Chapter 2, Problem 8AP

a.

To determine

Prepare a balance sheet at September 30, 2015.

Explanation of Solution

Balance sheet: This financial statement reports a company’s resources (assets) and claims of creditors (liabilities) and stockholders (stockholders’ equity) over those resources. The resources of the company are assets which include money contributed by stockholders and creditors. Hence, the main elements of the balance sheet are assets, liabilities, and stockholders’ equity.

The balance sheet of Company S is prepared as follows:

Company S
Balance Sheet
For the Year Ended September 30, current year
Assets	Amount ($)	Liabilities & Owners' Equity	Amount ($)
Cash	7,400	Liabilities:
Accounts receivable	1,250	Notes payable (1)	70,000
Supplies	3,440	Accounts payable	8,500
Furniture and fixtures	20,000	Total liabilities	78,500
Building	45,500	Owners' equity:
Land	55,000	Capital stock	50,000
		Retained earnings	4,090
Total Assets	132,590	Total Liabilities and Owners' Equity	132,590

Table (1)

Working note:

Calculate the amount of notes payable:

$\begin{array}{c}\text{Notes}\text{Payable}\text{=Total}\text{assets}-\text{Owners'}\text{equity}-\text{Accounts}\text{payable}\\ \text{=\$132,590}-\text{\$54,090}-\text{\$8,500}\\ \text{=\$70,000}\end{array}$ (1)

b.

To determine

Prepare a balance sheet at October 6, 2015; prepare income statement and a statement of cash flows for the period October 1-6, 2015.

Explanation of Solution

Balance sheet: This financial statement reports a company’s resources (assets) and claims of creditors (liabilities) and stockholders (stockholders’ equity) over those resources. The resources of the company are assets which include money contributed by stockholders and creditors. Hence, the main elements of the balance sheet are assets, liabilities, and stockholders’ equity.

Income statement: The financial statement which reports revenues and expenses from business operations and the result of those operations as net income or net loss for a particular time period is referred to as income statement.

Statement of cash flows: This statement reports all the cash transactions which are responsible for inflow and outflow of cash, and result of these transactions is reported as ending balance of cash at the end of reported period. Statement of cash flows includes the changes in cash balance due to operating, investing, and financing activities. Operating activities include cash inflows and outflows from business operations. Investing activities includes cash inflows and cash outflows from purchase and sale of land or equipment, or investments. Financing activities includes cash inflows and outflows from issuance of common stock and debt, payment of debt and dividends.

The balance sheet of Company S is prepared as follows:

Company S
Balance Sheet
For the Year Ended October 6, current year
Assets	Amount ($)	Liabilities & Owners' Equity	Amount ($)
Cash	29,400	Liabilities:
Accounts receivable	1,250	Notes payable	70,000
Supplies (4)	4,440	Accounts payable  ( refer to note)	18,000
Furniture and fixtures (3)	38,000	Total liabilities	88,000
Building	45,500	Owners' equity:
Land	55,000	Capital stock  (2)	80,000
		Retained earnings (6)	5,590
Total Assets	173,590	Total Liabilities & Owners' Equity	173,590

Table (2)

Note: Accounts payable was paid in full on October 3 and the amount of accounts payable on October 6 was 18,000 since furniture was purchased on account for $18,000.

Calculate the value of capital stock on October 6:

$\begin{array}{c}\text{Capital}\text{stock}\text{=}\text{Value}\text{of}\text{capital}\text{stock}\text{on}\text{September30}\text{+}\text{Additional}\text{capital}\text{stock}\text{sold}\\ \text{=\$50,000+\$30,000}\\ \text{=\$80,000}\end{array}$ (2)

Calculate the value of furniture on October 6:

$\begin{array}{c}\text{Furniture}\text{=}\left(\begin{array}{l}\text{Value}\text{of}\text{furniture}\text{on}\text{September30}\text{+}\\ \text{Purchase}\text{of}\text{furniture}\text{on}\text{October}\text{6}\end{array}\right)\\ \text{=\$20,000+\$18,000}\\ \text{=\$38,000}\end{array}$ (3)

Calculate the value of supplies on October 6:

$\begin{array}{c}\text{Supplies}\text{=}\text{Value}\text{of}\text{supplies}\text{on}\text{September}\text{30}\text{+}\text{Purchase}\text{of}\text{supplies}\text{on}\text{October6}\\ \text{=\$}\text{3,440+\$1,000}\\ \text{=\$4,440}\end{array}$ (4)

Calculate the value of revenue on October 6:

$\begin{array}{c}\text{Revenue}\text{=}\text{Reveue}\text{earned}\text{+}\text{Expenses}\text{spent}\text{for}\text{earning}\text{revenue}\\ \text{=\$5,500}-\text{\$4,000}\\ \text{=\$1,000}\end{array}$ (5)

Calculate the value of retained earnings on October 6:

$\begin{array}{c}\text{Retained}\text{earnings}\text{=}\left(\begin{array}{l}\text{Value}\text{of}\text{retained}\text{earnings}\text{+}\\ \text{Value}\text{of}\text{revenues}\text{on}\text{October}\text{6}\text{(5)}\end{array}\right)\\ \text{=\$4,090+\$1,500}\\ \text{=\$5,590}\end{array}$ (6)

The income statement of Company S is prepared as follows:

Company S
Income Statement
For the Period October 1-6, current year
Particulars	Amount ($)
Revenues	5,500
Expenses	(4,000)
Net income	1,500

Table (3)

Therefore, the income statement reported net income of $1,500

The statement of cash flows for Company S prepared as follows:

Company S
Statement of Cash Flows
For the Period October 1-6, current year
Cash flows from operating activities:	Amount ($)	Amount ($)
Cash received from revenues	5,500
Cash paid for expenses	(4,000)
Cash paid for accounts payable	(8,500)
Cash paid for supplies	(1,000)
Cash used in operating activities		(8,000)
Cash flows from investing activities:
None
Cash flows from financing activities:
Cash received from sale of capital stock		30,000
Increase in cash		22,000
Cash balance, October 1, current year		7,400
Cash balance, October 6, current year		29,400

Table (4)

Therefore, the statement of cash flows reported net increase in cash of $22,000.

c.

To determine

Find out whether the Company S is in a stronger financial position on September 30 or on October 6 and Explain briefly.

Explanation of Solution

• On September 30, the liquid assets (cash and accounts receivable) amounted to $8,650 which exceeded the $8,500 liabilities (accounts payable) that are due in the near future.
• On October 6, the cash balance of Company exceeded its short-term obligations after additional investment of cash by stockholders.
• Company S is in a stronger financial position on October 6 than on September 30 since, the liquid assets are greater than the debt that has to be paid in the near future.