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Chapter 7 – Exercise 1 (1 of 14)

Chapter 7 – Exercise 1 (1 of 14).

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Chapter 7 – Exercise 1 (1 of 14)

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  1. Chapter 7 – Exercise 1 (1 of 14) StarTrac Company entered into the following transactions during the year ended December 31, 20A. The company sells merchandise (unit sales price $1,000) on account to customers with invoice terms of “2/10, n/30” and uses the gross method to record sales revenue. Transactions during the year include the following: • Sold merchandise for cash, $13,000. • Sold merchandise to Drafke; invoice price, $5,000. • Sold merchandise to Murdock; invoice price, $3,000. • Two days after he purchased the merchandise in (2), Drafke returned two of the units and received account credit. • Sold merchandise to Patel; invoice price $16,000. • Drafke paid his account in full within ten days of the invoice date. • Patel paid her account in full twelve days after the date of invoice in (5). • Ten days after paying his account balance in full, Drafke returned two additional units (because the units were defective) and received a cash refund. • StarTrac wrote-off Murdock’s account balance after deciding the amount would never be collected. • Six months later, a cheque in the amount of $300 was received from Murdock. • Estimated bad debt expense for the year was $3,000.

  2. Chapter 7 – Exercise 1 (2 of 14) Part A: Complete the following table by indicating the effect of each transaction.

  3. Chapter 7 – Exercise 1 (13 of 14) Part B: Assuming that StarTrac considers sales returns and allowances as a contra revenue account, show the calculation of net sales on the income statement for the year ended December 31, 20A. SOLUTION: Sales Revenue 37,000 Less Sales Discounts -20 Sales returns and allowances -4000 Net Sales 32,980

  4. Chapter 7 – Exercise 2 (1 of 3) Pluto Inc is a producer of films and related products (eg. merchandise, soundtracks). The following information was reported to the Ontario Securities Commission for 2006 and 2005.

  5. Chapter 7 – Exercise 2 (2 of 3) Part A: Determine Pluto Inc.’s 2006 and 2005 gross profit percentages and interpret the results. SOLUTION:

  6. Chapter 7 – Exercise 2 (3 of 3) Part B: Determine Pluto Inc.’s 2006 and 2005 receivable turnovers and average collection periods and interpret the results. SOLUTION:

  7. Chapter 7 – Exercise 3 (1 of 3) Starseekers Inc began the year with $4,800 of accounts receivable and an allowance for doubtful accounts of $546. Starseekers’ sales were all on account and amounted to $41,800 during the year ended September 30, 20B. Collections from customers amounted to $40,600 and the company wrote-off customer account balances totaling $500 during the year. Part A: Using T-Accounts, determine how much Starseekers’ customers owe the company at year-end and the unadjusted balance in its allowance for doubtful accounts. SOLUTION: A/RAFDA(XA) Opening 4,800 | | 546 Sales 41,800 | 40,600 collections w/o 500 | | 500 w/o | 46 5,500 | DR A/R 41,800 W/O CR Sales 41,800 DR AFDA 500 CR A/R 500 DR Cash 40,600 CR A/R 40,600

  8. Chapter 7 – Exercise 3 (2 of 3) Part B: The company currently uses the percentage of credit sales method for determining its bad debt expense. Historically, bad debts have approximated 3% of credit sales. Prepare the related adjusting entry and, using a T-account, determine the ending balance in the allowance for doubtful accounts account. SOLUTION: (income method)_ Account debit credit Bad Debt Expense (41,800 * .03) 1,254 Allowance for doubtful accounts 1,254 Allowance for doubtful accounts | 46 unadjusted beginning balance | 1,254 adjustment | 1,300 adjusted balance Strategy Tip: Not only is the percentage of credit sales method easier for the company to use, it is easier for you to use. The company considers only the losses from bad debts and total credit sales to come up with an average loss rate. You simply multiple the average loss rate times this year’s credit sales to arrive at an estimate of this year’s bad debt expense. That estimate goes directly to the journal entry (debit bad debt expense and credit allowance for doubtful accounts).

  9. Chapter 7 – Exercise 3 (3 of 3) Part C: Assume instead that the company uses the aging of accounts receivable method. This method resulted in an estimate of uncollectible accounts of $1,105. Prepare the related adjusting entry and, using a T-account, determine the ending balance in the allowance for doubtful accounts account. SOLUTION: (Balance sheet method – aging of A/R) Account Debit Credit Bad debt expense (1,105 – 46) 1,059 Allowance for doubtful accounts 1,059 Allowance for doubtful accounts | 46 unadjusted beginning balance | 1,059 adjustment | 1,105 adjusted balance Strategy Tip: When you are using the aging of accounts receivable method, you should compare the estimate of uncollectible accounts (which comes from the aging schedule) to the existing balance in the allowance account. The existing balance in the allowance account may be a debit or credit; as such, you should use a T-account to ensure that you properly determine the amount that will be used in the adjusting entry.

  10. Chapter 7 – Exercise 4 (1 of 5) Kochano Company’s bank statement had an ending balance of $10,300 as of January 31, 20B; the following general ledger shows a cash balance of $24,000. During the reconciliation process, the following were noted: • A comparison of cheques written before an during January with the paid cheques included with the bank statement showed outstanding cheques at the end of January of $33,600. • A comparison of deposits made with those listed on the bank statement showed that deposits of $33,295 were in transit on January 31st. The comparison also revealed and error made in recording a deposit of a cheque received from a customer on account. The $1,500 deposit was correctly listed on the bank statement, but was recorded on the company’s books at $5,100. • A monthly service charge of $40 and interest earned of $135 were listed on the statement. • A credit memo in the amount of $4,400 for the collection of a note appeared on the bank statement that was not in the company books; the principal amount of the note was $4,000, previously unrecorded interest earned on the note was $425, and the bank had charged a $25 service fee for collecting the note. • A customer cheque in the amount of $14,900 was returned to the company in the January bank statement; the cheque had been stamped “NSF”.

  11. Chapter 7 – Exercise 4 (2 of 5) Part A: Using the format illustrated below, prepare a bank reconciliation for January. SOLUTION:

  12. Chapter 7 – Exercise 4 (4 of 5) Part B: Prepare any required journal entries as a result of the reconciliation. SOLUTION: Date Account Debit Credit Cash 4,400 Bank service charge expense 25 Note recievable 4,000 Interest income 425 to record note collected by bank Cash 135 Interest income 135 to record interest income paid by bank Bank service charge expense 40 Cash 40 to record service fees charged by bank Accounts receivable 14,900 Cash 14,900 to record NSF cheques Accounts receivable ($5,100 - $1,500) 3,600 Cash 3,600 to correct error made in recording a payment received from a customer

  13. Chapter 7 – Exercise 4 (5 of 5) Part C: What amount of cash should be reported on the balance sheet prepared at the end of January? Using a T-account, determine the ending balance in the cash account. SOLUTION: Cash per general ledger 24,000 | 4,400 | 40 135 | 14,900 | 3,600 corrected ending balance 9,995

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