Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
COMP4-2. (continued)
Req. 7
(a) Current ratio = Current assets Current liabilities
= $49,000 $44,000
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CP4–1.
1. American Eagle paid $99,756 thousand in income taxes in its 2011 fiscal year, as
disclosed in note 2 under “Supplemental Disclosures of Cash Flow Information.”
2. The quarter ended January 28, 2012, was its best quarter in terms of sales at
$1,042,727,000 (this quarter covered the holiday shopping season, the biggest part
4. As disclosed in Note 6, Accounts Receivable consists of (in thousands):
Franchise receivable
20,108
Marketing cost reimbursement
4,182
Gift card receivable
4,113
Landlord construction allowances
3,672
Insurance claims receivable
2,071
Merchandise sell-offs
1,955
Taxes
1,076
Other
3,133
Total
$40,310
5. Total asset turnover ratio (dollars are in thousands):
Fiscal year
Ended
Sales
Revenue
Average
Total Assets*
=
Total Asset
Turnover
1-28-2012
$3,159,818
($1,879,998 +$1,950,802)/2
$1,915,400
=
1.650
1-29-2011
$2,967,559
($2,138,148 + $1,879,998)/2
$2,009,073
=
1.477
1-30-2010
$2,940,269
($1,963,676 + $2,138,148)/2
$2,050,912
=
1.434
*Total assets are found in Item 6 of the fiscal year ended 2012 10–K.
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–3.
2.
American Eagle Outfitters
Urban Outfitters
Year
Ended
Advertising
Expense /
Net Sales
Advertising
Expense /
Net Sales
2012
73,100 / 3,159,818
2.3%
71,684 / 2,473,801
2.9%
2011
64,900 / 2,967,559
2.2%
58,336 / 2,274,102
2.6%
2010
60,900 / 2,940,269
2.1%
46,827 / 1,937,815
2.4%
Urban Outfitters incurred the higher percentage in all three years. Both firms
increased advertising expense each year, and both firms also increased advertising
expense as a percentage of sales each year.
3.
Industry
Average
American Eagle
Outfitters
Urban
Outfitters
Advertising/Sales =
5.55%
2.3%
2.9%
Both American Eagle and Urban Outfitters are spending less on advertising as a
percentage of sales than the average company in the industry. This might imply that
they are more effective at generating fewer sales per dollar spent on advertising.
Another interpretation is that they are weak in supporting their brand, and sales will
eventually decrease as their brands lose value.
4. Both accounting policies are similar indicating that advertising costs are expensed
when the marketing campaigns become publicly available. Urban Outfitters
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–4.
Account
2014
Balance
Financial
Statement
Effect on
Cash Flows
1. Rent revenue
$510,000
Income statement
+ $500,000
2. Salary expense
73,000
Income statement
− 70,000
3. Maintenance supplies expense
13,000
Income statement
No effect
4. Rent receivable
10,000
Balance sheet
No effect
5. Receivables from employees
2,000
Balance sheet
− 2,000
6. Maintenance supplies
2,000
Balance sheet
− 8,000
7. Unearned rent revenue
14,000
Balance sheet
+14,000
8. Salaries payable
3,000
Balance sheet
− 6,000
(1)
Rent Revenue
(2)
Salary Expense
(3) Maintenance
Supplies Expense
500,000 (a)
(e) 70,000
Used 13,000
10,000 (b)
(f) 3,000
510,000
73,000
13,000
(4)
Rent Receivable
(5) Receivables
from Employees
(6) Maintenance
Supplies
(b) 10,000
(g) 2,000
(h) 7,000
(i) 8,000
13,000 used
10,000
2,000
(j) 2,000
(7) Unearned
Rent Revenue
(8)
Salaries Payable
14,000 (c)
(d) 6,000
6,000 Bal.
Inferred
3,000 (f)
14,000
3,000
6,000 (d) to employees
2,000 (g) to employees
8,000 (i) to suppliers
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–5. (continued)
Req. 3
Closing Entry on December 31, 2014:
Service revenue (from the adjusted trial balance) (−R) ……… 224,000
Retained earnings (+SE) …………………………………….. 40,480
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–6. (continued)
Transaction (c):
1. This transaction will directly affect Carey’s financial statements for two years, with
the expense incurred in 2016 and the cash payment in 2017.
2. The $7,500 should be reported as wage expense in the 2016 income statement and
as a liability on the 2016 balance sheet. On January 5, 2017, the liability will be
3. Yes, an adjusting entry must be made to (a) record the $7,500 as an expense in
2016 (matching principle) and (b) to record the liability which will be paid in 2017.
December 31, 2016—Adjusting entry:
2. Recognition of revenue earned but not collected by the end of 2016 requires an
adjusting entry. This adjusting entry is necessary to (a) record the revenue earned
3. February 15, 2017—Completion of the last phase of the service contract and cash
collected in full:
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CP4–7.
Req. 1
CRYSTAL’S DAY SPA AND SALON, INC.
Income Statement
For the Year Ended December 31, 2015
Items
Cash
Basis Per
Crystal’s
Statement
Explanation of Changes
Corrected
Basis
Revenues:
Spa fees
$1,215,000
See * below.
$1,102,000
Expenses:
Office rent
130,000
Exclude rent for Jan. 2016 ($130,000 ÷ 13) (g)
120,000
Utilities
43,600
No change
43,600
Telephone
12,200
See ** below.
11,800
Salaries
562,000
Add December 2015 salary ($18,000 ÷ 12) (e)
563,500
Supplies
31,900
See *** below.
29,825
Miscellaneous
12,400
No change
12,400
Depreciation
0
Given for 2015 (c)
20,500
Total expenses
792,100
801,625
Net income
$ 422,900
$ 300,375
*
Cash collected for spa fees
$1,215,000
Fees earned in prior years (a)
-142,000
Fees earned in 2015 but not yet collected (b)
+ 29,000
Fees earned in 2015
$1,102,000
**
$12,200 telephone paid + $1,400 December 2015 telephone bill – $1,800
December 2014 bill paid in 2015 = $11,800
***
Supplies (d)
Beg. 3,125
Purchases 31,900
29,825 Used
End. 5,200
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–7. (continued)
Req. 2
Memo to Crystal Mullinex should include the following:
(1) Net income was overstated by $122,525 because of inappropriate recognition of
revenue (overstated by $113,000) and expenses (understated by $9,525).
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CP4–8.
Req. 1
2015
Adjusting Entries
Debit
Credit
12/31
(a)
Supplies expense (+E, −SE)…………………
2,200
Supplies (−A)……………………………….
2,200
($4,000 – $1,800 = $2,200)
(b)
Insurance expense (+E, −SE)…………………….
3,000
Prepaid insurance (−A)……………………
3,000
($6,000 ÷ 2 years)
(c)
Depreciation expense (+E, −SE)…………………
8,000
Accumulated depreciation (+XA, −A)…….
8,000
(d)
Salaries expense (+E, −SE)…………………………
3,200
Salaries payable (+L)………………………
3,200
(e)
Transportation revenue (−R, −SE) ………
7,000
Unearned transportation revenue (+L)……
7,000
Transportation revenue is too high and needs to be
reduced and an Unearned Revenue account
created for the appropriate amount.
(f)
Income tax expense (+E, −SE)……………………
5,110
Income tax payable (+L)……………………
5,110
To record 2014 income tax computation:
Transportation revenue: $85,000 − $7,000 = $78,000
Expenses: $47,000 + $2,200 + $3,000
+ $8,000 + $3,200 = 63,400
Pretax income $14,600
Income tax expense: $14,600 x 35% = $ 5,110
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–8. (continued)
Req. 2
STOSCHECK MOVING CORPORATION
Corrections to 2015 Financial Statements
Amounts
Reported
Changes
Debit Credit
Corrected
Amounts
2015 Income Statement:
Revenue:
Transportation revenue
$ 85,000
e
7,000
$ 78,000
Expenses:
Salaries expense
17,000
d
3,200
20,200
Supplies expense
12,000
a
2,200
14,200
Other expenses
18,000
18,000
Insurance expense
0
b
3,000
3,000
Depreciation expense
0
c
8,000
8,000
Income tax expense
0
f
5,110
5,110
Total expenses
47,000
68,510
Net income
$ 38,000
$ 9,490
December 31, 2015, Balance Sheet
Assets:
Current Assets:
Cash
$ 2,000
$ 2,000
Receivables
3,000
3,000
Supplies
4,000
a
2,200
1,800
Prepaid insurance
6,000
b
3,000
3,000
Total current assets
15,000
9,800
Equipment
40,000
40,000
Less: Accumulated deprec.
0
c
8,000
(8,000)
Remaining assets
27,000
27,000
Total assets
$82,000
$68,800
Liabilities:
Current Liabilities:
Accounts payable
$ 9,000
$ 9,000
Salaries payable
0
d
3,200
3,200
Unearned transportation revenue
0
e
7,000
7,000
Income tax payable
0
f
5,110
5,110
Total current liabilities
9,000
24,310
Stockholders’ Equity
Common stock
35,000
35,000
Retained earnings
38,000
9,490
Total stockholders’ equity
73,000
44,490
Total liabilities and stockholders’
equity
$82,000
$68,800
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CP4–8. (continued)
Req. 5
To the Stockholders of Stoscheck Moving Corporation:
We regret to inform you that your request for a $30,000 loan has been denied.
Our review showed that various adjustments were required to the original set of
investments may also be considered viable collateral if you are willing to sign an
agreement pledging these assets as collateral for the loan. This is a common
requirement for small start-up businesses.
If you would like us to reconsider your application, please provide us the current market
CP4–9.
Req. 1 Cash from Operations: $36,000
Req. 2 Subscriptions Revenue for fiscal year ended March 31, 2016
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CP4–9. (continued)
Req. 4
Adjusting entry (cash receipt credited to Unearned Subscriptions Revenue):
Unearned Subscriptions Revenue (L)
Subscriptions Revenue (R)
9/1 36,000
AJE 7,000
AJE 7,000
End. 29,000
End. 7,000
Unearned subscriptions revenue (−L) ……………………. 7,000
Subscriptions revenue (+R, +SE) ……………….. 7,000
Req. 5
a. $9,000 revenue target based on cash sales:
This target is not clearly defined. Does management mean any cash
subscriptions received during the period? Your region generated $36,000 in
cash subscriptions. By this assumption, your region far exceeded the company’s
target. You may be entitled to a generous bonus due to your strong
performance.
On the other hand, management may mean any sales revenue earned that has
also been received in cash during the period. Under this assumption, sales
revenue earned and received in cash is $7,000 (the accrual accounting basis
amount). If this is the company’s intention of its target, then your region did not
meet the goal, only generating 77.8% of the target. You may need to provide an
analysis to management regarding this below par performance.
This example demonstrates the need for clear communication of expectations by
management.
b. $9,000 revenue target based on accrual accounting:
Chapter 04 – Adjustments, Financial Statements, and the Quality of Earnings
CONTINUING CASE
CC4–1.
Adjusting Entries:
Debit
Credit
a.
Wages expense (+E, –SE)
7,500
Wages payable (+L)
7,500
b.
Unearned revenue (-L)
4,000
Cleaning service revenue (+R, +SE)
4,000
Amount: $24,000 x 2/12 = $4,000 earned
c.
Utilities expense (+E, –SE)
520
Utilities payable (+L)
520
d.
Interest expense (+E, –SE)
2,000
Interest payable (+L)
2,000
Amount: $30,000 principal x .10 x 8/12 months
e.
Accounts receivable (+A)
800
Cleaning service revenue (+R, +SE)
800
f.
Insurance expense (+E, –SE)
875
Prepaid insurance (-A)
875
Amount: $4,200 x 5/24 months
g.
Supplies expense (+E, –SE)
22,300
Supplies (-A)
22,300
Amount: $2,400 beginning + $23,000
purchased – $3,100 ending = $22,300 used
h.
Depreciation expense (+E, –SE)
8,300
Accumulated depreciation (+XA, –A)
8,300
i.
Interest receivable (+A)
110
Interest revenue (+R, +SE)
110