ACC E113 Lecture Notes - Lecture 2: Deferral, Financial Statement, Retained Earnings

Question 1

On January 2, 2013, Potter Ltd. purchased 40% ontiago Ltd. for$900,000. At the acquisition date, Santiago’s balance sheet showedtotal shareholders’ equity of $1,500,000. Any acquisitiondifferential is to be allocated to Santiago’s equipment. At theacquisition date, the equipment had a remaining useful life of 10years. For the past 5 years, Santiago has paid annual dividends of$50,000 and will continue to do so in the future.

The following information has been extracted from Santiago’sincome statement:

2014 2013

Net income (loss) before extraordinaryitems $ (90,000) $ 450,000

Extraordinary gain (net oftax) __-___ 150,000

Net income(loss) $ (90,000) $ 600,000

Required:

Assume that Potter has significant influence. Prepare Potter’sjournal entries related to its investment in Santiago for 2013 and2014.

Question 2

On September 1, 2014, Sunshine Ltd. acquired all the assets(with the exception of cash) and liabilities of Moonbeam Ltd. Underthe terms of acquisition, Moonbeam shareholders received 3 Class ASunshine Ltd. shares plus $2.00 cash for every four shares ofMoonbeam. At the acquisition date, Sunshine’s Class A shares werevalued at $2.50 per share. Sunshine had agreed to cover Moonbeam’sestimated liquidation costs of $10,000. The $1,500 of cash inMoonbeam’s bank at the acquisition date will go towards payingthese costs. The statements of financial position at theacquisition date are as follows:

Sunshine Moonbeam Ltd.

Ltd. Cost FMV

Cash $ 30,000$ 1,500 $ 1,500

Accountsreceivable 52,500 28,500 26,250

Inventory 78,000 39,750 48,000

Property and equipment(net) 449,250 224,250 248,250

Kucey Ltd. bonds(investment) _67,500 _27,000 28,500

677,250 321,000

Accountspayable 117,000 114,000 114,000

Loanpayable ___-___ _60,000 60,000

117,000 174,000

Share capital issued at$1 450,000 120,000

Retainedearnings 110,250 _27,000

560,250 147,000

$677,250 $321,000

Items not reflected in Moonbeam’s statement of financialposition:

Contingent liability related to a loan guarantee was reported inthe notes to the financial statements and has a fair value of$2,000.

Moonbeam had expensed $15,000 in research and development costsin the past year. At the acquisition date, Sunshine has determinedthat the value of the research in progress is $3,000.

Sunshine’s statement of financial position does not include$5,000 in fees for valuation and accounting advice related to theacquisition of Moonbeam. Sunshine expects to pay these feesshortly.

Required:

1) Prepare the acquisition analysis and calculate thegoodwill.

2) Prepare all the journal entries in Sunshine’s books to recordthe acquisition of Moonbeam.

3) Prepare Sunshine’s statement of financial positionimmediately following the acquisition.

Question 3

On May 1, 2013, Peat Co. purchased all of Sorbet Ltd.’s issuedcommon shares for $630,000. At the acquisition date, Sorbet’sfinancial statements included the following balances:

Sharecapital $400,000

Retainedearnings 210,000

Goodwill 10,000

At the acquisition date, Sorbet’s identifiable assets andliabilities were equal to their fair values, except in the case ofinventory that had a book value of $80,000 and a fair value of$86,000, and equipment that had a book value of $360,000 and a fairvalue of $370,000. The equipment was originally purchased for$480,000. At the acquisition date, the equipment had a remaininguseful life of 5 years and was amortized using the straight-linemethod. All the inventory that Sorbet had on hand at theacquisition date was sold by October 2013. Sorbet’s goodwill hasnot shown indications of impairment. Both Peat and Sorbet haveApril 30^th year-ends and did not have any intercompanysales with each other.

The financial statements for Peat and Sorbet at April 30, 2015are presented on the following pages.

Statement of Financial Position

April 30, 2015

Peat Co. SorbetLtd.

Assets:

Current assets:

Cash $ 52,000 $ 161,600

Accountsreceivable 100,000 80,000

Inventory 120,000 170,000

272,000 411,600

Non-current assets:

Equipment,net 558,000 368,000

Furniture and fixtures,net 51,000 51,600

Investment in SorbetLtd. 630,000 -

Goodwill ___-___ 10,000

1,239,000 429,600

Totalassets $1,511,000 $841,200

Liabilities and shareholders’ equity:

Current liabilities:

Accountspayable $ 69,000 $ 19,600

Non-current liabilities:

Loanpayable 22,000 32,000

Totalliabilities 91,000 51,600

Shareholders’ equity:

Sharecapital 1,000,000 400,000

Retainedearnings 420,000 389,600

1,420,000 789,600

Total liabilities and shareholders’equity $1,511,000 $841,200

Condensed Statement of Income

For the year ended April 30, 2015

Peat Co. SorbetLtd.

Sales $250,000 $180,000

Expenses 170,000 130,000

Netincome $ 80,000 $ 50,000

Statement of Changes in Equity

For the year ended April 30, 2015

Peat Co. SorbetLtd.

Sharecapital $1,000,000 $400,000

Retained earnings, May 1,2014 340,000 339.600

Netincome 80,000 50,000

Retained earnings, April 30,2015 420,000 389,600

Total shareholders’equity $1,420,000 $789,600

Required:

Prepare Peat’s consolidated financial statements for April 30,2015. Ignore income taxes.

Question 4

On June 30, 2014, Pewter Ltd. gave 28,000 shares to Sterling Co.in exchange for 70% of Sterling’s outstanding shares. At the timeof the exchange, Pewter’s shares had a fair value of $22.50 pershare. The post-acquisition statements of financial position andSterling’s fair values are shown below.

Statement of Financial Position

As of June 30, 2014

Sterling Co.______

Pewter Ltd. Book value Fair Value

Assets:

Current assets:

Cash $ 750,000 $ 37,500 $ 37,500

Accountsreceivable 1,500,000 112,500 112,500

Inventory 150,000 37,500 37,500

2,400,000 187,500

Non-current assets:

Land 750,000 225,000 300,000

Equipment 2,250,000 375,000 412,500

Accumulatedamortization (900,000) (112,500)

Investment inSterling 630,000 __ -___

2,730,000 487,500

Totalassets $5,130,000 $ 675,000

Liabilities and shareholders’ equity:

Current liabilities:

Accountspayable $ 750,000 $ 75,000 75,000

Loanpayable 300,000 _____

1,050,000 75,000

Shareholders’ equity:

Commonshares 2,580,000 150,000

Retainedearnings 1,500,000 450,000

4,080,000 600,000

Total liabilities and shareholders’equity $5,130,000 $ 675,000

Required:

a) Calculate Pewter’s consolidated goodwill.

b) Prepare Pewter’s consolidated statement of financial positionat
June 30, 2014 using the entity theory method of consolidation.

Investment and financing decisions, which may beshort-term or long-term decisions are best describedas:

financial decision making.

economic decision making.

accounting decision making.

Mutual funds, pension funds, investment dealers andinsurance companies are best described as examples of:

corporate finance.

market intermediaries.

financial intermediaries.

Farmers and Merchants Bank lends money to Ruth topurchase a car from Steven Toyota. Ruth is going to insure the carwith Allstate Insurance. Which party is best described as thecreditor?

Ruth

Steven Toyota

Allstate Insurance

Farmers and Merchants Bank

Which of the following would not be described as adebenture?

An unsecured loan

A loan secured by collateral

A loan secured by the “full faith and credit” of theissuer

Morgan Stanley was the investment banking firm that tookFacebook from being a closely held company to issuing stock to thepublic for the first time. Which of the following terms mostclosely describes this?

money market security.

issuing commercial paper.

initial public offering (IPO).

debt security backed by the general credit of theissuer.

Which of the following transactions does not take placein the primary market? An investor:

buying a newly issued municipal bond.

buying shares of an initial publicoffering.

selling one hundred shares of stock through a stockbroker.

buying a U.S. Treasury bill through the governmentauction.

The majority of home purchases in the U.S. are securedwith a mortgage. A mortgage is:

an unsecured loan.

an equity investment in the property.

a debt obligation secured by a specificproperty.

Which form of business would most likely describe thefollowing, a college student other students, a retired woman whobabysits children, a teenager who mows lawns, and a partyclown?

Partnership

Corporation

Sole proprietorship

Limited liability company

Flow-through taxation is a characteristic for all butthe following forms of business?

Partnership

Corporation

Sole proprietorship

Limited liability company

Your sister wants to start a tee shirt business on e-Baywith you to help pay for college tuition. All of the following areadvantages to partnerships that you should both consider, except____________?

Easy to form

Access to capital

Business income is taxed once, at the individualpartner’s level

Which of the following takes into account takes intoaccount the opportunity cost of funds?

Net profit

Economic profit

Accounting profit

When we talk about capital structure, this refersto:

the cash, inventory, and accountsreceivable.

mix of debt and equity to finance anenterprise.

the investment in plant, property andequipment.

The uncertainty associated with the use of debt tofinance a business enterprise is best described as:

financial risk.

business risk.

operating risk.

The mix of debt and equity that is used to finance abusiness enterprise is best described as theenterprise’s:

assets.

working capital.

capital structure.

capital expenditures

Generally accepted accounting principles (GAAP) are bestdescribed as a(n):

organization that establishes the accounting principlesfor U.S. financial reporting.

accounting standards promulgated by the InternationalAccounting Standards Board (IASB.)

set of basic principles and conventions that are appliedin the preparation of financial statements.

organization that establishes the accounting principlesfor business entities in the European EconomicCommunity.

Which reporting convention requires recording revenueand expenses when the transaction occurs, regardless of when cashchanges hands?

Cost basis

Cash basis

Accrual basis

The summary of the company’s performance over a periodof time, typically a fiscal quarter or fiscal year

Balance sheet

Statement of stockholder’s equity

Income statement

Statement of cash flows

_______ is the cash flow from the day-to-day operationsof the business; the result of subtracting the increase in newworking capital from traditional cash flow.

Cash flow from investing

Cash flow from financing

Simple cash flow

Cash flow from operations

The debt ratio is classified as which type ofratio?

Owner

Liquidity

Efficiency

Productivity

Financial Leverage

Inventory turnover, accountsreceivable turnover, fixed asset turnover, and total asset turnoverare all classified as which type of ratio?

Owner

Liquidity

Efficiency

Productivity

Financial Leverage

ABC Company attempts tomanage its earnings by extending the useful life of all of itsequipment. Which of the following will not be an outcome of thischoice by management?

Income will be higher than it would have been underprior accounting methods.

Equipment values will be higher than they would havebeen without the change.

Depreciation expense will be lower than it would havebeen under prior accounting methods.

Depreciation expense will be higher than it would havebeen under prior accounting methods.

It is important for a companyto know the level of sales at which it covers all its variable andfixed operating costs. This level of sales is best described asthe:

gross profit margin.

contribution margin.

operating break even.

operating profit margin.

The minimum return thatinvestors expect to earn on the investment in stock is bestdescribed as:

growth rate.

risk premium.

capital gains yield.

required rate of return

If a company returns more than the required rate ofreturn on a stock, what happens to the value of thatstock?

The stock price falls.

The stock price rises.

The stock price stays the same.

When market rates are greaterthan the dividend rate, preferred shares will tradeat:

par.

a discount.

a premium.

PROBLEM 1:

The 2018 and 2019 comparative balance sheets and 2019 income statement for Edmond & Edmond Company appear below:

EDMOND & EDMOND COMPANY

Comparative Balance Sheet

December 31

2019 2018

Assets

Cash $ 26,000 $ 23,000

Accounts receivable 25,000 34,000

Merchandise inventory 32,000 15,000

Property, plant, and equipment 60,000 78,000

Accumulated depreciation (21,000) (24,000)

Total $122,000 $126,000

Liabilities and Stockholders' Equity

Accounts payable $ 18,000 $ 23,000

Income taxes payable 9,000 8,000

Notes payable (long-term) 8,000 33,000

Common stock 28,000 24,000

Retained earnings 59,000 38,000

Total $122,000 $126,000

EDMOND & EDMOND COMPANY

Income Statement

For the Year Ended December 31, 2019

Sales $400,000

Cost of goods sold 270,000

Gross profit 130,000

Operating expenses 45,000

Income from operations 85,000

Interest expense 5,000

Income before income taxes 80,000

Income tax expense 24,000

Net income $ 56,000

The following additional data were provided:

1. Dividends declared and paid were $35,000.

2. During the year, equipment was sold for $17,000 cash. This equipment cost $28,000 originally and had a book value of $17,000 at the time of sale.

3. Purchased a used delivery truck for $10,000

4. All depreciation expense is included the operating expenses.

5. All sales and purchases are on account.

6. Accounts payable pertain to merchandise suppliers.

REQUIREMENTS: Prepare 1 WORD document (WD1) and 1 EXCEL document (ED1):

1. (WD1)>>Write a brief, yet clear, paragraph about the purpose of a statement of cash flow .

Be specific.

2. (ED1)>>Prepare a statement of cash flows for Edmond & Edmond Company using the indirect

method. Be sure your statement is complete in form, includes all needed line-items, and is
accurate.

3. (WD1)>>Write a brief, yet thorough, email to Cisslee Williams (the Controller for Edmond and
Edmond) stating the overall conclusion you have drawn from the completed statement of cash
flows.

PROBLEM 2:

Find the official website for ONE of the following companies:

Coca-cola

Walmart

Tyson Foods

Once you find an official website for the company you select, perform the following tasks:

Find the “Investor Relations” link and click. Once in “investor relations,”

Find the 2017 annual report OR 10-K Report to the SEC

After locating one of the documents, locate the financial statements included in the document.

Copy and paste the (1) comparative balance sheet, (2) income statement, and (3) statement of cash flows and include ALL three (3) in a separate file. Do not be concerned with the formatting once you have pasted. Just be sure the name of the company, name of the statement, and the years are clearly shown as proof that you have provided the required statements.

Now that you have access to the financial statements, compute the following ratios FOR TWO YEARS. Be sure to show ALL computations, equations, formulas, etc.:

Any two liquidity ratios

One solvency ratio

Any two profitability ratios

REQUIRED1: Write and submit a 1^st document that:

>>>Identifies the name of the company on which you performed research

>>> Presents the ratios (e.g., a table) you have computed. Keep computations separate from final ratio answers. Be sure to clearly classify and identify all ratios. Show the computations. Neatness, order, and clarity are a MUST. Be sure your presentation is neat, orderly, and can be clearly followed.

>>>States YOUR conclusion about each of the three groups of ratios. Hint: A cover page is expected.

REQUIRED2: Write and submit a 2^nd document that includes the financial statements you copied and pasted (as required in “d” above. IF you can easily include your financial statements as pages in the 1^st document, that will absolutely acceptable, and preferred.