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SOLUTIONS TO EXERCISES
Ex 4–1 a. Book value b. Materiality c. Matching principle d. Unrecorded revenue e. Adjusting entries f. Unearned revenue g. Prepaid expenses h. None (This is an example of “depreciation expense.”) Ex. 4– Income Statement Balance Sheet Adjusting Entry Revenue ^ Expenses = Net Income Assets = Liabilities + Owners’ Equity a NE I D D NE D b NE I D NE I D c I NE I I NE I d NE I D NE I D e NE I D D NE D f I NE I NE D I Ex. 4–3 a. Rent Expense...................................................................................... 240, Prepaid Rent........................................................................... 240, To record rent expense for May ($1,200,000 5 months = $240,000 per month). b. Unearned Ticket Revenue................................................................. 148, Ticket Revenue....................................................................... 148, To record earning portion of season ticket revenue relating to May home games. Ex. 4–4 a. (1) Interest Expense.......................................................................... 375 Interest Payable............................................................... 375 $50,000 x 9% annual rate x 1/12 = $375. (2) Accounts Receivable.................................................................... 10, Consulting Fees Earned.................................................. 10, To record ten days of unbilled consulting fees at $1,000 per day. b. $2,250 ($50,000 x 9% x 6/12 = $2,250) c. $15,000 ($25,000 - $10,000 earned in December, 2002)
Ex. 4–5 a. The balance of TWA’s Advance Ticket Sales account represents unearned revenue— that is, amounts collected from customers prior to rendering the related services (air travel). As TWA has an obligation to render these services, the Advanced Ticket Sales account appears among the liabilities in TWA’s balance sheet. b. TWA normally reduces the balance of this liability account by rendering services to customers—that is, by providing flights for which the customers have purchased tickets. On some occasions, however, TWA reduces the balance of this liability by making cash refunds to customers.
Ex. 4–8 a. May 1 Cash................................................................................... 300, Notes Payable........................................................ 300, Obtained a three-month loan from National Bank at 12% interest per year. May 31 Interest Expense................................................................ 3, Interest Payable.................................................... 3, To record interest expense for May on note payable to National Bank ($300,000 12% 1 12 = $3,000). b. May 1 Prepaid Rent..................................................................... 180, Cash....................................................................... 180, Paid rent for six months at $30,000 per month. May 31 Rent Expense..................................................................... 30, Prepaid Rent......................................................... 30, To record rent expense for the month of May. c. May 2 Cash................................................................................... 910, Unearned Admissions Revenue............................ 910, Sold season tickets to the 70-day racing season. May 31 Unearned Admissions Revenue....................................... 260, Admissions Revenue............................................. 260, To record admissions revenue from the 20 racing days in May ($910,000 20 70 = $260,000). d. May 4 No entry required. e. May 6 Prepaid Printing............................................................... 12, Cash....................................................................... 12, Printed racing forms for first 30 racing days. May 31 Printing Expense............................................................... 8, Prepaid Printing.................................................... 8, To record printing expense for 20 racing days in May. f. May 31 Concessions Receivable.................................................... 16, Concessions Revenue............................................ 16, Earned 10% of refreshment sales of $165,000 during May.
Something to Consider: Effects of omission of May 31 adjusting entry for rent expense on May 31 financial statements: Revenue Not affected Expenses Understated (by May’s rent of $30,000) Net Income Overstated (because May rent expense was not recognized) Assets Overstated (Prepaid Rent should be reduced by portion expired in May) Liabilities Not affected Owners’ Equity Overstated (because net income is overstated) Ex. 4–9 a. Materiality refers to the relative importance of an item. An item is material if knowledge of it might reasonably influence the decisions of users of financial statements. If an item is immaterial, by definition it is not relevant to decision makers. Accountants must account for material items in the manner required by generally accepted accounting principles. However, immaterial items may be accounted for in the most convenient and economical manner. b. Whether a specific dollar amount is “material” depends upon the (1) size of the amount and (2) nature of the item. In evaluating the size of a dollar amount, accountants consider the amount in relation to the size of the organization. Based solely upon dollar amount, $2,500 is not material in relation to the financial statements of a large, publicly owned corporation. For a small business however, this amount could be material. In addition to considering the size of a dollar amount, accountants must also consider the nature of the item. The nature of an item may make the item “material” to users of the financial statements regardless of its dollar amount. Examples might include bribes paid to government officials, or theft of company assets or other illegal acts committed by management. In summary, one cannot say whether $2,500 is a material amount. The answer depends upon the related circumstances. c. Two ways in which the concept of materiality may save time and effort for accountants are:
- Adjusting entries may be based upon estimated amounts if there is little or no possibility that the use of an estimate will result in material error. For example, an adjusting entry to reflect the amount of supplies used may be based on an estimate of the cost of supplies remaining on hand.
- Adjusting entries need not be made to accrue immaterial amounts of unrecorded expenses or unrecorded revenue. For example, no adjusting entries normally are made to record utility expense payable at year-end.
Ex. 4–11 a. Accounts likely to have required an adjusting entry are:
- Investments
- Accounts Receivable
- Inventories
- Prepaid Expenses
- Deferred Income Taxes
- Buildings
- Machinery and Equipment
- Intangible Assets
- Accounts Payable
- Accrued Liabilities
- Income Taxes Payable
- Deferred Compensation and Other Liabilities Note to the Instructor: The adjustments required for many of the accounts listed above are discussed in subsequent chapters. Some are beyond the scope of an introductory course.
SOLUTIONS TO PROBLEMS
20 Minutes, Easy PROBLEM 4–
FLORIDA PALMS COUNTRY CLUB
(Adjusting Entries) 20__ (1) Dec 31 Salary Expense 9 6 0 0 Salaries Payable 9 6 0 0 To record accrued salaries at December 31. (2) 31 Accounts Receivable 1 8 0 0 Green Fee Revenue 1 8 0 0 To record green fees owed by the Tampa Univ. golf team. (3) 31 Unearned Membership Dues 1 0 6 0 0 0 Membership Dues Earned 1 0 6 0 0 0 To record the portion of annual membership dues earned in December. (4) 31 Depreciation Expense: Carts 1 0 0 0 Accumulated Depreciation: Carts 1 0 0 0 To record December depreciation expense ($180,000 15 years x 1/12). (5) 31 Interest Expense 3 0 0 Interest Payable 3 0 0 To record accrued interest expense in December ($45,000 ^ 8% 1/12). (6) 31 Insurance Expense 6 5 0 Unexpired Insurance 6 5 0 To record December insurance expense ($7,800 ^ 1/12). (7) No adjusting entry required. Revenue is recognized when it is earned. Entering into a contract does not constitute the earning of revenue. (8) 31 Income Taxes Expense 1 9 0 0 0 Income Taxes Payable 1 9 0 0 0 To record income taxes accrued in December.
a. General Journal (Adjusting Entries) (1) Dec 31 Interest Receivable 4 0 0 Interest Revenue 4 0 0 To record accrued interest revenue in CD on December 31. (2) 31 Interest Expense 8 5 Interest Payable 8 5 To record accrued interest expense in December ($12,000 x 8.5% x 1/12). (3) 31 Depreciation Expense: Buildings 2 0 0 0 Accumulated Depreciation: Buildings 2 0 0 0 To record December depreciation expense ($600,000 ^ 25 years x 1/12). (4) No adjusting entry required. Revenue is recognized when it is earned. Entering into a contract does not constitute the earning of revenue. (5) 31 Salary Expense 1 2 5 0 Salaries Payable 1 2 5 0 To record accrued salary expense in December. (6) 31 Camper Revenue Receivable 2 4 0 0 Camper Revenue 2 4 0 0 To record accrued camper revenue earned in December. (7) 31 Unearned Camper Revenue 9 0 0 Camper Revenue 9 0 0 To record revenue earned by campers paying in advance ($5,400 ^ 6 months). (8) 31 Bus Rental Expense 1 0 0 0 Accounts Payable 1 0 0 0 To record accrued bus rental expense in December ($40 per day x 25 days). (9) 31 Income Taxes Expense 8 4 0 0 Income Taxes Payable 8 4 0 0 To record income taxes accrued in December.
PROBLEM 4–
ENCHANTED FOREST (concluded)
b.
- Accruing uncollected revenue.
- Accruing unpaid expenses.
- Converting assets to expenses.
- No adjusting entry required.
- Accruing unpaid expenses.
- Accruing uncollected revenue.
- Converting liabilities to revenue.
- Accruing unpaid expenses.
- Accruing unpaid expenses. c. Income Statement Balance Sheet Adjustment Revenue ^ Expenses = Net Income Assets = Liabilities + Owners’ Equity
- I NE I I NE I
- NE I D NE I D
- NE I D D NE D
- NE NE NE NE NE NE
- NE I D NE I D
- I NE I I NE I
- I NE I NE D I
- NE I D NE I D
- NE I D NE I D d. $340 ($12,000 x 0.85% x 4/12) e. Original cost of buildings............................................................................................. $600, Accumulated depreciation: buildings (prior to adjusting entry 3 in part a)...................................................................................................................................$310, December depreciation expense from part a...............................................................2, Accumulated depreciation, buildings, 12/31............................................................... (312,000) Net book value at December 31................................................................................... $288,
30 Minutes, Medium PROBLEM 4–
CAMPUS THEATER
a. General Journal (Adjusting Entries) 20__ (1) Aug. 31 Film Rental Expense 1 5 2 0 0 Prepaid Film Rental 1 5 2 0 0 Film rental expense incurred in August. (2) 31 Depreciation Expense: Buildings 7 0 0 Accumulated Depreciation: Buildings 7 0 0 To record August depreciation ($168,000 ^ 240 months). (3) 31 Depreciation Expense: Fixtures and Equipment 6 0 0 Accumulated Depreciation: Fixtures and Equipment 6 0 0 To record August depreciation ($36,000 60 months). (4) 31 Interest Expense 1 5 0 0 Interest Payable 1 5 0 0 Interest expense accrued in August. (5) 31 Unearned Admissions Revenue (YMCA) 5 0 0 Admissions Revenue 5 0 0 To record advance payment from YMA earned in August ($1,500 x 1/3). (6) 31 Concessions Revenue Receivable 2 2 5 0 Concessions Revenue 2 2 5 0 To record accrued concessions revenue in August. (7) 31 Salaries Expense 1 7 0 0 Salaries Payable 1 7 0 0 To record accrued salary expense in August. (8) 31 Income Taxes Expense 4 2 0 0 Income Taxes Payable 4 2 0 0 To record income taxes accrued in August. (9) 31 No adjusting entry required.
PROBLEM 4–
CAMPUS THEATER (concluded)
b. (1) Eight months (bills received January through August). Utilities bills are recorded as monthly bills are received. As of August 31, eight monthly bills should have been received. (2) Seven months (January through July). Depreciation expense is recorded only in month-end adjusting entries. Thus, depreciation for August is not included in the August unadjusted trial balance. (3) Twenty months ($14,000 $700 per month). c. Corporations must pay their income taxes in several installment payments throughout the year. The balance in the Income Taxes Expense account represents the total amount of income taxes expense recognized since the beginning of the year. But Income Taxes Payable represents only the portion of this expense that has not yet been paid. In the example at hand, the $4,740 in income taxes payable probably represents only the income taxes expense accrued in July, as Pickwood should have paid taxes accrued in the first two quarters by June 15.
PROBLEM 4–
KEN HENSLEY ENTERPRISES, INC. (continued)
b. Ken Hensley Enterprises, Inc. Schedule of Income Earned For the Year Ended December 31, 2002 Studio Revenue Earned $ 1 1 5 0 0 0 Salaries Expense $ 1 8 5 4 0 Supplies Expense 1 9 0 0 Insurance Expense 1 2 5 0 Depreciation Expense: Recording Equipment 1 8 0 0 0 Studio Rent Expense 2 3 0 0 0 Utilities Expense 2 3 5 0 Interest Expense 9 6 0 Income Taxes Expense 1 9 6 0 0 Total Expense 8 5 6 0 0 Net Income $ 2 9 4 0 0 c. Monthly rent expense for the last two months of 2002 was $2,000 ($6,000 3 months). The $21,000 rent expense shown in the studio’s trial balance includes a $2,000 rent expense for November, which means that total rent expense for January through October was $19, ($21,000 - $2,000). The monthly rent expense in these months must have been $1,900 ($19,000 10 months). Thus, it appears that the studio’s monthly rent increased by $100 (from $1,900 to $2,000) in November and December.
15 Minutes, Medium PROBLEM 4–
KOYNE CORPORATION
Error Total Revenue Total Expenses Net Income Total Assets Total Liabilities Owners’ Equity a. Recorded a dividend as an expense reported in the income statement.
NE O U NE NE NE
b. Recorded the payment of an account payable as a debit to accounts payable and a credit to an expense account.
NE U O O NE O
c. Failed to record depreciation expense.
NE U O O NE O
d. Recorded the issue of capital stock as a debit to cash and a credit to retained earnings.
NE NE NE NE NE NE
e. Recorded the receipt of a customer deposit as a debit to cash and a credit to fees earned.
O NE O NE U O
f. Failed to record expired portion of an insurance policy.
NE U O O NE O
g. Failed to record accrued interest earned on an outstanding note receivable.
U NE U U NE U
