AFM 101 Chapter 7 Solutions Manual

Chapter 7
Reporting and Interpreting

Sales Revenue, Receivables, and Cash
Revised: April 27, 2014
ANSWERS TO QUESTIONS
1. Sales revenue is a gross amount that does not reflect any adjustments.
Net sales is sales revenue adjusted for the following items: (a) sales
returns (the sales dollar amount of goods returned by customers
because the goods were either unsatisfactory or not desired); (b) sales
allowances (dollar amounts allowed to customers for unsatisfactory
merchandise) and (c) sales discounts (discounts given to customers for
payment of their accounts within a specified short period of time).
2. Gross profit or gross margin on sales is the difference between net sales
and cost of sales. It represents the average gross markup realized on the
goods sold during the period. The gross margin ratio is computed by
dividing the amount of gross margin by the amount of net sales. For
example, assuming net sales of $100,000 and cost of sales of $60,000,
the gross margin on sales would be $40,000. The gross margin ratio
would be $40,000/$100,000 = 0.40 (40%). This ratio may be interpreted
to mean that out of each $100 of sales, $40 was realized above the
amount expended to purchase the goods that were sold.
3. A credit card discount is the fee charged by the credit card company for
services. When a company deposits its credit card receipts in the bank, it
only receives cash for the sales amount less the credit card companys
discount. The credit card discount account either decreases net sales (as
a contra-revenue account) or increases selling expense.
4. A sales discount is a discount given to customers for payment of
accounts within a specified short period of time. Sales discounts arise
only when goods are sold on credit and the seller extends credit terms
that provide for a cash discount. For example, the credit terms may be
1/10, n/30. These terms mean that if the customer pays within 10 days,
1% can be deducted from the invoice price of the goods. Alternatively, if
payment is not made within the 10-day period, no discount is permitted
and the total invoice amount is due within 30 days from the purchase,
after which the debt is past due. To illustrate, assume a $1,000 sale with
these terms, if the customer pays within 10 days, $990 would have been
paid. Thus, a sales discount of $10 was granted for early payment.
FinancialAccounting,5ce,Libby,Libby,Short,Kanaan,Gowing 2014McGrawHillRyersonLimited.Allrightsreserved.
7-1
5. A sales allowance is an amount allowed to a customer for unsatisfactory

merchandise. A sales allowance reduces the amount the customer must
pay, or if already paid, a cash refund is required. Sales allowances may
occur whether the sale was for cash or credit. In contrast, a sales
discount is a cash discount given to a customer who has bought on credit
and made payment within the specified period of time. (Refer to
explanation of sales discount in Question 4 above.)
6. A trade receivable is an amount owed to the business by a trade
customer for merchandise or services purchased. In contrast, a note
receivable is normally a short-term obligation owed to the company
based on a formal written document (this document specifies the terms
of repayment, i.e., maturity date, interest rate, etc.).
7. In conformity with the matching process, the allowance method records
bad debt expense in the same period in which the credit was granted
and the sale was made.
8. Using the allowance method, bad debt expense is recognized in the
period in which the sale related to the uncollectible account was
recorded.
9. The write-off of bad debts using the allowance method decreases the
asset trade receivables and the contra asset allowance for doubtful
accounts by the same amount. As a consequence, (a) net earnings are
unaffected and (b) trade receivables, net, is unaffected.
10. An increase in the receivables turnover ratio generally indicates faster
collection of receivables. A higher receivables turnover ratio reflects an
increase in the number of times average trade receivables were recorded
and collected during the period.
11. Cash includes money and any instrument, such as a cheque, money
order, or bank draft that is normally accepted by banks for deposit and
immediate credit to the depositors account. Cash equivalents are shortterm, highly liquid investments that are readily convertible into a known
amount of cash, and which are subject to an insignificant risk of change
in value.
12. The primary characteristics of an internal control system for cash are :
(a) separation of the functions of receiving cash from paying cash, (b)
separation of cash-receiving and cash-paying routines, (c) separation of
the physical handling of cash from the accounting function, (d)
preparation and monitoring of cash budgets, (e) depositing all cash
receipts and making all cash payments by cheque, (f) requiring separate
approval of all cheques and electronic funds transfers, (g) requiring
monthly, independently prepared reconciliation of bank accounts, and
(h) requiring employees to take vacations and rotate their duties.
7-2
13. Trade receivables cannot be considered cash equivalents. They are

normally collected within three months and therefore meet part of the
definition of cash equivalents. However, they are not readily convertible
to cash as the conversion to cash depends on the actions of others (e.g.,
the customer) and there may be a significant amount of risk that the
value will change in that the collection may not be assured.
14. Cash-handling and cash-recording activities should be separated to
remove the opportunity for theft of cash and a cover-up by altering the
records. This separation is accomplished best by assigning the
responsibility for cash handling to individuals other than those who have
the responsibility for record keeping. In fact, it is usually desirable that
these two functions be performed in different departments of the
business.
15. The purposes of bank reconciliation are (a) to determine the true cash
balance, (b) to provide data to adjust the Cash account to that balance,
and (c) to provide control over the cash account through independent
verification. Bank reconciliation involves reconciling the balance in the
Cash account at the end of the period with the balance shown on the
bank statement (which is not the true cash balance) at the end of that
same period. Seldom will these two balances be identical because of
timing differences such as deposits in transit; that is deposits that have
been made by the company but not yet entered on the bank statement,
and outstanding cheques that have been written and recorded in the
accounts of the company that have not cleared the bank, hence they
have not been deducted from the banks balance. Usually, the
reconciliation of the two balances, per books against per bank, requires
recording of one or more items that are reflected on the bank statement
but have not been recorded in the accounting records of the company.
An example is the usual bank service charge, which is included on the
bank statement, but has not yet been recorded in the companys books.
16. The total amount of cash that should be reported on the statement of
financial position is the sum of (a) the true cash balances in all chequing
accounts (verified by a bank reconciliation of each chequing account),
(b) cash held in all cash on hand (or petty cash) funds, (c) any cash
physically on hand (any cash not transferred to a bank for deposit)
usually held for change purposes, and (d) the balance in cash equivalent
accounts.
17. (Based on Appendix 7A) The percentage of completion method may be
used for long-term construction projects. Companies may use the
percentage of completion method when progress toward completion and
costs to complete the contract can be reasonably estimated, and there is
a firm contract that virtually guarantees payment.
7-3
18. (Based on Appendix 7B) Under the gross method of recording sales
discounts, the amount of sales discount taken is only recorded at the
time the collection of the account is recorded.
7-4
Authors' Recommended Solution Time

(Time in minutes)
Exercises
No.
Time
1
5E
2
15 E
3
20 E
4
20 E
5
20 M
6
20 M
7
25 M
8
30 M
9
15 M
10
30 M
11
15 M
12
15 M
13
20 M
14
30 D
15
10 E
16
15 M
17
20 D
18
25 D
19
25 M
20
10 M
21
15 E
22
20 E
23
25 M
24
30 M
25
30 M
26
20 M
E = Easy
Problems
No.
Time
1
25 M
2
35 M
3
30 M
4
30 D
5
50 D
6
40 D
7
40 D
8
30 D
9
25 E
10
35 M
11
35 M
12
45 M
13
25 M
M = Moderate
Alternate
Problems
No.
Time
1
30 M
2
30 M
3
30 M
4
35 D
5
50 D
6
40 D
7
40 D
8
40 D
9
25 E
10
20 M
11
25 M
12
45 M
Cases and
Projects
No.
Time
1
35 M
2
35 M
3
40 M
4
20 M
5
45 D
6
45 D
7
35 D
8
30 M
9
*
D = Difficult
* Due to the nature of these cases and projects, it is very difficult to

estimate the amount of time students will need to complete the assignment.
As with any open-ended project, it is possible for students to devote a large
amount of time to these assignments. While students often benefit from the
extra effort, we find that some become frustrated by the perceived difficulty
of the task. You can reduce student frustration and anxiety by making your
expectations clear. For example, when our goal is to sharpen research skills,
we devote class time to discussing research strategies. When we want the
students to focus on a real accounting issue, we offer suggestions about
possible companies or industries.
7-5
EXERCISES
E71
Transaction
(a)
Airline tickets sold
by an airline on a credit
card
(b)
Computer sold by mail
order company on a credit
card
(c) Sale of inventory to a
business customer on open
account
Point A
Point of sale
Point B
x Completion of flight
x Shipment
Delivery
x Shipment
Collection from
customers
E72
Req. 1
Sales revenue ($850 + $700 + $450)............................ $ 2,000
Less: Sales discount ($850 collected from S. Green x 2%)
17
Net sales........................................................................
$1,983
Req. 2
Jan. 6
Trade receivables S. Green (+A).......................

Sales revenue (+R +SE)............................
850
Jan 14 Cash (+A) ($850 x 98%)......................................

Sales discounts (XR SE) ($850 x 2%)............
Trade receivables S. Green (-A)...................
833
17
850
850
E73
Req. 1
(120)
Sales revenue ($1,000 + $6,000 +$2,000)..................

$9,000
Less: Sales discount ($6,000 collected from Steven x 2%)
Credit card discount ($1,000 from Rami x 2%). .
Net sales........................................................................
(20)
$8,860
7-6
E73 (continued)
Req. 2
July 12 Cash (+A) ($1,000 x 98%)...................................
Credit card discount (+XR SE) ($1,000 x 2%)
980
20
1,000
July 15 Trade receivables Steven (+A) ......................... 6,000

6,000
July 23 Cash (+A) ($6,000 x 98%)...................................
Sales discounts (+XR SE) ($6,000 x 2%).......
Trade receivables Steven (A).....................
5,880
120
6,000
E74
Req. 1
Sales revenue ($800 + $5,000 + $6,000)..................... $11,800
Less: Sales returns and allowances ( 1/10 x $6,000 from David)
(600)
Less: Sales discounts (9/10 x $6,000 from David x 2%)...
(108)
Less: Credit card discounts ($800 from Brigitte x 2%)...
(16)
Net sales........................................................................ $11,076
Req. 2
Nov. 20 Cash (+A) ($800 x 98%)......................................
Credit card discount (+XR SE) ($800 x 2%). .
784
16
800
Nov. 25 Trade receivables Clara (+A) ........................... 5,000

5,000
Dec. 30 Cash (+A)............................................................
Trade receivables Clara (A)........................
5,000
5,000
E75
Transaction
July 12
July 15
July 20
July 21
Net Sales
+
+
N
Gross Profit
+
+
N
Earnings from
Operations
+
+
7-7
E76
Req. 1
The percentages of (1) cost of sales to net sales and (2) sales returns and
allowances to gross sales are shown in the following table for each of the six
quarters.
Quarter
1st quarter, 2014
2nd quarter, 2014
3rd quarter, 2014
4th quarter, 2014
1st quarter, 2015
2nd quarter, 2015
Ratio 1
73%
75%
75%
72%
71%
74%
Ratio 2
4%
5%
6%
8%
9%
11%
Req. 2
The ratio of cost of sales to net sales decreased slightly during the last
quarter of 2014 and the first quarter of 2015. It then increased in the second
quarter of 2015. This may indicate a change in the companys efficiency in
purchasing goods for resale. The changes could also be related to seasonal
variations. It could also mean that the company has been able to increase
its sales prices relative to the cost of the items purchased. Alternatively, the
lower cost of sales may reflect the fact that the company is purchasing lower
quality merchandise, which is costing less than before.
The dollar amount for sales returns and allowances almost quadrupled in
amount and tripled as a percentage of gross sales during the six quarters.
Possible reasons for this increase include: (1) a deterioration in the quality of
the merchandise purchased from the various international suppliers, and/or
(2) a liberal policy of sales returns and allowances that is intended to serve
the needs of customers, and to allow them to return any defective or
unwanted merchandise within two months of purchase.
The company should review its sales returns and allowances policy with an
attempt to reduce the maximum length of the period allowed for returns,
perhaps from 60 days to 45 days. The company needs to re-examine its
sources of supply of merchandise with a view to improving on the quality of
the products purchased and sold so as to reduce the amount of sales returns
and allowances.
7-8
E77
Req. 1
SLATE, INC.
Statement of earnings
For the Year Ended December 31, 2014
Amount
Gross sales ($233,000 + $40,000)...........

Less: sales returns and allowances...........
Net sales revenue.....................................
Cost of sales..............................................
Gross margin on sales...............................
Operating expenses:
Administrative expense.......................... $20,000
Selling expense....................................... 47,200
Bad debt expense...................................
1,200
Earnings before income tax......................
Income tax expense ($50,600 x 30%)....
Net earnings.............................................
$273,000
8,000
265,000
146,000
119,000
68,400
50,600
15,180
$ 35,420
Earnings per share ($35,420 4,500 shares)
$7.87
In this case, earnings from operations is the same as earnings before income
tax.
Req. 2
Gross profit (gross margin): $265,000 $146,000 = $119,000.
Gross profit percentage = $119,000 $265,000 = 0.45 (or 45%).
Gross profit (or gross margin) in dollars is the difference between the sales
prices and the costs of purchasing or manufacturing all goods that were sold
during the period (sometimes called the markup); that is, net revenue minus
only one of the expenses cost of sales. The gross profit ratio is the amount
of each net sales dollar that was gross profit during the period. For this
company, the rate was 45%, which means that $.45 of each net sales dollar
was gross profit (alternatively, 45% of each sales dollar was gross profit for
the period).
7-9
E78
Req. 1
Statement of Earnings
Wood Work Modern Furniture
Revenue ...................................................
Cost of sales..............................................
Gross profit ..............................................
Operating expenses..................................
Earnings from operations..........................
Other income (expense):
Finance income (expense), net .............
Other income ........................................
3,350
Earnings before income tax......................
Income tax expense..................................
Net earnings.............................................
Earnings per share
$1,340,000
748,000
592,000
512,000
80,000
$682,000
399.000
283,000
223,000
60,000
(34,000)
2,500
3,350
-0(31,500)
48,500
15,500
33,000
63,350
12,000
$ 51,350
$0.27
$0.73
Number of common shares outstanding (in millions)

70.0 million
120.8 million
Wood Work, earnings per share = $33,000 120.8 million shares= $0.27
Modern Furniture, earnings per share = $51,350 70.0 million shares =
$0.73
Req. 2 (dollars in thousands)
Wood Work:
Gross profit = $592,000
Gross profit percentage: $592,000 $1,340,000 = 0.442 (or 44.2%).
Modern Furniture:
Gross profit = $283,000
Gross profit percentage: $283,000 $682,000 = 0.415 (or 41.5%).
Gross profit (or gross margin) is the difference between sales revenue and
the cost of sales during the period (sometimes called the markup). The gross
profit percentage measures how much of every sales dollar is gross profit. It
reflects the companys ability to charge premium prices and produce goods
and services at low cost.
7-10
Wood Work sold more merchandise than Modern Furniture, and achieved a
higher gross profit, indicating that Wood Work was able to charge higher
prices than Modern Furniture for the merchandise it sold and/or was able to
purchase the merchandise it sold at lower cost than Modern Furniture.
7-11
E79
Estimated
Estimated
percentage
amount
Aged trade receivables
uncollectibl
uncollectibl
e
e
Not yet due
$25,000 x
2%
=
$ 500
Up to 120 days past due
10,000 x
10%
=
1,000
Over 120 days past due
5,000 x
30%
=
1,500
Estimated ending balance in Allowance for Doubtful
$3,000
Accounts
Current balance in Allowance for Doubtful Accounts
600
Bad Debt Expense for the year
$2,400
E710
Req. 1 (amounts in millions of Swiss francs, CHF):
Dec. 31, 2012
Allowance for doubtful accounts (XA +A)..............
Trade receivables (A)......................................
To write off trade receivables determined to be
uncollectible.
95
Trade receivables (+A)...............................................

Allowance for doubtful accounts (+XA A)....
15
To reinstate the receivable from a major customer.
15
Cash (+A)...................................................................
Trade receivables (A)......................................
To record collection from a major customer.
15
95
15
Bad debt expense (+E SE) ................................... 310.9

Allowance for doubtful accounts (+XA A). .
310.9
To record estimated bad debt expense.
Aged trade receivables
Estimated
percentage
uncollectibl
e
1%
5%
10%
20%
30%
40%
Not past due

CHF10,925 x
Past due 130 days
1,356 x
Past due 3160 days
445 x
Past due 6190 days
168 x
Past due 91120 days
95 x
Past due more than 120
798 x
days
Estimated ending balance in Allowance for Doubtful
Accounts
=
=
=
=
=
=
Estimated
amount
uncollectibl
e
CHF109.3
67.8
44.5
33.6
28.5
319.2
CHF602.9
7-12
Unadjusted balance (372 95 + 15)

Bad debt expense for 2012
292.0
CHF310.9
7-13
E710 (continued)
Req. 2
Statement of financial position (amounts in millions of Swiss francs, CHF):
Current assets
Trade receivables...........................................
CHF13,787.0
Less: Allowance for doubtful accounts...........
602.9
Trade receivables, net....................................
CHF13,184.1
E711
(Journal entry amounts are in millions of Euro)
Req. 1
Bad debt expense (+E SE) ................................
Allowance for doubtful accounts (+XA A)
370
370
Allowance for doubtful accounts (XA +A).........

Trade receivables (A)...................................
To write off specific bad debts.
235
235
Trade receivables (+A) .........................................

132
132
Reinstatement of accounts written off.
Cash (+A) ..
..............................................................................132
Trade receivables (A)
..............................................................................132
Collection on accounts written off.
Req. 2
It would have no effect because the asset Trade receivables and contraasset Allowance for doubtful accounts would both decline by 10 million.
Neither net receivables nor net earnings would be affected.
7-14
E712
Req. 1
The percentages of uncollectible accounts for each category of past due
receivables are computed below:
(B)
Amount of
Receivabl
es
(C) = (B)
(A)
Percentage
$19,500
31 60 days
100
5,000
2.0%
61 90 days
65
2,300
2.8%
985
3,400
29.0%
$1,150
$30,200
Past due accounts
Current
(A)
Impairme
nt
Allowanc
e
$
91 120 days
More than 120 days
The percentage of amounts that are potentially uncollectible increases the

longer the amounts remain uncollected by the Company, which is normal
because the likelihood of collection from delinquent customers become
smaller as time passes.
Req. 2
The bad debt expense was determined as follows:
Balance at Beginning of year
Losses due to unrecoverable receivables
Amounts written off as uncollectible
Balance at end of year
$1,20
0
Known
X
(1,150)
$1,35
0
Known
Computed
above
The unknown amount is $1,350 ($1,200 $1,150) = $1,300

Req. 3
Dec. 31, 2014
Allowance for doubtful accounts (XA +A).......................1,250
Trade receivables (A)..................................................
1,250
7-15
To write off trade receivables determined to be uncollectible.
7-16
E712 (continued)
Bad debt expense (+E SE) .............................................1,300
Allowance for doubtful accounts (+XA A)..............
1,300
Req. 4
It would have no effect because the asset Trade Receivables and contraasset Allowance for Doubtful Accounts would both decline by $10
thousands. Neither net trade receivables nor net earnings would be
affected.
E713
Req. 1
Allowance for doubtful accounts

375
Write-offs
56
Beg.
balance
Bad debt
exp.
14
333
End.
balance
Bad debt expense increases (is credited to) the allowance. Since we are
given the beginning and ending balances in the allowance, we can solve for
write-offs, which decrease (are debited to) the allowance.
Req. 2
Trade receivables
Beg. balance*
Net sales
13,389
68,643
End. balance
**
15,320
56
66,65
6
Write-offs
Cash collections
* $13,014 + 375
** $14,987 + 333
Trade Receivables is increased (debited) by recording sales made on credit;

the account is decreased (credited) by recording cash collections and writeoffs of bad debts. Thus, we can solve for cash collections as the missing
value.
7-17
E714
Req. 1
The allowance for uncollectible accounts is increased (credited) when bad
debt expense is recorded and decreased (debited) when uncollectible
accounts are written off. This case gives the beginning and ending balances
of the allowance account and the amount of uncollectible accounts that
were written off. Therefore, the amount of bad debt expense can be
computed as follows (amounts in millions):
(c)
Allowance for Uncollectible Accounts

17
(a)
42
(d)
9
(b)
34
(a)
Beginning balance, given
(b)
Ending balance, given
(c)Uncollectible accounts write-off, given
(d)
Bad debt expense, inferred amount (to balance)
Req. 2
Working capital is unaffected by the write-off of an uncollectible account
when the allowance method is used. The asset account (Trade Receivables)
and the contraasset account (Allowance for Uncollectible Accounts) are
both reduced by the same amount; therefore, the net trade receivables is
unchanged.
Working capital is decreased when bad debt expense is recorded because
the contraasset account (Allowance for Uncollectible Accounts) is increased.
From requirement (1), we know that net trade receivables were reduced by
$9 million when bad debt expense was recorded in year 2.
Note that earnings before taxes were reduced by the amount of bad debt
expense that was recorded, therefore Income Tax Expense and Income Tax
Payable will decrease. The decrease in Income Tax Payable caused working
capital to increase; accordingly, the net decrease in working capital was $6.3
million (= $9 million $9 million x 30%).
Req. 3
The entry to record the write-off of an uncollectible account did not affect
any statement of earnings accounts; therefore, net earnings is unaffected by
the $9 million write-off in year 2.
The recording of bad debt expense reduced earnings before taxes in Year 2
by $9 million and reduced tax expense by $2.7 million (i.e., $9 million x
7-18
30%). Therefore, Year 2 net earnings were reduced by $6.3 million (as
computed in Req. 2).
7-19
E715
Req. 1
Calculations for Current Year:
Receivables
turnover
* (6,598 + 6,539) 2
Average age of
of receivables
Net Sales
Average Net
Accounts
Receivables
365
Receivables
Turnover
= $62,071
= 9.45times
$6,568.5*
= 365 = 39 days (rounded)

9.45
Req. 2
The receivables turnover ratio reflects how many times accounts receivable
were recorded and collected, on average, during the period. The average
collection period indicates the average time it takes a customer to pay the
amount due.
E716 (in thousands of euros)
Req. 1
Calculations for 2011:
Receivables
=
turnover
= 2,032,34 = 2.41 times

1
Average Net Trade
843,825*
Receivables
* (798,320 + 889,330) 2
Average age of
of receivables
2011:
2010:
2009:
2008:
2007:
2.41
2.59
2.61
2.91
3.23
times;
times;
times;
times;
times;
Net Sales
365
Receivables
Turnover
151
141
140
125
113
= 365 = 151 days

(rounded)
2.41
days
days
days
days
days
The results indicate a downward trend in the receivables turnover, and an

increase in the average collection period, which increased by more than one
month over the five-year period.
7-20
Req. 2
The receivables turnover ratio reflects how many times trade receivables
were recorded and collected, on average, during the period. The average
collection period indicates the average time it takes a customer to pay its
accounts.
7-21
E717
Req. 1
a. Receivables turnover = Net sales / Average net trade receivables
Aer Lingus:
1,393,284 / [(29,138 + 42,273) /2] = 39.0 times
WestJet Airlines: $3,427,409 / [($34,122 + $37,576) /2] = 95.6 times
b. Average collection period = 365 / Receivables turnover
Aer Lingus:
365 / 39.0 = 9 days (rounded)
WestJet Airlines: 365 / 95.6 = 4 days (rounded)
Req. 2
WestJets trade receivables appear to be the more liquid asset as they are
collected every 4 days on average, whereas it takes Aer Lingus 9 days on
average to collect from its passengers or travel agents.
Req. 3
The different currencies do not affect the interpretation of the ratios. Ratios
focus on the relationship of the numbers to each other and are thus not
affected by currency.
E718
Req. 1
The decrease in the trade receivables balance would increase cash flow from
operations for the current year. This happens because the Company
collected more cash from customers than the credit sales made during the
year.
Req. 2
(a)Increasing sales revenue leads to higher trade receivables balances
because credit sales are creating new receivables faster than receivables
can be collected.
(b)Cash collections from the prior period's credit sales are lower than the
new credit sales revenue because of the increase in sales revenue. Note
that in the next period, cash collections will also rise. However if credit
sales continue to rise, trade receivables will also continue to increase.
Req. 3
Receivables turnover = Net sales / Average net trade receivables
= $108,429 / [($5,369 + $5,910)/2] = 19.2 times
Average collection period = 365 / Receivables turnover = 365 / 19.2 = 19
days
7-22
The computed numbers help investors in assessing how quickly the

company collects receivables from its customers in order to meet its current
obligations to suppliers of goods and services. These numbers can be
compared to the average turnover ratio and average collection period for
the industry. The average collection period would also serve as a check on
the company credit policy.
7-23
E719
a. This is not a good practice because the credit manager has the
opportunity to mishandle the cash received from customers while
manipulating the customers records. For example, he or she may pocket
cheques received from customers and pretend that payments were not
received. However, the issuance of periodic statements to the customers
may reveal any mishandling of customers payments, if the customers
contact a person other than the credit manager to ask about the
difference or if the statements are reviewed by someone in the
accounting department. A more serious problem would be to pocket the
amount received and write the customers account off as uncollectible.
b. The is a very good practice as there will be no cash left in the hands of
employees who may be tempted to use it for their own benefit.
c. This practice is good as it prevents situations that are noted in a) above.
d. This is not a good practice. The invoices should not be stamped paid
until the cheques have been issued to the proper party and signed.
Otherwise, it is possible for the treasurer to issue a cheque to another
party. Furthermore, it is recommended that the cheques be signed by two
individuals and that the signed cheques be reviewed to ensure proper
payment before the invoice is stamped paid.
e. This is not a good practice. The cheques should be pre-numbered in order
to keep track of the cheques that have been issued and to account for
the missing cheques.
f. This is not a good practice. The adjusted balances should be equal if the
bank reconciliation is prepared accurately. If the adjusted balances are
different, then the person preparing the bank reconciliation would have
made an error that needs to be identified and corrected.
E7-20
Cash is the most liquid asset for any organization. Safeguarding cash begins
with documentation. Without documentation there is no appropriate way to
protect cash from theft, fraud or loss. The fact that cash receipts for goods
sold are only given to those who ask for them is a weakness in the control
for cash. The cashier who receives money from customers may be a
trustworthy family member. But, this practice may lead to the temptation of
pocketing some of the cash received. For this reason, it is recommended
that receipts be given to customers at all times. Furthermore, it is
recommended that all cash receipts be deposited in the bank for safety
purposes, and that payments for farm supplies be made by cheques, by
credit card or by debit card instead of keeping large amounts of cash on
7-24
hand. It is also important that all invoices received from suppliers of farm
products be kept to document the cash outflow from the business.
7-25
E721
Include:
Cash on hand ($700 + $100 + $200 + $200).......
Petty cash
......................................................
Bank accounts:
City Bank ......................................................
National Bank (locations A, B, and C)..............
Credit Suisse 3-Month Certificate of Deposit......
Total cash and cash equivalents reported on
2014 statement of financial position...................
Do not include:
Fransabank 6-month Certificate of
Deposit (report as short-term investment)............
$1,200
$58,600
5,100
300
63,700
5,800
$71,000
4,500
Cash equivalents include investments with original maturities (generally) of

three months or less that are readily convertible to cash and whose value is
unlikely to change. Under this definition the 6-month certificate of deposit
does not qualify as a cash equivalent.
A more conservative approach would be to recognize only treasury bills and
money market funds as cash equivalents, and exclude the 3-month
certificate of deposit. Alternatively if the 6-month certificate can be cashed
early it could be included as a cash equivalent.
7-26
E722
Req. 1
ZOLTAN COMPANY
Bank Reconciliation, June 30, 2015
Company's Books
Bank Statement
Ending balance per Cash

Account ($6,900 +
$18,100
$19,000)
Ending balance per bank

statement
$6,000
$6,060
..
Additions:
Additions:
None
Deposit in
transit.
Deductions:
Bank service
charge
Ending correct cash
balance
Deductions:
40
$5,960
Outstanding
cheques
Ending correct cash
balance
1,900*
7,960
2,000
$5,960
*$18,100 $16,200 = $1,900.

Req. 2
Bank service charge expense (+E SE)...................... 40
Cash (A)..............................................................
To record deduction from bank account for service charges.
40
Req. 3
The balance in the Cash account after the above entry has been posted is
the same as the correct cash balance per the bank reconciliation; $5,960.
Req. 4
Statement of financial position (June 30, 2015):
Current assets:
Cash ($5,960 + $300).............................................. $6,260
7-27
7-28
E723
Req. 1
RUSSELL COMPANY
Bank Reconciliation, September 30, 2014
Company's Books
account ($6,500 +
$28,100 $28,900)...
$5,700
Additions:
Deposit in transit*.
Deductions:
NSF cheque
Betty Brown......
Ending correct cash
balance.....................
$5,77
0
Additions:
None
Bank service charges
Bank Statement
Ending balance per
bank statement.........
Deductions:
$
60
170
230
$5,470
Outstanding cheques
($28,900 $27,400)
Ending correct cash
balance......................
1,200*
6,970
1,500
$5,47
0
*$28,100 $26,900 = $1,200.

Req. 2
(1)
(2)
Bank service charge expense (+E SE).................... 60

Cash (A)............................................................
To record bank service charges deducted from bank balance.
60
Trade receivables (Betty Brown) (+A).......................... 170

Cash (A)............................................................
170
To record customer cheque returned due to insufficient funds.
Req. 3
The balance in the Cash account after the above entries have been posted is
the same as the correct cash balance per the bank reconciliation, $5,470.
Req. 4
Statement of financial position (September 30, 2014):
Current assets:
7-29
Cash ($5,470 + $400)......................................................
$5,870
7-30
E724
Req. 1
Cash balance per bank

Add: (1) Deposit in transit
Mini Mart Corporation

Bank Reconciliation
June 30
$1,330
160
1,490
(240)
$1,250
Less: (2) Outstanding cheques

Adjusted cash balance per bank
Cash balance per books
Add: (4) Note collected by bank and interest $40
Less: (3) Bank service charge
(5) NSF Cheque
Adjusted cash balance per books
$ (9)
(80)
$ 499
840
1,339
(89)
$1,250
Req. 2
(1)
Cash (+A)................................................................ 840

Notes receivable (A).....................................
Interest revenue (+R +SE).........................
Note receivable and interest collected. (This entry assumes
800
40
that no previous entry was made to accrue interest revenue.)

(2)
(3)
Trade receivables (+A)............................................

Cash (A).......................................................
Customer's cheque returned; insufficient funds.
Bank service charge expense (+E SE)...............
Cash (A).......................................................
Bank service charges deducted from bank statement.
80
80
9
9
Req. 3
Preparation of a bank reconciliation is important for three reasons: (a) to
determine the true cash balance, (b) to provide data to adjust the Cash
account to that balance, and (c) to provide control over the cash account
through independent verification.
Req. 4
The amount of cash that should be reported on the statement of financial
position is $1,250.
7-31
E725 (Appendix 7A)

Req. 1
2014
2015
2016
Revenue ................................ $2,400,000 $6,000,000 $3,600,000
Expenses ............................... 2,000,000 5,000,000 3,000,000
Net earnings .......................... $ 400,000 $1,000,000 $ 600,000
Computations:
2014: ($2,000,000 $10,000,000) x $12,000,000 = $2,400,000
2015: ($5,000,000 $10,000,000) x $12,000,000 = $6,000,000
2016: ($3,000,000 $10,000,000) x $12,000,000 = $3,600,000
Req. 2
If costs cannot be reliably estimated, net earnings would only be recognized
when the project is complete.
2014
2015
2016
Net earnings ..........................
$0
$0
$2,000,000
E726 (Appendix 7B)
November 20, 2014
Cash (+A)...........................................................
Credit card discount (+XR SE).......................
Sales revenue (+R +SE)........................
To record credit card sale.
441
9
November 25, 2014:

Trade receivables Customer Christine (+A)..... 2,800
To record a credit sale.
November 28, 2014:
Trade receivables Customer Daoud (+A)......... 7,200
To record a credit sale.
November 30, 2014:
Sales returns and allowances (+XR SE)........
600
Trade receivables Customer Daoud (A)
To record return of defective goods $7,200 x 1/12 = $600.
450
2,800
7,200
600
7-32
E726 (Continued)
December 6, 2014:
Cash (+A)...........................................................
Sales discounts (+XR SE)..............................
Trade receivables Customer Daoud (A)
To record collection within the discount period,
0.98 ($7,200 $600) = $6,498
December 30, 2014:
Cash (+A)...........................................................
Trade receivables Customer Christine (A)
2,800
To record collection after the discount period.
6,468
132
6,600
2,800
PROBLEMS
P71
Case A
Because the fast food restaurant collects cash when the coupon books are
sold, cash collection is not an issue in this case. In order to determine if the
revenue has been earned, the student must be careful in analyzing what the
restaurant actually sold. Students who focus on the sale of the coupon book
often conclude that the earning process is complete with the delivery of the
book to the customer. In reality, the restaurant has a significant additional
service to perform; it has to serve a meal. The correct point for revenue
recognition in this case is when the customer uses the coupon or when the
coupon expires and the restaurant has no further obligation.
Case B
In this case there is reason to believe that Quality Builders may default on
the contract because of prior actions. If students believe that Howard
Development could sue and collect on the contract, they will probably argue
for revenue recognition at the time of sale. Given the high risk associated
with cash collection, however, many students will properly argue that
revenue should be recognized only as cash is collected.
Case C
While warranty work on some appliances can involve significant amounts of
effort and money, appliance companies are permitted to record revenue at
the point of sale. In accordance with the matching process one should
accrue estimated warranty expense at the time that sales revenue is
recorded. Some students may be surprised to learn that costs that will be
incurred in the future should be recorded as an expense in the current
7-33
accounting period, but following this practice enhances the quality of the
financial statements.
7-34
P72
Req. 1
Sales
Revenue
(a)
(b)
(c)
(d)
(e)
(f)
+234,000
+11,500
+25,000
N
+26,000
N
(g)
(h)
(i)
(j)
(k)
(l)
(m)
Total
N
+17,500
N
N
N
N
+$314,000
Sales
Discounts
(taken)
N
N
N
N
N
+22
0*
+2,
000**
+500
N
70
N
N
N
+$2,650
Sales Returns
and
Allowances
N
N
N
+500
N
N
N
N
N
+3,500
N
N
N
+$4,000
Bad Debt
Expense
N
N
N
N
N
N
N
N
N
N
N
N
+980***
+$980
* [($11,500 500) x 2%] = $220

** [($98,000 / .98) x .02] = 2,000
***
Balance of Allowance for Doubtful Accounts ($49,500 x 4%)

$1,980
Balance of account before adjustment ($4,000 $3,000)
1,000.......................................................................Bad debt expense
$ 980..............................................................
Trade Receivables
Bal., January 1, 2015
115,00
0
Sale to R. Agostino (b)
11,500
500 Return by R. Agostino (d)
Sale to K. Black (c)
25,000
11,000 Collection from R. Agostino (f)
Sale to B. Assaf (e)
26,000
100,00 Collections within discount

0 period (g)
Sale to R. Fong (i)
17,500
25,000 Collection from K. Black (h)

6,000 Collection from customers (k)
3,000 Write off of uncollectible account
(l)
7-35
Bal., December 31, 2015
49,500
7-36
P72 (continued)
Req. 2
Statement of earnings (partial):
Sales revenue..................................................$314,000
Less: Sales returns and allowances...............
(4,000)
Sales discounts.....................................
(2,650)
Net sales revenue............................................
$307,350
.
Operating expenses:
Bad debt expense........................................
980
P73
Statement of Earnings Items
YEAR 1
YEAR 2
NoteSee below
NoteSee below
Gross sales revenue.......................
$160,000*
$232,000*
Sales returns and allowances.........
g.
10,000
18,000*
Net sales revenue..........................
e.
150,000
a.
214,000
Cost of sales...................................
f. (68%*) 102,000 c.
149,800
Gross profit.....................................
d.
48,000
b.
(30%*)
.......................................................64,200
Operating expenses.......................
18,000*
d.
....................................................... 44,200
Earnings before income taxes........
b.
30,000
20,000*
Income tax expense (20%)*...........
c.
6,000
e.
4,000
Net earnings...................................
a.
$ 24,000
f.
$ 16,000
Earnings per share (10,000 shares*)
$2.40*
g.
.......................................................$1.60
*Amounts given.
Note = Computations in order
a.
b.
c.
d.
e.
f.
g.
Year 1
$2.40 x 10,000 shares = $24,000
$24,000 (1.00 0.20) = $30,000
$30,000 x .20 = $6,000
$30,000 + $18,000 = $48,000
$48,000 (1.00 0.68) = $150,000
$150,000 x .68 = $102,000
$160,000 $150,000 = $10,000
a.
b.
c.
d.
Year 2
$232,000 $18,000 = $214,000
$214,000 x .30 = $64,200
$214,000 $64,200 = $149,800
$64,200 $20,000 = $44,200
7-37
e. $20,000 x .20 = $4,000

f. $20,000 $4,000 = $16,000
g. $16,000 10,000 shares = $1.60
P74 (Dollars in thousands)
Req. 1
Bad debt expense (+E SE)........................................ 4
Allowance for doubtful accounts (+XA A)...........
Estimate of end-of-period bad debt expense.
There was no write-off of bad debts in Year 1.

Req. 2
Allowance for Year 2
Write-offs
Allowance for Year 3
13
2
36 18
7
Beg. bal.
28
3
End. bal.
Bad debt
exp.
Write-offs
20
1
28 Beg. bal.
3
42 Bad debt
exp.
12 End. Bal.
4
The solution is facilitated by solving for the missing value in the T-account.
P75
Req. 1
Customer
B.
Brown....
D. Di
Lella.....
N. Gidda....
S.
Kavouris
T. Patel...
...
Aging Analysis of Trade Receivables

Total
(a)
(b) Up to
(c) More Than
Receivables
Not Yet
One Year
One Year Past
Due
Past Due
Due
$ 6,000
$6,000
5,000
$ 5,000
7,000
$ 7,000
20,000
4,000
7,000
7,000
16,000
7-38
Totals.
$45,000
$18,000
$21,000
$6,000
Percent.
100%
40%
46.7%
13.3%
.
It is assumed that collections are applied to the oldest invoices first.
Req. 2
a.
b.
c.
Estimated Amounts Uncollectible

Amount of
Estimated Estimated
Age
Receivable Loss Rate Uncollectibl
e
Not yet due
$18,000
1%
$ 180
Up to one year past due
21,000
5%
1,050
More than one year past
6,000
30%
1,800
due
Total
$45,000
$3,030
7-39
P75 (continued)
Req. 3
Bad debt expense (+E SE)............................... 2,010
To adjust for estimated bad debt expense:
Balance needed in the allowance account
Balance currently in the account......
1,020
Adjustment needed, i.e., increase....
$2,010
2,010
$3,030
Req. 4
Statement of Earnings:
Operating expenses:
Bad debt expense................................................. $2,010
Statement of financial position:
Current assets:
Trade receivables.................................................. $45,000
Less: Allowance for doubtful accounts................ (3,030)
Net trade receivables........................................... $41,970
7-40
P76
Req. 1
April
10
No journal entry as there is no exchange yet.
April
30
Trade receivables (+A) ......................................
150,000
150,000
Sales revenue (+R +SE).......................

Sold 15 machines to Yuri Inc.
May 1

Sold 12 machines to Peters Applicances.
120,000
May 5
Cash (+A) ..........................................................

Sales discounts (+XR R) [$150,000 x 2%]....
Trade receivables (A)...............................
Collected from Yuri Inc. within the discount
period.
147,000
3,000
May 7

Sold 10 machines to Cheng Ltd.
100,000
May10
Allowance for doubtful accounts (XA +A).....

Trade receivables (A) ...............................
Write off of uncollectible accounts.
12,000
Cash (+A) ..........................................................

Sales allowances and returns (+XR R) ........
Peters Appliances returned two machines and
paid the amount due.
100,000
20,000
Cash (+A) ..........................................................

Collection from Cheng Ltd. On account.
80,000
June 30 Trade receivables (+A) ......................................

Allowance for doubtful accounts (+XA
A)......................................................................
Reinstatement of accounts written off on May
10.
3,000
Cash (+A) ..........................................................

3,000
May 15
June 1
120,000
150,000
100,000
12,000
120,000
80,000
3,000
3,000
7-41
Collection on accounts written off on May 10.
7-42
P76 (continued)
Req. 2
The following time line shows the various transactions related to trade
receivables and help in preparing the aging of trade receivables schedule.
March31April30May1May5May7May10May15June1June30
__|_________|________|_______|_________|_______|_______|_______|________|____
$60,000 $150,000$120,000($150,000)$100,000($12,000)($20,000)($80,000)$3,000
($100,000)($3,000)
Balance YuriPeterYuriChengWriteoffPeterChengRecovery
Age Group
Not yet due
130 days past due [$100,000
$80,000 ]
3160 days past due
More than 60 days past due
Total
Amount
Receivabl
e
$
0
20,000
Estimated
Percent
Estimated
Uncollectib Uncollectib
le
le
5%
$
0
0
48,000*
$68,000
10%
2,000
15%
20%
0
9,600
$11,600
* $60,000 (beginning balance) $12,000 (write off)

Allowance for Doubtful Accounts
Write-offs
12,000
Beg. bal.
Recoveries
Bad debt
exp.
15,000
3,000
5,600
End. bal.
11,600
Adjusting journal entry:

June 30 Bad debt expense (+E SE) ..........................
A)......................................................................
Recording of estimated bad debt expense for
the period.
5,600
5,600
Req. 3
Receivables turnover ratio = Net credit sales / Average net trade receivables
7-43
Net credit sales = Credit sales Sales discounts Sales returns and
allowances
The T-accounts below show the balances of effects of transcations on sales
and trade receivables
7-44
P76 (continued)
Sales
Balance, March
31
April 30
May 1
May 7
Balance, June
30
600,00
0
150,00
0
120,00
0
100,00
0
970,00
0
Trade Receivables
Balance, March
31
April 30
60,000
June 30
150,00
0
120,00
0
100,00
0
3,000
Balance, June 30
68,000
May 1
May 7
May 5
May 10
May 15
June 1
June 30
150,00
0
12,000
120,00
0
80,000
3,000
Net credit sales = $970,000 $3,000 $20,000 = $947,000

Receivables turnover ratio =$947,000/[($60,000 $15,000) + ($68,000
$11,600)]/2]
= $947,000/$50,700 = 18.68
Average collection period = 365/Receivables turnover ratio = 365/18.68 = 19.5
days
The average collection period reflects the average time it takes a customer
to pay the amount due. In this case, the calculation suggests that it takes
IceKremes customers on average 19.5 days to pay the amount due.
7-45
Req. 4
IceKremes customers pay, on average, after 20 days after the purchase
date, which is within the credit of 30 days . They appear to be paying off
the amounts due faster than Pinos customers, but slower than Julias
customers.
7-46
P77
Req. 1
Dec. 5
Cash (+A) ..........................................................

Sale of merchandise partly cash and the rest
on account, terms 2/10, n/30.
19,000
48,000
Cost of sales (+E SE)....................................

Merchandise Inventory (A)......................
55,000
Cash (+A) ..........................................................
23,520
Sales discounts (+XR R) [$24,000 x 2%].....

Collected cash for half the credit sales of Dec.
5.
480
Dec.
20
Cash (+A) ..........................................................
90,000
Dec.
26
Dec.
12
55,000
24,000

Collection on sales made in November.
90,000
3,000

Write off of a customers uncollectibe account.
Req. 2
Age Group
Current
130 days past due
3160 days past due
More than 60 days past due
Total
Amount
Receivabl
e
$42,000
31,500
5,000
6,500
$85,000
67,000
Estimated
Percent
Uncollectib
le
1%
2%
10%
30%
3,000
Estimated
Uncollectib
le
$420
630
500
1,950
$3,500
The amount of bad debt expense is the difference in the balance of the
Allowance for Doubtful Accounts before and after the adjustment.
Bad debt expense = $3,500 ($4,500 $3,000) = $3,500 $1,500 = $2,000
Dec.
Bad debt expense (+E SE) ..........................
2,000
7-47
31
A)......................................................................
the period.
2,000
7-48
P77 (continued)
Req. 3
Gross profit percentage = Gross Profit / Net Sales
= (Sales Sales discount COS) / (Sales Sales
discount)
= ($67,000 $480 $35,000) / ($67,000 $480)
= $31,520 / $66,520 = 47.38%
This ratio measures how much gross profit is generated from every sales
dollar. It reflects the ability to charge premium prices and purchase or
produce goods and services at low cost.
Receivable turnover ratio = Net credit sales / Average net trade receivables
= $47,520 */ $115,500** = 0.41 times (for December
only)
* Net credit sales = Credit sales Sales discount = $48,000 $480 =$47,520
** Average net trade receivables = Average of beginning and ending values of net
receivables
=[($154,000 $4,500) + ($85,000 $3,500)]/2 =
$115,500
This ratio measures how many times trade accounts receivable are recorded
and collected during the period. This monthly ratio corresponds to an annual
ratio of 4.92 (0.41 x 12), assuming that the sales and collection activities are
typical monthly activities.
P78
Req. 1
The beginning balance of trade receivables will increase by the amount of
credit sales, and will decrease when cash is collected from customers or
when accounts are written off as uncollectible. Accordingly, the balance of
Trade receivables at December 31, 2015 is determined as follows:
Beginning balance
$ 500,000
+ Credit sales
1,000,000
Collections from customers
(1,100,000)
Write-off of uncollectible accounts (30,000)
Ending balance
$ 370,000
Req. 2
30,000
Allowance for doubtful accounts (XA +A)......
Trade receivables (A).................................
To record the write-off of trade receivables as uncollectible.
Bad debt expense (+E SE).............................
30,000
27,200
27,200
7-49
A)
To adjust the balance of the Allowance for doubtful accounts and record
bad debt expense for the year.
Ending balance of Allowance account = $370,000 x 6% =
$22,200 Cr
Unadjusted balance of the Allowance account ($25,000 $30,000) =
5,000 Dr
Amount of adjustment needed =
$27,200 Cr
P78 (continued)
Req. 3
Vital Inc.
Partial Statement of Financial Position
As at December 31, 2015
Current Assets
.
Trade receivables
Less: Allowance for doubtful accounts
Net
$370,000
( 22,200)
$347,800
OR
Trade receivables (net of allowance of $22,200)
$347,800
Req. 4
The method being proposed by the bookkeeper is called the direct write-off
method. The reasoning of the bookkeeper is quite appealing in the sense
that it saves him and others time and effort in estimating the amount of
receivables that may not be collected in the future. This simplistic approach
would be acceptable if the amounts that are written off annually are
relatively small or if they are close to the amount that would be considered
uncollectible under the allowance method.
The main deficiency of the direct write-off method is its inconsistency with
the matching process which requires that expenses be matched to the
related revenues during the same period. If a trade receivable is written-off
in a period that follows the period of sale, then the matching process would
have not been observed. The direct method also results in an overstatement
of trade receivables, which should be reported at their estimated realizable
value. Because most businesses have some amounts that will not be
collected, a provision for uncollectible accounts should be made. For this
reason, accountants estimate the amount that may not be collectible in the
7-50
future, with full knowledge that the estimated amount may not be an exact
amount. However, the estimated bad debt expense complies with the
matching process. In that respect, it is preferable to be imprecisely right
than precisely wrong.
7-51
P79
Req.1
BUILDERS COMPANY, INC.

Gross sales revenue..................................................
$145,600
Less: Sales discounts.........................................
6,400
Sales returns and allowances...................
5,600
Net sales revenue......................................................
133,600
Cost of sales..............................................................
78,400
Gross profit ...............................................................
55,200
Operating expenses:
Selling expenses.................................................$13,600
Administrative expenses.................................... 14,400
Bad debt expense.............................................. 1,600
29,600
Earnings before income tax.......................................
25,600
Income tax expense...........................................
7,680
Net earnings..............................................................
$17,920
Earnings per share: ($17,920 10,000 shares)..........................
$1.79
In this case earnings from operations is the same as earnings before income
tax.
Req. 2
Gross Profit
Percentage
= Gross Profit = $55,200

Net Sales
0.41 (41%)
$133,600
The gross profit percentage shows the excess of sales prices over the costs
to purchase or produce the goods or services sold, measured as a
percentage.
Trade Receivables
Turnover Ratio
Net Sales
Avg Net
Trade
Receivables
= $133,600
8.79
$15,200
Average net trade receivable = ($16,000 + $14,400) 2

The trade receivables turnover ratio reflects how many times trade
receivables were both recorded and collected, on average, during the time
period. The higher the result is, the faster the collection of receivables.
7-52
7-53
P710
Req. 1
(a)
$50 x 12 months
(b)
$12 x (52 weeks x 5 days per week)
(c), (d) Trade receivables collections ($300 + $800)
Total approximate amount stolen
= $ 600
= 3,120
= 1,100
$4,820
Req. 2
Basic recommendations:
(1) Install a tight system of internal control, including the following:
a. Approve all sales returns and account write-offs personally and
review the accounts.
b. Use a cash register to record all sales and reconcile the report to the
sales recorded.
c. Deposit all cash daily.
d. Make all payments by cheque. Consider a separate cash-on-hand
system for small expense payments and periodically check the
receipts.
e.
Institute a system of spot checks of the employees work.
(2) Arrange for an annual independent audit on a continuing basis or a
review of the internal controls that are put in place.
7-54
P7-11
Req. 1
Dear Ms. Kostas,
This memo addresses your inquiry about the difference between the balance
of the Cash in Bank account in the companys records and the balance
shown on the bank statement. The balance in the companys Cash account
is based on the transactions that affected this account during the month of
June. Similarly, the balance of cash shown on the bank statement reflects
the transactions that the bank recorded in the companys bank account.
It is normal that the balances of these two accounts be different because
some of the cash transactions that affect the companys bank account may
not have been recorded by the bank as at June 30. For example, an
overnight deposit of $1,000 in the bank account on June 30 will not be
recorded by the bank until July 1, but we would have recorded that deposit
in the companys cash account. This would cause a difference in the
account balances by $1,000 that is only temporary.
Another example is that the bank charges our company specific fees for
the services it provides. The total amount of these service charges is
recorded by the bank as they occur. But, we may not be aware of these
charges until we receive the bank statement. We then record them in the
cash account in July, whereas the bank would have recorded them already in
the companys account in June. These timing differences need to be
reviewed on a regular basis to ensure that there are no errors that have
been made inadvertently either by the banks employees or the companys
employees.
Req.2
KOSTAS FASHIONS LTD.
Bank Reconciliation, June 30
Company's Books
account.....................
Additions:
Note receivable collected
Interest collected...........
$ 6,518
Bank Statement
statement................. $10,517
Additions:
$2,000
80
Deductions:
Bank service charges ($25 + 39)....
NSF cheque Rami Cossette..........
Correction of amount deposited......
Ending correct cash balance...........
2,080
8,598
64
286
90
$8,158
Deposits in transit..........
Deductions:
Outstanding cheques......
Ending correct cash

balance.........................
1,145
11,662
3,504
$8,158
7-55
7-56
P711 (continued)
(1)
Cash in bank (+A)...................................................

Note receivable (A)......................................
Interest revenue (+R +SE)........................
Note receivable plus interest collected (by bank).
2,080
(2)
Trade receivable (Rami Cossette) (+A)...................

Cash (A).......................................................
Customer's cheque returned due to insufficient funds.
(3)
Trade receivable (Rami Cossette) (+A) .................

Cash in bank (A)...........................................
Service charges to be collected from the customer.
64
(4)
Cash on hand (+A)..................................................

Cash in bank (A)...........................................
Bank deposit of $2,340 recorded incorrectly as $2,430.
90
286
2,000
80
286
64
90
7-57
P712
Req. 1
HOPKINS COMPANY
Bank Reconciliation, April 30, 2015
Company's Books
Account ($23,500
+ $41,500 - $41,100).
Additions:
Interest collected............
Deductions:
NSFA.B. Wright............
Bank charges..................
Ending correct cash
balance...........................
Bank Statement
Statement.................. $23,550
$23,900
Additions:
$1,110
70
160
70
*$41,500 - $36,100 = $5,400.
1,180
25,080
Deposits in transit*.........
5,400
28,950
Deductions:
230
$24,850 Ending correct cash
balance...........................
4,100
$24,850
Req. 2
(1)
Cash (+A)................................................................
1,180
Notes receivable (A).....................................
1,110
70
Note receivable and interest collected. (This entry assumes
that no previous entry was made to accrue interest revenue.)
(2)
Trade receivable (A. B. Wright) (+A).......................

Cash (A).......................................................
Customer's cheque returned due to insufficient funds.
160
(3)
Bank service charge expense (+E -SE)................

Cash (A).......................................................
Bank service charges deducted from bank statement.
70
160
70
These entries are necessary because the changes to the regular Cash
account have not yet been recorded by the company. The bank has already
recorded these items in its own accounts. The Cash account (and the other
accounts shown in the above entries) must be brought up to date for
financial statement purposes.
Req. 3
Balance in Cash in bank account, i.e., ending correct cash balance
..............................................................................................$24,850
Balance in Cash on hand account.........................................
100
Req. 4
7-58
Statement of financial position (April 30, 2015):

Current assets:
Cash ($24,850 + $100)..........................................
P713 (Appendix 7B)
$24,950
Req. 1
a.
Cash (+A) ..........................................................

234,000
Sold merchandise for cash.

b.

Sold merchandise to R. Agostino on open
account.
11,500
c.

Sold merchandise to K. Black on open account.
25,000
d.
Sales returns and allowances (+XR R).........

To record the return of one unit purchased by R.
Agostino.
500
e.

Sold merchandise to B. Assaf on open account.
26,000
f.
Cash (+A) ..........................................................

Sales discounts (+XR R) ..............................
Collection in full from R. Agostino within the
discount period.
10,780
220
Cash (+A) ..........................................................

98,000
2,000
g.
Cash (+A) ..........................................................

Collection from K. Black in full within the discount
period.
11,500
25,000
500
26,000
11,000
100,00
0
Collections on account within the discount period.

h.
234,00
0
24,500
500
25,000
7-59
i.

Sold merchandise to R. Fong on open account.
17,500
17,500
7-60
P713 (continued)
j.
Sales returns and allowances (+XR R).........

Sales discounts (XR +R) .....................
Cash (A) ..................................................
To record the return of seven defective units by K.
Black (7 x $500 x 98%).
3,500
k.
Cash (+A) ..........................................................

Collection on account after the discount period.
6,000
l.
3,000
To record the write-off of trade receivables as uncollectible.
m.
70
3,430
6,000
3,000
980
Bad debt expense (+E SE)...........................
980
A)......................................................................
To adjust the balance of the Allowance for doubtful accounts and
record bad debt expense for the year.
Balance of Allowance for Doubtful Accounts ($49,500 x 4%)

Balance of account before adjustment ($4,000 $3,000)
Bad debt expense......................................................... $ 980
$1,980
1,000
Trade Receivables
Bal., January 1, 2015
115,00
0
Sale to R. Agostino (b)
11,500
500 Return by R. Agostino (d)
Sale to K. Black (c)
25,000
11,000 Collection from R. Agostino (f)
Sale to B. Assaf (e)
26,000
100,00 Collections within discount period

0 (g)
Sale to R. Fong (i)
17,500
25,000 Collection from K. Black (h)

6,000 Collection from customers (k)
3,000 Write off of uncollectible account
(l)
Bal., December 31, 2015
49,500
Req. 2
Sales revenue............................................................
Sales discounts...................................................
$314,000
(2,650)
7-61
Sales returns and allowances.............................

Net sales revenue......................................................
.
Operating expenses:
Bad debt expense..............................................
(4,000)
307,350
980
7-62
ALTERNATE PROBLEMS
AP7-1
Case A
Revenue should not be recognized until the seller delivers the good or
service to the purchaser. The seller has not yet manufactured the
equipment let alone delivered it. The commitment by the purchaser is not
accompanied by payment therefore no cash has been received. Had cash
been received from the purchaser, it should have been recorded as deferred
revenue.
Case B
Revenue should not be recognized unless the seller is reasonably confident
that the purchaser will pay in full. It is clear that many members who sign
up do not pay for their membership. The 10-day delay is known as a
cooling off period and must be provided by law, although the time period
can be shorter than 10 days. The company can take a somewhat aggressive
approach and recognize a percentage of revenue when members sign, or a
more conservative approach and defer the recognition of revenue until the
cancellation period has expired. Once the cancellation period has ended,
Scenic Trails Inc. can remain somewhat aggressive and recognize the full
amount of the membership fee as revenue or it can be more conservative.
The more conservative approach would be to use either a percentage of
revenue or a percentage of trade receivables to create an allowance for
those who will fail to pay the full membership fee during the six-month
payment period. The company should use its experience to choose the
appropriate method and the appropriate percentage that would present
fairly the results of its operations to users.
Case C
Educational Toys current practice could be based on its experience whereby
few distributors return unsold merchandise and therefore the amount is
immaterial. If the returns are considered as a material amount, then
Educational Toys is essentially recognizing the products delivered to its
distributors as if they were sold. In substance, these products can still be
considered inventory for Educational Toys that is located at its distributors
warehouses or showrooms. This practice, commonly known as channeling,
does not conform to GAAP.
In essence the toys are being sold on consignment and there is little to
guide us to understanding how probable it is that Educational Toys will
receive full payment. An improved approach is for Educational Toys to
establish an allowance for sales returns. Another alternative would be for
Educational Toys to not recognize revenue at all until its distributors have
made the sales. Although the correct treatment is a matter of judgement, it
is clear from the facts of this case that there is only a very narrow set of
7-63
circumstances under which Educational Toys current practice would be

acceptable under current financial reporting standards.
7-64
AP72
Req. 1
Sales
Revenue
(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
(i)
(j)
(k)
(l)
(m)
Total
+228,000
+12,000
+23,600
N
+26,000
N
N
N
N
+18,400
N
N
N
+$308,000
Sales
Discounts
(taken)
N
N
N
+120
N
16
+90
0*
N
+224
N
N
N
N
+$1,228
Sales Returns
and
Allowances
N
N
N
N
N
+1,600
N
Bad Debt
Expense
+1,200
N
N
N
N
N
N
N
N
N
N
+13,62
0**
+$13,620
+$2,800
N
N
N
N
N
N
N
* [($89,100/.99) x .01] = $900

**Trade receivables = $116,000 +$228,000 + $12,000 + $23,600 $12,000
+26,000 $90,000 $1,200 $22,400 + 18,400 $26,000 = $272,400
Estimated bad debt expense = $272,400 x 5% = $13,620
Req. 2
Sales revenue..................................................
Less: Sales discounts...................................
Sales returns and allowances.............
Net sales revenue............................................
.
Operating expenses:
Bad debt expense......................................
(1,228)
(2,800)
$308,000
$303,972
13,620
7-65
AP73
Year 1:
Sales discounts
3,000
($210,000 $207,000)
Cost of sales
$124,200
[$207,000 x (1 40%)]
Earnings before income taxes
$ 40,000
($207,000 x 40% $42,800)
Income tax expense
$ 12,000
($40,000 x 30%)
Earnings before discontinued operations $ 28,000

Net earnings
$ 18,000
Earnings per share
$2.25/share
($40,000 $12,000)
($28,000 $10,000)
($18,000 8,000)
Year 2:
Net sales revenue
$250,000
($255,000 $5,000)
Gross margin
$100,000
($250,000 x 40%)
Operating expenses
$ 30,000
($100,000 $70,000)
Income tax expense
$ 21,000
($70,000 x 30%)
Earnings before discontinued operations $ 49,000

Net earnings
$ 51,500
Earnings per share
$6.44/share
($70,000 $21,000)
($49,000 + $2,500)
($51,500 8,000)
7-66
AP74 (Dollars in millions)

Req. 1
Balance at
Allowance for Beginning
Doubtful
of Period
Accounts
Year 3
$10,364
Charged
to Bad
Debt
Expense
$2,519
Write-Offs Balance at
Charged
End
to
of Period
Allowance
$2,536
$10,347
Year 2
13,554
2,049
5,239
10,364
Year 1
11,305
4,758
2,509
13,554
Year 1

11,305 Beg. Bal
Write-offs
2,509
4,758 Bad debts

expense
13,554 End. bal.
Year 2

13,554 Beg. bal.
Write-offs
5,239
2,049 Bad debts

expense
10,364 End. bal.
Year 3

10,364 Beg. bal.
Write-offs
2,536
2,519
10,347
Bad debts exp.

End. bal.
The solution is facilitated by solving for the missing value in the Taccount.
Req. 2
Bad debt expense (+E SE)........................................4,758
Allowance for doubtful accounts (+XA -A)........
4,758
End of period bad debt expense estimate.
Allowance for doubtful accounts (XA +A)................ 2,509
Trade receivables (A)...........................................
2,509
Write-off of bad debts.
7-67
AP75
Req. 1
Customer
R. Aouad ..
C. Chronis
..
D. McClain .
.
T. Skibinski
H. Wu .....
Aging Analysis of Trade receivables

(a)
(b)
(c)
(d)
Up to
6 to
More Than
Total
Not Yet
6 Months 12 Months One Year
Receivable
Due
Past Due
Past Due
Past Due
$ 2,000
$2,000
6,000
$6,000
4,000
$ 4,000
14,500
13,000
$ 4,500
13,000
10,000
Totals $39,500
Percent
100%
$17,500
44.3%
$14,000
35.4%
Req. 2
a.
b.
c.
d.
$2,000
5.1
%
$6,000
15.2%
Estimated Amounts Uncollectible

Amount of
Estimated Estimated
Age
Receivable Loss Rate Uncollectibl
e
Not yet
$17,500
1%
$ 175
due
Up to 6 months past
14,000
5%
700
due....
6 to 12 months past due.
2,000
20%
400
.
More than one year past
6,000
50%
3,000
due
$39,500
$4,275
Total..
Req. 3
Bad debt expense (+E SE) ............................. 5,825
5,825
To adjust for estimated bad debt loss:
Balance needed in the allowance account
$4,275 Cr
Balance currently in the account........
1,550 Dr
Adjustment needed, i.e., increase......
$5,825 Cr
Req. 4
Statement of earnings:
7-68
Operating expenses:
Bad debt expense.................................................
$5,825
Statement of financial position:

Current assets:
Trade receivables.................................................. $39,500
Less: Allowance for doubtful accounts................ (4,275)
Carrying value......................................................
$35,225
7-69
AP76
Req. 1
Write off of uncollectible accounts.
1,500
Cash (+A) ..........................................................

Sales discounts (+XR R) [$7,500 x 2%]........
Collected fromMachinex within the discount
period.
7,350
150
Nov. 16 Cash (+A) ..........................................................

Sales returns and allowances (+XR R) .........
Allen Inc. returned two moulds and paid the
amount due.
4,000
1,000
Oct.8
Nov. 5
Dec.
20
1,500
7,500
5,000
500
500

A)......................................................................
Reinstatement of accounts written off on
October 8.
Cash (+A) ..........................................................
Collection on accounts written off on October
8.
500
500
Req. 2
The following time line shows the various transactions related to trade
receivables and help in preparing the aging of trade receivables schedule.
Sept30Oct8Oct15Oct31Nov5Nov7Nov16Nov25Nov29Dec20
__|_______|______|_______|_______|_______|______|______|_____|______|____
$9,500 ($1,500)$5,000$7,500($7,500)$10,000($1,000)($1,000)($5,000)$500
($4,000)($500)
Balance WriteoffAllenMachinexMachinexCentraAllenCentraCentraRecovery
7-70
AP76 (continued)
Age Group
Not yet due
130 days past due ($10,000
$6,000)
3160 days past due
More than 60 days past due ($9,500
$1,500)
Total
Amount
Receivabl
e
$
0
4,000
Estimated
Percent
Uncollectib
le
1%
0
8,000
Estimated
Uncollectib
le
$
0
5%
200
10%
15%
0
1,200
$12,000
$1,400

Write-offs
Beg. bal.
1,500 Recoveries
Bad debt
exp.
End. bal.
1,300
500
1,100
1,400

Dec.
31
1,100

A)......................................................................
the period.
1,100
Req. 3
Gross profit percentage = Gross Profit / Net Sales
Net sales = $100,000 + (5,000 + 7,500 + 10,000) (150 + 1,000 + 1,000)
= $120,350
Gross profit = Net sales Cost of sales = $120,350 $60,000 = $60,350
Gross profit percentage = $60,350 / $120,350 = 50.15%
This ratio measures how much gross profit is generated from every sales
dollar. It reflects the ability to charge premium prices and purchase or
produce goods and services at low cost. The company continue to improve
on its gross profit percentage from 35% in 2013 to 50.15% in 2015. It
seems that the company is able to increase the sales price for its small
machinery because of the quality of the product and/or it managed to
reduce the cost of production of the machinery by using modern technology
7-71
or outsourcing the production to manufacturing facilities in countries where

labor cost is relatively low.
7-72
AP77
Req. 1
a.
Cash (+A) ..........................................................

500,000
4,500,0
00

Sale of merchandise partly cash and the rest on
account, terms n/30.
b.
c.
Sales returns and allowances (+XR R) .......

Cash (A)...................................................
To record returns and allowances on sales.
50,000
Cash (+A) ..........................................................
4,200,0
00
5,000
45,000
Collection from customers.

d.
e.
5,000,0
00

Write off of uncollectibe receivables.
4,200,0
00
17,000
17,000

A)........................................................................
Reinstatement of accounts written off previously.
6,000
Cash (+A) ..........................................................

Collection on accounts written off previously.
6,000
6,000
6,000
Req. 2
Rodamex Inc.
Statement of Financial Position (partial)
December 31
Current assets:
:
Trade accounts receivable
Less: Allowance for doubtful accounts
Net realizable value
2015
$938,000 a
23,450 b
$914,550
2014
$700,000
14,000 c
$686,000
7-73
a. $700,000 + $4,500,000 $45,000 $4,200,000 $17,000 = $938,000

b. $938,000 x .025 = $23,450.
c. $700,000 x .02 = $14,000.
7-74
AP77 (continued)
Req. 3
The amount of bad debt expense is the difference in the balance of the
Allowance for Doubtful Accounts before and after the adjustment.
Bad debt expense = $23,450 ($14,000 $17,000 + $6,000) = $20,450
Dec.
31
20,450

A)......................................................................
the period.
20,450
Req. 4
Receivables turnover ratio = Net credit sales / Average net trade receivables
= ($4,500,000 $45,000)/ [($686,000 +
$914,550)/2]
= 5.57 times
This ratio measures how many times trade accounts receivable are recorded
and collected during the period.
Based on the credit terms, net 30 days, the receivables turnover should
equal 365 / 30 = 12.17 times. Rodamexs ratio is less than half what it
should be. As a result, Rodamexs management needs to improve its
collection efforts so that customers pay the amounts due in 30 days.
Req. 5
If the cost of sales averages 40 per cent of net sales, then gross profit
averages 60 per cent of net sales.
Gross profit = Net sales x 60% =($5,000,000 $50,000) x 0.6 =
$2,970,000.
7-75
AP78
Req. 1
(a)
Trade receivables (+A)..................................... 76,000

Sales revenue (+R +SE).....................
To record October sales.
76,000
Cash (+A)......................................................... 39,200

Sales discounts (+XR R) .............................
800
Trade receivables (A)............................
To record collection within the discount period,
(.98 $40,000 = $39,200)
40,000
Cash (+A)......................................................... 20,000

Trade receivables (A).............................
To record collection after the discount period,
($76,000 $40,000 $16,000 = $20,000)
20,000
(b)
Cash (+A)......................................................... 50,000

To record collection after the discount period.
50,000
(c)
Allowance for doubtful accounts (XA +A). . 5,000

Write off of bad debts.
5,000
Inventory (+A)................................................. 40,000

Trade payables (+L)...............................
To record purchase of merchandise.
40,000
(d)
October 31, 2014:

Trade receivables (Sept. 30)............................
Net change in trade receivables during October
(39,000)
($76,000 $40,000 $20,000 $50,000 $5,000)
Trade receivables, October 31.........................
Bad debt percentage.......................................
Ending balance of Allowance for doubtful accounts
$ 3,200 credit
$119,000
$80,000
x 4%
Balance of the Allowance account before adjustment

2,000 debit
($3,000 cr $5,000 dr)
Bad debt expense = $2,000 + $3,200 = $5,200
Bad debt expense (+E -SE).......................... 5,200
5,200
7-76
7-77
AP78 (continued)
Req. 2
Trade receivables...........................................
Less: Allowance for doubtful accounts..........
Trade receivables, net....................................
$80,000
(3,200)
$76,800
Req. 3
Dear Mr. Beauregard,
What you are proposing is known as the direct write-off method whereby
uncollectible accounts are written off when we are certain that specific
customers will not pay the amount they owe the company. This approach
would be acceptable if the amounts that are written off annually are
relatively small or if they are close to the amount that would be considered
uncollectible under the allowance method.
The main deficiency of the direct write-off method is its inconsistency with
the matching process which requires that expenses be matched to the
related revenues during the same period. If a trade receivable is written-off
in a period that follows the period of sale, then the matching process would
have not been observed. Failure to provide an allowance would also result in
an overstatement of the trade receivables on the statement of financial
position. For this reason, accountants estimate the amount that may not be
collectible in the future, with full knowledge that the estimated amount may
not be an exact amount. In this respect, it is preferable to be imprecisely
right than precisely wrong. I should note that both the direct write-off
method and the allowance method are likely to produce similar results if
uncollectible amounts are relatively stable over time.
Based on the above, it is preferable that we continue with our past practice
of estimating bad debts during the period of sale and not when we exhaust
all means of collection from a specific customer.
Sincerely,
Carol
Req. 4
Yes, MKI should have obtained the loan from BIT. MKI will have to pay $300
in interest to BIT, but it will save $400 (= $40,000 x 1%) off the amount
owed to Kim & Sons, Ltd.
7-78
AP79
Req. 1
PERRY CORPORATION
Net sales revenue ($184,000 $9,000 $8,000)....

$ 167,000
Cost of sales.............................................................
98,000
Gross profit...............................................................
69,000
Operating expenses:
Selling expenses...............................................$17,000
Administrative and general expenses............... 18,000
Bad debt expense............................................. 2,000
Total operating expenses...........................
Earnings before income tax.....................................
Income tax expense..........................................
Net earnings.............................................................
37,000
32,000
10,900
$21,100
Earnings per share:

($21,100 10,000 shares)...................................................
$2.11
In this case, earnings from operations is the same as earnings before income
tax.
Req. 2
Gross Profit
Percentage
= Gross Profit = $69,000 = 0.413 (41.3

%)
Net Sales
$167,000
The gross profit percentage shows the excess of sales prices over the costs
to purchase or produce the goods or services sold, measured as a
percentage.
Trade Receivables
Turnover Ratio
Net Sales
Avg Net
Trade
Receivables
* ($16,000 + $18,000) 2
= $167,000
9.82
$17,000
The trade receivables turnover ratio reflects how many times trade
receivables were both recorded and collected, on average, during the time
period. The higher the result is, the faster the collection of receivables.
7-79
AP7-10
Req. 1
The balance of Cash on Hand would be understated by $2,000. The debit to
the Sales returns and allowance account would reduce net sales and net
earnings, which reduces the balance of retained earnings at the end of the
month. Hence, net earnings and Retained Earnings would be understated by
$2,000.
Req. 2
Control and safeguarding cash is one of the most important functions of an
internal control system because cash is so vulnerable to theft and fraud. In
this case, the weakness in the system is that Cory is responsible for tasks
that are incompatible (i.e. they should be segregated). Separation of duties
is the first step that responsible managers should take to safeguard cash.
This means that the person receiving cash for a transaction should not be
the same person recording receipts of cash and that a third person should
be responsible for depositing and withdrawing cash on behalf of the
company.
If this system is in place, a voucher or document is required at every step in
the cash handling process. For example the person receiving cash provides
a receipt to the purchaser and a copy (either electronic or hard copy) is
retained by the seller. At the end of the transaction period, say one day, the
total of all sales receipts (less any refunds) must equal the cash on hand. In
this way, companies avoid situations where an employee can simply take
money that belongs to the company and then hide the theft.
When the person handling cash receipts is not the same person handling
and recording payments, there must be collusion between the two before
Cory could simply substitute a purchasers cheque for cash stolen. Cory
would have had no access to the journal and the proper journal entry for the
PLC cheque would have been made:
Cash (+A)
Trade receivables PLC Ltd. (A)
2,000
2,000
When the cash receipts for the day are totaled, the person who deposits this
cash should reconcile the amount deposited to the daily vouchers and this
person should neither record journal entries nor receive cash at the point-ofsale. This means that Cory could not have taken the cash because a third
party would have counted the actual cash on hand and reconciled it to the
receipts for the day. In fact, usually two people are responsible for this
activity and they sign a document verifying the reconciliation.
7-80
AP711
Req.1
Sergio Lucas
Bank Reconciliation
August 31
Company's Books
Ending cash balance per
books .............................
Additions:
Error recording chq #123
Deductions:
Hydro Bill........................
$12,651.6
5
Bank Statement
Ending cash balance per
bank statement............... $12,506.6
0
Additions:
27.00
$12,678.6
5
Deposits in transit...........
Deductions:
44.10
385.00
12,891.60
619.35
Telus Corp.......................
Unrecorded withdrawals.
Bank charges..................
Ending correct cash
balance...........................
55.30
300.00
7.00
406.40
$12,272.2
5
Ending correct cash

balance...........................
$12,272.2
5
Req. 2
Sergio should first correct the amount of cheque #123 by adding $27.00 to
the balance and reducing the account he debited, and then deduct the
hydro bill ($44.10), Telus Corp. bill ($55.30), the bank charges ($7.00) and
the withdrawals he made from instant teller machines ($300).
7-81
AP712
Req. 1
Comparison of deposits listed in the Cash account with deposits listed on the
bank statement reveals a $5,000 deposit in transit on August 31.
Req. 2
Comparison of the cheques cleared on the bank statement with (a)
outstanding cheques from July, and (b) cheques written in August reveals
two outstanding cheques at the end of August ($290 + $550 = $840).
Req. 3
MARTHA COMPANY
Bank Reconciliation, August 31, 2014
Company's Books
account ....................
Additions:
Interest collected...........
Interest earned..............
Bank Statement
$20,280
Statement................. $18,370
Additions:
Deposits in transit..........
$2,000
180
Deductions:
Bank service charges.....................
Ending correct cash balance...........
2,180
5,000
23,370
80
22,540
Deductions:
10
$22,530 Ending correct cash
balance.........................
840
$22,530
Calculation of ending balance per cash account:

$16,520 + $12,000 + $4,000 + $7,000 + $5,000 - $300 - $900 - $290 $550 - $800 - $400 - $21,000 = $20,280.
Req. 4
(1)
Cash in bank (+A)................................................... 2,180

Note receivable (A)......................................
Note receivable plus interest collected (by bank).
(2)
Bank service charge expense (+E SE) .............

Cash in bank (A)...........................................
Service charges deducted from bank balance.
10
Cash in bank (+A)...................................................
80
(3)
2,000
180
10
7-82
Interest Earned (+R +SE)..........................

Interest earned on cash in bank.
80
AP711 (continued)
These entries are necessary because the changes in the regular Cash
account have not yet been recorded by the company. The bank has already
recorded these items in its own accounts. The Cash account (and the other
accounts shown in the above entries) must be brought up to date for
financial statement purposes.
Req. 5
Balance in Cash account, i.e., ending correct cash balance...... $22,530
Balance in Cash on hand account..............................................$
200
Req. 6
Statement of Financial Position:
Current assets:
Cash ($22,530 + $200).................................................... $22,730
7-83
CASES AND PROJECTS

FINDING AND INTERPRETING FINANCIAL INFORMATION
CP71
Req. 1
The company discloses its revenue recognition policy in Note 3 Significant
Accounting Policies. Its recognizes revenue when the amount can be
reliably measured, when it is probable that future economic benefits will flow
to the entity and when specific criteria have been met for each of the
Companys activities.
The Company has different sources of revenue including:
(1) Sale of goods, which is recognized when the goods are delivered, less an
estimate for the sales and warranty returns.
(2) Royalties and licence fees, which include licence fees from petroleum
agents and dealers, and royalties from Marks and FGL Sports
franchisees. Licence fee revenues are recognized as they are earned in
accordance with the substance of the relevant agreement.
(3) Interest income that is recognized on an accrual basis.
Req. 2
Gross profit percentage = Gross profit / Net sales
2012: $3,497.9 $11,427.2 = 0.306 (30.6%)
2011: $3,060.7 $10,387.1 = 0.295 (29.5%)
Canadian Tires gross profit percentage increased very slightly in 2012. The
increase may have resulted from higher mark-up on merchandise cost
and/or purchase of merchandise from suppliers at lower cost.
Req. 3
The Company discloses details about its allowance for credit losses in Note
6.3.3 to its financial statements. The disclosures are as follows:
(in millions of dollars)
Balance, beginning of year
2012
2011
$ 118.7
$ 117.7
265.6
302.0
Recoveries
58.1
50.0
Write-offs
(331.
7)
(351.
0)
Impairment for credit losses
Balance, end of year
$ 110.7
$ 118.7
7-84
The Company reported the bad debt expense, which it labeled as

impairment for credit losses. It aalso reported the amount of receivables
that was written off, and the amount the was recovered from customers,
after writing it off.
Req. 4 (in millions of dollars)
Receivables
turnover
Net Sales
= 11,427.2
= 2.30 times
Average Net Trade

4,963.7*
Receivables
* [(750.6 + 4,265.7) + (829.3 + 4,081.7)] 2
The receivables turnover for Gildan is 8.62. Canadian Tires ratio is much
lower than Gildans because of the nature of the products it sells, its credit
policy and the speed of collection from customers. Another possible
difference is the amount of credit sales for each company. The computation
of the ratio assumes that all sales are on credit, but this may not be true.
Req. 5
According to Note 3 the Company defines cash and cash equivalents as
cash plus highly liquid and rated certificates of deposit or commercial paper
with an original term to maturity of three months or less. Note 9 lists the
items that are considered as Cash and cash equivalents, including bank
indebtedness.
Because cash and cash equivalents are essentially cash, the fair market
value is extremely close to the disclosed amount.
7-85
CP72
Req. 1
Sales Discounts and Sales Returns and Allowances would likely be
subtracted from Sales Revenue in the computation of Net Sales.
Req. 2
RONA deducts the following expenses: cost of sales, selling, general and
administrative expenses, and gain on disposal of assets. These items are
disclosed in Note 5.1 instead of being reported on the income statement. In
addition, RONAs statement of earnings shows deductions for goodwill
impairment, restructuring costs, impairment of non-financial assets, finance
income, and finance costs in arriving at earnings before income taxes.
On the other hand, Canadian Tire expenses include: cost of producing
revenue, distribution costs, sales and marketing expenses, administrative
expenses, finance income and finance expense to arrive at earnings before
income taxes. In summary, any differences in presentation can be attributed
to the preferences of the respective senior management teams of the two
companies.
Req. 3 (in thousands of dollars)
Receivables
turnover
Net Sales
Average Net
Trade
Receivables
* ($357,756 + $354,482) 2
= $4,884,016
= 13.71
times
$356,119*
RONAs receivables turnover implies that RONAs customers pay the

amounts owed within 26.6 days on average (365/13.71). This average
collection period is shorter than the actual average collection period
because we assume that all sales are on credit, which is not realistic since
many sales are made for cash (which includes use of debit cards and credit
cards). If we eliminate the cash transactions from the total revenue amount,
the numerator will decrease to reflect the amount of sales on credit. This will
decrease the receivables turnover and increase the average collection
period.
Req. 4
Trade receivables decreased from $357,756 in 2011 to 354,482 during 2012.
This decrease indicates that RONA collected more cash from its customers
than it had sales. This increases the net cash inflow from operating activities
for 2012.
7-86
7-87
CP73
Req. 1 (in millions of dollars)
Sales
Cost of sales
Gross profit
Percent
RONA
Canadian Tire
2012
2011
2012
2011
4,884
4,805
11,427
10,387
3,545
3,437
7,929
7,326
1,339
1,368
3,498
3,061
27.3%
28.5%
30.6%
29.5%
RONAs gross profit percentage dropped by 1.2 percent in 2012. But,

Canadian Tires gross profit percentage increased by 1.1 percent during the
same year. These ratios suggest that Canadian Tire performed better than
RONA in achieving a higher markup on the products it sells.
Req. 2
(in millions of dollars)
Receivables Turnover Ratio = Net Sales / Average Net Trade Receivables

RONA
2012:
2011:
4,884 / [(357.8 + 354.5) 2] = 13.71 times

4,805 / [(299.9 + 357.8) 2] = 14.61 times
RONAs turnover ratio is relatively stable.

Canadian Tire
2012:
$11,427 / {[(829.3 + 4,081.7) + (750.6 + 4,265.7)] 2} = 2.30
times
2011:
$10,387 / {[4,725 + (829.3 + 4,081.7)] 2} = 2.16 times
Canadian Tires turnover ratio improved slightly in 2012 while RONAs
dropped during the same period. Canadian Tires relatively low ratio is the
result of allowing customers to pay later by charging their purchases on
their Canadian Tire credit cards, and collecting from customers at some date
in the future, particularly when the Company offers them no payment and
no interest for a six-month period.
Req. 3
Average
Receivables Turnover Ratio
Canadian Tire
2.30
RONA
13.32
Industry
7.76
The ratio comparison indicates that RONA has performed better than the
industry average, while Canadian Tires ratio is much below the industry
average. These ratios must be interpreted properly by taking into
7-88
consideration the credit policy of the company as well as the simplifying

assumption that all sales are made on account, which is not true.
7-89
FINANCIAL REPORTING AND ANALYSIS CASES

CP74 (Amounts are in thousands of dollars )
Req. 1
The amount of trade receivables that is typically reported on the statement
of financial position is the net realizable value of these receivables, which is
the gross amount of the receivables minus the allowance for doubtful
accounts. For Canadian Tire, this amount is $4,873.7, which is split into a
current portion of $4,265.7 and a long-term portion of $608.0. Canadian Tire
reports the first amount as Loans receivable under current assets, and the
second amount as a non-current asset.
Req. 2
(a)
(b)
(e)
Allowance for credit losses (XA +A)...........

Loans receivables (A)............................
Write off of bad debts.
331.7
331.7
Loans receivables (+A)....................................

Allowance for credit losses (+XA A)..
Reinstatement of accounts written off previously.
58.1
Cash (+A).........................................................
Loans receivables (A).............................
Collection on accounts written off previously.
58.1
58.1
Bad debt expense (+E SE).........................

265.6
Allowance for credit losses (+XA A)..
To record the impairment loss on loans receivable.
58.1
265.6
7-90
CP75
Canadian banks usually have fiscal years that end on October 31.
Req. 1 and 2 (millions of dollars)
Fiscal year 2012
Imperial
Royal Bank
of Canada Scotiabank
Commerce
a. Provision for credit losses. $ 1,301
b. Net interest income.......... 12,498
Ratio a/b............................
17.2%
Fiscal year 2011
Imperial
Canadian
$ 1,252
10,003
10.4%
Bank of
$ 1,291
7,494
12.5%
Royal Bank
Canadian
of Canada Scotiabank
Commerce
a. Provision for credit losses. $ 1,133
$ 1,076
b. Net interest income.......... 11,357
9,014
Ratio a/b............................
9.98%
16.20%
Bank of
$ 1,144
7,062
11.94%
The Canadian Imperial Bank of Commerce has the highest ratio of the three
banks in both years. Notice that the ratios for 2012 increased slightly
over their 2011 levels for all banks because of the increased provisions
for loan losses due the slowdown in economic activity.
Req. 3 and 4 (millions of dollars)
Fiscal year 2012
Imperial
Royal Bank
of Canada
Commerce
a. Allowance for credit losses. $ 1,997
b. Total loans receivable......... 380,241
Ratio a/b............................
0.76%
Fiscal year 2011
Imperial
Commerce
Canadian
Scotiabank
$
2,969
367,735
0.53%
Royal Bank
of Canada
Bank of
1,860
244,156
0.81%
Canadian
Scotiabank
Bank of
7-91
a. Allowance for credit losses. $ 1,967

b. Total loans receivable......... 347,497
Ratio a/b............................
0.75%
2,689
330,262
0.57%
1,803
240,758
0.81%
7-92
CP75 (continued)
Banks lend money to a variety of customers, and classify their loans
receivable according to the following main categories: residential
mortgages, personal and credit card loans, and business and
government loans. The quality of the banks loans portfolio depends on
the financial health of the individuals and companies that borrow money
from the bank. Based on the ratios above, it appears that Scotiabank
risks losing $0.81 for every $100 it has lent to others whereas Royal
Bank of Canada has a better quality loan portfolio than the other two
banks as it risks losing a smaller percentage of its loans to customers.
The ratio increased slightly for the Canadian Imperial Bank of Commerce,
remained unchanges for Scotiabank, and decreased by 4 percentage points
for the Royal Bank of Canada.
7-93
CRITICAL THINKING CASES

CP76
Req. 1
The auditor was concerned because of the sequence of events as follows:
(a)
The opening of a new Account Receivable of $2,500 (an unusually

large amount and a new customer).
(b)
The write-off of bad debts at year-end rather than during the year.
(c)
The nearness of the creation of the new account receivable of $2,500

to the write-offs of three accounts of regular customers for a sum of
$2,500.
(d)
The accounts written off were for regular credit customers (Jones,
Blake, and Sellers). Therefore it is questionable why they would default
on payment.
The sequence of events appears to have been:

i.
At completion of the job, $2,500 was collected in cash from the new
customer and pocketed by the clerk-bookkeeper.
ii.
To cover the theft, and yet provide a record of the transaction, a

fictitious Account receivable was debited for the $2,500, instead of
Cash.
iii.
When the three regular customers paid their accounts, Cash was
debited for a total of $2,500 and the fictitious Account Receivable
credited for the same amount. The regular customers' accounts were
credited as bad debts so that they would neither be billed nor have
reason to call attention to incorrect balances. All the bookkeeper had
to do was find one account, or a combination of account balances, to
write off a total of $2,500. This was done: $800 + $750 + $950 =
$2,500.
The auditor has a professional responsibility to report these concerns and

findings to the owner.
Req. 2
Recommendations:
7-94
(a)
Report the circumstances to the owner. Do not recommend in respect

to the clerk-bookkeeper; the owner must make the personnel
decisions involved.
7-95
CP76 (continued)
(b)
Recommendations on internal control measures:

(1)
Separate cash-handling function from the related recordkeeping
function.
(2)
Establish a definite routine for handling cash receipts.
(3)
Deposit all cash receipts intact each day.
(4)
Make all payments (except for cash on hand payments) by
cheque. Require that supporting documents be attached to each
cheque before signing. Designate all such documents as PAID,
i.e., cancelled, when the cheque is signed (this will help prevent
duplicate payments).
(5)
Establish a cash on hand fund. For control assign it to one
person who is not involved in recordkeeping.
(6)
Exercise strict control of write-offs of uncollectible accounts,
including approval by the owner.
(7)
Continue the annual audit.
CP77
Req. 1
While there is some controversy about potential bias induced by prudent
valuation of trade receivables, this case is clear. Prudence refers to the
understatement of assets (e.g. uncollectible accounts) and overstatement of
liabilities. In this case, the actual value of trade receivables was only $5
million and a prudent valuation of the receivables would have included a
realistic provision for bad debt. Both the nominal value and the provision
would have been disclosed. ESBs experience with collections from
customers is a good basis to determine the amount that is potentially
uncollectible in order to report the net realizable value of the receivables.
Req. 2
Legally it is understandable why BDO Seidman would not want to make
public the provisions of the settlement. It could make this accounting firm a
target for future frivolous law suits that would be very wasteful and costly to
defend. Banco Espirito Santo, the largest bank in Portugal would also prefer
to keep any settlement, which was less than the total amount lost,
confidential from shareholders who might accuse the bank of failing to
vigorously defend the rights of the shareholders.
But for the profession in general the question is difficult to answer.
Unfortunately when secrets are kept, people tend to believe that bad news
is being concealed. Their logic is that if the news was good no one would
want it to be secret. In legal matters such as this, however, what is good
news for one side would be bad news for the other side; such is the nature
of conflict. BDO Seidman would have done its best to reduce any financial
penalty to preserve the business and the reputation of its accountants.
Even a single penny paid out in penalties could be interpreted as an
admission of negligence and no accounting firm would willingly make such
7-96
an admission. To do so would leave the individuals and the firm itself open
to further disciplinary action by the American and Canadian accounting
professional bodies, which may or may not be justified. The tradeoff with
respect to the profession is that incidents such as this affect all major
accounting firms and are quickly forgotten once publicity dies out.
Therefore uncertainty about the manner in which the accounting profession
conducts its business benefits from a quick end to public discussion.
CP78
Req. 1
Receivable =
Net Sales
s
Turnover
Average Net Trade
Receivables
Projected change
No change from
beginning of year
$7,015,06 =8.7
9
$807,039*
$7,015,06 =7.3
9
$963,808
* ($963,808 + $650,270) 2
Req. 2
Projected decrease in trade receivables = $963,808 $650,270 = $313,538
A decrease in trade receivables would increase cash by $313,538, all other
items held equal.
Req. 3
An increase in the receivables turnover ratio indicates that there has been
an increase in the number of times average trade receivables were recorded
and collected during the period. All other things equal, this indicates an
increase in the rate at which receivables are collected, which will increase
cash flow from operating activities for the period. This can benefit the
company by providing additional liquidity for the company in its day-to-day
operations, reducing the need for additional borrowing and thereby avoiding
more interest costs.
FINANCIAL REPORTING AND ANLYSIS TEAM PROJECT

CP79
The solution to this case will depend on the company and/or accounting
period selected for analysis.
7-97

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Chapter 7

Reporting and Interpreting

5. A sales allowance is an amount allowed to a customer for unsatisfactory

13. Trade receivables cannot be considered cash equivalents. They are

Authors' Recommended Solution Time

* Due to the nature of these cases and projects, it is very difficult to

Trade receivables S. Green (+A).......................

Jan 14 Cash (+A) ($850 x 98%)......................................

Sales revenue ($1,000 + $6,000 +$2,000)..................

July 15 Trade receivables Steven (+A) ......................... 6,000

Nov. 25 Trade receivables Clara (+A) ........................... 5,000

Gross sales ($233,000 + $40,000)...........

Earnings per share ($35,420 4,500 shares)

Number of common shares outstanding (in millions)

Trade receivables (+A)...............................................

Bad debt expense (+E SE) ................................... 310.9

Aged trade receivables

Not past due

Unadjusted balance (372 95 + 15)

Allowance for doubtful accounts (XA +A).........

Trade receivables (+A) .........................................

Past due accounts

The percentage of amounts that are potentially uncollectible increases the

The unknown amount is $1,350 ($1,200 $1,150) = $1,300

To write off trade receivables determined to be uncollectible.

Allowance for doubtful accounts

Trade Receivables is increased (debited) by recording sales made on credit;

Allowance for Uncollectible Accounts

= 365 = 39 days (rounded)

= 2,032,34 = 2.41 times

= 365 = 151 days

The results indicate a downward trend in the receivables turnover, and an

The computed numbers help investors in assessing how quickly the

Cash equivalents include investments with original maturities (generally) of

Ending balance per Cash

Ending balance per bank

*$18,100 $16,200 = $1,900.

Bank service charges

*$28,100 $26,900 = $1,200.

Bank service charge expense (+E SE).................... 60

Trade receivables (Betty Brown) (+A).......................... 170

Cash ($5,470 + $400)......................................................

Cash balance per bank

Mini Mart Corporation

Less: (2) Outstanding cheques

Cash (+A)................................................................ 840

that no previous entry was made to accrue interest revenue.)

Trade receivables (+A)............................................

E725 (Appendix 7A)

November 25, 2014:

* [($11,500 500) x 2%] = $220

Balance of Allowance for Doubtful Accounts ($49,500 x 4%)

Bal., January 1, 2015

Sale to R. Agostino (b)

500 Return by R. Agostino (d)

Sale to K. Black (c)

11,000 Collection from R. Agostino (f)

Sale to B. Assaf (e)

100,00 Collections within discount

Sale to R. Fong (i)

25,000 Collection from K. Black (h)

Bal., December 31, 2015

e. $20,000 x .20 = $4,000

There was no write-off of bad debts in Year 1.