The top managers of Whelan Gift Stores seek the counsel of Ernst & Young, the accounting firm, and learn that Whelan must make some changes to bring its financial statements into conformity with GAAP. At December 31, 2014, Whelan Gift Stores accounts include the following:
Cash ........................................................................................................... $ 23,000
Short-term trading investments, at cost ...................................................... 24,000
Accounts receivable .................................................................................... 54,000
Inventory ................................................................................................... 45,000
Prepaid expenses ........................................................................................ 17,000
Total current assets ................................................................................. $163,000
Accounts payable ....................................................................................... 46,000
Other current liabilities .............................................................................. 69,000
Total current liabilities ............................................................................ $115,000
As the accountant from Ernst & Young, you draw the following conclusions:
• Cash includes $6,000 that is deposited in a compensating balance account that will be tied up until 2016.
• The fair value of the short-term trading investments is $32,000. Whelan Gift Stores purchased the investments in early December.
• Whelan Gift Stores has been using the direct write-off method to account for uncollectible. During 2014, the company wrote off bad receivables of $4,000. Ernst & Young determines that bad debt expense should be 2% of sales, which for 2014 totalled $450,000.
• Whelan Gift Stores reported net income of $81,000 for 2014.
Requirements
1. Restate all current accounts to conform to GAAP.
2. Compute Whelan Gift Stores' current ratio and acid-test ratio both before and after your corrections.
3. Determine Whelan Gift Stores' correct net income for 2014.