A well-known accounting malpractice is to book expenses as investment. An example was WorldCom, which tried to book "line costs" (interconnection expenses with other telecommunication companies) as capital expenditures instead of expenses.

(i) If Prufrock, of the Chapter 3 spreadsheet, incurs $50 million of expenses in 2009, then how do the financial statements change? How do the Profit Margin, ROE, ROA change?

(ii) If Prufrock allocates this a capital expenditure, how does the balance sheet change? How do the Profit Margin, ROE, ROA change?

(iii) Does the firm look better under (i) or (ii)?

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Current assets Cash Accounts receivable Inventory Total Fixed assets Net plant and equipment Total assets $ 2009 84 $ 165 393 642 $ 2,731 $ 3,373 $ Prufrock Corporation 2009 and 2010 Balance Sheets (S millions) 2010 98 188 422 708 2,880 3.588 Current liabilities Accounts payable Notes payable Total Long-term debt Owners' equity Common stock and paid-in surplus Retained earnings Total Total liabilities and equity $ $ $ $ $ $ 2009 312 $ 231 543 $ 531 $ 500 $ 1,799 $ 2,299 $ 3,373 $ 2010 344 196 540 457 550 2,041 2,591 3,588 Sales Cost of goods sold Depreciation Prufrock Corporation Income Statement Earnings before interest and taxes Interest paid Taxable income Taxes Net income Dividends Additions to retained earnings $ $ $ $ $ $ $ 2,311 1,344 276 691 141 550 187 363 121 242 Current assets Cash Accounts receivable Inventory Total Fixed assets Net plant and equipment Total assets $ 2009 84 $ 165 393 642 $ 2,731 $ 3,373 $ Prufrock Corporation 2009 and 2010 Balance Sheets (S millions) 2010 98 188 422 708 2,880 3.588 Current liabilities Accounts payable Notes payable Total Long-term debt Owners' equity Common stock and paid-in surplus Retained earnings Total Total liabilities and equity $ $ $ $ $ $ 2009 312 $ 231 543 $ 531 $ 500 $ 1,799 $ 2,299 $ 3,373 $ 2010 344 196 540 457 550 2,041 2,591 3,588 Sales Cost of goods sold Depreciation Prufrock Corporation Income Statement Earnings before interest and taxes Interest paid Taxable income Taxes Net income Dividends Additions to retained earnings $ $ $ $ $ $ $ 2,311 1,344 276 691 141 550 187 363 121 242

Answer rating: 100% (QA)

i In this case if the expenses would have been incorporated in 2009 itself then Total retained earnings would have also been reduced by 50 In that sce... View the full answer