Financial Accounting 6th Canadian Edition Solution Manual
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-1
Chapter 1
Financial Statements and Business Decisions
Revised: October 21, 2016
ANSWERS TO QUESTIONS
1. Accounting is a system that collects and processes (analyzes, measures, and records)
financial information about an organization and reports that information to decision
makers.
2. Financial accounting involves preparation of the basic financial statements and related
disclosures for external decision makers. Reporting is generally on a quarterly and annual
basis. Managerial accounting involves the preparation of detailed plans, budgets, forecasts,
and performance reports for internal decision makers. Reporting is on an ongoing basis.
3. Financial reports are used by both internal and external groups and individuals. The
internal users are the various managers of the entity, e.g. marketing, credit and
purchasing. The external groups include the owners, investors, creditors, governmental
agencies, other interested parties, and the public at large.
4. Investors purchase all or part of a business and hope to gain by receiving part of what the
company earns and/or selling their share of the company in the future at a higher price
than they paid. Creditors lend money to a company for a specific length of time and hope
to gain by charging interest on the loan.
5. An accounting entity is the organization for which financial data are to be collected. Typical
accounting entities are a business, a church, a governmental unit, a university and other
nonprofit organizations such as a hospital. A business is defined and treated as a separate
entity because the owners, creditors, investors, and other interested parties need to
evaluate its performance and its potential separately from other entities and from its
owners.
6. The heading of each of the four required financial statements should include the following:
(a) Name of the entity
(b) Title of the statement
(c) Specific date or period of the statement, or the period of time it covers
(d) Unit of measure
7. (a) The purpose of the statement of earnings is to present information about the
revenues, expenses, and the net earnings of the entity for a specified period of time,
in order to help assess its financial performance during that period.
1-1
Chapter 1
Financial Statements and Business Decisions
Revised: October 21, 2016
ANSWERS TO QUESTIONS
1. Accounting is a system that collects and processes (analyzes, measures, and records)
financial information about an organization and reports that information to decision
makers.
2. Financial accounting involves preparation of the basic financial statements and related
disclosures for external decision makers. Reporting is generally on a quarterly and annual
basis. Managerial accounting involves the preparation of detailed plans, budgets, forecasts,
and performance reports for internal decision makers. Reporting is on an ongoing basis.
3. Financial reports are used by both internal and external groups and individuals. The
internal users are the various managers of the entity, e.g. marketing, credit and
purchasing. The external groups include the owners, investors, creditors, governmental
agencies, other interested parties, and the public at large.
4. Investors purchase all or part of a business and hope to gain by receiving part of what the
company earns and/or selling their share of the company in the future at a higher price
than they paid. Creditors lend money to a company for a specific length of time and hope
to gain by charging interest on the loan.
5. An accounting entity is the organization for which financial data are to be collected. Typical
accounting entities are a business, a church, a governmental unit, a university and other
nonprofit organizations such as a hospital. A business is defined and treated as a separate
entity because the owners, creditors, investors, and other interested parties need to
evaluate its performance and its potential separately from other entities and from its
owners.
6. The heading of each of the four required financial statements should include the following:
(a) Name of the entity
(b) Title of the statement
(c) Specific date or period of the statement, or the period of time it covers
(d) Unit of measure
7. (a) The purpose of the statement of earnings is to present information about the
revenues, expenses, and the net earnings of the entity for a specified period of time,
in order to help assess its financial performance during that period.
Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-1
Chapter 1
Financial Statements and Business Decisions
Revised: October 21, 2016
ANSWERS TO QUESTIONS
1. Accounting is a system that collects and processes (analyzes, measures, and records)
financial information about an organization and reports that information to decision
makers.
2. Financial accounting involves preparation of the basic financial statements and related
disclosures for external decision makers. Reporting is generally on a quarterly and annual
basis. Managerial accounting involves the preparation of detailed plans, budgets, forecasts,
and performance reports for internal decision makers. Reporting is on an ongoing basis.
3. Financial reports are used by both internal and external groups and individuals. The
internal users are the various managers of the entity, e.g. marketing, credit and
purchasing. The external groups include the owners, investors, creditors, governmental
agencies, other interested parties, and the public at large.
4. Investors purchase all or part of a business and hope to gain by receiving part of what the
company earns and/or selling their share of the company in the future at a higher price
than they paid. Creditors lend money to a company for a specific length of time and hope
to gain by charging interest on the loan.
5. An accounting entity is the organization for which financial data are to be collected. Typical
accounting entities are a business, a church, a governmental unit, a university and other
nonprofit organizations such as a hospital. A business is defined and treated as a separate
entity because the owners, creditors, investors, and other interested parties need to
evaluate its performance and its potential separately from other entities and from its
owners.
6. The heading of each of the four required financial statements should include the following:
(a) Name of the entity
(b) Title of the statement
(c) Specific date or period of the statement, or the period of time it covers
(d) Unit of measure
7. (a) The purpose of the statement of earnings is to present information about the
revenues, expenses, and the net earnings of the entity for a specified period of time,
in order to help assess its financial performance during that period.
1-1
Chapter 1
Financial Statements and Business Decisions
Revised: October 21, 2016
ANSWERS TO QUESTIONS
1. Accounting is a system that collects and processes (analyzes, measures, and records)
financial information about an organization and reports that information to decision
makers.
2. Financial accounting involves preparation of the basic financial statements and related
disclosures for external decision makers. Reporting is generally on a quarterly and annual
basis. Managerial accounting involves the preparation of detailed plans, budgets, forecasts,
and performance reports for internal decision makers. Reporting is on an ongoing basis.
3. Financial reports are used by both internal and external groups and individuals. The
internal users are the various managers of the entity, e.g. marketing, credit and
purchasing. The external groups include the owners, investors, creditors, governmental
agencies, other interested parties, and the public at large.
4. Investors purchase all or part of a business and hope to gain by receiving part of what the
company earns and/or selling their share of the company in the future at a higher price
than they paid. Creditors lend money to a company for a specific length of time and hope
to gain by charging interest on the loan.
5. An accounting entity is the organization for which financial data are to be collected. Typical
accounting entities are a business, a church, a governmental unit, a university and other
nonprofit organizations such as a hospital. A business is defined and treated as a separate
entity because the owners, creditors, investors, and other interested parties need to
evaluate its performance and its potential separately from other entities and from its
owners.
6. The heading of each of the four required financial statements should include the following:
(a) Name of the entity
(b) Title of the statement
(c) Specific date or period of the statement, or the period of time it covers
(d) Unit of measure
7. (a) The purpose of the statement of earnings is to present information about the
revenues, expenses, and the net earnings of the entity for a specified period of time,
in order to help assess its financial performance during that period.
Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-2
(b) The purpose of the statement of financial position is to report the financial position
of an entity at a given date, that is, to report information about the assets,
obligations and shareholders’ equity of the entity as of a specific date.
(c) The purpose of the statement of cash flows is to present information about the flow
of cash into the entity (sources), the flow of cash out of the entity (uses), and the net
increase or decrease in cash during the period.
(d) The statement of changes in equity reports the way that net earnings, the
distribution of net earnings (dividends), and other changes to shareholders’ equity
affected the company’s financial position during the accounting period. The focus in
this chapter is on retained earnings. Net earnings for the year increases the balance
of retained earnings whereas the declaration of dividends to the shareholders
decreases retained earnings.
8. The statement of earnings and the statement of cash flows are dated “For the Year Ended
December 31, 2017,” because they report the inflows and outflows of resources during a
period of time. In contrast, the statement of financial position is dated “As at December
31, 2017” because it represents the resources, obligations and shareholders’ equity as at a
specific date, December 31, 2017.
9. Assets are important to investors and creditors because assets provide a basis for judging
whether sufficient resources are available to operate the company. Liabilities are
important to creditors and investors because the company must be able to generate
sufficient cash from operations or further borrowing to meet the payments required by
debt agreements. If a business does not pay its creditors, the law may give the creditors
the right to force the sale of assets sufficient to meet their claims.
10. Net earnings is the excess of total revenues over total expenses. Net loss is the excess of
total expenses over total revenues.
11. The accounting equation for the statement of earnings is Revenues - Expenses = Net
earnings. Revenues result from the sale of goods and services to customers, regardless of
the timing of collection of cash from customers. Expenses represent the monetary value of
resources the entity used up, or consumed, to earn revenues during the period. Net
earnings is simply the excess of revenues over expenses.
1-2
(b) The purpose of the statement of financial position is to report the financial position
of an entity at a given date, that is, to report information about the assets,
obligations and shareholders’ equity of the entity as of a specific date.
(c) The purpose of the statement of cash flows is to present information about the flow
of cash into the entity (sources), the flow of cash out of the entity (uses), and the net
increase or decrease in cash during the period.
(d) The statement of changes in equity reports the way that net earnings, the
distribution of net earnings (dividends), and other changes to shareholders’ equity
affected the company’s financial position during the accounting period. The focus in
this chapter is on retained earnings. Net earnings for the year increases the balance
of retained earnings whereas the declaration of dividends to the shareholders
decreases retained earnings.
8. The statement of earnings and the statement of cash flows are dated “For the Year Ended
December 31, 2017,” because they report the inflows and outflows of resources during a
period of time. In contrast, the statement of financial position is dated “As at December
31, 2017” because it represents the resources, obligations and shareholders’ equity as at a
specific date, December 31, 2017.
9. Assets are important to investors and creditors because assets provide a basis for judging
whether sufficient resources are available to operate the company. Liabilities are
important to creditors and investors because the company must be able to generate
sufficient cash from operations or further borrowing to meet the payments required by
debt agreements. If a business does not pay its creditors, the law may give the creditors
the right to force the sale of assets sufficient to meet their claims.
10. Net earnings is the excess of total revenues over total expenses. Net loss is the excess of
total expenses over total revenues.
11. The accounting equation for the statement of earnings is Revenues - Expenses = Net
earnings. Revenues result from the sale of goods and services to customers, regardless of
the timing of collection of cash from customers. Expenses represent the monetary value of
resources the entity used up, or consumed, to earn revenues during the period. Net
earnings is simply the excess of revenues over expenses.
Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-3
12. The accounting equation for the statement of financial position is:
Assets = Liabilities + Shareholders’ Equity
Assets are the probable (expected) future economic benefits owned by the entity as a
result of past transactions. They are the resources owned by the business at a given point
in time such as cash, trade receivables, merchandise inventory, machinery, buildings, land,
and patents. Liabilities are probable (expected) debts or obligations of the entity as a result
of past transactions which will be discharged with assets (usually, cash) or services in the
future. They are the obligations of the entity such as trade payables, notes payable, and
bonds payable. Shareholders’ equity is financing provided by owners of the business and
by the net earnings generated from the operations of the business. It is the claim of the
owners to the assets of the business after the creditor claims have been satisfied.
Shareholders’ equity may be thought of as the residual interest because it represents
assets minus liabilities.
13. The accounting equation for the statement of cash flows is: Cash flows from operating
activities +/– Cash flows from investing activities +/– Cash flows from financing activities =
Change in cash for the period. The net cash flows for the period represent the increase or
decrease in cash that occurred during the period. Cash flows from operating activities are
cash flows directly related to earning income (normal business activity including interest
paid and income taxes paid). Cash flows from investing activities comprise cash flows that
are directly related to the acquisition or sale of productive assets used by the company,
such as plant and equipment. Cash flows from financing activities consist of cash flows that
are directly related to the financing of the enterprise, such as issuing shares to investors.
14. The accounting equation for retained earnings is:
Beginning Retained Earnings
+ Net earnings
– Dividends
= Ending Retained Earnings
The equation begins with beginning-of-the-year Retained Earnings i.e., the prior year’s
ending retained earnings reported on the statement of financial position. The current
year's net earnings reported on the statement of earnings are added to this amount and
the Dividends declared during the current year are subtracted from this amount. The
ending Retained Earnings amount is reported on the end-of-period statement of financial
position.
15. Credit managers use customers' financial statements to decide whether to extend them
credit for their purchases. Purchasing managers use potential suppliers' financial
statements to judge whether the suppliers have the resources necessary to meet current
and future demand. Human resource managers use financial statements as a basis for
contract negotiations to determine, for example, what pay rates the company can afford.
The net earnings figure can also serve as a basis to pay bonuses not only to management,
but to other employees through profit sharing plans.
1-3
12. The accounting equation for the statement of financial position is:
Assets = Liabilities + Shareholders’ Equity
Assets are the probable (expected) future economic benefits owned by the entity as a
result of past transactions. They are the resources owned by the business at a given point
in time such as cash, trade receivables, merchandise inventory, machinery, buildings, land,
and patents. Liabilities are probable (expected) debts or obligations of the entity as a result
of past transactions which will be discharged with assets (usually, cash) or services in the
future. They are the obligations of the entity such as trade payables, notes payable, and
bonds payable. Shareholders’ equity is financing provided by owners of the business and
by the net earnings generated from the operations of the business. It is the claim of the
owners to the assets of the business after the creditor claims have been satisfied.
Shareholders’ equity may be thought of as the residual interest because it represents
assets minus liabilities.
13. The accounting equation for the statement of cash flows is: Cash flows from operating
activities +/– Cash flows from investing activities +/– Cash flows from financing activities =
Change in cash for the period. The net cash flows for the period represent the increase or
decrease in cash that occurred during the period. Cash flows from operating activities are
cash flows directly related to earning income (normal business activity including interest
paid and income taxes paid). Cash flows from investing activities comprise cash flows that
are directly related to the acquisition or sale of productive assets used by the company,
such as plant and equipment. Cash flows from financing activities consist of cash flows that
are directly related to the financing of the enterprise, such as issuing shares to investors.
14. The accounting equation for retained earnings is:
Beginning Retained Earnings
+ Net earnings
– Dividends
= Ending Retained Earnings
The equation begins with beginning-of-the-year Retained Earnings i.e., the prior year’s
ending retained earnings reported on the statement of financial position. The current
year's net earnings reported on the statement of earnings are added to this amount and
the Dividends declared during the current year are subtracted from this amount. The
ending Retained Earnings amount is reported on the end-of-period statement of financial
position.
15. Credit managers use customers' financial statements to decide whether to extend them
credit for their purchases. Purchasing managers use potential suppliers' financial
statements to judge whether the suppliers have the resources necessary to meet current
and future demand. Human resource managers use financial statements as a basis for
contract negotiations to determine, for example, what pay rates the company can afford.
The net earnings figure can also serve as a basis to pay bonuses not only to management,
but to other employees through profit sharing plans.
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-4
16. In Canada, provincial securities legislation created securities commissions, most notably
the Ontario Securities Commission (OSC), to regulate Canadian capital markets and the
flow of financial information provided by publicly traded companies whose shares trade on
Canadian stock exchanges, such as the Toronto Stock Exchange. Similar to the SEC, the OSC
plays an influential role in promoting sound accounting practices by publicly traded
companies. Since their establishment, these securities commissions have worked with
organizations of professional accountants to establish groups that are given the primary
responsibilities to work out the detailed rules that Canadian entities must use. The name of
the current Canadian group that has this responsibility is the Accounting Standards Board
(AcSB). The AcSB is responsible for establishing standards of accounting and reporting by
Canadian companies and not-for-profit organizations.
17. The officers of the company, usually the CEO and the CFO, must personally sign a
certification that they have designed or supervised the design, implementation and
evaluation of effective, appropriate financial accounting and reporting processes. The
executives and officers of the company bear primary responsibility for information
prepared and reported in the financial statements and other information contained in the
annual report. Top management also nominates members to the Board of Directors to
oversee the integrity of the first two safeguards. Those owning shares of the firm vote to
elect the Board of Directors which holds the officers of the company accountable to the
shareholders for defects in the internal control and reporting system. It also appoints
external, independent auditors who provide advice to companies on how to best comply
with regulations on financial reporting.
18. A sole proprietorship is an unincorporated business owned by one individual. A partnership
is an unincorporated association of two or more individuals to carry on a business. A
corporation is a business that is organized under federal or provincial laws, whereby a
charter is granted and the entity is thus authorized to issue shares of stock as evidence of
ownership by the owners (i.e., shareholders). Corporations are legal entities separate from
their owners, but sole proprietorships and partnerships are not.
19. Public practice accounting firms normally render three types of service: assurance services,
management advisory services, and tax services. Assurance services, including auditing,
involves examination of the records and financial statements to determine whether they
“fairly present” the financial position and results of operations of the entity in accordance
with the applicable accounting standards. Management advisory (consulting) services
include providing expert business advice to management. Tax services involve providing
tax-planning advice to clients (both individuals and businesses) and preparation of their tax
returns.
1-4
16. In Canada, provincial securities legislation created securities commissions, most notably
the Ontario Securities Commission (OSC), to regulate Canadian capital markets and the
flow of financial information provided by publicly traded companies whose shares trade on
Canadian stock exchanges, such as the Toronto Stock Exchange. Similar to the SEC, the OSC
plays an influential role in promoting sound accounting practices by publicly traded
companies. Since their establishment, these securities commissions have worked with
organizations of professional accountants to establish groups that are given the primary
responsibilities to work out the detailed rules that Canadian entities must use. The name of
the current Canadian group that has this responsibility is the Accounting Standards Board
(AcSB). The AcSB is responsible for establishing standards of accounting and reporting by
Canadian companies and not-for-profit organizations.
17. The officers of the company, usually the CEO and the CFO, must personally sign a
certification that they have designed or supervised the design, implementation and
evaluation of effective, appropriate financial accounting and reporting processes. The
executives and officers of the company bear primary responsibility for information
prepared and reported in the financial statements and other information contained in the
annual report. Top management also nominates members to the Board of Directors to
oversee the integrity of the first two safeguards. Those owning shares of the firm vote to
elect the Board of Directors which holds the officers of the company accountable to the
shareholders for defects in the internal control and reporting system. It also appoints
external, independent auditors who provide advice to companies on how to best comply
with regulations on financial reporting.
18. A sole proprietorship is an unincorporated business owned by one individual. A partnership
is an unincorporated association of two or more individuals to carry on a business. A
corporation is a business that is organized under federal or provincial laws, whereby a
charter is granted and the entity is thus authorized to issue shares of stock as evidence of
ownership by the owners (i.e., shareholders). Corporations are legal entities separate from
their owners, but sole proprietorships and partnerships are not.
19. Public practice accounting firms normally render three types of service: assurance services,
management advisory services, and tax services. Assurance services, including auditing,
involves examination of the records and financial statements to determine whether they
“fairly present” the financial position and results of operations of the entity in accordance
with the applicable accounting standards. Management advisory (consulting) services
include providing expert business advice to management. Tax services involve providing
tax-planning advice to clients (both individuals and businesses) and preparation of their tax
returns.
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-5
Authors' Recommended Solution Time
(Time in minutes)
Mini-Exercises Exercises Problems
Alternate
Problems
Cases and
Projects
No. Time No. Time No. Time No. Time No. Time
1 5 E 1 20 M 1 45 M 1 45 M 1 30 E
2 5 E 2 25 M 2 60 D 2 60 D 2 20 E
3 5 E 3 20 M 3 30 M 3 30 M 3 30 M
4 20 M 4 45 M 4 60 M
5 20 M 5 20 M 5 25 M
6 25 E 6 25 M
7 30 M 7 25 M
8 10 E 8 *
9 20 M
10 10 E Continuing Case
11 30 M 1 45 M
E = Easy M = Moderate D = Difficult
* Due to the nature of these cases and projects, it is very difficult to estimate the amount of
time students will need to complete the assignment. As with any open-ended project, it is
possible for students to devote a large amount of time to these assignments. While students
often benefit from the extra effort, we find that some become frustrated by the perceived
difficulty of the task. You can reduce student frustration and anxiety by making your
expectations clear. For example, when our goal is to sharpen research skills, we devote class
time discussing research strategies. When we want the students to focus on a real accounting
issue, we offer suggestions about possible companies or industries.
1-5
Authors' Recommended Solution Time
(Time in minutes)
Mini-Exercises Exercises Problems
Alternate
Problems
Cases and
Projects
No. Time No. Time No. Time No. Time No. Time
1 5 E 1 20 M 1 45 M 1 45 M 1 30 E
2 5 E 2 25 M 2 60 D 2 60 D 2 20 E
3 5 E 3 20 M 3 30 M 3 30 M 3 30 M
4 20 M 4 45 M 4 60 M
5 20 M 5 20 M 5 25 M
6 25 E 6 25 M
7 30 M 7 25 M
8 10 E 8 *
9 20 M
10 10 E Continuing Case
11 30 M 1 45 M
E = Easy M = Moderate D = Difficult
* Due to the nature of these cases and projects, it is very difficult to estimate the amount of
time students will need to complete the assignment. As with any open-ended project, it is
possible for students to devote a large amount of time to these assignments. While students
often benefit from the extra effort, we find that some become frustrated by the perceived
difficulty of the task. You can reduce student frustration and anxiety by making your
expectations clear. For example, when our goal is to sharpen research skills, we devote class
time discussing research strategies. When we want the students to focus on a real accounting
issue, we offer suggestions about possible companies or industries.
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-6
MINI-EXERCISES
M1–1
Element Financial Statement
B (1) Expenses A. Statement of financial position
D (2) Cash flow from investing activities B. Statement of earnings
A (3) Assets C. Statement of shareholders’ equity
C* (4) Dividends D. Statement of cash flows
B (5) Revenues
D (6) Cash flow from operating activities
A (7) Liabilities
D (8) Cash flow from financing activities
*Dividends paid in cash are also subtracted in the Financing section of the Statement of Cash
Flows
M1–2
SE (1) Retained earnings
A (2) Accounts receivable
R (3) Sales revenue
A (4) Property, plant, and equipment
E (5) Cost of sales
A (6) Inventories
E (7) Interest expense
L (8) Accounts payable
A (9) Land
M1–3
Abbreviation Full Designation
(1) AcSB Accounting Standards Board
(2) IFRS International Financial Reporting Standards
(3) CPA Chartered Professional Accountant
(4) IASB International Accounting Standards Board
1-6
MINI-EXERCISES
M1–1
Element Financial Statement
B (1) Expenses A. Statement of financial position
D (2) Cash flow from investing activities B. Statement of earnings
A (3) Assets C. Statement of shareholders’ equity
C* (4) Dividends D. Statement of cash flows
B (5) Revenues
D (6) Cash flow from operating activities
A (7) Liabilities
D (8) Cash flow from financing activities
*Dividends paid in cash are also subtracted in the Financing section of the Statement of Cash
Flows
M1–2
SE (1) Retained earnings
A (2) Accounts receivable
R (3) Sales revenue
A (4) Property, plant, and equipment
E (5) Cost of sales
A (6) Inventories
E (7) Interest expense
L (8) Accounts payable
A (9) Land
M1–3
Abbreviation Full Designation
(1) AcSB Accounting Standards Board
(2) IFRS International Financial Reporting Standards
(3) CPA Chartered Professional Accountant
(4) IASB International Accounting Standards Board
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-7
EXERCISES
E1–1
Req. 1
Leon’s Furniture Limited
Statement of Financial Position
As at December 31, 2015
(in millions of Canadian dollars)
Assets
Cash and cash equivalents $ 18
Trade receivables 112
Inventories 267
Property, plant and equipment, net 334
Intangible assets and goodwill 739
Other assets 93
Total assets $1,563
Liabilities and shareholders’ equity
Trade and other payables $ 197
Dividends payable 7
Income tax payable 35
Loans and borrowings 315
Other liabilities 460
Total liabilities 1,014
Contributed capital 31
Retained earnings 510
Other components of equity 8
Total shareholders’ equity 549
Total liabilities and shareholders’ equity $1,563
Req. 2
Dividends payable represents the amount of dividends that has not been paid yet to the
company’s shareholders. Retained earnings represent the amount of earnings that has
accumulated over time but has not been distributed to shareholders. Total assets reflect the
recorded value of the resources that are available to the company for use in generating
revenue over time.
1-7
EXERCISES
E1–1
Req. 1
Leon’s Furniture Limited
Statement of Financial Position
As at December 31, 2015
(in millions of Canadian dollars)
Assets
Cash and cash equivalents $ 18
Trade receivables 112
Inventories 267
Property, plant and equipment, net 334
Intangible assets and goodwill 739
Other assets 93
Total assets $1,563
Liabilities and shareholders’ equity
Trade and other payables $ 197
Dividends payable 7
Income tax payable 35
Loans and borrowings 315
Other liabilities 460
Total liabilities 1,014
Contributed capital 31
Retained earnings 510
Other components of equity 8
Total shareholders’ equity 549
Total liabilities and shareholders’ equity $1,563
Req. 2
Dividends payable represents the amount of dividends that has not been paid yet to the
company’s shareholders. Retained earnings represent the amount of earnings that has
accumulated over time but has not been distributed to shareholders. Total assets reflect the
recorded value of the resources that are available to the company for use in generating
revenue over time.
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-8
E1–2
Req. 1
READ MORE STORE
Statement of Financial Position
As at December 31, 2017
ASSETS LIABILITIES AND
SHAREHOLDERS’ EQUITY
Liabilities
Cash $ 48,900 Accounts payable $ 7,000
Accounts receivable 25,000 Note payable 3,000
Store and office equipment 49,000 Interest payable 120
Total liabilities 10,120
Shareholders’ Equity
Contributed capital 100,000
Retained earnings 12,780
Total shareholders’ equity 112,780
Total assets $122,900
Total liabilities and
shareholders' equity $122,900
Req. 2
This is the first year of operations and no dividends were declared. Therefore, the balance of
retained earnings, $12,780, at year-end consists entirely of the net earnings for the first year.
E1–3
Req. 1
THE UNIVERSITY SHOP
Statement of Earnings
For the Month of September 2018
Revenue from sales $120,000 (*)
Expenses:
Cost of sales $ 40,000
Salaries, rent, supplies, and other expenses 38,000
Utilities 600
Total expenses 78,600
Net earnings for the period $ 41,400
(*) $119,000 + $1,000 = $120,000.
(Note: income taxes were ignored in this problem.)
1-8
E1–2
Req. 1
READ MORE STORE
Statement of Financial Position
As at December 31, 2017
ASSETS LIABILITIES AND
SHAREHOLDERS’ EQUITY
Liabilities
Cash $ 48,900 Accounts payable $ 7,000
Accounts receivable 25,000 Note payable 3,000
Store and office equipment 49,000 Interest payable 120
Total liabilities 10,120
Shareholders’ Equity
Contributed capital 100,000
Retained earnings 12,780
Total shareholders’ equity 112,780
Total assets $122,900
Total liabilities and
shareholders' equity $122,900
Req. 2
This is the first year of operations and no dividends were declared. Therefore, the balance of
retained earnings, $12,780, at year-end consists entirely of the net earnings for the first year.
E1–3
Req. 1
THE UNIVERSITY SHOP
Statement of Earnings
For the Month of September 2018
Revenue from sales $120,000 (*)
Expenses:
Cost of sales $ 40,000
Salaries, rent, supplies, and other expenses 38,000
Utilities 600
Total expenses 78,600
Net earnings for the period $ 41,400
(*) $119,000 + $1,000 = $120,000.
(Note: income taxes were ignored in this problem.)
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1-9
E1–3 (continued)
Req. 2
This statement of earnings indicates that the University Shop is a profitable company. Although
the net earnings amount does not reflect the amount of cash available at the end of September
2018, the cash transactions indicate that the cash available is sufficiently large to cover the cost
of the cash register.
E1–4
Revenues $812,272 606,764 + 205, 508
Cost of sales 533,529
Depreciation expense 26,903
Interest expense 46,332
Total expenses excluding income taxes 606,764 533,529 + 26,903 + 46,332
Earnings before income tax 205,508 165,749 + 39,759
Income tax expense 39,759
Net earnings for the year $165,749
E1–5
HOME REALTY, INCORPORATED
Statement of Earnings
For the Year Ended December 31, 2017
Revenue:
Commissions earned ($150,000 + $16,000) $166,000
Rental service fees 15,000
Total revenues $181,000
Expenses:
Salaries $ 62,000
Commissions 35,000
Payroll taxes 2,500
Rent ($2,200 + $200) 2,400
Utilities 1,600
Promotion and advertising 8,000
Miscellaneous 500
Total expenses, excluding income taxes 112,000
Earnings before income taxes 69,000
Income tax expense 18,500
Net earnings for the period $ 50,500
1-9
E1–3 (continued)
Req. 2
This statement of earnings indicates that the University Shop is a profitable company. Although
the net earnings amount does not reflect the amount of cash available at the end of September
2018, the cash transactions indicate that the cash available is sufficiently large to cover the cost
of the cash register.
E1–4
Revenues $812,272 606,764 + 205, 508
Cost of sales 533,529
Depreciation expense 26,903
Interest expense 46,332
Total expenses excluding income taxes 606,764 533,529 + 26,903 + 46,332
Earnings before income tax 205,508 165,749 + 39,759
Income tax expense 39,759
Net earnings for the year $165,749
E1–5
HOME REALTY, INCORPORATED
Statement of Earnings
For the Year Ended December 31, 2017
Revenue:
Commissions earned ($150,000 + $16,000) $166,000
Rental service fees 15,000
Total revenues $181,000
Expenses:
Salaries $ 62,000
Commissions 35,000
Payroll taxes 2,500
Rent ($2,200 + $200) 2,400
Utilities 1,600
Promotion and advertising 8,000
Miscellaneous 500
Total expenses, excluding income taxes 112,000
Earnings before income taxes 69,000
Income tax expense 18,500
Net earnings for the period $ 50,500
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1-10
E1–6
A Net earnings = $91,700 – $76,940 = $14,760;
Shareholders’ Equity = $140,200 – $69,000 = $71,200.
B Total Revenues = $74,240 + $14,740 = $88,980;
Total Liabilities = $107,880 – $79,010 = $28,870.
C Net earnings (Loss) = $69,260 – $76,430 = ($7,170);
Shareholders’ Equity = $97,850 – $69,850 = $28,000.
D Total Expenses = $58,680 – $21,770 = $36,910;
Total Assets = $17,890 + $78,680 = $96,570.
E Net earnings = $84,840 – $78,720 = $6,120;
Total Assets = $25,520 + $79,580 = $105,100.
Company B is a profitable company whereas Company C is not. In addition, Company C’s
liabilities are relatively much higher than those of Company B. Consequently, lending money to
Company C is riskier than lending money to Company B, which appears to have a better
capacity to repay the loan over time.
E1–7
DUCHARME CORPORATION
Summary Statement of Earnings
For the Month of January 2017
Total revenues $299,000
Less: Total expenses (excluding income taxes) 189,000
Earnings before income taxes 110,000
Less: Income tax expense 34,500
Net earnings $ 75,500
DUCHARME CORPORATION
Statement of Financial Position
As at January 31, 2017
Assets
Cash $ 65,150
Receivables from customers 34,500
Merchandise inventory 96,600
Total assets $196,250
Liabilities and Shareholders’ Equity
Liabilities:
Payables to suppliers $ 26,450
Income taxes payable 34,500
Total liabilities 60,950
Shareholders’ equity:
Contributed capital (2,600 shares issued) 59,800
Retained earnings 75,500
Total liabilities and shareholders’ equity $196,250
1-10
E1–6
A Net earnings = $91,700 – $76,940 = $14,760;
Shareholders’ Equity = $140,200 – $69,000 = $71,200.
B Total Revenues = $74,240 + $14,740 = $88,980;
Total Liabilities = $107,880 – $79,010 = $28,870.
C Net earnings (Loss) = $69,260 – $76,430 = ($7,170);
Shareholders’ Equity = $97,850 – $69,850 = $28,000.
D Total Expenses = $58,680 – $21,770 = $36,910;
Total Assets = $17,890 + $78,680 = $96,570.
E Net earnings = $84,840 – $78,720 = $6,120;
Total Assets = $25,520 + $79,580 = $105,100.
Company B is a profitable company whereas Company C is not. In addition, Company C’s
liabilities are relatively much higher than those of Company B. Consequently, lending money to
Company C is riskier than lending money to Company B, which appears to have a better
capacity to repay the loan over time.
E1–7
DUCHARME CORPORATION
Summary Statement of Earnings
For the Month of January 2017
Total revenues $299,000
Less: Total expenses (excluding income taxes) 189,000
Earnings before income taxes 110,000
Less: Income tax expense 34,500
Net earnings $ 75,500
DUCHARME CORPORATION
Statement of Financial Position
As at January 31, 2017
Assets
Cash $ 65,150
Receivables from customers 34,500
Merchandise inventory 96,600
Total assets $196,250
Liabilities and Shareholders’ Equity
Liabilities:
Payables to suppliers $ 26,450
Income taxes payable 34,500
Total liabilities 60,950
Shareholders’ equity:
Contributed capital (2,600 shares issued) 59,800
Retained earnings 75,500
Total liabilities and shareholders’ equity $196,250
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1-11
E1-8
Retained earnings, January 1, 2017 $ –
Net earnings for 2017 31,000
Dividends for 2017 (14,200)
Retained earnings, December 31, 2017 $ 16,800
Retained earnings, January 1, 2018 $ 16,800
Net earnings for 2018 42,000
Dividends for 2018 (18,700)
Retained earnings, December 31, 2018 $ 40,100
E1–9
1. Average amount of monthly revenue, $216,000 12 = $18,000.
2. Amount of monthly rent, $21,000 12 = $1,750.
3. “Supplies, $25,000” is an expense because it represents the cost of supplies used in
performing the services sold.
4. “Interest” is an expense because it represents the cost of borrowing. The company has an
outstanding loan (from another party); $8,000 is the amount of interest (owed, if not
already paid) on that debt for the year 2017. The interest on the loan for the year 2017 is
an expense of the year 2017 (whether or not paid by December 31, 2017).
5. Average income tax rate, $21,000 $60,000 = 35%.
6. For an external decision maker as well as any user of financial statements, revenues
represent amounts expected to be received for goods or services that have been delivered
to customers, whether or not cash has been received for the goods or services. For Pest
Away Corporation, most of the revenues were made for cash and a small percentage of
revenues were made on account.
7. The statement of earnings does not report, or make it possible to determine, the ending
cash balance. Cash is reported on the statement of financial position under assets and on
the statement of cash flows as the final amount reported.
E1–10
(O) (1) Cash paid to suppliers and employees
O (2) Cash received from customers
(F) (3) Dividends paid
F (4) Issuance of share capital
(O) (5) Interest paid
I (6) Proceeds from disposal of investment
(I) (7) Purchases of property, plant, and equipment
(F) (8) Repurchase of share capital
1-11
E1-8
Retained earnings, January 1, 2017 $ –
Net earnings for 2017 31,000
Dividends for 2017 (14,200)
Retained earnings, December 31, 2017 $ 16,800
Retained earnings, January 1, 2018 $ 16,800
Net earnings for 2018 42,000
Dividends for 2018 (18,700)
Retained earnings, December 31, 2018 $ 40,100
E1–9
1. Average amount of monthly revenue, $216,000 12 = $18,000.
2. Amount of monthly rent, $21,000 12 = $1,750.
3. “Supplies, $25,000” is an expense because it represents the cost of supplies used in
performing the services sold.
4. “Interest” is an expense because it represents the cost of borrowing. The company has an
outstanding loan (from another party); $8,000 is the amount of interest (owed, if not
already paid) on that debt for the year 2017. The interest on the loan for the year 2017 is
an expense of the year 2017 (whether or not paid by December 31, 2017).
5. Average income tax rate, $21,000 $60,000 = 35%.
6. For an external decision maker as well as any user of financial statements, revenues
represent amounts expected to be received for goods or services that have been delivered
to customers, whether or not cash has been received for the goods or services. For Pest
Away Corporation, most of the revenues were made for cash and a small percentage of
revenues were made on account.
7. The statement of earnings does not report, or make it possible to determine, the ending
cash balance. Cash is reported on the statement of financial position under assets and on
the statement of cash flows as the final amount reported.
E1–10
(O) (1) Cash paid to suppliers and employees
O (2) Cash received from customers
(F) (3) Dividends paid
F (4) Issuance of share capital
(O) (5) Interest paid
I (6) Proceeds from disposal of investment
(I) (7) Purchases of property, plant, and equipment
(F) (8) Repurchase of share capital
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1-12
E1–11
NITSU MANUFACTURING CORPORATION
Statement of Cash Flows
For the Year Ended December 31, 2017
Cash flow from operating activities
Cash collected from customers $270,000
Cash paid for operating expenses (180,000)
Net cash flow from operating activities $90,000
Cash flow from investing activities
Cash received for sale of land 15,000
Cash paid for purchase of new machines (38,000)
Net cash flow from (used in) investing activities (23,000)
Cash flow from financing activities
Cash received from sale of the company’s shares 30,000
Cash paid on long-term notes (80,000)
Cash paid for dividends (22,000)
Net cash flow from (used in) financing activities (72,000)
Net decrease in cash during the year (5,000)
Cash at beginning of year 63,000
Cash at end of year $ 58,000
1-12
E1–11
NITSU MANUFACTURING CORPORATION
Statement of Cash Flows
For the Year Ended December 31, 2017
Cash flow from operating activities
Cash collected from customers $270,000
Cash paid for operating expenses (180,000)
Net cash flow from operating activities $90,000
Cash flow from investing activities
Cash received for sale of land 15,000
Cash paid for purchase of new machines (38,000)
Net cash flow from (used in) investing activities (23,000)
Cash flow from financing activities
Cash received from sale of the company’s shares 30,000
Cash paid on long-term notes (80,000)
Cash paid for dividends (22,000)
Net cash flow from (used in) financing activities (72,000)
Net decrease in cash during the year (5,000)
Cash at beginning of year 63,000
Cash at end of year $ 58,000
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1-13
PROBLEMS
(Note to the instructor: Most students find the Problems in this chapter to be quite challenging.)
P1–1
Req. 1
NUCLEAR COMPANY
Summary Income Statement
For the Year Ended December 31, 2017
Total sales revenue (given) $140,000
Total expenses, excluding income taxes (given) 89,100
Earnings before income taxes 50,900
Income tax expense ($50,900 x 30%) 15,270
Net earnings $ 35,630
Req. 2
NUCLEAR COMPANY
Statement of Financial Position
As at December 31, 2017
Assets
Cash (given) $ 25,000
Accounts receivable (given) 12,000
Merchandise inventory (given) 90,000
Equipment, net (given) 45,000
Total Assets $172,000
Liabilities and Shareholders’ Equity
Liabilities:
Accounts payable (given) $47,370
Salary payable (given) 2,000
Total Liabilities $ 49,370
Shareholders' equity:
Contributed capital (given) $87,000
Retained earnings* 35,630
Total shareholders' equity 122,630
Total liabilities and shareholders' equity $172,000
* Ending RE = Beginning RE + Net earnings – Dividends
= $ 0 + $35,630 - $ 0 = $35,630.
Because this is the first year of operations the beginning balance of retained earnings is
zero.
1-13
PROBLEMS
(Note to the instructor: Most students find the Problems in this chapter to be quite challenging.)
P1–1
Req. 1
NUCLEAR COMPANY
Summary Income Statement
For the Year Ended December 31, 2017
Total sales revenue (given) $140,000
Total expenses, excluding income taxes (given) 89,100
Earnings before income taxes 50,900
Income tax expense ($50,900 x 30%) 15,270
Net earnings $ 35,630
Req. 2
NUCLEAR COMPANY
Statement of Financial Position
As at December 31, 2017
Assets
Cash (given) $ 25,000
Accounts receivable (given) 12,000
Merchandise inventory (given) 90,000
Equipment, net (given) 45,000
Total Assets $172,000
Liabilities and Shareholders’ Equity
Liabilities:
Accounts payable (given) $47,370
Salary payable (given) 2,000
Total Liabilities $ 49,370
Shareholders' equity:
Contributed capital (given) $87,000
Retained earnings* 35,630
Total shareholders' equity 122,630
Total liabilities and shareholders' equity $172,000
* Ending RE = Beginning RE + Net earnings – Dividends
= $ 0 + $35,630 - $ 0 = $35,630.
Because this is the first year of operations the beginning balance of retained earnings is
zero.
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1-14
P1–1 (continued)
Req. 3
A creditor will know that $12,000 will be received by this company within a few months but
that it must also pay suppliers $47,370, also within a few months. When making a lending
decision a creditor would use this information to determine the likelihood that the company
could repay a loan.
P1–2
Req. 1
WILLIAM’S PLUMBING SERVICES INC.
Statement of Earnings
For the Six Months Ended December 31, 2017
Service revenues ($64,000 + $6,000) $70,000
Expenses:
Wages for plumber’s assistant $17,000
Payroll taxes 750
Oil, gas, and maintenance - truck 2,400
Rent ($2,500 + $500) 3,000
Supplies used 17,100
Utilities and telephone 1,850
Insurance 700
Miscellaneous expenses 900
Depreciation of truck and tools 2,400
Total expenses, excluding income taxes 46,100
Earnings before income taxes 23,900
Income tax expense ($23,900 x 30%) 7,170
Net earnings $ 16,730
1-14
P1–1 (continued)
Req. 3
A creditor will know that $12,000 will be received by this company within a few months but
that it must also pay suppliers $47,370, also within a few months. When making a lending
decision a creditor would use this information to determine the likelihood that the company
could repay a loan.
P1–2
Req. 1
WILLIAM’S PLUMBING SERVICES INC.
Statement of Earnings
For the Six Months Ended December 31, 2017
Service revenues ($64,000 + $6,000) $70,000
Expenses:
Wages for plumber’s assistant $17,000
Payroll taxes 750
Oil, gas, and maintenance - truck 2,400
Rent ($2,500 + $500) 3,000
Supplies used 17,100
Utilities and telephone 1,850
Insurance 700
Miscellaneous expenses 900
Depreciation of truck and tools 2,400
Total expenses, excluding income taxes 46,100
Earnings before income taxes 23,900
Income tax expense ($23,900 x 30%) 7,170
Net earnings $ 16,730
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-15
P1–2 (continued)
Req. 2
WILLIAM’S PLUMBING SERVICES INC.
Statement of Financial Position
As at December 31, 2017
Assets
Cash1 $23,800
Accounts receivable 6,000
Equipment ($18,000 + $3,000) $21,000
Less: Depreciation (2,400) 18,600
Total Assets $48,400
Liabilities
Accounts payable $ 500
Income tax payable 7,170
Total liabilities 7,670
Shareholders’ Equity
Contributed capital (initial investment) $24,000
Retained earnings 16,730 40,730
Total Liabilities and Shareholders’ Equity $48,400
1 Cash = $24,000 – 18,000 – 3,000 + 64,000 – (46,100 – 500 – 2,400) = $23,800
Req. 3
Because the above report reflects only revenues, expenses, and net earnings, it is reasonable to
assume that William would have need for a statement of the sources and uses of cash during
the period; that is, a statement of cash flows. This will show William whether cash increased of
decreased during a given period, and the main reasons for the change.
Req. 4
The statement of earnings indicates to William that his business is profitable, and he can
possibly increase his net earnings if he wishes to expand his business. The statement of
financial position suggests that his financial situation is quite strong and the information therein
can be used to determine how much money he could borrow, if any.
1-15
P1–2 (continued)
Req. 2
WILLIAM’S PLUMBING SERVICES INC.
Statement of Financial Position
As at December 31, 2017
Assets
Cash1 $23,800
Accounts receivable 6,000
Equipment ($18,000 + $3,000) $21,000
Less: Depreciation (2,400) 18,600
Total Assets $48,400
Liabilities
Accounts payable $ 500
Income tax payable 7,170
Total liabilities 7,670
Shareholders’ Equity
Contributed capital (initial investment) $24,000
Retained earnings 16,730 40,730
Total Liabilities and Shareholders’ Equity $48,400
1 Cash = $24,000 – 18,000 – 3,000 + 64,000 – (46,100 – 500 – 2,400) = $23,800
Req. 3
Because the above report reflects only revenues, expenses, and net earnings, it is reasonable to
assume that William would have need for a statement of the sources and uses of cash during
the period; that is, a statement of cash flows. This will show William whether cash increased of
decreased during a given period, and the main reasons for the change.
Req. 4
The statement of earnings indicates to William that his business is profitable, and he can
possibly increase his net earnings if he wishes to expand his business. The statement of
financial position suggests that his financial situation is quite strong and the information therein
can be used to determine how much money he could borrow, if any.
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1-16
P1–3
Req. 1 Req. 2–Explanation
Transaction Net earnings Cash
(a) $+85,000 $+70,000 All services performed increase net earnings;
cash received during the period was $85,000 –
$15,000.
(b) –0– +25,000 Cash borrowed is not earnings.
(c) –0– –8,000 Purchase of the truck does not represent
an expense because the truck is an asset.
(d) –36,000 –30,000 All of the wages incurred reduce net earnings,
$36,000; cash paid during the quarter was
$36,000 x 5/6 = $30,000.
(e) –3,000 –4,000 Not all of the supplies were used; expense is
the amount used, $4,000 – $1,000 = $3,000.
(f) –31,000 –15,500 All expenses incurred reduce net earnings; cash
paid was $31,000 x ½ = $15,500.
Based only
on the above:
- Net earnings $15,000
- Cash inflow $37,500
P1–4
Req. 1
The personal residences of the organizers are not resources of the business entity. Therefore,
they should be excluded.
Req. 2
It is not indicated whether the $7,000 listed for service supplies and the $68,000 listed for
service trucks and equipment reflect their cost when acquired or the current market value on
December 31, 2016. Furthermore, the amount listed for bills from customers may not
represent the potentially collectable amount.
1-16
P1–3
Req. 1 Req. 2–Explanation
Transaction Net earnings Cash
(a) $+85,000 $+70,000 All services performed increase net earnings;
cash received during the period was $85,000 –
$15,000.
(b) –0– +25,000 Cash borrowed is not earnings.
(c) –0– –8,000 Purchase of the truck does not represent
an expense because the truck is an asset.
(d) –36,000 –30,000 All of the wages incurred reduce net earnings,
$36,000; cash paid during the quarter was
$36,000 x 5/6 = $30,000.
(e) –3,000 –4,000 Not all of the supplies were used; expense is
the amount used, $4,000 – $1,000 = $3,000.
(f) –31,000 –15,500 All expenses incurred reduce net earnings; cash
paid was $31,000 x ½ = $15,500.
Based only
on the above:
- Net earnings $15,000
- Cash inflow $37,500
P1–4
Req. 1
The personal residences of the organizers are not resources of the business entity. Therefore,
they should be excluded.
Req. 2
It is not indicated whether the $7,000 listed for service supplies and the $68,000 listed for
service trucks and equipment reflect their cost when acquired or the current market value on
December 31, 2016. Furthermore, the amount listed for bills from customers may not
represent the potentially collectable amount.
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1-17
P1–4 (continued)
Req. 3
The list of company resources (i.e., assets) suggests the following areas of concern:
Company resources:
(1) Service trucks and equipment – as noted above, it is not indicated whether the $68,000 for
service trucks and the $30,000 for service equipment are cost when acquired or current
market value on December 31, 2016.
(2) Personal residences – as noted above, these items are not resources of the business entity
and should be excluded. Usually they would not be subject to creditors' claims against the
corporation. Also, there is no indication whether the $190,000 is cost at acquisition or
current market value at December 31, 2016. Also, there is no indication as to any amounts
that might be owed on the residences.
Company obligations:
(1) Unpaid wages of $19,000, which are now due, pose a serious problem because only
$12,000 cash currently is available.
(2) Unpaid taxes and accounts payable to suppliers – it is not clear when these payments of
$8,000 and $10,000, respectively, are due (cash needed to pay them is a problem).
(3) The $50,000 owed on the service trucks probably is long term; however, short-term
installments may be required – these details are very important to the bank.
(4) Loan from organizer – the expected payment date and interest rate are important issues
for which details are not provided. This is a major cash demand.
In general, the bank should request more details about the specific resources and debts.
The personal residences are not a part of the resources of the business entity. The bank
should request that the owners provide audited information about the entity's assets and
debts.
Req. 4
The amount of shareholders’ equity (i.e., assets minus liabilities) for West Company, assuming
the amounts provided by the owners are acceptable, would be:
Assets ($322,000 – $190,000) $132,000
Liabilities 102,000
Shareholders’ equity $ 30,000
1-17
P1–4 (continued)
Req. 3
The list of company resources (i.e., assets) suggests the following areas of concern:
Company resources:
(1) Service trucks and equipment – as noted above, it is not indicated whether the $68,000 for
service trucks and the $30,000 for service equipment are cost when acquired or current
market value on December 31, 2016.
(2) Personal residences – as noted above, these items are not resources of the business entity
and should be excluded. Usually they would not be subject to creditors' claims against the
corporation. Also, there is no indication whether the $190,000 is cost at acquisition or
current market value at December 31, 2016. Also, there is no indication as to any amounts
that might be owed on the residences.
Company obligations:
(1) Unpaid wages of $19,000, which are now due, pose a serious problem because only
$12,000 cash currently is available.
(2) Unpaid taxes and accounts payable to suppliers – it is not clear when these payments of
$8,000 and $10,000, respectively, are due (cash needed to pay them is a problem).
(3) The $50,000 owed on the service trucks probably is long term; however, short-term
installments may be required – these details are very important to the bank.
(4) Loan from organizer – the expected payment date and interest rate are important issues
for which details are not provided. This is a major cash demand.
In general, the bank should request more details about the specific resources and debts.
The personal residences are not a part of the resources of the business entity. The bank
should request that the owners provide audited information about the entity's assets and
debts.
Req. 4
The amount of shareholders’ equity (i.e., assets minus liabilities) for West Company, assuming
the amounts provided by the owners are acceptable, would be:
Assets ($322,000 – $190,000) $132,000
Liabilities 102,000
Shareholders’ equity $ 30,000
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1-18
P1-5
Req. 1
Cash Received Balances Immediately After Sale
Case for Assets Assets – Liabilities = Shareholders’ Equity
A $90,000 $90,000 $50,000 $40,000
B 80,000 80,000 50,000 30,000 (note 1)
C 100,000 100,000 50,000 50,000 (note 2)
D 35,000 35,000 50,000 –15,000 (note 3)
Note 1: Includes $10,000 loss on sale of assets, i.e., $80,000 minus $90,000.
Note 2: Includes $10,000 gain on sale of assets, i.e., $100,000 minus $90,000.
Note 3: Includes $55,000 loss on sale of assets, i.e., $35,000 minus $90,000, which results in a
negative shareholders’ equity of –$15,000.
Req. 2
Case To Creditors To Shareholders Total
A $50,000 $40,000 $90,000
B 50,000 30,000 80,000
C 50,000 50,000 100,000
D 35,000 -0- 35,000
Explanation: Legally, creditors' claims have a priority over shareholders’ claims. Therefore,
cash necessary to satisfy all creditors' claims would be disbursed first. Any remaining cash
would be distributed to the owners in proportion to their ownership interests. In case D,
creditors do not get all of the money owed to them and shareholders do not get any cash,
because the total amount of cash is not sufficient to pay the creditors the total amount due to
them.
1-18
P1-5
Req. 1
Cash Received Balances Immediately After Sale
Case for Assets Assets – Liabilities = Shareholders’ Equity
A $90,000 $90,000 $50,000 $40,000
B 80,000 80,000 50,000 30,000 (note 1)
C 100,000 100,000 50,000 50,000 (note 2)
D 35,000 35,000 50,000 –15,000 (note 3)
Note 1: Includes $10,000 loss on sale of assets, i.e., $80,000 minus $90,000.
Note 2: Includes $10,000 gain on sale of assets, i.e., $100,000 minus $90,000.
Note 3: Includes $55,000 loss on sale of assets, i.e., $35,000 minus $90,000, which results in a
negative shareholders’ equity of –$15,000.
Req. 2
Case To Creditors To Shareholders Total
A $50,000 $40,000 $90,000
B 50,000 30,000 80,000
C 50,000 50,000 100,000
D 35,000 -0- 35,000
Explanation: Legally, creditors' claims have a priority over shareholders’ claims. Therefore,
cash necessary to satisfy all creditors' claims would be disbursed first. Any remaining cash
would be distributed to the owners in proportion to their ownership interests. In case D,
creditors do not get all of the money owed to them and shareholders do not get any cash,
because the total amount of cash is not sufficient to pay the creditors the total amount due to
them.
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-19
ALTERNATE PROBLEMS
AP1–1
Req. 1
MCCLAREN CORPORATION
Summary Statement of Earnings
For the Fiscal Year Ended June 30, 2018
Total sales revenue (given) $90,000
Total expenses, excluding income taxes (given) 60,500
Earnings before income taxes 29,500
Income tax expense ($29,500 x 30%) 8,850
Net earnings $20,650
Req. 2
MCCLAREN CORPORATION
Statement of Financial Position
As at June 30, 2018
Assets
Cash (given) $ 13,150
Trade receivables (given) 9,500
Merchandise inventory (given) 57,000
Equipment, net (given) 36,000
Total Assets $115,650
Liabilities and Shareholders’ Equity
Liabilities:
Trade payables (given) $31,500
Salary payable (given) 1,500
Total Liabilities $ 33,000
Shareholders' equity:
Contributed capital $62,000
Retained earnings* 20,650
Total shareholders' equity 82,650
Total liabilities and shareholders' equity $115,650
* Ending RE = Beginning RE + Net earnings – Dividends
= $ 0 + $20,650 – $ 0 = $20,650.
Because this is the first year of operations the beginning balance of retained earnings is zero.
Req. 3
A creditor will know that $9,500 will be received by this company within a few months but that
it must also pay suppliers $31,500, also within a few months. When making a lending decision a
creditor would use this information to determine the likelihood that the company could repay a
loan.
1-19
ALTERNATE PROBLEMS
AP1–1
Req. 1
MCCLAREN CORPORATION
Summary Statement of Earnings
For the Fiscal Year Ended June 30, 2018
Total sales revenue (given) $90,000
Total expenses, excluding income taxes (given) 60,500
Earnings before income taxes 29,500
Income tax expense ($29,500 x 30%) 8,850
Net earnings $20,650
Req. 2
MCCLAREN CORPORATION
Statement of Financial Position
As at June 30, 2018
Assets
Cash (given) $ 13,150
Trade receivables (given) 9,500
Merchandise inventory (given) 57,000
Equipment, net (given) 36,000
Total Assets $115,650
Liabilities and Shareholders’ Equity
Liabilities:
Trade payables (given) $31,500
Salary payable (given) 1,500
Total Liabilities $ 33,000
Shareholders' equity:
Contributed capital $62,000
Retained earnings* 20,650
Total shareholders' equity 82,650
Total liabilities and shareholders' equity $115,650
* Ending RE = Beginning RE + Net earnings – Dividends
= $ 0 + $20,650 – $ 0 = $20,650.
Because this is the first year of operations the beginning balance of retained earnings is zero.
Req. 3
A creditor will know that $9,500 will be received by this company within a few months but that
it must also pay suppliers $31,500, also within a few months. When making a lending decision a
creditor would use this information to determine the likelihood that the company could repay a
loan.
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1-20
AP1–2
Req. 1
BRUNO'S LAWN SERVICE
Statement of Earnings
For the Three Months Ended August 31, 2017
Service revenue ($25,200 + $1,250) $26,450
Expenses:
Gas, oil, and lubrication ($1,840 + $200) $2,040
Repair of mowers 150
Wages for helpers 9,500
Payroll taxes 400
Pickup truck repairs 410
Preparation of payroll tax forms 50
Insurance 240
Telephone 210
Miscellaneous supplies used 160
Interest expense on note paid 150
Depreciation, equipment 1,000
Total expenses 14,310
Net earnings $12,140
Req. 2
BRUNO'S LAWN SERVICE
Statement of Financial Position
As at August 31, 2017
Assets
Cash1 $ 7,290
Accounts receivable 1,250
Equipment 4,800
Less: Depreciation (1,000) 3,800
Total Assets $12,340
Liabilities and Owner’s Equity
Accounts payable $ 200
Bruno Clarke, capital 12,140
Total Liabilities and Owner’s Equity $12,340
1Cash = $25,200 + 5,000 – 3,000 – 1,800 – (1,840 + 150 + 9,500 + 400 + 410 + 50 + 240
+ 210 + 160 + 150) – 5,000 = $7,290
1-20
AP1–2
Req. 1
BRUNO'S LAWN SERVICE
Statement of Earnings
For the Three Months Ended August 31, 2017
Service revenue ($25,200 + $1,250) $26,450
Expenses:
Gas, oil, and lubrication ($1,840 + $200) $2,040
Repair of mowers 150
Wages for helpers 9,500
Payroll taxes 400
Pickup truck repairs 410
Preparation of payroll tax forms 50
Insurance 240
Telephone 210
Miscellaneous supplies used 160
Interest expense on note paid 150
Depreciation, equipment 1,000
Total expenses 14,310
Net earnings $12,140
Req. 2
BRUNO'S LAWN SERVICE
Statement of Financial Position
As at August 31, 2017
Assets
Cash1 $ 7,290
Accounts receivable 1,250
Equipment 4,800
Less: Depreciation (1,000) 3,800
Total Assets $12,340
Liabilities and Owner’s Equity
Accounts payable $ 200
Bruno Clarke, capital 12,140
Total Liabilities and Owner’s Equity $12,340
1Cash = $25,200 + 5,000 – 3,000 – 1,800 – (1,840 + 150 + 9,500 + 400 + 410 + 50 + 240
+ 210 + 160 + 150) – 5,000 = $7,290
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1-21
AP1–2 (continued)
Req. 3
Because the above report reflects only revenues, expenses, and net earnings, it is reasonable to
assume that Bruno would need a statement of cash flows – that is, a statement of the inflows
and outflows of cash during the period in three categories: operations, investing, and financing.
This will explain to Bruno the reason for the increase in cash during the period and the
differences between cash from operations and net earnings.
Because it is the first period of operations and the owner did not make any withdrawals, a
statement of changes in equity is not necessary.
Req. 4
The statement of earnings indicates to Bruno that his business is profitable, and he can possibly
increase his net earnings if he wishes to expand his business. The statement of financial
position suggests that his financial situation is quite strong and the information therein can be
used to determine how much money he could borrow, if any.
AP1–3
Req. 1 Req. 2–Explanation
Transaction Net earnings Cash
(a) $+66,000 $+55,000 All services performed increase net earnings;
cash received during the period was,
$66,000 x 5/6 = $55,000.
(b) –0– +45,000 Cash borrowed is not profit.
(c) –0– –1,900 Purchase of the truck does not represent
an expense because the truck is an asset;
cash outflow was $9,500 x 20% = $1,900.
(d) –21,000 –10,500 All of the wages incurred reduce net earnings,
$21,000; cash paid during the quarter was
$21,000 x 1/2 = $10,500.
(e) –3,040 –3,800 Not all of the supplies were used; expense is
the amount used, $3,800 x 4/5 = $3,040.
(f) –36,000 –30,000 All expenses incurred reduce net earnings; cash
paid was $36,000 x 5/6 = $30,000.
Based only
on the above:
- Net earnings $5,960
- Cash inflow $ 53,800
1-21
AP1–2 (continued)
Req. 3
Because the above report reflects only revenues, expenses, and net earnings, it is reasonable to
assume that Bruno would need a statement of cash flows – that is, a statement of the inflows
and outflows of cash during the period in three categories: operations, investing, and financing.
This will explain to Bruno the reason for the increase in cash during the period and the
differences between cash from operations and net earnings.
Because it is the first period of operations and the owner did not make any withdrawals, a
statement of changes in equity is not necessary.
Req. 4
The statement of earnings indicates to Bruno that his business is profitable, and he can possibly
increase his net earnings if he wishes to expand his business. The statement of financial
position suggests that his financial situation is quite strong and the information therein can be
used to determine how much money he could borrow, if any.
AP1–3
Req. 1 Req. 2–Explanation
Transaction Net earnings Cash
(a) $+66,000 $+55,000 All services performed increase net earnings;
cash received during the period was,
$66,000 x 5/6 = $55,000.
(b) –0– +45,000 Cash borrowed is not profit.
(c) –0– –1,900 Purchase of the truck does not represent
an expense because the truck is an asset;
cash outflow was $9,500 x 20% = $1,900.
(d) –21,000 –10,500 All of the wages incurred reduce net earnings,
$21,000; cash paid during the quarter was
$21,000 x 1/2 = $10,500.
(e) –3,040 –3,800 Not all of the supplies were used; expense is
the amount used, $3,800 x 4/5 = $3,040.
(f) –36,000 –30,000 All expenses incurred reduce net earnings; cash
paid was $36,000 x 5/6 = $30,000.
Based only
on the above:
- Net earnings $5,960
- Cash inflow $ 53,800
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1-22
CASES AND PROJECTS
FINDING AND INTERPRETING ACCOUNTING INFORMATION
CP1–1
Req. 1
The fiscal year ends on the Saturday closest to December 31.
Req. 2
a. Statements of Financial Position – 2 years
b. Statements of Earnings – 2 years
c. Statements of Cash Flows – 2 years
Req. 3
Yes. The financial statements are audited by the firm Deloitte LLP (from the auditors’ report).
Req. 4
The company’s total assets increased by $434.6 from $14,553.2 to $14,987.8 (amounts in
millions)
Req. 5
The balance of merchandise inventories was $1,764,5 million at January 2, 2016.
Req. 6
Assets = Liabilities + Shareholders’ Equity
$14,987.8 = $9,198.1 + $5,789.7 (in millions)
1-22
CASES AND PROJECTS
FINDING AND INTERPRETING ACCOUNTING INFORMATION
CP1–1
Req. 1
The fiscal year ends on the Saturday closest to December 31.
Req. 2
a. Statements of Financial Position – 2 years
b. Statements of Earnings – 2 years
c. Statements of Cash Flows – 2 years
Req. 3
Yes. The financial statements are audited by the firm Deloitte LLP (from the auditors’ report).
Req. 4
The company’s total assets increased by $434.6 from $14,553.2 to $14,987.8 (amounts in
millions)
Req. 5
The balance of merchandise inventories was $1,764,5 million at January 2, 2016.
Req. 6
Assets = Liabilities + Shareholders’ Equity
$14,987.8 = $9,198.1 + $5,789.7 (in millions)
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1-23
CP1–2
Req. 1
Sears Canada reported a net loss of 67.9 million for the year ended January 30, 2016, as
disclosed in the consolidated statements of net loss and comprehensive loss.
Req. 2
Revenue earned in the fiscal year ended January 30, 2016was $3,145.7 million. This is also
disclosed on the same statements noted above.
Req. 3
Inventory as at January 30, 2016, amounted to $664.8 million. This information is disclosed on
the consolidated statements of financial position.
Req. 4
Cash increased by $54.9 million during the fiscal year. This amount can be found at the bottom
of the consolidated statements of cash flows as well as the consolidated statements of financial
position by computing the difference in the cash amounts at the end of the current and
previous years.
Req. 5
The auditor is Deloitte LLP. This information is found in the auditors’ report in the 2015 annual
report.
CP1–3
Req.1
Total assets for Canadian Tire Corporation was higher at $14,987.8 million compared to
$1,633.2 million for Sears Canada Inc.
Req. 2
Canadian Tire Corporation also had higher sales at $12,279.6 million compared to $3,145.7
million for Sears Canada Inc.
Req. 3
Sears Canada had a decrease of $140.9 million in total assets while Canadian Tire had an
increase in assets during the same period. Sears Canada’s decrease in assets was 7.94%
[($1,633.2 – $1,774.1) ÷ $1,774.1] compared to an increase of 2.99% for Canadian Tire
[($14,987.8 – $14,553.2) ÷ $14,553.2].
Canadian Tire had a smaller percentage decrease in net sales at 1.47% [($12,279.6 – $12,462.9)
÷ $12,462.9] compared to Sears Canada’s rate of 8.14% [($3,145.7 – $3,424.5) ÷ $3,424.5].
1-23
CP1–2
Req. 1
Sears Canada reported a net loss of 67.9 million for the year ended January 30, 2016, as
disclosed in the consolidated statements of net loss and comprehensive loss.
Req. 2
Revenue earned in the fiscal year ended January 30, 2016was $3,145.7 million. This is also
disclosed on the same statements noted above.
Req. 3
Inventory as at January 30, 2016, amounted to $664.8 million. This information is disclosed on
the consolidated statements of financial position.
Req. 4
Cash increased by $54.9 million during the fiscal year. This amount can be found at the bottom
of the consolidated statements of cash flows as well as the consolidated statements of financial
position by computing the difference in the cash amounts at the end of the current and
previous years.
Req. 5
The auditor is Deloitte LLP. This information is found in the auditors’ report in the 2015 annual
report.
CP1–3
Req.1
Total assets for Canadian Tire Corporation was higher at $14,987.8 million compared to
$1,633.2 million for Sears Canada Inc.
Req. 2
Canadian Tire Corporation also had higher sales at $12,279.6 million compared to $3,145.7
million for Sears Canada Inc.
Req. 3
Sears Canada had a decrease of $140.9 million in total assets while Canadian Tire had an
increase in assets during the same period. Sears Canada’s decrease in assets was 7.94%
[($1,633.2 – $1,774.1) ÷ $1,774.1] compared to an increase of 2.99% for Canadian Tire
[($14,987.8 – $14,553.2) ÷ $14,553.2].
Canadian Tire had a smaller percentage decrease in net sales at 1.47% [($12,279.6 – $12,462.9)
÷ $12,462.9] compared to Sears Canada’s rate of 8.14% [($3,145.7 – $3,424.5) ÷ $3,424.5].
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1-24
FINANCIAL REPORTING AND ANALYSIS CASES
CP1–4
Req. 1 – Deficiencies include:
(1) Heading: titles of the reports are missing and dates are not in proper form.
(2) Statement of earnings should show revenues and expenses separately.
(3) Statement of financial position should separately report assets, liabilities, and
shareholders’ equity.
(4) Retained earnings, $30,000, should be reported under shareholders’ equity.
(5) Due from customers, $13,000, should be reported under assets, i.e., Trade receivables.
(6) Supplies on hand, $15,000, should be reported under assets.
(7) Accumulated depreciation, $10,000, should be subtracted from service vehicles.
Req. 2 – Financial Statements
PERFORMANCE CORPORATION
Statement of Earnings
For the Year Ended December 31, 2017
Sales revenue ($175,000 + $52,000) $227,000
Expenses:
Cost of sales $ 90,000
Selling expenses 25,000
Depreciation expense 10,000
Salaries and wages 62,000
Total expenses, excluding income taxes 187,000
Earnings before income taxes 40,000
Income tax expense (25% x $40,000) 10,000
Net earnings $30,000
1-24
FINANCIAL REPORTING AND ANALYSIS CASES
CP1–4
Req. 1 – Deficiencies include:
(1) Heading: titles of the reports are missing and dates are not in proper form.
(2) Statement of earnings should show revenues and expenses separately.
(3) Statement of financial position should separately report assets, liabilities, and
shareholders’ equity.
(4) Retained earnings, $30,000, should be reported under shareholders’ equity.
(5) Due from customers, $13,000, should be reported under assets, i.e., Trade receivables.
(6) Supplies on hand, $15,000, should be reported under assets.
(7) Accumulated depreciation, $10,000, should be subtracted from service vehicles.
Req. 2 – Financial Statements
PERFORMANCE CORPORATION
Statement of Earnings
For the Year Ended December 31, 2017
Sales revenue ($175,000 + $52,000) $227,000
Expenses:
Cost of sales $ 90,000
Selling expenses 25,000
Depreciation expense 10,000
Salaries and wages 62,000
Total expenses, excluding income taxes 187,000
Earnings before income taxes 40,000
Income tax expense (25% x $40,000) 10,000
Net earnings $30,000
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1-25
CP1–4 (continued)
Req. 2 – Financial Statements
PERFORMANCE CORPORATION
Statement of Financial Position
As at December 31, 2017
Assets
Cash $ 32,000
Trade receivables 13,000
Supplies inventory 15,000
Merchandise inventory 42,000
Service vehicles $ 50,000
Less: Accumulated depreciation (10,000) 40,000
Total assets $ 142,000
Liabilities and Shareholders’ Equity
Liabilities
Trade payables $ 22,000
Note payable 25,000
Total liabilities 47,000
Shareholders' equity
Contributed capital (6,500 shares issued) $65,000
Retained earnings 30,000
Total shareholders' equity 95,000
Total liabilities and shareholders' equity $142,000
1-25
CP1–4 (continued)
Req. 2 – Financial Statements
PERFORMANCE CORPORATION
Statement of Financial Position
As at December 31, 2017
Assets
Cash $ 32,000
Trade receivables 13,000
Supplies inventory 15,000
Merchandise inventory 42,000
Service vehicles $ 50,000
Less: Accumulated depreciation (10,000) 40,000
Total assets $ 142,000
Liabilities and Shareholders’ Equity
Liabilities
Trade payables $ 22,000
Note payable 25,000
Total liabilities 47,000
Shareholders' equity
Contributed capital (6,500 shares issued) $65,000
Retained earnings 30,000
Total shareholders' equity 95,000
Total liabilities and shareholders' equity $142,000
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1-26
CRITICAL THINKING CASES
CP1–5
Req. 1
The personal items owned by Lucas should not be included in the financial statements of the
company. The company is a separate entity for accounting purposes.
The list of liabilities properly excluded the personal debts of Lucas because these are not debts
of the company.
Req. 2
Lucas’s response does not explain or excuse the presentation in the financial report. It appears
that deception is involved because of the listing of personal assets and the exclusion of the
related liabilities. Such reporting is misleading and dishonest.
The financial report is not correct even if it were clearly stated that the accounting entity
represents the company and owner combined as one entity. If this assumption were used,
which would be appropriate only if clearly specified, it would require that all of the assets and
all of the liabilities of both the company and Lucas be included. Preferably the business should
be reported as a separate entity. The personal assets and liabilities should be reported as
another separate entity.
CP1–6
Req. 1
You should forcefully assert the need for an independent audit of the financial statements each
year because this is the best way to assure credibility – conformance with IFRS, completeness
and absence of bias.
You should firmly reject Roger as the auditor because there is no evidence about his
competence as an accountant or auditor. Also, he is related to the partner who prepares the
financial statements; there is a conflict of interest.
Req. 2
You should strongly recommend the selection of an independent, licensed professional
accountant in public practice because the financial statements should be audited by a
competent and independent professional who must follow prescribed accounting and auditing
standards on a strictly independent basis. An audit by Roger would not meet any of these
requisites, particularly the most important one in this case – independence (and absence of
bias).
1-26
CRITICAL THINKING CASES
CP1–5
Req. 1
The personal items owned by Lucas should not be included in the financial statements of the
company. The company is a separate entity for accounting purposes.
The list of liabilities properly excluded the personal debts of Lucas because these are not debts
of the company.
Req. 2
Lucas’s response does not explain or excuse the presentation in the financial report. It appears
that deception is involved because of the listing of personal assets and the exclusion of the
related liabilities. Such reporting is misleading and dishonest.
The financial report is not correct even if it were clearly stated that the accounting entity
represents the company and owner combined as one entity. If this assumption were used,
which would be appropriate only if clearly specified, it would require that all of the assets and
all of the liabilities of both the company and Lucas be included. Preferably the business should
be reported as a separate entity. The personal assets and liabilities should be reported as
another separate entity.
CP1–6
Req. 1
You should forcefully assert the need for an independent audit of the financial statements each
year because this is the best way to assure credibility – conformance with IFRS, completeness
and absence of bias.
You should firmly reject Roger as the auditor because there is no evidence about his
competence as an accountant or auditor. Also, he is related to the partner who prepares the
financial statements; there is a conflict of interest.
Req. 2
You should strongly recommend the selection of an independent, licensed professional
accountant in public practice because the financial statements should be audited by a
competent and independent professional who must follow prescribed accounting and auditing
standards on a strictly independent basis. An audit by Roger would not meet any of these
requisites, particularly the most important one in this case – independence (and absence of
bias).
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-27
CP1–7
The textbook does not explicitly cover the elements of independence. The case is designed to
permit the students to develop their own values. We have found that it is useful to emphasize
the difference between independence in fact and in appearance during these discussions.
Req. 1
Most students feel that there is no problem with independence if the shares held are
immaterial in amount. When asked about a possible headline that might read “Auditor who was
shareholder is accused of fraud,” most students see a problem with the appearance. In fact,
professional accounting organizations do not apply a materiality threshold where there is a
direct financial interest. Any holding of shares is a problem.
Req. 2
This is an example of an indirect holding of shares. A materiality threshold is applied in these
situations. There could be a question of independence if the auditor held a material interest in
the mutual fund (relative to her net worth) and the mutual fund held a material interest in the
company that she audited.
Req. 3
Codes of Professional Conduct apply only to audit professionals who are members. Bob's
employers may want to assign him to a different company but there is no conflict in this case.
Req. 4
Clearly there is an ethics violation in this case because she would audit statements that covered
a period of time where she was responsible for the accounting operations of the company. This
is a problem both in appearance and in fact.
Req. 5
The loan from the bank was made under normal lending procedures, terms, and requirements.
Therefore, it may not be a source of impairment of independence. However, one has to be
careful whether the loan has the appearance of being made under normal credit terms or not.
FINANCIAL REPORTING AND ANALYSIS TEAM PROJECT
CP1–8
The solution to this case will depend on the company and/or accounting period selected for
analysis.
1-27
CP1–7
The textbook does not explicitly cover the elements of independence. The case is designed to
permit the students to develop their own values. We have found that it is useful to emphasize
the difference between independence in fact and in appearance during these discussions.
Req. 1
Most students feel that there is no problem with independence if the shares held are
immaterial in amount. When asked about a possible headline that might read “Auditor who was
shareholder is accused of fraud,” most students see a problem with the appearance. In fact,
professional accounting organizations do not apply a materiality threshold where there is a
direct financial interest. Any holding of shares is a problem.
Req. 2
This is an example of an indirect holding of shares. A materiality threshold is applied in these
situations. There could be a question of independence if the auditor held a material interest in
the mutual fund (relative to her net worth) and the mutual fund held a material interest in the
company that she audited.
Req. 3
Codes of Professional Conduct apply only to audit professionals who are members. Bob's
employers may want to assign him to a different company but there is no conflict in this case.
Req. 4
Clearly there is an ethics violation in this case because she would audit statements that covered
a period of time where she was responsible for the accounting operations of the company. This
is a problem both in appearance and in fact.
Req. 5
The loan from the bank was made under normal lending procedures, terms, and requirements.
Therefore, it may not be a source of impairment of independence. However, one has to be
careful whether the loan has the appearance of being made under normal credit terms or not.
FINANCIAL REPORTING AND ANALYSIS TEAM PROJECT
CP1–8
The solution to this case will depend on the company and/or accounting period selected for
analysis.
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1-28
CONTINUING CASE
CC1–1
Req. 1
Penny’s Pool Service & Supply Inc.
Statement of Earnings
For the Year Ended December 31, 2016
Revenues
Sales revenue $60,000
Expenses
Cost of supplies used 8,200
Wage expense 24,000
Other administrative
expense 4,500
Total expenses 36,700
Earnings before income taxes 23,300
Income tax expense 4,000
Net earnings $19,300
Req. 2
Penny’s Pool Service & Supply Inc.
Statement of Shareholders' Equity
For the Year Ended December 31, 2016
Contributed
Capital
Retained
Earnings
Balance, December 31, 2015 $ 0 $ 0
Issuance of shares 40,000
Net earnings for 2016 19,300
Dividends for 2016 (10,000)
Balance, December 31, 2016 $40,000 $ 9,300
1-28
CONTINUING CASE
CC1–1
Req. 1
Penny’s Pool Service & Supply Inc.
Statement of Earnings
For the Year Ended December 31, 2016
Revenues
Sales revenue $60,000
Expenses
Cost of supplies used 8,200
Wage expense 24,000
Other administrative
expense 4,500
Total expenses 36,700
Earnings before income taxes 23,300
Income tax expense 4,000
Net earnings $19,300
Req. 2
Penny’s Pool Service & Supply Inc.
Statement of Shareholders' Equity
For the Year Ended December 31, 2016
Contributed
Capital
Retained
Earnings
Balance, December 31, 2015 $ 0 $ 0
Issuance of shares 40,000
Net earnings for 2016 19,300
Dividends for 2016 (10,000)
Balance, December 31, 2016 $40,000 $ 9,300
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
1-29
CC1-1 (continued)
Req. 3
Penny’s Pool Service & Supply, Inc.
Statement of Financial Position
At December 31, 2016
Assets:
Cash $ 2,900
Accounts receivable 2,300
Inventories 4,600
Equipment 48,000
Total assets $57,800
Liabilities and Shareholders' Equity:
Liabilities
Accounts payable $ 3,500
Notes payable to banks 5,000
Total liabilities 8,500
Shareholders' equity
Contributed capital 40,000
Retained earnings 9,300
Total shareholders' equity 49,300
Total liabilities and shareholders' equity $57,800
1-29
CC1-1 (continued)
Req. 3
Penny’s Pool Service & Supply, Inc.
Statement of Financial Position
At December 31, 2016
Assets:
Cash $ 2,900
Accounts receivable 2,300
Inventories 4,600
Equipment 48,000
Total assets $57,800
Liabilities and Shareholders' Equity:
Liabilities
Accounts payable $ 3,500
Notes payable to banks 5,000
Total liabilities 8,500
Shareholders' equity
Contributed capital 40,000
Retained earnings 9,300
Total shareholders' equity 49,300
Total liabilities and shareholders' equity $57,800
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Financial Accounting, 6ce, Libby, Libby, Short, Kanaan, Sterling
2-1
Chapter 2
Investing and Financing Decisions and the Statement
of Financial Position
Revised: January 20, 2017
ANSWERS TO QUESTIONS
1. The primary objective of financial reporting for external users is to provide useful
financial information about a business to help external parties, primarily investors and
creditors, make sound financial decisions. These users are expected to have a
reasonable understanding of accounting concepts and procedures. Usually, they are
interested in information to assist them in projecting future cash inflows and outflows
of a business.
2. (a) An asset is an economic resource controlled by an entity as a result of a past
transaction or event and from which future economic benefits may be obtained.
(b) A current asset is an asset that will be used or turned into cash within one year;
inventory is always considered a current asset regardless of how long it takes to
produce and sell the inventory.
(c) A liability is a probable debt or obligation of the entity as a result of a past
transaction, which will be paid with assets or services.
(d) A current liability is a liability that will be paid in cash (or other current assets) or
satisfied by providing service within the coming year.
(e) Contributed capital is cash (and sometimes other assets) provided to the
business by owners.
(f) Retained earnings are the cumulative net earnings of a company that are not
distributed to the owners and are reinvested in the business.
2-1
Chapter 2
Investing and Financing Decisions and the Statement
of Financial Position
Revised: January 20, 2017
ANSWERS TO QUESTIONS
1. The primary objective of financial reporting for external users is to provide useful
financial information about a business to help external parties, primarily investors and
creditors, make sound financial decisions. These users are expected to have a
reasonable understanding of accounting concepts and procedures. Usually, they are
interested in information to assist them in projecting future cash inflows and outflows
of a business.
2. (a) An asset is an economic resource controlled by an entity as a result of a past
transaction or event and from which future economic benefits may be obtained.
(b) A current asset is an asset that will be used or turned into cash within one year;
inventory is always considered a current asset regardless of how long it takes to
produce and sell the inventory.
(c) A liability is a probable debt or obligation of the entity as a result of a past
transaction, which will be paid with assets or services.
(d) A current liability is a liability that will be paid in cash (or other current assets) or
satisfied by providing service within the coming year.
(e) Contributed capital is cash (and sometimes other assets) provided to the
business by owners.
(f) Retained earnings are the cumulative net earnings of a company that are not
distributed to the owners and are reinvested in the business.
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Subject
Accounting