Chapter 3 End of Chapter Questions
ON C 3-17
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Under cash-basis accounting, revenues are recorded when earned and expenses are recorded when incurred.
False
Adjusting entries can be classified as either accruals or deferrals.
True
Accrual- and Cash-Basis Expenses Speedy Delivery Company provides next-day delivery across the southeastern United States. During May, Speedy incurred $132,600 in fuel costs. Speedy paid $95,450 of the fuel cost in May, with the remainder paid in June. In addition, Speedy paid $15,000 in May to another fuel supplier in an effort to build up its supply of fuel. Calculate the amount of expense recognized in May under (1) cash-basis accounting and (2) accrual-basis accounting.
(1) Cash-basis expense: May fuel costs paid in May.......................................................... $ 95,450 Purchase of fuel inventory (to be used in future)........................... 15,000 Total cash-basis expense....................................................... $110,450 (2) Accrual-basis expense: May fuel costs.......................................................................... $132,600 Note: The $15,000 paid to the other supplier in May to build up the fuel supply is not an accrual-basis expense in May. Instead, it is a prepaid item that will be expensed when the fuel is used.
Expense Recognition (or Matching) Principle The following information describes transactions for Morgenstern Advertising Company during July: a. On July 5, Morgenstern purchased and received $24,300 of supplies on credit from Drexel Supply Inc. During July, Morgenstern paid $20,500 cash to Drexel and used $18,450 of the supplies. b. Morgenstern paid $9,600 to salespeople for salaries earned during July. An additional $1,610 was owed to salespeople at July 31 for salaries earned during this month. c. Paid $2,950 to the local utility company for electric service. Electric service in July was $2,300 of the $2,950 total bill. Calculate the amount of expense recognized in July under (1) cash-basis accounting and (2) accrual-basis accounting.
(a) Cash-basis expense: Cash paid for supplies.......................................................... $20,500 Cash paid for salaries.......................................................... 9,600 Cash paid for utility services................................................ 2,950 Total cash-basis expense................................................... $33,050 (b) Accrual-basis expense: Supplies used...................................................................... $18,450 Salaries earned*.................................................................. 11,210 Electric service used............................................................. 2,300 Total accrual-basis expense.............................................. $31,960 * $9,600 + $1,610 = $11,210
Accrual- and Cash-Basis Revenue McDonald Music sells used CDs for $4.00 each. During the month of April, McDonald sold 7,650 CDs for cash and 13,220 CDs on credit. McDonald's cash collections in April included $30, 600 for the CDs sold for cash, $12,800 for CDs sold on credit during the previous month, and $29,850 for CDs sold on credit during April. Calculate the amount of revenue recognized in April under (1) cash-basis accounting and (2) accrual-basis accounting.
CE 3-12 (1) Cash-basis revenue: Cash collected in April from April cash sales*.............................. $30,600 Cash collected in April from March credit sales............................ 12,800 Cash collected in April from April credit sales.............................. 29,850 Total cash-basis revenue....................................................... $73,250 (2) Accrual-basis revenue: April cash sales*........................................................................ $30,600 April credit sales**..................................................................... 52,880 Total accrual-basis revenue.................................................... $83,480 * 7,650 units × $4.00 = $30,600 ** 13,220 units × $4.00 = $52,880
Generally accepted accounting principles require companies to use cash-basis accounting .
False
The cash account will always be affected by adjusting journal entries.
False
The key elements of accrual-basis accounting are the revenue recognition principle, the expense recognition (or matching) principle, and the historical cost principle.
False
Which of the following is true regarding the accounting cycle? (Wotfitrtac) The accounts are adjusted after preparing the financial statements.
False
Wotfitrtac An adjusted trial balance is usually prepared after the accounts are closed.
False
Wotfitrtac Journal entries are made prior to the transaction being analyzed.
False
Following statements regarding preparing financial statements (FSRPFS) The adjusted trial balance lists only the balance sheet accounts in a "debit" and "credit" format.
Incorrect
Revenue Recognition Principle Heartstrings Gift Shoppe sells an assortment of gifts for any occasion. During October, Heartstrings started a Gift-of-the-Month program. Under the terms of this program, beginning in the month of the sale, Heartstrings would select and deliver a random gift each month, over the next 12 months, to the person the customer selects as a recipient. During October, Heartstrings sold 25 of these packages for a total of $11,280 in cash. For the month of October, calculate the amount of revenue that Heartstrings will recognize.
Monthly revenue = $11,280/12 months = $940/month Heartstrings will recognize $940 of revenue in the first month (October).
FSRPFS Correct 1.
The adjusted trial balance is the primary source of information needed to prepare the financial statements.
FSRPFS Correct 2.
The financial statements are prepared in the following order: (1) the income statement, (2) the retained earnings statement, and (3) the balance sheet.
FSRPFS Correct 3.
The income statement and the balance sheet are related through the retained earnings account.
Wotfitrtac True
The temporary accounts are closed after the financial statements are prepared.
Accrual-basis accounting records both cash and noncash transactions when they occur.
True
Adjusting entries always affect at least one revenue or expense account and one asset or liability account.
True
Adjusting entries are necessary because timing differences exist between when a revenue or expense is recognized and cash is received or paid.
True
Identification of Adjusting Entries Singleton Inc. uses the accrual basis of accounting and had the following transactions during the year. a. Merchandise was sold to customers on credit. b. Purchased equipment to be used in the operation of its business. c. A 2-year insurance contract was purchased. d. Received cash for services to be performed over the next year. e. Paid weekly employee salaries. f. Borrowed money from First Bank by signing a not payable due in 5 years. Identify and explain why each transaction may or may not require adjustment.
a. This transaction will not require an adjustment because a sale is complete at the time the delivery of the merchandise is made to the customer (a single point in time), and revenue is properly recorded when the merchandise is delivered to the customer. Note: Even though the time period in which the revenue from the sales is earned may be different from the time period that the cash is collected (because the sales were made on credit), this does not impact the fact that the sale is complete at a single point in time. The subsequent cash collection will increase cash and decrease the accounts receivable, but this is not an adjusting entry. b. This transaction will require an adjusting entry over the life of the equipment because depreciation is a continuous activity. The company will expense the use of the asset (depreciation) over the life of the asset, even though the entire cash payment was made when the asset was purchased. c. This transaction will require an adjustment because the insurance policy continues for more than a year. The insurance policy will expire (be used) in increments, requiring an adjustment to show the portion of the insurance being used by the company each period. The expired portion will be shown as an expense while the unexpired portion of the insurance policy will be shown as a prepaid asset. CHAPTER 3 Accrual Accounting CE 3-16 (Continued) d. This transaction will require an adjustment because the performance of the services is a continuous activity that is not completed at a single point in time. Revenue from providing the services will be recorded as the services are performed during the year. At the end of the accounting period, any revenue that has not yet been earned will be recognized as a liability (unearned service revenue). e. This transaction will most likely require an adjustment because the employees will work and earn salary continuously over time. Because salaries are most likely paid at a time that is different from when the employees work and the expense is incurred, any unpaid portion of the salaries will need to be recognized as a liability (salaries payable). f. This transaction may require an adjustment later in the life of the note to account for the interest that will be incurred over time. Interest is a continuous activity that requires the recognition of an expense over the life of the note. When the interest expense is incurred at a time different than when the cash payment for interest occurs, the company will need to record a liability (interest payable).
In September 2013, GolfWorld Magazine obtained $15,000 of subscriptions for 1 year of magazines and credited Unearned Sales Revenue. The magazines will begin to be delivered in October 2013. At December 31, 2013, GolfWorld should make the following adjustment: a. Debit Sales Revenue by $3,750 and credit Unearned Sales Revenue by $3,750. b. Debit Unearned Sales Revenue by $3,750 and credit Sales Revenue by $3,750. c. Debit Sales Revenue by $11,250 and credit Unearned Sales Revenue by $11,250. d. Debit Unearned Sales Revenue by $11,250 and credit Sales Revenue by $11,250.
b. Debit Unearned Sales Revenue by $3,750 and credit Sales Revenue by $3,750. b ($15,000/12 months) = $1,250 per month × 3 months
Reinhardt Company reported revenues of $122,000 and expenses of $83,000 on its 2013 income statment. In addition, Reinhardt paid $4,000 of dividends during 2013. On December 31, 2013, Reinhardt prepared closing entries. The net effect of the closing entries on retained earnings was a(n): a. decrease of $4,000. c. increase of $39,000 b. increase of $35,000. d. decrease of $87,000
b. increase of $35,000. ($122,000 - $83,000 - $4,000)
Hurd Inc. prepays rent every 3 months on March 1, June 1, September 1, and December 1. Rent for the 3 months totals $3,600. On December 31, 2013, Hurd will report Prepaid Rent of: a. $0 c. $2,400 b. $1,200 d. $ 3,600
c. $2,400 ($3,600/3 months) = $1,200 per month × 2 months that remain prepaid
In December 2013, Swanstrom Inc. receives a cash payment of $3,500 for services performed in December 2013 and a cash payment of $4,500 for services to be performed in January 2014. Swanstrom also receives the December utility bill for $600 but does not pay this bill until 2014. For December 2013, under the accrual basis of accounting, Swanstrom would recognize: a. $8,000 of revenue and $600 of expense. b. $8,000 of revenue and $0 of expense. c. $3,500 of revenue and $600 of expense. d. $3,500 of revenue and $0 of expense.
c. $3,500 of revenue and $600 of expense.
Dallas Company loaned $10,000 to Ewing Company on December 1, 2013. Ewing will pay Dallas $720 of interest ($60 per month) on November 30, 2014. Dallas's adjusting entry at December 31, 2013, is: a. Interest Expense.......60 Cash...................................60 b. Cash.............................60 Interest Revenue...........60 c. Interest Receivable..60 Interest Revenue............60 d. No adjusting entry is required.
c. Interest Receivable..60 Interest Revenue............60
Ron's Diner received the following bills for December 2013 utilities: • Electricity: $625 on December 29, 2013 • Telephone: $150 on January 5, 2014 Both bills were paid on January 10, 2014. On the December 31, 2013, balance sheet, Ron's Diner will report accrued expenses of: a. $0 c. $625 b. $150 d. $775
d ($625 + $150)
Which transaction would require adjustment at December 31? a. The sale of merchandise for cash on December 30. b. Common stock was issued on November 30. c. Salaries were paid to employees on December 31 for work performed in December. d. A 1-year insurance policy (which took effect immediately) was purchased on December 1.
d. A 1-year insurance policy (which took effect immediately) was purchased on December 1.
