This is “End-of-Chapter Exercises”, section 13.5 from the book Business Accounting (v. 2.0).
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Which of the following is not a criterion that must be met for an item to be classified as a liability?
Watkins Inc. has the following assets at the end of Year One:
|Equipment (net book value)||$4,000|
Watkins also has the following liabilities at the end of Year One:
|Note Payable, due on June 1, Year Four||$3,500|
At the end of Year One, what is Watkins’s current ratio?
Which of the following is the least likely to be an accrued liability?
The Taylor Company sells music systems. Each music system costs the company $100 and will be sold to the public for $250. In Year One, the company sells 100 gift cards to customers for $250 each ($25,000 in total). These cards are valid for just one year, and company officials expect them to all be redeemed. In Year Two, only 96 of the cards are returned. What amount of net income does the company report for Year Two in connection with these cards?
Osgood sells music systems. Each system costs the company $100 and is sold for $250. During Year One, the company sells 1,000 of these systems ($250,000 in total). Each system comes with a free one-year warranty. The company expects 5 percent of the music systems to break and cost $40 each to fix. None break in Year One, but unfortunately, the systems were not well-manufactured, and 300 break in Year Two and cost $70 each to fix. What is the impact of this embedded warranty on Osgood’s reported net income for Year Two?
The James Corporation sells music systems. Each system costs the company $100 and is sold for $250. During Year One, the company sold 1,000 music systems ($250,000 in total). Every customer also paid $10 each ($10,000 in total) for a one-year warranty. The company expects 5 percent of the music systems to break and cost $40 each to fix. None break in Year One, but unfortunately, the systems were not well-manufactured, and 300 break in Year Two and cost $70 each to fix. What is the impact of this extended warranty on James’s reported net income for Year Two?
In Year One, Company A was allegedly damaged by Company Z and has filed suit for $300,000. At the end of Year One, Company A thinks it is probable that it will win $130,000 but reasonably possible that it will win $200,000. On that same day, Company Z thinks it is probable that it will lose $80,000 but reasonably possible that it will lose $180,000. On June 14, Year Two, the suit is settled when Company Z pays $97,000 in cash to Company A. Which of the following is true about the financial reporting for Year Two?
Stimpson Corporation buys cameras for $500 apiece and then sells each one for $1,200. During Year One, 9,000 units were sold. Each sale includes a one-year warranty. Stimpson estimates that 6 percent of the cameras will break (all during Year Two) and have to be fixed at an estimated cost of $190 each. In Year Two, no additional cameras are sold, but 590 cameras actually break but only cost $180 each to fix. What expense should Stimpson recognize for Year Two?
The Greene Company sells appliances along with an embedded warranty. In Year One, the company recognizes a warranty expense of $54,000. In Year Two, the company has an actual expense that is different than $54,000. Under what condition will the company restate the number reported for Year One?
The Knafo Company sells toaster ovens for $50 apiece. The company also planned to sell a one-year warranty with each purchase for $3. Company officials believe that 10 percent of all toaster ovens will break during Year Two and cost $7 each to fix. The company expects 40 percent of its customers to buy this extended warranty. At the last moment, company officials decide to give all customers a free one-year warranty to create customer loyalty. During Year One, the company sells 1,000 units. In Year Two, 11 percent of all toasters broke. Each repair cost $7. Because of the decision to give the warranty to all customers for free, the company will report a lower net income in Year One. How much lower will the net income figure be for Year One because of this decision?
Use the information in problem 10 again. Because of the decision to give the warranty to all customers for free, the company will report a lower liability at the end of Year One. How much lower will the liability be at the end of Year One because of this decision?
Use the information in problem 10 again. Because of the decision to give the warranty to all customers for free, the company will report a lower net income in Year Two. How much lower will the net income figure be in Year Two because of this decision?
On January 1, Year One, Purple Company sues Yellow Company for $6 million. At the end of Year One, both companies think that the probable outcome of this lawsuit is a settlement for $170,000. They also believe that a settlement of $290,000 is reasonably possible while a settlement of $540,000 is possible but remote. In Year Two, the lawsuit is settled with Purple winning exactly $120,000. Which of the following is correct about the reporting for Year Two?
Langston Corporation is being sued by a competitor for $1 million. At the end of the year, company officials believe that there is a 51 percent chance of a loss of $420,000 from this lawsuit. Which of the following statements is true?
Maxout Company sells computers. Customers have the option to buy an extended warranty that covers their computer for two years. To get the extended warranty, the customer must pay $200. Maxout expects every computer will have to be fixed during the warranty period at a cost of $100. What journal entry will Maxout make at the time the computer is purchased, assuming the customer buys the extended warranty?
Sierra Inc. manufactures environmentally friendly appliances. It provides a four-year warranty as a standard part of each purchase. In Year One, Sierra sold 450,000 toasters. Past experience has shown that 4 percent of the toasters usually require repair at an average cost of $10 each. During Year One, Sierra actually spends $38,000 on repairs and during Year Two, Sierra spends another $65,000. What is the balance in the warranty liability account at the end of Year Two?
The following figures appear on LaGrange’s financial statements for the most recent fiscal year:
|Cost of goods sold||$1,960,000|
What is the age of this company’s accounts payable?
Professor Joe Hoyle discusses the answers to these two problems at the links that are indicated. After formulating your answers, watch each video to see how Professor Hoyle answers these questions.
Your roommate is an English major. The roommate’s parents own a chain of ice cream shops located throughout Florida. One day, while returning a book at the library, your roommate poses this question: “My parents came up with this great idea. They started selling gift cards this year right before Christmas. A lot of our older customers bought bunches of these cards to give to their children and grandchildren as presents. This was one of my parent’s best ideas ever; the money really poured into each of the shops. However, when I asked my parents about their net income for the year, they said that these sales had not affected net income. That makes absolutely no sense. They sold thousands of gift cards for ice cream and got real money. How could their net income have not gone up through the roof?” How would you respond?
Your uncle and two friends started a small office supply store several years ago. The company has expanded and now has several large locations. Your uncle knows that you are taking a financial accounting class and asks you the following question: “We are about to start selling a new line of office equipment. We really want to get our customers to consider this merchandise. We have been thinking about giving a free two-year warranty with each purchase. That eliminates risk and makes people feel more comfortable about the purchase. However, one of the other owners wants to charge a small amount for this warranty just so that we can make a small profit. We still take away the risk, but we also increase our net income. The decision is important, so I want to understand: how will each of these two alternatives affect the way our company looks on its balance sheet and income statement?” How would you respond?
Knockoff Corporation sells a videogame unit known as the Gii. During the month of December, the following events occur. Prepare any necessary journal entries and adjusting entries that Knockoff should record.
OK Corporation sells gift cards in various denominations. The company likes to sell these cards because cash is collected immediately, but a certain percentage will never be redeemed for merchandise. On December 1, Year One, OK reported a balance in unearned revenue of $728,000 from the sale of gift cards.
In Year One, the Yankee Corporation allegedly damaged the Sox Corporation. The Sox Corporation sued the Yankee Corporation for $1 million. At the end of Year One, both companies believed that an eventual payment of $300,000 by Yankee was probable, but a payment of $480,000 was reasonably possible. The case moved through the court system rather slowly, and at the end of Year Two, both companies had come to believe that an eventual payment of $340,000 by Yankee was now probable, but a payment of $700,000 was reasonably possible. In Year Three, this lawsuit is settled for $275,000 in cash.
Whalens Corporation buys large screen televisions for $500 each and sells them for $1,200 each. During Year One, 8,000 sets were bought and sold for cash. Whalens estimates that 1 percent of all sets will break during Year Two. Company officials believe they will cost $150 to fix. Whalens offers a one-year warranty for $40. A total of only 700 customers choose to buy the warranty. In Year Two, nine of the televisions under warranty break but cost only $140 to repair.
The Haynesworth Corporation is sued for $10 million in Year One. At the end of Year One, company officials believe a loss is only remote. However, the case drags on so that by the end of Year Two, company officials believe it is reasonably possible that a loss of $2 million could be incurred. The case goes to trial during Year Three, and company officials now believe that a loss of $3 million is probable. The case ends on April 23, Year Four, when the Haynesworth Corporation agrees to pay $2.6 million in cash to settle all claims.
Indicate the amount of loss that will be reported by the Haynesworth Corporation in each of these four years.
On January 1, Year One, the Atlanta Company sues the Seattle Company for $100 million for patent infringement. The case is expected to take years to settle. For each of the following independent situations, indicate the financial reporting to be made by each company.
Ingalls Company is a jeweler located in a shopping mall in a midsize city in Ohio. During December of Year One, an unfortunate accident occurs. Mrs. Rita Yeargin trips over a giant, singing Rudolph set up by the mall management and goes sprawling into Ingalls’s store where she cracked her head on a display case. She spent several days in the hospital with a sprained ankle, severely bruised elbow, and a concussion. Prior to the end of the year, Mrs. Yeargin’s lawyer files papers to sue both the mall management company and Ingalls for $1,000,000. Ingalls’s insurance company informs the jeweler that the store policy does not cover accidents involving giant, singing Rudolphs. Ingalls’s attorney is unsure as to what a jury might do in this case because of the unusual nature of the event. He estimates that a loss of $800,000 is probable but that Ingalls will only be liable for 20 percent of that amount since the Rudolph actually belonged to the mall.
Sadler Corporation produces lawnmowers. The lawnmowers are sold with a free three-year warranty. During Year One, Sadler sold 20,000 lawnmowers for $10 million in cash. These lawnmowers cost $5,800,000. Sadler’s accountant estimates that 10 percent of the units will need to be repaired at some point over the next three years at an average cost of $37 per lawnmower.
The Eyes Have It sells custom eyewear during Year One that come with an embedded warranty. If the glasses break during Year Two, they will be fixed for free. Customers may also purchase an extended warranty that covers Year Three. During Year One, the company sold 55,000 pairs of eyeglasses for $1,000,000. Customers who purchased 40,000 of those pairs also purchased the Year Three extended warranty. The extended warranty brought in additional cash of $200,000. The company expects that 6 percent of the glasses will break during Year Two, and another 8 percent will break during Year Three. Each repair will cost $20 to fix.
During Year One, Company A and Company Z both sell 1,000 computers for $1,000 each in cash. Company A provides a one-year warranty to its customers for free. Company Z sells a one-year warranty to all of its customers for $50 each. Both companies expect 5 percent of the computers to break and cost $600 each to repair. In Year Two, both companies actually have 6 percent of these computers break. However, the required cost to fix each one was only $550.
In several past chapters, we have met Heather Miller, who started her own business, Sew Cool. The following are the financial statements for December. To calculate age of accounts payable, assume that beginning inventory on 6/1/20X8, when Sew Cool started business, was zero. Also, assume that Sew Cool was only in business for 210 days.
Figure 13.23 Sew Cool Financial Statements
Based on the financial statements determine the following:
This problem will carry through several chapters, building in difficulty. It allows students to continually practice skills and knowledge learned in previous chapters.
In Chapter 12 "In a Set of Financial Statements, What Information Is Conveyed about Equity Investments?", financial statements for December were prepared for Webworks. They are included here as a starting point for the required recording for January.
Figure 13.26 Webworks Financial Statements
The following events occur during January:
Webworks pays taxes of $1,000 in cash.
Record cost of goods sold.
Assume that you take a job as a summer employee for an investment advisory service. One of the partners for that firm is currently looking at the possibility of investing in Barnes & Noble. The partner is aware that Barnes & Noble sells a lot of gift cards. The partner is curious as to the size of the changes in that liability balance because the partner feels that increases and decreases will signal similar changes in revenue balances for the following year. The partner is also interested in knowing how much profit Barnes & Noble makes from breakage (gift cards that are never redeemed). The partner asks you to look at the 2011 financial statements for Barnes & Noble by following this path: