D104 Unit 5 Book Questions

What defines liabilities?

Obligations arising from past transactions and payable in assets or services in the future

Among the short-term obligations of Larsen Company as of December 31, the balance sheet date, are notes payable totaling $250,000 with the Dennison National Bank. These are 90-day notes, renewable for another 90-day period.

How should these notes be classified on the balance sheet of Larsen Company?

Current liabilities

For what purpose is the current liability section of the balance sheet of primary importance to bankers?

To assist in understanding the entity's liquidity

What, if any, is the relationship between current liabilities and a company's operating cycle?

Liquidation of current liabilities is reasonably expected within one year of the company's balance sheet date or the company's operating cycle, whichever is greater.

Posner Co. is a retail store operating in a state with a 7% retail sales tax. The retailer may keep 2% of the sales tax collected. Posner Co. records the sales tax in the Sales Revenue account. The amount recorded in the Sales Revenue account during May was $754,350.

What is the amount of sales tax (to the nearest dollar) for May?

$49,350

The total $754,350 includes sales tax. Posner collects 7% sales tax. Therefore: [Sales + (.07 x Sales)] = $754,350. ($754,350 / 1.07) = $705,000. $754,350 - $705,000 = $49,350 sales tax collected.

Posner Co. is a retail store operating in a state with a 7% retail sales tax. The retailer may keep 2% of the sales tax collected. Posner Co. records the sales tax in the Sales Revenue account. The amount recorded in the Sales Revenue account during May was $754,350.

What is the amount of sales tax payable (to the nearest dollar) for May?

$48,363

Therefore the sales tax payable is: $49,350 x (1-.02) = $48,363.

When is a contingent liability recorded?

When the future events are probable to occur and the amount can be reasonably estimated

Which of the following is an example of a contingent liability?

Obligations related to product warranties

Which term is associated with recording a contingent liability?

Probable

What is the proper way to report some gain contingencies?

As a disclosure only

information available prior to the issuance of the financial statements indicates that it is probable that, at the date of the financial statements, a liability has been incurred for obligations related to product warranties. The amount of the loss involved can be reasonably estimated.

Based on the above facts, how should the company report the estimated loss contingency?

Accrued and disclosed

Sandy Shoes Foot Inc. is involved in litigation regarding a faulty product sold in a prior year. The company has consulted with its attorney and determined that it is possible that they may lose the case. The attorney estimated that there is a 40% chance of losing. If this is the case, their attorney estimated that the amount of any payment would be $800,000.

How should this contingent liability be recorded?

No journal entry is needed.

How are accrued liabilities disclosed in the financial statements?

By appropriately classifying them as regular liabilities in the balance sheet

The acid-test ratio relates total current liabilities to cash and what other account(s)?

Short-term investments and receivables

What does the current ratio inform you about a company?

The company's liquidity

Presented below is information available for Marley Company.

Current Assets

Cash: $4,000

Short-term investments: $55,000

Accounts receivable: $61,000

Inventory: $110,000

Prepaid expenses: $30,000

Total current assets $260,000

Total current liabilities are $100,000.

What is the acid-test ratio for Marley?

1.20 to 1

($4,000 + $55,000 + $61,000) / 100,000] = 1.2 to 1.

How do you determine the acid-test ratio?

Cash + Short Term Investments + Net Receivables ) / Current Liabilities

Bargain Surplus made cash sales during the month of October of $375,000. The sales are subject to a 6% sales tax that was also collected.

What would be included in the summary journal entry to reflect the sale transactions?

Credit Sales Taxes Payable for $22,500

Debit Sales Revenue $22,500, Credit Sales Tax Payable $22,500.

Wooten Co. is being sued for illness caused to local residents as a result of negligence on the company's part in permitting the local residents to be exposed to highly toxic chemicals from its plant. Wooten's lawyer states that it is probable that Wooten will lose the suit and be found liable for a judgment costing Wooten anywhere from $1,800,000 to $9,000,000. However, the lawyer states that the most probable cost is $5,400,000.

As a result of the above facts, what is the correct treatment of Wooten's contingent obligation?

As a loss contingency of $5,400,000 and disclose an additional contingency of up to $3,600,000

Excom manufactures high-end whole home electronic systems. The company provides a one-year warranty for all products sold. The company estimates that the warranty cost is $300 per unit sold and reported a liability for estimated warranty costs $10.4 million at the beginning of this year.

If during the current year, the company sold 60,000 units for a total of $324 million and paid warranty claims of $12,000,000 on current and prior year sales, what amount of liability would the company report on its balance sheet at the end of the current year?

$16,400,000

$10,400,000 + (60,000 × $300) - $12,000,000

What is the interest rate written in the terms of the bond indenture known as?

Stated rate

For which type of bond does the issuer have the right to call and retire the bonds prior to maturity?

Callable bond

Pontchartrain Company issues $20,000,000, 7.8%, 20-year bonds to yield 8% on January 1, 2017. Interest is paid on June 30 and December 31. The proceeds from the bonds are $19,604,145. The company uses effective-interest amortization.

What is the total interest expense reported on the 2017 income statement?

$1,568,498

The cash payment on the bond is $780,000 ($20,000,000 x 7.8% x 6/12). On 01/01/2017, the carrying amount of the bond is $19,604,145. Total interest expense on June 30, 2017 is $784,166 ($19,604,145 x 8% x 6/12). On June 30, the carrying value of the bond is increased (the discount is reduced) by $4,166 ($784,166 - $780,000) to $19,608,311 ($19,604,145 + $4,166). Total interest expense on December 31, 2017 is $784,332 ($19,608,311 x 8% x 6/12). Therefore, total interest expense for 2017 is $1,568,498 ($784,166 + $784,332).

Which is the rate of interest actually earned by bondholders?

Effective rate

On October 1, 2020, Macklin Corporation issued 5%, 10-year bonds with a face value of $6,000,000 at 104. Interest is paid on October 1 and April 1, with any premiums or discounts amortized on a straight-line basis.

What is the credit side of the journal entry to record the issuance of the bonds?

$6,000,000 Bond Payable and $240,000 to Premium on Bonds Payable

The bonds are issued at a premium (at 104) of $240,000 (($6,000,000 × 1.04) - $6,000,000 = $240,000 premium

On June 30, 2017, Baker Co. had outstanding 8%, $6,000,000 face amount, 15-year bonds maturing on June 30, 2027. Interest is payable on June 30 and December 31. The unamortized balance in the bond discount account on June 30, 2017 was $210,000. On June 30, 2017, Baker acquired all of these bonds at 94 and retired them.

What net carrying amount should be used in computing gain or loss on this early extinguishment of debt?

$5,790,000

6,000,000-210,000

Kant Corporation retires its $500,000 face value bonds at 102 on January 1, following the payment of interest. The carrying value of the bonds at the redemption date is $481,250.

What does the entry to record the redemption include?

Credit of $18,750 to Discount on Bonds Payable

($500,000 - $481,250)

At December 31, 2020 the following balances existed on the books of Rentro Corporation:

Bonds Payable: $7,000,000

Discount on Bonds Payable: $980,000

Interest Payable: $168,000

If the bonds are retired on January 1, 2021, at 102, what will Rentro report as a loss on redemption?

=7,000,000*1.02-7,140,000

=7,000,000-980,000=6,020,000

7,140,000-6,020,000=1,120,000

On January 1, 2017, Trinity Company loaned $901,560 to Litton Industries in exchange for a 3 year, zero-interest-bearing note with a face amount, $1,200,000. The prevailing rate of interest for a loan of this type is 10%.

What is included in the adjusting journal entry made by Litton on December 31, 2017 with regard to the note?

A credit to Discount on Notes Payable for $90,156

($901,560 x .10) Debit Interest Expense $90,156, Credit Discount on Notes Payable $90,156.

A debt instrument with no ready market is exchanged for property whose fair market value is currently indeterminable.

When such a transaction takes place, what is true?

The present value of the debt instrument must be approximated using an imputed interest rate.

A corporation borrowed money from a bank to build a building. The long-term note signed by the corporation is secured by a mortgage that pledges title to the building as security for the loan. The corporation is to pay the bank $80,000 each year for 10 years to repay the loan.

What relationship can you expect to apply to the situation?

The amount of interest expense will decrease each period the loan is outstanding.

On January 1, 2020, Ann Price loaned $187,825 to Joe Kiger. A zero-interest-bearing note (face amount, $250,000) was exchanged solely for cash; no other rights or privileges were exchanged. The note is to be repaid on December 31, 2022. The prevailing rate of interest for a loan of this type is 10%. The present value of $250,000 at 10% for three years is $187,825.

What amount of interest income should Ms. Price recognize in 2020?

$18,783

($187,825 x .10).

What is the numerator in the times interest earned ratio?

Net income + (interest expense + income tax expense)

How should long-term debt that matures within one year and is to be converted into stock be reported?

As noncurrent and accompanied with a note explaining the method to be used in its liquidation

How is the debt to assets ratio computed?

Total liabilities divided by total assets.

$60,000 + $25,000 + $40,000) / $25,000] = 55.0 times.0 times

Putnam Company's 2021 financial statements contain the following selected data: Income taxes $40,000 Interest expense $25,000 Net income $60,000

What is Putnam's times interest earned ratio?

5.0 times

$60,000 + $25,000 + $40,000) / $25,000]

On January 1, 2017, Kimbrough Inc. issued $5,000,000, 9% bonds for $4,695,000. The market rate of interest for these bonds is 10%. Interest is payable annually on December 31. Kimbrough uses the effective-interest method of amortizing bond discount.

What value would Kimbrough report for the unamortized bond discount on December 31, 2017?

$285,500

"issued at a discount" of $305,000 ($5,000,000 - $4,695,000). The cash payment on the bond is $450,000 ($5,000,000 x 9% x 12/12). On 01/01/2017, the carrying amount of the bond is $4,695,000. Total interest expense on December 31, 2017 is $469,500 ($4,695,000 x 10% x 12/12). On December 31, 2017, the carrying value of the bond is increased (the discount is decreased) by $19,500 ($469,500 - $450,000) to $4,714,500 ($4,695,000 + $19,500). The original discount of $305,000 is reduced by $19,500 to $285,500.

On June 30, 2017, Prouty Co. had outstanding 9%, $5,000,000 face amount, 10-year bonds that pay interest semi-annually on June 30 and December 31. The unamortized balance in the bond discount account on June 30, 2017 was $200,000. On June 30, 2017, Prouty acquired all of these bonds at 101 and retired them.

What amount of gain or loss would Prouty record on this early extinguishment of debt?

$250,000 loss

The reacquistion price is $5,050,000 ($5,000,000 x 1.01). The book value of the bond is the face value less any unamortized discount. In this case, the book value is $4,800,000 ($5,000,000 - $200,000). Therefore, the loss on extinguishment is $250,000 ($5,050,000 - $4,800,000).

How is the the times interest earned ratio computed?

Net income + income tax expense + interest expense / interest expense

A company issues $25,000,000, 7.8%, 20-year bonds to yield 8% on January 1, 2020. Interest is paid on June 30 and December 31. The proceeds from the bonds are $24,505,180.

Using effective-interest amortization, how much interest expense will be recognized in 2020?

$1,960,622

"issued at a discount" of $494,820 ($25,000,000 - $24,505,180). The cash payment on the bond is $975,000 ($25,000,000 x 7.8% x 6/12). On 01/01/2020, the carrying amount of the bond is $24,505,180. Total interest expense on June 30, 2020 is $980,207 ($24,505,180 x 8% x 6/12). On June 30, the carrying value of the bond is increased (the discount is reduced) by $5,207 ($980,207 - $975,000) to $24,510,387 ($24,505,180 + $5,207). Total interest expense on December 31, 2020 is $980,415 ($24,510,387 x 8% x 6/12). Therefore, total interest expense for 2017 is $1,960,622 ($980,207 + $980,415).

On January 1, 2021, Jacobs Company sold property to Dains Company which originally cost Jacobs $2,660,000. There was no established exchange price for this property. Danis gave Jacobs a $4,200,000 zero-interest-bearing note payable in three equal annual installments of $1,400,000 with the first payment due December 31, 2021. The note has no ready market. The prevailing rate of interest for a note of this type is 10%. The present value of a $4,200,000 note payable in three equal annual installments of $1,400,000 at a 10% rate of interest is $3,481,800.

What is the amount of interest income that should be recognized by Jacobs in 2021, using the effective-interest method?

348,180

The book value of the bond is the face value less any unamortized discount. In this case, the book value is given as $3,481,800. Interest income for Jacobs for 2021 is $348,180 ($3,481,800 x .10).

A company has two pending lawsuits and is trying to determine if the losses should be recorded in the December 31, Year 1 financial statements. It was already determined that the outcomes will be unfavorable and can be reasonably estimated. Lawsuit A involved an event that occurred on November 28, Year 1, and Lawsuit B involved an event that occurred on January 3, Year 2 after the financial statement date, but before the issuance.

Which loss contingency should be recorded by this company in Year 1?`

For Lawsuit A only

A Parent Company guaranteed a $700,000 mortgage for its Subsidiary Company, which is financially solvent.

What is the proper accounting treatment for this situation?

Parent Company should not record a $700,000 liability on its balance sheet but should disclose in the notes to the financial statements the nature and amount of the guarantee and the amount it can recover from outside parties if it can be estimated.

A company originally sold 20-year bonds with a face value of $500,000 for a $20,000 discount. The bonds were held to maturity.

How much will the gain be on the maturity date?

$0

A company issues a $25,000 three-year note. The stated and effective interest rates are 2%.

Which journal entry should be used to record the annual interest expense at the end of the first year?

Debit Interest Expense for $500

credit Cash for $500

$25,000 x 0.02

A hardware retailer recently purchased $1,000,000 of lawn mowers from a local manufacturer with terms 2/10, n/30.

How should this transaction be reported on the balance sheet?

Accounts payable

A company reports the following financial information:

Net income: $110,000

Interest expense: $47,000

Income tax expense: $22,000

R&D expense: $38,000

Operating income: $190,000

What is the company's times interest earned?

3.81

= ($110,000 + $47,000+ $22,000) / $47,000.

A company collected sales tax of $2,800 on sales of $35,000. The sales tax rate is 8.5%.Which entry should be used to record the amount due to the taxing agency?

Debit Sales Revenue for $2,800

Debit Loss on sales tax collection of $175

Credit Cash of $2,975

$35,000 * .0825 = $2,975.

A company's most recent balance sheet depicts the following amounts:

Current assets: $300,000

Long-term assets: $400,000

Current liabilities: $100,000

Long-term liabilities: $200,000

What is the company's debt-to-assets ratio, rounded to the nearest percent?

43%

= ($100,000 + $200,000) / ($300,000 + $400,000).

A private airline company sold 110 tickets at $350 each on March 1 for a round-trip ticket to a sporting event occurring on February 1 of the following year.Which entry should the company use to record the sale of the tickets?

Debit Cash for $38,500

Credit Unearned Passenger Revenue for $38,500

$350 x 110 = $38,500.

A company issues $500,000 of bonds at 98.

How should the premium or discount be recorded upon bond issuance?

Debit to Discount on Bonds Payable for $10,000

500,000*2%

A company redeemed bonds before the maturity date with a reacquisition price that was less than the current net carrying value. The original bond issuance was recorded at 103.

Which account should be debited in the journal entry to record this transaction?

Premium on Bonds Payable

A company does not segregate sales tax and the amount of sale at the time of sale. At quarter end, the company must record the sales tax. The Sales Revenue account shows a balance of $200,000, which includes 6% sales tax.

Which entry should be used to record the amount due to the taxing unit?

Debit Sales Revenue for $11,321

Credit Sales Taxes Payable for $11,321

$200,000 - ($200,000/1.06).

A company purchases a factory and signs a 30-year mortgage with a face value of $500,000 and a fixed interest rate of 6.75% per year. The bank is requiring 4 points upon closing.

How much should be recorded in the Mortgages Payable account upon closing?

$500,000

A company borrows $20,000 by issuing a three-year note with a stated and effective rate of 5%.How much will the company record in the Notes Payable account upon signing the note?

$20,000

A company reported the following accounts from its year-end balance sheet:

Cash: $50,000

Short-term investments: $125,000

Accounts receivable: $230,000

Inventory: $720,000

Property, plant, and equipment, net: $800,000

Investments: $95,000

Accounts payable: $193,000

Accrued liabilities: $29,000

Current portion of long-term debt: $170,000

Long-term debt: $715,000

Stockholder's equity: $963,000

What is the company's quick ratio?

1.0

Quick Assets = $50,000 + $125,000 + $230,000 = $405,000. Current Liabilities = $193,000 + $29,000 + $170,000 = $392,000. Quick Ratio = Quick assets/Current liabilities = $405,000/392,000 = 1.0

A company issued a 5-year note payable in the amount of $15,000. The note bears the market interest rate of 5%. At Year 3, the market rate of interest is 3%.

Which journal entry is appropriate for recording interest at the end of the third year?

Debit Interest Expense for $750

Credit Cash for $750

$15,000 x 0.05.

A company reported the following accounts from its year-end balance sheet:

Cash: $50,000

Short-term investments: $125,000

Accounts receivable: $230,000

Inventory: $720,000

Property, plant, and equipment, net: $800,000

Investments: $95,000

Accounts payable: $193,000

Accrued liabilities: $29,000

Current portion of long-term debt: $170,000

Long-term debt: $715,000

Stockholder's equity: $963,000

What is the company's debt-equity ratio?

1.1

Debt to Equity = Total liabilities/Stockholders' equity. Total liabilities = $193,000 + $29,000 + $170,000 + $715,000 = $1,107,000. Debt to Equity = $1,107,000/$963,000 = 1.1.

On May 1, a company took out a $60,000, 8%, five-year loan from a bank to purchase new equipment. Payments on the principal and interest are due January 1 of each year. Principal is to be repaid in five even installments.

Which entry should be used to record the note?

Debit Cash for $60,000

Credit Current Maturities of Long-Term Debt for 12,000,

Credit Long-Term Debt of $48,000

A company reports the following financial information:

Current assets: $300,000

Long-term assets: $500,000

Current liabilities: $300,000

Long-term liabilities: $400,000

Stockholder's equity: $100,000

What is the company's debt-to-asset ratio, rounded to the nearest percent?

88%

88% = (($400,000 + $300,000) / ($500,000 + $300,000)) x 100.

A company knows that certain loss contingencies should be recorded in an effort to be conservative.Which type of loss contingencies must be recorded?

Expected premiums to be awarded to customers