Dmp3e Ch02 Solutions 04.13.10 Final

Chapter 2
Constructing Financial Statements

Learning Objectives coverage by question
LO1 Describe and construct
the balance sheet and
understand how it can be used
for analysis.
LO2 Use the financial

statement effects template
(FSET) to analyze transactions.
Mini-exercises
Exercises
14, 15, 16, 17,
32, 33, 34, 35,
19, 21, 22, 23,
36, 37, 38, 39,
25, 26, 27, 29,
40, 41, 42, 43,
30, 31
44, 45, 46
20, 29
33, 42, 45
Problems
Cases
47, 48, 49, 50,

51, 52, 53, 54,
55, 57, 58, 59,
69
60, 62, 64, 65,

67
55, 60, 65, 67
47, 48, 49, 50,
LO3 Describe and construct

the income statement and
discuss how it can be used to
evaluate management
performance.
19, 20, 21, 22,
33, 34, 35, 37,
23, 28, 29
38, 39, 40, 41
51, 52, 53, 54,

55, 57, 58, 59,
69, 70
60, 62, 63, 64,

65, 67
LO4 Explain revenue

recognition, accrual accounting,
and their effects on retained
earnings.
20, 22, 23, 24,

29
LO5 Illustrate equity

transactions and the statement
of stockholders equity.
18, 19, 21, 22,
LO6 Use journal entries and

T-accounts to analyze and
record transactions.
25, 26, 29, 30,
LO7 Compute net working

capital, the current ratio, and
the quick ratio, and explain how
they reflect liquidity.
23, 27, 29
31
37, 38
33, 39, 41
43, 44, 46
32, 34, 36, 38,

40, 44
53, 55, 57, 58,

60, 64, 65, 67
51, 64, 65, 67
53, 56, 57, 58,

61, 66, 68
69
69
69
50, 53, 54, 57,

58
Cambridge Business Publishers, 2011

Solutions Manual, Chapter 2
2-1
QUESTIONS
Q2-1.
An asset is something that we own that is expected to provide future

benefits. A liability is a current obligation that will require a future
sacrifice. Equity is the difference between assets and liabilities. It
represents the claims of the companys owners to its income and assets.
The following are some examples of each:
Assets
Liabilities
Equity
Cash
Receivables
Inventories
Plant, property and equipment
Accounts payable
Accrued liabilities
Notes payable
Long-term debt
Contributed capital (common and preferred stock)
Additional paid-in capital
Earned capital (retained earnings)
Treasury stock
Q2-2.
The revenue recognition principle requires that revenues be recognized

when earned. Revenues are earned when the product has been delivered
to the buyer and is usually signified by a formal transfer of title. A good
test of whether revenue has been earned is whether the rights, risks and
obligations of ownership have been transferred to the buyer. If a service
is involved, revenues are not earned until the service has been provided.
The matching principle prescribes that the expenses incurred in
providing the service or product be matched against the revenues
recognized from the sale or the provision of the service. When these two
principles are followed, income can be properly measured in a given
accounting reporting period.
Q2-3.
Accrual accounting entails the recognition of revenue under the revenue

recognition principle (record revenues when earned), and the recognition
of expenses using the matching principle (record expenses when
incurred). The recognition of revenues or the expenses does not require
that cash be received or disbursed. For example the recognition of
revenues on sale can lead to an account receivable, and wage expense
can be accrued using a wages payable (accrued) liability account.

2-2
Financial Accounting, 3rd Edition
Q2-4.
The statement of stockholders equity provides information relating to all

events that impact stockholders equity during the period. It contains
information relating to stock sales and repurchases, net income,
dividends, and the use of stock for other purposes including occasional
acquisition of assets. This statement, also referred to as the statement of
owners equity, also includes the effects of some transactions that are not
captured in the determination of net income. These items are included in
what is called other comprehensive income. One example of such an
item is the loss or gain on the translation of the assets and liabilities of
foreign owned subsidiaries into United States currency.
Q2-5.
An asset must be owned and it must provide future benefits. Owning

means we have title to the asset (some leased assets are also recorded
on the balance sheet as we will discuss in Chapter 10). Future benefits
can mean the future inflows of cash. Or, it could relate to some other
benefit, such as the reduction of expenditures, an increase in another
asset, or the reduction of a liability.
Q2-6.
Liquidity generally refers to cash. That is, how much cash do we have,
how much cash is being generated, and how much cash can we raise
quickly. Liquidity is essential to the survival of the business. After all, we
can only pay our loans with cash, and our employees will only accept
cash for their wages. Some assets are more liquid than others in the
sense that they can be converted more easily to cash. Money market
accounts and accounts receivable, which can be sold, provide examples.
Inventories are considered more liquid than plant assets. We will address
liquidity issues more formally in Chapters 4 and 9.
Q2-7.
Current means that the asset will be liquidated (converted to cash) within
the next year (or the operating cycle if longer than 1 year).
Q2-8.
Historical costs are used by accountants because they are less subjective
and, therefore, more reliable than using market values. Market values can
be biased for two reasons: first, we may not be able to measure them
accurately (consider our inability to accurately measure the market value
of a production facility, for example), and second, managers may
intervene in the reporting process to intentionally bias the results in order
to achieve a particular objective (i.e. enhancing the stock price). The use
of historical costs in accounting records does not negate the importance
of market values. For example, a firm offering to pledge land as collateral
for a loan will be expected to use the market value of that land rather than
its historic cost. The same would be true if a corporation were
considering the sale of the land. Finally, we shall see that certain assets
are reported at market value in the balance sheet; securities that are
available to be sold provide an example.

2-3
Q2-9.
An intangible asset is an asset that we cannot touch. To be included on

the balance sheet, it has to meet the tests of an asset (e.g., we own it, and
it will provide future benefits). Intangible assets are always acquired.
Internally generated intangible assets are not recorded on the balance
sheet. Some examples are goodwill, patents and trademarks, contractual
agreements like royalties, leases, and franchise agreements. All of the
intangible assets, though not recorded if internally generated, are
recorded if purchased, as in an acquisition of another company, for
example.
Q2-10. Both the current ratio and quick ratio are measures of a firms ability to
pay its obligations as they come due; measures of a firms liquidity. The
current ratio is computed by dividing the firms current assets by its
current liabilities. Current ratios that exceed 1.0 are deemed to represent
a strong current liquidity position. The quick ratio is an even more
conservative measure of a firms liquidity. The quick ratio is computed by
dividing the firms cash and cash equivalents by its current liabilities.
Q2-11. The three conditions necessary to recognize a liability are:
1. The liability reflects a probable future sacrifice on the part of the
organization.
2. The amount of the obligation is known or can be reasonably
estimated.
3. The transaction that caused the obligation has occurred.
Q2-12. Net working capital = current assets current liabilities. Increasing the
amount of trade credit (e.g., accounts payable to suppliers) increases
current liabilities and reduces net working capital. As trade credit
increases, we are using someone elses cash rather than our own. As a
business grows, its net working capital grows, as the growth of
inventories and receivables are generally greater than that of accounts
payable and accrued liabilities. Net working capital is an asset category
that must be financed just like fixed assets.
Q2-13. $700,000 Assets - $220,000 Liabilities = $480,000 Stockholders' equity
$480,000 $300,000 Common stock = $180,000 Retained earnings

2-4
MINI EXERCISES
M2-14 (10 minutes)
Use the accounting equation.
a.
Cash
Accounts receivable
Supplies
Equipment
Accounts payable
Common stock
Retained earnings
b.
Retained Earnings:
December 31, 2010
January 1, 2010
Increase
Add: Dividends
Net Income
$ 8,000
23,000
9,000
138,000
178,000
$ 11,000
110,000
121,000
$ 57,000
$ 57,000
30,000
27,000
12,000
$ 39,000
M2-15 (5 minutes)
a.
$200,000 - $85,000 = $115,000 equity
b.
$32,000 + $28,000 = $60,000 assets
c.
$93,000 - $52,000 = $41,000 liabilities
M2-16 (5 minutes)
a.
$375,000 - $105,000 = $270,000 equity
b.
$43,000 + $11,000 = $54,000 assets
c.
$878,000 - $422,000 = $456,000 liabilities
M2-17 (5 minutes)
a.
$450,000 - $326,000 = $124,000 equity
b.
$618,000 - $165,000 = $453,000 liabilities.
c.
$400,000 + $200,000 + $185,000 = $785,000 assets.
M2-18 (10 minutes)
a.
no effect
b.
decrease
c.
decrease
d.
no effect
e.
increase
f.
increase
g.
increase
2-5
M2-19 (15 minutes)

a.
Balance sheet
b.
Income statement
c.
Balance sheet
d.
Income statement
e.
Balance sheet
f.
Balance sheet
g.
Balance sheet
h.
Balance sheet
i.
Income statement
j.
Income statement
k.
Balance sheet
l.
Balance sheet
M2-20 (20 minutes)

a.
Net income computation

Service revenue (record when earned)
Wage expense .
Net income
b.
$100,000
(60,000)
$ 40,000
Yes, recognizing the wage liability would cause wage expense to increase
by $10,000 and income would go down by the same amount (before taxes).
M2-21 (10 minutes)

a.
b.
c.
d.
e.
f.
g.
h.
i.
Balance sheet
Income statement, Statement of stockholders equity
Balance sheet
Income statement
Statement of stockholders equity
Statement of stockholders equity
Balance sheet
Income statement
Statement of stockholders equity, Balance sheet

2-6
M2-22 (10 minutes)

a.
b.
c.
d.
e.
f.
g.
h.
Balance sheet
Balance sheet
Income statement, Statement of stockholders equity
Balance sheet
Income statement
Balance sheet
Balance sheet
M2-23 (10 minutes)

a.
b.
c.
d.
e.
f.
g.
h.
Balance sheet
Income statement
Income statement
Statement of stockholders equity*
Balance sheet
Balance sheet
Balance sheet
M2-24 (15 minutes)

Ending retained earnings = Beginning retained earnings + Net income
Dividends + the effects of other adjustments. And, the ending retained earnings
for one period is the beginning retained earnings for the following period.
For the year ended January 31, 2009: $4,758 + Net income $201 = $4,777, so Net
income = $220
Ending retained earnings for the year ended February 2, 2008 equals $4,758, the
beginning retained earnings for the following year.
For the year ended February 2, 2008: $4,277 + $718 Dividends $10 = $4,758, so
Dividends = $227
Fiscal year ending
Beginning retained earnings (deficit)
Net income (loss)
Dividends paid
Increases (decreases) from other retained
earnings changes
Ending retained earnings (deficit)
February 2, 2008
$ 4,277
718
227
January 31, 2009

$ 4,758
220
201
(10)
$ 4,758
$ 4,777

2-7
M2-25 (10 minutes)

a.
b.
c.
d.
e.
f.
g.
h.
i.
Increase assets (Cash)

Increase equity (Service Revenues)
Increase assets (Office Supplies)
Increase liabilities (Accounts Payable)
Increase equity (Contributed Capital or Common Stock)
Decrease liabilities (Accounts Payable)
Decrease assets (Cash)
Increase liabilities (Notes Payable)
Increase assets (Accounts Receivable)
Increase equity (Service Revenues)
Increase assets (Office Equipment)
Decrease equity (Interest Expense)
Decrease equity (Utilities Expense)
M2-26 (10 minutes)

a.
b.
c.
d.
e.
f.
g.
h.
i.

Increase assets (Accounts Receivable)
Increase equity (Service Revenue)
Decrease equity (Rent Expense)
Increase equity (Service Revenue)
Decrease assets (Accounts Receivable)
Decrease equity (Salaries Expense)
Decrease liabilities (Accounts Payable)
Decrease equity (Retained Earnings)

2-8
M2-27 (10 minutes)

Johnson & Johnson
Statement of Retained Earnings
For Year Ended December 28, 2008
Retained earnings, December 30, 2007...................................
Add:
$55,280
Net income......................................................................
12,949
Less: Dividends........................................................................
(5,024)
Other retained earnings changes.................................
174
Retained earnings, December 28, 2008...................................
$63,379
M2-28 (10 minutes)
Revenues..................................................................
2010
$350,000
2011
$ 0
Expenses............................................................
Net income.........................................................
200,000
$150,000
0
$ 0
Explanation: All of the revenue is reported in 2010 when it is earnedper the

revenue recognition principle. Likewise, the expense is reported in 2010 when it
is incurredper application of the matching principle. The receipt or payment of
cash does not affect the recording of revenues, expenses, and net income.
M2-29 (15 minutes)
Balance Sheet
Transaction
a. Issue stock for
$1,000 cash.
b. Purchase
inventory for $500
cash.
c. Sell inventory for
$2,000 on credit.
d. Record $500 for
cost of inventory
sold in c.
e. Receive $2,000
cash on
receivable from c.
Totals
Cash
Noncash
LiabilContrib.
Asset + Assets = ities + Capital +
+1,000
+1,000
=
Common
Cash
Income Statement
Earned
Capital
Net
Revenues - Expenses = Income
Stock
-500
+500
Cash
Inventory
+2,000
Accts Rec
=
=
+2,000
+2,000
Retained
Earnings
Sales
Retained
Earnings
-500
Inventory
-500
+2,000
-2,000
Cash
Accts Rec
2,500
+500
COGS
Expense
+ 1,000 +
1,500
2,000
-500
=
=
500

+2,000
2-9
1,500
M2-30 (10 minutes)

a.
b.
c.
d.
e.
Cash (+A)...........................................................................
Common stock (+SE)..................................................
1,000
Inventory (+A)...................................................................
Cash (-A).......................................................................
500
Accounts receivable (+A)................................................

Sales (+R, +SE).............................................................
2,000
Cost of goods sold (+E, -SE)...........................................

Inventory (-A)................................................................
500
Cash (+A)...........................................................................
Accounts receivable (-A).............................................
2,000
1,000
500
2,000
500
2,000
M2-31 (10 minutes)

+
(a)
(e)
Cash (A)
1,000 (b)
2,000
500
(c)
Accounts Receivable (A)

2,000 (e)
Sales (R)
(c)
+
(b)
Inventory (A)
500 (d)
+
500
2,000
+
2,000
Cost of Goods Sold (E)
(d)
500
-
Common Stock (SE)

(a)
+
1,000

2-10
EXERCISES
E2-32 (25 minutes)
Use the accounting equation to determine Retained Earnings as of May 31, 2010.
Beaver, Inc.
BALANCE SHEETS
a. and b.
May 31,
June 1,
2010
2010
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
$ 12,200
18,300
16,400
55,000
$101,900
$ 3,200
18,300
16,400
70,000
$107,900
$ 20,000
5,200
25,200
$ 33,000
5,200
38,200
42,500
34,200
76,700
$101,900
42,500
27,200
69,700
$107,900
Liabilities
Notes payable
Accounts payable
Total liabilities
Stockholders' Equity
Common stock
Retained earnings
Total stockholders' equity
Total liabilities and stockholders' equity
c.
Net working capital = current assets current liabilities

$32,700 = ($3,200 + $18,300 + $16,400) $5,200

2-11
E2-33 (30 minutes)

Use the accounting equation and the information on changes in contributed
capital and retained earnings.
Beginning retained earnings (= Beginning assets Beginning liabilities)
+ Net income (= Revenues Expenses)
Dividends
Ending retained earnings (= Ending assets Ending liabilities)
a.
Equity, Beginning ($28,000 - $18,600)

Equity, Ending ($30,000 - $17,300)
Increase
Add: Net Capital Withdrawn ($5,000 - $2,000)
Net Income
Add: Expenses
Revenues
$ 9,400
12,700
3,300
3,000
6,300
8,500
$14,800
b.

Add: Net Capital Contributed ($4,500 - $1,500)
Add: Net Income ($28,000 - $21,000)
Equity, Ending
$ 7,000
3,000
10,000
7,000
$17,000
Assets, Ending
Equity, Ending
Liabilities, Ending,
$26,000
17,000
$ 9,000

Add: Net Income ($18,000 - $11,000)
$ 9,000
7,000
16,000
1,000
15,000
19,000
$ 4,000
c.
Less: Dividends
Equity, Ending ($34,000 - $15,000)
Common Stock Issued
d.
Common Stock Issued

Net Income ($24,000 - $17,000)
Cash Dividends
Increase in Equity
Equity, Ending ($40,000 - $19,000)
Equity, Beginning
Add: Liabilities, Beginning
Total Assets, Beginning
$ 3,500
7,000
10,500
6,500
4,000
21,000
17,000
9,000
$26,000

2-12
E2-34(30 minutes)
Use the accounting equation to determine stockholders equity balances.
Lang Services
Balance Sheet
a.
December 31,
2011
2010
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
$10,000
22,800
4,700
32,000
$69,500
$ 8,000
17,500
4,200
27,000
$56,700
$25,000
1,800
26,800
$25,000
1,600
26,600
42,700
$69,500
30,100
$56,700
Liabilities
Accounts payable
Notes payable
Total liabilities
Stockholders equity
Equity
Total liabilities and stockholders equity
b.
Equity, December 31, 2011
Equity, December 31, 2010
Increase
Add: Dividends
Less: Common Stock issued
Net Income for 2011
$42,700
30,100
12,600
17,000
29,600
5,000
$24,600
c.
Current ratio = ($10,000 + $22,800 + $4,700)/$25,000 = 1.5
Quick ratio = ($10,000 + $22,800)/$25,000 = 1.31
d.
Langs liquidity position is satisfactory as it meets the industry norm, and

its quick ratio is also above the industry average. The firm appears to have
invested about the right amount in liquid assetsneither too much, nor
too little.
2-13

2-14
E2-35 (30 minutes)

Use the accounting equation to determine Retained Earnings balances.
a.
LYNCH SERVICES
BALANCE SHEETS
2011
Assets
Cash
Accounts receivable
Supplies
Land
Building
Equipment
Total assets
December 31,
2010
$ 23,000
42,000
20,000
40,000
250,000
43,000
$418,000
$ 20,000
33,000
18,000
40,000
260,000
45,000
$416,000
$ 6,000
90,000
96,000
$ 9,000
100,000
109,000
Stockholders' equity
Common stock
Retained earnings
220,000
102,000
322,000
$418,000
220,000
87,000
307,000
$416,000
b.
Retained Earnings, December 31, 2011
Retained Earnings, December 31, 2010
Increase during 2011
Add: Dividend for 2011
Net Income for 2011
$102,000
87,000
15,000
10,000
$ 25,000
Liabilities
Accounts payable
Mortgage payable
Total liabilities

2-15
E2-36 (30 minutes)

Use the accounting equation to determine Retained Earnings as of September 30,
2011. The two transactions have the following effects:
Equipment purchase increases the equipment asset by $11,000, decreases
the cash asset by $3,000, and increases the notes payable liability by
$8,000.
Dividend payment decreases the cash asset by $3,000 and decreases the
retained earnings equity by $3,000.
a. & b.
BROWNLEE CATERING SERVICE

BALANCE SHEETS
September 30, 2011
October 1, 2011
$ 10,000
17,000
9,000
34,000
$ 70,000
$ 4,000
17,000
9,000
45,000
$ 75,000
$ 24,000
12,000
36,000
$ 24,000
20,000
44,000
27,500
6,500
34,000
27,500
3,500
31,000
$ 70,000
$ 75,000
Assets
Cash
Accounts receivable
Supplies Inventory
Equipment
Total assets
Liabilities
Accounts payable
Notes payable
Total liabilities
Stockholders Equity
Common stock
Retained earnings
Total stockholders equity
Total liabilities and
stockholders equity
c.
Current ratio
Quick ratio
d.
(10,000 + 17,000 + 9,000)

24,000 = 1.50
(4,000 + 17,000 + 9,000)

24,000 = 1.25
(10,000 + 17,000)
24,000 = 1.13
(4,000 + 17,000)
24,000 = 0.88
Quite a few possibilities exist, from increasing long-term borrowing to

issuing new stock to selling unneeded equipment.

2-16
E2-37 (15 minutes)

Income statement
Sales..............................
Wages expense............
Net income (loss).........
Balance sheet
$30,000
12,000
$18,000
Cash...............................................
Accounts receivable.....................
Total assets...................................
$ 8,000
30,000
$38,000
Wages payable..............................
Common stock .............................
Retained earnings.........................
Total liabilities and equity............
$12,000
8,000
18,000
$38,000
E2-38 (15 minutes)

a.
Procter & Gamble ($ millions)
Amount
Classification
Net sales.............................................................
$ 79,029
Depreciation expense.......................................
1,358
Retained earnings.............................................
57,309
Net earnings......................................................
13,436
Property, plant and equipment (net).........
19,462
Selling, general and admin expense...............
24,008
Accounts receivable.........................................
5,836
Total liabilities...................................................
71,734
Stockholders' equity.........................................
63,099
b.
Total assets = Total liabilities + stockholders equity

Total assets =
$71,734
+
$63,099
= $134,833
Total Revenue Total Expenses = Net Income
$79,029 Total Expenses = $13,436; Thus, Total Expenses = $65,593

2-17
c.
Return on equity = Net income/Stockholders equity

= $13,436/$63,099 = 21.3%
ROE is an estimate because we have only this years equity for the
denominator.
Debt-to-equity ratio = Total liabilities/Stockholders equity
= $71,734/$63,099 = 1.14
E2-39 (15 minutes)

a.
Target Corp ($ millions)
Amount
Classification
Sales....................................................................
$ 62,884
Depreciation and amortization expense..........
1,826
Retained earnings..............................................
11,443
Net earnings.......................................................
2,214
Property, plant & equipment, net.....................
25,756
Selling, general & admin. expense..................
12,954
Accounts payable..............................................
6,337
Total liabilities and shareholders

investment..........................................................
44,106
Total shareholders investment........................
13,712
b.
Total assets = Total liabilities and shareholders investment

Total assets =
$44,106
Total revenue Total expenses = Net income
$62,884
Total expenses = $2,214
Thus, Total expenses = $60,670
c.

= $2,214 / $13,712 = 16.1%
denominator.

2-18
E2-40 (15 minutes)

a.
Briggs & Stratton ($ millions)
Amount
Classification
Net sales.............................................................
$ 2,092
Interest expense................................................
31
1,076
Net income.........................................................
32
Property, plant & equipment, net....................
364
Eng. selling, general & admin. expense.........
265
Accounts receivable, net..................................
263
924
Shareholders investment................................
695
b.
Total assets = Total liabilities + Shareholders investment

Total assets =
$924
+
$695
= $1,619
$2,092
Total expenses = $32
c.

= $32 / $695 = 4.6%
denomintator.
Debt-to-equity ratio = Total liabilities / Stockholders equity
= $924 / $695 = 1.33

2-19
E2-41 (15 minutes)

a.
Kimberly-Clark ($ millions)
Amount Classification
Net sales.............................................................
19,415
Cost of goods sold............................................
13,557
9,465
Net income.........................................................
1,690
Property, plant & equipment, net....................
7,667
Mktg. res., selling, general expense...............
3,291
Accounts receivable, net..................................
2,492
14,211
Total stockholders' equity................................
3,878
b.
Total assets = Total liabilities + Stockholders equity

Total assets =
$14,211
+
$3,878
= $18,089
$19,415
Total expenses = $1,690
c.
Debt-to-equity ratio = Total liabilities / Stockholders equity

= $14,211 / $3,878 = 3.66

2-20
E2-42 (15 minutes)

Transaction
Balance Sheet
Transaction
Cash
Asset
(1) Receive 50,000

in exchange for
common stock.
+50,000
(2) Borrow 10,000

from bank.
+10,000
(3) Purchase 2,000

of supplies
inventory on
credit.
(4) Receive 15,000
cash from
customers for
services provided.
(5) Pay 2,000 cash
to supplier in part
(c).
(6) Receive order for
future services
with 3,500
advance payment.
(7) Pay 5,000 cash
dividend to
shareholders.
(8) Pay employees
6,000 cash for
compensation
earned.
(9) Pay 500 cash for
interest on loan in
(2).
Totals
+ Noncash
Assets =
=
Cash
Cash
+2,000
Inventory
+15,000
+ Contrib.
Capital +
+50,000
- 2,000
Cash
+3,500
Cash
- 5,000
Cash
- 6,000
Cash
- 500
Cash
2,000
Income Statement
Earned
Capital
+10,000
Notes
Payable
+2,000
Accounts
Payable
+15,000
Retained
Earnings
+15,000
Revenue
- 2,000
Accounts
Payable
Unearned
Revenue
+3,500
- 5,000
Retained
Earnings
Retained
Earnings
Retained
Earnings
Net
Common
Stock
Cash
+65,000 +
Liabilities
- 6,000
- 500
13,500
+ 50,000 +
3,500
15,000
=
+6,000
Wages
Expense
Interest
Expense
6,500
+500

2-21
+15,000
- 6,000
- 500
8,500
E2-43 (20 minutes)

a.
1.
2.
3.
4.
5.
6.
7.
8.
9.
Cash (+A)...........................................................................
Common stock (+SE)...................................................
Receive 50,000 in exchange for common stock.
50,000
Cash (+A)...........................................................................
Notes payable (+L).......................................................
Borrow 10,000 from bank.
10,000
Inventory (+A)...................................................................
Accounts payable (+L)................................................
Purchase 2,000 supplies inventory on account.
2,000
Cash (+A)...........................................................................
Revenue (+R, +SE).......................................................
Recognize 15,000 revenue for services provided.
15,000
Accounts payable (-L)......................................................

Cash (-A).......................................................................
Pay supplier 2,000 cash.
2,000
Cash (+A)...........................................................................
Unearned revenue (+L)................................................
Receive 3,500 advance from customer.
3,500
Retained earnings (-SE)...................................................

Cash (-A).......................................................................
Pay 5,000 cash dividend to shareholders.
5,000
Wages expense (+E, -SE)................................................

Cash (-A).......................................................................
Pay employees 6,000
6,000
Interest expense (+E, -SE)...............................................

Cash (-A).......................................................................
Pay 500 interest on note.
500
50,000
10,000
2,000
15,000
2,000
3,500
5,000
6,000
500

2-22
b.
+
(1)
(2)
(4)
(6)
Bal.
+
(3)
Bal.
Cash (A)
50,000
2,000
10,000
5,000
15,000
6,000
3,500
500
65,000
Supplies Inventory (A)

2,000
2,000
(5)
(7)
(8)
(9)
Accounts Payable (L)

2,000
2,000
0
+
(3)
Bal.
Unearned Revenue (L)

3,500
3,500
+
(6)
Bal.
Notes Payable (L)

10,000
10,000
Common Stock (SE)
50,000
50,000
Retained Earnings (SE)
5,000
5,000
Revenue (R)
15,000
15,000
Wages Expense (E)
6,000
6,000
Interest Expense (E)
500
500
+
(2)
Bal.
+
(1)
Bal.
+
(5)
(7)
Bal.
-
+
(8)
Bal.
+
(9)
Bal.
+
(4)
Bal.
-

2-23
E2-44 (20 minutes)

a. and b.
Bettis Contractors
Balance Sheets
June 30,
2010
July 2,
2010
Assets
Cash
Accounts receivable
Supplies
Current assets
Land
Equipment
Total assets
$ 14,700
9,200
30,500
54,400
25,000
98,000
$177,400
$ 2,200
9,200
30,500
41,900
25,000
108,000
$174,900
Liabilities
Accounts payable
Current liabilities
Notes payable
Total liabilities
8,900
8,900
$ 30,000
38,900
8,900
8,900
$ 33,000
41,900
Stockholders' Equity
Common stock
Retained earnings
100,000
38,500
138,500
$177,400
100,000
33,000
133,000
$174,900
c.
CR = $54,400/$8,900 = 6.1
QR = ($14,700 +$9,200)/$8,900 = 2.69
d.
Bettis current ratio indicates a strong liquidity position. The firm might
want to consider investing some of its cash in assets that contribute to the
firms earning power. The quick ratio is reasonable as a company does not
want to tie up to much of its assets in a nonearning asset (cash). A quick
glance at the data indicates that the firm's liquidity position has weakened
since June.

2-24
Exercise 2-45 (15 minutes)
Balance Sheet
Transaction
Cash
Asset
1. Receive $20,000
cash in
exchange for
common stock.
+20,000
Cash
LiabilContrib.
+ Noncash
Assets = ities + Capital +
+2,000
Inventory
4. Record cost of
goods sold in 3.
-2,000
Inventory
8. Pay $5,000 cash

on a note
payable.
9. Pay $2,000 cash
dividend.
TOTALS
+3,000
Sales
-2,000
Retained
Earnings
+5,000
=
Equipment
-1,000
Cash
-5,000
Cash
-2,000
Cash
15,000
+3,000
Retained
Earnings
+5,000
Notes
Payable
-1,000
Retained
Earnings
5,000
-2,000
Retained
Earnings
2,000
20,000
-2,000
3,000
+ 2,000
COGS
Expense
-5,000
Notes
Payable
-3,000
Accounts =
Receivable
+3,000
Cash
6. Acquire $5,000
of equipment by
signing a note.
7. Pay wages of
$1,000 in cash.
Net
+2,000
= Accounts
Payable
+3,000
Accounts
Receivable =
3. Sell inventory for

$3,000 on credit.
Earned
Capital
+20,000
Common
Stock
2. Purchase $2,000
of inventory on
credit.
5. Collect $3,000
cash from
transaction 3.
Income Statement
+ 1,000
Wages
Expense
3,000

2-25
+3,000
- 2,000
- 1,000
E2-46 (20 minutes)

a.
1.
2.
3.
4.
5.
6.
7.
8.
9.
Cash (+A)...........................................................................
Common stock (+SE)...................................................
20,000
Inventory (+A)...................................................................
2,000

Sales (+R, +SE).............................................................
3,000
Cost of goods sold (+E, -SE)...........................................

Inventory (-A)................................................................
2,000
Cash (+A)...........................................................................
3,000
Equipment (+A).................................................................
Notes payable (+L).......................................................
5,000

Cash (-A).......................................................................
1,000
Notes payable (-L)............................................................

Cash (-A).......................................................................
5,000

Cash (-A).......................................................................
2,000
20,000
2,000
3,000
2,000
3,000
5,000
1,000
5,000
2,000

2-26
b.
+
(1)
(5)
Cash (A)
20,000 1,000
3,000 5,000
2,000
Common Stock (SE)

20,000
(7)
(8)
(9)
-
+
(2)
Inventory (A)
2,000 2,000
(4)
+
(4)
(7)
3,000 3,000
(5)
(9)
+
(6)
(8)
Equipment (A)
5,000
Notes Payable (L)
5,000 5,000
Sales Revenue (R)

3,000
+
(3)
Cost of Goods Sold (E)

2,000
+
+
(3)
+
(1)
Wages Expense (E)

1,000
2,000
2,000
+
(2)
+
+
(6)

2-27
PROBLEMS
P2-47 (30 minutes)
a.
Comcast, Target and Harley-Davidson are financed primarily by debt

(between 65% and 75% of total assets). Apple is about equally financed by
debt and equity, while Nike is 2/3 financed by equity and only 1/3 by debt.
b.
Apple and Nike both earned over 10% on assets. Possible reasons
include the firms ability to command a premium price for their brands and
the ability to outsource a significant amount of their production (and avoid
investments in productive capacity).
c.
Harley-Davidson has the highest estimated ROE at 31%. (The ROE is

estimated because we have only this years equity.) Harley-Davidsons
ROE is higher than those of Apple and Nike due to the difference in their
debt-equity relationship. We explore this topic more in Chapter 5.
P2-48 (30 minutes)

a.
Dell is over 80% debt financed while Apple is just over 50% equity financed.
We describe Dell as the more heavily leveraged firm.
b.
Dell's net income to asset ratio is 9.4% while Apples is 10.6%. The ratios
are quite close, which might be expected given the similarities of their
activities. On the other hand, more heavily leveraged firms are open to
greater risk and for this reason, we might expect a greater return to be
earned on Dells assets to compensate for the higher risk. Dells return
does not exceed Apples suggesting that Apple has superior product or is
more efficient in its operations.
c.
Dells gross profit as a percent of sales is 18% while Apples is 36%. The
implication is that Apple does have the more efficient production operation
and/or product designs that allow it to command a premium price from
consumers.

2-28
P2-49 (30 minutes)

a.
Verizon is 79% financed by debt while Comcast is 64% financed with

debt. Such similar financing is not unusual for companies in the same
industry.
b.
Verizon has the slightly higher net income to total asses ratio at 3%, but
neither company is doing very well. The cost of raising operating funds is
probably larger than either firms current return. Certainly one reason is
the highly competitive market in which these two firms operate.
c.
Verizon has a slightly higher return on total assets but also more leverage
(debt), so it is hard to conclude which firm would have more difficulty
raising additional capital. The decision would likely turn on other factors
including trends in these numbers and others like cash flows. Based on
the limited data supplied, it appears that Comcast might find it easier to
borrow additional capital. If lenders are willing to fund 79% of Verizons
assets, they might be willing to increase Comcasts debt funding from 64%.
P2-50 (30 minutes)

a.
3M at 61% is the more heavily debt-financed firm. Apple is about equally

financed with owner (stockholder) funds and debt (nonowner) funds.
Abercrombie and Fitch is 35% financed by debt.
b.
Apple has more working capital, but it is also the larger firm. A better
measure of the comparative differences in working capital is the ratio of the
firms current assets to its current liabilities. This ratio is greatest for
Abercrombie & Fitch at 2.4

2-29
P2-51 (30 minutes)

Barth Company
Balance Sheet
December 31, 2010
a.
Assets
Liabilities
Cash.................................$ 8,800
Accounts receivable........18,400
Equipment..........................9,000
Land..................................50,000
Accounts payable............
$ 7,500
Equity
Stockholders equity.......
Total liabilities & equity...
78,700
$86,200
Total assets
$86,200
b.
Increase in Equity ($78,700-$67,500)

Add: Dividends
Net Income for 2010
$11,200
12,000
23,200
c.
Increase in Equity ($78,700-$67,500)

Add: Dividends
$11,200
21,000
32,200
13,500
$18,700
Less: Additional Investment

Net Income for 2010
P2-52 (20 minutes)
a.
Total assets (Total liabilities and
equity) .....................................................
Total expenses (Sales Net income)...
Total expenses as percent of sales......
ANF
JWN
$2,848
$5,661
3,268
92%
($3,268/$3,540)
7,871
95%
($7,871/$8,272)
b.
ANF
$272
Return on
[($2,848-$1,003)+$1,618]/2
average equity
JWN
=15.7%
$401
[($5,661-$4,451)+$1,115]/2
=34.5%

2-30
P2-53 (30 minutes)

a.
3M
2003
2004
2005
2006
2007
2008
b.
Current
Assets
Long-term
Assets
7,720
8,720
7,115
8,946
9,838
9,598
9,880
11,988
13,398
12,348
14,856
15,949
Total
Assets
17,600
20,708
20,513
21,294
24,694
25,547
Current
Liabilities
Long-term
Liabilities
Total
Liabilities
5,082
6,071
5,238
7,323
5,362
5,839
4,633
4,259
5,175
4,012
7,585
9,829
9,715
10,330
10,413
11,335
12,947
15,668
Stockholders'
Equity
7,885
10,378
10,100
9,959
11,747
9,879
3Ms current assets most likely include cash, accounts receivable,

inventories, and prepaid assets.
Its long-term assets most likely include property, plant and equipment
(PPE), goodwill, and other intangible assets that have arisen from
acquisitions.
c.
2003: $7,720/$5,082 = 1.52. 2008: $9,598/$5,839 = 1.64.
d.
3Ms current ratio is reasonable and has not changed appreciably in the six
years covered by the data. Apparently the company is comfortable with its
current liquidity position even though it is below the industry average.

2-31
P2-54 (30 minutes)

a.
Abercrombie
& Fitch
Current
Assets
Long-term
Assets
Total
Assets
Current
Liabilities
Long-term
Liabilities
Total
Liabilities
Stockholders'
Equity
2002
405
366
771
164
12
176
595
2003
601
394
995
211
34
245
750
2004
753
446
1,199
280
48
328
871
2005
671
718
1,389
429
71
500
889
2006
947
843
1,790
492
303
795
995
2007
1,092
1,156
2,248
511
332
843
1,405
2008
1,140
1,428
2,568
543
406
949
1,619
b.
We might reasonably predict inventories to comprise the bulk of its current

assets. In reality, ANFs largest current asset is cash and short-term
investmentssuggesting that the company is very liquid.
c.
In fiscal year 2002, current assets comprised 53% ($405/$771) of total

assets. In fiscal year 2008, current assets comprised 44% ($1,140/$2,568).
Thus, the company has fewer current assets as a percentage of total assets
in 2008 than it did 7 years ago.
d.
Yes, but the company is less conservatively financed in 2008 [63%:

$1,619/$2,568]. In 2002, stockholders equity comprises 77% ($595/$771) of
its total capitalization. The average publicly traded firm is about 50%
equity financed.
e.
In fiscal 2002, ANFs current ratio is 2.47 ($405/$164). In fiscal 2008 the
ratio is 2.10 ($1,140/$543).
f.
While less than 2.25, the ratio is reasonable for ANF. The firms current
ratio has decreased relative to what it was in 2002. Despite the less liquid
position of the firm, this change is likely to be to the firms advantage as
more of its assets are deployed in productive activities. The change also
suggests a less conservative financing of the company.

2-32
P2-55 (30 minutes)

a.
Balance Sheet
Transaction
1. Issued common
stock $7,000.
2. Paid rent $750.
Cash
Noncash
LiabilContrib.
+7,000
+7,000
=
Cash
Common
5. $1,200 Cash
received for
services.
6. Billed clients
$6,800 for
services.
7. Paid $2,200 cash
for salary.
-750
Net
-750
=
+15,000
Cash
Retained
Earnings
-500
+500
Advertising
Expense
+15,000
Notes
Payable
+1,200
+1,200
Counseling
Services
Revenue
+6,800
+6,800
Retained
Earnings
Services
Revenue
Retained
Earnings
Retained
Earnings
Retained
Earnings
+6,800
Cash
-370
9. Paid $900 cash

dividend.
-900
Cash
Cash
10. Acquired land for -13,000

Cash
$13,000.
11. Paid $100 interest
-100
Cash
in cash.
+13,000
Land
-2,200
-370
-900
=
-100
Retained
Earnings
$5,880 + $19,800 = $15,500 + $7,000 +
$3,180
b.
Rent
Expense
Retained
Earnings
Retained
Earnings
-2,200
+750
+500
Cash
Accounts
Receivable
Accounts
Payable
+1,200
8. Paid $370 cash for

utilities.
Totals
Earned
Capital
Stock
Cash
3. Received $500
invoice for
advertising
expense.
4. Borrowed $15,000
cash from bank.
Income Statement
$8,000
-500
=
=
+1,200
+6,800
+2,200
Salary
Expense
Utilities
Expense
+370
=
=
=
+100
-370
-100
Interest
Expense
$3,920
= $4,080
$8,000
$ 750
500
2,200
370
100
3,920
$4,080
-2,200
Lambert Services
Income Statement
For the Month of December 2010
Counseling services revenue

Expenses
Rent expense
Advertising expense
Salary expense
Utilities expense
Interest expense
Total expenses
Net income
-750
2-33
P2-56 (30 minutes)

a.
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
Cash (+A)...........................................................................
Common stock (+SE)...................................................
7,000
Rent expense (+E,-SE).....................................................

Cash (-A).......................................................................
750
Advertising expense (+E, -SE)........................................

500
Cash (+A)...........................................................................
Notes payable (+L).......................................................
15,000
Cash (+A)...........................................................................
Counseling services revenue (+R,+SE).....................
1,200

Counseling services revenue (+R,+SE).....................
6,800
Salary expense (+E,-SE)..................................................

Cash (-A).......................................................................
2,200
Utilities expense (+E,-SE)................................................

Cash (-A).......................................................................
370
Retained earnings (dividend paid) (-SE)........................

Cash (-A).......................................................................
900
Land (+A)...........................................................................
Cash (-A).......................................................................
13,000
Interest expense (+E,-SE)

Cash (-A).......................................................................
100
7,000
750
500
15,000
1,200
6,800
2,200
370
900
13,000
100

2-34
b.
+
(1)
(4)
(5)
+
(6)
Cash (A)
7,000
750
15,000
2,200
1,200
370
900
13,000
100
(2)
(7)
(8)
(9)
(10)
(11)

6,800
+
(10)
Land (A)
13,000
(2)
+
(7)
Rent Expense (E)

750
Salary Expense (E)

2,200
+
(3)
Notes Payable (L)

15,000
+
(4)
Common Stock (SE)

7,000
+
(1)
(9)

900

500
Counseling Services Rev. (R)

1,200
6,800
+
(5)
(6)
Advertising Expense (E)

500
(8)
Utilities Expense (E)

370
+
(11)

100
(3)

2-35
P2-57 (30 minutes)

a.
CA
NCA
2004
$ 7,055
2005
10,300
1,251
2006
14,509
2007
TA
995 $ 8,050
CL
NCL
TL
SE
$ 2,651
$ 323
$ 2,974
$5,076
11,551
3,484
601
4,085
7,466
2,696
17,205
6,471
750
7,221
9,984
21,956
3,391
25,347
9,280
1,535
10,815
14,532
2008
32,311
7,261
39,572
14,092
4,450
18,542
21,030
2009
36,265
17,586
53,851
19,282
6,737
26,019
27,832
b.
For a computer company we might reasonably expect inventories and cash

to be the predominant items in current assets. The reality is that inventory
is not a large dollar amount because the companys business model
depends on high inventory turnoverthat is, it works diligently to minimize
the quantity of inventory to avoid product obsolescence. The surprise is
that two-thirds of Apples current assets are about equally divided between
cash and short-term marketable securities. Long-term assets are primarily
concentrated in property, plant and equipment (PPE) and financial
securities. The latter grew to over 50% in 2009.
c.
The percentage of Apples assets that is financed with liabilities has

increased steadily over this period (from 37% in 2004 to 48% in 2009). This
increase in the proportion of debt financing coincides with an increase in
the proportion of noncurrent assets to total assets (from 12% in 2004 to
33% in 2009).
d.
2004: $7,055/$2,651 = 2.66; 2009: $36,265/$19,282 = 1.88
e.
Apples current ratio has fallen from above the industry average to below
the industry average. A probable cause of this decrease is the increasing
size of the company. Net working capital increased from $4,404 in 2004 to
$16,983 in 2009. So, even though the ratio has declined, the monetary
cushion of current assets over current liabilities has increased
substantially.

2-36
P2-58 (30 minutes)

a.
HarleyDavidson
Current
Assets
Long-term
Assets
Total
Assets
Current
Liabilities
Long-term
Liabilities
Total
Liabilities
Stockholders'
Equity
2003
2,729
2,194
4,923*
956
1,010
1,966
2,958*
2004
3,683
1,800
5,483
1,173
1,092
2,265
3,218
2005
3,145
3,022
6,167
873
2,211
3,084
3,083
2006
3,551
1,981
5,532
1,596
1,179
2,775
2007
3,467
2,190
5,657
1,905
1,377
3,282
2,375
2008
5,378
2,451
7,829
2,603
3,110
5,713
2,116
2,757
* Due to rounding, total assets of $4,923 has a $1 difference from total liabilities and equity of $4,924.
b.
Harleys current assets are likely to be comprised of cash, accounts

receivable, inventories and prepaid expenses.
Its long-term assets will likely be comprised of property, plant and
equipment (PPE) for its manufacturing operations and goodwill and
other intangible assets arising from acquisitions.
c.
No, stockholders equity represents only 27% ($2,116/$7,829) of total

capitalization. However, this ratio was 60% in 2003. Harley Davidson
became significantly more leveraged in 2008. The capitalization of
the average publicly traded company is financed through about 50%
of equity and about 50% nonowner financing.
d.
2003: $2,729 - $956 = $1,773. 2008: $5,378 - $2,603 = $2,775.

2-37
P2-59 (30 minutes)

a.
($ millions)
Revenues
Cost of
Goods Sold
Gross
Profit
Operating
Expenses
Operating
Income
Other
Expenses
Net
Income
2002
9,893
6,005
3,888
2,820
1,068
405
663
2003
10,697
6,313
4,384
3,138
1,246
772
474
2004
12,253
7,001
5,252
3,702
1,550
604
946
2005
13,740
7,625
6,115
4,222
1,893
682
1,211
2006
14,955
8,368
6,587
4,478
2,109
717
1,392
2007
16,326
9,165
7,161
5,029
2,132
640
1,492
2008
18,627
10,240
8,387
5,954
2,433
550
1,883
b.
The gross profit percentage (also called gross profit margin) for each year
follows:
Nike, Inc.
Gross Profit Percentage
2002................
39.3%
2003................
41.0%
2004................
42.9%
2005................
44.5%
2006................
44.0%
2007................
43.9%
2008................
45.0%
Nikes gross profit has fluctuated over this period, and it is somewhat
higher recently than it has been in earlier years reflecting continued
strength and a possible upward trend. The company's operating expenses
have grown substantially over this period, from 28.5% of revenue to 32.0%
of revenue, but net income has increased steadily from 2002 to 2008 both
in absolute terms and as a percentage of revenue.
c.
Cost of goods sold, wages, and selling and administration expenses are
likely to be the major cost categories for Nike.

2-38
P2-60 (30 minutes)

a.
Balance Sheet
Transaction
1. Issued common
stock for cash.
2. Rent paid in cash
$4,800.
3. Invoice for
entertainment
expense: $1,600.
4. Cash paid for
advertising: $900.
5. July insurance
premium prepaid
in cash: $1,800.
6. Flight services
collected in cash
$22,700.
Cash
Noncash
LiabilAsset + Assets = ities
+$50,000
=
Cash
=
-900
+1,600
-1,600
Accounts
Payable
Retained
Earnings
-1,800
+1,800
Cash
Prepaid
Insurance
Retained
Earnings
=
+22,700
+22,700
Cash
Retained
Earnings
Flight
Services
Revenue
+15,900
+15,900
Retained
Earnings
Flight
Services
Revenue
=
+15,900
-1,500
=
=
Cash
-13,200
Cash
Accounts
Receivable
10. Paid wages in

cash: $16,000.
-16,000
11. Invoice received

for fuel; $3,500.
=
-3,000
Cash
$57,900 +
-1,500
Accounts
Payable
-16,000
Cash
$4,500
Rent Expense
Entertainment
Expense
Advertising
Expense
+900
+22,700
Accounts
Receivable
+3,500
-3,500
Retained
Earnings
Retained
Earnings
= $3,600 + $50,000 +
$8,800
+15,900
+16,000
Wages
expense
+3,500
Fuel Expense
=
=
-16,000
-3,500
=
$26,800

-900
$38,600
-3,000
-1,600
=
+22,700
Retained
Earnings
Accounts
Payable
-4,800
=
+1,600
-900
Cash
=
+4,800
Retained
Earnings
+13,200
TOTALS
Net
-4,800
Cash
9. Received $13,200
on account.
12. Cash dividend

paid: $3,000.
Earned
Capital
Common
Stock
-4,800
7. Billed for flight

services $15,900.
8. Paid $1,500 on
accounts.
+ Contrib.
Capital +
+$50,000
Income Statement
2-39
= $11,800
b.
Outback Flights
INCOME STATEMENT
FOR THE MONTH OF JUNE 2010
Revenue
Services fees earned
Expenses
Rent expense
Entertainment expense
Advertising expense
Wages expense
Fuel expense
Total expenses
Net income
$38,600
$4,800
1,600
900
16,000
3,500
26,800
$11,800
Note that the insurance premium paid is for the next month (July) and is not an
expense at the end of June.
P2-61 (30 minutes)

a.
1.
2.
3.
4.
5.
6.
7.
8.
Cash (+A)...........................................................................
Common stock (+SE)...................................................
50,000
Rent expense (+E,-SE).....................................................

Cash (-A).......................................................................
4,800
Entertainment expense (+E,-SE).....................................

1,600
Advertising expense (+E,-SE).........................................

Cash (-A).......................................................................
900
Prepaid insurance (+A)....................................................

Cash (-A).......................................................................
1,800
Cash (+A) ..........................................................................

Flight services revenue (+R,+SE)...............................
22,700

Flight services revenue (+R,+SE)...............................
15,900

Cash (-A).......................................................................
1,500
50,000
4,800
1,600
900
1,800
22,700
15,900
1,500

2-40
9.
10.
11.
12.
Cash (+A)...........................................................................
13,200
Wages expense (+E,-SE).................................................

Cash (-A).......................................................................
16,000
Fuel expense (+E,-SE)......................................................

3,500
Retained earnings (dividend paid) (-SE)........................

Cash (-A).......................................................................
3,000
13,200
16,000
3,500
3,000
b.
+
(1)
(6)
(9)
+
(7)
(2)
(4)
(5)
(8)
(10)
(12)

15,900 (9)
13,200
Prepaid Insurance (A)

1,800
(5)
+
(2)
+
(4)
Cash (A)
50,000
4,800
22,700
900
13,200
1,800
1,500
16,000
3,000
Rent Expense (E)

4,800

900
(8)

1,500 1,600
3,500
Common Stock (SE)

50,000
(12)
Entertainment Expense (E)

1,600
Wages Expense (E)

16,000
(10)
+
(11)
(1)
Flight Services Revenue (R) +

22,700 (6)
15,900 (7)
(3)

3,000
+
(3)
(11)
Fuel Expense (E)

3,500

2-41
P2-62 (30 minutes)

a.
Cost of
Goods Sold
Gross
Profit
Operating
Expenses
Other
Expenses
Net
Income
425
157
268
2,497
606
217
389
3,764
2,983
781
287
494
3,179
4,608
3,715
329
564
9,412
3,999
5,413
4,359
1,054
381
673
2008
10,383
4,645
5,738
5,234
504
188
316
2009
9,775
4,325
5,450
4,888
562
171
391
Starbucks
Sales
2003
4,076
1,686
2,390
1,965
2004
5,294
2,191
3,103
2005
6,369
2,605
2006
7,787
2007
b.
Operating
Income
893
follows:
Starbucks, Inc.
2003
2004
2005
2006
2007
2008
2009

58.6%
58.6%
59.1%
59.2%
57.5%
55.3%
55.8%
SBUX gross profit percentage has declined since 2007 reflecting the
decline of in-store sales over the last several years.
c.
Cost of goods sold, wages, and advertising expenses are likely to be major
cost categories for Starbucks.

2-42
P2-63 (30 minutes)

a.
($ millions)
Revenues
Cost of
Goods Sold
Gross
Profit
Operating
Expenses
Operating
Income
Other
Expenses
Net
Income
2002
42,722
29,260
13,462
10,198
3,264
1,610
1,654
2003
46,781
31,790
14,991
11,472
3,519
1,678
1,841
2004
45,682
31,445
14,237
10,636
3,601
403
3,198
2005
51,271
34,927
16,344
12,021
4,323
1,915
2,408
2006
57,878
39,399
18,479
13,410
5,069
2,282
2,787
2007
61,471
41,895
19,576
14,304
5,272
2,423
2,849
2008
62,884
44,157
18,727
14,325
4,402
2,188
2,214
Table notes:
1.
Sales and Cost of Goods Sold relate only to product sales. Targets
credit card revenue and costs are netted and included in operating
expenses.
2.
Targets Other Expenses is small in 2004 because it includes a large

gain on discontinued operations (the sale of Marshall Fields and
Mervyns stores). Those transactions also account for the drop in
revenues from 2003 to 2004. All numbers are as reported in that
fiscal year not as subsequently restated for discontinued
operations.

2-43
b.
follows:
Target Corporation
2002
2003
2004
2005
2006
2007
2008

31.5%
32.0%
31.2%
31.9%
31.9%
31.8%
29.8%
Targets gross profit percentage has decreased over the past two years.
The decline reflects the difficult economic conditions and declining
consumer spending that occurred during that period.
c.
Cost of goods sold, wages, and advertising expenses are likely to be the
major cost categories for Target Corporation.
P2-64 (25 minutes)

a.
Geyer, Inc.
Income Statement
Service fees...........................................................................
$67,600
Supplies expense.................................................................
$ 9,700
Insurance expense...............................................................
1,500
Salaries expense..................................................................
30,000
Advertising expense............................................................
1,700
Rent expense........................................................................
7,500
Miscellaneous expense.......................................................
200
Total expenses................................................................
50,600
Net income............................................................................
$17,000

2-44
b.
Geyer, Inc.
Statement of Stockholders Equity
Common
Stock
Balance at December 31, 2010

Stock issuance..........................
Dividends..................................
Net income................................
Balance at December 31, 2011
$4,000
1,400
_____
$5,400
Retained
Earnings
$6,200
(13,500)
17,000
$9,700
Total Stockholders
Equity
$10,200
1,400
(13,500)
17,000
$15,100
c.
Geyer, Inc.
Balance Sheet
December 31, 2011
Cash....................................
$14,800
Accounts payable...................
$ 1,800
Supplies..............................
6,100
Notes payable .........................
4,000
Total assets........................
$20,900
Total liabilities
5,800
Common stock .
5,400
Retained earnings* .
9,700
Total liabilities and equities ..
$20,900
* $6,200 beginning balance + $17,000 net income - $13,500 dividend

2-45
P2-65 (45 minutes)

a & b.
Balance Sheet
Transaction
Beginning Balances
1. Paid $600 cash
toward accounts
payable
2. Paid rent in cash:
$3,600
Cash
Noncash
Liabil- + Contrib. +
Asset + Assets = ities
Capital
+5,000
+5,200 = +3,500
+5,500
-600
-600
Cash
Accounts
= Payable
-3,600
3. Billed clients
$11,500
+11,500
Accounts
Receivable
4. $500 invoice
received for
advertising
5. Cash collected on
account: $10,000
+10,000
-10,000
Cash
Accounts
Receivable
6. Paid wages
expense in cash:
$2,400
7. Invoiced for utility
expense: $680
-2,400

interest on note
9. Paid $900 cash
dividend
10. Paid $4,000 cash
for sound
equipment
TOTALS
Net
-
Retained
Earnings
=
=
Earned
Capital
+1,200
-3,600
Cash
Income Statement
+11,500
+11,500
Retained
Earnings
Services
Revenue
+500
-500
Accounts
Payable
Retained
Earnings
-20
-900
Cash
-4,000
+4,000
Cash
Equipment
+680
-680
Retained
Earnings
-20
Retained
Earnings
Retained
Earnings
-900
$3,480 + $10,700 = $4,080
+ $5,500 +
$4,600
+11,500
Advertising
Expense
-500
=
=
+2,400
Retained
Earnings
Accounts
Payable
-3,600
=
=
Cash
Rent
Expense
+500
-
+3,600
-2,400
Cash
$11,500
Wages
Expense
Utilities
Expense
Interest
Expense
+680
+20
-2,400
=
=
=
$7,200
-20
= $4,300

2-46
-680
c.
Schrand Aerobics, Inc.
Income Statement
For Month Ended January 31, 2011
Sales revenue........................................................................
Expenses...............................................................................
Rent expense....................................................................
Advertising expense........................................................
Wages expense...............................................................
Interest expense..............................................................
Utilities expense..............................................................
$11,500
$3,600
500
2,400
20
680
Total expenses......................................................................
7,200
Net income........................................................................
$4,300
d.
Common
Stock
Balance at January 1, 2011......
Stock issuance..........................
Dividends..................................
Net income................................
Balance at January 31, 2011....
Retained
Earnings
$5,500
$1,200
_____
$5,500
(900)
4,300
$4,600
Total
Stockholders
Equity
$6,700
(900)
4,300
$10,100
e.
Balance Sheet
January 31, 2011
Cash..................................
$3,480
Accounts payable....................
$ 1,580
Accounts receivable.......
6,700
Notes payable ...........................
2,500
Equipment........................
4,000
Total liabilities...........................
4,080
Total assets .
$14,180
Common stock..........................
5,500
Retained earnings ..
4,600
Total liabilities and equity........
$14,180

2-47
P2-66 (30 minutes)

a.
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.

Cash (+A)......................................................................
600
Rent expense (+E,-SE).....................................................

Cash (-A).......................................................................
3,600

Services revenue (+R,+SE).........................................
11,500
Advertising expense (+E, -SE)........................................

500
Cash (+A)...........................................................................
10,000

Cash (-A).......................................................................
2,400
Utilities expense (+E, -SE)...............................................

680
Interest expense (+E, -SE)...............................................

Cash (-A).......................................................................
20

Cash (-A).......................................................................
900
Equipment (+A).................................................................
Cash (-A).......................................................................
4,000
600
3,600
11,500
500
10,000
2,400
680
20
900
4,000

2-48
b.
+
Beg. Bal.
(5)
End Bal.
Cash (A)
5,000
600
10,000
3,600
2,400
20
900
4,000
3,480
(1)
(2)
(6)
(8)
(9)
(10)
+
Beg. Bal.
5,200 10,000
(3)
11,500
End Bal.
6,700
+
Equipment (A)
(10)
4,000
End Bal.
4,000
(1)
(5)
2,500 End Bal.

Common Stock (SE)
+
5,500 Beg. Bal.
(9)
+
(2)
End Bal.
+
(4)
Rent Expense (E)

3,600
3,600

500
End Bal.
+
(6)
End Bal.
5,500 End Bal.

Retained Earnings (SE) +
900
1,200 Beg. Bal.
300 End Bal.
Services Revenue (R) +
11,500
(3)
11,500 End Bal.
+
(7)
End Bal.
-

+
600
1,000 Beg. Bal.
500
(4)
680
(7)
1,580 End Bal.
Notes Payable (L)
+
2,500 Beg. Bal.
+
(8)
End Bal.

680
680
20
20
500
Wages Expense (E)
2,400
2,400

2-49
P2-67 (45 minutes)

a & b.
Balance Sheet
Transaction
Beginning Balances
rent.
2. Received $8,800
cash on account.
3. $500 paid on
accts. payable.
Cash
Noncash
LiabilContrib.
+6,700
+14,800
+3,100
+6,000
-950
=
Cash
+8,800
-8,800
Cash
Accounts
Receivable
-500
Earned
Capital
+12,400
-950
Net
+950
Retained
Earnings
=
-500
= Accounts
Cash
Rent
Expense
+1,600
5. Borrowed $5,000
signed note.
+5,000
Cash
Cash
6. Billed $8,100 for

services.
+8,100
Accounts
Receivable
-4,000
Cash
8. Received invoice
for utilities: $410.
+8,100
+8,100
Retained
Earnings
Services
Revenue
Retained
Earnings
-4,000
10. Paid $9,800 cash

for vehicle.
11. Paid $50 cash
interest on note.
-9,800
+9,800
Cash
Vehicles
TOTALS
$800
Cash
-50
-410
Retained
Earnings
-6,000
Retained
Earnings
=
=
Cash
+1,600
Services
Revenue
Notes
Payable
Payable
-6,000
+1,600
Retained
Earnings
+5,000
+410
= Accounts
9. Paid $6,000
dividend.
+ $23,900 = $8,010 + $6,000 +
-50
Retained
Earnings
$10,690
$9,700
+4,000
Salary
Expense
Utilities
Expense
+410
=
=
=
+50
+1,600
+8,100
-4,000
-410
-50
Interest
Expense
$5,410
= $4,290
c.
Kross, Inc.
Income Statement
Services revenue..........................................................................
$9,700
Rent expense...
$ 950
Utilities expense.
410
Salary expense...
4,000
Interest expense....
50
Total expenses..............................................................................
5,410
Net income................................................................................
$4,290

2-50
-$950
Payable
4. Received $1,600
cash for services.
7. Paid $4,000 for

cash salary.
Income Statement
d.
Kross, Inc.
Common
Stock
Balance at January 1, 2011......
Stock issuance..........................
Dividends..................................
Net income................................
Balance at January 31, 2011....
Retained
Earnings
$6,000
$12,400
_____
$6,000
(6,000)
4,290
$10,690
Total
Stockholders
Equity
$18,400
(6,000)
4,290
$16,690
e.
Kross, Inc.
Balance Sheet
January 31, 2011
Cash..................................
800
Accounts payable.....................
510
Accounts receivable.......
14,100
Notes payable............................
7,500
Equipment........................
9,800
Total liabilities...........................
8,010
Total assets......................
$24,700
Common stock..........................
6,000
Retained earnings.....................
10,690
Total liabilities and equity........
$24,700

2-51
P2-68 (30 minutes)

a.
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
Rent expense (+E,-SE).....................................................

Cash (-A).......................................................................
950
Cash (+A)...........................................................................
8,800

Cash (-A).......................................................................
500
Cash (+A)...........................................................................
Services revenue (+R,+SE).........................................
1,600
Cash (+A)...........................................................................
Notes payable (+L).......................................................
5,000

Services revenue (+R, +SE)........................................
8,100
Salary expense (+E,-SE)..................................................

Cash (-A).......................................................................
4,000
Utilities expense (+E,-SE)................................................

410

Cash (-A).......................................................................
6,000
Vehicles (+A).....................................................................
Cash (-A).......................................................................
9,800
Interest expense (+E,-SE)................................................

Cash (-A).......................................................................
50
950
8,800
500
1,600
5,000
8,100
4,000
410
6,000
9,800
50

2-52
b.
+
Beg. Bal.
(2)
(4)
(5)
Cash (A)
6,700
950
8,800
500
1,600
4,000
5,000
6,000
9,800
50
(1)
(3)
(7)
(9)
(10)
(11)
+ Accounts Receivable (A)

Beg. Bal.
14,800
8,800
(6)
8,100
+
(10)
Vehicles (A)
9,800

410

50
(8)
(11)
(2)
(3)
+
(1)
Rent Expense (E)

950
+
(7)
Salary Expense (E)

4,000
Notes Payable (L)

2,500
5,000
Common Stock (SE)
6,000
+
Beg. Bal.
(5)
+
Beg. Bal.

+
Beg.
Bal.
6,000 12,400
Services Revenue (R)

1,600
8,100
(9)
-

+
Beg. Bal.
500 600
410
(8)
+
(4)
(6)

2-53
CASES and PROJECTS

C2-69 (30 minutes)
WILDLIFE PICTURE GALLERY
INCOME STATEMENT
FOR THE MONTH OF MARCH 2011
a.
Revenues
Commissions earned ..
Expenses
Rent expense
Wages expense
Utilities expense
Delivery expense
Total expenses
Net income
$28,500
$ 900
4,900
350
1,700
7,850
$20,650
b.
For the Month of MARCH 2011
Balance at March 1, 2011.........

Stock issuance..........................
Dividends..................................
Net income................................
Balance at March 31, 2011.......
Common
Stock
$0
6,500
Retained
Earnings
$0
Stockholders
Equity
$0
6,500
_____
$6,500
20,650
$20,650
20,650
$27,150

2-54
c.

BALANCE SHEET
MARCH 31, 2011
Assets
Cash
Advance recvbl.*
$51,200
500
Total assets
$51,700
Liabilities
Payable to artists**
Notes payable
Accounts payable
Total liabilities
Stockholders equity
Total liabilities and
stockholders equity
$12,500
10,000
2,050
24,550
27,150
$51,700
* It is important to recognize that the Wildlife Picture Gallery is a separate entity

from its shareholder/operator, Sarah Penney. The $500 payment for airfare is not
an expense of the business, but rather a payment on behalf of an employee.
Sarah will have to reimburse the company or have the amount deducted in future
compensation, as recognized in the advance receivable asset for Wildlife Picture
Gallery.
**70%($95,000) $54,000 is owed to artists.

2-55
C2-70 (30 minutes)

Andrea faces a dilemma when she prepares her expense reimbursement request.
She has, in essence, been asked by her supervisor to join him in overcharging
expenses to the company. Should Andrea not file a reimbursement request for the
Luxury Inn lodging costs, the company may question why she and her supervisor
stayed at different locations.
Discussion of this case should focus on the options available to Andrea. The
options include the following:
1.
2.
3.
4.
5.
File an expense reimbursement request for the Luxury Inn and, therefore,
minimize the likelihood of jeopardizing her relationship with her supervisor.
File an expense reimbursement request for the Spartan Inn and let future events
take whatever course they follow.
Report the situation to her supervisor's boss.
Discuss the situation with her supervisor and indicate that she (Andrea) is not
comfortable with filing the Luxury Inn receipt. Perhaps encourage the
supervisor to seek a change in company policy to provide daily allowances for
lodging and meal costs rather than reimbursing actual costs.
Leave the employ of the company.
There is no single correct answer to the problem. The first choice is not a good
solution for the long run as it starts a slippery slope for Andrea, which is likely to
lead to further concessions to proper behavior and more serious problems.
Additional and more serious situations increase the chances her behavior is
likely to be discovered and she could be fired or even sent to jail. One would
hope that sleepless nights would intervene long before this time. It is better to
draw the line here. Talking to her supervisor is a good idea and perhaps
instituting a policy that avoids any temptation. Leaving the company would be a
fallback choice if discussion of the situation does not lead to a resolution of the
situation that preserves Andreas ethical requirements.

2-56

Dmp3e Ch02 Solutions 04.13.10 Final

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Dmp3e Ch02 Solutions 04.13.10 Final

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Chapter 2

Constructing Financial Statements

LO2 Use the financial

14, 15, 16, 17,

32, 33, 34, 35,

19, 21, 22, 23,

36, 37, 38, 39,

25, 26, 27, 29,

40, 41, 42, 43,

47, 48, 49, 50,

60, 62, 64, 65,

LO3 Describe and construct

19, 20, 21, 22,

33, 34, 35, 37,

38, 39, 40, 41

51, 52, 53, 54,

60, 62, 63, 64,

LO4 Explain revenue

20, 22, 23, 24,

LO5 Illustrate equity

18, 19, 21, 22,

LO6 Use journal entries and

25, 26, 29, 30,

LO7 Compute net working

32, 34, 36, 38,

53, 55, 57, 58,

51, 64, 65, 67

53, 56, 57, 58,

50, 53, 54, 57,

Cambridge Business Publishers, 2011

An asset is something that we own that is expected to provide future

The revenue recognition principle requires that revenues be recognized

Accrual accounting entails the recognition of revenue under the revenue

Cambridge Business Publishers, 2011

Financial Accounting, 3rd Edition

The statement of stockholders equity provides information relating to all

An asset must be owned and it must provide future benefits. Owning

Cambridge Business Publishers, 2011

An intangible asset is an asset that we cannot touch. To be included on

Cambridge Business Publishers, 2011

Financial Accounting, 3rd Edition

M2-19 (15 minutes)

M2-20 (20 minutes)

Net income computation

M2-21 (10 minutes)

Cambridge Business Publishers, 2011

Financial Accounting, 3rd Edition

M2-22 (10 minutes)

M2-23 (10 minutes)

M2-24 (15 minutes)

January 31, 2009

Cambridge Business Publishers, 2011

M2-25 (10 minutes)

Increase assets (Cash)

M2-26 (10 minutes)

Increase assets (Office Equipment)

Cambridge Business Publishers, 2011

Financial Accounting, 3rd Edition

M2-27 (10 minutes)

Other retained earnings changes.................................

Retained earnings, December 28, 2008...................................

M2-28 (10 minutes)

Explanation: All of the revenue is reported in 2010 when it is earnedper the

Cambridge Business Publishers, 2011