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understanding financial accounting

Financial Accounting In An Economic Context 3rd Edition Jamie Pratt - Solutions

Incurred expenses: $125,000 for wages, $35,000 for supplies, $80,000 for depreciation, and $75,000 for miscellaneous expenses.
Purchased fixed assets for $250,000 cash.
Declared, but did not pay, cash dividends of $10,000.
Purchased fixed assets in exchange for a long-term note valued at $85,000. Chapter 13 The Complete Income Statement 675 REQUIRED:a. Classify each transaction as either an operating transaction or a capital transaction.b. Prepare an income statement.c. Compute comprehensive income and compare it to
Excerpts from Crozier Industries’ financial records as of December 31, 1997, follow: Sales Sales Returns Costs of Goods Sold Dividends Rent Expense Wages Payable Loss on Sale of Food Services Division Loss Incurred by Food Services Division Depreciation Expense Cumulative Effect on Income of
In its 1997 financial report Meeks Company reported $850,000 under the line item “Extraordinary losses” on the income statement. The company’s tax rate is 35 percent. The footnote pertaining to extraordinary losses indicates that the $850,000 loss, before tax, is com¬ prised of the following
Define long-term notes payable, bonds payable, and leasehold obligations, and explain to what extent companies use such instruments to finance operations. What kinds of projects are long-term liabilities usually used to finance?
Explain how a debt covenant can have an important economic consequence on a com¬ pany’s financial condition.
Why might management wish to avoid reporting debt on the balance sheet?
Identify circumstances in which management might wish to accelerate the recognition of debt and related losses on the financial statement.
List and define the three forms of contractual obligations discussed in this chapter.
Briefly explain how the effective interest rate on an obligation is computed. Why is it more difficult to compute the effective interest rate for an interest-bearing note than for a noninterest-bearing note?
Why are long-term liabilities carried on the balance sheet at an estimate of present value, while long-lived assets are not?
What is the stated interest rate, and how does it differ from the effective interest rate?
State the basic rule of the effective interest method. Give several examples using the effec¬ tive interest method to value balance sheet liabilities, and explain why it is used to account for long-term notes, bonds, and leases.
Why might a company decide to borrow money by issuing a note with a stated interest rate of zero?
Explain the process used to amortize a discount on a long-term note or bond payable.
Why is issuing bonds such a popular way to raise large amounts of capital?
List and briefly explain the important features of a bond contract.
What is a debenture? Why might DuPont be able to issue debentures frequently, while Jones Airlines, Inc., a less dependable business, might not?
Why might the issuing company allow a debt covenant to be written into a bond contract? How would adding such a provision tend to affect the issue price of the bonds?
When a bond is issued at a discount, what is the relationship between the stated interest rate and the effective interest rate?
Does the effective interest method ensure that bond liability is carried on the balance sheet at present value throughout its life? Upon what assumption does the answer to this ques¬ tion depend?
Explain how a user could adjust reported earnings in view of the difference between the balance sheet value of outstanding long-term debt and its market value.
Why would a company choose to redeem its outstanding bonds prior to maturity, some¬ times even at a premium price?
Describe several examples of financing risks that may not be reflected on the balance sheet, and briefly explain how users can assess such risks.
Why is leasing such a popular form of financing for many companies? Distinguish a cap¬ ital lease from an operating lease.
Explain the methods used to account for capital leases. How is the lease obligation amor¬ tized over the life of the lease?
What is off-balance-sheet financing? Why might a company structure a lease so that it is considered an operating lease instead of a capital lease?
Describe how a user can use footnote disclosures to make more comparable firms that have different policies concerning the accounting for operating and capital leases.
Relative to the United States, how important is debt financing in other countries? How has this affected the financial reporting systems in those countries?
(Appendix 11A) Explain how the effective interest rate on a note receivable or bond invest¬ ment is determined. What method is used to account for both?
(Appendix 11A) When accounting for a bond investment, how is interest revenue com¬ puted each period?
(Appendix 11A) To account for a bond investment, the effective interest rate, determined at purchase, is used throughout the life of the bond investment to compute periodic interest revenue even though market interest rates may change over that time period. What bearing will changes in the market
(Appendix 11B) Describe the three steps involved when deciding whether to purchase a bond.
(Appendix 11B) Explain how a reduction in a company’s credit rating would affect the prices at which the company could issue bonds. Would it affect the risk-free rate or the risk premium?
(Appendix 1 IB) If you were holding a portfolio of bonds, would you want future interest rates to increase or decrease? Why?
What role does the benefit received in exchange for the long-term obligation play in the determination of the effective interest rate?
If you were a manager deciding to borrow money, explain how both the stated rate and the effective rate would affect your decision.
When a bond is issued at a premium, what is the rela¬ tionship between the stated rate and the effective rate?
Under what conditions will the interest revenue be constant from period to period? Under what conditions will it increase? Under what conditions will it decrease?
Why is a gain or loss usually recognized when a company redeems outstanding bonds prior to maturity?
Define the effective rate of return, the required rate of return, the risk-free rate, and the risk premium, and explain how they are related.
The balance sheet as of December 31, 1996, for Melrose Enterprises follows. (Disclosing debt and debt covenants) Assets Liabilities and Stockholders’ Equity Current assets $200,000 Current liabilities $200,000 Noncurrent assets 700,000 Long-term liabilities 300,000 Total assets $900,000
Hathaway Manufacturing issued long-term debt on January 1, 1996. The debt has a face value of $300,000 and an annual stated interest rate of 10 percent. The debt matures on January 1, 2001. REQUIRED:a. Assume that the debt agreement requires Hathaway Manufacturing to make annual inter¬ est
The stated and effective interest rates for several notes and bonds follow. Indicate whether each note/bond would be issued at a discount, par value, or a premium. Note/Bond Stated Effective Interest Rate Interest Rate 1 10% 10% 2 7 8 3 9 8 4 11.5 9
Compute the proceeds from the following notes payable. Interest payments are made annually. Proceeds Stated Interest Rate Effective Interest Rate Face Value Life 9 • 0% 8% $ 1,000 4 years 9 • 0 6 5,000 6 years 9 • 4 12 8,000 6 years 9 • 8 8 3,000 7 years 9 • 10 6 10,000 10 years
Tradewell Rentals purchased a piece of equipment with a FMV ol $11,348 in exchange lor a five-year, non-interest-bearing note with a face value ol $20,000. REQUIRED:a. Compute the effective interest rate on the note payable.b. Prepare the journal entry to record the purchase.c. How much interest
Candleton signed a two-year, interest-bearing note payable with a face value of $8,000 and an effective interest rate of 8 percent. Interest payments on the note are made annually. REQUIRED: Provide the journal entries that would be recorded over the life of the note assuming the fol¬ lowing
On January 1, 1997, Wilmes Floral Supplies borrowed $2,413 from Bower Financial Services. Wilmes Floral Supplies gave Bower a $2,500 note with a maturity date of December 31, 1998. The note specified an annual stated interest rate of 8 percent. REQUIRED:a. Compute the present value of the note’s
Morrow Enterprises purchased a building on January 1, 1997, in exchange for a three-year, non-interest-bearing note with a face value of $693,000. Independent appraisers valued the building at $550,125. REQUIRED:a. At what amount should this building be capitalized?b. Compute the present value of
The following information was extracted from the financial records of Leong Cosmetics. 1998 1997 Balance Sheet Notes payable $200,000 $200,000 Less: Discount on notes payable 12,000 14,400 Income Statement Interest expense $ 16,400 $ 16,200 REQUIRED:a. What is the effective interest rate on the
Three different bond issuances are listed here with interest payments made Semiannually. Bond Issuance Face Value Stated% A B C 100,000 400,000 600,000 Interest Rate 6% 8 6 Effective Interest Rate 6% 6 8 Life 10 years 10 years 5 years REQUIRED:a. Compute the proceeds of each bond issuance.b. For
On January 1, 1996, Collins Copy Machine Company issued thirty $1,000 face-value bonds with a stated annual rate of 10 percent that mature in ten years. Interest is paid semiannually on June 30 and December 31. The bonds were issued at face value. REQUIRED:a. Prepare the entry to record the
Tingham Village issued 500 five-year bonds on July 1, 1997. The interest payments are due semiannually (January 1 and July 1) at an annual rate of 6 percent. The effective interest rate on the bonds is 8 percent. The face value of each bond is $1,000. REQUIRED:a. Prepare the journal entry that
Treadway Company issued bonds with a face value of $20,000 on January 1, 1996. The bonds were due to mature in five years and had a stated annual interest rate of 8 percent. The bonds were issued at face value. Interest is paid semiannually. REQUIRED:a. As of December 31, 1996, market interest
On September 10, 1994, Mooney Plastic Products issued bonds with a face value of $500,000 for a price of 96. During 1997 Mooney exercised a call provision and redeemed the bonds for 101. At the time of the redemption, the bonds had a balance sheet value of $490,000. REQUIRED:a. Prepare the journal
Marker Musical Products issued bonds with a face value of $100,000 and an annual stated interest rate of 8 percent on January 1, 1994. The effective interest rate on the bonds was 10 percent. Interest is paid semiannually on July 1 and January 1. As of December 31, 1996, the company reported the
The information below was taken from the balance sheet of Beasley Brothers as of December 31, 1996. Bond payable $100,000 Less: Unamortized discount 5,350 $94,650 Footnotes: The bonds have a stated interest rate of 5 percent and will mature on December 31, 1998. The market value of the bonds as of
The information below was taken from the balance sheet of Cohort Enterprises as of December 31, 1997. Bond payable $200,000 Less: Unamortized discount 6,941 $193,059 Footnotes: The bonds have a stated interest rate of 5 percent and will mature on December 31, 1999. The market value of the bonds as
Tradeall, Inc., leases automobiles for its salesforce. On January 1, 1996, the company leased 100 automobiles and agreed to make lease payments of $10,000 per automobile each year. The lease agreement expires on December 31, 2000, at which time the automobiles can be pur¬ chased by Tradeall for a
Watts Motors plans to acquire a building and can either borrow cash from a bank to finance the purchase or lease the building from the current owner. The sales price of the building is $149,388. If the company wishes to finance the purchase with a bank loan, it must sign a tenyear note with a face
Compute the effective rate of interest on the following long-term debts. Interest payments on the notes are made annually and interest payments on the bonds are made semiannually. Debt Fair Market Value of Receipt Face Value Life Stated Interest Note $10,000 $ 10,000 6 years 8% Note 35,056 100,000
On January 1, 1996, Bondinger Financial Services lent $9,652 to Weyton Industries. In exchange, Bondinger received a note with a maturity date of December 31, 1997, a face value of $10,000, and a stated annual interest rate of 8 percent, to be paid each December 31 through¬ out the life of the
On January 1, 1996, Christie Sohn Company purchased ten bonds ($1,000 face value) with a stated annual interest rate of 10 percent. The bonds mature in five years, and over that time interest is paid semiannually on June 30 and December 31. The bonds were purchased to yield an annual rate of 10
Dylander bonds are selling on the open market at 89.16. The bonds have a stated interest rate of 8 percent and mature in 8 years. Interest payments are made semiannually. REQUIRED:a. Assume that your required rate of return is 12 percent. Would you buy the bonds? Why or why not?b. At what required
Haiti Enterprises issued ten $1,000 bonds on September 30, 1996, with a stated annual inter¬ est rate of 8 percent. These bonds will mature on October 1, 2006, and have an effective rate of 10 percent. Interest is paid semiannually on October 1 and April 1. The first interest pay¬ ment will be
The balance sheet as of December 31, 1996, for Manheim Corporation follows. Assets Liabilities and Stockholders’ Equity Current assets Noncurrent assets Total assets $ 85,000 Current liabilities $ 70,000 125,000 Long-term liabilities 40,000 Stockholders’ equity 100,000 Total liabilities and
Patnon Plastics needs some cash to finance expansion. Patnon issued the following debt to acquire the cash. 1. A five-year note with a stated interest rate of zero, a face value of $20,000, and an effec¬ tive interest rate of 10 percent. 2. An eight-year note with an annual stated rate of 8
The balance sheet as of December 31, 1997, for Boyton Sons follows. Assets Liabilities and Stockholders’ Equity Current assets $ 40,000 Current liabilities $ 30,000 Noncurrent assets 80,000 Long-term liabilities 60,000 Stockholders’ equity 30,000 Total liabilities and Total assets $ 120,000
Earl Rix, president of Rix Driving Range and Health Club, has provided you with the follow¬ ing information: 1998 1997 Balance Sheet Notes payable $800,000 $800,000 Less: Discount on notes payable 55,000 70,000 Income Statement Interest expense $ 95,000 The stated annual interest rate on the notes
Hartney Enterprises issued twenty $1,000 bonds on June 30, 1997, with a stated annual inter¬ est rate of 6 percent that mature in six years. Interest is paid semiannually on December 31 and June 30. The effective interest rate as of June 30, 1997, the date of issuance, was 8 percent. REQUIRED:
Ross Running Shoes issued ten $1,000 bonds with a stated annual rate of 10 percent on June 30, 1997. These bonds mature on June 30, 2000. The bonds have an effective interest rate of 8 percent, and interest is paid semiannually on December 31 and June 30. REQUIRED:a. How much must Ross Running
Consider the three notes payable listed here. Each was issued on January 1, 1997, and matures on December 31, 1999. Interest payments are made annually on December 31. Note Face Value Stated Effective Interest Rate Interest Rate A $1,000 10% 6% B $1,000 10 10 C $1,000 6 10 REQUIRED:a. Compute the
Ginny & Rick Eateries reported the following account balances in the December 31, 1996, financial report. Bonds payable $500,000 Premium on bonds payable 12,600 The bonds have a stated annual interest rate of 8 percent and an effective interest rate of 6 per¬ cent. Interest is paid on June 30 and
Ficus Tree Farm issued five $1,000 bonds with a stated annual interest rate of 12 percent on January 1, 1997, that mature on January 1, 2002. Interest is paid semiannually on June 30 and December 31. The bonds were sold at a price that resulted in an effective interest rate of 14 percent. The bonds
Taylor Corporation is contemplating issuing bonds to raise cash to finance an expansion. Before issuing the debt, the controller of the company wants to prepare an analysis of the cash flows and the interest expense associated with the issuance. Taylor Corporation is considering issuing one hundred
Mackey Company acquired equipment on January 1, 1996, through a leasing agreement that required an annual payment of $30,000. Assume that the lease has a term of five years and that the life of the equipment is also five years. The lease is treated as a capital lease, and the FMV of the equipment
The balance sheet as of December 31, 1996, for Thompkins Laundry follows. Assets Liabilities and Stockholders’ Equity Current assets $10,000 Current liabilities $10,000 Noncurrent assets 60,000 Long-term liabilities Stockholders’ equity Total liabilities and 20,000 40,000 Total assets $70,000
Memminger Corporation purchased equipment on January 1, 1997. The terms of the purchase required that the company pay $1,000 in interest at the end of each year for five years and $20,000 at the end of the fifth year. The FMV of the equipment on January 1, 1997, was $17,604. REQUIRED:a. Prepare the
An excerpt from the financial statement of Lombardy Services follows. The information refers to a single note receivable. 1997 1996 Balance Sheet Note receivable $20,000 $20,000 Less: Discount on note receivable Income statement 1,200 1,600 Interest revenue $ 1,656 $ 1,622 REQUIRED:a. What is the
On July 1, 1997, Lawton Corporation purchased bonds as a long-term investment with a total face value of $400,000. The bonds have an annual stated interest rate of 10 percent, and they pay interest semiannually on December 31 and June 30. The bonds mature on June 30, 2007. REQUIRED:a. Assume that
Sun Company, an oil-refining concern, purchased all of its outstanding 8 1/2 percent (stated rate) debentures due November 15, 2000, as part of a restructuring plan. The balance sheet value of each outstanding debenture at the time of the repurchase was $875, and the company paid $957.50 for each
Several years ago, J.C. Penney Company issued bonds with a face value of $200 million and a stated interest rate of zero, which matured eight years later, for 33.24. That same year Martin Marietta, Northwest Industries, and Alcoa also issued bonds with stated interest rates of zero. REQUIRED:a. Why
Assume that United Airlines is planning to purchase a jet passenger plane, with a price of $45,636,480, from the Boeing Company. United is considering structuring the transaction in one of two ways. In Alternative 1, United would borrow the necessary cash from Federal City Bank and sign a note
‘“Out on a limb, over his head’—that’s the typical reaction every time Rupert Murdock adds another debt-financed chunk to his global media colossus, News Corp. In the past five years, its reported assets have more than quadrupled [but Murdock is stepping] up to the plate again, with a
A recent article in The Wall Street Journal (October 2, 1990) noted that as the country slid deeper into a recession in the early 1990s, companies with high amounts of cash relative to their debt are likely to be coveted by the stock market, while companies with high levels of debt will be slashing
Albertson’s and Safeway are leading retail food chains in the United States. As of the end of 1994, Albertson’s reported $3.6 billion in total assets and $1.9 billion in total liabilities, while Safeway reported $5 billion in total assets and $4.4 billion in total liabilities. Both companies,
The Wall Street Journal (June 5, 1995) recently reported: Alan Greenspan may not see a recession on the horizon, but it sure looks as if a few people in the bond market do. After a fierce month-long price rally, the bond market had another big day 584 Part 4 Liabilities and Stockholders’ Equity:
Refer to the 1994 annual report of MCI and answer the following questions.a. Compute MCI’s long-term debt-to-equity ratio over the last five years. In general, is it increasing or decreasing, and why did it change significantly during 1993 and 1994?b. As of December 31, 1994, what portion of
Define a liability, and identify the three characteristics all balance sheet liabilities have in common.
Why is it important to disclose and value all liabilities appropriately on the balance sheet? Why is it important to stockholders, investors, creditors, management, and auditors?
How can management benefit from understating liabilities? Why is such a practice often not effective?
In what situations might a manager wish to overstate liabilities?
When a manager manipulates liabilities, what important financial statement numbers are affected?
What is the definition of a current liability? Why are current liabilities defined in terms of current assets?
Explain why financial statement ratios like the current ratio are found in debt covenants.
Define and differentiate determinable, conditional, and contingent liabilities. Provide several examples of each.
Define accounts payable. Why does the auditor pay special attention to the inventory purchases occurring near the end of an accounting period?
Under what conditions should the current installment payment on a long-term debt be disclosed as a current liability on the balance sheet?

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