This action might not be possible to undo. Are you sure you want to continue?
Practice Problems Problems to Chapter 1 Problem 1 Bestseller Books is a retailer of books and magazines. Indicate the effect of each of the following transactions on Bestseller's balance sheet (i.e., indicate whether assets, liabilities, and owners' equity increased, decreased or stayed the same). Assets Liab. Own. Eq. 1. Investment of capital in business by owner. 2. Loan obtained from bank 3. Books purchased from distributor on credit 4. Furniture purchased on credit 5. Payment made to creditor for furniture 6. Furnishings purchased for cash 7. Rent paid in advance for store premises 8. Wages paid to employees at the end of first week 9. Advance received from customer to supply magazines for one year 10. Books sold to customer for cash
Solution In the following solution, '+' = increase, '-' = decrease, 'O' = no effect, '+/-' = increases in one asset account accompanied by a corresponding decrease in another asset account. Note that the last transaction is in two parts: first, the receipt of cash, next, the outflow of books. Assets Liab. Own. Eq. 1. Investment of capital in business + 0 + by owner 2. Loan obtained from bank + + 0 3. Books purchased from distributor + + 0 on credit 4. Furniture purchased on credit + + 0 5. Payment made to creditor for 0 furniture 6. Furnishings purchased for cash +/ 0 0 7. Rent paid in advance for store +/ 0 0 premises 8. Wages paid to employees at the 0 end of first week 9. Advance received from customer + + 0 to supply magazines for one year 10. Books sold to customer for cash + 0 + 0
Problem 2 Your company, Rome & Hans, has just completed its first year of operations. Irma, the accounting assistant, has just handed you the list of account balances (below). You are pretty sure that she has the right numbers in the right accounts. Prepare a correct balance sheet in good form before you meet with the boss. Rome & Hans Balances as of 12/31/1999 Net income Equipment Inventories Notes payable Prepaid rent Solution: Rome & Hans Balance Sheet as of 12/31/1999 Assets Current: Cash Accounts receivable Inventories Supplies Prepaid rent Total current Noncurrent: Equipment Total Assets Liabilities & Owners' Equity Liabilities: Accounts payable 140,000 Notes payable 50,000 Total liabilities 190,000 Owners' Equity: Capital stock Retained Earnings Total Owners' Total LOE 780,000 195,000 975,000 195,000 800,000 140,000 50,000 15,000 Supplies 6,000 Accounts payable 140,000 Accounts receivable 120,000 Capital stock 780,000 Cash 84,000
84,000 120,000 140,000 6,000 15,000 365,000 800,000 $ 1,165,000
Finally. Her revised balance sheet appears below.000 985.000 Capital stock Retained Earnings 800.160.Problem 3 Irma (see problem 2) has found several unposted transactions from the last week of December.000 Notes payable 120. What happened during the period? Rome & Hans Revised Balance Sheet as of 12/31/1999 Assets Current: Cash Accounts receivable Inventories Supplies Prepaid rent Total current Noncurrent: Equipment Total Assets Solution: Several changes show in comparing the two balance sheets.000.000 15.000 Accounts payable 100. increased cash or accounts receivable and increased net income.000 5 . it seems that R&H received some payments on account since accounts receivable is reduced only by such payments (or by the write-off of a bad account). inventories went down $20.000 175. but it looks like the "missing week" included some sales which reduced inventories. On the surface.000.000 Total LOE 125. Liabilities & Owners' Equity Liabilities: 119. accounts receivable went down $20. Also. accounts payable went down $15. We do not know the exact details.000 Total Owners' $ 1. which flowed into retained earnings.000 780.000 and retained earnings went up $10.000 205. we can see that cash went up $35.000 $ 1.000 Total liabilities 6.000.160.000. it appears that R&H paid off some of its own accounts payable.000 50.000 Owners' Equity: 360.
(3) Late in December 1999.000 425. 1999.000 249.000 73.200.033.000 820.603.000 179.000 You discover that there are three items yet to be accounted for: (1) Interest on the note payable for the whole year 1999 was paid only on 11-00 and was consequently omitted from the 1999 accounts. Your first responsibility is to prepare financial statements for the year 1999.600. The note carries interest at 11 percent per annum and was issued in 1995.800.000 220.000 2. (2) Income tax needs to be accrued for the year 1999. Required Prepare an income statement and a retained earnings statement for the year ended December 31.000 65. The dividend is to be paid to stockholders in early 2000.000 1.000 400.000 1.000 1.520.000 675.000.000 2. 6 . and a balance sheet as on December 31.000 110.245. 1999. The income tax rate is 30 percent.000 1.000 1.Problems to Chapter 2 Problem 1: You have been hired recently as the new accountant of the Boston Turncoats Company.000 658. The former accountant has left you with a sheet of computer printout that contains a complete history of the accounts and balances as on 12-31-99. the company declared a dividend of $200. The history is as follows: Accounts payable Accounts receivable Accumulated depreciation (bldg) Accumulated depreciation (equip) Advances from customers Buildings Capital stock Cash Cost of goods sold Depreciation expense Equipment Insurance expense Land Merchandise inventory (12-31-99) Note payable (due 6-30-02) Prepaid insurance Retained earnings (on 1-1-99) Sales Selling expense $815.
600 Retained Earnings Statement Retained earnings on 1-1-99 $ 658.600 $2.600.000) 1.000 Income tax payable 164.000 7 .000 Dividend payable 200.000 Total L + SE $5.000 Accounts receivable 425.600 Balance Sheet on December 31.000) (73.400 $ 383.000 Liab & Stock Equity Liabilities: Accounts payable $ 815.000 $2.520.000) 548.400 Notes payable 1. 1999 Assets Cash $179.000) Retained earnings on 12-31-99 $ 841.000 Building 1800000 s Acc Dep 820000 980.000 164.000) (132.441.000 (220.202.760.Solution: Boston Turncoats Company Income Statement for 1999 Sales Cost of goods sold Gross Margin Depreciation expense Insurance expense Selling expense Interest expense Income before taxes Income tax expense Net Income $ 2.202.603.000 Land 2.033.000) (110.000 (1.000 Retained earnings 841.000 Merchandise inventory 675.200.400 Stockholders' Equity: Capital stock $1.600 Dividends declared (200.000 Equipment 1245000 less Acc Dep 400000 845.000 Prepaid insurance 65.000 Advances from cust 249.083.000 Total assets $5.000 Interest payable 132.000 Net income for 1999 383.
000 85.000 Rent payable (Feb) Rent expense + 6.000 28. Required: Prepare an income statement for February 1999 and a balance sheet as on February 28. 1999.6.000 was purchased on account.000 were paid. 5.700 300. Income tax was not paid.000 were paid. 7. Employee salaries of $45.200 40.000 . Inventory on hand at the end of the month was $159. Depreciation expense for the month was $3.130. 7.000 400.000 60.400 46. Rent for January of $6.000 120.300 Merchandise inventory + Accounts payable + Merchandise inventory Cost of goods sold + Accounts payable Cash - Rent payable (Jan) .000 6.000 were paid in cash.500 Transactions during February were as follows: 1. 3. 2. 10. 4. 2.000 60. 6.Problem 2 Watanabe Clothing Store has the following account balances on January 31. 8. February's rent of $6. The income tax rate is 30 percent.000 in cash.300 + 6.000 150. 5.000.000 + 162. Accounts payable of $85. 9. 4.300 was unpaid. Solution: Effects of February transactions: 1.000 85. Sales (all on account) amounted to $162. Merchandise inventory of $99. Cash Accounts receivable Merchandise inventory Equipment Accumulated depreciation Rent payable Accounts payable Capital stock Retained earnings $ 68.6.000 99. 1999. 3.000 99.000 137.200 Miscellaneous expense + Cash 28.200 was paid in February. 6.000 + 130.000 Credit customers paid $130.000 8 .200 Cash .000. Sales revenue Accounts receivable Accounts receivable Cash + 162. Miscellaneous expenses of $28.
790 Retained Earnings Statement Retained earnings on 1-31-99 Net income for Feb.300) 19.910 Total liab $ 66.000 Stockholders' Equity: Liab & Stock Equity Liabilities: Accounts payable $ 54.000 ( 60.700 Rent payable 6.000 ( 3.290 Balance Sheet on February 28.200 9 .8.000 5.910 Capital stock $ Retained earnings $ Total L + SE $ 300.700 5.000 151. 9.000 Equipment 400. Income tax expense Income tax payable Watanabe Clothing Store Income Statement for February 1999 Sales Cost of goods sold Gross Margin Depreciation expense Miscellaneous expense Salaries expense Rent expense Income before taxes Income tax expense Net Income $ 162.910 $ 13.000 247.790 ( 0) $ 151.200 Accounts receivable 78.000 3.290 451.000) (28.910 (from income statement) 10.000 .000 Merchandise inventory 159.000 3.500 13.000) (45.910 5. Salaries expense Cash Depreciation expense Accumulated depn + + + + + 45.200 Total assets $ 518.000) ( 6.000 45.300 Income tax payable 5.000) 102.Acc depn 153. 1999 Dividends declared Retained earnings on 2-28-99 $ 137.290 518. 1999 Assets Cash $ 34.
Prepare the necessary journal entries to account for the additional information items 1-8 above. (Dr) (Cr) Cash $ 609 Accounts receivable 647 Merchandise inventory 2. 3. all in good form. Sales salaries are paid monthly. The balances of the ledger accounts on January 31. Prepaid rent represents one year's rental of store buildings.459 $ 5. B. showed inventory of $238. As inventory is purchased. 6. 10 . 8. paid in advance on August 1.Prepare an income statement. 7. Sales salaries for January amounted to $20. The company declared dividends for the year amounting to $50. The average life of the equipment is ten years. Store equipment is being depreciated on a straight line basis. 1998. 1.Problems to Chapter 3 Problem 1 Toy Town Company is a retailer of toys. and expects delivery to be made in two months. on the first Friday of the week following the end of the month. prior to the necessary adjustments.000 $ 5. 1998. and balance sheet for Toy Town. 1999. were as follows (all amounts in thousands of dollars). 5. Toy Town has placed an order for these toys with one of its suppliers. Required A. A physical count at the end of January. retained earnings statement. 2. it is added to the merchandise inventory account.923 Store equipment 500 Prepaid insurance 115 Advertising expense 54 Sales salaries expense 180 Administrative salaries 80 Miscellaneous expenses 11 Prepaid rent 240 Rent expense 100 Accumulated depreciation $ 150 Notes payable (due 2002) 360 Accounts payable 386 Common stock 400 Retained earnings 163 Sales 4.459 Additional information is given below (figures in thousands). The note payable carries annual interest of ten percent. 4. The income tax rate is 30 percent. 1999 (the end of Toy Town's fiscal year). The note was issued on September 1. The sales figure includes $100 received as an advance from a major customer.
6. Depreciation expense 50 Accumulated depreciation 2.215 Advertising expense (54) Sales salaries expense (200) Admin salaries expense (80) Miscellaneous expenses (11) Rent expense (220) Interest expense (15) Depreciation expense (50) Pretax income 585 Income tax expense 176 Net income $ 409 11 .685) Gross margin 1. 1999 Sales revenue $ 3. 7. Cost of goods sold Inventory 2685 50 2685 20 120 15 100 50 176 Sales salaries expense 20 Salaries payable Rent expense Prepaid rent 120 Interest expense 15 Interest payable Sales revenue 100 Advances from customers Dividends 50 Dividends payable Income tax expense 176 Income tax payable Income Statement for year ended Jan 31. 4. 3. Journal entries: 1. 5. B.900 Cost of goods sold (2.Solution: A. 8.
029 Total 400 522 386 15 50 20 176 100 747 360 300 922 $ 2.029 12 .Retained Earnings Statement for year ended Jan 31. 1999 Beginning balance Net income Dividends Ending balance $ $ 163 409 (50) 522 Balance Sheet on January 31 1999 Assets Current assets Cash $ Accts receivable Merchandise inventory Prepaid insurance Prepaid rent 609 647 238 115 120 1. Equity Current liabilities Accounts payable $ Interest payable Dividend payable Salaries payable Income tax payable Advances to customers Noncurrent liabilities Notes payable Stockholders' equity Common stock Retained earnings Total $ 2.729 Property Plant & Equipment Store equipment 500 Accumulated depn (200) Liab & St.
586 $ 191. REQUIRED: 1) 2) EXHIBIT A State Express Inc.286 Total Equities $1.764. Noncurrent liabilities: Note payable (12%.900 $ 1.000 46. 1999 is given in Exhibit A.000.300 Prepare an income statement (in good form) for the year 2000. Exhibit B provides a listing of cash receipts and expenditures obtained from the company's cash book.300 18.000 56.000 30.000 13. Balance Sheet as of December 31.000 Stockholders' Equity: Common Stock 500. Exhibit C contains additional information that should be considered in preparing the required statements.000.Problem 2 State Express Inc. The balance sheet of the company on December 31.000 Acc.100 1. Depn Total Total Assets 70. due 1/1/2009) 1.000 Automobiles Acc.764.000 294.000 51.000 Retained Earnings 213. 1999 Assets Current Assets: Cash Prepaid Rent Gasoline Inventory Unexpired Insurance Total Noncurrent Assets: Airplanes 2. provides overnight package and mail delivery services.686 Equities Current Liabilities: Salaries Payable $ Accounts Payable Interest Payable Total 3.469.586 13 .900 1. Prepare a balance sheet (in good form) as of December 31. Depn 587.413.286 Total 713.400 15.286 42. 2000.
3. The estimated life of the aircraft is 20 years and for automobiles is 7 years.000 Wages 86.000 Maintenance 7. Net income. Unpaid bills for gasoline purchases were $ 5. 14 . Summary of Notes 1.000 Advertising 5. Gasoline inventory at the end of the year was $ 35. 1998.000.000 Rent 45.000 Receipts: Cash Sales Collections from credit sales Proceeds from stock issuance Advances from customers Total $374. 7.600 EXHIBIT C State Express. is taxed at a 30 percent rate. 2.000. Outstanding customer accounts (to be collected) $ 8.000 Disbursements: Gasoline cash purchases $ 13. 4.800 Payments to creditors (for gasoline purchases) 19. 6. Inc. if any.000 50.000.400 Interest 130. 8. Unpaid salaries at the end of the year amounted to $4.000. 1999. Advances from customers refers to payment received from a corporate customer for services to be provided in 2001. 3. 10.200 Miscellaneous 5. The most recent interest payment was made on October 31.000 14. There were no prepayments or accrued expenses other than those noted in Exhibit C. Prepaid insurance refers to a four year policy taken out on January 1. 5.400 $ 62.000 30.000 Total Increase in cash 311. 9.EXHIBIT B State Express Inc. Cash Receipts and Disbursements for 2000 $ 280.
1999 Beginning balance .000 Property Plant & Equipment Airplanes $2.086) Advertising expense (5.100) 48.000.359.386) Retained Earnings Statement for year ended Jan 31.000) 1.Dividends Ending balance $ $ 213.286 (144.677.000.000) Interest expense (120.000 Automobiles 70.400) Wages expense (86.900 Balance Sheet on January 31 1999 Assets Current assets Cash Accts receivable Gasoline inventory Prepaid insurance Total CA Liabilities & St.700) Maintenance expense (7.000 Salaries payable 4.000 Advances to customers 30.386) Net income (loss) $ (144.000) (446.677.000 Total CL 59.000 21.000 Stockholders' equity Common stock 550.000 35.000) Depreciation expense (110.000) Miscellaneous expenses (5.000 Interest payable 20.386) 0 68.900 Total $ 1.000 318.900 Total PP&E 1.000 Retained earnings 68.900 Total $1.Solution State Express Inc.000 Accumulated depn (687. Equity Current liabilities Accounts payable $ 5.000 Accumulated depn (23.900 Total SE 618.313. Income Statement for year ended Jan 31.Net loss .000 Noncurrent liabilities Notes payable $1.000 less Operating expenses Gasoline expense $ (31. 1999 Sales revenue $ 302.200) Insurance expense (21.000 8.000) Rent expense (60.900 15 .900 $254.
Military Equipment Division is to supply 30 aircraft to the Navy in 1999. $32. The Machine Division signed a contract in 1997 for the sale of $60. The two most likely acceptable alternatives are to recognize revenue of $250 million (based on percentage-of-completion) or $200 million (based on collection). Actual costs in 1997 were as expected. The normal annual supply will Riverbrook gas at fixed worth of gas was be for $1 million. The Machine Division completed manufacture of $82. 3 Continued) Problem 3 Thoroughly Diversified Company (TDC) has a number of operating divisions.000. 2. under which TDC would have to wait until 1999 to recognize revenue. Revenue should be zero. Revenue should be $32. The percentage-of-completion amount of $250 million has been calculated by using the proportion of completed cost ($150 million out of expected $300 million or 50 percent) as an indication of the proportion of completed effort.000. The completed contract method.000 of the constract is premature. The Gas Division entered into a long term contract with Company. There is no guarantee that the product will be sold. The Military Equipment Division entered into a contract with the US Navy on January 1.Recognizing Income (Chp. The aircraft are expected to cost the division $300 million to manufacture ($150 million in 1997. 1997. The product is yet to be produced and delivered for future years and significant uncertainties remain. which is conservative. Both methods may be better measures of accomplishment than the completed contract method. 4.000 worth of machinery for which there is no buyer yet. Revenue should be $500. The Navy made payments amounting to $200 million in 1997 as per the contract. During 1997. In 1997. 4. 2. and the sales department is optimistic about signing a contract with a well-established client in early 1998.000 supplied under the contract. In each of the following cases indicate the amount of revenue that you would recommend that TDC should recognize in 1997. Recognition of the remaining $28. 3. presumably the collectibility of the remainder is assured. significant uncertainties remain. since the product has not been made or delivered. 1997. this line of machinery has been successful in the past. Solution 1. and are being sold to the Navy for $500 million. $500. based on delivery. The Metal Stamping Company has paid $30. $100 million in 1998 and $50 million in 1999). The contract provides for Gas Division to provide prices for five years from July 1. briefly providing reasons for your recommendation. 16 .000 worth of machinery to the Metal Stamping Company.000 worth of machinery were manufactured and delivered under this contract. 1. 3. The customer has already paid most of this.000 in 1997. Under the terms of the contract the remaining amount is to be paid in 1998. based on delivery. Under the terms of the contract. However. would be appropriate if collectibility of payments were not assured.
Assume that on 1/12/98. Underestimated. an account in the amount of $16.000 Required: 1. Answer questions 1-3 assuming that the allowance for doubtful accounts had a $5. 5. Bad Debt Expense $69. Make the necessary journal entry to record this event. Assume that this year the company estimates that 8% of accounts receivable will be uncollectible.000 17 . 4-6.000 credit balance shown above. 6.000 debit balance prior to adjusting entries instead of the $3.000 is deemed uncollectible.000 Accounts Receivable $69. 3. Overestimated. Bad Debt Expense $61.Problems for Chapter 7 Problem 1 The 12/31/97 unadjusted trial balance for ABC Co.000 4.000 $16.000 Allowance for Doubtful Accounts $ 3. 2 3. Did the company over or underestimate bad debts at the end of 1996? 2.000 Allowance for Doubtful Accounts Allowance for Doubtful Accounts $16. indicate the necessary adjusting journal entry for bad debts. shows the following balances: Debit Credit Accounts Receivable $800.000 $16. Solution: 1.000 Accounts Receivable $61.000 Allowance for Doubtful Accounts Allowance for Doubtful Accounts $16.
000 Sel & Adm Expense 300. Would the LIFO method have been acceptable if the company was in the business of selling perishable products? Explain. In 1999 the company began the year with 1. Required 1.450.000 Income Tax Expense 164.000 Cost of Goods Sold 1000 X $110 + 5000 X 115 + 5000 X 120 + 1000 X 125 = 1. Prepare income statements for 1999 in good form. and (B) the FIFO method.000 Cost of Goods Sold 1000 X $130 + 3000 X 125 + 5000 X 120 + 3000 X 115 = 1.160. The income tax rate was 40 percent.000 FIFO Sales $ 2.000 Net Income $ 246.000 Sel & Adm Expense 300.000 Pretax Income 450. LIFO Sales $ 2. Solution: 1. 18 .000 Gross Margin 710.000 2.Problems to Chapter 8: Problem 1 General Parts Company has only one product line.410.000. assuming General Parts uses (A) the LIFO method in accounting for inventories. in both cases applied on a periodic basis.000 Income Tax Expense 180.000 units in inventory that had been purchased for $130 each.160. 2. LIFO would be as acceptable for perishable goods as for anything else.000 Pretax Income 410.000 Gross Margin 750. The method used in accounting for the cost of inventory need not correspond to the physical flow of the product. Purchases and sales in 1999 were as follows: January 17 March 25 May 18 August 7 October 12 December 1 Purchased 3000 units at $125 each Purchased 5000 units at $120 each Sold 4000 units at $180 each Purchased 5000 units at $115 each Sold 8000 units at $180 each Purchased 1000 units at $110 each General selling and administrative expenses in 1999 amounted to $300.000 Net Income $ 270.
since cost of goods sold is higher and income lower. 4. 19 .Problem 2 Rhodes Inc. LIFO/FIFO are methods to assign cost to inventories.000. or lower. c) LIFO income tax expense is lower. Purchases = Cost of goods sold . Solution 1. or lower if the company had been using LIFO rather than FIFO for inventories? Explain. the same. prices must be rising.'s cash flow from operations be higher. b) LIFO current ratio is lower. + End. The quantity of apples held in inventory was fairly stable over the three years. Ignoring tax effects. or lower. = 780. and ending inventory in LIFO represents older. + Purchases .000 on December 31. Cash flow from operations will be the same in both cases.000 on December 31. since most recently purchased goods are at a higher price.000 = $805. since ending inventory goes into current assets which is the numerator of this ratio.000 . the same. and $193.000 2. is a wholesaler of apples.000 + 193. 2000. the same.000 on December 31. 1998. lower-priced inventory. Inv. if it used LIFO instead of FIFO in 2000? Explain. What was the cost of apples purchased by Rhodes in 2000? 2. $168. LIFO will have higher cash flow from operations because of lower taxes. Inv. 1999. Inv. The company uses FIFO in accounting for inventory. Inv. 4. Thus: a) LIFO cost of goods sold is higher. (b) the current ratio at the end of 2000 and (c) income tax expense in 2000 have been higher.168. Cost of goods sold in 2000 was $780. Since inventory quantities are stable but value is rising. The company's inventory was reported at $150.'s cash flow from operations be higher. Required 1. if it used LIFO instead of FIFO in 2000? Explain. they do not affect the inflow or outflow of cash. Considering tax effects. would Rhodes Inc.Beg. 3. 3. would Rhodes Inc. Cost of goods sold = Beg. Would (a) cost of goods sold in 2000.End.
000 3.000 7.000 lbs Because of temporary scarcities.180 2000 Ending inventory = 1.000 Plan A 2001 4.400 X $52 + 2.615 ($52) 7.600 2000 2.040 ($50) 8. Sales for 2001 are expected to require 7.600 lbs 4.680 ($50) 7. Calculate the cost of goods sold and dollar value of ending inventory for the year 2000. Required 1.Problem 3 The Oliver Company sells chemical compounds made from fasbium.400 X $52 + 2.000 7.600 X $45 = $189.600 8. The company uses LIFO for its inventories. Calculate the cost of goods sold and dollar value of ending inventory for 2001.800 Plan A: 2001 Cost of goods sold = 3. assuming the purchasing manager's advice is followed (Plan A) and the controller's advice is followed (Plan B). Purchases and ending inventories in subsequent years were as follows: Year 1998 1999 2000 Purchase Price/lb $ 50 50 52 Purchases $384.000 ($62) 7.600 lbs 2. 1998 consists of 3.000 X $45 = $386. She says that if inventories are allowed to decrease.000 448.215 4.000 lbs. fasbium is expected to cost $62 per lb.600 7.600 X $62 + 1.000 Dec 31 Inventory 3. 3.600 ($62) 7. at the end of 2001. If you were making the decision would you agree with the controller or the purchasing manager? Solution: (in lbs) Beginning inventory + Purchases (price/lb) .000 352. the company will pay a very large amount in income taxes (at its current income tax rate of 40 percent). The inventory on January 1. Calculate the tax savings for 2001 if the controller's advice is followed rather than the purchasing manager's. in 2001. Using LIFO. The controller argues that such a policy is foolish.080 3.Sales = Ending inventory 1998 3.000 600 Plan B 2001 4. this was valued on the balance sheet at $45 per lb.000 20 . 2.000 2001 Ending inventory = 600 X $45 = $27.000 lbs of fasbium.000 4. She suggests that the company maintain a 2001 year end inventory of 4. The purchasing manager suggests that the inventory be allowed to decrease to 600 lbs.000 lbs.040 2.000 Cost of ending inventory: 3000@45 2600@45 2600@45 +600@50 +1400@52 600@45 2600@45 +1400@52 2000 Cost of goods sold = 7.215 X $52 = $375.600 1999 3.
Why? 5.400 X $52 + 2.Plan B: 2001 Cost of goods sold = 7.000 tons 1. along with ending inventory of Blast-X.4 X (434. percent tax rate.800 Tax difference under two plans = Income tax rate X (Diff in COGS) = 0. 1996 balance sheet? 3.000-386. which is not very clever. LIFO FIFO 21 . What would the company have shown as gross margin in 1996 from Blast-X if it used LIFO? What would the cost of ending inventory be on the December 31.200 If the company would have to buy the additional quantity at a price close to $62 per pound in any case. This ensures that inventory does not remain in the warehouse long enough to create an explosive problem.200.000 2001 Ending inventory = 1. the opposite has been the case in recent years for a number of US companies. However. What would the tax savings be under LIFO in 1996? 4. What would the company have shown as gross margin in 1996 from Blast-X if it used FIFO? What would the cost of ending inventory be on the December 31. then the controller's advice has merit. Year 1994 1995 1996 Price per ton $750 $800 $900 Purchases 800 tons 1. Which inventory method would you recommend to the management of the company.400 in 1996.200 tons Ending Inventory 100 tons 200 tons 400 tons The selling price of Blast-X was $1. then the company is paying $10 extra per pound (a total of $34. The company has a 30 Blast-X is a product that becomes unstable with age. and 2. the company adopted a new product line.600 X $45 = $189. Required 1. In 1994. It is ITR's practice to ship the product to retail customers on a first-in first-out basis.000) = $19. 1995 and 1996 and the purchase price. 1996 balance sheet? 2. Indicate two reasons why this might be the case. If the price will return to $52 per pound. Blast-X. FIFO generally produces a higher income than LIFO. The table given below shows the quantities of Blast-X purchased in 1994. Problem 4 International Terrorists Resources (ITR) is a wholesaler of explosives.000 X $62 = $434. Solution 1.000) for the tax savings of $19.
400.000 1996 ending inventory Revenues Cost of goods sold Gross margin 3.000 $ 500.000 880.000 $1.200 tons @ $900 1.3 X Difference in cost of goods sold = $6.200 tons @ $900 200 tons @ $800 + 800 tons @ $900 = $880.000 900.000 5.000 tons @ $900 = $900.400.1996 beginning inventory 1996 purchases 1996 cost of goods sold 100 tons @ $750 + 100 tons @ $800 1.000 400 tons @ $900 = $360.000 $ 520.000 Tax savings = 0. FIFO would not result in higher income if (1) prices of inputs are decreasing or (2) inventories are decreasing 22 .000 200 tons @ $800 1.000 100 tons @ $750 + 100 tons @ $800 + 200 tons @ $900 = $335. $1.
What is the depreciation that Conaway would have recorded on the machine in 1998 and 1999 if it had used (a) the units of production method. Conaway reassessed the remaining useful life of the machine to be 3 years rather than 4. 5. What was the cost assigned to the machine on Conaway's books when it was purchased? 2.000.000. Conaway's income tax rate is 40 percent. Conaway sold the machine to Baril Inc. The price was $31. depreciation.000. Required 1. In 1999 Conaway produced 20 million meters of cable. using the straight line method. In early January 1999. with no salvage value. Compute depreciation for 1999. Conaway incurred costs of $200 in transporting the machine to the factory site and a further $800 in installing the machine. Make the journal entry for depreciation of the machine for the year 1998. 1998. Conaway uses straight line 3. 2001. The machine was expected to produce 100 million meters of electric cable over its useful life of 5 years. for $25. In addition. Conaway replaced the motor at a cost of $5. Make the journal entry for the replacement of the motor in 1999.Problems to Chapter 10: Problem 1 Conaway Company purchased a machine for cash on January 1. the motor of the machine burnt out unexpectedly. The useful life of the machine was not expected to be extended by the new motor. What is the gain or loss that Conaway recorded on the sale of the machine? 6. at the end of which time it was expected to have scrap value of $2. On January 1. (b) the sum of the years digits method and (c) the double declining balance method? 7. Assume that when the motor burnt out and the new motor was put in. 23 . 30 million meters of cable were produced in 1998. What is the depreciation that Conaway recorded on the machine in 1998 and 1999? 4.000.
Book value at beginning of 1998 = Cost .$6.680 7.000.$12.000 = Proceeds from sale .Accum depn = $32. 3. Depreciation expense Accumulated depreciation Gain $6.000 .000 Double declining balance: 1998 depreciation $32.000 Remaining useful life = 3 years 1999 depreciation = 26000/3 = $8.000 Units of production: Depreciation per million meters = $30. Repairs expense Cash $5. Cost assigned to machine = $32.Solution: 1. 6.800 1999 depreciation $19.000 .$2.book value = $25.200 X 40 % = $7.000 1999 depreciation $300 X 20 = $6.000 .000 (not an asset) Straight line depreciation in each year is ($32.000) = $5.000.000 $6. 2. 4.000 = $26.000 Sum of the years digits: Sum of the years digits = 1 + 2 + 3 + 4 + 5 = 15 1998 depreciation $30.000 $5.000 X (5/15) = $10.000 X 40 % = $12.000 X (4/15) = $8.667 24 . 5.000)/5 or $6.000/100 = $300 1998 depreciation $300 X 30 = $9.000 .000 1999 depreciation $30.($32.
a new game takes in the most cash. Solution A. both on a straight line basis. Giant Drug Co (GDC) acquired BRC for $20 million. KA's management wishes to establish a depreciation policy that will match the cost of the machine to the revenues produced by the machine on a more-or-less relative basis. considering that these did not appear as assets on BRC's books? C.e. However.($1. Inc. Compute GDC's amortization expense for 2000. since it takes a while for their "regulars" to learn to master it. In 1999. Patents that are obtained because of internal research cannot be capitalized (treated as assets).585 M. These two phases of a game's life take up about one year and account for about onehalf the game's lifetime (i. it generally does not hold enough interest for the clientele to justify occupying the floor space after three years. In this case.e. Although the game will physically last much longer. However.2 million and intangible assets valued at $17. Amounts spent on research and development were expensed as incurred.025 M. C. purchased patents are assets.8 million (consisting of patents developed by BRC). Required: A.8 M/5. Also. KA's experience has shown that the useful economic life of the typical game machine is three years. GDC chooses to amortize the acquired patents over five years and goodwill over forty years. Intangible assets are generally amortized on a straight line basis. Problem 3 Klaxon Action. Goodwill is the excess of acqisition cost over the sum of the values of individual assets obtained in an acquisition. B. they want a time-based approach (i. used machines can typically be sold for only five to ten percent of their original purchase price.2 M + 17. Total amortization expense is $3. Given the obsolescence factor. or $0. once mastered. or $3.. leading to amortization expense of $1 M/40. not "unitsof-production"). three-year) revenues.8 M) = $1 M.Problem 2 Basic Research Corporation (BRC) was in the business of developing new products for the pharmaceutical industry. Goodwill is being spread over 40 years. Compute the amount assigned to goodwill in GDC's books as a result of the acquisition. assuming that the only relevant items are the assets acquired in the BRC transaction. 25 . B.56 M.. What is the explanation for GDC's accounting for the patents. GDC acquired tangible assets worth $1. a game remains popular for a while since the "pros" like to show off and set records. (KA) operates a string of video game arcades. KA is currently revising its policy on depreciating the video game units. goodwill = $20 M . In general. leading to annual amortization of $17. Patents are being amortized over 5 years.
666666 expense $2133 $ 711 ending balance $1067 $ 356 (original .salvage) * (countdown year)/SOYD year year 1 year 2 depreciable amount $3000 $3000 countdown yr 3 2 SOYD 6 6 expense $1500 $1000 note: countdown year is -(life in years .salvage)/life in years (3200 .666666 . 26 . DDB. (b) Which method would you recommend to KA? Why? Solution: (a) Straight-line: (original .(year in life -1)) (b) Given the desire to match an accelerated revenue pattern. presumably at different ages. double declining balance. one of the accelerated depreciation methods is called for. Note that KA has a variety of machines. The one that matches KA's expectations most closely seems to be the S-O-Y-D method.REQUIRED: (a) KA has just purchased "77 Moebius Strip" for $3200. They expect to use it for three years and then scrap it for $200. Calculate the depreciation expense for year two for this machine under straight-line. and sum-of-years-digits methods. since it expenses 1/2 the total in the first year and leaves a scrap value of 200 on the books at the end of three years. The other accelerated method. expenses 2/3 the total in the first year. Odds are that the simple straight-line total will not be materially different from the total given by S-O-Y-D.200)/3 = $ 1000 each year is the same Double declining: balance * (2/life in years) year year 1 year 2 S-O-Y-D: beginning balance rate $3200 $1067 .
a risky bond will sell at a premium if its face rate is higher than market.057. Assume that the market rate was not 12% and the issue sold at a discount.345. 1 accrual): 1st: . amort = 6.681. 5. .336. 1995.000.755. total is $105.345. correct explanation. 4. 2.amort) old bal = 105. Network television financial commentator Flint Buckmeister interpreted the result as follows: "It is evident that the Street doesn't have much confidence in Megafloat. Lack of confidence might affect the market rate. explain what he is talking about. 6%. Face value.500. For If not.600. 2 interest expense (1 payment.47) + ($1000 * .000 bonds with the following characteristics: 1. $1000 each Coupon rate of 13% payment schedule -.6. Solution: (1) PVA ($65.000 .1/1 and 7/1 maturity date -.755. new net bal = 105. A financially secure bond will sell at a discount if its face rate is lower than the market rate. give the 27 . 2005 effective interest rate (yield) of 12% REQUIRED: (1) What was the total amount received for the bonds? (2) What was the total interest expense related to this bond on Megafloat's 1995 income statement? (3) Disregard your answers to parts (1) and (2).300 = 6. 20 per) + PV (1000.700.000 = 6.300 = 154.January 1.336.345." Is Flint right? If so. Their bonds wouldn't sell without a discount.318 (3) Flint is confused.300 2nd: . Megafloat Corporation sold 100.300 + 6. Conversely.55 per bond 100. 20 per) = ($65 * 11. 6%.600.06 * 105.000 (2) 1995.755.018 = 12. 3.312) = $1.300.06 * 105.Problems to Chapter 11: Problem 1 On January 1.000 bonds. The reason that some bonds sell at a discount is that the market interest rate for that level of risk is greater than the face rate.06 * new net bal = .06 * (old bal .018 Total = 6.
Solution: (1) assuming June 2nd: PVA (50.06.06. since they are receiving a promise to pay from the issuer. under those circumstances? How much would a $1000 bond sell for At (3) How would these changes in the prevailing interest rate affect the interest expense reported by Boston Beanery on its income statement? (4) Bonds are said to be relatively risk-free investments in comparison to common stock. 10% coupon bonds.04. what price could a single bond be purchased on the open market? (2) In 19x6. however.74 = $853. Costs to the issuer. Funding through stock issue is much less risky to the issuer.05 + 122. since no such requirement exists. Thus. Costs of equity funding are high because the investor expects a higher return for exposure to higher risk. especially in an environment where the likelihood of bankruptcy is significant. themselves. the prevailing interest rate had increased to 12%. will not affect how the bonds are reported by the issuing company.32) = (50*17. Boston Beanery Inc.74 (3) Fluctuations in the market rate will affect the trading price of the bond in the bond market.32) + PV (1000. REQUIRED: (1) In 19x4. The cost of debt is lower to the issuer. bonds are quite risky. issued $10 million of 20 year. follow just the opposite path.06 = $1178. rates were down to 8%. 28 .. From the issuer's perspective.123) = 731.Problem 2 On June 1..36) = (50*14. on the other hand. The semiannual interest bonds sold at face value.04.621)+(1000*.79 (2) PVA (50. 19x2.68 + 285. They are not risk-free.87355) + (1000*.. market changes. but Boston Beanery will not be affected. Whether or not the plans for the proceeds from the issue turn out to be incomeproducing.. specific cash outflows are promised. Its liability will remain the same. Is this true? Explain your position.28506) = 893. The issuer's return from using the proceeds need not be as smooth or immediate.36) + PV (1000. (4) Bonds are relatively less risky to the investor.
(c) Bond liability = Bonds Payable + Discount amortization = $850.104 (present value tables. 19x8. Given the same market conditions.000.Problem 3 On January 1. SBC issued bonds with face amounts totalling $1 million.900 + ($102. 12 percent). of coupon interest The interest rate used to compute present values is the market rate of interest at the time of the bond issue.615.19x9? (d) SBC had considered issuing zero coupon bonds instead of the standard bonds. with annual payments on December 31.000) = $853. 20 years. what would be the face value of zero coupon bonds that SBC would have had to issue in order to receive $1 million in proceeds? Solution: (a) The proceeds from the bond issue would be: $1. In order to receive $1 million in proceeds SBC would need to issue bonds with a face value of $1.900 = $102.v.008 (d)A zero coupon bond with a face value of $1. REQUIRED: (a) How much did SBC receive for the bonds? (b) What interest expense related to the bonds did SBC report in 19x8? (c) What did the net bond liability total on January 1.385.108 .900 p. SBC's fiscal year corresponds to the calendar year. issued at a market rate of 12 percent. 29 .104 + $100. 12 percent) by the value of the liability on the books at the beginning of the period.469 = $850.104 = $9.000 X 7. Thus annual financial statements are dated December 31.000. due 20 years from now. of maturity amt p.108 Interest expense is computed each period by multiplying the true rate of interest incurred by the company (the market rate at the time of issue.$100.000/0. SBC received proceeds such that the effective yield was calculated to be 12%.000 X 0. 12 percent. will bring in $0. (b)Interest expense = 12 percent of $850.v. The bonds had a 20 year term to maturity and a coupon rate of 10%.
Steeler old boy.Problem 4 "Steel" Wheeler. your obnoxious classmate. It's a good deal for them. Solution: Cheeses. was reading the Wall Street Journal the other day in the MBA lounge." I see MegaTrump Co just issued its 10 year. to no one in particular. indicating that the market thinks they are a solid bet in the future. premiums or discounts do not directly reflect the market's valuation of the future prospects of the company. avenge yourself for the embarrassment "Steel" caused you in last week's OB class by pointing out three serious misconceptions in his statement in front of the MBA Association president. 10 percent bonds at 12%. would be issued at a discount." REQUIRED:In your most efficient style. Besides. This is always the case. too. Finally. Isn't that right Stephanie? 30 . who has just walked in with a cup of coffee. As you know. because their interest expense will only be 10% while their competitors will have to borrow money in the bond market at the prevailing rate of 12%. they will cost the company the market rate of interest (in this case 12 percent). not a premium. since the market will discount the bonds. bonds with a coupon rate of 10 percent. issued when the market rate is 12 percent. this will yield them a premium. He peered over the top of the paper and said. Stephanie Goodfund. but rather the relationship between the coupon rate on the bonds and the rate the market requires.
each common shareholder will be paid the following amount: Par value per common share plus the proportionate (per share) amount of additional paid in capital plus the proportionate amount of retained earnings. 10. authorized. Compute earnings per common share for 19x7.000 shares Common stock.Problems to Chapter 12 & 13 Problem 1 Joyful Company's December 31. when the price of Joyful's common stock was about $70.pref div)/com shares outstanding = (250. Joyful considered two choices. 19x6 balance sheet shows the following in the stockholders' equity section: Stockholders' Equity: Paid-in-capital: Preferred stock.000)/90.000 1.000 Net income in 19x7 was $250.700.000) $2. In early 19x8. (c) total stockholders' equity (d) the retained earnings account.000. (b) the book value per share of Joyful's common stock.50. "If the company goes into liquidation. Joyful declared a cash dividend of $1 per share on common stock.000 shares Total stockholders' equity $ 500. Earnings per share = (NI .22 31 . 10 percent. What will Joyful report on its December 31. $10 par.400.000 . (1) issuing a 2-for-1 stock split or (2) issuing a 100 percent stock dividend.000.000 1. $1 par. 19x7 balance sheet as the retained earnings balance? 3. What is the likely effect of each alternative on (a) the market price per share of Joyful's common stock. in addition to the dividend on preferred stock. issued and outstanding 50.000 shares Additional paid in capital Retained earnings less Treasury stock. authorized and issued 100. At the end of 19x7. Required 1.000 = $2. 2. 4.000 100.000 (300." Do you agree with this statement? Solution 1.
19x8: Declared dividends of $1. . 32 .Common dividend Retained earnings 12/31/x7 (a) (b) (c) (d) mkt price bk value total SE ret earn $1.000 .000 shares. . . Total stockholders' equity . consisted entirely of the following items: Common stock ($1 par. $50 August 28. 15 million shares Additional paid-in capital . . $75 October 31.000) (90.000 During 19x8. . . 96. $50 November 10. REQUIRED Prepare the stockholders' equity section.000 shares. . . . .50 per share. 19x8: Bought back 20. .400. Par value split as well. .000) $1. Retained earnings 12/31/x6 + Net income for 19x7 . . the stockholders' equity section of C'est Ennui.510. 19x8: Issued 450.000 100 % stock dividend Reduced to about half Reduced to half Unchanged Reduced 3. .000 . . . 19x8: Declared a two-for-one stock split. . 4.$276. Problem 2 On December 31. .000 (50. of C'est Ennui's December 31.000 250. . . . 19x8: Announced net income of $25. authorized) .5 million. 2-for-1 stock split Reduced to about half Reduced to half Unchanged Unchanged 4. .250.2.000 shares from holders $52 December 7. . . 19x7.000. .Preferred dividend . . 19x8: Issued 550. Inc. in good form. . .250. the following events took place (treasury stock policy is to use the cost method): MARKET PRICE DATE: ACTIVITY: PER SHARE: April 1. . . . . . . . . $58 "Market price per share" refers to the price at which the share was trading on the particular day.500. Retained earnings . . 175. common stockholders will share the assets remaining after creditors and preferred stockholders are paid off. . 19x8 balance sheet. Only in the unlikely event that the liquidation value of the assets is exactly equal to the book value will the statement be true. $55 (ex dividend) December 31. If the company enters liquidation.000 .
000 issued Additional paid in capital Retained Earnings Treasury Stock (200.050.000 million]. which is $1. 19x8 balance sheet of Prey Inc.000 shares authorized.5m -(10.000 = $1.000 shares authorized. 19x7. a negative stockholders' equity account. December 31. $1 par.200 The 33 . 2.980.740. $100 par.200.25m +(.000 21.000).000 issued and outstanding Common stock.000 (7.Solution: In order to prepare the stockholders' equity section it is necessary to know the effect of each transaction during the year. doubled on October 31 [balance now 11. less 20.000) $42.000 * $52) = (1.25m +25.50 per share times the number of shares outstanding (4.280.000 shares) Total Stockholders' equity Net Income in 19x8 amounted to $15.000 shares on December 31.000.5) = 184.000 Required 1.500.000.45*$49) +(. Total dividend is $16. Compute Prey Inc's book value per common share. (f) December 31 net income: Retained earnings up by $25.500.000.000 shares issued August 28.500. APIC goes up by the proceeds in excess of the par value ($40.000. Additional paid in capital (APIC) goes up by the proceeds in excess of the par value ($22. plus 450.000 RE (175.000 2. (c) October 31 stock split: the accounts do not change.000) -----------Total Stockholders' Equity $347.000 Problem 3 Prey Inc's common shares were trading at $30 per share in January 19x9. 100.700.000*$1. (a) April 1 stock issue: Common stock increases by par value of the shares issued ($450.000.000 bought back November 10 [balance 10.50) = $5.45 +.200 16.000 APIC (96.040. The number of shares double.000 Treasury Stock (20.000].980.5m +. 10. Common stock (((4. 5. plus 550. included the following information in the Stockholders' Equity section: (thousands of dollars) 8% preferred stock.000).000.04 million) is shown as Treasury Stock.000).55)*2)8 $.000).55*$74)= 159. The balances in (d) November 10 treasury stock buy-back: The decrease in stockholders' equity (the cost of the shares bought back.000 shares issued April 1. (b) August 28 stock issue: Common stock increases by par value of the shares issued ($550.000. $52 * 20. Suggest two reasons why it may not be equal to the market price of the share? $10.470. (e) December 7 dividend: The retained earnings balance will be reduced by the dividend declared.
How would this transaction affect (a) the market price. Compute Prey's earnings per common share in 19x8.89 2. 3. declares a 2-for-1 stock split in January 19x9. Solution: 1. Assume that Prey Inc.200. Prey Company uses LIFO in accounting for its inventories.800. Would the book value of common shares have been higher. FIFO and straight line depreciation would generally result in higher assets and higher stockholders' equity.000 .000)/1.800. A 2-for-1 stock split would reduce book value by half.000/1. 3. (b) the book value per share.000 = $8 Price-Earnings ratio = Market price/EPS = 30/8 = 3. earnings ratio in January 19x9? What is the price- 4. and additionally uses accelerated depreciation methods. It would also bring the market price to half its value. 34 . Earnings per common share = Net income .75 4. Book value per common share = Common stockholders' equity No of common shares outstanding That would be $32. although the price would go up a little after that because the market generally perceives stock splits to be good news.200.000 = $17.preferred dividend Avg no of common shares outstanding That would be (15.2.800. lower or unaffected if it had used FIFO and straight line depreciation instead? Explain. so higher book value per common share.
and both Fee Line and Kay Nine. Claus Sharpe. citing evidence from: (1) operating activities (2) investing activities (3) financing activities 35 . Sharpe noted that the reported income was $10. are expanding their operations. Pearson buys standard parts and products from other sources. The statements prepared by the accountant appear on the next page. adapts them for use in pet products. Being a bit confused by the apparent contradiction. REQUIRED: (a) (b) (c) Complete the statement of cash flows in the space provided. Inc. The accountant had not quite finished preparing this statement. In reviewing the financial statements for Pearson. believes that the time is right for Pearson to expand also.Problems to Chapter 14 Problem 1 Pearson Company supplies parts and products to Fee Line. as well as six other large manufacturers of pet products. Sharpe asked to see a statement of cash flows. How would you explain to Sharpe the "contradiction" he noticed? Comment on Pearson's ability to expand. and then sells them to manufacturers. and to Kay Nine & Co. manufacturers of pet products. the CEO of Pearson..000 and yet cash decreased. The market for pet products is experiencing rapid growth.
000) -----------------Income before taxes 25.000 Pearson Company Comparative Balance Sheet as of December 31.000 $64.000 ----------------$405.000 ========= ========= 36 .000 Inventories 110. 19x8 -----------------------------------------------------Net Sales $100.000 $15.000) (75.000) --------Net Income $15.000 ----------------Total Assets $405.000 260.000 Cost of Goods Sold (45.000 Operating Expenses: Depreciation expense $6.000 Other operating expenses 24.000 35.000 Land 25.000) --------Gross Profit 55.000 Income Tax Expense (10.000 Accrued Wages Payable 2.000 Buildings & Equipment 300.000 $370.000 35.000 45.000 Net Bonds Payable 80.Pearson Company Income Statement for the year ended December 31.000 170.000 90.000 Accounts Receivable 40.000 1.000 $370.000 (30. 19x8 and December 31.000 100.000 Common Stock 200.000 ========= ========= LIABILITIES & OWNERS' EQUITY Accounts Payable $68.000 185.000 less Accumulated Depreciation (81.000) ----------------net Buildings & Equipment 219. 19x7 -----------------------------------------------------December 31 December 31 1 19x8 19x7 ---------------------------------------------------------------ASSETS Cash $11.000 Retained Earnings 55.
000) 30.000 (10.000 (40.000) (5.000) ---------(30.000 --------- INCREASE 37 .Pearson Company Statement of Cash Flows for the year ended December 31.000) ---------- 15. 19x8 -----------------------------------------------------CASH FLOWS FROM OPERATIONS CASH FLOWS FROM INVESTING ACTIVITIES Sale of Land Acquisition of Equipment Net Cash Used by Investing Activities CASH FLOWS FROM FINANCING ACTIVITIES Sale of Common Stock Retirement of Bonds Payment of Dividends Net Cash Provided by Financing Activities (DECREASE) IN CASH Beginning Balance (cash) Ending balance (cash) 10.
This turns out to be a decrease of $4000.000 add increase in wages payable 1.000 add increase in accts payable 4. The negative $4000 also corresponds necessarily to the change in the cash balances from the 19x7 balance sheet to the 19x8 balance sheet. Any further expansion would probably have to be supported by new financing rather than coming from internally generated funds.000 The indirect method has been used here. some of the factors that one should consider include (i) the cash generated from operations in 19x8 was only a fraction of the amount needed to support the present level of investing activity (which presumably only maintains the current level of operations) (ii) the existing investments have been financed partly by a sale of existing assets and partly by selling common stock. The problem also required the net increase or decrease in cash to be filled in. In order to get cash flow from operations we need to adjust for changes in working capital items. they are two different concepts. (b) Income does not equal cash.000 less increase in accts rec 5.000 add depreciation 6.000 Cash flow from operations $11. obtained by adding the sources of cash (in this case operating and financing activities) and deducting uses of cash (in this case investing activities). and would depend on the company's ability to raise money in the capital markets.Solution: (a) Net income $15. 38 . (c) In evaluating the ability of Pearson to expand. Note that adding depreciation to net income would give us working capital from operations.000 less increase in inventories 10. Income computed using accrual accounting includes sales recognized but not yet realized and does not exclude cash spent but not yet expensed.
Depreciation of $15 million was recorded. 19x7. shown with comparative numbers for 19x6. using the indirect method. Be sure to show working capital from operation clearly in computing cash from operations.Problem 2 GDM Company has the following balance sheet (in millions) on December 31. Payment of $10 million was made to retire long term debt during the period. There was no sale of land or building during the year. Proceeds from the capital issues were used in part to acquire a building for $35 million. 19x7 Assets Current assets: Cash $ 25 Accounts receivable 30 Inventory 50 Noncurrent assets: Building and equipment (net of accumulated depreciation) 100 Land 30 Investments 40 $ 275 Liabilities and Stockholders' Equity Current liabilities: Accounts payable Unearned revenue Long term liabilities: Notes payable Stockholders' equity: Common stock Preferred stock Retained earnings 19x6 $ 35 35 35 80 30 80 $ 295 35 10 80 50 40 60 $ 275 25 35 50 50 20 115 $ 295 The company had a net loss in 19x7 of $45 million. but it distributed a dividend of $10 million. Capital was raised by issuing notes for $40 million and preferred stock for $20 million. 39 . Investments were sold at a gain of $5 million. 2. Prepare a Statement of Cash Flows. Required 1. Briefly comment on the trends revealed by the statement you prepared in part 1.
(3) the company has had to finance its operating losses and purchase of building by heavy borrowing and sale of its assets.Solution: Cash Flow Statement Cash from operations: Net income $ Add/deduct items included in income not adding to/using cash: Depreciation Gain on sale of investments Working capital used in operations Decrease in accounts receivable Increase in inventory Increase in accounts payable Decrease in unearned revenue Cash from operations Cash from investments: Purchase of building Sale of investments Cash from investments Cash from financing: Issuance of notes Issuance of preferred stock Retirement of notes Dividend paid Net change in cash Add beginning balance Ending balance (45) 15 (5) (35) 5 (15) 10 (25) (60) (35) 45 10 40 20 (10) (10) 40 $ (10) 35 $ 25 Some of the points worth noting are : (1) the net loss actually understates the extent to which operations are a drain on cash. (2) despite the shortage of cash. the company has paid a dividend. 40 . which effectively is being financed by issuing notes.
" he said. Comment on the company president's suggestion to increase funds by increasing depreciation.000 in 19x9. We also plan to acquire some treasury stock for $5. What percentage of total uses of cash does the company intend to spend on stockholders? What percentage of total sources comes from operations? C." said the president.000 Cash Outflows: Purchase equipment Dividends $30. Prepare a projected Statement of Cash Flows in proper form.000.) B. "As you can see from the statement.Problem 3 The president of Watertown Wallets Company came to Midstate Bank for a loan. However.000 Bank Loan 12. 19x9.000 Depreciation 4.000 Gain on sale of old equipment 3.000 . we plan to sell some of our old equipment for $8.000 to help out. (Include the amount of bank loan necessary to increase cash by $7. 41 ." The bank manager determined that the amounts mentioned by the president were correct. he also found out that Watertown Wallets Company's accounts receivable and inventory would increase by a total of $10.000 $40. the company had been facing a dwindling cash position.000 will increase our cash position by $7. "I think that you may require more than $12. but I haven't put that down on the schedule because that really is something that only affects the stockholders.000. and increase our funds that way.000 over the same period. "In that case. using the indirect method.000.000. The estimate is based on the following schedule." Required A. which puzzled the president. Despite growth in profits.000 10. The president had prepared an estimate of the amount the company would need to borrow for the coming year.000 $47. Use the old depreciation figure. Watertown Wallets had been having a problem with cash.000 Proceeds on sale of old equipment 8." said the company president "perhaps we should increase depreciation by $5.000 "A loan of $12. Schedule of Cash Flows: Cash Inflows: Income $20. while current liabilities would increase by $5.
Solution: A.31 Payments to stockholders as propportion of total uses is (10.000 = $ 52.000> <10.000/52.000 + 5.000 = $45.000 Increase in AR.000 (PLUG) Total sources = 16. Depreciation is not a source of cash.000 + 8.000 Investing Activities: Sale of Equipment Purchase of PPE Cash Used in Investments Financing Activities: Purchase of Treasury Stock Payment of Dividend Bank Loan Cash from Financing Net Increase in Cash B.000 + 5.000 + 28.000 = 0.000 = . It appears on the statement as an adjustment to net income in order to compute cash from operations.000> $<22.000 <30.000> $ <5.000 Adjust for items not requiring or using cash: Depreciation 4. 42 .000 $ 13.000 $ 7. C. $ 8.000 + 10.33. Inventory <10.000> Increase in AP 5.000 Operations as proportion of total sources = 16.000> Working capital from operations 21.000)/45. Cash Flow Statement Operating Activities: Net Income $20.000 Total uses = 30.000> 28.000 Gain on Sale of PPE <3.000 Cash From Operations $16.
is considering whether to provide financing for Minitel Company. a venture capital organization. 43 . using the indirect method.000 The cash balance at the end of the year was $18.000 and increase in accumulated depreciation was $50.000 305.000 150. Briefly comment on any interesting features of the statement.000 15.000 Selling and administrative exp 70. Changes in liabilities: Increase in current liabilities Decrease in note payable 3.000 Depreciation 50. Changes in assets: Increase Increase Increase Increase * in in in in cash other current assets land equipment $ 12.000 Changes in the balance sheet amounts from the beginning of the year to the end of the year are summarized below: 1.000 60.000 Expenses Cost of goods sold $140.000.Problem 4 Venture Group.000 75. Minitel's income statement is summarized below: Revenues $380.000 Net income $ 75. Required Prepare a cash flow statement in proper form.000 30.000 * Increase in cost of equipment was $65.000 Income tax expense 45.000 $145. Changes in stockholders' equity: Increase in common stock and additional paid in capital Increase in retained earnings $ 47.000 2. You are required to put together a cash flow statement for Minitel on the basis of the company's 19x9 income statement and balance sheet.
000) (65. which has replaced debt financing. the major investment is land.Solution Statement of Cash Flows Cash from operations Net income Depreciation Increase in current assets Increase in current liab Cash from operations Cash use in investing Increase in land Increase in equipment Cash used in investing Cash from financing Decrease in notes payable Increase in common stock Cash from financing Net cash flows Beginning balance Ending balance of cash $75.000 $ 142.000) 47.000 6.000 Some points to note: Cash from operations is significantly greater than income for this company.000 $ $ 85.000 $(150. external financing comes mainly from common stock. 44 .000 50.000) (215.000 (30. cash from operations is entirely reinvested in the company (no dividends) but is still insufficient for the investing needs.000) (60.000 12.000 18.000) 145.