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                             FACULTY OF BUSINESS
                                  BUSINESS 1101
                     TERM TEST # 1 - Value - 15% of your final grade
                                  September 2007
                                          Version 1
                                                                                    Penalty if
                                                                                    exam is not
              Question                       Marks          Suggested Time          passed in on
               1                              50             37 minutes             time
               2                              50             38 minutes
                                             100             75 minutes


      written answers any assumptions that you feel are necessary. Only logical assumptions will be

 2.    This entire exam must be returned to the University. Please be neat and logical.
 3.    Budget your time. Please use a pen or dark pencil. DO NOT TEAR PAGES OUT OF
       THE EXAM.
 4.    As noted on your course outline, communication devices such as cell phones,
       Blackberries and English/foreign language translators may not be accessed
       during exams.

                         Please turn off the ringer on your cell phone!
1.    50 marks: suggested time - 37 minutes
Answer all parts of this question on this paper.
Part A (22 marks): Circle the most appropriate answer.          Unclear answers will not be
graded. Each question is worth one mark.

1.    Which of the following most commonly uses accounting information to determine
      whether the company can pay its obligations?
      a. Shareholders
      b. Marketing managers
      c. Creditors
      d. Chief Financial Officer

2.    Which of the following commonly uses accounting information to determine whether the
      company’s net earnings will result in a share price increase?
      a. Shareholders
      b. Marketing managers
      c. Creditors
      d. Chief Financial Officer

3.    External users generally want answers to all of the following questions except
      a. Is the company earning satisfactory income?
      b. Will the company be able to pay its debts as they come due?
      c. Will the company be able to afford employee pay raises this year?
      d. How does the company compare in profitability with competitors?

4.    The liability created by a business when it purchases coffee beans and coffee cups on
      credit from suppliers is termed a(n)
      a. account payable.
      b. account receivable.
      c. revenue.
      d. expense.

5.    The right to receive money in the future is called a(n)
      a. account payable.
      b. account receivable.
      c. liability.
      d. revenue.

6.    Borrowing money is an example of a(n)
      a. delivering activity.
      b. financing activity.
      c. investing activity.
      d. operating activity.

7.    The common characteristic possessed by all assets is
      a. long life.
      b. great monetary value.
      c. tangible nature.
      d. future economic benefit.

8.    Expenses are incurred
      a. only on rare occasions.
      b. to produce assets.
      c. to produce liabilities.
      d. to generate revenues.

9.    Dividends are reported on the
      a. statement of earnings.
      b. statement of retained earnings.
      c. balance sheet.
      d. statement of earnings and balance sheet.

10.   Which financial statement is prepared first?
      a. Balance sheet
      b. Income statement
      c. Statement of retained earnings
      d. Cash flow statement

11.   Which one of the following is not a qualitative characteristic of useful accounting
      a. Relevance
      b. Reliability
      c. Materiality
      d. Comparability

12.   In order for accounting information to be relevant, it must
      a. have very little cost.
      b. help predict future events or confirm prior expectations.
      c. not be reported to the public.
      d. be used by a lot of different firms.

13.   The going concern assumption is inappropriate when
      a. the business is just starting up.
      b. liquidation appears likely.
      c. market values are higher than costs.
      d. the business is organized as a proprietorship.

14.   The cost principle requires that when assets are acquired, they be recorded at
      a. market value.
      b. the amount paid for them.
      c. selling price.
      d. list price.

15.   A company mistakenly destroys a $10 unit of inventory. If the $10 loss is added to cost of
      goods sold on the income statement rather than being shown separately, the company
      could justify its actions based on:
      a. conservatism
      b. full disclosure
      c. consistency
      d. materiality

16.   A current asset is
      a. the last asset purchased by a business.
      b. an asset which is currently being used to produce a product or service.
      c. usually found as a separate classification in the statement of earnings.
      d. expected to be converted to cash or used in the business within a relatively short
         period of time.

17.   The difference between cost and accumulated amortization is referred to as
      a. net amortization.
      b. net book value.
      c. fair market value.
      d. accumulated amortization.

18.   Goodwill would appear in which balance sheet section?
      a. Shareholders’ equity
      b. Investments
      c. Intangible assets
      d. Current assets

19.   Current liabilities are expected to be
      a. converted to cash within one year.
      b. paid within one year.
      c. used in the business within one year.
      d. acquired within one year.

20.   Short-term creditors are usually most interested in assessing
      a. solvency.
      b. liquidity.
      c. marketability.
      d. profitability.

21.   Long-term creditors are usually most interested in evaluating
      a. liquidity.
      b. marketability.
      c. profitability.
      d. solvency.

22.   The most important information needed to determine if companies can pay their current
      obligations is the
      a. net earnings for this year.
      b. projected net earnings for next year.
      c. relationship between current assets and current liabilities.
      d. relationship between short-term and long-term liabilities.

Part B (9 marks): During class, we compared relevance and reliability in accounting, using
bad debt expense as an example. In point form on this paper, highlight the main points
discussed. Be sure you identify when bad debt expense must be recorded in accordance with
GAAP (Generally Accepted Accounting Principles).

Part C (9 marks): You are provided with the following comparative information for two
companies in the same industry.
                                   Kayak                        Canoe
     1. Current ratio              1.47                         1.90
     2. Debt to total assets        73%                         86%
     3. Earnings per share         $25.68                       $32.59
     4. Price-earnings ratio       3.08                         3.44
Demonstrate your understanding of ratio analysis by explaining which company is performing
better – and why - in each category of liquidity, solvency and profitability. Answer on this

Part D: 10 marks
Answer all parts of this question on this paper (this and the next
During class, we covered the concept of amortization. On October 1, 2006 Alyssa Inc. purchased
computers to be used in the business. The computers cost $18,000 and are expected to be used for
three years. Show the income statement and classified balance sheet presentations of the
computers and amortization for each of 2006 and 2007. The company’s year-end is December 31.

Answer this question on this page please – not in the answer books.

2.     50 marks: suggested time - 38 minutes

You are presented with the following account balances Homecoming Inc. at December 31, 2007.

 Accounts payable                                                    8,200
 Amortization expense                                               14,000
 Accumulated amortization, building                                 14,400
 Accumulated amortization, equipment                                22,600
 Interest payable                                                    3,000
 Retained earnings, January 1, 2007                                  7,500
 Cash                                                                2,700
 Dividends                                                           2,500
 Service revenue                                                   130,000
 Land                                                               44,000
 Insurance expense                                                   4,800
 Prepaid insurance                                                    800
 Building                                                           94,500
 Interest expense                                                    6,500
 Repair expense                                                      6,000
 Accounts receivable                                                 9,200
 Salaries expense                                                   52,000
 Equipment                                                          35,500
 Mortgage payable *                                                 85,800
 Common shares                                                       7,500
 Income tax expense                                                 10,000
 Income taxes payable                                                3,500

 * $8,000 of the mortgage payable must be paid in

 Prepare a statement of earnings (income statement) for Homecoming Inc. for the year ended
  December 31, 2007 in proper format. (16 marks).
 Prepare a statement of retained earnings for Homecoming Inc. for the year ended December 31,
  2007 in proper format. (6 marks).
 Prepare a classified balance sheet for Homecoming Inc. at December 31, 2007 in proper
  format. (28 marks).
Answer this question in your answer book, not on this test paper. The
marker will not see anything that you write on this paper for this question.

                                        B1101 test #1 Fall 2007
                                          Version 1 solution
#1 Part A Multiple choice questions (one mark each):

     1   C        6      B         12     B          18     C
     2   A        7      D         13     B          19     B
     3   C        8      D         14     B          20     B
     4   A        9      B         15     D          21     D
     5   B       10      B         16     D          22     C
                 11      C         17     B

Part B (9 marks) Bad debt expense is the cost of uncollected accounts receivable. According to the
matching principle, bad debt expense should be recorded in the same accounting period as the related
credit sale. This is thought to be relevant.
More reliable information might be obtained by waiting until all means of trying to collect the account
receivable have been exhausted. This will generally be after the accounting period in which the sale took
place. It is not acceptable under GAAP as the expense is not matched with the revenue.

The definitions per your text:
Relevant: Info that makes difference in a decision. It usually has predictive value, feedback value, or
Reliability: Info that has no errors or bias. To be reliable, info must be verifiable.

Part C (9 marks):
Based on the current ratio, Canoe is more liquid than Kayak since its current ratio (1.90) is 29% higher
than Kayak’s ratio (1.47).
However, Kayak would be considered more solvent than Canoe since its debt to total assets (73%) is
15% lower than Canoe’s debt to total assets ratio (86%). A lower debt to total assets ratio indicates a
company is more solvent and better able to survive over a long period of time.
Canoe is considered more profitable as it has a higher earnings per share and price-earnings ratio than
Kayak. Canoe’s earnings per share ($32.59) is 26.9% higher than Kayak’s earnings per share ($25.68)
and Canoe’s price-earnings ratio (3.44) is 11.7% higher than Kayak’s ratio.

Part D (10 marks):

Amortization expense per year:

Cost - residual value                           18,000      6,000
Number of years                                      3

Amortization expense for three months of 2006    6,000    3 / 12     1,500

Income Statement
Amortization expense                             1,500               6,000

Balance Sheet
Capital assets:                                   2006                2007
Computer                                        18,000              18,000
Less: accumulated amortization                  (1,500)             (7,500)
Equals: net book value                          16,500              10,500

                                 Homecoming Inc.
                    Statement of Earnings (or Income Statement)
                          Year Ended December 31, 2007

Service revenue                                                   $130,000
         Repair expense                                              6,000
         Salaries expense                                           52,000
         Interest expense                                            6,500
         Insurance expense                                           4,800
         Amortization expense                                       14,000
                   Total expenses                                   83,300
Earnings before income taxes                                        46,700
Income tax expense                                                  10,000
Net earnings                                                       $36,700

                                 Homecoming Inc.
                           Statement of Retained Earnings
                           Year Ended December 31, 2007

Retained earnings, January 1                                        $7,500
Add: Net earnings                                                   36,700
Less: Dividends                                                      2,500
Retained earnings, December 31                                     $41,700

                                    Homecoming Inc.
                                     Balance Sheet
                                   December 31, 2007


Current assets
         Cash                                                       $2,700
         Accounts receivable                                         9,200
         Prepaid insurance                                             800
                 Total current assets                                         $12,700

Property, plant and equipment (or capital assets):
        Land                                                       $44,000
        Building                                         $94,500
        Less: Accumulated amortization
           Building                                       14,400
        Net book value                                    80,100    80,100

         Equipment                                       $35,500
         Less: Accumulated amortization
          Equipment                                       22,600
         Net book value                                   12,900    12,900

                  Total property, plant and                                   137,000
Total assets                                                                 $149,700

                           Liabilities and Shareholders' Equity

Current liabilities
          Accounts payable                                                     $8,200
          Income taxes payable                                                  3,500
          Salaries payable                                                      3,000
          Current portion of mortgage payable                                   8,000
                    Total current liabilities                                 $22,700
Mortgage payable                                                               77,800
                    Total liabilities                                         100,500
Shareholders' equity
          Common shares                                             $7,500
          Retained earnings                                         41,700
                    Total shareholdersÕ equity                      49,200     49,200
Total liabilities and shareholders' equity                                   $149,700

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