Acc Chapter-4 Adjustments, Financial Statements and the quality Earnings Answers.pdf

McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-1 Chapter 4 Adjustments, Financial Statements, and the Quality of Earnings ANSWERS TO QUESTIONS 4. A contra-asset is an account related to an asset that is an offset or reduction to the asset's balance. Accumulated Depreciation is a contra-account to the equipment and buildings accounts. 6. (a) Income statement: Revenues (and Gains) - Expenses (and Losses) = Net Income (b) Balance sheet: Assets = Liabilities + Stockholders' Equity (c) Statement of cash flows: Changes in cash for the period = Cash from Operations + Cash from Investing Activities + Cash from Financing Activities (d) Statement of stockholders' equity: Ending Stockholders' Equity = (Beginning Contributed Capital + Stock Issuances - Stock Repurchases) + (Beginning Retained Earnings + Net Income - Dividends Declared) 10. An unadjusted trial balance is prepared after all current transactions have been journalized and posted to the ledger. It does not include the effects of the adjusting entries. The basic purpose of an unadjusted trial balance is to check the equalities of the accounting model (particularly, Debits = Credits) and to provide the data in a form convenient for further processing in the accounting information processing cycle. In contrast, an adjusted trial balance is prepared after the effects of all of the adjusting entries have been applied to the corresponding (prior) unadjusted trial balance amounts. The basic purpose of an adjusted trial balance is to insure that accuracy has been attained in applying the effect of the adjusting entries. The adjusted trial balance provides a second check in the model equalities (primarily Debits = Credits). It also provides data in a form convenient for further processing. 12. (a) Permanent accounts -- balance sheet accounts; that is, the asset, liability, and stockholders? equity accounts (these are not closed at the end of each period). (b) Temporary accounts -- income statement accounts; that is, revenues, gains, expenses, and losses (these are closed at the end of each period). (c) Real accounts -- another name for permanent accounts. (d) Nominal accounts -- another name for temporary accounts. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-2 Solutions Manual ANSWERS TO MULTIPLE CHOICE 1. b 2. a 3. c 4. b 5. d 6. d 7. a 8. d 9. d 10. b McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-3 EXERCISES E4?4. Req. 1 Prepaid Insurance is a prepaid expense that needs to be adjusted each period for the amount used during the period. The amount of expense is computed as follows: $3,600 x 4/24 = $600 used Adjusting entry: Insurance expense (+E, ?SE)..................................... 600 Prepaid insurance (?A) .................................... 600 Req. 2 Shipping Supplies is a prepaid expense that needs to be adjusted at the end of the period for the amount of supplies used during the period. The amount is computed as follows: Beginning balance $ 9,000 Supplies purchased 60,000 Supplies on hand at end (20,000) Supplies used $49,000 Adjusting entry: Shipping supplies expense (+E, ?SE) ........................ 49,000 Shipping supplies (?A)..................................... 49,000 Req. 3 Prepaid Insurance Insurance Expense 9/1 3,600 AJE 600 AJE 600 End. 3,000 End. 600 Shipping Supplies Shipping Supplies Expense Beg. 9,000 Purch. 60,000 AJE 49,000 AJE 49,000 End. 20,000 End. 49,000 2011 Income statement: Insurance expense $600 Shipping supplies expense $49,000 Req. 4 2011 Balance sheet: Prepaid insurance $3,000 Shipping supplies $20,000 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-4 Solutions Manual E4?6. Req. 1 a. Prepaid expense b. Accrued expense c. Unearned revenue d. Accrued revenue e. Prepaid expense f. Prepaid expense g. Accrued revenue Req. 2 Computations a. Office supplies expense (+E, ?SE)............... 575 $350 + $500 Office supplies (?A) ............................ 575 - $275 = $575 used b. Wages expense (+E, ?SE) .......................... . 2,200 Given Wages payable (+L) ........................... 2,200 c. Unearned rent revenue (?L) ........................ . 3,200 $9,600 x 2/6 = Rent revenue (+R, +SE)..................... 3,200 $3,200 earned d. Rent receivable (+A)..................................... 960 $480 x 2 months Rent revenue (+R, +SE)..................... 960 = $960 earned e. Depreciation expense (+E, ?SE) ................. . 6,100 Given Accumulated depreciation (+XA, ?A) 6,100 f. Insurance expense (+E, ?SE)....................... 550 $2,200 x 6/24 = Prepaid insurance (?A)....................... 550 $550 used g. Repair accounts receivable (+A) .................. 800 Given Repair shop revenue (+R, +SE) ......... 800 E4?13. Req. 1 (a) Cash paid on accrued income taxes payable. (b) Accrual of additional income tax expense. (c) Cash paid on dividends payable. (d) Amount of dividends declared for the period. (e) Cash paid on accrued interest payable. (f) Accrual of additional interest expense. Req. 2 Computations: (a) McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-5 Beg. Bal. + accrued income taxes - cash paid = End. bal. $71 + 332 - ? = $80 ? = $323 paid (c) Beg. Bal. + dividends declared - cash paid = End. bal. $43 + 176 - ? = $48 ? = $171 paid (f) Beg. Bal. + accrued interest expense - cash paid = End. bal. $45 + ? - 297 = $51 ? = $303 accrued McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-6 Solutions Manual E4?14. Req. 1 Adjusting entries that were or should have been made at December 31: (a) Should have been made. Depreciation expense (+E, ?SE) ................................ 15,000 Accumulated depreciation (+XA, ?A) ???? 15,000 (b) Should have been made. Unearned revenue (?L) .............................................. 1,500 Fee revenue (+R, +SE).................................... 1,500 (c) Entry already made. Interest expense (+E, ?SE) ....................................... 1,710 Interest payable (+L) ....................................... 1,710 ($19,000 x 9% x 12/12 months) Should have been made. Interest expense (+E, ?SE) ........................................ 285 Interest payable (+L)........................................ 285 ($19,000 x 9% x 2/12 months) (d) Should have been made. Insurance expense (+E, ?SE)..................................... 650 Prepaid insurance (?A) .................................... 650 (e) Should have been made. Rent receivable (+A)................................................... 1,400 Rent revenue (+R, +SE) .................................. 1,400 Req. 2 Balance Sheet Income Statement Transaction Assets Liabilities Stockholders? Equity Revenues Expenses Net Income (a) O 15,000 NE O 15,000 NE U 15,000 O 15,000 (b) NE O 1,500 U 1,500 U 1,500 NE U 1,500 (c) NE O 1,425 U 1,425 NE O 1,425 U 1,425 (d) O 650 NE O 650 NE U 650 O 650 (e) U 1,400 NE U 1,400 U 1,400 NE U 1,400 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-7 E4?17. Req. 1 a. Salaries and wages expense (+E, ?SE) ................ 560 Salaries and wages payable (+L) ................... 560 b. Utilities expense (+E, ?SE).................................... 440 Utilities payable (+L)....................................... 440 c. Depreciation expense (+E, ?SE) ........................... 24,000 Accumulated depreciation (+XA, ?A).............. 24,000 d. Interest expense (+E, ?SE) ................................... 300 Interest payable (+L) ...................................... 300 ($15,000 x .08 x 3/12) e. No adjustment is needed because the revenue will not be earned until January (next year). f. Maintenance expense (+E, ?SE)........................... 1,100 Maintenance supplies (?A)............................. 1,100 g. Income tax expense (+E, ?SE).............................. 5,800 Income tax payable (+L)................................. 5,800 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-8 Solutions Manual E4?17. (continued) Req. 2 DEREK, INC. Income Statement For the Year Ended December 31, 2011 Operating Revenue: Rental revenue $109,000 Operating Expenses: Salaries and wages ($26,500 + $560) $27,060 Maintenance expense ($12,000 + $1,100) 13,100 Rent expense 8,800 Utilities expense ($4,300 + $440) 4,740 Gas and oil expense 3,000 Depreciation expense 24,000 Miscellaneous expenses 1,000 Total expenses 81,700 Operating Income 27,300 Other Item: Interest expense ($15,000 x 8% x 3/12) 300 Pretax income 27,000 Income tax expense 5,800 Net income $ 21,200 Earnings per share: $21,200 ÷ 8,000 shares $2.65 Req. 3 Net profit margin = Net income ÷ Net Sales = $21,200 ÷ $109,000 = 19.4% The net profit margin indicates that, for every $1 of rental revenues, Derek earns $0.194 (19.4%) in net income. This ratio is higher than the industry average net profit margin of 18%, implying that Derek is more profitable and better able to manage its business (in terms of sales price or costs) than the average company in the industry. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-9 PROBLEMS P4?1. Req. 1 Dell Inc. Adjusted Trial Balance At January 31, 2012 (in millions of dollars) Debit Credit Cash $ 520 Marketable securities 2,661 Accounts receivable 2,094 Inventories 273 Property, plant, and equipment 775 Accumulated depreciation $ 252 Other assets 806 Accounts payable 2,397 Accrued expenses payable 1,298 Long-term debt 512 Other liabilities 349 Contributed capital 1,781 Retained earnings (deficit) 844 Sales revenue 18,243 Cost of sales 14,137 Selling, general, and administrative expenses 1,788 Research and development expense 272 Other expenses 38 Income tax expense 624 Totals $ 24,832 $ 24,832 Req. 2 Since debits are supposed to equal credits in a trial balance, the balance in Retained Earnings is determined as the amount in the debit column necessary to make debits equal credits (a ?plugged? figure). McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-10 Solutions Manual P4?2. Req. 1 a. Unearned revenue e. Prepaid expense b. Accrued expense f. Prepaid expense c. Accrued revenue g. Unearned revenue d. Accrued expense h. Accrued expense Req. 2 a. Unearned rent revenue (?L)......................................... 4,800 Rent revenue (+R, +SE) .................................... 4,800 ($7,200 ÷ 6 months = $1,200 per month x 4 months) b. Wage expense (+E, ?SE) ............................................ 14,000 Wages payable (+L)........................................... 14,000 c. Accounts receivable (+A)............................................. 3,000 Service revenue (+R, +SE) ................................ 3,000 d. Interest expense (+E, ?SE) .......................................... 540 Interest payable (+L) ............................................ 540 ($18,000 x 12% x 3/12 = $540) e. Insurance expense (+E, ?SE)...................................... 1,167 Prepaid insurance (?A) ..................................... 1,167 ($7,000 ÷ 12 months = $583 per month x 2 months of coverage) f. Depreciation expense (+E, ?SE) .................................. 2,000 Accumulated depreciation, service truck (+XA, ?A) 2,000 g. Unearned service revenue (?L).................................... 500 Service revenue (+R, +SE).................................. 500 ($3,000 x 2/12) h. Property tax expense (+E, ?SE)................................... 500 Property tax payable (+L)..................................... 500 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-11 P4?6. Account 2010 Balance Financial Statement Effect on Cash Flows 1. Rent revenue $528,000 Income statement + $524,000 2. Salary expense 65,000 Income statement ? 67,500 3. Maintenance supplies expense 9,300 Income statement No effect 4. Rent receivable 16,000 Balance sheet No effect 5. Receivables from employees 1,500 Balance sheet ? 1,500 6. Maintenance supplies 1,700 Balance sheet ? 8,000 7. Unearned rent revenue 12,000 Balance sheet +12,000 8. Salaries payable 3,000 Balance sheet ? 4,000 (1) Rent Revenue (2) Salary Expense (3) Maintenance Supplies Expense 512,000 (a) (e) 62,000 Used 9,300 16,000 (b) (f) 3,000 528,000 65,000 9,300 (4) Rent Receivable (5) Receivables from Employees (6) Maintenance Supplies (b) 16,000 (g) 1,500 (h) 3,000 (i) 8,000 9,300 used 16,000 1,500 (j) 1,700 (7) Unearned Rent Revenue (8) Salaries Payable 12,000 (c) (d) 4,000 4,000 Bal. Inferred 3,000 (f) 12,000 3,000 Cash (a) from renters 512,000 4,000 (d) to employees (c) from renters 12,000 62,000 (e) to employees 1,500 (g) to employees 8,000 (i) to suppliers McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-12 Solutions Manual P4?8. Req. 1 December 31, 2011, Adjusting Entries: (a) Supplies expense (+E, ?SE) ...................................... 400 Supplies (?A) .................................................. 400 (b) Insurance expense (+E, ?SE) .................................... 400 Prepaid insurance (?A) ................................... 400 (c) Depreciation expense (+E, ?SE) ............................... 3,200 Accumulated depreciation, service trucks (+XA, ?A) .............................................. 3,200 (d) Wages expense (+E, ?SE) ......................................... 720 Wages payable (+L) ........................................ 720 (e) Income tax expense (+E, ?SE) .................................. 5,880 Income taxes payable (+L) ............................. 5,880 Req. 2 ST. DENIS, INC. Income Statement For the Year Ended December 31, 2011 Operating Revenue: Service revenue $61,600 Operating Expenses: Supplies expense ($640 - $240) 400 Insurance expense ($800 - $400) 400 Depreciation expense 3,200 Wages expense 720 Remaining expenses (not detailed) 33,360 Total expenses 38,080 Operating Income 23,520 Income tax expense 5,880 Net income $17,640 Earnings per share ($17,640 ÷ 5,000 shares) $3.53 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-13 P4?8. (continued) Req. 2 (continued) ST. DENIS, INC. Balance Sheet At December 31, 2011 Assets Liabilities and Stockholders? Equity Current Assets: Current Liabilities: Cash $48,000 Accounts payable $ 2,400 Accounts receivable 10,400 Wages payable 720 Supplies 240 Income taxes payable 5,880 Prepaid insurance 400 Total current liabilities 9,000 Total current assets 59,040 Note payable, long term 16,000 Service trucks 16,000 Total liabilities 25,000 Accumulated depreciation (12,800) Stockholders' Equity Other assets (not detailed) 8,960 Contributed capital 22,560 Retained earnings* 23,640 Total stockholders' equity 46,200 Total assets $71,200 Total liabilities and stockholders' equity $71,200 *Unadjusted balance, $6,000 + Net income, $17,640 = Ending balance, $23,640. Req. 3 December 31, 2011, Closing Entry: Service revenue (?R).................................................. 61,600 Retained earnings (+SE) ................................ 17,640 Supplies expense (?E) .................................... 400 Insurance expense (?E) .................................. 400 Depreciation expense (?E) ............................. 3,200 Wages expense (?E) ...................................... 720 Remaining expenses (not detailed) (?E).......... 33,360 Income tax expense (?E) ................................ 5,880 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-14 Solutions Manual CASES AND PROJECTS FINANCIAL REPORTING AND ANALYSIS CASES CRITICAL THINKING CASES CP4?9. Req. 1 2010 Adjusting Entries Debit Credit 12/31 (a) Supplies expense (+E, ?SE)??????? 4,200 Supplies (?A)????????????. 4,200 ($6,000 - $1,800 = $4,200) (b) Insurance expense (+E, ?SE)????????. 2,000 Prepaid insurance (?A)???????? 2,000 ($4,000 ÷ 2 years) (c) Depreciation expense (+E, ?SE)??????? 8,000 Accumulated depreciation (+XA, ?A)??. 8,000 (d) Salaries expense (+E, ?SE)?????????? 2,200 Salaries payable (+L)????????? 2,200 (e) Transportation revenue (?R, +SE) ??? 7,000 Unearned transportation revenue (+L)?? 7,000 Transportation revenue is too high and needs to be reduced and an Unearned revenue account created for the appropriate amount. (f) Income tax expense (+E, ?SE)???????... 3,650 Income tax payable (+L)???????? 3,650 To record 2010 income tax computation: Transportation revenue: $85,000 ? $7,000 = $78,000 Expenses: $47,000 + $4,200 + $2,000 + $8,000 + $2,200 = 63,400 Pretax income $14,600 Income tax expense: $14,600 x 25% = $ 3,650 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-15 CP4?9. (continued) Req. 2 MAGLIOCHETTI MOVING CORPORATION Corrections to 2010 Financial Statements Amounts Reported Changes Debit Credit Corrected Amounts 2010 Income Statement: Revenue: Transportation revenue $ 85,000 e 7,000 $ 78,000 Expenses: Salaries expense 17,000 d 2,200 19,200 Supplies expense 12,000 a 4,200 16,200 Other expenses 18,000 18,000 Insurance expense 0 b 2,000 2,000 Depreciation expense 0 c 8,000 8,000 Income tax expense 0 f 3,650 3,650 Total expenses 47,000 67,050 Net income $ 38,000 $ 10,950 December 31, 2010, Balance Sheet Assets: Current Assets: Cash $ 2,000 $ 2,000 Receivables 3,000 3,000 Supplies 6,000 a 4,200 1,800 Prepaid insurance 4,000 b 2,000 2,000 Total current assets 15,000 8,800 Equipment 40,000 40,000 Less: Accumulated deprec. 0 c 8,000 (8,000) Remaining assets 27,000 27,000 Total assets $82,000 $67,800 Liabilities: Current Liabilities: Accounts payable $ 9,000 $ 9,000 Salaries payable 0 d 2,200 2,200 Unearned transportation revenue 0 e 7,000 7,000 Income tax payable 0 f 3,650 3,650 Total current liabilities 9,000 21,850 Stockholders' Equity Contributed capital 35,000 35,000 Retained earnings 38,000 10,950 Total stockholders' equity 73,000 45,950 Total liabilities and stockholders' equity $82,000 $67,800 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 4-16 Solutions Manual CP4?9. (continued) Req. 3 Omission of the adjusting entries caused: (a) Net income to be overstated by $27,050. (b) Total assets to be overstated by $14,200. Req. 4 (a) Earnings per share: Unadjusted -- $38,000 net income ÷ 10,000 shares = $3.80 per share Adjusted -- $10,950 net income ÷ 10,000 shares = $1.095 per share (b) Net profit margin: Unadjusted -- $38,000 net income ÷ $85,000 sales = 44.7% Adjusted -- $10,950 net income ÷ $78,000 sales = 14.0% Each of the ratios was affected by inclusion of the adjustments with revenues decreasing and expenses increasing resulting in a lower net income. For earnings per share, the numerator net income decreased while the denominator did not, resulting in a significantly lower figure. For the net profit margin, the denominator sales was lower but did not decrease more than the reduction in the numerator net income causing a significantly lower percentage. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2009 Financial Accounting, 6/e 4-17 CP4?9. (continued) Req. 5 (today?s date) To the Stockholders of Magliochetti Moving Corporation: We regret to inform you that your request for a $20,000 loan has been denied. Our review showed that various adjustments were required to the original set of financial statements provided to us. The original (unadjusted) financial statements overstated net income for 2010 by $27,050 (i.e., $38,000 - $10,950). This overstatement was caused by incorrectly including $7,000 of revenue collected in advance that had not been earned in 2010. Further, all of the expenses were understated and income tax expense had been incorrectly excluded. Total assets were overstated by $14,200 (i.e., $82,000 - $67,800). Supplies was overstated by $4,200, prepaid insurance was overstated by $2,000, and the net book value of the equipment was overstated by $8,000 because annual depreciation was not properly recognized. A review of key financial ratios indicates that the adjustments caused earnings per share and net profit margin to decline. Net profit margin declined from 44.7% to 14.0%. The adjusted ratios, however, would be compared to those of other start-up companies in the same industry. We require that there be sufficient collateral pledged against the loan before we can consider it. The current market value of the equipment may be able to provide additional collateral against which the loan could be secured. Your personal investments may also be considered viable collateral if you are willing to sign an agreement pledging these assets as collateral for the loan. This is a common requirement for small start-up businesses. If you would like us to reconsider your application, please provide us the current market values of any assets you would pledge as collateral. Regards, (your name) Loan Application Department, Your Bank rl chapter 4 solutions version 1