Chapter 7, Problem 21E

a.

To determine

Show the effect of the given transactions using horizontal statement model.

Explanation of Solution

Accounting equation: Accounting equation is an accounting tool expressed in the form of equation, by creating a relationship between the resources or assets of a company, and claims on the resources by the creditors and the owners. Accounting equation is expressed as shown below.

$\text{Assets}=\text{ Liabilities}+\text{Stockholders' equity}$

Show the effect of the given transactions using horizontal statement model.

Table (1)

• Receiving money of $50,000 from the issue of common stock increases the value of an asset and the stockholder’s equity and affects the statement of cash flow by increasing the financing activity.
• Purchase equipment for $380,000 on account increase the value of an asset and the value of liability of the company.
• Sale of equipment for $510,000 cash increases the value of an asset and the value of the stockholder’s equity. Sale of equipment increases the net income of the company by increasing the value of the revenue in the income statement and it affects the statement of cash flow by increasing the operating activity.
• The cost of the goods sold (inventory) $330,000 decreases the value of an asset and the value of the stockholder’s equity; cost of the merchandise decreases the net income of the company by increasing the value of an expense.
• Providing six month warranty on the equipment increases the value of a liability and decreases the value of the stockholder’s equity; providing six month warranty on the equipment decreases the net income of the company by increasing the value of an expense.
• Paying sales tax to the state agency decreases the value of assets and it affects the statement of the cash flow by decreasing the value of an operating activity.
• Borrowing $50,000 note from the local bank increases the value of an asset and the liability; borrowing money from the local bank affects the statement of cash flow by increasing the value of the financing activity.
• Amount paid on warranty repairs during the year decreases the value of an asset and the liability; paying $6,200 for warranty repairs affects the statement of the cash flow by decreasing the value of an operating activity.
• Amount of $78,000 paid on operating expense decreases the value of an asset and the value of the stockholder’s equity; it decreases the value of the income by increasing the value of an expenses and amount paid on operating expense affects the statement of the cash flow by decreasing the value of an operating activity.
• Amount of $250,000 paid on accounts payable decreases the value of an asset and the liability; amount paid on accounts payable affects the statement of the cash flow by decreasing the value of an operating activity.
• Recording accrued interest of $667 on the note issued increases the value of a liability and decreases the value of a stockholder’s equity; it decreases the value of the income by increasing the value of an expenses.

Working notes:

Calculate the amount of cash collected on the sale of equipment.

$\begin{array}{c}\text{Cash received = Cash value of the equipment sold}+\left(\begin{array}{l}\text{Cash value of the equipment }\\ \text{sold}\times \text{Sales tax rate}\end{array}\right)\\ =\$510,000+\left(\$510,000\times 8\%\right)\\ =\$510,000+\$40,800\\ =\$550,800\end{array}$

Calculate the amount of interest expense.

$\begin{array}{c}\text{Interest expense = }\left(\begin{array}{l}\text{Amount borrowed }\\ \text{from local bank}\end{array}\right)\times \text{Interest rate}\times \text{ Time period}\\ \text{=\$50,000}\times \text{4\%}\times \frac{4(\text{September}-\text{December)}}{12}\\ =\$667\end{array}$

b.

To determine

Prepare the income statement, balance sheet and the statement of cash flow for 2018.

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 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.

Balance Sheet: Balance Sheet summarizes the assets, the liabilities, and the Shareholder’s equity of a company at a given date. It is also known as the statement of financial status of the business.

Prepare the income statement of Company O for 2018.

Company O
Income Statement
For the Year Ended December 31, 2018
Particulars	Amount in $	Amount in $
Sales Revenue		510,000
Cost of Goods Sold		(330,000)
Gross Margin		180,000
Expense:
Operating expense	78,000
Warranty expense	10,200
Total operating expense		(88,200)
Operating income		91,800
Interest expense		(667)
Net Income		91,133

Table (2)

Prepare the balance sheet of Company O for 2018.

Company O
Balance Sheet
As of December 31, 2018
Particulars	Amount in $	Amount in $
Assets:
Cash		284,600
Merchandise Inventory		50,000
Total Assets		334,600
Total Liabilities and Stockholders’ Equity:
Liabilities:
Accounts Payable		130,000
Sales Tax Payable		8,800
Warranties Payable		4,000
Interest Payable		667
Notes Payable		50,000
Total Liabilities		193,467
Stockholders’ Equity:
Common Stock	50,000
Retained Earnings	91,133
Total Stockholders’ Equity		141,133
Total Liabilities and Stockholders’ Equity		334,600

Table (3)

Prepare the statement of cash flow of the Company O for 2018.

Company O
Statement of Cash Flows
For the Year Ended December 31, 2018
Particulars	Amount in $	Amount in $
Cash Flows From Operating Activities:
Inflow from Customers	510,000
Inflow from Sales Tax	40,800
Outflow to Purchase Inventory	(250,000)
Outflow for Expenses	(84,200)
Outflow for Sales Tax	(32,000)
Net Cash Flow from Operating Activities		184,600
Cash Flows From Investing Activities:		0
Cash Flows From Financing Activities:
Inflow from Stock Issue	50,000
Inflow from Loan	50,000
Net Cash Flow from Financing Activities		100,000
Net Change in Cash		284,600
Add: Beginning Cash Balance		0
Ending Cash Balance		284,600

Table (4)

Working Note:

$\begin{array}{c}\text{Outflow of Expense =}\left[\begin{array}{l}\text{Amount paid on}\\ \text{ operating expense}\end{array}\right]+\left[\begin{array}{l}\text{Amount paid on}\\ \text{ warranty repairs}\end{array}\right]\\ =\$78,000+\$6,200\\ =\$84,200\end{array}$

c.

To determine

Calculate the total amount of current liabilities at December 31, 2018.

Explanation of Solution

Calculate the total amount of current liabilities at December 31, 2018.

Particulars	Amount in $
Current Liabilities:
Accounts Payable	130,000
Sales Tax Payable	8,800
Warranty Payable	4,000
Interest Payable	667
Notes Payable	50,000
Total Current Liabilities	193,467

Table (5)

Therefore, the total amount of current liabilities at December 31, 2018 is $193,467.