,000); ($1,820,000 ÷ 350,000 = $5.20); (15,000 x $5.20 = $78,000)] [(CGS x Var. cost % = Var. CGS); (Var. CGS ÷ No. units sold = Var. CGS/unit); (Spec. order units x Var. CGS/unit = Var. CGS for spec. order)]
(2) Variable operating expenses = $840,000 x 80% = $672,000 $672,000 ÷ 350,000 = $1.92 per unit 15,000 x $1.92 = $28,800 $28,800 + $3,000 = $31,800 [($840,000 x 80% = $672,000); ($672,000 ÷ 350,000 = $1.92); ((15,000 x $1.92) + $3,000 = $31,800)] [(Oper. exp. x Var. cost % = Var. oper. exp.); (Var. oper. exp. ÷ No. units sold = Var. oper. exp./unit); ((Spec. order units x Var. oper. exp./unit) + Add’l. ship. costs = Var. oper. exp. for spec. order)]
(b)
As shown in the incremental analysis, Moonbeam Company should accept the special order because incremental revenues exceed incremental expenses by $4,200.
LO2 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.4
Revenues Variable costs: Direct materials Direct labor Variable overhead Total variable costs Net income
Reject Order $0
Accept Order $1,187,500 (1)
Net Income Increase (Decrease) $1,187,500
0 0 0 0 $0
500,000 187,500 250,000 937,500 $ 250,000
(500,000) (187,500) (250,000) (937,500) $ 250,000
(1) [($2.00 + $0.75 + $1.00 + $1.00) x 250,000] Klean Fiber should accept the Army’s offer since it is expected to increase net income by $250,000. LO2 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(($2.00 + $0.75 + $1.00 + $1.00) x 250,000) - $500,000 - $187,500 - $250,000 = $250,000] (Incr. rev. – Incr. DM – Incr. DL – Incr. VOH = Incr. net inc.)
EXERCISE 20.5 (a)
Direct materials (30,000 x $4.00) Direct labor (30,000 x $5.00) Variable overhead costs ($150,000 x 70%) Fixed manufacturing costs Purchase price (30,000 x $12.95) Total annual cost
Make $120,000 150,000
$
0 0
Net Income Increase (Decrease) $ 120,000 150,000
105,000 45,000 0 $420,000
0 45,000 388,500 $433,500
105,000 0 (388,500) $ (13,500)
Buy
[(30,000 x $4) + (30,000 x $5) + ($150,000 x 70%) – (30,000 x $12.95) = ($13,500)] (DM to make + DL to make + VOH to make – Purch. price = Net inc. decr. if buy)
(b) No, Pottery Ranch should not purchase the finials. As indicated by the incremental analysis, it would cost the company $13,500 more to purchase the finials.
EXERCISE 20.5 (Continued) (c)
Yes, by purchasing the finials, a total cost saving of $6,500 is expected to result as shown below.
Total annual cost (above) Opportunity cost Total cost
Make $420,000 20,000 $440,000
Buy $433,500 0 $433,500
Net Income Increase (Decrease) $(13,500) 20,000 $ 6,500
LO3 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.6 (a) 1.
Direct materials Direct labor Variable overhead Fixed overhead Purchase price Total annual cost
Make Buy $1,000,000 $ –0– 800,000 –0– 120,000 –0– 600,000 195,000 0 2,300,000 $2,520,000 $2,495,000
Net Income Increase (Decrease) $ 1,000,000 800,000 120,000 405,000 (2,300,000) $ 25,000
Yes. The offer should be accepted as net income is expected to increase by $25,000. ($1,000,000 + $800,000 + $120,000 + $405,000 –$2,300,000 = $25,000) (Incr. DM to make + Incr. DL to make + Incr. VOH to make + Incr. FOH to make – Purch. price = Incr. in net inc. if buy)
2.
Direct materials Direct labor Variable overhead Fixed overhead Opportunity cost Purchase price
Make $1,000,000 800,000 120,000 600,000 375,000 0
Buy $
0 0 0 600,000 0 2,300,000
Net Income Increase (Decrease) $ 1,000,000 800,000 120,000 0 375,000 (2,300,000)
Totals
$2,895,000
$2,900,000
$
(5,000)
EXERCISE 20.6 (Continued) No. The offer should not be accepted as net income is expected to be $5,000 less. ($1,000,000 + $800,000 + $120,000 + $375,000 - $2,300,000 = ($5,000)) (Incr. DM to make + Incr. DL to make + Incr. VOH to make + Opp. Cost – Purch. price = Net inc. decr. if buy)
(b) Qualitative factors include the possibility of laying off those employees that produced the robot and the resulting poor morale of the remaining employees, maintaining quality standards, timeliness of delivery, and controlling the purchase price in the future. LO3 BT: E Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.7 (a) Direct materials Direct labor Variable overhead Purchase price Total unit cost
Make Sails $100 80 25 0 $205
Buy Sails $ 0 0 0 250 $250
Net Income Increase (Decrease) $ 100 80 25 (250) $ (45)
Riggs should be making the sails, because it could save $45 per unit or $54,000. The president was including the fixed overhead cost in the calculation. Variable overhead = Total overhead ($90) – Fixed overhead ($78,000 ÷ 1,200) = $25. This amount has been allocated, so Riggs will incur the cost whether or not it makes the sails. This is an example of an irrelevant cost, because it does not differ between the two alternatives. ($100 + $80 + $25 - $250 = ($45)) (Incr. DM to make + Incr. DL to make + Incr. VOH to make – Purch. price = Net inc. decr. if buy)
EXERCISE 20.7 (Continued) (b)
The best decision would be to rent out the space as shown below. The differential savings would be $77,000 – $54,000 = $23,000.
(Based on 1,200 units) Manufacturing cost Purchase price Opportunity cost Total annual cost (c)
Per Unit $205 $250
Make Sails $246,000 0 77,000 $323,000
Buy Sails $ 0 300,000 0 $300,000
Net Income Increase (Decrease) $ 246,000 (300,000) 77,000 $ 23,000
Qualitative factors to consider would be (1) whether Riggs will be able to exercise control over the future price of the product (2) whether Riggs will be able to exercise control over the quality of the product (3) whether delivery will be timely and (4) the potential for interruptions in the supply of the product.
LO3 BT: E Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.8 (a) Direct materials Direct labor Material handling Variable overhead Fixed overhead Purchase price Total unit cost
Make IMC2 $ 65.00 45.00 6.50 72.00* 48.00** 0 $236.50
Buy IMC2 $ 0 0 0 0 48.00 200.00 $248.00
Net Income Increase (Decrease) $ 65.00 45.00 6.50 72.00 0.00 (200.00) $ (11.50)
*Variable overhead = 60% x ($126.50 – $6.50) **Fixed overhead = 40% x (126.50 – $6.50) The component should not be purchased from the outside vendor, as the per unit cost would be $11.50 greater than if the company made it. [$65.00 + $45.00 + $6.50 + (60% x ($126.50 - $6.50)) + (40% x ($126.50 - $6.50)) – ($200.00 + $48.00) = ($11.50) (Incr. DM/unit to make + Incr. DL/unit to make + Mat. handling/unit to make + Incr. VOH/unit to make + FOH/unit – (Purch. price/unit + FOH/unit) = Net loss/unit if buy)
EXERCISE 20.8 (Continued) (b)
In order for Innova to make an accurate decision, it would have to know the opportunity cost of manufacturing the other product. As determined in (a), purchasing the product from outside would cost $11,500 more (1,000 X $11.50). Innova would have to increase their contribution margin by more than $11,500 through the manufacture of the other product, before it would be economical for it to purchase the IMC2 from the outside vendor.
(c)
Qualitative factors to consider would be (1) quality of the component (2) on-time delivery, (3) timeliness of delivery, and (4) reliability of the vendor.
LO3 BT: E Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.9
Sales per unit Costs per unit Direct materials Direct labor Total Net income per unit
Sell (Basic Kit) $30
Process Further (Stage 2 Kit) $36
Net Income Increase (Decrease) $6
$16 0 $16
$ 8 (1) 9 (2) $17
$8 (9) $(1)
$14
$19
$5
(1) The cost of materials decreases because Anna can make two Stage 2 Kits from the materials for a basic kit. (2) The total time to make the two kits is one hour at $18 per hour or $9 per unit. Anna should carry the Stage 2 Kits. The incremental revenue, $6, exceeds the incremental processing costs, $1. Thus, net income is expected to increase by processing the kits further. LO4 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: $6 + ($8 – $9) = $5] [Net inc. effect: Incr. in USP + (DM cost savings/unit – DL incr./unit) = Net inc. incr./unit]
EXERCISE 20.10 (a)
Sales ($60,000 + $15,000 + $55,000) Joint costs Net income
$ 130,000 (100,000) $ 30,000
(b) Sales ($190,000 + $35,000 + $215,000) Joint costs Additional costs ($100,000 + $30,000 + $150,000) Net income
$ 440,000 (100,000) (280,000) $ 60,000
(c) (1)
Incremental revenue Incremental costs Incremental profit (loss) (1)
Product 10 $ 130,000 (100,000) $ 30,000
Product 12 Product 14 $ 20,000 $ 160,000 (30,000) (150,000) $(10,000) $ 10,000
Sales value after further processing – Sales value @ split-off point
Products 10 and 14 should be processed further and Product 12 should be sold at the split-off point. [(Product 10: $130,000 - $100,000 = $30,000); (Product 12: $20,000 - $30,000 = ($10,000)); (Product 14: $160,000 - $150,000 = $10,000)] [(Product 10: Incr. rev – Incr. costs = Incr. profit); (Product 12: Incr. rev. – Incr. costs = Incr. loss); (Product 14: Incr. rev. – Incr. costs = Incr. profit)]
(d)
Sales ($190,000 + $15,000 + $215,000) Joint costs Additional costs ($100,000 + $150,000) Net income
$ 420,000 (100,000) (250,000) $ 70,000
Net income is estimated to be $10,000 ($70,000 – $60,000) higher in (d) than in (b) because Product 12 is not processed further, thereby increasing overall profit $10,000. LO4 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.11 To determine whether each of the three joint products should be sold as is, or processed further, we must determine the incremental profit or loss that would be earned by each. The allocated joint costs are irrelevant to the decision since these costs will not change whether or not the products are sold as is or processed further.
Incremental revenue Incremental cost Incremental profit (loss)
Spock $ 90,000* (110,000) $ (20,000)
Uhura $100,000** (85,000) ( $ 15,000
Sulu $345,000*** (250,000) $ 95,000
From this analysis we see that Uhura and Sulu should be processed further because the incremental revenue is expected to exceed the incremental costs, but Spock should be sold as is. *$300,000 – $210,000 **$400,000 – $300,000 ***$800,000 – $455,000 LO4 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(Spock: ($300,000 - $210,000) - $110,000 = ($20,000)); (Uhura: ($400,000 - $300,000) - $85,000 = $15,000); (Sulu: ($800,000 - $455,000) - $250,000 = $95,000)] [(Spock: Incr. rev. – Incr. cost = Incr. loss); (Uhura: Incr. rev. – Incr. cost = Incr. profit); (Sulu: Incr. rev. – Incr. cost = Incr. profit)]
EXERCISE 20.12 (a)
The costs that are relevant in this decision are the incremental revenues and the incremental costs associated with processing the material past the split-off point. Any costs incurred up to the split-off point are sunk costs, and therefore, irrelevant to this decision.
(b)
Revenue after further processing: Product D—$60,000 (4,000 units x $15.00 per unit) Product E—$97,200 (6,000 units x $16.20 per unit) Product F—$45,200 (2,000 units x $22.60 per unit) Revenue at split-off: Product D—$40,000 (4,000 units x $10.00 per unit) Product E—$69,600 (6,000 units x $11.60 per unit) Product F—$38,800 (2,000 units x $19.40 per unit) D E Incremental revenue $20,000 $27,600 Incremental cost (14,000) (20,000) Increase (decrease) in profit $ 6,000 $ 7,600 Products D and E should be processed further.
F $ 6,400 (9,000) $(2,600)
EXERCISE 20.12 (Continued) [(D: ($60,000 - $40,000) - $14,000 = $6,000); (E: ($97,200 - $69,600) - $20,000 = $7,600); (E: ($45,200 $38,800) - $9,000 = ($2,600))] [(D: Incr. rev. – Incr. cost = Incr. profit); (E: Incr. rev. – Incr. cost = Incr. profit); (E: Incr. rev. – Incr. cost = Incr. loss)]
(c)
The decision would remain the same. It does not matter how the joint costs are allocated because joint costs are irrelevant to this decision.
LO4 BT: E Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.13 (a)
Cost Accumulated depreciation Book value Sales proceeds Loss on sale
$100,000 (25,000*) 75,000 50,000 $ 25,000
*One year’s depreciation: ($100,000 – $0) ÷ 4 years (b)
Annual operating costs New scanner cost Old scanner salvage Total
Retain Scanner $315,000* $315,000
Replace Scanner $240,000** 110,000 (50,000) $300,000
Net Income Increase (Decrease) $ 75,000 (110,000) 50,000 $ 15,000
*(3 years x $105,000) **[3 years x ($105,000 – $25,000)] Yes. Twilight Hospital should replace the old scanner because it is expected to result in a savings of $15,000 over the next three years. [(Retain: (3 x $105,000) = $315,000); (Replace: (3 x ($105,000 - $25,000)) + $110,000 - $50,000 = $300,000); ($315,000 - $300,000 = $15,000)] [(Retain: (No. of yrs. x Ann. oper. costs) = Tot. costs); (Replace: (No. of yrs. x Reduced ann. oper. costs) + Cost of new scanner – SV of old scanner = Tot. costs); (Retain tot. costs – Replace tot. costs = Incr. diff. in favor of replace)]
EXERCISE 20.13 (Continued) (c)
As shown in (a) above, replacing the old scanner will result in reporting a loss of $25,000. Reluctance to report losses of this nature is the usual reason for not recognizing that a poor decision was made in the past. The remaining book value of the old scanner ($75,000) is a sunk cost. It will be deducted in the future, if the scanner is retained, or written off now if it is replaced. However, if it is replaced now, that cost will be partially offset by the salvage value that Dyno is willing to pay ($50,000).
LO5 BT: E Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.14
Operating costs New machine cost Salvage value (old) Total (1) $25,000 x 5. (2) $20,000 x 5.
Retain Machine $125,000 (1) 0 0 $125,000
Replace Machine $100,000 (2) 25,000 (6,000) $119,000
Net Income Increase (Decrease) $ 25,000 (25,000) 6,000 $ 6,000
The current machine should be replaced. The incremental analysis shows that net income for the five-year period is expected to be $6,000 higher by replacing the current machine. LO5 BT: AN Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(Retain: ($25,000 x 5) = $125,000); (Replace: ($20,000 x 5) + $25,000 - $6,000 = $119,000); ($125,000 $119,000 = $6,000)] [(Retain: (Ann. oper. costs x No. of yrs) = Tot. costs); (Replace: (Reduced ann. oper. costs x No. of yrs.) + New machine cost – SV of old machine = Tot. cost); (Retain tot. costs – Replace tot. costs = Diff. in favor of replace)]
EXERCISE 20.15
Sales Variable costs Cost of goods sold Operating expenses Total variable Contribution margin Fixed costs Cost of goods sold Operating expenses Total fixed Net income (loss)
Continue $100,000
Eliminate $ 0
Net Income Increase (Decrease) $(100,000)
61,000 30,000 91,000 9,000
0 0 0 0
61,000 30,000 91,000 (9,000)
15,000 20,000 35,000 $(26,000)
15,000 20,000 35,000 $(35,000)
0 0 0 (9,000)
$
Veronica is incorrect. The incremental analysis shows that net income is expected to be $9,000 less if the Percy Division is eliminated. This amount equals the contribution margin that would be lost through discontinuing the division. (Note: None of the fixed costs can be avoided.) LO6 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($100,000) + $61,000 + $30,000 = ($9,000)] [Lost sales if eliminate + CGS saved if eliminate + Oper. exp. saved if eliminate = Lost CM and Net loss if eliminate]
EXERCISE 20.16 (a)
$30,000 + $70,000 – $40,000 = $60,000
(b) Sales Variable expenses Contribution margin Fixed expenses Net income
Tingler $300,000 150,000 150,000 142,500* $ 7,500
*$30,000 + [($300,000 ÷ $800,000) x $300,000] **$80,000 + [($500,000 ÷ $800,000) x $300,000]
Shocker $500,000 200,000 300,000 267,500** $ 32,500
Total $800,000 350,000 450,000 410,000 $ 40,000
EXERCISE 20.16 (Continued) [(Tingler: $300,000 - $150,000 – ($30,000 + (($300,000 ÷ $800,000) x $300,000)) = $7,500); (Shocker: $500,000 - $200,000 – ($80,000 + (($500,000 ÷ $800,000) x $300,000)) = $32,500); ($7,500 + $32,500 = $40,000)] [(Tingler: Sales – VE – FE = Net inc.); (Shocker: Sales – VE – FE = Net inc.); (Tingler net inc. + Shocker net inc. = Tot. net inc.)]
(c)
As shown in the analysis above, Cawley should not eliminate the Stunner product line. Elimination of the line is expected to cause net income to drop from $60,000 to $40,000. The reason for this decrease in net income is that elimination of the product line would result in the loss of $55,000 of contribution margin while saving only $35,000 of fixed expenses.
LO6 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.17 Calculation of contribution margin per unit: Selling price per unit Less: variable costs/unit Contribution margin/unit
C $95 50 $45
D $75 40 $35
E $115 45 $ 70
Fixed costs = $24 x (9,000 + 20,000) = $696,000 Company profit with Products C and D: Units sold Sales revenue Less: Variable costs Contribution margin Less: Fixed costs Net income
C 9,000 $855,000 450,000 $405,000
D 20,000 $1,500,000 800,000 $ 700,000
Total $2,355,000 1,250,000 1,105,000 696,000 $ 409,000
[(C: (9,000 x $95) – (9,000 x $50) = $405,000); (D: (20,000 x $75) – (20,000 x $40) = $700,000); ($405,000 + $700,000 - $696,000 = $409,000)] [(C: (No. units sold x USP) – (No. units sold x UVC) = CM); (D: (No. units sold x USP) – (No. units sold x UVC) = CM); (Product C CM + Product D CM – FC = Net inc.)]
EXERCISE 20.17 (Continued) Company profit with Products C and E: Units sold Sales revenue Less: Variable costs Contribution margin Less: Fixed costs Net income
C 9,900*
E 10,000
Total
$940,500 495,000 $445,500
$1,150,000 450,000 $ 700,000
$2,090,500 945,000 1,145,500 696,000 $ 449,500
*Product C sales increase by 10%, (9,000 x 110%) [(C: (9,000 x 110% x $95) – (9,000 x 110% x $50) = $445,500); (E: (10,000 x $115) – (10,000 x $45) = $700,000); ($445,500 + $700,000 - $696,000 = $449,500)] [(C: (Orig. no. units sold x % incr. x USP) – (No. units sold x UVC) = CM); (E: (No. units sold x USP) – (No. units sold x UVC) = CM); (Product C CM + Product E CM – FC = Net inc.)]
Yes it should introduce Product E since net profit is expected to increase by $40,500 ($449,500 – $409,000). LO6 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 20.18 1. Irrelevant. Unavoidable costs will be incurred regardless of the decision made. 2. Relevant. 3. Irrelevant. This is a sunk cost and all sunk costs are irrelevant. 4. Irrelevant. These are sunk costs. 5. Relevant. 6. Relevant. 7. Relevant. 8. Relevant. 9. Irrelevant. If there is no change in the direct materials charge regardless of the decision made, the cost is irrelevant. 10. Relevant.
LO1, 2, 3, 4, 5, 6 BT: C Difficulty: Easy TOT: 5 min. AACSB: None AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
SOLUTIONS TO PROBLEMS PROBLEM 20.1
Reject Order $0 0
Accept Order $280,000 220,000 (1)
Net Income Increase (Decrease) $ 280,000 (220,000)
0 $0
22,500 (2) $ 37,500
(22,500) $ 37,500
(a)
Revenues (10,000 x $28) Var. Cost of goods sold Var. Selling and administrative expenses Net income
(1) Variable CGS = $3,600,000 – $960,000 = $2,640,000; $2,640,000 ÷ 120,000 units = $22.00 per unit; 10,000 x $22.00 = $220,000. [($3,600,000 - $960,000 = $2,640,000); ($2,640,000 ÷ 120,000 = $22); ($22 x 10,000 = $220,000)] [(Tot. CGS – Fixed CGS = Var. CGS); (Var. CGS ÷ No. units produced = Var. CGS/unit); (Var. CGS/unit x No. units in spec. order = Spec. order Var. CGS)]
(2) Variable S&A expenses = $405,000 – $225,000 = $180,000; $180,000 ÷ 120,000 units = $1.50 per unit; 10,000 x ($1.50 + $0.75) = $22,500. [($405,000 - $225,000 = $180,000); ($180,000 ÷ 120,000 = $1.50); (10,000 x ($1.50 + $.75) = $22,500)] [(Tot. S&A exp. – Fixed S&A = Var. S&A exp.); (Var. S&A exp. ÷ No. units produced = Var. S&A exp./unit); (No. units in spec. order x (Var. S&A exp./unit + Ship. exp./unit) = Spec. order var. S&A exp.)]
(b)
Yes, the special order should be accepted because net income is expected to increase by $37,500.
(c)
Unit selling price = $22.00 (variable manufacturing costs) + $2.25 ($1.50 + $0.75) variable selling and administrative expenses + $5.00 net income = $29.25.
(d)
Nonfinancial factors to be considered are: (1) possible effect on domestic sales, (2) possible alternative uses of the unused factory capacity, and (3) ability to meet customer’s schedule for delivery without increasing costs.
LO2 BT: E Difficulty: Simple TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 20.2
(a)
Make CISCO Direct materials (8,000 x $4.80) Direct labor (8,000 x $4.30) Indirect labor (8,000 x $0.43) Utilities (8,000 x $0.40) Depreciation Property taxes Insurance Purchase price Freight and inspection (8,000 x $0.35) Receiving costs Net income
$38,400
Buy CISCO $
Net Income Increase (Decrease)
0
$38,400
34,400
0
34,400
3,440 3,200 3,000 700 1,500 0
0 0 900 200 600 80,000
3,440 3,200 2,100 500 900 (80,000)
0 0 $84,640
2,800 1,300 $85,800
(2,800) (1,300) $ (1,160)
[Net inc. effect: (8,000 x $4.80) + (8,000 x $4.30) + (8,000 x $.43) + (8,000 x $.40) + $2,100 + $500 + $900 – $80,000 – (8,000 x $.35) - $1,300 = ($1,160)] [Net inc. effect: (Units made x DM/unit saved) + (Units made x DL/unit saved) + (Units made x Ind. labor/unit saved) + (Units made x Util./unit saved) + Depr. savings + Prop. tax savings + Ins. savings – Purch. price – (Units purch. x Frt. & inspect./unit) – Rec. costs = Net inc. decr.]
(b)
The company should continue to make CISCO because net income is expected to be $1,160 less if CISCO were purchased from the supplier.
(c)
The decision would be different. Because of the opportunity cost of $3,000, net income is expected to be $1,840 higher if CISCO is purchased as shown below: Net Income Increase Make CISCO Buy CISCO (Decrease) Total annual cost $84,640 $85,800 $(1,160) Opportunity cost 3,000 0 3,000 Net income $87,640 $85,800 $ 1,840
PROBLEM 20.2 (Continued) (d)
Nonfinancial factors include: (1) the adverse effect on employees if CISCO is purchased, (2) how long the supplier will be able to satisfy the Shatner Manufacturing Company’s quality control standards at the quoted price per unit, and (3) whether the supplier will deliver the units when they are needed by Shatner.
LO3 BT: E Difficulty: Moderate TOT: 35 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 20.3
(a) (1)
Table Cleaner Not Processed Further Sales: FloorShine (600,000 ÷ 30) x $20 Table Cleaner (300,000 ÷ 25) x $17 Total revenue Costs: CDG Additional costs of FloorShine Total costs Gross profit
$400,000 204,000 $604,000 210,000 240,000 450,000 $154,000
[(FoorShine: (600,000 ÷ 30) x $20) + (Table Cleaner (300,000 ÷ 25) x $17) – ($210,000 + $240,000) = $154,000] [(FloorShine sales rev.) + (Table Cleaner sales rev.) – (CDG + Add’l. costs of Floor Shine) = GP]
(2)
Table Cleaner Processed Further Sales: FloorShine Table Stain Remover (300,000 ÷ 25) x $14 Table Polish (300,000 ÷ 25) x $14 Total revenue Costs: CDG Additional costs of FloorShine TCP Total costs Gross profit
$400,000 168,000 168,000 $736,000 210,000 240,000 100,000 550,000 $186,000
[(FloorShine: $400,000 + (Table Stain Remover: ((300,000 ÷ 25) x $14)) + (Table Polish: ((300,000 ÷ 25) x $14)) – ($210,000 + $240,000 + $100,000) = $186,000] [(FloorShine sales rev. + (Table Stain Remover sales rev.) + (Table Polish sales rev.) – (CDG + Add’l. costs of FloorShine + TCP) = GP]
(3) If the table cleaner is processed further overall company profit is expected to be $32,000 higher. Therefore, management made the wrong decision by choosing to not process table cleaner further.
PROBLEM 20.3 (Continued) (b) Incremental revenue Incremental costs Totals
Don’t Process Table Cleaner Further $204,000 0 $204,000
Process Table Cleaner Further $336,000 100,000 $236,000
Net Income Increase (Decrease) $132,000 (100,000) $ 32,000
When trying to decide if the table cleaner should be processed further into TSR and TP, only the relevant data need be considered. All of the costs that occurred prior to the creation of the table cleaner are sunk costs and can be ignored. The decision should be made by comparing the incremental revenue from further processing to the incremental costs. LO4 BT: AN Difficulty: Moderate TOT: 35 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 20.4
(a)
Cost Accumulated depreciation Book value Sales proceeds Loss on sale
$120,000 (24,000*) 96,000 (25,000) $ 71,000
*$120,000 ÷ 5 years = $24,000 [$120,000 – ($120,000 ÷ 5) - $25,000 = $71,000] [Cost – Accum. depr. – Sales proceeds = Loss on sale]
(b) (1) Revenues ($240,000 x 4 yrs.) Less costs: Variable costs ($35,000 x 4) Fixed costs ($23,000 x 4) Selling & administrative Depreciation Net income
Retain Old Elevator $960,000 $140,000 92,000 116,000* 96,000
444,000 $516,000
*($29,000 x 4) (2) Revenues Less costs: Variable costs ($10,000 x 4) Fixed costs ($8,500 x 4) Selling and administrative Depreciation Operating income Less: Loss on old elevator Net income
Replace Old Elevator $960,000 $ 40,000 34,000 116,000 160,000
350,000 610,000 71,000 $539,000
[$960,000 – (($10,000 x 4) + ($8,500 x 4) + ($29,000 x 4) + ($40,000 x 4)) - $71,000 = $539,000] [Rev. – ((VC x No. of yrs.) + (FC x No. of yrs.) + (S&A exp. x No. of yrs.) + (Ann. depr. x No. of yrs.) – Loss on old elevator = Net inc.]
PROBLEM 20.4 (Continued) (c) Retain Old Elevator Variable operating costs $140,000 Fixed operating costs 92,000 New elevator cost Salvage on old elevator Totals $232,000 .
(d)
Replace Old Elevator $ 40,000 34,000 160,000 (25,000) $209,000
Net Income Increase (Decrease) $ 100,000 58,000 (160,000) 25,000 $ 23,000
MEMO
TO: Ron Richter FROM: Student SUBJECT: Relevant Data for Decision to Replace Old Elevator When deciding whether or not to replace any old equipment, the analysis should only include cost data relevant to the replacement decision. The $71,000 loss that would be experienced if we replace the old elevator with the newer model is related to a sunk cost, namely the cost of the old elevator. Sunk costs are irrelevant in decision making. The loss occurs when comparing the book value of the old elevator to the cash proceeds that would be received. The book value of $96,000 would be deducted as depreciation expense over the next four years if the elevator were retained. If the elevator is replaced with the newer model, the book value will be expensed in the current year, less the cash proceeds received on disposal. Therefore, the $96,000 book value will be expensed under either alternative, making it irrelevant. LO5 BT: S Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 20.5
(a) Sales Variable costs Cost of goods sold Selling and administrative Total variable expenses Contribution margin
Division I $250,000
Division II $200,000
140,000 30,000 170,000 $ 80,000
172,800 36,000 208,800 $ (8,800)
[(Div. I: $250,000 – ($140,000 + $30,000) = $80,000); (Div. II: $200,000 – ($172,800 + $36,000) = ($8,800)] [(Div. I: Sales – (Var. CGS + Var. S&A) = CM); (Div. II: Sales – (Var. CGS + Var. S&A) = CM)]
(b) (1) Division I
Continue
Eliminate
Net Income Increase (Decrease)
Contribution margin (Part a) Fixed costs Cost of goods sold Selling and administrative Total fixed expenses Income (loss) from operations
$ 80,000
$
0
$(80,000)
60,000 45,000 105,000 $(25,000)
30,000 22,500 52,500 $(52,500)
30,000 22,500 52,500 $(27,500)
[Net inc. effect: -$80,000 + $30,000 + $22,500 = ($27,500)] [Net inc. effect: CM decr. + CGS FC saved + S&A FC saved = Net inc. decr.]
(2) Division II
Continue
Eliminate
Net Income Increase (Decrease)
Contribution margin (Part a) Fixed costs Cost of goods sold Selling and administrative Total fixed expenses Income (loss) from operations
$ (8,800)
$
0
$ 8,800
19,200 24,000 43,200 $(52,000)
9,600 12,000 21,600 $(21,600)
9,600 12,000 21,600 $30,400
[Net inc. effect: $8,800 + $9,600 + $12,000 = $30,400] [Net inc. effect: CM incr. + CGS FC saved + S&A FC saved = Net inc. incr.]
Division II should be eliminated as its negative contribution margin is $8,800. Income from operations would increase $30,400 if Division II is eliminated. Division I should be continued because it is producing positive contribution margin of $80,000. Income from operations will decrease $27,500 by discontinuing this division.
PROBLEM 20.5 (Continued) (c)
BRISLIN COMPANY CVP Income Statement For the Quarter Ended March 31, 2025 Divisions Sales Variable costs Cost of goods sold Selling and administrative Total variable costs Contribution margin Fixed costs Cost of goods sold (1) Selling and administrative (2) Total fixed costs Income (loss) from operations
I $250,000
III $500,000
IV $450,000
Total $1,200,000
140,000
240,000
187,500
567,500
30,000
30,000
30,000
90,000
170,000 80,000
270,000 230,000
217,500 232,500
657,500 542,500
63,200
63,200
65,700
192,100
49,000
34,000
24,000
107,000
112,200
97,200
89,700
299,100
$(32,200) $132,800
$142,800
$ 243,400
(1) Division’s fixed cost of goods sold plus 1/3 of Division II’s unavoidable fixed cost of goods sold [$192,000 x (100% – 90%) x 50% = $9,600]. Each division’s share is $3,200. (2)
Division’s fixed selling and administrative expense plus 1/3 of Division II’s unavoidable fixed selling and administrative expenses [$60,000 x (100% – 60%) x 50% = $12,000]. Each division’s share is $4,000.
(d) Income from operations with Division II of $213,000 (given) plus incremental income of $30,400 from eliminating Division II = $243,400 income from operations without Division II. ($213,000 + $30,400 = $243,400) (Inc. from oper. with Div. II + Incremental inc. from eliminating Div. II = Combined inc. from Div. I, III & IV) LO6 BT: AN Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CD20
CURRENT DESIGNS
Situation #1 (a) Current Designs should accept the special order based on the following calculations:
Revenues Costs Net Income
Reject Order $0 0 $0
Accept Order $25,000* (19,000)** $ 6,000
Net Income Increase (Decrease) $25,000 (19,000) $ 6,000
*(100 X $250) **(($80 + $60 + $20) x 100) + ($3,000) [(100 x $250) – ((($80 + $60 + $20) x 100) + ($1,000 + $2,000)) = $6,000] [Accept order rev. – Accept order costs = Incr. in net inc. if accept order]
(b) If Current Designs is currently operating at full capacity, it would have to weigh its options. If it displaced production of regular kayaks in order to fill this order, it would have to consider the opportunity costs associated with this decision. The opportunity cost, when operating at full capacity, would be the lost contribution margin from regular sales given up in order to fulfill the special order. Alternatively, rather than reject the special order, it might consider temporarily expanding the factory’s capacity by adding an additional production shift to handle the special order. If this option were considered, it would have to identify all additional incremental costs (for example, overtime pay) that would be incurred.
CD20 (Continued) Situation #2 (a) Current Designs should not replace the Rotomold oven based on the following calculations:
Variable manufacturing costs New oven cost Proceeds from scrapping old oven Total
Retain Oven $110,500* 0 0 $110,500
Replace Oven $ 97,500** 250,000 (10,000) $337,500
Net Income Increase (Decrease) $ 13,000 (250,000) 10,000 ($ 227,000)
*(17,000 therms/year x $0.65/therm x 10 years) **(15,000 therms/year x $0.65/therm x 10 years) [(Retain: 17,000 x $0.65 x 10 = $110,500); (Replace: (15,000 x $0.65 x 10) + $250,000 - $10,000 = $337,500); ($110,500 - $337,500 = ($227,000))] [(Retain: No. therms/yr. x Cost/therm x No. of yrs. = Tot. cost); (Replace: (No. therms/yr. x Cost/therm x No. of yrs.) + New oven cost – SV of old oven = Tot. cost); (Retain tot. cost – Replace tot. cost = Decr. in net inc. if replace)]
(b) Even with the cost of natural gas increasing at a faster than expected rate, Current Designs still should not replace the Rotomold oven as the rate increase does not cover the cost of the new oven based on the following calculations:
Variable manufacturing costs New oven cost Proceeds from scrapping old oven Total
Retain Oven $144,500* 0 0 $144,500
*(17,000 therms/year x $0.85/therm x 10 years) **(15,000 therms/year x $0.85/therm x 10 years)
Replace Oven $127,500** 250,000 (10,000) $367,500
Net Income Increase (Decrease) $ 17,000 (250,000) 10,000 ($ 223,000)
CD20 (Continued) Situation #3 (a) Current Designs should make the seats based on the following calculations:
Direct materials Direct labor Variable manufacturing costs Fixed manufacturing costs Purchase price ($50 x 3,000) Total annual cost
Make $ 60,000 45,000 36,000 20,000 0 $161,000
0 0 0
Net Income Increase (Decrease) $ 60,000 45,000 36,000
15,000 150,000 $165,000
5,000 (150,000) ($ 4,000)
Buy $
[(Make: $60,000 + $45,000 + $36,000 + $20,000 = $161,000); (Buy: $15,000 + $150,000 = $165,000); ($161,000 – $165,000 = ($4,000))] [(Make: DM + DL + Var. mfg. costs + Fix. mfg. costs = Tot. ann. cost); (Buy: Fix. mfg. costs + Purch. price = Tot. ann. cost); (Make tot. cost – Buy tot. cost = Decr. in net inc. if buy)]
(b) When the opportunity cost of $20,000 is considered, Current Designs should buy the seats based on the following calculations:
Total annual cost Opportunity cost Total cost
Make $161,000 20,000 $181,000
Buy $165,000 0 $165,000
Net Income Increase (Decrease) ($ 4,000) 20,000 $16,000
LO2, 3, 5 BT: AN Difficulty: Moderate TOT: 60 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
WC20
WATERWAYS CORPORATION
Part 1 (a) Even though the unit contribution margin would be cut to $0.20 ($2.60 – $2.40) on the additional units, Waterways would increase its profits by $3,000 to $59,000 (compared to $56,000). It can handle the special order, but only by adding a shift. Profit with no special order 35,000 x $1.60
Unit profit $1.60 $56,000 a year
Added profit with Canadian Co. 15,000 x $0.20
Unit profit $0.20 $3,000
Revenues Costs Net income
Reject Order $0 0 $0
Accept Order $39,000 36,000** $ 3,000
Net Income Increase (Decrease) $39,000* (36,000) $ 3,000
*15,000 x $2.60 **15,000 x ($2.30 +$0.30 – $0.20) Incremental analysis indicates that Waterways should accept the special order because net income increases by $3,000. (b) The unit contribution margin would be $0.80 and would increase profits by $1,600. This special order would not bring on a need for an added shift and should, therefore, be accepted. Added profit with irrigation co. Unit profit $0.80 2,000 x $0.80 $1,600
Revenues Costs Net income *2,000 x $3.10 **2,000 x $2.30
Reject Order $0 0 $0
Accept Order $6,200* 4,600** $1,600
Net Income Increase (Decrease) $6,200 (4,600) $1,600
WC20 (Continued) Incremental analysis indicates that Waterways should accept the special order because net income increases by $1,600. (c) Accepting both special orders would increase net income by $4,600. Currently, Waterways is earning a contribution margin of $56,000 (35,000 units x $1.60) on the connectors. If it accepts both special orders, contribution margin would increase by $4,600 or 8.2%. Acceptance would depend on management’s opinion regarding the added shift. Part 2 (a) The cost to make the units is $460,000 ($1.00 x 460,000 units). The cost to purchase the units is $377,200 ($0.82 x 460,000). However, the fixed manufacturing cost that cannot be eliminated by buying the units amounts to $92,000 ($0.20 x 460,000). The total cost of purchasing exceeds the total cost of making by $9,200. The company should continue to make the fitting. Variable and fixed manufacturing costs Fixed manufacturing cost not eliminated Total annual cost
Variable manufacturing costs ($1.00 – $0.20) Fixed manufacturing costs ($0.20) Purchase price ($0.82) Total cost *460,000 x $0.80 **460,000 x $0.20
Make
Buy
Income Change
$460,000
$377,200
$82,800
$ 92,000
(92,000) ($9,200) Net Income Increase (Decrease)
Make Part
Buy Part
$368,000* 92,000**
$
0 92,000
$ 368,000 0
0 $460,000
377,200*** $469,200
(377,200) $ (9,200)
***460,000 x $0.82 WC20 (Continued) (b) (1) The opportunity cost is $1,380. Cost of buying timer Cost of making timer Opportunity cost
$ 6,330 (4,950) $ 1,380
(500 x $12.66) (500 x $9.90)
(2) If Waterways adds that amount to the cost of making the small fitting, it still does not bring the cost up to the total cost of buying the unit. Therefore, the company would still be better off to make the small fittings and buy the timing units.
Variable costs ($1.00 – $0.20) Fixed costs ($0.20) Purchase price ($0.82) Total annual cost Opportunity cost Total cost
Make Part $368,000 92,000 0 $460,000 1,380 $461,380
Buy Part $ 0 92,000 377,200 $469,200 0 $469,200
Net Income Increase (Decrease) $ 368,000 0 (377,200) $ (9,200) 1,380 $ (7,820)
Part 3 Replacing the machine will result in a net loss of $3,000. Waterways should keep the old machine for the 2 years remaining.
Revenues Production costs New machine cost Total
Retain Machine $221,000* 169,000** 0 $ 52,000
Replace Machine $442,000*** 338,000**** 55,000 $ 49,000
*$8.50 x 50 units per day x 260 days x 2 years **$6.50 x 50 units per day x 260 days x 2 years ***$8.50 x 100 units per day x 260 days x 2 years
Net Income Increase (Decrease) $ 221,000 (169,000) (55,000) $ (3,000)
****$6.50 x 100 units per day x 260 days x 2 years WC20 (Continued)
Profits from machine for 2 years Cost of new machine Total
Retain Machine $52,000* 0 $52,000
Replace Machine $104,000 (55,000) $ 49,000
Income Change $ 52,000 (55,000) $ (3,000)
*($8.50 – $6.50) x 50 units per day x 260 days x 2 years LO2, 3, 5 BT: AN Difficulty: Moderate TOT: 90 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CT20.1
DECISION-MAKING ACROSS THE ORGANIZATION
Sales Costs and expenses Cost of goods sold Selling expenses Administrative expenses Purchase price Total costs and expenses Net income (1) (2) (3) (4) (5)
Retain Purchase Old Machine New Machine $6,000,000 (1) $6,600,000 (2)
Net Income Increase (Decrease) $ 600,000
4,500,000 (3) 900,000 500,000 — 5,900,000 $ 100,000
(120,000) (90,000) (65,000) (150,000) (425,000) $ 175,000
4,620,000 (4) 990,000 565,000 150,000 (5) 6,325,000 $ 275,000
12,000 x $100 x 5 years = $6,000,000. $6,000,000 x 110% = $6,600,000. $6,000,000 x (100% – 25%) = $4,500,000. $6,600,000 x (100% – 30%) = $4,620,000. $140,000 + $4,000 + $6,000 = $150,000.
The new machine should be purchased. The incremental analysis shows that net income is expected to increase from $100,000 to $275,000 over the five years with the new machine. LO5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [Net inc. effect: $600,000 – ($120,000 + $90,000 + $65,000 + $150,000) = $175,000] [Net inc. effect: Sales incr. – (CGS incr. + Sell. exp. incr. + Admin. exp. incr. + Purch. price) = Net inc. incr.]
CT20.2
MANAGERIAL ANALYSIS
Make $ 14.50
Buy— TransTech $ 14.50
Buy— Omega $ 14.50
2.00 0.80 0.60 3.00 0.50 0 — 6.90 $ 7.60 $38,000
0 0 0 0 0 10.00 0.20* 10.20 $ 4.30 $21,500
0 0 0 0 0 5.00 0.20 5.20 $ 9.30 $46,500
(a)
Sales Revenue Variable Manufacturing Cost: Circuit Board Plastic Case Alarms (4 @ $.15 each) Labor Overhead Purchase Cost Fixed Manufacturing Cost Total Manufacturing Cost Profit per Unit Total Profit
*The $1,000 cost that will continue to be incurred, even if the product is not manufactured, divided by the 5,000 units. The company is expected to generate the most profit if the clocks are purchased from Omega Company. The company will make $8,500 less if the clocks are manufactured by MiniTek. The company will make $25,000 less if the clocks are purchased from Trans-Tech compared to purchasing from Omega. [(Make: $14.50 – ($2.00 + $.80 + $.60 + $3.00 + $.50) = $7.60); (Buy Trans-Tech: $14.50 – ($10.00 + ($1,000 ÷ 5,000)) = $4.30); (Buy Omega: $14.50 – ($5.00 + $.20) = $9.30)] [(Make: USP – (Cir. Bd./unit + Plas. Case/unit + Alarms/unit + Labor/unit + OH/unit) = Profit/unit); (Buy TransTech: USP – (Purch. cost + (FOH ÷ No. units)) = Profit/unit); (Buy Omega: USP – (Purch. price + FOH) = Profit/unit)]
(b)
There are several important nonfinancial factors described in the case. Other factors might be identified as well. The factors described are: The company is having serious difficulty manufacturing the clocks. Therefore, it would probably be willing to have someone else manufacture the clocks, even if it cost more to do so. The most promising company appears to be Omega; however, there is a serious question about Omega’s ability to remain in business. However, the company could purchase just this one order from Omega, and then continue to search for another manufacturer, or stop manufacturing the clocks. Trans-Tech’s stringent requirements for preferred customer status, in the form of large sales requirements, appear to limit the possibilities
CT20.2 (Continued) for MiniTek to use it as a supplier. However, if MiniTek does desire to continue to offer the clocks because of their popularity, then perhaps Trans-Tech could be used in the future. (c)
Many answers are possible, depending upon each student’s assessment of the seriousness of the issues mentioned in (b). One answer would be: The company should use Omega to manufacture the BigMart order. After that, the company should not offer the clocks any longer. Especially since the clocks are no longer very profitable, it does not seem like a good idea to keep spending money to modify the process.
LO3 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CT20.3
REAL-WORLD FOCUS
(a) Before building the special-order new ceiling fans, company management must consider the effect of the new lines on current production capacity, existing and available channels of distribution, the effect on manufacturing efficiency, the effect on sales of current lines of product, and the supply of materials and labor. (b) Incremental analysis would provide a financial comparison of income with the special-order ceiling fans to income without the special orders. LO2 BT: E Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CT20.4
COMMUNICATION ACTIVITY
To:
Preston Thiese—Factory Manager
From:
Hank Jewell—Production Manager
I have spent considerable time thinking about the dilemma created by the new PDD1130 machine. Clearly, it is far superior to our existing machine. There is no question that it would save us tremendous amounts of money. I hope I am not overstepping my bounds here, but I think we need to prepare an incremental analysis to reevaluate this decision. The key to incremental analysis is identifying relevant costs. Relevant costs are those costs that vary depending on the course of action taken. In our situation, a relevant cost would be the savings that we would experience were we to purchase the new machine. The book value of the existing machine is not a relevant cost since it would not be changed by purchasing or not purchasing the new machine. Costs incurred in the past that do not change are referred to as sunk costs. Sunk costs are irrelevant to incremental analysis. I would really like to lay out an analysis of our options to decide the proper course of action. I am concerned that by using the old machine for a couple of years the profitability of the factory could be impacted negatively. LO5 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CT20.5
ETHICS CASE
(a) Many factors need to be considered when determining whether to close a division. The loss of jobs can have a devastating impact on a community and on the morale of remaining employees. From a financial perspective, closing a division that is reporting losses will not necessarily increase the reported net income of the company. The reason: if fixed costs that have been allocated to a division that is closed are reallocated to the remaining divisions, the company’s net income might actually decrease. This sounds like it would most likely be the case at Peters. (b) It is not unusual to reevaluate fixed cost allocations periodically. However, the allocation should be based on the underlying economics of the situation rather than the motives of individuals. (c) Blake should explain to the board of directors that the change in income is due to a reallocation and that closing the plumbing division is not advisable. In this case, being honest is not only the ethical thing to do, but it will also maximize the company’s net income. LO6 BT: E Difficulty: Easy TOT: 10 min. AACSB: Ethics, Analytic AICPA AC: Measurement Analysis and Interpretation AICPA PC: Ethical Conduct IMA: Strategy, Planning & Performance: Decision Analysis, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT20.6
ALL ABOUT YOU
(a) Chronic homelessness is defined as being on the streets for a year or more. (b) Homelessness costs cities money because the chronic homeless have frequent jail time, shelter costs, emergency room visits and hospital stays. Some costs per city per homeless person are: New York $40,000; Dallas $50,000; San Diego $150,000. (c) The first step is to try to identify the size of the problem by doing street counts. From this count, benchmarks can be set, enabling a reward system for meeting goals. Next is to identify what the homeless people want. What do they think they need to help them address their problem? They typically want adequate housing with some privacy. (d) It has been estimated that in New York this approach costs about $22,000 per year. New York has documented an 88% success rate (defined as not returning to the streets for five years). (e) In terms of incremental analysis, two alternatives are to either continue with the current situation, with the costs presented in part (b) or to implement the approach outlined in part (d). From a purely financial perspective the approach in (d) appears to have significant merit. Also (d) does not even take into account the intangible benefits of improving the quality of life for this segment of the population. LO N/A BT: E Difficulty: Moderate TOT: 20 min. AACSB: Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Decision Analysis
CT20.7
CONSIDERING YOUR COSTS AND BENEFITS
Discussion guide: This is a very difficult decision. All of the evidence suggests that your short-term and long-term prospects will be far greater with some form of post–high-school degree. Because of this, we feel strongly that you should make every effort to continue your education. Many of the discussions provided in this text present ideas on how to get control of your individual financial situation. We would encourage you to use these tools to identify ways to reduce your financial burden in order to continue your education. We also want to repeat that even taking only one course a semester is better than dropping out. Your instructors and advisors frequently provide advice to students who are faced with the decision about whether to continue with their education. If you are in this situation, we would encourage you to seek their advice since the implications of this decision can be long-lasting. LO N/A BT: S Difficulty: Moderate TOT: 30 min. AACSB: Reflective Thinking, Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Decision Analysis
CHAPTER 21 Pricing Learning Objectives 1. Compute a target cost when the market determines a product price. 2.
Compute a target selling price using cost-plus pricing.
3.
Use time-and-material pricing to determine the cost of services provided.
4.
Determine a transfer price using the negotiated, cost-based, and market-based approaches.
*5. Determine prices using absorption-cost pricing and variable-cost pricing. *6. Explain issues involved in transferring goods between divisions in different countries.
*Note: All asterisked Questions, Brief Exercises, Exercises, and Problems relate to material contained in an appendix to the chapter.
ANSWERS TO QUESTIONS 1.
The first type of pricing environment is where the company is a price taker; that is, the company does not set the price, but instead the price is set by a competitive market. In the second type of situation, the company sets the price. This happens most often when the product is specially made for a customer or there are few or no other producers capable of manufacturing a similar item.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
2.
A company focuses on target cost when it cannot influence the market price. The target cost is determined by subtracting the desired profit per unit from the market-determined selling price.
LO1 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
3.
The basic formula to determine the target selling price in cost-plus pricing is: Target selling price = Cost + Markup
LO2 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation & Performance: Decision Analysis
4.
The basic formula to determine the target selling price in cost-plus pricing is: Target unit selling price $23.40
= Cost + (Markup percentage X Cost) = $18 +
(30% x $18)
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation & Performance: Decision Analysis [$18 + (30% x $18) = $23.40] [Cost + (Markup % x Cost) = Target sell. price]
5.
IMA: Strategy, Planning
IMA: Strategy, Planning
The basic formula to compute the markup percentage is: Markup percentage =
Markup (Desired ROI per unit) Total unit cost
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
6.
Total unit cost base, excluding selling and administrative expenses ............................... $60 Unit selling and administrative expenses ........................................................................ 15 Total unit cost ................................................................................................................. $75 The markup percentage is computed as follows: $6 = 8% $75
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation & Performance: Decision Analysis [($60 + $15 = $75); ($6 ÷ $75 = 8%)] [Unit cost excluding S&A + Unit S&A = Tot. unit cost); (ROI/unit ÷ Tot. unit cost = Markup %)]
7.
The markup percentage is:
$6
IMA: Strategy, Planning
= 24%
$25 Unit variable cost ............................................................................................................ Unit fixed cost ................................................................................................................. Desired ROI per unit ....................................................................................................... Target unit selling price...................................................................................................
$16 9 6 $31
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
Chapter 21 Questions (Continued) [($16 + $9 + $6 = $31); ($6 ÷ ($16 + $9)= 24%)] [(Unit VC + Unit FC + Desired ROI/unit = Target sell. price); (Desired ROI/unit ÷ (Unit VC + Unit FC) = Markup %)]
8.
Time-and-material pricing is most often used in service industries. It involves two pricing rates, one for the labor used on a job, while the other involves the materials used. Each typically has a profit rate factored into it.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
9.
The material loading charge is a fee added to each bill to cover the costs of purchasing, receiving, handling, and storing materials, plus any desired profit margin on the materials themselves. The material loading charge is expressed as a percentage of the total estimated costs of parts and materials for the year.
LO3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
10.
A transfer price is the price used to record the transfer of goods or services between two divisions in the same company. Setting a fair transfer price is important because an improper price will benefit one division while hurting the other.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
11.
The objective of an appropriate transfer price is to maximize the return to the whole company and not cause divisional performance to decline.
LO4 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
12.
The three approaches for determining transfer prices are: (1) Negotiated transfer prices (2) Cost-based transfer prices (3) Market-based transfer prices
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
13.
When a cost-based transfer price is used, the exchange of goods between divisions is recorded by using the costs incurred by the selling division. This may either be the variable costs or the variable costs with an additional markup to cover fixed costs. The primary advantage of this approach is that it is relatively simple to use. The disadvantage is that it understates the selling division’s contribution to the company’s total contribution margin. Finally, it reduces the selling division’s incentive to control cost.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA Strategy, Planning & Performance:: Decision Analysis
14.
The general formula for determining the minimum transfer price that the selling division should be willing to accept is: Minimum transfer price = Variable cost + Opportunity cost
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
15.
When determining the minimum transfer price, the opportunity cost is the contribution margin that would be received if the goods were sold externally.
LO4 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
Chapter 21 Questions (Continued) 16.
A company is likely to use a negotiated transfer price rather than a market-based price when the selling division has excess capacity, and is therefore eager to expand production, or when a market price does not exist (e.g., for a special order).
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*17. The absorption-cost approach defines the cost base as manufacturing cost. Therefore, it excludes variable and fixed selling and administrative costs. LO5 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*18.
The markup percentage using variable-cost pricing would be: $3 + $9 = 75% $16
LO5 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($3 + $9) ÷ $16 = 75%] [(Desired ROI/unit + Unit FC) ÷ Unit VC = Markup %]
*19. A company with divisions in different countries will set the transfer price so that more profit is allocated to the division located in the country with the lower tax rate. This is improper. The proper (and legal) treatment is to base the transfer price on the market value of the goods transferred. LO6 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 21.1 In order to obtain a profit of $10 per drive, Ortega must set its target cost at $35 per drive ($45 – $10). It will then need to form a design team that will design a product that will meet quality specifications without exceeding the target cost. LO1 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
BRIEF EXERCISE 21.2 Direct materials ....................................................................................... Direct labor .............................................................................................. Variable manufacturing overhead.......................................................... Fixed manufacturing overhead .............................................................. Variable selling and administrative expenses....................................... Fixed selling and administrative expenses ........................................... Total unit cost .................................................................................. Total unit cost
+
(Markup percentage X Total unit cost)
$56
+
(30% x $56)
$12 8 6 14 4 12 $56
= Target unit selling price =
$72.80
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($12 + $8 + $6 + $14 + $4 + $12 = $56); ($56 + (30% x $56) = $72.80)] [(DM/unit + DL/unit + Var. mfg. OH/unit + Fix. mfg. OH/unit + Var. S&A exp./unit + Fix. S&A exp./unit = Tot. unit cost); (Tot. unit cost + (Markup % x Tot. unit cost) = Target unit sell. price)]
BRIEF EXERCISE 21.3 ROI per unit = (Total investment x Desired ROI percentage) Number of units = ($10,000,000 x 12%) 50,000
= $24
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($10,000,000 x 12%) ÷ 50,000 = $24] [(Tot. invest. x Desired ROI %) ÷ No. of units = ROI/unit]
BRIEF EXERCISE 21.4 The markup percentage would be: $30
= 18.75%
$36 + $24 + $18 + $40 + $14 + $28 LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [$30 ÷ ($36 + $24 + $18 + $40 + $14 + $28) = 18.75%] [Desired ROI/unit ÷ (DM/unit + DL/unit + VOH/unit + FOH/unit + Var. S&A/unit + Fix. S&A/unit) = Markup %]
BRIEF EXERCISE 21.5 The markup percentage is equal to Desired ROI per unit divided by total unit cost. The desired ROI per unit is computed as follows: Desired ROI per unit = $1,500,000 x 20% = $30 10,000 units [($1,500,000 x 20%) ÷ 10,000 = $30] [(Investment x Bud. ROI %) ÷ Est. units of prod. = Desired ROI/unit]
The total unit cost is computed as follows: Total unit cost = $1,100,000 + $100,000 = $120 10,000 units [($1,100,000 + $100,000) ÷ 10,000 = $120] [(VC + FC) ÷ Est. units of prod. = Tot. unit cost]
The markup percentage is computed as follows: Desired ROI per unit = Total unit cost
$30 = 25% $120
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
BRIEF EXERCISE 21.6 Rooney’s total bill would equal: (10.5 hours x $42) + $700 + ($700 x 40%) = $1,421 LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(10.5 x $42) + $700 + ($700 x 40%) = $1,421] [(No. hrs. worked x Hrly. rate) + Mat. used + (Mat. used x Mat. loading %) = Tot. bill]
BRIEF EXERCISE 21.7 The minimum unit transfer price is equal to the division’s unit variable cost plus its opportunity cost. The opportunity cost is equal to its contribution margin on goods sold to external parties. Thus, the minimum transfer price in this case is: Minimum unit transfer price = $25 + ($45 – $25) = $45. LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [$25 + ($45 - $25) = $45] [Unit VC + (Lost USP – Unit VC) = Min. unit transfer price]
BRIEF EXERCISE 21.8 If the division has excess capacity, then its opportunity cost is zero. In this case, the minimum transfer price is: Minimum unit transfer price = $25 + $0 = $25. LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis ($25 + $0 = $25) (UVC + Opp. Cost = Min. unit transfer price)
BRIEF EXERCISE 21.9 The minimum unit transfer price is equal to the division’s unit variable cost plus its opportunity cost. In this case the minimum transfer price is: Minimum transfer price = $27 + ($45 – $25) = $47. LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [$27 + ($45 - $25) = $47] [New UVC + (Lost USP – Regular UVC) = Min. unit transfer price]
*BRIEF EXERCISE 21.10 The markup percentage using the absorption-cost approach is calculated by including only manufacturing costs in the cost base. Therefore, all costs related to selling and administration are excluded from the cost base and added back in the numerator. $30 + ($14 + $28) Markup percentage = = 61.02% $36 + $24 + $18 + $40 LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($30 + ($14 + $28)) ÷ ($36 + $24 + $18 + $40) = 61.02%] [(Desired ROI/unit + (Var. S&A/unit + Fix. S&A/unit)) ÷ (DM/unit + DL/unit + Var. OH/unit + Fix. OH/unit) = Absorp. markup %]
*BRIEF EXERCISE 21.11 The markup percentage using variable-cost pricing is calculated by including only variable costs in the cost base. Therefore, all fixed costs are excluded from the cost base and added back in the numerator. Markup percentage =
$30 + ($40 + $28)
= 106.52%
$36 + $24 + $18 + $14 LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($30 + ($40 + $28)) ÷ ($36 + $24 + $18 + $14) = 106.52%] [(Desired ROI/unit + (Fix. OH/unit + Fix. S&A/unit)) ÷ (DM/unit + DL/unit + VOH/unit + Var. S&A/unit) = Var.cost markup %]
SOLUTIONS TO DO IT! EXERCISES DO IT! 21.1 The desired profit for this new product line is $320,000 ($2,000,000 x 16%) Each filter must result in $0.32 of profit ($320,000 ÷ 1,000,000 units) [($2,000,000 x 16%) ÷ 1,000,000 = $0.32] [(Invest. x Min. ROR) ÷ Est. no. of units to be sold = Profit/filter]
Market price – Desired profit = Target cost per unit $3 – $0.32 = $2.68 per unit LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
DO IT! 21.2 Direct materials.............................................................. Direct labor .................................................................... Variable manufacturing overhead ................................ Fixed manufacturing overhead..................................... Variable selling and administrative expenses ............. Fixed selling and administrative expenses ................. Total unit costs ........................................................
$18 9 5 6 3 7 $48
Total unit cost + (Total unit cost x Markup percentage) = Target unit selling price
$48
+
($48 x 30%)
=
$62.40
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($18 + $9 + $5 + $6 + $3 + $7) + ($48 x 30%) = $62.40] [(DM/unit + DL/unit + VOH/unit + Fix. OH/unit + Var. S&A/unit + Fix. S&A/unit) + (Tot. unit cost x Markup %) = Target unit sell. price]
DO IT! 21.3
Repair-technicians’ wages Fringe benefits Overhead Profit margin Rate charged per hour of labor
Total Cost ÷ Total Hours = $110,000 5,000 40,000 5,000 50,000 5,000 $200,000 5,000
Per Hour Charge $22 8 10 $40 20 $60
DO IT! 21.3 (Continued) Materials cost .............................................. Materials loading charge ($70 x 60%) ........ Total materials cost.....................................
$ 70 42 $112
Cost of dishwasher repair Labor costs ($60 x 1.5) ........................ Materials cost ...................................... Total repair cost ..........................................
$ 90 112 $202
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(($110,000 ÷ 5,000) + ($40,000 ÷ 5,000) + ($50,000 ÷ 5,000) + $20 = $60); (($60 x 1.5) + $70 + ($70 x 60%) = $202)] [((Repair-tech. wages ÷ Tot. Hrs.) + (Fringe bene. ÷ Tot. hrs.) + (OH ÷ Tot. hrs.) + Profit margin = Hrly. labor rate); ((Hrly. labor rate x No. hrs. worked) + Mat. cost + (Mat. cost x Mat. loading charge) = Tot. repair bill)]
DO IT! 21.4 (a)
Minimum transfer price $2.80
= Unit variable cost + Unit opportunity cost = $2.80 ($3 – $0.20) + $0
[($3.00 - $0.20) + $0 = $2.80] [(UVC – Reduction in zipper cost/unit) + Opp. cost = Min. transfer price]
(b)
Minimum transfer price $7.80
= Unit variable cost + Unit opportunity cost = $2.80 ($3 – $0.20) + $5 ($8 – $3)
[($3.00 - $00.20) + ($8.00 - $3.00) = $7.80] [(UVC – Reduction in zipper cost/unit) + (Lost USP – UVC) = Min. unit transfer price] LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
SOLUTIONS TO EXERCISES EXERCISE 21.1 (a)
The target cost formula is: Target unit cost = Market price – Desired profit. In this case, the market price is $20 and the desired profit is $8 (40% x $20). Therefore, the target cost is $12 ($20 – $8).
[$20 – ($20 x 40%) = $12] [Unit mkt. price– (Unit mkt. price x Markup %) = Target unit cost]
(b)
Target costing is particularly helpful when a company faces a competitive market. In this case, the price is affected by supply and demand, so no company in the industry can affect price. Therefore to earn a profit, companies must focus on controlling costs.
LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.2 The following formula may be used to determine return on investment Investment $8,000,000
x x
ROI percentage 20%
= Return on investment = $1,600,000
Return on investment per unit is then $16 ($1,600,000 ÷ 100,000) The target unit cost is therefore $74 computed as follows: Target unit cost = Unit market price – Desired unit profit $74 = $90 – $16 LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [$90 – (($8,000,000 x 20%) ÷ 100,000) = $74] [Unit mkt. price – ((Invest. x ROI %) ÷ Units sold) = Target unit cost]
EXERCISE 21.3 (a)
(1) In this case the unit selling price would be $125 ($100 + [$100 x 25%]). The problem with the $125 is that it is unlikely that Leno will be able to sell any Performance suits at that price. Market research seems to indicate that it will sell for only $100. (2) One way that Leno might consider manufacturing the Performance swimsuit is if it has excess capacity and therefore manufacturing the Performance will not affect fixed costs. Thus, if the company can cover its variable costs, it might want to sell at the $100 level.
EXERCISE 21.3 (Continued) (b)
In this case, the amount would be the unit selling price of $100.
(c)
The highest acceptable cost would be the target unit cost. The target unit cost is $75 as shown below: Target unit cost = Unit market price – Desired unit profit $75 = $100 – $25
[$100 – $25 = $75] [Mkt. price – Desired profit = Target cost] LO1, 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.4 (a) Total unit cost: Direct materials.......................................................................... Direct labor................................................................................. Variable manufacturing overhead ............................................ Fixed manufacturing overhead ($300,000 ÷ 30,000) ................................................................ Variable selling and administrative expenses ......................... Fixed selling and administrative expenses ($150,000 ÷ 30,000) ................................................................
Per Unit $17 8 11 10 4 5 $55
(b) Target selling price = $55 + (40% x $55) = $77 [($17 + $8 + $11 + $10 + $4 + $5) + ($55 x 40%) = $77] [(DM/unit + DL/unit + VOH/unit + FOH/unit + Var. S&A/unit + Fix. S&A/unit) + (Tot. unit cost x Markup %) = Target unit sell. price] LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.5 (a) Total unit cost: Direct materials ......................................................................... Direct labor ................................................................................ Variable manufacturing overhead ............................................ Fixed manufacturing overhead ($3,000,000 ÷ 500,000) ........................................................... Variable selling and administrative expenses......................... Fixed selling and administrative expenses ($1,500,000 ÷ 500,000) ...........................................................
Per Unit $ 7 11 15
($7 + $11 +$15 + $6 + $14 + $3 = $56) (DM/unit + DL/unit + VOH/unit + FOH/unit + Var. S&A/unit + Fix. S&A/unit = Tot. unit cost)
(b) Desired ROI per unit = (25% x $28,000,000) ÷ 500,000 = $14 [($28,000,000 x 25%) ÷ 500,000 = $14] [(Investment x Desired ROI %) ÷ Ann. no. of units = Desired ROI/unit]
(c) Markup percentage using total cost per unit: $14 $56
=
25%
($14 ÷ $56 = 25%) (Desired ROI/unit ÷ Tot. unit cost = Markup %)
(d) Target unit selling price = $56 + ($56 x 25%) = $70 LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.6 (a)
Total cost per session: Direct materials ................................................. Direct labor ........................................................ Variable overhead ............................................. Fixed overhead ($950,000 ÷ 1,000) ................... Variable selling & administrative expenses .... Fixed selling & administrative expenses ($500,000 ÷ 1,000) .......................................... Total cost per session ..............................
($20 + $400 + $50 + $950 + $40 + $500 = $1,960)
Per Session $ 20 400 50 950 40 500 $1,960
6 14 3 $56
(DM/session + DL/ session + VOH/ session + FOH/ session + Var. S&A/ session + Fix. S&A/ session = Tot. cost/ session)
EXERCISE 21.6 (Continued) (b)
Desired ROI per session = (20% x $2,352,000) ÷ 1,000 = $470.40
(c)
Mark-up percentage on total cost per session = $470.40 ÷ $1,960 = 24%
[(($2,352,000 x 20%) ÷ 1,000) ÷ $1,960 = 24%] [((Investment x Desired ROI %) ÷ Ann. no. of sessions) ÷ Tot. cost/session = Markup % on tot. cost/session]
(d)
Target price per session = $1,960 + ($1,960 x 24%) = $2,430.40
LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.7 (a) Unit fixed manufacturing overhead
=
$1,500,000
= $500 per unit
3,000 Unit fixed selling and administrative expenses
(b) Desired ROI per unit
=
=
$324,000 = $108 per unit 3,000
20% x $54,000,000
= $3,600 per unit
3,000 (c) Direct materials.......................................................................... Direct labor................................................................................. Variable manufacturing overhead ............................................ Fixed manufacturing overhead................................................. Variable selling and administrative expenses ......................... Fixed selling and administrative expenses ............................. Total unit cost ............................................................................ Desired ROI per unit .................................................................. Target unit selling price ............................................................
Per Unit $ 380 290 72 500 55 108 1,405 3,600 $5,005
[($380 + $290 + $72 + ($1,500,000 ÷ 3,000) + $55 + ($324,000 ÷ 3,000) + (($54,000,000 x 20%) ÷ 3,000) = $5,005][(DM/unit + DL/unit + VOH/unit + FOH/unit + Var. S&A/unit + Fix. S&A/unit) + Desired ROI/unit = Target unit sell. price] LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.8 (a) Total Cost Hourly labor rate for repairs Technician’s wages and benefits Overhead costs Office employee’s salary and benefits Other overhead
Total ÷ Hours =
$228,000 ÷ 7,600
Per Hour Charge
=
$30
38,000 ÷ 7,600 = 15,200 ÷ 7,600 = $281,200 ÷ 7,600 =
5 2 37 30 $67
Profit margin Rate charged per hour of labor
[($228,000 ÷ 7,600) + ($38,000 ÷ 7,600) + ($15,200 ÷ 7,600) + $30 = $67] [(Tech. wages & bene. ÷ Tot. hrs.) + (Off. emp. sal. & bene. ÷ Tot. hrs.) + (Other OH ÷ Tot. hrs.) + Profit margin = Labor rate/hr.]
(b)
Total Material Invoice Cost, Material Loading Loading Parts and Charges ÷ Materials = Percentage Overhead costs Parts manager’s salary and benefits Office employee’s salary and benefits Other overhead Profit margin Material loading percentage
$42,500 9,000 51,500 ÷ 24,000 ÷ $75,500 ÷
$400,000 $400,000 $400,000
= = =
12.875% 6.000% 18.875% 20.000% 38.875%
[(($42,500 + $9,000) ÷ $400,000)+ ($24,000 ÷ $400,000) + 20.000% = 38.875%] [((Parts mgr. sal. & bene. + Off. emp. sal. & bene.) ÷ Tot. cost mat. & parts) + (Other OH ÷ Tot. cost mat. & parts) + Profit margin = Mat. loading %]
EXERCISE 21.8 (Continued) (c) Job: Pace Corporation—Rebuild spot welder Labor charges 40 hours @ $67 ........................................... Material charges Cost of parts and materials........................ Material loading charge (38.875% x $2,000) ................................... Total price of labor and material..........
$2,680.00 $2,000.00 777.50
2,777.50 $5,457.50
LO3 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.9 (a) Hourly labor rate for repairs Technician’s wages and benefits Overhead costs Office employee’s salary and benefits Other overhead
Total Cost
Total Per Hour ÷ Hours = Charge
$150,000
÷ 6,250 = $24.00
30,000 15,000 $195,000
÷ 6,250 = ÷ 6,250 = ÷ 6,250 =
Profit margin Rate charged per hour of labor
4.80 2.40 31.20 38.00 $69.20
[($150,000 ÷ 6,250) + ($30,000 ÷ 6,250) + ($15,000 ÷ 6,250) + $38.00 = $69.20] [(Tech. wages & bene. ÷ Tot. hrs.) + (Off. emp. sal. & bene. ÷ Tot. hrs.) + (Other OH ÷ Tot. hrs.) + Profit margin = Labor rate/hr.]
(b)
Total Material Invoice Cost, Material Loading Parts and Loading Charges ÷ Materials = Percentage Overhead costs Parts manager’s salary and benefits Office employee’s salary and benefits Other overhead Profit margin Material loading percentage
$34,000 15,000 49,000 ÷ 42,000 ÷ $91,000 ÷
$700,000 $700,000 $700,000
= =
7.00% 6.00% 13.00% 80.00% 93.00%
EXERCISE 21.9 (Continued) [(($34,000 + $15,000) ÷ $700,000) + ($42,000 ÷ $700,000) + 80.00% = 93.00%] [((Parts mgr.’s sal. & bene. + Off. emp. sal. & bene.) ÷ Tot. cost parts & mat.) + (Other OH ÷ Tot. cost parts & mat.) + Profit margin = Mat. loading %]
(c) Job: Buil Builders Labor charges 80 hours @ $69.20 ................................ Material charges Cost of parts and materials.................. Material loading charge (93% x $40,000) ................................. Total price of labor and material ...
$ 5,536 $40,000 37,200
77,200 $82,736
LO3 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.10 (a)
Total Cost Hourly labor rate: Restorers’ wages and fringes Overhead costs: Administrative salaries & fringes Other overhead costs Total hourly cost
Total Hours ÷
Hourly = Charge
$270,000 ÷
12,000 =
$22.50
54,000 ÷
12,000 =
4.50
24,000 ÷ $348,000 ÷
12,000 = 12,000 =
2.00 $29.00
Profit margin = Hourly rate – total hourly cost = $70.00 – $29.00 = $41.00 [(($270,000 ÷ 12,000) + ($54,000 ÷ 12,000) + ($24,000 ÷ 12,000) = $29.00); ($70 – $29 = $41)] [((Restorer’s wages & fringes ÷ Tot. hrs.) + (Admin. sal. & fringes ÷ Tot. hrs.) + (Other OH costs ÷ Tot. hrs.) = Tot. hrly. cost); (Hrly. labor rate – Tot. hrly. cost = Profit margin)]
EXERCISE 21.10 (Continued) (b) Material Loading Charges Overhead costs: Purchasing agent’s salary and fringes Administrative salaries and fringes Other overhead costs Total
Total Invoice Cost, Parts & Materials ÷
Material Loading = Percentage
$ 67,500 21,960 89,460 ÷
$1,260,000
=
7.10%
77,490 ÷ $166,950 ÷
$1,260,000 $1,260,000
= =
6.15% 13.25%
Material loading charge (with profit) Material loading charge (without profit) Profit margin on materials
83.25% 13.25% 70.00%
[((($67,500 + $21,960) ÷ $1,260,000) + ($77,490 ÷ $1,260,000) = 13.25%); (83.25% - 13.25% = 70.00%)] [((Purch. agent’s sal. & fringes + Admin. sal. & fringes) ÷ Tot. cost parts & mat.) + (Other OH costs ÷ Tot. cost parts & mat.) = Mat. loading chrg. without profit margin); (Mat. loading chrg. with profit margin – Mat. loading chrg. without profit margin = Profit margin on mat.)]
(c) Labor charges: 150 hours @ $70 Material charges: Cost of parts & materials Material loading charge ($60,000 x 83.25%) Total price of labor and materials
$ 10,500 $60,000 49,950
109,950 $120,450
LO3 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.11 (a)
The minimum unit transfer price is: Minimum transfer price = Variable cost + Opportunity cost Given that the Small Motor Division has excess capacity, the minimum unit transfer price is the variable cost of $11 per unit.
(b)
Given no excess capacity, the minimum unit transfer price is $35, which is its unit variable cost plus the lost unit contribution margin.
[$11 + ($35 - $11) = $35] (Unit VC + Unit opp. cost)
(c)
The level of capacity plays a significant role in determining the appropriate transfer price. If a division has no excess capacity, why should it sell its product below a unit selling price it can obtain in an outside market? Conversely, if it has excess capacity, as long as it receives more than its unit variable cost, it has a net gain.
LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.12 (a) As indicated, FrameBody has excess capacity and therefore, should be willing to accept any price that equals or exceeds its unit variable cost. 1.
The per unit effect on Cycle Division is as follows:
Selling price Variable cost of goods sold Body frame Other variable costs Contribution margin
Present Situation $2,200 $300 900
1,200 $1,000
Purchase from FrameBody $2,200 $280 900
1,180 $1,020
In this case, Cycle Division makes $20 ($1,020 – $1,000) more per cycle sold and therefore, if it sells 1,000 cycles, it makes an additional $20,000. [(Present: $2,200 – ($300 + $900) = $1,000); (Purchase: $2,200 – ($280 + $900) = $1,020); (Change in CM: ($1,020 - $1,000) x 1,000 = $20,000)] [(Present: USP – Unit body frame cost + Other Unit VC) = UCM); (Purchase: USP – (Unit body frame cost + Unit other VC) = UCM); (Change in CM: (Purch. UCM – Present UCM) x No. of cycles sold = Incr. in CM)]
EXERCISE 21.12 (Continued) 2.
The effect on FrameBody is that it makes $10 on each frame sold as shown below: Selling price to Cycle Division Variable cost Unit contribution margin
$280 270 $ 10
Thus, the FrameBody Division gains $10,000 ($10 x 1,000). [($280 - $270) x 1,000 = $10,000] [(USP to Cycle Div. – UVC) x No. of cycles sold = Incr. in CM]
3.
As a result, the overall income for Ayala increases $30,000 ($20,000 from Cycle Division and $10,000 from FrameBody).
(b) 1.
The answer would not change from (a)(1). Cycle Division would gain $20,000 if it purchased the frames from FrameBody.
2.
However, FrameBody would incur a loss of $70,000 as computed below: Selling price to outside buyer Selling price to Cycle Division Lost contribution margin per cycle Number of cycles Lost contribution margin
$
350 280 $ 70 x 1,000 $70,000
[($350 - $280) x 1,000 = $70,000] [(USP to outside buyer – USP to cycle div.) x No. of cycles sold = Lost CM]
3.
The effect on the overall income to Ayala is a net loss of $50,000 as shown below: Cycle Division gain Frame Body loss Overall loss
$20,000 (70,000) ($50,000)
[$20,000 - $70,000 = ($50,000)] [Cycle div. incr. CM – Frame body div. lost CM = Overall company loss] LO4 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.13 (a) The minimum transfer price that Benson should accept is: Minimum transfer price = ($37 – $3) + ($86 – $37) = $83 [($37 - $3) + ($86 - $37) = $83] [(Tot. UVC – Var. ship. cost saved) + (Outside USP – Outside UVC) = Min. transfer price]
(b) The lost unit contribution margin to the company is: Unit contribution margin lost by Benson [($86 – $37) – ($35 – $34)]............................................................ Increased unit contribution margin to vehicle division ($80 – $35) ......................................................... Net loss in unit contribution margin ..............................................
$48 45 $ 3
Total lost contribution margin is $3 x 200,000 units = $600,000 [((($86 - $37) – ($35 - $34)) – ($80 - $35) = $3); ($3 x 200,000 = $600,000)] [(((USP to outside cust. – UVC) – (Transfer price to vehicle div. – UVC for sales to vehicle div)) – (USP to outside cust. – UVC for outside sales) = Lost UCM); (Lost UCM x No. units sold = Tot. lost CM)]]
(c) If management insists that it wants Benson to provide the stereo units, and Benson is operating at full capacity, then it must be willing to pay the minimum transfer price for those units. Otherwise it will be penalizing the managers of Benson by not giving them adequate credit for their contribution to the corporation’s contribution margin. LO4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.14 The minimum transfer price on this special order would be: Minimum transfer price = ($140 – $6) + ($50 – $29) = $155. Since the $160 price offered by the Bathtub Division exceeds this minimum price, the offer should probably be accepted. However, given that the division is operating at full capacity, it should give some consideration to the chance that it may anger existing customers if it has to turn away business. LO4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [($140 - $6) + ($50 - $29) = $155] [(External UVC – Var. sell. exp/unit saved) + (Outside USP – Outside UVC) = Min. transfer price/unit]
EXERCISE 21.15 (a) Minimum transfer price = ($130 – $8) + $0 = $122 [($130 - $8) + $0 = $122] [(Outside UVC – Admin. exp./unit saved) + Opp. cost = Min. transfer price/unit]
(b) Minimum transfer price = ($130 – $8) + ($160 – $130) = $152 [($130 - $8) + ($160 - $130) = $152] [(Outside UVC – Admin. exp./unit saved) + (Outside USP – Outside UVC) = Min. transfer price/unit]
(c) No. By forcing the Appraisal Department to accept the $150 per appraisal price, management is penalizing the Appraisal department. If the department was allowed to sell its services to outside customers, it could earn $30 ($160 – $130) in contribution margin per appraisal. Forcing them to sell their services internally would allow them to earn only $28 ($150 – $122) in unit contribution margin. A loss of $2 per appraisal or a total of $2,400 (1,200 x $2) would result. LO4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.16 (a) The minimum transfer price for Division B would be variable costs, which are $6 per unit ($7, variable cost – $1, variable selling expense). The maximum price would be the external price paid by Division A, which is $10 per unit. [(($7 - $1) + $0 = $6); (Max. = $10)] [((Outside UVC – Var. sell. exp./unit saved) + Opp. cost = Min. transfer price); (Max. unit transfer price = Current USP)]]
(b) Minimum transfer price = variable costs + opportunity cost Variable costs = $6 (as in (a)) Opportunity cost = (($7 – $5) x 15,000) ÷ 10,000 = $3 Therefore, the minimum transfer price should be $9 ($6 + $3) The maximum price would still be the external price paid by Division A, which is $10 per unit. [((($7 - $5) x 15,000) ÷ 10,000 = $3); ($6 + $3 = $9); (Max. = $10)] [(((USP new product – UVC new product) x No. units sold) ÷ No. of lamps) = Opp. cost/unit); (UVC + Opp. cost/unit = Min. transfer price/unit); (Max. unit transfer price = Current USP)]
EXERCISE 21.16 (Continued) (c) Minimum transfer price = variable costs + opportunity cost Variable costs = $6.00 (as in (a)) Opportunity cost = (($12 – $7) x 5,000) ÷ 15,000 = $1.67 Therefore, the minimum transfer price should be $7.67 ($6 + $1.67) The maximum price would still be the external price paid by Division A, which is $10 per unit. LO4 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
EXERCISE 21.17 (a) Sales Less: Costs Variable costs Transfer costs Total costs Contribution to income
Division A $1,500
Division B $2,400
Total Company $3,900
$1,100 0 $1,100 $ 400
$1,200 1,500 $2,700 $ (300)
$2,300 1,500 $3,800 $ 100
[(Div. A: $1,500 – $1,100 = $400); (Div. B: $2,400 – ($1,200 + $1,500) = ($300)); (Tot. co.: $3,900 – ($2,300 + $1,500) = $100)] [(Div. A: Sales – VC = Contrib. to inc.); (Div. B: Sales – (VC + Transfer costs) = Neg. contrib. to inc.); (Tot. co.: Sales – (VC + Transfer costs) = Contrib. to inc.)]
(b) Transfers should be made at unit variable cost plus unit opportunity cost, which in this case would equal the market price less any avoidable costs. In the current situation, it would appear that no transfers would be made unless Division B is willing to pay the market price. (c) (i)
Maintain price, no transfers (500 x $1,500) – (500 x $1,100) = $200,000
[(500 x $1,500) – (500 x $1,100) = $200,000] [(No. units sold x USP) – (No. units sold x UVC) = Tot. CM]
(ii)
Cut price, no transfers (1,000 x $1,200) – (1,000 x $1,100) = $100,000
[(1,000 x $1,200) – (1,000 x $1,100) = $100,000] [(No. units sold x Reduced USP) – (No. units sold x UVC) = Tot. CM]
(iii) Maintain price and transfers (500 x $2,400) + (500 x $1,500) – $1,700,000* = $250,000 *(500 x $2,300) + (500 x $1,100)
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EXERCISE 21.17 (Continued) [((500 x $2,400) + (500 x $1,500)) – ((500 x $2,300) + (500 x $1,100)) = $250,000] [((No. units sold by Div. B x USP) + (No. units sold by Div. A x USP)) – ((No. units sold x Sum of Div. A & Div. B UVC) + (No. units sold x Div. A UVC)) = Tot. CM]
The firm is better off by maintaining the current market price for Division A’s product and transferring 500 units to Division B. A transfer price within the range of $1,100 to $1,200 would be needed to motivate both divisional managers to engage in the transfers. An optimal transfer price cannot be determined from the information given (even with full information, the best transfer price in the range may not be determinable). LO4 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*EXERCISE 21.18 (a) Cost per unit: Per Unit Direct materials.......................................................................... $ 7 Direct labor................................................................................. 11 15 Variable manufacturing overhead ............................................ 6 Fixed manufacturing overhead ($3,000,000 ÷ 500,000) ........... 14 Variable selling and administrative expenses ......................... Fixed selling and administrative expenses 3 ($1,500,000 ÷ 500,000)............................................................ $56 (b) Desired ROI per unit = (25% x $28,000,000) ÷ 500,000 = $14 [(25% x $28,000,000) ÷ 500,000 = $14] [(Desired ROI % x Investment) ÷ Ann. vol. in units = Desired ROI/unit]
(c) Absorption-cost pricing markup percentage
=
$14 + ($14 + $3) = 79.49% ($7 + $11 + $15 + $6)
[($14 + $14 + $3) ÷ ($7 + $11 + $15 + $6) = 79.49%] [(Desired ROI/unit + Var. S&A exp./unit + Fix. S&A exp./unit) ÷ (DM/unit + DL/unit + Var. OH/unit + Fix. OH/unit) = Absorp. Markup %]
(d) Variable-cost pricing markup percentage
=
$14 + ($6 + $3) = 48.94% ($7 + $11 + $15 + $14)
[($14 + $6 + $3) ÷ ($7 + $11 + $15 + $14) = 48.94%] [(Desired ROI/unit + Fix. OH/unit + Fix. S&A/unit) ÷ (DM/unit + DL/unit + Var. OH/unit + Var. S&A/unit) = VC markup %] LO5 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*EXERCISE 21.19 (a) The cost base of absorption-cost pricing includes only manufacturing costs. All selling and administrative costs are excluded from the cost base and are added back in the numerator of the markup percentage. Absorption-cost pricing markup percentage
=
$24 + ($9 + $11) = 55% ($20 + $25 + $14 + $21)
[($24 + $9 + $11) ÷ ($20 + $25 + $14 + $21) = 55%] [(Desired ROI/unit + Var. S&A/unit + Fix. S&A/unit) ÷ (DM/unit + DL/unit + Var. OH/unit + Fix. OH/unit) = Absorp. Markup %]
(b) The cost base of variable-cost pricing includes only variable costs. All fixed costs are excluded from the cost base and are added back in the numerator of the markup percentage. Variable-cost pricing markup percentage
$24 + ($21 + $11) = 82.35% ($20 + $25 + $14 + $9)
=
[($24 + $21 + $11) ÷ ($20 + $25 + $14 + $9) = 82.35%] [(Desired ROI/unit + Fix. OH/unit + Fix. S&A/unit) ÷ (DM/unit + DL/unit + Var. OH/unit + Var. S&A/unit) = VC markup %] LO5 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*EXERCISE 21.20 (a) Fixed manufacturing overhead per unit Fixed selling and administrative expenses per unit (b) Desired ROI per unit
=
$1,500,000 = $500 per unit 3,000
=
$324,000 3,000
20% x $54,000,000
=
= $108 per unit =
$3,600 per unit
3,000 [(20% x $54,000,000) ÷ 3,000 = $108] [(Desired ROI % x Investment) ÷ Ann. vol. in units = Desired ROI/unit]
(c) Absorption-cost pricing markup percentage
=
$3,600 + ($55 + $108) $380 + $290 + $72 + $500
= 302.979%
Target selling price = $1,242 + ($1,242 x 302.979%) = $5,005 [(($3,600 + $55 + $108) ÷ ($380 + $290 + $72 + $500) = 302.979%); ($1,242 + ($1,242 x 302.979%) = $5,005)] [((Desired ROI/unit + Var. S&A/unit + Fix. S&A/unit) ÷ (DM/unit + DL/unit + Var. OH/unit + Fix. OH/unit) = Absorp. markup %); (Tot. cost/unit + (Tot. cost/unit x Absorp. markup %) = Target sell. price)]
EXERCISE 21.20 (Continued) (d)
Variable-cost pricing markup percentage
=
$3,600 + ($500 + $108) $380 + $290 + $72 + $55
=
527.980%
Target selling price = $797 + ($797 x 527.980%) = $5,005 [(($3,600 + $500 + $108) ÷ ($380 + $290 + $72 + $55) = 527.980%); ($797 + ($797 x 527.980%) = $5,005)] [((Desired ROI/unit + Fix. OH/unit + Fix. S&A/unit) ÷ (DM/unit + DL/unit + Var. OH/unit + Var. S&A/unit) = VC markup %); (Tot. VC/unit + (Tot. VC/unit x VC markup % = Target sell. price)] LO5 BT: AP Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
SOLUTIONS TO PROBLEMS PROBLEM 21.1
(a) Direct materials.......................................................................... Direct labor................................................................................. Variable manufacturing overhead ............................................ Variable selling and administrative expenses ......................... Unit variable cost.......................................................................
$25 40 10 5 $80
Total Budgeted Cost Costs ÷ Volume = Per Unit $1,440,000 ÷ 80,000 = $18
Fixed manufacturing overhead Fixed selling and administrative expenses Unit fixed cost
960,000 ÷ $2,400,000 ÷
80,000 80,000
= =
Unit variable cost....................................................................... Unit fixed cost............................................................................ Total unit cost ............................................................................
12 $30 $ $
80 30 110
[($25 + $40 + $10 + $5 = $80); (($1,440,000 ÷ 80,000) + ($960,000 ÷ 80,000) = $30); ($80 + $30 = $110)] [(DM + DL + VOH + Var. S&A = Unit VC); ((Fix. OH ÷ Bud. vol.) + (Fix. S&A ÷ Bud. vol.) = Unit FC); (Unit VC + Unit FC = Tot. unit cost)]
(b) Total unit cost ............................................................................ Markup........................................................................................ Desired ROI per unit ..................................................................
$ 110 x 40% $ 44
($110 x 40% = $44) (Tot. unit cost x Markup = Desired ROI/unit)
(c) Total unit cost ............................................................................ Desired ROI per unit .................................................................. Target unit selling price ............................................................
$110 44 $154
($110 + $44 = $154) (Tot. unit cost + Desired ROI/unit = Target unit sell. price)
(d) Unit variable cost................ Unit fixed cost..................... Total unit cost .....................
$ 80 40 $120
(same as above) ($1,440,000 + $960,000) ÷ 60,000
LO2 BT: AP Difficulty: Easy TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 21.2 (a) Direct materials ......................................................................... Direct labor................................................................................ Variable manufacturing overhead ........................................... Variable selling and administrative expenses ........................ Unit variable cost ......................................................................
Fixed manufacturing overhead Fixed selling and administrative expenses Unit fixed cost
$ 50 26 20 19 $115
Total Budgeted Cost Costs ÷ Volume = Per Unit $ 600,000 ÷ 50,000 = $12 400,000 ÷ 50,000 $1,000,000 ÷ 50,000
= =
Unit variable cost ...................................................................... Unit fixed cost ........................................................................... Total unit cost ...........................................................................
8 $20 $115 20 $135
[($50 + $26 + $20 + $19 = $115); (($600,000 ÷ 50,000) + ($400,000 ÷ 50,000) = $20); ($115 + $20 = $135)] [(DM + DL + VOH + Var. S&A = Unit VC); ((Fix. OH ÷ Bud. vol.) + (Fix. S&A ÷ Bud. vol.) = Unit FC); (Unit VC + Unit FC = Tot. unit cost)]
Desired ROI per unit =
25% x $1,000,000
= $5
50,000 Markup percentage =
$5
= 3.70%
$135 Total unit cost ........................................................................... Desired ROI per unit ................................................................. Target unit selling price............................................................
$135 5 $140
[((25% x $1,000,000) ÷ 50,000 = $5); ($5 ÷ $135 = 3.70%); ($135 + $5 = $140)] [((Desired ROI % x Investment) ÷ Bud. vol. = Desired ROI/unit); (Desired ROI/unit ÷ Tot. unit cost = Markup %); (Tot. unit cost + Desired ROI/unit = Target unit sell. price)]
(b) Unit variable cost ....................................................
Fixed manufacturing overhead Fixed selling and administrative expenses Unit fixed cost
$115 (same as (a))
Total Budgeted Cost Costs ÷ Volume = Per Unit $ 600,000 ÷ 40,000 = $15 400,000 ÷ $1,000,000 ÷
40,000 40,000
=
10 $25
PROBLEM 21.2 (Continued) Unit variable cost....................................................................... Unit fixed cost............................................................................ Total unit cost ............................................................................
$115 25 $140
[(($600,000 ÷ 40,000) + ($400,000 ÷ 40,000) = $25); ($115 + $25 = $140)] [((Fix. OH ÷ Bud. vol.) + (Fix. S&A ÷ Bud. vol.) = Unit FC); (Unit VC + Unit FC = Tot. unit cost)]
Desired ROI per unit =
25% x $1,000,000
= $6.25
40,000 Markup percentage =
$6.25
= 4.46%
$140 Total unit cost ................................................................................ $140.00 Desired ROI per unit ...................................................................... 6.25 Target unit selling price ................................................................. $146.25 [((25% x $1,000,000) ÷ 40,000 = $6.25); ($6.25 ÷ $140 = 4.46%); ($140.00 + $6.25 = $146.25)] [((Desired ROI % x Investment) ÷ Bud. vol. = Desired ROI/unit); (Desired ROI/unit ÷ Tot. unit cost = Markup %); (Tot. unit cost + Desired ROI/unit = Target unit sell. price)] LO2 BT: AP Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 21.3
(a) Computation of time charge rate Total Cost Hourly labor rate for repairs Shop employees’ wages and benefits Overhead costs Office employee’s salary and benefits Other overhead Total Profit margin Rate charged per hour of labor
Total Per Hour ÷ Hours = Charge
$108,000 ÷ 5,000 =
$21.60
23,500 ÷ 5,000 = 26,000 ÷ 5,000 = $157,500 ÷ 5,000 =
4.70 5.20 31.50 10.00 $41.50
[($108,000 ÷ 5,000) + ($23,500 ÷ 5,000) + ($26,000 ÷ 5,000) + $10.00 = $41.50] [(Shop emp. wages & bene. ÷ Tot. hrs.) + (Off. emp. sal. & bene. ÷ Tot. hrs.) + (Other OH ÷ Tot. hrs.) + Profit margin = Labor rate/hr.]
(b) Computation of material loading charge Material Material Loading Total Invoice Cost, Loading Charges ÷ Parts and Materials = Percentage Overhead costs Parts manager’s salary and benefits Office employee’s salary and benefits Other overhead Total Profit margin Material loading percentage
$25,400 13,600 39,000 ÷ 16,000 ÷ $55,000 ÷
$100,000 100,000 100,000
= = =
39% 16% 55% 25% 80%
[(($25,400 + $13,600) ÷ $100,000) + ($16,000 ÷ $100,000) + 25% = 80%] [((Parts mgr.’s sal. & bene. + Off. emp. sal. & bene.) ÷ Tot. cost parts & mat.) + (Other OH ÷ Tot. cost parts & mat.) + Profit margin = Mat. loading %]
PROBLEM 21.3 (Continued) (c) Price quotation for time and material SUTTON’S ELECTRONIC REPAIR SHOP Time and Material Price Quotation January 5, 2025 Job: Fix big screen TV set Labor charges: 4 hours @ $41.50.................... Material charges Cost of parts and materials......................... Material loading charge (80% X $200) ........
$166 $200 160
Total price of labor and material....................... LO3 BT: AP Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
360 $526
PROBLEM 21.4
(a) Assuming no available capacity, the printing operation’s variable cost is $0.004 per page and its opportunity cost is $0.006 ($0.01 – $0.004) per page. The minimum transfer price would be $0.01 ($0.004 + $0.006). Therefore, the printing operation would not accept the internal transfer price of $0.007. [$0.004 + ($0.01 - $0.004) = $0.01] [VC/page + (Price/page – VC/page) = Min. transfer price]
(b) Assuming that the printing operation has available capacity, the printing operation’s variable cost is $0.004 and its opportunity cost is $0. The minimum transfer price would be $0.004 ($0.004 + $0). Therefore, in this case, the printing operation should accept the offer to print internally. The $0.007 transfer price would provide a contribution margin of $0.003 ($0.007 – $0.004) per page. Depending on its bargaining strength, the printing operation might want to ask for a transfer price higher than $0.007, since the company is saving money at any price below the $0.009 price that the line pays to outside printers. ($0.004 + $0 = $0.004) (VC/page + Opp. Cost/page = Min. transfer price)
(c) The advantages of having all of the company’s printing done intern-ally include: (1) ensuring that the company’s quality expectations are met, (2) ensuring that all projects are completed on a timely basis, and (3) ensuring that jobs are scheduled in a manner consistent with the company’s priorities. The primary disadvantages of forcing the printing operation to print internal work when it doesn’t feel it is in its best interest are: (1) the division manager loses control over the division’s performance, resulting in a loss of morale, and (2) the profitability of the division, as well as the company as a whole, will decline. (d) The printing operation would lose: ($0.01 – $0.007) x 500 pages x 1,500 copies
= ($2,250)
Business Books would save: ($0.009 – $0.007) x 500 pages x 1,500 copies = 1,500 Overall loss to the company as a whole = ($ 750) [(Printing oper.: ($0.01 - $0.007) x 500 x 1,500 = ($2,250)) + (Bus. Books: ($0.009 - $0.007) x 500 x 1,500 = $1,500); (($2,250 + $1,500 = ($750))] [(Printing oper.: (Outside price/page – Transfer price/page) x No. of pages x No. of copies = Decr. in CM) + (Bus. Books: (Outside cost/page – Transfer price/page) x No. of pages x No. of copies = Incr. in CM); (Decr. in print. oper. CM + Incr. in bus. books CM = Overall decr. in CM to company)] LO4 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 21.5
(a) The minimum transfer price is based on the variable cost of units transferred internally, plus the opportunity cost of units sold externally. The variable cost of internal sales would be $10 ($14.50 – $4.50). The opportunity cost would be $8 ($22.50 – $14.50). Therefore, the minimum transfer price would be $18 ($10 + $8). Since the $21 transfer price offered by the Board Division exceeds this minimum transfer price, the Chip Division should sell the chip internally. Since it is already at capacity, it probably needs to consider the implications to its existing customers. (b) If the Chip Division rejects the offer, each division will suffer a loss of contribution margin, as well as the company as a whole. The amount of this loss is calculated as: Lost contribution margin by Board Division: Cost of buying externally, per chip Less: Cost of buying internally, per chip Increased cost, resulting in lower unit contribution margin Number of units purchased Total lost contribution margin
$22 21 1 x 40,000 $ 40,000
Lost contribution margin by Chip Division: Unit contribution margin on internal sales ($21 – $10) $11 Less: Unit contribution margin on external sales ($22.50 – $14.50) 8 Lost unit contribution margin 3 Number of units sold x 40,000 Total lost contribution margin
120,000
Overall lost contribution margin for the company
$160,000
[(Board div.: ($22 - $21) x 40,000 = $40,000); (Chip div.: ($11 - $8) x 40,000 = $120,000); ($40,000 + $120,000 = $160,000)] [(Board div.: External cost/chip – Internal cost/chip) x No. of chips = Lost CM); (Chip div.: (UCM on internal sales – UCM on external sales) x No. of units sold = Lost CM); (Lost CM board div. + Lost CM chip div. = Overall lost CM for company)] LO4 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
PROBLEM 21.6
(a) Assuming no available capacity, and that in order to produce the 12,000 special pagers, 10,000 standard pagers would be foregone, the minimum unit variable cost would be ($50 + $30) or $80 and the unit opportunity cost would be: Total contribution margin on standard pagers ($95 – $50) x 10,000 = Number of special pagers 12,000
= $37.50
Therefore, the minimum transfer price would be $117.50 [($50 + $30) + $37.50). Since this is higher than the $105 transfer price being offered, the CD Division should reject the offer. (b) Assuming no available capacity, and that in order to produce the 12,000 special pagers, 16,000 standard pagers would be forgone, the minimum unit variable cost would be ($50 + $30) or $80 and the unit opportunity cost would be: Total contribution margin on standard pagers = ($95 – $50) x 16,000 Number of special pagers 12,000
= $60
Therefore, the minimum transfer price would be $140 [($50 + $30) + $60]. Since the $150 transfer price being offered exceeds the minimum transfer price of $140, the CD Division should accept the offer. [($50 + $30) + ((($95 - $50) x 16,000) ÷ 12,000) = $140] [(Std. pager VC/unit + Spec. pager VC/unit) + (((Std. pager USP – Std. pager VC/unit) x No. of std. pagers foregone) ÷ No. of spec. pagers) = Min. transfer price]
(c) Assuming that the CD Division has available capacity, variable cost would be $80 ($50 + $30) and the opportunity cost would be zero. Therefore, the minimum transfer price would be $80 ($80 + $0). Since the $100 transfer price being offered exceeds the $80 minimum transfer price, the offer should be accepted. LO4 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*PROBLEM 21.7
(a) Absorption-cost pricing: Computation of unit manufacturing cost and target selling price Direct materials......................................................................... Direct labor................................................................................ Variable manufacturing overhead ........................................... Fixed manufacturing overhead ($1,600,000 ÷ 80,000) ............ Total unit manufacturing cost .......................................... Markup: 50% x $90................................................................... Target unit selling price ...........................................................
$ 20 40 10 20 90 45 $135
The markup of $45 per unit must cover selling and administrative expenses (variable and fixed) plus provide a desired return on investment. [$20 + $40 + $10 + ($1,600,000 ÷ 80,000) + (50% x $90) = $135] [DM/unit + DL/unit + VOH/unit + (Fix. OH ÷ Bud. vol.) + (Markup % x Mfg. unit cost) = Target unit sell. price]
(b) Variable-cost pricing: Computation of total variable cost and target selling price Direct materials......................................................................... Direct labor................................................................................ Variable manufacturing overhead ........................................... Variable selling and administrative expenses ........................ Total unit variable cost ..................................................... Markup: 80% x $75................................................................... Target unit selling price ...........................................................
$ 20 40 10 5 75 60 $135
The markup of $60 per unit must cover fixed manufacturing and fixed selling and administrative costs plus provide a desired return on investment. [$20 + $40 + $10 + $5 + (80% x $75) = $135] [DM/unit + DL/unit + VOH/unit + Var. S&A/unit + (Markup % x Tot. Unit VC) = Target unit sell. price] LO5 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
*PROBLEM 21.8 Absorption-cost pricing (a) Step one—Computation of unit manufacturing cost: Direct materials........................................................................ Direct labor............................................................................... Variable manufacturing overhead .......................................... Fixed manufacturing overhead ($120,000 ÷ 4,000) ................ Total unit manufacturing cost .........................................
Per Unit $100 70 20 30 $220
[$100 + $70 + $20 + ($120,000 ÷ 4,000) = $220] [DM/unit + DL/unit + VOH/unit + (Fix. OH ÷ Bud. vol.) = Tot. unit mfg. cost]
Step two—Computation of markup percentage to provide a 25% ROI: Markup = [(25% X $1,016,000) ÷ 4,000] + [$10 + ($102,000 ÷ 4,000)] = $99 = 45% Percentage $220 $220 [(((25% x $1,016,000) ÷ 4,000) + (($10 + ($102,000 ÷ 4,000))) ÷ $220 = 45%] [(((Desired ROI % x Investment) ÷ Bud. vol.) + ((Var. S&A/unit + (Fix. S&A ÷ Bud. vol.))) ÷ Tot. unit mfg. cost = Markup %]
(b) Step three—Computation of target unit selling price: Target price: $220 + [45% x $220) = $319 Proof of 25% ROI under absorption-cost pricing: ANDERSON WINDOWS INC. Budgeted Absorption-Cost Income Statement (Tinted Window) Revenues (4,000 units x $319) ........................................ Cost of goods sold (4,000 units x $220) ......................... Gross profit ...................................................................... Selling and administrative expenses [(4,000 units x $10) + $102,000] ................................... Net income ....................................................................... Desired ROI =
$254,000
= 25%
$1,016,000 Markup percentage =
$254,000 + $142,000
= 45%
$880,000* *$220 x 4,000 [$220 + (45% x $220) = $319] [Tot. unit mfg. cost + (Tot. unit mfg. cost x Markup %) = Target unit sell. price]
$1,276,000 880,000 396,000 142,000 $ 254,000
*PROBLEM 21.8 (Continued) Variable-cost pricing (c) Step one—Computation of unit variable cost: Direct materials ..................................................................... Direct labor ............................................................................ Variable manufacturing overhead ........................................ Variable selling and administrative expenses ............................................................................ Total unit variable cost ..................................................
Per Unit $100 70 20 10 $200
($100 + $70 + $20 + $10 = $200) DM/unit + DL/unit + VOH/unit + Var. S&A/unit = Tot. Unit VC)
Step two—Computation of markup percentage to provide a 25% ROI: Markup = [(25% x $1,016,000) ÷ 4,000] + [($120,000 + $102,000) ÷ 4,000] = $119 = 59.50% Percentage $200 $200 [(((25% x $1,016,000) ÷ 4,000) + (($120,000 + $102,000) ÷ 4,000))) ÷ $200 = 59.50%] [(((Desired ROI % x Investment) ÷ Bud. vol.) + ((Fix. OH + Fix. S&A) ÷ Bud. vol.))) ÷ Tot. VC/unit = Markup %]
(d) Step three—Computation of target unit selling price: Target price: $200 + (59.5% x $200) = $319 Proof of 25% ROI under variable-cost pricing: ANDERSON WINDOWS INC. Budgeted Variable-Cost Income Statement (Tinted Window) Revenue (4,000 units x $319) ............................ Variable costs (4,000 units x $200)................... Contribution margin .......................................... Fixed costs Fixed manufacturing overhead costs........... Fixed selling and administrative expenses.. Net income ......................................................... Desired ROI =
$254,000 $1,016,000
= 25%
$1,276,000 800,000 476,000 $120,000 102,000
222,000 $ 254,000
*PROBLEM 21.8 (Continued) Markup percentage =
$222,000 + $254,000
= 59.5%
$800,000 [$200 + (59.5% x $200) = $319] [Tot. Unit VC + (Markup % x Tot. Unit VC) = Target unit sell. price]
(e) Both absorption-cost pricing and variable-cost pricing are used because they have differing merits. Absorption-cost pricing, especially when it includes full or all costs, is preferred by some because in the long-run all costs plus a normal profit margin must be covered. Using only variable costs, as the variable-cost pricing does, is thought to encourage decision makers to set too low a price in order to boost sales. Also, absorption-cost pricing is preferred because of its convenience. Absorption-cost data is more readily provided by most companies’ financial and cost accounting systems. The accounts and numbers used to prepare financial reports can be used for absorption-cost pricing. Variable-cost pricing is preferred by some, even though the basic accounting data is less accessible, because it is more consistent with cost-volume-profit analysis. In addition, it can be used in pricing special orders since it shows the incremental cost of one more unit or one more order. Variable-cost pricing also avoids arbitrary allocation of common fixed costs to individual product lines. LO5 BT: AP Difficulty: Complex TOT: 50 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CD21
Repair-technician’s wages Fringe benefits Overhead
CURRENT DESIGNS
Total Cost $30,000 10,000 10,000 $50,000
Total Hours 2,000 2,000 2,000 2,000
Profit margin Rate charged per hour of labor Job: Composite kayak repair Labor charges: 3 hours @ $45 Materials charges Cost of parts and materials Materials loading charge (50% x $100) Total price of labor and material
Per Hour Charge $15 5 5 25 20 $45
$135 $100 50
150 $285
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis [(($30,000 ÷ 2,000) + ($10,000 ÷ 2,000) + ($10,000 ÷ 2,000) + $20 = $45); ((3 x $45) + $100 + (50% x $100) = $285)] [((Repair-tech. wages ÷ Tot. hrs.) + (Fringe bene. ÷ Tot. hrs.) + (OH ÷ Tot. hrs.) + Profit margin = Labor rate/hr.); ((Hrs. worked x Labor rate/hr.) + Cost of parts & mat. + (Mat. load. Chrg. % x Cost of parts & mat.) = Tot. price to cust.]
WC21
WATERWAYS CORPORATION
(a)
Labor wages Clerical and accountant wages Other overhead Total hourly cost Profit margin Rate charged per hour of labor
Total Cost / $240,000 60,000 53,950 $353,950
Total Hours = 5,750 5,750 5,750 5,750
Per Hour Charge $41.74 10.43 9.38 $61.55 14.00 $75.55
(b) Material Total Invoice Material Loading Cost for Loading Charges / Materials = Percentage Overhead costs: Supervisor’s salary Clerical and accountant wages Irrigation supplies manager Other overhead
$ 60,000 4,000 40,000 104,000 / 21,000 / $125,000 /
$640,000 640,000 640,000
16.25% 3.28% 19.53% 16.00% 35.53%
Profit margin Material loading percentage (c) WATERWAYS CORPORATION Time and Materials Price Quote for Parkway Labor charges (480 hours @ $75.55) Material charges Cost of materials Material loading charge (35.53% x $80,000) Total price of labor and materials for Parkway
$ 36,264 $80,000 $28,424
108,424 $144,688
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CC21
1.
GREETINGS, INC.
Several different views are likely to surface. Below are representative responses: Now you have a much better understanding of Mr. Burns’ situation and realize that finding a good solution rests on setting the transfer price so that: (1) Wall Décor generates the highest rate of return possible, and (2) the transfer price to each store must be reasonable according to each store’s external market conditions. Essentially, Mr. Burns must keep everyone focused on the success of the overall company. His biggest fear is that the business units will take a narrow focus and be concerned only about their individual situation and thus hurt the overall company profits. Mr. Burns’ greatest problem is to keep Wall Décor and the individual stores working together to maximize the profit of the overall company and remain innovative. If not, Wall Décor will seek to sell to competitors in an attempt to increase its return on investment. The result is that store competitors will be able to sell high-quality framed print items and increase competitive pressures on Greetings stores. If the price of framed prints gets too high, store managers will seek different suppliers. This could hurt Wall Décor because it could be left with excess capacity. Setting the transfer price so both parties to the transaction win is a challenging task. If leadership continues to use a straight cost-plus approach, it may lose store sales, and Wall Décor will not meet its required rate of return. If leadership sets the transfer price at market price, it may also lose store sales because of a lost competitive position. Thus, the transfer price must be flexible, and all must benefit and earn a fair return.
CC21 (Continued) 2.
(a) Profits under original transfer price Unframed Print
Steel-framed, no matting
Total profit per unit Selling price Wall Décor cost Total profit per unit
$21.00 17.36 $ 3.64
$50.00 33.48 $16.52
$70.00 48.10 $21.90
Profit to store per unit Selling price Wall Décor transfer Profit to store per unit
$21.000 20.832* $ 0.168
$50.000 40.176** $ 9.824
$70.000 57.720*** $12.280
Profit to Wall Décor per unit Total profit Profit to store Profit to Wall Décor per unit
$3.640 0.168 $3.472
$16.520 9.824 $ 6.696
$21.900 12.280 $ 9.620
$3.472 x 80,000 $277,760
$6.696 x 15,000 $100,440
$9.620 x 7,000 $ 67,340
$0.168
$9.824
$12.280
4.000 $4.168 x 80,000 $333,440
8.000 $17.824 x 15,000 $267,360
8.000 $20.280 x 7,000 $141,960
Profit to Wall Décor per unit Volume Wall Décor profits Total profit to stores Store item profits Store profits on related sales items Total Volume Store profits Total profits *$ 17.36 x 1.20 $20.832
Wood-framed, with matting
$ 445,540
742,760 $1,188,300
**$ 33.48 x 1.20 $ 40.176
***$48.10 x 1.20 $57.72
CC21 (Continued) (b)
Profits under proposed transfer price Print
Steel-framed, no matting
Wood-framed, with matting
Total profit per unit Selling price Wall Décor cost Per unit
$20.000 15.258 $ 4.742
$50.000 39.028 $10.972
$70.000 55.328 $14.672
Profit to store per unit Selling price Transfer price Per unit
$20.000 18.577* $ 1.423
$50.000 44.514** $ 5.486
$70.000 62.664*** $ 7.336
Profit to Wall Décor per unit Total profit Profit to store per unit Per unit
$4.742 1.423 $3.319
$10.972 5.486 $ 5.486
$14.672 7.336 $ 7.336
$3.319 x 100,000 $331,900
$5.486 x 15,000 $ 82,290
$7.336 x 7,000 $ 51,352
$1.423
$5.486
$7.336
4.000 $5.423 x 100,000 $542,300
8.000 $13.486 x 15,000 $202,290
8.000 $15.336 x 7,000 $107,352
Total profit to Wall Décor Profit per unit Volume Wall Décor profits Total profit to stores per unit Store item profit per unit Store profits on related sales items Total Volume Total profit on stores Total profit
Profit Cost Transfer price
* $ 4.742 x 0.70 $ 3.319 15.258 $18.577
** $10.972 x 0.50 $ 5.486 39.028 $44.514
*** $14.672 x 0.50 $ 7.336 55.328 $62.664
$ 465,542
851,942 $1,317,484
CC21 (Continued) (c) New transfer pricing profits Traditional transfer pricing profits Benefits of new transfer pricing policy
Greetings Company stores overall Wall Décor $851,942 $465,542 $1,317,484 742,760 445,540 1,188,300 $109,182 $ 20,002 $ 129,184
The analysis points to an improvement in overall company performance of $129,184. The benefits come from Greetings stores increasing the volume of business in print items and the associated profits from selling related items. In addition, each profit center is happy because profits improve for stores by $109,182 and for Wall Décor by $20,002. 3.
Profits are defined as the store selling price less the ABC cost. This is a necessary and useful clarifying definition. Stores do not share the profits from related products with Wall Décor. This could be potentially harmful. Since stores don’t have to share the profits on these related products with Wall Décor, the stores might decide to sell the prints as “loss leaders.” While this would reduce the stores’ profit on prints (as well as Wall Décor’s), it would increase the sale of related products, which the stores would benefit from. In this way, Wall Décor would actually be subsidizing the stores because it would be absorbing part of the loss on prints. The last term below, which restricts the stores’ ability to change prices, would appear to mitigate this problem; however, as noted below, that part of the agreement is not particularly desirable either. Wall Décor will not seek to sell unframed and framed print items through anyone other than Greetings. This is potentially harmful, but also, given the profit-sharing agreement, probably an unnecessary restriction. In most circumstances a company should not force a supplying division to sell to another division rather than to outside parties. However, given the nature of Wall Décor, and the potential competitive advantage it represents for the company as a whole, it might make sense to restrict its ability to sell to competitors. However, an economic incentive should be provided to ensure that Wall Décor doesn’t want to sell to outsiders. The opportunity to share in the profits of the store probably does act as an incentive to dissuade Wall Décor from selling to competitors.
CC21 (Continued) Wall Décor will work to decrease costs. This is an ineffective term, as well as unnecessary under the circumstances. Simply telling a division that it must work to decrease costs is not effective. However, in this case, since Wall Décor will share in the stores’ profits, it has an incentive to decrease costs. Therefore, it would appear that this term was unnecessary. Greetings stores will not seek suppliers of prints other than Wall Décor. It is not unusual for a company to require its divisions to purchase goods internally as long as the selling division provides goods of comparable quality and price to those available from outside suppliers. Stores will keep the selling price of framed prints as it was before the change in transfer price. On average, stores will decrease the selling price of unframed prints to $20, with an expected increase in volume to 100,000 prints. This reduces the flexibility of the individual stores to make decisions based on local market conditions. Therefore, it might be potentially harmful to the company.
CT21.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) Purchasing goods from within the company offers a number of advantages. (1) It cuts out the “middle man,” thus keeping all profits in the company. (2) It allows the company to have more control over the quality of its products. (3) It allows the company to have more control over the timing of production and shipments. (4) It keeps the company running closer to full capacity. (b) Frequently the buying division will be required to buy from within the company as long as the selling division can provide goods of comparable quality and price. A selling division should not normally be forced to sell to an internal division if it doesn’t want to. If top management really wants the division to sell internally, it should provide proper financial incentives to make it in the division’s best interest to sell internally. (c) If the Bearing Division is forced to sell internally to the Wheel Division, the Wheel Division’s contribution margin will increase, however, the Bearing Division and the company as a whole will both lose contribution margin. The per set amounts are shown below: Lost contribution margin by Bearing Division: Lost contribution margin on external sales ($36 - $22) Less: Contribution margin on internal sales ($22 - $22) Total lost contribution margin
$14 0 $14
Increased contribution margin by Wheel Division: Cost of buying externally $25 Less: Cost of buying internally 22 Total increase in contribution margin Due to cost savings 3 Overall lost contribution margin for the company $11
CT21.1 (Continued) (d) One possible solution is to continue on with the current situation. As pointed out in (c), the current situation is clearly better than forcing the Bearing division to sell its high quality bearings to a division that doesn’t need the quality. A second possible solution is for the Bearing division to begin to manufacture a lower quality bearing that would be suitable for the Wheel division. Given that the Bearing division is currently operating at full capacity, this would only make sense if the Bearing division would still maintain the same profit per set. It would either have to give up business to existing customers or expand capacity. LO4 BT: E Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CT21.2
MANAGERIAL ANALYSIS
(a) Dave must consider a number of issues in arriving at a price. First, he should gather information regarding what price people would be willing to pay for his type of service. This information could be gathered by a marketing agency. He must consider the strengths and weaknesses of his product. First, he is close to housing developments, thus more convenient for his potential customers. Two, his service is easier, especially when compared to the “self-spray” service. Also, his service is safer for the car than the “brush” type service offered at the gas station. Furthermore, he offers a higher level of service for those interested in really taking care of their cars. He has initially decided to offer only three levels of service. He may ultimately decide to offer additional different levels of service. Often businesses will promote their least expensive service and then try to “sell the customer up” to a higher level of service when they drive in. Also, humans are creatures of habit. It would probably be wise for Dave to offer an introductory-type price in the early months in order to get people used to coming to his car wash. He may also want to offer promotions, such as coupon books, and the option of purchasing multiple washes in advance. (b) Unit variable cost
Direct materials Direct labor Variable overhead Variable selling and administrative expenses Total unit variable cost
Basic Wash $0.30 0.00 0.10
Deluxe Wash $0.80 0.40 0.20
Premium Wash $1.10 2.40 0.20
0.10 $0.50
0.10 $1.50
0.10 $3.80
[(Basic: $0.30 + $0.00 + $0.10 + $0.10 = $0.50); (Deluxe: $0.80 + $0.40 + $0.20 + $0.10 = $1.50); (Prem.: $1.10 + $2.40 + $0.20 + $0.10 = $3.80)] [Basic, Deluxe & Prem.: DM + DL + VOH + Var. S&A = Tot. VC/unit]
Unit fixed cost
Fixed overhead Fixed selling and administrative expenses Total unit fixed cost [($117,000 ÷ 45,000) + ($130,500 ÷ 45,000) = $5.50] [(Fix. OH ÷ Bud. vol.) + (Fix. S&A ÷ Bud. vol.) = Unit FC]
Total Budgeted Cost Costs ÷ Volume = Per Unit $2.60 $117,000 45,000 130,500
45,000
2.90 $5.50
CT21.2 (Continued) Computation of unit selling price (45,000 units)
Unit variable cost Unit fixed cost Total unit cost Desired ROI per unit* Unit selling price
Basic $0.50 5.50 6.00 1.75 $7.75
Deluxe $1.50 5.50 7.00 1.75 $8.75
Premium $ 3.80 5.50 9.30 1.75 $11.05
*($393,750 x .20) ÷ 45,000 [(Basic: $0.50 + $5.50 + (($393,750 x 20%) ÷ 45,000) = $7.75); (Deluxe: $1.50 + $5.50 + $1.75 = $8.75); (Prem.: $3.80 + $5.50 + $1.75 = $11.05)] [(Basic, Deluxe & Prem.: Unit VC + Unit FC + Desired ROI/unit = Unit sell. price)]
(c) Revenues Basic 3,000 Deluxe 31,000 Premium 9,000 Total revenues Variable expenses Basic 3,000 Deluxe 31,000 Premium 9,000 Total variable expenses Contribution margin Fixed expenses ($117,000 + $130,500) Net income
x $ 7.75 = x $ 8.75 = x $11.05 =
$ 23,250 271,250 99,450 $393,950
x $ 0.50 = x $ 1.50 = x $ 3.80 =
$
1,500 46,500 34,200 82,200 311,750 247,500 $ 64,250
ROI = $64,250 ÷ $393,750 = 16.32% [((3,000 x $7.75) + (31,000 x $8.75) + (9,000 x $11.05)) – ((3,000 x $0.50) + (31,000 x $1.50) + (9,000 x $3.80)) – ($117,000 + $130,500) = $64,250); ($64,250 ÷ $393,750 = 16.32%)] [((Basic: Units sold x USP) + (Deluxe: Units sold x USP) + (Prem.: Units sold x USP)) – ((Basic: Units sold x UVC) + (Deluxe: Units sold x UVC) + (Prem.: Units sold x UVC)) – (Fix. OH + Fix. S&A) = Net inc.); (Net inc. ÷ Investment = Act. ROI)]
(d) Clearly, the basic wash does not use much of the more complex capabilities of the equipment. The equipment is expensive and the overhead related to depreciation would be a big component of the fixed cost. Therefore, the accuracy of the product cost would be significantly improved with an activity-based costing approach. It would appear that the traditional approach of overhead allocation resulted in product costs (and consequently prices) that were too high for the basic wash and too low for the premium. LO2 BT: S Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Decision Modeling IMA: Strategy, Planning & Performance: Decision Analysis
CT21.3
REAL-WORLD FOCUS
(a) Pricing in the pharmaceutical industry is complicated by a number of factors: 1.
When a new drug is developed, it is patented. This protects the company from competition for a period of time and allows the company to charge a higher price.
2.
The nature of the product is such that demand is relatively inelastic. If a person needs a drug that will dramatically improve his health, he will pay as much as he can afford to acquire it.
3.
In light of 2., pharmaceutical companies must be careful not to charge so much that they are perceived as gouging their customers. If they do, the public will call for regulation and oversight of the industry by the government.
4.
Many prescription drugs are paid for by health insurance policies. This complicates matters since it makes the user of the drug insensitive to price, but makes the ultimate payer (the insurance company) very sensitive to price. That is why insurance companies and health maintenance organizations are constantly questioning whether certain treatments and prescriptions are medically necessary.
5.
The pharmaceutical industry is heavily regulated worldwide. However, the regulations differ significantly from country to country.
(b) Normally, if a difference exists in the price of a product across markets, that difference will be eliminated as people take advantage of the difference by shipping the goods. Eventually, the difference should be equal to the cost of transporting and selling from one market to another. However, in the pharmaceutical industry, barriers exist which allow significant differences in price to persist. For example, it is often illegal to transport prescription drugs from one country to another. Some drugs are illegal in one country and not another. Prices may also differ due to relaxed oversight in one country versus another that reduces the production costs. The extreme case of price differentiation exists when the same drug is used for humans and pets. Customers might be willing to pay $500 per dose for a critical drug for themselves, but only $50 for a pet.
CT21.3 (Continued) (c) In arriving at a price for a drug, the company would need to take into account market factors as well as its costs. Ultimately, the price will be arrived at through a combination of cost-plus pricing, market considerations, and consideration of the other factors discussed in (a). When considering its costs, it will also have to consider the cost of unsuccessful research. That is, eventually, it must cover the cost of both its successful and unsuccessful research projects. In determining what the market will be willing to pay, the company must consider what other treatments are available and what those cost, and how the effectiveness of this product compares to those. LO2 BT: S Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation IMA: Strategy, Planning & Performance: Decision Analysis
CT21.4
COMMUNICATION ACTIVITY
To:
Jane Fleming
From:
Student
Re:
Proposal to start business with links to businesses of relatives
The student’s memo should address the following points: 1.
In a traditional transfer pricing problem, the transactions are between divisions within the same company. In the case of related divisions, the challenge is to find a transfer price that is fair to all parties and results in equitable evaluation of division performance. In this situation, evaluation of each party’s performance isn’t a concern, but arriving at a price that is fair to all parties is.
2.
It is similar to a transfer pricing case in that, for a variety of reasons, it would be desirable to deal with the related (in this case literally) parties. For example, quality is more assured. Some costs, such as variable marketing expenditures, are eliminated. It also avoids the awkward question, that may arise from customers, of why you chose to buy from a supplier other than your related division.
3.
Jane should gather information regarding what she would pay to other suppliers as well as documenting other issues (perceived quality, reliability, and convenience) in addition to price. She should also develop a business plan which identifies who her competitors will be, how large the potential market is, and whether there is a need for another company such as hers in her community.
LO4 BT: S Difficulty: Moderate TOT: 25 min. AACSB: Reflective Thinking AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication IMA: Strategy, Planning & Performance: Decision Analysis
CT21.5
ETHICS CASE
(a) The stakeholders in this case are: The two airlines The flying public in the affected cities Federal transportation regulators (b) Most small airlines can keep their costs down (and therefore have a lower break-even point) because they fly used aircraft, they pay their employees (in particular their pilots) less, and they have lower overhead costs because of smaller operations. These differences result in lower fixed costs and a higher contribution margin, both of which contribute to a lower break-even point. (c) Jumbo services many different locations. If it loses money for a while on one location, it can make it up on other locations. Econo doesn’t have this luxury. This same phenomenon has been observed with large discount stores that move into a community and initially offer low prices until the local competition goes out of business. (d) If it feels that Jumbo’s actions are anti-competitive, it can take Jumbo to court. The problem is that anti-competitive behavior is difficult to prove, and legal remedies are slow. It is likely that Econo will be out of business by the time the court acts. Ironically, one possibility would have been to not offer a price that was so much below Jumbo’s. This way, it might not have caused Jumbo to act so aggressively. It also might have tried to target destinations that were not so critical to a large airline. That is, use its comparative advantage as a small airline to service regional communities. (e) Whether this is ethical behavior is difficult to say. On the one hand, it can be argued that Jumbo is simply acting to protect its interests by maintaining its market share. And it can be argued that the flying public benefited because of the lower fares. Unfortunately, the fares are only lower as long as the competitor stays in business. Cases such as this have been very difficult for regulators and the courts to resolve. LO2 BT: E Difficulty: Moderate TOT: 35 min. AACSB: Ethics, Reflective Thinking AICPA AC: Measurement Analysis and Interpretation AICPA PC: Ethical Conduct, Communication IMA: Strategy, Planning & Performance: Decision Analysis, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT21.6
CONSIDERING YOUR COSTS AND BENEFITS
(a) A low-priced product is a product with a low initial purchase price. The authors contrast this to a low-cost product by explaining that the initial purchase price is just one of a potentially long list of costs that a company can incur when using a piece of equipment. (b) Clarus Technologies often charges significantly higher prices for its equipment when compared to competitive products. In order for the company to compete, one option would be for the company to lower its price. It has chosen instead to keep its prices high, and then to educate its customers on how its products are actually less expensive when all costs of use are considered. In effect, rather than take the market price as given, its sets its own price, and then uses incremental analysis to justify this price. (c) The five categories of costs used by the authors to evaluate the Tornado and examples of each type of cost are: a. Usual costs: Personnel and fuel savings. b. Hidden costs: Insurance rates, regulatory costs, hazardous waste disposal fees. c. Liability costs: Reduction of potential contingencies, fines and penalties. d. Less tangible costs: Value of improved image. e. Environmental focused costs: Reduced soil contamination and reduced air pollution. (d) Full-cost accounting, as developed by the EPA, looks at all costs incurred using a product over its life-cycle. It focuses on including environmental costs and benefits, as well as other “social costs of doing business” that other approaches ignore. By considering these costs when they develop their products, and then referring to these costs when they justify the price of their products, they make consideration of these issues a more common aspect of business decisions. LO2 BT: S Difficulty: Moderate TOT: 45 min. AACSB: Technology AICPA AC: Measurement Analysis and Interpretation AICPA PC: Communication IMA: Strategy, Planning & Performance: Decision Analysis
CHAPTER 22 Budgetary Planning
Learning Objectives 1.
State the essentials of effective budgeting and the components of the master budget.
2.
Prepare budgets for sales, production, and direct materials.
3.
Prepare budgets for direct labor, manufacturing overhead, and selling and administrative expenses, and a budgeted income statement.
4.
Prepare a cash budget and a budgeted balance sheet.
5.
Apply budgeting principles to nonmanufacturing companies.
ANSWERS TO QUESTIONS 1.
(a) A budget is a formal written statement of management’s plans for a specified future time period, expressed in financial terms. (b) A budget aids management in planning because it represents the primary method of communicating agreed-upon objectives throughout the organization. Once adopted, a budget becomes an important basis for evaluating performance.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
2.
The primary benefits of budgeting are: (1) It requires all levels of management to plan ahead and to formalize goals on a recurring basis. (2) It provides definite objectives for evaluating performance at each level of responsibility. (3) It creates an early warning system for potential problems, so that management can make changes before things get out of hand. (4) It facilitates the coordination of activities within the business by correlating the goals of each segment with overall company objectives. (5) It results in greater management awareness of the entity’s overall operations and the impact on operations of external factors such as economic trends. (6) It motivates personnel throughout the organization to meet planned objectives.
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
3.
The essentials of effective budgeting are: (1) a sound organizational structure, (2) research and analysis, and (3) acceptance by all levels of management.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
4.
(a) False. Accounting information makes major contributions to the budgeting process. Accounting provides the starting point of budgeting by providing historical data on revenues, costs, and expenses. An accountant becomes the translator of the budget and communicates the budget to all areas of responsibility. Accountants also prepare periodic budget reports that compare actual results with planned objectives and provide a basis for evaluating performance. (b) The budget itself, and the administration of the budget, are the responsibility of management.
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
5.
The budget period should be long enough to provide an attainable goal under normal business conditions. The budget period should minimize the impact of seasonal and cyclical business fluctuations, but it should not be so long that reliable estimates are impossible. The most common budget period is one year.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
6.
Not true. Long-range planning usually encompasses a period of at least five years. It involves the selection of strategies to achieve long-term goals and the development of policies and plans to implement the strategies. In addition, long-range planning reports contain considerably less detail than budget reports.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
Questions Chapter 22 (Continued) 7.
Participative budgeting involves the use of a “bottom-to-top” approach, which requires input from lower-level management during the budgeting process so as to involve employees from various levels and areas within the company. The potential benefits of this approach are lower-level managers have more detailed knowledge of the specifics of their job, and thus should be able to provide better budgetary estimates. In addition, by involving lower-level managers in the process, it is more likely that they will perceive the budget as being fair and reasonable. One disadvantage of participative budgeting is that it takes more time, and thus costs more. Another disadvantage of participative budgeting is that it may enable managers to game the system through such practices as budgetary slack.
LO1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
8.
Budgetary slack is the amount by which a manager intentionally underestimates budgeted revenues or overestimates budgeted expenses in order to make it easier to achieve budgetary goals. Managers may have an incentive to create budgetary slack in order to increase the likelihood of receiving their bonuses, or decrease the likelihood of losing their jobs.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
9.
A master budget is a set of interrelated budgets that constitutes a plan of action for a specified time period. The master budget is developed within the framework of a sales forecast.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
10.
The sales budget is the starting point in preparing the master budget. An inaccurate sales budget may adversely affect net income. An overly optimistic sales budget may result in excessive inventories and a very conservative sales budget may lead to inventory shortages.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
11.
The statement is false. The production budget only shows the units that must be produced to meet anticipated sales and ending inventory requirements.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
12.
The required units of production are 155,000 (160,000 + 15,000 = 175,000 – 20,000 = 155,000).
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting (160,000 + 15,000 – 20,000 = 155,000) (Bud. sales + Desired end. inv. – Beg. inv. = Req. units of production)
13.
The desired ending direct materials units are 21,000 (64,000 + 9,000 = 73,000 – 52,000 = 21,000).
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting (64,000 + 9,000 – 52,000 = 21,000) (Req. purch. + Beg. inv. – Req. for production = Desired end. inv.)
14.
Total budgeted direct labor cost is $960,000 (80,000 x .75 x $16 = $960,000).
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting (80,000 x .75 x $16 = $960,000) (Fin. units to be produced x DLH/unit x DL rate/hr. = Tot. bud. DL cost)
Questions Chapter 22 (Continued) 15.
(a)
Manufacturing overhead rate based on direct labor cost is 48% [$198,000 + $162,000 = $360,000; $360,000 ÷ (150,000 x 1/3 x $15/hr.) = 48%].
[($198,000 + $162,000) ÷ (150,000 x 1/3 x $15/hr.) = 48%] [(Tot. VOH costs + Tot. FOH casts) ÷ (Units to be produced x DLH/unit x DL rate/hr.) = Predet. OH rate]
(b) Manufacturing overhead rate per direct labor hour is $7.20 ($360,000 ÷ 50,000). LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
16.
The first quarter budgeted selling and administrative expenses are $74,000 [(12% x $200,000) + $50,000]. The second quarter total is $78,800 [(12% x $240,000) + $50,000].
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [1st Qtr.: (12% x $200,000) + $50,000 = $74,000] [1st Qtr.:(Var. S&A % of sales x Bud. sales) + Fix. S&A = Tot. bud. S&A exp.]
17.
The budgeted cost per unit of product is $46 ($10 + $20 + $16). Gross profit per unit is $19 ($65 – $46). Total budgeted gross profit is $475,000 (25,000 x $19).
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [($10 + $20 + ($20 x 80%) = $46); ($65 - $46 = $19); (25,000 x $19 = $475,000)] [(DM/unit + DL/unit + (DL/unit x Mfg. OH as % of DL/unit) = Bud. cost /unit); (USP – Unit cost = GP/ unit); (Units sold x GP/unit = Tot. bud. GP)]
18.
The supporting schedules are the budgets for sales, direct materials, direct labor, and manufacturing overhead.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
19.
The three sections of a cash budget are: (1) cash receipts, (2) cash disbursements, and (3) financing. The cash budget also shows the beginning and ending cash balances.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
20.
Cash collections are: January—$600,000 x 40% = $240,000. February— $600,000 x 50% = $300,000. March—$600,000 x 10% = $60,000.
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
21.
The equation is: Budgeted cost of goods sold plus desired ending merchandise inventory minus beginning merchandise inventory equals required merchandise purchases.
LO5 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
22.
In a service company, expected revenues can be obtained from expected output or expected input. The former is based on anticipated billings of clients for services provided. The latter is based on expected billable time of the professional staff.
LO5 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning& Performance: Budgeting and Forecasting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 22.1 Sales Budget
Production Budget
Direct Materials Budget
Direct Labor Budget
Manufacturing Overhead Budget
Operating Budgets
Budgeted Balance Sheet
Financial Budgets
Selling and Administrative Expense Budget
Budgeted Income Statement
Capital Expenditure Budget
Cash Budget
LO1 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement IMA: Strategy, Planning & Performance: Budgeting and Forecasting
BRIEF EXERCISE 22.2 PAIGE COMPANY Sales Budget For the Year Ending December 31, 2025 Quarter Expected unit sales Unit selling price Total sales
1
2
3
4
Year
10,000
14,000
15,000
18,000
57,000
x $70 x $70 $700,000 $980,000
x $70 $1,050,000
x $70 $1,260,000
x $70 $3,990,000
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
BRIEF EXERCISE 22.3 PAIGE COMPANY Production Budget For the Six Months Ending June 30, 2025 Quarter Expected unit sales Add: Desired ending finished goods Total required units Less: Beginning finished goods inventory Required production units a
14,000 x 0.25
b
10,000 x 0.25
c
1
2
Six Months
10,000 3,500a 13,500 2,500b 11,000
14,000 3,750c 17,750 3,500 14,250
25,250
15,000 x 0.25
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [(Qtr. 1: 10,000 + (14,000 x 0.25) – (10,000 x 0.25) = 11,000); (Qtr. 2: 14,000 + (15,000 x 0.25) – 3,500 = 14,250)] [(Qtr. 1: Exp. unit sales + (Qtr. 2 exp. unit sales x Desired % on hand) – (Qtr. 1 exp. unit sales x Desired % on hand) = Req. production units); (Qtr. 2: Exp. unit sales + (Qtr. 3 exp. unit sales x Desired % on hand) – Qtr. 1 desired end. inv. = Req. production units)]
BRIEF EXERCISE 22.4 PERINE COMPANY Direct Materials Budget For the Month Ending January 31, 2025 Units to be produced ....................................................... Direct materials pounds per unit..................................... Total pounds required for production ............................ Add: Desired ending inventory pounds (25% x 5,000 x 2) Total materials required................................................... Less: Beginning materials inventory ............................. Direct materials units to be purchased........................... Cost per pound................................................................. Total cost of direct materials purchases ........................
4,000 X 2 8,000 2,500 10,500 2,000 8,500 X $6 $51,000
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [(4,000 x 2) + (5,000 x 2 x 25%) – (4,000 x 2 x 25%) = 8,500] [(Jan. units to be produced x DM/unit) + (Feb. units to be produced x DM/unit x Desired end. inv. %) - (Jan. units to be produced x DM/unit x Desired end. inv. %) = DM purch.]
BRIEF EXERCISE 22.5 GUNDY COMPANY Direct Labor Budget For the Six Months Ending June 30, 2025 Quarter Units to be produced Direct labor time (hours) per unit Total required direct labor hours Direct labor cost per hour Total direct labor cost
1 5,000 x 1.6 8,000 x $15 $120,000
2 7,000 x 1.6 11,200 x $15 $168,000
Six Months
$288,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
BRIEF EXERCISE 22.6 ROCHE INC. Manufacturing Overhead Budget For the Year Ending December 31, 2025 Quarter 1 Variable costs Fixed costs Total manufacturing overhead
$20,000 40,000 $60,000
2
3
$25,000 $30,000 40,000 40,000 $65,000 $70,000
4
Year
$35,000 40,000 $75,000
$110,000 160,000 $270,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
BRIEF EXERCISE 22.7 ELBERT COMPANY Selling and Administrative Expense Budget For the Year Ending December 31, 2025 1 $24,000 40,000
Variable expenses Fixed expenses Total selling and administrative expenses $64,000
Quarter 2 3 4 Year $28,000 $32,000 $36,000 $120,000 40,000 40,000 40,000 160,000 $68,000 $72,000 $76,000 $280,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
BRIEF EXERCISE 22.8 NORTH COMPANY Budgeted Income Statement For the Year Ending December 31, 2025 Sales.................................................................................. Cost of goods sold (50,000 x $25) ................................... Gross profit....................................................................... Selling and administrative expenses .............................. Income from operations................................................... Interest expense ............................................................... Income before income taxes ........................................... Income tax expense ......................................................... Net income ........................................................................
$2,250,000 1,250,000 1,000,000 300,000 700,000 10,000 690,000 200,000 $ 490,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
BRIEF EXERCISE 22.9
Credit Sales January, $220,000 February, $260,000 March, $300,000
Collections from Customers January February March $165,000 $ 55,000 195,000 $ 65,000 225,000 $165,000 $250,000 $290,000
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [(Jan.: $220,000 x 75% = $165,000); (Feb.: ($220,000 x 25%) + ($260,000 x 75%) = $250,000); (Mar.: ($260,000 x 25%) + ($300,000 x 75%) = $290,000)] [(Jan.: Jan. credit sales x % collect. in Jan. = Cash collect.); (Feb.: (Jan. credit sales x % collect. in Feb.) + (Feb. credit sales x % collect. in Feb.) = Cash collect.); (Mar.: (Feb. credit sales x % collect. in Mar.) + (Mar. credit sales x % collect. in Mar.) = Cash collect.)]
BRIEF EXERCISE 22.10 Budgeted cost of goods sold ($400,000 x 65%) ........................ Add: Desired ending inventory ($480,000 x 65% x 20%) ........ Total inventory required ............................................................. Less: Beginning inventory ($400,000 x 65% x 20%) ................ Required merchandise purchases for April ..............................
$260,000 62,400 322,400 52,000 $270,400
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [($400,000 x 65%) + ($480,000 x 65% x 20%) – ($400,000 x 65% x 20%) = $270,400] [(Apr. sales x CGS %) + (May sales x CGS % x Desired end. inv. %) – (Apr. sales x CGS % x Desired end. inv. %) = Req. merch. purch. for Apr.]
SOLUTIONS FOR DO IT! EXERCISES DO IT! 22.1 1. 2. 3.
Operating budgets Master budget Participative budgeting
4. 5. 6.
Financial budgets Sales forecast Long-range plans
LO1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
DO IT! 22.2 PARGO COMPANY Sales Budget For the Year Ending December 31, 2025 Quarter 1 Expected unit sales Unit selling price Total sales a 1,000,000 x 20%
2
3
4
Year
200,000a 250,000b 250,000b 300,000c 1,000,000 x $40 x $40 x $40 x $45 — $8,000,000 $10,000,000 $10,000,000 $13,500,000 $41,500,000 b 1,000,000 x 25% c 1,000,000 x 30%
PARGO COMPANY Production Budget For the Year Ending December 31, 2025 Quarter Expected unit sales Add: Desired ending finished goods units Total required units Less: Beginning finished goods units Required production units
1 200,000
2 250,000
3 250,000
4 300,000
62,500 262,500
62,500 312,500
75,000 325,000
60,000* 360,000
50,000** 212,500
62,500 250,000
62,500 262,500
75,000 285,000
Year
1,010,000
*Estimated first-quarter 2026 sales volume 200,000 + (200,000 x 20%) = 240,000: 240,000 x 25%. **25% of estimated first-quarter 2025 sales units (200,000 x 25%). [(Qtr. 1: (1,000,000 x 20%) + (250,000 x 25%) – (200,000 x 25%) = 212,500); (Qtr. 4: (1,000,000 x 30%) + (200,000 x 120% x 25%) – (300,000 x 25%) = 285,000)] [(Qtr. 1: Exp. unit sales + (Qtr. 2 exp. unit sales x desired end. inv. %) – (Qtr. 1 exp. unit sales x desired end. inv. %) = Req. production units); (Qtr. 4: Exp. unit sales + ((Qtr. 1 exp. unit sales x Exp. % incr.) x Desired end. inv. %) – (Qtr. 4 exp. unit sales x Desired end. inv. %) = Req. production units)]
DO IT! 22.2 (Continued) PARGO COMPANY Direct Materials Budget For the Year Ending December 31, 2025 1 212,500 x 2
Quarter 2 3 250,000 262,500 x 2 x 2
4 285,000 x 2
Year
Units to be produced Direct materials per unit Total pounds needed for 500,000 525,000 570,000 production 425,000 Add: Desired ending direct materials 52,500 57,000 *45,000 (pounds) 50,000 552,500 582,000 615,000 Total materials required 475,000 Less: Beginning direct 50,000 52,500 57,000 materials (pounds) **42,500 Direct materials 502,500 529,500 558,000 purchases 432,500 x $12 x $12 x $12 Cost per pound x $12 Total cost of direct materials purchases $5,190,000 $6,030,000 $6,354,000 $6,696,000 $24,270,000 *Estimated first-quarter 2026 production requirements 450,000 x 10% = 45,000 **10% of estimated first-quarter pounds needed for production. [(Qtr. 1: (212,500 x 2) + (250,000 x 2 x 10%) – (212,500 x 2 x 10%) = 432,500); (Qtr. 4: (285,000 x 2) + (450,000 x 10%) – (570,000 x 10%) = 558,000)] [(Qtr. 1: (Qtr. 1 fin. units to be produced x No. DM units/fin. unit) + (Qtr. 2 fin. units to be produced x No. DM units/fin. unit x End. inv. %) - (Qtr. 1 fin. units to be produced x No. DM units/fin. unit x End. inv. %) = DM purch.); (Qtr. 4: (Qtr. 4 fin. units to be produced x No. DM units/fin. unit) + (2026 Qtr. 1 DM needed for production x End. inv. %) - (Qtr. 4 fin. units to be produced x No. DM units/fin. unit x End. inv. %) = DM purch.)] LO2 BT: AP Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
DO IT! 22.3 (a)
Total unit cost: Cost Element Direct materials ............................. Direct labor .................................... Manufacturing overhead............... Total unit cost.......................
(b)
Quantity 2 pounds 0.3 hours 0.3 hours
Unit Cost $12.00 $15.00 $20.00
Total $24.00 4.50 6.00 $34.50
PARGO COMPANY Budgeted Income Statement For the Year Ending December 31, 2025 Sales (1,000,000) units from sales budget, DO IT! 22.2 .. Cost of goods sold (1,000,000 x $34.50/unit) .................. Gross profit ....................................................................... Selling and administrative expenses............................... Net income.........................................................................
$41,500,000 34,500,000 7,000,000 6,000,000 $ 1,000,000
[$41,500,000 – (1,000,000 x ($24 + $4.50 + $6)) - $6,000,000 = $1,000,000] [Sales from sales bud. in DO IT! 22.2 – (Units sold x (DM/unit + DL/unit + Mfg. OH/unit)) – S&A exp. = Net inc.] LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
DO IT! 22.4 BATISTA COMPANY Cash Budget April Beginning cash balance.............................................................. Add: Cash receipts for April ...................................................... Total available cash..................................................................... Less: Cash disbursements in April ........................................... Excess of available cash over cash disbursements ................. Add: Financing ($25,000 – $15,000) .......................................... Ending cash balance...................................................................
$ 25,000 245,000 270,000 255,000 15,000 10,000 $ 25,000
To maintain the desired minimum cash balance of $25,000, Batista Company must borrow $10,000. LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
DO IT! 22.5 Zeller COMPANY Merchandise Purchases Budget For the Six Months Ending June 30, 2025 Quarter Budgeted cost of goods sold (Sales 50%) Add: Desired ending merchandise inventory (10% of next quarter’s cost of goods sold) Total Less: Beginning merchandise inventory (10% this quarter’s cost of goods sold) Required merchandise purchases
1
2
$20,000
$24,000
2,400 22,400
2,900 26,900
2,000 $20,400
2,400 $24,500
Six Months
$44,900
LO5 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [(Qtr. 1: ($40,000 x 50%) + ($48,000 x 50% x 10%) – ($40,000 x 50% x 10%) = $20,400); (Qtr. 2: ($48,000 x 50%) + ($58,000 x 50% x 10%) – ($48,000 x 50% x 10%) = $24,500)] [(Qtr. 1: (Qtr. 1 sales x CGS %) + (Qtr. 2 sales x CGS % x End. inv. %) – (Qtr. 1 sales x CGS % x End. inv. %) = Req. merch. purch.); (Qtr. 2 sales x CGS %) + (Qtr. 3 sales x CGS % x End. inv. %) – (Qtr. 2 sales x CGS % x End. inv. %) = Req. merch. purch.)]
SOLUTIONS TO EXERCISES EXERCISE 22.1 MEMO To
Jim Dixon
From: Student Re:
Budgeting
I am glad Trusler Company is considering preparing a formal budget. There are many benefits derived from budgeting, as I will discuss later in this memo. A budget is a formal written statement of management’s plans for a specified future time period, expressed in financial terms. The master budget generally consists of operating budgets such as the sales budget, production budget, direct materials budget, direct labor budget, manufacturing overhead budget, selling and administrative expense budget, and budgeted income statement; and financial budgets such as the capital expenditure budget, cash budget, and budgeted balance sheet. The primary benefits of budgeting are: 1. It requires all levels of management to plan ahead and to formalize goals on a recurring basis. 2. It provides definite objectives for evaluating performance at each level of responsibility. 3. It creates an early warning system for potential problems, so that management can make changes before things get out of hand. 4. It facilitates the coordination of activities within the business by correlating the goals of each segment with overall company objectives. 5. It results in greater management awareness of the entity’s overall operations and the impact on operations of external factors such as economic trends. 6. It motivates personnel throughout the organization to meet planned objectives. In order to maximize these benefits, it is essential that budgeting take place within a sound organizational structure, so authority and responsibility for all phases of operations are clearly defined. Also, the budget should be based on research and analysis that results in realistic goals. Finally, the effectiveness of a budget program is directly related to its acceptance by all levels of management. If you want further explanation of any of these topics, please contact me. LO1 BT: C Difficulty: Easy TOT: 15 min. AACSB: Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EDINGTON ELECTRONICS INC. Sales Budget For the Six Months Ending June 30, 2025
Product
Units
XQ-103 XQ-104 Totals
20,000 12,000 32,000
Quarter 1 Selling Total Price Sales $15 25
$300,000 300,000 $600,000
Units 22,000 15,000 37,000
Quarter 2 Selling Total Price Sales $15 25
$330,000 375,000 $705,000
Units 42,000 27,000 69,000
Six Mo Selling Price $15 25
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretati Strategy, Planning & Performance: Budgeting and Forecasting
22-15
22-16 THOME AND CREDE, CPAs Service Revenue Budget For the Year Ending December 31, 2025
Dept. Auditing Tax Consulting Totals
Dept. Auditing Tax Consulting Totals
Billable Hours 2,300 3,000 1,500
Billable Hours 8,300a 9,700b 6,000c
Quarter 1 Billable Total Rate Rev. $ 80 $184,000 90 270,000 110 165,000 $619,000
Year Billable Rate $ 80 90 110
Billable Hours 1,600 2,200 1,500
Quarter 2 Billable Rate $ 80 90 110
Total Rev. 128,000 198,000 165,000 $491,000
Billable Hours 2,000 2,000 1,500
Quarter 3 Billable Total Rate Rev. $ 80 $160,000 90 180,000 110 165,000 $505,000
Billabl Hours 2,40 2,50 1,50
Total Rev. $ 664,000 873,000 660,000 $2,197,000
a2,300 + 1,600 + 2,000 + 2,400 b3,000 + 2,200 + 2,000 + 2,500 c1,500 4
LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation Planning & Performance: Budgeting and Forecasting
EXERCISE 22.4 TURNEY COMPANY Production Budget For the Year Ending December 31, 2025 Product HD-240 Quarter Expected unit sales Add: Desired ending finished goods units(1) Total required units Less: Beginning finished goods units Required production units (1) (2)
1
2
3
4
5,000
7,000
8,000
10,000
2,800 7,800
3,200 10,200
4,000 12,000
2,500 (2) 12,500
2,000 5,800
2,800 7,400
3,200 8,800
4,000 8,500
Year
30,500
40% of next quarter’s sales. 40% x (5,000 x 125%).
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [(Qtr. 1: 5,000 + (7,000 x 40%) – (5,000 x 40%) = 5,800); (Qtr. 4: 10,000 + (5,000 x 125% x 40%) – (10,000 x 40%) = 8,500)] [(Qtr. 1: Qtr. 1 exp. unit sales + (Qtr. 2 exp. unit sales x end. inv. %) – (Qtr. 1 exp. unit sales x end. inv. %) = Req. production units); (Qtr. 4: Qtr. 4 exp. unit sales + (2026 Qtr. 1 exp. unit sales x end. inv. %) – (Qtr. 4 exp. unit sales x end. inv. %) = Req. production units)]
EXERCISE 22.5 DEWITT INDUSTRIES Direct Materials Purchases Budget For the Quarter Ending March 31, 2025
Units to be produced Direct materials per unit Total pounds needed for production Add: Desired ending direct materials (pounds)* Total materials required Less: Beginning direct materials (pounds) Direct materials purchases Cost per pound Total cost of direct materials purchases
January 10,000 x 2 20,000
February 8,000 x 2 16,000
March 5,000 x 2 10,000
3,200 23,200
2,000 18,000
1,600 11,600
4,000 19,200 x $3
3,200 14,800 x $3
2,000 9,600 x $3
$57,600
$44,400
$28,800
*20% of next month’s production needs. LO2 BT: AP Difficulty: Easy TOT: 9 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [March: (5,000 x 2) + (4,000 x 2 x 20%) – (5,000 x 2 x 20%) = 9,600] [March: (March units to be produced x DM/unit) + (Apr. units to be produced x DM/unit x End. inv. %) – (March units to be produced x DM/unit x End. inv. %) = DM purch.]
EXERCISE 22.6 (a)
HARDIN COMPANY Production Budget For the Six Months Ending June 30, 2025 Quarter Expected unit sales Add: Desired ending finished goods units Total required units Less: Beginning finished goods units Required production units (1) 25% x 6,000. (2)25% x 7,000. (3)25% x 5,000.
Six Months
1 5,000
2 6,000
1,500(1) 6,500 1,250(3) 5,250
1,750 (2) 7,750 1,500 6,250 11,500
EXERCISE 22.6 (Continued) (b)
HARDIN COMPANY Direct Materials Budget For the Six Months Ending June 30, 2025 Quarter Units to be produced Direct materials per unit Total pounds needed for production Add: Desired ending direct materials (pounds) Total materials required Less: Beginning direct materials (pounds) Direct materials purchases Cost per pound Total cost of direct materials Purchases (1) 40% x 18,750. (2) 7,200 x (3 x 40%). (3) 40% x 15,750.
1 5,250 x 3 15,750
2 6,250 x 3 18,750
7,500 (1) 23,250
8,640(2) 27,390
Six Months
6,300 (3) 7,500 16,950 19,890 x $4 x $4 $67,800
$79,560
$147,360
[(Qtr. 1: (5,250 x 3) + (6,250 x 3 x 40%) – (5,250 x 3 x 40%) = 16,950); (Qtr. 2: (6,250 x 3) + (7,200 x 3 x 40%) – (6,250 x 3 x 40%) = 19,890)] [(Qtr. 1: (Qtr. 1 units to be produced x DM/unit) + (Qtr. 2 units to be produced x DM/unit x End. inv. %) - (Qtr. 1 units to be produced x DM/unit) x End. inv. % = DM purch.): (Qtr. 2: (Qtr. 2 units to be produced x DM/unit) + (Qtr. 3 units to be produced x DM/unit x End. inv. %) - (Qtr. 2 units to be produced x DM/unit x End. inv. %) = DM purch.)] LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EXERCISE 22.7 Finished goods: Sales ........................................................................ Plus: ending inventory ........................................... Total required .............................................................. Less: beginning inventory .................................... Production required ....................................................
2,675 2,200 4,875 2,230 2,645
Direct materials per unit ............................................. Units of direct material required for production ....... Plus: ending inventory ................................................ Total required .............................................................. Less: beginning inventory .................................... Purchases of direct material required ....................... Cost per unit ................................................................ Total cost of materials ................................................
x
2 5,290 2,500(a) 7,790 2,645(b) 5,145 x $4 $20,580
The May raw material purchases would be $20,580. (a)
2,390 + 2,310 – 2,200 = 2,500; 2,500 x 2 x 50% = 2,500 (b) 2,675 + 2,200 – 2,230 = 2,645; 2,645 x 2 x 50% = 2,645 LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [((2,675 + 2,200 – 2,230) x 2) + ((2,390 + 2,310 – 2,200) x 2 x 50%) – ((2,675 + 2,200 – 2,230) x 2 x 50%) = 5,145] [((Sales + End. inv. – Beg. inv.) x DM/unit) + ((June sales + June end. inv. – May end. inv.) x DM/unit x DM end. inv. %) – ((May sales + May end. inv. – Apr. end. inv.) x DM/unit x DM end. inv. %) = Req. DM purch.]
EXERCISE 22.8 (a)
FUQUA COMPANY Production Budget For the Two Months Ending February 28, 2025
Expected unit sales............................................ Add: desired ending finished goods inventory.................................................. Total required units............................................ Less: beginning finished goods inventory...... Required production units ................................
January 10,000
February 12,000
2,400* 12,400 2,000** 10,400
2,600*** 14,600 2,400 12,200
*20% x next month’s expected sales or 12,000 x 20% **20% x 10,000 ***20% x 13,000
EXERCISE 22.8 (Continued) (b)
FUQUA COMPANY Direct Materials Budget For the Month Ending January 31, 2025 January 10,400 x 4 41,600 19,520* 61,120 16,640** 44,480 x $2 $88,960
Units to be produced........................................................... Direct material pounds per unit.......................................... Total pounds needed for production ................................. Add: desired pounds in ending materials inventory ....... Total materials required...................................................... Less: beginning direct materials (pounds)........................ Direct materials purchases................................................. Cost per pound.................................................................... Total cost of direct materials purchases ........................... *(12,200 x 4) x 40%
**(10,400 x 4) x 40%
[(10,400 x 4) + (12,200 x 4 x 40%) – (10,400 x 4 x 40%) = 44,480] [(Units to be produced x DM/unit) + (Feb. units to be produced x DM/unit x DM end. inv. %) – (Jan. units to be produced x DM/unit x DM end. inv. %) = DM purch.] LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EXERCISE 22.9 RODRIGUEZ, INC. Direct Labor Budget For the Year Ending December 31, 2025 Quarter Units to be produced Direct labor time (hours) per unit Total required direct labor hours Direct labor cost per hour Total direct labor cost
1 20,000 x
1.5
2 25,000 x
1.5
3 35,000 x
1.5
4 30,000 x
Year
1.5
30,000
37,500
52,500
45,000
x $16 $480,000
x $16 $600,000
x $18 $945,000
x $18 $810,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
$2,835,000
EXERCISE 22.10 LOWELL COMPANY Production Budget For the Quarter Ending March 31, 2025 Jan 12,000 19,200(1) 31,200 17,600 13,600
Sales in units Plus: desired ending inventory Total needs Less: beginning inventory Required production units
Feb 14,000 17,400(2) 31,400 19,200 12,200
Mar 13,000 15,400(3) 28,400 17,400 11,000
Total 39,000 15,400 54,400 17,600 36,800
(1)
(14,000 x 100%) + (13,000 x 40%) (13,000 x 100%) + (11,000 x 40%) (3) (11,000 x 100%) + (11,000 x 40%) (2)
[(Jan.: 12,000 + ((14,000 x 100%) + (13,000 x 40%)) – 17,600 = 13,600); (Feb: 14,000 + ((13,000 x 100%) + (11,000 x 40%)) – 19,200 = 12,200); (Mar.: 13,000 + ((11,000 x 100%) + (11,000 x 40%)) – 17,400 = 11,000)] [(Jan.: Jan. unit sales + ((Feb. unit sales x End. inv. %) + (Mar. unit sales x End. inv. %)) – Jan. beg. inv. = Req. production units); (Feb.: Feb. unit sales + ((Mar. unit sales x End. inv. %) + (Apr. unit sales x End. inv. %)) – Feb. beg. inv. = Req. production units); (Mar.: Mar. unit sales + ((Apr. unit sales x End. inv. %) + (May unit sales x End. inv. %)) – Mar. beg. inv. = Req. production units)]
LOWELL COMPANY Direct Labor Budget For the Quarter Ending March 31, 2025 Production in units Direct labor hours per unit Total hours needed Direct labor cost per hour Total direct labor
Jan 13,600 x 2.00 27,200 x $8.00 $217,600
Feb Mar 12,200 11,000 x 2.00 x 1.50 24,400 16,500 x $8.00 x $8.00 $195,200 $132,000
Total
$544,800
LO2, 3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EXERCISE 22.11 ATLANTA COMPANY Manufacturing Overhead Budget For the Year Ending December 31, 2025 Quarter Variable costs Indirect materials ($0.80/hour) Indirect labor ($1.20/hour) Maintenance ($0.50/hour) Total variable Fixed costs Supervisory salaries Depreciation Maintenance Total fixed Total manufacturing overhead Direct labor hours Manufacturing overhead rate per direct labor hour ($468,000 ÷ 78,000)
1
2
3
4
Year
$12,000 18,000 7,500 37,500
$ 14,400 21,600 9,000 45,000
$ 16,800 25,200 10,500 52,500
$ 19,200 28,800 12,000 60,000
$ 62,400 93,600 39,000 195,000
41,250 15,000 12,000 68,250 $105,750
41,250 15,000 12,000 68,250 $113,250
41,250 15,000 12,000 68,250 $120,750
41,250 15,000 12,000 68,250 $128,250
165,000 60,000 48,000 273,000 $468,000
15,000*
18,000
21,000
24,000
78,000 $6.00
*(10,000 x 1.5) LO3 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [Qtr. 1: (10,000 x 1.5 = 15,000); ((15,000 x $0.80) + (15,000 x $1.20) + (15,000 x $0.50) = $37,500); ($41,250 + $15,000 + $12,000 = $68,250)] [Qtr. 1: (Units produced x DLH/unit = DLHs); ((DLHs x Ind. Mat/hr.) + (DLHs x Ind. Labor/hr.) + (DLHs x Maint./hr.) = Tot. VC); (Super. sal. + Depr. + Maint. = Tot. FC)]
EXERCISE 22.12 KIRKLAND COMPANY Selling and Administrative Expense Budget For the Six Months Ending June 30, 2025 Quarter
Six Months
Budgeted sales in units
1 20,000
2 22,000
Variable expenses (1) Sales commissions Delivery expense Advertising Total variable
$20,000* 8,000 12,000 40,000
$22,000 8,800 13,200 44,000
$ 42,000 16,800 25,200 84,000
12,000 8,000 4,200 1,500 800 500 27,000
12,000 8,000 4,200 1,500 800 500 27,000
24,000 16,000 8,400 3,000 1,600 1,000 54,000
$67,000
$71,000
$138,000
Fixed expenses Sales salaries Office salaries Depreciation Insurance Utilities Repairs expense Total fixed Total selling and administrative expenses
(1) Variable costs per dollar of sales are: Sales commissions (5%), Delivery expense (2%), and Advertising (3%). *(20,000 x $20 x 5%) LO3 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [Qtr. 1: ((20,000 x $20 x 5%) + (20,000 x $20 x 2%) + (20,000 x $20 x 3%) = $40,000); ($12,000 + $8,000 + $4,200 + $1,500 + $800 + $500 = $27,000)] [Qtr. 1: ((Units sold x USP x Sales comm. %) + (Units sold x USP x Del. exp. %) + (Units sold x USP x Advert. %) = Tot. VC); (Sales sal. + Off. sal. + Depr. + Ins. + Util. + Repairs exp. = Tot. FC)]
EXERCISE 22.13 (a) FULTZ COMPANY Computation of Cost of Goods Sold For the Year Ending December 31, 2025 Cost of one unit of finished goods: Direct materials (1 x $5) ............................................................... Direct labor (3 x $15) .................................................................... Manufacturing overhead (3 x $5)................................................. Total......................................................................................
$ 5 45 15 $65
Cost of goods sold = 30,000 units x $65 = $1,950,000. (b) FULTZ COMPANY Budgeted Income Statement For the Year Ending December 31, 2025 Sales (30,000 x $85) ............................................................ Cost of goods sold (see part (a)) ....................................... Gross profit ......................................................................... Selling and administrative expenses ................................ Income from operations ..................................................... Interest expense ................................................................. Income before income taxes.............................................. Income tax expense ($400,000 x 20%) .............................. Net income ..........................................................................
$2,550,000 1,950,000 600,000 170,000 430,000 30,000 400,000 80,000 $ 320,000
LO3 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [(30,000 x $85) – (30,000 x ($5 + $45 + $15)) - $170,000 - $30,000 – ($400,000 x 20%) = $320,000] [(Units sold x USP) – (Units sold x (DM/unit + DL/unit + Mfg. OH/unit)) – Sell. & admin. exp. – Int. exp. – (Inc. before inc. tax. x tax rate) = Net inc.]
EXERCISE 22.14 DANNER COMPANY Cash Budget For the Two Months Ending February 28, 2025
Beginning cash balance ....................................... Add: Receipts Collections from customers .................... Sale of marketable securities .................. Total receipts ............................................ Total available cash .............................................. Less: Disbursements Direct materials ........................................ Direct labor ............................................... Manufacturing overhead*......................... Selling and administrative expenses ...... Total disbursements ................................ Excess (deficiency) of available cash over cash disbursements .................................................. Financing Add: Borrowings.................................................. Less: Repayments ................................................ Ending cash balance ............................................ *Jan: $21,000 - $1,500 depreciation
January $ 45,000
February $ 27,500
85,000 12,000 97,000 142,000
150,000 0 150,000 177,500
50,000 30,000 19,500 15,000 114,500
75,000 45,000 23,500 20,000 163,500
27,500
14,000
0 0 $ 27,500
6,000 0 $ 20,000
Feb: $25,000 - $1,500 depreciation
LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [Feb.: ($27,500 + $150,000 = $177,500) – ($75,000 + $45,000 + ($25,000 - $1,500) + $20,000 = $163,500); ($177,500 - $163,500 = $14,000); ($14,000 + $6,000 = $20,000)] [Feb.: (Beg. cash bal. + Collect. from cust. = Tot. avail. cash); (DM + DL + (Mfg. OH – Depr.) + Sell. & admin. exp. = Tot. disb.); (Tot. avail. cash – Tot. disb. = Excess of avail. cash over cash disb.); (Excess of avail. cash over cash disb. + Borrow. = End. cash bal.)]
EXERCISE 22.15 DEITZ CORPORATION Cash Budget For the Quarter Ended March 31, 2025 Beginning cash balance.......................................................... Add: Receipts Collections from customers ....................................... Sale of equipment ....................................................... Total receipts ........................................................ Total available cash................................................................. Less: Disbursements Direct materials ........................................................... Direct labor .................................................................. Manufacturing overhead............................................. Selling and administrative expenses ......................... Purchase of securities ................................................ Total disbursements ............................................. Excess of available cash over disbursements ...................... Financing Add: Borrowings ($25,000 - $11,000).................................... Less: Repayments .................................................................. Ending cash balance ...............................................................
$ 30,000 185,000 3,000 188,000 218,000 43,000 70,000 35,000 45,000 14,000 207,000 11,000 14,000 –0– $ 25,000
LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [($30,000 + ($185,000 + $3,000) = $218,000); ($43,000 + $70,000 + $35,000 + $45,000 + $14,000 = $207,000); ($218,000 - $207,000 = $11,000); ($11,000 + $14,000 = $25,000)] [(Beg. cash bal. + (Collect. from cust. + Sale of equip.) = Tot. avail. cash); (DM + DL + Mfg. OH + Sell. & admin. exp. + Purch. of sec. = Tot. disb.); (Tot. avail. cash – Tot. disb. = Excess of avail. cash over disb.); (Excess of avail. cash over disb. + Borrow. = End. cash bal.)]
EXERCISE 22.16 (a)
TRENSHAW COMPANY Cash Budget For the Month Ended July 31, 2025 Beginning cash balance ............................ Add: Cash collections............................... Total cash available ................................... Less: Cash disbursements Merchandise purchases ......... Operating expenses................ Equipment purchase............... Total cash disbursements ......................... Excess of available cash over disbursements ................................ Add: Borrowings ($25,000 - $18,000) ....... Ending cash balance .................................
$45,000 90,000 $135,000 $56,200 40,800 20,000 117,000 18,000 7,000 $ 25,000
Cash disbursements of $117,000 plus the desired ending cash balance of $25,000 exceeds the $135,000 total cash available by $7,000. Therefore, Trenshaw Company will have to borrow $7,000. [($45,000 + $90,000 = $135,000); ($56,200 + $40,800 + $20,000 = $117,000); ($135,000 - $117,000 = $18,000); ($18,000 + $7,000 = $25,000)] [(Beg. cash bal. + Cash collect. = Tot. cash avail.); (Merch purch. + Oper. exp. + Equip. purch. = Tot. cash disb.); (Tot. cash avail. – Tot. cash disb. = Excess of avail. cash over disb.); (Excess of avail. cash over disb. + Borrow. = End. cash bal.)]
(b) An advantage of cash budgeting is that it allows cash shortfalls to be predicted. If the timing of future cash shortfalls is known, arrangements to borrow funds can be made well in advance, which often means that interest rates may be more favorable than if the funds are needed on short notice. LO4 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EXERCISE 22.17 (a)
NIETO COMPANY Schedule of Expected Collections from Customers - March March cash sales (30% x $250,000) .................................... Collection of March credit sales [(70% x $250,000) x 10%] ................................................. Collection of February credit sales [(70% x $220,000) x 50%] ................................................. Collection of January credit sales [(70% x $200,000) x 36%] ................................................. Total collections ......................................................
March $ 75,000 17,500 77,000 50,400 $219,900
[($250,000 x 30%) + ($250,000 x 70% x 10%) + ($220,000 x 70% x 50%) + ($200,000 x 70% x 36%) = $219,900] [(Mar. sales x Cash %) + (Mar. sales x Credit sales % x Collect. % in mo. of sale) + (Feb. sales x Credit sales % x Collect. % in mo. after sale) + (Jan. sales x Credit sales % x Collect. % in 2 nd mo. after sale) = Tot. collect.]
(b)
NIETO COMPANY Schedule of Expected Payments for Direct Materials - March March cash purchases (50% x $38,000) ............................. Payment of March credit purchases [(50% x $38,000) x 40%] ................................................... Payment of February credit purchases [(50% x $36,000) x 60%] ................................................... Total payments ........................................................
LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
March $19,000 7,600 10,800 $37,400
EXERCISE 22.18 (a)
(1) GREEN LANDSCAPING INC. Schedule of Expected Collections From Clients For the Quarter Ending March 31, 2025 January November ($80,000) ... December ($90,000).... January ($100,000) ..... February ($120,000).... March ($140,000) ........ Total collections ...
February
$ 8,000 27,000 60,000
$
$95,000
$111,000
March
Quarter $
9,000 30,000 72,000
8,000 36,000 100,000 108,000 84,000 $336,000
$ 10,000 36,000 84,000 $130,000
(2) GREEN LANDSCAPING INC. Schedule of Expected Payments for Landscaping Supplies For the Quarter Ending March 31, 2025 January December ($14,000).... January ($12,000) ....... February ($15,000)...... March ($18,000) .......... Total payments .....
$ 5,600 7,200
$12,800
February $ 4,800 9,000 $13,800
March
Quarter
$ 6,000 10,800 $16,800
$ 5,600 12,000 15,000 10,800 $43,400
(b) (1) Accounts receivable at March 31, 2025: ($120,000 x 10%) + ($140,000 x 40%) = $68,000 [($120,000 x 10%) + ($140,000 x 40%) = $68,000] [(Feb serv. rev. x Uncollect. %) + (Mar. serv. rev. x Uncollect. %) = Mar. end. accts. rec. bal.]
(2) Accounts payable at March 31, 2025: ($18,000 x 40%) = $7,200 LO4, 5 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EXERCISE 22.19 PLETCHER DENTAL CLINIC Cash Budget For the Two Quarters Ending June 30, 2025
Beginning cash balance..................................... Add: Receipts Collections from patients.................... Sale of equipment................................ Investment interest.............................. Total receipts ................................. Total cash available............................................ Less: Disbursements Professional salaries........................... Overhead costs.................................... Selling and administrative costs ........ Equipment purchase ........................... Payment of income taxes.................... Total disbursements...................... Excess (deficiency) of cash available over cash disbursements............................... Financing Add: Borrowings ($25,000 - $12,000) .............. Less: Repayments ............................................. Ending cash balance .......................................... a
$50,000 – $2,000 b $70,000 – $2,000
c
1st Quarter $ 30,000
2nd Quarter $ 25,000
235,000 12,000 0 247,000 277,000
380,000 0 7,000 387,000 412,000
140,000 77,000 48,000a 0 0 265,000
140,000 100,000 68,000b 50,000 4,000 362,000
12,000
50,000
13,000 0 $ 25,000
0 13,200c $ 36,800
$13,000 principal + $200 interest
LO4, 5 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting [Qtr. 2: ($25,000 + ($380,000 + $7,000) = $412,000); ($140,000 + $100,000 + ($70,000 - $2,000) + $50,000 + $4,000 = $362,000); ($412,000 - $362,000 = $50,000); ($50,000 – ($13,000 + $200) = $36,800)] [Qtr. 2: (Beg. cash bal. + (Collect. from patients + Invest. int.) = Tot. cash avail.); (Prof. sal. + OH costs + (Sell. & admin. costs – Depr.) + Equip. purch. + Pmt. of inc. tax. = Tot. disb.); (Tot. cash avail. – Tot. disb. = Excess of cash avail. over cash disb.); (Excess of cash avail. over cash disb. – (Loan repmt. + Int. pmt.) = End. cash bal.)]
EXERCISE 22.20 (a)
GRAND STORES Merchandise Purchases Budget For the Month Ending June 30, 2025 Budgeted cost of goods sold ($500,000 x 75%)................... Add: Desired ending merchandise inventory ($600,000 x 75% x 30%) ..................................................... Total ........................................................................................ Less: Beginning merchandise inventory ($375,000 x 30%) ......................................................... Required merchandise purchases........................................
$375,000 135,000 510,000 112,500 $397,500
[($500,000 x 75%) + ($600,000 x 75% x 30%) – ($375,000 x 30%) = $397,500] [(June sales x CGS %) + (Jul. sales x CGS % x End. merch. Inv. %) – (June CGS x End. merch. Inv. %) = Req. merch purch.]
(b)
GRAND STORES Budgeted Income Statement (Partial) For the Month Ending June 30, 2025 Sales ...................................................................................... Cost of goods sold (75% x $500,000) .................................. Gross profit ...........................................................................
$500,000 375,000 $125,000
LO5 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
EXERCISE 22.21 EMERIC AND ELLIE’S PAINTING SERVICE Direct Labor Budget For the Month Ending June 30, 2025 Small 10
Home to be painted Direct labor time (hours) per house x 40 Total required direct labor hours 400 Direct labor cost per hour x $18 Total direct labor cost $7,200
Medium 5
Large 2
x 70
x 120
350 x $18 $6,300
240 x $18 $4,320
Total
$17,820
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
SOLUTIONS TO PROBLEMS PROBLEM 22.1
COOK FARM SUPPLY COMPANY Sales Budget For the Six Months Ending June 30, 2025 Quarter Expected unit sales .................... Unit selling price ......................... Total sales ...................................
1 40,000 x $60 $2,400,000
2 56,000 x $60 $3,360,000
Six Months 96,000 x $60 $5,760,000
COOK FARM SUPPLY COMPANY Production Budget For the Six Months Ending June 30, 2025 Quarter Expected unit sales ..................................... Add: Desired ending finished goods units .................................................. Total required units ..................................... Less: Beginning finished goods units ...... Required production units ..........................
1 40,000
2 56,000
15,000 55,000 8,000 47,000
18,000 74,000 15,000 59,000
Six Months
106,000
PROBLEM 22.1 (Continued) COOK FARM SUPPLY COMPANY Direct Materials Budget—Gumm For the Six Months Ending June 30, 2025 Quarter Units to be produced.................................. Direct materials per unit............................. Total pounds needed for production ........ Add: Desired ending direct materials (pounds) ........................................... Total materials required ............................. Less: Beginning direct materials (pounds) ......................................... Direct materials purchases........................ Cost per pound ........................................... Total cost of direct materials purchases ................................................
1
2
47,000 x4 188,000
59,000 x 4 236,000
10,000 198,000
13,000 249,000
9,000 189,000 x $3.80
10,000 239,000 x $3.80
$718,200
$908,200
Six Months
$1,626,400
[Qtr. 1: ((47,000 x 4) + 10,000 – 9,000) x $3.80 = $718,200] [Qtr. 1: ((Units to be produced x DM/unit) + DM end. inv. – DM beg. inv.) x Cost/DM lb. = Tot. cost of DM purch.]
COOK FARM SUPPLY COMPANY Direct Labor Budget For the Six Months Ending June 30, 2025 Quarter Units to be produced .......................... Direct labor time (hours) per unit....... Total required direct labor hours ....... Direct labor cost per hour .................. Total direct labor cost.........................
1 47,000 x 1/4 11,750 x $16 $188,000
2 59,000 x 1/4 14,750 x $16 $236,000
Six Months
$424,000
PROBLEM 22.1 (Continued) COOK FARM SUPPLY COMPANY Selling and Administrative Expense Budget For the Six Months Ending June 30, 2025 Quarter Budgeted sales in units...................
1 40,000
2 56,000
Six Months 96,000
Variable (15% x sales dollars)......... Fixed ................................................. Total ..................................................
$360,000 175,000 $535,000
$504,000 175,000 $679,000
$ 864,000 350,000 $1,214,000
COOK FARM SUPPLY COMPANY Budgeted Income Statement For the Six Months Ending June 30, 2025 Sales............................................................................................. Cost of goods sold (96,000 x $33.20)*........................................ Gross profit.................................................................................. Selling and administrative expenses ......................................... Income from operations.............................................................. Interest expense .......................................................................... Income before income tax .......................................................... Income tax expense (20% x $1,258,800) .................................... Net income...................................................................................
$5,760,000 3,187,200 2,572,800 1,214,000 1,358,800 100,000 1,258,800 251,760 $1,007,040
*Cost Per Bag Cost Element Direct materials Gumm......................................... Tarr ............................................. Direct labor .................................... Manufacturing overhead (125% of direct labor cost) ........ Total.......................................
Quantity
Unit Cost
Total
4 pounds 6 pounds 1/4 hour
$ 3.80 1.50 16.00
$15.20 9.00 4.00 5.00 $33.20
[(4 x $3.80) + (6 x $1.50) + (1/4hr. x $16) + (1/4 hr. x $16 x 125%) = $33.20] [(Gumm lbs./unit x Cost/lb.) + (Tarr lbs./unit x Cost/lb.) + (Hrs./unit x Hrly. rate) + (Hrs./unit x Hrly. rate x MOH rate) = Tot. cost/unit] LO2, 3 BT: AP Difficulty: Easy TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
PROBLEM 22.2
(a)
DELEON INC. Sales Budget For the Year Ending December 31, 2025
Expected unit sales......... Unit selling price ............. Total sales .......................
(b)
JB 50 400,000 x $20 $8,000,000
JB 60 200,000 x $25 $5,000,000
Total
$13,000,000
DELEON INC. Production Budget For the Year Ending December 31, 2025
Expected unit sales ........................... Add: Desired ending finished goods units............................. Total required units ........................... Less: Beginning finished goods units ........................................ Required production units ................
JB 50 400,000
JB 60 200,000
30,000 430,000
15,000 215,000
25,000 405,000
10,000 205,000
PROBLEM 22.2 (Continued) (c)
DELEON INC. Direct Materials Budget For the Year Ending December 31, 2025 Units to be produced................... Direct materials per unit.............. Total pounds needed for production ................................ Add: Desired ending direct materials (pounds) ........... Total materials required .............. Less: Beginning direct materials (pounds) ........... Direct materials purchases......... Cost per pound ............................ Total cost of direct materials purchases ...............................
JB 50 405,000 x 2
JB 60 205,000 x 3
810,000
615,000
30,000 840,000
10,000 625,000
40,000 800,000 x $3
15,000 610,000 x $4
$2,400,000
$2,440,000
Total
$4,840,000
[(JB 50: ((405,000 x 2) + 30,000 – 40,000) x $3 = $2,400,000); (JB 60: ((205,000 x 3) + 10,000 – 15,000) x $4 = $2,440,000)] [(JB 50: ((Units to be produced x DM/unit) + DM end. inv. – DM beg. inv.) x Cost/lb. = Tot. cost of DM purch.); (JB 60: ((Units to be produced x DM/unit) + DM end. inv. – DM beg. inv.) x Cost/lb. = Tot. cost of DM purch.)]
(d)
DELEON INC. Direct Labor Budget For the Year Ending December 31, 2025
Units to be produced................... Direct labor time (hours) per unit ............................................ Total required direct labor hours ......................................... Direct labor cost per hour........... Total direct labor cost .................
JB 50 405,000
JB 60 205,000
x 0.4
x 0.6
162,000 x $12 $1,944,000
123,000 x $12 $1,476,000
Total
$3,420,000
PROBLEM 22.2 (Continued) (e)
DELEON INC. Budgeted Income Statement For the Year Ending December 31, 2025
Sales ................................... Cost of goods sold ............ Gross profit ........................ Operating expenses Selling expenses............ Administrative expenses .................... Total operating expenses ............ Income from operations.... Interest expense ................ Income before income taxes ............................... Income tax expense (20% x $1,850,000) ......... Net income ......................... (1) (2)
JB 50 JB 60 Total $8,000,000 $5,000,000 $13,000,000 (1) (2) 5,200,000 4,000,000 9,200,000 2,800,000 1,000,000 3,800,000 560,000
360,000
920,000
540,000
340,000
880,000
1,100,000 $1,700,000
700,000 $ 300,000
1,800,000 2,000,000 150,000 1,850,000 370,000 $ 1,480,000
400,000 x $13. 200,000 x $20.
[(JB 50: $8,000,000 – (400,000 x $13) – ($560,000 + $540,000) = $1,700,000); (JB 60: $5,000,000 – (200,000 x $20) – ($360,000 + $340,000) = $300,000)] [(JB 50: Sales – (Units sold x Unit cost) – (Sell. exp. + Admin. exp.) = Inc. from oper.); (JB 60: Sales – (Units sold x Unit cost) – (Sell. exp. + Admin. exp.) = Inc. from oper.)] LO2, 3 BT: AP Difficulty: Easy TOT: 50 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
PROBLEM 22.3
(a)
HILL INDUSTRIES Sales Budget For the Year Ending December 31, 2025
Expected unit sales .................................... Unit selling price......................................... Total sales ...................................................
Plan A Plan B (1) 725,000 980,000(2) x $8.40 x $7.50(3) $6,090,000 $7,350,000
(1)
$6,800,000 ÷ $8 = 850,000; 850,000 – 125,000 = 725,000. 850,000 + 130,000 = 980,000. (3) $8.00 – $0.50 (2)
[(Plan A: (($6,800,000 ÷ $8) - 125,000 x $8.40 = $6,090,000); (Plan B: ((850,000 + 130,000) x ($8.00 - $.50)) = $7,350,000)] [(Plan A: ((Tot. sales ÷ USP) - Expected decr. in unit sales) x 2025 USP = Tot. sales); (Plan B: ((2024 sales units + exp. incr. in unit sales) x (2024 USP – USP decr.)) = $7,350,000)]
(b)
HILL INDUSTRIES Production Budget For the Year Ending December 31, 2025
Expected unit sales............................................. Add: Desired ending finished goods units ..... Total required units............................................. Less: Beginning finished goods units.............. Required production units .................................
Plan A
Plan B
725,000 35,000 760,000 40,000 720,000
980,000 60,000 1,040,000 40,000 1,000,000
(c) Variable costs = $4.00 per unit ($1.50 + $1.30 + $1.20) for both plans.
Total variable costs Total fixed costs Total costs (a) Total units (b) Unit cost (a) ÷ (b)
Plan A
Plan B
$2,880,000 (720,000 x $4.00) 1,895,000 $4,775,000
$4,000,000 (1,000,000 x $4.00) 1,895,000 $5,895,000
720,000
1,000,000
$6.63
$5.90
PROBLEM 22.3 (Continued) The difference in unit cost is due to fixed costs being spread over a larger number of units (280,000 more units) in Plan B. [(Plan A: ((720,000 x ($1.50 + $1.30 + $1.20)) + $1,895,000 = $4,775,000); ($4,775,000 ÷ 720,000 = $6.63)); (Plan B: ((1,000,000 x ($1.50 + $1. 30 + $1.20)) + $1,895,000 = $5,895,000); ($5,895,000 ÷ 1,000,000 = $5.90)] [(Plan A: ((Units to be produced x (DL/unit + DM/unit + VOH/unit)) + FC = Tot. costs); (Tot. costs ÷ Units to be produced = Unit cost)); (Plan B: ((Units to be produced x (DL/unit + DM/unit + VOH/unit)) + FC = Tot. costs); (Tot. costs ÷ Units to be produced = Unit cost)]
(d)
Gross Profit Plan A Sales Cost of goods sold Gross profit
$6,090,000 4,806,750 (725,000 x $6.63) $1,283,250
Plan B $7,350,000 5,782,000 (980,000 x $5.90) $1,568,000
Plan B should be accepted because it produces a higher gross profit than Plan A. LO2 BT: E Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
PROBLEM 22.4
(a) (1)
COLTER COMPANY Schedule of Expected Collections from Customers For the Two Months Ending February 28, 2025 November ($250,000) .............................. December ($320,000) .............................. January ($360,000) .................................. February ($400,000) ................................ Total collections.............................
January $ 50,000 96,000 180,000 .
$326,000
February $ 0 64,000 108,000 200,000 $372,000
[(Jan.: ($250,000 x 20%) + ($320,000 x 30%) + ($360,000 x 50%) = $326,000); (Feb.: ($320,000 x 20%) + ($360,000 x 30%) + ($400,000 x 50%) = $372,000)] [(Jan.: (Nov. sales x 2nd mo. after sale %) + (Dec. sales x 1st mo. after sale %) + (Jan. sales x Mo. of sale %) = Tot. collect.); (Feb.: Dec. sales x 2nd mo. after sale %) + (Jan. sales x 1st mo. after sale %) + (Feb. sales x Mo. of sale %) = Tot. collect.)]
(2)
COLTER COMPANY Schedule of Expected Payments for Direct Materials For the Two Months Ending February 28, 2025 December ($100,000) .............................. January ($120,000) .................................. February ($125,000) ................................ Total payments...............................
January $ 40,000 72,000 .
$112,000
February $ 0 48,000 75,000 $123,000
[(Jan.: ($100,000 x 40%) + ($120,000 x 60%) = $112,000); (Feb.: ($120,000 x 40%) + ($125,000 x 60%) = $123,000)] [(Jan.: (Dec. DM purch. x Mo. after purch. %) + (Jan. DM purch. x Mo. of purch. %) = Tot. pmts.); (Feb.: Jan. DM purch. x Mo. after purch. %) + (Feb. DM purch. x Mo. of purch. %) = Tot. pmts.)]
PROBLEM 22.4 (Continued) (b)
COLTER COMPANY Cash Budget For the Two Months Ending February 28, 2025
Beginning cash balance................................. Add: Receipts Collections from customers ........... [See Schedule 1] Notes receivable .............................. Sale of securities ............................. Total receipts ........................... Total available cash........................................ Less: Disbursements Direct materials .............................. [See Schedule 2] Direct labor ..................................... Manufacturing overhead................ Selling and administrative expenses* ................................... Cash dividend................................. Total disbursements .............. Excess (deficiency) of available cash over cash disbursements........................... Financing Add: Borrowings ($50,000 - $41,000)........... Less: Repayments ......................................... Ending cash balance ......................................
January $ 60,000
February $ 51,000
326,000
372,000
15,000 341,000 401,000
6,000 378,000 429,000
112,000
123,000
90,000 70,000
100,000 75,000
78,000 350,000
84,000 6,000 388,000
51,000
41,000
0 0 $ 51,000
9,000 0 $ 50,000
*Selling and administrative expenses less $1,000 depreciation. LO4 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting
PROBLEM 22.5
(a)
SUPPAR COMPANY San Miguel Store Merchandise Purchases Budget For the Months of May and June, 2025
Budgeted cost of goods sold........................... Add: Desired ending merchandise inventory Total................................................................... Less: Beginning merchandise inventory ........ Required merchandise purchases...................
May June $600,000 $630,000(1) 63,000(2) 66,150(3) 663,000 696,150 (4) 60,000 63,000 $603,000 $633,150
(1)
$800,000 x 105% = $840,000; $840,000 x 75% = $630,000. $630,000 x 10% = $63,000. (3) $840,000 x 105% = $882,000; $882,000 x 75% = $661,500; $661,500 x 10% = $66,150. (4) $600,000 x 10% = $60,000. (2)
[(May: ($800,000 x 75%) + ($800,000 x 105% x 75% x 10%) – ($800,000 x 75% x 10%) = $603,000); (Jun.: ($800,000 x 105% x 75%) + ($800,000 x 105% x 105% x 75% x 10%) – ($800,000 x 105% x 75% x 10%) = $633,150)] [(May: (May sales x CGS %) + (May sales x monthly % incr. x CGS % x End. inv. %) – (May sales x CGS % x End. inv. %) = Req. merch. purch.); (Jun.: (May sales x Monthly % incr. x CGS %) + (May sales x Monthly % incr. x Monthly % incr. x CGS % x End. inv. %) – (May sales x Monthly % incr. x CGS % x End. inv. %) = Req. merch. purch.)]
PROBLEM 22.5 (Continued) (b)
SUPPAR COMPANY San Miguel Store Budgeted Income Statement For the Months of May and June, 2025
Sales .................................................................. Cost of goods sold Beginning inventory.................................. Purchases .................................................. Cost of goods available for sale............... Less: Ending inventory............................ Cost of goods sold ............................ Gross profit ....................................................... Operating expenses Sales salaries............................................. Advertising* ............................................... Delivery** ................................................... Sales commissions*** ............................... Rent ............................................................ Depreciation .............................................. Utilities ....................................................... Insurance ................................................... Total .................................................... Income from operations ................................... Interest expense................................................ Income before income taxes ............................ Income tax expense (20%) ............................... Net income ........................................................
May $800,000
June $840,000
60,000 603,000 663,000 63,000 600,000 200,000
63,000 633,150 696,150 66,150 630,000 210,000
35,000 48,000 16,000 40,000 5,000 800 600 500 145,900 54,100 2,000 52,100 10,420 $ 41,680
35,000 50,400 16,800 42,000 5,000 800 600 500 151,100 58,900 2,000 56,900 11,380 $ 45,520
*6% of sales. **2% of sales. ***5% of sales. LO5 BT: AP Difficulty: Easy TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting
PROBLEM 22.6 KRAUSE INDUSTRIES Budgeted Cost of Goods Sold For the Year Ending December 31, 2025 Finished goods inventory, 1/1/25 ............................ Cost of goods manufactured Direct materials used ....................................... Direct labor........................................................ Manufacturing overhead applied..................... Cost of goods available for sale.............................. Finished goods inventory 12/31/25 (2,500 $18) ... Cost of goods sold...................................................
$ 24,000 $62,500 50,900 48,600
162,000 186,000 45,000 $141,000
[(($62,500 + $50,900 + $48,600) ÷ 9,000 units = $18/unit); ($24,000 + ($62,500 + $50,900 + $48,600) – (2,500 x $18) = $141,000)] [((DM used + DL + MOH app.) ÷ No. units produced = Cost/unit); (Beg. fin. gds. inv. + (DM used + DL + MOH app.) – (Units in end. fin. gds. inv. x Cost/unit) = CGS)]
KRAUSE INDUSTRIES Budgeted Income Statement For the Year Ending December 31, 2025 Sales revenue (8,000 x $32) ..................................... Cost of goods sold................................................... Gross profit............................................................... Selling and administrative expenses ...................... Income from operations........................................... Interest expense ....................................................... Income before income taxes ................................... Income tax expense (20% x $36,500) ...................... Net income................................................................
$256,000 141,000 115,000 75,000 40,000 3,500 36,500 7,300 $ 29,200
KRAUSE INDUSTRIES Budgeted Retained Earnings Statement For the Year Ending December 31, 2025 Retained earnings, 1/1/25 ........................................ Add: Net income....................................................... Deduct: Dividends.................................................... Retained earnings 12/31/25 .....................................
$25,000 29,200 54,200 8,000 $46,200
PROBLEM 22.6 (Continued) KRAUSE INDUSTRIES Budgeted Balance Sheet December 31, 2025 Assets Current assets Cash...................................................................... $ 13,180 Accounts receivable ($76,800 x 40%) ................. 30,720 Finished goods inventory (2,500 x $18) ..................................................... 45,000 Total current assets .....................................
$88,900
Property, plant, and equipment Equipment ($40,000 + $9,000) ............................. Less: Accumulated depreciation ($10,000 + $4,000) ..................................... Total assets ..................................................
35,000 $123,900
49,000 14,000
Liabilities and Stockholders’ Equity Liabilities Notes payable ($25,000 – $8,000)........................ Accounts payable ($8,500* + $7,200).................. Income taxes payable .......................................... Total liabilities .............................................. Stockholders’ equity Common stock ..................................................... Retained earnings................................................ Total stockholders’ equity ........................... Total liabilities and stockholders’ equity ........................................................ *$17,000 x 50%
$17,000 15,700 5,000 $ 37,700
40,000 46,200 86,200 $123,900
PROBLEM 22.6 (Continued) Proof of budgeted cash balance December 31, 2025 (Optional) Beginning Cash ........................................................ Collections Beginning accounts receivable............................... 2025 sales less ending accounts receivable ($256,000 – $30,720) .........................................
$
7,500
$ 73,500 225,280
Payments Beginning accounts payable ................................... 45,000 Note payment ........................................................... 8,000 Equipment purchase ................................................ 9,000 Dividends.................................................................. 8,000 Direct materials purchases ($62,500 – $8,500) .................................................... 54,000 Direct labor .................................................................. 50,900 Manufacturing overhead and selling and admin exp. less depreciation and ending other accts. payable $48,600 + $75,000 – $4,000 – $7,200 ................... 112,400 Interest expense .......................................................... 3,500 Income taxes ($7,300 – $5,000) .................................. 2,300 Ending cash.................................................................
298,780 306,280
293,100 $ 13,180
[$7,500 + ($73,500 + ($256,000 - $30,720)) – ($45,000 + $8,000 + $9,000 + $8,000 + ($62,500 - $8,500) + $50,900 + ($48,600 + $75,000 - $4,000 - $7,200) + $3,500 + ($7,300 - $5,000) = $13,180] [Beg. cash bal. + (Beg. accts. rec. + (2025 sales – end. accts rec.)) – (Beg. accts. pay. + Note pmt. + Equip. purch. + Div. + (DM purch. – Unpd. bal.) + DL + (MOH + Sell. & admin. exp. – Depr. – End. accts. pay.) + Int. exp. + (Inc. tax exp. – Unpd. bal.) = End. cash bal.] LO3, 4 BT: AP Difficulty: Hard TOT: 50 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CD22
CURRENT DESIGNS
CURRENT DESIGNS Production Budget For the Year Ending December 31, 2025 Expected unit sales Add: desired ending finished goods units Total required units Less: Beginning finished goods units Required production units
Quarter 1 Quarter 2 Quarter 3 Quarter 4 Total 1,000 1,500 750 750 4,000 300* 1,300
150* 1,650
150* 900
220** 970
220 4,220
200*** 1,100
300 1,350
150 750
150 820
200 4,020
*(20% of next quarter’s sales) **20% x 1,100 ***given in problem [Qtr. 1: 1,000 + (1,500 x 20%) – (1,000 x 20%) = 1,100] [Qtr. 1: Exp. unit sales + (Qtr. 2 exp. unit sales x End. inv. %) – (Qtr. 1 unit sales x End. inv. %) = Req. production units]
CD22 (Continued) CURRENT DESIGNS Direct Materials Budget For the Year Ending December 31, 2025 Units to be produced Pounds of polyethylene powder per unit Total pounds needed for production Add: desired ending inventory of powder Total pounds of powder required Less: Beginning inventory of powder Pounds of Polyethylene powder to be purchased Cost per pound Cost of polyethylene powder to be purchased Cost of required finishing kits (one kit per kayak manufactured) @$170 each Total costs for direct materials
x
x
Quarter 1
Quarter 2
Quarter 3
Quarter 4
1,100
1,350
750
820
54
x
54
x
54
x
54
Total 4,020 x
54
59,400
72,900
40,500
44,280
217,080
18,225*
10,125*
11,070*
15,930**
15,930
77,625
83,025
51,570
60,210
233,010
19,400***
18,225
10,125
11,070
19,400
58,225 $1.50
x
64,800 $1.50
x
41,445 $1.50
x
49,140 $1.50
x
213,610 $1.50
$ 87,337.50
$ 97,200.00
$ 62,167.50
$ 73,710.00
$ 320,415.00
187,000.00 $274,337.50
229,500.00 $326,700.00
127,500.00 $189,667.50
139,400.00 $213,110.00
683,400.00 $1,003,815.00
*25% of needs for next quarter **Desired ending inventory for Quarter 4 = 25% of amount needed for first quarter of 2026 production. Production for first quarter of 2026 = 1,100 + 300 – 220 = 1,180 units Desired ending inventory for Quarter 4 of 2025 = 25% *(1,180 units x 54 pounds per unit x 25%) = 15,930 pounds ***given in problem [Qtr. 1: ((1,100 x 54) + (1,350 x 54 x 25%) – 19,400 = 58,225); ((58,225 x $1.50) + (1,100 x $170) = $274,337.50)] [Qtr. 1: ((Qtr. 1 units to be produced x Lbs. of powder/unit) + (Qtr. 2 units to be produced x Lbs. of powder/unit x End. inv. %) – Beg. inv. of powder = Lbs. of powder to be purch.); ((Lbs. of powder to be purch. x Cost/Lb.) + (No. of finishing kits needed x Cost/kit) = Tot. cost of DM purch.)]
CD22 (Continued) CURRENT DESIGNS Direct Labor Budget For the Year Ending December 31, 2025 Units to be produced Number of hours of more skilled labor/unit Total number of hours of more skilled labor Hourly rate for more skilled labor Total cost of more skilled labor Units to be produced Number of hours of less skilled labor/unit Total number of hours of less skilled labor Hourly rate for less skilled labor Total cost of less skilled labor Total cost for direct labor
Quarter 1
Quarter 2
Quarter 3
Quarter 4
1,100
1,350
750
820
x
2
x
2
x
2
x
2
Total 4,020 x
2
2,200 x $15 $33,000
2,700 x $15 $40,500
1,500 x $15 $22,500
1,640 x $15 $24,600
8,040 x $15 $120,600
1,100
1,350
750
820
4,020
x
3
3,300 x $12 39,600 $72,600
x
3
4,050 x $12 48,600 $89,100
x
3
x
2,250 x $12 27,000 $49,500
3
2,460 x $12 29,520 $54,120
x
3
12,060 x $12 144,720 $265,320
CURRENT DESIGNS Manufacturing Overhead Budget For the Year Ending December 31, 2025 Quarter 1 Quarter 2 Quarter 3 Quarter 4 Total costs for direct $72,600 $89,100 labor Manufacturing overhead rate per direct labor dollar x 150% x 150% Manufacturing $108,900 $133,650 overhead costs
Total
$49,500
$54,120
$265,320
x 150%
x 150%
x 150%
$74,250
$81,180
$397,980
CD22 (Continued) CURRENT DESIGNS Selling and Administrative Expense Budget For the Year Ending December 31, 2025 Expected unit sales Variable selling and administrative costs at $45 per unit sold Fixed selling and administrative costs Total selling and administrative costs
Quarter 1 Quarter 2 Quarter 3 Quarter 4 1,000 1,500 750 750
Total 4,000
$45,000
$67,500
$33,750
$33,750
$180,000
7,500
7,500
7,500
7,500
30,000
$52,500
$75,000
$41,250
$41,250
$210,000
LO2, 3 BT: AP Difficulty: Moderate TOT: 50 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting
WC22
WATERWAYS CORPORATION
(a) Sales budget WATERWAYS CORPORATION Sales Budget For the First Quarter of 2025 First Quarter January
February
March
Quarter
Expected unit sales 113,000 Unit selling price x $ 12 Total sales $1,356,000
112,500 x $ 12 $1,350,000
116,000 x $ 12 $1,392,000
341,500 x $ 12 $4,098,000
(b) Production budget WATERWAYS CORPORATION Production Budget For the First Quarter of 2025 First Quarter Expected unit sales Add: Desired ending finished goods units Total required units Less: Beginning finished goods units Required production units
January February March 113,000 112,500 116,000
Quarter 341,500
11,250 124,250
11,600 124,100
12,500* 128,500
12,500 354,000
11,300** 11,250 112,950 112,850
11,600 116,900
11,300 342,700
*12,500 is 10% of April’s budgeted sales units **11,300 is 10% of January’s sales units
WC22 (Continued) (c) Direct materials budget WATERWAYS CORPORATION Direct Materials Budget For the First Quarter of 2025 First Quarter
Units to be produced (from part b) Direct materials per unit Total pounds needed for production Add: Desired ending direct materials (lbs.) Total materials required Less: Beginning direct materials (lbs.) Direct materials purchases Cost per pound Total cost of direct materials purchases
January 112,950 x 2 225,900 11,285 237,185 11,295** 225,890 x $0.75 $169,418
February 112,850 x 2 225,700 11,690 237,390 11,285 226,105 x $0.75 $ 169,579
March 116,900 x 2 233,800 12,625* 246,425 11,690 234,735 x $0.75 $176,051
Quarter 342,700 x 2 685,400 12,625 698,025 11,295 686,730 x $0.75 $515,048
*12,625 is 5% of April’s budgeted materials needed = (April unit sales + 10% of May unit sales – March’s ending unit inventory) x 2 x 5% = (125,000 units + 13,750 units – 12,500 units) x 2 x 5% = 126,250 units x 2 pounds per unit x 5% **Actual inventory (d) Direct labor budget WATERWAYS CORPORATION Direct Labor Budget For the First Quarter of 2025 First Quarter
Units to be produced (from part b) Direct labor time (hours per unit) Total required direct labor-hours Direct labor cost per hour Total direct labor cost
January 112,950 x 0.2 22,590 x $8 $180,720
February 112,850 x 0.2 22,570 x $8 $180,560
March 116,900 x 0.2 23,380 x $8 $187,040
Quarter 342,700 x 0.2 68,540 x $8 $548,320
WC22 (Continued) (e) Manufacturing overhead budget WATERWAYS CORPORATION Manufacturing Overhead Budget For the First Quarter of 2025 First Quarter Variable costs Indirect materials (30¢ per hour) Indirect labor (50¢ per hour) Utilities (45¢ per hour) Maintenance (25¢ per hour) Total variable costs Fixed costs Salaries Depreciation Property taxes Insurance Maintenance Fixed manufacturing overhead Total manufacturing overhead
January
February
March
Quarter
$ 6,777 11,295 10,165 5,647 33,884
$ 6,771 11,285 10,157 5,643 33,856
$ 7,014 11,690 10,521 5,845 35,070
$ 20,562 34,270 30,843 17,135 102,810
42,000 16,800 2,675 1,200 1,300 63,975 $97,859
42,000 16,800 2,675 1,200 1,300 63,975 $97,831
42,000 16,800 2,675 1,200 1,300 63,975 $99,045
126,000 50,400 8,025 3,600 3,900 191,925 $294,735
23,380
$294,735 68,540 $4.30
Total manufacturing overhead Direct labor hours (from part d) 22,590 22,570 Predetermined overhead rate for the quarter $294,735 ÷ 68,540 hours =
(f)
Selling and administrative expense budget WATERWAYS CORPORATION Selling and Administrative Expense Budget For the First Quarter of 2025
First Quarter Budget sales in units (from part a) Variable expenses per unit Total variable S & A expense Fixed expenses: Advertising Insurance Salaries Depreciation Other Total fixed expenses Total S & A expenses
January 113,000 x $1.60 $180,800
February 112,500 x $1.60 $180,000
March 116,000 x $1.60 $185,600
Quarter 341,500 x $1.60 $546,400
15,000 1,400 72,000 2,500 3,000 93,900 $274,700
15,000 1,400 72,000 2,500 3,000 93,900 $273,900
15,000 1,400 72,000 2,500 3,000 93,900 $279,500
45,000 4,200 216,000 7,500 9,000 281,700 $828,100
WC22 (Continued) (g) Collections from customers Schedule of Expected Collections from Customers January Accounts receivable, 12/31/24 $ 183,780 January ($1,356,000) 1,152,600* February ($1,350,000) March ($1,392,000) Total cash collections $1,336,380
February
March
$ 203,400** 1,147,500 $ 202,500 1,183,200 $1,350,900 $1,385,700
*85% of sales collected in month of sale (85% x $1,356,000) **15% of sales collected in month after sale (15% x $1,356,000)
(h) Payments for direct materials Schedule of Expected Payments for Direct Materials January Accounts payable, 12/31/24 $120,595 January ($169,418) 84,709 February ($169,579) March ($176,051) Total payments $205,304
February
$ 84,709 84,790 $169,499
March
Quarter
$ 84,789 88,026 $172,815
$120,595 169,418 169,579 88,026 $547,618
*Purchase payments 50% in month of purchase and 50% in month after purchase
WC22 (Continued) (i)
Cash budget WATERWAYS CORPORATION Cash Budget For the first Quarter of 2025 First Quarter January February $ 100,500 $ 800,097
Beginning cash balance Add: Receipts Collections from customers Total available cash Less: Disbursements Direct materials Direct labor Manufacturing overhead* Selling and administrative* Equipment purchase Dividends Total disbursements Excess (deficiency) of available cash over cash disbursements Financing: Borrowings Repayments Interest** Ending cash balance
March $ 819,474
Quarter $ 100,500
1,336,380 1,436,880
1,350,900 2,150,997
1,385,700 2,205,174
4,072,980 4,173,480
205,304 180,720 81,059 272,200 0 12,500 751,783
169,499 180,560 81,031 271,400 500,000 12,500 1,214,990
172,815 187,040 82,245 277,000 0 12,500 731,600
547,618 548,320 244,335 820,600 500,000 37,500 2,698,373
685,097
936,007
1,473,574
1,475,107
115,000 — —
— (115,000) (1,533)
— — —
115,000 (115,000) (1,533)
819,474
$1,473,574
$ 800,097
*Adjusted for depreciation ** Interest calculated as $115,000 x 0.08 x 2/12 = $1,533
$
$1,473,574
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CC22.1 1.
AUBURN CIRCULAR CLUB
Yes. All organizations should set goals. A large-scale project such as a professional rodeo may not make a profit in the first year. Based on ticket sales, the Auburn Circular Club Pro Rodeo Roundup appears to be a popular attraction. Therefore, if the club uses management accounting techniques successfully to plan, control, and monitor activities, the project should produce a profit in the future. Civic organizations often give back to the community in a variety of ways, such as providing scholarships, making donations to worthy causes, and volunteering. Auburn Circular Club wants to give back to the community by providing entertainment to the public through an enjoyable three-day family event. Funds raised by the rodeo will then be filtered back into the community via traditional channels. By sponsoring the rodeo, Auburn Circular Club gains exposure through public radio announcements, fliers, and advertising posters throughout the community. Patrons will look forward to next year’s entertainment, will tell others, and ticket sales will increase. Patrons may also seek to join such a civic-minded organization and support future fund-raising efforts sponsored by the club.
2.
Like profit-seeking organizations, nonprofit organizations should make sure an activity is worth the required investment of time, effort, and monetary resources. Jonathan’s comment implies that the rodeo is expected to fulfill the organization’s goals and objectives.
3.
Yes. Jonathan views this project as a capital investment for the organization—not the purchase of tangible, long-term assets—but a project that will have a positive impact on the organization over a long term. In other words, even though the rodeo reported a loss in its first year, Jonathan appears to believe the rodeo will be profitable in the future and that the community is well served by the club providing a high-quality, family-oriented event.
CC22.1 (Continued) 4.
Within a relevant range, most of these costs are fixed costs. In other words, variable costs would be a very small percentage of the costs in any of these categories.
5.
The high and low levels of activity are 96 contestants Saturday night and 68 contestants on Friday. The catering costs at these two levels are $1,243 and $998 respectively. The difference in catering cost is $245 or ($1,243 – $998). The difference in contestants is 28 or (96 – 68). Therefore, the variable cost for catering is $8.75 per contestant ($245 ÷ 28). The fixed cost is determined by subtracting the variable cost at either level from the total cost at the corresponding level as follows:
Total cost Less: Variable costs 96 contestants x $8.75 68 contestants x $8.75 Total fixed costs 6.
Activity Level High Low $1,243 $ 998 840 $ 403
595 $ 403
Some suggestions include: Promote ticket sales for the Friday and Sunday shows. Consider renting additional bleachers. Include additional entertainment such as a rock or country music star to attract individuals who did not attend the first annual event. Increase revenue by having members of Auburn Circular Club provide concessions to the public instead of outsourcing concessions to a local youth organization. Increase revenue by raising ticket prices. Include group rates to businesses and organizations. Decrease costs by bartering with a local hotel for free accommodations for stock contractors in exchange for a free sponsorship. Decrease costs by exchanging free tickets with a local farmer for hay. Negotiate with a local insurance agent for a lower rate.
CC22.1 (Continued) 7.
To determine the break-even point in dollars, we need to determine fixed costs and the contribution margin ratio. Fixed costs are estimated to be $51,000 and variable costs at 4% of total revenue. The contribution margin ratio is therefore 96%. The formula to compute the break-even point in dollars is therefore as follows: Fixed costs Break-even point = = $51,000 = $53,125 in dollars Contribution margin ratio 0.96 We then subtract from the break-even point in dollars the contribution from ticket from sponsors to determine a break-even point in dollars sales. Break-even point in dollars...................................................... Less: Contributions from sponsors ....................................... Amount needed from ticket sales to break even....................
8.
$53,125 25,600 $27,525
(a) To determine the dollar volume of ticket sales needed in order to earn a target profit of $6,000, we use the following formula: Fixed costs + Target profit = $51,000 + $6,000 = $59,375 Contribution margin ratio 0.96 We then subtract contributions from sponsors to arrive at the required ticket sales in dollars. Amount needed to earn $6,000 ....................................... Less: Contributions from sponsors............................... Amount needed from ticket sales ...................................
$59,375 25,600 $33,775
(b) We follow the same procedure as in (a), using the same formula: Fixed costs + Target profit = $51,000 + $12,000 = $65,625 Contribution margin ratio 0.96 We then subtract contributions from sponsors to arrive at the required ticket sales in dollars. Amount needed to earn $12,000 .................................... Less: Contributions from sponsors..............................
$65,625 25,600
Amount needed from ticket sales ..................................
$40,025
CC22.1 (Continued) 9.
At a target profit of $6,000, the rodeo will need to generate $59,375 in total receipts. Of these total receipts, $25,600 are expected to be contributions from sponsors. The receipts from ticket sales are computed as follows: Amount needed to earn $6,000 ........................................... Less: Contributions from sponsors .................................. Ticket revenues....................................................................
$59,375 25,600 $33,775
We then compute the average cost per ticket using first-year data as follows: Average cost per ticket =
Ticket revenue
= $28,971 = $8.70 Number in attendance 3,330*
*1,663 + 898 + 769 Given an average price of $8.70, it will take 3,882 tickets over the three days or 1,294 tickets per day as shown below. Ticket revenues = $33,775 = 3,882 for three days or 1,294 per day Average cost per ticket $8.70 Since the stands were able to hold the Saturday night audience of 1,663, the facilities appear adequate.
CC22.1 (Continued) 10.
Receipts Contributions from sponsors ....................... Receipts from ticket sales (from 8)............... Total cash receipts ........................................ Expenses Livestock contractor...................................... Prize money ................................................... Sponsor signs for arena (1,900 x $1.164*) ... Insurance........................................................ Ticket printing ($1,050 x .50) ......................... Sanctioning fees ............................................ Entertainment................................................. Judging fees .................................................. Rent ................................................................ Utilities............................................................ Sand for arena................................................ Miscellaneous fixed costs............................. Total expenses............................................... Net income .....................................................
$25,600 40,025 $65,625 $26,000 21,000 2,212 600 525 925 859 750 600 300 300 100 54,171 $11,454
*$25,600 ÷ 22,000 11.
The costs associated with Shelley’s rodeo apparel are not relevant costs. First, even if these were costs incurred by the rodeo, they would be considered sunk costs, which are never relevant. Second, they are personal costs of Shelley and not relevant to the rodeo.
12.
You should encourage the committee to accept the offer of the tent and Shady’s Bar-B-Q catering. Because there is room for additional banners in the arena, the only relevant costs to consider here are the potential savings of $3,341 for contestant hospitality and the cost of the two banners totaling $96. Even if there was no space in the arena for additional banners, the Committee should consider accepting the tent and the Bar-B-Q meal offered by Shady’s and consider eliminating other sponsors. A better alternative, however, would be to extend the arena in order to add more signs or provide another way to advertise sponsors. For example, include them in radio and television advertising. The cost is an opportunity cost; i.e., the foregone benefit ($3,341 cost savings) that would be lost from not accepting Shady’s and the Fun Shop’s offers.
CC22.2
SWEATS GALORE
1.
Yes, it is important for Michael to stipulate certain criteria during planning for his new business. Michael is wise to set criteria other than simply making a profit. First, Michael wants to do something he enjoys. Because he has prior experience in a related industry and he has envisioned having his own business he will be better prepared to handle the responsibilities of this new business. Michael’s positive attitude will be reflected in the way he handles employees and customers. Michael’s business will probably come from customers such as university groups, church groups, civic organizations, youth athletic clubs, and secondary school groups. Because Michael is offering quality shirts at a modest price, he will, in effect, be contributing to the community. In addition, as Michael’s company becomes more profitable he will give back to the community through cash donations to some of these groups. Michael’s foresight (wanting to grow and be more successful every year) will encourage him to make decisions that will profit the business not just in the short run, but also in the long run.
2.
The difference in the high and low levels of activity is 6,000 units (8,000 units in September less 2,000 units in January). The difference in utility costs is $300 ($1,400 – $1,100). Therefore, estimated variable cost per unit is $0.05 and total fixed costs are $1,000 computed as follows: $300 ÷ 6,000 = $0.05 $1,400 – ($0.05 x 8,000) = $1,000 The difference in maintenance costs is $198 ($1,914 – $1,716). Therefore, estimated variable cost per unit is $0.033 and total fixed costs are $1,650 computed as follows: $198 ÷ 6,000 = $0.033 $1,914 – ($0.033 x 8,000) = $1,650 If the company has sales of $12,000, the units sold total 750 ($12,000 ÷ $16). Therefore, total variable costs relating to utilities and maintenance for 750 shirts total $62.25 computed as follows: 750 shirts x $0.05 = $37.50 750 shirts x $0.033 = $24.75 If the company has sales of $12,000, the total fixed costs would be $2,650 ($1,000 + $1,650).
CC22.2 (Continued) 3. SWEATS GALORE, INC. Sales Budget For the Year Ending December 31, 2025 Quarter 1 8,000 X $16 $128,000
Expected unit sales Unit selling price Budgeted sales revenue
2 10,000 X $16 $160,000
3 20,000 X $16 $320,000
4 12,000 X $16 $192,000
Year 50,000 X $16 $800,000
4. SWEATS GALORE, INC. Schedule of Expected Collections from Customers For the Year Ending December 31, 2025 Quarter 1
2
–0– $89,600
Accounts receivable 1/1/25 First quarter ($128,000) Second quarter ($160,000) Third quarter ($320,000) Fourth quarter ($192,000) Total collections
$89,600
3
$ 38,400 112,000
$150,400
4
$ 48,000 224,000 $272,000
$ 96,000 134,400 $230,400
5. SWEATS GALORE, INC. Shirt Purchases Budget For the Year Ending December 31, 2025
Plus: Desired ending inventory
1 8,000 2,500
Total shirts required Less: Beginning inventory Total shirts needed Cost per shirt* Total cost of shirt purchases
10,500 –0– 10,500 x $10 $105,000
Shirts to be silk-screened
*$1,440 ÷144 (144 is a gross)
Quarter 2 3 10,000 20,000 5,000 3,000 15,000 2,500 12,500 x $10 $125,000
23,000 5,000 18,000 x $10 $180,000
4 12,000 4,500
Year 50,000 4,500
16,500 3,000 13,500 x $10 $135,000
54,500 –0– 54,500 x $10 $545,000
CC22.2 (Continued) 6. SWEATS GALORE, INC. Schedule of Expected Payments for Purchases For the Year Ending December 31, 2025
Account payable 1/1/25 First quarter ($105,000) Second quarter ($125,000) Third quarter ($180,000) Fourth quarter ($135,000) Total payments
1 –0– $42,000
$42,000
Quarter 3
2 $ 63,000 50,000
4
$ 75,000 72,000
$113,000
$108,000 54,000 $162,000
$147,000
7. SWEATS GALORE, INC. Silk-Screen Labor Budget For the Year Ending December 31, 2025 Quarter Units to be produced Silk-screen labor hours per unit* Total required silk-screen labor hours Silk-screen labor cost per hour** Total silk-screen labor cost
1
2
3
4
8,000 x .12 hrs.
10,000 x .12 hrs.
20,000 x .12 hrs.
12,000 x .12 hrs.
Year 50,000 x .12 hrs.
960 x $12 $11,520
1,200 x $12 $14,400
2,400 x $12 $28,800
1,440 x $12 $17,280
6,000 x $12 $72,000
*(6 workers x 20 hrs. x 50 weeks) ÷ 50,000 shirts **$72,000 ÷ (6 x 20 hrs. x 50)
CC22.2 (Continued) 8.
SWEATS GALORE, INC. Selling and Administrative Expenses Budget For the Year Ending December 31, 2025 Quarter Variable expenses Sales commissions Total variable expenses Fixed expenses Advertising [($25 + $75) x 13] Rent ($1,000 x 0.25 x 3) Sales salaries ($1,200 x 0.50 x 3) Office salaries Depreciation* Property taxes and Insurance ($380 ÷ 4) Total fixed expenses Total selling and administrative expenses *[($2,000 ÷ 10) + ($500 ÷ 5)] ÷ 4
1
2
3
4
Year
$12,800 12,800
$16,000 16,000
$32,000 32,000
$19,200 19,200
$ 80,000 80,000
$ 1,300 750
$ 1,300 750
$ 1,300 750
$ 1,300 750
$
1,800 1,800 75
1,800 1,800 75
1,800 1,800 75
1,800 1,800 75
7,200 7,200 300
95 5,820
95 5,820
95 5,820
95 5,820
380 23,280
$18,620
$21,820
$37,820
$25,020
$103,280
5,200 3,000
CC22.2 (Continued) 9. SWEATS GALORE, INC. Silk-screen Overhead Expenses Budget For the Year Ending December 31, 2025 Quarter 1
2
3
4
Year
Variable expenses Ink ($.75/unit) $ 6,000 $ 7,500 $15,000 $ 9,000 $37,500 Maintenance ($0.033/unit) 264 330 660 396 1,650 Utilities ($0.05/unit) 400 500 1,000 600 2,500 Graphics design 800 1,000 2,000 1,200 5,000 ($0.10/unit) Total variable expenses 7,464 9,330 18,660 11,196 46,650 Fixed expenses Rent ($1,000 x 0.75 x 3) 2,250 2,250 2,250 2,250 9,000 Maintenance ($1,650 x 3) 4,950 4,950 4,950 4,950 19,800 Utilities ($1,000 x 3) 3,000 3,000 3,000 3,000 12,000 Graphics design ($500 x 3) 1,500 1,500 1,500 1,500 6,000 Property taxes and insurance ($2,240 ÷ 4) 560 560 560 560 2,240 Depreciation* 690 690 690 690 2,760 Total fixed expenses 12,950 12,950 12,950 12,950 51,800 Total silk-screen overhead $20,414 $22,280 $31,610 $24,146 $98,450 Direct silk-screen hours 960 1,200 2,400 1,440 6,000 Overhead rate per silk-screen hour $16.41 *($7,500 ÷ 5) + [($1,350 + $2,500) ÷ 10] + ($3,500 ÷ 4)] = $2,760; $2,760 ÷ 4 = $690
10. SWEATS GALORE, INC. Budgeted Income Statement For the Year Ending December 31, 2025 Sales ............................................................................ Cost of goods sold .................................................... Gross profit ................................................................ Selling and administrative expenses ....................... Income from operations ............................................ Interest expense ($20,000 x 0.08) ............................. Income before income taxes..................................... Income tax expense ($24,670 x 0.20)........................ Net income ................................................................. *Purchase of shirts Labor Overhead
$500,000 (50,000 x $10) 72,000 98,450 $670,450
$800,000 *670,450 129,550 103,280 26,270 1,600 24,670 4,934 $ 19,736
CC22.2 (Continued) 11. SWEATS GALORE, INC. Cash Budget For the Year Ending December 31, 2025
Quarter Beginning cash balance .................. Add: Receipts Collections from customers............ Total available cash .........................
1
2
3
4
$ 10,000
$ 19,136
($ 9,874)
$ 17,661
89,600 99,600
150,400 169,536
272,000 262,126
230,400 248,061
Less: Disbursements Payments for shirt purchases......... Silk-screen labor .............................. Silk-screen overhead....................... Selling and administrative expenses ...................................... Payment for equipment purchase .. Total disbursements........................
42,000 11,520 19,724*
113,000 14,400 21,590
147,000 28,800 30,920
162,000 17,280 23,456
18,545** 8,675*** 100,464
21,745 8,675 179,410
37,745 0 244,465
24,945 0 227,681
Excess (deficiency) of available cash over disbursements............
(864)
(9,874)
17,661
20,380
Financing Borrowings ....................................... Ending cash balance .......................
20,000 $ 19,136
0 ($ 9,874)
0 17,661
0 $ 20,380
$
*$20,414 – $690 depreciation **$18,620 – $75 depreciation ***($7,500 + $1,350 + $2,500 + $3,500 + $2,000 + $500) x 0.50
12. SWEATS GALORE, INC. Budgeted Balance Sheet December 31, 2025 Assets Cash.............................................................................................. Accounts receivable ($192,000 x 0.30) ....................................... Sweatshirt inventory (4,500 x $10).............................................. Equipment ($7,500 + $1,350 + $2,500 + $3,500 + $2,000 + $500) ............................................................................................. Less: Accumulated depreciation ($300 + $2,760) ...................... Total assets ..................................................................................
$ 20,380 57,600 45,000 17,350 (3,060) $137,270
CC22.2 (Continued) SWEATS GALORE, INC. Budgeted Balance Sheet (Continued) December 31, 2025 Liabilities and Stockholders’ Equity Liabilities: Accounts payable ($135,000 x 0.60) ................................ Notes payable.................................................................... Interest payable ($20,000 x 0.08)...................................... Taxes payable ................................................................... Total liabilities ................................................................. Stockholders’ Equity: Common stock .................................................................. Retained earnings ............................................................. Total stockholders’ equity.............................................. Total liabilities and owner’s equity ....................................
$ 81,000 20,000 1,600 4,934 107,534 10,000 19,736 29,736 $137,270
13. (a)Unit Selling Price – Unit Variable Costs = Contribution Margin $16 – [$10 + ($80,000 ÷ 50,000) + ($46,650 ÷ 50,000)] = Contribution Margin $16 – $12.533 = $3.467 (b) Estimated fixed costs: Selling and administrative ...... Overhead.................................. Salaries..................................... Interest ..................................... Taxes ........................................ Total estimated fixed costs .........
$ 23,280 51,800 72,000 1,600 4,934 $153,614
(c) Fixed costs ÷ CM = Break-even point in units $153,614 ÷ $3.467 = 44,308 Break-even point in units (rounded) 44,308 x $16 = $708,928 Break-even point in dollars
CC22.2 (Continued) 14. (a) Required Sales = VC + FC + Target Net Income $16X = $12.533X + $153,614 + $25,000 $3.467X = $178,614 X = 51,519 shirts (rounded) (b) The company’s net income differs from the cash balance because the accrual basis accounting was used to compute net income. Consequently, net income includes revenue that has not been received and expenses that have not been paid. For example, revenue of $57,600 was included in the Budgeted Income Statement that was not in the Cash Budget because it was earned but not received. Likewise items such as accounts payable, notes payable, interest payable, and taxes payable affect the Income Statement in one period and the Cash Budget in another period. 15. Answers will vary. Some students will argue that the 10 percent commission is too high and Michael should try to find someone with similar qualifications who is willing to work for a smaller commission. Other students will argue that with Cary Sue’s contacts, sales would be much lower without Cary Sue. In addition, they may argue that if sales are low, Cary Sue’s commission will also be low.
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT22.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) The budget at Palmer Corporation is an imposed “top-down” budget which fails to consider both the need for realistic data and the human interaction essential to an effective budgeting/control process. The president has not given any basis for his goals, so one cannot know whether they are realistic for the company. True participation of company employees in preparation of the budget is minimal and limited to mechanical gathering and manipulation of data. This suggests there will be little enthusiasm for implementing the budget. The budget process is the merging of the requirements of all facets of the company on a basis of sound judgment and equity. Specific instances of poor procedures other than the approach and goals include the following: 1.
2.
3.
The sales by product line should be based upon an accurate sales forecast of potential market. Therefore, the sales by product line should have been developed first to derive the sales target rather than the reverse. Production costs probably would be the easiest and most certain costs to estimate. Given variable and fixed production costs, one could estimate the sales volume needed to cover manufacturing costs plus the costs of other aspects of the operation. This would be helpful before budgets for marketing costs and corporate office expenses are set. The initial meeting between the vice president of finance, executive vice president, marketing manager, and production manager should be held earlier. This meeting is held too late in the budgeting process.
(b) Palmer Corporation should consider the adoption of a “bottom to top” (participative) budget process. This means that the people responsible for performance under the budget would participate in the decisions by which the budget is established. In addition, this approach requires initial and continuing involvement of sales, financial, and production personnel to define sales and profit goals which are realistic within the constraints under which management operates. Although timeconsuming, the approach should produce a more acceptable, honest, and workable goal-control mechanism. It also provides for goal congruence possibilities for both individuals and departments within the firm.
CT22.1 (Continued) The sales forecast should be developed considering internal sales forecasts as well as external factors. Costs within departments should be divided into fixed and variable, discretionary and nondiscretionary. (c) The functional areas should not necessarily be expected to cut costs when sales volume falls below budget. The time frame of the budget (one year) is short enough so that many costs are relatively fixed in amount. For those costs which are fixed, there is little hope for a reduction as a consequence of short-run changes in volume. However, the functional areas should be expected to cut costs should sales volume fall below target when: 1.
Control is exercised over the costs within their function.
2.
Budgeted costs were more than adequate for the originally targeted sales; i.e., slack was present.
3.
Budgeted costs vary to some extent with changes in sales.
4.
There are discretionary costs which can be delayed or omitted with no serious effect on the department. (CMA adapted)
LO1, 2 BT: S Difficulty: Moderate TOT: 30 min. AACSB: Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT22.2
MANAGERIAL ANALYSIS
(a) Direct materials
Either lower quality materials resulting in an inferior product and possible lost sales, or fewer units produced resulting in lost sales.
Direct labor
Reduced production resulting in lost sales, or reduction in quality of product resulting in lost sales.
Insurance
Less coverage; may acceptable levels.
Depreciation
To reduce depreciation, fixed assets would have to be disposed of. Could result in less production and lost sales.
Machine repairs
Less efficient operations, or lost production and sales.
Sales salaries
Lost sales.
Office salaries
Less effective administrative functions.
Factory salaries
Lost production due to inefficiency, and therefore lost sales.
increase
risk
beyond
(b) Given the nature of their product, a decline in quality should be avoided, since this could result in lower future sales. Direct materials represent the largest single cost, and thus perhaps the greatest potential savings. Perhaps substitute materials of similar quality can be found, or less expensive materials can be used for aspects of the product where quality is not as critical. Additionally, it may be possible to renegotiate prices with the supplier. Elliot & Hesse should be very reluctant to reduce repair costs, since in the long run this can be very expensive. Perhaps salaried and hourly employees can be encouraged to take pay cuts if a profit-sharing mechanism is introduced. LO N/A BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT22.3
REAL-WORLD FOCUS
(a) According to Mr. LaFaive, zero-based budgeting requires that the existence of a government program or programs be justified in each fiscal year, as opposed to simply basing budgeting decisions on a previous year’s funding level. Zero-based budgeting is often encouraged by fiscal watchdog groups as a way to ensure against unnecessary spending. (b) In addition to saving money and improving services, zero-based budgeting may:
Increase restraint in developing budgets; Reduce the entitlement mentality with respect to cost increases; and Make budget discussions more meaningful during review sessions.
(c) On the cost side of the equation, zero-based budgeting:
May increase the time and expense of preparing a budget; May be too radical a solution for the task at hand. You don’t need a sledgehammer to pound in a nail; Can make matters worse if not done in the right way. A substantial commitment must be made by all involved to ensure that this doesn’t happen.
(d) In Oklahoma, which has recently adopted zero-based budgeting, officials are applying the method to two departments and several agencies each year. Once those reviews are complete, the same departments and agencies will not see another zero-based review for eight years. LO N/A BT: AN Difficulty: Easy TOT: 25 min. AACSB: Technology, Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT22.4
COMMUNICATION ACTIVITY Date: 2025
Mrs. Megan Parcells, CEO Life Protection Products (LPP) Dear Mrs. Parcells: Allow me to congratulate you on the success of your new venture! The growth in sales you have experienced is phenomenal. You have managed the business side of the venture very well also. At the same time, I understand your concern about cash flow. You are selling these kits as fast as you can make them, and yet you are running out of cash. There is a solution to your problem. Before describing that, it may be helpful for you to understand why this situation occurred. The primary reason is that you are purchasing kit supplies at least two months in advance of sales. As your business expands, these materials costs continue to increase. Sales do not “catch up” until the Drs. Parcells have a seminar. You did not describe in detail how often these seminars are, but I would guess that they tend to run in cycles rather than being regularly spaced. Eventually, as sales stabilize, you will find that cash inflows exceed cash outflows, and your need for additional cash will subside. Presently, I think it would be a good idea to try to borrow additional funds. I have not seen all your financial data, but judging only from the cash budget you showed me, it appears that you have the basis of a very successful company. If so, your banker will be able to see the potential in your business and should be happy to provide the cash you need. You will need to prepare a full set of financial statements. I will be happy to assist you, if you desire. There is also a possibility that you have underpriced your product. You are providing a valuable service in assembling this information and these materials. The fact that every seminar results in a sellout of the materials may mean that you have priced your product too low. I know that your husband wishes to have these materials available to every family, but increasing the price a little may not make the price too high, and would better compensate you for your efforts.
CT22.4 (Continued) However, even if you raised prices, you will find that you need additional cash as long as the business continues to expand. It certainly does not mean that you and Sue are doing anything wrong. It just means that you will be investing additional funds as long as you continue to grow. In my opinion, the best way to make sure these kits are available to as many families as possible is for you and Sue to have a consultant evaluate and determine the size of the market for you. Then you can decide whether to expand to meet the need, or whether to keep your own business small and allow competitors to imitate your product. Congratulations again on a very successful product. Call or email this office if we may be of further assistance preparing financial statements or providing additional advice. Sincerely, Ima Student Best and Superior, Certified Public Accountants LO4 BT: AN Difficulty: Moderate TOT: 35 min. AACSB: Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT22.5
ETHICS CASE
(a) At best, if you disclose the errors in your calculations, you will be embarrassed. At worst, you will be dismissed without a recommendation for another job. (b) The president will continue making presentations using data that are grossly overstated. In time, your error may be detected when the events you projected do not materialize. (c) The most ethical scenario would be to admit your error, let the president know about the error, provide the president with corrected projections, and allow the president to decide how to alter his presentations during the second week of his speech-making. LO N/A BT: E Difficulty: Easy TOT: 20 min. AACSB: Ethics AICPA PC: Ethical Conduct, Communication IMA: Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT22.6
ALL ABOUT YOU
Personal Budget Typical Month Income: Wages earned ................................................... Interest income................................................. Income subtotal........................................................... Income tax withheld .................................................... Spendable income ........................................... Expenses: Rent .............................................................................. Utilities Electricity.......................................................... Telephone and Internet.................................... Food: Groceries .......................................................... Eating out ......................................................... Insurance ..................................................................... Transportation............................................................. Student loan payments ............................................... Entertainment .............................................................. Savings ........................................................................ Miscellaneous.............................................................. Total investments and expenses............... Surplus/Shortage ........................................................
$2,500 50 2,550 300 $2,250 500 85 125 100 150 100 150 375 250 50 210 2,095 $ 155
LO N/A BT: AP Difficulty: Easy TOT: 20 min. AACSB: Technology, Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT22.7
CONSIDERING YOUR COSTS AND BENEFITS
We are concerned that the personal budgets presented on websites and in financial planning textbooks often list student loans among the sources of income. This type of thinking can lead to an overreliance on debt during college, and will result in accumulation of large amounts of debt that must be repaid. We would prefer a format that lists nondebt sources of income, then subtracts expenses, then shows debt borrowed. This format emphasizes an important point: Just like a business, in the short run you can borrow money when your cash inflows are not sufficient to meet your outflows, but in the long run you need to learn to live within your income, and your budget. LO N/A BT: E Difficulty: Easy TOT: 15 min. AACSB: Technology, Communication AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CHAPTER 23 Budgetary Control and Responsibility Accounting Learning Objectives 1. Describe budgetary control and static budget reports. 2. Prepare flexible budget reports. 3. Apply responsibility accounting to cost and profit centers. 4. Evaluate performance in investment centers. *5. Explain the difference between ROI and residual income. *Note: All asterisked Questions, Brief Exercises, Exercises, and Problems relate to material contained in the appendix to the chapter.
ANSWERS TO QUESTIONS 1.
(a) Budgetary control is the use of budgets in controlling operations. (b) The steps in budgetary control are: (1) Develop the planned objectives (budget). (2) Analyze differences between actual and budgeted results. (3) Take corrective action. (4) Modify future plans, if necessary.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
2.
Purpose
Name of Report
Frequency
(a) (b) (c)
Scrap Departmental overhead costs Income statement
Daily Monthly Monthly and Quarterly
Primary Recipient(s) Production manager Department manager Top management
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
3.
The budget report for the second quarter can include year-to-date information as well as data for the second quarter.
LO1 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
4.
There is no justification for Ken’s concern. The sales budget is derived from the sales forecast and it represents management’s best estimate of sales. Thus, it is a useful basis for evaluating sales performance.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
5.
A static budget is an appropriate basis for evaluating a manager’s effectiveness in controlling costs when: (1) The actual level of activity closely approximates the master budget activity level and/or (2) The behavior of the costs in response to changes in activity is fixed.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: None AICPA FC: Measurement, Analysis and Interpretation IMA: Budget Preparation
6.
Yes, this is true. A flexible budget is a series of static budgets at different levels of activity.
LO2 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
7.
The performance is unfavorable. The budgeted indirect labor cost in the static budget is $1.35 per direct labor hour ($54,000 ÷ 40,000). At 45,000 direct labor hours, budgeted costs are $60,750 (45,000 x $1.35). Thus, indirect labor is $3,250 over budget ($64,000 – $60,750).
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
8.
The performance is favorable. At 50,000 direct labor hours, the budgeted cost is still $6,500. Thus, factory insurance is $200 under budget ($6,500 – $6,300).
LO2 BT: AN Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
9.
The steps in preparing a flexible budget are: (1) Identify the activity index and the relevant range of activity. (2) Identify the variable costs, and determine the budgeted variable cost per unit of activity for each cost. (3) Identify the fixed costs, and determine the budgeted amount for each cost. (4) Prepare the budget for selected increments of activity within the relevant range.
Questions Chapter 23 (Continued) LO2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning& Performance: Budgeting and forecasting
10.
Cali Company can say that total budgeted costs are $20,000 fixed plus $6.50 per direct labor hour [($85,000 – $20,000) ÷ 10,000].
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
11.
(a) At 9,000 hours, total budgeted costs are $86,000, or [$50,000 + ($4 x 9,000)]. (b) At 12,345 hours, total budgeted costs are $99,380, or [$50,000 + ($4 x 12,345)].
LO2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and forecasting
12.
Management by exception means that top management’s review of a budget report is focused either entirely or primarily on differences between actual results and planned objectives. The criteria for identifying exceptions are materiality and controllability of the item.
LO3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
13.
Responsibility accounting is a method of controlling operations that involves identifying, accumulating, and reporting costs (and revenues, where relevant) on the basis of the manager who has the authority to make the day-to-day decisions about the items. The purpose of responsibility accounting is to evaluate a manager’s performance on the basis of matters directly under that manager’s control.
LO3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
14.
Eve should know that the following conditions contribute to the effective use of responsibility accounting: (1) Costs and revenues can be directly associated with the specific level of management responsibility. (2) The costs and revenues are controllable at the level of responsibility with which they are associated. (3) Budget data can be developed for evaluating the manager’s effectiveness in controlling the costs and revenues.
LO3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
15.
A cost is controllable at a given level of managerial responsibility if the manager has the power to incur the cost within a given period of time. Most costs incurred directly are controllable, whereas costs incurred indirectly and allocated to a responsibility level are noncontrollable at that level.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
16.
Responsibility reports differ from budget reports in two respects: (1) a distinction is made between controllable and noncontrollable items and (2) responsibility reports either emphasize, or only include, items controllable by the individual manager.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
17.
Usually there is a relationship between a responsibility reporting system and a company’s organization chart. In a responsibility reporting system, reports are prepared for each level of responsibility in the organization chart.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
Questions Chapter 23 (Continued) 18.
There are three types of responsibility centers: (a) A cost center incurs costs (and expenses) but does not directly generate revenues. (b) A profit center incurs costs (and expenses) and also generates revenues. (c) An investment center incurs costs (and expenses), generates revenues, and has control over decisions regarding the assets available for use.
LO3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
19.
(a) Only controllable costs are included in a performance report for a cost center. (b) No distinction is made between variable and fixed costs.
LO3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
20.
Direct fixed costs relate specifically to one responsibility center and are incurred for the sole benefit of that center. An indirect fixed cost relates to the company’s overall activities and is incurred for the benefit of more than one profit center. Both types of fixed costs are controllable. A direct fixed cost is controllable by a specific center manager and an indirect fixed cost is controllable by a manager higher up in the organization.
LO3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
21.
Controllable margin is contribution margin less controllable fixed costs in a profit center. The purpose of controllable margin is to provide a basis for evaluating the manager’s effectiveness in controlling revenues and costs.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
22. The primary basis for evaluating the performance of the manager of an investment center is return on investment (ROI). The equation is: Controllable Margin divided by Average Operating Assets. LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
23. ROI can be improved by: (1) increasing controllable margin and (2) reducing average operating assets. Controllable margin can be increased by increasing sales or by reducing variable and controllable fixed costs. LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
24. (a) The manager being evaluated should have direct input into the process of establishing budget goals and have the opportunity to respond to the evaluation. (b) Top management should make the evaluation entirely on matters controllable by the manager, and should fully support the evaluation process. LO3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
*25. ROI fails to indicate the dollar amount of change in residual income. That is, a positive increase in residual income may result from a project that is rejected because of its negative effect on ROI, even though the project’s ROI is greater than the company’s minimum rate of return. LO5 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
Questions Chapter 23 (Continued) *26. Residual income is the income that remains after subtracting from the controllable margin the minimum rate of return on a company’s average operating assets. Residual income as a performance measure ignores the amount of difference in investments (average operating assets) by concentrating only on the amount of additional residual income. LO5 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 23.1 CROIX COMPANY Sales Budget Report For the Quarter Ended March 31, 2025 Product Line
Budget $315,000
Guitar: The Edge
Actual $305,000
Difference $10,000 U
LO1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
BRIEF EXERCISE 23.2 CROIX COMPANY Sales Budget Report For the Quarter Ended June 30, 2025 Product Line Guitar: The Edge
Second Quarter Budget Actual Difference
Year to Date Budget Actual Difference
$380,000 $384,000
$695,000 $689,000
$4,000 F
$6,000 U
LO1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
BRIEF EXERCISE 23.3 (a)
Direct Labor (b)
Direct Labor
ROONEY COMPANY Static Direct Labor Budget Report For the Month Ended January 31, 2025 Budget $200,000
(10,000 x $20)
Actual $206,000
Difference $6,000 U
ROONEY COMPANY Flexible Direct Labor Budget Report For the Month Ended January 31, 2025 Budget $208,000
(10,400 x $20)
Actual $206,000
Difference $2,000 F
BRIEF EXERCISE 23.3 (Continued) The static budget does not provide a proper basis for evaluating performance because the budget is not based on the hours actually worked. In contrast, the flexible budget provides the proper basis for evaluating performance because the budget is based on the hours actually worked. LO2 BT: E Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
BRIEF EXERCISE 23.4 GUNDY COMPANY Monthly Flexible Manufacturing Budget For the Year 2025 Activity level Finished units Variable costs Direct materials ($5) Direct labor ($6) Overhead ($8) Total variable costs ($19) Fixed costs Depreciation (1) Supervision (2) Total fixed costs Total costs (1) (2)
80,000
100,000
120,000
$ 400,000 480,000 640,000 1,520,000
$ 500,000 600,000 800,000 1,900,000
$ 600,000 720,000 960,000 2,280,000
200,000 100,000 300,000 $1,820,000
200,000 100,000 300,000 $2,200,000
200,000 100,000 300,000 $2,580,000
($2 x 1,200,000) ÷ 12 ($1 x 1,200,000) ÷ 12
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and forecasting [80,000 fin. units: ((80,000 x $5) + (80,000 x $6) + (80,000 x $8)) + (($2 x 1,200,000) ÷ 12) + (($1 x 1,200,000) ÷ 12)) = $1,820,000] [80,000 fin. units: ((Fin. units x DM/unit) + (Fin. units x DL/unit) + (Fin. units x VOH/unit)) + ((Tot. ann. units x Depr./unit) ÷ No. mos. in a yr.) + ((Tot. ann. units x Super./unit) ÷ No. mos. in a yr.)) = Tot. costs]
BRIEF EXERCISE 23.5 GUNDY COMPANY Manufacturing Flexible Budget Report For the Month Ended March 31, 2025
Units produced Variable costs Direct materials Direct labor Overhead Total variable costs Fixed costs Depreciation Supervision Total fixed costs Total costs
Budget
Actual
100,000
100,000
Difference Favorable F Unfavorable U
$ 500,000 600,000 800,000 1,900,000
$ 520,000 596,000 805,000 1,921,000
$20,000 U 4,000 F 5,000 U 21,000 U
200,000 100,000 300,000 $2,200,000
200,000 100,000 300,000 $2,221,000
–0– –0– –0– $21,000 U
Costs were not entirely controlled as evidenced by the difference between budgeted and actual for the variable costs. However, the largest variance from budget was direct materials which was only 4% ($20,000 ÷ $500,000) over budget and may be within management’s guidelines for materiality. LO2 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement [($500,000 - $520,000 = $20,000U); ($600,000 - $596,000 = $4,000F); ($800,000 - $805,000 = $5,000U); ($200,000 - $200,000 = $0); ($100,000 - $100,000 = $0); ($2,200,000 - $2,221,000 = $21,000U)] [(DM bud. – DM act. = Unfav. diff.); (DL bud. – DL act. = Fav. diff.); (OH bud. – OH act. = Unfav. diff.); (Depr. bud. – Depr. act. = No diff.); (Super. bud. – Super. act. = No diff.); (Tot. cost bud. – Tot. cost act. = Tot. unfav. diff.)]
BRIEF EXERCISE 23.6 HANNON COMPANY Assembly Department Manufacturing Overhead Cost Responsibility Report For the Month Ended April 30, 2025 Controllable Cost
Budget
Actual
Indirect materials Indirect labor Utilities Supervision
$16,000 20,000 10,000 5,000 $51,000
$14,300 20,600 10,850 5,000 $50,750
Difference Favorable F Unfavorable U $1,700 F 600 U 850 U 0 $ 250 F
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement ($51,000 - $50,750 = $250F) (Bud. tot. cost – Act. tot. cost = Tot. fav. diff.)
BRIEF EXERCISE 23.7 TORRES COMPANY Water Division Responsibility Report For the Year Ended December 31, 2025
Sales Variable costs Contribution margin Controllable fixed costs Controllable margin
Budget
Actual
$2,000,000 1,000,000 1,000,000 300,000 $ 700,000
$2,080,000 1,050,000 1,030,000 305,000 $ 725,000
Difference Favorable F Unfavorable U $80,000 F 50,000 U 30,000 F 5,000 U $25,000 F
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
BRIEF EXERCISE 23.8 COBB COMPANY Plastics Division Responsibility Report For the Year Ended December 31, 2025
Contribution margin Controllable fixed costs Controllable margin Return on investment
Budget
Actual
$700,000 300,000 $400,000
$710,000 302,000 $408,000
Difference Favorable F Unfavorable U $10,000 F 2,000 U $ 8,000 F
20%
20.4%
0.4% F
($400,000 ÷ $2,000,000)
($408,000 ÷ $2,000,000)
($8,000 ÷ $2,000,000)
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement [Bud.: (($700,000 - $300,000) ÷ $2,000,000 = 20%); Act.: (($710,000 - $302,000) ÷ $2,000,000 = 20.4%); (20% 20.4% = 0.4%F)] [Bud.: ((CM – Control. FC) ÷ Ave. oper. assets = ROI); (Act.: ((CM – Control. FC) ÷ Ave. oper. assets = ROI); (Bud. ROI – Act. ROI = Fav. diff)]
BRIEF EXERCISE 23.9 I II III
28% ($1,400,000 ÷ $5,000,000) 25% ($2,000,000 ÷ $8,000,000) 36% ($3,600,000 ÷ $10,000,000)
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
BRIEF EXERCISE 23.10 I
A $300,000 ($2,000,000 x 15%) increase in sales will increase contribution margin and controllable margin $210,000 ($300,000 x 70%). The new ROI is 32.2% ($1,610,000 ÷ $5,000,000).
II
A decrease in controllable fixed costs results in a corresponding increase in controllable margin. The new ROI is 30% ($2,400,000 ÷ $8,000,000).
III
A decrease in average operating assets reduces the denominator. The new ROI is 37.5% ($3,600,000 ÷ $9,600,000).
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement [(I: ($1,400,000 x 115%) ÷ $5,000,000 = 32.2%); (II: ($2,000,000 + $400,000) ÷ $8,000,000 = 30%); (III: $3,600,000 ÷ ($10,000,000 - $400,000) = 37.5%)] [(I: (Control. margin x % incr.) ÷ Ave. oper. assets = ROI); (II: (Controll. margin + $ incr.) ÷ Ave. oper. assets = ROI); (III: Controll. margin ÷ (Ave. oper. assets - $ decr.) = ROI)]
*BRIEF EXERCISE 23.11 Controllable Margin $630,000
÷ ÷
Average Operating Assets $3,000,000
= ROI = 21%
Controllable Margin $630,000 $630,000
– – –
(Minimum Rate of Return x Average Operating Assets) (10% x $3,000,000) $300,000
= = =
Residual Income Residual Income $330,000
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
*BRIEF EXERCISE 23.12 Controllable Margin $800,000
÷ ÷
Average Operating Assets $4,000,000
= ROI = 20%
Controllable Margin $800,000 $800,000
– – –
(Minimum Rate of Return x Average Operating Assets) (15% x $4,000,000) $600,000
= = =
Residual Income Residual Income $200,000
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
SOLUTIONS FOR DO IT! EXERCISES DO IT! 23.1
Production in units Variable costs Direct materials ($7) Direct labor ($13) Overhead ($18) Total variable costs Fixed costs Depreciation Supervision Total fixed costs Total costs
Difference Favorable F Unfavorable U
Budget 6,000
Actual 6,500
$ 42,000
$ 38,850
$3,150 F
78,000 108,000 228,000
76,440 116,640 231,930
1,560 F 8,640 U 3,930 U
8,000 3,800 11,800 $239,800
8,000 4,000 12,000 $243,930
0 200 U 200 U $4,130 U
The static budget indicates that actual variable costs exceeded budgeted amounts by $3,930. Fixed costs were unfavorable by $200. The static budget gives the impression that the company did not control its variable costs. However, the static budget does not give consideration to the fact that the company produced 500 more units than planned. As a consequence, the static budget is not an effective tool to evaluate variable costs. It is, however, a good tool to evaluate fixed costs, since those should not vary with changes in production volume. LO1 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
DO IT! 23.2 Using the graph data, fixed costs are $90,000, and variable costs are $5.20 per direct labor hour [($350,000 – $90,000) ÷ 50,000]. Thus, at 65,000 direct labor hours, total budgeted costs are $428,000 [$90,000 + (65,000 x $5.20)]. LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Strategic Cost Management [(($350,000 - $90,000) ÷ 50,000 = $5.20); ($90,000 + (65,000 x $5.20) = $428,000)] [((Tot. cost – FC) ÷ DLH activity = VC/DLH); (FC + (DLH activity x VC/DLH) = Tot. bud. costs)]
DO IT! 23.3 ROCKIES DIVISION Responsibility Report For the Year Ended December 31, 2025
Sales Variable costs Contribution margin Controllable fixed costs Controllable margin
Budget $2,000,000 800,000 1,200,000 550,000 $ 650,000
Actual $1,890,000 760,000 1,130,000 550,000 $ 580,000
Difference Favorable F Unfavorable U $110,000 U 40,000 F 70,000 U –0– $ 70,000 U
LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement (Control. margin: $650,000 - $580,000 = $70,000U) (Control. margin: Bud. – Act. = Unfav. diff.)
DO IT! 23.4 (a)
Controllable margin for 2025: Sales.................................................... Variable costs ..................................... Contribution margin ........................... Controllable fixed costs ..................... Controllable margin............................ Return on investment for 2025:
(b)
$500,000 300,000 200,000 75,000 $125,000 $125,000 $625,000
Expected return on investment for alternative 1: $125,000* = 25% $500,000 *Controllable margin remains unchanged from (a)
($125,000 ÷ ($625,000 - $125,000) = 25%) (Control. margin ÷ (Ave. oper. assets – Reduction) = ROI)
=
20%
DO IT! 23.4 (Continued) Controllable margin for alternative 2: Sales ($500,000 + $100,000)................... Variable costs ($300,000/$500,000 x $600,000) .......... Contribution margin ............................... Controllable fixed costs……………………. Controllable margin ............................... Expected return on investment for alternative 2:
$600,000 360,000 240,000 75,000 $165,000 $165,000 $625,000
=
26.4%
[(($500,000 + $100,000) – (($300,000 ÷ $500,000) x ($500,000 + $100,000)) - $75,000 = $165,000); ($165,000 ÷ $625,000 = 26.4%)] [((Old sales + Incr.) – ((Old VC ÷ Old sales) x (Old sales + Incr.)) – Control. FC = Control. margin); (Control. margin ÷ Ave. oper. assets = ROI)] LO4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
SOLUTIONS TO EXERCISES EXERCISE 23.1 1. True. 2. False. Budget reports are prepared as frequently as needed. 3. True. 4. True. 5. False. Budgetary control works best when a company has a formalized reporting system. 6. False. The primary recipients of the sales report are the sales manager and top management. 7. True. 8. True. 9. False. Top management’s reaction to unfavorable differences is often influenced by the materiality of the difference. 10. True. LO1, 2 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Budgeting and Forecasting, Strategy, Planning & Performance : Performance Management
EXERCISE 23.2 (a)
Month January February March
Budget $30,000 $35,000 $40,000
CREDE COMPANY Selling Expense Report For the Quarter Ending March 31 By Month Actual Difference $31,200 $1,200 U $34,525 $ 475 F $46,000 $6,000 U
Year-to-Date Budget Actual Difference $ 30,000 $ 31,200 $1,200 U $ 65,000 $ 65,725 $ 725 U $105,000 $111,725 $6,725 U
(b)
The purpose of the Selling Expense Report is to help management control selling expenses. The primary recipient is the sales manager.
(c)
Most likely, when management scrutinized the results for January and February, they would determine that the difference was insignificant (4% in January and 1.4% in February), and require no action. When the March results are examined, however, the fact that the difference is 15% of budget would probably cause management to investigate further. As a result of their investigation, management would either take corrective action or modify the amounts of budgeted selling expense for future months to reflect changing conditions.
LO1 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Management
EXERCISE 23.3 MYERS COMPANY Monthly Manufacturing Overhead Flexible Budget For the Year 2025 Activity level Direct labor hours Variable costs Indirect labor ($1.00) Indirect materials ($0.70) Utilities ($0.40) Total variable costs ($2.10) Fixed costs Supervision Depreciation Property taxes Total fixed costs Total costs
7,000
8,000
9,000
10,000
$ 7,000 4,900 2,800 14,700
$ 8,000 5,600 3,200 16,800
$ 9,000 6,300 3,600 18,900
$10,000 7,000 4,000 21,000
4,000 1,200 800 6,000 $20,700
4,000 1,200 800 6,000 $22,800
4,000 1,200 800 6,000 $24,900
4,000 1,200 800 6,000 $27,000
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Management
EXERCISE 23.4 (a)
MYERS COMPANY Manufacturing Overhead Flexible Budget Report For the Month Ended July 31, 2025
Direct labor hours (DLH) Variable costs Indirect labor($1.00) Indirect materials($0.70) Utilities($0.40) Total variable costs($2.10) Fixed costs Supervision Depreciation Property taxes Total fixed costs Total costs
Budget at 9,000 DLH
Actual Costs 9,000 DLH
Difference Favorable F Unfavorable U
$ 9,000 6,300 3,600
$ 8,800 5,800 3,200
$200 F 500 F 400 F
18,900
17,800
1,100 F
4,000 1,200 800 6,000 $24,900
4,000 1,200 800 6,000 $23,800
— — — — $1,100 F
EXERCISE 23.4 (Continued) (b)
MYERS COMPANY Manufacturing Overhead Flexible Budget Report For the Month Ended July 31, 2025
Direct labor hours (DLH) Variable costs Indirect labor ($1.00) Indirect materials ($0.70) Utilities ($0.40) Total variable costs ($2.10) Fixed costs Supervision Depreciation Property taxes Total fixed costs Total costs
Budget at 8,500 DLH
Actual Costs 8,500 DLH
Difference Favorable F Unfavorable U
$ 8,500 5,950 3,400
$ 8,800 5,800 3,200
$300 U 150 F 200 F
17,850
17,800
50 F
4,000 1,200 800 6,000 $23,850
4,000 1,200 800 6,000 $23,800
— — — — $50 F
[(Ind. Labor: (8,500 x $1.00) - $8,800 = $300U); (Ind. Mat.: (8,500 x $0.70) - $5,800 = $150F); (Util.: (8,500 x $0.40) - $3,200 = $200F); (Super.: ($4,000 - $4,000 = $0); (Depr.: ($1,200 - $1,200 = $0); (Prop. tax.: ($800 $800) = $0); ($23,850 - $23,800 = $50F)] [(Ind. Labor: (Act. DLH x Ind. labor rate/hr.) – Act. ind. labor = Unfav. diff.) + (Ind. Mat.: (Act. DLH x Ind. mat. rate/hr.) – Act. ind. mat. = Fav. diff.) + (Util.: (Act. DLH x Util. rate/hr.) – Act. util. = Fav. diff.); (Super.: (Bud. super. – Act. super) = No diff.); (Depr.: (Bud. depr. – Act. depr.) = No diff.); (Prop. tax.: (Bud. prop. tax. – Act. prop. tax) = No diff.); (Bud. tot. costs – Act. tot. costs = Fav. diff.)]
(c) To be able to evaluate the findings for case (a) and case (b), a quantitative guideline or materiality threshold is needed to determine if any variances (favorable or unfavorable) merit investigation. In case (a) the overall performance for the month looks satisfactory because all line items have favorable variances. However, indirect materials at 7.9% ($500 ÷ $6,300) of budgeted costs and utilities at 11.1% ($400 ÷ $3,600) may warrant investigation if management’s materiality guidelines were to investigate variances greater than 5% from budget. If management applied the same materiality guideline in case (b) management may need to determine the causes of the differences for utilities favorable variance of 5.9% ($200 ÷ $3,400) favorable, or since the differences are small, management might consider them immaterial if they applied both a percent and a dollar guideline, such as 5% of budget or more than $1,000. Note that even though the indirect labor had an unfavorable variance of 3.5% ($300 ÷ $8,500) it may not warrant investigation if it does not meet management’s materiality guidelines.
EXERCISE 23.4 (Continued) LO2 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Management
EXERCISE 23.5 FALLON COMPANY Monthly Selling Expense Flexible Budget For the Year 2025 Activity level Sales Variable expenses Sales commissions (6%) Advertising (4%) Travel (3%) Delivery (2%) Total variable expenses (15%) Fixed expenses Sales salaries Depreciation Insurance Total fixed expenses Total expenses
$170,000
$180,000
$190,000
$200,000
$ 10,200 6,800 5,100 3,400
$ 10,800 7,200 5,400 3,600
$ 11,400 7,600 5,700 3,800
$ 12,000 8,000 6,000 4,000
25,500
27,000
28,500
30,000
35,000 7,000 1,000 43,000 $ 68,500
35,000 7,000 1,000 43,000 $ 70,000
35,000 7,000 1,000 43,000 $ 71,500
35,000 7,000 1,000 43,000 $ 73,000
LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Management
EXERCISE 23.6 (a)
FALLON COMPANY Selling Expense Flexible Budget Report For the Month Ended March 31, 2025
Sales Variable expenses Sales commissions Advertising Travel Delivery Total variable expenses Fixed expenses Sales salaries Depreciation Insurance Total fixed expenses Total expenses
(b)
Budget $170,000
Actual $170,000
Difference Favorable F Unfavorable U
$ 10,200 6,800 5,100 3,400 25,500
$ 11,000 6,900 5,100 3,450 26,450
$800 U 100 U 0 50 U 950 U
35,000 7,000 1,000 43,000 $ 68,500
35,000 7,000 1,000 43,000 $ 69,450
0 0 0 0 $950 U
FALLON COMPANY Selling Expense Flexible Budget Report For the Month Ended March 31, 2025
Sales Variable expenses Sales commissions Advertising Travel Delivery Total variable expenses Fixed expenses Sales salaries Depreciation Insurance Total fixed expenses Total expenses
Budget $180,000
Actual $180,000
Difference Favorable F Unfavorable U
$ 10,800 7,200 5,400 3,600
$ 11,000 6,900 5,100 3,450
$200 U 300 F 300 F 150 F
27,000
26,450
550 F
35,000 7,000 1,000 43,000 $ 70,000
35,000 7,000 1,000 43,000 $ 69,450
0 0 0 0 $550 F
EXERCISE 23.6 (Continued) [(Sales comm.: ($180,000 x 6%) - $11,000 = $200U); (Advert.: ($180,000 x 4%) - $6,900 = $300F); (Travel: ($180,000 x 3%) - $5,100 = $300F); (Del.: ($180,000 x 2%) - $3,450 = $150F); (Tot. var. exp.: $27,000 - $26,450 = $550F);(Sales sal.: ($35,000 - $35,000 = $0); (Depr.: ($7,000 - $7,000) = $0); (Ins.: ($1,000 - $1,000) = $0); (Tot. fix. exp.: $43,000 - $43,000 = $0); (Tot. exp.: $70,000 - $69,450 = $550F)] [(Sales comm.: (Act. Sales x Sales comm. %) – Act. sales comm. = Unfav. diff.); (Advert.: (Act. sales x Advert. %) – Act. advert. = Fav. diff.); (Travel: (Act. sales x Travel %) – Act. travel = Fav. diff.); ( Del.: (Act. sales x Del. %) – Act. del. = Fav. diff.);(Bud. tot. var. exp. – Act. var. exp. = Fav. diff.); (Sales sal.: (Bud. sales sal. – Act. sales sal.) = No diff.); (Depr.: (Bud. depr. – Act. depr.) = No diff.); (Ins.: (Bud. ins. – Act. ins.) = No diff.); (Bud. tot. fix. exp. – Act. tot. fix. exp. = No diff.);(Bud. tot. exp. – Act. tot. exp. = Fav. diff.)]
(c) Flexible budgets are essential in evaluating a manager’s performance in controlling variable expenses because the budget allowance varies directly with changes in the activity index. At $170,000 of sales, the manager was over budget (unfavorable) by $950 but at $180,000 of sales, the manager was under budget (favorable) by $550. LO2 BT: AN Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Management
EXERCISE 23.7 (a)
APPLIANCE POSSIBLE INC. Flexible Production Cost Budget Activity level Production levels Variable costs: Manufacturing ($6) Administrative ($4) Selling ($3) Total variable costs ($13) Fixed costs: Manufacturing Administrative Total fixed costs Total costs
90,000
100,000
110,000
$ 540,000 360,000 270,000 1,170,000
$ 600,000 400,000 300,000 1,300,000
$ 660,000 440,000 330,000 1,430,000
160,000 80,000 240,000 $1,410,000
160,000 80,000 240,000 $1,540,000
160,000 80,000 240,000 $1,670,000
(b) Let (X) represent number of units Sales price(X) = Variable costs(X) + Fixed costs + Profit Sales price(X) = Variable costs(X) + $240,000 + $60,000 (Sales price – Variable costs)(X) = $300,000 ($16 – $13)(X) = $300,000 $3(X) = $300,000
X = 100,000 units to be sold EXERCISE 23.7 (Continued) [($240,000 + $60,000) ÷ ($16 - $13) = 100,000] [(FC + Target net inc.) ÷ (USP – UVC) = Targeted units] LO2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Budgeting and Forecasting
EXERCISE 23.8 (a)
RENSING GROOMERS Flexible Budget Activity level Direct labor hours Variable costs: Grooming supplies ($5) Direct labor ($14) Overhead ($1) Total variable costs ($20) Fixed costs: Overhead Total fixed costs Total costs
550
600
700
$ 2,750 7,700 550 11,000
$ 3,000 8,400 600 12,000
$ 3,500 9,800 700 14,000
10,000 10,000 $21,000
10,000 10,000 $22,000
10,000 10,000 $24,000
(b) A flexible budget presents expected costs at various levels of production volume, not just one, so that comparisons can be made between actual costs and budgeted costs at the same volume. This allows the manager to determine whether a difference between the actual results and budget is due to better or worse cost control than expected or due to achieving a different volume than that upon which the static budget was predicated. (c) $21,000 ÷ 550 = $38.18 $22,000 ÷ 600 = $36.67 $24,000 ÷ 700 = $34.29 (d) Cost formula is $10,000 + $20(X), where (X) = direct labor hours Total cost = $10,000 + ($20 x 650) = $23,000. Number of clients = 650 hrs ÷ 1.30 hrs/client = 500 Cost per client = $23,000 ÷ 500 = $46.00 Charge per client = $46.00 x 1.40 = $64.40 [($10,000 + ($20 x 650) = $23,000); (650 ÷ 1.30 = 500); ($23,000 ÷ 500 = $46.00); ($46.00 x 140% = $64.40)] [(FC + (UVC/DLH x No. DLH) = Tot. cost); (No. DLH ÷ DLH/client = No. of clients); (Tot. cost ÷ No. of clients = Cost/client); (Cost/client x Sales markup % = Chrg./client)]
LO1, 2 BT: E Difficulty: Easy TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Budgeting and Forecasting
EXERCISE 23.9 (a)
SORIA COMPANY Selling Expense Flexible Budget Report Clothing Department For the Month Ended October 31, 2025
Sales in units Variable expenses Sales commissions ($0.30) Advertising expense ($0.09) Travel expense ($0.45) Free samples ($0.20) Total variable expenses ($1.04) Fixed expenses Rent Sales salaries Office salaries Depreciation—sale staff autos Total fixed expenses Total expenses
Budget 10,000
Actual 10,000
Difference Favorable F Unfavorable U
$ 3,000 900 4,500 2,000
$ 2,600 850 4,100 1,400
$ 400 F 50 F 400 F 600 F
10,400
8,950
1,450 F
1,500 1,200 800 500 4,000 $14,400
1,500 1,200 800 500 4,000 $12,950
0 0 0 0 0 $1,450 F
[(Sales comm.: (($2,400 ÷ 8,000) x 10,000) - $2,600 = $400F); (Advert.: (($720 ÷ 8,000) x 10,000) - $850 = $50F); (Travel: (($3,600 ÷ 8,000) x 10,000) - $4,100 = $400F); (Free samples: (($1,600 ÷ 8,000) x 10,000) - $1,400 = $600F); (Rent: ($1,500 – $1,500) = $0); (Sales sal.: ($1,200 - $1,200) = $0); (Off. sal.: ($800 - $800) = $0); (Depr.: ($500 - $500) = $0)] [(Sales comm.: ((Static bud. amt. ÷ Static bud. units) x Act. units) – Act. sales comm. = Fav. diff.); (Advert.: ((Static bud. amt. ÷ Static bud. units) x Act. units) – Act. advert. =Fav. diff.); (Travel: ((Static bud. amt. ÷ Static bud. units) x Act. units) – Act. travel = Fav. diff.); (Free samples: ((Static bud. amt. ÷ Static bud. units) x Act. units) – Act. free samples = Fav. diff.); (Rent: (Bud. rent – Act. rent) = No diff.); (Sales sal.: (Bud. sales sal. – Act. sales sal.) = No diff.); (Off. sal.: (Bud. off. sal. – Act. off. sal.) = No diff.); (Depr. : (Bud. depr. – Act. depr.) = No diff.)]
(b) No, Joe should not have been reprimanded. As shown in the flexible budget report, variable costs were $1,450 below budget. LO1, 2 BT: E Difficulty: Easy TOT: 7 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Budgeting and Forecasting
EXERCISE 23.10 (a)
CHUBBS INC. Manufacturing Overhead Flexible Budget Report For the Quarter Ended March 31, 2025
Variable costs Indirect materials Indirect labor Utilities Maintenance Total variable costs Fixed costs Supervisory salaries Depreciation Property taxes and insurance Maintenance Total fixed costs Total costs
(b)
Budget
Actual
Difference Favorable F Unfavorable U
$12,000 10,000 8,000 6,000 36,000
$13,500 9,500 8,700 5,000 36,700
$1,500 U 500 F 700 U 1,000 F 700 U
36,000 7,000
36,000 7,000
8,000 5,000 56,000 $92,000
8,300 5,000 56,300 $93,000
0 0 300 U 0 300 U $1,000 U
CHUBBS INC. Manufacturing Overhead Responsibility Report For the Quarter Ended March 31, 2025
Controllable Costs Indirect materials Indirect labor Utilities Maintenance* Supervisory salaries
Budget $12,000 10,000 8,000 11,000 36,000 $77,000
Actual $13,500 9,500 8,700 10,000 36,000 $77,700
Difference Favorable F Unfavorable U $1,500 U 500 F 700 U 1,000 F 0 $ 700 U
*Includes variable and fixed costs [(Ind. mat.: $12,000 - $13,500 = $1,500U); (Ind. labor: $10,000 - $9,500 = $500F); (Util.: $8,000 - $8,700 = $700U); (Maint.: ($6,000 + $5,000) – ($5,000 + $5,000) = $1,000F); (Super. sal.: $36,000 - $36,000 = $0)]
EXERCISE 23.10 (Continued) [(Ind. mat.: Bud. amt. – Act. amt. = Unfav. diff.); (Ind. labor: Bud. amt. – Act. amt. = Fav. diff.);(Util.: Bud. amt. – Act. amt. = Unfav. diff.); (Maint.: (Bud. VC + Bud. FC) – (Act. VC + Act. FC) = Fav. diff.);(Super. sal.: Bud. amt. Act. amt. = No diff.)] LO2, 3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.11 (a) URLINK COMPANY Home Internet Service Segment Responsibility Report For the Quarter Ended March 31, 2025
Service revenue Variable costs: Material and supplies Wages Gas and oil Total variable costs Contribution margin Controllable fixed costs: Supervisory salaries Insurance Equipment depreciation Total controllable fixed costs Controllable margin
Budget $25,000
Actual $26,200
Difference Favorable F Unfavorable U $1,200 F
1,600 3,000 2,800 7,400 17,600
1,200 3,250 3,400 7,850 18,350
400 F 250 U 600 U 450 U 750 F
9,000 4,000 1,500 14,500 $ 3,100
9,500 3,900 1,300 14,700 $ 3,650
500 U 100 F 200 F 200 U $ 550 F
[($1,200F + ($400F - $250U - $600U) = $750F); ($750F + (-$500U + $100F + $200F) = $550F)] [(Serv. rev. fav. diff. + (Mat. & supp. fav. diff. – Wages unfav. diff. – Gas & oil unfav. diff.) = CM fav. diff.); (CM fav. diff. + (-Super. sal. unfav. diff. + Ins. fav. diff. + Equip. depr. fav. diff.) = Control. margin fav. diff.)]
EXERCISE 23.11 (Continued) (b) MEMO TO:
Lenny Kirkland
FROM:
Student
SUBJECT:
The Reporting Principles of Performance Reports
When evaluating the performance of a company’s segments, the performance reports should: 1. Contain only data that are controllable by the segment’s manager. 2. Provide accurate and reliable budget data to measure performance. 3. Highlight significant differences between actual results and budget goals. 4. Be tailor-made for the intended evaluation. 5. Be prepared at reasonable intervals. I hope these suggested guidelines will be helpful in establishing the performance reporting system to be used by UrLink Company. LO2, 3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.12 (a) Fabricating Department = $50,000 fixed costs plus total variable costs of $2.00 per direct labor hour [($150,000 – $50,000) ÷ 50,000]. Assembling Department = $40,000 fixed costs plus total variable costs of $1.60 per direct labor hour [($120,000 – $40,000) ÷ 50,000]. [(Fab.: $50,000 + (($150,000 - $50,000) ÷ 50,000)); (Assem: $40,000 + (($120,000 - $40,000) ÷ 50,000))] [(Fab.: FC + ((Tot. costs – FC) ÷ Normal DLH)); ((Assem.: FC + ((Tot. costs – FC) ÷ Normal DLH))]
(b) Fabricating Department = $50,000 + ($2.00 x 53,000) = $156,000. Assembling Department = $40,000 + ($1.60 x 47,000) = $115,200. [(Fab.: $50,000 + ($2.00 x 53,000) = $156,000); (Assem.: $40,000 + ($1.60 x 47,000) = $115,200)] [(Fab.: FC + (UVC x Act. DLH) = Tot. costs); (Assem.: FC + (UVC x Act. DLH) = Tot. costs)]
EXERCISE 23.12 (Continued)
(c)
$300
Total Budgeted Cost Line
250
Costs in (000)
200 Budgeted Variable Costs
150
100
50 Budgeted Fixed Costs
0
10
20
30
40
50
60
70
80
90 100
Direct Labor Hours in (000) LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Budgeting and Forecasting
EXERCISE 23.13 (a) To Dallas Department Manager—Finishing Controllable Costs: Direct Materials Direct Labor Manufacturing Overhead Total
Budget $ 44,000 82,000 49,200 $175,200
Month: July Actual $ 42,500 83,400 51,000 $176,900
(b) To Assembly Factory Manager—Dallas Controllable Costs: Dallas Office Departments: Machining Finishing Total
Fav/Unfav $1,500 F 1,400 U 1,800 U $1,700 U
Month: July
Budget $ 92,000
Actual $ 95,000
Fav/Unfav $3,000 U
219,000 175,200 $486,200
220,000 176,900 $491,900
1,000 U 1,700 U $5,700 U
[(Off.: $92,000 - $95,000 = $3,000U); (Mach.: $219,000 - $220,000 = $1,000U); (Fin.: ($44,000 + $82,000 + $49,200) – ($42,500 + $83,400 + $51,000) = $1,700U)] [(Off.: Off. bud. – Act. bud. = Unfav. diff.); (Mach.: Mach. bud. – Mach. act. = Unfav. diff.); (Fin.: Bud. DM + Bud. DL + Bud. VOH) – (Act. DM + Act. DL + Act. VOH) = Unfav. diff.)]
(c) To Vice President—Production Controllable Costs: V P Production Assembly factories: Atlanta Dallas Tucson Total
Month: July
Budget $ 130,000
Actual $ 132,000
Fav/Unfav $2,000 U
420,000 486,200 496,500 $1,532,700
424,000 491,900 494,200 $1,542,100
4,000 U 5,700 U 2,300 F $9,400 U
LO3 BT: AP Difficulty: Easy TOT: 12 AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.14 (a)
MALONE COMPANY Mixing Department Responsibility Report For the Month Ended January 31, 2025 Controllable Cost Indirect labor Indirect materials Lubricants Maintenance Utilities
Budget $12,000 7,700 1,675 3,500 5,000 $29,875
Actual $12,250 10,200 1,650 3,500 6,400 $34,000
Difference $ 250 U 2,500 U 25 F -01,400 U $4,125 U
(b) Most likely, when management examined the responsibility report for January, they would determine that the differences were insignificant for indirect labor 2.1% of budget ($250 ÷ $12,000), lubricants 1.5% ($25 ÷ $1,675), and maintenance 0% and require no action. However, the differences for indirect materials 32.5% ($2,500 ÷ $7,700) and utilities 28% ($1,400 ÷ $5,000) would cause management to investigate further. As a result of their investigation, management would either take corrective action or modify the budgeted amounts for future months to reflect changing conditions. LO3 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.15 (a) 1. 2. 3. 4. 5. 6.
Controllable margin ($270,000 – $100,000) Variable costs ($600,000 – $270,000) Contribution margin ($450,000 – $320,000) Controllable fixed costs ($130,000 – $90,000) Controllable fixed costs ($180,000 – $95,000) Sales ($250,000 + $180,000)
$170,000 330,000 130,000 40,000 85,000 430,000
[(Women’s: ($270,000 - $100,000 = $170,000); ($600,000 - $270,000 = $330,000)); (Men’s: ($450,000 - $320,000 = $130,000); ($130,000 - $90,000 = $40,000)); (Children’s: ($180,000 - $95,000 = $85,000); ($250,000 + $180,000 = $430,000))] [(Women’s: (CM – Control. FC = Control. margin); (Sales – CM = VC)); (Men’s: (Sales – VC = CM); (CM – Control. Margin = Control. FC)); (Children’s: (CM – Control. margin = Control. FC); (VC + CM = Sales))]
EXERCISE 23.15 (Continued) (b) HORATIO INC. Women’s Shoe Division Responsibility Report For the Month Ended June 30, 2025
Sales Variable costs Contribution margin Controllable fixed costs Controllable margin
Budget $600,000 325,000 275,000 100,000 $175,000
Actual $600,000 330,000 270,000 100,000 $170,000
Difference Favorable F Unfavorable U $ 0 5,000 U 5,000 U 0 $5,000 U
LO3 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.16 (a)
HARRINGTON COMPANY Sports Equipment Division Responsibility Report For the Year Ended December 31, 2025
Sales Variable costs Cost of goods sold Selling and administrative Total Contribution margin Controllable fixed costs Cost of goods sold Selling and administrative Total Controllable margin
Budget
Actual
Difference
$900,000
$880,000
$20,000 U
440,000 60,000 500,000 400,000
408,000 61,000 469,000 411,000
32,000 F 1,000 U 31,000 F 11,000 F
100,000 90,000 190,000 $210,000
105,000 66,000 171,000 $240,000
5,000 U 24,000 F 19,000 F $30,000 F
(b) ($240,000 – $90,000)/$1,000,000 = 15% [($240,000 - $90,000) ÷ $1,000,000 = 15%] [(Act. control. margin – Noncontrol. FC) ÷ Ave. oper. assets = ROI] LO3, 4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.17 (a) Controllable margin = ($3,000,000 – $1,950,000 – $600,000) = $450,000 ROI = $450,000 ÷ $5,000,000 = 9% (b) 1.
Contribution margin percentage is 35%, or ($1,050,000 ÷ $3,000,000) Increase in controllable margin = $300,000 x 35% = $105,000 ROI = ($450,000 + $105,000) ÷ $5,000,000 = 11.1%
[($1,050,000 ÷ $3,000,000 = 35%); ($300,000 x 35% = $105,000); (($405,000 + $105,000) ÷ $5,000,000 = 11.1%)] [((Sales - VC) ÷ Sales = CM %); (Sales incr. x CM % = Incr. in control. margin); (Control. margin + Incr. in control. margin) ÷ Ave. oper. assets = ROI)]
2.
($450,000 + $150,000) ÷ $5,000,000 = 12%
[($450,000 + $150,000) ÷ $5,000,000 = 12%] [(Control. margin + Decr. in VC) ÷ Ave. oper. assets = ROI]
3.
$450,000 ÷ ($5,000,000 – ($5,000,000 x 6.25%)) = 9.6%
[$450,000 ÷ ($5,000,000 – ($5,000,000 x 6.25%)) = 9.6%] [Control. margin ÷ (Ave. oper. assets – Decr.)] LO4 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.18 (a) DINKLE AND FRIZELL DENTAL CLINIC Preventive Services Responsibility Report For the Month Ended May 31, 2025
Service revenue Variable costs Filling materials Novocain Dental assistant wages Supplies Utilities Total variable costs Contribution margin Controllable fixed costs Dentist salary Equipment depreciation Total controllable fixed costs Controllable margin Return on investment*
Budget $39,000
Actual $40,000
Difference Favorable F Unfavorable U $1,000 F
4,900 3,800 2,500 2,250 390 13,840 25,160
5,000 3,900 2,500 1,900 500 13,800 26,200
100 U 100 U 0 350 F 110 U 40 F 1,040 F
9,400 6,000 15,400 $ 9,760
9,800 6,000 15,800 $10,400
400 U 0 400 U $ 640 F
12.2%
13.0%
0.8% F
*Average investment = ($82,400 + $77,600) ÷ 2 = $80,000 Budget ROI = $9,760 ÷ $80,000 Actual ROI = $10,400 ÷ $80,000 ROI Difference = $640 ÷ $80,000 [(Bud.: $9,760 ÷ (($82,400 + $77,600) ÷ 2) = 12.2%); (Act.: $10,400 ÷ (($82,400 + $77,600) ÷ 2) = 13.0%); (Diff.: 12.2% - 13.0% = 0.8%F)] [(Bud.: Control. margin ÷ ((Beg. oper. assets + End. oper. assets) ÷ 2) = ROI); (Act.: Control. margin ÷ ((Beg. oper. assets + End. oper. assets) ÷ 2) = ROI); (Bud. ROI – Act. ROI = Fav. diff.)]
EXERCISE 23.18 (Continued) (b) MEMO TO: Drs. Reese Dinkle and Anita Frizell FROM: Student SUBJECT: Deficiencies in the Current Responsibility Reporting System The current reporting system has the following deficiencies: 1. 2.
3. 4.
It does not clearly show both budgeted goals and actual performance. It does not indicate the contribution margin generated by the center, which shows the amount available to go towards covering controllable fixed costs. It does not report only those costs controllable by the manager of the center. Instead, it includes both controllable and common fixed costs. This results in the center appearing to be unprofitable. It does not indicate the return on investment earned by the center.
All of these deficiencies have been corrected in the recommended responsibility report attached. As can be seen from that report, the Preventive Services center is profitable. The service revenues generated in this center are adequate to cover all of its costs, both variable and controllable fixed costs, and contribute toward the covering of the clinic’s common fixed costs. In addition, the report indicates the return on investment earned by the center and that it exceeds the budget goal. LO4 BT: AP Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
EXERCISE 23.19 Planes: ROI = Controllable margin ÷ Average operating assets 12%= Controllable margin ÷ $25,000,000 Controllable margin = $25,000,000 x 12% = $3,000,000 Contribution margin = Controllable margin + Controllable fixed costs = $3,000,000 + $1,500,000 = $4,500,000 Service revenue = Contribution margin + Variable costs = $4,500,000 + $5,500,000 = $10,000,000 [($25,000,000 x 12% = $3,000,000); ($3,000,000 + $1,500,000 = $4,500,000); ($4,500,000 + $5,500,000 = $10,000,000)] [(Ave. oper. assets x ROI = Control. margin); (Control. margin + Control. FC = CM); (CM + VC = Serv. rev.)]
Taxis: ROI = Controllable margin ÷ Average operating assets 10% = $80,000 ÷ Average operating assets Average operating assets = $80,000 ÷ 10% = $800,000 Controllable margin = Contribution margin – Controllable fixed costs $80,000 = $250,000 – Controllable fixed costs Controllable fixed costs = $250,000 – $80,000 = $170,000 Contribution margin = Service revenue – Variable costs $250,000 = $500,000 – Variable costs Variable costs = $500,000 – $250,000 = $250,000 [($80,000 ÷ 10% = $800,000); ($250,000 - $80,000 = $170,000); ($500,000 - $250,000 = $250,000)] [(Control. margin ÷ ROI = Ave. oper. assets); (CM – Control. margin = Control. FC); (Serv. rev. – CM = VC)]
EXERCISE 23.19 (Continued) Limos: ROI = Controllable margin ÷ Average operating assets = $210,000 ÷ $1,500,000 = 14% Controllable margin = Contribution margin $210,000 = $480,000 Controllable fixed costs
– Controllable fixed costs – Controllable fixed costs = $480,000 – $210,000 = $270,000
Contribution margin = Service revenue – Variable costs $480,000 = Service revenue – $300,000 Service revenue = $480,000 + $300,000 = $780,000 [($210,000 ÷ $1,500,000 = 14%); ($480,000 - $210,000 = $270,000); ($480,000 + $300,000 = $780,000)] [(Control. margin ÷ Ave. oper. assets = ROI); (CM – Control. margin = Control. FC); (CM + VC = Serv. Rev.)] LO4 BT: AN Difficulty: Moderate TOT: 25 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance : Performance Measurement
*EXERCISE 23.20 (a)
North Division: ROI = $140,000 ÷ $1,000,000 = 14% West Division: ROI = $360,000 ÷ $2,000,000 = 18% South Division: ROI = $210,000 ÷ $1,500,000 = 14%
(b)
North Division: Residual Income = $140,000 – (0.13 x $1,000,000) = $10,000 West Division: Residual Income = $360,000 – (0.16 x $2,000,000) = $40,000 South Division: Residual Income = $210,000 – (0.10 x $1,500,000) = $60,000
*EXERCISE 23.20 (Continued) (c)
1. If ROI is used to measure performance, only the North Division (with a 14% ROI) and the South Division (with a 14% ROI) would make the additional investment that provides a 16% ROI. The West Division presently earns an 18% return ($360,000 ÷ $2,000,000), and therefore would decline the investment. 2. If residual income is used to measure performance, all three divisions would probably make the additional investment because each would realize an increase in residual income.
LO5 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
*EXERCISE 23.21 (a) ROI
= Controllable margin 16% = $200,000 Average operating assets =
÷ Average operating assets ÷ Average operating assets $1,250,000
(b)
Controllable margin – (Minimum rate of return x Average operating assets) = Residual income $200,000 – (Minimum rate of return x $1,250,000) = $100,000 $100,000 = Minimum rate of return x $1,250,000 Minimum rate of return = 8%
(c)
Controllable margin Controllable margin Controllable margin
(d)
ROI = 24% =
– (Minimum rate of return x Average operating assets) = Residual income – (11% x $1,200,000) = $156,000 = $288,000
Controllable margin $288,000
÷ ÷
Average operating assets $1,200,000
LO5 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance : Performance Measurement
SOLUTIONS TO PROBLEMS PROBLEM 23.1
(a)
BUMBLEBEE COMPANY Packaging Department Monthly Manufacturing Overhead Flexible Budget For the Year 2025
Activity level Direct labor hours Variable costs Indirect labor ($0.42)* Indirect materials ($0.30) Repairs ($0.23) Utilities ($0.24) Lubricants ($0.06) Total variable costs ($1.25)
27,000
30,000
33,000
36,000
$11,340 8,100 6,210 6,480 1,620 33,750
$12,600 9,000 6,900 7,200 1,800 37,500
$13,860 9,900 7,590 7,920 1,980 41,250
$15,120 10,800 8,280 8,640 2,160 45,000
Fixed costs Supervision** Depreciation Insurance Rent Property taxes Total fixed costs Total costs
8,000 6,000 2,500 2,000 1,500 20,000 $53,750
8,000 6,000 2,500 2,000 1,500 20,000 $57,500
8,000 6,000 2,500 2,000 1,500 20,000 $61,250
8,000 6,000 2,500 2,000 1,500 20,000 $65,000
*$126,000/300,000 **$96,000/12 [($375,000 ÷ 300,000 = $1.25); ($240,000 ÷ 12 = $20,000)] [(Bud. ann. VC ÷ Bud. DLH = VC/DLH); (Bud. ann. FC ÷ No. mos. in a yr. = FC/mo.)]
PROBLEM 23.1 (Continued) (b)
BUMBLEBEE COMPANY Packaging Department Manufacturing Overhead Flexible Budget Report For the Month Ended October 31, 2025
Direct labor hours (DLH) Variable costs Indirect labor Indirect materials Repairs Utilities Lubricants Total variable costs Fixed costs Supervision Depreciation Insurance Rent Property taxes Total fixed costs Total costs
Budget at 27,000 DLH
Actual Costs 27,000 DLH
Difference Favorable F Unfavorable U
$11,340 8,100 6,210 6,480 1,620 33,750
$12,432 7,680 6,100 6,840 1,920 34,972
$1,092 U 420 F 110 F 360 U 300 U 1,222 U
8,000 6,000 2,500 2,000 1,500 20,000 $53,750
8,000 6,000 2,460 2,000 1,500 19,960 $54,932
0 0 40 F 0 0 40 F $1,182 U
[(Ind. Labor: $11,340 - $12,432 = $1,092U); (Ind. Mat.: $8,100 - $7,680 = $420F); (Repairs: $6,210 - $6,100 = $110F); (Util.: $6,480 - $6,840 = $360U); (Lub.: $1,620 - $1,920 = $300U); (Ins.: $2,500 - $2,460 = $40F)] [(Ind. labor: (Bud. amt. – Act. amt. = Unfav. diff.); (Ind. mat.: Bud. amt. – Act. amt. = Fav. diff.); (Repairs: Bud. amt. – Act. amt. = Fav. diff.); (Util.: Bud. amt. – Act. amt. = Unfav. diff.); (Lub.: Bud. amt. – Act. amt. = Unfav. diff.); (Ins.: Bud. amt. – Act. amt. = Fav. diff.)]
(c) The overall performance of management was slightly unfavorable. However, none of the unfavorable differences exceeded 10% of budget except for lubricants 18.5% ($300 ÷ $1,620). LO2 BT: AN Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting, Strategy, Planning & Performance: Performance Measurement
PROBLEM 23.2
(a)
ZELMER COMPANY Monthly Manufacturing Overhead Flexible Budget Ironing Department For the Year 2025
Activity level Direct labor hours Variable costs Indirect labor ($0.40) Indirect materials ($0.50) Factory utilities ($0.30) Factory repairs ($0.20) Total variable costs ($1.40) Fixed costs* Supervision Depreciation Insurance Rent Total fixed costs Total costs *Annual amount ÷ 12
35,000
40,000
45,000
50,000
$14,000 17,500 10,500 7,000 49,000
$16,000 20,000 12,000 8,000 56,000
$18,000 22,500 13,500 9,000 63,000
$20,000 25,000 15,000 10,000 70,000
4,000 1,500 1,000 2,500 9,000 $58,000
4,000 1,500 1,000 2,500 9,000 $65,000
4,000 1,500 1,000 2,500 9,000 $72,000
4,000 1,500 1,000 2,500 9,000 $79,000
PROBLEM 23.2 (Continued) (b)
ZELMER COMPANY Ironing Department Manufacturing Overhead Flexible Budget Report For the Month Ended June 30, 2025
Direct labor hours (DLH) Variable costs Indirect labor Indirect materials Factory utilities Factory repairs Total variable costs Fixed costs Supervision* Depreciation Insurance Rent Total fixed costs Total costs (1) 41,000 x $0.40 (5) 41,000 x $0.44
Budget at 41,000 DLH
Actual Costs 41,000 DLH
Difference Favorable F Unfavorable U
$16,400 (1) 20,500 (2) 12,300 (3) 8,200 (4) 57,400
$18,040 (5) 19,680 (6) 13,120 (7) 10,250 (8) 61,090
$1,640 U 820 F 820 U 2,050 U 3,690 U
4,000 1,500 1,000 2,500 9,000 $66,400
4,000 1,500 1,000 2,500 9,000 $70,090
0 0 0 0 0 $3,690 U
(2) 41,000 x $0.50 (6) 41,000 x $0.48
(3) 41,000 x $0.30 (7) 41,000 x $0.32
(4) 41,000 x $0.20 (8) 41,000 x $0.25
[(Ind. labor: $16,400 - $18,040 = $1,640U); (Ind. mat.: $20,500 - $19,680 = $820F); (Fact. util.: ($12,300 $13,120 = $820U); (Fact. repairs: $8,200 - $10,250 = $2,050U); (Tot. costs: $66,400 - $70,090 = $3,690U)] [(Ind. labor: Bud. amt. – Act. amt. = Unfav. diff.); (Ind. mat.: Bud. amt. – Act. amt. = Fav. diff.); (Fact. util.: Bud. amt. – Act. mat. = Unfav. diff.); (Fact. repairs: Bud. amt. – Act. amt. = Unfav. diff.); (Tot. costs: Bud. amt. – Act. amt. = Unfav. diff.)]
(c) The manager was ineffective in controlling variable costs ($3,690 U). Indirect labor was over budget by 10% ($1,640 ÷ $16,400) and Factory repairs by 25% ($2,050 ÷ $8,200). Both should be investigated. Fixed costs were effectively controlled. (d) The equation is fixed costs of $9,000 plus total variable costs of $1.40 per direct labor hour. *Both amounts come from Flexible Budget in Part (a)
PROBLEM 23.2 (Continued) (e)
Total Budgeted Cost Line
$80 70
Costs in (000)
60 50 Budgeted Variable Costs
40 30 20 10
Budgeted Fixed Costs
5
10
15
20
25
30
35
40
45
50
Direct Labor Hours in (000) LO2 BT: E Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting, Strategy, Planning & Performance: Performance Measurement
PROBLEM 23.3
(a) The equation is fixed costs $35,000 plus variable costs of $2.85 per unit ($171,000 ÷ 60,000 units).
(b)
RATCHET COMPANY Assembling Department Flexible Budget Report For the Month Ended August 31, 2025 Difference Units Variable costs* Direct materials ($0.80 x 58,000) Direct labor ($0.90 x 58,000) Indirect materials ($0.40 x 58,000) Indirect labor ($0.30 x 58,000) Utilities ($0.25 x 58,000) Maintenance ($0.20 x 58,000) Total variable ($2.85 x 58,000) Fixed costs Rent Supervision Depreciation Total fixed Total costs
Budget at 58,000 Units
Actual Costs 58,000 Units
Favorable F Unfavorable U
$ 46,400 52,200 23,200 17,400 14,500 11,600 165,300
$ 47,000 51,200 24,200 17,500 14,900 12,400 167,200
$ 600 U 1,000 F 1,000 U 100 U 400 U 800 U 1,900 U
12,000 17,000 6,000 35,000 $200,300
12,000 17,000 6,000 35,000 $202,200
0 0 0 0 $1,900 U
*The per unit variable costs are computed by taking the budget amount at 60,000 units and dividing it by 60,000. For example, direct $48, 000 . materials per unit is therefore $0.80 or 60, 000 This report provides a better basis for evaluating performance because the budget is based on the level of activity actually achieved. [(DM: $48,000 ÷ 60,000 = $.80); (DL: $54,000 ÷ 60,000 = $.90); (Ind. mat.: $24,000 ÷ 60,000 = $.40); (Ind. labor: $18,000 ÷ 60,000 = $.30); (Util.: $15,000 ÷ 60,000 = $.25); (Maint.: ($12,000 ÷ 60,000 = $.20)] [(DM: Static bud. amt. ÷ Bud. units = DM/unit); (DL: Static bud. amt. ÷ Bud. units = DL/unit); (Ind. mat.: Static bud. amt. ÷ Bud. units = Ind. mat./unit); (Ind. labor: Static bud. amt. ÷ Bud. units = Ind. labor/unit); (Util.: Static bud. amt. ÷ Bud. units = Util./unit); (Maint.: Static bud. amt. ÷ Bud. units = Maint./unit)]
PROBLEM 23.3 (Continued) (c)
RATCHET COMPANY Assembling Department Flexible Budget Report For the Month Ended September 30, 2025 Difference Units Variable costs Direct materials ($0.80 x 64,000) Direct labor ($0.90 x 64,000) Indirect materials ($0.40 x 64,000) Indirect labor ($0.30 x 64,000) Utilities ($0.25 x 64,000) Maintenance ($0.20 x 64,000) Total variable costs Fixed costs Rent Supervision Depreciation Total fixed costs Total costs
Budget at 64,000 Units
Actual Costs 64,000 Units
Favorable F Unfavorable U
$ 51,200 57,600 25,600 19,200 16,000 12,800 182,400
$ 51,700 56,320 26,620 19,250 16,390 13,640 183,920
$ 500 U 1,280 F 1,020 U 50 U 390 U 840 U 1,520 U
12,000 17,000 6,000 35,000 $217,400
12,000 17,000 6,000 35,000 $218,920
0 0 0 0 $1,520 U
Note that actual variable costs in September were 10% higher than the actual variable costs in August. Therefore, to find the actual variable costs in September, the actual variable costs in August must be increased 10% as follows:
PROBLEM 23.3 (Continued)
Direct materials Direct labor Indirect materials Indirect labor Utilities Maintenance
August (actual) $ 47,000 x 110% 51,200 x 110% 24,200 x 110% 17,500 x 110% 14,900 x 110% 12,400 x 110% $167,200
September (actual) = $ 51,700 56,320 26,620 19,250 16,390 13,640 $183,920
[(DM: ($.80 x 64,000) – ($47,000 x 110%) = $500U); (DL: ($.90 x 64,000) – ($51,200 x 110%) = $1,280F); (Ind. mat.: ($.40 x 64,000) – ($24,200 x 110%) = $1,020U); (Ind. labor: ($.30 x 64,000) – ($17,500 x 110%) = $50U); (Util.: ($.25 x 64,000) – ($14,900 x 110%) = $390U); (Maint.: ($.20 x 64,000) – ($12,400 x 110%) = $840U)] [(DM: (DM/unit x Act. units) – (Aug. act. costs x Incr. %) = Unfav. diff.); (DL: (DL/unit x Act. units) – (Aug. act. costs x Incr. %) = Fav. diff.); (Ind. mat.: (Ind. mat./unit x Act. units) – (Aug. act. costs x Incr. %) = Unfav. diff.); (Ind. labor: (Ind. labor/unit) – (Aug. act. costs x Incr. %) = Unfav. diff.); (Util.: (Util./unit x Act. units) – (Aug. act. costs x Incr. %) = Unfav. diff.); (Maint.: Maint./unit x Act. units) – (Aug. act. costs x Incr. %) = Unfav. diff.)] LO1, 2 BT: AN Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
PROBLEM 23.4
(a)
CLARKE INC. Patio Furniture Division Responsibility Report For the Year Ended December 31, 2025 Difference Budget
Actual
Favorable F Unfavorable U
Sales
$2,500,000
$2,550,000
$50,000 F
Variable costs Cost of goods sold Selling and administrative Total
1,300,000 220,000 1,520,000
1,259,000 226,000 1,485,000
41,000 F 6,000 U 35,000 F
Contribution margin
980,000
1,065,000
85,000 F
Controllable fixed costs Cost of goods sold Selling and administrative Total
200,000 50,000 250,000
203,000 52,000 255,000
3,000 U 2,000 U 5,000 U
$ 730,000
$ 810,000
$80,000 F
Controllable margin
[(Sales: $2,500,000 + $50,000 = $2,550,000); (Var. CGS: $1,300,000 - $41,000 = $1,259,000); (Var. S&A: $220,000 + $6,000 = $226,000); (CM: $980,000 + $85,000 = $1,065,000); (Control. FC CGS: $200,000 + $3,000 = $203,000); (Control. FC S&A: $50,000 + $2,000 = $52,000); (Control. margin: $730,000 + $80,000 = $810,000)] [(Sales: Bud. amt. + Fav. diff. = Act. amt.); (Var. CGS: Bud. amt. – Fav. diff. = Act. amt.); (Var. S&A: Bud. amt. + Unfav. diff. = Act. amt.); (CM: Bud. amt. + Fav. diff. = Act. amt.); (Control FC CGS: Bud. amt. + Unfav. diff. = Act. amt.); (Control FC S&A: Bud. amt. + Unfav. diff. = Act. amt.); (Control. margin: Bud. amt. + Fav. diff. = Act. amt.)]
(b) The manager effectively controlled revenues and costs. Contribution margin was $85,000 favorable and controllable margin was $80,000 favorable. Contribution margin was favorable primarily because sales were $50,000 over budget and variable cost of goods sold was $41,000 under budget. Apparently, the manager was able to control variable cost of goods sold when sales exceeded budget expectations. The manager was ineffective in controlling fixed costs. However, the unfavorable difference of $5,000 was approximately 6% of the favorable difference in controllable margin.
PROBLEM 23.4 (Continued) (c) Two costs are excluded from the report: (1) noncontrollable fixed costs and (2) indirect fixed costs. The reason is that neither cost is controllable by the Patio Furniture Division Manager. LO3 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
PROBLEM 23.5
(a)
OPTIMUS COMPANY Home Division Responsibility Report For the Year Ended December 31, 2025 (in thousands of dollars)
Sales Variable costs Cost of goods sold Selling and administrative Total Contribution margin Controllable direct fixed costs Cost of goods sold Selling and administrative Total Controllable margin ROI (1) $330 $2,000
(2) $360 $2,000
Difference Favorable F Unfavorable U $100 F
Budget $1,300
Actual $1,400
620 100 720 580
665 125 790 610
45 U 25 U 70 U 30 F
170 80 250 $ 330
170 80 250 $ 360
0 0 0 $ 30 F
16.5% (1)
18.0% (2)
1.5% F (3)
(3) $30 $2,000
[(Sales: $1,400 - $100 = $1,300); (VC CGS: $665 - $45 = $620); (VC S&A: $125 - $25 = $100); (CM: $610 - $30 = $580); (Control. margin: $360 - $30 = $330); (Bud. ROI: $330 ÷ $2,000 = 16.5%); (Act. ROI: $360 ÷ $2,000 = 18.0%); (Diff.: $30 ÷ $2,000 = 1.5%)] [(Sales: Act. amt. – Fav. diff. = Bud. amt.); (VC CGS: Act. amt. – Unfav. diff. = Bud. amt.); (VC S&A: Act. amt – Unfav. diff. = Bud. amt.); (CM: Act. amt. – Fav. diff. = Bud. amt.); (Control. margin: Act. amt. – Fav. amt. = Bud. amt.); (Bud.: Control. margin ÷ Ave. oper. assets = ROI); (Act.: Control. margin ÷ Ave. oper. assets = ROI); (Diff.: Diff. in control. margin ÷ Ave. oper. assets = ROI diff.)]
PROBLEM 23.5 (Continued) (b) The controllable margin of the manager of the Home Division was above budget expectations for the year by 9.1% ($30,000 ÷ $330,000). However, top management would likely recognize the limitations of using a static budget to evaluate the manager’s performance in controlling variable costs and therefore would adjust the budgeted amounts for variable costs based on the increased sales as follows: Cost of goods sold: $1,400,000 x ($620 ÷ $1,300) = $667,692 and Selling and administrative $1,400,000 x ($100 ÷ $1,300) = $107,692. When the adjusted budget amounts for the variable costs are evaluated, the cost of goods sold variance changes to a favorable variance of approximately $3,000 which is only .4% of the adjusted budget and would most likely not require further investigation. The selling and administrative variance is still unfavorable. The variance decreases to $17,308 which is 16.1% of the adjusted budget and most likely would still require further investigation to discover the cause(s) of this variance. (c) 1.
$360,000 + ($125,000 x 4%) = 18.25%. $2,000,000
[($360,000 + ($125,000 x 4%)) ÷ $2,000,000 = 18.25%] [(Act. control. margin + (Act. var. CGS x % decr.)) ÷ Ave. oper. assets = ROI]
2.
$360,000 $2,000,000 – ($2,000,000 x 10%) = 20%.
[$360,000 ÷ ($2,000,000 – ($2,000,000 x 10%)) = 20% [Act. control. margin ÷ (Ave. oper. assets – (Ave. oper. assets x % decr.)) = ROI]
3.
$360,000 + $80,000 = 22%. $2,000,000
[($360,000 + $80,000) ÷ $2,000,000 = 22%] [(Act. control. margin + CM incr.) ÷ Ave. oper. assets = ROI] LO4 BT: E Difficulty: Moderate TOT: 50 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
PROBLEM 23.6
(a) To Cutting Department Manager—Seattle Division Controllable Costs: Budget Actual Indirect labor $ 70,000 $ 73,000 Indirect materials 46,000 47,900 Maintenance 18,000 20,500 Utilities 17,000 20,100 Supervision 20,000 22,000 Total $171,000 $183,500
(b) To Division Production Manager—Seattle Controllable Costs: Budget Seattle Division $ 51,000 Departments: Cutting 171,000 Shaping 148,000 Finishing 205,000 Total $575,000
No. 1 Month: January Fav/Unfav $ 3,000 U 1,900 U 2,500 U 3,100 U 2,000 U $12,500 U
No. 2 Month: January Actual Fav/Unfav $ 52,500 $ 1,500 U 183,500 158,000 210,000 $604,000
12,500 U 10,000 U 5,000 U $29,000 U
[(Seattle div.: $51,000 - $52,500 = $1,500U); (Cut.: $171,000 - $183,500 = $12,500U); (Shape.: $148,000 $158,000 = $10,000U); (Fin.: $205,000 - $210,000 = $5,000U)] [(Seattle div.: (Bud. amt. – Act. amt. = Unfav. diff.); (Cut.: (Bud. amt. – Act. div. = Unfav. diff.); (Shape: Bud. amt. – Act. amt. = Unfav. diff.); (Fin.: Bud. amt. – Act. amt. = Unfav. diff.)]
(c) To Vice President—Production Controllable Costs: Budget V-P Production $ 64,000 Divisions: Seattle 575,000 Denver 673,000 San Diego 715,000 Total $2,027,000
No. 3 Month: January Actual Fav/Unfav $ 65,000 $ 1,000 U 604,000 678,000 722,000 $2,069,000
29,000 U 5,000 U 7,000 U $42,000 U
PROBLEM 23.6 (Continued) (d) To President Controllable Costs: President Vice-Presidents: Production Marketing Finance Total
Budget $ 74,200
No. 4 Month: January Actual Fav/Unfav $ 2,200 U $ 76,400
2,027,000 130,000 104,000 $2,335,200
2,069,000 133,600 109,000 $2,388,000
42,000 U 3,600 U 5,000 U $52,800 U
LO3 BT: AN Difficulty: Moderate TOT: 50 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
*PROBLEM 23.7
(a)
1.
ROI = Controllable Margin ÷ Average Operating Assets ROI = $2,460,000 ÷ $12,300,000 ROI = 20%
($2,460,000 ÷ $12,300,000 = 20%) (Control. margin ÷ Ave. oper. assets = ROI
2.
Residual Income = Controllable Margin – (Minimum Rate of Return x Average Operating Assets) Residual Income = $2,460,000 – (0.18 x $12,300,000) Residual Income = $2,460,000 – $2,214,000 = $246,000
[$2,460,000 – (18% x $12,300,000) = $246,000] [Control. margin – (Min. ROR x Ave. oper. assets) = Residual inc.]
(b)
The management of Jensen Division would clearly have accepted the investment opportunity it had in 2025 if residual income had been used as the performance measure because an increase in residual income results from a project whose ROI is greater than the minimum rate of return. If management of the Jensen Division had used ROI as the performance measure, the decision would be to reject the project because the ROI of 19% is less than Jensen’s ROI experience range of 20.1% to 23.5%. With bonuses based in part on ROI, the 19% project would have a negative effect on bonuses.
LO5 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CD23
(a)
CURRENT DESIGNS
Current Designs Rotomolded Line Manufacturing Budget For the Year Ended December 31, 2025 Units to be produced Budgeted Costs Costs: Variable costs Polyethylene powder Finishing kits Labor—type I Labor—type II Indirect materials Manufacturing supplies Maintenance and utilities Total variable costs Fixed costs Supervision Insurance Depreciation Total fixed costs Total costs
Calculation
4,000 x 54 x $1.50 4,000 x $170 4,000 x 2 x $15 4,000 x 3 x $12
4,000 kayaks Amount budgeted
$ 324,000 680,000 120,000 144,000 40,000 53,800 88,000 1,449,800 90,000 14,400 109,800 214,200 $1,664,000
[(Poly. powder: 4,000 x 54 x $1.50 = $324,000); (Fin. kits: 4,000 x $170 = $680,000); (Labor-Type I: 4,000 x 2 x $15 = $120,000); (Labor-Type II: 4,000 x 3 x $12 = $144,000)] [(Poly. powder: No. kayaks x Lbs./kayak x Cost/lb. = Cost); (Fin. kits: No. kayaks x Cost/kit = Cost); (Labor-type I: No. kayaks x Hrs./kayak x Hrly. rate = Cost); (Labor-type II: No. kayaks x Hrs./kayak x Hrly. rate = Cost)]
CD23 (Continued) (b)
Current Designs Rotomolded Line Manufacturing Flexible Budget Report For the Quarter Ended March 31, 2025 Units to be produced Costs: Variable costs Polyethylene powder (54 x $1.50 per unit) Finishing kits ($170 per unit) Labor—type I (2 hours per unit x $15 per hour) Labor—type II (3 hours per unit x $12 per hour) Indirect materials ($10* per unit) Manufacturing supplies ($13.45** per unit) Maintenance and utilities ($22*** per unit) Total variable costs ($362.45 per unit) Fixed costs Supervision (a.) Insurance (b.) Depreciation (c.) Total fixed costs Total costs *$40,000 ÷ 4,000 **$53,800 ÷ 4,000 ***$88,000 ÷ 4,000
900 kayaks 1,000 kayaks
1,050 kayaks
$ 72,900
$ 81,000
$ 85,050
153,000
170,000
178,500
27,000
30,000
31,500
32,400
36,000
37,800
9,000
10,000
10,500
12,105
13,450
14,123
19,800
22,000
23,100
326,205
362,450
380,573
22,500 3,600 27,450 53,550 $379,755
22,500 3,600 27,450 53,550 $416,000
22,500 3,600 27,450 53,550 $434,123
a. $ 90,000 ÷ 4 b. $ 14,400 ÷ 4 c. $109,800 ÷ 4
CD23 (Continued) (c)
Current Designs Rotomolded Line Manufacturing Flexible Budget Report For the Quarter Ended March 31, 2025
Difference Budget for Actual costs for F = favorable Units to be produced 1,050 kayaks 1,050 kayaks U = unfavorable Costs: Variable costs Polyethylene powder $ 85,050 $ 87,000 $1,950 Finishing kits 178,500 178,840 340 Labor—type I 31,500 31,500 0 Labor—type II 37,800 39,060 1,260 Indirect materials 10,500 10,500 0 Manufacturing supplies 14,123 14,150 27 Maintenance and 23,100 26,000 2,900 utilities Total variable costs 380,573 387,050 6,477 Fixed costs 22,500 20,000 2,500 Supervision Insurance 3,600 3,600 0 Depreciation 27,450 27,450 0 Total fixed costs 53,550 51,050 2,500 Total costs $434,123 $438,100 $3,977
U U U U U U F F U
[(Poly. powder: 1,050 x 54 x $1.50 = $85,050); (Fin. kits: 1,050 x $170 = $178,500); (Labor-type I: 1,050 x 2 x $15 = $31,500); (Labor-type II: 1,050 x 3 x $12 = $37,800); (Ind. mat.: 1,050 x ($40,000 ÷ 4,000) = $10,500); (Mfg. sup.: 1,050 x ($53,800 ÷ 4,000) = $14,123); (Maint. & util.: 1,050 x ($88,000 ÷ 4,000) = $23,100); (Super.: $90,000 ÷ 4 = $22,500); (Ins.: $14,400 ÷ 4 = $3,600); (Depr.: $109,800 ÷ 4 = $27,450)] [(Poly. powder: Kayaks made x Lbs./kayak x Cost/lb. = Bud. cost); (Fin. kits: Kayaks made x Cost/kit = Bud. cost); (Labor-type I: Kayaks made x Hrs./kayak x Hrly.rate = Bud. cost); (Labor-type II: Kayaks made x Hrs./kayak x Hrly. rate = Bud. cost); (Ind. mat.: Kayaks made x Ind. mat./kayak = Bud. cost); (Mfg. supp.: Kayaks made x Mfg. sup./kayak = Bud. cost); (Maint. & util.: Kayaks made x Maint. & util./kayak = Bud. cost); (Super.: Ann. bud. amt. ÷ No. qtrs./yr. = Qtrly. bud. cost); (Ins.: Ann. bud. amt. ÷ No. qtrs./yr. = Qtrly. bud. cost); (Depr.: Ann. bud. amt. ÷ No. qtrs../yr. = Qtrly. bud. cost)] LO2, 3 BT: AP Difficulty: Moderate TOT: 60 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Budgeting and Forecasting, Strategy, Planning & Performance: Performance Measurement
WC23
WATERWAYS CORPORATION
(a) WATERWAYS CORPORATION Manufacturing Overhead Flexible Budget For the Month of March Production in units Variable costs Indirect materials ($.05/unit)a Indirect labor ($.12/unit)b Utilities ($.10/unit)c Maintenance ($.07/unit)d Total variable costs ($.34/unit) Fixed Costs Salaries Depreciation Property taxes Insurance Janitorial Total fixed costs Total budgeted costs
115,500
116,500
117,500
118,500
119,500
$
$
$
$
5,925 14,220 11,850 8,295
$ 5,975 14,340 11,950 8,365
5,775 13,860 11,550 8,085
5,825 13,980 11,650 8,155
5,875 14,100 11,750 8,225
39,270
39,610
39,950
40,290
40,630
42,000 16,800 3,000 1,200 1,500 64,500 $103,770
42,000 16,800 3,000 1,200 1,500 64,500 $104,110
42,000 16,800 3,000 1,200 1,500 64,500 $104,450
42,000 16,800 3,000 1,200 1,500 64,500 $104,790
42,000 16,800 3,000 1,200 1,500 64,500 $105,130
Unit costs are based on the static budget costs. a. $ 5,875/117,500 units = $0.05/unit b. $14,100/117,500 units = $0.12/unit c. $11,750/117,500 units = $0.10/unit d. $ 8,225/117,500 units = $0.07/unit (b) WATERWAYS CORPORATION Manufacturing Overhead Flexible Budget Report For the Month of March
Production in units Variable costs Indirect materials Indirect labor Utilities Maintenance Total variable costs Fixed Costs Salaries Depreciation Property taxes Insurance Janitorial Total fixed costs Total budgeted costs
Actual 118,500
Difference Favorable Unfavorable
5,910 14,195 11,880 8,275 40,260
$15 F 25 F 30 U 20 F 30 F
42,000 16,800 3,000 1,200 1,500 64,500 $ 104,760
0 0 0 0 0 0 $30 F
Budget 118,500 $
5,925 14,220 11,850 8,295 40,290
42,000 16,800 3,000 1,200 1,500 64,500 $104,790
$
WC23 (Continued) (c) WATERWAYS CORPORATION Responsibility Report Manufacturing Overhead For the Month of March
Controllable Costs Indirect materials Indirect labor Utilities Maintenance
Budget $ 5,925 14,220 11,850 8,295 $40,290
Actual $ 5,910 14,195 11,880 8,275 $40,260
Difference Favorable Unfavorable $15 F $25 F $30 U $20 F $30 F
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT23.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) 1. The primary causes of the loss in net income were the decrease in the number of boarding days and the decrease in the boarding fee. The number of boarding days decreased by 2,900 or approximately 13% (2,900 days ÷ 21,900 days), and the boarding fee decreased from $25(a) per day to $20(b) per day, a decrease of 20% ($5 ÷ $25). Together these resulted in a $167,500 decrease in sales revenue, a decrease of approximately 31% ($167,500 ÷ $547,500). (a)
$547,500 ÷ 21,900 days = $25 per day $380,000 ÷ 19,000 days = $20 per day
(b)
2.
Management did a poor job in controlling variable expenses. Given that boarding days declined by about 13%, variable expenses should decline by about 13%, 2,900 variable expenses or more precisely, . However, variable should decline by $25,520 $192,720 x 21,900 expenses only declined by $14,330 or about 7.4% ($14,330 ÷ $192,720). Thus, management did a poor job in controlling variable expenses. Management did a better job in controlling fixed expenses. Fixed expenses were under budget by $4,000 and this includes the additional expenses incurred in advertising and entertainment.
3.
Management’s decisions to stay competitive probably were sound. Given the decline in boarding days, the decision not to replace the worker was sound. The decision to reduce rates was probably forced by the competition. Without the additional advertising and entertainment expenses, the loss in net income might have been even greater.
CT23.1 (Continued) (b)
GREEN PASTURES Income Statement Flexible Budget Report For the Year Ended December 31, 2025
Boarding days (BD) Service revenue ($25) Less variable expenses Feed ($5) Veterinary fees ($3) Blacksmith fees ($0.25) Supplies ($0.55) Total variable expenses ($8.80) Contribution margin Less fixed expenses Depreciation Insurance Utilities Repairs and maintenance Labor Advertising Entertainment Total fixed expenses Net income
Difference Favorable F Unfavorable U $ 95,000 U
Budget at 19,000 BD $475,000
Actual at 19,000 BD $380,000
95,000 57,000 4,750 10,450
104,390 58,838 4,984 10,178
9,390 U 1,838 U 234 U 272 F
167,200 307,800
178,390 201,610
11,190 U 106,190 U
40,000 11,000 14,000 11,000 95,000 8,000 5,000 184,000 $123,800
40,000 11,000 12,000 10,000 88,000 12,000 7,000 180,000 $ 21,610
$
0 0 2,000 F 1,000 F 7,000 F 4,000 U 2,000 U 4,000 F $102,190 U
[(Serv. rev.: (19,000 x $25) - $380,000 = $95,000U); (Feed: (19,000 x $5) - $104,390 = $9,390U); (Vet. fees: (19,000 x $3) - $58,838 = $1,838U); (Black. fees: (19,000 x $.25) - $4,984 = $234U); (Supp.: (19,000 x $.55) $10,178 = $272F); (CM: $307,800 - $201,610 = $106,190U); (Net inc.: $123,800 - $21,610 = $102,190U)] [(Serv. rev.: (Act. BD x USP) – Act. sales = Unfav. diff.); (Feed: (Act. BD x UVC) – Act. feed = Unfav. diff.); (Vet. fees: (Act. BD x UVC) – Act. vet. fees = Unfav. diff.); (Black. fees: (Act. BD x UVC) – Act. black. fees = Unfav. diff.); (Supp.: (Act. BD x UVC) – Act. sup. = Fav. diff.); (CM: Bud. amt. – Act. amt. = Unfav. diff.); (Net inc.: Bud. amt. – Act. amt. = Unfav. diff.)]
CT23.1 (Continued) (c) 1.
The primary causes of the decrease in net income are the decreases in boarding rates and volume. The average daily rate charged was $20 = ($380,000 ÷ 19,000). This rate resulted in a decrease in sales revenue of $95,000 or 20% = ($95,000 ÷ $475,000). Given that it is “an extremely competitive business,” if Green Pastures had not reduced rates, boarding days almost certainly would have declined even more.
2.
Management did a poor job of controlling variable expenses. These expenses in total were $11,190 over budget or 6.7%, or ($11,190 ÷ $167,200). Moreover, each individual variable expense was over budget, except for supplies. Management did a good job of controlling fixed expenses as noted in part (a).
3.
As noted in part (a), management’s decisions to stay competitive probably were sound.
(d) Given that the industry is “extremely competitive,” management should consider two options. One, become the lowest cost operator. If Green Pastures is the company with the lowest operating costs, it can under price its competitors and take customers away from them (increasing its sales). Eventually, some of its competitors (those with the highest operating costs) will go out of business, and Green Pastures will acquire their customers, or at least some of them. (Walmart is an example of this strategy.) Option two is to offer its customers a superior product or service. If customers perceive that Green Pastures is the “best” boarding stable in Kentucky, the company will take customers away from its competitors. Also, if Green Pastures is perceived as the “best,” many customers will be willing to pay a premium for its boarding service, and Green Pastures will be able to raise its rates. (Gillette is an example of this strategy.) LO1, 2 BT: S Difficulty: Moderate TOT: 60 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
CT23.2
MANAGERIAL ANALYSIS
(a) Mary Gammel—Profit Center: Responsible for sales, inventory cost, advertising, sales personnel, printing, and travel. She is not responsible for the assets invested in her division and probably does not control the rent or depreciation costs either. As a profit center manager she may have control of the insurance, but she probably does not. Stephen Flott—Cost Center: Responsible for inventory cost, advertising, sales personnel, printing, and travel. As a cost center manager, he may or may not have control of rent and insurance costs, but he probably does not. He does not have control of the assets invested in his department; thus, he does not have control of the depreciation. Jose Gomez—Investment Center: Responsible for all items shown. (b) Mary Gammel Budget differences: The cost of goods sold is 28% ($42,000 ÷ $150,000) above budget and so should definitely be brought to her attention. Travel is 30% ($6,000 ÷ $20,000) below budget. Students may differ as to whether they believe that this should be brought to her attention, however, it is a material difference and should be investigated. The differences in rent and depreciation should not be brought to her attention because she does not control those costs. Stephen Flott Budget differences: The cost of goods sold, which is 22% ($22,000 ÷ $100,000) above budget, should definitely be brought to his attention. Travel costs are 30% ($9,000 ÷ $30,000) below budget. This should probably be brought to his attention, so that he can verify that the goal of travel is being adequately accomplished by other means. The 67% ($20,000 ÷ $30,000) increase in rent and 10% ($10,000 ÷ $100,000) decrease in depreciation are not under his control and so should not be brought to his attention. It should probably be pointed out to students that all budget differences are monitored by someone within the company. These differences that are not the responsibility of the various managers are still within the scope of top management’s responsibility.
CT23.2 (Continued) Jose Gomez Budget differences: As manager of an investment center, Mr. Gomez is responsible for all categories of the budget. The selection in this case would be which differences merit his attention. Any decrease in a company’s gross profit rate (gross profit ÷ sales) is a cause for concern. (Remember the gross profit is sales minus cost of goods sold.) Thus, the 6% [($26,500 – $25,000) ÷ $25,000] increase in cost of goods sold should be brought to his attention. Travel is below budget 25% ($500 ÷ $2,000), which is $500. This is not a large percentage of total costs, nor is it a large dollar amount, so there could be an argument that this should be left out. The 23% ($2,300 ÷ $10,000) increase in rent is only a $2,300 increase, so it could be included, though it might be left out as immaterial. The 40% ($16,000 ÷ $40,000) increase in depreciation should definitely be included. LO3, 4 BT: AN Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
CT23.3
REAL-WORLD FOCUS
(a) The company’s costs do not increase proportionately with the revenues increase in the third and fourth quarter because the behavior of the costs is primarily fixed. (b) Static budgeting seems to be most appropriate for CA Technologies because costs do not respond proportionately with changes in the activity level (revenues). LO1 BT: AN Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT23.4
COMMUNICATION ACTIVITY
(a) Fred Bedner should be able to control all the variable costs and the fixed costs of supervision (but not his portion) and inspection. Insurance and depreciation ordinarily are not the responsibility of the department manager. (b) The total variable cost per unit is $25 ($50,000 ÷ 2,000). The total cost during the month to manufacture 1,500 units is variable costs $37,500 (1,500 x $25) plus fixed costs ($35,000) or $72,500 ($37,500 + $35,000). (c)
FLEMING COMPANY Production Department Manufacturing Overhead Flexible Budget Report For the Month Ended Difference Budget at 1,500 units
Actual at 1,500 units
Favorable F Unfavorable U
$16,500 9,000 7,500
$22,500 13,500 8,200
$ 6,000 U 4,500 U 700 U
4,500 37,500
5,000 49,200
500 U 11,700 U
Fixed costs Supervision Inspection costs Insurance expense Depreciation Total fixed
17,000 1,000 2,000 15,000 35,000
18,400 1,200 2,200 14,700 36,500
1,400 U 200 U 200 U 300 F 1,500 U
Total costs
$72,500
$85,700
$13,200 U
Variable costs* Indirect materials ($11) Indirect labor ($6) Maintenance expense ($5) Manufacturing supplies ($3) Total variable ($25)
*Unit variable costs = Budgeted amount ÷ Estimated units to be produced [(Ind. mat.: 1,500 x ($22,000 ÷ 2,000) = $16,500); (Ind. labor: 1,500 x ($12,000 ÷ 2,000) = $9,000); (Maint. exp.: 1,500 x ($10,000 ÷ 2,000) = $7,500); (Mfg. sup.: 1,500 x ($6,000 ÷ 2,000) = $4,500); (Tot. costs: $37,500 + $35,000 = $72,500)] [(Ind. mat.: Act. units x (Static bud. amt ÷ Bud. units) = Flex. bud. amt.); (Ind. labor: Act. units x (Static bud. amt ÷ Bud. units) = Flex. bud. amt.); (Maint. exp.: Act. units x (Static bud. amt ÷ Bud. units) = Flex. bud. amt.); (Mfg. sup.: Act. units x (Static bud. amt ÷ Bud. units) = Flex. bud. amt.); (Tot. costs: Flex. bud. VC + Flex. bud. FC = Flex. bud. tot. costs)]
CT23.4 (Continued) (d) A production department is a cost center. Thus, the report should include only the costs that are controllable by the production manager. In this type of report, no distinction is made between variable and fixed costs. FLEMING COMPANY Production Department Manufacturing Overhead Responsibility Report For the Month Ended
Controllable Cost Indirect materials Indirect labor Maintenance expense Manufacturing supplies Supervision* Inspection costs Total
Budget $16,500 9,000 7,500 4,500 7,000 1,000
Actual $22,500 13,500 8,200 5,000 8,400 1,200
Difference Favorable F Unfavorable U $ 6,000 U 4,500 U 700 U 500 U 1,400 U 200 U
$45,500
$58,800
$13,300 U
*$10,000 is deducted from both budget and actual for Mr. Bedner’s cost.
CT23.4 (Continued) To: From: Subject:
Mr. Fred Bedner, Production Manager , Vice President of Production Performance Evaluation for the Month of XXXXX
Your performance in controlling costs that are your responsibility was very disappointing in the month of XXXXX. As indicated in the accompanying responsibility report, total costs were $13,300 over budget. On a percentage basis, costs were 29% over budget. As you can see, actual costs were over budget for every cost item. In two instances, costs were more significantly over budget (indirect materials 36% and indirect labor 50%). Fred, it is imperative that you get costs under control in your department as soon as possible. I think we need to talk about ways to implement more effective cost control measures. I would like to meet with you in my office at 9 a.m. on Wednesday to discuss possible alternatives. LO1, 2, 3 BT: AN Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
CT23.5
ETHICS CASE
(a) The stakeholders in this ethical situation are: ⯈ The employees and managers of each investment center. ⯈ The central management and chief executive officer. ⯈ The customers who buy the product. ⯈ The owners or stockholders. (b) Pressure to perform is a frequently identified cause for unethical conduct. Employees are more prone to engage in unethical conduct when unreasonable demands are made upon them. Rather than lose their jobs or be demoted, if given no alternatives, employees may seek to cut corners, reduce quality control, use questionable sales tactics, and bend the rules. (c) The company might maintain open lines of communication with its employees to better know the pressures of its managers. By “keeping in touch,” the company may avoid making unreasonable demands on its managers and employees. The company might also develop a company code of ethical conduct and enforce it. However, if dismissal or demotion continues to be the probable consequence of failure to meet objectives, some managers are likely to engage in unethical behavior in an attempt to meet the objectives. LO4 BT: E Difficulty: Easy TOT: 15 min. AACSB: Ethics, Communication AICPA PC: Ethical Conduct, Communication IMA: Strategy, Planning & Performance: Performance Measurement, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT23.6
ALL ABOUT YOU
(a)
The basic idea is to set up individual envelopes each labeled with for a different expense category. Once you have used up the money in a particular envelope, you can’t use more for that purpose. Begin by preparing a monthly budget. Identify those items that you will pay in cash. These would include things like groceries, eating out at restaurants, clothing, gasoline, car repairs, gifts, and entertainment. These are the categories for which you will have envelopes. Next, decide how often to fill the envelopes and determine the amount to put in each envelope. If you continually run out of money in a particular envelope you many need to re-evaluate your allocation. If you don’t use up all the money in an envelope in one month, you can carry it over to the next month.
(b)
Answers will vary by student.
LO N/A BT: E Difficulty: Easy TOT: 20 min. AACSB: Technology, Communication AICPA PC: Communication IMA: Strategy, Planning & Performance: Budgeting and Forecasting
CT23.7
CONSIDERING YOUR COSTS AND BENEFITS
In general, in past years it has usually been considered prudent to purchase a home rather than to rent. As noted, over time, home prices have usually appreciated in most parts of the country. Mortgage interest provides some tax relief, and by purchasing a home you get some control over your housing costs. However, recent turbulence in the housing market has made the decision more complicated. In some parts of the country home prices have fallen considerably, and there is no indication how soon they will recover. In some areas renting appears to be an attractive alternative to purchasing. In the scenario described, there is considerable uncertainty surrounding this individual’s life. Purchasing a home is a huge decision, with very high transaction costs. It is often suggested that, because of the high transaction costs, you should not purchase a home unless you intend on living in it for a number of years. The person in the case is starting a new job in a new community. Until he or she is more certain that they will like their job, that the job is stable, and that they like the community, they should delay the purchase of a home. LO N/A BT: E Difficulty: Easy TOT: 20 min. AACSB: Reflective Thinking, Communication AICPA PC: Communication IMA: Strategy, Planning & Performance: Strategic Cost Management
CHAPTER 24 Standard Costs and Balanced Scorecard
Learning Objectives 1.
Describe standard costs.
2.
Determine direct materials variances.
3.
Determine direct labor and total manufacturing overhead variances.
4.
Prepare variance reports and balanced scorecards.
*5.
Identify the features of a standard cost accounting system.
*6.
Compute overhead controllable and volume variances.
*Note: All asterisked Questions, Brief Exercises, Exercises and Problems relate to material contained in the appendices to the chapter.
)
24-1
ANSWERS TO QUESTIONS 1.
(a) This is incorrect. Standard costs are predetermined unit costs. (b) Correct. Examples of governmental regulations that establish standards for a business are the Fair Labor Standards Act, the Equal Employment Opportunity Act, and a multitude of environmental laws.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
2.
(a) Standards and budgets are similar in that both are predetermined costs and both contribute significantly to management planning and control. The two terms differ in that a standard is a budgeted unit amount and a budget is a total amount. (b) There are important accounting differences between budgets and standards. Except in the application of manufacturing overhead to jobs and processes, budget data are not journalized in cost accounting systems. In contrast, standard costs may be incorporated into cost accounting systems. It is possible for a company to report inventories at standard costs in its financial statements, but it is not possible to report inventories at budgeted costs.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
3.
In addition to facilitating management planning, standard costs offer the following advantages to an organization: (1) They promote a greater economy by making employees more “cost-conscious.” (2) They may be useful in setting selling prices. (3) They contribute to management control by providing a basis for evaluating cost control. (4) They are useful in highlighting variances in “management by exception.” (5) They simplify the costing of inventories and reduce clerical costs.
LO1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
4.
The management accountant provides input to the setting of standards through the accumulation of historical cost data and knowledge of the behavior of costs in response to changes in activity levels. Management has the responsibility for setting the standards.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
5.
Ideal standards represent optimum levels of performance under perfect operating conditions. Normal standards represent efficient levels of performance that are attainable under expected operating conditions.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
6.
(a) The direct materials price standard should be based on the purchasing department’s best estimate of the cost of raw materials and an amount for related costs such as receiving, storing, and handling. (b) The direct materials quantity standard should be based on both quality and quantity requirements plus allowances for unavoidable waste and normal spoilage.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
7.
Agree. The direct labor quantity standard should include allowances for rest periods, cleanup, machine setup, and machine downtime.
LO1 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
Questions Chapter 24 (Continued) 8.
With standard costs, the predetermined overhead rate is determined by dividing budgeted overhead costs by an expected standard activity index.
LO1 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
9.
A favorable cost variance has a positive connotation. It suggests efficiencies in incurring manufacturing costs and in using direct materials, direct labor, and manufacturing overhead. An unfavorable cost variance has a negative connotation. It suggests that too much was paid for one or more of the manufacturing cost elements or that the elements were used inefficiently.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
10.
(a) (1) actual price. (b) (3) actual quantity. (c) (5) standard price.
(2) standard price. (4) standard price. (6) standard quantity.
LO2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
11.
(1) – (3) = total labor variance; (1) – (2) = labor price variance; and (2) – (3) = labor quantity variance.
LO3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
12.
Overhead applied = $9 x 27,000 = $243,000.
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
13.
Variances should be reported to appropriate levels of management as soon as possible. The principle of “management by exception” may be used with variance reports.
LO4 BT: C Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
14.
The purchasing department would be responsible for an unfavorable materials price variance when it paid more than the standard price for the materials. The purchasing department would also be responsible for an unfavorable materials quantity variance if it purchased materials of inferior quality which caused an excess use of materials.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
15.
The four perspectives of the balanced scorecard are: financial, customer, internal process, and learning and growth. The financial perspective employs financial measures of performance used by most firms. The customer perspective evaluates the company from the viewpoint of those people who buy its product in terms of price, quality, product innovation, customer service, and other dimensions. The internal process perspective evaluates the value chain—product development, production, delivery and after-sale service—to ensure that the company is operating effectively and efficiently. The learning and growth perspective evaluates how well the company develops and retains its employees. The four perspectives are linked in that the results in one perspective influence the results in the next.
LO4 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
16.
Kerry James is not correct. The balanced scorecard does not replace financial measures, it instead integrates both financial and nonfinancial measures. In fact, financial measures are very critical to the balanced scorecard, since they represent the final “destination” of all the company’s efforts.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-3
Questions Chapter 24 (Continued) 17.
The possibilities for nonfinancial measures are limitless. Some that were mentioned in the chapter were: capacity utilization of factories, average age of key assets, impact of strikes, brand-loyalty statistics, market profile of customer-end products, number of new products, employee stock ownership percentages, number of scientists and technicians used in R&D, customer satisfaction data, factors affecting customer product selection, number of patents and trademarks held, customer brand awareness, number of ATMs by state, number of products used by average customer, percentage of customer service calls handled by interactive voice response units, personnel cost per employee, credit card retention rates.
LO4 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA FC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
18.
(a)
Variances are reported in income statements for management below gross profit which is reported at standard costs. Each variance is identified and the total variance is shown. (b)Standard costs may be used in costing inventories when there is no significant difference between actual costs and standard costs. When there are significant differences, actual costs must be reported.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*19. (a) A standard cost accounting system is a double-entry system of accounting in which standard costs are used in making entries and standard cost variances are formally recognized in the accounts. (b) The variance account will have: (1) a debit balance when the materials price variance is unfavorable and (2) a credit balance when the labor quantity variance is favorable. LO5 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*20. Overhead controllable variance = actual overhead costs ($248,000) – overhead budgeted. Overhead budgeted is based on standard hours allowed as follows: variable costs (27,000 x $5 = $135,000) + fixed costs (28,000 x $4 = $112,000) = total overhead budgeted ($247,000). Thus, the controllable variance is $1,000 unfavorable. LO6 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement [$248,000 – ((27,000 x $5) + (28,000 x $4)) = $1,000 U] [Act. OH costs – (Bud. VOH costs + Bud. FOH costs) = Unfav. control. var.]
*21. The purpose of computing the overhead volume variance is to determine whether factory facilities were efficiently used during the period. The basic equation is fixed overhead rate X (normal capacity – standard hours allowed). LO6 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*22. Fixed costs remain the same at every level of activity within the relevant range. Since the predetermined overhead rate is based on normal capacity, it follows that if standard hours allowed are less than standard hours at normal capacity, fixed overhead costs will be underapplied. The reverse is true when production exceeds normal capacity. LO6 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*23. John should include the following points about overhead variances: (1) Standard hours allowed are used in each of the variances. (2) Budgeted costs for the controllable variance are derived from the flexible budget. (3) The controllable variance generally pertains to variable costs. (4) The volume variance pertains solely to fixed costs. LO6 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 24.1 (a) Standards are stated as a per unit amount. Thus, the standards are materials $2.80 ($1,400,000 ÷ 500,000) and labor $3.40 ($1,700,000 ÷ 500,000). [(Mat.: $1,400,000 ÷ 500,000 = $2.80); (Labor: $1,700,000 ÷ 500,000 = $3.40)] [(Mat.: Est. cost ÷ Est. units = Std. cost/unit); (Labor: Est. cost ÷ Est. units = Std. cost/unit)]
(b) Budgets are stated as a total amount. Thus, the budgeted costs for the year are materials $1,400,000 and labor $1,700,000. LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
BRIEF EXERCISE 24.2 (a) Standard direct materials price per gallon = $2.60 ($2.30 + $0.20 + $0.10). (b) Standard direct materials quantity per gallon = 4 pounds (3.6 +0 .4). (c) Standard materials cost per gallon = $10.40 ($2.60 x 4). ($2.60 x 4 = $10.40) (Std. cost/lb. X Std. lbs./ga. = Std. DM cost/ga.) LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
BRIEF EXERCISE 24.3 (a) Standard direct labor rate per hour = $16.00 ($14.00 + $0.80 + $1.20). (b) Standard direct labor hours per gallon = 1.5 hours (1.1 + 0.25 +0 .15). (c) Standard labor cost per gallon = $24.00 ($16.00 x 1.5). ($16 x 1.5 = $24) (Std. DL rate/hr. x Std. DLH/ga. = Std. DL cost/ga.) LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
BRIEF EXERCISE 24.4 Total materials variance = $1,192 U (3,200 x $5.06*) – (3,000** x $5.00). Materials price variance = $192 U (3,200 x $5.06) – (3,200 x $5.00). Materials quantity variance = $1,000 U (3,200 x $5.00) – (3,000 x $5.00). *$16,192 ÷ 3,200 **1,500 x 2 LO2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement [(3,200 x ($16,192 ÷ 3,200)) – ((1,500 x 2) x $5.00) = $1,192U]
24-5
[(lbs.DM used x (Cost of DM purch. ÷ lbs. purch) – ((Units made x std. lbs./unit) x Std. Cost/lb.) = Unfav. tot. DM var.]
BRIEF EXERCISE 24.5 Total labor variance = $1,220 U (2,150 x $10.80) – (2,000* x $11.00). Labor price variance = $430 F (2,150 x $10.80) – (2,150 x $11.00). Labor quantity variance = $1,650 U (2,150 x $11.00) – (2,000 x $11.00). *1,000 x 2 LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
[(2,150 x $10.80) – ((1,000 x 2) x $11) = $1,220U] [(Act. DLH x Act. rate/DLH) – ((Units made x Std.DLH/unit) x Std. rate/DLH) = Unfav. tot. DL var.]
BRIEF EXERCISE 24.6 The equation is:
Actual Overhead Overhead – Applied = Total Overhead Variance $118,000 – $123,600* $5,600 F
*20,600 x $6 = $123,600 LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement [$118,000 – (20,600 x $6) = $5,600F] [(Act. OH – (Std. DLH allowed x Std. rate/DLH) = Fav. tot. OH var.]
BRIEF EXERCISE 24.7 1. 2. 3. 4.
financial ............................ customer .......................... internal process ............... learning and growth.........
(c) return on assets (d) brand recognition (a) factory capacity utilization (b) employee work days missed due to injury
LO4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*BRIEF EXERCISE 24.8 (a) Raw Materials Inventory ............................................. Materials Price Variance ..................................... Accounts Payable ...............................................
12,000
(b) Work in Process Inventory (5,800 X $2*) ................... Materials Quantity Variance ............................... Raw Materials Inventory (5,600 X $2) .................
11,600
500 11,500 400 11,200
*$12,000 ÷ 6,000 *BRIEF EXERCISE 24.8 (Continued) LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Anaytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*BRIEF EXERCISE 24.9 (a) Factory Labor.............................................................. Labor Price Variance .......................................... Factory Wages Payable ......................................
24,900
(b) Work in Process Inventory (3,150 x $8.30*) .............. Labor Quantity Variance..................................... Factory Labor ......................................................
26,145
900 24,000 1,245 24,900
*$24,900 ÷ 3,000 LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*BRIEF EXERCISE 24.10 The equation is:
Overhead Overhead Actual Overhead – Budgeted = Controllable Variance $14,400 F $118,000 – $132,400*
*(20,600 x $4) + $50,000 = $132,400 LO6 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement [$118,000 – ((20,600 x $4) + $50,000) = $14,400F] [Act. OH – ((Std. DLH allowed x Std. VOH rate/DLH) + Bud. FOH) = Fav. OH control. var.]
*BRIEF EXERCISE 24.11 The equation is: Fixed Overhead x (Normal Capacity Hrs. – Standard Hrs. Allowed) Rate
=
Overhead Volume Variance
$2.00*/hr. x (25,000 – 20,600)
=
$8,800 U
*($50,000 ÷ 25,000 hrs.) LO6 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-7
[($50,000 ÷ 25,000) x (25,000 – 20,600) = $8,800U] [(Bud. FOH ÷ Normal DLH) x (Normal DLH – Std. DLH allowed) – Unfav. OH vol. var.]
SOLUTIONS FOR DO IT! EXERCISES DO IT! 24.1 Manufacturing Cost Element Direct materials Direct labor Manufacturing overhead Total
Standard Quantity 2 pounds 0.2 hours 0.2 hours
x
Standard = Price $ 5.00 16.00 20.00
Standard Cost $10.00 3.20 4.00 $17.20
LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting ($10.00 + $3.20 + $4.00 = $17.20) (Std. DM cost/unit + Std. DL cost/ unit + Std. MOH cost/unit = Tot. std. cost/unit)
DO IT! 24.2 The variances are: Total materials variance = (29,000 x $6.30) – (32,000* x $6.00) = $9,300 favorable Materials price variance = (29,000 x $6.30) – (29,000 x $6.00) = $8,700 unfavorable Materials quantity variance = (29,000 x $6.00) – (32,000* x $6.00) = $18,000 favorable
*(16,000 X 2) LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement [(29,000 x $6.30) – ((16,000 x 2) x $6.00) = $9,300F] [Act. qty. purch. x Act. price) – ((Units made x std. DM/unit) x Std. price) = Fav. tot. DM var.]
DO IT! 24.3 (a) The labor variances are: Total labor variance = (4,000 x $14.30) – (3,800* x $14.00) = $4,000 unfavorable Labor price variance = (4,000 x $14.30) – (4,000 x $14.00) = $1,200 unfavorable Labor quantity variance = (4,000 x $14.00) – (3,800* x $14.00) = $2,800 unfavorable (b) The total overhead variance is: Total overhead variance = $81,300 – $83,600** = $2,300 favorable *2,000 x 1.9 **3,800 hours x $22.00 LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
[(Labor: (4,000 x $14.30) – ((2,000 x 1.9) x $14.00) = $4,000U); (OH: $81,300 – (3,800 x $22) = $2,300F)] [(Labor: (Act. DLH x Act. DLH rate) – ((No. units made x Std. DLH/unit) x Std. DLH rate) = Unfav. tot. DL var.); (OH: Act. OH – (Std. DLH allowed x Std. OH rate/DLH) = Fav. tot. OH var.)]
DO IT! 24.4 Sales revenue Cost of goods sold (at standard) Standard gross profit Variances Materials price $350 U Materials quantity 1,700 F Labor price 800 F Labor quantity 500 F Overhead 1,200 U Total variance favorable Gross profit (actual)
$92,100 51,600 40,500
1,450 $41,950
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation [($92,100 - $51,600) + (-$350 + $1,700 + $800 + $500 - $1,200) = $41,950] [(Sales rev. – CGS @ std.) + (Unfav. DM price var. + Fav. DM qty. var. + Fav. DL price var. + Fav. DL qty. var. – Unfav. OH var.) = GP @ act.]
24-9
SOLUTIONS TO EXERCISES EXERCISE 24.1 (a) Direct materials: (2,000 x 3) x $5 = $30,000 Direct labor: (2,000 x 1/2) x $16 = $16,000 = $11,200 Overhead: $16,000 x 70% (b) Direct materials: 3 x $5 = $15.00 Direct labor: 1/2 x $16 = 8.00 Overhead: $8.00 x 70% = 5.60 Standard cost: $28.60 [(3 x $5) + (1/2 x $16) + ($8.00 x 70%) = $28.60] [(Std. lbs./unit x Std. price/lb.) + (Std. DLH/unit x Std. DLH rate) + (Std. DL cost/unit x Std. OH rate/DLH) = Std. cost/unit]
(c) The advantages of standard costs which are carefully established and prudently used are: 1. Management planning is facilitated. 2. Greater economy is promoted by making employees more costconscious. 3. Setting selling prices is facilitated. 4. Management control is enhanced by having a basis for evaluation of cost control. 5. Variances are highlighted in management by exception. 6. Costing of inventories is simplified and clerical costs are reduced. LO1 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 24.2 Ingredient Grape concentrate Sugar (54 ÷ 50) Lemons (60 ÷ 50) Yeast Nutrient Water (2,600 ÷ 50)
Amount Per Gallon 60* oz. 1.08 lb. 1.2 1 tablet 1 tablet 52 oz.
Standard Standard Waste Usage 4% (a) 62.5 oz. 10% (b) 1.20 lb. 25% (c) 1.6 0% 1 tablet 0% 1 tablet 0% 52 oz.
*3,000 ÷ 50 (a) .96X = 60 ounces; or X = (60 ounces) /.96. (b) .90X = 1.08 pounds; or X = (1.08 pounds)/.90. (c) .75X = 1.2 lemons; or X = (1.2 lemons) /.75.
Standard Price $0.06 0.30 0.60 0.25 0.20 0.005
Standard Cost Per Gallon $3.75 0.36 0.96 0.25 0.20 0.26 $5.78
EXERCISE 24.2 (Continued) LO1 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [Std. usage: (Grape:((3,000 ÷ 50) ÷ (1.00 - .04)) = 62.5 oz.); (Sugar: ((54 ÷ 50) ÷ (1.00 - .10)) = 1.20 lb.); (Lemons: ((60 ÷ 50) ÷ (1.00 - .25)) = 1.6 lemons); (Yeast: 1 tablet); (Nutrient: 1 tablet); (Water: 2,600 ÷ 50 = 52 oz.)] [Std. usage: (Grape: ((Tot. oz. ÷ No. gallons) ÷ % used) = Std. oz./ga.); (Sugar: ((Tot. lbs. ÷ No, gallons) ÷ % used) = Std. lbs./ga.); (Lemons: ((Tot. lemons ÷ No. ga.) ÷ % used) = Std. no. lemons/ga.); (Yeast: Std. no. tablets/ga.); (Nutrient: Std. no. tablets/ga.); (Water: (Tot. oz. ÷ No. ga.= Std. oz./ga.)]
EXERCISE 24.3 Direct materials Cost per pound [($5 – (2% x $5)) + $0.25] Pounds per unit (4.5 + 0.5)
$5.15 x 5
$25.75
Direct labor Cost per hour ($12 + $3) Hours per unit (2 + .4)
$ 15 x 2.4
36.00
Manufacturing overhead 2.4 hours x $7 Total standard cost per unit
16.80 $78.55
LO1 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting [DM: ($5 – (2% x $5) + $.25) x (4.5 + 0.5) = $25.75] [DM: (Cost/lb – Cash disc. + Frt.) x (lbs. in fin. unit + Normal spoilage) = Std. DM cost/unit]
EXERCISE 24.4 (a) Actual service time Setup and downtime (20% x 1.0) Cleanup and rest periods (30% x 1.0) Standard direct labor hours per oil change
1.0 hours 0.2 hours 0.3 hours 1.5 hours
(b) Hourly wage rate Payroll taxes ($12 x 10%) Fringe benefits ($12 x 25%) Standard direct labor hourly rate
$12.00 1.20 3.00 $16.20
[$12.00 + ($12 x 10%) + ($12 x 25%) = $16.20] [Hrly. wage rate + (Hrly. wage rate x Payroll tax rate) + (Hrly. wage rate x Fringe benefit rate) = Std. DLH rate]
(c) Standard direct labor cost per oil change
= =
1.50 hours x $16.20 per hour $24.30
24-11
EXERCISE 24.4 (Continued) (d) Direct labor quantity variance
= (1.60 hours x $16.20) – (1.50 hours x = $16.20) = $25.92 – $24.30 $1.62 U
[(1.6 x $16.20) – (1.5 x $16.20) = $1.62U] [(Act. DLH x Std. DLH rate) – (Std. DLH x Std. DLH rate) = Unfav. DL qty. var.] LO1, 3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
EXERCISE 24.5 (a) Total materials variance: (AQ x AP) – (SQ x SP) (29,000 x $4.70) (28,200* x $5.00) $136,300 – $141,000 = $4,700 F *9,400 x 3 [(29,000 x $4.70) – ((9,400 x 3) x $5.00) = $4,700F] [(Act. qty. purch. x Act. price/unit) – ((Units made x Std. DM/unit) x Std. price/unit) = Fav. Tot. DM var.]
Materials price variance: (AQ x AP) – (AQ x SP) (29,000 x $4.70) (29,000 x $5.00) $136,300 – $145,000 = $8,700 F Materials quantity variance: (AQ x SP) – (SQ x SP) (29,000 x $5.00) (28,200 x $5.00) $145,000 – $141,000 = $4,000 U (b) Total materials variance: (AQ x AP) – (SQ x SP) (28,000 x $5.15) (28,200 x $5.00) $144,200 – $141,000 = $3,200 U Materials price variance: (AQ x AP) – (AQ x SP) (28,000 x $5.15) (28,000 x $5.00) $144,200 – $140,000 = $4,200 U
EXERCISE 24.5 (Continued) Materials quantity variance: (AQ x SP) – (SQ x SP) (28,000 x $5.00) (28,200 x $5.00) $140,000 – $141,000 = $1,000 F [(28,000 x $5) – (28,200 x $5) = $1,000F] [(Act. qty. used x Std. price/unit) – (Std. qty. allowed x Std. price/unit) = Fav. DM qty. var.] LO2 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.6 (a) Total labor variance: (AH x AR) – (SH x SR) (40,600 x $12.15) (40,000* x $12.00) $493,290 – $480,000 = $13,290 U *10,000 x 4 [(40,600 x $12.15) – ((10,000 x 4) x $12.00) = $13,290U] [(Act. DLH x Act. DLH rate) – ((No. units made x Std. DLH/unit) x Std. DLH rate) = Unfav. tot. DL var.]
(b) Labor price variance: (AH x AR) – (AH x SR) (40,600 x $12.15) (40,600 x $12.00) $493,290 – $487,200 = $6,090 U Labor quantity variance: (AH x SR) – (SH x SR) (40,600 x $12.00) (40,000 x $12.00) $487,200 – $480,000 = $7,200 U (c) Labor price variance: (AH x AR) – (AH x SR) (40,600 x $12.15) (40,600 x $12.25) $493,290 – $497,350 = $4,060 F Labor quantity variance: (AH x SR) – (SH x SR) (40,600 x $12.25) (41,000* x $12.25) $497,350 – $502,250 = $4,900 F *4.1 x 10,000 [(40,600 x $12.25) – ((10,000 x 4.1) x $12.25) = $4,900F] [(Act. DLH x Std. DLH rate) – ((Units made x Std. DLH/unit) x Std. DLH rate) = F DL qty. var.] LO3 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-13
EXERCISE 24.7 Total materials variance: (AQ x AP) – (SQ x SP) (1,900 x $2.65*) (1,840** x $2.50) $5,035 – $4,600 = $435 U [(1,900 x ($5,035 ÷ 1,900)) – ((230 x 8) x $2.50) = $435U] [(Act. qty. purch. x (Act. tot. cost ÷ Act. qty. purch)) – ((Units made x Std. DM/unit) x Std. DM price = Unfav. tot. DM var.]
Materials price variance: (AQ x AP) – (1,900 x $2.65) $5,035 – *$5,035 ÷ 1,900
(AQ x SP) (1,900 x $2.50) $4,750
= $285 U
**230 x 8
Materials quantity variance: (SQ x SP) (AQ x SP) – (1,900 x $2.50) (1,840 x $2.50) $4,600 = $150 U $4,750 – Total labor variance: (AH x AR) – (SH x SR) (700 x $11.60*) (690** x $12.00) $8,120 – $8,280 = $160 F *$8,120 ÷ 700
**230 x 3
[(700 x ($8,120 ÷ 700)) – ((230 x 3) x $12.00) = $160F] [(Act. DLH x (Act. DL cost ÷ Act. DLH)) – ((Units made x Std. DLH/unit) x Std. DLH rate) = Fav. tot. DL var.]
Labor price variance: (AH x AR) – (AH x SR) (700 x $11.60) (700 x $12.00) $8,120 – $8,400
= $280 F
Labor quantity variance: (AH x SR) – (SH x SR) (700 x $12.00) (690 x $12.00) $8,400 – $8,280
= $120 U
EXERCISE 24.7 (Continued) (Not Required) Materials Variance Matrix (1)
(2)
(3)
Actual Quantity x Actual Price 1,900 x $2.65 = $5,035
Actual Quantity x Standard Price 1,900 x $2.50 = $4,750
Standard Quantity X Standard Price (8 x 230) x $2.50 = $4,600
Price Variance (1) – (2) $5,035 – $4,750 = $285 U
Quantity Variance (2) – (3) $4,750 – $4,600 = $150 U
Total Variance (1) – (3) $5,035 – $4,600 = $435 U
Labor Variance Matrix (1)
(2)
(3)
Actual Hours x Actual Rate 700 x $11.60 = $8,120
Actual Hours x Standard Rate 700 x $12.00 = $8,400
Standard Hours x Standard Rate (3 x 230) x $12.00 = $8,280
Price Variance (1) – (2) $8,120 – $8,400 = $280 F
Quantity Variance (2) – (3) $8,400 – $8,280 = $120 U
Total Variance (1) – (3) $8,120 – $8,280 = $160 F
LO2, 3 BT: AP Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-15
EXERCISE 24.8 (a) Total materials variance: (AQ x AP) – (SQ x SP) (1,220 x $128) (1,200 x $130) $156,160 – $156,000 = $160 U [(1,220 x $128) – (1,200 x $130) = $160U] [(Act. qty. purch. x Act. price) – (Std. qty. allowed x Std. price) = Unfav. tot. DM var.]
Materials price variance: (AQ x AP) – (AQ x SP) (1,220 x $128) (1,220 x $130) $156,160 – $158,600 = $2,440 F Materials quantity variance: (AQ x SP) – (SQ x SP) (1,220 x $130) (1,200 x $130) $158,600 – $156,000 = $2,600 U Total labor variance: (AH x AR) – (SH x SR) (4,150 x $13) (4,300 x $12.50) $53,950 – $53,750 = $200 U [(4,150 x $13) – (4,300 x $12.50) = $200U] [(Act. DLH x Act. DLH rate) – (Std. DLH allowed x Std. DLH rate) = Unfav. tot. DL var.]
Labor price variance: (AH x AR) – (AH x SR) (4,150 x $13) (4,150 x $12.50) $53,950 – $51,875
= $2,075 U
Labor quantity variance: (AH x SR) – (SH x SR) (4,150 x $12.50) (4,300 x $12.50) $51,875 – $53,750 = $1,875 F (b) The unfavorable materials quantity variance may be caused by the carelessness or inefficiency of production workers. Alternatively, the excess quantities may be caused by inferior quality materials acquired by the purchasing department.
EXERCISE 24.8 (Continued) The unfavorable labor price variance may be caused by misallocation of the work force by the production department. In this case, more experienced workers may have been assigned to tasks normally done by inexperienced workers. An unfavorable labor variance may also occur when workers are paid higher wages than expected. The manager who authorized the wage increase is responsible for this variance. LO2, 3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.9 (a)
Number of units = Total direct materials standard cost ÷ Direct materials standard cost per unit Number of units = $410,000 ÷ $20.00 (5 lb x $4 per lb) = 20,500 OR Number of units = Total direct labor standard cost ÷ Direct labor standard cost per unit Number of units = $164,000 ÷ $8 (0.8 hr. x $10 per hr.) = 20,500
[$410,000 ÷ (5 x $4) = 20,500] [Tot. DM std. cost ÷ (Std. lbs./unit x Std. DM cost/lb.) = No. units produced] [$164,000 ÷ (0.8 x $10) = 20,500 [Tot. DL std. cost ÷ (Std. hrs./unit x Std. DL cost/hr.) = No. units produced
(b) AQ = [(SQ x SP) ± Quantity variance] ÷ SP AQ = ($410,000 + $9,000) ÷ $4.00 per lb = 104,750 pounds (c)
AP = [(AQ x SP) ± Price variance] ÷ AQ AP = [(104,750 x $4) – $2,095] = $416,905; $416,905 ÷ 104,750 lb = $3.98/lb
[((104,750 x $4) -$2,095) ÷ 104,750 = $3.98] [((Act. qty. used x Std. DM price) – DM fav. price var.) ÷ Act. qty. used = Act. DM price]
(d) AH = [(SH x SR) ± Quantity variance] ÷ SR AH = ($164,000 + $22,000) ÷ $10.00/hr = 18,600 hours (e)
AR = [(AH x SR) ± Price variance] ÷ AH AP = [(18,600 x $10) + $3,906] = $189,906 ÷ 18,600 hr = $10.21/hr
[((18,600 x $10) + $3,906) ÷ 18,600 = $10.21] [((Act. DLH x Std. DLH rate) + DL unfav. price var.) ÷ Act. DLH = Act. DLH rate] LO2, 3 BT: AN Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-17
EXERCISE 24.10 TOBY TOOL & DIE COMPANY Direct Labor Variance Report For the Month Ended March 31, 2025 Job No.
Actual Hours
Standard Hours
A257 A258 A259
221 450 300
225 430 300
$ 80.00 F $20.00 400.00 U $21.00 0 $20.60
$20.00 $20.00 $20.00
A260
116 110 Totals
120.00 U $18.00 $ 440.00 U
$20.00
LQV = SR x (AH – SH) (b) LPV = AH x (AR – SR) (a)
Quantity Actual Standard Price (a) (1) (2) Variance Rate Rate Variance (b) Explanation $
0 Repeat job 450.00 U Rush job 180.00 U Replacement worker 232.00 F New trainee $398.00 U
(1)
Actual costs ÷ actual hours Standard costs ÷ standard hours
(2)
LO3, 4 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement [(A258 qty. var.: $20 x (450 – 430) = $400U); (A259 price var.: 300 x ($20.60 - $20.00) = $180U)] [(A258 qty. var.: Std. DLH rate x (Act. DLH – Std. DLH) = Unfav. DL qty. var.); (A259 price var.: Act. DLH x (Act. DLH rate – Std. DLH rate) = Unfav. DL price var.)]
EXERCISE 24.11 Total overhead variance: Actual Overhead – Overhead Applied $263,000 – $260,000 (52,000 x $5)
= $3,000 U
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement [$263,000 – (52,000 x $5) = $3,000U] [Act. OH – (Std. DLH allowed x Std. OH rate/DLH) = Unfav. tot. OH var.]
EXERCISE 24.12 (a)
Overhead Budget (at normal capacity) Variable $250,000 Fixed 600,000
(b)
Standard Hours Allowed 95,000
÷
x
Direct Labor Hours (at normal capacity) 100,000 100,000 Predetermined Overhead Rate $8.50
(c) Actual Overhead – $856,000 – ($256,000 + $600,000)
Overhead Applied $807,500 (95,000 x $8.50)
=
Predetermined Overhead Rate $2.50 $6.00
=
Overhead Applied $807,500
Total Overhead = Variance = $48,500 U
[($256,000 + $600,000) – (95,000 x $8.50) = $48,500U] [(Act. VOH + Act. FOH) – (Std. DLH allowed x Std. OH rate/DLH) = Unfav. tot. OH var.] LO3 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.13 (a)
(AQ X AP) – (SQ x SP) = Total Materials Variance ( $10,200) – (2,100* x $5) = $300 F (AQ x AP) – (AQ x SP) = Materials Price Variance ( $10,200) – (2,400 x $5) = $1,800 F (AQ x SP) – (SQ x SP) = Materials Quantity Variance (2,400 x $5) – (2,100* x $5) = $1,500 U *1,050 x 2
[($10,200) – ((1,050 x 2) x $5) = $300F] [(Act. qty. used x Act. price) – ((Units made x Std. DM/unit) x Std. DM price) = Fav. tot. DM var.]
(b) One possible cause of an unfavorable materials quantity variance is the purchase of substandard materials. Such materials would normally be purchased at a lower price than normal, which means there would also be favorable materials price variance. Substandard materials could also cause work slowdowns and delays, causing an unfavorable labor quantity variance. Therefore, the purchase of substandard materials could cause all three variances mentioned. LO2, 3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-19
EXERCISE 24.14 (a) PICARD LANDSCAPING Variance Report – Purchasing Department For the Current Month (1) Actual Actual Price Pounds Per Project Purchased Pound Remington 500 $2.40 Chang 400 2.30 Wyco 550 2.60
(2) Standard Price Per Pound $2.50 2.50 2.50
Total price variance
Price Variance (a) Explanation $50 F Purchased poor-quality seeds 80 F Seeds on sale 55 U Price/lb. increased $75 F
(a)
MPV = AQ x (AP – SP) Actual costs ÷ actual quantity (2) Standard costs ÷ standard quantity (1)
[($1,200 ÷ 500 = $2.40); ($1,150 ÷ 460 = $2.50); (500 x ($2.40 - $2.50) = $50F)] [(Act. cost of DM purch. ÷ Act. qty. purch. = Act. price/lb.); (Std. cost of DM used ÷ Std. qty. allowed = Std. price/lb.); (Act. DM lbs. purch. x (Act. price/lb. – Std. price/lb.) = Fav. DM price var.)]
(b) PICARD LANDSCAPING Variance Report – Production Department For the Current Month
Project Remington Chang Wyco
Actual Pounds 500 400 550
Standard Pounds 460 410 480
Total quantity variance
Standard Price Per Pound $2.50 2.50 2.50
Quantity (b) Variance Explanation $100 U Purchased poor-quality seeds 25 F Purchased higher-quality seeds 175 U New employee $250 U
(b)MQV = SP x (AQ – SQ)
LO2, 4 BT: AP Difficulty: Moderate TOT: 14 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.15 URBAN CORPORATION Variance Report – Purchasing Department For Week Ended January 9, 2025 Type of Materials Rogue 11 Storm 17 Beast 29
Quantity Actual Standard Price Explanation Purchased Price Price Variance 27,500 lbs. $5.20 $5.00 $5,500 U Price increase 7,000 oz. $3.45 $3.30 $1,050 U Rush order $0.40 $0.43 $ 660 F Bought larger quantity 22,000 unit s. 27,500 = $5,500/($5.20 – $5.00). $5,500 U because the actual price ($5.20) exceeds the standard price ($5.00). $1,050/7,000 = $0.15; $3.30 + $0.15 = $3.45 $660/22,000 = $0.03; $0.40 + $0.03 = $0.43 LO4 BT: AP Difficulty: Moderate TOT: 14 min. AACSB: Analytic AICPA AC: Reporting IMA: Strategy, Planning & Performance: Performance Measurement [($5,500 ÷ ($5.20 - $5.00) = 27,500); (27,500 x ($5.20 - $5.00) = $5,500U); ($3.30 + ($1,050 ÷ 7,000) = $3.45); ($.40 + ($660 ÷ 22,000) = $.43)] [(Price var. ÷ (Act. price – Std. price) = Qty. purch.); (Qty. purch. x (Act. price – Std. price) = Unfav. price var.); (Std. price + (Price var. ÷ Qty. purch.) = Act. price); (Act. price + (Price var. ÷ Qty. purch.) = Std. price)]
EXERCISE 24.16 FISK COMPANY Income Statement For the Month Ended January 31, 2025 Sales revenue (8,000 x $8) ............................................. Cost of goods sold (8,000 x $5)..................................... Gross profit (at standard) .............................................. Variances Materials price ........................................................ $1,200 U Materials quantity ................................................... 800 F Labor price .............................................................. 550 U Labor quantity......................................................... 750 U Overhead ................................................................. 800 U Total variance—unfavorable .......................... Gross profit (actual) ....................................................... Selling and administrative expenses ............................ Net income......................................................................
$64,000 40,000 24,000
2,500 21,500 8,000 $13,500
LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Statement Preparation [((8,000 x $8) – (8,000 x $5)) + (-$1,200 + $800 - $550 - $750 - $800) = $21,500 - $8,000 = $13,500] [((Units sold x USP) – (Units sold x Unit std. cost)) + (- Unfav. DM price var. + Fav. DM qty. var. – Unfav. DL price var. – Unfav. DL qty. var. – Unfav. OH var.) = GP @ actual – S&A exp. = Net inc.]
24-21
EXERCISE 24.17 1.
Balanced scorecard—(c) An approach that incorporates financial and nonfinancial measures in an integrated system that links performance measurement and a company’s strategic goals.
2.
Variance—(a) The difference between total actual costs and total standard costs.
3.
Learning and growth perspective—(d) A viewpoint employed in the balanced scorecard to evaluate how well a company develops and retains its employees.
4.
Nonfinancial measures —(e) An evaluation tool that is not based on dollars.
5.
Customer perspective—(f) A viewpoint employed in the balanced scorecard to evaluate the company from the perspective of those people who buy its products or services.
6.
Internal process perspective—(h) A viewpoint employed in the balanced scorecard to evaluate the efficiency and effectiveness of the company’s value chain.
7.
Ideal standards—(g) An optimum level of performance under perfect operating conditions.
8.
Normal standards—(b) An efficient level of performance that is attainable under expected operating conditions.
LO4 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement , Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.18 1. 2. 3. 4. 5. 6.
Customer perspective. Learning and growth perspective. Financial perspective. Customer perspective. Learning and growth perspective. Internal process perspective.
LO4 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.19 1. 2. 3. 4. 5. 6.
Learning and growth perspective. Financial perspective. Customer perspective. Internal process perspective. Learning and growth perspective. Customer perspective.
LO4 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*EXERCISE 24.20 1.
2.
3.
4.
5.
Raw Materials Inventory (18,000 x $4.40) ................. Materials Price Variance (18,000 x $.10)................... Accounts Payable (18,000 x $4.50) ...................
79,200 1,800
Work in Process Inventory (17,500 x $4.40)............. Materials Quantity Variance (500 x $4.40) ................ Raw Materials Inventory (18,000 x $4.40) .........
77,000 2,200
Factory Labor (15,300 x $5.50).................................. Labor Price Variance (15,300 x $.50) ................ Factory Wages Payable (15,300 x $5.00) ..........
84,150
Work in Process Inventory (15,400 x $5.50)............. Labor Quantity Variance (100 x $5.50).............. Factory Labor (15,300 x $5.50) ..........................
84,700
Work in Process Inventory ($84,700 x 100%)........... Manufacturing Overhead ...................................
84,700
81,000
79,200 7,650 76,500 550 84,150 84,700
LO5 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 24.21 (a) $136,000 ($138,000 – $2,000). ($138,000 - $2,000 = $136,000) (Act. amt. purch. – Unfav. DM var. = Std. amt. purch.)
(b) $139,000 ($136,000 + $3,000). (c) $143,500 ($145,000 – $1,500). ($145,000 - $1,500 = $143,500) (Std. DL cost – Fav. DL price var. = Act. DL cost)
(d) $145,900 ($145,000 + $900). (e) $163,800 ($165,000 – $1,200). 24-23
*EXERCISE 24.21 (Continued) ($165,000 - $1,200 = $163,800) (Std. OH cost – Fav. OH var. = Act. OH cost) LO2, 3, 5 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*EXERCISE 24.22 Raw Materials Inventory (1,900 x $2.50)............................ Materials Price Variance (1,900 x $0.15) ........................... Accounts Payable (1,900 x $2.65) ..............................
4,750 285
Work in Process Inventory (1,840* x $2.50) ...................... Materials Quantity Variance (60 x $2.50)........................... Raw Materials Inventory (1,900 x $2.50) ....................
4,600 150
5,035
4,750
*230 x 8 Factory Labor (700 x $12) .................................................. Labor Price Variance (700 x $0.40) ............................ Factory Wages Payable (700 x $11.60) ......................
8,400
Work in Process Inventory (690* x $12) ............................ Labor Quantity Variance (10 x $12) ................................... Factory Labor (700 x $12)...........................................
8,280 120
280 8,120
8,400
*230 x 3 LO5 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Reporting & Control: Cost Accounting
*EXERCISE 24.23 (a) Item Variable overhead ................................. Fixed overhead ...................................... Total overhead....................................... (b) Total overhead variance: Actual Overhead – Overhead Applied $55,500 – $53,460 (16,200* x $3.30) *4,050 x 4 hrs. = 16,200 hrs.
Amount $34,650 19,800 $54,450
Hours 16,500 16,500 16,500
= $2,040 U
Rate $2.10 1.20 $3.30
*EXERCISE 24.23 (Continued) Overhead controllable variance: Actual Overhead – Overhead Budgeted = $1,680 U $55,500 – $53,820 ((16,200 x $2.10) + $19,800] Overhead volume variance: Standard Hours Fixed Overhead Normal Capacity Rate x Hours – Allowed (4,050 x 4)] = $360 U $1.20 x [(16,500 – [(Tot. OH var.: $55,500 – ((4,050 x 4) x $3.30) = $2,040U); (OH control. var.: $55,500 – ((16,200 x $2.10) + $19,800) = $1,680U); (OH vol. var.: $1.20 x (16,500 – (4,050 x 4)) = $360U)] [(Tot. OH var.: Act. mfg. OH – ((Units made x Std. DLH/unit) x Tot. OH rate) = Unfav. tot. OH var.); (OH control. var.: Act. mfg. OH – ((Std. DLH allowed x VOH rate) + Bud. FOH) = Unfav. OH control. var.); (OH vol. var.: FOH rate x (Normal DLH – Std. DLH allowed) = Unfav. OH vol. var.)]
(c) The overhead controllable variance is generally associated with variable overhead costs. Thus, this variance indicates the production manager’s inefficiency in controlling variable overhead costs. The overhead volume variance relates to fixed overhead costs. This variance indicates whether factory facilities were efficiently used. In this case 300 (16,500 – 16,200) hours of factory capacity were not utilized. LO6 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-25
*EXERCISE 24.24 (a)
1. Total actual overhead cost
=
Overhead Budgeted
+
= ($18,000 + $12,600) +
Overhead Controllable Variance $1,200
= $31,800 [($18,000 + $12,600) + $1,200 = $31,800] [(Bud. VOH + Bud. FOH) + OH control. var. = Tot. act. OH)
2.
Actual variable overhead cost
= Actual Overhead – Fixed Overhead –
= $31,800
$12,600
= $19,200 3.
Variable overhead cost applied = 2,000 hours x $9 = $18,000
4.
Fixed overhead cost applied
= 2,000 hours x $6 = $12,000
5.
Overhead volume variance
= Overhead x
(Capacity – Hours)
=
(2,100*
$6
x
–
2,000)
= $600 U *$12,600 ÷ $6 per hour = 2,100 hours [$6 x (($12,600 ÷ $6) – 2,000) = $600U] [Std. FOH rate x ((Bud. FOH ÷ Std. FOH rate) – Std. hrs. allowed) = Unfav. OH vol. var.]
(b)
Number of loans processed
= Standard hours allowed ÷ Standard hours per application = 2,000 ÷ 2 = 1,000 loans processed
(2,000 ÷ 2 = 1,000) (Std. hrs. allowed ÷ Std. hrs./application = No. loans processed) LO6 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
EXERCISE 24.25 (a) (Actual) – (Applied) = Total Overhead Variance ($19,500) – (1,800 x $10*) = $1,500 U (Actual) – ($19,500) – Fixed OH Rate $3**
(Budgeted) ($18,600)
x
*$240,000/24,000
Normal Capacity (2,000***
= Overhead Controllable Variance = $900 U
– –
Standard Hours Allowed 1,800)
**($6,000 X 12)/24,000
Overhead = Volume = Variance $600 U
***24,000/12
[(Tot. OH var.: $19,500 – (1,800 x ($200,000 ÷ 20,000)) = $1,500U); (OH control. var.: $19,500 - $18,600 = $900U); (OH vol. var.: (($6,000 x 12) ÷ 24,000) x ((24,000 ÷ 12) – 1,800) = $600U)] [(Tot. OH var.: Act. OH – (Std. DLH x (Est. ann. OH ÷ Est. ann. DLH)) = Unfav. tot. OH var.); (OH control. var.: May act. OH – May bud. OH = Unfav. OH control. var.); (OH vol. var.: ((May bud. FOH x Mos. in a yr.) ÷ Est. ann DLH) x ((Est. ann. DLH ÷ Mos. in a yr.) – Std. hrs. allowed) = Unfav. OH vol. var.)]
(b) The cause of an unfavorable controllable variance could be higher than expected use of indirect materials, indirect labor, and factory supplies, or increases in indirect manufacturing costs, such as fuel and maintenance costs. An unfavorable volume variance would be caused by production of fewer units than what is considered normal capacity. LO6 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-27
SOLUTIONS TO PROBLEMS PROBLEM 24.1
(a) Total materials variance: – (SQ x SP) (AQ x AP) (5,100 x $7.20) (4,800 x $7.00) $36,720 – $33,600 = $3,120 U [(5,100 x ($36,720 ÷5,100)) – (4,800 x $7.00) = $3,120U] [(Act. lbs. purch. x Act. price/lb.) – (Std. lbs. allowed x Std. price/lb.) = Unfav. tot. mat. var.]
Materials price variance: (AQ x AP) – (AQ x SP) (5,100 x $7.20) (5,100 x $7.00) $36,720 – $35,700 = $1,020 U Materials quantity variance: (AQ x SP) – (SQ x SP) (5,100 x $7.00) (4,800 x $7.00) $35,700 – $33,600 = $2,100 U Total labor variance: (AH x AR) – (SH x SR) (7,400 x $12.50) (7,680* x $12.00) $92,500 – $92,160 = $340 U *4,800 x 1.6 [(7,400 x ($92,500 ÷ 7,400)) – ((4,800 x 1.6) x $12.00) = $340U] [(Act. DLH x Act. DLH rate) – ((Units made x Std. DLH/unit) x Std. DLH rate) = Unfav. tot. labor var.]
Labor price variance: (AH x AR) – (AH x SR) (7,400 x $12.50) (7,400 x $12.00) $92,500 – $88,800 = $3,700 U Labor quantity variance: (AH x SR) – (SH x SR) (7,400 x $12.00) (7,680 x $12.00) $88,800 – $92,160 = $3,360 F
PROBLEM 24.1 (Continued) (b) Total overhead variance: Actual Overhead – Applied Overhead ($59,700 + $21,000) – (7,680 x $10.00) $80,700 $76,800 = $3,900 U [($59,700 + $21,000) – ((4,800 x 1.6) x $10) = $3,900U] [(Act. VOH + Act. FOH) – ((Units made x Std. DLH/unit) x Std. OH rate) = Unfav. tot. OH var.] LO2, 3 BT: AP Difficulty: Simple TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-29
PROBLEM 24.2
(a) 1. Total materials variance: (AQ x AP) – (SQ x SP) (10,600 x $2.25) (10,000 x $2.10) $23,850 – $21,000 = $2,850 U [(10,600 x $2.25) – (10,000 x $2.10) = $2,850U] [(Act. units purch. x Act. cost/unit) – (Standard units used x Std. cost/unit) = Unfav. tot. mat. var.]
Materials price variance: (AQ x AP) – (AQ x SP) (10,600 x $2.25) (10,600 x $2.10) $23,850 – $22,260 = $1,590 U Materials quantity variance: (AQ x SP) – (SQ x SP) (10,600 x $2.10) (10,000 x $2.10) $22,260 – $21,000 = $1,260 U 2. Total labor variance: (AH x AR) – (SH x SR) (14,400 x $8.40*) (15,000 x $8.00**) $120,960 – $120,000 = $960 U *$120,960 ÷ 14,400
**$120,000 ÷ 15,000
[(14,400 x ($120,960 ÷ 14,400)) – (15,000 x ($120,000 ÷ 15,000)) = $960U] [(Act. DLH x (DL payroll ÷ Act. DLH)) – (Std. DLH x (Std. DL payroll ÷ Std. DLH)) = Unfav. tot. labor var.]
Labor price variance: (AH x AR) – (AH x SR) (14,400 x $8.40) (14,400 x $8.00) $120,960 – $115,200 = $5,760 U Labor quantity variance: (AH x SR) – (SH x SR) (14,400 x $8.00) (15,000 x $8.00) $115,200 – $120,000 = $4,800 F
PROBLEM 24.2 (Continued) (b)
Total overhead variance: Actual Overhead Overhead – Applied $189,500 = $4,000 F – $193,500 (45,000* x $4.30) *15,000 x 3
[$189,500 – ((15,000 x 3) x ($3.00 + $1.30)) = $4,000F] [Act. OH – ((Std. DLHs x Std. MH/DLH) x (VOH rate/MH + FOH rate/MH)) = Fav. tot. OH var.]
(c)
AYALA CORPORATION Income Statement For the Month Ended June 30, 2025 Sales revenue .................................................... Cost of goods sold (at standard) ...................... Gross profit (at standard).................................. Variances Materials price ............................................ Materials quantity....................................... Labor price ................................................. Labor quantity ............................................ Overhead .................................................... Total variance—favorable .................. Gross profit (actual) .......................................... Selling and administrative expenses ............... Net income .........................................................
$400,000 334,500* 65,500 $ 1,590 U 1,260 U 5,760 U 4,800 F 4,000 F 190 65,690 40,000 $ 25,690
*Materials $21,000 + labor $120,000 + overhead applied $193,500. [($400,000 – ($21,000 + $120,000 + $193,500)) = $65,500); ($65,500 + (-$1,590 - $1,260 - $5,760 + $4,800 + $4,000) = $65,690); ($65,690 - $40,000 = $25,690)] [(Sales rev. – (Std. mat. used + Std. labor used + Std. OH applied) = GP @ std.); (GP @ std. + (Unfav. mat. price var. + Unfav. mat. qty. var. + Unfav. labor price var. + Fav. labor qty. var. + Fav. OH var.) = GP @ act.); (GP @ act. – S&A exp. = Net inc.)] LO2, 3, 4 BT: AP Difficulty: Simple TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation, Reporting IMA: Strategy, Planning & Performance: Performance Measurement, Reporting & Control: Financial Statement Preparation
24-31
PROBLEM 24.3
(a) 1.
Total materials variance: (AQ x AP) – (SQ x SP) (90,500 x $4.15) (90,000* x $4.40) $375,575 – $396,000 = $20,425 F *11,250 X 8
[(90,500 x $4.15) – ((11,250 x 8) x $4.40) = $20,425F] [Act. yds. purch x Act. price/yd.) – (Units made x Std. yds./unit) x Std. price/yd.) = Fav. tot. mat. var.]
Materials price variance: (AQ x AP) – (AQ x SP) (90,500 x $4.15) (90,500 x $4.40) $375,575 – $398,200 = $22,625 F Materials quantity variance: (AQ x SP) – (SQ x SP) (90,500 x $4.40) (90,000 x $4.40) $398,200 – $396,000 = $2,200 U 2.
Total labor variance: (AH x AR) – (SH x SR) (14,250 x $14.10) (13,500* x $13.40) $200,925 – $180,900 = $20,025 U *11,250 x 1.2
[(14,250 x $14.10) – ((11,250 x 1.2) x $13.40) = $20,025U] [(Act. DLH x Act. rate/DLH) – ((Units made x Std. DLH/unit) x Std. rate/DLH) = Unfav. tot. labor var.]
Labor price variance: (AH x AR) – (AH x SR) (14,250 x $14.10) (14,250 x $13.40) $200,925 – $190,950 = $9,975 U Labor quantity variance: (AH x SR) – (SH x SR) (14,250 x $13.40) (13,500 x $13.40) $190,950 – $180,900 = $10,050 U
PROBLEM 24.3 (Continued) (b)
Total overhead variance: Actual Overhead Overhead – Applied $86,000 – $82,350 ($49,000 + $37,000) (13,500* x $6.10**) = $3,650 U *11,250 x 1.2 **$3.50 + $2.60
[($49,000 + $37,000) – ((11,250 x 1.2) x ($3.50 + $2.60)) = $3,650U] [(Act. VOH + Act. FOH) - ((Units made x Std. DLH/unit) x (Std. VOH/DLH + Std. FOH rate/DLH)) = Unfav. tot. OH var.]
(c) The materials price variance is more than 4% from standard. The actual price for materials of $4.15 is $0.25 below the standard price of $4.40 or 5.7% ($0.25 ÷ $4.40). The same result can be obtained by dividing the total price variance by the total standard price for the quantities purchased ($22,625 ÷ $398,200). The labor price variance is 5.2% from standard ($0.70 ÷ $13.40). The same result can be obtained by dividing the total price variance by the total standard price for the direct labor hours used ($9,975 ÷ $190,950). The labor quantity variance is 5.6% (750 ÷ 13,500) from standard. The same result can be obtained by dividing the total quantity variance by the total standard price for the standard hours allowed ($10,050 ÷ $180,900). LO2, 3, 4 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-33
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PROBLEM 24.4
(a) $3,510 ÷ 117,000 = $0.03; $0.92 + $0.03 = $0.95 standard materials price per pound. OR 117,000 x $0.92 = $107,640; $107,640 + $3,510 = $111,150; $111,150 ÷ 117,000 = $0.95 per pound. [(117,000 x $.92 = $107,640); ($107,640 + $3,510 = $111,150); ($111,150 + 117,000 = $.95)] [(Act. lbs. purch. x Act. price/lb. = Act. DM cost); (Act. DM cost + Fav. DM price var. = Std. DM cost); (Std. DM cost ÷ Act. lbs. purch. = Std. price/lb.)]
(b) $4,750 ÷ $0.95 = 5,000 pounds; 117,000 – 5,000 = 112,000 standard quantity for 28,000 units or 4.0 pounds (112,000 ÷ 28,000) per unit. OR $111,150 – $4,750 = $106,400; $106,400 ÷ $0.95 = 112,000; 112,000 ÷ 28,000 = 4.0 pounds per unit. (c) Standard hours allowed are 44,800 (28,000 x 1.6). (28,000 x 1.6 = 44,800) (Units made x Std. DLH/unit = Std. DLH allowed)
(d) $7,200 ÷ $12.00 = 600 hours over standard; 44,800 standard hours + 600 hours = 45,400 actual hours worked. OR 44,800 x $12 = $537,600; $537,600 + $7,200 = $544,800; $544,800 ÷ $12 = 45,400 actual hours worked. [($7,200 ÷ $12 = 600); (44,800 + 600 = 45,400)] [(Unfav. DL qty. var. ÷ Std. DLH rate = DLHs over std.); (Std. DLH allowed + DLHs over std. = Act. DLHs)]
(e) $9,080 ÷ 45,400 = $0.20; $12.00 – $0.20 = $11.80 actual rate per hour. OR $544,800 – $9,080 = $535,720; $535,720 ÷ 45,400 = $11.80 actual rate per hour. (f)
$360,000 ÷ 50,000 = $7.20 predetermined overhead rate per direct labor hour.
($360,000 ÷ 50,000 = $7.20) (MOH @ normal cap. ÷ Normal cap. in DLHs = Predet. OH rate/DLH)
PROBLEM 24.4 (Continued) (g) Direct materials 4.0 pounds x $0.95 = $3.80; direct labor 1.6 x $12.00 = $19.20; manufacturing overhead 1.6 x $7.20 = $11.52. $3.80 + $19.20 + $11.52 = $34.52 standard cost per unit. [(DM: 4 x $.95 = $3.80); (DL: 1.6 x $12 = $19.20); (MOH: 1.6 x $7.20 = $11.52); ($3.80 + $19.20 + $11.52 = $34.52)] [(DM: Std. lbs./unit x Std. price/lb. = Std. DM cost/unit); (DL: std. DLH/unit x Std. rate/DLH = Std. DL cost/unit); (MOH: Std. DLH/unit x Std. OH rate/unit = Std. OH cost/unit); (Std. DM cost/unit + Std. DL cost/unit + Std. OH cost/unit = Std. cost/unit)]
(h) 44,800 x $7.20 = $322,560 overhead applied. (44,800 x $7.20 = $322,560) (Std. DLH allowed x Predet. OH rate/DLH = OH applied)
(i)
$34.52 [see (g) above] x 28,000 = $966,560 or direct materials $106,400 + direct labor $537,600 + overhead applied $322,560 = $966,560.
LO2, 3 BT: AN Difficulty: Complex TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-35
PROBLEM 24.5
(a) Materials price variance: (AQ x AP) – (AQ x SP) (3,050 x $1.40*) (3,050 x $1.46) $4,270 – $4,453
= $183 F
*$4,270 ÷ 3,050 Materials quantity variance: (AQ x SP) – (SQ x SP) (3,050 x $1.46) (2,950* x $1.46) $4,307 $4,453 – *1,475 x 2 Labor price variance: (AH x AR) – (AH x SR) (1,550 x $23*) (1,550 x $24) $35,650 – $37,200 *$35,650 ÷ 1,550 Labor quantity variance: (AH x SR) – (SH x SR) (1,550 x $24) (1,475* x $24) $37,200 – $35,400
= $146 U
= $1,550 F
= $1,800 U
*1,475 x 1 hr. (b) Total Overhead variance: Actual Overhead Overhead – Applied $22,400 – $23,600 ($7,400 + $15,000) (1,475 x $16*)
= $1,200 F
*$10 + $6 [($7,400 + $15,000) – ((1,475 x 1) x ($10 + $6)) = $1,200F] [(Act. VOH + Act. FOH) – ((Units made x Std. DLH/unit) x (Std. VOH rate + Std. FOH rate)) = Fav. tot. OH var.]
PROBLEM 24.5 (Continued) (c) HART LABS, INC. Income Statement For the Month Ended November 30, 2025 Service revenue ...................................................... Cost of service provided (at standard) (1,475 x $42.92) ................................................... Gross profit (at standard)....................................... Variances Materials price ................................................. Materials quantity............................................ Labor price ...................................................... Labor quantity ................................................. Overhead ......................................................... Total variance—favorable....................... Gross profit (actual) ............................................... Selling and administrative expenses .................... Net income ..............................................................
$75,000 63,307 11,693 $ 183 F 146 U 1,550 F 1,800 U 1,200 F 987 12,680 5,000 $ 7,680
[($75,000 – (1,475 x $42.92) = $11,693); ($11,693 + ($183 - $146 + $1,550 - $1,800 + $1,200) = $12,680); ($12,680 - $5,000 = $7,680)] [(Serv. rev. – (Units sold x Std. cost/unit) = GP @ std.); (GP @ std. + (Fav. mat. price var. – Unfav. mat. qty. var. + Fav. labor price var. – Unfav. labor qty. var. + Fav. OH var.) = GP @ act.); (GP @ act. – S&A exp. = Net inc.)]
(d) The unfavorable materials quantity variance could be caused by poor quality materials or inexperienced workers or faulty test procedures. The unfavorable labor quantity variance could be caused by inexperienced workers, poor quality materials, or faulty test procedures. LO2, 3, 4 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation, Reporting IMA: Strategy, Planning & Performance: Performance Measurement, Reporting & Control: Financial Statement Preparation
24-37
*PROBLEM 24.6 (a) 1.
2.
Raw Materials Inventory (6,200 x $1.00) ............ Materials Price Variance [6,200 x ($1.05 – $1.00)]................................... Accounts Payable (6,200 x $1.05)...............
6,200
Work in Process Inventory (5,700* x $1)............ Materials Quantity Variance [(6,200 – 5,700) x $1.00]................................... Raw Materials Inventory..............................
5,700
310 6,510
500 6,200
*1,900 x 3 3.
4.
5.
6.
Factory Labor (2,000 x $8) .................................. Labor Price Variance [2,000 x ($8.00 – $7.80)] ........................... Factory Wages Payable (2,000 x $7.80)...... Work in Process Inventory (1,900 x $8.00).................................................. Labor Quantity Variance [(2,000 – 1,900) x $8.00]................................... Factory Labor (2,000 x $8.00) ..................... Manufacturing Overhead .................................... Accounts Payable........................................ Work in Process Inventory (3,800* x $6.25**).............................................. Manufacturing Overhead ............................ *1,900 x 2
7.
8.
24-38
16,000 400 15,600
15,200 800 16,000 25,000 25,000 23,750 23,750
**$4.00 + $2.25
Finished Goods Inventory (1,900 x $23.50)................................................ Work in Process Inventory ......................... Accounts Receivable .......................................... Sales Revenue ............................................. Cost of Goods Sold............................................ Finished Goods Inventory .........................
44,650 44,650 65,000 65,000 44,650 44,650
*PROBLEM 24.6 (Continued) (b)
Raw Materials Inventory (1) 6,200 (2) 6,200
Materials Price Variance (1) 310
Work in Process Inventory (2) 5,700 (7) 44,650 (4) 15,200 (6) 23,750
Factory Labor 16,000 (4) 16,000
Materials Quantity Variance (2) 500
Finished Goods Inventory (7) 44,650 (8) 44,650
Manufacturing Overhead (5) 25,000 (6) 23,750
Labor Price Variance (3) 400
(3)
Cost of Goods Sold (8) 44,650
Labor Quantity Variance (4) 800
(c) Overhead Variance ($25,000 – $23,750) ............... Manufacturing Overhead ...............................
1,250 1,250
($25,000 - $23,750 = $1,250U) (Act. OH – App. OH = Unfav. tot. OH var.)
(d)
JORGENSEN CORPORATION Income Statement For the Month Ended January 31, 2025 Sales revenue ........................................................ Cost of goods sold (at standard) (1,900 x $23.50) .................................................. Gross profit (at standard)...................................... Variances Materials price ................................................ Materials quantity........................................... Labor price ..................................................... Labor quantity ................................................ Overhead ........................................................ Total variance—unfavorable.................. Gross profit (actual) .............................................. Selling and administrative expenses ................... Net income .............................................................
$65,000 44,650 20,350 $ 310 U 500 U 400 F 800 U 1,250 U 2,460 17,890 2,000 $15,890
[($65,000 – (1,900 x $23.50) = $20,350); ($20,350 + (-$310 - $500 + $400 - $800 - $1,250) = $17,890); ($17,890 $2,000 = $15,890)] [(Sales rev. – (Units made x Std. cost/unit) = GP @ std.); (GP @ std. + (- Unfav. mat. price var. - Unfav. mat. qty. var. + Fav. labor price var. – Unfav. labor qty. var. – Unfav. OH var.) = GP @ act.); (GP @ act. – S&A exp. = Net inc.)]
24-39
*PROBLEM 24.6 (Continued) LO2, 3, 4, 5 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation, Reporting IMA: Strategy, Planning & Performance: Performance Measurement, Reporting & Control: Financial Statement Preparation
*PROBLEM 24.7
Overhead controllable variance: Actual Overhead Overhead – Budgeted $80,700 – $77,600 = $3,100 U [(7,680* x $7.50) + $20,000] *(4,800 x 1.6 hours) [$80,700 – (((4,800 x 1.6) x $7.50) + $20,000) = $3,100U] [Act. OH – (((Units made x Std. DLH/unit) x Std. VOH rate) + Bud. FOH) = Unfav. OH control. var.]
Overhead volume variance: Fixed Normal Standard Overhead x Capacity – Hours Rate Allowed Hours $2.50/hr. x – 7,680) (8,000
= $800 U
LO 6 BT: AP Difficulty: Simple TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-41
*PROBLEM 24.8
Overhead controllable variance: Actual Overhead Overhead – Budgeted $189,500 – $190,250 [(45,000* x $3.00) + (42,500 x $1.30)]
= $750 F
*(15,000 x 3 hours) [$189,500 – (((15,000 x 3) x $3) + (42,500 x $1.30)) = $750F] [Act. OH – ((Units made x Std. MH/unit) x Std. VOH rate) + (Normal cap. in MH x Std. FOH rate)) = Fav. OH control. var.]
Overhead volume variance: Fixed Normal Standard Overhead x Capacity – Hours Hours Allowed Rate $1.30/hr. x (42,500 – 45,000) = $3,250 F LO 6 BT: AP Difficulty: Simple TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
*PROBLEM 24.9
Overhead controllable variance: Actual Overhead Overhead – Budgeted $86,000 – $84,100 = $1,900 U ($49,000 + $37,000) [(13,500* x $2.60) + $49,000] *(11,250 x 1.2 hours) [($49,000 + $37,000) – (((11,250 x 1.2) x $2.60) + $49,000) = $1,900U] [(Act. VOH + Act. FOH) – (((Units made x Std. DLH/unit) x Std. VOH rate) + Bud. FOH) = Unfav. OH control. var.]
Overhead volume variance: Normal Fixed Standard Overhead x Capacity – Hours Hours Allowed Rate x (14,000 – 13,500) $3.50/hr.
= $1,750 U
LO 6 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-43
*PROBLEM 24.10
Overhead controllable variance: Actual Overhead Overhead – Budgeted $22,400 – = $450 F $22,850 ($7,400 + $15,000) [(1,475 x $6) + $14,000] [($7,400 + $15,000) – ((1,475 x $6) + $14,000) = $450F] [(Act. VOH + Act. FOH) – (Tests conducted x Std. VOH rate) + Bud. FOH) = Fav. OH control. var.]
Overhead volume variance: Fixed Normal Standard Overhead x Capacity – Hours Rate Hours Allowed $10 x (1,400* – 1,475)
= $750 F
*$14,000 ÷ $10 LO 6 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CD24
CURRENT DESIGNS
(a) Quantity variance for polyethylene powder Price variance for polyethylene powder Quantity variance for finishing kits Price variance for finishing kits Quantity variance for type I workers Price variance for type I workers Quantity variance for type II workers Price variance for type II workers
Unfavorable Unfavorable NEI = Not enough information Favorable Favorable NEI = Not enough information Unfavorable NEI = Not enough information
(b) Quantity variance for polyethylene powder (AQ x SP) – (SQ x SP) (1,200 x $1.50) (1,080* x $1.50) $1,620 = $180 U $1,800 – *54 x 20 [(1,200 x $1.50) – ((54 x 20) x $1.50) = $180U] [(Act. lbs. used x Std. cost/lb.) – ((Lbs./kayak x Kayaks made) x Std. cost/lb.) = Unfav. qty. var.]
Price variance for polyethylene powder (AQ x AP) – (AQ x SP) (1,200 x $1.70*) (1,200 x $1.50) $2,040 – $1,800
= $240 U
*$2,040 ÷ 1,200 Quantity variance for finishing kits (AQ x SP) – (SQ x SP) (20 x $170) (20 x $170) $3,400 – $3,400
=$ 0
Price variance for finishing kits (AQ x AP) – (AQ x SP) (20 x $162*) (20 x $170) $3,240 – $3,400
= $160 F
*$3,240 ÷ 20 [(20 x ($3,240 ÷ 20)) – (20 x $170) = $160F] [(Kits made x (Tot. cost of kits ÷ Kits made) – (Kits made x Std. cost/kit) = Fav. price var.]
24-45
CD24 (Continued) Quantity variance for type I workers (AH x SR) – (SH x SR) (38 x $15) (40* x $15) $570 – $600
= $30 F
*20 x 2 [(38 x $15) – ((20 x 2) x $15) = $30F] [(Act. DLH x Std. DLH rate) – ((Kayaks made x Std. DLH/kayak) x Std. DLH rate) = Fav. qty var.]
Price variance for type I workers (AH x AR) – (AH x SR) (38 x $15*) (38 x $15) $570 – $570
=$ 0
*$570 ÷ 38 Quantity variance for type II workers (AH x SR) – (SH x SR) (65 x $12) (60* x $12) $780 – $720
= $60 U
*20 x 3 Price variance for type II workers (AH x AR) – (AH x SR) (65 x $12.25*) (65 x $12.00) $796.25 – $780
= $16.25 U
*$796.25 ÷ 65 [(65 x ($796.25 ÷ 65)) – (65 x $12) = $16.25U] [(Act. DLH x (Tot. act. DL cost ÷ Act. DLH)) – (Act. DLH x Std. DLH rate) = Unfav. price var.] LO2, 3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
WC24
WATERWAYS CORPORATION
(a) Materials Price Variance Actual Quantity x Actual Price 229,000 lbs. x $0.78 = $178,620
Actual Quantity x Standard Price
less
229,000 lbs. x $0.80* = $183,200
less
= $4,580
F
*Standard price per pound: Material lbs. per unit Metal 1.00 Plastic 0.75 Rubber 0.25 Total 2.00 lbs
x x
Price per lb. = Std. price per lb. $0.63 = $0.63 x 1.00 = 0.75 x 0.88 = 0.22 = $0.80/lb.
(b)
Materials Quantity Variance Actual Quantity x Standard Price 229,000 lbs. x $0.80 = $183,200
less
less
Standard Quantity x Standard Price 231,000 lbs.* x $0.80 = $184,800
= $1,600
*115,500 units x 2 lbs = 231,000 lbs
24-47
WC24 (Continued) c) Total Materials Variance Actual Quantity x Actual Price 229,000 lbs. x $0.78 = $178,620
less
less
Standard Quantity x Standard Price 231,000 lbs.* x $0.80 = $184,800
= $6,180 F
*115,500 units x 2 lbs. = 231,000 lbs. (d) Labor Price Variance Actual Hours x Actual Rate 34,650 hrs.* x $7.80 = $270,270
less
less
Actual Hours x Standard Rate 34,650 hours x $8.00 = $277,200
= $6,930 F
*115,500 units x 0.30 hrs./unit = 34,650 hrs. (e) Labor Quantity Variance Actual Hours x Standard Rate 34,650 hours x $8.00 = $277,200
less
less
Standard Hours x Standard Rate 28,875 hours* x $8.00 = $231,000
*115,500 units x 0.25 hrs./unit = 28,875 hrs.
= $46,200 U
WC24 (Continued) (f) Total Labor Variance Actual Hours x Actual Rate 34,650 hrs. x $7.80 = $270,270
less
less
Standard Hours x Standard Rate 28,875 hrs. x $8.00 = $231,000
= $39,270 U
(g) Total Overhead Variance Actual Overhead Overhead Applied* less $123,585 $128,473 ($54,673 +$73,800) ($4.28 x 28,875 hours)
= $4,888 U
*Based on standard hours allowed for 115,500 units, 115,500 x .25 hrs. = 28,875 hours)
(h) The labor quantity variance is a concern. Perhaps the labor is not as skilled as it should be. The actual price paid for labor suggests less skill, so it could take workers longer to complete each unit. Or the materials may not meet the proper standard, causing the workers to take longer to complete a unit. It could also mean the machinery being used is not working efficiently. Yet another possibility is that the workers are not being properly supervised and are wasting time doing unproductive activities. The materials quantity variance could suggest that insufficient material is being used in the product (not in keeping with specs) making the product less durable. The unfavorable overhead variance may be related to the unfavorable labor quantity variance. Extra direct labor hours and inefficient use of machines may result in higher indirect labor costs, more repairs, or higher use of utilities. LO2, 3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-49
SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT24.1
DECISION-MAKING ACROSS THE ORGANIZATION
(a) When setting a standard for computer/labor hours usage, Milton Professionals should consider the following factors: 1.
A standard set conservatively high may discourage clients from purchasing the model.
2.
A standard set too low may encourage sales of the model, but if customers use more hours than the standard suggests, they may be upset at having been misled.
3.
Clients are likely to use the standard as an evaluation tool for their own employees operating the model. Standards set inappropriately may adversely affect productivity and/or morale of client employees.
(b) Logical alternatives for the standard include: 1.
34 hours:
The average number of hours used for one application by all five financial institutions.
2.
45 hours:
The conservatively high number experienced by one financial institution.
3.
25 hours:
The optimistic low number experienced by one financial institution.
4.
30 hours:
The number of hours required most frequently in the sample of five institutions.
(c) In light of earlier factors listed, the second and third choices for the standard should be eliminated (i.e., 45 and 25 hours). The average 34 hours is probably the most representative. However, Milton Professionals may select 30 hours, given that the company has a high incentive to sell the new model. Consequently, it may make the most sense to pick the lower of the two remaining choices (30 hours).
24-51
CT24.1 (Continued) (d) Standard material cost for one model application: User Manuals:
$320 ÷ 20 manuals = $16/application.
Computer Forms:
$60 ÷ 250 forms = $0.24/form $0.24/form x 50 forms = $12/application.
[($60 ÷ 250 = $0.24); ($0.24 x 50 = $12)] [(Cost/package ÷ No. forms/package = Cost/form); (Cost/form x No. forms/package) = Cost/application] LO1 BT: E Difficulty: Easy TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CT24.2
MANAGERIAL ANALYSIS
(a) The overhead application rate is $144,000 divided by 5,000 hours (1,000 x 5 hours), or $28.80 per direct labor hour. (b) The standard direct labor hours are used to apply overhead to production, so the calculation is $28.80 x 4,500, or $129,600. (c)
Actual Overhead – Overhead Applied = Total Overhead Variance $150,000 $129,600 = $20,400 U The overhead budgeted for 4,500 direct labor hours is computed below. Fixed:
$22,500 + $13,000 + $27,000 + $8,000 + $3,000 + $1,500 + $500 + $300 = $75,800
Variable: ($12,000 + $43,000 + $10,000 + $2,500 + $700) ÷ 5,000 = $13.64 Fixed Variable (4,500 x $13.64)
$ 75,800 61,380 $137,180
The variances are: Controllable: Volume:
Actual ($150,000) – Budgeted ($137,180) = $12,820 U $15.16*/hr. x (5,000 – 4,500) = $7,580 U
*$75,800 ÷ 5,000 hrs. [($150,000 – ($28.80 x 4,500) = $20,400U); (Act. OH – (Std. OH/DLH x DLH allowed) = Unfav. tot. OH var.)] [($150,000 – ($75,800 + (4,500 x $13.64)) = $12,820U); (Act. OH – (Bud. FOH + (DLH allowed x Std. VOH rate)) = Unfav. OH control. var.)] [(($75,800 ÷ 5,000) x (5,000 – 4,500) = $7,580U); ((Bud. FOH ÷ Std. DLH allowed) x (Normal cap. in DLH – Std. DLH allowed)) = Unfav. OH vol. var.)]
(d) Both variances appear significant. The controllable variance is 9.3% of budgeted overhead ($12,820 ÷ $137,180), and the volume variance is 5.8% of applied overhead ($7,580 ÷ $129,600).
24-53
CT24.2 (Continued) (e) The controllable variance is caused by either spending more than expected on overhead items, or using more than expected of overhead items (for example, more indirect labor hours). The volume variance is caused by underutilizing factory time. To improve performance, management must spend less on overhead items, use them more efficiently, and increase production to 1,000 units. LO3, 6 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CT24.3
REAL-WORLD FOCUS
(a) Glassmaster is using standard costs because management states that a factor that contributed to improved margins (profit) was a favorable materials price variance. (b) The materials price variance experienced should not lead to changes in the standard for the next fiscal year. Management indicates that the favorable variance is temporary and will begin to reverse itself as stronger worldwide demand for commodity products improves in tandem with the economy. LO1, 2 BT: E Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Management
24-55
CT24.4
REAL-WORLD FOCUS
(a) The objectives for each perspective are: Financial: Increase profitability, lower costs, increase revenue Customer: Flight is on-time, lowest prices, more customers Internal: Improve turnaround time. Learning: Ground crew alignment. (b) To measure achievement of the customer perspective objectives of on-time flights, lowest prices and more customers, the company will use FAA on time arrival ratings, customer ranking, and number of customers. (c) To achieve the learning perspective objective of ground crew alignment, the company plans to implement an employee stock ownership plan and ground crew training. LO4 BT: C Difficulty: Easy TOT: 20 min. AACSB: Technology, Communication AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CT24.5
COMMUNICATION ACTIVITY
To:
Professor Standard
From:
I. M. Smart
Subject:
Setting Standard Costs
This memorandum covers two points as follows: (a) The comparative advantages and disadvantages of ideal versus normal standards. Ideal standards represent optimum levels of performance under perfect operating conditions. In contrast, normal standards represent efficient levels of performance that are attainable under expected operating conditions. An advantage of ideal standards is that they stimulate the conscientious worker to ever-increasing improvement. The disadvantage of ideal standards is that because they are so difficult to meet, they lower the morale of the entire work force. Normal standards are rigorous but attainable. Such standards should stimulate the worker to self-improvement without discouraging him or her or lowering the morale of the work force. (b) Factors to be considered in setting standards for direct materials, direct labor, and manufacturing overhead. 1.
Direct materials. The direct materials price standard is the cost per unit of direct materials that should be incurred. This standard should be based on the purchasing department’s best estimate of the cost of raw materials. The price standard should include allowances for related costs such as receiving, storing and handling.
24-57
CT24.5 (Continued) The direct materials quantity standard is the quantity of direct materials that should be used per unit of finished goods. This standard is a physical measure and it should include allowances for unavoidable waste and normal spoilage. 2.
Direct labor. The direct labor price standard is the rate per hour that should be incurred for direct labor. This standard should be based on current wage rates adjusted for expected cost of living adjustments and employer payroll taxes and fringe benefits. The direct labor quantity standard is the time that should be required to make one unit of product. In setting this standard, allowances should be made for rest periods, cleanup, and machine setup and downtime.
3.
Manufacturing overhead. For this standard, a standard predetermined overhead rate is used. This rate is determined by dividing budgeted overhead costs by an expected standard activity index. The budgeted overhead costs should be based on a realistic estimate of overhead costs at normal capacity.
LO1 BT: C Difficulty: Easy TOT: 20 min. AACSB: Communication AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CT24.6
ETHICS CASE
(a) Bill and his fellow painters in the painting department will benefit from Bill’s slow action. The company and its customers are harmed. The company will incur higher costs on the product and therefore will have to set a higher selling price or suffer a smaller gross profit. Customers will have to pay a greater price for the product or stockholders will obtain less benefit from their investment. (b) Deliberately falsifying and distorting the time study was unethical. If every employee in every phase of producing this new product distorted the time study, the company would not be competitive. If the company is not competitive and profitable, it will eventually go out of business and Bill will be out of a job. It is in Bill’s best interest to support the development of reasonable standards and improved efficiency. (c) The company might conduct several time study tests using different employees. Or the company might conduct unannounced time studies. The standard might be changed more often than every six months by conducting monthly time studies to effect continuous improvements in efficiency. Incentives might be offered to employees who produce the most efficient effort in the time studies, thereby discouraging distorted, inefficient performance. LO1 BT: E Difficulty: Moderate TOT: 25 min. AACSB: Ethics, Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Ethical Conduct IMA: Strategy, Planning & Performance: Performance Measurement, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
24-59
CT24.7
ALL ABOUT YOU
(a) As discussed in the chapter, standards provide a mechanism for evaluating performance and, if used properly, can be used as a motivational tool. The results of standardized tests might help to evaluate the effectiveness of various approaches to education. They might also be used to “weed out” schools that are not meeting minimum expectations. (b) Potential disadvantages of standards are that they might reduce the willingness of instructors or institutions to experiment with new teaching approaches. In addition, in order to obtain high scores, instructors might feel compelled to “teach to the exam,” thus narrowing the breadth of exposure obtained by the student. Also, by their very nature, standardized tests have a difficult time addressing differences across various instructional settings that can cause differences in results. (c) Answers will vary depending on student response. LO1 BT: E Difficulty: Easy TOT: 20 min. AACSB: Technology, Communication AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
CT24.8
CONSIDERING YOUR COSTS AND BENEFITS
Discussion Guide: The practice of medicine holds an unusual place in society. On the one hand, it provides a critical, life-sustaining service. We expect and demand the highest-quality service. We measure its success in terms of health improvement and lives saved. On the other hand, it is a business, and like other businesses, it must operate profitably. Some healthcare providers characterize this delicate balance as “The Business of Caring.” How should we balance providing quality health-care and reducing costs? In recent years, managerial accounting has played an important, although not always successful, role in this issue. In the 1990s, health-care providers made extensive use of managerial accounting techniques to reduce costs. By the end of that decade, a number of important studies suggested that the quality of health care had suffered as a result of concentrating too much on cost-controlling efforts and not enough on maintaining quality. Today, many health-care organizations are implementing balanced scorecards in an effort to balance the dual (and in some ways competing) goals of quality health-care and reduced costs. For example, by providing incentives for preventive medicine, health-care providers can reduce costs and at the same time improve patient health. It is likely that, in order to provide healthcare to more Americans, we will have to reduce costs. It is hoped that successful implementation of balanced scorecard programs will result in reduced costs through increased efficiency, while increasing the quality of health-care. LO1 BT: E Difficulty: Moderate TOT: 25 min. AACSB: Reflective Thinking, Communication AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Performance Measurement
24-61
CHAPTER 25 Planning for Capital Investments Learning Objectives 1. Describe capital budgeting inputs and apply the cash payback technique. 2. Use the net present value method. 3. Identify capital budgeting challenges and refinements. 4. Use the internal rate of return method. 5. Use the annual rate of return method.
ANSWERS TO QUESTIONS 1.
The screening of proposed capital expenditures may be done by a capital budgeting committee that submits its findings to the officers of the company. The officers, in turn, select the projects they believe to be the most worthy of funding and submit them to the board of directors. The directors ultimately approve the capital expenditure budget for the year.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Plannig & Performance: Capital Investment Decisions
2.
The cash payback technique is relatively easy to compute and understand. However, it should not ordinarily be the only basis for the capital budgeting decision because it ignores the expected profitability of the investment and the time value of money.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Plannig & Performance: Capital Investment Decisions
3.
Tom is not correct. The equation for the cash payback technique is: Cost of the capital investment ÷ Estimated net annual cash flow. The equation for the annual rate of return is: Expected annual net income ÷ average investment.
LO1, 5 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
4.
The two tables are: (1) The Present Value of 1 (Table 3 in Appendix A). This table is used when a project has uneven cash payments over its useful life and to compute the present value of the salvage value of the project. (2) The Present Value of an Annuity of 1 (Table 4 in Appendix A). This table is used when a project has equal cash payments occurring at equal intervals of time over its useful life.
LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
5.
The decision rule is: Accept the project when net present value is zero or positive; reject the project when net present value is negative.
LO2 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
6.
The discount rate has two elements, a cost of capital element and a risk element. Many times companies set the risk element equal to zero; thus, they are setting the discount rate equal to the cost of capital. However, if a project is considered to be riskier than the firm’s other projects, the discount rate should include a risk element.
LO2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
7.
The following simplifying assumptions were made: All cash flows come at the end of the year. All cash flows are immediately reinvested in another project that has a similar return. All cash flows can be predicted with certainty.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
8.
Examples of intangible benefits of investment projects would be increased product quality, improved safety, and enhanced employee loyalty. Intangible benefits often complicate the capital budgeting process because their value can be difficult to quantify. Ignoring intangible benefits may result in rejecting projects that would be financially beneficial to the company.
LO3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
25-2
Questions Chapter 25 (Continued) 9.
Two approaches can be taken. Under the first approach, management should ask whether the value of the intangible benefits exceeds the amount by which the net present value of the project is negative. If so, the project should be accepted. Under the second approach, management should make conservative dollar estimates of the value of the intangible benefits and the net present value should be recalculated.
LO3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
10.
When trying to choose between competing proposals, simply comparing the net present value of the competing proposals ignores the fact that one proposal may require a considerably larger investment. The profitability index is useful because it incorporates the required initial investment into the evaluation.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
11.
A post-audit is a thorough evaluation of how well a project’s actual performance matches the original projections. Performing post-audits can be valuable because: (1) managers are more likely to submit reasonable and accurate data if they know that their estimates will be evaluated subsequently, (2) they provide a process for determining whether projects should be continued, and (3) they improve the development of future investment proposals because, by evaluating their past successes and failures, managers improve their estimation techniques.
LO3 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
12.
When the net annual cash flows are equal each year, the steps are: (1) Compute the internal rate of return factor by dividing Capital Investment by Net Annual Cash Flows. (2) Use the factor and the Present Value of an Annuity of 1 table to find the internal rate of return.
LO4 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
13.
Under the internal rate of return method, the objective is to find the rate that will make the present value of the expected net annual cash flows equal the present value of the proposed capital expenditure. The decision rule under the internal rate of return method is: Accept the project when the internal rate of return is equal to or greater than the required rate of return, and reject the project when the internal rate of return is less than the required rate.
LO4 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
14.
The advantages of this method are the simplicity of its calculation and management’s familiarity with the accounting terms used in the computation. A limitation is that it does not consider the time value of money. Also, by employing accrual accounting numbers rather than cash flows, it ignores the fact that the value of an investment proposal is based on the cash flows that it generates.
LO5 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
15.
The equation for the annual rate of return technique is: Expected annual net income ÷ Average investment.
LO5 BT: K Difficulty: Easy TOT: 1 min. AACSB: Knowledge AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
Questions Chapter 25 (Continued) 16.
Cost of capital is the average rate of return that the company must pay to obtain borrowed and equity funds. The decision rule is: Accept the project when the internal rate of return is equal to or greater than the required rate of return (which often is its cost of capital). Reject the project when the internal rate of return is less than the required rate of return.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA FC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 25.1 $450,000 ÷ $60,000 = 7.5 years LO1 BT: AP Difficulty: Easy TOT: 1 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions ($450,000 ÷ $60,000) (Cost of equip. ÷ Net ann. cash flow)
BRIEF EXERCISE 25.2 Net annual cash flows – $40,000 x 5.65 Less: Capital investment Net present value
Present Value $226,000 215,000 $ 11,000
The investment should be made because the net present value is positive. LO2 BT: AN Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($40,000 x 5.65) - $215,000 = $11,000] (PV of net ann. cash flows – Cap. invest. = Pos. NPV)
BRIEF EXERCISE 25.3
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 10% Discount Present Flows x Factor = Value $25,000 x 3.79079 = $ 94,770 60,000 x .62092 = 37,255 132,025 136,000 $ (3,975)
Since the net present value is negative, the project is unacceptable. LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($25,000 x 3.79079) + ($60,000 x .62092) - $136,000 = ($3,975)] (PV of net ann. cash flows + PV of SV – Cap. invest. = Neg. NPV)
BRIEF EXERCISE 25.4
Present value of net annual cash flows Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $34,000 x 5.53482 = $188,184 200,000 $ (11,816)
The reduction in downtime would have to have a present value of at least $11,816 in order for the project to be acceptable. LO2, 3 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($34,000 x 5.53482) - $200,000 = ($11,816)] (PV of net ann. cash flows – Cap. invest. = Neg. NPV)
BRIEF EXERCISE 25.5 Project A
Present value of net annual cash flows Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $70,000 x 6.41766 = $449,236 400,000 $ 49,236
Profitability index = $449,236/$400,000 = 1.12 [($70,000 x 6.41766) - $400,000 = $49,236]; ($449,236 ÷ $400,000 = 1.12) (PV of net ann. cash flows – Cap. invest. = Pos. NPV); (PV of net cash flows ÷ Cap. invest. = Profit. Index)
Project B
Present value of net annual cash flows Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $55,000 x 6.41766 = $352,971 310,000 $ 42,971
Profitability index = $352,971/$310,000 = 1.14 Project B has a lower net present value than Project A, but because of its lower capital investment, it has a higher profitability index. Based on its profitability index, Project B should be accepted. LO2, 3 BT: AN Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
BRIEF EXERCISE 25.6 Original estimate
Present value of net annual cash flows Less: Capital investment Net present value
Cash 10% Discount Present Flows x Factor = Value $46,000 x 5.75902 = $264,915 250,000 $ 14,915
Revised estimate
Present value of net annual cash flows Less: Capital investment Net present value
Cash 10% Discount Present Flows x Factor = Value $39,000 x 6.49506 = $253,307 260,000 $ (6,693)
[($39,000 x 6.49506) - $260,000 = ($6,693)] (PV of net ann. cash flows – Cap. invest. = Neg. NPV)
The original net present value was projected to be a positive $14,915; however, the revised estimate is a negative $6,693. The project is not a success. LO3 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
BRIEF EXERCISE 25.7 When net annual cash flows are expected to be equal, the internal rate of return can be approximated by dividing the capital investment by the net annual cash flows to determine the discount factor and then locating this discount factor on the present value of an annuity table. $176,000/$35,000 = 5.02857 By tracing across on the 7-year row we see that the discount factor for 9% is 5.03295. Thus, the internal rate of return on this project is approximately 9%. LO4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions ($176,000 ÷ $35,000 = 5.02857) (Cap. invest. ÷ Net ann. cash flows = Disc. factor from PV of annuity table)
BRIEF EXERCISE 25.8 When net annual cash flows are expected to be equal, the internal rate of return can be approximated by dividing the capital investment by the net annual cash flows to determine the discount factor and then locating this discount factor on the present value of an annuity table. Since this exercise has a salvage value, not all cash flows are equal. In this case, the internal rate of return can be approximated by identifying the discount rate that will result in a net present value of zero. By experimenting with various rates, we determined that the net present value is approximately zero when a discount rate of approximately 9% is used. Net annual cash flows = $400,000 – $150,000 = $250,000
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $250,000 x 7.16073 = $1,790,183 716,000 x .35554 = 254,567 2,044,750 2,045,000 $ (250)
The 9% internal rate of return exceeds the company’s 7% required rate of return; thus, the project should be accepted. LO4 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($250,000 x 7.16073) + ($716,000 x .35554) - $2,045,000 = ($250)] (PV of net ann. cash flows at 9% + PV of SV at 9% - Cap. invest. = Neg. NPV]
BRIEF EXERCISE 25.9 The annual rate of return is calculated by dividing expected annual income by the average investment. The company’s expected annual income is: $130,000 – $70,000 = $60,000 Its average investment is: $490,000 + $10,000 = $250,000 2 Therefore, its annual rate of return is: $60,000/$250,000 = 24% 25-8
LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($130,000 - $70,000) ÷ (($490,000 + $10,000) ÷ 2) = 24%] (Exp. ann. net inc. ÷ Ave. invest. = Ann. ROR)
SOLUTIONS FOR DO IT! EXERCISES DO IT! 25.1 Estimated annual cash inflows................................. Less: Estimated annual cash outflows .................... Net annual cash flow ................................................. Cash payback period = $140,000/$40,000 = 3.5 years.
$80,000 40,000 $40,000
LO1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [$140,000 ÷ ($80,000 - $40,000) = 3.5] (Cap. invest. ÷ Net ann. cash flow = Cash payback period in yrs.)
DO IT! 25.2 Estimated annual cash inflows................................. Less: Estimated annual cash outflows .................... Net annual cash flow .................................................
Present value of net annual cash flows Less: Capital investment Net present value a Table 4, Appendix A.
$80,000 40,000 $40,000
Cash Flow
12% Discount Factor
Present Value
$40,000
3.03735a
$121,494 120,000 $ 1,494
Since the net present value is positive, the project should be accepted. LO2 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [(($80,000 - $40,000) x 3.03735) - $120,000 = $1,494] (PV of net ann. cash flows – Cap. invest. = Pos. NPV)
DO IT! 25.3 Present value of net annual cash flows Less: Capital investment Net present value Profitability index *$52,580 $39,500 = 1.33 (Rounded)
Solar $52,580 39,500 $13,080 1.33*
Wind $128,450 105,300 $ 23,150 1.22**
**$128,450 $105,300 = 1.22 (Rounded)
[(Solar: ($52,580 - $39,500 = $13,080; $52,580 ÷ $39,500 = 1.33); (Wind: $128,450 - $105,300 = $23,150; $128,450 ÷ $105,300 = 1.22)]
DO IT! 25.3 (Continued) [(Solar: (PV of net ann. cash flows – Cap. invest. = Pos. NPV; PV of net ann. cash flows ÷ Cap. invest. = Profit. Index); (Wind: (PV of net ann. cash flows – Cap. invest. = Pos. NPV; PV of net ann. cash flows ÷ Cap. invest. = Profit. Index)]
While the investment in wind power generates the higher net present value, it also requires a substantially higher initial investment. The profitability index is higher for solar, which suggests that the additional net present value of wind is outweighed by the cost of the initial investment. The company should choose solar. LO3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
DO IT! 25.4 Estimated annual cash inflows ................................ Less: Estimated annual cash outflows .................... Net annual cash flow.................................................
$80,000 40,000 $40,000
$120,000/$40,000 = 3.00. Using Table 4 of Appendix A and the factors that correspond with the four-period row, 3.00 is between the factors for 12% and 15%. Since the project has an internal rate that is more than 12%, the company’s required rate of return, the project should be accepted. LO4 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [$120,000 ÷ ($80,000 - $40,000) = 3.00] (Cap. invest. ÷ Net ann. cash flow = Disc. factor for PV of an annuity table)
DO IT! 25.5 Revenues .................................................................... Less: Expenses (excluding depreciation) .................... Depreciation ($120,000/4 years) .......................... Annual net income ..................................................... Average investment = ($120,000 + $0)/2 = $60,000. Annual rate of return = $9,000/$60,000 = 15%.
$80,000 $41,000 30,000
71,000 $ 9,000
Since the annual rate of return, 15%, is greater than Wayne’s required rate of return, 12%, the proposed project is acceptable. LO5 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($80,000 – ($41,000 + ($120,000 ÷ 4)) = $9,000; (($120,000 + $0) ÷ 2 = $60,000); ($9,000 ÷ $60,000 = 15%)]
[(Rev. – (Exp. excluding depr. + Depr.) = Ann. net inc.); ((Cap. invest. + SV) ÷ 2 = Ave. invest.); (Ann. net inc. ÷ Ave. invest. = Ann. ROR)]
SOLUTIONS TO EXERCISES EXERCISE 25.1 (a) The cash payback period is: $56,000 ÷ $8,000 = 7 years The net present value is:
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
8% Cash Discount Present Flows x Factor = Value $ 8,000 x 5.74664 = $45,973 27,000 x .54027 = 14,587 60,560 56,000 $ 4,560
[($56,000 ÷ $8,000 = 7); (($8,000 x 5.74664) + ($27,000 x .54027) - $56,000 = $4,560)] [(Cap. invest. ÷ net ann. cash flows = Cash payback period); (PV of net ann. cash flows + PV of SV – Cap. invest. = Pos. NPV)]
(b) In order to meet the cash payback criteria, the project would have to have a cash payback period of less than 4 years (8 ÷ 2). It does not meet this criterion. The net present value is positive, however, suggesting the project should be accepted. The reason for the difference is that the project’s high estimated salvage value increases the present value of the project. The net present value is a better indicator of the project’s worth because it takes into account the time value of money. LO1, 2 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
EXERCISE 25.2 (a) AA Year Net Annual Cash Flow 1 $ 7,000 2 9,000 3 12,000 Cash payback period 2.50 years $22,000 – $16,000 = $6,000 $6,000 ÷ $12,000 = .50
Cumulative Net Cash Flow $ 7,000 16,000 28,000
EXERCISE 25.2 (Continued) BB $22,000 ÷ $10,000 = 2.2 years Year 1 2 3
CC Net Annual Cash Flow $13,000 12,000 11,000
Cumulative Net Cash Flow $13,000 25,000 36,000
Cash payback period 1.75 years $22,000 – 13,000 = $9,000 $9,000 ÷ $12,000 = .75 The most desirable project is CC because it has the shortest payback period. The least desirable project is AA because it has the longest payback period. As indicated, only CC is acceptable because its cash payback is 1.75 years. (b) Year
12% Discount Factor
AA Cash Present Flow Value
1 .89286 $ 7,000 2 .79719 9,000 3 .71178 12,000 Total present value Less: Investment Net present value
$ 6,250 7,175 8,541 21,966 (22,000) $ (34)
BB Cash Present Flow Value $10,000 10,000 10,000
CC Cash Flow
Present Value
$ 8,929 $13,000 7,972 12,000 7,118 11,000 24,019(1) (22,000) $ 2,019
$11,607 9,566 7,830 29,003 (22,000) $ 7,003
(1) This total may also be obtained from Table 4: $10,000 x 2.40183 = $24,018. (The difference of $1 is due to rounding) [(AA: (.89286 x $7,000) + (.79719 x $9,000) + (.71178 x $12,000) - $22,000 = ($34)); (BB: (.89286 x $10,000) + (.79719 x $10,000) + (.71178 x $10,000) - $22,000 = $2,019); (CC: (.89286 x $13,000) + (.79719 x $12,000) + (.71178 x $11,000) - $22,000 = $7,003)] [(AA: (Yr. 1 cash flow x 12% disc. factor) + (Yr. 2 cash flow x 12% disc. factor) + (Yr. 3 cash flow x 12% disc. factor) – Cap. invest. = Neg. NPV); (BB: (Yr. 1 cash flow x 12% disc. factor) + (Yr. 2 cash flow x 12% disc. factor) + (Yr. 3 cash flow x 12% disc. factor) – Cap. invest. = Pos. NPV); (CC: (Yr. 1 cash flow x 12% disc. factor) + (Yr. 2 cash flow x 12% disc. factor) + (Yr. 3 cash flow x 12% disc. factor) – Cap. invest. = Pos. NPV)]
Project CC is still the most desirable project. Also, on the basis of net present values, project BB is also acceptable. Project AA is not acceptable. LO1, 2 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions 25-14
EXERCISE 25.3 Investment in new equipment ............. Disposal of old equipment................... Additional training required ................ Net capital investment required ..........
$2,450,000 (250,000) 85,000 $2,285,000
Calculation of net present value:
Cash flows
Maintenance Net cash flows from operations: Terminal salvage Present value of cash inflows Less: Capital investment Net present value
Year 1 2 3 4 5 6 7
Discount Factor, 9% 0.91743 0.84168 0.77218 0.70843 0.64993 0.59627 0.54703
Amount $ 390,000 400,000 411,000 426,000 434,000 435,000 436,000
Present Value $ 357,798 336,672 317,366 301,791 282,070 259,377 238,505
5
0.64993
(100,000)
(64,993)
400,000
2,028,586 218,812
7
0.54703
2,247,398 2,285,000 $ (37,602)
Based on the net present calculation alone, the sewing machine should not be purchased. However, the internal rate of return would be only slightly lower than the 9% minimum required, so the company may want to look at some of the non-quantitative factors involved. LO2 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($2,450,000 - $250,000 + $85,000 = $2,285,000); ($357,798 + $336,672 + $317,366 + $301,791 + $282,070 + $259,377 + $238,505 - $64,993 + $218,812 - $2,285,000 = ($37,602))] [(Invest. in new equip. – Disp. of old equip. + Add’l. training req. = Cap. invest.); (PV of cash flow from yr. 1 + PV of cash flow from yr. 2 + PV of cash flow from yr. 3 + PV of cash flow from yr. 4 + PV of cash flow from yr. 5 + PV of cash flow from yr. 6 + PV of cash flow from yr. 7 - PV of cash flow from maint. yr. 5 + PV of cash flow from terminal salvage yr. 7 – Cap. invest. = Neg. NPV))]
EXERCISE 25.4 Machine A
Present value of net annual cash flows Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $15,000 x 5.53482 = $83,022 75,500 $ 7,522
Profitability index = $83,022/$75,500 = 1.10 (Rounded) [(Machine A: ($15,000 x 5.53482) - $75,500 = $7,522); ($83,022 ÷ $75,500 = 1.10)] [(Machine A: PV of net ann. cash flows – Cap. invest. = Pos. NPV); (PV of net cash flows ÷ Cap. invest. = Profit. Index)]
Machine B
Present value of net annual cash flows Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $30,000 x 5.53482 = $166,045 180,000 $ (13,955)
Profitability index = $166,045/$180,000 = .92 (Rounded) Machine B has a negative net present value, and also a lower profitability index. Machine B should be rejected and Machine A should be purchased. LO2, 3 BT: AN Difficulty: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
EXERCISE 25.5 When net annual cash flows are expected to be equal, the internal rate of return can be approximated by dividing the capital investment by the net annual cash flows to determine the discount factor, and then locating this discount factor on the present value of an annuity table. $430,000/$101,000 = 4.25743 By tracing across on the 6-year row, we see that the discount factor for 11% is 4.23054. Thus, the internal rate of return on this project is approximately 11%. Since this is above the company’s required rate of return, the project should be accepted. 25-16
LO4 BT: AN Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
EXERCISE 25.6 (a)
Total net investment = $29,300 + $1,500 – $2,000 = $28,800 Annual net cash flow = $7,000 Payback period = $28,800 ÷ $7,000 = 4.1 years (Rounded)
[($29,300 + $1,500 - $2,000) ÷ $7,000 = 4.1 yrs.] (Tot. net invest. ÷ Ann. net cash flows = Payback period)
(b)
Net present value approximates zero when discount rate is 12%. Item Net annual cash flows Less: Capital investment Net present value
(c)
Amount $7,000
Years 1–6
12% PV Factor 4.11141
Present Value $28,780 28,800 $ (20)
Because the approximate internal rate of return of 12% exceeds the required rate of return of 10%, the investment should be accepted.
LO1, 4 BT: AN Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
EXERCISE 25.7 (a)
Project
Capital Investment ÷
Net Annual Cash Flows*
Internal Rate of Return = Factor
22A 23A 24A
$240,000 $270,000 $280,000
($15,500 + $40,000) ($20,600 + $30,000) ($15,700 + $40,000)
= = =
÷ ÷ ÷
4.324 5.336 5.027
Closest Discount Factor
Internal Rate of Return
4.35526 5.32825 5.03295
10% 12% 9%
*(Annual net income + Depreciation expense) [(22A: $240,000 ÷ ($15,500 + $40,000) = 4.324 = 10%); (23A: $270,000 ÷ ($20,600 + $30,000) = 5.336 = 12%); (24A: $280,000 ÷ ($15,700 + $40,000) = 5.027 = 9%)] [(22A: Cap. invest. ÷ (Ann. net inc. + Depr. exp.) = IRR factor = IRR); (23A: Cap. invest. ÷ (Ann. net inc. + Depr. exp.) = IRR factor = IRR); (24A: Cap. invest. ÷ (Ann. net inc. + Depr. exp.) = IRR factor = IRR)]
(b)
The acceptable projects are 22A and 23A because their rates of return are equal to or greater than the 10% required rate of return.
LO4 BT: AN Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
EXERCISE 25.8 The annual rate of return is calculated by dividing expected annual income by the average investment. The company’s expected annual income is: $70,000 – $41,500 = $28,500 Its average investment is: $300,000 + $80,000 = $190,000 2 Therefore, its annual rate of return is: $28,500 ÷ $190,000 = 15% LO5 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions [($70,000 - $41,500) ÷ (($300,000 + $80,000) ÷ 2) = 15%] (Exp. ann. inc. ÷ Ave. invest. = Ann. ROR)
EXERCISE 25.9 (a) Cost of hoist: $32,400 + $3,300 + $700 = $36,400. Net annual cash flows: Number of extra mufflers 5 x 52 weeks Contribution margin per muffler ($72 – $36 – $16) Total net annual cash flows (a) x (b) Cash payback period = $36,400 ÷ $5,200 = 7 years.
(a) 260 (b) x $20 $5,200
[($32,400 + $3,300 + $700 = $36,400); ((5 x 52 wks.) x ($72 - $36 - $16) = $5,200); ($36,400 ÷ $5,200 = 7 yrs.)] [(Purch. price + Install. costs + Frt. = Cost of hoist); ((No. extra mufflers per wk. x No. wks. per yr.) x (USP – Cost per muffler – Install. labor per muffler) = Tot. ann. cash flows); (Cost of hoist ÷ Tot. ann. cash flows = Cash payback period)]
(b) Average investment: ($36,400 + $3,000) ÷ 2 = $19,700. Annual depreciation: ($36,400 – $3,000) ÷ 8 = $4,175. Annual net income: $5,200 – $4,175 = $1,025. Annual rate of return = $1,025 ÷ $19,700 = 5.2% (Rounded). LO1, 5 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
25-18
EXERCISE 25.10 (a) 1. Cash payback period: $190,000 ÷ $50,000 = 3.8 years. 2. Annual rate of return: $12,000 ÷ [($190,000 + $0) ÷ 2] = 12.63%. (Rounded) [($190,000 ÷ $50,000 = 3.8 yrs.); ($12,000 ÷ (($190,000 + $0) ÷ 2) = 12.63%)] [(Cap. invest. ÷ Net ann. cash flows = Cash payback period); (Ann. net inc. ÷ Ave. invest. = Ann. ROR)]
(b)
Item Net annual cash flows Less: Capital investment Net present value
Amount $ 50,000
Years 1–5
PV Factor 3.60478
Present Value $180,239 190,000 $ (9,761)
LO1, 2, 5 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
EXERCISE 25.11 (a) Year Net Annual Cash Flow 1 $45,000 2 40,000 3 35,000
Cumulative Net Cash Flow $ 45,000 85,000 120,000
Cash payback period 2.57 years (Rounded) (2 + [($105,000 – $85,000) ÷ $35,000]) (b) Average annual net income = ($10,000 + $12,000 + $14,000 + $16,000 + $18,000) ÷ 5 = $14,000 Average investment = ($105,000 + $0) ÷ 2 = $52,500 Annual rate of return = $14,000 ÷ $52,500 = 26.67% (Rounded) (c) Net cash flows
Year 1 2 3 4 5
Present value of cash inflows Less: Capital investment 105,000 Net present value
Discount Factor, 11% 0.90090 0.81162 0.73119 0.65873 0.59345
Amount $45,000 40,000 35,000 30,000 25,000
Present Value $ 40,541 32,465 25,592 19,762 14,836 133,196 $ 28,196
[($40,541 + $32,465 + $25,592 + $19,762 + $14,836) - $105,000 = $28,196] [(PV of cash flow for yr. 1 + PV of cash flow for yr. 2 + PV of cash flow for yr. 3 + PV of cash flow for yr. 4 + PV of cash flow for yr. 5) – Cap. invest. = Pos. NPV]
LO1, 2, 5 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
SOLUTIONS TO PROBLEMS PROBLEM 25.1
(a) Project Bono $160,000 ÷ ($14,000 + $32,000) = 3.48 years (Rounded)
Year 1 2 3 4 5
Project Edge Cash Flow $53,000 ($18,000 + $35,000) $52,000 ($17,000 + $35,000) $51,000 ($16,000 + $35,000) $47,000 ($12,000 + $35,000) $44,000 ($ 9,000 + $35,000)
Cumulative Cash Flow $ 53,000 $105,000 $156,000 $203,000 $247,000
Cash payback period 3.40 years (Rounded) $175,000 – $156,000 = $19,000 $19,000 ÷ $47,000 = .40 (Rounded)
Year 1 2 3 4 5
Project Clayton Cash Flow $67,000 ($27,000 + $40,000) $63,000 ($23,000 + $40,000) $61,000 ($21,000 + $40,000) $53,000 ($13,000 + $40,000) $52,000 ($12,000 + $40,000)
Cash payback period 3.17 years (Rounded) $200,000 – $191,000 = $9,000 $9,000 ÷ $53,000 = .17 (Rounded)
Cumulative Cash Flow $ 67,000 $130,000 $191,000 $244,000 $296,000
PROBLEM 25.1 (Continued) (b)
Project Bono Item Net annual cash flows Less: Capital investment Negative net present value
Amount $46,000
Years 1–5
PV Factor 3.35216
Present Value $154,199 160,000 $ (5,801)
[Bono: ($46,000 x 3.35216) - $160,000 = ($5,801)] [Bono: (Net ann. cash flows x 15% disc. factor) – Cap. invest. = NPV]
15% Discount Factor .86957 .75614 .65752 .57175 .49718
Project Edge Cash Year Flow PV 1 $ 53,000 $ 46,087 2 52,000 39,319 3 51,000 33,534 4 47,000 26,872 5 44,000 21,876 Total $247,000 167,688 175,000 Less: Capital investment Positive (negative) $ (7,312) net present value
Project Clayton Cash Flow PV $ 67,000 $ 58,261 63,000 47,637 61,000 40,109 53,000 30,303 25,853 52,000 202,163 $296,000 200,000 $
2,163
[(Edge: (($53,000 x .86957) + ($52,000 x .75614) + ($51,000 x .65752) + ($47,000 x .57175) + ($44,000 x .49718)) - $175,000 = ($7,312); (Clayton: (($67,000 x .86957) + ($63,000 x .75614) + ($61,000 x .65752) + ($53,000 x .57175) + ($52,000 x .49718)) - $200,000 = $2,163)] [(Edge: ((Yr. 1 cash flow x 15% disc. factor) + (Yr. 2 cash flow x 15% disc. factor) + (Yr. 3 cash flow x 15% disc. factor) + (Yr. 4 cash flow x 15% disc. factor) + (Yr. 5 cash flow x 15% disc. factor)) – Cap. invest. = NPV); (Clayton: ((Yr. 1 cash flow x 15% disc. factor) + (Yr. 2 cash flow x 15% disc. factor) + (Yr. 3 cash flow x 15% disc. factor) + (Yr. 4 cash flow x 15% disc. factor) + (Yr. 5 cash flow x 15% disc. factor)) – Cap. invest. = NPV)]
(c) Project Bono = $14,000 ÷ [($160,000 + $0) ÷ 2] = 17.50%. (Rounded) Project Edge = $14,400 ÷ [($175,000 + $0) ÷ 2] = 16.46%. (Rounded) Project Clayton = $19,200 ÷ [($200,000 + $0) ÷ 2] = 19.20%.(Rounded) [(Bono: $14,000 ÷ (($160,000 + $0) ÷ 2) = 17.5%); (Edge: ($72,000 ÷ 5) ÷ (($175,000 + $0) ÷ 2) = 16.5%); (Clayton: ($96,000 ÷ 5) ÷ (($200,000 + $0) ÷ 2) = 19.2%)] [(Bono: Net inc. ÷ ((Cap. invest. + SV) ÷ 2) = Ann. ROR); (Edge: Net inc. ÷ ((Cap. invest. + SV) ÷ 2) = Ann. ROR); (Clayton: Net inc. ÷ ((Cap. invest. + SV) ÷ 2) = Ann. ROR)]
PROBLEM 25.1 (Continued) (d) Project Bono Edge Clayton
Cash Payback 3 2 1
Net Present Value 2 3 1
Annual Rate of Return 2 3 1
The best project is Clayton. LO1, 2, 5 BT: AN Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
PROBLEM 25.2 (a)
Sales Expenses Drivers’ salaries Out-of-pocket expenses Depreciation Total expenses Net income Cash inflow
(1) Annual Net Income $108,000*
(2) Annual Cash Inflow $108,000
48,000 30,000 25,000 103,000 $ 5,000
48,000 30,000 0 78,000 $ 30,000
*5 vans X 10 trips x 6 students x 30 weeks x $12.00 = $108,000. [(Ann. net inc.: (5 x 10 x 6 x 30 x $12) – ($48,000 + $30,000 + $25,000) = $5,000); (Ann. cash inflow: $108,000 – ($48,000 + $30,000) = $30,000)] [(Ann. net inc.: (No. vans x No. trips x No. students x No. wks. X Ticket price) – (Drivers’ sal. + Out-of-pocket exp. + Depr.) = Net inc.); (Ann. cash inflow: (No. vans x No. trips x No. students x No. wks. X Ticket price) – (Drivers’ sal. + Out-of-pocket exp.) = Cash flow)]
(b) 1.
Cash payback period = $75,000 ÷ $30,000 = 2.50 years.
($75,000 ÷ $30,000 = 2.50 yrs.) (Cap. invest. ÷ Ann. cash flow = Cash payback period)
2.
Annual rate of return = $5,000 ÷ ($75,000 +$0) = 13.33%. 2
[$5,000 ÷ (($75,000 + $0) ÷ 2) = 13.33%] [Net inc. ÷ ((Cap. invest. + SV) ÷ 2) = Ann. ROR]
(c) Present value of annual cash inflows ($30,000 x 2.28323*) = $68,497 Less: Capital investment = 75,000 Net present value $ (6,503) *3 years at 15%, PV of annuity of 1. (d) The computations show that the commuter service is not a wise investment for these reasons: (1) annual net income will only be $5,000, (2) the annual rate of return (13.33%) is less than the cost of capital (15%), (3) the cash payback period is 83% (2.5 ÷ 3) of the useful life of the vans, and (4) net present value is negative, indicating the investment earns a return less than the cost of capital. LO1, 2, 5 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
PROBLEM 25.3 (a) (1) Option A Present value of net annual cash flows Present value of cost to rebuild Less: Capital investment Net present value
Cash 8% Discount Present Flows x Factor = Value a$41,000a x 5.20637 = $213,461 (50,000) x .73503 = (36,752) 176,709 160,000 $ 16,709
aNet annual cash flows = $71,000 – $30,000 = $41,000
[(($71,000 - $30,000) x 5.20637) – ($50,000 x .73503) - $160,000 = $16,709] [((Ann. cash inflows – Ann. cash outflows) x 8% disc. factor) – (Cost to rebuild x 8% disc. factor) – Cap. invest. = NPV]
(2) Profitability index = $176,709/$160,000 = 1.10 (Rounded) (3) The internal rate of return can be approximated by finding, through trial and error, the discount rate that results in a net present value of approximately zero. This is accomplished with a 11% discount rate.
Present value of net annual cash flows Present value of cost to rebuild Less: Capital investment Net present value
Cash 11% Discount Present Flows x Factor = Value a $41,000 x 4.71220 = $193,200 (50,000) x .65873 = (32,937) 160,263 160,000 $ 263
aNet annual cash flows = $71,000 – $30,000 = $41,000
[($41,000 x 4.71220) – ($50,000 x .65873) - $160,000 = $263] [(Net ann. cash flows x 11% disc. factor) – (Cost to rebuild x 11% disc. factor) – Cap. invest. = NPV)]
(1) Option B Present value of net annual cash flows Present value of salvage value
Cash 8% Discount x Flows Factor $49,000b x 5.20637 8,000 x .58349
Less: Capital investment Net present value
Present = Value = $255,112 = 4,668 259,780 227,000 $ 32,780
bNet annual cash flows = $80,000 – $31,000 = $49,000
[(($80,000 - $31,000) x 5.20637) + ($8,000 x .58349) - $227,000 = $32,780] [((Ann. cash inflows – Acc. cash outflows) x 8% disc. factor) + (SV x 8% disc. factor) – Cap. invest. = NPV] 25-24
PROBLEM 25.3 (Continued) (2) Profitability index = $259,780/$227,000 = 1.14 (Rounded) (3) Internal rate of return on Option B is 12%, as calculated below:
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 12% Discount Present Flows x Factor = Value $49,000b x 4.56376 = $223,624 8,000 x .45235 = 3,619 227,243 227,000 $ 243
bNet annual cash flows = $80,000 – $31,000 = $49,000
[($49,000 x 4.56376) + ($8,000 x .45235) - $227,000 = $243] [(Net ann. cash flows x 12% disc. factor) + (SV x 12% disc. factor) – Cap. invest. = NPV]
(b) Option A has a lower net present value than Option B, and also a lower profitability index and internal rate of return. Therefore, Option B is the preferred project. LO2, 3, 4 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
PROBLEM 25.4 (a) The net present value based on the original estimates is as follows:
Present value of net annual cash flows Present value of cost of overhaul Present value of salvage value
Cash 9% Discount Flows x Factor = $ 8,000 x 5.53482 = (6,000) x .70843 = 12,000 x .50187 =
Less: Capital investment Net present value
Present Value $ 44,279 (4,251) 6,022 46,050 60,000 $(13,950)
Based on its negative net present value, the tow truck should not be purchased. [($8,000 x 5.53482) – ($6,000 x .70843) + ($12,000 x .50187) - $60,000 = ($13,950)] (PV of net ann. cash flows – PV of overhaul cost + PV of SV – Cap. invest. = Neg. NPV)
(b) The net present value based on the revised estimates is as follows:
Present value of net annual cash flows Present value of cost of overhaul Present value of salvage value Less: Capital investment Net present value
Cash 9% Discount Present Flows x Factor = Value $13,500* x 5.53482 = $74,720 (6,000)* x .70843 = (4,251) 12,000 * x .50187 = 6,022 76,491 60,000 $16,491
*$8,000 + ($3,000 + $750 + $1,000 + $750) [(($8,000 + $3,000 + $750 + $1,000 + $750) x 5.53482) – ($6,000 x .70843) + ($12,000 x .50187) - $60,000 = $16,491] [((Net ann. cash flow from towing + Add’l ann. cash flow from repair work + Ann. savings from plowing + Add’l. ann. cash flow from cust. goodwill + Add’l. ann. net cash flow from advert.) x 9% disc. factor) – (Overhaul cost x 9% disc. factor) + (SV x 9% disc. factor) – Cap. invest. = Pos. NPV]
Based on the revised figures, the tow truck has a positive net present value and therefore should be purchased. (c) The present value of the intangible benefits was $30,441 (the increase in the net present value from a negative $13,950 to a positive $16,491). Rick’s estimates of the value of these intangible benefits may be overly optimistic. In order for the project to be acceptable, the present value of the intangible benefits would only have to be $13,950. That is the amount by which the original estimate fell short of having a positive net present value.
25-26
LO2, 3 BT: E Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
PROBLEM 25.5
(a) Using the original estimates, the net present value is calculated as follows: Cash 8% Discount Present Flows x Factor = Value a Present value of net annual cash flows $ 80,000 x 9.81815 = $ 785,452 Present value of salvage value 1,500,000 x .21455 = 321,825 1,107,277 Less: Capital investment ($300,000 + $600,000) 900,000 Net present value $ 207,277 aNet annual cash flows = $920,000 – $840,000
[(($920,000 - $840,000) x 9.81815) + ($1,500,000 x .21455) – ($300,000 + $600,000) = $207,277] (PV of net ann. cash flows + PV of SV – Cap. invest. = Pos. NPV)
The positive net present value of the project suggests that it should be accepted. (b) Using the revised estimates, the net present value is calculated as follows:
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 8% Discount Present Flows x Factor = Value b $ 55,000 x 9.81815 = $ 539,998 1,500,000 x .21455 = 321,825 861,823 900,000 $ (38,177)
bNet annual cash flows = $805,000 – $750,000
[(($805,000 - $750,000) x 9.81815) + ($1,500,000 x .21455) - $900,000 = ($38,177)] (PV of revised ann. net cash flows + PV of SV – Cap. invest. = Neg. NPV)
Under these revised estimates, the project should be rejected. It appears that many of the camp’s costs are fixed; thus, when the number of players declines, cash inflows decline, but cash outflows don’t decline proportionately.
25-28
PROBLEM 25.5 (Continued) (c) Using the original estimates, but an 10% discount rate, the net present value is calculated as follows:
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 10% Discount Present Flows x Factor = Value c $ 80,000 x 8.51356 = $ 681,085 1,500,000 x .14864 = 222,960 904,045 900,000 $ 4,045
cNet annual cash flows = $920,000 – $840,000
[(($920,000 - $840,000) x 8.51356) + ($1,500,000 x .14864) - $900,000 = $4,045] (PV of ann. net cash flows at higher disc. rate + PV of SV at higher disc. rate – Cap. invest. = Pos. NPV]
The positive net present value of the project suggests that it should be accepted; however, it is not nearly as profitable using an 8% discount rate. (d) The internal rate of return can be determined by calculating the discount rate that results in a net present value of approximately zero. In this case the internal rate of return was approximately 12%.
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 12% Discount Present Flows x Factor = Value $ 40,000 x 3.60478 = $144,191 1,332,000 x .56743 = 755,817 900,008 900,000 $ 8
The project had a high internal rate of return, even though the business itself was not generating much cash flow, because the property increased significantly in value during the 5-year period. LO2, 3, 4 BT: E Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
CD25
CURRENT DESIGNS
(a) Average investment = ($256,000 + 0) ÷ 2 = $128,000 Annual rate of return = $15,200 ÷ $128,000 = 11.88% (Rounded) [((($256,000 + $0) ÷ 2) = $128,000); ($15,200 ÷ $128,000 = 11.88%)] [(((Cap. invest. + SV) ÷ 2) = Ave. invest.); (Net inc. ÷ Ave. invest. = Ann. ROR)]
(b) Net annual cash flow = $15,200 + $32,000 = $47,200 Payback period = $256,000 ÷ $47,200 = 5.42 years (Rounded) (c) Event Net annual cash flow Less: Oven purchase Net present value
Time Period 1-8 0
Cash Flows $ 47,200 256,000
9% Discount Factor 5.53482 1.00000
Present Value $ 261,244 256,000 $ 5,244
Accept the proposal [($47,200 x 5.53482) - $256,000 = $5,244] [(Net ann. cash flow x 9% disc. factor) – Oven purch. = NPV]
(d) Event Net annual cash flow Less: Oven purchase Net present value
Time Period 1-8 0
Cash 15% Discount Present Flows Factor Value $ 47,200 4.48732 $ 211,802 256,000 1.00000 256,000 $ (44,198)
Do not accept the proposal LO1, 2, 5 BT: AN Difficulty: Moderate TOT: 20 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
WC25 (a)
WATERWAYS CORPORATION
(1)
NET PRESENT VALUE Buy New Backhoes Time Period Equipment purchase 0 Salvage value of old equip 0 Net cash flow 8 Salvage value of new equip 8 Net present value
Cash Flow $(200,000) 42,000 43,900 90,000
8% Discount Rate 1 1 5.74664 0.54027
Present Value $ (200,000) 42,000 252,277 48,624 $ 142,901
NET PRESENT VALUE Keep Old Backhoes
Overhaul cost Net cash flow Salvage value Net present value
Time Period 1 8 8
Cash Flow $(55,000) 30,425 15,000
8% Discount Present Value Rate 0.92593 $ (50,926) 5.74664 174,842 0.54027 8,104 $ 132,020
(2)
PAYBACK METHOD Cost of Capital Investment Net Annual Cash Flow = Cash Payback Period
New
Old
Cost of Capital Investment
$158,000
$55,000
Net annual cash flow
$ 43,900
$30,425
Payback time
3.60 years
1.81 years
(3)
PROFITABILITY INDEX Present Value of Net Cash Flows Initial Investment = Profitability Index
New
Old
Present Value of Net Cash Flows
$300,901
$182,946
Initial investment
$158,000
$ 55,000
Profitability index
1.90
3.33
WC25 (Continued) (4)
INTERNAL RATE OF RETURN Investment Required Net Annual Cash Flows = Internal Rate of Return Factor
New $158,000 $43,900
= 3.59909
Old $55,000 = 1.80772 = a much higher return than buying a new one $30,425 Both of these values are above the factors presented in the text table, so they are above 15% and well over the required 8% discount rate.
(b)
Intangible benefits include faster completion of jobs due to the increased speed of the backhoes. The depth and width of the trenches will be more accurate. Also, the new backhoes have considerably more comforts for the operator than the old backhoes. However, there would be time involved in training the operators to use the new backhoes. There may also be some resistance from the operators to change from the machines in which they now feel competent in handling. Because of the increased speed, these operators who are paid on an hourly basis may find their incomes decreased if the increased speed does not also result in increased jobs requiring the use of the backhoes.
(c)
The decision would be a difficult one to make. There is little difference in the net present value, although buying new backhoes is slightly higher. All the other indicators suggest that keeping the old backhoes for another 8 years may be the best decision at this time. However, buying new backhoes would decrease maintenance costs and the time spent on maintenance. This may allow for additional jobs to be added to the schedule. Depreciation would also increase, which would lower income—and therefore income taxes—without affecting actual cash flow. Both decisions would yield a much higher than 8% return on the money invested. Either decision could actually be defended.
LO1, 2, 3, 4 BT: AN Difficulty: Moderate TOT: 60 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
CC25.1 1.
GREETINGS INC.
Present value of future cash flows: Cost of equipment (zero residual value) ........................................................... ($800,000) Cost of ink and paper supplies (purchased immediately) ................................................... (100,000) Annual cash flow savings for Wall Décor ($175,000 x 3.60478)* .......................................................... 630,837 Annual additional store cash flow from increased sales ($100,000 x 3.60478) ........................................................... 360,478 Sale of ink and paper supplies at end of 5 years ($50,000 x 0.56743)**........................................................... 28,372 Net present value.................................................................... $119,687 *Present value of an annuity for 5 years at 12% **Present value of 1 for 5 years at 12% The analysis shows that if Mr. Burns approves the purchase of equipment, the net present value of the project is $119,687. This suggests that the project should be undertaken.
2.
Computation of revised amounts:
Cost of equipment (zero residual value) Cost of ink and paper supplies Annual cash flow savings from Wall Décor Annual additional store cash inflow from increased sales Sale of ink and paper supplies at end of 5 years
Original Amounts ($800,000) (100,000) 175,000
Revised Amounts ($880,000) (110,000) 157,500
100,000
90,000
50,000
45,000
CC25.1 (Continued) Present value of future cash flows, revised amounts: Cost of equipment ($880,000) Cost of ink and paper supplies (purchased immediately) ... (110,000) Annual cash flow savings for Wall Décor ($157,500 x 3.60478) ........................................................... 567,753 Annual additional store cash flow from sales 324,430 ($90,000 x 3.60478) ............................................................. Sale of ink and paper supplies at end of 5 years ($45,000 x 0.56743) ............................................................. 25,534 Net present value.................................................................... ($ 72,283) The analysis shows that if Mr. Burns approves the purchase of equipment, the net present value of the project is a negative $72,283. This suggests that under these assumptions the project should not be undertaken. 3.
Analysis of flaws and risks (a) The analysis and decision framework may be flawed in its time period assumption. The analysis is based on a five-year time period. Notice the projected cost savings and additional profits are based on five-year projections. Implicit is that it will require five years for the competition to match the cost advantage of printing on demand. It might be naïve to think that it will take five years for the competition to match and generate whatever advantage is created by this new approach. Competition will likely be able to purchase the same equipment and licensing rights. If it becomes clear that this strategy is working well for Greetings, the competitors will be quick to follow suit. (b) Quality must be assured. The analysis assumed that the “in-store” printing process could match the supply and quality of traditional prints. Selling a poor quality product to valued customers could result in lost business. (c) What about new prints that become popular? Can reasonably priced license agreements be secured, on a timely basis, for new popular prints? (d) Will acquiring a license right become a bidding war?
25-34
CC25.1 (Continued) (e) The analysis assumes that the expanded market will turn additional profits with the purchase of related products. Although this may be reasonable, it is only an educated guess. Students will likely develop additional issues. 4.
Memo: The one-page memo should be divided into two sections: (a) Conclusion and support (b) Suggestions Conclusion Our initial analysis points to a decision to purchase the printing-ondemand equipment. This option enables the Greetings stores to maintain and build customer relationships. The projections provided point to a net present value of $119,687. By not purchasing the equipment, profits will decline during this period. Any capital budgeting decision must rely on estimates and assumptions. To test the sensitivity of the assumptions used, I redid the analysis assuming costs would be 10% higher than projected, and cash inflows would be 10% lower. Under these more conservative assumptions the project’s net present value is a negative $72,283. While every effort was made to arrive at the most accurate estimates possible, it is not unusual for estimates to differ from actual results by as much as 10%. Other concerns merit further investigation before a decision is made. First, this analysis was based on an assumption that the project will provide a competitive advantage for a five-year period. This may prove to be too optimistic. If the project is successful, the competition will certainly adopt these same techniques as quickly as possible. It may be that a competitive advantage is provided for only a three-year period. In addition, a market test should be performed to ensure that the quality of these prints is acceptable to the target customers. Also, licensing arrangements need to be pursued further to ensure that popular prints can be obtained at a reasonable price, and that contract terms can be negotiated to ensure that licensing fees stay relatively constant during this period.
CC25.1 Suggestions Purchasing equipment should be only one component of the decision process. I suggest you challenge the stores and Wall Décor to shorten the time frame to achieve a positive net present value. The target level of success would be to generate enough additional business to generate a positive net present value in a time frame of approximately three years. Furthermore, the stores and Wall Décor should try to find additional applications for the new equipment purchased. I also suggest that the decision to purchase the equipment be used as a pilot study. Lessons learned from this project can likely be extended to additional products and services. The key is for management to build a compensation structure that encourages innovation in expanding product-mix offerings within the same store space. For example, the computer used to link the stores to Wall Décor may also be used to help sell a specialty line of reading material for senior citizens. Be assured that the cost advantage created by producing prints on demand will be matched by the competition. The only question is how quickly it will act. LO 2 BT: AN Difficulty: Difficult TOT: 120 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
CC25.2
ARMSTRONG HELMET COMPANY
1.
Item Administrative salaries
Direct Materials
Product Costs Direct Manufacturing Labor Overhead
Advertising for helmets Depreciation on factory building $ 1,500 Depreciation on office equipment 1,500 Insurance on factory building Miscellaneous expenses— factory 1,000 Office supplies expense Professional fees Property taxes on factory building_________________________________________________ 400 Raw materials used _____________ $70,000 Rent on production equipment 6,000 Research and development Sales commissions Utility costs—factory 900 Wages—factory $70,000 Totals
$70,000
$70,000
$11,300
Period Costs $15,50 0 11,000
800
300 500
10,000 40,000
$78,10 0
CC25.2 (Continued) 2. Item Administrative salaries....................... Advertising for helmets ...................... Depreciation on factory building ....... Depreciation on office equipment ..... Insurance on factory building............ Miscellaneous expenses—factory .... Office supplies expense ..................... Professional fees ................................ Property taxes on factory building.... Raw materials used ............................ Rent on production equipment.......... Research and development ............... Sales commissions............................. Utility costs—factory .......................... Wages—factory ................................... Totals ...................................................
Variable Costs
$
Fixed Costs $15,500 11,000 1,500 800 1,500
1,000 300 500 400 70,000 6,000 10,000 40,000 900
70,000 $181,000
$48,400
Total Costs $15,500 11,000 1,500 800 1,500 1,000 300 500 400 70,000 6,000 10,000 40,000 900 70,000 $229,400
CC25.2 (Continued) 3. ARMSTRONG HELMET COMPANY Cost of Goods Manufactured Schedule For the Month Ended December 31, 2025 Work in process, December 1 ......... Direct materials Raw materials inventory, (December $ 0 1) Raw materials purchased ......... 70,000 Less: Raw materials inventory (December 31) .................. 0 Direct materials used....................... Direct labor....................................... Manufacturing overhead Rent on production equipment .. 6,000 Insurance on factory building... 1,500 Depreciation on factory building .................................. 1,500 Utility costs—factory................. 900 Property taxes on factory building .................................. 400 Miscellaneous expenses— factory.................................... 1,000 Total manufacturing costs .............. Total cost of work in process.......... Less: Work in process (December 31) ........................ Cost of goods manufactured ..........
$
–0–
$70,000 70,000
11,300 $151,300 151,300 –0– $151,300
4.
Production cost per helmet = $151,300 [from 3.] ÷ 10,000 = $15.13.
5.
The Armstrong Helmet Company likely uses a process cost system. Process costing is used when large volumes of a homogenous product are produced on a continuous basis. Armstrong Helmet Company would find it useful, using a process costing system, to identify the cost of each production batch of bicycle helmets.
6.
If Armstrong Helmet Company decides to produce additional helmets (e.g., baseball, hockey, football, etc., or different models of bicycle helmets), it may find it useful to move to a job order costing system.
CC25.2 (Continued) 7. Unit variable cost 8.
= $181,000 (from 2.) ÷ 10,000 helmets = $18.10 per helmet
Contribution margin per unit = Unit selling price – Unit variable costs = $40.00 – $18.10 = $21.90 Contribution margin ratio
= Contribution margin per unit ÷ Unit selling price = $21.90 ÷ $40.00 = 54.75%
9. Break-even point in dollars: Sales dollars at the break-even point = Fixed costs ÷ Contribution margin ratio X = $48,400 (from 2.) ÷ 54.75% X = $88,402 Break-even point in units = Fixed costs ÷ Contribution margin per unit X = $48,400 ÷ $21.90 X = 2,210 helmets 10. (a) ARMSTRONG HELMET COMPANY Sales Budget For the Month Ended December 31, 2025 Expected unit sales .......................................................... Unit selling price ............................................................... Total sales .........................................................................
8,000 x $40 $320,000
(b) ARMSTRONG HELMET COMPANY Production Budget For the Month Ended December 31, 2025 Expected unit sales .......................................................... Add: Desired ending finished goods units (10,000 x 20%) ......................................................... Total required units .......................................................... Less: Beginning finished goods units ........................... Required production units ............................................... 25-40
8,000 2,000 10,000 0 10,000
CC25.2 (Continued) (c)
ARMSTRONG HELMET COMPANY Direct Materials Budget For the Month Ended December 31, 2025 Units to be produced........................................................ Direct materials per unit................................................... Total kilograms needed for production........................... Add: Desired ending direct materials (kilograms) ........ Total materials required ................................................... Less: Beginning direct materials (kilograms)................ Direct materials purchases .............................................. Cost per kilogram ............................................................. Total cost of direct materials purchases ........................
10,000 x 1kg 10,000 0 10,000 0 10,000 x $7 $70,000
(d) ARMSTRONG HELMET COMPANY Direct Labor Budget For the Month Ended December 31, 2025 Units to be produced........................................................ Direct labor time (hours) per unit .................................... Total required direct labor hours..................................... Direct labor cost per hour ................................................ Total direct labor cost ......................................................
10,000 x 0.35 3,500 x $20 $70,000
(e) ARMSTRONG HELMET COMPANY Selling and Administrative Expenses Budget For the Month Ended December 31, 2025 Variable expenses Sales commissions ...................................................... Total variable .................................................................... Fixed expenses Administrative salaries ................................................ Advertising for helmets................................................ Depreciation on office equipment ............................... Office supplies expense............................................... Research and development ......................................... Professional fees .......................................................... Total fixed ......................................................................... Total selling and administrative expenses .....................
$40,000 $40,000 $15,500 11,000 800 300 10,000 500 38,100 $78,100
CC25.2 (Continued) (f) ARMSTRONG HELMET COMPANY Cash Budget For the Month Ended December 31, 2025 Beginning cash balance ................................................... Add: Receipts Collections from customers (75% of sales, $320,000) ................................... Total receipts ................................................ Total available cash .......................................................... Less: Disbursements Direct materials............................................... (75% of direct materials purchases, $70,000) Direct labor...................................................... Manufacturing overhead ($11,300 from part (1) – $1,500 depreciation) ........................................... Selling and administrative expenses ($78,100 from part (e) – $800 depreciation) ........................................... Total disbursements ............................. Excess (deficiency) of available cash over disbursements ......................................................... Financing: Borrowing.................................................... Ending cash balance ......................................................
$
–0– 240,000 240,000 240,000 52,500 70,000 9,800
77,300 209,600 30,400 –0– $ 30,400
(g) ARMSTRONG HELMET COMPANY Budgeted Income Statement For the Month Ended December 31, 2025 Sales (8,000 x $40) ............................................................ Cost of goods sold [8,000 x $15.13 (from part (4.)] ........ Gross profit ....................................................................... Selling and administrative expenses .............................. Income from operations ................................................... Income tax expense (45%) ............................................... Net income....................................................................
$320,000 121,040 198,960 78,100 120,860 54,387 $ 66,473
25-42
CC25.2 (Continued)
CC25.2 (Continued) 11. ARMSTRONG HELMET COMPANY Monthly Flexible Manufacturing Costs Budget For the Month Ended December 31, 2025 Activity level Production in units ............ Variable costs Raw materials ($7) ............. Wages ($7) ......................... Miscellaneous ($0.10*) ...... Total variable costs .. Fixed costs.................................. Total fixed costs.................. Total costs...................................
8,000
9,000
10,000
$ 56,000 56,000 800 112,800
$ 63,000 63,000 900 126,900
$ 70,000 70,000 1,000 141,000
10,300** $123,100
10,300 $137,200
10,300 $151,300
*$1,000 ÷ 10,000 **$11,300 [from (1)] – $1,000 miscellaneous (variable cost). 12. Potential causes of a materials variance: price paid for plastics or any other raw materials included in helmet; employees; faulty equipment Potential causes of a direct labor variance: change in pay rates; inexperienced employees; faulty equipment Potential causes of a manufacturing overhead variance: change in use of supplies; increase in indirect costs such as fuel, heat, etc. 13. Cash payback period: Cost of capital investment ÷ Net cash flow $720,000 ÷ [$30,400 (from part (10f)] = 23.68 months or approximately 2 years. LO N/A & 1 BT: AN Difficulty: Difficult TOT: 120 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
CC25.2 (Continued) SOLUTIONS TO DATA ANALYTICS IN ACTION The solutions for the Data Analytics in Action problems are available in Excel. See the file Solutions: Excel Templates in the Instructor Resources.
CT25.1
DECISION-MAKING ACROSS THE ORGANIZATION
Sales Costs and expenses Cost of goods sold Selling expenses Administrative expenses Depreciation Loss on disposal of machine Total costs and expenses Net income (1) (2) (3) (4) (5) (6)
Purchase New Machine $5,000,000 (1) $3,500,000 704,000 448,000 130,000 40,000
(2) (3) (4) (5) (6) 4,822,000 $ 178,000
10,000 x $100 x 4 years = $4,000,000 x 125% = $5,000,000 $5,000,000 x (100% – 30%) = $3,500,000 $160,000 x 110% x 4 years = $704,000 $112,000 x 4 years = $448,000 $122,000 + $3,000 + $5,000 = $130,000 Assuming old machine has zero scrap value
[(10,000 x $100 x 4 yrs. x 125%) – (($5,000,000 x 70%) + ($160,000 x 110% x 4 yrs.) + ($112,000 x 4yrs.) + ($122,000 + $3,000 + $5,000) + $40,000) = $178,000] [Sales – (CGS + Sell. exp. + Admin. exp. + Depr. + Loss on disp. of machine) = Net inc.]
(a) Annual rate of return = 68.46%; ($178,000 ÷ 4) ÷ [($130,000 + $0) ÷ 2] (b) Cash payback period = 1.49 yrs.; $130,000 ÷ [($178,000 + $130,000 + $40,000) ÷ 4] [$130,000 ÷ (($178,000 + $130,000 + $40,000) ÷ 4) = 1.49 yrs.]
(Cap. invest. ÷ Ave. ann. cash flows = Cash payback period)
(c) Net present value = Net annual cash flows Less: Capital investment Net present value
Discount Amount Factor 15% $ 87,000 * 2.85498 130,000 1.00000
Present Value $248,383 130,000 $118,383
*($178,000 + $130,000 + $40,000) ÷ 4 (d) The new machine should be purchased. The analysis shows that net income will be $178,000 over the four years with the new machine, which results in a 68.5% annual rate of return. The cash payback period of 1.49 years meets management’s minimum requirement of three years. In addition, net present value is $118,383 positive, which indicates that the investment meets the required minimum rate of return of 15%. LO1, 2, 5 BT: AN Difficulty: Hard TOT: 40 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
(a) Using the original estimates, the present value is calculated as follows:
Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 11% Discount Present Flows x Factor = Value a $ 460,000 x 7.19087 = $3,307,800 2,000,000 x .20900 = 418,000 3,725,800 4,000,000 $ (274,200)
aNet annual cash flows = $4,000,000 – $3,540,000
The negative net present value of the project suggests that it should be rejected. [(($4,000,000 - $3,540,000) x 7.19087) + ($2,000,000 x .20900) - $4,000,000 = ($274,200)] (PV of net ann. cash flows + PV of SV – Cap. invest. = Neg. NPV)
(b) Using the revised estimates, the net present value is calculated as follows: Present value of net annual cash flows Present value of salvage value Less: Capital investment Net present value
Cash 11% Discount Present Flows x Factor = Value b $ 720,000 x 7.19087 = $5,177,426 2,000,000 x .20900 = 418,000 5,595,426 4,000,000 $1,595,426
bNet annual cash flows = [($4,000,000 + $200,000) - $3,540,000 + $60,000]
Under these revised estimates, the project should be accepted. [(($4,200,000 - $3,480,000) x 7.19087) + ($2,000,000 x .20900) - $4,000,000 = $1,595,426] (PV of revised net ann. cash flows + PV of SV – Cap. invest. = Pos. NPV)
CT25.2
CT25.2 (Continued) MANAGERIAL ANALYSIS (c) Using the original estimates, but a 9% discount rate, the net present value is calculated as follows: Cash Flows Present value of net annual cash flows Present value of salvage value
9% Discount x Factor =
$ 460,000c x 2,000,000 x
Less: Capital investment Net present value
8.06069 .27454
Present Value
= $3,707,917 = 549,080 $4,256,997 4,000,000 $ 256,997
Net annual cash flows = $4,000,000 – $3,540,000
c
Using the original estimates, but the lower discount rate, the net present value is positive, suggesting the project should be accepted. (d) If Bob is correct in either his belief that the estimated net annual cash flows are too conservative, or that the discount rate being used is too high, then the project is acceptable. At a minimum, this analysis suggests that further investigation is warranted. LO2, 3 BT: E Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
CT25.4
REAL-WORLD FOCUS
This disclosure, provided by the company’s management in its annual report, suggests that the scroll compressor project has not achieved the goals originally hoped for. In deciding whether to continue with this project, management should undertake a post-audit. This would involve collecting data on results obtained thus far and comparing those results with original projections. Those people responsible for the original projections should then be asked to provide explanations for differences between the results and projections. Careful consideration of the nature of these differences and their implications for future performance should provide valuable information regarding the decision to continue or terminate the project. LO3 BT: C Difficulty: Moderate TOT: 15 min. AACSB: Communication AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication IMA: Strategy, Planning & Performance: Capital Investment Decisions
CT25.3
REAL-WORLD FOCUS
Answers to this problem will vary depending on the year chosen by the student. The following solution is provided for the year ended August 2, 2020. (a) The statement of cash flows indicates that capital expenditures (purchase of plant assets) were $299 million in 2020, an decrease of $85 million from the prior year. (b) The statement of cash flows indicates $1,000 million of long-term borrowings were made in 2020. Note 14 indicates that interest rates on existing long-term borrowing ranged from 2.10% to 8.875% during the year. (c) The internal rate of return on these capital expenditures is approximately 8%, computed as follows: $299 million ÷ $45 million = 6.64 Note that the factor for n = 10, i = 8% is 6.71008 (Table A-4 (Appendix A), n = 10, i = 8%), so the IRR is estimated to be approximately 8%. LO4 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation IMA: Strategy, Planning & Performance: Capital Investment Decisions
CT25.6
To: From: Subject:
ETHICS CASE
Maria Fierro, Supervisor , Assistant Chief Accountant Recommendation for New Hoist
The quantitative analysis pertaining to this management decision is as follows: Cost of hoist: $32,400 + $3,300 + $700 = $36,400. Net annual cash flows: Number of extra mufflers 5 x 52 weeks Contribution margin per muffler ($72 – $36 – $16) Total net annual cash flows (a) x (b) Cash payback period = $36,400 ÷ $5,200 = 7 years.
(a) 260 (b) x $20 $5,200
Average investment: ($36,400 + $3,000) ÷ 2 = $19,700. Annual depreciation: ($36,400 – $3,000) ÷ 8 = $4,175. Annual net income: $5,200 – $4,175 = $1,025. Annual rate of return = $1,025 ÷ $19,700 = 5.2% (Rounded). These data indicate that the cash payback period is 88% of the new asset’s useful life. This would generally be considered fairly high, indicating a less desirable project. The data also show a 5.2% annual rate of return. This is a low return and it is below what management would consider an acceptable return. The quantitative data do not include any technique that considers the time value of money. However, I believe there is a strong probability that the discounted cash flow technique would show a negative net present value for the new hoist. I believe that the information I have presented would indicate that, based on the current data, the investment should not be made. LO5 BT: E Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Communication IMA: Strategy, Planning & Performance: Capital Investment Decisions
25-50
CT25.5
COMMUNICATION ACTIVITY
(a) The stakeholders are:
Yourself. Your spouse and children. Employees of NuComp Company. Citizens of the town where the company is presently located. The stockholders of NuComp Company.
(b) The ethical issue is: An employee’s personal interests and those of his co-workers and the town versus the best interests of the company and its stockholders. (c) The student should recognize a conflict of interest. The company should hire an outside consultant to study and evaluate such a move rather than place one of its employees in this dilemma. You should rise above the conflict of interest and perform an objective economic evaluation, but also be prepared to remind management, should they be so oblivious, of the consequences to the employees and the town. Knowingly preparing a biased or false report is unethical. LO2 BT: E Difficulty: Moderate TOT: 20 min. AACSB: Ethics AICPA AC: Measurement, Analysis and Interpretation AICPA PC: Ethical Conduct IMA: Strategy, Planning & Performance: Capital Investment Decisions, Professional Ethics & Values: Recognizing and Resolving Unethical Behavior
CT25.8
CONSIDERING YOUR COSTS AND BENEFITS
Results will vary depending on article selected by the student. Some common signals identified in articles are: bills more than two months in arrears; must make decisions about who to pay; you have a debt judgment filed against you; spending exceeds income; all credit cards are at their maximum. LO N/A BT: S Difficulty: Easy TOT: 40 min. AACSB: Communication AICPA AC: Reporting AICPA PC: Communication IMA: Strategy Planning & Performance: Strategic Cost Management
CT25.7
ALL ABOUT YOU
(a) The total cost of the installed solar panels was $80,000. The “out-ofpocket” cost to the couple was $27,200. (b) Using the total annual electricity bill of $5,000 mentioned in the story, the cash payback of the project using the total costs of $80,000 is 16 years ($80,000 ÷ $5,000). The cash payback based on the “out-of-pocket” cost of $27,200 is 5.4 years ($27,200 ÷ $5,000). [(Tot. cost: $80,000 ÷ $5,000 = 16 yrs.); (Out-of-pocket: $27,200 ÷ $5,000 = 5.4 yrs.)] [(Tot. cost: Cap. invest. ÷ Ann. elec. bill = Cash payback period); (Out-of-pocket: Cap. invest. ÷ Ann. elec. bill = Cash payback period)]
(c) The net present value of the project using the total cost is: Cash 6% Discount Flows x Factor = Present value of net annual cash flows Less: Capital investment Net present value
$5,000 x
11.46992
Present Value
= $ 57,350 80,000 $(22,650)
[$57,350 - $80,000 = ($22,650)] (PV of net ann. cash flows – Tot. cost cap. invest. = Neg. NPV)
The net present value of the project using the out-of-pocket cost is:
Present value of net annual cash flows Less: Capital investment Net present value
Cash x 6% Discount = Flows Factor
Present Value
$5,000 x
$57,350 27,200 $30,150
11.46992
=
($57,350 - $27,200 = $30,150) (PV of net ann. cash flows – Out-of-pocket cost cap. invest. = Pos. NPV)
(d) The wholesale price of panels per watt at the time the article was written was $1.70 per watt. The price per watt the article says that subsidies no longer would be needed is $1.00. One solar panel provider said that it would be providing panels that cost $1.00 per watt within three years of the time the article was written. LO1, 2 BT: AN Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement, Analysis and Interpretation Strategy, Planning & Performance: Capital IMA: Investment Decisions
CT25.8
APPENDIX F
CONSIDERING YOUR COSTS AND BENEFITS
Time Value of Money Learning Objectives 1. 2. 3. 4.
Compute interest and future values. Compute present values. Compute the present value in capital budgeting situations. Use technological tools to solve time value of money problems.
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE F.1 (a) Interest = p x i x n Interest = $6,000 x .05 x 12 years Interest = $3,600 Accumulated amount = $6,000 + $3,600 = $9,600 (b) Future value factor for 12 periods at 5% is 1.79586 (from Table 1) Accumulated amount = $6,000 x 1.79586 = $10,775.16 LO 1 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.2
(1) Case A Case B
(a) 5% 6%
3 periods 8 periods
(2) Case A Case B
(b) 3% 8 periods 4% 12 periods
LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE F.3 FV = p x FV of 1 factor = $9,600 x 1.60103 (12 periods at 4% from Table 1) = $15,369.89 LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
FV of an annuity of 1 = p x FV of an annuity factor = $78,000 x 13.18079 (10 periods at 6% from Table 2) = $1,028,101.62 LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.5 FV = (p x FV of 1 factor) + (p x FV of an annuity factor) = ($8,000 x 2.40662) + ($1,000 x 28.13238) = $19,252.96 + $28,132.38 = $47,385.34 [(p x FV of 1 factor) + (p x FV of an annuity factor) = FV] [($8,000 x 2.40662) + ($1,000 x 28.13238) = $47,385.34 LO 1 BT: AP Difficulty: Medium TOT: 6 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.6 FV = p x FV of 1 factor = $35,000 x 1.46933 (5 periods at 8% from Table 1) = $51,426.55 LO 1 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.7
(1) Case A Case B Case C
(a) 12% 4% 5%
(b) 7 periods 22 periods 16 periods
(2) Case A Case B Case C
10% 10% 3%
20 periods 7 periods 10 periods
LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
BRIEF EXERCISE F.8
BRIEF EXERCISE F.4 (a)
i = 10% ?
$25,000
0
1
2
3
4
5
6
7
8
9
Present value factor from Table 3 is .42410 (9 periods at 10%). Present value of $25,000 to be received in 9 years discounted at 10% is therefore $10,602.50 ($25,000 x .42410). (PV of an amount = Amount X PV of 1 factor) ($10,602.50 = $25,000 x .42410)
(b)
i = 9% ?
0
$25,000 $25,000 $25,000 $25,000 $25,000 $25,000
1
2
3
4
5
6
Present value factor from Table 4 is 4.48592 (6 periods at 9%). Present value of 6 payments of $25,000 each discounted at 9% is therefore $112,148.00 ($25,000 x 4.48592). (PV of an annuity = Annuity x PV of an annuity factor) ($112,148.00 = $25,000 x 4.48592) LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.11 i = 8% ?
$900,000
0
1
2
3
4
5
6
Present value factor from Table 3 is .63017 (6 periods at 8%). Present value of $900,000 to be received in 6 years discounted at 8% is therefore $567,153 ($900,000 x .63017). Messi Company should therefore invest $567,153 to have $900,000 in six years. (PV of an amount = Amount x PV of 1 factor) ($567,153.00 = $900,000 x .63017) LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.10 i = 6% ?
0
$450,000
1
2
3
4
5
6
7
8
Present value factor from Table 3 is .62741 (8 periods at 6%). Present value of $450,000 to be received in 8 years discounted at 6% is therefore $282,334.50 ($450,000 x .62741). Lloyd Company should invest $282,334.50 to have $450,000 in eight years. (PV of an amount = Amount x PV of 1 factor) ($282,334.50 = $450,000 x .62741) LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.9 i = 8% ?
$40,000 $40,000 $40,000 $40,000
0
1
2
3
$40,000 $40,000
4
14
15
Present value factor from Table 4 is 8.55948. Present value of 15 payments of $40,000 each discounted at 8% is therefore $342,379.20 ($40,000 x 8.55948). Robben Company should pay $342,379.20 for this annuity contract. (PV of an annuity = Annuity x PV of an annuity factor) ($342,379.20 = $40,000 x 8.55948) LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.12 i = 5% ?
$80,000
$80,000
$80,000
$80,000
$80,000
$80,000
0
1
2
3
4
5
6
Present value factor from Table 4 is 5.07569. Present value of 6 payments of $80,000 each discounted at 5% is therefore $406,055.20 ($80,000 x 5.07569). Kaehler Enterprises invested $406,055.20 to earn $80,000 per year for six years. (PV of an annuity = Annuity x PV of an annuity factor) ($406,055.20 = $80,000 x 5.07569) LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.14 i = 10% ?
$400,000
Diagram for Principal
0
1
2
3
4
9
10
i = 10% ?
$44,000 $44,000 $44,000 $44,000
$44,000 $44,000
Diagram for Interest
0
1
2
3
4
9
Present value of principal to be received at maturity: $400,000 x 0.38554 (PV of $1 due in 10 periods at 10% from Table 3)............................................................ Present value of interest to be received annually over the term of the bonds: $44,000* x 6.14457 (PV of $1 due each period for 10 periods at 10% from Table 4) ........................................................................ Present value of bonds ...............................................................
10
$154,216
270,361** $424,577**
*$400,000 x .11 **Rounded. [PV of bond = (Face value of bond X PV of 1 factor) + (Annual interest x PV of an annuity factor)] [$424,577 = ($400,000 x 0.38554) + ($44,000 x 6.14457)] LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.13 The bonds will sell at a discount (for less than $400,000). This may be proven as follows: Present value of principal to be received at maturity: $400,000 x .32197 (PV of $1 due in 10 periods at 12% from Table 3) ............................................................ Present value of interest to be received annually over the term of the bonds: $44,000* x 5.65022 (PV of $1 due each period for 10 periods at 12% from Table 4) ........................................................................ Present value of bonds ...............................................................
$128,788
248,610** $377,398**
*$400,000 x .11 **Rounded.
[PV of bond = (Face value of bond x PV of 1 factor) + (Annual interest x PV of an annuity factor] [$377,398 = ($400,000 x .32197) + ($44,000 x 5.65022)] LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.14
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BRIEF EXERCISE F.15 i = 6% ?
$75,000
Diagram for Principal
0
1
2
3
4
5
6
i = 6% ?
$3,000
$3,000
$3,000
$3,000
$3,000
$3,000
0
1
2
3
4
5
6
Diagram for Interest
Present value of principal to be received at maturity: $75,000 x .70496 (PV of $1 due in 6 periods at 6% from Table 3)............................................................. Present value of interest to be received annually over the term of the note: $3,000* x 4.91732 (PV of $1 due each period for 6 periods at 6% from Table 4) ................................................................. Present value of note received..................................................
$52,872
14,752** $67,624**
*$75,000 x .04 **Rounded [PV of note = (PV of principal x PV of 1 factor ) + (Annual interest x PV of an annuity factor)] [$67,623.96 = ($75,000 x .70496) + ($3,000 x 4.91732)] LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.16 i = 8% ?
$2,500,000
Diagram for Principal
0
1
2
3
4
8
i = 8% ?
$150,000 $150,000$150,000$150,000
$150,000
Diagram for Interest
0
1
2
3
4
8
Present value of principal to be received at maturity: $2,500,000 x 0.54027 (PV of $1 due in 8 periods at 8% from Table 3) ............................................................. Present value of interest to be received annually over the term of the bonds: $150,000* x 5.74664 (PV of $1 due each period for 8 periods at 8% from Table 4) ....................................................................... Present value of bonds and cash proceeds .............................
$1,350,675
861,996 $2,212,671
*$2,500,000 x .06 [PV of bond = (Face value of bond x PV of 1 factor) + (Annual interest x PV of an annuity factor)] [$2,212,671 = ($2,500,000 x .54027) + ($150,000 x 5.74664)] LO 2 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.17 i = 5% ?
$48,850
$48,850
$48,850
$48,850
$48,850
$48,850
0
1
2
3
4
9
10
Present value factor from Table 4 is 7.72173. Present value of 10 (5 x 2) payments of $48,850 each discounted at 5% (10% ÷ 2) is therefore $377,206.51 ($48,850 x 7.72173). Frazier Company should receive $377,206.51 from the issuance of the note. (PV of proceeds = Annual payment × PV of an annuity factor) ($377,206.51 = $48,850 x 7.72173) LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.18 i=? $4,765.50
0
$12,000
1
2
3
4
11
12
Present value = Future value x Present value of 1 factor $4,765.50 = $12,000 x Present value of 1 factor Present value of 1 factor = $4,765.50 ÷ $12,000 = .39713 The present value factor .39713 for 12 periods approximates the value found in the 8% column (.39711) in Table 3. Colleen Mooney will receive an 8% return.
(PV of 1 factor = Present value amount ÷ Future value amount) (.39713 = $4,765.50 ÷ $12,000) LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.19 i = 11% $36,125
$75,000
n=? Present value = Future value x Present value of 1 factor $36,125 = $75,000 x Present value of 1 factor Present value of 1 factor = $36,125 ÷ $75,000 = .48167 The present value factor .48167 approximates the .48166 at 11% found in the 7 periods row in Table 3. Tim Howard, therefore, must wait 7 years to receive $75,000. (PV of 1 factor = Present value amount ÷ Future value amount) (.48167 = $36,125 ÷ $75,000) LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.20 i=? ?
$1,200 $1,200 $1,200 $1,200 $1,200 $1,200
0
1
2
3
4
5
6
$1,200 $1,200
14
15
$10,271.38
Present value = Future amount x Present value of an annuity factor $10,271.38 = $1,200 x Present value of an annuity factor Present value of an annuity factor = $10,271.38 ÷ $1,200 = 8.55948
The present value factor 8.55948 for 15 periods is found in the 8% column in Table 4. Joanne Quick will therefore earn a rate of return of 8%. (PV of an annuity factor = Present amount ÷ Annuity) (8.55948 = $10,271.38 ÷ $1,200) LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.21 i = 9% $1,300 $1,300 $1,300 $1,300 $1,300 $1,300
$7,793.83 n=? Present value = Future amount x Present value of an annuity factor $7,793.83 = $1,300 x Present value of an annuity factor Present value of an annuity factor = $7,793.83 ÷ $1,300 = 5.99525
The present value factor 5.99525 at an interest rate of 9% is shown in the 9-year row in Table 4. Therefore, Kevin will receive 9 payments. (PV of an annuity factor = Present amount ÷ Annuity) (5.99525 = $7,793.83 ÷ $1,300) LO 2 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.22 i = 9% ?
0
$2,700 $2,700 $2,700 $2,700 $2,700 $2,700 $2,700
1
2
3
4
5
6
7
The present value factor at 9% from Table 4 is 5.03295. Present value of 7 payments of $2,700 each discounted at 9% is therefore $13,588.97 ($2,700 x 5.03295). Barney Googal should purchase the tire retreading machine because the present value of the future cash flows is greater than the purchase price of the retreading machine ($12,820). LO 3 BT: AP Difficulty: Medium TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.23 ?
$25,000
i = 11% $30,000
0
1
2
$40,000
3
To determine the present value of the future cash flows, discount the future cash flows at 11%, using Table 3. Year 1 ($25,000 x .90090) = Year 2 ($30,000 x .81162) = Year 3 ($40,000 x .73119) = Present value of future cash flows
$22,522.50 24,348.60 29,247.60 $76,118.70
To achieve a minimum rate of return of 11%, Snyder Company should pay no more than $76,118.70. If Snyder pays less than $76,118.70, its rate of return will be greater than 11%. LO 3 BT: AP Difficulty: Medium TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.24 Excel solution: Excel spreadsheet A
Function Arguments: Rate B
C
Nper
C4
= 10
3
Annual interest rate
10.76%*
Pmt
C5
= 0
4
Number of periods
10
PV
C7
= 18000
5
Payment
$0
FV
-C6
= -50000
6
Future value
$50,000
Type
0
7
Present value
$18,000
*Function string: Rate (C4, C5, C7, -C6)
= 0
Formula result = 10.76%*
Financial calculator solution: 10* ? –18,000 N
I/YR.
PV
0
50,000
PMT
FV
10.76% *2035 – 2025 LO 4 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.25 Excel solution: Excel spreadsheet A
Function Arguments: Rate B
C
Nper
C4
= 10
8.85%*
Pmt
-C5
= -6500
10
PV
C7
= 42000
$6,500
FV
C6
= 0
Type
0
= 0
3
Annual interest rate
4
Number of periods
5
Payment
6
Future value
$0
7
Present value
$42,000
*Function string: Rate (C4, -C5, C7, C6)
Formula result = 8.85%*
Financial calculator solution: 10 ? 42,000 N
I/YR.
PV
–6,500
0
PMT
FV
8.85% LO 4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.26 Excel solution: Excel spreadsheet A 3
Function Arguments: Rate B
C
Nper
C4
= 40
3.55%*
Pmt
-C5
= -8400
40
PV
C7
= 178000
$8,400
FV
C6
= 0
Type
0
= 0
Semi-annual interest rate
4
Number of periods
5
Payment
6
Future value
$0
7
Present value
$178,000
*Function string: Rate (C4, -C5, C7, C6)
Formula result = 3.55%*
Financial calculator solution: 40a
?
178,000b
–8,400
0
N
I/YR.
PV
PMT
FV
3.55% (semiannual) a b
20 x 2 $198,000 – $20,000
Since this is a semi-annual rate, multiply by 2 to arrive at the annual rate 7.10%. LO 4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.27 (a)
Excel solution: Excel spreadsheet A
Function Arguments: PV B
C
Rate
C3
= 0.0735
3
Annual interest rate
7.35%
Nper
C4
= 7
4
Number of periods
7
Pmt
-C5
= -16000
5
Payment
$16,000
FV
C6
= 0
6
Future value
$0
Type
0
= 0
7
Present value
$85,186.34*
*Function string: PV (C3, C4, -C5, C6)
Formula result = $85,186.34*
(b) Excel spreadsheet A
Function Arguments: PV B
C
Rate
C3
= 0.1065
3
Annual interest rate
10.65%
Nper
C4
= 10
4
Number of periods
10
Pmt
-C5
= -16000
5
Payment
$16,000a
FV
-C6
= -200000
6
Future value
$200,000b
Type
0
7
Present value
$168,323.64*
*Function string: PV (C3, C4, -C5, -C6)
= 0
Formula result = $168,323.64*
a$200,000 x .08 b200 x $1,000
Financial calculator solution: (a) Inputs: 7 7.35
?
16,000
0
N
PV
PMT
FV
I
–85,186.34
Answer: (b) Inputs:
Answer: *200 x $1,000
10
10.65
?
16,000**
200,000*
N
I
PV
PMT
FV
–168,323.64 **$200,000 x .08
LO 4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.28 (a)
Excel solution: Excel spreadsheet A
Function Arguments: PMT B
C
Rate
C3
= 0.0065
Nper
C4
= 96
3
Annual interest rate
.65%a
4
Number of periods
96
PV
-C7
= -42000
5
Payment
-$589.48*
FV
C6
= 0
6
Future value
$0
Type
0
= 0
7
Present value
$42,000
*Function string: PMT (C3, C4, -C7, C6)
Formula result = ($589.48)*
a7.8% ÷ 12
(b) Excel spreadsheet
Function Arguments: PMT C
Rate
C3
= 0.0725
interest
7.25%
Nper
C4
= 5
4
Number of periods
5
PV
C7
= 8000
5
Payment
-$1,964.20*
FV
C6
= 0
6
Future value
$0
Type
0
= 0
7
Present value
$8,000
3
A
B
Annual rate
*Function string: PMT (C3, C4, C7, C6)
Formula result = ($1,964.20)*
Financial calculator solution: (a) Note—set payments at 12 per year. Inputs: 96 0.65* N
I
42,000
?
0
PV
PMT
FV
–589.48
Answer: * 7.8% / 12 = 0.65
(b) Note—set payments to 1 per year. Inputs: 5 7.25 N Answer:
I
8,000
?
0
PV
PMT
FV
–1,964.20
LO 4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE F.29 Excel Solution: Investment A Excel Spreadsheet
Function Arguments: Values
A
B
B3:B15
C
IRR = {184,000; 27,500;…}
Guess 2
Inflow/ Outflow
Description
3
($184,000)
Initial investment
4
$27,500
Year 1 cash flow
5
$27,500
Year 2 cash flow
6
$27,500
Year 3 cash flow
7
$27,500
Year 4 cash flow
8
$27,500
Year 5 cash flow
9
$27,500
Year 6 cash flow
10
$27,500
Year 7 cash flow
11
$27,500
Year 8 cash flow
12
$27,500
Year 9 cash flow
13
$27,500
Year 10 cash flow
14
$27,500
Year 11 cash flow
15
$48,500
Year 12 cash flow
11.06%*
Internal rate of return
16 17
*Function string: IRR (B3:B15)
Formula result = 11.06%*
BRIEF EXERCISE F.29 (Continued) Investment B Excel Spreadsheet
Function Arguments: Values
A
B
B3:B15
C
IRR = {234000; 32800;…}
Guess 2
Inflow/ Outflow
Description
3
($234,000)
Initial investment
4
$32,800
Year 1 cash flow
5
$32,800
Year 2 cash flow
6
$32,800
Year 3 cash flow
7
$32,800
Year 4 cash flow
8
$32,800
Year 5 cash flow
9
$32,800
Year 6 cash flow
10
$32,800
Year 7 cash flow
11
$32,800
Year 8 cash flow
12
$32,800
Year 9 cash flow
13
$32,800
Year 10 cash flow
14
$32,800
Year 11 cash flow
15
$51,800
Year 12 cash flow
9.62%*
Internal rate of return
16 17
*Function string: IRR (B3:B15)
Formula result = 9.62%*
Financial Calculator Solution: Investment A Inputs:
12
Answer:
?
N
I
–184,000
27,500
21,000
PV
PMT
FV
–234,000
32,800
19,000
PV
PMT
FV
11.06% Investment B Inputs: Answer:
12 N
? I 9.62%
LO 4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting
APPENDIX G Reporting and Analyzing Investments Learning Objectives 1. Explain how to account for debt investments. 2. Explain how to account for stock investments. 3. Discuss how debt and stock investments are reported in financial statements.
ANSWERS TO QUESTIONS 1.
The reasons corporations invest in securities are: (1) excess cash not needed for operations that can be invested, (2) for additional earnings, and (3) strategic reasons.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
2.
(a) The cost of an investment in bonds consists of all expenditures necessary to acquire the bonds, such as the market price of the bonds plus any brokerage fees. (b) Interest is recorded as it is earned; that is, over the life of the investment in bonds.
LO1 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
3.
(a) Losses and gains on the sale of debt investments are computed by comparing the cost of the securities to the net proceeds from the sale. (b) Losses are reported in the income statement under other expenses and losses whereas gains are reported under other revenues and gains.
LO1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
4.
Heliy Company is incorrect. The gain is the difference between the net proceeds, exclusive of interest, and the cost of the bonds. The correct gain is $4,000, or [($45,000 – $1,000) – $40,000].
LO1 BT: AN Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
5.
The cost of an investment in stock includes all expenditures necessary to acquire the investment. These expenditures include the actual purchase price plus any commissions or brokerage fees.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
6.
The entry is: Stock Investments ..................................................................................... Cash ..................................................................................................
61,500 61,500
LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
7.
(a) Whenever the investor’s influence on the operating and financial affairs of the investee is significant, the equity method should be used. The major factor in determining significant influence is the percentage of ownership interest held by the investor in the investee. The general guideline for use of the equity method is 20%–50% ownership interest. Companies are required to use judgment, however, rather than blindly following the 20%–50% guideline. (b) Revenue is recognized as it is earned by the investee.
LO2 BT: K Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
8.
Since Stetson Corporation uses the equity method, the income reported by Pike Packing ($80,000) should be multiplied by Stetson’s ownership interest (30%) and the result ($24,000) should be debited to Stock Investments and credited to Revenue from Stock Investments. Also, of the total dividend declared and paid by Pike ($10,000) Stetson will receive 30% or $3,000. This amount should be debited to Cash and credited to Stock Investments.
LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
9.
Significant influence over an investee may result from representation on the board of directors, participation in policy-making processes, and material intercompany transactions. One must also consider whether the stock held by other stockholders is concentrated or dispersed. An investment (direct or indirect) of 20%–50% of the voting stock of an investee constitutes significant influence unless there exists evidence to the contrary.
LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
Questions Chapter 16 (Continued) 10.
Under the cost method, an investment is originally recorded and reported at cost. Dividends are recorded as revenue. In subsequent periods, the investment is adjusted to fair value and an unrealized holding gain or loss is recognized and included in income (trading security) or as a separate component of stockholders’ equity (available-for-sale security). Under the equity method, the investment is originally recorded and reported at cost; subsequently, the investment account is adjusted during each period for the investor’s share of the earnings or losses of the investee. The investor’s share of the investee’s earnings is recognized in the earnings of the investor. Dividends received from the investee are reductions in the carrying amount of the investment.
LO2, 3 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
11.
Consolidated financial statements present the details of the assets and liabilities controlled by the parent company and the total revenues and expenses of the affiliated companies. Consolidated financial statements are especially useful to the stockholders, board of directors, and management of the parent company. Conversely, they are of limited use to minority stockholders and the creditors of the subsidiary company.
LO2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
12.
The valuation and reporting of debt investments is as follows: Category Trading Available-for-sale
Valuation and Reporting At fair value with changes reported in net income At fair value with changes adjusted through equity
LO 3 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting
13.
Pat should report the data as follows: (1) Under current assets in the balance sheet: Debt investments, at fair value.................................................................. (2) Under other expenses and losses in the income statement: Unrealized loss .........................................................................................
$70,000 $(4,000)
LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
14.
Pat should report as follows: (1) Under investments in the balance sheet: Debt Investments (at fair value) ................................................................ (2) Under stockholders’ equity in the balance sheet: Accumulated other comprehensive loss ...................................................
$70,000 $(4,000)
LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
15.
The entry is: Fair Value Adjustment—Stock ($210,000 - $202,000) ..................... Unrealized Gain or Loss—Income ..........................................
8,000 8,000
LO 3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
16.
Accumulated other comprehensive loss is reported in stockholders’ equity. It is not included in the computation of net income.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
Questions Chapter 16 (Continued) 17.
The investment in Cyrus Corporation stock is not a short-term investment because there is no intent to convert the stock into cash within a year or the operating cycle, whichever is longer.
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE G.1 Jan. 1 July 1
Debt Investments.............................................. Cash ...........................................................
52,000
Cash................................................................... Interest Revenue .......................................
2,340
52,000 2,340
LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE G.2 Aug. 1 Dec. 1
Stock Investments ............................................ Cash ...........................................................
37,000
Cash................................................................... Stock Investments .................................... Gain on Sale of Stock Investments..........
40,000
37,000 37,000 3,000
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE G.3 Dec. 31 31
Stock Investments (25% × $180,000)............... Revenue from Stock Investments ............
45,000
Cash (25% × $50,000) ....................................... Stock Investments ....................................
12,500
45,000 12,500
LO2 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE G.4 Dec. 31
Unrealized Gain or Loss—Income .................. Fair Value Adjustment—Trading ($64,000 – $59,000) ................................
5,000 5,000
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE G.5 Balance Sheet Current assets Short-term investments, at fair value .............................
$59,000
Income Statement Other expenses and losses Unrealized Loss—Income ...............................................
5,000
LO3 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE G.6 Dec. 31
Unrealized Gain or Loss—Equity ($68,000 - $72,000) ..............................................4,000 Fair Value Adjustment—Available-for-Sale ..
4,000
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE G.7 Balance Sheet Investments Debt investments at fair value .............................................. Stockholders’ equity Accumulated other comprehensive loss .............................
$ (4,000)
Statement of Comprehensive Income Other comprehensive income Unrealized loss on available-for-sale securities..................
$(4,000)
$68,000
LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
BRIEF EXERCISE G.8 Investments Debt investments, at fair value ............................................. Investments in stock of less than 20% owned companies, at fair value .................................................... Investments in stock of 20–50% owned company, at equity .............................................................................. Total investments........................................................... LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting
$150,000 115,000 260,000 $525,000
BRIEF EXERCISE G.9 (a) Stock Investments ..................................................... Cash........................................................................
13,200
(b) Cash ............................................................................ Dividend Revenue (400 × $3.25)...........................
1,300
(c) Fair Value Adjustment – Stock.................................. Unrealized Gain or Loss – Income.......................
600
13,200 1,300 600
[($34.50 x 400) – $13,200 = $600] [(Mkt. price/sh. x No. of shs.) – Cost of shs. = Unreal. gain] LO2, 3 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE G.10 Fair Value Adjustment – Stock ........................................ Unrealized Gain or Loss – Income............................
1,700 1,700
[($6,000 – $4,000) – $300 = $1,700] [(FV – Cost) – Dr. bal. in fair value adjustment acct. = Incr. in unreal. gain] LO3 BT: AP Difficulty: Easy TOT: 3min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS FOR DO IT! EXERCISES DO IT! G.1 2025 Jan. 1
Dec. 31
2026 Jan. 1 Jan.
1
Debt Investments..................................... Cash ....................................................
50,000
Interest Receivable .................................. Interest Revenue ($50,000 × 10%)................................
5,000
Cash.......................................................... Interest Receivable.............................
5,000
Cash.......................................................... Loss on Sale of Debt Investments.......... Debt Investments ($50,000 × 30/50) ..............................
29,000 1,000
50,000
5,000
5,000
30,000
LO1 BT: AP Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
DO IT! G.2 1.
June 17 Sept. 3
2.
Jan.
1
May 15
Dec. 31
Stock Investments ....................................... 550,000 Cash (500,000 x 10% x $11) ................
550,000
Cash........................................................... Dividend Revenue ($160,000 x 10%) ..
16,000
16,000
Stock Investments ....................................... 540,000 Cash (100,000 x 30% x $18) ................
540,000
Cash........................................................... Stock Investments ($150,000 x 30%)..
45,000 45,000
Stock Investments ($270,000 x 30%) ....... Revenue from Stock Investments.......
81,000 81,000
LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
DO IT! G.3a Trading securities: Unrealized Gain or Loss—Income ................................... Fair Value Adjustment—Trading .................................
14,600* 14,600
*$11,400 + $3,200 Available-for-sale securities: Fair Value Adjustment—Available-for-Sale ....................... Unrealized Gain or Loss—Equity ................................
9,950** 9,950
**$5,750 + $4,200 LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
DO IT! G.3b
1. 2. 3. 4. 5.
Item Loss on sale of investments in stock. Unrealized gain or loss— equity. Fair value adjustment— trading. Interest earned on investments in bonds. Unrealized loss on trading securities.
Financial statement Income statement Balance sheet Balance sheet Income statement Income statement
LO3 BT: K Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting
Category Other expenses and losses Stockholders’ equity Current assets Other revenues and gains Other expenses and losses
SOLUTIONS TO EXERCISES EXERCISE G.1 1.
Companies purchase investments in debt or stock securities because they have excess cash, to generate earnings from investment income, or for strategic reasons.
2.
A corporation would have excess cash that it does not need for operations due to seasonal fluctuations in sales and as a result of economic cycles.
3.
The typical investment when investing cash for short periods of time is low-risk, high liquidity, short-term securities such as government-issued securities.
4.
The typical investments when investing cash to generate earnings are debt securities and stock securities.
5.
A company would invest in securities that provide no current cash flows for speculative reasons. They are speculating that the investment will increase in value.
6.
The typical investment when investing cash for strategic reasons is stock of companies in a related industry or in an unrelated industry that the company wishes to enter.
LO1 BT: K Difficulty: Easy TOT: 10 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.2 1. 2.
3.
2025 Jan. 1 Dec. 31
2026 Jan. 1
Debt Investments..................................... Cash ..................................................
40,000
Interest Receivable ($40,000 × 9%)......... Interest Revenue ..............................
3,600
Cash........................................................... Interest Receivable ...........................
3,600
40,000 3,600
3,600
EXERCISE G.2 (Continued)
4.
2026 Jan. 1
Cash .......................................................... Debt Investments ($40,000 × 30/40) ........................... Gain on Sale of Debt Investments ($33,000 – $30,000) .......................
33,000 30,000 3,000
LO1 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.3 January 1, 2025 Debt Investments .............................................................. Cash ...........................................................................
70,000
December 31, 2025 Interest Receivable ($70,000 × 6%) .................................. Interest Revenue .......................................................
4,200
January 1, 2026 Cash................................................................................... Interest Receivable....................................................
4,200
January 1, 2026 Cash................................................................................... Loss On Sale of Debt Investments .................................. Debt Investments (40/70 × $70,000) .........................
38,500 1,500
70,000
4,200
4,200
40,000
LO1 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.4 (a) Feb. 1 July 1 Sept. 1
Dec. 1
Stock Investments ................................... Cash ..................................................
7,200
Cash (600 × $1) ........................................ Dividend Revenue ............................
600
Cash.......................................................... Stock Investments ($7,200 × 300/600)......................... Gain on Sale of Stock Investments ($4,300 – $3,600)...........................
4,300
Cash [(600 – 300) × $1] ............................ Dividend Revenue ............................
300
7,200 600
3,600 700 300
(b) Dividend revenue and the gain on sale of stock investments are reported under other revenues and gains in the income statement. LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE G.5 Jan. 1
July 1 Dec. 1
Dec. 31
Stock Investments........................................... Cash..........................................................
152,000
Cash (2,500 × $3) ............................................. Dividend Revenue....................................
7,500
Cash ................................................................. Stock Investments [$152,000 × (500/2,500)] Gain on Sale of Stock Investments ........
32,000
Cash [(2,500 – 500) × $3]................................. Dividend Revenue....................................
6,000
152,000 7,500 30,400 1,600 6,000
LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.6 February 1 Stock Investments ............................................................ Cash (500 × $32) ........................................................
16,000
March 20 Cash................................................................................... Loss on Sale of Stock Investments ................................. Stock Investments ($16,000 × 100/500)....................
2,900 300
April 25 Cash [(500 – 100) × $1] ..................................................... Dividend Revenue .....................................................
400
June 15 Cash................................................................................... Stock Investments ($16,000 × 200/500).................... Gain on Sale of Stock Investments ..........................
16,000
3,200
400 7,600 6,400 1,200
July 28 Cash [(400 – 200) × $1.25] ................................................ Dividend Revenue .....................................................
250 250
LO2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.7 (a)
Jan. 1 Dec. 31 31
Stock Investments ................................... Cash ..................................................
180,000
Cash ($60,000 × 25%)............................... Stock Investments ............................
15,000
Stock Investments ................................... Revenue from Stock Investments ($200,000 × 25%) ...........................
50,000
180,000 15,000
(b) Investment in Helbert, January 1 ....................................... Less: Dividend received ..................................................... Plus: Share of reported income ........................................ Investment in Helbert, December 31 ...................................
50,000 $180,000 15,000 50,000 $215,000
($180,000 - $15,000 + $50,000 = $215,000) (Beg. bal. invest. – Div. rec’d. + Share of rptd. inc. = End. bal. invest.) LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.8 (a) Mar. 18 June 30
Dec. 31
(b) Jan.
1
June 15
Dec. 31
Stock Investments ...................................... 260,000 Cash (200,000 × 10% × $13)............ Cash ........................................................ Dividend Revenue ($60,000 × 10%) ...........................
6,000
Fair Value Adjustment—Stock .............. Unrealized Gain or Loss—Income [(200,000 x 10% x $15) – $260,000]
40,000
Stock Investments.................................. Cash (30,000 × 40% × $9)................
108,000
Cash ........................................................ Stock Investments ($30,000 × 40%) ...........................
12,000
Stock Investments.................................. Revenue from Stock Investments ($80,000 × 40%) ...........................
32,000
260,000
6,000
40,000
108,000
12,000
32,000
LO2, 3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE G.9 (a) Since Agee owns more than 50% of the common stock of Himes Corporation, Agee is called the parent company. Himes is the subsidiary (affiliated) company. Because of its stock ownership, Agee has a controlling interest in Himes. (b) When a company owns more than 50% of the common stock of another company, consolidated financial statements are usually prepared. Consolidated financial statements present the total assets and liabilities controlled by the parent company. They also present the total revenues and expenses of the affiliated companies. (c) Consolidated financial statements are useful because they indicate the magnitude and scope of operations of the companies under common control. LO2 BT: K Difficulty: Easy TOT: 8 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE G.10 (a) Dec. 31
Unrealized Gain or Loss—Income...................2,000* Fair Value Adjustment—Trading ...........
2,000
*$51,000 - $53,000
(b)
Balance Sheet Current assets Debt investments, at fair value ...............................
$51,000
Income Statement Other expenses and losses Unrealized loss on trading securities.....................
$ 2,000
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE G.11 (a) Dec. 31
Unrealized Gain or Loss—Equity ....................2,000* Fair Value Adjustment—Availablefor-Sale...............................................
2,000
*$51,000 - $53,000
(b)
Balance Sheet Investments Debt investments, at fair value ...............................
$51,000
Stockholders’ equity Less: Accumulated other comprehensive loss ....
$ 2,000
Statement of Comprehensive Income Other comprehensive income Unrealized loss on available-for-sale securities....
$ (2,000)
EXERCISE G.11 (Continued) (c) Dear Ms. Kretsinger: Debt investments which are classified as trading (held for sale in the near term) are reported at fair value in the balance sheet, with unrealized gains or losses reported in net income. Investments which are classified as available-for-sale (held longer than trading but not to maturity) are also reported at fair value, but unrealized gains or losses are reported in the stockholders’ equity section. Fair value is used as a reporting basis because it represents the cash realizable value of the securities. Unrealized gains or losses on trading investments are reported in the income statement because of the likelihood that the securities will be sold at fair value in the near term. Unrealized gains or losses on availablefor-sale securities are reported in stockholders’ equity rather than in income because there is a significant chance that future changes in fair value will reverse unrealized gains or losses. So as to not distort income with these fluctuations, they are reported directly in stockholders’ equity as part of accumulated other comprehensive income or loss. I hope that the preceding discussion clears up any misunderstandings. Please contact me if you have any questions. Sincerely, Student LO3 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE G.12 (a) Fair Value Adjustment—Trading ($126,000 – $120,000) .................................................... Unrealized Gain—Income.......................................... Unrealized Gain or Loss—Equity (96,000 - $100,000) ..... Fair Value Adjustment—Available-for-Sale.............. (b)
6,000 6,000 4,000 4,000
Balance Sheet Current assets Debt investments, at fair value ................................. Investments Debt investments, at fair value ................................. Stockholders’ equity Less: Accumulated other comprehensive loss ......
$126,000 96,000 $ 4,000
Income Statement Other revenues and gains Unrealized gain on trading securities ......................
$
Statement of Comprehensive Income Other comprehensive income Unrealized loss on available-for-sale securities......
$ (4,000)
6,000
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
SOLUTIONS TO PROBLEMS PROBLEM G.1
(a) 2025 Jan. 1
Dec. 31
2028 Jan. 1
1
Dec. 31
(b) 2025 Dec. 31
Debt Investments.................................. 2,000,000 Cash ............................................... 2,000,000 Interest Receivable ($2,000,000 × 8%) .............................. Interest Revenue ...........................
160,000 160,000
Cash....................................................... Interest Receivable .......................
160,000
Cash ($1,000,000 × 106%) .................... Debt Investments .......................... Gain on Sale of Debt Investments ...............................
1,060,000
160,000 1,000,000 60,000
Interest Receivable ($1,000,000 × 8%) .............................. Interest Revenue ...........................
80,000
Fair Value Adjustment—Availablefor-Sale ($2,200,000 - $2,000,000) .... Unrealized Gain or Loss—Equity.....
200,000
80,000
200,000
PROBLEM G.1 (Continued) (c)
Balance Sheet Current assets Interest receivable .......................................................
$ 160,000
Investments Debt investments, at fair value ...................................
$2,200,000
Stockholders’ equity Accumulated other comprehensive income ..............
$200,000
LO1, 3 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM G.2
(a) Feb. 1 Mar. 1 Apr. 1 July 1 Aug. 1
Sept. 1 Oct. 1 Oct. 1
Stock Investments ................................... Cash ..................................................
32,400
Stock Investments ................................... Cash ..................................................
20,000
Debt Investments..................................... Cash ..................................................
50,000
Cash ($0.60 × 600) ................................... Dividend Revenue ............................
360
Cash (200 × $58) ...................................... Stock Investments [($32,400 ÷ 600) × 200] ................. Gain on Sale of Stock Investments ..................................
11,600
Cash ($1 × 800) ........................................ Dividend Revenue ............................
800
Cash ($50,000 × 7% × 1/2) ....................... Interest Revenue ..............................
1,750
Cash.......................................................... Loss on Sale of Debt Investments.......... Debt Investments .............................
49,000 1,000
Stock Investments Feb. 1 32,400 Aug. 1 Mar. 1 20,000 Dec. 31 Bal. 41,600
10,800
Apr. 1 Dec. 31 Bal.
32,400 20,000 50,000 360
10,800 800
800 1,750
50,000
Debt Investments 50,000 Oct. 1 0
50,000
PROBLEM G.2 (Continued) (b) Dec. 31
Unrealized Gain or Loss—Income ........... Fair Value Adjustment—Stock ($41,600 – $41,200) ........................
Security Muninger common Tatman common
Cost
Fair Value
$21,600 20,000 $41,600
$22,000 19,200 $41,200
400 400
(400* × $55) (800 × $24)
*(600 – 200) (c) Current assets Short-term investments, at fair value .............................. (d) Income Statement Account Dividend Revenue Gain on Sale of Stock Investments Interest Revenue Loss on Sale of Debt Investments Unrealized Loss—Income
$41,200
Category Other revenues and gains Other revenues and gains Other revenues and gains Other expenses and losses Other expenses and losses
LO2, 3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM G.3
(a) Aug. 1 Sept. 1
Oct. 1
Nov. 1
Dec. 15
31
2025 Cash (2,000 × $0.50) ................................ Dividend Revenue ............................
1,000 1,000
Cash (1,500 × $8) ..................................... Loss on Sale of Stock Investments ($13,500 – $12,000) .............................. Stock Investments (1,500 × $9a) ...... a ($45,000 ÷ 5,000 shs.)
12,000
Cash (800 × $33) ...................................... Stock Investments (800 × $30b)....... Gain on Sale of Stock Investments ($26,400 – $24,000) ....................... b $60,000 ÷ 2,000 shs.
26,400
Cash (1,500 × $1) ..................................... Dividend Revenue ............................
1,500
Cash (1,200* × $0.50) ............................... Dividend Revenue ............................ *2,000 shs. – 800 shs.
600
Cash (3,500* × $1) .................................... Dividend Revenue ............................ *5,000 shs. – 1,500 shs.
3,500
1,500 13,500
24,000 2,400
1,500 600
3,500
Stock Investments 2025 Jan. 1 Balance Dec. 31 Balance
135,000 Sept. 1 Oct. 1 97,500
13,500 24,000
PROBLEM G.3 (Continued) (b) Dec. 31
Unrealized Gain or Loss—Income ($97,500 – $93,400) .................................... Fair Value Adjustment—Stock..............
Security Gehring Co. common Wooderson Co. common Kitselton Co. common
Cost $36,000 31,500 30,000 $97,500
Fair Value $38,400 28,000 27,000 $93,400
(c) Investments Stock investments (at fair value) ...... Stockholders’ equity Common stock .......................................... $1,500,000 Retained earnings................................. 1,000,000 Total paid-in capital and retained Earnings......................................... 2,500,000 Less: Accumulated other comprehensive Loss...................................................... 4,100 Total stockholders’ equity ............
4,100 4,100
(1,200 × $32) (3,500 × $ 8) (1,500 × $18)
$
93,400
$2,495,900
LO2, 3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM G.4
(a) Jan.
1
Mar. 15
June 15 Sept. 15 Dec. 15 31
(b) Jan.
1
Mar. 15 June 15 Sept. 15 Dec. 15
Stock Investments................................ Cash...............................................
800,000
Cash ...................................................... Dividend Revenue (30,000 × $0.30) .........................
9,000
Cash ...................................................... Dividend Revenue.........................
9,000
Cash ...................................................... Dividend Revenue.........................
9,000
Cash ...................................................... Dividend Revenue.........................
9,000
Fair Value Adjustment—Stock ............ Unrealized Gain or Loss—Income [($34 × 30,000) $800,000 ] ......
220,000
Stock Investments................................ Cash...............................................
800,000
Cash ...................................................... Stock Investments ........................
9,000
Cash ...................................................... Stock Investments ........................
9,000
Cash ...................................................... Stock Investments ........................
9,000
Cash ...................................................... Stock Investments ........................
9,000
800,000
9,000 9,000 9,000 9,000
220,000 800,000 9,000 9,000
9,000 9,000
PROBLEM G.4 (Continued) Dec. 31
Stock Investments ............................... Revenue from Stock Investments ($320,000 × 20%).......................
(c) Stock investments Dividend revenue Unrealized gain/income Revenue from stock investments
64,000
Cost Method $1,020,000* 36,000 220,000 0
64,000 Equity Method $828,000** 0 0 64,000
*$34 × 30,000 shares **$800,000 + $64,000 – $36,000 [Cost method:($34 x 30,000 = $1,020,000); Equity method: ($800,000 + ($320,000 x 20%) – (30,000 x $0.30 x 4) = $828,000)] [Cost method: (Mkt. value per sh. × No. shs. = Stk. invest. bal.); Equity method: (Orig. cost + (Quayle net inc. x Ownership %) – (No. shs. owned x Div. per sh. x No. of times div. pd.) = Stk. invest. bal.)] LO2, 3 BT: AP Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM G.5
(a)
Jan. 20
28 30
Feb. 8 18
July 30 Sept. 6 Dec. 1
(b) 1/1 Bal. 1/28 9/6 12/31 Bal.
Cash.......................................................... Stock Investments ........................... Gain on Sale of Stock Investments ..................................
55,000
Stock Investments ................................... Cash (400 x $78) ...............................
31,200
Cash.......................................................... Dividend Revenue ($1.15 × 1,400)...............................
1,610
Cash.......................................................... Dividend Revenue ($0.40 × 1,200) ...
480
Cash ($27 × 1,200) ................................... Loss on Sale of Stock Investments ........ Stock Investments ...........................
32,400 1,200
Cash.......................................................... Dividend Revenue ($1 × 1,400)........
1,400
Stock Investments ................................... Cash ($82 × 900)...............................
73,800
Cash.......................................................... Dividend Revenue ($1.50 × 1,300)...............................
1,950
Stock Investments 169,600 1/20 31,200 2/18 73,800 189,000
52,000 33,600
52,000 3,000 31,200
1,610
480
33,600 1,400 73,800
1,950
PROBLEM G.5 (Continued) (c) Dec. 31
Unrealized Gain or Loss—Income ............... Fair Value Adjustment—Stock..............
Security Hutcherson Corporation common Liggett Corporation common
Cost $ 84,000 105,000 $189,000
5,800
Fair Value $ 89,600 93,600 $183,200
5,800
(1,400 × $64) (1,300 × $72)
(d) Investments Stock investments (at fair value) ................................. Stockholders’ equity Total paid-in capital and retained earnings ................ Less: Accumulated other comprehensive loss..................................................................... Total stockholders’ equity ....................................
$183,200 xxxxx 5,800 $ xxxxx
LO2, 3 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM G.6
NIETO CORPORATION Balance Sheet December 31, 2025 Assets Current assets Cash................................................................ Short-term investments, at fair value ........... Accounts receivable ...................................... Less: Allowance for doubtful accounts.............................................. Inventory ........................................................ Prepaid insurance.......................................... Total current assets ................................
$
62,000 180,000
$140,000 6,000
134,000 170,000 16,000 562,000
Investments Stock investments (at fair value) .............. Stock investments (at equity) ................... Total investments.................................... Property, plant, and equipment Land ................................................... Buildings ........................................... $950,000 Less: Accumulated depreciation— buildings.................................. 180,000 Equipment ......................................... 275,000 Less: Accumulated depreciation— equipment ............................... 52,000 Total property, plant, and equipment.....................................
300,000 380,000 680,000 390,000 770,000 223,000 1,383,000
Intangible assets Goodwill ..........................................................
200,000
Total assets.............................................................
$2,825,000
PROBLEM G.6 (Continued) NIETO CORPORATION Balance Sheet (Continued) December 31, 2025 Liabilities and Stockholders’ Equity Current liabilities Notes payable ................................................... Accounts payable............................................. Income taxes payable ...................................... Dividends payable............................................ Total current liabilities.............................. Long-term liabilities Bonds payable, 10%, due 2033....................... Plus: Premium on bonds payable ................. Total long-term liabilities ........................ Total liabilities.......................................... Stockholders’ equity Paid-in capital Common stock, $10 par value, 500,000 shares authorized, 150,000 shares issued and outstanding .......................................... Paid-in capital in excess of par ................. Total paid-in capital.......................... Retained earnings ............................................ Total stockholders’ equity ...................... Total liabilities and stockholders’ equity ....................................................
$
70,000 260,000 120,000 80,000 530,000
$ 500,000 40,000 540,000 1,070,000
1,500,000 130,000 1,630,000 125,000 1,755,000 $2,825,000
[(($62,000 + $180,000 + ($140,000 - $6,000) + $170,000 + $16,000) + ($300,000 + $380,000) + ($390,000 + ($950,000 $180,000) + ($275,000 - $52,000)) + $200,000) = (($70,000 + $260,000 + $120,000 + $80,000) + ($500,000 + $40,000) + ($1,500,000 + $130,000) + $125,000)] [((Cash + S-T invest. at fair value + (Accts. rec. – Allow. for dbtfl. accts.) + Inv. + Prepd. ins.) + (Stk. invest. <20% owned + Stk. invest. 20%-50% owned) + (Land + (Bldgs. – Accum. depr.-bldgs.) + (Equip. – Accum. depr.-equip.)) + Goodwill) = ((Notes pay. + Accts. pay. + Inc. tax. pay. + Div. pay.) + (Bds. pay. + Prem. on bds. pay.) + (Common stk. + APIC-common stk.) + Ret. earn.)] LO3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Reporting
APPENDIX H Payroll Accounting Learning Objectives 1. 2. 3.
Record the payroll for a pay period. Record employer payroll taxes. Discuss the objectives of internal control for payroll.
ANSWERS TO QUESTIONS 1.
Gross pay is the amount an employee actually earns. Net pay, the amount an employee is paid, is gross pay reduced by both mandatory and voluntary deductions, such as FICA taxes, union dues, federal income taxes, etc. Gross pay should be recorded as wages or salaries expense.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
2.
Both employees and employers are required to pay FICA taxes.
LO 1, 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
3.
No. When an employer withholds federal or state income taxes from employee paychecks, the employer is merely acting as a collection agent for the taxing body. Since the employer holds employees’ funds, these withholdings are a liability for the employer until they are remitted to the government.
LO 1, 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
4.
FICA stands for Federal Insurance Contribution Act; FUTA stands for Federal Unemployment Tax Act; and SUTA stands for State Unemployment Tax Act.
LO 2 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
5.
A W-2 statement contains the employee’s name, address, social security number, wages, tips, other compensation, social security taxes withheld, wages subject to social security taxes, and federal, state and local income taxes withheld.
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
6.
Payroll deductions can be classified as either mandatory (required by law) or voluntary (not required by law). Mandatory deductions include FICA taxes and income taxes. Examples of voluntary deductions are health and life insurance premiums, pension contributions, union dues, and charitable contributions.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
7.
The employee earnings record is used in: (1) determining when an employee has earned the maximum earnings subject to FICA taxes, (2) filing state and federal tax returns, and (3) providing each employee with a statement of gross earnings and tax withholdings for the year.
LO 1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
8.
(a)
The three types of taxes are: (1) FICA, (2) federal unemployment, and (3) state unemployment. (b) The tax liability accounts are classified as current liabilities in the balance sheet. Payroll tax expense is classified under operating expenses in the income statement.
LO 2 BT: K Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
Questions Appendix H (Continued) 9.
The main internal control objectives associated with payrolls are: (1) to safeguard company assets from unauthorized payments of payrolls and (2) to assure the accuracy and reliability of the accounting records pertaining to payrolls.
LO 3 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
10.
The four functions associated with payroll are: (1) hiring employees, (2) timekeeping, (3) preparing the payroll, and (4) paying the payroll.
LO 3 BT: K Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE H.1 Gross earnings: Regular pay (40 x $16) ........................................... Overtime pay (5 x $24) ........................................... Gross earnings .............................................................. Less: FICA taxes payable ($760 x 7.65%) ................... Federal income taxes payable........................... Net pay ...........................................................................
$640.00 120.00
$760.00 $760.00
$ 58.14 95.00
153.14 $606.86
(Gross earnings = Regular pay + Overtime pay); [(40 x $16) + (5 x $24)] LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE H.2 Jan. 15
Jan. 15
Salaries and Wages Expense ...................... FICA Taxes Payable ($760 x 7.65%)..... Federal Income Taxes Payable ............ Salaries and Wages Payable ................
760.00
Salaries and Wages Payable........................ Cash .......................................................
606.86
58.14 95.00 606.86 606.86
LO 1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE H.3 Jan. 31
Payroll Tax Expense..................................... FICA Taxes Payable ($80,000 x 7.65%) Federal Unemployment Taxes Payable ($80,000 x .6%) .................... State Unemployment Taxes Payable ($80,000 x 5.4%) ................................
10,920 6,120 480 4,320
(FICA taxes pay. = Gross earnings x FICA tax rate); ($80,000 x 7.65%) (FUTA pay. = Gross earnings x FUTA tax rate); ($80,000 x .6%) (SUTA pay. = Gross earnings x SUTA tax rate); ($80,000 x 5.4%) LO 2 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE H.4 (a) Timekeeping (b) Hiring
(c) Preparing the payroll (d) Paying the payroll
LO 3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
SOLUTIONS TO EXERCISES EXERCISE H.1 (a) 1. Regular 40 x $16.00 = $640.00 Overtime 2 x $24.00 = 48.00 Gross earnings $688.00 2.
FICA taxes—$52.63 = ($688 x 7.65%).
3.
Net pay $567.61 = ($688.00 – $52.63 – $29.00 – $13.76 – $25.00).
(Net pay = Gross earnings – FICA taxes – Fed. Inc. taxes – State inc. taxes – Hosp.ins.); [((40 x $16) + (2 x $24)) – ($688 x 7.65%) – $29 – $13.76 - $25]
(b) Salaries and Wages Expense................................... FICA Taxes Payable .......................................... Federal Income Taxes Payable......................... State Income Taxes Payable ............................ Health Insurance Payable ................................. Salaries and Wages Payable ............................
688.00 52.63 29.00 13.76 25.00 567.61
LO 1 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE H.2 J. Seligman
$4,500 x 7.65% = $344.25. Seligman’s total gross earnings for the year are $98,000 ($93,500 + $4,500), which is below the $132,900 maximum for FICA taxes.
R. Eby
$4,500 x 7.65% = $344.25. Eby’s total gross earnings for the year are $118,100 ($113,600 + $4,500), which is below the $132,900 maximum for FICA taxes.
L. Marshall
$4,500 x 7.65% = $344.25. Marshall’s total gross earnings for the year are $119,600 ($115,100 + $4,500), which is below the $132,900 maximum for FICA taxes.
T. Olson
($2,800 x 6.2%) + ($4,500 x 1.45%) = $238.85. Olson’s total gross earnings for the year are $144,500 which exceeds the $142,800 maximum amount subject to Social Security taxes. Only $2,800 ($142,800 - $140,000) is subject to that tax. However, all of the gross earnings in the December 31 pay period are subject to Medicare taxes.
LO 1 BT: AN Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE H.3 (a) See next page. (b) Jan. 31
Salaries and Wages Expense............... FICA Taxes Payable ...................... Federal Income Taxes Payable .... Health Insurance Payable............. Salaries and Wages Payable ........
1,880.00 143.82 129.00 60.00 1,547.18
H-8
(a)
RAMIREZ COMPANY Payroll Register For the Week Ending January 31 Earnings
Employee L. Helton R. Kenseth D. Tavaras Totals
H-8
Total Hours 46 42 44
Regular
Overtime
Gross Pay
FICA Taxes
$ 480.00 560.00 600.00 $1,640.00
$ 108.00 42.00 90.00 $240.00
$ 588.00 602.00 690.00 $1,880.00
$ 44.98 46.05 52.79 $143.82
Deductions Federal Health Income Taxes Insurance $ 34.00 37.00 58.00 $129.00
$10.00 25.00 25.00 $60.00
T $
1 1 $3
EXERCISE H.3 (Continued) (b) Jan. 31
Payroll Tax Expense ................................. FICA Taxes Payable .......................... Federal Unemployment Taxes Payable ($1,880 x 0.6%) ................ State Unemployment Taxes Payable ($1,880 x 5.4%) ................
256.62 143.82 11.28 101.52
(FICA taxes pay. = Gross earnings x FICA tax rate); ($1,880 x 7.65%) (FUTA pay. = Gross earnings x FUTA tax rate); ($1,880 x 0.6%) (SUTA pay. = Gross earnings x SUTA tax rate); ($1,880 x 5.4%) LO 1, 2 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE H.4 (a) (1) (2) (3) (4) (5)
$900 [$10,000 see (2) below – $9,100]. $10,000 (FICA taxes $765 ÷ 7.65%). $400 ($10,000 x 4%). $2,405 ($10,000 – $7,595). $10,000
(Overtime earnings = Tot. gross earnings – Regular earnings); [($765 ÷ 7.65%) - $9,100) (Tot. gross earnings = FICA taxes ÷ 7.65%); ($765 ÷ 7.65%) (State inc. taxes = Tot. gross earnings x tax rate); ($10,000 x 4%) (Tot. deductions = Gross earnings – Net pay); ($10,000 - $7,595) (Sal. & wages exp. = Gross earnings); ($10,000)
(b) Feb. 28
28
Salaries and Wages Expense ............ FICA Taxes Payable .................... Federal Income Taxes Payable .................................... State Income Taxes Payable ...... Union Dues Payable ................... Salaries and Wages Payable ......
10,000
Salaries and Wages Payable ............. Cash.............................................
7,595
765 1,140 400 100 7,595 7,595
LO 1 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE H.5 (a) FICA tax ($770,000 x 6.2%) + ($850,000 x 1.45%) .... SUTA tax ($100,000 x 5.4%)...................................... FUTA tax ($100,000 x 0.6%)...................................... Total payroll tax.................................................
$60,065 5,400 600 $66,065
(FICA tax = Tax on earnings subject to Soc. Sec. tax + Tax on earnings subject to Medicare tax); [(($850,000 - $80,000) x 6.2%) + ($850,000 x 1.45%)] (SUTA tax = Earnings subject to SUTA tax x SUTA tax rate); [($850,000 - $750,000) x 5.4%] (FUTA tax = Earnings subject to FUTA tax x FUTA tax rate); [($850,000 - $750,000) x 0.6%]
(b) Payroll Tax Expense ................................................. FICA Taxes Payable .......................................... State Unemployment Taxes Payable ............... Federal Unemployment Taxes Payable ........... LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
66,065 60,065 5,400 600
H-11
(a)
MANN HARDWARD STORE Payroll Register For the Week Ended March 15, 2025 Earnings
Deductions
Employee
Hours
Regular
Overtime
Gross Pay
FICA
Fed.
State
U.F.
Total
Net Pa
B. Abel R. Hager J. Never S. Perez Totals
40 42 44 46
600.00 640.00 520.00 520.00 2,280.00
0 48.00 78.00 117.00 243.00
600.00 688.00 598.00 637.00 2,523.00
45.90 52.63 45.75 48.73 193.01
59.00 64.00 60.00 61.00 244.00
18.00 20.64 17.94 19.11 75.69
5.00 5.00 8.00 5.00 23.00
127.90 142.27 131.69 133.84 535.70
472.1 545.7 466.3 503.1 1,987.3
PROBLEM H.1 (Continued) (b) Mar. 15
15
Salaries and Wages Expense............. 2,523.00 FICA Taxes Payable .................... Federal Income Taxes Payable..................................... State Income Taxes Payable....... United Fund Contributions Payable Salaries and Wages Payable ...... Payroll Tax Expense ........................... FICA Taxes Payable ($2,523 x 7.65%) ....................... Federal Unemployment Taxes Payable ($2,523 x 0.6%) .......... State Unemployment Taxes Payable ($2,523 x 5.4%) ..........
193.01 244.00 75.69 23.00 1,987.30
344.39 193.01 15.14 136.24
(FICA tax pay. = Tot. gross earnings x FICA tax rate); ($2,523 x 7.65%) (FUTA pay. = Tot. gross earnings x FUTA tax); ($2,523 x 0.6%) (SUTA pay. = Tot. gross earnings x SUTA tax); ($2,523 x 5.4%)
(c) Mar. 16
(d) Mar. 31
Salaries and Wages Payable .............. Cash ............................................. FICA Taxes Payable ($193.01 + $193.01).......................... Federal Income Taxes Payable .......... Cash .............................................
1,987.30 1.987.30
386.02 244.00 630.02
LO 1, 2 BT: AP Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM H.2
(a)
Jan. 10 12
15 17 20
31
31
Union Dues Payable ...................... Cash ........................................
870.00
FICA Taxes Payable....................... Federal Income Taxes Payable ..... Cash ........................................
760.00 1,204.60
U.S. Savings Bonds Payable......... Cash ........................................
360.00
State Income Taxes Payable ......... Cash ........................................
108.95
Federal Unemployment Taxes Payable ....................................... State Unemployment Taxes Payable ....................................... Cash ........................................
870.00
1,964.60 360.00 108.95 288.95 1,954.40 2,243.35
Salaries and Wages Expense........ FICA Taxes Payable ............... Federal Income Taxes Payable ............................... State Income Taxes Payable ............................... Union Dues Payable............... United Fund Payable.............. Salaries and Wages Payable .
58,000.00
Salaries and Wages Payable......... Cash ........................................
48,663.00
4,437.00 2,158.00 454.00 400.00 1,888.00 48,663.00
48,663.00
PROBLEM H.2 (Continued) (b) Jan. 31
Payroll Tax Expense ........................... FICA Taxes Payable ($58,000 x 7.65%) ................... Federal Unemployment Taxes Payable ($58,000 x 0.6%)....... State Unemployment Taxes Payable ($58,000 x 5.4%).......
7,917.00
Vacation Benefits Expense ................ Vacation Benefits Payable ........
3,480.00
4,437.00 348.00 3,132.00 3,480.00
(FICA taxes pay. = Tot. sal. & wages x FICA tax rate); ($58,000 x 7.65%) (FUTA pay. = Tot. sal, & wages x FUTA tax rate); ($58,000 x 0.6%) (SUTA pay. = Tot. sal. & wages x SUTA tax rate); ($58,000 x 5.4%) (Vacation benefits pay. = Tot. sal. & wages x rate); ($58,000 x 6%) LO 1, 2 BT: AP Difficulty: Moderate TOT: 35 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM H.3
(a) Salaries and Wages Expense ............................... FICA Taxes Payable ....................................... Federal Income Taxes Payable ..................... State Income Taxes Payable ......................... United Fund Payable...................................... Health Insurance Payable.............................. Salaries and Wages Payable .........................
570,000 38,645* 142,500 17,100 27,500 17,200 327,055
($490,000 x 6.2%) + ($570,000 x 1.45%) (FICA taxes pay. = Earnings subject to Soc. Sec. tax rate + Earnings subject to Medicare tax rate); [($490,000 x 6.2%) + ($570,000 x 1.45%)
(b) Payroll Tax Expense .............................................. FICA Taxes Payable ....................................... Federal Unemployment Taxes Payable ($135,000 x 0.6%)........................................ State Unemployment Taxes Payable ($135,000 x 2.5%)........................................ (c)
Employee Maria Sandoval Jennifer Mingenback (1) (2)
Federal Wages, Income Tips, Other Tax Compensation Withheld $59,000 26,000
$11,800 2,600
42,830 38,645 810 3,375
State Income Tax Withheld
FICA FICA Tax Wages Withheld
$1,770 (1) 780 (2)
$59,000 26,000
$4,514 1,989
$59,000 x 3%. $26,000 x 3%.
(State inc. tax for Maria = Tot. earnings x State inc. tax rate); ($59,000 x 3%) (State inc. tax for Jennifer) = Tot. earnings x State inc. tax rate); ($26,000 x 3%) LO 1, 2 BT: AP Difficulty: Moderate TOT: 35 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
APPENDIX I Subsidiary Ledgers and Special Journals Learning Objectives 1. 2.
Describe the nature and purpose of a subsidiary ledger. Record transactions in special journals.
ANSWERS TO QUESTIONS 1.
A subsidiary ledger is a group of accounts with a common characteristic. The accounts are assembled together to facilitate the accounting process by freeing the general ledger from details concerning individual balances. The advantages of using subsidiary ledgers are that they:
⯈ Permit transactions affecting a single customer or single creditor to be shown in a single account, thus providing necessary up-to-date information on specific account balances.
⯈ Free the general ledger of excessive details relating to accounts receivable and accounts payable. As a result, a trial balance of the general ledger does not contain potentially thousands and thousands of individual account balances. ⯈ Assist in locating errors in individual accounts by reducing the number of accounts in one ledger and by using control accounts. ⯈ Permit a division of labor in posting by having one employee post to the general ledger and (a) different employee(s) post to the subsidiary ledgers. LO 1 BT: K Difficulty: Moderate TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
2.
(a) (1) Transactions to individual accounts are generally posted daily to the subsidiary ledger. (2) In contrast, postings to the control accounts are usually made in total at the end of the month. (b) A control account is a general ledger account that summarizes subsidiary ledger data. Subsidiary ledger accounts keep track of specific account activity (i.e., specific debtors or creditors). A subsidiary ledger is an addition to, and an expansion of, the general ledger.
LO 1 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
3.
Sales journal. Records entries for all sales of merchandise on account. Cash receipts journal. Records entries for all cash received by the business. Purchases journal. Records entries for all purchases of merchandise on account. Cash payments journal. Records entries for all cash paid. Some advantages of each journal are given below: ⯈ Sales journal. (1) Since the sales journal employs only one line to record a Sales transaction, its use reduces recording time; (2) the column totals are only posted to the general ledger once an accounting period; and (3) the journal’s use separates responsibilities between employees. ⯈ Cash receipts journal. (1) Its use aids in the posting process since the totals for Cash, Sales Discounts, Accounts Receivable, and Sales Revenue are all recorded in the general ledger only at the end of the month; and (2) it allows all accounts receivable credits to be posted to the appropriate subsidiary ledger accounts daily. ⯈ Purchases journal. The advantages are similar to those of the sales journal except that items involved are Inventory debits and Accounts Payable credits. ⯈ Cash payments journal. Similar advantages to cash receipts journal except the columns involved are different. In general, special journals: (1) allow greater division of labor because various individuals can record entries in different journals at the same time; and (2) reduce posting time of journals.
Questions Appendix I (Continued) LO 2 BT: C Difficulty: Moderate TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
4.
The entry for the sales return should be recorded in the general journal. Since Burguet Company has a single-column sales journal, only credit sales can be recorded there. A purchase by Burguet Company has not taken place, so the use of the purchases journal is inappropriate. Finally, no cash is received or paid, so neither the cash receipts or cash payments journal should be used.
LO 2 BT: C Difficulty: Moderate TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
5.
At the end of the month, after all postings to both the general ledger and the subsidiary accounts have been made, the total of the subsidiary account balances should equal the balance of the control account in the general ledger. In this case, the control account balance will be $450 larger than the total of the subsidiary accounts.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
6.
The purpose of special journals is to facilitate the recording process of the business entity. Therefore, the columns included in any special journal should correspond to the unique needs of the entity. In particular, one type of business which might not require an Accounts Receivable column would be grocery stores. These businesses rarely sell on credit to their customers. The minimum frequency of the transaction implies no need for an Accounts Receivable column in the cash receipts journal.
LO 2 BT: C Difficulty Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
7.
(a) No, the customers’ ledger will not agree with the Accounts Receivable control account. The customers’ ledger will be posted correctly, but the Accounts Receivable control account will be incorrect. (b) The trial balance will balance, although Cash will be $4,000 too high and Accounts Receivable $4,000 too low.
LO 1 BT: AN Difficulty: Moderate TOT: 6 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
8.
The special journal is the sales journal. The other account is Sales Revenue. (The cash receipts journal is an incorrect answer because there would be more than two month-end postings to general ledger accounts.)
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
9.
(a) General journal. (b) General journal. (c) Cash receipts journal.
(d) Sales journal. (e) Cash receipts journal. (f) General journal.
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
Questions Appendix I (Continued)
10.
(a) Cash receipts journal. (b) Cash receipts journal. (c) General journal.
(d) Purchases journal. (e) General journal. (f) Cash payments journal.
LO 1 BT: K Difficulty: Moderate TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
11.
Typically included would be credit purchases of equipment, office supplies, and store supplies. However, any other item purchased on credit could also be included in a special column or the “other” column.
LO 2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
12.
One such example is a purchase return. Here the Accounts Payable control and subsidiary account must be debited for the same amount. The debit/ credit equality is unaffected since the balance sheet equation is computed using general ledger (control) accounts only. The subsidiary accounts in total should agree with the control account balance.
LO 1 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
13.
The general journal may be used to record such transactions as the granting of credit to a customer for a sales return or allowance, the receipt of credit from a supplier for purchases returned, acceptance of a note receivable from a customer, or the purchase of a plant asset by issuing a note payable. In addition, all correcting, adjusting, and closing entries should be made in the general journal.
LO 2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE I.1 Accounts Receivable Subsidiary Ledger
General Ledger
Adcock Co. Ref. Debit Credit 10,000 7,000
Accounts Receivable Ref. Debit Credit 26,000 22,000
Date Jan. 7 17
Balance Date 10,000 Jan. 31 3,000 31
Balance 26,000 4,000
Cruz Co. Date Jan. 15 24
Date Jan. 23 29
Ref.
Debit 7,000
Credit 6,000
Balance 7,000 1,000
Morissy Co. Ref. Debit Credit
Balance
9,000 9,000
9,000 0
LO 1 BT: C Difficulty: Easy TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE I.2 (a). General ledger (b). Subsidiary ledger
(c). General ledger (d). Subsidiary ledger
LO 1 BT: C Difficulty: Moderate TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE I.3 (a). Cash Receipts Journal (b). Cash Payments Journal (c). Cash Payments Journal
(d). Sales Journal (e). Purchases Journal (f). Cash Receipts Journal
LO 2 BT: C Difficulty: Moderate TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE I.4 (a). No (b). Yes
(c). Yes (d). No
LO 2 BT: C Difficulty: Moderate TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE I.5 (a). General Journal (if a one-column Purchases Journal) Purchases Journal (if a multi-column Purchases Journal) (b). Purchases Journal (c). Cash Payments Journal (d). Sales Journal LO 2 BT: C Difficulty: Moderate TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE I.6 (a). Cash Receipts Journal (b). Cash Receipts Journal (c). Cash Receipts Journal (d). Sales Journal and Cash Receipts Journal (e). Purchases Journal LO 2 BT: C Difficulty: Moderate TOT: 3 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
BRIEF EXERCISE I.7 (a). Both in total and daily (b). In total
(c). In total (d). Only daily
LO 2 BT: C Difficulty: Moderate TOT: 2 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
SOLUTIONS TO EXERCISES EXERCISE I.1 (a) $344,400. Beginning balance of $314,000 plus $161,400 debit from sales journal less $131,000 credit from cash receipts journal. (b) $83,600. Beginning balance of $77,000 plus $54,100 credit from purchases journal less $47,500 debit from cash payments journal. (c) The column total of $161,400 in the sales journal would be posted to the credit side of the Sales account and the debit side of the Accounts Receivable account in the general ledger. (d) The accounts receivable column total of $131,000 in the cash receipts journal would be posted to the credit side of the Accounts Receivable account in the general ledger. LO 1, 2 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.2 To:
Erica Grier, Chief Financial Officer
From:
Student
Subject:
Martha Nott account
The explanation of the three entries in the subsidiary ledger for the Martha Nott account is as follows: Sept. 2
This was a credit sale of merchandise to Nott. The entry was recorded on page 31 of the Sales Journal.
Sept. 9
This was a sales return or allowance granted to Nott. The entry was recorded on page 4 of the General Journal.
Sept. 27
This was a payment by Nott of the balance due. The entry was recorded on page 8 of the Cash Receipts Journal.
If I can be of further help, please let me know. LO 1 BT: C Difficulty: Moderate TOT: 5 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.3 (a) & (b)
General Ledger
Accounts Receivable Date Sept. 1
Explanation Balance
Ref. � S CR G
Debit
Credit
4,650 7,030 185
Balance 10,960 15,610 8,580 8,395
Accounts Receivable Subsidiary Ledger Baez Date Sept. 1
Explanation Balance
Ref. � S CR
Debit
Ref. � S CR G
Debit
Ref.
Debit
S CR
1,330
Ref. � CR
Debit
Ref. � S CR
Debit
Credit
1,260 1,310
Balance 2,060 3,320 2,010
Dey Date Sept. 1
Guy Date Sept. 1
Explanation Balance
Explanation
Credit
800 2,300 185 Credit
380
Balance 4,820 5,620 3,320 3,135 Balance 0 1,330 950
Milo Date Sept. 1
Explanation Balance
Credit 1,800
Balance 2,640 840
Zeyen Date Sept. 1
Explanation Balance
Credit
1,260 1,240
Balance 1,440 2,700 1,460
EXERCISE I.3 (Continued) (c)
STARK COMPANY Schedule of Customers As of September 30, 2025
Baez ......................................................................................... Dey ......................................................................................... Guy ......................................................................................... Milo ......................................................................................... Zeyen ........................................................................................ Total ..................................................................................
$2,010 3,135 950 840 1,460 $8,395
Accounts Receivable...............................................................
$8,395
LO 1, 2 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.4 (a) $3,700 [$10,200 – ($4,000 + $2,500)]. (Matson Company acct. bal. = Tot. accts. rec. – Connor Co. bal. – Uhlig Co. bal.); ($10,200 - $4,000 - $2,500)
(b)
$12,000 [$10,200 + ($9,000 + $7,000 + $8,300) – ($8,000 + $2,500 + $9,000) – $3,000].
(Accts. rec., 1/31 bal. = Accts. rec. beg. bal. + Credit sales – Collections - Returns); [$10,200 + ($9,000 + $7,000 + $8,300) – ($8,000 + $2,500 + $9,000) - $3,000]
(c)
(d)
Connor Uhlig Matson
($4,000 + $9,000 – $8,000) ($2,500 + $7,000 – $2,500 – $3,000) ($3,700 + $8,300 – $9,000)
$ 5,000 4,000 3,000 $12,000 The sales return ($3,000) would be recorded in the general journal.
LO 1, 2 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.5 (a) $3,375 [$8,250 – ($3,000 + $1,875)]. (Colaw Company acct. bal. = Tot. accts. rec. – Rye Co. bal. – Keyes Co. bal.); ($8,250 - $3,000 - $1,875)
(b)
$9,675 [$8,250 + ($6,750 + $5,250 + $6,375) – ($6,000 + $1,900 + $6,750) – $2,300].
(Accts. pay.. 1/31 bal. = Accts. pay. beg. bal. + Purch. – Pmts. – Returns); [$8,250 + ($6,750 + $5,250 + $6,375) – ($6,000 + $1,900 + $6,750) - $2,300]
(c)
Rye Keyes Colaw
($3,000 + $6,750 – $6,000) ($1,875 + $5,250 – $1,900 – $2,300) ($3,375 + $6,375 – $6,750)
$3,750 2,925 3,000 $9,675
EXERCISE I.5 (Continued) (d)
The purchase return ($2,300) would be recorded in the general journal.
LO 1, 2 BT: AP Difficulty: Moderate TOT: 12 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.6 (a) & (b) Date
NORREN COMPANY Sales Journal Account Debited
S1
Invoice Accounts Receivable Dr. No. Ref. Sales Revenue Cr.
2025 Sept. 2 J. Yancey 21 K. Pricer
101 102
Cost of Goods Sold Dr. Inventory Cr.
780 800 1,580
420 480 900
NORREN COMPANY Purchases Journal Date 2025 Sept. 10 25
Account Credited H. Heerey G. Jeanik
Terms
P1 Inventory Dr. Accounts Payable Cr.
Ref.
2/10, n/30 n/30
600 835 1,435
LO 2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.7 (a) & (b)
Date
MILNER CO. Cash Receipts Journal Account Credited
2025 May 1 Common Stock 2 22 N. Feeney
Ref.
Cash Dr. 48,000 6,340 9,000 63,340
Sales Sales Accounts Revenue Discounts Receivable Cr. Dr. Cr.
CR1 Other Accounts Cr.
Cost of Goods Sold Dr. Inventory Cr.
48,000 6,340 9,000 9,000
6,340
4,200 48,000
4,200
EXERCISE I.7 (Continued) MILNER CO. Cash Payments Journal Ck. No. Account Debited
Date 2025 May 3 101 Inventory 14 102 Salaries and Wages Expense
CP1
Other Accounts Accounts Payable Ref. Dr. Dr. 7,200 700 7,900
Cash Cr. 7,200 700 7,900
LO 2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.8 (a) Journal 1. Cash Payments 2. Cash Receipts 3. Cash Payments 4. Cash Payments 5. Cash Receipts 6. Cash Payments 7. Cash Payments 8. Cash Receipts 9. Cash Payments 10. Cash Receipts
(b) Columns in the journal Cash (Cr.), Other Accounts (Dr.). Cash (Dr.), Sales Discounts (Dr.), and Accounts Receivable (Cr.). Cash (Cr.), Other Accounts (Dr.). Cash (Cr.), Inventory (Cr.), and Accounts Payable (Dr.). Cash (Dr.), Accounts Receivable (Cr.). Cash (Cr.), Other Accounts (Dr.). Cash (Cr.), Other Accounts (Dr.). Cash (Dr.), Other Accounts (Cr.). Cash (Cr.), Other Accounts (Dr.). Cash (Dr.), Sales Revenue (Cr.), Cost of Goods Sold (Dr.), and Inventory (Cr.).
LO 2 BT: C Difficulty: Easy TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.9 (a) Mar. 2
5
7
(b) To:
Equipment ..................................................... Accounts Payable—Brantly Company............................................
9,400
Accounts Payable—Dumont Company ................................................... Inventory................................................
9,400 410 410
Sales Returns and Allowances .................... Accounts Receivable—Horst Company............................................
390
Inventory ....................................................... Cost of Goods Sold...............................
240
390
240
President of Nolasco Company
From:
Chief Accountant
Subject:
Posting of Control and Subsidiary Accounts
The posting of these accounts varies with the journals used in recording the transactions. Sales and purchases journals—the total for the month is posted to the control accounts. The individual entries are posted daily to the subsidiary accounts. Columnar cash receipts and cash payments journals—the total of the control account column for the month is posted to the control account. The individual amounts in the column are posted daily to the subsidiary accounts. General journal—the individual entries are posted daily. Each entry that pertains to a control and a subsidiary account is dual posted. That is, it is posted to both the control account and the subsidiary account. I hope this memo answers your questions about posting. LO 1, 2 BT: AP Difficulty: Moderate TOT: 15min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.10 1. 2. 3. 4. 5. 6. 7.
Cash Payments Journal General Journal Cash Receipts Journal Cash Receipts Journal Sales Journal Cash Receipts Journal General Journal
8. 9. 10. 11. 12. 13.
Cash Receipts Journal Cash Payments Journal Cash Payments Journal General Journal Cash Payments Journal Purchases Journal
LO 2 BT: C Difficulty: Easy TOT: 10 min. AACSB: Knowledge AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.11 (a) The debit posting reference on February 28 should be from the cash payments journal to record the payments made during the month. The general ledger debit amount should be $28,970 to balance. Robillard’s ending balance must be $3,100. (Accounts Payable control balance of $9,800 less Keyser, $4,600, and Stine, $2,100.) (Feb. 28 posting: $26,025 + $195 + $550 + $13,400 - $1,400 - Feb. 28 bal. $9,800 = $28,970)
(b) Only the general journal amounts were dual posted. Thus, the amounts were $1,400 (Dr.), $195 (Cr.), and $550 (Cr.). LO 1 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.12 (a) Purchases Journal Date July 3 12 14 17 20 21 29
Account Credited Carolina Co. Nevada Co. Kentucky Co. Florida Corp. Carolina Co. Nevada Co. Florida Corp.
Ref. � � � � � � �
P1 Inventory Dr. Accounts Payable Cr. 2,400 500 1,300 1,400 700 600 1,600 8,500 120/201
EXERCISE I.12 (Continued) (b) Date July 1
General Journal Accounts and Explanations Equipment......................................... Accounts Payable—Alaska Equipment Co. .....................
Ref. 153
Debit 3,900
201/�
Credit
3,900
15
Inventory ........................................... 120 600 Accounts Payable— Oklahama Inc ....................... 201/� 600 (This entry should have been recorded in the Purchases Journal.)
18
Accounts Payable—Florida Corp............................................... Inventory ..................................
201/� 120
380
Accounts Payable—Kentucky Co ... Inventory ..................................
201/� 120
200
25
380 200
LO 1, 2 BT: AP Difficulty: Hard TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.13 $985 ($280 + $240 + $145 + $190 + $130). All of the debit postings to the subsidiary ledger accounts should be from sales invoices. The total of all these debits should therefore be the total credit sales for the month, which would be the same amount as the end-of-month debit to Accounts Receivable. (Amt. posted to accts. rec. from sales journal); ($280 + $240 + $145 + $190 + $130) LO 1,2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
EXERCISE I.14 (a) $19,000 + $72,000 – $46,000 = $45,000 (Accts. pay. 1/31 bal. = Beg. bal. + Tot. from purch. journal – Tot. from cash disb. journal); ($19,000 + $72,000 - $46,000)
(b) $22,000 + $100,000 – $48,000 = $74,000 (Accts. rec. 1/31 bal. = Beg. bal. + Tot. from sales journal – Tot. accts. rec. collections from cash receipts journal);($22,000 + $100,000 - $48,000)
(c) $17,000 + $64,000 – $55,000 = $26,000 (Cash 1/31 bal. = Beg. bal. + Cash tot. from cash receipts journal – Cash from cash pmts. journal);($17,000 + $64,000 $55,000)
(d) $13,500 + $72,000 – $1,000 – $63,600 = $20,900 (Inv. 1/31 bal. = Beg. bal. + Tot. from purch. journal – Inv. tot. from cash pmts. journal – CGS); ($13,500 + $72,000 - $1,000 $63,600)
(e) $100,000 + $6,000 = $106,000 (Sales. Rev. 1/31 bal. = Tot. from sales journal + Sales rev. tot. from cash receipts journal); ($100,000 + $6,000) LO 2 BT: AP Difficulty: Moderate TOT: 15 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
SOLUTIONS TO PROBLEMS PROBLEM I.1
(a) Cash Receipts Journal
Date
Account Credited
Apr. 1 Common Stock 4 Afzal 5 Hurt Co. 8 10 Park 11 Inventory 23 Hurt Co. 29 Kolten
Ref.
Cash Dr.
311 � �
7,200 1,764 990 7,845 � 600 120 680 � 1,500 � 1,200 21,779 (101)
(b)
Sales Accounts Sales Discounts Receivable Revenue Dr. Cr. Cr.
CR1 Other Accounts Cr.
Cost of Goods Sold Dr. Inventory Cr.
7,200 36
1,800 990 7,845
4,347
600 680
36 (414)
1,500 1,200 6,090 (112)
7,845 (401)
7,880 (X)
4,347 (505)(120)
General Ledger
Accounts Receivable Date Apr. 1 30
Explanation Balance
No. 112 Ref. � CR1
Debit
Credit 6,090
Balance 7,450 1,360
Accounts Receivable Subsidiary Ledger Park Date Apr. 1 10
Explanation Balance
Ref. � CR1
Debit
Credit 600
Balance 1,550 950
PROBLEM I.1 (Continued) Kolten Date Apr. 1 29
Explanation Balance
Ref. � CR1
Debit
Ref. � CR1 CR1
Debit
Ref. � CR1
Debit
Credit 1,200
Balance 1,200 0
Hurt Co. Date Apr. 1 5 23
Explanation Balance
Credit 990 1,500
Balance 2,900 1,910 410
Afzal Date Apr. 1 4
Explanation Balance
(c) Accounts receivable balance:
$1,360
Subsidiary account balances: Park Hurt Co. Total
$ 950 410 $1,360
Credit 1,800
Balance 1,800 0
LO 1, 2 BT: AP Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM I.2
(a) Cash Payments Journal Date
Ck. No. Account Debited
Oct. 1 3 5 10 15 16 19 29
63 64 65 66 67 68 69 70
Inventory Equipment Coulsen Company Inventory Noy Co. Cash Dividends Flynn Co. Trent Company
Other Accounts Accounts Payable Ref. Dr. Dr. 120 157
�
120
�
332
� �
Inventory Cr.
300 1,200 2,700
54
2,250 2,100 400
4,150 (X)
(b)
CP1
1,800 2,500 9,100 (201)
36 90 (120)
300 1,200 2,646 2,250 2,100 400 1,764 2,500 13,160 (101)
General Ledger
Accounts Payable Date Oct. 1 31
Cash Cr.
No. 201
Explanation Balance
Ref. � CP1
Debit
Credit
Balance 11,000 1,900
Credit
Balance 2,700 0
9,100
Accounts Payable Subsidiary Ledger Coulsen Company Date Oct. 1 5
Explanation Balance
Ref. � CP1
Debit 2,700
PROBLEM I.2 (Continued) Flynn Co. Date Oct. 1 19
Explanation Balance
Ref. � CP1
Debit
Ref. � CP1
Debit
Ref. � CP1
Debit
Credit
Balance 2,500 700
Credit
Balance 2,100 0
Credit
Balance 3,700 1,200
1,800
Noy Co. Date Oct. 1 15
Explanation Balance
Trent Company Date Explanation Oct. 1 Balance 29
(c) Accounts payable balance: Subsidiary account balances: Flynn Co. Trent Company
2,100
2,500
$1,900
$ 700 1,200 $1,900
LO 1, 2 BT: AP Difficulty: Moderate TOT: 30 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM I.3
(a) Purchases Journal
Date
Account Credited (Debited)
Ref.
July 1 2 5 13
Dent Company Rensing Shipping Langer Company Abel Supply (Supplies) Dent Company Goran Company Wei Advertisements (Advertising Expense) Langer Company Abel Supply (Equipment) Rensing Shipping
� � �
15 15 18 24 26 28
Accounts Payable Cr.
Inventory Dr.
7,600 400 3,200 910
7,600 400 3,200
3,600 3,300 600
3,600 3,300
3,000 900
3,000
380 23,890 (201)
380 21,480 (120)
126/�
� �
610/�
�
157/�
�
P1 Other Accounts Dr.
910
600
900
Sales Journal Date
Account Debited
Ref.
July 3 3 16 16 21 21 30
Dayley Company Orsen Bros. Gentry Company Orsen Bros. Dayley Company Musky Company Gentry Company
� � � � � � �
2,410 (X)
S1
Accounts Receivable Dr. Sales Revenue Cr.
Cost of Goods Sold Dr. Inventory Cr.
1,300 2,000 3,450 1,570 310 2,800 5,600 17,030 (112)(401)
910 1,400 2,415 1,099 217 1,960 3,920 11,921 (505)(120)
PROBLEM I.3 (Continued) General Journal Date July 8
22
Accounts and Explanations Accounts Payable—Langer Company ..................................... Inventory ................................ Sales Returns and Allowances Accounts Receivable— Dayley Company................
(b) Accounts Receivable Date July 31 22
Explanation
Inventory Date Explanation July 31 8 31
Supplies Date July 13
Explanation
G1 Ref.
Debit
201/� 120
300
412
65
Credit
300
112/�
65
General Ledger No. 112 Ref. S1 G1
Ref. P1 G1 S1
Ref. P1
Debit 17,030
Credit 65
Debit 21,480
Credit 300 11,921
Debit 910
Credit
Balance 17,030 16,965
No. 120 Balance 21,480 21,180 9,259
No. 126 Balance 910
PROBLEM I.3 (Continued) Equipment Date Explanation July 26
Ref. P1
Debit 900
Credit
Accounts Payable Date July 31 8
Explanation
Sales Revenue Date Explanation July 31
Sales Returns and Allowances Date Explanation July 22
No. 201 Ref. P1 G1
Ref. S1
Ref. G1
Debit
Credit 23,890
300
Debit
Debit 65
Credit 17,030
Credit
Cost of Goods Sold Date July 31
Explanation
Advertising Expense Date Explanation July 18
No. 157 Balance 900
Balance 23,890 23,590
No. 401 Balance 17,030
No. 412 Balance 65
No. 505 Ref. S1
Ref. P1
Debit 11,921
Debit 600
Credit
Credit
Balance 11,921
No. 610 Balance 600
PROBLEM I.3 (Continued) Accounts Receivable Subsidiary Ledger Orsen Bros. Date July 3 16
Explanation
Ref. S1 S1
Debit 2,000 1,570
Credit
Balance 2,000 3,570
Ref. S1 S1 G1
Debit 1,300 310
Credit
Balance 1,300 1,610 1,545
Ref. S1 S1
Debit 3,450 5,600
Credit
Balance 3,450 9,050
Ref. S1
Debit 2,800
Credit
Balance 2,800
Credit 910 900
Balance 910 1,810
Dayley Company Date July 3 21 22
Explanation
65
Gentry Company Date July 16 30
Explanation
Musky Company Date July 21
Explanation
Accounts Payable Subsidiary Ledger Abel Supply Date July 13 26
Explanation
Ref. P1 P1
Debit
PROBLEM I.3 (Continued) Rensing Shipping Date Explanation July 2 28
Ref. P1 P1
Debit
Credit 400 380
Balance 400 780
Ref. P1 P1
Debit
Credit 7,600 3,600
Balance 7,600 11,200
Ref. P1 G1 P1
Debit
Credit 3,200 3,000
Balance 3,200 2,900 5,900
Ref. P1
Debit
Credit 600
Balance 600
Ref. P1
Debit
Credit 3,300
Balance 3,300
Dent Company Date July
Explanation 1 15
Langer Company Date July 5 8 24
Explanation
300
Wei Advertisements Date July 18
Explanation
Goran Company Date July 15
Explanation
PROBLEM I.3 (Continued) (c)
Accounts receivable balance................................. Subsidiary account balances Orsen Bros. ..................................................... Dayley Company ............................................. Gentry Company ............................................. Musky Company.............................................. Total..........................................................
$16,965 $ 3,570 1,545 9,050 2,800 $16,965
Accounts payable balance..................................... Subsidiary account balances Abel Supply ..................................................... Rensing Shipping............................................ Dent Company................................................. Langer Company............................................. Wei Advertisements ........................................ Goran Company .............................................. Total..........................................................
$23,590 $ 1,810 780 11,200 5,900 600 3,300 $23,590
LO 1, 2 BT: AP Difficulty: Moderate TOT: 45 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM I.4
(a), (b) & (c) Sales Journal Account Debited
Date
Jan. 4 Gant 9 Notson Corp. 17 Loeb Co. 31 Gant
S1
Invoice Accounts Receivable Dr. No. Ref. Sales Revenue Cr. 371 372 373 374
� � � �
Cost of Goods Sold Dr. Inventory Cr.
5,600 6,400 1,200 9,330 22,530 (112)(401)
3,360 3,840 720 5,598 13,518 (505)(120)
Purchases Journal Date Jan. 3 8 11 23 24
Account Credited Quayle Co. Eubank Co. Akers Co. Quayle Co. Fifer Corp.
Ref. � � � � �
P1 Inventory Dr. Accounts Payable Cr. 10,000 4,500 3,700 7,800 5,100 31,100 (120)(201)
General Journal Date Jan. 5
19
G1
Accounts and Explanations Accounts Payable—Quayle Co. ............ Inventory ...................................
Ref. 201/� 120
Debit 300
Equipment ......................................... Accounts Payable—Barb Corp.......................................
157 201/�
5,500
Credit 300
5,500
PROBLEM I.4 (Continued) Cash Receipts Journal Account Credited
Date
Jan. 6 13 15 Notson Corp. 17 Gant 20 27 30 Loeb Co.
Ref.
� � �
Sales Accounts Sales Discounts Receivable Revenue Dr. Cr. Cr.
Cash Dr. 3,750 6,260 6,336 5,600 3,200 4,230 1,200 30,576 (101)
64
64 (414)
CR1 Other Accounts Cr.
Cost of Goods Sold Dr. Inventory Cr.
3,750 6,260
2,250 3,756
3,200 4,230
1,920 2,538
6,400 5,600
1,200 13,200 (112)
17,440 (401)
10,464 (505)(120)
0 (X)
Cash Payments Journal
Date
Account Debited
Ref.
Jan. 4 13 15
Supplies Quayle Co. Salaries and Wages Expense Eubank Co. Salaries and Wages Expense
126
20 31
�
726
Other Accounts Dr. 80
Inventory Cr.
Cash Cr.
9,700
194
80 9,506 14,300
4,500
90
4,410
284 (120)
14,300 42,596 (101)
14,300
� 726
Accounts Payable Dr.
CP1
14,300 28,680 (X)
14,200 (201)
LO 1, 2 BT: AP Difficulty: Moderate TOT: 50 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM I.5
(a) , (d) & (g)
Cash Date July 31 31
Explanation
General Ledger
Ref. CR1 CP1
Debit 101,765
Credit 38,766
Accounts Receivable Date July 31 31
Explanation
Inventory Date Explanation July 31 29 31 31 31
No. 112 Ref. S1 CR1
Ref. P1 CR1 CP1 S1 CR1
Debit 20,100
Credit 15,100
Debit 43,720
Credit 450 234 13,065 4,095
Supplies Date July 4 31
Balance 20,100 5,000
No. 120 Balance 43,720 43,270 43,036 29,971 25,876 No. 127
Explanation Adjusting entry
Ref. CP1 G1
Debit 600
Credit 430
Prepaid Rent Date July 11 31
No. 101 Balance 101,765 62,999
Explanation Adjusting entry
Balance 600 170
No. 131 Ref. CP1 G1
Debit 6,000
Credit 500
Balance 6,000 5,500
PROBLEM I.5 (Continued) Accounts Payable Date July 31 31
Explanation
No. 201 Ref. P1 CP1
Debit
Credit 43,720
29,900
Common Stock Date July 1
Explanation
No. 311 Ref. CR1
Debit
Credit 80,000
Cash Dividends Date July 19
Explanation
Explanation
Ref. CP1
Debit 2,500
Credit
Explanation
Ref. S1 CR1
Debit
Credit 20,100 6,300
Explanation
Balance 20,100 26,400
No. 414 Ref. CR1
Debit 85
Credit
Cost of Goods Sold Date July 31 31
Balance 2,500
No. 401
Sales Discounts Date July 31
Balance 80,000
No. 332
Sales Revenue Date July 31 31
Balance 43,720 13,820
Balance 85
No. 505 Ref. S1 CR1
Debit 13,065 4,095
Credit
Balance 13,065 17,160
PROBLEM I.5 (Continued) Supplies Expense Date July 31
No. 631
Explanation Adjusting entry
Ref. G1
Debit 430
Credit
Rent Expense Date July 31
Balance 430
No. 729
Explanation Adjusting entry
Ref. G1
Debit 500
Credit
Balance 500
(b) Sales Journal
S1
Date
Account Debited
Accounts Receivable Dr. Ref. Sales Revenue Cr.
July 6 8 10 21
Edwards Co. Carmoni L. Nunez M.Putzi
� � � �
Cost of Goods Sold Dr. Inventory Cr.
6,600 3,600 4,900 5,000 20,100 (112)(401)
4,290 2,340 3,185 3,250 13,065 (505)(120)
Cash Receipts Journal Account Credited
Date July 1 7 13 16 20 29
Common Stock Carmoni L. Nunez Edwards Co. Inventory
Ref.
Cash Dr.
80,000 6,300 � 3,564 � 4,851 � 6,600 120 450 101,765 (101)
CR1
Sales Accounts Sales Other Discounts Receivable Revenue Accounts Dr. Cr. Cr. Cr.
311
Cost of Goods Sold Dr. Inventory Cr.
80,000 6,300 36 49
3,600 4,900 6,600
85 (414)
15,100 (112)
6,300 (401)
4,095
450 80,450 (X)
4,095 (505)(120)
PROBLEM I.5 (Continued) (c)
Accounts Receivable Subsidiary Ledger
Edwards Co. Date July 6 20
Explanation
Ref. S1 CR1
Debit 6,600
Credit
Explanation
Ref. S1
Debit 5,000
Credit
Balance 5,000
Explanation
Ref. S1 CR1
Debit 4,900
Credit
Balance 4,900 0
Ref. S1 CR1
Debit 3,600
6,600
Balance 6,600 0
M. Putzi Date July 21 L. Nunez Date July 10 16
4,900
Carmoni Date July 8 13
Explanation
Credit 3,600
Balance 3,600 0
Accounts Payable Subsidiary Ledger D. Sampson Date July 13 21
Explanation
Ref. P1 CP1
Debit
Credit 15,300
Balance 15,300 0
Credit 8,100
Balance 8,100 0
15,300
K. Farmer Date July 5 10
Explanation
Ref. P1 CP1
Debit 8,100
PROBLEM I.5 (Continued) G. Young Date July 20
T. Donley Date July 4 15
Explanation
Ref. P1
Debit
Credit 7,900
Balance 7,900
Explanation
Ref. P1 CP1
Debit
Credit 6,500
Balance 6,500 0
Ref. P1
Debit
Credit 5,920
Balance 5,920
6,500
M. Huang Date July 11
(e)
Explanation
RAMIREZ CO. Trial Balance July 31, 2025 Cash................................................................ Accounts Receivable..................................... Inventory ........................................................ Supplies.......................................................... Prepaid Rent .................................................. Accounts Payable.......................................... Common Stock .............................................. Cash Dividends.............................................. Sales Revenue ............................................... Sales Discounts ............................................. Cost of Goods Sold .......................................
Debit $ 62,999 5,000 25,876 600 6,000
Credit
$ 13,820 80,000 2,500 26,400 85 17,160 $120,220
$120,220
PROBLEM I.5 (Continued) (f)
Accounts receivable balance.................................................
$ 5,000
Subsidiary accounts balance M. Putzi ............................................................................
$ 5,000
Accounts payable balance.....................................................
$13,820
Subsidiary accounts balance G. Young .......................................................................... M. Huang..........................................................................
$ 7,900 5,920 $13,820
(g) Date July 31 31
General Journal Accounts and Explanations Supplies Expense ($600 - $170)..... Supplies .................................
Ref. 631 127
Debit 430
Rent Expense.................................. Prepaid Rent ..........................
729 131
500
G1 Credit 430 500
PROBLEM I.5 (Continued) (h)
RAMIREZ CO. Adjusted Trial Balance July 31, 2025 Cash ................................................................ Accounts Receivable ..................................... Inventory......................................................... Supplies.......................................................... Prepaid Rent................................................... Accounts Payable .......................................... Common Stock............................................... Cash Dividends .............................................. Sales Revenue................................................ Sales Discounts ............................................. Cost of Goods Sold........................................ Supplies Expense .......................................... Rent Expense .................................................
Debit $ 62,999 5,000 25,876 170 5,500
Credit
$ 13,820 80,000 2,500 26,400 85 17,160 430 500 $120,220
$120,220
LO 1, 2 BT: AP Difficulty: Hard TOT: 65 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
PROBLEM I.6
(b) & (c)
Cash Receipts Journal
Date
Account Credited
Ref.
Jan. 7 13 23 29
E. Divine T. Raynor
� �
Notes Receivable
115
Cash Dr. 3,500 4,508 9,100 37,000 54,108 (101)
Sales Discounts Dr.
Accounts Receivable Cr.
92
3,500 4,600
CR1
Sales Revenue Cr.
Other Accounts Cr.
Cost of Goods Sold Dr. Inventory Cr.
9,100 92 (414)
8,100 (112)
9,100 (401)
5,460 37,000 37,000 (X)
5,460 (505)(120)
Cash Payments Journal Date
Account Debited
Ref.
Jan. 11 12 15 18
Inventory Rent Expense A. Pele Salaries and Wages Expense P. Weng
120 729 � 726
27
CP1
Other Accounts Accounts Payable Dr. Dr.
Inventory Cr.
300 1,000 15,000
150
950 15,950 (201)
150 (120)
4,500
� 5,800 (X)
Sales Journal Date
Account Debited
Jan. 3 T. Raynor 24 J. Deitz
Accounts Receivable Dr. Ref. Sales Revenue Cr. � �
4,600 7,400 12,000 (112)(401)
Cash Cr. 300 1,000 14,850 4,500 950 21,600 (101)
S1 Cost of Goods Sold Dr. Inventory Cr. 2,760 4,440 7,200 (505)(120)
PROBLEM I.6 (Continued) Purchases Journal Date Jan. 5 17
Account Credited P. Weng E. Nanco
P1 Inventory Dr. Accounts Payable Cr. 2,800 1,600 4,400 (120)(201)
Ref. � �
General Journal Date Jan. 14
20 30
G1
Accounts and Explanations Sales Returns and Allowances ..... Accounts Receivable— M. Cedeno.......................... Inventory ($300 x 0.60) .................. Cost of Goods Sold ..............
Ref. 412
Debit 300
�/112 120 505
180
Accounts Payable—L. Gold .......... Notes Payable .......................
�/201 200
18,000
Accounts Payable—E. Nanco ....... Inventory ...............................
�/201 120
300
Credit
300 180
18,000 300
(a) & (c) General Ledger Cash Date Jan. 1 31 31
Explanation Balance
Ref. � CR1 CP1
Debit
Credit
54,108 21,600
No. 101 Balance 41,500 95,608 74,008
PROBLEM I.6 (Continued) Accounts Receivable Date Explanation Jan. 1 Balance 14 31 31
Ref. � G1 CR1 S1
Debit
Credit 300 8,100
12,000
Notes Receivable Date Jan. 1 29
Explanation Balance
No. 115 Ref. � CR1
Debit
Credit 37,000
Inventory Date Jan. 1 11 14 30 31 31 31 31
Explanation Balance
Ref. � CP1 G1 G1 P1 CP1 CR1 S1
Debit
Credit
300 180 300 4,400 150 5,460 7,200
Balance 20,000 20,300 20,480 20,180 24,580 24,430 18,970 11,770
No. 157 Explanation Balance
Ref. �
Debit
Credit
Accumulated Depreciation—Equipment Date Jan. 1
Balance 45,000 8,000
No. 120
Equipment Date Jan. 1
No. 112 Balance 15,000 14,700 6,600 18,600
Explanation Balance
Ref. �
Balance 7,500
No. 158 Debit
Credit
Balance 1,500
PROBLEM I.6 (Continued) Notes Payable Date Explanation Jan. 20
Accounts Payable Date Explanation Jan. 1 Balance 20 30 31 31
Common Stock Date Explanation Jan. 1 Balance
Sales Revenue Date Explanation Jan. 31 31
Sales Returns and Allowances Date Explanation Jan. 14
Sales Discounts Date Explanation Jan. 31
Ref. G1
Ref. � G1 G1 P1 CP1
Ref. �
Ref. CR1 S1
Ref. G1
Ref. CR1
Debit
Debit
Credit 18,000
Credit
18,000 300 4,400 15,950
Debit
Debit
Debit 300
Debit 92
Credit
Credit 9,100 12,000
No. 200 Balance 18,000
No. 201 Balance 43,000 25,000 24,700 29,100 13,150
No. 311 Balance 84,500
No. 401 Balance 9,100 21,100
Credit
No. 412 Balance 300
Credit
No. 414 Balance 92
PROBLEM I.6 (Continued) Cost of Goods Sold Date Explanation Jan. 31 31 14
Ref. CR1 S1 G1
Debit 5,460 7,200
Credit
180
Salaries and Wages Expense Date Jan. 18
Explanation
No. 726 Ref. CP1
Debit 4,500
Credit
Rent Expense Date Jan. 12
No. 505 Balance 5,460 12,660 12,480
Balance 4,500
No. 729
Explanation
Ref. CP1
Debit 1,000
Credit
Balance 1,000
Accounts Receivable Subsidiary Ledger M. Cedeno Date Jan. 1 14
J. Deitz Date Jan. 1 24
Explanation Balance
Explanation Balance
Ref. � G1
Debit
Ref. � S1
Debit
Credit 300
7,400
Credit
Balance 2,500 2,200
Balance 7,500 14,900
PROBLEM I.6 (Continued) E. Divine Date Jan. 1 7
Explanation Balance
Ref. � CR1
Debit
Ref. S1 CR1
Debit 4,600
Credit 3,500
Balance 5,000 1,500
T. Raynor Date Jan. 3 13
Explanation
Credit 4,600
Balance 4,600 0
Accounts Payable Subsidiary Ledger E. Nanco Date Jan. 17 30
Explanation
Ref. P1 G1
Debit
Credit 1,600
Balance 1,600 1,300
Explanation Balance
Ref. �
Debit
Credit
Balance 10,000
Explanation Balance
Ref. � G1
Debit
Credit
Balance 18,000 0
Credit
Balance 15,000 0
300
B. Forrest Date Jan. 1
L. Gold Date Jan. 1 20
A. Pele Date Jan. 1 15
Explanation Balance
Ref. � CP1
18,000
Debit 15,000
PROBLEM I.6 (Continued) P. Weng Date Jan. 5 27
(d)
Explanation
Ref. P1 CP1
Debit
Credit 2,800
Balance 2,800 1,850
950
BENSEN CO. Trial Balance January 31, 2025 Cash ................................................................ Accounts Receivable...................................... Notes Receivable............................................ Inventory ......................................................... Equipment....................................................... Accumulated Depreciation—Equipment....... Notes Payable ................................................. Accounts Payable........................................... Common Stock ............................................... Sales Revenue ................................................ Sales Returns and Allowances...................... Sales Discounts.............................................. Cost of Goods Sold ........................................ Salaries and Wages Expense ........................ Rent Expense..................................................
Debit $ 74,008 18,600 8,000 11,770 7,500
Credit
$
300 92 12,480 4,500 1,000 $138,250
(e) Accounts Receivable Subsidiary Ledger M. Cedeno........................................................................ J. Deitz ............................................................................. E. Divine...........................................................................
Accounts Receivable Control ................................................
1,500 18,000 13,150 84,500 21,100
$138,250
$ 2,200 14,900 1,500 $18,600 $18,600
PROBLEM I.6 (Continued) Accounts Payable Subsidiary Ledger E. Nanco........................................................................... B. Forrest ......................................................................... P. Weng............................................................................ Accounts Payable Control .....................................................
$ 1,300 10,000 1,850 $13,150 $13,150
LO 1, 2 BT: AP Difficulty: Hard TOT: 70 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
ACCOUNTING CYCLE REVIEW
Note: If the working papers that accompany this text are not used in solving this problem, account numbers may differ from those presented in this solution. (a) Sales Journal Date Jan. 3 3 11 11 22 22 25 25
Account Debited W. Rayms M. Fischer G. Dukes L. Longhini W. Rayms G. Dukes M. Hall M. Fischer
Invoice No. 510 511 512 513 514 515 516 517
Ref. � � � � � � � �
Purchases Journal Date Jan. 5 5 16 16 16 27 27 27
Account Credited K. Zapfel J. Liotta L. Quinn O. Kitson K. Zapfel L. Quinn J. Liotta K. Zapfel
Terms
Ref. � � � � � � � �
S1 Accounts Receivable Dr. Sales Revenue Cr. 3,600 1,800 1,900 900 3,700 800 3,500 6,100 22,300 (112)(401)
P1 Purchases Dr. Accounts Payable Cr. 3,000 2,400 15,000 13,900 1,500 12,500 1,200 2,800 52,300 (510)(201)
ACRI (Continued) Cash Receipts Journal Date Jan. 7 7 10 13 13 20 21 31
Account Credited
Ref.
L. Longhini M. Hall
� �
4,000 2,000 15,500 3,600 1,560 17,750 900 22,920 68,230 (101)
� �
W. Rayms M. Fischer
�
L. Longhini
Accounts Receivable Cr.
Cash Dr.
CR1 Sales Rev. Cr.
4,000 2,000 15,500 3,600 1,560 17,750 900 12,060 (112)
22,920 56,170 (401)
Cash Payments Journal Date Jan. 8 9 9 12 15 17 23 23 28 31
Ref.
Other Accounts Dr.
Freight-In O. Kitson L. Quinn Rent Expense Cash Dividends
516
180
L. Quinn O. Kitson
� �
Account Debited
Salaries and Wages Expense
� �
729 332
627
Other Accounts Cr.
Accounts Payable Dr.
CP1 Supplies Dr.
200
180 9,000 11,000 1,000 650 400 15,000 13,700 200
600 (125)
7,400 58,530 (101)
9,000 11,000 1,000 650 400 15,000 13,700
7,400 9,230 (X)
48,700 (201)
Cash Cr.
ACRI (Continued) (a) & (e) General Journal Date Jan. 9
18
21
Account Titles and Explanations Sales Returns and Allowances.................................. Accounts Receivable— M. Fischer........................... (Issued credit for merchandise returned) Accounts Payable—O. Kitson ....... Purchase Returns and Allowances......................... (Received credit for returned goods) Accounts Payable— D. Markoff.................................... Notes Payable ........................ (Issued note for balance due)
G1 Ref.
Debit
412
240
112/�
201/�
Credit
240
200 200
512
201/� 200
15,000
Supplies Expense........................... Supplies .................................
728 125
1,020
Insurance Expense (1/10 x $2,000) ............................. Prepaid Insurance..................
722 130
200
711
125
15,000
Adjusting Entries 31 31
31
31
Depreciation Expense (1/12 x $1,500) ............................. Accumulated Depreciation— Equipment .......................... Interest Expense............................. Interest Payable .....................
1,020
200
158 718 230
125 30 30
ACRI (Continued)
Date Jan. 31
31
31 31
General Journal Account Titles and Explanations Inventory (Jan. 31) ......................... Sales Revenue ............................... Purchase Returns and Allowances................................. Income Summary ..................
Ref. 120 401
Debit 12,600 78,470
512 350
200
Income Summary........................... Inventory (Jan. 1) ............................... Sales Returns and Allowances ........................ Purchases ............................. Freight In ............................... Rent Expense ........................ Salaries and Wages Expense ............................. Supplies Expense ................. Insurance Expense ............... Depreciation Expense .......... Interest Expense ...................
350
82,495
Income Summary........................... Retained Earnings ................
350 320
8,775
Retained Earnings ......................... Cash Dividends.....................
320 332
650
(b) & (e) Cash Date Jan. 1 31 31
G1 Credit
91,270
120
20,000
412 510 516 729
240 52,300 180 1,000
627 728 722 711 718
7,400 1,020 200 125 30 8,775 650
General Ledger
Explanation Balance
Ref. � CR1 CP1
Debit
Credit
68,230 58,530
No. 101 Balance 32,750 100,980 42,450
ACRI (Continued) Accounts Receivable Date Jan. 1 31 31 9
Explanation Balance
No. 112 Ref. � S1 CR1 G1
Debit
Credit
22,300 12,060 240
Notes Receivable Date Jan. 1
Explanation Balance
No. 115 Ref. �
Debit
Credit
Inventory Date Jan. 1 31 31
Explanation Balance
Ref. � G1 G1
Debit
Credit
12,600 20,000
Explanation Balance
Ref. � CP1 G1
Debit
Credit
600 1,020
Explanation Balance
Balance 1,000 1,600 580
No. 130 Ref. � G1
Debit
Credit 200
Equipment Date Jan. 1
Balance 20,000 32,600 12,600 No. 125
Prepaid Insurance Date Jan. 1 31
Balance 42,000
No. 120
Supplies Date Jan. 1 31 31
Balance 13,000 35,300 23,240 23,000
Balance 2,000 1,800
No. 157 Explanation
Ref. �
Debit
Credit
Balance 6,450
ACRI (Continued) Accumulated Depreciation—Equipment Date Explanation Ref. Jan. 1 Balance � 31 G1 Notes Payable Date Explanation Jan. 21 Balance Accounts Payable Date Explanation Jan. 1 Balance 31 31 18 21 Interest Payable Date Explanation Jan. 31 Common Stock Date Explanation Jan. 1 Retained Earnings Date Explanation Jan. 1 Balance 31 31 Cash Dividends Date Explanation Jan. 15 31
Ref. G1
Ref. � P1 CP1 G1 G1
Ref. G1
Ref. �
Ref. � G1 G1
Ref. CP1 G1
Debit
Debit
Debit
125
No. 158 Balance 1,500 1,625
Credit 15,000
No. 200 Balance 15,000
Credit
Credit 52,300
48,700 200 15,000
Debit
Debit
Debit
Credit 30
Credit
Credit 8,775
650
Debit 650
Credit 650
No. 201 Balance 35,000 87,300 38,600 38,400 23,400 No. 230 Balance 30 No. 311 Balance 70,000 No. 320 Balance 10,700 19,475 18,825 No. 332 Balance 650 0
ACRI (Continued) Income Summary Date Explanation Jan. 31 31 31
Ref. G1 G1 G1
Debit
Credit 91,270
82,495 8,775
Sales Revenue Date Jan. 31 31 31
Explanation
Sales Returns and Allowances Date Explanation Jan. 9 31
No. 401 Ref. S1 CR1 G1
Ref. G1 G1
Debit
Credit 22,300 56,170
78,470
Debit 240
Credit 240
Purchases Date Jan. 31 31
No. 350 Balance 91,270 8,775 0
Balance 22,300 78,470 0 No. 412 Balance 240 0 No. 510
Explanation
Purchase Returns and Allowances Date Explanation Jan. 18 31 Freight-In Date Explanation Jan. 8 31
Ref. P1 G1
Ref. G1 G1
Ref. CP1 G1
Debit 52,300
Credit 52,300
Debit
Credit 200
No. 512 Balance 200 0
Credit
No. 516 Balance 180 0
200
Debit 180
Balance 52,300 0
180
ACRI (Continued) Salaries and Wages Expense Date Jan. 31 31
Explanation
No. 627 Ref. CP1 G1
Debit 7,400
Credit 7,400
Depreciation Expense Date Jan. 31 31
Explanation
No. 711 Ref. G1 G1
Debit 125
Credit 125
Interest Expense Date Jan. 31 31
Explanation
Explanation
Ref. G1 G1
Debit 30
Credit 30
Explanation
Rent Expense Date Explanation Jan. 12 31
Balance 30 0
No. 722 Ref. G1 G1
Debit 200
Credit 200
Supplies Expense Date Jan. 31 31
Balance 125 0
No. 718
Insurance Expense Date Jan. 31 31
Balance 7,400 0
Balance 200 0
No. 728 Ref. G1 G1
Ref. CP1 G1
Debit 1,020
Credit 1,020
Debit 1,000
Credit 1,000
Balance 1,020 0
No. 729 Balance 1,000 0
ACRI (Continued) Accounts Receivable Subsidiary Ledger G. Dukes Date Jan. 1 11 22
Explanation Balance
Ref. � S1 S1
Debit
Ref. S1 G1 CR1 S1
Debit 1,800
Ref. � CR1 S1
Debit
Ref. � CR1 S1 CR1
Debit
Ref. S1 CR1 S1
Debit 3,600
Credit
Balance 1,800 3,700 4,500
Credit
Balance 1,800 1,560 0 6,100
1,900 800
M. Fischer Date Jan. 3 9 13 25
M. Hall Date Jan. 1 7 25
Explanation
Explanation Balance
240 1,560 6,100
Credit 2,000
3,500
Balance 7,200 5,200 8,700
L. Longhini Date Jan. 1 7 11 21
Explanation Balance
Credit 4,000
900 900
Balance 4,000 0 900 0
W. Rayms Date Jan. 3 13 22
Explanation
Credit 3,600
3,700
Balance 3,600 0 3,700
ACRI (Continued) Accounts Payable Subsidiary Ledger J. Liotta Date Jan. 5 27
Explanation
Ref. P1 P1
Debit
Credit 2,400 1,200
Balance 2,400 3,600
Explanation Balance
Ref. � CP1 P1 G1 CP1
Debit
Credit
Balance 9,000 0 13,900 13,700 0
O. Kitson Date Jan. 1 9 16 18 23
9,000 13,900 200 13,700
D. Markoff Date Jan.
1 21
Explanation Balance
Ref. � G1
Debit
Credit
Balance 15,000 0
Credit
12,500
Balance 11,000 0 15,000 0 12,500
Credit 3,000 1,500 2,800
Balance 3,000 4,500 7,300
15,000
L. Quinn Date Jan. 1 9 16 23 27 K. Zapfel Date Jan. 5 16 27
Explanation Balance
Explanation
Ref. � CP1 P1 CP1 P1
Ref. P1 P1 P1
Debit 11,000
15,000 15,000
Debit
I-52
(c)
ZWEIFEL COMPANY Worksheet For the Month Ended January 31, 2025
Copyright © 2022 Wiley. Kimmel, Accounting, 8e Solutions Manual (For Instructor Use Only)
Trial Balance
Adjustments
Adjusted Trial Balance
Account Titles
Dr.
Dr.
Dr.
Cash Accounts Receivable Notes Receivable Inventory Supplies Prepaid Insurance Equipment Accum. Depreciation—Equipment Notes Payable Accounts Payable Interest Payable Common Stock Retained Earnings Cash Dividends Sales Revenue Sales Returns and Allowances Purchases Purchase Returns and Allowances Freight In Salaries and Wages Expense Rent Expense Totals Supplies Expense Insurance Expense Depreciation Expense Interest Expense Totals Net Income Totals
42,450 23,000 42,000 20,000 1,600 2,000 6,450
Cr.
Cr.
(1) 1,020 (2) 200 1,500 15,000 23,400
(3)
125
(4)
30
42,450 23,000 42,000 20,000 580 1,800 6,450
Cr.
20,000
12,600
650 78,470
78,470
240 52,300
240 52,300 200
180 7,400 1,000 199,270
Dr.
1,625 15,000 23,400 30 70,000 10,700
70,000 10,700 650
Cr.
Income Statement
78,470 240 52,300
200
200
180 7,400 1,000
180 7,400 1,000
1,020 200 125 30 199,425
1,020 200 125 30
199,270 (1) 1,020 (2) 200 (3) 125 (4) 30 1,375
1,375
199,425 82,495 8,775 91,270
91,270 91,270
ACRI (Continued) (d)
ZWEIFEL CO. Income Statement For the Month Ended January 31, 2025 Sales Sales revenue................................. Less: Sales returns and allowances ...................... Net sales......................................... Cost of goods sold Inventory, 1/1/25............................. Purchases ...................................... Less: Purchase returns and allowances .......................... Net purchases ................................ Add: Freight in ............................... Cost of goods available for sale.............................................. Less: Inventory, 1/31/25 ...................................... Cost of goods sold .................. Gross profit on sales ..................... Operating expenses Salaries and wages expense......... Rent expense ................................. Supplies expense .......................... Insurance expense ........................ Depreciation expense.................... Total oper. expenses ............... Income from operations ...................... Other expenses and losses Interest expense ............................ Net income ........................................... $ 8,775
$78,470 240 78,230 $20,000 $52,300 200 52,100 180
52,280 72,280 12,600 59,680 18,550
7,400 1,000 1,020 200 125 9,745 8,805 30
ACRI (Continued) ZWEIFEL CO. Statement Retained Earnings For the Month Ended January 31, 2025 Retained earnings, January 1, 2025 ...................................... Add: Net income ................................................................... Less: Dividends ..................................................................... Retained earnings, January 31, 2025 ....................................
$ 10,700 8,775 19,475 650 $18,825
ZWEIFEL CO. Balance Sheet January 31, 2025 Assets Current assets Cash ............................................................ Accounts receivable .................................. Notes receivable......................................... Inventory..................................................... Supplies ...................................................... Prepaid insurance ...................................... Total current assets ...........................
$42,450 23,000 42,000 12,600 580 1,800
Property, plant, and equipment Equipment .................................................. Less: Accumulated depreciation ............. Total assets.........................................
6,450 1,625
$122,430
4,825 $127,255
Liabilities and Stockholders’ Equity Current liabilities Notes payable............................................. Accounts payable ...................................... Interest payable.......................................... Total liabilities..................................... Stockholders’ equity Common stock ........................................... Retained earnings ...................................... Total stockholders’ equity ................. Total liabilities and stockholders’ equity...............................................
$15,000 23,400 30 $ 38,430 70,000 18,825 88,825 $127,255
ACRI (Continued) (f)
ZWEIFEL CO. Post-Closing Trial Balance January 31, 2025 Cash................................................................ Accounts Receivable..................................... Notes Receivable ........................................... Inventory ........................................................ Supplies.......................................................... Prepaid Insurance.......................................... Equipment ...................................................... Accumulated Depreciation—Equipment...... Notes Payable ................................................ Accounts Payable.......................................... Interest Payable ............................................. Common Stock .............................................. Retained Earnings .........................................
Debit $ 42,450 23,000 42,000 12,600 580 1,800 6,450 $
$128,880
Accounts Receivable balance.............................. Subsidiary account balances G. Dukes ........................................................ M. Fischer ...................................................... M. Hall ............................................................ W. Rayms .......................................................
Credit
1,625 15,000 23,400 30 70,000 18,825 $128,880
$23,000 $ 4,500 6,100 8,700 3,700 $23,000
Accounts Payable balance................................... Subsidiary account balances J. Liotta .......................................................... L. Quinn ......................................................... K. Zapfel .........................................................
$23,400 $ 3,600 12,500 7,300 $23,400
LO 1, 2 BT: AP Difficulty: Hard TOT: 120 min. AACSB: Analytic AICPA AC: Reporting IMA: Reporting & Control: Financial Recordkeeping
Appendix J Accounting for Partnerships Learning Objectives 1. 2. 3. 4.
Discuss and account for the formation of a partnership. Explain how to account for net income or net loss of a partnership. Explain how to account for the liquidation of a partnership. Prepare journal entries when a new partner is either admitted or withdraws.
ANSWERS TO QUESTIONS 1.
(a) Association of individuals. A partnership is a voluntary association of two or more individuals based on as simple an act as a handshake. Preferably, however, the agreement should be in writing. A partnership is both a legal entity and an accounting entity, but it is not a taxable entity. (b) Limited life. A partnership does not have unlimited life. A partnership may be ended voluntarily or involuntarily. Thus, the life of a partnership is indefinite. Any change in the members of a partnership results in the dissolution of the partnership. (c) Co-ownership of property. Partnership assets are co-owned by all the partners. If the partnership is terminated, the assets do not legally revert to the original contributor. Each partner has a claim on total assets equal to his or her capital balance. This claim does not attach to specific assets the individual partner contributed to the firm.
LO1 BT: C Difficulty: Easy TOT: 6 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA BC: Governance Perspective
2.
(a) Mutual agency. This characteristic means that the act of any partner is binding on all other partners when engaging in partnership business. This is true even when the partners act beyond the scope of their authority, so long as the act appears to be appropriate for the partnership. (b) Unlimited liability. Each partner is personally and individually liable for all partnership liabilities. Creditors’ claims attach first to partnership assets and then to personal resources of any partner, irrespective of that partner’s equity in the partnership.
LO1 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation AICPA BC: Governance Perspective
3.
The advantages of a partnership are: (1) combining skills and resources of two or more individuals, (2) ease of formation, (3) freedom from governmental regulations and restrictions, and (4) ease of decision making. Disadvantages are: (1) mutual agency, (2) limited life, and (3) unlimited liability.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
4.
A limited partnership is used when a general partner(s) wish to raise cash without involving outside investors in management of the business. Limited partners in this case have limited personal liability for business debts as long as they don’t participate in management.
LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
5.
Newland capital account balance should be $97,000, comprised of land $60,000, and equipment $57,000, less debt $20,000.
($60,000 + $57,000 - $20,000 = $97,000) (Land + Equip. – Debt = Cap. acct. bal.) LO1 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
6.
When the partnership agreement does not specify the division of net income or net loss, net income and net loss should be divided equally.
LO2 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
J-2
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
Questions Appendix J (Continued) 7.
Factors to be considered in determining how income and loss should be divided are: (1) a fixed ratio is easy to apply and it may be an equitable basis in some circumstances; (2) capital balance ratios, when the funds invested in the partnership are considered the most critical factor; and (3) salary allowance and/or interest allowance coupled with a fixed ratio. This last approach gives specific recognition to differences that may exist among partners by providing salary allowances for time worked and interest allowances for capital invested.
LO2 BT: C Difficulty: Easy TOT: 5 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
8.
The net income of $42,000 should be divided equally—$21,000 to M. Elston and $21,000 to R. Ogle
($21,000 + $21,000 = $42,000) (50% x Net inc to Elston + 50% x Net inc. to Ogle = Tot. net inc.) LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
9.
(a) Account debited: Income Summary; accounts credited: S. Pletcher, Capital and F. Holt, Capital. (b) Account debited: S. Pletcher, Drawings; account credited: Cash.
LO2 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
10.
Division of Net Income
Salary Allowance ......................................... Deficiency: ($15,000) ($40,000 – $55,000) T. Greer (60% x $15,000) ................. R. Parks (40% x $15,000)................... Total division ...........................
T. Greer
R. Parks
Total
$30,000
$25,000
$55,000
(6,000) $19,000
(9,000) (6,000) $40,000
(9,000) $21,000
[($30,000 – (($55,000 - $40,000) x 60%)) + ($25,000 - (($55,000 - $40,000) x 40%)) = $40,000] [(Greer: Sal. allow. – Deficiency) + (Parks: Sal. allow. – Deficiency) = Tot. net inc.] LO2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
11. The financial statements of a partnership are similar to those of a corporation. The differences are due to the number of owners (partners versus stockholders) involved. The exceptions include: (1) The partnership shows the division of net income on the income statement, (2) The partnership uses a Partners’ Capital Statement showing changes in each partner’s capital account instead of a Retained Earnings Statement, and (3) The partnership shows each partner’s capital account in the equity section of the balance sheet instead of common stock and retained earnings. LO2 BT: C Difficulty: Easy TOT: 4 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
12. Liquidation of a partnership ends both the legal and economic life of the entity. Partnership dissolution occurs whenever a partner withdraws or a new partner is admitted. Dissolution does not necessarily mean that the business ends. If the continuing partners agree, operations can continue without interruption by forming a new partnership. LO3, 4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
13.
No, Roger is not correct. All gains and losses on liquidation should be allocated to the partners on the basis of their income ratio. However, final cash distributions should be based on their capital balances.
LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
Questions Appendix J (Continued) 14. Yes, Mike is correct. Capital balances are used because they represent the individual partner’s equity in the partnership. The objective of the distribution is to eliminate the balance in each partner’s capital account. LO3 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
15. Total cash after paying liabilities .............................................................................. Total capital balances ($34,000 + $31,000 + $28,000) ............................................ Excess (gain on sale of noncash assets) ................................................................. Allocated to Madson ($10,000 x 3/10)......................................................................
$103,000 93,000 $ 10,000 $
Cash to Madson ($31,000 + $3,000)........................................................................
3,000
$ 34,000
[(($103,000 – ($34,000 + $31,000 + $28,000)) x 3/10) + $31,000 = $34,000] [((Tot. cash after paying liabl. – Sum of cap. bal.) x Madson’s inc. ratio) + Madson’s cap. bal. = Cash to Madson] LO3 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
16.
Capital deficiency, M. Luthi ......................................................................................
$
4,000
Loss allocated to: L. Seastrom, capital ($4,000 x 3/8).............................................
$
1,500
Cash to L. Seastrom ($12,000 – $1,500) .................................................................
$
10,500
[$12,000 – ($4,000 x 3/8) = $10,500] [Seastrom cap. bal. – (Luthi cap. deficiency x Seastrom inc. ratio) = Cash to Seastrom] LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
17. A partnership is an association of two or more persons to carry on as co-owners of a business for profit. Apple is a corporation since its has thousands of owners (called stockholders). LO1 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
18.
This transaction represents the purchase of an existing partner’s interest. It is a personal transaction that has no effect on partnership net assets.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
19.
Partnership net assets increase $25,000. No, Jerry Park does not necessarily acquire a 1/6 income ratio. Unless stated otherwise, net income or net loss is divided evenly among all partners.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: None AICPA FC: Measurement Analysis and Interpretation
20.
Jamar, Capital ......................................................................................... Parsons, Capital...............................................................................
68,000 68,000
LO4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
J-4
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
Questions Appendix J (Continued) 21.
Jaime Keller, Capital................................................................................ Sam Parmenter, Capital...................................................................
41,000 41,000
LO4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA FC: Measurement Analysis and Interpretation
22.
Pester’s share of the $4,000 bonus is computed as follows: Partnership assets ........................................................................... Capital credit, Riley .......................................................................... Bonus to retiring partner................................................................... Allocated to: Jaggard:$4,000 x 5/8 = ........................................................... Pester: $4,000 x 3/8 = ...........................................................
$85,000 81,000 4,000 $2,500 1,500 $
4,000 0
[($85,000 - $81,000 = $4,000); ($4,000 x 5/8 = $2,500); ($4,000 x 3/8 = $1,500)] [(Partnership assets – Riley cap. bal. = Bonus to Riley); (Riley’s bonus x Jaggard inc. sharing ratio = Riley bonus allocated to Jaggard); (Riley’s bonus x Pester inc. sharing ratio = Riley bonus allocated to Pester)] LO4 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
23.
Recording the revaluations violates the cost principle, which requires that assets be stated at original cost. It is also a departure from the going-concern assumption, which assumes the entity will continue indefinitely.
LO4 BT: C Difficulty: Easy TOT: 2 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
24.
When a partner dies, it is usually necessary to determine the partner’s equity at the date of death by: (1) determining the net income or loss for the year to date, (2) closing the books, and (3) preparing financial statements. The partnership agreement may also require an audit of the financial statements by independent auditors and a revaluation of assets by an appraisal firm.
LO4 BT: C Difficulty: Easy TOT: 3 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE J.1 Cash ............................................................................... Equipment...................................................................... Fred Nichols, Capital .............................................
10,000 4,000 14,000
LO1 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.2 Accounts Receivable .................................................... Less: Allowance for doubtful accounts ....................... Equipment......................................................................
$16,000 1,500
$14,500 11,000
Accumulated depreciation should not be shown because a new company cannot have any accumulated depreciation. LO1 BT: K Difficulty: Easy TOT: 3 min. AACSB: Analytic
AICPA AC: Reporting
BRIEF EXERCISE J.3 The division is: Rod $45,000 ($75,000 x 60%) and Dall $30,000 ($75,000 x 40%). The entry is: Income Summary ................................................... 75,000 Rod, Capital .................................................... 45,000 Dall, Capital..................................................... 30,000 LO2 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.4 Division of Net Income
Salary allowance....................... Remaining income, $20,000: ($45,000 – $25,000) P ($20,000 x 50%)............ F ($20,000 x 30%)............ W ($20,000 x 20%)............ Total remainder ....... Total division of net income....
Pitts $15,000
Filbert $ 5,000
Witten $ 5,000
Total $25,000
10,000 6,000 4,000 $25,000
$11,000
$9,000
20,000 $45,000
[$15,000 + (($45,000 - $25,000) x 50%) = $25,000; $5,000 + (($45,000 - $25,000) x 30%) = $11,000; $5,000 + (($45,000 - $25,000) x 20%) = $9,000] [Pitts: Sal. allow. + ((Net inc. – Sum of sal. allow.) x inc. sharing ratio) = Share of net inc.; Filbert: Sal. allow. + ((Net inc. – Sum of sal. allow.) x inc. sharing ratio) = Share of net inc.; Witten: Sal. allow. + ((Net inc. – Sum of sal. allow.) x inc. sharing ratio) = Share of net inc.] LO2 BT: AP Difficulty: Easy TOT: 5 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.5 Division of Net Income
Salary allowance ....................................... Interest allowance ..................................... Remaining deficiency, ($6,000): [$31,000 – ($25,000 + $12,000)] Nabb ($6,000 x 50%) .......................... Fry ($6,000 x 50%) ............................. Total remainder .......................... Total division of net income.....................
Nabb $15,000 7,000
Fry $10,000 5,000
Total $25,000 12,000
(3,000) (3,000) $19,000
$12,000
(6,000) $31,000
[Nabb: $15,000 + $7,000 + (($31,000 - $37,000) x 50%) = $19,000; Fry: $10,000 + $5,000 + (($31,000 - $37,000) x 50%) = $12,000] [Nabb: Sal. allow. + Int. allow. + ((Sum of Sal. allow. & Int. allow.) x Inc. sharing ratio) = Share of net inc.; Fry: Sal. allow. + Int. allow. + ((Sum of Sal. allow. & Int. allow.) x Inc. sharing ratio) = Share of net inc.] LO2 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.6 A, Capital........................................................................... B, Capital........................................................................... C, Capital........................................................................... Cash...........................................................................
8,000 9,000 4,000 21,000
LO3 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.7 Eubank, Capital ................................................................ Tovar, Capital ............................................................
11,000 11,000
LO4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.8 Cash .................................................................................. Irey, Capital (50% x $8,600*) ............................................ Pedigo, Capital (50% x $8,600) ........................................ Vernon, Capital (45% x $148,000) ............................
58,000 4,300 4,300 66,600
*[($40,000 + $50,000 + $58,000) X 45%] – $58,000 = $8,600. LO4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.9 Fernetti, Capital ................................................................ Lango, Capital ........................................................... Oslo, Capital..............................................................
20,000 10,000 10,000
LO4 BT: AP Difficulty: Easy TOT: 2 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE J.10 Fernetti, Capital ................................................................ Lango, Capital (50% x $4,000) ......................................... Oslo, Capital (50% x $4,000) ............................................ Cash...........................................................................
20,000 2,000 2,000 24,000
LO4 BT: AP Difficulty: Easy TOT: 3 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation J-8
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
SOLUTIONS TO EXERCISES EXERCISE J.1 1. 2. 3. 4. 5. 6. 7. 8. 9.
False. A partnership is an association of two or more persons to carry on as co-owners of a business for profit. False. Partnerships are fairly easy to form; they can be formed simply by a verbal agreement. False. A partnership is an entity for financial reporting purposes. False. The net income of a partnership is not taxed as a separate entity. True. True. False. When a partnership is dissolved, the assets do not revert to the original contributor. True. False. Mutual agency is a disadvantage of the partnership form of business.
LO1 BT: C Difficulty: Easy TOT: 8 min. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.2 (a) Cash............................................................................ Decker, Capital ...................................................
50,000
Land............................................................................ Buildings .................................................................... Rosen, Capital ...................................................
15,000 80,000
Cash........................................................................... Accounts Receivable................................................ Equipment ................................................................. Allowance for Doubtful Accounts .................... Toso, Capital .....................................................
9,000 32,000 39,000
50,000
95,000
3,000 77,000
(b) $50,000 + $95,000 + $77,000 = $222,000 LO1 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.3 Jan. 1
Cash ................................................................... Accounts Receivable ........................................ Equipment.......................................................... Allowance for Doubtful Accounts............. Suzy Vopat, Capital....................................
12,000 14,000 23,500 3,000 46,500
LO1 BT: AP Difficulty: Easy TOT: 4 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.4 (a) (1)
DIVISION OF NET INCOME
Salary allowance ............................... Interest allowance McGill ($50,000 x 10%)............... Smyth ($40,000 x 10%)............... Total interest ........................ Total salaries and interest ............... Remaining income, $6,000 ($50,000 – $44,000) McGill ($6,000 x 60%)................. Smyth ($6,000 x 40%)................. Total remainder.................... Total division of net income ............
McGill $22,000
Smyth $13,000
Total $35,000
5,000 4,000 27,000
17,000
9,000 44,000
3,600 2,400 $30,600
$19,400
6,000 $50,000
[McGill: ($22,000 + ($50,000 x 10%) + ($6,000 x 60%) = $30,600); (Smyth: $13,000 + ($40,000 x 10%) + ($6,000 x 40%) = $19,400)] [McGill: (Sal. allow. + Int. allow. + (Remain. inc. x inc. sharing ratio) = Share of net inc.; Smyth: (Sal. allow. + Int. allow. + (Remain. inc. x inc. sharing ratio) = Share of net inc.]
(2)
DIVISION OF NET INCOME
Salary allowance ............................... Interest allowance............................. Total salaries and interest ............... Remaining deficiency, ($8,000) ($36,000 – $44,000) McGill ($8,000 x 60%)................. Smyth ($8,000 x 40%)................. Total remainder.................... Total division of net income ............
McGill $22,000 5,000 27,000
Smyth $13,000 4,000 17,000
Total $35,000 9,000 44,000
(4,800) (3,200) $22,200
$13,800
(8,000) $36,000
EXERCISE J.4 (Continued) [McGill: ($22,000 + $5,000 – ($8,000 x 60%) = $22,200); Smyth: ($13,000 + $4,000 – ($8,000 x 40%) = $13.800)] [McGill: (Sal. allow. + Int. allow. - (Remain. Def. x inc. sharing ratio)) = Share of net inc.; Smyth: (Sal. allow. + Int. allow. - (Remain. Def. x inc. sharing ratio)) = Share of net inc.]
(b) (1)
(2)
Income Summary ............................................... McGill, Capital ............................................. Smyth, Capital .............................................
50,000
Income Summary ............................................... McGill, Capital ............................................. Smyth, Capital .............................................
36,000
30,600 19,400 22,200 13,800
LO2 BT: AP BT: Easy TOT: 12 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE J.5 (a) Income Summary...................................................... Coburn, Capital ($80,000 x 45%) ...................... Webb, Capital ($80,000 x 55%) .........................
80,000
(b) Income Summary...................................................... Coburn, Capital [$30,000 + ($25,000 x 45%)] ......................... Webb, Capital [$25,000 + ($25,000 x 55%)] .........................
80,000
(c) Income Summary....................................................... Coburn, Capital .................................................. Webb, Capital .....................................................
80,000
36,000 44,000
41,250 38,750 41,000 39,000
Coburn: [$40,000 + $6,000 – ($10,000 x 50%)] Webb: [$35,000 + $9,000 – ($10,000 x 50%)] [Coburn: ($40,000 + ($60,000 x 10%) – ($10,000 x 50%) = $41,000); Webb: ($35,000 + ($90,000 x 10%) – ($10,000 x 50%) = $39,000)] [Coburn: (Sal. allow. + Int. allow. – (Remain. def. x Inc. sharing ratio) = Share of net inc.); Webb: (Sal. allow. + Int. allow. – (Remain. def. x Inc. sharing ratio) = Share of net inc.)]
EXERCISE J.5 (Continued) (d) Coburn: $60,000 + $41,000 – $18,000 = $83,000 Webb: $90,000 + $39,000 – $24,000 = $105,000 [Coburn: ($60,000 + $41,000 - $18,000 = $83,000); Webb: ($90,000 + $39,000 - $24,000 = $105,000)] [Coburn: (Beg. cap. bal. + Share of net inc. – Draws. = End. cap. bal.); Webb: (Beg. cap. bal. + Share of net inc. – Draws. = End. cap. bal.)] LO2 BT: AP BT: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE J.6 (a)
NATIONAL CO. Partners’ Capital Statement For the Year Ended December 31, 2025
Capital, January 1................. Add: Net income.................. Less: Drawings .................... Capital, December 31 ............
N. Payne $20,000 20,000 40,000 8,000 $32,000
A. Dody $18,000 20,000 38,000 5,000 $33,000
Total $38,000 40,000 78,000 13,000 $65,000
[Payne: ($20,000 + $20,000 - $8,000 = $32,000); Dody: ($18,000 + $20,000 - $5,000 = $33,000)] [Payne: (Beg. cap. bal. + Net inc. – Draws. = End. cap. bal.); Dody: (Beg. cap. bal. + Net inc. – Draws. = End. cap. bal.)
(b)
NATIONAL CO. Partial Balance Sheet December 31, 2025 Owners’ equity N. Payne, Capital ............................................ A. Dody, Capital.............................................. Total owners’ equity ................................
LO2 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic
$32,000 33,000
AICPA AC: Reporting
$65,000
EXERCISE J.7 THE DOCTOR PARTNERSHIP Balance Sheet December 31, 2025 Assets Current Assets Cash ($30,000 + $7,000) .............................. Accounts Receivable .................................. Less: Allowance for Doubtful Accounts....... Supplies ....................................................... Total current assets................................
$37,000 $36,000 4,000 32,000 3,000
Property, Plant and Equipment Land.............................................................. Buildings...................................................... Equipment ($25,000 + $27,000)................... Total property, plant, and equipment....... Total assets ........................................................
$ 72,000 28,000 75,000 52,000 155,000 $227,000
Liabilities and Owners’ Equity Long-term Liabilities Mortgage Payable........................................ Owners’ Equity Terry, Capital ($30,000 + $25,000) .............. Nick, Capital ($28,000 + $75,000 – $20,000) Frank, Capital............................................... Total owners’ equity ............................... Total liabilities and owners’ equity ...................
$ 20,000 $55,000 83,000 69,000* 207,000 $227,000
*$7,000 + $36,000 + $3,000 + $27,000 – $4,000 [(($37,000 + ($36,000 - $4,000) + $3,000) + ($28,000 + $75,000 + ($25,000 + $27,000))) = ($20,000 + ($30,000 + $25,000) + ($28,000 + $75,000 - $20,000) + ($7,000 + $36,000 + $3,000 + $27,000 - $4,000))] [((Cash + (Accts. rec. – Allow. for dbtfl. accts.) + Supp.) + (Land + Bldgs. + Equip.)) = (Mort. pay. + (Terry, cap. + Nick, cap. + Frank, cap.))] LO2 BT: AP Difficulty: Easy TOT: 10 min. AACSB: Analytic AICPA AC: Reporting
EXERCISE J.8 SEDGWICK COMPANY Schedule of Cash Payments Item Cash Balances before liquidation $ 20,000 Sale of noncash assets and allocation of gain 105,000 New balances 125,000 Pay liabilities (55,000) New balances 70,000 Cash distribution (70,000) to partners Final balances $ 0
Noncash Floyd, DeWitt, + Assets =Liabilities + Capital + Capital $100,000 (100,000) 0 0 $
0
$55,000
55,000 (55,000) 0 $
0
$45,000
$20,000
3,000 48,000
2,000 22,000
48,000
22,000
(48,000) $ 0
(22,000) $ 0
[Floyd: ($45,000 + $3,000 - $48,000 = $0); DeWitt: ($20,000 + $2,000 - $22,000 = $0)] [Floyd: (Bal. before liquid. + (Gain on sale of noncash assets x Inc. sharing ratio) – Cash distrib. to partners = Final bal.); DeWitt: (Bal. before liquid. + (Gain on sale of noncash assets x Inc. sharing ratio) – Cash distrib. to partners = Final bal.)] LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
EXERCISE J.9 (a) Cash......................................................................... Noncash Assets .............................................. Gain on Realization .........................................
105,000
(b) Gain on Realization................................................. Floyd, Capital ($5,000 x 60%) ......................... DeWitt, Capital ($5,000 x 40%)........................
5,000
(c) Liabilities ................................................................. Cash .................................................................
55,000
(d) Floyd, Capital .......................................................... DeWitt, Capital ........................................................ Cash .................................................................
48,000 22,000
100,000 5,000
3,000 2,000
55,000
70,000
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation J-14
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
EXERCISE J.10 (a) (1) (2)
(b) (1)
(2)
Cash .................................................................... Pena, Capital...............................................
8,000
Vogel, Capital ..................................................... Utech, Capital ..................................................... Cash ............................................................
17,000 15,000
Vogel, Capital ($8,000 x 5/8) .............................. Utech, Capital ($8,000 x 3/8) .............................. Pena, Capital...............................................
5,000 3,000
Vogel, Capital ($17,000 – $5,000) ...................... Utech, Capital ($15,000 – $3,000) ...................... Cash ............................................................
12,000 12,000
8,000
32,000
8,000
24,000
LO3 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.11 (a) K. Kolmer, Capital ($34,000 x 50%)........................... D. Jernigan, Capital............................................
17,000
(b) C. Eidman, Capital ($26,000 x 50%) .......................... D. Jernigan, Capital............................................
13,000
(c) C. Ryno, Capital ($21,000 x 33 1/3%) ........................ D. Jernigan, Capital............................................
7,000
17,000 13,000
LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
7,000
EXERCISE J.12 (a) Cash........................................................................... S. Pagon, Capital (6/10 x $15,000) .................... T. Tabor, Capital (4/10 x $15,000) ..................... W. Wolford, Capital ........................................... Total capital of existing partnership...... Investment by new partner, Wolford ..... Total capital of new partnership ............
$160,000 90,000 $250,000
Wolford’s capital credit (30% x $250,000) ............................
$ 75,000
Investment by new partner, Wolford .... Wolford’s capital credit ......................... Bonus to old partners............................
$ 90,000 75,000 $ 15,000
90,000 9,000 6,000 75,000
[Wolford: (($160,000 + $90,000) x 30% = $75,000); Pagan: (($90,000 - $75,000) x 60% = $9,000); Tabor: (($90,000 - $75,000) x 40% = $6,000)] [Wolford: ((Tot. cap. exist. partnership + Invest. by Wolford) x Ownership int. % = Incr. to cap. acct.); Pagan: ((Invest. by Wolford – Incr. to Wolford cap. acct.) x Inc. sharing ratio = Incr. to cap. acct.); Tabor: ((Invest. by Wolford – Incr. to Wolford cap. acct.) x Inc. sharing ratio = Incr. to cap. acct.)]
(b) Cash........................................................................... S. Pagan, Capital (6/10 x $13,000)............................ T. Tabor, Capital (4/10 x $13,000)............................. W. Wolford, Capital ........................................... Total capital of existing partnership..... Investment by new partner, Wolford .... Total capital of new partnership ...........
$160,000 50,000 $210,000
Wolford’s capital credit (30% x $210,000) ..............................
$ 63,000
Investment by new partner, Wolford .... Wolford’s capital credit ......................... Bonus to new partner ............................
$ 50,000 63,000 $ 13,000
50,000 7,800 5,200 63,000
[Wolford: ($160,000 + $50,000) x 30% = $63,000); Pagan: (($63,000 - $50,000) x 60% = $7,800); Tabor: (($63,000 - $50,000) x 40% = $5,200)]
J-16
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
EXERCISE J.12 (Continued) [Wolford: ((Tot. cap. exist. partnership + Invest. by Wolford) x Ownership int. % = Incr. to cap. acct.); Pagon: ((Incr. to Wolford cap. acct. – Wolford invest.) x Inc. sharing ratio = Decr. to cap. acct.); Tabor: ((Incr. to Wolford cap. acct. – Wolford invest.) x Inc. sharing ratio = Decr. to cap. acct.)] LO4 BT: AP Difficulty: Easy TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.13 1.
2.
3.
C. Heganbart, Capital ................................................ N. Essex, Capital ................................................ C. Gilmore, Capital .............................................
30,000
C. Heganbart, Capital ................................................ C. Gilmore, Capital .............................................
30,000
C. Heganbart, Capital ................................................ N. Essex, Capital ................................................
30,000
15,000 15,000
30,000
30,000
LO4 BT: AP Difficulty: Easy TOT: 6 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.14 1.
N. Rice, Capital .......................................................... B. Higgins, Capital ..................................................... J. Mayo, Capital ......................................................... Cash .................................................................... Capital balance of withdrawing partner ................................................. Payment to withdrawing partner ........... Bonus to retiring partner........................
$60,000 64,000 $ 4,000
Allocation of bonus Higgins, Capital ($4,000 x 5/8) ................... $2,500 Mayo, Capital ($4,000 x 3/8)................. 1,500
$ 4,000
60,000 2,500 1,500 64,000
[Rice: (($60,000 - $64,000) = $4,000); Higgins: (($60,000 - $64,000) x 5/8 = $2,500); Mayo: (($60,000 - $64,000) x 3/8 = $1,500)] [Rice: ((Cap. bal. – Pmt. to Rice) = Bonus to Rice); Higgins: (Bonus to Rice x Inc. sharing ratio = Decr. in cap. acct.); Mayo: (Bonus to Rice x Inc. sharing ratio = Decr. in cap. acct.)]
EXERCISE J.14 (Continued) 2.
N. Rice, Capital.......................................................... B. Higgins, Capital............................................. J. Mayo, Capital ................................................. Cash ................................................................... Capital balance of withdrawing partner ................................................. Payment to withdrawing partner............ Bonus to remaining partners .................
$60,000 52,000 $ 8,000
Allocation of bonus Higgins, Capital ($8,000 x 5/8) ..................... $5,000 Mayo, Capital ($8,000 x 3/8) ................. 3,000
$ 8,000
60,000 5,000 3,000 52,000
[Rice: (($60,000 - $52,000) = $8,000); Higgins: (($60,000 - $52,000) x 5/8 = $5,000; Mayo: (($60,000 $52,000) x 3/8 = $3,000)] [Rice: ((Cap. bal. – Pmt. to Rice) = Bonus to remain. partners); Higgins: (Bonus to remain. partners x Inc. sharing ratio = Incr. in cap. acct.); Mayo: (Bonus to remain. partners x Inc. sharing ratio = Incr. in cap. acct.)] LO4 BT: AP Difficulty: Moderate TOT: 10 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
EXERCISE J.15 (a) Cash..................................................................... Garrett, Capital ($288,000a x 25%) .............. Foss, Capital ($16,000 x 50%)..................... Albertson, Capital ($16,000 x 30%) ............ Espinosa, Capital ($16,000 x 20%) ............. a
88,000 72,000 8,000 4,800 3,200
$100,000 + $60,000 + $40,000 + $88,000
[Garrett: ($100,000 + $60,000 + $40,000 + $88,000) x 25% = $72,000); Foss: ($88,000 - $72,000) x 50% =$8,000); Albertson: ($88,000 - $72,000) x 30% = $4,800; Espinosa: ($88,000 - $72,000) x 20% = $3,200)] [Garrett: (Beg. cap. acct. bal. of existing partners + Garrett invest.) x Ownership int. = Incr. in cap. acct.); Foss: (Garrett invest. – Garrett cap. acct. bal.) x Inc. sharing ratio = Incr. in cap. acct.); Albertson: (Garrett invest. – Garrett cap. acct. bal.) x Inc. sharing ratio = Incr. in cap. acct.); Espinosa: (Garrett invest. – Garrett cap. acct. bal.) x Inc. sharing ratio = Incr. in cap. acct.)]
J-18
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
EXERCISE J.15 (Continued) (b) Foss, Capital ........................................................ Albertson, Capital ($10,000 x 3/5) ....................... Espinosa, Capital ($10,000 x 2/5)........................ Cash ..............................................................
100,000 6,000 4,000 110,000
LO4 BT: AP Difficulty: Moderate TOT: 8 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS TO PROBLEMS PROBLEM J.1
(a) Jan. 1
1
(b) Jan. 1
1
Cash............................................................ Accounts Receivable................................. Inventory .................................................... Equipment .................................................. Allowance for Doubtful Accounts......................................... Notes Payable .................................... Accounts Payable .............................. Sorensen, Capital...............................
14,000 17,500 28,000 25,000
Cash............................................................ Accounts Receivable................................. Inventory .................................................... Equipment .................................................. Allowance for Doubtful Accounts......................................... Notes Payable .................................... Accounts Payable .............................. Lucas, Capital.....................................
12,000 26,000 20,000 15,000
Cash............................................................ Sorensen, Capital...............................
5,000
Cash............................................................ Lucas, Capital.....................................
19,000
4,500 18,000 22,000 40,000
4,000 15,000 31,000 23,000
5,000 19,000
PROBLEM J.1 (Continued) (c)
SOLU COMPANY Balance Sheet January 1, 2025 Assets Current assets Cash ($14,000 + $12,000 + $5,000 + $19,000) .... Accounts receivable ($17,500 + $26,000).................................... Less: Allowance for doubtful accounts ($4,500 + $4,000) .............................. Inventory ($28,000 + $20,000)..................... Total current assets ............................ Property, plant, and equipment Equipment ($25,000 + $15,000) .................. Total assets.........................................................
$ 50,000 $43,500 8,500
35,000 48,000 133,000 40,000 $173,000
Liabilities and Owners’ Equity Current liabilities Notes payable ($18,000 + $15,000)............. Accounts payable ($22,000 + $31,000) ...... Total current liabilities ........................ Owners’ equity Sorensen, capital ($40,000 + $5,000) ......... Lucas, capital ($23,000 + $19,000) ............. Total owners’ equity ............................ Total liabilities and owners’ equity....................
$ 33,000 53,000 86,000 $45,000 42,000 87,000 $173,000
[($50,000 + ($43,500 - $8,500) + $48,000 + $40,000) = (($33,000 + $53,000) + ($45,000 + $42,000))] [(Cash + (Accts. rec. – Allow. for dbftl. Accts.) + Inv. + Equip.) = ((Notes pay. + Accts. pay.) + (Sorensen, cap. + Lucas, cap.))] LO1, 2 BT: AP Difficulty: Easy TOT: 30 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM J.2
(a) (1)
(2)
Income Summary .................................................. A. Niensted, Capital ($30,000 x 60%)............ G. Bolen, Capital ($30,000 x 30%)................. K. Sayler, Capital ($30,000 x 10%) ................
30,000
Income Summary .................................................. A. Niensted, Capital ($15,000 + $5,000) ........ G. Bolen, Capital ($10,000 + $5,000)............. K. Sayler, Capital ($0 + $5,000) .....................
40,000
Net income ............................ Salary allowance Niensted ........................... Bolen ................................. Remainder ......................... To each partner ($15,000 x 1/3) ..................
18,000 9,000 3,000
20,000 15,000 5,000
$40,000 (15,000) (10,000) $15,000 $ 5,000
[Niensted: ($15,000 + (($40,000 - $15,000 - $10,000) x 1/3) = $20,000; Bolen: ($10,000 + (($40,000 $15,000 - $10,000) x 1/3) = $15,000); Sayler: ((($40,000 - $15,000 - $10,000) x 1/3) = $5,000)] [Niensted: (Sal. allow. + ((Net inc. – Sum of sal. allow.) x Remain. sharing fraction) = Incr. in cap. acct.); Bolen: (Sal. allow. + ((Net inc. – Sum of sal. allow.) x Remain. sharing fraction) = Incr. in cap. acct.); Sayler: (((Net inc. – Sum of sal. allow.) x Remain. sharing fraction) = Incr. in cap. acct.)]
(3) Income Summary ..................................................... 19,000 A. Niensted, Capital ($4,800 + $15,000 – $2,100) ...................... G. Bolen, Capital ($3,000 – $2,100)............... K. Sayler, Capital ($2,500 – $2,100) .............. Net income ............................ Interest allowance Niensted ($48,000 x 10%) . Bolen ($30,000 x 10%) ...... Sayler ($25,000 x 10%) ..... Balance.................................. Salary allowance Niensted ........................... Remainder .........................
$19,000 (4,800) (3,000) (2,500) 8,700 (15,000) $ (6,300)
17,700 900 400
PROBLEM J.2 (Continued) To each partner ($6,300 x 1/3) ....................
$ (2,100)
[Niensted: (($48,000 x 10%) + $15,000 – ($6,300 x 1/3) = $17,700); Bolen: (($30,000 x 10%) – ($6,300 x 1/3) = $900); Sayler: (($25,000 x 10%) – ($6,300 x 1/3) = $400)] [Niensted: (Int. allow. + Sal. allow. – (remain. def. x remain. sharing fraction) = Incr. in cap. acct.); Bolen: (Int. allow. – (remain. def. x remain. sharing fraction) = Incr. in cap. acct.); Sayler: (Int. allow. – (remain. def. x remain. sharing fraction) = Incr. in cap. acct.)]
(b)
DIVISION OF NET INCOME Art Niensted Salary allowance ....................... Interest allowance on capital A. Niensted ($48,000 x 10%) ................ G. Bolen ($30,000 x 10%) ................ K. Sayler ($25,000 x 10%) ................ Total interest ................ Total salaries and interest........ Remaining deficiency, ($6,300) A. Niensted ($6,300 x 1/3) .................... G. Bolen ($6,300 x 1/3) .................... K. Sayler ($6,300 x 1/3) .................... Total remainder ............ Total division of net income.....
Greg Bolen
Krista Sayler
$15,000
Total $15,000
4,800 $3,000 $2,500 19,800
3,000
2,500
10,300 25,300
(2,100) (2,100) (2,100) $17,700
$ 900
$ 400
(6,300) $19,000
PROBLEM J.2 (Continued) (c)
NBS COMPANY Partners’ Capital Statement For the Year Ended December 31, 2025
Capital, January 1 ............ Add: Net income............ Less: Drawings ............... Capital, December 31 ......
Art Niensted
Greg Bolen
Krista Sayler
Total
$48,000 17,700 65,700 23,000 $42,700
$30,000 900 30,900 14,000 $16,900
$25,000 400 25,400 10,000 $15,400
$103,000 19,000 122,000 47,000 $ 75,000
[Niensted: ($48,000 + $17,700 - $23,000 = $42,700); Bolen: ($30,000 + $900 - $14,000 = $16,900); Sayler: ($25,000 + $400 - $10,000 = $15,400)] [All partners: Beg. cap. bal. + Net inc. – Draws = End. cap. bal.] LO2 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM J.3
(a)
(1) Cash........................................................................... Allowance for Doubtful Accounts ........................... Accumulated Depreciation—Equipment................. Loss on Realization .................................................. Accounts Receivable ........................................ Inventory............................................................ Equipment ......................................................... Noncash assets (net) ................. Less: Sale proceeds................... Loss on sale of noncash assets......................................
51,000 1,000 5,500 23,000 25,000 34,500 21,000
$74,000 51,000 $23,000
(2) A. Jamison, Capital ($23,000 x 5/10)......................... S. Moyer, Capital ($23,000 x 3/10)............................. P. Roper, Capital ($23,000 x 2/10) ............................. Loss on Realization ...........................................
11,500 6,900 4,600
(3) Notes Payable ........................................................... Accounts Payable..................................................... Salaries and Wages Payable.................................... Cash ...................................................................
13,500 27,000 4,000
(4) Cash........................................................................... P. Roper, Capital ($4,600 – $3,000) ..................
1,600
(5) A. Jamison, Capital ($33,000 – $11,500).................. S. Moyer, Capital ($21,000 – $6,900) ........................ Cash ...................................................................
21,500 14,100
23,000
44,500
1,600
35,600
PROBLEM J.3 (Continued) (b) Bal. (1) (4) Bal.
(2) (5)
Cash 27,500 (3) 51,000 (5) 1,600 –0–
44,500 35,600
S. Moyer, Capital 6,900 Bal. 21,000 14,100 Bal. –0–
(2) (5)
A. Jamision, Capital 11,500 Bal. 33,000 21,500 –0–
Bal.
(2)
P. Roper, Capital 4,600 Bal. (4) Bal.
(c) (1) A. Jamison, Capital ($1,600 x 5/8) .................... S. Moyer, Capital ($1,600 x 3/8) ........................ P. Roper, Capital ........................................
1,000 600
(2) A. Jamison, Capital ($21,500 – $1,000) ............ S. Moyer, Capital ($14,100 – $600) ................... Cash ($35,600 – $1,600).............................
20,500 13,500
3,000 1,600 –0–
1,600
34,000
LO3 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
PROBLEM J.4
(a) (1)
(2)
(3)
J. Pinkston, Capital ............................................ J. Terrell, Capital.........................................
9,000
C. Lamar, Capital................................................ J. Terrell, Capital.........................................
16,000
Cash .................................................................... G. Donley, Capital (50% x $8,000).............. C. Lamar, Capital (40% x $8,000) ............... J. Pinkston, Capital (10% x $8,000) ........... J. Terrell, Capital.........................................
62,000
Total capital of existing partnership..................... Investment by Terrell......... Total capital of new partnership..................... Terrell’s capital credit ($180,000 x 30%) ............
9,000
16,000
4,000 3,200 800 54,000
$118,000 62,000 $180,000 $ 54,000
Investment by new partner, Terrell .............. $ 62,000 Terrell’s capital credit....... 54,000 Bonus to old partners ...... $ 8,000 [Terrell: (($118,000 + $62,000) x 30% = $54,000); Donley: (($62,000 - $54,000) x 50% = $4,000); Lamar: (($62,000 - $54,000) x 40% = $3,200); Pinkston: (($62,000 - $54,000) x 10% = $800] [Terrell: ((Tot. cap. of exist. partnership + Terrell invest.) x Ownership int. % = Incr. in cap. acct.); Donley: ((Terrell invest. – Terrell cap. acct. bal. x Inc. sharing % = Incr. in cap. acct.); Lamar: ((Terrell invest. – Terrell cap. acct. bal. x Inc. sharing % = Incr. in cap. acct.); Pinkston: ((Terrell invest. – Terrell cap. acct. bal. x Inc. sharing % = Incr. in cap. acct.)]
PROBLE J.4 (Continued) (4) Cash ................................................................... G. Donley, Capital ($6,000 x 50%) .................... C. Lamar, Capital ($6,000 x 40%)...................... J. Pinkston, Capital ($6,000 x 10%) .................. J. Terrell, Capital........................................ Total capital of existing partnership .................... Investment by Terrell........ Total capital of new partnership ....................
$160,000
Terrell’s capital credit ($160,000 X 30%) ..............
$48,000
Investment by new partner .............................. Terrell’s capital credit.......... Bonus to new partner ..........
$42,000 48,000 $ 6,000
42,000 3,000 2,400 600 48,000
$118,000 42,000
[Terrell: (($118,000 + $42,000) x 30% = $48,000); Donley: (($42,000 - $48,000) x 50% = $3,000); Lamar: (($42,000 - $48,000) x 40% = $2,400); Pinkston: (($42,000 - $48,000) x 10% = $600)] [Terrell: ((Tot. cap. of exist. partnership + Terrell invest.) x Ownership int. % = Incr. in cap. acct.); Donley: ((Terrell invest. – Terrell cap. acct. bal.) x Inc. sharing % = Decr. in cap. acct.); Lamar: ((Terrell invest. – Terrell cap. acct. bal.) x Inc. sharing % = Decr. in cap. acct.); Pinkston: ((Terrell invest. – Terrell cap. acct. bal.) x Inc. sharing % = Decr. in cap. acct.)]
(b) (1) Total capital after admission ($32,000 ÷ 20%) .............. Total capital before admission ...................................... Cash investment by Terrell............................................
$160,000 118,000 $ 42,000
(2) Decrease in Lamar’s equity ($48,000 – $32,000).............
$ 16,000
Lamar’s income ratio ..................................................... Bonus to new partner ($16,000 ÷ 40%) .........................
40% $ 40,000
LO4 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
J-28
Copyright © 2022 W ILEY
KIMMEL, Accounting 8e, Solutions Manual
(For Instructor Use Only)
PROBLEM J.5
(a) (1)
(2)
(3)
Posada, Capital ................................................... Trayer, Capital ............................................. Emig, Capital ...............................................
30,000
Posada, Capital ................................................... Emig, Capital ...............................................
30,000
Posada, Capital ................................................... Trayer, Capital ($4,000 x 5/8).............................. Emig, Capital ($4,000 x 3/8) ................................ Cash .............................................................
30,000 2,500 1,500
Posada’s capital balance .... Payment to Posada ............. Bonus to Posada .................
15,000 15,000
30,000
34,000
$30,000 34,000 $ 4,000
[Posada: ($30,000 - $34,000 = $4,000); Trayer: (($30,000 - $34,000) x 5/8 = $2,500); Emig: (($30,000 - $34,000) x 3/8 = $1,500)] [Posada: (Cap. acct. bal. – Pmt. to Posada = Bonus to Posada); Trayer: ((Posada cap. acct. bal. – Pmt. to Posada) x Inc. sharing % = Decr. in cap. acct.); Emig: ((Posada cap. acct. bal. – Pmt. to Posada) x Inc. sharing % = Decr. in cap. acct.)]
(4) Posada, Capital ................................................... Trayer, Capital ($8,000 x 5/8) ...................... Emig, Capital ($8,000 x 3/8) ........................ Cash ............................................................. Posada’s capital balance .... Payment to Posada ............. Bonus to old partners .........
30,000 5,000 3,000 22,000
$30,000 22,000 $ 8,000
[Posada: ($30,000 - $22,000 = $8,000); Trayer: (($30,000 - $22,000) x 5/8 = $5,000); Emig: (($30,000 - $22,000) x 3/8 = $3,000)] [Posada: (cap. acct. bal. – Pmt. to Posada = Bonus to old partners); Trayer: ((Posada cap. acct. bal. – Pmt. to Posada) x Inc. sharing fraction = Incr. in cap. acct.); Emig: ((Posada cap. acct. bal. – Pmt. to Posada) x Inc. sharing fraction = Incr. in cap. acct.)]
PROBLEM J.5 (Contiued) (b) (1) Emig’s capital after withdrawal ..................................... Emig’s capital before withdrawal .................................. Bonus to Emig................................................................ Emig’s income ratio with Trayer ................................... Total bonus ($3,600 ÷ 3/8) ......................................
$43,600 40,000 3,600 3/8 $ 9,600
(2) Posada’s capital balance ............................................... Total bonus to other partners........................................ Cash paid to Posada ..............................................
$30,000 (9,600) $20,400
LO 4 BT: AP Difficulty: Moderate TOT: 40 min. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation
APPENDIX K Accounting for Sole Proprietorships Learning Objectives 1. 2. 3. 4.
Identify the differences in equity accounts between a corporation and a sole proprietorship. Discuss the accounts that increase and decrease owner’s equity. Describe the differences between a retained earnings statement and an owner’s equity statement. Explain the process of closing the books for a sole proprietorship.
ANSWERS TO QUESTIONS 1.
The accounting equation for a sole proprietorship is Assets = Liabilities + Owner’s Equity (rather than Stockholders’ Equity).
LO 1 BT: K Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
2.
A corporation has two separate equity accounts – Common Stock and Retained Earnings. A sole proprietorship has a single equity account – Owner’s Capital.
LO 1 BT: K Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
3.
Owner’s equity is increased by revenues and investments by the owner and it is decreased by expenses and withdrawals (drawings) by the owner.
LO 2 BT: C Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
4.
It is correct that the company’s cash increased. However, investments of cash into the company by the owner are not revenue. Instead, they increase the Owner’s Capital account directly.
LO 2 BT: C Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
5.
An owner’s equity statement begins with the beginning balance in the owner’s capital account. Then it adds any investments made by the owner during that period as well as net income for the period. It then subtracts any withdrawals (drawings) by the owner during that period, as well as a net loss.
LO 3 BT: K Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Reporting
6.
Assuming that the company had net income, the entries to close the accounts would be: i. Debit each revenue account for its balance, and credit Income Summary for total revenues. ii. Debit Income Summary for total expenses, and credit each expense account for its balance. iii. Debit Income Summary and credit Owner’s Capital for the amount of net income. (The reverse is true for a loss). iv. Debit Owner’s Capital for the balance in the Owner’s Drawings account, and credit Owner’s Drawings for the same amount.
LO 4 BT: C Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE K.1 Assets + – NE
(a) (b) (c)
Liabilities NE NE NE
Owner’s Equity + – NE
LO 2 BT: C Difficulty: Easy TOT: 4 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE K.2 R NOE E
Received cash for services performed. Paid cash to purchase equipment. Paid employee salaries.
LO 2 BT: C Difficulty: Easy TOT: 2 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
BRIEF EXERCISE K.3
1. 2. 3. 4. 5. 6.
Accounts Payable Advertising Expense Service Revenue Accounts Receivable A. L. Brislin, Capital A. L. Brislin, Drawings
(a) Debit Effect Decrease Increase Decrease Increase Decrease Increase
(b) Credit Effect Increase Decrease Increase Decrease Increase Decrease
(c) Normal Balance Credit Debit Credit Debit Credit Debit
LO 2 BT: C Difficulty: Easy TOT: 5 mi. AACSB: Knowledge AICPA AC: Measurement Analysis and Interpretation
SOLUTIONS TO EXERCISES EXERCISE K.1 (a) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.
Owner invested $12,000 cash in the business. Purchased equipment for $5,000, paying $2,000 in cash and the balance of $3,000 on account. Paid $750 cash for supplies. Earned $6,300 in service revenue, receiving $2,600 cash and $3,700 on account. Paid $1,500 cash on accounts payable. Owner withdrew $2,000 cash for personal use. Paid $650 cash for rent. Collected $450 cash from customers on account. Paid salaries and wages of $2,900. Incurred $500 of utilities expense on account.
(b) Investment............................................................................... Service revenue ...................................................................... Drawings ................................................................................. Rent expense .......................................................................... Salaries and wages expense.................................................. Utilities expense ..................................................................... Increase in owner’s equity .....................................................
$12,000 6,300 (2,000) (650) (2,900) (500) $12,250
(c) Service revenue ...................................................................... Rent expense .......................................................................... Salaries and wages expense.................................................. Utilities expense ..................................................................... Net income ..............................................................................
$ 6,300 (650) (2,900) (500) $ 2,250
LO 2 BT: AP Difficulty: Moderate TOT: 15 mi. AACSB: Analysis AICPA AC: Measurement Analysis and Interpretation
EXERCISE K.2 KURT COOPER, ATTORNEY Owner’s Equity Statement For the Year Ended December 31, 2025 Kurt Cooper, Capital, January 1 ............................................ Add: Net income .................................................................. Less: Drawings...................................................................... Kurt Cooper, Capital, December 31 ......................................
$ 23,000 (a) 149,000 (b) 172,000 74,000 $ 98,000 (c)
Supporting Computations (a) Assets, January 1, 2025 Liabilities, January 1, 2025.................................................... Capital, January 1, 2025 ........................................................
$ 85,000 (62,000) $ 23,000
(b)
Legal service revenue ........................................................... Total expenses....................................................................... Net income .............................................................................
$360,000 (211,000) $149,000
(c)
Assets, December 31, 2025................................................... Liabilities, December 31, 2025 .............................................. Capital, December 31, 2025...................................................
$168,000 (70,000) $ 98,000
LO 3 BT: AP Difficulty: Moderate TOT: 10 mi. AACSB: Analytic AICPA AC: Reporting
EXERCISE KK.3 (a)
LORENZ COMPANY Income Statement For the Year Ended July 31, 2025 Revenues Service revenue........................................... Rent revenue ............................................... Total revenues ..................................... Expenses Salaries and wages expense ...................... Utilities expense.......................................... Depreciation expense ................................. Total expenses..................................... Net loss ...............................................................
$65,100 6,500 $71,600 55,700 14,900 4,000 74,600 ($ 3,000)
EXERCISE K.3 (Continued) LORENZ COMPANY Owner’s Equity Statement For the Year Ended July 31, 2025 J. D. Lorenz, Capital, August 1, 2024................ Less: Net loss ................................................... Drawings ................................................. J. D. Lorenz, Capital, July 31, 2025................... (b)
$45,200 $ 3,000 14,000
17,000 $28,200
LORENZ COMPANY Balance Sheet July 31, 2025 Assets Current assets Cash ............................................................... Accounts receivable ..................................... Total current assets............................... Property, plant, and equipment Equipment...................................................... Less: Accumulated depreciation ................ Total assets............................................
$14,940 8,780 $23,720 15,900 5,400
10,500 $34,220
Liabilities and Owner’s Equity Current liabilities Accounts payable.......................................... Unearned rent revenue ................................. Total current liabilities........................... Owner’s equity J. D. Lorenz, Capital ...................................... Total liabilities and owner’s equity.......
$ 4,220 1,800
LO 1 - 4 BT: AP Difficulty: Moderate TOT: 20 mi. AACSB: Analytic AICPA AC: Reporting
$ 6,020 28,200 $34,220
SOLUTIONS TO PROBLEMS PROBLEM K.1
(a)
SKYLINE FLYING SCHOOL Income Statement For the Month Ended May 31, 2025 Revenues Service revenue............................................ Expenses Gasoline expense......................................... Rent expense................................................ Advertising expense .................................... Insurance expense....................................... Maintenance and repairs expense .............. Total expenses...................................... Net income ...........................................................
$8,600 $2,500 1,200 500 400 400 5,000 $3,600
SKYLINE FLYING SCHOOL Owner’s Equity Statement For the Month Ended May 31, 2025 Steven Rumford Capital, May 1 .......................... Add: Investments .............................................. Net income ................................................
$ $45,000 3,600
Less: Drawings ................................................... Steven Rumford Capital, May 31 ........................
0
48,600 48,600 1,700 $46,900
SKYLINE FLYING SCHOOL Balance Sheet May 31, 2025 Assets Cash......................................................................................... Accounts receivable............................................................... Equipment ............................................................................... Total assets .....................................................................
$ 6,500 7,200 64,000 $77,700
PROBLEM K.1 (Continued) SKYLINE FLYING SCHOOL Balance Sheet (Continued) May 31, 2025 Liabilities and Owner’s Equity Liabilities Notes payable.................................................................. Accounts payable............................................................ Total liabilities.......................................................... Owner’s equity Steven Rumford, Capital................................................. Total liabilities and owner’s equity......................... (b)
$30,000 800 30,800 46,900 $77,700
SKYLINE FLYING SCHOOL Income Statement For the Month Ended May 31, 2025 Revenues Service revenue ($8,600 + $900)................. Expenses Gasoline expense ($2,500 + $3,300)........... Rent expense............................................... Advertising expense ................................... Insurance expense ...................................... Maintenance and repairs expense ............. Total expenses..................................... Net income ..........................................................
$9,500 $5,800 1,200 500 400 400 8,300 $1,200
SKYLINE FLYING SCHOOL Owner’s Equity Statement For the Month Ended May 31, 2025 Steven Rumford, Capital, May 1......................... Add: Investments.............................................. Net income ...............................................
$ $45,000 1,200
Less: Drawings .................................................. Steven Rumford, Capital, May 31....................... LO 1-4 BT: AP Difficulty: Moderate TOT: 25 mi. AACSB: Anallytic AICPA AC: Reporting
0
46,200 46,200 1,700 $44,500
PROBLEM K.2
(a)
WHITMORE COMPANY Income Statement For the Year Ended December 31, 2025 Revenues Service revenue............................................. Expenses Salaries and wages expense ........................ Advertising expense ..................................... Depreciation expense ................................... Insurance expense........................................ Supplies expense.......................................... Interest expense............................................ Total expenses....................................... Net income ............................................................
$79,000 $39,000 12,000 6,000 4,000 3,700 1,000 65,700 $13,300
WHITMORE COMPANY Owner’s Equity Statement For the Year Ended December 31, 2025 B. Whitmore, Capital, January 1 ............................................ Add: Net income ................................................................... Less: Drawings ...................................................................... B. Whitmore, Capital, December 31.......................................
$36,000 13,300 49,300 12,000 $37,300
PROBLEM K.2 (Continued) WHITMORE COMPANY Balance Sheet December 31, 2025 Assets Current assets Cash ............................................................... $20,800 Accounts receivable ..................................... 15,400 Supplies ......................................................... 2,300 Prepaid insurance ......................................... 4,800 Total current assets............................... Property, plant, and equipment Equipment...................................................... 44,000 Less: Accumulated depreciation ................ 18,000 Total assets............................................
$43,300 26,000 $69,300
Liabilities and Owner’s Equity Current liabilities Notes payable................................................ Accounts payable.......................................... Salaries and wages payable ......................... Interest payable ............................................. Total current liabilities........................... Long-term liabilities Notes payable................................................ Total liabilities........................................ Owner’s equity B. Whitmore, Capital ..................................... Total liabilities and owner’s equity.......
$10,000 8,000 3,000 1,000 $22,000 10,000 32,000 37,300 $69,300
PROBLEM K.2 (Continued) (b) Date Dec. 31 31
31 31
General Journal Account Titles and Explanation
Ref.
Debit
Service Revenue Income Summary
400 350
79,000
Income Summary Advertising Expense Supplies Expense Depreciation Expense Insurance Expense Salaries and Wages Expense Interest Expense
350 610 631 711 722 726 905
65,700
Income Summary B. Whitmore, Capital
350 301
13,300
B. Whitmore, Capital B. Whitmore, Drawings
301 306
12,000
J14 Credit 79,000 12,000 3,700 6,000 4,000 39,000 1,000
13,300 12,000
(c)
Date Jan. 1 Dec. 31 31
Explanation Balance Closing entry Closing entry
Whitmore, Capital Ref. Debit J14 J14 12,000
Credit 13,300
Whitmore, Drawings Date Dec. 31 31
Explanation Balance Closing entry
Ref. J14
Debit 12,000
No. 301 Balance 36,000 49,300 37,300 No. 306
Credit 12,000
Balance 12,000 0
PROBLEM K.2 (Continued)
Date Dec. 31 31 31
Explanation Closing entry Closing entry Closing entry
Income Summary Ref. Debit J14 J14 65,700 J14 13,300
Credit 79,000
Service Revenue Date Dec. 31 31
Date Dec. 31 31
Date Dec. 31 31
No. 400
Explanation Balance Closing entry
Ref. J14
Debit
Credit 79,000
79,000
Balance 79,000 0
Explanation Balance Closing entry
Advertising Expense Ref. Debit 12,000 J14
No. 610 Balance 12,000 0
Explanation Balance Closing entry
Supplies Expense Ref. Debit 3,700 J14
Credit 12,000
Credit 3,700
Depreciation Expense Date Dec. 31 31
Date Dec. 31 31
No. 350 Balance 79,000 13,300 0
Explanation Balance Closing entry
Ref. J14
Debit 6,000
Explanation Balance Closing entry
Insurance Expense Ref. Debit 4,000 J14
No. 631 Balance 3,700 0
No. 711 Credit 6,000
Credit 4,000
Balance 6,000 0
No. 722 Balance 4,000 0
PROBLEM K.2 (Continued) Salaries and Wages Expense Date Dec. 31 31
Date Dec. 31 31
(d)
Explanation Balance Closing entry
Ref. J14
Debit 39,000
Explanation Balance Closing entry
Interest Expense Ref. Debit 1,000 J14
No. 726 Credit 39,000
Balance 39,000 0
1,000
No. 905 Balance 1,000 0
Debit
Credit
Credit
WHITMORE COMPANY Post-Closing Trial Balance December 31, 2025
Cash .................................................................... Accounts Receivable ......................................... Supplies .............................................................. Prepaid Insurance .............................................. Equipment........................................................... Accumulated Depreciation—Equipment........... Notes Payable ..................................................... Accounts Payable............................................... Salaries and Wages Payable ............................. Interest Payable .................................................. B. Whitmore, Capital ..........................................
$20,800 15,400 2,300 4,800 44,000
$87,300
$18,000 20,000 8,000 3,000 1,000 37,300 $87,300
LO 1-4 BT: AP Difficulty: Moderate TOT: 25 mi. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
PROBLEM K.3
(a)
RICK POOL COMPANY Income Statement For the Year Ended December 31, 2025 Revenues Service revenue............................................. Expenses Salaries and wages expense ........................ Advertising expense ..................................... Supplies expense .......................................... Insurance expense ........................................ Depreciation expense ................................... Interest expense ............................................ Total expenses....................................... Net income ............................................................
$88,000 $42,000 12,000 5,700 5,000 4,000 500 69,200 $18,800
RICK POOL COMPANY Owner’s Equity Statement For the Year Ended December 31, 2025 Rick Pool Capital, January 1 .................................................. Add: Net income ................................................................... Less: Drawings ...................................................................... Rick Pool Capital, December 31.............................................
$25,000 18,800 43,800 10,000 $33,800
PROBLEM K.3 (Continued) RICK POOL COMPANY Balance Sheet December 31, 2025 Assets Current assets Cash ............................................................... $13,600 Accounts receivable ..................................... 15,400 Supplies ......................................................... 1,500 Prepaid insurance ......................................... 2,800 Total current assets .............................. Property, plant, and equipment Equipment ..................................................... 34,000 Less: Accumulated depreciation ................ 8,000 Total assets............................................
$33,300 26,000 $59,300
Liabilities and Owner’s Equity Current liabilities Notes payable – (Current portion) ............... Accounts payable ......................................... Salaries and wages payable......................... Interest payable............................................. Total current liabilities .......................... Long-term liabilities Notes payable................................................ Total liabilities........................................ Owner’s equity Rick Pool, Capital.......................................... Total liabilities and owner’s equity ......
$10,000 6,000 3,000 500 $19,500 6,000 25,500 33,800 $59,300
PROBLEM K.3 (Continued) (b) Date Dec. 31 31
31 31
General Journal Account Titles and Explanation
Ref.
Debit
Service Revenue Income Summary
400 350
88,000
Income Summary Advertising Expense Supplies Expense Depreciation Expense Insurance Expense Salaries and Wages Expense Interest Expense
350 610 631 711 722 726 905
69,200
Income Summary Rick Pool, Capital
350 301
18,800
Rick Pool, Capital Rick Pool, Drawings
301 306
10,000
J14 Credit 88,000 12,000 5,700 4,000 5,000 42,000 500
18,800 10,000
(c)
Date Jan. 1 Dec. 31 31
Explanation Balance Closing entry Closing entry
Rick Pool, Capital Ref. Debit J14 J14 10,000
Credit 18,800
Rick Pool, Drawings Date Dec. 31 31
Explanation Balance Closing entry
Ref. J14
Debit 10,000
No. 301 Balance 25,000 43,800 33,800 No. 306
Credit 10,000
Balance 10,000 0
PROBLEM K.3 (Continued)
Date Dec. 31 31 31
Explanation Closing entry Closing entry Closing entry
Income Summary Ref. Debit J14 J14 69,200 J14 18,800
Credit 88,000
Service Revenue Date Dec. 31 31
Date Dec. 31 31
Date Dec. 31 31
No. 400
Explanation Balance Closing entry
Ref. J14
Debit
Credit 88,000
88,000
Balance 88,000 0
Explanation Balance Closing entry
Advertising Expense Ref. Debit 12,000 J14
No. 610 Balance 12,000 0
Explanation Balance Closing entry
Supplies Expense Ref. Debit 5,700 J14
Credit 12,000
Credit 5,700
Depreciation Expense Date Dec. 31 31
Date Dec. 31 31
No. 350 Balance 88,000 18,800 0
Explanation Balance Closing entry
Ref. J14
Debit 4,000
Explanation Balance Closing entry
Insurance Expense Ref. Debit 5,000 J14
No. 631 Balance 5,700 0
No. 711 Credit 4,000
Credit 5,000
Balance 4,000 0
No. 722 Balance 5,000 0
PROBLEM K.3 (Continued) Salaries and Wages Expense Date Dec. 31 31
Date Dec. 31 31
(d)
Explanation Balance Closing entry
Ref. J14
Debit 42,000
Explanation Balance Closing entry
Interest Expense Ref. Debit 500 J14
No. 726 Credit 42,000
Balance 42,000 0
500
No. 905 Balance 500 0
Debit
Credit
Credit
RICK POOL COMPANY Post-Closing Trial Balance December 31, 2025
Cash..................................................................... Accounts Receivable.......................................... Supplies .............................................................. Prepaid Insurance............................................... Equipment ........................................................... Accumulated Depreciation—Equipment........... Notes Payable ..................................................... Accounts Payable............................................... Salaries and Wages Payable.............................. Interest Payable .................................................. Rick Pool, Capital ............................................... Totals
$13,600 15,400 1,500 2,800 34,000
$67,300
$ 8,000 16,000 6,000 3,000 500 33,800 $67,300
LO 1-4 BT: AP Difficulty: Moderate TOT: 25 mi. AACSB: Analytic AICPA AC: Measurement Analysis and Interpretation, Reporting
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