EYK3-3. Business Decision Problem The following analysis shows how the relevant information affects total assets, liabilities, and stockholders’ equity of the firm: Assets Liabilitie s Stockholders’ Equity Per Original balance sheet $88,50 0 $45,900 42,600 1. Recognition of insurance expense ($4,500 1/2 = $2,250) (2,25 0) (2,2 50) 2. Depreciation correction (5% $68,500 = $3,425) 3,425 3,425 4. Unbilled services performed 6,000 6,000 5. Advance consulting fee earned ($11,300 1/2 = $5,650) (5,65 0) 5,650 6. Recognition of supplies expense ($13,200 $4,800 = $8,400) (8,40 0) (8,4 00) Revised totals $87,27 5 $40,250 $47,025 a. Revised debt-to-equity ratio: $40,250/$47,025 = 0.86 . Apparently, the loan agreement has not been violated. b. The loan agreement contained the debt-to-equity provision as a loan covenant to constrain the behavior of the management of the firm. Loan covenants help lenders insure that a business doesn’t make itself riskier, and thereby put in jeopardy its ability to pay interest or repay principal. EYK3-4. Financial Analysis Problem a. The FASB was established in 1973. b. As reported on the FASB Website, “ The mission of the FASB is to establish and improve standards of financial accounting and reporting that foster financial reporting by nongovernmental entities that provides decision-useful information to investors and other users of financial reports. That mission is accomplished through a comprehensive and independent process that encourages broad participation, objectively considers all stakeholder views, and is subject to oversight by the Financial Accounting Foundation’s Board of Trustees.” c. The SEC has statutory authority to establish accounting and reporting standards, but relies on the FASB for this function. d. The answer to this part will vary by student and by when the question is assigned. ©Cambridge Business Publishers, 2014 Solutions Manual, Chapter 3 115
CRITICAL THINKING EYK3-5. Accounting Research Problem a . Assets that indicate General Mills uses the accrual basis of accounting include (1) receivables, (2) prepaid expenses and (3) buildings and equipment. The accrual adjustment for receivables debits the receivable account and credits the sales revenue account. The accrual adjustment for prepaid expenses debits the related expense account and credits the prepaid expense account. The accrual adjustment for buildings and equipment debits the appropriate depreciation expense account and credits the related accumulated depreciation account. b. Liabilities that indicate General Mills makes accrual-type adjustments are (1) accounts payable and (2) deferred income taxes. The adjustment for accounts payable debits the appropriate expense account and credits the accounts payable account. The adjustment for deferred income taxes debits the income tax expense account and credits the deferred income tax account. . EYK3-6. Accounting Communication Activity To whom it may concern: The concept of accrual accounting is often misunderstood, and as such is often less favored than a simple cash basis of accounting. The cash basis accounting is very similar to a basic checkbook. It simply records the inflows and outflows of cash.
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