Concept explainers
Recording Transactions (in a Journal and T-Accounts); Preparing and Interpreting the Balance Sheet
Ethan Allen Interiors Inc. is a leading manufacturer and retailer of home furnishings in the United States and abroad, The following is adapted from Ethan Allen's September 30, 2013,
Assume that the following events occurred in the following quarter.
- a. Paid $30 cash for additional inventory.
- b. Issued additional shares of common stock for $20 in cash.
- c. Purchased equipment for $170; paid $80 in cash and signed a note to pay the remaining $90 in two years.
- d. Signed a short-term note to borrow $ 10 cash.
- e. Conducted negotiations to purchase a sawmill, which is expected to cost $36.
Required:
- 1. Analyze transactions (a)-(e) to determine their effects on the
accounting equation. Use the format shown in the demonstration case on page 69. - 2. Record the transaction effects determined in requirement 1 using journal entries.
- 3. Using the September 30, 2013, ending balances as the beginning balances for the October- December 2013 quarter, summarize the
journal entry effects from requirement 2. Use T-accounts if this requirement is being completed manually; if you are using the GL tool in Connect, the journal entries will have been posted automatically to general ledger accounts that are similar in appearance to Exhibit 2.9. - 4. Explain your response to event (e).
- 5. Prepare a classified balance sheet at December 31. 2013.
- 6. As of December 31, 2013, has the financing for Ethan Allen’s investment in assets primarily come from liabilities or stockholders’ equity?
- 7. Calculate Ethan Allen’s
current ratio at September 30, 2013, prior to the transactions listed above. (Using the September 30 balances will prevent any errors in your answers to requirements 1-5 from affecting your answer to this requirement.) Based on this calculation and the analysis of Linkedln’s current ratio in the chapter, indicate which company was in a better position to pay liabilities as they come due in the next year.
Requirement – 1
To analyze: The given transaction, and explain their effect on the accounting equation.
Explanation of Solution
Accounting equation:
Accounting equation is an accounting tool expressed in the form of equation, by creating a relationship between the resources or assets of a company, and claims on the resources by the creditors and the owners. Accounting equation is expressed as shown below:
Accounting equation for each transaction is as follows:
Figure (1)
Therefore, the total assets are equal to the liabilities and stockholder’s equity.
Requirement – 2
To record: The journal entries based on requirement 1.
Explanation of Solution
Journal:
Journal is the method of recording monetary business transactions in chronological order. It records the debit and credit aspects of each transaction to abide by the double-entry system.
Rules of Debit and Credit:
Following rules are followed for debiting and crediting different accounts while they occur in business transactions:
- Debit, all increase in assets, expenses and dividends, all decrease in liabilities, revenues and stockholders’ equities.
- Credit, all increase in liabilities, revenues, and stockholders’ equities, all decrease in assets, expenses.
Journal entries of Company E are as follows ($ in millions):
a. Inventories purchased in cash:
Date | Accounts title and explanation | Ref. | Debit ($) | Credit ($) |
Inventories (+A) | 30 | |||
Cash (-A) | 30 | |||
(To record purchase of supplies in cash) |
Table (1)
- Inventories are an assets account and it increased the value of asset by $30. Hence, debit the inventories account for $30.
- Cash is an assets account and it decreased the value of asset by $30. Hence, credit the cash account for $30.
b. Issuance of common stock:
Date | Accounts title and explanation | Ref. | Debit ($) | Credit ($) |
Cash (+A) | 20 | |||
Common stock (+SE) | 20 | |||
(To record the issuance of common stock) |
Table (2)
- Cash is an assets account and it increased the value of asset by $20. Hence, debit the cash account for $20.
- Common stock is a component of stockholder’s equity and it increased the value of stockholder’s equity by $20, Hence, credit the common stock for $20.
c. Equipment purchased on account and in cash:
Date | Accounts title and explanation | Ref. | Debit ($) | Credit ($) |
Equipment (+A) | 170 | |||
Cash (-A) | 80 | |||
Notes payable (+L) | 90 | |||
(To record purchase of equipment on account and in cash) |
Table (3)
- Equipment is an assets account and it increased the value of asset by $170. Hence, debit the equipment account for $170.
- Cash is an assets account and it decreased the value of asset by $80. Hence, credit the cash account for $80.
- Notes payable is a liability account, and it increased the value of liabilities by $90. Hence, credit the notes payable for $90.
d. Cash borrowed from bank (short term)
Date | Accounts title and explanation | Ref. | Debit ($) | Credit ($) |
Cash (+A) | 10 | |||
Notes payable (+L) | 10 | |||
(To record cash borrowed from bank) |
Table (4)
- Cash is an assets account and it increased the value of asset by $10. Hence, debit the cash account for $10.
- Notes payable is a liability account, and it increased the value of liabilities by $10. Hence, credit the notes payable for $10.
e. Conducted negotiations to purchase a saw mill:
In this case, no entry required, because it is not a business transaction.
Requirement – 3
To prepare: T-account for each account listed in the requirement 2.
Explanation of Solution
T-account:
T-account refers to an individual account, where the increasesor decreases in the value of specific asset, liability, stockholder’s equity, revenue, and expenditure items are recorded.
This account is referred to as the T-account, because the alignment of the components of the account resembles the capital letter ‘T’.’ An account consists of the three main components which are as follows:
- (a) The title of the account
- (b) The left or debit side
- (c) The right or credit side
T-accounts of company E are as follows:
Cash (A) | |||
Beg. | 106 | ||
(b) | 20 | 30 | (a) |
(d) | 10 | 80 | (c) |
End. | 26 |
Accounts Receivable (A) | |||||||
Beg. | 13 | ||||||
End. | 13 | ||||||
Inventory (A) | |||||||
Beg. | 142 | ||||||
(a) | 30 | ||||||
End. | 172 |
Short-term Investments (A) | |||
Beg. | 13 | ||
End. | 13 |
Equipment (A) | |||
Beg. | 290 | ||
(c) | 170 | ||
End. | 460 |
Software (A) | |||
Beg. | 50 | ||
End. | 50 |
Prepaid Rent (A) | |||
Beg. | 23 | ||
End. | 23 |
Accounts Payable (L) | ||||
121 | Beg. | |||
121 | End. |
Salaries and Wages Payable (L) | |||
23 | Beg. | ||
23 | End. |
Notes Payable (short-term) (L) | |||
1 | Beg. | ||
10 | (d) | ||
11 | End. |
Notes Payable (long-term) (L) | |||
150 | Beg. | ||
90 | (c) | ||
240 | End. |
Common Stock (SE) | |||
21 | Beg. | ||
20 | (b) | ||
41 | End. |
Retained Earnings (SE) | |||
321 | Beg. | ||
321 | End. |
Requirement – 4
To explain: The response for event (e).
Explanation of Solution
Business transaction:
Business transaction is a record of any economic activity, resulting in the change in the value of the assets, the liabilities, and the stockholder’s equities, of a business. Business transaction is also referred to as financial transaction.
In this case, conducting negotiation to purchase a saw mill is not creating any impact on assets, liabilities and stockholder’s equity of the business, because it is not a business transaction.
Requirement – 5
To prepare: The classified balance sheet of Company E at December 31, 2013.
Explanation of Solution
Classified balance sheet:
This is the financial statement of a company which shows the grouping of similar assets and liabilities under subheadings.
Classified balance sheet of Company E is as follows ($ in millions):
Figure (2)
Therefore, the total assets of Company E are$757 million, and the total liabilities and stockholders’ equity is$757 million.
Requirement – 6
Explanation of Solution
The invested amount of assets are primarily come from liabilities (current and non-current) of Company E, because liabilities financed $395 million of the Company E’s total assets, and stockholder’s equity (common stock) financed $362 million.
Requirement – 7
Explanation of Solution
Current Ratio:
A part of liquidity ratios, current ratio reflects the ability to oblige the short term debts of a company. It is calculated based on the current assets and current liabilities; a company has in an accounting period. A current ratio is a useful tool for analysis of financials of a company.
Calculate the current ratio of Company E as follows:
Here,
Current assets = $297 millions
Current liabilities= $145 millions
Therefore, the current ratio of Company E is 2.05.
Current ratio of Company E is 2.05 and Company L is 4.73, so Company E has less current ratio than Company L and it indicates Company L has better position to repay the liabilities.
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Chapter 2 Solutions
Fundamentals of Financial Accounting
- The transactions completed by PS Music during June 2018 were described at the end of Chapter 1. The following transactions were completed during July, the second month of the businesss operations: July 1. Peyton Smith made an additional investment in PS Musk in exchange for common stock by depositing 5,000 in PS Music s checking account. 1. Instead of continuing to share office space with a local real estate agency, Peyton decided to rent office space near a local music store. Paid rent for July, 1,750. 1. Paid a premium of 2,700 for a comprehensive insurance policy covering liability, theft, and fire. The policy covers a one-year period. 2. Received 1,000 on account. 3. On behalf of PS Music, Peyton signed a contract with a local radio station, KXMD, to provide guest spots for the next three months. The contract requires PS Music to provide a guest disc jockey for 80 hours per month for a monthly fee of 3,600. Any additional hours beyond 80 will be billed to KXMD at 40 per hour. In accordance with the contract, Peyton received 7,200 from KXMD as an advance payment for the first two months. 3. Paid 250 on account. 4. Paid an attorney 900 for reviewing the July 3 contract with KXMD. (Record as Miscellaneous Expense.) 5. Purchased office equipment on account from Office Mart, 7,500. 8. Paid for a newspaper advertisement, 200. 11. Received 1,000 for serving as a disc jockey for a party. 13. Paid 700 to a local audio electronics store for rental of digital recording equipment. 14. Paid wages of 1,200 to receptionist and part-time assistant. Enter the following transactions on lage 2 of the two-column journal: 16. Received 2,000 for serving as a disc jockey for a wedding reception. 18. Purchased supplies on account, 850. 21. Paid 620 to Upload Music for use of its current music demos in making various music sets. 22. Paid 800 to a local radio station to advertise the services of PS Music twice daily for the remainder of July. 23. Served as disc jockey for a party for 2,500. Received 750, with the remainder due August 4, 2018. 27. Paid electric bill, 915. 28. Paid wages of 1,200 to receptionist and part-time assistant. 29. Paid miscellaneous expenses, 540. 30. Served as a disc jockey for a charity ball for 1,500. Received 500, with the remainder due on August 9, 2018. 31. Received 3,000 for serving as a disc jockey for a party. July 31. Paid 1,400 royalties (music expense) to National Music Clearing for use of various artists music during July. 31. Paid dividends, 1,250. PS Musics chart of accounts and the balance of accounts as of July 1, 2018 (all normal balances), are as follows: 11 Cash 3,920 41 Fees Earned 6,200 12 Accounts Receivable 1,000 50 Wages Expense 400 14 Supplies 170 51 Office Rent Expense 800 15 Prepaid Insurance 52 Equipment Rent Expense 675 17 Office Equipment 53 Utilities Expense 300 21 Accounts Payable 250 54 Music Expense 1,590 23 Unearned Revenue 55 Advertising Expense 500 31 Common Stock 4,000 56 Supplies Expense 180 33 Dividends 500 59 Miscellaneous Expense 415 Instructions 1. Enter the July 1, 2018, account balances in the appropriate balance column of a four-column account. Write Balance in the Item column, and place a check mark () in the Posting Reference column. {Hint: Verify the equality of the debit and credit balances in the ledger before proceeding with the next instruction.) 2. Analyze and journalize each transaction in a two-column journal beginning on Page 1, omitting journal entry explanations. 3. Post the journal to the ledger, extending the account balance to the appropriate balance column after each posting. 4. Prepare an unadjusted trial balance as of July 31, 2018.arrow_forwardLowes Companies Inc., a major competitor of The Home Depot in the home improvement business, operates over 1,700 stores. Lowes recently reported the following balance sheet data (in millions): a. Determine the total stockholders equity at the end of Years 2 and 1. b. Determine the ratio of liabilities to stockholders equity for Year 2 and Year 1. Round to two decimal places. c. What conclusions regarding the risk to the creditors can you draw from (b)? d. Using the balance sheet data for The Home Depot in Exercise 1-26, how does the ratio of liabilities to stockholders equity of Lowes compare to that of The Home Depot?arrow_forwardSelected accounts and related amounts for Clairemont Co. for the fiscal year ended May 31, 2016, are presented in Problem 6-5A. Instructions 1. Prepare a single-step income statement in the format shown in Exhibit 11. 2. Prepare a statement of owners equity. 3. Prepare an account form of balance sheet, assuming that the current portion of the note payable is 50,000. 4. Prepare closing entries as of May 31, 2016.arrow_forward
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- Discuss how each of the following transactions for Watson, International, will affect assets, liabilities, and stockholders equity, and prove the companys accounts will still be in balance. A. An investor invests an additional $25,000 into a company receiving stock in exchange. B. Services are performed for customers for a total of $4,500. Sixty percent was paid in cash, and the remaining customers asked to be billed. C. An electric bill was received for $35. Payment is due in thirty days. D. Part-time workers earned $750 and were paid. E. The electric bill in C is paid.arrow_forwardThe transactions completed by PS Music during June 20Y5 were described at the end of Chapter 1. The following transactions were completed during July, the second month of the businesss operations: July 1. Peyton Smith made an additional investment in PS Music in exchange for common stock by depositing 5,000 in PS Musics checking account. 1. Instead of continuing to share office space with a local real estate agency, Peyton decided to rent office space near a local music store. Paid rent for July, 1,750. 1. Paid a premium of 2,700 for a comprehensive insurance policy covering liability, theft, and fire. The policy covers a one-year period. 2. Received 1,000 on account. 3. On behalf of PS Music, Peyton signed a contract with a local radio station, KXMD, to provide guest spots for the next three months. The contract requires PS Music to provide a guest disc jockey for 80 hours per month for a monthly fee of 3,600. Any additional hours beyond 80 will be billed to KXMD at 40 per hour. In accordance with the contract, Peyton received 7,200 from KXMD as an advance payment for the first two months. 3. Paid 250 on account. 4. Paid an attorney 900 for reviewing the July 3 contract with KXMD. (Record as Miscellaneous Expense.) 5. Purchased office equipment on account from Office Mart, 7,500. 8. Paid for a newspaper advertisement, 200. 11. Received 1,000 for serving as a disc jockey for a party. 13. Paid 700 to a local audio electronics store for rental of digital recording equipment. 14. Paid wages of 1,200 to receptionist and part-time assistant. Enter the following transactions on Page 2 of the two-column journal: 16. Received 2,000 for serving as a disc jockey for a wedding reception. 18. Purchased supplies on account, 850. 21. Paid 620 to Upload Music for use of its current music demos in making various music sets. 22. Paid 800 to a local radio station to advertise the services of PS Music twice daily for the remainder of July. 23. Served as disc jockey for a party for 2,500. Received 750, with the remainder due August 4, 20Y5. 27. Paid electric bill, 915. 28. Paid wages of 1,200 to receptionist and part-time assistant. 29. Paid miscellaneous expenses, 540. 30. Served as a disc jockey for a charity ball for 1,500. Received 500, with the remainder due on August 9, 20Y5. 31. Received 3,000 for serving as a disc jockey for a party. 31. Paid 1,400 royalties (music expense) to National Music Clearing for use of various artists music during July. 31. Paid dividends, 1,250. PS Musics chart of accounts and the balance of accounts as of July 1, 20Y5 (all normal balances), are as follows: Instructions 1. Enter the July 1, 20Y5, account balances in the appropriate balance column of a four-column account. Write Balance in the Item column, and place a check mark () in the Posting Reference column. (Hint: Verify the equality of the debit and credit balances in the ledger before proceeding with the next instruction.) 2. Analyze and journalize each transaction in a two-column journal beginning on Page 1, omitting journal entry explanations. 3. Post the journal to the ledger, extending the account balance to the appropriate balance column after each posting. 4. Prepare an unadjusted trial balance as of July 31, 20Y5.arrow_forwardJournal entries and trial balance On August 1, 20Y7, Rafael Masey established Planet Realty, which completed the following transactions during the month: a. Rafael Masey transferred cash from a personal bank account to an account to be used for the business in exchange for common stock, 17,500. b. Purchased supplies on account, 2,300. c. Earned sales commissions, receiving cash, 13,300. d. Paid rent on office and equipment for the month, 3,000. e. Paid creditor on account, 1,150. f. Paid dividends, 1,800. g. Paid automobile expenses (including rental charge) for month, 1,500, and miscellaneous expenses, 400. h. Paid office salaries, 2,800. i. Determined that the cost of supplies used was 1,050. Instructions 1. 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