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					                     Accounting: Problem Set 1




                     I pledge my honor that I have not violated the Honor Code during
                     this assignment.



                     Signature: ______________________________
10/18/2008
Revision 0.1

Author:
Last Name: Larson
First Name: Philip
Section: 30000-01
Financial Accounting – Problem Set 1


Table of Contents
1.     Problem Set 1 ......................................................................................................................... 3
     1.1 Question 1 ....................................................................... Error! Bookmark not defined.3
     1.2 Question 2 ....................................................................... Error! Bookmark not defined.4
     1.3 Question 3 ....................................................................... Error! Bookmark not defined.6
     1.4 Question 4 ....................................................................... Error! Bookmark not defined.7
     1.5 Question 5 ....................................................................... Error! Bookmark not defined.9




Philip Larson                                                                                                                                      Page 2
Financial Accounting – Problem Set 1


1. Problem Set 1
1.1 Part I: Analysis of Overstatement/Understatement

Use the notations overstated (+) or understated (-) and the amounts involved to indicate the effects of the
following transactions on each of the accounts listed. Each of the following transactions are independent (i.e., the
first transaction does not affect the second, etc.).
Assume that each company has a fiscal year-end of December 31, 2006, and uses the indirect method when
constructing its statement of cash flows. Assume that the company has completed its accounting cycle and
prepared all the financial statements. Afterwards, the company discovers that it has overlooked a transaction. By
what amounts are the financial statements for 2006 wrong before the corrections are made for the forgotten
transactions? You may ignore the impact of any taxes.

   a) ABC Corp. receives a check for $25,000 from a customer on December 05, 2006. The check is a
      prepayment for goods that ABC Corp. will ship to the customer in January 2007. ABC Corp. records the
      $25,000 cash received and records a corresponding increase in revenue. However, ABC Corp. does not
      record a decrease in inventory or an increase in cost of goods sold; the goods to be shipped next month
      have a value of $7,000 in the inventory account.

        Actual Journal Entry
        Dr. Cash             25000
        Cr. Revenue                25000
             Assets               = Liabilities                          +     Shareholders Equity
             +25000               =                                      +           +25000

        Change in Cash = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                             = 0 + 25000 – 0 = $25,000

        Recognizing revenue using the accrual basis only occurs where 1) firm has performed all, or most of, the
        services it expects to provide and 2) the firm has received cash or some other asset as a receivable.
        Generally, this means firms recognize revenue at the time of delivery, when the firm has transferred the
        goods to a buyer. Here, ABC Corp recognized the revenue in December for goods it will not ship until
        January.

        Correct Journal
        Dr. Cash                    25000
        Cr. Advances from Customers       25000
             Assets               = Liabilities                          +     Shareholders Equity
             +25000               = +25000                               +

        Change in Cash = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                             = 25000 + 0 – 0 = $25,000

        Cash correctly goes up, but the firm incorrectly recognized revenue which increases Net Income.
        Additionally, the liabilities were understated because it did not include the requirement to deliver
        services (advance to customers).


Philip Larson                                                                                           Page 3
Financial Accounting – Problem Set 1



Current assets:        _____________                  Long-term assets:      _____________
Current liabilities:   - 25000                        Long-term liabilities: _____________
Contributed Capital:   _____________                  Net Income:            +25000
Retained earnings:     +25000                         Cash from Operations: _____________
Total Stockholder’s    +25000                         Cash from Investing: _____________
Equity                                                Cash from Financing: _____________


   b) Reliance Corp. rents a building on November 01, 2006. The rental agreement is effective from
      November 01, 2006 through July 31, 2007. The total rent for the entire period amounts to $27,000 and
      Reliance pays the amount in full on November 01, 2006. Reliance makes no entry with respect to this
      transaction.

       Actual Journal Entry
       NOTHING

       The rent of 27,000 is for 9 months ($3,000/month). It received $27,000 cash of which $3000 is for the
       first month and $24000 is an Advance on Rent. On December 1st, it could recognize another $3,000
       decreasing the Advance on Rent by $3000.

       Correct Journal Entry November 1 (For November Rent)
       Dr. Cash                   27000
       Cr. Advances on rent              24000
       Cr. Retained Earnings             3000

       Correct Journal Entry December 1 (for December Rent)
       Dr. Advances on Rent       3000
       Cr. Retained Earnings             3000
            Assets               = Liabilities                         +     Shareholders Equity
            +27000               = +24000                              +           +3000
                                 = -3000                               +           +3000

       Change in Cash = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                            = 21000 + 6,000 – 0 = $27,000

       Therefore, current liabilities are understated by 21,000 because it does not journalize the Advances on
       Rent. Assets are understated by $27000 because it failed to have a journal entry for cash. And
       Shareholders Equity is understated by 6000 because it failed to recognize revenue for the months of
       November and December. (Ignoring Depreciation of the building)

       Current assets:        -27000                          Long-term assets:      _____________
       Current liabilities:   -21000                          Long-term liabilities: _____________
       Contributed Capital:   _____________                   Net Income:            -6000
       Retained earnings:     -6000                           Cash from Operations: -27000
       Total Stockholder’s    -6000                           Cash from Investing: _____________
       Equity


Philip Larson                                                                                        Page 4
Financial Accounting – Problem Set 1


   c) Rogers, Inc. issued 10,000 shares of common stock on December 4, 2006. The shares have a par value of
      $ 0.01 per share, and were issued at a market price of $ 6.25 per share. The bookkeeper recorded the
      issuance with a debit to cash for the total proceeds received and a credit to Other Revenue for the same
      amount. The statement of cash flows does not mention this transaction.

        Actual Journal Entry
        Dr. Cash             62500
        Cr. Other Revenue          625000
             Assets               = Liabilities                      +     Shareholders Equity
             +625000
             -625,000             =                                  +

        Change in Cash = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                             = 0+0–0=0

        Correct Journal Entry November 1 (For November Rent)
        Dr. Cash                   625000
        Cr. Common Stock                  100 (10,000*.01)
        Cr. Add’l Paid in Capital         624000
             Assets               = Liabilities                      +     Shareholders Equity
             +625000              =                                  +           +100
                                  =                                  +          +624000

        Change in Cash = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                             = 0 + 625000 – 0 = $625,000 (from financing)

        Current assets:        -625000                      Long-term assets:      _____________
        Current liabilities:   _____________                Long-term liabilities: _____________
        Contributed Capital:   +625000                      Net Income:            _____________
        Retained earnings:     _____________                Cash from Operations: _____________
        Total Stockholder’s    +625000                      Cash from Investing: _____________
        Equity                                              Cash from Financing: -625000


1.2 Part II: Preparing the Income Statement

Wrigley’s company manufactures and sells chewing gum. The company’s actual condensed balance sheet data as
of December 31, 2002 is as follows ($ in millions):




Philip Larson                                                                                     Page 5
Financial Accounting – Problem Set 1




 The major transactions during the month of January 2003 are listed below in points 1 through 6.
a) Record the journal entries for each of these transactions ($ in millions).

   1. Gum carried in inventory at a cost of $45 was sold for $75, of which only $35 was received in cash and
      the rest was sold on account.

       Dr. Cash                        35
       Dr. Accounts Receivable         40
       Cr. Sales Revenue                      75
       Dr. Cost of Goods Sold          45
       Cr. Inventory                          45
            Assets               = Liabilities                         +     Shareholders Equity
            +35 + 40             =                                     +       +75 (IncStRE)
            -45                  =                                     +       -45 (IncStRE)

       Change in Cash (Opns) = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                            = 0 + 30 – 40 (AR increase) + 45 (inventory decrease) = 35 (from operations)

   2. Accounts receivables worth $42 were collected.

       Dr. Cash                        42
       Cr. Accounts Receivable                42
            Assets               = Liabilities                         +     Shareholders Equity
            +42                  =                                     +
            -42

       Change in Cash (Opns) = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                            = 0 + 0 – (-42) = 42 (from operations)

   3. Depreciation expense of $3 was recognized.

       Dr. Depreciation Expense               3
       Cr. Accumulated Depreciation                   3


Philip Larson                                                                                      Page 6
Financial Accounting – Problem Set 1



            Assets               = Liabilities                        +    Shareholders Equity
            -3                   =                                    +       -3 (IncStRE)

       Change in Cash (Opns) = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                            = 0 + (-3) – (-3) = 0 (No net change in cash flow)

   4. Selling and administrative expenses of $24 were paid in cash.

       Cr. Cash                                24
       Dr. Selling Expenses             24
            Assets               = Liabilities                        +    Shareholders Equity
            -24                  =                                    +           -24

       Change in Cash (Opns) = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                            = 0 + (-24) - 0 = -24

   5. The prepaid insurance of $5 was used up in January.

       Dr. Retained Earnings            5
       Cr. Prepaid Insurance                   5
            Assets               = Liabilities                        +    Shareholders Equity
            -5                   =                                    +            -5

       Change in Cash (Opns) = Change in Liabilities + Change in S/H Equity – Change in Non-Cash Assets
                            = 0 + (-5) – (-5) = 0 (No net effect on cash flow)

   6. The liability for dividends as of December 31, 2002 was paid in cash on January 25.

                Dr. Dividends Payable          46
                Cr. Cash                               46


            Assets               = Liabilities                        +    Shareholders Equity
            -46                  =                                    +           -46

                Change in Cash (Opns) = Change in Liabilities + Change in S/H Equity – Change in Non-Cash
       Assets
                                        = 0 + (-46) - 0 = -46

        b) Prepare an Income Statement for Wrigley’s for the month of January, 2003. Ignore income
taxes. No balance sheet is required.




Philip Larson                                                                                    Page 7
Financial Accounting – Problem Set 1




 Income Statement for Month Ending January
 31, 2003

                                        31-Jan-03
 Sales                                         $75
 Cost of Goods Sold                          ($45)
 Selling Expenses                             ($3)
 Administrative Expenses                     ($24)
 Insurance Expense                            ($5)

 Net Income (Accrual)                         ($2)



1.3 Part III: Statement of Cash Flows

                                                     Digital Retail Enterprises Inc. had the following income
                                                     statement and balance sheet items ($ in millions):


                                                     During 2006, Digital Retail Enterprises purchased PPE for
                                                     $315 million cash and sold PPE which had a net book value
                                                     of $100 million for a gain of $25 million (recall that net
                                                     book value = gross book value – accumulated depreciation).
                                                     Operating expenses, interest expense and income tax
                                                     expense were paid in cash. No long-term debt was retired.
                                                     Cash dividends declared and paid during the year were $30
                                                     million.

                                                     Prepare a statement of cash flows for the year ended
                                                     December 31, 2006 for Digital Retail Enterprises Inc. using
                                                     the indirect method.

                                                     A T-account worksheet is provided to assist you (page 10).
                                                     The T-account worksheet is only a tool to help you in
                                                     completing the question. You do not need to use it if you
                                                     don’t want to.




                                                     NOTE: You will only be rewarded for answering the
                                                     question in the spaces provided in the outline of the
                                                     Statement of Cash Flows on page 9.

Philip Larson                                                                                         Page 8
Financial Accounting – Problem Set 1




Net Book Value = Gross Book Value – Accumulated Depreciation
Proceeds = Net Book Value + Gain = 125

Change Gross Book Value from 2005-2006 = 175 = 315- Gross Book Value of New PPE
New PPE Gross Book Value of 140
Accumulated Depreciation = 40


                                           Digital Retail Enterprises Inc.
                                       1.3.1 Consolidated Statement of Cash Flows
For Year Ended
December 31, 2006
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income                                            $__75_____
Adjustments:
Depreciation Expense Addback_______________________ ___60_____
(Increase) in Accounts Receivable__________________ __(90)____
(Increase) in Inventory____________________________ __(100)___
Increase in Accounts Payable_______________________ __220_____
Gain on Sale of PP&E_______________________________ __(25)___
___________________________________________________ __________
___________________________________________________ __________
___________________________________________________ __________
------------------------------------------------------------------------------
Cash flow from (used in) operating activities         ___140____
------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of PPE______________________________      __(315)__
Proceeds from Disposal of PP&E_____________________ ___125____
___________________________________________________ __________
___________________________________________________ __________
___________________________________________________ __________
--------------------------------------------------------------------------------
Cash flow from (used in) investing activities         ___(190)____
--------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends Paid________________________________        __(30)____
Increase in Long-term Borrowing____________________ ___65_____
___________________________________________________ __________
___________________________________________________ __________
___________________________________________________ __________
--------------------------------------------------------------------------------
Cash flow from (used in) financing activities         ___35_____
--------------------------------------------------------------------------------
INCREASE (DECREASE) IN CASH                           ___(15)___
Cash, beginning of year                               ____60____
--------------------------------------------------------------------------------
CASH, END OF YEAR                                    $    45
                                                      ==========




Philip Larson                                                                       Page 9

				
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