Chapter 5, Problem 2BP

a.

To determine

Prepare an income statement, statement of retained earnings and balance sheet of Incorporation G for the year ended December 31, 2015.

Answer to Problem 2BP

• Prepare the income statement of Incorporation G as on December 31, 2015 as follows:

Incorporation G
Income Statement
For the Year Ended December 31, 2015
Particulars	$	$
Revenues:
Service revenue earned		194,000
Less: Expenses:
Insurance expense	$1,800
Office rent expense	28,000
Supplies expense	5,600
Salary expense	72,000
Depreciation expense of trucks	16,000
Depreciation expense of equipment	4,000
Repair & maintenance expense	5,300
Fuel expense	2,200
Miscellaneous expense	2,700
Interest expense	3,800	141,400
Income before taxes		$52,600
Less: Income taxes expense		9,000
Net income		$43,600

Table (1)

• Prepare the statement of retained earnings of Incorporation G as on December 31, 2015 as follows:

Incorporation G
Statement of retained earnings
For the Year Ended December 31, 2015
Particulars	$
Retained earnings as on January 1, 2015	21,000
Add: Net Income	43,600
Less: Dividends	3,300
Retained earnings as on December 31, 2015	61,300

Table (2)

• Prepare the Balance Sheet of Incorporation G as on December 31, 2015 as follows:

Incorporation G
Balance Sheet
December 31, 2015
Assets	$	$
Cash		$27,800
Accounts receivable		4,300
Unexpired insurance		8,700
Prepaid rent		3,200
Supplies		1,400
Truck	140,000
Less: Accumulated depreciation of Truck	75,000	65,000
Equipment	28,000
Less: Accumulated depreciation of equipment	14,000	14,000
Total Assets		124,400
Liabilities
Accounts payable	$2,200
Notes payable	38,000
Salaries payable	900
Interest payable	300
Income taxes payable	1,700
Unearned mowing revenue	2,000
Total Liabilities		45,100
Stockholders' Equity
Capital stock	18,000
Retained earnings	61,300
Total Stockholders' Equity		79,300
Total Liabilities and Stockholders' Equity		124,400

Table (3)

Explanation of Solution

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 retained earnings:

This statement reports the beginning retained earnings and all the changes which led to ending retained earnings. Net income from income statement is added to and dividends are deducted from beginning retained earnings to arrive at the end result, ending retained earnings.

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.

b.

To determine

Prepare the year-end closing entries of Incorporation G.

Answer to Problem 2BP

Prepare the year-end closing entries of Incorporation G as follows:

Date	Accounts title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31	Service Earned		194,000
	Income Summary			194,000
	(To record the closure of revenues account )
December 31	Income Summary		150,400
	Insurance Expense			1,800
	Office Rent Expense			28,000
	Supplies Expense			5,600
	Salaries Expense			72,000
	Depreciation Expense of truck			16,000
	Depreciation Expense of Equipment			4,000
	Repair & Maintenance Expense			5,300
	Fuel Expense			2,200
	Miscellaneous Expense			2,700
	Interest Expense			3,800
	Income Taxes Expense			9,000
	(To record the closure of expense account to income summary)
December 31	Income Summary		43,600
	Retained earnings			43,600
	(To record the closure of net income from income summary to retained earnings)
December 31	Retained earnings		3,300
	Dividends			3,300
	(To record the closure of dividend to retained earnings)

Table (4)

Explanation of Solution

• Revenue Earned are the revenue account. Since the amount of revenue is closed, and transferred to retained earnings account, they are debited.
• Insurance Expense, Office Rent Expense, Supplies expense, Salaries Expense, Depreciation Expense, Repair & Maintenance Expense, Travel Expense, Miscellaneous Expense, Interest Expense, Income and Taxes Expense are the expense accounts. Since the amounts of expenses are closed to retained earnings account, they are credited.
• Income Summary is a clearing account or temporary account used to close revenues and expenses to Retained Earnings account. Since Income Summary account has a credit balance, it is transferred to Retained Earnings account by debiting it. Therefore, debit Income Summary account with $43,600.
• Since Retained Earnings account’s amount has increased due to closing of Income Summary account to Retained Earnings account, stockholders’ equity amount has increased. Therefore, credit Retained Earnings account with $43,600.
• Closing entries are also passed in order to close the excess of expenses over the revenues, and the dividend account.

c.

To determine

Prepare an after-closing trial balance of Incorporation G.

Answer to Problem 2BP

Prepare an after-closing trial balance of Incorporation G as follows:

Incorporation G
After-Closing Trial Balance
December 31, 2015
Particulars	$	$
Cash	$27,800
Accounts receivable	4,300
Unexpired insurance	8,700
Prepaid rent	3,200
Supplies	1,400
Trucks	140,000
Accumulated depreciation of trucks		75,000
Equipment	28,000
Accumulated depreciation of  mowing equipment		14,000
Accounts payable		2,200
Notes payable		38,000
Salaries payable		900
Interest payable		300
Income taxes payable		1,700
Unearned revenue		2,000
Capital stock		18,000
Retained earnings		61,300
Totals	213,400	213,400

Table (5)

Explanation of Solution

Post-Closing Trial Balance:

After passing all the journal entries and the closing entries of the permanent accounts and then further posting them to each of the respective accounts, a post-closing trial balance is prepared which consists of a list of all the permanent accounts. A post-closing trial balance serves as an evidence to prove that the balance of the permanent accounts is equal.

d.

To determine

Evaluate the company’s profitability and Liquidity, using the financial statements prepared in requirement (a).

Explanation of Solution

• For $194,000 sales, the company has generated a net income of $43,600 for the year ended December 31. This indicates that the net income has 22.5% $\left(\frac{\text{\$43,600}}{\text{\$194,000}}\times \text{100}\right)$  of the total sales and also it represents a 74% of return on average stockholders’ equity, which is a fairly strong return on investment.
• On the other hand, the balance sheet of the company reports cash and accounts receivable for $32,100. However the liabilities of the company report only $43,100. Thus, this indicates the company may or may not currently be liquid for the amount of $43,100 note payable that is reported in the balance sheet and thus the company may be extremely liquid. If this obligation is not due in the future, the company has $32,100 in cash and accounts receivable to cover the obligations of only $7,100.  Similarly, the Unearned Revenue amount would not require a cash outlay. But when the note is due shortly, the company still appears to be liquid.