CONTEMPORARY ACCOUNTING 8TH EDITION BY BAZLEY - TEST BANK

CONTEMPORARY ACCOUNTING 8TH EDITION BY BAZLEY – TEST BANK

 

Instant Download – Complete Test Bank With Answers

 

 

Sample Questions Are Posted Below

 

Chapter 5 – Presentation of financial position and the worksheet

 

TRUE/FALSE

 

1. Liquidity refers to the ease with which assets can be converted to cash in the normal course of business.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The purpose of the balance sheet

 

2. The historical cost assumption requires that an asset that is used for personal use and not for business use should be recorded at cost in the business balance sheet.

 

ANS:  F                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Definition of the balance sheet

 

3. The business entity assumption requires that an asset that is used for personal use and not for business use should not be recorded in the business balance sheet.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Definition of the balance sheet

 

4. A balance sheet provides information on the liquidity of the entity.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The purpose of the balance sheet

 

5. An operating cycle may exceed 12 months and be longer than an accounting cycle.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

6. A mortgage payable that had only 12 months left before due for repayment would be reclassified from a non-current liability to a current liability.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

7. A piece of equipment purchased for resale within the entity’s operating cycle would be classified as a current asset.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

8. Current assets are always classified according to their nature and not their function.

 

ANS:  F                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

9. To be classified as a current liability, a debt must be expected to be paid within the current accounting period or within the entity’s operating cycle, whichever is the longer.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

10. In the situation where an entity is insolvent, equity holders will be paid only whatever remains after all liabilities are paid.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

11. The balance sheet equation can be represented as: Assets – Liabilities = Equity

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The balance sheet equation

 

12. The ‘net assets’ of a business is equal to current assets plus current liabilities.

 

ANS:  F                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The balance sheet equation

 

13. In relation to the format of a balance sheet, large and complex organisations will summarise assets under broad headings.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Influences on the format of the balance sheet.

 

14. If assets increase, then, applying the principle of duality, we must increase liabilities, decrease another asset or increase owners’ equity.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   A simple balance sheet.

 

15. The worksheet illustrates the basics underlying double-entry bookkeeping.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet.

 

16. A double-entry error will cause an imbalance in the worksheet which is twice the amount recorded.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

17. If a worksheet does not balance and the imbalance is not caused by a transposition, single-entry or double-entry error, then it must be an addition or subtraction error.

 

ANS:  T                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

18. An addition or subtraction error will cause the worksheet to be out of balance by half the amount of the transaction.

 

ANS:  F                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

MULTIPLE CHOICE

 

1. Which of the following statements is incorrect?

A.	A balance sheet reports assets, liabilities and equity at a point in time.
B.	The exclusion of an asset from the business balance sheet because it is for private use is due to the going concern assumption.
C.	The average period between the purchase of merchandise and the conversion of this merchandise back into cash is the operating cycle.
D.	In order for a resource to be classified as an asset of the entity, the benefits must accrue to the entity.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Chapter 5

 

2. A balance sheet is a statement that shows the resources controlled and the obligations owed by an entity:

A.	in the previous financial year.
B.	for the financial year.
C.	for the accounting period.
D.	at a point in time.

 

 

ANS:  D                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Definition of the balance sheet

 

3. Which of the following best describes the purpose of the balance sheet?

A.	To summarise assets and liabilities for the accounting period.
B.	To report the inflows and outflows of cash.
C.	To balance current period revenues with those of the previous period.
D.	To report assets, liabilities and owner’s equity as of a specific date.

 

 

ANS:  D                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The purpose of the balance sheet.

 

4. The most liquid type of asset is:

A.	bills receivable.
B.	cash.
C.	investment in listed shares.
D.	inventory.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

5. Which of the following best represents examples of liquid assets?

A.	Cash and office equipment.
B.	Cash and accounts receivable.
C.	Cash and inventory.
D.	Cash and prepaid assets.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   Elements of the balance sheet

 

6. Which statement below is true about a company’s operating cycle?

A.	It may not exceed one year.
B.	It must be one year.

 

 

C.	It may be longer than a year.
D.	It is always longer than a year.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

7. Non-current assets are best described as:

A.	assets that extend benefits beyond the coming financial year or operating cycle.
B.	tangible assets that extend benefits beyond the coming year or operating cycle, whichever is longer.
C.	assets that are depreciated for a maximum of 40 years.
D.	assets that provide economic benefits over the coming year.

 

 

ANS:  A                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

8. Gibson, Inc. a retailer, reports the following information:

 

Accounts Payable	$600	Accounts Receivable	$5200
Cash	7000	Loan Payable	4400
Retained Profits	7800	Inventory	10,200
Buildings	17,600	Office Supplies	1600

 

What is the most likely amount for the firm’s current assets?

A.	$41,600
B.	$24,000
C.	$22,400
D.	$13,800

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   Chapter 5

 

9. Which of the following is classified as a liability?

A.	Wages expense.
B.	Accounts payable.
C.	Owners’ drawings.
D.	Retained profits.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   Elements of the balance sheet

 

10. Amounts owed by a business enterprise to external parties are described as:

A.	assets.
B.	liabilities.
C.	equities.
D.	revenue.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

11. Owners’ equity is:

A.	the owners interest in the assets of the firm.
B.	only profits retained in the business.
C.	the contributions by the proprietor plus all profits retained by the business.
D.	only contributions by the proprietor.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

12. How many of the following headings would be found on the balance sheet: Unearned revenue, Non-current assets, Current liabilities, Equity, Accounts receivable, Owner’s equity, Inventory, Wages expense, and Interest income.

A.	Five
B.	Six
C.	Seven
D.	Eight

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   Chapter 5

 

13. Which of the following equations is correct?

A.	Assets = Liabilities + Owners’ Equity – (Income – Expenses)
B.	Assets + (Income + Expenses) = Liabilities + Owners’ Equity
C.	Assets + Liabilities + Owners’ Equity = Income – Expenses
D.	Assets – Liabilities = Owners’ Equity + (Income – Expenses)

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

14. Which of the following is not a valid expression of the balance sheet equation?

A.	Assets = Liabilities + Owners’ Equity
B.	Assets – Liabilities = Owners’ Equity
C.	Assets – Owners’ Equity = Liabilities
D.	Liabilities + Assets = Owners’ Equity

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

15. An entity’s owners’ equity is one-third of its total assets. Its liabilities total $100,000. What is the amount of its total assets?

A.	$100,000
B.	$150,000
C.	$200,000
D.	$300,000

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

16. An entity’s owners’ equity is one-third of its total liabilities. Its assets total $200,000. What is the amount of its owners’ equity?

A.	$50,000
B.	$66,667
C.	$150,000
D.	$300,000

 

 

ANS:  A                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

 

17. The purchase of an asset for cash will:

A.	not affect total assets, liabilities, and owners’ equity.
B.	increase total assets and increase total liabilities.
C.	increase total assets and increase total owners’ equity.
D.	increase total assets.

 

 

ANS:  A                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

18. When an organisation purchases a machine for cash, which of the following is true?

A.	Total assets increase.
B.	Total liabilities decrease.
C.	Total expenses increase.
D.	Total equity stays the same.

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

19. The Davis Company purchases a new delivery truck by making a 10% cash down payment and signing a note payable for the balance. How will assets, liabilities and owner’s equity be affected by this transaction?

 

Assets              Liabilities             Owners’ Equity

A.	decrease            increase                no change
B.	increase            increase                no change
C.	increase            decrease                increase
D.	no change          increase                decrease

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

20. On 31 May 20X7, after many months of planning, Macy opened a bike shop by investing $10,000 of his own money. On May 31 he spent 20% of it to pay the rent for three months from 1 June 20X7 on a store location, and the balance on furnishings and fixtures that had been delivered and set up the night before. A friend had loaned Macy $6000, all of which he used to purchase inventory on 31 May, prior to opening. If Macy prepared a balance sheet as at 31 May 20X7, what would be the balances for total assets and total liabilities?

 

Total Assets                 Total Liabilities

A.	$10,000                      $6000
B.	$14,000                      $6000
C.	$16,000                      $6000
D.	$16,000                    $10,000

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

21. Blanche started a business by contributing $24 000 cash and a truck valued at $40,000. The company then purchased equipment by paying the $24 000 cash as a down payment (which accounted for half its purchase price), and financed the other half by signing a note payable at the bank. After the above transactions, Blanche’s company balance sheet is:

 

Assets                    Liabilities               Owner’s Equity

A.	$64,000                         $0                  $64,000
B.	$88,000                         $0                  $88,000
C.	$88,000                   $24,000                  $64,000
D.	$112,000                  $24,000                  $88,000

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

22. George Corporation had the following transactions during the month of August:

1.	Owners started the company by investing $400,000 in cash.
2.	Purchased $200,000 of equipment by making a $100,000 cash down payment and signed a 90-day note payable for the balance.
3.	Purchased land for $500,000, signing a note payable for the full amount.
4.	Earned $60,000 of services revenue (of which $40,000 was received in cash with the balance on accounts receivable).

 

What are total assets for George Corporation at the end of August?

A.	$1,060,000
B.	$1,100,000
C.	$1,140,000
D.	$1,160,000

 

 

ANS:  A                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

23. Chocolate Heaven, Inc. had a balance of $200,000 in shareholders’ equity at 31 December 20X6. During 20X7, the company recorded a net profit of $50,000, distributed dividends of $30,000, and borrowed $10,000. What was the company’s shareholders’ equity at 31 December 20X7?

A.	$200,000
B.	$210,000
C.	$220,000
D.	$230,000

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

24. The accounting records of Margo Catering show the following balances at 31 December 20X7:

Cash	$600	Notes Payable	$200
Office Equipment	2400	Owners’ Equity	1000
Accounts Receivable	400	Retained Profits	900
Accounts Payable	800	Expenses	3400

 

Total assets as of 31 December 20X7 are:

A.	$3000
B.	$3400
C.	$4400
D.	$5300

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   Elements of the balance sheet

 

25. Which one of the following statements is generally true regarding the relationship between the items mentioned?

A.	An increase in assets will always cause an increase in owners’ equity.
B.	A decrease in assets will always cause a decrease in liabilities.
C.	An increase in revenues normally increases owners’ equity.
D.	Expenses decrease revenues.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

26. When a liability is paid, which of the following is true?

A.	Total assets and total liabilities remain the same.
B.	Total assets and total owner’s equity decrease.
C.	Total assets decrease by the same amount that total liabilities increase.
D.	Total assets and total liabilities decrease.

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

27. The Club of Winston Churchill has the following items disclosed on its balance sheet. The only item missing is owner’s equity:

 

Accounts receivable	$25,000		Motor vehicles	$30 000
Cash	40,000		Notes Payable	15 000
Bank overdraft	15,000		Goodwill	25 000
Loan payable	150,000		Prepaid Rent	3500
Office Building	90,000		Plant & Equipment	80 000

 

What are the values of the club’s total assets and net assets?

A.	Total assets $293,500 and net assets $113,500
B.	Total assets $293,500 and net assets $110,000
C.	Total assets $308,500 and net assets $98,500
D.	Total assets $238,500 and net assets $110,000

 

 

ANS:  A                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

28. The Club of Winston Churchill has the following items disclosed on its balance sheet as at 30/6/20X2:

 

Accounts receivable	$25,000		Motor vehicles	$30,000
Cash at bank	40,000		Notes Payable	15,000
Bank overdraft	15,000		Goodwill	25,000
Loan payable	150,000		Prepaid rent to 31/12/20X2	3500
Office Building	90,000		Plant & equipment	80,000

 

What is the value of the club’s current assets?

A.	$25,000
B.	$65,000
C.	$68,500
D.	$93,500

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

29. On a balance sheet, assets are usually classified as:

A.	Current Assets, Fixed Assets, Plant and Equipment, and Intangible Assets.
B.	Current Assets, Long Term Assets, Plant and Equipment, and Intangible Assets.
C.	Current Assets, Fixed Assets and Long-term Investments.
D.	Current Assets and Non-current Assets.

 

 

ANS:  D                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

30. What is the value of total assets if current assets equal $2200, current liabilities equal $1500, non-current liabilities equal $800 and shareholders’ equity equals $2500?

A.	$2200
B.	$3700
C.	$4800
D.	$7000

 

 

ANS:  C                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

31. During an accounting period, total assets decreased by $5m while owner’s equity increased by $8m. The change in total liabilities during this period must have been a:

A.	$3m increase.
B.	$3m decrease.
C.	$13m increase.
D.	$13m decrease.

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

32. Bart Corporation reports these balances in its accounting system. Determine the balance of the Retained Profits account.

 

Accounts Payable	$40	Loan Payable	$100
Land and buildings	320	Supplies Inventory	8
Notes Payable	16	Owners’ Equity	220
Equipment	140	Interest Payable	4
Cash	80	Retained Profits	?
Accounts Receivable	120
Inventory	72

 

A.	$360
B.	$580
C.	$620
D.	$780

 

 

ANS:  A                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

33. Double-entry bookkeeping is based on a rule known as:

A.	accrual accounting.
B.	going concern principle.
C.	the principle of duality.
D.	the business entity principle.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   A simple balance sheet

 

34. When applying the principle of duality to the balance sheet equation, an increase in assets will not normally result in:

A.	an increase in liabilities.
B.	an increase in another asset.
C.	an increase in owners’ equity.
D.	a decrease in another asset.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

35. Which of the following is not a characteristic of a worksheet?

A.	It is set out in the form of the balance sheet equation.
B.	It provides a vehicle for recording accounting transactions.
C.	It requires the use of a computerised system to ensure accuracy.
D.	It applies the principles of double-entry bookkeeping.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

36. Two transactions are recorded incorrectly in a worksheet. The first error is a transaction of $1000 which is recorded twice on the assets side of the worksheet. The second error is a transaction of $500 recorded only on the assets side of the worksheet. What will be the difference between the assets side of the worksheet and the liabilities + owners’ equity side of the worksheet?

A.	$500
B.	$1500
C.	$2000
D.	$2500

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The worksheet

 

37. Which of the following errors will not cause an imbalance in the worksheet?

A.	A single-entry or double-entry error.
B.	Not recording a transaction or recording a transaction twice.
C.	A subtraction or transposition error.
D.	An addition or subtraction error.

 

 

ANS:  B                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

38. A common error encountered when examining a worksheet that does not balance is the discovery that the error is mathematically divisible by nine. This type of error is commonly referred to as:

A.	an addition or subtraction error.
B.	a single-entry error.
C.	a transposition error.
D.	a double-entry error.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

39. During an accounting period, a transaction occurred involving the purchase of equipment for $9000. On reviewing the worksheet, it was discovered that the transaction had not been recorded. The most likely reason that the omission was picked up is:

A.	the worksheet did not balance by $9000.
B.	the imbalance was divisible by 9.
C.	the omission was picked up by a diligent bookkeeper.
D.	the worksheet did not balance by $4500.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

40. A Ltd sold a car for $75,000 which it had recorded in its accounts at $60,000. The effect on A Ltd’s accounts is:

 

Assets                  Liabilities             Equity

A.	increase                 no change             increase
B.	decrease                decrease               increase
C.	increase                 no change             no change
D.	no change              decrease               no change

 

 

ANS:  A                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

41. The worksheet is a form of:

A.	journal.
B.	financial statement.
C.	working paper.
D.	ledger.

 

 

ANS:  C                    PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The worksheet

 

42. Aria was trying to determine the amount of total equity in her music business. An exclusive list of accounts is listed below:

 

Piano	$12,000
Cash	$2000
Office equipment	$4000
Bank overdraft	$2000
Profit for the period	$2000

 

Based on this information, the total owner’s equity in Aria’s business was:

A.	$2000
B.	$10,000
C.	$14,000
D.	$16,000

 

 

ANS:  D                    PTS:   1                    AACSB:                   Analytical

TOP:   The balance sheet equation

 

SHORT ANSWER

 

1. What is meant by the concept of duality? Illustrate your answer with respect to the following three transactions (events):

• Entity paid wages for services provided in the preceding fortnight.
• Entity issued shares for land.
• Entity paid $30,000 cash for equipment to be used in the business

 

ANS:

The concept of duality refers to the fact that all events (transactions) have a two-fold effect on the accounting equation. With respect to three examples provided: (i) wages: decrease assets (cash), decrease owners equity (increase in expenses); (ii) equity issue: increase assets (land); increase owners’ equity (share capital); (iii) equipment: decrease assets (cash) and increase assets (equipment).

 

PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   The balance sheet equation

 

2. Briefly describe four sources of the common types of errors that may be made in recording transactions (events) in the worksheet.

 

ANS:

(i) single-entry error i.e., the incomplete application of the principle of duality; (ii) double-entry errors i.e., duality is applied incorrectly; (iii) errors of addition and subtraction; and (iv) errors of transposition.

 

PTS:   1                    AACSB:                   Knowledge, Analytical, Communication

TOP:   The worksheet

 

3. What is the operating cycle of a business? How does this impact the classification of assets into current and non-current categories?

 

ANS:

Operating cycle: refers to the time between the acquisition of materials entering into a process and the realisation of the materials as cash or an instrument that is readily convertible into cash (e.g., a financial asset, such as accounts receivable). The concept plays an important part in distinguishing current and non-current assets, in that assets that are expected to be realised or are held for sale or consumption in the normal course of the entity’s operating cycle represent current assets. All assets other than current assets are classified in non-current assets.

 

PTS:   1                    AACSB:                   Knowledge, Analytical, Communication

TOP:   Elements of the balance sheet

 

4. What role does the business entity principle play in accounting for the transactions, assets and liabilities of an entity?

 

ANS:

The business entity principle holds that the business is a separate entity from the owner, all business transactions are entered into from the perspective of the business, the assets are considered to be the resources of the business entity and the liabilities and owners’ equity claims on those assets.

 

PTS:   1                    AACSB:                   Knowledge, Analytical, Communication

TOP:   Definition of the balance sheet

 

5. At 30 June 2011, the non-current asset section of the balance sheet of Qantas included leasehold aircraft and engines valued at cost, $4947 million, written-down value $3159 million.

 

(a)	Explain how the definition and recognition criteria of assets would be met in order for Qantas to report the aircraft as assets in the balance sheet?
(b)	How is written-down value calculated?

 

 

ANS:

(a)

Definition: future economic benefits – revenue from the provision of transport; control – the aircraft are fundamental to the company’s objectives/operations, and the lease agreements must vest in the company the capacity to deny and/or regulate the access of others, including, all other things being equal, the lessor; past event – striking of lease agreement.   Recognition: Qantas would need to have determined that it was probable that economic benefits would accrue to the organisation (demand for its services), and the monetary measure placed on the aircraft would need to be reliable (without undue error or bias).

(b)

Written-down value: cost less accumulated depreciation (amortisation).

 

 

PTS:   1                    AACSB:                   Knowledge, Analytical

TOP:   Elements of the balance sheet

 

6. What are the three components of the balance sheet? Briefly discuss each.

 

ANS:

The three components of the balance sheet are assets, liabilities, and owners’ equity.

 

Assets are an entity’s economic resources that will provide future benefits to the entity. Examples include cash, accounts receivable, inventory, land, and equipment.

 

Liabilities are the economic obligations of an entity. Examples include accounts payable, wages payable, and salaries payable.

 

Owner’s equity is the owners’ current investment in the assets of the entity. The owners’ equity is a residual interest, because creditors have first claim to the assets of the entity.

 

PTS:   1                    AACSB:                   Knowledge, Analytical, Communication

TOP:   Elements of the balance sheet

 

PROBLEM

 

1. Identify the impact of the following events on the balance sheet equation.

a The owner pays $3000 into the business bank account.

b The business acquires equipment for $8000, paying a $3000 deposit, with the balance payable in 90 days.

c The business provides services for $850 cash.

d Paid salaries and wages $2300.

e The business provides a potential customer with a quote of $900 for the provision of services.

f The business purchases supplies for $385 cash.

 

ANS:

a: increase assets (cash); increases owners equity (capital).

b: increase assets (equipment); decrease assets (cash); increase liabilities.

c: increase assets (cash); increase owner’s equity (revenue).

d: decrease assets (cash); decrease owner’s equity (expense).

e: no effect on the balance sheet equation.

f: increase assets (supplies); decrease assets (cash).

 

PTS:   1                    AACSB:                   Analytical                 TOP:   Balance sheet equation

 

2. X Ltd sold 2000 computers in June 20X0. The terms of sale included a 12-month warranty. The warranty provides that X Ltd will meet the cost of repairs that are associated with faulty parts attributable to manufacture. Past experience indicates that 10% of computer sales lead to warranty claims at an average cost of $70 for parts and $100 for labour, per computer.

 

Discuss whether the warranty commitment would meet the definition and recognition criteria of a liability to the firm at 30 June 20X0.

 

ANS:

Definition: the warranty commitment represents an existing legal obligation involving a future outflow of economic benefits, to another entity (customers), arising out of a past event (sale).

Recognition: The details of the case suggest that outflow is probable (‘past experience indicates …’); and the measurement is reliable ((2000) (0.10) ($170)) = $34,000.

 

PTS:   1                    AACSB:                   Analytical, Communication

TOP:   Elements of the balance sheet

 

3. Xavier Plata operates a small manufacturing business, trading under the name of Plata Products.  The following list of financial data relates to the business as at 30 June 20X0.

 

Cash Receivables Inventories Prepaid insurance Intangibles

131,950 70,300 13,026 1500 8750

Plant & equipment (net) Accounts payable Salaries payable Interest-bearing, long-term Borrowings Contributed capital Retained profits

183,000 8500 1450   155,000 198,626 44,950

 

Additional information

·	Receivables will be collected within 12 months of 30 June 20X0.
·	30% of the figure for interest-bearing borrowings is payable within 12 months of 30 June 20X0.

 

Required

Prepare a fully classified balance sheet for Plata Products as at 30 June 20X0.

 

 

ANS:

 

Plata Products

Balance Sheet

As at June 30 20X0

Current Assets Cash Receivables Inventories Prepayments Total current assets   Non-current assets Plant & equipment Intangibles Total non-current assets Total assets   Current liabilities Accounts payable Salaries payable Interest-bearing borrowings Total current liabilities   Non-current liabilities Interest-bearing borrowings Total non-current liabilities Total liabilities Net Assets Equity Contributed equity Retained profits Total owners’ equity

131,950 70,300 13,026 1500     183,000 8750         8500 1450 46,500       108,500         198,626 44,950

216,776         191,750             56,450       108,500

408,526                     164,950 243,576       243,576

 

 

PTS:   1                    AACSB:                   Analytical                 TOP:   Influences on the format of the balance sheet

 

CASE

 

1. In June 2002 WorldCom, a US telecommunications firm, announced that it had misreported financial information in previous accounting periods – to the sum of USD $3.9 billion – by recording routine operating expenses as capital expenditure.

 

Discuss

(a)	The impact of the treatment on the financial statements.
(b)	The possible reasons for management’s accounting policy choice.
(c)	Whether any party is likely to suffer from the misrepresentation.

 

 

ANS:

(a)	The treatment would have the effect of understating expenses and as a result overstating profits; and overstating assets and equity.
(b)	Possible reasons:
	· from the perspective of the economic consequences literature (chapter 1), the policy may be linked to:
	(i) management’s compensation plans vis-a-vis remuneration tied to performance bonuses and/or share prices;
	(ii) debt contracts vis-a-vis restrictive debt covenants associated with the debt to equity (assets) ratio and EBIT ratio.
	· Management’s desire to misrepresent profits in order to meet market expectations, possibly driven by forecast growth targets.
(c)	Parties likely to suffer from the misrepresentation would include those who have used the associated information for the purposes of making decisions associated with the allocation of scarce resources e.g., shareholders and analysts (decisions to hold or sell shares); lenders; employees; and suppliers. Ultimately, senior executives, directors and auditors vis-a-vis reputation and potential financial losses from civil proceedings.

 

 

PTS:   1                    AACSB:                   Ethics, Communication, Analytical

TOP:   Chapter 5/Chapter 1

 

ESSAY

 

1. The balance sheet includes information on the resources, financial structure, solvency and adaptability of a reporting entity. Discuss.

 

ANS:

Issues for discussion

Balance sheet: a general purpose financial statement designed to provide information on the following:

·	Resources (assets) under the control of the entity at the reporting date. The statement would include the measurement and classification of assets – by nature and grouping vis-a-vis solvency.
·	Financial structure identifies the basis for funding the resources – the mix of debt and equity.
·	Solvency: the capacity of the entity to met its financial commitments in the short and long-term.
·	Reporting entity: an entity where there exists users who in their own right do not have the authority to access financial information to meet their information needs and as such they are dependent users e.g., shareholders, customers, suppliers and employees.

 

 

PTS:   1                    AACSB:                   Knowledge, Communication

TOP:   Definition and purpose of the balance sheet