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2-20 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
PROBLEM 2-10 (Continued)
Part B. Business Decision Model
1. Formulate the Question:
After considering all relevant information, should I loan money to The Coca-Cola
Company?
2. Gather Information from the Financial Statements and Other Sources:
The information will come from a variety of sources, not limited to but including:
a. The balance sheet provides information about liquidity.
3. Analyze the Information Gathered:
The information gathered in (2) above must be analyzed. Among the relevant ques-
tions that must be answered are the following:
a. Refer to part (5) of the Ratio Decision Model for a comparison of the current ra-
tios for The Coca-Cola Company and its competitor, PepsiCo, over the last two
years. The analysis also needs to consider the composition of the current assets.
For example, cash and receivables are more liquid than inventories and prepaid
expenses. The company’s existing long-term liabilities must also be taken into
account.
4. Make the Decision:
Taking into account all of the various sources of information, decide either to loan
money to The Coca-Cola Company or find an alternative use for the money.
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-21
PROBLEM 2-10 (Concluded)
5. Monitor Your Decision:
LO 2,5 PROBLEM 2-11 COMPARABILITY AND CONSISTENCY IN INCOME STATEMENTS
1. The income statement for 2015 is in single-step format, and the 2016 statement
uses the multiple-step format.
2. GLEESON COMPANY
INCOME STATEMENT
FOR THE YEAR ENDED DECEMBER 31, 2015
Sales ................................................................................................. $1,500,000
Cost of sales ..................................................................................... (450,000)
2-22 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 1,4,8 PROBLEM 2-12 CASH FLOW
Cash available to pay a dividend on December 31, 2017:
Cash balance, September 30, 2017 ....................................................... $ 5,000
Accounts receivable collections ............................................................. 39,406*
Note receivable due on November 1 ...................................................... 10,000
Interest due on November 1: $10,000 × 5% ........................................... 500
$12,500 × 1.05 ............................................................................... 13,125
November sales collected in December:
$13,125 × 1.05 ............................................................................... 13,781
Total accounts receivable collections .................................................. $ 39,406
**September purchases paid for in October ........................................... $ 5,000
Note: Because inventory levels are maintained at $75,000, purchases are equal to 40%
of sales each month.
Conclusion: 50,000 shares of common stock × $0.50 per share will require cash of
$25,000 to pay the quarterly dividend. With $26,544 of cash available, Franklin will
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-23
ALTERNATE PROBLEMS
LO 2 PROBLEM 2-1A MATERIALITY
1. The pattern of long-distance calls might point to alternative long-distance plans with
one of the many carriers now in this business. For example, some companies might
LO 2 PROBLEM 2-2A COSTS AND EXPENSES
1. Point-of-sale systems in a retail store—The cost associated with these systems is
a tangible asset that should be reported in the Long-Term Assets section of the bal-
ance sheet and depreciated over the life of the systems; only a portion would be
recognized as expense during the current period.
2. An ad in the yellow pages—All of the cost for the ad would normally be expensed
in the period the cost is incurred unless there was evidence that the ad would pro-
vide benefits for a number of future periods.
2-24 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 3 PROBLEM 2-3A CLASSIFIED BALANCE SHEET
1. Classified balance sheet:
SINGER COMPANY
BALANCE SHEET
DECEMBER 31, 2016
Assets
Current assets:
Cash ............................................................................ $ 60,790
Marketable securities ................................................... 15,000
Accounts receivable .................................................... 26,700
Merchandise inventory ................................................ 112,900
Prepaid rent ................................................................. 3,600
Liabilities
Current liabilities:
Accounts payable ........................................................ $ 34,280
Income taxes payable .................................................. 7,500
PROBLEM 2-3A (Concluded)
Stockholders’ Equity
Contributed capital:
2. Current Ratio = Current Assets/Current Liabilities
$219,390/$57,880 = 3.79 to 1
3. From the current ratio alone, Singer appears to be relatively liquid. In fact, Singer
may be too liquid, in that its cash balance is greater than its total current liabilities.
Singer may be missing significant investment opportunities by maintaining such a
LO 4 PROBLEM 2-4A FINANCIAL STATEMENT RATIOS
1. a. Working capital at 12/31/16:
Current assets: $16,500 + $12,750 + $200 + $900 + $400 = $30,750
Current liabilities: $10,500 + $1,800 + $10,000 = $22,300
2-26 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
PROBLEM 2-4A (Concluded)
2. Both the absolute liquidity position of the company and the relative liquidity position
of the company have declined during 2016. First, the absolute position, as indicated
LO 4 PROBLEM 2-5A WORKING CAPITAL AND CURRENT RATIO
1. Current Ratio = Current Assets/Current Liabilities
= ($23,000 + $43,000 + $75,000 + $2,800)/($84,900 + $3,200)
2. Even though Kapinski has a current ratio that is over 1 to 1, it may experience
trouble paying its bills, specifically its accounts payable. This depends on two fac-
3. Three things Kapinski might be able to do to help it pay its bills on time:
a. Decrease the average collection period for accounts receivable.
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-27
LO 5 PROBLEM 2-6A SINGLE-STEP INCOME STATEMENT
1. Single-step income statement:
CORBIN ENTERPRISES
INCOME STATEMENT
FOR THE CURRENT YEAR
Revenues:
Sales ........................................................................... $350,000
Dividend ..................................................................... 2,700
Total revenues .................................................................. $352,700
Expenses:
2. A single-step income statement does not lend itself as readily to analysis as does a
multiple-step statement. The lack of any type of grouping of the various expenses
makes any type of analysis more difficult.
2-28 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 5 PROBLEM 2-7A MULTIPLE-STEP INCOME STATEMENT AND PROFIT MARGIN
1. Multiple-step income statement:
CORBIN ENTERPRISES
INCOME STATEMENT
FOR THE CURRENT YEAR
Sales ................................................................................. $350,000
Cost of goods sold ............................................................ 150,000
Gross profit ....................................................................... $200,000
Operating expenses:
Selling expenses:
Total general and administrative expenses ................. 84,550
Total operating expenses .................................................. 111,550
Income from operations .................................................... $ 88,450
Other revenues and expenses:
Interest expense .......................................................... $ 1,900
2. The main advantages of the multiple-step income statement are the groupings of
various items and the provision of important subtotals such as income from opera-
tions.
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-29
LO 8 PROBLEM 2-8A STATEMENT OF CASH FLOWS
1. WISCONSIN CORPORATION
STATEMENT OF CASH FLOWS
FOR THE FIRST YEAR
Cash flows from operating activities:
Cash collected from customers ................................... $ 310,000
Cash paid for inventory ................................................ (185,000)
Cash paid in salaries and wages ................................. (30,100)
Cash paid in taxes ....................................................... (40,000)
Net cash provided by operating activities .......................... $ 54,900
Cash flows from investing activities:
Note: Wisconsin should report one significant noncash activity as supplementary in-
formation to its statement of cash flows: the five-year, $150,000 note signed to
finance the purchase of the manufacturing facility.
2. First, the statement of cash flows reports on operations on a cash basis, as opposed
LO 9 PROBLEM 2-9A BASIC ELEMENTS OF FINANCIAL REPORTS
Letter from the President to Stockholders of Thesaurus Inc.:
Thesaurus Inc. has just completed another very successful year. The decrease in net
income from 2015 to 2016 was due to a single, nonrecurring gain in 2015, a $400,000
2-30 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
ALTERNATE MULTI-CONCEPT PROBLEMS
LO 2,4 PROBLEM 2-10A MAKING BUSINESS DECISIONS: LOANING MONEY TO STAR-
WOOD HOTELS & RESORTS WORLDWIDE, INC.
Part A. Ratio Decision Model
1. Formulate the Question:
Is Starwood Hotels & Resorts Worldwide, Inc., liquid enough to pay its obligations as
they come due?
2. Gather the Information from the Financial Statements:
3. Calculate the Ratio:
Current Ratio = _Current Assets_
Current Liabilities
4. Compare the Ratio with Other Ratios:
Current Ratio
Starwood Hotels & Resorts Worldwide, Inc. Hyatt Hotels Corporation and Subsidiaries
December 31, 2014 December 31, 2013 December 31, 2014 December 31, 2013
0.95 to 1 1.04 to 1 2.34 to 1 1.34 to 1
Calculations:
Starwood Hotels & Resorts Worldwide, Inc. at December 31, 2013:
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-31
PROBLEM 2-10A (Continued)
5. Interpret the Ratios:
Starwood Hotels & Resorts Worldwide’s current ratio is slightly lower at the end of
2014 compared to the end of 2013, 0.95 compared to 1.04. Hyatt Hotel’s current ratio
Part B. Business Decision Model
1. Formulate the Question:
After considering all relevant information, should I loan money to Starwood Hotels &
Resorts Worldwide?
2. Gather Information from the Financial Statements and Other Sources:
The information will come from a variety of sources, not limited to but including:
a. The balance sheet provides information about liquidity.
3. Analyze the Information Gathered:
The information gathered in 2. above must be analyzed. Among the relevant ques-
tions that must be answered are the following:
a. Refer to part (5) of the Ratio Decision Model for a comparison of the current
ratios for Starwood Hotels & Resorts Worldwide and its competitor, Hyatt Hotels,
over the last two years. The analysis also needs to consider the composition of
2-32 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
PROBLEM 2-10A (Concluded)
4. Make the Decision:
Taking into account all of the various sources of information, decide either to loan
money to Starwood Hotels & Resorts Worldwide or find an alternative use for the
money.
LO 2,5 PROBLEM 2-11A COMPARABILITY AND CONSISTENCY IN INCOME STATEMENTS
1. The income statements for both years are in single-step form.
2. Income statement items as a percentage of sales:
2016 2015
Sales ................................................................................. 100.0% 100.0%
Cost of sales ..................................................................... 36.0 30.0
Sales salaries ................................................................... 25.1 26.5
Restating each item on the income statement as a percentage of sales allows the
reader to better understand how successful a business was in controlling costs. For
example, Chisholm Company increased its sales by $200,000 for the year, but this
did not translate to an increase in the bottom line, i.e., net income. The restatement
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-33
LO 1,4,8 PROBLEM 2-12A CASH FLOW
Cash available to pay a dividend on December 31, 2017:
Cash balance, December 1, 2017 .......................................................... $ 15,000
Conclusion: Roosevelt has $50,000 par value of stock, with the par value of each share
set at $2. Thus, there are 25,000 shares of stock outstanding. At $1 per share in divi-
dends, $25,000 in cash will be needed to meet the annual dividend payment. On the
surface, it appears that Roosevelt should have no trouble in paying its annual
dividend—the above analysis indicates a December 31, 2017, cash balance of $36,000.
However, the $30,000 note payable, along with six months’ interest of $450 ($30,000 ×
3% × 6/12), will be due two weeks into the new year (January 15, 2018). If we assume
2-34 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
DECISION CASES
READING AND INTERPRETING FINANCIAL STATEMENTS
LO 4 DECISION CASE 2-1 COMPARING TWO COMPANIES IN THE SAME INDUSTRY:
CHIPOTLE AND PANERA BREAD
(Amounts in thousands of dollars)
1. Panera Bread
12/30/14 Working capital: $406,166 – $352,712 = $53,454
12/31/13 Working capital: $302,716 – $303,325 = $(609)
2. Panera Bread
12/30/14 Current ratio: $406,166/$352,712 = 1.15:1
12/31/13 Current ratio: $302,716/$303,325 = 1.00:1
Percentage change in ratio: (1.15 – 1.00)/1.00 = 15.0% increase
4. The current ratios for both companies increased during the year, Panera Bread’s by
15.0% and Chipotle’s by 7.2%. However, Chipotle’s current ratio at the end of 2014
of 3.58 is much higher than Panera Bread’s ratio of 1.15.
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-35
LO 4 DECISION CASE 2-2 READING PANERA BREAD’S BALANCE SHEET
1. Cash and cash equivalents is the largest of Panera Bread’s current assets on De-
cember 30, 2014. It represents $196,493 thousand/$406,166 thousand, or 48.4% of
the total current assets. Large amounts of cash on hand increases a company’s li-
MAKING FINANCIAL DECISIONS
LO 8 DECISION CASE 2-3 ANALYSIS OF CASH FLOW FOR A SMALL BUSINESS
All financial decisions involve a trade-off between risk and return. The offer to work for
an investment firm for $40,000 per year may be much less risky than running one’s own
business. Charles needs to consider, however, how likely it is that the employment with
the investment firm will continue indefinitely. For example, could a downswing in the
economy cause the firm to cut Charles’s position?
2-36 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 9 DECISION CASE 2-4 FACTORS INVOLVED IN AN INVESTMENT DECISION
Sections of the annual report that should be read in comparing investment alternatives:
1. Financial statements, including income statement, balance sheet, statement of
stockholders’ equity, and statement of cash flows—The statements give an
overall picture of the financial position and results of operations of the companies.
2. Notes to the financial statements—The notes are an integral part of the financial
statements. They give the reader an indication of the accounting policies used; the
various legal obligations, such as those for leases and pension plans; the composi-
tion of the long-term assets; and many other details.
ETHICAL DECISION MAKING
LO 2 DECISION CASE 2-5 THE EXPENDITURE APPROVAL PROCESS
The sales rep should be skeptical about Roberto’s request for two separate bills for
$900 each. If the rep is aware that the request was made to circumvent a corporate pol-
icy, it would be unethical of the rep to comply with the request. This certainly puts the
rep in a predicament: should he or she risk losing the sale by refusing to write up two
separate bills?
CHAPTER 2 • FINANCIAL STATEMENTS AND THE ANNUAL REPORT 2-37
LO 4,6 DECISION CASE 2-6 SUSAN APPLIES FOR A LOAN
1. Recognize an ethical dilemma:
The ethical dilemma for you is whether you should present financial statements to
the banker that are incomplete (that make Susan’s financial position appear to be
better than it actually is).
2. Analyze the key elements in the situation:
a. Your decision affects not only Susan but also the banker. Susan could benefit if a
balance sheet is not provided and the bank could be harmed.
3 . List alternatives and evaluate the impact of each on those affected:
The alternatives are to follow Susan’s instructions and not provide a balance sheet
or discuss with her your concerns. If the balance sheet is not provided, the banker
4 . Select the best alternative:
You should provide the balance sheet to the bank. If the banker does not receive the
balance sheet and makes a decision only based on the income statement, this user
of the information will not evaluate the risk of the company correctly. It is unlikely that
the banker would consider making the loan on the basis of the quarterly income
