Chapter 2
2.1 The balance sheet shows the financial condition or financial position of a company on a
particular date. The statement is a summary of what the firm owns (assets) and what the firm owes to
2.2 Each item on the balance sheet is expressed as a percentage of total assets.
2.3 The valuation of marketable securities on the balance sheet as well as other
1. Held to maturity applies to those debt securities that the firm has the positive
intent and ability to hold to maturity; these securities are reported at amortized
2. Trading securities are debt and equity securities that are held for resale in the
short term, as opposed to being held to realize longer-term gains from capital
3. Securities available for sale are debt and equity securities that are not classified as one of the
other two categories, either held to maturity or trading securities. Securities available for sale are
2.4 The estimation of the allowance for doubtful accounts affects both the valuation of accounts
receivable on the balance sheet and the amount of bad debt expense recognized on the income
2.5 Inventories are a significant proportion of the asset structure for most firms (service firms are an
2.6 Although LIFO generates a larger cost of goods sold expense and lower earnings in a period of
2.7 The FIFO method of inventory valuation will produce an inventory valuation closest to current
2.8 The straight-line method of depreciation spreads the expense evenly by periods, while the
accelerated methods yield higher depreciation expense in the early years of an asset’s life and lower
2.9 Listing the account “Commitments and contingencies” on the balance sheet will draw attention
2.10 The retained earnings account is the measurement of all undistributed earnings. The account
2.11
Tax Purposes
Reporting Purposes
Revenue
$800,000
$800,000
Expenses
550,000
480,000
Earnings before Taxes
$250,000
$320,000
Tax Expense (34%)
108,800
Net Income
$165,000
$211,200
Deferred Tax Liability
2.12 Treasury stock is shown as a reduction of shareholders’ equity. (Most companies use the cost
method rather than the par value method to account for treasury stock, so the cost of the treasury stock
2.13
Net sales
Total accounts receivables
Allowance for doubtful accounts
Allowance for doubtful accounts
Net Receivables + Allowance
Percentage of
Receivables
2013
$453
$176,917 + $453
0.26%
2012
$669
$168,732 + $669
Sales and accounts receivable have increased which is an expected pattern; however, it is unusual for
the allowance account to decrease. The allowance account as a percentage of total accounts receivables
indicates that the management at Zebra believes that a higher percentage of receivables will be
collected compared to prior years as evidenced by the drop in the allowance/accounts receivables ratio
allowance account of 453 may be a good estimate. It is possible that the management at Zebra
unintentionally overestimated the allowance account in 2011; however, it is also possible the firm is
using the allowance account as a way to manipulate net income. By overestimating one year, the firm
can correct the error in a later year by reducing the allowance account and causing an increase to net
2.14 (a) Information to be used for all methods of inventory valuation:
Units x Cost = Total
Beginning inventory 100 x $ 5 = $ 500
Total 600 $4,440
Sales for the year = 530 units
Ending inventory = 600 – 530 = 70 units
FIFO
COGS: EI:
100@$5 = $ 500 70@$8.50 = $ 595
140@$7 = $ 980
LIFO
COGS: EI:
160@$8.50 = $ 1,360 70@$5 = $ 350
200@$8 = $ 1,600
(b) FIFO
(c) LIFO
(d) During inflationary periods, LIFO assumes the last goods purchased have been sold and the first
goods purchased remain in ending inventory, therefore, LIFO produces an understated inventory
valuation on the balance sheet but a currently valued cost of goods sold on the income statement,
2.15 Information to be used for all methods of inventory valuation:
Units x Cost = Total
Beginning inventory 10,000 x $3.00 = $ 30,000
January 10 purchase 4,000 x 3.50 = 14,000
April 25 purchase 10,000 x 4.00 = 40,000
COGS: EI:
10,000@$3.00 = $ 30,000 7,000@$5.00 = $35,000
4,000@$3.50 = $ 14,000
10,000@$4.00 = $ 40,000 Check answer: COGS $116,000
LIFO (periodic)
COGS: EI:
8,000@$5.00 = $ 40,000 7,000@$3.00 = $21,000
6,000@$4.50 = $ 27,000
LIFO (perpetual)
COGS: EI:
Jan. 1 – Mar.31 Mar. 31
4,000@$3.50 = $14,000
4,000@$3.00 = $12,000 6,000@$3.00 = $18,000
Oct. 1 – Dec. 31 Dec. 31
8,000@$5.00 = $40,000 5,000@$3.00 = $15,000
1,000@$4.50 = $ 4,500 2,000@$4.50 = $ 9,000
Total COGS = $127,000 EI = $24,000
(b) LIFO produces an understated inventory valuation on the balance sheet but a currently valued
cost of goods sold on the income statement, matching current costs with current revenues; FIFO results
2.16
(a) FIFO is probably used for the rest of Chemco’s inventories. Companies using LIFO must disclose
the value of those inventories as if FIFO had been used, which Chemco has done in this case.
(b) Finished goods include inventories that are complete and ready for sale. Work in process is
comprised of inventories currently in the manufacturing process, but not yet complete. Raw materials
2.17 (a)
000,12$
5
000,60$=
per year
2.18 Using the equation from Chapter 2, the calculations to determine dividends are as follows:
Beginning retained
earnings
+
net income
–
dividends
=
Ending retained
earnings
2013
700
+
250
–
60
=
890
890
2.19
Chester Co.
Balance Sheet at December 31, 20XX
Assets
Current Assets
Cash
$1,500
Accounts receivable
6,200
Inventory
12,400
Prepaid expenses
Total Current Assets
Property, plant and equipment
Less accumulated depreciation
Property, plant and equipment, net
Land held for sale
9,200
Total Assets
Liabilities and stockholders’ equity
Current liabilities
Accounts payable
$4,300
Notes payable
8,700
Accrued interest payable
1,400
Current portion of long-term debt
1,700
Deferred taxes payable
1,600
Bonds payable
14,500
Total liabilities
Stockholders’ equity
Additional paid-in capital
7,000
2.20
Liz,
The reason that Tom thinks the debt structure of ShopWorld is risky and has calculated the debt
ratio of the firm to be 74% has to do with the fact that ShopWorld is leasing a significant amount of fixed
assets. When a firm chooses to lease property and equipment, the accounting rules require firms to
record these leases as either an operating lease, a rental agreement, or a capital lease which is treated
like purchasing the asset on credit. Capital leases cause the firm to record both an asset and a liability on
the balance sheet; however, operating leases are merely disclosed in notes to the financial statements.
Your friend,
XXXXX
2.21 There is no solution presented here since a variety of companies may be used for this problem.
Assigning specific companies will allow instructors to review answers in the class as a whole.
2.22 There is no solution presented here since a variety of industries may be used for this problem.
Assigning specific industries will allow instructors to review answers in the class as a whole.
Case 2.1
(a)
INTEL
Common Size Balance Sheet
2013
2012
Assets:
Current Assets
Cash and equivalents
6
%
10
%
Short-term investments
Trading assets
9
A/R
Deferred tax assets
Other current assets
2
Total current assets
35
%
37
%
Property, plant and equipment, net
34
%
33
%
Marketable equity securities
7
5
Other long-term investments
1
1
Goodwill
11
12
Identified intangible assets, net
6
7
Other long-term assets
6
5
Total Assets
%
%
2013
2012
Liabilities:
Current liabilities
Short-term debt
—
%
—
%
A/P
3
4
Accrued compensation and benefits
Accrued advertising
1
1
Deferred income
Total current liabilities
15
%
15
%
Long-term debt
14
16
Long-term deferred tax liabilities
5
4
Other long-term liabilities
3
4
Total liabilities
37
%
39
%
Stockholders’ equity
Common stock
Accumulated. other comprehensive income
1
Retained earnings
Total stockholders’ equity
63
%
61
%
Total liabilities & stockholders’ equity
%
%
(b) The current assets of Intel include cash, short-term investments, trading assets, accounts
receivable, inventories, deferred tax assets and other current assets. Long-term assets are composed of
property, plant and equipment, marketable equity securities, long-term investments, goodwill, and
other assets. The most significant assets to the company are liquid assets-cash, short-term investments
and trading assets-which make up 21% of total assets, property, plant and equipment, 34% of total
(c) Allowance account as a percentage of accounts receivable:
Allowance for doubtful accounts
Net Receivables + Allowance
Percentage of
Receivables
Sales
Total accounts receivable