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Chapter 1 Soluiton
Financial Accounting (ACCT90013)
University of Melbourne
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Chapter 1
Accounting in Business
QUESTIONS
The purpose of accounting is to provide decision makers with relevant and reliable information to help them make better decisions. Examples include information for people making investments, loans, and business plans.
Technology reduces the time, effort, and cost of recordkeeping. There is still a demand for people who can design accounting systems, supervise their operation, analyze complex transactions, and interpret reports. Demand also exists for people who can effectively use computers to prepare and analyze accounting reports. Technology will never substitute for qualified people with abilities to prepare, use, analyze, and interpret accounting information.
External users and their uses of accounting information include: (a) lenders, to measure the risk and return of loans; (b) shareholders, to assess whether to buy, sell, or hold their shares; (c) directors, to oversee their interests in the organization; (d) employees and labor unions, to judge the fairness of wages and assess future employment opportunities; and (e) regulators, to determine whether the organization is complying with regulations. Other users are voters, legislators, government officials, contributors to nonprofits, suppliers and customers.
Business owners and managers use accounting information to help answer questions such as: What resources does an organization own? What debts are owed? How much income is earned? Are expenses reasonable for the level of sales? Are customers’ accounts being promptly collected?
Service businesses include: Standard and Poor’s, Dun & Bradstreet, Merrill Lynch, Southwest Airlines, CitiCorp, Humana, Charles Schwab, and Prudential. Businesses offering products include Nike, Reebok, Gap, Apple Computer, Ford Motor Co., Philip Morris, Coca-Cola, Best Buy, and Circuit City.
The internal role of accounting is to serve the organization’s internal operating functions. It does this by providing useful information for internal users in completing their tasks more effectively and efficiently. By providing this information, accounting helps the organization reach its overall goals.
Accounting professionals offer many services including auditing, management advice, tax planning, business valuation, and money management.
Marketing managers are likely interested in information such as sales volume, advertising costs, promotion costs, salaries of sales personnel, and sales commissions.
Accounting is described as a service activity because it serves decision makers by providing information to help them make better business decisions.
Some accounting-related professions include consultant, financial analyst, underwriter, financial planner, appraiser, FBI investigator, market researcher, and system designer.
Ethics rules require that auditors avoid auditing clients in which they have a direct investment, or if the auditor’s fee is dependent on the figures in the client’s reports. This will help prevent others from doubting the quality of the auditor’s report.
In addition to preparing tax returns, tax accountants help companies and individuals plan future transactions to minimize the amount of tax to be paid. They are also actively involved in estate planning and in helping set up organizations. Some tax accountants work for regulatory agencies such as the IRS or the various state departments of revenue. These tax accountants help to enforce tax laws.
The objectivity concept means that financial statement information is supported by independent, unbiased evidence other than someone’s opinion or imagination. This concept increases the reliability and verifiability of financial statement information.
This treatment is justified by both the cost principle and the going-concern assumption.
The revenue recognition principle provides guidance for managers and auditors so they know when to recognize revenue. If revenue is recognized too early, the business looks more profitable than it is. On the other hand, if revenue is recognized too late the business looks less profitable than it is. This principle demands that revenue be recognized when it is both earned (when service or product provided) and can be measured reliably. The amount of revenue should equal the value of the assets received or expected to be received from the business’s operating activities covering a specific time period.
Business organizations can be organized in one of three basic forms: sole proprietorship, partnership, or corporation. These forms have implications for legal liability, taxation, continuity, number of owners, and legal status as follows: Proprietorship Partnership Corporation Business entity yes yes yes Legal entity no no yes Limited liability no* no* yes Unlimited life no no yes Business taxed no no yes One owner allowed yes no yes *Proprietorships and partnerships that are set up as LLCs provide limited liability.
(a) Assets are resources owned or controlled by a company that are expected to yield future benefits. (b) Liabilities are creditors’ claims on assets that reflect obligations to provide assets, products or services to others. (c) Equity is the owner’s claim on assets and is equal to assets minus liabilities. (d) Net assets refer to equity.
Equity is increased by investments from the owner and by net income (which is the excess of revenues over expenses). It is decreased by withdrawals by the owner and by a net loss (which is the excess of expenses over revenues).
31 B. An organization’s financing activities (liabilities and equity) pay for investing activities (assets). An organization cannot have more or less assets than its liabilities and equity combined and, similarly, it cannot have more or less liabilities and equity than its total assets. This means: assets = liabilities + equity. This relation is called the accounting equation (also called the balance sheet equation), and it applies to organizations at all times.
The dollar amounts in Research In Motion’s financial statements are rounded to the nearest thousand ($1,000). Research In Motion’s consolidated statement of earnings (or income statement) covers the fiscal year (consisting of 52 weeks) ended February 27, 2010. Research In Motion also reports comparative income statements for the previous two years (consisting of 52 weeks).
At September 26, 2009, Apple had ($ in millions) assets of $47,501, liabilities of $15,861, and equity of $31,640.
Confirmation of Nokia’s accounting equation follows (numbers in EUR millions):
Assets = Liabilities + Equity 35,738 = 20,989 + 14,
- The independent auditor for Palm, Inc., is Deloitte and Touché LLP. The auditor expressly states that “our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.” The auditor also states that “these consolidated financial statements and financial statement schedule are the responsibility of the Company’s management.”
QUICK STUDIES
Quick Study 1-
(a) and (b)
GAAP: Generally Accepted Accounting Principles Importance: GAAP are the rules that specify acceptable accounting practices.
SEC: Securities and Exchange Commission Importance: The SEC is charged by Congress to set reporting rules for organizations that sell ownership shares to the public. The SEC delegates part of this responsibility to the FASB.
FASB: Financial Accounting Standards Board Importance: FASB is an independent group of full-time members who are responsible for setting accounting rules.
IASB: International Accounting Standards Board. Importance: Its purpose is to issue standards that identify preferred practices in the desire of harmonizing accounting practices across different countries. The vast majority of countries and financial exchanges support its activities and objectives.
IFRS: International Financial Reporting Standards. Importance: A global set of accounting standards issued by the IASB. Many countries require or permit companies to comply with IFRS in preparing their financial statements. The FASB is undergoing a process with the IASB to converge GAAP and IFRS and to create a single set of accounting standards for global use.
Quick Study 1-
a. E g. E b. I h. E c. E i. E d. I j. I e. E k. E f. E l. E
Quick Study 1-
Accounting professionals practice in at least four main areas. These four areas, along with a listing of some work opportunities in each, are:
Financial accounting Preparation Analysis Auditing (external) Consulting Investigation
Managerial accounting Cost accounting Budgeting Auditing (internal) Consulting
Tax accounting Preparation Planning Regulatory Consulting Investigation
Accounting-related Lending Consulting Analyst Investigator Appraiser
Quick Study 1-
The choice of an accounting method when more than one alternative method is acceptable often has ethical implications. This is because accounting information can have major impacts on individuals’ (and firms’) well-being.
To illustrate, many companies base compensation of managers on the amount of reported income. When the choice of an accounting method affects the amount of reported income, the amount of compensation is also affected. Similarly, if workers in a division receive bonuses based on the division’s income, its computation has direct financial implications for these individuals.
Quick Study 1-
a. Cost principle (also called historical cost) b. Business entity assumption c. Revenue recognition principle
Quick Study 1-
Assets = Liabilities + Equity
$40,000 (a) $30,000 $10, $55,000 (b) $27,500 (b) $27,
Quick Study 1-
Assets = Liabilities + Equity
$30,000 (a) $10,000 $20,
(b) $80,000 $ 50,000 $30,
$90,000 $ 10,000 (c) $80,
Quick Study 1-
[Code: Income statement (I), Balance sheet (B), Statement of owner’s equity (OE), or Statement of cash flows (CF).]
a. B d. B g. B b. I e. OE (and CF*) h. CF c. B f. I i. CF
*The more advanced student might know that this item would also appear in CF.
Quick Study 1-13 (10 minutes)
a. International Financial Reporting Standards (IFRS)
b. Convergence desires to achieve a single set of accounting standards for global use.
c. The SEC roadmap proposes that large U. companies adopt IFRS by 2014.
EXERCISES
Exercise 1-1 (10 minutes)
I 1. Determining employee tasks behind a service I 2. Establishing revenues generated from a product R 3. Maintaining a log of service costs R 4. Measuring the costs of a product C 5. Preparing financial statements C 6. Analyzing and interpreting reports C 7. Presenting financial information
Exercise 1-2 (20 minutes)
Part A.
E 5. I
E 6. I
E 7. I
I 8. I
Part B.
I 5. I
E 6. E
I 7. I
E
Exercise 1-3 (10 minutes)
B 5. A
C 6. A
C 7. B
B 8. A
Exercise 1-6 (10 minutes)
Code Description Principle or Assumption
G 1. Revenue is recorded only when the earnings process is complete.
Revenue recognition principle
A 2. Information is based on actual costs incurred in transactions.
Cost principle
C 3. Usually created by a pronouncement from an authoritative body.
Specific accounting principle
H 4. Financial statements reflect the assumption that the business continues operating.
Going-concern assumption
D 5. A company reports details behind financial statements that would impact users' decisions.
Full disclosure principle
B 6. A company records the expenses incurred to generate the revenues reported.
Matching (expense recognition) principle
E 7. Derived from long-used and generally accepted accounting practices.
General accounting principle
F 8. Every business is accounted for separately from its owner or owners.
Business entity assumption`
Exercise 1-7 (10 minutes)
a. Corporation e. Partnership b. Corporation f. Sole proprietorship c. Sole proprietorship g. Sole proprietorship d. Corporation
Exercise 1-8 (20 minutes)
a. Using the accounting equation: Assets = Liabilities + Equity $123,000 = $53,000 +? Thus, equity = $70,
b. Using the accounting equation at the beginning of the year: Assets = Liabilities + Equity $200,000 =? + $150, Thus, beginning liabilities = $50,
Using the accounting equation at the end of the year: Assets = Liabilities + Equity $200,000 + $70,000 = $50,000 + $30,000 +? $270,000 = $80,000 +? Thus, ending equity = $190,
Alternative approach to solving part (b): Assets($70,000) = Liabilities($30,000) + Equity(?) where “” refers to “change in.” Thus: Ending Equity = $150,000 + $40,000 = $190,
c. Using the accounting equation at the end of the year: Assets = Liabilities + Equity $180,000 = $60,000 - $10,000 +? $180,000 = $50,000 + $130, Using the accounting equation at the beginning of the year: Assets = Liabilities + Equity $180,000 - $80,000 = $60,000 +? $100,000 = $60,000 +? Thus: Beginning Equity = $40,
Exercise 1-11 (30 minutes)
Cash +Accounts Receivable + Equip-ment = AccountsPayable + L. Gold,Capital –WithdrawalsL. Gold, +Revenues –Expenses
a. +$50,000 + $10,000 = + $60,
b. – 1,600 ______ ______ – $1, Bal. 48,400 + + 10,000 = + 60,000 – 1,
c. _______ + 12,000 +$12,000 ______ _____ Bal. 48,400 + + 22,000 = 12,000 + 60,000 – 1,
d. + 2,000 ______ _______ ______ + $2,000 _____ Bal. 50,400 + + 22,000 = 12,000 + 60,000 + 2,000 – 1,
e. _______ + $7,000 ______ _______ ______ + 7,000 _____ Bal. 50,400 + 7,000 + 22,000 = 12,000 + 60,000 + 9,000 – 1,
f. – 8,000 ______ + 8,000 _______ ______ _____ _____ Bal. 42,400 + 7,000 + 30,000 = 12,000 + 60,000 + 9,000 – 1,
g. – 2,400 ______ ______ _______ ______ _____ – 2, Bal. 40,000 + 7,000 + 30,000 = 12,000 + 60,000 + 9,000 – 4,
h. + 5,000 - 5,000 ______ _______ ______ _____ _____ Bal. 45,000 + 2,000 + 30,000 = 12,000 + 60,000 + 9,000 – 4,
i. – 12,000 ______ ______ – 12,000 ______ _____ _____ Bal. 33,000 + 2,000 + 30,000 = 0 + 60,000 + 9,000 – 4,
j. – 500 ______ ______ _______ ______ – $500 _____ _____ Bal. $32,500 + $2,000 + $30,000 = $ 0 + $60,000 – $500 + $9,000 – $4,
Exercise 1-12 (20 minutes)
a. Started the business with the owner investing $20,000 cash. b. Purchased office supplies for $1,500 by paying $1,000 cash and putting the remaining $500 balance on credit. c. Purchased office furniture by paying $8,000 cash. d. Billed a customer $3,000 for services earned.
e. Provided services for $500 cash.
Exercise 1-13 (15 minutes)
a. Purchased land for $2,000 cash.
b. Purchased $500 of office supplies on credit.
c. Billed a client $950 for services provided.
d. Paid the $500 account payable created by the credit purchase of office supplies in transaction b.
e. Collected $950 cash for the billing in transaction c.
Exercise 1-14 (15 minutes)
REAL SOLUTIONS
Income Statement For Month Ended October 31
Revenues: Consulting fees earned.................... $15, Expenses: Salaries expense.............................. $6,00 0 Rent expense.................................... 2,55 0 Miscellaneous expenses................. 680 Telephone expense.......................... 660 Total expenses................................. 9, Net income.................................................. $ 5,
Exercise 1-15 (15 minutes)
REAL SOLUTIONS Statement of Owner’s Equity For Month Ended October 31
N. King, Capital, Oct. 1..................................... $ 0 Add: Investments by owner........................ 74, Net income (from Exercise 1-14)............. 5, 79, Less: Withdrawals by owner........................... 3, N. King , Capital, Oct. 31.................................. $75,
Exercise 1-18 (10 minutes)
Return on assets = Net income / Average total assets
= $20,000 / [($100,000 + $150,000)/2] = 16%
Interpretation: Geneva Group’s return on assets of 16% is markedly above the 10% return of its competitors. Accordingly, its performance is assessed as superior to its competitors.
Exercise 1-19 (10 minutes)
A 1. Cash paid for wages A 5. Cash paid on an account payable
C 2. Cash withdrawal by owner C 6. Cash investment by owner
B 3. Cash purchase of equipment A 7. Cash received from clients
A 4. Cash paid for advertising A 8. Cash paid for rent
Exercise 1-20B (10 minutes)
F Financing*
I Investing
O Operating
F Financing
I Investing
*Would also be listed as “investing” if resources contributed by owner were in the form of non-financial resources.
Exercise 1-21 (20 minutes)
NINTENDO
Income Statement For Year Ended March 31, 2009
Net sales ...................................................................... ¥ 1,838, Expenses Cost of sales............................................................¥1,044, Selling, general and administrative expenses...... 238, Other expenses........................................................ 276, Total expenses......................................................... 1,559, Net income.................................................................... ¥ 279,
Chapter 1 Soluiton
Course: Financial Accounting (ACCT90013)
University: University of Melbourne
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