Expert Answers

1. The best definition of assets is the
a. cash owned by the company.
b. collections of resources belonging to the company and the claims on these resources.
c. Owners’ investment in the business.
d. resources belonging to a company have future benefit to the company.

2. Liabilities
a. are future economic benefits.
b. are debts and obligations.
c. possess service potential.
d. are things of value owned by a business.

3. Notes to the financial statements
a. are optional.
b. help clarify information presented in the financial statements.
c. are generally brief and few in number.
d. need not be read in detail if an unqualified opinion accompanies the financial statements.
4. The liability created by a business when it purchases coffee beans and coffee cups on credit from suppliers is termed a(n)
a. account payable.
b. account receivable.
c. revenue.
d. expense.

5. An income statement
a. summarizes the changes in retained earnings for a specific period of time.
b. reports the changes in assets, liabilities, and stockholders’ equity over a period of time.
c. reports the assets, liabilities, and stockholders’ equity at a specific date.
d. presents the revenues and expenses for a specific period of time.


6. Liabilities
a. are future economic benefits.
b. are debts and obligations.
c. possess service potential.
d. are things of value owned by a business.

7. Payments to stockholders are called
a. expenses.
b. liabilities.
c. dividends.
d. distributions.

8. The discontinued operations section of the income statement refers to
a. discontinuance of a product line.
b. the income or loss on products that have been completed and sold.
c. obsolete equipment and discontinued inventory items.
d. the disposal of a significant segment of a business.

Use the following information for questions 9-10.

The following amounts were taken from the financial statements of Alien Company:
2007 2006
Current liabilities $280,000 $220,000
Long-term liabilities 800,000 600,000
Interest Expense 100,000 50,000
Income tax expense 120,000 58,000
Net income 300,000 170,000
Net cash provided by operating activity 480,000 270,000

9. The times interest earned ratio for 2007 is
a. 3.0 times.
b. 4.8 times.
c. 4.0 times.
d. 5.2 times.

10. The cash debt coverage ratio for 2007 is
a. 50.5%.
b. 44.4%.
c. 31.6%.
d. 62.5%.
Part II – 60pts

11. Selected data taken from the 2006 financial statements of trading card company Bottoms Company, Inc. are as follows (in millions). 10pts

Net sales $295.9
Current liabilities, February 28, 2005 39.5
Current liabilities, February 28, 2006 47.5
Net cash provided by operating activities 23.0
Total liabilities, February 28, 2005 64.2
Total liabilities, February 28, 2006 71.2
Capital expenditures 2.6
Cash dividends 6.5

Compute these ratios at February 28, 2006:
(a) Current cash debt coverage ratio
(b) Cash debt coverage ratio
(c) Free cash flow

Provide a brief interpretation of your results.
12. The comparative balance sheet of Stuart Company appears below: 20pt

Comparative Balance Sheet
December 31,

Assets 20072006
Current assets $ 340 $280
Plant assets 675 520
Total assets $1,015 $800

Liabilities and stockholders’ equity
Current liabilities $ 180 $120
Long-term debt 250 160
Common stock 325 320
Retained earnings 260 200
Total liabilities and stockholders’ equity $1,015 $800

(a) Using horizontal analysis, show the percentage change for each balance sheet item using 2006 as a base year.
(b) Using vertical analysis, prepare a common size comparative balance sheet.

13. The Brawn Company had a $400 credit balance in Allowance for Doubtful Accounts at December 31, 2007, before the current year’s provision for uncollectible accounts. An aging of the accounts receivable revealed the following: 20pts

Estimated Percentage
Current Accounts $140,000 1%
1–30 days past due 15,000 3%
31–60 days past due 12,000 6%
61–90 days past due 5,000 12%
Over 90 days past due 7,000 30%
Total Accounts Receivable $179,000

a) Prepare the Estimated Uncollectible schedule for each percentage.
b) Prepare the adjusting entry on December 31, 2007, to recognize bad debts expense.

14. Shown below are data from recent reports of two publicly owned bakeries. Dollar amounts are stated in thousands. 10pts

HomeStyle Bakery Sweet and Sassy’s
Total Assets $755,000 $3,127,150
Total Liabilities 327,925 2,105,000
Interest Expense 35,000 47,508
Operating Income 20,550 375,090
a. Compute for each company (1) the debt ratio and (2) the interest coverage ratio. (Round the debt ratio to the nearest percent and the interest coverage ratio to two decimal places.)
b. In your opinion, which of these companies would a long-term creditor probably view as the safer investment? Explain.

Part III – 20pts
15. Your friend, Mark, has opened a movie theater. Mark states that he does not have
time to develop and implement a system of internal controls. 10pts

a. Provide Mark with the objectives of a system of internal control.
b. Explain to Mark why he should develop a system of internal control.

16. A large stock dividend and stock split can frequently have the same effect on the market price of a corporation’s stock. Explain how stock dividends and stock splits affect the market price of a corporation’s stock. 10pts

On July 1, Pine Region Dairy leased equipment from Farm America for a period of three years. The lease calls for monthly payments of $2,500 payable in advance on the first day of each month, beginning July 1.
Prepare the journal entry needed to record this lease in the accounting records of Pine Region Dairy on July 1 under each of the following independent assumptions:

a. The lease represents a simple rental arrangement.
b. At the end of three years, title to this equipment will be transferred to Pine Region Dairy at no additional cost. The present value of the 36 monthly lease payments is $76,021, of which $2,500 is paid in cash on July 1. None of the initial $2,500 is allocated to interest expense.
c. Why is situation a, the operating lease, sometimes called off-balance-sheet financing?
d. Would it be acceptable for a company to account for a capital lease as an operating lease to report rent expense rather than a long-term liability?

To answer the following questions use the annual report for Tootsie Roll Industries, Inc., in Appendix A at the end of the textbook:
a. Compute the company’s current ratio and quick ratio for the most recent year reported. Do these ratios provide support that Tootsie Roll is able to repay its current liabilities as they come due? Explain.
b. Compute the company’s debt ratio. Does Tootsie Roll appear to have excessive debt? Explain.
c. Examine the company’s statement of cash flows. Does Tootsie Roll’s cash flow from operating activities appear adequate to cover its current liabilities as they come due? Explain.