ANSWERS TO QUESTIONS - CHAPTER 7

1. Accounts receivable are the expected future receipts when a company permits one of its customers to buy now and pay later. The amounts are usually small with a short term to maturity. Notes Receivable have longer terms to maturity and are usually for larger amounts. The note specifies the maturity date, interest rate, and other credit terms. The net realizable value is the amount expected to be collected from accounts receivable. It is the face amount of receivables less an allowance for uncollectible accounts. The going concern assumption is based upon the premise that since companies believe that they will continue to operate, they assume that they will be responsible for paying the full balance of their obligations. Accordingly, receivables are carried at net realizable value and payables at full value on the balance sheet. The allowance method is a method of accounting for bad debts where bad debts are estimated and expensed in the same period in which the corresponding sales are recognized. The receivables are reported at net realizable value in the financial statements. The direct write-off method is the practice of recognizing bad debt expense only when accounts are determined to be uncollectible. The most common format for reporting accounts receivable on the balance sheet is gross receivables less the allowance for doubtful accounts. This format allows the users to see both the total amount owed by the customers and the amount the company expects to collect. Estimating bad debts expense improves the accuracy of financial statements by (1) reporting expected realizable value of receivables (i.e., future cash flows) and (2) presenting a better matching of expenses with related revenues. This provides a better measure of managerial performance.

2.

3.

4.

5.

6.

7-1

7.

The practice of reestablishing a previously written off account, then recording its collection as a payment on account, reflects a complete record of account activity. Such a record provides an accurate picture of the source of cash flows and improves the customer’s credit history.

8.

Factors for use in estimating bad debts include: (1) the percentage of uncollectible accounts from years' past. (2) adjustment for new circumstances that are anticipated to be experienced in the future. (3) industry averages or experiences of similar businesses. (4) examination of current accounts and company credit policies. 9. Recognizing bad debts expense reduces accounts receivable on the asset side and reduces the retained earnings on the equity side.

10. A write-off of an uncollectible account when the allowance method is used has no effect on the accounting equation because the allowance account, a contra asset account, is reduced and the accounts receivable account, also on the asset side, is reduced. When the direct method is used, a write-off of an uncollectible account reduces assets (accounts receivable) and reduces retained earnings (increases bad debts expense). 11. The recovery of a bad debt when the allowance method is used does not affect the income statement. Only accounts receivable, cash, and allowance for doubtful accounts are affected. Cash flow from operations increases as a result of the collection. 12. The advantage of using the allowance method is that it improves the accuracy of the financial statements; the advantage of using the direct write-off method is that it is convenient to use.

7-2

13. The direct write-off method is not GAAP, but is allowed if the amount of uncollectible accounts is immaterial (i.e., insignificant). 14. It is generally beneficial to accept major credit cards because the business then avoids the risk of bad debts as well as the cost of maintaining credit records. It may also attract more customers. 15. The acceptance of major credit cards enables a business to avoid the cost of uncollectible accounts and the clerical costs of maintaining accounts receivable records. In addition, the business avoids the implicit cost of lost opportunities due to delayed cash flows. 16. Warranty - a promise to correct a deficiency or dissatisfaction in quality, quantity, or performance. 17. The recognition of warranty expense reduces the amount of retained earnings shown on the balance sheet and reduces net income on the income statement. It also increases the amount of liabilities on the balance sheet. 18. Warranty cost is shown on the statement of cash flows when the actual cost is incurred (i.e., paid). 19. At maturity, the amount due on an interest-bearing note is the face amount plus accrued interest. Discount notes have the interest included in the face value of the note. 20. The carrying value of a discount note is computed by subtracting the amount of unamortized interest held in the discount on notes payable account from the face value amount shown in the notes payable account. 21. The effective rate of interest is higher on the discounted note because the actual amount of interest paid is more than the amount of the discount rate applied to the amount of cash received at issue. The amount received when making discount notes is less than that of interest-bearing notes because the interest portion is subtracted.

7-3

Bearing Face Value $10,000 Less: Discount -0Proceeds

Discounted $10,000 ($10,000 x .12) $ 8,800

Interest

(1,200) $10,000

Effective Interest Rate: Discounted Note: $1,200 ÷ $8,800 = 13.6% Interest-Bearing Note: $1,200 ÷ $10,000= 12.0%

7-4

22. Amortization of discount reduces net income on the income statement, increases the carrying value of notes payable on the balance sheet, and does not affect the statement of cash flows. 23. Event Issuing Discount Note Effect on Accounting Equation Increase in Cash (asset); Increase in Notes Payable (liability); Increase in Discount on Notes Payable (contra liability) Decrease in Discount on Notes Payable (contra liability); Decrease in Retained Earnings (equity)

Amortization of Discount

Payment of Note at Maturity Decrease in Cash (asset); Decrease in Notes Payable (liability) 24. Discount on Notes Payable is a contra-liability account that is subtracted from the face value of the note to determine the carrying value of the liability.

25. Accounts Receivable = Sales Turnover Accounts Receivable
The A/R turnover tells how many times during the year on average accounts receivable is collected (i.e., converted to cash).

26. Average Days to Collect = Accounts Receivable

365 Accounts Receivable Turnover

This ratio tells the user how many days it takes a company to collect its accounts receivable.

7-5

27. No, accounting terminology is not even standard in Englishspeaking countries. In the U.K. sales is called “turnover,” inventory is “stocks,” and the “gearing ratio” refers to the debt-to-assets ratio. Knowing this terminology is important for companies involved in international trade.

7-6

SOLUTIONS TO EXERCISES - SERIES A - CHAPTER 7 EXERCISE 7-1A a. and c. Stateline Auto Service T-Accounts Assets Cash
2004 2. 18,000 B 18,000 al. 2005 3. 19,000 B 37,000 al.

=

Liabilities

+

Stockholders’ Equity Retained Earnings
2004 cl 19,800 Bal19,800 .

Service Revenue
2004 cl 20,00 1. 20,000 Bal -0. 2005 2. 22,000 Bal22,000 .

0 Accounts Receivable
2004 1. 20,000 2. 18,000 B 2,000 al. 2005 2. 22,000 1. 160 3. 19,000 B 4,840 al.

Bad Debts Expense
2004 3. 200 cl B -0al. 2005 4. 220 B 220 al.

200

Allow. For Bad Debts
2004 3. 200 Bal 200 . 2005 160 4. 220

1.

7-7

Bal .

260

Note: Closing entries for 2005 were not made because they were not necessary to answer the questions.

7-8

EXERCISE 7-1 (cont.) b. (1) Net Income for 2004: $19,800 ($20,000 − $200) (2) Net Cash Flow from Operating Activities: $18,000 (3) Balance of Accounts Receivable, 12/31/2004: $2,000 (4) Net Realizable Value of Accounts Receivable, 12/31/2004: $1,800 ($2,000 − $200) c. (1) Net Income for 2005: $21,780 ($22,000 − $220) (2) Net Cash Flow from Operating Activities:$19,000 (3) Balance of Accounts Receivable, 12/31/2004: $4,840 (4) Net Realizable Value of Accounts Receivable, 12/31/2004: $4,580 ($4,840 − $260)

7-9

EXERCISE 7-2A Even Asset = Liab + S. t s . Equity 1. 2. 3. 4. + +/− − +/− NA NA NA NA + NA − NA R – E = ev. xp. + NA NA NA NA NA + NA Net Inc. + NA − NA Cash Flow NA + OA NA NA

7-10

EXERCISE 7-3A a. Analyze the Accounts Receivable account: Accounts Receivable Beginning Balance $ 2,000 Plus: Revenue on Account 9,000 Less: Write-off (110) Less: Ending Balance (2,200) Collections of Accounts $ 8,690 Rec. b. Analyze the Allowance for Doubtful Accounts account: Allowance for Doubtful Accounts Beginning Balance Less: Write-off Less: Ending Balance Bad Debts Expense $100 (110) (170) $180

Note to Instructor: This information can also be shown in TAccount format.

7-11

EXERCISE 7-4A Selected T-Accounts:
Cash 2007 2. 920 4.197,000 1. Accounts Receivable 12/31/06 Bal. 97,000 2007 2. 920 1. 3,400 3.204,000 2. 920 4. 197,000 Bal. 100,600 3,400 Allowance for Doubt Acct. 12/31/06 Bal. 3,200 2007 2. 920 5. 4,080 Bal. 4,800 Sales Revenue 2007 3. 204,000 Bad Debts Expense 2007 5. 4,080

2007 transactions: 1. Bad accounts written off: $3,400 2. Collected previously written off accounts: 920 3. Sales on account: 204,000 4. Collections of accounts receivable: 197,000 5. Bad Debts Expense (204,000 x 2%): 4,080 a. 1. Allowance for Doubtful Accounts, 12/31/07:$ 4,800 2. Accounts Receivable, 12/31/07: 100,600 3. Net Realizable Value ($100,600 – $4,800): 95,800 b. Bad Debts Expense 2007 ($204,000 x 2%): $4,080

c. The recovery of previously written off accounts will cause two asset exchange transactions. First, reinstate the accounts receivable; + Accounts Receivable, +Allowance for Doubtful Accounts. Second, record the collection of the accounts receivable; +Cash, – Accounts Receivable. 7-12

7-13

EXERCISE 7-5A Accounts Receivable
Cr. Sales Bal.

Allowance for Doubt. Accts.
Chg. Off

352,000 31,680

320,000 Chg. Off 320
Coll.

320

Est. Bal.

3,520 3,200

a. 1. 2.

$31,680 (see above) $3,200

3. $3,520 ($352,000 x 1%) 4. $31,680 − $3,200 = $28,480

b. 1. $31,680 (same as above) 2. $320 (the amount charged off) 3. $31,680 (the balance of accounts receivable)

7-14

EXERCISE 7-6A a.
Ben’s Repair Shop Horizontal Statements Model Even t
2006

Balance Sheet Assets = Liab + S. . Equity Cash + Acct. = + Ret. Rec. Ear. 12,000 + NA + (8,200) + 3,800 + NA + 3,800 + NA 1,500 NA 1,500 = NA + 12,000 = NA + 1,500 = NA + (8,200) = NA + 5,300 (50) 5,250

Income Statement Rev. – Exp. = Net Inc.

Statement of Cash Flows

1. 2. 3. Bal.
2007

12,00 0 1,500 NA 13,50 0

NA = 12,000

12,000

OA

NA = 1,500 − − 8,200 = (8,200) − 8,200 = 5,300 50 = 50 = (50) (50)

NA (8,200) OA 3,800 NC NA NA

4. Bal.

(50) = NA + 1,450 = NA +

NA − -0- −

b. Net Income for 2006: $5,300

7-15

EXERCISE 7-6A (cont.) c. Ben’s Repair Shop General Journal Date 2006 1. 2. 3. 2007 4. Account Titles Cash Sales Revenue Accounts Receivable Sales Revenue Operating Expenses Cash Bad Debts Expense Accounts Receivable Debit 12,000 12,000 1,500 1,500 8,200 8,200 50 50 Credit

7-16

EXERCISE 7-7A a.
Big Elk Hunting Lodge Horizontal Statements Model Balance Sheet Assets Even t 1. 2. 76,80 0 Cash L + S. iab. Equity + Acc. Rec. = + Ret. Ear + 76,800 = NA + 76,800 NA = Income Statement Rev. − Exp. = Net Inc. Statement of Cash Flows

+ ( 76,800) = NA +

80,000 − 3,20 = 76,800 0 NA − NA = NA

NA 76,800 OA

b. 1. Total assets: Cash 2. Revenue recognized:

$ 76,800 $ 80,000

3. Cash Flow from Operating Activities:$ 76,800 4. By accepting credit cards rather than allowing customers to purchase goods on account, Big Elk Hunting Lodge avoids the risk of bad debts as well as the expense of maintaining and collecting accounts receivable.

7-17

EXERCISE 7-8A a. & b. Even t a. Account Title Accounts Receivable Credit Card Expense ($3,450 x 3%) Sales Revenue Cash Accounts Receivable Debit 3,346.50 103.50 3,450.00 3,346.50 3,346.50 $3,450.00 (103.50) $3,346.50 Credit

b.

c. Net Income Sales Credit Card Expense Net Income

7-18

EXERCISE 7-9A Note: T-Accounts are provided for the use of the instructor. Assets Cash
Sales Pur.

=

Liabilities Warranties Payable
Pd.

+

Stockholders’ Equity Sales Revenue
Sales

110,000
Bal.

75,000 Pd. 320

320 Est. 5,500
Bal.

110,000

5,180

34,680

Cost of Goods Sold
Sold

75,000

Mdse. Inventory
Pur. Sold

75,000 Bal. -0-

75,000

Warranty Expense
Est.

5,500

Taylor’s Computers Financial Statements Income Statement
Sales Revenue Cost of Goods Sold Gross Margin Warranty Expense Net Income $110,000 (75,000) 35,000 (5,500) $ 29,500

Statement of Cash Flows
Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Warranty Expense Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities Net Change in Cash $110,00 0 (75,000) (320) $34,680 -0-034,680

7-19

Plus: Beginning Cash Balance Ending Cash Balance

-0$34,680

7-20

EXERCISE 7-9A (cont.) The difference between net income and cash flows from operating activities is the difference in the amount of warranty expense accrued and the amount actually paid. The estimated warranty expense based on a percent of sales amounted to $5,500, but only $320 of that amount was actually paid.

7-21

EXERCISE 7-10A a. Even Asset = Liab + S. t s . Equity Est. Pd. NA − = = + − + + − NA

R − E = ev. xp. NA − + = NA − NA =

Net Inc. − NA

Cash Flow NA − OA

Event b. Est.

Account Titles Warranty Expense Warranties Payable

Debit 900

Credit

900 315 315

c. Paymen Warranties Payable t Cash

d. Companies can match the warranty expense with the revenue that will produce the repairs. This concept follows the matching principle.

7-22

EXERCISE 7-11A Cash 1. 44,0001
2. 36,800
Bal.

Notes Payable 1. 50,000
Bal.

Service Revenue
2.

36,800
Bal.

50,000 Disc. on Notes Pay. 1. 6,000 3. 5,000 Bal. 1,000

36,800 Interest Expense 3. 5,0002 Bal.5,000

80,800

1 2

$50,000 x 12% = $6,000; $50,000 − $6,000 = $44,000 $6,000 x 10/12 = $5,000 $50,000 (1,000) $ 49,000

a. Total Liabilities: Notes Payable Less: Discount on Notes Payable Total Liabilities

b. Income Reported on the Income Statement: Service Revenue $36,800 Less: Interest Expense (5,000) Net Income $31,800 c. Cash Flows From Operating Activities: Inflow from Customers $36,800

7-23

EXERCISE 7-11A (cont.) d. Barnes General Journal Date 3/1/06 Account Titles Cash Discount on Notes Payable Notes Payable Interest Expense Discount on Notes Payable 2/28/07 2/28/07 Interest Expense Discount on Notes Payable Notes Payable Cash 1,000 1,000 50,000 50,000 Debit 44,000 6,000 50,000 5,000 5,000 Credit

12/31/0 6

7-24

EXERCISE 7-12A a.
Balance Sheet Even t Asset = Liabilities s Cash = Notes Pay. − Disc. on NP 17,60 = 0 20,000 − 2,400 + S. Equity + Ret. Ear. + NA Income Statement Rev. − Exp. = Net Inc. Statement of Cash Flows

1.

NA −

NA =

NA

17,600 FA

Balance Sheet Even t Asset = Liabilities s Cash = Notes Pay. + Int. Pay. 20,00 = 20,000 0 + NA + S. Equity + Ret. Ear. + NA

Income Statement Rev. − Exp. = Net Inc.

Statement of Cash Flows

2.

NA −

NA =

NA

20,000 FA

b. Discount Note: 20,000 x 12% = $2,400 Interest-beraing Note: 20,000 x 12% = $2,400 c. Discount Note: Principal $17,600 Interest-bearing Note: Principal $20,000 d. Effective Interest Rate = Interest Paid ÷ Principal Amount Discount Note: $2,400 ÷ $17,600 = 13.64% 7-25

Interest-bearing Note:

$2,400 ÷ $20,000 = 12%

The effective interest rate is higher for the discount note. Both notes paid the same amount of interest, but only $17,600 of cash was received from the loan for the discount note.

7-26

EXERCISE 7-13A Ray Co General Journal Date a. 6/1/06 Account Titles Cash Discount on Notes Payable Notes Payable Interest Expense* Discount on Notes Payable c. 5/31/07 5/31/07 Interest Expense** Discount on Notes Payable Notes Payable Cash 1,250 1,250 30,000 30,000 Debit 27,000 3,000 30,000 1,750 1,750 Credit

b. 12/31/0 6

*$3,000 x 7/12 = $1,750 **$3,000 x 5/12 = $1,250

7-27

EXERCISE 7-14A a.
A-1 Steel Co. T-Accounts, 2007
Assets = Liabilities + Stockholders’ Equity

Cash Bal. 3,000 1. 6. 5,000 7. 7,280 8. 1,100 9,600

Accounts Payable Bal. 7,500 10. 52,000 2. 47,000 Bal.2,500

Common Stock Bal. 12,000 1. 5,000 Bal. 17,000 Retained Earnings Bal. 18,700 Dividends 11. 2,000 Bal. 2,000

9. 75,000 10. 52,000 11. 2,000 Bal. 25,580

Warranties Payable 7. 1,100 4. 3,280 Bal.2,180

Accounts Receivable Bal. 15,000 3a. 5. 600 82,000 9. 75,000 Bal. 21,400

Notes Payable 6. 8,000

Bal. 8,000

Sales Revenue 3a. 82,000 Bal. 82,000

Allow. for Doubt. Acct. Bal. 800 5. 600 12. 820 Bal. 1,020 Merchandise Inventory Bal. 21,000 2. 47,000 3b. 46,000 Bal. 22,000

Discount on Notes Pay. 6. 720 13. 240 Bal. 480

Cost of Goods Sold 3b. 46,000 Bal.46,000 Warranty Expense 4. 3,280 Bal. 3,280

Salaries Expense 8. 9,600 Bal. 9,600

7-28

Bad Debts Expense 12. 820 Bal. 820 Interest Expense 13. 240 Bal. 240 4: 6: 12: 13: $82,000 x 4% = $3,280 $8,000 x 9% = $720 $82,000 x 1% = $820 $720 x 4/12 = $240

EXERCISE 7-14A (cont.) b. A-1 Steel Company Financial Statements For the Year Ended December 31, 2007 Income Statement Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Salaries Expense Warranty Expense Bad Debts Expense Total Operating Expenses Operating Income Interest Expense Net Income $ 9,600 3,280 820 (13,700) 22,300 (240) $22,060 $ 82,000 (46,000) 36,000

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock $12,000 5,000 $17,000 7-29

Beginning Retained Earnings Plus: Net Income Less: Dividends Ending Retained Earnings Total Stockholders’ Equity

18,700 22,060 (2,000) 38,760 $55,760

7-30

EXERCISE 7-14A b. (cont.) A-1 Steel Company Balance Sheet As of December 31, 2007 Assets Cash Accounts Receivable Less: Allowance for Doubtful Accounts Merchandise Inventory Total Assets Liabilities Accounts Payable Warranties Payable Notes Payable Less: Discount on Notes Payable Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity $21,400 (1,020) $ 25,580 20,380 22,000 $ 67,960 $ $ 8,000 (480) 2,500 2,180 7,520 12,200

17,000 38,760 55,760 $ 67,960

7-31

EXERCISE 7-14A b. (cont.) A-1 Steel Company Statement of Cash Flows For the Year Ended December 31, 2007 Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Inflow from Stock Issue Outflow for Dividend Inflow from Loan Net Cash Flow from Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

$ 75,000 (52,000) (10,700) $12,30 0 -0-

5,000 (2,000) 7,280 10,280 22,580 3,000 $25,58 0

7-32

SOLUTIONS TO PROBLEMS - SERIES A - CHAPTER 7 PROBLEM 7-15A a. Event Type Number Transaction 2006 1. 2. 3. 2007 1. 2. 3. 4a. 4b. 5. 6. Asset Source Asset Exchange Asset Use Asset Asset Asset Asset Asset Asset Asset Source Exchange Exchange Exchange Exchange Use Use

of

b. 2006 and 2007
Effect of Transactions on Financial Statements No. 2006 1. 2. 3. 2007 1. 2. 3. 4a.* 4b. 5. 6. Assets = + +− − + +− +− +− +− − − Liab. NA NA NA + S. Equity + NA − + NA NA NA NA − − Rev. − Exp. =Net Inc. Cash Flows + NA NA NA NA + + NA − + NA NA NA NA − − NA + OA NA

NA NA NA NA NA NA NA

+ NA NA NA NA NA NA

NA NA NA NA NA + +

NA + OA NA NA + OA − OA NA

*4a. is reinstatement of the previously charged off receivable; 4b is the
collection of the account.

7-33

PROBLEM 7-15A (cont.) c. Durm’s Consulting Date 2006 1. 2. 3. Account Titles Accounts Receivable Service Revenue Cash Accounts Receivable Bad Debts Expense* Allowance for Doubtful Accounts Debit 40,000 40,000 34,000 34,000 800 800 Credit

*$40,000 x 2% = $800 Durm’s Consulting T-Accounts 2006 Assets Cash
2.

=

Stockholders’ Equity Service Revenue
1. Bal.

34,000

1.

Accounts Receivable 40,000 2. 34,000

40,000

Bal.

Bal.

34,000

6,000 Allow. For Doubtful Accounts 3. 800 Bal. 800

40,000 Bad Debts Expense
3. Bal.

800 800

7-34

PROBLEM 7-15A (cont.) d. Durm’s Consulting Financial Statements For the Year Ended 2006 Income Statement Service Revenue Bad Debts Expense Net Income $40,000 (800) $39,200

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity Stockholders’ $ -0-0$ -039,200 39,200 $39,200 -0-

7-35

PROBLEM 7-15A d. (cont.) Durm’s Consulting Financial Statements Balance Sheet As of December 31, 2006 Assets Cash Accounts Receivable Less: Allowance for Doubtful Accounts Total Assets Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity Statement of Cash Flows For the Year Ended 2006 Cash Flows From Operating Activities: Inflow from Customers Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities Net Change in Cash Plus: Beginning Cash Balance 7-36 $ -039,200 39,200 $39,200 $34,000 $ 6,000 (800) 5,200 $39,200 $ -0-

$34,000 $34,000 -0-034,000 -0-

Ending Cash Balance

$34,000

7-37

PROBLEM 7-15A e. (cont.) Durm’s Consulting
Date 2006 1. 2. Account Titles Closing Entries Service Revenue Retained Earnings Retained Earnings Bad Debts Expense Debit 40,000 40,000 800 800 Credit

Durm’s Consulting T-Accounts 2006 Closing Entries Assets Cash
Bal.

=

Stockholders’ Equity Retained Earnings
2.

34,000

Accounts Receivable Bal. 6,000

800

1.

40,000

Bal

39,200
Allowance for Doubtful Accounts Bal. 800 Service Revenue
1. Bal.

40,000 40,000 Bal. -0Bad Debts Expense 800 2. 800 -0-

Bal. Bal.

Durm’s Consulting After Closing Trial Balance December 31, 2006 Account Title Cash Accounts Receivable Allowance for Debit $34,000 6,000 Doubtful $ 800 Credit

7-38

Accounts Retained Earnings Totals $40,000

39,200 $40,000

PROBLEM 7-15A (cont.) c. (2007) Durm’s Consulting Date 2007 1. 2. 3. Account Titles Accounts Receivable Service Revenue Cash Accounts Receivable Allowance for Doubtful Accounts Accounts Receivable Accounts Receivable Allowance for Doubtful Accounts Cash Accounts Receivable Operating Expenses Cash Bad Debts Expense* Allowance for Doubtful Accounts Debit 51,500 51,500 47,500 47,500 150 150 12 12 12 12 36,500 36,500 515 515 Credit

4a.

4b. 5. 6.

*$51,500 x 1% = $515

7-39

PROBLEM 7-15A c. (cont.) 2007 Durm’s Consulting T-Accounts 2007 Assets Cash
Bal. Bal. 5.

= Accounts Receivable

Stockholders’ Equity Retained Earnings
Bal.39,200

34,000 2. 47,500
4b. Bal.

36,500

6,000 1. 51,500
4a.

2.

12

45,012
Bal.

47,500 12 3. 150 4b. 12

Service Revenue 1. 51,500
Bal.

9,850 Allow. For Doubtful Accounts
Bal.

51,500 Bad Debts Expense 800 12 515
6. Bal.

3.

150

4a. 6. Bal.

515 515

1,177

Operating Expenses 5. 36,500
Bal.

36,500

7-40

PROBLEM 7-15A d. (2007) Durm’s Consulting Financial Statements For the Year Ended 2007 Income Statement Service Revenue Expenses Operating Expenses Bad Debts Expense Total Expenses Net Income $36,500 515 (37,015) $14,485 $51,500

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity Stockholders’ $ -0-0$ 39,200 14,485 53,685 $53,685 -0-

7-41

PROBLEM 7-15A d. (cont.) 2007 Durm’s Consulting Financial Statements Balance Sheet As December 31, 2007 Assets Cash Accounts Receivable Less, Allowance for Doubtful Accounts Total Assets Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity Statement of Cash Flows For the Year Ended 2007 Cash Flows From Operating Activities: Inflow from Customers Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities Net Change in Cash Plus: Beginning Cash Balance 7-42 $ -053,685 53,685 $53,685 $45,012 $ 9,850 (1,177) 8,673 $53,685 $ -0-

$47,512 (36,500) $11,012 -0-011,012 34,000

Ending Cash Balance

$45,012

7-43

PROBLEM 7-15A (cont.) e. (2007) Durm’s Consulting Date 2007 1. 2. Account Titles Closing Entries Service Revenue Retained Earnings Retained Earnings Operating Expenses Bad Debts Expense Debit 51,500 51,500 37,015 36,500 515 Credit

Durm’s Consulting T-Accounts 2007 Closing Entries
Assets Cash
Bal. 45,012

=

Stockholders’ Equity Retained Earnings Bal. 39,200 2. 37,015 1. 51,500 Bal. 53,685
1.

Accounts Receivable
Bal. 9,850

Allow. For Doubtful Accounts Bal.1,177

Service Revenue 51,500 Bal. 51,500 Bal. -0-

Bad Debts Expense Bal. 515 2. 515 Bal. -0Bal.36,500 2. Bal. -0-

Operating Expenses 36,500

7-44

PROBLEM 7-15A e. (cont.) 2007 Durm’s Consulting After Closing Trial Balance December 31, 2007 Account Title Cash Accounts Receivable Allowance for Doubtful Accounts Retained Earnings Totals Debit $ 45,012 9,850 $ 1,177 53,685 $ 54,862 $ 54,862 Credit

7-45

PROBLEM 7-16A Accounts Receivable
1/1
Col

172,800
Sales

1,269,800 Bal. 153,240

1,284,860 Bad A/C 4,500

Allowance for Doubtful Accounts Bad A/C 1/1 5,184 4,500 Est. 6,349
Bal.

7,033

a. 1. $1,269,800 x .5% = $6,349 2. Accounts Receivable Balance, 12/31/07 $153,240 Less: Allowance for Doubtful Accounts, (7,033 12/31/07 ) Net Realizable Value $146,207 b. Hill Cabinet Company General Journal, 2007 Even t 1a. 1b. 2. 3. Account Title Accounts Receivable Sales Revenue Cost of Goods Sold Inventory Cash Accounts Receivable Allowance for Doubtful Accounts Accounts Receivable Bad Debts Expense Allowance for Accounts Doubtful Debit 1,269,800 1,269,800 800,000 800,000 1,284,860 1,284,860 4,500 4,500 6,349 6,349 Credit

4.

7-46

c. Bad debts expense is an estimate of current receivables that may eventually be uncollectible. The amount written off as uncollectible is the actual amount that was determined in the current accounting period to be uncollectible.

7-47

PROBLEM 7-17A a.
Effect of Transactions on Financial Statements No. 2004 1. 2. 3a. 3b. 3c. 3d. 4. 5. 6. 7. 8. Assets = + +− + + + − +− +− − NA − Liab. NA NA NA NA NA NA NA NA NA + NA + S. Equity + NA + + + − NA NA − − − Rev. − Exp. =Net Inc. Cash Flows NA NA + + + NA NA NA NA NA NA NA NA NA + NA + NA NA + + + NA NA + + + − NA NA − − − + FA − OA + OA NA NA NA + OA + OA NA NA − OA

Legend: 3a. Cash Sales 3b. Credit Card Sales (remember that credit card expense is recorded). 3c. Sales on Account 3d. Cost of Sales

7-48

PROBLEM 7-17A (cont.) b. Brigg’s Supply Co. General Journal, 2004 D ate 1. 2. 3a. 3b. Account Titles Cash Common Stock Merchandise Inventory Cash Cash Sales Revenue Accounts Receivable - Credit Card Co. Credit Card Expense Sales Revenue Accounts Receivable Sales Revenue Cost of Goods Sold Merchandise Inventory Cash Accounts Receivable - Credit Card Co. Cash Accounts Receivable Bad Debts Expense Accounts Receivable Warranty Expense Warranties Payable Selling and Administrative Exp. Cash 7-49 Debit 70,000 70,000 240,000 240,000 100,000 100,000 242,500 7,500 250,000 20,000 20,000 190,000 190,000 242,500 242,500 16,000 16,000 240 240 650 650 53,000 53,000 Credit

3c. 3d. 4.

5. 6. 7. 8.

PROBLEM 7-17A b. (cont.) Brigg’s Supply Co. T-Accounts
Assets Cash 1. 70,000 2. 240,000 3a. 8. 53,000 100,000 4. 242,500 5. 16,000
Bal.

=

Liabilities Warranties Payable 7. 650
Bal.

+

Stockholders’ Equity Common Stock 1. 70,000
Bal. 70,000

650

135,500 Accounts Receivable 3b.242,500 4. 242,500 3c. 20,000 5. 16,000 6. 240 Bal. 3,760

Sales Revenue 3a. 100,000 3b. 250,000 3c. 20,000
Bal.

370,000 Cost of Goods Sold
3d.

190,000
Bal.

190,000 Merchandise Inventory 2. 240,000 3d. 190,000 Bal. 50,000 Bad Debts Expense
6. Bal.

240 240

Credit Card Expense 3b. 7,500 Bal. 7,500
7. Bal.

Warranty Expense 650 650 Selling & Adm. Expense 53,000

8.

7-50

Bal. 53,000

7-51

PROBLEM 7-17A (cont.) c. Brigg’s Supply Co. Financial Statements For the Year Ended 2004 Income Statement Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Bad Debts Expense Credit Card Expense Warranty Expense Selling & Adm. Expense Total Expenses Net Income Operating $ 240 7,500 650 53,000 (61,390) $118,610 $370,000 (190,000 ) 180,000

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity Stockholders’ $ -0$ 70,000 -0118,610 118,610 $188,610

70,000

7-52

PROBLEM 7-17A c. (cont.) Brigg’s Supply Co. Balance Sheet As of the End of the Year 2004 Assets Cash Accounts Receivable Merchandise Inventory Total Assets Liabilities Warranties Payable Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity $ 70,000 118,610 188,610 $189,260 $135,500 3,760 50,000 $189,260 $ 650

7-53

PROBLEM 7-17A c. (cont.) Brigg’s Supply Co. Statement of Cash Flows For the Year Ended 2004 Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Cash Inflow from Stock Issued Net Cash Flow from Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

$358,500 (240,000 ) (53,000) $ 65,500 -0-

70,000 70,000 135,500 -0$135,50 0

7-54

PROBLEM 7-18A a.
City Corp. Effect of Transactions on Financial Statements No. 2001 1. 2. 3. 4. 2002 1. 2. 3a. 3b. Assets = + − + NA + − NA − Liab. + NA NA + NA NA + − + S. Equity NA − + − + − − NA Rev. − Exp. =Net Inc. Cash Flows NA NA + NA + NA NA NA NA + NA + NA + + NA NA − + − + − − NA + − + FA OA OA NA

+ −

OA OA NA − OA,FA

7-55

PROBLEM 7-18A b. (cont.) City Corp. General Journal 2001 and 2002 Date
2001

Account Titles Cash Discount on Notes Payable Notes Payable Selling and Adm. Expenses Cash Cash Service Revenue Interest Expense* Discount on Notes Payable Closing Entries

Debit 36,400 3,600

Credit

1.

40,000 118,000 118,000 176,000 176,000 2,700 2,700

2. 3. 4.

5. cl

Service Revenue Selling and Adm. Expenses Interest Expense Retained Earnings Cash Service Revenue Selling and Adm. Expenses Cash Interest Expense* Discount on Notes Payable Notes Payable Cash

176,000 118,000 2,700 55,300 292,000 292,000 198,000 198,000 900 900 40,000 40,000

2002

1. 2. 3a. 3b.

*2001: $3,600 x 9/12 = $2,700 2002: $3,600 x 3/12 = $900 PROBLEM 7-18A b. (cont.) 7-56

City Corp. General Journal, 2001 and 2002 2002 4. cl Closing Entries Service Revenue Selling and Adm. Expenses Interest Expense Retained Earnings 292,000 198,000 900 93,100

7-57

PROBLEM 7-18A b. (cont.) City Corp.
T-Accounts Assets Cash 2001 1. 36,400 2. 118,000 3. 176,000
Bal. 94,400

=

Liabilities Notes Payable 2001 1. 40,000
Bal. 40,000

+

Stockholders’ Equity Retained Earnings 2001 cl 55,300
Bal.

55,300 2002
cl 93,100 Bal.

2002 1. 292,000 2. 198,000 3b. 40,000
Bal.

2002 3b. 40,000
Bal.

-0-

148,400

148,400

Discount on Notes Pay. 2001 1. 3,600 4. 2,700 Bal. 900 2002 3a. 900 Bal. -0-

Service Revenue 2001 cl 176,000 2002 cl 292,000
3. 176,000 Bal. -01. 292,000 Bal. -0-

Selling and Adm. Exp. 2001 2. 118,000 cl 118,000 Bal. -02002 2. 198,000 cl 198,000 Bal. -0Interest Expense 2001 4. 2,700 cl 2,700 Bal. -02002 3a. 900 cl 900 Bal. -0-

7-58

7-59

PROBLEM 7-18A (cont.) c. City Corp. Financial Statements Income Statements 2001 Service Revenue Expenses Selling and Adm. Expenses Interest Expense Total Expenses Net Income $176,000 118,000 2,700 2002 $292,000 198,000 900

(120,700) (198,900 ) $ 55,300 $ 93,100

Statements of Changes in Stockholders’ Equity 2001 Beginning Common $ Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity -0-0-0-055,300 55,300 $ 2002 -0-0-055,300 93,100 148,400 $148,400

Stockholders’ $ 55,300

7-60

PROBLEM 7-18A c. (cont.) City Corp. Financial Statements Balance Sheets 2001 Assets Cash Total Assets Liabilities Notes Payable Less: Discount on Notes Payable Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity $94,400 $94,400 2002 $148,40 0 $148,40 0 -0-0-0-

$40,000 $ (900) 39,100 -055,300 55,300 $94,400

-0148,400 148,400 $148,40 0

7-61

PROBLEM 7-18A c. (cont.) City Corp. Statements of Cash Flows 2001 Cash Flows From Operating Activities: Inflow from Customers Outflow for Expenses Ouflow for Interest Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Cash Inflow from Loan Cash Ouflow to Repay Loan Net Cash Flow From Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance 2002

$176,000 $292,000 (118,000 (198,000 ) ) -0(3,600) 58,000 90,400 -0-0-

36,400 36,400 (36,400) (36,400)

94,400 54,000 -094,400 $ 94,400 $148,400

7-62

PROBLEM 7-19A
Type Even of t Event a. b. c. d. e. f. g. h. i. j. k. l. m. n. o. AS AU AS AU AE AS AE CE AS AS AU AE AS AU CE Assets Liabilitie s + − + − +− + +− NA + + − +− + − NA NA NA NA NA NA NA NA + NA NA − NA + − + Common Stock NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA Retain ed Earnin gs + − + − NA + NA − + + NA NA NA NA − Net Incom e + − + − NA + NA − + + NA NA NA NA − Cash Flow + − NA NA + + − NA NA + − + + − NA

7-63

PROBLEM 7-20A
Belmont Equipment Co. Balance Sheet As of December 31, 2003 Assets Current Assets Cash Accounts Receivable Less: Allow. for Doubtful Accounts Merchandise Inventory Interest Receivable Prepaid Rent Supplies Notes Receivable Total Current Assets Property, Plant and Equipment Equipment Less: Accumulated Depreciation Land Total Property, Plant and Equipment Total Assets Liabilities and Stockholders’ Equity Current Liabilities Accounts Payable $ 46,000 Unearned Revenue 52,600 Warranties Payable 1,300 Interest Payable 1,800 Salaries Payable 9,200 Total Current Liabilities Long-Term Liabilities Notes Payable Less: Discount on Notes Payable Total Long-Term Liabilities Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities Equity and Stockholders’ 40,000 61,800* 101,800 $316,300 106,000 (2,400) 103,600 214,500 $ 17,800 $90,000 (4,000) 86,000 122,800 500 9,600 1,600 12,000 $250,300 60,000 (30,000)

30,000 36,000 66,000 $316,300

$110,900

*Must be computed: $10,400 + $59,400 − $8,000 = $61,800

7-64

PROBLEM 7-20A (cont.) Belmont Equipment Co. Income Statement For the Year Ending December 31, 2003 Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Salaries Expense Operating Expenses Warranty Expense Bad Debts Expense Total Operating Expenses Operating Income Non-Operating Items Interest Revenue Interest Expense Gain on Sale of Equipment Total Non-Operating Items Net Income 4,200 (24,000) 6,400 (13,400) $ 59,400 $96,000 70,000 3,400 10,800 (180,200) 72,800 $396,000 (143,000) 253,000

7-65

PROBLEM 7-21A T-Accounts provided for the use of the instructor.
Accounts Receivable Bal. 30,000 Chg. Sales 240,000 Write-Off Coll End. Bal. 28,000

1,600 240,400

Allowance for Doubtful Accounts Bal. 2,000 Write-Off 1,600 Exp. 1,400 End. Bal. 1,800 Notes Payable Bal. End. Bal. Discount on Notes Payable Bal. 2,400 Exp. End. Bal. 1,600 Warranties Payable Bal. 1,700 Exp. End. Bal.

40,000 40,000

800

Paid

3,600 1,100 3,000

a.

Cash collected: $240,400 Bad Debts Expense: $1,400 Net Realizable Value: $28,000 − $1,800 = $26,200 Cash paid for warranties: $1,700 Interest recognized for the period: $800 Cash paid for interest: $-0Book Value of Discount Note: $40,000 − $1,600= $38,400

b. c.

7-66

PROBLEM 7-22A Water Way Sales & Service General Journal Date 1. 2a. 2b. 3. 4a. Account Titles Merchandise Inventory Accounts Payable Accounts Receivable Sales Revenue Cost of Goods Sold Merchandise Inventory Cash Service Revenue Accounts Receivable - Credit Card Co. Credit Card Expense Sales Revenue Cost of Goods Sold Merchandise Inventory Cash Accounts Receivable Accounts Payable Cash Selling and Administrative Expenses Cash Cash Accounts Receivable - Cr. Card Co. Cash Discount on Notes Payable Notes Payable Bad Debts Expense 7-67 Debit 390,000 390,000 522,000 522,000 364,000 364,000 44,000 44,000 25,080 1,320 26,400 18,600 18,600 504,000 504,000 396,000 396,000 150,000 150,000 25,080 25,080 55,200 4,800 60,000 450 Credit

4b. 5. 6. 7.

8.

9.

10.

Accounts Receivable PROBLEM 7-22A (cont.) Water Way Sales & Service General Journal Date Account Titles Adjusting Entries 11a. 11b. Interest Expense* Discount on Notes Payable Warranty Expense Warranties Payable 1,200 Debit

450

Credit

1,200 3,090 3,090

*$4,800 x 3/12 = $1,200

7-68

PROBLEM 7-22A (cont.)
Water Way Sales & Service T-Accounts Assets Cash
Bal. 87,100 3. 44,000 6. 396,000

=

Liabilities Accounts Payable
Bal. 44,000 6. 396,000 1. 390,000 Bal. 38,000 Warranties Payable 11b. 3,090 Bal. 3,090

+

Stockholders’ Equity Common Stock
Bal. 90,000

5. 504,000 7. 150,000 8. 25,080 9. 55,200 Bal. 169,380 Accounts Receivable Bal. 17,800 2a. 522,000 4a. 25,080 10. Bal. 35,350 Merchandise Inventory Bal. 94,600 1. 390,000 2b. 364,000 4b. 18,600 Bal.102,000 450 5. 504,000 8. 25,080

Retained Earnings Bal. 65,500 Bal. 65,500

Disc. on Notes Pay. 9. Bal. 4,800 11a. 1,200 3,600 Notes Payable 9. 60,000 Bal. 60,000

Sales Revenue 2a. 522,000 4a. 26,400 Bal. 548,400 Service Revenue 3. 44,000 Bal. 44,000

Cost of Goods Sold 2b. 364,000 4b. 18,600 Bal. 382,600 Credit Card Expense 4a. 1,320 Bal. 1,320 Selling & Adm. Exp. 7. 150,000 Bal. 150,000 Bad Debts Expense 10. 450 Bal. 450

7-69

Warranty Expense 11b. 3,090 Bal. 3,090 Interest Expense 11a. 1,200 Bal. 1,200

7-70

PROBLEM 7-22A (cont.) Water Way Sales and Service Financial Statements For the Year Ended December 31, 2003 Income Statement Revenue Sales Revenue Service Revenue Total Revenue Costs and Expenses Cost of Goods Sold Bad Debts Expense Credit Card Expense Warranty Expense Selling & Adm. Expenses Total Operating Expenses Operating Income Non Operating Items Interest Expense Net Income $548,400 44,000 $592,40 0 382,600 450 1,320 3,090 150,000 (537,460 ) 54,940 (1,200) $ 53,740

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income $90,000 -0$ 90,000 65,500 53,740

7-71

Ending Earnings Total Equity

Retained Stockholders’

119,240 $209,240

PROBLEM 7-22A (cont.) Water Way Sales and Service Balance Sheet As of December 31, 2003 Assets Cash Accounts Receivable Merchandise Inventory Total Assets Liabilities Accounts Payable Warranties Payable Notes Payable Less, Discount on Note Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liab. and Stockholders’ Equity $169,38 0 35,350 102,000 $306,730 $38,000 3,090 $ 60,000 (3,600) 56,400 97,490

90,000 119,240 209,240 $306,730

7-72

PROBLEM 7-22A (cont.) Water Way Sales and Service Statement of Cash Flows For the Year Ended December 31, 2003 Cash Flows From Operating Activities: Cash Receipts from Revenue Cash Payment for Inventory Cash Payments for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Cash Inflow from Note Net Cash Flow from Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

$573,080 (396,000) (150,000) $ 27,080 -0-

55,200 55,200 82,280 87,100 $169,380

7-73

SOLUTIONS TO EXERCISES - SERIES B - CHAPTER 7 EXERCISE 7-1B a. and c. Smith Dry Cleaning T-Accounts Assets Cash
2003 2. 8,000 B 8,000 al. 2004 3. 10,000 B 18,000 al.

=

Liabilities

+

Stockholders’ Equity Retained Earnings
2003 cl 9,900 Bal 9,900 .

Service Revenue
2003 cl 10,00 1. 10,000 Bal -0. 2004 2. 12,000 Bal12,000 .

0 Accounts Receivable
2003 1. 10,000 2. 8,000 B 2,000 al. 2004 2. 12,000 1. 80 3. 10,000 B 3,920 al.

Bad Debts Expense
2003 3. 100 cl B -0al. 2004 4. 120 B 120 al.

100

Allow. For Bad Debts
2003 3. 100 Bal 100 . 2004 80 4. 120

1.

7-74

Bal .

140

Year 2004 closing entries are not shown. They are not needed to answer the questions

7-75

EXERCISE 7-1B (cont.) b. (1) Net Income for 2003: $9,900 ($10,000 − $100) (2) Net Cash Flow from Operating Activities: $8,000 (3) Balance of Accounts Receivable, 12/31/2003: $2,000 (4) Net Realizable Value of Accounts Receivable, 12/31/2003: $1,900 ($2,000 − $100) c. (1) Net Income for 2004: $11,880 ($12,000 − $120) (2) Net Cash Flow from Operating Activities:$10,000 (3) Balance of Accounts Receivable, 12/31/2004: $3,920 (4) Net Realizable Value of Accounts Receivable, 12/31/2004: $3,780 ($3,920 − $140)

7-76

EXERCISE 7-2B
Event Cash 1. 2. 3. 4. NA + NA NA Assets A. Rec. + − All for DA NA NA − + = Liab + . = + = = = = NA NA NA NA + + + + Stk. Equity Ret. Earn. + NA NA Rev. – Exp. = Net Inc. + NA NA Cash Flow NA + OA NA NA


NA

+ − NA − NA − NA −

NA = NA = NA = + =

7-77

EXERCISE 7-3B a. Analyze the Accounts Receivable account: Accounts Receivable Beginning Balance $ 1,500 Plus: Revenue on Account 7,000 Less: Write-off (80) Less: Ending Balance (2,000) Collections of Accounts $ 6,420 Rec. b. Analyze the Allowance for Doubtful Accounts account: Allowance for Doubtful Accounts Beginning Balance Less: Write-off Less: Ending Balance Bad Debts Expense $150 (80) (175) $105

Note to Instructor: This information can also be shown in T-Account format.

7-78

EXERCISE 7-4B Selected T-Accounts:
Cash 2008 2. 900 4.190,000 1. Accounts Receivable 12/31/07 Bal. 80,000 2008 2. 900 1. 3,500 3.200,000 2. 900 4. 190,000 Bal. 86,500 3,500 Allowance for Doubt Acct. 12/31/07 Bal. 3,000 2008 2. 900 5. 4,000 Bal. 4,400 Sales Revenue 2008 3. 200,000 Bad Debts Expense 2008 5. 4,000

2008 transactions: 1. Bad accounts written off: $3,500 2a. Reinstated previously written-off accounts: 900 2b. Collected previously written off accounts: 900 3. Sales on account: 200,000 4. Collections of accounts receivable: 190,000 5. Bad Debts Expense; (200,000 x 2%) 4,000 a. 1. Allowance for Doubtful Accounts, 12/31/08:$ 4,400 2. Accounts Receivable, 12/31/08: 86,500 3. Net Realizable Value ($86,500 – $4,400): 82,100 b. Bad Debts Expense 2008 ($200,000 x 2%): $4,000

c. The recovery of the previously written off accounts will not affect the income statement. The transaction is an

7-79

asset exchange transaction. The income statement is only affected when bad debts expense is recognized.

7-80

EXERCISE 7-5B Accounts Receivable
Cr. Sales Bal.

Allowance for Doubt. Accts.
Chg. Off

300,000 39,750

260,000 Chg. Off 250
Coll.

250

Est. Bal.

3,000 2,750

a. 1. 2.

$39,750 (see above) $2,750

3. $3,000 ($300,000 x 1%) 4. $39,750 − $2,750 = $37,000

b. 1. $39,750 (same as above) 2. $250 (the amount charged off) 3. $39,750 (the balance of accounts receivable)

7-81

EXERCISE 7-6B a.
Valley Service Co. Horizontal Statements Model Even t
2005

Balance Sheet Assets = Liab + S. . Equity Cash + Acct. = + Ret. Rec. Ear. 10,000 + NA (8,000) NA 2,000 + + + + NA 2,000 NA (70) 1,930 = NA + 10,000 = = = = NA NA NA NA + 2,000 + (8,000) + (70) + 3,930

Income Statement Rev. – Exp. = Net Inc.

Statement of Cash Flows

1. 2. 3. 4. Bal.

10,00 0 2,000 NA NA 12,00 0

NA = 10,000

10,000 OA NA (8,000) OA NA 2,000

NA = 2,000 − − 8,000 = (8,000) 70 = (70) − − 8,070 = 3,930

b. Net Income for 2005: $3,930

7-82

EXERCISE 7-6B (cont.) c. Valley Service Co. General Journal Date 2005 1. 2. 3. 4. Account Titles Cash Sales Revenue Accounts Receivable Sales Revenue Operating Expenses Cash Bad Debts Expense Accounts Receivable Debit 10,000 10,000 2,000 2,000 8,000 8,000 70 70 Credit

7-83

EXERCISE 7-7B a.
Denver One-Day Spa Horizontal Statements Model Balance Sheet Assets Even t 1. 2. Cash + Acct. Rec. = L + S. iab. Equity = + Ret. Ear Income Statement Rev. − Exp. = Net Inc. Statement of Cash Flows

NA + 114,000 = NA + 114,00 0 114,00 + (114,000 = NA + NA 0 )

120,00 0 NA

− 6,00 = 114,00 0 0 NA = NA −

NA 114,000 OA

b. 1. Total assets: Cash 2. Revenue recognized:

$114,000 $120,000

3. Cash Flow from Operating Activities:$114,000 4. If a business maintains its own accounts receivable, i.e. it sells goods on account, it must incur the cost of investigating customers in order to extend credit. Then, the customer must be sent bills each month. If a customer is slow paying, collection notices must be sent, and finally other collection expense and bad debt charge off may occur. If a business uses credit cards for its credit business, the only expense is the fee charged by the credit card company.

7-84

EXERCISE 7-8B a. & b. Even t a. Account Title Accounts Receivable Credit Card Expense ($3,000 x 4%) Sales Revenue Cash Accounts Receivable Debit 2,880 120 3,000 2,880 2,880 $3,000 (120) $2,880 Credit

b.

c. Net Income Sales Credit Card Expense Net Income

7-85

EXERCISE 7-9B Note: T-Accounts are provided for the use of the instructor. Assets Cash
Sales Pur. Pd. Bal.

=

Liabilities Warranties Payable
Pd.

+ Stockholders’ Equity Sales Revenue
Sales

140,000

95,000 200

200 Est. 8,400
Bal.

140,000

8,200

44,800

Cost of Goods Sold
Sold

95,000

Mdse. Inventory
Pur. Sold

95,000 Bal. -0-

95,000

Warranty Expense
Est.

8,400

Long’s Stereos Financial Statements Income Statement Sales Revenue Cost of Goods Sold Gross Margin Warranty Expense Net Income Statement of Cash Flows Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Warranty Expense Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities Net Change in Cash 7-86 $140,00 0 (95,000) (200) $44,800 -0-044,800 $140,000 (95,000) 45,000 (8,400) $ 36,600

Plus: Beginning Cash Balance Ending Cash Balance

-0$44,800

7-87

EXERCISE 7-9B (cont.) Total warranties liabilities at the end of the period is $8,200, the balance of the Warranties Payable account.

7-88

EXERCISE 7-10B a. Even Asset = Liab + S. t s . Equity Est. Pd. NA − = = + − + + − NA

R − E = ev. xp. NA − + = NA − NA =

Net Inc. − NA

Cash Flow NA − OA

Event b. Est.

Account Titles Warranty Expense Warranties Payable

Debit 1,400

Credit

1,400 596 596

c. Paymen Warranties Payable t Cash

d. Warranty obligations may be uncertain, but they usually represent legal liabilities that must be recognized in the accounts.

7-89

EXERCISE 7-11B Cash
1. 180,000 2. 55,000 Bal. 235,000

Notes Payable
1. 200,000 Bal. 200,000

Service Revenue
2. 55,000 Bal. 55,000

Disc. on Notes Pay.
1. 20,000 Bal. 5,000 3. 15,000

Interest Expense
3. 15,000* Bal. 15,000

* $20,000 x 9/12 = $15,000 a. Total Liabilities: Notes Payable Less: Discount on Notes Payable Total Liabilities b. Income Reported on the Income Service Revenue Less: Interest Expense Net Income $200,000 (5,000) $195,000 Statement: $55,000 (15,000) $40,000

c. Cash Flows From Operating Activities: Inflow from Customers $55,000

7-90

EXERCISE 7-11B (cont.) d. Davis General Journal Date 4/1/04 Account Titles Cash Discount on Notes Payable Notes Payable Interest Expense Discount on Notes Payable 3/31/05 3/31/05 Interest Expense Discount on Notes Payable Notes Payable Cash 5,000 5,000 200,000 200,000 Debit 180,000 20,000 200,000 15,000 15,000 Credit

12/31/0 4

7-91

EXERCISE 7-12B a.
Balance Sheet Even t Asset = s Cash = 27,00 = 0 Liabilities Notes Pay. − S. Equity Disc. on + Ret. Ear. NP 3,000 + NA + Income Statement Rev. − Exp. = Net Inc. Statement of Cash Flows

1.

30,000 −

NA −

NA =

NA

27,000 FA

Balance Sheet Even t Asset = s Cash = Liabilities Notes Pay. S. Equity + Int. Pay. + Ret. Ear. NA + NA +

Income Statement Rev. − Exp. = Net Inc.

Statement of Cash Flows

2.

30,00 = 30,000 + 0

NA −

NA =

NA

30,000 FA

b. Discount Note: 30,000 x 10% = $3,000 Interest-bearing Note: 30,000 x 10% = $3,000 c. Discount Note: Principal $27,000 Interest-bearing Note: Principal $30,000 d. Effective Interest Rate = Interest Paid ÷ Principal Amount Discount Note: $3,000 ÷ $27,000 = 11.11% 7-92

Interest-bearing Note:

$3,000 ÷ $30,000 = 10%

The effective interest rate is higher for the discount note. Both notes paid the same amount of interest, but only $27,000 of cash was received from the loan for the discount note.

7-93

EXERCISE 7-13B Lewis Co. General Journal Date a. 7/1/05 Account Titles Cash Discount on Notes Payable Notes Payable Interest Expense* Discount on Notes Payable c. 6/30/06 6/30/06 Interest Expense** Discount on Notes Payable Notes Payable Cash 2,400 2,400 40,000 40,000 Debit 35,200 4,800 40,000 2,400 2,400 Credit

b. 12/31/0 5

*$4,800 x 6/12 = $2,400 **$4,800 x 6/12 = $2,400

7-94

EXERCISE 7-14B a.
Phillips Metal Co. T-Accounts, 2005
Assets = Liabilities + Stockholders’ Equity

Cash Bal. 4,000 1. 6. 4,000 7. 2,000

9,100 8. 16,000 10. 68,000 11. 2,000

Accounts Payable Bal. 10,000 10. 2. 80,000 68,000 Bal. 22,000 Warranties Payable 7. 2,000 4. 6,400 Bal.4,400

Common Stock Bal. 20,000 1. 4,000 Bal. 24,000 Retained Earnings Bal. 33,000 Dividends 2,000

9. 133,200 Bal. 62,300

Accounts Receivable Bal. 20,000 3a. 5. 800 128,000 9. 133,200 Bal. 14,000

11. Notes Payable 6. 10,000 Bal. 10,000

Bal. 2,000

Sales Revenue 3a. 128,000 Bal. 128,000 Cost of Goods Sold 3b. 76,000 Bal.76,000 Warranty Expense 4. 6,400

Allow. For Doubt. Acct. Bal. 1,000 5. 800 12. 1,280 Bal. 1,480 Merchandise Inventory Bal. 40,000 2. 80,000 3b. 76,000 Bal. 44,000

Discount on Notes Pay. 6. 900 13. 300 Bal. 600

Bal. 6,400 Operating Expenses 8. 16,000

7-95

Bal.16,000 Bad Debts Expense 12. 1,280 Bal. 1,280 Interest Expense 13. 300 Bal. 300 4: $128,000 x 5% = $6,400 6: $10,000 x 9% = $900 12: $128,000 x 1% =$1,280 13: $900 x 4/12 = $300

7-96

EXERCISE 7-14B (cont.) b. Phillips Metal Company Financial Statements For the Year Ended December 31, 2005 Income Statement Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Operating Expenses Warranty Expense Bad Debts Expense Total Operating Expenses Operating Income Interest Expense Net Income $16,000 6,400 1,280 (23,680) 28,320 (300) $28,020 $128,00 0 (76,000) 52,000

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Less: Dividends Ending Retained Earnings Total Stockholders’ Equity $20,000 4,000 $24,000 33,000 28,020 (2,000) 59,020 $83,020

7-97

7-98

EXERCISE 7-14B b. (cont.) Phillips Metal Co. Balance Sheet As of December 31, 2005 Assets Cash Accounts Receivable Less: Allowance for Doubtful Accounts Merchandise Inventory Total Assets Liabilities Accounts Payable Warranties Payable Notes Payable Less: Discount on Notes Payable Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity $10,000 (600) $14,000 (1,480) $ 62,300 12,520 44,000 $118,82 0 $ 22,000 4,400 9,400 35,800

24,000 59,020 83,020 $118,82 0

7-99

EXERCISE 7-14B b. (cont.) Phillips Metal Co. Statement of Cash Flows For the Year Ended December 31, 2005 Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Inflow from Stock Issue Outflow for Dividend Inflow from Loan Net Cash Flow from Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

$133,20 0 (68,000) (18,000) $47,20 0 -0-

4,000 (2,000) 9,100 11,100 58,300 4,000 $62,30 0

7-100

SOLUTIONS TO PROBLEMS - SERIES B - CHAPTER 7 PROBLEM 7-15B a. Event Type Number Transaction 2005 1. 2. 3. 2006 1. 2. 3. 4a. 4b. 5. 6. Asset Source Asset Exchange Asset Use Asset Asset Asset Asset Asset Asset Asset Source Exchange Exchange Exchange Exchange Use Use

of

b. 2005 and 2006
Effect of Transactions on Financial Statements No. 2005 1. 2. 3. 2006 1. 2. 3. 4a.* 4b. 5. 6. Assets = + +− − + +− +− +− +− − − Liab. NA NA NA + S. Equity + NA − + NA NA NA NA − − Rev. − Exp. =Net Inc. Cash Flows + NA NA NA NA + + NA − + NA NA NA NA − − NA + OA NA

NA NA NA NA NA NA NA

+ NA NA NA NA NA NA

NA NA NA NA NA + +

NA + OA NA NA + OA − OA NA

*Transaction 4a is the reinstatement of the previously written-off account; 4b is the collection of the account.

7-101

PROBLEM 7-15B (cont.) c. J & J Company Date 2005 1. 2. 3. 4. Account Titles Accounts Receivable Service Revenue Cash Accounts Receivable Operating Expenses Cash Bad Debts Expense* Allowance for Doubtful Accounts Debit 255,000 255,000 159,000 159,000 150,000 150,000 2,550 2,550 Credit

*$255,000 x 1% = $2,550 J & J Company T-Accounts 2005 Assets Cash
2. 159,000 3. 150,000 Bal. 9,000

= Accounts Receivable

Stockholders’ Equity Service Revenue
1. 255,000 Bal. 255,000

1. 255,000 2. 159,000 Bal.96,000

Allow. For Doubtful Accounts
4. 2,550 Bal.2,550

Bad Debts Expense
4. 2,550 Bal. 2,550

Operating Expenses 7-102

3. 150,000
Bal.

150,000

7-103

PROBLEM 7-15B (cont.) d. J & J Company Financial Statements For the Year Ended 2005 Income Statement Service Revenue Expenses Operating Expenses Bad Debts Expense Total Expenses Net Income 150,000 2,550 152,550 $102,450 $255,000

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity Stockholders’ $ -0-0$ -0102,450 102,450 $102,450 -0-

7-104

PROBLEM 7-15B d. (cont.) J & J Company Financial Statements Balance Sheet As of December 31, 2005 Assets Cash Accounts Receivable Less: Allowance for Doubtful Accounts Total Assets Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity Statement of Cash Flows For the Year Ended December 31, 2005 Cash Flows From Operating Activities: Inflow from Customers Outflow for Expense Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities 7-105 $96,000 (2,550) $ 9,000 93,450 $102,45 0 $ -0$ -0102,450 102,450 $102,45 0

$159,000 (150,000) $9,000 -0-0-

Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

9,000 -0$9,000

7-106

PROBLEM 7-15B (cont.) e. J & J Company Date 2006 1. 2. Account Titles Closing Entries Service Revenue Retained Earnings Retained Earnings Operating Expenses Bad Debts Expense Debit 255,000 255,000 152,550 150,000 2,550 Credit

J & J Company T-Accounts 2005 Closing Entries Assets Cash
Bal. 9,000

= Accounts Receivable

Stockholders’ Equity Retained Earnings
2. 152,550 1. 255,000
Bal.

Bal. 96,000

Allowance for Doubtful Accounts
Bal.2,550

102,450

Service Revenue
1. 255,000 Bal. 255,000 Bal. -0-

Operating Expenses
Bal.

2.150,000

150,000 Bal. -0-

Bad Debts Expense
Bal. 2,550 2. Bal.

2,550

-0-

7-107

PROBLEM 7-15B e. (cont.) J & J Company After Closing Trial Balance December 31, 2005 Account Title Cash Accounts Receivable Allowance for Doubtful Accounts Retained Earnings Totals Debit $ 9,000 96,000 $ 2,550 102,450 $105,000 $105,000 Credit

7-108

PROBLEM 7-15B (cont.) c. (2006) J & J Company Date 2006 1. 2. 3. Account Titles Accounts Receivable Service Revenue Cash Accounts Receivable Allowance for Doubtful Accounts Accounts Receivable Accounts Receivable Allowance for Doubtful Accounts Cash Accounts Receivable Operating Expenses Cash Bad Debts Expense* Allowance for Doubtful Accounts Debit 408,000 408,000 411,000 411,000 1,800 1,800 600 600 600 600 126,000 126,000 2,040 2,040 Credit

4a.

4b. 5. 6.

*$408,000 x .5% = $2,040

7-109

PROBLEM 7-15B c. (cont.) 2006 J & J Company T-Accounts 2006 Assets Cash
Bal. 9,000 2. 411,000 5. 126,000 4b. 600 Bal. 294,600

= Accounts Receivable

Stockholders’ Equity Retained Earnings
Bal. 102,450

Bal.96,000 1. 408,000 2. 411,000 4a. 600 3. 1,800 4b. 600 Bal. 91,200

Service Revenue
1. 408,000 Bal. 408,000

Allow. For Doubtful Accounts
3. Bal.2,550 1,800 4a. 600 6. 2,040 Bal.3,390

Bad Debts Expense
6. 2,040 Bal. 2,040

Operating Expenses
5. 126,000 Bal. 126,000

7-110

PROBLEM 7-15B d. (2006) J & J Company Financial Statements For the Year Ended 2006 Income Statement Service Revenue Expenses Operating Expenses Bad Debts Expense Total Expenses Net Income $126,000 2,040 (128,040 ) $279,960 $408,000

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity Stockholders’ $ -0-0$ 102,450 279,960 382,410 $382,410 -0-

7-111

PROBLEM 7-15B d. (cont.) 2006 J & J Company Financial Statements Balance Sheet As December 31, 2006 Assets Cash Accounts Receivable Less: Allowance for Doubtful Accounts Total Assets Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity Statement of Cash Flows For the Year Ended December 31, 2006 Cash Flows From Operating Activities: Inflow from Customers Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities $ 91,200 (3,390) $294,60 0 87,810 $382,41 0 $ -0$ -0382,410 382,410 $382,41 0

$411,600 (126,000 ) $285,60 0 -0-

7-112

Cash Flows From Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

-0285,600 9,000 $294,60 0

7-113

PROBLEM 7-15B (cont.) e. (2006) J & J Company Date 2006 1. 2. Account Titles Closing Entries Service Revenue Retained Earnings Retained Earnings Operating Expenses Bad Debts Expense Debit 408,000 408,000 128,040 126,000 2,040 Credit

J & J Company T-Accounts 2006 Closing Entries
Assets Cash
Bal.

=

Stockholders’ Equity Retained Earnings
Bal.

294,600

Accounts Receivable Bal.91,200

2. 128,040 Allow. For Doubtful Accounts Bal.3,390

102,450 1. 408,000
Bal.

382,410 Service Revenue 1. 408,000 Bal. 408,000
Bal.

-0-

Bad Debts Expense Bal. 2,040 2. 2,040 Bal. -0Operating Expenses 2. 126,000 126,000 Bal. -0Bal.

7-114

PROBLEM 7-15B e. (cont.) 2006 J & J Company After Closing Trial Balance December 31, 2006 Account Title Cash Accounts Receivable Allowance for Doubtful Accounts Retained Earnings Totals Debit $294,600 91,200 $ 3,390 382,410 $385,800 $385,800 Credit

7-115

PROBLEM 7-16B a. Sales on Account

Less: Ending Balance of Receivable Collections of Accounts Receivable

$300,00 0 Accounts (58,000) $242,00 0

b. Credit Sales $300,000 x 1% = $3,000 of Bad Debts Expense c. ACE Appliance General Journal, 2002 Even t 1. 2. 3. Account Title Accounts Receivable Service Revenue Cash Accounts Receivable Bad Debts Expense Allowance for Accounts Doubtful Debit 300,000 300,000 242,000 242,000 3,000 3,000 Credit

d. Accounts Receivable Ending Balance $58,000 Less: Allowance for Doubtful Accounts (3,000) Net Realizable Value of Accounts$55,000 Receivable

7-116

PROBLEM 7-16B (cont.) e.
ACE Appliance Effect of Events on Financial Statements Event Assets = Liab + S. Equity Cash + Acct. − Allow. = NA + Ret. Rec. Earn. NA + 300,000 − NA = NA + 300,000 + NA Rev. − Exp. = Net Inc. = 300,000 = NA Cash Flows

1. 2.

242,000 + (242,000 − NA = NA ) 3. NA + NA − 3,000 = NA Totals 242,000 + 58,000 − 3,000 = -0-

300,00 − NA 0 NA − NA

NA 242,000 OA NA 242,000

+ (3,000) + 297,000

NA − 3,000= (3,000) 300,00 − 3,00 = 297,000 0 0

7-117

PROBLEM 7-17B a.
Effect of Transactions on Financial Statements No. 2005 1. 2. 3a. 3b. 3c. 3d. 4. 5. 6. 7. 8. Assets = Liabilitie + S. s Equity + +− + + + − +− +− − NA − NA NA NA NA NA NA NA NA NA + NA + NA + + + − NA NA − − − Rev. − Exp. =Net Inc. NA NA + + + NA NA NA NA NA NA NA NA NA + NA + NA NA + + + NA NA + + + − NA NA − − − Cash Flows + − + FA OA OA NA NA NA OA OA NA NA OA

+ +

Legend: 3a. Cash Sales 3b. Credit Card Sales (remember that the credit card expense is recorded) 3c. Sales on Account 3d. Cost of Sales

7-118

PROBLEM 7-17B (cont.) b. Byrd Company General Journal, 2005 Date 1. 2. Account Titles Cash Common Stock Merchandise Inventory Cash 3a. 3b. Cash Sales Revenue Accounts Receivable - Credit Card Co. Credit Card Expense Sales Revenue Accounts Receivable Sales Revenue Cost of Goods Sold Merchandise Inventory Cash Accounts Receivable - Credit Card Co. Cash Accounts Receivable Bad Debts Expense Accounts Receivable Warranty Expense Warranties Payable Selling and Administrative Exp. Cash
7-119

Debit 500,000

Credit 500,000

1,200,00 0 1,200,00 0 600,000 600,000 480,000 20,000 500,000 500,000 500,000 900,000 900,000 480,000 480,000 400,000 400,000 5,000 5,000 4,500 4,500 100,000 100,000

3c. 3d. 4.

5. 6. 7. 8.

PROBLEM 7-17B b. (cont.) Byrd Company T-Accounts
Assets Cash
1. 500,000 2.

=

Liabilities Warranties Payable 7. 4,500

+

Stockholders’ Equity Common Stock 1. 500,000

3a.

600,000
4. 480,000

1,200,000 8. 100,000

Bal.4,500

Bal. 500,000

5. 400,000
Bal.

680,000 Accounts Receivable
3b.480,000 4. 480,000 3c.500,000 5. 400,000 6. 5,000 Bal. 95,000

Sales Revenue 3a. 600,000
3b.

3c. Bal. 1,600,000

500,000 500,000

Cost of Goods Sold 3d.900,000
Bal.

900,000 Merchandise Inventory 2. 3d. 1,200,000 900,000
Bal.

Bad Debts Expense
6. Bal.

300,000

5,000 5,000

Credit Card Expense 3b. 20,000 Bal. 20,000
7. Bal.

Warranty Expense 4,500 4,500

Selling & Adm. Expenses 8. 100,000
Bal.

100,000

7-120

PROBLEM 7-17B (cont.) c. Byrd Company Financial Statements For the Year Ended 2005 Income Statement Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Bad Debts Expense Credit Card Expense Warranty Expense Selling & Adm. Expenses Total Operating Expenses Net Income $ 5,000 20,000 4,500 100,000 (129,500) $ 570,500 $1,600,00 0 (900,000) 700,000

Statement of Changes in Stockholders’ Equity Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Stockholders’ Equity $ -0500,000 $ 500,000 -0570,500 570,500 $1,070,50 0

7-121

PROBLEM 7-17B c. (cont.) Byrd Company Balance Sheet As of December 31, 2005 Assets Cash Accounts Receivable Merchandise Inventory Total Assets Liabilities Warranties Payable Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity $500,000 570,500 1,070,500 $1,075,00 0 $680,000 95,000 300,000 $1,075,00 0 $ 4,500

7-122

PROBLEM 7-17B c. (cont.) Byrd Company Statement of Cash Flows For the Year Ended December 31, 2005 Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Cash Inflow from Stock Issue Net Cash Flow from Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

$1,480,00 0 (1,200,00 0) (100,000) $180,00 0 -0-

500,000 500,000 680,000 -0$680,00 0

7-123

PROBLEM 7-18B a.
White & Company Effect of Transactions on Financial Statements No. 2006 1 2. 3. 4. 2007 1. 2. 3a. 3b. Assets = + + − NA + − NA − Liab. + NA NA + NA NA + − + S. Equity NA + − − + − − NA Rev. − Exp. =Net Inc. Cash Flows NA + NA NA + NA NA NA NA NA + + NA + + NA NA + − − + − − NA + + − FA OA OA NA

+ −

OA OA NA − OA,FA

7-124

PROBLEM 7-18B (cont.) b. White & Company General Journal 2006 and 2007 Date
2006

Account Titles Cash Discount on Notes Payable Notes Payable Cash Service Revenue Operating Expenses Cash Interest Expense1 Discount on Notes Payable Closing Entries Service Revenue Retained Earnings Retained Earnings Operating Expenses Interest Expense Cash Service Revenue Operating Expenses Cash Interest Expense2 Discount on Notes Payable Notes Payable Cash

Debit 180,000 20,000

Credit

1.

200,000 336,000 336,000 132,000 132,000 10,000 10,000 336,000 336,000 142,000 132,000 10,000 984,000 984,000 416,000 416,000 10,000 10,000 200,000 200,000

2. 3. 4.

5. cl. cl.

2007

1. 2. 3a. 3b.

1 2

$20,000 x 6/12 = $10,000 $20,000 x 6/12 = $10,000

PROBLEM 7-18B b. (cont.)

7-125

White & Company General Journal 2006 and 2007 Date 2007 4. cl cl Account Titles Closing Entries Service Revenue Retained Earnings Retained Earnings Operating Expenses Interest Expense 984,000 984,000 426,000 416,000 10,000 Debit Credit

7-126

PROBLEM 7-18B b. (cont.)
White & Company T-Accounts Assets Cash 2006 1. 180,000 3. 132,000 2. 336,000
Bal.

=

Liabilities Notes Payable 2006 1. 200,000
Bal.

+

Stockholders’ Equity Retained Earnings 2006 cl 142,000 cl 336,000
Bal.

200,000 2007
3b.

194,000 2007 cl 426,000 cl 984,000

384,000 2007
1. 984,000 2. 416,000 3b. 200,000 Bal.752,000

200,000
Bal.

-0-

Bal.

752,000 Service Revenue 2006 cl 336,000 2. 336,000 Bal. -02007 cl 984,000 1. 984,000
Bal. -0-

Discount on Notes Pay. 2006 1. 20,000 4. 10,000
Bal.

10,000 2007 3a. 10,000
Bal.

-0-

Operating Expenses 2006 3.132,000 cl 132,000 Bal. -02007 2.416,000 cl 416,000 Bal. -0Interest Expense 2006 4. 10,000 cl 10,000 Bal. -02007 3a.10,000 cl 10,000 Bal. -0-

7-127

7-128

PROBLEM 7-18B (cont.) c. White & Company Financial Statements Income Statements 2006 Service Revenue $336,000 Expenses Operating Expenses Interest Expense Total Expenses Net Income 132,000 10,000 416,000 10,000 2007 $984,000

(142,000) (426,000 ) $194,000 $558,000

Statements of Changes in Stockholders’ Equity 2006 Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity $ -0- $ -0-0-0194,000 194,000 2007 -0-0-0-

194,000 558,000 752,000

Stockholders’ $194,000 $752,000

7-129

PROBLEM 7-18B c. (cont.) White & Company Balance Sheets 2006 Assets Cash Total Assets Liabilities Notes Payable Less: Discount on Notes Payable Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity 2007

$384,000 $752,000 $384,000 $752,000 $200,000 $ (10,000) 190,000 -0-0-0-

-0-0194,000 752,000 194,000 752,000 $384,000 $752,000

7-130

PROBLEM 7-18B c. (cont.) White & Company Statements of Cash Flows 2006 Cash Flows From Operating Activities: Inflow from Customers Outflow for Expenses Ouflow for Interest Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Cash Inflow from Loan Cash Outflow to Repay Loan Net Cash Flow From Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance 2007

$336,000

$984,00 0 (132,000) (416,00 0) -0- (20,000) 204,000 548,000 -0-0-

180,000 180,000 (180,00 0) (180,00 0)

384,000 368,000 -0- 384,000 $384,000 $752,00 0

7-131

PROBLEM 7-19B
Type Even of t Event a. b. c. d. e. f. g. h. i. j. k. l. m. n. o. AE AS AE AS/AE AS AU AU AS AU AS AS AU CE AE CE Assets Liabilitie s +− + +− +(+−) + − − + − + + −
NA NA NA NA NA NA

Common Stock
NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA

Retain ed Earnin gs
NA

Net Incom e
NA

Cash Flow −
NA

+
NA

+
NA

+ +
NA

+ +
NA


NA NA

− +
NA NA

− +
NA NA

− +
NA NA

+ + + − − + − +
NA NA NA

+
NA

+ − −
NA

+ − −
NA

+− NA

+
NA

+

7-132

PROBLEM 7-20B
Daniels Company Balance Sheet As of December 31, 2004 Assets Current Assets Cash Accounts Receivable Less: Allow. for Doubtful Accounts Merchandise Inventory Interest Receivable Prepaid Rent Supplies Notes Receivable Total Current Assets Property, Plant and Equipment Equipment Less: Accumulated Depreciation Land Total Property, Plant and Equipment Total Assets Liabilities and Stockholders’ Equity Current Liabilities Accounts Payable Unearned Revenue Warranties Payable Interest Payable Salaries Payable Total Current Liabilities Long-Term Liabilities Notes Payable Less: Discount on Notes Payable Total Long-Term Liabilities Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity 52,000 90,800* 142,800 $406,800 $ 60,000 58,000 2,000 3,000 12,000 $135,000 133,000 (4,000) 129,000 264,000 $ 23,000 $113,000 (7,000) 106,000 154,000 800 14,000 3,000 17,000 $317,800 77,000 (38,000)

39,000 50,000 89,000 $406,800

*Must be computed: ($28,800 + $74,000 − $12,000 = $90,800)
7-133

PROBLEM 7-20B (cont.) Daniels Company Income Statement For the Year Ended December 31, 2004 Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Salaries Expense Operating Expenses Warranty Expense Bad Debts Expense Total Operating Expenses Operating Income Non-Operating Items Interest Revenue Interest Expense Gain on Sale of Equipment Total Non-Operating Items Net Income 6,000 (32,000) 10,000 (16,000) $ 74,000 $122,000 90,000 5,000 14,000 (231,000) 90,000 $500,000 (179,000) 321,000

7-134

PROBLEM 7-21B a. T-Accounts provided for the use of the instructor.
Accounts Receivable Bal. 30,000 Chg. Sales 170,000 Write-off Coll End. Bal. 34,000

1,400 164,600

Allowance for Doubtful Accounts Bal. 1,800 Write-off 1,400 Exp. 1,300 End. Bal. 1,700

Cash collected: $164,600 Bad Debts Expense: $1,300 Net Realizable Value: $34,000 − $1,700 = $32,300 b. Note: T-Accounts provided for the use of the instuctor.
Warranties Payable Bal. 4,600 Exp. End. Bal. 4,000 3,600 3,000

Cash Paid

Cash paid for warranties: $4,600 c. Note: T-Accounts provided for the use of the instructor.
Note Payable Bal. End. Bal. Discount on Note Payable Bal. 1,200 Exp. End. Bal. 800 40,000 40,000

400

Interest recognized for the period: $400 Cash paid for interest: $-0Book Value of Discount Note: $40,000 − $800= $39,200

7-135

PROBLEM 7-22B a. The Sport Shop General Journal Date 1. 2a. 2b. 3a. 3b. 4a. Account Titles Merchandise Inventory Accounts Payable Accounts Receivable Sales Revenue Cost of Goods Sold Merchandise Inventory Cash Sales Revenue Cost of Goods Sold Merchandise Inventory Accounts Receivable - Credit Card Co. Credit Card Expense Sales Revenue Cost of Goods Sold Merchandise Inventory Cash Accounts Receivable Accounts Payable Cash Selling and Administrative Expenses Cash Cash Accounts Receivable - Cr. Card Co Debit 420,000 420,000 480,000 480,000 288,000 288,000 240,000 240,000 144,000 144,000 172,800 7,200 180,000 108,000 108,000 526,000 526,000 540,000 540,000 134,000 134,000 172,800 172,800 Credit

4b. 5. 6. 7.

8.

7-136

PROBLEM 722B a. (cont.) The Sport Shop General Journal Date 9. Account Titles Cash Discount on Notes Payable Notes Payable Allowance for Doubtful Accounts Accounts Receivable Adjusting Entries 11a. Bad Debts Expense1 Allowance for Doubtful Accounts Interest Expense2 Discount on Notes Payable Warranty Expense Warranties Payable 4,800 4,800 2,800 2,800 1,800 1,800 Debit 43,200 4,800 48,000 7,200 7,200 Credit

10.

11b. 11c.

1 2

$480,000 x 1% = $4,800 $4,800 x 7/12 = $2,800

7-137

PROBLEM 7-22B a. (cont.) The Sport Shop T-Accounts Assets
Cash
Bal.

=

Liabilities
Accounts Payable Bal. 142,000 6. 1. 420,000 540,000 Bal. 22,000

+

Stockholders’ Equity
Common Stock
Bal.

118,000 3a. 6. 240,000 540,000 5. 526,000 7. 134,000 8. 172,800 9.
Bal.

720,000

Retained Earnings
Bal.

108,000 Warranties Payable 11c. 1,800
Bal. 1,800

43,200

426,000 Accounts Receivable
Bal.

Sales Revenue 2a. 480,000 3a. 240,000 4a. 180,000
Bal.

172,000 2a. 480,000 4a. 172,800
Bal.

5. 526,000 8. 172,800 10. 7,200

Discount on Notes Pay. 9. 4,800 11b. 2,800
Bal. 2,000

900,000

118,800

Notes Payable 9. 48,000

Allow. for Doubt. Acc.
Bal. 10.

Bal. 48,000

Cost of Goods Sold 2b. 288,000 3b. 144,000 4b. 108,000
Bal.

10,000 7,200 11a. 4,800 Bal. 7,600 Merchandise Inventory

540,000 Credit Card Expense 4a. 7,200 Bal. 7,200

Bal.

690,000
1. 420,000 2b.

Selling & Adm. Exp. 7-138

288,000

3b. 144,000 4b. 108,000
Bal.

7. 134,000
Bal.

134,000 Bad Debts Expense 11a. 4,800 Bal. 4,800 Warranty Expense 11c. 1,800 Bal. 1,800 Interest Expense 11b. 2,800 Bal. 2,800

570,000

7-139

PROBLEM 7-22B a. (cont.) The Sport Shop Financial Statements For the Year Ended December 31, 2007 Income Statement Sales Revenue Cost of Goods Sold Gross Margin Operating Expenses Bad Debts Expense Credit Card Expense Warranty Expense Selling and Admin. Expenses Total Operating Expenses Operating Income Less: Nonoperating Expense Interest Expense Net Income Beginning Common Stock Plus: Stock Issued Ending Common Stock Beginning Retained Earnings Plus: Net Income Ending Retained Earnings Total Equity Stockholders’ $720,000 -0$ 108,000 209,400 317,400 $1,037,40 0 720,000 $ 4,800 7,200 1,800 134,000 (147,800) 212,200 $900,000 (540,000) 360,000

(2,800) $209,400

Statement of Changes in Stockholders’ Equity

7-140

PROBLEM 7-22B a. (cont.) The Sport Shop Balance Sheet As of December 31, 2007 Assets Cash Accounts Receivable Less: Allowance for Doubtful Accounts Merchandise Inventory Total Assets Liabilities Accounts Payable Warranties Payable Notes Payable Less: Discount on Notes Payable Total Liabilities Stockholders’ Equity Common Stock Retained Earnings Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity $426,000 $118,800 (7,600) 111,200 570,000 $1,107,200 $ $ 48,000 (2,000) 22,000 1,800 46,000 69,800

720,000 317,400 1,037,400 $1,107,200

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PROBLEM 7-22B a. (cont.) The Sport Shop Statement of Cash Flows For the Year Ended December 31, 2007 Cash Flows From Operating Activities: Inflow from Customers Outflow for Inventory Outflow for Expenses Net Cash Flow from Operating Activities Cash Flows From Investing Activities Cash Flows From Financing Activities: Cash Inflow from Loan Net Cash Flow From Financing Activities Net Change in Cash Plus: Beginning Cash Balance Ending Cash Balance

$938,800 (540,000 ) (134,000 ) $264,80 0 -0-

43,200 43,200 308,000 118,000 $426,00 0

b. Net Realizable Value:

$111,200 ($118,800 − $7,600). $7,200

c. Bad Debts Expense using Direct Write-off Method:

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ATC 7-1 Financial Statement Analysis a. First, calculate the accounts receivable turnover ratio: $31,888÷$2,895=11.0 times Next, calculate the average days to collect accounts receivable: 365 days÷11.0=33 days b. Note 9, page 42, reports “allowances” of $69 (million). Allow. for doubtful accts. ÷ Acct. Rec. = Uncollectible % $69÷$2,964=2.3% c. d. $2,895÷$9,491=30.5% Note 9, page 42, reports warranty obligations of $467 (million).

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ATC 7-2 a. 1. Total Sales Cash Sales Credit Sales Accounts Receivable, 1/1/08 Accounts Receivable, 12/31/08 Allowance for Doubtful Acct, 1/1/08 Allowance for Doubtful Acct, 12/31/08 Bad Debts Expense, 2008 Uncollectible accounts charged off, 2008 Collections of accounts receivable, 2008 2. Bell $125,000 85,000 40,000 6,200 5,600 186 224 242 204 40,396 Card $210,000 26,000 184,000 42,000 48,000 1,840 1,680 1,200 1,360 176,640 Zore $195,000 120,000 75,000 8,100 7,500 405 435 395 365 75,235

Uncollectible Accounts Bell - 2007: $186 ÷ $6,200 = .03 or 3% Bell - 2008: $224 ÷ $5,600 = .04 or 4% Card - 2007: Card - 2008: Zore - 2007: Zore - 2008: $1,840 ÷ $42,000 = .044 or 4.4% $1,680 ÷ $48,000 = .035 or 3.5% $405 ÷ $8,100 = .05 or 5% $435 ÷ $7,500 = .058 or 5.8% $40,000 ÷ $125,000 = 32% $184,000 ÷ $210,000 = 87.6% $75,000 ÷ $195,000 = 38.5%

3.

Credit Sales Bell: Card: Zore:

4.

Accounts Receivable Turnover Bell: $40,000 ÷ $5,600 = 7.14 Card: $184,000 ÷ $48,000 = 3.83 Zore: $75,000 ÷ $7,500 = 10

c. Card has the highest percentage of sales that are credit sales with 87.6%. d. Zore appears to be doing the best job of collecting it accounts receivable with just .5% of
its charge sales being charged off during the year. A company can screen its charge customers and use aggressive collection policies to keep uncollectible accounts to a minimum.

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ATC 7-3 Thinking About the Numbers -- Explaining the Time Needed to Collect Accounts Receivable a. Retail furniture stores, such as Haverty’s, sell their products directly to consumers. Because furniture purchases represent relatively large dollar amounts for many individuals, they often “finance” these purchases. This is the reason Haverty’s takes about three months on average to collect its receivables; it allows customers a long time to pay, but it charges interest on their accounts receivable during this time. Ford, by contrast, sells to car dealers, not to the ultimate consumer, so it gets its money relatively fast. Ford also has a “car financing” operation, but that is a separate operation from the manufacturing of cars. b. The rather short collection period for Boeing will surprise many students. They may suggest that Boeing collects its receivables soon after each airplane is manufactured because it has been “made to order.” This, of course, is only partly true. Boeing bills and collects payments from customers as their airplanes are being produced. If Boeing waited until its airplanes were completed before being paid, it would need to borrow (or get from some other source) a lot of additional money to finance the long production period that airplanes require. Boeing’s workers and suppliers want to be paid as they provide services to Boeing, not after each airplane is completed. Colgate Palmolive, by contrast, has a rather traditional accounts receivable arrangement with its distributors. The length of time they are given to repay Colgate probably is approximately the same length of time they are expected to need to sell the products to their customers.

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ATC 7-4

a. Accounts Receivable Turnover: Company Shafer Burgess Sales ÷ Accounts Receivable $920,000 ÷ $80,000 = 11.5 times $450,000 ÷ $50,000 = 9.0 times

Average Days to Collect Accounts Receivable: Company Shager Burgess 365 ÷ Acct. Rec. Turnover 365 ÷ 11.5 = 31.7 days to coll. 365 ÷ 9.0 = 40.56 days to coll.

b. Burgess is more likely to incur a larger cost from the extension of credit because it takes longer to collect from customers. c. Costs associated with the extension of credit: 1. Cost of credit approval. 2. Recording and billing costs of accounts receivable. 3. Costs associated with lost opportunities to invest the cash to produce a return on the investment. 4. Salaries, equipment, and supplies that are used in the collection process. d. A company may be more willing to extend credit: 1. Because more goods and services can be sold when credit is allowed. 2. To be more competitive with other companies.
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3. To give the buying company time to generate the cash to pay for the goods purchased.

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ATC 7-5 a. First the companies' gross margins must be calculated. Playfair Pigpen Sales $650,000 $1,000,000 Cost of goods sold 475,000 630,000 Gross margin $175,000 $ 370,000 Gross margin %: Playfair: Pigpen: $175,000 ÷ $650,000 = 26.9% $370,000 ÷ $1,000,000 = 37.0%

Average days to collect receivables: First, calculate the net realizable value of each company's accounts receivable: Accounts receivable Allow. for doubtful accts. Net realizable value Playfair $105,000 5,000 $100,000 Pigpen $260,000 10,000 $250,000 = = 6.5 times 4.0 times

Second, calculate the accounts receivable turnover ratio: Playfair: $650,000 ÷ $100,000 Pigpen: $1,000,000 ÷ $250,000

Finally, calculate the average days to collect accounts receivable: Playfair: Pigpen: 365 days÷ 6.5 365 days÷ 4.0 = = 56 days 91 days

b. Pigpen is charging more in relation to cost of goods sold.
Gross Margin %: Playfair: $175,000÷$650,000=26.9% Pigpen: $370,000÷$1,000,000=37.0% c. Pigpen has the larger absolute balance of accounts receivable and it takes a longer time to collect its accounts receivable. Therefore, it will incur the greater financing cost associated with accounts receivable.

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ATC 7-5 (cont.)

d. Based only on the information provided, Playfair probably has the more restrictive credit
policies. It is collecting its receivables faster than Pigpen. This suggests Playfair requires repayment more quickly than Pigpen, or that it only grants credit to customers who have a history of paying on time, or both. Of course there are many other factors, such as industry trends, that might explain the difference in average collection periods, but this information is not available to us. In a "real-world" situation, a prudent decision maker would try to obtain more information before making a judgment.

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ATC 7-6 This assignment is designed to test both analytical skills and writing skills. In the memo, students should explain the conceptual difference in the two types of notes. Some points that can be made include: Interest-bearing note: interest is paid at maturity; the amount of cash proceeds equals the amount of the principal of the note; interest is computed by multiplying the principal of the note by the interest rate. Discount note: interest is paid in advance; the amount of the cash proceeds equals the face amount of the note less the amount of discount that is deducted; the amount of the discount is determined by multiplying the face amount of the note by the discount rate. The effective interest rate for each of the notes is computed as follows: Interest-bearing note: $50,000 x 10% = $5,000 amount of interest $5,000 ÷ $50,000 = 10% effective interest rate Discount note: $50,000 x 9.5% = $4,750 amount of discount $50,000 − $4,750 = $45,250 cash proceeds $4,750 ÷ $45,250 = 10.5% effective interest rate

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ATC 7-7 a. The direct write-off would affect the accounting equation as follows: Assets = (45,000) Liabilities + Stockholders’ Equity (45,000)

The entry to record the expense would be: Bad Debts Expense Accounts Receivable Debit 45,000 Credit 45,000

Net income would be reduced by the recognition of the $45,000 of bad debts expense. Ending retained earnings would be reduced on the statement of changes in equity. Assets (i.e., accounts receivable) and equity (i.e., retained earnings) would be reduced on the balance sheet. The statement of cash flows would not be affected. b. The ethical thing to do would be to advise the bank. Because Saunders had knowledge of the uncollectible account, he could not legally attest to the quality of the receivables. If he lies to the bank, he is engaging in criminal fraud and may be subject to prosecution. Remember always, it is best to avoid unethical or illegal behavior at the earliest possible time.

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ATC 7-8 Using the EDGAR Database NOTE: This solution was accurate as of December 19, 2001. However, the EDGAR database is subject to update at any time, so this solution will likely be “dated” at the time you assign this case to your students. These data are from the December 31, 2000 financial statements and dollar amounts are in thousands. a. Sales ÷ $4,247,504 ÷ Accounts Rec. = A/R Turnover $538,403 = 7.9 times

365 ÷ 7.9 = 46 days b. The balance of total accounts receivable was $559,999. (This is the sum of net receivables [$538,403] and the balance in the “allowance” account [$21,596]). $21,596 ÷ $559,999 = 3.9% of receivables that are not expected to be collected. c. The liability for warranties was $59,563 (from the footnote for accrued liabilities). and Hoover. e. Maytag’s financial statements do not disclose the amount of warranty expense, but the footnotes do disclose the amount of warranties that are included in accrued liabilities. Comparing the balance in the warranties liability to the amount of sales reveals that warranty costs appeared to change little from 1999 to 2000. The supporting computations are: Warranties liability ÷ sales; 1999 $62,459 ÷ $4,323,673 = 2000 $59,563 ÷ $4,247,504= Difference:

d. Maytag manufactures products under the names of Jenn-Air, Magic Chef, Admiral, Norge

1.445% 1.402% 0.043%

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