MGMT-026 Intro to Financial Accounting Group Project

Kids in Prison Program

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Problem 1

FIFO Perpetual Date Good Purchased Cost of Goods Sold Inventory Balance 1/1

Beginning Inventory

29 @ $13 = $377

1/6 20 @ $13 = $260 9 @ $13 = $117 1/17 100 @ $15 = $1,500 9 @ $13 = $117

100 @ $15 = $1,500 2/2 9 @ $13 = $117

81 @ $15 = $1,215 19 @ $15 = $285

4/14 200 @ $16 = $3,200 19 @ $15 = $285 200 @ $16 = $3,200

9/17 350 @ $20 = $7,000 19 @ $15 = $285 200 @ $16 = $3,200 350 @ $20 = $7,000

9/30 19 @ $15 = $285 200 @ $16 = $3,200 81 @ $20 = $1,620

269 @ $20 = $5,380

Ending Inventory

$11,700 $6,697 $5,380

c. It is very likely that the FIFO method would reflect the actual physical flow of goods. Given that the first units are sold, are the units that were first received the inventories will always be up to date with the most recent purchases. d. No matter what method is used to determine the inventory it will directly affect the financial statements in one way or another. With FIFO, there is a more accurate value for the ending inventory as well as the balance sheet. FIFO also increases net income in times of increasing costs of goods sold, which can cause there to be an increase on the taxes owed. e. FIFO has a cheaper replacement cost because it’s the actual cost of goods and the price of goods is rising.

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LIFO Perpetual Date Good Purchased Cost of Goods Sold Inventory Balance 1/1

Beginning Inventory

29 @ $13 = $377

1/6 20 @ $13 = $260 9 @ $13 = $117 1/17 100 @ $15 = $1,500 9 @ $13 = $117

100 @ $15 = $1,500 2/2 90 @ $15 = $1,350 9 @ $13 = $117

10 @ $15 = $150 4/14 200 @ $16 = $3,200 9 @ $13 = $117

10 @ $15 = $150 200 @ $16 = $3,200

9/17 350 @ $20 = $7,000 9 @ $13 = $117 10 @ $15 = $150

200 @ $16 = $3,200 350 @ $20 = $7,000

9/30 300 @ $20 = $6,000 9 @ $13 = $117 10 @ $15 = $150

200 @ $16 = $3,200 50 @ $20 = $1,000

Ending Inventory

$11,700 $7,610 $4,467

c. This inventory method demonstrates the most recent purchases being sold first. It matches current costs of goods sold with revenues better than any other method. It does not reflect the physical flow of goods very well since most businesses use FIFO. d. LIFO is used for tax reporting purposes because it gives the lowest net income figure during times of increasing cost of goods sold, so it also gives the lowest tax expense out of all the methods. e. This method is not close to the actual replacement class because with LIFO the newest and most expensive inventory is gone first. The remaining inventory is at a lower price, therefore when it comes to replacing it the replacement price would be higher.

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Weighted Average Perpetual Date Good Purchased Cost of Goods Sold Inventory Balance 1/1

Beginning Inventory

29 @ $13 = $377

1/6 20 @ $13 = $260 9 @ $13 = $117 1/17 100 @ $15 = $1,500 9 @ $13 = $117

100 @ $15 = $1,500 Average 109 @ $14.83486 =

$1,617 2/2 90 @ $14.83486 =

$1335.1374 19 @ $14.83486 =

$281.86234 4/14 200 @ $16 = $3,200 19 @ $14.835 =

$281.86234 200 @ $16 = $3,200

Average 219 @ $15.8989 = $3481.8591

9/17 350 @ $20 = $7,000 219 @ $15.8989 = $3481.8591

350 @ $20 = $7,000 Average 569 @ $18.4215 =

$10,481.8335 9/30 300 @ $18.4215 =

$5,526.45 269 @ $18.4215 =

$4,955.3835 Ending

Inventory $11,700 $7,121.59 $4,955.38

c. It is somewhat likely that this inventory costing method will reflect the actual physical flows of goods since its cost of goods sold falls between the FIFO and LIFO methods. Price changes are an important factor in determining whether weighted average is an effective method to use. The weighted average method helps even out any price changes that occur during purchases and sales. d. Weighted average results in net income and that falls between the net income of the FIFO and LIFO methods. The income taxes are an average of FIFO and LIFO. e. The ending inventory reflects the replacement cost pretty closely.

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Specific Identification Perpetual Date Good Purchased Cost of Goods Sold Inventory Balance 1/1

Beginning Inventory

29 @ $13 = $377

1/6 20 @ $13 = $260 9 @ $13 = $117 1/17 100 @ $15 = $1,500 9 @ $13 = $117

100 @ $15 = $1,500 2/2 90 @ $15 = $1,350 9 @ $13 = $117

10 @ $15 = $150 4/14 200 @ $16 = $3,200 9 @ $13 = $117

10 @ $15 = $150 200 @ $16 = $3,200

9/17 350 @ $20 = $7,000 9 @ $13 = $117 10 @ $15 = $150

200 @ $16 = $3,200 350 @ $20 = $7,000

9/30 150 @ $16 = $2,400 150 @ $20 = $3,000

9 @ $13 = $117 10 @ $15 = $150 50 @ $16 = $800

200 @ $20 = $4,000 Ending

Inventory $11,700 $7,010 $5,067

c. This inventory costing method does not reflect the actual flow of goods in a business, which is generally FIFO. However, this can be a relevant method to use if the company is selling different goods, hence the different cost of goods sold. d. The net income will be slightly lower than FIFO, but higher than LIFO, because this method is using goods from both earlier and later purchases. Income taxes, however, will be lower for this period, compared to using FIFO. e. Ending inventory does not reflect the replacement cost because earlier purchases cost less, and the prices are rising. Problem 2 1. By lowering the estimate for doubtful accounts, expenses that would be listed on the income statement are lowered and net income is overstated. This would also overstate the amount of assets on the balance sheet. 2. We believe that Cain’s recommendation to adjust the allowance for doubtful accounts to be a violation of ethics because this will solely benefit her, since she is receiving a bonus based on a percentage of net income. Also, this recommendation suggests that the company has increased earnings this year, when it might not have, so the company will also have to pay for the increased tax.

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3. An internal control can include requiring the manager to have approval from another person, such as a supervisor or the boss of the small company prior to the recommendation. This may lower the chances of the manager recommending accounting changes for their sole benefit. Problem 3 1. 𝐵𝑜𝑜𝑘  𝑣𝑎𝑙𝑢𝑒  𝑝𝑒𝑟  𝑐𝑜𝑚𝑚𝑜𝑛  𝑠ℎ𝑎𝑟𝑒 = !"#$%!!"#$%!!!"#$%&  !""#$%!&#'  !"  !"##"$  !!!"#$  

!"#$%&  !"  !"##"$  !!!"#$  !"#$#%&'(&)

Company A $",!"#  (!"##"$%)!"#   !"#!"#$ !"##"$  !!!"#$

= $"#.!"!"##"$  !!!"#

Company B $"#$  (!"##"$%)!"#   !"##"$% !"##"$  !!!"#$

= $".!"!"##"$  !!!"#

Company C $"#,!"#  (!"##"$%)!"#   !"##"$% !"##"$  !!!"#$

= $"".!!!"##"$  !!!"#

2. 𝐵𝑎𝑠𝑖𝑐  𝑒𝑎𝑟𝑛𝑖𝑛𝑔𝑠  𝑝𝑒𝑟  𝑠ℎ𝑎𝑟𝑒 =  !"#  !"#$%&  !"!#!$%&  !"  !"##"$  !"#$%!!"#$%&

!"#$!!"#!!"#$!%#  !"#$#%&'(&)  !!!"#$

Company A $",!"#  (!"#!"#$)!"!   !"##"$% !"##"$  !!!"#$

= $".!"!"##"$  !!!"#

Company B $"#$  (!"##"$%)!!"   !"##"$% !"##"$  !!!"#$

= $".!"!"##"$  !!!"#

Company C $",!"#  (!"##"$%)!"#   !"##"$% !"!!"#  !!!"#$

= $".!"!"##"$  !!!"#

3. 𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑  𝑦𝑖𝑒𝑙𝑑 =   !""#$%  !"#!  !"#"!$%!&  !"#  !!!"#

!"#$%&  !"#$%  !"#  !!!"#∗ 100%

Company A !$"#.!"

∗ 100% = 0%

Company B !$"".!"

∗ 100% = 0%

Company C !$"#$.!"

∗ 100% = 0% The dividend yield of these companies do not characterize whether the stock is an income or growth stock because it is equal to zero percent for each company. In order to evaluate whether a company’s stock is an income stock, there needs to be dividend payouts to stockholders. On the other hand, growth stock looks at the price earnings ratio, which is entirely different from the dividend yield. 4. 𝑃𝑟𝑖𝑐𝑒 − 𝑒𝑎𝑟𝑛𝑖𝑛𝑔𝑠  𝑟𝑎𝑡𝑖𝑜 = !"#$%&  !"#$%  !"#  !!!"#

!"#!"!#$  !"#  !!!"#

Company A $"#.!"$".!"

= 18.84

Company B $"".!"$".!"

= 1.99

Company C $"#$.!"$".!"

= 23.27 Company C has the highest price-earnings ratio, so it costs a large amount of money in order to buy into the stock; the market overvalues it. Company A has the second highest price-earnings ratio, so it will also take a large amount of money to buy into the stock. Company B has a price-earnings ratio of 1.99, which is really low, compared to the other companies; the market undervalues it, and shareholders will earn nearly half of their investment per share.

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Problem 4 Straight-Line Depreciation Method 1. ($43,000-$1,600)/4 = $10,350 The van will depreciate $10,350 each year. Year 2009 2010 2011 2012 Depreciation Expense $10,350 $10,350 $10,350 $10,350

2. When: Depreciation is recorded each time that a company prepares its financial statements. This is done so that the company can distribute the cost of the equipment, buildings and machines it has purchased into the fiscal year. How: The way that annual depreciation is recorded is by debiting (a debit will cause an increase in the expense account) the depreciation expense in a journal entry within your records at the end of each year. You will credit (a credit will cause an increase in the accumulated depreciation account) the same amount that was debited in the same journal entry. Once recorded, you will report the annual depreciation amount to the income statement. Then add the annual depreciation to the previous accumulated depreciation balance to get your total. Finally report the new accumulated depreciation balance onto the balance sheet. 3. Being that depreciation decreases net income, because straight-line depreciation is an expense it will cause a decrease. 4. Book Value = Assets total cost – Accumulated depreciation Book Value 2009 = $43,000-$10,350 = $32,650 Book Value 2010 = $32,650-$10,350 = $22,300 Book Value 2011= $22,300-$10,350 = $11,950 Book Value 2012 = $11,950-$10,350 = $1,600 Year 2009 2010 2011 2012 Book Value $32,650 $22,300 $11,950 $1,600

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Units-of-Production Depreciation Method 1. Step 1: Depreciation per unit = 𝑪𝒐𝒔𝒕!𝑺𝒂𝒍𝒗𝒂𝒈𝒆

𝑻𝒐𝒕𝒂𝒍  𝑼𝒏𝒊𝒕𝒔  𝒐𝒇  𝑷𝒓𝒐𝒅𝒖𝒄𝒕𝒊𝒐𝒏

Depreciation per unit = 𝟒𝟑𝟎𝟎𝟎!𝟏𝟔𝟎𝟎𝟔𝟎𝟎𝟎𝟎

= 0.45 Step 2: Depreciation Expense = Depreciation per unit x Units produced in period Depreciation Expense 2009 = 10000 miles x 0.45 = $4500 Depreciation Expense 2010 = 17000 miles x 0.45 = $7650 Depreciation Expense 2011 = 20000 miles x 0.45 = $9000 Depreciation Expense 2012 = 11000 miles x 0.45 = $4950 Year 2009 2010 2011 2012 Depreciation Expense $4,500 $7,650 $9,000 $4,950

2. Annual depreciation does not apply to units of production since the depreciation depends on the number of units produced. There is no consistent depreciation. 3. If more units are produced during on time period over another, then the time period with higher production will have a higher depreciation than the period with lower production. If the amount of units produced each period is the same, then the depreciation will be equal for all the time periods. The units-of-production depreciation method is more accurate than other depreciation methods because while other methods provide estimates for the usefulness of an asset, the units-of-production method provides actual numbers. 4. Book Value = Assets total cost – Accumulated depreciation Book Value 2009 = $43,000 – $4,500 = $38,500 Book Value 2010 = $43,000 – $7,650 = $35,350 Book Value 2011 = $43,000 – $9,000 = $34,000 Book Value 2012 = $43,000 – $4,950 = $38,050 Year 2009 2010 2011 2012 Book Value $38,500 $35,350 $34,000 $38,050

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Double-Declining Balance Method: Step 1: Straight Rate: !""

!  !"#$%= 25%

Step 2: Double Declining Rate: 2 x 25% = 50% Step 3: 50% x $43,000 = $21,500 2009: 43,000 x .5 = 21,500 (Amount Depreciated) 43,00 – 21,500 = 21,500 (Ending Book Value)

2010: 21,500 x .5 = 10,750 (Amount Depreciated) 21,500 – 10,750= 10,750 (Ending Book Value)

2011: 10,750 - .5 = 5,375 (Amount Depreciated) 10,750 – 5,375 = 5,375 (Ending Book Value)

2012: 5,375 x .5 = 2,867.5 (Amount Depreciated) 5,375 – 3,775 = 1,600 (Salvage Value and Ending Book Value)*

1. Double-declining balance annual depreciation is recorded annually by multiplying the

previous years ending book value by the depreciation rate. You then subtract the depreciation expense from the beginning book value to get the ending book value of that year. In the last year, the depreciation has to be enough so that the ending book value is equal to the items set salvage value.

2. This method has a larger depreciation expense in the early years and less depreciation as the years go on. As a result, the net income will be lower for the early years when depreciation is at it’s highest.

3. Each year the amount depreciated changed because the book value changes depending on the amount depreciated from the previous year. Annual Period

Beginning of Period Book Value

Depreciation Rate

Depreciation Expense

Accumulated Depreciation

Book Value

2009 50% $43,000 2009 $43,000 50% $21,500 $21,500 21,500 2010 21,500 50% 10,750 32,250 10,750 2011 10,750 50% 5,375 37,625 5,375 2012 5,375 50% 3,775 41,400 1,600

*Year 2012 depreciation is: 5,375 – 1,600 (Salvage Value) = 3,775

Year 2009 2010 2011 2012 Depreciation Expense $21,500 $10,750 $5,375 $1,600

Year 2009 2010 2011 2012 Book Value $21,500 $10,750 $5,375 $1,600

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Problem 5 1. Debit Credit

1/1/2011 Cash $1,740,000 Discount on bonds payable 60,000

Bonds Payable $1,800,000 2. a. The cash payment of the principal will only occur at the maturity date. The cash payment on the interest is calculated in part c) below, which is $90,000 per semiannual period. b. Straight− line  amortized  discount   = $"#,!!!

!  !"#$%&'= $",!""

!"#$%&&'%(  !"#$%&

c. Bond  interest  expense   =  $1,800,000 ∗ 5% = $90,000 per semiannual period. 3. Total  bond  interest  expense  recognized   =

(Bond  Interest  Expense  per  semiannual  period) ∗ (total  #  of  periods) + Straight− line  amortized  discount  per  semiannual  period ∗ total  #  of  periods

Total  bond  interest  expense  recognized  

= $90,000/(semiannual  period) ∗ 8  𝑝𝑒𝑟𝑖𝑜𝑑𝑠 + $7,500/(𝑠𝑒𝑚𝑖𝑎𝑛𝑛𝑢𝑎𝑙  𝑝𝑒𝑟𝑖𝑜𝑑)∗ 8  𝑝𝑒𝑟𝑖𝑜𝑑𝑠 = $𝟕𝟖𝟎,𝟎𝟎𝟎

4. Semiannual Period-End Unamortized Discount Carrying Value (0) 1/1/2011 $60,000 $1,740,000 (1) 6/30/2011 52,500 1,747,500 (2) 12/31/2011 45,000 1,755,000 (3) 6/30/2012 37,500 1,762,500 (4) 12/31/2012 30,000 1,770,000 (5) 6/30/2013 22,500 1,777,500 (6) 12/31/2013 15,000 1,785,000 (7) 6/30/2014 7,500 1,792,500 (8) 12/31/2014 0 1,800,000 5. Debit Credit

6/30/2011 Interest Expense $97,500 Cash $90,000

Amortized Discount 7,500 Debit Credit

12/31/2011 Interest Expense $97,500 Cash $90,000 Amortized Discount 97,500

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Problem 6 1. Debit Credit

1/1/2011 Cash $1,860,000 Bonds Payable $1,800,000 Premium on bonds payable 60,000

2. a. The cash payment of the principal will only occur at the maturity date. The cash payment on the interest is calculated in part c) below, which is $90,000 per semiannual period. b. Straight− line  amortized  premium   = $"#,!!!

!  !"#$%&'= $",!""

!"#$%&&'%(  !"#$%&

c. Bond  interest  expense   =  $1,800,000 ∗ 5% = $90,000 per semiannual period. 3. Total  bond  interest  expense  recognized   =

(Bond  Interest  Expense  per  semiannual  period) ∗ (total  #  of  periods) − Straight− line  amortized  premium  per  semiannual  period ∗ total  #  of  periods

Total  bond  interest  expense  recognized  

= $90,000/(semiannual  period) ∗ 8  𝑝𝑒𝑟𝑖𝑜𝑑𝑠 − $7,500/(𝑠𝑒𝑚𝑖𝑎𝑛𝑛𝑢𝑎𝑙  𝑝𝑒𝑟𝑖𝑜𝑑)∗ 8  𝑝𝑒𝑟𝑖𝑜𝑑𝑠 = $𝟔𝟔𝟎,𝟎𝟎𝟎

4. Semiannual Period-End Unamortized Premium Carrying Value (0) 1/1/2011 $60,000 $1,860,000 (1) 6/30/2011 52,500 1,852,500 (2) 12/31/2011 45,000 1,845,000 (3) 6/30/2012 37,500 1,837,500 (4) 12/31/2012 30,000 1,830,000 (5) 6/30/2013 22,500 1,822,500 (6) 12/31/2013 15,000 1,815,000 (7) 6/30/2014 7,500 1,807,500 (8) 12/31/2014 0 1,800,000 5. Debit Credit 6/30/2011 Interest Expense $82,500

Amortized Premium 7,500 Cash $90,000

Debit Credit 12/31/2011 Interest Expense $82,500

Amortized Premium 7,500 Cash $90,000