MGCR 211
MGCR 211: Solution to Assignment 3 Fall 2012 AP7-1 Case A Revenue should not be recognized until the seller delivers the good or service to the purchaser. The seller has not yet manufactured the equipment let alone delivered it. The commitment by the purchaser is not accompanied by payment therefore no cash has been received. Had cash been received from the purchaser, it should have been recorded as deferred revenue. Case B Revenue should not be recognized unless the seller is reasonably confident that the purchaser will pay in full. It is clear that many members who sign up do not pay for their membership. The 10-day delay is known as a “cooling off period” and must be provided by law, although the time period can be shorter than 10 days. The company can take a somewhat aggressive approach and recognize a percentage of revenue when members sign, or a more conservative approach and defer the recognition of revenue until the cancellation period has expired. Once the cancellation period has ended, Scenic Trails Inc. can remain somewhat aggressive and recognize the full amount of the membership fee as revenue or it can be more conservative. The more conservative approach would be to use either a percentage of revenue or a percentage of trade receivables to create an allowance for those who will fail to pay the full membership fee during the six-month payment period. The company should use its experience to choose the appropriate method and the appropriate percentage that would present fairly the results of its operations to users. Case C Educational Toys’ current practice could be based on its experience whereby few distributors return unsold merchandise and therefore the amount is immaterial. If the returns are considered as a material amount, then Educational Toys is essentially recognizing the products delivered to its distributors as if they were sold. In substance, these products can still be considered inventory for Educational Toys that is located at its distributors’ warehouses or showrooms. This practice, commonly known as “channeling”, does not conform to GAAP. In essence the toys are being sold on consignment and there is little to guide us to understanding how probable it is that Educational Toys will receive full payment. An improved approach is for Educational Toys to establish an allowance for sales returns. Another alternative would be for Educational Toys to not recognize revenue at all until its distributors have made the sales. Although the correct treatment is a matter of judgement, it is clear from the facts of this case that there is only a very narrow set of circumstances under which Educational Toys’ current practice would be acceptable under current financial reporting standards.
AP7–5 Req. 1 Aging Analysis of Trade receivables (a) (b) (c) (d) Up to 6 to More Than Total Not Yet 6 Months 12 Months One Year Customer Receivable Due Past Due Past Due Past Due R. Aouad ……….. $ 2,000 $2,000 C. Chronis 6,000 $6,000 ……….. D. McClain . 4,000 $ 4,000 ………. T. Skibinski ……… 14,500 $ 4,500 10,000 H. Wu ………..…... 13,000 13,000 Totals…………… $39,500 Percent 100% …………
$17,500 44.3%
$14,000 35.4%
$2,000 5.1%
$6,000 15.2%
Req. 2 Estimated Amounts Uncollectible Amount of Estimated Estimated Age Receivable Loss Rate Uncollectibl e Not yet $17,500 1% $ 175 due…………………… Up to 6 months past 14,000 5% 700 due...…. 6 to 12 months past due. 2,000 20% 400 …. More than one year past 6,000 50% 3,000 due Total………………………. $39,500 $4,275 .
a. b. c. d.
Req. 3 Bad debt expense (+E → -SE) .............................. 5,825 Allowance for doubtful accounts (−XA → +A) .. To adjust for estimated bad debt loss: Balance needed in the allowance account Balance currently in the account........ 1,550 Dr Adjustment needed, i.e., increase....... $5,825 Cr
5,825 $4,275 Cr
Req. 4 Income statement: Operating expenses: Bad debt expense.................................................
$5,825
Statement of financial position: Current assets: Trade receivables................................................. $39,500 Less: Allowance for doubtful accounts................. 4,275 Carrying value....................................................... $35,225
AP7–9 Req. 1 Dear Ms. Kostas, This memo addresses your inquiry about the difference between the balance of the Cash in Bank account in the company’s records and the balance shown on the bank statement. The balance in the company’s Cash account is based on the transactions that affected this account during the month of June. Similarly, the balance of cash shown on the bank statement reflects the transactions that the bank recorded in the company’s bank account. It is normal that the balances of these two accounts be different because some of the cash transactions that affect the company’s bank account may not have been recorded by the bank as at June 30. For example, an overnight deposit of $1,000 in the bank account on June 30 will not be recorded by the bank until July 1, but we would have recorded that deposit in the company’s cash account. This would cause a difference in the account balances by $1,000 that is only temporary. Another example is that the bank charges our company specific fees for the services it provides. The total amount of these service charges is recorded by the bank as they occur. But, we may not be aware of these charges until we receive the bank statement. We then record them in the cash account in July, whereas the bank would have recorded them already in the company’s account in June. These timing differences need to be reviewed on a regular basis to ensure that there are no errors that have been made inadvertently either by the bank’s employees or the company’s employees. Req.2 KOSTAS FASHIONS LTD. Bank Reconciliation, June 30
Company's Books Ending balance per Cash account..................... Additions: Note receivable collected Interest collected...........
$ 6,518
Bank Statement Ending balance per bank statement................. $10,517 Additions:
$2,000 80
Deductions: Bank service charges ($25 + 39).... NSF cheque – Rami Cossette.......... Correction of amount deposited.....
2,080 8,598 64 286 90
Deposits in transit.......... Deductions: Outstanding cheques......
1,145 11,662 3,504
Ending correct cash balance...........
$8,158
Ending correct cash balance.........................
$8,158
AP7–9 (continued) (1)
(2)
(3)
(4)
Cash in bank (+A)................................................... 2,080 Note receivable (–A)...................................... Interest revenue (+R → +SE)......................... Note receivable plus interest collected (by bank). Bank service charge expense (+E → -SE) ............... Cash in bank (–A)........................................... Service charges deducted from bank balance.
64
Accounts Receivable (+A)...................................... Cash in bank (–A)........................................... To reinstate A/R fue to NSF cheque
286
2,000 80
64
Cash on hand (+A).................................................. 90 Cash in bank (–A)........................................... Bank deposit of $2,340 recorded incorrectly as $2,430.
286
90
AP8–1 Req. 1 2012
2011
Sales revenue Cost of sales Gross profit 520,000 Operating expenses 490,000 Pretax profit Income tax expense (30%) 9,000 Profit $ 21,000 1
$1,627,000 – $22,000 = $1,605,000.
2
2010
2009
$2,025,000 $2,450,000 $2,700,000 1,505,000 1,605,000 1 1,804,000 845,000 896,000 862,000 513,000 538,000 542,000 30,000 332,000 358,000 99,600 107,400 96,000 $ 232,400 $ 250,600 $ 224,000
2
$2,975,000 2,113,000 320,000
$1,782,000 + $22,000 = $1,804,000.
Req. 2 There was an overstatement of the ending inventory in 2010 by $22,000; this caused cost of sales for 2010 to be understated and 2010 profit to be overstated. Similarly, because this error was carried over automatically to 2011 as the beginning inventory, cost of sales for 2011 was overstated and 2011 profit was understated. The amounts for 2009 and 2012 were not affected. This is called a self-correcting or counterbalancing error. Cumulative profit for the four-year period was not affected. Req. 3 The effect of the error on income tax expense was: 2010 Income tax expense reported $114,000 Correct income tax expense (see Req. 1) 107,400 Income tax expense overstatement (understatement)
2011 $93,000 99,600 $ 6,600 $(6,600)
Alternatively, the amount of over (under)statement may be computed directly: $22,000 x 30% = $6,600.
AP8–3 Req. 1 Units (cartons) sold = 500 + 700 = 1,200 Cost of sales (FIFO, perpetual) consists of the following: Cost of sale on Jan. 5 = 500 x $20 ($16,000 / 800) = $10,000 Cost of sale on Jan. 21 = (300 x $20) + [400 x $22 ($13,200 / 600)] = 14,800 Total cost $24,800 Req. 2 The weighted average cost per unit should be computed twice, once after the purchase on January 19, and the second computation is after the purchase on January 29. WAC1 = $16,000 + $13,200 – (500 x $20) = $19,200 = $21.33 (rounded) 800 + 600 – 500 900 WAC2 = ((900 – 700) x $21.33) + $11,000 = $15,266 = $21.81 900 -700 + 500 700 Units in ending inventory = 800 + 600 + 500 – 500 – 700 = 700 Cost of ending inventory = 700 x $21.81 = $15,267 (rounded) Req. 3 Using FIFO, the cost of sales would not change if a periodic inventory system were used instead of perpetual system. Under a periodic inventory system, the weighted average unit cost is computed once, at the end of the accounting period, whereas the moving weighted average unit cost changes after each purchase of merchandise. The WAC under a periodic system would be: WAC = $16,000 + $13,200 + $11,000 = $40,200 = $21.16 (rounded) 800 + 600 + 500 1,900 A unit cost of $21.16 would be used to compute ending inventory compared to $21.81 under the moving average method.
AP7–5 Req. 1 Aging Analysis of Trade receivables (a) (b) (c) (d) Up to 6 to More Than Total Not Yet 6 Months 12 Months One Year Customer Receivable Due Past Due Past Due Past Due R. Aouad ……….. $ 2,000 $2,000 C. Chronis 6,000 $6,000 ……….. D. McClain . 4,000 $ 4,000 ………. T. Skibinski ……… 14,500 $ 4,500 10,000 H. Wu ………..…... 13,000 13,000 Totals…………… $39,500 Percent 100% …………
$17,500 44.3%
$14,000 35.4%
$2,000 5.1%
$6,000 15.2%
Req. 2 Estimated Amounts Uncollectible Amount of Estimated Estimated Age Receivable Loss Rate Uncollectibl e Not yet $17,500 1% $ 175 due…………………… Up to 6 months past 14,000 5% 700 due...…. 6 to 12 months past due. 2,000 20% 400 …. More than one year past 6,000 50% 3,000 due Total………………………. $39,500 $4,275 .
a. b. c. d.
Req. 3 Bad debt expense (+E → -SE) .............................. 5,825 Allowance for doubtful accounts (−XA → +A) .. To adjust for estimated bad debt loss: Balance needed in the allowance account Balance currently in the account........ 1,550 Dr Adjustment needed, i.e., increase....... $5,825 Cr
5,825 $4,275 Cr
Req. 4 Income statement: Operating expenses: Bad debt expense.................................................
$5,825
Statement of financial position: Current assets: Trade receivables................................................. $39,500 Less: Allowance for doubtful accounts................. 4,275 Carrying value....................................................... $35,225
AP7–9 Req. 1 Dear Ms. Kostas, This memo addresses your inquiry about the difference between the balance of the Cash in Bank account in the company’s records and the balance shown on the bank statement. The balance in the company’s Cash account is based on the transactions that affected this account during the month of June. Similarly, the balance of cash shown on the bank statement reflects the transactions that the bank recorded in the company’s bank account. It is normal that the balances of these two accounts be different because some of the cash transactions that affect the company’s bank account may not have been recorded by the bank as at June 30. For example, an overnight deposit of $1,000 in the bank account on June 30 will not be recorded by the bank until July 1, but we would have recorded that deposit in the company’s cash account. This would cause a difference in the account balances by $1,000 that is only temporary. Another example is that the bank charges our company specific fees for the services it provides. The total amount of these service charges is recorded by the bank as they occur. But, we may not be aware of these charges until we receive the bank statement. We then record them in the cash account in July, whereas the bank would have recorded them already in the company’s account in June. These timing differences need to be reviewed on a regular basis to ensure that there are no errors that have been made inadvertently either by the bank’s employees or the company’s employees. Req.2 KOSTAS FASHIONS LTD. Bank Reconciliation, June 30
Company's Books Ending balance per Cash account..................... Additions: Note receivable collected Interest collected...........
$ 6,518
Bank Statement Ending balance per bank statement................. $10,517 Additions:
$2,000 80
Deductions: Bank service charges ($25 + 39).... NSF cheque – Rami Cossette.......... Correction of amount deposited.....
2,080 8,598 64 286 90
Deposits in transit.......... Deductions: Outstanding cheques......
1,145 11,662 3,504
Ending correct cash balance...........
$8,158
Ending correct cash balance.........................
$8,158
AP7–9 (continued) (1)
(2)
(3)
(4)
Cash in bank (+A)................................................... 2,080 Note receivable (–A)...................................... Interest revenue (+R → +SE)......................... Note receivable plus interest collected (by bank). Bank service charge expense (+E → -SE) ............... Cash in bank (–A)........................................... Service charges deducted from bank balance.
64
Accounts Receivable (+A)...................................... Cash in bank (–A)........................................... To reinstate A/R fue to NSF cheque
286
2,000 80
64
Cash on hand (+A).................................................. 90 Cash in bank (–A)........................................... Bank deposit of $2,340 recorded incorrectly as $2,430.
286
90
AP8–1 Req. 1 2012
2011
Sales revenue Cost of sales Gross profit 520,000 Operating expenses 490,000 Pretax profit Income tax expense (30%) 9,000 Profit $ 21,000 1
$1,627,000 – $22,000 = $1,605,000.
2
2010
2009
$2,025,000 $2,450,000 $2,700,000 1,505,000 1,605,000 1 1,804,000 845,000 896,000 862,000 513,000 538,000 542,000 30,000 332,000 358,000 99,600 107,400 96,000 $ 232,400 $ 250,600 $ 224,000
2
$2,975,000 2,113,000 320,000
$1,782,000 + $22,000 = $1,804,000.
Req. 2 There was an overstatement of the ending inventory in 2010 by $22,000; this caused cost of sales for 2010 to be understated and 2010 profit to be overstated. Similarly, because this error was carried over automatically to 2011 as the beginning inventory, cost of sales for 2011 was overstated and 2011 profit was understated. The amounts for 2009 and 2012 were not affected. This is called a self-correcting or counterbalancing error. Cumulative profit for the four-year period was not affected. Req. 3 The effect of the error on income tax expense was: 2010 Income tax expense reported $114,000 Correct income tax expense (see Req. 1) 107,400 Income tax expense overstatement (understatement)
2011 $93,000 99,600 $ 6,600 $(6,600)
Alternatively, the amount of over (under)statement may be computed directly: $22,000 x 30% = $6,600.
AP8–3 Req. 1 Units (cartons) sold = 500 + 700 = 1,200 Cost of sales (FIFO, perpetual) consists of the following: Cost of sale on Jan. 5 = 500 x $20 ($16,000 / 800) = $10,000 Cost of sale on Jan. 21 = (300 x $20) + [400 x $22 ($13,200 / 600)] = 14,800 Total cost $24,800 Req. 2 The weighted average cost per unit should be computed twice, once after the purchase on January 19, and the second computation is after the purchase on January 29. WAC1 = $16,000 + $13,200 – (500 x $20) = $19,200 = $21.33 (rounded) 800 + 600 – 500 900 WAC2 = ((900 – 700) x $21.33) + $11,000 = $15,266 = $21.81 900 -700 + 500 700 Units in ending inventory = 800 + 600 + 500 – 500 – 700 = 700 Cost of ending inventory = 700 x $21.81 = $15,267 (rounded) Req. 3 Using FIFO, the cost of sales would not change if a periodic inventory system were used instead of perpetual system. Under a periodic inventory system, the weighted average unit cost is computed once, at the end of the accounting period, whereas the moving weighted average unit cost changes after each purchase of merchandise. The WAC under a periodic system would be: WAC = $16,000 + $13,200 + $11,000 = $40,200 = $21.16 (rounded) 800 + 600 + 500 1,900 A unit cost of $21.16 would be used to compute ending inventory compared to $21.81 under the moving average method.
