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Luton Inc Solution

Luton Inc. has a year end of December 31 2009.

For each of the following transactions, show which figure would be shown in:
Income statement
Cash
Prepayment
Accruals

Transactions:

1.   Purchased a one year software license for $6,000 on November 1 2009.

The payment was made in full on November 1.

2.   Paid a three month electricity bill covering the period December 1 to February 28.
The bill was for $30,000 and is paid in arrears.

3.   Sold a training contract to be delivered on January 31.

The course fee is $2,000 which will be payable 30 days after the course.
There is also a development fee of $5,000 payable at the same time as the course fee.
The development will be carried out in December and January and will equal work being done in both mont

Solution

Transaction 1
Income statement (1,000)
Cash (6,000)
Prepayment 5,000
(1,000) (1,000)

Transaction 2
Income statement (10,000)
Cash -
Accruals 10,000
- -

Transaction 3
Income statement 2,500
Cash -
Prepayment (and accrued income) 2,500 -
Accruals (and deferred income) - -
2,500 2,500
work being done in both months.

The full payment of $6,000 was made on Nov 1 so there is deduction in cash on the balance
sheet, but the actual expenses will be incurred every month. The monthly expense will be
$6,000/12 = $500. On Dec 31, a total of $1,000 ($500 x 2 = $1,000) software expenses is shown
on the income statement because two months has passed by that time. The rest of $5,000 is
recorded as prepaid expenses (current asset) on the balance sheet.

The electricity bill covers three-month period and monthly expense that will be recorded on the
income statement equals $30,000/3 = $10,000. On Dec 31, a month has passed so there is an
expense of $10,000 on the I/S. There is also an accrued expense of $10,000 recorded in the
current liabilities section of the balance sheet.

The course fee of $2,000 is only payable after the completion of course so no revenue is
incurred on Dec 31. The development fee of $5,000 is incurred monthly ($5,000/2 = $2,500) in
Dec and Jan. On Dec 31, there is a $2,500 revenue for the month of Dec shown on the income
statement. There is also a $2,500 accrued income in the current asset section of the balance
sheet because it will be received at the same time as the course fee.