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Questions
1. Accounting is a system for measuring, processing, and communicating
financial information. Bookkeeping is a procedural element of
accounting.
2. a. The general public uses accounting information to manage bank
accounts, loan payments, etc.
b. Managers and owners of businesses use accounting to monitor
expenses and revenue recorded.
c. Investors and creditors use accounting information to evaluate
investments and loan applications.
d. Government agencies (including taxation authorities) use
accounting data to create reports and collect payments.
e. Not-for-profit organizations such as churches and hospitals use
accounting information in much the same way as managers of
businesses do—to manage their organizations.
3. Reasons for the development of accounting thought include the
commercial climate of fifteenth-century Italy, the Industrial Revolution,
the rise of the corporation as a business organization, income tax, the
increase in the complexity of economic activities, and the increase in
government influence on daily life. (Only two are required.)
4. Three professional designations of accountants are Chartered
Accountant (CA), Certified General Accountant (CGA), and Certified
Management Accountant (CMA).
5. The Accounting Standards Board formulates generally accepted
accounting principles. It is not a government agency.
6. The owner of a proprietorship is called the proprietor, the owners of a
partnership are called partners, and the owners of a corporation are
called shareholders.
7. Ethical standards in accounting are designed to encourage accountants
to produce honest information for decision making. The provincial
institutes of CAs’ and the CGAAC’s ethical standards are directed
toward independent auditors, but also govern CAs and CGAs,
respectively, in industry and government. The SMAC’s standards relate
more to management accountants.
(5 min.) S 1-1
Revenues are the amounts earned by Sherman in return for her providing goods and
services to customers. Expenses are the decreases in equity that arise from the utilization
of assets or the increase in liabilities to cover the costs needed to deliver goods and
services to customers.
(5 min.) S 1-2
1. The bank is an external user.
2. The balance sheet would be the best financial statement for the bank to use, as it lists
all of the assets, liabilities, and equities for the company.
c) Stable-Monetary-Unit Assumption
d) Reliability Characteristic
Accounts Receivable A B
Salary Expense E I
Computer Equipment A B
Accounts Payable L B
Rent expense E I
Cash A B, CF
Supplies A B
Notes Payable L B
Req. 2
It is a distinguishing characteristic of proprietorships that they are a separate
entity from the owners with no continuous life, so the three companies will
cease to exist if the owners die.
Based on the accounting equation, the owner has $16,000 equity in the
business.
Req. 1
Req. 2
Reasons for the increase in owner’s equity:
1. Net income.
2. Owner made additional investments in the company.
Req. 2
Revenues ($500 + $600 + $4,200).................... $5,300
Less: Expenses .................................................. 1,800
Net income ........................................................ $3,500
* Computation: Total assets ($134,750) – Total liabilities ($54,250) = Owner’s equity (x)
Owner’s equity: (x) = $134,750 – 54,250
Owner’s equity: (x) = $80,500
Req. 3
The balance sheet reports financial position. The income statement reports operating
results.
Req. 2
First we prepare the statement of owner’s equity for the year ended December 31, 2010.
The format for this statement is as follows:
Hollins Company
Hollins Company
Statement of Owner’s Equity
For the Year Ended December 31, 2010
Gary Hollins, capital, January 1, 2010 $ 0
Add: Investment by owner 55,000
Net income for the year (Req. 1) 70,600
125,600
Less: Withdrawals by owner 50,600
Gary Hollins, capital, December 31, 2010 $ 75,000
1
$180,000 + Investments (Y) + $180,000 – $330,000= $270,000
Investments = $240,000
2
Net income (X) = $135,000 (90,000 + 0 + NI – 120,000 = 105,000)
3
Revenues – Expenses = Net income
$315,000 – Expenses = $135,000
Expenses = $180,000
4
Owner’s Equity = Beginning Equity + Investments + Net Income – Withdrawals
Owner’s Equity = $90,000 + $20,000 + $150,000 – $210,000
Owner’s Equity = $50,000
5
Assets – Liabilities = OE
Assets – $240,000 = $50,000
Assets = $290,000
Req. 2
Ethical Issue 1
1. This type of information should be disclosed so that investors can make
an informed decision whether to invest in the shares of the corporation.
2. The chief financial officer (CFO) of CV Technologies might be tempted
to underplay the compliance problems which caused the trading halts
issued by the Securities Commissions in Alberta, British Columbia and
Ontario. The ethical course of action for the CFO is to tell the truth, no
matter what the effect is on the 2007 financial statements.
3. Negative consequences of not telling the truth include CV Technologies
losing its reputation for honesty in its financial reports. Investors might
stop investing in CV Technologies if they suspect that the financial
statements do not disclose all relevant information or tell the truth.
Negative consequences of telling the truth include painting so bleak a
picture of the compliance problem’s effects on the company that
investors will view CV Technologies as very risky and stop buying the
company’s shares.
It would be worse to lose a reputation due to dishonesty.
Ethical Issue 2
1. The fundamental ethical issue in this situation is letting the financial
statements tell the truth about the company’s performance for the past
year. Performance was bad, and the financial statements should present
the poor performance of the company.
2. The proposal to transfer personal assets temporarily to the company
violates the spirit, if not the letter, of the entity concept. The president
implies that these assets can be transferred back to her at will, and the
“investment” appears designed to make the company’s financial
position appear better than it is. This is dishonest and unethical.
The request to “shave expenses” violates the reliability characteristic.
The president wants the accountant to understate expenses in order to
convert a loss into a reported income. This will make the financial
statements inaccurate. This is dishonest and unethical.
Group A
Req. 2
Trevor Michaels, Realtor
Trevor Michaels, Realtor
Balance Sheet
November 30, 2010
ASSETS LIABILITIES
Cash $ 7,000 Accounts payable $ 2,000
Office supplies 500 Note payable 20,000
Furniture 7,000 Total liabilities 22,000
Land 40,000
Franchise 10,000 OWNER’S EQUITY
T. Michaels, capital $42,500
Total liabilities and
Total assets $64,500 owner’s equity $64,500
Req.3
Personal items not reported on the balance sheet of the business:
c. Personal residence ($550,000) and mortgage payable ($300,000)
d. Personal cash ($30,000)
e. Personal account payable ($2,000)
Req. 4
(a) Result of operations: Net income of $90,000
(b) Owner’s equity increased during the year. This would make it easier to borrow money
from a bank in the future.
(c) At December 31, 2011:
Total economic resources—total assets $404,000
– Total amount owed—total liabilities (183,000)
= Owner’s equity $ 221,000
Req. 2
The total assets presented in the corrected balance sheet are less than those of the original
balance sheet. The accounts that are not presented on the corrected balance sheet because
they are revenues or expenses, but that are presented on the income statement, are:
Advertising expense
Rent expense
Service revenue
May 1:
Economic-entity assumption: Barry Melrose is transferring personal funds of
$30,000 into his law practice.
May 3:
Reliability characteristic: The work should be recorded at $4,000, not at the
“normal” amount, as the amount actually charged is the only objective
evidence of what the work was worth.
May 5:
Going-concern assumption: The company expects to remain in operation
long enough to use existing resources. The company must record this
transaction as an asset, since it will provide future benefits, not as an
expense, which is what Melrose wants to do.
May 10:
Cost Principle of Measurement: This event should not be recorded as a
transaction since no “cost” was paid or received with the signing of the lease.
This event does not meet the definition of a transaction.
May 18:
Economic-entity assumption: The loan should not be recorded by the
company as it is a personal liability of Melrose.
May 25:
Economic-entity assumption: This transaction should not be recorded by the
company, as it is a personal transaction.
May 28:
Economic-entity assumption: This withdrawal relates to the business and
should be treated as a reduction in Owner’s Equity. The payment of a portion
of the loan is related to a personal liability of Melrose, and therefore should
not be recorded by the company.
May 31:
Reliability characteristic: The computer equipment should be recorded at
$8,000 since the only objective evidence of its value is the $8,000 of legal
work completed.
Req. 2
See the page following Req. 4.
Req. 6
Harvey is correct in feeling that the business is profitable (profits of
$113,000 in December 2010 and further profits of $1,000 since January 1,
2010). The reason he has to keep investing more money and is unable to
make withdrawals at this time is due to the growth of the business; the assets
have grown by $187,000 since November 30, 2010 ($287,000 – $100,000),
with an increase in liabilities of only $24,000. Harvey will have to continue
to invest (and will be unable to make withdrawals) as long as the business
continues to grow by an amount in excess of profitability, unless he finances
some of the growth through increasing the liabilities.
Instructional Note: Student responses may vary.
Group B
Req. 2
Hayley Wilson Realty
Hayley Wilson Realty
Balance Sheet
March 31, 2010
ASSETS LIABILITIES
Cash $ 75,000 Accounts payable $ 20,000
Office supplies 12,000 Note payable 110,000
Furniture 24,000 Total liabilities 130,000
Land 156,000
Franchise 24,000 OWNER’S EQUITY
H. Wilson, capital $161,000*
Total liabilities and
Total assets $291,000 owner’s equity $291,000
Req. 3
Personal items not reported on the balance sheet of the business:
a. Personal cash ($15,000)
e. Personal residence ($320,000) and mortgage payable ($185,000)
f. Personal account payable ($2,000)
Req. 4
(a) Result of operations: Net income of $256,000
(b) Owner’s equity increased during the year. This would make it easier to borrow money
from a bank in the future.
(c) At December 31:
Total economic resources—total assets $ 546,000
– Total amount owed—total liabilities (258,000)
= Owner’s equity $ 288,000
Req. 2
The accounts that are not presented on the balance sheet because they are revenue and
expenses, but that are presented on the income statement, are
Insurance expense
Rent expense
Salary expense
Utilities expense
Premium revenue
June 1:
Cost Principle of Measurement: The equipment should be recorded at its
purchase price to John, not at its original cost to Mark or at its replacement
cost.
June 3:
Reliability Characteristic: The work should be recorded at $500, not at the
“normal” amount, as the amount actually charged is the only objective
evidence of what the work was worth.
June 10:
Cost Principle of Measurement: This event should not be recorded as a
transaction since no “cost” was paid or received with the signing of the lease.
This event does not meet the definition of a transaction.
June 18:
Economic-entity Assumption: The loan should not be recorded by the
company as it is a personal liability of John.
June 22:
Stable-Monetary-Unit Assumption: John must leave the value of the shop
equipment at $40,000. Accountants assume that the dollar’s purchasing
power is relatively stable and the stable-monetary-unit assumption is the
basis for ignoring the effects of inflation in the accounting records.
June 28:
Economic-entity Assumption: The $7,000 that John paid on the loan is
irrelevant to the records of John Burgess Plumbing as it is a personal
transaction and therefore should not be recorded by the company. The
$8,000 withdrawal does relate to the business and should be treated as a
reduction of Owner’s Equity.
This could also be calculated by subtracting the investments by Armstrong from the
owner’s equity:
= $74,000 – $58,000*
= $16,000
* 58,000 = 30,000 + 28,000
Req. 2
See the page following Req. 3.
Req. 6
Armstrong is correct in feeling that the business is profitable (profits of
$32,000 in January 2010 and profits of $16,000 since January 2009). The
reason she has to keep investing more money and is unable to make
withdrawals at this time is due to the growth of the business; the assets have
grown by $117,000 since the business was started ($147,000 – $30,000) with
an increase in liabilities of only $26,000. Armstrong will have to continue to
invest (and will be unable to make withdrawals) as long as the business
continues to grow by an amount in excess of profitability unless she finances
some of the growth through increasing the liabilities.
Instructional Note: Student responses may vary.
Req. 1
Based solely on these balance sheets, Ryan’s Catering appears to be the
better credit risk because Ryan’s has only $106,500 of liabilities compared to
$195,000 for Tyler’s Bicycle Centre. Ryan’s owner’s equity is far greater
than that of Tyler’s ($255,000 compared to $125,250). Tyler’s is already
heavily in debt. You would be better off granting the loan to Ryan’s. You
should consider what would happen if the borrower could not pay you back
as planned. The two companies have about the same amount of assets to sell
for cash if they need to come up with the money to pay you, but Ryan’s has
far less debt to pay to others before paying you.
Req. 2
Information in addition to the balance sheet:
1. Income statements for several recent periods to see the two companies’
profitability. Income statement data (especially the amount of net
income or net loss) provide an important measure of business success or
failure.
2. Forecasted income for the future.
3. Statement of what they plan to do with the borrowed money and how
they expect to pay it back.
4. Credit ratings from an independent credit agency.
Req. 1
Cash (and short-term deposits) at October 31, 2008 $492,173
Req. 2
Req. 3
Req. 4
Req. 5
The year ending October 31, 2008, was a good year, as compared to the year ended
October 31, 2007. Total revenues were higher than for the preceding year by $71,251, or
12.7%. Net income was also higher than for the previous year by $5,737, or 6.0%.
Overall, the company appears to be growing at a very good rate.
Req. 1
Req. 2
December 31, 2008 December 31, 2007
Total assets $73,622 $56,884
Req. 3
Assets = Liabilities + Shareholders’ Equity
$73,622 = $44,644 + $28,978
Req. 4
December 31, 2008 December 31, 2007
Total net sales $125,368 $135,134
Req. 5
It appears 2008 was a rough year compared to 2007, since there is a decrease in sales of
$9,766, or 7.2%, and a decrease in net income of $16,309, or 352%, in 2008 as
compared to 2007.