1-7
ANSWERS TO QUESTIONS – CHAPTER 1
1. Stakeholders are the parties that use accounting information.
Stakeholders with a direct interest include owners, managers, creditors, suppliers, and
employees. These individuals are directly affected by what happens to the business.
All students are direct users of accounting information related to tuition and fees,
financial aid, and account balances.
2. Accounting provides information that is useful in making decisions by all participants in
3. The primary mechanism used to allocate resources in the U.S. is competition for
resources in the open market.
5. The market for business resources involves three distinct participants: consumers,
6. Financial Resource: money
Physical Resource: natural resources (i.e. land, forests, mine ore, petroleum, etc.),
7. Investors expect a distribution of the business’s profits as a return on their financial
investment (capital allocation).
8. Financial accounting provides information that is useful to external resource providers.
1-8
9. Not-for-profit or nonprofit entities provide goods or services to consumers for
humanitarian or special reasons rather than to earn a profit for owners. For example,
10. The U.S. rules of accounting information measurement are called generally accepted
accounting principles (GAAP).
11. Careers in public accounting consist of providing services to the general public from a
public accounting firm. These services include auditing, tax and consulting services.
12. Items reported on the financial statements are organized into classes or categories called
elements. The ten elements of financial statements are:
1. Assets
2. Liabilities
13. Assets, the economic resources of a business, are used to produce earnings.
14. The assets of a business belong to that business entity and there may be claims on the
15. Creditors are individuals and/or institutions that have provided goods or services to the
16. The term “liabilities” is used to describe creditors’ claims on the assets of a business.
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Assets are the economic resources used by a business for the production of revenue.
18. The owners ultimately bear the risk and collect the rewards associated with operating a
business.
19. A double-entry bookkeeping system is one in which every transaction affects at least two
20. Capital is acquired from owners by issuing stock to them. When stock is issued, the assets
21. Assets that are acquired by issuing common stock are the result of investments by owners.
22. Revenue increases the asset side of the accounting equation and also increases the
retained earnings account in the stockholders’ equity section of the equation.
24. Retained earnings are a result of a business retaining its earned assets, rather than
25. Distributions to owners, called dividends, decrease the asset side of the accounting
26. Dividends and expenses are similar in that they both decrease assets and affect the
accounting equation in the same way (i.e. reduction of retained earnings). However,
27. (1) Income Statement – measures the difference between the asset increases and the
asset decreases that were associated with operating a business during a particular
accounting period.
(2) Statement of Changes in Stockholders’ Equity – explains the effects of transactions
1-10
(4) Statement of Cash Flows – explains how a company obtained and used cash during
the accounting period.
28. The balance sheet provides information about the enterprise at a particular point in time.
30. (1) Operating activities – explain the cash generated from revenue and the cash paid
for expenses.
31. Asset accounts are arranged on the balance sheet in accordance with their level of
liquidity (those that can be most quickly converted to cash are listed first).
33. Temporary accounts are used to capture information for a single accounting period. The
balances in temporary accounts are transferred out of the accounts at the end of the
34. The historical cost concept requires that most assets be reported at the amount paid for
35. An asset source transaction results in an increase in an asset account and an increase in
one of the claims accounts; i.e., investments by owners (equity), borrowing funds from
creditors (liabilities), or earnings activities (revenue).
A claims exchange transaction will be covered in a later chapter.
1-11
36. While the contents of annual reports vary from company to company, all annual reports
contain:
Auditor’s report
37. U.S. GAAP, generally accepted accounting principles in the United States, are the
measurement rules established by the (FASB) Financial Accounting Standards Board.
SOLUTIONS TO EXERCISES – SERIES A – CHAPTER 1
EXERCISE 1-1
The three types of resources available to conversion agents are:
Note to instructor:
The memo should discuss the fact that the resource owners are those who own resources that are
desired by others, either in the original form or in a converted form. The conversion agents are
It should also include a discussion of the role of the private accountant and the allocation of
resources. For example, private accountants prepare the annual reports that businesses
EXERCISE 1-2
a. The three areas of service provided by public accountants are auditing, tax and
consulting.
1-12
b. The private accountant generally works for a specific company. Some of the functions
c. EXERCISE 1-3
Entities
Ray Steen (personal account)
Steen Enterprises
First Bank
Stan Rhoades, father-in-law,
personal account
Zoro Realty Company
Steen Enterprises’ customers
Steen Enterprises’ employees
EXERCISE 1-4
Accounting Equation
Stockholders’ Equity
Common
Retained
Company
Assets
=
Liabilities
+
Stock
+
Earnings
A
142,000
=
30,000
+
50,000
+
62,000
B
50,000
=
15,000
+
10,000
+
25,000
C
85,000
=
20,000
+
25,000
+
40,000
D
215,000
=
60,000
+
100,000
+
55,000
EXERCISE 1-5
1-13
Stockholders’
Equity
Event
Number
Assets
=
Liabilities
+
Common
Stock
Retained
Earnings
1.
I
NA
I
NA
2.
I
NA
NA
I
3.
D
NA
NA
D
4.
D
D
NA
NA
5.
I/D
NA
NA
NA
6.
D
NA
NA
D
EXERCISE 1-6
a.
Foster Corp.
Accounting Equation for 2014
Assets
=
Liabilities
+
Stockholders’ Equity
Event
Cash
+
Land
=
Notes
Payable
+
Com.
Stock
+
Retained
Earnings
Acct.
Title/RE
Bal. 1/1/13
30,000
16,000
10,000
20,000
16,000
1. Pur. Land
(20,000)
20,000
NA
NA
NA
NA
2. Issued stk.
10,000
NA
NA
10,000
NA
NA
3. Provide Svc.
90,000
NA
NA
NA
90,000
Revenue
4. Paid Exp.
(65,000)
NA
NA
NA
(65,000)
Oper. Exp.
5. Loan
20,000
NA
20,000
NA
NA
NA
6. Paid Div.
(5,000)
NA
NA
NA
(5,000)
Dividend
7. Land Value
NA
NA
NA
NA
NA
NA
Totals
60,000
+
36,000
=
30,000
+
30,000
+
36,000
Assets
=
Liabilities
+
Stockholders’ Equity
$96,000
=
$30,000
+
$66,000
d. The balances of total assets, liabilities and stockholders’ equity will be the same on
January 1, 2015 as the balances on December 31, 2014. (See b. above)
e. EXERCISE 1-7
a.
Assets
=
Liabilities
+
Stockholders’ Equity
Cash
=
Note Payable
+
Common Stock
+
Retained Earnings
156,000
=
85,600
+
52,400
+
?
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b. & c.
Post Company
Effect of 2014 Transactions on the Accounting Equation
Assets
=
Liabilities
+
Stockholders’ Equity
Notes
Common
Retained
Event
Cash
=
Payable
+
Stock
+
Earnings
Beginning Balances
156,000
85,600
52,400
18,000
1. Earned Revenue
36,000
NA
NA
36,000
2. Paid expenses
(20,000)
NA
NA
(20,000)
3. Paid dividend
(3,000)
NA
NA
(3,000)
Ending Balance
169,000
=
85,600
+
52,400
+
31,000
d.
Cash
=
Note Payable
+
Common Stock
+
Retained Earnings
169,000
=
85,600
+
52,400
+
31,000
Assets = Liabilities + Stockholders’ Equity
$169,000 = $169,000
f. The beginning and ending balances in the cash account were $156,000 and $169,000
respectively. The beginning balance in the common stock account was $52,400. This
g. EXERCISE 1-8
a.
Assets
=
Liabilities
+
Stockholders’ Equity
Cash
Notes Payable
Salaries Expense
Land
Accounts Payable
Common Stock
Office Furniture
Utilities Payable
Service Revenue
Trucks
Interest Expense
Supplies
Utilities Expense
Computers
Operating Expenses
Building
Rent Revenue
Dividends
Supplies Expense
Gasoline Expense
Retained Earnings
Dividends
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b. No. The number of accounts will vary depending on the level of detail the reporting entity
chooses to provide, as well as the type of company and industry in which it operates. More
accounts provide financial statement users with more information about the reporting entity.
However, the cost of keeping records on many accounts often outweighs the benefit of
EXERCISE 1-9
a.
Cash
+
Land
=
Creditors
+
Stockholders’
Equity
$10,000
$ -0-
$4,000
$6,000
(9,000)
9,000
NA
NA
Bal.
$ 1,000
+
$9,000
=
$4,000
+
$6,000
b. Creditor’s Claim ÷ Total Assets = Percent of Total
$4,000 ÷ $10,000 = 40%
d. The company cannot repay the debt. The company owes the creditors $4,000 but has only
$1,000 cash. Note there is no actual money in the stockholders’ equity account. Indeed, there
creditors and stockholders. Indeed, the accounting equation could be written as:
Cash
+
Land
=
Creditors
+
Stockholders’
Equity
Bal.
$ 1,000
+
$9,000
=
40%
+
60%
All assets including any cash balances are shown on the left side of the equation.
EXERCISE 1-10
1-16
a. Dividends are paid to investors. The investor has an ownership interest in the business
b. There is no cash in the Retained Earnings account. Retained Earnings represents the
c. The amount of dividends that can be paid are limited to retained earnings. In addition, a
d. If the total amount of the liability of $7,000 is due, GreyCo. will not be able to satisfy the
e. If the land becomes worthless, the only asset remaining is the cash of $800. Since
f. EXERCISE 1-11
a. Creditors receive their $400 interest payment, leaving $500 ($900 – $400) to be paid as
dividends to the investors.
b. Creditors receive their $400 interest payment, leaving $100 ($500 – $400) to be paid as
c. Creditors receive their $400 interest payment. No dividend is paid to investors. In this case
the recognition of the interest expense will cause the company to have an after interest
Note that these answers are based on the customary characteristics of interest and dividends. In