Chapter 1 Problems
|1-3|1-10|1-3a|1-10a|Case 1-3|Case 1-5|
Millie needs to earn at least $3,000 each month for the business to be worth her time. She is pleased with the results.
Identify the assumptions that Millie has violated and explain how each event should have been handled. Prepare a corrected balance sheet and income statement.
Case
1-3 Preparation of Projected Statements For A New Business
Upon graduation from MegaState
University, you and your roommate decide to start your respective
careers in accounting and salmon fishing in Remote, Alaska. Your
career as a CPA in Remote is going well, as is your roommate's
job as a commercial fisher. After one year in Remote, he approaches
you with a business opportunity.
As we are well aware, the video
rental business has yet to reach Remote, and the nearest rental
facility is 250 miles away. We each put up our first year's savings
of $5,000 and file for articles of incorporation with the State
of Alaska to do business as Remote Video World. In return for
our investment of $5,000, we will each receive equal shares of
capital stock in the corporation. Then we go to the Corner National
Bank and apply for a $10,000 loan. We take the total cash of
$20,000 we have now raised and buy 2,000 videos at $10 each from
a mail-order supplier. We rent the movies for $3 per title and
sell monthly memberships for $25, allowing a member to check
out an unlimited number of movies during the month. Individual
rentals would be a cash-and-carry business, but we would give
customers until the 10th of the following month to pay for a
monthly membership. My most conservative estimate is that during
the first month alone, we will rent 800 movies and sell 200 memberships.
As far as I see it, we will have only two expenses. First, we
will hire two high school students to run the store for 30 hours
each per week and pay them $5 per hour. Second, the landlord
of a vacant store in town will rent us space in the building
for $1,000 per month.
1.
Prepare a projected income statement for the first month of operations.
2. Prepare a balance sheet as it would appear at the end
of the first month of operations.
3. Assume that the bank is willing to make the $10,000
loan. Would you be willing to join your roommate in this business?
Explain your response. Also, indicate any information other than
that he has provided that you would like to have before making
a final decision.
Case 1-5 Identification of Errors
in Financial Statements and Preparation of Revised Statements
Bay City Bombers, Inc., is a minor
league baseball organization that has just completed its first
season. You and three other investors organized the corporation;
each put up $10,000 in cash for shares of capital stock. Because
you live out of state, you have not been actively involved in
the daily affairs of the club. However, you are thrilled to receive
a dividend check for $10,000 at the end of the season - an amount
equal to your original investment! Included with the check are
the following financial statements, along with supporting explanations:
|
Income Statement For the Year Ended December 31, 1995 |
||
| Revenues: | ||
Single game ticket revenue |
$420,000 | |
Season ticket revenue |
$140,000 | |
Concessions revenue |
$280,000 | |
Advertising revenue |
$100,000 | $940,000 |
| Expenses: | ||
Cost of concessions sold |
$110,000 | |
Salary expense - players |
$225,000 | |
Salary and wage expense-staff |
$150,000 | |
Rent expense |
$210,000 | $695,000 |
| Net Income | $245,000 | |
|
Statement of Retained Earnings For the Year Ended December 31, 1995 |
|
| Beginning balance, January 1, 1995 | $ -0- |
| Add: Net income for 1995 | 245,000 |
| Deduct: Cash dividends paid in 1995 | (40,000) |
| Ending balance, December 31, 1995 | $205,000 |
|
Balance Sheet At December 31, 1995 |
|||
| Assets | Liabilities and Owners' Equity | ||
| Cash | $5,000 | Notes payable | $50,000 |
| Accounts receivable | Capital stock | 40,000 | |
Season tickets |
140,000 | Additional owners' capital | 80,000 |
Advertisers |
100,000 | Parent club's equity | 125,000 |
| Auxiliary assets | 80,000 | Retained earnings | 205,000 |
| Equipment | 50,000 | ||
| Player contracts | 125,000 | ||
| Total assets | $500,000 | Total liabilities and owners' equity | $500,000 |
Additional information:
1. Single game tickets sold for $4 per game. The team
averaged 1,500 fans per game. With 70 home games X $4 per game
X 1,500 fans, single game ticket revenue amounted to $420,000.
2. No season tickets were sold during the first season.
During the last three months of 1995, however, an aggressive
sales campaign resulted in the sale of 500 season tickets for
the 1996 season. Therefore, the controller (who is also one of
the owners) chose to record an Account Receivable - Season Tickets
and corresponding revenue for 500 tickets X $4 per game X 70
games or $140,000.
3. Advertising revenue of $100,000 resulted from the sale
of the 40 signs on the outfield wall at $2,500 each for the season.
However, none of the advertisers have paid their bill yet (thus,
an account receivable of $100,000 on the balance sheet) because
the contract with Bay City required them to pay only if the team
averaged 2,000 fans per game during the 1995 season. The controller
believes that the advertisers will be sympathetic to the difficulties
of starting a new franchise and be willing to overlook the slight
deficiency in the attendence requirement.
4. Bay City has a working agreement with one of the major
league franchises. The minor league team is required to pay $5,000
every year to the major league team for each of the 25
players on its roster. The controller believes that each of the
players is certainly an asset to the organzation and has therefore
recorded $5,000 X 25, or $125,000, as an asset called Player
Contracts. The item on the right side of the balance sheet entitled
Parent Club's Equity is the amount owed to the major league team
by February 1, 1996, as payment for the players for the 1995
season.
5. In addition to the cost described in part 4, Bay City
directly pays each of its 25 players a $9,000 salary for the
season. This amount - $225,000 - has already been paid for the
1995 season and is reported on the income statement.
6. The items on the balance sheet entitled Auxiliary Assets
on the left side and Additional Owners' Capital on the right
side represent the value of the controller's personal residence.
She has a motgage with the bank for the full value of the house.
7. The $50,000 note payable resulted from a loan that
was taken out at the beginning of the year to finance the purchase
of bats, balls, uniforms, lawn mowers, and other miscellaneous
supplies needed to operate the team (equipment is reported as
an asset for the same amount). The loan, with interest, is due
on January 15, 1996. Even though the team had a very successful
first year, Bay City is a little short of cash at the end of
1995 and has therefore asked the bank for a three-month extension
of the loan. The controller reasons that "by the due date
of April 15, 1996, the cash due from the new season ticket holders
will be available, things will be cleared up with the advertisers,
and the loan can be easily repaid."
1. Identify any errors that you think the controller has made in preparing the financial statements.
2. On the basis of your answer in part 1, prepare a revised income statement, statement of retained earnings, and balance sheet.
3. On the basis of your revised financial statements, identify any ethical dilemma you now face. Do you have a responsibility to share these revisions with the other three owners? What is your responsibility to the bank?