Instant Download

Sample Chapters

CHAPTER 1

THE PURPOSE AND USE OF FINANCIAL STATEMENTS

Summary of Question TYPEs by STUDY Objective and Level of difficulty

Item	SO	LOD	Item	SO	LOD	Item	SO	LOD	Item	SO	LOD	Item	SO	LOD
True-False Statements
1.	1	E	11.	2	E	21.	3	M	31.	4	E	41.	4	E
2.	1	E	12.	2	E	22.	3	E	32.	4	E	42.	4	M
3.	1	E	13.	2	E	23.	3	E	33.	4	E	43.	4	E
4.	1	E	14.	2	E	24.	3	M	34.	4	E	44.	4	E
5.	1	E	15.	2	E	25.	3	E	35.	4	E	45.	4	M
6.	1	E	16.	3	E	26.	4	M	36.	4	E	46.	4	E
7.	1	E	17.	3	E	27.	4	E	37.	4	E
8.	1	E	18.	3	M	28.	4	M	38.	4	E
9.	1	E	19.	3	M	29.	4	M	39.	4	E
10.	1	E	20.	3	E	30.	4	E	40.	4	M
Multiple Choice Questions
47.	1	E	60.	2	E	73.	3	E	86.	4	M	99.	4	M
48.	1	E	61.	2	E	74.	3	E	87.	4	H	100.	4	M
49.	1	M	62.	2	E	75.	3	E	88.	4	E	101.	4	E
50.	1	M	63.	2	E	76.	3	E	89.	4	M	102.	4	M
51.	1	E	64.	2	M	77.	3	E	90.	4	E	103.	4	M
52.	1	E	65.	2	E	78.	3	E	91.	4	E	104.	4	M
53.	1	E	66.	2	M	79.	3	E	92.	4	E	105.	4	E
54.	1	E	67.	3	E	80.	3	E	93.	4	E	106.	4	E
55.	1	E	68.	3	E	81.	3	E	94.	4	H	107.	4	E
56.	1	E	69.	3	E	82.	4	M	95.	4	M	108.	4	E
57.	2	M	70.	3	E	83.	4	M	96.	4	M	109.	4	E
58.	2	M	71.	3	E	84.	4	E	97.	4	M	110.	4	H
59.	2	M	72.	3	M	85.	4	E	98.	4	M
Exercises
111.	3	M	116.	4	M	121.	4	E	126.	4	E	131.	4	M
112.	3	M	117.	4	E	122.	4	H	127.	4	E	132.	4	H
113.	4	H	118.	4	E	123.	4	E	128.	4	E
114.	4	M	119.	4	M	124.	4	E	129.	4	M
115.	4	E	120.	4	H	125.	4	E	130.	4	E
Matching
133.	1–4	E,M
Short-Answer Essay
134.	1	E	136.	2	M	138.	4	E	140.	4	E
135.	1,2	M	137.	4	M	139.	4	M	141.	4	M

Note: E = Easy M = Medium H = Hard

SUMMARY OF STUDY OBJECTIVES BY QUESTION TYPE

Item	Type	Item	Type	Item	Type	Item	Type	Item	Type	Item	Type	Item	Type
Study Objective 1
1.	TF	5.	TF	9.	TF	49.	MC	53.	MC	133-1.	Ma
2.	TF	6.	TF	10.	TF	50.	MC	54.	MC	134.	SAE
3.	TF	7.	TF	47.	MC	51.	MC	55.	MC	135.	SAE
4.	TF	8.	TF	48.	MC	52.	MC	56.	MC
Study Objective 2
11.	TF	14.	TF	58.	MC	61.	MC	64.	MC	133-2.	Ma	136.	SAE
12.	TF	15.	TF	59.	MC	62.	MC	65.	MC	133-3.	Ma
13.	TF	57.	MC	60.	MC	63.	MC	66.	MC	135.	SAE
Study Objective 3
16.	TF	21.	TF	67.	MC	72.	MC	77.	MC	111.	Ex	133-7.	Ma
17.	TF	22.	TF	68.	MC	73.	MC	78.	MC	112.	Ex	133-8.	Ma
18.	TF	23.	TF	69.	MC	74.	MC	79.	MC	133-4.	Ma
19.	TF	24.	TF	70.	MC	75.	MC	80.	MC	133-5.	Ma
20.	TF	25.	TF	71.	MC	76.	MC	81.	MC	133-6.	Ma
Study Objective 4
26.	TF	37.	TF	83.	MC	94.	MC	105.	MC	118.	Ex	129.	Ex
27.	TF	38.	TF	84.	MC	95.	MC	106.	MC	119.	Ex	130.	Ex
28.	TF	39.	TF	85.	MC	96.	MC	107.	MC	120.	Ex	131.	Ex
29.	TF	40.	TF	86.	MC	97.	MC	108.	MC	121.	Ex	132.	Ex
30.	TF	41.	TF	87.	MC	98.	MC	109.	MC	122.	Ex	133-9.	Ma
31.	TF	42.	TF	88.	MC	99.	MC	110.	MC	123.	Ex	133-10.	Ma
32.	TF	43.	TF	89.	MC	100.	MC	113.	Ex	124.	Ex	137.	SAE
33.	TF	44.	TF	90.	MC	101.	MC	114.	Ex	125.	Ex	138.	SAE
34.	TF	45.	TF	91.	MC	102.	MC	115.	Ex	126.	Ex	139.	SAE
35.	TF	46.	TF	92.	MC	103.	MC	116.	Ex	127.	Ex	140.	SAE
36.	TF	82.	MC	93.	MC	104.	MC	117.	Ex	128.	Ex	141.	SAE

Note: TF = True-False Ma = Matching

MC = Multiple Choice Ex = Exercise SAE = Short-Answer Essay

CHAPTER STUDY OBJECTIVES

Identify the users and uses of accounting. The purpose of accounting is to provide useful information for decision-making. There are two types of user groups who use accounting information: internal and external users. Internal users work for the business and need accounting information to plan, organize, and run operations. The primary external users are investors, lenders and other creditors. Investors (existing and potential shareholders) use accounting information to help decide whether to buy, hold, or sell shares. Lenders (such as bankers) and other creditors (such as suppliers) use accounting information to evaluate the risk of granting credit or lending money to a business. In order for financial information to have value to its users, both internal and external, it must be prepared by individuals with high standards of ethical behaviour.

2. Describe the primary forms of business organizations. There are three types of organizations that use accounting information: proprietorships, partnerships, and corporations. A proprietorship is a business owned by one person. A partnership is a business owned by two or more people. A corporation is a separate legal entity whose shares provide evidence of ownership. Corporations can be public or private, which means their shares are closely held.

Generally accepted accounting principles are a common set of guidelines, which can differ depending on the form of business organization, that are used to record and report economic events. Public corporations follow International Financial Reporting Standards (IFRS) and private corporations have the choice of using IFRS or Accounting Standards for Private Enterprises (ASPE). Proprietorships and partnerships generally follow ASPE.

Explain the three main types of business activity. Financing activities involve raising the necessary funds (through debt or equity) to support the business. Investing activities involve acquiring the resources (such as property, plant, and equipment) that are needed to run the business. Operating activities involve putting the resources of the business into action to generate a profit.

Describe the purpose and content of each of the financial statements. The income statement presents the revenues and expenses of a company for a specific period of time. The statement of changes in equity summarizes the changes in shareholders’ equity that have occurred for a specific period of time. The statement of financial position reports the assets, liabilities, and shareholders’ equity of a business at a specific date. The statement of cash flows summarizes information about the cash inflows (receipts) and outflows (payments) for a specific period of time. Notes to the financial statements add explanatory detail where required. The financial statements are included in an annual report, along with nonfinancial and other financial information.

TRUE-FALSE STATEMENTS

Accounting identifies and records economic events of a business.

High standards of ethics are not required for preparers of financial information.

Accounting information is not important to marketing managers.

Shareholders and creditors are the only people who need accounting information.

The Canada Revenue Agency is the major external user of information.

External users of accounting information include the managers who plan, organize, and run a business.

The information needs and questions of external users vary considerably.

Authorities, such as the Canada Revenue Agency, want to know whether a business complies with the tax laws.

Accounting communicates financial information about a business to both internal and external users.

Two internal users of accounting information are investors and managers.

A partnership is a business organized as a separate legal entity.

A proprietor has unlimited liability.

The liability of corporate shareholders is limited to the amount of their investment.

A private corporation is one whose shares are traded on an organized stock exchange, like the Toronto Stock Exchange.

A proprietorship is usually operated by the owner.

Expenses are the cost of assets consumed or services used in the process of generating revenue.

Financing activities for corporations include borrowing money and selling shares.

Investing activities involve collecting the necessary funds to operate the business.

The purchase of equipment is an example of a financing activity.

Assets are resources owned by a business that provide current services or benefits to the business.

Economic resources that are owned by a business are called shareholders’ equity.

Payments to shareholders are called dividends.

Revenues are increases in economic resources that result from a business’s operating activities.

Expenses are identified by the type of liability associated with them.

Depreciation is the cost of certain long-lived assets allocated to expense for each period.

Profit for the period is determined by subtracting total expenses and dividends from revenues.

Profit is another term for revenue.

The issue of shares and distribution of dividends are used in determining profit.

Financial statement users are interested in profit because it may be a predictor of future profit.

Shareholders’ equity is always equal to the cash on hand at any given date.

The primary purpose of the statement of cash flows is to provide information about the cash receipts and cash payments of a business for a specific period of time.

The statement of financial position reports assets and claims to those assets at a specific point in time.

The statement of changes in equity covers a different time period than that covered by the income statement.

Creditors use the statement of financial position as another source of information to determine the likelihood they will be repaid.

The basic accounting equation subdivides liabilities into two categories: claims of creditors and claims of the Canada Revenue Agency.

The statement of cash flows shows how cash was used during the period.

The accounting equation can be expressed as: Assets – Shareholders’ Equity = Liabilities.

The accounting equation can be expressed as: Assets + Liabilities = Shareholders’ Equity.

If the assets owned by a business total $100,000 and liabilities total $52,000, shareholders’ equity totals $48,000.

Claims of creditors and shareholders on the assets of a business are called liabilities.

Shareholder’s equity consists of at least two parts: share capital and retained earnings.

Any deficiency in cash from operating activities must be made up by issuing shares.

The statement of changes in equity is not dependent on the results from the income statement.

The statement of financial position is always the first statement prepared and presented.

The reasons for a decrease in cash can be determined by examining the income statement.

A negative balance in retained earnings is called a deficit.

Answers to True-False Statements

Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.
1.	T	9.	T	17.	T	25.	T	33.	F	41.	T
2.	F	10.	F	18.	F	26.	F	34.	T	42.	F
3.	F	11.	F	19.	F	27.	F	35.	F	43.	F
4.	F	12.	T	20.	F	28.	F	36.	T	44.	F
5.	F	13.	T	21.	F	29.	T	37.	T	45.	F
6.	F	14.	F	22.	T	30.	F	38.	F	46.	T
7.	T	15.	T	23.	T	31.	T	39.	T
8.	T	16.	T	24.	F	32.	T	40.	F

MULTIPLE CHOICE QUESTIONS

The world’s economic systems depend on financial reporting that is

(a) highly transparent.

(b) accurate.

(d) all of the above.

Which of the following is the most appropriate definition of accounting?

(a) The information system that identifies, records, and communicates the economic events of an organization to interested users.

(b) a means of collecting information

(d) electronic collection, organization, and communication of vast amounts of information

Which of the following would not be considered an internal user of accounting data for XYZ Inc.?

(a) the company president

(b) production manager

(d) receptionist of the employees’ labour union

Which of the following groups uses accounting information primarily to ensure the company is operating within prescribed rules?

(a) taxing authorities

(b) regulatory agencies

(d) management

Which of the following uses accounting information to determine whether a company can pay its obligations?

(a) shareholders

(b) marketing managers

(d) Canada Revenue Agency

Which of the following uses accounting information to determine whether a company’s profit will result in a share price increase?

(a) shareholders

(b) marketing managers

(d) Chief Financial Officer

Which of the following uses accounting information to determine whether a marketing proposal will be cost effective?

(a) shareholders

(b) marketing managers

(d) Human Resource managers

Which of the following would not be considered an external user of accounting data?

(a) Canada Revenue Agency

(b) management

(d) customers

Which of the following would not be considered an internal user of accounting data?

(a) the president of a company

(b) the controller of a company

(d) a salesperson of a company

External users want answers to all of the following questions except

(a) Is the company earning satisfactory income?

(b) Will the company be able to pay its debts as they come due?

(d) How does the company compare in profitability with competitors?

The proprietorship form of business organization

(a) in most provinces, must have at least two owners.

(b) is often chosen for small owner operated businesses.

(d) is classified as a separate legal entity.

A business organized as a corporation

(a) is not a separate legal entity in most provinces.

(b) requires that shareholders be personally liable for the debts of the business.

(d) has income tax disadvantages over a proprietorship or partnership.

The partnership form of business organization

(a) is a separate legal entity.

(b) is a common form of organization for service-type businesses.

(d) has limited liability.

Which form of business would have its shares listed on a stock exchange?

(a) proprietorship

(b) partnership

(d) public corporation

A business organized as a separate legal entity is a

(a) corporation.

(b) proprietorship.

(d) partnership.

The concept that economic activity which can be identified with a particular company must be kept separate and distinct from the owner(s) and from all other economic entities is known as

(a) the separation concept.

(b) the reporting entity concept.

(d) the business organization concept.

An advantage of the corporate form of business is that

(a) it has limited life.

(b) its shareholders’ personal resources are at stake.

(d) it is simple to establish.

A corporation has which of the following set of characteristics?

(a) shareholder control, income tax disadvantages, increased skills and resources

(b) simple to set up and maintains control with founder

(d) Easier to transfer ownership and raise funds, no personal liability

A small neighbourhood barber shop that is operated by its owner would likely be organized as a

(a) public corporation.

(b) partnership.

(d) proprietorship.

Which of the following statements is not true?

(a) Public corporations must use international financial reporting standards.

(b) Private corporations can choose to use either international financial reporting standards (IFRS) or accounting standards for private enterprises (ASPE).

(d) All private corporations are small.

The liability created by a business when it purchases coffee beans and coffee cups on credit from suppliers is called a(n)

(a) account payable.

(b) account receivable.

(d) expense.

The right to receive money in the future is called a(n)

(a) account payable.

(b) account receivable.

(d) revenue.

Which of the following is not a principal type of business activity?

(a) operating

(b) investing

(d) marketing

Which of the following activities involves raising the necessary funds to support the business?

(a) operating

(b) investing

(d) marketing

Buying assets needed to operate a business is an example of a(n)

(a) purchasing activity.

(b) financing activity.

(d) operating activity.

Cost of goods sold is a(n)

(a) liability.

(b) financing activity.

(d) expense.

Allocating the cost of using long-term assets over their useful lives is called

(a) allocation expense.

(b) depreciation expense.

(d) asset use expense.

Buying and selling products are examples of

(a) operating activities.

(b) investing activities.

(d) manufacturing activities.

The common characteristic possessed by all assets is

(a) long life.

(b) great monetary value.

(d) future economic benefit.

Expenses are incurred

(a) only on rare occasions.

(b) to produce assets.

(d) to generate revenues.

The cost of assets consumed or services used is also known as a(n)

(a) revenue.

(b) expense.

(d) asset.

Resources owned by a corporation are referred to as

(a) shareholders’ equity.

(b) liabilities.

(d) revenues.

Debt and obligations of a business are referred to as

(a) assets.

(b) equities.

(d) expenses.

Liabilities:

(a) are future economic benefits.

(b) are debts and obligations.

(d) are things of value owned by a business.

Liabilities of a company are owed to

(a) debtors.

(b) owners.

(d) shareholders.

Dividends are reported on

(a) the income statement.

(b) the statement of changes in equity.

(d) both the income statement and statement of financial position.

Dividends

(a) increase assets.

(b) increase expenses.

(d) decrease retained earnings.

The financial statement that summarizes the changes in common shares and retained earnings for a specific period of time is the

(a) statement of financial position.

(b) income statement.

(d) statement of changes in equity.

Profit results when

(a) Assets > Liabilities.

(b) Assets < Liabilities.

(d) Revenues < Expenses.

Retained earnings at the end of the period is equal to

(a) retained earnings at the beginning of the period plus profit minus liabilities.

(b) retained earnings at the beginning of the period plus profit minus dividends.

(d) assets plus liabilities.

A company’s policy toward dividends and growth could best be determined by examining the

(a) statement of financial position.

(b) income statement.

(d) statement of cash flows.

An income statement

(a) summarizes the changes in retained earnings for a specific period of time.

(b) reports the changes in assets, liabilities, and shareholders’ equity over a period of time.

(d) reports the revenues and expenses for a specific period of time.

If the retained earnings account increases from the beginning of the year to the end of the year, then

(a) profit is greater than dividends.

(b) a loss is less than dividends.

(d) dividends were received.

The statement of changes in equity would not show

(a) the beginning retained earnings balance.

(b) revenues and expenses.

(d) the ending retained earnings balance.

Which financial statement is prepared first?

(a) Statement of financial position

(b) Income statement

(d) Statement of cash flows

A statement of financial position shows

(a) revenues, liabilities, and shareholders’ equity.

(b) expenses, dividends, and shareholders’ equity.

(d) assets, liabilities, and shareholders’ equity.

The accounting equation may be expressed as

(a) Assets = Shareholders’ Equity – Liabilities.

(b) Assets = Liabilities + Shareholders’ Equity.

(d) Assets + Shareholders’ Equity = Liabilities.

Use the following information for questions 94–95.

Kareem’s Rental Ltd. started the year with total assets of $70,000 and total liabilities of $40,000. During the year, the business recorded $100,000 in car repair revenues, $65,000 in expenses, and paid dividends of $5,000.

Shareholders’ equity at the end of the year was

(a) $60,000.

(b) $65,000.

(d) $75,000.

The profit reported for the year was

(a) $30,000.

(b) $35,000.

(d) $100,000.

If total liabilities increased by $15,000 and shareholders’ equity increased by $15,000 during a period of time, then total assets must change by what amount and direction (increase or decrease) during that same period?

(a) $15,000 decrease

(b) $15,000 increase

(d) $30,000 increase

If total liabilities decreased by $45,000 during a period of time and shareholders’ equity increased by $27,000 during the same period, then the amount and direction (increase or decrease) of the period’s change in total assets is a(n)

(a) $45,000 increase.

(b) $27,000 increase.

(d) $18,000 increase.

The statement of financial position

(a) summarizes the changes in shareholders’ equity for a specific period of time.

(b) reports the changes in assets, liabilities, and shareholders’ equity over a period of time.

(d) presents the revenues and expenses for a specific period of time.

Which of the following financial statements is concerned with the company at a point in time?

(a) Statement of financial position

(b) Income statement

(d) Statement of cash flows

Shareholders’ equity can be described as claims of

(a) creditors on total assets.

(b) owners on total assets.

(d) debtors on total assets.

Payments to shareholders are called

(a) expenses.

(b) liabilities.

(d) shares.

Common shares are reported on

(a) the statement of financial position.

(b) the statement of changes in equity.

(d) both the statement of changes in equity and the statement of financial position.

Shareholders’ equity is usually comprised of

(a) common shares and dividends.

(b) common shares and retained earnings.

(d) profit and retained earnings.

Common shares represent

(a) the creditors’ claims on the company.

(b) the total profit of the company to date.

(d) the owners’ claims on the company.

Retained earnings are

(a) the shareholders’ claim on total assets.

(b) equal to cash.

(d) the amount of profit kept in the corporation for future use.

Which financial statement would indicate whether the company relies more on debt or on shareholders’ equity to finance its assets?

(a) Statement of cash flows

(b) Statement of changes in equity

(d) Statement of financial position

The primary purpose of the statement of cash flows is to report

(a) a company’s investing transactions.

(b) a company’s financing transactions.

(d) the net increase or decrease in cash.

The statement of changes in equity is dependent on the results from

(a) the statement of cash flows.

(b) the statement of financial position.

(d) a company’s share capital.

The statement of financial position and statement of changes in equity are related because

(a) the total assets on the statement of financial position is reported on the statement of changes in equity.

(b) the ending amount on the statement of changes in equity is reported on the statement of financial position.

(d) both contain information for the corporation.

The statement of cash flows and the statement of financial position are interrelated because

(a) the ending amount of cash on the statement of cash flows must agree with the amount on the income statement.

(b) the ending amount of cash on the statement of cash flows must agree with the amount in the statement of changes in equity.

(c) the ending amount of cash on the statement of cash flows must agree with the amount in the statement of financial position.

(d) both disclose the corporation’s profit.

Answers to Multiple Choice Questions

Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.
47.	d	59.	b	71.	c	83.	d	95.	b	107.	c
48.	a	60.	d	72.	d	84.	d	96.	d	108.	c
49.	d	61.	a	73.	b	85.	c	97.	c	109.	b
50.	b	62.	b	74.	a	86.	b	98.	c	110.	c
51.	c	63.	c	75.	d	87.	c	99.	a
52.	a	64.	d	76.	d	88.	d	100.	b
53.	b	65.	d	77.	b	89.	a	101.	c
54.	b	66.	d	78.	c	90.	b	102.	d
55.	c	67.	a	79.	c	91.	b	103.	b
56.	c	68.	b	80.	b	92.	d	104.	c
57.	b	69.	d	81.	c	93.	b	105.	d
58.	c	70.	c	82.	b	94.	a	106.	d

Exercises

Ex. 111

Classify each of the following items as investing, financing, or operating activity:

Cash sale of merchandise
Repayment of bank loan
Purchase of inventory
Sale of equipment for cash
Payment of commission to a salesperson
Payment of dividends
Receipt of interest on accounts receivable
Payment for insurance for the current year
Purchase of shares in another company as a long-term investment
Issue of debt

Solution 111 (6 min.)

Operating

Financing

Operating

Investing

Operating

Financing

Operating

Operating

Investing

Financing

Ex. 112

Indicate in the space provided by each item whether it would appear on the statement of cash flows as a(n): (O) operating activity, (I) investing activity, or (F) financing activity.

_____ 1. Cash receipts from customers

_____ 2. Issue of common shares for cash

_____ 3. Payment of cash dividends

_____ 4. Cash purchase of equipment

_____ 5. Cash payments to suppliers

_____ 6. Sale of old machine for cash

Solution 112 (5 min.)

O 1.

F 2.

F 3.

I 4.

O 5.

I 6.

Ex. 113

The following questions are unrelated:

You know that profit is $50,000, opening retained earnings $25,000, dividends $20,000, common shares $2,000, current assets $26,000 and total liabilities are $33,000. What is the amount of total assets?
Cash provided by operating activities is $25,000, cash used in investing activities is $20,000 and cash used in financing activities is $2,000. The ending cash balance is $10,000. What is the beginning cash balance?

Solution 113 (10 min.)

Opening retained earnings……………………………………………………… $25,000

Add: Profit……………………………………………………………………………. 50,000

Less: dividends…………………………………………………………………….. (20,000)

Ending retained earnings……………………………………………………….. $55,000

Retained earnings…………………………………………………………………. $55,000

Common shares……………………………………………………………………. 2,000

Total liabilities……………………………………………………………………….. 33,000

Total liabilities and shareholders’ equity…………………………………… $90,000

Total assets………………………………………………………………………….. $90,000

Cash provided by operating activities………………………………………. $25,000

Cash used in investing…………………………………………………………… (20,000)

Cash used in financing…………………………………………………………… (2,000)

Net change in cash……………………………………………………………….. 3,000

Cash beginning…………………………………………………………………….. X

Cash ending…………………………………………………………………………. $10,000

Solving for X, cash beginning is $7,000

Ex. 114

Prepare an income statement, a statement of changes in equity, and a statement of financial position for Norman Rae Ltd., a service business, from the items listed below for the month of October, 2015:

…… Accounts payable………………………………………………………………….. $10,000

…… Accounts receivable………………………………………………………………. 14,000

…… Cash……………………………………………………………………………………. 10,000

…… Common shares……………………………………………………………………. 28,000

…… Dividends paid………………………………………………………………………. 6,000

…… Income tax expense………………………………………………………………. 4,500

…… Office equipment…………………………………………………………………… 30,000

…… Office supplies………………………………………………………………………. 2,800

…… Office supplies expense…………………………………………………………. 3,500

…… Rent expense……………………………………………………………………….. 3,000

…… Retained earnings, October 1…………………………………………………. 15,000

…… Salaries expense…………………………………………………………………… 7,000

…… Service revenue……………………………………………………………………. 28,500

…… Utilities expense……………………………………………………………………. 700

NORMAN RAE LTD.

Income Statement

Month Ended October 31, 2015

–––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––

Revenues…………………………………………………………………………………… $________

Expenses……………………………………………………………………………………. $________

Total expenses……………………………………………………………………………. ________

Profit before income tax……………………………………………………………….. ________

Income tax expense…………………………………………………………………….. ________

Profit………………………………………………………………………………………….. ________

NORMAN RAE LTD.

Statement of Changes in Equity

Month Ended October 31, 2015

––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––

Common Shares Retained Earnings Total Equity

Balances, October 1 $ ________

Profit

Dividends

Balances, October 31 $ ________

NORMAN RAE LTD.

Statement of Financial Position

October 31, 2015

Assets

$________

Assets

Total assets $________

Liabilities and Shareholders’ Equity

Liabilities $________

Shareholders’ equity

Total shareholders’ equity $________

Total liabilities and shareholders’ equity $________

Solution 114 (30 min.)

NORMAN RAE LTD.

Income Statement

Month Ended October 31, 2015

Revenues

Service revenue …………………………………………………………………………………….. $28,500

Expenses

Salaries expense…………………………………………………………………… $7,000

Office supplies expense…………………………………………………………. 3,500

Rent expense……………………………………………………………………….. 3,000

Utilities expense……………………………………………………………………. 700

Total expenses……………………………………………………………….. 14,200

Profit before income tax …………………………………………………………………………………….. 14,300

Income tax expense…………………………………………………………………….. 4,500

Profit …………………………………………………………………………………….. $ 9,800

NORMAN RAE LTD.

Statement of Changes in Equity

Month Ended October 31, 2015

Common Shares Retained Earnings Total Equity

Balances, October 1 $28,000 $15,000 $43,000

Profit 9,800 9,800

Dividends ______ (6,000) (6,000)

Balances, October 31 $28,000 $18,800 $46,800

NORMAN RAE LTD.

Statement of Financial Position

October 31, 2015

Assets

Cash………………………………………………………………………………………….. $10,000

Accounts receivable…………………………………………………………………………………… 14,000

Office supplies…………………………………………………………………………….. 2,800

Office equipment…………………………………………………………………………. 30,000

Total assets …………………………………………………………………………………….. $56,800

Liabilities and Shareholders’ Equity

Liabilities

Accounts payable …………………………………………………………………………………….. $10,000

Shareholders’ equity

Common shares……………………………………………………………………. $28,000

Retained earnings…………………………………………………………………. 18,800

Total shareholders’ equity………………………………………………….. 46,800

Total liabilities and shareholders’ equity …………………………………………………………………………………….. $56,800

Ex. 115

Use the following information to calculate for the year ended December 31, 2015:

(a) profit,

(b) ending retained earnings, and

…… Accounts payable…………………………………………………. 11,000

…… Accounts receivable……………………………………………… 6,000

…… Bank loan payable………………………………………………… 2,000

…… Cash…………………………………………………………………… 20,000

…… Common shares…………………………………………………… 10,000

…… Dividends…………………………………………………………….. 3,000

…… Income tax expense……………………………………………… 1,500

…… Office equipment………………………………………………….. 3,500

…… Operating expenses……………………………………………… 10,000

…… Retained earnings (beginning)……………………………….. 4,000

…… Revenues……………………………………………………………. 18,500

…… Supplies………………………………………………………………. $ 1,500

Solution 115 (5 min.)

(a) $7,000 ($18,500 – $10,000 – $1,500)

(b) $8,000 ($4,000 + $7,000 – $3,000)

Ex. 116

Use the following information to prepare, in good form, an income statement, a statement of changes in equity, and a statement of financial position for Lockerby Industries Ltd. for the month ended July 31, 2015.

…… Accounts payable…………………………………………………. $ 7,500

…… Accounts receivable……………………………………………… 4,400

…… Bank loan payable………………………………………………… 11,000

…… Cash…………………………………………………………………… 47,000

…… Common shares…………………………………………………… 75,500

…… Dividends…………………………………………………………….. 5,000

…… Income tax expense……………………………………………… 13,900

…… Insurance expense……………………………………………….. 1,700

…… Office building………………………………………………………. 100,000

…… Retained earnings (beginning)……………………………….. 32,500

…… Revenues……………………………………………………………. 63,000

…… Salaries expense………………………………………………….. 16,500

…… Supplies………………………………………………………………. 1,000

LOCKERBY INDUSTRIES LTD.

Income Statement

Month Ended July 31, 2015

Revenues…………………………………………………………………………………… $________

Expenses……………………………………………………………………………………. $________

Total expenses……………………………………………………………………………. ________

Profit before income tax……………………………………………………………….. ________

Income tax expense…………………………………………………………………….. ________

Profit………………………………………………………………………………………….. ________

LOCKERBY INDUSTRIES LTD.

Statement of Changes in Equity

Month Ended July 31, 2015

Common Shares Retained Earnings Total Equity

Balances, July 1 $ ________

Profit $ ________

Dividends $ ________

Balances, July 31 $ ________

LOCKERBY INDUSTRIES LTD.

Statement of Financial Position

July 31, 2015

Assets

Assets $________

Total assets $________

Liabilities and Shareholders’ Equity

Liabilities $________

Shareholders’ equity

Total shareholders’ equity $________

Total liabilities and shareholders’ equity $________

Solution 116 (30 min.)

LOCKERBY INDUSTRIES LTD.

Income Statement

Month Ended July 31, 2015

Revenues

Service revenue …………………………………………………………………………………….. $63,000

Expenses

Salaries expense…………………………………………………………………… $16,500

Insurance expense………………………………………………………………… 1,700

Total expenses……………………………………………………………….. 18,200

Profit before income tax …………………………………………………………………………………….. 44,800

Income tax expense…………………………………………………………………….. 13,900

Profit………………………………………………………………………………………….. $ 30,900

LOCKERBY INDUSTRIES LTD.

Statement of Changes in Equity

Month Ended July 31, 2015

Common Shares Retained Earnings Total Equity

Balances, July 1 $75,500 $32,500 $108,000

Profit 30,900 30,900

Dividends ______ (5,000) (5,000)

Balances, July 31 $75,500 $58,400 $133,900

LOCKERBY INDUSTRIES LTD.

Statement of Financial Position

July 31, 2015

Assets

Cash………………………………………………………………………………………….. $ 47,000

Accounts receivable…………………………………………………………………….. 4,400

Supplies……………………………………………………………………………………… 1,000

Office building……………………………………………………………………………… 100,000

Total assets …………………………………………………………………………………….. $152,400

Liabilities and Shareholders’ Equity

Liabilities

Accounts payable………………………………………………………………….. $ 7,500

Bank loan payable…………………………………………………………………. 11,000

Total liabilities…………………………………………………………………… $ 18,500

Shareholders’ equity

Common shares……………………………………………………………………. $75,500

Retained earnings…………………………………………………………………. 58,400 133,900

Total liabilities and shareholders’ equity …………………………………………………………………………………….. $152,400

Ex. 117

Listed below in alphabetical order is accounting information for Ching Corp. at December 31, 2015. Prepare a statement of financial position in good format.

Accounts payable…………………………………………………. $ 19,000

Accounts receivable……………………………………………… 32,000

Building……………………………………………………………….. 100,000

Cash…………………………………………………………………… 42,000

Common shares…………………………………………………… 160,000

Land…………………………………………………………………… 60,000

Office equipment………………………………………………….. 40,000

Retained earnings………………………………………………… 95,000

Solution 117 (10 min.)

CHING CORP

Statement of Financial Position

December 31, 2015

Assets

Cash………………………………………………………………………………………….. $ 42,000

Accounts receivable…………………………………………………………………………………… 32,000

Land………………………………………………………………………………………….. 60,000

Building………………………………………………………………………………………. 100,000

Office equipment…………………………………………………………………………. 40,000

Total assets …………………………………………………………………………………….. $274,000

Liabilities and Shareholders’ Equity

Liabilities

Accounts payable…………………………………………………………………… $ 19,000

Shareholders’ equity

Common shares…………………………………………………………………….. $160,000

Retained earnings………………………………………………………………….. 95,000 255,000

Total liabilities and shareholders’ equity …………………………………………………………………………………….. $274,000

Ex. 118

Indicate in the space provided by each item whether it would appear on the Income statement (IS), Statement of financial position (SFP), and/or Statement of changes in equity (SCE):

_____ Service Revenue 7. _____ Accounts Receivable

_____ Utilities Expense 8. _____ Common Shares

_____ Cash 9. _____ Equipment

_____ Accounts Payable 10. _____ Advertising Expense

_____ Office Supplies 11. _____ Dividends

_____ Salaries Expense 12. _____ Notes Payable

Solution 118 (5 min.)

SCE and SFP

Ex. 119

Grayson Inc. was reviewing its business activities at the end of its fiscal year (November 30, 2015) and decided to prepare a statement of changes in equity. At the beginning of the year, its assets were $600,000, liabilities were $150,000, and common shares were $200,000. The profit for the year was $220,000. Dividends of $120,000 were paid during the year.

Instructions

Prepare a statement of changes in equity for the year ended November 30, 2015.

Solution 119 (10 min.)

GRAYSON INC.

Statement of Changes in Equity

Year Ended November 30, 2015

Common Shares Retained Earnings Total Equity

Balances, Dec 1, 2014 $200,000 $250,000 $450,000

Profit 220,000 220,000

Dividends _______ (120,000) (120,000)

Balances, Nov 30, 2015 $200,000 $350,000 $550,000

(opening R/E = $600,000 – $150,000 – $200,000 = $250,000)

Ex. 120

At September 1, the statement of financial position accounts for GoodFood Restaurant Ltd. were as follows:

…… Accounts payable…………………………………………………. $ 3,800

…… Accounts receivable……………………………………………… 1,600

…… Bank loan payable………………………………………………… 46,000

…… Building……………………………………………………………….. 68,000

…… Cash…………………………………………………………………… 5,000

…… Common shares…………………………………………………… ?

…… Furniture……………………………………………………………… 18,700

…… Land…………………………………………………………………… 33,000

…… Retained earnings………………………………………………… 43,200

…… Supplies………………………………………………………………. 4,600

The following transactions occurred during the next two days:

Shareholders invested an additional $32,000 cash in the business. The accounts payable were paid in full. (No payment was made on the bank loan payable.)

Instructions

Prepare a statement of financial position at September 3, 2015.

Solution 120 (10 min.)

GOODFOOD RESTAURANT LTD.

Statement of Financial Position

September 3, 2015

Assets

Cash………………………………………………………………………………………….. $ 33,200

Accounts receivable…………………………………………………………………….. 1,600

Supplies……………………………………………………………………………………… 4,600

Land………………………………………………………………………………………….. 33,000

Building………………………………………………………………………………………. 68,000

Furniture…………………………………………………………………………………….. 18,700

Total assets …………………………………………………………………………………….. $159,100

Liabilities and Shareholders’ Equity

Liabilities

Notes payable………………………………………………………………………. $ 46,000

Shareholders’ equity

Common shares……………………………………………………………………. $69,900

Retained earnings…………………………………………………………………. 43,200 113,100

Total liabilities and shareholders’ equity …………………………………………………………………………………….. $159,100

Cash ($5,000 + $32,000 – $3,800) = $33,200

Accounts Payable ($3,800 – $3,800) = $0

Shareholders’ Equity: Beginning balance ($130,900 – $49,800) $ 81,100

Additional investment 32,000

Ending balance $113,100

Common Shares ($113,100 – $43,200) = $69,900

Ex. 121

From the following list of selected accounts taken from the records of Smiles Unlimited Clinic Inc., identify those that would appear on the statement of financial position:

(a) Common Shares (f) Accounts Payable

(b) Patient Revenue (g) Cash

(d) Wages Expense (i) Medical Supplies

(e) Notes Payable (j) Utilities Expense

Solution 121 (5 min.)

(a), (c), (e), (f), (g), (i)

Ex. 122

One item is omitted in each of the following summaries of statement of financial position and income statement data for three different corporations, X, Y, and Z.

Instructions

Determine the amounts of the missing items, identifying each corporation by letter.

Corporation

X Y Z

Beginning of the Year:

Assets………………………………………………… $400,000 $150,000 $199,000

Liabilities…………………………………………….. 250,000 105,000 168,000

End of the Year:

Assets………………………………………………… 450,000 195,000 195,000

Liabilities…………………………………………….. 280,000 95,000 169,000

During the Year:

Common shares issued by shareholders… ? 79,000 78,000

Dividends……………………………………………. 70,000 83,000 ?

Revenue…………………………………………….. 195,000 ? 187,000

Expenses, including income tax expense.. 155,000 113,000 185,000

Solution 122 (30 min.)

Corporation X ($50,000)

Beginning shareholders’ equity ($400,000 – $250,000) $150,000

Common shares issued ($170,000 + $70,000 – $150,000 – $40,000) 50,000

Profit for year ($195,000 – $155,000)……………………………………………………….. 40,000

240,000

Less: dividends……………………………………………………………………………………… 70,000

Ending shareholders’ equity ($450,000 – $280,000) $170,000

Corporation Y ($172,000)

Beginning shareholders’ equity ($150,000 – $105,000)……………………………….. $ 45,000

Common shares issued 79,000

Profit for year ($183,000 – $45,000 – $79,000) …………………………………………. 59,000

[Revenues = $172,000 ($113,000 + $59,000)]…………………………………………………………………………………………………….. 183,000

Less: dividends……………………………………………………………………………………… 83,000

Ending shareholders’ equity ($195,000 – $95,000) $100,000

Corporation Z ($85,000)

Beginning shareholders’ equity ($199,000 – $168,000)……………………………….. $ 31,000

Common shares issued 78,000

Profit for year ($187,000 – $185,000)……………………………………………………….. 2,000

111,000

Less: dividends ($111,000 – $26,000)………………………………………………………. 85,000

Ending shareholders’ equity ($195,000 – $169,000)…………………………………… $ 26,000

Ex. 123

Calculate the missing items.

Assets = Liabilities + Shareholders’ Equity

$80,000 = $32,000 + (a)

(b) = $28,000 + $90,000

$84,000 = (c) + $65,000

Solution 123 (5 min.)

(a) $48,000

(b) $118,000

Ex. 124

Identify which of the following accounts appear on a statement of financial position:

Service revenue
Cash
Common shares
Accounts payable
Rent expense
Supplies
Land

Solution 124 (5 min.)

(b), (c), (d), (f), (g)

Ex. 125

For the items listed below, fill in the appropriate code letter to indicate whether the item is an asset, liability, or shareholders’ equity item.

Code

Asset A

Liability L

Shareholders’ Equity SE

______ 1. Rent expense ______ 7. Accounts receivable

______ 2. Office equipment ______ 8. Retained earnings

______ 3. Accounts payable ______ 9. Service revenue

______ 4. Common shares ______ 10. Bank loan payable

______ 5. Insurance expense ______ 11. Dividends

______ 6. Cash ______ 12. Unearned revenue

Solution 125 (5 min.)

Ex. 126

Classify each of these items as an asset (A), liability (L), or shareholders’ equity (SE).

_____ 1. Rent receivable _____ 6. Cash

_____ 2. Salaries payable _____ 7. Mortgage payable

_____ 3. Preferred shares _____ 8. Land

_____ 4. Office supplies _____ 9. Dividends

_____ 5. Retained earnings _____ 10. Office supplies expense

Solution 126 (5 min.)

Ex. 127

At the beginning of the year, Hanover Limited had total assets of $600,000 and total liabilities of $300,000. Answer the following questions, viewing each situation as being independent of the others.

If total assets increased $225,000 during the year, and total liabilities decreased $100,000, what is the amount of shareholders’ equity at the end of the year?
During the year, total liabilities increased $315,000 and shareholders’ equity decreased $130,000. What is the amount of total assets at the end of the year?
If total assets decreased $60,000 and shareholders’ equity increased $180,000 during the year, what is the amount of total liabilities at the end of the year?

Solution 127 (5 min.)

$625,000

Total Assets Total Liabilities Shareholders’ Equity

Beginning $600,000 $300,000 $300,000

Change 225,000 (100,000) 325,000

Ending $825,000 – $200,000 = $625,000 (1.)

$785,000

Total Assets Total Liabilities Shareholders’ Equity

Beginning $600,000 $300,000 $300,000

Change 185,000 315,000 (130,000)

Ending $785,000 (2.) = $615,000 + $170,000

$60,000

Total Assets Total Liabilities Shareholders’ Equity

Beginning $600,000 $300,000 $300,000

Change (60,000) (240,000) 180,000

Ending $540,000 = $ 60,000 (3.) + $480,000

Ex. 128

Rug Repairs Ltd. has the following statement of financial position items:

Accounts Payable

Accounts Receivable

Bank Loan Payable

Cash

Common Shares

Equipment

Retained Earnings

Unearned Revenue

Van

Instructions

Identify which items are

(a) Assets

(b) Liabilities

Solution 128 (5 min.)

(a) Assets—Accounts Receivable; Cash; Equipment; Van

(b) Liabilities—Accounts Payable; Bank Loan Payable; Unearned Revenue

Ex. 129

On June 1, Carmelo Ltd. prepared a statement of financial position that shows the following:

Assets (no cash)…………………………………………………………………… $125,000

Liabilities……………………………………………………………………………… 75,000

Shareholders’ Equity……………………………………………………………… 50,000

Shortly thereafter, all of the assets were sold for cash.

Instructions

How would the statement of financial position appear immediately after the sale of the assets for cash for each of the following cases?

Cash Received for Balances Immediately After Sale

the Assets Assets – Liabilities = Shareholders’ Equity

Case A $135,000 $________ $________ $________

Case B 125,000 ________ ________ ________

Case C 110,000 ________ ________ ________

Solution 129 (5 min.)

Cash Received for Balances Immediately After Sale

the Assets Assets – Liabilities = Shareholders’ Equity

Case A $135,000 $135,000 $75,000 $60,000

Case B 125,000 125,000 75,000 50,000

Case C 110,000 110,000 75,000 35,000

Ex. 130

Calculate the missing amount in each category of the accounting equation:

Assets Liabilities Shareholders’ Equity

(a) $360,000 $ ? $ 98,000

(b) $178,000 $ 73,000 $ ?___

Solution 130 (5 min.)

(a) $262,000 ($360,000 – $98,000 = $262,000).

(b) $105,000 ($178,000 – $73,000 = $105,000).

Ex. 131

Use the following information to prepare the statement of cash flows for Greece Corporation for the year ended December 31, 2015:

…… Cash received from customers……………………………….. $25,000

…… Cash dividends paid……………………………………………… 3,000

…… Cash paid to suppliers…………………………………………… 10,000

…… Cash paid for new equipment…………………………………. 30,000

…… Cash received from lenders…………………………………… 7,000

…… Cash, January 1, 2015………………………………………….. 25,000

…… Cash, December 31, 2015…………………………………….. 14,000

Solution 131 (10 min.)

GREECE CORPORATION

Statement of Cash Flows

Year Ended December 31, 2015

––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––

Operating activities

Cash received from customers……………………………………………….. $25,000

Cash paid to suppliers……………………………………………………………. (10,000)

Net cash provided by operating activities……………………………………………………………………………………… $15,000

Investing activities

Cash paid for new equipment…………………………………………………………………………………… (30,000)

Financing activities

Cash received from lenders……………………………………………………. $ 7,000

Cash dividends paid………………………………………………………………. (3,000)

Net cash provided by financing activities………………………………….. 4,000

Net increase (decrease) in cash…………………………………………………………………………………………… (11,000)

Cash, January 1………………………………………………………………………….. 25,000

Cash, December 31 …………………………………………………………………………………………… $14,000

Ex 132

Speedway Corporation’s shareholders’ equity equals one-fifth of the company’s total assets. The company’s liabilities are $125,000. What is the amount of the company’s shareholders’ equity?

Solution 132

$31,250 (X = 1/5X + $125,000) where X = total assets

Solving for X:

X – 1/5X = $125,000

4/5X = $125,000

X = $125,000 × 5/4

X = $156,250

Shareholder’s equity = (1/5) × $156,250 = $31,250

Proof: $31,250 + $125,000 = $156,250

MATCHING

Match the items below by entering the appropriate code letter in the space provided.

(a) Internal users (f) Assets

(b) Proprietorship (g) Liabilities

(d) Investing activities (i) Loss

(e) Fiscal year (j) Dividends

_____ 1. Officers and others who manage the business

_____ 2. Ownership is limited to one person.

_____ 3. A separate legal entity that issues shares that are not publicly traded

_____ 4. Consumed assets or services

_____ 5. Creditor claims against the assets of the business.

_____ 6. Amount by which expenses exceed revenues.

_____ 7. Future economic benefits

_____ 8. Involves acquiring the resources necessary to run the business

_____ 9. Distributions to shareholders

_____ 10. An accounting period that is one year long

Answers to Matching

SHORT-ANSWER ESSAY QUESTIONS

S-A E 134

The information that a specific user of financial information needs depends upon the kinds of decisions that a user makes. Identify the major users of accounting information and discuss what questions financial information answers for each group of users.

Solution 134

The major users of accounting information are internal and external users. Internal users are those who manage the business. External users are those outside the business who have either a present or potential financial interest.

Financial information may answer the following questions for internal users:

Is cash sufficient to pay our debts?
Can we afford to give our employees a raise this year?
What is the cost of manufacturing each unit of product?
Which product line is the most profitable?

Questions answered by financial information for external users include:

Is the company earning satisfactory profit?
How does the company compare in size and profitability with competitors?
Will the company be able to pay its debts as they come due?

S-A E 135

Anthony Davidson, an old friend of yours from high school, started a small business about a year ago, which is organized as a private corporation. Anthony is currently in the process of applying for a bank loan to expand his business. He shows you the most recent statement of financial position that he has prepared for the bank, which is as follows:

DAVIDSON CORPORATION

Statement of Financial Position

September 30, 2015

Assets

Cash…………………………………………………………………………………………………………… $ 80,000

Accounts receivable……………………………………………………………………………………… 22,000

Equipment…………………………………………………………………………………………………… 160,000

Total assets…………………………………………………………………………………………………………. $262,000

Liabilities and Shareholders’ Equity

Accounts payable…………………………………………………………………………………………. $ 27,000

Shareholders’ equity……………………………………………………………………………………… 235,000

Total liabilities and shareholders’ equity………………………………………………………………………………………………………….. $262,000

Since Anthony knows that you are studying accounting at college, he asks your opinion. “What do you think?” he says. “Do you think the bank will be impressed and lend me the $100,000 I’m asking for?”

You study the statement for a few minutes. You are pretty sure Anthony doesn’t have anywhere near $160,000 worth of equipment belonging to the business, so you ask where all this equipment is. “Well,” explains Anthony, “in order to increase my assets, I included my personal vehicle, computer and camera equipment, and some of my furniture. They’re worth about $90,000. That should be OK, since they belong to me and I am the only shareholder anyway.” On further questioning, Anthony admits that he added his personal savings account of $45,000 in with the company cash to “make it look better.”

Instructions

(a) Who are the stakeholders here?

(b) Is Anthony’s “creative accounting” acceptable? Why or why not?

Solution 135

(a) The stakeholders in this situation are Anthony, the bank, and any other external users who may rely on Anthony’s financial statements.

(b) No, it is not acceptable. Anthony is ignoring the reporting entity concept, which requires the separation of business and personal records. It is unethical to include personal assets in with the business assets, as it distorts the overall financial picture and will mislead the bank.

(c) You should recommend that Anthony revise the statement so that it correctly reflects his true financial position. It should then be as follows:

DAVIDSON CORPORATION

Statement of Financial Position

September 30, 2015

Assets

Cash ($80,000 – $45,000)……………………………………………………………………………… $ 35,000

Accounts receivable……………………………………………………………………………………… 22,000

Equipment ($160,000 – $90,000)……………………………………………………………………. 70,000

Total assets…………………………………………………………………………………………………………. $127,000

Liabilities and Shareholders’ Equity

Accounts payable…………………………………………………………………………………………. $ 27,000

Shareholders’ equity ($235,000 – $45,000 – $90,000)………………………………………. 100,000

Total liabilities and shareholders’ equity………………………………………………………………………………………………………….. $127,000

It may be that Anthony will still be able to obtain the loan, but even if the bank turns him down, at least he can rest easy, knowing that he has acted ethically and presented a true picture of his business.

S-A E 136

Why would it be “safer” for a wealthy individual to set up his or her business as a corporation rather than as a proprietorship or partnership?

Solution 136

With a proprietorship or partnership, the owner(s) have unlimited liability. That is, they may be required to use personal assets to satisfy business debts. The liability of a corporate shareholder, however, is limited to his or her investment in the business.

S-A E 137

Which two types of transactions affect shareholders’ equity, and how do they affect it?

Solution 137

Shareholders’ equity consists generally of share capital and retained earnings. Share capital is increased by issues of common or preferred shares, for example. Retained earnings are increased by revenues, and decreased by expenses and dividends.

S-A E 138

In what order should the four financial statements be prepared? Explain why it is necessary to prepare the financial statements in the proper order.

Solution 138

Order of financial statement preparation:

income statement;
statement of changes in equity;
statement of financial position; and
statement of cash flows.

It is necessary to prepare the financial statements in proper order because they are interrelated. The statement of changes in equity cannot be prepared without knowing the results from the income statement. Thus the income statement must be prepared first. The statement of financial position cannot be prepared without knowing the ending balance for retained earnings, which is taken from the statement of changes in equity. Finally, the statement of cash flows shows how the cash account changed during the period. The ending cash balance shown on the statement of cash flows must agree with the cash balance shown on the statement of financial position.

S-A E 139

The framework used to record and summarize the economic activities of a company is referred to as the accounting equation.

(a) State the basic accounting equation and define its major components.

(b) How are business transactions and financial statements related to the accounting equation?

Solution 139

(a) The basic accounting equation is expressed as follows:

Assets = Liabilities + Shareholders’ Equity

Assets are defined as resources owned by the business. Liabilities are creditors’ claims against the assets of the business—in other words, existing debts and obligations. Shareholders’ equity is the ownership claim on the total assets of the business; it is equal to total assets minus total liabilities.

(b) Business transactions are economic events and activities that affect the elements of the basic accounting equation; that is, transactions cause increases or decreases in assets, liabilities, and shareholders’ equity. Financial statements report the results and effects of transactions on the business’ assets, liabilities, and shareholders’ equity. The statement of financial position is a summary expression of the basic accounting equation.

S-A E 140

Identify each of the four financial statements. For each statement, explain the primary purpose and identify the primary users and their uses. Answer in point form.

Solution 140

Income statement

Primary purpose – report the success or failure of the company for a specific period of time
Primary users and uses

Shareholders/investors – to decide whether to invest or sell their investment
Creditors/lenders – to decide whether to loan the company money and assess whether it will be able to repay any debt.

Statement of changes in equity

Primary purpose – to show the amounts and causes of changes in each component of shareholders’ equity during a specific period of time (same period as income statement)
Primary users and uses

Shareholders/investors – to evaluate dividend policy
Creditors/lenders – to monitor dividend policy as it affects the ability to repay debt

Statement of financial position

Primary purpose – to report assets and claims to assets at a particular point in time
Primary users and uses

Creditors/lenders – to assess the likelihood that they will be repaid
Managers – to determine if they have the best mix of debt and equity financing

Statement of cash flows

Primary purpose – to provide information about cash receipts and payments of a business for a specific period of time (same period as income statement)
Primary users and uses

Shareholders/investors – to decide whether to invest or sell their investment
Creditors/lenders – to decide whether to lend the business money and assess whether it will be able to repay its debts.

S-A E 141

Lisa Brunet is a friend of yours from high school. She decided to become a beautician after leaving high school, rather than to attend college. She recently opened her own shop on September 1, 2015 and has contracted her services to a local hospital. She is paid a fee for her services from the hospital, and receives a small gratuity (tip) from each patient. She has invested $1,000 of her own money into the company, which is a private corporation, as she plans to expand by providing services to hospitals in other nearby cities. She is the sole shareholder.

She has just received her first set of financial statements from her accountant. She is quite upset. Since the income statement reports profit of $1,075 and she put $1,000 into the company, she is surprised to see her cash account only has $925 in it.

She has written you a letter, asking you how this is possible. She does not understand why her cash balance isn’t $2,075 (her profit plus the $1,000 she invested). Along with her letter she has included her financial statements.

BRUNET BEAUTICIAN LTD

Income Statement

Month Ended September 30, 2015

—————————————————————————————————————————

Revenues

Contract revenue $2,500

Gratuities…………………………………………………………………………………. 75

Total revenues……………………………………………………………………… 2,575

Operating expenses……………………………………………………………………………………… 1,200

Profit before income tax………………………………………………………………………………… 1,375

Income tax expense……………………………………………………………………………………… 300

Profit…………………………………………………………………………………………………………… $1,075

BRUNET BEAUTICIAN LTD.

Statement of Changes in Equity

Month Ended September 30, 2015

—————————————————————————————————————————

Common Shares Retained Earnings Total Equity

Balances, Sep 1 $ 0 $ 0 $ 0

Issued common shares 1,000 1,000

Profit 1,075 1,075

Balances, Sep 30 $1,000 $1,075 $2,075

BRUNET BEAUTICIAN LTD.

Statement of Financial Position

September 30, 2015

——————————————————————————————————————————

Assets

Cash………………………………………………………………………………………….. $ 925

Accounts receivable…………………………………………………………………….. 1,500

Total assets ………………………………………………………………………………………. $2,425

Liabilities and Shareholders’ Equity

Liabilities

Accounts payable…………………………………………………………………… $ 50

Income tax payable………………………………………………………………… 300

Total liabilities…………………………………………………………………. $ 350

Shareholders’ equity

Common shares…………………………………………………………………….. $1,000

Retained earnings………………………………………………………………….. 1,075 2,075

Total liabilities and shareholders’ equity …………………………………………………………………………………….. $2,425

Instructions

Using proper form, write a short letter to Lisa, answer her question completely, but briefly.

Solution 141

Answers will vary. The instructor’s requirements concerning proper form should be followed. The letter may be either business or personal. At a minimum, the letter should be in a recognizable form, and proper grammar and spelling should be used. A suggested personal letter follows:

1010 Carlsen Avenue

Ottawa, Ontario

K2P 1G0

(Date)

Dear Lisa,

The reason that your cash balance is not $2,075 is because some of the revenue you have earned has not been paid to you yet. This is the balance in the Accounts Receivable account which shows what your customer, the hospital, still owes you for the services you have provided.

There are also expenses that you have incurred that you have not paid yet. The Accounts Payable account shows the money you still owe to your suppliers and the Income Tax Payable account shows the amount of money you still have to pay for income tax expense.

When your customer has paid to you what they owe and when you pay off your liabilities, your cash balance will be $2,075, as the following calculation shows:

Cash balance…………………………………………………………………………………………… $ 925

Add: Cash to be received from the hospital (Accounts Receivable)…………………………………………………………………………………………. 1,500

Less: Cash paid to your suppliers (Accounts Payable)………………………………. (50)

Less: Cash paid for income tax (Income Tax Payable)……………………………………. (300)

Cash balance………………………………………………………………………………………………. $2,075

The amount of cash reported on your statement of financial position is correct. A statement of cash flows will provide information on the cash receipts and payments for your business and will help to explain the cash balance that appears on your statement of financial position.

Sincerely,

(signature)

LEGAL NOTICE

The data contained in these files are protected by copyright. This manual is furnished under licence and may be used only in accordance with the terms of such licence.

The material provided herein may not be downloaded, reproduced, stored in a retrieval system, modified, made available on a network, used to create derivative works, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise without the prior written permission of John Wiley & Sons Canada, Ltd.

CHAPTER 5

MERCHANDISING OPERATIONS

Summary of Question TYPEs by STUDY Objective and Level of difficulty

Item	SO	LOD	Item	SO	LOD	Item	SO	LOD	Item	SO	LOD	Item	SO	LOD
True-False Statements
1.	1	E	13.	2	E	25.	3	M	37.	4	M	*49.	6	M
2.	1	E	14.	2	E	26.	3	E	38.	4	M	*50.	6	E
3.	1	E	15.	2	E	27.	3	E	39.	4	E	*51.	6	M
4.	1	E	16.	2	E	28.	3	E	40.	5	E	*52.	6	E
5.	1	E	17.	2	E	29.	3	M	41.	5	M	*53.	6	M
6.	1	E	18.	2	E	30.	3	M	42.	5	M	*54.	6	E
7.	1	M	19.	2	M	31.	4	M	43.	5	E	*55.	6	E
8.	1	E	20.	2	M	32.	4	E	44.	5	E	*56.	6	M
9.	1	M	21.	3	E	33.	4	E	45.	5	E	*57.	6	M
10.	2	M	22.	3	E	34.	4	E	46.	5	E
11.	2	M	23.	3	M	35.	4	E	47.	5	M
12.	2	M	24.	3	M	36.	4	M	*48.	6	E
Multiple Choice Questions
58.	1	E	79.	1,6	E	100.	3	E	121.	4	E	142.	5	E
59.	1	E	80.	2	E	101.	3	E	122.	4	E	143.	5	M
60.	1	E	81.	2	M	102.	3	M	123.	4	E	144.	5	M
61.	1	M	82.	2	E	103.	3	E	124.	4	H	*145.	6	M
62.	1	M	83.	2	M	104.	3	M	125.	4	M	*146.	6	E
63.	1	E	84.	2	M	105.	3	E	126.	4	E	*147.	6	E
64.	1	M	85.	2	E	106.	3	E	127.	4	E	*148.	6	E
65.	1	E	86.	2	M	107.	3	M	128.	4	M	*149.	6	E
66.	1	E	87.	2	E	108.	3	E	129.	4	E	*150.	6	E
67.	1	E	88.	2	E	109.	3	M	130.	4	M	*151.	6	M
68.	1	M	89.	2	E	110.	3	M	131.	4	E	*152.	6	M
69.	1	M	90.	3	E	111.	3	E	132.	4	M	*153.	6	E
70.	1	E	91.	3	M	112.	3	E	133.	4	M	*154.	6	E
71.	1	E	92.	3	E	113.	3	E	134.	5	M	*155.	6	E
72.	1	E	93.	3	E	114.	3	E	135.	5	M	*156.	6	M
73.	1	E	94.	3	E	115.	4	E	136.	5	E	*157.	6	M
74.	1	M	95.	3	E	116.	4	E	137.	5	M	*158.	6	M
75.	1	E	96.	3	M	117.	4	E	138.	5	E	*159.	6	M
76.	1	E	97.	3	E	118.	4	E	139.	5	M	*160.	6	M
77.	1,6	M	98.	3	E	119.	4	E	140.	5	E	*161.	6	M
78.	1,6	E	99.	3	M	120.	4	M	141.	5	E

Note: E = Easy M = Medium H = Hard

*This topic is dealt with in an Appendix to the chapter.

Summary of Question TYPEs by STUDY Objective and Level of difficulty (Continued)

Item	SO	LOD	Item	SO	LOD	Item	SO	LOD	Item	SO	LOD	Item	SO	LOD
Exercises
162.	2	H	168.	2,3,6	E	174.	4,5	E	*180.	6	H	*186.	6	E
163.	2,3	E	169.	3	M	175.	4,5	E	*181.	6	M	*187.	6	M
164.	2,3	M	170.	3	E	176.	4,5	E	*182.	6	E	*188.	6	E
165.	2,3	E	171.	4	E	177.	4,5	E	*183.	6	E
166.	2,3	E	172.	4	E	178.	5	M	*184.	6	E
167.	2,3	H	173.	4	M	179.	5,6	H	*185.	6	M
Matching
189.	1–3,5,6	E,M
Short-Answer Essay
190.	1	E	193.	4	E	196.	4	E	199.	5	E
191.	1,2,6	M	194.	4	E	197.	4	M	*200.	6	E
192.	1,6	E	195.	4	M	198.	4,5	M

Note: E = Easy M = Medium H = Hard

*This topic is dealt with in an appendix to the chapter.

SUMMARY OF STUDY OBJECTIVES BY QUESTION TYPE

Item

Type

Item

Type

Item

Type

Item

Type

Item

Type

Item

Type

Item

Type

Study Objective 1

59.

64.

69.

74.

79.

60.

65.

70.

75.

189.

61.

66.

71.

76.

190.

SAE

62.

67.

72.

77.

191.

SAE

58.

63.

68.

73.

78.

192.

SAE

Study Objective 2

10.

15.

20.

84.

89.

166.

11.

16.

80.

85.

162.

167.

12.

17.

81.

86.

163.

168.

13.

18.

82.

87.

164.

189.

14.

19.

83.

88.

165.

191.

SAE

Study Objective 3

21.

28.

94.

101.

108.

163.

170.

22.

29.

95.

102.

109.

164.

189.

23.

30.

96.

103.

110.

165.

24.

90.

97.

104.

111.

166.

25.

91.

98.

105.

112.

167.

26.

92.

99.

106.

113.

168.

27.

93.

100.

107.

114.

169.

Study Objective 4

31.

37.

118.

124.

130.

173.

194.

SAE

32.

38.

119.

125.

131.

174.

195.

SAE

33.

39.

120.

126.

132.

175.

196.

SAE

34.

115.

121.

127.

133.

176.

197.

SAE

35.

116.

122.

128.

171.

177.

198.

SAE

36.

117.

123.

129.

172.

193.

SAE

Study Objective 5

40.

44.

134.

138.

142.

175.

179.

41.

45.

135.

139.

143.

176.

189.

42.

46.

136.

140.

144.

177.

198.

SAE

43.

47.

137.

141.

174.

178.

199.

SAE

*Study Objective 6

*48.

*55.

*146.

*153.

*160.

*183.

*191.

SAE

*49.

*56.

*147.

*154.

*161.

*184.

*192.

SAE

*50.

*57.

*148.

*155.

*168.

*185.

*200.

SAE

*51.

*77.

*149.

*156.

*179.

*186.

*52.

*78.

*150.

*157.

*180.

*187.

*53.

*79.

*151.

*158.

*181.

*188.

*54.

*145.

*152.

*159.

*182.

*189.

Note: TF = True/False Ma = Matching

MC = Multiple Choice Ex = Exercise SAE = Short Answer Essay

*This topic is dealt with in an Appendix to the chapter.

CHAPTER STUDY OBJECTIVES

Identify the differences between service and merchandising companies. A service company performs services. It has service or fee revenue and operating expenses. A merchandising company sells goods. It has sales revenue, cost of goods sold, and gross profit in addition to operating expenses. Both types of company may also report non-operating items and each would report income tax expense.

Prepare entries for purchases under a perpetual inventory system. The Merchandise Inventory account is debited for all purchases of merchandise and for freight costs if those costs are paid by the buyer (shipping terms FOB shipping point). It is credited for purchase discounts, and purchase returns and allowances.

Prepare entries for sales under a perpetual inventory system. When inventory is sold, two entries are required: (1) Cash or Accounts Receivable is debited and Sales is credited for the selling price of the merchandise, and (2) Cost of Goods Sold is debited and Merchandise Inventory is credited for the cost of inventory items sold. Contra revenue accounts are used to record sales returns and allowances and sales discounts. Two journal entries are also required for sales returns so that both the selling price and the cost of the returned merchandise are recorded. Freight costs paid by the seller (shipping terms FOB destination) are recorded as an operating expense.

Prepare a single-step and a multiple-step income statement. In a single-step income statement, all data (except for income tax expense) are classified under two categories—revenues or expenses—and profit before income tax is determined in one step. Income tax expense is separated from the other expenses and reported separately after profit before income tax to determine profit (loss).

A multiple-step income statement shows several steps in determining profit. Step 1 deducts sales returns and allowances and sales discounts from gross sales to determine net sales. Step 2 deducts the cost of goods sold from net sales to determine gross profit. Step 3 deducts operating expenses (which can be classified by nature or by function) from gross profit to determine profit from operations. Step 4 adds or deducts any non-operating items to determine profit before income tax. Finally, step 5 deducts income tax expense to determine profit (loss).

Calculate the gross profit margin and profit margin. The gross profit margin, calculated by dividing gross profit by net sales, measures the gross profit earned for each dollar of sales. The profit margin, calculated by dividing profit by net sales, measures the profit earned for each dollar of sales. Both are measures of profitability that are closely watched by management and other interested parties.

*6. Prepare entries for purchases and sales under a periodic inventory system and calculate cost of goods sold (Appendix 5A). The periodic inventory system differs from the perpetual inventory system in that separate temporary accounts are used in the periodic system to record (1) purchases, (2) purchase returns and allowances, (3) purchase discounts, and (4) freight costs that are paid by the buyer (shipping terms FOB shipping point). The formula for cost of goods purchased is as follows: Purchases – purchase returns and allowances – purchase discounts = net purchases; and net purchases + freight in = cost of goods purchased.

Both systems use temporary accounts to record (1) sales, (2) sales returns and allowances, and (3) sales discounts. However, in a periodic inventory system, only one journal entry is made to record a sale of merchandise as the cost of goods sold is not recorded throughout the period. Instead, the cost of goods sold is determined at the end of the period.

To determine the cost of goods sold, first calculate the cost of goods purchased, as indicated above. Then, calculate the cost of goods sold as follows: Beginning inventory + cost of goods purchased = cost of goods available for sale; and cost of goods available for sale – ending inventory = cost of goods sold.

At the end of the period, the Merchandise Inventory account is adjusted to reflect its proper balance as determined from the inventory count results. The change in this account is allocated to the Cost of Goods Sold account as are the balances in the Freight In and Purchases account and any related contra accounts.

TRUE-FALSE STATEMENTS

A physical inventory count should be done at least once a year regardless of whether a perpetual or periodic inventory system is being used.

The operating cycle of a merchandising company is generally shorter than that of a service company.

Sales less operating expenses equal gross profit.

Under a perpetual inventory system, the cost of goods sold is determined each time a sale occurs.

Inventory is usually the largest current asset for a merchandiser.

Cost of Goods Sold is considered an operating expense for a merchandising company.

Operating expenses are subtracted from revenue for a service company and from gross profit for a merchandising company.

Gross sales less cost of goods sold is called gross profit.

Cost of goods available for sale is considered an operating expense for a merchandising company.

When the terms of sale are FOB shipping point, the seller is responsible for any damages to the goods during shipping.

Freight terms will specify the point at which ownership of the goods is transferred from the seller to the buyer.

Under a perpetual inventory system, freight costs incurred by the buyer are added to the Merchandise Inventory account.

Under the perpetual inventory system, purchases of merchandise for sale are recorded in the Merchandise Inventory account.

Freight costs incurred on incoming merchandise are an operating expense to the buyer.

The terms 2/10, n/30 mean that a 2% discount is allowed on payments made over 10 days but within the credit period.

Discounts taken for early payment of an invoice are called sales discounts by the buyer.

If merchandise costing $2,500, terms 2/10 n/30, is paid within 10 days, the amount of the purchase discount is $250.

Under the perpetual inventory system, a discount taken for early payment is credited to the Merchandise Inventory account.

A quantity discount is recorded separately, the same way as a purchase discount.

If a quantity discount of 10% is received on a purchase of $10,000, inventory would be recorded at $9,000.

Sales revenues are earned when the goods are transferred from buyer to seller.

Sales revenues are recorded by the seller when an order is placed by a buyer.

The Sales Returns and Allowances account and the Sales Discounts account are both classified as expense accounts.

When goods are shipped FOB shipping point, freight costs are an operating expense for the seller.

Sales Allowances and Sales Discounts are both designed to encourage customers to pay their accounts promptly.

Sales Discounts is a contra revenue account to Sales.

The normal balance of Sales Returns and Allowances is a credit.

When the terms of sale include a sales discount, it usually is advisable for the buyer to pay within the discount period.

Merchandise is sold for $2,500 with terms 1/10, n/30. If $500 of the merchandise is returned prior to payment and the invoice is paid within the discount period, the amount of the sales discount is $20.

When returned merchandise is defective, the seller’s sales account is debited.

The multiple-step income statement is considered more useful than the single-step income statement for a merchandising company because it highlights the components of profit.

Operating expenses are similar in merchandising and service companies.

Gross profit appears on both the single-step and multiple-step forms of the income statement.

Non-operating activities include revenues and expenses that are related to the company’s main operations.

Corporations following IFRS must classify their expenses either by nature or by function.

Profit from operations appears on both the single-step and multiple-step forms of the income statement.

A merchandising company’s profit from operations is determined by subtracting cost of goods sold from net sales.

Interest revenue for a merchandising company is usually reported in the non-operating activities section of the income statement.

Companies following ASPE may classify their expenses by nature, but not by function.

Gross profit is a measure of the overall profit of a company.

Gross profit is expressed as a percentage of gross sales.

Gross profit margin is the same as the gross profit amount.

If net sales are $1,000,000 and cost of goods sold is $800,000, the gross profit margin is 20%.

The gross profit amount is generally considered to be more informative than the gross profit margin.

Gross profit margin is calculated by dividing cost of goods sold by net sales.

Profit margin indicates whether a company is controlling operating expenses relative to sales.

Profit margin is calculated by dividing profit by net sales.

*48. Under a periodic inventory system, purchase of inventory is debited to the Purchases account.

*49. Under a periodic inventory system, freight incurred on merchandise purchases by the buyer should be debited to the Merchandise Inventory account.

*50. Under a periodic inventory system, purchases of merchandise are usually credited to the Purchases account.

*51. Under a periodic inventory system, freight incurred on merchandise sales by the seller should be debited to the Freight In account.

*52. Purchase Returns and Allowances and Purchase Discounts are contra expense accounts with normal credit balances.

*53. Freight In is subtracted from the Purchases account to arrive at cost of goods purchased.

*54. A key difference between the periodic and perpetual inventory systems is the timing of the calculation of cost of goods sold.

*55. The cost of goods sold section of an income statement prepared under a periodic inventory system will contain more detail than under a perpetual inventory system.

*56. On the income statement for a company using the periodic inventory system, the inventory at the beginning of the period is added to the cost of merchandise purchased for the period to calculate the cost of goods available for sale during the period.

*57. Compared to a perpetual inventory system, the use of the periodic inventory system will result in a different value for inventory on the statement of financial position.

Answers to True-False Statements

Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.	Item	Ans.
1.	T	13.	T	25.	F	37.	F	*49.	F
2.	F	14.	F	26.	T	38.	T	*50.	F
3.	F	15.	F	27.	F	39.	F	*51.	F
4.	T	16.	F	28.	T	40.	F	*52.	T
5.	T	17.	F	29.	T	41.	F	*53.	F
6.	F	18.	T	30.	F	42.	F	*54.	T
7.	T	19.	F	31.	T	43.	T	*55.	T
8.	F	20.	T	32.	T	44.	F	*56.	T
9.	F	21.	F	33.	F	45.	F	*57.	F
10.	F	22.	F	34.	F	46.	T
11.	T	23.	F	35.	T	47.	T
12.	T	24.	F	36.	F	*48.	T

MULTIPLE CHOICE QUESTIONS

The time it takes to go from cash to cash in producing revenues is called the

(a) accounting cycle.

(b) purchasing cycle.

(d) merchandising cycle.

Gross profit equals the difference between net sales and

(a) profit.

(b) cost of goods sold.

(d) cost of goods sold plus operating expenses.

Each of the following companies is a merchandising company except a

(a) wholesale parts company.

(b) candy store.

(d) furniture store.

Profit will result if gross profit exceeds

(a) cost of goods sold.

(b) operating expenses.

(d) cost of goods sold plus operating expenses.

A merchandiser will have profit from operations of exactly $0 when

(a) net sales equals cost of goods sold.

(b) cost of goods sold equals gross profit.

(d) gross profit equals operating expenses.

The largest current asset for a merchandiser is usually

(a) inventory.

(b) prepaid expenses.

(d) accounts receivable.

The primary source of revenue for a wholesaler is generated by

(a) investments.

(b) providing services.

(d) the sale of property, plant, and equipment the company owns.

Generally, the revenue account for a merchandising company is called

(a) Sales Revenue or Sales.

(b) Investment Revenue.

(d) Net Sales.

The operating cycle of a merchandising company is

(a) always one year in length.

(b) generally longer than that of a service company.

(d) generally shorter than that of a service company.

Net sales less cost of goods sold is called

(a) gross profit.

(b) cost of goods sold.

(d) profit before income taxes.

After gross profit is calculated, operating expenses are deducted to determine

(a) gross margin.

(b) profit (loss) before income tax.

(d) profit margin.

Which of the following “formulas” is incorrect?

(a) Gross profit – operating expenses = profit before income tax.

(b) Net sales – cost of goods sold = gross profit.

(d) Operating expenses – cost of goods sold = gross profit.

Beginning inventory plus purchases equals

(a) cost of goods available for sale.

(b) cost of goods sold.

(d) total inventory on hand.

Which of the following is true about inventory systems?

(a) Periodic inventory systems require more detailed inventory records.

(b) Perpetual inventory systems require more detailed inventory records.

(d) A perpetual system determines cost of goods sold only at the end of the accounting period.

In a perpetual inventory system, cost of goods sold is recorded

(a) on a daily basis.

(b) on a monthly basis.

(d) each time a sale occurs.

The primary difference between a periodic and a perpetual inventory system is that a periodic system

(a) keeps a detailed record showing the inventory on hand at all times.

(b) provides better control over inventories.

(d) determines the cost of goods sold at the end of the accounting period.

The physical inventory count is used to determine

(a) cost of inventory purchased during the period.

(b) cost of inventory sold during the period.

(d) the cost of goods available for sale.

Inventory becomes part of the cost of goods sold when a company

(a) pays for the inventory.

(b) purchases the inventory.

(d) receives payment from the customer.

If a company determines cost of goods sold each time a sale occurs, it

(a) must have a computerized accounting system.

(b) uses a combination of the perpetual and periodic inventory systems.

(d) uses a perpetual inventory system.

Under a perpetual inventory system

(a) there is no need for a year-end physical count.

(b) increases in inventory resulting from purchases are debited to Purchases.

(d) the account Purchase Returns and Allowances is credited when goods are returned to vendors.

Under a perpetual inventory system, the following is determined each time a sale occurs:

(a) Gross Profit.

(b) Cost of Goods Sold.

(d) Accounts Receivable.

Under the perpetual inventory system, which of the following accounts would not be used?

(a) Sales

(b) Purchases

(d) Merchandise Inventory

The abbreviation “FOB” stands for

(a) free on board.

(b) freight on board.

(d) freight charge on buyer.

On July 10, Swant Inc. purchased $1,000 of inventory on terms of 2/10, n/45. The amount due on August 25 is

(a) $1,020.

(b) $1,000.

(d) $990.

Under a perpetual inventory system, purchase of inventory is recorded as a debit to the

(a) Supplies account.

(b) Purchases account.

(d) Cost of Goods Sold account.

The journal entry by the buyer to record a return of merchandise purchased on account under a perpetual inventory system would credit

(a) Accounts Payable.

(b) Purchase Returns and Allowances.

(d) Merchandise Inventory.

A company using a perpetual inventory system that returns goods purchased on credit would

(a) debit Accounts Payable and credit Merchandise Inventory.

(b) debit Sales and credit Accounts Payable.

(d) debit Accounts Payable and credit Purchases.

If a purchaser using a perpetual inventory system pays freight costs, then the

(a) Merchandise Inventory account is increased.

(b) Merchandise Inventory account is not affected.

(d) Freight In account is increased.

Freight costs incurred by a seller on merchandise sold to customers will cause an increase

(a) in the selling expenses of the buyer.

(b) in operating expenses for the seller.

(d) to a contra revenue account of the seller.

Cashmere Corporation purchased merchandise inventory with an invoice price of $16,000 and credit terms of 2/10, n/30. How much cash will Cashmere pay if they pay within the discount period?

(a) $16,000

(b) $15,680

(d) $14,400

For a company using a perpetual inventory system, the journal entry to record the purchase of $3,500 of goods on account, with terms of 4/10, n/30, would include a

(a) debit to accounts payable of $3,500.

(b) credit to accounts payable of $3,360.

(d) debit to merchandise inventory of $3,500.

A purchase invoice is a document that

(a) provides support for goods sold for cash.

(b) provides evidence of operating expenses incurred.

(d) serves only as a customer receipt.

Under the perpetual inventory system, in addition to making the entry to record the sale, the seller would

(a) debit Merchandise Inventory and credit Cost of Goods Sold.

(b) debit Cost of Goods Sold and credit Purchases.

(d) make no additional entry until the end of the period.

Sales revenues are usually considered earned when

(a) cash is received from credit sales.

(b) an order is received.

(d) adjusting entries are made.

Sales Discounts is a(n)

(a) contra revenue account.

(b) contra asset account.

(d) expense account.

Evidence of cash sales is usually supported by

(a) purchase invoices.

(b) sales invoices.

(d) cash register tapes.

Gross sales less sales returns and allowances less sales discounts equals

(a) collectible sales.

(b) net sales.

(d) operating sales.

The entry to record a sale of $525 with terms of 2/10, n/30 will include a

(a) debit to Sales Discounts for $10.50.

(b) debit to Sales for $514.50.

(d) credit to Sales for $525.

A sales invoice is prepared when goods

(a) are sold for cash.

(b) are sold on credit.

(d) are sold on credit or for cash.

Sales Returns and Allowances is a(n)

(a) asset account.

(b) contra asset account.

(d) contra revenue account.

The entry to record the return of goods from a customer would include a

(a) debit to Sales.

(b) credit to Sales.

(d) credit to Sales Returns and Allowances.

The collection of a $2,000 account within the 2 percent discount period will result in a

(a) debit to Sales Discounts for $40.

(b) debit to Accounts Receivable for $1,960.

(d) credit to Accounts Receivable for $1,960.

Freight paid by the seller to a customer’s business is recorded as a

(a) credit to Sales.

(b) debit to Sales.

(d) credit to Cost of Goods Sold.

If a customer agrees to keep defective merchandise because the seller is willing to reduce the selling price, this transaction is known as a sales

(a) discount.

(b) return.

(d) allowance.

When goods from a cash sale are returned, the effect on the seller’s accounts will be

(a) an increase in net sales.

(b) a decrease in gross sales.

(d) a decrease in net sales.

Management may be alerted to a quality problem with their merchandise by a sudden increase in which account?

(a) Sales

(b) Sales Returns and Allowances

(d) Cost of Goods Sold

A Sales Returns and Allowances account is not debited if a customer

(a) returns defective merchandise.

(b) receives a credit for merchandise of inferior quality.

(d) returns goods that are not in accordance with specifications.

As an incentive for customers to pay their accounts promptly, a business may offer its customers

(a) a sales discount.

(b) free delivery.

(d) a sales return.

The credit terms offered by a company are 2/10, n/30, which means that

(a) the customer must pay the bill within 10 days.

(b) the customer can deduct a 2% discount if the bill is paid between 10 days and 30 days from the invoice date.

(d) two sales returns can be made within 10 days of the invoice date and no returns thereafter.

A sales discount does not

(a) provide the purchaser with a cash saving.

(b) reduce the amount of cash received from a credit sale.

(d) increase an operating expense account.

Company A sells $500 of merchandise on account to Company B with credit terms of 2/10, n/30. If Company B pays within the discount period, how much cash will Company A receive?

(a) $400

(b) $410

(d) $500

Chocolate Corporation sells merchandise on account for $3,000 to Marshmallow Corporation with credit terms of 2/10, n/30. Marshmallow returns $600 of merchandise that was damaged, along with a cheque to settle the account within the discount period. What is the amount of the cheque?

(a) $2,952

(b) $2,940

(d) $2,352

Mountain Corp. sells merchandise on account for $2,000 to Cliff Corp., terms 2/10, n/30. Cliff returns $800 worth of merchandise that was damaged, along with a cheque to settle the account within the discount period. What entry does Mountain make upon receipt of the cheque?

(a) Cash………………………………………………………………………………….. 1,200

Accounts Receivable…………………………………………………….. 1,200

(b) Cash………………………………………………………………………………….. 1,160

Sales Returns and Allowances……………………………………………… 784

Sales Discounts………………………………………………………………….. 32

Accounts Receivable…………………………………………………….. 2,000

Sales Returns and Allowances……………………………………………… 800

Sales Discounts………………………………………………………………….. 24

Accounts Receivable…………………………………………………….. 2,000

(d) Cash………………………………………………………………………………….. 1,160

Sales Discounts………………………………………………………………….. 40

Sales Returns and Allowances……………………………………………… 800

Accounts Receivable…………………………………………………….. 2,000

The collection of a $1,000 account paid within the 2 percent discount period will result in a

(a) credit to Cash for $980.

(b) credit to Accounts Receivable for $1,000.

(d) credit to Accounts Receivable for $980.

Which of the following would not be classified as a contra account?

(a) Sales

(b) Sales Returns and Allowances

(d) Sales Discounts

Which of the following accounts has a normal credit balance?

(a) Sales Returns and Allowances

(b) Sales Discounts

(d) Cost of Goods Sold

The respective normal account balances of Sales, Sales Returns and Allowances, and Sales Discounts are

(a) credit, credit, credit.

(b) debit, credit, debit.

(d) credit, debit, credit.

Which one of the following would not appear on a single-step income statement?

(a) gross profit

(b) expenses

(d) cost of goods sold

The form of the income statement that derives its name from the fact that the total of all expenses is deducted from the total of all revenues is called a

(a) multiple-step income statement.

(b) revenue income statement.

(d) single-step income statement.

Gross profit does not appear

(a) on a multiple-step income statement.

(b) on a single-step income statement.

(d) on either a multiple-step or a single-step income statement.

Gross profit for a merchandising company equals the difference between net sales and

(a) operating expenses.

(b) cost of goods sold.

(d) cost of goods sold plus operating expenses.

A loss from operations will result if operating expenses exceed

(a) cost of goods sold.

(b) selling expenses.

(d) gross profit.

What is the term applied to the excess of net sales over the cost of goods sold?

(a) gross sales

(b) profit from operations

(d) gross profit

Which of the following is not true about a multiple-step income statement?

(a) There is a section for operating expenses.

(b) There may be a section for non-operating activities.

(d) There is a section for cost of goods sold.

An advantage of the single-step income statement over the multiple-step form is

(a) the amount of information it provides.

(b) its comprehensiveness.

(d) its use in calculating ratios.

Profit from operations appears on

(a) both a multiple-step and a single-step income statement.

(b) neither a multiple-step nor a single-step income statement.

(d) a multiple-step income statement only.

Which statement is correct about expenses on the income statement?

(a) Classifying expenses by nature means that expenses are reported according to the activity for which they are incurred.

(b) Examples of expenses classified by function are cost of goods sold and administrative expenses.

(d) Expenses must be classified in decreasing order of magnitude.

125. Which statement is not correct about expenses on the income statement?

(a) Classifying expenses by function means that expenses are reported according to the activity for which they are incurred.

(b) Examples of expenses classified by nature are salaries and depreciation.

(d) Expenses must be classified in decreasing order of magnitude.

A multiple-step income statement shows

(a) gross profit but not profit from operations.

(b) neither gross profit nor profit from operations.

(d) profit from operations but not gross profit.

Interest expense would be classified on a multiple-step income statement under the heading

(a) Other expenses and losses.

(b) Other revenues and gains.

(d) Cost of goods sold.

Profit from operations for a merchandising company is net sales less

(a) operating expenses.

(b) cost of goods sold.

(d) operating expenses and cost of goods sold.

The operating expenses section of a multiple-step income statement for a merchandising company would not include

(a) freight out.

(b) utilities expense.

(d) loss on sale of equipment.

Which one of the following would appear on the income statement of both a merchandising company and a service company?

(a) Gross profit

(b) Profit

(d) Cost of goods sold

Gross profit does not appear

(a) on a merchandising company’s multiple-step income statement.

(b) on a service company’s income statement.

(d) on the income statement, if the periodic inventory system is used, because it cannot be calculated.

Use the following information to answer questions 132–135.

Cost of goods sold………………………………………………………. $217,000

Income tax expense……………………………………………………. 33,600

Operating expenses……………………………………………………. 172,000

Sales…………………………………………………………………………. 550,000

Sales discounts………………………………………………………….. 12,000

Sales returns and allowances……………………………………….. 37,000

The amount of net sales on the income statement would be

(a) $501,000.

(b) $538,000.

(d) $550,000.

Gross profit would be

(a) $112,000.

(b) $284,000.

(d) $501,000.

The gross profit margin would be

(a) 56.7%.

(b) 34.3%.

(d) 39.5%.

The profit margin would be

(a) 18.5%.

(b) 15.6%.

(d) 34.3%.

The gross profit margin is calculated by dividing gross profit by

(a) sales.

(b) cost of goods sold.

(d) operating expenses.

A decline in a company’s gross profit could be caused by all of the following except

(a) selling products with a lower markup.

(b) clearance of discontinued inventory.

(d) increased competition resulting in lower selling prices.

If a company has net sales of $500,000 and cost of goods sold of $350,000, the gross profit margin is

(a) 15%.

(b) 30%.

(d) 100%.

A company shows the following balances:

Cost of goods sold………………………………………………………. $ 900,000

Sales…………………………………………………………………………. 2,000,000

Sales discounts………………………………………………………….. 25,000

Sales returns and allowances……………………………………….. 225,000

What is the gross profit margin?

(a) 42.5%

(b) 48.6%

(d) 55.0%

Profit margin is calculated by dividing

(a) profit by gross profit.

(b) profit by sales.

(d) sales by profit.

Profit margin is a measure of

(a) liquidity.

(b) profitability.

(d) comparability.

Profit margin is calculated by dividing profit by

(a) sales.

(b) sales revenues.

(d) gross sales.

Use the following financial information to answer questions 143–144.

Operating expenses……………………………………………………. $ 25,000

Sales returns and allowances……………………………………….. 3,000

Sales…………………………………………………………………………. 110,000

Cost of goods sold………………………………………………………. 55,000

Income tax expense……………………………………………………. 5,000

What is the gross profit margin?

(a) 20.6%

(b) 22.7%

(d) 50.0%

What is the profit margin?

(a) 20.6%

(b) 22.7%

(d) 50.0%

*145. Which of the following is not true for a company using a periodic inventory system?

(a) Cost of goods sold is calculated for each sale.

(b) Cost of goods sold is calculated at the end of the accounting period.

(d) Cost of goods available for sale is calculated at the end of the accounting period.

*146. Detailed records of goods held for resale are not maintained under a

(a) perpetual inventory system.

(b) periodic inventory system.

(d) single entry accounting system.

*147. Purchases less purchase returns and allowances less purchase discounts is called

(a) cost of goods purchased.

(b) net purchases.

(d) net inventory.

*148. Under a periodic inventory system, purchase of merchandise is debited to the

(a) Merchandise Inventory account.

(b) Cost of Goods Sold account.

(d) Accounts Payable account.

*149. Which of the following accounts has a normal credit balance?

(a) Purchases

(b) Sales Returns and Allowances

(d) Purchase Discounts

*150. The respective normal balances of Purchases, Purchase Discounts, and Freight In are

(a) credit, credit, debit.

(b) debit, credit, credit.

(d) debit, debit, debit.

*151. The Freight In account

(a) increases the cost of merchandise purchased.

(b) is a contra account to the Purchases account.

(d) has a normal credit balance.

*152. Net purchases plus freight in is called

(a) cost of goods sold.

(b) cost of goods available for sale.

(d) total goods available for sale.

*153. Beginning inventory plus the cost of goods purchased equals

(a) cost of goods sold.

(b) cost of goods available for sale.

(d) total goods purchased.

*154. On the income statement, purchases less purchase discounts and purchase returns and allowances, plus freight in equals

(a) cost of goods purchased.

(b) cost of goods available for sale.

(d) gross profit.

*155. Benz Inc. shows the following account balances for last month:

Freight In…………………………………………………………………… $ 1,875

Freight Out…………………………………………………………………. 2,500

Purchases………………………………………………………………….. 28,000

Purchase Discounts…………………………………………………….. 2,500

Sales Returns and Allowances……………………………………… 4,000

The cost of goods purchased for last month is

(a) $25,875.

(b) $27,375.

(d) $30,500.

*156. Stylish Shoe Store reported beginning merchandise inventory of $15,000. During the period, purchases were $70,000; purchase returns, $2,000; and freight in $5,000. A physical count of inventory at the end of the period revealed that $10,000 was still on hand. The cost of goods available for sale was

(a) $78,000.

(b) $82,000.

(d) $92,000.

*157. Cost of goods sold is calculated from the following equation:

(a) beginning inventory – cost of goods purchased + ending inventory.

(b) sales – cost of goods purchased + beginning inventory – ending inventory.

(d) beginning inventory + cost of goods purchased – ending inventory.

Use the following information to answer questions *158–*160.

For last month, the following data were taken from the ledger of Drillbit Inc.:

Beginning Inventory…………………………………………………….. $ 21,500

Ending Inventory…………………………………………………………. 16,200

Freight In…………………………………………………………………… 1,150

Purchases………………………………………………………………….. 112,000

Purchase Discounts…………………………………………………….. 750

Purchase Returns and Allowances………………………………… 1,900

*158. What was the cost of goods purchased?

(a) $110,100

(b) $109,350

(d) $108,200

*159. What was the cost of goods sold?

(a) $117,300

(b) $115,800

(d) $106,700

*160. What was the cost of goods available for sale?

(a) $132,000

(b) $133,500

(d) $117,300

*161. On the income statement, the beginning merchandise inventory is added to the cost of goods purchased to determine the

(a) cost of goods sold.

(b) cost of goods available for sale.

(d) gross profit.

Answers to Multiple Choice Questions

Item

Ans.

Item

Ans.

Item

Ans.

Item

Ans.

Item

Ans.

Item

Ans.

Item

Ans.

58.

73.

88.

103.

118.

133.

*148.

59.

74.

89.

104.

119.

134.

*149.

60.

75.

90.

105.

120.

135.

*150.

61.

76.

91.

106.

121.

136.

*151.

62.

77.

92.

107.

122.

137.

*152.

63.

78.

93.

108.

123.

138.

*153.

64.

79.

94.

109.

124.

139.

*154.

65.

80.

95.

110.

125.

140.

*155.

66.

81.

96.

111.

126.

141.

*156.

67.

82.

97.

112.

127.

142.

*157.

68.

83.

98.

113.

128.

143.

*158.

69.

84.

99.

114.

129.

144.

*159.

70.

85.

100.

115.

130.

*145.

*160.

71.

86.

101.

116.

131.

*146.

*161.

72.

87.

102.

117.

132.

*147.

EXERCISES

Ex. 162

Sherla Holmes is a new accountant with Moriarty Corporation. Moriarty purchased merchandise on account for $5,000. The credit terms are 2/10, n/30. Sherla has talked with the company’s banker and knows that she could earn 9% on any money invested in the company’s savings account.

Instructions

(a) Should Sherla pay the invoice within the discount period or should she keep the $5,000 in the savings account and pay at the end of the credit period (i.e., after 30 days)? Support your recommendation with a calculation showing which action would be best.

(b) If Sherla forgoes the discount, it may be viewed as paying an interest rate of 2% for the use of $5,000 for 20 days. Calculate the annual rate of interest that this is equivalent to.

Solution 162 (10 min.)

(a) Discount of 2% on $5,000 $100.00

Interest received on $5,000 (for 20 days at 9%) $24.66 ($5,000 ´ 9% ´ 20 ¸ 365)

Savings by taking the discount $75.34

Recommendation: Sherla should pay the invoice within the discount period.

(b) The equivalent annual interest rate is:

2% ´ 365 ¸ 20 = 36.5%.

Ex. 163

Jun 4 Willem Corporation purchased $4,000 worth of merchandise, terms 2/10, n/30 from Cate Corporation. The cost of the merchandise to Cate was $2,600.

10 Willem returned $700 worth of goods to Cate for full credit. The goods had a cost of $450 to Cate and were placed back into inventory.

26 Willem paid the account.

Instructions

Prepare the journal entries to record these transactions in (a) Willem’s records and (b) Cate’s records. Both companies use the perpetual inventory system.

Solution 163 (15–20 min.)

(a) Willem’s records

Jun 4 Merchandise Inventory………………………………………………… 4,000

Accounts Payable…………………………………………………. 4,000

10 Accounts Payable……………………………………………………….. 700

Merchandise Inventory………………………………………….. 700

26 Accounts Payable ($4,000 – $700)……………………………….. 3,300

Cash…………………………………………………………………… 3,300

(b) Cate’s records

Jun 4 Accounts Receivable…………………………………………………… 4,000

Sales………………………………………………………………….. 4,000

4 Cost of Goods Sold…………………………………………………….. 2,600

Merchandise Inventory………………………………………….. 2,600

10 Sales Returns and Allowance………………………………………. 700

Accounts Receivable…………………………………………….. 700

10 Merchandise Inventory………………………………………………… 450

Cost of Goods Sold………………………………………………. 450

26 Cash…………………………………………………………………………. 3,300

Accounts Receivable ($4,000 – $700)…………………….. 3,300

Ex. 164

On July 1, Ricker Cycle Shop had an inventory of 20 bicycles at a cost of $250 each. Ricker uses a perpetual inventory system. During the month of July, the following transactions occurred:

Jul 4 Purchased 25 bicycles at a cost of $250 each from the Joncas Bicycle Corporation, terms 2/10, n/30.

5 Paid freight of $125 on the July 4 purchase.

6 Sold 10 bicycles from the July 1 inventory to Team Canada for $350 each, terms 2/10, n/30.

7 Received a credit from Joncas Bicycle for the return of 2 defective bicycles.

8 Sold two bicycles from the July 1 inventory for $700 cash.

13 Issued a credit memo to Team Canada for the return of a defective bicycle.

14 Paid Joncas Bicycle in full.

15 Received payment from Team Canada.

Instructions

Record the July transactions for Ricker Cycle Shop.

Solution 164 (20 min.)

Jul 4 Merchandise Inventory ($250 x 25)……………………………….. 6,250

Accounts Payable…………………………………………………. 6,250

5 Merchandise Inventory………………………………………………… 125

Cash…………………………………………………………………… 125

6 Accounts Receivable ($350 x 10)………………………………….. 3.500

Sales………………………………………………………………….. 3.500

Cost of Goods Sold ($250 x 10)……………………………………. 2,500

Merchandise Inventory………………………………………….. 2,500

7 Accounts Payable……………………………………………………….. 500

Merchandise Inventory………………………………………….. 500

8 Cash…………………………………………………………………………. 700

Sales………………………………………………………………….. 700

Cost of Goods Sold ($250 x 2)……………………………………… 500

Merchandise Inventory………………………………………….. 500

13 Sales Returns and Allowances……………………………………… 350

Accounts Receivable…………………………………………….. 350

14 Accounts Payable ($6,250 – $500)……………………………….. 5,750

Cash ($5,750 ´ 98%)……………………………………………. 5,635

Merchandise Inventory ($5,750 ´ 2%)…………………….. 115

15 Cash ($3,150 x 98%)…………………………………………………… 3,087

Sales Discounts ($3,150 x 2%)…………………………………….. 63

Accounts Receivable ($3,500 – $350)…………………….. 3,150

Ex. 165

On September 1, Wilderness Inc. had an inventory of 18 backpacks at a cost of $30 each. The company uses a perpetual inventory system. During September, the following transactions occurred:

Sep 4 Purchased 35 backpacks at $30 each from Back Packs Unlimited, terms 3/10, n/30.

6 Received credit of $150 for the return of 5 backpacks purchased on Sept. 4 that were defective.

9 Sold 20 backpacks for $50 each to University Supply, terms 2/10, n/30.

14 Paid Back Packs Unlimited in full.

18 Received payment from University Supply.

Instructions

Record the September transactions for Wilderness Inc.

Solution 165 (15–20 min.)

Sep 4 Merchandise Inventory ($30 x 35)…………………………………. 1,050

Accounts Payable…………………………………………………. 1,050

6 Accounts Payable……………………………………………………….. 150

Merchandise Inventory………………………………………….. 150

9 Accounts Receivable ($50 x 20)……………………………………. 1,000

Sales………………………………………………………………….. 1,000

Cost of Goods Sold ($30 x 20)……………………………………… 600

Merchandise Inventory………………………………………….. 600

14 Accounts Payable ($1,050 – $150)……………………………….. 900

Cash ($900 ´ 97%)………………………………………………. 873

Merchandise Inventory ($900 ´ 3%)……………………….. 27

18 Cash ($1,000 x 98%)…………………………………………………… 980

Sales Discounts ($1,000 x 2%)…………………………………….. 20

Accounts Receivable…………………………………………….. 1,000

Ex. 166

Gia’s Gymnastics Gear uses a perpetual inventory system. The following transactions occurred in July:

Jul 6 Purchased $1,800 of merchandise on credit, terms 1/10, n/30.

8 Because some of the items purchased on July 6 had a small defect, Gia’s Gymnastics Gear received a purchase allowance of $175.

9 Paid freight charges of $75 on the items purchased July 6.

19 Sold merchandise on credit for $1,800, terms 2/10, n/30. The merchandise had a cost of $900.

22 Of the merchandise sold on July 19, $200 of it was returned. The items had cost Gia’s$100 and were returned to inventory.

28 Received payment from the customer of July 19.

31 Paid for the merchandise purchased on July 6.

Instructions

Record the July transactions for Gia’s Gymnastics Gear.

Solution 166 (15–20 min.)

Jul 6 Merchandise Inventory………………………………………………… 1,800

Accounts Payable…………………………………………………. 1,800

8 Accounts Payable……………………………………………………….. 175

Merchandise Inventory………………………………………….. 175

9 Merchandise Inventory………………………………………………… 75

Cash…………………………………………………………………… 75

19 Accounts Receivable…………………………………………………… 1,800

Sales………………………………………………………………….. 1,800

Cost of Goods Sold…………………………………………………….. 900

Merchandise Inventory………………………………………….. 900

22 Sales Returns and Allowances……………………………………… 200

Accounts Receivable…………………………………………….. 200

Merchandise Inventory………………………………………………… 100

Cost of Goods Sold………………………………………………. 100

28 Cash ($1,600 x 98%)…………………………………………………… 1,568

Sales Discount ($1,600 x 2%)………………………………………. 32

Accounts Receivable ($1,800 – $200)…………………….. 1,600

31 Accounts Payable ($1,800 – $175)……………………………….. 1,625

Cash…………………………………………………………………… 1,625

Ex. 167

(a) Sean Corporation purchased merchandise on account from Kingston Supplies for $68,000, with terms of 2/10, n/30. During the discount period, Sean returned some merchandise and paid $56,840 as payment in full. Sean uses a perpetual inventory system. Prepare the journal entries that Sean made to record the

purchase of merchandise.
return of merchandise.
payment on account.

(b) Willow Corporation sold merchandise to Jada Corporation on account for $84,000 with credit terms of ?/10, n/30. The cost of the merchandise sold was $42,000. During the discount period, Jada returned $14,000 worth of merchandise and paid its account in full (minus the return and the discount) by paying $67,200 in cash. The returned goods were returned to inventory. Both companies use a perpetual inventory system. Prepare the journal entries that Willow Corporation made to record the

sale of merchandise.
return of merchandise.
collection on account.

Solution 167 (15–20 min.)

(a) To calculate the amount due after returns but before the discount, divide $56,840 by 98% (100% – 2%) = $56,840 ¸ 98% = $58,000

Subtract $58,000 from $68,000 to determine that $10,000 of merchandise was returned.

Merchandise Inventory…………………………………………………….. 68,000

Accounts Payable 68,000

Accounts Payable…………………………………………………………… 10,000

Merchandise Inventory ……………………………………………………………………. 10,000

Accounts Payable…………………………………………………………… 58,000

Merchandise Inventory (58,000 x 2%)…………………………. 1,160

Cash……………………………………………………………………….. 56,840

(b) Jada returns $14,000 of merchandise and thus owes $70,000 to Willow.

$67,200 ¸ $70,000 = 96%; 100% – 96% = 4%

The missing discount percentage is 4%. $70,000 ´ 4% = $2,800 sales discount

$70,000 – $2,800 = $67,200 cash received on account

Accounts Receivable……………………………………………………….. 84,000

Sales………………………………………………………………………. 84,000

Cost of Goods Sold…………………………………………………………. 42,000

Merchandise Inventory 42,000

Sales Returns and Allowances…………………………………………. 14,000

Accounts Receivable 14,000

Merchandise Inventory…………………………………………………………. 7,000

Cost of Goods Sold…………………………………………………………. 7,000

Cash……………………………………………………………………………… 67,200

Sales Discounts……………………………………………………………… 2,800

Accounts Receivable ……………………………………………………………………. 70,000

Ex. 168

Presented below are selected transactions for Scotian Corporation during July.

Jul 1 Sold merchandise to Brunswick Inc. for $800, terms 3/10, n/30. The merchandise sold cost $400.

2 Purchased merchandise from Founders Corporation for $4,500, terms 4/10, n/30.

3 Paid freight charges of $100 on items purchased on July 2.

4 Purchased merchandise from Edward Company Ltd. for $5,000, n/30.

10 Received payment from Brunswick Inc. for purchase of July 1.

11 Paid Founders Corporation for July 2 purchase.

Instructions

(a) Record the above transactions for Scotian Corporation, assuming a perpetual inventory system is used. The cost of goods sold on July 1 was determined to be $400.

(b) Record the above transactions for Scotian Corporation, assuming a periodic inventory system is used.

Solution 168 (25 min.)

(a) Perpetual

Jul 1 Accounts Receivable…………………………………………………… 800

Sales………………………………………………………………… 800

Cost of Goods Sold…………………………………………………….. 400

Merchandise Inventory………………………………………… 400

2 Merchandise Inventory………………………………………………… 4,500

Accounts Payable ……………………………………………… 4,500

3 Merchandise Inventory………………………………………………… 100

Cash…………………………………………………………………. 100

4 Merchandise Inventory………………………………………………… 5,000

Accounts Payable ……………………………………………… 5,000

10 Cash ($800 x 97%)……………………………………………………… 776

Sales Discounts ($800 x 3%)……………………………………….. 24

Accounts Receivable………………………………………….. 800

11 Accounts Payable……………………………………………………….. 4,500

Merchandise Inventory ($4,500 x 4%)…………………… 180

Cash ($4,500 x 96%)………………………………………….. 4,320

(b) Periodic

Jul 1 Accounts Receivable…………………………………………………… 800

Sales ……………………………………………………………….. 800

2 Purchases…………………………………………………………………. 4,500

Accounts Payable ……………………………………………… 4,500

3 Freight-in…………………………………………………………………… 100

Cash………………………………………………………………. 100

4 Purchases…………………………………………………………………. 5,000

Accounts Payable ……………………………………………… 5,000

10 Cash ($800 x 97%)……………………………………………………… 776

Sales Discounts ($800 x 3%)……………………………………….. 24

Accounts Receivable………………………………………….. 800

11 Accounts Payable……………………………………………………….. 4,500

Purchase Discounts ($4,500 x 4%)……………………….. 180

Cash ($4,500 x 96%)………………………………………….. 4,320

Ex. 169

The following table summarizes the sales for the month of July for Perfect Platters Wholesalers Inc. The table includes the terms, sales returns and when payment was collected for each sale.

Date	Sale Amount	Terms	Returns	Date Collected
April 3	$ 900	2/10, n/30	$ 50	April 9
April 5	1,300	3/10, n/30	200	April 21
April 11	450	1/10, n/30	0	April 13
April 18	2,300	4/10, n/60	520	April 25
April 22	1,600	2/10, n/30	750	May 5

Instructions

Calculate the cash received from each sale. Show your calculations.

Solution 169 (10 min.)

Apr 3 $ 833 ($900 – $50 = $850; $850 x 2% = $17; $850 – $17 = $833)

Apr 5 $ 1,100 ($1,300 – $200 = $1,100; discount not taken)

Apr 11 $ 445.50 ($450 x 1% = $4.50; $450 – $4.50 = $445.50)

Apr 18 $ 1,708.80 ($2,300 – $520 = $1,780; $1,780 x 4% = $71.20; $1,780 – $71.20 = $1,708.80)

Apr 22 $ 850 ($1,600 – $750 = $850; discount not taken)

Ex. 170

Storm Inc. completed the following transactions in October:

Credit Sales Sales Returns Date of

Date Amount Terms Date Amount Collection

Oct 3 $ 800 2/10, n/30 Oct 8

11 1,200 3/10, n/30 Oct 14 $ 500 16

17 7,000 1/10, n/30 20 1,200 29

21 1,700 2/10, n/60 23 400 27

23 2,500 2/10, n/30 27 500 28

Storm uses a perpetual inventory system.

Instructions

(a) Calculate the cash received for each collection. Show your calculations.

(b) Prepare the journal entry for the

(1) Oct. 17 sale. The merchandise sold had a cost of $3,500.

(2) Oct. 23 sales return. The merchandise returned had a cost of $200 and was returned to inventory.

(3) Oct. 28 collection.

Solution 170 (20 min.)

(a)

Oct 8 $784 [Sales $800 – Sales discount $16 ($800 ´ 2%)]

16 $679 [Sales $1,200 – Sales return $500 = $700;

$700 – Sales discount $21 ($700 ´ 3%)]

29 $5,800 [Sales $7,000 – Sales return $1,200 = $5,800;

(discount not taken)]

27 $1,274 [Sales $1,700 – Sales return $400 = $1,300;

$1,300 – Sales discount $26 ($1,300 ´ 2%)]

28 $1,960 [Sales $2,500 – Sales return $500 = $2,000;

$2,000 – Sales discount $40 ($2,000 ´ 2%)]

(b)

(1) Oct 17 Accounts Receivable………………………………………………. 7,000

Sales………………………………………………………………. 7,000

Cost of Goods Sold…………………………………………………. 3,500

Merchandise Inventory……………………………………… 3,500

(2) 23 Sales Returns and Allowances…………………………………. 400

Accounts Receivable………………………………………… 400

Merchandise Inventory……………………………………………. 200

Cost of Goods Sold………………………………………….. 200

(3) 28 Cash…………………………………………………………………….. 1,960

Sales Discounts……………………………………………………… 40

Accounts Receivable………………………………………… 2,000

Ex. 171

Financial information is presented here for two companies. Complete the missing amounts.

Empty Corporation Full Corporation

Cost of goods sold $26,000 $ ?

Gross profit ? 38,000

Income tax expense 6,500 9,000

Net sales 47,000 62,000

Operating expenses 8,000 ?

Profit ? 9,000

Profit before income tax 13,000 18,000

Sales 50,000 ?

Sales returns ? 5,000

Solution 171 (15 min.)

Empty Corporation

Sales returns = $3,000 ($50,000 – $47,000 = $3,000)

Gross profit = $21,000 ($47,000 – $26,000 = $21,000)

Profit = $6,500 ($21,000 – $8,000 – $6,500 = $6,500)

Full Corporation

Sales = $67,000 ($62,000 + $5,000 = $67,000)

Cost of goods sold = $24,000 ($62,000 – $38,000 = $24,000)

Operating expenses = $20,000 ($38,000 – $18,000 = $20,000)

Ex. 172

State the missing items identified by ?.

(a) Gross profit – Operating expenses = ?

(b) Sales – (? + ?) = Net sales

(d) Net sales – Cost of goods sold = ?

(e) Cost of goods sold + Gross profit = ?

Solution 172 (5 min.)

(a) Profit from operations

(b) Sales discounts, Sales returns and allowances

(d) Gross profit

(e) Net sales

Ex. 173

The following information was taken from the adjusted trial balance of Lucifer Lighting Inc. at December 31, 2015. All accounts have normal balances.

…… Accounts payable………………………………………… … $ 52,000

…… Accounts receivable……………………………………… ……. 18,700

…… Accumulated depreciation—Building………………. ……. 44,900

…… Advertising expense…………………………………….. ……. 38,500

…… Building………………………………………………………. ….. 600,000

…… Cash………………………………………………………….. ……. 85,000

…… Common shares………………………………………….. ….. 417,500

…… Cost of goods sold……………………………………….. ….. 410,500

…… Depreciation expense…………………………………… ……. 12,000

…… Freight out…………………………………………………… ……. 22,000

…… Interest expense………………………………………….. ……… 5,700

…… Interest revenue…………………………………………… ……… 2,000

…… Rental revenue……………………………………………. ……… 6,000

…… Retained earnings, Jan 1………………………………. ….. 154,800

…… Salaries expense…………………………………………. ….. 279,500

…… Salaries payable………………………………………….. ……… 5,200

…… Sales …………………………………………………………. ….. 798,500

…… Sales discounts …………………………………………… ……… 8,200

…… Sales returns and allowances ……………………….. ……. 29,000

Utilities expense ………. 9,200

Instructions

Use the above information to prepare a multiple-step income statement for the year ended December 31, 2015.

Solution 173

LUCIFER LIGHTING INC.

Income Statement

Year Ended December 31, 2015

___________________________________________________________________________

Sales………………………………………………………………………………………………………… $798,500

Less: Sales returns and allowances………………………………………………. $ 29,000

Sales discounts…………………………………………………………………… 8,200 37,200

Net sales ………………………………………………………………………………………… 761,300

Cost of goods sold……………………………………………………………………………………… 410,500

Gross profit ………………………………………………………………………………………… 350,800

Operating expenses

Salaries expense……………………………………………………………………. $279,500

Advertising expense…………………………………………………………………… 38,500

Freight out…………………………………………………………………………………. 22,000

Depreciation expense…………………………………………………………………. 12,000

Utilities expense………………………………………………………………………. 9,200

Total operating expenses……………………………………………………………….. 361,200

Loss from operations ……………………………………………………………………………….. (10,400)

Other revenues and gains

Interest revenue………………………………………………………………………. $ 2,000

Rental revenue……………………………………………………………………………. 6,000

Other expenses and losses

Interest expense………………………………………………………………………. 5,700 2,300

Loss…………………………………………………………………………………………………………. $ (8,100)

Ex. 174

Financial information is presented here for two companies:

Company A Company B

Cost of goods sold………………………. $385,000 $ ?

Gross profit………………………………… 395,000 438,000

Income tax expense…………………….. 38,000 ?

Net sales……………………………………. 780,000 923,000

Operating expenses…………………….. ? 190,000

Profit………………………………………….. ? 198,400

Profit before income tax……………….. 190,000 248,000

Sales…………………………………………. ? 950,000

Sales discounts…………………………… 6,000 ?

Sales returns and allowances……….. 14,000 18,000

Instructions

(a) Calculate the missing amounts for each company

(b) For each company, calculate the gross profit margin and the profit margin.

Solution 174 (20 min.)

(a) Company A

Sales $800,000 ($780,000 + $6,000 + $14,000)

Operating expenses $205,000 ($395,000 – $190,000)

Profit $152,000 ($190,000 – $38,000)

Company B

Sales discounts $9,000 ($950,000 – $18,000 – $923,000)

Cost of goods sold $485,000 ($923,000 – $438,000)

Income tax expense $49,600 ($248,000 – $198,400)

(b) Company A

Gross profit margin = 50.6% ($395,000 ÷ $780,000)

Profit margin = 19.5% ($152,000 ÷ $780,000)

Company B

Gross profit margin = 47.5% ($438,000 ÷ $923,000)

Profit margin = 21.5% ($198,400 ÷ $923,000)

Ex. 175

The following information is available for Shawson Ltd. for calendar 2015:

Cost of goods sold………………………………………………… 595,000

Income tax expense……………………………………………… 4,500

Interest expense…………………………………………………… 15,000

Interest revenue…………………………………………………… 19,000

Operating expenses……………………………………………… 97,000

Sales………………………………………………………………….. $725,000

Sales returns and allowances………………………………… 22,000

Instructions

(a) Use the above information to prepare a multiple-step income statement for the year ended December 31, 2015.

(b) Calculate the gross profit margin and the profit margin for 2015.

Solution 175 (20 min.)

(a) SHAWSON LTD.

Income Statement

Year Ended December 31, 2015

___________________________________________________________________________

Sales revenues

Sales…………………………………………………………………………………… $725,000

Less: Sales returns and allowances………………………………………… 22,000

Net sales …………………………………………………………………………………….. 703,000

Cost of goods sold………………………………………………………………… 595,000

Gross profit 108,000

Operating expenses………………………………………………………………. 97,000

Profit from operations ……………………………………………………………………………. 11,000

Other revenues and gains

Interest revenue……………………………………………………………… $19,000

Other expenses and losses

Interest expense……………………………………………………………… 15,000 (4,000)

Profit before income tax 15,000

Income tax expense………………………………………………………………. 4,500

Profit……………………………………………………………………………………. $ 10,500

(b) Gross profit margin: $108,000 ÷ $703,000 = 15.4%

Profit margin: $10,500 ¸ $703,000 = 1.5%

Ex. 176

The adjusted trial balance of Sandhu Corporation at December 31, 2015 included the following selected accounts:

Debit Credit

…… Advertising expense…………………………………….. … $ 15,000

…… Cost of goods sold……………………………………….. ….. 347,000

…… Depreciation expense…………………………………… ……… 3,296

…… Freight out…………………………………………………… ……… 2,000

…… Income tax expense……………………………………… ……. 32,000

…… Interest expense………………………………………….. ……. 19,000

…… Interest revenue…………………………………………… ……………… $ 15,000

…… Sales…………………………………………………………………………… 575,000

…… Sales discounts……………………………………………. ……. 10,500

…… Sales returns and allowances………………………… ……. 55,000

…… Store salaries expense…………………………………. ……. 45,000

…… Utilities expense…………………………………………… ……. 18,000

Instructions

(a) Use the above information to prepare a multiple-step income statement for the year ended December 31, 2015.

(b) Calculate the gross profit margin and the profit margin for 2015.

Solution 176 (25 min.)

(a)

SANDHU CORPORATION

Income Statement

Year Ended December 31, 2015

___________________________________________________________________________

Sales…………………………………………………………………………………………. $575,000

Less: Sales returns and allowances……………………………………………… $55,000

Sales discounts………………………………………………………………… 10,500 65,500

Net sales……………………………………………………………………………………. 509,500

Cost of goods sold……………………………………………………………………….. 347,000

Gross profit …………………………………………………………………………………….. 162,500

Operating expenses

Store salaries expense…………………………………………………………… $45,000

Utilities expense……………………………………………………………………. 18,000

Advertising expense………………………………………………………………. 15,000

Depreciation expense……………………………………………………………. 3,296

Freight out……………………………………………………………………………. 2,000

Total operating expenses…………………………………………………. 83,296

Profit from operations ……………………………………………………………………………. 79,204

Other revenues and gains

Interest revenue……………………………………………………………………. $15,000

Other expenses and losses

Interest expense……………………………………………………………………. 19,000 4,000

Profit before income tax 75,204

Income tax expense…………………………………………………………………….. 32,000

Profit………………………………………………………………………………………….. $ 43,204

(b) Gross profit margin = $162,500 ÷ $509,500 = 31.9%

Profit margin = $43,204 ÷ $509,500 = 8.5%

Ex. 177

The adjusted trial balance of Jayco Corporation at December 31, 2015 included the following selected accounts:

Debit Credit

…… Advertising expense…………………………………….. … $ 45,000

…… Cost of goods sold……………………………………….. ….. 592,000

…… Depreciation expense…………………………………… ……… 4,200

…… Freight out…………………………………………………… ……. 11,200

…… Income tax expense……………………………………… ……. 74,280

…… Interest expense………………………………………….. ……. 12,500

…… Interest revenue…………………………………………… ……………… $ 15,000

…… Salaries expense…………………………………………. ….. 248,000

…… Sales………………………………………………………….. ……………… 1,200,000

…… Sales discounts……………………………………………. ……… 8,000

…… Sales returns and allowances………………………… ……. 34,000

…… Utilities expense…………………………………………… ……. 12,500

Instructions

(a) Use the above information to prepare a multiple-step income statement for the year ended December 31, 2015.

(b) Calculate the gross profit margin and the profit margin for 2015.

Solution 177 (25 min.)

(a)

JAYCO CORPORATION

Income Statement

Year Ended December 31, 2015

___________________________________________________________________________

Sales………………………………………………………………………………………………………… $1,200,000

Less: Sales returns and allowances………………………………………………. $ 34,000

Sales discounts………………………………………………………………. …. 8,000 42,000

Net sales ……………………………………………………………………………………… 1,158,000

Cost of goods sold……………………………………………………………………………………… 592,000

Gross profit ………………………………………………………………………………………… 566,000

Operating expenses

Salaries expense………………………………………………………………… … $248,000

Advertising expense…………………………………………………………………… 45,000

Utilities expense…………………………………………………………………………. 12,500

Freight out…………………………………………………………………………………. 11,200

Depreciation expense……………………………………………………………… 4,200

Total operating expenses……………………………………………………………….. 320,900

Profit from operations ……………………………………………………………….. ….. 245,100

Other revenues and gains

Interest revenue………………………………………………………………….. … $ 15,000

Other expenses and losses

Interest expense…………………………………………………………………. …. 12,500 2, 500

Profit before income tax 247,600

Income tax expense……………………………………………………………………………………. 74,280

Profit………………………………………………………………………………………… ……………… $ 173,320

(b) Gross profit margin = $566,000 ÷ $1,158,000 = 48.9%

Profit margin = $173,320 ÷ $1,158,000 = 15.0%

Ex. 178

The following information is available from recent financial statements of Competitor A and Competitor B:

(Amounts in millions)

Competitor A Competitor B

Cost of goods sold……………………………….. $21,761 $27,257

Income tax expense…………………………….. 361 766

Net sales……………………………………………. 29,656 36,704

Operating expenses…………………………….. 7,962 10,435

Profit………………………………………………….. 594 1,072

Profit before income tax……………………….. 955 1,838

Instructions

(a) Calculate the profit margin and gross profit margin for each company.

(b) What conclusions can be drawn from the ratios calculated in part (a) about the relative profitability of the two companies?

Solution 178 (15 min.)

(a)

Competitor A Competitor B

Profit margin: $594 $1,072

———— = 2.0% ———— = 2.9%

$29,656 $36,704

Gross profit margin: $29,656 – $21,761 $36,704 – $27,257

————————– ————————–

$29,656 $36,704

$7,895 $9,447

———— = 26.6% ———— = 25.7%

$29,656 $36,704

(b) Competitor B’s profit margin was 45% higher [(2.9% – 2.0%) ÷ 2.0%] than Competitor A’s, but Competitor A’s gross profit margin was 3.5% higher [(26.6% – 25.7%) ÷ 25.7%] than Competitor B’s margin. It can be concluded that Competitor B was slightly more profitable than Competitor A because its profit margin was higher.

Ex. 179

Summarized below are the transactions recorded by Rummy Ltd. for calendar 2015, using a perpetual inventory system. Their Jan 1 opening balances were: accounts receivable $145,000, inventory $45,000, and accounts payable $122,000.

Merchandise Inventory…………………………………………………………………. 400,000

Accounts Payable …………………………………………………………………………………….. 400,000

(Purchase of inventory)

Merchandise Inventory…………………………………………………………………. 10,000

Cash……………………………………………………………………………………. 10,000

(Payment of freight-in on inventory)

Accounts Payable………………………………………………………………………… 20,000

Merchandise Inventory…………………………………………………………………………………….. 20,000

(Returned merchandise to supplier for credit)

Accounts Receivable……………………………………………………………………. 538,000

Cash………………………………………………………………………………………….. 200,000

Sales…………………………………………………………………………………… 738,000

(Record sales for year)

Cost of Goods Sold……………………………………………………………………… 420,000

Merchandise Inventory…………………………………………………………………………………….. 420,000

(Record COGS for year)

Sales Returns and Allowances………………………………………………………. 28,000

Accounts Receivable …………………………………………………………………………………….. 28,000

(Record goods returned from customers)

Merchandise Inventory…………………………………………………………………. 16,800

Cost of Goods Sold …………………………………………………………………………………….. 16,800

(Record goods returned from customers)

Accounts Payable………………………………………………………………………… 400,000

Merchandise Inventory…………………………………………………………… 6,000

Cash……………………………………………………………………………………. 394,000

(Record payments to suppliers, with a $6,000 purchase discount)

Cash………………………………………………………………………………………….. 560,000

Sales Discounts…………………………………………………………………………… 4,000

Accounts Receivable………………………………………………………………………………….. 564,000

(Record receipts from customers)

Instructions

Prepare the 2015 income statement to the gross profit line only.

(a) As it would appear using the perpetual inventory system.

(b) As it would appear if a periodic inventory system had been used.

(c) Calculate the gross profit margin for the year.

Solution 179 (20–25 min.)

(a) Perpetual

RUMMY LTD.

Income Statement (partial)

Year Ended December 31, 2015

___________________________________________________________________________

Sales…………………………………………………………………………………………. $738,000

Less: Sales returns and allowances……………………………………………….. $28,000

Sales discounts…………………………………………………………………….. 4,000 32,000

Net sales………………………………………………………………………………………….. 706,000

Cost of goods sold*……………………………………………………………………… 403,200

Gross profit………………………………………………………………………………………….. $302,800

* $420,000 – $16,800 = $403,200

(b) Periodic

RUMMY LTD.

Income Statement (partial)

Year Ended December 31, 2015

Sales…………………………………………………………………………………………. $738,000

Less: Sales returns and allowances……………………………………………… $ 28,000

Sales discounts………………………………………………………………… 4,000 32,000

Net sales………………………………………………………………………………………….. 706,000

Cost of goods sold

Inventory, January 1…………………………………………………………………….. $ 45,000

Purchases………………………………………………………………………………….. 400,000

Less: Purchases returns and allowances……………………… $20,000

Purchase discounts………………………………………….. 6,000 26,000

Net purchases…………………………………………………………………………….. 374,000

Add: Freight in………………………………………………………………………….. 10,000

Cost of goods purchased……………………………………………………………… 384,000

Cost of goods available for sale…………………………………………………….. 429,000

Inventory, December 31*………………………………………………………………. 25,800

Cost of goods sold……………………………………………………………………….. 403,200

Gross profit………………………………………………………………………………………….. $302,800

*Since cost of goods sold is the same as under the perpetual system, ending inventory must be

$429,000 – $403,200 = $25,800.

*Ex. 180

Below is a series of cost of goods sold sections for four companies that use a periodic inventory system (in thousands):

Co. A Co. B Co. C Co. D

Beginning inventory (a) 35 12 (m)

Purchases 123 (e) 67 (n)

Purchase returns and allowances (b) 9 (i) 11

Net purchases 113 205 66 178

Freight in (c) 20 (j) 12

Freight out 10 12 9 8

Cost of goods purchased 147 (f) 73 (o)

Cost of goods available for sale 171 (g) (k) 190

Ending inventory (d) (h) 8 (p)

Cost of goods sold 141 235 (l) 171

Instructions

What are the amounts that should appear in the table where a letter in parentheses is shown?

*Solution 180 (15–20 min.)

($ in thousands) Co. A Co. B Co. C Co. D

Beginning inventory $ 24 $ 35 $12 $ 0

Purchases 123 214 67 189

Purchase returns and allowances 10 9 1 11

Net purchases 113 205 66 178

Freight in 34 20 7 12

Freight out 10 12 9 8

Cost of goods purchased 147 225 73 190

Cost of goods available for sale 171 260 85 190

Ending inventory 30 25 8 19

Cost of goods sold 141 235 77 171

*Ex. 181

On June 1, Charles Charcoal Ltd. had an inventory of 10 barbeques at a cost of $220 each. Charles uses a periodic inventory system. During the month of June the following transactions occurred:

Jun 3 Purchased 25 barbeques at a cost of $220 each from Mr BBQ Ltd., terms n/30.

5 Paid $100 freight for the barbeques purchased on June 3.

6 Sold 12 barbeques to Grills Plus More for $380 each, terms 2/10, n/30.

7 Received credit from Mr BBQ for the return of two defective barbeques.

13 Issued a credit to Grills Plus More for the return of one defective barbeque.

16 Received a credit from Mr BBQ for the defective barbeque returned by Grills Plus More.

19 Purchased 10 barbeques from Holiday Barbeques at a cost of $220 each, terms 2/10, n/30.

20 Paid freight of $100 on the June 19 purchase.

On June 30, Charles’ ending inventory was $3,220.

Instructions

(a) Prepare journal entries to record the above transactions.

(b) Calculate the cost of goods sold for June.

*Solution 181 (20 min.)

(a)

May 3 Purchases ($220 x 25)……………………………………………….. 5,500

Accounts Payable…………………………………………………. 5,500

5 Freight In…………………………………………………………………… 100

Cash…………………………………………………………………… 100

6 Accounts Receivable ($380 x 12)………………………………….. 4,560

Sales………………………………………………………………….. 4,560

7 Accounts Payable ($220 x 2)……………………………………….. 440

Purchase Returns and Allowances…………………………. 440

13 Sales Returns and Allowances……………………………………… 380

Accounts Receivable…………………………………………….. 380

16 Accounts Payable……………………………………………………….. 220

Purchase Returns and Allowances…………………………. 220

19 Purchases ($220 x 10)………………………………………………… 2,200

Accounts Payable…………………………………………………. 2,200

20 Freight In…………………………………………………………………… 100

Cash…………………………………………………………………… 100

(b)

Inventory, June 1 (10 @ $220)…………………………………………………………………………………………. $2,200

Purchases (35 @ $220)…………………………………………………………. $7,700

Less: purchase returns and allowances (3 @ $220)…………………… 660

Net purchases………………………………………………………………………. 7,040

Add: freight in ($100 + $100)………………………………………………….. 200

Cost of goods purchased……………………………………………………….. 7,240

Cost of goods available for sale………………………………………………. 9,440

Inventory, June 30…………………………………………………………………. 3,220

Cost of goods sold …………………………………………………………………………………………… $6,220

*Ex. 182

Magnesium Inc. uses a periodic inventory system. During April, the following transactions occurred:

Apr 3 Purchased $2,000 of merchandise, terms 3/10, n/60.

6 Returned $300 of the merchandise purchased on April 3.

7 Paid freight charges of $150 on goods purchased on April 3.

12 Paid for the goods purchased on April 3.

13 Sold goods on credit for $1,000, terms 2/10, n/45.

14 The customer of April 13 returned $300 of the goods.

23 Received payment from the customer of April 13.

Instructions

Prepare journal entries to record the above transactions.

*Solution 182 (20 min.)

Apr 3 Purchases…………………………………………………………………. 2,000

Accounts Payable…………………………………………………. 2,000

6 Accounts Payable……………………………………………………….. 300

Purchase Returns and Allowances…………………………. 300

7 Freight In…………………………………………………………………… 150

Cash…………………………………………………………………… 150

12 Accounts Payable ($2,000 – $300)……………………………….. 1,700

Purchase Discounts ($1,700 x 3%)…………………………. 51

Cash ($1,700 x 97%)……………………………………………. 1,649

13 Accounts Receivable…………………………………………………… 1,000

Sales………………………………………………………………….. 1,000

14 Sales Returns and Allowances……………………………………… 300

Accounts Receivable…………………………………………….. 300

23 Cash ($700 x 98%)……………………………………………………… 686

Sales Discounts ($700 x 2%)……………………………………….. 14

Accounts Receivable ($1,000 – $300)…………………….. 700

*Ex. 183

Pacific Supply Corporation uses a periodic inventory system. During September, the following transactions occurred:

Sep 3 Purchased 36 backpacks at $25 each from Scott Limited, terms 2/10, n/30.

6 Received credit of $100 for the return of 4 backpacks purchased on Sept. 3 that were defective.

9 Sold 20 backpacks for $45 each to Macklin Books, terms 2/10, n/30.

13 Paid Scott account in full.

Instructions

Prepare journal entries to record the above transactions.

*Solution 183 (15 min.)

Sep 3 Purchases ($25 x 36)………………………………………………….. 900

Accounts Payable…………………………………………………. 900

6 Accounts Payable……………………………………………………….. 100

Purchase Returns and Allowances…………………………. 100

9 Accounts Receivable ($45 x 20)……………………………………. 900

Sales………………………………………………………………….. 900

13 Accounts Payable ($900 – $100)………………………………….. 800

Purchase Discounts ($800 × 2%)……………………………. 16

Cash ($800 x 98%)………………………………………………. 784

*Ex. 184

Babylon Corporation uses a periodic inventory system. During October, the following transactions occurred:

Oct 3 Purchased $16,000 of merchandise on credit, terms 4/10, n/30.

6 Returned $1,600 of the goods purchased on Oct 3.

7 Paid freight charges of $250 for goods purchased on Oct 3.

12 Paid for the goods purchased on Oct 3.

Instructions

Prepare journal entries to record the above transactions.

*Solution 184 (15 min.)

Oct 3 Purchases…………………………………………………………………. 16,000

Accounts Payable ………………………………………………………………………….. 16,000

6 Accounts Payable……………………………………………………….. 1,600

Purchase Returns and Allowances…………………………. 1,600

7 Freight In…………………………………………………………………… 250

Cash…………………………………………………………………… 250

12 Accounts Payable ($16,000 – $1,600)…………………………… 14,400

Purchase Discounts ($14,400x 4%)………………………… 576

Cash ($14,400 x 96%) 13,824

*Ex. 185

The most recent income statement of Lawerence Limited includes the items listed below:

Beginning inventory………………………………………………. $ 900,000

Freight in…………………………………………………………….. 20,000

Gross profit………………………………………………………….. 1,400,000

Net sales…………………………………………………………….. 3,750,000

Operating expenses……………………………………………… 300,000

Purchases…………………………………………………………… 1,520,000

Purchase discounts………………………………………………. 35,000

Purchase returns and allowances…………………………… 12,000

Instructions

Use the appropriate items listed above as a basis for calculating:

(a) Cost of goods sold.

(b) Cost of goods available for sale.

*Solution 185 (15 min.)

(a) Net sales – Cost of goods sold = Gross profit

$3,750,000 – Cost of goods sold = $1,400,000

Cost of goods sold = $2,350,000

(b) Beginning inventory………………………………………………. $ 900,000

Purchases…………………………………………………………… $1,520,000

Less: Purchase discounts………………………………………. $35,000

Purchase returns and allowances…………………… 12,000 47,000

Net Purchases……………………………………………………… 1,473,000

Add: Freight in…………………………………………………….. 20,000

Cost of goods purchased………………………………………. 1,493,000

Cost of goods available for sale ………………………………………………………………………….. $2,393,000

$2,393,000 – Ending inventory = $2,350,000

Ending inventory = $43,000

*Ex. 186

Given the following information, prepare in good form the cost of goods sold section of an income statement, using the periodic inventory system.

…… Beginning inventory………………………………………………. $15,000

…… Ending inventory…………………………………………………… 16,000

…… Freight in…………………………………………………………….. 4,000

…… Purchases…………………………………………………………… 38,000

…… Purchase discounts………………………………………………. 500

…… Purchase returns and allowances…………………………… 1,800

*Solution 186 (15 min.)

Beginning inventory……………………………………………………………………. $15,000

Purchases………………………………………………………………….. $38,000

Less: Purchase returns and allowances………………………… $1,800

Purchase discounts……………………………………………. 500 2,300

Net purchases……………………………………………………………. 35,700

Freight in……………………………………………………………………. 4,000

Cost of goods purchased……………………………………………… 39,700

Cost of goods available for sale ……………………………………………………………………….. 54,700

Ending inventory…………………………………………………………. 16,000

Cost of goods sold ……………………………………………………………………….. $38,700

*Ex. 187

Three items are missing in each of the following columns and are identified by a letter.

Sales $ (a) $860,000

Sales returns and allowances 15,000 20,000

Sales discounts 10,000 15,000

Net sales 450,000 (d)

Beginning inventory (b) 325,000

Cost of goods purchased 200,000 (e)

Ending inventory 170,000 303,000

Cost of goods sold 250,000 575,000

Gross profit (c) (f)

Instructions

Calculate the missing amounts and identify them by letter.

*Solution 187 (15 min.)

(a) $475,000

(b) $220,000

(d) $825,000

(e) $553,000

(f) $250,000

*Ex. 188

Mendez Electronics Limited uses the periodic inventory system and prepares monthly financial statements. All accounts have been adjusted except for merchandise inventory. A physical count of merchandise inventory on September 30, 2015 indicates that $2,000 was on hand. A partial listing of adjusted account balances follows:

Accounts payable…………………………………………………. $ 7,250

Accounts receivable……………………………………………… 8,000

Cash…………………………………………………………………… 22,000

Freight in…………………………………………………………….. 1,100

Income tax expense……………………………………………… 1,530

Merchandise inventory, September 1 ……………………… 1,500

Operating expenses……………………………………………… 23,100

Purchases…………………………………………………………… 35,000

Purchase returns and allowances…………………………… 350

Sales………………………………………………………………….. 70,000

Sales discounts……………………………………………………. 750

Instructions

Prepare a multiple-step income statement for Hernandez Book Store for the month ended September 30, 2015.

*Solution 188 (15 min.)

MENDEZ ELECTRONICS LIMITED

Income Statement

Month Ended September 30, 2015

___________________________________________________________________________

Sales revenues

Sales………………………………………………………………….. $70,000

Less: Sales discounts……………………………………………. 750

Net sales ……………………………………………………………………. $69,250

Cost of goods sold

Merchandise inventory, September 1………………………. $ 1,500

Purchases…………………………………………………………… $35,000

Less: Purchase returns and allowances…………………… 350

Net purchases……………………………………………………… 35,350

Add: Freight in……………………………………………………… 1,100

Cost of goods purchased………………………………………. 36,450

Cost of goods available for sale……………………………… 37,950

Merchandise inventory, September 30…………………….. 2,000

Cost of goods sold………………………………………….. 35,950

Gross profit………………………………………………………………… 33,300

Operating expenses……………………………………………………. 23,100

Profit before income tax ……………………………………………………………………. 10,200

Income tax expense……………………………………………………. 1,530

Profit…………………………………………………………………………. $ 8,670

MATCHING QUESTIONS

Match the items below by entering the appropriate code letter in the space provided.

Net sales F. Contra revenue
Sales discount G. Freight out
Credit terms H. Gross profit
Periodic inventory system I. Sales invoice
Gross profit margin J. Purchase discount

____ 1. A reduction given by the seller for prompt payment of a credit sale

____ 2. Provides support for a credit sale

____ 3. Gross profit divided by net sales

____ 4. Sales less sales returns and allowances and sales discounts

____ 5. Specifies the amount of cash discount and time period during which it is offered.

____ 6. Net sales less cost of goods sold

____ 7. Freight cost to deliver goods to customers reported as an operating expense.

____ 8. Requires a physical count of goods on hand to calculate cost of goods sold.

____ 9. A cash discount claimed by a buyer for prompt payment of a balance due.

____ 10. An account that is offset against a revenue account on the income statement.

Answers to Matching QuestionS

SHORT-ANSWER ESSAY QUESTIONS

S-A E 190

Describe the types of inventories that organizations may report on their statements of financial position. What kind of businesses would report what type of inventory?

Solution 190

Retailers and wholesalers would report merchandise inventory, which is in a form ready to sell to customers (e.g., Walmart, Loblaw, etc.).

Manufacturers would report raw materials inventory (basic materials on hand ready to go into production), work in process inventory (inventory which has been started into production but is not yet complete), and finished goods inventory (manufactured items that are complete and ready for sale).

S-A E 191

The periodic and the perpetual inventory systems are two methods that companies use to account for inventories. Briefly describe the major features of each system and explain why a physical inventory is necessary under both systems.

Solution 191

When a periodic inventory system is used, the Inventory account remains the same throughout the period. Separate accounts, such as Purchases, Freight In, and Purchase Discounts, are used to record the transactions. Cost of goods sold is determined by the following formula:

Beginning inventory + Purchases – Ending inventory.

The determination of ending inventory is made by a physical count.

When a perpetual inventory system is used, the purchase and sale of goods are recorded directly in the Inventory account, which eliminates the need for separate accounts. Cost of goods sold is recognized for each sale by debiting Cost of Good Sold and crediting Inventory. At the end of the period, the ending account balance should equal inventory’s ending balance. However, a company should conduct a physical inventory count at least once a year, because there could be differences resulting from spoilage, theft, or errors.

S-A E 192

What is the main consideration when choosing between a periodic and a perpetual inventory system?

Solution 192

When choosing between a periodic and perpetual inventory system, a company should consider the additional costs associated with keeping detailed inventory records versus the benefits of having additional information about, and control over their inventory.

S-A E 193

Distinguish between cost of goods sold, operating expenses, and non-operating expenses. Describe the nature of these three items and their placement on a multiple-step income statement.

Solution 193

Cost of goods sold includes the cost of obtaining the goods held for resale; it is deducted directly from net sales on the income statement. Net sales less cost of goods sold results in gross profit. Operating expenses, on the other hand, appear directly below the gross profit on the income statement. Operating expenses include the costs of running the day-to-day operations of the business such as rent, salaries and insurance. Non-operating expenses are expenses unrelated to daily operations, such as interest expense.

S-A E 194

The income statement for a merchandising company presents three amounts not shown in a service company’s income statement. Identify and briefly explain the three unique amounts.

Solution 194

The items reported for a merchandising company that are not reported for a service company are: sales revenues, cost of goods sold, and gross profit. Sales revenues consist of sales, sales returns and allowances, and sales discounts. Cost of goods sold represents the total cost of merchandise sold during the period. Gross profit is the excess of net sales over the cost of goods sold.

S-A E 195

Public companies in Canada must list expenses on the income statement either by nature or function. Explain what this means. Are private companies required to do the same?

Solution 195

Classifying expenses by nature means that expenses are reported according to their natural classifications, e.g., salaries, depreciation, advertising, utilities. Classifying expenses by function means that expenses are reported according to the activity (business function) for which they were incurred, e.g., cost of goods sold, administration, selling expenses. An organization has the choice to classify by nature or by function – the choice should be based on whichever provides more relevant information. Note expenses may be listed in any order within the chosen classification. Note also that organizations following ASPE may list their expenses in whatever order they choose, or they may list by nature or function.

S-A E 196

In a single-step income statement, all data (except for income tax) are classified under two categories: (1) Revenues, or (2) Expenses. If the income statement is recast in a multiple-step format, what additional information or intermediate components of revenue would be presented?

Solution 196

The items reported in a multiple-step income statement that are not reported in a single-step income statement are gross revenues as well as net revenues, cost of goods sold, gross profit, operating expenses, profit from operations, other revenues and gains, and other expenses and losses.

S-A E 197

You are working for the summer at PLC Ltd., a company that operates a chain of retail stores. In past, the company has not disclosed its cost of goods sold, but now is required to do so. The company president would like to know the pros and cons of disclosing information. Prepare a memo to the president containing the information requested.

Solution 197

M E M O

TO: President, PLC Ltd.

FROM: Accounting Student

RE: Disclosure of cost of goods sold

DATE: June xx, xxxx

Disclosing the cost of goods sold enables users of the statements to better evaluate the company’s performance. They can see the relationship between the company’s sales and its cost of goods sold. The downside of disclosing the information is that competitors can also have access to this information. For example, they can use the information to estimate the company’s mark-up although its value will be limited as they can only calculate the mark-up in its aggregate (total) and not by product category.

S-A E 198

You are working as an accounting clerk for Jakubo Wholesalers for the summer. You notice that some invoices that look like inventory purchases are debited to the Operating Expenses account. When you ask your supervisor about the invoices, she says you don’t need to be concerned about it because it won’t have any effect on the profit.

Instructions

Does the classification of the invoices matter? Explain.

Solution 198

Classifying the invoices as operating expenses rather than inventory will have the immediate effect of understating current assets on the statement of financial position and cost of goods sold on the income statement. Subsequently, when the inventory is sold in a later period, cost of goods sold will be understated and gross profit overstated.

Not properly distinguishing on the income statement between cost of goods sold and operating expenses will increase the gross profit and gross profit margin. The gross margin is important in evaluating the company’s performance, so the misclassification does matter.

S-A E 199

Explain why gross profit margin is considered to be more informative than gross profit.

Solution 199

Gross profit margin expresses a more meaningful relationship between gross profit and sales. Specifically, it shows how much gross profit a company earns for each $1 in net sales it generates. This puts gross profit into perspective and draws attention to a company’s profitability relative to its size.

*S-A E 200

A merchandising company using the periodic system frequently has the need to use contra accounts related to the purchase and sale of goods. Identify the contra accounts that have (1) normal credit balances and explain why they are not considered revenues, and (2) normal debit balances and explain why they are not considered expenses.

*Solution 200

The contra accounts related to the purchase of goods that have normal credit balances are Purchase Discounts and Purchase Returns and Allowances. These accounts have credit balances because they are adjustments to purchases, not revenues. They are an adjustment of the outflow from the purchase of goods, rather than a revenue generating activity.

The contra accounts related to the sale of goods that have normal debit balances are Sales Discounts and Sales Returns and Allowances. These accounts have debit balances but are not expenses because they are adjustments of sales, not operating, selling, or administrative expenses. They are an adjustment of the inflow from sale of goods, rather than a cost used to help earn revenue.

LEGAL NOTICE

The data contained in these files are protected by copyright. This manual is furnished under licence and may be used only in accordance with the terms of such licence.

Sign inCreate an Account

Test Bank for Financial Accounting Tools for Business Decision Making 6th Canadian Edition by Paul D. Kimmel – Weygandt – Kesio – Irvine

Instant Download

THE PURPOSE AND USE OF FINANCIAL STATEMENTS

Summary of Question TYPEs by STUDY Objective and Level of difficulty

SUMMARY OF STUDY OBJECTIVES BY QUESTION TYPE

CHAPTER STUDY OBJECTIVES

TRUE-FALSE STATEMENTS

Answers to True-False Statements

MULTIPLE CHOICE QUESTIONS

Answers to Multiple Choice Questions

Exercises

Ex. 111

Solution 111 (6 min.)

Ex. 112

Solution 112 (5 min.)

Ex. 113

Solution 113 (10 min.)

Ex. 114

Ex. 115

Solution 115 (5 min.)

Ex. 116

Solution 116 (30 min.)

Ex. 117

Solution 117 (10 min.)

Ex. 118

Solution 118 (5 min.)

Ex. 119

Solution 119 (10 min.)

Ex. 120

Solution 120 (10 min.)

Ex. 121

Solution 121 (5 min.)

Ex. 122

Solution 122 (30 min.)

Ex. 123

Solution 123 (5 min.)

Ex. 124

Solution 124 (5 min.)

Ex. 125

Solution 125 (5 min.)

Ex. 126

Solution 126 (5 min.)

Ex. 127

Solution 127 (5 min.)

Ex. 128

Solution 128 (5 min.)

Ex. 129

Solution 129 (5 min.)

Ex. 130

Solution 130 (5 min.)

Ex. 131

Solution 131 (10 min.)

Ex 132

Solution 132

MATCHING

Answers to Matching

SHORT-ANSWER ESSAY QUESTIONS

S-A E 134

Solution 134

S-A E 136

Solution 136

S-A E 137

Solution 137

S-A E 139

Solution 139

S-A E 140

Solution 140

S-A E 141

MERCHANDISING OPERATIONS

Summary of Question TYPEs by STUDY Objective and Level of difficulty

Summary of Question TYPEs by STUDY Objective and Level of difficulty (Continued)

*This topic is dealt with in an appendix to the chapter.

SUMMARY OF STUDY OBJECTIVES BY QUESTION TYPE

CHAPTER STUDY OBJECTIVES

Answers to True-False Statements

Answers to Multiple Choice Questions

EXERCISES

Ex. 162

Solution 162 (10 min.)