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What Should You Know

1. The purpose and the elements of financial statements 2. Analysis of financial statements using ratios 3. Determining the impact of specific business transactions and/or errors on the financial statements 4. Basic principles governing the preparation of the financial statements 5. Cost terminology and Manufacturing costs 6. Cost-Volume Profit Analysis 7. Budgeting 8. Performance Evaluation Using Standard Costing and ROI

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Prepare a multiple-step income statement b.275. The following displays the selected industry ratios for Shield Company for 2005. $185.800 19. Compute similar ratios for Shield Company based upon your prepared financial statements.000.000. The current portion of the bonds payable to be paid during the upcoming year is $7. 1 Dividends Sales Sales Returns Advertising Expense Depreciation Expense Rent Expense Insurance Expense Merchandising Inventory Office Supplies Sales Salaries Expense Debit Credit 34.400 90.400 4. 2005 were $100. 1.600 2.950.100 43.000 17.000 5.750 125. Store Equipment Sales Discounts Cost of Merchandise Sold Allowance for Doubtful Accounts Interest Receivable Bonds Payable (due 2010) Capital Stock (Par $1 per share) Retained Earnings-Jan.000 395.900 775.Entrance Exam Review Problems Q1.500.350 3. Accounts Accumulated Depreciation-Store Equp.200 55. d. merchandise inventory. Prepare a retained earnings statement c.000 4.000 23.000.950 1.000 120.950.200 56.600 257.300 11.800 175.750 35.000 2.200 3.350 1.000 6.000 1.950 Requirements: a. 2005 in random order. Ratios Industry Shield Company 2 .900 175. and $600.000 95. respectively. Accounts Payable Salaries Payable Interest Payable Cash Accounts Receivable Notes Receivable (5-month) Office Supplies Expense Interest Revenue Interest Expense Miscellaneous Expense Prepaid Insurance Office Equipment Accumulated Depreciation-Office Equp. and total assets as of Jan. Carry up to two decimal points. Shield Company is a merchandising company. The following is the balance of accounts as of December 31.100 31.200 33.000 1.000 3.000 21. Prepare a classified balance sheet. The balance of accounts receivable.

.. Less: Sales returns and allowances......... Sales discounts................. Operating expenses: Salaries expense............................................. 2005 Revenue from sales: Sales..... Net income for the year...................000 $1.........000 $ 455.................................................900 1...................................000 100.............. Advertising expense......... 2005.. Insurance expense....... Net income............... Net sales...............750 $100.......000 95.750 c.................300 $ $ 11............................................ Depreciation expense....................................... Income from operations...............000 65........ Shield Company Retained Earnings Statement For the Year Ended December 31......000 6................. 2005......................................000 35.................... Other expense: Interest expense.200 31.........45 80 days 30 days 18% $1.................................................................. Jan 1...........................100 3. December 31................Current Ratio Times Interest Earned Earnings Per Share Number of Days in Inventory Number of Days in Receivable/AVG Collection Period Rate of Return on Assets Solution a............ Increase in retained earnings.....000 775............... Gross profit............................... 6 5 times $1.................. Total operating expenses............................... Shield Company 3 ............................900 45.......... $395..................................................................................... Other income: Interest revenue.... Office supplies expense........100 21........ Rent expense.............................000 $257.................000 $460.....800 19.................000 $ 23.....000 b.............................230............................... Retained earnings.....000 360............................. Miscellaneous expense..350 3.... Shield Company Income Statement For the Year Ended December 31...................350 43............ Less dividends....000 $ 5........... 2005 Retained earnings.......................................... Cost of merchandise sold................275.................................

............200 $ 72......................................750 555....................... Ratios Current Ratio = Current assets ÷ Current Liability Times Interest Earned = (Net Income + Interest Expense + Tax Expense) ÷ Interest Expense Earnings Per Share = Net Income ÷ # of shares of C...750 $673.....500 $118......... Salaries payable.... d......................................200 $ 95........................ Prepaid insurance..................000 4...............................000 17..................000 34.400 4....................................................... Retained earnings... Liabilities Current liabilities: Accounts payable.................... and equipment: Office equipment........... 2005 Assets Current assets: Cash...000 175..................................................Balance Sheet December 31...950 4 .................................... Notes receivable........ Office supplies...................800 $175. Total current assets.................200 140..........400 $460......................... Interest Receivable......................................................000 33......600 7..........000 5. Stockholders’ Equity Capital stock..... Total liabilities and stockholders’ equity... Less accumulated depreciation............000 2.............................800 213.................. Total current liabilities................ Merchandise inventory...... Accounts receivable...................................................S...................... Property........................ Total liabilities...... Long-term liabilities: Bonds payable (final payment due 2010)... and equipment..200 $ 69......................................................................950 $ 90.................................................................................. plant..........................700 48.............. Total property....................600 3.....................................200 120......... Total assets..... plant................................................ Store equipment...... Less: Allowance for Doubtful Accounts...................950 $ 55........................500 2.......... outstanding When there are only common stockholders Days In Inventory = 365 ÷ Inventory Turnover Ratio Inventory Turnover Ratio = Cost of Goods Sold ÷ Average Inventory Average Collection Period = 365 ÷ Accounts Receivable Turnover Ratio Accounts Receivable Turnover Ratio = Net Sales ÷ Average Accounts Receivable Return on Assets Ratio = Net Income ÷ Average Total Assets Ratio Acid-Test Ratio Industry 6 Shield Company 460950 ÷ 69700 = 6.......................... Bonds payable (current portion).................. Less accumulated depreciation................ Interest Payable......750 121.......000 $673........................................61 Result Better position $ 125..000 460.........................................

f. industry Less effective than avg.00 0 Liabilities $60. Company is using accrual basis of accounting.000 Assets $150. Expenses.45 80 days (100000 + 6000) ÷ 6000 = 17. Purchased $1000 of supplies in cash b. But is not paid yet. and Stockholders Equity before recording the impact of transactions “a” to “e” are $80. Assets.000. Collected $5000 from customers in advance for future services c.3 365 ÷ 11. $600 of supplies purchased in “a” was used g.000. Provided $4000 customers on account services to Revenues $80.000 d. and $90.500 1230000 ÷ 110500 = 11. $2000 of services in item “b” was provided to customers i. K. The money in item “c” was collected h. Purchased $15.3 = 85 days (175000 + 185000) ÷2 = 180000 775000 ÷ 180000 = 4.66 times 100000 ÷ 95000 = $1. the rest was on account.000 Stockholders Eq. Liabilities.000.05 365 ÷ 4.13 100000 ÷ 636975 = 16% (600000 + 673950) ÷ 2 = 636. respectively.13 = 33 days (100000 + 121000) ÷ 2 = 110. industry Less effective than avg. Company received the $200 utilities bill for the month. Reflect net impact of each transaction on these items in the space provided and compute new balances after a reflecting the impact of the transactions. The balance of Revenues. industry Less effective/profitable than avg. Balances After Transactions 5 . industry Better position than avg. $150. $25. industry Less profitable than avg. industry 30 days 18% Q2. Borrowed $4000 from bank J.000. Purchased $3000 equipment with a note payable. $90.000.000 equipment. Balances Before Transactions a. paid $5000 cash. Paid $2000 for rent and utilities e. $60.975 than avg.Times Interest Earned Earnings Per Share Number of Days in Inventory Number of Days in Receivable/AVG Collection Period Rate of Return on Assets 5 times $1.000 Expenses $25.

Provided $4000 customers on account services to $80. Company received the $200 utilities bill for the month. K. $600 of supplies purchased in “a” was used g.000 0 +5000 0 0 +10000 0 0 -2000 +4000 +200 +3000 $80. the rest was on account. The money in item “c” was collected h. The cost of rent for a manufacturing plant is generally considered to be a: A) B) C) D) Conversion Cost Yes Yes No Yes Manufacturing cost Yes Yes Yes Yes Prime cost No Yes Yes No Product Cost No Yes No Yes Q4.40 0 Liabilities Stockholders Eq.200 d. Purchased $1000 of supplies in cash b.00 0 0 +5000 +4000 -2000 +10000 -600 0 0 +4000 0 +3000 $173. Paid $2000 for rent and utilities e.Solution Revenues Expenses Assets Balances Before Transactions a. Balances After Transactions Q3. f. An increase in the activity level within the relevant range results in: A) an increase in fixed cost per unit. $60. 6 .000 equipment.000 0 0 +4000 0 0 0 0 +2000 0 0 0 $86000 $25.200 0 0 +4000 -2000 0 -600 0 +2000 0 -200 0 $93. D) a decrease in fixed cost per unit. C) an unchanged fixed cost per unit. Purchased $3000 equipment with a note payable. Purchased $15.000 $90. B) a proportionate increase in total fixed costs. $2000 of services in item “b” was provided to customers i.000 0 0 0 +2000 0 +600 0 0 0 +200 0 $27. paid $5000 cash.800 $150. Collected $5000 from customers in advance for future services c. Borrowed $4000 from bank J. But is not paid yet.

................231 breakeven in units x $4.................60) = 115.................... Compute Sun’s Margin of Safety in dollar and percentage.......60) = 69... Company desires a profit of $120....000 Total variable costs.000   150.........385 in units x $4.............................000.... Compute required sales to achieve this goal in units and dollars......... Compute break-even sales in units and dollars....8% or 31% 7 . Sun Company has developed the following income statement using a contribution margin format..50 = $2..000 Fixed selling.. Compute Sun’s Margin of Safety in dollar and percentage.10 – 1...........................153 MS % = 126153/410000 = 30.. 3.000 $260.....000 Total fixed costs.....000 units during the year................... U = (F + P)/CM = (180000 + 120000)/(2..... 100...............10 = $283......10 Selling price per unit v = 150000/100000 = $1. Net income..................... Answer the following independent cases. Sun has the capacity to produce 150... Sun Company is manufacturing and selling a product called SOOB..........Q5.....000.............10 = $473............... Company desires a profit of $120.........................50 Variable cost per unit CM = sp – v = 4.............................000 $ 80.60 contribution margin per unit U = (F + P)/CM = (180000 + 0)/(2.............000 The projected income statement is based upon sales of 100.... Management of Sun wants to know the amount by which sales can drop before losses begin to be incurred (margin of safety)..... Management of Sun wants to know the amount by which sales can drop before losses begin to be incurred (margin of safety)....... $410.. 2..... Contribution margin......... Compute required sales to achieve this goal in units and dollars...  50.. general. $100.................847 breakeven in $ 2... Sp = 410000/100000 = $4................................ MS $ = Current or planned sales – breakeven sales = 410000 – 283847 = $126..000 Variable selling (commission) ...... Compute break-even sales in units and dollars.............079 in dollars 3.. $80................ and administrative..........000  180......... Sun Company Projected Income Statement For the Year Ending December 31.... Requirements: 1. 2003 Sales.. Less fixed costs: Fixed manufacturing. Solution 1... Less variable costs: Variable manufacturing............000 units.

000 52. the company requires that 20% of the next month's sales be on hand at the end of each month.600 $ 8. During April expected cash receipts are $45.000 February $70.000 September 50.Q6. ABC Company has a cash balance of $9.000 $52.000 Compute total budgeted cash receipts for April. Solution: Production Budget (July) Budgeted Sales Add: Desired Ending Inventory (20% x 60000) Total Needs Less: Beginning Inventory (20% x 40000) Required Production 40.000 April $30.000 44. The company must maintain a minimum cash balance of $6. Parlee Company's sales are 30% in cash and 70% on credit. and 12% in the second month following sale.000 $ 6.000 $45.000. The remainder is uncollectible.230 Q8.880 $36. To guard against stock outs. Modesto Company produces and sells Product Alpha. Expected cash disbursements during the month total $52.000 $54.000 12.000 $ 2.000 8.000. The following are budgeted sales data: Total sales January $60. beginning Add collections from customers Total cash available Less disbursements: Excess (deficiency) of cash available over disbursements Borrowing Cash balance.000 $12.000 Q7. During April how much the company will need to borrow? Solution: Cash balance. Budgeted sales of Product Alpha over the next four months are: Budgeted sales in units June 30. Solution: April’s cash sales (30% x 30000) 60% of April’s credit sales (60% x 70%x 30000) 25% of March credit sales (25% x 70% x 50000) 12% of February credit sales (12% x 70% 70000) Total cash collections in April $ 9.000 8 .000 Compute budgeted production for July.000 March $50.000.000 on April 1. 25% in the month following sale. Sixty percent of the credit sales are collected in the month of sale.000 $ 4.000 July 40.750 $ 5.000 August 60. ending $ 9.

5 * 3000 = $13500 Increase in fixed expenses = $10000 Increase in profit = 13500 – 10000 = $3.Q9.5 contribution margin per unit QUESTION 1) How many units Sun must sell each month in order to break even? 2) In order to have $81.000 and variable expense is $8 per unit.5 = 40000 units U = (180000 + 81000)/4. how many units Sun must sell? 3) Sun’s marketing manager has suggested an increase of $10.50 per unit.000 400. Exp. Sun Company is manufacturing a product called SOOB. Sun’s monthly fixed expenses are $180. It is expected that the additional promotion would increase sales by 3000 units per month.8% 9 . each unit of SOOB is selling at $12. Currently. -Fixed Exp Profit 50000 $625.000 $48.000 in monthly budget for advertising.000 units of SOOB per month.500 Increase = 48500 – 45000 = $3. Management of Sun just completed the study of the behavior of its total expenses.000 of profit for a month.000 190. how many units Sun must sell? 3) Sun’s marketing manager has suggested an increase of $10. Currently company is selling 50.000 53000 $662.5 = 58000 units Increase in CM = $4.500 424. According to the results. Should Sun adopt the increase in advertising? Why? Solution: CM = Selling price – variable expense per unit = 12.5= 261000/4.500 Increase % = Increase/Cur Profit = = 3500/45000 = 7.000 of profit for a month.5 – 8 = $4.500 Units Sales -Var.000 $45.000 in monthly budget for advertising. Should Sun adopt the increase in advertising? Why? ANSWER U = (180000 + 0)/4. Management of Sun Company has a number of independent questions as follow: Requirements: 1) How many units Sun must sell each month in order to break even? 2) In order to have $81. It is expected that the additional promotion would increase sales by 3000 units per month.000 180.

Flexible budge is a budget based upon actual activity level but planned cost per unit.900 $19. Normally it is prepared prior to the start of the year based upon planned activity level for the year. Normally it is prepared at the end of year for measurement of performance – comparison of the flexible budget to actual costs.Q10.770 $19. The following overhead data are for a department in a large company.745 2.065 $1.60 Actual costs incurred $ 8.634 $1.745 $2.675 1.600 $7.300 8.550 Variance $ 70 U 90 U $160 U 40 F 90 F 130 F $ 30 U 10 .210 Static budget 220 $7.70 7.580 Flexible Budget based on actual activity $ 8.650 1. Cost formula per unit of activity Variable costs: Indirect materials Power Total variable cost Fixed costs: Supervision Rent Total fixed cost Total cost $34.210 8.600 7.90 $42.738 $1.810 1.560 $7.300 Activity level (in units) Variable costs: Indirect materials Power Fixed costs: Supervision Rent Required: Prepare a report that would be useful in assessing how well costs were controlled in this department. Actual costs incurred 250 $8. Solution: Static budget is a budget based on planned activity level and planned costs per unit.975 10.065 10.560 7.

and shouldn’t be used for decisionmaking. Essentially managements want to know whether the production department was efficient and effective in purchase and use of inputs (i. since variances from standard will contain only “abnormal” elements.000 600. 11 . Such standards: often discourage workers.000 Assume the division’s current ROI is 10 percent and the firm’s minimum required rate of return is 8 percent.000 = 8. Q14.75% Project C: ROI = $30.0% Project B: ROI = $70. and setting selling prices.Q11.000/$800. DM.000/$400. and C b. Projects A and B d.000 70.000 Average Operating Investment $400. Such standards: are felt to motivate employees. Performance in the area of purchases is measured by calculating Price Variances. Q12. make employees more “cost-conscious”. therefore. Other reasons may include: facilitating management planning of resources needed for production.. employee rest periods.000/$600. and MOH) in production. If you were the division manager and you were evaluated based on ROI. DL. which projects would you accept? a. A Standard Cost System requires setting of standards for both the quantity and price of inputs (such materials and labor) used in manufacturing goods or providing services.000 30. Project A only Solution: Answer = D SUPPORTING CALCULATIONS: Project A: ROI = $44.0% The division manager would want to accept only the projects with a ROI that exceeds the division’s current ROI of 10 percent.000 800. since the standards are “tight but attainable. Q13.000 = 11. Projects A and C c. B. Practical standards allow for “normal” down time. Projects A. and can be attained only by working at peak effort 100% of the time. What is the main purpose of having Standard Costs in a company? The main reason is to measure the performance of the production department and control of costs (significant cost variances are investigated to find the cause).000 = 5. and the like.e. The following information is provided: Project A B C Operating Income $44. And performance in the area of usage of inputs is measured by calculating the Quantity/Efficiency Variances. only Project A would be accepted. What is the difference between Ideal and Practical standards? Ideal standards allow for no machine breakdowns or work interruptions.” and are useful for decision-making purposes.

a. Graves Company has developed the following standard costs for its product for 2001: GRAVES COMPANY Standard Cost Card Product A Cost Element Standard Quantity Direct materials 4 pounds Direct labor 3 hours Var. Name three items that go into the price standard for direct materials. Now we have to find how much of the total variance ($28. spoilage. Instructions Compute direct material and direct labor variances. Actual results for 2001 are as follows: • 26. b. receiving.000 units of Product A were produced.000. This saved company $28. • Actual variable overhead incurred was $300. Expected/Budget (Flexible) = 26000 x $12 = $312. and other normal inefficiencies.500 less than what was expected for DM. Manufacturing overhead 3 hours Standard Cost $12 24 12 $48 The company was expecting to produce 25.000 Actual 283.500) was caused by price and how much was caused by quantity. Solution: Direct Material Cost Variance: Question: Did company spend more money than what was expected on DM? Company has produced 26000 units and has pent $283. storing.000 direct labor hours worked (. × Standard Price $3 $8 $4 per DLH = 12 . Q15. • Actual direct labor costs were $627.000 units of Product A in 2001 and work 75. It is the amount of material going into each unit of finished product.500 for 105.000 direct labor hours.500 in total. and handling. Name three items that go into the quantity standard for direct materials. The direct materials quantity standard is the quantity of direct materials that should be used per unit of finished goods. • Actual direct materials purchased and used during the year cost $283. This standard also includes an amount for related costs such as taxes.000 pounds (.000 for 76. Indicate whether the variances are favorable or unfavorable. This standard is based on the purchasing department’s best estimate of the cost of raw materials. Given this.500 for DM. as well as an allowance for unavoidable waste. The expectation was to spend $12 for the material of each unit.500 Total DM Variance $28.500 F Answer: Company has spent $28.

Question: Did company pay higher or lower prices than what was expected? How much was the overall impact on company? DM Price Variance = (Actual Price . The expectation was to spend $24 for the DL of each unit.Standard Price) x Qty Purchased = = ($2.000 in total. Question: Did company use more or less materials than what was expected? How much was the overall impact on company? DM Qty Variance = (Actual Qty used – standard Qty allowed) x Standard Price = = (105.25 x 76000 = $19.$8 ) x 76000 hrs = ).000 U Answer: Company paid higher price for DL than what was expected and this cost company $19.000 Total DL Variance $3.000 Actual 627.25 .000 U $28. Check Your Work: DM Price Variance DM Qty Variance Total DM Variance $31.500 F Direct Labor Cost Variances: Question: Did company spend more money than what was expected on DL? Company has produce 26000 units and has pent $627.000.500.500 F 3.500 F Answer: Company paid lower price for the purchase of DM and that saved company $31.$3) x 105000 = $31.000 for DL. Expected/Budget (Flexible) = 26000 x $24 = $624.Standard Price) x Qty Purchased = = ($8. Question: Did we pay higher or lower prices (for direct labor) than what was expected? How much was overall impact on company? DL Price Variance = (Actual Price . Question: Did we use more or less labor than what was expected? How much was the overall impact on the company? DL Qty Variance = (Actual Qty used – standard Qty allowed) x Standard Price = = (76000 – 26000 x 3 ) x 8 = (76000 – 78000) x $8 = = -2000 x $8 = -$16.000 – 26000 units x 4 lbs) x $3 = (105000 – 104000) x 3 = = 1000 x $3 = $3000 U Answer: Company used more DM than what was expected and that cost company $3.70 . Given this.000 U Answer: Company spent $3000 more than what was expected on DL.000 F 13 .

000 U Q16.000 F $3. the use of marginally skilled workers d. the use of highly skilled workers b. all of the above Q17. c. which may leave workers frustrated. Which of the following is a disadvantage of adopting a standard costing system? a. b. none of the above 14 . that actual performance is not going according to plan d. when the variance should be investigated Q20. Q21. Which of the following is NOT true about currently attainable standards? a. They allow for downtime and rest periods. b. a special price offered by suppliers c. thus causing a decline in performance. Currently attainable standards may encourage operating inefficiencies. They are based on an efficiently operating work force. to facilitate product costing and pricing c. excessive rework b. Currently attainable standards discourage employees from achieving their full performance potential. Variances indicate a. They are based on present production processes and technology. d. Ideal standards demand maximum efficiency. An unfavorable materials price variance may be caused by a. to improve planning and control b. to help establish the quality and safety of products d. Labor efficiency variances may be caused by a. Check Your Work: DL Price Variance DL Qty Variance Total DM Variance $19. Q18. All of the above are advantages. c.000 U 16. who is responsible for the variance c.Answer: Company use less DL than what was expected for the production of 26000 units and that saved company $16.000. Which statement about the selection of standards is true? a. They are based on ideal conditions. Ideal standards tend to extract higher performance levels since they give employees something to live up to. Q19. frequent machinery breakdowns c. use of experienced workers d. the cause of the variance b. d.

a special price offered by suppliers c. excessive rework b. A favorable materials usage variance may be caused by a. none of the above Q26. a special price offered by suppliers c. labor efficiency variance d. materials usage variance c. excessive rework b. use of experienced workers d. D) Wages storeroom clerk. A favorable materials price variance may be caused by a. which of the following is an example of direct labor cost? A) Wages of plant supervisor. none of the above Q25. An unfavorable materials usage variance may be caused b a.Q22. For a manufacturing company. materials price variance b. none of the above Q23. use of experienced workers d. 15 . B) Wages of salespersons. excessive rework b. The purchase of inferior direct materials at a lower price might affect which of the following variances? a. C) Wages of machine operators. a special price offered by suppliers c. use of experienced workers d. all of the above Q24.