FINANCIAL ACCOUNTING
FINANCIAL ACCOUNTING
10th Edition
ISBN: 9781259964947
Author: Libby
Publisher: MCG
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Chapter 4, Problem 8CP

1.

To determine

Record the adjusting entries in the books of Corporation ZM required on December 31, 2020.

1.

Expert Solution
Check Mark

Explanation of Solution

Record the adjusting entries in the books of Corporation ZM required on December 31, 2020.

Date

Account Title and ExplanationDebit ($)Credit ($)
a.Supplies Expense (+E, –SE) ($4,000$1,800)2,200 
  Supplies (–A) 2,200
  (Record supplies expenses)  
  
b.Insurance Expense (+E, –SE) ($6,0002 years)3,000 
  Prepaid Insurance (–A) 3,000
  (Record insurance expense)  
  
c.Depreciation Expense (+E, –SE)8,000 
  Accumulated Depreciation (+XA, –A) 8,000
  (Record accumulated depreciation)  
  
 d.Salaries Expense (+E, –SE)3,200 
  Salaries Payable (+L) 3,200
  (Record payment of salaries)  
  
e.Transportation Revenue (–R, –SE)7,000 
  Unearned Transportation Revenue (+L) 7,000
  (Record part of unearned transportation revenue earned)  
  
f.Income Tax Expense (+E, –SE)3,650 
  Income Tax Payable (+L) 3,650
  (Record income tax expense)  

Table (1)

Working Notes:

Calculate pretax income.

Pretax income = Transportation revenues Expenses=[($85,000$7,000)($47,000+$2,200+$3,000+$8,000+$3,200)]=[$78,000$63,400]=$14,600

Calculate income tax expense.

Income tax expense = Pretax income ×Income tax rate=$14,600×25%=$3,650

2.

To determine

Prepare the income statement and balance sheet after considering the adjusting entries.

2.

Expert Solution
Check Mark

Explanation of Solution

Prepare the income statement after considering the adjusting entries.

Corporation ZM
Corrections to 2020 Income Statements
2020 Income Statement:Amounts Reported ($)ChangesCorrected Amounts ($)
    Debit  Credit
Revenue:     
 Transportation revenue$85,000e7,000 $78,000
Expenses:     
 Salaries expense17,000d3,200 20,200
 Supplies expense12,000a2,200 14,200
 Other expenses18,000   18,000
 Insurance expense0b3,000 3,000
 Depreciation expense0c8,000 8,000
 Income tax expense0f3,650 3,650
Total expenses47,000   67,050
Net income$38,000 $27,050  $10,950

Table (2)

Prepare the balance sheet after considering the adjusting entries.

Corporation ZM
Corrections to 2020 balance Sheet
December 31, 2020, Balance SheetAmounts Reported ChangesCorrected Amounts
 DebitCredit
Assets:     
Current Assets:     
 Cash  $2,000   $2,000
 Receivables3,000   3,000
 Supplies4,000a 2,2001,800
 Prepaid insurance6,000b 3,0003,000
 Total current assets15,000   9,800
Equipment40,000   40,000
Less:  Accumulated depreciation0c 8,000 
 Other assets27,000   27,000
Total assets82,000   68,800
Liabilities:     
Current Liabilities:     
 Accounts payable  9,000     9,000
 Salaries payable0d 3,2003,200
 Unearned transportation revenue0e 7,0007,000
 Income tax payable0f 3,6503,650
Total current liabilities9,000   22,850
Stockholders' Equity:     
 Common stock30,000   30,000
 Retained earnings43,000 27,050  15,950
Total stockholders' equity73,000   45,950
Total liabilities and stockholders' equity82,000   68,800

Table (3)

3.

To determine

Fill the blanks with the omitted amounts of the adjusting entries.

3.

Expert Solution
Check Mark

Explanation of Solution

Fill the blanks with the omitted amounts of the adjusting entries.

Omission of the adjusting entries caused:

  1. (a)  Net income to be overstated by $27,050.
  2. (b)  Total assets to be overstated by $13,200.
  3. (c)  Total liabilities to be understated by $13,850.

4.

To determine

Ascertain (a) earnings per share and (b) total asset turnover ratio for both unadjusted and adjusted balances, explain the causes of the differences, and mention the impact of the changes on financial analysis.

4.

Expert Solution
Check Mark

Explanation of Solution

Calculate earnings per share.

For Unadjusted balance:

Earningspershare = NetincomeAverage number of shares of stock outstanding during the period=$38,00010,000shares=$3.80per share

For adjusted balance:

Earningspershare = NetincomeAverage number of shares of stock outstanding during the period=$10,05010,000shares=$1.10per share

Calculate total asset turnover.

For Unadjusted balance:

Total asset turnover ratio =SalesrevenuesAverage total assets=$85,000$46,400+$82,0002=$85,000$64,200=1.32

For Adjusted balance:

Total asset turnover ratio =SalesrevenuesAverage total assets=$78,000$46,400+$68,8002=$78,000$57,600=1.35

Causes of the differences and its impact of the changes on financial analysis:

  • Both ratios were affected by the adjustments included in net income, revenue, and assets decreasing. 
  • The decrease in net income and no change in denominator resulted in a lower earnings per share.
  • The decrease in sales revenue and decrease in average total assets resulted an increase in the total asset turnover ratio. 

5.

To determine

Write a letter to the company explaining the results of the adjustments regarding analysis and decision about the loan.

5.

Expert Solution
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Explanation of Solution

To,

The Stockholders of Corporation ZM,

We regret to inform you that your plea for the requested loan has been disapproved.

Our analysis showed that the adjustments were required adjust the original unadjusted set of financial statements.  The unadjusted financial statements that were provided showed an overstated net income of $27,050($38,000  $10,950). This was because a $7,000 revenue collected in advance which was not earned in 2020 was included as revenue in 2020 financial statements. The overstatement of net income was also due to understated expenses and exclusion of income tax expense.

Total assets amounting to $13,200 ($82,000  $68,800) were also overstated. Supplies worth $2,200, prepaid insurance amounting to $3,000, and the net book value of the equipment amounting to $8,000 were also overstated because the annual depreciation expense was not recognized appropriately.  The total liabilities were also understated by $13,850.

An assessment of key financial ratios shows that the adjustments adversely affected the earnings per share, even though the total asset turnover increased from 1.32 to 1.35. However, the adjusted ratios should be compared with the other similar companies that are operating the same industry.

As per bank rules a substantial security should be pledged for the approval of the loan.  The equipment should have a current market value which would be worth to provide security for the loan. The personal investments would be counted as collateral if the companies agree to pledge the assets as security for the loan. So, kindly provide the details of current market of the assets for further processing of the loan.

Regards,

Ms J

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Chapter 4 Solutions

FINANCIAL ACCOUNTING

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